Edited version of private ruling

Authorisation Number: 1011821317698

This edited version of your ruling will be published in the public Register of private binding rulings after 28 days from the issue date of the ruling. The attached private rulings fact sheet has more information.

Please check this edited version to be sure that there are no details remaining that you think may allow you to be identified. Contact us at the address given in the fact sheet if you have any concerns.

Ruling

Subject: Small business CGT concessions - passively held assets - affiliates and connected entities

Question 1:

Under paragraph 152-80(1)(c) of the Income Tax Assessment Act 1997 (ITAA 1997) would the 50% share of the land that person X acquired before 19 September 1985 have qualified for the small business capital gains tax (CGT) concessions if they had disposed of the asset (the land) immediately before their death?

Answer:

No.

Question 2:

Under paragraph 152-80(1)(c) of the ITAA 1997 would the 50% share of the land that person X acquired on the death of their spouse (after 19 September 1985) have qualified for the small business CGT concessions if they had disposed of the asset (the land) immediately before their death?

Answer:

No.

This ruling applies for the following periods:

1 July 2010 to 30 June 2011.

The scheme commences on:

1 July 2010.

Relevant facts and circumstances

The property was purchased by X and Y as tenants in common before 19 September 1985.

The property was used as a support property and it allowed them to expand their primary production business.

Some time later Y became ill and moved off the property. Child Z assisted their X conduct the primary production activity.

The family made a decision that X move from the property to a home closer to their spouse.

X and Y ceased using primary production averaging and ceased classing themselves as primary producers.

There was an informal understanding that child Z and their spouse would run the business in concert with X's need for financial support for themselves and their spouse. They were required to manage and dedicate the assets placed under their stewardship in keeping with X's needs and a monthly stipend in the form of a property rental was loosely agreed as a means of providing income support. There was no formal rental agreement and the stipend would simply be reviewable with regard to what the families needed to accommodate the material needs of the both households.

X inherited their spouse's 50% of the property when they passed away after 19 September 1985.

The partnership of child Z and their spouse have continued to conduct primary production activities in the same manner that they were conducted by X and Y.

There was never any formal agreement for the arrangement the family put in place to operate the primary production properties and the plant and equipment associated with them.

For some time, child Z and their spouse have used the property, together with X for a period, to best meet the emotional and material needs of all family members rather than commercial arrangements of separate businesses or entities.

The parties consulted regularly on business matters and business affairs were not conducted independently in all regards and family members consulted regularly on arrangements. Business affairs were conducted in a manner that sought to meet the emotional and material needs of family members.

There were separate bank accounts but decisions on how income and expenses were met were not formal but determined by the parties from time to time acting in concert and mindful of the material needs of the parties.

There were no separate business premises and no employees.

X would have satisfied the maximum net asset value test just before their death.

Relevant legislative provisions

Income Tax Assessment Act 1997 Subsection 128-15(2).

Income Tax Assessment Act 1997 Section 152-10.

Income Tax Assessment Act 1997 Section 152-15.

Income Tax Assessment Act 1997 Section 152-35.

Income Tax Assessment Act 1997 Section 152-40.

Income Tax Assessment Act 1997 Section 152-80.

Income Tax Assessment Act 1997 Paragraph 152-80(1)(c).

Income Tax Assessment Act 1997 Paragraph 152-80(1)(d).

Income Tax Assessment Act 1997 Section 328-125.

Income Tax Assessment Act 1997 Section 328-130.

Does Part IVA apply to this ruling?

Part IVA of the Income Tax Assessment Act 1936 is a general anti-avoidance rule that can apply in certain circumstances if you or another taxpayer obtains a tax benefit in connection with an arrangement and it can be concluded that the arrangement, or any part of it, was entered into or carried out by any person for the dominant purpose of enabling a tax benefit to be obtained. If Part IVA applies the tax benefit can be cancelled, for example, by disallowing a deduction that was otherwise allowable.

We have not fully considered the application of Part IVA to the arrangement you asked us to rule on, or to an associated or wider arrangement of which that arrangement is part.

If you want us to rule on whether Part IVA applies we will first need to obtain and consider all the facts about the arrangement which are relevant to determining whether Part IVA may apply.

For more information on Part IVA, go to our website www.ato.gov.au and enter 'part iva general' in the search box on the top right of the page, then select: Part IVA: the general anti-avoidance rule for income tax.

