Edited version of your written advice

Authorisation Number: 1012998424429

Date of advice: 14 April 2016

Ruling

Subject: Are you are carrying on a business of share trading

Question

Are you carrying on a business of share trading in the relevant financial years?

Answer

No.

This ruling applies for the following periods:

Year ended 30 June 2014

Year ended 30 June 2015

The scheme commences on:

1 July 20XX

Relevant facts and circumstances

You began share investing (the activity) in the 20XX-XX financial year.

The activity was undertaken with a business plan, with the primary focus of trading in shares with a view to profit from short-term movements, as opposed to receiving dividends and long-term growth.

You established commercial trading accounts with financial institutions for share trading activity on the Australian Stock Exchange (ASX), and Phillip Capital Markets and Saxo Capital Markets for share trading activity on the Overseas Stock Exchange (OGX).

You exercised your judgment as to when to buy or sell shares, with buy and sell contracts undertaken according to the prevailing market conditions. You also engage a professional broker for specialist advice.

Since your activity commenced, you have traded in a small number of particular shares.

During the relevant financial years you traded predominantly in stock with a low purchase price where a shift in value of even a small amount can result in a significant trading profit. They are not well suited for long-term investments but are for speculation purposes with the associated short-term benefits. The stock was company A, company B and company C.

Of the total transactions conducted since your activity commenced, more than 80% involved company C.

Your focus on company C was due to the detailed research you undertook on the company, where you believed that volatility in the share price presented significant opportunities for profits in the short term.

You conduct your company research and analysis through:

• obtaining relevant background information from the financial press and news

• company website for organizational updates and announcements

• websites for real-time stock price, asset and market share overview as well as public announcements

• studying and contributing to trading forums to receive the latest information, sharing of news and other sources of information and updates, discovery of related articles using a community-based approach, which are a crucial additional method to stay up to date. All of these activities help to improve the identification of trading opportunities and risk.

You use a Webtrader platform trading software which provides full reporting and analytic capabilities. It provides live communication regarding pricing movements both via computer and mobile phone apps. This platform enables the use of technical analysis tools to assist in determining trends and possible future movements in share prices.

The data on share transactions for relevant financial years were as follows:

20YY-YY financial year

• 13 buy trades totalling: approx. $XXX,000

• 10 sell trades totalling: approx. $YYY,000

20ZZ-ZZ financial year

• 9 buy trades totalling: approx. $XX,000

• 9 sell trades totalling: approx. $YY,000

During the 20YY-YY financial year you undertook the activity for the period of approximately six months only. You chose not to invest outside this period as you believed the market was not right.

During the 20ZZ-ZZ financial year you traded once in each of the months of July, September, October and January, no trades for a period of approximately four months between from January, approximately 10 trades in May, and a small number in June.

Your business plan states that you will work a minimum of four hours per day conducting the activity.

Your business plan provides information on the type of trading strategies that you would apply to your activity, such as a "stop loss" to trigger sale requests once the price falls below a specified price. However your business plan did not indicate the margin that the stop loss trigger would be implemented.

You are employed in a full time position.

You operate the activity out of a home office.

You have kept records of the activity.

Relevant legislative provisions

Income Tax Assessment Act 1997 Section 6-5

Income Tax Assessment Act 1997 Section 8-1

Income Tax Assessment Act 1997 Section 995-1

Income Tax Assessment Act 1997 Section 100-25

Income Tax Assessment Act 1997 Section 100-55

Reasons for decision

There are two possible scenarios as to how share trading activities can be treated for income tax purposes. These scenarios, and their consequences, are as follows:

1) business income - in this scenario, you would be a share trader, the shares would be regarded as trading stock and any income would be included in your assessable income, and

2) investment / speculator - in this situation, you would be regarded as a share investor or speculator. The shares will be capital gains tax (CGT) assets, any gains earned from the disposal of the shares would be income as a capital gain and any losses sustained from the disposals will be a capital loss. Any dividends and other similar receipts would be included in your assessable income.

Business is defined in section 995-1 of the ITAA 1997 as 'any profession, trade, employment, vocation or calling, but does not include occupation as an employee'.

In FC of T v. Radnor Pty Ltd (1991) 22 ATR 344; 91 ATC 4689, Hill J stated, 'ultimately, the question of whether the respondent was carrying on a business of dealing in shares is a question of fact and degree, a question of impression'.

There has been much judicial comment as to what is meant by the phrase 'carrying on a business', however the difficulties associated with the question are probably best summed up by the following comments in Martin v. Federal Commissioner of Taxation (1953) 90 CLR 470; (1953) AITR 548; (1953) 10 ATD 226:

The test is both subjective and objective: it is made by regarding the nature and extent of the activities under review, as well as the purpose of the individual engaging in them, and, as counsel for the taxpayer put it, the determination is eventually based on the large or general impression gained.

