Private ruling: business deduction
Published: March 2012
Ruling period: Year ended 30 June 2010
Date scheme commenced: 1 July 2009

Ruling: Q1: Are you entitled to claim a deduction, under section 8-1 of the Income Tax Assessment Act 1997 (ITAA 1997), for the cost you incurred for the placement of equipment into customers premises? | A1: 

Relevant facts and circumstances: Your business activity involves hiring out equipment. In the 2009-10 financial year, you signed a licensing agreement with a company to hire equipment to customers in a specified area. The cost of the license was treated as a capital item. You do not own the equipment, instead it is owned by a related 3 rd party to which you pay a commercial hire fee. You then on hire the equipment to customers in your designated area. You received an invoice from the company for the placement of equipment into customers' premises. The agreement for the placement of the equipment was entered into around the same time as the licensing agreement. The payment was to cover the costs of having direct sales staff place the equipment into customers' premises. It was a requirement of the agreement that a specific quantity of equipment was to be placed with end users within 12 months of the license agreement date. You state that you expect to derive a profit and generate assessable income from hiring out the equipment. You state that if the company had not made placement of the equipment, you would need to have engaged other contractors to do this.

Relevant legislative provisions: Income Tax Assessment Act 1997 Section 8-1

Reasons for decision: Detailed Reasoning - Detailed reasoning: Section 8-1 of the Income Tax Assessment Act 1997 (ITAA 1997) allows you to deduct from your assessable income any loss or outgoing to the extent that: · it is incurred in gaining or producing your assessable income, or · it is necessarily incurred in carrying on a business for the purpose of gaining or producing your assessable income. No deduction is allowable if the loss is of capital, private or domestic nature or relates to the earning of exempt income or a provision of the taxation legislation excludes it. The decision in Sun Newspapers and Associated Newspapers Ltd v. Federal Commissioner of Taxation (1938) 61 CLR 337; (1938) 5 ATD 87; (1938) 1 AITR 403 is a leading authority on the distinction between revenue and capital expenditure. The test involves the consideration of three matters, none of which is in itself decisive: · the character of the advantage sought by the outgoing · the manner in which the advantage is to be used, relied upon or enjoyed by the taxpayer, and · the means adopted to obtain the advantage, such as by recurring payments. The first two elements consider whether the outgoing has provided a lasting or recurrent advantage. A payment for an asset or an advantage that has a lasting benefit will be capital in nature. On the other hand, if only a temporary advantage arises, the outgoing is more likely to be revenue in nature. The third element refers to whether the payment is frequent or a one-off. A one-off payment is more likely to be capital in nature. Revenue expenses tend to be recurrent payments. The character of the advantage sought by the making of the expenditure is the chief, if not the critical factor in determining the character of what is paid. The nature or character of the expenditure will therefore follow the advantage that is sought to be gained by incurring the expenditure. If the advantage to be gained is of a capital nature, then the expenditure incurred in gaining the advantage will also be of a capital nature. Capital expenditure includes the costs of establishing, replacing and enlarging of the business structure and are generally expenses that improve businesses profit yielding structure, whereas revenue expenditure relates to the operating expenses of carrying on a business. In your case, you made a one-off lump sum payment to a company for the placement of equipment homes of potential customers in your designated area of trade. Under the arrangement, the company was required to utilise their direct sales staff to place a specific quantity of equipment in customers' homes within 12 months of the date of the arrangement. It is only once the equipment is placed into customers' homes that you begin to receive hire income. You receive all the hire income in relation to the equipment and, provide all after-sales service including; providing spare parts and consumables to customers and, maintaining equipment. In this instance, we consider that the outgoing; · is a cost incurred to establish or enlarge the profit yielding structure of your business, as the cost is to establish a customer base for the equipment, without which you would not receive any hire income. · has provided a lasting and enduring benefit for the business as the placement of the equipment into customers' homes is required in order for you to receive hire income into the future. · is not considered to be an operating expense of carrying on your hire activity business, such as the supply of parts and consumables. · is a one-off payment, with no requirement that the outlay be repeated. As the advantage to be gained is of a capital nature, that is, the establishment of a customer base to provide a lasting benefit to the business in the form of hire income, the expenditure incurred in gaining the advantage will also be of a capital nature. Therefore, as the outgoing is considered to be of a capital nature, you are not entitled to a deduction, under section 8-1 of the ITAA 1997, for the costs incurred in the placement of the equipment into customers' homes.

Please check this edited version to be sure that there are no details remaining that you think may allow you to be identified. If you have any concerns about this ruling you wish to discuss, you will find our contact details in the fact sheet.