Edited version of private advice

Authorisation Number: 1012640333815

Ruling

Subject: Subdvision

Question

Will the sale of the property be treated as a capital transaction and be exempt from capital gains tax (CGT)?

Answer

No.

This ruling applies for the following period

Year ending 30 June 2014

The scheme commences on

1 July 2013

Relevant facts and circumstances

Individuals A and B purchased a property prior to 20 September 1985. This property was their main residence.

Some time later, a decision was made to subdivide the property and build X separate residences.

The intention was to sell Y and retain the other as their main residence.

Based on advice received form their then accountant, individuals A and B applied for an ABN through a partnership entity and registered for GST.

They decided to use the margin scheme to calculate GST on the sale of the property.

Costs were incurred to drawn plans and apply for building permits.

Individuals A and B moved out of the property in the relevant financial year and the property was subsequently demolished.

For personal reasons, a decision has been made not to proceed with the development of the property.

Individuals A and B propose to sell the vacant land as is with the development plans.

Relevant legislative provisions

Income Tax Assessment Act 1997 section 6-5

Income Tax Assessment Act 1997 section 118-20

Reasons for decision

We need to determine whether the proceeds from the sale of the land:

• are assessable ordinary income under section 6-5 of the ITAA 1997 as you were carrying on a business of property development

• are assessable ordinary income under section 6-5 of the ITAA 1997 as you conducted an isolated commercial transaction with a view to a profit, or

• are a realisation of a capital asset and assessable under the CGT provisions of the ITAA 1997.

Carrying on a business of property development

Based on the information provided, we do not considered that any proceeds received from the sale of the subdivided land would not be derived in the course of carrying on a business.

Profits from an isolated transaction

Profits arising from an isolated business or commercial transactions will be ordinary income if the taxpayer's purpose or intention in entering into the transaction is to make a profit, even though the transaction may not be part of the ordinary activities of the taxpayer's business (FC of T v. Myer Emporium Ltd 1987 163 CLR 199; 87 ATC 4363; 18 ATR 693) (Myer Emporium). 

Taxation Ruling TR 92/3 considers the principles outlined in the Myer Emporium case and provides guidance in determining whether profits from isolated transactions are assessable under section 6-5 of the ITAA 1997 as ordinary income.

If a taxpayer makes a profit from a transaction or operation, that profit is income if the transaction or operation is not in the course of the taxpayers business but:

• the intention or purpose of the taxpayer in entering into the profit-making transaction or operation was to make a profit or gain, and

• the transaction or operation was entered into, and the profit was made, in carrying out a business operation or commercial transaction.

Whether an isolated transaction is business or commercial in character will depend on the circumstances of each case.  Where a taxpayer's activities have become a separate business operation or commercial transaction, the profits on the sale of subdivided land can be assessed as ordinary income within section 6-5 of the ITAA 1997. TR 92/3 lists the following factors to be considered:

a) the nature of the entity undertaking the operation or transaction 

b) the nature and scale of other activities undertaken by the taxpayer

c) the amount of money involved in the operation or transaction and the magnitude of the profit sought or obtained

d) the nature, scale and complexity of the operation or transaction

e) the manner in which the operation or transaction was entered into or carried out

f) the nature of any connection between the relevant taxpayer and any other party to the operation or transaction

g) if the transaction involves the acquisition and disposal of property, the nature of that property, and

h) the timing of the transaction or the various steps in the transaction.

In contrast, paragraph 36 of TR 92/3 notes that the courts have often said that a profit on the mere realisation of an investment is not income, even if the taxpayer goes about the realisation in an enterprising way. However, if a transaction satisfies the elements set out above it is generally not a mere realisation of an investment.

Miscellaneous Taxation Ruling MT 2006/1 provides a list of specific factors relevant to isolated transactions and sales of real property. If several of the factors are present, it may be an indication that a business or an adventure or concern in the nature of trade is being carried on. These factors are as follows:

• there is a change of purpose for which the land is held;

• additional land is acquired to be added to the original parcel of land;

• the parcel of land is brought into account as a business asset;

• there is a coherent plan for the subdivision of the land;

• there is a business organisation - for example a manager, office and letterhead;

• borrowed funds financed the acquisition or subdivision;

• interest on money borrowed to defray subdivisional costs was claimed as a business expense;

• there is a level of development of the land beyond that necessary to secure council approval for the subdivision; and

• buildings have been erected on the land.

No single factor is determinative; rather it will be a combination of factors that will lead to a conclusion as to the character of the activities. There was a change of purpose for which the land was held. The additional land is acquired to be added to the original parcel of land. The parcel of land is brought into account as a business asset. There is a coherent plan for the subdivision of the land. There is a business organisation for example a manager officer and letterhead.

If several of the factors are present, it may be an indication that a business or an adventure of concern in the nature of trade is being carried on.

Application to your circumstances

In this case, the property was acquired prior to 20 September 1985 and originally it was used as a private residence. However, we consider there was a change of purpose for which the property was held when a decision was made to subdivide the property and build a number of separate residences.

Individuals A and B applied for an ABN through a partnership and registered for GST. Costs were incurred to draw plans and apply for building permits. Individuals A and B moved out of the property and it was subsequently demolished. There was a coherent plan in place for the subdivision and steps had been taken to commence the project.

We consider that individuals A and B have gone above and beyond what was required to realise the value of the land. Instead, it would appear that the project has the characteristics of a commercial transaction.

Therefore, as the activity was entered into, and any profits made, in the course of carrying out an isolated transaction with a view to a profit, the proceeds will be considered ordinary assessable income under section 6-5 of the ITAA 1997.

Assessable under the capital gains tax provisions

Section 118-20 of the ITAA 1997 primarily exists to ensure that amounts which are assessable income outside of the CGT provisions are not also taxed as capital gains. In the absence of such a provision, it is conceivable that a receipt properly characterised as ordinary income and which has also been derived as a result of a CGT event could result in the receipt being taxed twice. Therefore, whilst a CGT event will occur when the property is sold, any capital gain will be disregarded to the extent of any amount already included as ordinary assessable income under section 6-5 of the ITAA 1997.