Edited version of private advice

Authorisation Number: 1051581764602

Date of advice: 30 September 2019

Ruling

Subject: Property development - business transaction

Question 1

Are the proceeds from the sale of the property assessable as statutory income under Parts 3-1 and 3-3 of Income Tax Assessment Act 1997 (ITAA 1997)?

Answer

No.

Question 2

Will any profit from the sale of the property be assessable as ordinary income under section 6-5 of the ITAA 1997?

Answer

Yes.

This ruling applies for the following period:

Year ending 30 June 20XX

The scheme commences on:

1 June 20XX

Relevant facts and circumstances

Company A as trustee (you) for the Trust was formed recently to acquire a property in town A (the property) the same year with the intention to develop it for a profit. You provided a copy of the title search and the property value at acquisition.

The directors have several other entities which are involved in property development. The income for these above entities was treated under revenue account.

You are registered for GST.

The property comprised of a house on several acres. It was included in an Urban Growth Zone and was within a Heritage Overlay. The house was surrounded by grassy paddock areas.

You rented the property from its acquisition. The tenants maintained the property. You provided a copy of the rental agreement.

The same year you bought the property, you engaged the services of Company B to assist with the development activities. They submitted a plan of subdivision to the local council which was approved including rezoning to residential zoning. The development was to include some acres of commercial land and the other acres of residential land.

You have provided significant details of the work involved in the PSP process.

A couple of years later you decided not to proceed with the subdivision and take on further development activities because you had another project which went on to subdivision. The process was very strenuous hence you abandoned this project. At that time you considered selling the property.

You sold the property that year and provided the selling value.

Relevant legislative provisions

Income Tax Assessment Act 1997 section 6-5

Income Tax Assessment Act 1997 section 10-5

Income Tax Assessment Act 1997 section 102-5

Income Tax Assessment Act 1997 section 104-10

Income Tax Assessment Act 1997 section 118-20

Reasons for decision

There are three ways profits from property sales can be treated for taxation purposes:

1.    As ordinary income under section 6-5 of the ITAA 1997, on revenue account, as a result of carrying on a business of property development, involving the sale of land as trading stock; or

2.    As ordinary income under section 6-5 of the ITAA 1997, on revenue account, as a result of an isolated business transaction entered into by a non-business taxpayer, or outside the ordinary course of business of a taxpayer carrying on a business, which is the commercial exploitation of an asset acquired for a profit making purpose; or

3.    As statutory income under the capital gains tax legislation.

Ordinary income

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 The Myer Emporium (1987) 163 CLR 199; 87 ATC 4363; (1987) 18 ATR 693) (Myer Emporium).

Carrying on a business

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

The question of whether a business is being carried on is a question of fact and degree. The courts have developed a series of indicators that are applied to determine the matter on the particular facts.

Taxation Ruling TR 97/11 Income Tax: am I carrying on a business of primary production? (TR 97/11) provides the Commissioners view of the factors used to determine if a taxpayer is in business for tax purposes. Its principles are not restricted to questions of whether a primary production business is being carried on.

In the Commissioner's view, the factors that are considered important in determining the question of business activity are:

·         whether the activity has a significant commercial purpose or character

·         whether the taxpayer has 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, scale and permanency of the activity, and

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

No one factor is decisive. The indicators must be considered in combination and as a whole.

Profit from isolated transactions

Taxation Ruling TR 92/3 Income tax: whether profits on isolated transactions are income 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.

Taxation Ruling 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. Taxation Ruling 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.

Capital Gain Tax (CGT) provisions

CGT event A1 in section 104-10 of the ITAA 1997, relating to the disposal of a CGT asset, will happen when you dispose of each subdivided block. You will make a capital gain if the capital proceeds from the disposal of the block are more than the cost base of the block. You will make a capital loss if those capital proceeds are less than the reduced cost base of the block.

Section 118-20 contains anti-overlap provisions which operate to reduce capital gains by any amounts which are included in your assessable income under a provision of the ITAA 1997 outside of Part 3-1 of the ITAA 1997, for example, as ordinary income under section 6-5 of the ITAA 1997.

Application to your situation

In your situation, you carry on a business of buying, selling or developing properties (including through your related entities). Your activities repetition, scale and volume are of the same nature as is ordinarily carried on by a property developer that is carrying on a business. You have several other ongoing development projects (through your related entities).

The development for this property was planned, organised and carried on in a businesslike manner as soon as you bought it in order to make a profit; showing that the development activity had a significant commercial purpose. You made a significant profit when you sold the property within a couple of years.

The development plans activities showed a level of sophistication and complexity including several stages with a purpose to conduct both commercial and residential development activities.

You only decided not to develop the property because you were too involved with other development activities.

You contend that your facts are similar to those in Rosgoe Pty Ltd v FCT [2015] FCA 1231. However, your situation is different, as you are engaged in a business of property development, including through a number of related entities. Furthermore, the scheme considered in Rosgoe was limited, and did not detail the taxpayer having business involvement in property development (through related entities, for example). However, in your situation you did not continue to pursue the property development business activities on the property as you state you had other projects that went onto subdivision and not due to a business deal that fell through.

In conclusion, on balance of the facts we find that the development activities you carried on the property constitute a business transaction. Accordingly the profits from the transaction will be considered ordinary assessable income under section 6-5 of the ITAA 1997.