Edited version of your written advice

Authorisation Number: 1051420444189

Date of advice: 31 August 2018

Ruling

Subject: GST, income tax, capital gains tax and the sale of property

Issue 1: Goods and services tax

Question 1

Do your activities of subdivision and construction of a residential dwelling at a specified location (the Property) for the purpose of sale constitute an ‘enterprise’, as defined by section 9-20 of the A New Tax System (Goods and Services Tax Act) 1999 (GST Act)?

Answer

Yes

Issue 2: Income tax/capital gains tax

Question 1

Will the profit from the sale of the Property be treated 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?

Answer

No.

Question 2

Will the profit from the sale of the Property be treated as ordinary income under section 6-5 ITAA 1997 as a result of an ‘isolated transaction’ carried out for profit and commercial in character?

Answer

Yes.

Question 3

Will the profit from the sale of the Property be treated as statutory income under the capital gains tax provisions in Parts 3-1 and 3-3 of the ITAA 1997 as a result of a realisation of a capital asset?

Answer

No.

Relevant facts and circumstances

Individual A is registered for GST and carries on an enterprise of providing architectural drafting services.

Individual A and Individual B (You) are not registered for GST.

In xx/xxxx you purchased a property located at a specified address.

Your intention was to demolish the existing house and build a duplex.

You planned to sell one of the units (the Property) and retain and live in the other.

At the time of the acquisition you were renting a house located at another location and used as your principal place of residence.

Approval was obtained from the relevant Council for the demolition of the existing house.

Demolition of existing house commenced in xx/xxxx and was completed in xx/xxxx.

During this time, you lodged an application with the Council for the construction of two dwellings.

You arranged financing for the subdivision and construction by way of a joint loan.

Your initial intention was that one of the dwellings was to be used as your principal place of residence and the other (the Property) was to be sold. Due to financial reasons you decided to construct your principal place of residence first and the other dwelling at a later stage thereby reducing repayments burden.

Construction of your residence was completed in xx/xxxx at which time you moved in and used as your principal place of residence.

Due to slump in the housing market at the time, you decided to reduce your risk and just sell The Property without constructing the dwelling as originally planned.

However, after attempts to sell the Property did not result in any offers to your satisfaction you consequently decided to construct a residential dwelling and sell the developed lot.

In xx/xxxx you engaged a Builder by entering into a construction contract to build a single story, three bedroom, two bathroom brick and tile home at the Property.

In xx/xxxx you entered a contract for the sale of the Property which settled in xx/xxxx.

The sale contract provides that the margin scheme applied to the sale with the Buyer and the Seller agreeing as such.

You have not built or developed a property under a profit-making scheme or venture before.

At your time of purchasing the Property in xxx, your plans were to subdivide the Property and construct new dwellings for the purpose of sale at a profit. Your intention at that time was to also engage in similar such activities in the future. However, due to your experiences regarding the Property you have reconsidered and no longer intend to carry out such projects in the future.

Your experience with building houses comes from building two of your own for which you drafted the architectural plans.

The only connection you have to entities which build properties and/or undertake land development is with those who are clients of your business.

Relevant legislative provisions

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

Section 9-20

Paragraph 9-20(1)(a)

Paragraph 9-20(1)(b)

Section 195-1

Income Tax Assessment Act 1997

Section 6-5

Part 3-1

Part 3-3

Reasons for decision

Issue 1: Goods and services tax

Note: In this reasoning, unless otherwise stated,

● all legislative references are to the A New Tax System (Goods and Services Tax) Act 1999 (GST Act)

● reference material(s) referred to are available on the Australian Taxation Office (ATO) website www.ato.gov.au

The term ‘enterprise’ is defined for GST purposes in section 9-20 and includes, among other things, an activity or series of activities done in the form of a business (paragraph 9-20(1)(a)) or done in the form of an adventure or concern in the nature of trade (paragraph 9-20(1)(b)). The phrase ‘carry on’ in the context of an enterprise includes doing anything in the course of the commencement or termination of the enterprise.

