Private ruling: Capital gains tax - small business concessions - active asset
Date of advice: 5 September 2019
Published: November 2019
Ruling period: Year ending 30 June 20XX
Date scheme commenced: 1 July 20XX

Ruling: Q1: Are you eligible for the general fifty percent capital gains discount on the proceeds from the disposal of the property? | A1: Yes | Q2: Does the property satisfy the active asset test for the purpose of the small business capital gains tax concessions? | A2: Yes | Q3: Are you eligible to apply the small business concessions? | A3: Yes | Q4: Are you eligible to apply the fifty percent active asset reduction? | A4: Yes | Q5: Are you eligible to apply the retirement exemption, subject to meeting the contribution requirements? | A5: Yes

Relevant facts and circumstances: You are the sole owner of the property. You acquired the property in 20XX. You lease the property to a company who use the property in their business to provide short term room rentals to third parties. You are the sole shareholder and director of the company. Exclusive possession is not granted to occupants who are confined to short term stays. The company has a turnover of less than $XXX per annum. The property has been used by the company for the past years. You intend to dispose of the property in the 20XX-XX financial year and anticipate that you will make a capital gain from the disposal. You meet the small business concessions basic conditions.

Relevant legislative provisions: Income Tax Assessment Act 1997 section 102-20 | Income Tax Assessment Act 1997 section 104-10 | Income Tax Assessment Act 1997 subsection 104-10(2) | Income Tax Assessment Act 1997 section 115-12 | Income Tax Assessment Act 1997 subdivision 115-B | Income Tax Assessment Act 1997 subsection 328-125(1) | Income Tax Assessment Act 1997 subsection 328-125(2) | Income Tax Assessment Act 1997 section 152-40 | Income Tax Assessment Act 1997 subsection 152-35(1) | Income Tax Assessment Act 1997 subsection 152-40(4) | Income Tax Assessment Act 1997 paragraph 152-40(4)(e) | Income Tax Assessment Act 1997 section 152-10 | Income Tax Assessment Act 1997 section 152-15 | Income Tax Assessment Act 1997 subsection 152-10(1A) | Income Tax Assessment Act 1997 subsection 152-10(1B) | Income Tax Assessment Act 1997 section 152-35

