Edited version of private ruling

Authorisation Number: 1011894253727

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Ruling

Subject: Capital Gains Tax - Small Business Concessions - affiliate

Question

Is the property which the taxpayer sold a Capital Gains Tax (CGT) active asset as defined in section 152-40 of the Income Tax Assessment Act 1997 (ITAA 1997)?

Answer

No.

This ruling applies for the following period:

1 July 2009 to 30 June 2010

The scheme commences on:

1 July 2009

Relevant facts and circumstances

The taxpayer inherited a property. Subsequently, the taxpayer allowed a relative to use the asset for primary production purposes. The taxpayer put in place an agreement that the relative was responsible for the day-to-day running of the property which included various activities.

The taxpayer visited the property several times a year. The taxpayer states that the trips were for business purposes only and that during those visits they gave the relative advice on various matters. The taxpayer's qualifications for providing the advice were based on having grown up on the property.

During the visits, the taxpayer discussed the running of the property with the relative. The taxpayer attended to various activities regarding the property. The asset was eventually sold.

Relevant legislative provisions

Income Tax Assessment Act 1997 Section 152-10,
Income Tax Assessment Act 1997 Section 152-35,
Income Tax Assessment Act 1997 Section 152-40,
Income Tax Assessment Act 1997 Section 328-125 and
Income Tax Assessment Act 1997 Section 328-130.

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 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

Unless otherwise stated, all legislative references in the following Reasons for Decision are to the Income Tax Assessment Act 1997.

Summary

Given that the taxpayer does not operate the business, is not connected with the other entity which does operate it and is not an affiliate of that other party because he is neither acting in concert with her nor in accordance with her wishes or directions, the asset fails to meet the definition of an active asset in section 152-40. Consequently, the asset does not pass the active asset test in section 152-35 and, in turn, the basic conditions to qualify for the small business concessions in section 152-10 are not satisfied.

Detailed reasoning

In order for you to choose to disregard all or part of a capital gain under the small business capital gains tax (CGT) concessions, certain conditions must be satisfied. The basic conditions are set out in section 152-10.

One of the basic conditions requires the relevant CGT asset to satisfy the active asset test in section 152-35. That section requires that the relevant asset must be an active asset of the taxpayer at the relevant time.

In effect then, if you are not employing the asset directly in carrying on a business then it must be so employed by either an affiliate or an entity that is connected with you. Generally speaking, one individual would not be considered to meet the definition of being connected with another individual as, apart from any other consideration, they would not have a control percentage as defined in sub-section 328-125(2). Consequently, in order for the property to be an active asset, the person carrying on the business would need to qualify as the taxpayer's affiliate.

Meaning of affiliate

Section 328-130 provides the meaning of an affiliate. According to sub-section 328-130(1), an individual or company is your affiliate if they act, 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 in question.

However, sub-section 328-130(2) states that an individual or company is not your affiliate merely because of the nature of your business relationship. It gives the example of a partnership and states that if you are a partner in a partnership, another partner is not your affiliate merely because that partner acts, or could reasonably be expected to act, in concert with you or in accordance with your directions or wishes in relation to the affairs of the partnership.

Acting in concert

The term 'act in concert' is not defined in the provisions in Division 152 or elsewhere in the ITAA 1997. The term must therefore be interpreted both according to its ordinary meaning and in keeping with the purpose and scope of Subdivision 152-A. The Macquarie Dictionary defines the term 'in concert' to mean 'in a coordinated or organised way; together'.

The term 'in concert' has not been considered judicially in an income tax context. However, in IPT Systems v. MTIC Corporate Pty Ltd (2000) 158 FLR 349; (2000) 36 ACSR 454; (2001) 19 ACLC 386, Owen J considered the meaning of the term 'acting in concert' for the purposes of paragraph 15(1)(a) of the Corporations Act 1989.

Owen J referred to his earlier consideration of the term in Bank of Western Australia v. Ocean Trawlers Pty Ltd (1995) 13 WAR 407; (1995) 16 ACSR 501 and the decision in Adsteam Building Industries Pty Ltd v. Queensland Cement & Lime Co Ltd (No 4) [1985] 1 QdR 127; (1984) 14 ACLR 456; (1984) 2 ACLC 829 (Adsteam Building Industries Case). His Honour identified the following three principles from those cases:

d. the words 'in concert' take their meaning from the context and the scope and the purpose of the legislative framework they appear in;

e. the term 'acting in concert' involves at least an understanding between the parties as to a common purpose or object; and

f. the common purpose or object can be established by inference as much as by direct evidence.

