TR2024/1 Treatment of composite items for tax depreciation purposes

The Australian Taxation Office (ATO) has finalised a ruling (TR 2024/1) on the treatment of composite items for tax depreciation purposes. This ruling provides guiding principles and examples to help taxpayers apply a ‘functionality test’ to determine whether a composite item is a single depreciating asset or if its components should be treated as separate depreciating assets.

Summary:

• Functionality Test: The ruling introduces a 'functionality test' to help determine if a composite item functions as a whole or if its parts operate independently. This test considers the actual function the item serves in the taxpayer's income-producing activity and whether the item is complete in itself or dependent on other items.
• Guiding Principles: The ruling provides principles to assist in applying the functionality test:

1. A depreciating asset typically performs a separate, identifiable function within its business context.
2. An item can be a depreciating asset without being self-contained or used on a stand-alone basis.
3. The more integrated an item is with other components, the more likely it is to be considered a composite item.
4. If attaching an item to another changes its function, the attachment is likely a separate depreciating asset.
5. Items purchased to function together as a system are usually considered a composite item.

• Modifications and Alterations: Modifications or alterations to existing depreciating assets can be separate depreciating assets if they substantially alter the original asset or serve a new function. However, minor alterations or repairs that don't change the overall function are generally not separate depreciating assets.
• Joint Holding Rules: The ruling clarifies that joint holding rules in section 40-35 of the Income Tax Assessment Act 1997 apply to composite items, allowing for depreciation to be calculated separately on each taxpayer's interest in the asset.
• Examples Provided: The ruling includes 14 examples to illustrate the application of these principles to various assets, such as industrial storage racking, computer systems, aircraft engines, and solar power systems.

Impact and Recommendations:

Taxpayers should review their existing depreciating assets and planned acquisitions or disposals in light of this ruling. This review is necessary to ensure proper identification of the relevant depreciating asset for capital allowances purposes, which affects the rate of depreciation deductions. Adjustments to depreciation claims or tax asset registers may be required.

If you have any queries or need assistance in identifying what constitutes a component or understanding its treatment under the new ruling, TDQS - Tax Depreciation & Quantity Surveyors can help. TDQS specialises in helping property investors maximize their depreciation with fixed asset register tools and accelerate the growth of their property portfolios. They can provide expert guidance on applying the functionality test and interpreting the ruling for your specific assets.