• 279 Online
  • 23372 Members
  • 27464 Posts

ATO Community

Depreciating Assets and Capital Gains - Confused by ATO example given

Ask a question
Highlighted

Newbie

Views 190

Replies 3

Hello all,

My question relates to information contained on the following ATO page:

https://www.ato.gov.au/General/Capital-gains-tax/Working-out-your-capital-gain-or-loss/Depreciating-...

 

Specifically, in relation to this section about CGT for depreciating assets:

 

"Depreciating asset not in a low-value pool

If your depreciating asset is not a pooled asset, you calculate a capital gain as follows:

You calculate the capital loss as follows:

In these formulas:

  • 'sum of reductions' is the sum of the reductions in your deductions for the asset's decline in value that is attributable to your use of the asset, or you having it installed ready for use, for a non-taxable purpose
  • 'total decline' is the decline in value of the depreciating asset since you started to hold it.

Example: Capital gain on depreciating asset

Larry bought a truck in August 2016 for $5,000 and sold it in June 2018 for $7,000. He used the truck 10% of the time for private purposes. The decline in value of the truck up to the date of sale was $2,000.

The sum of his reductions relating to his private use is $200 (10% of $2,000). Larry calculates his capital gain from CGT event K7 as follows:

  • ($7,000 − $5,000) × (200 ÷ 2,000)
  • = $2,000 × 0.1
  • = $200

Capital gain from CGT event K7 = $200 (before applying any discount).

Larry isn't registered for GST, so the elements of the cost base are not reduced by the amount of any GST input tax credits included in the cost."

 

Question:

 

In the above example, which is on the ATO website, they list the cost as $5000 and termination value as $7000.

 

In relation to the cost, this is the original purchase price of the truck (disregarding the $2000 in deductions obtained through depreciation). That is, the cost, as outlined above, has not taken into account the fact the person has already deducted $2000 (through depreciation).

 

My question is:

 

Why hasn’t the cost been adjusted to account for deductions already obtained (that is, the $2000 already deducted on account of deprecation). My understanding is deductions obtained are generally excluded from the cost/cost base, to account for the fact the person has already obtained a deduction from the ATO. Subsequently the cost should be reduced from $5000 to $3000 to account for this (the adjustable value to account for deductions already obtained).

 

My understanding was that based on the above example, contrary to what is stated on the ATO website, the person would liable for the following:

 

Balancing Adjustment

$3,600 in assessable income, by way of a balancing adjustment amount (based on balancing adjustment event for a depreciating asset used 90% of the time for a taxable purpose). Or in other words, 90% of the termination value of $7000 minus the adjustable value (cost) of $3000.

Capital Gains Tax

$400 in capital gains tax, being 10% of $4000 ($7000 termination value minus cost of $3000, which is the adjustable value/cost to account for deductions already obtained).

---

The example provided by the ATO does not make sense to me and seemingly disregards the deductions already obtained. This is strange to me as it seemingly results in the person being under taxed. That is, it doesn’t take into account the deductions obtained at all, overinflating the cost and totally disregarding the deductions for depreciation.

 

I am hoping there is someone out there who can explain why the example completely excludes the deductions from the cost/cost base.

From a logical standpoint, the person should be liable for $400 in capital gains tax (for private use) and not $200. Likewise, they should be liable for $3600 by way of a balancing adjustment (for taxable use), not $1800.

 

If the above ATO example is correct, and you disregard the $2000 worth of deductions when calculating the cost/cost base of the asset, this results in the ATO collecting (net) no revenue from this sale. That is, the $2000 in deductions originally claimed in deprecation are merely re-assessed as income by way of $1800 balancing adjustment amount (for 90% relating to taxable purpose) and $200 capital gain (10% relating to private use). This can’t be right? Especially considering the sale price of $7000.

