Private ruling: Non-commercial losses
Published: November 2013
Ruling period: 1 July 2012 to 30 June 2013
Date scheme commenced: 1 July 2012

Ruling: Q1: Are you able to offset the losses from your business activity against your other income? | A1: No.

Relevant facts and circumstances: You own a substantial share portfolio. You do not carry on a business of share trading. You operate a business from your home office. As you fund your business using the income derived from your shares you consider your shares to be part of your business. Based on the information you have provided you do not satisfy any of the four tests in Division 35 of the Income Tax Assessment Act 1997 (ITAA 1997). You do not carry on a primary production or professional arts business.

Relevant legislative provisions: Income Tax Assessment Act 1997 Division 35 | Income Tax Assessment Act 1997 section 35-10 | Income Tax Assessment Act 1997 subsection 35-10(4) | Income Tax Assessment Act 1997 subsection 35-10(2E) | Income Tax Assessment Act 1997 paragraph 35-30(a) | Income Tax Assessment Act 1997 subsection 35-35(1) | Income Tax Assessment Act 1997 subsection 35-40(1) | Income Tax Assessment Act 1997 paragraph 35-40(4)(a) | Income Tax Assessment Act 1997 paragraph 35-40(4)(b) | Income Tax Assessment Act 1997 subsection 35-45(1) | Income Tax Assessment Act 1997 subsection 35-45(4) | Income Tax Assessment Act 1997 section 35-55 | Income Tax Assessment Act 1997 paragraph 35-55(1)(a) | Income Tax Assessment Act 1997 paragraph 35-55(1)(b) | Income Tax Assessment Act 1997 paragraph 35-55(1)(c)

Reasons for decision: Summary: The object of Division 35 of the ITAA 1997 is to act as an integrity measure. Division 35 applies from 1 July 2000 to each and every income year in which an individual taxpayer carries on a business activity. The main operative provision in Division 35 is section 35-10. The major rule in section 35-10 is that unless in each income year: (a) the individual's business activity meets one of the four tests, and for the 2009-10 and later income years, the income requirement is also satisfied (b) the individual comes within the exception, or (c) the individual is covered by an exercise of the Commissioner's discretion in relation to that business activity, a loss from the business activity will not be deductible in the income year in which it arose. The law applies as if the loss were not incurred in the income year. Instead, the loss is deemed to be an amount deductible from the assessable income from the activity for the next year which this activity is carried on. The deferral of deduction rules in section 35-10 of the ITAA 1997 are then applied to that income year. Income requirement The income requirement in subsection 35-10(2E) of the ITAA 1997 is met when, in a given income year the sum of the individual's taxable income, reportable fringe benefits, reportable superannuation contributions and total net investment losses is less than $250,000. When calculating whether an individual has met the income requirement, they must disregard any excess deductions that are subject to Division 35 of the ITAA 1997. The four tests and their operation 1. Assessable income test - If the amount of assessable income derived by the individual from the business activity is at least $20,000, the rules in section 35-10 of the ITAA 1997 do not apply (paragraph 35-30(a) of the ITAA 1997) 2. Profits test - This test involves determining whether the activity has produced a tax profit in 3 out of the past 5 years. The 5-year period includes the current year. If a tax profit has resulted from the business activity in three out of the last five years, the rules in section 35-10 do not apply (subsection 35-35(1) of the ITAA 1997) 3. Real property test - If the individual uses real property, or an interest in real property, on a continuing basis in the relevant *business activity, that has a value of at least $500,000, the rules in section 35-10 do not apply (subsection 35-40(1)). For this test, the following assets are not counted: · a dwelling, and any adjacent land used in association with the dwelling that is used mainly for private purposes (paragraph 35-40(4)(a) of the ITAA 1997), and · fixtures owned by an individual as a tenant (paragraph 35-40(4)(b) of the ITAA 1997). 4. Other assets test - If the individual uses certain other assets, on a continuing basis in the business activity, that have a total value of at least $100,000, the rules in section 35-10 do not apply (subsection 35-45(1) of the ITAA 1997) The following assets are specifically excluded under subsection 35-45(4) of the ITAA 1997 from being counted for this test: · real property, or interests in real property, that are taken into account for the Real property test; and · cars, motorcycles and similar vehicles. | Detailed Reasoning - Primary production and Professional arts business exception: The exception in subsection 35-10(4) of the ITAA 1997 applies to primary production and professional arts businesses where the total assessable income from sources unrelated to the business activity (excluding any net capital gain) is less than $40,000. Where the exception applies the loss deferral rules in Division 35 of the ITAA 1997 do not apply. | Detailed Reasoning - Commissioner's discretion: Where an individual does not satisfy one of the four tests and is not eligible for the exception, the loss from the business activity is deferred unless the Commissioner has exercised the discretion in section 35-55 of the ITAA 1997. Special circumstances The discretion in paragraph 35-55(1)(a) of the ITAA 1997 is intended to provide for cases where a business activity would have passed one of the four tests if it were not for 'special circumstances', including drought, flood, bushfire or some other natural disaster. Ordinary economic, weather or market fluctuations are not considered to be 'special circumstances'. This discretion may be exercised where the Commissioner is satisfied that the impact of the special circumstances prevented the business activity from making a tax profit in that income year. Lead time The discretions in paragraphs 35-55(1)(b) and (c) of the ITAA 1997 are 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. | Detailed Reasoning - Application to your circumstances: While you carry on a business as a sole trader the shares and investments you have in your own name are not part of your business activity. As such, the interest and dividend income you derive from your investments is passive income and is not taken into account when applying any of the four tests under the non-commercial losses legislation. Based on the information you have provided, you do not satisfy any of the four tests in Division 35 of the ITAA 1997, and as you do not carry on a primary production or professional arts business the exception in subsection 35-10(4) of the ITAA 1997 has no application. Also, the Commissioner's discretion in section 35-55 of the ITAA 1997 has no application to your business activity. Therefore, you are not able to offset the losses from your business activity against your other income. The losses must be deferred until one of the four tests is passed.