Edited version of private advice

Authorisation Number: 1052334233237

Date of advice: 25 November 2024

Ruling

Subject: Commissioner's discretion - 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 in the calculation of your taxable income for the 2023 income year?

Answer

Yes.

This ruling applies for the following period:

Income tax year ending 30 June 2023

The scheme commenced on:

1 July 2022

Relevant facts and circumstances

1)     The Business has been operating since August 20XX by partners with staff employed.

2)     You joined the Business some years later with a XX% share.

3)     The majority partner was your relative.

4)     You are requesting the Commissioner's discretion for the 20XX income year due to 'special circumstances' involving:

a.    the Covid-19 pandemic and government restrictions affecting trade; and

b.    the impact this had on your relative's mental health.

5)     Your relative's mental health was impacted to the extent they could no longer continue with the business. Given their position as majority partner and the key person in operating the business, the decision was made to sell the business during the 2023 income year.

6)     You do not satisfy the less than $250,000 income test set out in subsection 35-10(2E) of the ITAA 1997.

7)     You met the assessable income test in section 35-30 of the ITAA 1997.

8)     For the 2023 financial year, the Business incurred a loss.

9)     For the 2022 financial year, the Business made a profit.

10)  2023 was the final year of trading.

Relevant legislative provisions

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

subsection 35-10(2) of the Income Tax Assessment Act 1997

subsection 35-10(2E) of the Income Tax Assessment Act 1997

section 35-30 of the Income Tax Assessment Act 1997

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

Reasons for decision

Issue 1

Question 1

Summary

The Commissioner will exercise the discretion in paragraph 35-55(1)(a) of the ITAA 1997 to allow you to include the loss from your business activity in the calculation of your taxable income for the 20XX income year.

Detailed reasoning

Non-commercial losses

For the 2009-10 and later income years, Division 35 of the Income Tax Assessment Act 1997 (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.

You do not satisfy the income requirement in subsection 35-10(2E) of the ITAA 1997 as your taxable income, reportable fringe benefits and reportable superannuation contributions but excluding your business losses, exceed $250,000. The activity is not an excepted business activity.

Relevantly, the Commissioner's discretion in paragraph 35-55(1)(a) of the ITAA 1997 may be exercised for the income year in question where the business activity is affected by special circumstances outside the control of the operators of the business activity including drought, flood, bushfire or some other natural disaster.

Taxation Ruling TR 2007/6 Income tax: non-commercial business losses: Commissioner's discretion (TR 2007/6) provides guidance on how the discretion in paragraph 35-55(1)(a) of the ITAA 1997 may be exercised.

Paragraph 13 A of TR 2007/6 relevantly summarises:

For those individuals who do not satisfy the income requirement in subsection 35-10(2E) special circumstances are those which have materially affected the business activity, causing it to make a loss. For these individuals the Commissioner's discretion in paragraph 35-55(1)(a) may be exercised for the income year(s) in question where:

•         but for the special circumstances, the business activity would have made a tax profit; and

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

The four tests include the assessable income test in section 35-30 of the ITAA 1997

Affected by 'special circumstances'

Paragraph 54 of TR 2007/6 explains that while paragraph 35-55(1)(a) of the ITAA 1997 refers to 'special circumstances outside the control of the operators of the business activity, including drought, flood, bushfire or some other natural disaster', the use of the word 'including' indicates that the type of circumstances to which the special circumstances test can potentially apply is broader than those which are natural disasters and that an illness affecting a key person might, depending on the facts, constitute special circumstances of the type in question.

Outside the control of the operators of the business activity

Paragraph 55 of TR 2007/6 relevantly states:

The concept of 'control' was discussed in Secretary, Department of Employment, Education and Youth Affairs v. Ferguson (1997) 76 FCR 426; (1997) 48 ALD 593; (1997) 147 ALR 295 for the purposes of subsection 45(6) of the Employment Services Act 1994. At 76 FCR 438; 48 ALD 603; 147 ALR 306, Mansfield J said:

The expression in s45(6)(a) requires that the main reason for the failure was something that the person had within that person's control. The concept of 'control' in that context is one of fact, but I think it is intended to mean something which the person could have done something about.

...

It recognises the focus of the expression upon occurrences which the person concerned could not realistically prevent.

Application to your circumstances

For the 2023 income year, the business activity satisfied the assessable income test in section 35-30 of the ITAA 1997.

In your case, the business was significantly impacted by Covid-19 which affected the mental health of the key person of the business (your relative) to such an extent that they could not continue with the business. Due to this circumstance, the business could no longer operate and therefore it was agreed by the partners to sell the business in the 2023 income year.

Having regard to your circumstances and the principles set out in TR 2007/6 it is accepted that the business activity was affected by special circumstances that were outside the control of the operators and this prevented you from making a tax profit in the 2023 income year. Consequently, the Commissioner will exercise the discretion in paragraph 35-55(1)(a) of the ITAA 1997 to allow you to include the loss from your business activity in the calculation of your taxable income for the 2023 income year.

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