Capital Allowances: business related costs - to raise equity for your business - extent business is, was, or will be carried on for a taxable purpose

Is the deduction under subsection 40-880(1) of the Income Tax Assessment Act 1997 (ITAA 1997) reduced because a business holds a substantial number of shares and the only dividend income that can be received from those shares is not assessable income?

Yes. The deduction under subsection 40-880(1) of the ITAA 1997 is reduced to the extent that the shares are held as part of carrying on the business of the taxpayer.

The taxpayer incurred capital expenditure to raise equity for their business through the issue of shares.

The taxpayer is an Australian resident company that carries on business in Australia.

The taxpayer also carries on business in another country through a wholly owned offshore subsidiary company. The activities of the subsidiary, including the potential for growth, are an important part of the business of the taxpayer group. Investors in shares in the taxpayer also invest in the business conducted through the subsidiary.

The taxpayer receives some interest and fee income from its subsidiary. Any dividend income received from the subsidiary will not be assessable income.

Subject to other requirements of section 40-880 of the ITAA 1997, paragraph 40-880(1)(c) of the ITAA 1997 provides a deduction for capital expenditure incurred to raise equity for your business to the extent that the business is, was or will be carried on for a taxable purpose.

So far as is relevant here, taxable purpose means the purpose of producing assessable income (subsection 40-25(7) of the ITAA 1997). Something is done for the purpose of producing assessable income if it is done for the purpose of gaining or producing assessable income or in carrying on a business for the purpose of gaining or producing assessable income (subsection 995-1(1) of the ITAA 1997). A deduction under subsection 40-880(1) is therefore available to the extent that the business is, was or will be carried on for the purpose of gaining or producing assessable income.

The purpose for which the business is carried on may be determined by considering the activities that are currently carried on and reasonably expected to be carried on by the business. It is all the activities that are a part of carrying on the business both now and into the future that must be considered, and whether those activities are for the purpose of gaining or producing assessable income. It is the scope of the business activities and the extent to which they have, or are likely to produce assessable income, that is important and not simply the actual receipt of assessable or other income.

In this case the activities of the offshore subsidiary company are a significant element of the taxpayer's overall business. Potential for growth in the activities of the subsidiary has also been identified as important to the overall business of the taxpayer into the future. The Prospectus for the share issue made it clear that investors in the taxpayer also invest in the business of the subsidiary.

The business of the taxpayer includes holding the shares in its offshore subsidiary as a strategic part of its overall activities. The dividend income from these shares will not be assessable income. The business of the taxpayer is not and will not be carried on for a taxable purpose to the extent that holding these shares forms part of the business of the taxpayer and the deduction available under subsection 40-880(1) of the ITAA 1997 is reduced accordingly.