Private ruling: Small business CGT concessions - aggregated turnover test
Date of advice: 11 July 2017
Published: November 2017
Ruling period: Year ended 30 June 2016
Date scheme commenced: 1 July 2011

Ruling: Q1: Where a business was sold part way through a year, can you 'reasonably estimate’ the turnover for the period after the sale, by using the actual figures of the new owners of the business? | A1: Yes. | Q2: Is the methodology of your alternative calculation, based on the average daily turnover for the same period over the prior four financial years, acceptable for a reasonable estimate? | A2: Yes. | Q3: Will the rental income received on a property held jointly by the four individuals be excluded from the aggregated turnover calculation? | A3: Yes. | Q4: Where a connected entity purchased six rural properties, and has been renting them out since purchase, will the rental income be excluded from the aggregated turnover calculation, as passive income? | A4: Yes. | Q5: Where a connected entity sold various items of plant and equipment, will the resultant balancing charge from the sale of these items be excluded from the aggregated turnover calculation? | A5: Yes. | Q6: Will the rental income of a connected entity be considered passive, and excluded from the aggregated turnover calculation, where the land was purchased in 2014 to build factories to rent out? | A6: Yes. | Q7: Will the proceeds from the sale of property by a connected entity be excluded from the aggregated turnover calculation, given that it was the sale of a capital asset (factories that were built for rental)? | A7: Yes. | Q8: Will the sale of a property by a connected entity (since wound up by MVL in the 2016 FY) be excluded from the aggregated turnover calculation, given that the property was transferred to the directors of the trustee company of the entity, to be used as their principal place of residence? | A8: Yes.

Relevant facts and circumstances: Partnership You sold your 50% share of a business and this resulted in you making a capital gain. You can obtain income figures from the new owners for the remainder of the year. Any reasonable estimate has top allow for the seasonal conditions of the industry. You have calculated the average daily turnover for the different periods, over the prior four financial years. The four individuals in the partnership have owned a separate property that was rented out to an unrelated party. Trust 1 A connected entity purchased a number of properties over a few years, which have been rented out since purchase. The properties have been included on the Trust Balance Sheet since acquisition, as capital assets. There are currently no plans to develop these properties. The intent is to sell them when the market improves, and the value increases to a figure that is closer to the amount paid for them. All properties are completely managed by Real Estate Agents, the Trustee’s don’t handle the management of any of these rental properties directly. Trust 2 A connected entity develops property for sale. During the year it sold blocks of land. The entity uses plant and equipment to develop the properties for sale. During the year it sold some of these capital assets and made a profit. You have provided a copy of the Trading Account, Detailed Profit and Loss Statement and Depreciation Schedule for the year. Trust 3 A connected entity purchased a parcel of land, which it treated as trading stock, and lodged income tax returns as a Land Developer for a period. After holding the land for nearly a number of years, a change of intention was formerly recognised, and the property was removed from trading stock and included on the balance sheet as a capital asset. The intention is to sell the property when the value increases. This was the only property to have ever been purchased for development by this entity. The entity has since purchased several new lots of land, and erected commercial sheds to rent out. The properties are all recorded on the balance sheet as capital assets. The rental income has been shown on the tax returns as rental income, and the factories are mostly managed by a real estate agent, and provide passive income for the Trust. Sale Following a period of around 12 months, the factories were sold (at market value) to a related entity, where they continue to be rented out, providing passive income for the entity. Trust 4 A connected entity purchased a vacant block of residential land. The trust sold a percentage of the land to an unrelated third party and realised a loss. The purchaser then built units on the land, with one of them representing ownership of this trust. The trust paid construction costs under contract for the single unit. Once the unit was complete, it was actually transferred to the two directors of the corporate trustee. It was recorded in the trading account, less GST under the Margin Scheme. It is still currently their principal place of residence.

Relevant legislative provisions: Income Tax Assessment Act 1997 section 6-5 | Income Tax Assessment Act 1997 section 6-10 | Income Tax Assessment Act 1997 section 10-5 | Income Tax Assessment Act 1997 section 328-110 | Income Tax Assessment Act 1997 section 328-115 | Income Tax Assessment Act 1997 section 328-120 | Income Tax Assessment Act 1997 section 328-125 | Income Tax Assessment Act 1997 section 328-130 | Income Tax Assessment Act 1997 subsection 328-110(5) | Income Tax Assessment Act 1997 subsection 328-120(5)

