Private ruling: Sale of business
Ruling period: Year ended 30 June 2012 | Year ended 30 June 2013
Date scheme commenced: 1 July 2011

Ruling: Q1: Will any capital gain or loss arising from the future sale of your business be disregarded under paragraph 104-10(5)(a) of the Income Tax Assessment Act 1997 (ITAA 1997)? | A1:  | Q2: Do you satisfy the basic conditions for the small business capital gains tax (CGT) concessions in Division 152 of the ITAA 1997 upon the future sale of the assets? | A2:  | Q3: Can you apply the 50% active asset reduction and small business retirement exemptions available under Subdivisions 152-C and 152-D respectively of the ITAA 1997? | A3: 

Relevant facts and circumstances: You commenced business as a sole trader prior to 20 September 1985. The business has operated continuously and is substantially unchanged, and your core activities are still the same. Subsequently you acquired land where your business has been located ever since. You later built factory/retail units on the site. You used one of the units yourself to base your business. The other unit was leased to an unrelated business operator. In recent years you built further factory/retail units on the site. All units are joined and share the same roof and are on the same title. The new units were rented to unrelated business operators. Currently your business occupies less than half of the available business space of the units. Prior to the expansion your business occupied half of the available space. A comparison of your gross rental income compared to your gross income from all business has been conducted. The rent increased significantly in the first year when the new units were rented out. Since that time, the total income from the business has steadily declined to the point where it is now a little over half the figure that it was in that year. When you eventually sell your business, 75% of the sale proceeds will be for the payment of goodwill. The remainder will be for stock on hand as well as tools and equipment that you use in the business. You are a sole trader and are over 55 years of age. Your total assets, including those of your affiliates, is less than $6 million.

Relevant legislative provisions: Income Tax Assessment Act 1997 Section 40-285 | Income Tax Assessment Act 1997 Section 70-90 | Income Tax Assessment Act 1997 Section 104-10 | Income Tax Assessment Act 1997 Paragraph 108-5(1)(a) | Income Tax Assessment Act 1997 Section 118-24 | Income Tax Assessment Act 1997 Section 118-25 | Income Tax Assessment Act 1997 Section 152-10 | Income Tax Assessment Act 1997 Section 152-15 | Income Tax Assessment Act 1997 Section 152-35 | Income Tax Assessment Act 1997 Section 152-40 | Income Tax Assessment Act 1997 Section 152-305 | Income Tax Assessment Act 1997 Section 152-320

