Explanatory Memorandum
(Circulated by the authority of the Treasurer,the Hon Ralph Willis, M.P.)Chapter 1 Depreciation Amendments
Clauses: 15,16,17,19,20,24,64,67,68,69 and 70
Overview
- Inserts a definition of effective life into the Act
- Allows 100% depreciation for depreciable plant where the value of the unit of property does not exceed $300 or the estimated effective life of the item is less than 3 years
- Reduces the number of depreciation rates to seven basic rate classes
- Standardises the loading at 20%
- Enables taxpayers to pool depreciable items with the same depreciation rate.
Depreciation Amendments
Summary of the proposed amendments
1.1 This Bill puts into effect changes announced in the March 1991 Industry Statement and on 26 September 1991 to simplify the operation of the depreciation provisions of the income tax law and to allow taxation depreciation rates to be set objectively by reference to a statutory definition of effective life.
1.2 The effective life of an item is to be defined as the period during which an item of property can reasonably be expected to be used for income producing purposes by any person. The effective life to be adopted by a taxpayer relates to the total estimated life of the item of property taking into account the taxpayer's circumstances of use. It may vary from potential physical life as a result of factors such as predictable obsolescence and the expected abandonment of the property at the termination of a project in which the property is used.
1.3 100% depreciation will be available for items of depreciable property acquired on or after 1 July 1991, where the unit value of the item does not exceed $300 or the estimated effective life of the item is less than 3 years.
1.4 From the 1991-92 income year, most property subject to the general depreciation provisions may be written off at one of seven basic rates - 33 1/3%, 20%, 15%, 10%, 7 1/2%, 5% or 2 1/2%. These basic rates will be increased by a standardised 20% loading (unless a motor vehicle is involved).
1.5 If the prime cost rate for an item is not one of the seven basic rates, the item may be depreciated at the next highest basic rate.
1.6 Taxpayers may elect not to broadband.
1.7 Taxpayers may choose to account for depreciation on the basis of pools of items of a given rate class. Pooling merely involves aggregating all items subject to the same depreciation rate. The total pool is then depreciated using the diminishing value method.
1.8 The pools are to operate as follows:
- •
- Pooling is optional.
- •
- Pooled items will be depreciated using the diminishing value method.
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- Assets depreciated at a special depreciation rate such as 5/3 cannot be pooled as these are all straight line rates.
- •
- Pooling can apply regardless of when an item was first used or installed or whether it was previously depreciated under section 56 using the prime cost method.
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- Only assets wholly used for the purpose of producing assessable income (or installed ready for such use) and used for that purpose for the whole income year may be pooled.
- •
- A pro rata deduction only will be allowed in the first year of use or installation ready for use outside the pool. The item may then be allocated to the pool for the following year.
- •
- Taxpayers may "unpool" an asset by deducting the reconstructed depreciated value of the item from the opening value of the pool.
- •
- If a pooled item is disposed of, lost or destroyed, the taxpayer may either:
- -
- take the item out of the pool and treat the difference between the depreciated value and the consideration received in the normal manner, or
- -
- return the total proceeds of disposal up to the original cost as assessable income, while leaving the depreciated value of the item in the pool, or
- -
- roll over the total proceeds of disposal up to the original cost, while leaving the depreciated value of the item in the pool.
Background to the legislation
1.9 Depreciation allows the capital cost of plant to be deducted from assessable income over the item's effective life. Under the existing law, an estimate of effective life is made by the Commissioner of Taxation (section 55).
1.10 A taxpayer may elect to depreciate an item of plant using either the prime cost or diminishing value method (subsection 56(1)).
1.11 The prime cost method of depreciation allows a deduction equal to a fixed percentage of the initial cost in each year of income over the effective life of the asset. Under this method, without taking into account loadings, the cost of plant with an effective life of 5 years would be written off over 5 years with 20% of the cost being deducted in each year. For example, if the plant cost $1000, $200 could be deducted every year for 5 years. With the 20% loading, the rate will increase from 20% to 24% (20% plus 20% of 20%), so that 24% of the cost of the plant can be deducted each year until it is completely written off.
1.12 The diminishing value method allows the item to be written off at a higher rate, but it is calculated differently. The rate applied is one and one-half times the standard rate and the depreciation deduction is calculated each year on the depreciated value of the property concerned. For example, with the $1000 item of plant, the diminishing value rate without loading would be 30% (one and one-half times 20%), or 36% with the loading. The taxpayer will be able to claim $360 in the first full year of use, and in the second year 36% of the written down value of $640 ($1000 minus $360), and so on.
