The impact of this case on ATO policy is discussed in Decision Impact Statement: GXCX v Commissioner of Taxation (2008/2901 ).
PE Hack SC DP
Administrative Appeals Tribunal, Brisbane
MEDIA NEUTRAL CITATION:
 AATA 569
ATC 185PE Hack SC (Deputy President)
1. The applicant is the representative member for GST purposes of a group of companies (the Group). One of the members of the Group was responsible for the construction, by way of renovation of an existing building, of a substantial residential development of some 91 apartments in an inner suburb of Brisbane in 2000 and 2001. The apartments were marketed for sale before and during construction.
2. In December 2001, when the development was completed, 69 apartments had been sold. A decision was made by the Group that the 22 apartments then unsold would be rented. Since then a further ten apartments were sold during 2008 and 2009.
3. The applicant claimed input tax credits on the construction costs on the basis that it intended to sell the apartments on completion. It was entitled to do so because that was a "creditable purpose". But residential rental is not a creditable purpose. Where the extent of a creditable purpose is changed by later events the GST legislation, in particular Division 129 of the A New Tax System (Goods and Services Tax) Act 1999 (Cth) (the GST Act), requires that an "increasing adjustment" or a "decreasing adjustment" be made in certain circumstances.
4. The issue in these proceedings is the extent to which the applicant was obliged to make an increasing adjustment as a consequence of the decision to rent out the 22 unsold apartments.
5. It is a sufficient introduction to the GST Act to say that it imposes a tax of 10% on an entity that supplies goods or services and obliges the entity to account to the Commissioner for amounts of GST so imposed. Additionally, the entity is entitled to an "input tax credit" equivalent to the amount of GST paid by it for goods and services supplied to it and to set off the input tax credits against GST payable to the Commissioner where the acquisition is for a "creditable purpose". Provision is made in the legislation for a group of entities to be treated as a "GST group" and for one member of that GST group to be treated as the "representative member" for certain purposes of the GST Act. The applicant is the representative member of the Group.
6. A feature critical to the present case is that some supplies, including the supply of residential rental premises, are "input taxed", that is, no GST is payable on the supply and the supplier cannot ordinarily claim input tax credits for GST paid on acquisitions relating to that supply. There is no issue in these proceedings that the applicant was entitled to claim input tax credits for GST paid in constructing apartments for sale. But it was not entitled to an input tax credit to the extent that it supplied residential rental premises.
7. Division 129 of the GST Act deals with adjustments that may need to be made where a creditable purpose is altered. The general policy of the Division is expressed in s 129-1 of the GST Act in these terms:
" 129-1 What this Division is about
The extent to which an acquisition or importation is for a creditable purpose affects the amount of the resulting input tax credit. When the extent of creditable purpose is changed by later events, adjustments (for the purpose of working out net amounts under Part 2-4) may need to be made."
8. The critical provisions are ss 129-40, 129-50 and 129-55 of the GST Act. They provide:
"129-40 Working out whether you have an adjustment
- (1) This is how to work out whether you have an *increasing adjustment or a *decreasing adjustment under this Division, for an *adjustment period, for an acquisition or importation:
- Step 1. Work out the extent (if any) to which you have *applied the thing acquired or imported for a *creditable purpose during the period of time:
- (a) starting when you acquired or imported the thing; and
- (b) ending at the end of the *adjustment period.
This is the actual application of the thing .
- Step 2. Work out:
- (a) if you have not previously had an *adjustment under this Division for the acquisition or importation-the extent (if any) to which you acquired or imported the thing for a *creditable purpose; or
- (b) if you have previously had an *adjustment under this Division for the acquisition or importation-the *actual application of the thing in respect of the last adjustment.
This is the intended or former application of the thing .
- Step 3. If the *actual application of the thing is less than its *intended or former application, you have an increasing adjustment , for the *adjustment period, for the acquisition or importation.
