Edited version of private ruling

Authorisation Number: 1011741123183

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Ruling

Subject: Asset eligibility as an active asset

Issue 1

Question 1

Will the sale of a subdivided vacant parcel of land satisfy the active assets test under section 152-35 of the Income Tax Assessment Act 1997 (ITAA 1997) to be eligible for the 50% reduction concession for small business?

Answer

No.

Question 2

Will the sale of subdivided residential parcel of land satisfy the active assets test under section 152-35 of the ITAA 1997 to be eligible for the 50% reduction concession for small business?

Answer

No.

Issue 2

Question 1

Will the sale of the subdivided vacant parcel of land be included as income for GST turnover purposes and therefore be required to register for GST and pay GST on the sale?

Answer

No.

Question 2

Will the sale of the subdivided residential parcel of land be included as income for GST turnover purposes and therefore be required to register for GST and pay GST on the sale?

Answer

No.

This ruling applies for the following period

Year ending 30 June 2011

The scheme commenced on

1 July 2010

Relevant facts

The taxpayers purchased a property under a joint tenancy in the 200X income year in their capacity as owners of the property and not under a business name.

At the time of purchase, the intention was to farm the vacant land and rent out the established residence on the property.

They borrowed funds for the purchase of the property.

The land purchased is adjacent to their already owned farming land, which they have owned for a number of years.

On the land already owned, the taxpayers conduct a primary production business operation through a family trust. The trust also operates an established roadside shop on the land.

A company is the trustee company of the family trust. The taxpayers are the only shareholders and directors of the company.

The Trust rents the already owned farmland and shop as well as the new property purchased in 200X, except for the established residential house, from the taxpayers in their own capacity as owners of the properties. The trust pays rent to the taxpayers.

Due to the rent being received in respect of the commercial properties, the taxpayers applied for an ABN for a partnership. However, the partnership does not trade.

The commercial properties being referred to include the land for farming and shop on the land already owned as well as the new property acquired in 200X.

Our records show that the taxpayers declare their portion of the rent income in their individual income tax return.

During the five-year ownership of the purchased property, it has been principally used to farm fruit trees, which is rented by the Trust in the retail and primary production business.

The established house on the property has been rented for residential purposes to unrelated parties.

The taxpayers have now decided to subdivide the new property to repay part of their debts. They will divide the property into several parcels of land and have lodged the request to the council.

Of these parcels of land, the taxpayers will hold several parcels for long-term farming. The rest of the parcels will be up for sale.

Of those parcels of land for sale, one is a one-acre parcel that is vacant, and the other parcel is a 1.2-acre parcel, which has an established residential house that is being rented out

To date, we are advised that less than half of these parcels are being farmed with fruit trees.

The taxpayers have never been involved in property development and have never previously subdivided land. They have not marketed this property for sale, but have been approached by interested parties wishing to purchase part of their property.

The property has been reviewed for a rural rating by the council and is satisfied that it is being farmed.

The taxpayers have engaged a town planner to get the subdivision project through the council approval process and subcontractors to undertake works on the site to meet council requirements.

The subdivision will be done in one stage to minimise costs.

Relevant legislative provisions

Income Tax Assessment Act 1997 Division 152

Income Tax Assessment Act 1997 Section 152-35

Income Tax Assessment Act 1997 Paragraph 152-40(1)(a)

Income Tax Assessment Act 1997 Paragraph 152-40(1)(b)

Income Tax Assessment Act 1997 Subsection 152-40(4)

Income Tax Assessment Act 1997 Paragraph 152-40(4)(e)

Income Tax Assessment Act 1997 Section 152-205

A New Tax System (Goods and Services Tax) Act 1999 Section 9-40,

A New Tax System (Goods and Services Tax) Act 1999 Section 9-5,

A New Tax System (Goods and Services Tax) Act 1999 Section 23-5

A New Tax System (Goods and Services Tax) Act 1999 Section 40-65,

A New Tax System (Goods and Services Tax) Act 1999 Section 40-75,

A New Tax System (Goods and Services Tax) Act 1999 Section 9-20,

A New Tax System (Goods and Services Tax) Act 1999 Section 23-5,

A New Tax System (Goods and Services Tax) Act 1999 Section 188-10 and

A New Tax System (Goods and Services Tax) Act 1999 Division 72

Reasons for decision

Issue 1

Questions 1 and 2

Active Asset

For the small business concessions in Division 152 of the ITAA 1997 to apply to further reduce or disregard a capital gain, the basic conditions in Subdivision 152-A of the ITAA 1997 must be satisfied.

