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Edited version of your written advice
Authorisation Number: 1012782201669
Ruling
Subject: Demolition of rental property and subdivision of the land
Question
Will the profit you make on the subdivision be a capital gain?
Answer
Yes.
This ruling applies for the following period:
Year ending 30 June 2016
Year ending 30 June 2017
Year ending 30 June 2018
The scheme commences on:
1 June 2015
Relevant facts and circumstances
In 20XX, you purchased the residential property, which, since its purchase, has only been used as a rental property. You now propose to demolish the existing residence, subdivide the land into two blocks and sell them (for a better outcome).
You also own other rental properties, which you have purchased at various dates over the last decade.
Your family trust recently constructed a property for resale however, due to the inability to sell the property, it became a rental property, until it was eventually sold (which was the subject of a private ruling).
You also recently subdivided land at the rear of your main residence however, due to the inability to sell the lots, you constructed a new house on those lots, which you sold and reported as a revenue transaction.
Relevant legislative provisions
Income Tax Assessment Act 1997 Section 6-5
Income Tax Assessment Act 1997 Section 102-5
Reasons for decision
Profits from a land sub-division can be treated in at least three ways for taxation purposes:
(1) As ordinary income under section 6-5 of the Income Tax Assessment Act 1997 (ITAA 1997), as a result of carrying on a business of property development, involving the sale of land as trading stock.
(2) As ordinary income under section 6-5 of the ITAA 1997, as a result of an isolated commercial transaction entered into by a non-business taxpayer or outside the ordinary course of business of a taxpayer carrying on a business.
(3) As capital gains under Part 3-1 and Part 3-3 of the ITAA 1997, from the mere realisation of a capital asset.
The term 'business' ordinarily refers to trade engaged in on a regular or continuous basis. Whereas an isolated (one-off) commercial transaction does not amount to a business but has the characteristics of a 'business deal'. Taxation Ruling TR 92/3 explains, for an isolated commercial transaction to occur, it is usually necessary the taxpayer has the purpose of profit-making at the time of acquiring the property and that the property has no use other than as the subject of trade.
The mere realisation of a capital asset has been described as "liquidating or realising the old assets" (Commissioner of Taxes v Melbourne Trust Limited [1914] AC 1001).
In the High Court of Australia case of Federal Commissioner of Taxation v NF Williams 72 ATC 4188; (1972) 127 CLR 226, at ATC 4194-4195; CLR 249, Gibbs J explained mere realisation of land as follows:
An owner of land who holds it until the price of land has risen and then subdivides and sells it is not thereby engaging in an adventure in the nature of trade, or carrying out a profit-making scheme. The situation is not altered by the fact that the landowner seeks and acts upon the advice of an expert as to the best method of subdivision and sale or by the fact that he carries out work such as grading, levelling, road-building and the provision of reticulation for water and power to enable the land to be sold to its best advantage. The proceeds resulting from the mere realization of a capital asset are not income either in accordance with ordinary concepts…even though the realization is carried out in an enterprising way so as to secure the best price…
In the Federal Court of Australia case of Casimaty v Federal Commissioner of Taxation 97 ATC 5135, at 97 ATC 5152, Ryan J described a salient characteristic of the mere realisation of land as follows:
…[to not] undertake any works on, or development of, the land beyond what was necessary to secure the approval by the municipal authorities of the successive plans of subdivision and enhance the presentation of individual allotments for sale as vacant blocks.
In distinguishing mere realisation from a commercial transaction, Ryan J further said:
Had he constructed dwelling houses, internal fencing or other improvements, it would have been easier to impute to him an intention to carry on a business of land development and improvement.
In your case, you are merely proposing to demolish the residence and subdivide and sell the land of a rental property you have owned since 20XX. It follows your proceeds from the subdivision will be the mere realisation of a capital asset because: (i) you have owned the asset for many years; (ii) the asset was used as rental property (rather than merely purchased as the subject of trade); and (iii) you will not be constructing new dwellings on the property for the purpose of resale.
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