Edited version of private advice

Authorisation Number: 1051980311118

Date of advice: 6 May 2022

Ruling

Subject: Non-commercial loss - lead time

Question 1

Will the Commissioner exercise the discretion in paragraph 35-55(1)(c) of the Income Tax Assessment Act 1997 (ITAA 1997)(lead time) to allow you to include any losses from your business in your calculation of taxable income for the 20XX-XX to 20XX-XX income years?

Answer

No.

This ruling applies for the following periods:

Year ending 30 June 20XX

Year ending 30 June 20XX

Year ending 30 June 20XX

Year ending 30 June 20XX

The scheme commences on:

1 July 20XX

Relevant facts and circumstances

You are a partner in a partnership with your spouse, which operates a fruit farm on XX acres of land.

The property was acquired by you and your spouse; however, it was not fit for growing fruit. Since then, the partnership has undergone a significant investment in capital.

You provided a copy of 'The XXXX Business Plan' updated in XXXX.

Once these activities were completed, you planted XXX plants, and you now have XXX healthy plants. You expect these plants to produce fruit in early 20XX.

Later this year, you will plant an additional XXX of one type of plant, and XXX of another type. Depending in the success of the and second year plantings, you intend on planting another 'block', consisting of XXX plants in the following income year.

You state that it is hard for you to make further projections based on the current number of plants planted.

You do not expect to make a profit until 20XX. In that financial year, you intend on selling the fruit to other local producers. This will supply the necessary funding for the coming year's ability to then self-produce the product in the following years.

You intend for the property to eventually house over X,XXX plants, which will produce X tonnes of fruit per season. The fruit will make X,XXX products per year.

No formal agreements with local producers and regional co-operatives, however informal conversations have been had to gauge the market need. You have been informed from the producers that they must first see and test your harvested fruit.

Due to the nature of your business, where there is a lead time between planting and harvesting the fruit to be available for sale and production, it is common for such a business activity to be commercially viable only after 5 to 7 years.

Your income for non-commercial loss purposes for the 20XX-XX income year from other sources was in excess of $250,000.

Relevant legislative provisions

Income Tax Assessment Act 1997 subsection 35-10(1)

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

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

Income Tax Assessment Act 1997 paragraph 35-55(1)(c)

Reasons for decision

Summary

Although the Commissioner accepts that there is a 'lead time' in the nature of your business making a tax profit, he is not satisfied that you will make a tax profit within your industry's commercially viable period. The Commissioner will not exercise the discretion in paragraph 35-55(1)(c) of the Income Tax Assessment Act 1997 (ITAA 1997) in relation to your business activity for the 20XX-XX to 20XX-XX financial years.

Detailed reasoning

Section 35-1 of the ITAA 1997 provides that an income requirement must be met (along with certain other tests), in order to include losses from a business activity in your taxable income calculation. If the income requirement is not met, the Commissioner may exercise discretion to allow the inclusion of the losses. A taxpayer will satisfy the income requirement under subsection 35-10(2E) of the ITAA 1997 if their income for non-commercial loss purposes is less than $250,000.

In your case, you do not satisfy the income requirement as your income for non-commercial loss purposes is above $250,000, and you do not come under any of the exceptions. Your business losses are therefore subject to the deferral rule unless the Commissioner exercises his discretion.

In order to exercise the discretion, the Commissioner must be satisfied there is an objective expectation, based on evidence from independent sources, that your business activity will produce assessable income greater than the deductions attributable to it for that year, within a commercially viable period (paragraph 35-55(1)(c) of the ITAA 1997).

For the Commissioner to exercise the discretion you must be able to show that the reason your business activity is producing a loss is inherent to the nature of the business and is not peculiar to your situation. For example, the discretion will not be available where the failure to make a profit is for reasons other than the nature of the business such as, a consequence of starting out on a small scale, the hours worked or the need to build a client base.

In Case 1/2013 2013 ATC 1-050; [2013] AATA 3, the AAT found that a taxpayer who staggered the planting of their vineyard over several years, so that the operation would not reach full production for approximately ten years, was not entitled to the discretion in section 35-55 of the ITAA 1997. The AAT accepted that it may be commercially prudent to approach the development of the vineyard in a gradual way, but that is not the test outlined in paragraph 35-55(1)(c) of the ITAA 1997. The AAT said it was required to look at whether the failure to produce sufficient assessable income during a given year of income was a result of some inherent feature that the taxpayer's business activity has in common with business activities of that type, in line with FC of T v Eskandari 2004 ATV 4042.

In your case, you commenced a new fruit growing business. You commenced this busines with the XX acres of land you and your spouse acquired in 20XX. You anticipate that your business will produce a tax profit by the 20XX-XX income year. You have not been able to provide forecast figures that demonstrate that you will make a tax profit in that period of time based on the vines that you currently have.

The Commissioner will not exercise the discretion available in accordance with subsection 35-55(1) and paragraph 35-55(1)(c) of the ITAA 1997 for the 20XX-XX to 20XX-XX income years.