Edited version of private ruling

Authorisation Number: 1011696424977

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: CGT Small Business Concessions

Issue 1

Question 1

Are you entitled to use the small business 50% reduction concession under Subdivision 152-C of the Income Tax Assessment Act 1997 (ITAA 1997) for the sale of a business?

Answer

Yes.

Question 2

Are you entitled to use the small business retirement exemption concession under Subdivision 152-D of the ITAA 1997 for the sale of a business?

Answer

Yes.

Issue 2

Question 1

Is the building deemed to be owned by you for the small business concessions under Division 152 of the ITAA 1997 as it is owned by your family trust?

Answer

No.

Question 2

Is the land and building considered an active asset under paragraph 152-10(1)(d) of the ITAA 1997 as the building is where the factory is located and used for business and will continue being used for the business?

Answer

No.

Question 3

Since you and your family trust own assets under the $6,000,000 Asset Threshold, can you take advantage of the small business concessions under Subdivision 152-C of the ITAA 1997 in relation to the land and building sale?

Answer

No.

Question 4

Are you entitled to use the small business retirement exemption concession under Subdivision 152-D of the ITAA 1997 for the sale of the building?

Answer

No.

This ruling applies for the following period:

Year ended 30 June 2011

The scheme commences on:

1 July 2010

Relevant facts and circumstances

You are retiring and selling your share of the business (X Pty Ltd) and your share of the property that the business is run out of.

X Pty Ltd has been running for a number of years but less than 15 years.

The shareholding of the business is in your name and you own 20% of the business.

You are selling your 20% share of X Pty Ltd to the existing shareholders for $Z. The sale would result in a capital gain.

Your accountant states that it is difficult to determine what the market value of the company is at any point in time due to this being a privately owned company. To your accountant's knowledge, there has never been any goodwill recorded in the accounts of the company and your accountant had reviewed the accounts from 2004 and has not seen goodwill being recorded. The assets of the company mainly comprise fixed assets which have been depreciated in line with ATO guidelines and the other major asset being trade debtors. Your accountant further states that it is difficult to determine if these assets were to come on to the open market at a particular point in time what their value would be but if the sale of the company did happen on an ongoing basis then your accountant would assume that the total value of the active assets, financial instruments and cash of the company would be at least 80% of the market value.

The property is owned in your family trust and it owns 30% of the property. Your family trust owns the property through a partnership structure. Your family trust is selling its share of the building for $Y to entities that are controlled by the other shareholders. The sale of the property would result in a capital gain.

You and your spouse are the primary beneficiaries of the family trust. The trustee of the family trust is A Pty Ltd, a company which you and your spouse are the directors of.

You have confirmed that you, your spouse and your family trust in total own assets under the $6,000,000 asset threshold.

Your wife is not a shareholder of X Pty Ltd.

The other shareholders of X Pty Ltd are neither connected with you nor affiliates of yours.

Assumptions

Your accountant has made the assumption that the total value of the active assets, financial instruments and cash of X Pty Ltd would be at least 80% of the market value of the company.

Relevant legislative provisions

Income Tax Assessment Act 1997 Division 152

Income Tax Assessment Act 1997 Subdivision 152-A

Income Tax Assessment Act 1997 Subdivision 152-C

Income Tax Assessment Act 1997 Subdivision 152-D

Income Tax Assessment Act 1997 section 152-10

Income Tax Assessment Act 1997 subsection 152-10(1)

Income Tax Assessment Act 1997 subsection 152-10(2)

Income Tax Assessment Act 1997 section 152-15

Income Tax Assessment Act 1997 subsection 152-35(1)

Income Tax Assessment Act 1997 subsection 152-40(3)

Income Tax Assessment Act 1997 subsection 152-40(3A)

Income Tax Assessment Act 1997 subsection 152-40(3B)

Income Tax Assessment Act 1997 section 152-55

Income Tax Assessment Act 1997 section 152-60

Income Tax Assessment Act 1997 section 328-125

Income Tax Assessment Act 1997 subsection 328-125(2)

Income Tax Assessment Act 1997 subsection 328-125(4)

Income Tax Assessment Act 1997 subsection 328-130(1)

Does Part IVA apply to this ruling?

Part IVA of the Income Tax Assessment Act 1936 (ITAA 1936) is a general anti-avoidance rule that can apply in certain circumstances if you or another taxpayer obtains a tax benefit in connection with an arrangement and it can be concluded that the arrangement, or any part of it, was entered into or carried out by any person for the dominant purpose of enabling a tax benefit to be obtained. If Part IVA applies the tax benefit can be cancelled, for example, by disallowing a deduction that was otherwise allowable.

