Capital gains tax concessions for small business

About capital gains tax

What is capital gains tax?

Capital gains tax (CGT) is not a separate tax but the amount of income tax that you pay on any capital gain that you make.

You must include the net capital gain that you make in an income year in your assessable income for that year. There is no separate tax on capital gains, rather, the 'capital gains tax' forms part of your income tax, because you include your capital gain on your tax return.

Consequently you are taxed on your net capital gain at the normal marginal tax rate that applies to your taxable income.

Your net capital gain is the difference between your total capital gains for the year and your total capital losses (from your business and other assets), less any relevant CGT discount or concessions.

CGT events

You make a capital gain or capital loss when certain events or transactions happen. These are called CGT events. Most CGT events involve a CGT asset.

Some CGT events, such as the disposal of a CGT asset, happen often and affect many different taxpayers. Other CGT events are rare and affect only a few taxpayers, for example, those concerned directly with capital proceeds and not involving a CGT asset.

CGT assets

The most common CGT assets are:

• land and buildings
• shares in a company
• units in a unit trust.

Less well-known CGT assets include:

• contractual rights
• options
• foreign currency
• leases
• licences
• goodwill.

Capital gains and losses

In general, you make a capital gain if you receive an amount from a CGT event (such as the disposal of a CGT asset) that is more than your total costs associated with that event. You make a capital loss if you receive an amount from a CGT event that is less than the total costs associated with that event.

In some cases, you are taken to have received the market value of the CGT asset even if you received a different amount or nothing at all, for example, when you give an asset away.

This rule is especially relevant to family succession transactions, for example, where you gift (give) the family farm or other business assets to your children.

You can use a capital loss only to reduce a capital gain, not to reduce other income. You can generally carry forward any unused capital losses to a later income year and apply them against capital gains in that year.

Generally, you can disregard any capital gain or loss made on an asset you acquired before 20 September 1985.

If you were a resident of Norfolk Island on 23 October 2015 you can disregard any capital gain or loss made on an asset on Norfolk Island that you held at that time. CGT may however apply to assets on the Australian mainland or elsewhere in the world.

CGT may also apply to any assets purchased on or after 24 October 2015. For more information, see:

• Norfolk Island tax and super - Capital gains tax
• Guide to capital gains tax 2017.

As part of the Small business tax concessions, you may be able to defer any gain or loss resulting from a transfer of a depreciating asset between entities with the same economic ownership under the Small business restructure roll-over concessions, which apply from 1 July 2016. For more information, see Small business restructure rollover.

Depreciating assets

Special rules apply to depreciating assets. A depreciating asset is an asset that has a limited effective life and can reasonably be expected to decline in value over the time it is used. Examples of depreciating assets include the plant and equipment you use in your business.

Under the uniform capital allowances system that has applied since 1 July 2001, any gain or loss from a depreciating asset is included in your assessable income, or is deductible as a balancing adjustment, to the extent the asset was used for a taxable purpose, for example, to produce assessable income. The small business CGT concessions do not apply to gains you make on depreciating assets that are included in your income under the uniform capital allowances system.

You make a capital gain or capital loss from a depreciating asset to the extent you have used the depreciating asset for a non-taxable purpose, for example, for private purposes (CGT event K7). Any capital gain you make in this way does not qualify for the small business concessions because it reflects the non-business use of the asset.

However, as depreciating assets are still CGT assets, they must be included in the maximum net asset value test. A depreciating asset may also be an active asset and may be chosen as a replacement asset under the small business rollover.

As part of the Small business tax concessions, you may be able to defer any gain or loss resulting from a transfer of a depreciating asset between entities with the same economic ownership under the Small business restructure roll-over concessions, which apply from 1 July 2016. For more information, see Small business restructure rollover.

About CGT concessions

If you made a capital gain from a CGT event that happened after 11.45am on 21 September 1999 (such as the disposal of a CGT asset), you may be able to reduce the capital gain using either or both of the following:

• the CGT discount
• one or more of the four CGT concessions available for small business.

CGT discount

If you are a company, this section does not apply to you and you cannot use the CGT discount.

If you are an individual (including a beneficiary of a trust) and

• a foreign or temporary resident, or
• an Australian resident with a period of non-residency after 8 May 2012

and you have a discount capital gain, then you may not be entitled to the maximum CGT discount percentage of 50%.

For more information, see Capital gains tax (CGT) discount for foreign resident individuals.

All examples in this publication assume the individual (including a beneficiary of a trust) has a CGT discount of 50%.

Otherwise, if you made a capital gain in the 2016-17 income year from a CGT asset that you acquired before 11.45am on 21 September 1999 you may choose to index the cost base (frozen at 30 September 1999) or apply the CGT discount if certain conditions are satisfied.

Where we refer to 'after 11.45am on 21 September 1999' we are referring to after 11.45am, by legal time in the Australian Capital Territory, on 21 September 1999.

Indexation is not available for assets acquired after 11.45am on 21 September 1999, but the CGT discount may apply if the relevant conditions are met.

The discount reduces a capital gain made by individuals (including partners in partnerships) and trusts by 50%. The discount for complying superannuation funds is 33 1/3%. Companies are ineligible for the CGT discount.

There are further rules for beneficiaries receiving trust distributions who are entitled to a share of a trust capital gain.

For more information, see 'Trust distributions' in part A of Guide to capital gains tax 2017.

You offset capital losses against capital gains before applying the CGT discount. The CGT discount is applied before the small business CGT concessions (apart from the small business 15-year exemption as this concession provides a total exemption of a capital gain).

The main condition for the CGT discount is that you must have acquired the CGT asset at least 12 months before the CGT event giving rise to the capital gain. There are rules to prevent circumvention of the 12-month requirement. Certain CGT events, such as where new assets are created, do not qualify for the CGT discount because the 12-month rule would not be satisfied.

The CGT discount can apply to capital gains made on non-business assets, as well as business assets.

Small business concessions

There are four CGT concessions available to small business. These concessions may apply to CGT events (for example, the disposal of a CGT asset) that happen after 11.45am on 21 September 1999. Any capital gain that results from a CGT event may be reduced or disregarded under the small business concessions if you satisfy certain conditions. The four concessions are:

• The small business 15-year exemption
  
  This concession provides a total exemption of a capital gain if you have continuously owned the CGT asset for at least 15 years and the relevant individual is 55 years old, or older, and retiring, or is permanently incapacitated.
  
  
• The small business 50% active asset reduction
  
  This concession provides a 50% reduction of a capital gain for a business (active) asset.
  
  
• The small business retirement exemption
  
  This concession provides an exemption of capital gains up to a lifetime limit of $500,000. If you are under 55 years old just before you make the choice, the amount must be paid into a complying superannuation fund or a retirement savings account (RSA).
  
  
• The small business rollover
  
  This concession allows you to defer a capital gain from the disposal of a business asset for a minimum of two years. If you acquire a replacement asset or make a capital improvement to an existing asset, you can defer the capital gain for longer, until you
  • dispose of the replacement or improved asset
  • change its use in particular ways.

Either will cause the deferred capital gain to crystallise. This means you would make a capital gain equal to the deferred gain at the time of the disposal or change in use, in addition to any capital gain made on the disposal of the replacement or capital improved asset.

How the CGT concessions work

To be eligible for any of the concessions, you must first meet several basic conditions.

You must then meet any additional conditions that apply specifically to the individual concessions.

You can apply as many concessions as you are entitled to until the capital gain is reduced to nil. This choice allows you to achieve the best tax result for your circumstances.

There are rules about the order you apply:

• the CGT small business concessions
• any current year or prior year capital losses
• the CGT discount.

You may be able to apply either or both of the following to each capital gain:

• more than one of the four concessions if you meet the conditions for each
• the CGT discount if it also applies.

If the small business 15-year exemption applies, you can disregard the entire capital gain and therefore, you do not need to apply any further concessions.

Throughout this guide we use the scenario of Lana, a sole trader, to illustrate how you can apply capital losses and the CGT concessions to a capital gain made by a small business.

Small business restructure rollover

Small business restructure rollover applies to transfers of active assets from one entity to one or more entities on or after 1 July 2016.

The rollover applies to the transfer of active assets that are CGT assets, trading stock, revenue assets or depreciating assets.

To be eligible for the rollover:

• you must be an eligible entity, for example a small business entity or an entity that has an affiliate that is a small business entity.
• the rollover must be part of a genuine restructure, and
• there must be no change to the ultimate economic ownership of the transferred assets.

For more information, see: Small business restructure rollover.

How do you apply losses, concessions and the discount?

Applying capital losses

If the small business 15-year exemption applies, you do not reduce the capital gain by any capital losses before you apply that concession.

In all other cases, you apply the CGT discount and the small business concessions to the capital gain after the capital gain has been reduced by any current and prior year capital losses.

If you have more than one capital gain, you can choose the order in which your capital gains are reduced by your capital losses.

Applying the discount and concessions

The small business 15-year exemption takes priority over the other small business concessions and the CGT discount. If the small business 15-year exemption applies, you entirely disregard the capital gain so there is no need to apply any further concessions.

If the 15-year exemption doesn't apply, you apply the CGT discount (if applicable) to the capital gain before applying the remaining small business concessions.

If the capital gain is from a depreciating asset, you cannot use any of the small business CGT concessions to reduce the gain any further. If it is not from a depreciating asset, you may be able to reduce your capital gain further under the remaining small business CGT concessions.

If you satisfy the conditions for more than one of the remaining small business concessions, you may apply each of those concessions to different parts of the capital gain.

After applying any capital losses, individuals and trusts eligible for both the CGT discount and the small business 50% active asset reduction can reduce a capital gain by 75%, that is, by 50%, then 50% of the remainder.

For more information, see Order in which to apply the discount and concessions.

Order in which to apply the discount and concessions

Choosing small business concessions

You must choose the 15-year exemption, the retirement exemption, and the rollover for those concessions to apply. However, the 50% active asset reduction applies automatically if the basic conditions are satisfied and you have not specifically chosen that it not apply.

Generally, you need to make your choice by the latest of:

• the day you lodge your income tax return for the income year in which the relevant CGT event happened
• a later day allowed by the Commissioner.

The way you prepare your income tax return is generally sufficient evidence of the choice you have made. However, the retirement exemption requires you to keep a written record of the amount you choose to disregard.

Distributions out of concession amounts: tax consequences

Where a company or trust chooses a concession and then distributes an amount out of the capital gain to a shareholder or beneficiary, there are varying tax consequences for the shareholder or beneficiary, depending on which concession the company or trust chooses. For some concessions, the amounts received by the individuals are exempt, while for other concessions the amounts are not exempt.

15-year exemption

If a company or trust chooses the 15-year exemption and satisfies certain further conditions relating to the distribution of the exempt amount, the amount received by the shareholder or beneficiary is not included in their assessable income.

For more information, see Consequences of applying the exemption.

50% active asset reduction

The tax consequences for distributions made out of 50% active asset reduction amounts will depend on, among other things, the type of entity involved. A distribution by a fixed trust could give rise to a capital gain (after firstly reducing the cost base of the beneficiary's interest in the trust to nil). However, there are no such consequences for distributions by non-fixed trusts.

For more information, see Fixed trust distributions and the 50% active asset reduction.

A distribution by a company out of a 50% active asset reduction amount is likely to be assessable to the shareholder as an unfranked dividend.

Retirement exemption

If a company or trust chooses the retirement exemption and satisfies the requirements for the retirement exemption, the payment received by the shareholder or beneficiary is not included in their assessable income.

Rollover

If a company or trust chooses the rollover for a capital gain and then distributes an amount out of the gain to a shareholder or beneficiary, the distribution is not exempt - that is, the concession does not flow through to the individuals. The consequences of such distributions are similar to those noted above for the 50% active asset reduction.

Complying superannuation funds and the concessions

Concessions not available for complying superannuation funds

The small business concessions will not be available for any capital gain a complying superannuation fund makes on the sale of an asset used in a 'related' entity's business.

It may be common for a complying superannuation fund to own premises used in the business of a 'related' entity, for example, business real property. However, as the members or trustees of the fund (who typically also control the 'related' entity) do not control the fund in the manner required, the related entity is not a connected entity and, therefore, the business real property is not an active asset.

