When you’re starting a new business venture, it may take some time before the business becomes profitable. And there may be other situations where an established business operates at a loss in a particular year. So, what does this mean tax-wise? When your deductions in an income year are greater than your assessable income, you have a “tax loss”. You generally can’t receive a refund for tax loss, but you can use it in other ways.

Using Losses Against Other Income

If you’re a sole trader or individual partner, you may be able to use your business tax loss to offset other assessable income you earn personally. This includes salary and wages from employment and income from personal investments.

But watch out: if the loss is “non-commercial”, you can’t use it immediately to offset your other income. Instead, you must defer it. To pass the non-commercial loss rules, you generally must meet two requirements. First, your adjusted taxable income must be less than $250,000. For these purposes, you ignore your business losses, but must add any reportable fringe benefits, salary sacrifice or personal super contributions, and total net investment losses.

Second, you must pass one of the following four tests, which are designed to measure whether your business activities are sufficiently “commercial”:

• Your assessable income from your business activity is at least $20,000
• Your business has made a tax profit in three out of the past five years (including the current year)
• You use real estate valued at $500,000 or more in your business on a continuing basis
• The value of “other assets” (excluding vehicles and real estate) you use in your business on a continuing basis is at least $100,000

If you don’t pass any of these tests (or fail the $250,00 income requirement), you must defer the loss for use in the future. You’ll be able to apply the deferred loss against future business income when the business starts making a profit, or alternatively against other income sources when you start satisfying the non-commercial loss rules. Your losses can be deferred indefinitely until this happens.

Offsetting Future Income

What if you satisfy the non-commercial loss rules but don’t have income against which you can offset your tax loss?

Sole traders and individual partners can carry forward tax losses to a year later to apply against future income. While losses can be carried forward inefinitely, you must use them to offset income at the first opportunity.