Edited version of private advice

Authorisation Number: 1051623146319

Date of advice: 31 January 2020

Ruling

Subject: Capital gains tax

Question 1

Did your ownership interest in property C and property D satisfy the active asset test?

Answer

Yes.

Question 2

Do you meet the conditions for the small business 50% reduction under Subdivision 152-C of the Income Tax Assessment Act 1997 (ITAA 1997)?

Answer

Yes.

Question 3

Do you meet the conditions for the small business retirement exemption under Subdivision 152-D of the ITAA 1997 where you keep a written record of the amount you chose and the amount is less than or up to your retirement exemption limit?

Answer

Yes.

Question 4

Will the Commissioner allow further time for you to choose to apply the small business 50% reduction and small business retirement exemption?

Answer

Yes.

This ruling applies for the following periods

Year ended 30 June 20XX

Year ended 30 June 20XX

The scheme commenced on

1 July 20XX

Relevant facts

You are a partner in entity A.

X of the partners were directors and shareholders of entity B during a period. Decisions of entity B were made jointly by these directors with no specific roles allocated between them.

Entity B is a small business entity.

You retired from entity B. From that date you were no longer a director or shareholder of entity B.

Entity A owned commercial properties. Entity A is not a small business entity.

Property C was purchased more than 15 years ago and was disposed of on xxxx for consideration of $xxxx.

Entity B operated a business from property C from xxxx until xxxx. Entity B was the principal tenant during this period, however there was no formal lease in place for the entire period of its tenancy. There were other tenants in the building who had signed formal lease agreements however these tenants occupied less than 50% of the total floor area of the premises.

Entity B occupied xxx square metres (sqm) of property C, being a large portion of the ground level, plus two conference rooms and lunch room on the upper level. They also used many of the car parks.

To assist with the mortgage payments, entity A made available to third parties four smaller spaces. The tenancies changed frequently because the spaces were small and the building old.

Entity B occupied xx% of the building while the other tenants occupied the remaining xx%. None of the building was used for private purposes.

The total partnership revenue was $xxxx. The revenue from entity B was $xxxx with the remaining $xxxx from the four other tenants.

Entity A purchased property D on xxxx.

Entity B relocated their business to property D and was the sole tenant for the full period of ownership. Entity B were party to a formal lease of the premises for the period xxxx until xxxx. Prior to this, entity B occupied the property without a formal lease.

Entity A made decisions to refurbish and extend property D for the benefit of entity B from approximately xxxx to xxxx.

When there was no formal lease agreements, entity B still paid a commercial rent to entity A.

Entity A sold property D on xxxx for a total consideration of $xxxx. Settlement for the sale occurred on xxxx.

Entity A did not have employees. The employees of entity B provided administrative support for entity A and were involved in dealing with aspects of building management and improvements.

Entity A and entity B had their own respective bank accounts.

The profits of entity B flow to the same families in the same proportions as the profits from entity A.

You satisfied the maximum net asset value test just before each of the CGT events in the 20XX-XX and 20XX-XX income years.

When you lodged your 20XX-XX and 20XX-XX tax returns you declared the relevant capital gains. No small business capital gains tax concession was applied as you were unaware that such concessions may have been available.

You were over 55 at the time of the disposal of the two properties. You have not used any CGT retirement exemption at all.

You do not qualify for the small business 15-year exemption for either property.

Relevant legislative provisions

Income Tax Assessment Act 1997 Section 103-25

Income Tax Assessment Act 1997 Division 152

Income Tax Assessment Act 1997 Subdivision 152-A

Income Tax Assessment Act 1997 Subdivision 152-C

Income Tax Assessment Act 1997 Subdivision 152-D

Income Tax Assessment Act 1997 Section 152-15

Income Tax Assessment Act 1997 Section 152-35

Income Tax Assessment Act 1997 Section 152-40

Income Tax Assessment Act 1997 Section 328-130

Reasons for decision

The capital gains tax (CGT) provisions provide some small business relief in Division 152 of the Income Tax Assessment Act 1997 (ITAA 1997).

Basic conditions

To qualify for the small business CGT concessions, the basic conditions as contained in subdivision 152-A of the ITAA 1997 must be satisfied.

The basic conditions are:

·        A CGT event happens in relation to a CGT asset of yours in an income year,

·        The event would have resulted in a gain,

·        The CGT asset satisfies the active asset test in section 152-35 of the ITAA 1997, and

·        At least one of the following applies;

-        you are a small business entity for the income year,

-        you satisfy the maximum net asset value test in section 152-15 of the ITAA 1997,

-        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, or

-        you do not carry on a business, but your CGT asset is used in a business carried on by a small business entity that is your affiliate or an entity connected with you.

