Income tax: various income tax issues relating to the horse industry; including whether racing, training and breeding activities (carried out as stand-alone activities or in combination) amount to the carrying on of a business

This draft Ruling identifies, and provides guidance on, certain important income tax issues relating to activities undertaken in the horse industry with a focus on racing, training and breeding activities.

The draft Ruling does not attempt a comprehensive examination of every income tax issue that may potentially be relevant in this area. Rather, it attempts to highlight certain key income tax issues that frequently arise in practice and to provide the Commissioner's views on them.

The draft Ruling considers the question of whether horse-related activities amount to the carrying on of a business. In considering this question, racing, training or breeding activities may be carried out as stand-alone activities or in combination. While observing that whether a business is carried on is always a question of fact in any particular case, this draft Ruling addresses this issue and related issues under the following parts: • Part A of the draft Ruling provides some general guidance on whether horse-related activities amount to the carrying on of a business. Part A also outlines some of the key implications that will arise if the activities constitute a business and those that will arise if they do not; • Part B of the draft Ruling provides further guidance on whether horse racing activities can, on their own, constitute the carrying on of a business. Part B also deals with situations when horse racing activities can be considered an integral part of the carrying on of a business of horse training and/or horse breeding; • Part C of the draft Ruling considers certain specific matters relating to horse breeding activities; and • Part D of the draft Ruling makes some general observations about horse training activities.

The draft Ruling does not deal specifically with the following situations: • cases where horse-related activities are carried out in combination with non-horse related activities, whether as a business or not. However, some of the general discussion in the draft Ruling may still assist in resolving income tax issues in this area; • leasing arrangements relating to the breeding of horses or syndicate arrangements generally; • foal share arrangements; • isolated profit-making transactions involving horses. Issues in relation to these more specialised transactions and arrangements are currently being considered with a view to providing further guidance, which may include guidance by way of taxation determinations or a public ruling; and • cases where a horse is used in the course of deriving assessable income otherwise than in a business or comparable commercial activity. For example, the use of a horse by a stockman to earn personal exertion income.

The class of entities to which this draft Ruling applies are taxpayers whose activities include any of the following, whether or not as a business activity: • the racing of horses; • the training of horses; or • the breeding of horses.

The relevant provisions dealt with in this draft Ruling are: • section 6-5 of the Income Tax Assessment Act 1997 (ITAA 1997); [1] • section 8-1; • Division 35; • Division 40; • Division 70; • Parts 3-1 and 3-3; • subsection 995-1(1); and • Subdivision H of Division 3 of Part III of the Income Tax Assessment Act 1936 (ITAA 1936).

Relevant horse-related activities can comprise the racing of horses, the training of horses, the breeding of horses or any combination of these activities.

Whether these activities amount to the carrying on of a business (or more than one business) in any particular case is always a question of fact. Each case turns on its own particular circumstances.

The courts have, however, identified certain indicators that are relevant in determining whether a taxpayer's activities amount to the carrying on of a business. These indicators are outlined in Taxation Ruling TR 97/11: am I carrying on a primary production business? [2] and include: • whether the activity has a significant commercial purpose or character; this indicator comprises many aspects of the other indicators set out below; • whether the taxpayer has more than just an intention to engage in business or to commence in the future; an intention alone without commencement of activities is insufficient; • whether the taxpayer has a purpose of profit as well as a prospect of profit from the activity; • whether there is repetition and regularity of the activity; • whether the activity is of the same kind and carried out in a similar manner to that of the ordinary trade in that line of business; • whether the activity is planned, organised and carried on in a businesslike manner such that it is directed at making a profit; • the size, scale and permanency of the activity; and • whether the activity is better described as a hobby, a form of recreation or a sporting activity.

In deciding whether a business is being carried on, regard should be had to all of the above indicators and no single indicator will be determinative in any particular case.

The most important point is that a determination of whether a taxpayer's activities amount to the carrying on of a business is based on the overall impression gained after examining the activities as a whole and the intention of the taxpayer undertaking it. If a taxpayer's activities do not amount to the carrying on of a business in one income year that will not prevent them doing so in a later income year. That change may also occur before profits begin to be made.

If a taxpayer's horse-related activities do not amount to the carrying on of a business, the following three important consequences follow: • the gross proceeds derived from the activities will not be assessable income under section 6-5; • the non-capital outlays and other expenses will not be deductible under section 8-1; and • the horses will not be trading stock of any business of the taxpayer. They (or interests in them) may be held as depreciating assets for Division 40 purposes but no deductions for decline in value will usually be available to the taxpayer in relation to them. CGT event K7 [3] may need to be considered if a horse is disposed of or is otherwise subject to a balancing adjustment event.

If the taxpayer's horse-related activities do amount to the carrying on of a business, the following two important consequences follow: • the gross proceeds derived from the activities will be assessable income under section 6-5; and • the non-capital outlays and other expenses will be deductible under section 8-1 subject to the tests set out in that section.

The ITAA 1997 contains rules relating to CGT assets, depreciating assets and trading stock. These are referred to below as 'asset regimes'.

A horse (or an interest in a horse) is a CGT asset regardless of whether or not it is also a depreciating asset or trading stock.

A horse (or an interest in a horse) will be a taxpayer's trading stock only if it is live stock used in the taxpayer's primary production business (for example, horse breeding business), or if the taxpayer is in the business of actually buying and selling horses (that is, as a trader in horses). As trading stock, a horse (or an interest in a horse) cannot be a depreciating asset. [4] Although it remains a CGT asset, any capital gain or capital loss, if a CGT event happens to it as a CGT asset, is disregarded. [5]

Unless the horse (or an interest in it) is trading stock of a taxpayer's business, it will be both a CGT asset and a depreciating asset. That is, this will be the case whether or not the horse (or an interest in it) is used in a business.

Whether a particular asset regime applies to a taxpayer is summarised in Table 1 below. Table 1 Horse (or an interest in the horse) is not used in carrying on business Horse (or an interest in the horse) is not live stock of primary production business and not traded Horse (or an interest in the horse) is live stock of primary production business or traded Asset regime Is the horse (or an interest in the horse) the taxpayer's trading stock? No. No. Yes. Is the horse (or an interest in the horse) the taxpayer's depreciating asset? Yes. Yes. No. Is the horse (or an interest in the horse) the taxpayer's CGT asset? Yes. Yes. Yes.

The taxpayer can deduct an amount for the decline in value of a horse (or an interest in it) under Division 40 if it (or an interest in it) is used for a taxable purpose. (A taxable purpose in this context is the purpose of producing assessable income.)

The balancing adjustment provisions in Division 40 will also apply if the horse (or an interest in it) is both used for a taxable purpose and is subject to a balancing adjustment event (for example, if it is sold).

Importantly, where there is a balancing adjustment event for the horse (or an interest in it), the capital gains tax (CGT) provisions will not apply unless the horse (or an interest in it) is used for a purpose other than a taxable purpose. [6]

Where this occurs, CGT event K7 applies. Any capital gain or loss worked out under CGT event K7 is calculated using the concepts of cost and termination value under Division 40 and not those found in the CGT provisions (that is, cost base and capital proceeds).

