Edited version of your private ruling

Authorisation Number: 1012526364287

Ruling

Subject: Land subdivision by executor of deceased estate

Questions and Answers:

1. Did a CGT event occur under the former equivalent of Part 3-3 of the Income Tax Assessment Act 1997 (ITAA 1997), upon the disposal in the1990s of the legal title to, but not the equitable interests in, certain pre-CGT land ("the Land"), to a property developer, to be held on trust absolutely for the transferor, pending subdivision, following which the legal title to that land, once subdivided, was to be reconveyed to the transferor?

No.

2. Does your process of subdivision and development your land, for sale, constitute the carrying of an enterprise for the purposes of the A New Tax System (Goods and Services Tax) Act 1999 ("GST Act")?

Yes.

3. Is your disposal of your subdivided land properly accounted for on capital account, under Part 3-3 of the ITAA 1997?

No.

4. Is your disposal of your subdivided land properly accounted for on revenue account, under section 6-5 of the ITAA 1997?

Yes.

5. Is your proposed disposal of land, for nil consideration, in settlement of a legal dispute, a CGT event, to which sections 104-25 and 116-30 of the ITAA 1997 apply?

No.

This ruling applies for the following period:

Year ended 30 June 2013

The scheme commences on:

1 July 2012

Relevant facts and circumstances

You are the executor of the deceased estate. Within the last decade, the deceased, who was the owner of pre-CGT land, passed away. The land was farmed by them at all times.

During the 1990s, the deceased sold their land, save for a portion of land, to be held on trust for the deceased, by the property developer, pending completion of the subdivision. Thereafter, the portion of land was returned to the deceased, upon which they continued to carry on their farming enterprise, until their death.

Several months after your receipt of probate, you entered into an agreement with a third party to subdivide the remaining land of the deceased. As described in that agreement, you were a passive participant in the subdivision process. The works done on your behalf were no more than were required in order to enable subdivision and sale of the lots on a "mere realisation" basis.

A dispute also arose with the former developer of the land, who under the 1990s agreement, had first right of refusal in relation to the sale of the land by the deceased or his estate. This dispute was settled, with your transferring to the former developer one of the subdivided lots. You also received compensation for this loss, from your solicitor, in relation to claims made against them.

Relevant legislative provisions

Income Tax Assessment Act 1936 Section 160M

Income Tax Assessment Act 1997 Section 104-10

Income Tax Assessment Act 1997 Section 104-55

Income Tax Assessment Act 1997 Section 102-25

Income Tax Assessment Act 1997 Section 6-5

Income Tax Assessment Act 1997 Section 8-1

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

Reasons for decision

Summary

In the 1990s, a CGT event, specifically the former equivalent of CGT event E1, did not happen because this CGT event does not happen if you are the sole beneficiary of the trust and you are absolutely entitled to the asset as against the trustee.

Your process of subdivision and development of your land, for sale, is part of an isolated commercial transaction, accounted for on revenue account, and is not the mere realisation of a capital asset because you, as Trustee, are not realising old assets but, instead, as a new controlling mind, have made the decision to develop new assets.

Your case is similar to the High Court of Australia case of Official Receiver v. Federal Commissioner of Taxation (1956) 96 CLR 370; 30 ALJ 607; 11 ATD 119 (Fox's Case), where it was judged the land development of an executor fell on revenue account because the executor went beyond the duty placed upon him (as an executor) and adopted a set plan with a view of securing from the ultimate sale of the land a much greater net return than otherwise could be expected.

As your subdivision, for sale, is part of an isolated commercial transaction, it constitutes the carrying of an enterprise for the purposes of the GST Act.

Your proposed disposal of land, for nil consideration, in settlement of a legal dispute, is not a CGT event because, when you decided to develop the land, it ceased to be a CGT asset.

Your proposed disposal of land, for nil consideration, in settlement of a legal dispute, will simply be a loss of, or reduction in your sales proceeds. The compensation received by you, in respect to the professional negligence of your solicitor, will represent compensation for the loss of, or reduction in your sales proceeds and will therefore be assessable income under section 15-30 of the ITAA 1997.

Detailed reasoning

Creation of trust over land in the 1990s

Section 104-10 of the ITAA 1997 provides CGT event A1 happens if there is a disposal of a CGT asset. However, a change of ownership does not occur if an entity stops being the legal owner of the asset but continues to be its beneficial owner.

Section 104-55 of the ITAA 1997 provides CGT event E1 happens if you create a trust over a CGT asset by declaration or settlement. However CGT event E1 does not happen if you are the sole beneficiary of the trust and (a) you are absolutely entitled to the asset as against the trustee (disregarding any legal disability); and (b) the trust is not a unit trust.

The former equivalent to CGT event E1 was subsection 160M(3) of the Income Tax Assessment Act 1936, which was applicable to the relevant year and was an equivalent provision in its effect.

