Edited version of your written advice

Authorisation Number: 1013006401306

Date of advice: 5 May 2016

Ruling

Subject: Property - subdivision - income v capital

Question 1:

Will the profit from the sale of your ownership interests in the subdivided blocks of land be treated as ordinary income under section 6 -5 of the Income Tax Assessment Act 1997 (ITAA 1997)?

Answer:

No.

Question 2:

Will the profit from the sale of your ownership interests in the subdivided blocks of land be treated as statutory income under the capital gains tax provisions in Parts 3-1 and 3-3 of the ITAA 1997?

Answer:

Yes.

Question 3:

Will you be able to fully disregard any capital gain made on the disposal of your ownership interests in the subdivided blocks of land?

Answer:

Yes.

This ruling applies for the following periods

Income year ending 30 June 2016

Income year ending 30 June 2017; and

Income year ending 30 June 2018.

The scheme commences on

1 July 2015

Relevant facts and circumstances

Documentation has been provided with the private ruling application which should be read in conjunction with, and forms part of, the scheme.

The property (the Property) was purchased before 20 September 1985 and was held in a Trust (the Trust).

The land area of the Property is more than one hectare and it was zoned non-urban. A dwelling was is located on the Property in which you have resided since the Property was purchased.

Around 10 years after the Property was purchased a portion of the Property was acquired by the local council for its road works, to enable surrounding land to be subdivided to their plans.

Around 13 years after the Property was purchased, it was rezoned as residential making the land suitable for subdivision.

You and your spouse divorced and as a result of a court order the Property was transferred from the Trust into your name as part of the divorce settlement over 20 years after the Property had been purchased.

The marriage breakdown rollover under Subdivision 126-A of the ITAA 1997 applied to the transfer of the Property from the Trust to you as a result of the court order.

Vacant land was located adjacent to the property (the Block). The land area of the Block is less than one hectare. It was zoned as residential, however there were no building use rights as it was located within a major power line transmission easement and could only be used as open space.

You are the sole shareholder and director of a company (the Company) which was incorporated before 20 September 1985.

Around 23 years after the Property was purchased, the Company purchased the Block to use as a buffer for the Property from other neighbours, to utilise the trees on the block to camouflage electrical wires, to protect and enhance the look of the Property, and to provide an alternative access to the Property.

The Block was purchased by the Company as it was viewed appropriate that the Block remain a separate entity from your family home as it was of little value.

Around 16 years after the Property was purchased, the Company ceased trading and became a shelf company during the following year.

Over 30 years after the Property was purchased, the Company was renamed.

For a number of years, you and your current spouse have been thinking of downsizing from your current home to a smaller, more manageable property due to your ages.

To maximise the potential value on the sale of the Property, and as a result of the development on adjoining properties, you thought it would appropriate to protect the rights of access and lodge a development application for the subdivision combining the two properties, being the Property and the Block.

The Property is zoned as Environmental and it is bisected by a creek. A large portion of the Property is restricted and is unable to be developed as a result of the one in one hundred year flood line and the planning requirement of a minimum 2,000 square meter allotment.

The existing dwellings on the Property will not be retained due to professional advice relating to the certain regulations under which upgrading them to meet the current building standards would not be practicable.

Around 30 years after the Property was purchased an approval was granted by the local council for the subdivision of the properties. The approval was for Stage 1 of the subdivision which involved the creating of a number of subdivided blocks on the Property and a residue lot.

A number of months after the subdivision approval, was granted, the council issued, a deferred commencement consent, for Stage 2 which required the submission of documentary in relation to the creation of the Right of Carriagement and easement for services over the Block for the benefit of the Property. This approval allowed the creation of a number of conventional subdivided blocks on the combined properties.

Around 33 years after the Property was purchased, the development approval was secured in perpetuity as a result of minor works creating a footpath crossing from the Block to the Property in accordance with council's development approval granted a number of years previously.

The right of way has now been constructed and the two stages can now be developed concurrently.

Over 35 years after the Property was purchased, you engaged the services of an unrelated party (the Consultants) to manage and co-ordinate the subdivision of the Property for an estimated cost of over $X0,000.

During the following year, a notice of determination of an application to modify the development consent was issued by the council, removing the requirement to have a security gate at a specified location servicing the Stage 2 lots.

