The AAT held that the taxpayer was correct in claiming certain expenditure, on ‘gaming machine entitlements’. The deductions were held to have been allowable, for the whole of the expenditure, in the year it was ‘incurred’, under the provision allowing ‘general deductions’, in s8-1 of the Income Tax Assessment Act 1997 (ITAA97).

These ‘gaming machine entitlements’, were a creature of Victorian regulation of gambling, in the Gambling Regulation Act 2003 (Vic) (Gaming Act). They were introduced, in 2010, and they gave a ‘venue operator’ the right to acquire gaming equipment and conduct gaming [s3.4A.2]. Venue Operators had not previously had such rights (see explanation below).

The issues and background

The applicant/taxpayer was a corporate beneficiary of a Trust, and, as such its ‘assessable income’ (from the Trust) depended on its ‘share’ of the tax law ‘net income’ of that Trust (s97(1)(a) of the ITAA36)). ‘Net income’, in this sense, is a kind of proxy for the ‘taxable income’ of the Trust (s95(1)). It was for this reason that the Taxpayer-Beneficiary, was litigating the tax effect, of what the Trustee had done.

The following, is therefore, relevant.

  1. In 2005, the Trustee, of this Trust, purchased an hotel, with 18 gaming machines.
  2. The licenses for those machines were due to expire in 2012.
  3. But, in 2010, the Victorian Parliament changed the way these machines were regulated (see explanation below). The conceptual change was that, as the ‘Venue Operator’ (the Trustee) no longer got a commission from Tatts (the Gaming Operator), but rather became the person conducting the gaming, itself. In practice, the change was less spectacular than this might suggest.
  4. Under these new provisions, the trustee had to compete, in an auction, and succeeded in getting 18 of these new ‘gaming machine entitlements’ (so that it could still have 18 machines on its premises).
  5. As a result of the auction, the Trustee became liable to pay $600,300 for these ‘entitlements’.
  6. It became a matter of significance, that this expenditure, extended the Trustee’s right to earn income, from these gaming machines, by 10 years (as explained below).

Two alternate ways of deducting the $600k

  1. It was the tax treatment, of this $600k, that was in issue, in this case. The Taxpayer-Beneficiary claimed, that the Trustee could deduct this $600k amount, in one of two alternate ways.
  • The first was, that the whole amount, should have been ‘deductible’, in the 2010 year, when it was incurred (under s8-1 of the ITAA97). This would be on the basis that the expenditure was incurred to derive ‘assessable [gaming and pub] income’ and that it was not ‘capital’ in nature. Predictably, the Commissioner contended, that the expenditure was of a ‘capital’ nature.
  • Alternatively, if the expenditure were capital in nature, the Taxpayer-Beneficiary argued, that the $600k amount, ought to have been deductible, over 5 years, under the ‘black hole’ provision, in s40-880 of the 1997 Act. Broadly, this provision was designed to give some ‘tax basis’, where none would otherwise be given (that is, expenditure that would, otherwise, have fallen into a fiscal ‘black hole’). The Commissioner opposed this, too, for reasons explained below.

Whilst this might only be an AAT case, it is, nonetheless important, as it was decided by a Federal Court Judge (Pagone J) sitting as a Deputy President of the Tribunal. Also, the subject matter was important, dealing with the tax effect of expenditure, on these new Victorian ‘gaming machine entitlements’.

The 2010 Victorian regulatory change

The case turns on the effect, of the change in the Victorian regulatory system, on the Trustee.

  1. Back in 2005, when the Trustee bought the hotel, Tattersalls owned and operated the 18 machines, as the approved ‘gaming operator’ [s3.4.2(d)]. Under its agreement with the trustee, Tatts paid the Trustee a commission on the amount of money put through the machines. [para 6 of the decision]
  2. But, in 2010, the system changed. The Government announced that Tatts’ licences, would not be renewed, in 2012 [perhaps, letting this monopolist know, who was the boss in Victoria]. The Gaming Act was amended to (amongst other things) insert a new Part 4A, which did away with ‘Gaming Operators’ (read Tatts), and gave Venue Operators (such as the Trustee), the right own the gaming machines, and conduct the gaming. One of the related things, was that payment of the tax, to the Government, was moved from the Gaming Operator to the Venue Operator [under s3.6.6A, rather than the old s3.6.6]. The Trustee signed an agreement, with a new company, to instal and maintain the 18 machines, in return for a recurring fee, per machine.
  3. As a result, the Trustee’s income came to include gaming income, rather than just commission income. [paras 8&9]
  4. The new rights were transferrable but of little practical use, unless the purchaser had access to other approved machines at other the approved premises.
  5. The new rights subsisted for 10 years (but could be terminated or extended 2 years). [para 9]

A s8-1 general deduction – the ‘capital’ tests

These amounts obviously satisfied the first (positive) test in s8-1, in that they were incurred in deriving ‘assessable income’. So the main issue was whether the expenditure was of a capital nature (one of the ‘negative’ tests). DP Pagone addressed some of the tests, generated by leading cases, as follows. The cases said that the distinction between expenditure on ‘capital account’, as opposed to on ‘revenue account’ is as follows.

