Private ruling: Non-Commercial Losses - Special Circumstances & Lead time
Published: August 2011
Ruling period: Year ended 30 June 2010 | Year ended 30 June 2011
Date scheme commenced: 1 July 2009

Ruling: Q1: Will the Commissioner exercise the discretion in paragraph 35-55(1)(a) of the Income Tax Assessment Act 1997 (ITAA 1997) to allow you to include any losses from your farm operation in your calculation of taxable income for the 2009-10 financial year? | A1: No. | Q2: Will the Commissioner exercise the discretion in paragraph 35-55(1)(c) of the ITAA 1997 to allow you to include any losses from your farm operation in your calculation of taxable income for the 20XX-XXfinancial year? | A2: No.


Relevant legislative provisions: Income Tax Assessment Act 1997 Paragraph 35-55(1)(a). Income Tax Assessment Act 1997 Paragraph 35-55(1)(c). Income Tax Assessment Act 1997 Subsection 35-10(2).

Reasons for decision: Detailed Reasoning - Non Commercial Losses: For the 20XX-XX and later financial years, Division 35 of the ITAA 1997 will apply to defer a non-commercial loss from a business activity unless: · you satisfy the income requirement and you pass one of the four tests · the exceptions apply, or · 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 for the 20XX-XX and 20XX-XXfinancial years. There are two discretions available to the Commissioner being, special circumstances and lead time. You have applied for the special circumstances discretion for the 20XX-XX financial year and the lead time discretion with respect to the 20XX-XXfinancial year. | Detailed Reasoning - Special Circumstances: The Commissioner's discretion in paragraph 35-55(1)(a) of the ITAA 1997 may be exercised for a financial year where the business activity is affected by special circumstances outside the control of the operators of the business activity and the Commissioner considers that it would be unreasonable to require the loss to be deferred. Taxation Ruling TR 2007/6 states that for those individuals who do not meet the $250,000 income requirement, the Commissioner considers that it would be unreasonable to require a loss to be deferred where but for the special circumstances, the business activity would have made a profit in that year. Special circumstances are those circumstances which are sufficiently different to distinguish them from the circumstances that occur in the normal course of conducting a business activity. It is accepted that the drought constitutes special circumstances. However, this in itself is not sufficient for the discretion to be exercised. The Commissioner must also be satisfied that your activity would have made a profit but for the special circumstances. You provided some general information about how your expenses and income were affected by the drought. For example, you stated that 'Maintenance was significantly higher due to the farm being made "drought proof". This was achieved through management of the dams and irrigation systems'. However, you did not quantify the effects of the drought on your income and expenses. For example, you did not state how much of your 'maintenance' deductions for the 2009-10 financial year were attributable to the drought. Your farm operation made a significant loss for the 2009-10 financial year. Obviously the extent of the loss has been contributed to by the drought. But this is not sufficient for the Commissioner to be able to exercise the special circumstances discretion. He must be satisfied that you would have made a profit but for the drought. You have not provided any calculations showing how much your deductions would have been reduced by, and how much your income would have been increased by, if there had not been a drought. It is considered that you would be able to quantify the effect of the drought on each of your deductions (for example, the amount of hay purchased in the 2009-10 financial year where you would not have purchased any hay in a non-drought year). Quantifying the effect of the drought on your income would be more difficult. However, it is considered that you would be able to use calculations to estimate the income you would have received in the 2009-10 financial year but for the drought. Your farm has been in operation for more than XX years. It has never made a profit. Your loss for the 20XX-XX financial year was sizeable. It is not disputed that the drought has affected your business and contributed to the extent of the loss. However, this is not sufficient for the Commissioner to exercise the special circumstances discretion. You have not demonstrated that your farm would have made a profit in the 20XX-XX financial year but for the drought. Therefore, the Commissioner is not able to exercise the special circumstances discretion for that year. | Detailed Reasoning - Lead time: Under paragraph 35-55(1)(c) of the ITAA 1997, the Commissioner's discretion can be exercised where the business activity satisfies these requirements. for an applicant who carries on the business activity who does not satisfy subsection 35-10(2E) (income requirement) for the most recent income year ending before the application is made - the business activity has started to be carried on and, for the excluded years: (i) because of its nature, it has not produced, or will not produce, assessable income greater than the deductions attributable to it; and (ii) there is an objective expectation, based on evidence from independent sources (where available) that, within a period that is commercially viable for the industry concerned, the activity will produce assessable income for an income year greater than the deductions attributable to it for that year (apart from the operation of subsections 35-10(2) and (2C). The note to this paragraph states that it is: …intended to cover a business activity that has a lead time between the commencement of the activity and the production of any assessable income. For example, an activity involving the planting of hardwood trees for harvest, where many years would pass before the activity could reasonably be expected to produce income. You commenced your farm operation approximately XX years ago and since that time your business has engaged in animal fattening and agistment. In the 20XX-XXfinancial year your business changed focus with animal breeding taking over from the fattening aspect of your operation. It is arguable whether the lead time discretion contained in paragraph 35-55(1)(c) of the ITAA 1997 is available in your circumstances. This is because it could be viewed that your farm business activity involves the running of animals for profit by sale and agistment, and even though you have recently decided to sell your animals after breeding them rather than just fattening, this does not mean that your farm operation now constitutes a new business activity. Under this interpretation, any lead time for your farm operation would have started XX years ago when you commenced farming and would no longer be available. However, it is also arguable that the animal breeding aspect of your farm operation constitutes a new separate business activity and the lead time discretion may be available for this activity. If that was the case the financials for the animal breeding activity would have to be separated from the agistment activity. It is not considered that the lead time discretion would be available with respect to the agistment activity as this activity has been operating for some years and in any case, agistment is not the type of activity that requires a lead time before income is produced. If we were to accept that your animal breeding constitutes a new separate business activity, you would still have to provide evidence that this activity will produce a tax profit within a period that is commercially viable for the animal breeding industry. You have provided income and expense projections for your farm operation up to the 2014-15 financial year. When the income and expenses relating to the agistment aspect of your farm operation are removed (as per your apportionment), it can be seen that you animal breeding activity will not be profitable by the 2014-15 financial year. In fact your figures show an increase in the loss from your animal breeding activity from the 2013-14 financial year to the 2014-15 financial year. It is unclear when your animal breeding activity will actually make a profit. Also, you have not provided any evidence to show what the commercially viable period to make a tax profit is for the industry concerned. Therefore, even if we accept that the animal breeding aspect of your farm operation constitutes a separate business activity, the Commissioner will not exercise the lead time discretion with respect to this activity as you have not shown that it will produce a tax profit within a commercially viable period for the industry concerned. In summary, the lead time discretion will not be exercised with respect to any aspect of your farm operation for the 20XX-XXfinancial year.

