Can an individual who owns a 50% share in a commercial property access the CGT small business concessions?  

A common question from members who contact the Tax & Super Australia helpline service relates to the small business CGT concessions. The following example gives guidance on a particular capital gains tax scenario.

Scenario

A property was originally acquired just over 15 years ago by two husband and wife couples as tenants in common. A partner of one couple passed away a number of years ago, leaving the current property ownership as one couple 50%, and the remaining surviving spouse of the second couple with 50%.

The property is rented to a unit trust that conducts a business. The unit trust has operated the business via the property, also for just over 15 years, and was originally owned 50/50 by the respective family trusts of each couple. A number of years ago the family trust applicable to the surviving spouse, which had originally owned the units, sold those units to an unrelated family trust. 

The small business entity tests are satisfied for the unit trust. (Note: see pp.15-19 for new information about small business CGT concessions.)

Guidance

A review of the small business CGT concessions is needed to determine if they can apply to the individual that owns the 50% share in the commercial property. First off, the basic conditions for relief need to be satisfied (section 152-10(1)(c) ITAA97). The conditions for the individual in this example are:

a.     a CGT event happens in relation to a CGT asset in an income year 

b. the event would (apart from this division) have resulted in a gain, and

c. at least one of the following applies:
i. you are a CGT small business entity for the income year
ii. you satisfy the maximum net asset value test (see section 152-15)
iii. you are a partner in a partnership that is a CGT small business entity for the income year and the CGT asset is an interest in an asset of the partnership, and
iv. the conditions mentioned in subsection (1A) or (1B) are satisfied in relation to the CGT asset in the income year;((1A) refers to passively held assets —affiliates and entities connected with you, and (1B) refers to passively held assets — partnerships).
(For the purpose of this example, the maximum net asset value test under section 152-15 ITAA97 can be ticked off; that is, just before the CGT event, the sum of the net value of CGT assets held by the individual, any entities connected with the individual, and
the net assets of any affiliates of the individual or entities connected with the affiliates, did not exceed $6 million.)

d. the CGT asset satisfies the active asset test (section 152-35).

A look at section 152.35 indicates that a CGT asset satisfies the active asset test if:
a. 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 the period specified in subsection (2), or
b. 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 7½ years during the period specified in subsection (2).

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(Subsection (2) details that the period begins when you acquire the asset and ends at the earlier of; (i) the CGT event, and (ii) if the relevant business ceased to be carried on in the 12 months before that time or any longer period that the Commissioner allows — the cessation of the business).

While the ownership period can be satisfied in our example, section 152-40 of ITAA97 has to be looked at to answer the question as to whether the 50% ownership of the commercial property by the individual is an active asset.
Section 152-40(1)(a) indicates a CGT asset is an active asset at a time if, at that time; you own the asset (whether the asset is tangible or intangible) and it is used, or held ready for use, in the course of carrying on a business that is carried on (whether alone or in partnership) by:

i. you, or
ii. your affiliate, or
iii. another entity that is connected with you.

(The definition also goes on to include  the requirements for intangible assets, not applicable to this example.) In our example, the business is being conducted by a unit trust (the unit holders being two family trusts, of which, while one used to be a family trust related to the individual, the units in that trust’s ownership of the unit trust were disposed of to a non related trust a number of years ago). As the business is not being carried on by the individual or an affiliate of the individual, the question becomes; is the unit trust “connected” to the individual? This question led to reviewing section 328-125(1) ITAA97, which indicates that an entity is connected with another entity if:

a. either entity controls the other entity in a way described in this section, or
b. both entities are controlled in a way described in this section by the same third entity.

Section 328.125(2) goes on to say that “an entity (the first entity) controls another entity if the first entity, its affiliates, or the first entity together with its affiliates … except if the other entity is a discretionary trust — own, or have the right to acquire the ownership of, interests in the other entity that carry between them the right to receive a percentage (the control percentage) that is at least 40% of:

i. any distribution of income by the other entity, or
ii. if the other entity is a partnership—the net income of the partnership, or
iii. any distribution of capital by the other entity.

In this example, because the individual is no longer the beneficiary of the family trust that owns units in the unit trust that conducts the business, the individual could not be considered to be a connected entity of the unit trust that conducts the business. As a result the active asset definition would not be satisfied.

Therefore, while the 50% discount under subdivision 115-A would apply to a capital gain made by the individual on his disposal of his 50% share in the commercial property, eligibility for separate access to the four available small business CGT concessions 
(being the 15 year exemption, the 50% active asset reduction, the retirement concession and the roll-over concession) would not be available. (Note that this example relates to the individual’s 50% ownership of the commercial property. A different CGT result would likely apply to the remaining 50% ownership of the property by the remaining 50% share owned by the remaining couple.)