Balancing charges and deductions
1.13 If a depreciated item is disposed of, lost or destroyed, the difference between any proceeds of sale and the depreciated value of the unit is deductible if the proceeds are less than the depreciated value. Where the sale price is greater than the depreciated value, the excess is included in assessable income to the extent of the original cost of the item (subsections 59(1) and (2)). For example, the depreciated value of an item which cost $1000, and on which $300 depreciation had been allowed, would be $700. If the item was sold for $500, a deduction of $200 would be allowed in the year of sale. If it was sold for $1200, the amount to be included in assessable income would be $300. The $200 by which the sale price exceeded the original cost would represent a capital gain and might be assessed under the capital gains tax provisions.
1.14 The amount which would otherwise be included in assessable income on the sale of a depreciated item of plant, may be "rolled over" by deducting it successively against the cost of replacement plant, other new plant or the opening written down value of existing plant (subsection 59(2A)).
1.15 If an item is used for only part of the year, a pro rata depreciation deduction only will be allowed for that year (subsection 56(1A). For example, if the item is used for only 6 months, the taxpayer can deduct only half of the depreciation which would be available for a full year's use.
1.16 Under the existing law, the Commissioner of Taxation is required to determine the effective life of a particular item of property (subsection 55(1)). Rates are set on the basis of the industry norm and are published for the guidance of all taxpayers. Taxpayers can apply to the Commissioner for a variation from the published rate to take account of their particular circumstances of use.
1.17 Under the new system, taxpayers will be able to make their own estimate of the effective life of a particular item using the new definition. Although the Commissioner will continue to publish recommended rates as a guide, taxpayers will not be required to use those rates.
1.18 The changes provide greater flexibility in the selection of an appropriate depreciation rate and will simplify the operation of the depreciation provisions. Inserting a legislative definition of effective life will ensure that taxpayers can use a depreciation rate reflecting their individual circumstances of use of an item. Broadbanding and the standardisation of loadings reduces the number of rates which need to be used. 100% depreciation and pooling will reduce the paperwork associated with calculating deductions for depreciation.
Explanation of the proposed amendments
1.19 Effective life is defined by the new section 54A as the time an item of property can reasonably be expected to be used for income producing purposes by any person. The effective life to be adopted by a taxpayer relates to the total estimated life of the item of property taking into account the taxpayer's circumstances of use. [Clause 16 - new section 54A]
1.20 The change to a system of determining effective life by reference to an objective statutory definition requires that a reasonable judgment as to the prospective effective life of an item of depreciable property be exercised at the time the particular item is first used for income-producing purposes. That judgment, or estimate, should take account of both known circumstances of use of the item and circumstances of use that can reasonably be expected.
1.21 For example, a taxpayer conducting an established business may know from experience that certain kinds of industrial plant are scrapped after 5 years because of the need to keep up with the latest technology. That factor ought to be taken into account as a known circumstance. On the other hand, the effects of working conditions on plant installed for a new venture may not be fully known, but nevertheless capable of reasonable prediction according to the physical surroundings, weather conditions, intended hourly use, and so on.
1.22 In all circumstances, a taxpayer needs to estimate effective life as a reasonable, independent person would having regard to the relevant facts and circumstances about the projected use of the item.
Total life for particular taxpayer
1.23 In estimating how long an item would be held and used for income producing purposes, taxpayers will not be obliged to gauge the life of the item as if it were in 'average' use but must look to their own particular circumstances.
1.24 When an item first comes into income-producing use by a taxpayer, the taxpayer must estimate the period that it would be useful for income-producing purposes if it was, for its total life, used in the expected circumstances and conditions of use by the taxpayer despite the fact that for commercial or other reasons it may be expected to be disposed of before the end of that period. The new section 54A builds in an assumption that the item was held by the taxpayer until this time.
1.25 The practice in a business is to use executive cars for two years, then replace them with new models. The cars are then sold to someone else who uses them for private purposes. Does this mean their effective life is 2 years?
1.26 No. The effective life of the cars would not be limited to the time that they are used to produce income by a particular taxpayer. The relevant question is: for what period would the cars be used, assuming that they continue to be used at the taxpayer's rate of use, until they are no longer reasonably capable of being used to produce income by the taxpayer or any other person? This period is the effective life of the cars.
1.27 For second-hand plant, the estimate of effective life must be made as if, when first used or installed for income-producing purposes by the taxpayer, the item was new [new subparagraph 54A(1)(a)(i)]. That is, effective life relates to the total life of the item and must not be reduced on account of the second-hand condition of the item. This means that plant of the same kind and subject to the same conditions of use will have the same effective life even though one may be new and the other second-hand.
1.28 According to the manufacturer's specifications, a new photocopier is capable of producing 1 million copies before needing to be replaced. When purchased new, the owner expects that, as used in the owner's business, it will have produced half a million copies after 2 years. On that evidence, it would be reasonable to conclude the copier had an effective life of 4 years, even if it is the taxpayer's intention to sell the copier after 2 years to someone else who will use it less heavily.
