Private ruling: CGT - compulsory acquisition
Date of advice: 9 November 2017
Published: April 2018
Ruling period: Year ending 30 June 2017
Date scheme commenced: 1 July 2016

Ruling: Q1: Will you be able to apply the small business 15 year exemption under section 152B of the ITAA 1997 and be exempt from capital gain tax you receive when your land was compulsorily acquired? | A1: No

Relevant facts and circumstances: K and P (you) are spouses who purchased land post CGT legislation. The land does not from part of your main residence. You planted vegetables and fruit trees on the land, with the produce harvested to provide food to your family. You intention when purchasing the land was to produce assessable income. The land was never used for the purposes of producing assessable income. While the land was zoned for primary production, the size of the land meant it was inadequate to produce vegetables and fruit for commercial purposes. A Government Department served notices on you to compulsorily acquire the land more than one year ago. You were paid compensation as part of the compulsory land acquisition process. With the capital proceeds received as a result of the compulsorily acquisition, you have not acquired a replacement asset. You state the reason for not acquiring a replacement asset is that you are old and it is not a viable option for you to acquire other farm land to commence planting. The land also had the benefit of being located close to your main residence and to find replacement land would be difficult. You do not wish to purchase a replacement asset. You estimate that the capital proceeds from the compulsorily acquisition will exceed the asset’s cost base and estimated a capital gain will occur, which will be divided equally between you both. Assumption(s)

Relevant legislative provisions: Income Tax Assessment Act section 104-10(6) | Income Tax Assessment Act section 104-20 | Income Tax Assessment Act section 124-75 | Income Tax Assessment Act section 152B Reasons for decision | Summary | The compulsorily acquisition of your land results in a capital gain tax event. The small business roll- over provisions have no application to you as you are not a small business entity carrying on a business. | Detailed reasoning | Capital gains tax | A capital gain or capital loss is made when a capital gains tax (CGT) event happens to a CGT asset you own. | The most common event is CGT event A1 which happens when a person disposes of a CGT asset to someone else. | A capital gain is made if the amount received (called capital proceeds) from the disposal exceeds the cost base (the cost of the asset and certain other costs associated with acquiring, holding and disposing of the asset) of the CGT asset. | If the asset was acquired from you by an entity under a power of compulsory acquisition conferred by an Australian law or foreign law, the time of the event is the earliest of: | I. When you received compensation from the entity; or | II. When the entity became the asset’s owner; or | III. When the entity entered it under that power; or | IV. When the entity took possession under that power. | Replacement asset provisions | An entity, including an individual may be able to choose to roll over a capital gain that results from a compulsory acquisition of a capital gain tax (CGT) asset they own. | One of the circumstances in which a taxpayer can make this choice is if the asset is compulsorily acquired by an Australian Government agency. | Where you receive money for the compulsory acquisition, you must satisfy specific requirements in order to choose the rollover: | ● You must incur expenditure in acquiring another CGT asset that is not a depreciating asset (the replacement asset) | ● At least some of the expenditure must be incurred no earlier than one year before the CGT event happens and no later than one year after the end of the income year in which the CGT event happens (or a longer time allowed by the Commissioner). | ● The replacement asset must be either: | ● used in the same business that the original asset was used in just prior to the compulsory acquisition for a reasonable time after you acquire it; | ● be used for the same or similar purpose as the original asset for a reasonable time after you acquire it. | ● The replacement asset cannot become an item of your trading stock just after you acquire it nor can it be a depreciating asset; and | ● The replacement asset cannot become a registered emissions unit of yours just after you acquire it. | CGT business concessions | To qualify for the small business capital gain tax (CGT) concessions, you must satisfy several conditions that are common to all the concessions. | A capital gain that you make may be reduced or disregarded under Division 152 of the ITAA 1997 if the following basic conditions are satisfied: | ● A CGT event happens in relation to the 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 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. | Active asset test | 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, or | ● An intangible asset that is inherently connected with a business carried on (whether alone or in partnership) by you, for example goodwill. | 15 year exemption | Providing certain criteria are met, individuals (including partners in partnerships) may be able to reduce any capital gain in the following sequence. First you offset capital losses against capital gains. Then you apply: | ● the small business 15-year exemption if applicable | ● the CGT discount | ● the small business CGT concessions. | The small business 15-year exemption takes priority over the other small business concessions and the CGT discount. If the small business 15-year exemption applies, you entirely disregard the capital gain so there is no need to apply any further concessions. | You can disregard a capital gain from a CGT event happening to a CGT asset you have owned for at least 15 years if you: | ● continuously owned the CGT asset for the 15 year period ending just before the CGT event happened. | ● satisfy the basic conditions for the small business CGT concessions (the active asset test requires the asset to have been an active asset for at least 7.5 years of the whole period of ownership) | Small Business entity | You will be a small business entity (in accordance with section 328-110 of the ITAA 1997) if you are an individual, partnership, company or trust that: | ● Is carrying on a business, and | ● Has an aggregated turnover of less than $2 million. The aggregated turnover test requires the entity to be carrying on a business in the year of the CGT event. | The factors that are considered in whether a business is carried out, are set out in TR 97/11: Income tax: Am I carrying on a business of primary production. Paragraph 18 provides a summary of the main indicators of carrying on a business: | ● A significant commercial activity | ● purpose and intention of the taxpayer in engaging in the activity | ● an intention to make a profit from the activity | ● the activity is or will be profitable | ● repetition and regularity of activity. | ● activity is carried on in a similar manner to that of the ordinary trade. | ● activity is organised and carried on in a business-like manner and systematically-records are kept | ● size and scale of the activity | ● not a hobby, recreation or sporting activity | ● a business plan exists | ● commercial sale of products | ● taxpayer has knowledge or skill | Application to your circumstances | Your land was compulsorily acquired. You received monetary compensation as a result of the acquisition. You did not obtain a replacement asset within one year after the income year in which the CGT event happened. You have chosen not to obtain a replacement asset and the replacement asset roll over provisions do not apply to you. | Section 152-10(1A) allows a taxpayer who owns a CGT asset that is used in a business carried on by the taxpayer or an affiliate or a connected entity to the taxpayer to access the small business concessions. | To satisfy the small business entity test, you must carrying on a business and satisfy one of the three tests based on your turnover. In your case, you have not carried on any business activity connected with your land. You had a mere intention to engage in the production of fruit and vegetables, but derived no income through such activities. Your land was used for the purposes of providing food to your family and for personal use and enjoyment. | Since you do not satisfy the small business entity test, you are unable to disregard any capital gain or loss resulting from the compulsorily acquisition of your land under the small business concessions. | The capital gain is the difference between the capital proceeds and the cost base of the land. As you have held the land for longer than 12 months and acquired the land prior to 21 September 1999, you can choose to use the indexation or the 50% discount method to further reduce your capital gain.