Private ruling: Small business capital gains tax concessions
Published: August 2013
Ruling period: Year ended 30 June 2012 | Year ended 30 June 2013 | Year ended 30 June 2014
Date scheme commenced: 1 July 2011

Ruling: Q1: Are company B and company C affiliates of company A? | A1: Yes. | Q2: Does the building satisfy the basic conditions for the small business capital gains tax (CGT) concessions? | A2: Yes. | Q3: Is company A entitled to apply the small business retirement exemption? | A3: Yes. | Q4: Will the Commissioner allow further time as provided in paragraph 103-25(1)(b) of the Income Tax Assessment Act 1997 (ITAA 1997) for company A to choose to apply the small business concessions to a capital gain that arose in the relevant financial year? | A4: 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 dated, · profits and loss statements, · the resolution of the trustee of the A Family Trust, · the resolution of the trustees of the B Family Trust, · the resolution of the trustee of the C Family Trust, and · the details provided in response to the request for further information. Company A was incorporated in the 199X financial year. There are 3 shareholders, which each hold one ordinary share. The shareholders are all discretionary trusts (the A Family Trust, the B Family Trust and the C Family Trust). The trustee of the A Family Trust is individual A. The trustees of the B Family Trust are individual B and their spouse. The trustee of the C Family Trust is individual C. The directors of company A were individuals A, B and C. They are all over 55 years of age. In the 199X financial year, company A purchased a building. Company A immediately occupied the building which it used to carry on its business. The floor area of the building was X square metres. The building comprised X levels, with the upper level being Y% of the floor area and the ground floor being Z% of the floor area. As the total floor area was in excess of the company A's needs, it was decided to rent the upper level to an unrelated business at arms length. The rent commenced in the 199Y financial year. Lease agreements were not entered into with the tenants. Individual C had personal issues and ceased working in company A in the 200X financial year. As a result, company A wound down its activities. At this point in time, the other directors each incorporated new companies (company B and C) so that they could work independently, or jointly as required. The sole shareholder of company B is the B Family Trust. The sole shareholder of company C is the C Family Trust. Company B and C commenced paying rent to company A in the 200Y financial year. Company B and C occupied the ground floor and did not enter into a lease agreement with company A. In the 200Z financial year, the area rented by third parties increased to V% of the floor area. In the 200V financial year, company B and C ceased to rent the premises from company A. From this point in time, the whole property was used to derive rental income. In the 20XX financial year a contract was signed for the sale of the building. Company A included a capital gain in its income tax return for the year ended 30 June 20XX. An oversight by company A's agent meant that consideration was not given to the small business CGT concessions at this time. Company A satisfied the maximum net asset value test just prior to the CGT event. The A Family Trust distributed 100% of its income and capital for the year ended 30 June 20XX to individual A. The B Family Trust distributed 100% of its income and capital for the year ended 30 June 20XX to individual B. The C Family Trust distributed 100% of its income and capital for the year ended 30 June 20XX to individual C. Numerous transactions took place between company A, B and C while the companies were in operation. These were for various services The rent paid to company A by company B and C was less than the amount charged to the non- related party that occupied the second floor.

