Edited version of private ruling

Authorisation Number: 1011805381636

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Ruling

Subject: Capital gains tax and main residence

Questions and answers:

1. Did a capital gains event A1 occur when you disposed of 50% of your sub-divided block to your former spouse when the titles issued for the two new blocks?

Yes.

2. Does the 50% discount apply to 50% of the newly subdivided block you sold to your former spouse?

No.

3. Are you entitled to a full main residence exemption on the dwelling constructed on the subdivided block that was in your name only?

No.

4. Are you entitled to a partial main residence exemption on the dwelling constructed on the subdivided block that was in your name only?

Yes.

5. Are you required to include a capital gain or capital loss in your income tax return in the financial year in which you disposed of the dwelling constructed on the subdivided block that was in your name only?

Yes.

6. Are you entitled to use the 50% discount method on the 50% that you originally acquired with your ex-spouse when you sell the dwelling constructed on the subdivided block that was in your name only?

Yes.

This ruling applies for the following period:

Year ended 30 June 2010

The scheme commenced on:

1 July 2009

Relevant facts

You and your spouse purchased a home a number of years ago.

The house was tenanted when you purchased it.

You and your spouse moved into the house a few years later.

You and your spouse demolished the house, sub-divided the land and built two new homes on the land.

You each took one home.

You considered the initial home to be your main residence and the new home also to be your main residence.

You and your wife are separated.

You moved into a shed on the property where the new home was built.

You sold your new home and purchased another home.

Relevant legislative provisions

Income Tax Assessment Act 1997 Section 102-20.

Income Tax Assessment Act 1997 Subsection 108-55(2).

Income Tax Assessment Act 1997 Subsection 124-10(2).

Income Tax Assessment Act 1997 Subsection 124-10(4).

Income Tax Assessment Act 1997 Section 124-575.

Income Tax Assessment Act 1997 Section 124-580.

Income Tax Assessment Act 1997 Section 104-25.

Reasons for decision

You make a capital gain or loss as a result of a capital gains tax (CGT) event happening to a CGT asset. CGT assets include real estate acquired on or after 20 September 1985. CGT events are those transactions that occur to a CGT asset that result in you either making a capital gain or capital loss.

You make a capital gain if your capital proceeds from the sale of a CGT asset are greater than the cost base for the purchase of that asset, for example, if you receive more for an asset than you paid for it.  

You make a capital loss if your reduced cost base for the purchase of that asset is greater than the capital proceeds resulting from the sale of that asset, for example, if you receive less for an asset than you paid for it.

Capital gains tax is not a separate tax, it forms part of your assessable income and is taxed at your marginal tax rate.

Main Residence exemption

You can disregard a capital gain or capital loss made from a CGT event that happens to a dwelling that is your main residence.

To qualify for the full exemption from CGT:

· The residence must have been your home for the whole period that you owned it.

· You must not have used the dwelling to produce assessable income.

· The land the dwelling is situated on must be 2 hectares or less in size.

· You must have moved into the dwelling as soon as practicable after you purchased the dwelling. Note that legislation states the main residence exemption is not extended to the situation where you are unable to move into the dwelling because it is being rented out at the time of acquisition.

In your case, you purchased a property after 20 September 1985 with an existing lease attached to it. The lease expired approximately X years later at which point you and your former spouse moved in. You received rental income from the lease for the period between purchase and when you moved into the property.

Therefore, a full main residence exemption is not available prior to you occupying the dwelling as your main residence.

Partial Main residence exemption

Section 118-185 of the ITAA 1997 states that if a dwelling is your main residence for only part of your ownership period, you will only get a partial exemption for any loss or gain arising from a CGT event that occurs in relation to that dwelling. The capital loss or gain is calculated using the following formula:

Capital gain or loss x Non main residence days*

Total days of your ownership period

(*non main residence days are the number of days where a dwelling was not occupied as your main residence).

Your non main residence days will be calculated from the date of settlement when your ex-spouse originally acquired the dwelling until the date you moved in and established the property as your main residence.

Construction and sale of new dwelling

As discussed above you can disregard a capital gain or capital loss made from a CGT event that happens to a dwelling that is your main residence. The original dwelling became your main residence approximately X years after you acquired it.

You can choose to apply the main residence exemption as if the dwelling that you are building, repairing or renovating on the land were your main residence from the time you acquired the ownership interest where the following conditions are met:

· a dwelling on the land that you construct, repair or renovate becomes your main residence as soon as practicable after the work is finished, and

· it continues to be your main residence for at least 3 months.

TD 1999/96 examines the situation where a shed or other unit of accommodation is considered to be a place of residence. Aspects that are taken into consideration are:

· distance between the units of accommodation

· whether the units of accommodation are connected

· whether the units of accommodation are capable of being sold separately

· the extent to which the daily activities of the occupants in the units of accommodation are integrated.

