Capital gains counting as assessable income?

I've been thinking a little about the question of whether capital gains count as assessable income, for the purposes of establishing whether the losses on an investment could be generally deductible, per Fletcher, etc.

S. 51AAA tells us that capital gains don't count as assessable income for the purposes of establishing whether an expense is deductible in a particular year.

But, per the Ormiston ruling:

"The respondent [ATO] suggested [the reason Ormiston spent 4 years slowly renovating the property was] either engaging in a hobby of home renovation or to protect the capital value of the investment property. If the latter, it would be reasonable to extend the motive to realisation of a profit on a subsequent sale of an improved property. Such a profit would be, in whole or in part, taxable income. While it is common for taxation on profits on sales of assets to be referred to as ``capital gains tax','' there is no tax by that name, solely the inclusion of all or part of a profit in assessable income."

So, why did the AAT ignore S.51 AAA?

Incidentally, this is purely an academic exercise for me, it's not related to any particular property.

Cheers
Jonathon
 
The case was regarding preparation of an IP.

The Commissioner was trying to sever the link between the future assessable income from rent by arguing the expenses were preliminary to any actual income activity, or alternativley that the purpose was to realise the property by sale - which is on the capital account.

Cheers,

Rob
 
It seems like you are in an endless loop of analysis paralysis :eek:

Time to get up and have a break :)


I've been thinking a little about the question of whether capital gains count as assessable income, for the purposes of establishing whether the losses on an investment could be generally deductible, per Fletcher, etc.

An investment loss can be deductible:
- Income loss can be offset against income or capital gains
- Capital loss can only be offset against capital gains

S. 51AAA tells us that capital gains don't count as assessable income for the purposes of establishing whether an expense is deductible in a particular year.

The key determinants for Expense deductibility are Purpose (must relate to Income producing activities) and Timing (Expensed vs Capitalised).

Capital gain is irrelevant. It only serves as a trigger as to when capitalised expenses can be claimed.

But, per the Ormiston ruling:

"The respondent [ATO] suggested [the reason Ormiston spent 4 years slowly renovating the property was] either engaging in a hobby of home renovation or to protect the capital value of the investment property. If the latter, it would be reasonable to extend the motive to realisation of a profit on a subsequent sale of an improved property. Such a profit would be, in whole or in part, taxable income. While it is common for taxation on profits on sales of assets to be referred to as ``capital gains tax','' there is no tax by that name, solely the inclusion of all or part of a profit in assessable income."

Capital gain is always part of assessable income.
 
Its actually a very important legal distinction for "purpose".

Where an expense has a sole purpose of producing a capital gain, it is not an allowable deduction under s.8-1, notwithstanding that net capital gains are assessable income under s.102-5.

That is why the 3rd element of the cost base of a CGT asset used to be called "non-capital costs of ownership". Now its referred to as "holding costs", and refers to costs which appear recurrent and of a revenue nature but they relate purely to eventual derivation of a capital gain.

e.g. For a vacant block of land held on the capital account, you had to capitalise the rates and interest expense even though you intend to sell the land for a capital gain for which you will be assessed.

Cheers,

Rob
 
Where an expense has a sole purpose of producing a capital gain, it is not an allowable deduction under s.8-1, notwithstanding that net capital gains are assessable income under s.102-5.

Indeed - but what about when a capital gain is a significant part of the purpose for the expenditure?

If I buy a fully geared $500k investment property with a low yield, say 2.5%, but the expectation of a very significant capital gain after 10 years, say 7% pa growth, the total assessable income, excluding the capital gain, is negative. ($259k in my worked example over 10 years)

However, the assessable income including the capital gain is positive. (A capital gain of $434k, before the 50% discount)

So, clearly in this case, the motive is to generate capital gain, and thus the interest, rates, etc should not be deducted...except perhaps to the entent they're covered by the rent.

I reckon there's very little chance of the commissioner trying to push this view, unless the Govt of the day were trying to reduce negative gearing through the back door, but it's interesting all the same.
 
S.51AAA has no apportionment instructions.

Government policy is to allow negative gearing for resident individuals.

Hence the very vague and dubious wording of TR 95/33 paragraph 16 & 46 as the Commissioner tries to legally rationalise this practice to avoid conflict with such policy. Without spelling out that a capital gain forms part of the consideration it seems very hard to justify most negatively geared acquisitions.

Of course, you could launch your own legal challenge to negative gearing !!!

Cheers,

Rob
 
.... If I buy a fully geared $500k investment property with a low yield, say 2.5%, but the expectation of a very significant capital gain after 10 years, say 7% pa growth, the total assessable income, excluding the capital gain, is negative. ($259k in my worked example over 10 years) ...

Jonathon,

Are you trying to work out how the wheel works???

You can choose to be either:

(1) A lemmings at the receiving end of the tax feeding system that has helped build all great governmental buildings and monuments and pyramids and the legends of the great rulers,

OR,

(2) An elite at the top who makes rules and baths in the best savoury the world can offer

Statistic has shown 95% of population belongs to group (1), 3% break even (not 1 nor 2) and only 2% gets to (2).

Becoming (1) is automatic whereas becoming (2) requires hard work and due diligence from early days.

Which one do you want to be?

:)
 
Rob G and kenster

Thanks for making me laugh! No I don't want to challenge negative gearing and I certainly want to be in Kenster's 5%!

As I said in my first post, this was a purely adacemic thought exercise on my behalf, probably driven by being sick of Tiger mania in Melbourne...I'm a golfer, member of a golf club and a fan of tiger, but the media in this city have gone way overboard!

Have a good weekend all!
 
So, clearly in this case, the motive is to generate capital gain, and thus the interest, rates, etc should not be deducted...except perhaps to the entent they're covered by the rent.

Of course, it can be argued that no "capital gain" is realisable until sale. We talk about achieving it on this forum, but legally there is no paper "capital gain." Perhaps your purpose is not to sell but instead to live off equity, for example. This should protect deductability.
 
as the Commissioner tries to legally rationalise this practice to avoid conflict with such policy
This is a political form of cognitive dissonance, trying to rationalise two policies that obviously conflict with each other. :D

Yes the Romans gave us roads, education, and a higher standard of living, but there's no way they ever did anything for us!

GP
 
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