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Ruling

Subject: capital gains tax concessions for small business

Question 1

Is the land an active asset under section 152-40(1) of the Income Tax Assessment Act 1997 (ITAA 1997)?

Answer

Yes.

Question 2

Can the small business 15 year exemption in Subdivision 152-B of the ITAA 1997 be applied to the capital gain that results from the sale of the land?

Answer

Yes.

Question 3

Are individual A and individual B CGT concession stakeholders of the company?

Answer

Yes.

Question 4

Can the payment of the CGT exempt amount (under the 15 year exemption) be made through interposed entities to the CGT concession stakeholders?

Answer

Yes.

This ruling applies for the following periods:

Year ended 30 June 2012

Year ended 30 June 2013

The scheme commences on:

1 July 2011

Relevant facts and circumstances

The arrangement that is the subject of the private ruling is described below. This description is based on the following documents. These documents form part of and are to be read with this description. The relevant documents are:

· the application for private ruling.

The trust deed was settled and has never been resettled.

Apart from a change in trustee (as allowed under the deed) there has been no change in the class of beneficiaries since its establishment.

The beneficiaries of the trust are detailed at Clause 1 (c) of the deed and include:

· Individual A

· Sons and daughters of individual A

The deed allows for income to be distributed to the beneficiaries as the trustee sees fit according to Clause 3.

The shareholdings in company A and company B were acquired pre 20 September 1985 (pre-CGT).

No other transfers (whether by death or other reasons) occurred post 19 September 1985.

Company B has continuously owned land for the 15 year period ending just before the CGT event.

The land was acquired by the company prior to 19 September 1985.

Company A runs the enterprise exclusively from the land owned by company B and has done so for more than a 15 years period ending just before the CGT event.

There is no formal lease agreement in place, however, there has been a verbal contract between company A and company B that allowed it to exclusively use the land in the business.

The business and land was sold.

The gain on sale of the land is a pre-CGT gain.

The combined net asset value of all relevant entities is less than $6 million just before the CGT event.

Company A has carried on a business for a period exceeding 15 years.

Company B has for a period exceeding 15 years at the point of sale and prior allowed exclusively Company A to conduct its business on the property.

Individual A was born is over 55 years of age.

Individual A will be retiring in connection with the sale of the CGT asset.

The trust had taxable income that was distributed 50% to individual A and 50% to individual B in the year ended 30 June 2012.

In addition, for the years ended 30 June 2011 and prior the trust has been in a loss position.

The trust has nominated individual A and individual B as controllers of the trust for the loss years (i.e years prior to 30 June 2011).

Relevant legislative provisions

Income Tax Assessment Act 1997 section 152-35,

Income Tax Assessment Act 1997 section 152-40(1)(a),

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

Income Tax Assessment Act 1997 section 152-110, and

Income Tax Assessment Act 1997 Subdivision152-D.

Reasons for decision

Question 1

Summary

As company B holds more than 40% of the shares in the company, the entities are connected. Therefore, as the land is used in the course of carrying on a business by a connected entity it will satisfy the active asset test.

Detailed reasoning

Active asset test

This test requires the CGT asset to be an active asset for:

· 7 years, if owned for more than 15 years, or

· half of the ownership period if owned for 15 years or less (section 152-35 of the ITAA 1997).

An active asset may be a tangible asset or an intangible asset.

A tangible or intangible asset is a CGT active asset if it is used or held ready for use in the course of carrying on a business by:

· the taxpayer

· the taxpayer's spouse or child under 18 years

· the taxpayer's affiliate, or

· an entity connected with the taxpayer (paragraph 152-40(1)(a) of the ITAA 1997).

Assets which cannot be active assets

The following assets cannot be active assets (subsection 152-40(4) of the ITAA 1997):

· interests in a connected entity (other than those satisfying the 80% test)

· shares in companies and interests in trusts (other than those satisfying the 80% test)

· shares in widely held companies unless they are held by a CGT concession stakeholder of the company

· shares in trusts that are similar to widely held companies unless they are held by a CGT concession stakeholder of the trust or other exceptions for trusts with 20 members or less apply

· financial instruments, including loans, debentures, bonds, promissory notes, futures contracts, forward contracts, currency swap contracts, rights and options

· an asset whose main use in the course of carrying on the business is to derive interest, an annuity, rent, royalties or foreign exchange gains. However, such an asset can still be an active asset if it is an intangible asset that has been substantially developed, altered or improved by the taxpayer so that its market value has been substantially enhanced or its main use for deriving rent was only temporary.

Connected entity

An entity is connected with another entity if either entity controls the other entity, or both entities are controlled by the same third entity. An entity controls a company if it beneficially owns, or has the right to acquire beneficial ownership of, equity interest in the company that give at least 40% of the voting power in the company.

Application to your circumstances

In your case, company A carries on a business on land owned by company B. For the land to be an active asset, it must be used in the course of carrying on a business by a connected entity of company B.

