Edited version of your private ruling

Authorisation Number: 1012520077610

Ruling

Subject: Non-commercial business losses - Commissioner's discretion

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 losses from your primary production business in the calculation of your taxable income for the 20XX financial year?

Answer

No.

Question 2

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 in the calculation of your taxable income for the 20ZZ financial year?

Answer

No.

This ruling applies for the following periods:

Financial year ended 30 June 2011

Financial year ended 30 June 2013

The scheme commences on:

1 July 2010.

Relevant facts and circumstances

1. You are an individual Australian resident for taxation purposes.

2. You carry on a primary production business.

3. Your farming business has not made a profit since commencement.

4. The profitability of your primary production business has previously been affected by drought over a prolonged period.

5. A river dissects the property, increasing the potential for insect infestation and makes for difficult livestock control when the river is running. It also makes it difficult to contain livestock as floodgates are continually washed away. The difficult terrain means that costs such as mustering, fertilizer spreading and fencing will always be high.

6. You engaged the services of a professional farm manager in an effort to turn a profit.

7. Since commencing, your farm manager has made significant changes to the primary production operation to increase profitability.

8. You reported a tax loss in excess of $X from your farming business in the 20XX financial year. Your initial anticipated animal health costs were increased by more than $Y due to abnormal weather conditions.

9. Even though a loss was recorded for the 20XX financial year, changes resulted in an improved performance from previous years.

10. A number of unforeseen events have meant that anticipated profits for the relevant financial years turned to losses.

11. In the 20ZZ financial year, you made a tax loss in excess of $400,000 (excluding depreciation) from your primary production business. Your initial anticipated supplementary feed costs were increased by more than $Z and livestock sale income was reduced by more than $X due to abnormal weather conditions.

12. Your total assessable income from sources unrelated to your primary production business exceeds $V for each of the relevant financial year.

13. The sum of your taxable income, reportable fringe benefits, reportable superannuation contributions and total net investment losses for each of the relevant financial years $250,000.

14. You have estimated depreciation expenses for the subsequent financial year to be more than $50,000 to less than $100,000.

15. Your forecast figures for the subsequent year anticipate a profit from your primary production business of up to $X after depreciation.

16. Your forecast figures for the financial year ended 30 June 2015 show an anticipated profit of more than $X.

17. You have provided historical rainfall data for your local area from the Bureau of Meteorology.

18. Rainfall data records for the relevant period in 20XX year show exceptionally high rainfall which led to insect infestations that affected your livestock.

19. Budgeted animal health costs were for the 20XX financial year.

20. Testing, substantiated by the district veterinarian, showed the area had insects that were resistant to common drench chemicals, necessitating the use of very expensive products address the livestock health issue. As a result, you incurred additional animal health costs of more than $Y.

21. Rainfall data records for the relevant period in the 20ZZ financial year show very dry conditions.

22. The long dry season in the 20ZZ financial year substantially limited perennial pasture growth and natural grazing of your livestock, resulting in a feed deficiency for your livestock, delayed livestock sales and reduced sales income. As a result, you incurred additional livestock fodder expenses of more than $200,000 and a reduction of livestock sales of more than $75,000.

23. Your budgeted supplementary livestock feed costs were less than $15,000 for the 20ZZ financial year.

24. You purchased close to $W livestock fodder in the 20ZZ financial year.

25. You fed some of your crops to supplement livestock feed in the 20ZZ financial year that would otherwise of been sold.

26. Livestock was sold in the 20ZZ financial year at a price significantly less than the budgeted price due to reduction in meat weight.

27. Livestock sales were also delayed from relevant financial year due to the reduction in meat weight.

28. Information you provided to the Australian Taxation Office contains all income and deduction items affected by abnormal seasonal conditions for the relevant financial years.

Relevant legislative provisions

Income Tax Assessment Act 1997 Division 35

Income Tax Assessment Act 1997 subsection 35-10(2)

Income Tax Assessment Act 1997 section 35-55

Income Tax Assessment Act 1997 subsection 35-55(1)

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

Income Tax Assessment Act 1997 section 35-10(2E)

Income Tax Assessment Act 1997 section 359-35

Income Tax Assessment Act 1997 paragraph 359-35(2)(b)

Reasons for decision

2010-11 and 2012-13 financial years

Division 35 of the Income Tax Assessment Act 1997 (ITAA 1997) is an integrity measure that prevents losses from non-commercial activities that are carried on as businesses by individuals (alone or in partnership) being offset against other assessable income in the year in which the loss was incurred.

