Edited version of private advice

Authorisation Number: 1052367758612

Date of advice: 6 March 2025

Ruling

Subject: Non commercial loss - lead time

Question 1

Will the Commissioner exercise discretion under paragraph 35-55(1)(c) of the Income Tax Assessment Act 1997 (ITAA 1997) to allow you to include any losses from your business activity in your calculation of taxable income for the 20XX financial year?

Answer 1

No. The Commissioner will not allow you to include any losses from your business activity in your calculation of taxable income for the 20XX financial year.

This ruling applies for the following period:

Year ending 30 June 20XX

The scheme commenced on:

1 July 20XX

Relevant facts and circumstances

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

Your total employment income during the 20XX financial year was greater than $250,000.

You commenced your professional service in late 20XX.

In your application, you stated that the accepted number of years before the business activity becomes commercially viable is 2 years.

You are unable to provide specific evidence from any third party due to privacy concerns which would substantiate the 2-year timeframe mentioned within your application for lead time.However, to assist in substantiating your view, you provided relevant documentation.

You are not required to have a government issued licence or government approval to conduct a business in your professional industry.

Prior to commencing your professional industry service, you worked in an alternative professional field for X number of years, where you worked XX hours a week in this role.

You have since resigned the work in the alternative professional field mentioned above to focus on your current business.

You changed careers from the alternative profession to a business owner as you had a desire to spend more time with your family and turn a passion into a business venture.

You spend at least XX hours a week which includes weekends working on your current business.

You previously travelled through a foreign country and lived in the region for 12 months in 20XX.

You visited the same region in 20XX. Subsequent to this visit, you entered into an 'collaborative partnership' with two businesses where you have an understanding that if you make a arrangement for a customer, you will make the two businesses the preferred provider.

There is no written agreement between you and the two providers.

If you make an arrangement for a customer, they will receive a discount off the published rate on a website.

You require a deposit from a customer when making an arrangement, and the balance is paid directly to the providers.

You stated that you are a member of several relevant Associations.

You subscribe to an online service which has a back-end section for people in the alternative industry which allow them to connect with each other.

You provided a business plan.

You provided a profit and loss statement for the 20XX financial year showing a loss of $XXX,XXX.

You provided an up to date 20XX financial year profit and loss statement as at February 20XX.

Relevant legislative provisions

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

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

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

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

Reasons for decision

Division 35 of the ITAA 1997 prevents losses from a non-commercial business activity carried out by an individual taxpayer (alone or in partnership) from being offset against other assessable income in the year in which the loss is incurred, unless:

•                     the individual meets the income requirement and the business activity satisfies one of the 4 stipulated tests (paragraph 35-10(1)(a));

•                     an exception in subsection 35-10(4) applies; or

•                     the Commissioner exercises the discretion in subsection 35-55(1) for the business activity for one or more income years.

In your situation, you do not satisfy the income requirement and you do not come under any of the exceptions.

Your business losses are therefore subject to the deferral rule, unless the Commissioner exercises his discretion.

You have requested the Commissioner to exercise his discretion under paragraph 35-55(1)(c) of the ITAA 1997 for the 20XX financial year.

Paragraph 35-55(1)(c) of the ITAA 1997 provides that the Commissioner's discretion can be exercised where:

•                     the business activity has started to be carried on but because of its nature it has not produced, or will not produce, assessable income greater than the deduction attributable to it; and

•                     there is an objective expectation that within a period that is commercially viable for the industry concerned the activity will produce assessable income for an income year greater than the deductions attributable to it for that year.

Where a taxpayer chooses to carry on the business activities in a manner that does not produce a tax profit within the period that is commercially viable for the industry concerned, paragraph 35-55(1)(c) of the ITAA 1997 may not be satisfied.

The Commissioner's approach to exercising the discretion under section 35-55 of the ITAA 1997 is outlined in Taxation Ruling TR 2007/6 Income Tax: non-commercial losses: Commissioner's discretion (TR 2007/6).

TR 2007/6 states that the 'lead time' discretion provided by paragraph 35-55(1)(c) of the ITAA 1997 is available for a business activity if there is an initial period from when the activity commenced where the nature of the activity prevents a tax profit from being made.

For the Commissioner to exercise the discretion you must be able to show that the reason your business activity is producing a loss is inherent to the nature of the business and is not peculiar to your situation.

The phrase 'the nature of the activity' as it is used in section 35-55 of the ITAA 1997 was considered in some length in FC of T v Eskandari 2004 ATC 4042. In his discussion on the matter Stone J stated:

The definition of 'nature' relied on by the applicant is an 'essentialist' definition, incorporating the concept of a fundamental or essential character created by an 'inherent and inseparable combination of properties'. An instrumentalist definition might incorporate the concept of 'defining characteristics'. Either way, a decision as to the 'nature' of a business activity requires not just an understanding of the meaning of the word but a judgment as to which characteristics are 'essential' or 'defining' in respect of the relevant business activity.

In this case the court ruled that asking for the greater part of a client's fees on the successful grant of their visas was not in the nature of an immigration agent's business, but it was a business choice peculiar to that agent's business model. An argument that the business was in a developmental stage and required more time to build its client base was also dismissed, as this could apply to almost any new business.

The lead time discretion is not intended to be available where the failure to make a profit is for reasons other than the nature of the business, such as, a consequence of starting out small and needing to build up a client base, or business choices made by an individual (for example, the size and scale of the activity, the hours of operation, and or the level of debt funding) that are not consistent with the ordinary or accepted practice in the industry concerned.

In your case you commenced your business operations in the 20XX financial year and proceeded to build your client base. You are working approximately a 50/50 split between paid employment and your business, being XX hours a week on paid employment and XX hours a week on your current business.

We do not consider that there is anything inherent or innate in the nature of your business activity that prevents it making a profit. Your activity is of a type that is able to produce assessable income quite soon after its commencement.

Your decision to spend in excess of $XXX,XXX on marketing and advertising resulted in you incurring a loss during the 20XX financial year. You have incurred further losses in excess of $XXX,XXX during the 20XX financial year. These are individual circumstances affecting your activity rather than an inherent characteristic of the industry.

Therefore, the Commissioner will not exercise the discretion to allow you to include any losses from your business in your calculation of taxable income for the 20XX financial year.

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