In the Adsteam Building Industries Case (at ACLC 832), McPherson J said:

…I cannot see that it is possible for persons to "act in concert" towards an end or object, or even simply to act in concert, unless there is at least an understanding between them as to their common purpose or object. The expression in question evokes the notion of joint actors, or perhaps even joint tortfeasors, as to which it is settled that there must be "concerted action to a common end": see The Koursk (1924) p. 140 at 156. A mere coincidence of separate acts is insufficient: see Fleming: The Law of Torts, 6th ed., at pp. 227-228.

In Australasian Meat Industry Employees Union v. Allied Trades Federation of Australia (1991) 32 FCR 318 at 329; (1991) 104 ALR 199 at 209; Gray J said:

The difficulties in the concept of "in concert" are acute when the acts of one person are confined to advising, requesting, encouraging or inciting the other, who responds by performing the desired act.

At FCR 334, ALR 215 French J said:

The phrase "in concert" has been construed …. as involving knowing conduct, the result of communication between the parties and not simultaneous actions occurring spontaneously. It has been said to involve contemporaneity and a community of purpose which requires a consensual element: ….'

Consistent with the views drawn from the above cases and the ordinary meaning of the term, the taxpayer's relative will be viewed as acting in concert with the taxpayer for the purposes of the affiliate definition where they act together in pursuit of a common goal or purpose and not merely where the taxpayer is involved in, connected to or participated in the carrying on of her relative's business.

The relevant factors that may support a finding that a person acts, or could reasonably be expected to act, in accordance with the taxpayer's directions or wishes, or in concert with the taxpayer include:

· the existence of a close family relationship between the parties

· the lack of any formal agreement between the parties prescribing how the parties are to act in relation to each other

· the likelihood that the way the parties act, or could reasonably be expected to act, in relation to each other would be based on the relationship between the parties rather than on formal agreements and

· the actions of the parties.

In the present case, one factor to consider is the nature of the relationship between the parties. While the relationship in question would not carry the same weight as the bond between a husband and wife, the nature of the family relationship supports, to some extent, a conclusion that the parties would act in concert. Nevertheless, on balance it would be difficult to argue that the parties are acting in concert for the purposes of the relevant legislation.

The relative conducts the daily activities of the farming operation. The taxpayer's involvement is necessarily limited by their residence interstate from the farm although they pays regular visits at intervals during the year to work at the property and provide advice to their relative.

The relative operating the farming business has supplied all of the funds for the purchase of stock and for ongoing operations and is entitled to all revenue from those operations. Apart from some discussions to the effect that the taxpayer would receive some financial reward if their relative was able to make a healthy profit, a situation which in any event did not arise, there was no formal financial stake which the taxpayer had in the business. Consequently, it would be difficult to argue that the parties were acting with a common purpose or object or taking "concerted action to a common end."

In accordance with wishes or directions

In the alternative, the parties may be affiliates if the taxpayer, due to the prevailing circumstances, is in a position to force her relative to act in accordance with her wishes or directions in respect of the operation of the business.

The present case can be distinguished from the circumstances in both ATOID 2001/712 and TD 2006/79 Example One in that in both cases the taxpayer provided working capital in the form of the funds to operate the business. In the absence of that investment, the business would neither have come into existence nor continued to function.

In the present case, while the taxpayer supplied the physical setting for the business i.e. the land on which it takes place, they supplied no funds to finance the operations. Essentially that relationship is little different to that between a landlady and tenant though in the present case there is additional involvement with the business which takes it somewhat beyond a mere tenancy agreement.

In TD 2006/79 Example One, Mr Wood himself devised a succession plan for his pre-existing business to continue and then retained "financial control through provision of working capital." The critical distinction between Example One and the present case is that Mr Wood retained financial control (having previously established it by operating the business himself) through providing the funding on which the business operations were dependent. His experience in running the business prior to the handover and provision of the working capital allowed him to dictate how the business operated and, indeed, whether it operated at all.

Viewed objectively, the present case has as much in common with Examples Two and Three in TD 2006/79 - where the asset was not held to be an active asset - as it does with Example One. Consequently, the facts lead to the conclusion that the taxpayer's relative is not obliged to act in accordance with her wishes or directions.

Given that the taxpayer does not themselves operate the business, is not connected with the other entity which does operate it and is not an affiliate of that other party because they are neither acting in concert with them nor in accordance with their wishes or directions, the asset fails to meet the definition of an active asset in section 152-40. Consequently, the asset does not pass the active asset test in section 152-35 and, in turn, the basic conditions to qualify for the small business concessions in section 152-10 are not satisfied.