Reasons for decision

In some instances, a taxpayer can reduce the capital gain made from a CGT event by applying the small business CGT concessions.

Section 152-80 of the ITAA 1997 potentially extends the availability of the small business CGT concessions to an asset held by a legal personal representative or beneficiary. This section applies if a CGT event happens within 2 years of the individual's death (subsection 152-80(1)(d) of the ITAA 1997).

Paragraph 152-80(1)(c) of the ITAA 1997 states that that section only applies in the situation where, if the CGT event had happened immediately before the individual's death, then the deceased would have been entitled to reduce or disregard a capital gain under that Division.

Subsection 152-10(1) of the ITAA 1997 provides the basic conditions that must be satisfied in order to apply any of the small business CGT concessions. One of the conditions outlined in paragraph 152-10(1)(b) of the ITAA 1997 is that the event would have resulted in a gain.

If an asset was acquired before 20 September 1985, then a capital gain or capital loss is disregarded in accordance with paragraph 104-10(5)(a) of the ITAA 1997.

Basic Conditions

To qualify for the small business concessions provided in Division 152 of the ITAA 1997, a taxpayer must satisfy the basic conditions in section 152-10 of the ITAA 1997 as well as any other conditions that are specifically applicable to the particular concession claimed by the taxpayer.

Section 152-10 of the ITAA 1997 contains the following basic conditions to be satisfied:

(a) a CGT event happens in relation to a CGT asset of the deceased in an income year. This condition does not apply in the case of CGT event D1

(b) the event would (apart from Division 152 of the ITAA 1997) have resulted in a capital gain

(c) at least one of the following applies:

(i) the deceased is a small business entity for the income year

(ii) the deceased satisfies the maximum net asset value test in section 152-15 of the ITAA 1997

(iii) the deceased was a partner in a partnership that is a small business entity for the income year and the CGT asset is an asset of the partnership

(d) the CGT asset satisfies the active asset test in section 152-35 of the ITAA 1997.

Relevant to this particular set of circumstances is basic condition (d).

Basic condition (d)

The active asset test in section 152-35 of the ITAA 1997 requires the CGT asset that gave rise to the capital gain to be an active asset for a particular period.

Subsection 152-35(1) of the ITAA 1997 provides that the active asset test is satisfied if:

· you have owned the asset for 15 years or less and the asset was an active asset of yours for a total of at least half the test period, or

· you have owned the asset for more than 15 years and the asset was an active asset of yours for a total of at least 7 ½ years during the test period.

The test period:

· begins when you acquired the asset, and

· ends at the earlier of

· the CGT event, and

· if the business ceased in the 12 months before the CGT event when the business ceased (subsection 152-35(2) of the ITAA 1997).

The asset does not need to be an active asset just before the CGT event.

Section 152-40 of the ITAA 1997 provides the meaning of active asset. An asset is an active asset at a time, if at that time, you own the asset and it is used or held ready for use by you, your affiliate or an entity connected with you.

Affiliates

Subsection 328-130(1) of the ITAA 1997 defines an affiliate as an individual or company that acts, or could reasonably be expected to act, in accordance with your directions or wishes, or in concert with you, in relation to the affairs of the business.

Whether a person acts, or could reasonably be expected to act, in accordance with a taxpayer's directions or wishes, or in concert with a taxpayer is a question of fact dependent on all the circumstances of the particular case. No one factor will necessarily be determinative.

According the to the Advanced Guide to capital gains tax concessions for small business, relevant factors that may support a finding that a person acts, or could reasonably be expected to act, in accordance with a taxpayers directions or wishes, or in concert with a taxpayer, include:

(a) the existence of a close family relationship between the parties

(b) the lack of any formal agreement or formal relationship between the parties dictating how the parties are to act in relation to each other

(c) the likelihood that the way the parties act, or could reasonably be expected to act, in relation to each other would be based on the relationship between the parties rather than on formal agreements or legal or fiduciary obligations, and

(d) the actions of the parties.

Also, section 328-130 of the ITAA 1997 states that an individual or company can be your affiliate if the individual or company acts, or could reasonably be expected to act, in accordance with your wishes or directions, or in concert with you, in relation to the affairs of their business. The definition of affiliate does not allow for a partnership to be your affiliate.

