Edited version of private ruling

Authorisation Number: 1011555935135

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Ruling

Subject: Am I in Business?

Do your activities to you carrying on a business?

Yes.

This ruling applies for the following periods:

Year ended 30 June 2008

Year ended 30 June 2009

Year ended 30 June 2010

The scheme commences on:

1 July 2007

Relevant facts and circumstances

You are undertaking primary production activities.

You have researched technical literature and sought expert advice in order to consider potential markets for your product. You researched the topic twelve months prior to undertaking the activity.

You undertook research into primary production before entering the breeding program by:

· attending field days

· visiting farming operations

· researching internet data

· attending primary production and farming courses

· obtaining information packs from the associations in your area of primary production

· attending association meetings, and

· holding discussions with breeders.

You have researched primary production markets around the world and you have had discussions with counterparts and associations located overseas to determine their marketing activity procedures for primary production sales.

You have researched and investigated the establishment of export activity of primary production to a number of parties in overseas markets to process the product and then re-import the processed product for manufacture.

You have a business plan which details your objective to have a substantial amount of animals over a five year period on the basis of natural increase and additional purchasing.

The intent of the second arm of your breeding program is to breed quality bloodlines for herd improvement for regular ongoing stock sales once the optimum desired stock levels are achieved through the breeding program.

Your business plan identifies that the fleece market will be a two streamed approach.

You have registered yourself as a member of the industry related association.

In your ruling application you further provided the following:

Activity commencement

The initial herd stock purchase consisted of females and a male.

This establishment of the herd produced a male progeny.

Activity Description

The activity is the breeding livestock for fleece sales and the sale of livestock.

A registered stud male was purchased for herd improvement breeding. Pregnant livestock of a quality bloodline was purchased. This female produced a quality progeny.

You suffered a major setback and lost several animals from this herd, resulting in you only having a small number of animals from the establishment herd.

From the remaining herd another progeny was produced.

During this period you purchased a large property for future livestock housing. This property is planned to be developed over the next couple of years. It is then intended that a further larger property will be subsequently acquired during this period of business.

The major setback resulted in a considerable financial and breeding planning impediment but did not alter the intent or the objectives of the breeding and fleece sales program.

You purchased another quality animal. The animal being pregnant, having been serviced by a quality registered stud and has subsequently produced a progeny.

You had 10 animals so that within 12 to 18 months you plan to have 18 animals. Depending upon the level of male to female born, you will again be on track for the herd breeding planning program and will also purchase additional stock within the next 12 to 24 months. With half of the purchased animals being female then within an additional 18 months without any other purchases the herd size will exceed 34 animals, doubling each successive 18 months.

Given the long gestation period of the animals it takes a number of years to build a herd to a commercial size to facilitate sales, as it does with any quality livestock bloodline producing program. This does not detract from your situation that this is a commercial business and not merely a hobby or hobby farm but a commercial enterprise with the objective of being a profit making concern and is certainly a business beyond being just a hobby.

You have an extract of your business plan, which details your five year plan for building and growing the business.

You have also attached a copy of your profit and loss trading accounts.

Records

You have cash books and ledgers prepared.

Livestock and trading accounts, deaths and birth registers all maintained as well as detailed stock breeding and fleece records.

Qualifications/expertise

A member of the Australian industry related association and have created an extensive library obtained from around the world and from international journals and publications on primary production, farm and herd management, health management procedures and have attended numerous industry training and field days.

Having undertaken considerable market research into primary production and fleece production before entering the breeding program, through the following:

· attending field days

· visiting farm operations

· researching internet data

· attending primary production and farming courses

· obtaining information packs industry related associations

· attending association meetings, and

· holding discussions with breeders.

Clientele/Advertising

Clientele have not been established for the sale of livestock at his stage, it being to early for this to occur until the herd size reaches what you regard as the optimum sizing for that purpose as they are currently for breeding to increase the herd size. That clientele will be at that time the general public including those involved in the industry.

