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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 business activities in the calculation of your taxable income for the 2004-05 to 2007-08 income years?

Answer

The Commissioner declines to provide a private ruling in relation to this question.

Question 2

Will the Commissioner exercise the discretion in paragraph 35-55(1)(a) of the ITAA 1997 to allow you to include any losses from your primary production business activities in the calculation of your taxable income for the 2008-09 to 2010-11 income years?

Answer

Yes.

Question 3

Will the Commissioner exercise the discretion in paragraph 35-55(1)(a) of the ITAA 1997 to allow you to include any losses from your primary production business activities in the calculation of your taxable income for the 2011-12 income year?

Answer

No.

This ruling applies for the following periods:

Year ended 30 June 2009

Year ended 30 June 2010

Year ended 30 June 2011

Year ended 30 June 2012

The scheme commences on:

1 July 2008

Relevant facts and circumstances

The arrangement that is the subject of this ruling is described below. The following documents have been relied upon to reach a decision:

· your application for private ruling.

· your subsequent correspondence which provides further information in relation to the application.

You commenced your primary production activities a number of years ago with your spouse under a partnership structure. The activities are conducted on a part-time basis.

You initially used your original holding for the primary production activities.

The opportunity then arose to purchase an adjoining block.

The plan was to build up the activities. With pasture improvement over some of the area, the numbers could be increased. The drought conditions experienced meant that the livestock activity was put on hold.

As the drought conditions continued, you sold all of your remaining livestock at greatly reduced prices.

The drought conditions have now abated and you have experienced good rain. Having given your severely degraded pastures a year to recover, you expect to recommence your livestock activity.

You expect to meet the assessable income test in the 2012-13 financial year.

You have provided a summary of what you consider to be the effect of the drought on your gross income. This summary shows that you would have satisfied the assessable income test in the relevant years if the drought had not occurred.

Your assessable income for the 2008-09 and 2009-10 financial years was above $40,000 but below $250,000 and you expect this to be the case for the 2010-11 to 2012-13 financial years as well.

Relevant legislative provisions

Income Tax Assessment Act 1936 Subsection 170(1)

Income Tax Assessment Act 1997 Section 35-10

Income Tax Assessment Act 1997 Section 35-30

Income Tax Assessment Act 1997 Section 35-35

Income Tax Assessment Act 1997 Section 35-40

Income Tax Assessment Act 1997 Section 35-45

Income Tax Assessment Act 1997 Section 35-55

Taxation Administration Act 1953 Schedule 1 Paragraph 359-35(2)(a)

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 of the ITAA 1936 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

Question 1

Under paragraph 359-35(2)(a) of Schedule 1 to the Taxation Administration Act 1953, the Commissioner may decline to make a private ruling if the Commissioner considers that making the ruling would prejudice or unduly restrict the administration of a taxation law.

Taxation Ruling TR 2006/11 states at paragraph 39 that an example of a situation where the Commissioner may decline to rule is where the provision of a private ruling would not have any practical consequences for you, such as where the transaction has already occurred in an income year for which the amendment period has expired.

Subsection 170(1) of the Income Tax Assessment Act 1936 (ITAA 1936) provides that you are excluded from the two year period of review for a year of income if you, among other things, carry on a business or are a partner in a partnership that carries on a business, and you or the partnership are not a STS taxpayer (for the 2005 to 2007 income years) or a small business entity (for the 2008 income year).

Our records indicate that you are not excluded from the two year period of review for these income years under subsection 170(1) of the ITAA 1997. The amendment period has therefore expired and the Commissioner will therefore decline to make a private ruling for these income years.

Note

Although the Commissioner declines to make a private ruling for these income years, you may lodge an objection against your assessments for these income years requesting the Commissioner to exercise the appropriate discretion.

For the objection to be considered, you will need to explain at item 8 of the objection form why you did not lodge the objection within the time limits. You should also provide any relevant information to show that your business activity was affected by special circumstances outside of your control in the relevant income years, such that it was unable to satisfy any of the four non-commercial loss tests as discussed below for question 2.

Question 2

Under Division 35 of the ITAA 1997, a loss made by an individual from a business activity will not be deductible in the financial year in which it arises unless certain conditions are met. Losses that cannot be taken into account in a particular year of income, because of subsection 35-10(2) of the ITAA 1997, can be applied to the extent of future profits from the business activity, or are deferred until one of the tests is passed, the discretion is exercised, or the exception applies. 

Under the rule in subsection 35-10(2) of the ITAA 1997 a loss made by an individual from a business activity will not be taken into account unless: 

· the exception in subsection 35-10(4) of the ITAA 1997 applies; or  

· you satisfy the income requirement under subsection 35-10(2E) of the ITAA 1997 and one of the four tests is met; or  

· if you do not satisfy the income requirement or if one of the tests is not met, the Commissioner exercises the discretion in section 35-55 of the ITAA 1997.

Your assessable income from sources not related to this activity has been, or is expected to be more than $40,000 for the relevant income years. Therefore, the exception contained in subsection 35-10(4) of the ITAA 1997 does not apply.

