Division 152 of the Income Tax Assessment Act 1997 (‘ITAA 1997’) sets out the rules for taxpayers to access the CGT small business concessions (‘SBCs’). These concessions are designed to provide small business taxpayers with CGT relief for their assets.
There are four SBCs, which apply to CGT events happening on or after 11.45am Australian Eastern Standard Time on 21 September 1999. Unlike the CGT 50% discount, companies may also be eligible for the SBCs.
The importance of the SBCs to small business taxpayers cannot be overstated, as they can potentially reduce the tax bill on a capital gain significantly or even eliminate it altogether.
BASIC CONDITIONS FOR SMALL BUSINESS CGT CONCESSIONS
A taxpayer must first satisfy the basic conditions in Subdivision 152-A to access any of the CGT Small Business Concessions (‘SBCs’). If any of the basic conditions are not satisfied, none of the SBCs are available to the taxpayer. If the basic conditions are met, the taxpayer still needs to consider if any further conditions are required to apply a specific concession. Below are the basic conditions for small Business CGT concessions
1 CGT event happens in relation to CGT assets
2 CGT event resulted in a capital gain
3 CGT small business entity test or maximum net assets value test
4 Active Asset Test
If the above basic condition and including additional basic conditions where the CGT event involves shares or interest in trust are passed, below concessions are available.
1 Small Business 15- year exemption
2 Small Business 50% reduction
3 Small Business Retirement exemption
4 Small Business Rollover
ELIGIBILITY FOR 15 – YEAR EXEMPTION
If an entity satisfies the basic conditions in Subdivision 152-A, it can then consider if it is eligible to apply any of the four CGT Small Business Concessions (‘SBC’s).
One of the SBCs is the small business 15-year exemption (‘the 15-year exemption’) contained in Subdivision 152-B. Unlike the other three SBCs, the 15-year exemption disregards the whole capital gain. Thus, carried forward or current year capital losses are not absorbed and there is also no need to apply the CGT general 50% discount or any other concession.
The 15-year exemption can also be beneficial as it may allow a higher amount to be contributed into superannuation using a separate contributions cap (i.e., the ‘CGT cap’).
A company or trust is not required to make any payment to a shareholder or beneficiary to access the 15-year exemption. However, there are special rules that allow a company or trust to pay out the disregarded capital gain without triggering any further tax consequences.
Importantly, while the 15-year exemption is beneficial, taxpayers should still be mindful that even if it is not able to be used, a capital gain may still be substantially reduced (including down to nil) using one, or a combination of, the CGT 50% discount and the other SBCs.
Conditions for individuals (including partners in a partnership)
For an individual to be eligible to apply the 15-year exemption, they must meet all the following conditions set out in S.152-105:
The basic conditions in Subdivision 152-A are satisfied for the gain. Refer to the Basic conditions chapter of these notes.
The individual must have continuously owned the CGT asset for the 15-year period ending just before the CGT event.
If the CGT asset is a share in a company or an interest in a trust – the company or trust must have had a significant individual for a total of at least 15 years during the individual’s ownership period (even if the 15 years was not continuous and/or not always the same significant individual).
At least one of the following conditions is satisfied:
the individual is aged 55 or over at the time of the CGT event and the event happens in connection with their retirement; or
the individual is permanently incapacitated at the time of the CGT event.
Asset continuously owned for 15 years
Section 152-105(b) specifically requires the individual to have owned the asset for the 15-year period ‘just before the CGT event’.
The reference to ‘just before the CGT event’ refers to the time of the CGT event. Where CGT event A1 happens to the asset, the time of the event is when the individual entered the contract for the disposal. This means that any period occurring after this time cannot count towards the 15-year ownership requirement, even if the individual still legally owns the asset (i.e., the period between entering the contract and settlement). Refer to ATO ID 2003/744.
In some limited cases, the 15-year ownership condition may still be satisfied even if the individual has not owned the asset for 15 years. These exceptions are set out in S.152-115 and include the following involuntary disposals:
Asset compulsorily acquired, lost or destroyed
When an asset is compulsorily acquired by a government agency or is lost or destroyed, this will cause a CGT event to happen, and a capital gain may arise. Pursuant to Subdivision 124-B, the taxpayer may be eligible for CGT rollover relief.
One requirement that must be satisfied for rollover relief is that the taxpayer must either receive a replacement asset, apply any money received to acquire a replacement asset or incur expenditure of a capital nature to repair or restore the original asset.
If a replacement asset is acquired, for 15-year exemption purposes, the taxpayer is treated as if it had acquired the replacement asset when they acquired the original asset. Refer to S.152-115(1) and S.152-105(b). If the combined ownership period (for the original and replacement assets) is at least 15 years just before the CGT event, the taxpayer will satisfy the condition that they continuously owned the (replacement) asset for a 15-year period.
