Small Business Entity and Capital Gains Tax Concessions
To be a Small Business Entity (SBE), the entity will carry on a business in the current income year with an aggregated annual turnover of less than $2 million in either one of the two previous income years or in the current income year. If the entity did not carry on a business in the previous year, then the entity must pass the $2m turnover test in the current year to be eligible.
It is very important to understand the definition of aggregated turnover as it is a decisive factor for the SBE. The turnover is GST exclusive for GST registered entities. Also, only the ordinary income will be taken into account, which means the statutory income such as capital gains will not be counted. The aggregated turnover refers to income from your ‘connected’ entities and your ‘affiliates’. A ‘connected’ entity basically means you have more than 40% of control in another entity. An ‘affiliate’ basically means an entity will follow your decisions. For more details, please check the ATO website.
The ATO requires the eligibility for the SBE to be reviewed each year. If the entity only carries out a business part of the year, we should make an assumption that the business was carried out for the whole year and calculate the aggregated turnover accordingly.
There are some benefits to being a SBE and one is the Capital Gains Tax (CGT) concessions. The beauty of SBE CGT concessions is to possibly reduce capital gains from the sale of business assets to nil, or at least postpone the claim of capital gains for two years. It is very useful for tax planning.
Here are the four CGT concessions:
(a) 15 year exception
If your business has continuously owned an asset for 15 years and you are aged 55 years or over and are retiring or are permanently incapacitated, you won’t have an assessable capital gain when you sell the active asset. – from the ATO website
If this exception can be applied, then please forget the remaining CGT concessions, as the whole capital gain is exempt.
(b) 50% active asset reduction
You can reduce the capital gain on an active asset by 50%. This is in addition to the 50% CGT discount if you have owned the asset for 12 months or more. – from the ATO website
Please note, both companies and non-residents do not have 50% CGT discount like other entities. This is the only chance for a company to get 50% CGT discount.
This concession applies to an active asset (please refer to reference 1 for more details). Shares in a company or interests in a trust can only be an active asset if they pass 80% test or CGT concession stakeholder test (please refer to reference 2 for more details). Another interesting example is, a premise will be an active asset if it is used in a business or leased to other related entities, but it will be a passive asset if it is leased to an unrelated entity.
Taxpayers can choose not to apply the 50% discount. Companies and non-discretionary trusts may prefer other concessions for the following reasons. If a 50% discount applies, a company may not have enough franking credits to make those distributions fully franked. Tax-deferred distributions from non-discretionary trusts will erode the cost base.
(c) Retirement exemption
Capital gains from the sale of active assets are exempt up to a lifetime limit of $500,000. If you are under 55 years of age, the exempt amount must be paid into a complying super fund or a retirement savings account. – from the ATO website
If the taxpayer is under 55 years, the proceeds from the capital gains tax event must be put into their superannuation. For those aged 55 and over, they can keep the proceeds from the sale. Please note: $500,000 cap applies to EACH individual. Also please note: this concession can be used with 50% discount.
(d) Replacement asset rollover
If you sell an active asset, the small business rollover allows you to defer all or part of a capital gain for two years or longer, if you acquire a replacement asset or you incur expenditure on making capital improvements to an existing asset. – from the ATO website
50% active asset reduction applies before the replacement asset rollover concession, unless the entity chooses not to apply 50% active asset reduction.
This concession will be highly recommended, especially when a client is considering a replacement asset. If the client purchases a replacement asset within two years, the capital gains will be calculated when the replacement asset is sold.
To learn more about how concessions can apply to your small business, complete our our ‘Contact Us’ form on our website, or give us a call on 1300 250 122.
Margaret Jin – Accountant
Disclaimer: This article contains general information. Before you make any financial or investment decision you should seek professional advice to take into account your individual objectives, financial situation and individual needs.