Small Business Capital Gains Tax Many small business owners find themselves nearing the point of retirement with most of their assets tied up in their business. These business owners are faced with the challenge of getting the value out of their business to help them fund their retirement expenses. In many circumstances, this means selling the business, or the business assets, to raise cash. As we know, when assets are sold, capital gains tax is usually payable. Many small business assets are likely to have been held for a significant period of time, and as such, will have grown significantly in value. This, under normal circumstances, would result in a large capital gains tax bill. The government is acutely aware that small business owners need their business assets to help them fund their retirement. So rather than taxing business owners heavily on the sale of their assets, there are special small business CGT relief rules designed to achieve this. Small business requirements To be able to use the small business CGT concessions, you must be able to satisfy specific requirements. Firstly, you must satisfy the following basic conditions: Active assets test Maximum net asset value test or the small business entity test Significant individual test if the asset being disposed of is a share in a company or an interest in a trust. Level 1, 115 Cambridge Street, West Leederville WA 6007 Phone: (08) 9322 6600
Small business basic conditions Active asset Maximum net asset value Small business entity Significant individual A CGT asset is an active asset, if at that time: you own the asset (it doesn t matter whether it is tangible or intangible), and you use it, or hold it ready for use, in the course of carrying on a business, or it is used, or held ready for use, in the course of carrying on a business by your affiliate, or by another entity that is connected with you, or if the asset is an intangible asset (e.g. goodwill or the benefit of a restrictive covenant) you own it and it is inherently connected with a business that you, your affiliate, or another entity that is connected with you carries on. The test also requires the CGT asset to be an active asset for: 7 ½ years, if owned for more than 15 years, or Half of the period of ownership if owned for 15 years or less. You satisfy the maximum net asset value test if, just before the CGT event, the sum of the following amounts does not exceed $6 million: the net value of your CGT assets, and the net value of the CGT assets of any entities connected with you, and the net value of the CGT assets of any of your affiliates or entities connected with your affiliates (not counting any assets already counted). You are a small business entity if you are carrying on a business in the current tax year and you carried on a business in the previous tax year and your aggregated turnover was less than $2,000,000, and/or your aggregated turnover in the current tax year is likely to be less than $2,000,000. You are also a small business entity for the current tax year if you are carrying on a business in the current tax year and your aggregated turnover at the end of the tax year is less than $2,000,000. Aggregated turnover includes annual turnover of any businesses that are connected with you or that are your affiliates. In order to satisfy this basic condition you need to satisfy either the $6,000,000 maximum net asset value test or the $2,000,000 small business entity test. You do not need to satisfy both tests. An entity satisfies the significant individual test as long as it has at least one significant individual just before the CGT event. An individual is a significant individual in a company or trust at a time if, at that time, the individual has a small business participation percentage in the company or trust of at least 20 per cent. As the name suggests, a significant individual must be a person, i.e. a company or a trust cannot be a significant individual. www.marmic.com.au I 08 9322 6600 January 2014 I Marshall Michael Pty Ltd I 2
Small business concessions There are four small business concessions that can apply: 15-year exemption 50 per cent reduction Retirement exemption Rollover relief If an asset qualifies for one or more of the small business concessions, the capital gain generated by the sale of the asset can be reduced, deferred or sometimes eliminated completely. 15-year exemption The 15-year exemption is the most powerful of the four concessions. This is because if the eligibility conditions are met, the whole of the capital gain can be disregarded and no capital gains tax will be payable. This is regardless of the value of the capital gain. In addition, if a company is using the 15-year CGT exemption, the exempt money can be distributed out of the company or trust tax free into the hands of specific people, namely CGT concession stakeholders. There are different requirements you need to meet depending on whether you want an individual or a company or trust to be able to obtain the exemption. Regardless of whether it is an individual or a company or trust, the basic conditions listed above must be met. The specific requirements for each entity type are discussed below. 