Edited version of private advice

Authorisation Number: 1051584965070

Date of advice: 25 September 2019

Ruling

Subject: CGT small business concessions - active asset

Question

Can you reduce the capital gain made on the disposal of your property under the small business 15 year exemption?

Answer

No.

This ruling applies for the following period:

Year ended 30 June 2018

The scheme commences on:

1 July 2017

Relevant facts and circumstances

Your spouse purchased a property pre-CGT and lived in a small house on the property while managing a market garden on the balance of the property.

The property was purchased from the proceeds of the sale of a property by your spouse.

You undertake a primary production business on the property in partnership with your spouse.

The market garden has been in existence since the 1970's.

During 2015, you added your name to the title of the property. Nothing of value was exchanged when this occurred.

Some years pre-CGT, you and your spouse jointly purchased an adjoining property. You built a dwelling on the property which you used as your main residence. You then demolished the house on the first property.

You have always managed the market garden with your spouse.

You and your spouse work in the garden preparing the soil, planting seeds and seedlings, weeding and tilling the soil around the plants, cut, bunch and pack the produce ready for the markets. Most of the work on the farm is either done by hand or small hand tools.

You do have a tractor and a small truck to take the produce to the markets.

The half of the property on which the business is run contains a large dam that provides water to the property.

Some of the property was rented out to other market gardeners in the mid 1990's, since this period three different market gardeners have rented the property.

You and your spouse have never worked anywhere else, only on the market garden.

The annual turnover of the business for the relevant year is less than $2 million.

The sheds on the property are used for farm equipment and machinery.

Both properties have been sold.

Since 2015 other market gardeners have grown crops on the property and leased approximately 70% of the property subject to the season and crops grown.

The market gardeners started leasing some of the property in the mid 1990's.

All income earned from the properties and all expenses including the mortgage paid in relation to the property have always been returned by both you and your spouse.

Relevant legislative provisions

Income Tax Assessment Act 1997 section 100-20

Income Tax Assessment Act 1997 section 104-10

Income Tax Assessment Act 1997 paragraph 104-10(5)(a)

Income Tax Assessment Act 1997 section 152-35

Income Tax Assessment Act 1997 paragraph 152-40(4)(e)

Income Tax Assessment Act 1997 subsection 152-40(1)

Income Tax Assessment Act 1997 paragraph 152-40(1)(a)

Reasons for decision

Summary

You acquired your ownership interest when the title was transferred into your name in 2015. The asset is not an active asset as its main use is to derive rent. Therefore you are unable to use the small business concessions to disregard your gain.

Detailed reasoning

Creation of an ownership interest

A capital gain or loss only occurs if a CGT event occurs (section 100-20 Income Tax Assessment Act 1997 (ITAA 1997)). CGT event A1 occurs when there is a change of ownership from one entity to another (paragraph 104-10 ITAA 1997). For example a change of ownership will occur when you transfer part of your interest in another property to another person.

In your circumstances you included your name on the title of the property. This meant there was a change of legal ownership. CGT event A1 therefore occurred and you incurred a capital gain.

Gains on pre-CGT assets are disregarded

A capital gain you make on assets that were acquired before 20 September 1985 is disregarded (paragraph 104-10(5)(a) ITAA 1997).

You state that the property was acquired by your spouse in the 1970's. The property was purchased by funds from the sale of another property held by your spouse.

You stated you split the expenses with your spouse during the entire period of your spouse's ownership.

Resulting Trust

An ownership interest in a property can be created through a person's contributions towards a property. If a person purchases and pays for the property but legal title is put in someone else's name, a resulting trust is usually taken to arise in favour of the purchaser (Calverley v Green (1984) 155 CLR 242). This is of course subject to rebuttal. If a resulting trust is found to exist, the beneficiary would be taken to be the owner of the property from the date of purchase for CGT purposes.

There is no evidence of direct financial contributions towards the purchase price. There is no evidence that you made any direct contribution to the purchase of the property. Splitting the ongoing expenses of the property is not considered enough for a resulting trust to be found

Therefore a resulting trust cannot be found on the facts.

