Edited version of private advice

Authorisation Number: 1052085072375

Date of advice: 2 March 2023

Ruling

Subject: CGT - deceased estate - small business concessions

Question 1

Can the Estate apply the 15 year exemption to the sale of the share in the company acquired by the deceased in November 19XX?

Answer

Yes.

Question 2

Can the Estate apply the 15 year exemption to the sale of the share in the company acquired by the deceased in May 20XX?

Answer

No.

This private ruling applies for the following period:

Year ending 30 June 20XX

The scheme commences on:

1 July 20XX

Relevant facts and circumstances

The company was incorporated in November 19XX and is an Australian resident company.

At the time of incorporation individual A was appointed director and held 1 of the 2 ordinary shares on issue.

The deceased was also appointed director and held the other ordinary share.

The above directorship and shareholding remained unchanged until individual A passed away in May 20XX.

Following individual A's death, the deceased inherited individual A's ordinary share and become the 100% owner of the company.

The deceased died on in 20XX and the shares passed to their legal personal representative.

The company conducted a business from November 19XX until the business was sold in December 20XX.

The company owns the following properties:

•         Property 1; this property was purchased in November 19XX and used exclusively in the business until the sale of the business in December 20XX. The property has been used solely to derive rental income from December 20XX to date. The approximate market value is $X.

•         Property 2; this property was purchased in May 19XX and used exclusively in the business until the sale of the business in December 20XX. The property has been used to solely derive rental income from December 20XX to date. The approximate market value is $X.

•         Property 3; the front two thirds of the block contain an industrial building which was not used in the business, rather it was used to derive rental income. The rear third of the land was used in the business until its sale in December 20XX. The approximate market value is $X.

The only other asset held by the company is cash in a bank account.

The deceased, their connected entities and affiliates had a net asset value of less than $X million just prior to their death.

The company, their connected entities and affiliates had a net asset value of less than $X million just prior to the deceased's death.

The executors intend to sell the shares in the 20XX financial year.

Relevant legislative provisions

Income Tax Assessment Act 1997 Division 152

Income Tax Assessment Act 1997 Subdivision 152-A

Income Tax Assessment Act 1997 section 152-10

Income Tax Assessment Act 1997 subsection 152-10(1)

Income Tax Assessment Act 1997 subsection 152-10(2)

Income Tax Assessment Act 1997 subsection 152-10(2A)

Reasons for decision

Deceased estate and small business CGT concessions

Under section 152-80 of the Income Tax Assessment Act 1997 (ITAA 1997), the legal personal representative or beneficiary of the deceased estate will be eligible for the small business CGT concessions where:

•         the asset is disposed of within two years of the date of death, and

•         the asset would have qualified for the small business CGT concessions if the deceased had disposed of the asset immediately before their death.

Basic conditions

Subdivision 152-A of the ITAA 1997 contains the basic conditions that must be satisfied for small business CGT relief. The basic conditions, as set out in subsection 152-10(1) of the ITAA 1997 are:

(a)  a CGT event happens in relation to a CGT asset of yours in an income year

(b)  the event would (apart from this Division) have resulted in a gain

(c)   at least one of the following applies:

(i)    you are a small business entity for the income year

(ii)   you satisfy the maximum net asset value test

(iii)  you are a partner in a partnership that is a small business entity for the income year and the CGT asset is an asset of the partnership, or

(iv)  you do not carry on a business, but your CGT asset is used in a business carried on by a small business entity that is your affiliate or an entity connected with you.

(d)  the CGT asset satisfies the active asset test in section 152-35 of the ITAA 1997.

Additional basic conditions for shares in a company or interests in a trust

Subsection 152-10(2) of the ITAA 1997 provides that the following additional basic conditions must be satisfied if the CGT asset is a share in a company, or an interest in a trust, (the object entity):

(a)  the CGT asset would still satisfy the active asset test if the assumptions in subsection 152-10(2A) of the ITAA 1997 were made

(b)  if you do not satisfy the maximum net asset value test - you are carrying on a business just before the CGT event

(c)   either:

(i)    the object entity would be a CGT small business entity for the income year, or

(ii)   the object entity would satisfy the maximum net asset value test

if the following assumptions were made:

(iii)  the only CGT assets or annual turnovers considered were those of the object entity, each affiliate of the object entity, and each entity controlled by the object entity in a way described in section 328-125 of the ITAA 1997

(iv)  each reference in section 328-125 of the ITAA 1997 to 40% were a reference to 20%

(v)   no determination under subsection 328-125(6) of the ITAA 1997 were in force

(d)  just before the CGT event, either:

(i) you are a CGT concession stakeholder in the object entity, or

(ii) CGT concession stakeholders in the object entity together have a small business participation percentage in you of at least 90%.

Subsection 152-10(2A) of the ITAA 1997 provides that, for the purposes of paragraph 152-10(2)(a) of the ITAA 1997, in working out whether subsection 152-40(3) of the ITAA 1997 applies at a given time (the test time) assume that:

(a)  an asset of a company or trust is covered by neither:

(i)    subparagraph 152-40(3)(b)(ii) of the ITAA 1997 (about financial instruments), nor

(ii)   subparagraph 152-40(3)(b)(iii) of the ITAA 1997 (about cash)

if the company or trust acquired that asset for a purpose that included assisting an entity to otherwise satisfy paragraph 152-10(2)(a) of the ITAA 1997 of this section, and

(b)  paragraph 152-40(3)(b) of the ITAA 1997 does not cover an asset that:

(i)    is a share in a company, or an interest in a trust, (the later entity), and

(ii)   is held at the test time by the object entity directly or indirectly (through one or more interposed entities), and

(c)   subparagraph 152-40(3)(b)(i) of the ITAA 1997 also covers each asset that:

(i)    is held at the test time by a later entity covered by subsection 152-10(2B) of the ITAA 1997, and

(ii)   is, for that later entity, an asset of a kind referred to in subparagraph 152-40(3)(b)(i), (ii) or (iii) of the ITAA 1997, as modified by paragraphs (a) and (b) of this subsection, and

(d)  subject to paragraph (b) of this subsection, all of the assets of the object entity at the test time included all of the assets of each later entity at the test time, and

(e)  for the purposes of paragraph 152-40(3)(b) of the ITAA 1997, the market value at the test time of an asset held by a later entity were the product of:

(i)    the asset's market value, apart from this paragraph, at the test time, and

(ii)   the object entity's small business participation percentage in the later entity at the test time.