Miscellaneous Taxation Ruling MT 2006/1 (MT 2006/1) provides the Tax Office view on the meaning of 'enterprise' for the purposes of entitlement to an Australian Business Number (ABN). Goods and Services Tax Determination GSTD 2006/6 provides that the discussion in MT 2006/1 equally applies to the term 'enterprise' as used in the GST Act and can be relied on for GST purposes.

Paragraph 244 of MT 2006/1 explains that an adventure or concern in the nature of trade includes a commercial activity that does not amount to a business but which has the characteristics of a business deal. It refers to ‘the badges of trade’ and outlines a number of factors that may be taken into account when determining whether assets have the characteristics of ‘trade’ and held for income producing purposes, or held as an investment asset or for personal enjoyment.

While an activity such as the selling of an asset may not of itself amount to an enterprise, account should be taken of the other activities leading up to the sale to determine if an enterprise is carried on.

Paragraph 262 of MT 2006/1 acknowledges that the question of whether an entity is carrying on an enterprise often arises where there are ‘one-offs’ or isolated real property transactions. Paragraph 263 continues stating that the issue to be decided is whether the activities being conducted are an enterprise in that they are of a revenue nature as they are considered to be activities of carrying on a business or an adventure or concern in the nature of trade (profit making undertaking or scheme) as opposed to the mere realisation of a capital asset.

The cases of Statham & Anor v. Federal Commissioner of Taxation (Statham) and Casimaty v. FC of T (Casimaty) established a number of factors in determining whether activities are a business or an adventure or concern in the nature of trade with reference to real property transactions including:

● there is a change of purpose for which the land is held;

● additional land is acquired to be added to the original parcel of land;

● the parcel of land is brought into account as a business asset;

● there is a coherent plan for the subdivision of the land;

● there is a business organisation – for example a manager, office and letterhead;

● borrowed funds financed the acquisition or subdivision;

● interest on money borrowed to defray subdivisional costs was claimed as a business expense;

● there is a level of development of the land beyond that necessary to secure council approval for the subdivision; and

● buildings have been erected on the land.

No single factor will be determinative of whether the activity or activities will constitute either a business or an adventure or concern in the nature of trade.

Application to your situation

In this case you acquired property for the purpose of demolishing the existing house, subdividing and then constructing 2 dwellings. One of the dwellings was to be your principal place of residence and the other dwelling was for the purpose of sale.

Due to a change in your circumstances you did not proceed with building the second dwelling, but rather you decided to sell the new lot as a vacant lot. Following attempts to sell the vacant lot you were unable to obtain any offers to your satisfaction. You then decided to revert to your original plan and engaged a builder to carry out the construction of the dwelling for the purpose of sale.

The property settled in xx/xxxx.

Your activities illustrate that there was a coherent plan in carrying out the activities. We also consider that your activities constitute a level of development of the property, including the construction of the unit, that exceeds those necessary to secure council approval for the subdivision.

Paragraphs 273 to 276 (Example 29) of MT 2006/1 illustrates a scenario with similar facts to that in this case:

273. Tobias finds an ocean front block of land for sale in a popular beachside town. He devises a plan to enable him to afford to live there. He decides to purchase the land and to build a duplex. He plans to sell one of the units and retain and live in the other. The object of his plan is to enable him to obtain private residential premises in an area that would otherwise be unaffordable for him.

274. Tobias carries out his plan. He purchases the land, and lodges the necessary development application with the local council. The development application is approved by the council, Tobias engages a builder and has the duplex built. He sells one unit, and lives in the other.

275. Tobias is entitled to an ABN. His intentions and activities have the appearance of a business deal. They are an enterprise.

276. Further, there is a reasonable expectation of profit or gain (see paragraphs 378 to 405 of this Ruling) as his plan has enabled him to be able to keep and live in one of the units.

Given your intentions at the time of acquiring the property and your subsequent activities, we consider that your activities fall within the scope of an isolated transaction of real property and not a mere realisation of a capital asset as discussed in MT 2006/1. Your activities will therefore be considered an ‘enterprise’, being an activity or a series of activities, done in the form of an adventure or concern in the nature of trade as defined in subsection 9-20(1)(b).