15-year exemption Individuals You must have continuously owned the asset for the 15-year period ending just before the CGT event. Companies and trusts If the asset is a share in a company or an interest in a trust, the company or trust must have had a significant individual for a total of at least 15 years during the time which you owned the asset. There is no requirement for the 15 years to be continuous or that the significant individual is the same person over the period. If you are age 55 or over, the event occurs in connection with your retirement or you are permanently incapacitated at the time of the CGT event. A company or trust can disregard any capital gain from a CGT event if all of the conditions are met: The company or trust continuously owned the asset for the 15-year period ending just before the CGT event. The company or trust had a significant individual for a total of at least 15 years during which it owned the asset. There is no requirement for the 15 years to be continuous or that the significant individual is the same person over the period. The significant individual of the company or trust, just before the CGT event was either: Age 55 or over and the event occurs in connection with the individual s retirement; or Permanently incapacitated at the time of the CGT event. If the entity using the small business 15-year exemption is a company or trust, the exemption also becomes a mode of distributing the exempted amount out of the company or trust and into the hands of any shareholders, that are CGT concession stakeholders, tax free. www.marmic.com.au I 08 9322 6600 January 2014 I Marshall Michael Pty Ltd I 3
Do I need to contribute the money into superannuation to receive this exemption? Under the 15-year exemption, there is no need for the proceeds to be contributed to super. If you want to contribute the proceeds to super, you will need to be eligible to contribute to super based on super laws. If I choose to contribute to super, what type of contribution will it be? The contribution will be classified as a non-concessional contribution. However, a special CGT contributions cap applies to ensure that business owners are able to get money into super from the sale of their business assets. This is called the CGT cap. The CGT cap is an amount of up to $1,255,000 (indexed annually), where the proceeds are from the sale of certain small business assets: Capital proceeds from the disposal of assets that qualify for the 15-year exemption, and Capital proceeds from the disposal of assets that would have qualified for the 15-year exemption, except that: the disposal led to a capital loss or no gain the asset was a pre-cgt asset the asset was disposed of before the required 15-year holding period because the person was permanently incapacitated. 50 per cent reduction This concession provides handy relief for some small business owners. Unlike the 15-year exemption, which allows you to disregard the entire capital gain, the 50 per cent reduction only allows you to reduce the assessable amount of your capital gain. The amount of the reduction is 50 per cent. Of course, before the 50 per cent reduction can be used, the basic conditions must be met. Once the basic conditions are met, individuals and companies or trusts can simply apply this concession to reduce the assessable capital gain by 50 per cent. 50 per cent reduction Individuals The benefit to an individual is that the assessable portion of the capital gain is halved. If the individual has held the asset for greater than 12 months, the general 50 per cent CGT discount applies first Companies and trusts The benefit of this concession is that the taxpayer (i.e. the company or trust) can reduce the assessable portion of the capital gain by 50 per cent. However, the company or trust will need to find a way of distributing the reduced capital gain to a shareholder or a unit holder/beneficiary. If the individual has held the asset for greater than 12 months, the general 50 per cent CGT discount applies first Unlike the small business 15-year exemption, this concession is not, in itself, a method to distribute the discounted capital gain out of a company or trust and into the hands of the CGT concession stakeholder tax free. The company or trust will need to work out the most tax-effective way to distribute the gains. www.marmic.com.au I 08 9322 6600 January 2014 I Marshall Michael Pty Ltd I 4
January 2014 Example of the 50 per cent reduction concession: Martha owns her business in her own name. She is looking to sell her business that she owned for nine years. Martha satisfies the basic conditions and qualifies to use the small business CGT concessions. As Martha has only owned the business for nine years, she cannot access the 15-year exemption. Martha sells the business and has a capital gain of $400,000. Because she holds the asset in her own name and held it for more than 12 months, the general CGT discount applies, allowing her to reduce the gain by 50 per cent. In addition, Martha is also able to access the small business concessions so she can reduce this gain by a further 50 per cent. Gain from sale of asset $400,000 Less 50% discount as asset is held for longer than 12 months Less 50% small business reduction -50% = $200,000 Gain reduced to $200,000-50% = $100,000 Gain reduced to $100,000 Using the provisions, Martha has reduced her assessable gain from $400,000 to $100,000. This is a reduction of 75 per cent. Retirement exemption This concession can be used by an individual, a company or a trust to eliminate a capital gain on the disposal of a qualifying small business asset. Like all of the other concessions, there are specific conditions you must meet to be able to take advantage of this tax relief. This condition is similar to the 15-year exemption in that it can be used as a mode of distributing the CGT exempt amount out of a company or trust and into the hands of a CGT concession stakeholder tax free. Is retirement required? The name of this exemption is slightly misleading. This is because there is no requirement for the individual/cgt concession stakeholder to retire in order to use this exemption. This is in contrast to the 15-year exemption where an individual or a significant individual must be at least 55 years old and the CGT event must happen in connection with their retirement (or permanent incapacity). Retirement exemption Individuals If you are an individual you can choose to disregard all or part of a capital gain if: the basic conditions are met, and you are under 55 years old just before you make the choice, you must contribute the CGT exempt amount to a complying super fund or a retirement savings account, and the contribution is made by the later of when you made the choice and when you received the proceeds. www.marmic.com.au I 08 9322 6600 January 2014 I Marshall Michael Pty Ltd I 5
January 2014 Companies and trusts A company or trust can also choose to disregard all or part of a capital gain if: the basic conditions are met, and the company or trust satisfies the significant individual test, and specific company or trust conditions are satisfied. The specific company and trust conditions dictate that if the company or trust receives capital proceeds from the CGT event, the company or trust must make a payment to at least one of its CGT concession stakeholders. There are further requirements relating to this condition about when the payment has to be made, when the payment must be made to a superannuation fund and how much it can be to ensure that the concession applies. This information should be obtained from your accountant. Do I need to contribute the money into superannuation to receive this exemption? Where the small business retirement exemption is used, you only need to contribute the CGT exempt amount to super if: You are under 55 years of age just before making the choice to use this exemption; or A company or trust is making a payment of a CGT exempt amount to a CGT concession stakeholder, who is under 55 years of age just before the payment is made. If I contribute to super, what type of contribution will it be? The contribution will be classified as a non-concessional contribution. However, a special CGT contributions cap applies to ensure that business owners are able to get money into super from the sale of their business assets. This is called the CGT cap. The CGT cap is an amount of up to $1,255,000 (indexed annually), where the proceeds are from the sale of certain small business assets. Up to $500,000 of capital gains that qualify for the small business retirement exemption can be included in your lifetime CGT cap. Rollover relief Under the rollover relief, you can defer paying capital gains tax on the sale of your business asset if you are intending to buy a replacement asset. The replacement asset must be purchased within two years of the sale of the original asset. This is a complex area and is specifically tax related. An accountant has the skills and professional ability to help you with this specific tax advice. Which order should the concessions be used in? This fact sheet outlines the four small business CGT concessions that legislation provides for the disposal of active assets. small business 15-year exemption small business 50 per cent reduction www.marmic.com.au I 08 9322 6600 January 2014 I Marshall Michael Pty Ltd I 6
January 2014 small business retirement exemption, and small business rollover relief. If the small business 15-year exemption already applies to a capital gain, there is no need for any further small business CGT concessions or other CGT discounts or capital loss offsets to apply, because such a gain is entirely disregarded. If the small business 15-year exemption cannot be utilised, the order in which the concessions are used may affect the amount of tax you or your company or trust have to pay and the amount that can be contributed to super using the CGT cap. It is therefore crucial that you receive taxation advice on how the concessions should be applied. Small business CGT relief a complex area seek advice from your accountant Small business capital gains tax concessions are a complex area of legislation. It is therefore essential that you seek expert advice to ensure you meet the conditions to use them, and then apply them in the most appropriate way for your situation. All issues relating to these concessions must be confirmed with your accountant. All CGT events discussed in this financial plan are estimates only. You will need to seek specific tax advice from your accountant prior to implementing the recommendations. www.marmic.com.au I 08 9322 6600 January 2014 I Marshall Michael Pty Ltd I 7