The fleece is currently sold through market stalls and internet advertisements to the craft and quilting industry market. You have also recently acquired an electric carding machine for a greater production level of carded fleece.

You are currently seeking to establish an export market to overseas countries and in this regard will be travelling to those countries during the year for meetings with the Deputy Director of the Department of Trade and Industry. You will also be visiting industry personnel in the silk loom and production industry for establishing business partners for the processing of fleece.

Time spent attending to the business

Until the herd size is advanced to a large commercially saleable size the current stock are 'herd stock' producing animals which as per industry standards are shorn once per year for fleece production. At this stage about 10 hours during the week and one to two days on the weekend are spent on activities such as:

· herd management

· feeding

· watering

· fencing

· health management, and

· general duties.

When the business expands further you anticipate taking on an employee to assist in the development of the business.

Relevant legislative provisions

Income Tax Assessment Act 1936 Subsection 6(1)

Income Tax Assessment Act 1997 Section 995-1.

Reasons for decision

While these reasons are not part of the private ruling, we provide them to help you to understand how we reached our decision.

Summary

From the information provided in your ruling request it is considered that you are carrying on a business of primary production.

While there is a question of the size and scale of the activity you have demonstrated that this is the early stages of a business with plans to expand into other markets. You have sufficiently demonstrated that you are indeed carrying on the activities in a business like manner with a view to making a profit. Therefore, your activities are more than just a hobby or recreational activity.

Consequently, you have sufficiently demonstrated that you are in a business of primary production in relation to your primary production and associated fleece production activities.

Detailed reasoning

Carrying on a Business

A person will be carrying on a business of primary production for the purpose of the Act if:

· they produce -primary production- as defined in subsection 6(1) of the Income Tax Assessment Act 1936, and

· the activity amounts to the carrying on of a business.

The term business is defined in section 995-1 of the Income Tax Assessment Act 1997 (ITAA 1997) as 'any profession, trade, employment, vocation or calling, but does not include occupation as an employee'.

Whether an activity is carried on as a business is a question of fact. A number of factors have emerged from case law that are considered relevant in determining this question. These factors are outlined in Taxation Ruling TR 97/11 Income tax: am I carrying on a business of primary production? and are often referred to as business indicators.

According to paragraph 12 of TR 97/11 whilst each case might turn on its own particular facts, the determination of the question is generally the result of a process of weighing all the relevant indicators. Therefore, although it is not possible to detail any conclusive test of whether a business of primary production is or is not being carried on, the indicators outlined below provide general guidance.

As outlined in paragraph 13 of TR 97/11 the indicators to consider are:

· whether the activity has a significant commercial purpose or character; this indicator comprises many aspects of the other indicators

· whether the taxpayer has more than just an intention to engage in business

· whether the taxpayer has a purpose of profit as well as a prospect of profit from the activity

· whether there is repetition and regularity of the activity

· whether the activity is of the same kind and carried on in a similar manner to that of the ordinary trade in that line of business

· whether the activity is planned, organised and carried on in a businesslike manner such that it is directed at making a profit

· the size, scale and permanency of the activity, and

· whether the activity is better described as a hobby, a form of recreation or a sporting activity.

In coming to a conclusion as to whether your activities in primary production amount to the carrying on of a business, the above factors have been discussed and analysed below.

Significant commercial purpose or character

The phrase 'significant commercial purpose' is referred to by Walsh J in Thomas v. FC of T 72 ATC 4094; (1972) 3 ATR 165 (Thomas), and discussed further by Gibbs CJ and Stephen J in Hope v. Bathurst City Council 80 ATC 4386 at p. 4390; (1980) 144.

The 'significant commercial purpose or character' indicator is closely linked to the other indicators and is a generalisation drawn from the interaction of the other indicators. It is particularly linked to the size and scale of activity, the repetition and regularity of activity and the profit indicators.

A way of establishing that there is a significant commercial purpose or character is to compare the activities with those of a taxpayer who is carrying on a similar activity that is a business. Any knowledge, previous experience or skill of the taxpayer in the activity, and any advice taken by the taxpayer in the conduct of the business should also be considered but are not necessarily determinative.

