Edited version of private advice

Authorisation Number: 1012653575196

Ruling

Subject: GST and sale of commercial property as a going concern

Question

Will the sale of the commercial property located in Australia be a supply of a going concern under subsection 38-325(1) of the A New Tax System (Goods and Services Tax) Act 1999 (GST Act)?

Advice

No, the sale of the commercial property located in Australia will not be a supply of a going concern under subsection 38-325(1) of the GST Act.

Relevant fact

You are registered for the goods and services tax (GST) and have previously acquired a commercial property (Property) located in Australia as a GST-free supply of a going concern.

The Property was purchased subject to a lease. The original term of the lease has expired and the lessee did not exercise its option to renew its lease. The space is still vacant since the lessee vacated the Property.

You currently are receiving periodic monthly lease payments from two tenants for parts of the Property. There are no commercial lease agreements for the two tenants.

You as the vendor have entered into a sales contract with a purchaser in regard to selling the whole Property to the purchaser.

The entire property has been actively marketed by the vendor, including the parts subject to the periodic tenancies, and marketing arrangements will continue until settlement as this is a requirement under the contract.

The purchaser is currently in the final stages of procuring a tenant to occupy the entire property.

The Property will be vacant at settlement allowing the purchaser's new tenant to commence its lease sometime after settlement should negotiations be successful.

The sales contract provides amongst other things the following:

• The land is sold as freehold (subject to the reservations exceptions and conditions in the deed of grant).

• 1.1 The vendor and the purchaser agree that the Standard Commercial Conditions do not apply to this contract to the extent that they are excluded or modified by the special conditions.

• 5. Lease dealings

5.1 Up to and including the date for completion, the vendor must not accept, grant or enter into any lease of any part of the land without the purchaser's prior approval, such approval to be provided at the purchaser's discretion and subject to conditions that the purchaser reasonable requires.

5.2 The purchaser acknowledges that any incentives payable to a tenant will not be adjusted on completion of the contract and will be the responsibility of the purchaser.

5.3 If the purchaser does not consent to the vendor's entry into a lease, the purchaser must:

(a) reimburse the vendor for any lease commission payable by the vendor upon 14 days of receiving a tax invoice from the vendor;

(b) reimburse the vendor's costs (if any) associated with the negotiation of the lease, for example legal and surveying costs, or alternatively, engage its own consultants to assist with the negotiation at the purchaser's expense but subject to the vendor agreeing to all aspects of the negotiation. The vendor must act reasonably.

(d) reimburse the vendor the cost of any building works performed as a result of the lease.

• 6 GST

6.5 Unless the Commissioner of Taxation issues a private ruling to the contrary before the date of completion, the vendor and the purchaser agree, solely for GST purposes that the supply of the Property is a supply of a going concern in accordance with section 38-325 of the GST Act and is a GST-free supply.

6.6 The parties will be registered for GST at the date of completion.

6.7 Up until the date for completion, the vendor will continue to actively market the Property for lease.

Relevant legislative provisions

A New Tax System (Goods and Services Tax) Act 1999 Section 38-325

Reasons for decision

A supply of a going concern is GST-free if all the requirements in section 38-325 of the GST Act are satisfied.

Under subsection 38-325(1) of the GST Act, a supply of a going concern is GST-free if:

(a) the supply is for consideration; and

(b) the recipient is registered or required to be registered; and

(c) the supplier and the recipient have agreed in writing that the supply is of a going concern.

Subsection 38-325(2) of the GST Act provides the definition of a 'going concern'. It states:

(2) A supply of a going concern is a supply under an arrangement under which:

(a) the supplier supplies to the *recipient all of the things that are necessary for the continued operation of an *enterprise; and

(b) the supplier carries on, or will carry on, the enterprise until the day of the supply (whether or not as a part of a larger enterprise carried on by the supplier).

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

We will now determine whether the supply of the Property under the sales contract will be a supply of a going concern under subsection 38-325(2) of the GST Act and will be GST-free under subsection 38-325(1) of the GST Act.

Subsection 38-325(2) of the GST Act - supply of a going concern

Goods and Services Tax Ruling GSTR 2002/5 (available at www.ato.gov.au) explains when a supply of a going concern is GST-free for the purposes of subdivision 38J of the GST Act.

Paragraphs 38-325(2)(a) and 38-325(2)(b) of the GST Act require the conditions to be satisfied in relation to an 'identified enterprise'.

Identified enterprise

Paragraph 29 of GSTR 2002/5 explains that subsection 38-325(2) of the GST Act requires the identification of an enterprise that is being carried on by the supplier (the identified enterprise). Once the enterprise is identified, it is this enterprise for which the supplier must supply all the things that are necessary for its continued operation. Also the supplier must carry on this enterprise until the day of the supply, whether or not as part of a larger enterprise.

The vendor has entered into a sales contract with the purchaser for the sale of the Property. The vendor receives periodic rental income from two tenants and the area that was previously occupied is still vacant. The entire property (including the parts subject to periodic tenancies) has been actively marketed for lease.

