Edited version of private advice

Authorisation Number: 1052244365895

Date of advice: 22 April 2024

Ruling

Subject: Small business 15-year exemption

Question

Are you entitled to claim the 15-year exemption for individuals under section 152-105 of the Income Tax Assessment Act 1997 (ITAA 1997) when you transfer the properties to your relative?

Answer

Yes.

This ruling applies for the following period:

Year ending 30 June 2024

The scheme commenced on:

1 July 2023

Relevant facts and circumstances

1.            You own 2 adjoining rural properties known as the properties.

2.            The properties were fully acquired more than 15 years ago and are valued at significantly more than their acquisition costs.

3.            You conducted a livestock business on the properties via the use of managers for more than XX years.

4.            You have been living long distance from the properties since the 1960s whilst carrying on other businesses.

5.            You state that the properties are, for practical purposes, effectively used as a single property.

6.            In 20XX, aged in your seventies, you developed debilitating health issues which made you reassess your involvement in the livestock business. You made the decision to pass the running of the farming business over to a relative, to reduce the stress of actively managing the properties during a prolonged drought. You prepared a Business Plan setting out how the business was to be transferred to your relative.

7.            Your relative took over the running of the business in 20XX through a trust. A lease to the properties was granted. You and the Trust elected to apply the Small Business Restructure Rollover under Subdivision 328-G of the ITAA 1997 for the transfer of business.

8.            Leading up to 20XX your health significantly improved. You decided to start a cattle business on the properties, to be managed by your relative, while you remained in your main residence. This decision was made after you prepared financial modelling that indicated that you could profitably operate a farming business with a small herd.

9.            The lease with the Trust was amended to allow you to agist livestock on both properties.

10.          You started the business in 20XX. Your revenue for that income year was below $X million and is expected to be below $X million in the current income year.

11.          You state the following reasons for getting back into trading livestock in 20XX:

•                     long history of primary production and your business credentials were still current

•                     uncertain and volatile share market investment returns

•                     record low interest rates received on cash in the bank

•                     improving livestock returns

•                     favourable weather and pasture conditions, and

•                     long family and emotional connection to the properties.

12.          A year after later you had to reassess your involvement in the business. Several factors contributed to your decision to retire from this business that is documented in a Business Plan:

•                     deteriorating weather patterns, impending El Nino and drought

•                     falling livestock prices

•                     higher interest rates, better risk-free returns on investments, and

•                     at your age you didn't want the hassle of all the paperwork necessary to run a business, along with the stress of going through another drought.

13.          You were diagnosed with further health conditions that made it difficult to travel to the properties. As a consequence of your decision to retire, you now intend to transfer both properties to your relative now for nil consideration, instead of via your Will, and provided the following reasons:[1]

•                     gifting the properties now allows you to see your relative benefit from the properties that you have had a connection to for your entire life

•                     it will allow your relative to borrow against the equity of the properties and purchase a residence, and

•                     any concerns that other family members will contest your will are negated.

14.          You state that you have no affiliates in relation to the business.

15.          You are not connected to any entities that carry on a business.

16.          Your net assets exceed $X million.

Relevant legislative provisions

Income Tax Assessment Act 1997 Section 102-20

Income Tax Assessment Act 1997 Division 104

Income Tax Assessment Act 1997 Subsection 104-10(1)

Income Tax Assessment Act 1997 Subsection 104-10(3)

Income Tax Assessment Act 1997 Subsection 104-10(4)

Income Tax Assessment Act 1997 Section 108-5

Income Tax Assessment Act 1997 Subsection 116-30(1)

Income Tax Assessment Act 1997 Division 152

Income Tax Assessment Act 1997 Subdivision 152-B

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

Income Tax Assessment Act 1997 Paragraph 152-10(1)(a)

Income Tax Assessment Act 1997 Paragraph 152-10(1)(b)

Income Tax Assessment Act 1997 Paragraph 152-10(1)(c)

Income Tax Assessment Act 1997 Subparagraph 152-10(1)(c)(i)

Income Tax Assessment Act 1997 Paragraph 152-10(1)(d)

Income Tax Assessment Act 1997 Subsection 152-10(1AA)

Income Tax Assessment Act 1997 Section 152-35

Income Tax Assessment Act 1997 Subsection 152-35(1)

Income Tax Assessment Act 1997 Subsection 152-35(2)

Income Tax Assessment Act 1997 Paragraph 152-40(1)(a)

Income Tax Assessment Act 1997 Section 152-105

Income Tax Assessment Act 1997 Paragraph 152-105(a)

Income Tax Assessment Act 1997 Paragraph 152-105(b)

Income Tax Assessment Act 1997 Paragraph 152-105(c)

Income Tax Assessment Act 1997 Paragraph 152-105(d)

Income Tax Assessment Act 1997 Subparagraph 152-105(d)(i)

Income Tax Assessment Act 1997 Section 328-110

Income Tax Assessment Act 1997 Subsection 328-110(1)

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

Does IVA apply to this private ruling?

