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Ruling

Subject: GST and acquisition cost for the purposes of using the margin scheme

Question

For the purpose of calculating the margin for your supply under section 75-10 of the A New Tax System (Goods and Services Tax) Act 1999 (GST Act) is the consideration for your acquisition of the property as agreed in the deed of variation?

Answer

Yes, for the purpose of calculating the margin for your supply under section 75-10 of the GST Act the consideration for your acquisition of the property is as agreed in the deed of variation.

Relevant facts and circumstances

You are registered for the goods and services tax (GST).

You entered into a contract to purchase a property (the property).

The key terms were as follows.

(a) The vendor was XYZ Limited.

(b) The purchase price was agreed to be $xxx amount.

(d) In addition to the Property, you purchased related intellectual property.

(e) The parties agreed that the supply was a GST-free supply of a going concern.

(f) The parties also agreed that a private ruling application would be prepared requesting the Commissioner confirming that:

(i) the supply under the contract qualified as a GST-free supply of a going concern;

(ii) you, as the purchaser, would be entitled to apply the margin scheme when it came to sell the developed lots; and

(iii) you, as the purchaser, was entitled to treat the purchase price of $xxx amount as the acquisition cost for calculating the margin under section 75-10(2) of the GST Act.

The Commissioner issued two private rulings: one to the vendor and one to you as the purchaser.

In the vendor's private ruling, the Commissioner ruled that the vendor would make a GST-free supply of a going concern.

In your private ruling, the Commissioner ruled:

(a) the margin scheme could be applied by you on your sales (provided you had an agreement in writing with each purchaser);

(b) the original purchase price of the interest, unit or lease which an entity has acquired does not include:

· development costs incurred either prior to or after your acquisition;

· incidental acquisition expenses such as legal fees, stamp duty, registration fees and other transfer costs, and

· is the price arrived at after allowing for the usual settlement adjustments provided for in the relevant contract of sale.

In your circumstances the consideration of $xxx amount specified in the contract included payments for different components including, but not limited, to the following:

· the property (being freehold title in the land);

· the development approvals;

· the development and marketing materials;

· the intellectual property;

· water licences;

· the covenants under the existing leases.

The Commissioner considered that in order to work out your consideration for your acquisition of the property you needed to apportion, using a fair and reasonable method, the consideration of $xxx amount specified in the contract between all the above components.

As a result of the private rulings, the parties considered it would be appropriate to contractually agree to a particular apportionment of the purchase consideration. You and the vendor entered into a Deed of Variation to agree on the apportionment of the purchase consideration.

The relevant terms of the Deed of Variation were as follows.

(a) The parties agreed that the purchase price of $xxx amount was apportioned as follows:

(i) the property (being freehold title in the land) - $yyy amount;

(ii) the development approvals - nil;

(iii) the Development and Marketing Materials - $xxx;

(iv) water licences - $xxx

(v) covenants under existing leases - $xxx.

(c) The vendor warranted that:

(i) the apportionment was 'on a fair and reasonable basis and in accordance with all requirements of GST law'; and

(ii) you were entitled to treat $yyy amount as the consideration for your interest in the real property for the purposes of Division 75 of the GST Act.

You intend to develop the Property and sell the developed lots under the margin scheme. No supplies of the property have yet been made by you.

In your current private ruling application the following is stated:

(a) you and the vendor were acting at arm's length;

(b) the amounts agreed between you and the vendor were the true market values of the interest in the property and the other items that formed part of the development enterprise.

(c) you and the vendor are not associates.

You are seeking a GST private ruling in order to obtain certainty with respect to your GST position when selling the lots as you want to eliminate the risk that the Commissioner does not accept that $yyy amount is the correct acquisition cost when you come to sell the subdivided lots and calculate the margin.

Relevant legislative provisions

The A New Tax System (Goods and Services Tax) Act 1999 Section 75-10

The A New Tax System (Goods and Services Tax) Act 1999 Section 75-14

Reasons for decision

In a previous private ruling issued to you the Tax Office considered that section 75-14 of the GST Act applied to your situation.

