Edited version of your written advice

Authorisation Number: 1051286471259

Date of advice: 28 September 2017

Ruling

Subject: GST and sale of new residential premises

Question

Will the sale of the newly constructed property located in Australia be a taxable supply pursuant to section 9-5 of the A New Tax System (Goods and Services Tax) Act 1999 (GST Act)?

Answer

Yes.

Relevant facts and circumstances

In 20XX you, acquired a residential property located Australia (Property 1). You rented the house out from that date until March 20xx. You were not registered for GST either individually or together. You also own another rental property, Property 2.

Your real estate agent had advised you that Property 1 was no longer in a fit state to rent out and that you could choose to renovate or demolish and build a new house on Property 1.

You decided to subdivide Property 1 into two Lots and sell off the vacant portion (Lot 2). You received $XX.00 for the sale of this lot. This enabled you to finance the demolition of the existing house and build a new house in its place on Lot 1 (the Property). You have spent approximately $XX.00 on construction.

At that stage you intended to rent out the new house. You provided evidence of this in the form of an email, where you advised the tradesman that was installing the kitchen that the property was for rent and that you required an oversize dish washer cavity to accommodate any sized dishwasher. You also advised that:

‘I have over capitalised and all the capital gain is from the appreciation of the land value over the last 16 years. If I had only been interested in a profit from a development I would have built a different style of house or perhaps subdivided the block in 3 rather than 2. The house I built was for the long term and it was only towards the end of the process that I entertained selling.’

Toward the end of the construction of the new house on Lot 1, you began looking into the idea of selling the Property as you thought you might then do the same thing with Property 2. The sale of the newly constructed premises would enable you to finance the development of Property 2 which you could rent until you were ready to retire. The expected sale price of the Property is approximately $XX.

You are considering this option but believe that financially you could not afford this plan if you were liable for GST on the sale proceeds. You have therefore asked us to rule on the GST implications of going ahead with selling instead of renting the Property.

You have not commenced leasing the new house on Lot 1.

You have contended that the expected sale price of $XX means that you will not make a profit on the sale of the Property.

Relevant legislative provisions

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 9-40

A New Tax System (Goods and Services Tax) Act 1999 Division 11

A New Tax System (Goods and Services Tax) Act 1999 Section 40-35

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

Reasons for decision

You are not registered for GST as individuals, nor as a partnership.

Under GST law you are liable to pay GST on any taxable supply you make.

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; 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 the indirect tax zone; 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 the Property to be a taxable supply, all of the requirements in section 9-5 must be satisfied including that the supply is not GST free or input taxed.

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) contains the Commissioners view on what constitutes an enterprise and who is entitled to an ABN for GST purposes.

Paragraph 110 of MT 2006/1 provides that:

As explained in paragraphs 41 to 43 of this Ruling, the definition of partnership is wide and has the meaning given by section 995-1 of the ITAA 1997. Partnerships, except incorporated limited partnerships, are not recognised under the general law as a separate legal person distinct from the members of the partnership. They are an entity for ABN purposes because of the operation of paragraph 184-1(1)(e) of the GST Act. This means that the business the partners carry on in association with each other is taken to be an enterprise carried on by the partnership. As a result, a partner (that is required to carry on an enterprise to be entitled to an ABN), will not be entitled to an ABN unless they carry on some other enterprise independently of the partnership and in their own capacity.

As discussed below we consider that you and your spouse are conducting an enterprise in partnership and therefore the relevant entity that either will, or will not, be required to be registered for GST is the partnership.

In your case:

● You will be selling the Property for consideration of approximately $X and have sold the vacant lot for $X

● the Property is connected with Australia as it is located in the indirect tax zone (Australia).

● We also consider that the newly constructed house meets the definition of new residential premises pursuant to paragraphs 40-75(1)(a) and 40-75(1)(c ) in that it is residential premises that has been built to replace demolished residential premises on the same land and will not have been previously sold.

