Edited version of your written advice

Authorisation Number: 1051386165538

Date of advice: 15 June 2018

Ruling

Subject: Income tax – capital gains tax – small business concessions

Question 1

Can you apply the small business 15-year exemption to the capital gain you will make on the disposal of the property?

Answer

No.

Question 2

Can you apply the small business 50% (active asset) reduction to the capital gain you will make on the disposal of the property?

Answer

Yes.

Question 3

Can you apply the general 50% discount to the capital gain you will make on the disposal of the property?

Answer

Yes.

Question 4

Can you apply the small business retirement exemption to the capital gain you will make on the disposal of the property?

Answer

Yes.

This ruling applies for the following periods

Year ending 30 June 2018

Year ending 30 June 2019

The scheme commenced on

1 July 2017

Relevant facts and circumstances

You are over 55 years old.

You acquired the property jointly with your former spouse in October 19XX. You and your former spouse also owned other farming land.

The property was used in a partnership farming operation carried on by you and your former spouse from the time of acquisition until 20XX.

The partnership derived income from its own farming operations as well as from share farming, however, the property was used in the partnership business for more than 7.5 years during the ownership period.

The partnership has also derived income from non-primary production business activities over the years.

You started having marital problems in 20XX and separated from your former spouse in 20XX.

Your former spouses 50% interest in the property was transferred to you by way of a court under the Family Law Act 1975 made in June 20XX.

From the time of separation to 20XX your former spouse did not allow the property to be used for share farming.

During that period, there was little farming activity on the property except for a crop in 20XX which was ruined.

You obtained a sole trader ABN in 20XX however the only income you have derived from the property since that time is agistment income. You do not earn any income as an employee.

You will make the choice under subsection 152-45(2) of the ITAA 1997 so that the active asset test in section 152-35 of the ITAA 1997 applies as if:

● you acquired your former spouses 50% interest in the property when your former spouse acquired it, and

● your former spouse’s 50% interest in the property was an active asset of yours at all times when that interest was an active asset of your former spouse.

You satisfy the maximum net asset value test.

You have received an offer for the property.

Relevant legislative provisions

Income Tax Assessment Act 1997 Subdivision 126-A

Income Tax Assessment Act 1997 Division 152

Income Tax Assessment Act 1997 Subdivision 152-A

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 152-40

Income Tax Assessment Act 1997 subsection 152-45(2)

Income Tax Assessment Act 1997 section 152-105

Income Tax Assessment Act 1997 Subdivision 152-C

Income Tax Assessment Act 1997 section 152-205

Income Tax Assessment Act 1997 section 152-220

Income Tax Assessment Act 1997 Subdivision 152-D

Income Tax Assessment Act 1997 subsection 152-305(1)

Reasons for decision

Small business relief

To qualify for the small business CGT concessions, you must satisfy several conditions that are common to all the concessions. These are called the ‘basic conditions’. The basic conditions are contained in subdivision 152‑A of the ITAA 1997.

Basic conditions

A capital gain that you make may be reduced or disregarded under Division 152 of the ITAA 1997 if the following basic conditions are satisfied:

● a CGT event happens in relation to a CGT asset of yours in an income year

● the event results in a gain

● the CGT asset satisfied the active asset test in section 152-35 of the ITAA 1997, and

● at least one of the following applies:

● you are a small business entity for the income year

● you satisfy the maximum net asset value test in section 152-15 of the ITAA 1997

● you are a partner in a partnership that is a small business entity for the income year and the CGT asset is an interest in an asset of the partnership, or

● you do not carry on a business, but your CGT asset is used in a business carried on by a small business entity that is your affiliate or an entity connected with you (section 152-10 of the ITAA 1997).

Active asset test

A CGT asset satisfies the active asset test if:

(a) you have owned the asset for 15 years or less and the asset was an active asset of your for a total of at least half of the test period, or

(b) you have owned the asset for more than 15 years and the asset was an active asset of your for a total of at least 7.5 years during the test period (subsection 152-35 of the ITAA 1997).

The test period begins when you acquired the asset and ends at the earlier of the CGT event and if the relevant business ceased to be carried on in the 12 months before that time – the cessation of the business (subsection 152-35(2) of the ITAA 1997).

