Edited version of private ruling

Authorisation Number: 1011727399605

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 fac 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 15 year exemption

Question

For the purpose of determining whether the client list has been held for 15 years as required under paragraph 152-110(1)(b) of the Income Tax Assessment Act 1997 (ITAA 1997), will the date the trust began owning the asset be the date the trust commenced trading the business?

Answer

Yes

This ruling applies for the following period:

1 July 2010 - 30 June 2011

The scheme commences on:

1 July 2010

Relevant facts and circumstances

X Pty Ltd (the company) is the trustee for the B Trust, a discretionary trading trust. The trust acquired a business licence after 1985 and commenced trading immediately.

The trust had a significant number of clients ready prior to the acquisition of the license. The business was carried on from the home of the directors of the company for some time.

The trust then acquired an office from which the business was to be conducted and also acquired a client list from another business.

The directors and shareholders of the trustee company are husband and wife who are both over 55.

Relevant legislative provisions

Income Tax Assessment Act 1997 Section 109-10

Income Tax Assessment Act 1997 Subsection 110-25(5)

Income Tax Assessment Act 1997 Section 152-15

Income Tax Assessment Act 1997 Subsection 152-20(1)

Income Tax Assessment Act 1997 Subsection 152-20(2)

Income Tax Assessment Act 1997 Section 152-35

Income Tax Assessment Act 1997 Section 152-55

Income Tax Assessment Act 1997 Section 152-60

Income Tax Assessment Act 1997 Section 152-70

Income Tax Assessment Act 1997 Subsection 152-110(1)

Income Tax Assessment Act 1997 Section 152-125

Income Tax Assessment Act 1997 Section 328-110

Does Part IVA apply to this ruling?

Part IVA of the Income Tax Assessment Act 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 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 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, 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

Subsection 152-110(1) of the ITAA 1997 sets out the conditions for the small business 15 year exemption as part of the CGT small business relief provisions. Under this exemption a company or trust can disregard a capital gain from a CGT event happening to a CGT asset it has owned for at least 15 years if all of the following conditions are satisfied:

(a) the basic conditions for the small business CGT concessions set out in section 152-10 of the ITAA 1997 are satisfied;

(b) the entity continually owned the CGT asset for the 15 year period ending just before the CGT event;

(c) the entity had a significant individual for a total of at least 15 years (even if the 15 years was not continuous and it was not always the same significant individual) during which the entity owned the CGT asset;

(d) an individual who was a significant individual of the company or trust just before the CGT event either:

(e) was 55 years or over at the time of the CGT event and the event happened in connection with their retirement; or

(f) was permanently incapacitated at that time.

Condition (a) - the basic conditions

To qualify for any of the small business concessions there are certain basic conditions that must be satisfied. The basic conditions to be satisfied for the gain are:

· a CGT event happens in relation to a CGT asset of yours in an income year, and

· the event would have resulted in the gain (apart from Division 152 of the ITAA 1997), and

· at least one of the following applies

o you are a small business entity, or

o you satisfy the maximum net asset value test, or

o 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, and

o the CGT asset satisfies the active asset test in section 152-35 of the ITAA 1997.

Small business entity

You will be a small business entity if you are an individual, partnership, company or trust that:

· is carrying on a business, and

· has less than $2 million aggregated turnover (section 328-110 of the ITAA 1997)

Aggregated turnover is your annual turnover plus the annual turnovers of any businesses that are connected with you or that are your affiliates.

Maximum net asset value test

To pass this test the total net value of CGT assets must not exceed $6 million. This test must be met just before the CGT event that results in the capital gain. You must consider the value of net assets for the following entities:

· you

· entities connected with you, and

· your affiliates, or entities connected with your affiliates (section 152-15 of the ITAA 1997).

The net value of the CGT assets of an entity is the total market value of its assets, less any liabilities relating to those assets. The maximum net asset value test allows the net asset value of an entity to be reduced by provisions for annual leave, long service leave, unearned income and tax liabilities (subsection 152-20(1) of the ITAA 1997).

Assets of your affiliate, or an entity connected with your affiliate are not included unless those assets are used, or held ready for use, in your business or the business of an entity connected with you (subsection 152-20(2) of the ITAA 1997).

