Edited version of your private ruling

Authorisation Number: 1012578258378

Ruling

Subject: Income Tax and GST implications for the co-ownership structure of properties.

Question 1

Does the property co-ownership structure entered into by Entity A and Entity B constitute a partnership under section 995-1 of the Income Tax Assessment Act 1997 (ITAA 1997)?

Answer

Yes.

Question 2

If the Commissioner considers that the arrangement constitutes a partnership pursuant to section 995-1 of the ITAA 1997, are the individual partners, and not the partnership itself, the "holders" of the assets that are held in co-ownership under section 40-40 of the ITAA 1997 for the purposes of Division 40 of the ITAA 1997?

Answer

Yes.

Question 3

If the Commissioner considers that each arrangement constitutes a partnership pursuant to section 995-1 of the ITAA 1997, is each entity as co-owner, and not the partnership, carrying on an enterprise of leasing the properties held in co-ownership within the meaning of section 9-20 and section 195-1 of the A New Tax System (Goods and Services Tax) Act 1999 (GST Act)?

Answer

Yes.

Question 4

If the Commissioner considers that each entity is carrying on an enterprise of leasing in its own right as a co-owner, should each entity report the GST payable and claim the input tax credits in its own activity statement (BAS) in relation to its enterprise?

Answer

Yes.

This ruling applies for the following periods:

This ruling applies to the beneficiaries of the trust and to the trustee and to any future trustees, for as long as the ruling remains current.

The scheme commences on:

During the year ended 30 June 2013

Relevant facts and circumstances

1. Company A acts as trustee for Trust A and its sub-trusts.

2. Trust A is a fund that invests in, develops and operates Australian commercial properties and carries on a business of developing and leasing commercial property.

3. Company A acting in its capacity as trustee for Trust A and its sub-trusts (Entity A) entered into a transaction whereby its sub-trusts acquired a percentage ownership interest in various properties. The remaining percentage ownership interest in the properties is held by Entity B.

4. Prior to this transaction the interest in the properties were wholly held by Entity B.

5. With the exception of some properties the ownership interest acquired by the sub-trusts consists of a freehold interest in the property as tenants in common with Entity B.

6. Some sub-trusts have entered into a Put & Call Option Deed under which each entity was granted a right to acquire a percentage ownership interest in the properties. These sub-trusts have also agreed to loan to Entity B an amount equal to the acquisition price of each property. It is proposed that upon each sub-trust exercising the option to acquire each property, the loan will be repaid by Entity B offsetting the amount owed with the acquisition price for the transfer of the properties. Where the option is exercised Entity B will transfer a percentage interest in the properties on the same terms as the other properties.

7. The properties operated by each sub-trust will be leased to tenants.

8. Each of the sub-trusts is registered for GST and a GST group formed. Each sub-trust is carrying on its own ongoing leasing enterprise.

9. Entity A holds a percentage ownership interest in the following assets:

· Land

· Leases

· Plant and equipment

· Buildings

10. Entity A undertook extensive commercial, legal and financial due diligence investigations in relation to the properties, and also sought specialist advice where necessary prior to the acquisition of their interest in the properties. Each sub-trust made a decision independently of the other owner to acquire its interest in the properties.

11. Entity A and Entity B hold their interests in the properties and associated leases as "tenants in common" (and not as joint tenants). That is, each owner is registered on the title according to its respective interests in the land. As such, each owner has several liability and not joint liability.

12. The contract of sale indicates each owner will be issued a separate title for each of their respective shares in the form required by the Titles Office.

13. Entity A and Entity B have entered into various agreements.

14. The recitals to the one agreement states that as co-owners Entity A and Entity B carry on separate leasing and development businesses with their respective interests in the properties.

15. One agreement states that nothing in the agreement will be regarded as constituting a partnership between the owners.

16. The agreement also states that no owner will be constituted the agent of the other owner.

17. The agreement states that the obligations and liabilities of the owners under the agreement are several only in proportion to their interest, not joint or joint and several.

18. Entity A and Entity B are both named as Lessor on the lease/sub lease agreements and both entities sign the documents separately.

19. All income from the properties is collected by the "property manager" of each property and distributed to Entity A and Entity B in the proportion of their interest in the properties.

20. All expenses in respect of the properties are payable by Entity A and Entity B in the proportion of their interests in the properties.

21. The rights and obligations of the Entities are several in proportion to their interest. All payments by the property manager to the owners must be made in accordance with each owner's interest, and requests for payment must be made by separate tax invoices in accordance with the owners' interests.

