Edited version of your written advice

Authorisation Number: 1051369736795

Date of advice: 8 May 2018

Ruling

Subject: Carrying on a business of student accommodation – capital gains tax

Question 1

Are you carrying on a business of providing student accommodation?

Answer

No

Question 2

Will the property used for student accommodation satisfy the active asset test set out in section 152-35 and 152-40 of the Income Tax Assessment Act 1997 (ITAA 1997)?

Answer

No

This ruling applies for the following periods:

Year ended 30 June 20XX

Year ended 30 June 20XX

Year ended 30 June 20XX

Year ended 30 June 20XX

Year ended 30 June 20XX

Year ended 30 June 20XX

Year ended 30 June 20XX

Year ended 30 June 20XX

Year ended 30 June 20XX

The scheme commences on:

17 June 20XX

Relevant facts and circumstances

Background

You and your partner operate student accommodation. You do not reside at the premises, however you live locally.

Person A works four days a week with some weekend work and Person B works three days a week in their respective occupations.

Property details

You acquired a property at address. The contract date was 20xx and the settlement date was 20xx. The property was used and registered as a student accommodation since it was bought in 20xx.

In the first 18 months of ownership, the property underwent a number of improvements.

The property is a large house located close to an educational institution. It has non self-contained bedrooms available for rent. You provide and maintain all the furnishings for the house.

You have an office upstairs but there is no designated reception area.

You have restricted the students’ access to certain parts of the premises due to safety issues.

You have stored linen and towels available for use in the cupboard even if most students have their own. There is no extra charge for the occasional use of linen and towels.

The following services/amenities are available for the property:

● regular cleaning of bathrooms, kitchen, dining room, lounge room, rumpus and hall floors

● laundry and cleaning needs such as: toilet paper, tissues, paper towels, towels and laundry, dishwashing and cleaning products

● dining and kitchenware

● NBN internet

● water, gas and electricity

● garbage collection

● fire blankets, fire extinguisher and fire alarm.

You check the maintenance board inside the house weekly. This board is a record of repair and upkeep issues for the property.

You refill the stores cupboard with the necessary supplies for use in the house at least monthly.

You do not provide meals as an additional service though you have cooked some meals for the students for educational purposes.

Occupancy Agreement

The agreement highlighted that the accommodation does not provide exclusive possession. There are notes indicating that the property is a shared house and not a boarding house, that the students are not renting a room, restrictions on the number of visitors, prohibitions on parties and events and restricted access to certain areas of the house.

You indicated that the students are required to be involved in the cleaning and maintenance of the house, the kitchen and the bedrooms. Student responsibilities are also listed on the agreement.

You also outlined your responsibilities of maintaining the property and providing some supplies and amenities. There is to be no accommodation fee increases unless there is excessive usage of utilities and property damages.

Payment conditions are also in the agreement.

Cleaning of the property

Contract Cleaners clean the common areas of the premises fortnightly.

Person A prepares the rooms and the house in between students. He only cleans the rooms when these are empty. He also maintains the external premises.

The students agreed to comply with tasks outlined in the occupancy agreement and noted in the house rules:

● to be involved in the cleaning and routine maintenance of the house- a routine task is displayed in their food cupboard as a guide

● to ensure the kitchen is clean at the end of the day

● to clean the kitchen at least once a week

● to clean their own pots and pans immediately after use

● to maintain the bedrooms, refrigerator and food cupboards in a clean and hygienic state.

Access to the property

The students are given a set of keys on arrival. The keys are returned to Person A at the end of their occupancy by either handing it personally to him or leaving it in the office door key box. Students are not allowed to enter the other resident’s room without their permission.

Person A requires unrestricted access to the house to perform the tasks of managing and maintaining the property. However, he only cleans the rooms when these are empty. On several occasions, he entered the rooms of two students without their permission because of health issue complaints.

Occupancy for period 2016 to 2017

Students stayed in the various rooms for periods ranging from three months to one year.

Property Management

Business plan

Your vision is to offer a high standard of accommodation at a lower price to what is currently available. You are planning to expand the activity by increasing the number of bedrooms and purchasing a very large house close to the educational institution. Your strategies in realising your goals are: careful selection of occupants, close supervision and communication with student occupants, supply of good house furnishings, and provision of additional and more appropriate services. Your other goals are to comply with legal standards and to increase your available hours for the business.

Insurance

The property is insured.

Records management

You keep records of all accounting and financials, property dealings, services and inventories.

Advertisement

You advertised the property with the Accommodation website for which you paid an annual fee.

