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John an owner of a casino in Melbourne has been approved a ten-year licence by the Victorian government to run the casino. Along with that, he received permission for the building for ninety years. He was asked to pay $180 million to the government agency for the licence and $80 million as prepaid rent for the initial ten years of rental payments. He agreed for the remaining time left to pay $400,000 per year.
The terms capital and revenue expenditure aren't defined under Australian legislation. One can interpret it and define it through a varied number of judgements given by the judicial bodies. Revenue expenditure means an expense that one has consumed or will consume within an accounting period of 12 months (Caldwell, 2014). These are like electricity bills, rates, wages and salaries, motor vehicle expenses etc. they could be paid in advance but that does not change their nature (Caldwell, 2014). The only effect is seen in companies balance sheets for that accounting period (Caldwell, 2014). Capital expenditure is usually seen as expenditure on assets, something that shall benefit the company in the long run like more than one accounting period of 12 months (Caldwell, 2014). These could be furniture, plants, types of machinery etc (Caldwell, 2014). Not always assets going to be in physical forms. It also includes non-tangible ones like intellectual property rights (Caldwell, 2014). The only crucial feature of this expenditure is that should last beyond a period of 12 months.
The issue here is that whether the prepaid rent paid by John worth a $80 million is a capital or revenue expenditure as per the taxation laws of Australia. Along with that, what possible tax deductions are he entitled too for his business. To redress these issues we shall depend upon the taxation laws and the precedents which shall help us establish a solution to the problems.
As discussed above, the terms capital and revenue expenditure aren't explained in the income tax act, therefore there isn't a list of expenses which could define what are these expenses and under what head does a prepaid rent falls into. Nevertheless, under the Income Tax Assessment Act (ITAA) 1936, under part 3rd, division 3 subdivision H clause (2) defines the period of deductibility of certain advance expenditures. In the sub-clause (b) says that where expenditure is made in respect to rent or lease rent which is made in advance shall be considered as an advance expenditure which shall be subject to tax deductions.
To distinguish between capital expenditure not entitled for a tax deduction as per 8-1 of ITAA, 1997 and revenue expenditure which is deductible some precedents demarcate the two. In Sun Newspaper Limited v Federal Commissioner of Taxation [(19380 HCA73; 61 CLR 337], the guidelines were given for the difference between the two. Three elements are to be seen is ascertaining which one is capital and which one is revenue expenditure. First, the nature of advantage sought; second, the way it is going to be used; and third the means adopted to have it. A similar kind of judgement was given in AusNet Transmission Group Pty Ltd v Federal Commissioner of Taxation[(2015) HCA 25]. In absence of circumstances where one cannot judge it, then by default, it is being taken as capital expenditure adjudged in British Insulated & Helbsy Cables v Atherton [(1924-26) 10 TC 155]. The nature of the advantage distinguishes the two of them. Therefore the payment of rent for business premises is fully deductible, even when half of the payment was credited at the purchase price, adjudged in Federal Commissioner of Taxation v South Australian Battery Makers [(1978) HCA 32] recently in Commissioner of Taxation v Sharpcan Pty Ltd [(2019) HCA 36]. Therefore one can infer from the given contentions that a rent paid in advance by a person for his business premises is constituted as revenue expenditure and therefore entitled for tax deductions.
Taxable income is what is left after the deduction between the assessable income and the allowable deductions (Henderson et al. 2015). Assessable income as per ITAA, 1997, division 6 states that an income which consists of ordinary and statutory income. Division 8 of the same act defines about deductions categorized into general, specific and no double deductions. Therefore expenses like prepaid rent which is paid in advance, as per accounting standards is treated as an expense and recognizes as an asset but as per taxation standards it is a tax deductible expense and not recognized as an asset (Henderson et al. 2015).
The current income tax slab in Australia are (Australian taxation office, 2020)-
Tax on this income
$180,001 and over
The tax payable method is the amount payable to the government of Australia. So before calculating the taxable income one has to determine the taxable amount meaning the amount on which the above slabs shall fall into. The amount of prepaid rent is $80 million which is given for 10 years. By application of unitary method-
$80,000,000 for 10 years. So for one year
$80000000/10= $8,000,000 for 1 year. This is the deduction amount for 10 years that shall be deducted from John's taxable income every year for the next 10 years.
Supposedly, John’s Year 1 total earnings are $10,000,000.
So his taxable income would be-
Profit before tax $10,000,000
Prepaid rent $8,000,000
Taxable income $2,000,000
Income tax payable (45%) $1,100,000
Like this, it shall continue for 10 years for every accounting year.
To conclude the given problem then one can determine that the prepaid rent paid by John is a revenue expenditure is entitled to the tax deductions for ten years. The ITAA 1936 and 1997 gives a reasonable justification through it can be inferred that prepaid rent is a revenue expenditure and not capital one.
Alex Kingsford, an engineer was working in ABC engineering ltd in Melbourne. He has his home in Dandenong, Victoria where he runs his home catering business. Every 15 days, he takes a break from his office work to go back home in his own car or Uber and do his business there. In July 2019 when he lodged for his tax return, he asked for a tax deduction for the travelling expense he incurred while going from his office to home.
As per section 25-100 of ITAA 1997, travelling expenses between workplaces are deducted only in certain circumstances. Firstly, it could be done if the expense is incurred when travelling between two workplaces. Second, travel involves the work of business or the office one is employed in and not for his personal work. Third, the expense cannot be deducted if it of capital nature. These expenses include not just the cost of driving a car but also includes ride-share like Uber, flights, trains, taxi or a bus (Australian Taxation Office, 2020).
