Edited version of private advice

Authorisation Number: 1051574454837

Date of advice: 25 September 2019

Subject: Farm management deposit

Question

Do you satisfy the non-primary production income requirement under paragraph 393-5(1)(d) of the Income Tax Assessment Act 1997 for the purpose of claiming a deduction for your Farm Management Deposit?

Answer:

No.

This ruling applies for the following period

Year ended 30 June 20XX

The scheme commenced on

1 July 20XX

Relevant facts

You carry on a primary production business.

During the 20XX-XX financial year, funds were withdrawn from earlier years' Farm Management Deposit (FMD) accounts. It was your intention that after the receipt of farming income towards the end of the 20XX-XX financial year that a new FMD would be made intending that the new FMD would be deductible. You made the FMD in June 20XX.

Also during the 20XX-XX financial year, a family farming enterprise was wound up and a final distribution made. The franked dividend from the winding up of Company A was included in your income for the 20XX-XX financial year. Inclusion of the franked dividend as non-primary production income would result in your taxable non-primary production income for the 20XX-XX financial year being more than $100,000.

Company A, prior to the company being wound up, conducted a primary production business on a property neighbouring the primary production properties co-owned by you. Company A was owned by you and a number of family members.

You were the only shareholder to actively participate in the primary production activities of the company by providing direction, planning, machinery and labour. All the shareholders participated equally in the dividend distribution.

In the past, you had undertaken share farming arrangements with Company A.

Your contentions

You are requesting that the ATO look through the dividend distribution from Company A and recognise that the dividend should be characterised as primary production income and as a result, your non-primary production income for the year will not exceed $100,000 such that your FMD made near the end of the 20XX-XX financial year will be tax deductible.

Relevant legislative provisions

Income Tax Assessment Act 1997 Section 392-80

Income Tax Assessment Act 1997 Section 392-85

Income Tax Assessment Act 1997 Section 392-45

Income Tax Assessment Act 1997 Section 393-5

Income Tax Assessment Act 1997 Section 995-1

Reasons for decision

Summary

The final dividend distribution that you received from the winding up of Company A is not considered primary production income for the purposes of paragraph 393-5(1)(d) of the Income Tax Assessment Act 1997 (ITAA 1997) and therefore your taxable non-primary production income for the 20XX-XX financial year is more than $100,000.

Detailed reasoning

One of the requirements for a deduction to be allowed for the amount of a Farm Management Deposit (FMD) is that 'your taxable non-primary production income for the year is not more than $100,000' (paragraph 393-5(1)(d) of the ITAA 1997).

Essentially, non-primary production income is income that is not primary production income (sections 392-85, 392-45 and 392-80 of the ITAA 1997).

Your 'assessable primary production income' is defined in subsection 392-80(2) of the ITAA 1997 as income 'derived from, or resulted from, your carrying on a primary production business'.

Are the receipts considered primary production income?

The Income Tax legislation does not provide guidance as to when an amount was derived from, or results from, the carrying on of a primary production business. However, the Explanatory Memorandum to the Income Tax Assessment Amendment Bill (No. 2) 1978, which first used the words 'assessable primary production income', indicates that the relationship between the income and the primary production business is to be close and direct rather than indirect or remote.

This would mean that assessable primary production income would be considered to be 'in consequence' of the carrying on of a business of primary production. In AAT Case 6254, AAT Case X82 21 ATR 3708; 90 ATC 599, Dr Gerber observed:

The term "in consequence of " connotes causality - in this case whether the interest was "caused" to be derived as the "predominant" or "proximate" or "direct" result of the carrying on of the business of primary production. This is a question of fact.

Whether income is primary production income is relevant not only in relation to FMDs but also for primary production averaging. If income is considered primary production income for FMD purposes then it would also be eligible for primary production averaging. Therefore it is useful to consider what income has been determined to be eligible for primary production averaging.

The primary production averaging provisions are contained in Division 392 of the ITAA 1997 and apply to individuals who carry on a business of primary production.

Where a business is carried on in a partnership, the partnership is not a separate legal entity and each partner in the partnership is considered to be carrying on a business as an individual. Therefore, the individual is entitled to the benefits of the averaging provisions (ATO Interpretative Decision 2003/359)

In your private ruling request you state 'Had the distribution of the income from Company A have been made through a trust it would have maintained its form as primary production income and the re-deposit of FMD funds would be deductible.'