Reasons for decision: Summary: The concept of a CGT event is of crucial importance to the CGT provisions contained in the Income Tax Assessment Act 1997 (ITAA 1997). Section 102-20 of the ITAA 1997 states You can make a capital gain or capital loss if and only if a CGT event happens [emphasis added] If the transaction or event is not a CGT event, a capital gain or capital loss cannot be made. The disposal of an asset is the most common CGT event and is referred to as CGT event A1 under section 104-10 of the ITAA 1997. Subsection 104-10(2) of the ITAA 1997 states You dispose of a CGT asset if a change of ownership occurs from you to another entity, whether because of some act or event or by operation of law. However, a change of ownership does not occur if you stop being the legal owner of the asset but continue to be its beneficial owner. | Detailed Reasoning - 50% capital gain discount: For a capital gain to be a discount capital gain, it must have resulted from a CGT event happening to a CGT asset that was acquired by the entity making the capital gain at least 12 months before the CGT event (section 115-25 of the ITAA 1997). Subdivision 115-B of the ITAA 1997 contains the discount percentages to be applied to discount capital gains. The discount percentage is 50% for discount capital gains made by an individual. In your case, you have held the property for more than 12 months and you are therefore eligible to apply the 50% capital gain discount to the capital gain made when you dispose of the property. | Detailed Reasoning - Active asset: Section 152-40 of the ITAA 1997 provides the meaning of 'active asset'. A CGT asset will be an active asset at a time if, at that time, you own the asset and the asset was used or held ready for use by you, an affiliate of yours, or by another entity that is 'connected with' you, in the course of carrying on a business. | Detailed Reasoning - Entity 'connected with' you: Subsection 328-125(1) of the ITAA 1997 explains that an entity is connected with another entity if: a) either entity controls the other entity in a way described in this section; or b) both entities are controlled in a way described in this section by the same third entity. Subsection 328-125(2) of the ITAA 1997 provides that an entity (the first entity) controls another entity if the first entity, its affiliates, or the first entity together with its affiliates: beneficially owns, or has the right to acquire beneficial ownership of, interest in the other entity that give the right to receive at least 40% (the control percentage) of any distribution of income or capital by the other entity. Subsection 328-125(2) of the ITAA 1997 provides that an entity (the first entity) controls another entity if the first entity, its affiliates, or the first entity together with its affiliates: if the other entity is a company - beneficially owns, or has the right to acquire beneficial ownership of, equity interests in the company that give at least 40% of the voting power in the company. In your case, you are the sole shareholder and director of the company , therefore the company will be an entity that is 'connected with' you. | Detailed Reasoning - Active asset test: Subsection 152-35(1) of the ITAA 1997 states that a CGT asset satisfies the active asset test if: · you have owned the asset for 15 years or less and the asset was an active asset of yours for a total of at least half of the period of ownership, or · you have owned the asset for more than 15 years and the asset was an active asset of yours for a total of at least 7 and a half years. Importantly, subsection 152-40(4) of the ITAA 1997 provides that an asset whose main use is to derive rent cannot be an active asset. Taxation Determination TD 2006/78 discusses whether there are circumstances in which a premises used in a business of providing accommodation for reward may satisfy the active asset test in section 152-35 of the ITAA 1997, notwithstanding the exclusion in paragraph 152-40(4)(e) of the ITAA 1997. The taxation determination explains that whether an asset's main use is to derive rent will depend on the particular circumstances of each case. A key factor in determining whether an occupant of premises is a lessee is whether the occupier has a right to exclusive possession ( Radaich v Smith (1959) 101 CLR 209; Tingari Village North Pty Ltd v Commissioner of Taxation [2010] AATA 233 at paragraphs 44-66, 2010 ATC 10-131, 78 ATR 693 and associated Decision Impact Statement 2008/4646 & 2008/4647). If, for example, premises are leased to a tenant under a lease agreement granting exclusive possession, the payments involved are likely to be rent and the premises not an active asset. On the other hand, if the arrangement allows the person only to enter and use the premises for certain purposes and does not amount to a lease granting exclusive possession, the payments involved are unlikely to be rent. Ultimately, these are questions of fact depending on all the circumstances involved. Relevant factors to consider in determining these questions (in addition to whether the occupier has the right to exclusive possession) include the degree of control retained by the owner and the extent of any services provided by the owner such as room cleaning, provision of meals, supply of linen and shared amenities ( Allen v Aller (1966) 1 NSWR 572), Appah v Parncliffe Investments Ltd [1964] 1 All ER 838 and Merchant v Charters [1977] 3 All ER 918). In your case, the occupants of the rooms are allowed to enter and use the premises for certain purposes and it is considered that this would not amount to a lease granting exclusive possession. The company provides services such as cleaning, supply of linen and provision of beverages as part of the provision of the room. It would be considered that the payments involved would be unlikely to be rent and the property would be considered an active asset. The company is considered to be an entity 'connected with' you and the company uses the property in the course of carrying on their business. You have owned the property for less than 15 years and it has been an active asset of an entity 'connected with' you for the entire period of your ownership. As such, the property has also satisfied the active asset test. | Detailed Reasoning - Small business CGT concession eligibility: Section 152-10 of the ITAA 1997 contains the basic conditions you must satisfy to be eligible for the small business CGT concessions. These conditions are: (a) a CGT event happens in relation to a CGT asset in an income year. (b) the event would have resulted in the gain (c) at least one of the following applies: (i) you are a small business entity for the income year (ii) you satisfy the maximum net asset value test in section 152-15 of the ITAA 1997 (iii) you are a partner in a partnership that is a small business entity for the income year and the CGT asset is an asset of the partnership or (iv) the conditions in subsection 152-10(1A) or (1B) of the ITAA 1997 are satisfied in relation to the CGT asset in the income year. (d) the CGT asset satisfies the active asset test in section 152-35 of the ITAA 1997. To be eligible to apply the small business CGT concessions you must satisfy all four of the basic conditions above. In your case, you intend to dispose of the property, triggering CGT event A1 and you anticipate that the event will result in a capital gain, satisfying conditions (a) and (b). You do not carry on a business, however your property is used in a business carried on by a small business entity, that is connected with you and the property has satisfied the active asset test, satisfying conditions (c) and (d). You therefore satisfy the basic conditions necessary to access the capital gains tax concessions for small business. As such you are eligible to apply the 50% small business active asset reduction and, subject to meeting the contribution requirements, you are also eligible to apply the small business retirement exemption.