Edited version of private advice

Authorisation Number: 1051797867965

Date of advice: 20 January 2021

Ruling

Subject: Non-commercial business losses and grouping similar business activities

Question

Can your sole trader business activities and the business activities carried on in a company structure be 'of a similar kind' and grouped together for the purposes of the non-commercial loss rules in Division 35 of the Income Tax Assessment Act 1997 (ITAA 1997) such that the loss deferral rule does not apply?

Answer

No

This ruling applies for the following period:

Income year ended 30 June 2020

The scheme commences on:

1 July 2019

Relevant facts and circumstances

You have a business in a specified industry conducted as a sole trader.

You also have a second business in the same specified industry, which is carried on in a company structure, in which you are a director and have a 50% ownership in the company. The remaining 50% of the company is owned by another individual.

The businesses carried on as a sole trader made a tax loss for the income year ended 30 June 2020.

The other business carried on as a company made a profit for the income year ended 30 June 2020.

For the income year ended 30 June 2020 your income for each entity type was:

• sole trader tax loss of $X; and
• dividend of $X from the company (being a 50% shareholder).

You have advised that the sole trader's tax loss was incurred due to increased competition, reduced margins on certain goods and additional expenses outside the norm had impacted the profitability in the short term, and that the sole trader business was profitable in the previous two financial years.

You intend to implement strategies such as reducing fixed costs and overheads and expect the sole trader business to return to profitability in the for the income year ended 30 June 2021.

Your adjusted taxable income for the income year ended 30 June 2020 exceeds the $250,000 threshold for the purposes of subsection 35-10(2E) of the ITAA 1997.

You are requesting that the business from the sole trader and the business from the company be grouped together as a single business activity, so that you can claim the tax loss from the sole trader business.

Relevant legislative provisions

Income Tax Assessment Act 1997 Division 35

Income Tax Assessment Act 1997 subsection 35-10(2)

Income Tax Assessment Act 1997 subsection 35-10(2E)

Income Tax Assessment Act 1997 subsection 35-10(3)

Income Tax Assessment Act 1997 section 960-100

Income Tax Assessment Act 1997 subsection 960-100(1)

Income Tax Assessment Act 1997 subsection 995-1(1)

Reasons for decision

Summary

The business you carry on as a sole trader cannot be grouped with the business carried on in a company structure for the purposes of subsection 35-10(3) of the ITAA 1997.

The company is a separate entity from you and it therefore cannot be said that you have undertaken that business activity as an individual or as a partner in a partnership.

Detailed reasoning

Division 35 of the ITAA 1997 operates by preventing losses from non-commercial activities that are carried on as businesses by individuals (alone or in partnership) being offset against other assessable income. The provisions only apply to individuals who conduct a business activity as either a sole trader or as a partner in a partnership and made a loss from that business activity.

In this case, you have conducted a business activity as a sole trader and have made a tax loss in that business for the income year ended 30 June 2020. You have also derived assessable income in the form of a dividend for the income year ended 30 June 2020 from another entity in which you have a 50% interest.

Entity

Subsection 995-1(1) of the ITAA 1997 defines an 'entity' to have the meaning in section 960-100 of the ITAA 1997. Subsection 960-100(1) provides that an 'entity' is defined to mean any of the following:

(a) an individual;

(b) a body corporate;

(c) a body politic;

(d) a partnership;

(e) any other incorporated association or body of persons;

(f) a trust;

(g) a superannuation fund;

(h) an approved deposit fund.

Subsection 995-1(1) of the ITAA 1997 defines an 'individual' to mean a natural person.

In addition, subsection 995-1(1) of the ITAA 1997 defines a 'company' to mean:

(a) a body corporate; or

(b) any other unincorporated association or body or persons; but does not include a partnership...

In this case, it is therefore clear that you (being an individual) and the company are separate entities pursuant to section 960-100 of the ITAA 1997.

Business activities 'of a similar kind'

Taxation Ruling TR 2001/14 Income tax: Division 35 - non-commercial business losses (TR 2001/14) discusses the Commissioner's view of the non-commercial business loss provisions of the taxation legislation. TR 2001/14 does not apply to taxpayers who are not individuals.

Paragraph 48 of TR 2001/14 provides that where an individual taxpayer carries on several distinct businesses it follows that they carry on several distinct business activities for Division 35 purposes.

It is considered that the business you operate as a sole trader is a separate business from the business operated in a company structure due to the differences in legal ownership and location.

Paragraph 49 of ITAA 1997 states that an individual's business may, adopting the approach described above, be seen as made up of two or more separate and distinct business activities. Subsection 35-10(3) of the ITAA 1997 nevertheless provides that those business activities can be grouped together for all purposes in Division 35 if they are 'of a similar kind.'

TR 2001/14 explains that a business activity 'of a similar kind' to another business activity is very much a question of fact and degree and will involve a comparison of the relevant characteristics of each, for example:

• the location(s) where they are carried on;
• the type(s) of goods and/or services provided;
• the market(s) conditions in which those goods and/or services are traded;
• the type(s) of assets employed in each; and
• any other features affecting the manner in which they are conducted.

Applying the above indicators to the information you have provided it could be concluded that the businesses operated by the two separate entities are 'of a similar kind'.

The same services and products are offered, and the types of assets employed in each of the business sites are similar. The primary difference is the ownership structure through which they are operated.

Conclusion

Paragraph 1.18 (Chapter 1 - Losses from non-commercial business activities) of the Explanatory Memorandum to the New Business Tax System (Integrity Measures) Act 2000 states that "Where an activity is of a similar kind to another activity undertaken by an individual, it may be treated as being a part of the same business activity" (subsection 35-10(3) of the ITAA 1997).

One business is carried on by you as a sole trader and is, therefore, a business activity undertaken by you as an individual.

The other business is owned by the company and is, therefore, a business activity undertaken by the company.

Although you are a director of the company and have a 50% shareholding in the company, the business activity of the company is undertaken by a separate entity to you (an individual).

As the company is a separate entity to you it cannot be said that you have undertaken that business activity in the capacity of an individual or as a partner in a partnership.

Therefore, the business you undertake as a sole trader cannot be grouped with the business undertaken by the company for the purposes of subsection 35-10(3) of the ITAA 1997.

As such, the loss deferral rule in subsection 35-10(2) of the ITAA 1997 will apply to defer the loss from your sole trader business activity.