In your case, the original dwelling became your main residence approximately X years after acquisition. You demolished this dwelling and built a new dwelling on the subdivided land. You moved into the shed at the back of the new dwelling and you used the bathroom and toilet along with the laundry in the new dwelling.

When you sold the property with the new dwelling on it, CGT event A1 occurred. The new dwelling does satisfy the main residence exemption as you moved into the shed on the property and used the bathroom, toilet and laundry in the new dwelling. In addition, the shed was sold together with the new dwelling.

Moving from one main residence to another

Section 118-140 of the ITAA 1997 explains that if you acquire a new home before you dispose of your old one, both dwellings are treated as your main residence for up to six months if:

· the old dwelling was your main residence for a continuous period of at least three months in the 12 months before you disposed of it

· you did not use the old dwelling to produce assessable income in any part of that 12 months when it was not your main residence, and

· the new dwelling becomes your main residence.

If you dispose of the old dwelling within six months of acquiring the new one, both dwellings are exempt for the whole period between when you acquire the new one and dispose of the old one.

In your case the original dwelling became your main residence approximately X years after you purchased it and you have elected to continue to call the property your main residence from when it was demolished until the subdivision and new dwellings were constructed. You were then living in the work shed and using the bathroom and laundry facilities in the new dwelling until you moved into your newly acquired residence during 2009. The dwelling had not produced income during this period.

As your circumstances fulfil the requirements of section 118-140 both the newly constructed dwelling and your newly acquired residence are exempt for the period between when you moved from the newly constructed dwelling and settlement of the sale of that dwelling.

Demolition of dwelling

Capital gains event C1 happens if a capital gains asset you own is lost or destroyed. Taxation Determination TD 1999/79 confirms that CGT event C1 can happen on the voluntary destruction of an asset where for example, a taxpayer might demolish a building in the course of redeveloping a property.

Therefore, on the demolition of the original dwelling CGT event C1 happened. Subsection
104-20(3) of the ITAA 1997 provides that you make a capital gain from CGT event C1 if the capital proceeds from the loss or destruction are more than the asset's cost base. You make a capital loss if those capital proceeds are less than the asset's reduced cost base.

No proceeds were received for the demolition therefore no capital gain or loss is made on the demolition.

Cost base on demolition of dwelling

In the case of the demolition of an existing dwelling, a CGT event happens to only a part of the whole asset (that is the dwelling and not the land) and the cost base or reduced cost base will need to be apportioned between the land and the dwelling using the apportionment rules in section 112-30.

Subsection 112-30(5) of the ITAA 1997 is an exception to the application of these apportionment rules. It provides that an amount that forms part of the cost base or reduced cost base of an asset is not apportioned if, on the facts, that amount is 'wholly attributable' to the part to which the CGT event happened or to the remaining part.

Where there are no capital proceeds received from the demolition of the dwelling, the combined effect of these provisions is that no amount is apportioned to the cost base/reduced cost base of the dwelling. The original purchase price of the dwelling and land will be attributed to the land only.

No amount of the acquisition cost of the property, or of the demolition costs, are wholly attributable to the demolished dwelling only. Accordingly, the cost base of the land before subdivision is determined using the apportionment rules set out in section 112-30 of the ITAA 1997.

Subdivision of land

When you subdivide a block of land, each block that results is registered with a separate title. For CGT purposes, the original asset is divided into two or more separate assets.

Subdividing land does not result in a CGT event as long as ownership of the land does not change (subsection 112-25(2) of the ITAA 1997). At the time of the subdivision the titles had not changed and therefore a change in ownership did not occur at that time.

As such a capital gain or loss was not made at the time of subdivision.

For CGT purposes you are taken to have acquired the subdivided blocks on the date you acquired the original property. The cost base that has been apportioned due to the demolition is now to be divided between the subdivided blocks on a reasonable basis. A reasonable apportionment can usually be achieved on an area basis if the blocks are of a similar size and market value, alternatively on a relative market value basis if this is not the case.

Summary

You and your former spouse purchased land with a dwelling erected on it after 20 September 1985. This property was initially tenanted and subsequently became your main residence.

You then decided to demolish and subdivide the land and each take ownership of one block. An individual house was built on each block.

Blocks 1 and 2 each became separate CGT assets after the new title deeds were issued. The disposal of a subdivided block is treated as the disposal of an asset in its own right, and not as a disposal of part of an asset (the original land parcel). Consequently, the disposal of each block of land is a CGT event in accordance with section 104-10 of the ITAA 1997 which may give rise to a capital gain or loss.