22. The property manager is required to maintain a trust account in the name of the owners in relation to the properties, and to pay in amounts received in relation to the properties and to pay out the costs authorised by agreement.

23. The property manager is required to withdraw money from the bank account at least once a week and deposit that money into an interest bearing account in the name of each owner respectively in proportion to their interest.

24. The signatories for the bank account are the employees of the property manager. Entity A and Entity B have no power to operate the bank account. They only have legal rights over the money in the bank account in accordance with trust account law.

25. The property manager must account and report each owner's share separately. Payments are calculated with reference to any surplus cash remaining after taking into account each owner's share in the rental income received, less each party's share of the outgoings. Payments are distributed in accordance with each Entity's interest in the relevant property.

26. Accounts are required to be kept by the property manager and monthly management accounting reports sent to each owner. The reports set out each owner's share of the revenue and expenses on a property-by-property basis.

27. The property manager keeps and manages one set of business records on a property-by-property basis and makes the information available to each owner separately. Entity A keeps separate records in relation to its interests in the properties and only includes its share of the revenue and expenses in relation to the property in its own audited accounts.

28. The property manager deals with third parties in its own name as agent of the owners for any relevant property matters. Invoices for rent are also issued in the name of the property manager.

29. Borrowings by Entity A have been used to fund the acquisition of its individual interest in the properties only. The acquisition was not funded out of joint funds or borrowings.

30. The loan agreement between some sub-trusts and Entity B in respect of some properties is a loan from a co-owner to the vendor and not a form of joint borrowing to fund the properties.

31. There was no offer of finance in relation to obtaining a loan for the purchase of the properties.

32. Entity A and Entity B do not operate under a common business or trading name and have no publically recognised joint business entity.

33. After settlement the owners are entitled to their share of rent as tenants in common. Intellectual property will be owned by both entities in their respective interest.

34. From settlement, each entity must severally perform and observe the obligations contained or implied in each tenancy agreement in accordance with their respective interest.

35. Entity B is required to state that an interest in the tenancy has been transferred to Entity A with the next invoice for rent issued to tenants.

36. The Entities are required to severally comply with the obligations in each service contract relating to each property in accordance with their respective interest.

37. The Entities will each have equal involvement in decision making. Each owner will appoint two representatives to a management committee and decisions of the committee will bind the owners.

38. The Entities agree that the obligations and rights under the agreements are several in accordance with their interest.

39. The managers are required to send notices to each owner at the separate addresses stated in the details section of the agreements.

40. The agreements each require the signature of both Entities.

Assumption

This ruling is made on the assumption that with regards to the Put & Call Option Deed entered into by some sub-trusts, the put and call options will be exercised. This ruling applies to the scenario where the options have already been exercised and a transaction entered into on the same terms as the other properties.

Relevant legislative provisions

Income Tax Assessment Act 1997 Section 995-1 and

Income Tax Assessment Act 1997 Section 40-40.

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 11-5.

A New Tax System (Goods and Services Tax) Act 1999 Section 23-5

A New Tax System (Goods and Services Tax) Act 1999 Section 184-1

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

Reasons for decision

Summary

The property co-ownership structure entered into by Entity A and Entity B constitutes a partnership under section 995-1 of the Income Tax Assessment Act 1997 (ITAA 1997) as a 'tax law partnership' but it is not considered to be partnership under general law.

Detailed reasoning

Section 995-1 of the Income Tax Assessment Act 1997 (ITAA 1997) defines 'partnership' to mean:

(a) an association of persons (other than a company or a *limited partnership) carrying on business as partners or in receipt of *ordinary income or *statutory income jointly; or

(b) a limited partnership.

This definition extends the meaning given to the word partnership in State and Territory partnership law.

'An association of persons carrying on business a partners' reflects the general law definition of partnership.

'An association of persons in receipt of income jointly' is commonly referred to as a 'tax law partnership'.

Taxation Ruling TR 93/32 Income tax: rental property - division of net income or loss between co-owners states at paragraph 3:

3. Co-ownership of rental property is a partnership for income tax purposes but is not a partnership at general law unless the ownership amounts to the carrying on of a business.

General Law Partnership

Partnership is defined in the various State and Territory partnership acts as "the relation which subsists between persons carrying on a business in common with a view to profit." (for example: see Subsection 5(1) Partnership Act 1958 (VIC)). The three essential elements of a partnership are:

· Carrying on a business

· In common, and

· With a view to profit.

