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Ruling

Subject: Non commercial losses - whether farm management withdrawal is part of assessable income in assessable income test

Question

Does the withdrawal of the farm management deposit (FMD) form part of the primary production business income for the purposes of the assessable income test within the non-commercial loss rules in Division 35 of the Income Tax Assessment Act 1997?

Answer

Yes.

This ruling applies for the following period:

Year ended 30 June 2010.

The scheme commences on:

1 July 2009

Relevant facts and circumstances

The taxpayer and their spouse have been running a primary production business for many years, and this is their primary source of income.

During the 2010 financial year, the business returned a primary production and a share of the primary production loss distributed to the taxpayer.

The taxpayer also made a withdrawal from a farm management deposit to use as working capital in the primary production business operations. The spouse has made a similar withdrawal.

The taxpayer also earned other income from non primary production sources in excess of $40,000.

Relevant legislative provisions

Income Tax Assessment Act 1997 section 35-10 and

Income Tax Assessment Act 1997 section 35-30.

Reasons for decision

Summary

The withdrawal of the farm management deposit will be considered to be part of the assessable primary production income when applying the assessable income test to determine whether the primary production business loss needs to be deferred under the non commercial loss provisions.

Detailed reasoning

Section 35-10 of the Income Tax Assessment Act 1997 (ITAA 1997) requires an individual to defer losses from business activities unless one of the tests or exceptions have been satisfied.

Sub-section 35-10(4) of the ITAA 1997 provides an exception to individuals carrying on a primary production business if the other assessable income does not exceed $40,000.

Section 35-30 of the ITAA 1997 outlines the assessable income test, which is passed if the amount of assessable income from the business activity for the year exceeds $20,000.

In this case, the other assessable income exceeds $40,000, so the exception for individuals carrying on a primary production business does not apply. Therefore the four tests will need to be considered. The relevant test in this case is the assessable income test.

Taxation Ruling TR 2001/14 looks at how the various tests, including the assessable income test are to be applied.

Paragraph 14 states:

If the amount of assessable income *derived by the individual from the relevant *business activity for an income year is at least $20,000, the rule in subsection 35-10(2) does not apply

Paragraph 61 states:

Assessable income is defined in section 995-1 of the ITAA 1997 to include statutory income as well as ordinary income (see generally, Division 6 of the ITAA 1997). This definition governs what income will be counted towards the Assessable income test in section 35-30, provided that such income is 'from' the relevant *business activity.

Paragraphs 92A, 92B, and 92C were inserted in 2009 after a Court case [Watson v. Deputy Commissioner of Taxation [2008] FCA 1173; 2008 ATC 20-042] which considered whether a payout from an income protection policy was considered to be income from the relevant business activity. Note that the term 'causative connection' was used in the judgement and is not in the legislation.

Paragraph 92B states:

92B. Whilst acknowledging a business/business activity may comprise 'related or incidental activities', Mansfield J held at paragraph 50 of Watson that there was no element of the business to which the payments were connected, and they had no 'causative connection' with the taxpayer's business. The decision in Watson stands for the proposition that assessable income will not be 'from the business activity' for the purposes of Division 35, unless it has a 'causative connection' with the activity, in the sense of being sourced from or originating in some element of the business activity.

ATO Interpretative Decision 2004/112 has reviewed the assessable income test as outlined in TR 2001/14 specifically in relation to withdrawals from farm management deposits. The facts used in ATO ID 2004/112 consider the situation where all of the withdrawn funds were used in the business operations, so is relevant to the current case.

When applying the loss deferral rule in subsection 35-10(2) of the ITAA 1997, a taxpayer is required to calculate the amount of their non-commercial loss. The amount of this loss is calculated as the excess of their otherwise allowable deductions for this income year, attributable to the business activity, over any assessable income 'from' the activity. The deferred amount cannot be taken into account when calculating their taxable income for the income year in question.

The assessable income test in section 35-30 of the ITAA 1997 provides that the loss deferral rule in section 35-10 of the ITAA 1997 will not apply for an income year where the assessable income 'from' the business activity in question 'is at least $20,000'.

Whether an amount of assessable income is 'from' a business activity, depends on whether that activity is the source or origin of that income based on the ordinary meaning of 'from' (see BHP Petroleum (Timor Sea) Pty Ltd & Ors v. Minister for Resources (1994) 49 FCR 155; (1994) 28 ATR 16), or whether that income is an incident of carrying that activity on (see Kidston Goldmines Ltd v. Federal Commissioner of Taxation (1991) 30 FCR 77; 91 ATC 4538; (1991) 22 ATR 168).

Whilst the assessable income arising from the withdrawal of the FMD does not have its source or origin in the activity based on the ordinary meaning of 'from', there is a sufficiently proximate relationship between the assessable income and the taxpayer carrying on the primary production activity, such that it can fairly be said the assessable income is an incident of carrying on that primary production business.

The funds for making the FMD were from the particular primary production business activity; the decision to have the deposit repaid was made for the purpose of the primary production business and the repaid funds were used in the conduct of the primary production business. Therefore, there is a sufficiently proximate relationship between the assessable income that arises as a result of the FMD being repaid to the taxpayer and the primary production business activity in the 2009-10 income year.

On the facts of this particular case, the assessable income that arose from the repayment of the FMD is assessable income 'from' the business activity and therefore the taxpayer can take this assessable income into account for the purposes of applying the loss deferral rule in subsection 35-10(2) of the ITAA 1997 or determining whether the Assessable income test in section 35-30 of the ITAA 1997 has been satisfied.

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