For example in Thomas Walsh J found that the taxpayer's activities in growing macadamia nut trees and avocado pear trees amounted to the carrying on of a business. The court was influenced by the scale of the activity, and the taxpayer's expectation of an ongoing financial return. Consideration should also be given to whether the taxpayer is a pioneer in the activity or has developed a new method of undertaking the activity, whether successful or not.

In determining whether the taxpayer's activities show a significant commercial purpose or character the following factors, depending on the circumstances, are taken into account:

· drawn up a business plan

· where the taxpayer is not an expert, sought expert advice from the relevant authorities, experienced farmers or agents that work in the area of primary production that the taxpayer intends to carry on

· where the taxpayer is not an expert, obtained technical literature on the activity which the taxpayer intends to carry on

· obtained soil and water analyses of the land that will be used for the activity

· established that his/her land is suitable for the activity which the taxpayer intends to carry on

· considered whether there is a market for his/her product and looked into potential markets for the product (the taxpayer is more likely to be regarded as carrying on a business if he/she sells in a commercial market instead of casual sales to relatives, friends or the public)

· investigated properly the capital requirement of the venture and has a plan that shows how that capital will be obtained and used

· conducted research into the activity. This should confirm that profits can be expected based on the market prospects, the expected level of production and the running costs of the business (support for this research by reference to authenticated source material assists the taxpayer)

· ensured that the size and scale of the activity is sufficient for a commercial enterprise

· complied with any legal requirements, that is, that he/she has obtained any necessary licences, permits and registrations required to operate on a commercial level or can show that these requirements can and will be complied with at the appropriate time, for example, at the time that produce becomes available for sale, and

· an intention to make a profit. (This could be shown, for example, by a business plan. Further, the taxpayer should have a reasonable belief that the activity is likely to generate a profit.)

You have researched technical literature and sought expert advice in order to consider potential markets for your product. You researched the topic twelve months prior to undertaking the activity.

You undertook research into primary production before entering the breeding program by:

· attending field days

· visiting farming operations

· researching internet data

· attending primary production and farming courses

· obtaining information packs from the industry related associations

· attending association meetings, and

· holding discussions with breeders.

You have advised that further research has been undertaken into related markets around the world and you have had discussions with counterparts and primary production associations overseas to determine their marketing activity procedures for sales.

You have also advised that you are also researching and investigating the establishment of export activity of the livestock's fleece to a number of breeders in the market to process the product and then re-import the processed fleece for the manufacture of garments.

To do this you will be travelling overseas for meetings with Government Trade Department personnel and a textile company executive later this year. You will also be visiting industry personnel in the silk loom and production industry for establishing business partners for the processing of fleece.

You have a comprehensive business plan and your objective is to have significant livestock numbers over a five year period on the basis of natural increase and additional purchasing. This is to ensure the improvement of quality bloodlines with the objective to have two streams of operations.

You have advised that the intent of the second arm of the breeding program is to breed quality bloodlines for herd improvement for regular ongoing stock sales once the optimum desired stock levels are achieved through the breeding program.

The above shows that you have an intention to make to profit through the application of your business plan and through the many different markets you have looking into and have planned to enter. You further advise you have registered yourself as a member of an industry related association, have registered your herd and have a business name registered with the association.

The significant commercial purpose also flows from the other indicators, discussed below. These other indicators are discussed separately to help form are greater view of whether your activities constitute the carrying on of a business in primary production.

The intention

According to paragraph 39 of TR 97/11 a mere intention to carry on a business is not enough. There must be activity. Brennan J in Inglis v. FC of T 80 ATC 4001 at 4004-4005; (1979) 10 ATR 493 at 496-497 said that:

The carrying on of a business is not a matter merely of intention. It is a matter of activity. ... At the end of the day, the extent of activity determines whether the business is being carried on. That is a question of fact and degree.

This indicator is particularly related to:

· whether the activity is preparatory or preliminary to the ultimate activity

· whether there is an intention to make a profit, and

· whether the activity is better described as a hobby or the pursuit of a recreational or sporting activity.

