Private ruling: Am I in business and the small business CGT concessions
Published: April 2013
Ruling period: 1 July 2006 to 30 June 2013
Date scheme commenced: 1 July 2006

Ruling: Q1: Are you carrying on a rental property business? | A1: No | Q2: Will you be able to apply the small business capital gains tax (CGT) concessions to any capital gains you make when you dispose of any of your rental properties? | A2: No

Relevant facts and circumstances: You own approximately X rental properties. All of your properties are rented at arms-length to third parties, generally under six-month renewable leases. Approximately half of your rental properties are in the one strata block consisting of Y villas and Z townhouses. This block is managed by an agent as distance precludes self-management. You have self-managed the remaining properties since you stopped working, living on the income generated from the leases. You do not have any other sources of income. The activities you undertake in relation to the properties you self-manage include: · advertising the properties for lease · preparing lease agreements and condition reports · having open inspections · collecting rent · organising repairs (engaging tradesman) · paying land taxes · taking out insurance · lodging bonds, and · paying council rates, water, strata and interest.

Relevant legislative provisions: Income Tax Assessment Act 1997 Section 995-1 | Income Tax Assessment Act 1997 Subsection 152-10(1) | Income Tax Assessment Act 1997 Subsection 152-40(1) | Income Tax Assessment Act 1997 Paragraph 152-40(1)(c) | Income Tax Assessment Act 1997 Paragraph 152-40(4)(e)

