Private ruling: Capital gains tax and GST
Date of advice: 18 May 2016
Published: June 2016
Ruling period: Year ending 30 June 2017
Date scheme commenced: 1 July 2016.

Ruling: Q1: Will the sale of the property be subject to GST? | A1: No. | Q2: Will part of the capital gain be exempt from capital gains tax under the main residence exemption? | A2: Yes. | Q3: Will the small business 15 year exemption apply to allow you to disregard the capital gain on the sale of the property? | A3: Yes.

Relevant facts and circumstances: You purchased a property after 20 September 1985. The property has remained your principal place of residence continuously since it was purchased. Shortly after moving into the property you commenced a small business working from home. Over the years the percentage of floor space used for business purposes has varied. You are retiring from business life and recently sold the business. You plan to sell the property, soon after this. You will be fully retired by the time the property is sold. You will not be registered for GST at the time the property is sold. You are not in the business of selling properties. The property has not been extensively renovated during the last five years. You have owned the property for more than 15 years. You will satisfy the maximum net asset test when the property is sold.

Relevant legislative provisions: A New Tax System (Goods and Services Tax) Act 1999 - Section 9-20 | A New Tax System (Goods and Services Tax) Act 1999 - Section 195-1 | Income Tax Assessment Act 1997 - Section 102-20, | Income Tax Assessment Act 1997 - Section 118-110, | Income Tax Assessment Act 1997 - Section 152-105, | Income Tax Assessment Act 1997 - Section 118-190, | Income Tax Assessment Act 1997 - Section 152-35, | Income Tax Assessment Act 1997 - Section 152-40, and | Income Tax Assessment Act 1997 - Section 152-105.

Reasons for decision: Detailed Reasoning - Carrying on an enterprise: Section 9-20 of the A New Tax System (Goods and Services Tax) Act 1999 (GST Act) provides the definition of enterprise for GST purposes. This definition includes an activity or series of activities done in the form of a business; or in the form of an adventure or concern in the nature of trade. The definition of 'business' in section 195-1 of the GST Act is the same as that in section 995-1 of the Income Tax Assessment Act 1997 . The meaning of 'business' is considered in Taxation Ruling TR 97/11 which discusses the main indicators of carrying on a business. In order to be conducted 'in the form of a business' the activities would need to have the essential appearance or characteristics of a business. In this case the property has been used to operate your small business; however the operations have substantially diminished over the years. You are retiring from business life and recently sold the business. You are planning to sell the property soon. In this case you have held the property for many years and you are not in the business of property selling. Therefore, based on the facts provided, after weighing all the relevant indicators, we are satisfied that your activities would not amount to a business of selling properties. However, the term 'enterprise' also includes an activity or series of activities carried on 'in the form of an adventure or concern in the nature of trade'. An adventure or concern in the nature of trade may include isolated transactions that do not amount to a business, but which have the characteristics of a business deal. The question of whether an entity is carrying on as an enterprise often arises where there are 'one-off' property transactions. The decision to be made is whether the activities are an adventure or concern in the nature of trade as opposed to the mere realisation of a capital asset. Miscellaneous Taxation Ruling MT 2006/1 sets out guidelines on the meaning of the word 'enterprise' for the purpose of entities' entitlement to an Australian business number (ABN). Goods and Services Tax Determination GSTD 2006/6 confirms that the principles in MT 2006/1 apply equally to the term 'enterprise' for GST purposes. Paragraph 265 of MT2006/1 details a list of factors that provide assistance in determining whether activities are an adventure or concern in the nature of trade. If several of the factors are present it may be an indication that an adventure or concern in the nature of trade is being carried on. In this case, you have held the property for some time and currently are not carrying on any business or enterprise in relation to the property. You are selling the property 'as is' and we acknowledge that you may make a profit from the sale of the property. However, this fact alone is not detrimental to the conclusion that the sale may not be an adventure or concern in the nature of trade. We refer to paragraph 244 of MT 2006/1 which states: An adventure or concern in the nature of trade includes a commercial activity that does not amount to a business but which has the characteristics of a business deal. Such transactions are of a revenue nature. However, the sale of