Edited version of private ruling

Authorisation Number: 1011841027457

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Ruling

Subject: Non-commercial losses - Commissioner's discretion - lead time

Questions

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

No.

2. Can you claim a proportion of the expenses incurred in conducting your aircraft activity?

Yes.

This ruling applies for the following period

Year ended 30 June 2010

The scheme commenced on

July 2008

Relevant facts

You acquired an aircraft.

The plane is hired out on an hourly basis "wet", which means the hire costs includes fuel. The plane is hired bare and not charter as it is illegal for you to pilot the aircraft under charter. Pilots wanting to use the aircraft book time slots through a third party central booking agency.

You are not required to be present during the hire process. You would spend approximately 2 hours a week managing accounts, paperwork etc and this is done "after hours".

The plane is advertised on the third parties website.

The third party also advertises the plane in their brochure and display banners at various functions and at the airport.

You do use the plane for your own private use (approximately 30%).

You conducted market research before buying the plane.

You have estimated the hours of hire based on past hire history and expect approximately 90 to 110 hours of hire per year and this should increase roughly 20 to 40 hours per year thereafter due to an increase in demand for the services. This is heavily dependant on weather and other factors such as maintenance downtime issues.

You have provided income and expense projections for future years.

Relevant legislative provisions

Income Tax Assessment Act 1997, Section 8-1

Income Tax Assessment Act 1997, Paragraph 35-55(1)(c)

Reasons for decision

Summary

You are not considered to be carrying on a business with the aircraft. You have a cross hire arrangement with a third party and also use the aircraft for your own private use. The income derived from the hiring of the plane is considered to be passive income from the investment in the aircraft. Because you are not considered to be carrying on a business the non-commercial losses provisions will not apply.

The income will be assessable income. The deductions will be deductible to the extent that the aircraft is used to derive assessable income. Because there is private use the expenses should be apportioned on the basis of the recorded private and income earning hours for the aircraft. You cannot take advantage of the accelerated small business depreciation rate of 30%.

Detailed reasoning

Are You Carrying On A Business?

Your aircraft hire activity will only be potentially subject to the non-commercial losses provisions contained within Division 35 of the Income Tax Assessment Act 1997 (ITAA 1997) if it is carried on as a business.

It is well established that the mere activity of renting out property does not constitute the carrying on of a business (11 CTBR (O.S) Case 24 and Kennedy Holdings Pty Ltd v. FC of T 92 ATC 4918).

An example of this principle is the decision of the Administrative Appeals Tribunal in AAT Case No 10679 11/96 96 ATC 199. In this case the applicant purchased a taxi vehicle, radio and meter. A taxi-licence which would enable him to conduct his taxi operations was later transferred to him. The applicant's evidence was that he had purchased the taxi to provide his unemployed father, who was an experienced taxi driver, with a job. Immediately on acquisition, he leased the above assets to his father on a payment of a fixed sum each month, his father retaining all the proceeds from operating the taxi under their agreement. After his father gave up driving the taxi, the applicant leased the taxi on similar terms to a married couple. At no time did the applicant operate the taxi. After four years of this arrangement he sold the taxi, its attachments and taxi licence to a third person.

The question before R D Fayle, Senior Member, was whether the applicant had disposed of a 'business' for the purposes of section 160ZZR of the Income Tax Assessment Act 1936. In deciding that the applicant had not disposed of a business and that therefore section 160ZZR could have no application, the Senior Member made the following conclusion on the facts of the case before him. (96 ATC 199 at 203).

In the instant case there was no activity on the part of the applicant, apart from the acquisition and leasing of the taxi. Once the lease was established he played a passive role, receiving lease rent regularly but otherwise not engaged in the affairs of the taxi. If a business was being conducted then it was by the lessees in turn. The applicant outlayed capital to acquire the taxi in the expectation of a return from its leasing. In this sense he was a passive investor taking no part in the business risk of operating the taxi.

The circumstances of this decision are comparable to your own. In your case you also have acquired an asset which is then cross hired to a third party, who uses this asset in its own business activity and for which you have no involvement. The terms of your hire agreement show that the other party to the cross hire arrangement will be the central booking office and all pilots intending to hire the aircraft must book through that office. You will receive the flat hourly hire rate per the agreement. This payment is in the nature of rent for the use of a capital item. You receive a payment of a fixed sum per hour, the third party retains all the proceeds from operating the aircraft under the stated agreement.

The aircraft activity is a passive investment and is not the carrying on of a business. There is no repetition or regularity of activities with respect to the aircraft. You do not have any employees, contractors or agents that perform continuing activities. You have stated that you are not required during the hire process and would spend approximately 2 hours per week managing accounts and paperwork and this is done after hours.

The lack of continuing repetition and regularity of activities shows that your aircraft was an income-producing capital investment, producing income in the form of rent, rather than the carrying on of a business.

Your circumstances are consistent with the decisions in 11 CTBR (O.S) Case 24, Kennedy Holdings where the income is assessable, but the activity is not a business. As your aircraft hire activity is not carried on as a business, it will not be subject to the provisions in Division 35 of the Act. Any 'loss' with respect to your activity will not be deferred by the provisions of Division 35.

Passive income and expenses - private use

Because there is private use of the aircraft, we have to consider the extent of this to determine the deductibility of losses and outgoings in relation to this activity. The Commissioner's views on this are set out in Taxation Ruling TR 95/33 Income Tax which examines the relevance of subjective purpose, motive or intention in determining the deductibility of losses and outgoings. If expenses are deductible, under section 8-1 of the ITAA 1997 they are only deductible to the extent that they are incurred in earning assessable income.

The essential character of an expense is a question of fact to be determined by reference to all the circumstances. If an out going produces an amount of assessable income greater than the amount of the outgoing, there would normally be no need to examine the taxpayer's subjective thought processes in characterising the outgoing. However, if the outgoing produces no assessable income, or the amount of assessable income is less than the amount of the outgoing, it may be necessary to examine all the circumstances surrounding the expenditure to determine whether the outgoing is wholly deductible. This may, depending on the circumstances of the particular case, include an examination of the taxpayer's subjective purpose, motive or intention in making the outgoing.

You have provided information to show that the aircraft is used privately for 30% of the total flying hours. The forecast income and expenses figures provided indicate that the expenses substantially exceed the income in the early years, but this should be reversed by the sixth year. If depreciation is excluded it would be profitable within four years.

The fact that the aircraft is mainly used to derive income and potentially the income will exceed expenses at a later stage it is considered that the expenses will be deductible to the extent that the aircraft is used to derive assessable income. The expenses should be apportioned for the private use on a percentage basis, based on the recorded flying hours.

You will not be able to take advantage of the accelerated small business depreciation rate of 30% as you were indicating you were going to claim.