Edited version of private advice

Authorisation Number: 1051510917248

Date of advice: 29 May 2019

Ruling

Subject: Capital gains tax - Small business concession 15-year exemption

Question 1

Are you eligible to apply the CGT small business 15-year exemption under Subdivision 152-B of the Income Tax Assessment 1997 (ITAA 1997) in relation to the sale of the property?

Answer

No

Question 2

Are you eligible to apply the CGT small business 50% reduction under Subdivision 152-C of the ITAA 1997 in relation to the sale of the property?

Answer:

Yes

Question 3

Are you eligible to apply the CGT small business retirement exemption under Subdivision 152-D of the ITAA 1997 in relation to the sale of the property?

Answer:

Yes

This ruling applies for the following periods:

Year ending 30 June 2019

Year ending 30 June 2020

The scheme commences on:

1 July 20XX

Relevant facts and circumstances

You and your former spouse purchased a property approximately 30 years ago.

The property was continuously occupied by the company as an office and warehouse for its business for approximately 20 years until the business ceased.

You and your former spouse were the only shareholders and directors of the company.

You and your former spouse were not connected or an affiliate with any other entities except the company for the purposes of sections 328-125 and 328-130 of the ITAA 1997.

You and your former spouse divorced shortly before the business ceased.

As part of the divorce settlement your former spouse's 50% share in the property was transferred to you under a court order.

The CGT marriage breakdown rollover was applied at this time to the transfer of your former spouse's share of the property.

After the business ceased you leased the property out to a third party.

You have not been working since the business ceased.

Since that time you have received passive income.

You meet the $6 million maximum net asset value test under section 152-15 of the ITAA 1997.

You are over 55 years old.

You intend to sell the property in the 2019 calendar year.

You will make a capital gain from the sale of the property.

You intend to keep a written record of the CGT exempt amount for the purposes of the retirement exemption.

You have not had any CGT exempt amounts disregarded under the retirement exemption previously.

Relevant legislative provisions

Income Tax Assessment Act 1997 Section 152-105

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 152-205

Income Tax Assessment Act 1997 Paragraph 152-305(1)(a)

Income Tax Assessment Act 1997 Paragraph 152-305(1)(b)

Reasons for decision

Summary

Based on the information provided you are not entitled to disregard any future capital gain made on the disposal of the property under the small business 15-year exemption concession. This is because while you satisfy both the maximum net asset value test and the active asset test, the disposal of the property is not considered to be in connection with your retirement as you ceased working in 200X.

However, while you do not qualify for the small business 15-year exemption, the 50% CGT general discount, the small business 50% active asset reduction and the retirement exemption are available to reduce the capital gain on the sale of the property.

Detailed reasoning

Subdivision 152-B of the ITAA 1997 provides a small business 15-year exemption as part of the CGT small business relief provisions. If you qualify for the small business 15-year exemption, the capital gain is entirely disregarded and it is unnecessary to apply any other concessions.

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 15-year exemption also has further requirements that you must satisfy for the concession to apply. This is provided for under section 152-105 of the ITAA 1997 which states that you can disregard the capital gain from the disposal of your property, being CGT event A1 happening to the asset, if you:

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

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

(c)  you are:

(i)    at least 55 years old at that time and the event happened in connection with your retirement or

(ii)   permanently incapacitated at the time.

Condition (a)

The basic conditions for the small business capital gains tax concessions in subdivision 152-A of the ITAA 1997 (as relevant to this case) are:

• the maximum net asset value test
• the active asset test

Maximum net asset value test

There is a limit of $6 million on the net value of CGT assets that you and certain entities can own and still qualify for the small business CGT concessions. This $6 million limit is called the maximum net asset value test. It is not indexed for inflation.

You satisfy the maximum net asset value test if the total net value of CGT assets owned by certain entities does not exceed $6 million just before the CGT event that results in the capital gain for which the concessions are sought. You must include the net value of CGT assets owned by:

• you
• any entities 'connected with you',
• any of your 'affiliates' and entities connected with your affiliates.

This figures includes the net value of assets of your affiliates, and entities connected with your affiliates, only if the assets are used, or held ready for use, in a business carried on by you or an entity connected with you.

You have advised that you meet the $6 million maximum net asset value test.

Active asset test

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 at 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 (or such longer time as the Commissioner allows).

The asset does not need to be an active asset just before the CGT event.

The meaning of an active asset is set out in section 152-40 of the ITAA 1997. It must firstly satisfy one of the 'positive tests' in subsection 152-40(1) of the ITAA 1997 and then also not be excluded by one of the exceptions in subsection 152-40(4) of the ITAA 1997.

Under subsection 152-40(1) of the ITAA 1997, a CGT asset is an active asset (subject to the exclusions) if it is owned and used, or held ready for use, in the course of carrying on a business by you or your small business CGT affiliate or another entity that is connected with you under paragraph 152-40(1)(c) of the ITAA 1997.