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. | General facts: You commenced carrying on a farming business approximately XX years ago. | Approximately XX% of your total farm can be used for grazing purposes. | Approximately XX% of the grazeable land is used for animal agistment purposes and the remaining XX% is used for animal fattening and breeding purposes. | Since acquiring the home farm you have leased adjacent properties which are used for agistment purposes. | The agisted animals are spread over adjacent properties which are operated as one farm. The agisted animals are housed in separate paddocks to the owned animals at all times. | You have made losses from your farm operation since its commencement. | You made the business decision to sell down your total number of animals and supplement your income with agistment income, as the cost to feed and maintain your animals could not be justified based on depressed sales prices. | You have an agreement in place where long term agistment takes place. | You are responsible for adding weight to an expected weight gain rate, the security of the animals and for their health. | Animal fattening/breeding: In the 20XX-XXfinancial year you moved into developing a high quality, self replacing herd which will compliment the agistment activity. This aspect of your business replaced animal fattening which you had undertaken from the commencement of your farm operation. There will little or no income from the breeding program in the 20XX-XXfinancial year. | The drought was prevalent in the 2000's and you believe it was a key factor in you not being able to make a profit. The drought impacted on you in the following ways: | · Animal prices were severely impacted. As a result of lower animal prices you made a decision to sell down your herd and utilise the farm land for agistment purposes in order to generate some income; | · The drought resulted in a shortage of grazeable grass on the land and as a result you were forced to buy in hay for the animals on your land; | · Maintenance was significantly higher due to the farm being made "drought-proof". This was achieved through management of the dams and irrigation systems; and | · As you sold your herd down you were not in a position to take advantage of the increased animal prices that are now being achieved. | While you have been developing pastures and other infrastructures, and because of some dry years, the farm has not carried the number of animals it has the potential to carry. Now that work is complete and with an apparent return to normal weather conditions, you expect to carry a higher number of animals. | You have apportioned expenses between the agistment activity and the animal fattening/breeding activity using the proportion of the grazeable land used for each purpose. | Your income for non commercial loss purposes was above $250,000 in the 20XX-XX financial year and you anticipate it will also be above $250,000 in the 20XX-XXfinancial year.