Private ruling: Capital gains tax concessions for small business
Published: May 2014
Ruling period: Year ending 30 June 2014
Date scheme commenced: 1 July 20AA

Ruling: Q1: Does the Property A qualify as an active asset for the purposes of the capital gains tax (CGT) concessions for small business? | A1: Yes | Q2: Will you be eligible for the CGT small business rollover concession contained in subdivision 152-E of the Income Tax Assessment Act 1997 (ITAA 1997), if you have used this concession to disregard a capital gain in a prior financial year? | A2: Yes | Q3: Do the improvements and equipment, for Property A for Property B, that were acquired between June 200X and February 20AA qualify as replacement assets for the purposes of the CGT small business roll-over concession? | A3: No | Q4: Do the proposed future improvements and equipment, to be purchased for Property A within 2 years after the sale of the Property A, qualify as replacement assets for the purposes of the CGT small business rollover concession? | A4: Invalid, we cannot state whether a possible acquisition will or will not satisfy the rollover conditions by the end of the replacement asset period. | Q5: Do the lots making up Property B, acquired in 200Y, qualify as replacement assets for the purposes of the CGT small business rollover concession on the disposal of the Property A? | A5: No | Q6: If the proceeds from the sale of the Property A are received in instalments, is the last CGT event under the CGT small business rollover concession, the date of the receipt of the final instalment for the purposes of determining the two year time limit for the replacement asset period? | A6: No | Q7: If the proceeds from the sale of the Property A are received in instalments, is the last CGT event under the CGT small business rollover concession, the date the contract to dispose of the property is entered into for the purposes of determining the two year time limit for the replacement asset period? | A7: Yes | Q8: If Property B qualifies as a replacement asset, will the Commissioner accept the value of the land to be the total cost of the land less the estimated value of 2 hectares which is considered to be of private use? | A8: Not applicable, the Property B does not qualify as a replacement asset | Q9: Will you be eligible to reduce any capital gain made on the disposal of Property A under the CGT small business retirement exemption provided you keep a record of the amount you wish to disregard and make the contribution to your superannuation fund by the relevant date? | A9: Yes

Relevant facts and circumstances: You derived a capital gain as a result of the sale of shares. You deferred all of the capital gain made from the disposal of the shares under the capital gains tax (CGT) small business rollover concession by purchasing a business. The purchase of the business included Property A. You state that approximately 95% of the land was used for business purposes. The 5% private portion is the portion of land forming part of your residence. Property A has never been subdivided. The business commenced at Property A immediately following its purchase. The turnover of the business in the 20CC-AA financial year was significantly less than $2 million. Between mid-200X and the beginning of 20ZZ you incurred expenditure on equipment and improvements for Property A. You received information that the area was to be rezoned, upon this advice you decided to relocate your business to another property. You purchased a number of lots, making up Property B in 200Y. Between the end of 20BB and the beginning of 20AA you incurred expenditure on equipment and improvements for Property B. You state that you may be purchasing some equipment or making some capital improvements for Property B in the future (within two years of the disposal of Property A). You state that you planned to use the sale proceeds from the sale of Property A to fund the development of required facilities at Property B. You decided to progress with the relocation to Property B as originally planned but before the sale of the Property A. You state that you decided to lease Property A on a short term, non-exclusive basis. The non-exclusive lease meant that the lessee did not have exclusive right of use from the property and that your business could also make use of the property. For approximately 17 months of your relevant ownership period of Property A, it was leased to an unrelated entity. You expect to dispose of Property A in the 20AA-14 financial year. You will be under 55 years of age at the time of the anticipated disposal of the property. You have not utilised any of your CGT life time retirement exemption limit. You state that you intend to utilise the small business retirement exemption concession for the capital gain made on the disposal of Property A by contributing an amount of no more than $500,000 into a complying superannuation fund within 7 days of choosing to do so. You have provided information showing that the net assets of you and your connected entities total more than $6 million. You state that entities connected with you do not have an annual business turnover that exceeds $2 million, either individually or collectively.