Whilst the existence of a business or otherwise is a question of fact, a number of factors have emerged from case law which is considered relevant in considering this question. These factors were brought together and relied upon in reaching the decision in Case X86 90 ATC 621; AAT Case 6297 (1990) 21 ATR 3747 (Case 86). Block J subsequently applied them in Shields v. Deputy Federal Commissioner of Taxation [1999] AATA 4; (1999) 41 ATR 1042; 99 ATC 2037:

The question is essentially one of fact. In deciding this issue the case law has established the following factors as generally relevant considerations:

a) the nature of the activities and whether they have the purpose of profit-making;

b) the complexity and magnitude of the undertaking;

c) an intention to engage in trade regularly, routinely or systematically;

d) operating in a business-like manner and the degree of sophistication involved;

e) whether any profit/loss is regarded as arising from a discernible pattern of trading;

f) the volume of the taxpayer's operations and the amount of capital employed by him;

and more particularly in respect of share traders:

a) repetition and regularity in the buying and selling of shares;

b) turnover;

c) whether the taxpayer is operating to a plan, setting budgets and targets, keeping records;

d) maintenance of an office;

e) accounting for the share transactions on a gross receipts basis;

f) whether the taxpayer is engaged in another full-time occupation.

Taxation Ruling TR 97/11 'Income tax: Am I carrying on a business of primary production' summarises these indicators. Although TR 97/11 specifically refers to primary production, the same principles apply to all businesses. Paragraphs 15 and 16 of TR 97/11 state that no one indicator is decisive but they must be considered in combination and as a whole.

In Case W8 89 ATC 171; AAT Case 4847 (1988) 20 ATR 3182 a trainee accountant purchased 21 parcels of shares between April 1986 and February 1987. All the shares were sold between September 1986 and April 1987, no share having been held for more than five months. A small loss made on four parcels was claimed as a deduction under subsection 51(1) of the Income Tax Assessment Act 1936 (ITAA 1936). The AAT held that the shares were purchased as trading stock during the 1987 income year within the meaning of section 28 and subsection 160L(3) of the ITAA 1936. As the shares were bought and sold repeatedly with a view to making a profit and that all shares were sold within a year of acquisition, the person was in the business of share dealing.

In contrast to this decision, Case X86 disallowed losses under subsection 51(1) of the ITAA 1936 on two parcels of shares sold after the 1987 stock market crash. Instead, the losses were quarantined under the capital gains provisions of the ITAA 1936. It was found that there was a lack of sophisticated share trading techniques, business plan, market research in shares invested, and contingency plan in falling market or large number of transactions. The applicant's activities did not exhibit a system of operation of a business in share trading. The applicant had only a limited contact with the share market, which he then entered for the purpose of making quick profits by generally buying and selling shares in speculative mining. The applicant was not engaged in a business of share trading but rather that he was a speculator in the share market. The taxpayer was unable to satisfy the AAT that he had established a proper pattern of trading in shares and that the share trading was not done in a regular, routine and systematic manner. This was despite arguments that he traded in speculative shares, received regular advice from his accountant, had discussions with his stockbroker, and that there was a continuity of business, the aim of which was to make a profit.

These cases provide an explanation of the difference between a share trader and a speculator. A share trader was seen as one whose dealings were seen as part of a more extensive business of buying and selling shares. The transactions have the character of a continuing business enterprise. A speculator makes individual forays in particular stock with a view to resale.

Application to your facts

After considering the above factors and your specific circumstances, the general impression gained is that you were not carrying on a business as a share trader during the relevant financial years.

Whilst you argue that you have carried out extensive research on the specific companies that you invest, and in most cases the shares in those companies were held for a short period of time for the purpose of short-term gains, that alone is not indicative of whether you were carrying on a business of share trading. We must consider all the objective facts of the case, including evidence of how the activities were conducted in regards to the repetition or regularity.

The level of trading activity is very low for someone carrying on a business of share trading. The irregular trades conducted and large periods of inactivity are not indicative of an activity being carried on in a regular, routine and systematic manner, or of someone who is following the markets on a daily basis.

Whilst there is a substantial amount of money involved in the acquisitions of the activity, there is limited turnover.

You have created a business plan which provides information on the type of trading strategies that you would apply to your activity, such as a "stop loss" to trigger sale requests once the price falls below a specified price. However your business plan did not indicate the margin that the stop loss trigger would be implemented.

Further, your business plan states:

Common observation is that traders cannot sell if they are down because they don't want to take a loss. If the stop loss gets hit, sell!

There were varying degrees of losses made on the selling of company C stock:

n 31% on the sale of part of a parcel of shares on in 20XX

n 11.5% on the sale of a parcel of shares in 20ZZ, and

n after purchasing numerous company C shares between for a period of nearly a year, you sold them all on one day incurring substantial losses of up to 77%.

It would appear that the plan has not been followed to limit the losses the activity made. The shares could have been equally bought as a speculator or investor, and then disposed of due to a margin call on the loan or just a decision to get out of the market.

Whilst you have maintained a home office and kept records, these are not determinative factors.

You have advised that you have accounted for the shares as if they were trading stock. This is not a determinative factor in this case.

As such the shares are not to be treated as trading stock for income tax purposes and therefore the loss would be a capital loss rather than a revenue loss. You are not entitled to claim a deduction for the loss under section 8-1 of the ITAA 1997.