Edited version of private advice

Authorisation Number: 1052128355664

Date of advice: 14 June 2023

Ruling

Subject:Commissioner's discretion for non-commercial business losses

Question

Will the Commissioner exercise the discretion in paragraph 35-55(1)(a) of the Income Tax Assessment Act 1997 to allow you to include the losses from your primary production business activity, in the calculation of your taxable income for the year ended 30 June 20XX and the income year ending 30 June 20XX?

Answer

Yes

This ruling applies for the following periods:

Income year ended 30 June 20XX

Income year ending 30 June 20XX

The scheme commenced on:

1 July 2021

Relevant facts and circumstances

You and your partners operate a livestock and cropping business (the partnership).

The partnership conducts the primary production business on land jointly owned by the partners (on a 50-50 basis).

The land has an estimated market value in excess of $500,000 (this excludes rented rural land).

On 30 June 20XX, the land was carrying XX head of sheep and XX head of cattle.

Carrying capacity of the land increased to XX head of sheep and XX head of cattle on 30 June 20XX.

The partnership's plant and equipment (excluding land improvements) have a cost in excess of $100,000 as of 30 June 20XX.

The partnership has derived gross income from sales of produce in excess of $20,000 in 20XX and 20XX and expects to do so in 20XX.

The farming activity is conducted as a genuine commercial operation, subject to the usual risks inherent in farming.

During 20XX the partners expanded the business activity by purchasing additional farmland, plant and equipment and livestock.

Despite the purchase of the additional farmland floods and excessive wet weather caused reduced livestock and crop sales and unexpected costs of maintaining a larger stock holding than planned, reducing the 20XX tax profits by a significant and amount resulting in a tax loss for the partnership in 20XX.

Flood has curtailed the production of livestock for sale and produce from cropping in both 20XX and 20XX.

During February 20XX, livestock were lost in a flood as access was cut off to the paddock they were on.

In 20XX and 20XX planned seasonal crops were unable to be sown or harvested as equipment could not work the saturated ground.

Livestock that would normally be sold were held onto to maintain breeding stocks and or due to their poor condition caused by wet feet and lack of feed.

Costs of agistment, fodder, fertiliser and drench, dip and vet supplies increased as a result of the flood by an estimated $XX in 20XX and $XX in 20XX.

The partnership received disaster grants in 20XX and 20XX.

The partnership's return to tax profit is expected in 20XX with crops currently growing and healthy and expected to yield around $XX in sales in addition to recurring livestock sales.

Your income for 20XX and expected income for 20XX for non-commercial loss purposes is more than $250,000

Relevant legislative provisions

Income Tax Assessment Act 1997 Division 35

Income Tax Assessment Act 1997 subsection 35-10(1)

Income Tax Assessment Act 1997 subsection 34-10(2)

Income Tax Assessment Act 1997 subsection 35-10(2E)

Income Tax Assessment Act 1997 subsection35-10(4)

Income Tax Assessment Act 1997 section 35-30

Income Tax Assessment Act 1997 section 35-35

Income Tax Assessment Act 1997 section 35-40

Income Tax Assessment Act 1997 section 35-45

Income Tax Assessment Act 1997 section 35-55

Income Tax Assessment Act 1997 subsection 35-55(1)

Income Tax Assessment Act 1997 paragraph 35-55(1)(a)

Reasons for decision

Summary

The Commissioner will exercise the discretion in paragraph 35-55(1)(a) of the Income Tax Assessment Act 1997 to allow you to include the losses from your primary production business activity in the calculation of your taxable income for the year ended 30 June 20XX and the income year ending 30 June 20XX.

Detailed reasoning

All legislative references are to the Income Tax Assessment Act 1997.

Taxation Ruling TR 2007/6 Income tax: non-commercial business losses: Commissioner's discretion sets out the Commissioner's interpretation of the exercise of the Commissioner's discretion under paragraph 35-55(1)(a).

