Private ruling: non commercial losses - Commissioner's discretion
Ruling period: Year ended 30 June 2010 | Year ending 30 June 2011
Date scheme commenced: 1 July 2009

Ruling: Q1: Will the Commissioner exercise the discretion in paragraph 35-55(1)(c) of the Income Tax Assessment Act 1997 (ITAA 1997) to allow you to include any losses from your primary production business in your calculation of taxable income for the 2009-10 and 2010-11 financial years? | A1: 

Relevant facts and circumstances: You conduct a primary production business consisting of various properties which you purchased over a number of years. The first property was purchased over ten years ago. You submit that your business has suffered over recent years from drought conditions. The poor condition of the property also affected your profitability. You submit that on average it takes at least three to four years to get any one purchase of land up to a profitable state. You expect that the first year you will make a taxable profit will be the 2011-12 financial year. Your income for non-commercial loss purposes is over $250,000

Relevant legislative provisions: Income Tax Assessment Act 1997 paragraph 35-55(1)(c) | Income Tax Assessment Act 1997 subsection 35-10(2)

Reasons for decision: Summary: For your primary production business the Commissioner may only exercise the discretion based on an objective commercially viable period. It is not permissible for the Commissioner to consider subjective factors or the costs of business expansion. The commercially viable period for your business has passed; therefore the Commissioner will not exercise the discretion in paragraph 35-55(1)(c) of the ITAA 1997. | Detailed Reasoning - Detailed reasoning: For the 2009-10 and later income years, Division 35 of the ITAA 1997 will apply to defer a non-commercial loss from a business activity unless: · you satisfy the income requirement and you pass one of the four tests · the exceptions apply, or · the Commissioner exercises his discretion. In your situation, you do not satisfy the income requirement (that is your taxable income, reportable fringe benefits and reportable superannuation contributions but excluding your business losses, exceeds $250,000) and you do not come under any of the exceptions. Your business losses are therefore subject to the deferral rule unless the Commissioner exercises his discretion. Paragraph 35-55(1)(c) of the ITAA 1997 states the Commissioner may decide that the loss deferral rule in subsection 35-10(2) does not apply to a business activity for one or more income years if the Commissioner is satisfied that it would be unreasonable to apply that rule because the business activity has started to be carried on and: · because of its nature, it has not produced, or will not produce, assessable income greater than the deductions attributable to it; and · there is an objective expectation, based on evidence from independent sources (where available) that, within a period that is commercially viable for the industry concerned, the activity will produce assessable income for an income year greater than the deductions attributable to it for that year. The phrase 'objective expectation' was discussed in the Administrative Appeals Tribunal case of Scott v. Commissioner of Taxation [2006] AATA 542; VS2005/31-33, where it was said: …in determining a commercially viable period, the test is primarily an objective one based on independent sources. According to the Commissioner, this approach was taken by the Federal Court in Commissioner of Taxation v Eskandari (2004) 134 FCR 569 where Stone J said, at 581-582: In some cases it may be a straight forward exercise to identify the industry in which the business activity takes place. Some industries are well-established and the basis for an ''objective expectation'' can readily be based on a comparison between the tax payer's business and other businesses within that industry, particularly where businesses or business associations within the industry produce material such as annual reports or industry papers ... Despite what Stone J said, Mr Scott contended that there were other circumstances which had to be taken into account when determining the commercially viable period expressed in the Olives Australia document. However, according to the Commissioner, this is impermissible because, as the Federal Court held in Eskandari , in most cases only objective material will be considered. It is only where, because of the nature of the industry, there is very little or no objective evidence that recourse may be had to the circumstances of the taxpayer. That is not the case in the olive industry, which has been established for centuries. I agree with that submission. It seems to me that if it were permissible to take into account subjective considerations of each individual grower, there might be an almost infinitely variable period which could be described as the commercially viable period. Further, in the case of Scott , additional plantings made at a later time were not permitted to be included in the commercially viable period, as follows: The fact that a grower elects not to plant sufficient trees at the outset to ensure the business is commercially viable is a decision for that individual grower. Such a grower could not expect the Commissioner to exercise his discretion under section 35-55 of the ITAA 1997 in his or her favour because, to do so, would effectively render nugatory the rule dealing with losses from non-commercial business activities. The sole reliance on objective evidence and the impermissibility of subjective considerations was further emphasised in the Explanatory Memorandum to the Tax Laws Amendment (2009 Budget Measures No. 2) Bill 2009 as follows: 2.30 The taxpayer is required to establish objectively that the business is commercial in nature and will become profitable in a commercially viable timeframe. Objective evidence from independent sources can include evidence from an individual or organisation experienced in the relevant industry, such as industry or regulatory bodies, tertiary institutions, industry specialists, professional associations, government agencies or other independent entities with a similar successful business activity. Evidence from independent sources can also include evidence from business advisers (such as business plans), financiers and banks. 2.34 For taxpayers that do not meet the income requirement, the Commissioner may exercise a discretion after an application by a taxpayer, where the Commissioner is satisfied that - based on evidence from independent sources - the business will produce assessable income greater than available deductions, in a timeframe that is considered commercially viable for the industry concerned. 2.35 The discretion is not intended to be available in cases where the failure to make a profit is for reasons other than the nature of the business, such as, a consequence of starting out small and needing to build up a client base, or business choices made by an individual that are not consistent with the ordinary or accepted practice in the industry concerned - such as the hours of operation, location, climate or soil conditions, or the level of debt funding. In your case you purchased your first block of land over ten years ago and subsequently purchased additional blocks. You submit that it takes at least three to four years to get any purchase of land up to a profitable state. Even taking into account the fact that your lead time may have been affected by drought conditions, as it has been over ten years since you first commenced your business it follows that the commercially viable period has expired for the purpose of this private ruling. Following the decision in the case of Scott , the fact that you elected to increase the size of your land holdings over a gradual basis is an insufficient basis for the Commissioner to exercise his discretion under section 35-55 of the ITAA 1997. As for the state of the property when you purchased it, this is a subjective and impermissible consideration, as affirmed in the cases of Eskandari and Stone and cannot be used as determinative factors in this private ruling. To conclude, you purchased your first property a number of years ago and commenced operations. The purchase of additional properties does not alter the requirement that a commercially viable period begins from the commencement of operations to your earliest receipt of income from those operations. It follows that the Commissioner cannot exercise his discretion in your case because the objective commercially viable period has expired. Your inability to make a tax profit is not because of the nature of the business. Therefore, as the Commissioner has not exercised his discretion, you are not entitled to include any losses from your primary production business in your calculation of taxable income for the 2009-10 and 2010-11 financial years.

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