Edited version of private advice

Authorisation Number: 1051997687587

Date of advice: 23 June 2022

Ruling

Subject: CGT - active asset

Question 1

Will your interest in the property satisfy the active asset test under section 152-35 of the Income Tax Assessment Act 1997?

Answer

Yes.

This ruling applies for the following period:

Year ending 30 June 20XX

The scheme commences on:

1 July 20XX

Relevant facts and circumstances

Person 1 (P1) and Person 2 (P2) acquired the property (the property) before 20 September 1985 as tenants in common in equal shares.

Person 1 died on XX February 20XX and under the terms of the will, their interest in the property passed to their spouse Person 2.

Person 2 died on XX November 20XX and under the terms of the will, the residue of the estate (including the property) was divided into three equal parts and was to be held by the executors of the estate subject to three testamentary trusts.

The executors are Person 3 (P3), Person 4 (P4) and Person 5 (P5), being Person 1 and Person 2's children.

Three testamentary trusts were established:

•         The Person 3 Fund - primary beneficiary Person 3;

•         The Person 4 Fund - primary beneficiary Person 4; and

•         The Person 5 Fund - primary beneficiary Person 5.

Person 2's Will sets out the terms for each of the testamentary trusts. The trustee (being the executors) is only able to distribute to the primary beneficiary, their children and grandchildren including spouses and partners.

Following Person 2's death, P3, P4 and P5 formed a partnership to undertake activities on the property.

The partnership has lodged partnership returns from the commencement of the partnership.

The partners undertook the following various training courses to assist in their activities:

The partnership maintains business insurance covering the property.

An arrangement was entered into with an unrelated third party, where all gross income and all gross expenditure was shared equally between the unrelated third party and the partnership and activities were undertaken on the property.

Activities undertaken by the unrelated third party during the arrangement included:

•         Sale of stock;

•         Strategic advice in respect of stock management;

•         Strategic advice in respect of management of the property.

Activities undertaken by the partners during the share farming arrangement included:

•         Day to day monitoring and management of stock;

•         Repair and maintenance of structures and equipment;

•         Property management activities.

A business bank account in the name of the partnership is maintained.

Stock trading accounts have been maintained by the partnership.

The partnership does not have a business plan; however costing models have been completed.

The partnership sought the advice of consultants from time to time as required, respect of buying and selling stock and stock levels to be maintained.

P3 and P4 in their capacity as trustees for The Person 3 Fund and The Person 4 Fund (respectively) intend to sell their interest in the property to The Person 5 Fund, which will result in a capital gain.

Relevant legislative provisions

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

Income Tax Assessment Act 1997 paragraph 152-35(1)(a)

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

Income Tax Assessment Act 1997 section 152-40

Income Tax Assessment Act 1997 subsection 152-40(4)

Income Tax Assessment Act 1997 section 955-1

Reasons for decision

Subsection 152-35(1) of the Income Tax Assessment Act 1997 (ITAA 1997) provides that a CGT asset satisfies the active asset test if:

(a)  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 the period specified in subsection (2); or

(b)  You have owned the asset for more than 15 years and the asset was an active asset of yours for at least 7 and a half years during the period specified in subsection (2).

Subsection 152-35(2) on the ITAA 1997 provides that the period:

(a)  Begins when you acquired the asset; and

(b)  Ends at the earlier of:

                      i.        The CGT event; and

                     ii.        If the relevant business ceased to be carried on in the 12 months before that time or any longer period that the Commissioner allows - the cessation of the business.

Section 152-40 of the ITAA 1997 provides that a CGT asset is an active asset at a time if, at that time:

(a)  You own the asset (whether the asset is tangible or intangible) and it is used, or held ready for use, in the course of carrying on a business that is carried on (whether alone or in partnership) by:

                      i.        You; or

                     ii.        Your affiliate; or

                    iii.        Another entity that is connected with you; or

Subsection 152-40(4) of the ITAA 1997 however provides that assets whose main use is to derive rent is excluded from being an active asset, so the time the property was used for rental activities, the property will not be considered an active asset.

To determine if the property satisfies the active asset test, it must be owned by you and used, or held ready for use, in the course of carrying on a business that is carried on by you.

Business is defined in section 995-1 of the ITAA 1997 to be 'any profession, trade, employment, vocation or calling, but does not include occupation as an employee'.

Taxation Ruling TR 97/11 provides the indicators established by the courts that need to be considered when determining whether a business is being carried on. It should be noted that TR 97/11 specifically deals with carrying on a business of primary production but the indicators established can be equally applied to most other activities. Paragraph 13 of TR 97/11 states that the following indicators are relevant:

•         Whether your activity has a significant commercial purpose or character.

•         Whether you have more than just an intention to engage in business.

•         Whether you have a purpose of profit as well as a prospect of profit from the activity.

•         Whether there is repetition and regularity of your activity.

•         Whether your activity is of the same kind and carried on in a similar manner to businesses in your industry.

•         Whether your activity is planned, organised and carried on in a businesslike manner.

•         The size, scale and permanency of your activity.

•         Whether your activity is better described as a hobby, recreation or sporting activity.

Paragraph 15 of TR 97/11 states that no one indicator is decisive (Evans v. FC of T 89 ATC 4540; (1989) 20 ATR 922). In addition, paragraph 16 of TR 97/11 states that the indicators must be considered in combination and as a whole. Whether a business is being carried on depends on the general impression gainedfrom looking at all the indicators (Martin v. Federal Commissioner of Taxation (1953) 90 CLR 470 at 474; 5 AITR 548 at 551).

In your case, the partnership has been undertaking regular and repeated activity that would be considered similar to that of any other business activity.

Although the partnership has no business plan, there have been costing models completed and stock trading accounts have been maintained. The partners in the partnership have undertaken training courses to assist with their activities and have engaged with consultants in relation to stock levels and sale of stock. These activities show that the activities are planned, organised and carried out in a business-like manner.

There is an intention to engage in business that is evidenced by the commencement of a partnership and the use of a trading name, the commencement of a business bank account in the partnership name and maintaining insurance on the property and assets.

Although the size and scale of the stock was quite low, there has been a level of permanency of the activity and there were extenuating circumstances for the reduction in stock.

After consideration of the indicators in TR 97/11 and taking your circumstances as a whole, the Commissioner considers that the partnership is carrying on a business.

Your interest in the property has been used in the course of carrying on the partnership business, therefore the property would be considered an active asset under section 152-40 of the ITAA 1997, however subsection 152-40(4) of the ITAA 1997 will exclude the property from being an active asset for the period that it was used for rent.

You acquired your interest in the property less than 15 years ago and the property was an active asset of yours for more than half of that period, therefore satisfying the active asset test under paragraph 152-35(1)(a) of the ITAA 1997.