Tax law changes to help SMEs

A bill was recently introduced in Federal Parliament – the Tax Laws Amendment (2009 Measures No 2) bill 2009 – to give greater access to the small business capital gains tax (CGT) concessions.

Those concessions can save many dollars in tax. They are:

• The 15-year exemption – an individual small business taxpayer is entitled to a full exemption from CGT in relation to, for example, the sale of an asset that is subject to CGT, where the asset has been continuously held for 15 years, the taxpayer is at least 55 years old, and the sale of the asset occurs in connection with the retirement of the taxpayer. The 15-year exemption has priority over the other small business CGT concessions.
• 50% concession – a capital gain on an “active asset” (an asset used in carrying on the business) used in the business can be reduced by 50% if certain conditions are met.
• Retirement exemption – basically, a taxpayer can elect to disregard a capital gain on the sale of a business asset up to a lifetime limit of $500,000. If the taxpayer is under 55 at the time of choosing to apply this concession, the amount of the gain must be rolled over to a complying super fund or retirement savings account within the specified time limits. If the taxpayer was 55 years or over, the gain can be taken tax-free. This exemption cannot be used if the 15-year exemption applies.
• Rollover for replacement assets – in essence, where assets are sold and replaced by new assets, any capital gain on the sale of the old assets can be ignored up to the value of the replacement asset.

The bill is still before Parliament, but it is useful to run through some of the changes, technical as they may be.

These amendments are designed to extend access to the small business CGT concessions in circumstances where that access would currently not be available. Once the amendments are law, owners of passively held assets (see below) will be able to qualify for the concessions under the small business entity test, which was introduced in 2007 to simplify eligibility requirements for the small business concessions.

This means that a taxpayer that owns a CGT asset used in a business by an affiliate or entity connected with the taxpayer, and partners owning certain CGT assets used in the partnership business, will have access to the small business CGT concessions via the

small business entity test (the $2 million turnover test) from the 2007-08 income year – that is, generally, from 1 July 2007.

But for the amendments, the taxpayer would not satisfy the requirement of “carrying on a business” in order to use the $2 million turnover test. Similarly, the changes will allow partners who own a CGT asset that is used in a partnership business to access the small business CGT concessions via the $2 million turnover test where the CGT asset is not an “asset of the partnership”.

Treatment of passively held CGT assets

The tax law will be amended so that a taxpayer who owns a CGT asset that is used in a business by the taxpayer’s affiliate, or an entity connected with the taxpayer, is able to access the small business CGT concessions via the $2 million turnover test. However, the following conditions must be satisfied:

• The taxpayer’s affiliate, or an entity that is connected with the taxpayer, must be a small business entity (generally with annual turnover of less than $2 million) for the income year in which the CGT event happens.
• The taxpayer does not carry on a business in the income year other than in partnership.
• If the taxpayer carries on a business in partnership, the CGT asset is not an interest in an asset of the partnership.
• The small business entity that is the taxpayer’s affiliate, or is connected with the taxpayer, is the entity that carries on the business.

It should be noted that where an asset-owning entity is seeking access to the small business concessions via these amendments, the rules for determining the aggregated turnover of the relevant business (the $2 million turnover test) are modified by the new special rules for calculating aggregated turnover for passively held assets.

Example

Fred owns land that he leases to a company he wholly owns, which uses the land in its farming business. He does not carry on a business. Under the current law, Fred is not able to access the small business CGT concessions via the small business entity test because he does not carry on a business.

However under the amendments, Fred would be able to access the small business concessions via the $2 million turnover test depending on the aggregated turnover of the company. This follows because the company, which is connected with Fred, uses his land in carrying on its business.

Use of CGT assets by partnerships

The bill also amends the tax law so that a partner who owns a CGT asset that is not an interest in an asset of the partnership will also be able to access the small business CGT concessions via the $2 million turnover test provided the asset is made available for use in the partnership.

However, the following conditions must be met:

• The taxpayer must be a partner in a partnership in the income year (the income year in which the CGT event [for example, the asset is sold] happens to the taxpayer’s CGT asset).
• The partnership is a small business entity for the income year.
• The taxpayer must not carry on a business in an income year other than in partnership.
• The CGT asset is not an interest in an asset of the partnership.
• The business that the taxpayer carries on as a partner in the partnership is the business the taxpayer carries on in relation to the CGT asset.

Example

Jack and Jill each own 50% of a supermarket building, which is used in the business of a partnership carried on by Jack, Jill, James and Donna. The partnership trades under the name Auzzie Supermarket.

Under the amendments, Jack and Jill may be able to access the small business concessions in relation to their respective shares of the building via the $2 million turnover test, depending on the aggregated turnover of the partnership calculated respectively for James and Donna.

Be aware however, that the amendments also insert a special rule to deal with situations where a taxpayer makes the CGT asset available for use in the business of more than one partnership of which they are a partner.

The purpose of this rule is to limit tax planning opportunities that may arise because the partnerships do not have to be connected with the taxpayer to obtain access to the concessions. The new rule for taxpayers in these circumstances treats each partnership that is not already connected with the test entity as being connected with the test entity.

Spouses or children taken to be affiliates

The bill will also amend the law to allow a CGT asset owned by a taxpayer to also be treated as an active asset where the taxpayer’s spouse owns an entity that uses the CGT asset in its business (as opposed to where it is used by the spouse directly).

But for the amendment, the taxpayer would have to rely on the entity being an affiliate of the taxpayer to treat the asset as an active asset, which may be difficult to establish.

Specifically, the amendments will treat an individual’s spouse or child (under 18 years of age) as an affiliate of the individual for the purposes of determining whether the individual, or an entity in which the individual has an interest, is eligible for the small business concessions where one entity owns a CGT asset and (a) that asset is used, or held ready for use, in the course of carrying on a business by another entity; or (b) is inherently connected with a business carried on by another entity.

Date of effect

These amendments will apply to CGT events happening in the 2007-08 income year and later income years – that is, in effect, from 1 July 2007.

Victorian bushfires: Tax exemption for grant

In further assistance to SMEs, the bill also proposes to amend the tax law to provide a tax exemption for clean-up and restoration grants paid to small businesses and primary producers affected by the Victorian bushfires.

On 18 February 2009, the Federal and Victorian Governments announced a package to assist small businesses and primary producers affected by the Victorian bushfires. The package included a $5000 clean-up and restoration grant, which could be increased up to $25,000 in cases where the applicant suffered significant damage.

Note that this amendment only applies to this specific grant.

Terry Hayes is the senior tax writer at Thomson Reuters, a leading Australian provider of tax, accounting and legal information solutions.