Part IVA of the Income Tax Assessment Act 1936 contains anti-avoidance rules that can apply in certain circumstances where you or another taxpayer obtains a tax benefit, imputation benefit or diverted profits tax benefit in connection with an arrangement.

If Part IVA applies, the tax benefit or imputation benefit can be cancelled (for example, by disallowing a deduction that was otherwise allowable) or you or another taxpayer could be liable to the diverted profits tax.

We have not fully considered the application of Part IVA to the arrangement you asked us to rule on, or to an associated or wider arrangement of which that arrangement is part.

If you want us to rule on whether Part IVA applies, we will need to obtain and consider all the facts about the arrangement which are relevant to determining whether Part IVA may apply.

For more information on Part IVA, go to our website ato.gov.au and enter 'part iva general' in the search box on the top right of the page, then select 'Part IVA: the general anti-avoidancerule for income tax'.

Reasons for Decision

All legislative references are to the ITAA 1997 unless otherwise noted.

Question

Are you entitled to claim the 15-year exemption for individuals under section 152-105 when you transfer the properties to your relative?

Summary

As you have satisfied all the basic conditions in subsection 152-10(1), have continuously owned the properties for more than 15 years, are aged over 55 at the time the properties will be transferred and CGT event A1 will happen in connection with your retirement, you will be eligible to claim the 15-year exemption for individuals under section 152-105 when you transfer the properties to your relative.

Reasons for decision

1.            Division 152 provides small business relief to allow eligible taxpayers to disregard or defer some or all of a capital gain arising from the disposal of an active asset used in a small business, provided certain conditions (the basic conditions) are met.

2.            Subsection 152-10(1) sets out the basic conditions to be satisfied before a taxpayer can access the small business relief, and states:

A *capital gain (except a capital gain from *CGT event K7) you make may be reduced or disregarded under this Division if the following basic conditions are satisfied for the gain:

(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 the gain;

(c)           at least one of the following applies:

(i)            you are a *CGT 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 CGT small business entity for the income year and the CGT asset is an interest in an asset of the partnership;

(iv)          the conditions mentioned in subsection (1A) or (1B) are satisfied in relation to the CGT asset in the income year;

(d)          the CGT asset satisfies the active asset test (see section 152-35).

3.            Division 104 sets out all the CGT events for which you can make a capital gain or capital loss. Section 108-5 sets out what is a CGT asset. You make a capital gain or loss if a CGT event happens to a CGT asset.[2]

4.            CGT event A1 happens if you dispose of your ownership interest in a CGT asset.[3]

5.            Property is considered to be a CGT asset.[4]

6.            Since you are proposing to dispose of the properties to your relative, CGT event A1 will happen at the time the contract is entered into or when the change of ownership happens.[5] This will result in the first condition in paragraph 152-10(1)(a) being satisfied.

7.            You make a capital gain if the capital proceeds from the disposal are more than the asset's cost base.[6] As you are proposing to transfer the properties for nil consideration to your relative, the market value substitution rule in subsection 116-30(1) will apply and you will be taken to have received the market value of the properties worked out as at the time of the event. You advised that the market values of the properties is significantly in excess of their acquisition costs. This will result in a capital gain being made on the disposal of each property. Therefore, the second condition in paragraph 152-10(1)(b) will be satisfied.

8.            In relation to the third condition in paragraph 152-10(1) it is your view you satisfy subparagraph 152-10(1)(c)(i), that is, you are a CGT small business entity for the income year.

9.            You are a CGT small business entity for an income year if you are a small business entity for the income year and you would be a small business entity for the income year if each reference in section 328-110 to $10 million were a reference to $2 million.[7]

10.          Subsection 328-110(1) 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.

11.          In short, you need to carry on a business in the year of proposed transfer of the properties and you must have had either an aggregated turnover below $2 million in the previous year or a likely aggregated turnover below $2 million in the year of transfer.

12.          The term 'business' is defined in subsection 995-1(1) to include any profession, trade, employment, vocation or calling, but does not include occupation as an employee. However, whether or not the activities of a taxpayer amount to the carrying on of a business is a question of fact and degree to be decided on the facts of each case.

13.          Subsection 995-1(1) defines 'business' to include 'any profession, trade, employment, vocation or calling, but does not include occupation as an employee'. However, this definition simply states what activities may be included in a business. It does not provide any guidance for determining whether the nature, extent, and manner of undertaking those activities amount to the carrying on of a business.

