Edited version of private advice

Authorisation Number: 1012649996034

Ruling

Subject: non-commercial losses

Question

Will the Commissioner exercise the discretion in paragraph 35-55(1)(a) of the Income Tax Assessment Act 1997 (ITAA 1997) to allow you to include any losses from your business activity in the calculation of your taxable income for the 2012-13 financial year?

Answer

No.

This ruling applies for the following period:

Year ended 30 June 2013

The scheme commenced on
1 July 2012

Relevant facts and circumstances

You are a primary producer and have been affected by drought in the last few years.

Each financial year since the 1999-2000 financial year your primary production activity has produced losses.

You received a one off commission in the 2012-13 financial year.

You do not satisfy the income requirement set out in subsection 35-10(2E) of the ITAA 1997.

Your losses in the 2011-12 financial year were increased in the 2102-13 financial year due to your increased expenditure for water tanks, fodder sheds, and improvement for land degradation.

Relevant legislative provisions

Income Tax Assessment Act 1997 subsection 35-10(1)
Income Tax Assessment Act 1997 subsection 35-10(2)
Income Tax Assessment Act 1997 subsection 35-10(2E)
Income Tax Assessment Act 1997 paragraph 35-55(1)(a)

Reasons for decision

One off commission

For the 2009-10 and later financial years, Division 35 of the ITAA 1997 will apply to defer a non-commercial loss from a business activity unless:

• you satisfy the income requirement and you pass one of the four tests

• the exceptions apply, or

• the Commissioner exercises his discretion.

In your situation, you do not satisfy the income requirement and you do not come under any of the exceptions. The Commissioner's discretion may be exercised for the financial year in question where your business activity is affected by special circumstances outside your control.

For individuals who do not satisfy the income requirement, the business activity must have been materially affected by the special circumstances, causing it to make a loss. In this context, the Commissioner may exercise this discretion for the income year in question where, but for the special circumstances:

• your business activity would have made a tax profit

• the activity passes at least one of the four tests or, but for the special circumstances, would have passed one of the four tests.

Taxation Ruling TR 2007/6 Income Tax: non-commercial business losses: Commissioner's discretion sets out the Commissioner's interpretation of the exercise of the Commissioner's discretion under paragraph 35-55(1)(a) of the ITAA 1997. The following has been extracted from paragraphs 47 to 53 of this ruling:

Although not limited to natural disasters, paragraph 35-55(1)(a) of the ITAA 1997 refers to special circumstances outside the control of the business activity, including drought, flood, bushfire or some other natural disaster. Cyclones, hailstorms and tsunamis are examples of other natural disasters that would come within the scope of the paragraph. These events are taken to be special circumstances outside the control of the operators of the business activity. The special circumstances must have affected the business activity. 

In your case, you received a high remuneration as a one-off event in the 2012-13 financial year. Receiving this payment did not affect your business enterprise, causing it to make a loss. Instead it caused you to fail the income requirement under subsection 35-10(2E) of the ITAA 1997. This is not considered to be 'special circumstances' for the purposes of paragraph 35-55(1)(a) of the ITAA 1997.

Drought

Paragraph 41D of Taxation Ruling TR 2007/6 Income tax: non-commercial business losses: Commissioner's discretion (TR 2007/6) states:

For individuals who do not satisfy the income requirement, the factors that must be satisfied before deciding whether to exercise the special circumstances limb of the discretion for an income year are that:

the business activity is affected by special circumstances such that it is unable to produce a tax profit; and…

Paragraph 50A of TR 2007/6 states:

Where the business activity is carried on by an individual who does not satisfy the income requirement and this activity would have made a loss even if it had not been affected by special circumstances, it is also unlikely that it would be considered unreasonable for the loss deferral rules to apply and therefore the Commissioner is unlikely to exercise the discretion.

Example 7A at paragraph 129 of TR 2007/6 explains the circumstances where although special circumstances may be present the discretion would not be exercised:

129A. Alister carries on a business of breeding cattle for sale, and has done so for the past 20 years. In prior years this business activity has been very profitable. However, in the 2010 income year it was affected by drought, which caused Alister to spend much more than anticipated on fertilizer and seed to maintain the condition of his pastures. The drought also affected the average sale price per head Alister could obtain for his cattle. A large loss was made from the business for the 2010 income year.

129B. Alister did not meet the income requirement (subsection 35-10(2)(E)) for the 2010 income year. Therefore, the fact that his business activity satisfied both the assessable income and profits tests for this year does not automatically mean that the loss deferral rule in subsection 35-10(2) does not apply. This is due to the change in paragraph 35-10(1)(a), and the introduction of subsection 35-10(2E) (the income requirement). He applies for the Commissioner to exercise the discretion under the special circumstances limb in paragraph 35-55(1)(a), and decide that the loss deferral rule not apply.

129C. Alister's application shows that special circumstances outside of his control, in the form of the drought, caused his business activity to make the loss in question, where, but for those circumstances a profit would have been made.

129D. The Commissioner notes the inherent profitability of the business, as borne out by its strong past performance in this respect. He concludes that, while the factors in paragraph 35-10(1)(a) are not directly to be applied, the fact that the business continues to satisfy the assessable income test and the profits test points towards it being 'commercial' in the sense indicated by the scheme of Division 35. The Commissioner concludes that it would be unreasonable in these circumstances for the loss to be deferred, and exercises the special circumstances limb of the discretion.

129E. If the facts were that the business had not made a profit in recent times, and moreover, was not reasonably expected to do so in the future, the mere fact that, for example, the business satisfied the real property test, or the other assets test, would not, in itself, indicate that it was unreasonable for losses from the business to be deferred. This would be so, even if the business activity was affected by special circumstances to some extent, but not to the extent that these circumstances caused what would otherwise be a profitable activity to be one which made a loss.

In your circumstances from the 1999-2000 financial year you have not shown a profit and if the increase in costs in the 2012-13 financial year had not been necessary due to the drought you still would not have produced a profit.

Therefore, the Commissioner will not exercise the discretion under paragraph 35-55(1)(a) of the ITAA 1997 for the 2012-13 financial year on the basis that that it is not reasonable to conclude that the losses made in the 2012-13 financial year were caused by special circumstances.

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