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This edited version has been archived due to the length of time since original publication. It should not be regarded as indicative of the ATO's current views. The law may have changed since original publication, and views in the edited version may also be affected by subsequent precedents and new approaches to the application of the law.

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Edited version of your written advice

Authorisation Number: 1051464134686

Date of advice: 11 December 2018

Ruling

Subject: Small business capital gains tax concessions

Question 1

Does the Property satisfy the active asset test?

Answer:

No.

This ruling applies for the following period

Year ended 30 June 2016

The scheme commences on

1 July 2015

Relevant facts and circumstances

Property purchases

The Property

Sale and access to concessions

Relevant legislative provisions

Income Tax Assessment Act 1997 Section 152-35

Income Tax Assessment Act 1997 Section 152-40

Reasons for decision

For the small business CGT concessions in Division 152 of the ITAA 1997 to apply to reduce or disregard a capital gain on the disposal of a CGT asset, the relevant CGT asset must, among other requirements, satisfy the active asset test in section 152-35 of the ITAA 1997.

The active asset test requires the relevant CGT asset to be an active asset:

Subsection 152-40(1) of the ITAA 1997 provides that a CGT asset is an active asset at a given time if, at that time, you own it and:

However, even where an asset satisfies these requirements, an asset may still be excluded from being an active asset by operation of subsection 152-40(4) of the ITAA 1997.

Paragraph 152-40(4)(e) of the ITAA 1997 excludes, among other things, assets whose main use is to derive rent (unless such use was only temporary). Such assets are excluded even if they are used in the course of carrying on a business. If the activities carried on do not amount to the carrying on of a business, it is unnecessary to consider whether the main use of the asset is to derive rent. In your case, we have agreed not to consider whether a business is being carried on unless the main use of the Property was not to derive rent.

Whether an asset's main use is to derive rent will depend on the particular circumstances of each case. In Tax Determination TD 2006/78 ‘Income tax: capital gains: are there any circumstances in which the premises used in a business of providing accommodation for reward may satisfy the active asset test in section 152-35 of the Income Tax Assessment Act 1997 notwithstanding the exclusion in paragraph 152-40(4)(e) of the Income Tax Assessment Act 1997 for assets whose main use is to derive rent?’ the Commissioner stated that a key factor in determining whether an occupant of premises is a lessee is whether the occupier has a right to exclusive possession. If, for example, premises are leased to a tenant under a lease agreement granting exclusive possession, the payments involved are likely to be rent and the premises not an active asset. On the other hand, if the arrangement allows the person only to enter and use the premises for certain purposes and does not amount to a lease granting exclusive possession, the payments involved are unlikely to be rent.

Other factors to consider include the degree of control retained by the owner and the extent of any services provided by the owner such as room cleaning, provision of meals, supply of linen and shared amenities.

Example 1 in TD 2006/78 contains the following example of a company deriving rent from a property, thereby preventing the property from being an active asset.

It is your position that the money obtained from the leasing of the Property to a third party is not rent, but business income. While we have not considered the question of whether you are in business, it is our position that an entity’s business income can include rental income. You have provided information about a number of development opportunities carried out by the controlling individuals either individually, or through entities that they control. These developments are not relevant to our decision on whether the Property was an active asset.

The critical issue is whether the main use of the Property was to derive rent. If the main use of the Property was to derive rent, the Property is not an active asset irrespective of the rent being your business income.

You purchased the Property and operated a business for a period of six months, before leasing the Property to a third party. You have provided two leases relating to the Property, the Main Lease and the Second Lease. The Main Lease was entered for a period of 25 years. The initial annual rent was set at a specific amount, to be increased in line with indexation every five years. You are the landlord. You grant the tenant the right to use and possess the property and the tenant cannot sublet, assign or part with possession without your written consent. The tenant is responsible for keeping the property in good repair and must hold insurance. You, as Landlord, can enter the Property only to carry out structural or other required repairs or by giving seven days’ notice of an inspection.

The Second Lease was entered into for an initial period of five years. The rent is defined as that payable under the Main Lease and for all relevant purposes contains similar terms as the Main Lease.

The conclusion to be drawn from the two leases and your actions during your period of ownership is that the main use of the Property was to derive rent. The Property’s use to derive rent during your ownership period was 96% of the time that you owned the Property. The Property is not an active asset and you are not entitled to apply the small business CGT concessions.


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