Consolidation Reference Manual

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C9 Tax liabilities

C9-5 Worked example

C9-5-341 Consumables brought into a group (transitional option)

Description

This example illustrates how the head company treats consumables that are brought into the group by a joining entity under the transitional option in Division 701 of the Income Tax (Transitional Provisions) Act 1997 (IT(TP)A 1997).

The example assumes that a consumable was acquired after 7:30 pm on 13 May 1997.

Commentary

The income tax treatment of assets commonly referred to as 'consumables' is not expressly provided for by the Income Tax Assessment Act (ITAA). True consumables are things that are destroyed or cease to exist as soon as they are used, such as fuel. They are not depreciating assets as defined in subsection 40-30(1). They are also distinguished from trading stock, which includes raw materials and other assets, such as parts, that are incorporated into a final product. While consumables fall within the definition of CGT assets, expenditure on them is often of a revenue nature.

It has been the Commissioner's practice, as espoused in Taxation Ruling IT 333, to allow a deduction for consumables on either an incurred basis or a usage basis, depending on the circumstances. Where consumables are acquired to meet current needs, deductions may be claimed in the income year in which the expenditure was incurred (typically this will be where they have a relatively short life, e.g. 3 months, or where the quantity held is sufficient only to enable the business to be carried on efficiently). Where the taxpayer builds up a store or stockpile of consumables in excess of normal requirements, deductions may be claimed only as the consumables are used up. → Taxation Ruling IT 333

Apart from the transitional option under Division 701 of the IT(TP)A 1997, an asset of a joining entity has its tax cost reset at the joining time at the asset's tax cost setting amount. The setting of the tax cost at the tax cost setting amount has different implications for different purposes under the Act.

→ section 701-55, ITAA 1997

When a consumable is brought into a consolidated group and has its tax cost reset, for deductibility purposes this means its cost is equal to its tax cost setting amount. → subsection 701 55(6), section 701-56, ITAA 1997

For CGT purposes, setting the consumable's tax cost means that its cost base or reduced cost base is increased or reduced at the joining time to an amount equal to its tax cost setting amount. → subsection 701 55(5), ITAA 1997

Where a head company chooses to treat a transitional entity as a chosen transitional entity under Division 701 of the IT(TP)A 1997, all the entity's assets are brought into the group at their existing tax values. This is because section 701 10, which resets the tax cost of assets, does not apply.

→ section 701-15, IT(TP)A 1997

By virtue of the entry history rule, consumables of a chosen transitional entity retain their existing tax costs on becoming assets of the head company under the single entity rule.

Note
The rules in section 701-55, which override the entry history rule in relation to tax cost, have no application unless an asset's tax cost is set at its tax cost setting amount.

Incurred basis

Under the entry history rule, for the head company core purposes, everything that happened to the joining entity before the joining time is taken to have happened to the head company. → section 701 5, ITAA 1997

This means that a consumable on hand at the joining time is taken to have been acquired by the head company at its original acquisition time and for the same cost. Any deduction claimed by the joining entity is likewise taken to have been claimed by the head company.

Where a joining entity has already deducted the cost of a consumable on the incurred basis, it follows that the head company is not entitled to claim any further deduction.

A consumable is also a CGT asset for CGT purposes. Under the CGT cost base provisions, its reduced cost base in the hands of the joining entity is reduced by the amount of the deduction claimed, resulting in a reduced cost base of nil. → sections 110 45 and 110-55, ITAA 1997

Note
Different rules apply to assets acquired at or before 7.30 pm on 13 May 1997. → section 110-40, ITAA

The head company inherits the reduced cost base of nil under the entry history rule. → section 701 5, ITAA 1997

When the asset is eventually used up, CGT event C1 produces no capital loss to the head company.

Usage basis

Where a joining entity has previously applied a usage basis to deducting the cost of consumables, the head company inherits this history.

The head company is entitled to a deduction for the cost of consumables as they are used.

Note
This is not an inherited deduction for the purposes of ACA step 7. Entitlement to the deduction does not arise until the consumable is used up.

There is no capital loss because the reduced cost base is accordingly reduced to nil as the consumables are used up. When the consumable is used up, CGT event C1 occurs. In applying the CGT provisions, the head company must reduce the reduced cost base of the consumable to the extent of any deduction to which it is entitled. → sections 110-45 and 110-55, ITAA 1997

Example 1: incurred basis

Facts

Subco is a wholly-owned subsidiary of Headco. The two entities are a consolidatable group.