Around 40 years after the Property was purchased, the Consultants provided a preliminary cost analysis and estimate sheet which outlined that the subdivision project involving the subdivision of the Property and the Block into a number of smaller blocks in two stages would cost over $1,500,000 for the total development costs.

The estimated market value of the Property prior to the commencement of the subdivision project is over $5,000,000.

It is estimated that each subdivided block will be sold for more than $X.

The cost for undertaking the subdivision project will be around $X,000,000.

Only the minimum infrastructure that council requires to satisfy the development application will be undertaken in relation to the subdivision of the Property

You will obtain a bank loan to fund the subdivision of the Property.

You will not be undertaking any activities in relation to the subdivision project.

The services of a real estate agent/s will be engaged to sell the subdivided lots with selling costs estimated to be over $XXX,000.

You have not undertaken any activities similar to the subdivision project in the past and do not intend to undertake any similar activities in the future.

For the purposes of this ruling:

• You will subdivide the Property into the subdivided lots as outlined in the development approvals;

• You will engage the services of other parties to undertake the activities related to the subdivision of the Property;

• You will not undertake any activities in relation to the subdivision of the Property;

• Only the absolute minimum that council requires to satisfy the development applications will be undertaken in relation to the subdivision of the Property; and

• The services of real estate agent/s will be engaged to sell the subdivided blocks of land.

Relevant legislative provisions

Income Tax Assessment Act 1997 Section 6-5

Income Tax Assessment Act 1997 Section 15-15

Income Tax Assessment Act 1997 Section 102-20

Income Tax Assessment Act 1997 Section 104-10

Income Tax Assessment Act 1997 Subsection 104-10(3)

Income Tax Assessment Act 1997 Section 112-25

Income Tax Assessment Act 1997 Section 995-1

Income Tax Assessment Act 1997 Subdivision 126-A

Income Tax Assessment Act 1997 Part 3-1

Income Tax Assessment Act 1997 Part 3-3

Reasons for decision

Legislative references referred to herein are from the ITAA 1997.

Summary

The proceeds from the sale of the subdivided blocks of land will not be ordinary income and not assessable under section 6-5. The proceeds represent a mere realisation of capital assets which will fall for consideration under the capital gains tax provisions in Part 3-1.

The Property was acquired before 20 September 1985, and as a result of a court order during your divorce settlement, the title of the Property was transferred into your name. As the marriage breakdown rollover applies, you are viewed as if you had acquired the Property on the date it was originally acquired. Therefore, the subdivided blocks of land will also be viewed as having been acquired before 20 September 1985, being pre-capital gains tax. As the subdivided blocks of land are pre-capital gains tax assets, any capital gain made on their disposal can be disregarded.

Detailed reasoning

Income or capital

As a general principle, profits from property sales will either be assessable as ordinary income under section 6-5 of the Income Tax Assessment Act 1997 (ITAA 1997) or statutory income under the capital gains tax (CGT) provisions of the ITAA 1997.

Where the profit has been made as a result of a taxpayer carrying on a business of property development or as a result of a taxpayer entering into an isolated business transaction, the profit will be assessable as ordinary income. However, where the profit is a mere realisation of a capital asset, the profit will be assessable under the CGT provisions of the ITAA 1997.

There have been several cases in which the courts have addressed the question of whether the proceeds received for the sale of an asset are revenue or capital in nature. The decision in each case depended on its own facts, and very often will be a matter of degree.

The extent of the personal involvement of the taxpayer in much of the planning, organisation and management of the activities has been held to be significant factors in the determination of whether or not a business was being carried out. For example:

• In Stevenson v FC of T (1991) 91 ATC 4476; (1991) 22 ATR 56; (1991) 29 FCR 282 (Stevenson) the degree of the taxpayer's involvement was seen as an indicator of a business being conducted; and

• The lack of personal taxpayer involvement was seen as a relevant to the finding that a business was not being conducted in the cases of Stratham V FCT 89 ATC 4070, McCorkell v FCT 98 ATC 2199 (McCorkell) and Casimaty v FCT 97 ATC 5 (Casimaty).

