House of Representatives

Explanatory Memorandum

(Circulated by authority of the Treasurer, the Hon Peter Costello MP)

Chapter 3 - Depreciating asset roll-over relief

Outline of chapter

3.1 Schedule 7 to this Bill amends Subdivision 328-D of the Income Tax Assessment Act 1997 (ITAA 1997) to extend the roll-over relief available under the uniform capital allowance system to small business entities who choose to deduct amounts for depreciating assets under Subdivision 328-D.

3.2 All references to legislative provisions in this chapter are to the ITAA 1997 unless stated otherwise.

Context of amendments

3.3 Subdivision 328-D sets out the rules for capital allowances for small business entities. A small business entity can choose to deduct amounts under Subdivision 328-D for depreciating assets that are used for a taxable purpose.

3.4 A small business entity that has made the choice to deduct amounts for depreciating assets under Subdivision 328-D must allocate all depreciating assets to either a general small business pool or a long life small business pool and treat each pool as a single asset. The rates of depreciation are 30 per cent for the general small business pool and 5 per cent for the long life small business pool. Assets with effective lives of less than 25 years are allocated to the general small business pool while those having effective lives of 25 years or more are allocated to the long life small business pool. There is also an immediate deduction for low-cost assets, that is, assets whose costs are less than $1,000.

3.5 Under Division 40, the uniform capital allowances system allows deductions for the decline in value of a depreciating asset over the asset's effective life. The Division provides a set of general rules to calculate the deduction to taxpayers for the notional decline in value of most depreciating assets. It also provides pooling mechanisms under which small expenditures are pooled and taxpayers are allowed deductions for the decline in value of the pool.

3.6 Adjustments may be made to assessable income under the uniform capital allowances system (balancing adjustments - section 40-285) when a balancing adjustment event occurs, for example, when a taxpayer stops holding an asset (section 40-285). Subsection 40-295(2), specifically, provides that a balancing adjustment event occurs for a depreciating asset if:

•

there is a change in the holding of, or in the interests of entities in, the asset;

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at least one of the entities that had an interest in the asset before the change has an interest in it after the change; and

•

the asset was held by a partnership either before or as a result of the change.

3.7 Balancing adjustments are usually based on the difference between the actual value of the asset at the time of the balancing adjustment event and its adjusted value (Subdivision 40-D). Under certain circumstances, either automatic roll-over relief (subsection 40-430(1)) or optional roll-over relief (subsection 40-340(3)) is available to defer the adjustment to assessable income until actual disposal of the asset.

3.8 Amendments made to the simplified tax system (STS) by the Taxation Laws Amendment Act (No. 2) 2004 , provided optional roll-over relief in relation to depreciating assets in an STS pool where there is a partial change in ownership of an asset held by an STS partnership. Roll-over relief was only available where the entities both before and after the change were partnerships. The amendments in the Taxation Laws Amendment Act (No. 2) 2004 applied to balancing adjustment events occurring on or after 1 July 2001.

3.9 Roll-over relief for STS taxpayers was extended by the Tax Laws Amendment (2004 Measures No. 7) Act 2005 . This removed the requirement that both entities, before and after the ownership change, must be partnerships, thereby catering for situations where, for example, a sole trader restructured into a partnership, or a partnership restructured to a sole trader. The amendments apply to balancing adjustment events occurring on or after 1 July 2005.

3.10 This measure extends the roll-over relief available under the uniform capital allowances system to small business entities who choose to claim their capital allowance deductions under Division 328.

3.11 This measure was announced in the Treasurer's Press Release No. 039 of 9 May 2006.

Summary of new law

3.12 Amendments to Subdivision 328-D extend the optional depreciating asset roll-over relief available under the uniform capital allowances regime to small business entities that choose to deduct amounts for depreciating assets under Subdivision 328-D where:

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a sole trader, trustee or a partnership that chooses to use the capital allowances for small business entities disposes of all assets in a small business pool to a wholly-owned company; or

•

a small business entity that chooses to use the capital allowances for small business entities disposes of all assets in the small business pool to another taxpayer as a result of a marriage breakdown.

Detailed explanation of new law

3.13 Amendments to section 328-243 extend the optional depreciating asset roll-over relief available under the uniform capital allowances regime (subsection 40-340(1)) to small business entities that choose to deduct amounts for depreciating assets under Subdivision 328-D where:

•

a sole trader, trustee or a partnership that chooses to use the capital allowances for small business entities disposes of all assets in a small business pool to a wholly-owned company; or

•

a small business entity that chooses to use the capital allowances for small business entities disposes of all assets in the small business pool to another taxpayer as a result of a marriage breakdown.

[Schedule 7, item 1, paragraphs 328-243(1A)(a) to (c) and (f )]

3.14 To be eligible for this roll-over relief, deductions for the depreciating assets must be calculated under Subdivision 328-D. Therefore, the assets subject to the roll-over relief must be allocated to the general small business pool or the long life small business pool at the time of the balancing adjustment event. [Schedule 7, item 1, paragraph 328-243(1A)(d )]

3.15 It should be noted that when a taxpayer ceases to deduct amounts for depreciating assets under Subdivision 328-D or is no longer eligible to use the Subdivision, depreciating assets that have been allocated to a general small business pool and a long life small business pool continue to be depreciated under Subdivision 328-D. This means that former small business entities, or small business entities that choose not to continue to use Subdivision 328-D, may choose roll-over relief for depreciating assets allocated to a small business pool when a balancing adjustment event occurs under subsection 40-295(2).

3.16 Roll-over relief is only available if the entity or entities that had an interest in the assets just before the balancing adjustment event (the transferor) and those that have an interest in the assets just after the balancing adjustment event occurred (the transferee) jointly choose the roll-over relief. [Schedule 7, item 1, paragraph 328-243(1A)(e )]

Application and transitional provisions

3.17 These amendments take effect from the start of the income year following the date of Royal Assent of this Bill. [Schedule 7, item 2]