Relevant legislative provisions: Income Tax Assessment Act 1997 paragraph 103-25(1)(b) | Income Tax Assessment Act 1997 Subdivision 152-A | Income Tax Assessment Act 1997 Subdivision 152-C | Income Tax Assessment Act 1997 Subdivision 152-D | Income Tax Assessment Act 1997 subsection 152-40(1) | Income Tax Assessment Act 1997 subsection 152-40(4) | Income Tax Assessment Act 1997 section 328-130

Reasons for decision: Detailed Reasoning - Affiliates: An affiliate is defined by section 328-130 of the ITAA 1997 as being an individual or 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 individual or company. Relevant factors that may support a finding that a person acts in such a manner include: · the existence of a close family relationship between the parties; · the lack of any formal agreement or formal relationship between the parties dictating how the parties are to act in relation to each other; · the likelihood that the way the parties act, or could reasonably be expected to act, in relation to each other would be based on the relationship between the parties rather than on formal agreements or legal or fiduciary obligations; and · the actions of the parties. Trusts, partnerships and superannuation funds cannot be your affiliates. However a trust, partnership or superannuation fund may have an affiliate who is an individual or company. Whether a person is acting in concert with another is essentially a question of fact. The term 'acting in concert' involves at least an understanding between the parties as to a common purpose or object. | Detailed Reasoning - Application to your circumstances: In this case, there was no formal lease agreement in place between company A, B and C. The rent paid to company A by company B and C was less than the amount charged to the non-related party that occupied the second floor. The information provided details that numerous transactions took place between the companies. It is clear that the companies consulted one another in regards to their business matters. The actions of the parties also demonstrate that company A, B and C acted in a coordinated way together. Having regard to your circumstances and the relevant factors we consider that company B and C are affiliates of company A. | Detailed Reasoning - Question 2: The active asset reduction and small business retirement exemption are some of the small business CGT concessions. To qualify for the small business CGT concessions you must satisfy several conditions that are common to all the concessions. These are called the 'basic conditions'. | Detailed Reasoning - 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 - Application to your circumstances: The information provided is that the maximum net value of the assets of company A, its affiliates and any entities connected with it were less than $6 million just before the CGT event. Therefore the company satisfies the maximum net asset value test. | Detailed Reasoning - Active asset test: A CGT asset will satisfy the active asset test if: (a) you have owned the asset for 15 years or less and the asset was an active asset of your for a total of at least half of the test period, or (b) you have owned the asset for more than 15 years and the asset was an active asset of your for a total of at least 7½ years during the test period. The test period beings when you acquired the asset and ends at the earlier of the CGT event and if the relevant business ceased to be carried on in the 12 months before that time - the cessation of the business. Subsection 152-40(1) details that a CGT asset is an active asset at a time if it is 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. The following assets cannot be active assets (subsection 152-40(4) of the ITAA 1997): · interests in a connected entity (other than those satisfying the 80% test) · shares in companies and interests in trusts (other than those satisfying the 80% test) · shares in widely held companies unless they are held by a CGT concession stakeholder of the company · shares in trusts that are similar to widely held companies unless they are held by a CGT concession stakeholder of the trust or other exceptions for trusts with 20 members or less apply · financial instruments, including loans, debentures, bonds, promissory notes, futures contracts, forward contracts, currency swap contracts, rights and options · an asset whose main use in the course of carrying on the business is to derive interest, an annuity, rent, royalties or foreign exchange gains. However, such an asset can still be an active asset if it is an intangible asset that has been substantially developed, altered or improved by the taxpayer so that its market value has been substantially enhanced or its main use for deriving rent was only temporary. | Detailed Reasoning - Application to your circumstances: In this case, company A purchased a property in the 199X financial year. From this point in time until early 200X it was used by company A in the course of carrying on a business. Less than Y% of the floor area was rented to an unrelated third party. The rental income received over this period was significantly less than the business income generated by company A. We do not consider that the main use of the property during this period was to derive rent. Therefore, the property was an active asset during this period. In early 200X company A wound down its activities. From approximately one year, Z% of the floor area was used by company B and C. From early 200Y until the end of the 200Z financial year company B and C occupied approximately V% of the floor area. For the property to be considered an active asset, company B and C would need to be connected with or an affiliate of company A. As discussed in question 1, both company B and C are affiliates of company A. Therefore, as the property was used in the course of carrying on a business by an affiliate of company A it will be considered an active asset during this period. We do not consider that the main use of the property during this time was to derive rent. As the property has been active for more than 7.5 years during the ownership period it will satisfy the active asset test. Therefore, company A satisfies the basic conditions for the small business CGT concessions. | Detailed Reasoning - Retirement exemption: The rules covering the small business retirement exemption are contained in Subdivision 152-D of the