Edited version of private advice

Authorisation Number: 1051737903937

Date of advice: 16 September 2020

Ruling

Subject: Compensation - mining

Question 1

Do the receipts under the Conduct and Compensation Agreements (CCAs) constitute assessable income in accordance with section 6-5 of the Income Tax Assessment Act 1997 (ITAA 1997)?

Answer

No.

Question 2

To the extent that the receipts under the CCAs do not constitute assessable income in accordance with section 6-5 of the ITAA 1997, will the receipt of these amounts constitute capital proceeds under Division 116 of the ITAA 1997 in respect of a CGT event happening?

Answer

No.

Question 3

To the extent that the receipts under the CCAs signed on 6 November 2019 do not constitute assessable income in accordance with section 6-5 of the ITAA 1997 and do not constitute capital proceeds under Division 116 of the ITAA 1997 in respect of a CGT event happening does any compensation received under the CCA reduce the cost base of the property/land under section 110-45(3) of the ITAA 1997?

Answer

Yes.

Question 4

Will Person A and Partnership A make a taxable supply pursuant to section 9-5 of the A New Tax System (Goods and Services Tax) Act 1999 on the receipt of compensation amounts from ABC?

Answer

No.

This ruling applies for the following periods

Year ended 30 June 20XX to year ended 30 June 20XX

The scheme commences on

1 July 20XX

Relevant facts and circumstances

Person A and Person B (landholder) have entered into CCAs with ABC.

Three agreements were entered into with Santos and the parties to the agreements with ABC are as follows:

1. Person A - Property A
2. Partnership A - Property B
3. Partnership A - Property C

The CCAs are conduct and compensation agreements under the Mineral and Energy Resources (Common Provisions) Act 2014 (Qld) (MERCP Act) in respect of the activities ABC is authorised to carry out under the Petroleum Authority.

The CCAs compensates the landholder for the impact of all coal seam gas (CSG) related activities on the properties which includes the proposed placement of gas production wells on the land.

Person A is the legal owner of Property A while Person A and Person B are the legal owners of Property B and Property C. XYZ runs a livestock grazing business on the land.

Person A is registered for GST and carries on an enterprise of leasing assets to XYZ.

Person A and Person B are partners in Partnership A which is registered for GST and carries on an enterprise of leasing improved pasture to XYZ for commercial rates of agistment.

Company A is registered for GST and carries on an enterprise of livestock grazing on the Land. Company A, Person A and Partnership A formed a GST group. XYZ is the group representative.

A high quality livestock grazing business has been carried out on the land but the presence of the proposed CSG activity and related infrastructure on the land is of significant concern to the landholder because of the permanent diminution in the productive capacity of the land from the CSG activities to be carried out on the land. The reduction in the amount of land available for primary production use in addition to land that will be stranded and land rendered less productive due to the presence of CSG infrastructure on the land is a major concern to the landholder.

Conduct and compensation agreements

The CCAs provide that ABC is authorised to carry out Authorised Activities on the land.

The final CCAs:

To the extent that it is reasonably practicable, the objectives of this Agreement are to:

(a)  ensure the Landholder is properly compensated as required under the Petroleum Legislation;

(b)  ensure the safety of the Landholder and its animals and Property;

(c)   use best endeavours to preserve the amenity of the Landholder; and

(d)  ensure the Authority Holder, the Operator and their respective Associates treat the Landholder and the Land with courtesy and respect.

While the term of the CCAs may not be known with certainty the landholders will receive annual compensation amounts to ensure that they are appropriately compensated for the permanent damage to their land.

The term Petroleum Legislation means the Petroleum Act 1923 (Qld), the Petroleum and Gas (Production and Safety) Act 2004 (Qld), the MERCP Act and applicable Regulations.

Section 81 of the MERCP Act defines the general liability of the resource authority holder (ABC) to compensate each owner/occupier of private and public land that is in an authorised area for any compensatable effect the eligible claimant suffers as a result of authorised activities carried out by the holder or a person authorised by the holder.

Subsection 4 of section 81 goes on to define "compensatable effect" as follows:

Compensatable effect means all or any of the following-

(a)  all or any of the following relating to the eligible claimant's land-

(i)            deprivation of possession of its surface;

(ii)           diminution of its value;

(iii)          diminution of the use made or that may be made of the land or any improvement on it;

(iv)          severance of any part of the land from other parts of the land or from other land that the eligible claimant owns;

(v)           any cost, damage or loss arising from the carrying out of activities under the resource authority on the land;

(b)  accounting, legal or valuation costs the claimant necessarily and reasonably incurs to negotiate or prepare a conduct and compensation agreement, other than the costs of a person facilitating an ADR;

Examples of negotiation-

an ADR or conference

(c) consequential damages the eligible claimant incurs because of a matter mentioned in paragraph (a) or (b).