1.29 The photocopier is disposed of after 2 years to another taxpayer, who intends to make only 100,000 copies a year. The effective life of the copier in the hands of the second taxpayer must be judged on the basis of the expected conditions of use by that taxpayer as if the taxpayer had purchased the copier new. On that basis, the total effective life for the second taxpayer would be 10 years, reflecting his or her circumstances of use.
1.30 An operator of a delivery service acquires a second hand vehicle which is 2 years old, for use in a delivery fleet. The other fleet vehicles were purchased new and have a depreciation rate of 15% consistent with an effective life of 7 years. The second hand vehicle will be used for similar mileage under comparable conditions to the other vehicles. The effective life of the second hand vehicle must be judged on the basis of the expected conditions of use by the taxpayer as if the vehicle had been purchased new. On that basis, the effective life of the second hand vehicle would also be 7 years.
Can a taxpayer take account of technological or economic obsolescence?
1.31 Yes, if it can be reasonably predicted when the plant is first used or installed ready for use that the item will not be able to be used by any person for the production of income at a specific point of time in the future. In such cases the effective life will last until that time.
1.32 That conclusion may be on the basis of experience in the particular industry in relation to the scrapping of plant. For example, plant may be scrapped where, because of the need to keep up with the latest international technology, it is no longer useful for income producing purposes. Plant may also be scrapped because it is known that the equipment will become redundant because the goods it produces are going out of production or because the process of production will change.
1.33 Operators of a luxury hotel chain refurbish every 5 years. Carpets and curtains are scrapped. Television sets are sold via auction. If the televisions had continued in use instead of being sold, they would have had to be replaced after another 2 years. The effective life of the carpets and curtains is 5 years. The effective life of the television sets is 7 years. Given the likely wear and tear on a television used in those circumstances, it could hardly be expected after the 7 years to have a real commercial usefulness.
1.34 A company that uses specialist machinery has a policy of continuous plant development and improvement. Experience has been that new generation machines replace existing machines every 5 years, after which the older machines are redundant for the functions they were designed for. The company could reasonably estimate effective life of the machines as 5 years.
Can a taxpayer use project life?
1.35 Where it is reasonable to conclude that plant acquired for a particular project will be scrapped, sold for scrap or abandoned at the end of a project, it can be depreciated over the life of the project. If plant can be readily used in other income producing activities at the end of the project, the effective life should not be governed by the life of the project.
1.36 A mining company purchases mining equipment to use in a remote locality. The expected life of the mine is 10 years, at the end of which the equipment will be abandoned although potentially still physically capable of operation. The effective life of the equipment would be 10 years. If it was expected that the equipment could reasonably be transferred to, and used at, another minesite, the effective life could not be limited to the life of the first mine.
Other examples of effective life
Example 1
1.37 A company purchases machines for use in its business. Environmental legislation will outlaw the use of the particular type of machine throughout Australia within 5 years. The effective life of these machines will be no more than 5 years.Example 2
1.38 A wheat farmer has acquired a tractor costing $100,000. It is built to do 20,000 hours work and the Commissioner of Taxation has determined the industry average usage is 10 years before scrapping; it thus has a 10 year life in the Commissioner's schedule.
1.39 The following scenarios set out possible tax treatment of the tractor under the new effective life rules.
- (i)
- The wheat farmer has an exceptionally large farm and expects to do 20,000 hours work with the tractor in 5 years at which point it would be retired from income producing use.
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- The farmer would be entitled to claim a 5 year effective life.
- (ii)
- The wheat farmer expects to do substantial ploughing over a 4 year period so that the tractor worked 16,000 hours over 4 years. The farmer expected that if the tractor continued in operation it would have to be retired from income producing use in another year. Because of the intensive work it would not be worth maintaining and the wheat farmer expected to sell the tractor to another farmer who will use it less intensively.
- -
- The wheat farmer could claim a 5 year effective life as that would be the effective life if the farmer continued to use the tractor.
- (iii)
- The wheat farmer anticipates that a new high-speed ploughing tractor will be on the market in 3 years making the old tractor uneconomic in the wheat industry. The wheat farmer uses the tractor on a normal basis for 3 years and sells it to a grazier.
- -
- The effective life is 10 years as this is the period the tractor is generally useful for income producing purposes notwithstanding that it may not be expected to be viable in the wheat industry after 3 years.
- (iv)
- The wheat farmer anticipates that a revolutionary new tractor will be on the market in 3 years making the old tractor uneconomic on all farms so that the tractor will have to be scrapped.
- -
- The tractor has a 3 year effective life as after that time it will no longer be useful for income production.
- (v)
- After 5 years of normal use the farmer sells the tractor to a neighbour. The neighbour expects to use the tractor very intensively and scrap it in 3 years.
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- On commencement of use of the tractor, the farmer has no basis to change from the industry average and hence the effective life to the farmer is 10 years. The neighbour will be able to use the Commissioner's rate or to self assess a shorter effective life if the very intensive use, if applied to a new tractor, could be expected to reduce the effective life below the 10 years set by the Commissioner.
