Private ruling: CGT Small Business Concessions
Date of advice: 25 November 2016
Published: April 2017
Ruling period: 01/07/2016 - 30/06/2017
Date scheme commenced: 01/07/2016

Ruling: Q1: Are the shares in the Company active assets under section 152-40 of the Income Tax Assessment Act 1997 (ITAA 1997)? | A1: Yes | Q2: Is the equipment excluded from being an active asset by paragraph 152-40(4)(e) of the ITAA 1997? | A2: Yes | Q3: Is the cash on hand of the Company inherently connected with the business for the purpose of subsection 152-40(3) of the ITAA 1997? | A3: Yes

Relevant facts and circumstances: The Company is a private company with two ordinary shareholders. The Company carries on a business that includes the sale, supply, rental and maintenance of equipment. The Company's staff conduct regular service trips to venues to provide upgrades, preventive maintenance and training. Due to the important nature of this service, equipment is regularly maintained, calibrated, serviced and upgraded. The Company provides a complete service. All these benefits are provided to the company's clients for their one service fee. The assets of the Company include equipment, goodwill, cash on hand, trade debtors, stock on hand, other plant and equipment and loans to related parties.

Relevant legislative provisions: Income Tax Assessment Act 1997 section 152-40 Issue 1 | Question 1 | Are the shares in the Company active assets under section 152-40 of the Income Tax Assessment Act 1997 (ITAA 1997)? Summary | The shares in the Company are active assets under section 152-40 of the ITAA 1997. | Detailed reasoning | For a capital gains tax (CGT) asset of a business to be an active asset for the purposes of Division 152 of the ITAA 1997, it must firstly satisfy one of the 'positive tests' in subsection 152-40(1), and then also not be excluded by one of the exceptions in subsection 152-40(4). | Paragraph 152-40(1)(a) of the ITAA 1997 states 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 that is carried on by you, or your affiliate, or another entity that is connected with you. | Paragraph 152-40(1)(b) of the ITAA 1997 requires an intangible asset, to be inherently connected with a business to be an active asset. | In accordance with subsection 152-40(3) of the ITAA 1997, a share in a company that is an Australian resident is also an active asset if the 80% test in paragraph 152-40(3)(b) of the ITAA 1997 is passed. | In this case, the Company is an Australian resident and shares in the Company will be active assets if they meet the 80% market value test under paragraph 152-40(3)(b) of the ITAA 1997. | The assets of the Company include cash on hand, equipment, trade debtors, stock on hand, other plant and equipment, prepayments and future income tax benefit. | The equipment will be an active asset unless it is excluded. The analysis of whether the equipment is excluded from being an active asset under paragraph 152-40(4)(e) is outlined in question 2. | For the cash to be included in the 80% test it needs to be inherently connected with the company's business. Analysis of this is considered in Question 3. | Satisfying the 80% test is therefore reliant on the equipment and the cash holdings being included. | The shares held in the company will be active assets as they satisfy the conditions in subsection 152-40(3) of the ITAA 1997 (see question 2 and 3). | Question 2 | Is the equipment excluded from being an active asset by paragraph 152-40(4)(e) of the ITAA 1997? | Summary | The equipment is not excluded from being an active asset under paragraph 152-40(4)(e) of the ITAA 1997. | Detailed reasoning | In this case, the Company carries on a business that includes, a range of services including the sale, supply, rental and maintenance of equipment. | Paragraph 152-40(4)(e) of the ITAA 1997 provides that an asset whose main use in the course of carrying on the business is to derive rent cannot be an active asset (unless that main use was only temporary). That is, even if the asset is used in a business it will not be an active asset if its main use is to derive rent. | Taxation Determination TD 2006/78 states (paragraph 22) that whether an assets main use is to derive rent will depend on the particular circumstances surrounding the derivation of income | The term 'rent' has been described as follows: | the amount payable by a tenant to a landlord for the use of the leased premises ( C.H. Bailey Ltd v. Memorial Enterprises Ltd [1974] 1 All ER 1003 at 1010, United Scientific Holdings Ltd v. Burnley Borough Council [1977] 2 All ER 62 at 76, 86, 93,99); | a tenant's periodical payment to an owner or landlord for the use of land or premises ( The Australian Oxford Dictionary , 1999, Oxford University Press, Melbourne); and | recompense paid by the tenant to the landlord for the exclusive possession of | corporeal hereditaments. ....... The modern conception of rent is a payment which a tenant is bound by contract to make to his landlord for the use of the property let (Halsbury's Laws of England 4th Edition Reissue, Butterworths, London 1994, Vol 27 (1) 'Landlord and Tenant', paragraph 212). | If an asset is used partly for business and partly to derive rent at any given time, it will be a question of fact depending on all the circumstances as to whether the main use of the asset at that time is derived rent. No single factor will necessarily be determinative, and resolving the matter is likely to involve a consideration of a range or factors such as the comparative levels of income derived from different uses of the asset. | A key factor in determining whether an occupant of premises is a lessee or perhaps only a licence is whether the occupier has a right to exclusive possession (Radaich v, Smith (1959) 101 CLR 209 at 222). | In this case the facts indicate that the users of the equipment do not have the right to exclusive possession but rather only the right to use the equipment for certain purposes. The arrangements entered into were for different terms and a range of services were provided to the users, including delivery, installation, maintenance and cleaning. | In the circumstances it is considered that there is not a tenant/landlord relationship between the parties, and the main use of the equipment is not to derive rent. | Accordingly, the equipment is not excluded by paragraph 152-40(4)(e) of the ITAA 1997. | Question 3 | Is the cash on hand of the Company inherently connected with the business for the purpose of subsection 152-40(3) of the ITAA 1997? | Summary | The cash on hand of the Company is used exclusively for the business and is therefore inherently connected with its business. | Detailed reasoning | Cash must be inherently connected with the business to count towards satisfying the 80% or more of the total value of the assets of the company under subsection 152-40(3) of the ITAA 1997. | The term 'inherently connected' is not defined in the ITAA 1936 or the ITAA 1997. Therefore the term takes on its ordinary meaning. | In this case, the Company has cash held in bank accounts. You have stated that the company had cash at bank to pay for the equipment before delivery and this cost is substantial. The cash reserves may be required for a single additional purchase. | It is considered that the bank accounts are financial instruments of the company and that the funds held in these bank accounts have been exclusively used for the running of the business. Therefore, the funds are not available to or held for any other entity and the business has an equitable interest in the cash and the cash is inherently connected with carrying on the business. | As a result, the cash on hand is inherently connected with the company's business and satisfies subparagraph 152-40(3)(b)(i) of the ITAA 1997.