CGT relief options for small businesses
Many considerations come into play when a business owner is looking to dispose of business assets as part of their retirement planning. Matters that typically need to be considered include:
1) Managing any capital gains tax (CGT) resulting from the disposal of the business assets, and;
2) How to efficiently use the proceeds to help meet required income needs in retirement.
It’s when the small business CGT (SBCGT) relief in Division 152 of the income tax legislation is viewed as part of these retirement planning considerations that the significant value of the relief becomes clear.
That’s because any tax payable on the capital gains generated by the disposal of the business assets can be reduced, deferred or eliminated if the qualifying conditions are satisfied.
Additionally, depending on which SBCGT relief concession applies, the business owner may also potentially use all or part of the proceeds to make extra superannuation contributions using the lifetime SBCGT contribution cap.
These additional contributions increase the amount of accumulated superannuation business owners can use, once the usual superannuation condition of release rules are satisfied, to commence a tax-effective retirement income stream up to their pension transfer balance cap. This becomes especially important where, other than their main residence, the business owner’s wealth is tied up in their business – with only minimal amounts accumulated in superannuation.
Outlined below is a broad overview of the CGT relief available to qualifying business owners when they sell their qualifying business assets. The focus is on the required conditions that need to be satisfied in order to qualify for the four separate concessions that together make up the SBCGT relief.
THE FOUR SBCGT RELIEF CONCESSIONS
The four concessions that make up the SBCGT relief can be briefly summarised as follows:
1) Fifteen-year exemption: This exempts all the capital gain and, broadly, is applicable when disposing of a qualifying asset that had been owned continuously for at least 15 years prior to its disposal. Other specific conditions that need to be satisfied for this concession include the relevant business owner having to be age 55 or over at the time of the asset disposal, and the disposal having to occur in connection with the retirement of the business owner. If the 15-year exemption is not available, then the concessions below may be applicable.
2) Active asset reduction of 50%: This exempts 50% of the capital gain and applies in addition to, and after the application (where applicable), of the general CGT 50% discount.
3) Retirement exemption: This lifetime concession exempts up to $500,000 of otherwise assessable capital gain for each individual business owner. Despite its name, this concession does not actually require the relevant business owner to retire. However, if they are under-55, one of its specific conditions requires the business owner to make a superannuation contribution equal to the CGT exempt amount.
4) CGT roll-over relief: Provides deferral for at least two years of any assessable capital gain remaining after having applied the other concessions to the disposal.
QUALIFYING CONDITIONS
Before the disposer can access any of the SBCGT concessions there are some basic qualifying conditions that must first be satisfied.
In addition to these basic conditions, there are specific qualifying conditions that also apply to some of the concessions.
The critical starting point is to accordingly understand that the SBCGT concessions will not apply if the disposer fails any of the basic conditions.
TWO INITIAL BASIC CONDITIONS
There are two initial basic conditions that must always be satisfied. They are:
1) The ‘small business’ requirement, whereby the disposer must satisfy either the:
a) Under $2 million aggregated turnover test; or alternatively
b) The $6 million maximum net asset value (MNAV) test; and
2) The CGT asset must satisfy the active asset test.
It’s worth noting that certain assets are excluded from the MNAV test, these include, but are not limited to, the disposer’s main residence, superannuation, and assets used solely for personal use and enjoyment. The MNAV test is assessed immediately before the disposal of the business assets occurs.
ACTIVE ASSETS
For this purpose, a CGT asset is an active asset at a point in time if at that time it is owned by the disposer and:
- It is being used, or held ready for use, in the course of carrying on a business by the disposer; or
- It is used, or held ready for use, in the course of carrying on a business by the disposer’s affiliate, or by another entity that is connected with the disposer; or
- Where the asset is an intangible asset (e.g. goodwill), it is inherently connected with a business that is carried on by the disposer, an affiliate, or another entity that is connected with the disposer.
Despite this active asset definition, it’s also important to note that 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. In particular, an asset whose main use is to derive rent cannot be an active asset at that time, unless it was rented to an affiliate or connected entity for use in that related entity’s business.
Once it has been established that during its ownership by the disposer the asset was at some time an active asset, one then needs to also satisfy the minimum time period requirement in the active asset test.
A CGT asset generally satisfies this minimum time period requirement if:
- Where the asset was owned for 15 years or less by the disposer, the asset was an active asset for a total of at least half of the period it was owned; or
- Where the asset was owned for more than 15 years, the asset was an active asset of the disposer for at least 7.5 years.