- (vi)
- The farmer expects to use the tractor twice as much as the industry average.
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- The farmer may seek to apply an effective life rate allowing for extra usage; however it would not automatically follow that doubled use meant the Commissioner's estimated rate could be doubled. There would need to be an independent estimate of the effective life on the basis of the actual usage and working conditions that will apply.
Calculating the rate of depreciation
1.40 New section 55 sets out a step by step approach to calculating the rate of depreciation for a unit of property. [Clause 16 - new section 55]
1.41 Step 1:- converts the effective life of the item of property determined in accordance with the new section 54A into a raw percentage rate of depreciation.
1.42 Step 2:- provides that the depreciation rate for items where the unit value of the item does not exceed $300 or the estimated effective life of the item is less than 3 years will be 100%. [New subsection 55(3)]
1.43 Steps 2A and 3:- set out the special depreciation rates which apply to property used for scientific research or as employee amenities. [New subsections 55(3A) and (4)]
1.44 Step 4:- broadbands the rate to one of seven rate classes.
1.45 Step 5:- increases the broadbanded rate by a loading of 20% for property other than motor vehicles. [New subsection 55(6)]
1.46 New subsection 55(5) will reduce the number of basic depreciation rates to 7. These rates are 2 1/2%, 5%, 7 1/2%, 10%, 15%, 20%, and 33 1/3%.
1.47 If the initial depreciation rate determined on the basis of the effective life of an item is not one of the seven basic rates, the item may be depreciated at the next highest rate.
1.48 Broadbanding will apply to all items of property except for:
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- items to which the 5 year/3 year ("5/3") or other special or accelerated depreciation provisions (other than loadings of 20% or less) apply, and
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- paintings, sculptures, drawings, engravings, photographs or articles of a similar nature.
1.49 A taxpayer may elect not to broadband. [New subsection 55(8)]
1.50 The broadbanded rate of depreciation will be increased by a loading of 20% for all depreciable items other than motor vehicles. The seven broadbanded rate classes after the loading of 20% will be 3%, 6%, 9%, 12%, 18%, 24% and 40%.
1.51 For these purposes, a motor vehicle includes a four wheel drive vehicle; a motor car, station wagon, panel van, utility truck or similar vehicle; a motor cycle or similar vehicle; or any other road vehicle designed to carry a load of less than 1 tonne or fewer than 9 passengers. [New subsection 55(10), adopting the existing subsection 57AG(1)]
Example
1.52 A taxpayer buys a $1000 item of machinery with an effective life of 4 years. What rate can the taxpayer use?
1.53 Beginning with step 1, the initial rate of depreciation (the "raw percentage) is 1/4 x 100 or 25% based on an effective life of 4 years. Steps 2, 2A, or 3 do not apply. Under step 4 the rate is broadbanded by moving to the next highest rate of 33 1/3%. Under step 5 the loading is applied by multiplying the rate (33 1/3%) by 1.2 making 40%. This is the annual depreciation percentage.
Calculation of depreciation deduction
1.54 The amount of depreciation allowable is calculated under section 56 of the Act. Depreciation is allowable under either the prime cost of the diminishing value method. Existing section 56 will be amended to take account of new section 55.
1.55 Using the example referred to above, under the amended subsection 56(1), 40% will be the rate which can be used for the prime cost method. One and one-half times that rate or 60% will the rate which can be used for the diminishing value method. Assuming the taxpayer began to use the machinery at the start of the income year, a deduction of $400 would be allowable under the prime cost method in each of the first two years of use and the remaining $200 in the third year. If the diminishing value method was used a deduction of $600 would be allowable in the first year, $240 in the second year and so on.
If a taxpayer buys an item costing less than $300 part way through the year, does the taxpayer still have to pro rata the depreciation claim?
1.56 No. Section 56 will be amended to override the normal pro rata provisions where 100% depreciation applies. The item may be completely written off in its first year of use. [Subclause 17(c) - amended subsection 56(1A)]
1.57 Pooling merely involves aggregating items subject to the same depreciation rate. It provides a simpler method of calculating depreciation. [Clause 24 - new section 62AAB]
1.58 The total pool is effectively treated as a single item and depreciated accordingly using the diminishing value method. [New sections 62AAO to 62AAP]
Example
1.59 If the opening written down value of a taxpayer's 24% rate pool was $1000, the taxpayer would simply have to deduct $360 ($1000 by 1.5 times 24%) as depreciation for that pool, and note that the closing written down value of the pool was $640 ($1000 less $360). $640 would form the basis of the opening written down value of the pool for the following year.
1.60 No. Pooling is optional. A taxpayer will have to provide written notice of the creation of a pool and of the allocation of items to a pool. [New sections 62AAC and 62AAE]
If a taxpayer chooses to pool, must the taxpayer pool all assets?