However, any CGT event K7 capital gain or capital loss may be disregarded if the horse (or an interest in it) is a personal use asset. A personal use asset is, in broad terms, one that is used or kept mainly for personal use or enjoyment. [7] In broad terms, a capital loss from a personal use asset is disregarded [8] and a capital gain is disregarded if the asset cost $10,000 or less. [9]

Whether the depreciating asset regime or the CGT asset regime applies to a taxpayer when a balancing adjustment event occurs for a horse (or an interest in it) is summarised in Table 2 below. Table 2 Use of the asset Asset regime applying Where the use of the asset is wholly for a taxable purpose Depreciating asset regime. Where the use of the asset is wholly for a purpose other than a taxable purpose CGT regime using depreciating asset regime concepts. Where the use of the asset is both for a taxable purpose and for a purpose other than a taxable purpose Both the depreciating asset regime and the CGT regime using depreciating asset regime concepts.

Table 3 sets out in more detail the application and interaction of the depreciating asset and CGT asset regimes - that is, where the taxpayer's horse (or an interest in it) is not trading stock. Table 3 Horse (or an interest in the horse) of taxpayer is not used in carrying on business Horse (or an interest in the horse) of taxpayer is used in carrying on business otherwise than as trading stock Depreciating assets (Division 40) If a horse is co-owned, how is the interest treated? It is treated under section 40-35 as if the interest were itself the underlying asset, that is, as a separate depreciating asset. It is treated under section 40-35 as if the interest were itself the underlying asset, that is, as a separate depreciating asset. Is there a deduction for the decline in value of each horse or interest in each horse held? No. Yes but only to the extent the horse or interest in the horse is used or installed ready for use for a taxable purpose. May any amount be included in assessable income or deducted under section 40-285 if a balancing adjustment event happens for the horse or an interest in the horse? No. Yes. Capital gains and losses (Parts 3-1 and 3-3) Does a CGT event happen on disposal of a horse (or an interest in a horse)? (see notes 1 and 2 below) Yes. Yes. Is CGT event K7 the relevant event? (see notes 3 and 4 below) Yes. Yes but only to the extent (if any) the horse (or an interest in the horse) was used or installed ready for use other than for a taxable purpose. Is each horse (or an interest in it) a personal use asset under section 108-20 such that capital losses are disregarded under section 108-20 and capital gains are disregarded if the horse (or interest in it) cost $10,000 or less? Yes. An asset that is not used for business or profit-making purposes is regarded as used or kept mainly for personal use and enjoyment. No. Note 1 : A capital gain or capital loss made from a CGT event other than CGT event K7 is disregarded - see section 118-24. Note 2 : A capital gain or capital loss that is made from a CGT event is disregarded if the horse is trading stock at the time of the CGT event - see section 118-25. Note 3 : CGT event K7 happens if a balancing adjustment event occurs for a depreciating asset held by the taxpayer and, at some time the asset was held, it was used or installed ready for use for a purpose other than a taxable purpose. Note 4 : A capital gain or capital loss under CGT event K7 is calculated using the concepts of cost and termination value under Division 40 and not those found in the CGT provisions (cost base and capital proceeds). The cost of a depreciating asset consists of two elements and is worked out under Subdivision 40-C. Termination value of a depreciating asset has the meaning given under section 40-300.

Division 35 [10] applies to an individual who is carrying on a 'non-commercial' business activity either as an individual or through a general law partnership and the deductions attributable to that business activity exceed the assessable income in that income year from that business activity. The Division could apply to a business involving horse-related activities.

As previously discussed, whether a taxpayer's activities of racing horses may, of themselves, amount to the carrying on of a business is a question of fact, having regard to all the relevant indicia previously set out in paragraphs 7 to 11 of this draft Ruling.

In the Commissioner's view, it would be a rare case indeed where the racing of horses as a stand-alone activity would amount to the carrying on of a business. In almost all cases, it is considered that one or more of the following significant non-business features would be present: • the significant element of chance meaning that whether or not a profit is made will depend very largely on considerations other than system and organisation of the taxpayer; • a very limited prospect of making a profit from the activity even if there exists a genuine intention to make one; and • the pursuit (albeit vigorous in many cases) of a hobby, recreational pursuit or pastime.

Although the Commissioner considers that only in a very rare case would the racing of horses amount to a business in its own right, if a taxpayer conducts racing activities as an integral part of a horse training or breeding business, then the horse racing activities would constitute activities in the carrying on of that business.

To be considered an integral part of the other business, the racing activities must be inherently connected with it and be consistent with the furtherance of that business activity.

Again, it will be a question of fact whether there is a business in the first place, and whether the horse racing activities are an integral part of it (as opposed to a separate activity).

Some of the key implications that follow from concluding that the racing of horses is not carried on as a business, or is carried on as a business or as an integral part of a horse training business, or as an integral part of horse breeding business are set out in Table 4 below. Table 4 Racing of horses - not carried on as a business Racing of horses carried on as a business or as an integral part of horse training business Racing of horses as an integral part of horse breeding business Treatment of some common receipts and outlays Receipts from racing of horses Not assessable income under section 6-5. Assessable income under section 6-5. Assessable income under section 6-5. Non-capital outlays for racing of horses Not deductible under section 8-1. Deductible under section 8-1. [11] Deductible under section 8-1. [12] Rearing, maintenance and development costs Not deductible under section 8-1. Deductible under section 8-1. [13] Deductible under section 8-1. [14] Outlay for purchase of a horse Not deductible under section 8-1 - cost of a depreciating asset. Not deductible under section 8-1 - cost of a depreciating asset. Deductible under section 8-1 - cost of trading stock. Receipt for the sale of a horse Not assessable under section 6-5. However, included in the termination value of a depreciating asset and CGT event K7 will apply. Not assessable income under section 6-5. However, included in the termination value of a depreciating asset and CGT event K7 may apply if there has been use other than for a taxable purpose. Assessable income under section 6-5.

The income tax consequences of the breeding of horses depend on whether or not the activity amounts to the carrying on of a business. This will be a question of fact in any particular case.

The general indicators that are already discussed at paragraphs 7 to 11 of this draft Ruling and summarised at paragraph 18 of TR 97/11 will be relevant, as will certain specific industry factors.

Specific industry factors would include: • the quality and number of horses; • whether the taxpayer is regularly selling stock to the general public, for example at yearling sales, to generate a cash flow; • whether the mares are being serviced regularly; • whether the taxpayer is using their stallion rights; and • whether the taxpayer maintains geldings, barren female horses or other horses which are inappropriate for breeding - excluding horses that are being raced.

If the breeding of horses is not carried on as a business by a taxpayer, the gross proceeds will not be assessable income under section 6-5, nor will the expenses be deductible under section 8-1. There can be no amount deducted for decline in value under Division 40.

A horse held by the taxpayer will be a depreciating asset. CGT event K7 will need to be considered if the horse is disposed of or is otherwise subject to a balancing adjustment event.