Taxation Ruling TR 94/8 Income tax: whether business is carried on in partnership (including 'husband and wife' partnerships) provides guidance on how to determine the existence of a partnership. Paragraphs 3-5 state the following:

3. There are no statutory rules in the income tax law for deciding whether persons are carrying on business as partners. The question of whether a partnership exists is one of fact. The existence of a partnership is evidenced by the actual conduct of the parties towards one another and towards third parties during the course of carrying on business.

4. We look at the following factors in deciding whether persons are carrying on business as partners in a given year of income:

Intention

- the mutual assent and intention of the parties

Conduct

(a) joint ownership of business assets

(b) registration of business name

(c) joint business account and the power to operate it

(d) extent to which parties are involved in the conduct of the business

(e) extent of capital contributions

(f) entitlements to a share of net profits

(g) business records

(h) trading in joint names and public recognition of the partnership

5. The weight to be given to these factors varies with the individual circumstances. The above list of factors is not exhaustive and no single factor is decisive, although the entitlement to a share of net profits is essential.

These factors have been considered in determining whether a general law partnership exists in relation to the property co-ownership structure entered into by Entity A and Entity B.

Intention to create a partnership is commonly demonstrated by parties entering into a partnership agreement. In this case, the arrangement set out in the agreements will not result in the creation of a general law partnership since there is no express intention to form a partnership, and nothing in the agreements which points to an intention to operate as a partnership.

Even though the agreements do not indicate an intention to form a partnership that intention may still exist and be demonstrated by conduct.

On the whole of the facts presented, the conduct of the Entities does not indicate an intention to act in partnership. Key indicators of partnership are not present. For example, there is no mutual agency between the parties, liabilities and obligations are several, not joint or joint and several, and the Entities do not present themselves to third parties as being in partnership.

In this case, the Entities are carrying on a business with a view to profit. However, the facts indicate that this business is not carried on 'in common'. Therefore, the essential elements of a partnership at general law are not present. The Entities are not considered to be an association of persons carrying on a business as partners.

Tax law partnership

A tax law partnership will exist where an association of persons in receipt of income jointly. Co-ownership of rental property is a partnership for income tax purposes.

Under the contract of sale, Entity A and Entity B become co-owners of the property, holding the property as tenants-in-common.

After settlement, tenants must pay all future rental payments to the co-owners as tenants-in-common or as they otherwise direct. Entity A and Entity B are both named as lessor on the lease/sub lease agreements and both Entities sign the documents separately. The lease is between the tenant as lessee, and both Entities as lessors.

The property manager will prepare the invoices for rent and it is intended that the name of the property manager in the capacity as agent for Entity A and Entity B will appear on the invoices to the tenants.

In this case, the income in question is the rental receipts paid by the tenants. The lease money is due to Entity A and Entity B as landlord, thus, they are jointly entitled to that rental income.

Therefore, Entity A and Entity B are an association of persons (other than a company or a limited partnership) that are in receipt of ordinary income or statutory income jointly.

Question 2

Summary

As a partnership exists under tax law but not under general law, the individual partners, and not the partnership itself, are the "holders" of the assets that are held in co-ownership under section 40-40 of the ITAA 1997 for the purposes of Division 40 of the ITAA 1997.

Detailed reasoning

In accordance with Item 7 of the table in section 40-40 of the ITAA 1997, a depreciating asset that is a partnership asset is held by the partnership and not any particular partner.

ATO Interpretative Decision ATO ID 2009/135 Income Tax Capital Allowances: hold - tax law partnership provides the Commissioners view on whether a 'tax law partnership' entity, holds depreciating assets under item 7 of the table in section 40-40 of the ITAA 1997.

The meaning of the expression 'partnership asset' is not defined for the purposes of Item 7. Paragraphs 1.45 and 1.46 of the Explanatory Memorandum to the New Business Tax System (Capital Allowances) Bill 2001, which introduced section 40-40 of the ITAA 1997 states:

1.45 Property which has become partnership property or a partnership asset at general law is beneficially owned by all of the partners, even if only one partner is the legal owner. Where a depreciating asset is or becomes a partnership asset, it is appropriate to identify the partnership as being the economic owner of the asset. Thus, the partnership, and not any individual partner, is regarded as holding the asset. This is consistent with the structure of the income tax law, under which the partnership is a notional taxpayer arriving at a tax position which is then allocated out between the partners. [Schedule 1, item 1, section 40-40, item 7 in the table]

1.46 Whether a particular depreciating asset is a partnership asset is determined in accordance with partnership law. This is a question of fact that can only be determined from the terms of the partnership agreement and/or inferences drawn from the conduct of the partners towards the asset.

