Edited version of private advice

Authorisation Number: 1051967924362

Date of advice: 27 April 2022

Ruling

Subject: Small business concessions

Question 1

Does property 1 satisfy the 'active asset test' for the small business CGT concessions pursuant to section 152-35 of the ITAA 1997?

Answer

Yes.

Question 2

Do the individuals meet the conditions under section 152-10 of the Income Tax Assessment Act 1997 (ITAA 1997) to apply the small business capital gains tax (CGT) concessions?

Answer

Yes.

Question 3

Does Individual A satisfy the conditions to apply the CGT small business 15-year exemption for individuals pursuant to section 152-105 of the ITAA 1997?

Answer

Yes.

Question 4

Can Individual B apply the CGT small business 50% active asset reduction pursuant to section 152-205 of the ITAA 1997?

Answer

Yes.

Question 5

Is Individual B eligible to apply the CGT small business retirement exemption for individuals pursuant to section 152-300 of the ITAA 1997?

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

Individual A and B jointly acquired property 1 more than 15 years ago.

The partnership of Individual A and B (the partnership) first used the property to operate a business in 20XX.

Individual A and B jointly acquired property 2 more than 15 years ago.

At the end of 20XX the partnership moved half of the business into property 2 and continued to use the upper level of property 1 for storage of stock and shop fittings.

The partnership used property 1 from 20XX to 20XX in the business.

The partnership's aggregated annual turnover for the 20XX year in less than $2 million.

The total floor area of property 1 is approximately Xsqm. The ground level is approximately Xsqm plus parking and the upper level is approximately Xsqm.

The total floor area of property 2 is approximately Xsqm.

The ground level of property was rented for a number of years.

Individual A retired in 20XX and has employed a manager to operate the business.

Individual A is over 55 years of age.

Individual B is under 55 years of age.

Property 1 was sold on in the 20XX financial year.

Relevant legislative provisions

Income Tax Assessment Act 1997 section 152-10

Income Tax Assessment Act 1997 section 152-35

Income Tax Assessment Act 1997 section 152-105

Income Tax Assessment Act 1997 section 152-205

Income Tax Assessment Act 1997 section 152-300

Income Tax Assessment Act 1997 section 152-320

Reasons for decision

Basic conditions

Section 152-10 of the ITAA 1997 provides the basic conditions that need to be met to apply the small business CGT concessions.

Subsection 152-10(1) states that a capital gain that you make may be reduced or disregarded under Division 152 ITAA 1997 if the following basic conditions are satisfied:

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

     (b)  the event would have resulted in a 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

          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. 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 (passively held assets as outlined in subsections 152-10(1A) and 152-10(1B) of the ITAA 1997), and

     (d)  the CGT asset satisfies the active asset test in section 152-35 of the ITAA 1997.

Active assets

Subsection 152-35(1) of the 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.

Section 152-40 of the ITAA 1997 provides the meaning of 'active asset'. A CGT asset will be an active asset at a time if, at that time, you own the asset and the asset was used or held ready for use in the course of carrying on a business that is carried on by you, an affiliate or by another entity that is 'connected with' you.

However, subsection 152-40(4)(e) of the ITAA 1997 explains that an asset whose main use is to derive rent cannot be an active asset. Paragraph 152-40(4A)(b) provides that to determine the main use of an asset treat any use by your affiliate, or an entity that is connected with you, as your use.

Small business 15-year exemption

The small business 15-year exemption takes priority over the other small business concessions and the CGT discount. If the small business 15-year exemption applies, you entirely disregard the capital gain so there is no need to apply any further concessions.

Section 152-105 of the ITAA 1997 provides that an individual can entirely disregard any capital gain if all of the following conditions are satisfied:

1. you satisfy the basic conditions
2. you continuously owned the CGT asset for the 15-year period ending just before the CGT event
3. you are either:

-       55 or over at the time of the CGT event and the event happens in connection with your retirement; or

-       permanently incapacitated at the time of the CGT event.

Small business 50% reduction

The rules covering the small business CGT 50% reduction are contained in Subdivision 152-C of the ITAA 1997.

Unlike the other small business concessions, the small business 50% reduction can apply automatically if the basic conditions are satisfied. There are no further requirements.

Small business retirement exemption

If you are an individual, you can choose to disregard all or part of a capital gain under the small business retirement exemption if:

•         the basic conditions in Subdivision 152-A of the ITAA 1997 are satisfied,

•         you keep a written record of the amount chosen to disregard (the CGT exempt amount) and,

•         if you are under 55 old just before you choose to use the retirement exemption, you make a personal contribution equal to the asset's CGT exempt amount to a complying superannuation fund or retirement savings account (RSA).

You must make the contribution:

•         when you made the choice to use the retirement exemption, or when you received the proceeds (whichever is later), or

•         when you made the choice to use the retirement exemption if the relevant event is CGT event J2, J5 or J6.

If you choose the retirement exemption after you have received the capital proceeds (for example, when you lodge your income tax return) you are not required to make the contribution until you make the choice. If a GCT concessions stakeholder is under 55 years old just before receiving a payment, an amount equal to that payment must be paid to a complying superannuation fund or retirement savings account (RSA) on their behalf within 7 days of making the choice.

Failure to make the payment by the end of seven days after making the choice into a complying superannuation fund or RSA will mean the conditions are not satisfied and the retirement exemption will not be available.

The amount of the capital gain that is chosen to be disregarded must not exceed the CGT retirement exemption limit. Under section 152-320 of the ITAA 1997, 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.

Application to your circumstances

Basic conditions

In this case, CGT event A1 triggered upon the sale of property 1 which resulted in a capital gain. Individual A and B do not carry on a business in the income year (other than in partnership) however the partnership they operate is a small business entity with a turnover of less than $2 million.

Although a small percentage of property 1 is used for the purpose of deriving rental income the majority of the income earned is from the business activity. Therefore, the active asset test has been satisfied. As all four conditions have been met, Individual A and B both satisfy the basic conditions to apply the CGT small business concessions.

15-year exemption

As previously discussed, Individual A satisfies the basic conditions to apply the CGT small business concessions and has held property 1 for more than 15 years. Individual A is over 55 years and the disposal of property 1 is considered to be in connection with their retirement. As all the conditions have been met, Individual A is eligible to apply the small business 15-year exemption to disregard the entire capital gain made on the disposal of their interest in property 1.

50% active asset reduction and retirement exemption

As Individual B is under the age of 55 years they do not meet the conditions required under section 152-105 of the ITAA 1997 to apply the small business 15-year exemption. However as Individual B has satisfied the basic conditions under section 152-10 of the ITAA 1997, they will be entitled to apply the small business 50% active asset reduction. Individual B can also apply the small business retirement exemption to reduce the capital gain made from the disposal of their interest in property 1 provided they keep a written record of the amount they choose to disregard (the CGT exempt amount).