Marriage or relationship breakdown
Where an asset is transferred from a spouse, company or trust as part of a marriage or relationship breakdown property settlement, the transferor may be entitled to rollover relief under Subdivision 126-A. If such relief applies, the transferee can choose under S.152-45(2) to apply the active asset test:
as if they had acquired that asset when the transferor acquired it; and
as if the asset was an active asset of theirs when it was an active asset of the transferor.
If the transferee makes the above choice, for 15-year exemption purposes, the transferee is also taken to have acquired the asset when the transferor acquired it. If the combined period of ownership is at least 15 years just before the CGT event, the transferee will satisfy the condition that they continuously owned the asset for a 15-year period. Refer to S.152-115(2).
Significant individual requirement for shares and units
Where the asset being sold is a share in a company or an interest in a trust, there is an additional requirement under S.152-105(c) that must be satisfied. The object company or trust must have had a significant individual for a total of at least 15 years during the individual’s ownership period.
This does not need to be the same significant individual each year nor does the 15 years have to be continuous. For example, if a share in a company or interest in a trust was owned for 20 years, any 15 of those years (where there is a significant individual) can count towards achieving the 15-year minimum.
A significant individual is an individual with at least 20% small business participation percentage in the entity in an income year. Refer to pages 16 to 20 of the Guide to the CGT small business concessions chapter.
Also, the individual making the capital gain does not need to have been a significant individual for any particular year, other than the requirement that they are a significant individual (or a CGT concession stakeholder) ‘just before the CGT event’. This is one of the additional basic conditions where the CGT event relates to shares in a company or interests in a trust (Refer to s 152-10(2) (d)
CGT event happens in connection with individual’s retirement or individual is permanently incapacitated
Section 152-105(d) requires that one of the following is satisfied:
the individual disposing of the CGT asset is at least 55 at the time of the CGT event and the CGT event must happen in connection with their retirement; or
the individual is permanently incapacitated at the time of the CGT event.
For a company or trust taxpayer to be eligible to apply for the 15-year exemption for a CGT event happening to the company or trust’s asset(s), it must meet all the following conditions as set out in S.152-110(1):
The basic conditions in Subdivision 152-A are satisfied for the gain. Refer to the Basic conditions chapter of these notes.
The entity continuously owned the CGT asset for the 15-year period ending just before the CGT event.
The entity had a significant individual for a total of at least 15 years during the period the entity owned the CGT asset (even if the 15 years was not continuous and/or it was not always the same significant individual).
An individual who was a significant individual of the company or trust just before the CGT event meets at least one of the following requirements:
the individual is 55 over at that time and the event happened in connection with the individual’s retirement; or
the individual was permanently incapacitated at that time.
The requirements stated above are virtually identical to those in S.152-105 for individuals. Accordingly, the discussion above (for individual taxpayers accessing the 15-year exemption) is equally applicable where the asset is sold by a company or trust. The only difference is the test in paragraph (c) above which requires the company or trust to meet the requirement that there is a significant individual for at least 15 years, whereas in the case of an individual taxpayer, this requirement only applies where the asset being sold is a share or an interest in a trust.
In relation to satisfying the 15-year ownership requirement, the company or trust can also benefit from the exceptions in S.152-115 for assets that were compulsorily acquired, lost or destroyed, or where a choice was made under S.152-45(2) for an asset eligible for the rollover in Subdivision 126-A (relationship breakdown), or eligible for the small business restructure rollover in Subdivision 328-G.
For the test in paragraph (d) above, only one significant individual needs to pass this test (i.e., be at least 55 years and retiring or alternatively, be permanently incapacitated). For example, it is not required that all shareholders or unitholders in the object company or trust meet this test
ELIGIBILITY FOR SMALL BUSINESS 50% REDUCTION
The small business 50% reduction (‘50% reduction’) is set out in Subdivision 152-C. A taxpayer is automatically eligible to apply for this 50% reduction if it has satisfied the basic conditions in Subdivision 152-A. Refer to the Basic conditions chapter of these notes.
Unlike the CGT 50% discount, a company may also be eligible to use the small business 50% reduction (but there may be tax consequences on distributing this amount,
Importantly, the small business 50% reduction cannot apply to reduce capital gains arising from CGT events J2, J5 and J6 (Refer to S.152-10(4).
ELIGIBILITY FOR RETIREMENT EXEMPTION
Section 152-305 sets out the eligibility requirements for the retirement exemption for both individuals and entities (i.e., companies and trusts). Unlike the small business 15-year exemption or the small business 50% reduction, the retirement exemption can potentially also apply to capital gains from CGT events J2, J5 and J6.
