Private ruling: Assessability of a government grant and deductibility of associated expenditure
Date of advice: 20 May 2019
Published: July 2019
Ruling period: 1 July 2018 to 30 June 2019
Date scheme commenced: 1 July 2018

Ruling: Q1: Is the grant assessable to Company X as ordinary income under section 6-5 of the Income Tax Assessment Act 1997 (ITAA 1997)? | A1: No | Q2: Is the grant assessable to Company X as statutory income under section 15-10 of the ITAA 1997? | A2: No | Q3: Is the grant an assessable recoupment to Company X under subsection 20-20(3) of the ITAA 1997? | A3: Yes | Q4: On the basis that the grant is an assessable recoupment under subsection 20-20(3) of the ITAA 1997, where the expenditure in relation to the grant is deductible over two or more years, does the method statement in section 20-40 of the ITAA 1997 apply such that the total assessable recoupment to be included as assessable income of Company X in a particular year will equal the total amount of deduction claimed in that year? | A4: Yes

Relevant facts and circumstances: Company X carries on a business of construction machinery leasing. It is a grant recipient under a Commonwealth Government program. The program supports new activities that go beyond business as usual or day-to-day functions. It does not fund projects that have started or where contracts are in place at the time of application for the grant. The agreement between Company X and the relevant Government Department sets out the following: Purpose of the grant • The grant is provided for the Company X’s Project; • To diversify regional economies, stimulate economic growth and deliver sustainable employment in regions in Australia; and • Enable Company X to build scale and capability to be competitive in new or growing markets that create sustainable employment (being a condition of the grant funding). The grant amount will be paid in instalments based on the achievement of milestones, eligible expenditure incurred and the Commonwealth’s acceptance of satisfactory progress reports. Project Activity • The Project is an investment in machinery and resulting personnel employment, being the creation of local jobs. The asset purchased by Company X to execute this project is an item of specialised equipment. • The purchase of the specialised equipment and associated auxiliary equipment will allow Company X to expand its capability in areas that it has not previously operated in. • The project activities are carried out in stages and summarised as follows: 1. Procurement of the specialised equipment and associated auxiliary equipment; 2. Recruitment and training of personnel; 3. Marketing and execution of first service contract. • Company X must comply with the requirements of the Program Guidelines.

Relevant legislative provisions: Income Tax Assessment Act 1997 section 6-5 | Income Tax Assessment Act 1997 section 15-10 | Income Tax Assessment Act 1997 section 20-20 | Income Tax Assessment Act 1997 section 20-25 | Income Tax Assessment Act 1997 section 20-30 | Income Tax Assessment Act 1997 section 20-40 | Income Tax Assessment Act 1997 Division 40

