Edited version of private ruling

Authorisation Number: 1011522369374

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Subject: Goods and service tax (GST) and the sale of property

Question:

Are you liable for the goods and services tax on the sale of the unfinished house, and are you eligible to claim input tax credits in relation to its construction?

Answer:

No, you will not be liable for GST on the sale of the unfinished house and you will also not be eligible to claim input tax credits in relation to its construction.

Relevant facts:

You are a married couple.

One spouse has worked as a self-employed professional for many years, and is registered for GST in relation to their professional practice.

The other spouse is an employee.

Our records show that there is no GST registration for either spouse:

(a) as trustees of their superannuation fund

(b) as a partnership, or

(c) with the trustees of the superannuation fund under an agreement.

The self-employed spouse has been giving careful consideration to the finance for their retirement..

As a consequence of these considerations, they realised that there was insufficient revenue to fund their retirement, and began contributing more to their superannuation fund.

In yyyy they established a self managed superannuation fund following consultations with legal advisers and advice from their accountant.

In yyyy the self-employed spouse began practicing from home.

They purchased their home in yyyy.

In an attempt to increase the assets held for their retirement, they decided to subdivide the land around their private home to create a new block on which to construct a new dwelling, with the intention to rent out the dwelling.

It was their intention to use this rent as a guaranteed source of income to fund their retirement.

It was deemed impractical to finance this subdivision and development of the land by borrowing funds.

After obtaining professional legal and accounting advice, they decided that they would provide the land for this development, and the superannuation fund (the parties) would provide the finance for construction of the new residence under a legal agreement.

This course of action removed the need to borrow funds to finance the building of the dwelling.

The agreement between them and the trustees of the superannuation fund was put into place yyyy.

The only other asset of the superannuation fund has been cash in a bank account.

The rental income from the dwelling would then be banked into a bank account and then distributed between the parties in agreed proportions.

When the land subdivision had taken place, arrangements were made with the builder to commence work.

Construction was scheduled to commence on a certain date, but began later than scheduled.

Almost from the start of construction, there were ongoing disputes with the builder about the construction of the dwelling, including:

· construction of the wrong façade due to the use of the wrong plans

· structural faults

· guttering faults

· facia and roof design faults

· placing the external hot water service in the wrong location and so blocking a back passage, and

· extensive damage to a well established pine tree fence.

These disputes resulted in the threat of legal action from the builder, following which a compromise was reached, and a go slow campaign by the builder, with protracted periods between tradesmen arriving, and only one tradesman being on site at a time.

As a result of the protracted problems in the construction of the dwelling, there has been a decline in the health of one spouse.

Construction of the dwelling was finished eleven months after the target date for completion.

On completion of the contract with the builder a number of fixtures had yet to be completed, including the carport, back veranda, driveway, paving around the house, fencing, landscaping, flooring, air conditioning, and other internal features.

Further time elapsed in engaging contractors to complete these fixtures, as the builder did not recommend or introduce contractors to the parties.

A further dispute ensued with the contractor engaged to complete the carport and veranda, as they made errors and did not adhere to building regulations. This task took over six months to complete.

The self-employed spouse also experienced financial difficulties during the construction of the dwelling, as their earnings did not reach the projected budget.

As their earnings did not reach the budgeted level, the completion of the unfinished fixtures is still underway.

Given the uncompleted nature of the dwelling the parties decided not to rent out the property to cover costs, as they believed the discounted rent would attract a tenant who would not take care of the property.

The budgeted construction costs of the dwelling were $xxxx.

To date the expenditure on construction of the dwelling has been greater than anticipated.

It is estimated that substantial additional fund are required to complete the dwelling.

Although it has not been finished, the dwelling is habitable.

However, the dwelling has not been used as a residence.

The parties now wish to sell the partly finished dwelling in its current state due to the difficulties experienced in construction of the dwelling, the age of one spouse, and the deteriorating health of both spouses.

The property will be sold through an agent.

The proceeds realised from this planned sale are to be distributed among the parties according to the agreement.

The proceeds realised will then be used to pay for the pension of the superannuation fund members.

The anticipated proceeds from the sale are in excess of $xx.

The parties have not claimed any input tax credits for GST paid on the construction of this dwelling or the subdivision of the land.

This is the first time the parties carried out such an endeavour.

Reasons for decision

You make a taxable supply under section 9-5 of the A New Tax System (Goods and Services Tax) Act 1999 (GST Act) Act if you make a supply for consideration, the supply is made in the course or furtherance of an enterprise that you carry on, the supply is connected with Australia, and you are registered or required to be registered for GST.

However, the supply is not a taxable supply to the extent that it is GST-free or input taxed.

As co-owners of property, the spouses have entered into an agreement with the trustees of the superannuation fund. Under this agreement they decided that they would provide the land for this development, and the superannuation fund would provide the finance for construction of the house. It was also agreed that the house will be rented and the proceeds being divided between the parties.

In selling this land with the partly completed house on it, the parties to the agreement will be making a supply for consideration. Further, this supply is connected with Australia. Therefore two of the four requirements of a taxable supply are met.