Reasons for decision: Summary: We do not consider that you are carrying on a rental property business. The activity could be better described as leasing residential properties to receive passive income from a stream of rental income. Accordingly, as you are not in business, and because the main use of the properties is to derive rent, you are not eligible to apply the small business concessions to any capital gain you make when you dispose of any of the properties. | Detailed Reasoning - Carrying on a business: Section 995-1 of the Income Tax Assessment Act 1997 (ITAA 1997) defines 'business' as 'including any profession, trade, employment, vocation or calling, but not occupation as an employee'. Normally the receipt of income from the letting of property to a tenant does not amount to the carrying on of a business ( Wertman v. Minister of National Revenue (1964) 64 DTC 5158; Federal Commissioner of Taxation v. McDonald (1987) 15 FCR 172; 87 ATC 4541; 18 ATR 957; Cripps v. FC of T 99 ATC 2428; Case X48 90 ATC 384; (1990) 21 ATR 3389). Whether the letting of property amounts to the carrying on of a business will depend on the circumstances of each case. Generally, it is easier for a company that derives income from the letting of property to show that it carries on a business than it is for an individual (paragraph 3 of Taxation Ruling IT 2423). A person, who simply owns an investment property or several investment properties, either alone or with other co-owners, is usually regarded as an investor who is not carrying on a rental property business. This is because of the limited scope of the rental property activities and the limited degree to which an owner actively participates in rental property activities. A conclusion that an individual is carrying on a business of letting property would depend largely upon the scale of operations. The issue of whether individuals are carrying on a business of letting property has been considered in a number of cases, some of which are discussed below. In 11 CTBR (OS) Case 24 (Case 24) , the taxpayer's income included rent from three properties. The taxpayer employed a manager and an accountant who was principally a letting clerk with authority to refuse tenants. He collected and banked rents, attended to repairs and supervised them, and controlled the caretaker and cleaners. He kept books in connection with rents and repairs, and rates and other outgoings. The taxpayer said he personally carried out the principal part of the management of his rent-producing properties and directed policy, attended to the financial arrangements and made decisions regarding repairs. The taxpayer claimed that he was carrying on a business. In holding that he was not carrying on a business, a majority of the members of the Board of Review said: It is obvious that some measure of supervision and management must ordinarily be exercised by a property owner who lets offices… and if that does not amount to the carrying on of a business, the fact that he employs others to assist him, either in the letting of the properties or in the preparation of the accounts relating to his rents and outgoings, will not make any difference. For the foregoing reasons we are unable to uphold the claim that the taxpayer is engaged in a 'business as property owner'.... In 15 CTBR (OS) Case 26 (Case 26) the taxpayer derived income substantially from her joint ownership of a block of flats (containing 22 living units) with her sister-in-law. A garden was maintained and a staff of one caretaker and one cleaner employed on both buildings with casual labour as required. The building was erected and financed by F & Co., the husbands of the joint owners, in the course of their business as building contractors. The general supervision of letting, rent collecting, servicing and maintenance was carried out by the owners or by F & Co. on their behalf. No charge was made by F & Co. for the extensive assistance given in the supervision of the flats. It was held that a business was not being carried on by the owners of the block of flats. On the other hand, in Case G10 75 ATC 33 ( Case G10 ), the taxpayer owned two properties of which six units were let as holiday flats for short term rental. The taxpayer, with assistance from his wife, managed and maintained the flats. Services included providing furniture, blankets, crockery, cutlery, pots and pans, hiring linen and laundering of blankets and bedspreads. The taxpayer also showed visiting inquirers over the premises, attended to the cleaning of the flats on a daily basis, mowing and trimming of lawns, and various other repairs and maintenance. The taxpayer's task in managing the flats was a seven day a week activity. The Board of Review held that the activity constituted the carrying on of a business. Taxation Ruling TR 97/11 incorporates the general factors that are considered important in determining the question of whether a business activity is being carried on: · whether the activity has a significant commercial purpose or character · whether the taxpayer has more than just an intention to engage in business · whether the taxpayer has a purpose of profit as well as a prospect of profit from the activity · whether there is regularity and repetition of the activity · whether the activity is of the same kind and carried on in a similar manner to that of ordinary trade in that line of business · whether the activity is planned, organised and carried on in a businesslike manner such that it is described as making a profit · the size, scale and permanency of the activity, and · whether the activity is better described as a hobby, a form of recreation or sporting activity. TR 97/11 states the indicators must be considered in combination and as a whole. Whether a business is being carried on depends on the large or general impression gained from looking at all the indicators, and whether these factors provide the operations with a commercial flavour. However, the weighting to be given to each indicator may vary from case to case. In your situation, you have engaged an agent to effectively manage approximately half of your rental properties and you do not provide any services to the tenants of these properties. The activities you undertake in relation to these properties, such as paying insurance and other expenses, are considered to be in line with those required of a passive investor in rental properties. The additional activities you undertake for the rental properties you self-manage, such as preparing leases, advertising, having open inspections, organising tradesman for repairs and lodging bonds are not day-to-day activities. The properties are not rented as short term (nightly or weekly) rentals, but are rented under lease agreements which are typically long term in nature. The relationship between you and the residents of the properties is that of a landlord and tenant; where the tenants have exclusive possession and control access to and from the properties. In addition, you do not provide any services to the tenants. The undertaking of managing and maintenance, level of involvement, scale of activity and volume of operation in your activity is not as great as that noted in Case G10 . We consider your case to be aligned closer with the circumstances in Case 24 and Case 26 . Your activity lacks the repetition and regularity that is expected of a person carrying on a rental property business. Your activities are better described as leasing residential properties to receive passive income from a stream of rental income. The income is not derived from the services you provide; it is derived from the letting of the properties and is considered to be passive income. We do not consider that you carry on a rental property business. | Detailed Reasoning - Small business CGT concessions: The basic conditions for the small business CGT concessions are outlined in subsection 152-10(1) of the ITAA 1997. One of the basic conditions is that the asset must satisfy the active asset test. The term 'active asset' is defined in subsection 152-40(1) of the ITAA 1997 as an asset you own and use (or hold ready for use) in the course of carrying on a business; or in the course of carrying on a business by a connected entity under paragraph 152-40(1)(c) of the ITAA 1997. Accordingly, your rental properties cannot be active assets as they are not held in the course of carrying on a business for the purposes of paragraph 152-40(1)(a) of the ITAA 1997. Additionally, irrespective of whether your activities amounted to a business, paragraph 152-40(4)(e) of the ITAA 1997 states that an asset whose main use is to derive rent cannot be an active asset unless the main use for deriving rent was only temporary. Accordingly, your rental properties would not satisfy the active asset test in this regard. As you do not satisfy the basic conditions, you cannot apply the small business CGT concessions to the disposal of any of your rental properties.