  • the distinction between an outgoing that is consumed in the business as opposed to an outgoing expended on an asset or advantage of enduring benefit [British Insulated – para 5]
  • the distinction between the acquisition of the means of production and the use of them. [Hallstroms – para 5]
  • the distinction between establishing or extending a business organisation and carrying on the business. [Hallstroms – para 5]
  • the distinction between the implements employed and the regular performance of the work. [Hallstroms – para 5]

But Australian law departed from English law (British Insulated), when the High Court concluded, that the price of buying out, and closing down, a competitor, was  also on ‘capital account’. Despite appearing to get nothing of enduring benefit (because it closed down the competitor), Sun Newspapers, in fact, preserved the taxpayer’s good will, which was an affair of capital (and so, therefore, was the expenditure, which it bought). [Sun Newspapers – para 5]

In this case, Dixon J made his famous comments about three things to be considered: (a) the character of the advantage sought (including any lasting qualities as opposed to recurring need for such expenditure);  (b) the manner in which it is to be used (such as satisfying a need that might recur again and again); and (c) the means adopted to obtain it (including periodic outlays or outlays commensurate with a period of use). [para 5]

And, in applying these tests, in Hallstrom’s case, Dixon J said that it was not a ‘juristic classification’ of rights acquired, that mattered, but rather, it was what the “expenditure was calculated to effect, from a practical and business point of view“. [para 11]

The s8-1 conclusion – NOT capital

DP Pagone concluded that the $600k outlay was not capital in nature. This was because the expenditure: “reflected the economic value of the income stream expected, from putting other assets to use, to derive income from gaming”. The rights purchased did not give any other entitlement, with its own value (such as monopoly rights).


13.   …. The decision in Henriksen was referred to with approval in the joint judgment in AusNet Transmission Group Pty Ltd v Federal Commissioner of Taxation [2015] HCA 25; (2015) 255 CLR 439 at [18] as an example of a payment being on capital account, notwithstanding it being recurrent, because it reflected the monopoly value of what was acquired. In the present case, in contrast, the amount of the outgoing reflected the economic value of the income stream expected from putting other assets to use to derive income from gaming. The gaming machine entitlements had no intrinsic economic value other than by reference to the income stream expected from its use with other assets to derive gaming income. The amounts paid for the gaming machine entitlements were amounts, like those considered in BP Australia Limited v Federal Commissioner of Taxation (1965) 112 CLR 386 at 398, “which had to come back penny by penny with every order during the period in order to reimburse and justify the particular outlay”. The close connection between the amounts paid for the gaming machine entitlements and the income stream expected from the payments was in part reflected, as a practical business and commercial matter, in the amount which the purchaser had been willing to pay for the business when it had included commissions income from 18 gaming machines.

In the BP Australia case, the Privy Council decided that payments the taxpayer made, to tie petrol retailers, to the ‘BP’ brand, were on revenue account and deductible. These payments were made, in a period of time when the market was restructuring, to branded retailers, and the taxpayer had to make many such payments, to many retailers, to retain it’s market share. The similarity with this Sharpcan case is quite strong, given that the license fees were only for a period of time (rather than being paid to many people), the licenses had, therefore, to be renewed (typically after 10 years), and regulatory changes came and went, without much moment for the venue operator.

The s40-880 (black hole) issue

DP Pagone went on to consider the alternative 5 year, s40-880 deductions issue, in case he was wrong, and the expenditure was of a ‘capital’ nature. DP Pagone decided the 5 year deduction provisions would not apply (in this event).

To understand his reasons, requires one to understand the intersect between the s40-880 ‘black-hole’ provisions and the CGT ‘cost base’ provisions, after amendments to both, in 2006.