Student accommodation activities

Person A and Person B spend so many hours a week for the property.

The residents contact Person A when they arrive or if they encounter any issues. All requests for repairs are directed to Person A who would repair the problem himself or who would organise for the appropriate tradesman.

The following are the activities that you undertake:

Cleaning

● removal of excess garbage and taking these to the tip or organizing council to take it away

● external maintenance to the premises and property

● regular pest control, including for weevils, cockroaches, wasps and spiders

● major house cleaning, maintenance and replacement, removal of excess garbage and abandoned chattel between students

● major house cleaning and maintenance each Christmas holidays

● preparation of rooms between students, which often requires repainting and always requires extensive cleaning

● purchasing maintenance items

Supply and Maintenance

● of furnitures for the dining room, kitchen, rumpus and lounge room, games room including: a pool table, three refrigerators, eight food cupboards, dishwasher, washing machine, vacuum cleaner, clothes dryer and television with Telstra TV and Chromecast installed

● of most bedroom furniture

● of all necessary provisions for food preparation including microwave, toaster, kettle, pots and pans, frypans, cookers, cutlery, crockery etc.

● of residential safety equipment including fire blankets, fire extinguisher and fire alarms

● of locks and keys on the bedrooms, windows and other areas in the premises

● of light globes, tap washers and incidental residential requirements

● buying second hand items on ‘Gumtree’ and picking them up

Management of student occupants

● organising the students to complete regular tasks for the routine maintenance of the premises

● organising and updating house rules of many types and continually updating them for improved outcomes for the students

● organising and updating information sheets for the students used when they are considering staying at the property

● resolution of internal household disputes

● resolution of external disputes

● talking to students in order to ascertain their changing accommodation needs

● adjusting the house rules, kitchen rules, fire safety rules and visitor rules according to changing needs and improvements

● education of students on living out of home

● Administrative

● payment and maintenance of water, gas and electricity services

● record keeping appropriate to running a business, including itemized monthly incomings and outgoings and quarterly business activity statements

● negotiated for the provision and maintenance of NBN Internet to the premises.

● finding new students each January/February and June/July, this involves advertising, then negotiation.

● keeping abreast of, and responding to changes in council and government regulations pertaining to student accommodation

● pursuing tax issues related to student accommodation and small business

Additional Services

● supply and washing of linen to certain rooms, as required

● provision of toilet paper, tissues, laundry powder, paper towels and cleaning products etc. in the upper store cupboard

● picking up students from train station for orientation

● transporting student furniture purchases when setting up their bedroom as many students do not have a car.

External service providers

You engage the services of local contractors on average twice a year.

Payments

You charge each student an accommodation tariff of $xxx per fortnight. The payment includes water rates, electricity, gas, NBN internet access, furniture, cleaning, maintenance and some cleaning supplies.

You do not include GST on the accommodation tariff.

Payment is processed fortnightly through a bank transfer to your nominated account.

A bond of $xxx is to be paid before occupation. You require two weeks’ notice period and students usually comply. You do not charge a penalty amount if the condition is not met. If the students cut their stay short then they do not have to pay the tariff for the agreed occupation period.

There is no stated minimum stay period.

Financial

The following amounts are included in your rental schedules *** except for the draft 2017 figures

Financial Year Ended	Rental Income	Total Expenses	Net Income
30 June 2017	$xx,xxx	$xx,xxx	-$xxx
30 June 2016	$xx,xxx	$xx,xxx	-$xx,xxx
30 June 2015	$xx,xxx	$xx,xxx	-$xx,xxx
30 June 2014	$xx,xxx	$xx,xxx	-$xx,xxx
30 June 2013	$xx,xxx	$xxx,xxx	-$xx,xxx
30 June 2012	$xx,xxx	$xx,xxx	-$xx,xxx
30 June 2011	$xxx	$x,xxx	-$x,xxx

Relevant legislative provisions

Income Tax Assessment Act 1997 section 152-35

Income Tax Assessment Act 1997 section 152-40

Income Tax Assessment Act 1997 paragraph 152-40(4)(e)

Reasons for decision

Summary

We do not consider that you are carrying on a business of providing student accommodation.

The property used for student accommodation is not considered an active asset because you are not carrying on a business and it is considered that the main use of the property is to derive rent.

Detailed reasoning

Question 1

Are you carrying on a business?

Section 995-1 of the ITAA 1997 defines 'business' as 'including any profession, trade, employment, vocation or calling, but not occupation as an employee'.

