If small business owners pass the $2 million sales turnover test or the $6 million net assets test, it means they can access all of the Capital Gains Tax concessions. For businesses owned and operated through a company or trust, the owners must also pass the significant individual test.
This test is passed when an individual has at least a 20 per cent business participation percentage in the company or trust.
For companies that only have ordinary shares, a person must have at least 20 per cent of the issued capital of the company to qualify as a significant individual.
Where a company has different types of shares an individual must hold at least 20 per cent of the shares with an entitlement to:
• exercise voting power,
• receive dividend payments, or
• receive capital distributions.
Where all three different types of shares are owned the percentage held for each class must be at least 20 per cent.
This same test applies where the shares in a company are held either by another company or trust. In these cases that entity must also pass the 20 per cent participation percentage test.
A spouse of a person who is classed as a significant individual is also entitled to the small business CGT concessions if they have an ownership percentage in the company of greater than zero.
Where a business is operated through a trust, or that trust passes the participation test by owning shares in a company, a person passes the significant individual test if they receive at least 20 per cent of the income or capital distributed in the year the capital gain is made.
In March this year, legislation relating to the small business CGT concessions was amended. Prior to this where a trust made a loss, and there was no distribution of income or capital in the year the capital gain was made, small business CGT concessions could not be claimed.
Now when this occurs the small business participation percentage, in the year that the capital gain is made, is calculated on the basis of the distributions made in the last income year in which the trustee made a distribution.
If the 15 year exemption is claimed the beneficiaries must have received at least 20 per cent of the income and capital distributions for all of the 15 years that distributions were made. The tax benefit of meeting this test and qualifying for the exemption is illustrated by the following example.
Ian and Agatha Fleming operated a nursery through a family trust for the past 20 years. In the 2011 financial year the business made a loss.
During the 2012 year Ian and Agatha decide to retire and sell the farm owned by the trust and make a $2 million capital gain. Another tax loss is made in the 2012 year and no distribution of income is made.
For all of the previous financial years prior to the 2011 year, all profits made by the trust were distributed to Ian or Agatha. As a result Ian and Agatha pass the 20 per cent participation rate test, are classed as significant individuals, and entitled to claim the 15 year exemption and pay no tax on the $2 million.
Questions on small business tax and other issues can be emailed to firstname.lastname@example.org.