Interaction with superannuation

There is considerable interaction between the retirement exemption and superannuation.

Immediate payment to superannuation fund required

The retirement exemption requires amounts to be immediately contributed into a complying superannuation fund or a retirement savings account (RSA) if the recipient is younger than 55 years old when they make a choice to use the retirement exemption. This is an important requirement: failure to immediately pay the amount to a complying superannuation fund or RSA will mean the conditions are not satisfied and the retirement exemption will not be available.

For more information, see Small business retirement exemption.

Extensions of time

In some situations, you need to take action within a prescribed period of time to qualify for the concessions. However, the law also provides the Commissioner with the discretion to allow you a longer period.

Examples include:

• Where your business has ceased, the active asset test period for a CGT event (for example, the sale of a former business asset) ends when the business ceased if that occurred in the 12 months before the CGT event.
• If you previously chose the small business rollover and you don't acquire a replacement asset or make a capital improvement to an existing asset within the prescribed period, then a further CGT event happens. The prescribed period starts one year before and ends two years after the last CGT event happens in the year for which you choose the rollover.

However, in both these cases, the Commissioner has the discretion to allow a longer period.

In determining whether to allow a longer period, the Commissioner will consider a range of factors, such as:

• whether there is evidence of an acceptable explanation for the period of extension requested, and whether it would be fair and equitable in the circumstances to provide such an extension
• whether there is any prejudice to the Commissioner if the additional time is allowed (however, the mere absence of prejudice is not enough to justify the granting of an extension)
• whether there is any unsettling of people, other than the Commissioner, or of established practices
• the need to ensure fairness to people in like positions and the wider public interest
• whether there is any mischief involved
• the consequences of the decision.

Basic conditions for the small business CGT concessions

The basic conditions are contained in subdivision 152-A - Income Tax Assessment Act 1997.

To qualify for the small business CGT concessions, you must satisfy several conditions that are common to all the concessions. These are called the 'basic conditions'.

Each concession also has further requirements that you must satisfy for the concession to apply, except for the small business 50% active asset reduction, which applies if the basic conditions are satisfied.

Follow the steps below to determine whether you satisfy the basic conditions:

Step 1

You must first satisfy one of the following:

• you are a small business entity
• you do not carry on business (other than as a partner) but your CGT asset is used in a business carried on by a small business entity that is your affiliate or an entity connected with you (passively-held assets)
• you are a partner in a partnership that is a small business entity, and the CGT asset is
  • an interest in a partnership asset (partnership assets) or
  • an asset you own that is not an interest in a partnership asset (partner's assets) which is used in the business of the partnership
• you satisfy the maximum net asset value test.

Step 2

The asset in question must satisfy the active asset test.

Step 3

This step is only applicable if the CGT asset is a share in a company or interest in a trust. Where this is the case, one of these additional basic conditions must be satisfied just before the CGT event:

• the entity claiming the concession must be a CGT concession stakeholder in the company or trust, or
• CGT concession stakeholders in the company or trust together have a small business participation percentage in the entity claiming the concession of at least 90% (the 90% test).

Small business entity

You will be a small business entity if you are an individual, partnership, company or trust that:

• is carrying on a business, and
• has an aggregated turnover of less than $2 million.

What is aggregated turnover?

Aggregated turnover is your annual turnover plus the annual turnovers of any business entities that are your affiliates or that are connected with you. The aggregation rules help you determine whether you need to include the annual turnover of another business entity (a relevant entity) when calculating your aggregated turnover. These rules aim to prevent businesses splitting their activities in order to inappropriately access the small business entity concessions.

A relevant entity is an entity that is your affiliate or is connected with you.

There are three alternative methods to work out whether you are a small business for the current year. However, most businesses will only need to consider the 'Previous year turnover' method.

Working out whether you are a small business entity

Depending on your circumstances, you can use one of the following three methods to work out whether you are a small business entity in the current year:

Method 1 - Use your previous year's aggregated turnover

If your aggregated turnover for the previous income year was less than $2 million, you will be a small business entity for the current year.

Method 2 - Estimate your current year aggregated turnover

If your estimated aggregated turnover for the current year is less than $2 million, you will be a small business entity for the current year. However, you can estimate your turnover only if your aggregated turnover for one of the two previous income years was less than $2 million.

About estimating your turnover

If you are estimating your turnover, you need to determine whether your aggregated turnover is more likely than not to be less than $2 million.

You must estimate your turnover based on the conditions that you are aware of at the beginning of the income year or, if you are starting a business part way through the year, at the time that you start your business. Factors to consider when estimating your turnover include:

• your turnover in previous income years
• whether you plan to reduce or increase staff in the current year
• whether your business operating hours are increasing or decreasing
• whether previous extraordinary sales or product lines will be available in the current income year
• whether your business will face increased competition in the current income year
• whether your business activity will increase or decrease because of changing conditions.

Method 3 - Use your actual current year turnover

If your actual aggregated turnover is less than $2 million at the end of the income year, you will be a small business entity for that year.

You must use the same method (either prior year, estimated current year, or actual current year) for calculating the annual turnover of your business and all your relevant entities.

If your business is carried on as a partnership, it is the partnership and not the individual partner that must be the small business entity.

How to calculate your aggregated turnover

Step 1 - work out your annual turnover (for your previous or current year)

Your annual turnover includes all ordinary income earned in the ordinary course of business for the income year, that is, turnover is your gross income or proceeds, rather than your net profit.

If you operate multiple business activities, either as a sole trader or within the same business structure, you must include the income from all your activities when working out your annual turnover, for example, a sole trader operating a part time consultancy and a retail shop would include the income from both business activities when working out annual turnover.

Here are some examples of amounts included and not included in ordinary income.

Include these amounts:

• sales of trading stock
• fees for services provided
• interest from business bank accounts
• amounts received to replace something that would have had the character of business income, for example, a payment for loss of earnings.

Do not include these amounts:

• GST you have charged on a transaction
• amounts borrowed for the business
• proceeds from the sale of business capital assets
• insurance proceeds for the loss or destruction of a business asset
• amounts received from repayments of farm management deposits.

Special rules for calculating annual turnover

Business operated for part of the year

If you start or cease a business part way through an income year, you will need to work out your turnover using a reasonable estimate of what your turnover would have been if you had carried on the business for the entire income year. This rule applies for all three methods of working out whether you are a small business entity.

Retail fuel sales

Do not include retail fuel sales when calculating your turnover. This is a special rule because sales of retail fuel are characteristically high in sales volume with low profit margins.

Non-arm's length business transactions

Any income from transactions with an associate should be included in your turnover. If the dealing was not at arm's length (that is, the goods or services were sold at a discounted price because of their association with you) you must use the market value of the goods or services when calculating your annual turnover.

However, you may take into account any discounts that would have been offered had the dealing been at arm's length.

Associate has the meaning given by section 318 of the Income Tax Assessment Act 1936. As an individual, your associates include, but are not limited, to:

• your relatives, such as your spouse or children
• a partnership that you are a partner in
• another partner in that partnership, and that partner's spouse and children
• a trustee of a trust that you, or your associate, are a beneficiary of
• a company that you, or your associate, control or influence.

There are similar rules to determine who is an associate of a company, partnership and trustee.

If the aggregation rules do not apply to you, your aggregated turnover will be the same as your annual turnover. You do not need to read any further.

However, if you must consider the aggregation rules, or are not sure whether they apply to you, go to step 2.

Step 2 - consider the aggregation rules

You must include the annual turnover of a relevant business entity with your annual turnover when working out your aggregated turnover.

A relevant business entity is a business entity that, at any time during the income year, is:

• connected with you, or
• your affiliate.

If you have a relevant business entity, repeat step 1 for each relevant business entity to work out their annual turnover. You must use the same method for working out your annual turnover and the annual turnovers of all your relevant businesses entities.

Step 3 - work out your aggregated turnover

To work out your aggregated turnover, add the annual turnovers of relevant business entities to your annual turnover.

When working out your aggregated turnover, do not include income:

• from dealings between you and a relevant business entity
• from dealings between any of your relevant business entities
• of an entity when it was not your relevant business entity.

If your aggregated turnover is less than $2 million, you are a small business entity for the current year.

If you are not a small business entity in an income year, you may still be able to access the capital gains tax concessions if you pass the $6 million maximum net asset value test.

Passively-held assets

This basic condition allows you to access the concessions for a CGT asset you own where your asset is used or held ready for use in, or inherently connected with, a business carried on by your affiliate, or an entity connected with you, and certain conditions are satisfied.

The following conditions must be satisfied in the income year:

• your affiliate, or entity connected with you, is a small business entity for the income year, that is, the income year in which the CGT event happens to your CGT asset
• you do not carry on a business in the income year other than in partnership
• if you carry on a business in partnership, the CGT asset is not an interest in an asset of the partnership
• your affiliate or entity that is connected with you at a time in the income year is the same small business entity that carries on the business and uses the asset at that time, and the asset is the same asset that also meets the active asset test at that time.

There is a special rule for calculating aggregated turnover where the basic condition for passively-held assets applies.

An entity that is your affiliate, or is connected with you, is deemed to be an affiliate of, or connected with (as the case may be) the small business entity that uses the asset. This rule only applies if the entity is not already an affiliate or connected with the small business entity. In calculating the aggregated turnover of the small business entity, the turnover of entities that are deemed to be affiliates or connected entities must be included. The calculation of aggregated turnover is otherwise the same.

A special affiliate rule for spouses and children under 18 applies in these cases.

Partner in a partnership: using the small business entity test

The CGT rules operate on the basis that a partner in a partnership carries on the partnership business collectively with the other partners. However, a partner cannot be a small business entity. It is the partnership that must satisfy the small business entity test (that is, the $2 million aggregated turnover test) to qualify as a small business entity.

If the relevant conditions are met, a partner may be eligible for the small business CGT concessions using the turnover test for:

• their interest in a partnership asset, or
• an asset that is not a partnership asset that is used in the business of the partnership.

In both cases the partner is not required to be connected with the partnership.

The maximum net asset value test applies differently so that it is the individual partners in the partnership that determine their eligibility for the small business CGT concessions, and not the partnership.

Partnership assets

An asset is a partnership asset if the partners own the asset in accordance with their respective interests as specified in the partnership agreement.

Partners may be eligible for the concessions if:

• the asset is the partner's interest in a partnership asset, and
• that partnership is a small business entity.

Partner's assets

Partners may also be eligible for the concessions for a CGT asset the partner owns (that is not their interest in a partnership asset) when the following conditions are satisfied in the income year:

• they were a partner in a partnership in the income year in which the CGT event happens to the partner's CGT asset
• that partnership uses the asset at a time in the income year, in carrying on the partnership business and is a small business entity for that income year
• the only business the partner carries on is as a partner in a partnership.

There is a special rule for calculating aggregated turnover in cases where a partner's asset is being used in the business carried on by the partnership.

An entity that is an affiliate of, or connected with, the partner is deemed to be an affiliate of, or connected with (as the case may be) the partnership that uses the asset. This rule only applies if the entity is not already an affiliate or connected with the partnership.

In calculating the aggregated turnover of the partnership, the turnover of entities that are deemed to be affiliates or connected entities must be included. The calculation of aggregated turnover is otherwise the same.

There is another special rule for working out aggregated turnover where:

• you are a partner in more than one partnership, and
• the asset is used in more than one partnership's business.

It treats each partnership that the taxpayer is a partner in, and that uses the asset, as being connected with the partnership that is trying to work out whether it is a small business entity (the test entity). When working out the aggregated turnover of the test partnership, the turnover of any other partnerships that are deemed to be connected must be included.

Businesses that are winding up

The basic conditions for passively-held assets and partner's assets require that:

• the asset is used in the business of your affiliate, connected entity or partnership, at a time in the income year that the CGT event happens, and
• that entity is a small business entity in the year the event happens.

If an entity is not using the asset in the business in the year the CGT event occurs because the business the entity previously carried on is winding up, there is a special rule that applies provided the entity used the asset in the business in the year the business ceased.

This rule treats the entity as carrying on the business for a moment in time in the income year the CGT event happens and treats the asset as being used, held ready for use in, or inherently connected with, the business at that same moment in time in the CGT event year.

