Edited version of private ruling

Authorisation Number: 1011715831476

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Ruling

Subject: Subdivision

Question

Will the subdivision of land constitute a mere realisation of real property or a profit making undertaking?

Answer: The disposal would be considered a mere realisation of real property.

This ruling applies for the following period

1 July 2011 to 30 June 2012.

The scheme commenced on

1 July 2011.

Relevant facts

The taxpayer purchased a property a number of years ago and operated a business from it. The taxpayer has resided on the property since its purchase. The business will cease.

Some years earlier, the taxpayer sub-divided a property elsewhere. It included his main residence. Originally that property was subdivided into two parcels. He sold one and retained the other as his main residence. He has not subdivided any other land.

The Development Application (DA) involves subdivision into several lots. The taxpayer intends to retain his current residence and continue to live there, keep another lot in case he wants to build a new house in the future and two other lots to present as gifts to his children.

The taxpayer:

· Will not build anything on the land or perform works beyond the minimum amount necessary to satisfy the DA

· Has no formal business plan

· Hopes to be able to sell the lots from the middle of next year

· Has no business organisation for the sub-division and has no office, secretary or letterhead in relation to the subdivision activities

· Intends to use consultants and contractors to perform the subdivision activities and will take a passive role

· Engaged professional surveyors to survey the land and prepare the DA and engineers to provide consulting and project management services

· Will need to borrow funds to finance the subdivision activities as a new loan

· Intends to market the land for sale through local real estate agents

· Has not claimed expenses in relation to the current subdivision as deductions for income tax expenses

· Has not claimed any input tax credits in relation to the subdivision for GST purposes.

Relevant legislative provisions

Section 6-5 Income Tax Assessment Act 1997

Section 15-15 Income Tax Assessment Act 1997

Does Part IVA apply to this ruling?

Part IVA of the Income Tax Assessment Act 1936 (ITAA 1936) is a general anti-avoidance rule that can apply in certain circumstances if you or another taxpayer obtains a tax benefit in connection with an arrangement and it can be concluded that the arrangement, or any part of it, was entered into or carried out by any person for the dominant purpose of enabling a tax benefit to be obtained. If Part IVA applies the tax benefit can be cancelled, for example, by disallowing a deduction that was otherwise allowable.

We have not fully considered the application of Part IVA of the ITAA 1936 to the arrangement you asked us to rule on, or to an associated or wider arrangement of which that arrangement is part. If you want us to rule on whether Part IVA applies we will first need to obtain and consider all the facts about the arrangement which are relevant to determining whether Part IVA may apply.

For more information on Part IVA, go to our website www.ato.gov.au and enter 'part iva general' in the search box on the top right of the page, then select: Part IVA: the general anti-avoidance rule for income tax.

Reasons for decision

Unless otherwise stated, all legislative references in the following Reasons for Decision are to the Income Tax Assessment Act 1997.

Question

Summary

The subdivision represents the mere realisation of real property, carried out in an enterprising way so as to secure the best price. Consequently, the profit derived from the subdivision and sale of the land by the taxpayer is not assessable income under section 6-5 of the ITAA 1997.

Detailed reasoning

Section 6-5 includes in your assessable income, where you are an Australian resident, all ordinary income which you derive during an income year. Ordinary income is defined as income according to ordinary concepts.

Ordinary income generally includes income that arises in the ordinary course of a taxpayer's business. However, in certain circumstances proceeds not within the ordinary course of the taxpayer's business may form part of their ordinary income.

In the present case, the taxpayer does not operate as a property developer. The sale of land is outside the ordinary course of the activities from which the taxpayer derives income. Therefore, the activity would be best described as an isolated transaction. Whether the proceeds of that transaction constitute assessable income depends on a number of factors.

The principle has been established that profits arising from an isolated business or commercial transaction will be ordinary income if the taxpayer's purpose or intention in entering into the transaction is to make a profit, even though the transaction may not be part of the ordinary activities of the taxpayer's business (FC of T v. Myer Emporium Ltd 1987 163 CLR 199; 87 ATC 4363; 18 ATR 693) (Myer Emporium).

Taxation Ruling TR 92/3 discusses the application of the principles outlined in the Myer Emporium case and provides guidance in determining whether profits from isolated transactions are ordinary income and therefore assessable under section 6-5. According to Paragraph 1 of TR 92/3, the term isolated transactions refers to:

· those transactions outside the ordinary course of business of a taxpayer carrying on a business, and

· those transactions entered into by non business taxpayers.