Section 75-14 of the GST Act provides that to avoid doubt, in working out the consideration for an acquisition for the purposes of applying the margin scheme to a taxable supply of real property, disregard:

(a) the cost or value of any other acquisitions that have been made by you, or any work performed, in relation to the real property; and

(b) the cost or value of any other acquisitions that are intended to be made by you, or any work that is intended to be performed in relation to the real property after its acquisition;

including acquisitions or work connected with bringing into existence the interest, unit or lease supplied.

Accordingly, for the purposes of the margin scheme, consideration for the acquisition of property does not include any consideration for improvements, construction or development costs of building work, or additional costs such as solicitors' fees and stamp duty, or any expenses or activities in bringing the interest, unit or lease into physical or legal existence.

The ruling goes on to mention the following:

In your circumstances the consideration of $xxx amount specified in the contract included payments for the following components:

· the property (being freehold title in the land);

· the development approvals;

· the development and marketing materials;

· the intellectual property;

· water licences;

· the covenants under the existing leases.

Therefore in order to work out your consideration for your acquisition of the property you need to apportion, using a fair and reasonable method, the consideration of $xxx amount specified in the contract between all the above components.

Therefore, the amounts paid for other supplies in relation to the development of the property are consideration for acquisitions other than an acquisition of the interest in the property. It is only the consideration provided, in relation to the property itself, by you to the vendor that is the consideration for the acquisition of the interest in the property.

GSTR 2006/8 explains how the GST Act applies to a supply of freehold interest, stratum unit, or long term-lease acquired on or after 1 July 2000. Paragraphs 53-57 of GSTR 2006/8 have been reproduced below:

52. The Commissioner does not accept this view as section 75-15 addresses circumstances where the interest that is supplied differs from the interest that was acquired. The effect of section 75-15 is that for subdivided land or stratum title units, the consideration for the acquisition is the corresponding proportion of the consideration for the land or premises that you acquired.

53. The Full Federal Court decision in Sterling Guardian Pty Limited v. Commissioner of Taxation [2006] FCAFC 12 confirms that costs incurred in developing real property do not form part of the consideration for the acquisition of the real property.

The effect of section 75-14 on supplies made on or after 17 March 2005

54. The treatment of excluding costs incurred in developing real property from the calculation of the margin for the supply is confirmed by section 75-14. Section 75-14 is effective from 17 March 2005.

55. Section 75-14 makes it clear that in working out the consideration for the acquisition the following are disregarded:

(a) the cost or value of any other acquisitions that have been made by you, or any work that has been performed in relation to the real property; and

(b) the cost or value of any other acquisitions that are intended to be made by you, or any work that is intended to be performed after you have acquired the real property,

including acquisitions or work connected with bringing the real property into existence.

Example 3: section 75-14

56. Bob is a builder. He purchases a block of vacant land for $180,000 and then constructs a house on the land. The cost of constructing the house is $100,000. Bob sells the house and land package for $400,000.

57. The margin for the supply is $220,000 ($400,000 - $180,000). The cost of constructing the house is not part of the consideration for the acquisition of the land. Instead, Bob is entitled to input tax credits for any construction acquisitions (for example, building materials and subcontractors' services) that are creditable acquisitions.

As a result of the ruling issued; you and the vendor considered it would be appropriate to contractually agree to a particular apportionment of the purchase consideration.

You informed the Tax Office that you had previously received valuations, but only for finance purposes. You and the vendor entered into a Deed of variation to agree on the apportionment of the purchase consideration.

The original consideration for the acquisition of the interest in the property was $xxx amount.

Therefore, you and the vendor agreed that the purchase price of $xxx amount was to be apportioned as follows:

(i) the property (being freehold title in the land) - $yyy amount.

You now want to know whether the Commissioner agrees with your apportionment calculation that the purchase consideration is $yyy amount.

