Edited version of private advice

Authorisation Number: 1051622204070

Date of advice: 14 January 2020

Ruling

Subject: Property subdivision - one off commercial transaction

Question 1

Will the profits from the sale of the subdivided blocks of land in Town A (the blocks) be considered ordinary income under section 6-5 of the Income Tax Assessment Act 1997 (ITAA 1997) as a result of carrying on a business of property development?

Answer 1

No

Question 2

Will the profits from the sale of the blocks be considered ordinary income under section 6-5 of the ITAA 1997 as a result of profit from an isolated commercial or business transaction?

Answer 2

Yes

Question 3

Will any proceeds made from the sale of the blocks be treated as statutory income under parts 3-1 and 3-3 of ITAA 1997?

Answer 3

No

Question 4

Will the sale of the blocks be a taxable supply under section 9-5 A New Tax system (Goods and Services Tax) Act (GST Act)?

Answer 4

Yes

This ruling applies for the following period:

1 July 2019 to 30 June 2020

The scheme commences on:

1 July 2015

Relevant facts and circumstances

You and your spouse (you) purchased a property in Town A (the property) in 2012 to build a single house on the land which would become your main residence. You have provided the size and the value of the property at acquisition.

The house was subsequently built and you moved into it the following year. The property has been used as your main residence from this date. You provided details of the cost of the house.

Additional features were added to the property.

Two years after moving into the dwelling, Council A rezoned the land to small acreage precinct. Prior to this it was part of a different Planning Scheme and Precinct so was not able to be subdivided. You were subsequently notified about the rezoning by mail.

Following the rezoning, you received a number of letters from developers offering to purchase your property. You didn't accept the offers as you wanted to remain living in the property. At this point you considered the possibility of subdividing the land.

A couple of months after rezoning occurred, you engaged the services of a consultant who lodged an initial subdivision application plan for over five lots. The Development Application (DA) was submitted to Council A the following year. There have been no objections required to obtain the DA. You provided the cost of this service and you took out a bank loan at that time. You provided the amount borrowed.

Due to your financial situation the project did not proceed at this stage, and was put on hold.

A year later you took out a second bank loan for the same amount for the subdivision activities.

The same year, you engaged the services of Company A as Project Manager and provided the cost of this service.

The following year, the subdivision was reconsidered, but was again put on hold due to your personal financial situation.

A couple of years later you engaged the services of another consultant for a second application to subdivide the property into more lots. You will retain one block with the view of building a new house as your main residence and sell the remaining lots.

You provided a copy of the plan.

The application was delayed due to the additional council requirements relating to stormwater drainage which has now been rectified. You provided the cost for the service of the second consultant.

Additional cost to the project will include:

·   Council fees for the operation of works approval

·   tree removal

·   loan establishment fees

·   road construction

·   Bushfire management plan

·   loan fees

·   electrical planning

the Project Manager will tender the following works to contractors:

·   road building

·   earthworks

·   water systems

·   landscaping

·   NBN installation

·   electrical

·   plumbing

·   lighting

The estimated total costs to subdivide are significant and you will require an additional large bank loan. The bank requires the project to be at the tender stage before they will advance the loan funds.

You provided the value of the land before subdivision and the estimated sale price of each lot.

You conducted no farming or business activities on the land, made any attempts to sell the property in its current state.

Neither you nor any related entities have been engaged in property development before and have no history of buying and selling developed land.

You owned a rental property in the past. This is the only time that you have owned a property, other than a main residence.

You will not conduct any development activities yourselves.

Your occupations are not related to the building or property development industry.

You provided the expected dates of the commencement and end of the development.

No sales documents have been prepared and no pre-sale agreements have been prepared or entered into. The only professional work that has been performed to date is the preparation of the architect's plans for subdivision

Neither you nor any related entities are registered for GST.

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 112-25

Income Tax Assessment Act 1997 section 118-20

A New Tax System (Goods and Services Tax) Act 1999 section 9-5

A New Tax System (Goods and Services Tax) Act 1999 section 9-20

A New Tax System (Goods and Services Tax) Act 1999 section 9-40

A New Tax System (Goods and Services Tax) Act 1999 section 23-5

A New Tax System (Goods and Services Tax) Act 1999 section 188-10

A New Tax System (Goods and Services Tax) Act 1999 section 188-25

A New Tax System (Goods and Services Tax) Act 1999 section 195-1

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;

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;

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).