Continuing time periods for involuntary disposals – marriage or relationship breakdowns

If you were the transferee of a CGT asset for which there has been a roll-over under Subdivision 126-A of the ITAA 1997, then you may choose that the active asset test in section 152-35 of the ITAA 1997 applies as if:

a) you had acquired the asset when the transferor acquired the asset

b) the asset had been an active asset of yours at all times when the asset was an active asset of the transferor, and

c) the asset had not been an active asset of yours at all times when the asset was not an active asset of the transferor (subsection 152-45(2) of the ITAA 1997).

If you don't make a choice, the time of acquisition is simply the time of transfer (Note 3 in subsection 152-45(2) of the ITAA 1997).

The choice must be made:

a) by the day you lodge your income tax return for the income year in which the relevant CGT event happened, or

b) within a further time allowed by the Commissioner.

Subdivision 16-A roll-over – marriage or relationship breakdown same-asset roll-over

There is a roll-over if a CGT event (the trigger event) happens involving an individual (the transferor) and his or her spouse (the transferee), or a former spouse (also the transferee) because of, among other things, a court order under the Family Law Act 1975 or under a State law, Territory law or foreign law relating to breakdowns of relationships between spouses.

15-year exemption

Section 152-105 of the ITAA 1997 provides a small business 15-year exemption for individuals. Under this section, you can disregard the capital gain made on the disposal of a CGT asset if you:

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

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

(c) are at least 55 years old at the time of the CGT event and the event happens in connection with your retirement, or are permanently incapacitated at that time.

In connection with your retirement

Whether a CGT event happens in connection with an individual’s retirement depends on the particular circumstances of each case. A CGT event may be in connection with your retirement even if it occurs at some time before retirement.

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

1.68 One of the requirements of this concession for an individual small business taxpayer is that they must be either permanently incapacitated at the time of the CGT event, or at least 55 years old and using the capital proceeds for their retirement.

The provisions relating to the small business 15-year exemption do not define what is meant by the phrase ‘in connection with your retirement’, nor does it give any indication of the degree of retirement required in order to take advantage of this concession. It could be argued that the phrase ‘in connection with retirement’ means that the capital gain arising from the disposal of active assets is to be used to provide funds for a person’s retirement rather than to precipitate retirement at the time of the CGT event. The words used in the EM support this interpretation.

The words 'in connection with' can also apply where the CGT event occurs sometime after retirement. This type of case would depend on its own particular facts, and would need to be considered on a case-by-case basis. The Advanced guide to capital gains tax concessions for small business provides the following example:

A small business operator 'retires' and his children take over the running of the business. Within six months, they sell some business assets and make a capital gain. Several reasons may have prompted the sale of the assets. If there is no relevant connection with the small business operator's business, the requirement would not be satisfied. However, if it can be shown that the reason for the disposal of the assets is connected to retirement and the later sale is integral to the small business operator's retirement plan, the sale may be accepted as happening in connection with retirement.

Agistment income

Taxation Ruling IT 225 Primary production - agistment income provides the Commissioner’s view of the law in relation to whether agistment income is earned through a business of primary of production. The general proposition may be stated that where income arises from the use of the assets of a business of primary production and the particular use is a recognised incident of carrying on that sort of business, the income may be regarded as forming part of the proceeds of the business.

That is, income earned from activities that are incidental to the running of a primary production business is considered to be a part of the business.

However, this general proposition does not extend to a situation where property or a substantial part of a property is used solely for agistment. The agistment income would be considered separate from the business income earned.

In AAT Case 10,331; 95 ATC 404; (1995) 31 ATR 1146 Senior Member Fayle said:

Agisting another's livestock does not ordinarily constitute the carrying on of a business. Agistment fees ordinarily are in the nature of rent. However, where a land owner is charged with the management, maintenance and care of the animals agisted then it is possible that the person is carrying on a business, the reward for which is the agistment fee. This is more likely if the level of the agistment fee depended on the effective management, maintenance and care of the animals. For example, if a land owner agreed with the owner of a herd of cattle to ensure their good health, proper veterinary care and husbandry of the progeny, marketing of their bodily produce and maintenance of the herd, then that land owner may be carrying on a business of primary production.

Share farming

Taxation Determination TD 95/62 Income tax: will the owner (or lessor) of land who allows the land to be used in a sharefarming arrangement be considered to be engaged in a business of primary production as defined by the Income Tax Assessment Act 1936 ('the Act')? discusses whether the owner of land who allows the land to be used in a share farming arrangement would be considered to be engaged in a business of primary production and states:

In certain circumstances, a share farming arrangement may amount to the carrying on of a business in partnership. Factors which are considered by the Commissioner to be relevant to the existence or otherwise of a partnership generally are set out in Taxation Ruling TR 94/8. If a partnership is in existence then each partner will of course be considered to be carrying on that business.