There is another rule that applies for all the basic conditions that use the turnover test; this rule allows an entity to work out whether it is a small business entity in the CGT event year when the entity is winding up a business it previously carried on. The entity will be taken to be still carrying on the business if:

• it is winding up a business it previously carried on, and
• it was a small business entity in the income year the entity ceased business.

Maximum net asset value test

You may qualify for the small business CGT concessions if you satisfy the maximum net asset value test where the total net value of CGT assets owned by certain entities does not exceed $6 million just before the CGT event that results in the capital gain for which the concessions are sought. The limit is not indexed for inflation. You must include the net value of CGT assets owned by:

• you
• any entities connected with you,
• any of your affiliates and entities connected with your affiliates (subject to the note below).

Include the net value of assets of your affiliates, and entities connected with your affiliates, only if the assets are used, or held ready for use, in a business carried on 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.

Meaning of net value of CGT assets

The net value of the CGT assets of an entity is the amount (whether positive, negative or nil) worked out by taking 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.

Partner in a partnership

If you are a partner in a partnership and the CGT event happens in relation 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:

• all the assets of the partnership if you are connected with it, and you would exclude the value of your interest in the partnership, or
• only your interest in the partnership if you are not connected with it, and you would not count the assets of the partnership as a whole.

Entities that hold shares or trust interests would calculate their maximum net asset value test in a similar way.

Assets included in the net value of CGT assets

Assets to be included in determining 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 (see Assets not included).

In the case of a dwelling that is an individual's main residence, the individual only includes the current market value of the dwelling in their net assets to the extent that it is reasonable, having regard to the amount that the dwelling has been used to produce assessable income which gives rise to deductions for interest payments, or 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 located within a doctor's home.

This is a hypothetical interest deductibility test. If the individual did not actually incur any interest, the test looks at whether they would have been entitled to a deduction if they had taken out a loan to purchase their home.

If the dwelling has had some income-producing use, 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. This will take into account the length of time and percentage of income-producing use of the dwelling.

Liabilities included in the net value of CGT assets

Liabilities to be included in determining the net value of the CGT assets include:

• legally enforceable debts due for payment
• presently existing legal or equitable obligations to pay either a certain sum or ascertainable sums.
• For more information, see Taxation Determination TD 2007/14.

Examples of amounts that are not included in 'liabilities' for the purposes of determining the 'net value of the CGT assets' of an entity include:

• 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 and the like.

Liabilities related to assets

A liability must be related to the CGT assets of an entity to be taken into account in determining the net value of the CGT assets of the entity.

This includes liabilities directly related to particular assets that are themselves 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 rather 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 cannot be included - but certain liabilities related to excluded interests in connected entities may be counted.

For more information, see Some interests in connected entities.

Assets not included

Some 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

Include the net value of assets of your affiliates, and entities connected with your affiliates, only if the assets are used, or held ready for use, in a business carried on by you or an entity connected with you. However, 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 are an individual, you should also disregard the following assets when working out the net value of your CGT assets:

• assets being 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 have used part of the home to produce assessable income, you must make a reasonable apportionment having regard to the length of time and the percentage of income producing use. You multiply the percentage of private use by the current market value and do not include this amount.
• rights to amounts payable out of a superannuation fund or an approved deposit fund
• rights to an asset of a superannuation fund or an approved deposit fund
• insurance policies on your life.

Where an asset is disregarded, any related liability is also disregarded because these liabilities are not related to an asset included in the net asset value calculation.

Even though gains from depreciating assets may be treated as income rather than a capital gain, depreciating assets are CGT assets and you must consider them for the maximum net asset value test.

Effect of look-through earnout rights when working out the net value of your CGT assets

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
• nil
• the total financial benefits provided, or
• 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 nil.

For more information, see subsection 152-20(5).

Who is an affiliate?

An affiliate is an individual or company that, in relation to their business affairs, acts or could reasonably be expected to act:

• in accordance with your directions or wishes, or
• in concert with you.

Trusts, partnerships and superannuation funds cannot be your affiliates. However, a trust, partnership or superannuation fund may have an affiliate who is an individual or company.

However, a person is not your affiliate merely because of the nature of a business relationship you and the person share.

For example, if you are a partner in a partnership, another partner is not your affiliate merely because they act, or could reasonably be expected to act, in accordance with your directions or wishes in relation to the affairs of the partnership.

Similarly, companies and trusts are not affiliates of their directors and trustees respectively, and vice versa, merely because of the positions held.

Whether a person acts, or could reasonably be expected to act, in accordance with the taxpayer's directions or wishes, or in concert with the taxpayer, is a question of fact dependent on all the circumstances of the particular case. No single factor will necessarily be determinative.

Relevant factors that may support a finding that a person acts, or could reasonably be expected to act, in accordance with the taxpayer's directions or wishes, or in concert with the taxpayer, include:

• the existence of a close family relationship between the parties
• the lack of any formal agreement or formal relationship between the parties dictating how the parties are to act in relation to each other
• the likelihood that the way the parties act, or could reasonably be expected to act, in relation to each other would be based on the relationship between the parties rather than on formal agreements or legal or fiduciary obligations
• the actions of the parties.

Generally, another business would not be acting in concert with you if they:

• have different employees
• have different business premises
• have separate bank accounts
• do not consult you on business matters
• conduct their business affairs independently in all regards.

In certain circumstances, an individual or entity can be taken to be your affiliate.

For more information, see:

• Are spouses and children affiliates?
• Passively-held assets
• Partner's assets.
  
  

Are spouses and children affiliates?

Neither a spouse nor a child is automatically your affiliate. You must consider whether they are acting according to your directions or wishes, or in concert with you, in relation to their business affairs.

However, where you own an asset that your spouse or child uses in a business they carry on as an individual, they will be taken to be your affiliate for the purposes of the:

• active asset test
• $6 million maximum net asset value test, and
• $2 million aggregated turnover test.

By child, we mean your child less than 18 years of age.

Your spouse or child may also be taken to be your affiliate where:

• an asset is owned by you and that asset is used in a business carried on by an entity that your spouse (or child) owns or has an interest in, or
• an asset is owned by an entity that you own or have an interest in, and that asset is used in a business carried on by your spouse (or child), or an entity that your spouse or child has an interest in.
  
  

Your spouse or child is treated as your affiliate when working out whether the entity that owns the asset is an affiliate of, or connected with, the entity that uses the asset in their business. If by treating your spouse or child as your affiliate the result is that the business entity is taken to be an affiliate of, or connected with, the entity that owns the asset, then the affiliate rule will also apply to treat the spouse or child as an affiliate of the individual for the purposes of the small business CGT concessions in relation to:

• all the basic conditions for eligibility, and
• calculating aggregated turnover and net asset value.

This rule only applies in relation to eligibility for the small business CGT concessions, and not the other small business entity concessions.

If this second stage of the affiliate rule applies, it will also apply for any gain that arises from any asset that either the asset owner or the business entity, or the individual or their spouse or child, owns. This affiliate rule works both ways, so that the individual is also taken to be an affiliate of their spouse or child. However, it only applies for as long as:

• the person is their spouse or the child is under 18 years, and
• any asset is being passively held.

This affiliate rule for spouses and children also has application for the meaning of active asset.

This affiliate rule applies only if the business entity is not already an affiliate of, or connected with, the asset-owner.

Are franchisees and franchisors affiliates?

Franchisees are not necessarily affiliates of the franchisor simply because of the franchise arrangement. Whether the franchisee acts in concert with the franchisor in respect of their franchise business depends on, among other things, the nature of the franchise agreement between them.

The affiliate relationship does not include the relationship between the 'controller' of an entity and the entity itself. The relationship in these situations is considered to be dictated more by obligations imposed by law, formal agreements and fiduciary obligations. Accordingly, companies, trusts and partnerships are not considered to be affiliates (and vice versa) of the various officers, persons and entities that are related to the company, trust or partnership in various capacities - for example, the trustees and beneficiaries of a trust, the directors and shareholders of a company, and the partners in a partnership.

When an entity is connected with you

An entity is connected with another entity if:

• either entity controls the other entity, or
• both entities are controlled by the same third entity.

In certain circumstances, an entity can be taken to be connected with you; see Passively-held assets and Partner's assets.

Connected with: control of a partnership, company or trust (except a discretionary trust)

An entity controls another entity if it or its affiliate (or all of them together):

• owns, or has the right to acquire ownership of, interests in the other entity that give the right to receive at least 40% (the control percentage) of
  • any distribution of income or capital by the other entity, or
  • if the other entity is a partnership, the net income of the partnership or
• if the other entity is a company, owns, or has the right to acquire ownership of, equity interests in the company that give at least 40% of the voting power in the company.

The meaning of an equity interest includes, but is not limited to, a share in a company.

Between 40% but less than 50% control

If an entity's control percentage in another entity is at least 40% but less than 50%, the Commissioner may determine that the first entity does not control the other entity if he is satisfied that a third entity (not including any affiliates of the first entity) controls the other entity.

Whether or not a third entity has a control percentage of at least 40% may assist in determining whether the third entity controls the other entity, but it is not decisive. For example, a third entity may control a discretionary trust because the trustee acts, or could reasonably be expected to act, in accordance with the directions or wishes of the third entity even if the third entity's control percentage is zero. In working out the third entity's control percentage, the interests of any affiliates of the third entity are taken into account.

Alternatively, it is possible that both of the entities with a control percentage of at least 40%, or both an entity with a control percentage of at least 40% and an entity that controls the other entity in another way, may control the other entity if responsibilities are shared.

Connected with: control of a discretionary trust

Control by entity with influence over trustee

An entity controls the discretionary trust if the trustee either acts, or might reasonably be expected to act, in accordance with the directions or wishes of the entity/or the entity's affiliates, or both the entity and its affiliates.

All the circumstances of the case need to be considered in determining whether you satisfy this test, for example, the mere presence in the trust deed of a requirement that the trustee should have no regard to such directions or wishes would not be sufficient.

Some factors which might be considered include:

• the way in which the trustee has acted in the past
• the relationship between the trustee and the entity or its affiliates, and the relationship the trustee has with both the entity and its affiliates
• the amount of any property or services transferred to the trust by the entity or its affiliates, or by both the entity and its affiliates
• any arrangement or understanding between the entity and any person who has benefited under the trust in the past.

This entity may control a discretionary trust in addition to any beneficiary with control as described below.

Control by beneficiary

The level of actual distributions made by a discretionary trust is used to determine who controls the trust. A beneficiary is taken to control a discretionary trust only if, for any of the four income years before the year for which relief is sought for a CGT event:

• the trustee paid to, or applied for the benefit of, the beneficiary or their affiliates, or both the beneficiary and any of its affiliates, any of the income or capital of the trust, and
• the amounts paid or applied were at least 40% (the control percentage) of the total amount of income or capital paid or applied for that income year (subject to the Commissioner's discretion where the control percentage is between 40% and less than 50%).

Exempt entities and deductible gift recipients are not treated as controlling a discretionary trust, regardless of the percentage of distributions made to them.

To determine whether a particular beneficiary controls a trust, amounts paid to or applied for the benefit of any of the beneficiary's affiliates are also included when determining whether the beneficiary reaches the 40% threshold.

Distributions of income and capital made to the same beneficiary are considered separately (that is, not added together) to determine if the beneficiary reaches the 40% threshold.

Public entities can also be taken to control a discretionary trust if distributions to them meet the 40% control percentage. A public entity is a publicly traded company or unit trust, a mutual insurance company, a mutual affiliate company or a company in which all the shares are beneficially owned by one or more of those entities.

Where a discretionary trust makes a contribution to a superannuation (or similar) fund for an employee who is also a beneficiary of the trust, this payment is not considered to be a distribution of income or capital of the trust. This is because the payment is made for the person in their capacity as employee and not in their capacity as beneficiary.

Nominating a beneficiary as controller of the trust

The trustee of a discretionary trust may nominate up to four beneficiaries as being controllers of the trust for an income year in which the trust had a tax loss or no net income and in which the trustee did not make a distribution of income or capital of the trust.

In such a case, the trust might not have had the funds to make a distribution, which would prevent it from being controlled in that year. The trustee may wish to make the nomination to ensure that a particular CGT asset is treated as an active asset for that year.

