Edited version of private advice

Authorisation Number: 1052006803563

Date of advice: 17 August 2022

Ruling

Subject: Am I in business of options trading

Question 1

Were you carrying on a business of options trading?

Answer

No

Question 2

If so, are the losses made from your options trading subject to the non-commercial loss provisions of the Income Tax Assessment Act 1997 (ITAA 1997)?

Answer

Not applicable

This ruling applies for the following period:

Year ended 30 June 20XX

The scheme commences on:

1 July 20XX

Relevant facts and circumstances

You are a professional who conducts work not relevant to option trading.

You began to trade options to earn extra money. You started with a small amount of capital and over the course of time you built up a portfolio to a certain value.

You used a broker who provided comprehensive trading reports.

You had a set of pre-determined guidelines for your options trading. You were required to maintain a 'margin' before you could trade.

You did not place any stop loss orders with your broker but monitored your positions. Your trading strategy focused on highly liquid shares where fluctuations were relatively small. You monitor the media for public announcements that would affect your trading.

You had some strategies for the activity.

You kept records and kept a book of your trades. There had been several trades each and every month in previous financial years. You purchased options and closed out positions within a certain period of time.

At the end of each financial year you reported the net trading profits on your tax return as assessable income.

You continued working during that time.

You spent limited time each week on the activity.

There was a sudden and significant fall in the stock market against your open positions, and the broker closed out their positions and took their collateral. The adverse movement in the market resulted in a margin call that required you to sell all of your shares.

You made a loss on the activity in the relevant financial year.

You do not intend to trade in the future.

Relevant legislative provisions

Income Tax Assessment Act 1997 section 8-1

Income Tax Assessment Act 1997 section 25-40

Income Tax Assessment Act 1997 Division 35

Income Tax Assessment Act 1997 section 36-10

Income Tax Assessment Act 1997 section 118-20

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

Reasons for decision

Issue 1 - options trading

Question 1

Summary

You were not carrying on a business of options trading in the relevant financial year. You were engaging in commercial transactions for the purpose of profit making in the relevant year. The trading losses can be claimed as deduction under section 25-40 of the ITAA 1997. Any excess losses from your option trading activities can be carried forward and claimed as a deduction in later financial years under section 36-10 of the ITAA 1997. As you were not carrying on a business you will not be able to apply the non-commercial loss provisions.

Detailed reasoning

Carrying on a business

Section 8-1 of the ITAA 1997 allows a deduction for all losses and outgoings to the extent to which they are necessarily incurred in carrying on a business for the purpose of producing assessable income, except where the outgoings are of a capital, private or domestic nature.

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.

However, for this Division to apply, you must be carrying on a business.

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

Whether the option trading activity is carried on as a business is a question of fact. Case law has determined certain factors as being relevant in making this decision and concluded that no one factor is determinative, it is the overall impression gained.

In Federal Commissioner of Taxation v Radnor Pty Ltd (1991) 22 ATR 344; 91 ATC 4689, (Radnor) Hill J stated 'ultimately, the question of whether the respondent was carrying on a business of dealing in shares is a question of fact and degree, a question of impression.'

And more recently re-iterated in Smith v Federal Court of Taxation 2010 ATC 10-146; [2010] AATA 576 (Smith) Ettinger J stated at paragraph 12 ' by way of general guidance, I am mindful of the frequently cited words from Martin v Federal Commissioner of Taxation (1953) 90 CLR 470:

The test is both subjective and objective: it is made by regarding the nature and extent of the activities under review, as well as the purpose of the individual engaging in them, and ... the determination is eventually based on the large or general impression gained.

Apart from case law, Taxation Ruling TR 97/11 Income tax: am I carrying on a business of primary production? provides the Commissioner's view of the factors used to determine if you are in business for tax purposes. Whilst TR 97/11 specifically discusses primary production activities, the factors can be applied to other types of businesses, such as option trading.

As with case law, no one indicator is determinative. The indicators must be considered in combination and as a whole. Whether a business is carried on depends on the large or general impression gained.

We have taken the following into consideration when making our decision on whether or not you were carrying on a business in relation to the trading activities:

•               you used strategies that you had developed with a set of pre-determined guidelines

•               you traded certain options only

•               you focused on highly liquid shares

•               you did not place any stop loss orders but monitored your positions

•               the options had been purchased and close out positions at certain times

•               you spent time every week checking on announcements

•               you undertook a small number of options trading transactions during the relevant financial

•               trading was sporadic. There was on average only one trade on any given day and there were often lengthy periods where there were no trades recorded. After a particular date there were no further trades.

After considering the facts of the situation and weighing up the factors outlined above, it is considered that you were not carrying on a business in relation to the option buying and selling activities in the relevant financial year.

Based on the information that has been provided, there has not been repetition and regularity in the trading activities that a person in the business of option trading would display. There is not one factor which provides any weight to the fact that you were carrying on a business in relation to the option trading activities in the relevant financial year. The intention to make a profit is not, on its own, sufficient to establish that a business is being carried on.

It is the view of the Commissioner that you were not carrying on the business of option trading during the relevant financial year.

As you were not viewed as carrying on a business in relation to the option trading activities, we will consider whether the activities were of a profit-making nature, or isolated transactions, as follows:

Profits and losses from isolated transactions

Our view on profits and losses from isolated transactions and whether or not they are income or deductions is contained in Taxation Ruling TR 92/3 Income tax: whether profits on isolated transactions are income and Taxation Ruling TR 92/4 Income tax: whether losses on isolated transactions are deductible.

More specifically to buying and selling options and the ability of this kind of activity to be classified as profit or losses from isolated transactions. ATO Interpretative Decision ATO ID 2005/164 Income Tax Capital Gain Tax: CGT event C2 - close out of an exchange traded option, states the following:

Note 1: A profit or gain can constitute assessable income under section 15-15 of the ITAA 1997. To ensure that there is no double taxation under the income and CGT provisions, section 118-20 of the ITAA 1997 reduces the capital gain to the extent that an amount is also included as assessable income under another provision of the ITAA 1997.

Note 2: A loss incurred may be deductible under section 25-40 of the ITAA 1997 if it arose from the carrying on or carrying out of a profit-making undertaking or plan and, had any profit been derived, such profit would have been included in the taxpayer's assessable income under section 15-15 of the ITAA 1997.

Where a taxpayer enters into an option trading transaction in carrying out a profit-making undertaking or scheme, any trading loss made from that transaction will be an allowable deduction under section 25-40 of the ITAA 1997.

As outlined above, we do not view that you were carrying on a business in relation to the option trading activities. However, the activities were inherently commercial in nature and had a profit-making intention.

As the Commissioner generally regards option trading as 'an act of commerce', the trading will be viewed as activities carried out by you as part of a profit-making undertaking for the following reasons:

•               the commercial character or nature of the option buying and selling

•               the short period of time that you held the options, and

•               the number of transactions undertaken during some periods.

Any trading losses that you have made from the option trading during the relevant financial year can be claimed as a deduction in the income year in which the loss was made under section 25-40 of the ITAA 1997.

Note: While a capital gains tax (CGT) event C2 will occur on the close-out of an option, any capital gain or capital loss arising as a result of the CGT event will be reduced to the extent that it is included under another provision, such as section 25-40 of the ITAA 1997 (section 118-20 of the ITAA 1997). As the activity would be on revenue, there would be no capital gains to which the discount could be applied.