Calculate net value of CGT assets
The maximum net asset value test is one of the tests which can be used to see if you meet step one of the small business CGT concessions as an eligible entity.
To meet the test, the total net value of CGT assets owned by you, entities connected with you, affiliates and entities connected with your affiliates, must not exceed $6 million. You must meet the test just before the CGT event that results in the capital gain.
The net value of the CGT assets of an entity is the sum of the market values of those assets less any liabilities of the entity that are related to those assets and provisions made for:
- annual leave
- long service leave
- unearned income
- tax liabilities.
The net value can be positive, negative or zero. The $6 million limit is not indexed for inflation.
To calculate the net value of your CGT assets, you must add together the net value of assets owned by:
- you
- any entities connected with you
- any of your affiliates and entities connected with your affiliates
- but only if the assets are used, or held ready for use, in a business run by you or an entity connected with you
- don’t include an asset if it is used in the business of an entity that is connected with you only because of your affiliate.
Entities that hold shares or trust interests would calculate their net asset value in a similar way.
Example: CGT assets to include to calculate total net value
Colin operates a newsagency as a sole trader.
Colin's son, Simon, runs his own florist business, which is unrelated to the newsagency business. Simon owns the land and building where the newsagency is conducted and leases it to Colin.
Simon also owns 100% of the shares in Simco Pty Ltd, which runs a separate business. Simon is connected with Simco Pty Ltd because he controls the company. Simon regularly consults Colin for advice in his business affairs and acts according to Colin’s wishes, which makes Simon Colin’s affiliate.
To determine whether Colin satisfies the maximum net asset value test, he includes the market value of the land and building owned by Simon (because it is used in his newsagency business). He does not include:
- Simon’s other assets used in his florist business (because they're not used in the newsagency business)
- Simco Pty Ltd’s assets (because those assets are not used in his business and Simco Pty Ltd is only connected because of his affiliate, Simon).
If you’re a partner in a partnership
If you're a partner in a partnership and the CGT event happens to an asset of yours or a CGT asset of the partnership (for example, disposal of a partnership asset), the maximum net asset value test would include:
- if you're connected with the partnership – all the assets of the partnership (excluding the value of your interest in the partnership)
- if you're not connected with the partnership – only your interest in the partnership (exclude the assets of the partnership as a whole).
Entities that hold shares or trust interests would calculate their net asset value in a similar way.
Assets to include
Assets to include in calculating the net value of the CGT assets are not restricted to business assets. They include all CGT assets of the entity unless the assets are specifically excluded.
Although gains from depreciating assets may be treated as income rather than capital gains, depreciating assets are still CGT assets and are included when calculating the net asset value.
Where a dwelling is an individual's main residence, the individual should consider how much of the dwelling was used to produce assessable income that either:
- gives rise to deductions for interest payments
- would give rise to deductions for interest if interest had been paid.
The individual would be entitled to deduct part of the interest on money they borrowed to buy the home if:
- part of the home is set aside exclusively as a place of business and is clearly identifiable as such, and
- that part of the home is not readily adaptable for private use – for example, a doctor’s surgery in a doctor's home.
This is a hypothetical interest deductibility test. If the individual didn't incur any interest, the test looks at whether they would have been entitled to a deduction had they taken out a loan to purchase their home.
If the dwelling has been used to earn income, the percentage of income-producing use is multiplied by the current market value to work out the value of the dwelling that should be included in calculating the net value of the CGT assets. This calculation considers the percentage of floor area and the length of time the dwelling was used to produce assessable income.
Example: Calculating the value of a main residence to be included in the net value of CGT assets
Ben's main residence has a market value of $750,000 just before applying the maximum net asset value test. Ben has owned the dwelling for 12 years:
- for the first 3 years, 20% of it was used to earn assessable income
- for the following 2 years, 40% was used to earn assessable income
- for 2 years, it was used solely as a main residence
- for the last 5 years, 10% was used to earn assessable income.
Ben’s main residence has had 15.8% income-producing use, calculated as follows:
- 3 ÷ 12 years × 20% = 5.0%
- 2 ÷ 12 years × 40% = 6.7%
- 2 ÷ 12 years × 0% = 0.0%
- 5 ÷ 12 years × 10% = 4.1%
$118,500 is the business use of the main residence's market value ($750,000 × 15.8%).
Ben has a liability of $500,000 attached to the dwelling. Therefore, 15.8% ($79,000) of the liability is included in the calculation to reduce market value of the business use portion of the main residence.
Ben will use $39,500 ($118,500 − $79,000) as the value of his main residence to be included in calculating the net value of his CGT assets.
End of exampleLiabilities and provisions to include
Some liabilities to include in determining the net value of CGT assets are:
- legally enforceable debts due for payment
- existing legal or equitable obligations to pay either a certain sum or ascertainable sums.
Some of the amounts are not liabilities for the purpose of calculating the net value of CGT assets, such as:
- provisions for possible obligations to pay damages in a pending lawsuit
- provisions for liabilities in respect of an earn-out contract
- provisions for the guarantee of a loan
- provisions for long service and annual leave entitlements
- provisions for income and other taxes prior to liability arising
- accounting liabilities arising as a result of receiving prepaid income
- provisions in general, for such things as quantity rebate.
Despite provisions for annual leave, long service leave, unearned income and tax liabilities not falling within the meaning of the term 'liabilities', they are specifically included in calculating the net value of CGT assets.
Liabilities related to assets
A liability must be related to the CGT assets of an entity to be considered in determining the net value of the CGT assets of the entity.
This includes liabilities directly related to assets that are included in the calculation – for example, a loan to finance the purchase of business premises.
