Calculation Methods of Decline in Value

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Production equipment has limited useful life and the amount of decline in value can be measured and expected reasonably, so it is a kind of depreciating asset. As defined in sis-60 of I ATA 1997, when the owner of the depreciating asset first uses it, it begins to decline in value, or installed it ready for use. Two methods, diminishing value method or prime cost method, can be applied to calculate the decline in value of a depreciating asset in accordance to sis-65 of I ATA 1997.

However it should be noted that the diminishing value method does not apply to intellectual property (sis-72 (2) (b) of I ATA 1997), it means that registered design could only use prime cost method to work out the decline in value. In addition, based on sis-130 of IOTA 1997 the method cannot be changed once it has been chosen. In conclusion, the goodwill cannot be deducted and the registered design and production equipment can be deducted as depreciating assets, the amount equals to the decline in value for an income year. B) According to the specific deduction provision, any work done to improve the asset over its original state is “improvement” and its cost belongs to capital expenditure. And the way of depreciation for capital expenditures can be divided into two main divisions: depreciating asset and capital works. In line with sis-20 of I ATA 1997, capital works include structural improvement since 27/2/1992 such as sealed road/driveways, bridge, pipelines and dams. In the case of Bishops Ltd, the company voluntarily paid $8 million to upgrade a public road for one year, which can be used for 10 years.

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Therefore, upgrading the road belongs to capital work. Furthermore, 543-10 (2)(a) and sis-10 (2)(b) of I ATA 1997 state that the deduction for capital works applies when the capital works have construction expenditure area, pool of construction expenditure and it is also eligible to use. In the Bishops case, the road is the construction expenditure area because ‘it is a part of capital works on which the construction expenditure was incurred and was to be owned or leased by the entity: sis-75’.

Moreover, $8 million is the construction expenditure attributable to the construction expenditure rear in sis-85, so it is the pool of construction expenditure. Last but not least, the company is eligible to use the road because it is public. In conclusion, the $8 million capital work is deductible. Moreover, as shown in sis-30, deduction can be only applied when the construction of capital work is completed and any usage before completion is ignored. According to sis-210, deduction is based on the construction expenditure, i. E. $8 million in this case. The rate of deduction is either 4% or 2. % depends on the type of capital works, the use of the “construction expenditure area” and the commencement date of the capital ark. (c) According to the 58-1 1 ATA 1997 of general deduction, if any loss or outgoing is capital in nature, it is not deductible. In the Bishops Ltd case, the company spent $200,000 on a feasibility study, the amount is capital in nature, therefore, $200,000 is not eligible to the general deduction under SO-1. However, the amount of $200,000 neither satisfies the deduction requirement under SO-1 nor meets the recognition criteria for tax purpose.

As summarized by TAT, there is a systematic treatment for capital expenses, which is called black hole expenditure. Hence, $200,000 is a “black hole” expense. 40-880 provides taxpayers with a deduction for the business expenses that are not deductible because they are capital in nature, which denotes to the expense of $200,000 in our case. And according to sis-880 (2), taxpayers are entitled to deduct the capital expenses in relation to a business proposed to be carried on over a period of five years in equal proportion.

In the case, Bishops Ltd is considering of a joint venture plan with a manufacturer in China, the amount of $200,000 on feasibility study is the expenditure tries to change company’s business structure to another, which relates to the proposed business. According to the objective test determined on a case-by-case basis, the company has a business plan and performs research of the joint venture, if the study turns out to be profitable, it is rational to conclude that the joint venture is to be carried on within a reasonable time.

Even though the plan was eventually rejected by the board of directors, it is still deductible under sis. Therefore, the Bishops Ltd is entitled to a deduction of $40,000 per year over the next five years as the expenditure is capital in nature relating to the proposed business to be carried on the purpose of gaining or producing assessable income, just as the case of Brewster Pity Ltd. (d) This case should be considered in two scenarios. The first is that the stock is purchased at the beginning of the year; another is that the opening stock is carried forward from last year.

Specifically, the acquisition cost of trading stock is deductible by the taxpayer pursuant to so-1 1 ATA 1997 if it is purchased at the beginning of the year. In this case, according to the All States Frozen Foods Pity Ltd v FACT (1990) 20 TAR 1874, the stock is on hand at the beginning of the financial year since the power to control and own the stock belongs to he taxpayer who takes the risk of the stock simultaneously. Therefore, the cost of acquisition ($29 million) can be deducted when the trading stock is “on hand” (sis- 15 IOTA 1997).

In addition, the trading stock, at the end of the year, is “on hand” as taxpayer has the ability to dominate the stock due to disposition power: Farnsworth v FACT (1949) 78 CLC 504. Hence, the company has a year-end adjustment under sis- 35. As the value of opening stock ($29 million) is larger than that of ending stock ($12 million), the taxpayer can deduct the difference between opening and ending stock in accordance with sis-35 of I ATA 1997. As a result, the amount of adjustment is $1 7 million ($29 million- $12 million).

