Private ruling: Capital gains tax concessions for small business
Published: May 2013
Ruling period: Year ending 30 June 2013
Date scheme commenced: 1 July 2012

Ruling: Q1: Do you satisfy the basic conditions required to be eligible for the capital gains tax (CGT) concessions for small business under Division 152 of the Income Tax Assessment Act 1997 (ITAA 1997)? | A1: No

Relevant facts and circumstances: The X Partnership (X) was established for the purposes of owning and leasing a freehold interest in premises and plant and equipment used in a business. The business is operated by an associated entity, Y Unit Trust (Y). The freehold interest is leased to Y on an arm's length basis and the arrangement is formally documented. Y is a fixed unit trust. X consists of the following partners (with interest percentage): · You (14.48%) · A Trust (23.68%) · B Trust (23.68%) · C Trust (23.68%) · D Trust (14.48%) The unit holders of Y are the same as in X and in the same ownership percentage. You state that the other partners of X and unit holders of Y are not related parties or affiliates, merely other investors in the business venture. The partners of X are considering the creation of a new lease and the sale of this lease to an independent third party. You state that Y qualifies as a small business entity. You state that the underlying asset (the freehold interest) was acquired in early 2000. You state that the lease has been used by Y since early 2000.

Relevant legislative provisions: Income Tax Assessment Act 1997 Section 152-10 | Income Tax Assessment Act 1997 Section 152-35 | Income Tax Assessment Act 1997 Section 152-40 | Income Tax Assessment Act 1997 Section 328-125 | Income Tax Assessment Act 1997 Section 328-130 | Income Tax Assessment Act 1997 Paragraph 108-5(2)(c)

Reasons for decision: Detailed Reasoning - Small business CGT concession eligibility: Section 152-10 of the Income Tax Assessment Act 1997 (ITAA 1997) contains the basic conditions you must satisfy to be eligible for the small business capital gains tax (CGT) concessions. These conditions are: (a) a CGT event happens in relation to a CGT asset in an income year. (b) the event would have resulted in the 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 in section 152-15 of the ITAA 1997 (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) the conditions in subsection 152-10(1A) or (1B) of the ITAA 1997 are satisfied in relation to the CGT asset in the income year. (a) the CGT asset satisfies the active asset test in section 152-35 of the ITAA 1997. | Detailed Reasoning - Active asset test: 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. 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. | Detailed Reasoning - Entity 'connected with' you: Subsection 328-125(1) of the ITAA 1997 explains that an entity is connected with another entity if: a) either entity controls the other entity in a way described in this section; or b) both entities are controlled in a way described in this section by the same third entity. Subsection 328-125(2) of the ITAA 1997 provides that an entity (the first entity) controls another entity if the first entity, its affiliates, or the first entity together with its affiliates: beneficially owns, or has the right to acquire beneficial ownership of, interest in the other entity that give the right to receive at least 40% (the control percentage) of any distribution of income or capital by the other entity. | Detailed Reasoning - Affiliate: Subsection 328-130(1) of the ITAA 1997 explains that an individual or a company is an affiliate of yours if the individual or company acts, or could reasonably be expected to act, in accordance with your directions or wishes, or in concert with you, in relation to the affairs of the business of the individual or company. | Detailed Reasoning - Application to your circumstances: It is the individual partners who make a capital gain or capital loss from a CGT event, not the partnership itself. For CGT purposes, each partner owns a proportion of each CGT asset and each partner calculates a capital gain or capital loss on their share of each asset. ATO Interpretative Decision ATO ID 2004/650 explains that the words 'in relation to' in paragraph 152-10(1)(a) of the ITAA 1997, are wide enough to allow reference to an underlying asset such as the premises over which a lease has been granted. The note in ATO ID 2004/650 states that it is the underlying asset premises that must satisfy the active asset test in terms of paragraph 152-10(1)(d) of the ITAA 1997. Therefore, the relevant CGT asset in this case is your interest in the motel freehold, which is a CGT asset under paragraph 108-5(2)(c) of the ITAA 1997. Your interest in the freehold was not used by you or the partnership in the course of carrying on a business during the period of ownership. Your interest in the freehold was used by Y in the course of carrying on its business. It will therefore need to be determined whether Y is your affiliate, or is an entity connected with you. Only an individual or a company can be an affiliate, therefore as Y is a trust, it can not be an affiliate of yours. The other unit holders of Y can not be affiliates of yours either as all of the other unit holders are trusts. As none of the other partners in the partnership are affiliates of yours, and you only hold 14.48% of the units in Y, your control percentage is less than the 40% required to be considered 'connected with' Y. Accordingly, as the asset was not 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, it can not be an active asset. As the asset is not an active asset, you do not satisfy all the basic conditions necessary to be eligible for the capital gains tax concessions for small business.