Edited version of private advice

Authorisation Number: 1051974283556

Date of advice: 10 May 2022

Ruling

Subject: Sale of property - GST and income tax

Issue 1: GST

Question

Was your sale of Townhouse A a taxable supply under section 9-5 of the A New Tax System (Goods and Services Tax) Act 1999 (GST Act)?

Answer to Question 1

Yes, in part. Your sale of Townhouse A was partly a taxable supply of new residential premises (50%) and partly an input taxed supply of residential premises (50%).

Question 2

Did the partitioning of the Property result in a taxable supply by you?

Answer to Question 2

Yes, you made a taxable supply of your 50% interest in Townhouse B as a consequence of the partition of the Property.

Issue 2: Income tax

Question 3

Are the profits from the sale of Townhouse A assessable as ordinary income under section 6-5 of the Income Tax Assessment Act 1997 (ITAA 1997)?

Answer to Question 3

Yes, the profits from the sale of Townhouse A are assessable to you as ordinary income under section 6-5 of the ITAA 1997 as a result of you carrying on a business of property development.

Question 4

Did you derive any profit in respect of Townhouse B that is assessable to you?

Answer to Question 4

No, as you did not derive profit from Townhouse B you are not assessed on any profit arising from Townhouse B. You transferred your interest in Townhouse B in exchange for the remainder interest in Townhouse A. Your profit from the development was derived from the sale of Townhouse A.

This ruling applies for the following periods

Tax period ended 31 December 2021

Income year ending 30 June 2022

The scheme commences on:

10 May 2020

Relevant facts and circumstances

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

•                    You are a sole trader and have been registered for GST since [date] in respect of property development activities.

•                    In addition to various property development activities (details below), you carry on a building and construction business through a family trust, Trust Y.

•                    Individual X is your cousin's wife.

•                    On or about [date] you entered into a joint venture agreement (JV agreement) with Individual X. You were appointed as agent to execute on his behalf and on behalf of Individual X a contract of sale for the purchase the Property. Further details of the terms of the JV agreement are outlined below.

•                    The Recital of the JV agreement states, "(t)he Property is subject to Planning Permit (XX) from the Council which provides for and subject to its terms the construction of 2 double storey attached dwellings on the Property. The parties intend to construct the said dwellings and subdivide the Property (the Joint Venture Project)".

•                    This Joint Venture did not have a separate Australian Business Number.

•                    Apart from acting as agent of Individual X in respect of the purchase of the Property, you performed all the various activities associated with the development of the Property in your own right as an individual, and not as an agent or trustee of any other entity.

•                    According to the JV agreement, you executed a contract of sale for purchase of the Property for a consideration of [amount] with the settlement of the purchase to be effected on [date].

•                    You purchased the Property as co-owner with Individual X, each holding a 50% interest. Settlement payment was [amount] and both joint venturers paid a deposit of [amount].

•                    The Property was sold with developments and approvals already in place for the construction of two new townhouses.

•                    In around [date], you demolished the existing building and began to construct two new townhouses on the Property. You engaged Trust Y to complete the building work.

•                    The purchase of the Property and construction of the new townhouses was financed through personal savings and credit card payments, with no separate loan from a bank.

•                    You did not claim any input tax credits on construction costs in your capacity as a sole trader.

•                    You subdivided the Property into two separate titles (Townhouse A and Townhouse B).

•                    You became the sole owner of Townhouse A and Individual X became the sole owner of Townhouse B by the transfer of property title.

•                    There was no financial transaction or payment between you and Individual X in relation to the transfer of title of the subdivided properties.

•                    Construction was complete around [date] and you moved into Townhouse A at this time.

•                    Townhouse A was put on the market for sale on [date].

•                    The sale of Townhouse A for [amount] settled on [date].

•                    From the date you moved into the Townhouse A, it had been your principal place of residence. Prior to this, you were living together with your wife and two children in another property, situated at the Family House. Your wife has been the sole owner of the Family House since it was built.

•                    You provided the following evidence to demonstrate that you changed your place of residence from the Family House to Townhouse A:

−        A payment advice dated [date] for vehicle registration issued in your name and addressed to Townhouse A.

−        A gas account issued for the period from [date] to [date] issued in your name and addressed to Townhouse A (which also demonstrates gas utilisation during the period).

You have provided the following reasons which you say led you to purchase the Property in [date] with a plan to demolish the existing residence, build Townhouse A and B and move into Townhouse A:

•                    During the COVID lockdown, you had to work very hard to complete all construction projects on time to avoid late completion penalties. You were faced with rise of price of building materials and interruptions of construction caused by lockdown.

