Edited version of private advice

Authorisation Number: 1052241057749

Date of advice: 12 April 2024

Ruling

Subject: Commissioner's discretion - non commercial losses

Question

Will the Commissioner exercise the discretion in paragraph 35-55(1)(c) of the Income Tax Assessment Act 1997 (ITAA 1997) to allow you to include any losses from your primary production activity in your calculation of taxable income for the 2023 income year?

Answer

No.

This ruling applies for the following period:

Year ended 30 June 20XX

The scheme commenced on:

1 July 20XX

Relevant facts and circumstances

Person A and Person B are in partnership with a Company A (the partnership).

The Partnership operates a cotton farm.

The business activity commenced less than X years ago.

The income for non-commercial loss purposes for the 2023 income year was over $250,000 due to a capital gain made by Person B.

The value of property held by Person A and Person B exceeds the real property test threshold of $500,000.

Water improvements and property improvements have been carried out which have a total written down value that exceeds the threshold of $100,000 for the other assets test.

The farming partnership experienced a tax loss due to an increase in cost of operations.

The cost of fertiliser and chemicals for the farming operations rose in comparison to the previous income year.

The interest expenses rose in comparison to the previous income year.

The market prices of cotton and grain did not increase sufficiently to cover the additional costs.

The partnership between Person A and Person B (land owning partnership) experienced a loss due to deductions of water facilities being claimed under subdivision 40-F of the ITAA1997. These costs were incurred in order to make significant improvements on the land which will assist in drought proofing in future years.

The partnership was not able to satisfy the profits test as it has not been in business for 5 years.

Relevant legislative provisions

Income Tax Assessment Act 1997 section 35-10

Income Tax Assessment Act 1997 section 35-10(2E)

Income Tax Assessment Act 1997 subsection 35-10(1)

Income Tax Assessment Act 1997 section 35-30

Income Tax Assessment Act 1997 paragraph 35-33 (1)(c)

Income Tax Assessment Act 1997 section 35-35

Income Tax Assessment Act 1997 section 35-40

Income Tax Assessment Act 1997 section 35-45

Income Tax Assessment Act 1997 section 35-55

Income Tax Assessment Act 1997 paragraph 35-55(1)(a)

Reasons for decision

Division 35 of the ITAA 1997 operates to prevent certain losses from business activities carried on by individuals operating alone or in partnership from being claimed as a deduction.

Under subsection 35-10(1) of the ITAA 1997, a loss made by an individual from a business activity will not be allowed as a deduction in an income year unless:

•         The exception in subsection 35-10(4) of the ITAA 1997 applies;

•         You satisfy the income requirement in subsection 35-10(2E) of the ITAA 1997 and one of the following four tests:

­   The assessable income test (section 35-30 ITAA 1997)

­   The profits test (section 35-35 ITAA 1997)

­   The real property test (section 35-40 ITAA 1997)

­   The other assets test (section 35-45 ITAA 1997); or

•         The Commissioner exercises the discretion in section 35-55 of the ITAA 1997

There are two discretions available to the Commissioner under section 35-55 of the ITAA 1997: lead time and special circumstances. You have requested the Commissioner consider exercising the special circumstances discretion. The Commissioner's approach to exercising the discretion under subsection 35-55(1) of the ITAA 1997 is outlined in Taxation Ruling TR 2007/6 Income Tax: non-commercial losses: Commissioner's discretion (TR 2007/6).

Special Circumstances

The special circumstances discretion may be exercised for the financial year in question where your business activity is affected by special circumstances outside your control. 'Special circumstances' are those circumstances which are sufficiently unusual or different to distinguish them from the circumstances that occur in the normal course of conducting a business activity.

The following paragraphs have been extracted from TR 2007/6:

41D. For individuals who do not satisfy the income requirement, the business activity must have been materially affected by special circumstances, causing it to make a loss. In this context, the Commissioner may exercise this discretion for the income year(s) 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

...

47. In the context of Division 35, where the income requirement is satisfied, special circumstances are ordinarily those affecting the business activity such that it is unable to satisfy a test and it would be unreasonable for the loss deferral rule to apply.8A Subject to paragraphs 48 and 53 of this Ruling, ordinary economic, weather or market fluctuations that might reasonably be predicted to affect the business activity would not be considered to be special circumstances. These fluctuations are expected to occur on a regular or recurrent basis when carrying on a business activity and affect all businesses within a particular industry. (Refer to Example 1 at paragraph 110 of this Ruling). However, substantial unexpected fluctuations of a scale not regularly encountered previously may qualify on a case by case basis.

48. Although not limited to natural disasters, paragraph 35-55(1)(a) refers to 'special circumstances' as including drought, flood, bushfire or some other natural disaster. These events are taken to be special circumstances outside the control of the operators of the business activity.

49. The special circumstances must have affected the business activity. Some indicators of the effects on the business activity that could lead to the exercise of the discretion in regard to the special circumstances limb are:

•         Destruction of stock or equipment (refer to Example 2 at paragraph 112 of this Ruling;

•         Delays in ploughing, planting, harvesting etc (refer to Example 3 at paragraph 115 of this Ruling);

•         Delay in growth of crops (refer to Example 4 at paragraph 118 of this Ruling);

•         Inability of operator to perform duties (refer to Example 5 at paragraph 122 of this Ruling);and

•         Loss of business opportunities (refer to Example 6 at paragraph 125 of this ruling).

...

50. In the situation where a business activity would have failed to satisfy a test even if the special circumstances had not occurred, it is unlikely that the Commissioner would consider it to be unreasonable for the loss deferral rules to apply and therefore the Commissioner would be unlikely to exercise the discretion.

Application

In this case, you have contended that special circumstances exist in the form of the rise in the cost of fertiliser and other chemicals in the 20XX income year and that the sales price of wheat and grain has not risen to a corresponding extent. You have also advised that the rise in borrowing interest rates has been a contributor to the greater costs of undertaking the business activity in the 20XX income year. You have also advised that the water facility works completed to assist in drought proofing future operations contributed to the partnership's loss in the 20XX income year.

Market driven fluctuations in revenue and costs are a normal incident of conducting any business including a primary production business. Volatility in revenue and costs are expected to occur on a regular or recurrent basis when carrying on any business including a primary production business and apply to all businesses in the market sector. Ordinary economic and market fluctuations are not regarded as special circumstances under paragraph 35-55(1)(a) of the ITAA 1997. The water facility works were voluntarily undertaken and the expenses incurred as a result of the works are not circumstances outside the control of the operators of the business activity, as per paragraph 48 of TR 2007/6."

For these reasons, the Commissioner is not empowered to exercise the discretion under paragraph 35-55(1)(a) to allow the losses from the primary production activity to be deducted in the 20XX income year in the calculation of your taxable income.

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