Edited version of private advice

Authorisation Number: 1052083675121

Date of advice: 3 February 2023

Ruling

Subject: CGT - active asset test

Question

Does the land satisfy the active asset test under subsection 152-35(1) of the Income Tax Assessment Act 1997 (ITAA 1997) for the purpose of the capital gains tax (CGT) small business concessions?

Answer

Yes.

The substantial proportion of the Property by area has been used for business purposes by a connected small business entity connected to you throughout the ownership period. Although the Property was partially used to derive rental income, the main use of the Property was determined by comparative analysis to be the business purpose. The rental exclusion therefore does not apply, and the Property satisfies the active asset test.

Further information about the active asset test can be found by searching 'QC 52271' on ato.gov.au

This ruling applies for the following period:

Year ending 30 June 20XX

The scheme commenced on:

1 July 20XX

Relevant facts and circumstances

You solely own the Property that you purchased more than 20 years ago.

Since the time of purchase more than 75% of the Property has been used by your business activity. This use has included street signage, the use of a shed and workshop for your core business activity, with the remaining substantial areas for storage and customer parking.

You have operated your business through Company A for just over 20 years. You have been the sole shareholder of Company A during this time.

The remaining smaller portion of the Property contains a residential premises consisting of 2 separate units. The 2 units have been rented to third parties from the time you purchased the Property.

The business income, which is solely derived from the Property, was more than 80% of income derived from the Property during the last 8 years.

Relevant legislative provisions

Income Tax Assessment Act 1997 section 152-35

Income Tax Assessment Act 1997 section 152-40

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

Income Tax Assessment Act 1997 subsection 328-125(1)(a)

Income Tax Assessment Act 1997 paragraph 328-125(2)(b)

Reasons for decision

Summary

The substantial proportion of the Property by area has been used for business purposes by a connected small business entity connected to you throughout the ownership period. Although the Property was also used to derive rental income, the main use of the Property was determined by comparative analysis to be the business purpose. The rental exclusion therefore does not apply, and the Property satisfies the active asset test.

Detailed reasoning

Subsection 152-35(1) of the ITAA 1997 states that a CGT asset satisfies the active asset test if:

•         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 of ownership, or

•         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 and a half years.

Section 152-40 of the ITAA 1997 provides the meaning of 'active asset'. A CGT asset will be an active asset at a time if, at that time, you own the asset and the asset was used or held ready for use by you, an affiliate of yours, or by another entity that is 'connected with' you, in the course of carrying on a business.

Importantly, paragraph 152-40(4)(e) of the ITAA 1997 provides that an asset whose main use is to derive rent cannot be an active asset.

If an asset is used partly for business and partly to derive rent at any given time, it will be a question of fact dependent on all the circumstances as to whether the main use of the asset at that time is to derive rent.

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), provides guidance on whether an asset's main use is to derive rent. No one single factor will necessarily be determinative and resolving the matter is likely to involve a consideration of a range of factors such as:

•         the comparative areas of use of the premises (between deriving rent and other uses); and

• the comparative levels of income derived from the different uses of the asset.

You are connected to an entity if you control the entity (paragraph 328-125(1)(a) of the ITAA 1997.

You control a company if you own equity interests in the company that carry the right to exercise a percentage that is at least 40% of the voting power of the company (paragraph 328-125(2)(b) of the ITAA 1997.

Application to your circumstances

As you have owned the Property for more than 15 years, the Property needs to be an active asset of yours for at least 7 and a half years.

As you are the sole shareholder of Company A you control it and are therefore connected to it. Company A has used the Property for your business for a relevant period of more than 7 and half years.

Also, for a period of more than 7 and a half years, the majority of the land area of the Property has been for the business use and the majority of the income derived from the Property has been from the business. It can be concluded that during this relevant period, the Property's main use has not been to derive rent and the rental exclusion does not apply.

As the Property has been used by Company A, an entity connected to you in the course of carrying on its business for a period of significantly more than 7 and a half years and the rental exclusion doesn't apply the Property satisfies the active asset test.