Taxation Theory, Practice and Law

Part 1 - Case of John for Rent Paid in Advance for Casino

Facts of the case

  • Approved license to John for casino in Melbourne.
  • Received license for 10 years
  • Got approval for Casino’s building for 90 Years
  • Paid $180 million for the approved casino’s license
  • Paid $80 million as prepaid rent for 10 years of beginning of casino
  • Fixed $400,000 rental per year for rest of the lease period i.e. 80 years.

Issue related to Case study

$ 80 Million is revenue expense or capital expense

Relevant Taxation law

STAR CITY PTY LTD v FC of T, Federal Court of Australia

Application of Tax Laws

The rental amount is always recurring in nature and every revenue expense is recurring in nature. The payment of $ 80 Million is a one time of rent for 10 years because it was necessary to obtain the license for operation of casino. Accordingly, pre-payment of $ 80 million is considered as expense of revenue nature. And as per Section 8-1 of Income Tax Assessment Act, 1997, one can deduct any loss or outgoing to the extent that it is incurred in gaining or producing the assessable income and it is necessarily incurred in carrying on a business for the purpose of gaining or producing the assessable income.

For the matter of prepayment of rent, Pt IVA of the Income Tax Assessment Act 1936 allows Mr. John to get the deduction under the Income Tax for this purpose.

The rent was paid for 10 years as mandatory for getting the license for Casino in advance. Casino is a capital asset through which Mr. John will earn his assessable income. So the benefit is of long term i.e. 90 years. Also rent for rest of 80 years is much differentiated i.e. $4,00,000 per annum and rent for first 10 years which is paid in advance as $80 Million i.e. $80,00,000 per annum. So accordingly this differentiation constitutes the capital nature of prepaid rent. Pre-contractual negotiation on the rental amount of remaining 80 years does not affects the rent paid in advance for first 10 years. If that amount would also get reduced, then it can be considered as of revenue nature because it will be then considered same for all the 90 years of lease.

The amount of $80 Million paid as prepaid rent also includes the benefit of long term enjoyment of casino and thus this amount can be considered as capital in nature.

If the expense is considered as of capital nature, Income Tax Assessment Act 1997 does not allow the deduction from Assessable Income as below:-

One cannot deduct a loss or outgoing under this section to the extent that it is a loss or outgoing of a private or domestic nature or of a capital nature and it is incurred in relation to gaining or producing your *exempt income or your *non-assessable non-exempt income or a provision of this Act prevents you from deducting it.

The benefit enjoyed by John is not for grant of license but also for enjoyment of the casino for long term of 90 years which is considerable a longer period and can be covered as capital. Also the quatum of revenue to be generated from the Casino will form major part of his assessable income and to earn that income, he has to obtain license, and to obtain that license, he has to prepay rent for 10 years as communicated by the department, accordingly, that prepayment shall for part of the casino and casino shall be considered as capital nature for John. Accordingly the prepayment of rent in respect of casino paid by John to the department will also be of same nature as that of casino i.e. CAPITAL.

Understanding and conclusion

Understanding the facts of the case and the nature of enjoyment/ benefit to be enjoyed by John, it is concluded that the payment protects exclusive right of John to operate casino for 90 years, which is a very long term of lease. The prepayment amount is quiet differential as of the rent per annum for rest of 80 years, it is interpreted that the prepayment was not only on account of rent but also for exclusive right of getting the license and the amount will not be refundable under any circumstances. So anything done to generate assessable income constitutes capital nature.

Form a business point of view, if anything is paid to ensure the acquisition of any asset for a longer period of time and the amount is paid in advance, keeping the circumstances and surrounding in view, the amount cannot be considered as of revenue nature. It will have effect on the business for a long run so it will be considered as capital expense incurred on casino license and for prepayment of rent of first 10 years to ensure the receipt of such license from the department.

Hence, after due consideration of relevant case law and facts of this case, it is concluded that the prepayment of rent of $ 80 Million for first 10 Years by John is of Capital nature and is not allowed as deduction under Section 51(1) of the Income Tax Assessment Act 1936 Act and Section 8-1 of Income Tax Assessment Act 1997 Act and section 82KZM of the 1936 Act. Section 82KZM of the act allows the deduction to be on proportionate basis in each year of income.

However, the conclusion might vary on the basis of other aspects of the case like documentations, other information relevant to the identification of expense.

Part 2 - Case of Alex for Travel Expenses

Case information

  • Alex Kingsford works as a mechanical engineering in ABC Engineering, Melbourne
  • Also runs a home-based catering services at owned property in Dandenong, Victorian.
  • Living at the same place where catering business is situated
  • He travels from his office of employment to his catering business by car.