Preparatory activities

Sometimes a taxpayer may have incurred expenses before commencing a particular business of primary production. For example, expenses associated with experimental or pilot activities which do not amount to a business and do not result in any assessable income being produced are not deductible: see soft Softwood Pulp and Paper Ltd v. FC of T 76 ATC 4439; (1976) 7 ATR 101 and Goodman Fielder Wattie Ltd v. Federal Commissioner of Taxation (1991) 29 FCR 376; 91 ATC 4438; (1991) 22 ATR 26.

Experimental or pilot activities of this nature should be distinguished from the activities in Ferguson v. FC of T 79 ATC 4261; (1979) 9 ATR 873 (Ferguson), which were found to have a sufficient commercial character to be regarded as a business in their own right. However, where a business has commenced, expenses may be deductible even if no income is derived in the relevant year: see Thomas.

You have purchased property in order to support your operations and have also purchased livestock to begin the breeding program. Through the drawing up of a business plan it has been identified that you intend to make a profit by establishing yourself in many different markets. In addition you are also in the process of planning and setting up trade relations.

It may be argued that some of the activities are preparatory in nature as you are in the process of building up the herd size for commercial sale. However you have already undertaken sales of fleece which is an additional part of your business activities.

In addition to this it is understandable that the sales of stock would be slow in the beginning as the period of pregnancy for the livestock is quite long.

From the information you have provided the activity is not preparatory or preliminary to the ultimate activity, and there is an intention to make a profit. The activities you are undertaking are not better described as a hobby or recreational activity.

Prospect of profit

As outlined in TR 97/11 the 'prospect of profit' indicator is very important. In Hope at CLR 8-9; ATC 4390; ATR 236, Mason J indicated that the carrying on of a business is usually such that the activities are:

... engaged in for the purpose of profit on a continuous and repetitive basis.

In Smith v. Anderson (1880) 15 Ch D 247 at 258, Jessell MR said that:

... anything which occupies the time and attention and labour of a man for the purpose of profit is business.

In Case H11 76 ATC 59 at 61; 20 CTBR (NS) Case 65 at 603, the Chairman of Board of Review No 1 said:

In determining whether a business is being carried on it is, in my view, proper to consider, as one of the elements, whether the activities under consideration could ever result in a profit ...

Stronger evidence of an intention to make a profit occurs when the taxpayer has conducted research into his/her proposed activity, consulted experts or received advice on the running of the activity and the profitability of it before setting up the business. This was the situation in FC of T v. JR Walker 85 ATC 4179; (1985) 16 ATR 331 (JR Walker).

However, it is not necessary for the primary production activities to make a profit in every year of income in order to classify the activities as a business of primary production. Thus, a taxpayer may be carrying on a business of primary production even though he/she is making a small profit or a loss in any given year of income.

As outlined in paragraph 49 of TR 97/11 the situation may arise where a taxpayer is carrying on a business and has an intention to make a profit but the objective evidence is such that a profit is unlikely to be made in the short term. Bowen CJ and Franki J in Ferguson at ATC 4264; ATR 876 stated that '... an immediate purpose of profit-making in a particular income year does not appear to be essential ...'. Thus, where short term losses are expected it may be that a business is nevertheless being carried on.

You have conducted research into proposed activity, consulted experts and received advice on the running of the activity. From this you have determined the commercial viability and profitability of the activities you are planning to and currently undertaking.

You have also presented accounts. You have explained the time to get the operations started is over a long period of time as you have to build up the heard and let the heard grow through natural increases and purchases.

Your business plan suggests that you are intending to make a profit from the venture, while this may not be in every year it is expected that profits will flow.

You have purchased several animals and also land to support the activities and operations. As well as breeding the livestock you are planning on also undertaking fleece production and sales.

Your business plan suggests that he is intending to make a profit from the venture although may not occur in every year.