Reasons for decision: Summary: The goodwill of your business is considered to be a pre-CGT asset and the capital gain may be disregarded under paragraph 104-10(5)(a) of the ITAA 1997. The trading stock would not be considered a CGT asset by virtue of section 118-25 of the ITAA 1997. As the tools and equipment are depreciating assets they will not give rise to a capital gain or loss as per section 118-24 of the ITAA 1997. Therefore, upon the future sale of your business, a capital gain or loss will not arise. However, you will be required to include in your assessable income the market value of your trading stock on the date of disposal. | Detailed Reasoning - Detailed reasoning: Under paragraph 104-10(5)(a) of the ITAA 1997, a capital gain or loss is disregarded if you acquired the asset prior to 20 September 1985. Upon the future sale of your business approximately 75% of the sale proceeds will represent goodwill. Taxation Ruling TR 1999/16 provides that the goodwill of a business that commenced prior to 20 September 1985 remains the same single pre-CGT asset provided the same business continues to be carried on. That is so even though: · the sources of goodwill of a business may vary during the lifetime of the business; or · there are fluctuations in goodwill during the life of the business. Furthermore, a business owner may expand or contract activities without ceasing to carry on the same business provided the business retains its essential nature or character. In your situation your business activity commenced prior to 1985. Even though technology has changed over the years the predominant underlying activities of the business remain unchanged. The goodwill of your business is considered to be a pre-CGT asset and the capital gain may be disregarded under paragraph 104-10(5)(a) of the ITAA 1997. The only other items included in the sale of your business would be trading stock and tools and equipment. The trading stock would not be considered a CGT asset by virtue of section 118-25 of the ITAA 1997. As the tools and equipment are depreciating assets they will not give rise to a capital gain or loss as per section 118-24 of the ITAA 1997. Therefore, upon the future sale of your business, a capital gain or loss will not arise. However, you will be required to include in your assessable income the market value of your trading stock on the date of disposal by virtue of subsection 70-90(1) of the ITAA 1997. A balancing adjustment may arise as per section 40-285 of the ITAA 1997. | Summary: The CGT events will happen in relation to CGT assets of yours in the income year. As a consequence, that condition will be satisfied. The sale of the properties are CGT events which will result in a capital gain and therefore that condition will be satisfied. You have advised that you satisfy the maximum net asset value test. The units that are the subject of this ruling can be considered to be active assets and satisfy the active asset test. As a consequence, the basic conditions to qualify for the small business concessions set out in section 152-10 of the ITAA 1997 are satisfied. | Detailed Reasoning - Detailed reasoning: The CGT provisions provide certain concessions for small business. Any capital gain that results from a CGT event may be reduced or disregarded under the small business concessions if you satisfy certain conditions. All of the concessions require that the basic conditions in subsection 152-10(1) of the ITAA 1997 are satisfied. Some of the concessions also require that other conditions are also satisfied. The basic conditions to be satisfied for the gain are: (a) a CGT event happens in relation to a CGT asset of yours in an income year. This condition does not apply in the case of CGT event D1 (b) the event would (apart from Division 152 of the ITA 1997) have resulted in the gain (c) you satisfy the maximum net asset value test in section 152-15 of the ITAA 1997 or you are classified as a small business entity or partner in such an entity for the year and (d) the CGT asset satisfies the active asset test in section 152-35 of the ITAA 1997. | Detailed Reasoning - Basic condition (a): This condition requires a CGT event to happen in relation to your CGT assets in an income year. In the present case, the assets in question are your factory/retail units. A CGT asset includes any kind of property (paragraph 108-5(1)(a) of the ITAA 1997). The relevant CGT events will occur when you sell the units, which will cause CGT event A1 to happen (section 104-10 of the ITAA 1997). The CGT events will happen in relation to the CGT assets of yours in the income year. As a consequence, that condition will be satisfied. | Detailed Reasoning - Basic condition (b): The sale of the properties are CGT events which will result in a capital gain and therefore that condition will be satisfied. | Detailed Reasoning - Basic condition (c): You have advised that you satisfy the maximum net asset value test in section 152-15 of the ITAA 1997, in that the net value of assets owned by you, entities connected with you, any of your affiliates or entities connected with your affiliates does not exceed $6 million. That being the case, that condition is satisfied. | Detailed Reasoning - Basic condition (d): This condition requires that the active asset test in section 152-35 of the ITAA 1997 is satisfied. The active asset test requires the CGT asset that gave rise to the capital gain to be an active asset, both at a particular time and for a particular period. Where you owned the CGT asset for at least fifteen years, it must have been an active asset for at least seven and a half years during the period beginning when you acquired the CGT asset and ending at the earlier of the time of the CGT event and when your business ceased if