Many arrangements do not amount to the carrying on of a business in partnership. In such cases, the fact that the land is used for cultivation in a business of primary production does not necessarily mean that the owner of the land is also carrying on that business.

To be carrying on a business, the taxpayer must be involved in the activities that make up the business. This would be evidenced by an element of control over, and/or an ongoing participation in, the business. The involvement should be direct or immediate, rather than passive. The payment of expenses relating to the ownership of the land would not, without more, be sufficient.

Small business 50% active asset reduction

The rules covering the small business 50% active asset reduction are contained in Subdivision 152-C of the ITAA 1997. The amount of a capital gain remaining after applying the general 50% CGT discount is reduced by a further 50% if the basic conditions in Subdivision 152-A of the ITAA 1997 are satisfied (section 152-205 of the ITAA 1997), unless you choose for it not to apply (section 152-220 of the ITAA 1997).

The capital gain, as reduced under the small business 50% active asset reduction in section 152-205 of the ITAA 1997, may also qualify for the small business retirement exemption (section 152-10 of the ITAA 1997).

Small business retirement exemption

The rules covering the small business retirement exemption are contained in Subdivision 152-D of the ITAA 1997. Relevantly, as you are over 55 and an individual, you can choose to disregard all or part of a capital gain if:

● you satisfy the basic conditions in Subdivision 152-A of the ITAA 1997 (subsection 152-305(1) of the ITAA 1997), and

● you keep a written record of the amount you choose to disregard (subsection 152-315(4) of the ITAA 1997.

As you will be over 55 years old when you make the choice to access the retirement exemption there is no requirement to contribute any amount into a complying superannuation fund or RSA.

The amount of the capital gain that you choose to disregard must not exceed your CGT retirement exemption limit. An individual’s lifetime CGT retirement exemption limit is $500,000, reduced by any previous CGT exempt amounts the individual has previously disregarded under the retirement exemption (subsection 152-320(1) of the ITAA 1997).

Application to your circumstances

Basic conditions

In your case, you own two separate interests in the property. As you will make the choice under subsection 152-45(2) of the ITAA 1997 in respect to the 50% interest in the property you acquired from your former spouse under the Family Law Court order:

● you are considered to have acquired both interests in the property when the property was originally purchased by you and your former spouse, and

● both interests will satisfy the active asset test.

You will also satisfy the other basic conditions for small business relief as:

● a CGT event will happen when you dispose of the property

● the event will result in a gain, and

● you will satisfy the maximum net asset value test.

15-year exemption

As noted above, the conditions for the small business 15-year exemption are:

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

(b) you continuously owned the CGT asset for the 15-year period ending just before the CGT event, and

(c) you are at least 55 years old at the time of the CGT event and the event happens in connection with your retirement, or are permanently incapacitated at that time.

You satisfy conditions (a) and (b) above, however you do not satisfy condition (c). Since you acquired sole ownership of the property in 20XX you have only used the property to derive agistment income. Agistment income is considered to be income from owning land and is in the nature of rent rather than income from carrying on a business. As you do not carry on any other farming operations or other activities you are not considered to be carrying on business.

Although the Advanced Guide provides that retirement can occur sometime before the CGT event, there still needs to be a connection between your retirement and the sale of the property. You ceased working/carrying on business a significant period of time before the disposal of the property. We do not consider that there is a connection with your retirement and the disposal of the property.

Accordingly, you do not satisfy all of the requirements to be able to apply the 15-year exemption to the capital gain you will make on the disposal of the property.

Small business 50% active asset reduction and general 50% discount

As you satisfy the basic conditions you are entitled to apply the small business 50% (active asset) reduction to the net capital gain remaining after applying any current year capital losses and any unapplied prior year net capital losses, and the general 50% CGT discount.

Small business retirement exemption

You may then choose to disregard the remaining net capital gain under the small business retirement exemption provided you keep a written record of the amount you choose to disregard. The amount of the capital gain that you can choose to disregard under the retirement exemption must not exceed your CGT retirement exemption limit of $500,000, reduced by any previous CGT exempt amounts you have previously disregarded under the retirement exemption (if any).