Repetition and regularity

According to paragraph 55 of TR 97/11 it is often a feature of a business that similar sorts of activities are repeated on a regular basis. The repetition of activities by the same person over a period of time on a regular basis helps to determine whether there is the 'carrying on' of a business.

For example, in Hope the 'transactions were entered into on a continuous and repetitive basis', such that the taxpayer's activities 'manifested the essential characteristics required of a business'. Similarly, in JR Walker the court held that there was repetition and regularity in the taxpayer's activities directed to the breeding of high quality Angora goats and to keeping up with the latest information on Angora goats.

It would be expected that for a business to be carried on the taxpayer should undertake at least the minimum activities necessary to maintain a commercial quantity and quality of product for sale. It may be that there are no minimum levels for this activity. Where there are minimum levels necessary for this activity which the taxpayer fails to maintain, it may be that for a period the taxpayer has ceased to carry on a business of primary production.

You have purchased several animals. You argue there is a long gestation period for the animals and you are in the process of building up the refining the quality bloodline as a commercial business with the objective of being a profit making concern.

Until the size of the herd increases the current stock are shorn for fleece production. You have also outlined that you spend significant time on activities such as herd management, feeding, watering, fencing, health management and general duties.

Same kind and carried on in a similar manner to that of the ordinary trade in that line of business

An activity is more likely to be a business when it is carried on in a manner similar to that in which other participants in the same industry carry on their activities. Lord Clyde in IR Commissioners v. Livingston at TC 542 said that:

... the test, which must be used to determine whether a venture ... is, or is not, "in the nature of trade", is whether the operations involved in it are of the same kind, and carried on in the same way, as those which are characteristic of ordinary trading in the line of business in which the venture was made.

As outlined in paragraph 64 of TR 97/11 in considering this indicator the following factors might be compared with the characteristics of others engaged in the same type of business:

· the volume of sales. If there are a small number of sales it is less likely that a business is being carried on. The volume of sales should be capable of producing a profit at some time. However, allowance is made for droughts, fires and other uncontrollable events which may affect the volume of sales. We also accept that in the early stages of an activity, sales may be low

· the types of customers the taxpayer sells his/her product to - wholesalers, retailers, the public at large, or friends or relatives - and the manner in which this marketing takes place

· the sort of expenses incurred by the taxpayer

· the amount invested in capital items

· previous experience of the taxpayer. A taxpayer who does not have any knowledge or experience may be expected to have sought advice from experts. However, it is recognised that a taxpayer may be a pioneer in the industry. The taxpayer may have conducted research into the activity, decided that the traditional approach is wrong. He/she may be trying to conduct the activity with a view to profit in a new but businesslike way, and

· the activity should also be compared with that of a keen amateur. The sales of a keen amateur may only be a way of obtaining 'new' funds to continue with the personal interest.

The aspects mentioned in the above would need to be compared to the same aspects of how others in the industry conduct their business of primary production. The activity should also be compared to that of the activity of a keen amateur. A taxpayer who:

· has no knowledge or experience of the primary production activity that he/she intends to enter into, and

· does not seek advice or conduct research, and

· starts the activity,

may have difficulty in proving that he/she is carrying on a business of primary production. This will be especially so when the above points add to a general impression that there is no profit motive behind the activity and that there is very little likelihood that the activity will ever be profitable.

You undertook research into primary production before entering the breeding program by:

· attending field days

· visiting farming operations

· researching internet data

· attending primary production and farming courses

· obtaining information packs from the Industry associations

· attending association meetings, and

· holding discussions with breeders.

Also further research has been undertaken into fleece markets around the world and you have had discussions with counterparts and other associations overseas to determine their marketing activity procedures for fleece sales.

Your current sales have been through the selling of fleece, but there have been no sales in stock as you are waiting for the herd to achieve a commercially saleable quantity.

Given the long pregnancy period of the animals, it would be understandable that sales of stock would only occur about once a year. Consequently your activities are of the same kind as in the industry.

Planned, organised and carried on in a businesslike manner

In Newton v. Pyke the court suggested that business should be conducted systematically. A business is characteristically carried on in a systematic and organised manner rather than on an ad hoc basis. An activity should generally conform with ordinary commercial principles to amount to the carrying on of a business.

