Edited version of private advice

Authorisation Number: 1051532904163

Date of advice: 2 September 2019

Ruling

Subject: Small business concessions

Question

Was the industrial property an active asset under section 152-40 of the Income Tax Assessment Act 1997 (ITAA 1997)?

Answer

No.

This ruling applies for the following period:

Year ended 30 June 2017

The scheme commences on:

1 July 2016

Relevant facts and circumstances

You are a Unit Trust which owns an industrial property.

Person A and Person B are trustees of the Unit Trust.

100% of the units have been owned by the Person B.

The industrial property has always been used by two related parties for use in their businesses.

Person A controls a Discretionary Trust (as they have received more than 40% of the income distributions in any of the previous four years).

The Company pays over 50% of the rent to the Unit Trust.

The Company uses over 50% of the floor space of the property.

Neither Person A nor Person B own any of the issued shares of the Company.

The Company manufactures products which are sold to the Discretionary Trust.

The Company is an affiliate of Person A, as the Company acts in accordance with Person A's directions or wishes. Person A makes all decisions in relation to the management of the company

Relevant legislative provisions

Income Tax Assessment Act 1997 section 152-40

Income Tax Assessment Act 1997 subsection 152-40(4)

Income Tax Assessment Act 1997 subsection 152-47(1)

Income Tax Assessment Act 1997 subsection 152-47(2)

Income Tax Assessment Act 1997 subsection 328-125(2)

Reasons for decision

Active assets

For a CGT asset of a business to be an active asset, it must firstly satisfy one of the 'positive tests', and then also not be excluded by one of the exceptions.

Section 152-40 of the ITAA 1997 provides the meaning of 'active asset'. A CGT asset will be an active asset at a time if, at that time, you own the asset and the asset was used or held ready for use by you, an affiliate of yours, or by another entity that is 'connected with' you, in the course of carrying on a business.

Subsection 152-40(4) of the ITAA 1997 provides that an asset whose main use is to derive rent cannot be an active asset. In determining the main use of an asset, any use by your affiliate, or an entity that is connected with you, is treated as your use.

In your case, the industrial property is used to derive rent and 90% of the rent is received from the Company and 70% of the floor space is used by the Company. In order for the main use to derive rent exclusion not to apply, the Company will need to be an affiliate of, or connected to, the Unit Trust.

Affiliate

An affiliate is an individual or company that, in relation to their business affairs, acts or could reasonably be expected to act:

·        in accordance with your directions or wishes, or

·        in concert with you.

The affiliate test is a one way test in that if one entity is an affiliate of another entity, it does not mean that the other entity is an affiliate of the first entity.

A spouse or a child under the age of 18 years is not automatically an affiliate. Whether a person acts, or could reasonably be expected to act, in accordance with the taxpayer's directions or wishes, or in concert with the taxpayer is a question of fact dependent on all the circumstances of the particular case. No one factor will necessarily be determinative.

Subsection 152-47(1) of the ITAA 1997 applies to deem a spouse or child an affiliate of an entity if:

·        one entity (the asset owner) owns a CGT asset (whether the asset is tangible or intangible); and

either:

˗   the asset is used, or held ready for use, in the course of carrying on a business in an income year by another entity (the business entity); and

˗   the asset is inherently connected with a business that is carried on in an income year by another entity (the business entity);and

·        the business entity is not (apart from this section) an affiliate of, or connected with, the asset owner.

Under subsection 152-47(2) of the ITAA 1997, in determining whether the business entity is an affiliate of, or is connected with, the asset owner, a spouse or child of the individual is taken to be an affiliate of an individual.

Entity connected with you

The basic rule is that an entity is connected with another entity if either entity 'controls' the other, or both entities are controlled by a common third entity.

Where the other entity is not a discretionary trust, subsection 328-125(2) of the ITAA 1997 states you have direct control over that other entity if you and your affiliates have the right to receive a percentage (the control percentage) that is at least 40% of any distribution of either the income or the capital by the other entity.

Application to your circumstances

Paragraph 152-40(4A) of the ITAA 1997 states that for the purposes of determining if an asset's main use is to derive rent:

·        disregard and personal use and enjoyment of the asset by you; and

·        treat any use by your affiliate or an entity that is connected with you, as your use.

In this case, only use by an entity that is connected with or an affiliate of the Unit Trust can be considered use by the Unit Trust.

As the Person B owns all of the units in the Unit Trust they are deemed to be connected to the Unit Trust. As Person A and Person B are affiliates under section 152-47 of the ITAA 1997, Person A is also connected to the Unit Trust as their affiliate has the right to receive at least 40% of any distribution of the trust. Consequently, both Person A and Person B are connected to the Unit Trust.

The Discretionary Trust's use of the property will be treated as the Unit Trust's use as the Discretionary Trust uses the property in its business, and is connected to the Unit Trust as both entities are controlled by Person A.

We acknowledge that the Company is an affiliate of Person A; this relationship however does not result in Person A being the Company's affiliate or the Company being connected with the Unit Trust. You will be connected with an entity if 'you or your affiliates' control the entity in a way described in section 328-125 of the ITAA 1997. The Company does not control the Unit Trust and there are no affiliates of the Company (notwithstanding the fact that the Company is an affiliate of Person A).

There is no evidence to suggest that Company acts in accordance with the directions or wishes of the Unit Trust. Therefore the Company is not an affiliate of the Unit Trust.

Consequently, as the Company is not an affiliate, or connected to, the Unit Trust its use of the industrial property is not treated as the Unit Trust's use. Therefore, 90% of the income from the property, and 70% of the floor space is from rent and, as one of the exclusions applies, the industrial property is not an active asset.