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 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

Application to your situation

In your situation, you do not carry on a business of buying, selling or developing land. It is accepted that your activities lack repetition, scale and volume and are not of the same nature as is ordinarily carried on by a property developer that is carrying on a business.

We acknowledge that the dwelling at the property has been used as your main residence but note that you have held the property for a short period of time before considering the subdivision of the property.

Although you did not actively apply for rezoning, you decided to subdivide the property shortly after the rezoning instead of selling it as a whole as subdivision will result in a higher profit.

The development is planned, organised and carried on in a businesslike manner in order to make a profit; showing that the subdivision has a significant commercial purpose.

You stated that your financial situation delayed the process of development. Despite this issue you obtained several bank loans to engage the services of different consultants and changed your earlier plan to subdivide the property into more lots. You will require additional borrowings to finance the cost of the development.

The development will require significant infrastructure activities, including the construction of a road, electricity and communications services. The costs involved in the subdivision activities are significant, when compared to the unimproved value of the land also being approximately the same value; and expect a large profit from the sales. You will ultimately bear all the risk associated with the subdivision activities.

Although you contend that you have engaged a project co-ordinator who will engage relevant consultants to perform other aspects of the subdivision, you retain ultimate control of the activities and decisions made in relation to the property.

While CGT event A1 will occur on the disposal of the subdivided blocks, the disposal of each lot will be viewed as an isolated transaction. Any profit from the sale will be assessable as ordinary income under section 6-5 of the ITAA 1997 as an isolated transaction. Any capital gain arising from each CGT event will be reduced to the extent any profit is also assessable under section 6-5 of the ITAA 1997.

Goods and Services Tax (GST)

Section 9-40 of the A New Tax System (Goods and Services Tax) Act 1999 (GST Act) provides that you are liable for GST on any taxable supplies that you make.

Section 9-5 of the GST Act provides that you make a 'taxable supply' if:

(a) you make the supply for consideration

(b) the supply is made in the course or furtherance of an enterprise that you carry on

(c) the supply is connected with the indirect tax zone (Australia), and

(d) you are registered, or required to be registered for GST.

However, the supply is not a taxable supply to the extent that it is GST-free or input taxed.

You intend to subdivide the land into residential lots. For the supply of your subdivided land to be a taxable supply, all of the requirements in section 9-5 of the GST Act must be satisfied.

In this case, you will be selling vacant residential blocks for consideration in Australia. Therefore, paragraphs 9-5(a) and 9-5(c) of the GST Act will be satisfied. Further, the supply of the blocks in your situation will neither be GST-free or input taxed.

Accordingly, we must determine whether:

(a) your sale of the blocks are in the course or furtherance of an enterprise that you are carrying on, and

(b) if so, whether you are required to be registered for GST.

Enterprise

Section 9-20 of the GST Act provides that the term 'enterprise' includes, among other things, an activity or series of activities done in the form of a business or in the form of an adventure or concern in the nature of trade. The phrase 'carry on' in the context of an enterprise includes doing anything in the course of the commencement or termination of the enterprise.

Miscellaneous Taxation Ruling MT 2006/1 The New Tax System: the meaning of entity carrying on an enterprise for the purposes of entitlement to an Australian Business Number provides guidance on what activities will amount to an enterprise.

Paragraph 234 of MT 2006/1 distinguishes between activities done in the form of a 'business' and those done in the form of 'an adventure or concern in the nature of trade'. In particular:

·   A business encompasses trade engaged in on a regular or continuous basis.

·   An adventure or concern in the nature of trade may be an isolated or one-off transaction that does not amount to a business, but which has the characteristics of a business deal.

The relevant intention or purpose of the taxpayer is not the subjective intention or purpose of the taxpayer but rather it is the taxpayer's intention or purpose discerned from an objective consideration of the facts and circumstances of the case.

Paragraphs 262 to 302 of MT 2006/1 consider isolated transactions and sales of real property.

Paragraph 263 of MT 2006/1 states that the issue to be decided is whether the activities are an enterprise, in that they are of a revenue nature, as opposed to the mere realisation of a capital asset.