The nomination must be in writing and signed by the trustee and each nominated beneficiary.

A nominated beneficiary is connected with the trust (and the trust is connected with the nominated beneficiary) for the purposes of the maximum net asset value test, the aggregated turnover test and the active asset test.

Connected with: indirect control of an entity

The control tests for the 'connected with' rules are designed to look through business structures that include interposed entities. If an entity (the first entity) directly controls a second entity, and the second entity controls (whether directly or indirectly) a third entity, the first entity is also taken to control the third entity.

In the above figure, the small business entity controls companies A and B but not company C.

Exception where interposed entity is a public entity

The indirect control test does not apply if an entity controls a public entity and that public entity controls a third entity, unless the first entity actually controls the third entity, for example, because it holds 50% of the voting shares of the third entity.

Active asset test

The active asset test is satisfied if the asset was an active asset of yours:

• for a total of at least 7 ½ years during the test period, if you have owned it for more than 15 years, or
• for a total of at least half of the test period, if you have owned it for 15 years or less.

The test period:

• begins when you acquired the asset, and
• ends at the earlier of
  • the CGT event, and
  • when the business ceased, if the business in question ceased in the 12 months before the CGT event (or such longer time as the Commissioner allows).
    
    

The periods in which the asset is an active asset do not need to be continuous. However, they must add up to the minimum periods specified above, depending on the total period of ownership.

The asset does not need to be an active asset just before the CGT event.

Meaning of active asset

A CGT asset is an active asset if you own it and:

• you use it or hold it ready for use in the course of carrying on a business (whether alone or in partnership)
• it is an intangible asset (for example, goodwill) inherently connected with a business you carry on (whether alone or in partnership).

A CGT asset is also an active asset if you own it and it is used or held ready for use in the course of carrying on a business, or it is an intangible asset inherently connected with a business carried on, (whether alone or in partnership) by any of the following:

• your affiliate
• your spouse or child under 18 years
• an entity connected with you.

However, certain CGT assets cannot be active assets, even if they are used or held ready for use in the course of carrying on a business, for example, assets whose main use is to derive rent (unless the asset was rented to an affiliate or connected entity for use in their business). Generally a rental property will not be an active asset.

Spouses and children under 18 years

For an asset to be an active asset, it must be used or held ready for use in, or inherently connected with:

• your business
• a business your affiliate or an entity connected with you, carries on.

Where you own an asset that your spouse or child under 18 years uses in their business, they are your affiliate for the purposes of the:

• active asset test
• $6 million maximum net asset value test
• $2 million aggregated turnover test.

Your spouse or child may also be your affiliate where one of the following applies:

• you own an asset that is used in a business carried on by an entity that your spouse or child owns or has an interest in
• an entity you own or have an interest in, owns an asset that is used in a business which your spouse or child carries on, or an entity that your spouse or child owns or has an interest in.

Treat your spouse or child as your affiliate when working out whether the entity that owns the asset is:

• an affiliate
• connected with the entity that uses the asset in their business.

This may allow your asset to be an active asset.

Land subdivision and active asset test

If land, part of which is used in the business of the taxpayer and part of which is vacant, is subdivided, the new subdivided blocks created out of the vacant part of the land will not satisfy the active asset test when they are sold.

Cessation of a business

If the CGT event happens within 12 months after the business ceased, the test period can end when the business ceased.

This aspect of the active asset test allows some flexibility in the situation where a business is sold, or has otherwise ceased, and an asset previously used in the business is sold after that time. The asset only needs to be an active asset for half (to a maximum of 7.5 years) of the shorter test period during the total time the asset was owned.

If the CGT event happens more than 12 months after the business ceased, the test period ends either:

• when the CGT event happens, or
• when the business ceased, if the Commissioner grants you an extension of time.

Extension of time requests are considered on the merits of each case.

For the purposes of the active asset test, the cessation of a business includes the sale of a business, that is, it is not limited to a business that ends in the sense that no-one continues to carry it on, but also includes a business that has ceased to be carried on by an entity because the entity has sold that business.

Death and the active asset test

Where you are one of the following you may be eligible for the concessions to the same extent that the deceased would have been just prior to their death:

• a beneficiary of a deceased estate
• a legal personal representative (executor)
• a surviving joint tenant
• a trustee or beneficiary of a testamentary trust (trust created by a will).

You will be eligible for the concessions where the CGT event happens within two years of the individual's death. Otherwise the active asset test applies to you in the normal way as explained earlier for any capital gain made on a sale of the assets after the two-year time limit. This means that if you do not continue to carry on the deceased's business, or use the asset in another business, after the two-year time period, the active asset test may not be satisfied and the small business concessions may not be available.

The Commissioner can extend this two-year period.

For more information, see Death and the small business CGT concessions.

Continuing time periods for active asset test for involuntary disposals

There are modified rules to determine whether the active asset test is satisfied for CGT assets acquired or transferred under the rollover provisions relating to assets compulsorily acquired, lost or destroyed, or to marriage or relationship breakdown (Subdivisions 124-B and 126-A of the ITAA 1997 respectively).

If you acquired a replacement asset to satisfy the rollover requirements for the compulsory acquisition, loss or destruction of a CGT asset, the replacement asset is treated as if:

• you acquired it when you acquired the original asset, and
• it was an active asset at all times when the original asset was an active asset.

If you have a CGT asset transferred to you because of a marriage or relationship breakdown, and the capital gain arising from that transfer was rolled over under the marriage or relationship breakdown rollover provisions, for purposes of the active asset test you can choose whether to:

• include the ownership and active asset periods of your former spouse, or
• commence the ownership and active asset periods from the time the asset was transferred to you.

If you choose to include your former spouse's ownership and active asset periods of the CGT asset, that asset is treated as if it had been:

• acquired by you when your former spouse acquired the asset, and
• was an active asset of yours at all times when the asset was an active asset of your former spouse.

Modified active asset test for CGT event D1

A modified active asset test applies if you make a capital gain from CGT event D1 (about creating rights in another entity).

The active asset test requires you to own the CGT asset before the CGT event happens. However, under CGT event D1, the relevant CGT asset (the rights) are created in the other entity without you owning them, so it would not be possible to satisfy the active asset test.

Accordingly, the test is modified to require the right you create that triggers the CGT event to be inherently connected with another CGT asset of yours that satisfies the active asset test.

Businesses that are winding up

If you are accessing the concessions using the basic condition for passively-held assets or a partner's assets, there is a special rule that affects the period of time that your asset is an active asset in the CGT event year. It applies in the income year the CGT event happens where:

• a business previously carried on by your affiliate, an entity connected with you or a partnership in which you are a partner, is being wound up and the asset is no longer being used in the business, and
• the asset was used, held ready for use in, or inherently connected with the business at a time in a previous income year when you ceased to carry on the business.

This rule treats the entity as carrying on the business for a moment in time in the income year the CGT event happens and treats the asset as being used, held ready for use in, or inherently connected with, the business at that same moment in time in the CGT event year. The asset must still pass the active asset test.

This rule is also required to enable you to meet the basic condition for passively- held assets and partner's assets.

When an asset is 'held ready for use'

For an asset to be held ready for use in the course of carrying on a business, it needs to be in a state of preparedness for use in the business and functionally operative. As such, premises still under construction, or land upon which it is intended to construct business premises, could not be said to be 'held ready for use' and would, therefore, not be active assets at that time.

When shares and trust interests are active assets

A CGT asset is also an active asset at a given time if you own it and:

• it is either a share in a company that is an Australian resident at that time or an interest in a trust that is a resident trust for CGT purposes for the income year in which that time occurs, and
• the total of the following is 80% or more of the market value of all of the assets of the company or trust
  • the market values of the active assets of the company or trust, and
  • the market value of any financial instruments of the company or trust that are inherently connected with a business that the company or trust carries on, and
  • any cash of the company or trust that is inherently connected with such a business.

This means a share in a company or an interest in a trust is an active asset if the company or trust itself has active assets (and inherently connected financial instruments and cash) with a market value of at least 80% of the market value of all its assets.

Cash and financial instruments are not active assets, but they count towards the satisfaction of the 80% test provided they are inherently connected with the business.

Inherent connection

Inherent connection necessarily requires something more than just some form of connection between the financial instrument and the business. A thing might be regarded as inherently connected to a business when it is a permanent or characteristic attribute of the business, for example, goodwill, or trade debtors. Where a business is holding excess funds arising from a temporary spike in trading activity or the sale of a business asset, the excess funds might also reasonably be regarded as inherently connected with the business. A financial instrument must be inherently connected with a business that the owner of the financial instrument carries on, rather than any business a related entity carries on.

The active asset test requires a CGT asset to have been an active asset for at least half of a particular period, as outlined earlier, for example, for a share in an Australian resident company to meet this requirement, the company must satisfy the 80% test for that same period.

The 80% test will be taken to have been met:

• where breaches of the threshold are only temporary in nature, and
• in circumstances where it is reasonable to conclude that the 80% threshold has been passed.
  
  

Interests in holding entities

An interest in an entity that itself holds interests in another entity that operates a business may be an active asset, depending on the successive application of the 80% test at each level.

Assets that cannot be active assets

The following CGT assets cannot be active assets (even if they are used, or held ready for use, in the course of carrying on a business):

• shares in companies or interests in trusts, other than those that satisfy the 80% test; see When shares and trust interests are active assets
• financial instruments, such as bank accounts, loans, debentures, bonds, futures and other contracts and share options (If a financial instrument is inherently connected with the business, it can nevertheless count towards the satisfaction of the 80% test.)
• assets whose main use is to derive interest, an annuity, rent, royalties or foreign exchange gains (unless the main use for deriving rent was only temporary or the asset is an intangible asset that you have substantially developed or improved so that its market value has been substantially enhanced)
• shares and trust interests in widely-held entities, unless held by a CGT concession stakeholder in the widely-held entity.

Trade debtors are not considered to be financial instruments for the purposes of the active asset exclusions. Rather, they are a business facilitation mechanism that assists in the conduct of the business and are inherently connected with the business. Accordingly, trade debtors can be included in the value of active assets when calculating the 80% test.

Where asset's main use is to derive rent

As already noted, an asset whose main use is to derive rent (unless that main use is only temporary) cannot be an active asset. This is the case even if the asset is used in the course of carrying on a business.

Whether an asset's main use is to derive rent will depend on the particular circumstances of each case. The term 'rent' has been described as referring to the payments made by a tenant or lessee to a landlord or lessor for exclusive possession of the leased premises. As such, a key factor in determining whether an occupant of premises is a lessee paying rent is whether the occupier has a right to exclusive possession.

If, for example, premises are leased to a tenant under a lease agreement granting exclusive possession, the payments involved are likely to be rent and the premises are not an active asset. On the other hand, if the arrangement allows the person only to enter and use the premises for certain purposes and does not amount to a lease granting exclusive possession, the payments involved are not likely to be rent.

An asset that is leased to a connected entity or affiliate for use in its business may still be an active asset. It is the use of the asset in that entity's business that will determine the active asset status of the asset.

All uses of an asset are considered in determining what the main use of the asset is and, therefore, whether it is an active asset. However, personal use of the asset by the asset owner, or by an individual who is their affiliate, is not considered in determining the main use of the asset.

The following is considered use of the asset to derive rent, where the rent is derived:

• from an entity that is not an affiliate or connected with the asset owner (third party), or
• by an entity that is an affiliate or connected with the asset owner (relevant entity).

The use of the asset to derive rent from a third party will be considered use to derive rent, even if that entity uses the asset in their business. This is because the use of the asset by the asset owner is to derive rent.

However, use of the asset by a relevant entity is treated as the use by the asset owner, even if the asset owner receives rent from the relevant entity for the use of that asset.

This means, if the relevant entity uses the asset:

• in its business, that use is treated as use by the asset owner to carry on business
• to derive interest, rent, royalties, or foreign exchange gains from an entity that is a third party, that use is treated as use by the asset owner to derive passive income.
  
  

Extra conditions if the CGT asset is a share or trust interest

If the CGT asset is a share in a company or an interest in a trust, one of these additional basic conditions must be satisfied just before the CGT event:

• the entity claiming the concession must be a CGT concession stakeholder in the company or trust, or
• CGT concession stakeholders in the company or trust together have a small business participation percentage in the entity claiming the concession of at least 90% (the 90% test).

