Private ruling: Small Business 15 Year Exemption
Published: April 2014
Ruling period: Income year ended 30 June 2014 | Income year ended 30 June 2015 | Income year ended 30 June 2016 | Income year ended 30 June 2017 | Income year ended 30 June 2018
Date scheme commenced: 1 July 2011

Ruling: Q1: Does section 328-110 of the Income Tax Assessment Act 1997 (ITAA 1997) apply to treat the company as a small business entity in the year in which it realises capital gains from the disposal of lots arising from the subdivision of the property? | A1: Yes | Q2: Will the sale of each of the lots arising from the subdivision of the property qualify as a disposal of an active asset within the meaning of section 152-40 of the ITAA 1997? | A2: Yes | Q3: If the company realises a capital gain on the disposal of the lots arising from subdivision of the property, can the Company disregard those capital gains under section 152-110 of the ITAA 1997? | A3: Yes | Q4: If the company pays 50% of any capital gain realised on the disposal of each of the lots arising from the subdivision of the property to X within 2 years of the date of the relevant contracts of sale, does section 152-125 of ITAA 1997 apply so that X may disregard this amount in determining their taxable income? | A4: Yes | Q5: If the company pays 50% of any capital gain realised on the disposal of each of the lots arising from the subdivision of the property to Y within 2 years of the date of the relevant contracts of sale, does section 152-125 of ITAA 1997 apply so that Y may disregard this amount in determining their taxable income? | A5: Yes

Relevant facts and circumstances: This ruling is based on the facts stated in the description of the scheme that is set out below. If your circumstances are materially different from these facts, this ruling has no effect and you cannot rely on it. The fact sheet has more information about relying on your private ruling. The arrangement that is subject of the private ruling is described below. This description is based on the following documents. These documents from part of, and are to be read with this description. The relevant documents are: • private ruling application • private ruling previously issued to you • private ruling previously issued to you • private ruling previously issued to you You are a company with two issued ordinary shares. One share is legally and beneficially owned by X. The other share is legally and beneficially owned by Y. They have owned the shares in this manner since before 19**. X and Y are siblings. X was born on dd/mm/yyy and is aged **. X is married. Y was born in 19** and is aged **. Y is unmarried. You acquired the property ("the Property") in 19** for cost of $*. The Property comprises 1** acres on the urban fringes of a capital. The Property is on one title. There are two houses located on the Property. One house is occupied by X. The other house is occupied by Y. You have conducted a business on the Property for the entire period that you have owned the Property. You are still conducting this business on the Property during the early preliminary stages of developing the Property. However, you are winding down this business and will cease to conduct this business altogether as the work involved in developing the Property becomes more intensive. When you first acquired the Property, X and Y both were engaged in working in the business. X has continued to work in the business. However, in more recent years, Y has been unable to work because of illness. Y is now permanently incapacitated and will not work again. The turnover of the business conducted by you has always been less than $2 million. The Company has not yet prepared its financial reports for the financial year ended 30 June 2012, but its total receipts for the year again were less than $2 million. The Company anticipates that its receipts, for the current financial year, from its business, again will be less than $2 million. X and Y do not carry on any other business activity. They do not own shares in any other company. They have not received any distributions of income from any trust estate in the last four financial years. You, the company, do not own shares in any other companies. You have not received distributions of income from any trust estate in the last four financial years. The urban growth boundary for the capital city has recently been extended and the Property is now located within the urban growth boundary for the capital city. The Property is now almost completely surrounded by residential development. As a result of this change, the Property has increased significantly in value. The most recent rate and valuation notices for the Property value the Property at $*. With the development of the area, and the accompanying need for appropriate infrastructure for the area, the local council and a state department have for a number of years been encouraging you to take steps to facilitate the development of the Property. X, one of your directors, had for a number of years been monitoring the state of land development in the area. They had been doing this through discussions with other land owners, local real estate agents and people involved in the business of developing property. As a result of this, you had a reasonable feel for the state of property development in the area, and the possible profits that could be generated from the Property. You have made attempts to sell the Property. You have listed the Property for sale with a firm of estate agents who undertake sales of properties such as this. You have received a number of offers for the Property but you consider that the offers you received were inadequate. You then investigated the possibility of developing the property and selling the developed lots. Although you had maintained a keen interest in the development of land in the area, your directors recognised that they did not have the necessary skills and experience to undertake a development of the Property into over X** residential allotments without assistance. You determined that you wished to engage a company to help you develop the Property. You signed a Development Management Agreement with a company. You lodged a request for a private ruling that the company was carrying on a business of developing land and that the Property had become the trading stock of that business. The commissioner of taxation ruled that you were not in the business of being a property developer. You subsequently objected to this private ruling but this objection was later withdrawn and treated as a new private ruling based on new facts. Again the commissioner ruled that you were not in the business of being a property developer. You have continued to conduct a business on the property. As a result of the land development work that is being undertaken on the property, a business related asset that was located on the property has now been destroyed. The company is still undertaking some business on the property, but that activity will necessarily cease as the development of the Property proceeds. You estimate that the development and sale of lots will take approximately 5 years to complete. As part of the development you will be dividing the property into approximately X** residential lots, constructing roads, drainage, sewerage, parks, sporting fields and other open public spaces. On settlement of the sale of each of the lots arising from the subdivision of the property, you propose to pay an amount equal to the net capital gain realised from the sale equally to X and Y.