Active asset test

This test requires the CGT asset to be an active asset for:

· at least 7 ½ years if owned for more than 15 years, or

· half of the period of ownership if owned for 15 years or less (section 152-35 of the ITAA 1997).

 A CGT asset is an active asset if it is used or held ready for use in the course of carrying on your business.

Condition (b) - continually owning the asset for a 15 year period

You must have continually owned the CGT asset for the 15 year period ending just before the CGT event happened.

In this instance, it needs to be determined whether the client list was created at the commencement of the business or whether it was essentially acquired later on when a client list was acquired in addition to the clients already served.

In determining when the asset was created, the factual circumstances, and in particular whether a separate and different asset was acquired when the client list was acquired need to be considered.

Under section 109-10 of the ITAA 1997 where you construct or create a CGT asset, and you own it when the asset is finished or created, you are taken to have acquired the asset at the time when the work that resulted in the creation started.

Under subsection 110-25(5) of the ITAA 1997 the fourth element of the cost base of a CGT asset includes capital expenditure you incurred for the purpose of increasing or preserving the asset's value.

Condition (c) - significant individual

An individual is a significant individual in a company or 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% (section 152-55 of the ITAA 1997). The 20% can be made up of direct and indirect percentages.

Direct small business participation percentage

Section 152-70 of the ITAA 1997 provides that an entity's direct small business participation percentage in a discretionary trust at a time is:

· If the trustee makes distributions in the income year in which the time occurs (the current year) - the percentage of distributions to which the entity is beneficially entitled, or

· If the trustee makes distributions of capital during the current year - the percentage of the distributions to which the entity is beneficially entitled to.

If there are two different percentages, the smaller applies.

 CGT concession stakeholder

An individual is a CGT concession stakeholder of a company or trust if they are a significant individual or the spouse of a significant individual where the spouse has a small business participation percentage in the company or trust at that time that is greater than zero (section 152-60 of the ITAA 1997).

Consequences of applying the exemption

Section 152-125 of the ITAA 1997 provides that if a capital gain made by a company or trust is disregarded under the small business 15 year exemption any distributions made by the company or trust of that exempt amount to a CGT concession stakeholder is:

· not included in the assessable income of the CGT concessions stakeholder, and

· not deductible to the company or trust

· if certain conditions are satisfied.

The conditions are:

· the company or trust must make a payment within two years after the CGT event that resulted in the capital gain or, in appropriate circumstances, such further time as allowed by the Commissioner

· the payment must be made to an individual who was a CGT concessions stakeholder of the company or trust just before the CGT event, and

· the total payments made to each CGT concession stakeholder must not exceed an amount determined by multiplying the CGT concession stakeholders control percentage by the exempt amount.

The CGT concession stakeholders control percentage is:

· for a company or trust (where entities have entitlements to all the income or capital of the trust), the stakeholders small business participation percentage in the company or trust just before the CGT event, and

· for a trust (where entities do not have entitlements to all the income or capital of the trust), the amount (expressed as a percentage) worked out using the formula:  

100 / (number of CGT concession stakeholders of the trust just before the CGT event)

Timing of a CGT event

If you dispose of an asset to someone else, the CGT event happens when you enter into the contract for the disposal. If there is no contract, the CGT event generally happens when you stop being the asset's owner.

Application to your situation

The question to be determined is at what point in time the trust will satisfy paragraph 152-110(1)(b) of the ITAA 1997, requiring the entity to have continually owned the CGT asset for the 15 year period ending just before the CGT event.

Based on the factual situation, the asset was created when the trust first began to contract with clients. This occurred when the trust acquired the business license. While a further client list was acquired later it could not be said to be the creation of a new and separate asset, rather it was the expansion of the original client list.

Consequently the client list was created when the company commenced trading the business. As a result, paragraph 152-110(1)(b) of the ITAA 1997 will be satisfied where the trust enters into a contract for the sale of the asset 15 years after that date.

Note

This ruling does not consider whether the trust satisfies the other conditions under Section 152-110 of the ITAA 1997 in order to be eligible for the small business 15 year exemption.