Capital Gains tax: Cost base: fourth element of cost base

Does an underground power levy paid by a taxpayer form part of the cost base of the taxpayer's property under subsection 110-25(5) of the Income Tax Assessment Act 1997 (ITAA 1997)?

Yes the levy will form part of the fourth element of the cost base of the property under subsection 110-25(5) of the ITAA 1997 provided the improvement is reflected in the state or nature of the property at the time it is actually disposed of.

The taxpayer owns a rental property that was acquired after 20 September 1985.

The electricity supply to the property was converted from overhead mains to underground power through a joint state government and local council project by the installation of underground cables.

The taxpayer contributed to the local council's capital works cost by way of levy.

Subsection 110-25(5) of the ITAA 1997 provides that the fourth element of the cost base of a CGT asset is that capital expenditure incurred to increase the asset's value, provided the expenditure is reflected in the state or nature of the asset at the time of the CGT event.

Expenditure incurred for capital improvements to post-CGT land will not be included in the cost base of the land if the capital improvement is considered to be a separate CGT asset. As neither of subsection 108-70(1) or section 108-60 of the ITAA 1997 apply in relation to the cabling it is not a separate asset for CGT purposes

Subsection 108-70(1) does not treat the cabling as a separate asset because none of the balancing adjustments contained in section 108-55 of the ITAA 1997 apply to it. Section 108-60 of the ITAA 1997 will not apply in this case as the cabling is not a depreciating asset that is part of a building.

For expenditure to be included in the fourth element of the cost base of an asset under subsection 110-25(5) of the ITAA 1997, it must be incurred 'to' enhance the value of the asset; i.e., for the purpose of enhancing the value of an asset. It is immaterial whether or not the expenditure in fact enhances the value of the asset.

The expenditure must be reflected in the state or nature of the asset at the time a CGT event happens to the asset. Therefore, for example, expenditure on an improvement that has been demolished prior to the disposal of the asset would not be taken into account to any extent. If the improvement only partially remains at the time of the CGT event, only an appropriate part of the expenditure incurred in making the improvement can be taken into account in calculating the cost base of the asset.

Expenditure must be reflected in the state or nature of the asset, not necessarily in its value, at the time of the disposal. For example, even though the improvement may have deteriorated to a worthless condition before the time of the disposal, the expenditure on the improvement would nevertheless qualify providing the improvement was still in place.

Therefore if the cabling were reflected in the state or nature of the property at the time it was disposed of the levy charged in respect of the cabling would form part of the fourth element of the property's cost base. Note: There have been changes made to the fourth element of cost base in Tax Laws Amendment (2006 Measures No. 1) Act 2006 so that the reasoning above is not relevant to the determination of whether an expenditure incurred can be included in the fourth element of the cost base of an asset for which a CGT event happens on or after 1 July 2005.