Private ruling: Small business capital gains tax concessions
Published: July 2013
Ruling period: Year ending 30 June 2014
Date scheme commenced: 1 July 2013

Ruling: Q1: Are you entitled to apply the 15 year exemption in Subdivision 152-B of the Income Tax Assessment Act 1997 to the capital gain from the sale of the property? | A1: Yes.

Relevant facts and circumstances: The arrangement that is the subject of the private ruling is described below. This description is based on the following documents. These documents form part of and are to be read with this description. The relevant documents are: · the application for private ruling and · the documents provided with the application for private ruling. Individual A and B purchased a property in the 19XX financial year. Individual A and B operated a business from the property through a Family Trust. The appointer of the Family Trust is Individual A. Under the trust deed, the appointer has the power to remove and appoint a new trustee. The trustee of the Family Trust is a company. The primary beneficiaries of the Family Trust are Individual A and B. The business operated by the Family Trust was sold in the 20YY financial year. The property has been leased to an unrelated entity since the sale. Individual A and B are both over 55 years of age. Individual A and B intend to retire from the workforce once the property is sold. The funds from the sale will be contributed to Individual A and B's Self Managed Super Fund. Individual A and B also intend to begin drawing a pension from the Self Managed Super Fund. Individual A and B assets have a value of less than $6 million. The property is expected to be sold in the 20ZZ financial year.

Relevant legislative provisions: Income Tax Assessment Act 1997 Subdivision 152-A, | Income Tax Assessment Act 1997 Subdivision 152-B, | Income Tax Assessment Act 1997 section 152-35, | Income Tax Assessment Act 1997 paragraph 152-40(4)(e), | Income Tax Assessment Act 1997 subsection 152-47(1), | Income Tax Assessment Act 1997 subsection 152-47(2), | Income Tax Assessment Act 1997 paragraphs 152-105(d), | Income Tax Assessment Act 1997 paragraph152-110(1)(d), | Income Tax Assessment Act 1997 section 328-125, | Income Tax Assessment Act 1997 subsection 328-125(3) and | Income Tax Assessment Act 1997 section 328-130.

