QB 12/01: Income tax - deductibility of expenditure on replacing and extending an inlet race to a dairy shed
Income tax - deductibility of expenditure on replacing and extending an inlet race to a dairy shed
All legislative references are to the Income Tax Act 2007 unless otherwise stated.
This QWBA applies in respect of s DO 4 and Sch 20.
This item updates and replaces the item "Inlet Race to Milking Shed, Renewed and Extended" published in the Public Information Bulletin No 22, p 9 (May 1965). The current relevance of this information was identified during an ongoing review of content published in Public Information Bulletins and Tax Information Bulletins before 1996. For more information about the review, please see "Review of Public Information Bulletins" in Tax Information Bulletin Vol 23, No 1 (February 2011).
An inlet race that connects a stock race to a dairy shed complex is inadequate and in very poor condition. The dairy farmer is replacing and extending the old inlet race in concrete. How is the expenditure on replacing and extending the inlet race treated for income tax purposes?
The cost of constructing the new inlet race is a capital expense that can be amortised on a diminished value basis at 6% under s DO 4 and Sch 20, Part A, Item 4 as "construction of access roads or tracks to or on the land".
The inlet race to the dairy shed yard is a separate item to the dairy shed complex itself. It is physically separate. In addition, it performs a separate function in that the race is a form of road or path used for the herd to walk to and from the dairy shed complex, ending at the entrance to the dairy shed holding yard. The dairy shed complex itself, including the yard, is the actual setting for milking. For further information on this point please see Interpretation Statement IS0025 "Dairy farming – Deductibility of certain expenditure" published in Tax Information Bulletin Vol 12, No 2 (February 2000) at p 10.
There is no question that this is, in the circumstances, capital expenditure and not repairs and maintenance.
A stock race is the track or path along which the cows walk from the paddocks to the dairy shed (and vice versa), ending at the entrance to the dairy shed holding yard. This race may run for some considerable distance through the farm and along farm road frontages. It is designed to confine the herd during its daily treks to and from the dairy shed, and prevent undue damage to pastures. A stock race may be constructed of a variety of materials such as shingle, or compacted limestone or pumice rock. Sometimes a stock race will end in an inlet race, which connects the stock race to the dairy shed complex. An inlet race generally requires a more hard-wearing surface because of frequent and intensive use. Sometimes an inlet race may have a concrete surface. For further discussion about stock races see IS0025 (at p 18-19).
Several provisions are relevant in determining whether farm expenditure is deductible. If the expenditure is revenue in nature it is deductible under the general permission (s DA 1). Expenditure that is capital in nature cannot be deducted under the general permission because of the capital limitation (s DA 2(1)). Various factors are relevant in determining whether expenditure is capital in nature: BP Australia Ltd v FCT  3 All ER 209; CIR v Thomas Borthwick & Sons (Australasia) Ltd (1992) 14 NZTC 9,101 (CA); Christchurch Press Company Ltd v CIR (1993) 15 NZTC 10,206; CIR v Wattie (1998) 18 NZTC 13,991 (PC); and CIR v Birkdale Service Station Ltd & Ors (2000) 19 NZTC 15,981 (CA). It is considered in general:
Therefore, if a taxpayer incurs expenditure on maintaining or repairing an inlet race the expenditure will be deductible under s DA 1.
The cost of work done to an asset to make good ordinary wear and tear and restore it to its former condition will usually be deductible.
Where the work done replaces or renews the whole, or substantially the whole, asset or changes the character of the asset the cost of that work will be capital expenditure.
In this situation, however, the farmer incurs expenditure on replacing and extending the inlet race in concrete. This expenditure is capital in nature and is not deductible under the general permission. Under s DO 4 (Improvements to farmland) a person carrying on a farming or agricultural business on land in New Zealand is allowed a deduction for certain types of expenditure listed in Part A of Sch 20. Such expenditure will be deductible where it meets the requirements of s DO 4. In particular, such expenditure will be deductible when it is incurred in developing land and is of benefit to the business in the income year in which the person is allowed the deduction. Section DO 4 overrides the capital limitation: s DO 4(7).
Section DO 4 allows a certain percentage of the expenditure to be deducted on a diminished value basis. The particular percentage for the item of expenditure is specified in Sch 20, Part A. Schedule 20, Part A (Farming) lists at Item 4 the "construction of access roads or tracks to or on the land". The percentage of diminished value of improvement allowed as a deduction for the construction of access roads or tracks to or on the land is 6%. Section DO 4 therefore does not allow a full deduction of the cost of constructing access roads or tracks to or on the land in the year in which it is incurred, but as specified in Sch 20, Part A, Item 4, a deduction of 6% of the diminished value is available in each year.
This treatment of the expenditure on replacing and extending the inlet race can be contrasted with the treatment that applied at the time the original PIB item was published. At that time, s 119D of the Land and Income Tax Act 1954 permitted a deduction for expenditure on the construction of access roads or tracks to or on the land in the year incurred. This section has been superseded by several legislative amendments. As explained above, under current legislation, a deduction is now allowed for expenditure incurred in relation to construction of access roads and tracks on farms on an amortised basis.
Public Information Bulletin No 22, p 9 (May 1965)
IS0025 "Dairy farming – Deductibility of certain expenditure" Tax Information Bulletin Vol 12, No 2 (February 2000)
Income Tax Act 2007, ss DA 1, DA 2, DO 4, Sch 20
Tax Information Bulletin Vol 23, No 1 (February 2011)