Issues related to case

Travelling expenses between ABC Engineering workshop in Melbourne to home based catering business in Dandenong, Victorian is an allowable deduction.

Case law which was relevant in this case if a very famous case of FC of Tv Payne, Federal Court of Australia

Application of Tax Laws

To claim any work related deduction, one should spend the money for work and must not be reimbursed from the employer. If the expense was for both work and private purposes, deduction is allowed only for work related portion of the expenses incurred. Work expenses reimbursed are not deductible.

As per section 51(1) of the Income Tax Assessment Act 1936 or Section 8-1 of Income Tax Assessment Act 1997, Travelling between two unrelated places of work is an allowable deduction in determining the taxable income of the taxpayer. And as per Income Tax Act 1997, Travel expenses were deductible on the basis that his travel was between a place of business and a place of employment.

As per the Section 8-1 of ITAA 1997 states that You can deduct any loss or outgoing to the extent from your assessable income and it is necessarily incurred in carrying on a * business for the purpose of gaining or producing your assessable income.

As per the analysis of the section, it can be interpreted that an expense is deductible if it is a working expense and related to assessable income. And the expense incurred by Alex is related to his home based catering business which will contribute to his assessable income.

Alex travels from his office to his home based catering business and that travel is not a work related travel. It is a necessity to completion of his job and start of his catering business activity. Deduction is allowed for work related travel expenses.

As decided in the Payne case, any commuting costs between home and work are not deductible because they are considered as a ‘prerequisite’ or necessary activity to earn the income. In this case, the High Court has determined that expenditure on travel between two unrelated places of income derivation or income-producing activity is not deductible as it is a ‘prerequisite’ to each income-earning activity. This result is independent of whether or not the taxpayer resides at either place.

An informal connection between the expenditure and the derivation of assessable income,it was referred that a taxpayer will not satisfy the first limb of s.51 of ITAA 1936 or S 8-1 of ITAA, 1997. The expenditure on the travel should be incurred in the course of gaining the assessable income. Moreover, this travel is not giving Alex any value addition to his skills.

As illustrated in Federal Commissioner of Taxation v Finn, Expenditure of this nature is neither for any business purpose, nor for any relation in gaining or producing the assessable income like acquisition of better knowledge of a skilled profession. It is a necessary consequence of living in one place and working in another.

Also, as per the analysis of the section of the Act, it can be interpreted that any private/ domestic nature of expense is not deductible.

Understanding and Conclusion

The expense cannot be said to be incurred when the travel is between two places of unrelated income derivation. Mr. Alex’s travel occurred before he began to perform his duties as an Engineer, or after he had fulfilled those duties similarly with respect to the catering business. The travel did not occur while the taxpayer was engaged in either activity. The outgoings were by the need to be in a position where the taxpayer could set about the tasks by which assessable income would be derived. In this respect they were no different from expenses incurred in travelling from home to work. So, the travel of Alex from office to business shall be considered same as that of travel from office to home because his job as an engineer ends once he leaves the office for his business.

It was regarded as preparatory to the taxpayer undertaking each of the separate activities, the travel occurred during intervals between the catering service station and place of job i.e. taxpayer’s income earning activities rather than when he was engaged in either of those activities. The outgoings from residence to the workplace where the taxpayer also runs a business shall be considered as travel expenses.

As per the Income Tax Act taking the reference of Payne Case, the travelling expense from the workshop to Mr. Alex’s Catering business place where he resides as well, is not an allowable deduction. Work related travel is completely different from the travel form office to home or office to home based business. Accordingly, Alex will not get any deduction in income tax for the travel expenses.

Reference List for Taxation Theory, Practice and Law

Sun Newspapers Limited v Federal Commissioner of Taxation [1938] 61 CLR 337

Colonial Mutual Life Assurance Society Limited v Federal Commissioner of Taxation [1953] 89 CLR 428

Broken Hill Pty Co Ltd v Federal Commissioner of Taxation [2000] 43 ATR 204 

Federal Commissioner of Taxation v Broken Hill Pty Co Ltd [2001] 179 ALR 593

Commissioner of Taxation v Payne [1999] FCA 320

Lunney v Federal Commissioner of Taxation [1958] HCA 5

Commissioner of Taxation v Finn[1961] HCA 61; 106 CLR 60

FC of T v PAYNE, Federal Court of Australia, Full Court, [1999]

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