 

The total amount which has to be assessed is $4000, being the termination value ($7000) minus the adjusted value/cost of $3000 ($5000-$2000). Only this will result in the ATO collecting revenue based on the sale price of $7000.

 

Confused… please help. I can only assume there is some ruling which states you don’t have to adjust the cost/cost base to account for deductions claimed on motor vehicles, but then this results in no revenue to the ATO. Surely this can’t be right.

 

Why does the ATO always provide the worst examples and never fully detail their reasoning.

1 ACCEPTED SOLUTION

Accepted Solutions

Best answer

ATO Certified

Community Support

Replies 2

Hi @cutty,

 

Welcome to our Community and thanks for your patience whilst we checked information with a specialist area.

 

Firstly, you are correct that the balancing adjustment amount is $3600 in the example.
 
The reason why only $200 and not $400 is not taxed as CGT is because of the formula that is used in the CGT rules.
 
The CGT cost base of depreciating assets has a special rule that is different to normal CGT cost base rules.
 
The key point is that for depreciating assets, the CGT cost base of a depreciating asset is its cost for depreciation purposes.
 
The rules for the interaction of CGT and depreciation on sale of a depreciating asset are designed to apportion taxation between CGT and depreciation balancing adjustments according to the percentage of income related and private use over the time of ownership of the asset. That is, to the extent that an asset was used privately, CGT applies to that percentage of the gain. To the extent that the asset was used for producing income, that remaining percentage applies to the balancing adjustment calculation under depreciation rules.
 
For depreciation purposes, as with the example cited, the balancing adjustment amount is $3600 -90% of (sale price less original cost + amount of depreciation claimed) or 90% of (7000-5000+1800).

 

For CGT purpose, the CGT amount is $200 -10% of (sale price less original cost) or 10% of (7000-5000).
 
In essence, the real gain of $2000 (7000-5000) is taxed 10% under CGT ($200) and 90% under depreciation ($1800) - as a fully taxable balancing adjustment event. We then add another 1800 onto the depreciation amount to bring to tax the actual deductions claimed. Hence the total amount of depreciation related amount that is assessable is $3600. (The two part calculation for depreciation is just for illustrative purposes only. The actual balancing adjustment rule involves the assessable amount being the difference between the written down value and sale proceeds- as apportioned for income producing use.)

 

Hope this helps, JodieH.

3 REPLIES 3

Best answer

ATO Certified

Community Support

Replies 2

Hi @cutty,

 

Welcome to our Community and thanks for your patience whilst we checked information with a specialist area.

 

Firstly, you are correct that the balancing adjustment amount is $3600 in the example.
 
The reason why only $200 and not $400 is not taxed as CGT is because of the formula that is used in the CGT rules.
 
The CGT cost base of depreciating assets has a special rule that is different to normal CGT cost base rules.
 
The key point is that for depreciating assets, the CGT cost base of a depreciating asset is its cost for depreciation purposes.
 
The rules for the interaction of CGT and depreciation on sale of a depreciating asset are designed to apportion taxation between CGT and depreciation balancing adjustments according to the percentage of income related and private use over the time of ownership of the asset. That is, to the extent that an asset was used privately, CGT applies to that percentage of the gain. To the extent that the asset was used for producing income, that remaining percentage applies to the balancing adjustment calculation under depreciation rules.
 
For depreciation purposes, as with the example cited, the balancing adjustment amount is $3600 -90% of (sale price less original cost + amount of depreciation claimed) or 90% of (7000-5000+1800).

 

For CGT purpose, the CGT amount is $200 -10% of (sale price less original cost) or 10% of (7000-5000).
 
In essence, the real gain of $2000 (7000-5000) is taxed 10% under CGT ($200) and 90% under depreciation ($1800) - as a fully taxable balancing adjustment event. We then add another 1800 onto the depreciation amount to bring to tax the actual deductions claimed. Hence the total amount of depreciation related amount that is assessable is $3600. (The two part calculation for depreciation is just for illustrative purposes only. The actual balancing adjustment rule involves the assessable amount being the difference between the written down value and sale proceeds- as apportioned for income producing use.)