14.          Taxation Ruling TR 97/11 'Income tax: Am I carrying on a business of primary production?' provides indicators that the courts have concluded are relevant when determining whether a business is being carried on.

15.          The indicators provided in TR 97/11 are:

•                     whether the activity has a significant commercial purpose or character

•                     whether the taxpayer has more than just an intention to engage in business

•                     whether the taxpayer has a purpose of profit as well as a prospect of profit from the activity

•                     whether there is repetition and regularity of the activity

•                     whether the activity is of the same kind and carried on in a similar manner to that of the ordinary trade in that line of business

•                     whether the activity is planned, organised and carried on in a businesslike manner such that it is directed at making a profit

•                     the size, scale, and permanency of the activity

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

16.          Paragraph 15 of TR 97/11 states that no one indicator is decisive (Evans v. FC of T 89 ATC 4540; (1989) 20 ATR 922). In addition, paragraph 16 of TR 97/11 states that the indicators must be considered in combination and as a whole. Whether a business is being carried on depends on the general impression gained from looking at all the indicators (Martin v. Federal Commissioner of Taxation (1953) 90 CLR 470 at 474; 5 AITR 548 at 551), and whether these factors provide the operations with a 'commercial flavour' (Ferguson v. Commissioner of Taxation (1979) 37 FLR 310 at 325; 79 ATC 4261 at 4271; (1979) 9 ATR 873 at 884).

17.          Each case must be judged on its own particular facts and the determination of the question is generally a result of a process of weighting all the relevant indicators together to form a general opinion of whether a business is being carried on. Each of these indicators will now be considered in relation to the activities conducted by you on the properties.

Whether the activity has a significant commercial purpose or character

18.          Paragraph 30 of TR 97/11 provides a list of factors to show whether an activity has a significant commercial purpose or character. In applying these factors to your activity collectively point towards a significant commercial purpose and character:

•                     drawn up a business plan - you drew up business plans

•                     sought expert advice - various consultants are consulted as required

•                     obtained soil and water analyses of the land - bore wells are tested every few years through a Government monitoring scheme

•                     established that the land is suitable for farming - your family has conducted livestock farming activities on the properties for many decades

•                     considered whether there is a market for the product - you have sought ongoing advice from a livestock agent

•                     properly investigated the capital requirement of the venture - your business plan confirms you have sufficient capital to conduct operations, in addition to the pre-existing infrastructure such as irrigation channels, bores, fencing, gates, sheds and roads

•                     conducted research into the activity - while you have many years' experience running a primary production business on the properties, you also receive weekly emails and stay across trends in the industry

•                     size and scale is sufficient for a commercial enterprise - your financial modelling indicates that you could profitably operate a livestock business on the properties

•                     an intention to make a profit - you have drawn up business plans, conducted financial modelling, have large scale capital already invested and have previously conducted successful primary production activities on the properties.

Whether the taxpayer has more than just an intention to engage in business

19.          You made the decision to start the business again after you prepared financial modelling that indicated that you could profitably operate a livestock business with a small herd. Moreover, record low interest rates on cash in the bank and uncertainty on share investments resulted in you reconsidering going back to the livestock business where prices and margins were at an all-record high. This led to you starting the business in 20XX

20.          It is accepted that you have undertaken tangible activities and had more than just an intention to engage in business.

Whether the taxpayer has a purpose of profit as well as a prospect of profit from the activity

21.          The financial modelling prepared indicates a profit-making intention. This shows you had a profit-making purpose and a realistic prospect of achieving profit from the activity, especially given you have a long history of engaging in a livestock business and therefore knowledge of this business.

Whether there is repetition and regularity of the activity

22.          At all times since 20XX, you had a small cattle herd. There are regular and continuous activities to maintain this herd, including:

•                     rotating stock between paddocks for fresh pasture

•                     ensuring water supply and cleaning water troughs

•                     mating

•                     pregnancy testing

•                     buying and selling

•                     continual contact about market conditions, livestock prices and when to sell

•                     freight and shipping after purchase and before sale, and

•                     maintaining breeding records.

23.          You travel to the properties several times per year to inspect herd and property and regularly discuss business matters.

24.          It is accepted that there is repetition and regularity.

Whether the activity is of the same kind and carried on in a similar manner to that of the ordinary trade in that line of business

25.          Paragraph 64 of TR 97/11 lists a range of factors that should be compared with the characteristics of others engaged in the same type of business. You have responded to these factors.

26.          With your experience in this industry, the information provided shows that the business is carried on in a similar manner to that of the ordinary trade in that line of business. Further, when you commenced the business again, you used the same method in running the business as you used previously, i.e., by using a manager.

Whether the activity is planned, organised and carried on in a businesslike manner such that it is directed at making a profit?

