Edited version of your written advice

Authorisation Number: 1012882075103

Date of advice: 21 September 2015

Ruling

Subject: Small business concessions - active asset - 15 year exemption

Question 1

Do you satisfy the conditions of retirement under section 152-100 of the Income Tax Assessment Act 1997 (ITAA 1997)?

Answer

Yes

Question 2

Are you entitled to claim the small business 15 year exemption under Subdivision 152B of the ITAA 1997 with regards to the capital gain on the sale of the entire property?

Answer

Yes

Question 3

Will sections 70-85 and 70-90 of the ITAA 1997 apply to include in your assessable income at the time of disposal of the property, the market value of the trees planted and tended for sale?

Answer

Yes

This ruling applies for the following period

Year ended 30 June 2016

The scheme commenced on

September 19XX

Relevant facts

You are a partnership registered for GST since 1 July 2000 in a primary production business.

You own a block of land.

You acquired the land in 19XX. The land was vacant at the time you acquired it.

During your ownership of the property you have been conducting several different businesses on the land.

Consent has been granted by your local government authority (LGA) to undertake a type of business.

These activities have been carried out with the planning and financial support of the relevant government authority.

In 19YY you constructed a building on the property which you used as your main residence upon its completion in 19ZZ.

You have also constructed a cabin on the property, which was rented out.

You have constructed a number of other buildings on the property.

You have provided a break- up of the total area of the property and how it was used.

You are both now over the age of 65 and have decided to retire and sell the property.

Assumptions

You satisfy the basic conditions for the small business CGT concessions.

Relevant legislative provisions

Income Tax Assessment Act 1997 Section 70-85

Income Tax Assessment Act 1997 Section 70-90

Income Tax Assessment Act 1997 Section 104-10

Income Tax Assessment Act 1997 Section 152-10

Income Tax Assessment Act 1997 Section 152-15

Income Tax Assessment Act 1997 Section 152-35

Income Tax Assessment Act 1997 Section 152-100

Income Tax Assessment Act 1997 Section 152-105

Reasons for decision

Summary

You qualify for the small business 15-year exemption and therefore can entirely disregard the capital gain on the disposal of the entire property and do not need to apply any other concessions. Further, you do not have to apply capital losses against your capital gain before applying the 15-year exemption.

If the conditions are satisfied and you make a capital loss from the CGT event, you may use the capital loss to reduce other capital gains.

On disposal of the property, the market value of the trading stock will form part of your assessable income. The assets are considered to be trading stock and the disposal is outside the ordinary course of business

Detailed reasoning

Basic conditions in Subdivision 152-A of the ITAA 1997

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. You have stated that these basic requirements are met.

A capital gain or capital loss you make may be reduced or disregarded under this Division if the following basic conditions are satisfied for the gain:

(a) CGT event happens in relation to a CGT asset of yours in an income year;

(b) the event would (apart from this Division) have resulted in the gain;

(c) you satisfy the maximum net asset value test (see section 152-15);

(d) the CGT asset satisfies the active asset test (see section 152-35).

Paragraphs 152-10(1)(a) and (b) of the ITAA 1997 will be satisfied when you sell the property. At that time, a change of ownership constituting a disposal and CGT event A1 will happen (section 104-10).

You have stated that you satisfy the maximum net asset value test in section 152-15 of the ITAA 1997. Providing the maximum net asset value test is satisfied immediately before you sell the asset, paragraph 152-10(1)(c) will also be satisfied.

Finally, the active asset test in section 152-35 of the ITAA 1997 must be satisfied.

None of these conditions or the sections to which they refer allows or requires only a portion of the capital gain to be considered where a CGT asset is used for more than one purpose. In such a case, the active asset test referred to in paragraph 152-10(1) (d) of the ITAA 1997 is of major importance. Neither the active asset test in section 152-35 nor section 152-40 which defines an active asset, allows or requires apportionment of a capital gain. A CGT asset is either an active asset or it is not.

For a CGT asset to be an active asset at a given time it must first satisfy one of the definitions in subsection 152-40(1) of the ITAA 1997. Secondly it must not be excluded by one of the exceptions in subsection 152-40(4).

Under paragraph 152-40(1)(a) of the ITAA 1997 a CGT asset is an active asset at a given time if a taxpayer owns it and uses it or holds it ready for use in the course of carrying on a business.

In your case, the property is used in the business to earn ordinary income in the future, part to earn rent through the renting of a cabin, part for your main residence and part of the property is subject to a state government restrictive covenant. For the property to be an active asset you do not have to use it exclusively for business. In the Tax Office booklet, Advanced guide to capital gains tax concessions for small business, the Commissioner takes a broad view of what is an active asset.

