Edited version of private advice

Authorisation Number: 1052351608732

Date of advice: 21 January 2025

Ruling

Subject: Commissioner's discretion - Non-commercial losses

Question 1

Will the Commissioner exercise the discretion in paragraph 35-55(1)(a) of the Income Tax Assessment Act 1997 (ITAA 1997) to allow the Taxpayer to include non-commercial losses from their business activity in the calculation of their taxable income for the income year ended 30 June 20XX (Excluded Year)?

Answer 1

Yes.

This ruling applies for the following period:

Income year ended 30 June 20XX

Relevant facts and circumstances

The Taxpayer is a sole trader operating a livestock business. The business commenced in XXX 20XX.

The property on which the business is carried on was purchased by the Taxpayer and is XXX hectares in size.

At the time the property was purchased, it was lacking in infrastructure. The Taxpayer's improvements to the property include structural improvements and machinery.

The Taxpayer's vision for the business is to become a leading supplier of livestock in the region.

The Taxpayer has completed the Livestock Production Assurance program(the Australian livestock industry's on-farm assurance program covering food safety, animal welfare and biosecurity), and has sought, and received, assistance from an experienced stock agent of Elders Limited (Elders) who has provided significant advice regarding breed and stock selection.

With guidance from the Elders stock agent, the Taxpayer has set out to build a herd of quality livestock. They began sourcing select animals, carefully chosen for their genetic quality, and later introduced a purebred sire to ensure breed consistency and herd growth. The breeding sire was selected based on its genetic traits, breed characteristics and health metrics from the breeders' register.

The Taxpayer manages daily tasks that range from animal care and pasture management to budget tracking and sales interactions. They typically work on the business X-X days per week and have XX employees, although during the birthing season the property is attended daily by either the Taxpayer and/or a member of their family.

The Taxpayer is classified as a 'vendor breeder' by Elders, which allows the livestock to be sold directly to the market, bypassing intermediaries. This classification builds buyer trust by ensuring transparency and control over the breeding process and livestock quality.

As a result, most livestock is sold through the X livestock market at the X sale yards located close to the property. The property was strategically chosen for its proximity to the livestock sale yards, enabling the Taxpayer to connect with the target market (i.e. local livestock buyers, livestock processors and other livestock breeders) while minimising freight costs.

Some of the earlier sales were conducted online.

As at X XXX 20XX:

•                     all the livestock had entered the breeding program and successfully breed XX times;

•                     over XX animals had been reared;

•                     the Taxpayer had XX premium animals in total, including the sire; and

•                     some of the livestock were due to birth in XXX/XXX 20XX, and others in XXX/XXX 20XX.

The business has returned a loss in each of the 20XX to 20XX income years, as well as produced an amount of assessable income less than deductions attributable to it (i.e. a tax loss). However, according to the Taxpayer's Profit and Loss projections, the business is expected to derive an amount of assessable income greater than deductions attributable to it (i.e. produce its first tax profit) in the 20XX income year.

The Taxpayer's income projections for the 20XX to 20XX income years are $XXX,XXX. This is derived from:

•                     a sale price per head of $XXX, based on current market trends and average price from XXX Livestock Exchange data, and inflation-adjusted herd improvements; and

•                     a sale of XX animals per year, based on herd growth rates and birthing rates consistent with industry standards in XXX, adjusted for local climate and feed conditions.

The farm's current maximum carrying capacity for livestock is just over XXX hectares. The Taxpayer plans to increase the available pasture by approximately XX hectares, which in turn increases the carrying capacity by a further XX head of livestock without needing extra fodder.

The Taxpayer submits that the business would likely have produced a tax profit attributable to it for the first time in the 20XX income year (the Excluded Year) but for the disruptions and delays caused by the COVID-19 pandemic which reached XXX in XXX 20XX, incapacitated the Taxpayer personally for a period of time, led to rolling government-imposed lockdowns over a period of approximately XX months, and created significant uncertainty and restrictions which disrupted the Taxpayer's ability during this time to access the property (from their base in XXX), implement development plans and breeding activities.

