Edited version of private advice

Authorisation Number: 1052254002278

Date of advice: 13 June 2024

Ruling

Subject: CGT - small business concessions

Question 1

Was the trust a CGT small business entity for the income year ending 30 June 20XX, as defined in section 152-10(1AA) of the Income Tax Assessment Act 1997 (ITAA 1997)?

Answer

Yes.

Question 2

Will the disposal of the shares in the object entity satisfy the active asset test in section 152-35 and 152-40 of the ITAA 1997?

Answer

Yes.

Question 3

Are the additional basic conditions in section 152-10(2) of the ITAA 1997 satisfied for the disposal of the shares in the object entity?

Answer

Yes.

This ruling applies for the following period:

Year ended 30 June 2023

The scheme commenced on:

1 July 2020

Relevant facts and circumstances

The trust was formed and Person A and Person B are the primary beneficiaries of the trust.

The trust acquired 1 fully paid ordinary share in the object entity upon incorporation of the object entity.

Later, the trust received a further issue shares. The total shares owned by the trust Just before the CGT event represented approximately XX% of the object entity's share capital.

A few months before the CGT event, Person A restructured their advisory business to be owned and operated through the trust.

The restructure has included registering a business name, opening bank accounts, registering a domain name and email addresses, developing brand material, obtaining professional indemnity insurance, purchasing accounting software for record keeping and obtaining finance.

Person A had clients that moved over to the trust upon the restructure and the trust has since acquired further clients.

The trust activities include website and social media advice and management, project management, fly-in event support, branding advice, website design and copywriting.

At all times during the 2023 income year the trust has kept business records including financial statements and invoices for services rendered by the trust.

The trust's income for the 20XX income year was $X.

In the relevant year, the trust sold all of its shares in the object entity to a third party which resulted in a capital gain for the trust.

A trust resolution resolved to distribute income as follows:

a.    X% to Person A

b.    X% to Person B

c.     X% to Person C

d.    X% to Person D

The object entity

The object entity is an Australian resident company and owns 100% shares in the later entity. Information from the financial statements is as follows:

Table 1: Information from the financial statement is as follows:

The later entity

The object entity operates a business. Information from the financial statements is as follows:

Table 2: Information from the financial statement (where the object entity operates a business) is as follows:

Financial instruments and cash of the object entity is inherently connected with the business and were not acquired for a purpose that included assisting an entity to satisfy the 80% test.

Relevant legislative provisions

Income Tax Assessment Act 1997 subsection 152-10

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

Income Tax Assessment Act 1997 subsection152-10(2)

Income Tax Assessment Act 1997 paragraph 152-10(2)(a)

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

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

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 section 152-40

Income Tax Assessment Act 1997 subsection 152-40(3)

Income Tax Assessment Act 1997 paragraph 152-40(3)(b)

Income Tax Assessment Act 1997 subparagraph 152-40(3)(b)(i)

Income Tax Assessment Act 1997 subparagraph 152-40(3)(b)(ii)

Income Tax Assessment Act 1997 subparagraph 152-40(3)(b)(iii)

Income Tax Assessment Act 1997 section 152-55

Income Tax Assessment Act 1997 section 152-60

Income Tax Assessment Act 1997 section 152-65

Income Tax Assessment Act 1997 section 152-70

Income Tax Assessment Act 1997 section 152-75

Income Tax Assessment Act 1997 subsection328-110(1)

Income Tax Assessment Act 1997 subsection328-115(1)

Income Tax Assessment Act 1997 subsection328-115(2)

Income Tax Assessment Act 1997 subsection328-115(3)

Income Tax Assessment Act 1997 section328-125

Income Tax Assessment Act 1997 subsection328-125(6)

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

Question 1

Was the trust a CGT small business entity for the income year ending 30 June 20XX, as defined in section 152-10(1AA) of the ITAA 1997?

Summary

Yes. The activities of the trust amount to carrying on of a business activity and the turnover of the trust, the object entity and the later entity together equal less than $2 million, therefore the trust is a small business entity for the income year ending 30 June 2023.

Detailed reasoning

Section 152-10(1AA) of the ITAA 1997 states you are a CGT small business entity for an income year if:

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

(b) 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.

Small business entity

Subsection 328-110(1) of the ITAA 1997 states you are a small business entity 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.

Carrying on a business

Taxation Ruling 97/11 Income tax: am I carrying on a business of primary production? (TR 97/11) provides the Commissioners view on whether a taxpayer is carrying on a business. Although TR 97/11 deals with the issues in determining whether a taxpayer is carrying on a business of primary production, the same principles can be applied to the question of whether a taxpayer is carrying on any type of business.

Paragraph 13 of TR 97/11 states that the following indicators are relevant in determining whether a taxpayer is carrying on a business:

•         whether the activity has a significant commercial purpose or character;

•         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; and

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

Whether a business is being carried on depends on the impression gained from looking at all the indicators against the case facts and whether these indicators provide the operations with a commercial flavour.

Aggregated turnover

Subsection 328-115(1) of the ITAA 1997 states your aggregated turnover for an income year is the sum of the relevant annual turnovers (see subsection (2)) excluding any amounts covered by subsection (3).