Section 8-1 of ITAA 1997, which gives about allowable deductions, in that the motor vehicle transportation do fall under its purview (CCH Australia Limited, 2011). These include petrol oil, repairs, lease charges, car parking charges, depreciation of the car etc (CCH Australia Limited, 2011).
The Draft Taxation Ruling (TR), 2019 sets out the general principles for an employee who is entitled to deduct travel expenses under section 8-1 of ITAA 1997. As per subdivision 900-B of ITAA 1997 relates to transport via airline, bus or train and any accommodation, meal or incidental expenses that an employee incurs while travelling from home for work. The employee gets the benefit of this but the employer incurs an expense. Under The Fringe Benefits Tax Assessment Act, 1986 (FBTAA) the expense of the employer is termed as 'otherwise deductible' to the employer. Like section 24(expense payment fringe benefits), section 44 (property fringe benefits), section 52 (residual fringe benefits) etc of FBTAA, the employers are benefitted if they benefit their employees.
Under TR 95/34, the courts have interpreted that where the travel is made by a person from the office to his home where the home being his ‘base’ of work meaning from where he conducts his work job, that is termed as itinerant travel, and that is deductible. In FC of T v Collings [(1976) ATC 4254]; FC of T v Ballesty [(1977) ATC 4181] and FC of T v Wiener [(1978) ATC 4006], in all these the federal court of Australia came to the conclusion that where the computer consultant has a 24*7 job and has it even after office hours and sometimes travel back to his office or where a part-time footballer who has to travel between his home and training ground and the matches played at his home or a teacher who is into a pilot scheme has to teach students from five different schools and use her home as a base for preparing of her sessions, respectively, they all are entitled to a tax deduction on their income tax.
In Lunney v Federal Commissioner of Taxation[(1958) 100 CLR 478] and Hayley v Federal Commissioner of Taxation [(1958) 11 ATD 404], in both the judge held that travelling expense from home to work and back from work to home is not deductible and does come under the section 8-1 of ITAA 1997. The base of this judgement was made from a UK case, Andrew V Astley [(1924) 8 TC 589] and Nolder v Walter [(1930) 15 TC 380] in which the barrister gave a similar judgement about no deduction on travelling expense from one’s home to his chambers.
This was because of the fact the object behind the taxpayer’s journey was his private matter and not because of his profession. In Federal Commissioner of Taxation v Payne [(1999) ATC 4391], is one of the leading cases on deductions for travel expenditure between taxpayer’s home and his business. If one is to interpret the judgement made, so it can be said that the travelling expenditure being deductible or not depends upon the nature of the travel. If the travel made is because of a person's office work, then that constitutes as a travelling expense. If the object of the travel is a personal task of the person, even though he is travelling in the office hours, that does not constitute to be a business thing and therefore not deductible. In Garret v Federal Commissioner of Taxation [(1982) ATC 4060], it was held that travel expenses are deductible only when the employer travels from one office to another even though the other office is his home.
Alex, being an employee at ABC engineering Ltd had a side business of catering. He used to work 15 days in the company and rest 15 days at his home catering. The home catering business is a personal business of Alex as ABC has no role in that. He diverted his time to look after that business separately and for that, he used to travel from office to his home. If we were to make out an inference from the above cases, so since his home catering business was his personal business and ABC ltd had no connection with it, so he cannot claim the travel expenses made while travelling to and forth from his home and office. As per section 25-100 of ITAA 1997, the expenditure made by Alex is his personal expenses and therefore that does not fall under ITAA. As per TR, in that too, travelling expenses applies when the employee travels from one workplace to another on the instructions of the employer or in respect of the business he works in.
Australian taxation office, 2020. Individual income tax rates 2019-2020.[Online]. Available at https://www.ato.gov.au/rates/individual-income-tax-rates/ [Accessed on: June 4, 2020].
Caldwell, R. 2014. Taxation for Australian businesses: Understanding Australian business taxation concessions. John Wiley and Sons, 2014.
CCH Australia Limited, 2011. Australian Master Tax Guide 2011. CCH Australia Limited, 2011.
Henderson, S., Peirson, G., Herbohn, K., Howieson, B. 2015. Issues in financial accounting. Pearson Higher Education, AU, 2015.
Draft Taxation Ruling, 2019
Fringe Benefits Tax Assessment Act, 1986
Income Tax Assessment Act, 1936
Income Tax Assessment Act, 1997
Andrew V Astley [(1924) 8 TC 589]
AusNet Transmission Group Pty Ltd v Federal Commissioner of Taxation[(2015) HCA 25]
British Insulated & Helbsy Cables v Atherton [(1924-26) 10 TC 155].
Federal Commissioner of Taxation v South Australian Battery Makers [(1978) HCA 32]
Federal Commissioner of Taxation v Sharpcan Pty Ltd [(2019) HCA 36].
Federal Commissioner of Taxation v Collings [(1976) ATC 4254]
Federal Commissioner of Taxation v Ballesty [(1977) ATC 4181]
Federal Commissioner of Taxation v Wiener [(1978) ATC 4006]
Federal Commissioner of Taxation v Payne [(1999) ATC 4391]
Garret v Federal Commissioner of Taxation [(1982) ATC 4060]
Hayley v Federal Commissioner of Taxation [(1958) 11 ATD 404]
Lunney v Federal Commissioner of Taxation[(1958) 100 CLR 478]
Nolder v Walter [(1930) 15 TC 380]
Sun Newspaper Limited v Federal Commissioner of Taxation [(19380 HCA73; 61 CLR 337]
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