Edited version of private advice

Authorisation Number: 1052115544511

Date of advice: 22 May 2023

Ruling

Subject: CGT - sale of land - capital vs revenue

Question 1

Will the proceeds from the sale of the land be assessable as ordinary income under section 6-5 of the Income Tax Assessment Act 1997 (ITAA 1997)?

Answer

Yes.

Question 2

Will the profit from the sale of the land be included in your assessable income under the capital gains tax (CGT) provisions in Parts 3-1 and 3-3 of the ITAA 1997 as a result of the realisation of a capital asset?

Answer

No.

This ruling applies for the following periods:

Year ended 30 June 20YY

Year ending 30 June 20YY

The scheme commenced on:

1 July 20YY

Relevant facts and circumstances

You were established to acquire a single parcel of land with the intention of a land subdivision development.

You purchased the parcel of land.

You submitted a development application for the subdivision to the relevant local authority which was approved on Date A.

During the development application process a government authority made contact and advised they would require a significant portion of the land.

The portion of land that the entity intended to acquire resulted in the land subdivision development being no longer viable.

Negotiations were entered into for the full acquisition of the property by the government authority.

The sale of the property will be a private treaty sales transaction and not a compulsory acquisition.

The agreed value of the acquisition is yet to be determined.

Relevant legislative provisions

Income Tax Assessment Act 1997 section 6-5

Income Tax Assessment Act 1997 section 102-5

Income Tax Assessment Act 1997 section 104-10

Income Tax Assessment Act 1997 section 118-20

Reasons for decision

Broadly, there are three ways profits or proceeds from the sale of land can be treated for taxation purposes:

1. as ordinary income under section 6-5 of the ITAA 1997, on revenue account, as a result of carrying on a business of property development
2. as ordinary income under section 6-5 of the ITAA 1997, 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, where the land was acquired or subsequently held for a profit-making purpose, and
3. as statutory income under the CGT provisions in Parts 3-1 and 3-3 of the ITAA 1997 on the basis that a mere realisation of a capital asset has occurred.

Carrying on a business of property development

The definition of business in section 995-1 of the ITAA 1997 simply states what activities may be included in a business; it does not provide any guidance for determining whether the nature, extent, and manner of undertaking those activities amount to the carrying on of a business. For this purpose it is necessary to turn to case law.

Taxation Ruling TR 97/11 Income Tax: am I carrying on a business of primary production? provides a guide to the indicators that the courts have held to be relevant to whether or not a person is carrying on a business.

Profits on isolated transactions

Taxation Ruling TR 92/3 Income tax: whether profits on isolated transactions are income provides guidance in determining whether profits from isolated transactions are income and therefore assessable.

A profit from an isolated transaction will be income when:

a)    the intention or purpose of a taxpayer in entering into the transaction was to make a profit or gain, and

b)    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 very general terms, a transaction or operation has the character of a business operation or commercial transaction if the transaction or operation would constitute the carrying on of a business except that it does not occur as part of repetitious or recurring transactions or operations.

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. In Moana Sand Pty Ltd v. FC of T 88 ATC 4897; 19 ATR 1853 where the taxpayer had acquired beachfront land with the twofold purpose of working and/or selling the surplus sand and holding the land until it became appropriate to sell it at a profit. The land was ultimately resumed by the government which paid compensation for it. In a joint judgment, the Full Federal Court held that an intention to sell need only be a purpose and need not be the sole or dominant purpose. Although the dominant purpose was not resale at a profit, subdivision with an ultimate profit to the company remained the taxpayer's purpose from acquisition until resumption and therefore the carrying out of a profit-making undertaking or scheme was established.

Capital gains tax

A capital gain or a capital loss may arise if a capital gains tax (CGT) event happens to a CGT asset you own. Land, or an interest in land, is a CGT asset (section 108-5 of the ITAA 1997).

CGT event A1 happens if you dispose of a CGT asset (section 104-10 of the ITAA 1997). You dispose of a CGT asset if a change in ownership occurs from you to another entity, whether because of some act or event or by operation of law (subsection 104-10(2) of the ITAA 1997). The time of the event is when you enter into the contract for the disposal, or if there is no contract, when the change of ownership occurs (subsection 104-10(3) of the ITAA 1997.

Section 118-20 of the ITAA 1997 contains anti-overlap provisions which operate to reduce capital gains by any amounts which are included in your assessable income under a provision of the ITAA outside of Part 3-1 of the ITAA 1997, for example, as ordinary income under section 6-5 of the ITAA 1997.

Application to your circumstances

In your case, you were established to acquire the land with the intention of subdividing it and selling the subdivided lots at a profit. While it is acknowledged that you did not proceed with the subdivision of the land, the fact remains that your intention at the time of acquiring the land was to develop it and sell it at a profit. The proceeds from the sale are considered to be ordinary income, derived either in the course of carrying on a business, or in carrying out a business operation or commercial transaction. As such, the sale proceeds will be included in your assessable income under section 6-5 of the ITAA 1997.

CGT event A1 will happen when you enter into the contract with TMR to dispose of the land; however, any capital gain you make will be reduced section 118-20 of the ITAA 1997 to the extent that the profit from the sale of the land is included in your assessable income under section 6-5 of the ITAA 1997.

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