Private ruling: Small business restructure rollover
Date of advice: 3 December 2018
Published: March 2019
Ruling period: Year ending 30 June 2019
Date scheme commenced: 1 July 2018

Ruling: Q1: Will the Partnership and the Company be eligible to apply the small business restructure rollover in subdivision 328-G of the Income Tax Assessment Act 1997 (ITAA 1997) in the event of the Partnership transferring ownership of the warehouse to the Company? | A1: Yes. | Q2: Will the Partnership and the Company be eligible to apply the small business restructure rollover in subdivision 328-G of the ITAA 1997 in the event of the Partnership transferring ownership of the retail shop to the Company? | A2: No.

Relevant facts and circumstances: A partnership (the Partnership) carries on a business. The partners in the Partnership are family members. The assets of the Partnership are owned in equal proportions by the partners. The business is operated out of a warehouse which was purchased by the partners. The main worker in the business is a relative of the partners with another relative carrying out part-time administrative work from the office at the warehouse. The main employment of the partner is elsewhere and they provide assistance at the warehouse in running the business on weekends and ‘out of hours’. The activities of the business carried on from the warehouse involve taking deliveries of stock, sorting, temporary storage and delivering orders to its customers. There is no private use of the warehouse by the partners or anyone else. The Partnership also owns a retail shop which is leased to an individual who is not related to any of the partners in the Partnership. The Partnership has had a turnover of substantially less than $10 million in all income years of its operation to date. The partners intend to transfer the assets of the Partnership to a Company (the Company) in which they are shareholders in equal proportions. The partners wish to legally separate the assets of the Partnership from their personal affairs by changing to a company structure. There are no plans to wind down or sell the business in the foreseeable future. The partners and the Company are Australian tax residents. Both the Partnership and the Company will choose to apply the small business restructure roll-over if eligible.

Relevant legislative provisions: Income Tax Assessment Act 1997 subsection 152-40(1) | Income Tax Assessment Act 1997 paragraph 152-40(4)(e) | Income Tax Assessment Act 1997 subdivision 328-G | Income Tax Assessment Act 1997 section 328-430 | Income Tax Assessment Act 1997 paragraph 328-430(1)(b) | Income Tax Assessment Act 1997 paragraph 328-430(1)(c) | Income Tax Assessment Act 1997 section 328-455

Reasons for decision: Summary: The Partnership and the Company will be eligible to apply the small business restructure rollover in subdivision 328-G of the ITAA 1997 in the event of the Partnership transferring ownership of the warehouse to the Company. However, the Partnership and the Company will not be eligible to apply the small business restructure rollover in the event of the Partnership transferring ownership of the retail shop to the Company. | Detailed Reasoning - Detailed reasoning: Subdivision 328-G of the ITAA 1997 provides for a small business restructure rollover where a small business entity transfers an active asset of the business to another small business entity as part of a genuine business restructure without changing the ultimate economic ownership of the asset. The effect of the roll-over is that the transfer results in no capital gain or loss for the transferor of the asset. A roll-over is available in relation to a transferred asset if the following criteria set out in subsection 328-430(1) of the ITAA 1997 are satisfied: ● the transfer of the asset is, or is part of, a genuine restructure of an ongoing business; ● each party to the transfer is either a small business entity (or affiliate of, or connected with a small business entity) or a partner in a partnership that is a small business entity; ● there is no material change in the ultimate economic ownership of the transferred asset; ● the asset being transferred is a CGT asset (other than a depreciating asset) that is an active asset, and for a partnership, is also an interest in an asset of the partnership; ● both the transferor and each transferee are residents of Australia; and ● both the transferor and each transferee choose to apply the roll-over. Where there is a transfer of an asset that qualifies for the roll-over, the income tax law applies to the transferor and the transferee of the asset as if the transfer takes place for the asset’s ‘roll-over cost’. In the case of a CGT asset (that is not trading stock, a depreciating asset or a revenue asset), the roll-over cost is the transferor’s cost base for the asset just before the transfer takes place (section 328-455 of the ITAA 1997). Law Companion Ruling LCR 2016/2 Small Business Restructure Roll-over: consequences of a roll-over provides additional guidance for taxpayers on the consequences of choosing to apply a roll-over. | Detailed Reasoning - Small business entity: An entity is a small business entity if it carries on business and its aggregated turnover for the previous income year is less than $10 million or is likely to be less than $10 million for the current income year (section 328-110 of the ITAA 1997). The Partnership is a small business entity as it satisfies the income requirement. | Detailed Reasoning - Active asset: A CGT asset (whether a tangible or intangible asset) is an active asset at a time if, at that time, you own the asset and it is used, or held ready for use, in the course of carrying on a business that is carried on (whether alone or in partnership) by you, an affiliate of yours, or by another entity that is connected with you (subsection 152-40(1) of the ITAA 1997). However, a CGT asset cannot be an active asset of a business if its main use is to derive passive investment income such as rent, interest or royalties, unless the use is only temporary (paragraph 152-40(4)(e) of the ITAA 1997). Leasing a property with the intention of obtaining rental income does not constitute the carrying on of a business. Paragraph 152-40(4)(e) of the ITAA 1997 provides the following example of the difference between rental income and business income: A company uses a house purely as an investment property and rents it out. The house is not an active asset because the company is not using the house in the course of carrying on a business. If, on the other hand, the company ran the house as a guest house the house would be an active asset because the company would be using it to carry on a business and not to derive rent. In this case, the partners in the Partnership own the warehouse which is used in the course of carrying on the business of the Partnership, so it meets the active asset requirement. However, in the case of the retail shop, the Partnership is deriving rental income from the shop by leasing it out on an ongoing basis. Therefore, the shop is not an active asset as the Partnership is not using it in the course of carrying on a business. Consequently, the retail shop is not eligible for the small business restructure rollover as it is excluded by paragraph 152-40(4)(e) of the ITAA 1997. | Detailed Reasoning - Genuine Restructure: Whether a transaction is or is part of a genuine restructure of an ongoing business is a question of fact that is determined having regard to all of the circumstances surrounding the restructure (paragraph 328-430(1)(a) of the ITAA 1997). Law Companion Ruling LCR 2016/3 Small Business Restructure Roll-over: genuine restructure of an ongoing business and related matters (LCR 2016/3) states that a genuine restructure of an ongoing business is one that could be reasonably expected to deliver benefits to small business owners in respect of their efficient conduct of the business going forward. Benefits of a restructure can include transferring personally owned assets to a trust or company for the purposes of asset protection (see example 1 of LCR 2016/3). However, the rollover is not available to small business owners who are restructuring in the course of winding down or realising their ownership interests, for example. In this case, the warehouse is being transferred from the partners to the Company for asset protection purposes which is an accepted commercial practice. Therefore, the proposed transfer is considered to be part of the genuine restructure of an ongoing business. | Detailed Reasoning - Ultimate economic ownership: In addition to the above requirements, the transfer must not have the effect of ‘materially changing’ the ultimate economic ownership of the transferred asset(s). Where there is more than one ultimate economic owner, each individual’s share of that ultimate economic ownership must not be materially changed (paragraph 328-430(1)(c) of the ITAA 1997). In this case, the warehouse which is owned by the partners in equal proportions is being transferred to the Company in which the partners are s hareholders in equal proportions. Therefore, it is evident that the transfer will not materially change the ultimate economic ownership of the transferred asset.