Non-Commercial Loss Rules

31 Jul 2011 |

At the same time the GST commenced the non-commercial loss rules were introduced. Under these rules a business loss can only be claimed as a deduction against a person’s other income if certain tests are passed. From the 2010 year these rules have been tightened further.

It is common when a business starts losses to be made. The pain of having to fund those losses can be reduced when they can be used to reduce income from other sources, such as salary and wages, and either create a tax refund or reduce tax payable.

Prior to the introduction of the non-commercial loss rules there were no definitive tests in place to determine whether a loss could be deducted. It came down to a more general assessment of whether a business was actually being operated, as opposed to the loss coming from a hobby or a lifestyle choice.

Governments had been keen to disallow losses being claimed against other income for the last reason for decades. The terms Pitt Street and Collins Street farmers were coined to cover this situation. Professional’s earning high salaries would buy country properties for the lifestyle and then claim the interest costs by conducting some sort of farming activity. The change introduced from the 2010 year has been aimed at further restricting these taxpayers.

Under the original tests a business loss could only be offset against a person’s other income if the business either:

  • produced at least $20,000 of assessable income in the year the loss was made,
  • had made a profit in three out of the past five years (including the current year),
  • used real estate for carrying on the business that was worth at least $500,000, or
  • used other assets such as plant and machinery that was worth at least $100,000.

If these tests are not passed the taxpayer can apply to the Commissioner of Taxation to allow the loss. This may occur if the Commissioner believes the loss is due to special circumstances or if it can be demonstrated that because of the nature of the business it has a long lead time before the tests will be passed.

Where the loss was caused by the claiming of the small business investment allowance, or other general business tax breaks, the loss is not caught by the non-commercial loss rules. There is also protection for people who run a primary production or professional arts business. In this situation they do not have to pass any of the four tests as long as their taxable income, excluding the business income and net capital gains, is less than $40,000 in the year the loss is made.

From 1 July 2009 there is a new non-commercial loss income test that must be passed before the other tests. To pass this test a taxpayer’s total adjusted income must be less than $250,000 in the year the loss is made. This measure is designed to further impact on high income earners trying to decrease their tax by operating businesses that are more about lifestyle than making profits.

The new test includes the following income:

  • taxable income before any business losses,
  • total reportable fringe benefits,
  • reportable superannuation contributions, and
  • total net investment losses – including financial investment losses and rental property losses.

When the non-commercial loss rules apply the business loss must be carried forward to future years when the business makes a profit. At that time the carried forward losses can be claimed against the profits with any surplus loss carried forward to be offset against future profits.


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