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Building on the R&D exclusions

Building on the R&D exclusions

Ross Hocking, Stephen Barr, and David Gelb look at the recent ATO focus on R&D expenditure in relation to construction activity.

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As many taxpayers will no doubt be aware, there continues to be a steady increase in the number of reviews and audits conducted by AusIndustry, a division of the Department of Industry, Innovation and Science, and the Australian Taxation Office (ATO) in relation to the Research & Development (R&D) Tax Incentive. AusIndustry is the regulator responsible for considering whether claimed activities meet the eligibility criteria, whereas the ATO are responsible for determining whether the expenditure in respect of the claimed activities gives rise to a notional deduction for R&D.

One specific area of considerable focus by the ATO relates to expenditure claimed in respect of construction activities. It follows the release of Taxpayer Alert 2017/2 (TA 2017/2). The ATO’s concerns stem from the words of s 355-225(1)(a) of the Income Tax Assessment Act 1997 (Cth) (commonly referred to as the “building expenditure exclusion”), which broadly apply to deny a deduction for R&D expenditure where that expenditure is incurred to acquire or construct either:

  • a building, or a part of a building; or
  • an extension, alteration or improvement to a building.

In our recent experience with the ATO, they have indicated that taxpayers should ensure that they have regard to the ordinary meaning of the term ‘building’ when considering deductions for R&D expenditure on construction activities. Similarly, where the activities registered by a taxpayer have a discernible connection to a particular building, this may indicate that the expenditure cannot be claimed due to the operation of the building expenditure exclusion.

Although the ATO has confirmed that claimed activities relating to construction activities must be registered by AusIndustry (provided that the taxpayer registers those activities and the claimed activities meet the eligibility criteria), this may result in a curious situation where a taxpayer may have eligible core R&D activities registered by AusIndustry but is unable to claim any deductions for R&D expenditure in respect of the activities.

The ATO has confirmed that they propose to issue some public guidance next year in relation to the building expenditure exclusion. However, given the increased focus on R&D expenditure claims, taxpayers should consider conducting a review of their historical and current R&D claims and reconsider the application of the provisions which deny deductions for particular categories of R&D expenditure (including in relation to the building expenditure exclusion).

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