Active asset test

As outlined in subdivision 152-A of the ITAA 1997, the CGT asset must satisfy the active asset test.

Under subsection 152-35(1) of the ITAA 1997, a CGT asset will satisfy 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 test 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 test period.

Subsection 152-40(1) of the ITAA 1997 provides that a CGT asset is an active asset at a time if it is used, or held ready for use, in the course of carrying on a business that is carried on by you, or your affiliate, or another entity that is connected with you.

Subsection 152-40(4) of the ITAA 1997 lists CGT assets that cannot be active assets. Under paragraph 152-40(4)(e) of the ITAA 1997, an asset whose main use is to derive rent cannot be an active asset unless the main use for deriving rent was only temporary. However, under subsection 152-40(4A) of the ITAA 1997, for the purposes of paragraph 152-40(4)(e), the use of the asset by your affiliate is treated as your use.

Therefore consideration needs to be given to determine whether entity B was your affiliate.

Affiliates

An affiliate is defined in section 328-130 of the ITAA 1997 as being an individual or a company who acts or could reasonably be expected to act, in accordance with your directions or wishes, or in concert with you, in relation to the affairs of the business of the individual or company.

Relevant factors that may support a finding that a person acts in such a manner include:

·        the existence of a close family relationship between the parties;

·        the lack of any formal agreement or formal relationship between the parties dictating how the parties are to act in relation to each other;

·        the likelihood that the way the parties act, or could reasonably be expected to act, in relation to each other would be based on the relationship between the parties rather than on formal agreements or legal or fiduciary obligations; and

·        the actions of the parties.

A company is not automatically your affiliate merely because you are a director or shareholder (subsection 328-130(2) of the ITAA 1997).

Based on your specific circumstances, it is considered that entity B was your affiliate from xxxx to xxxx, as entity B could reasonably be expected to act in accordance with your directions or wishes, or in concert with you, in relation to their business.

Furthermore, entity B's main use of both properties was to carry on their business and not to derive rent.

As entity B was your affiliate from xxxx to xxxx, it was your affiliate for at least 7 ½ years of your ownership period in property C and for more than half or your ownership period in property D. Therefore both properties satisfy the active asset test.

Small business 50% reduction

Subdivision 152-C of the ITAA 1997 outlines the requirements for the small business 50% reduction. To apply this CGT 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 meet the conditions for the 50% active asset reduction in relation to the CGT on the properties.

Small business retirement exemption

Subdivision 152-D of the ITAA 1997 contains the small business retirement exemption requirements.

As an individual over 55 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

·        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. Therefore where you keep a written record of the CGT exempt amount and the amount does not exceed the CGT retirement exemption limit, you meet the conditions for the small business retirement exemption in relation to the CGT on the properties.

Extension of time to choose the small business 50% reduction and small business retirement exemption

Generally, a choice under the CGT provisions must be made by the day you lodge your income tax return for the income year in which the relevant CGT event happened, or within further time allowed by the Commissioner (subsection 103-25(1) of the ITAA 1997).

A taxpayer who has considered the application of the CGT concessions and chosen a particular concession cannot later change that choice. However, a taxpayer who did not consider the CGT concessions and accordingly included a capital gain in their income tax return has not made a choice and can, if the Commissioner allows further time, later make a choice for a CGT concession and amend their return.

In determining if the discretion to allow further time would be exercised, the Commissioner considers the following factors:

·        evidence of an acceptable explanation for the period of extension requested (and whether it would be fair and equitable in the circumstances to provide such an extension),

·        prejudice to the Commissioner which may result from the additional time being allowed (but the mere absence of prejudice is not enough to justify the granting of an extension),

·        unsettling of people, other than the Commissioner, or of established practices,

·        fairness to people in like positions and the wider public interest,

·        whether any mischief is involved, and

·        consequences of the decision.

After considering the above factors, the Commissioner considers that it would be appropriate to exercise the discretion in your case. You were not aware of your eligibility for the small business CGT concessions when you lodged your 20XX-XX and 20XX-XX income tax returns.

Therefore the Commissioner allows you an extension of time to choose to apply the small business 50% reduction and small business retirement exemption to the capital gains that arose in the 20XX-XX and 20XX-XX income years.