Paragraph 8 of the ruling explains that it is not necessary that the intention or purpose of profit-making be the sole or dominant intention or purpose for entering into the transaction. It is sufficient if profit-making is a significant purpose.

Paragraph 15 of TR 92/3 provides that if a taxpayer makes a profit from a transaction or operation, that profit is income if the transaction or operation is not in the course of the taxpayers business but

· the intention or purpose of the taxpayer in entering into the profit-making transaction or operation was to make a profit or gain, and

· the transaction or operation was entered into, and the profit was made, in carrying out a business operation or commercial transaction.

Whether an isolated transaction is business or commercial in character will depend on the circumstances of each case.  Casimaty v FC of T 97 ATC 5135; (1997) 37 ATR 358 (Casimaty's case) and McCorkell v FC of T 98 ATC 2199; (1998) 39 ATR 1112 (McCorkell's case) demonstrate that in circumstances where there is an absence of profit making intention when farming land is acquired, the likelihood of any profit made on the eventual sale of land being income according to ordinary concepts is greatly diminished.

However, as mentioned above, profits on the sale of subdivided land can still be income according to ordinary concepts within section 6-5, or as a profit making undertaking or plan within section 15-15, if the taxpayer's subdivisional activities have become a separate business operation or commercial transaction.

The Commissioner's guidelines in this regard are set out in paragraph 13 of TR 92/3. Paragraph 13 lists the following factors as relevant:

(a) the nature of the entity undertaking the operation or transaction

(b) the nature and scale of other activities undertaken by the taxpayer

(c) the amount of money involved in the operation or transaction and the magnitude of the profit sought or obtained

(d) the nature, scale and complexity of the operation or transaction

(e) the manner in which the operation or transaction was entered into or carried out

(f) the nature of any connection between the relevant taxpayer and any other party to the operation or transaction

(g) if the transaction involves the acquisition and disposal of property, the nature of that property, and

(h) the timing of the transaction or the various steps in the transaction.

Miscellaneous Taxation Ruling MT 2006/1 discusses inter alia the appropriate treatment of isolated transactions and sales of real property. At paragraph 265 it lists the factors which give an indication that a business or an adventure or concern in the nature of trade is being carried on in respect to property transactions. They are:

· 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.

In applying these principles to the present case, the facts which have been considered are, in précis:

The taxpayer acquired the property with the intention of utilizing it in carrying on his normal business.

· The land has been held for a number of years

· The taxpayer had subdivided and sold a previous property

· The taxpayer intends to perform the minimum works required to satisfy the DA and generally will leave the conduct of the subdivision in the hands of relevant specialists

· The taxpayer's normal business will cease at the time that the subdivision occurs

· The taxpayer will need to borrow funds to meet the cost of the subdivision.

The present case can be compared to both Casimaty and McCorkell. In Casimaty, the conclusion was primarily influenced by the fact that the taxpayer acquired and continued to hold his property for use as a residence and the conduct of primary production for more than twenty years. Apart from the activities necessarily undertaken to obtain approval from time to time for subdivision of parts of the property, there was nothing to suggest a change in the purpose or object with which the property was held, namely primary production. In McCorkell, the property had been in the family and used for primary production purposes at least as far back as the taxpayer's birth in 1917.

It is typically difficult to apply a blanket rule to sub-division cases and, as a consequence, each case needs to be decided on its own particular circumstances. Having regard to the length of time that the property has been held and the use to which it has been put throughout the period of ownership, the evidence is consistent with the taxpayer not being in the business of property development. The details of the subdivision are also consistent with a finding that the taxpayer did not enter into the enterprise with the intention of making a profit through an isolated transaction.

At the same time, the costs of the subdivision are quite substantial and the taxpayer has taken out considerable borrowings in order to meet those costs. Those facts are not inconsistent with the possibility that the transaction is more than mere realisation of an existing asset.

The effect of the earlier subdivision also needs to be considered. That earlier activity does not, of itself, transform the nature of the present undertaking unless it could be argued that the transactions taken together might represent a profit-making pattern, even if each disposal viewed in isolation does not. However, having regard to the length of time between the two undertakings and the facts available in respect of both, the two subdivisions could not be held to constitute a pattern of income-earning activity.

Having regard to those conclusions, on balance it would seem that the subdivision is not being undertaken on a sufficient scale nor with the profit-making intention to characterize it as a commercial undertaking. It represents the mere realisation of real property, carried out in an enterprising way so as to secure the best price. Consequently, the profit derived from the subdivision and sale of the land by the taxpayer is not assessable income under section 6-5 or any other provision of the ITAA 1997.

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