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 152-305 | Income Tax Assessment Act 1997 Section 152-320 | Income Tax Assessment Act 1997 Section 152-410 | Income Tax Assessment Act 1997 Section 152-415

Reasons for decision: Detailed Reasoning - Small business CGT concession eligibility: 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 happens when your ownership in a CGT asset (eg. land or buildings) is transferred to another entity. The time of the event is when you enter into the contract for the disposal or, if there is no contract - when the change of ownership occurs. It is irrelevant when actual payment for the disposal is received, the CGT event happens at the change of ownership, not the when receipt of a payment occurs. In your case, you intend to dispose of Property A to another entity and you expect to make a capital gain. In addition, you are a small business entity for the income year in which the disposal will occur. Accordingly, you meet conditions (a), (b) and (c) of the basic conditions, therefore we need only establish whether the property satisfies the active asset test (condition (d)). | Detailed Reasoning - Active asset test: 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. 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 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, you have owned Property A for less than 10 years. You state that you have carried on a business on the property since its acquisition and that a percentage of the property was used for business purposes, with the remaining percentage used for your private residence. You state that for approximately 17 months of your ownership period the property was leased to an unrelated entity. Therefore, based on the information, you have used the property in the course of carrying on a business for over half of your ownership period and the main use of the property is not to derive rent. Accordingly, Property A satisfies the active asset test. As the property satisfies the active asset test, you will satisfy all the basic conditions necessary to access the CGT concessions for small business. | 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. 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. In your case; • you satisfy the basic conditions • you are under 55 years of age • you intend to make a contribution to a complying superannuation of no more than $500,000 Therefore, provided you keep a record of the amount you wish to disregard and make the contribution to your superannuation fund by the time detailed above, you will satisfy the necessary conditions to be eligible for the small business retirement exemption. | Detailed Reasoning - Small business rollover concession: Section 152-410 of the ITAA 1997 provides that you can choose to obtain a roll-over under Subdivision 152-E for a capital gain if the basic conditions in Subdivision 152-A are satisfied for the gain. Section 152-415 of the ITAA 1997 explains that if you choose the roll-over, you can choose to disregard all or part of each capital gain to which Subdivision 152-E applies. There are rollover conditions that must be satisfied by the end of the replacement asset period. This period starts one year before and ends two years after the last CGT event that occurs in the income year for which you choose the roll over. If the rollover conditions are not met within the replacement asset period, the gain will become assessable. You satisfy the rollover conditions where you meet all the following conditions: • you acquire one or more CGT assets as replacement assets or make a capital improvement to one or more existing assets, or both, within the replacement asset period • the replacement asset, or the asset to which the capital improvement was made, is an active asset at the end of the replacement asset period (a depreciating asset such as plant can be a replacement asset) • the capital gain that is being rolled over is not more than the sum of the following • the amount paid to acquire the replacement asset (that is, the first element of the cost base of the replacement asset) • any incidental costs incurred in acquiring that asset, which can include giving property (that is, the second element of the cost base of the replacement asset), and • the amount expended on capital improvements to one or more assets that were acquired or already owned (that is, fourth element expenditure). A replacement asset can include an asset that is otherwise exempt from CGT on disposal (eg. a car or business equipment), provided it is or becomes and active asset of the taxpayer. This is because the effect of any reinstatement of the gain under CGT event J2, J5 or J6 is to reinstate the originally rolled over gain, and not any gain on the exempt replacement asset itself. Goodwill acquired on the acquisition of a new business would also satisfy the requirement of a acquiring a replacement asset, this is because goodwill is considered an active asset of a business. In your case, you intend to dispose of Property A in the 20AA-14 financial year. | Detailed Reasoning - Expenditure - June 200X to February 20ZZ: From the period June 200X to February 20ZZ you incurred expenditure on improvements and equipment for Property A. As the expenditure on improvements and equipment was incurred more than 12 months prior to the expected disposal date of Property A, they do not fall within the replacement asset period and therefore the expenditure does not satisfy the conditions under the small business rollover concession. | Detailed Reasoning - Expenditure - December 2011 to February 20AA: This will also be the case with the expenditure incurred on improvements and equipment at the Property B from December 20BB to February 20AA. Again, the expenditure was incurred outside the replacement asset period and therefore the expenditure does not satisfy the conditions under the small business rollover concession. | Detailed Reasoning - Expenditure - proposed: You have stated that you may be purchasing some equipment or making some capital improvements for Property B in the future. While you do satisfy the basic conditions, and are therefore eligible for the small business rollover concession on the disposal of Property A, we cannot state with any certainty that any capital improvements you may make or, any equipment you may purchase will satisfy the rollover conditions within the replacement asset period. This is because we cannot foresee whether the replacement asset/s will be active assets at the end of the replacement asset period nor can we establish whether enough expenditure has been incurred in order to satisfy the necessary small business rollover conditions.