1.61 No. A taxpayer may pool only some assets. [New section 62AAE]
Putting assets in and out of a pool
1.62 The system of pooling is similar to maintaining a ledger. First the taxpayer must create a pool [new section 62AAC]. Then the taxpayer may allocate items to the pool if they satisfy certain conditions [new section 62AAE]. Items may be taken out of the pool by cancelling the allocation [new section 62AAF]. In some circumstances the allocation will be cancelled automatically. [New sections 62AAG to 62AAJ]
Which assets can a taxpayer pool?
- •
- An item may be pooled regardless of when it was first used or installed.
- •
- An item may be pooled even if it was previously depreciated using the prime cost method under paragraph 56(1)(b).
- •
- An item may not be pooled if it is currently being depreciated using a special depreciation provision such as 5/3 or the old provisions relating to primary production. These are all straight line methods. [New paragraphs 62AAE(1)(e) and (f)]
- •
- Only assets wholly used for the purpose of producing assessable income (or installed ready for use) while in use by the taxpayer and used for that purpose for the whole income year may be pooled. [New paragraph 62AAE(1)(b) and section 62AAG]
1.63 For the 1991-92 income year, the opening written down value of each pool is created by adding together the opening written down value of the items which are to be included in the pool. A pool can be created for each annual depreciation percentage - thus there can be a 40% pool, a 24% pool, an 18% pool, etc. [New section 62AAN]
What happens with items which a taxpayer buys part way through a year?
1.64 These items may not be pooled in the first year of use (or installation ready for use), [as they have not been used for income producing purposes for the whole year] [new paragraph 62AAG(1)(b)]. For the first year, the depreciation allowance is calculated in the usual way. That is, the deduction is pro rated from the date of first use or installation ready for use for income producing purposes to the end of the income year. The item may be pooled in the following year by adding the depreciated value of the item at the end of the first year to the opening value of the relevant pool. [New section 62AAN]
Example
1.65 Louise purchases a computer for $1000 which she begins to use for income producing purposes on 1 January 1992. For the year ending 30 June 1992, she would be able to deduct only half of the depreciation which she would have been able to deduct if the computer had been used for income producing purposes for a full year. Assuming an effective life of 5 years, and if Louise used the diminishing value method, the rate of depreciation would be 36% (including the 20% loading). A deduction of $180 would be allowable in the first partial year of use. The written down value of $820 could then be added to the 24% pool for the following year's calculations.
How does a taxpayer make calculations for the pool if some items are used partly for private purposes?
1.66 Where an item is used partly for private purposes it will not be subject to the pooling arrangements. These items will have to be depreciated individually. [New paragraph 62AAE(1)(b) and section 62AAG]
What happens if a taxpayer begins to use a pooled item for private purposes?
1.67 The item must be taken out of the pool, and any depreciation deductions calculated outside the pool. The reconstructed depreciated value of the asset at the beginning of the income year should be deducted from the opening value of the pool. The item may not be pooled again. [New sections 62AAG and 62AAN]
If a taxpayer chooses to pool a particular asset, can the taxpayer take it out of the pool later on?
1.68 Yes, as long as the written down value of the item can be calculated. Taxpayers may "unpool" an asset by deducting the reconstructed depreciated value of the item at the beginning of the year from the opening value of the pool. This is called a cancellation. Depreciation claims for the time after the beginning of the year must be calculated individually [new section 62AAF] If an item has been pooled, it must continue to be depreciated using the diminishing value method. [New section 62AAR]
What is the reconstructed depreciated value of an item?
1.69 The reconstructed depreciated value of a pooled asset at any time is the amount that would have been its depreciated value (i.e. cost less depreciation allowed) at that time if, during the period it is in the pool, it had been depreciated as a separate unit of property at the pooled rate of depreciation.
1.70 If an asset has been depreciated using the prime cost method prior to going into the pool, it must be treated as if it had been depreciated using the diminishing value method while in the pool. [New section 62AAM]
What happens if a taxpayer sells or scraps an item that has been included in a depreciation pool?
1.71 If a pooled item is disposed of, lost or destroyed, the taxpayer may either:
- •
- take the item out of the pool and treat the difference between the depreciated value and the consideration received in the normal manner, or
- •
- return the total proceeds of disposal up to the original cost as assessable income, while leaving the depreciated value of the item in the pool, or
- •
- roll over the total proceeds of disposal up to the original cost, while leaving the depreciated value of the item in the pool.