The relevant basic condition to your circumstances is that the CGT asset must satisfy the active asset test.

This condition requires that the active asset test in section 152-35 of the ITAA 1997 is satisfied. This test is satisfied if:

a) you have owned the asset for 15 years or less and the asset was an active asset of yours for a total of at least half of the period detailed below, or

b) you have owned the asset for more than 15 years and the asset was an active asset of yours for a total of at least 7 1/2 years during the period detailed below:

The period:

a) begins when you acquired the asset, and

b) ends at the earlier of:

i. the CGT event, and

ii. if the relevant business ceased in the 12 months before the CGT event (or such longer time as the Commissioner allows) when the business ceased.

Under paragraph 152-40(1)(a) of the ITAA 1997, a CGT asset is an active asset at a given time if, at that time, you own it and:

§ it is used (or held ready for use) in the course of carrying on a business by you, a small business CGT affiliate of yours or an entity connected with you, or

§ it is an intangible asset that is inherently connected with a business you carry on (paragraph 152-40(1)(b) of the ITAA 1997).

Certain assets are, however, excluded from being active assets under subsection 152-40(4) of the ITAA 1997.

Paragraph 152-40(4)(e) of the ITAA 1997 excludes, among other things, assets whose main use is to derive rent (unless such use was only temporary). Such assets are excluded even if they are used in the course of carrying on a business. Whether an asset's main use is to derive rent will depend on the particular circumstances of each case.

Conclusion

In this case, the taxpayers' family trust is the one conducting a business of farming the land and resale of the farm produce through a roadside shop in their already owned property. The Trust rents this property from the taxpayers, who then collects the rents in turn. In 200X, the taxpayers purchased the adjacent property under a joint tenancy agreement. The Trust is now also renting this new property from the taxpayers and using the land for farming purposes.

The taxpayers have now decided to sub-divide the land purchased in 200X as they wish to repay part of their debt. The land will be divided into several parcels of land. They engaged a town planner and subcontractors who they entrusted to undertake the work on the site to meet council requirements.

With the subdivision of the property into several parcels of land, the taxpayers have decided to keep some parcels of land for long-term farming and sell the other rest. Of these for sale, one is a one acre vacant land and the other is a 1.2 acre land with an established residential house that has been rented by unrelated parties for the period of ownership.

To date, less than half of theses parcels of land are being farmed with fruit trees.

Therefore, the vacant land for sale was never used for business purposes and that no farming activities have been carried out on the land.

As the vacant land has not satisfied the active asset test under paragraph 152-40(1)(a) of the ITAA 1997, they are not entitled to the CGT small business 50% reduction concessions under Subdivision 152-C (section 152-205 of the ITAA 1997) for the disposal of this asset.

The same applies to the parcel of land with a residential house. The asset does not satisfy the active asset test under paragraph 152-40(1)(a) of the ITAA 1997, as the property has been rented out for the whole ownership period. The property has been excluded as an active asset under paragraph 152-40(4)(e) of the ITAA 1997 as the assets main use was to derive rent.

Issue 2

Questions 1 and 2

Sales of a subdivided vacant land

GST is payable on a taxable supply. You make a taxable supply where the transaction satisfies all the requirements of section 9-5 of the A New Tax System (Goods and Services Tax) Act 1999 (GST Act).

Under section 9-5 of the GST Act, you make a taxable supply if:

a) you make the supply for consideration; and

b) the supply is made in the course or furtherance of an enterprise that you carry on; and

c) the supply is connected with Australia; and

d) you are registered, or required to be registered.

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

The facts indicate that the sale of the land satisfy the requirements under paragraphs 9-5(a) and 9-5(c) of the GST Act as the supplies that they make are for consideration and the properties are located in Australia respectively.

Therefore, we need to consider:

§ whether the sales of the subdivided lots of land are in the course or furtherance of an enterprise that they carry on (paragraph 9-5(b) of the GST Act), and

§ whether they are required to be registered for GST (paragraph 9-5(d) of the GST Act).

Are you carrying on an enterprise?

The definition of an enterprise in section 9-20 of the GST Act includes (amongst other things) an activity or series of activities, done:

§ in the form of a business

§ in the form of an adventure or concern in the nature of trade, or on a regular or continuous basis, in the form of a lease, license or other grant of an interest in property.

The meaning of enterprise is considered in Miscellaneous Taxation Ruling MT 2006/1: the meaning of entity carrying on an enterprise for the purposes of entitlement to an Australian Business Number, and Goods and Services Tax Determination GSTD 2006/6: does MT2006/1 have equal application to the meaning of 'entity' and 'enterprise' for the purposes of the GST Act. The principles outlined in these rulings have been applied in this case.

