Edited version of private advice

Authorisation Number: 1052039506051

Date of advice: 18 October 2022

Ruling

Subject: Short-term accommodation business and the active asset test

Question

Does the property satisfy the active asset under section 152-35 of the Income Tax Assessment Act 1997 (ITAA 1997)?

Answer

No.

This ruling applies for the following period:

Year ending 30 June 20XX

The scheme commences on:

1 July 20XX

Relevant facts and circumstances

Company A was originally established for the purpose of developing a motel site which was ultimately unsuccessful.

Company A purchased a single residential dwelling at a holiday location (the Property).

Company A also pursued the purchase of other accommodation at the holiday location but was unsuccessful.

The Property was recently sold.

During Company A's ownership of the Property:

1.    The sole activity of Company A was to provide the Property to Company B for use in its short-term holiday accommodation business.

2.    Company B managed and marketed the Property, charging a management fee to Company A on all bookings sold.

3.    Although no written agreement was in place, the relationship between Company A and Company B was understood by the parties to be one of principal and agent.

4.    Company B managed and controlled all accommodation bookings for the Property.

5.    Company B sold bookings to guests directly.

6.    Company B's booking system provided written terms and conditions related to payment and cancellations.

7.    Guests were not provided with other written terms or conditions related to their stay.

8.    A list of guidelines was provided for guests on the kitchen wall of the Property. The guidelines advised that:

•         Company B had the right to enforce acceptable noise levels.

•         no pets were allowed.

•         the number of guests was restricted.

•         Company B would top up drinking water, service rooms with linen upon request or every 3 days otherwise.

•         Company B may perform maintenance outside the Property as required after 10am.

9.    The Property was advertised a being fully furnished and with all amenities such as cooking and cleaning equipment. Guests were provided with all utilities inclusive of their occupancy.

10.  Company B provided services to guests of the Property on request or by service schedule, as follows

•         Pick up and drop off to transport.

•         Provedoring of food to the location.

•         Monitoring of water tank levels.

•         Provision of filtered water.

•         Rubbish removal.

•         Generator fuelling and maintenance.

•         Housekeeping services on request.

11.  Company B regularly visited the Property during guest's stay to provide rubbish removal, information on available activities, delivery of food and drinks, and linen updates as requested.

12.  Upon the guests' arrival, Company B carried on a full introduction of the Property. This outlined the complexities of staying in an off-grid property and what was expected of guests.

13.  Guests average stay at the Property was four nights. Ten nights was the maximum length of stay that occurred. There was no minimum period.

Company A's activity in providing the Property for short-term accommodation yielded a profit in most years of operation.

Company A's aggregated turnover for the purpose of 328-110 of the ITAA 1997 was below $X million in the 20XX-XX financial year.

Relevant legislative provisions

Income Tax Assessment Act 1997 section 152-35

Income Tax Assessment Act 1997 subsection 152-40(1)

Income Tax Assessment Act 1997 paragraph 152-40(4)(e)

Income Tax Assessment Act 1997 section 328-110

Reasons for decision

Question 1

Summary

Company A's activity in providing the Property to Company B amounted to carrying on a business for the purposes of section 328-110. On consideration of the facts, our view is that guests were provided with exclusive possession of the Property during their stay. The relationship with guests was one of landlord and tenant and the Property's main use has been to derive rent. As the rental exclusion in paragraph 152-40(4)(e) applies, the Property has not been active asset of Diminuendo and the active asset test in section 152-35 is not satisfied.

Detailed reasoning

Section 152-35 provides the active asset test.

152-35(1) 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 of 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 a total of at least 7 ½ years during the period specified in subsection (2).

152-35(2) 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.

Subsection 152-40(1) details that a CGT asset is an active asset of an entity at a time if it is used, or held ready for use, in the course of carrying on a business that is carried on by the entity, its affiliate, or another connected entity.

However, an asset whose main use to derive rent is not and active asset (paragraph 152-40(4)(e)).

CGT small business entity

Section 328-110 provides that you are a small business entity for an income year if:

(a)  you carry on a business in the current year; and

(b)  one or both of the following applies:

(i)    you carried on a business in the income year (the previous year) before the current year and your aggregated turnover for the previous year was less than $10 million.

(ii)   your aggregated turnover for the current year is likely to be less than $10 million.

Taxation Ruling TR 2019/1 Income Tax: when does a company carry on a business (TR 2019/1) discusses when a company is considered to be carrying on a business for certain income tax provisions including section 328-110.

Paragraph 21 of TR 2019/1 provides the indicia of carrying on business considered by the courts in determining whether the activities carried on by an entity amount to the carrying on of a business are:

•         whether the entity intends to carry on a business

•         the nature of the activities, particularly whether they have a profit-making purpose

•         whether the activities are

o   repeated and regular

o   organised in a business-like manner, including the keeping of books, records and the use of a system

•         the size and scale of a company's activities including the amount of capital employed in them, and

•         whether the activity is better described as a hobby, or recreation.

Paragraph 33 of TR 2019/1 provides that where a company is a member of a group of companies, its purpose, and whether it carries on a business, may be determined by reference to its role within the group, the activities of the wider group.

Application to your circumstances

In this case, the relationship between Company A and Company B was understood by the parties to be one of principal and agent. Therefore, the use of the Property by Company B can be considered as Company A's use. We first need to consider whether Company A's carries on a business under 328-110, given its sole activity is providing the Property to Company B.