Compensation under the CCAs

Clause 12 of the CCAs provides that ABC must pay compensation to the landholder in the amount and time set out in Schedule 3 to the CCAs

Clause 13 of the CCAs provides an explanation of what the compensation is designed to compensate the landholder:

13. Scope of Compensation

13.1 The payment of the Compensation is in satisfaction only of the Authority Holder's Compensation Liability to the Landholder under the MERCP Act for the Compensatable Effects that may, as at the Agreement Date, be reasonably expected to be the ordinary, natural and likely result of the carrying out of the Activities on the Land during the Term.

13.2 Subject to any provision of this Agreement that expressly provides for the Authority Holder to make payments or pay or provide Compensation to the Landholder, the Landholder:

(a) releases the Authority Holder from any liability under the MERCP Act for the Compensatable Effects described in clause 13.1 of this Agreement; and

(b) acknowledges that this Agreement may be pleaded in bar against all claims and entitlements to those Compensatable Effects described in clause 13.1 of this Agreement.

13.3 Nothing in this Agreement changes:

(a) the Parties' rights of review under section 101 of the MERCP Act; or

(b) the Landholder's right to seek any amount payable or which may become payable under the EPA and the Water Act in relation to the Activities.

Despite the fact that the landholder will release ABC from the requirement to compensate the landholder under the CCAs, Clause 14 clarifies that the landholder may request a review of the compensation and may submit reasonable evidence in supporting their request for additional compensation. Additionally, Clause 16 provides that the agreement does not prevent the landholder from bringing a claim for additional compensation at any time after the agreement date.

The compensation to be paid is set out in Schedule 3 to each of the CCAs and provides that Santos will pay the following compensation to the landholder:

Clause 17 of the CCAs provides guidance as to the process of carrying out the activities on the land:

17. Conduct of Activities

17.1 When carrying out the Activities on the Land, and / or entering the Land for any purpose, the Authority Holder must minimise interference with, or disturbance to, the Land, the Property, the Landholder and the Landholder's use of the Land and must comply at all times with:

(a)          the Land Access Code;

(b)          the Special Conditions;

(c)           the Rules of Conduct;

(d)          any reasonable directions and requirements from the Landholder, including in relation to workplace health and safety;

(e)          the Environmental Authority; and

(f)            all relevant Commonwealth, State and local government laws.

17.2 The Authority Holder must not do anything (or omit to do anything) that causes the Landholder to breach a Relevant Law.

17.3 The location on which the Activities are to be conducted and the extent of those Activities is shown on the Map. The Authority Holder warrants and agrees that should any of the Infrastructure as shown on the Map be required to be constructed in a way that impacts on the Landholder's fences, gates, grids and/ or access tracks, the Authority Holder must provide to the Landholder a suitable alternative, to the same quality as that impacted, as agreed by the Parties (which suitable alternative must be agreed by the Parties prior to the Authority Holder impacting the Landholder's fences, grids, gates and/ or access tracks).

17.4 The Authority Holder must commence the Activities within the Construction Start Timeframe no earlier than, and on the construction start date.

17.5 No less than thirty (30) days prior to the Construction Start Date and before the Authority Holder enters the Land and/ or conducts any of the Activities, the Authority Holder must give the Landholder a Construction Notice which states the Activities the Authority Holder intends to conduct and the Construction Start Date.

17.6 Subject to Special Condition 18, the Authority Holder is only permitted to undertake the Construction Activities within the Construction Period.

17.7 The Authority Holder may exercise its rights under this Agreement through its Associates, provided the Authority Holder inducts every person who enters the Land under and in accordance with the Authority Holder's authority so that they are aware of their obligations under this Agreement and the Petroleum Legislation.

17.8 The Parties acknowledge and agree that the Landholder may, at its sole discretion, regard any failure by the Authority Holder to complete the Construction Activities within the Construction Period as a material change in circumstances and clause 8.3 will apply.

17.9 The Landholder may exercise its rights under this Agreement through its Associates.

Clause 18 provides that if rehabilitation has not been successfully completed prior to the end of the term of the agreement then the agreement will have full force until the rehabilitation has been successfully completed by ABC.

Given that the landholder will continue to live on the property during the construction period and thereafter there is significant concern in relation to the impact that noise may have on their quiet enjoyment of the property both during the construction and operational phase.

