Toolbox: Are your clients in the CGT concession ball park?

For planners with small business owner clients, the potential benefits available through additional capital gains tax (CGT) concessions are too generous to ignore.

This is so much more than just a tax issue. Financial planners with small business clients should at least have a practical understanding of the additional CGT concessions available to qualifying business owners on the sale of business (active) assets.

The relevant legislation has undergone many changes since it came into effect from September 21, 1999. The most recent change makes the CGT concessions more accessible to businesses operated through discretionary trusts. If a person can satisfy the many complex qualifying conditions, the potential concessions can make a significant positive impact on a person’s retirement position.

Small Business CGT Concessions (SBCGC)

There are four SBCGCs:

n The small business 15-year exemption provides a total CGT exemption if the business asset had been continually owned for at least 15 years and the relevant individual is 55 years or over and retiring, or is permanently incapacitated.

n The small business 50 per cent active asset reduction provides a 50 per cent capital gain reduction. A business owner can choose not to utilise this concession if they prefer, for example, to maximise the retirement exemption concession outlined below.

n The small business retirement exemption provides a capital gains exemption up to a lifetime limit of $500,000. If the recipient is under 55 years of age, the exempted amount must be paid into a superannuation fund as a preserved benefit in accordance with usual superannuation access rules. The exempted amount becomes a CGT exempt component and when taken as a lump sum, is tax-free to the extent it is within the recipient’s superannuation reasonable benefit limits (RBLs). Where the CGT exempt component is rolled over to commence an income stream, it is assessed as a countable amount for RBL purposes but is included in the tax-free deductible amount calculations of the income stream.

n The small business rollover provides deferral of the capital gain if a replacement asset is acquired within certain time frames.

The legislation includes a hierarchy of the concessions in order of their potential benefit to the small business owner.

The 15-year exemption is considered in priority to the other concessions. Where it applies, the capital gain is entirely disregarded so there is no need to consider any of the other concessions. Also, the entity (which includes an individual) disposing of the asset(s), unlike usual rules relating to capital losses, gets to retain any capital losses they may have.

This concession has specific provisions to ensure that when an entity, like a company, qualifies, the exempted amount is not trapped, but can be distributed to certain of its shareholders tax-free. If all the qualifying conditions would otherwise be satisfied under these provisions, they can also be used to pay out tax-free profits on pre-CGT assets to shareholders without the need to liquidate the company.

Where the 15-year exemption does not apply, the legislation requires the claiming of the ‘generally’ available 50 per cent CGT discount (that is, where the asset disposed by an individual or trust was owned for more than 12 months) before applying the remaining small business concessions.

If the conditions for more than one of the remaining SBCGCs are satisfied, each of the concessions can be applied to different parts of the capital gain. They are not mutually exclusive, but cumulative.

Basic qualifying conditions

All four SBCGCs share the same ‘basic’ conditions and, except for the small business 50 per cent active asset reduction, also have additional specific conditions (not outlined in this article) that need to be satisfied.

The initial two key basic conditions are the ‘active asset’ test and the ‘maximum $5 million net asset value’ test. If the CGT asset being disposed is a share in a company or an interest in a fixed trust (for example, units in a unit trust), there are two additional basic conditions:

1. The company or trust must have a ‘controlling individual’ and;

2. The disposer of the share or trust interest must be a controlling individual or their spouse (a CGT concession stakeholder).

Only once the above ‘basic’ conditions are satisfied is it relevant to move on to consider which concession(s) is/are being sought and (apart from the 50 per cent active asset reduction) the additional specific conditions that need to be satisfied for that concession to apply.

Is the small business owner client in the SBCGC ‘ball park’?

How can financial planners determine whether a client’s arrangements are in the ball park for these concessions?

Step 1

Ascertain who is disposing of the asset(s) and what is being disposed. For example, in the case of a business operated by a company, is it an individual disposing of their shares in the company or is it the actual business assets that are being disposed of by the company?

Where actual business assets are being disposed of, only two basic conditions are relevant (the active asset and $5 NAV tests).

Step 2

Where it is shares/trust interests that are disposed, two additional basic conditions must be satisfied. The company or trust must have at least one controlling individual and the disposer must be the controlling individual or their spouse.

Step 3

If the relevant basic conditions are satisfied, move on to ascertain the specific conditions required for the actual SBCGC being sought.

John Ciacciarelli is technical services manager of AMP Technical and Professional Services.