It also includes liabilities not directly related to a particular asset but to the assets of the entity more generally – for example, a bank overdraft or other short-term financing facility that provides working capital for the operation of the business.
However, liabilities that are directly related to an asset that is excluded from the net asset calculation can't be included – but certain liabilities related to excluded interests in connected entities may be counted.
For further information about liabilities to include and liabilities related to assets, see Taxation Determination TD 2007/14 Income tax: capital gains: small business concessions: what 'liabilities' are included in the calculation of the 'net value of the CGT assets' of an entity in the context of subsection 152-20(1) of the Income Tax Assessment Act 1997?
Example: assets and liabilities to include for a company
Cool Tool Pty Ltd is selling its business. The assets and liabilities of the company are as follows:
|
Assets: |
Amount: |
|---|---|
|
Plant and machinery |
$1,500,000 |
|
Freehold premises |
$3,500,000
|
|
Total assets |
$5,000,000 |
|
Liabilities: |
Amount: |
|
Mortgage (secured over the premises) |
$2,000,000 |
|
Provision for leave of employees |
$500,000 |
|
Provision for rebates |
$200,000 |
|
Provision for possible damages payout |
$100,000 |
|
Total liabilities |
$2,800,000 |
|
Net assets |
$2,200,000 |
The net value of the CGT assets of the company is calculated as follows:
|
Assets: |
Amount: |
|
Plant and machinery |
$1,500,000 |
|
Freehold premises |
$3,500,000 |
|
Total assets |
$5,000,000 |
|
Liabilities: |
Amount: |
|
Mortgage (secured over the premises) |
$2,000,000 |
|
Provision for leave of employees |
$500,000 |
|
Total liabilities |
$2,500,000 |
|
Net value of CGT assets |
$2,500,000 |
The following items are not considered in working out the net value of the CGT assets of Cool Tool Pty Ltd because they are not within the meaning of the term 'liabilities':
- provision for possible damages payout
- provision for rebates.
Assets to exclude
Certain interests in connected entities
When calculating net value, you should exclude the shares, units and other interests (apart from debt) that you hold in an entity connected with you or your affiliate.
This is because the net value of the CGT assets of the connected entity is already included in the test.
However, include any liabilities relating to these excluded interests in connected entities.
Non-business assets of affiliates or entities connected with affiliates
Don't include an asset of your affiliate or an entity connected with your affiliate if it is used, or held ready for use, in the business of an entity that is connected with you only because of your affiliate.
Personal use and superannuation assets
If you're an individual, you should disregard the following assets when working out the net value of your CGT assets:
- assets used solely for your personal use and enjoyment, or that of your affiliate
- your own home, to the extent that you use it for private purposes (also, if your only other use is some incidental income-producing use, exclude your home from the net asset value test). If you've used part of your home to produce assessable income, you must make a reasonable apportionment
- rights to amounts payable out of a super fund or approved deposit fund
- rights to an asset of a super fund or approved deposit fund
- insurance policies on your life.
A requirement for an asset to be used 'solely for your personal use and enjoyment' means that any income producing use of an asset, no matter how trivial, will disqualify it from being disregarded when calculating the net value of your CGT assets.
For example, an interest earning personal bank account is not an asset used 'solely for your personal use and enjoyment', even where its funds are used for personal expenses. This is because interest accrued on the principal amount of cash at bank is a form of income. As such, you will have to include the amount of cash at bank when calculating net value of your CGT assets.
When an asset is excluded, any related liability is also disregarded because these liabilities are not related to an asset included in the net asset value calculation.
Example: personal use assets excluded from calculating the net value of the CGT assets
Lana is a sole trader. The market value of Lana’s CGT assets is:
|
Assets |
Amount |
|
Land used in business |
$50,000 |
|
Business goodwill |
$200,000 |
|
Business bank account |
$50,000 |
|
Trading stock |
$100,000 |
|
Trade debtors |
$30,000 |
|
Plant |
$50,000 |
|
Boat (used solely for personal use) |
$50,000 |
|
Home |
$600,000 |
|
Personal bank account (interest earning) |
$20,000 |
|
Total |
$ 1,150,000 |
Lana borrowed $20,000 to buy the boat.
When working out the net value of her CGT assets, Lana doesn't include:
- the market value of her boat as it a personal use asset
- the liability for the boat as it is directly related to a personal use asset.
Lana uses 50% of her home exclusively for income-producing activity. She includes 50% of the value of her home, representing the income-producing percentage, and doesn't include the other 50% ($300,000).
Lana needs to include the balance of her personal bank account in the calculation of the net asset value as the bank account is an income producing CGT asset.
Therefore, the net value of her CGT assets is:
$1,150,000 − $350,000 = $800,000
Lana has met the maximum net asset value test as a first step of the basic eligibility conditions for the CGT concessions.
End of exampleEffect of look-through earnout rights
Earnout arrangements are a way of structuring the sale of a business to deal with uncertainty about its value.
The contract for the sale of a business (or assets of the business) provides for an initial lump sum payment by the buyer and a right to subsequent financial benefits that are contingent on the performance of the business for a specified period after the sale.
Working out the net value of your CGT assets for the purpose of the maximum net asset value test may require you to value an asset that is subject to a look-through earnout right.
However, depending on your situation, you may be entitled to make a choice to treat the market value of the relevant CGT asset as one of the following:
- the first element of the cost base
- zero
- the total financial benefits provided
- the capital proceeds.
If such a choice is made and the look-through earnout right is also your CGT asset, you treat the market value of that right as if it were zero.