With reference to the TR 2019/1 it can be concluded that Company A's activity in providing the Property to Company B amounted to carrying on a business for the purposes of section 328-110 for the following reasons:

•         Company A was established for the purposes of developing a motel site at the holiday location. It also pursued the purchase of other accommodation at the holiday location. Although Company A ultimately only purchased the Property, an intention to carry on a business can be inferred objectively from the circumstances.

•         Company A's activity has been profitable for the majority of years it held the Property. It is reasonable to conclude that Company A has a profit-making purpose

•         The activities of Company A, in ensuring it met its ASIC regulatory requirements, in making decisions (whether express or implicit) to continue holding the Property as an investment, in accounting for the receipt and distribution (or retention) of income, in attending other matters of an administrative nature, while relatively limited, are sufficient to amount to the carrying on of a business.

•         Although the size and scale of Company A's activity is limited only to the holding of the Property, with reference to paragraph 33 of TR 2019/1 it is reasonable to consider its activities as part of the wider activity that included the activity of Company B.

Rental exclusion

Paragraph 152-40(4)(e) provides that an asset whose main use in the course of carrying on the business is to derive rent cannot be an active asset (unless that main use was only temporary). That is, even if the asset is used in the carrying on of a business it will not be an active asset if its main use is to derive rent.

The circumstances in which a premises used in a business of providing accommodation for reward will satisfy the active asset test in section 152-35 is considered in Taxation Determination TD 2006/78 Income tax: capital gains: are there any circumstances in which the premises used in a business of providing accommodation for reward may satisfy the active asset test in section 152-35 of the Income Tax Assessment Act 1997 notwithstanding the exclusion in paragraph 152-40(4)(e) of the Income Tax Assessment Act 1997 for assets whose main use is to derive rent? (TD 2006/78).

At paragraph 23 of TD 2006/78:

A key factor therefore in determining whether an occupant of premises is a lessee is whether the occupier has a right to exclusive possession (Radaich v. Smith (1959) 101 CLR 209; Tingari Village North Pty Ltd v. Commissioner of Taxation [2010] AATA 233 at paragraphs 44-46, 2010 ATC 10-131, 78 ATR 693 and associated Decision Impact Statement 2008/4646 & 2008/4647). If, for example, premises are leased to a tenant under a lease agreement granting exclusive possession, the payments involved are likely to be rent and the premises not an active asset. On the other hand, if the arrangement allows the person only to enter and use the premises for certain purposes and does not amount to a lease granting exclusive possession, the payments involved are unlikely to be rent.

Additionally, at paragraph 25, TD 2006/78 states:

Ultimately, these are questions of fact depending on all the circumstances involved. Relevant factors to consider in determining these questions (in addition to whether the occupier has a right to exclusive possession) include the degree of control retained by the owner and the extent of any services provided by the owner such as room cleaning, provision of meals, supply of linen and shared amenities (Allen v. Aller (1966) 1 NSWR 572), Appah v. Parncliffe Investments Ltd [1964] 1 All ER 838 and Marchant v. Charters [1977] 3 All ER 918).

The Judgment of Windeyer J in Radaich v. Smith (1959) 101 CLR 209 provided that a right of exclusive possession is secured by the right of the lessee to maintain ejectment and, after his entry, trespass. A reservation to the landlord of a limited right of entry to view or repair is not inconsistent with a grant of exclusive possession.

Importantly, shorter term contracts can also be leases. The issue of whether Airbnb agreements constituted a lease or a license, and whether the Airbnb guests were given 'exclusive possession', was considered in Swan v. Uecker [2016] VSC 313 (Swan v. Uecker). Justice Croft held that the effect of the agreement, fully analysed, was that the Airbnb visitors enjoyed a right of exclusive possession. While the Airbnb terms and conditions repeatedly used the word 'licence', Justice Croft stressed the well-established principle that the substance of an agreement prevails over its form.

Application to your circumstances

In this case, guests were provided the full use of the single dwelling holiday house which was located separately to other properties managed by Company B. Guest use of the Property was not limited to certain purposes.

Unlike motel or managed apartment accommodation, such as outlined in example 4 of TD 2006/78, the Property provided guests with a unique location and accommodation experience. Company B could not readily relocate guests to another accommodation unit which offered with the same features.

Unlike boarding house accommodation, such as outlined in example 3 in TD 2006/78, Company B was not located on site, and the accommodation did not have shared features and facilities.

Compared to motels and boarding house accommodation, the level of servicing is considered to be relatively limited in this case. The provision of a fully furnished dwelling with limited servicing to support guests with their holiday stay is not considered unusual for a short-term lease. This level of servicing being common practice in holiday locations leading to a higher return on investment.

It is accepted that guests only visited the Property for relatively short periods of time compared to many other tenancies. However, Swan v. Uecker provides support that even during short-term accommodation activities exclusive possession can be established.

The proprietor of Company B has contended in communications with us, that guests did not have exclusive possession. In particular that by verbal agreement between Company B and guests, it was established that Company B had the right to enter the property at any time and that guests could be removed from unreasonable behaviour.

Our view is that the limited right of entry established by the verbal agreement did not disrupt the guest's exclusive possession, per Radiach v. Smith. In this case guests enjoyed uninterrupted use of the Property apart from the minor servicing provided by Company B.

The possession of the Property by guests is viewed as being the same as what would be expected in relation to tenants of residential accommodation generally. As the relationship between Company B (as Company A's agent) and guests is viewed as that of a landlord and tenant, the main use of the Property for short-term accommodation is considered to be the derivation of rent. The Property is not an active asset as the rental exclusion in paragraph 152-40(4)(e) applies.