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Ruling

Subject: GST and sale of real property

Question 1

Will the eventual sale of vacant blocks 1 and 2 be a taxable supply?

Advice/Answers

Yes.

Question 2

Will the eventual sale of block 3 with the residential premises be a taxable supply?

Advice/Answers

No.

Question 3

Will the sale of the vacant proposed blocks 3 and 4 be a taxable supply?

Advice/Answers

Yes.

This ruling applies for the following period

The scheme commenced on

Relevant facts

You carry on an enterprise of leasing a commercial property and is currently registered for GST. You are currently a non-resident of Australia for income tax purposes.

You purchased a residential property containing an existing residential dwelling, which is a brick home consisting of X bedrooms and Y bathrooms.

You did not pay GST when you purchased the property.

It was your intention upon purchasing the property to demolish the existing dwelling and build your family home. Before moving into the property, you had a change in circumstances and decided instead to move overseas indefinitely. At this point you decided to attempt to sell the property to recoup the investment.

You listed the property for sale with a real estate agent. Since the property has been listed as for sale, you have actively tried to sell the property, including holding multiple auctions. The property was marketed for sale as vacant for a number of months.

As you were unable to sell the property you entered into a tenancy agreement in order to derive income.

A few years later, you along with the relevant real estate agents/advisors decided to investigate reorganising the one large block into multiple blocks. Your real estate advisors believe that the ability to sell smaller blocks will make it easier to realise the investment.

Shortly after you applied to the local council to reorganise the block of land into three separate blocks.

The council approved the reconfiguration into three lots. Blocks 1 and 2 are vacant lots while block 3 is an internal lot containing the existing dwelling.

Due to the size of the council approved 'block 3', you made a further application to the council to further reorganise the back block into two separate lots (proposed blocks 3 and 4). Where the council approves the further reorganisation, you will demolish the existing dwelling and sell the proposed blocks 3 and 4 as vacant lots.

Recently small ground works commenced to complete the reconfiguration into three lots.

You gave the tenants notice to vacate the dwelling. Under the terms of the lease agreement, the notice period is 8 weeks.

You continue to sell the property, listing it for sale with a real estate agent.

The reorganisation is classed as a 'code assessable' application meaning that, as long as you complied with the relevant codes such as location, lot sizes, orientation and infrastructure provisions etc, it is relatively easy to gain approval to subdivide. As such, only minimal development activities are required to secure council approval. The only activities required are:

Provide access to the following infrastructure services to each lot:

· sewer;

· storm water access;

· telecommunications

· town water

These services are already in place to the block itself and to the existing house.

Undertake replanting of native vegetation at the rear of the property.

Construction of a concrete driveway to block 3.

You estimate total expenditure to complete the above is expected to be approximately $Y. All activities are expected to be completed soon. None of the three blocks will be subject to a lease at the time of sale. If council approves the further reorganisation, all of the blocks will be sold as vacant lots.

You do not have a business plan and you have not previously undertaken any land subdivision activities. You have had limited involvement in the activities to date. You engaged consultants and contactors to undertake the necessary council submissions, planning, ground works etc. You engaged a suitably experienced real estate agent to manage the process.

Accurate records are kept to help you comply with your taxation obligations. The property is not recorded as a business asset.

You borrowed 100% of the property's acquisition cost from a financial institution. The terms of the loan are interest only and no capital amounts are being repaid.

During the period in which the property was available for rent, interest on funds borrowed was claimed as a deduction against your rental income. During the periods of time in which the property was/is not available for rent, no interest costs have/will be claimed as an income tax deduction.

Due the small scale of the subdivision, that is, a small block with minimal ground works required, you will not need to borrow additional funds.

Income tax deductions for upkeep and maintenance of the property have been claimed during the periods in which the property was available for rent. These costs have been claimed against the rental income. As the property has only been used to generate residential rent, which is an input taxed supply, no input tax credits have been claimed.

No income tax deductions will be claimed for subdivisions costs, as you do not consider yourself to be carrying on a business of property development. Rather these costs will be added to the property's Capital Gains Tax Cost Base in determining if any capital gain/loss has occurred. Furthermore, no input tax credits will be claimed on these expenses.

You, together with your property consultants/agents, intend to market the subdivided lots for sale via public auction. This will be a number of weeks campaign that will commence upon confirmation of site works. Your property consultants/agents will not proceed with production of advertising material until the date for the auction is set.

Should only 3 blocks be sold (as is currently approved), it is anticipated that you will break-even, after taking into consideration the original purchase price and cost to subdivide and sell. Should 4 blocks be sold (which is still subject to council approval, the outcome of which is still undetermined), you expect to make a small profit, after taking into consideration the original purchase price and cost to subdivide and sell. If you were to take into consideration the holding cost of the property over the period of ownership, i.e. outgoings, interest on funds borrowed etc, you will likely realise a loss overall.

In the event that block 3 is sold with the residential premises intact, you do not anticipate undertaking substantial renovations to the residential premises prior to sale.

Relevant legislative provisions

A New Tax System (Goods and Services Tax) Act 1999 Section 9-5.

A New Tax System (Goods and Services Tax) Act 1999 Section 9-20.