CGT concession stakeholder

An individual is a CGT concession stakeholder of a company or trust if they are a significant individual or the spouse of a significant individual where the spouse has a small business participation percentage in the company or trust at that time that is greater than zero.

This participation percentage can be held directly or indirectly through one or more interposed entities.

The percentages are worked out in the same way as for the significant individual test.

If a company or trust has claimed the small business 15-year exemption or the small business retirement exemption, a CGT concession stakeholder may receive an exempt amount from the company or trust if the conditions are satisfied.

Significant individual test

An individual is a significant individual in a company or trust if they have a small business participation percentage in the company or trust of at least 20% - this 20% can be made up of direct and indirect percentages.

A company or trust satisfies the significant individual test if it had at least one significant individual just before the CGT event. The small business 15-year exemption further requires a company or trust to have a significant individual for periods totalling at least 15 of the years of ownership of the CGT asset.

The significant individual test is not the same as the control tests used to determine if an entity is 'connected with' another entity for the purposes of the $6 million maximum net asset value test or the $2 million aggregated turnover test.

Small business participation percentage

An entity's small business participation percentage in another entity at a time is the percentage that is the sum of:

• the entity's direct small business participation percentage in the other entity at that time, and
• the entity's indirect small business participation percentage in the other entity at that time.

Direct small business participation percentage

Companies

An entity's direct small business participation percentage in a company is the percentage of:

• voting power that the entity is entitled to exercise (except for jointly owned shares) or
• any dividend payment that the entity is entitled to receive, or
• any capital distribution that the entity is entitled to receive, or
• if they are different, the smallest of the three percentages above.

All classes of shares (other than redeemable shares) are taken into account in determining an entity's participation percentage in a company.

Jointly owned shares

The voting power calculation is ignored where the shares are jointly owned, as neither owner would individually control the voting power on the jointly owned shares.

Trusts

An entity's direct small business participation percentage in a trust, where entities have entitlements to all the income and capital of the trust, is the lower percentage of either:

• the income of the trust that the entity is beneficially entitled to, or
• the capital of the trust that the entity is beneficially entitled to.

An entity's direct small business participation percentage in a trust (where entities do not have entitlements to all the income and capital of the trust, and the trust makes a distribution of income or capital) is the percentage of:

• distributions of income that the entity is beneficially entitled to during the income year, or
• distributions of capital that the entity is beneficially entitled to during the income year, or
• if two different percentages apply, then the smaller of the two.

Discretionary trusts with tax losses or no net income

An entity can use another method to work out their small business participation percentage in a discretionary trust if, in the CGT event year, the trustee of the trust:

• did not make a distribution of income or capital during the income year, and
• had no net income or had a tax loss for income year.

The entity's direct small business participation percentage at the relevant time is worked out using the percentage of the distributions the entity was beneficially entitled to in the last income year before the CGT event year in which the trustee made a distribution.

An entity's small business participation percentage is zero if:

• the trust had net income and did not have a tax loss, and the trustee decided not to distribute, or
• the trustee has never made a distribution in the income years up to and including the CGT event year (including where the trust had no net income or had a tax loss in each of those income years).
  
  

Indirect small business participation percentage

An entity's indirect small business participation percentage in a company or trust is calculated by multiplying together the entity's direct participation percentage in an interposed entity, and the interposed entity's total participation percentage (both direct and indirect) in the company or trust.

An indirect interest can be held through one or more interposed entities.

An object of a discretionary trust (where entities do not have entitlements to all of the income and capital of the trust) may calculate their indirect small business participation percentage to be more than zero, where the trust had a tax loss or no net income for the income year.

For more information, see Discretionary trusts with tax losses or no net income.

The 90% test

The 90% test only applies if there is an interposed entity between the CGT concession stakeholders and the company or trust in which the shares or interests are held.

The interposed entity satisfies the test if small business participation percentages in that entity totalling at least 90% are held by CGT concession stakeholders of the company or trust in which the shares or interests are held.

As with the significant individual test, the participation percentage can be held directly or indirectly through multiple interposed entities.

Small business 15-year exemption

The rules covering the small business 15-year exemption are contained in Subdivision 152-B of the Income Tax Assessment Act 1997.

Interaction with other concessions

If you qualify for the small business 15-year exemption, you can entirely disregard the capital gain and do not need to apply any other concessions. Further, you do not have to apply capital losses against your capital gain before applying the 15-year exemption.

If the conditions are satisfied and you make a capital loss from the CGT event, you may use the capital loss to reduce other capital gains.

Conditions you must meet

You can disregard a capital gain from a CGT event happening to a CGT asset you have owned for at least 15 years if you:

• satisfy the basic conditions for the small business CGT concessions (the active asset test requires the asset to have been an active asset for at least 7.5 years of the whole period of ownership)
• continuously owned the CGT asset for the 15-year period ending just before the CGT event happened.

If you are an individual:

• when the CGT event happened
  • you were permanently incapacitated, or
  • you were 55 years old, or older, and the event happened in connection with your retirement, and
• if the CGT asset is a share in a company or an interest in a trust, that company or trust must have had a significant individual for periods totalling at least 15 years during the entire time you owned the share or interest, even if it was not the same significant individual during the whole period.

If you are a company or trust:

• you had a significant individual for a total of at least 15 years of the whole period of ownership (even if it was not the same significant individual during the whole period), and
• the individual who was a significant individual just before the CGT event was
  • at least 55 years old at that time and the event happened in connection with their retirement, or
  • was permanently incapacitated at that time.

For CGT assets acquired or transferred under the rollover provisions relating to assets compulsorily acquired, lost or destroyed, or those relating to marriage or relationship breakdown, there are modified rules about the requirement that the asset be continuously owned for at least 15 years.

Death and the 15-year exemption

You may be eligible for the concessions if you make a capital gain on an asset within two years of a person's death, if that asset is or was part of that individual's estate, and you are a:

• beneficiary of the deceased estate
• legal personal representative (executor), or
• trustee or beneficiary of the testamentary trust (trusts created by a will).

You may also be eligible if you, together with the deceased, owned the asset as joint tenants.

You will be eligible for the 15-year exemption to the same extent that the deceased would have been just prior to their death, except that:

• the CGT event does not need to be in connection with the retirement of the deceased
• the deceased needs to have been 55 or older immediately before their death, rather than at the time of the CGT event.

The Commissioner can extend the two-year period.

For more information, see:

• Basic conditions for the small business CGT concessions
• Death and the small business CGT concessions.

Special rule for discretionary trusts with tax losses or no net income

For the CGT event year, if a discretionary trust has no net income (or had a tax loss) and did not make a distribution of income or capital, it may work out the small business participation percentages by focussing on the most recent year in which a distribution was made prior to the CGT event year.

For more information, see Discretionary trusts with tax losses or no net income.

In connection with an individual's retirement

Whether a CGT event happens in connection with an individual's retirement depends on the particular circumstances of each case. There would need to be at least a significant reduction in the number of hours the individual works or a significant change in the nature of their present activities to be regarded as a retirement. However, it is not necessary for there to be a permanent and everlasting retirement from the workforce. The following examples provide a guide as to the likely scope of the term.

A CGT event may be 'in connection with your retirement' even if it occurs at some time before retirement. Whether particular cases satisfy the conditions depends very much on the facts of each case.

Similarly, the words 'in connection with' can apply where the CGT event occurs sometime after retirement. Again, this type of case would depend on its own particular facts, and would need to be considered on a case-by-case basis.

Permanent incapacity

Whether an individual is permanently incapacitated at the time of the CGT event depends on the particular circumstances of each case. Based on the meaning of the term permanent incapacity in retirement and superannuation law, an indicative description is:

• ill health (whether physical or mental), where it is reasonable to consider that the person is unlikely, because of the ill-health, to engage again in gainful employment for which the person is reasonably qualified by education, training or experience. The incapacity does not necessarily need to be permanent in the sense of everlasting.

The following examples provide an indication of the meaning of the term for the purposes of the small business 15-year exemption.

Involuntary disposals

A requirement of the small business 15-year exemption is that you must have continuously owned the CGT asset for at least 15 years. However, there are modified rules to determine if this requirement is satisfied for CGT assets acquired or transferred under the rollover provisions relating to assets compulsorily acquired, lost or destroyed, or to marriage or relationship breakdown (Subdivisions 124-B and 126-A of the Income Tax Assessment Act 1997 respectively).

If you acquired a replacement asset to satisfy the rollover requirements in respect of the compulsory acquisition, loss or destruction of a CGT asset, the replacement asset is treated as if you acquired it when you acquired the original asset.

If you have a CGT asset transferred to you because of a marriage or relationship breakdown, and the capital gain arising from that transfer was rolled over under the marriage or relationship breakdown rollover provisions, for the purpose of determining whether the 15-year requirement has been satisfied you can choose to:

• include the ownership period of your former spouse, or
• commence the ownership period from the time the asset was transferred to you.

If you choose to include your former spouse's ownership period of the CGT asset, that asset is treated as if you acquired it when your former spouse acquired the asset.

Separate interests in the same CGT asset

If you own separate interests in the same CGT asset and sell those interests together, the 15-year exemption applies only to interests in the asset that you have owned continuously for at least 15 years. The exemption does not apply to any interest you have owned for less than 15 years. This is because interests in an asset acquired at different times are separate CGT assets.

Consequences of applying the exemption

Distributions of the exemption amount

If a capital gain made by a company or trust is disregarded under the small business 15-year exemption, or would have been except that the capital gain was disregarded anyway because the relevant CGT asset was acquired before 20 September 1985, any distributions made by the company or trust of that exempt amount to a CGT concession stakeholder is:

• not included in the assessable income of the CGT concession stakeholder, and
• not deductible to the company or trust

if certain conditions are satisfied.

The conditions are:

• the company or trust must make a payment before the latter of
  • two years after the relevant CGT event that resulted in the capital gain
  • 6 months after the latest time a possible financial benefit becomes or could become due under the look-through earnout right relating to the CGT asset and the disposal
  • in appropriate circumstances, such further time as allowed by the Commissioner
• the payment must be made to an individual who was a CGT concession stakeholder of the company or trust just before the CGT event
• the total payments made to each CGT concession stakeholder must not exceed an amount determined by multiplying the CGT concession stakeholder's participation percentage by the exempt amount.

The CGT concession stakeholder's participation percentage is:

• for a company or a trust (where entities have entitlements to all the income or capital of the trust), the stakeholder's small business participation percentage in the company or trust just before the CGT event, and
• for a trust (where entities do not have entitlements to all the income or capital of the trust), the amount (expressed as a percentage) worked out using the formula:
  • 100/N
  • where N is the number of CGT concession stakeholders of the trust just before the CGT event.
    
    

Impact on superannuation

From 1 July 2007, if you are contributing a 15-year exemption amount to a superannuation fund or retirement savings account (RSA), the amount is generally a non-concessional contribution. To exclude the amount from your non-concessional contributions cap and have it count towards your superannuation CGT cap instead ($1.415m for 2016-17), you must notify the fund on the Capital gains tax cap election (NAT 71161). You must complete this election by no later than the time you make the contribution.

Effect of look-through earnout rights on contributions relating to a 15-year exemption amount

If you are an individual who disregarded the capital gain under the small business 15-year exemption and you are contributing some or all of the capital proceeds to superannuation the contribution must be made on or before the later of

• the day you lodge your income tax return for the income year in which the relevant CGT event happened
• 30 days after you received capital proceeds.

If you receive a 15-year exemption amount from a company or trust the contribution must be made within 30 days after the entity made the payment to you.

Small business 50% active asset reduction

The rules covering the small business 50% active asset reduction are contained in Subdivision 152-C of the Income Tax Assessment Act 1997.

Interaction with other concessions

If you do not qualify for the small business 15-year exemption, the small business 50% active asset reduction may apply to reduce the capital gain.

Unlike the other small business concessions, the small business 50% active asset reduction applies automatically if the basic conditions are satisfied, unless you choose for it not to apply.