Relevant legislative provisions: Income Tax Assessment Act 1997 section 152-110 | Income Tax Assessment Act 1997 section 152-125 | 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 328-110 | Income Tax Assessment Act 1997 section 152-40 | Income Tax Assessment Act 1997 section 152-55

Reasons for decision: Detailed Reasoning - Requirements of the 15 Year Exemption: Under the small business 15-year exemption in section 152-110 of the ITAA 1997, an entity that is a company can disregard any capital gain in relation to the sale of the CGT asset if all of the following conditions are satisfied: (a) the basic conditions in Subdivision 152-A of the ITAA 1997 are satisfied for the gain (b) the company continuously owned the CGT asset for the 15-year period ending just before the CGT event (c) the company had a significant individual for at least 15 years (even if the 15 years was not continuous and it was not always the same significant individual) during which the company owned the CGT asset (d) an individual who was a significant individual of the company just before the CGT event either: (i) was 55 or over at the time of the CGT event and the event happens in connection with individual's retirement; or (ii) was permanently incapacitated at that time. | Detailed Reasoning - Basic Conditions in Subdivision 152-A of the ITAA 1997: Section 152-10 of the ITAA 1997 contains the basic conditions to be satisfied. These conditions are: (a) a CGT event happens in relation to a CGT asset of yours in an income year. (b) the event would (apart from Division 152 of the ITAA 1997) have resulted in the gain (c) at least one of the following applies: (i) you are a small business entity for the income year (ii) you satisfy the maximum net asset value test in section 152-15 of the ITAA 1997, or (iii) you are a partner in a partnership that is a small business entity for the income year and the CGT asset is an asset of the partnership. (d) the CGT asset satisfies the active asset test in section 152-35 of the ITAA 1997. | Detailed Reasoning - Small Business Entities: Section 328-110(1) provides you are a small business entity if you meet the following for the current year: (a) you carry on a business in the current year; and (b) one or both of the following applies: (i) you carried on a business in the income year (the previous year) before the current year and your aggregated turnover for the previous year was less than $2 million; (ii) your aggregated turnover for the current year is likely to be less than $2 million Section 328-110(5) applies to treat you as if you carried on a business in an income year where: (a) in that year you were winding up a business you previously carried on; and (b) you were a small business entity for the income year in which you stoped carrying on that business. Applying the above to your factual circumstance you have carried on the business since you acquired the property. You have stated that your aggregated yearly turnover has always been and will continue to be below $2 million. Further you do not have any affiliates or connected entities and have not received any distributions of trust income. You have provided that some business activity has continued on the land while the property is being developed however this will necessarily cease as the property development progresses further. Consequently you will be a small business entity for the years that you continue to carry on the business provided your turnover remains below $2 million. Even if you cease your business on the property as the development progresses further the effect of section 328-110(5) of ITAA 1997 will be to treat you as still being a small business entity when you sell the subdivided lots, as you are disposing of the asset in the course of winding up your market garden business. Your actions in developing, subdividing and selling the individual lots are still in essence you disposing of the assets of your business, merely in an enterprising way so as to secure the best price (see FCT v Williams (1972) 127 CLR 226). | Detailed Reasoning - Active Asset Test: It is a general condition of small business relief that the asset must pass the active asset test in section 152-35 of the ITAA 1997. This test is satisfied if: (a) 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 period detailed below or (b) 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 ½ years during the period detailed below: The period: (a) begins when you acquired the asset and (b) ends at the earlier of: (i) the CGT event and (ii) if the relevant business ceased in the 12 months before the CGT event (or such longer time as the Commissioner allows) when the business ceased. Section 152-40 of the ITAA 1997 provides the meaning of active asset. A CGT asset is an active asset if it is used or held ready for use in the course of carrying on a