We have not fully considered the application of Part IVA of the ITAA 1936 to the arrangement you asked us to rule on, or to an associated or wider arrangement of which that arrangement is part.

If you want us to rule on whether Part IVA of the ITAA 1936 applies we will first need to obtain and consider all the facts about the arrangement which are relevant to determining whether Part IVA may apply.

For more information on Part IVA of the ITAA 1936, go to our website www.ato.gov.au and enter 'part iva general' in the search box on the top right of the page, then select: Part IVA: the general anti-avoidance rule for income tax.

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.

All legislative references are to the Income Tax Assessment Act 1997 unless otherwise stated.

Issue 1

Summary

You are entitled to use the small business 50% reduction concession under Subdivision 152-C and the small business retirement exemption concession under Subdivision 152-D for the sale of your shareholding in X Pty Ltd as it meets the basic conditions set out in Subdivision 152-A with paragraph 152-10(1)(d) being met based on your accountant's assumptions.

Detailed reasoning

Section 152-10 establishes the basic conditions for small business relief. Where the basic conditions are satisfied, an entity may be able to reduce its capital gains using the small business concessions in Division 152.

The basic conditions set out in subsection 152-10(1) are:

(a) A CGT event happens in relation to a CGT asset of yours in an income year;

(b) the event would (apart from this Division) have resulted in the gain;

at least one of the following applies:

(i) you are a small business entity for the income year;

(ii) you satisfy the maximum net asset value test;

(iii) you are a partner in a partnership that is a small business entity for the income year and the CGT asset is an asset of the partnership;

(d) the CGT asset satisfies the active asset test.

Furthermore, subsection 152-10(2) states that if the CGT asset is a share in a company, one of these additional basic conditions must be satisfied just before the CGT event:

a) you are a CGT concession stakeholder in the object company or trust; or

b) CGT concession stakeholders in the object company or trust together have a small business participation percentage in you of at least 90%.

Paragraph 152-10(1)(a) requires a CGT event to happen in relation to your CGT asset. A CGT asset includes any kind of property or legal or equitable right. The relevant CGT event would be the disposal of the asset which would trigger a CGT event A1.

You will be disposing your 20% shareholding in X Pty Ltd. CGT event A1 will be triggered in relation to your CGT asset therefore this condition is satisfied.

Paragraph 152-10(1)(b) requires the CGT event would have resulted in a capital gain. The sale of your 20% shareholding in X Pty Ltd will result in a capital gain before any capital gains discount will be applied and therefore this condition is satisfied.

Section 152-15 states that you satisfy the maximum net asset value test if, just before the CGT event, the sum of the following amounts does not exceed $6,000,000:

a) the net value of the CGT assets of yours;

b) the net value of the CGT assets of any entities connected with you;

c) the net value of the CGT assets of any affiliates of yours or entities connected with your affiliates (not counting any assets already counted under paragraph (b)).

Section 328-125 provides that an entity is connected with another entity if one of the entities controls the other entity, or if the two entities are controlled by the same third entity.

Under paragraph 328-125(2)(b), control of a company will be established if an entity alone or together with affiliates beneficially own, or has the right to acquire beneficial ownership of, interests in the company with at least 40% of the voting power in the company.

Under subsection 328-125(4), an entity is taken to control a discretionary trust for an income year if:

§ for any of the four income years before that income year:

o the trustee paid any income or capital of the trust to or for the benefit of the first entity, its affiliates, or the first entity and its affiliates; and

o the amount paid or applied to the entity and/or its affiliates is at least 40 percent of the total amount of income or capital paid or applied by the trustee for that income year; or

§ the trustee of the trust acts, or could reasonably be expected to act, in accordance with the directions or wishes of the entity.

In accordance with paragraph 328-125(2)(b), you do not control X Pty Ltd as you only own 20% of X Pty Ltd and therefore you have a voting power of less than 40% in the company. As such, you are not required to take into account the net value of the CGT assets of X Pty Ltd when determining whether or not you satisfy the maximum net asset value test.

You and your spouse are the primary beneficiaries of the family trust. The trustee of your family trust is A Pty Ltd, a company in which you and your spouse control. Therefore, the corporate trustee of the family trust acts in accordance with your directions or wishes and thus it is taken that you control the family trust.

Subsection 328-130(1) defines an affiliate as an individual or a company which acts or could reasonably be expected to act, in accordance with your directions or wishes, or in concert with you, in relation to the affairs of the business of the individual or company.

