Edited version of private ruling

Authorisation Number: 1011796830033

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Ruling

Subject: Non - commercial losses

Question 1

Will the Commissioner exercise the discretion in paragraph 35-55(1)(a) of the Income Tax Assessment Act 1997 (ITAA 1997) to allow you to include any losses from your primary production activity in your calculation of taxable income for the 2009-10 financial year?

Answer: No.

Question 2

Will the Commissioner exercise the discretion in paragraph 35-55(1)(c) of the ITAA 1997 to allow you to include any losses from your primary production activity in your calculation of taxable income for the 2009-10 to 2014-15 financial years?

Answer: No.

This ruling applies for the following period

Year ended 30 June 2010

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 commenced on

1 July 2008

Relevant facts and circumstances

The arrangement that is the subject of the private ruling is described below. This description is based on the following documents. These documents form part of and are to be read with this description. The relevant documents are:

· your application for private ruling dated 16 December 2010,

· financial statements for the 2008-09 and 2009-10 financial years,

· financial statements from previous owners for the 2006-07 financial year, 2007-08 financial year and the period 1 July 2008 to the date of sale,

· spreadsheet showing cash-flow,

· farm plan,

· non-commercial losses: evidentiary checklist, and

· tax return data from the Storage and Access of Electronic Returns held by the ATO.

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

In partnership you purchased an established property of more than 1,000 ha and approximately 750 cattle for breeding and sale during the 2008-09 financial year. You maintain an off-farm job and you employ a manager to provide assistance with the running of the farm.

You have incurred a large amount of debt to purchase the farm and livestock. You consider this to be one inherent factor preventing profits being made in the short term. The other factors you consider to have prevented profit are the low cattle prices and the seven years of drought until December 2009 followed by flood in December 2010.

The interest expense in the 2009-10 financial year was $136,197.

You consider that it takes five to seven years to build stock numbers to a viable stage and you anticipate this to occur in the 2014-15 financial year. You predict that the activity will first make a tax profit in that year.

Your primary production activity made a loss of $263,145 for the 2009-10 financial year which consisted of the following income and expenses:

Income Year 2009-10 Expenses

Livestock trading statements (cattle)

Reasons for decision

Summary

The Commissioner will not exercise the discretion in paragraph 35-55(1)(a) of the ITAA 1997 to allow you to include any losses from your business activity in your calculation of taxable income for the 2009-10 financial year. You have not been able to show, but for the special circumstances, that you would have produced a profit in that financial year.

The Commissioner will not exercise the discretion in paragraph 35-55(1)(c) of the ITAA 1997 to allow you to include any losses from your business activity in your calculation of taxable income for the 2009-10 to 2014-15 financial years as you have not shown that you will make a tax profit within a period that is commercially viable for the industry concerned.

Detailed reasoning

Paragraph 35-55(1)(a) of the ITAA 1997

You have not satisfied the income requirement as your relevant income has exceeded $250,000. Therefore the loss from your activity will not be taken into account in the 2009-10 financial year unless the Commissioner will exercise his discretion in section 35-55 of the ITAA 1997.

The Commissioner's discretion in paragraph 35-55(1)(a) of the ITAA 1997 may be exercised for a financial year where the business activity is affected by special circumstances outside the control of the operators of the business activity and the Commissioner considers that it would be unreasonable to require the loss to be deferred.

For those individuals who do not meet the <$250,000 income requirement, the Commissioner considers that it would be unreasonable to require a loss to be deferred where but for the special circumstances, the business activity would have made a profit in that year.

Special circumstances are those circumstances which are sufficiently different to distinguish them from the circumstances that occur in the normal course of conducting a business activity.

A drought would constitute special circumstances. However, this in itself is not sufficient for the discretion to be exercised. The Commissioner must also be satisfied that your activity would have made a profit but for the special circumstances.

You have stated that your beef cattle farming activity would have made a profit but for the drought. However, you have not provided any calculations that demonstrate this, for example, calculations that take into account expected sales in a non-drought year and a reduction in drought caused expenses such as fodder.

You have stated that the main reason for the inability to produce a profit in the short term is the large amount of debt undertaken to acquire the property from family members. The interest expense of $136,197 represented 35% of the total expenses in the 2009-10 financial year.

The livestock trading statement shows the gross sales for cattle in the 2008-09 financial year was $266,228 and the cost of these sales was $173,822 or approximately 65% of the sales. The high cost of sales can be attributed to the initial purchase of the herd of cattle from the previous owners.

In the 2009-10 financial year the gross sales for cattle was $130,318 and the cost of these sales was $65,002 or approximately 50% of the sales.

Your farming activity made a loss of $263,145 for the 2009-10 financial year. Even if we assumed that your sales would have doubled if it had not been for the drought, your high cost of sales means your trading income would have only increased by $65,000. Also, the drought related expenses such as fodder ($21,949) are not large in comparison to the overall loss. In addition, it is considered that if we also allowed for an increase in sale prices which may have been depressed from the drought, your activity would still not have been put into a profit situation for the 2009-10 financial year.

The high cost of sales and debt incurred to purchase the property indicate that the financial characteristics of your business would have prevented a profit being made in the 2009-10 financial year even if a drought had not occurred.

Therefore in terms of paragraph 35-55(1)(a) of the ITAA 1997, special circumstances outside of your control may have affected your business activity in the 2009-10 financial year. However, you have not demonstrated that they have affected your business to the extent that a profit would have been made had the drought not occurred. There is no scope to allow the Commissioner's discretion under the special circumstances limb in section 35-55 of the ITAA 1997.

Paragraph 35-55(1)(c) of the ITAA 1997

Under paragraph 35-55(1)(c) of the ITAA 1997, the Commissioner's discretion can be exercised where the business activity satisfies these requirements.

for an applicant who carries on the business activity who does not satisfy subsection 35-10(2E) (income requirement) for the most recent income year ending before the application is made - the business activity has started to be carried on and, for the excluded years:

(i) because of its nature, it has not produced, or will not produce, assessable income greater than the deductions attributable to it; and

(ii) there is an objective expectation, based on evidence from independent sources (where available) 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 (apart from the operation of subsections 35-10(2) and (2C).

You have predicted that your beef cattle farming activity will first make a tax profit in the 2014-15 financial year, that is, the seventh year of operation.

It is noted that you have not provided any year by year income and expense projections that show how your activity will progress from the current loss situation to profitability. However, even if we accepted that your activity will make a profit in the 2014-15 financial year, you have not provided any objective evidence to show that the commercially viable period to make a tax profit for your industry is seven or more years. In your private ruling application you stated that the commercially viable period for your industry is 10 years but have not provided any independent evidence in support of this.

As you have not shown that your business activity will make a tax profit within a period that is commercially viable for your industry, the Commissioner will not exercise the discretion under paragraph 35-55(1)(c) of the ITAA 1997 and the losses from your business will be subject to the loss deferral rule in subsection 35-10(2) of the ITAA 1997.