Paragraph 58 of GSTR 2006/8 states the following:

Apportionment methods

58. To ascertain the proportion of the purchase price that relates to the subdivided allotment or stratum unit, you may use any fair and reasonable method of apportionment. The method of apportionment used must result in the sum of the proportionate amount of the purchase price that relates to each subdivided allotment or stratum unit equalling in total, the actual consideration for the acquisition. You cannot change the method of apportionment after sales of allotments or stratum units have been made unless the changed method is applied to calculate the margin for all the sales.

The GST legislation does not specify a method of apportionment of the development costs when calculating the margin of a supply. Where there is no legislative provision specifying a basis for apportionment you may as stipulated in paragraph 58 of GSTR 2006/8 use any fair and reasonable method to apportion the development costs. However, the choice of apportionment method must be supported by the facts in the particular circumstances.

In the current private ruling application the following is stated:

· you and the vendor were acting at arm's length;

· the amounts agreed between you and the vendor were the true market values of the interest in the property and the other items that formed part of the development enterprise;

· you and the vendor are not associates; and

· the apportionment was 'on a fair and reasonable basis and in accordance with all requirements of GST law.

Dealing at arm's length

In Granby Pty Ltd v. FCT (1995) 30 ATR 400; 95 ATC 4240, where the expression 'dealing with each other at arm's length' in section 160ZH of the Income Tax Assessment Act 1936 was in question, Lee J said (at ATR 403; ATC 4243):

The expression "dealing with each other at arm's length" involves an analysis of the manner in which the parties to a transaction conducted themselves in forming that transaction. What is asked is whether the parties behaved in the manner in which parties at arm's length would be expected to behave in conducting their affairs. Of course, it is relevant to that enquiry to determine the nature of the relationship between the parties, for if the parties are not parties at arm's length the inference may be drawn that they did not deal with each other at arm's length.

The expression 'at arm's length' is not defined in the GST Act. The CCH Macquarie Concise Dictionary of Modern Law , 1988, CCH Australia Ltd/ Macquarie Library Pty Ltd, Sydney, describes the expression 'at arm's length' as meaning that the parties to a transaction are not connected in such a way as to bring into question the ability of one to act independently of the other.

In this case, we are informed that you and the vendor are not associates and that you have a Deed of Variation of Contract set up to arrive at an apportionment of the consideration to be provided for the property. As such, it is considered that you behaved in the manner in which parties at arm's length would be expected to behave in conducting their affairs.

Market value

Market value is not defined in the GST Act. Goods and Services Tax Ruling GSTR 2001/6 provides assistance in understanding the concept of market value. Paragraph 19 of GSTR 2001/6 is reproduced below:

19. We consider that, in most circumstances, when the parties to a transaction are acting at arm's length, the goods, services or other things being exchanged are of equal market value. This value can be determined by using a reasonable valuation method that is agreed to by you and the other party. However, this method must produce a reasonable GST inclusive market value of the things exchanged.

You also mentioned in your ruling application that the Full Federal Court confirmed the finding of the Administrative Appeals Tribunal in Luxottica Retail Australia Pty Ltd v FC of T 2010 ATC 10-119.

Paragraph 30 of the ruling made in Luxottica Retail Australia Pty Ltd v FC of T 2010 ATC 10-119 is reproduced below:

30. The case law also establishes that as a general rule, and absent tax avoidance or sham (and there is no suggestion of any such elements in this case) the courts will generally accept that the price contractually agreed between the parties will be determinative of the value for taxation purposes. See in particular in this context the judgment by the House of Lords in Lex Services plc v Commissioners of Customs and Excise [2003] UKHL 67; [2004] STC 73 at [18]:

In this case, the property is disposed of under a contract and we agree that the parties dealing with each other at arm's length allocated market values to the property and the other items that formed part of the development enterprise. We have also been told that you and the vendor are not associates and that the apportionment was on a fair and reasonable basis and in accordance with all requirements of the GST legislation.

Therefore, in this case, the Commissioner will agree that the purchase price agreed between you and X under the Deed of Variation, is $yyy amount.