Edited version of your written advice

Authorisation Number: 1012854723574

Ruling

Subject: Am I carrying on a business as a money lender?

Question 1

Was the applicant carrying on a business as a money lender?

Answer

No

Question 2

Can the applicant claim a bad debt deduction under section 25-35 of the ITAA 1997 for the year ending 30 June 2014?

Answer

No

This ruling applies for the following period:

1 July 2013 to 30 June 2014

The scheme commences on:

1 July 2013

Relevant facts and circumstances

The Taxpayer is a lawyer who wrote three commercial loans prior to lending to the borrowers being an individual and the individual's company.

The Taxpayer had not registered a company for the purpose of money lending and is not a registered money lender.

The funds lent were the Taxpayer's own funds.

The borrowers were charged interest by the Taxpayer.

Of the three loans, the first was a small loan paying little interest and the second and third loans involved litigation.

The three loans were transacted on the basis of a commercial loan template created by the Taxpayer. The terms were:

• Declaration that the loan was for business purposes.

• 3-4% per month interest was capitalised and payable as one final sum with the principle.

• There were fees payable for the preparation and establishment of the loan, capitalised and payable on the final repayment of the loan.

The Taxpayer acted for the borrower with regards to an application by him for specific performance of a loan agreement between the borrowers and X. X sought possession of the borrower's residential premises as the borrower had defaulted on a loan. X loaned the borrower funds and refused to allow the borrower to draw down the full amount of the loan and instead sued for recovery of the loan.

The Taxpayer and the borrower did not know each other socially.

The Taxpayer represented the borrower and the borrower was left with an immediate refinancing need to meet the demand of X.

The Taxpayer was aware of the borrower's finances which included a property worth a considerable amount. The borrower was under pressure from X to refinance or have the property sold.

The Taxpayer concluded a written agreement with the borrower whereby the Taxpayer would lend the borrower an amount. The borrower had assured the Taxpayer that the money would be repaid.

The borrower was unable to pay back the loan from the Taxpayer.

The Taxpayer tried to recover the money lent but without success and the borrower had gone bankrupt.

The Taxpayer submitted that the debt had gone bad and that it should be deductible because a business of money lending was being carried on in line with Taxation Ruling TR 97/11 as follows:

• His lending activity had a significant commercial purpose and character;

• He had more than just an intention to engage in business;

• His purpose was for profit as well as a prospect of profit;

• The activity was planned, organised and carried out in a business-like manner, such as that it is directed at making a profit;

• The size scale and permanency of the activity;

• The activity would not be described as a hobby, form of recreation or sporting activity.

The Taxpayer held as prepared to lend to members of the public.

Further loans arose naturally in the course of his business as a lawyer as he became aware of clients financial needs while acting for them. It was a natural complement to the provision of legal advice to offer financial assistance.

It was not merely ancillary to his business. The amount lent to the borrower represented over 40% of his previous taxable income. The loss has the essential character of an outgoing incurred in gaining assessable income or, in other words of an income producing expense Lunney v FCT.

Relevant legislative provisions

Income Tax Assessment Act 1997 section 8-10

Income Tax Assessment Act 1997 section 25-35

Reasons for decision

Question 1

Was the applicant carrying on a business as a money lender?

Answer

No

Detailed reasoning

Section 8-1 of the Income Tax Assessment Act 1997 (ITAA 1997) deals with general deductions and provides the circumstances where you may deduct from your assessable income, certain losses or outgoings. This section states that you may deduct losses or outgoings to the extent that:

(a) it is incurred in gaining or producing your assessable income; or

(b) it is necessarily incurred in carrying on a *business for the purpose of gaining or producing your assessable income.

However, certain exclusions exist to prevent you from deducting a loss or outgoing under this section to the extent that:

(a) it is a loss or outgoing of capital, or of a capital nature; or

(b) it is a loss or outgoing of a private or domestic nature; or

(c) it is incurred in relation to gaining or producing your *exempt income; or

(d) a provision of this Act prevents you from deducting it.

Section 8-10 of the ITAA 1997 indicates that if more than one provision applies, the most appropriate provision should be used. If there is a more specific section, it would be the section most appropriate.

Division 12 of the ITAA 1997 sets out particular types of deductions that are dealt with by a specific provision of either the Income Tax Assessment Act 1936 (ITAA 1936) or the ITAA 1997. In particular, Division 12 lists that the rules in relation to deduction of general bad debts are provided for by section 25-35 of the ITAA 1997.

Subsection 25-35(1) of the ITAA 1997 provides the circumstances that must exist so that you can deduct a bad debt that you have written off in an income year. These circumstances are:

(a) it was included in your assessable income for the income year or for an earlier income year; or

(b) it is in respect of money that you lent in the ordinary course of your *business of lending money.

Note: If a bad debt is in respect of a payment that is required to be made under a qualifying security (within the meaning of Division 16E of Part III of the ITAA 1936): see subsection 63(1A) of that Act.

In order to claim a bad debt under paragraph 25-35(1)(b) of the ITAA 1997 it is necessary to demonstrate that the entity is carrying on a business as a moneylender and that the bad debt claimed related to money which was lent in the ordinary course of that business.

Carrying on a business as a moneylender

Generally, the requirements to be considered to be carrying on a business as a moneylender are similar to those required for carrying on of a business.