- Step 4. If the *actual application of the thing is greater than its *intended or former application, you have a decreasing adjustment , for the *adjustment period, for the acquisition or importation.
- Step 5. If the *actual application of the thing is the same as its *intended or former application, you have neither an increasing adjustment nor a decreasing adjustment, for the *adjustment period, for the acquisition or importation.
- (2) *Actual applications and *intended or former applications are to be expressed as percentages.
- (3) If the thing is acquired through a *reduced credit acquisition and, at the time of the acquisition, it was wholly for a *creditable purpose because of Division 70, the extent to which it was acquired for a creditable purpose is the reduced input tax credit percentage prescribed for the purposes of subsection 70-5(2) for an acquisition of that kind.
129-50 Creditable purpose
- (1) You *apply a thing for a creditable purpose to the extent that you apply it in *carrying on your *enterprise.
- (2) However, you do not *apply a thing for a creditable purpose to the extent that:
- (a) the application relates to making supplies that are *input taxed; or
- (b) the application is of a private or domestic nature.
- (3) To the extent that an *application relates to making *financial supplies through an *enterprise, or a part of an enterprise, that you *carry on outside Australia, the application is not, for the purposes of paragraph (2)(a), treated as one that relates to making supplies that would be *input taxed.
129-55 Meaning of apply
Apply , in relation to a thing acquired or imported, includes:
- (a) supply the thing; and
- (b) consume, dispose of or destroy the thing; and
- (c) allow another entity to consume, dispose of or destroy the thing."
The factual background
9. There is no dispute about the factual background; the dispute concerns questions of the intention of the applicant (and other members of the Group) and those who are its controlling minds. What follows is not in issue.
10. The Group has made a specialty of developing land in the area where the present development is situated. There are three directors of the applicant and, I infer, of the other entities in the Group. Companies associated with each of the directors hold an equal number of the shares in another company in the Group (the holding company) which in turn holds all the shares in the applicant.
11. The land subject of these proceedings was purchased by the holding company in early 2000. The improvements on it were of an industrial nature but the building had not been used for that purpose for some time. Funds in excess of $12 million were expended in converting the premises to individual residential apartments and on associated costs. That work was completed in late December 2001. During the course of construction the applicant claimed input tax credits in excess of $1.2 million.
ATC 187As is common with developments of this type sales were made "off the plan" i.e. before construction had been undertaken. Indeed the project's external financier required a significant level of pre-sales before approval was given to the release of construction funding. Before and during construction 60 apartments had been sold. When the development was completed 22 apartments remained unsold.
13. In December 2001 the first of these 22 apartments was rented out to tenants. By June 2002 all of the remaining apartments had been tenanted. They remained tenanted or available to be tenanted thereafter. They were tenanted for terms of 6 months at a time. Ten of these 22 apartments were sold between April 2008 and January 2009. The remainder were unsold at the hearing date.
14. The Group employs a chief financial officer who has been with the Group since March 2002. In early 2003 he indentified the possibility of a GST adjustment as a consequence of the 22 apartments having been rented. Advice on this aspect was sought from reputable external accountants. They gave advice in early July 2003 that a Division 129 increasing adjustment would be required. The applicant accepted that advice and lodged its June 2003 quarter BAS on the basis of that advice. The effect of the advice was that an increasing adjustment of $52,837.71 was required in the June 2003 tax period and an increasing adjustment of $225.60 would be required in the June 2004 tax period.
15. Subsequently the Commissioner undertook an investigation of the matter. A different view was taken of the way in which the increasing adjustments ought to have been calculated. The result was that on 3 August 2005 an assessment of GST liability was made for the June 2003 quarter that had the effect on increasing the GST liability by $210,300. Similarly an assessment for the June 2004 quarter resulted in an increase in GST liability by $897.00. Additionally, the Commissioner took the view that the applicant had a GST shortfall which occurred because the applicant had been "reckless" and accordingly a base penalty at the rate of 50% of the shortfall ought be imposed leading to an assessment of penalty dated 1 August 2005 of $105,598.50.