Your spouse, being a director of A Pty Ltd is considered as an affiliate of yours according to subsection 328-130(1) as it can be reasonably expected that your spouse will act in accordance with your directions or wishes, or in concert with you, in relation to the affairs of A Pty Ltd and your family trust.

Consequently, your spouse is your affiliate and your family trust is an entity connected to you and you are required to take into consideration the net value of the CGT assets of your spouse and your family trust when determining whether or not you satisfy the maximum net asset value test.

You state that you, your spouse, and your family trust in total own assets under the maximum net asset value threshold of $6,000,000 and therefore you satisfy the condition set out in paragraph 152-10(1)(c).

Paragraph 152-10(1)(d) requires that the CGT asset is to satisfy the active asset test. Subsection 152-35(1) provides that a CGT asset satisfies the active asset test if:

§ the taxpayer has owned the asset for 15 years or less and the asset was an active asset for a total of at least half of the period of ownership; or

§ the taxpayer has owned the asset for more than 15 years and the asset was an active asset for a total of at least 7½ years of the period for which it is owned.

Subsection 152-40(3) states that a CGT asset is also an active asset at a given time if, at that time, you own it and:

(a) it is either a share in a company that is an Australian resident at that time or an interest in a trust that is a resident trust for CGT purposes for the income year in which that time occurs; and

(b)the total of:

(i) the market values of the active assets of the company or trust; and

(ii) the market value of any financial instruments of the company or trust that are inherently connected with a business that the company or trust carries on; and

(iii) any cash of the company or trust that is inherently connected with such a business;

is 80% or more of the market value of all of the assets of the company or trust.

Subsection 152-40(3A) states that a share in a company, or an interest in a trust, mentioned in paragraph (3)(a) is an active asset at a time (the later time) if:

a) the share or interest was an active asset at an earlier time; and

b) it is reasonable to conclude that the share or interest is still an active asset at the later time.

Subsection 152-40(3B) further states that a share in a company, or an interest in a trust, mentioned in paragraph (3)(a) is an active asset at a time if:

a) the share or interest fails to meet the requirements under subsection (3) at that time; and

b) the failure is of a temporary nature only.

In your case, the CGT asset in question is your 20% shareholding in X Pty Ltd. X Pty Ltd is a company that is an Australian resident and therefore paragraph 152-40(3)(a) is satisfied. Your accountant states that if the sale of the company did happen on an ongoing basis then your accountant would assume that the value of the assets mentioned in subparagraphs 152-40(3)(b)(i) to 152-40(3)(b)(iii) of the company would be at least 80% of the market value. To your accountant's knowledge:

§ there has never been any goodwill recorded in the accounts of the company and he had reviewed the accounts from 2004 and has not seen goodwill being recorded; and

§ the assets of the company mainly comprise fixed assts which have been depreciated in line with ATO guidelines and the other major asset being trade debtors.

Your accountant's assumption that the assets would be at least 80% of the market value appears to be reasonable and therefore, your shareholding in X Pty Ltd meets the active asset test set out in paragraph 152-10(1)(d).

Section 152-60 defines CGT concession stakeholder as a significant individual in the company. Section 152-55 provides that an individual is a significant individual in a company or a trust at a time if, at that time, the individual has a small business participation percentage in the company or trust of at least 20%. In your case, you own 20% of X Pty Ltd and therefore, you satisfy the condition set out in subsection 152-10(2).

Under Subdivision 152-C, a capital gain arising from a CGT event will be reduced by 50% if all the basic conditions in Subdivision 152-A are satisfied. As explained above, you satisfy all the conditions set out in Subdivision 152-A with paragraph 152-10(1)(d) being met based on your accountant's assumptions. Therefore, you are entitled to reduce your capital gain from the sale of your 20% shareholding in X Pty Ltd by 50% under Subdivision 152-C.

Under Subdivision 152-D, you may choose to disregard all, or part of, a capital gain if the capital proceeds from the CGT event are used in connection with your retirement if all the basic conditions in Subdivision 152-A are satisfied.

As explained above, you satisfy all the conditions set out in Subdivision 152-A with paragraph 152-10(1)(d) being met based on your accountant's assumptions. Therefore, you are entitled to small business retirement exemption concession under Subdivision 152-D to choose to disregard all or part of the capital gain from the sale of your 20% shareholding.

Note that there is a lifetime limit of $500,000 for all choices that can be made in respect of an individual under Subdivision 152-D.

Issue 2

Summary

You cannot use the small business concessions for the sale of a business property that you hold through your family trust as this property is not an active asset under section 152-40.