If the breeding of horses is carried on as a business, it will be a primary production business for the purposes of the ITAA 1997 as it involves 'maintaining animals for the purpose of selling them or their bodily produce (including natural increase)'. [15] The income from a horse breeding business will be assessable primary production income under subsection 392-80(2).

The horses are live stock and trading stock [16] for income tax purposes if they are used in such a business.

In cases where horses are co-owned and are used in such a business, the Commissioner adopts the view that an interest in the horse will come within the definition of trading stock. [17]

Expenditure incurred on stallion service fees for services that extend beyond the end of the income year will be subject to Subdivision H of Division 3 of Part III of the ITAA 1936.

The training of horses on its own does not raise any particular issues for consideration in this draft Ruling if the taxpayer only trains other people's horses. If that amounts to a business, the gross proceeds derived from the activities will be assessable under section 6-5 and the non-capital outlays and other expenses will be deductible under section 8-1 subject to the tests in that section.

If it is not a business, the gross proceeds will not be assessable under section 6-5 and the non-capital outlays and other expenses will not be deductible under section 8-1.

Issues may arise where there is a training business and it is associated with racing or breeding activities. The question then may be whether those other activities can be regarded as an integral part of the training business. That will depend on the facts in any particular case.

If, in addition to training horses, a taxpayer has an ownership interest in those horses, those interests will be depreciating assets for the purposes of Division 40. Deductions may be available under that Division and there may be implications if a balancing adjustment event occurs for the horse. If there is a use of the horse other than for a taxable purpose, CGT event K7 may need to be considered.

Taxation Ruling TR 93/26, other than paragraphs 1, 57 to 73 and 78, dealing with stallion syndicate arrangements, is withdrawn on and from the date of issue of this draft Ruling.

It is proposed that when the final Ruling is issued, the Ruling will apply to years commencing both before and after its date of issue. However, the Ruling does not apply to taxpayers to the extent that it conflicts with the terms of settlement of a dispute agreed to before the date of issue of the Ruling (see paragraphs 75 and 76 of Taxation Ruling TR 2006/10).

The courts have identified a number of indicators that are relevant in determining whether a taxpayer's activities amount to the carrying on of a business.

In Ferguson v. FC of T , [18] the Full Federal Court stated: There are many elements to be considered. The nature of the activities, particularly whether they have the purpose of profit-making, may be important. However, an immediate purpose of profit-making in a particular income year does not appear to be essential. Certainly it may be held a person is carrying on business notwithstanding his profit is small or even where he is making a loss. Repetition and regularity of the activities is also important. However, every business has to begin, and even isolated activities may in the circumstances be held to be the commencement of carrying on business. Again, organisation of activities in a businesslike manner, the keeping of books, records and the use of system may all serve to indicate that a business is being carried on. The fact that concurrently with the activities in question, the taxpayer carries on the practice of a profession or another business, does not preclude a finding that his additional activities constitute the carrying on of a business. The volume of his operations and the amount of capital employed by him may be significant. However, if what he is doing is more properly described as the pursuit of a hobby or recreation or an addition to a sport, he will not be held to be carrying on a business, even though his operations are fairly substantial. [19]

Further, in Stone v. FC of T , [20] the Full Federal Court stated: Whether a person is carrying on a business will depend upon a number of factors and no single factor will be determinative in a particular case. Thus, it will be relevant to determine whether a relevant activity is carried on in a businesslike way and in accordance with commercial principles. If there is a system in the activity, coupled with repetition and continuity, that will be indicative of a business. An important fact is whether the relevant activity has a purpose of profit making. However, the fact that the activity does not actually produce a profit is not decisive. Indeed, even where it is not expected to derive a profit, an activity may nevertheless be properly characterised as the carrying on of a business. [21]

Since the question of whether a taxpayer's activities amount to the carrying on of a business depends on a number of indicators with no single indicator being determinative, all of these indicators need to be considered in determining if the racing, training or breeding of horses (or a combination of one or more of them) by a taxpayer amounts to the carrying on of a business.

A taxpayer's assessable income includes income according to ordinary concepts and such income is called ordinary income. [22] A substantial body of case law [23] has outlined the view of the courts on the type of income that is income according to ordinary concepts. This view is that income according to ordinary concepts generally arises from three sources, namely personal services, property or business activities.

The amounts derived by a taxpayer from the racing, training or breeding of horses, that is not carried on as a business by a taxpayer, is not derived from personal services, [24] property or business activities. Consequently, these amounts are not income according to ordinary concepts and are not included in the taxpayer's assessable income under section 6-5.

A loss or outgoing is not deductible under section 8-1 if it is not incurred in gaining or producing assessable income or necessarily incurred in carrying on a business for that purpose. [25]

Consequently, the losses or outgoings incurred by a taxpayer in a horse-related activity that is not incurred in gaining or producing assessable income or necessarily incurred in carrying on a business for that purpose (including as an integral part of another business) is not deductible under section 8-1.

Where the horse-related activities are not carried on as a business by a taxpayer, the horses are not held for sale or exchange in the ordinary course of a business nor are they live stock. Consequently, these horses are not trading stock. [26] [27]

A horse is a depreciating asset because it is an asset that has a limited effective life and can reasonably be expected to decline in value over the time it is used. [28] This is so notwithstanding a horse may hold its value or even appreciate in value for a certain period of time.

A taxpayer can deduct an amount equal to the decline in value for an income year of a depreciating asset that they held [29] for any time during the year. [30] Subsection 40-25(2), with the exception of low-value pools and certain cars, reduces the deduction for the decline in value of a depreciating asset to the extent that the asset is used, or installed ready for use, for a purpose other than a taxable purpose. [31]

As the use of horses for racing, training or breeding other than in the carrying on of a business by a taxpayer is wholly for a purpose other than a taxable purpose, the amount the taxpayer can deduct for the decline in value of the horse under subsection 40-25(1) will be reduced to nil.

A balancing adjustment amount arises under section 40-285 if a balancing adjustment event, [32] such as the disposal of a horse, occurs for a depreciating asset the taxpayer held and: • whose decline in value the taxpayer worked out under Subdivision 40-B; or • whose decline in value the taxpayer would have worked out under that Subdivision if the taxpayer had used the asset.

A balancing adjustment amount is included in the taxpayer's assessable income to the extent that the asset's termination value [33] is more than its adjustable value [34] just before the balancing adjustment event occurred. [35] A balancing adjustment amount is allowed as a deduction to the extent that the asset's termination value is less than its adjustable value just before the balancing adjustment event occurred. [36] This amount is included in assessable income or is deductible for the income year in which the balancing adjustment event occurred.

Subsection 40-290(1) reduces the balancing adjustment amount worked out under section 40-285 if the taxpayer's deductions for the decline in value of the depreciating asset have been reduced under section 40-25. As the use of the horses for racing, training or breeding other than in the carrying on of a business by a taxpayer is wholly for a purpose other than a taxable purpose, the taxpayer's deductions for the decline in value of the depreciating asset will be reduced under subsection 40-25(1) to nil.

Consequently, subsection 40-290(1) will reduce the balancing adjustment amount worked out under section 40-285 to nil. As a result, there is no balancing adjustment amount to be included in the taxpayer's assessable income or no amount that can be deducted by the taxpayer under section 40-285.