16. The applicant objected to the assessments of GST net amount and the assessment of penalty. On 9 May 2008 the Commissioner:
- (a) disallowed the objection to the June 2003 liability assessment;
- (b) allowed in full the objection to the June 2004 liability assessment;
- (c) partly allowed the penalty assessment objection by concluding that the shortfall was the consequence of the applicant failing to take reasonable care leading to a shortfall penalty rate of 25%. Necessarily the penalty assessment for the June 2004 period fell away when the liability assessment objection was allowed in full.
17. It is those decisions that are the subject matter of these proceedings.
18. I ought, at this juncture, record some concessions made in the course of the hearing.
19. First, the Commissioner accepts that if I were to otherwise accept the applicant's arguments, the applicant's calculation is correct.
20. Next, the Commissioner has revisited his calculation of the increasing adjustment and has determined that the GST shortfall for the June 2003 tax period is $137,140.00 rather than the amount of $210,300.00 earlier calculated. Mr Matthews, who appeared for the applicant, accepted that if the Commissioner's arguments were otherwise accepted this was the correct amount of shortfall on those premises.
21. Finally, I record that the Commissioner now accepts that the applicant did exercise reasonable care and that accordingly no shortfall penalty ought to have been imposed.
22. The arguments of the parties focussed upon two issues:
- (a) whether the applicant had discharged its onus in evidencing what I shall call the "dual purpose";
ATC 188(b) whether, if it had that dual purpose, an intention to sell in the future amounted to an "actual application" for the purposes of the method statement in s 129-40 of the GST Act.
The applicant's intentions
23. Dr Schulte, counsel for the Commissioner, submitted that I ought not be satisfied that the applicant had discharged its onus of proof. It was said that
"there is insufficient evidence offered by the Applicant to demonstrate that [the holding company] continued to also hold the apartments for the creditable purpose of sale after commencing renting the apartments in January 2002."
Reliance was placed upon the absence of minutes of directors' meetings evidencing "that the creditable purpose of holding the apartments for sale continued". The Commissioner also advanced the contention that in circumstances where the applicant, as the representative member of the Group, was not the entity that owned and rented out the unsold apartments, it was necessary for the actions of particular individuals to be attributed to the holding company for that act or intention to be attributable to the holding company. Reference was made to s 48-55 of the GST Act as requiring that conclusion.
24. The applicant relied upon the evidence of two of its directors (who were also two of the three directors of the holding company) and its chief financial officer. The third director was not available to give evidence.
25. It is right to criticise the absence of any minutes contemporaneously recording the intentions of the holding company. But that does not, of itself, warrant rejecting the evidence of the directors who gave evidence of these intentions. The evidence given by the way of written statement is somewhat stilted and some is expressed in terms of factual and legal conclusion. But I was particularly impressed by the oral evidence of the two directors about their intentions.
26. The first said this
"Our intention was then that we'd - we'd met our threshold and that we'd wait and see over the construction period. In our business, the period when a building is under construction is kind of the ugly duckling period, and it's difficult to sell the dream at that point in time, so it would have been - you know, we wouldn't have had great success, probably, in that following 12 months, but we decided to - to wait until we'd got to the end of the thing and then make a decision as to what we'd do, knowing that they would either be worth more finished or, depending on other projects we might want to do and our demands for cash, we might, ideally, be able to hang on to them and - and watch them escalate, because that was our belief, that they would escalate in value quite strongly.
So is it fair then to say that you had, as it were, an undecided intention? It could have been that you went down the path of selling everything to move into another project, or keeping them to get the benefit of the capital gain - capital growth?---Yes. It's probably fair to say that. I mean, we have to have a fair amount of flexibility in our business, because opportunities present themselves, or sometimes they don't. But I'd say at the heart of it all along was our view that - that they would continue to appreciate in value better than the average real estate market."
