Taxation Determination

TD 98/3

Income tax: where a horticulture business buys plants from a nursery and has the nursery maintain them prior to delivery are the costs of buying and maintaining the plants deductible under either:

(a)

section 8-1 of the Income Tax Assessment Act 1997 ; or

(b)

Division 10F of Part III of the Income Tax Assessment Act 1936 ('the 1936 Act)?

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FOI status:

may be releasedFOI number: I 1015560

1. Answers : Question (a) - no, other than in limited circumstances; Question (b) - yes.

2. Where the plants merely replace those from an existing plantation due to disease or death, the costs are deductible under section 8-1 of the Income Tax Assessment Act 1997. In other circumstances, the costs are of a capital nature and are not deductible under that section.

3. It is common practice in the horticulture industry for a business to buy plants from a nursery under a contract where the purchased plants are held and maintained by the nursery until an agreed delivery date. In contracts we have considered, the price has been allocated between the plants and their maintenance. The maintenance component of the total price is often said to be an allowable tax deduction. Many of the contracts examined appear to have been designed with this tax benefit in mind.

4. The maintenance costs typically cover such services as potting, pruning, staking, weeding, spraying, watering and other horticultural services considered necessary to keep the plants alive and growing at an acceptable rate. The longer the time, between entry into the contract and delivery of the plants, generally the greater is the amount of the maintenance component. Whether property in the plants passes on entry into the contract or on delivery varies from contract to contract.

5. We consider that the costs of the plants and of their maintenance prior to planting are establishment costs, and therefore of a capital nature. As Pincus J, with whom the other members of the Full Federal Court agreed, said in FC of T v. Osborne 90 ATC 4889 at 4895; (1990) 21 ATR 888 at 895:

'It appears to be consistent with the trend of these authorities to hold that, in general, costs incurred in establishing a plantation of fruit or nut trees, at least up to the stage of getting seedlings established in the ground, are capital expenses.'

6. The Court went on to say that costs incurred in getting seedlings established in the ground encompassed costs of preparing the ground to plant the seedlings. It concluded that these costs should be treated as being in the same category as the costs of buying and planting the seedlings, that is, as capital expenditure (at ATC 4896; ATR 895). The Court did not set out to define precisely what would be 'establishment costs'.

7. We consider that maintenance costs of the type described fall within what are commonly accepted as 'establishment costs'. Almost invariably, the maintenance costs are incurred in respect of capital assets. Their dominant purpose is preserving and improving the assets until they are ready to be used, by planting or establishing them in their long term growing medium, to produce assessable income in the horticultural business. The maintenance costs also fall within the same category as the costs of buying and planting these capital assets and should be given the same classification, that is, as capital expenditure.

8. The costs - both purchase and maintenance - form 'establishment expenditure' for the purposes of section 124ZZJ of the 1936 Act and may, therefore, be deductible under Division 10F. Establishment expenditure is either deductible in full under section 124ZZF of the 1936 Act (for plants with an effective life of less than 3 years) or over a period under section 124ZZG of that Act (for plants with a longer effective life).

Example

Jacob carries on a business from his orchard. To expand his orchard Jacob contracts with a local nursery to buy 2,000 seedlings. The total price is $10,000. This is allocated by the contract as $2,000 for seedlings and $8,000 for care and maintenance over four months. The nursery is to deliver the seedlings at the end of the four months.

The full cost of $10,000:

(a)

is considered to be of a capital nature and is not deductible under section 8-1; and

(b)

is establishment expenditure; the amount of the deduction each year depends on the effective lives of the plants and when the plants begin what is expected to be their first commercial season.

Commissioner of Taxation
4 March 1998

Previously released as Draft TD 97/D7

and Draft TD 97/D8

References

ATO references:
NO 97/7897-7
BO CHM TTF 97-7

Subject References:
capital expenditure
deductions and expenses
horticulture
primary production
primary production expenses
revenue deduction

Case References:
FC of T v. Osborne
90 ATC 4889
(1990) 21 ATR 888