It is the Commissioner's view that the phrase 'partnership asset' used in Item 7 is intended to carry its common law meaning. That is, it refers to assets of a partnership that are used for the purpose of the business carried on by the partnership. Accordingly, even though the employment of depreciating assets for the purpose of receiving income jointly may be enough to recognise a 'tax law partnership' the meaning of the phrase 'partnership asset' does not extend to assets employed in that manner if they are not owned in partnership to carry on a partnership business.

Consequently the entity, recognised as being a 'tax law partnership', does not hold depreciating assets under Item 7.

It has been determined above that Entity A and Entity B are in a partnership for income tax purposes but not considered a partnership under general law.

Where depreciating assets are jointly owned, subsection 40-35(1) of the ITAA 1997 provides that it is each joint holder's interest in an asset and not the actual asset itself (the underlying asset) that is the relevant depreciating asset for the purposes of Division 40 of the ITAA 1997. The joint owners of depreciating assets individually hold their legal interest in jointly held assets under item 10 of the table in section 40-40 of the ITAA 1997.

Therefore, as there is no partnership at general law, the individual partners hold the depreciating asset themselves for the purposes of Division 40 of the ITAA 1997.

Question 3

Summary

Each Entity as co-owner, and not the partnership, is carrying on an enterprise of leasing the properties held in co-ownership within the meaning of section 9-20 and section 195-1 of the GST Act.

Detailed reasoning

The term 'enterprise' is defined in section 9-20 of the GST Act as an activity, or series of activities, done in the form of a business or 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 interest in a property. Therefore, the leasing of the properties satisfies the definition of carrying on an enterprise under the GST legislation.

The definition of 'entity' under section 184-1(1) of the GST Act includes 'a partnership'. For GST purposes, the definition given to the term partnership is the same as under the Income Tax Assessment Act 1997.

As previously considered in question 1 of this ruling, the co-ownership arrangement between Entity A and Entity B constitutes a partnership, commonly referred to as a 'tax law partnership.'

It is accepted that the tax law partnership of Entity A and Entity B is carrying on an enterprise of property leasing and development. The issue in question is therefore whether each entity as co-owner of the properties is carrying on an enterprise of leasing with respect to each of their interests in the properties or whether the enterprise is being carried on by the tax law partnership.

Goods and Services Tax Ruling GSTR 2004/6 Goods and services tax: tax law partnerships and co-owners of property explains how the GST Act applies to transactions involving tax law partnerships. In particular the ruling explains when a tax law partnership is formed and the GST consequences of its formation. Furthermore, GSTR 2004/6 explores the circumstances in which a tax law partnership carries on an enterprise and the circumstances in which it can be argued that the co-owner of an income producing property, rather than a tax law partnership each carry on an enterprise.

Paragraph 52 of GSTR 2004/6 states:

…..the moment that a tax law partnership exists it is an entity for GST purposes. The GST Act treats the partnership as an entity separate from its partners.

GSTR 2004/6 also sets out the factors that may point to an enterprise being carried out by each co-owner in their own right at paragraphs 66 and 68 which states:

66. The following factors may point to an enterprise being carried on by each co-owner in their own right, and not by a tax law partnership:

· the co-owner is registered for GST in its own right in relation to a broader enterprise and acquires an interest in property in carrying on that enterprise;

· there is an agreement between the co-owners not to form a partnership nor to jointly carry on an enterprise;

· each co-owner makes independent decisions with regard to the acquisition of an interest in income producing property;

· each co-owner's acquisition of their interest in property is made separately;

· any borrowings by a co-owner are to fund the acquisition of their interest in the income producing property only; the co-owners do not fund the acquisition of each of their interests out of joint funds or borrowings;

· the co-owners act independently of each other in making decisions about their respective investments;

· each co-owner acts independently with respect to the appointment of a manager or agent, even though the same manager or agent is usually appointed to act on behalf of all the co-owners;

· the gross rental income may be paid into a single trust account operated by a property manager or agent and operating expenses may be met from this trust account. The income is not paid into and the expenses are not paid out of a joint bank account in the name of the co-owners;

· the manager or agent accounts to each co-owner separately, both in respect of income and outgoings and will distribute net rental income from the trust account to the co-owners on a regular basis;

· each co-owner does not act for the mutual benefit or on behalf of the other co-owners and is primarily concerned with securing an enhanced value or return on their investment;

· property is held as tenants in common, rather than as joint tenants; and

· although contributing to a mutual fund to pay all liabilities in relation to the income producing property, each co-owner makes the payment in the course of carrying on their own enterprise.