Subsection 108-5(1) defines a CGT asset as any kind of property or a legal or equitable right that is not property. Consequently, a horse is a CGT asset.

Subsection 118-24(1) disregards a capital gain or loss a taxpayer makes from a CGT event that is also a balancing adjustment event that happens to a depreciating asset whose decline in value was worked out under Division 40. However, such a gain or loss is not disregarded if it is from CGT event J2 or CGT event K7 or the depreciating asset is one for which the taxpayer or another taxpayer has deducted or can deduct amounts under Subdivision 40-F or 40-G. [37]

CGT event K7 happens if a balancing adjustment event occurs for a depreciating asset held by the taxpayer, and at some time the asset was held, it was used or installed ready for use for a purpose other than a taxable purpose. [38]

Where the horse-related activities are not carried on as a business by a taxpayer, the use of those horses is wholly for a purpose other than a taxable purpose. Consequently, CGT event K7 [39] happens if a balancing adjustment event occurs for the horse.

Where CGT event K7 happens, a taxpayer makes a capital gain to the extent that the asset's termination value [40] is more than its cost. [41] [42] Similarly, a taxpayer makes a capital loss to the extent that the asset's cost is more than its termination value. [43]

However, a capital gain made from a CGT event happening to a personal use asset [44] is disregarded if it is also a depreciating asset with its first element of cost [45] being $10,000 or less. [46]

A horse that is not used in a business or as part of an isolated profit-making transaction is used or kept mainly for personal use or enjoyment. Consequently, it will be a personal use asset. [47] As each of them is also a depreciating asset, any capital gain made from CGT event K7 happening to each horse will be disregarded if the first element of the cost of that horse is $10,000 or less.

Further, a capital loss made from a personal use asset is disregarded in working out a taxpayer's net capital gain or net capital loss for an income year. [48] Consequently, where the racing of horses is not carried on as a business by a taxpayer or as an integral part of another of their businesses, any capital loss from a CGT event happening to each horse will be disregarded in working out a taxpayer's net capital gain or net capital loss for an income year.

In Martin v. FCT , [49] the Full High Court stated: The definition of income from personal exertion includes the proceeds of a business carried on by the taxpayer, but the pursuit of a pastime, however vigorous the pursuit may be, does not usually amount to carrying on a business. The onus, if the case is one in which onus assumes any importance, is on the appellant to satisfy the Court that the extent to which he indulged in betting and racing and breeding racehorses was not so considerable and systematic and organised that it could be said to exceed the activities of a keen follower of the turf and amount to the carrying on of a business. [50]

Consequently, to be a stand-alone business, the racing of horses must be planned and carried on in a businesslike manner and be so considerable, systematic and organised as to exceed the activities of a keen follower of horse racing.

In Case E22 , [51] the Taxation Board of Review No. 2 stated: From observation and general knowledge, racing of horses is usually indulged in by owners as a hobby or pastime or for the sake of interest in spite of the fact that owners are anxious for their horses to win and want the money which the winning stakes provide. [52]

Further, in Case M72 , [53] Member Harrowell said: Horseracing fits more easily, in my opinion, into the recreational category as it possesses what I would term 'anti business' characteristics. [54]

Further, in observing that the activity of the racing of horses fits more easily into the recreational category because of its 'anti business' characteristics Member Harrowell said: Its income is based on casual profits in the form of winnings, a fast horse is given extra weight to slow it down, in a race it may be subject to interference at the start and during the race and can be mishandled by its jockey, and but for the occasional dead heat, there is only one winner. The horse itself is subject to ills, strains and injuries as are all living things. None of these 'anti business' characteristics preclude horseracing from being a business activity but their inevitable presence would hardly create an enthusiastic reception by the investing public to a prospectus of a company formed for the purpose of racing horses. [55]

In Shepherd v. Federal Commissioner of Taxation , [56] the Court stated: The common reason why betting winnings were not regarded as 'profit or gain' in Graham v. Green (1925) 2 K.B. 37, or 'income' in Martin's case is that in that case there was no organisation of the activity towards the end of making a profit. In that sense, such gains as arose in the course of the activity had a significant element of chance, and there was no system, or not sufficient system, in relation to the chances involved as to lead to the conclusion that a system for profit making had been devised. There is a similar element of chance in relation to winning prize money from the racing of horses. Owner competes against owner, and the chance of one owner's horse winning is dependent to an extent on considerations as to which no system or organisation would usually apply, for example the form of the various horses and the weather conditions. Skill is involved, in bringing a horse to its peak and in the selection of riders; but skill which is displayed in a pastime, as the passage quoted from the judgement of Rowlatt J [in Graham v Green ] shows, is not decisive of the question as to whether a business is being carried on, and may not in many cases be even relevant to that question. [57]

The decisions of the Board of Review, the Tribunal and the Courts strongly point to the conclusion that the racing of horses conducted as a separate activity by a taxpayer would rarely amount to the carrying on of a business.

The reasons for reaching this conclusion include the low probability of profit, the reliance upon chance and the dominant characterisation of the activity as a hobby or pastime. Further, the element of chance in relation to winning prize money from racing of horses will in most cases preclude the taxpayer from being able to establish that it is the system and organisation of the activity which is directed to making a profit.

Whether a taxpayer's racing of horses amounts to a stand-alone business will be a question of fact. To overcome the 'anti business characteristics' described above, the taxpayer would need to demonstrate that: • the size and extent of the activity is such that the activity is being conducted with a clear intention of making a profit; • there is system and organisation which is consistent with a business (including the maintenance of records, activities directed towards improving quality of horses, planned programs of racing and training together with clear business objectives); and • there is a more than reasonable expectation that the activity will be commercially viable within a timeframe consistent with the industry standards.

The racing of horses may not amount to the carrying on of a stand-alone business, but it may be an integral part of, say, a horse training and/or horse breeding business carried on by the taxpayer. [58]

To be considered an integral part of the other business, the racing activities must be inherently connected to the other business activity and be consistent with the furtherance of it. This will be a question of fact in each case.

In Case 54/96 , [59] the Tribunal found that the taxpayer was carrying on a business of horse racing and breeding. Evidence was given in that case that the taxpayer raced their horses to be able to prove the quality of their breeding stock. Another example would be where a horse training business was being carried on and horses were raced in the conduct of that business to demonstrate the quality of the training programmes used and to encourage others racing horses to have them trained at the taxpayer's facilities.

The consequences if a taxpayer's racing of horses is a stand-alone business, or one carried on as an integral part of a horse training business, are discussed below. The consequences if the horse racing activities are an integral part of a horse breeding business are covered briefly in Part C.

If the racing of horses is a business activity as described above, any amounts derived from it are ordinary income and assessable to the taxpayer under section 6-5.

The costs of maintaining those horses, which are non-capital outlays, are deductible under section 8-1 where all requirements of that section are met.