The question of whether you are carrying on a business is a question of fact and degree. There are no rigid rules for determining whether the activity amounts to the carrying on of a business. The facts of each case must be examined. In Martin v. FC of T (1953) 90 CLR 470 at 474; 5 AITR 548 at 551, Webb J said:

The test is both subjective and objective; it is made by regarding the nature and extent of the activities under review, as well as the purpose of the individual engaging in them, and, as counsel for the taxpayer put it, the determination is eventually based on the large or general impression gained.

However, the courts have developed a series of indicators that can be applied to determine whether you are carrying on a business.

Taxation Ruling TR 97/11 outlines the important factors that are considered in determining if your activity is a business for tax purposes. The factors are:

● whether the activity has a significant commercial purpose or character

● whether there is more than just an intention to engage in business

● whether the taxpayer has a purpose of profit as well as a prospect of profit from the activity

● whether there is regularity and repetition of the activity

● whether the activity is of the same kind and carried on in a similar manner to that of ordinary trade in that line of business

● whether the activity is planned, organised and carried on in a businesslike manner such that it is described as making a profit

● the size and scale and permanency of the activity, and

● whether the activity is better described as a hobby, a form of recreation or a sporting activity.

Paragraph 15 of TR 97/11 states that no one indicator is decisive (Evans v. FC of T 89 ATC 4540; (1989) 20 ATR 922). In addition, paragraph 16 of TR 97/11 states that the indicators must be considered in combination and as a whole. Whether a business is being carried on depends on the general impression gained from looking at all the indicators (Martin v. Federal Commissioner of Taxation (1953) 90 CLR 470 at 474; 5 AITR 548 at 551), and whether these factors provide the operations with a 'commercial flavour' (Ferguson v. Commissioner of Taxation (1979) 37 FLR 310 at 325; 79 ATC 4261 at 4271; (1979) 9 ATR 873 at 884).

Taxation Ruling IT 2423 Withholding tax: whether rental income constitutes proceeds of business - permanent establishment- deduction for interest, states at paragraph 5

A conclusion that an individual is carrying on a business of letting property would depend largely upon the scale of operations. An individual who derives income from the rent of one or two residential properties would not normally be thought of as carrying on a business. On the other hand if rent was derived from a number of properties or from a block of apartments, that may indicate the existence of a business.

The issue of whether the owner of one or several properties, in providing accommodation, is carrying on a business has arisen in a number of cases. Taxation Ruling TR 93/32 Income tax: rental property- division of net income or loss between co-owners, states at paragraph 22 and 23:

22. As a general proposition, it is more accurate to describe the owners of rental property in the words of Beaumont J in McDonald's case at ATR p.969; ATC p 4552 'as co-owners in investment rather than as partners in a business operation.'

23. That is not to say that co-owners cannot carry on a business of property rental and therefore be partners at general law. As already noted, whether an activity constitutes the carrying on of a business is a question of fact to be decided on a case by case basis.

In Commissioner v. McDonald (1987) 15 FCR 172; 18 ATR 957; 87 ATC 4541 (McDonald's case), the taxpayer owned two properties, one of which was let on a short term basis to holiday makers, which were subsequently let through letting agents. The Federal Court considered that for a business to be carried on by owners of property, one would expect that they would be involved in providing services in addition to the process of letting property (as with a boarding house), not merely receiving payments for the tenants occupation of the property.

In Carson & Anor v. FC of T AAT 156 (Carson's case) the taxpayers owned one property jointly which was used to provide short term tourist accommodation, usually for stays of about a week to two weeks. Senior Member BH Pascoe stated that whether a business is being carried on, is a question of fact and an objective consideration of the extent of the applicant's activities relating to the property. He pointed out that appointing a real estate agent to arrange rentals and minor repairs, spending one week every six months servicing the property and providing brochures relating to the property as required activities with all the earmarks of maintaining and deriving income from an investment rather than the carrying on of a business. Similarly, activities such as financing the property, dealing with rating authorities and body corporate are no more than any investor in real estate would do.

In Case G10 75 ATC 33 (Case G10), the taxpayer owned two properties of which six units were let as holiday flats for short term rental. The taxpayer, with assistance from his wife, managed and maintained the flats. Services included providing furniture, blankets, crockery, cutlery, pots and pans, hiring linen and laundering of blankets and bedspreads. The taxpayer also showed visiting inquirers over the premises, attended to the cleaning of the flats on a daily basis, mowing and trimming of lawns, and various other repairs and maintenance. The taxpayer’s task in managing the flats was a seven day a week activity. The Board of Review held that the activity constituted the carrying on of a business.

Application to your circumstances:

You do not provide meals or laundry services.

