A recent Federal Court decision has highlighted the need for tax practitioners to exercise increased caution when it comes to advising clients on the active asset classification of certain business assets and their eligibility for the CGT small business concessions (‘CGT SBCs’) for any resulting capital gains.
The CGT SBCs (contained in Division 152 of the ITAA 1997) are highly advantageous tax concessions small business taxpayers can utilise, especially when selling business assets such as goodwill and most business premises. In particular, eligible taxpayers can reduce (or in some instances completely eliminate) any CGT liability by choosing to apply the 15-year exemption or alternatively by choosing to apply a combination of the retirement exemption, the 50% active asset reduction and/or the small business roll-over (on top of the CGT 50% discount).
Importantly, before any of the CGT SBCs can be applied, a number of basic conditions must be satisfied. One of these is the requirement that the CGT asset must satisfy the active asset test.
A key element of satisfying the active asset test (contained in S.152-40(1) of the ITAA 1997) is whether or not the asset (in relation to which the relevant CGT event has been triggered) has been:
“…used, or held ready for use, in the course of carrying on a business…”
In recent times, the ATO have made it clear that they only consider an asset to be used” in the course of carrying on a business” where its use is integral to the process by which the business is carried on. This view was subsequently put to the test in two Administrative Appeal Tribunal (‘AAT’) decisions involving:
- vacant land used primarily for storage of equipment and materials with the main business activities being conducted elsewhere (Eichmann v FCT [2019] AATA 162 (‘Eichmann’s AAT case’)); and
- land which was over 90% vacant and unused with the remainder used partly for business and partly for private purposes (Rus v FCT [2018] AATA 1854 (‘Rus’ case’)).
TAX WARNING – Federal Court denies access to the CGT SBCs
Recently, the Federal Court (‘FC’) handed down its decision in relation to the ATO’s appeal against the decision in Eichmann’s AAT case in FCT v Eichmann [2019] FCA 2155 (‘Eichmann’s FC case’). Unfortunately, the FC has effectively supported the ATO’s narrower interpretation of exactly when a business asset is “used, or held ready for use, in the course of carrying on a business” and therefore potentially eligible to apply the CGT SBCs.
Importantly, this decision has wide ranging negative implications for taxpayers who are using business assets that are seen as effectively ancillary to the income producing activities of the business (e.g., storage and administrative facilities), as they may no longer be eligible to apply the CGT SBCs to any capital gains made on the disposal of such assets.
To make matters worse, despite the fact the taxpayer did not appeal the AAT decision in Rus’ case, the FC judgment in Eichmann’s FC case supports the restrictive view taken by the AAT in this earlier decision. In doing so, the latest FC decision also has negative implications for taxpayers selling assets that were only partly used for business purposes.
These issues, in light of this latest FC decision focusing on the definition of an active asset for the purpose of the CGT SBCs, are discussed in more detail in this segment of the notes.
All legislative references are to the ITAA 1997, unless otherwise indicated.