ITAA 1997. An entity may choose to disregard all or part of a capital gain under the retirement exemption if certain conditions are satisfied. If the entity is a company or trust, they can choose to disregard all or part of a capital gain where all of the following conditions are met: · the company satisfies the basic conditions · the company satisfies the significant individual test · a written record of the amount disregarded is kept and if there are more than one CGT concession stakeholders, each stakeholder's percent of the exempt amount (one may be nil, but together they must add up to 100%) · a payment is made to at least one of the CGT concession stakeholders worked out by reference to each individual's percentage of the exempt amount · the payment is equal to the exempt amount or the amount of capital proceeds, whichever is less, and · where the capital proceeds are received in instalments, a payment is made to a CGT concession stakeholder for each instalment in succession. If a CGT concession stakeholder is under 55 years old just before receiving a payment, an amount equal to that payment must be immediately paid to a complying superannuation fund or retirement savings account on their behalf. There is no requirement to make this contribution if the stakeholder was 55 years old or older. | Detailed Reasoning - Significant individual test: An individual is a significant individual of a company if they have a small business participation percentage in the company of at least 20%. This 20% can be made up of direct and indirect percentages. A company will satisfy the significant individual test if it had at least one significant individual just before the CGT event. An entity's direct small business participation percentage in a company is the percentage of: · voting power that the entity is entitled to exercise · any dividend payment that the entity is entitled to receive, or · any capital distribution that the entity is entitled to receive, or · if they are different, the small of the three. An entity's direct small business participation percentage in a trust where entities do not have entitlements to all the income and capital of the trust, and the trust makes a distribution of income or capital, is the percentage of: · distributions of income that the entity is beneficially entitled to during the income year, or · distributions of capital that the entity is beneficially entitled to during the income year, or · if the two different percentages above apply, then the smaller of the two. An entity's indirect small business participation percentage in a company or trust is calculated by multiplying together the entity's direct participation percentage in an interposed entity, and the interposed entity's total participation percentage in the company or trust. | Detailed Reasoning - CGT concession stakeholder: An individual is a CGT concession stakeholder of a company if they are a significant individual or the spouse of a significant individual where the spouse has a small business participation percentage in the company at that time that is greater than zero. The percentages are worked out in the same way as for the significant individual test. | Detailed Reasoning - Application to your circumstances: In this case, the company satisfies the basic conditions. To be eligible to apply the retirement exemption, the company must also satisfy the significant individual test. This test requires the company to have had at least one significant individual just before the CGT event. Individuals A, B and C each have a small business participation percentage in company A of more than 20%. Therefore, they were all significant individuals of company A just prior to the CGT event. Therefore, the company is entitled to apply the retirement exemption to the capital gain made on the sale of the property. As the CGT concession stakeholders are over 55 years of age, the company is not required to make a payment to a complying superannuation fund or retirement savings account on their behalf. | Detailed Reasoning - Question 4: The general rule is that a choice available under the CGT provisions once made can not be changed. Generally, such a choice must be made by the time the income tax return is lodged, or within such further time as the Commissioner allows (Subsection 103-25(1)). A taxpayer who has considered the application of the CGT concessions and chosen a particular concession has made a choice which cannot later be changed. However, a taxpayer who did not consider the CGT concessions and accordingly included a capital gain in their income tax return has not made a choice and can, if the Commissioner allows further time, later make a choice for a CGT concession to apply and amend their return to reduce or disregard the capital gain. In determining if the Commissioner should use his discretion to allow an extension of time the following will be considered: · there should be evidence of an acceptable explanation for the period of extension requested and that it would be fair and equitable in the circumstances to provide such an extension; · account must be had to any prejudice to the Commissioner which may result from the additional time being allowed, however the mere absence of prejudice is not enough to justify the granting of an extension; · account must be had of any unsettling of people, other than the Commissioner, or of established practices; · there must be a consideration of fairness to people in like positions and the wider public interest; · whether there is any mischief involved; and · a consideration of the consequences. | Detailed Reasoning - Application to your circumstances: You satisfy the basic conditions for the small business CGT concessions. You also satisfy the further requirements of the retirement exemption. An oversight by your agent meant the CGT event that occurred in the 20XX financial year was included in your income tax return; however the relevant small business concessions were not applied. This is an acceptable explanation for the period of extension required. There would be no prejudice to the Commissioner or unsettling of people by allowing the extension. There is no mischief involved. The Commissioner considers it fair and equitable in these circumstances to exercise his discretion. An extension of time is allowed for you to make the choice to apply the active asset reduction and the retirement exemption.