Deferring Non‑Commercial Losses: Essential Guide For Australian Sole Traders

Running your own business as a sole trader can be incredibly rewarding. It can also take time before your activity turns a reliable profit.

If your business makes a loss, you might hope to use that loss to reduce your other taxable income (like wages or investment income). However, Australia’s “non‑commercial loss” rules can stop you from claiming that loss in the current year. Instead, the loss is often deferred and carried forward to a later income year.

In this guide, we’ll explain when you must defer a non‑commercial loss, when a deferred loss can be used in the future, and the key tests and exceptions you should know about. We’ll also touch on practical steps to strengthen your position and the legal setup that supports a genuine, profit‑seeking business.

Important: Non‑commercial loss rules are tax rules administered by the ATO. This article is general information only. Sprintlaw is a law firm and we don’t provide tax advice-speak with a registered tax agent or accountant about your specific tax position.

What Are Non‑Commercial Losses (And Why Do They Exist)?

Non‑commercial losses are business losses from an activity that the tax law considers insufficiently “commercial” in a particular year. The rules are designed to stop individuals from using losses from hobby‑like or early‑stage activities to shelter other income (for example, wages), unless the activity meets certain commercial criteria or falls within an exception.

As a sole trader, you can absolutely carry forward a non‑commercial loss. You generally can’t deduct it against your other income in the current year unless you satisfy the income requirement and one of the prescribed tests, qualify for an exception, or the Commissioner exercises discretion. If you don’t satisfy those pathways, the loss is deferred to a later year.

It helps to think of these rules as a timing mechanism. The law doesn’t say the loss never counts; it often says “not yet.” Your job is to keep good records, keep trading on a commercial basis, and position yourself to use the loss in a later year when you meet the criteria.

Can You Use Your Loss This Year? The Income Requirement, Tests And Exceptions

Whether you can use a current‑year loss from your sole trader activity depends on a few gates. Work through them in order.

1) The Income Requirement ($250,000 cap)

To claim a loss in the current year against other income, your “adjusted taxable income” (ATI) generally needs to be less than $250,000 for that year. ATI is a defined measure that starts with taxable income and adjusts for certain amounts (for example, reportable fringe benefits and reportable super contributions).

If your ATI is $250,000 or more, you usually cannot claim the loss this year unless a special exception applies or you obtain the Commissioner’s discretion. In that case, your loss is typically deferred.

2) The Four Commerciality Tests

If you meet the income requirement, you then look to see if your business activity satisfies at least one of these tests for the year:

• Assessable Income Test: Your activity generated at least $20,000 of assessable income in the year.
• Profits Test: Your activity was profitable in three out of the last five years (including the current year).
• Real Property Test: You use real property worth at least $500,000 (on a continuing basis) in carrying on the activity. This excludes your private residence unless a part is genuinely used in the business and satisfies the requirements.
• Other Assets Test: You use certain business assets worth at least $100,000 (on a continuing basis) in the activity. Specific valuation and asset rules apply.

Meeting any one of these tests (as well as the income requirement) generally allows you to deduct your loss in the current year, rather than deferring it.

3) Primary Production And Professional Arts Exceptions

There’s a special pathway for certain activities:

• Primary production and professional arts businesses can often claim losses in the current year if their other income (excluding the business income and net capital gains) is less than a set threshold. A commonly referenced threshold is $40,000 of other income. If you’re in this category, the usual tests may not be required to use your loss in the current year, subject to the detailed rules.

These exceptions are tightly defined. It’s important to confirm that your activity actually qualifies as primary production or a professional arts business before relying on them.

4) Commissioner’s Discretion

Even if you don’t meet a test, you can apply for the Commissioner of Taxation to exercise discretion. This is typically considered where:

• There are special circumstances outside your control (for example, a natural disaster) that prevented your activity from meeting a test, or
• Your activity has a clear and objective expectation of profit within a commercially viable period, but the nature of the industry means it will take time to get there.

If discretion is granted, you may be able to use the loss in the current year rather than deferring it.

When You Must Defer A Non‑Commercial Loss (And How Deferral Works)

You’ll generally defer your non‑commercial loss when you:

• Don’t meet the income requirement or any of the four tests,
• Don’t fall within a relevant exception, and
• Don’t have the Commissioner’s discretion.

Deferral doesn’t “wipe” the loss. It means you carry it forward to a later year.

How Deferred Losses Are Tracked

Deferred non‑commercial losses are tracked for each separate business activity. Good record‑keeping is crucial so you can demonstrate:

• Which activity the loss relates to,
• How much was deferred, and
• When and how it was later used.

Keeping a separate profit and loss for each activity, supported by invoices and bank records, will make this much easier.

When A Deferred Loss Becomes Deductible In A Later Year

In a future year, your deferred amount can become deductible if the conditions are met in that year. Practically, that can happen where:

• You now satisfy the income requirement and at least one of the commerciality tests, or
• An exception applies to your activity for that year, or
• The Commissioner’s discretion applies for that year.

When one of those gateways is satisfied, the previously deferred amount is brought forward under the non‑commercial loss rules and can be deducted in that later year in line with the legislation.