Detailed reasoning

Your family trust owns 30% of the property that X Pty Ltd is run out through a partnership structure. Therefore, the property belongs to the partnership, not to you as an individual.

One of the basic conditions to be met for the entitlement to small business relief under Subdivision 152-A is that the asset sold must meet the active asset test.

For a CGT asset of a business to be an active asset for the purposes of Division 152 of the ITAA 1997, it must first satisfy one of the positive tests in subsection 152-40(1) of the ITAA 1997 and also must not be excluded by one of the exceptions in subsection 152-40(4) of the ITAA 1997.

Under subsection 152-40(1), a CGT asset is an active asset at a time if, at that time:

(a) you own the asset (whether the asset is tangible or intangible) and it is used, or held ready for use, in the course of carrying on a business that is carried on (whether alone or in partnership) by:

(i) you; or

(ii) your affiliate; or

(iii) another entity that is connected with you; or

(b) if the asset is an intangible asset--you own it and it is inherently connected with a business that is carried on (whether alone or in partnership) by you, your affiliate, or another entity that is connected with you.

As explained above, your family trust owns 30% of the property that X Pty Ltd is run out through a partnership structure and therefore the property belongs to the partnership. As such, according to subsection 152-40(1), the property will only be an active asset where it is used, or held ready for use, in the course of carrying on a business that is carried on by the family trust, or the family trust's affiliate, or another entity that is connected with the family trust.

Subsection 328-130(1) defines an affiliate as an individual or a company which acts or could reasonably be expected to act, in accordance with your directions or wishes, or in concert with you, in relation to the affairs of the business of the individual or company.

Section 328-125 provides that an entity is connected with another entity if one of the entities controls the other entity, or if the two entities are controlled by the same third entity.

X Pty Ltd pays rent to operate its business on the property.

Subparagraph 152-40(1)(a)(i) cannot be satisfied as X Pty Ltd is owned by you and three other shareholders and not the family trust.

Subparagraph 152-40(1)(a)(ii) cannot be satisfied as X Pty Ltd is not an affiliate of your family trust as the company cannot reasonably be expected to act in accordance with the family trust's directions or wishes, or in concert with the family trust, in relation to the affairs of the business of X Pty Ltd.

Subparagraph 152-40(1)(a)(iii) cannot be satisfied as X Pty Ltd is not a connected entity of your family trust because:

§ the family trust and X Pty Ltd does not have control over the other; and

§ as established above, the two entities are not controlled by the same third entity as you control the family trust but you do not control X Pty Ltd.

As the property does not satisfy any of the positive tests in subsection 152-40(1), it is not an active asset.

Furthermore, paragraph 152-40(4)(e) specifically states that where an asset whose main use in the course of carrying on the business mentioned in subsection 152-40(1) is to derive rent cannot be an active asset.

Taxation Determination TD 2006/63 Income tax: capital gains: is a CGT asset that is leased by a taxpayer to a connected entity for use in the connected entity's business an active asset under section 152-40 of the Income Tax Assessment Act 1997? outlines the Commissioner's view of the law in relation to active assets and CGT assets that are leased by a taxpayer to a connected entity for use in the connected entity's business.

According to paragraph 1 of TD 2006/63 a CGT asset that is leased by a taxpayer to a connected entity for use in the connected entity's business is an active asset of the taxpayer under section 152-40 of the ITAA 1997, unless the use by the connected entity is excluded by paragraph 152-40(4)(e) of the ITAA 1997.

Paragraphs 2 and 3 of TD 2006/63 provides an example where the premises owned by an individual is wholly used by a connected entity in the course of carrying on a business, the premises are not excluded under paragraph 152-40(4)(e) and are therefore an active asset of the individual under subparagraph 152-40(1)(a)(ii).

As outlined in paragraph 9 of TD 2006/63 it is the use of the asset in the connected entity's business that will determine the active asset status.

As established above, X Pty Ltd is not a connected entity of your family trust. Therefore, although the property is rented and operated by a business that you have 20% ownership interest, it is not an active asset.

You cannot take advantage of the small business concessions in relation to the sale of the property as it is not an active asset as the share of the property belongs to the family trust and it is used, or held ready for use, in the course of carrying on a business that is not carried on (whether alone or in partnership) by the family trust, the family trust's affiliate or connected entity.

Under Subdivision 152-D, you may choose to disregard all, or part of, a capital gain if the capital proceeds from the CGT event are used in connection with your retirement if all the basic conditions in Subdivision 152-A are satisfied.

As the active asset test of Subdivision 152-A cannot be satisfied, you are not entitled to choose to disregard all or part of the capital gains arising from the sale of the property under Subdivision 152-D.