The Taxpayer satisfied:

•                     the income requirement for the income years ended 30 June 20XX, 20XX, 20XX and 20XX, as set out under subsection 35-10(2E) of the ITAA 1997; and

•                     one (or more) of the tests set out in section 35-30, 35-35, 35-40 and 35-45 of the ITAA 1997 for the business for the income years ended 30 June 20XX, 20XX, 20XX, 20XX (the Excluded Year) and 20XX.

As a consequence, the Taxpayer has not applied for the Commissioner's discretion under section 35-55 of the ITAA 1997 for the 20XX, 20XX, 20XX and 20XX income years.

The Taxpayer did not satisfy the income requirement for the Excluded Year as set out under subsection 35-10(2E) of the ITAA 1997, and on X XXX 20XX submitted an application for a private ruling on the Commissioner's discretion under section 35-55 of the ITAA 1997 for the Excluded Year.

Assumption

The exception in subsection 35-10(4) of the ITAA 1997 does not apply in relation to the Taxpayer in respect of the Excluded Year.

Relevant legislative provisions

Income Tax Assessment Act 1997 Division 35

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 subsection 35-10(4)

Income Tax Assessment Act 1997 section 35-30

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

Summary

The Commissioner will exercise the discretion in paragraph 35-55(1)(a) for the Excluded Year.

Detailed reasoning

Division 35 operates to prevent losses from non-commercial business activities carried on by individuals operating alone or in partnership from being offset against other assessable income.

Subsection 35-10(2) is an integrity measure that has the effect of deferring amounts attributable to the business activity that exceeds its assessable income for the relevant income year as deductions as though the excess amount:

•                     was not incurred in that income year; and

•                     was an amount attributable to the business activity that is an allowable deduction for the next income year in which the activity is carried on.

Notwithstanding, subsection 35-10(2) will not be triggered if the business activity satisfies any of the conditions set out in subsection 35-10(1). That is:

•                     the taxpayer's income for non-commercial loss purposes (as per subsection 35-10(2E)) is less than $250,000 and one of the 4 tests in sections 35-30, 35-35, 35-40 and 35-45 is met (assessable income test; profits test; real property test; and other assets test)

•                     the Commissioner has exercised the discretion under section 35-55 for the business activity for the year, or

•                     the exception in subsection 35-10(4) applies for the year.

On application, the Commissioner may exercise the discretion under paragraph 35-55(1)(a) to not apply the rule in subsection 35-10(2) to a business activity for one or more income years (the 'excluded years') where they are satisfied that it would be unreasonable to apply that rule because the business activity was or will be affected in the excluded years 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) may be exercised. Paragraph 13A of TR 2007/6 relevantly provides:

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.

Access to the special circumstances discretion is therefore not limited to those individuals who satisfy the income requirement. Individuals who do not meet the income requirement but can demonstrate their business is commercial and has been affected by special circumstances may also be considered under this discretion.

Notably, the discretion can also be exercised in income years after the one in which the special circumstances have occurred if the effects of those special circumstances on a business activity continue such that it cannot satisfy any of the tests or produce a tax profit in those later years (paragraph 52 of TR 2007/6).

Paragraph 54 of TR 2007/6 explains that while paragraph 35-55(1)(a) 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 government restrictions and illness affecting a key person might, depending on the facts, constitute special circumstances of the type in question.

Application to the Taxpayer's circumstances

The Taxpayer did not satisfy the income requirement in subsection 35-10(2E) for the Excluded Year, but the business activity satisfied at least one of the 4 tests for the Excluded Year.

At a time where the business was still at a developmental phase, it was significantly impacted by COVID-19 (a global pandemic) to the extent that the Taxpayer (being the predominant operator of the business) contracted the virus and was personally incapacitated from it for a period of time and was regularly restricted from accessing the property from their base in XXX due to XXX Government imposed lengthy and rolling lockdowns.

It is considered that these circumstances:

•                     disrupted the Taxpayer's ability to implement their development plans for the business at that critical preliminary stage, and delayed the breeding activities;

•                     prevented the business from having produced a tax profit in the Excluded Year (as was originally projected); and

•                     are considered special circumstances outside the control of the Taxpayer.

Consequently, the Commissioner is satisfied that it would be unreasonable not to allow the Taxpayer to include the loss from their business in the calculation of their taxable income for the Excluded Year, and will exercise the discretion in paragraph 35-55(1)(a) to allow them to do that.

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