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Ruling

Subject: Am I in business

Question

Do your property investment and rental activities constitute the carrying on of a business?

Answer

No.

This ruling applies for the following period:

Year ending 30 June 2012

The scheme commences on:

1 July 2011

Relevant facts and circumstances

You currently own two rental properties.

One property is a two-bedroom unit and the other property is a house ('house A').

You have rented these properties for many years and returned the income in your tax returns at rental income labels.

You reside in a house ('house B'), which you believe has a better prospect for capital gain.

You plan to use 'house B' as a rental property and use 'house A' as your main residence.

Your rental properties will then consist of the unit and 'house B'.

You subsequently plan to move 'house B' into your self-managed superannuation fund (SMSF).

You previously owned another rental property unit next to a unit that you used to live in. You rented this unit for several years but both units have been sold and the proceeds transferred into your SMSF.

The rental properties are currently managed by property managers who you oversee and you perform the repairs and maintenance yourself. You have also performed some renovation work either after purchase or between tenants.

You plan to take over the management of the rental properties.

The rental income from the properties is your only source of income.

Relevant legislative provisions

Income Tax Assessment Act 1997 Section 6-5

Reasons for decision

Taxation Ruling TR 97/11 provides the Commissioner's view of the factors used to determine if you are in a business for tax purposes.

The factors that are considered important in determining the question of business activity are:

· whether the activity has a significant commercial purpose or character

· whether the taxpayer has more than just an intention to engage in business

· whether the taxpayer has a purpose of profit as well as a prospect of profit from the activity

· whether there is regularity and repetition of the activity

· whether the activity is of the same kind and carried on in a similar manner to that of ordinary trade in that line of business

· whether the activity is planned, organised and carried on in a businesslike manner such that it is described as making a profit

· the size, scale and permanency of the activity, and

· whether the activity is better described as a hobby, a form of recreation or sporting activity.

TR 97/11 states the indicators must be considered in combination and as a whole and whether a business is being carried on depends on the 'large or general impression gained' (Martin v. FC of T (1953) 90 CLR 470 at 474; 5 AITR 548 at 551) from looking at all the indicators, and whether these factors provide the operations with a 'commercial flavour' (Ferguson v. FC of T (1979) 37 FLR 310 at 325; 79 ATC 4261 at 4271; (1979) 9 ATR 873 at 884). However, the weighting to be given to each indicator may vary from case to case, and no one indicator will be decisive (Evans v. FC of T 89 ATC 4540; (1989) 20 ATR 922).

Normally the receipt of income from the letting of property to tenants does not amount to the carrying on of a business (Federal Commissioner of Taxation v. McDonald (1987) 15 FCR 172; 87 ATC 4541; 18 ATR 957 (McDonald's case); Cripps v. FC of T 99 ATC 2428; (1999) 43 ATR 1202 (Cripps' case); Case X48 90 ATC 384; (1990) 21 ATR 3389). 

Guidance on whether a person is carrying on a business of rental properties is provided in the Tax Office publication Rental properties 2010-11 (NAT 1729).

A person who simply owns or co-owns investment property or several investment properties is usually regarded as an investor who is not carrying on a rental property business, either alone or with other co-owners. This is because of the limited scope of the rental property activities and the limited degree to which a co-owner actively participates in rental property activities. A conclusion that an individual is carrying on a business of letting property would depend largely upon the scale of operations. If rent was derived from a number of properties or from a block of apartments, that may indicate the existence of a business (paragraph 5 of Taxation Ruling IT 2423).

In Cripps' case, the taxpayer and his wife purchased, as joint tenants, 14 townhouses which they rented out. They also purchased a property which was used initially as a holiday home but was later periodically rented out. A further property was purchased for residential purposes. After a failed attempt to sell it, it was also rented out. The Administrative Appeals Tribunal found that the taxpayer and his wife were mere passive investors and were not in the business of deriving income from rental properties. They rejected the taxpayer's argument that he had greater involvement with his 16 properties.

Page 5 of the Rental properties 2010-11 publication provides the following example of taxpayers considered to be carrying on a rental property business:

... the D'Souzas, own a number of rental properties, either as joint tenants or tenants in common. They own eight houses and three apartment blocks, each block comprising six residential units - a total of 26 properties.

The D'Souzas actively manage all of the properties They devote a significant amount of time - an average of 25 hours per week each - to these activities. They undertake all financial planning and decision making in relation to the properties. They interview all prospective tenants and conduct all of the rent collections. They carry out regular property inspections and attend to all of the everyday maintenance and repairs themselves or organise for them to be done on their behalf. Apart from income Mr D'souza earns from shares, they have no other sources of income.

The D'Souzas are carrying on a rental property business. This is demonstrated by:

· the significant size and scale of the rental property activities

· the number of hours the D'Souzas spend on the activities

· the D'Souzas' extensive personal involvement in the activities, and

· the business-like manner in which the activities are planned, organised and carried on.

In Carson and Commissioner of Taxation [2008] AATA 156, the AAT said that activities such as financing the property, dealing with rating authorities and the body corporate were no more than what any investor in real estate would do.

Based on the information you have provided, we have determined that you are not carrying on a rental property business. The reasons behind this decision are:

You currently own two residential premises which are leased to tenants;

You have managing agents appointed who manage the day to day aspects of the rental properties and provide you with reports;

Even if you managed the properties yourself the size and scale of your rental activities are not considered to be extensive enough to amount to a business for tax purposes.

Therefore, your activity would be better described as that of a property investor who is leasing residential properties to receive passive income from a stream of rental income.