Edited version of private ruling

Authorisation Number: 1011652330187

This edited version of your ruling will be published in the public Register of private binding rulings after 28 days from the issue date of the ruling. The attached private rulings fact sheet has more information.

Please check this edited version to be sure that there are no details remaining that you think may allow you to be identified. Contact us at the address given in the fact sheet if you have any concerns.

Ruling

Subject: Contracts for Difference (CFDs)

Question 1

Are you entitled to a deduction for losses you incurred from your CFD trading activities?

Answer

Yes

This ruling applies for the following period :

Year ended 30 June 2010

The scheme commences on:

27 September 2009

Relevant facts and circumstances

This ruling is based on the facts stated in the description of the scheme that is set out below. If your circumstances are materially different from these facts, this ruling has no effect and you cannot rely on it. The fact sheet has more information about relying on your private ruling.

You began to trade in shares CFD in 2009 with an initial small investment.

You added additional amounts in the course of trading from your own and borrowed funds. You do not have access to facilities for additional capital.

You have no particular qualification as a share trader. Your experience in share trading is limited to a period of buying and selling small parcels of particular shares before you embarked on CFD.

Your CFD transactions are made on the price of the shares of the companies that you traded in shares previously.

You received introductory training and advice from the CFD providers. You subscribed to their on-line trading and through that have access to your trading records and are able to analyse of the movements of shares in regard to your CFD transactions. You acquired a CFD training software you used to educate and guide you in your CFD trading activity. You used the CFD services online electronic trading platform, made available 24/7, featuring trading guides with professional charting, real-time tradable prices, making orders, tracking trades, monitoring equity status and access to real-time news and analysis eg Dow Jones.

You read information from all sources that you can find eg the internet, newspapers, and other publications.

Your research includes reading these sources of information, analysis of the materials you find on the Web based system from your CFD services and observing the movement of share prices of companies you were interested in. Following which you were aware of their pricing situations.

You have not sought advice from experts in the field of CFD. You felt that you could get skilled by using the Software and by reviewing information in the newspapers, relevant publications and the Internet.

You were attracted to CFD because you could earn some extra money.

Trading strategy

You do not pursue any particular share trading strategy but traded most regularly and actively over a short period.

You made trading decisions based on the fundamentals and information you gained by observing the movements of elements in the shares that you know. The fundamental, as you explain, is about reading market news of the company, the activities it is doing and whether there is any new project which you thought were market sensitive information.

You generally used stop loss measures in the course of your trading and have provided evidence of their use. However, you advised that on occasions you omitted to apply these measures. On one such occasion you suffered a significant loss in your CFD activity.

CFD activities

You provided statements and summaries of your CFD trading account which show your CFD trading activities and trading profit and losses.

You operated from a home office using a computer and internet connection.

You spent about half an hour a day on CFD trading and also have a part-time.

This ruling is given on the basis of the facts stated in the description of the scheme as set out above. Any material variation from these facts (including any matters not stated in the description above and any departure from these facts) will mean that the ruling will have no effect. No entity will then be able to rely on this ruling as the Commissioner will consider that the scheme has been implemented in a way that is materially different from the scheme described.

Relevant legislative provisions

Income Tax Assessment Act 1997 Section 6-5

Income Tax Assessment Act 1997 Section 8-1

Income Tax Assessment Act 1997 Section 15-15

Income Tax Assessment Act 1997 Section 25-40

Income Tax Assessment Act 1997 Section 995-1

Reasons for decision

While these reasons are not part of the private ruling, we provide them to help you to understand how we reached our decision.

Taxation Ruling TR 2005/15 deals with the taxation consequences of financial contracts for differences (CFD).

CFD are a form of cash settled derivative that allow investors to take risks on movements in the price of a subject matter (the 'underlying') without ownership of the underlying. Financial CFD include those relating to share prices, share price indices, financial product prices, commodity price, interest rates and currencies.

When a CFD is opened the investor pays a deposit and may be required to make additional margin payments to cover running losses on open positions. CFD have a leveraging effect with consequent exposure to potentially large gains and losses stemming from exposure to short term financial risk in relation to a relatively small deposit.