•                    Further, your wife's parents visited you from overseas, were unable to return to their own country and remained living with your family during the COVID lockdown. This meant there was insufficient living space at your original place of residence.

•                    As a result of the above, you were suffering from a high level of stress, anxiety and marriage issues. You had to work very late at night and sleep during the day, causing tensions in your living arrangements with your family.

•                    In order to have a quiet and undisturbed place close to your other development sites, you felt you needed to live away from your family members. You have provided details of several construction projects being undertaken by Trust Y that are in close proximity to Townhouse A.

The JV agreement

Clause 5 states the following about the common intention of the JV parties with respect to the Property and other future developments.

"The parties record the common intention as follows:

(a) that they have entered into this Joint Venture agreement in the spirit of goodwill and collegiality and agree at all times to work together in good faith in a cooperative and constructive way to achieve the purpose of this Joint Venture as set out in clause 5;

(b) that they intend to have a long-term relationship together owning, managing and developing sites;

...

(e), they will consider further Joint Venture arrangements in relation to any developments in the [area] ...".

The terms of the agreement are broad in nature and can impact other commercial interests that you may have. Clause 9(a)(iv) bears similarities to a restrictive covenant. Clause 9(a)(iv) states,

"The parties must follow the program, and in doing so must:

...

Not be involved in any undertaking which may compete with that of the Joint Venture nor obtain goods or services at a discounted price due to the supply of similar goods or services to the Joint Venture, nor seek or obtain commissions or discounts in relation to goods or services which are not also offered to the other parties."

Clause 9(b) provided that:

"The rights and obligations of the parties under this agreement are individual and nothing in this agreement constitutes the parties as partners of one another nor do they have any other relationship except that of parties."

Clause 9(c) requires each party to the JV to conduct themselves fairly and prioritise the interests of the JV above other interests each party might have. The intention to profit from the development is paramount and prioritised above other interests.

"Each party owes the others a duty of trust, and must immediately inform the others of any conflict of interest, must not profit separately from the Joint Venture and must account to the other parties for all benefits received as a result of a breach of this duty."

In specie distributions are permitted and would enable the parties to share in the profit without selling the assets, namely the townhouses. Clause 13 states,

"The parties agree that the determination of the Joint Venture shall occur once the Joint Venture Project has been completed and the assets and property distributed. The assets and properties can be distributed to the parties in equal shares and in specie."

Your prior property development activities

You provided the details of 16 other property development projects you have previously carried on through various companies, partnerships and trusts. The project details you provided above were limited only to property development projects where the intention was to develop and sell within a short period of time. You did not provide details of other types of construction projects where the intention was to hold the property longer term to generate rental income.

You and Individual X have been involved in property development activities together in the past through one of these property projects. There were three equity holders in the company - a company controlled by you, a family trust controlled by Individual X and a family trust controlled by your brother-in-law.

Prior to moving into Townhouse A, you had used one other property project as a place of residence, the ABC Property). The ABC Property was originally owned by your mother. You lived in the ABC Property for approximately three years. After this time, the property was used to provide accommodation for relatives for no rent. Sometimes the property was used to generate rent. You demolished the ABC Property and constructed two new residences. The first new townhouse was sold in [date] and was reported in the BAS for the quarter ended [date]. The second new townhouse was sold in [date] and will be reported in the BAS for the quarter ended [date].

Your contentions

You have provided the following reasons why you chose the avenue of buying a property, demolishing it and constructing new premises in order to change your place of residence:

•                    You are a builder. By building the property yourself, you were able to have a property at a cheaper cost, saving on builder's profit margins and stamp duty.

•                    By not restricting your choice to only buying a pre-existing residence, you had a better chance of choosing a location that is close to your construction projects.

•                    By building the property yourself, you were able to choose the design of the property that exactly met your needs. You could also choose materials and colour scheme to match your preference.

•                    If you had bought a property, you still would have had to wait for the settlement time which is usually 3 months. Because you are a builder, you can complete the construction process within a very short period of time. There was not much difference between buying and building a property as far as the length of time is concerned.

In terms of the intended duration of your stay at Townhouse A, you have stated that your intention was to reside in a separate property from your wife and family due to these tensions "at least until COVID 19 is over". In a separate statement, you stated that your intention was to reside in the premises for as long as you have work in the area.

You decided to sell Townhouse A for the following reasons:

•                    Since moving into Townhouse A, you have started to experience financial difficulties as you have had to pay all the bills for construction of Townhouse A. You also have to continue to support your family members and children.