Paragraph 10 of GSTD 2006/6 provides that 'an activity or series of activities' means any act or series of acts that an entity does. The acts can range from a single act or undertaking, to groups of related activities, to the entire operations of the entity. Therefore, an enterprise can incorporate a single or one-off transaction such as the acquisition, subdivision and sale of real property.

The term business ordinarily would encompass a trade that is engaged in, on a regular or continuous basis, while an adventure or concern in the nature of trade may be an isolated or one-off transaction and includes a commercial activity that does not amount to a business but which has the characteristics of a business deal.

In this circumstance, the taxpayers advised that the activities represent a 'once off' transaction on the land that they had purchased, and not the beginning of an on-going land development business. Based on these facts, it is considered that their activities are not carried out in the form of a business.

As their activity of subdivision and sales of the parcels of land is an isolated transaction, it is necessary to consider whether the subdivision and sales of the subdivided land is a transaction with a commercial flavour that is in the form of an adventure or concern in the nature of trade.

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

Paragraph 13 of GSTD 2006/6 explains that 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. Isolated transactions with a commercial flavour are included in this category. Such transactions are of a revenue nature.

Paragraphs 262 to 302 of MT 2006/1 specifically consider isolated transactions and sales of real property. Paragraph 263 of MT 2006/1 states that the issue to be decided is whether the activities are an enterprise, in that they are of a revenue nature, as opposed to the mere realisation of a capital asset.

Certain factors listed at paragraph 265 of MT 2006/1 can be used as indicators of whether or not there is an activity done in the form of a business or in the form of an adventure or concern in the nature of trade. These factors include whether:

§ 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 borrowed to defray subdivisional costs was claimed as a business expense,

§ there is a level of development of the land beyond that necessary for council approval for the subdivision, and

§ buildings have been erected on the land.

In determining whether activities relating to isolated transactions are an enterprise or the mere realisation of a capital asset, it is necessary to examine the facts and circumstances of each case. No single factor will be determinative. It will be the combination of factors that will lead to the conclusion as to the character of the activities.

Paragraphs 258 to 260 of MT 2006/1 provide that certain type of assets, such as rental properties, business plant and machinery, the family home, family cars and other assets are considered as investment assets. These assets are purchased with the intention of being held for a reasonable period of time, as income-producing assets or for the pleasure or enjoyment of the person. The mere disposal of these investment and private assets does not amount to trade.

Assets can change their character from investment to trade, however these assets cannot be held at the same time for both purposes. Where a property that was not acquired for resale at a profit later becomes the subject of subdivision, it is necessary to consider whether the activities have a commercial flavour and whether the nature of the asset changes to one of trade.

From the facts, the taxpayers purchased the parcel of land five years ago. They purchased the land with the intention to farm and rent the established residential house on the property. However, they are not the one operating the farming business. Rather, it is their Family Trust that is operating the business of primary producing and retailing the produce of the farm. The trust is renting and paying the rent to the taxpayers in their capacity as owners for the use of the land. To date, only parts of the land have fruit trees growing on the land.

The taxpayers decided to subdivide the property so they can repay part of their debts. They did not market the property for sale but have been approached by interested parties wishing to buy part of the property.

On the basis of these facts and taking into consideration all the factors, it is considered that the subdivision and sales of the subdivided lots of land is the mere realisation of a capital asset, and that they are not carrying on an enterprise. Therefore, the sales of the subdivided lots of land do not satisfy the requirements of paragraph 9-5(b) of the GST Act. Accordingly, as all the requirements of section 9-5 of the GST Act are not satisfied, this sale of land is not a taxable supply.

Since the sale of the subdivided vacant land do not satisfy the requirements of paragraph 9-5(b) of the GST Act, there is no need to consider if they are required to be registered under paragraph 9-5(d) of the GST Act in relation to this sale.

The subdivision and sale of the subdivided parcel of land are not made in the course or furtherance of an enterprise because it is the mere realisation of a capital asset, and therefore the sale do not satisfy all the requirements of a taxable supply under section 9-5 of the GST Act.

Input taxed supply of residential premises by way of sale

Subsection 40-65 (1) of the GST Act provides that a sale of real property is input taxed but only to the extent that the property is residential premises to be used predominantly for residential accommodation.

Further, subsection 40-65(2) of the GST Act provides that the sale of real property is not input taxed to the extent that the residential premises are commercial residential premises or new residential premises other than those used for residential accommodation before 2 December 1998.