Paragraph 11 of TR 2005/15 states that a gain from a financial contract for differences will be assessable income under section 6-5 of the ITAA 1997 if the transaction is entered into as an ordinary incident of carrying on a business, or the profit was obtained in a business operation or commercial transaction for the purpose of profit making.

Paragraph 13 of the TR 2005/15 states that a gain from a financial CFD will be assessable income under section 15-15 of the ITAA 1997 where the taxpayer enters into a financial CFD as a result of carrying on or carrying out a profit-making undertaking or scheme and the gains from it is not assessable under section 6-5 of the ITAA 1997.

Likewise, paragraph 12 and 14 in TR 2005/15 explains that losses from a financial CFD will be deductible under section 8-1 of the ITAA 1997 if the CFD transaction is entered into as an ordinary incident of carrying on a business, or the profit was obtained in a business operation or commercial transaction for the purpose of profit-making. In addition, losses from the financial CFD are deductible under section 25-40 of the ITAA 1997 if the gains would have been assessable under section 15-15 of the ITAA 1997.

Therefore to determine the deductibility of the losses in your case we need to consider whether your CFD activity is regarded a being a business activity.

Are you carrying on a business, or a business operation or commercial transaction for the purpose of profit-making?

Business is defined in section 995-1 of the ITAA 1997 to be any profession, trade, employment, vocation or calling, but does not include occupation as an employee.

Paragraph 17 of TR 2005/15 states that to determine if a business is being carried on, matters such as whether the transactions are entered into in a systematic, organised and 'businesslike' way; the repetition or regularity of the transactions; the scale of the transactions; whether the transaction are related to, or part of, other activities of a businesslike character; the purpose of the taxpayer, the degree of skill employed in how the taxpayer engages in the transactions.

In FC of T v Radnor Pty Ltd (1991) 22 ATR 344; 91 ATC 4689, Hill J stated at 359:

"Ultimately, the question of whether the respondent was carrying on a business of dealing in shares is a question of fact or degree, a question of impression."

There has been much judicial comment as to what is meant by carrying on a business, however the difficulties associated with the question are probably best summed by the following comments in Martin v FC of T (1952) 10 ATD 37 at 38:

"The test is both subjective and objective or otherwise is a question of fact, a number of factors and extent of the activities under review, as well as the purpose of the individual engaging in them and … a determination is eventually based on the large and general impression gained."

Whether activities undertaken constitute the carrying on of a business is essentially a question of fact. While each turn on its own particular facts to determine whether an activity or series of activities are properly characterised as carrying on a business turns upon an assessment of a number of indicators. The indicators were applied in Shields v. Deputy Federal Commissioner of Taxation 99 ATC 2037;(1999) 41 ATR 1042, when Block J said:

"……

(a) the nature of the activities and whether they have the purpose of profit-making

(b) the complexity and magnitude of the undertaking

(c) an intention to engage in trade regularly, routinely or systematically

(d) operating in a business-like manner and the degree of sophistication involved

(e) whether any profit or loss is regarded as arising from a discernible pattern of trading

(f) the volume of the taxpayer's operation and the amount of capital employed;

and more particularly in respect of the activity

(g) repetition and regularity in the buying and selling of stock turnover

(h) whether the taxpayer is operating to a plan, setting budgets and targets, keeping records

(i) maintenance of an office

(j) accounting for the share transactions on a gross receipts basis, and

(k) whether the taxpayer is engaged in another full time occupation."

You have invested in shares CFD with a stated intention of making a profit.

You were engaged in buying and selling shares in small parcels for a year prior to your CFD activity. That was your attempt to gain knowledge of the price and movement of the shares, the price of a CFD is base on. You have not specifically engaged expert advice or their help as you felt you could train yourself using a variety of means. You used the software purchased to educate and guide you through your CFD activity. You read articles by experts on the internet, in newspapers and in other publications. You attended a education seminar provided by the CFD providers and accessed the membership website made available by the provider available, featuring trading guides with professional charting, real-time tradable prices, tracking trades, monitoring equity status and access to real-time news and analysis eg Dow Jones. You generally applied stop loss measures in your CFD activity. On these circumstances it can be considered that there is an intention to making profit with your CFD activity.

You do not have a particular trading strategy.