A New Tax System (Goods and Services Tax) Act 1999 Section 9-30.

A New Tax System (Goods and Services Tax) Act 1999 Section 40-35.

A New Tax System (Goods and Services Tax) Act 1999 Section 40-65.

A New Tax System (Goods and Services Tax) Act 1999 Section 195-1.

Reasons for decision

Questions 1 and 2

Summary

The sale of blocks 1 and 2 is a taxable supply. The sale of block 3 containing the house is input taxed.

Detailed reasoning

GST is payable on any taxable supply that you make.

Section 9-5 of the A New Tax System (Goods and Services Tax) Act 1999 (GST Act) sets out the requirements of a taxable supply and it states:

You make a taxable supply if:

· you make the supply for *consideration; and

· the supply is made in the course or furtherance of an *enterprise that you *carry on; and

· the supply is *connected with Australia; and

· you are *registered, or *required to be registered for GST.

However, the supply is not a *taxable supply to the extent that it is *GST-free or *input taxed.

(* denotes a term defined in section 195-1 of the GST Act.)

The sale of blocks 1, 2 and 3 is a taxable supply if all the requirements of section 9-5 of the GST Act are met.

Based on the information provided, you satisfy the requirements of paragraphs 9-5(a), 9-5(c) and 9-5(d) of the GST Act because:

· you supply the blocks for consideration

· the supply of the blocks is connected with Australia, and

· you are registered for GST.

Furthermore, the supply of the blocks, in the circumstances described, is not GST-free.

The issues to be determined are whether the sale of the blocks is made in the course or furtherance of an enterprise that you carry on under paragraph 9-5(b) of the GST Act, and whether the supply is input taxed.

Enterprise

'Enterprise' is defined broadly in s 9-20 of the GST Act. Section 9-20(1) provides that an enterprise include, among other things, an activity, or series of activities, done:

· in the form of a business

· in the form of an adventure or concern in the nature of trade or

· on a regular or continuous basis, in the form of a lease, licence or other grant of an interest in property.

In this case, the property has been subject to a residential lease for a number of years. The letting of a property is an activity in the nature of a lease, licence or other grant of an interest in property as it is done on a regular and continuous basis. Hence, the activity meets the definition of enterprise.

Goods and Services Tax Ruling GSTR 2004/8 considers the requirement in paragraph 9-5(b) of the GST Act that the supply be made in the course or furtherance of an enterprise that you carry on. Paragraphs 28 and 29 state:

28. For the sale of a thing to be made in the course or furtherance of your enterprise, the sale of the thing must have a connection with your enterprise. Whether a connection between the sale of the thing and your enterprise exists will depend on the facts and circumstances. The Explanatory Memorandum to the A New Tax System (Goods and Services Tax) Bill 1998 states:

'In the course or furtherance' is not defined but is broad enough to cover any supplies made in connection with your enterprise. An act done for the purpose or object of furthering an enterprise, or achieving its goals, is a furtherance of an enterprise although it may not always be in the course of that enterprise. 'In the course or furtherance' does not extend to the supply of private commodities, such as when a car dealer sells his or her own private car. See Case N43 (1991) 13 NZTC 3361.

29. Given the broad meaning of 'in the course or furtherance', a sale of a thing is capable of being made in the course or furtherance of an enterprise regardless of the extent to which it has a connection with the enterprise, so long as it has some connection. The GST Act does not require that the thing must be applied primarily or principally in carrying on the enterprise for the supply of the thing to be in the course or furtherance of an enterprise. Accordingly, a connection between the sale of the thing and your enterprise exists even if, at the time of its sale, the thing is applied in carrying on the enterprise to a minor or secondary extent.

Paragraph 30 of GSTR 2004/8 lists the following characteristics which strongly indicate that a sale of a thing has a connection with an enterprise:

· at the time of sale it formed part of the assets of your enterprise (for example, it is trading stock or a depreciable asset for income tax purposes);

· at the time of sale it was applied in carrying on your enterprise to at least some extent; and

· it is sold as a transaction of your enterprise.

Each of these points will indicate a connection, and not all of the points need to be satisfied.

The application of an asset in an enterprise establishes the necessary connection between the supply of the asset and the relevant enterprise.

Section 195-1 defines 'carrying on' an enterprise to include doing anything in the course of the commencement or termination of the enterprise.

Paragraphs 140 to 148 of MT 2006/1 consider the termination of an enterprise. Paragraphs 141 to 142 state:

141. In the course of terminating an enterprise, a number of obligations may need to be finalised. These include finalising accounts, paying creditors, repaying loans, cancelling licences and business registrations.

142. A change in purpose or use of all assets could result in the termination of an enterprise. A change could occur where an asset is no longer used by the entity in the enterprise and is instead used for private purposes.

You advised that you purchased the property with the intention of building your principal residence. However, you have never established residence on this property. The only use of the property since you purchased it was for your leasing enterprise. Hence, the property formed part of the assets of that leasing enterprise.

You further advised that at the time of sale none of the blocks will be subject to a residential lease.