This is considered at paragraph 2.40 of the Explanatory Memorandum to the Tax Laws Amendment (Small Business) Bill 2007, which introduced section 328-130 of the ITAA 1997. It states that entities (for tax purposes) such as trusts, partnerships, and superannuation funds are not capable of being affiliates of entities.

Connected Entities

An entity is connected to another entity if either entity controls the other entity or both entities are controlled by the same third entity. It also means that an entity is connected to another entity, if the entity, its affiliates or both of them beneficially own, or have the right to acquire the beneficial ownership of interests in, the other entity that give them the right to receive at least 40% of the distribution of income or capital by the other entity.

The meaning of connected entity is defined under section 328-125 of the ITAA 1997 which states as follows

328-125(1) An entity is connected with another entity if:

(a) either entity controls the other entity in the way described in this section; or

(b) both entities are controlled in a way described in this section by the same third entity.

Direct control of entity other than a discretionary trust

328-125(2) An entity (the first entity) controls another entity if the first entity, its *affiliates or the first entity together with its affiliates:

(a) except if the other entity is a discretionary trust - beneficially own, or have the right to acquire the beneficial ownership of, interests in the other entity that carry between them the right to receive a percentage (the control percentage) that is at least 40% of:

(i) any distribution of income by the other entity; or

(ii) if the other entity is a partnership - the net income of the partnership; or

(iii) any distribution of capital by the other entity; or

(b) if the other entity is a company - beneficially own, or have the right to acquire the beneficial ownership of, equity interest in the company that carry between them the right to exercise, or control the exercise of, a percentage (the control percentage) that is at least 40% of the voting power in the company.

Application to your circumstances

In this case, the land owned by X just before their death can be identified as two separate CGT assets.

The first asset will be the 50% share of the property that they acquired before 19 September 1985. X acquired the asset pre-CGT. If they had disposed of the asset immediately before their death, then there would not have been a capital gain or capital loss as the asset was a pre-CGT asset in their hands.

As there would have been no capital gain for them to reduce or disregard under paragraph 152-80(1)(c) of the ITAA 1997 (as it has been disregarded in accordance with subsection 104-10(5)(a) of the ITAA 1997), then section 152-80 of the ITAA 1997 can not apply.

The 50% share of the land that X acquired in before 19 September 1985 would not have qualified for the small business CGT concessions if she had disposed of the asset (the land) immediately before their death.

The 50% share of the property that was acquired by X at the date of their spouse's death will have a cost base of half the value of the land at that date and other eligible expenses and will only qualify as an active asset if the land was used by an affiliate or a connected entity in carrying on a business.

As stated above, the partnership can not be an affiliate of X.

For the partnership to be connected to X, X and their affiliates need to control the partnership. X does not control the partnership as they are not entitled to the assets or income of the partnership. However, if child Z and their spouse are affiliates of X, as individuals, then the partnership will be a connected entity to X.

In applying the factors in this case, it is considered that child Z and their spouse are not affiliates of X as even though child Z and their spouse considered the financial and emotional needs of X they did not conduct their activities in concert with them. That is, they were able to pay X an amount per month for financial assistance but they did not run the primary production business as X directed. It has not been established that X had input into the day to day activities of the primary production activity; making decisions about livestock, machinery, upkeep and so on.

There is a family relationship of a parent and child/in-law and a concern for general well being but it has not been established that the primary production activity was conducted to X's directions and wishes.

It is accepted that child Z and their spouse used the property and the equipment and livestock of X but it has not been shown that the activities were conducted as X would have conducted them. Whilst decisions may have been discussed in relation to family matters, it is the affairs of the business that need to be conducted under X's direction.

The information provided indicates that family decisions were made in the best interests of all parties involved including financial and emotional. This was indicated by the fact that X moved after a family decision. This does not indicate that child Z and their spouse acted in concert with X.

As child Z and their spouse are not affiliates of X, the partnership is not a connected entity of X.

As the partnership used the asset to carry on a business from the date of acquisition by X, (the date of Y's death) until X died, and it is not a connected entity of X, the 50% share of the property acquired after 19 September 1985 will not be an active asset and the asset will not qualify for the small business CGT concessions.

Copyright notice

© Australian Taxation Office for the Commonwealth of Australia

You are free to copy, adapt, modify, transmit and distribute material on this website as you wish (but not in any way that suggests the ATO or the Commonwealth endorses you or any of your services or products).