Taxation Determination TD 2004/13, which is about CGT event E1, provides, for CGT event E1 to happen, the elements must exist for a trust to come into existence, namely, certainty of intention to create a trust, terms, subject matter (the property) and objects (the person to benefit).

Subsection 102-25(1) of the ITAA 1997 provides if more than one CGT event happens in respect of a transaction, the most specific event is to be used. For example, where an asset is transferred to a trust, of which the transferor or an associate is a beneficiary or object, the ruling in ATO ID 2003/559 provides CGT event E2 (rather than CGT event A1) will be the most specific event.

In your case, in the 1990s, a trust over the relevant land was intentionally created by declaration or settlement. Therefore, the former equivalent to CGT event E1 was the most specific event. As the deceased was absolutely entitled to the asset, as against the trustee, the exception in the former equivalent to section 104-55 of the ITAA 1997 provided a CGT event did not happen.

Subdivision of Lot 67

In the Federal Court of Australia case of Casimaty v Federal Commissioner of Taxation 97 ATC 5135 (Casimaty), the legal principles in relation to the subdivision of land were discussed at length, the outcome of which was the subdivision of the taxpayer being held to be the mere realisation of an capital asset on capital account.

At 97 ATC 5142, a simple description of a mere realisation of a capital asset on capital account was quoted as: "liquidating or realising the old assets".

In its concluding remarks, the Federal Court discussed the concept of 'a change in the purpose or object' of the relevant land, where it distinguished the taxpayer's (capital) case from other (revenue) cases, where a change in purpose had actually occurred, as follows:

In coming to that conclusion, I have been influenced primarily by the indisputable fact that he acquired and continued to hold "Acton View" for use as a residence and the conduct of the business of a primary producer. Apart from the activities necessarily undertaken to obtain approval from time to time for subdivision of parts of the property, there is nothing to suggest a change in the purpose or object with which "Acton View'' was held.

In this respect, the present is to be contrasted with those cases in which particular circumstances provided an occasion for imputing to the landholder a change of purpose. In Whitfords Beach those circumstances were the passing of control of the landholding company from the owners of the fishing shacks to the three development companies. In Official Receiver v Federal Commissioner of Taxation (Fox's Case) the critical circumstance was that control of the land passed to the Official Receiver who sought the instructions of the creditors as to whether he should dispose of the land in its undeveloped state or undertake its extensive development to increase the return to the creditors. In the Melbourne Trust Case one critical consideration was the formation of the realization company as a distinct entity with shareholders unrelated to the failed banks or their creditors.

In Fox's Case, the deceased debtor, William Fox, commonly known as William Rankin, died on 7th June 1951. At that date, the value of his assets may have exceeded his liabilities, but, after his death, the Commissioner amended certain assessments for income tax, which had been made upon him in his lifetime, increasing the tax due to the Commissioner, to such an extent, that the executors to whom probate had been granted, on 31st October 1951, decided to seek an order for the administration of the estate in bankruptcy. As early as 1938, Rankin had become a member of a partnership the business of which was to reclaim and sell land at Southport. In 1946, he became the sole owner of the business, which he was carrying on, until his death. His executors did not carry on the work after his death. However, after the official receiver summoned a meeting of creditors and after hearing the views of Rankin's engineer and others concerning the land developments, on 17th August 1953, a resolution was passed by the creditors (the Commissioner's representative abstaining from voting), which was expressed to authorise the official receiver to complete the reclamation project at Southport and to utilise moneys in the estate for this purpose. In concluding the sale of the land development fell on revenue account, the High Court of Australia, in its judgment, included the following considerations:

…the official receiver is not in the same situation as the deceased debtor Rankin but that on the contrary as trustee he begins ab initio with the assets that come to his hands and is pursuing a course for their realisation to the best advantage.

A trustee of an estate administered in bankruptcy may no doubt be carrying on a business or be carrying on or carrying out a profitmaking undertaking or scheme…

But a trustee's purpose is to realise the estate so that he may fulfil the duty placed upon him which requires him, with all convenient speed, to declare and distribute dividends amongst the creditors who have proved their debts.

The powers given by s. 107 (a) are subject to the resolution of the creditors or the leave of the court and it is a power given by that provision which warrants him in carrying on the business of a bankrupt. But it enables him to do so only "so far as may be necessary for its beneficial winding-up".

It is true that there is no direct inconsistency between the exercise of such powers for such a purpose and the production of income either from carrying on the business or the carrying on or carrying out of a profit-making undertaking or scheme….

In the first place the assets are vested in him as capital and they are vested in him without reference to their value or to any criterion of value. In the next place, conversion into money to the extent needed for payment of creditors is the object, not employment of the assets for the earning of income.

It may be conceded that for the purpose of that provision the "profit-making undertaking or scheme" must be one pursued by the taxpayer, that is to say by the official receiver.

