A new draft tax ruling issued by the Australian Taxation Office signals potential income tax and GST consequences for parties to immediate transfer farm-out arrangements.
The taxation treatment of farm-out arrangements has long been complex and uncertain. However, not long after the introduction of the capital gains tax regime, the Australian Taxation Office issued Income Tax Ruling IT 2378 which helpfully indicated the ATO would generally accept a nil value for farm-out arrangements at the wildcat or grass roots exploration stage, notwithstanding potentially large expenditure commitments on the farmee.
The recent release by the ATO of MT 2011/D1 – a draft tax ruling dealing with the application of income tax and GST laws to immediate transfer farm-out arrangements – takes a different approach. It essentially views the farm-out arrangement as a barter transaction with income tax and GST consequences for both the farmor and farmee.
At a minimum, the revised approach will add to compliance costs for the parties in valuing the rights and obligations and reporting the relevant amounts for tax purposes, with a simple example at paragraphs 128 to 131 of the draft ruling running to almost 5 pages. At worst, it could give rise to unexpected and unfunded income tax or GST liabilities.
The new approach will apply to immediate transfer farm-out agreements entered on or after 27 July 2011 and which relate to mining tenements entered into on or after 1 July 2001.
The ATO has flagged the release of a further draft ruling – MT 2011/D2 – dealing with the more common deferred transfer farm-out arrangements, that is, where an interest in the mining tenement is not transferred until the farmee has met some or all of its expenditure commitments or which occurs on a progressive basis, on 24 August 2011. The tax issues with deferred transfer farm-out arrangements are likely to be even more complex.
Following the release of MT 2011/D2, Corrs will be conducting client briefings in respect of this important development and its implications for future farm-out arrangements. If you are interested in attending a briefing or want to know more about this development, please send us an email or contact a member of our Energy and Resources Industry Division.
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