Live stock does not include animals used as beasts of burden or working beasts in a business other than primary production. [60] The horses are not live stock because they are working beasts and the business is not a primary production business. [61] Consequently, these horses are not trading stock. [62] [63]

A taxpayer can deduct an amount equal to the decline in value for an income year of a depreciating asset that they held for any time during the year. [64] Subsection 40-25(2), with the exception of low-value pools and certain cars, reduces the deduction for the decline in value of a depreciating asset to the extent that the asset is used, or installed ready for use, for a purpose other than a taxable purpose. [65]

A depreciating asset starts to decline in value from when its start time occurs. [66] The start time is when the taxpayer first uses it or has it installed ready for use for any purpose. [67] The start time for a horse will be when it is born.

The cost of a depreciating asset is worked out under Subdivision 40-C. The acquisition cost of a horse is taken into account in working out the amounts that the taxpayer can deduct for the decline in value of that horse under Division 40.

The taxpayer can deduct an amount for the decline in value of those horses. However, it is only the taxpayer who holds [68] a depreciating asset who can deduct an amount for the decline in value of the depreciating asset. Where the taxpayer is the owner or legal owner of the horse, they will be the holder of the horse under item 10 of the table in section 40-40. Where the horse is a partnership asset, the partnership will hold the horse under item 7 of the table in section 40-40 rather than any particular partner. In this context, the term 'partnership asset' takes its common law meaning. That is, it refers to an asset of a partnership that is used for the purpose of the business carried on by the partnership.

The term 'partnership asset' is not defined under taxation legislation. The common law meaning of 'partnership asset' does not extend to assets that are merely co-owned even if their co-ownership and their employment for the purpose of receiving income jointly may be enough to satisfy the expanded definition of a partnership for income tax purposes.

For depreciating assets that are co-owned but are not partnership assets, section 40-35 applies to the asset as if the taxpayer's interest in the asset is the relevant asset for the purposes of Division 40. This means that each co-owner must treat their depreciating asset (their interest in the underlying asset) in accordance with their own tax profile.

A balancing adjustment amount arises under section 40-285 if a balancing adjustment event [69] occurs for a depreciating asset the taxpayer held and: • whose decline in value the taxpayer worked out under Subdivision 40-B; or • whose decline in value the taxpayer would have worked out under that Subdivision if the taxpayer had used the asset.

The decline in value of a horse is worked out under Subdivision 40-B. Consequently, a balancing adjustment amount arises under section 40-285.

A balancing adjustment amount is included in the taxpayer's assessable income to the extent that the asset's termination value [70] is more than its adjustable value [71] just before the balancing adjustment event occurred. [72] A balancing adjustment amount is allowed as a deduction to the extent that the asset's termination value is less than its adjustable value just before the balancing adjustment event occurred. [73] This amount is included in assessable income or deducted for the income year in which the balancing adjustment event occurred.

Subsection 40-290(1) reduces the balancing adjustment amount worked out under section 40-285 if the taxpayer's deductions for the decline in value of the depreciating asset have been reduced under section 40-25. Where the horses are used solely as an integral part of a business carried on by the taxpayer, the use of those horses is wholly for a taxable purpose.

Consequently, the taxpayer's deductions for the decline in value of the horses will not be reduced under subsection 40-25(1). Furthermore, subsection 40-290(1) will not reduce the balancing adjustment amount worked out under section 40-285. As a result, there is a balancing adjustment amount to be included in the taxpayer's assessable income or an amount that can be deducted by the taxpayer under section 40-285 providing that there is a difference between the termination value and the adjustable value.

Subsection 118-24(1) disregards a capital gain or loss a taxpayer makes from a CGT event that is also a balancing adjustment event that happens to a depreciating asset whose decline in value was worked out under Division 40. However, such a gain or loss is not disregarded if it is from CGT event J2 or CGT event K7 or the depreciating asset is one for which the taxpayer or another taxpayer has deducted or can deduct amounts under Subdivision 40-F or 40-G. [74]

CGT event K7 happens if a balancing adjustment event occurs for a depreciating asset held by the taxpayer and, at some time the asset was held, it was used or installed ready for use for a purpose other than a taxable purpose. [75]

Where the horses are used solely in a business activity carried on by the taxpayer, the use of those horses is wholly for a taxable purpose. Consequently, CGT event K7 does not happen if a balancing adjustment event occurs for the horse. Therefore, subsection 118-24(1) applies.

Consequently, any capital gain or loss made on the happening of a CGT event is disregarded.

Where a taxpayer is an individual or an individual carrying on a business in a general law partnership, Division 35 will apply to every income year in which that individual taxpayer carries on a relevant 'business activity'. [76] The business activity in this case is the racing of horses, or the training of the horses with racing an integral part of that activity.

The general rule in section 35-10 is that a loss from the business activity is not incurred in a particular income year unless: • in each income year the individual's business activity meets one of four tests; [77] • the individual comes within the exception in subsection 35-10(4); [78] or • the individual is covered by an exercise of the Commissioner's discretion in relation to that business activity. [79]

Where an individual has a loss from a primary production business that they are carrying on, there is an exception in subsection 35-10(4) which means that the deferral of the loss will not apply in relation to that business activity where the total of their assessable income from sources unrelated to that business activity (excluding any net capital gain) is less than $40,000. [80]

The question of whether the breeding of horses is carried on as a business is a question of fact.

In addition, having regard to industry specific factors, the general indicators, summarised at paragraph 18 of TR 97/11, are used to determine whether the breeding of horses is being carried on as a business. [81] As previously noted in paragraphs 29 to 31, horse racing activities may be carried on as an integral part of a horse breeding business.

As carrying on a business of breeding of horses involves maintaining animals for the purpose of selling them or their bodily produce (including natural increase), it is carrying on a primary production business. [82]

Where the breeding of horses is carried on as a business by a taxpayer, the income from that business is considered to be ordinary income and therefore assessable under section 6-5. This ordinary income will include any proceeds from the use of a horse as trading stock. Such proceeds will include the sale of that horse and any prize money from the racing of that horse where the racing takes place as an integral part of the horse breeding business.

The income from a horse breeding business is also considered to be assessable primary production income under subsection 392-80(2). This is because the income will be derived from or will result from the carrying on of a primary production business. Therefore, the income will be subject to long-term averaging under Division 392.

A loss or outgoing, that is not of a capital, private or domestic nature, is deductible under section 8-1 if it is incurred in gaining or producing assessable income or is necessarily incurred in carrying on a business for the purposes of gaining or producing assessable income. This would include costs associated with racing activities where they were integral to the breeding business.

Where the breeding of horses is carried on as a business by a taxpayer, the costs of the maintenance and the development of the horses that are non-capital outlays [83] are deductible under section 8-1. This is because these costs are necessarily incurred in carrying on the breeding business for the purposes of gaining or producing assessable income and are not of a capital, private or domestic nature.

The definition of 'trading stock' in section 70-10 includes: (a) anything produced, manufactured or acquired that is held for purposes of manufacture, sale or exchange in the ordinary course of a business; and (b) live stock.

'Live stock' is defined in subsection 995-1(1). The definition of 'live stock' does not expand on what is included within its bounds but rather specifies that beasts of burden or working beasts will only be considered live stock if used in a business of primary production. By inference, the definition includes all animals used in a business of primary production.

