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Ruling

Subject: Capital gains tax concessions for small business

Question 1:

Are the directors/shareholders of the company considered to be your affiliates for the purposes of the small business entity test?

Answer:

No

Question 2:

Are the directors/shareholders of the company considered to be entities that are 'connected with' you for the purposes of the small business entity test?

Answer:

No

Question 3:

Is the land considered an active asset?

Answer:

Yes

Question 4:

Do you meet the basic conditions necessary to access the capital gains tax (CGT) concessions for small business on the sale of the land?

Answer:

Yes

This ruling applies for the following period

Year ended 30 June 2012

The scheme commenced on

1 July 2011

Relevant facts and circumstances

You acquired land prior to 2005.

The land was acquired to conduct a business venture.

The business venture was conducted on the land since its purchase up until 20XX when the business activity started to fail.

As a substitute for the initial business activity, the land was also utilised for a secondary business activity, with the first sale from the new business activity realised in 20XX. This business activity continued until the sale of the land in 20XX.

The shareholders of the company compromise a number of family members, and their shareholdings at the date of the CGT are 25% of the voting power each.

No shareholder holds more than 40% of the voting power of the company.

The directors of the company at the date of the CGT event are the same as the shareholders.

There is only one active director involved in the day to day management of the company. This director is the sole initiator of the business activity and is the sole decision maker in relation to the company activities. Approximately 95% of all the company's day to day business, logistics, management and accounts are handled by this director. The other directors are basically silent directors and have minimal involvement.

The company's annual turnover was less the $2 million in both the year the land was sold and the year prior to the sale of the land.

The shareholders/directors of the company have no other individual business interests.

Relevant legislative provisions

Income Tax Assessment Act 1997 Subsection 328-110(1)

Income Tax Assessment Act 1997 Section 328-115

Income Tax Assessment Act 1997 Section 328-130

Income Tax Assessment Act 1997 Subsection 328-130(2)

Income Tax Assessment Act 1997 Subsection 328-125(1)

Income Tax Assessment Act 1997 Paragraph 328-125(2)(b)

Income Tax Assessment Act 1997 Section 152-10

Income Tax Assessment Act 1997 Section 152-15

Income Tax Assessment Act 1997 Subsection 152-10(1A)

Income Tax Assessment Act 1997 Section 152-35

Income Tax Assessment Act 1997 Section 152-40

Income Tax Assessment Act 1997 Section 104-10

Reasons for decision

Summary

The directors/shareholders of the company are not considered to be your affiliates for the purpose of the small business entity test as they cannot reasonably be expected to act in accordance with your directions or wishes in relation to their business affairs, as the directors do not have an interest in, nor do they carry on, any other businesses.

The directors/shareholders of the company are not considered to be entities 'connected with' you for the purposes of the small business entity test as individually they do not hold more than 40% of the voting power of the company. In addition, as they are not considered affiliates of each other, collectively they are not 'connected with' the company for the purposes of the small business entity test.

The land is considered an active asset of yours as it is used in the course of carrying on your business since the date of its purchase until it was sold.

As you meet the definition of a small business entity and the asset is considered an active asset, you satisfy all the basic conditions necessary to be eligible for the capital gains tax (CGT) small business concessions.

Detailed reasoning

Small business entity

Subsection 328-110(1) of the Income Tax Assessment Act 1997 (ITAA 1997) provides that you are a small business entity for an income year if:

· you carry on a business in the current year; and

· one or both of the following applies:

· you carried on a business in the income year before the current year and your aggregated turnover for the previous year was less than $2 million;

· your aggregated turnover for the current year is likely to be less than $2 million.

Section 328-115 of the ITAA 1997 explains that your aggregated turnover is your annual turnover plus the annual turnovers of any business entities that are your affiliates or that are 'connected with' you.

Affiliate

An affiliate is defined by section 328-130 of the ITAA 1997 as being an individual or company who acts or could reasonably be expected to act, in accordance with your directions or wishes, or in concert with you, in relation to the business affairs of that individual or company.

Importantly, subsection 328-130(2) of the ITAA 1997 provides that an individual or a company is not your affiliate merely because of the nature of the business relationship you and the individual or company share. For example, a partner in a partnership would not be an affiliate of another partner merely because the first partner acts, or could reasonably be expected to act, in accordance with the directions or wishes of the second partner, or in concert with the second partner, in relation to the affairs of the partnership. Directors of the same company and trustees of the same trust, or the company and a director of that company, would be in a similar position.

In your case, none of the directors of the company carry on a business in their own right nor do they have an interest in any other business. Therefore, they cannot reasonably be expected to act in accordance with your directions or wishes in relation to their business affairs.

Accordingly, none of the directors are considered your affiliates for the purposes of the small business entity test.

An entity 'connected with' you

Subsection 328-125(1) of the ITAA 1997 provides that an entity is "connected with" another entity if, either entity controls the other entity, or both entities are controlled by the same third entity.

Paragraph 328-125(2)(b) of the ITAA 1997 provides that in the case of a company, an entity will be 'connected with' the company if the first entity, its affiliates, or the first entity together with its affiliates: beneficially own, or have the right to acquire the beneficial ownership of, equity interests in the company that carry between them the right to exercise, or control the exercise of at least 40% of the voting power in the company.

In your case, none of the shareholders of the company individually hold more than 25% of the voting power in the company. In addition, none of the directors of the company are considered affiliates of each other as none of the directors carry on a business in their own right, nor do they have an interest in any other business. Therefore, none of the shareholders of the company are able to individually (or collectively) control the voting power in the company.

Accordingly, the shareholders are not considered entities that are 'connected with' you for the purposes of the small business entity test.

Small business CGT concession eligibility and the active asset test

Section 152-10 of the ITAA 1997 contains the basic conditions you must satisfy to be eligible for the small business capital gains tax (CGT) concessions. These conditions are:

· a CGT event happens in relation to a CGT asset in an income year.

· the event would have resulted in the gain

· at least one of the following applies:

· you are a small business entity for the income year

· you satisfy the maximum net asset value test in section 152-15 of the ITAA 1997

· you are 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 or

· the conditions in subsection 152-10(1A) or (1B) of the ITAA 1997 are satisfied in relation to the CGT asset in the income year.

· the CGT asset satisfies the active asset test in section 152-35 of the ITAA 1997.

Section 152-40 of the ITAA 1997 provides the meaning of 'active asset'. A CGT asset will be an active asset at a time if, at that time, you own the asset and the asset was used or held ready for use by you, an affiliate of yours, or by another entity that is 'connected with' you, in the course of carrying on a business.

Section 152-35 of the ITAA 1997 explains that an asset will be an active asset if you have owned the asset for 15 years or less and it was an active asset for a total of at least half the time from when you acquired the asset until the CGT event.

In your case, CGT event A1 (section 104-10 of the ITAA 1997) relating to the disposal of an asset (the land) has occurred and the event has resulted in a capital gain. You have owned the asset from 20XX until the date of disposal in 20XX and it has been an active asset for all of this time as it has been used in the course of carrying on your business.

The shareholders/directors of the company are not considered to be your affiliates nor entities that are 'connected with' you, therefore, it is only your annual turnover that is included in determining whether you meet the definition of a small business entity.

Accordingly, based on the information provided, you have satisfied all the basic conditions required to be eligible for the small business CGT concessions. As such, you are automatically entitled to apply the 50% active asset reduction concession for the capital gain made on the disposal of the land.

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