The other director spoke of a decision that had been made that, because the apartments had initially sold so well and because of the nature of the apartment, the best "value enhancement" for the holding company was to retain the unsold apartments and to sell them when the opportunity arose for substantial capital growth in the future. There was, he said, an excellent chance that apartments would increase in value over time.
27. This evidence satisfies me that in late 2001 or early 2002 the holding company held two concurrent intentions with respect to the 22 unsold apartments. In the short term it intended to rent the apartments. But in the medium to long term it intended to sell the apartments. The time at which this intention would be fulfilled was not then determined but would be determined by market conditions. The apartments would be sold when the market provided the opportunity for the holding
ATC 189company to realise on the anticipated substantial capital growth in the future.
What was the application?
28. Mr Matthews for the applicant submitted that on the basis of the evidence of the directors I ought conclude that the 22 apartments were applied for dual purpose; sale, a creditable purpose, and residential rental, a non-creditable purpose. Duality of purpose was, it was contended, a key issue. Moreover, it was said, "apply" when used in the GST Act extends to encompass a holding for future sale.
29. Reliance was placed upon two New Zealand decisions for the proposition that real property "may be applied for concurrent but different purposes". The first case was
Commissioner of Inland Revenue v Morris
"Subject to section 5(3) of this Act, to the extent that goods and services applied by a registered person for the principal purpose of making taxable supplies are subsequently applied by that registered person for a purpose other than that of making taxable supplies, they shall be deemed to be supplied by that registered person in the course of that taxable activity to the extent that they are so applied."
30. The taxpayer was a property developer who built two flats for sale and claimed input tax credits for the construction. They were unable to be sold after six months and were rented out although they remained available for sale. The Commissioner assessed on the basis that there had been a complete change of purpose. Giles J said:
"... there is nothing inconsistent or illogical about two different but contemporaneous purposes. A property developer obviously intends to sell but if the market is depressed the property might logically be put to a different purpose for a time; that of rental accommodation."
Subsequently his Honour spoke of the original purpose of making taxable supplies continuing but the flats simultaneously being used for another purpose.
31. Subsequently, his Honour's decision was followed by Panckhurst J in
Commissioner of Inland Revenue v Carswell Investments Ltd 
32. I entirely agree that there is nothing inconsistent or illogical about two different but contemporaneous purposes. But it seems to me that these cases do not assist the applicant for two reasons.
33. First, in Morris it was found that the flats were always available for sale. I cannot, on the evidence of the directors, reach the same conclusion in this matter. There were no overt acts demonstrating the fact that the apartments were available for sale and the evidence of the directors, set out above, demonstrates that the intention was not to sell in the short term. The intention to sell was predicated upon the market reaching a level where the capital growth could be realised.
34. Additionally, the language of the statute focuses upon the present application during the period of time made relevant by Subdivision 129-B of the GST Act. The method statement in s 129-40 of the Act directs attention to "the extent (if any) to which you have applied the thing acquired ... for a credible purpose". Whilst "apply" is defined in s 129-55 of the GST Act it is defined inclusively. But what seems to me of greatest importance is the tense used in the method statement; it refers to "have applied".
35. During the period in question the goods and services referable to the 22 apartments were not applied for the creditable purpose of selling merely because the holding company had an intention to sell at some time in the future. The application during this period was entirely for a non-creditable purpose. Whilst I can accept that the holding company held the intention to sell at some time in the future I do not regard the holding of that intention, without more, as amounting to an application of the goods and services.
36. It is unnecessary to determine whether the position would be any different where attempts were made to sell a property contemporaneously with the rental of a property. The present is not such a case.
ATC 190It follows that I would vary the objection decision of the GST liability to give effect to the Commissioner's re-calculation i.e. by reducing the liability to $137,140.00. The objection decision relating to the penalty assessment ought be set aside and a decision substituted that that objection be allowed in full.