Edited version of your written advice

Authorisation Number: 1012875960404

Date of advice: 9 September 2015

Ruling

Subject: Capital gains tax

Question 1

Are the company and the partnership considered to be connected entities?

Answer

Yes.

Question 2

Is the company eligible for the 15 year exemption in relation to the disposal of an asset?

Answer

Yes.

Question 3

If the capital gain is exempt, can the amount be excluded from the assessable income of the CGT concession stakeholders under the provisions of section 152-125 of the Income Tax Assessment Act 1997 (ITAA 1997)?

Answer

Yes.

Question 4

Can the active asset reduction and the retirement exemption apply to exempt the entire gain for the company if paid to the shareholders of the company as an eligible termination payment?

Answer

No.

This ruling applies for the following period

30 June 2015

The scheme commences on

1 July 2014

Relevant facts and circumstances

The partnership started a business in or around XXXX.

On XXXX, the company took over the business.

On XXXX, the company sold the business back to the partnership who continued the operation of the business.

The partnership sold the business on XXXX to a third party.

The property was purchased by the company in XXXX.

The property was used by the company in the business and then rented by the partnership until the business was sold on the XXXX.

The land was used to store materials for the business.

The property was sold on the XXXX.

The shareholding of the company has always been:

• A 1 Ordinary share with 50% voting rights; and

• B 1 Ordinary share with 50% voting rights.

A had a 50% partnership interest in the partnership.

The company, A and B and their connected entities and CGT affiliates have net assets of less than $6 million.

Both A and B are over 55 years of age and the sale of the property is in connection with their retirement.

After the partnership business was sold in XXXX, the property was rented to a third party until the property was sold in XXXX.

Relevant legislative provisions

Income Tax Assessment Act 1997 Division 152

Income Tax Assessment Act 1997 Subdivision 152-C

Income Tax Assessment Act 1997 Section 152-35

Income Tax Assessment Act 1997 Subsection 152-10(1)

Income Tax Assessment Act 1997 Section 152-110

Income Tax Assessment Act 1997 Section 152-55

Income Tax Assessment Act 1997 Section 152-65

Income Tax Assessment Act 1997 Section 152-60

Income Tax Assessment Act 1997 Subsection 152-70(1)

Income Tax Assessment Act 1997 Section 152-125

Income Tax Assessment Act 1997 Subdivision 152-D

Income Tax Assessment Act 1997 Section 152-330

Reasons for decision

Detailed reasoning

In order to be eligible for the small business CGT concessions, a number of basic conditions must be satisfied. The basic conditions for the small business CGT concessions are outlined in subsection 152-10(1) of the ITAA 1997:

(a) a CGT event happens in relation to an asset that the taxpayer owns

(b) the event would otherwise have resulted in a capital gain

(c) one or more of the following applies

(i) the taxpayer satisfies the maximum net asset value test

(ii) the taxpayer is a "small business entity" for the income year

(iii) the asset is an interest in an asset of a partnership which is a small business entity for the income year, and the taxpayer is a partner in that partnership, or

(iv) the special conditions for passively held assets in sub-sections 152-10(1A) or 152-10(1B)are satisfied in relation to the CGT asset in the income year, and

(d) the asset satisfies the active asset test.

In this case a CGT event occurred when a contract of sale was entered into. The CGT event will result in a capital gain. Additionally, the company will satisfy the maximum net asset value test just before the CGT event.

Active asset test

The active asset test is contained in section 152-35 of the ITAA 1997. The active asset test is satisfied if:

• you have owned the asset for 15 years or less and the asset was an active asset of yours for a total of at least half of the test period detailed below, or

• you have owned the asset for more than 15 years and the asset was an active asset of yours for a total of least 7.5 years during the test period.

The test period:

• begins when you acquired the asset, and

• ends at the earlier of

• the CGT event, and

• when the business ceased, if the business in question ceased in the 12 months before the CGT event (under subparagraph 152-35(2)(b)(ii) of the ITAA 1997 the Commissioner can allow a longer period than 12 months).

A CGT asset is an active asset if it is owned by you and is used or held ready for use in a business carried on (whether alone or in partnership) by you, your affiliate, your spouse or child, or an entity connected with you.