To ascertain whether or not there is a GST liability on the sale of the house, it must first be determined whether the parties under the agreement are carrying on an enterprise for GST purposes and whether or not they are required to be registered for GST.

Are you carrying on an enterprise?

The term 'enterprise' is defined in section 9-20 of the GST Act so as to include an activity or series of activities done:

in the form of a business; or

in the form of an adventure or concern in the nature of trade.

Miscellaneous Taxation Ruling MT 2006/1: the meaning of entity on an enterprise for the purposes of entitlement to an Australian Business Number, considers the meaning of the term enterprise. Goods and Services Tax Determination GSTD 2006/6: does MT 2006/1 have equal application to the meaning of 'entity' and 'enterprise' for the purposes of the A New Tax System (Goods and Services Tax) Act 1999 provides that the principles in MT 2006/1 can be relied upon for GST purposes.

Paragraphs 6 and 11 to 14 of GSTD 2006/6 state the following:

What is an enterprise?

6. An enterprise is defined as an activity or series of activities done in a certain manner or by certain entities. The activities covered include those done in the form of a business or an adventure or concern in the nature of trade, leasing on a regular or continuous basis…

In the form of a business

11. An enterprise includes an activity, or series of activities, done in the form of a business. The phrase 'in the form of a business' is broad and has as its foundation the longstanding concept of a business. The wider phrase has not been considered by Australian courts. The definition clearly includes a business and the use of the phrase 'in the form of' indicates a wider meaning than the word 'business' on its own. This occurs in the case of non-profit entities. In such instances we consider that not all of the main features of a business such as a capacity to earn and distribute profits need to be present before an activity has the form of a business.

12. The definition of 'business' in section 195-1 is the same as that used in subsection 6(1) of the Income Tax Assessment Act 1936 and in section 995-1 of the ITAA 1997. It follows that the meaning of 'business' should be interpreted in a similar way. As such, it is appropriate to refer to Taxation Ruling TR 97/11 which considers the meaning of 'business'.

In the form of an adventure or concern in the nature of trade

13. An adventure or concern in the nature of trade includes a commercial activity that does not amount to a business but which has the characteristics of a business deal. However, the sale of the family home, a private car or other private assets is not, without other factors being present, an adventure or concern in the nature of trade.

14. As a matter of statutory interpretation the phrase 'in the form of an adventure or concern in the nature of trade' is wider than 'an adventure or concern in the nature of trade'. However, the underlying concept of an adventure or concern in the nature of trade does not logically lend itself, in any meaningful way, to being broadened. In a practical sense, an activity is either an adventure or concern in the nature of trade or it is not.

MT 2006/1 states:

159. Whether or not an activity, or series of activities, amounts to an enterprise is a question of fact and degree having regard to all of the circumstances of the case.

160. It is important that the relevant activity or series of activities are identified in order to determine whether an enterprise is being carried on. This is because one activity may not amount to an enterprise but that activity taken into account with other activities may form an enterprise. All activities need to be taken into account including activities from the commencement to the termination of the enterprise.

To determine whether an activity or a series of activities amounts to a business, the activity needs to be considered against the indicators of a business established by case law.

Taxation Ruling TR 97/11 discusses the main indicators of carrying on a business. Based on that discussion some indicators are:

· whether there is a significant commercial activity

· there is a purpose and intention to engage in commercial activity

· an intention to make a profit, and whether the venture is profitable

· the activity is recurrent or regular in nature

· the activity is carried on in a similar manner to that of other businesses in the same trade

· the activity is carried on in a businesslike manner with records being kept

· the activities are of a reasonable size and scale

· there is a business plan

· there are commercial sales of product, and

· the entity has relevant knowledge and skill.

Paragraphs 258-MT 2006/1 continues:

Trade v. investment assets

258. United Kingdom cases categorise assets as either trading assets or investment assets. Assets purchased with the intention of holding them for a reasonable period of time, to be held as income producing assets or to be held for the pleasure or enjoyment of the person, are more likely not to be purchased for trading purposes.

259. Examples of investment assets are rental properties, business plant and machinery, the family home, family cars and other private assets. The mere disposal of investment assets does not amount to trade.

260. Assets can change their character but cannot have a dual character at the same time.

261. Investment assets such as business plant and machinery are used by entities in carrying on a business. The purchase and disposal of those types of assets is ordinarily considered not to be an adventure or concern in the nature of trade for UK income tax purposes.

Isolated transactions and sales of real property

262. The question of whether an entity is carrying on an enterprise often arises where there are 'one-offs' or isolated real property transactions.

