Edited version of your written advice

Authorisation Number: 1051360667331

Date of advice: 16 April 2018

Ruling

Subject: Land subdivision

Question 1

Will the proceeds from the sale of the subdivided lots be subject to capital gains tax (CGT) under Parts 3-1 and 3-3 of the Income Tax Assessment Act 1997 (ITAA 1997)?

Answer

Yes.

Question 2

Will any profit from the sale of the subdivided lots of land be assessable as ordinary income under section 6-5 of the ITAA 1997?

Answer

No.

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.

The scheme commences in:

November 1986.

Relevant facts and circumstances

Several years ago, you and your former spouse purchased a number of post-CGT lots (the original land) for a specified amount as joint tenants

The original land was recorded on one certificate of title.

The original land was not separated by fences and was treated as one parcel of land by you.

The original land was a number of hectares.

The original land was subject to rural zoning, which allowed for only one dwelling, which was located on a lot not subject to this subdivision.

You resided in the dwelling located on that lot for a few years until you sold that lot and moved overseas. A separate certificate of title was issued for that lot which contained the dwelling; however the restriction on dwellings remained on the rest of the original land.

While you were overseas, the remaining lots of the original land were used to agist horses for friends.

After a number of years, you and your former spouse divorced.

You and your current spouse later returned to Australia and resided elsewhere.

The land was used for rural purposes after you returned to Australia for a few years.

You and your former spouse continued to hold the rest of the original land as joint tenants until the lots were transferred as part of a property settlement. You each disposed of the half ownership interests to each other so you were the sole owner of lot L, M, N and P (the current Lots).

The total area of these lots is approximately half the original land holding.

Separate titles were issued for each lot, but continued to be treated as a single block of land by council and the valuer-general.

More recently the local council initiated the rezoning of the current lots from rural to low density residential and a dwelling could be built on each lot.

You then commenced constructing a dwelling on Lot P which then became your main residence.

Attempted sale of adjoining lots

Sometime after rezoning, you engaged a real estate agent to sell Lot N on a sole agency basis with a listing price of specified.

Lot N was not sold during that time, and you subsequently engaged a new agent with a reduced listing price.

You also had Lot M listed on the market at the same time for a specified amount.

Neither of the lots sold and both were taken off the market after less than a year.

You were willing to accept offers lower than the advertised listing price.

You did not receive any offers in relation to the sale of Lot M or N. In discussing the sale of the lots with potential buyers, the common issue was that all the lots were prone to flooding in areas along the natural water course that flows through the lots.

Lot L was not listed for sale, as you thought it was unlikely to sell for the reasons Lot M and N would not sell.

Subdivision works

You later began discussions with your relatives who run a planning and construction business about the best way to sell some of your current lots. It was suggested that you consider the option of subdividing and selling the lots that you did not want to keep.

The planning and construction business provided concept plans of the subdivision of Lot L.

A short time later, you engaged the planning and construction business to lodge a development application with the Council, and to carry out the subdivision work should approval be given.

The planning and construction business sent you a fee proposal which outlined the following estimated fees for obtaining the development consent and construction certificate from the Council, and obtaining the subdivision certificate and registering the subdivision with the relevant authority.

A development application was lodged with the Council and approval was subsequently granted.

You have provided the relevant market value of Lot L at the time development approval was granted.

You engaged the services of the planning and construction business to manage the subdivision of Lot L and they have engaged the services of sub-contractors to carry out consultancy work in relation to the subdivision in addition to carrying out some of the subdivision activities themselves.

The subdivision of Lot L has been carried out in two stages:

● Stage 1 – resulted in Lot L being subdivided into two lots.

● Stage 2 – resulted in the subdivision of those lots created at stage 1 into a small number of lots (the newly created lots).

You have provided details of the costs involved in the subdivision works.

You paid the planning and construction business a commercial fee for their services.

You have not borrowed funds to finance the subdivision.

Some of the newly created lots were sold off the plan.

The remaining lots have not been placed on the market.

You have not been previously involved in subdivision activities.

Although the planning and construction business is operated by your relatives, you were not personally involved in the works.

You have not made any improvements other than what was required under the DA.

You have not acquired additional land to carry out the subdivision.

You initially engaged the planning and construction business to sell the subdivided lots.

You are subsequently selling the remaining lots through an online service.

You are a partner in a partnership known which has conducted various works at the lots. Work done by the partnership was not relevant to the subdivision activities.

You may conduct further subdivision activities in relation to Lots M and N sometime in the future but have not sought council approval for these lots.

You and your current spouse will continue to reside at the dwelling located on Lot P after the subdivision.

Relevant legislative provisions

Income Tax Assessment Act 1997 Part 3-1

Income Tax Assessment Act 1997 Part 3-3

Income Tax Assessment Act 1997 Section 6-5

Income Tax Assessment Act 1997 Section 995-1

Reasons for decision

Summary

The sale of the subdivided lots will be subject to the capital gains tax (CGT) provisions in Parts 3-1 and 3-3 of the Income Tax Assessment Act 1997 (ITAA 1997).

Detailed reasoning

There are three ways profits from property sales can be treated for taxation purposes:

1. As ordinary income under section 6-5 of the ITAA, on revenue account, as a result of carrying on a business of property development, involving the sale of land as trading stock; or

2. As ordinary income under section 6-5 of the ITAA, on revenue account, as a result of an isolated business transaction entered into by a non-business taxpayer, or outside the ordinary course of business of a taxpayer carrying on a business, which is the commercial exploitation of an asset acquired for a profit making purpose; or

3. As statutory income under the capital gains tax legislation.

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.

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.

Application to your situation

In your case, you do not carry on a business of buying, selling or developing land. You have held the property for substantial period of time during which time you did not consider its development and it was used for domestic purposes with your main residence. You had minimal involvement in the subdivision of the land and have not borrowed funds for the development. You engaged a planning and construction business to project manage the development and have paid them a commercial fee for the provision of their services. You contend that your role was entirely passive, and had no involvement in the day to day work of subdividing Lot L, relying on professionals for this.

On balance, the sale of the subdivided lots is considered to be a mere realisation of a capital asset. Profits from the sale of the subdivided lots will not be assessable as ordinary income under section 6-5 of the ITAA 1997.The proceeds will be subject to the capital gains tax provisions in Parts 3-1 and 3-3 of the ITAA 1997.

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