| Instructions: | Answer the question directly in the answer booklet provided.
Please write clearly and in pen. You are allowed to use the Master Tax Guide or New Zealand Taxation 2017. There must be no notes on the textbook. |
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| Summary of paper: | Question | Topic | Marks |
| 1 | Deductions | 10 | |
| Total | 10 | ||
Learning Outcomes:
Critically reflect on the framework in which taxation is administered in New Zealand.
Understand and evaluate fundamental tax concepts relating to income and deductions.
Analyze and evaluate relevant New Zealand legislation and case law to compare and contrast the tax obligations of individuals, partnership, trusts and companies.
Critically reflect on taxation problems arising in relation to individuals, business entities, trading structures, and communicate appropriate technical advice in relation to these problems.
Critically examine the impact of selected contemporary tax issues on practice
Scenario:
Jin and Arthur have been married for several years. They moved from Christchurch four years ago and are now staying in Mt Eden. Jin is a lecturer at a university in Auckland while Arthur is a Sales Manager for a pasta business. Two years ago, the couple purchased their first rental property in Mt Albert for $595,000. The property is a two-bedroom house with a land area of 950sq metres. The attraction in buying this property was its capability of being subdivided. Shortly after purchase, the couple managed to find tenants who moved in within two weeks. The tenants were initially paying $590 per week which has now increased to $650 per week. Every three months, Jin inspects the rental property to see if the tenants are looking after the property. To date, there have been no major structural issues with the rental property. Last week, one of the tenants contacted Jin to advise that the roof appears to be leaking. This has resulted in damages to the tenant’s furniture.
Jin has contacted Dave of Roofs R Us who has inspected the rental property and advised that the tiled roof needs to be replaced as there are lots of missing, broken and leaking tiles. The cost of repairing the roof is $4,500. The couple also received two other quotes of $5,500 from Repair Roofs and $5,100 from No Roof Leaks. Jin discusses this matter with Arthur and both have agreed to get Roofs R Us to repair the roof. Dave and his team successfully complete the work and invoice Jin and Arthur who duly pay the amount of $4,500.
Required:
Explain to Jin and Arthur on whether the expenditure is of a revenue or capital nature. You are expected to apply the relevant sections of the Income Tax Act and the tests from BP Australia.
Issue:
Is the expenditure incurred in repairing the roof deductible for income tax purposes?
Facts:
The students need to extrapolate only the key relevant facts that assist in understanding the issue. The movement from Christchurch and their employment status are extraneous to the question.
Theory:
Identify the relevant sections of the Income Tax Act 2007 and any tax cases
- BP Australia v F C of T
- Inland Revenue v McKenzies Ltd
- British Insulated and Helsby Cables Ltd v Atherton
- Section DA1
- Section DA2
Application:
The following tests came out of BP Australia
- The character of the advantage sought (Whether an enduring benefit is obtained, whether an asset is gained)
- The manner in which the product of the expenditure is to be used (Whether it is to be used in a recurring manner):
- The means adopted to fund the expenditure (Whether the expenditure is funded from fixed or circulating capital, whether payment is periodic, one-off or spread over time):
- Whether the expenditure is in relation to the profit-yielding structure or the process used to obtain regular returns:
- All the considerations will be taken into account and balanced against each other in order to determine whether a particular agricultural expenditure is of a capital or revenue nature.
From the information provided, it is argued that the expenditure is of a revenue nature. The repair of the roof is probably a result of normal expenditure. It is one off and does not involve the alternation of the capital structure of the asset. The repair undertaken is necessary from a health and safety perspective and cannot be delayed or deferred. It can be argued that the expenditure is reflective of the age of the asset and is paid from circulating capital. While it is accepted that the current repair will increase the useful life of the roof, the key is what has given rise to the expenditure. There is no new asset created. The actual asset here is the house and the asset that is being referred to is the roof. The roof is an integral part of the asset and is incapable of functioning independently.
Marks are awarded for the quality and brevity of the responses.
If the students felt that the expenditure was of a capital nature and were able to mount compelling legal arguments, this was recognised and rewarded.
The key is the understanding of the law and applying the key precedents from BP Australia
