Edited version of private advice

Authorisation Number: 1012632252318

Ruling

Subject: Forfeited deposit

Questions and Answers:

1. If you continue to try to sell your property and sell it within 2 years of the forfeit, will your forfeited deposit and forfeited repayments received in the year ended 30 June 2014 form part of capital proceeds when the property is disposed of?

Yes.

2. If you continue to try to sell your property and do not sell within 2 years of the forfeit, will your forfeited deposit and forfeited repayments received in the year ended 30 June 2014 form part of capital proceeds assessable in that income year, namely, the year ended 30 June 2014?

Yes.

This ruling applies for the following periods:

Year ended 30 June 2013

Year ended 30 June 2014

Year ended 30 June 2015

Year ended 30 June 2016

The scheme commences on:

1 July 2013

Relevant facts and circumstances

You own a property used as a business. You entered into a contract to sell the property. The contract required a deposit, monthly principal repayments and a monthly occupation fee until the settlement date, which was one year after the contract date.

The purchaser paid the deposit and made some principal repayments however the contract was eventually terminated due to cash flow problems of the purchaser. Under the terms of the contract, the payments were released to you, the vendor.

You immediately relisted the property for sale, where it has continued to be advertised for sale to prospective purchasers.

Relevant legislative provisions

Income Tax Assessment Act 1997 Section 104-10

Income Tax Assessment Act 1997 Section 104-25

Reasons for decision

Section 104-10 of the Income Tax Assessment Act 1997 (ITAA 1997) provides CGT event A1 happens if you dispose of a CGT asset. You dispose of a CGT asset if a change of ownership occurs from you to another entity, whether because of some act or event or by operation of law. The time of the event is when you enter into the contract for the disposal or, if there is no contract, when the change of ownership occurs.

Section 104-25 of the ITAA 1997 provides CGT event C2 happens if your ownership of an intangible CGT asset ends. The time of the event is when you enter into the contract that results in the asset ending or, if there is no contract, when the asset ends.

Section 104-150 of the ITAA 1997 provides CGT event H1 happens if a deposit paid to you is forfeited because a prospective sale or other transaction does not proceed. The time of the event is when the deposit is forfeited.

Taxation Ruling TR 1999/19 explains the capital gains tax ('CGT') consequences of the receipt by a vendor of a forfeited deposit, forfeited instalments of the purchase price and damages. Paragraph 11, 16, 18 and 148 of TR 1999/19 state:

If the underlying asset was acquired by the vendor on or after 20 September 1985 (and is not subject to the main residence exemption), the forfeited deposit adds to a capital gain or reduces a capital loss made on any later disposal of the underlying asset, provided the forfeiture occurred as part of a 'continuum of events' which constituted the disposal of the underlying asset.

For a relevant 'continuum of events' to exist, there must be an earlier contract to sell the underlying asset, forfeiture of a deposit and a later bona fide disposal of the underlying asset. It is also necessary, in our view, for continuous and reasonable attempts to be made to resell the underlying asset (for example, real estate) after the earlier contract has fallen through, which end in this later disposal of the real estate.

If there is no longer a 'continuum of events' which constitutes a disposal of an underlying asset (e.g., after a 2 year period), a vendor is required to amend their income tax return for the earlier year in which the forfeiture occurred and include the forfeited deposit as assessable income. This is on the basis that the vendor's contractual rights are the most relevant asset and that there has been an acquisition and an ending of ownership of their contractual rights (CGT event C2). Refer to Example 7 in this Ruling.

Example 7

Susan acquired her main residence in 1980. In May 1994 she contracted to sell the residence for $360,000 and a deposit of $36,000 was paid under the contract. The purchaser did not complete the contract and so forfeited the deposit to Susan on 31 August 1994. Susan continued attempts to resell the residence. Despite her attempts, Susan had still not resold the residence by 31 August 1996 and this time lapse itself would be indicative of a break in the 'continuum of events'. At this point, there is substantial doubt whether a 'continuum of events' continues unbroken. So, Susan is well advised to amend her 1994-95 income tax return to include the forfeited deposit as a capital gain on the basis that there has been an ending of her ownership of her contractual rights on 31 August 1994, the contractual rights being the most relevant asset. Susan later withdraws the residence from the market.

If Susan had discontinued her attempts to resell the residence in, say, August 1995, she would be required to amend her 1994-95 return (or include the forfeited deposit in that return if it had not been lodged) then and not wait any longer (e.g., until the 2 year period has expired).

As a result of the decision in Brooks v FC of T [2000] FCA 721; 2000 ATC 4362; (2000) 44 ATR 352, in Taxation Ruling TR 1999/19A - Addendum, the Commissioner clarified that if the forfeiture of a deposit under a contract for the sale of real estate does not occur within a 'continuum of events' as that expression is used in TR 1999/19, the forfeited deposit is assessable under CGT event H1 in section 104-150 of ITAA 1997 (rather than assessable under CGT event C2 in section 104-25).

Apart from these aspects, no other change to TR 1999/19 is necessitated by the decision in the Brooks case. We note the timing of the CGT event in both CGT event C2 and H1 is the same.

In your case, your forfeited deposit and forfeited repayments received will form part of a CGT event A1 arising from the later disposal of your property if you continue to market your property and sell within 2 years of the forfeit.

Otherwise, your forfeited deposit and forfeited repayments received will form part of a CGT event H1 assessable in the year ended 30 June 2014. If this occurs, you will be required to amend your income tax assessment for that year.