Private ruling: Small business capital gains (CGT) concessions
Date of advice: 26 February 2020
Published: April 2020
Ruling period: Year ended 30 June 20XX | Year ended 30 June 20XX
Date scheme commenced: 1 July 20XX

Ruling: Q1: Does each of Person A's one half interest in the Real Estate and Person B's one half interest in the Real Estate satisfy the active asset test? | A1: Yes. | Q2: Is the disposal of Person A's one half interest in the Real Estate to a complying superannuation fund in connection with their retirement for the purposes of Subdivision 152-B of the Income Tax Assessment Act 1997 (ITAA 1997)? | A2: Yes. | Q3: When Person A contributes in specie their one half interest in the Real Estate to the complying superannuation fund, is the resulting capital gains tax (CGT) event eligible for the CGT small business 15-year exemption? | A3: Yes.

Relevant facts and circumstances: Person A and Person B are both over 55 years of age. Over XX years ago, Person A and Person B acquired (as 50-50 tenants in common owners) certain real estate (Real Estate). Person A and Person B have carried on a partnership business on the Real Estate for more than half the ownership period. The Real Estate was also used for share farming activities. During the current financial year, Person A has not been employed or self-employed for gain or reward. Person A does not foresee that he will ever again be employed or self-employed for gain or reward. At all relevant times the net value of Person A and Person B, their affiliates and all entities connected with them and their affiliates does not and will not exceed $XYZ. Person A plans to contribute in specie their one half interest in the Real Estate to a complying superannuation fund that is a self-managed superannuation fund (SMSF) using the CGT cap. Selling the Real Estate is for Person A's intentions to retire. Person A will significantly live off the proceeds of the Real Estate's ultimate disposal via the SMSF.

Relevant legislative provisions: Income Tax Assessment Act 1997 Division 152 | Income Tax Assessment Act 1997 section 152-35 | Income Tax Assessment Act 1997 section 152-40 | Income Tax Assessment Act 1997 section 152-105

Reasons for decision: Detailed Reasoning - Active Asset Test: For the small business concessions in Division 152 of the ITAA 1997 to apply to reduce or disregard a capital gain, the relevant CGT asset must satisfy the active asset test in section 152-35 of the ITAA 1997. The active asset test is satisfied 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 test period detailed below, 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 7.5 years during the test period. The test period: · begins when you acquired the asset, and · ends at the earlier of - the CGT event, and - when the business ceased, if the business in question ceased in the 12 months before the CGT event (or such longer time as the Commissioner allows). The meaning of an active asset is set out in 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 and then also 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, in the course of carrying on a business by you or your small business CGT affiliate or another entity that is connected with you under paragraph 152-40(1)(c) of the ITAA 1997. The combined effect of sections 152-35 and 152-40 of the ITAA 1997 is that the asset will meet the active asset test if the asset was used, or held ready for use, in the course of carrying on a business for at least half of the time period it was owned, subject to the exclusions in subsection 152-40(4) of the ITAA 1997. | Detailed Reasoning - Use of property to derive rent: Even if the basic conditions of the active asset test are met, subsection 152-40(4) of the ITAA 1997 provides a list of exceptions and outlines which CGT assets cannot be active assets. Paragraph 152-40(4)(e) of the ITAA 1997 excludes, among other things, assets whose main use is to derive rent (unless such use was only temporary). Such assets are excluded even if they are used in the course of carrying on a business. Whether an asset's main use is to derive rent will depend on the particular circumstances of each case. If an asset is used partly for business and partly to derive rent at any given time, it will be a question of fact dependent on all the circumstances as to whether the main use of the asset at that time is to derive rent. No one single factor will necessarily be determinative and resolving the matter is likely to involve a consideration of a range of factors such as the comparative areas of use of the premises (between deriving rent and other uses), and the comparative levels of income derived from the different uses of the asset. In your case, you have owned the Real Estate and conducted a business on it for over 15 years. While you have also used the Real Estate for share farming, there are at least 7.5 years where the main use of the property has not been to derive rent. Consequently the Real Estate was an active asset for at least 7.5 years and satisfies the active asset test contained in section 152-35 of the ITAA 1997. | Detailed Reasoning - Small business 15-year exemption: Section 152-105 of the ITAA 1997 provides a small business 15-year exemption for individuals. Under this section, you can disregard the capital gain make on the disposal of a CGT asset if you: (a) satisfy the basic conditions for the small business CGT concessions in Subdivision 152-A of the ITAA 1997 (b) continuously owned the CGT asset for the 15-year period ending just before the CGT event, and (c) are at least 55 years old at the time of the CGT event and the event happens in connection with your retirement, or are permanently incapacitated at that time. The basic conditions contained in Subdivision 152-A of the ITAA 1997 are: · A CGT event happens in relation to a CGT asset of yours in an income year, · The event would have resulted in a gain, · The CGT asset satisfies the active asset test in section 152-35 of the ITAA 1997, and · At least one of the following applies; - you are a CGT small business entity for the income year, - you satisfy the maximum net asset value test in section 152-15 of the ITAA 1997, - you are a partner in a partnership that is a small business entity for the income year and the CGT asset is an interest in an asset of the partnership, or - you do not carry on a business, but your CGT asset is used in a business carried on by a small business entity that is your affiliate or an entity connected with you. The basic conditions will be satisfied in this case because: · a CGT event will happen when Person A disposes of their share in the Real Estate · the event will result in a gain · the net value of Person A's, their affiliates and their connected entities assets is less than $6 million, and · the active asset test is satisfied. In addition, · Person A will have continuously owned their share of the Real Estate for the 15-year period ending just before the CGT event, and · Person A will be at least 55 years old when they dispose of their share of the Real Estate. | Detailed Reasoning - In connection with your retirement: Whether a CGT event happens in connection with an individual's retirement depends on the particular circumstances of each case. A CGT event may be 'in connection with your retirement' even if it occurs at some time before or after retirement. The Explanatory Memorandum (EM) to the New Business Tax System (Capital Gains Tax) Bill 1999 makes the following comments about the requirement to be permanently incapacitated or retiring as one of the conditions for the concession: 1.68 One of the requirements of this concession for an individual small business taxpayer is that they must be either permanently incapacitated at the time of the CGT event, or at least 55 years old and using the capital proceeds for their retirement. The provisions relating to the small business 15-year exemption do not define what is meant by the phrase 'in connection with your retirement', nor does it give any indication of the degree of retirement required in order to take advantage of this concession. It could be argued that the phrase 'in connection with your retirement' means that the capital gain arising from the disposal of active assets is to be used to provide funds for a person's retirement rather than to precipitate retirement at the time of the CGT event. The words used in the EM support this interpretation. It is not necessary for there to be a permanent and everlasting retirement from the workforce. However, there needs to be at least a significant reduction in the number of hours worked, or a significant change in the nature of the activities, to be regarded as 'in connection with your retirement' for the purposes of paragraph 152-105(d) of the ITAA 1997. The retirement does not need to occur immediately following the event, however whether a particular case satisfies the conditions depends very much on the facts of the case. In this case the disposal of Person A's share of the Real Estate will be in connection with their retirement as they have ceased working and will live off the proceeds of the sale. The period of time taken to dispose of the Real Estate does not change the fact it was in connection with their retirement. As such, Person A qualifies for the small business 15-year exemption in section 152-105 of the ITAA 1997 in relation to the transfer of their share in the Real Estate.