  1. Section 40-880(2) gives a taxpayer a 5 year ‘straight-line’ write-off, of capital expenditure, which has not been included (amongst other things) in the ‘cost base’ of an asset, for CGT purposes (see, respectively: s40-880(5)(f) & s110-25 of the ITAA97).
  2. After the 2006 amendments, it was only the acquisition of ‘goodwill’ that was included in in the ‘cost base’ of that asset (the ‘first element’ thereof – s110-25(2)).
  3. Expenditure which ‘increase[s] or preserve[s]’ the value of an asset is normally included in the ‘fourth element’ of the cost base – for the relevant asset  (under s110-25(5)). But this is not the case for expenditure that is incurred ‘in relation to goodwill’ (under s110-25(5A)).
  4. This was expressly designed to give a 5-year deduction for the cost of ‘increasing or preserving the [value of] goodwill’.
  5. This, in turn, gave rise to a curious provision in the ‘black-hole’ provisions in s40-880(6), which became the ‘battleground’ for the parties (on the s40-880 issue).
  6. It is a provision designed to allow deductions for the expense of obtaining right’s, like a covenant that prevents a vendor, of a business, from competing with the purchaser. Such a right, is purely to support, the value of the goodwill, that the purchaser purchased. So, s40-880 still allows a 5 year write off, for the cost of obtaining this kind of supporting rights (without attributing a separate cost base, to those rights, themselves). In other words, this is a statutory mandate to ‘look through’ the rights and to treat the ‘goodwill’ as the relevant asset. But the ‘look through’ only applies where these separate rights merely ‘preserve’ the value of the goodwill and do not ‘enhance’ it. Rights that ‘enhance’ the value of goodwill, will be treated as stand alone rights, and the expenditure, to acquire those rights, will go into the first element of the ‘cost base’ for those rights.
  7. This ‘look through’ provision was in (and still is in) s40-880(6). It provides as follows.

“The [provision preventing a 5-year write off, of costs, included in the cost base of an asset, for the purposes of paragraph (5)(f)] do[es] not apply to expenditure that you incur to preserve (but not enhance) the value of goodwill, if the expenditure you incur, is in relation to a legal or equitable right and the value, to you, of the right, is solely attributable to the effect, that the right has, on goodwill.”

The Commissioner argued that these ‘gambling machine entitlements’ were free-standing rights, for which the $600k would be an acquisition cost, that went into the ‘first element’ of the cost base for those rights (under s110-25(2)).

The Taxpayer-Beneficiary argued, however, that these rights were attributable to its goodwill and did no more than ‘preserve’ its value (given that it had been trading with 18 machines and came out with a right, to keep on trading, with no more machines).

DP Pagone concluded, however, that the right’s, that the Trustee acquired, extended its right to keep on trading (albeit, with no more machines than before) and and this had, relevantly, ‘enhanced’ the value of its goodwill (i.e. did more than ‘preserve’ its value). He found against the Taxpayer-Beneficiary, for this reason (on this alternative ‘5-year write off’ issue).

With respect to DP Pagone, I’m not sure that I agree. I’m not sure that a person, who could lose their right to trade, but has a reasonable expectation that those rights will be renewed, has suffered a dip in the value of their goodwill, such that it is, then, ‘enhanced’ by effectively having the same right to trade extended.

(Sharpcan Pty Ltd and FCT [2017] AATA 2948, AAT, Pagone DP, AAT File No: 2016/5781, 14 December 2017.)

[FJM; LTN 18, 29/1/18; Tax Month January 2018]


Study questions (answers below*)

  1. Was the trustee entitled to s8-1 general deductions, for the whole of the $600k it paid for the ‘gaming machine entitlements’?
  2. Was the taxpayer the Trustee?
  3. After the auction, did the Trustee end up with 18 ‘gaming machine entitlements’ (for the same number of machines as it had always traded with)?
  4. Was the regulatory change, that ‘venue operators’ got, the right to own the machines and conduct the gaming, instead of the previous ‘gaming operators’?
  5. For the s8-1 ‘general deduction’, was it the test, in British Insulated decision, that the expenditure had to give rise to ‘enduring benefit’, to be on capital account?
  6. Was it the Australian Hight Court, in the British Insulated case, that lead the Australian law, to depart from the English law, on the test for expenditure to be on ‘capital account’?
  7. Is relevant ‘black hole’ expenditure, deductible over 5 years, under s40-880 of the 1997 Act?
  8. Does s40-880(5)(d) exclude capital expenditure, that forms part of the CGT ‘cost base’, of an asset, from the 5 year deduction?
  9. Given the Trustee’s expenditure, resulted in it having licenses, for the same number of machines, did DP Pagone also find that, would be deductible over 5 years, under the exception, in ss(6), on the basis that it only ‘preserved’ the value of the Trustee’s ‘goodwill’ and did not ‘enhance’ it?




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