Paragraph 6 of TR 2007/6 states the object of Division 35 is to act as an integrity measure. One of the ways it achieves this is by preventing losses from non-commercial activities that are carried on as businesses by individuals (alone or in partnership) being offset against other assessable income in the income year the loss is incurred. The rule in subsection 35-10(2) defers losses from business activities unless they satisfy a test, are eligible for an exception or the Commissioner exercises the discretion in subsection 35-55(1).

For the 2009-10 and later income years, Division 35 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 discretion

Section 35-1 provides that an income requirement must be met (along with certain other tests), to include losses from a business activity in your taxable income calculation. If the income requirement is not met, the Commissioner may exercise discretion to allow the inclusion of the losses.

The income requirement under subsection 35-10(2E) will be met if their income for non-commercial loss purposes is less than $250,000.

In this case, the income requirement under subsection 35-10(2E) is not met as the income for non-commercial loss purposes was above $250,000.

If the income requirement is not met, the business activity must have been materially affected by the special circumstances, causing it to make a loss. In this context, the Commissioner may exercise discretion for the income year(s) in question where but for the special circumstances:

•         your business activity would have made a tax profit

•         the activity passes at least one of the four tests or,

•         but for the special circumstances, would have passed one of the four tests.

Paragraph 12 of TR 2007/6 states the Commissioner's discretion in paragraph 35-55(1)(a) may be exercised for the income year(s) in question where the business activity is affected by special circumstances outside the control of the operators of the business activity.

Paragraph 35-55(1)(a) refers to 'special circumstances outside the control of the operators of the business activity, including drought, flood, bushfire or some other natural disaster'. Cyclones, hailstorms, and tsunamis are examples of other natural disasters that would come within the scope of the paragraph.

Paragraph 54 of TR 2007/6 states that the use of the word 'including' in paragraph 35-55(1)(a) indicates that the type of circumstances to which the special circumstances limb of the discretion can potentially apply is broader than those which are natural disasters. For example, circumstances such as oil spills, chemical spray drifts, explosions, disturbances to energy supplies, government restrictions and illnesses affecting key personnel might, depending on the facts, constitute special circumstances of the type in question.

Paragraph 55 of TR 2007/6 states, for these other kinds of events, the operators of the business activity must show that the special circumstances were outside their control.

Special Circumstances

Special circumstances are those circumstances which are sufficiently different to distinguish them from the circumstances that occur in the normal course of conducting a business activity. For those individuals who do not satisfy the income requirement, special circumstances are those which have materially affected the business activity, causing it to make a loss.

Paragraph 41B of TR 2007/6 states, access to the special circumstances limb is not limited to those individuals who satisfy the income requirement. Individuals who do not meet the income requirement, but who can demonstrate their business is commercial, and has been affected by special circumstances, may also be considered under the special circumstances limb.

Paragraph 41C of TR 2007/6 states, for a business activity to be regarded as 'commercial' for the purposes of Division 35 four objective tests are provided, at least one of which must be satisfied, or would have been satisfied but for the special circumstances. These tests are:

•         Assessable income test (section 35-30)

•         Profits test (section 35-35)

•         Real property test (section 35-40)

•         Other assets test (section 35-45)

Application to your circumstances

In this case, it is accepted that flood conditions significantly affected business operations in the income year ended 30 June 20XX and the income year ending 30 June 20XX.

The Commissioner accepts that your business activity was affected by special circumstances that were outside your control namely flood.

The Commissioner also accepts that, in the absence of those circumstances a taxable profit would have been made in the income year ended 30 June 20XX and the income year ending 30 June 20XX.

In this case, the real property owned or leased in the business activity is greater than $500,000 therefore the real property test under section 35-40 is met. Further, the assets that you own and use in the business activity has a value of at least $100,000 therefore the other assets test under section 35-45 is met and the assessable income test under section 35-30 is met because the business activity has produced assessable income of at least $20,000 in the 20XX income year.

Therefore, the Commissioner will exercise the discretion in paragraph 35-55(1)(a) to allow you to include the losses from the business activity in the calculation of your taxable income for the income year ended 30 June 20XX and the income year ending 30 June 20XX.