You supply household furnishings and some amenities, and repair or replace items.

You try to educate the students on their shared responsibilities at the accommodation and how to live away from home. These activities are directed more towards assisting you in maintaining the property and do not necessarily offer a different value to the student accommodation business.

You spend a considerable amount of time preparing the rooms in between students. However, this only happens at least twice a year, that is, during semester breaks, with changeover of an average of two students for each room.

You hire contractors for a fortnightly cleaning service; however, this is only for the common areas and not the bedrooms which would require more time and frequency.

You also hire contractors for electrical, plumbing and appliance repairs at least once or twice a year.

While we accept that a major focus of your activities is to provide a high standard accommodation by providing extensive cleaning and servicing on the property and imposing strict supervision and rules for the occupants, these activities are all related to maintaining the property.

In accordance with the judicial comments above and guidelines set down in Taxation Rulings IT 2423 and TR 97/11, although there is some regularity to your activities, your activity has made significant losses, it lacks a significant commercial character and is not of a size or scale necessary to be characterised as carrying on a business of student accommodation. In all of the six years that you have been running this activity you have not made a profit. Many of the maintenance tasks that you carried out in regard to the property are services carried out in relation to owning a capital asset (rental investment property) rather than the provision of services to guests. Therefore, the income that you received from the property is not from the carrying on of a business; rather it was received from an investment in property.

Question 2

Active Asset Test

The active asset test contained in section 152-35 of the ITAA 1997 and is satisfied if:

● you have owned the asset for 15 years or less and the asset was an active asset of yours for a total of at least half of the test period detailed below; or

● you have owned the asset for more than 15 years and the asset was an active asset of yours for a total of at least 7.5 years during the test period.

The test period is from when the asset is acquired until the CGT event. If the business ceases within the 12 months before the CGT event (or such longer time as the Commissioner allows) the relevant period is from acquisition until the business ceases.

A CGT asset is an active asset if it is owned by you and is used or held ready for use in a business carried on (whether alone or in partnership) by you, your affiliate, your spouse or child or an entity connected with you.

Paragraph 152-40(4)(e) of the ITAA 1997 states, however, that an asset whose main use in the course of carrying on the business is to derive rent cannot be an active asset unless the main use for deriving rent was only temporary.

Taxation Determination TD 2006/78 discusses the circumstances in which premises used in the business of providing accommodation for reward can be active assets notwithstanding the exclusion in paragraph 152-40(4)(e) of the ITAA 1997.

Whether an asset's main use is to derive rent will depend upon the particular circumstances of each case. In accordance with paragraph 22 of TD 2006/78, the term 'rent' has been described as follows:

● the amount payable by a tenant to a landlord for the use of the leased premises (C.H. Bailey Ltd v. Memorial Enterprises Ltd [1974] 1 All ER 1003 at 1010, United Scientific Holdings Ltd v. Burley Borough Council [1977] 2 All ER 62 at 78, 86, 93, 99);

● a tenant's periodical payment to an owner or landlord for the use of land or premises (The Australian Oxford Dictionary, 1999, Oxford University Press, Melbourne); and

● recompense paid by the tenant to the landlord for the exclusive possession of corporeal hereditaments...... The modern conception of rent is a payment which a tenant is bound by contract to make to his landlord for the use of the property let.

A key factor therefore in determining whether an occupant of premises is a lessee is whether the occupier has a right to exclusive possession (Radaich v. Smith (1959) 101 CLR 209). If premises are leased to a tenant under a lease agreement granting exclusive possession, the payments involved are likely to be rent and the premises not an active asset. On the other hand, if the arrangement allows the person only to enter and use the premises for certain purposes and does not amount to a lease granting exclusive possession, the payments involved are less likely to be rent.

For example, if residential units are operated as holiday apartments, the issue arises as to whether the occupants of the apartments are tenants/lessees or only have licences to occupy. These will be questions of fact depending on all the circumstances involved. Relevant factors to consider in determining this question include:

● whether the occupier has a right to exclusive possession

● the degree of control retained by the owner, and

● the extent of any services provided by the owner such as room cleaning, provision of meals, supply of linen and shared amenities (Allen v. Allen (1966) 1 NSWR 572; Appah v. Parncliffe Investments Ltd [1964] 1 All ER 838 and Marchant v. Charters [1977] 3 All ER 918).

Example 4 of TD 2006/78 states:

11. Linda owns a complex of 6 holiday apartments. The apartments are advertised collectively as a motel and are booked for periods ranging from 1 night to 1 month. The majority of bookings are from 1 to 7 nights.