the family home, car and other private assets are not, in the absence of other factors, adventures or concerns in the nature of trade. The fact that the asset is sold at a profit does not, of itself, result in the activity being commercial in nature. Having applied all the principles in MT 2006/1 to the present circumstances, we conclude that the sale of your property, does not amount to an enterprise for GST purposes. The sale of the property will be regarded as the mere realisation of a capital asset. Further, at the time of sale you will not be registered and will not be required to be registered for GST. Consequently, the sale of the property will not be subject to GST. | Detailed Reasoning - Question 2: Section 102-20 of the Income Tax Assessment Act 1997 (ITAA 1997) provides that a capital gain or capital loss results from a CGT event occurring. The most common CGT event, A1, occurs when you dispose of a CGT asset to someone else. You will trigger CGT event A1 when you sell your property. Under section 118-110 of the ITAA 1997, you can generally disregard any capital gain or capital loss from a CGT event that happens to a dwelling that is your main residence for the entire period you owned it when: • the dwelling was your home for the whole period you owned it; • the dwelling was not used to produce assessable income; and • any land on which the dwelling is situated is not more than two hectares. In your case, you advise that the dwelling has been your main residence for your entire ownership period but it has also been used to produce assessable income. Accordingly, you are only eligible for a partial main residence exemption (section 118-190 of the ITAA 1997). In calculating your capital gain, subsection 118-190(2) of the ITAA 1997 states that the capital gain or capital loss that you would have made apart from this section from the CGT event is increased by an amount that is reasonable having regard to the extent to which you would have been able to deduct interest. This is referred to as the interest deductibility test. The interest deductibility test applies regardless of whether you actually borrowed money to acquire your dwelling. You must apply it on the assumption that you did borrow money to acquire the dwelling. If you run a business in part of your home, you would be entitled to deduct part of the interest on money you borrowed to acquire the dwelling if: • part of the dwelling is set aside exclusively as a place of business and is clearly identifiable as such, and • that part of the home is not readily adaptable for private use. TD 1999/66 Income tax: capital gains: what factors should be taken into account in determining the 'amount that is reasonable' in applying subsection 118-190(2) of the Income Tax Assessment Act 1997? provides the following example: Peter owns a home that he lived in since October 1994. In October 1995, after taking a redundancy package, he extends the rear of the home and built a studio for his photography business. He has conducted business from these premises since April 1996. In October 1999, Peter sells the property and makes a capital gain of $15,000. As the dwelling was Peter's main residence for the whole period from October 1994 to October 1999, apart from subsection 118-190(2) he would have been able to disregard the $10,000 capital gain, so that he would have made a capital gain of nil. Subsection 118-190(2) requires Peter to increase the capital gain that he would have made by an amount that is reasonable having regard to the amount of interest he would have been able to deduct had he borrowed to acquire the whole house, including the studio, and incurred interest. The interest Peter actually incurred on the money he borrowed to build the studio is irrelevant. Under the hypothetical test, assuming that the studio is 10% of the floor space of the house Peter would increase the capital gain from nil to 10% of the capital gain made on the disposal of the house (10% of $15,000 being $1,500). A further adjustment is then made to take into account the fact that Peter only used 10% of the dwelling to produce assessable income for 42 out of the 60 months in the period of ownership of the house. His capital gain would be $1,050 (42/60 x $1,500). Your application indicates that similarly to the above example, you would apply a partial main residence exemption based on the period of time the dwelling was used to produce assessable income and the floor space that was used over that period. The 50% CGT discount can then be applied as you have owned the asset for more than 12 months. | Detailed Reasoning - Question 3: Section 152-105 of the ITAA 1997 provides a small business 15-year exemption for individuals. Under this section, you can disregard the capital gain from the disposal of your property, being CGT event A1 happening to the asset, if you: (a) satisfy the basic conditions in subdivision 152-A of the ITAA 1997 for the small business CGT concessions. (b) continuously owned the asset for the 15-year period ending just before the CGT event happened and (c) you are: (i) at