A non-commercial business loss is a loss you incur, either as a sole trader or in partnership, from a business activity unrelated to your primary source of income. This type of business activity could be a hobby or lifestyle benefit. There are separate non-commercial loss rules for sole traders and partnerships.
If you are a sole trader, you need to consider the following non-commercial loss rules to work out if your loss can be offset or needs to be deferred:
Are You In Business?
Your activity must be ‘in business’ to claim a loss, determined by if it has commenced business activity
Similar Business Activities
If you are carrying on more than one business activity and they are similar, you may group them together when considering the non-commercial loss rules. If you are running multiple business activities that are not similar, you must apply the non-commercial loss rules separately to each activity.
If your loss-making business is in primary production or in professional arts (the ATO calls these ‘excepted business activities’), and your assessable income from other sources is less than $40,000 (excluding any net capital gain), you can offset your losses from your other income.
Less Than $250,000 Income Requirement
The total of your taxable income, reportable fringe benefits, reportable super contributions and total net investment losses must be less than $250,000 for you to be eligible to offset your losses in the current year.
Pass The Four Tests
If you meet the income requirement and pass any of the four tests, you can offset your business losses against your other income in the relevant year. The four tests are:
- Assessable Income Test
- Profits Test
- Real Property Test
- Other Assets Test
Commissioners Discretion – If you do not meet the income requirement or any of the four tests, you can apply for the Commissioner’s discretion to allow the claim. The Commissioner will only exercise the discretion in limited circumstances if:
- there are special circumstances outside your control that have prevented you from passing one of the four tests, or
- because of the nature of the business, there is a lead time before your business can pass one of the four tests or make a profit.
If you are a partner in a partnership, you – as an individual – may offset your share of a partnership loss against your other income, subject to the non-commercial loss rules.
The non-commercial losses income requirements are applied to the individual partners the same as to an individual.
Assessable Income Test
If you are a member of a partnership and all the other partners are individuals, the assessable income of the whole partnership must be at least $20,000 before the individual members can deduct losses.
Assessable income earned by an individual member from business activities outside of the partnership can only be considered by that member. Partnership members who are companies and trusts must have their share of the assessable income excluded.
If a partnership carries on more than one business activity, the income and deductions must be accounted for separately for each unless they are similar activities.
If you are carrying on a business activity in a partnership, you will be able to claim a loss if your income from the activity has been greater than your tax deductions for the activity for at least three out of the past five years (including the current year) and you meet the income requirement. This calculation must consider both your income from the partnership and any income you may have earned in your own right from that activity.
Real Property Test
If you are a member of a partnership and all the other partners are individuals, the value of the real property used in the partnership business must be at least $500,000 before the individual members can deduct losses. Any real property owned by partnership members that are companies or trusts must be excluded, as well as any property owned by the individual partners in their own right.
Other Assets Test
If you are a member of a partnership and all the other partners are individuals, the value of the other assets of the whole partnership must be at least $100,000 before the individual members can deduct losses. The value of any assets owned by partners who are companies or trusts, or individuals who own the assets in their own right are excluded from this determination.
When calculating a business loss for the current year, make sure you have accurately calculated the expenses you have incurred before you confirm a loss. Check that:
- your expenses are related to your business activity
- you have correctly apportioned your expenses between business and private use
- you haven’t claimed any private expenses
- you have correctly claimed your expenses and haven’t accidentally overstated them.
If you don’t meet any of the non-commercial business loss requirements, you can defer the loss or carry it forward to future years.
The area around business losses, offsetting and carrying-forward losses can be confusing. For assistance with your business’s particulars for the 2022-23 financial year, why not speak to one of our experts?