27.          You have prepared business plans, financial models have been provided by consultants and breeding records are maintained. All sales and purchase records are maintained, including invoices, receipts and transaction records. Furthermore, training is provided and expert advice sought on market conditions.

28.          It is accepted that the activity is planned, organised and carried on in a businesslike manner such that it is directed at making a profit.

The size, scale, and permanency of the activity

29.          There is a lack of permanence to the activity given your decision to retire so soon after commencing the activity. However, your reasons for stopping this business were based on a number of factors. Although the size and scale of the activity is considered small, you agist your livestock on your properties that is managed by your relative and pay agistment fees. As you will make an overall profit based on the number of livestock owned, it is considered sufficient for this indicator to be met.

Is the activity better described as a hobby, a form of recreation or a sporting activity?

30.          From the information provided, the activity does not meet the description of recreation, hobby or sports, as you carried it out in a business-like manner.

Conclusion on carrying on a business

31.          The weighing of all the indicators in TR 97/11 leads to the conclusion that you are carrying on a business.

32.          Your turnover for the current income year is expected to be below $2 million, while your turnover in the previous income year was below $2 million. Since you do not have any affiliates or connected entities that carry on a business, these figures also represent your aggregated turnover. Since both these figures are below $2 million, you fall within the meaning of a CGT small business entity in subparagraph 152-10(1)(c)(i) and therefore satisfy the third condition in paragraph 152-10(1)(c).

33.          The final condition in paragraph 152-10(1)(d) requires the CGT asset to satisfy the active asset test in section 152-35.

34.          Subsection 152-35(1) relevantly states:

A CGT asset satisfies the active asset test if:

(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 7½ years during the period specified in subsection (2).

35.          Subsection 152-35(2) states the period begins when you acquired the asset and ends the earlier of when the CGT event happens, or the relevant business ceased.

36.          You have owned the properties for more than 15 years. To satisfy the active asset test, the properties must also have been an active asset of yours for at least 7½ years when the CGT event happens.

37.          A CGT asset is an active asset if your own the asset and it is used, or held ready for use, in the course of carrying on a business.[8] You conducted a primary production business on the properties for more than XX years.

38.          Therefore, as you held the properties for more than 15 years and they were active assets for at least XX years during that period, the properties will satisfy the active asset test in paragraph 152-10(1)(d).

39.          You therefore satisfy all the basic conditions in subsection 152-10(1).

Small business 15-year exemption

40.          There are 4 small business concessions available. You are seeking to apply the small business 15-year exemption in Subdivision 152-B, which takes priority over the other small business concessions. If the small business 15-year exemption applies, the entire capital gain is disregarded so there is no need to apply any further concessions.

41.          Section 152-105 states:

If you are an individual, you can disregard a *capital gain arising from a *CGT event if all of the following conditions are satisfied:

(a) the basic conditions in Subdivision 152-A are satisfied for the gain;

(b) you continuously owned the *CGT asset for the 15-year period ending just before the CGT event;

(c) if the CGT asset is a *share in a company or an interest in a trust - the company or trust had a *significant individual for a total of at least 15 years (even if the 15 years was not continuous and it was not always the same significant individual) during which you owned the CGT asset;

(d) either:

(i) you are 55 or over at the time of the CGT event and the event happens in connection with your retirement; or

(ii) you are permanently incapacitated at the time of the CGT event.

42.          As discussed above, all the basic conditions in subsection 152-10(1) are satisfied, therefore the first condition in paragraph 152-105(a) is satisfied.

43.          You have owned the properties for more than 15 years, meaning the second condition in paragraph 152-105(b) is satisfied.

44.          The third condition in paragraph 152-102I(c) is not relevant to this case as the asset is neither shares nor an interest in a trust.

45.          At the time of transfer of the properties to your relative, you will be over 55 years of age and are not permanently incapacitated. The fourth and final condition in subparagraph 152-105(d)(i) therefore requires the CGT event to happen in connection with your retirement.

46.          You have stated that you are retiring, citing deteriorating weather patterns, falling prices, higher interest rates, better risk-free returns on investments, and at your age you don't want the hassle of all the paperwork necessary to run a business, along with the stress of going through another drought. As you will no longer be running a livestock business, it is accepted that the CGT event will happen in connection with your retirement. Therefore, the fourth and final condition in paragraph 152-105(d) is satisfied.

47.          You will satisfy all the requirements in section 152-105 when you transfer the properties to your relative and are eligible able to apply the small business 15-year exemption to disregard the capital gain that will be made.

[1] Refer to your email sent on 13 December 2023.

[2] Section 102-20.

[3] Subsection 104-10(1).

[4] Section 108-5.

[5] Subsection 104-10(3).

[6] Subsection 104-10(4).

[7] Subsection 152-10(1AA).

[8] Paragraph 152-40(1)(a).