Company A owns more than 40% of the total ordinary shares in company B. Holders of the ordinary shares are entitled to dividends, surplus assets under a wind up and voting rights at meetings. As company A holds more than 40% of the shares in company B, the entities are connected. Therefore, the land will satisfy the active asset test.

Question 2

Summary

Company B satisfies the basic conditions for the small business concessions. Company B has continuously owned the land for the 15 year period ending just prior to the CGT event and had a significant individual for a period of at least 15 years. As the CGT even will occur in connection with the individual's retirement, the company will satisfy the conditions for the small business 15 year exemption.

Detailed reasoning

Significant individual

An individual is a significant individual in a company or trust if they have a small business participation percentage in the company or trust of at least 20%. This 20% can be made up of direct and indirect percentages.

An entity's direct small business participation percentage in a company is the percentage of:

· voting power the entity is entitled to exercise

· any dividend payment that the entity is entitled to receive, or

· any capital distribution that the entity is entitled to receive, or

· if they are different, the small of the three definitions above.

An entity's indirect small business participation percentage in a company (or trust) is calculated by multiplying together an entity's direct participation percentage in an interposed entity and the interposed entity's total participation percentage (both direct and indirect) in the company or trust.

In this case, individual A holds more than 20% of the ordinary shares in company A. These shares hold entitlements to dividends and voting power. Individual A also holds an indirect interest in company A.

Individual A has a small business participation percentage in the company of more than 20%; therefore they will be a significant individual of the company. Individual A has held interest since 19 September 1985 and has therefore been a significant individual of the company for a period of more than 15 years.

Small business 15 year exemption

Section 152-110 of the ITAA 1997 provides a small business 15-year exemption for companies and trusts. Under this section, a company can disregard the capital gain from the disposal of a CGT asset if:

· the company satisfies the basic conditions in Subdivision 152-A of the ITAA 1997 for the small business CGT concessions

· the company continuously owned the CGT asset for the 15-year period ending just before the CGT event happened

· the company had a significant individual for a total of at least 15 years (even if the 15 years was not continuous and it was not always the same significant individual) during which time the company owned the CGT asset; and

· an individual who was a significant individual of the trust just before the CGT event was either:

· at least 55 years old at that time and the event happened in connection with their retirement or

· permanently incapacitated at that time.

Application to your circumstances

In this case, company B satisfies the maximum net asset value test and as discussed in question 1, the property satisfies the active asset test. Therefore company B satisfies the basic conditions for the small business concessions.

Company B has also continuously owned the land for the 15 year period ending just prior to the CGT event. As discussed above, individual A has been a significant individual of the company for a period of at least 15 years.

Individual A is over 55 years of age, and intends to significantly reduce their hours prior to retiring at the end of the 2012-13 financial year.

Company B has satisfied the conditions for the small business 15 year exemption in section 152-110 of the ITAA 1997.

Question 3

CGT concession stakeholder

An individual is a CGT concession stakeholder of a company if they are a significant individual or the spouse of a significant individual. The percentages are worked out in the same way as for the significant individual test mentioned above.

Application to your circumstances

Individual B does not hold any direct interest in the company. However, he holds an indirect interest through the Family trust and via company A. Therefore, individual B is a CGT concession stakeholder of the company as their total direct and indirect interest in the company is more than 20%.

As discussed above, individual A is a CGT concession stakeholder as they hold a total direct and indirect interest in company B of more than 20%.

Question 4

Under section 152-125 of the Income Tax Assessment Act 1997 (ITAA 1997), payments to a company's capital gains tax (CGT) concession stakeholders are exempt if:

· a capital gain of the company would have been disregarded under section 152-110 of the ITAA 1997 except that the capital gain was disregarded anyway because the relevant CGT asset was acquired before 20 September 1985; and

· the company makes one or more payments (whether directly or indirectly through one or more interposed entities) in relation to the exempt amount within 2 years after the relevant CGT event to an individual who was a CGT concession stakeholder of the company or trust just before the event.

The total payments made to each CGT concession stakeholder must not exceed an amount determined by multiplying the CGT concession stakeholder's control percentage by the exempt amount.

The CGT concession stakeholder's participation percentage is:

for a company or trust (where entities have entitlements to all the income or capital) the stakeholders small business participation percentage in the company or trust just before the CGT event, and

for a trust (where entities do not have entitlements to all the income or capital of the trust, the amount expressed as a percentage, worked out using the formula:

100

__________________

No of CGT concession

stakeholders of the trust

just before the CGT event

In this case, the capital gain of the company would have been disregarded under section 152-110 of the ITAA 1997 except that the capital gain was disregarded anyway because the relevant CGT asset was acquired before 20 September 1985.

The payments of the CGT exempt amount will be paid directly from the company and indirectly through company A and the trust to the CGT concession stakeholders in line with their participation percentages. Therefore, the payments made to the CGT concession stakeholders, through the interposed entities, will be exempt from CGT.