Reasons for decision: Summary: The grant will not be assessable to Company X as ordinary income under section 6-5 of the ITAA 1997. | Detailed Reasoning - Detailed reasoning: Section 6-5 of the ITAA 1997 states that your assessable income includes income according to ordinary concepts derived by you as an Australian resident directly or indirectly from all sources, whether in or out of Australia during the income year. Taxation Ruling TR 2006/3 Income tax: government payments to industry to assist entities (including individuals) to continue, commence or cease business (TR 2006/3), at paragraph 84, explains that income according to ordinary concepts is not defined in the taxation legislation. The characteristics of ordinary income have been developed by case law and generally fall into three categories: ● income from providing personal services, ● income from the use of property, or ● income from carrying on a business. Also in TR 2006/3, an example (Example 9) is included of the income tax treatment of government payments to commence business. Paragraph 56 of the ruling provides that payments that are preliminary to a business being established are not ordinary income and are therefore not assessable under section 6 5 of the ITAA 1997. Further, paragraph 139 of the ruling states that a payment ‘to assist a new business with the purchase of a depreciating asset will not be assessable under section 6 5 as ordinary income’. Rather, the payment will be regarded as capital in nature. The grant is not ordinary income. Whilst it will be paid in separate instalments it does not possess the necessary elements of periodicity, recurrence or regularity that are common to receipts of ordinary income. In addition, the grant is received to enable Company X to carry out its Project by purchasing specialised equipment. It is not received from providing personal services, sourced from property or derived from any business activity. Therefore, the grant will not be assessable as ordinary income to Company X under section 6-5 of the ITAA 1997. | Summary: The grant will not be assessable to Company X as statutory income under section 15-10 of the ITAA 1997. | Detailed Reasoning - Detailed reasoning: Section 15-10 of the ITAA 1997 relates to bounties and subsidies and provides that your assessable income includes a bounty or subsidy that: (a) you receive in relation to carrying on a business; and (b) is not assessable as ordinary income under section 6-5 of the ITAA 1997. Paragraph 100 of TR 2006/3 states that a bounty or subsidy will be 'in relation to' carrying on a business when there is a real connection between the payment and the business. The term 'in relation to' includes within its scope payments that have a direct or indirect connection to the business. Paragraph 101 of TR 2006/3 provides that a bounty or subsidy must be related to 'carrying on' the business and not merely for commencing or ceasing a business. The purpose of the grant was to allow Company X to carry out the aims of its Project and in order to do so, required the purchase of specialised equipment. The Project is a new business activity that it is for the benefit of an area and so the grant cannot be considered as a subsidy or bounty. Therefore, the grant will not be assessable to Company X as statutory income under section 15-10 of the ITAA 1997. | Summary: The grant will be an assessable recoupment to Company X under subsection 20-20(3) of the ITAA 1997? | Detailed Reasoning - Detailed reasoning: Under Subdivision 20-A of the ITAA 1997, certain amounts received by way of insurance, indemnity or other recoupment are assessable income if amounts are not income under ordinary concepts or assessable income under another provision outside Subdivision 20-A. Subsection 20-25(1) of the ITAA 1997 defines recoupment of a loss or outgoing inclusively as: (a) any kind or recoupment, reimbursement, refund, insurance, indemnity or recovery, however described; and (b) a grant in respect of the loss or outgoing. Subsection 20-20(1) of the ITAA 1997 states that an amount is not an assessable recoupment to the extent that it is ordinary income or it is statutory income because of a provision outside this Subdivision. Subsection 20-20(2) of the ITAA 1997 states that an amount received as recoupment of a loss or outgoing is an assessable recoupment if: (a) received by way of insurance or indemnity; and (b) you can deduct an amount for the loss or outgoing for the current year, or you have deducted or can deduct an amount for it for an earlier income year, under any provision of this Act. Subsection 20-20(3) of the ITAA states that an amount received as recoupment of a loss or outgoing (except by way of insurance or indemnity) is an assessable recoupment if: (a) you can deduct an amount for the loss or outgoing for the current year; or (b) you have deducted or can deduct an amount for the loss or outgoing for an earlier income year, under a provision listed in section 20-30 of the ITAA 1997. Subsection 20-30 contains a table of deductions under the ITAA 1997 for which recoupments are assessable. Item 1.9 of that table contains the provision, Division 40, which allows for deductions for depreciation. The funds received by Company X are a grant in respect of an outgoing, being the purchase of specialised equipment to enable it to carry out the aims of the Project. The grant is neither ordinary income nor statutory income, therefore subsection 20-20(1) of the ITAA 1997 does not apply. As the grant is not otherwise assessable, it will be an assessable recoupment to Company X under subsection 20-20(3) of the ITAA 1997 to the extent that the deductible loss or outgoing is deductible under Division 40. | Summary: The method statement in section 20-40 of the ITAA 1997 will apply to Company X such that the total assessable recoupment to be included as assessable income of Company X in a particular year will equal the total amount of deduction claimed in that year. | Detailed Reasoning - Detailed reasoning: Section 20-40 of the ITAA 1997 relates to expenses that are deductible over two or more income years. Subsection 20-40(1) of the ITAA 1997 states that: This section includes an amount in your assessable income if: (a) you receive in the current year an assessable recoupment of a loss or outgoing for which you can deduct amounts over two or more income years; or (b) you received in an earlier income year an assessable recoupment of a loss or outgoing of that kind (unless all of the recoupment has already been included in your assessable income for one or more earlier income years by this section or a previous recoupment law). The method statement in subsection 20-40(2) of the ITAA 1997 is used to determine the amount to be included in the taxpayer’s assessable income for the current year. It states: The method statement ensures that assessable recoupments are included: • only so far as they have not already been included for an earlier income year; and • only to the extent of your total deductions to date for the loss or outgoing. Method statement Step 1. Add up all the * assessable recoupments of the loss or outgoing that you have received (in the * current year or earlier). The result is the total assessable recoupment. Step 2. Add up the amounts (if any) included in your assessable income for earlier income years, in respect of the loss or outgoing, by this section or a * previous recoupment law. The result is the recoupment already assessed. (If no amount was included, the recoupment already assessed is nil.) Step 3. Subtract the recoupment already assessed from the total assessable recoupment. The result is the unassessed recoupment. Step 4. Add up each amount that you can deduct for the loss or outgoing for the * current year, or you have deducted or can deduct for the loss or outgoing for an earlier income year. The result is the total deductions for the loss or outgoing. Note: The total deductions may be reduced if an amount has been included in your assessable income because of a balancing adjustment: see section 20-45. Step 5. Subtract the recoupment already assessed from the total deductions for the loss or outgoing. The result is the outstanding deductions. Step 6. The unassessed recoupment is included in your assessable income, unless it is greater than the outstanding deductions. In that case, the amount of the outstanding deductions is included instead. Paragraph 140 of TR 2006/3 states that a business can claim deductions for the decline in value of a depreciating asset under the capital allowances provisions in Division 40 of the ITAA 1997. Capital allowances deductible under Division 40 is an item in the table of deductions for which recoupments are assessable in section 20-30 of the ITAA 1997. As such, where a Government Payment to Industry (GPI) is a recoupment of the cost of the depreciating asset (for which capital allowance deductions are available for the decline in value), it is an assessable recoupment under Subdivision 20-A of the ITAA 1997. The amount of assessable recoupment may be included over more than one income year, limited to the amount that can be deducted under Division 40 of the ITAA 1997. Therefore, the method statement in section 20-40 of the ITAA 1997 will apply to Company X such that the total assessable recoupment to be included as assessable income in a particular year will equal the total amount of deduction claimed in that year.