Edited version of private advice

Authorisation Number: 1051622203697

Date of advice: 19 December 2019

Ruling

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

Question 1

Did a capital gains tax (CGT) event occur on the sale of the shares under the CGT provisions?

Answer

Yes.

Question 2

Is the small business roll-over under subdivision 152-E of the Income Tax Assessment Act 1997 (ITAA 1997) available in relation to the purchase of new machinery and equipment?

Answer

Yes.

This ruling applies for the following period

Year ended 30 June 20XX

The scheme commenced on

1 July 20XX

Relevant facts

Entity A, entity B and entity C are relations.

Entity A is the sole shareholder and director of entity D.

Entity B is the sole shareholder and director of entity E.

Entity C is the sole shareholder and director of entity F.

Entity D, E and F are equal shareholders of each of entity G, entity H and entity J.

Entity G operates a business from the business premises (the property).

Entity H was also the holding company of entity K.

The property is owned by entity L. The shareholders of entity L are entity M and entity N who have equal shareholding. The directors of entity L are entity M and N, who are relations of entity A, B and C.

Entity H entered into an agreement to sell all its shareholding in entity K for the sale price of $xxx.

The purchaser of the shares was at arm's length to an unrelated third party.

The proceeds from the sale of the shares were mostly applied towards the purchase of machinery and equipment that are being leased to entity G. The purchase of the machinery and equipment occurred within 12 months from the sale of the shares with total purchase amounting to approximately $xxx.

Entity G is an affiliate of entity H. The aggregated turnover of entity H and entity G is over $2 million. Therefore entity H is not a small business entity under Division 152 of the ITAA 1997.

Entity H satisfies the maximum net asset value test.

The shares satisfy the active asset test requirements under subsection 152-35(1) of the ITAA 1997.

The 80% test outlined in subsection 152-40(3) of the ITAA 1997 is satisfied.

Relevant legislative provisions

Income Tax Assessment Act 1997 Section 104-10

Income Tax Assessment Act 1997 Section 108-5

Income Tax Assessment Act 1997 Subdivision 152-A

Income Tax Assessment Act 1997 Subdivision 152-E

Reasons for decision

Capital gains tax provisions

Section 102-20 of the ITAA 1997 states that a capital gain or capital loss is made only if a capital gains tax (CGT) event happens to a CGT asset. Shares are a CGT asset (section 108-5 of the ITAA 1997).

CGT event A1 happens if you dispose of a CGT asset (section 104-10 of the ITAA 1997).

The sale of the shares by Entity H is a CGT event A1.

Small business relief and basic conditions

Division 152 of the ITAA 1997 provides for CGT relief for small business.

Subsection 152-10(1) of the ITAA 1997 sets out the basic conditions for relief as follows:

(a)  a CGT event happens in relation to a CGT asset that you own in an income year (excluding CGT event D1);

(b)  the event would have resulted in a gain (apart from Division 152);

(c)  at least one of the following applies:

(i)    you are a small business entity for the income year;

(ii)   you satisfy the maximum net asset value test in section 152-15;

(iii)  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;

(iv) the conditions in subsection 152-10(1A) or (1B) are satisfied in relation to the CGT asset in the income year;

(d)  the CGT asset satisfies the active asset test in section 152-35.

Maximum net asset value (MNAV) test

Section 152-15 of the ITAA 1997 provides that the MNAV test is satisfied if, just before the CGT event, the sum of the net value of the CGT assets owned by you and by any entities connected with you and by any affiliates of yours does not exceed the $6 million threshold. The MNAV test treats you and your connected entities and affiliates as one economic unit.

Active asset test

Subsection 152-35(1) of the ITAA 1997 provides that 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 yours for a total of at least half of the relevant period; or

(b)  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 7½ years during the relevant period.

Subsection 152-35(2) of the ITAA 1997 provides that the relevant period begins when you acquired the asset and ends at the CGT event.

Section 152-40 of the ITAA 1997 explains the meaning of an active asset. A CGT asset is an active asset at a time if, at that time:

(a)  you own the asset (whether the asset is tangible or intangible) and it is used, or held ready for use, in the course of carrying on a business that is carried on (whether alone or in partnership) by you, your affiliate or another entity connected with you, or

(b)  If it is an intangible asset, you own it and it is inherently connected with a business carried on (whether alone or in partnership) by you, your affiliate or another entity connected with you.

Subsection 152-40(3) of the ITAA 1997 provides that a CGT asset is also an active asset if, at that time you own it and:

(a)  it is either a share in a company that is an Australian resident at that time or an interest in a trust that is a resident trust for CGT purposes for the income year in which that time occurs; and

(b)  the total of:

(i)    the market values of the active assets of the company or trust; and

(ii)   the market value of any financial instruments of the company or trust that are inherently connected with a business that the company or trust carries on; and

(iii)  any cash of the company or trust that is inherently connected with such a business;

is 80% or more of the market value of all of the assets of the company or trust.

Additional basic conditions

Subsection 152-10(2) of the ITAA 1997 provides additional conditions if the CGT asset is a share in a company. Just the before the CGT event, either:

(a)  you are a CGT concession stakeholder in the company; or

(b)  CGT concession stakeholders in the company has a small business participation percentage in the entity claiming the concession of at least 90%.

CGT concession stakeholder and significant individual test

Section 152-50 of the ITAA 1997 provides that an entity satisfies the significant individual test if the entity had at least one significant individual just before the CGT event.

Section 152-55 of the ITAA 1997 provides that an individual is a significant individual in a company at a time, if at that, the individual has a small business participation percentage in the company of at least 20%.

Section 152-60 of the ITAA 1997 provides that an individual is a CGT concession stakeholder of a company at a time if the individual is:

(a)  a significant individual in the company; or

(b)  a spouse of a significant individual in the company, if the spouse has a small business participation percentage in the company at that time that is greater than zero.

Small business rollover

Subdivision 152-E of the ITAA 1997 provides for the small business rollover which allows you to defer the making of a capital gain from a CGT event happening in relation to one or more of your small business assets.

To qualify for the small business rollover, you must satisfy the basic conditions in Subdivision 152-A of the ITAA 1997 as outlined above. You may choose the rollover even if you haven't acquired a replacement asset yet or incurred fourth element expenditure, but:

·   CGT event J5 happens if, by the end of the replacement asset period, you do not acquire the replacement asset or incur the fourth element expenditure; and

·   CGT event J6 happens if, by the end of the replacement asset period, the cost of the replacement asset or the amount of fourth element expenditure incurred (or both) is less than the amount of the capital gain you disregarded.

If you have acquired a replacement asset or incurred fourth element expenditure but there is a change in relation to the replacement asset or improved asset after the end of the replacement asset period, CGT event J2 may happen (section 152-410 of the ITAA 1997).

CGT event J6 (section 104-198 of the ITAA 1997) happens if the cost of acquisition of replacement asset or amount of fourth element expenditure or both are not sufficient to cover the disregarded gain. The time of the event is at the end of the replacement asset period.

Application to your circumstances

In this case, as entity H satisfies the basic conditions to access the small business concessions and the additional conditions that apply to the sale of shares. Accordingly entity H is able to choose the small business rollover in Subdivision 152-E of the ITAA 1997 in relation to the sale of the shares. Additionally, the replacement assets qualify as replacement assets because they are active assets within the meaning of section 152-40 of the ITAA 1997. Therefore entity H may treat the new machinery and equipment as replacement assets for the small business rollover.