Edited version of your written advice

Authorisation Number: 1051308630883

Date of advice: 22 November 2017

Ruling

Subject: Carrying on a business – property development

Question 1

Is Company X carrying on a business?

Answer

Yes

This ruling applies for the following periods:

Income year ending 30 June 2018

Income year ending 30 June 2019

Income year ending 30 June 2020

Income year ending 30 June 2021

Income year ending 30 June 2022

The scheme commences:

During the income year ending 30 June 2018

Relevant facts and circumstances

A and B have previously conducted a business activity of buying vacant housing lots and building houses for sale to the public.

A and B have in the last couple of years stepped away from the business towards retirement. Their family members, C and D, now run the business operations of Company Z.

A is a registered builder and still provides some guidance to the business. A is paid a small wage by Company Z for this guidance.

D has identified an opportunity to purchase a large parcel of undeveloped land to develop into smaller housing lots and construct houses on.

Company Z does not have adequate cash reserves to purchase the land, but A and B do.

A and B have recently incorporated Company X to purchase the land. Company X will then engage Company Z (under arm’s length terms) to handle all matters associated with subdividing the land, building roads, designing and building houses to sell to the general public and engaging real estate agents to sell the houses.

Other than owning the land and engaging Company Z for the reasons stated above, Company X will conduct no other activities.

The land size is a number of hectares and the contract for the purchase of land has only recently been signed under the name of Z Trust and/or nominee with the expectation that Company X will be the nominated purchaser.

It is expected that the land will be subdivided into a significant number of separate lots.

Whilst the cost to subdivide and title all lots will be significant, the expected aggregated market value of the lots once titled will result in a considerable profit on sale. Due to the number of lots, the lots will be developed in stages, with further stages developed once lots in earlier stages have been sold and funds made available to continue with the next stages.

Company Z will not engage A in any capacity for the planned land development to get the land to title. However, A may be engaged during the construction of the houses stage though there is no set plan at present for this involvement.

A written contract between Company X and Company Z for the planned land development does not currently exist, though there has been a verbal agreement between the parties. A written contract will be put in place subsequent to settlement of the land.

There is no business plan prepared for the planned land development venture.

Assumption

Company X will be the nominated purchaser of the land.

Relevant legislative provisions

Income Tax Assessment Act 1997 section 995-1

Reasons for decision

Question 1

Summary

Company X is carrying on a business of property development in respect of the land development venture.

Detailed reasoning

Section 995-1 of the Income Tax Assessment Act 1997 (ITAA 1997) defines a business as including any profession, trade, employment, vocation or calling, but does not include occupation as an employee.

The question of whether you are carrying on a business is a question of fact and degree. There are no rigid rules for determining whether the activity amounts to the carrying on of a business. The facts of each case must be examined. In Martin v FC of T (1953) 90 CLR 470 at 474; 5 AITR 548 at 551, Webb J said:

The test is both subjective and objective; it is made by regarding the nature and extent of the activities under review, as well as the purpose of the individual engaging in them, and, as counsel for the taxpayer put it, the determination is eventually based on the large or general impression gained.

The meaning of carrying on a business of primary production is comprehensively considered in Taxation Ruling TR 97/11 (TR 97/11). Although TR 97/11 specifically deals with carrying on a primary production business, the principles discussed in that Ruling can apply to any business.

Paragraph 12 of TR 97/11 makes the point that 'whilst each case might turn on its own particular facts, the determination of the question is generally the result of a process of weighing all the relevant indicators'. There is no single test of whether a business is being carried on.

Paragraph 13 of TR 97/11 explains that the courts have held that the main indicators (as detailed below) are relevant to whether or not a person is carrying on a business.

Paragraph 18 of TR 97/11 includes the following table that outlines the main indicators of carrying on a business. The last three items shown are factors which support the main indicators.

The facts of each case will determine whether an entity’s activities relate to an identified business.

(a) Significant commercial purpose

The 'significant commercial purpose or character' indicator is closely linked to the other indicators and is a generalisation drawn from the interaction of the other indicators. It is particularly linked to the size and scale of activity, the repetition and regularity of activity and the profit indicators.

In this case, the scale of the activity is far in excess of personal needs, and large enough to ensure the venture would be profitable. The land development venture is of significant commercial purpose as it is expected to yield a multi-million dollar profit in property sales.

(b) Intention of the taxpayer

The intention of Company X is to purchase the land and subsequently engage Company Z, which is an associated entity of Company X, to undertake the activities required to subdivide that land into separate lots and develop each of those into residential houses for sale at a profit. This intention is consistent with that of a taxpayer engaging in a business of property development.