Clause 27 discusses the potential application of GST, as follows:

27. GST

27.1 Amounts shown in this Agreement do not include GST.

27.2 Terms used in this clause that are defined in the GST Act have the meaning given in that Act.

27.3 If a Supplier is or becomes liable to pay GST in connection with a taxable supply made under this Agreement, then the Recipient must pay an additional amount to the Supplier equal to the GST at the same time as the party is required to pay the Supplier, provided the Supplier gives the Recipient receiving a tax invoice inclusive of GST at or before the payment of the GST is made by the Recipient for that supply, and in accordance with the payment terms of that tax invoice.

27.4 If the GST payable in relation to the supply made under or in connection with this Agreement varies from the additional amount paid or payable by the Recipient under clause 27.3 or as part of GST inclusive consideration, whether as a result of an adjustment event or otherwise, the Supplier must provide a corresponding refund or credit to, or will be entitled to receive the amount of that variation from, the Recipient.

27.5 If an adjustment event occurs in relation to a supply, the Supplier must issue an adjustment note to the Recipient in relation to that supply within fourteen (14) days after becoming aware of the adjustment.

27.6 Where a Party reimburses the other Party for an expense or other amount incurred in connection with any wholly or partly creditable acquisition or any wholly or partly creditable importation made by the other party, the amount reimbursed shall be net of any input tax credit claimable in respect of that acquisition or importation (as the case may be).

While there are seven dams on the properties the landholder has significant concerns that the water bores on the property may be impacted by the CSG related activities proposed to be carried out by ABC.

The landholder is particularly concerned by the potential impact that the CSG activities will have on the biosecurity risks associated with the property.

Relevant legislative provisions

Income Tax Assessment Act 1997 section 6-5

Income Tax Assessment Act 1997 section 6-10

Income Tax Assessment Act 1997 Division 104

Income Tax Assessment Act 1997 section 110-40

Income Tax Assessment Act 1997 section 110-45

Income Tax Assessment Act 1997 Division 116

A New Tax System (Goods and Services Tax) Act 1999 section 9-5

A New Tax System (Goods and Services Tax) Act 1999 section 9-10

A New Tax System (Goods and Services Tax) Act 1999 section 9-15

A New Tax System (Goods and Services Tax) Act 1999 section 9-30

A New Tax System (Goods and Services Tax) Act 1999 section 9-40

A New Tax System (Goods and Services Tax) Act 1999 section 48-40

A New Tax System (Goods and Services Tax) Act 1999 section 38-285

Reasons for decision

Questions 1-3

Summary

The compensation payments you will receive under the CCAs do not form part of your assessable income. They are considered to be compensation received for the permanent reduction in value and damage relating to the land and will be treated as a reduction in the land's cost base.

Detailed reasoning

Compensation payment as ordinary income

Section 6-5 of the ITAA 1997 provides that the assessable income of an Australian resident includes ordinary income derived directly or indirectly from all sources during the income year.

Compensation paid due to loss and damage of a capital asset in the process of a petroleum authority undertaking petroleum activities on a taxpayer's land is an isolated transaction. Whether a profit from an isolated transaction is income according to ordinary concepts depends on the circumstances of the case. Profits from an isolated transaction are generally ordinary income when both of the following elements are present:

(a) the intention or purpose of the taxpayer in entering into the transaction was to make a profit or gain, and

(b) the profit was made, in the course of carrying on a business or in carrying out a business operation or commercial transaction (paragraph 6 of Taxation Ruling TR 92/3 Income tax: whether profits on isolated transactions are income).

Neither of the above elements apply in your situation. The compensation payments were made in accordance to the legislative provisions of the petroleum legislation.

Accordingly, the compensation payments paid under the CCAs do not give rise to income according to ordinary concepts or to a profit arising from a profit-making undertaking or plan pursuant to section 6-5 of the ITAA 1997. You did not enter into the arrangement to make a profit. Rather, you as a landowner, entered into the arrangement in order to receive compensation for damage that will be caused by the mining activities.

The compensation amounts are not included in your assessable income under section 6-5 of the ITAA 1997.

Compensation payments and the capital gains tax (CGT) provisions

Under section 6-10 of the ITAA 1997 some amounts that are not ordinary income are included in your assessable income due to another provision of the tax law. These amounts are statutory income. Statutory income may arise from CGT events as consequence of an eligible claimant being entitled to receive compensation for the loss and destruction of a CGT asset.

Taxation Ruling TR 95/35 Income tax: capital gains: treatment of compensation receipts provides the Commissioner's view as to the CGT consequences of receiving a compensation payment. The ruling provides that it is necessary to identify the underlying asset to which the payment relates and what has occurred to that asset.

