CGT: Property and shares

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Real estate |  Concessions |  Shares

Capital gains tax can seem a bit like hot chips on a pub menu – served with most meals whether you want them or not. For small businesses, considerations that pertain to CGT seem to spring up with all manner of what would otherwise be quite unremarkable events – selling an item (assets like a building or property) or part of the business, buying out a partner, extending a shop or factory, changing from a partnership to a company, getting paid compensation for destroyed assets – the list goes on.

Business owners need to keep CGT in the back of their mind, as it could apply to levy income tax on transactions or activities that may not generally be obviously exposed to tax (which is another good reason to keep an accountant or tax professional in the loop).

Real estate
In general, the sale or transfer of real estate is subject to the same CGT rules as other assets, and this includes your business premises, vacant land and investment properties. The sale of your main residential home would be tax-exempt unless you have generated income from there (say, from a home business), in which case the CGT rules would still apply to the income-producing portion. There are limited circumstances where exemption may be retained notwithstanding that the home has been income producing.

Land is definitely a CGT asset, and any capital gain made on that land when sold needs to be accounted for – and will be expected by the Tax Office. The exception is where the sale is already assessable under another part of the tax law – for example, if it is ordinary income to a land developer – because the CGT rules take a backseat to the rest of the tax law.

In the case of a building, which is generally also subject to CGT, the removable assets inside, such as carpets, the fridge, heating or cooling systems, are taken to be separate assets for CGT purposes even if they are sold along with the building. The sales of these separate assets may individually either be subject to CGT themselves or to another relevant tax regime, such as the depreciation provisions (again, everything else takes precedence over the CGT rules).

So when a CGT 'event' occurs (the most common one being upon sale or disposal) the capital gain or loss needs to be worked out for each asset concerned or balancing adjustment for depreciating items – another reason why using a tax expert is a good idea.

Concessions
The small business CGT concessions (see here for more details) contain four CGT-related tax concessions, which can be used by a business that passes for a 'small business entity'. Qualifying limits for this include having no more than $2 million annual turnover and coming under a $6 million net asset value threshold.

Under the small business CGT concessions, capital gains made on the sale of active business assets for eligible concerns are either exempt from income tax, qualify for 'discounts' (which basically means that a proportion of the gain is tax-free), or CGT 'rollover relief' to defer the tax liability on the capital gain to a future year (the last is available where a replacement asset is bought within two years of the disposal of the original asset).

The four CGT concessions are:

• a CGT exemption where an asset is held for at least 15 years
• a 50% 'active asset' reduction
• a retirement exemption
• rollover relief for disposal of some assets (effectively deferring CGT).

Whether an asset is 'active' or not is generally understood to be that the asset must be used in the business. Land and buildings are obvious examples, but if an asset is intangible, such as goodwill, it needs to be inherently connected with the carrying on of the business. Passively held shares will not usually be active assets.

Strict eligibility conditions are in place for each of the concessions, however the value of accessing these concessions is obvious – the 15 year exemption alone can reduce your tax bill relating to the sale of that asset to zero. And even if the straight-out exemptions don't apply to a particular sale, you are generally able to use more than one concession, as well as the standard CGT concessions available, which may completely eradicate the tax payable for that transaction.

It should be mentioned however that the Tax Office will be on the lookout for arrangements that are entered into merely to chase a tax advantage. In such cases, the Tax Office can remove the tax concession or exemption that you got for that transaction, and you end up paying tax on it (see the end of this article on anti-avoidance provisions of 'part IVA'). With CGT, records are crucial (true of anything to do with tax), so an informed approach taken with a longer term view will take the headache out of CGT considerations. Keep a record of every act, transaction or event that may be relevant, and consider using an asset register to help.

Shares
Shares in a company or units in a unit trust are treated the same way as any other CGT asset. Capital gains and losses upon a sale of the shares or units will need to be accounted for under the CGT rules. Even if your loss of ownership of shares in a company is involuntary (as with takeovers or mergers), a 'CGT event' will have taken place and you will be subject to tax on that transaction.

But as this is a complex area of tax law, it will generally be better to get good advice from your tax professional or accountant.

You should also be aware that the taxman's antenna is up over one tactic used in sharemarket transactions that aim to exploit the CGT system to minimise tax. Dubbed 'wash sale' arrangements, the strategy involves disposing of a CGT asset (in this case, a share) that is valued at less than when bought and that therefore generates a capital loss upon the sale, and the loss used to reduce the capital gains made on the sale of other assets.

So far so good, but the clincher for the Tax Office is where the same taxpayer then buys back the same holding of shares in the same company to effectively end up in the same investment position with the exception of having been able to offset their capital gains (and therefore reduce their tax bill). An example used by the Tax Office had one taxpayer dispose of and re-acquire shares within 24 hours.

Wash sales have even been the subject of a taxpayer alert from the Tax Office, which mentions the possible application of anti-avoidance measures over these arrangements. The Tax Office has indicated that not only will the reduction to tax be disallowed (by not recognising the capital loss so that it can't be offset against the capital gains) but that penalties will apply if a taxpayer is caught out exploiting the CGT regime in this way. The Commissioner has also threatened to take action against third party entities that 'contravene the promoter penalty laws' by enticing innocent taxpayers into such artifical schemes.

Related story: Share investor or trader? Beware the tax traps

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