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By Published On: October 19th, 2021Categories: SBCGT CONCESSIONS, SBCGT CONCESSIONS ARTICLESComments Off on SBCGT: Passively active or actively passive?

What is an ordinary share for ESS/ESOP purposes?


The basic conditions for small business CGT (SBCGT) relief require, among other things, that the relevant CGT asset subject to a CGT event (generally CGT event A1 on disposal of the asset), is an active asset.

As to what constitutes an active asset, see our article here. 

Passive assets 

One of the basic conditions for SBCGT relief requires that the relevant taxpayer (i.e., the entity that triggers the CGT event) satisfies at least one of various conditions, including:

  • it is a CGT small business entity (CGT SBE); or
  • it satisfies the maximum net asset value test (MNAV); or
  • it satisfies the passively held assets rule (Passive Assets Rule).

The Passive Assets Rule is satisfied if:

  • your affiliate (Affiliate), or an entity connected with you (Connected Entity) is a CGT small business entity (CGT SBE); and
  • you do not carry on business in the income year (other than in partnership); and
  • if you carry on business in partnership – the CGT asset is not an interest in an asset of the partnership; and
  • in any case – the CGT SBE is the entity that carries on the business in relation to the CGT asset(s).

Specific rules apply in relation to partnerships in this regard.

Therefore, the Passive Assets Rule may be relied upon where the entity that triggers the CGT event is not a CGT SBE and cannot satisfy the MNAV (provided that a Connected Entity or Affiliate is a CGT SBE in relation to the particular CGT asset). For example, business premises (Property) owned by an individual or a family trust that is used by a Connected Entity or Affiliate in these circumstances can satisfy the Passive Assets Rule.

What is an Affiliate?

An individual or a company is an Affiliate of yours if the individual or company acts, or could reasonably be expected to act, in accordance with your directions or wishes, or in concert with you, in relation to the affairs of the business of the individual or company. 

However, an individual or company is not your Affiliate merely because of the nature of the business relationship you and the individual or company share.

What is a Connected Entity?


The concept of a Connected Entity is tied to the meaning of ‘control’.

The definition of controls depends on the type of entity/entities we are dealing with and broadly, an entity is a Connected Entity of another entity if:

  • either controls the other; or
  • both entities are controlled by the same 3rd

The potential controller is referred to as the First Entity and the potential controlled entity is referred to as the Second Entity.

Direct control of an entity other than a discretionary trust

Direct control of an entity other than a discretionary trust looks to the ownership of, or the right to acquire, interests in the entity carrying the right to receive at least 40% of:

  • income;
  • the net income of a partnership; or

However, for companies, direct control looks to the ownership of, or the right to acquire, equity interests in the company that carry between them the right to exercise or control the exercise of at least 40% of the voting power in the company.

Direct control of a discretionary trust

The First Entity controls a discretionary trust where:

  • the trustee acts, or could reasonably be expected to act, in accordance with the directions or wishes of the First Entity, its Affiliates, or the First Entity and its Affiliates; or
  • in any of the 4 income years before the income year in which the test occurs, the trustee of the trust paid or applied at least 40% of the income or capital of the trust to:
  • the First Entity;
  • any of the First Entity’s Affiliates;
  • the First Entity and any of its Affiliates.

The Commissioner does, however, have discretion to determine that the First Entity does not control the relevant entity in limited circumstances.

Indirect control

Where the First Entity directly controls a Second Entity, the First Entity is also taken to control any entity directly or indirectly controlled further down the ownership chain.

This means that the First Entity may be taken to control a lower-tier entity even if its traced interest is less than the relevant 40% threshold, for example:

A Co owns 50% of the ordinary shares in the capital of B Co.

B Co owns 50% of the ordinary shares in the capital of C Co.

Based on the above, A Co (the First Entity in this scenario) controls B Co and, therefore, they are Connected Entities for present purposes.

In turn, B Co controls C Co.

A Co is taken to control C Co for present purposes notwithstanding that A Co’s traced indirect interest in C Co is only 25% (50% x 50%).

There are, however, specific carve outs from the indirect control rules where the Second Entity is a particular type of entity (including a company whose shares are listed on an approved stock exchange and publicly traded unit trusts).

Interaction with the active asset test

The active asset test requires that the relevant CGT asset(s) subject to the CGT event were active assets for the relevant period.

Broadly, a CGT asset is an active asset if:

  • you own the asset, and it is used, or held ready for use, in carrying on business that carried on by:
  • you;
  • a Connected Entity; or
  • an Affiliate; or
  • if the asset is an intangible asset – you own it, and it is inherently connected with a business that is carried on (whether alone or in partnership) by:
  • you;
  • a Connected Entity; or
  • an Affiliate.

The most common example of an intangible asset that is an active asset is goodwill.

Notwithstanding the above, there is an exception to the definition of an active asset for assets whose main use is to derive rent (Passive Rent Exception).

What constitutes main use is a question of fact and requires a comparison as between:

This would suggest that in seeking to satisfy the basic conditions for SBCGT relief, even if the Passive Assets Rule was satisfied, the active asset test will not be satisfied in these circumstances on account of the Passive Rent Exception.

This would be a strange outcome given the policy underpinnings of the Passive Assets Rule, that is, why include the Passive Assets Rule as a means of satisfying one of the basic conditions for SBCGT relief if only to be denied by another (i.e., the active asset test)?

However, the ATO takes the view that the Passive Rent Exception does not apply to a Property whose main use is to derive rent where it is leased to a Connected Entity for use in the Connected Entity’s business (see Taxation Determination TD 2006/63).

The ATO gives the following example:

“Joe owns 100% of the shares in Smash Repair Co, which carries on a panel beating business. Joe and the company are therefore connected with each other. Joe also owns the business premises and leases them to the company for the conduct of its business.

Although Joe is wholly using the premises to derive rent, Smash Repair Co (a connected entity) is wholly using them in the course of carrying on a business. The premises are therefore not excluded under paragraph 152-40(4)(e) of the ITAA 1997 and are therefore an active asset of Joe’s under subparagraph 152-40(1)(a)(iii) of the ITAA 1997.”

The basis of the ATO’s position is that the tax law requires that for the purposes of the Passive Rent Exception, you:

  • disregarded any personal use or enjoyment of the asset; and
  • treat any use by your Affiliate or Connected Entity as your use.

Therefore, the active business use of the Property by a Connected Entity is effectively imputed to the otherwise passive investment use by the taxpayer for present purposes such that the Passive Rent Exception does not apply to prevent the taxpayer from satisfying the active asset test in these circumstances.


Whether or not an asset is an active asset for SBCGT purposes can be difficult to determine where it consists of Property used in the business but owned by a different entity. Whether the relevant parties are Connected Entities in these circumstances is critical in seeking to access SBCGT relief on disposal of the Property.

For more information on the SBCGT concessions, please see our Explainer video here.

If you would like to discuss this issue, or any other eligibility issues surrounding the SBCGT concessions and how you, or your clients, can benefit from them, contact Mosaic Tax Legal at info@mosaictaxlegal.com.au or 1300 115 841.