Non Commercial Losses: profits test and change of business ownership

Can previous income year 'profits' from a business activity be used by an individual taxpayer for the purposes of the 'profits test' in section 35-35 of the Income Tax Assessment Act 1997 (ITAA 1997), even though they were made during income years in which a different taxpayer carried on that activity?

Yes. Previous income year 'profits' can be taken into account for the purpose of the 'profits test' in section 35-35 of the ITAA 1997, notwithstanding the change in ownership of the business activity, provided there is a sufficient continuity of identity with the business activity.

The business activity is a primary production business. The previous owner of the activity was a family trust.

The taxpayer purchased the activity from the family trust part way through the current income year, and is now the new owner.

The change of ownership has not materially altered how the activity is carried on as a business.

The taxpayer satisfies the income requirement in subsection 35-10(2E).

The family trust made 'profits' in the four previous income years, prior to the change of ownership, in the sense referred to in section 35-35 of the ITAA 1997, that is, the sum of the deductions attributable to the activity was less than the assessable income from it for each of those four previous income years.

The taxpayer made a 'loss' from the business activity for the current income year.

Division 35 of the ITAA 1997 will apply to defer a non-commercial loss from a business activity carried on by a taxpayer who is an individual, unless: • the taxpayer satisfies the income requirement in subsection 35-10(2E) and their business activity satisfies one of the four tests in Division 35; or • the Commissioner has exercised the discretion in section 35-55 for the activity; or • the individual comes within the Exception to Division 35, contained in subsection 35-10(4).

(refer subsection 35-10(1) of the ITAA 1997)

One of the four tests is the Profits test in section 35-35 of the ITAA 1997, which involves determining whether an activity has produced a tax profit in three out of the past five years. The five year period includes the current income year in which the loss has arisen. If a tax profit has resulted from the relevant business activity in three out of the last five income years (including the current year), the rule in subsection 35-10(2) of the ITAA 1997 does not apply to the individual for that income year (subsection 35-35(1) of the ITAA 1997).

Section 35-35 of the ITAA 1997 examines the results of the business activity, and is not directly concerned in this respect with who is the owner of the activity. A change of ownership in a particular year will not prevent 'profits' from a business activity, made under a previous owner, from being taken into account for the purpose of the 'profits test'. However, this is provided the change in the ownership or the terms and conditions of a sale of the business do not result in a loss of continuity of identity of the business activity.