Private ruling: Commissioners discretion - paragraph 35-55(1)(c) of the Income Tax Assessment Act 1997
Date of advice: 18 September 2015
Published: September 2015
Ruling period: Year ended 30 June 2014 | Year ended 30 June 2015 | Year ending 30 June 2016
Date scheme commenced: 1 July 2013

Ruling: Q1: Will the Commissioner exercise his discretion under paragraph 35-55(1)(c) of the Income Tax Assessment Act 1997 (ITAA 1997) to allow you to include losses from your business activity as a partner in a partnership in your calculation of taxable income for the 2013-14, 2014-15 & 2015-16 financial years? | A1: Yes


Relevant legislative provisions: Income Tax Assessment Act 1997 paragraph 35-55(1)(b) | Income Tax Assessment Act 1997 paragraph 35-55(1)(c)

Reasons for decision: Detailed Reasoning - Division 35 overview: For the 2009-10 and later financial years, Division 35 of the Income Tax Assessment Act 1997 (ITAA 1997) will apply to defer a non-commercial loss made by an individual (including an individual in a general law partnership) from a business activity unless: • you meet the income requirement and you pass one of the four tests • the exceptions apply • the Commissioner exercises his discretion. In your situation, you do not satisfy the income requirement (that is, your taxable income, reportable fringe benefits and reportable superannuation contributions but excluding your business losses, exceeds $250,000) and you do not come under any of the exceptions. Your business losses are therefore subject to the deferral rule unless the Commissioner exercises his discretion. The relevant discretion under section 35-55(1)(c) of the ITAA 1997 may be exercised for the financial year in question where: i. because of its nature, your business activity has not produced a tax profit; and ii. there is an objective expectation, based on evidence from independent sources (where available) that, your business activity will produce a tax profit within the commercially viable period for your industry. | Detailed Reasoning - 'Because of its nature': Taxation Ruling TR 2007/6 states that the meaning of 'because of its nature' in relation to the failure to produce a tax profit because of some inherent characteristics that the taxpayer's business activity has in common with other business activities of that type. TR 2007/6 further explains the 'lead time' discretion provided for by paragraph 35-55(1)(c) of the ITAA 1997 is available for a business activity if there is an initial period from when the activity commenced where the nature of the activity prevents a tax profit from being made. In addition, paragraph 1.51 of the Explanatory Memorandum (EM) to the New Business Tax System (Integrity Measures) Bill 2000 comments: This arm of the safeguard discretion [i.e., that in paragraph 35-55(1)(b)] will ensure that the loss deferral rule in section 35-10 does not adversely impact on taxpayers who have commenced to carry on activities which by their nature require a number of years to produce assessable income. Examples of activities which could fall into this category are forestry, viticulture and certain horticultural activities. Note: the above paragraph applies equally to paragraph 35-55(1)(c) which was introduced after the above EM. TR 2007/6 clarifies that the discretion is not intended to apply where a business activity makes a loss because of factors which can apply to any business and which do not affect the ability of the activity to satisfy one of the four tests. Rather it is intended to be available for a commercial business activity that has failed to satisfy any of the tests in Division 35 for certain reasons outside of the control of the operator. TR 2007/6 does not support any view that the discretion should be 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 waiting for growth in the industry and the business plan to take full effect, or business choices made by an individual that are not consistent with the ordinary or accepted practice in the industry concerned - such as the hours of operation, location, or the level of debt funding. Where an operator chooses to carry on the business activities in a manner that does not produce a tax profit within the period that is commercially viable for the industry concerned, if any, paragraph 35-55(1)(c) of the ITAA 1997 may not be satisfied. | Detailed Reasoning - 'Commercially viable period': TR 2007/6 paragraph 104 explains in order to demonstrate an objective expectation exists; the business operator is to produce evidence showing that the business activity will produce a tax profit, showing the period within which a commercially viable business would do so. TR 2007/6 further clarifies that appropriate independent sources of the evidence include industry bodies or relevant professional associations, government agencies or other taxpayers conducting successful comparable businesses. In your case you have not met the income requirement and the business has not produced a tax profit, however there is an objective expectation based on evidence from an industry expert that within a period that is commercially viable for the industry the activity will either meet one of the tests or will produce assessable income greater than the deduction attributable to it. You have therefore provided satisfactory independent evidence of the commercially viable period for your industry. In view of the above facts the discretion in paragraph 35-55(1)(c) of the ITAA 1997 has been exercised for your business activity for the 2013-14, 2014-15 & 2015-16 financial years.

Relevant facts: The business is a partnership of which you are an individual partner. | The business undertakes activities within a certain industry. | The business is carried on from premises supplied by one of the partners. | The partnership expects to make a tax profit in the 2015-16 financial year. | Your income for non-commercial loss purposes in the income year prior to the income year this application was received was $250,000 or more. | An industry expert has supplied a written report giving his opinion on this industry in Australia. | The industry expert stated in his report stated that businesses in this industry have wide-ranging timeframes before reaching profitability. Industry outlooks vary depending on the specific business and can range up to X years for high investment long-term contracted businesses.