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Ruling

Subject: non commercial losses

Question

Will the Commissioner exercise his discretion under paragraph 35-55(1)(a) of the Income Tax Assessment Act 1997 (ITAA 1997) in the 2009-10 financial year to allow you to deduct your losses from your business due to special circumstances?

Answer: No.

This ruling applies for the following period

Year ended 30 June 2010

The scheme commenced on

12 April 2006

Relevant facts and circumstances

Your income for non-commercial loss purposes is in excess of $250,000.

You operated a pharmacy in partnership.

The business was purchased in 20XX.

You submit that the business experienced strong sales growth for approximately 18 months.

You submit that a larger and more attractive adjacent shopping centre opened a full-line store. This store had an immediate negative impact on your sales and foot traffic in your shopping centre.

In 20XX you were notified that there would be a revamp of your shopping centre.

The car park nearest your store was closed to make way for renovations.

During the process of the redevelopment the centre shut down the food court and foot traffic.

Two general practitioners located in your shopping centre vacated. You submit that these doctors were instrumental in providing your store with a solid prescription business.

The centre opened a new entrance that you contend diverted foot traffic away from your store.

In August 20XX a new pharmacy opened in the shopping centre.

In December 20XX9 the car park and centre renovations were completed.

You listed the business up for sale as you no longer believed you could generate a profit from the business. In April 20XX the pharmacy was sold.

You have provided the following financial information regarding the business:

Relevant legislative provisions

Income Tax Assessment Act 1997 Section 8-1

Income Tax Assessment Act 1997 Section 35-10

Income Tax Assessment Act 1997 Section 35-55

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

Reasons for decision

While these reasons are not part of the private ruling, we provide them to help you to understand how we reached our decision.

For the 2009-10 and later income years, Division 35 of the Income Tax Assessment Act 1997 will apply to defer a non-commercial loss from a business activity unless:

· you satisfy the income requirement and you pass one of the four tests

· the exceptions apply, or

· the Commissioner exercises his discretion.

In your situation, you do not satisfy the income requirement (that is your taxable income, reportable fringe benefits and reportable superannuation contributions but excluding your business losses, exceeds $250,000) and you do not come under any of the exceptions. Your business losses are therefore subject to the deferral rule unless the Commissioner exercises his discretion.

The relevant discretion may be exercised for the income year in question where your business activity is affected by special circumstances outside your control.

'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, including drought, flood, bushfire or some other natural disaster.

For individuals who do not satisfy the income requirement, the business activity must have been materially affected by the special circumstances, causing it to make a loss. In this context, the Commissioner may exercise this discretion for the income year(s) in question where, but for the special circumstances:

· your business activity would have made a tax profit

· the activity passes at least one of the four tests or, but for the special circumstances, would have passed one of the four tests.

No exhaustive definition of 'special circumstances' is given in the legislation.

The question of what constitutes 'special circumstances' has been judicially considered on many occasions. In the Federal Court case of Community Services Health, Minister for v. Chee Keong Thoo (1988) 8 AAR 245; (1988) 78 ALR 307, Burchett J considered 'special circumstances' in the context of the Health Insurance Act 1973 and made the following observation:

Those discretions are intended to be applied to a great variety of situations. In such a context, the core of the idea of 'special circumstances' is that there is something unusual or different to take the matter out of the ordinary course…

Later, in the Federal Court Case of Secretary, Department of Employment, Education, Training & Youth Affairs v. Barrett and Another (1998) 82 FCR 524 'special' was considered in the context of 'special weather conditions' for the purposes of the Austudy Regulations 1990. Tamberlin J observed that:

The word 'special' must be read in context. In normal parlance it signifies that the event or circumstances in question are out of the ordinary or normal course.

Tamberlin J then quoted the following passage with approval from the AAT case of Re Beadle and Director-General of Social Security (1984) 1 AAR 362; (1984) 6 ALD 1:

An expression such as 'special circumstances' is by its very nature incapable of precise or exhaustive definition. The qualifying adjective looks to circumstances that are unusual, uncommon or exceptional. Whether circumstances answer any of these descriptions must depend upon the context in which they occur. For it is the context which allows one to say that the circumstances in one case are markedly different from the usual run of cases. This is not to say that the circumstances must be unique but they must have a particular quality of unusualness that permits them to be described as special.

In the context of Division 35 of the ITAA 1997, special circumstances are ordinarily those affecting the business activity such that it would be unreasonable for the loss deferral rule to apply. TR 2007/6 states at paragraph 47:

…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 when carrying on a business activity and affect all businesses within a particular industry.

You advised that your activities have been affected by the expansion of a neighbouring shopping centre, the departure of nearby general practitioners, renovations to the shopping centre your pharmacy was situated in and the opening of a rival pharmacy.

It is considered that a change in competitive forces, such as the expansion of a nearby shopping centre, neighbouring practices and the opening of a new pharmacy close by are a result of ordinary market fluctuations that affects all businesses within your industry, and are circumstances that might be reasonably expected to occur when carrying on a business activity.

In most instances shopping centre renovations of a general and brief nature would not be considered to be special circumstances. However considering the duration (12 months) and closure of a nearby car park, the Commissioner accepts that it is arguable that the renovations may be considered to be special circumstances out of your control that impacted on your assessable income for the 2009-10 financial year. However, the Commissioner must also be satisfied that the special circumstances prevented you from making a tax profit.

From the information you have provided, you have not shown that the renovations prevented you from making a taxable profit in the 2009-10 financial year.

The business has returned significant losses since its commencement, with losses actually decreasing in the period in which the renovations occurred. Apparently high management fees (87% of total expenses for the 2009-10 financial year) are the primary cause of the losses incurred by the business. The business experienced only a small drop in sales in the years in which it was affected by the special circumstances. Significant losses would still have resulted at income levels of the previous year when there were no renovations.

Therefore, taking into account the above factors, the Commissioner will not exercise the discretion in paragraph 35-55(1)(a) of the ITAA 1997 for the 2009-10 financial year as you have not proven that special circumstances prevented you from making a taxable profit.