Reasons for decision: Summary: Subdivision 152-B of the Income Tax Assessment Act 1997 (ITAA 1997) provides a small business 15 year exemption as part of the capital gains tax (CGT) small business relief provisions. If you qualify for the small business 15 year exemption, the capital gain is entirely disregarded and it is unnecessary to apply any other concessions. If you are an individual, you can disregard any capital gain arising from a CGT event if all of the following conditions are satisfied: (a) the basic conditions are satisfied (b) you continuously owned the CGT asset for the 15 year period ending just before the CGT event (c) if the CGT asset is a share in a company or an interest in a trust, the company or trust had a significant individual for a total of at least 15 years (d) either: (i) you are 55 or over at the time of the CGT event and the event happens in connection with your retirement, or (ii) you are permanently incapacitated at the time of the CGT event. | Detailed Reasoning - Condition (a): To qualify for the small business concessions, you must satisfy several conditions that are common to all the concessions. These are called the basic conditions. The basic conditions in Subdivision 152-A of the ITAA 1997 (as relevant to this case) are: · the $6 million limit on the net value of CGT assets · the active asset test | Detailed Reasoning - Net value of the CGT assets: You will satisfy the maximum net asset value test if, just before the CGT event that results in the capital gain, the net value of the CGT assets of you and the following entities does not exceed $6 million: · any entities connected with you · your affiliates and any entities connected to your affiliates (subject to certain exclusions). | Detailed Reasoning - Active asset test: The active asset test is contained 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 is from when the asset is acquired until the CGT event. If the business ceases within the 12 months before the CGT event (or such longer time as the Commissioner allows) the relevant period is from acquisition until the business ceases. A CGT asset is an active asset if it is owned by you and is used or held ready for use in a business carried on (whether alone or in partnership) by you, your affiliate, your spouse or child, or an entity connected with you. Paragraph 152-40(4)(e) of the ITAA 1997 states, however, that an asset whose main use in the course of carrying on the business is to derive rent can not be an active asset unless the main use for deriving rent was only temporary. In this case, the Family Trust ran a printing business from the property. Therefore, it is necessary to establish whether the Family Trust is connected with Individual A and B. | Detailed Reasoning - Affiliate: An affiliate is, according to section 328-130 of the ITAA 1997, an individual or a company who acts, or could reasonably be expected to act, in accordance with your directions or wishes, or in concert with you, in relation to the affairs of the business of the individual or company. Trusts, partnership and superannuation funds cannot be your affiliates. A spouse or a child under the age of 18 years is not automatically an affiliate. However under subsection 152-47(1) of the ITAA 1997, your spouse or child may be taken to be your affiliate where: · an asset is owned by you and that asset is used in a business carried on by another entity, and · the business entity is not (apart from this section) an affiliate of, or connected with you. Under subsection 152-47(2) of the ITAA 1997, in determining whether the business entity is an affiliate of, or is connected with, the asset owner, a spouse or child of the individual is taken to be an affiliate of the asset owner. If an entity is an affiliate of another entity as a result of subsection 152-47(2) of the ITAA 1997, then the spouse or child is, in addition, taken to be an affiliate of the individual for the purposes of the connected with test in section 328-125 of the ITAA 1997. | Detailed Reasoning - Connected entity: Under section 328-125 of the ITAA 1997 an entity controls a discretionary trust if the trustee either acts, or might reasonable be expected to act, in accordance with the directions or wishes of the entity or the entity's affiliates. Some factors which might be considered include: · the way in which the trustee has acted in the past · the relationship between the trustee and the entity or its affiliates, and the relationship the trustee has with both the entity and its affiliates · the amount of any property or services transferred to the trust by the entity or its affiliates, or both the entity and its affiliates · any arrangement or understanding between the entity and any person who has benefited under the trust in the past. This entity may control a discretionary trust in addition to any beneficiary with control. ATO Interpretive Decision ATO ID 2008/139 provides that a person who has the power to remove the trustee of a discretionary trust and appoint a new trustee will control the trust for the purposes of subsection 328-125(3) of the ITAA 1997. | Detailed Reasoning - Application to your circumstances: The information provided is that the maximum net value of the assets of Individual A and B, and any entities connected with them is less than $6 million. Therefore, Individual A and B will satisfy the maximum net asset value test. To establish whether the property satisfies the active asset test, first it is necessary to determine whether the Family Trust is connected with Individual A and B. In this case, Individual A is the appointer of the Family Trust and has the power to remove and appoint a new trustee under the trust deed. Therefore, Individual A controls the Family Trust. Individual B owned a portion of the property which was used in the business carried on by the Family Trust. In determining whether the Family Trust is connected with Individual B, section 152-47 of the ITAA 1997 will apply to treat Individual A as Individual B's affiliate. Therefore, in accordance with section 328-125 of the ITAA 1997, Individual B will also be taken to control the Family Trust. To satisfy the active asset test, a property owned for more than 15 years needs to have been used in the course of carrying on a business by an entity connected with Individual A and B for more than 7.5 years. In this case, a business was run from the property by the Family Trust. As discussed above, Individual A and B are both connected with the Family Trust. As the business was run from the property for more than 7.5 years, the property will satisfy the active asset test. Therefore, Individual A and B satisfy the basic conditions for the small business concessions. | Detailed Reasoning - Condition (b): Individual A and B acquired the property in the 19VV financial year and they are still the owners. Therefore, Individual A and B have continuously owned the property for a 15 year period that will end just prior to the CGT event. | Detailed Reasoning - Condition (c): The CGT asset is not a share in a company or an interest in a trust. Therefore, this condition is not relevant. | Detailed Reasoning - Condition (d): 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 a taxpayer's 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 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. The Advanced guide to capital gains tax concessions for small business 2011-12 (NAT 3359 ) also supports this view. It makes it clear that it is not necessary for there to be a permanent and everlasting retirement from the workforce. However, there would need 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 a retirement for the purposes of paragraphs 152-105(d) or 152-110(1)(d) of the ITAA 1997. | Detailed Reasoning - Application to your circumstances: In this case, Individual A and B are over 55 years of age and intend to retire from the workforce once the property is sold. The proceeds from the sale of the property will be invested into Individual A and B's Self Managed Super Fund. Individual A and B will then begin drawing a pension from the fund. It is considered that the sale of the property was integral to their retirement plans. According, the CGT event will occur in connection with Individual A and B's retirement in accordance with paragraph 152-110(1)(d) of the ITAA 1997. Individual A and B are therefore entitled to apply the 15 year exemption to the capital gain from the sale of the property.