least 55 years old at that time and the event happened in connection with your retirement or (ii) permanently incapacitated at the time. | Detailed Reasoning - Condition (a): The basic conditions for the small business capital gains tax concessions in subdivision 152-A of the ITAA 1997 (as relevant to this case) are: • the maximum net asset value test • the active asset test Maximum net asset value test There is a limit of $6 million on the net value of CGT assets that you and certain entities can own and still qualify for the small business CGT concessions. This $6 million limit is called the maximum net asset value test. It is not indexed for inflation. You satisfy the maximum net asset value test if the total net value of CGT assets owned by certain entities does not exceed $6 million just before the CGT event that results in the capital gain for which the concessions are sought. You must include the net value of CGT assets owned by: • you • any entities 'connected with you', • any of your 'affiliates' and entities connected with your affiliates. This figures includes the net value of assets of your affiliates, and entities connected with your affiliates, only if the assets are used, or held ready for use, in a business carried on by your or an entity connected with you. You advise that you satisfy the maximum net asset value test. Active asset test The active asset test is satisfied 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 test period detailed below, 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 7.5 years during the test period. The test period: • begins when you acquired the asset, and • ends at the earlier of • the CGT event, and • when the business ceased, if the business in question ceased in the 12 months before the CGT event (or such longer time as the Commissioner allows). The test period: • begins when you acquired the asset, and • ends at the earlier of • the CGT event, and • when the business ceased, if the business in question ceased in the 12 months before the CGT event (or such longer time as the Commissioner allows). The asset does not need to be an active asset just before the CGT event. The meaning of an active asset is set out in section 152-40 of the ITAA 1997. It must firstly satisfy one of the 'positive tests' in subsection 152-40(1) of the ITAA 1997 and then also not be excluded by one of the exceptions in subsection 152-40(4) of the ITAA 1997. Under subsection 152-40(1) of the ITAA 1997, a CGT asset is an active asset (subject to the exclusions) if it is owned and used, or held ready for use, in the course of carrying on a business by you or your small business CGT affiliate or another entity that is connected with you under paragraph 152-40(1)(c) of the ITAA 1997. The combined effect of sections 152-35 and 152-40 of the ITAA 1997 is that the asset will meet the active asset test if the asset was used, or held ready for use, in the course of carrying on a business for at least half of the time period it was owned, subject to the exclusions in subsection 152-40(4) of the ITAA 1997. In your case, you have held the asset for more than 15 years and it has been used in the course of carrying on your business for more than 7.5 years. Accordingly, the active asset test is satisfied. | Detailed Reasoning - Small business 15 year exemption: Because you satisfy both the maximum net asset value test and the active asset test, the basic conditions for the small business concessions are satisfied. As for the conditions specific to the 15-year exemption, condition (b) is satisfied because you have owned the asset for over 15 years. | Detailed Reasoning - Condition (c): Condition (c) of the 15 year exemption applies if when the CGT event happened: • you were permanently incapacitated, or • you were 55 years or older, and the event happened in connection with your retirement. Whether a CGT event happens in connection with an individual's retirement depends on the particular circumstances of each case. There needs to be at least a significant reduction in the number of hours that you work or a significant change in the nature of your present activities to be regarded as a retirement. However, it is not necessary for there to be a permanent and everlasting retirement from the workforce. The provisions relating to the small business 15-year exemption do not define what is meant by the phrase 'in connection with a taxpayer's retirement', nor does it give any indication of the degree of retirement required in order to take advantage of this concession. The words 'in connection with' can also apply where the CGT event occurs sometime before or after retirement. | Detailed Reasoning - Application to your circumstances: You are over 55 years old. You recently sold your business and are transitioning into full retirement. By the time the property is sold you expect to be fully retired. Accordingly, the sale can be considered to be in connection with your retirement and you will satisfy the conditions for the 15 year exemption to disregard any capital gain you make on the sale of the property.