Edited version of private advice

Authorisation Number: 1051659291703

Date of advice: 15 April 2020

Ruling

Subject: CGT - small business concessions - basic conditions - 15 year

Question 1

Does the Company satisfy the basic conditions to apply the small business CGT concessions on the sale of the property?

Answer

Yes

Question 2

Does the Company satisfy the requirements to apply the 15 year exemption to disregard the capital gain made on the sale of the property?

Answer

Yes

This ruling applies for the following period:

Year ended 30 June 20XX

The scheme commences on:

1 July 20XX

Relevant facts and circumstances

B Pty Ltd (the Company) was incorporated on XX June 19XX.

Upon incorporation, the Company had X ordinary shares, with B and C holding half each.

B and C are spouses.

In 20XX the Company issued an additional X ordinary shares. After the issue of the additional ordinary shares, the Company's shareholders were as follows:

-  B X ordinary shares

-  C X ordinary shares

-  B & C Family Trust X ordinary shares

B is the Director and Secretary of the Company

B is the Trustee for the B & C Family Trust.

The B & C Family Trust is an investment trust. It only derives dividend and interest income.

B received 100% of the trust distributions in both the 20XX-XX and 20XX-XX income years.

From incorporation the Company operated a business (G business).

In July 19XX the Company purchased a second business (P business).

After acquisition, the Company operated a combined business (G and P) under the P business trading name.

The Company acquired a property (the property) on after 20 September 1985.

Both G business and then P business operated from the property.

In 20XX, P business was relocated from the property due to a downturn in business.

The Company continued to operate P business until the 20XX-XX income year when the business ceased.

Since P business ceased, the Company's main business activities have been investing and managing rental properties (including the lease of the property).

The Company's annual turnover for the 20XX-XX and 20XX-XX income years was less than $2 million.

The Company has no other connected entities or affiliates which operate a business.

In 20XX the old building was demolished and a new building was constructed on the property which was completed around 20XX-20XX.

The property has been leased to an unrelated third party since completion of the new building until its sale on XX June 20XX.

Both B and C were over 55 years of age at the time the property was sold.

B carried out the management of the Company's activities after P business ceased trading.

In addition to management of the property, B also managed the following investments on behalf of the Company:

·   A primary production business

·   A residential property consisting of X apartments which were leased to tenants

·   Share portfolio.

The management of the Company's activities were a full time job for B who worked an average of 38 hours a week undertaking the following activities.

·   Carrying out maintenance of properties including gardening, repairs & maintenance (or arranging tradesmen to carry out the work) and regular property inspections;

·   Arranging for tradesmen to have access to properties to carry out work;

·   Undertaking book keeping and administrative functions, including dealing with local councils, revenue office, Workcover, financial institutions and reconciliation of rental income;

·   Dealing with tenants, including advertising, interviewing tenants, collecting rents

·   Monitoring maintenance schedules to ensure they were up to date; and

·   Supervising the primary production business.

The Company did not engage a real estate agent or strata managers to manage the properties.

All bookkeeping and financial reporting was completed by B with an Accountant engaged only to attend to end-of-year compliance and tax work.

The Company employed workers to assist with the business operation, while B undertook the supervision and management of the business operation.

The Company paid B Director fees and made superannuation contributions in some years.

To prepare for B's retirement, as the Director of the Company, the Company has made progressive changes to B's work arrangements over the last few years by taking the following steps:

·   Wound down the P business;

·   Sold the Property which allows the Company to pay down its debts and enables it to employ managers on the other properties (ie, the primary production land and residential property);

·   Arranged for an equity broker to take over the day to day monitoring of the share portfolio;

·   Employed a new business manager to take care of business activities on the primary production land to free the Director's engagement;

·   Currently the Company is in the process of finding a managing agent to take over the management of the residential property; and

·   Engaged an accounting firm to undertake more bookkeeping, compliance and reporting work.

These progressive changes will allow B to reduce the time spent on Director activities for the Company to about 7.5 hours per week.

Relevant legislative provisions

Income Tax Assessment Act 1997 section 152-10

Income Tax Assessment Act 1997 subsection 152-35(1)

Income Tax Assessment Act 1997 subsection 152-35(2)

Income Tax Assessment Act 1997 section 152-110

Reasons for decision

Section 152-10 of the Income Tax Assessment Act 1997 (ITAA 1997) contains the basic conditions you must satisfy to be eligible for the small business capital gains tax (CGT) concessions. These conditions are:

(a)    a CGT event happens in relation to a CGT asset in an income year.

(b)    the event would have resulted in the gain

(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 of the ITAA 1997

(iii)          you are a partner in a partnership that is a small business entity for the income year and the CGT asset is an asset of the partnership or

(iv)         the conditions in subsection 152-10(1A) or (1B) of the ITAA 1997 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 of the ITAA 1997.

To be eligible to apply the small business CGT concessions you must satisfy all four of the basic conditions above.

Active asset test

Subsection 152-35(1) ITAA 1997 states that a CGT asset satisfies the active asset test 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 period of ownership, or

·   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 7 and a half years.

The test period begins when you acquired the asset and ends at the time of the CGT event (subsection 152-35(2) of the ITAA 1997).

In this case, CGT event A1 happens upon the sale of the property which resulted in a capital gain. Applying the principles in Taxation Ruling TR 2019/1 income tax: when does a company carry on a business, the Company is considered to carry on a business. As the Company has an aggregated turnover of less than $2 million in the income year in which the CGT event occurred, it is a CGT small business entity in that income year. The property has been owned by the Company for more than 15 years and used in the Company's business for more than seven and a half of those years, therefore the property satisfies the active asset test. Accordingly the Company has met the basic conditions to apply the small business CGT concessions.

15 year exemption

Section 152-110 of the ITAA 1997 provides a small business 15 year exemption for companies and trusts. Under this section, a company can disregard the capital gain from the disposal of a CGT asset if:

(a)    the company satisfies the basic conditions in Subdivision 152-A of the ITAA 1997 for the small business CGT concessions

(b)    the company continuously owned the CGT asset for the 15-year period ending just before the CGT event happened

(c)    the company had a significant individual for a total of at least 15 years (even if the 15 years was not continuous and it was not always the same significant individual) during which time the company owned the CGT asset; and

(d)    an individual who was a significant individual of the company just before the CGT event was either:

-  at least 55 years old at that time and the event happened in connection with their retirement or

-  permanently incapacitated at that time.

An individual is a significant individual in a company or trust if they have a small business participation percentage in the company or trust of at least 20%; this 20% can be made up of direct and indirect percentages.

In this case, the Company satisfies the basic conditions and has continuously owned the property for more than 15 years at the time just before the CGT event occurred.

The Company has a significant individual for at least 15 years as C has held more than 20% of the issued ordinary shares from incorporation so C's business participation percentage is more than 20% for the entire period.

B is also a significant individual in the year the property was sold. As B received 100% of the distribution from the B & C Family Trust in the 20XX-XX income year, B has a direct and indirect business participation percentage of more than 20% in the year the property was sold.

B and C are both significant individuals just before the CGT event occurred. Both B and C are over 55 years and the sale of the property is considered to be in connection with B's retirement.

As such the Company satisfies the conditions under section 152-110 of the ITAA 1997 to apply the small business 15 year exemption.