Edited version of private ruling

Authorisation Number: 1011679018319

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Ruling

Subject: Property development

Questions and Answers:

Are you carrying on a business of property or land development?

No.

Will the sale of the land and property you are developing be an isolated business transaction to be accounted for on revenue account?

Yes.

This ruling applies for the following periods:

Year ending 30 June 2010

Year ending 30 June 2011

Year ending 30 June 2012

The scheme commences on:

1 July 2009

Relevant facts and circumstances

You are a licensed real estate agent. You have never previously been personally involved in land development. You purchased land held by your self-managed super fund, to develop a purpose build premises for various local businesses that sought premises through your real estate agency. Your original intention, before any construction commenced, was to develop the property for long term rental. However, as you secured long term leaseholders and as the scope of the development grew, in terms of both physical size and borrowing requirements, you changed your intention to one of developing the property for resale. You must borrow to develop the property and will seek tenders to develop the property. Your primary roles in the property development include borrowing the funds for development, lodging plans and development applications with the local council and marketing activities to both obtain lessees and for selling the property.

Relevant legislative provisions

Income Tax Assessment Act 1997 Section 6-5

Income Tax Assessment Act 1997 Section 8-1

Reasons for decision

Summary

You are not carrying on a business of property development because your activity does not display the salient indicator of a business, which are transactions entered into on a continuous and repetitive basis. However, any profit or loss from your property development will still be accounted for on revenue account as an isolated commercial transaction because you are developing the property for the primary purpose of resale and because buildings are to be erected on the land to enhance its resale value.

Detailed reasoning

Taxation treatment of property sales

There are three ways a profit or loss from property sales can be treated for taxation purposes:

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. Here, the property is trading stock.

As ordinary income under section 6-5 of the ITAA 1997, on revenue account, as a result of an isolated commercial transaction. Here, the property sold is not trading stock.

As statutory income under the CGT legislation, (sections 10-5 and 102-5 of the ITAA 1997), on the basis that a mere realisation of a capital asset has occurred.

Carrying on a business of property development

Section 995 of the ITAA 1997 states the term 'business' includes any profession, trade, employment, vocation or calling, but does not include occupation as an employee.

To determine whether an activity, or series of activities, amounts to a business, the activity needs to be considered against the indicators of a business established by case law.

In the High Court of Australia case of Hope v. Bathurst City Council (1980) 144 CLR 1; (1980) 29 ALR 577; (1980) 80 ATC 4386; [1980] HCA 16, a business was described in the following ways:

It is the words "carrying on'' which imply the repetition of acts and activities which possess something of a permanent character.

…activities engaged in for the purpose of profit on a continuous and repetitive basis.

Transactions were entered into on a continuous and repetitive basis for the purpose of making a profit…manifested the essential characteristics required of a business.

Taxation Ruling TR 97/11 discusses the main indicators of carrying on a business. Based on that discussion some indicators are:

· a significant commercial activity;

· a purpose and intention of the taxpayer to engage in commercial activity;

· an intention to make a profit from the activity;

· the activity is or will be profitable;

· the recurrent or regular nature of the activity;

· the activity is carried on in a similar manner to that of other businesses in the same or similar trade;

· activity is systematic, organised and carried on in a businesslike manner and records are kept;

· the activities are of a reasonable size and scale;

· a business plan exists;

· commercial sales of product; and

· the entity has relevant knowledge or skill.

In determining whether a taxpayer is carrying on a business, no one indicator will be decisive. The indicators must be considered in combination and as a whole. Whether a business is being carried on depends on the large or general impressions gained from looking at all the indicators and whether these indicators provide the operations with a commercial flavour.

Isolated business transactions

The Commissioners view on whether profits from isolated transactions are assessable as ordinary income is found in Taxation Ruling TR 92/3. 'Isolated transactions' are:

· those transactions outside the ordinary course of business of a taxpayer carrying on a business; and

· those transactions entered into by non-business taxpayers.

TR 92/3 states profits on an isolated transaction will be ordinary income when:

· the intention or purpose of a taxpayer 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 operation or commercial transaction.

Paragraph 13 of TR 92/3 states some matters which may be relevant in considering whether an isolated transaction amounts to a business operation or commercial transaction are the following:

· the nature of the entity undertaking the operation or transaction;

· the nature and scale of other activities undertaken by the taxpayer;

· the amount of money involved in the operation or transaction and the magnitude of the profit sought or obtained;

· the nature, scale and complexity of the operation or transaction;

· the manner in which the operation or transaction was entered into or carried out;

· the nature of any connection between the relevant taxpayer and any other party to the operation or transaction;

· if the transaction involves the acquisition and disposal of property, the nature of that property; and

· the timing of the transaction or the various steps in the transaction.

Paragraph 49(g) of TR 92/3 provides an isolated commercial transaction will generally occur in respect of the acquisition and disposal of property when property has no use other than as the subject of trade (i.e. resale). On the other hand, paragraph 49(h) of TR 92/3 provides the holding of the property for many years may indicate a transaction is not of a commercial nature (i.e., not accounted for on revenue account but instead under the capital tax provisions).