Section 995-1 of the ITAA 1997 defines 'business' as 'including any profession, trade, employment, vocation or calling, but not occupation as an employee'.

The question of whether a business is being carried on is a question of fact and degree. The courts have developed a series of indicators that are applied to determine the matter on the particular facts.

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

In the Commissioner's view, 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.

No one indicator is decisive. The indicators must be considered in combination and as a whole. Whether a 'business' is carried on depends on the large or general impression.

Taxation Ruling TR 92/18 provides the Commissioner's view in relation to the deductibility of bad debts. Whilst the ruling considers this in relation to the ITAA 1936, the same principles apply in respect of the ITAA 1997.

TR 92/18 reiterates that the question of whether a business of money lending is being carried on is a question of fact. It also indicates that in assessing the facts a money lender may not necessarily need to be willing to lend to the public or a wide class of borrowers. Further, the taxpayer may lend to only certain classes however this must be done in a business-like manner with a view to yielding a profit from that activity.

Relevant case law

Bowen CJ in FC of T v. Marshall and Brougham Pty Ltd 87 ATC 4522: 18 ATR 859 (Marshall and Brougham's case) made the following observations regarding a business of money mending:

It is generally accepted that in order to be regarded as carrying on a business one must demonstrate continuity and system in ones dealings. In the case of money lending it has been said that a person must hold himself out as willing to lend money generally to all and sundry (subject to credit-worthiness): see Litchfield v. Dreyfus [1906] 1 KB 584. It is not decisive whether the lender is a registered money-lender or not, although this will be a factor to take into account. It should be mentioned that it need not be the only business or the principal business of the taxpayer. It will be insufficient, however, if it is merely ancillary or incidental to the primary business. In the end, it will be a question of fact for the court to decide by looking at all the circumstances involved: see Newton v. Pyke (1908) 25 TLR 127.

In Litchfield v. Dreyfus [1906] 1 KB 584 at p. 589, Farwell J stated that:

Speaking generally, a man who carries on a money-lending business is one who is ready and willing to lend to all and sundry, provided that they are from his point of view eligible

However, this should not restrict the meaning of 'money-lender' for taxation purposes in light of the more recent Australian cases of Fairway Estates Pty Ltd v. Federal Commissioner of Taxation (1970) 123 CLR 153; (1970) 70 ATC 4061; (1970) 1 ATR 726, Marshall and Brougham's case and FC of T v. Bivona Pty Ltd 90 ATC 4168; 21 ATR 151.

These recent cases have highlighted the differences between laws relating to the control of money lenders and the laws relating to the taxing of money lenders.

Further, in the case of Richard Walter Pty Ltd v FC of T 95 ATC 4440 Tamberlin J stated that:

…it is not enough merely to show that a person has on several occasions lent money at remunerative rates of interest; there must be a certain degree of continuity and system about the transactions. The activity should be capable of being described as business operations intended to yield a profit.

Non-registration as a money lender is only one circumstance to be considered and is not decisive. In Administrators of Estate of Stewart v C of T (NSW) (1935) 3 ATD 271 it was held that, despite non-registration as a money lender, the taxpayer was carrying on a money lending business.

In Federal Commissioner of Taxation v. Bivona Pty Ltd (1990) 21 FCR 562; 90 ATC 4168; (1990) 21 ATR 151, the taxpayer company was incorporated for the purpose of borrowing money overseas ($4m in Swiss francs) for use by a group of companies of which it was a member.

It was concluded that the taxpayer's principal business was money lending as approximately 83% of the taxpayer's gross income was interest received from the holding company and a further 7% was interest received from unrelated companies.

The loan to the holding company yielded a profit (that is, the interest received exceeded the interest paid to the overseas lender).

Accordingly, while registration as a money lender is only one circumstance to be considered and is not decisive for the purposes of taxation law, it is necessary that the activity is conducted in a businesslike manner with a view to yielding a profit from that activity.

From 1 July 2010 Division 230 of the ITAA 1997 came into effect. It concerns the treatment of any gains or losses that arise from your financial arrangements.

Paragraph 230-180(3)(b) of the ITAA 1997 provides that a taxpayer makes a loss from a financial arrangement from writing off, as a bad debt, a right to a financial benefit if the right is one in respect of money that the taxpayer lent in the ordinary course of their business of money lending.

Application to Taxpayer's circumstances

In examining your lending activities the Commissioner does not accept your lending activities have demonstrated continuity or are systematic in a way that demonstrates a commercial purpose or intention to make a profit, rather your lending activities are incidental to your profession as a barrister.

There appears to be little repetition or regularity to your lending activities, the Commissioner is not satisfied you have availed yourself to all and sundry. Therefore, it is considered that your lending activities are complementary to your being a barrister.

Therefore, on the balance of the facts presented, it is considered you are not carrying on a business of lending money.

Question 2

Can the applicant claim a bad debt deduction under section 25-35 of the ITAA 1997 for the year ending 30 June 2014?

Answer:

No

Detailed reasoning

From the information provided we have determined that you are not carrying on a money lending business in respect of loan made to the borrower. It is therefore concluded you cannot claim a bad debt deduction under section 25-35 of the ITAA 1997 for the year ended 30 June 2014.