Edited version of your written advice

Authorisation Number: 1012839333276

Date of advice: 13 July 2015

Ruling

Subject: CGT and GST - subdivision and sale of property

Issue 1

Question 1

Will the proceeds received from the sale of subdivided blocks be taxed under the capital gains tax provisions of the ITAA 1997?

Answer

Yes.

Question 2

Will any capital gain or capital loss you make on the disposal of each subdivided block be disregarded for CGT purposes?

Answer

Yes.

Issue 2

Question 1

Will your supply of the subdivided blocks be taxable supplies pursuant to section 9-5 of the A New Tax System (Goods and Services Tax) Act 1999 (GST Act)?

Answer

No

This ruling applies for the following periods

Year ending 30 June 2015

Year ending 30 June 2016

The scheme commences on

1 April 2015

Relevant facts and circumstances

You acquired a house on XX acres of land (the property) in prior to 20 September 1985.

The property was your primary residence from acquisition until 20XX.

In 20XX, half of your property was zoned to allow residential development, the other half zoned as Park Residential.

After re-zoning, you and the owners of the adjoining properties were approached by a property developer with a proposal to develop the front half of all properties into a residential estate.

At this time you acquired subdivision approval to subdivide the whole title.

The development of the front portion went ahead and the front half of the property on which the house was located was sold.

Subsequent to the initial development in 20XX, the remaining XX acres was left with an approval in place to further subdivide the block. This was part of the larger development approval obtained when the initial development was completed.

Your agent advised:

The taxpayer's have confirmed they had no involvement in the earlier development.  The plans, funding, physical development, sales and marketing were all undertaken by the external developer at the time. 

In 20XX you incurred costs of $XXX,XXX to engage an external consultant to run the application extension with Council due to the aforementioned subdivisional approval becoming close to lapsing. It was considered appropriate to try and keep the subdivisional approval running by applying for an extension to maintain the value of the land. The process was abandoned some time later after it was clear the Council at the time was not going to extend the approval.

You have been advised that the next Town Plan will result in the property being re-zoned from Park Residential to Urban Residential.

The re-zoning will result in significantly higher rates and land tax being imposed, which has influenced your decision to sell the property.

You intend to engage a Property Developer to subdivide the property into XX lots or XX smaller lots.

You do not have a Development Agreement (DA) or Development Approval however the DA will be a fee for service type arrangement with the property developer and you doing only the minimum required by the council to approve the subdivision.

The Gross proceeds will range from $XX to $XX million depending on the number of lots and the market.

Your agent advised that:

• Our clients have only had preliminary discussions with a couple of developers.  No formal development agreement has been entered to date. The development agreement will be fairly standard with a fee for service type arrangement.

• Our clients have not prepared or lodged any development approval.

You will need to borrow funds from a financial institution to fund the development fee.

You expect the development will cost approximately $X million.

You were registered for GST as partners in a partnership (Partnership 1) up until 30 June 20XX and your activities were described as non-residential property operators.

Then in April 20XX you registered another partnership (Partnership 2) and described your business as commercial and residential property operators. This partnership ceased in 20XX. These partnerships were related to commercial rental properties and were not related to any property development activities on your property.

You are not registered for GST.

Relevant legislative provisions

Income Tax Assessment Act 1997 Section 6-5

Income Tax Assessment Act 1997 Subsection 104-10(5)

Income Tax Assessment Act 1997 Subsection 108-70(3)

Income Tax Assessment Act 1997 Section 108-80

Income Tax Assessment Act 1997 Section 995-1

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

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 195-1

Reasons for decision

Issue 1

Summary

The subdivision of the land is considered to be a mere realisation of a capital asset and will be subject to the capital gains tax provisions of the ITAA 1997.

Provided the costs of the development (for example, the construction of roads and the provision of electricity, water and gas to the blocks) do not exceed the relevant improvement threshold, then the entire capital gain made on the disposal of the subdivided blocks will be disregarded.

Detailed reasoning

Under section 6-5 of the ITAA 1997, the assessable income of an Australian resident includes ordinary income derived both in and out of Australia during an income year. Ordinary income is defined as income according to ordinary concepts.

Additionally, section 15-15 of the ITAA 1997 specifies that your assessable income includes profit arising from the carrying on or carrying out of a profit-making undertaking or plan. However, this provision does not apply to a profit that is assessable as ordinary income under section 6-5 of the ITAA 1997 or which arises in respect of the sale of property acquired on or after 20 September 1985.