The underlying asset is the asset that, using the 'look-through' approach, is disposed of or has suffered permanent damage or has been permanently reduced in value because of some act, happening, transaction, occurrence or event which has resulted in a right to seek compensation from the person or entity causing that damage or loss in value or against any other person or entity.

If there is more than one underlying asset, the relevant asset is the asset which leads directly to the payment of the amount of compensation. For example, if a taxpayer receives an amount of compensation for the destruction of his or her truck, the truck is the underlying asset.

If an amount of compensation is received by a taxpayer wholly in respect of the disposal of an underlying CGT asset, or part of an underlying CGT asset, of the taxpayer the compensation represents consideration received on the disposal of that asset. In these circumstances, the Commissioner considers that the amount is not consideration for the disposal of any other asset, such as the right to seek compensation.

If an amount of compensation is received by a taxpayer wholly in respect of permanent damage suffered to an underlying asset of the taxpayer or for a permanent reduction in the value of an underlying asset of the taxpayer, and there is no disposal of that underlying asset at the time of the receipt, then the amount represents a recoupment of all or part of the total acquisition costs of the asset.

Accordingly, the total acquisition costs of the CGT asset should be reduced by the amount of the compensation. No capital gain or loss arises in respect of that asset until the taxpayer actually disposes of the underlying asset. If the compensation amount exceeds the total unindexed acquisition costs (including a deemed cost base) of the underlying asset, there are no CGT consequences in respect of the excess compensation amount.

The coal seam gas activities will result in permanent damage to, or a permanent reduction in the value of the land.

As you did not dispose of all or part of the affected land there are no CGT consequences at the time of entering into the CCAs or receiving the compensation payments. The land's acquisition cost will be reduced by the compensation payments received in relation to that land. That is, the cost base of the land will be reduced by the compensation payments and any gain or loss will crystallise at a later time when the land is disposed of.

Question 4

In this reasoning, please note:

·         all legislative references are to the A New Tax System (Goods and Services Tax) Act 1999 (GST Act)

·         all legislative terms of the GST Act marked with an asterisk are defined in section 195-1 of the GST Act

·         all reference materials referred to are available on the Australian Taxation Office (ATO) website ato.gov.au

Who is liable for GST

Under section 48-40 the representative member of a GST group must pay the GST on any taxable supply made by a member of the GST group.

In this case, Person A, Partnership A and XYZ have formed a GST Group and XYZ is the representative member of the GST group. Therefore, XYZ must pay the GST on any taxable supply made by Person A and Partnership A (collectively, the Landholder).

Taxable supply

For the receipt of compensation amounts to give rise to a GST liability there has to be a taxable supply made.

Section 9-5 provides that you make a taxable supply if:

(a) you make the supply for consideration

(b) the supply is made in the course or furtherance of an enterprise that you carry on

(c) the supply is connected with the indirect tax zone (Australia), and

(d) you are registered, or required to be registered for GST.

However, the supply is not a taxable supply to the extent that it is GST-free or input taxed.

Paragraph 9-5(a) provides that there must be a supplier and consideration

Supply

'Supply' is defined in subsection 9-10(1) as 'any form of supply whatsoever.' The statutory definition of 'supply' is very broad.[1] Essentially, a supply is something which passes from one entity to another, and may be one of particular goods, services or something else.[2]

Consideration

Section 9-15 provides that a payment will be consideration for a supply if the payment is 'in connection with' a supply and 'in response to' or 'for the inducement' of a supply. Thus, there must be a sufficient nexus between a particular supply and a particular payment, which is provided for that supply, for there to be a supply for consideration.[3]

Sufficient nexus

A sufficient nexus between the compensation amounts and a supply must exist to create the 'supply for consideration' relationship.

Paragraphs 71 to 73 of GSTR 2001/4 Goods and Services Tax: GST consequences of court orders and out-of-court settlements discusses where the subject of a claim of damages is not a supply:

71. Disputes often arise over incidents that do not relate to a supply. Examples of such cases are claims for damages arising out of property damage, negligence causing loss of profits, wrongful use of trade name, breach of copyright, termination or breach of contract or personal injury.

72. When such a dispute arises, the aggrieved party will often assert its right to an appropriate remedy. Depending on the facts of each dispute a number of remedies may be pursued by the aggrieved party in order to ensure adequate compensation. Some of these remedies may be mutually exclusive but it is still open to the aggrieved party to plead them as separate heads of claim until such time as the matter is resolved by a court or through negotiation.^...

