Some of the most effective tax savings are to be found in the Small Business Capital Gains Tax Concessions. These concessions will apply when a business owner sells an active business asset, ranging from the entire business itself down to the individual assets of the business.
The basic rules of access to these concessions are either based on:
- the business group’s turnover being less than $2 million or;
- the level of assets held by the business owners and their related group, or “the $6 million test” as it is known colloquially.
The other key test and the subject of the Eichmann decision is the “active asset” test. This test requires, among other things, that the asset is to be used in a business operated by the taxpayer or at least by another taxpayer closely linked to the taxpayer. This close linkage is defined by a substantial ownership interest or the ability to control decisions of another business taxpayer. Of course these rules are significantly more complicated than this however the “active asset” test was the sole focus in the case.
Commissioner of Taxation v Eichmann [2019] FCA 2155
Eichmann and Sons, a building concern, lodged a private binding ruling request with the ATO. The purpose was to seek confirmation that a vacant block of land used in their business was an active asset for the purposes of the Small Business CGT concessions.
Very briefly, the land had been;
- used to “store bricks, blocks, pavers, mixers, wheelbarrows, drums, scaffolding and iron.”
- used as car parking for vehicles and trailers
- accessed by staff many times per day between jobs
- used for some limited work with the bulk of work carried out on each building site
The ATO ruled that the land was not an active asset.
The taxpayer objected. The ATO rejected their objection. The taxpayer successfully sought a review by the Administrative Appeals Tribunal and had the ruling overturned; this decision was appealed by the ATO, this time in the Federal Court before Justice Derrington. The judge essentially agreed with the Commissioner that the land was not active. The result being that the Small Business CGT concessions could not be applied to decrease the capital gains tax upon the sale of the land.
The Commissioner’s argument amounted to the fact that the land was not used in the course of carrying on the business because all of the activities were merely preparatory to the actual earning of the assessable income of the business. Justice Derrington, summed up his judgement by stating that the use of the land must have a “direct functional relevance” to the income earning activities of the business.
As Brian Richards, Ulton’s senior tax consultant remarked:
“One of the more concerning aspects of this case, other than the Judge’s basis for the decision, were the Commissioner’s arguments seeking to limit the application of the active asset test to those assets that were “integral” to the taxpayer’s ordinary business process. Whereas the Judge rejected the need for the asset to be integral, what the Judge did prescribe, was that an asset will only be an active asset if the asset has a “direct functional relevance” to the taxpayer’s ordinary business operations. This newly “developed” test prescribed by the decision, will not only limit the application of the small business concessions, but also raises interpretation uncertainty to the detriment of business taxpayers.“
This decision has wide reaching implications for many small to medium sized businesses who, until now, may have considered that their land is a business asset and may have made plans or arrangements around the tax impacts of selling their business or its assets. The application of the concessions has the capacity to reduce the capital gains tax on active business assets to NIL in the right circumstances.
Importantly, the taxpayer has appealed to the Full Federal Court; so this may not be the end of the story.
If you’d like to discuss any aspects of this article in relation to your circumstances please contact your trusted Ulton advisor.
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