In Ferguson the Full Federal Court was influenced by the systematic and organised nature of the taxpayer's activities. Fisher J said at FLR 324-325; ATC 4271; ATR 884:

... the venture as a whole had a commercial flavour, was conducted systematically and, ... in a business like manner. It could not be said that there was anything haphazard or disorganised in the way in which he carried out the activity.

In JR Walker Ryan J was satisfied, at ATC 4182; ATR 335, that the taxpayer was in the business of goat breeding as he had 'organised his activities in a business-like way through the keeping of books of account'.

According to TR 97/11 the weight that is attached to this indicator will depend on the facts of the situation and a taxpayer may still carry on a business of primary production despite having poor organisational skills.

You are carrying out the activities in a business like manner as evidenced by business plans, market research into prices and selling potential. The herd is registered with the industry association and you have kept trading accounts, records of expenses, cash books and ledgers and so on.

Size or scale of the activity

The larger the scale of the activity the more likely the rulee will be carrying on a business of primary production, although this may not always be the case.

There is no authority which says that an enterprise must be carried on, on such a scale as to be capable of providing an adequate means of living before it can qualify as a business - Case D3 72 ATC 13 at p 14; (1972) CTBR 562 at p 563 Case 86.

An activity carried on a small scale may constitute the carrying on of a business if the taxpayer has the purpose of making a profit, there is repetition and regularity in the taxpayers activities, the taxpayer himself informed of market conditions the taxpayer organises his activities in a business like way through the keeping of books of account. (JR Walker)

It is clear enough that activities may be said to be a business even though carried on in a small way but nonetheless before such activities can be said to be a business it must be possible to attribute some significant commercial purpose or character to the activity. (Thomas).

In the case of McInnes v FC of T 77 ATC 4167 at p 4169 Justice Eaddell stated that before a small scale operation can be a business there must be some significant commercial purposes or character to the activities. In McInnes Justice Waddell said at 4169, there was no commercial purpose or character because of:

the small number of stock on hand and sales involved and the small profit derived. The activities involved have little in common with those associated with what would ordinarily be described as a business of grazing.

Your activities constitute a business in primary production. You currently hold a number of animals and plan to have even more in the next 12 to 18 months. The animals are currently sited on a large block of land. You have also purchased a larger property for future livestock housing.

Even if the size of the property is small it appears you are carrying on a business of primary production in a small way with future growth expected.

Hobby or recreation

As outlined tin paragraph 98 of TR 97/11 the pursuit of a hobby is not the carrying on of a business for taxation purposes. Money derived from the pursuit of a hobby is not regarded as income and therefore is not assessable. As was said in Ferguson at ATC 4265; ATR 877:

... if what he is doing is more properly described as the pursuit of a hobby or recreation or an addiction to a sport, he will not be held to be carrying on a business, even though his operations are fairly substantial. (emphasis added)

Expenses incurred in relation to the hobby activity are not allowable deductions. However, it is recognised that a hobby can sometimes turn into a business.

Often it will be the case that there is a hobby when:

· it is evident that the taxpayer does not intend to make a profit from the activity

· losses are incurred because the activity is motivated by personal pleasure and not to make a profit and there is no plan in place to show how a profit can be made

· the transaction is isolated and there is no repetition or regularity of sales

· any activity is not carried on in the same manner as a normal, ordinary business activity

· there is no system to allow a profit to be produced in the conduct of the activity

· the activity is carried on a small scale

· there is an intention by the taxpayer to carry on a hobby, a recreation or a sport rather than a business

· any produce is sold to friends and relatives and not to the public at large.

You have purchased the stock and have started the breeding program to build the size of the herd. You have also been involved in the fleece production activities. Although the activity is carried out in a small way we cannot consider your activities as carrying on a mere hobby or recreation.

Conclusion on whether a business is being conducted

From the information provided in your ruling request it is considered that you are carrying on a business of primary production.

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