•                    Your initial intention was to keep your newly built townhouse as your principal place of residence. However, as the COVID-19 situation continued, you started to worry that this will eventually result in a fall in property value in Australia. You believed that by selling Townhouse A now, you will generate more cashflow and your family trusts will be in a better position to repay the loans.

Following settlement of the sale of Townhouse A, you are in the process of moving to a different townhouse you recently constructed Townhouse XYZ). The occupancy permit for Townhouse XYZ was issued on [date].

You have advised that you are not sure whether your construction business can withstand the ongoing impacts of the COVID-19 pandemic. You further advise that for this reason, you sold Townhouse A because of its higher sale price of [date], compared to the cost of Townhouse XYZ which you say was only about [date] (including land and construction).

The distance between the Family House, in which your family resides and:

•                    Townhouse A is 12-13km, an 18-22 minute drive approximately.

•                    Townhouse XYZ is 1.2km, a two-minute drive approximately.

Assumptions

The terms of the JV agreement were carried out by both parties. The costs of the construction and the resulting outputs were shared equally by both parties to the JV agreement.

Relevant legislative provisions

A New Tax System (Goods and Services Tax) Act 1999 - sections 9-5, 9-20,40-65, 40-75, 195-1

Income Tax Assessment Act 1997 - sections 6-5, 102-20, 108-5,118-20, 995-1

Further issues for you to consider

We have limited our private ruling to the questions raised in your application. There may be related issues that you should consider, including:

•                     Determining the value of non-monetary consideration

•                     Application of the margin scheme

You may apply for another private ruling on these or any other matters.

Reasons for decision

These reasons for decision accompany the Notice of private ruling for [applicant].

This is to explain how we reached our decision. This is not part of the private ruling.

Issue 1 - GST

Question 1

Was your sale of Townhouse A a taxable supply under section 9-5 of the GST Act?

Summary

Your sale of Townhouse A in December 2021 was made in the course or furtherance of your property development enterprise. The sale was partly a taxable supply of new residential premises in relation to the interest not acquired under the partition (50%) and partly an input taxed supply of residential premises with respect to the interest acquired under the partition (50%).

Detailed Reasoning

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

(a)  you make the supply for consideration; and

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

(c)   the supply is connected with the indirect tax zone (essentially Australia for present purposes); and

(d)  you are registered or required to be registered.

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

In this case, paragraphs (a), (c) and (d) are satisfied and there are no provisions which would apply to make the supply GST-free.

The remaining issues to be considered are whether the supply was made in the course or furtherance of an enterprise that you carry on and whether, or to what extent, the supply was input taxed.

Was the supply made in the course or furtherance of an enterprise that you carry on?

In your case, you are a sole trader and have been registered for GST since 1 July 2019 in respect of other property development activities. It is not in question that, at the relevant time, you were carrying on an enterprise.

The question is whether the sale of Townhouse A is a supply that was made in the course of furtherance of that enterprise or a separate enterprise (pursuant to the JV agreement). Accordingly, it is still necessary to consider the meaning of enterprise to determine whether the relevant activities fall within the definition.

The term "enterprise" is defined in subsection 9-20(1) of the GST Act to include, amongst other things, an activity or series of activities done:

(a)  in the form of a business; or

(b)  in the form of an adventure or concern in the nature of trade.

Section 195-1 of the GST Act provides that "carrying on" an enterprise includes doing anything in the course of the commencement or termination of the enterprise.

The ATO view is set out in detail in 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 (MT 2006/1). 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:

•                    a business encompasses trade engaged on a regular basis

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

Paragraph 178 of MT 2006/1 lists a number of indicators considered when attempting to determine whether an activity or series of activities amount to a "business" or activity done in the form of a business:

•                    a significant commercial activity

•                    a purpose and intention of the taxpayer to engage in commercial activity

•                    an intention to make a profit from the activity

•                    the activity is or will be profitable

•                    the recurrent or regular nature of the activity

•                    the activity is carried on in a similar manner to that of other businesses in the same or similar trade

•                    activity is systematic, organised and carried on in a businesslike manner and records are kept

•                    the activities are of a reasonable size and scale

•                    a business plan exists

•                    commercial sales of product

•                    the entity has relevant knowledge or skill.

Paragraphs 244 to 257 of MT 2006/1 provide guidance on determining whether an activity constitutes an adventure or concern in the nature of trade, including outlining the following characteristics of trade or 'badges of trade':

•                    the subject matter of the realisation

•                    length of period of ownership

•                    frequency or number of similar transactions

•                    supplementary work on or in connection with the property realised

•                    circumstances that were responsible for the realisation

•                    motive.