Reasons for decision: Detailed Reasoning - Q 1 & 2 Reasonable estimate of annual turnover: If an entity does not carry on a business for the whole of an income year, its annual turnover for the income year must be worked out using a reasonable estimate of what the annual turnover would be if the entity carried on a business for the whole of the income year (subsections 328-110(5) and 328-120(5) of the ITAA 1997). For example, if the turnover is $250,000 for the three months of the year that the entity is carrying on business, a reasonable estimate may be that the full year’s turnover would be $1m. This may be affected by other factors, such as seasonal demand. You have suggested two possible methodologies for the reasonable estimate. The second method of using historical figures would be an acceptable way of making a reasonable estimate. You have also suggested using the actual figures of the new owners. This method would be acceptable if the new owners conducted the business in the same manner as you did. The estimate has to be based on the consideration that the entity carried on a business for the whole of the income year. This would give a true estimate based on seasonal conditions and other conditions that may affect this type of business in this year provided it is carried on in the same manner as the entity would have carried on the business. Provided that you can get written evidence from the purchasers of the business (to confirm the actual figures) and that the business was carried on the same as before with no substantial changes to the operations, this methodology could be used to make a reasonable estimate. | Detailed Reasoning - Q 3 Rental income from separate property: You have derived rental income from a farming property not associated with either of the other properties. The property was sold. An entity’s turnover is the total ordinary income that the entity derives in the income year in the ordinary course of carrying on a business. While this will depend on the specific nature of the business itself, the intention is that income from regular or customary activities in carrying on the business are included. Such income typically includes income from regular and repetitive business activities, such as selling trading stock or providing services. It can also include income from activities that are ancillary to the business, such as interest income on operating cash held at the bank. Generally it does not include income from extraordinary activities, such as selling income producing assets or depreciating assets. The rental income derived from the property that is held jointly by the four individuals who are in the partnership is not considered to be part of the ordinary income of the business. It is something separate and not ancillary to the business activity and is therefore not included in the annual turnover calculation. | Detailed Reasoning - Q 4 Connected entity with X rental properties: You have indicated that: ● the entity has acquired X properties and each has been rented out since purchase; ● the properties are rural and each includes a residential house; ● the properties have been recorded by the entity on the Balance Sheet as Capital assets, not trading stock; ● the properties have been managed by Real Estate Agents since purchase, with no development activities taking place; ● there are currently no plans to develop the properties; ● the intent is to sell them when the market improves, and the value increases to a figure that is closer to the amount paid for them. Based on these facts the entity does not appear to be carrying on a business in regards to the rental properties. Therefore the rental income of this connected entity would not be included in the aggregated turnover calculation. | Detailed Reasoning - Q 5 Connected entity selling plant and equipment: This connected entity carries on a business of property development. It had income from the sale of blocks and a balancing charge amount from the sale of depreciating assets used in the business. The Capital gains tax concessions for small business 2016 guide gives examples of amounts not included in ordinary income. One of these examples is the proceeds from the sale of business capital assets. Therefore the balancing charge from the sale of the capital assets (depreciating assets) will not be included in the aggregated turnover calculation, as it is statutory income and not ordinary income of the business. | Detailed Reasoning - Q 6 & 7 Connected entity with commercial sheds for rent: You have indicated that: ● this entity was set up for the purpose of developing property; ● it purchased a parcel of land, which it treated as trading stock; ● in the prior financial year a change of intention was formerly recognised and the property was removed from trading stock and included in the balance sheet as a capital asset; ● this was the only property to have been purchased for development by this entity; ● the entity purchased land and built industrial factories to be rented out; ● the factories are mostly managed by a real estate agent and provide passive income for the trust; ● the main purpose of the trust is holding the various capital assets and collecting rent; ● these industrial properties have been sold in the financial year; ● the entity continues to rent out the properties; Based on these facts, any income deemed to be derived from taking the property out of trading stock would be ordinary income of the trust but this occurred in the prior income year and is not included in the aggregated turnover calculation for this income year. The properties were sold to the entity in the relevant income year. This is considered to be the sale of a capital asset and the income from this sale is not included in the aggregated turnover calculation for the income year. | Detailed Reasoning - Q 8 Property transferred to directors of the trustee company to be used as their principal place of residence: Subsection 328-115(3) excludes amounts from your aggregated turnover for an income year where amounts derived in the income year by you or a relevant entity from dealings between you and the relevant entity while the relevant entity is connected with you or is your affiliate. The partners are the directors and shareholders of the trustee company of the trust that built the unit. The unit has been transferred to them and it is being used as their principle residence. It has been dealt with in the trading account of the trust as being disposed of at the market value. This amount would not be included in the aggregated turnover calculation as it is a transaction between you and a connected entity.