For example, you might prefer for it not to apply, and instead choose the small business retirement exemption or the small business rollover. Making this choice allows you to achieve the best result for your circumstances, for example, a company or trust may make larger tax-free payments under the small business retirement exemption.

Otherwise, the small business retirement exemption or the small business rollover (or both) may apply to the capital gain that remains after applying the small business 50% active asset reduction.

Conditions you must meet

To apply the small business 50% active asset reduction, you need to satisfy only the basic conditions. There are no further requirements.

Consequences of applying the reduction

If you satisfy the basic conditions, the capital gain that remains after applying any current year capital losses and any unapplied prior year net capital losses, and the CGT discount (if applicable), is reduced by 50%.

This means that if you are an individual or a trust and you have applied the CGT discount and the small business 50% active asset reduction, the capital gain (after being reduced by any capital losses applied against it) is effectively reduced by 75% (that is, 50% then 50% of the remainder).

Rules for beneficiaries of trusts

The rules for beneficiaries of trusts are contained in Subdivision 115-C of the Income Tax Assessment Act 1997.

If a trust makes a capital gain, its net capital gain for the income year is generally calculated in the same way as for other entities, by reducing any capital gains firstly by any capital losses and then by any relevant concessions.

The net capital gain is included in the net income of the trust. A beneficiary who is 'specifically entitled' to a capital gain will generally be assessed on that gain, regardless of whether the benefit they receive or are expected to receive is income or capital of the trust.

Capital gains to which no beneficiary is specifically entitled will be allocated proportionately to beneficiaries based on their present entitlement to income of the trust estate (excluding capital gains and franked distributions to which any entity is specifically entitled). This is called the adjusted Division 6 percentage.

There are special rules that enable concessions obtained by a trust to be passed on to the beneficiaries of the trust who are entitled to a share of the trust's net capital gain.

A beneficiary must 'gross up' their share of any capital gain received from a trust by:

• multiplying that amount by two, if the trust has applied either the CGT discount or the small business 50% active asset reduction, or
• multiplying that amount by four, if the trust has applied both the CGT discount and the small business 50% active asset reduction.

The beneficiary's share of the trust capital gains (grossed up if required) is then taken into account in the method statement for calculating the beneficiary's net capital gain to be included in their assessable income by:

• the trust capital gains being firstly reduced by any capital losses of the beneficiary, and
• any trust capital gain remaining is then reduced by the CGT discount (unless the beneficiary is a company, see below) and the small business 50% active asset reduction, if the trust's capital gain was reduced by these two concessions to arrive at the beneficiary's net capital gain.

A corporate beneficiary of a trust must gross up (as above) their share of any net capital gains received from a trust that have been reduced (by the trust) by the CGT discount. They are not entitled to reduce this grossed-up amount by the CGT discount because companies are ineligible for the CGT discount.

Fixed trust distributions and 50% active asset reduction

If a beneficiary's interest in a trust is fixed (for example, an interest in a unit trust) there are rules to deal with the situation where the trust distributes to the beneficiary an amount of capital gain that was excluded from the trust's net income because it claimed the small business 50% active asset reduction.

The distribution of the small business 50% active asset reduction amount is a non-assessable amount under CGT event E4 in section 104-70 of the Income Tax Assessment Act 1997 (ITAA 1997).

The payment of the amount will firstly reduce the cost base of the beneficiary's interest in the trust. If the cost base is reduced to nil, a capital gain may arise in respect of the beneficiary's interest in the trust. This capital gain may qualify for the CGT discount (after applying any capital losses) if the interest in the trust has been owned by the beneficiary for at least 12 months.

If a beneficiary's interest in a trust is not fixed (for example, the trust is a discretionary trust) there are no CGT consequences for the beneficiary.

Small business retirement exemption

The rules covering the small business retirement exemption are contained in Subdivision 152-D of the Income Tax Assessment Act 1997.

You may choose to disregard all or part of a capital gain under the small business retirement exemption if you satisfy certain conditions. If you are an individual who chooses the retirement exemption, you do not need to terminate any activity or cease business. This concession allows you to provide for your retirement. If you are a CGT concession stakeholder and receive payments under the retirement exemption, you are not required to terminate your employment with the company or trust.

Interaction with other concessions

You may choose to apply the small business retirement exemption (if you are not eligible for the 15-year exemption):

• after the small business 50% active asset reduction, that is, to the remaining 50% (or if the CGT discount has also applied, the remaining 25%) of the capital gain after capital losses have been applied
• instead of the small business 50% active asset reduction, that is, to the capital gain that remains after you have applied any CGT discount and capital losses (this choice might allow a company or trust to make larger tax-free payments under the small business retirement exemption)
• where there has been a change in status of a CGT asset that was a replacement or capital improved asset in a rollover under subdivision 152-E (CGT event J2)
  
  where a change happens in circumstances where a share in a company or an interest in a trust was a replacement asset in a rollover under subdivision 152-E (CGT event J2)
• where you chose the rollover under subdivision 152-E and by the end of the relevant period you had not acquired a replacement asset, or made any capital improvements (CGT event J5), or
• where you chose the rollover under subdivision 152-E and by the end of the relevant period the amount you incurred on a replacement asset was less than the amount chosen for the rollover (CGT event J6).

Unless the capital gain arises from CGT event J5 or J6, you may choose the small business rollover instead of the retirement exemption (if the conditions are satisfied) or you may choose both concessions for different parts of the remaining capital gain.

Conditions you must meet

Individual

If you are an individual, you can choose to disregard all or part of a capital gain if:

• you satisfy the basic conditions
• you keep a written record of the amount you chose to disregard (the CGT exempt amount), and
• if you are under 55 years old just before you choose to use the retirement exemption, you make a personal contribution equal to the exempt amount to a complying superannuation fund or retirement savings account (RSA).

You must make the contribution:

• when you made the choice to use the retirement exemption, or when you received the proceeds (whichever is later), or
• when you made the choice to use the retirement exemption if the relevant event is CGT event J2, J5 or J6.

If you choose the retirement exemption after you have received the capital proceeds (for example, when you lodge your income tax return) you are not required to make the contribution until you make the choice. Accordingly, you may use the capital proceeds for other purposes before making the choice. However, once you make the choice, you must immediately make a contribution of an amount equal to the exempt amount if you were under 55 years old just before you made the choice.

To satisfy this requirement, you must pay the amount into a complying superannuation fund or RSA by the relevant date. This is an important requirement. Failure to immediately contribute the amount will mean the conditions are not satisfied, and the retirement exemption will not be available.

If you are 55 years old, or older, when you make the choice to access the retirement exemption, there is no requirement to pay any amount to a complying superannuation fund or RSA, even though you may have been under 55 years old when you received the capital proceeds.

If the gain arises as a result of CGT events J5 or J6 happening (about the replacement asset conditions not being met for the small business rollover concession) you can choose the retirement exemption for those gains without having to satisfy the basic conditions again. This is because you would have already satisfied the basic conditions at the time you chose the rollover.

If you receive the capital proceeds in instalments, the above requirements about making a contribution apply to each instalment (up to the asset's CGT exempt amount). If your capital proceeds from the disposal of a CGT asset are increased by one or more financial benefits that you receive under a look-through earnout right relating to that CGT disposal, you are treated as receiving those capital proceeds in instalments.

Death and the retirement exemption

You may be eligible for the concessions if you make a capital gain on an asset within two years of a person's death, if that asset is or was part of that individual's estate, and you are a:

• beneficiary of the deceased estate
• legal personal representative (executor), or
• trustee or beneficiary of the testamentary trust (trust created by a will).

You may also be eligible if you, together with the deceased, owned the asset as joint tenants.

You will be eligible for the retirement exemption to the same extent that the deceased would have been just prior to their death, except that there is no requirement for the deceased to contribute an amount to a complying superannuation fund or a retirement savings account (RSA).

The Commissioner can extend the two-year period.

For more information, see:

• Basic conditions for the small business CGT concessions
• Death and the small business CGT concessions.

Company or trust

If you are a company or trust, other than a public entity, you can also choose to disregard all or part of a capital gain where you meet all the following conditions:

• you satisfy the basic conditions
• you satisfy the significant individual test
• you keep a written record of the amount you choose to disregard (the exempt amount) and, if there is more than one CGT concession stakeholder, each stakeholder's percentage of the exempt amount (one may be nil, but together they must add up to 100%)
• you make a payment to at least one of your CGT concession stakeholders worked out by reference to each individual's percentage of the exempt amount
• the payment is equal to the exempt amount or the amount of capital proceeds, whichever is less, and
• where you receive the capital proceeds in instalments, you make a payment to a CGT concession stakeholder for each instalment in succession (up to the asset's CGT exempt amount). If your capital proceeds from the disposal of a CGT asset are increased by one or more financial benefits that you receive under a look-through earnout right relating to that CGT disposal, you are treated as receiving those capital proceeds in instalments.

You must make payments:

• if you choose the retirement exemption for a J2, J5 or J6 event, seven days after you choose to disregard the capital gain
• in any other case, by the later of
  • seven days after you choose to disregard the capital gain, and
  • seven days after you receive the capital proceeds from the CGT event.

If a CGT concession stakeholder is under 55 years old just before a payment is made in relation to them, the company or trust must make the payment to the CGT concession stakeholder by contributing it to a complying superannuation fund or RSA on their behalf. The company or trust must notify the trustee of the fund or the RSA at the time of the contribution that the contribution is being made in accordance with the requirements of the retirement exemption.

There is no requirement to make this contribution if the stakeholder was 55 years old or older.

Therefore, if you choose the retirement exemption after you have received the capital proceeds (for example, when you lodge your tax return) there is no requirement to make any payment until you have made the choice. Accordingly, you may use the capital proceeds for other purposes before choosing. However, once you choose, you must make the payment by the end of seven days after making the choice.

This is an important requirement. Failure to make a payment by the end of seven days after making the choice to a CGT concession stakeholder (if they are 55 years old or older) or into a complying superannuation fund or RSA (if the stakeholder is under 55 years old) will mean the conditions are not satisfied and the retirement exemption will not be available.

If the gain arises as a result of CGT events J5 or J6 happening (when the replacement asset conditions have not been met for the small business rollover concession) you can choose the retirement exemption for those gains without having to satisfy the basic conditions again. This is because you would have already satisfied the basic conditions at the time you chose the rollover.

The requirement for companies and trusts to make a payment to at least one CGT concession stakeholder can be satisfied by making the payment directly, or indirectly, through one or more interposed entities to a CGT concession stakeholder. There are no tax consequences for the interposed entity that receives and passes on the payments.

Termination of employment not required

Where payments are made by a company or trust to a CGT concession stakeholder, the stakeholder is not required to cease any activity or office holding; also see Deemed dividends.

For an individual choosing the retirement exemption, there is no requirement to terminate any activity or cease their business.

Deemed dividends

Payments made to a CGT concession stakeholder who is an employee, to satisfy the retirement exemption requirements, are not deemed to be in consequence of termination of employment for the purposes of section 109 of the ITAA 1936 (about excessive payments to shareholders, directors and associates being deemed to be dividends).

Division 7A of the ITAA 1936 also does not apply to treat such payments made by a company or trust as dividends.

Payments made to satisfy the retirement exemption requirements are not treated as a dividend nor a frankable distribution provided you are:

• a company making a payment to
  • a CGT concession stakeholder or
  • an interposed entity, or
• an interposed entity receiving a payment and passing that payment on.

For more information, see Interposed entities receiving or making payments.

Capital proceeds received in instalments

If a company or trust receives the capital proceeds from a CGT event in instalments and chooses the retirement exemption, it must make a payment to at least one of its concession stakeholders on receipt of each instalment, up to the CGT exempt amount. As mentioned earlier, the payment must be made by the later of seven days after the choice is made or seven days after an instalment of the capital proceeds is received.

In this situation, the total amount of each instalment must be paid until the total of the payments equals the capital gain being disregarded. In other words, the requirement to make a payment must be satisfied to the greatest extent possible out of the initial instalments, rather than in some other way, such as an apportionment across all the instalments received.

If an individual receives capital proceeds in instalments, each instalment is treated as a separate payment. This means that each instalment is looked at separately and in succession in applying the exemption up to the individual's CGT exempt amount.