1.72 In order to use the first mentioned method, the taxpayer must be able to calculate the reconstructed written down value of the item so that it can be removed from the pool. The new section 62AAS provides that the normal methods of dealing with the disposal of depreciated property provided by subsections 59(1) and (2) do not apply to items which are in a pool. [New section 62AAS]
1.73 Under section 59, if a depreciated item is disposed of, lost or destroyed, the difference between the proceeds of sale and the depreciated value of the unit is deductible if the sale price is less than the depreciated value. Where the sale price is greater than the depreciated value, the excess is included in assessable income to the extent of the original cost of the item. (Subsections 59(1) and (2)) Alternatively, this excess may be "rolled over" by deducting it successively against the cost of replacement plant, other new plant or the opening written down value of existing plant. (Subsection 59(2A))
1.74 If it is not possible to determine the reconstructed depreciated value of an asset (possibly because the purchase price and/or date of purchase were unknown), it will be obligatory to either return the total proceeds of disposal up to the original cost of the item as assessable income or roll-over that amount under subsection 59(2A). [New section 62AAT]
1.75 In exercising the roll-over options in subsection 59(2A), taxpayers may not reduce the value of a pool. The new sections 62AAN and 62AAO, which exhaustively define the adjustments which may be made to the value of the pool, do not provide for a deduction for the roll-over of such amounts.
1.76 If a taxpayer has no replacement plant or other new plant, or the cost of such items is less than the amount which is to be rolled over, individual pooled items must be "unpooled" before they can be used to offset the amount being rolled-over.
Summary of options on disposal of a pooled asset
1.77 Assuming that the taxpayer has sufficient records to "unpool" an asset which has been sold or scrapped, the taxpayer may either:
- •
- Leave the item in the pool and include the proceeds of sale up to the original cost in assessable income; or
- •
- Leave the item in the pool and roll-over the proceeds of sale up to the original cost by deducting that amount successively from the cost of replacement plant, other new plant or the opening written down value of existing unpooled plant; or
- •
- If the item was sold for less than its reconstructed depreciated value at the date of disposal, the taxpayer may unpool the item and claim a balancing deduction.
- The deduction allowable will be the difference between the reconstructed depreciated value of the item at the date of disposal and the proceeds of disposal (the balancing deduction).
- If the item was disposed of part way through the year, the taxpayer may also make a pro rata depreciation deduction outside the pool for the time between the beginning of the income year and the date of disposal.
- The item will be "unpooled" by deducting the reconstructed depreciated value of the item at the beginning of the income year from the opening value of the pool; or
- •
- If the item is sold for more than its reconstructed depreciated value at the date of disposal, the taxpayer may unpool the item and treat the difference between the proceeds of disposal up to the original cost of the item and the reconstructed depreciated value at the date of disposal in the normal way.
- This amount may either be included in assessable income or deducted successively from the cost of replacement plant, other new plant or the opening written down value of existing unpooled plant (section 59).
- If the item was disposed of part way through the year, the taxpayer may also make a pro rata depreciation claim outside the pool for the time between the beginning of the income year and the date of disposal.
- The item will be "unpooled" by deducting the reconstructed depreciated value of the item at the beginning of the income year from the opening value of the pool. Any excess over the original cost may be subject to the capital gains tax provisions.
Example 1 - Sold at a loss
1.78 Q. I purchase an item for $1000, claim $400 depreciation, and then sell the item for $200.
1.79 A. You may either:Example 2 - Sold at a profit
- •
- Include the $200 in assessable income and continue to write off the remaining $600 depreciation in the pool; or
- •
- Deduct the $200 successively from the cost of replacement plant, other new plant or the opening written down value of existing unpooled plant and continue to write off the remaining depreciation in the pool; or
- •
- Claim the balancing deduction of $400 (reconstructed depreciated value of $600 minus $200 sale proceeds) provided that you can calculate the reconstructed depreciated value. The item will be unpooled by deducting the reconstructed depreciated value of the item, $600, from the opening value of the pool.
1.80 Q. I purchase an item for $1000, claim $400 depreciation, and then sell the item for $1200.
1.81 A. You may either:
- •
- include $1000 in assessable income and continue to write off the remaining $600 depreciation in the pool; or
- •
- Deduct the $1000 successively from the cost of replacement plant, other new plant or the opening written down value of existing unpooled plant, and continue to write off the remaining $600 depreciation in the pool; or
- •
- Include only $400 in assessable income or deduct the amount from the cost of replacement plant etc., provided that you have retained sufficient records to calculate the reconstructed depreciated value of the item. The reconstructed depreciated value of $600 would be deducted from the opening value of the pool.
1.82 As the item has been sold for $200 more than its cost, there may be a liability to capital gains tax on the $200.Example 3 - Sold at less than purchase price but more than written down value
1.83 Q. I purchase an item for $1000, claim $400 depreciation, and then sell the item for $800.
1.84 A. You may either:Example 4 - Item lost, scrapped, destroyed or abandoned
- •
- Include the $800 in assessable income and continue to write off the remaining $600 depreciation in the pool; or
- •
- Deduct the $800 successively from the cost of replacement plant, other new plant or the opening written down value of existing unpooled plant, and continue to write off the remaining $600 depreciation in the pool; or
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- Include only $200 ($800 minus $600) in assessable income or deduct the amount of $200 from the cost of replacement plant etc., provided that you have maintained sufficient records to enable you to calculate the reconstructed depreciated value. The reconstructed depreciated value of $600 would be deducted from the opening value of the pool.