Therefore, paragraphs 9-5(a) and 9-5(c) of the GST Act are satisfied. In addition the supply of the Property in your factual situation will not be GST-free or input taxed.

Accordingly, we must determine whether:

a) The sale of the Property will be in the course or furtherance of an enterprise that you are carrying on and

b) You are required to be registered for GST.

Enterprise

The term ‘carrying on an enterprise’ is defined in section 9-20 to include an activity or series of activities done 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 or license.

In your case we need to identify the relevant enterprise. If you had commenced leasing the Property this would have met the definition of enterprise, (being activities done on a regular or continuous basis in the form of a lease or licence in property) from the time you began construction of the premises and the subsequent sale would have been ‘in the course or furtherance of that enterprise‘.

You have advised that you have not commenced leasing the Property. As explained at paragraph 151 of GST Ruling GSTR 2002/5, Goods and services tax: when is the ‘supply of a going concern’ GST-free?, where a property has not previously been leased to a tenant, but is being actively marketed, an ‘enterprise of leasing’ is not operating until the activity of leasing actually commences. The activity of leasing commences when at least one tenant enters into an agreement to lease or occupies the building.

However, notwithstanding the above, as you have formed an intention to sell the Property, we consider that you are carrying an enterprise in the form of an adventure or concern in the nature of trade. This is so despite the fact that your sale of the Property will be a ‘one-off’ occurrence.

The term ‘carrying on in paragraph 9-5(b) is defined in section 195-1 to include anything in the course of the commencement or termination of the enterprise.

Example 31 in MT 2006/1 sets out an example which, although exhibits some differences with your situation, encompasses principles we can draw on.

Example 31

284. Prakash and Indira have lived in the same house on a large block of land for a number of years. They decide that they would like to move from the area and develop a plan to maximise the sale proceeds from their land.

285. They consider their best course of action is to demolish their house, subdivide their land into two blocks and to build a new house on each block.

286. Prakash and Indira lodge the necessary development application with the local council and receive approval for their plan. They arrange for :

● their house to be demolished ;

● the land to be subdivided ;

● a builder to be engaged ;

● two houses to be built ;

● water meters, telephone and electricity to be supplied to the new houses ; and

● a real estate agent to market and sell the houses.

287. Prakash and Indira carry out their plan and make a profit. They are entitled to an ABN in respect of the subdivision on the basis that their activities go beyond the minimal activities needed to sell the subdivided land. The activities are an enterprise as a number of activities have been undertaken which involved the demolition of their house, subdivision of the land and the building of new houses.

Therefore the construction and subsequent sale of the residential premises will be in the course or furtherance of an enterprise that you are carrying on and you meet paragraph 9-5(b).

You have contended that you will not make a profit on the construction costs of the residential premises.

Paragraph 9-20 (2)(c ) provides that an enterprise does not include an activity done by an individual or a partnership of individuals without a reasonable expectation of profit or gain.

MT 2006/1 provides the following commentary on this issue.

382. The reasonable expectation of profit or gain is not limited to an expectation for the current year or to specific years and may cover a number of periods. Profits or gains are unlikely in the short term for some activities, such as forestry, but expected over the long term. However, the period to be covered by the test must be relevant to the nature of the activity undertaken.

383. The phrase 'reasonable expectation of profit or gain' is not defined in the ABN Act. However, the phrase 'reasonable expectation' has been considered in a number of cases.¹²⁵ In News Corporation Ltd v. National Companies and Securities Commission (1984) 57 ALR 550 at 561; (1984) 5 FCR 88 at 101, Woodward J said 'a reasonable expectation of an event requires more than a possibility, risk or chance of the event occurring'.

384. The test is an objective one.¹²⁶ This means that the determination of whether there is a reasonable expectation is not solely based on the subjective view of the individual concerned. It is determined by whether a reasonable person looking at all the circumstances would come to the conclusion that there is a reasonable expectation of profit or gain.