In a trust, the trustee is the owner of the property and conducts the primary production business for the benefit of the beneficiaries. Under general principles the beneficiaries would not be considered to be carrying on the business of primary production. For the purpose of primary production averaging there is a need to have a specific section for beneficiaries to get access to the averaging provisions.

In the Income Tax Assessment Act 1936 (ITAA 1936) these provisions for individuals were contained in section 157. Subsection 157(3) deems a person, to the extent that he or she is presently entitled to the income or part of the income of the trust estate, to be carrying on the business carried on by the trustees of the estate which produces that income. Because of this deeming, the individual is considered to be carrying on a business of primary production for averaging purposes.

Section 392-20 of the ITAA 1997 provides for trust beneficiaries to be taken to be carrying on a primary production business for the purposes of the averaging provisions. Rather than using the terminology of 'person' and 'he and she' as in the ITAA 1936 it uses 'you' and it does not 'deem' them to be carrying on a business, but they are 'taken' to be carrying on a business.

Section 392-10 of the ITAA 1997 states that Division 392 applies 'if you are an individual'. When the term 'you' is used in this Division, it is referring to individuals, not entities in general.

You have to be a beneficiary of the trust that is carrying on the business of primary production for section 392-20 of the ITAA 1997 to apply.

If the trust that is carrying on the business of primary production and distributes its net income to another trust, then the beneficiaries of the second trust will not be able to access the averaging provisions because the second trust is not carrying on the business of primary production that the first trust was.

In your circumstance it is the franked dividend from the winding up of Company A that you contend should be considered to be primary production income in the hands of the individual.

Your private ruling application refers to ATO Interpretative Decision 2010/149 which considers if the dividends received from shares acquired by a taxpayer under a dairy co-operative compulsory share acquisition scheme are primary production income as defined under subsection 392-80(2) of the ITAA 1997.

The taxpayer was an individual who carried on a primary production business and was a member of a dairy co-operative. The taxpayer was required to hold a minimum number of shares in the co-operative and was required to acquire additional shares based on the quantity of dairy products supplied to the co-operative subject to the maximum number of shares allowed to be held by any one member. The number of shares the taxpayer holds in the co-operative is as a direct result of the quantity of dairy products supplied to the co-operative. The shares are unable to be traded as it is a requirement of the co-operative that the taxpayer holds the shares in order to continue to supply dairy products to the co-operative. During the income year, the taxpayer received a dividend distribution calculated based on the number of shares held.

The dividends received from shares acquired by the taxpayer under the dairy co-operative compulsory share acquisition scheme are assessable primary production income because there is a close and direct relationship between the dividends received and the taxpayer's primary production business.

The circumstance described in ATO ID 2010/149 is not considered similar to the franked dividend received by you which has resulted from a business decision regarding structuring and is considered too far removed from the primary production business activities undertaken by you as an individual.

You advise that the other shareholders in Company A participated equally in the dividend distribution; however, you were the only shareholder to actively participate in the primary production activities.

In Watson v. Deputy Commissioner of Taxation (2010) 182 FCR 104; [2010] FCAFC 17;2010 ATC 20-167; (2010) 75 ATR 224 (Watson) the court noted

If the starting point or source of the assessable income must be the business activity carried on in that year, the extent and nature of that business activity must be identified before one can determine whether or not particular income is "from" it ...that such activity was the origin of the income.

Further to your situation there is not a sufficient causative connection between the dividend received from Company A and the particular primary production business being carried on by yourself as an individual. That is, the dividend from Company A is the result of the primary production business carried on by Company A and not the primary production business carried on by yourself.

Although you have been involved in some share farming arrangements with Company A, your business's entitlement to income because of your business's involvement in the arrangements would have been received through your business and is separate to Company A's entitlement to income because of its involvement in the arrangements. The dividend you received from Company A is from Company A's business not your business and you received it because you are a shareholder in Company A, not because you also operate a primary production business yourself.

Therefore, it is considered that in your circumstances the dividend does not have sufficient causal connection to the primary production activities undertaken by you as an individual to be considered primary production income. As your taxable non-primary production income for the 20XX-XX financial year is more than $100,000, you are not entitled to a deduction for the FMD for that year.