Case TRA 015/19

Single development was capital in nature

The difference between deductible repair costs and non-deductible capital expenditure was the subject of a case recently decided by the Taxation Review Authority (“TRA”).


Trustees owned two adjacent commercial properties which were rented. They undertook work to improve the properties and apportioned the costs that were incurred between deductible repairs and non-deductible capital costs. Inland Revenue denied the deduction for the apportioned repair costs, taking the position that all the costs incurred were capital and non-deductible.


The TRA begins its judgment with a reminder that, in this part of tax law, precedent can sometime lead to unhelpful and inaccurate results; that decisions are inevitably very fact specific. The TRA identified three issues: whether the expenditure was subject to the capital limitation; whether as a sub-issue there was a series of projects between which apportionment could occur; and whether a shortfall penalty applied.


The first two issues are very closely linked, because the likelihood of expenditure being deductible repair costs really required some identified basis for such costs being separated from an overarching project of greater scope and scale. The core issue was therefore whether there was any scope at all for the work that was undertaken on the two properties to be regarded as having separate components or whether it comprised a single and indivisible project, whose scope and result was to be considered in the round.


A feature of the evidence heard by the TRA is the planning record that provided the background to the work that was done on the properties. There was considerable emphasis on the creation of new spaces and amenities. Several planning consent applications were made for what were styled as “additions.” Moreover, the properties were used as licensed premises and the licensing process was interrupted because the licencing authority regarded the premises as having fundamentally changed, after the work that had been done, so that the existing licence could not be relied on.


The TRA’s approach was first to identify the asset on which work was done. The Judge held that the asset was the combined property and based that view on three factors:

  1. The increased floor area and occupancy load that required encroachment from one site onto the other;
  2. A Certificate of Public Use application was seen as involving both sites;
  3. There was no separate functionality between sites following completion of the works; and
  4. No separation of cost had been made in the taxpayer’s financial accounts.

Having arrived at that conclusion, the TRA then considered the nature and scope of the work that was done. It recited the scope of work and, by its nature and total cost ($681,220), concluded that it was substantial. The work took place over two years and involved 22 Council inspections for code compliance to be certified.

For the reasons already canvassed, the TRA concluded that this work and expenditure was undertaken as a single project without the “disjoint” that the taxpayer argued for. Having found that a single project occurred, the TRA concluded there was no basis for a deductible apportionment and that the expenditure was either “all in” or “all out” of the deductible category.

The TRA then looked at the character of the work done. It declined to accept the submission that part of the cost represented deferred repairs. Based on Auckland Gas, it noted that if work to address deferred repairs transforms an asset, then a deduction cannot be allowed: that is a matter of the taxpayer choosing not to repair progressively. Instead, what occurred here was “a substantial reconstruction and improvement of the original premises.”

The TRA held:

Overall, the works extended and modernised the building. While the core building
remained, the extension built on 6 Green Street increased the size of the building to include the
covered veranda and other spaces detailed in the building consents. The works resulted in an increase in the floor area of the building, the creation of new function rooms and an increase in the maximum occupancy thereby generating the opportunity to increase the rental income able to be earned from the building by the disputant.

The TRA finally held that the assessed shortfall penalty should stand. The penalty had been imposed for failing to take an acceptable tax position. The TRA upheld the penalty, noting that at the time the disputant took its tax position, existing case law was clear that the totality of work had to be taken into account in determining the nature of the disputed expenditure. The case law was also clear that the nature of work done as part of one overall project was to be taken from the character of the project work. The Judge did not consider that the case was one where the capital nature of the disputed expenditure was a matter on which reasonable minds could differ.


There are several reminders taxpayers should take from this decision:

  1. If you defer or delay repairs and wrap them into later more major work, you may lose deductibility;
  2. Be sure to clearly separate costs, on a justifiable basis, related to repairs from other capital works and account for them differently;
  3. Realistically assess whether, notwithstanding separate accounting, what might on their own be regarded as repairs have been so wrought into other more major work that they are inevitably treated as capital themselves;
  4. Remember that the nature and scope of your work will be assessed against a range of evidence. Building work takes place against a background of design, planning, regulation and inspection. It does not occur in a vacuum. What is said and done for the purposes of design, planning and regulation will reverberate in the tax treatment of expenditure outlaid on the building work.

© G D Clews, 2021


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