In respect of motive, MT 2006/1 confirms at paragraph 254 that if the activities, on an objective assessment, have the characteristics of trade, the person's subjective motive is not relevant. It is relevant in those cases where the evidence is not conclusive. An intention to resell at the time of acquisition may be an indicator of the resale being an adventure or concern in the nature of trade.

In addition, paragraph 265 of MT 2006/1 includes a list of factors drawn from relevant case law in relation to isolated transactions and sales of real property that provide assistance in determining whether such activities are done in the form of a business or an adventure or concern in the nature of trade. If several of the following factors are present it may be an indication that a business or an adventure in the nature of trade is being carried on.

•                    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.

As stated in MT 2006/1 at paragraph 244, the sale of the family home, car and other private assets are not, in the absence of other factors, adventures or concerns in the nature of trade (emphasis added).

In some cases, residential premises may also be applied for a private or domestic purpose such as where an individual lives in the premises, but this would not prevent the subsequent sale of the property from being made in the course of their enterprise. The following examples from GSTR 2009/4 illustrate this:

Example 16 - application to a private or domestic purpose

122. Mary is registered for GST and has quarterly tax periods. She constructed new residential premises for the purpose of sale as part of her enterprise. However, due to a change in her personal circumstances, not long after the premises were completed Mary required a place to live for three months. Mary continued to hold the premises for sale as part of her enterprise and continued to market the premises for sale. The market value for rent for similar premises was $2,500 per month. Before the end of the adjustment period Mary sells the premises for $500,000.

...

(The example then goes on to illustrate how Mary calculates her extent of creditable purpose to adjust to the extent of her private use, which is not relevant for present purposes).

Similarly, where an individual resides in a property they have acquired with the intention of renovating and selling it at a profit, that use of the property as their residence will not stop the activity from being a one-off profit making activity if it is conducted in a business-like manner, such as the following example taken from the ATO website providing guidance on Property renovating as a business or profit-making activity:

Example: Renovation as a profit-making activity

Fred and Sally are married with two children. They renovated their home, substantially increasing its value. After watching many of the home improvement shows and seeing how other people have bought, renovated and sold properties for a significant profit, they decide to investigate the purchase of another property to renovate and make a profit.

They consider many properties, costing out the renovations, costs of buying and selling, and timeframes to complete the renovations. Their research shows that they could make a significant profit.

They sell their current home and purchase a new property which they move into while completing the renovations. They plan out the renovation in stages, including the costs and any contractors needed to complete the work. The renovation runs to schedule and when completed they list the property for sale. The property sells for a profit.

The property renovation activities were planned, organised and carried on in a business-like manner; the purpose of buying the property was to renovate it and make a profit; and the renovations were carried on in a similar manner to other property renovation businesses.

Therefore, Fred and Sally have entered into a one-off profit-making activity.

In determining whether activities are done in the course of an enterprise, it is necessary to examine the facts and circumstances of each particular case. No single factor will be determinative rather it will be a combination of factors that will lead to a conclusion as to the character of the activities.

In the present case, we consider the following factors indicate that relevant activities (starting from the purchase of the Property in [date], through to the construction and sale of Townhouse A) were done in the course of an enterprise:

•                    You undertook the development in a businesslike manner by entering into the JV agreement with Individual X. The JV agreement contained limitations on what the parties could and could not do and provides evidence that there was profit making intention at the outset of the project.

•                    The JV agreement evidenced your intention to have a long-term relationship with Individual X of "owning managing and developing sites" (clause 5). The JV agreement allowed for proceeds to be taken via in specie distribution (clause 13). This allowed you the flexibility to live in the property if you wanted to. However, the intent to profit from the development, as stated in the Recital of the JV agreement was evident prior to the purchase of land.

•                    The length of period of ownership - you moved into the property in [date] and then listed the property for sale within 4 months in [date].

•                    Your extensive property development background (conducted as a sole trader and also extensive other projects of the same nature conducted through various business structures).

•                    Frequency or number of similar transactions.

•                    You have the relevant knowledge and skills.

•                    Supplementary work on or in connection with the property realised beyond that which was required for mere personal use.

In addition to the reasons outlined above, in our answer to Issue 2 Question 3, we have outlined our reasons why we have concluded the sale of Townhouse A was made as a result of a property development business that you carry on, or alternatively, that the proceeds from the sale as part of an isolated profit-making transaction. These reasons are also applicable to Question 1.

We consider that an objective assessment of the circumstances indicates that your intention at the time of purchasing the Property in [date], through to the construction and sale of Townhouse A, was to sell the new residential premises at a profit. Your short-term use of the property as a place of residence does not alter this conclusion. Accordingly, the sale of Townhouse A in [date] was made in the course or furtherance of an enterprise that you carry on.

