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Ruling

Subject: Small business CGT concessions - active asset - connected entity

Question:

For the purposes of subparagraph 152-40(1)(a)(iii) of the Income Tax Assessment Act 1997 (ITAA 1997), does your portion of the commercial property satisfy the meaning of active asset from date of purchase until sale?

Answer: Yes.

This ruling applies for the following periods:

1 July 2009 to 30 June 2010.

The scheme commences on:

1 July 2009.

Relevant facts and circumstances

The trust, a discretionary trust, acquired a property in partnership with unrelated parties.

Trustee X of the trust was one of the tenants and operated their business from the property. Trustee X paid commercial rent to the partnership. Trustee X operated their business from the property for more than half the period of ownership by the trust.

The trust made distributions as follows:

2008-09 financial year loss

2007-08 financial year all distributions to Trustee X

2006-07 financial year all distributions of the trust to family members of the trustees

2005-06 financial year all distributions of the trust to family members of the trustees

In the 2009-10 financial year the property was sold which has resulted in a capital gain which is to be recorded in each of the partners' income tax returns.

Relevant legislative provisions

Income Tax Assessment Act 1997 section 152-35

Income Tax Assessment Act 1997 subsection 152-35(2)

Income Tax Assessment Act 1997 section 152-40

Income Tax Assessment Act 1997 subsection 152-40(1)

Income Tax Assessment Act 1997, subsection 152-40(4)

Income Tax Assessment Act 1997, subsection 152-40(4)(e)

Income Tax Assessment Act 1997, section 328-125

Income Tax Assessment Act 1997, section 328-125(1)

Income Tax Assessment Act 1997, section 328-125(3)

Income Tax Assessment Act 1997, section 328-125(4)

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

Active asset test

If you have owned the CGT asset for less than 15 years the active asset test in section 152-35 will be satisfied if the asset was an active asset of yours for a total of at least half of a particular period as outlined in subsection 152-35(2). The period commences when you acquired the asset and ends at the earlier of either:

· the CGT event, or

· if the relevant business ceased to be carried on in the 12 months before that time - the date on which the business ceased.

Meaning of active asset

Section 152-40 discusses the meaning of the active asset, and at subsection 152-40(1) states, in part, that a CGT asset is an active asset at a time if, at that time, you own the asset and it is used, or held ready for use, in the course of carrying on a business that is carried on by you or your affiliate, or another entity that is connected with you.

We need to establish if Trustee X that used the property for business purposes for a number of years is connected to you.

Connected with an entity

An entity is connected with another entity if (subsection 328-125(1)):

· either entity controls the other entity in a way described in this section; or

· both entities are controlled in a way described in this section by the same third entity.

Direct control of a discretionary trust may be established via either of two paths, subsection 328-125(3) or subsection 328-125(4).

Subsection 328-125(3) provides that an individual controls a discretionary trust if the trustee of that trust acts, or could reasonably be expected to act, in accordance with the directions or wishes of the individual, his/her affiliates, or the individual together with his/her affiliates.

Subsection 328-125(4) provides, in part, that an individual directly controls a discretionary trust for an income year if, for any of the preceding four income years, the discretionary trust distributed at least 40% of any income or capital paid for that year to either the individual, the individual's affiliates, or to the individual together with any of his/her affiliates.

Application to your circumstances

Trustee X controls the trust as the trust paid distributions to Trustee X of 100% in the 2007-08 financial year. As this is in one of the four years preceding the year in which the CGT event occurs, subsection 328-125(4) is satisfied and therefore the trustee and the trust are connected entities. As the asset has been used in the business of the trustee for more than half the period of ownership and the trustee and the trust are connected entities the asset will be an active asset unless the "main use to derive rent" exclusion applies.

Main use to derive rent

Certain assets are excluded from being active assets under subsection 152-40(4). Paragraph 152-40(4)(e) excludes, among other things, assets whose main use is to derive rent (unless such use was only temporary).

If a CGT asset is leased by a taxpayer to a connected entity for use in the connected entity's business, the question arises as to whether the main use of the asset is to derive rent.

Paragraph 152-40(4)(e) refers to 'an asset whose main use in the course of carrying on the business mentioned in subsection (1)'.... . If an asset is used in the business of a connected entity, 'the business mentioned in subsection (1)' is the connected entity's business (subparagraph 152-40(1)(a)(ii)). Accordingly, it is the use of the asset in that business that will determine the active asset status of the asset.

An asset that is leased to a connected entity for use in its business is therefore an active asset under subparagraph 152-40(1)(c)(ii), unless the use by the connected entity itself is excluded by paragraph 152-40(1)(a)(ii) (for example, if the connected entity subleases the asset to an unrelated third party). See Taxation Determination TD 2006/63.

Application to your circumstances

The trust owns the property in partnership and Trustee X carries on a business from the property. The CGT asset is leased by a taxpayer (trust) to a connected entity (Trustee X) for use in the connected entities business and will not be excluded under paragraph 152-40(4)(e).

Conclusion

The portion of the commercial property that is owned by the trust will satisfy the meaning of an active asset from date of purchase until sale.