On 14 November 2016 the ATO released draft Practical Compliance Guideline PCG 2016/D17 (51 pages) outlining the ATO’s compliance approach to the immediate tax deductibility of exploration expenditure. This follows the release of draft Taxation Ruling TR 2015/D4 (68 pages), dealing with the technical distinction between exploration (immediately deductible) and mine development costs (capitalised and depreciated over the life of the project).
The combined 119 pages are likely to kill the spirit of the very thing the documents seek to explain – “exploration”. I find myself contemplating whether Burke and Wills would have so tragically died on their historic trek had they carried with them a more comprehensive safety manual. It thus seems incumbent upon tax professionals in Perth to plough through the material to gain an understanding of this critical tax issue for projects at the transition point between exploration and mine development.
Expenditure that generates enduring value is considered to be capital in nature and thus deductible over its economic life. But does mineral exploration have enduring value? Only when you strike gold and proceed to mine. The conceptual difficulty of assessing such issues is avoided by s.40-730 specifically stating that exploration (up to and including feasibility studies) is immediately deductible. It seems conflict has arisen through application by taxpayers of a “bright line” approach, under which all expenditure prior to the decision to mine is treated as “exploration” with expenditure post that point treated as “mine development”. In TR 2015/D4 the ATO raised the following concerns:
- Costs of acquiring long lead time assets prior to the decision to mine being treated as deductible exploration.
- Feasibility study work going beyond that strictly necessary to make a decision to mine.
- Teams within an organisation proceeding with detailed implementation planning (mine development) rather than sitting idle during the latter stages when the definitive feasibility study is before the board.
The ruling also acknowledges that genuine exploration can continue to occur after a decision to mine. An example might be activity on previously unexplored segments of the tenements.
This a top end of town issue and the Guidelines are appropriately written by someone fluent in useless corporate jargon, for example:
“We will seek to understand and test your ordinary business and commercial governance frameworks to obtain an indication as to your compliance risk management profile and therefore the risk associated with your exploration expenditure claims.”
In English this translates as the ATO having little interest in reviewing workpapers prepared solely by the in-house tax team. Rather they want to review the corporate procedures in relation to what key milestones the organisation uses at each stage of the project development cycle. Of specific interest are the activities the organisation requires to be performed in order for a project to receive corporate funding for the next project stage. The tax workpapers delineating between exploration and mine development are expected to be tied into these project source documents. They also want to examine whether the actual work performed during each period is consistent with the internal policies. The suspicion is that project teams form their own view of viability, ploughing ahead with the next phase of the project rather than waiting for formal board approval to proceed.
The Guidelines point out that different organisations have different thresholds as to when they consider the decision to mine has taken place. It appears to be the ATO view that the actual decision to mine often takes place sometime before that decision has been officially ratified by the board. Indications that a decision to mine has already taken place may include:
- Signing a non-contingent offtake agreement.
- Where engineering designs are finalised or close to finalisation.
- The content of native title, port and rail access, landholder compensation and/or state government licence applications may each require that a decision to mine has already taken place.
- Awarding of a fixed price engineering, procurement and construction contract.
- Conversion or upgrading of pilot plants or pilot wells.
- Debt facilities being finalised that aren’t contingent on a final investment decision.
In each of the above cases the ATO may form the view that the actual decision to mine has taken place before that decision is ratified by the board. The implication being that expenditure during that phase is mine development and thus not immediately deductible.
Neither Burke nor Wills made it past Cooper Creek on their 1861 return journey – never reporting back to the Exploration Committee that financed their expedition. Sadly, a coroner’s report was the final milestone of their journey. Nonetheless their legend continues to be analysed in history classes to this day. In a similar vein, whilst mining construction boom might be over, the issuing of both TR 2015/D4 and PCG 2016/D17 indicates that Perth’s tax professionals might be analysing where exploration stopped and mine development commenced for many years to come.
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