Meaning of active asset

A CGT asset is an active asset if it is owned by a small business entity and it is:

used or held ready for use by the small business entity, a small business CGT affiliate, or an entity connected with the small business entity, in the course of carrying on a business.

The property was used in the course of carrying on a business. The majority of the available property is used for farming and clearly it can fall within the definition of an active asset.

With respect to exceptions, paragraph 152-40(4)(e) of the ITAA 1997 provides that an asset whose main use in the course of carrying on the business is to derive rent, cannot be an active asset (unless that main use was only temporary).

The cabin and the building that were part of the proposed business have been rented out for short periods in this total ownership time of the property. These two buildings and surrounding areas form a small part of the property, at the most about 5%. The asset, for the purpose of the active asset test, we are considering is the entire property.

In deciding if the property was mainly used to earn rent the Commissioner will consider a range of factors such as:

• the comparative areas of use of the premises (between rent and business),

• the comparative times of use of the premises (between rent and business), and

• the comparative levels of income derived from the different uses of the asset.

The majority of the land has been used in the forestry business and the rental use is only incidental. Accordingly, the property is not excluded from being an active asset by paragraph 152-40(4)(e) of the ITAA 1997.

Conclusion

It is considered that your interest in the property satisfies the active asset test. Therefore you satisfy all the basic conditions for the small business CGT concessions.

The small business 15-year exemption in Subdivision 152-B of the ITAA 1997

A small business entity can disregard a capital gain arising from a CGT asset that is owned for at least 15 years if certain conditions are met. Capital losses are not affected.

The main conditions are that:

The basic conditions in Subdivision 152-A of the ITAA 1997 are satisfied;

The entity continuously owned the asset for the 15 year period ending just before the CGT event (subsection 152-105(b) of the ITAA 1997);

If the entity is an individual, the individual retires or is permanently incapacitated.

Paragraph 152-105(d)(i) of the ITAA 1997 also states for an individual they must be over 55 at the time of the CGT event and the event happens in connection with their retirement.

As set out above, you satisfy the basic conditions for the small business CGT concessions. The first additional condition for the 15-year exemption is that you must continuously own the CGT asset for the 15 year period ending just before the CGT event. You have advised that they acquired the property in 19XX and it was used continuously in connection with the forestry business since 19YY, a period of 19 years. Therefore you will meet the condition in paragraph 152-105(b) of the ITAA 1997.

The final additional condition is that you were aged 55 or over at the time of the CGT event and the event happens in connection with your retirement. You have advised that you will both be aged over 55 years when the disposal of the property happens. You are now both over the age of 65 years.

The CGT event must happen in connection with your retirement.

Unless the individual is permanently incapacitated at the time of the CGT event, the individual must retire and the CGT event must happen in connection with that retirement.

There is no statutory definition of 'retirement'. The word 'retirement' is defined in the Macquarie Dictionary to mean 'the withdrawal from office, business or active life'. The Shorter Oxford English Dictionary gives the meaning for 'retirement' as including 'the act of falling back, retreating or receding from a place or position. The act of withdrawing into seclusion or privacy; withdrawal from something. Withdrawal from occupation or business activity.'

The Explanatory Memorandum to the New Business Tax System)(Capital Gains Tax) Bill 1999 makes the following comments about the requirement to be retiring as one of the conditions for the concession.

1.5… the disposal is related to a person retiring… and

1.68… an individual small business taxpayer… must be…at least 55 years old and using the capital proceeds for their retirement.

Whether there is a 'retirement' for the purposes of the small business 15-year exemption will depend on the circumstances of each particular case. However, it is considered for the term to be satisfied there must at least be a significant reduction in the number of hours the individual is engaged in present activities or a significant change in the nature of present activities. It is not necessary for there to be a permanent and everlasting retirement from the workforce.

In this case you are disposing of the property where the business is conducted. You also intend to greatly reduce any consultancy work that you have previously been engaged in. It is considered that on the facts presented, the disposal of the property will be in connection with their retirement.

Conclusion

As you meet all the conditions necessary for the 15-year exemption to apply in Subdivision 152-B of the ITAA 1997, you can disregard any capital gain made on the sale of their property.

Trading Stock

Section 70-90 of the ITAA 1997 includes the market value of an item of trading stock on the day it is disposed, where the item is disposed of outside the ordinary course of business. Section 70-85 of the ITAA 1997 applies the trading stock provisions to certain assets of a business as if they were trading stock. This includes trees planted and tended for sale.

The business activity conducted on your property is one of a forestry business. You have planted specific types of trees that have been tended for the purpose of eventual sale. The above sections will apply on disposal of the property to include the market value of these growing trees in your assessable income, as the assets are being disposed of outside the ordinary course of business.