ATO Interpretative Decision

ATO ID 2004/720

Income Tax

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Issue

Is the taxpayer entitled to a deduction under section 40-755 of the Income Tax Assessment Act 1997 (ITAA 1997) for expenditure incurred in demolishing and removing a shed constructed of asbestos from a rental property?

Decision

Yes. The taxpayer is entitled to a deduction under section 40-755 of the ITAA 1997 for expenditure incurred in demolishing and removing the shed constructed of asbestos from a rental property.

Facts

The taxpayer was owner and lessor of the residential rental property used for the purpose of producing assessable income. A garden and storage shed constructed of asbestos and situated on the property became a potential health risk to the tenants after storm damage caused the asbestos sheeting to become friable.

The taxpayer incurred expenditure in demolishing and removing the shed (demolition expenditure). The demolition expenditure was for the sole or dominant purpose of preventing contamination or pollution of the site by harmful and potentially dangerous asbestos in that it was primarily directed to that purpose under the duty of care owed to the tenants under common and state law.

The shed was a capital work for which an amount could be deducted under Division 43 - Deduction for capital works, Part 2-10 of the ITAA 1997. No amount was received by the taxpayer for the destruction or disposal of the shed.

Reasons for Decision

Section 40-755 of the ITAA 1997 provides a deduction for expenditure you incur for the sole or dominant purpose of carrying on environmental protection activities. Environmental protection activities are listed in subsection 40-755(2) of the ITAA 1997. One class of environment protection activities is:

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preventing pollution of or from the site of your earning activity (subparagraph 40-755(2)(a)(ii) of the ITAA 1997)

'Your earning activity' is, among other things, an activity you carry on for the purpose of producing assessable income (except a net capital gain). In defining the site of 'your earning activity', subsection 40-755(4) of the ITAA 1997, includes 'leasing a site you own'.

Former subsection 82BM(2) of the Income Tax Assessment Act 1936 (ITAA 1936) was repealed and ultimately replaced with subsection 40-755(4) of the ITAA 1997. The Explanatory Memorandum, to the Taxation Laws Amendment Act (No. 5) 1992 (the EM) which introduced former subsection 82BM(2), provides guidance in the interpretation of subsection 40-755(4). The EM stated that:

...a taxpayer who earns income from leasing a site which he or she owns will be taken to be carrying on an income-producing activity on that site. The taxpayer will be entitled to a deduction (or depreciation) for environment activities. So a landlord may claim deductions for expenditure on environment activities.

The EM further makes clear that pollution includes contamination by harmful or potentially dangerous elements such as asbestos.

Accordingly, the lessor was carrying on environmental protection activities pursuant to subparagraph 40-755(2)(a)(ii) of the ITAA 1997 when the asbestos shed was demolished and removed with the sole or dominant purpose of preventing pollution of the site of the taxpayer's earning activities by asbestos.

The environmental protection provisions are provisions of last resort (section 40-760 of the ITAA 1997). In particular, you cannot deduct capital expenditure under section 40-755 of the ITAA 1997 to the extent that you can deduct an amount for it under a provision of the ITAA 1997 outside Subdivision 40-I of the ITAA 1997 (paragraph 40-760(1)(e) of the ITAA 1997).

Non-capital expenditure incurred on repairs to plant or premises held or used for the production of assessable income is specifically made deductible under section 25-10 of the ITAA 1997. However, the demolition of the shed does not qualify as a repair for the purposes of that section as the work does not remedy or make good defects in, or damage to, or deterioration (in a mechanical or physical sense) of, the rental property. A repair contemplates the continued existence of the property (paragraph 13 of Taxation Ruling 97/23).

Likewise, the expenditure incurred in demolishing and removing a shed constructed of asbestos from a residential investment property is not deductible under the general deduction provision of section 8-1 of the ITAA 1997 as it is of a capital nature.

Section 43-10 of the ITAA 1997 provides a deduction for capital expenditure incurred for the construction of certain assessable income producing capital works. However, expenditure on demolishing an existing structure does not contribute to a capital work deduction under that section because it is specifically excluded from construction expenditure by paragraph 43-70(2)(b) of the ITAA 1997.

Section 43-40 of the ITAA 1997 allows a taxpayer who meets the conditions set out in the section to deduct an amount, in the income year in which capital works are destroyed, for the remaining construction expenditure incurred on the capital works that has not yet been deducted (undeducted construction expenditure). The amount of the deduction allowable under section 43-40 is calculated in accordance with section 43-250 of the ITAA 1997. The amount in section 43-250 is calculated by reference to section 43-255 of the ITAA 1997 which in effect, reduces the undeducted construction expenditure by amounts received by the taxpayer for

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the destruction of the capital works such as insurance receipts (paragraph 43-255(a) of the ITAA 1997), and

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disposing of the capital works less any demolition expenditure incurred on the capital works (paragraph 43-255(b) of the ITAA 1997).

The effect of recognising the demolition expenditure in paragraph 43-255(b) of the ITAA 1997 ultimately increases the amount of the deduction allowed under section 43-40 of the ITAA 1997. However, the taxpayer did not receive any amount for disposing of the shed. Therefore, the demolition expenditure cannot be taken into account under paragraph 43-255(b) to reduce the proceeds from disposal of the capital works. Neither can the demolition expenditure be used to offset any amount such as insurance receipts received for the destruction of the capital works in paragraph 43-255(a) of the ITAA 1997.

As the expenditure the taxpayer incurred in demolishing and removing the shed was for the sole or dominant purpose of carrying on environmental protection activities, and no amount can be deducted for it under another provision outside Subdivision 40-I of the ITAA 1997, the taxpayer can deduct the expenditure under section 40-755 of the ITAA 1997.

Year of income:  Year ending 30 June 2002

Legislative References:
Income Tax Assessment Act 1997
   section 8-1
   section 25-10
   section 40-755
   subsection 40-755(2)
   subparagraph 40-755(2)(a)(ii)
   subparagraph 40-755(2)(b)(ii)
   subsection 40-755(4)
   section 40-760
   paragraph 40-760(1)(e)
   section 43-10
   section 43-40
   paragraph 43-70(2)(b)
   section 43-250
   section 43-255
   paragraph 43-255(a)
   paragraph 43-255(b)
   Division 43

Related Public Rulings (including Determinations)
Taxation Ruling TR 97/23
Taxation Ruling TR 97/25

Related ATO Interpretative Decisions
ATO ID 2003/833
ATO ID 2004/44
ATO ID 2003/786
ATO ID 2003/703

ATO Interpretative Decisions overturned by this decision
ATO ID 2002/706

Other References:
Explanatory Memorandum to Taxation Laws Amendment Act (No. 5) 1992

Keywords
Demolition expenses
Destruction of assets
Environmental protection expenses
Rental expenses
Repairs & maintenance expenses

Business Line:  Private Groups and High Wealth Individuals

Date of publication:  3 September 2004

ISSN: 1445-2782