Paragraph 42 of TR 92/3 states if a taxpayer acquires an asset with the intention of using it for personal enjoyment but later decides to venture or commit the asset into a profit-making undertaking or scheme with the characteristics of a business operation or commercial transaction, the activity of the taxpayer constitutes the carrying on of a business operation or commercial transaction carrying out a profit-making scheme, as the case may be.

Miscellaneous Taxation Ruling MT 2006/1 also contains an extensive discussion on the subject of isolated commercial transactions. Paragraph 265 states if several of the following factors are present, it may be an indication that a business or concern in the nature of trade is being carried on:

· 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.

Paragraph 277 of MT 2006/1 provides the following example of an isolated commercial transaction:

Steven buys a 100 hectare property. He believes that the property may be suitable to be developed as a resort. After investigation he decides that it would be more profitable to subdivide and sell the property. He decides to subdivide the property into one hectare lots and sell these.

He engages a town planner and a surveyor to survey the 100 hectare property and to establish how many hectare lots it can be subdivided into. Steven then approaches the local shire council and is advised that he may subdivide his property into 65 one hectare lots.

However, Steven must satisfy various shire council conditions if he wishes to obtain development approval. They are:

· the making of new sealed roads with kerbing and channelling within the subdivision ;

· the provision of water, electricity and telephone services to the new lots ;

· the provision of culverts and other storm water drainage works ; and

· the transfer of certain areas of land to the shire council for parks, environmental and other public purposes.

Steven consults his accountant and legal advisers. Together they prepare a comprehensive business plan for the project. They approach a commercial lender to arrange a substantial loan, secured by the property, to cover all development costs and related expenses.

After gaining development approval from the council, Steven then engages a project manager who arranges for all the survey and subdivisional works to be carried out. Contractors are engaged to put in the roads, complete all the necessary drainage works and install the water, electricity and telephone services.

Steven also investigates a marketing strategy that will provide the best return for his project. Sales agents are retained to carry out the marketing program which involves a comprehensive advertising campaign using a promotional estate name, ' Bush Turkey Hill'.

Steven is entitled to an ABN on the basis that the subdivision is an enterprise and it is more than a mere realisation of a capital asset. Significant factors that are relevant which lead to this conclusion are as follows:

· there is a change of purpose for which the whole property is held;

· there is a comprehensive plan for the development of the property ;

· the subdivision is developed in a businesslike manner for example there is a project manager, significant development costs, a comprehensive marketing campaign including an estate name for the land ; and

· a substantial loan has been taken out to finance the development.

Paragraph 294 of MT 2006/1 provides the following example of what is not an isolated commercial transaction:

A number of years ago Elsie and Karin purchased some acreage on which to keep their horses, which they rode on weekends. Karin now accepts a job overseas and they decide to sell the land.

They put the land on the market with little success. The local real estate agent then advises that it would be easier to sell the land if it was subdivided into smaller lots. They arrange for a development application to be lodged with the local council and obtain approval to subdivide the land into nine lots. Elsie and Karin arrange for the land to be surveyed. The land has a road running along its boundary and has some existing services such as electricity. Only minimal activity is required to subdivide the land.

Elsie and Karin are not entitled to an ABN. The sale is not considered to be an enterprise and is the mere realisation of a capital asset.

Trading stock

Section 70-10 of the ITAA 1997 defines trading stock to include anything produced, manufactured or acquired which is held for the purposes of manufacture, sale or exchange in the ordinary course of business.

Taxation Determination TD 92/126 specifies that if in an isolated commercial transaction land is acquired for the purpose of development, subdivision and sale, the land is not treated as trading stock because a business of trading in land was not commenced.

Application of law to your case

In your case, you are not carrying on a business of property development because your activity does not display the salient indicator of a business, which are transactions entered into on a continuous and repetitive basis. To date, the relevant property is the only property you have intended to develop. Due to its size and scale and one-off nature, your activity is not carried on in a similar manner to that of other businesses in the same industry. Although your development has a reasonable size and scale as an individual development, its one-off nature does not give the impression of a business.

The impression that you are not carrying on a business is further supported by the manner in which your property development came to fruition. Originally, the land was owned by your superfund as a long term investment. Then you purchased the land for development after discussions with company A during your everyday employment as a real estate agent. Here, your original intention was to develop the property as a rental property under a long term lease. It was only later, as the idea of a larger multi-faceted development arose, that you changed your intention to developing a property for resale. Where a bona fide business is carried on, it is not easy to reclassify that activity as a capital investment. However, in your case, the nature of your development can easily be categorised as either a capital gains tax transaction or an isolated commercial transaction (but not as a business).

To conclude, although you are not carrying on a business of property development, any profit or loss from your property development will be accounted for on revenue account as an isolated commercial transaction. The nature of your activity meets the characteristics described in TR 92/3 and MT 2006/1, most specifically, there is a change of purpose for which the land is held; you are developing the property for the primary purpose of resale; there is a level of development of the land beyond that necessary for the resale of the land; and buildings have been erected on the land.