Private ruling: Income Tax Rate
Date of advice: 27 February 2018
Published: June 2018
Ruling period: 1 July 20XX to 30 June 20XX
Date scheme commenced: 1 July 20XX

Ruling: Q1: Is the taxpayer an eligible entity for the purpose of applying a lower corporate tax rate of 27.5% for the income year of 20XX? | A1: Yes.

Relevant facts and circumstances: The taxpayer is a resident private company of Australia and is a head company of a consolidation group for income tax purpose. The taxpayer holds a large portfolio of equities at a substantial value. It derives significant amounts of returns from the portfolio in different forms. The portfolio is actively traded by taxpayer each year with a view to generate gains on trades and to maximise returns. In the relevant income year, the taxpayer conducted a large number of trades, quantity and value of the trades are significant. The taxpayer engages a professional financial advisory firm to manage the portfolio and to make recommendations and advice. The taxpayer pays significant annual fees to for the service. Directors of the taxpayer have ultimate control over the decisions on the portfolio. They are provided with periodical detailed reports and meet with the advisory firm on regular basis. They review the recommendations and advice provided by the firm and must approve any recommendations before they are implemented. The taxpayer maintains both domestic and foreign bank accounts to facilitate the trades. Detailed annual accounts are produced by an accounting firm. The taxpayer derives significant other annual income from related entities in the form of distributions and income from loans provided to related entities; the taxpayer also has an interest in other trust.

Relevant legislative provisions: Income Tax Rates Act 1986 | Income Tax Assessment Act 1997 | Unless otherwise stated, all legislative references are to Income Tax Assessment Act 1997 (ITAA 1997).

Reasons for decision: Summary: Subsections 23(1) and 23(2) of the Income Tax Rates Act 1986 (ITRA 1986) state that, the rate of tax in respect of the taxable income of a company (other than a company in the capacity of a trustee) is: (a) if the company is a base rate entity for a year of income – 27.5%; or (b) otherwise – 30%; if subsections (3) to (5) and section 23A do not apply to the company. The meaning of ‘base rate entity’ is provided in section 23AA of the ITRA 1986. For the income year of 2017, the lower corporate tax rate of 27.5% effectively applied to corporate tax entities that are small business entities. The concept of a ‘small business entity’ is explained in Subdivision 328-C. An entity is a ‘small business entity’ if it: (1) carries on a business; and (2) satisfies the $10 million aggregated turnover test. The term ‘business’ is defined in section 995-1(1) to include any profession, trade, employment, vocation or calling, but it does not include occupation as an employee. Taxation Ruling 97/11 Income tax: am I carrying on a business of primary production? (TR 97/11) provides a guide to the indicators that are relevant to whether or not a person is carrying on a business of primary production, they are: ● whether the activity has a significant commercial purpose or character; this indicator comprises many aspects of the other indicators (paragraphs 28 to 38); ● whether the taxpayer has more than just an intention to engage in business (paragraphs 39 to 46); ● whether the taxpayer has a purpose of profit as well as a prospect of profit from the activity (paragraphs 47 to 54); ● whether there is repetition and regularity of the activity (paragraphs 55 to 62); ● whether the activity is of the same kind and carried on in a similar manner to that of the ordinary trade in that line of business (paragraphs 63 to 67); ● whether the activity is planned, organised and carried on in a businesslike manner such that it is directed at making a profit (paragraphs 68 to 76); ● the size, scale and permanency of the activity (see paragraphs 77 to 85); and ● whether the activity is better described as a hobby, a form of recreation or a sporting activity (paragraphs 86 to 93). Paragraphs 15 and 16 of the TR 97/11 stress that no one indicator is decisive ( Evans v. FC of T 89 ATC 4540; (1989) 20 ATR 922 ), and the indicators must be considered in combination and as a whole. Paragraph 18 of the TR 97/11 provides a table with a summary of the main indicators of carrying on a business. Draft Taxation Ruling 2017/D7 Income tax: when does a company carry on a business within the meaning of section 23AA of the Income Tax Rates Act 1986? (TR 2017/D7) sets out the Commissioner’s preliminary, but considered, views on when a company carries on a business. Paragraph 12 of the TR 2017/D7 lists down the indicia that were considered by courts in determining whether activities carried on by a person amount to the carrying on of a business, they are: ● the nature of the activities, particularly whether they have a profit-making purpose; ● whether the person intends to carry on a business; ● whether the activities are: ● repeated and regular ● organised in a business-like manner, including the keeping of books, records and the use of a system; ● the amount of capital employed in those activities; and ● whether the activity is better described as a hobby, or recreation. Paragraph 44 of the TR 2017/D7 concludes that, whether a company is carrying on a business within the meaning of section 23AA of the ITRA 1986 ultimately depends on an overall impression of the company’s activities. However, where a limited or No Liability (NL) company is established and maintained to make a profit for its shareholders, and invests its assets in gainful activities that have both a purpose and prospect of profit, it is likely to be carrying on a business in a general sense and therefore to be carrying on a business within the meaning of section 23AA of the ITRA 1986. In these circumstances, it is likely the other indicia of carrying on a business will support this conclusion. This is so even if the company’s activities are relatively limited, and its activities primarily consist of passively receiving rent or returns on its investments and distributing them to its shareholders. In the current case, the taxpayer is not merely holding membership interest in other entities, it employs significant amount of capital and actively conducts equity trades of large volume, and the portfolio that it holds is of substantial value and generates high returns each year. It engages a professional finance advisor, who provides recommendations and manages the portfolio. In its own capacity, the taxpayer makes ultimate decisions and provides instructions to the advisor. These activities indicate a clear intention to maximise profits and yields. The taxpayer also lends funds to its related entities and derives income on the loans. On the facts, the taxpayer’s activities present significant commercial purpose and character, strong intention to make a profit or gain is evident, the activities are regular, systematic, organised and carried out in a businesslike manner, proper records are prepared and maintained. Therefore, it is considered that the taxpayer carries on a business. However, this document does not consider: ● what kind of business that the taxpayer carries on, and ● the relationship of the transactions that the taxpayer conducts with its business. Taxation consequences of any transaction that the taxpayer conducts and/or conducted needs to be separately considered. A small business entity is required to satisfy the $10 million aggregated turnover test: section 328-110. The meaning of aggregated turnover is provided in section 328-115. An entity’s aggregated turnover for an income year is the sum of the relevant ‘annual turnovers’, but excluding any amounts covered by subsection 328-115(3). The relevant ‘annual turnovers’ are the entity’s annual turnover, any connected entity's annual turnover and any affiliate's annual turnover. The meaning of annual turnover is further explained in section 238-120. With effect from 1 July 2016, there are three ways an entity can satisfy the $10 million aggregated turnover test, they are: ● the entity's aggregated turnover for the previous income year was less than $10m: subparagraph 328-110(1)(b)(i); ● the entity's aggregated turnover for the current income year is likely to be less than $10m, calculated as at the first day of the income year (or the first day the entity started to carry on the business, if later): subparagraph 328-110(1)(b)(ii); however, this method is not available if the entity carried on business for the two income years before the current year and the entity's aggregated turnover for each of those income years was $10m or more: subsection 328-110(3); or ● the entity's actual aggregated turnover for the current income year was less than $10m calculated as at the end of the income year: paragraph 328-110(4)(b). Provided that the taxpayer satisfies the $10 million aggregated turnover test for the income year of 2017, it meets the requirements for the purpose of accessing lower income tax rate of 27.5% under paragraph 23(2)(a) of the ITRA 1986 .