Edited version of private ruling

Authorisation Number: 1011696754005

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Ruling

Subject: whether a boat charter activity is considered a business

Question 1

Will the proposed boat charter activity you are intending to commence be considered to be carrying on a business?

Answer

Yes.

Question 2

Does the operation of subsections 26-47(3) and 40-25(2) of the Income Tax Assessment Act 1997 (ITAA 1997) in respect of the boat used for charter apply?

Answer

Yes.

This ruling applies for the following periods:

Year ended 30 June 2011

Year ended 30 June 2012

Year ended 30 June 2013

Year ended 30 June 2014

Year ended 30 June 2015

The scheme commences on:

1 July 2010

Relevant facts and circumstances

You purchased a boat in the income year.

Other vessels of this type operate in region A and have proven successful in this environment. It is suitable to a wide variety of experience levels in those who would charter the vessel.

You have a background in sailing and were employed as a sailing instructor.

You considered other vessels, however the one you chose was less expensive and it appears to give the best return on investment in financial projections.

You have chosen region A for your boat charter operation as you have had previous experience with boat operations in these areas, the region has an established reputation as a boat charter destination, the vessel you have chosen has had proven charter success in the area, and as you are located in the vicinity it is relatively easy for you to have access to the vessel. This last point was crucial as you intend on having considerable involvement with the operation.

After purchase, the vessel will require minimal time to get into charter and you expect it to be operating in early in the income year.

You have decided to engage the services of a charter operator, as the particular operator appeared to have the most experience with powered monohull boats. You are in the process of negotiating a charter agreement with charters operator, which will be in place for a minimum of five years.

The charter management agreement confirms that you own the boat and that the charter operator is to act as the boat owner's agent in managing the charter operation.

You feel that utilising a charter operator as your agent in the day-to-day running of the operation would take advantage of the operator's local industry knowledge as well as gain greater economies of scale that would not be available if you were operating the venture by yourself.

You intend on being involved with the charter operation on a regular basis. This will take the form of monthly meetings with the charter operator to discuss marketing and operation of the vessel, as well as to discuss any matters of importance to the operation. You will also ensure during these meetings that maintenance schedules are followed, and you will inspect the vessel with the intention of repairing items yourself.

You will keep records of the meetings and your accounts. In doing so, you will be able to monitor the charter activity on an ongoing basis and be able to review key performance indicators against expectations to ensure maximum return on your investment.

Under the charter agreement all charter fees earned from the charter of the boat belongs to you. However expenses relating to the management and operation of the charter (including management fees) are offset against the charter income prior to it being forwarded to you by the charter operator.

You have agreed to pay a management fee of 50% of the projected charter fees of year one, in remuneration to the charter operator for acting as your agent in the management of the yacht and for providing the infrastructure through which the charter operator conducts the charter boat business on your behalf.

The charter operator also provide services for the operation of the charter such as promotion of the vessel, inquiry and booking services, briefing services to charterers, office facilities and administrative support to the activity, and attend to initial payment of all third party expenses.

You have purchased the vessel through an existing line of credit. It is your intention that interest charges on this finance will be paid for from the net proceeds of the charter operation, while repayments of principal will come from other sources of income.

You believe that you have the means to payout the borrowings in three years.

The charter agreement allows for up to 14 days private use per year by the owner. However it stipulates that chartering the vessel to the general public takes priority.

You also own another vessel which is moored at nearby, and is used entirely for private use.

You have developed a 10 year projection of anticipated income and expenses from the activity, and expect to make a profitable return on your investment of approximately 36% of the initial investment, over the 10 year life of the charter operation.

Relevant legislative provisions

Income Tax Assessment Act 1997 Section 8-1,

Income Tax Assessment Act 1997 Sub-section 26-47(2) and

Income Tax Assessment Act 1997 Sub-section 26-47(3).

Summary

You are considered to be carrying on a business with regards to your boat hire activity. The conditions in Taxation Ruling TR 2003/4 indicating that a business is being carried on have been met.

Detailed reasoning

A boat hire activity must amount to the carrying on of a business to claim an amount that exceeds the assessable income from the use of the boat. The excess deductions are not allowed where the activity is only a passive receipt of income from property.

If you only provide a boat under a lease then generally you are not carrying on a boat hiring business and so you would not be entitled to the excess deductions for your boat. If a boat owner receives money from hiring out their boat directly, or under a management agreement with a charter operator, it is still a requirement for this activity to amount to the carrying on of a business in order to claim the excess deductions under section 26-47 of the ITAA 1997.

Indicators of a management agreement can include:

· the boat owner shares in the risks and rewards of the business activity

· the contract for the provision of the boat to the hirer highlights that the charter operator is acting as the agent of the boat owner in the boat hire arrangement

· the boat owner derives the income and incurs expenses relating to the charter of the boat to third parties, and

· the boat owner maintains a sufficient level of control over the boat.

You have entered into a management agreement that meets the above indicators.

The factors to be considered in determining if you are carrying on a business under this boat hire arrangement are:

· significant commercial purpose or character

· prospect of profit

· activities of the kind carried on in a similar manner to those of ordinary trade

· organised, systematic, businesslike manner

· repetition and regularity, and

· size and scale of activity

In these activities the prospect of profit is highly significant when assessing if the activity has the character of a business. Where it is clear from the objective evidence that a taxpayer cannot show the existence of a genuine belief that the activity can be profitable, they will not have the requisite intention of profit.

'Profits' implies a comparison between the state of a business at two specific dates usually separated by an interval of a year. If the total assets of the business at the two dates are compared, the increase which they show at the later date compared to the earlier date represents the profits of the business during the period in question.

You have entered into a management arrangement for a period of five years. However you intend on running the charter operating for 10 years. You have developed a 10 year income projection which indicates that you can expect a profit of approximately 36% of the initial investment. In this model the decline in value is calculated over the first five years based on original cost (using straight line method), and the remaining five years as per the estimate of market value provided by the manufacturer. The actual tax deductions for the decline in value have been taken into account for determining this accounting profit.

When applying your facts to each of the other factors, it is considered that your activity meets these requirements and the overall impression would be that you are carrying on a business.

Because you are considered to be carrying on a business, sub-section 26-47(3) of the ITAA 1997 will apply so that sub-section 26-47(2) of the ITAA 1997 does not stop you from deducting a loss or outgoing for a boating activity.

The expenses associated with conducting the activity will be deductible under section 8-1 of the ITAA 1997 provided they are not of a capital or private nature.