Section 328-115(2) of the ITAA 1997 states the relevant turnovers are:

a)    your annual turnover for the income year; and

b)    the annual turnover for the income year of any entity (a relevant entity) that is connected with you at any time during the income year; and

c)    the annual turnover for the income year of any entity (a relevant entity) that is an affiliate of yours at any time during the income year.

Subsection 328-115(3) of the ITAA 1997 states your aggregated turnover for an income year does not include the following amounts:

a)    amounts derived in the income year by you or a relevant entity from dealings between you and the relevant entity while the relevant entity is connected with you or is your affiliate;

b)    amounts derived in the income year by a relevant entity from dealings between the relevant entity and another relevant entity while each relevant entity is connected with you or is your affiliate;

c)    amounts derived in the income year by a relevant entity while the relevant entity is not connected with you and is not your affiliate.

Application to your circumstances

In your case, Person A moved their business into the trust in around a few months before the CGT event. The restructure has included:

•         registering a business name

•         opening bank accounts

•         registering a domain name and email addresses

•         developing brand material

•         obtaining professional indemnity insurance

•         purchasing accounting software for record keeping

•         obtaining finance

•         moving clients over to the trust, and

•         acquiring new clients.

Activities undertaken include:

•         website and social media advice and management

•         project management

•         fly-in event support

•         branding advice

•         website design and copywriting.

The activities of the business are similar to other businesses and has a commercial purpose and character. It is directed at making a profit and not considered to be a hobby. The Commissioner is satisfied that the trust is carrying on a business in the 20XX income year.

The aggregated turnover of the trust is under $2 million because in the 20XX income year, the relevant turnovers were:

•         The trust $X

•         The object entity $X

•         The later entity $X

The total of the turnovers is less than $2 million.

Therefore, as the trust is carrying on a business and the aggregated turnover is less than $2 million, the trust is a CGT small business entity.

Question 2

Will the disposal of shares satisfy the active asset test in section 152-35 and 152-40 of the ITAA 1997?

Summary

Yes. As the later entity satisfies the 80% test, the shares owned by the object entity in the later entity are active assets. Considering the principle in TD 2006/65, we accept that the later entity satisfies the 80% test and therefore the shares held by the trust are also active assets.

Detailed reasoning

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).

Taxation Determination TD 2006/65 Income Tax: capital gains: small business concessions: can a share in a company or an interest in a trust qualify as an active asset under subsection 152-40(3) of the Income Tax Assessment Act 1997 if the company or trust owns interests in another entity that satisfies the '80% test'? (TD 2006/65) explains at paragraph 1 the following:

A share in a company or an interest in a trust can qualify as an active asset under subsection 152-40(3) of the ITAA 1997 if the company or trust owns interests in another entity that satisfies the '80% test' in paragraph 152-40(3)(b) of the ITAA 1997. The '80% test' operates successively at each level in a chain of entities to determine the active asset status of the underlying interests.

Example 1 at paragraph 2 and 3 states:

Ben owns all the shares in Holding Co which, in turn, owns all the shares in Operating Co (both are resident companies). The only assets of Holding Co are the shares in Operating Co and all of Operating Co's assets are active assets.

As Operating Co satisfies the 80% test, the shares owned by Holding Co in Operating Co are active assets. As those shares are the only assets owned by Holding Co, Holding Co also satisfies the 80% test and therefore the shares owned by Ben in Holding Co are also active assets.

Application to your circumstances

In your case, the active asset test is satisfied because:

•         the asset is a share in a company that is an Australian resident, and

•         the market value of the assets of the object entity and the market value of any financial instruments of the later entity that are inherently connected with a business that the later entity carries on, and, any cash of the later entity is inherently connected with the business, is 80% or more of the market value of all the assets of the later entity.

As the later entity satisfies the 80% test, the shares owned by the object entity in the later entity are active assets. Considering the principle in TD 2006/65, we accept that the later entity satisfies the 80% test and therefore the shares held by the trust are also active assets.

Question 3

Are the additional basic conditions for shares in a company in section 152-10(2) of the ITAA 1997 satisfied?

Summary

Yes. The additional basic conditions are satisfied because the trust was carrying on a business before the CGT event, the later entity is a small business entity, the CGT concession stakeholders in the object entity had a total small business participation percentage of at least 90% in the trust and no cash or cash equivalents were obtained in order to satisfy the modified active asset test.

Detailed reasoning

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.

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).

Application to your circumstances

The trust satisfied the additional basic conditions set out in subsection 152-10(2) of the ITAA 1997 because:

•         the shares would have still satisfied the active asset test if the assumptions in section 152-10(2A) of the ITAA 1997 were made, because:

o   no financial instruments or cash were obtained for a purpose that included assisting an entity to satisfy the active asset test, and

o   the only assets included in the modified active asset test are the assets of the object entity and the later entity. As outlined in question 2 we accept the shares satisfy the active asset test.

•         The trust was carrying on a business just before the CGT event

•         the object entity is a CGT small business entity for the 20XX income year, if the assumptions in section 152-10(2A) of the ITAA 1997 were made, because:

o   they are carrying on a business, and

o   they have an aggregated turnover of less than $2m

•         just before the CGT event, CGT concession stakeholders in the object entity together had a small business participation percentage in the trust of at least 90%, because:

o   Person A and Person B each had a direct small business participation percentage in the trust of X%, totalling X%, in the relevant year

o   The trust has X% interest in the object entity.