In Federal Commissioner of Taxation v. Wade [84] ( Wade ), the High Court stated: There is a definition of livestock which, by inference, makes it clear that all animals are to be included in the case of a business of primary production. [85]

Consequently, as horses used in a breeding business are used in a business of primary production, they are live stock.

As horses in a breeding business are live stock, they are trading stock. [86] As a result, the purchase and sale of live stock will always be on revenue account regardless of how the live stock are actually used in the business. This was made clear in Wade where dairy cattle were considered trading stock, even though it was the milk rather than the cattle that the taxpayer actually traded in.

An outgoing that the taxpayer incurs in connection with acquiring an item of trading stock is not an outgoing of capital or capital in nature. [87] This means that paragraph 8-1(2)(a) does not prevent the outgoing of acquiring the trading stock from being deducted under section 8-1. [88] Section 70-15 determines the income year in which the taxpayer can deduct, under section 8-1, an outgoing incurred in connection with acquiring the trading stock.

Therefore, where the breeding of horses is carried on as a business by a taxpayer, the purchase price of horses that are trading stock of that business is deductible under section 8-1 and the income year in which that purchase price is deductible is determined by section 70-15.

The assessable income of a taxpayer includes any excess of the value of trading stock at the end of the income year [89] over the value at the start of the income year. [90] [91] A taxpayer can deduct an amount that is the excess of the value of trading stock at the start of the income year over the value at the end of the income year. [92]

However, instead of valuing trading stock at the end of the income year under the general rules set out in section 70-45, an election can be made to determine the value of that trading stock under section 70-60 where the horse is: • held for breeding; • acquired under a contract; [93] and • at least three years old. [94]

The natural increase of the taxpayer's live stock cannot be valued under section 70-60 because they are not acquired under a contract.

The value under section 70-60 for female horses 12 years or over is $1. [95] The value under section 70-60 for any other horse is the excess of the horse opening value [96] over the horse reduction amount. [97] [98]

Where a taxpayer stops holding a horse as trading stock but still owns the horse: • the horse stops being trading stock; • the horse becomes a depreciating asset; • the taxpayer is treated as selling the horse at its cost; • the taxpayer is treated as having bought the horse for that cost which is relevant in working out the horse's cost for capital allowances purposes [99] and capital gains tax purposes; [100] and • that cost represents the proceeds of sale of trading stock and therefore is assessable income. [101]

An example of a situation in paragraph 124 of this draft Ruling is when a taxpayer stops using a horse that was used for breeding purposes and starts to use it solely for private purposes.

The definition of 'live stock' in subsection 995-1(1) is silent as to whether a fractional interest in a horse is live stock. However, it does not specifically exclude a fractional interest in a horse from being live stock. Likewise, there are no other legislative provisions in the ITAA 1997 that point toward the exclusion of a fractional interest in a horse being live stock. Australian case law is silent on this issue. However, a New Zealand case, Case J30 , [102] provides guidance on this issue. In Case J30 , the New Zealand Taxation Review Authority stated that interests or shares in stallions were trading stock. Moore DJ in judgment stated: unless shares or interests in an animal are treated on the same basis as is ownership of an animal by one person, some very incongruous results would flow. [103]

In the context of horse breeding, the definition of 'trading stock' in New Zealand is analogous to that in the ITAA 1997. [104] As such, it is considered that a fractional interest in a horse that is live stock does come within the definition of 'trading stock' in section 70-10.

As horses used in a breeding business are trading stock, they are not depreciating assets. [105]

Where the breeding of horses is carried on as a business by a taxpayer, the horses used in the business are trading stock. As horses used in a breeding business are trading stock, any capital gain or loss made from a CGT event happening to a horse, which at the time of the event was being used in such a business, is disregarded. [106]

Stallion service fees generally fall due on a 45 day (thoroughbred) or 42 day (standard bred) positive pregnancy test. If stallion service fees are paid, any allowable deductions will be subject to the provisions of Subdivision H of Division 3 of Part III of the ITAA 1936 which deals with the period of deductibility of certain advance expenditure.

Prepayments of service fees by any taxpayer to associates are subject to section 82KK of the ITAA 1936. This means that a deduction may not be allowed if the associate does not return the assessable income in the income year in which the income was received.

Where a taxpayer is an individual or an individual carrying on a business in a general law partnership, Division 35 will apply to every income year in which that individual taxpayer carries on a relevant 'business activity'. [107] The business activity in this case is the breeding or the breeding and racing of the horses.

The general rule in section 35-10 is that a loss from the business activity is not incurred in a particular income year unless: • in each income year the individual's business activity meets one of four tests; [108] • the individual comes within the exception in subsection 35-10(4); [109] or • the individual is covered by an exercise of the Commissioner's discretion in relation to that business activity. [110]

Where an individual has a loss from a primary production business that they are carrying on, there is an exception in subsection 35-10(4) which means that the deferral of the loss will not apply in relation to that business activity where the total of their assessable income from sources unrelated to that business activity (excluding any net capital gain) is less than $40,000. [111]

Where the training of horses amounts to a business, the gross proceeds derived from the carrying on of that business would be assessable to the taxpayer under section 6-5 and any associated non-capital outlays deductible to the taxpayer under section 8-1.

Where the training of horses does not amount to a business, the gross proceeds from the activity would not be assessable to the taxpayer under section 6-5 and any outlays would not be deductible under any provision.

Where a taxpayer is an individual or an individual carrying on a business in a general law partnership, Division 35 will apply to every income year in which that individual taxpayer carries on a relevant 'business activity'. [112] The business activity in th0is case is the training of the horses.

The general rule in section 35-10 is that a loss from the business activity is not incurred in a particular income year unless: • in each income year the individual's business activity meets one of four tests; [113] • the individual comes within the exception in subsection 35-10(4); [114] or • the individual is covered by an exercise of the Commissioner's discretion in relation to that business activity. [115]

Where an individual has a loss from a primary production business that they are carrying on, there is an exception in subsection 35-10(4) which means that the deferral of the loss will not apply in relation to that business activity where the total of their assessable income from sources unrelated to that business activity (excluding any net capital gain) is less than $40,000. [116]

Whether a business is carried on depends heavily on the facts of each case. The Examples which follow rely on simplified fact settings. They are not intended to prescribe the level of information required to conclude categorically whether or not a business is carried on. In practice, a higher level of detail would need to be examined to reach such a conclusion. However, the Examples are useful because they provide some indicative guidance of an approach that is likely to be adopted in factual scenarios such as these. For this reason, the Examples are included. However, it would not be useful to make any of the Examples part of the proposed binding public ruling.

Joe runs a successful primary production business called Grow-N-Grow Pty Ltd. Over the last few years Joe has acquired several race horses. Although he is a keen follower of horse racing, Joe does not have any particular expertise in the buying, racing or training of horses. Joe's horses are in work with a trainer who is also a good friend and who advised him on the purchase of the horses. Joe incurs expenditure on agistment, training fees and veterinary fees. Joe's horses have achieved a few minor places in local country race meetings.