Paragraph 151 of GSTR 2002/5 states:

151. The activity of leasing a building which has previously been leased to a tenant remains an 'enterprise' of leasing for the purposes of section 9-20 during the period of temporary vacancy when a new tenant is being actively sought by the building owner. However, where a building has not previously been leased to a tenant, but is being actively marketed, an 'enterprise of leasing' is not operating until the activity of leasing actually commences. The activity of leasing commences when at least one tenant enters into an agreement to lease or occupies the building.

Based on the information received, we consider the vendor is carrying on an enterprise of leasing of commercial premises since they are receiving periodic income from two tenants and have the vacant area actively marketed for lease.

All of the things necessary for the continued operation of an enterprise

Paragraph 80 of GSTR 2002/5 states:

80 The supplier supplies all of the things that are necessary for the continued operation of an enterprise when the supplier supplies those things which will put the recipient in a position to carry on the enterprise, if it chooses.'

For the continued operation of the enterprise of leasing commercial premises, it is necessary to supply the premises together with the existing lease agreements. For the sale to be the supply of a going concern, the vendor must assign all existing lease agreements to the purchaser so that the purchaser can continue the leasing enterprise without any disruption.

In this case, the tenants are occupying the commercial premises on a monthly periodic tenancy. Paragraphs 65 and 66 of GSTR 2002/5 consider if a period tenancy under the terms of an expired lease can be assigned. These paragraphs state:

65. However, if upon expiration of a lease, the tenant is allowed to continue in possession pursuant to a short term periodic tenancy, the new periodic tenancy may be capable of assignment. A periodic tenancy means that the tenant pays rent to the landlord with reference to a period and therefore has a legally enforceable right to occupy the premises for a period.

66. The law of the States and Territories may prescribe certain requirements which will have to be met in respect of the creation or assignment pf such tenancies. A supplier who occupies premises under a periodic tenancy therefore can supply the right to occupy the premises to a recipient and would not be precluded from making a supply of a going concern in circumstances where the premises were a thing necessary for the continued operation of the relevant enterprise.

Therefore, a supplier who leases premises to a tenant under a periodic tenancy is able to supply the property subject to a periodic tenancy to another party.

Supplier carries on the enterprise until the day of the supply

Paragraphs 141 to 144 states:

Supplier carries on the enterprise until the day of the supply

141. The supply of everything necessary for the continued operation of an enterprise will only be a 'supply of a going concern' where the enterprise is carried on by the supplier until the day of the supply. All of the activities of the enterprise must be active and operating on the day of the supply. The activities must be capable of continuing after the transfer to new ownership.

142. A supply will not be a 'supply of a going concern' where, on the day of the supply, the activity carried on by the enterprise has ceased.^17AA The New Zealand case of Belton v. CIR (1997) 18 NZTC 13,403 provides a useful illustration of a failure to fulfil a similar requirement under the New Zealand law. In that case, an owner of an operating motel sold the motel. Under the contractual agreement, the sale was subject to vacant possession and the land, building and chattels only were transferred to the purchaser. At settlement, the motel had been closed down and there were no future bookings. After the settlement date, the premises was not immediately operated as a motel, but began operating again several weeks later.

143. The Court accepted that the vendor had supplied all the assets necessary for the supply of the motel as a going concern:

'The fact that the purchaser could resume operations shortly after the transfer illustrates that there was available a business structure as well as the business activity. Mr Belton could exploit the location goodwill and the benefits flowing from pre-existing clientele, advertising and background. At settlement he was in a position to resume the operation of the motel business notwithstanding the vacant possession which he demanded and received.'

144. However, the supply was held not to be of a going concern because, at the time of the supply, the motel business was not operating.

Paragraph 150 of GSTR 2002/5 further states:

150. A supplier is unable to supply all of the things that are necessary for the continued operation of an enterprise unless the relevant enterprise is not only being 'carried on', but is also operating. Where an enterprise engaged in an activity ceases to carry on that activity and the assets are in the course of being sold off, the enterprise is being 'carried on', but is not operating.

From the facts given, the vendor is not supplying the commercial premises subject to the monthly periodic tenancy at settlement. Further the sale of the property will be subject to vacant possession at settlement in order to allow the purchaser's new tenant to commence its lease of the Property as currently the purchaser is in the final stages of procuring a tenant to occupy the entire property.

In this instance the vendor has ceased operating their leasing enterprise at the day of the supply as the vendor is only providing the asset of the leasing enterprise (which is the Property) to the purchaser on settlement day. Paragraphs 38-325 (a) and (b) of the GST Act are not satisfied.

Summary

As all of the requirements in subsection 38-325(2) of the GST Act are not satisfied, the vendor's supply of the Property will not be a supply of a going concern and therefore will not be a GST-free supply of a going concern under subsection 38-325(1) of the GST Act.