On 1 June 2003, Subco acquires a quantity of fuel for use in its transport business for $10,000. It deducts its expenditure on fuel on an incurred basis.

One quarter of the fuel remains unused at the joining time. The cost to Subco of that fuel was $2,500 (one quarter of $10,000).

Headco consolidates the group with effect from 1 July 2003 and chooses to apply the transitional option to Subco so that Subco's assets are brought into the group at their existing tax costs.

Subco's 2002-03 income tax return

In completing its income tax return for the 2002-03 income year, Subco is entitled to claim a deduction of $10,000 for its expenditure on the fuel.

Headco's 2003-04 income tax return

Under the entry history rule, Headco is taken to have bought the fuel on hand at 1 July 2003 for $2,500 on 1 June 2003 and to have deducted $2,500 in respect of it.

It follows that Headco is not entitled to any further deduction.

Any CGT implications that might arise from the consumption of the asset are neutralised by its revenue treatment. Its reduced cost base at the joining time is nil and the capital proceeds from CGT event C1 are also nil.

Example 2: usage basis

Facts

Subco is a wholly-owned subsidiary of Headco. The two entities are a consolidatable group.

On 21 June 2003, Subco acquires a consumable at a fire sale for $500 and stockpiles it for use in its business. This expenditure is deductible on a usage basis.

Headco chooses to consolidate with effect from 1 July 2003 and applies the transitional option to Subco so that Subco's assets are brought into the group at their existing tax costs.

All of the consumable remains stockpiled at the joining time.

The consumable is used up in the 2003-04 income year.

Subco's 2002-03 income tax return

As Subco is not entitled to claim a deduction for the expenditure until the consumable is used up, the expenditure is not deductible to Subco.

Headco's 2003-04 income tax return

Under the entry history rule, Headco is taken to have acquired the consumable on 21 June 2003 at a cost of $500 and to have held it up to the joining time as a consumable deductible on a usage basis. For deductibility purposes, the tax cost of the consumable to Headco remains at $500.

When the consumable is used, its tax cost is deductible to Headco. Headco is entitled to a deduction of $500.

Any CGT implications that might arise from the consumption of the asset are neutralised by its revenue treatment. Its reduced cost base is reduced to nil in the hands of Headco because of the deduction; the capital proceeds from CGT event C1 are also nil.

References

Income Tax Assessment Act 1997 , sections 110-45 , 110-55

Income Tax Assessment Act 1997 , sections 701-5 , 701-55 , 705-40 , as amended by

 
New Business Tax System (Consolidation Act (No. 1) 2002 (No. 68 of 2002), Schedule 1
 
New Business Tax System (Consolidation, Value Shifting, Demergers and Other Measures) Act 2002 (No. 90 of 2002), Schedule 2
 
New Business Tax System (Consolidation and Other Measures) Act (No. 1) 2002 (No. 117 of 2002), Schedule 11
 
New Business Tax System (Consolidation and Other Measures) Act 2003 (No. 16 of 2003), Schedule 23

Income Tax Assessment Act 1997 , sections 701-55 and 701-56 ; as amended by Tax Laws Amendment (2010 Measures No.1) Act 2010 (No. 56 of 2010), Schedule 5, Part 1

Income Tax (Transitional Provisions) Act 1997 , section 701-15 ; as amended by

 
New Business Tax System (Consolidation) Act (No. 1) 2002 (No. 68 of 2002), Schedule 7
 
New Business Tax System (Consolidation and Other Measures) Act (No. 1) 2002 (No. 117 of 2002), Schedule 9

History

Revision History

Section C9-05-341 first published 9 December 2003.

Further revisions are described below.

Date Amendment Reason
12.9.06 Major changes to 'Commentary', p. 1, including deletion of references to 'Consumables brought into a group (cost setting case)', C9-5-340 (which has been withdrawn). Withdrawal of draft taxation determinations TD 2004/D74 and TD 2004/D75 in light of proposed legislative amendments.
3.5.07 Deletion of note on p. 1 and changes to text under 'Usage basis' on p. 2. New draft tax determination TD2006/D46.
6.5.11 Addition of legislative reference in Commentary. Legislative amendment.
  Minor edit to note in Commentary. Pre-existing law and legislative amendment.

Current at 6 May 2011