Joe does not have any clear objectives in regard to his horse racing activities other than to enjoy watching them race and hopefully sometimes win. He relies on his friend to manage the training of the horses. However, there are no plans to improve the performance or profitability of his current horses. In addition, Joe has no plans to buy additional horses or sell any of his current horses to improve the profitability of his activities.

The racing of the horses by Joe does not amount to the carrying on of a business of the racing of horses. The size and scale of the activity and the lack of system or organisation directed towards the making of a profit points towards his activities being no more than those of a keen follower of horse racing.

Therefore, Joe cannot deduct the expenses relating to his horses from his business income from Grow-N-Grow Pty Ltd. The gross proceeds from the racing of the horses will also not be included in Joe's assessable income.

Continuing with Joe's situation from Example 1, Joe decides to sell one of his fillies. He acquired the horse for $6,500 and someone has offered him $7,000. He sells the horse for $7,000.

The filly is a depreciating asset that Joe stops holding when she is sold. Under section 40-295, a balancing adjustment event occurs for the filly when Joe stops holding the horse as an asset.

The filly is also a CGT asset. CGT event K7 happens when a balancing adjustment event occurs for a depreciating asset that Joe held and at some time when he held the asset, he used it for a purpose other than a taxable purpose. In Joe's case, he held the filly for a purpose other than a taxable purpose.

Joe will work out his capital gain or loss under section 104-240. The capital gain or capital loss under CGT event K7 is calculated using the concepts of cost and termination value under Division 40 and not those found in the CGT provisions (cost base and capital proceeds). Joe will make a capital gain if the termination value of the filly is more than its cost.

Joe's termination value, as defined under section 40-300, is $7,000. This is the amount he is taken to have received under section 40-305 under a balancing adjustment event for his filly.

The cost of a depreciating asset consists of two elements - the first and second elements of cost. The first element of cost is worked out as at the time when Joe began to hold the filly. In Joe's case, it will be the amount he is taken to have paid to hold the asset under section 40-185. This will be $6,500. Joe does not have any second element of cost under section 40-190 because his costs of agistment, training and maintenance of the filly over the last year are not capital.

Joe's capital gain will be $500. However, under subsection 118-10(3) any capital gain Joe makes from a personal use asset is disregarded if the first element of the asset's cost base, or the first element of its cost, if it is a depreciating asset, is $10,000 or less. In this case, Joe's filly is a depreciating asset and the first element of cost under section 40-185 is $10,000 or less.

As Joe is not carrying on a business, the racing of his horses is considered to be a pastime. Therefore, his filly has been used for his own personal use and enjoyment and it is a personal use asset. In Joe's circumstances, the $500 capital gain that is made is disregarded.

Rob runs a race horse training business and has a substantial amount of land that he uses in the business. The land is situated in an environmentally suitable area for horse raising and is close to major breeding studs. On this land, he has established a racetrack, spelling paddocks and stables for the horses he trains. He has 26 horses in work on his property and permanently employs two apprentice jockeys in his business, along with other contractors (farriers and handlers), as required. Rob enters into contracts with horse owners to provide training services in return for a daily fee, which covers training expenses. Other costs, such as veterinary and farrier fees, are on-charged. Rob sets his fee and invoices it on a monthly basis. Rob owns a 20% interest in 17 of the racehorses that he trains in his business. Rob believes it is important to hold a share in the horses he selects for his client groups as a sign of good faith.

The racing of the horses would be seen as an integral part of the horse training business carried on by Rob. It is not a separate activity and its object is in the furtherance of the objectives of the horse training business.

Therefore, any amounts he receives as winnings from his interests in the horses raced are assessable as ordinary income and associated expenses are deductible. Rob's interests in the horses are depreciating assets of his business and Rob is using his interest in the horses for a taxable purpose (to earn assessable income). Rob can deduct an amount for the decline in value of his interest in the horses that he owns as a joint holder.

When these interests are disposed of by Rob, he will usually either have an amount included in his assessable income or an amount that is deductible under section 40-285 as a balancing adjustment amount. Rob's use of the horses means that they are not trading stock for the purposes of Division 70. The interests in the horses are also CGT assets. However, as Rob is using his interest in the horses entirely to earn assessable income as part of his business, CGT event K7 will not happen.

Assume the same facts as Example 2 [Rob the trainer] except that Rob also owns three horses in his own right that he races. These horses are from good bloodstock and Rob's extensive knowledge of horse conformation and potential leads him to believe that they are a good proposition to train successfully and will enhance his reputation as a trainer.

The racing of such horses by Rob does not amount to the carrying on of a separate business of the racing of horses. However, his knowledge and reputation in the industry, his intention to race horses to improve the reputation of his training business, the fact that the horses are from quality bloodstock and show appropriate potential are all factors that weigh in favour of a conclusion that the racing of these horses is integrally related to Rob's business of horse training.

Therefore, any amounts he receives as winnings from his horses raced are assessable as ordinary income and associated expenses are deductible. Rob's horses are depreciating assets of his business and Rob is using his horses for a taxable purpose (to earn assessable income). Rob can deduct an amount for the decline in value of his horses that he owns.

When these horses are disposed of by Rob, he will either have an amount included in his assessable income or an amount that is deductible under section 40-285 as a balancing adjustment amount. Rob's use of the horses means that they are not trading stock for the purposes of Division 70. Each horse is also a CGT asset. However, as Rob is using the horses entirely to earn assessable income as part of his business, CGT event K7 will not happen.

Harry currently has 25 horses on hand. Most of these horses were bought cheaply by thoroughbred standards and have so far showed limited promise on the track. Of these horses, a number have been leased out. Four potential broodmares have been identified for later breeding. There are two broodmares on hand, each with a foal-at-foot (one is a colt and one is a filly). Harry intends to race the foals from these broodmares.

The horses that Harry offers for sale are those horses that he has raced that are nearing the end of their effective life on the track or are found to be unsuccessful and of limited ability on the racetrack. His most successful horse on the track has never been offered for sale. No progeny bred from his own horses have been sold.

Harry is not carrying on a business of racing because he does not satisfy the general indicators. Harry is also not carrying on a business of the breeding of horses as the general indicators in relation to the carrying on of a business do not apply either. Harry only has two broodmares that are active in breeding activities. Both of these horses were bought cheaply by thoroughbred standards. None of their progeny has been sold. It is Harry's intention is to race the foals he has bred, including the colt. Commercial studs have a practice of retaining some fillies on the basis that mares which have had a successful racing career are likely to produce valuable progeny, so the fillies are retained and raced and later taken into the broodmare stocks as a valuable breeding asset. In these circumstances, the racing of the filly may be regarded as part of the activities of the stud. However, in Harry's case, although large in quantity, his horses are of an average standard and have shown limited promise on the track. It is a high risk strategy to retain and race the filly. As the colt bred is also of average quality, the fact that he is keeping it and racing it is persuasive that Harry is not carrying on a business of racing.