In FC of T v The Myer Emporium (1987) 163 CLR 199; 87 ATC 4363; (1987) 18 ATR 693 (Myer Emporium), the Full High Court expressed the view that profits made by a taxpayer who enters into an isolated transaction with a profit making purpose can be assessable income.

Taxation Ruling TR 92/3 considers the assessability of profits on isolated transactions in light of the principles outlined in Myer Emporium. 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 6 of TR 92/3 provides that a profit from an isolated transaction will generally be income when both the following elements are present:

• your intention or purpose in entering into the transaction was to make a profit or gain, and

• the transaction was entered into, and the profit was made, in the course of carrying on a business or in carrying out a business operation or commercial transaction.

In contrast, paragraph 36 of TR 92/3 notes that the courts have often said that a profit on the mere realisation of an investment is not income, even if the taxpayer goes about the realisation in an enterprising way. However, if a transaction satisfies the elements set out above it is generally not a mere realisation of an investment.

In your case, you do not carry on a business of buying, selling or developing land. You purchased the property as your main residence. You will have minimal involvement in the subdivision of the land as you will be engaging a property developer and will only be completing the minimum works required by the council to approve the subdivision.

Accordingly, the proceeds from the sale of the subdivided blocks will not be included in your ordinary income. Rather, the subdivision is considered to be a mere realisation of a capital asset and the proceeds will be subject to the capital gains tax provisions in Part 3-1 of the ITAA 1997.

Capital gains tax

As the land was acquired before 20 September 1985, it is a pre-CGT asset. Disposal of a pre-CGT asset does not give rise to a taxable capital gain in accordance with paragraph 104-10(5)(a) of the ITAA 1997. Furthermore, subdivision of the land does not alter its pre-CGT status. Taxation Determination TD 7 states:

Where pre-CGT land is subdivided after 19 September 1985 the land will maintain its pre-CGT acquisition date because no CGT event has happened. The subdividing of the land is not itself a CGT event: section 112-25 of the ITAA 97.

Therefore, as the land was acquired pre-CGT the capital gain made on the disposal of the subdivided blocks will be disregarded under subsection 104-10(5) of the ITAA 1997, subject to the value of the capital improvements.

Further issues for you to consider

Under subsection 108-70(3) of the ITAA 1997, capital improvements to a pre-CGT asset that are related to each other may be treated as a separate CGT asset if the total of their cost bases when a CGT event happens (for example a disposal) in relation to the asset is:

• more than the improvement threshold for the relevant income year (for the year ended 30 June 2015, the threshold is $140,443), and

• more than 5% of the capital proceeds from the event.

In your case, the total subdivision and land development costs are considered related to each other in accordance with section 108-80 of the ITAA 1997. The total cost of these capital improvements is to be allocated over all of the subdivided blocks when determining if the capital improvements will be treated as a separate CGT asset.

Therefore, the expenditure apportioned to each subdivided block will have to be less than the improvement threshold for the relevant year. Where this is the case, the capital improvement expenditure for the purposes of any subsequent disposal of any of these blocks of land will not be taken to be a separate CGT asset

Issue 2

Summary

As you are not carrying on an enterprise nor required to be registered for GST, your supplies of the lots will not be taxable supplies pursuant to section 9-5 of the GST Act.

Detailed reasoning

Section 9-5 of the A New Tax System (Goods and Services Tax) Act 1999 (GST Act) provides that you make a taxable supply if:

(a) you make the supply for consideration

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

(c) the supply is connected with the indirect tax zone (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.

For the supply of your sub-divided land to be a taxable supply, all of the requirements in section 9-5 of the GST Act must be satisfied.

The transactions will be made for consideration and the property is located in Australia therefore the transactions will meet paragraphs 9-5(a) and 9-5(c). The supply of the vacant lots in your factual situation will neither be GST-free nor input taxed.

However, we must also determine:

1 In what capacity the activities are being undertaken?

2 Whether the supply is in the course or furtherance of an enterprise being carried on?

3 Whether there is a requirement for GST registration?

In what capacity are the activities being undertaken?

In certain circumstances where individuals work together and receive income it is considered that they are a partnership.

A partnership is defined in section 195-1 of the GST Act with reference to section 995 of the Income Tax Assessment Act 1997 (ITAA 1997). Section 995-1 of the ITAA 1997 states:

partnership means:

(a) an association of persons (other than a company or a limited partnership) carrying on business as partners or in receipt of ordinary income or statutory income jointly; or

(b) a limited partnership.