it ceased within twelve months before the CGT event. For a CGT asset of a business to pass the active asset test it must be an active asset for the purposes of section 152-40 of the ITAA 1997. It must firstly satisfy one of the 'positive tests' in subsection 152-40(1) of the ITAA 1997 then not be excluded by one of the exceptions in subsection 152-40(4) of the ITAA 1997. Under subsection 152-40(1) of the ITAA 1997, a CGT asset is an active asset (subject to the exclusions) if it is owned and used or held ready for use by you in the course of carrying on a business. Subsection 152-40(4) of the ITAA 1997 excludes from the meaning of an active asset, amongst other things, assets whose main use in carrying on a business is to derive rent. In your case there are several units on the one title. Your business occupies one of the units whilst the others are leased. Initially, there were only two units in total. Subsequently, you completed building more adjoining units which were subsequently leased. Where an asset is used partly to derive rent, it is a question of fact dependent on the circumstances as to whether the main use of the asset is to derive rent. In determining if the main use of the land is to derive rent, it is appropriate to consider a range of factors. Those factors are contained in Taxation Determination TD 2006/78. In this case, for most of the period the portion of the premises which contains your business constituted half the space and generated the majority of the income. Consequently, it is clear that, on balance, the main use of the asset at that time was to generate your business income. From the 2006 income year onward, the area occupied by your business fell as a proportion of the total. At the time of the first ruling, whilst less than fifty per cent of the available space was used for business purposes, the business portion of the space generated more than 88% of the total income. Taking account of all the facts, a ruling issued to the effect that the asset's main use was not to derive rental income and was therefore not excluded from being an active asset. In the years since, the proportion of the asset occupied by your business has stayed the same but the proportion of the total income attributable to rent has steadily grown. Nevertheless, the portion of total income contributed by your own business in the period from 2002 to 2010 still constituted 85% of the total. In all the circumstances, we will not alter our previously stated views that the main use of the factory/units in this case is not to derive rent and accordingly the units are not excluded from being an active asset by paragraph 152-40(4)(e) of the ITAA 1997. The units that are the subject of this ruling can be considered to be active assets as they are owned and used in the course of carrying on your business and are not excluded by paragraph 152-40(4)(e) of the ITAA 1997. Both of the requirements in subsections 152-35(1) and 152-35(2) of the ITAA 1997 will be satisfied, and the property therefore satisfies the active asset test and, thus, the basic condition. As all of the basic conditions in subsection 152-10(1) of the ITAA 1997 are satisfied, your eligibility for the small business retirement exemption will now be considered. | Summary: You satisfy both the maximum net asset value and active asset tests. As a consequence you are entitled to the small business retirement exemption. | Detailed Reasoning - Detailed reasoning: Subdivision 152-D of the ITAA 1997 provides a small business retirement exemption as part of the CGT small business relief provisions. If you qualify for the small business retirement exemption, all or part of a capital gain remaining after other concessions have been applied can be disregarded if certain conditions are satisfied. The basic conditions as they apply to you are: · the maximum net asset value test and · the active asset test. As discussed you satisfy both the maximum net asset value and active asset tests. As a consequence you are entitled to the small business retirement exemption. You must specify the amount in writing that you wish to disregard and not have exceeded the CGT retirement exemption limit. Subsection 152-320(1) of the ITAA 1997 states that an individual's CGT retirement exemption limit is $500,000. That is the total of all amounts that can be disregarded under the small business retirement exemption in an individual's lifetime. You can firstly apply the 50% discount, followed by the 50% active asset reduction. The retirement exemption can then be applied to the remaining 25% gain (up to a lifetime limit of $500,000). Depending on the size of the capital gain, you may be able to reduce your capital gain to nil.

Please check this edited version to be sure that there are no details remaining that you think may allow you to be identified. Contact us at the address given in the fact sheet if you have any concerns. | Does Part IVA apply to this ruling?: Part IVA of the Income Tax Assessment Act 1936 (ITAA 1936) is a general anti-avoidance rule that can apply in certain circumstances if you or another taxpayer obtains a tax benefit in connection with an arrangement and it can be concluded that the arrangement, or any part of it, was entered into or carried out by any person for the dominant purpose of enabling a tax benefit to be obtained. If Part IVA applies the tax benefit can be cancelled, for example, by disallowing a deduction that was otherwise allowable. | We have not fully considered the application of Part IVA of the ITAA 1936 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 of the ITAA 1936 applies we will first 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 www.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-avoidance rule for income tax.