263. The issue to be decided is whether the activities are an enterprise in that they are of a revenue nature as they are considered to be activities of carrying on a business or an adventure or concern in the nature of trade (profit making undertaking or scheme) as opposed to the mere realisation of a capital asset…

265. From the Statham and Casimaty cases a list of factors can be ascertained that provide assistance in determining whether activities are a business or an adventure or concern in the nature of trade (a profit-making undertaking or scheme being the Australian equivalent, see paragraphs 233 to 242 of this Ruling). If several of these factors are present it may be an indication that a business or an adventure or concern in the nature of trade is being carried on. These factors are as follows:

· there is a change of purpose for which the land is held;

· additional land is acquired to be added to the original parcel of land;

· the parcel of land is brought into account as a business asset;

· there is a coherent plan for the subdivision of the land;

· there is a business organisation - for example a manager, office and letterhead;

· borrowed funds financed the acquisition or subdivision;

· interest on money borrowed to defray subdivisional costs was claimed as a business expense

· there is a level of development of the land beyond that necessary to secure council approval for the subdivision; and

· buildings have been erected on the land.

266. In determining whether activities relating to isolated transactions are an enterprise or are the mere realisation of a capital asset, it is necessary to examine the facts and circumstances of each particular case. This may require a consideration of the factors outlined above, however there may also be other relevant factors that need to be weighed up as part of the process of reaching an overall conclusion. No single factor will be determinative rather it will be a combination of factors that will lead to a conclusion as to the character of the activities.

As noted above, under the agreement, the parties' original purpose was to subdivide the land on which the private home of the spouses stands and construct a new house on the subdivided block with the intention of renting out the house.

Therefore, according to the information provided, under the agreement, the parties' intention was to carry on subdivision and construction activities for financial gain, with the profits distributed between them. On that basis it can be said that there was a purpose and intention on the part of the parties to engage in commercial activity and an intention to make a profit.

In addition, there was a change of purpose for which the spouses held a portion of their land (previously held for private purposes) when the subdivided block was brought into account as a business asset. This represents a coherent plan for subdivision of the land.

Further, there has been a business plan in place since the inception of this activity as the parties employed a builder and other tradespeople, and obtained professional legal and accounting advice in undertaking this activity. Thus this activity is carried on in a similar manner to that of other businesses in the same trade.

On the basis of these facts the parties under the agreement are regarded as carrying on an activity in the nature of trade, and as such an enterprise is being carried on for GST purposes. Therefore a third requirement of a taxable supply is met.

Capital asset

GSTR 2001/7 deals with the meaning of GST turnover, including the effect of section 188-25 of the GST Act on projected GST turnover. The meaning of 'capital asset' is discussed in paragraphs 31 to 36 of GSTR 2001/7.

The GST Act does not define the term 'capital assets'. However, GSTR 2001/7 explains that generally, the term 'capital assets' refers to those assets that make up the profit yielding subject of an enterprise. They are often referred to as structural assets and may be described as the business entity, structure or organisation set up or established for the earning of profits.

'Capital assets' can include tangible assets such as your factory, shop or office, your land on which they stand, fixtures and fittings, plant, furniture, machinery and motor vehicles that are retained by you to produce income. 'Capital assets' can also include intangible assets, such as your goodwill.

'Capital assets' are radically different from assets which are turned over and bought and sold in the course of trading operations. An asset which is acquired and used for resale in the course of carrying on an enterprise (for example, trading stock) is not a 'capital asset'.  

'Capital assets' are to be distinguished from 'revenue assets'. A 'revenue asset' is an asset whose realisation is inherent in, or incidental to, the carrying on of a business. If the means by which you derive income is through the disposal of an asset, the asset will be of a revenue nature rather than a 'capital asset' even if such a disposal is an occasional or one-off transaction.

Over the period that an asset is held by an entity, its character may change from capital to revenue or from revenue to capital. For the purposes of section 188-25 of the GST Act the character of an asset must be determined at the time of expected supply.

The spouses, under an agreement with the trustees of the superannuation fund, subdivided the land on which their home was situated and built a house on it for rental purposes.

As stated, above in the facts, due to disputes with the builders, lack of funds and health problems there was change of intention and the unfinished house (fixtures still under way) is to be sold.

This is the first time the parties carried out such an endeavour. The nature of the enterprise was to lease out the house and not to trade in properties.

The purpose of building the house was an investment for generating rental income when the spouses retired. The parties have also not claimed any input tax credits on their construction costs.

Under the circumstances, we consider that the sale of the house is a transfer of ownership of a 'capital asset'. As specified by section 188-25 of the GST Act when working out your projected annual GST turnover disregard any supply made, or likely to be made, by you by way of transfer of ownership of a capital asset of yours; and any supply made, or likely to be made, by you solely as a consequence of ceasing to carry on an enterprise; or substantially and permanently reducing the size or scale of an enterprise.

Therefore, the sale proceeds do not form part of the parties' projected GST turnover.

Are you required to be registered for GST?

Under section 23-5 of the GST Act you are required to be registered for GST if you are carrying on an enterprise and your GST turnover meets the registration turnover threshold.

Currently the registration turnover threshold is $75,000 for entities that are not non-profit entities.

However, as stated above, in this case the sale proceeds do not form part of the parties' projected GST turnover. Therefore, the parties will not need to register for GST.

As a result not all of the requirements of a taxable supply have been met. Therefore there will be no GST liability on the sale of the property in question.

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