The cessation of the leasing activities does not necessarily result in the cessation of the leasing enterprise being carried on, on the land. It is something done in the course of terminating the leasing enterprise, accordingly the leasing enterprise is still being carried on.

The sale of the blocks is a consequence of the decision to terminate the letting of the property. The reorganisation of the property and the selling of the blocks are activities in the course or furtherance of carrying on the leasing enterprise. Hence, the requirement of paragraph 9-5(b) of the GST Act is satisfied.

Input taxed supply

Subsection 9-30(2) of the GST Act provides that a supply is input taxed if it is input taxed under Division 40. In this case of importance is the category of supply provided in Subdivision 40-C for residential premises.

Under subsection 40-65(1) of the GST Act, a sale of real property is input taxed but only to the extent that the property is residential premises to be used predominantly for residential accommodation.

Subsection 40-65(2) of the GST Act provides that the sale is not input taxed to the extent that the residential premises are commercial residential premises or new residential premises.

The term 'residential premises' is defined in section 195-1 of the GST Act to mean land or a building that:

· is occupied as a residence or for residential accommodation; or

· is intended to be occupied, and is capable of being occupied, as a residence or for residential accommodation;

· (regardless of the term of occupation or intended occupation) and includes a floating home.

Block 3 containing the house

On the information provided, block 3 contains a house which is used predominantly for residential accommodation. Block 3 is residential premises and is neither commercial residential premises nor new residential premises. Therefore, the sale of block 3 is input taxed.

Blocks 1 and 2

Blocks 1 and 2 are part of the land that was used for residential leasing purposes.

Goods and Services Tax Ruling GSTR 2012/D1 examines the meaning of 'residential premises'. GSTR 2012/D1 is a draft for public comment and represents the Commissioner's preliminary view about the way in which a relevant taxation provision applies, or would apply to entities generally. Paragraph 42 states:

Vacant land is not capable of being occupied as a residence or for residential accommodation as it does not provide shelter and basic living facilities. Vacant land is not residential premises.

As the vacant blocks 1 and 2 are not residential premises, their sale is not input taxed under section 40-65 of the GST Act.

Subsection 9-30(4) of the GST Act provides that an entity's supply is input taxed if it is a supply of anything (other than new residential premises) that it has used solely in connection with its supplies that are input taxed but are not financial supplies.

Goods and Services Tax Ruling GSTR 2003/3 considers the application of subsection 9-30(4) of the GST Act in paragraphs 96 to 98. Paragraph 97 states:

97. Where the owner of rented residential premises later subdivides the land into two blocks, one with a residential building and the other a vacant block, subsection 9-30(4) does not apply to the supply of the vacant block. The subdivision of the land is a use of the land that is not in connection with input taxed supplies. Vacant land is not residential premises as defined in section 195-1 of the Act. The supply of the vacant block needs to be considered under section 9-5.

Blocks 1 and 2 are vacant land created from land containing residential premises. Prior to the creation of the blocks, the land itself was used for input taxed supplies. However, the vacant blocks have not by themselves been used solely in connection with input taxed supplies. Hence, as the use of blocks 1 and 2 is not solely in connection with input taxed supplies, the sale of the vacant blocks is not taken to be an input taxed supply under subsection 9-30(4) of the GST.

As the sale of blocks 1 and 2 satisfy all the requirements of section 9-5 of the GST Act, the sale of the blocks is a taxable supply.

Question 3

Summary

The sale of proposed blocks 3 and 4, which are both vacant blocks, is a taxable supply.

Detailed reasoning

You advised that should council approve the further reorganisation of the back block, you will demolish the existing residence and create 2 vacant lots namely, proposed blocks 3 and 4.

Based on the information provided, you satisfy the requirements of paragraphs 9-5(a), 9-5(b), 9-5(c) and 9-5(d) of the GST Act because:

· you supply the blocks for consideration

· you supply the blocks in the course or furtherance of your leasing enterprise

· the supply of the blocks is connected with Australia, and

· you are registered for GST.

The supply of the blocks is not GST-free and the supply is not input taxed under section 40-65 of the GST Act.

As the blocks formed part of the land that was used for residential rental purposes, it remains to be determined if the sale of the vacant blocks is taken to be an input taxed supply under subsection 9-30(4) of the GST.

In this case, before the house is demolished, you used the land solely in connection with your input taxed supply of residential premises by way of lease. When you undertake to demolish the residence, you no longer use the land solely in connection with your input taxed supply of residential leasing.

As the use of proposed blocks 3 and 4 is not solely in connection with input taxed supplies, the sale of the vacant blocks is not taken to be an input taxed supply under subsection 9-30(4) of the GST.

The sale of proposed blocks 3 and 4 satisfy all the requirements of section 9-5 of the GST Act. Hence, the sale is a taxable supply.

As you are making a taxable supply of real property, the GST payable under section 9-70 of the GST Act is 1/11^th of the price. However, under subsection 75-5(1), you may be able to use the margin scheme if you and the recipient agree in writing that the margin scheme is to apply.

Goods and Services Tax Ruling GSTR 2006/8 provides guidance on the application of the margin scheme for supplies of real property acquired on or after 1 July 2000.

The publications referred to above are available from our website www.ato.gov.au