Eligibility conditions for individuals
Under S.152-305(1), an individual can choose to apply the retirement exemption if all the following conditions are satisfied:
The basic conditions in Subdivision 152-A are satisfied. Importantly, this condition does not apply if the capital gain arose from CGT event J5 or J6. Refer to the Basic conditions chapter of these notes.
If the individual is under 55 just before they make the choice to apply the retirement exemption
– they must contribute an amount equal to the asset’s ‘CGT exempt amount’ to a complying superannuation fund.
If a contribution is required, this must be made:
if the relevant CGT event is J2, J5 or J6 – when the individual made the choice; or
otherwise – at the later of when the individual made the choice and when they received the proceeds.
The ‘CGT exempt amount’ is all or any part of a capital gain that is chosen by the taxpayer to be disregarded under the retirement exemption. Refer to S.152-310(1) and S.152-315. Unlike the 50% active asset reduction, the retirement exemption does not apply to a fixed amount or percentage of the capital gain. The amount to be disregarded under the retirement exemption must be chosen, subject to the CGT concession stakeholders lifetime limit
Requirement to make a superannuation contribution
Where an individual is under 55 years of age, they are required to make a superannuation contribution equal to the ‘CGT exempt amount’. This age requirement is assessed at the time just before the individual makes the choice to apply the retirement exemption. required to be made (i.e., by the lodgment day of the tax return for the year of the CGT event).
Eligibility conditions for companies and trusts
Under S.152-305(2), a company or trust can choose to apply the retirement exemption if it satisfies all the following conditions:
The basic conditions in Subdivision 152-A are satisfied. Importantly, this condition does not apply if the capital gain arose from CGT event J5 or J6. Refer to the Basic conditions chapter of these notes.
The significant individual test is satisfied (refer below).
The payment conditions in S.152-325 are satisfied.
Where a company or trust makes a choice to apply the retirement exemption to disregard all or any part of a capital gain, that amount is referred to as the ‘CGT exempt amount’. Refer to S.152-310(1) and S.152-315.
The payment of a ‘CGT exempt amount’ (whether to the stakeholder directly, or to a superannuation fund if the stakeholder is under 55) cannot be claimed by the company or trust as a tax deduction. Refer to S.152-310(2)(b).
The significant individual test
The significant individual test (as set out in s152-50) is satisfied if a company or trust had at least one significant individual just before the CGT event.
A ‘significant individual’ is an individual who has a small business participation percentage of at least 20% in the relevant entity:
In the case of a company or unit trust, this will typically be an individual who holds at least 20% of the shares or units (either directly or indirectly through one or more interposed entities).
In the case of a discretionary trust, this will typically be an individual who has received a distribution of trust income of at least 20% in the year of the CGT event.
Small Business Rollover
Any capital gains remain after applying capital losses, the general CGT discount, the small business 50% reduction and/or the small business retirement exemption (where applicable}, the final CGT Small Business Concession (‘SBC’) to consider is the small business rollover.
The rules for this rollover are in Subdivision 152-E.
The amount of the capital gain to which the small business rollover is applied is deferred for a minimum of two years from the time of the CGT event (generally, the contract of sale). If an eligible replacement asset is not acquired or improved (or an insufficient amount has been incurred on the acquisition or improvement) by the end of the two-year period, either CGT event JS or J6 will arise.
Alternatively, if a specified event happens to the replacement asset (e.g., it is sold}, then CGT event J2 may be triggered after the two-year period.
Eligibility for Small Business Rollover
Small business rollover (‘the rollover’) if the basic conditions in Subdivision 152-A are satisfied for a capital gain. Whilst there are no additional requirements that need to be met, the taxpayer must choose to apply the rollover. Refer to S.152-410.
A taxpayer needs to make the choice to apply the rollover for the CGT event by the time they lodge their tax return for that year. The way the income tax return is prepared is ‘evidence’ of this choice (essentially, by leaving out the gain in the tax return). Refer to S.103-25.
Importantly, the rollover cannot apply to a capital gain arising from CGT event J5 or J6. It can, however, be applied to further defer any capital gain arising from CGT event J2. Refer to S.152-10(4).
The replacement asset period
Section 104-190(1A) defines the replacement asset period as the period:
starting one year before the CGT event; and
ending at the later of:
two years after the CGT event; and
six months after the latest time a possible financial benefit becomes payable or could become due under a look-through earnout right.
As such, the replacement asset period generally provides a three-year window in which the replacement asset can be acquired or the ‘fourth element’ expenditure incurred. The Commissioner can extend the replacement period. Refer to S.104-190(2).