An entity is connected with another entity if:

(a) either entity controls the other entity in a way described in this section; or

(b) both entities are controlled in a way described in this section by the same third entity.

An entity (the first entity) controls another entity if the first entity and its affiliates or the first entity together with its affiliates:

(b) if the other entity is a company - own, or have the right to acquire the ownership of, equity interests in the company that carry between them the right to exercise, or control the exercise of, a percentage (the control percentage) that is at least 40% of the voting power in the company.

In this case, A has a 50% ownership in the company and a 50% interest in the partnership. Accordingly both entities are controlled by the same third entity and are therefore connected.

In this case, the property was owned by the company for more than 15 years. The property was an active asset for more than 7.5 years as it was used in the partnership's business. Accordingly, the active asset test contained in section 152-35 of the ITAA 1997 is satisfied. Therefore, the basic conditions in subsection 152-10(1) of the ITAA 1997 will be satisfied.

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:

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

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

(c) 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

(d) an individual who was a significant individual of the company 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.

Under section 152-55 of the ITAA 1997 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.

Small business participation percentage

Under section 152-65 of the ITAA 1997 an entity's small business participation percentage in another entity at a time is the percentage that is the sum of:

• the entity's direct small business participation percentage in the other entity at that time, and

• the entity's indirect small business participation percentage in the other entity at that time.

Under subsection 152-70(1) of the ITAA 1997 an entity's direct small business participation percentage in a company is the percentage of:

• voting power that 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 smallest of the three definitions above.

In this case, A and B each hold a 50% direct small business participation percentage in the company. Accordingly, they are significant individuals and have been so for 15 years as there has been no change to the shareholdings in the company. Both A and B are over 55 and the sale of the property is in connection with their retirement.

Having regard to the full circumstances, the company satisfies the conditions set out in Section 152-110 of the ITAA 1997 and the capital gain from the sale of the land, goodwill and business can be disregarded.

Section 152-60 of the ITAA 1997 defines an individual as a CGT concession stakeholder of a company or trust if they are a significant individual or the spouse of a significant individual where the spouse has a small business participation percentage in the company or trust at that time that is greater than zero. It has already been established that A and B are significant individuals and therefore CGT concession stakeholders.

Section 152-125 of the ITAA 1997 allows a CGT concession stakeholder to receive an exempt amount from the company or trust where a company or trust has claimed the small business 15-year exemption, if these following conditions are satisfied:

• the company or trust must make a payment within two years after the CGT event that resulted in the capital gain or, in appropriate circumstances, such further time as allowed by the Commissioner

• the payment must be made to an individual who was a CGT concession stakeholder of the company or trust just before the CGT event, and

• 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 control percentage is, for a company or a trust (where entities have entitlements to all the income or capital of the trust), the stakeholder's small business participation percentage in the company or trust just before the CGT event.

A and B are CGT concession stakeholders and are entitled to an exempt amount if the above conditions are met. The exemption amount is not included in the assessable income of the CGT concession stakeholder and is not deductible to the company or trust.

Subsection 152-125(3) of the ITAA 1997 imposes a limit on the payments that may qualify under subsection 152-125(2) of the ITAA 1997. That provision applies only to the extent that the total of the payments made by the company or trust to a particular CGT concession stakeholder for an exempt amount does not exceed the following limit:

Stakeholder's participation percentage x exempt amount

Provided that the conditions above are met the proceeds can be distributed to the significant individuals and not be included in their assessable income.

Retirement exemption

The rules covering the small business retirement exemption are contained in Subdivision 152-D of the ITAA 1997. Section 152-330 of the ITAA 1997 specifies that subdivision 152-D does not apply to a capital gain to which subdivision 152-B (15 year exemption) applies. Accordingly, the retirement exemption will not apply to the company as the 15 year exemption applies.

The rules covering the small business active asset reduction are contained in Subdivision 152- C of the ITAA 1997. Section 152-215 of the ITAA 1997 specifies that subdivision 152-C does not apply to a capital gain to which subdivision 152-B (15 year exemption) applies. Accordingly, the small business active asset reduction will not apply to the company as the 15 year exemption applies.