From the cases involving the subdivision of land and from Taxation Ruling TR 92/3 (TR 92/3), it would appear that the following are the most important factors to consider when determining whether profits made as a result of an isolated business transaction are assessable income:

(a) the intention or purpose of the taxpayer in entering into the transaction was to make a profit or gain; and

(b) the transaction was entered into, and the profit was made, in the course of carrying on a business or in carrying out a business operation or commercial transaction.

In determining whether an isolated transaction amounts to a business operation or commercial transaction the following factors are relevant:

(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.

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.

Application to your situation

The Property was purchased before 20 September 1985, and was used as your main residence. As a result of your marriage breakdown, the title of the Property was transferred into your name in over 20 years after the Property was purchased, and the marriage breakdown rollover applied.

During the same year, the company in which you are the director purchased the land adjacent to the Property, the Block.

You and your current spouse have decided to downsize from your current home to a more manageable property due to your ages. To maximise the potential value on the sale of the Property, the Property will be subdivided into a number of subdivided lots solely on the Property and some subdivided lots which are combined between the Property and the Block.

You have engaged the services of the Consultants to manage the subdivision of the Property and you will not undertake any activities in relation to the subdivision of the Property.

Only the minimum activities required under the development applications will be undertaken in relation to the subdivision.

No other subdivision activities have been undertaken by you in the past and you do not intend to undertake any similar activities in the future.

Based on the information provided, there is nothing to suggest that the subdivision of the Property was the beginning of a continuing business of property subdivision. Your activities do not display the salient indicator of a business, being transactions entered into on a continuous and repetitive basis. Therefore, it is the Commissioner's view that your activities in relation to the subdivision are not those of an entity carrying on a business of buying, subdividing and selling subdivided land.

Making an overall assessment on the factors set out in TR 93/2, it is the Commissioner's view that the subdivision of the Property and sale of your ownership interest in the subdivided blocks and the combine lots of land will not be considered commercial in nature but will be a mere realisation of a capital asset, being a long-held privately owned property.

In conclusion, the activities involved in the subdivision and sale of the subdivided blocks of land will not amount to carrying on a business. The transactions will not have the character of business operations or commercial transactions. There is no indication that your subdivision activities will become a separate business operation or commercial transaction, or that you will be carrying on, or carrying out a profit-making undertaking or plan.

Therefore, as it is not viewed that you are carrying on a business, or that the subdivision activities will be an isolated transaction, any profit arising from the sale of your ownership interest in the subdivided blocks of land, but that it will be a mere realisation of your Property which will be accounted for under the capital gains tax provisions in Part 3-1.

Capital gains tax

The capital gains tax (CGT) provisions are contained in Part 3-1. Broadly, the provisions include in your assessable income any assessable gain or loss made when a CGT event happens to a CGT asset that you own.

CGT event A1 happens if you dispose a CGT asset. A CGT asset is any kind of property or a legal or equitable right that is not property. However, any capital gain or capital loss made on the disposal of a CGT asset will be disregarded if the asset was acquired before 20 September 1985.

When a CGT asset (the original asset) is split into 2 or more assets (the new assets), such as when land is subdivided, the subdivision of the land into subdivided blocks is not a CGT event, according to subsection 112-25(2). Where the original land was acquired before 20 September 1985, each new block retains its pre-CGT status.

Application to your situation

In this case, the Property was acquired before 20 September 1985. Therefore, the Property is a pre-CGT asset.

As a result of your marriage breakdown, the title of the Property was transferred into your name. As the marriage breakdown rollover applied, you are taken to have acquired your ownership interest in the Property at the original acquisition date. Therefore, the Property retained its pre-CGT status when the title of the Property was transferred into your name.

When the Property is subdivided, the area of the subdivided blocks of land which are related to the Property will retain the CGT status of the Property. That is, your ownership interest in each subdivided block of land on the Property will be a pre-CGT asset.

While CGT event A1 will occur when the sale contract on each subdivided block of land is entered into, as your ownership interest in each subdivided block of land on the Property is a pre-CGT asset, any capital gain made on the disposal of your ownership interest in the subdivided blocks of land will be disregarded.

Note: The capital proceeds received from the disposal of the subdivided blocks of land that are made up of the combined properties, being the Property and the Block, will need to be apportioned to account for your ownership interest in the combined subdivided blocks and the Company's ownership interest in the combined subdivided blocks.