Paragraph 264 of MT 2006/1 discusses two court cases, Statham & Anor v. Federal Commissioner of Taxation 89 ATC 4070 (Statham) and Casimaty v. FC of T 97 ATC 5135 (Casimaty), involving subdivision and development of properties that were originally held as capital/investments assets, where the court decided that the sale of the post-subdivision lots was the mere realisation of capital/investment assets.

From the Statham and Casimaty cases a list of factors can be ascertained that provide assistance in determining whether activities are a business or an adventure or concern in the nature of trade. Paragraph 265 of MT 2006/1 provides the following list of factors:

·   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

·   buildings have been erected on the land.

In determining whether activities relating to isolated transactions are an enterprise or the mere realisation of a capital asset, it is necessary to examine the facts and circumstances of this case. This requires a consideration of the factors outlined above. However, there may also be other relevant factors that need to be weighed up as part of the process of reaching an overall conclusion. 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 situation

You initially bought the land as your place of residence but by subdividing and selling the blocks you have changed the purpose for which the land was held for.

Whilst you contend that you have limited involvement in aspect of the development activities, this is not the only determinative factor that should be considered. It is noted that there is a demonstrated change of purpose for which the land is held. You have a coherent plan into place for the subdivision activities. You will be engaged in significant commercial activities such as negotiating or making decision with other entities in order to subdivide the property into numerous residential blocks for sale. You will be engaged in this venture in a commercial and business-like manner by entering into all the agreements to enable the subcontractor to carry out the land subdivision on your behalf. They will be required to provide all the relevant information as requested by you from time to time. This demonstrates your purpose and intention of engaging in commercial activities.

The activities carried out will be of a reasonable size. They are the types of activities routinely undertaken by owners or their service providers engaged in property development. You will erect a new building on a different lot; however no buildings will be erected on the blocks you will sell. You will conduct substantial infrastructure works as required.

In conclusion, on balance, your activities indicate a commercial approach and there is a clear intention maximising profit return. Your subdivision activities have the characteristics of activities that would constitute an adventure or concern in the nature of trade. Therefore, you are considered to be carrying on an enterprise as defined in section 9-20 of the GST Act, and the sale of the new residential apartments will satisfy the requirements of paragraph 9-5(b) of the GST Act.

Registration

Section 23-5 of the GST Act provides that you are required to be registered for GST if:

(a) you are carrying on an enterprise, and

(b) your GST turnover meets the registration turnover threshold.

The registration turnover threshold is currently $75,000.

Section 188-10 of the GST Act provides that you have a GST turnover that meets a particular turnover threshold if:

(a) your current GST turnover is at or above the turnover threshold and the Commissioner is not satisfied that your projected GST turnover is below the turnover threshold, or

(b) your projected GST turnover is at or above the turnover threshold.

Of relevance here is your projected GST turnover. Section 188-20 of the GST Act provides that your projected GST turnover at a time during a particular month is the sum of the values of all the supplies that you have made or are likely to make during that month and the next 11 months other than input taxed supplies.

In working out your projected GST turnover, paragraph 188-25(a) of the GST Actrequires that you disregard any supply made or likely to be made, by you by way of transfer of ownership of a capital asset of yours.

Paragraph 260 of MT 2006/1 explains that assets can change their character from being capital/investment assets to being trading/revenue assets, or vice versa, but cannot have a dual character at the same time.

Goods and Services Tax Ruling GSTR 2001/7 Goods and Services Tax: meaning of GST turnover, including the effect of section 188-25 on projected GST turnover discusses the meaning of a 'capital asset' at paragraphs 31 to 36.

Capital assets are often referred to as structural assets used by an entity to produce an income. Capital assets are to be distinguished from revenue assets. If the means by which you derive income is through the disposal of assets, those assets will be revenue or trading assets rather than capital assets.

We have considered section 188-25 of the GST Act and this section does not apply as the sale of the blocks has the character of a revenue asset, rather than a realisation of a capital asset.

As the sale proceeds for the sale of the blocks will exceed the registration turnover threshold you will be required to be registered for GST.

The supply of your subdivided land is considered to be a taxable supply as all of the requirements of a taxable supply under section 9-5 of the GST Actwill be met.