For CGT purposes, if you are joint owners of a property, you are treated as if you own an equal share in the asset. For example, if you own two blocks of land you are treated as if you own a 50% interest in each of the two blocks of land rather than owning one block each.

If two or more taxpayers own an asset jointly, CGT applies separately to each of the taxpayers' interests in the asset.

Example:

A and B were joint owners of a one hectare block of land acquired in 1986. In 1992, they subdivide the land. A took a one-half hectare block ( block 1) and B took the other one-half hectare block (block 2). A acquired a 50% interest in land constituted by block 1 in 1986 and acquired the remaining 50% interest from B in 1992. Similarly, B acquired a 50% interest in the land constituted by block 2 in 1986 and acquired the remaining 50% interest from A in 1992.

A and B have each disposed of their 50% interest in that land constituted by blocks 2 and 1 respectively, in 1992.

At the time of subdivision, you and your former spouse were the registered owners of both the blocks. You each owned 50% of 1 and 50% of 2.

When the new titles issued both you and your ex-spouse took legal title of one block each; you own 100% of 1 and your ex-spouse owns 100% of 2.

As a result of the transaction whereby each of you now have 100% ownership of an individual block, each owner is taken to have disposed of his or her 50% interest in the subdivided property to the other.

You then had two separate interests in block 1: 50% that you originally acquired with your ex-spouse and 50% that you acquired from your ex-spouse when the titles issued.

This change in ownership means that CGT event A1 occurred. The main residence exemption will apply to your 50% originally acquired with your ex-spouse from when you first moved into the dwelling and established it as your main residence, through to when you disposed of the property newly constructed dwelling. In addition, the main residence exemption applies to the 50% you acquired from your ex-spouse as you moved in and lived on the property as soon as practicable after completion.

Discount capital gain

As you have owned 50% of the property for more than 12 months you can choose to use the discount method to calculate the capital gain on that 50%. As you did not own the remaining 50% that you acquired from your spouse for more than 12 months, the discount method is not available for that portion.

The discount percentage of 50% is applied to any capital gain after you have offset any capital losses that you may have in the income year and any unapplied net capital losses from earlier years. In your case this method will enable you to reduce 50% of your capital gain by half.

Steps to calculating your capital gain or capital loss

The steps to follow in determining whether there is a capital gain or capital loss for most CGT events are:

1. determine the capital proceeds from the CGT event (how much did you receive for the disposal of the newly constructed dwelling).

2. Determine the cost base for the CGT asset (see below). In your case the original purchase price is wholly attributed to the land on the demolition of the dwelling and then it is apportioned on a reasonable basis between the two subdivided blocks.

3. Subtract the cost base from the capital proceeds.

4. Where the proceeds exceed the cost base, the difference is the capital gain.

5. If the proceeds do not exceed the cost base then determine whether there is a capital loss by working out the reduced cost base of the asset.

6. If the reduced cost base exceeds the capital proceeds, the difference is the capital loss.

7. If the capital proceeds are less than the cost base but more than the reduced cost base then there is neither a capital gain or a capital loss.

You will then have your total capital gain. This is the amount to be used in calculating your partial main residence exemption using the formula:

Capital gain or capital loss amount

multiplied by non main residence days

divided by total days in ownership.

You then calculate your net capital gain as follows:

1. Reduce the capital gains for the income year by any capital losses for the income year. If the capital losses exceed the capital gains, the difference is your net capital loss. A net capital loss is not deductible from your assessable income but it can be carried forward for offset against capital gains in later years.

2. Reduce any remaining capital gains by any unapplied net capital losses for previous income years.

3. Reduce any remaining capital gains by the discount percentage which is 50%. In your case the 50% discount will apply to half of your capital gain.

Capital Gains Tax (CGT) - Cost base

Under Division 110 of the ITAA 1997, there are five elements which may be included in the cost base and reduced cost base of a CGT asset. These elements are the same for cost base and reduced cost based, except in relation to the third element.

The five elements are:

· First element - money paid or required to be paid and the market value of any other property given or required to be given in respect of acquiring a CGT asset (subsection 110-25(2) of the ITAA 1997).

· Second element - incidental costs of acquiring a CGT asset; or that relate to a CGT event that happens in relation to the asset (subsection 110-25(3) of the ITAA 1997)

· Third element - in respect of the cost base - non-capital costs of ownership of a CGT asset acquired after 20 August 1991 (subsection 110-25(4) of the ITAA 1997) or - in respect of the reduced cost base - various balancing adjustment amounts as set out in subsection 110-55(3) of the ITAA 1997

· Fourth element - expenditure incurred to increase the value of a CGT asset (subsection 110-25(5) of the ITAA 1997)

· Fifth element - expenditure incurred to establish, preserve or defend your title or right over a CGT asset (subsection 110-25(6) of the ITAA 1997)