73. The most common form of remedy is a claim for damages arising out of the termination or breach of a contract or for some wrong or injury suffered. This damage, loss or injury, being the substance of the dispute, cannot in itself be characterised as a supply made by the aggrieved party. This is because the damage, loss, or injury, in itself does not constitute a supply under section 9-10 of the GST Act.^...

In this case, the issue is whether the Landholder has provided something to ABC in return for the compensation amounts paid to them.

The CCAs are conduct and compensation agreements under the MERCP Act. Under the CCAs the Landholder receive the compensation amounts outlined in Schedule 3 pursuant to clauses 12 and 13. Relevantly clause 13.1 of the CCAs states:

13.1 The payment of the Compensation is in satisfaction only of the Authority Holder's Compensation Liability to the Landholder under the MERCP Act for the Compensatable Effects that may, as at the Agreement Date, be reasonably expected to be the ordinary, natural and likely result of the carrying out of the Activities on the Land during the Term.

The Authority Holder holds a Petroleum Authority, Petroleum Lease 405, which allows ABC to enter the Land and carry out the Activities under the Petroleum Authority on its behalf. However, under section 81 of the MERCP Act a resource authority holder is liable to compensate the Landowner and occupiers for any Compensatable Effects caused by these activities carried out on the land.

The compensation amounts received by the Landholder from ABC under the CCAs are to compensate the Landholder for the Compensatable Effects arising from the Activities on the Land. These are not payments for any supply made by the Landholder.

As the compensation payments are not consideration for a supply, there is no taxable supply under section 9-5 made by the Landholder. Therefore, the receipt of the compensation amounts by the Landholder from ABC will not give rise to a GST liability.

Supply of resources or material from the Land

There are two other types of payments made under the CCAs. A payment for water and a payment for gravel. A general liability to compensate does not arise under section 81 of the MERCP Act for any water and gravel that is taken by ABC under the CCAs. Therefore, the Landholder is making a supply of these things when they agree to allow extraction by ABC.

Therefore, it is necessary to consider whether the amounts paid for the supplies of water and gravel are for taxable supplies made by the Landholder.

Water

Under the CCAs the Landholder will receive $0.01 per litre of water used by Santos (clause 14.2 of the Special Conditions).

Subsection 9-30(1) states that a supply is GST-free if:

a) it is GST-free under Division 38 or under a provision of another Act, or

b) it is a supply of a right to receive a supply that would be GST-free under paragraph (a).

A supply of water in section 38-285 refers to the delivery or the making available of water, as goods. A supply of water is GST-free under subsection 38-285(1).

However, a supply of water is not GST-free under subsection 38-285(2) where it is 'supplied in a container', or 'transferred into a container', that has a capacity of less than 100 litres.

Goods and Services Tax Ruling GSTR 2000/25 Goods and service tax: GST-free supplies of water, sewerage and sewerage-like services, storm water draining services and emptying of a septic tank explains the Commissioner's view of what activities are covered by Subdivision 38-I.

Paragraphs 25 and 26 of GSTR 2000/25 deal with the application of paragraph 9-30(1)(b) to the supply of water rights, and discuss trading water rights.

Paragraph 25 provides that a supply of a right to receive a supply of water includes:

·         a right to receive a supply of a quantity of water

·         a right to receive a supply of water for a specified period, or

·         a tradeable right to receive a supply of water.

As stated above the supply of water is GST-free under subsection 38-285(1) and section 9-30.

Accordingly, the supply of water is GST-free and the consideration for this supply will not be subject to GST.

Gravel

Under the CCAs the Landholder will receive $X per cubic metre for stockpiled gravel and $X per cubic metre for in-situ gravel used by ABC (clause 14.3 of the Special Conditions).

The supply of gravel by the Landholder will satisfy all the requirements of a taxable supply under section 9-5. Further, there are no provisions whereby the supply of the gravel would be input taxed or GST-free.

Accordingly, the supply of gravel is taxable and the consideration for this supply will be subject to GST. XYZ as the GST group representative must pay the GST on any taxable supply made by the Landholder pursuant to section 48-40.

[1] Paragraph 42 of GSTR 2001/4 Goods and Services Tax: GST consequences of court orders and out-of-court settlements and paragraph 33 of GSTR 2006/9 Goods and services tax: supplies

[2] Paragraph 22 of GSTR 2001/4

[3] Paragraph 75 of GSTR 2001/4

Copyright notice

© Australian Taxation Office for the Commonwealth of Australia

You are free to copy, adapt, modify, transmit and distribute material on this website as you wish (but not in any way that suggests the ATO or the Commonwealth endorses you or any of your services or products).