business. In our previous private ruling we accepted that the land is used in the business of the company and has been used in this way since purchase. Even if there is a period of time where you are forced to stop carrying on the business due to the property development you will still satisfy the active asset test in section 152-35 of the ITAA 1997, as the time between the acquisition and sale of land will be greater than 15 years, and there will be a period within that time greater than 7 ½ years where the asset has been actively used in your business. Subdividing land does not result in a CGT event where you retain ownership of the subdivided blocks. Each subdivided lot is deemed to have been acquired at the same time you acquired the original parcel of land and the cost base is divided amongst the different lots. Consequently each individual parcel of subdivided land will all be active assets under section 152-40 of the ITAA 1997. | Detailed Reasoning - CGT event and capital gain: As mentioned above you satisfy both the small business entity test and the active asset test. Based on the facts provided there will be a CGT event whereby you will make a capital gain, consequently you satisfy all the basic conditions under section 152-10 of the ITAA 1997. | Detailed Reasoning - Held property for 15 years: The property was purchased by the company in 1987 and will be listed for sale once the property has been developed and subdivided. As this is a continuous period of more than 15 years this condition is satisfied. | Detailed Reasoning - Significant individual: An individual is a significant individual in a company or trust if they have a small business participation percentage in the company or trust of at least 20%. Both X and Y qualify as significant individuals within the meaning of section 152-55 of the ITAA 1997 for the entire period the company has owned the property as they each own one share in the company (and hence have a small business participation percentage of 50%) during this time. | Detailed Reasoning - Permanently incapacitated: Whether an individual is permanently incapacitated at the time of the CGT event depends on the particular circumstances of each case. Permanent incapacity is given the definition of retirement and superannuation law. The Advanced guide to capital gains tax concession for small business 2011-12 defines permanent incapacity as: "ill-health (whether physical or mental), where it is reasonable to consider that the person is unlikely, because of the ill-health, to engage again in gainful employment for which the person is reasonably qualified by education, training or experience. The incapacity does not necessarily need to be the permanent in the sense of everlasting". Paragraph 152-110(1)(d) of the ITAA 1997 merely requires a significant individual of the company to satisfy this requirement. Paragraph 152-110(1)(d) does not require both significant individuals of the company to satisfy this requirement. It is considered based on the facts provided that Y satisfies this requirement as they has been diagnosed with an illness and is not expected to return to work. | Detailed Reasoning - Payment of capital gain to shareholders:: Section 152-125 of the ITAA 1997 states that this section applies to exempt payments to company's CGT concession stakeholders if: • under section 152-110 of the ITAA 1997 a capital gain of a company is disregarded, and • the company make one or more payments in relation to the exempt amount within two years after the relevant CGT event to an individual who was a CGT concession stakeholder of the company just before the event. In this case, the company is able to disregard any capital gain under section 152-110 of the ITAA 1997. If the company makes payments to X and Y, who are both CGT concession stakeholders of the company, within two years of the CGT event, the payments are exempt payments under section 152-125 of the ITAA 1997 and are not included in their assessable income. | Detailed Reasoning - Conclusion: As provided above you meet all the requirements for the 15 year exemption under subdivision 152-B of the ITAA 1997. As discussed in the previous prior ruling based on the law as stated in Stevenson v FCT (1991) 22 ATR 56, Whitfords Beach Pty Ltd v FCT (1982) 12 ATR 692, Australian Mining Company Pty Ltd v FCT (1950) 9 ATD 135 we consider that you are not in the business of being a property developer nor will the proceeds be ordinary income as an isolated commercial transaction. Therefore it is our view that your actions taken in the developing the property are merely those taken in winding up your business and realizing the capital gain on the sale of that business's assets. Consequently the company can claim the 15 year exemption and any distribution made to the shareholders will be exempt under section 152-125 of the ITAA 1997.