But there can be little doubt that in embarking, in pursuance of the resolution of creditors, upon the course of strengthening the title to the land, persuading the Southport Town Council to continue the agreement and allow him to fulfil it, causing the work to be completed under contract and causing the sub-divisional sales to be made through commission agents, the official receiver was adopting a set plan with a view of securing from the ultimate sale of the land a much greater net return than otherwise could be expected. These activities were planned, organised and coherent.

True it is that they formed only the final stages of a plan conceived by Rankin and carried partly into execution by him. But given the basal facts that land of a definite value was thus made to yield net proceeds considerably in excess of what otherwise could be obtained, it seems too difficult to deny that the official receiver adopted and pursued an undertaking or scheme that from his point of view satisfied the description "profit-making" and that he carried it out.

Taxation Ruling TR 92/3 is about whether profits on isolated transactions are of a commercial nature that fall on revenue account. Here, in relation to the disposal of property, paragraphs 9 and 49(g) state:

The taxpayer must have the requisite purpose at the time of entering into the relevant transaction or operation. If a transaction or operation involves the sale of property, it is usually, but not always, necessary that the taxpayer has the purpose of profit-making at the time of acquiring the property.

In very general terms, a transaction or operation has the character of a business operation or commercial transaction if the transaction or operation would constitute the carrying on of a business except that it does not occur as part of repetitious or recurring transactions or operations.

Some factors which may be relevant in considering whether an isolated transaction amounts to a business operation or commercial transaction are…if the transaction involves the acquisition and disposal of property, the nature of that property (Edwards v. Bairstow ; Hobart Bridge 82 CLR at 383). For example, if the property has no use other than as the subject of trade, the conclusion that the property was acquired for the purpose of trade and, therefore, that the transaction was commercial in nature, would be readily drawn…

In your case, your circumstances are similar to those in the cases of Whitfords Beach, Fox's Case and the Melbourne Trust Case, where a new controlling mind decided to subdivide land. In other words, you, as executors (and also beneficiaries), were not liquidating or realising old assets but, instead, choosing to subdivide new assets, when you acquired control of them. Or following the principle in Taxation Ruling TR 92/3, you had the purpose of profit-making at the time of acquiring the property. It is notable the subdivision agreement was relatively close the date of death.

In particular, your case is similar to that of Fox's Case, where the administrator of the estate went beyond the duty placed upon him, which, ordinarily, required him, with all convenient speed, to declare and distribute the assets of the estate.

In conclusion, your profit or loss on the sale of your subdivision will be accounted for as an isolated commercial transaction under section 6-5 or section 8-1 of the ITAA 1997.

Carrying on an enterprise under the GST Act

Section 9-20 of the GST Act defines the term 'enterprise' to include:

§ an activity, or series of activities, done in the form of a business;

§ an adventure or concern in the nature of trade; or

§ provision of a lease, licence or other grant of an interest in property on a regular or continuous basis.

Paragraph 234 of Miscellaneous Taxation Ruling MT 2006/1, which is about the meaning of entity carrying on an enterprise, states an adventure or concern in the nature of trade may be an isolated or one-off transaction that does not amount to a business but which has the characteristics of a business deal.

In your case, as your subdivision, for sale, is part of an isolated commercial transaction, it constitutes the carrying of an enterprise for the purposes of the GST Act.

Settlement of dispute

Section 104-10 of the ITAA 1997 provides you dispose of a CGT asset if a change of ownership occurs from you to another entity, whether because of some act or event or by operation of law; that you make a capital gain if the capital proceeds from the disposal are more than the asset's cost base; that you make a capital loss if those capital proceeds are less than the asset's reduced cost base.

Section 116-30 of the ITAA 1997 provides if you received no capital proceeds from a CGT event, you are taken to have received the market value of the CGT asset that is the subject of the event. (The market value is worked out as at the time of the event.)

Subsection 110-45(3) of the ITAA 1997 provides expenditure does not form part of any element of the cost base to the extent of any amount you have received as recoupment of it, except so far as the amount is included in your assessable income . (You may refer to paragraphs 6 and 322 of Taxation Ruling TR 95/35, which is about capital gains and treatment of compensation receipts.)

Section 10-5 of the ITAA 1997 lists particular kinds of assessable income that are not explicitly ordinary income. The list includes compensation that is insurance or indemnity for loss of profits or income (under section 15-30) and compensation that is insurance or indemnity for loss of trading stock (under section 70-115).

In your case, your transfer of land to the former developer was in fulfilment of a (CGT) right they held against you. As your land ceased to be a CGT asset upon your decision to subdivide the land, your transfer of the land was not a CGT disposal. Instead, your transfer of the land, at nil consideration, it was simply a loss or reduction in your sales proceeds.

As for the compensation you received, in respect to the professional negligence of your solicitor, this is assessable income in your hands, under section 15-30 of the ITAA 1997.

As you are not carrying on a business, your land is not trading stock. Therefore, your compensation receipt falls under section 15-30 instead of section 70-115 of the ITAA 1997.

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