Effect of look-through earnout rights on capital proceeds received in instalments

If the capital proceeds received by an individual, company or trust from the disposal of a CGT asset are increased by one or more financial benefits that are received under a look-through earnout right relating to that CGT disposal, the individual, company or trust is treated as receiving those capital proceeds in instalments.

Receiving actual capital proceeds not required

It is not essential to receive actual capital proceeds from the CGT event to be able to choose the retirement exemption. The retirement exemption is available where a capital gain is made when an active asset is gifted and the market value substitution rule has applied, or where CGT event J2, J5 or J6 happens.

In order to access the exemption on a gain made by a company or trust for which there are no actual proceeds, the company or trust must make a payment of the disregarded capital gain to at least one of its CGT concession stakeholders.

CGT retirement exemption limit

The amount of the capital gain that you choose to disregard (that is, the CGT exempt amount) must not exceed your 'CGT retirement exemption limit' or, in the case of a company or trust, the CGT retirement exemption limit of each CGT concession stakeholder receiving a payment.

An individual's lifetime CGT retirement exemption limit is $500,000, reduced by any previous CGT exempt amounts the individual has disregarded under the retirement exemption. This includes amounts disregarded under former (repealed) retirement exemption provisions. For a company or trust with eight CGT concession stakeholders (four significant individuals and their four spouses, where each spouse has a small business participation percentage greater than zero) the limit is effectively $4 million, that is, $500,000 for each stakeholder.

A company or trust may determine the percentage of the exempt amount attributable to each stakeholder, having regard to each stakeholder's retirement exemption limit (or remaining limit).

Consequences of choosing the exemption

If you choose this exemption, you disregard the amount of the capital gain you have chosen as the CGT exempt amount.

The amount of any capital gain that exceeds the CGT exempt amount does not qualify for this exemption.

Payments made to CGT concession stakeholder

If you are a CGT concession stakeholder, a payment you receive from a company or trust to satisfy the retirement exemption requirements is not assessable income and is not exempt income.

If you are a company or trust making the payment, it is not able to be deducted from your assessable income.

Interposed entities receiving or making payments

If you are a company or trust receiving a payment (whether directly or indirectly through one or more interposed entities) that another company or trust made to satisfy the retirement exemption requirements, and you are passing that payment on to a CGT concession stakeholder or another interposed entity:

• the payment you receive is not included in your assessable income and is not exempt income, and
• the payment you make is not deductible from your assessable income.

Amounts which are not assessable income and not exempt income have no implications for tax losses of previous years.

A payment you make to satisfy the retirement exemption requirements is not treated as a dividend nor a frankable distribution provided:

• you are an interposed entity receiving a payment and passing that payment on, or
• you are a company making a payment to
  • a CGT concession stakeholder, or
  • an interposed entity.

This is the case despite section 109 of the ITAA 1936 which can treat excessive payments to shareholders, directors and associates as dividends. Therefore, section 109 has no application to these payments.

Division 7A of the ITAA 1936 also does not apply to treat such payments made by a company or trust as dividends.

Superannuation consequences

From 1 July 2007, if you are contributing a retirement exemption amount to a superannuation fund or RSA, the amount is generally a non-concessional contribution. To exclude the amount from your non-concessional contributions cap and have it count towards your superannuation CGT cap instead ($1,415m for 2016-17), you must notify the fund on Capital gains tax cap election- instructions and form (NAT 71161). You must complete this form by no later than the time you make the contribution.

Small business rollover

The rules covering the small business rollover are contained in Subdivision 152-E of the Income Tax Assessment Act 1997. The small business rollover allows you to defer all or part of a capital gain made from a CGT event happening to an active asset.

Interaction with other concessions

You may choose to apply the small business rollover to as much of the capital gain as you decide.

You may apply this small business rollover concession:

• after firstly using the small business 50% active asset reduction (if applicable), and then the 50% CGT discount (if applicable), or
• after you have applied any capital losses (if any) and CGT discount (if applicable).
  • This might ultimately allow a company or trust to make larger tax-free payment under the small business retirement exemption if they choose the retirement exemption after the deferred capital gain has crystallised, for example, when the replacement asset is later sold.

Alternatively, you may choose the small business retirement exemption if its conditions are satisfied, or you may choose both concessions for different parts of the remaining capital gain.

Basic conditions

To qualify for the small business rollover, you need to satisfy the basic conditions that apply to all the CGT small business concessions. You can choose to obtain a rollover even if you have not yet acquired a replacement asset or incurred expenditure on a capital improvement to an existing asset.

Consequences of choosing the rollover

If you choose the rollover, the capital gain will not be included in your assessable income.

Further CGT events happen if you previously chose the rollover and certain conditions are not met by the end of the replacement asset period. This period starts one year before the last CGT event in the income year for which you obtained the roll-over and ends at the later of:

• two years after that last CGT event
• 6 months after the latest time a possible financial benefit becomes or could become due under a look-through earnout right relating to the CGT asset and the disposal.

A capital gain will arise if:

• you do not acquire one or more CGT assets as replacement assets or make a capital improvement to one or more existing assets, or both, within the replacement asset period (CGT event J5)
• the replacement asset you acquired, or the asset to which you made the capital improvement is not an active asset at the end of the replacement asset period (a depreciating asset such as plant can be a replacement asset) (CGT event J5)
• if the replacement asset is a share in a company or an interest in a trust, at the end of the replacement asset period
  • you, or an entity connected with you, are not a CGT concession stakeholder in the company or trust, or
  • CGT concession stakeholders in the company or trust do not have a small business participation percentage in you of at least 90% (CGT event J5)
• the capital gain previously disregarded under the roll over is, at the end of the replacement asset period, more than the sum of the following
  • the amount paid to acquire the replacement asset (that is, the first element of the cost base of the replacement asset)
  • any incidental costs incurred in acquiring that asset, which can include giving property (that is, the second element of the cost base of the replacement asset), and
  • the amount expended on capital improvements to one or more assets that were acquired or already owned (that is, fourth element expenditure) (CGT event J6).

For a share in a company or interest in a trust to be an active asset, the company or trust must satisfy the 80% test, that is, the market value of the active assets and certain financial instruments of the company or trust must be 80% or more of the total of the market value of all the assets of the company or trust.

The Commissioner has the discretion to allow a longer replacement asset period by granting you an extension of time.

Further CGT events

Failure to acquire a replacement asset and make a capital improvement after a rollover (CGT event J5)

CGT event J5 happens if you choose to obtain a small business rollover, and by the end of the replacement asset period:

• you have not acquired a replacement asset, and have not made a capital improvement to an existing asset
• the replacement or capital improved asset is not your active assett is no longer used in the business), or
• where the replacement asset is a share in a company or an interest in a trust
  • the share or trust interest fails the 80% test (unless the failure is only of a temporary nature)
  • you, or an entity connected with you, are not a CGT concession stakeholder in the company or trust, or
  • CGT concession stakeholders in the company or trust do not have a small business participation percentage in you of at least 90%.

Consequences of CGT event J5

When CGT event J5 happens, you make a capital gain equal to the amount of the capital gain previously disregarded under the small business rollover.

The time of the event is at the end of the replacement asset period.

The Commissioner may extend the replacement asset period.

A capital gain from CGT event J5 may be eligible for the retirement exemption if you meet the relevant conditions. You don't need to meet the basic conditions again, but you must meet the retirement exemption conditions. However, you cannot apply the 50% discount, small business 50% active asset reduction, or the 15-year exemption to reduce this gain.

CGT event J6

CGT event J6 happens if:

• you choose to obtain a small business rollover
• by the end of the replacement asset period you acquired a replacement asset or made a capital improvement to an asset, CGT event J5 has not happened and the amount you chose to roll over is greater than the sum of the following amounts
  • the amount paid to acquire the replacement asset (that is, the first element of the cost base of the replacement asset)
  • any incidental costs incurred in acquiring that asset, which can include giving property (that is, the second element of the cost base of the replacement asset), and
  • the amount expended on capital improvements to one or more assets that were acquired or already owned (that is, fourth element expenditure).

Consequences of CGT event J6

When CGT event J6 happens, you make a capital gain equal to the difference between:

• the amount of the capital gain disregarded under the small business rollover, and
• the amount incurred on the replacement asset or capital improvements.

The time of the event is at the end of the replacement asset period.

The Commissioner may extend the replacement asset period.

When CGT event J6 occurs, you may be eligible for the retirement exemption, provided you meet the relevant conditions for that exemption. You don't need to meet the basic conditions again. However, you cannot apply the 50% discount, small business 50% active asset reduction, or the 15-year exemption to reduce this gain.

CGT event J2

A CGT event (CGT event J2) happens if, after the end of the replacement asset period, there is a change in the status of a replacement or capital improved asset you chose for the small business rollover.

Examples of CGT event J2 include:

• the replacement or capital improved asset stops being your active asset, for example, you dispose of the asset or you stop using it or holding it ready for use in your business
• the replacement or capital improved asset becomes your trading stock
• you start to use the replacement or capital improved asset solely to produce exempt income
• where the replacement asset is a share in a company or an interest in a trust
  • the share or interest stops being an active asset, that is, the share or trust interest fails the 80% test (and the failure is more than just temporary in nature), or
  • a liquidator or administrator of the company declares the shares worthless (CGT event G3), or
  • you, or an entity connected with you, cease to be a CGT concession stakeholder in the company or trust (or that entity is no longer connected with you), or
  • CGT concession stakeholders in the company or trust cease to have a small business participation percentage in you of at least 90%.

Consequences of CGT event J2

When CGT event J2 happens to your replacement or capital improved asset, you make a capital gain equal to the gain previously disregarded under the small business rollover.

If there was more than one replacement or capital improved asset and a change happens to only some of the assets, the capital gain is the difference between the amount that was originally rolled over and the relevant expenditure on the remaining replacement or improved assets that satisfied the relevant conditions.

The time of the event is when the change happens.

A capital gain from CGT event J2 may qualify for:

• further rollover, if you acquire another replacement asset, or
• the retirement exemption.

This is provided you meet the relevant conditions for the rollover or exemption. You cannot apply the CGT discount, the 15-year exemption, or the small business 50% active asset reduction to reduce this capital gain.

If you dispose of a replacement or capital improved asset, another CGT event (CGT event A1) happens in addition to CGT event J2. Any capital gain you make from CGT event A1 on the disposal of the replacement or capital improved asset may qualify for any of the small business CGT concessions, if the relevant conditions are satisfied.

If CGT event J6 had previously happened in relation to the rollover, the capital gain is the same as calculated above, less the capital gain previously made under CGT event J6.

If CGT event J2 has previously happened in relation to the rollover, the capital gain is the same as calculated above, less the capital gain previously made under CGT event J2.

Death and small business CGT concessions

Assets and death

When a person dies, their assets devolve (are transferred) to their legal personal representative (LPR) or are acquired by a surviving joint tenant, where the deceased owned those assets as joint tenants with another person. In effect, there is a change of ownership of the assets and, therefore, a CGT event (being a disposal) happens. However, any capital gain or capital loss from this CGT event is disregarded, as is any capital gain or loss that:

• the LPR makes when the asset passes to a beneficiary in the estate, or
• that is made as a result of the asset being acquired by a surviving joint tenant.

The LPR, beneficiary or surviving joint tenant is taken to have acquired the assets on the date of death. Generally, the cost base of the assets is transferred to the assets in the hands of the LPR, beneficiary or joint tenant. However, market value is used if the deceased acquired the assets before 20 September 1985.

In effect, with the disregarding of any capital gain upon death and transferring the cost base upon death of the asset owner, any unrealised capital gain is deferred until a later sale of the asset by the LPR, beneficiary or joint tenant.

The LPR or beneficiary of the deceased estate will be eligible for the small business CGT concessions where:

• the asset is disposed of within two years of the date of deathn extension of time), and
• the asset would have qualified for the small business CGT concessions if the deceased had disposed of the asset immediately before his or her death.

Provided these conditions are satisfied, the small business CGT concessions are also available to the trustee of a trust established by the will of the deceased, a beneficiary of such a trust, and a surviving joint tenant.

For the retirement exemption, there is no need for the amount to be paid into a superannuation fund, even if the deceased was less than 55 years old just before his or her death.