Nevertheless, the taxpayer cannot deduct the acquisition cost of trading stock if the stock is carried forward from last year. That is to say, only the adjustment of $17 million, which is the difference between opening stock and ending stock, is deductible at the end of the year as the stock is “on hand” in accordance with sis-35 of IOTA 1997. (e) The legal fee that the company spent is an outgoing. Simultaneously, it meets the requirement that it is essential to incur to gain or produce assessable income urine the business operation, which is second positive limb offs-1 1 ATA 1997.

However, in the light of so-1 (2) I ATA 1997, it cannot be deducted under so-1 as it satisfied the first negative limb of so-1 IOTA 1997. That is ‘capital or capital in nature’. Moreover, the three factors proposed by Dixon J in the case of Sun Newspapers can be utilized to differentiate expenses connected to business processes from those are linked to business structure. The first factor is the character of the advantage sought. The legal expenditure of $80,000 the taxpayer spent to issue shares which raises working capitals for the company can bring he long-term benefit to the company.

Hence, it is, to a great extent, a capital expense. The second one is the manner in which the benefit is to be used or enjoyed. The benefit obtained once and for all by the company, and therefore, it can be recognized as a capital expense. The last one is the means adopted to obtain the benefits. The expenditure is more likely to be a capital expense as it is paid in one lump sum payment. Therefore, it seems probable that the legal expense is a capital expense based on the aforementioned three factors.

Moreover, the shares are issued in order to acquire working capital which can be seed to improve production (producing shoes) and it is associated with income- producing structure. As a consequence, the legal fees are capital expense. Moreover, it is necessary to confirm whether the capital expenditure meets the business nexus examination under sis-880 (2) IOTA 1 997 (Nicholas 2009). In this case, the legal fee incurred has a nexus with the taxpayer’s existing business, which satisfied one of the requirements. As indicated in sis-880 IOTA 1997, the taxpayer is entitled to deduct business expenditure that is ‘capital or capital in nature’.

Furthermore, the expenses are equally divided and deducted over the five years based on sis-880 (2). Consequently, the amount of legal fees that are deductible is $16,000 ($80,000/5 years). (f) According to s 104-35 (1) of IOTA 1997, ‘CAT event ODL happens where a taxpayer creates a contractual or other legal right in another entity. Therefore, Bishops Ltd and its competitor entered into a restrictive covenant that prevents its competitor from selling shoes in the state for three years, which is belongs to CAT event ODL . Furthermore, the agreement is an intangible asset to Bishops.

Additionally, Anonymous (2001) asserts that the placement of a restrictive covenant will give rise to an assessable capital gain, so its competitor has an assessable capital gain of $1 0 million when the agreement comes into form. In terms of deduction, the $10 million payment of Bishops Ltd was for strengthening the business organization and affecting the capital structure and the structure v process test can be used to prove the payment to be capital expense. In addition, the Sun Newspaper case also stands on a support view of the capital expense nature of the payment.

Therefore the payment is not deductible under so-1 IOTA 1997. After three years when the legal right expires, CAT event CO will happen in accordance to SSL 04-25 (1) I ATA 1997, which states CAT event CO, covering cancellation, surrender and similar endings, happens where the taxpayer’s ownership of an intangible asset ends by expiring. The reduced cost base is the acquisition cost of $10 million (SSL 10-25 IOTA 1997), and the proceeds will be $0, therefore the capital loss of Bishops Ltd will be $10 million accordingly.

Moreover the $10 million capital losses can be used to offset capital gains generated by Bishops Ltd (SSL 02-15 1 ATA 1997). G) As defined in sis-30 (1 ), ‘depreciating asset is an asset which has a limited effective life and can reasonably be expected to decline in value over the time that is used’. Common example of depreciating assets includes cars. Therefore the Audio Bishops Ltd bought which can meet the definition of cars in sass-1 I ATA 1997 is a depreciation asset.

So the Bishops Ltd can enjoy a deduction in relation to the Audio. According to sis-25 (1): ‘The amount of the deduction is equal to the decline in value for an income year of the car that is held by the taxpayer any time during the year’. First of all, Bishops Ltd is the legal owner of the Audio and held it, therefore Bishops is entitled to the deduction for the decline in value of the Audio (sis-25 IOTA 1997). Secondly, the cost of the car is $200,000. It is the amount Bishops paid to hold the car: 540-185(1) item.

Thirdly, the effective life of the car can be assessed based on taxpayer’s choice in accordance to sis-95 (1) IOTA 1997, that means Bishops Ltd can either self- assessing the effective life or refer to the Commissioner’s figure: TURRET/4. Fourthly, the decline in value of the Audio is calculated from the start time: s 40-60 f I ATA 1997, using either diminishing value method or the prime cost method: s 40-65. However, according to sis-230 ‘ATA 1 997, the car limit for 2013-14 is $57,466.

So when calculating decline in value using both methods, the base value should be reduced to $57,466 instead of $200,000. Last but not least, as defined in sis-25 (2) I ATA 1997 the amount of the deduction is reduced for any use of the asset for a non-taxable purpose. In other words, it should subject to apportionment rule. In this case, Bishops Ltd uses the car for 10% of the time for private purpose and it is not considered to be used in the production of assessable income therefore not for tax purpose: sis-25 (7). So the deduction amount should be multiple by 90%.

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