There’s No “Pick And Choose” Order

You can’t selectively time the use of a deferred non‑commercial loss to suit other planning if the law says it’s now deductible. When the rules allow it in a later year, the deferred amount is applied according to the Division 35 framework for that year. You also need to observe the separate activity tracking-deferred losses are tied to the specific business activity they came from.

How Does Net Exempt Income Affect Things?

Australia’s loss provisions also interact with net exempt income. Broadly, net exempt income can reduce the amount of your otherwise deductible tax losses before they are carried forward or claimed. The precise interaction with non‑commercial losses can be technical and fact‑specific (for example, whether you have other carried‑forward losses as well as deferred non‑commercial losses).

Because this is a tax calculation issue, it’s best to confirm the numbers with your accountant to ensure you apply the ordering rules correctly for your situation.

Sole Trader Considerations: Structure, Risk And Record‑Keeping

While the non‑commercial loss rules are tax rules, your broader legal setup can make a real difference to how “commercial” your activity looks and operates. It also affects your risk profile as you grow.

Is Sole Trader The Right Structure For You?

Many people start as sole traders because it’s simple. As you scale, consider whether moving to a company could improve risk management and credibility with customers, suppliers, and investors. A company is a separate legal entity and can offer better liability protection than operating in your own name.

If you’re weighing up a change, our team can help with a smooth Company Set Up, tailoring the process to your business. Companies should also have a clear Company Constitution to outline decision‑making and director powers, and-if there’s more than one founder-a Shareholders Agreement that sets out ownership, exit and dispute processes.

Define Your Business Activity (And Operate Commercially)

It’s helpful to document what your business activity is and how you intend to make a profit. This supports planning and helps show your activity is genuinely commercial. For a deeper dive on what the law looks at when it talks about business activities, see our guide on what defines a business activity in Australia.

Customer‑Facing Compliance

If you sell goods or services, your marketing, pricing and refunds must comply with the Australian Consumer Law. Misleading or deceptive conduct rules apply to websites, socials and in‑store collateral. Our explainer on section 18 (misleading or deceptive conduct) is a good starting point.

If you collect customer details online, you’ll also want a Privacy Policy that clearly sets out how you collect, use and store personal information.

Hiring Staff? Get The Basics Right

If you take on employees to help you grow, you’ll need compliant employment documents and HR processes. An Employment Contract sets clear expectations around duties, hours, pay and post‑employment obligations. Align these with award requirements and your workplace policies.

Keep Strong Records

Non‑commercial loss rules reward clarity. Keep reliable, separate records for each business activity, including:

• Customer contracts, invoices and bank statements,
• Supplier agreements and stock or asset registers, and
• Evidence that supports your commercial intent (budgets, marketing plans, research).

These same records will also help you if you need to apply for the Commissioner’s discretion or demonstrate that you now meet a commerciality test.

Practical Tips To Improve Your Position

While you can’t control the rules, you can control how you prepare and operate. Here are practical steps that tend to make a difference.

• Write a simple plan: Outline your offering, target market, pricing, sales channels and how you’ll reach break‑even. A plan helps you stay focused and evidences your commercial approach.
• Track the tests: If you’re close to the $20,000 assessable income test, a small push in sales can change whether you use or defer a loss this year. Likewise, monitor the profits test across five years.
• Build your asset base: If the Real Property or Other Assets tests could apply to your industry (for example, you use specialised equipment), keep valuations and usage records current.
• Show your commercial intent: Maintain budgets, forecasts and performance reviews. If you need to seek the Commissioner’s discretion, this evidence matters.
• Separate activities where sensible: If you run distinct activities, don’t blur the lines. Keep separate records to avoid confusion about which activity a loss belongs to.
• Set up the right legal documents: Clear customer terms, supplier agreements and internal policies show professional operations and reduce disputes that can derail profitability.
• Coordinate with your accountant: Ask your tax adviser to confirm the income requirement, test outcomes and any exceptions that could apply this year, plus how net exempt income or other carried‑forward losses affect your numbers.

One more reminder: Sprintlaw helps with your legal setup and risk management. For your tax calculations and ATO lodgements, partner with a registered tax agent.

Key Takeaways

• Non‑commercial loss rules can stop you from using a sole trader loss against other income this year; in that case, the loss is deferred to a later year.
• To use a loss in the current year, you generally need to meet the $250,000 income requirement and satisfy at least one commerciality test, qualify for a primary production/professional arts exception, or obtain the Commissioner’s discretion.
• Deferred losses are tracked by activity and can become deductible in a later year when the relevant criteria are met; you can’t “pick and choose” the timing once the law allows the deduction.
• Good records, clear contracts and compliant operations help demonstrate a genuine, profit‑seeking business and reduce costly setbacks.
• As you grow, consider whether a company structure with a tailored Company Constitution and a Shareholders Agreement (if you have co‑founders) better supports your plans.
• Sprintlaw can help with the legal side-customer terms, Privacy Policy, Employment Contract and structure-while your accountant handles the tax calculations and ATO rules.

If you would like a consultation on the legal side of running your sole trader business (and setting up to scale), you can reach us at 1800 730 617 or team@sprintlaw.com.au for a free, no‑obligations chat.