68. The fact that a single lease agreement is executed by all the co-owners, and that the lessee pays a single rental amount are further factors that need to be considered and weighed in the context of all the evidence in determining which entity carries on the enterprise. The presence of a single lease agreement and a single lease amount is not decisive of an enterprise being carried on by a tax law partnership.

The factors mentioned in paragraphs 66 and 68 of GSTR 2004/6 would lead to the conclusion that an enterprise is carried on by each co-owner in their own right in respect of their interest in the properties. Paragraph 72 of GSTR 2004/6 states:

72. However, a preponderance of the factors mentioned in paragraph 66 of this Ruling would lead to a conclusion that an enterprise is carried on by each co-owner in their own right in respect of their interest in an income producing property. In these cases, we take the view that, although a tax law partnership may exist, it does not carry on any enterprise in relation to the property.

The relevant factors in this case are:

· the co-owner is registered for GST in its own right in relation to a broader enterprise and acquires an interest in property in carrying on that enterprise

Each of Entity A and its sub-trusts is registered for GST and a GST group was formed. Each sub-trust is carrying on its own ongoing leasing enterprise with individual plans to refurbish or redevelop the premises held.

· there is an agreement between the co-owners not to form a partnership nor to jointly carry on an enterprise

In an agreement the parties outline their understanding that the arrangements do not give rise to a partnership between the co-owners.

· each co-owner makes independent decisions with regard to the acquisition of an interest in income producing property;

Entity A undertook extensive commercial, legal and financial due diligence investigations in relation to the properties, and also sought specialist advice where necessary prior to the acquisition of their interest in the properties. Entity A made a decision independently of the other owner, Entity B, to acquire its interest in the properties.

· each co-owner's acquisition of their interest in property is made separately

You advised that borrowings by Entity A have been used to fund the acquisition of its individual interest in the properties only. The acquisition was not funded out of joint funds or borrowings.

· any borrowings by a co-owner are to fund the acquisition of their interest in the income producing property only; the co-owners do not fund the acquisition of each of their interests out of joint funds or borrowings;

Each sub-trust has contributed its capital separately from Entity B to acquire its interest in the properties. There was no joint funding or borrowing with Entity B to acquire these interests. The loan agreement between some sub-trusts and Entity B in respect of some properties is a loan from a co-owner to the vendor and not a form of joint borrowing to fund the properties.

· the gross rental income may be paid into a single trust account operated by a property manager or agent and operating expenses may be met from this trust account. The income is not paid into and the expenses are not paid out of a joint bank account in the name of the co-owners;

An agreement requires the property manager to maintain a trust account in the name of the owners in relation to the properties, and to pay amounts in received in relation to the properties, and to pay out the costs authorised under the agreement. Entity A and Entity B have no power to operate the bank account.

· the manager or agent accounts to each co-owner separately, both in respect of income and outgoings and will distribute net rental income from the trust account to the co-owners on a regular basis;

An agreement provides that the income and expenses of the properties are borne by the owners in proportion to their interest. Income and expenses are received and paid by the property manager and the net income is distributed to each owner's individual account according to their registered interest. Each sub-trust is also only responsible for paying expenses in proportion that its interest bears to the total interest in the properties.

· property is held as tenants in common, rather than as joint tenants;

With the exception of some properties each sub-trust has acquired a freehold interest in the property, and holds its interest in the respective property as a tenant in common with Entity B as per the contract of sale and an agreement.

Conclusion

On the basis of the facts provided, it is considered that each sub-trust as co-owner, and not the tax law partnership, is carrying on an enterprise of leasing the properties held in co-ownership.

It is considered that although a tax law partnership exists, it does not carry on an enterprise of leasing the properties held by the co-owners.

Question 4

Summary

To the extent that each sub-trust is carrying on an enterprise of leasing in its own right as a co-owner, each sub-trust should report the GST payable and claim the input tax credits in its own BAS in relation to its enterprise.

Detailed reasoning

Under section 23 of the GST Act, an entity is required to be registered for GST if it is carrying on an enterprise and its GST turnover meets the registration turnover threshold.

Section 31 of the GST provides that if an entity is registered or required to be registered, it must give to the Commissioner a GST return for each tax period.

As previously confirmed each sub-trusts is registered for GST. Also as concluded above in question 3, each sub-trust as co-owner is carrying on a property leasing enterprise to the extent of their interest in the property.

Consequently, each sub-trust is making taxable supplies and creditable acquisitions to the extent of its interest in the properties. Hence, each sub-trust is required to report its supplies and/or acquisitions in respect of its property leasing enterprise in its BAS for the relevant period.