The combined effect of sections 152-35 and 152-40 of the ITAA 1997 is that the asset will meet the active asset test if the asset was used, or held ready for use, in the course of carrying on a business for at least half of the time period it was owned, subject to the exclusions in subsection 152-40(4) of the ITAA 1997.

In your case, you have held 50% of the asset since XX/XX/19XX. The remaining share of the asset was transferred to you in 200X as part of a divorce settlement with your former spouse.

Your company's business ceased on XX/XX/200X. With regards to your original share of the asset that you acquired in 19XX, because you have held it for over 15 years and the asset was an active asset of your company's business for over 7.5 years during the test period, it satisfies the active asset test. If the other share is taken to have been acquired in 200X it would not satisfy the active asset test, however there are modified rules to determine if the active asset test is satisfied for CGT assets acquired or transferred under the rollover provisions relating to assets acquired through marriage breakdown (Subdivision 126-A of the ITAA 1997).

Section 152-45 of the ITAA 1997 discusses continuing time periods for involuntary disposals. Specifically subsection 152-45(2) provides if you have a CGT asset transferred to you because of a marriage breakdown, and the capital gain arising from that transfer was rolled over under the marriage breakdown rollover provisions, for the purposes of the active asset test you can choose whether to:

• include the ownership and active asset periods of your former spouse, or
• commence the ownership and active asset periods from the time the asset was transferred to you.

If you choose to include your former spouse's ownership and active asset periods of the CGT asset, that asset is treated as if it had been:

• acquired by you when your former spouse acquired the asset, and
• was an active asset of yours at all times when the asset was an active asset of your former spouse.

As a result, both of your shares in the asset can be taken to have been acquired in 19XX, satisfying the active asset test.

Small business 15-year exemption

Because you satisfy both the maximum net asset value test and the active asset test, the basic conditions for the small business concessions are satisfied. As for the conditions specific to the 15-year exemption, condition (b) is satisfied because you have owned the asset for over 15 years.

Condition (c)

Condition (c) of the 15 year exemption applies if when the CGT event happened:

• you were permanently incapacitated, or
• you were 55 years or older, and the event happened 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. There needs to be at least a significant reduction in the number of hours that you work or a significant change in the nature of your present activities to be regarded as a retirement. However, it is not necessary for there to be a permanent and everlasting retirement from the workforce.

The provisions relating to the small business 15-year exemption do not define what is meant by the phrase 'in connection with a taxpayer's retirement', nor does it give any indication of the degree of retirement required in order to take advantage of this concession. 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. Our website ato.gov.au 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.

In your case, you advise that you have not been working since you ceased running the business in 200X with your former spouse. Even though you continue to derive some income from letting your properties and investments, you have retired completely from the workforce.

Although retirement can occur sometime before the CGT event, there would still need to be a connection between your retirement and the sale of the property. Because you ceased working several years before the planned disposal of the property, it is not considered that there is the necessary connection between your retirement and the disposal of the property.

As you have not satisfied this condition you are not entitled to the CGT small business 15 year exemption.

Small business 50% active asset reduction

As you do not qualify for the small business 15-year exemption, the small business 50% active asset reduction may apply to reduce the capital gain. To apply this concession, you only need to satisfy the basic conditions.

In your case as you satisfy the maximum net asset value test and the active asset test you are eligible to apply the 50% active asset reduction to the sale of the property.

Please also note the CGT discount is able to apply as the asset has been held for 12 months or more before the relevant CGT event (that is before you sell your property). Under the CGT discount you are able to reduce your capital gain by 50%.

Therefore, the capital gain that remains after applying the CGT discount is reduced by another 50%. This means that if you apply the CGT discount and the small business 50% active asset reduction, the capital gain is effectively reduced by 75% (that is, 50% then 50% of the remainder).

Small business retirement exemption

Subdivision 152-D of the ITAA 1997 contains the small business retirement exemption. You may choose to disregard all or part of a capital gain under the small business retirement exemption if you satisfy certain conditions.

As an individual you can choose to disregard all or part of a capital gain if:

• you satisfy the basic conditions
• you keep a written record of the amount you chose to disregard (the CGT exempt amount), and
• if you are under 55 years old just before you choose to use the retirement exemption, you make a person contribution equal to the exempt amount to a complying superannuation fund or retirement savings account.

There is no requirement to make this contribution if the individual was 55 years old or older.

The amount of capital gain you choose to disregard (that is the CGT exempt amount) 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 disregarded under the retirement exemption.

In your case you satisfy the basic conditions and intend to keep a written record of the CGT exempt amount. As you are over 55 years old there is no requirement to pay any amount to a complying superannuation fund or RSA. Accordingly, you can choose to apply the retirement exemption after the CGT discount and the small business 50% active asset reduction, that is, to the remaining 25% of the capital gain after capital losses have been applied.

Please note that although this concession is called the 'small business retirement exemption', there is no requirement that the CGT event be 'in connection with your retirement' (unlike with the 15-year exemption).