You traded regularly and routinely over a short period with limited funding resources. You have no other sources of capital for a long term business project.

Although there was an elevated volume of CFD transactions, you have not provided evidence to suggest you conducted your activity in a systematic and businesslike manner.

A review of your monthly statements shows that you had a pattern of trade in CFD where there were a number of significant profit and loss outcomes. It was evident that an significant level of CFD trading activities over a short period and it was repetitive and regular. However this pattern ended with a significant loss, after a chose not to use stop loss measures.

The volume of your CFD transactions was considered high relative to the limited capital resources you employ.

You have retained summaries of CFD transactions but maintained no other business or accounting records eg books, budgets and forward planning information.

You did not have a written business plan, but operated on a value based approach commensurate with the amount of the capital you had available.

You have a home office with a computer and internet facility to conduct your CFD activity. You spent about half hour a day on CFD trading and also worked part-time.

The general impression gained after considering your CFD trading circumstances against the business indicators is that you are not carrying on a business of trading in CFD. Although you use various sources of information to help you, you have not shown that you have utilised a sophisticated business technique. Your CFD activity lacked the degree of organisation and system that would be found in the activities of people who normally would be regarded as carrying on a business.

Therefore any income earned from the CFD trading would not fall to be assessable under section 6-5 of the ITAA 1997. Similarly any losses from the CFD trading will not be allowable deductions under section 8-1 of the ITAA 1997.

Are you carrying on or carrying out a profit-making undertaking or scheme?

The expression carrying on or carrying out in section 15-15(1) cover on the one hand, the habitual pursuit of a course of conduct and, on the other the carrying into execution of a plan or venture which does not involve repetition or system in The Premier Automatic Ticket issuers Ltd v FC of T (1993) 2 ATD 383 at page 394 per Dion J, 50 CLR 268.

To be an undertaking or plan the undertaking or plan must be 'some program, or plan or action'. Clowes v FC of T (1954) 10 ATD 316 at p 323 per Kitto J 91 CLR 209.

In Clowes, Dixon J said:

'…to enter into a contract to provide a specified sum on such terms, to pay it and then to await results cannot be described as carrying out an undertaking or plan. Similarly, the lending of money with a view to generating interest or the outlay of a sum of money to purchase an asset to be applied to income-producing purposes is not a profit making undertaking or plan (Case W47, 89 ATC 453).'

An undertaking or plan need not be precise at commencement. In Steinburg & Ors v FC of T 73 ATC 4030; (1973) 47 ALJR 255, Mason J said,

'… in his view, it was not an essential element of a profit-making undertaking that every step which culminates in the making of a profit should be planned or foreseen before the scheme is put into operation. The means by which the profit is achieved are a means to an end and not an essential element of the scheme.'

And, in the full court, Gibbs J agreed with Mason J, said at (75 ATC p 4234)

'.. if the scheme had the requisite purpose it was a profit-making scheme notwithstanding that the exact manner in which the profit was to be made had not been finally decided. Schemes may be precise or vague; every detail may be arranged in advance, or the working out of the plan may be left for decision in the light of circumstances as they arise. It is no objection to a plan that it allows room for manoeuvre. When property is bought with the purpose of making a profit in the easiest or most advantageous way that may present itself, and the taxpayer adopts " one of the many alternatives" that his plan leaves open, thereby returning himself a profit, he will rightly be said to be carrying out a profit making scheme.'

In contrast to Case W47, and in the absence of a written plan, you initiated and carried on the CFD activity in a way that reflects the elements of a profit making undertaking earlier discussed when we consider whether you are carrying on a business. With the undertaking, you accessed a number of funding arrangements, drawing on your own savings, a personal bank loan and a private loan. In addition, you accessed information from different sources to help in your CFD activity. Your trading transactions show trading decisions that produced profit and loss outcomes.

A scheme may be unwritten and imprecise, but nevertheless follows a plan. The manner of the CFD activity you were engaged in was indicative of a scheme with the purpose and intention of making a profit.

As your CFD activity is undertaken more with a view to making a profit, your gains from trading in CFDs are assessable under section 15-15 of the ITAA 1997 and the losses are deductible under section 25-40 of the ITAA 1997.