1.85 Q. I purchase an item for $1000, claim $400 depreciation and then scrap the item.
1.86 A. You may either:
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- Unpool the asset by deducting the $600 reconstructed depreciated value from the pool, and claim the depreciated value of $600 as a deduction; or
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- Leave the item to continue to be written off in the pool. As no consideration was received, no other adjustments are necessary.
Will I have to maintain unit cost records for items in the pool?
1.87 No. However, if cost records are not kept, it will be impossible to calculate any balancing deduction where an item is disposed of for less than the depreciated value or, alternatively, include only the difference between the consideration and the depreciated value of the item in assessable income. In that case, the only options available under Examples 1, 2, and 3 above would be to include the amounts of $200, $1000 and $800 respectively in assessable income or roll the amounts over against the cost of replacement plant etc.. The availability of pooling for depreciation purposes will not, of course, relieve taxpayers of the obligation to keep sufficient records to enable them to calculate any capital gains tax liability on disposal of depreciated property.
Disposal of a pooled asset - effect on the capital gains tax provisions
1.88 For the purposes of calculating the reduced cost base of an asset for the purposes of the capital gains tax provisions, namely, section 160ZK, the asset is treated as if it had not been pooled and only the difference between the consideration up to the original cost and the depreciated value was assessed for the purposes of section 160ZK. This prevents double deductions if the total consideration up to the original cost was assessed or rolled over by virtue of section 62AAT. [New section 62AAU]
Disposal of a pooled asset - effect on purchaser under section 60
1.89 Existing section 60 limits the depreciation allowable to a purchaser of depreciated property in some circumstances. If the total consideration up to the original cost was assessed under the new section 62AAN, the section 60 limit will be that amount. Subsection 62(2), which defines "depreciated value", will also apply as if the person had acquired the item at a cost equal to this amount. [New subsection 62AAT]
Other situations where an allocation may be cancelled
1.90 Some special depreciation provisions, namely the employee amenities and scientific research provisions, require an asset to be used solely or principally for a specific purpose. If, through a change in use of an asset (for example a change from use in employee amenities to use in other parts of a taxpayer's business) or for other reasons, the appropriate rate for a pooled asset becomes different from the pool rate, the allocation of that asset to the pool will be cancelled. [New section 62AAH]
1.91 If an item used in a taxpayer's business begins to be used for basic iron or steel production, it will become eligible for a different flat rate of depreciation under section 57AK. The allocation of the item to the pool must therefore be cancelled. [New section 62AAJ]
Cancellation of allocation to pool
1.92 In all cases where an item of property is removed from a pool during a year, the item is treated as if it had not been in the pool for the whole of the year. [New section 62AAL]
Transitional provisions
1.93 Property acquired, or, if constructed by the taxpayer, where construction commenced before 13 March 1991 will only be written off on the basis of its effective life calculated as before, but with access from the 1991-92 income year to broadbanding and pooling under the new provisions [Subclause 64(5)] . 100% depreciation is confined to property acquired, or, if constructed by the taxpayer, where construction commenced, on or after 1 July 1991 [Subclause 64(7)] . (100% depreciation is in any case confined to those items costing less than a limit, initially $300, or with an effective life of less than three years.)
1.94 Transitional provisions are included to take account of property still being depreciated under provisions which are now repealed [Clauses 67, 68, 69, and 70] . Other provisions provide for the application of the new rules to taxpayers with substituted accounting periods, that is, a tax year ending on a day other than 30 June. [Subclauses 64 (5), (6), (8) and (9)]
1.95 There may be property that is still being depreciated under provisions which are now repealed or amended. Paragraph 56(1)(b) - straight-line depreciation - was substituted by the Taxation Laws Amendment Act (No. 4) 1988. Sections 57AE, 57AH and 57AL were repealed by the Taxation Laws Amendment Act (no. 4) 1988. (They each gave special five or three year deductions. Section 57AE applied to certain on-farm storage facilities for grain, hay or fodder; section 57AH applied to new property used only for primary production; and section 57AL gave a five or three year deduction, depending on the rate that would otherwise have been available, for most kinds of depreciable property.) Section 57AG is repealed by this Bill. (It gave loading on the depreciation of property, and is superseded by the proposed subsection 55(6) under clause 16.)