 

Hope this helps, JodieH.

Newbie

Replies 1

Thanks for the detailed reply.

However, I am still at a loss as to why only $1800 of the depreciation claimed is ever taken into account - which is only applicable to the balancing adjustment event. Why isn’t the remaining $200 in deductions claimed applied to the GGT event? (Being 10% of the depreciation attributable to private use). That is, why isn’t the cost of the asset (for CGT purposes) duly reduced by $200 to account for the deduction (depreciation) already claimed.

In your example, the remaining $200 in deductions claimed is neither considered in the balancing adjustment nor the CGT event. By omitting this amount, the tax office receives less tax.

My understanding for CGT (for both depreciating assets AND non-depreciating assets) is that deductions already claimed with respect to costs are generally generally excluded from the cost/cost base.

In the examples provided you duly recognise the 90% of deductions (1800) attributable to balancing adjustment event but completely disregard the remaining 10% which pertains to the CGT event.

I am assuming there must be an exemption to not take into account depreciation for the cost relating to CGT for depreciating assets.

However, I am still at a loss as to why a person can claim $2000 worth of deductions and yet for tax purposes only be assessed as if they only claimed $1800.

For example, and to clarify my argument, consider the following if there was no private use for the asset. The balancing adjustment would be $4000 (7000 sale - 3000 adjustable value). The tax office assesses the person for $4000.

Now consider the event when there is 10% private use. The tax assessable, according to your example, is only $3800. Being $3600 for the balancing adjustment and $200 for the CGT event.

This does not make sense to me.

Imagine if you use a depreciating asset for 90% private purpose, but have claimed a significant amount in depreciation. Should the asset ever come to a balancing adjustment event - 90% of the deductions would not be accounted for under this method. That is, the cost of the CGT asset is not reduced to account for the fact it has already had a significant amount deducted through depreciation.

Smiley Indifferent

Community Support

Replies 0

Hi @cutty,

 

Thanks for the follow up!

 

The main point here is that depreciation was only claimed for $1800 and not $2000. Under depreciation rules, there is a special approach for taxing depreciating assets that sets out how much the ‘value’ of an asset reduces each year. This is called the yearly ‘decline in value’.

 

Depending on the extent to which the depreciating asset is used for income producing purposes, a part or all of the yearly ‘decline in value’ can be claimed as a depreciation tax deduction. In the example on the web page, the total ‘decline in value’ over the numbers of years held added up to $2000. In that example, the yearly claims for depreciation (the deductible component of the declines in value) added up to $1800- as the taxable use percentage each year was 90%. The difference between original cost of an asset and the total yearly declines in value is called an ‘adjustable value’.


Under the depreciation rules (in addition to the CGT rules which also concurrently apply), when you sell a depreciating asset, a balancing adjustment event occurs. A calculation is made to produce an amount being the difference between the amount of sales proceeds for the asset and its adjustable value. In the example this was $7,000 less (5000-2000), or $4,000. This represents the total real gain, plus the ‘decline in value’. Because private use of depreciating assets is taxed under both CGT and depreciation rules, the depreciation outcome is arrived at by multiplying the income producing use percentage (in this case 90%) by $4,000 to get $3600- as an assessable amount under depreciation rules.


For the CGT calculation, capital gain amount that is calculated under the CGT rules, ie 7000-5000, being 2000 is assessable to the extent of 10%, or $200. Because there is a special CGT rule for working out the CGT cost base of depreciating assets, the normal elements of the CGT cost base, such as reductions for deductible amounts, do not apply. Instead of reducing CGT cost base by depreciation deductible amounts, the depreciation claims are effectively recouped separately under the depreciation rules and not taken into account for CGT calculation purposes.

 

Thanks, JodieH.

 

Top Solution Authors