FocusOn - Non-commercial loss provisions

Special measures are in place to prevent the losses from non-commercial businesses carried out by an individual or partnership from being offset against other assessable income. The provisions do not apply to trusts or companies. Losses incurred through negatively-geared investments such as rental properties are dealt with separately under taxation law.

Am I in business?

This is a question of fact and will be considered on a case-by-case basis. When determining whether you are conducting a business activity, the following factors are relevant:

	Profitability – if you are making a profit, or are conducting the operation with a view to making a profit, this is a strong indication that you are in business.
	Size – the bigger the operations, the more likely that you are in business.
	Effort – it is more likely that you are carrying on a business activity if your activities involve a substantial and regular effort over a period of time.
	Business records – the existence of strong business records is a good indication that you are conducting a business.

If you are not carrying on a business, your activities will be treated as a hobby and the non-commercial loss provisions will not apply. Losses incurred through hobbies (including most party plan arrangements) cannot be deducted against other income, but may be assessable once you commence making a profit.

Limit on losses from non-commercial business activities

Even where you are carrying on a business, the losses incurred through business activities may not be able to be offset against other assessable income such as salary and investment income. Instead, these losses may be required to be carried forward until a future year and offset against future profits from that same business activity.

To claim a loss from a business activity against other income, you must meet one of the following tests:

	Assessable income test – the assessable income (i.e. gross sales) from your business activity exceeds $20,000 in that year. Where a business commences or ceases operation during the year, you can make a reasonable estimate of what the income would have been if you had been in business for the entire year.
	Real property test – the value of land and buildings used by the business exceeds $500,000, excluding the portions of these assets that are used mainly for private purposes. This test applies to land and buildings that are both owned and leased.
	Other assets test – the total value of other assets (excluding motor vehicles, land and buildings) used on a continuous basis in the business activity exceeds $100,000. Such assets may include trading stock, the written down value of depreciable assets, and the remaining capital component of assets under lease.
	Profits test – the particular business activity generated a profit in at least three of the last five income years, including the current year.

High income earners

From 1 July 2009, the government tightened the application of the rules on the use of non-commercial losses to prevent high income individuals from offsetting excess deductions from non-commercial business activities against salary and other income.

Individuals with an adjusted taxable income of over $250,000 will have excess deductions quarantined to the business activity irrespective of meeting one of the other tests. This will ensure excess deductions from unprofitable business activities cannot be used to reduce salary and wage income of high income earners.  The existing non-commercial loss rules will continue to apply to taxpayers with an adjusted taxable income of $250,000 or less.

Commissioner’s discretion

In limited circumstances, the Commissioner of Taxation may allow losses from a business activity to be offset against other income even when the above tests cannot be met. The Commissioner must determine that it is unreasonable to apply the above tests because:

	The business activity would have met one of the tests if not for special circumstances which were beyond the control of the business operator, or
	The business is in start-up mode and is likely to meet one of the tests within a commercially viable period.

Special rules for primary producers and performing artists

Special rules apply if you are conducting a primary production business or a professional arts business. You can claim a deduction for losses incurred by that activity against your other income (such as salary or investment income) if your income from other sources (excluding capital gains) is less than $40,000.

Final considerations

It is important to remember that if you cannot satisfy any of the above conditions, and are therefore subject to the non-commercial loss provisions, the net loss from the business activity is not lost. Rather, these losses are quarantined and are available to be claimed as deductions in a future year when your business makes a profit or meets one of the non-commercial loss tests.

If in the future you meet one of the non-commercial loss tests the current year loss from the business as well as all the losses from prior years can be offset against other income.

Published : 27 July 2009