Understanding The Small Business CGT Concessions

Selling your business or a major asset can be a milestone achievement, but the real outcome depends heavily on how the sale is taxed. The Australian tax system provides small business owners with access to the small business Capital Gains Tax (CGT) concessions, which can reduce or even eliminate the tax payable on a capital gain.

Before the concessions can be applied, the taxpayer must first satisfy the relevant basic conditions. These include meeting either the $2 million aggregated turnover test or the $6 million net asset value test and demonstrating that the asset being sold is a business related ‘active asset’. These conditions form the gateway to the concessions and navigating them is not always straightforward.

Once those conditions are satisfied, there are four key concessions available:

1. The 15-year exemption
2. The 50% active asset reduction
3. The retirement exemption, and
4. The small business rollover.

While these concessions are extremely generous, there are some nuances within the legislation that can catch business owners off guard and can create unexpected outcomes if not carefully managed.

The ‘Control’ trap in the $6 Million Net Asset Value Test

To access these concessions you must satisfy the basic conditions, one of which is the $6 million net asset test. A common misunderstanding involves interests in entities you don’t fully own. If you control 40% or more of another entity (even if you don’t own 100%), the entire net assets of that entity are included in your calculation. This can unexpectedly push you over the $6 million threshold, even though you only own a portion of the business.

What can make things even trickier is the treatment of affiliates and connected entities (including your spouse and close family members). Their assets (or turnover) can be attributed to you if they act in concert with you or their interests are connected with yours. For example, if your spouse owns shares in a company, the whole value of that company could be counted in your $6 million threshold.

What you think should be a simple calculation can quite easily become a complex process and difficult to navigate.

Exempt assets and liabilities in the $6 Million Net Asset Value Test

Conversely the $6 million net asset value test does allow for the exclusion of specific assets. These include personal use assets such as your primary residence or a boat used solely for personal use. In addition, superannuation assets are also excluded from the test.

Conversely certain liabilities are also excluded from the calculation if they are not directly related to a specific asset or relate to an excluded asset.

Two-year payment rule for the 15-Year Exemption

When the 15-year exemption is applied by a company or trust, the exempt amount must be distributed to a CGT concession stakeholder within two years of the CGT event. This rule is often overlooked because business owners assume that since the gain itself is disregarded, there are no follow up obligations. However, failing to make the payment within this two-year window can cause the exemption to be denied and create a devastating tax problem.

This timing condition can create issues if the business is relying on contingent sales proceeds, vendor finance, or earn out arrangements where payments may not be received straight away. Careful planning is essential to ensure the exempt amount is distributed within the deadline.

Active Asset Definition

To qualify as an active asset, the asset must be considered to be an ‘active’ business asset. The concessions are designed to apply to business assets, however the definition of an ‘active asset’ can be surprisingly broad or restrictive. For example, a property that is leased to a related entity that operates a business will usually qualify. However, if you lease the same property to an unrelated business entity, its generally excluded. This subtle difference can result in completely different tax outcomes.

The Retirement Exemption

The retirement exemption allows you to disregard up to $500,000 of capital gains over your lifetime.

One of the biggest misconceptions is the name itself. Despite being called the ‘retirement exemption’, you do not actually need to retire to access it. Many business owners continue operating business ventures after claiming the retirement exemption.

Some of the requirements of the retirement exemption can be misinterpreted:

• If you are under 55, the exempt amount must be contributed directly into superannuation; if you are 55 or older, the funds can be retained personally.
• The $500,000 limit is a lifetime cap, not a per-transaction limit. Any prior use reduces the available balance.
• The $500,000 lifetime cap is applied after the 50% active asset reduction
• The $500,000 lifetime cap is per CGT concession stakeholder, so multiple caps can be applied to the same transaction depending on the ownership of the entity.
• If a company or trust claims the exemption, payments must be made to CGT concession stakeholders within a strict timeframe. Missing this deadline will cause the exemption to be denied.

Seek Advice
The small business CGT concessions are among the most valuable tax measures available, but they are also some of the more complex concessions. If you are planning on selling an asset it is important to seek advice to ensure that the complexities of the legislation don’t leave you with an unexpected tax bill.

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Disclaimer: This information is general in nature and should not be relied on as advice. It does not take into account the objectives, financial situation, or needs of any particular person. You need to consider your financial situation and needs and seek professional advice before making any decisions based on this information.