The term residential premises is defined in section 195-1 of the GST Act to mean land or a building occupied or intended to be occupied as a residence or for residential accommodation, regardless of the term of occupation or intended occupation and includes a floating home.

Goods and Services Tax Ruling GSTR 2000/20: commercial residential premises at paragraph 25, provides that the definition of residential premises requires that land must have a building affixed to it and that the building must have the physical characteristics that enable it to be occupied or be capable of occupation as a residence.

Paragraph 19 of GSTR 2000/20 states:

Further, the requirement in paragraph 40-35(2)(a) and subsection 40-65(1) that input taxing only applies to the extent that the premises are to be used predominantly for residential accommodation indicates that premises that are residential premises are capable of use for purposes other than residential accommodation. It is their physical characteristics that mark them out as a residence. In turn, these characteristics determine when the use or proposed use is for residential accommodation.

Further, paragraph 26 of GSTR 2000/20 states that the physical characteristics common to residential premises that provide accommodation are:

i. The premises provide the occupants with sleeping accommodation and at least some basic facilities for day to day living.

ii. The premises may be in any form, including detached buildings, semidetached buildings, strata-title apartments, single rooms or suites of rooms within larger premises.

In this case, when the taxpayers purchased the property, it had an established residential house. The property is clearly a residential premises to be used predominantly for residential accommodation as it has been rented out to unrelated parties since the acquisition of the property. The purpose of the premises is for rental accommodation.

The property is neither commercial residential premises, nor new residential premises as defined under the GST Act.

Therefore, the supply of residential premises by way of sale is input taxed under section 40-65 of the GST Act. As such, the supply is not subject to GST.

Are you required to be register for GST?

The properties are jointly owned by two individuals, thus we need to establish the entity that is making the supplies before we determine whether that entity is required to be registered for GST.

An entity is defined in subsection 184-1 of the GST Act to include (amongst others) an individual, and a partnership. Co-owners of a property are considered partners in a partnership for income tax law purposes where they are in receipt of ordinary or statutory income jointly. Therefore, the entity will be the partnership of the two individuals.

As you (the partnership) are not registered for GST, it needs to be established whether or not they are required to be registered for GST in relation to the subdivision activities that took place.

Section 23-5 of the GST Act provides that an entity is required to be registered for GST if it is carrying on an enterprise and its GST turnover meets the registration turnover threshold. The registration turnover threshold for entities other than non-profit entities is $75,000.

Section 188-10 of the GST Act provides that your GST turnover meets the registration turnover threshold if:

§ your current GST turnover is at or above $75,000 and the Commissioner is not satisfied that your projected GST turnover is below $75,000; or

§ your projected GST turnover is at or above $75,000.

To decide if the GST turnover meets the turnover threshold, you must examine your current and/or your projected GST turnover. The current GST turnover is the sum of the values of all supplies made in a particular month plus the previous 11 months. The projected GST turnover is the sum of the values of all supplies made in a particular month plus the next 11 months.

In calculating current GST turnover and projected GST turnover, the following supplies (amongst others) are not included in the calculation:

§ supplies that are input taxed (which includes financial supplies, residential rent and sale of residential premises)

§ supplies that are not for consideration

§ supplies that are not made in connection with an enterprise that you carry on

§ supplies that are not connected with Australia.

Paragraph 188-25(a) of the GST Act provides that in working out your projected GST turnover, you disregard any supply made, or likely to be made, by you by way of transfer of ownership of a capital asset. Thus, entities that are not registered for GST are not required to register for GST merely because the sale proceeds of a capital asset is $75,000 or more.

The taxpayers have stated that they consider the property a capital asset. The GST Act does not define the term capital asset. The meaning of 'capital asset' is discussed in Goods and Services Tax Ruling GSTR 2001/7 Goods and services tax: meaning of GST turnover, including the effect of section 188-25 on projected GST turnover. Paragraphs 31 to 36 of GSTR 2001/7 explain that generally, the term capital assets refers to those assets that make up the profit yielding subject of an enterprise.

Capital assets are distinguished from revenue assets. A revenue asset is an asset whose realisation is inherent, 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.

The parcels of land which the taxpayers are selling are capital assets and the proceeds of the sale will not be included in their projected GST turnover.

It follows that their GST turnover will not meet the registration turnover threshold and the taxpayers are not required to be registered for GST.

As you are not registered, nor required to be registered for GST, the sale of the parcels of land will not be a taxable supply.

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