1.96 Transitional provisions ensure that assets which still retain the option to switch depreciation methods under the repealed paragraph 56(1)(b) will continue to have that right. [Clause 68 and subclause 64(5)]
1.97 Property already being written off over three or five years under sections 57AE, 57AH or 57AL will continue to be written off in that way, without any extra loading or broadbanding under the new provisions [clause 67]. Property written off under section 57AH will still exclude employee amenities and plant used for scientific research [clause 69]. The choice of five or three year write-off under section 57AL will continue to be based on the rate of depreciation under the former section 55 [Clause 70].
Substituted accounting periods
1.98 For taxpayers with substituted accounting periods, transitional provisions provide for the different dates of effect which will apply for the year in which 1 July 1991 occurs.
1.99 For taxpayers with a substituted accounting period ending after 30 November, the income year from, say, 1 January 1991 to 31 December 1991 will be the 1991/92 income year. For that year, broadbanding and the standardisation of loadings will be available, any new depreciation rate will apply to assets acquired after 12 March 1991 from 1 July 1991, and 100% depreciation may apply to assets acquired on or after 1 July 1991.
1.100 For these taxpayers, assets acquired on or prior to 12 March 1991 should be treated under subclause 64(5), while assets acquired after 12 March should be treated under the formula in subclause 64(6). [Subclauses 64(5) and (6)]
1.101 Subclause 64(5) inserts the old unloaded prime cost rate into the step by step process in the new section 55, so that broadbanding and the standardisation of the loading will apply. Subclause (6) provides a formula using both the old and new effective lives, which are put through the step by step procedure in the new section 55, and then pro rated to work out a composite percentage.
1.102 For taxpayers with a substituted accounting period ending earlier than 1 December, the income year from, say, 1 November 1990 to 31 October 1991 will be the 1990/91 income year. For that year, broadbanding and the standardisation of loadings will not be available, but any new depreciation rate will apply to assets acquired after 12 March from 1 July 1991, and 100% depreciation may apply to assets acquired on or after 1 July 1991. For these taxpayers, assets acquired on or prior to 12 March 1991 should be treated under subclause 64(8), while assets acquired after 12 March should be treated under the formula in subclause 64(9). [Subclauses 64(8) and (9)]
1.103 Subclause 64(8) provides that the old depreciation rate will continue to apply as if the repealed section 57AG still applied without broadbanding. Subclause 64(9) sets out a formula incorporating the old and new effective lives, which are loaded as if the repealed section 57AG still applied, but are not broadbanded. The two resulting rates are then pro rated to work out a composite percentage for use in the calculation of depreciation for the 1990/91 income year.
Example
1.104 A company with a substituted accounting period ending on 31 December purchased an asset worth $100,000 on 1 April 1991.
1.105 The first step is to calculate the notional former annual depreciation percentage and the notional new annual depreciation percentage. Let's assume these are 12% and 60% respectively.
1.106 Using the formula in subclause 64(6), the annual depreciation rate for the asset would be (using months rather than days for the purpose of the example):
3/9 x 12 + 6/9 x 60 = 4 + 40 = 44%
1.107 In calculating the amount of depreciation allowable, the company would multiply the cost of the asset by 44% and by 3/4 to pro rate the claim:
$100,000 x 44% x 3/4 = $33,000.
Commencement dates
- •
- Applies from 1 July 1991.
- •
- Applies to property acquired after 12 March 1991 or, if constructed by the taxpayer, where construction commenced after 12 March 1991; but a taxpayer can only use the new rate from 1 July 1991 [Subclauses 64(4), (5), (6), (8) and (9)]
Broadbanding of rates and pooling
- •
- Apply for the 1991-92 and subsequent income years.
- •
- Apply regardless of when property was acquired or constructed. [Subclauses 64(4), (5), (6), (8), (9) and (10)]
- •
- Only applies to property acquired on or after 1 July 1991 or, if constructed by the taxpayer, where construction commenced on or after 1 July 1991. [Subclause 64(7)]
Clauses involved in the proposed amendments
Clause 15: Inserts a new subsection 54(2A) to ensure that an item subject to 100% depreciation is only allowed a deduction in the first year of use or installation ready for use.
Clause 16: Repeals existing section 55 and inserts new sections 54A and 55. These sections provide a definition of effective life and a step by step method of calculating the appropriate depreciation rate. The new subsection 55(3A) has been numbered with an "A" with the intention that the subsection be repealed when the scientific research provisions expire in 1995.
Clause 17: Amends section 56 to take account of new section 55 and ensures that an item eligible for 100% depreciation may be totally written off even if it is only used for the production of assessable income for part of the year of income.
Clause 19: Repeals existing section 57AG. Any residual effect of section 57AG is catered for by the transitional provisions in clause 64.
Clause 20: Amends section 57AK to take account of new section 55.
Clause 24: Inserts new sections 62AAB to 62AAV relating to the pooling of depreciable items of property.
Clauses 64, 67, 68, 69 and 70: Contain the commencement dates and transitional provisions for the depreciation amendments.
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