Edited version of private advice

Authorisation Number: 1051991055492

Date of advice: 6 September 2022

Ruling

Subject: Commissioner's discretion - non-commercial losses

Question

Will the Commissioner exercise the discretion in paragraph 35-55(1)(a) of the Income Tax Assessment Act 1997 (ITAA 1997) allowing you to include losses from your business activity in the calculation of your taxable income for the 20XX-XX, 20XX-XX, and 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

The scheme commences on:

1 July 20XX

Relevant facts and circumstances

You acquired a traditional bed and breakfast (the B&B) more than XX years ago.

At the time of acquisition, the B&B required modernisation of facilities which you have completed over time while continuing to operate.

You have also undertaken works to create different zones on the property suitable for events as a diversification.

Your activity has never recorded a tax profit.

You do not satisfy the income requirement in 35-10(2E) of the ITAA 1997 in the 20XX-XX, 20XX-XX, and 20XX-XX income years.

The activity was affected by the restrictions on guests imposed in response to the COVID-19 pandemic, including the 6-week general lockdown period from 23 March 2020. In addition to the ongoing restrictions, you have reported a general reluctance for guests to return post the COVID-19 pandemic.

The B&B was damaged externally by a natural event. This required repairs causing disruption to trade in the effected year.

The B&B was damaged internally by a services failure which caused significant structural damage. The damage and subsequent closures for repairs caused significant disruption to trade in the effected year.

Relevant legislative provisions

Income Tax Assessment Act 1997 Division 35

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 subsection 35-10(4)

Income Tax Assessment Act 1997 section 35-55

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

Reasons for decision

Summary

The activity was not affected by special circumstances beyond your control in the 20XX-XX financial year. Although it was affected by special circumstances in the 20XX-XX and 20XX-XX income years. Projections show the activity to be unprofitable even when not affected by the special circumstances. It cannot therefore be concluded that the special circumstances caused the losses. The Commissioner will not provide his discretion under paragraph 35-55(1)(a) of the ITAA 1997. The losses in each of the years will need to be deferred.

Detailed reasoning

For the 2009-10 and later financial years, Division 35 of the ITAA 1997 will apply to defer a non-commercial loss from a business activity unless:

•         you satisfy the income requirement, and you pass one of the four tests

•         the exceptions apply, or

•         the Commissioner exercises his discretion.

In your case, none of the exceptions apply and you do not satisfy the income requirement as your income for non-commercial loss purposes was above $250,000 in the financial years under consideration. Your losses are therefore subject to the deferral rule unless the Commissioner exercises his discretion under section 35-55 of the ITAA 1997.

You have requested that the Commissioner exercise his discretion in the 20XX-XX, 20XX-XX, and 20XX-XX income years on the basis that your activity was affected by special circumstances.

The special circumstances discretion may be exercised for the financial year in question where your business activity is affected by special circumstances outside your control (paragraph 35-55(1)(a) of the ITAA 1997).

Taxation Ruling TR 2007/6 Income tax: non-commercial business losses: Commissioner's discretion (TR 2007/6), sets out the Commissioner's interpretation of the exercise of the Commissioner's discretion under paragraph 35-55(1)(a) of the ITAA 1997.

'Special circumstances' are those circumstances which are sufficiently unusual or different to distinguish them from the circumstances that occur in the normal course of conducting a business activity (paragraph 13 of TR 2007/6).

For individuals who do not satisfy the income requirement, the 'special circumstances' are those which have materially affected the business activity causing it to make a loss. In this context, the Commissioner may exercise this discretion for the income year(s) in question where, but for the special circumstances the business activity would have made a tax profit (paragraph 13A and 41 D of TR 2007/6).

20XX-XX income year

COVID-19 did not have an impact on Australia until March 2020. The disruptions due to the external and internal damage repair also occurred after the 20XX-XX income year.

Choices related to the management of the activity, including to undertake renovations and to diversify markets, are not considered to be special circumstances beyond your control. The Commissioner will not provide his discretion for this year and your loss will need to be deferred.

20XX-XX and 20XX-XX income years

The Commissioner concedes that your activity was affected by the impacts of COVID-19 for approximately four months in the 20XX-XX income year.

However, considering a scenario where your business had traded for the effected four months at your highest previous average monthly income, the activity would have still recorded a large loss. It cannot therefore be concluded that the special circumstances caused the loss in the 20XX-XX income year.

Based on the information that you have provided; the activity was severely affected by a combination of special circumstances in the 20XX-XX and 20XX-XX income years. These caused the activity to cease trading or for its trading to operate with limited capacity. However, in considering a scenario where the highest previous average monthly income was achieved for the affected months, the activity would have still recorded losses.

It cannot be concluded that it was the special circumstances affecting the activity caused the loss in either the 20XX-XX or 20XX-XX income year. It would not be considered unreasonable for the non-commercial loss provisions to be applied. The Commissioner will not provide his discretion under paragraph 35-55(1)(a) of the ITAA 1997 and the losses in the 20XX-XX and 20XX-XX will need to be deferred.