Edited version of your written advice

Authorisation Number: 1012903346081

Date of advice: 3 November 2015

Ruling

Subject: Subdivision

Question 1

Are the proceeds from the sale of the subdivided land assessable as ordinary income under section 6-5 of the Income Tax Assessment Act 1997 (ITAA 1997)?

Answer

Yes.

Question 2

Are the proceeds from the sale of the subdivided land assessable under the capital gains tax (CGT) provisions of the ITAA 1997?

Answer

Yes, however any capital gain will be reduced to the extent that capital proceeds are included as assessable income under section 6-5 of the ITAA 1997.

This ruling applies for the following period:

Year ending 30 June 2016

The scheme commences on:

1 July 2015

Relevant facts and circumstances

This ruling is based on the facts stated in the description of the scheme that is set out below. If your circumstances are materially different from these facts, this ruling has no effect and you cannot rely on it. The fact sheet has more information about relying on your private ruling.

During the relevant financial year you signed a contract to purchase land.

The contract settled during the subsequent financial year.

Following the acquisition, discussions were held with town planners and other professionals and accordingly advice was taken to apply for approval to subdivide the land. This process began within a month of settlement.

There is a residential rental property on the land.

The house has been rented to an arms-length tenant.

The development approval was granted during the subsequent financial year.

The approval was granted to subdivide the land into a number of lots with the house remaining on Lot 1.

The other lots will be sold as vacant land.

You are only planning to do what is the minimum necessary to subdivide the block in accordance with Council requirements.

You have no prior development experience and no expertise relevant to property subdivision activities.

Relevant legislative provisions

Income Tax Assessment Act 1997 Section 6-5.

Income Tax Assessment Act 1997 Section 118-20.

Reasons for decision

Summary

While the activity is not considered to be a business of property development, it constitutes an adventure or concern in the nature of trade and is therefore considered an isolated commercial transaction conducted with a view to a profit.

As the activity was entered into, and any profits made, in the course of carrying out an isolated commercial transaction with a view to a profit, the proceeds will be assessable as ordinary income.

As the proceeds will be assessable as ordinary income, the capital gains tax provisions will not apply and therefore you will not be eligible for any capital gains tax concessions or discounts.

Detailed reasoning

You intend to subdivide the newly purchased land into a number of lots. You intend to sell the lots once the subdivision is complete.

Therefore, we will need to determine whether the proceeds to be received on the sale of the subdivided lots:

• is assessable ordinary income under section 6-5 of the Income Tax Assessment Act 1997 (ITAA 1997) as you were carrying on a business of property development

• is 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

• is a realisation of a capital asset and assessable under the capital gains tax provisions of the ITAA 1997.

Assessable as ordinary income

Carrying on a business of property development

It has been stated that you have no prior development experience and has no expertise relevant to property subdivision activities. Therefore, it is accepted that any proceeds received from the sale of the subdivided land would not be derived in the course of carrying on a business.

Isolated commercial transaction with a view to profit

Profits arising from an isolated business or commercial transaction 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.

TR 92/3 defines the term 'isolated transactions' as:

• transactions outside the ordinary course of business of a taxpayer carrying on a business, and

• transactions entered into by non business taxpayers. 

It is not necessary that the intention or purpose of profit-making be the sole or dominant intention or purpose for entering into the transaction. It is sufficient if profit-making is a significant purpose.

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 addition to the above general factors, 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.

Application to your circumstances

In this case, the process to apply for approval to subdivide the land began within a month of settlement. Development approval was granted to subdivide the land into a number of blocks.

In accordance with the direction provided in TR 92/3 and MT 2006/1 we consider that the activities amount to more than the mere realisation of an asset to its best advantage. There is a coherent plan in place to carry out a sequence of actions that will result in a profit and the process to undertake the subdivision was entered into within a month of the legal change in ownership of the land. This suggests that the profit-making from the subdivision and sale of the land was a significant purpose in entering into the transaction.

Therefore, as the activity was entered into, and any profits made, in the course of carrying out an isolated commercial 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 CGT event A1 will happen when the trust sells the blocks of land, 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.