SUMMER 2022 Tax Bulletin
In This Issue:
Temporary Loss Carry Back Offset
Accessing the CGT Small Business Concession on the Sale of Shares
GST & Food Misclassification
At a high level, GST classifications of food and beverages seem straightforward:
- Food (is normally GST-free, but Taxable by exception);
- Beverages (are normally Taxable, but GST-free by exception).
However, the reality is that classifying food for GST purposes is not so straightforward. Not all food sales need to include GST and not all things we normally consider as “food” are treated as GST free food by the GST Act.
Where food is sold and consumed affects its GST status. Food sales are not GST-free where it is served in, or falls into one of the following categories: restaurants, catered or eat-in food served at any venue associated with leisure, sport or entertainment such as a sports ground – a golf course – a gym – a racecourse.
GST is also applied at certain stages in the food supply chain.
For example, a plant nursery sells lettuce seeds to a farmer. The seeds are taxable as they are plants under cultivation, and people cannot eat them yet. The plant nursery charges GST to the farmer and pays that to the ATO. The farmer can claim a GST credit for the GST that they paid in the purchase price of the seeds. The farmer grows the lettuce and sells it to a vegetable wholesaler, without charging GST. The lettuce is GST-free as it is now a food for human consumption.
The GST classification of food supplies is a prominent compliance risk which has been the subject of long-standing discussions between the ATO and Industry. The ATO has published a Detailed Food List – which details of the GST status of major food and beverage product lines and has recently established a GST Food Misclassification Cluster to design a treatment strategy to provide certainty for impacted taxpayers.
The ATO has indicated that its early-stage analysis shows a concerning level of non-compliance across the food industry and this is an area that will be the subject of further compliance activity by the ATO.
Temporary Loss Carry Back Offset
The temporary loss carry back (LCB) offset for companies is unique in its features as it allows a current year loss to be carried back to an earlier year to obtain a refund of taxes paid in that earlier year. As the name suggests, the LCB is temporary and currently only allows losses in the 2020, 2021 and 2022 years to be carried back as far as the 2019 year. It is proposed that the LCB will be extended to losses incurred in the 2023 year, with the enabling legislation for this extension currently referred to a Senate committee for further consideration.
While the LCB applies to losses incurred in the 2020 year, the actual offset for 2020 losses could only be claimed in the relevant company’s 2021 income tax return. That is why LCB refunds have only recently been generated through the lodgement of 2021 company income tax returns.
A number of disclosures are required in the 2021 tax return for the LCB refund to be generated – there are 13 disclosures in total. It is firstly necessary to identify the year of loss (i.e. 2020 or 2021) and which year it is carried back to (2021 loss to 2020 or 2019, and 2020 loss to 2019). It is also necessary to disclose the tax rate in the year of the loss. This is an important aspect of the LCB rules, as the applicable tax rate to apply to the losses incurred to work out the offset is the tax rate in the loss year rather than earlier year.
Consider the example below:
Loss Co Pty Ltd had taxable income of $100,000 in the 2020 year and paid tax of $27,500 (at the tax rate of 27.5%) for that year. Loss Co incurred a tax loss of $100,000 in the 2021 year and decided to carry this loss back to the 2020 year. Loss Co works out the LCB offset to be $26,000, which is the loss of $100,000 multiplied by the tax rate of 26% in the 2021 year. Although Loss Co paid tax of $27,500 on its income in 2020, it is only able to get a refund of $26,000 through the LCB offset.
It is also important to note that the LCB offset cannot exceed the franking account balance at the end of the loss year. The capping of the offset to the franking account balance ensures that the company does not ‘over-claim’ taxes essentially passed on to shareholders in the form of franking credits in the past.
The temporary LCB offset is a generous measure that allows companies to obtain refunds of taxes paid as far back as the 2019 year. To get the actual refund however, the 2021 company income tax return will need to be lodged which has a number of disclosures that must be completed.
Accessing the CGT Small Business Concession on the Sale of Shares
The CGT Small Business Concessions (CGT Concessions) can enable a business owner to fully exempt up to $2 million of capital gains from tax, when coupled with the CGT 50% Discount. It is therefore a valuable concession that business owners should take advice on when they are considering the sale of their business.
For business operated in companies, it is often the sale of shares in that business company that triggers the capital gain rather than the sale of the business assets.
When shares are sold, to access the CGT Concessions there are additional conditions that have to be satisfied that do not apply where the business assets are sold.
These three additional basic conditions that must be satisfied are as follows:
- if the shareholder does not satisfy the $6 million Maximum Net Asset Value (MNAV) test, then they must have carried on a business just before the CGT event to personally qualify as a Small Business Entity (SBE);
- the Company in which they hold shares must either be a CGT SBE or satisfy the MNAV test (applying a modified rule about when entities are ‘connected with’ other entities); and
- the share or interest must satisfy a modified active asset test that looks through shares in companies and interests in trusts to the activities and assets of the underlying entities.
1.1 Condition Relating to the Shareholder
The first condition requires that the shareholder is carrying on a business just before the CGT event if the MNAV test is not satisfied. The measure is intended to prevent shareholders from seeking to commence a business after the shares are sold but before the end of the relevant income year so as to qualify as a CGT SBE.
However, if a taxpayer satisfies the MNAV test in their own right (including connected entities), this requirement does not apply to the taxpayer.
1.2 Condition Relating to the Company
The second condition requires that the Company must either be a CGT SBE or it satisfies the MNAV test in relation to the capital gain. The measure is intended to prevent the concessions being available for interests in entities that are carrying on a business that is not a small business as it has both substantial aggregate turnover or has significant net assets.
In applying the second condition, the following assumptions must be made:
- the only CGT assets or annual turnovers considered are those of the object entity, each affiliate of the object entity and each entity controlled by the object entity;
- an entity is taken to control another entity if it has an interest of 20% or more, rather than 40% or more.
The first assumption ensures that the CGT assets or turnover of entities that may control the object entity are disregarded. This is particularly relevant where the owners of the Company are unrelated.
On the other hand, the second assumption applies so that more entities could potentially be included as connected entities for the purpose of the test, except those entities that may control the object entity by virtue of the first assumption.
This condition has caused considerable angst amongst shareholders because it effectively limits the CGT Concessions on the sale of shares to shareholders in a company that itself is worth less than $6 million.
Prior to these changes being introduced from February 2018, shareholders holding between 20% and 40% of the shares in a company only needed to consider their % shareholding interest value in their own MNAV test. From February 2018, if the Company is valued at more than $6 million, no shareholder can access the CGT Concessions.
1.3 The Modified Active Asset Test
This final additional condition is arguably the most complicated requirement among the additional basic conditions. Under the modified active asset test, the 80% Active Asset test is modified to require at least 80% of the sum of the:
- total market value of the assets of the Company (disregarding any shares in companies or interests in trusts); and
- the total market value of the assets of any entity in which the Company has a small business participation percentage of greater than zero (later entity) multiplied by that percentage, must relate to assets that are active assets, or cash/financial instruments that are inherently connected with a business carried on by the object entity or a later entity.
In other words, the test requires a ‘look-through’ approach to any share or interest in any ‘later entity’ in applying the 80% test. Previously, if the shares or interest satisfied the 80% test, the shares would be treated as active assets and 100% of the shares or interest value would be counted towards to the value of the active assets of the interposed entity.
As always, if you are considering the sale of shares in their Company, it is important you receive advice before you sell to ensure you fully understand whether you are able to use the CGT Concessions.
Happy New Year and all the best in 2022!