Further issues for you to consider

GST registration

You are required to register for GST if you carry on an enterprise and your turnover meets the GST registration turnover threshold (currently $75,000). As discussed above, you are carrying on an enterprise. Therefore you need to consider whether your turnover will be $75,000 or more (i.e. meets the GST registration turnover threshold).

Section 188-10 provides that your turnover will meet the threshold if:

(a) …; or

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

The transfer of a capital asset is disregarded when calculating your projected GST turnover.

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

Assets can change their character from a capital/investment asset to a trading/revenue asset, or vice versa, but cannot have a dual character at the same time.

In your case we consider the Property was always held for the purpose of sale. The property was not held for personal enjoyment or investment. The Property is a revenue asset and not a capital asset. Therefore the proceeds from the sale of the Property would not be excluded from your projected GST turnover.

As you are carrying on an enterprise and the proceeds from the sale exceed the GST registration turnover threshold of $75,000, you would be required to register for GST.

Issue 2: Income tax/capital gains tax

Summary

The proceeds received from the sale of the unit, while not derived in the course of carrying on a business, will be assessable as ordinary income from an isolated profit making transaction.

Detailed reasoning

Proceeds from the sale of property for tax purposes are treated as either:

● income according to ordinary concepts under section 6-5 derived:

1. in the course of carrying on a business, or

2. from an isolated transaction for the purpose of profit making, or

● subject to capital gains tax.

Whether the proceeds are treated as income or capital depends on the situation and circumstances of each particular case.

Carrying on a business

You have stated that you have not built or developed a property under a profit-making scheme or venture before. Your experience with building houses comes from building two of your own for which you drafted the architectural plans. The only connection you have to entities which build properties and/or undertake land development is with those who are clients of your business.

Accordingly, the proceeds received from the sale of the unit will not be derived in the course of carrying on a business.

Isolated profit making transaction

Profits arising from an isolated business or commercial transaction will be ordinary income if the taxpayer's purpose or intention in entering into the transaction is to make a profit, even though the transaction may not be part of the ordinary activities of the taxpayer's business (FC of T v. Myer Emporium Ltd 1987 163 CLR 199; 87 ATC 4363; 18 ATR 693) (Myer Emporium).

Taxation Ruling TR 92/3 considers the principles outlined in the Myer Emporium case and provides guidance in determining whether profits from isolated transactions are assessable under section 6-5 of the ITAA 1997 as ordinary income.

TR 92/3 defines the term ‘isolated transactions’ as:

● transactions outside the ordinary course of business of a taxpayer carrying on a business, and

● transactions entered into by non-business taxpayers.

It is not necessary that the intention or purpose of profit-making be the sole or dominant intention or purpose for entering into the transaction. It is sufficient if profit-making is a significant purpose.

If a taxpayer makes a profit from a transaction or operation, that profit is income if the transaction or operation is not in the course of the taxpayers business but:

● the intention or purpose of the taxpayer in entering into the profit-making transaction or operation was to make a profit or gain, and

● the transaction or operation was entered into, and the profit was made, in carrying out a business operation or commercial transaction.

The taxpayer must have the requisite purpose at the time of entering into the relevant transaction or operation. If a transaction or operation involves the sale of property, it is usually necessary that the taxpayer has the purpose of profit-making at the time of acquiring the property.

Whether an isolated transaction is business or commercial in character will depend on the circumstances of each case. Where a taxpayer's activities have become a separate business operation or commercial transaction, the profits on the asset can be assessed as ordinary income within section 6-5 of the ITAA 1997.

You purchased a property with the intention of demolishing the existing dwelling and building two new premises, one for yourself to live in and the other to sell. You built a second dwelling on the rear of the existing block and sold it. Your intent was to make a profit on the sale of the second dwelling.

As stated above, it is not necessary that the sole or dominant intention or purpose for entering into the transaction is to make a profit, providing it is a significant purpose. A significant purpose of what you have undertaken for the second dwelling was to sell it at a profit. Therefore, the proceeds from the sale of that dwelling will be assessable under section 6-5 of the ITAA 1997 as ordinary income from an isolated profit making transaction.

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