Private ruling: Capital gains tax concessions for small business
Published: May 2013
Ruling period: Year ending 30 June 2013
Date scheme commenced: 1 July 2012

Ruling: Q1: Do you satisfy the basic conditions necessary to be eligible for the capital gains tax (CGT) concessions for small business, which therefore automatically entitles you to apply the 50% active asset reduction concession to any capital gain made on disposal of the property? | A1: Yes | Q2: Are you eligible to reduce any remaining capital gain made (after applying the 50% active asset reduction concession) on the disposal of the property under the CGT retirement exemption concession for small business? | A2: Yes | Q3: Are you eligible to entirely disregard any capital gain made on the disposal of the property under the CGT 15-year exemption concession for small business? | A3: Yes .

Relevant facts and circumstances: You and your spouse each hold a 50% interest, as tenants in common, in a property. You intend to make an in specie transfer of the property to your self managed super fund (SMSF) which will result in a capital gain. The ground floor of the property has been subject to a commercial lease/rental to Company X since its incorporation in the late 1980's. Company X carries on a business at the premises. You and your spouse are the only directors of Company X. You each hold 50% of the shares in Company X. You and your spouse are employees of Company X. An area upstairs is rented to an unrelated party. You state that the business income of Company X accounts for approximately V% of total income and that approximately W% of total income is received from the unrelated party. You state that the floor space utilised by Company X is similar to the floor space used by the unrelated party. You state that your aggregated turn-over is less than $2 million. You state that you and your spouse have managed the property at all times. You intend to retire on the transfer of the property to your SMSF. You are over 55 years of age

Relevant legislative provisions: Income Tax Assessment Act 1997 Section 152-10 | Income Tax Assessment Act 1997 Section 152-15 | Income Tax Assessment Act 1997 Section 152-35 | Income Tax Assessment Act 1997 Section 104-10 | Income Tax Assessment Act 1997 Section 152-40 | Income Tax Assessment Act 1997 Section 328-125 | Income Tax Assessment Act 1997 Section 152-305 | Income Tax Assessment Act 1997 Section 152-320 | Income Tax Assessment Act 1997 Section 152-105

Reasons for decision: Detailed Reasoning - Small business CGT concession eligibility and the active asset test: Section 152-10 of the Income Tax Assessment Act 1997 (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. (a) the CGT asset satisfies the active asset test in section 152-35 of the ITAA 1997. Section 104-10 of the ITAA 1997 provides that CGT event A1 occurs when your ownership in a CGT asset (eg. land or buildings) is transferred to another entity. 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. However, subsection 152-40(4) explains that an asset whose main use is to derive rent can not be an active asset. Paragraph 152-40(4A)(b) of the ITAA 1997 provides that to determine the main use of an asset, treat any use by your affiliate, or an entity that is connected with you, as your use. 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. 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: 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. You hold 50% of the voting power in Company X, therefore Company X is an entity connected with you. Taxation Determination TD 2006/78 considers, amongst other issues, the situation where there is part business and part rental use of an asset. It states that an asset owned by the taxpayer and used partly for business purposes and partly to derive rent can be an active asset under section 152-40 of the ITAA 1997 where it is considered that the main use of the premises is not to derive rent. In deciding if the property was mainly used to earn rent the Commissioner will consider a range of factors such as: · the comparative areas of use of the premises (between rent and business) · the comparative times of use of the premises (between rent and business), and · the comparative levels of income derived from the different uses of the asset. In your case, V% of the total income from the property is business income generated by an entity connected with you, with the remaining W% being rental income from the unrelated party. In regards to the floor area, approximately 50% is utilised by your connected entity and the remaining 50% is used by the unrelated party. Therefore, as the vast majority of income generated from the property is business income and approximately 50% of the floor space is used to carry on a business by an entity connected with you, we consider that the main use of the property is not to derive rent and therefore the property will be considered an active asset. In summary, you intend to transfer your ownership interest in the property to your self managed superannuation fund and the event will result in a capital gain. You do not carry on a business, however, the asset is used in a business carried on by a small business entity that is connected with you. Further, the asset in question has been used in the course of carrying on a business by an entity that is connected with you for over 20 years. Accordingly, you satisfy all the basic conditions necessary to be eligible for the CGT small business concessions. As you satisfy all the basic conditions, you automatically qualify for the 50% active asset reduction concession. | Detailed Reasoning - Small business retirement exemption: You may choose to disregard all or part of a capital gain under the small business retirement exemption if you satisfy certain conditions. If you are an individual who chooses the retirement exemption, you do not need to terminate any activity or cease business. This concession allows you to provide for your retirement. Subsection 152-305(1) of the ITAA 1997 explains that if you are an individual, you can choose to disregard all or part of a capital gain if: · you satisfy the basic conditions · you keep a written record of the amount you chose to disregard (the CGT exempt amount), and · if you are under 55 years old just before you choose to use the retirement exemption, you make a personal contribution equal to the exempt amount to a complying superannuation fund or retirement savings account (RSA). You must make the contribution: · when you made the choice to use the retirement exemption, or when you received the proceeds (whichever is later), or · when you made the choice to use the retirement exemption if the relevant event is CGT event J2, J5 or J6. If you are 55 years old or older when you make the choice to access the retirement exemption, there is no requirement to pay any amount to a complying superannuation fund or RSA even though you may have been under 55 years old when you received the capital proceeds. Subsection 152-320(1) of the ITAA 1997 provides that an individual's CGT retirement exemption limit at a time is $500,000 reduced by the CGT exempt amounts of CGT assets specified in choices previously made by or for the individual under this Subdivision. In your case: · you satisfy the basic conditions · you are over 55 years of age Therefore, provided you keep a written record of the amount you chose to disregard (the CGT exempt amount) you will satisfy all the conditions necessary to be eligible for the small business retirement exemption concession. The consequences of applying the retirement exemption to your capital gain means that your lifetime limit of $500,000 for the retirement exemption will be reduced by the amount excluded under this exemption. | Detailed Reasoning - Small business 15-year exemption: The small business 15-year exemption takes priority over the other small business concessions and the CGT discount. If the small business 15-year exemption applies, you entirely disregard the capital gain so there is no need to apply any further concessions. Further, you do not reduce the capital gain by any capital losses before you apply the 15-year exemption concession. Subsection 152-105 of the ITAA 1997 provides that an individual can entirely disregard any capital gain if all of the following conditions are satisfied: (a) you satisfy the basic conditions (b) you continuously owned the CGT asset for the 15-year period ending just before the CGT event (c) you are either: i. 55 or over at the time of the CGT event and the event happens in connection with your retirement; or ii. permanently incapacitated at the time of the CGT event. In your case: · you satisfy the basic conditions · you have owned a 50% interest in the asset for over 15 years · you are aged over 55 and you intend to retire Accordingly, you satisfy all the conditions necessary to be eligible for the small business 15-year exemption concession.