The 15-year exemption can also be chosen if the deceased had met the requirements, except that it is not necessary for the CGT event to have happened in relation to the retirement of the individual.

Disposal of asset after two-year time limit

If a person carrying on a business dies and their assets devolve to their LPR, beneficiary, surviving joint tenant, or trustee or beneficiary of a testamentary trust (the transferee), the active asset test is applied to the transferee in relation to any capital gain made on a sale of the assets after the two-year time limit (or such further time that the Commissioner allows).

This means that if the transferee does not continue to carry on the deceased's business, or use the asset is another business, after the two-year time limit, the active asset test may not be satisfied and the small business CGT concessions may not be available.

Death and a previous small business rollover

If, just before dying, a person still owned a replacement or capital improved asset from an earlier small business rollover, CGT event J2 will happen upon the person's death. This is because the replacement or capital improved asset will stop being the deceased's active asset, having devolved to their LPR.

However, the general rules concerning death, in addition to disregarding any capital gain made on the replacement asset from CGT event A1, will also disregard the capital gain from CGT event J2. Although any capital gain from CGT event A1 is effectively deferred until a later sale of the asset by the LPR or beneficiary, the capital gain from CGT event J2 is not transferred to the LPR or beneficiary. This means that the capital gain from CGT event J2 is permanently disregarded under the general rules concerning death.

What CGT records do you need to keep?

You must keep records of everything that may be relevant to working out whether you have made a capital gain or capital loss from a CGT event of an asset.

This means you need records to substantiate the purchase and disposal of any asset, as well as other costs relating to the asset. Records can include contracts, valuations, and details of commissions and legal fees you paid. Penalties can apply if you do not keep the records for at least five years after the relevant CGT event. If you use information from those records in a later tax return, you may have to keep records for longer. If you have applied a net capital loss, you should generally keep your records of the CGT event that resulted in the loss until the end of any period of review for the income year in which the net capital loss is fully applied.

The records must:

• show the nature of the act, transaction, event or circumstance, and the date it happened
• be in English, or in a form that can be readily translated into English.

If you do not keep proper CGT records you might have to pay:

• extra expenses to establish the cost of an asset when you dispose of it
• more tax than necessary.

CGT asset register

You might find that a simpler way to keep records of assets is to keep a CGT asset register. This is a register of information about your CGT assets that you have transferred from your CGT records (for example, invoices, receipts and contracts).

For most assets this information includes:

• the date you acquired the asset
• the cost of the asset
• a description, amount and date for each cost associated with purchasing the asset (for example, stamp duty and legal fees)
• the date the asset was disposed of
• the amount you received when you disposed of the asset
• any other information relevant to working out your CGT obligation.

You can discard your CGT records five years after having an asset register entry certified if you meet all of the following:

• you enter all the necessary information about an asset in your CGT asset register
• the entry is in English and is certified in writing by an approved person (for example, a registered tax agent)
• the asset register entry is certified after 31 December 1997 (although you may have acquired the asset before this date).

If you do not keep an asset register, you generally have to keep CGT records for at least five years after you dispose of an asset. For example, if you hold an asset for 10 years and then sell it, you would have to keep the records for 15 years.

Definitions

Active asset

A CGT asset is an active asset if you own it and it is:

• used or held ready for use in the course of carrying on a business (whether alone or in partnership) by any of the following
  • you
  • your affiliate
  • your spouse
  • your child under 18
  • an entity connected with you
• an intangible asset inherently connected with a business carried on (whether alone or in partnership) by
  • you
  • your affiliate
  • your spouse
  • your child under 18
  • an entity connected with you.

Goodwill is an example of an intangible asset.

Active asset test

This test requires the CGT asset to be an active asset for half a particular period. It is one of the tests you must pass to meet the basic conditions for the small business CGT concessions.

Affiliate

An affiliate is an individual or a company who, in relation to their own business affairs, acts or could reasonably be expected to act in either of the following ways:

• according to your directions or wishes
• in concert with you.

Aggregated turnover

Aggregated turnover is your annual turnover plus the annual turnovers of any entities you are connected with or that are your affiliates. We call these 'relevant' entities.

Assessable income

This is all the income you have received that you must include in your income tax return. Generally, it does not include non-assessable payments from a unit trust, including a managed fund.

Capital gain

You may make a capital gain (or profit) as a result of a CGT event, for example, when you sell an asset for more than you paid for it. You can also make a capital gain if a managed fund or other unit trust distributes a capital gain to you.

Capital gains tax

Capital gains tax (CGT) is the tax you pay on any capital gain you make and include in your annual income tax return. For example, when you sell (or otherwise dispose of) an asset, you may be subject to CGT.

Capital loss

Generally, you make a capital loss because of a CGT event if you sell an asset for less than you paid for it (including incidental costs).

Capital proceeds

Capital proceeds is the term used to describe the amount of money or the value of any property you receive or are entitled to receive as a result of a CGT event. For shares or units, capital proceeds may be any of the following:

• the amount you receive from the purchaser
• the amount you receive from a liquidator
• the amount you receive on a merger or takeover
• their market value if you give them away.

CGT asset

CGT assets include shares, units in a unit trust, collectables (such as jewellery), assets for personal use (such as furniture or a boat) and other assets (such as an investment property).

CGT asset register

This is a register of information about your CGT assets that you have transferred from your CGT records (for example, invoices, receipts and contracts).

CGT concession stakeholder

A CGT concession stakeholder of a company or trust means either of the following:

• a significant individual in the company or trust
• the spouse of a significant individual, where the spouse has a small business participation percentage in the company or trust greater than zero.

CGT discount

The CGT discount allows eligible individuals (including partners in partnerships) and trusts to reduce their capital gain by 50%. There are more rules for beneficiaries who are entitled to a share of a trust capital gain. Companies cannot use the CGT discount.

CGT event

A CGT event happens when a transaction takes place, such as the sale of a CGT asset. The result is usually a capital gain or capital loss.

Connected with

A business is connected with you if either of the following apply:

• you control or are controlled by that entity
• both you and that entity are controlled by a third entity.

Depreciating asset

A depreciating asset is an asset that has a limited effective life and can reasonably be expected to decline in value over the time it is used. Depreciating assets include computers, electric tools, furniture and motor vehicles.

Maximum net asset value test

To pass this test, you and certain other entities must not own assets with a total net value of more than $6 million just before the CGT event that results in the capital gain.

NAT number

Most of our publications have a NAT number (our catalogue number), which we generally show in brackets after the title of the publication, for example, Guide to depreciating assets (NAT 1996).

Net capital gain

The net capital gain is the difference between your total capital gains for the year and your total capital losses (including net capital losses from prior years), less any CGT discount or other small business CGT concessions you are entitled to.

Net value of the CGT assets

The net value of the CGT assets of an entity is the total market value of its assets (whether positive, negative or nil), less any liabilities relating to those assets and certain provisions.

Relevant entity

Relevant entities include any:

• of your affiliates
• entities connected with you.

Replacement asset period

This period starts one year before and ends two years after the last CGT event that occurs in the income year for which you choose the rollover.

Significant individual

An individual is a significant individual in a company or trust if they have a small business participation percentage in the company or trust of at least 20%.

Small business entity

You are a small business entity if you are a sole trader, partnership, company or trust that meets both of the following:

• is carrying on a business
• has an aggregated turnover of less than $2 million.

Small business 15-year exemption

This is one of the CGT concessions available to small business. Generally, it allows you to disregard the capital gain you made on an asset you have owned for 15 years if you meet all the conditions.

Small business 50% reduction

This is one of the CGT concessions available to small business. Generally, it allows you to reduce your capital gain by 50% if you meet the basic conditions.

Small business retirement exemption

This is one of the CGT concessions available to small business. Generally, it provides an exemption of capital gains up to a lifetime limit of $500,000 if you meet all the conditions. If you are under 55 years old when you choose the exemption, you must pay the amount into a complying superannuation fund or a retirement savings account.

Small business rollover

This is one of the CGT concessions available to small business. Generally, it allows you to defer all or part of a capital gain from a CGT event that happens in relation to a small business asset for two years, or longer if you do one of the following:

• acquire a replacement asset
• make an improvement to an existing asset and meet certain conditions.

More information

Websites

• For more on the concessions available to small business entities, go to ato.gov.au/sbconcessions
• For more on the CGT concessions for small business entities, go to ato.gov.au/businesscgt
• For more on our range of online services, including the Business Portal, go to ato.gov.au/onlineservices
• For easy access to business information, services and transactions with government, go to business.gov.auExternal Link This has links to ATO applications:
  • to register for an Australian business number (ABN)
  • to register for goods and services tax (GST)
  • to apply for a tax file number.

Phone

Phone us on:

• 13 28 66 for general business enquiries, for information about most small business tax matters, including
  • GST
  • ABN
  • pay as you go (PAYG) instalments
  • amounts withheld from wages
  • business deductions
  • lodging and paying activity statements
  • activity statement accounts
  • wine equalisation tax
  • luxury car tax
  • fringe benefits tax
  • matters for non-profit organisations
• 13 10 20 for superannuation enquiries, for information about
  • superannuation guarantee
  • choice of superannuation fund
  • superannuation co-contribution
• 13 28 61 for general personal tax enquiries, for information about individual income tax
• 1300 720 092 to order our publications.

Publications

For CGT events which happened in earlier years, see:

• Capital gains tax concessions for small business 2015-16
• Capital gains tax concessions for small business 2014-15
• Advanced guide to capital gains tax concessions for small business 2013-14
• Advanced guide to capital gains tax concessions for small business 2012-13
• Advanced guide to capital gains tax concessions for small business 2011-12
• Advanced guide to capital gains tax concessions for small business 2010-11
• Advanced guide to capital gains tax concessions for small business 2009-10
• Advanced guide to capital gains tax concessions for small business 2008-09
• Advanced guide to capital gains tax concessions for small business 2007-08
• Advanced guide to capital gains tax concessions for small business 2006-07
• Advanced guide to capital gains tax concessions for small business 2005-06

For more general information about:

• capital gains tax in general, see the Guide to capital gains tax 2017.
• market value or market valuation see Market valuation for tax purposes.

The following documents might also help you:

• Division 115 of the Income Tax Assessment Act 1997
• Guide to depreciating assets 2017 (NAT 1996)
• Taxation Ruling TR 2002/10 Income tax: capital gains tax: asset register
• Taxation Ruling TR 2015/4 Income Tax: CGT small business concessions: unpaid present entitlement and the maximum net asset value test
• 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?
• Taxation Determination TD 2006/65 Income tax: capital gains: small business concessions: can a share in a company or an interest in a trust qualify as an active asset under subsection 152-40(3) of the Income Tax Assessment Act 1997 if the company or trust owns interests in another entity that satisfies the '80% test'?
• Taxation Determination TD 2006/63 Income tax: capital gains: is a CGT asset that is leased by a taxpayer to a connected entity for use in the connected entity's business an active asset under section 152-40 of the Income Tax Assessment Act 1997?
• Taxation Determination TD 2006/78 Income tax: capital gains: are there any circumstances in which the premises used in a business of providing accommodation for reward may satisfy the active asset test in section 152-35 of the Income Tax Assessment Act 1997 notwithstanding the exclusion in paragraph 152-40(4)(e) of the Income Tax Assessment Act 1997 for assets whose main use is to derive rent?
• Taxation Determination TD 2006/71 Income tax: capital gains: small business concessions: is the part of a payment which is a small business 50% reduction amount a non-assessable part under CGT event E4 in section 104-70 of the Income Tax Assessment Act 1997?

Free webinars

• We run small business webinars (online seminars) on a range of topics, including GST, PAYG, activity statements and record keeping.
• To register for one of our small business webinar topics, including our Concessions for small business webinar, go to Small business webinars

Alternatively, you may also want to discuss your capital gains tax situation with your tax advisor.

Other services

If you do not speak English well and want to talk to a tax officer, phone the Translating and Interpreting Service (TIS) on 13 14 50 for help with your call.

If you are deaf or have a hearing or speech impairment, contact us through the National Relay Service (NRS). For more information, go to National Relay ServiceExternal Link.

This guide provides information about the capital gains tax (CGT) concessions available to small business.