Your income for non-commercial loss purposes is less than $250,000, therefore you satisfy the income requirement under subsection 35-10(2E) of the ITAA 1997. However, your business activities have not satisfied any of the four non-commercial loss tests contained in sections 35-30 (assessable income test), 35-35 (profits test), 35-40 (real property test) and 35-45 (other assets test) of the ITAA 1997 and are not expected to until the 2011-12 income year. 

The Commissioner's discretion - special circumstances 

Where the income requirement is satisfied, the Commissioner's discretion, under paragraph 35-55(1)(a) of the ITAA 1997, can be exercised where a business activity is affected by special circumstances, outside the control of the operators, such that it is unable to satisfy any of the tests.

Taxation Ruling TR 2007/6 sets out the exercise of the Commissioner's discretion under paragraph 35-55(1)(a) of the ITAA 1997. The following has been extracted from paragraphs 47 to 53 of this Ruling. 

Special circumstances are ordinarily those affecting the business activity such that it is unable to satisfy a test and it would be unreasonable for the loss deferral rule to apply. Ordinary economic, weather or market fluctuations that might reasonably be predicted to affect the business activity would not be considered to be special circumstances. These fluctuations are expected to occur on a regular or recurrent basis and affect all businesses within a particular industry. 

Although not limited to natural disasters, paragraph 35-55(1)(a) of the ITAA 1997 refers to special circumstances outside the control of the business activity, including drought, flood, bushfire or some other natural disaster. Cyclones, hailstorms and tsunamis are examples of other natural disasters that would come within the scope of the paragraph. These events are taken to be special circumstances outside the control of the operators of the business activity. The special circumstances must have affected the business activity.

Paragraph 52 of TR 2007/6 states that the discretion can be exercised in income years after the one in which the special circumstances have occurred if the effects of those special circumstances on a business activity continue such that it can not satisfy any of the tests.

Applying the above guidelines to your circumstances

You operate a primary production business activity. The region where your activity is situated has been drought affected to varying degrees for a number of years. The drought conditions have recently abated.

It is accepted that these conditions were outside your control and are 'special circumstances' for the purposes of paragraph 35-55(1)(a) of the ITAA 1997. However, before the Commissioner can exercise the discretion you must be able to show that it was the special circumstances that prevented your activities from meeting one of the tests. For the years following the drought, you must be able to show that the effects of the special circumstances continued such that the activities can not satisfy any of the tests.

The relevant test for the purposes of your application is the assessable income test under section 35-30 of the ITAA 1997, which provides that the non-commercial loss rules do not apply to a business activity for an income year if the amount of assessable income from the business activity for the year is at least $20,000. Therefore, you need to satisfy the Commissioner that the drought prevented your business activity from satisfying this test.

You state that the drought conditions experienced meant that your livestock activity was put on hold. You have provided information about the effect of the drought on gross income for these income years. You consider that this would have generated sufficient additional assessable income in these income years to satisfy the assessable income test.

The drought in this case has significantly affected your business activities, and in particular your livestock activity. On the basis of the information supplied by you, you would have continued the livestock activity at sufficient levels to satisfy the assessable income test if the drought had not occurred. Now that the drought has abated and your degraded pastures have recovered, you intend to recommence the livestock activity, from which you expect to derive sufficient assessable income to satisfy the assessable income test.

Your business activity was therefore affected by special circumstances in the sense required by paragraph 35-55(1)(a) of the ITAA 1997 for the income years in which the drought continued to occur and for the income year following the abatement of the drought.

Therefore, the Commissioner is able to exercise the discretion available in accordance with paragraph 35-55(1)(a) of the ITAA 1997 in relation to your activities for these income years.

Question 3

As discussed above, the discretion can be exercised in this income year if the effects of the drought continued such that your business activity cannot satisfy any of the tests.

Your projected expenditure and returns as provided in your objection letter indicate that you expect to have assessable income of over $20,000 for this income year, which includes income from the livestock activity which you propose to commence in this income year.

As you expect to satisfy the assessable income test in this income year, the drought can not be said to be preventing you from satisfying the assessable income test in this income year. Also, you have provided no information to show that the drought would be preventing you from satisfying any of the other tests in this income year.

As your business activity is expected to satisfy one of the tests in this income year, being the assessable income test, the Commissioner is not able to exercise the discretion in paragraph 35-55(1)(a) of the ITAA 1997 in relation to your activities for this income year.

Note

As you satisfy the income requirement under subsection 35-10(2E) of the ITAA 1997, you will not require the exercise of the Commissioner's discretion under subsection 35-55(1) of the ITAA 1997 to take any loss from your business activity into account if the assessable income test is actually satisfied in this income year.

2012-13 income year

The non-commercial loss provisions in Division 35 of the ITAA 1997 apply to defer losses from business activities. As you have indicated that you anticipate that your activity will make a profit as from this income year, the non-commercial loss provisions and the associated discretions have no application to this income year. Accordingly, this income year has not been included in the above private ruling.

Another application for a private ruling can be made if circumstances change and it becomes necessary to consider the deferral of a loss from the business activity in this income year.