12. Linda is responsible for bookings, checking guests in and out and cleaning the apartments. She also provides clean linen and meal facilities to guests. Linda does not enter into any lease agreement with guests staying at the apartments.

13.In this example, the apartments are operated similar to a motel. The guests do not have exclusive possession of the apartment they are staying in but rather only a right to occupy the apartment on certain conditions. The usual length of stay by guests is very short term and room cleaning, linen and meals are also provided to guests.

14. These facts indicate that the relationship between Linda and the guests is not that of landlord/tenant under a lease agreement. Accordingly, the income derived is not 'rent'. If Linda's activities amount to the carrying on of a business, the paragraph 152-40(4)(e) of the ITAA 1997 exclusion would not apply and the apartments would be active assets under section 152-40 of the ITAA 1997.

However, many arrangements involving holiday apartments are unlikely to be active assets because no business is being carried on or, even if a business is being carried on, it amounts to the derivation of rent. This is because in many cases the services provided are not sufficient to change the nature of the income from passive to active. For example if meals or daily cleaning are not provided.

In Carson's case, the taxpayers provided short-term tourist accommodation to the public. The subject asset was one unit, presumably within a group of residential units. Occupants generally stayed for one or two weeks. Crockery, cutlery and linen were included but cleaning was done only after each stay. The taxpayers relied on TD 2006/78 and contended that the unit was an active asset for the purposes of the small business CGT concessions. The AAT held that the main use of the property was to derive rent and therefore it was excluded from being an active asset. Although no formal agreement was signed, there was a landlord/tenant relationship in that the occupants of the unit would no doubt regard themselves as having rented the unit and having exclusive possession thereof.

In Swan v. Uecker [2016] VSC 313 (Swan’s case) the issue of whether Airbnb agreements constituted a lease or a license, and whether the Airbnb guests were given ‘exclusive possession’ was considered. The Supreme Court held that the use of the words ‘guest’ and ‘licence’ in the Airbnb agreement did not prevent the arrangement from being characterised as a lease. The Court held that ‘self-serving subjective statements’ could not be used to ‘escape the legal consequences of one relationship by professing that it is another’. The Court held that it was not bound by such ‘labels’ and it could look at the surrounding circumstances to determine the substance (as opposed to the form) of the arrangement.

Justice Croft held that the effect of the agreement, fully analysed, was that the Airbnb guests enjoyed a right of exclusive possession. While the Airbnb terms and conditions repeatedly used the word ‘licence’, Justice Croft stressed the well-established principle that the substance of an agreement prevails over its form. He held that the effect of the agreement, fully analysed, was that the Airbnb guests enjoyed a right of exclusive possession.

Application to your circumstances:

In your case, you do not provide additional services such as meals and laundry.

You provide cleaning of the common areas and supply of shared amenities as additional services.

You only clean the bedrooms when these are unoccupied, most of the time during semester breaks for most of the bedrooms. With stays ranging from three months to one year, you are not frequently required to prepare the rooms during the course of the year. You have provided details of the time you spend cleaning and maintaining the property, we do not consider they provide a significant value adding service to the guests.

You have clearly established student responsibilities and house rules both on the agreements and signs posted around the house. These expectations are reinforced by your strict supervision of the property, talks with the students, and regular updates on the house rules and information sheets. These activities have established a landlord/tenant relationship.

You claim that you require unrestricted access to the property and you often turn up unannounced for inspections. Your control of the property is limited as you do not live on the premises.

The occupancy agreement specified that there is no grant of exclusive possession of the property to the students; regardless, you mentioned that you had to enter the rooms of two students on several occasions without their permission. You also indicated that you only clean the rooms when these are not occupied. The students each have an individual key to their own room.

Applying the principles from the Swan’s case to this property being used for student accommodation we consider that the relationship between you and the student occupants is more properly characterised as that of landlord and tenant. The terminology used in the Occupancy Agreement does not change the relationship between you and the students, and that the arrangement is that of a lease. Although a formal agreement is signed we consider that the students who stayed at the property would believe they had exclusive possession of the relevant property for the duration of their stay.

While the occupancy of the students are relatively shorter than the expected lease to tenants of residential premises, the possession of the properties by the students are viewed as being the same as what would be expected of in relation to tenants of residential accommodation generally, being exclusive occupancy.

Therefore, as the relationship between you and the student occupants is viewed as that of a landlord and tenant, then the main use of the property for student accommodation was to derive rent. As the main use of the property was to derive rent, the property will not satisfy the active asset test under section 152-35 of the ITAA 1997.