Private ruling: Non-commercial losses - Commissioner’s discretion lead time
Date of advice: 6 December 2017
Published: April 2018
Ruling period: Year ended 30 June 2017
Date scheme commenced: 1 July 2016

Ruling: Q1: Will the Commissioner exercise the discretion in paragraph 35-55(1)(b) of the Income Tax Assessment Act 1997 (ITAA 1997) to allow you to include any losses from your primary production business activity in your calculation of taxable income for the 2017 financial year? | A1: No

Relevant facts and circumstances: You satisfy the <$250,000 income requirement set out in subsection 35-10(2E) of the ITAA 1997. You purchased a property to establish an Asset X farm. You intend to make $20,000 in assessable income in the 2021 financial year. You have ordered Asset X. These are due for delivery in the 2018 financial year. The delay in delivering Asset X is due to an industry wide delay. You intend to expand your farm using the staggered approach. You currently have Asset Y to help maintain the property until Asset X is delivered. You intend to increase numbers of Asset Y in the future. You will become a member of the Asset X Association. You are currently repairing the property and improving it in readiness for the Asset X.

Relevant legislative provisions: Income Tax Assessment Act 1997 subsection 35-10(1) | Income Tax Assessment Act 1997 subsection 35-10(2) | Income Tax Assessment Act 1997 subsection 35-10(2E) | Income Tax Assessment Act 1997 paragraph 35-55(1)(b)

Reasons for decision: Summary: For the 2009-10 and later income years, Division 35 of the Income Tax Assessment Act 1997 (ITAA 1997) 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 ● the Commissioner exercises his discretion. In your situation, none of the exceptions would apply and although you satisfy the income requirement, you do not meet any of the four tests in the years of income under consideration. Your losses are therefore subject to the deferral rule, unless the Commissioner exercises his discretion. The relevant discretion may be exercised for the income year in question where: ● it is in the nature of the business activity that there will be a period of time before it can be expected to pass one of the four tests ● there is an objective expectation your business activity will produce a tax profit or meet one of the four tests within a commercially viable period for your industry. The note to section 35-55 of the ITAA 1997 which contains the discretion states this discretion is intended to cover a business activity where there is an inherent period of time between the commencement of the activity and the production of assessable income. For example, an activity involving the planting of hardwood trees for harvest, where many years would pass before the activity could reasonably be expected to produce income. The note above does not support any view that the discretion should available where the failure to make a profit is for reasons other than the nature of the business, such as, a consequence of starting out small and needing to build up a client base, or business choices made by an individual that are not consistent with the ordinary or accepted practice in the industry concerned Before the Commissioner can consider his discretion, he must be confident that the business has actually commenced. If an activity isn’t considered to have commenced, the Commissioner cannot consider exercising his discretion. Paragraph 105 of Taxation Ruling TR 2001/14 Income tax: Division 35 – non-commercial business losses , states that for a business activity to have commenced a person must have: ● purpose, intention and decision to commence the business activity ● acquired a minimum level of business assets to allow that business activity to be carried on, and ● actually commenced business operations ( Calkin v. CIR [1984] 1 NZLR 440). All factors are necessary to be able to conclude that a business has commenced. Whilst you would have satisfied the first factor, even with the decision to order the stock, you haven’t satisfied the second factor being ‘acquired’ the minimal level of business assets. Without the stock purchase, you could not possibly satisfy the third factor, which is the commencement of the business operations. This would occur when you have planted Asset X. If you have incurred expenses before commencing the business of primary production, these expenses are not deductible as they are considered preparatory activities according to paragraph 41 of Taxation Ruling TR 97/11 Income tax: am I carrying on a business of primary production . Paragraph 28 to 30 of TR 97/11, provides guidance as to whether a business is carrying on a business of primary production. The business must have significant commercial purpose or character which is particularly linked to the size and scale of the activity, the repetition and regularity of the activity and the profit indicators. The limited numbers of Asset Y you currently have on your farm does not have significant commercial purpose or character due to the small scale and size of this activity. For the Commissioners discretion to be applied, your business needs to have moved past your preparatory stages. Since the activity you are undertaking is unable to be profitable in its current form, then you are not carrying on a business and the Commissioner cannot apply their discretion for non-commercial losses. However, you can defer your losses and offset against future profits from the business activity.