Maximum net asset value test

You satisfy the maximum net asset value test if, just before the CGT event, the sum of the following amounts does not exceed $6,000,000:

(a)  the net value of the CGT asset of yours

(b)  the net value of the CGT assets of any entities connected with you, and

(c)   the net value of the CGT assets of any affiliates of yours or entities connected with your affiliates (section 152-15 of the ITAA 1997).

Active asset test

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 test period, 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 test period (subsection 152-35(1) of the ITAA 1997).

The test period begins when you acquired the asset and ends at the time of the CGT event (subsection 152-35(2) of the ITAA 1997).

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 (section 152-40 of the ITAA 1997).

A CGT asset is also an active asset at a given time if, at that time, you own it and:

(a)  it is either a share in a company that is an Australian resident at that time or an interest in a trust that is a resident trust for CGT purposes for the income year in which that time occurs, and

(b)  the total of:

(i)    the market values of the active assets of the company or trust, and

(ii)   the market value of any financial instruments of the company or trust that are inherently connected with a business that the company or trust carries on, and

(iii)  any cash of the company or trust that is inherently connected with such a business is 80% or more of the market value of all the assets of the company or trust (subsection 152-40(3) of the ITAA 1997).

CGT concession stakeholder

An individual is a CGT concession stakeholder of a company if they are a significant individual in the company (section 152-60 of the ITAA 1997).

Significant individual

An individual is a significant individual in a company at a time if, at that time, the individual has a small business participation percentage in the company of at least 20% (section 152-55 of the ITAA 1997).

Small business participation percentage

An entity's small business participation percentage in another entity at a time is the percentage that is the sum of:

•         the entity's direct small business participation percentage in the other entity at that time, and

•         the entity's indirect small business participation percentage in the other entity at that time (section 152-65 of the ITAA 1997).

An entity's direct small business participation percentage in a company is the percentage of:

• voting power that the entity is entitled to exercise

•         any dividend payment that the entity is entitled to receive

•         any capital distribution that the entity is entitled to receive, or

•         if they are different, the smallest of the three percentages above (section 152-70 of the ITAA 1997).

An entity's indirect small business participation percentage in a company is calculated by multiplying together the entity's direct participation percentage in an interposed entity and the interposed entity's total participation percentage (both direct and indirect) in the company (section 152-75 of the ITAA 1997).

15 year exemption

An entity can disregard a capital gain from a CGT event happening to a CGT asset if:

•         the basic conditions are satisfied

•         the asset has been continuously owned for the 15-year period ending just before the CGT event happened.

If you are an individual you must also meet the following conditions:

•         when the CGT event happened you were permanently incapacitated or at least 55 years old and the event happened in connection with your retirement

•         if the CGT asset is a share in a company or an interest in a trust, that company or trust must have had a significant individual for periods totally at least 15 years during the entire time you owned the share or interest, even if it was not the same significant individual during the whole period.

Note the 15-year exemption can also be chosen if the deceased had met the requirements, except that it is not necessary for the CGT event to have happened in relation to the retirement of the individual.

Question 1

Application to your circumstances

In this case, the deceased would have satisfied the basic conditions because:

•         the deceased would have made a capital gain had they disposed of the shares just prior to their death

•         the deceased satisfied the maximum net asset value test just prior to their death

•         the share satisfied the extended definition of an active asset in subsection 152-40(3) of the ITAA 1997 for at least half the period the deceased owned them as more than 80% of the market value of all of the assets of the company are active assets.

The deceased would have satisfied the additional basic conditions, set out in subsection 152-10(2) of the ITAA 1997, just prior to the death because:

• the share would have still satisfied the active asset test if the assumptions in section 152-10(2A) of the ITAA 1997 were made (we accept that no financial instruments or cash were obtained for a purpose that included assisting an entity to satisfy the active asset test and there are no 'later entities' as defined in subsection 152-10(2A)(b) of the ITAA 1997),
• the deceased satisfied the maximum net asset value test,
• the object entity (the company) satisfied the maximum net asset value test if the assumptions in paragraph 152-10(2)(c) of the ITAA 1997 were made
• just before the CGT event, the deceased was a CGT concession stakeholder in the company

The deceased would have been entitled to apply the 15 year exemption just prior to their death as:

•         they satisfied the basic conditions

•         they owned the share acquired in November 19XX continuously for a 15-year period

•         the company had a significant individual for periods totalling at least 15 years during the deceased's ownership period

Therefore, the Estate is entitled to disregard the capital gain made in relation to the sale of the share acquired by the deceased in November 19XX under the 15 year exemption.

Question 2

The share acquired by the deceased in 20XX, upon the death of their late husband, is not eligible for the 15 year exemption. This is because the deceased did not hold this share continuously for a 15 year period just prior to their death.

Further, during the deceased's period of ownership of the share the properties held by the company were exclusively used to derive rental income. Therefore, the share cannot satisfy the meaning of active asset or the active asset test. As the basic conditions have not been satisfied in relation to the share, the small business CGT concessions cannot be applied to reduce the capital gain upon disposal.