Constructive Trust

A constructive trust is a trust imposed by operation of law, regardless of the intentions of the parties concerned, whenever equity considers it unconscionable for the party holding title to the property in question to deny the interest claimed by another. The existence of a constructive trust is, however, dependent upon the order of the Court. That order may operate retrospectively by dating the origin of the trust from some earlier wrongful act.

The evidence provided shows no evidence of a court order imposing a constructive trust. Therefore a constructive trust will not be found to exist.

Conclusion

You did not have any ownership interest, either legal or beneficial before you transferred the title into your name. Accordingly, your interest in the property will not be pre-CGT and any capital gain that results cannot be disregarded on that basis.

Small business CGT 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 test that is relevant for the purpose of this ruling is the active asset test

Active asset test

For the sale of the property to qualify for any of the small business CGT concessions, the CGT asset must satisfy the active asset test in section 152-35 of the ITAA 1997.

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; or

·        you have owned the asset for more than 15 years and the asset was an active asset of yours for at least 7.5 years during the test period.

The test period:

·        begins when you acquired the asset;

·        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 meaning of an active asset is given in subsection 152-40(1) of the ITAA 1997. Paragraph 152-40(1)(a) of the ITAA 1997 states that a CGT asset is an active asset at a given time if at that time, you own it and:

·        use it in the course of carrying on a business, or

·        hold it ready for use in the course of carrying on a business by:

˗        you; or

˗        your affiliate; or

-  another entity that is connected with you

Accordingly, for the properties in this case to be considered active assets, they must satisfy the above conditions.

Rent exception

As stated in paragraph 152-40(4)(e) of the ITAA 1997, a CGT asset is not an active asset if its main use by the taxpayer is to derive rent unless its main use for deriving rent was only temporary.

Taxation Determination TD 2006/78 Income tax: capital gains: are there any circumstances in which the premises used in a business of providing accommodation for reward may satisfy the active asset test in section 152-35 of the Income Tax Assessment Act 1997 notwithstanding the exclusion in paragraph 152-40(4)(e) of the Income Tax Assessment Act 1997 for assets whose main use is to derive rent? considers the active asset test and the main use to derive rent concept.

Paragraph 26 of Taxation Determination TD 2006/78 states that:

If an asset is used partly for business and partly to derive rent at any given time, it will be a question of fact depended on all the circumstances as to whether the main use of the asset at that time is to derive rent. No one single factor will necessarily be determinative, and resolving the matter is likely to involve a consideration of a range of factors such as:

·        the comparative areas of use of the premises (between deriving rent and other uses); and

·        the comparative levels of income derived from the different uses of the asset.

Example 5 considers mixed use of a property:

Mick owns land on which there are a number of industrial sheds. He uses one she (45% of the land by area) to conduct a motor cycle repair business. He leases the other sheds (55% of the land by area) to unrelated third parties. The income derived from the motor cycle repair business is 80% of the total income (business plus rentals) derives from the use of the land and buildings.

In determining if the main use of the land is to derive rent, it is appropriate to consider a range of factors. In this case, a substantial (although nevertheless not a majority) proportion by area of the land is used for business purposes. As well, the business proportion of the land derives the vast majority (80%) of the total income. In all the circumstances, the Tax Office considers the main use of the land in this case is not to derive rent and accordingly the land is not excluded from being an active asset by paragraph 152-40(4)(e) of the ITAA 1997.

Application to your circumstances

Approximately 50% of the property is used for the purposes of the market garden. This can fluctuate when other market gardeners are utilising the property.

Based on the facts, you only utilise a small proportion of the market garden yourself in the last few years. The ratio given was that 70% of the market garden was rented. This is reflected in the amounts derived from rent in the various partnership returns.

Analysing both the areas of use of the property and the comparative levels of income from the different uses, it cannot be said that a substantial amount of the property is used by you in carrying on your business. This differs to example 5 in TD 2006/78. Also the percentage of rental income compared to total income derived is significant and was substantial in the last relevant year.

Accordingly the main use of the property is considered to be to derive rent. Therefore it will not constitute an active asset.

Conclusion

Since the property will not be considered an active asset, you will not pass the basic conditions needed to access the small business CGT concessions.