(c) Prospect of profit

Paragraph 48 of TR 97/11 states that it is important that the taxpayer is able to show how the activity can make a profit. It also states that it is not necessary for the relevant activities to make a profit in every year of income in order to classify the activities as a business. Thus, a taxpayer may be carrying on a business even though there is a small profit or a loss in any given year of income.

In this case there is a clear intention to make a profit from the property development activities to be undertaken. Once completed, the land development venture is expected to yield a significant level of profit in property sales.

(d) Repetition and regularity

It is a feature of any business that similar sorts of activities need to be carried out on a regular basis. This repetition of activities assists in determining that there is the carrying on of a business. A taxpayer carrying on a business should undertake at least the minimum activities necessary to maintain a commercial quantity and quality of product for sale.

In this case, the land development venture will be carried out over a period of years, with a number of stages planned for release, development and sale. This indicates that the development will be carried out with a sufficient degree of repetition and regularity.

(e) Is the activity of the same kind and carried on in a manner that is characteristic of the industry?

An activity is more likely to be a business when it is carried on in a manner similar to that in which other participants in the same industry carry on their activities. Paragraph 64 of TR 97/11 lists a number of factors which might be compared with the characteristics of others engaged in the same type of business. These include:

● the manner and volume of sales;

● the types of customers the taxpayer sells their product to;

● what sort of expenses are incurred by the taxpayer;

● the amount invested in capital items; and

● previous experience of the taxpayer.

There is no evidence to suggest that the property development activities to be undertaken as part of the land development venture, including the contracting of such activities by Company X to another entity under the terms of a written contact, are not of the same kind as, or carried on in a manner that is not characteristic of, other activities in the property development industry.

(f) Organisation in a businesslike manner and the use of system

A business is characteristically carried on in a systematic and organised manner rather than on an ad hoc basis or in a disorganised way. An activity should generally conform with ordinary commercial principles to amount to the carrying on of a business.

In this case, based on the commercial character of the activity; its size and scale (discussed below); and the relevant experience of those involved in the activity, a sufficient degree of system and organisation in the conduct of the activity is expected to be employed.

(g) Size and scale of the activity

Whilst not a determinative test, the larger the scale of the activity the more likely the taxpayer will be carrying on a business.

The size of the land is a number of hectares and the development on that land will include its subdivision to create a significant number of individual residential housing lots; the building of roads; and the building of houses on each of those lots. The size and scale of the land development venture to be undertaken by Company X is significant, and is indicative of a property development business.

(h) Hobby or recreation

Paragraph 87 of TR 97/11 lists a number of factors which indicate that a taxpayer is often conducting a hobby. These are:

● it is evident that the taxpayer does not intend to make a profit from the activity;

● losses are incurred because the activity is motivated by personal pleasure and not to make a profit and there is no plan in place to show how a profit can be made;

● the transaction is isolated and there is no repetition or regularity of sales;

● any activity is not carried on in the same manner as a normal, ordinary business activity;

● there is no system to allow a profit to be produced in the conduct of the activity;

● the activity is carried on a small scale;

● there is an intention by the taxpayer to carry on a hobby, a recreation or a sport rather than a business;

● any produce is sold to friends and relatives and not to the public at large.

On the basis of the relevant facts and circumstances set out in this ruling, it is clear that Company X is not conducting the activity in the manner of a hobby or recreation.

(i) A business plan exists

Whilst a business plan is particularly relevant to establishing that there is an intention to make a profit and that the activity will be profitable and has a significant commercial purpose, and will therefore help a taxpayer to establish that he/she is carrying on a business, it is not compulsory (paragraphs 110-111 of TR 97/11).

Although Company X has not prepared a business plan for the land development venture, the basic elements ordinarily included in a business plan (including research undertaken; volume of sales; income expected to be generated; expected expenses and capital outlays; and how those expenses and capital outlays are proposed to be paid for) have been attended to and/or considered.

(j) Commercial sales of product

In this case, the land development venture involves the sale of residential housing lots to the public. This is indicative of a business being conducted in a commercial manner.

k) Taxpayer has knowledge or skill

Company X is considered to have sufficient knowledge and skill to carry on a business of property development as its key individual directors/owners have previously conducted such a business.

Outcome

The large and general impression gained after examining the activity in the light of all of the business indicators is that the land development venture to be undertaken by Company X amounts to the carrying on of a business of property development.

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