385. The term 'profit or gain' is not defined and consequently it takes its ordinary meaning.¹²⁷ It refers to concepts commonly used in the commercial world and can encompass a 'profit or gain' of an income or capital nature.

386. For the purposes of determining whether, objectively, there is a reasonable expectation of profit or gain, one factor to consider may be that year after year an overall loss has been made. However, it is recognised that particular kinds of enterprises may take longer to become profitable.

On the facts of your case, taking into consideration the overall cost incurred in getting the Property for sale, including your purchase price and construction costs, we consider that you will make a gain from the transaction. Therefore your supply of the newly constructed premises will be made in the course or furtherance of an enterprise.

Required to be registered

Section 23-5 of the GST Act requires you to be registered for GST if:

a) you are carrying on an enterprise and

b) your GST turnover meets or exceeds the registration turnover threshold. (The current registration turnover threshold is $75,000.)

As set out above we consider that where you sell the premises without having previously leased them you will be conducting an enterprise of constructing new residential premises for sale. Therefore we need to consider whether your GST turnover exceeds the registration turnover threshold which is currently $75,000.

Section 188-10 provides that you meet a particular turnover threshold if:

a) your current GST turnover is at or above the turnover threshold, and the Commissioner is not satisfied that your *projected GST turnover is below the turnover threshold; or

b) your projected GST turnover is at or above the turnover threshold.

Under Division 188 it is provided that you do exclude input taxed supplies in working out your GST turnover which means you do not include rent from Property 2 in the turnover calculation. In addition you need to consider whether to include the expected sale price of the Property in working out your GST turnover as this sale price exceeds the registration turnover threshold of $75,000.

Relevantly, section 188-25 provides that in working out your projected turnover you disregard any supply made, or likely to be made, by you by way of transfer of ownership of a capital asset of yours; and any supply by you solely as a consequence of substantially or permanently reducing the size or scale of an enterprise.

This issue is dealt with 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 (GSTR 2001/7)

It provides at paragraph 31 to 33 that:

31. The GST Act does not define the term 'capital assets'. Generally, the term 'capital assets' refers to those assets that make up 'the profit yielding subject'¹⁴ of an enterprise. They are often referred to as 'structural assets' and may be described as 'the business entity, structure or organisation set up or established for the earning of profits'.¹⁵

32. 'Capital assets' can include tangible assets such as your factory, shop or office, your land on which they stand, fixtures and fittings, plant, furniture, machinery and motor vehicles that are retained by you to produce income. 'Capital assets' can also include intangible assets, such as your goodwill.

33. Capital assets are 'radically different from assets which are turned over and bought and sold in the course of trading operations'.¹⁶ An asset which is acquired and used for resale in the course of carrying on an enterprise (for example, trading stock¹⁷) is not a 'capital asset' for the purposes of paragraph 188-25(a).

In your case Property 1 was a capital asset when it was rented. If you had continued with your initial plan to construct the new residential premises on Lot 1 and rent out the Property the premises would have continued to be classified as a capital asset used in the subsequent leasing enterprise and the lease income would have been excluded from your GST turnover (as input taxed supplies are excluded). However when you formed the intention to sell the Property instead of renting it, the character of that property changed from a capital asset to that of a revenue asset created for sale.

Therefore section 188-25 does not act to exclude the expected sale price of the Property from the calculation of projected GST turnover.

Therefore your GST turnover will meet the registration turnover threshold where you sell the Property without having initially rented it.

Conclusion

As you meet the criteria in section 9-5 and your supply is not input taxed or GST free, the proposed sale of the Property will be a taxable supply. We consider that if you proceed with your intention of selling the Property, you and your wife will be doing so in partnership for GST purposes. Accordingly, if you still decide to sell the property, you will need to apply for an Australian Business Number (ABN) for the partnership and apply for GST registration in that capacity. It is through this entity that you will be required to report the GST on the sale of the property and claim GST credits on any creditable acquisitions incurred in the construction and sale of the Property pursuant to section 11-20.

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