The rule in subsection 35-10(2) of the ITAA 1997 prevents you from claiming losses from business activities unless you satisfy at least one of four objective tests, are eligible for an exception, or the Commissioner exercises discretion in subsection 35-55(1) of the ITAA 1997.

At least one of the four objective tests should be satisfied in order for a business activity to be considered commercial. Otherwise, the business activity is considered non-commercial and the losses are (subject to certain exceptions or the exercise of the Commissioner's discretion) deferred.

Primary production exception

Where an individual has a loss from a primary production business in a year of income, and in that year the total of their assessable income from sources unrelated to that business activity is less than $40,000, the rules in Division 35 of the ITAA 1997 will not apply to defer losses.

In your case, income from sources unrelated to your primary production business exceeds $40,000 for the relevant financial years. Accordingly, this exception does not apply to you.

Income requirement

For the 2009-10 and later years, there is an additional income requirement in subsection 35-10(2E) of the ITAA 1997 which prevents high income individuals from claiming losses from their business activities, even though the activity may satisfy one of more of the objective tests.

In your case, you do not satisfy the income requirement as your income for non-commercial loss purposes was not less than $250,000 for each of the relevant years.

If the income requirement is not met, the Commissioner may exercise discretion under paragraph 35-55(1)(a) of the ITAA 1997 to allow the inclusion of the losses in your taxable income calculation.

The Commissioner's discretion in paragraph 35-55(1)(a) of the ITAA 1997 may be exercised where the business activity is affected by special circumstances outside of the taxpayer's control.

Special circumstances

Taxation Ruling TR 2007/6 provides the Commissioner's interpretation on the exercise of the discretion under paragraph 35-55(1)(a) of the ITAA 1997 and what may be considered special circumstances. The following has been extracted from paragraphs 47 to 53 of this ruling:

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 13A of TR 2007/6 explains that for those individuals who do not satisfy the income requirement; special circumstances are those which have materially affected the business activity, causing it to make a loss. For these individuals the Commissioner's discretion in paragraph 35-55(1)(a) of the ITAA 1997 may be exercised for the income years in question where:

· but for the special circumstances, the business activity would have made a tax profit, and

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

Paragraph 50A of TR 2007/6 provides that where the business activity carried on by an individual does not satisfy the income requirement and this activity would have made a loss even if it had not been affected by special circumstances, it is also unlikely that it would be considered unreasonable for the loss deferral rules to apply and therefore the Commissioner is unlikely to exercise the discretion.

As previously stated, you did not satisfy the income test for the purposes of section 35-10(2E) of the ITAA 1997 for the relevant financial years. Therefore, it is necessary to consider any material impact of special circumstances on the four tests and on your profitability.

You have stated that your primary production business has experienced abnormal seasonal conditions that have impacted on your profitability for the relevant financial years. You have provided rainfall data for your local area from the Bureau of Meteorology for the relevant period confirming these abnormal seasonal conditions. Specifically, very high rainfall for the relevant period in the 20XX financial year, being in excess of Y% of the historical average, and, very dry conditions for the relevant period in the 20ZZ financial year, being less than 50% of the historical average.

These seasonal conditions were outside your control and rainfall data shows significant deviations from normal rainfall trends, accepted as 'special circumstances' for the purposes of paragraph 35-55(1)(a) of the ITAA 1997. However, before the Commissioner can exercise discretion, you must be able to show that it was the special circumstances that caused your activities to make a loss.

In the 20XX financial year, you reported a net loss from your primary production business of more than $X. Your initial anticipated animal health costs increased by less than $X due to abnormal weather conditions accepted as constituting special circumstances. Your primary production business would have made a tax loss, despite the special circumstances. As you are unable to show that the special circumstances caused you to make a business loss for the 20XX financial year, the Commissioner is unable to exercise the discretion under paragraph 35-55(1)(a) of the ITAA 1997 to allow you to include these losses in the calculation of your taxable income.

In the 20ZZ financial year, you made a net loss in excess of $400,000 from your primary production business. Your initial anticipated supplementary feed costs increased by more than $200,000 and livestock sales income was reduced by less than $200,000 due to abnormal weather conditions accepted as constituting special circumstances. Your primary production business would have made a tax loss, despite the special circumstances. As you are unable to show that the special circumstances caused you to make a business loss for the 20ZZ financial year, the Commissioner is unable to exercise the discretion under paragraph 35-55(1)(a) of the ITAA 1997 to allow you to include these losses in the calculation of your taxable income.