Goods and Services Tax Ruling GSTR 2004/6 Goods and services tax: tax law partnerships and co-owners of property (GSTR 2004/6) provides the following explanations of the particular type of partnership known as a tax law partnership:

10. The second limb of paragraph (a) of the definition includes as a partnership an association of persons (other than a company or a limited partnership) 'in receipt of ordinary income or statutory income jointly'. We refer to this type of partnership as a tax law partnership.

…

30. We consider that, for GST purposes, an association of persons in receipt of income jointly is a tax law partnership from the time that the persons jointly commence an activity from which the income is or will be received jointly. We refer to this as the 'time of association' approach.

We do not consider that your activities amount to carrying on a business which is the first limb of the definition in section 995-1 of the ITAA 1997 however the consideration you will receive from the sale of the lots will be statutory income.

Therefore as you are an association of persons who are in receipt of statutory income you will meet the definition of a partnership as defined in section 995-1 of the ITAA 1997 and described in GSTR 2004/6. We consider that you will become a tax law partnership from the time you commence your activities.

Therefore we will be ruling to the tax law partnership created when the subdivision activities commence. We will refer to this tax law partnership as you in this ruling.

Are you conducting an enterprise?

The term 'carrying on an enterprise' is defined in the GST Act and includes doing anything in the course of the commencement or termination of the enterprise.

Section 9-20 relevantly defines enterprise as 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.

The ATO view on the meaning of the term 'enterprise' is explained in detail in Miscellaneous Taxation Ruling MT 2006/1 'The New Tax System: the meaning of entity carrying on an enterprise for the purposes of entitlement to an Australian Business Number' (MT 2006/1).

Paragraph 234 of MT 2006/1 distinguishes between activities done in the form of a business and those done in the form of an adventure or concern in the nature of trade, and provides:

• A business encompasses trade engaged in on a regular basis.

• An adventure or concern in the nature of trade includes an isolated or one-off transaction that does not amount to a business, but which has the characteristics of a business deal.

Your activity does not amount to a business engaged in on a regular basis. Therefore we will consider whether you are carrying on an enterprise as a one-off or isolated real property transaction which has the characteristics of a business deal.

Paragraphs 258 and 259 of MT 2006/1 provide guidance on the distinction between trading/revenue assets and investment/capital assets. They provide the following:

• Assets can be categorised as trading/revenue assets or capital/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.

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

Paragraph 260 of MT 2006/1 explains that assets can change their character from being capital/investment assets to being trading/revenue assets, or vice versa, but cannot have a dual character at the same time.

Paragraph 264 of MT 2006/1 discusses two court cases [Statham & Anor v. Federal Commissioner of Taxation (Statham) and Casimaty v. FC of T (Casimaty) involving subdivision and development of properties that were originally held as capital/investments assets. In these cases, the court decided that the sale of the post-subdivision lots was the mere realisation of capital/investment assets.

Paragraphs 178 and 265 of MT 2006/1 sets out a number of indicators that provide guidance as to whether an activity is undertaken in a businesslike manner. 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.

In looking at the factors in MT 2006/1, we find that the following are determinative:

• The original property of which a portion is the subject matter of this ruling was acquired as a private asset and used as your principle place of residence until 20XX. At this time subdivision approval was obtained to subdivide the whole block. At this time the front half of the block was subdivided and sold off in lots.

• Your family has continued to use the balance of the property intermittently for recreational purposes however this has ceased now.

• You have not acquired other surrounding property to better your investment or entered into the subdivision with other parties to share in the profits.

• The fact that you will make a profit relates to the capital appreciation in property values since acquisition. As you are doing nothing more than effecting the sale of your asset through subdivision conducted by the property developer any profits realised will not in this case result in you being held to have a profit-motive intention given the other supporting factors outlined here.

• Although you do not have development approval or a development agreement in place:

• the development agreement will be a standard fee for service arrangement, and

• you will do only what the council requires in relation to the development.

Therefore we consider that the proposed property development will not convert your private asset into a trading asset and will be a mere realisation of a capital asset. Therefore the supply of the lots by you will not be in the course of an enterprise.

Registration

As provided in section 23-5 of the GST Act, you are required to be registered if:

• you are carrying on an enterprise, and

• your GST turnover meets the registration turnover threshold (currently $75,000).

As you are not carrying on an enterprise in relation to this activity you are not required to be registered for GST.

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