Harry has experienced six years of losses from his activities. Harry does not carry out his breeding activities in the same manner as that of the ordinary trade of a stud; he has no sales from his own broodmares; he does not intend to sell his colt; his broodmares are of average quality and are mated to average quality stallions. There is little commercial purpose or character, nor any prospect of profit from the activity. The breeding activities are not carried on in a businesslike manner such that they are directed at making a profit. Considered objectively, Harry's activities, taken as a whole, do not indicate that he is carrying on a business.

Harry's racing activities are no more than can be expected from a person vigorously pursuing a hobby or pastime. Whatever attempts were made by Harry to breed racehorses are ancillary to his racing hobby or pastime and bear the same character. The sale of rejected animals, although great in number, is no more than an incident of Harry's racing of them. It does not amount to a breeding business.

Max-Win Stud breeds horses. They offer yearlings, mares and weanlings for sale to the general public. Each season they sell the majority of their draft through the major sales yards. Last year they sold 12 foals through the public sales yards and a further two in private sales before the major sales. Occasionally, they may keep a filly for future breeding purposes.

The stud does not maintain any geldings or barren mares which are inappropriate for breeding. If the stud purchases a race filly, it must have proven itself on the track before it will be used as a broodmare at the stud. Max-Win currently has 3 proven sires standing at the stud and has recently added a further unproven black type champion stallion to its roster.

There are currently 50 mares in residence at the stud. 17 of these are broodmares that belong to the stud and the rest are mares owned by individual breeders. Max-Win prides itself on their bloodlines and their 17 broodmares have produced 30 group winners. Because of this, they experience extremely strong, high value sales at the sales yards.

Max-Win Stud employs a stud manager to manage their breeding portfolio. They also employ a pedigree manager to assist with stallion selection, stallion nominations and the marketing of their bloodstock. Another manager is employed to oversee the preparation of the yearlings for sale. The stud also employs veterinary staff, stable hands, grooms, and administration staff.

Max-Win Stud is carrying on a business of the breeding of horses. This is because the general indicators in relation to the carrying on of a business are evident and the specific industry guidelines in relation to the carrying on of the breeding of horses are also evident.

Their level of activity has a significant commercial purpose. There is a purpose of profit as well as a prospect of profit from their activities because of the care they take in planning, managing and marketing the quality and number of their bloodstock. The activity is carried out in a systematic and organized manner with the regular selling of their stock to the general public. It relies more on efficient business planning, rather than chance, to be successful. The size, scale and permanency of the activity indicate a business is being carried on.

Therefore, the horses used by Max-Win Stud are not depreciating assets. They are trading stock of the business. As the horses are trading stock, any capital gain or loss Max-Win Stud makes from a CGT event that happens to a horse is disregarded. Any proceeds from the use of the horses by Max-Win Stud, including any winnings from any of their horses raced, are assessable as ordinary income. The costs of the maintenance and the development of the horses are deductible as a revenue expense. The stud will account for any changes in trading stock using their live stock accounts under Division 70.

Imogen is carrying on the family tradition of breeding thoroughbred horses. She currently has a number of very well-bred broodmares. All of the mares have strong pedigrees and are always mated to successful commercial stallions.

Imogen has her own property in a geographic location well suited to horse breeding. It is accepted Imogen is carrying on a business of horse breeding.

A close friend approaches Imogen to share in the purchase of a three year old gelding which they will race together. The gelding has no relation to any of Imogen's broodmares.

The racing of the gelding lacks the integral relationship with Imogen's breeding activities. Consequently, the racing of the horse is a mere hobby and is not associated with her business of breeding. The amounts derived from the racing of the gelding are not assessable income under section 6-5 and the losses and outgoings incurred in the purchase of the gelding and in the maintenance and the development of the gelding are not deductible under section 8-1.

We invite you to comment on this draft Taxation Ruling. Please forward your comments to the contact officer by the due date. (Note: the Tax Office prepares a compendium of comments for the consideration of the relevant Rulings Panel. The Tax Office may use a sanitised version (names and identifying information removed) of the compendium in providing its responses to persons providing comments. Please advise if you do not want your comments included in a sanitised compendium.) Due date: 10 October 2007 Contact officer details have been removed following publication of the final ruling.

The following is a detailed contents list for this Ruling: Paragraph What this Ruling is about 1 What this Ruling does not deal with 4 Class of entities 5 Relevant provisions 6 Ruling 7 Part A: horse-related activities - when are they carried on as a business and what are the general implications if they are or if they are not 7 Activities not a business - some implications 12 Activities are a business - some implications 13 The application of particular asset regimes to a taxpayer's horse or an interest in a horse 14 Implications where a horse is both a CGT asset and a depreciating asset 19 Non-commercial losses 26 Part B: the racing of horses 27 Can the racing of horses in itself constitute the carrying on of a business? 27 Horse racing activities that are carried on as an integral part of a horse training and/or horse breeding business 29 Part C: the breeding of horses 33 The breeding of horses not carried on as a business 36 The breeding of horses carried on as a business 38 Part D: the training of horses 42 Previous Rulings 46 Date of effect 47 Appendix 1 - Explanation 48 Part A: when are horse-related activities carried on as a business 48 Consequences if taxpayer's activities do not amount to the carrying on of a business 52 Amounts not assessable under section 6-5 52 Amounts not deductible under section 8-1 54 Not trading stock under Division 70 56 No amounts deductible or assessable under Division 40 57 Application of the CGT provisions 64 Part B: the racing of horses as a business activity 72 The racing of horses as a stand-alone business 72 The racing of horses carried on as an integral part of a horse training and/or horse breeding business by the taxpayer 81 Consequences if taxpayer's racing of horses is a stand-alone business activity, or is an integral part of a horse training (non-breeding) business 85 Amounts assessable under section 6-5 85 Amounts deductible under section 8-1 86 Not trading stock under Division 70 87 Amounts deductible under section 40-25 for decline in value 88 Amounts for decline in value are only deductible to holder of the asset 91 Jointly held assets 92 Amounts assessable and deductible under section 40-285 94 Application of the CGT provisions 99 Application of Division 35 103 Part C: the breeding of horses 106 When is the breeding of horses carried on as a business by a taxpayer? 106 Consequences if the breeding of horses is carried on as a business by a taxpayer 108 A business of horse breeding is a primary production business 108 Proceeds from horses in a breeding business are assessable income under section 6-5 109 Deductibility of costs associated with horses in a breeding business 111 Trading stock and horses in a breeding business 113 Horses in a breeding business are livestock 114 Horses in a breeding business are trading stock 117 Interest in trading stock 126 Horses in a breeding business are not depreciating assets 128 Application of the CGT provisions 129 Stallion service fees 130 Application of Division 35 132 Part D: the training of horses 135 Application of Division 35 137 Appendix 2 - Examples 140 Example 1: the racing of horses - not carrying on a business 141 Example 1a: the sale of a horse - not carrying on a business 145 Example 2: racing activities integrally related - carrying on a business of training horses 153 Example 3: racing activities integrally related - carrying on a business of training horses 157 Example 4: the breeding of horses - not carrying on a business 161 Example 5: the breeding of horses - carrying on a business 166 Example 6: racing activities not integrally related - carrying on a business of horse breeding 173 Appendix 3 - Your comments 177 Appendix 4 - Detailed contents list 178