It’s accordingly worth noting that for an asset to qualify as an active asset under this test, the asset does not have to necessarily be continuously active, or be active at the time of the CGT disposal event.
UTILISING THE SBCGT CONCESSIONS AND SUPERANNUATION
Notwithstanding the $1.6 million (indexed) superannuation pension transfer balance cap limit, using superannuation remains a widely accepted tax-effective way to fund an individual’s income needs in retirement.
By qualifying for the SBCGT concessions, small business owners can accordingly aim to get two sets of tax concessions on selling their business.
First, they can utilise the SBCGT concessions to reduce, eliminate or defer their CGT liability on the sale of their business assets. Secondly, they can use the CGT exempted amount, or in some cases the entire sale proceeds, to make additional superannuation contributions using the SBCGT contribution cap.
On subsequently meeting a qualifying superannuation condition of release, such as retirement, the contributions made using the SBCGT contribution cap, along with the person’s other accumulated superannuation, can then be used to create a tax effective superannuation retirement income stream within the $1.6 million pension transfer balance cap.
A small business owner looking to use the proceeds from the sale of business assets to increase their superannuation savings will also need to consider two other typical superannuation issues:
- Contribution acceptance rules; and
- Contribution caps.
- Eligibility to contribute to superannuation
- Amounts that are to be placed into a superannuation fund under the SBCGT concessions are treated as contributions and not as a rollover or transfer.
Where a business owner wishes to make SBCGT contributions, the usual voluntary superannuation contributions, including work test requirements generally apply.
This means a business owner can make SBCGT contributions up to the age of 67. However, from age 67, the business owner would need to first meet the work test (i.e. have worked 40 hours in 30 consecutive days in the relevant financial year), or alternatively be able to use the work test exemption rule for recent retirees.
Further, the fund could not accept a contribution made after 28 days after the end of the month where the business owner turns age 75, as at that age the only superannuation contributions that can generally be accepted are compulsory employer contributions.
SUPERANNUATION CONTRIBUTION CAPS AND SBCGT CONCESSIONS
Generally, super contributions will count towards a member’s contribution caps unless a specific exemption applies. Subject to the total superannuation balance limitations and the person’s age, the standard non-concessional contributions cap is currently $100,000 per annum or up to $300,000 utilising the bring forward rules.
Contributions made from certain amounts arising from the disposal of qualifying small business assets are exempt from the standard non-concessional contributions cap. They instead fall within the SBCGT contribution cap that provides an ability to contribute up to a lifetime maximum of currently $1.565 million (indexed) in addition to the standard contribution caps.
Importantly, not only is this cap effectively an addition to the standard non-concessional contributions cap, it applies to allow contributions even where the person already has a total superannuation balance at the start of the relevant financial year of $1.6 million or more.
Broadly, contributions allowed under the SBCGT contribution cap are:
Up to $500,000 of capital gains that qualify for the small business retirement exemption;
The capital proceeds from the disposal of assets that qualify for the small business 15-year exemption; and
The capital proceeds from the disposal of assets that would have qualified for the small business 15-year exemption, but for:
- No capital gain resulting from the disposal of the asset, i.e. the disposal has led to a capital loss;
- The asset was a pre-CGT asset; or
- The asset being disposed of before the required 15-year holding period because of the permanent incapacity of the person.
Where the disposer is an individual, to qualify for the CGT contribution cap, the contribution must generally be made to a superannuation fund on or before the later of the day the person is required to lodge their tax return for the year in which the CGT disposal event occurs, or within 30 days of the receipt of the proceeds by the individual.
Where a company or trust claims the SBCGT concessions, and subsequently makes payment within the required timeframes to a CGT concession stakeholder, a contribution must generally be made by the CGT concession stakeholder no later than 30 days after receiving the payment from the company or trust.
To take advantage of the SBCGT contribution cap, a member must also complete and forward an Australian Tax Office (ATO) approved CGT election cap form to their superannuation fund before or at the time that they make the contribution.
TAX ADVICE REQUIRED
The various rules associated with the SBCGT concessions are complex and eligibility needs to always be confirmed by a tax agent/accountant who has a good understanding of the various rules. Individuals and entities who use the SBCGT concessions should expect to have the exempted amount reviewed by the ATO.
John Ciacciarelli is technical strategy manager at AMP.
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