Was the supply input taxed?

Section 40-65 of the GST Act provides that the supply of residential premises is input taxed to the extent that the property is residential premises to be used predominantly for residential accommodation. However, the supply is not input taxed to the extent that the residential premises are:

•                    'commercial residential premises'; or

•                    'new residential premises' other than those used for residential accommodation before 2 December 1998.

The term 'new residential premises' is defined under subsection 40-75(1) of the GST Act, and provides that residential premises are new residential premises if they:

(a)  have not previously been sold as residential premises (other than commercial residential premises) and have not previously been the subject of a long-term lease; or

(b)  have been created through substantial renovations of a building; or

(c)   have been built, or contain a building that has been built, to replace demolished premises on the same land.

In this case, a 50% interest in Townhouse A had previously been supplied as residential premises when the land was partitioned (refer to our decision in Question 2).

Accordingly, the sale of Townhouse A in [date] was:

•                    partly a taxable supply of new residential premises in relation to the interest not acquired under the partition (50%), and

•                    partly an input taxed supply of residential premises with respect to the interest acquired under the partition (50%).

Conclusion - Question 1

Your sale of Townhouse A in [date] was made in the course or furtherance of your property development enterprise. The sale was partly a taxable supply of new residential premises in relation to the interest not acquired under the partition (50%) and partly an input taxed supply of residential premises with respect to the interest acquired under the partition (50%).

Question 2

Did the partitioning of the Property result in a taxable supply by you?

Summary

Through the partitioning of the Property, you made a supply of your 50% interest in Townhouse B. This supply was for consideration (being Individual X's transfer of her 50% interest in Townhouse A to you) and was made in the course of furtherance of your enterprise. The supply was a taxable supply of new residential premises.

Detailed reasoning

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 (for present purposes, we will refer to the indirect tax zone as "Australia"); and

(d)  you are registered or required to be registered.

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

In respect of the partition of the Property, we note that any supply made will be connected with Australia, that you were registered for GST at the relevant time and that there are no provisions which would apply to make the supply GST-free.

The remaining issues to be considered are whether the partition involved a supply for consideration, and if so, whether such would be:

•                    made in the course or furtherance of an enterprise that you carry on

•                    input taxed.

Was there a supply for consideration?

Goods and Services Tax Ruling GSTR 2009/2 Goods and services tax: partitioning of land (GSTR 2009/2) considers the GST consequences of the partitioning of real property among co-owners of property and relevantly provides:

21. Under a partition by agreement, co-owned property may be divided and each co-owner contemporaneously transfers or conveys their respective interest or share in the part of the land being taken by the other. If land is already physically divided, the partition will involve the contemporaneous transfer or conveyance of the co-owner's interest in the land to be taken by the other co-owners.

...

48. To effect a partition under an agreement, all the co-owners agree to divide the land and to mutually transfer or convey their respective interests in the parts to be taken and enjoyed in severalty by the other. Each transfer or conveyance is a supply.

49. However, a co-owner does not make a supply of its own interest in the land that it is to take in severalty.

...

86. The Commissioner considers that, under a partition by agreement or where a court orders the co-owners to effect a partition, each co-owner makes a supply of land for consideration. In the absence of an owelty payment, the consideration received is entirely non-monetary in that each co-owner gives up their interests in parts of the land in return for the same from other co-owners.

When you partitioned the Property and each took a 100% interest in Townhouse A and B respectively, you made a supply to Individual X in respect of your interest in the part of Property that was transferred into her sole ownership (that is, a 50% interest in Townhouse B).

Even though you have stated that no financial transaction took place in respect of the partition, your supply was made for non-monetary consideration, being Individual X's transfer of the 50% interest in Townhouse A to you.

Therefore, the partition did involve a supply by you for consideration.

Was the supply made in the course or furtherance of an enterprise that you carry on?

We have outlined the relevant legislative provisions and ATO view in response to Question 1.

Your intention at the time of purchasing the Property in August 2020 was to demolish the existing premises, commission the construction of the new townhouses and then immediately partition the land and transfer your 50% interest to Individual X.

For the same reasons as outlined in response to Question 1, we consider that an objective assessment of the circumstances indicates that these activities were undertaken in the course or furtherance of an enterprise that you carry on.

Was the supply of the 50% interest in Townhouse B input taxed?

Section 40-65 of the GST Act provides that the supply of residential premises is input taxed to the extent that the property is residential premises to be used predominantly for residential accommodation. However, the supply is not input taxed to the extent that the residential premises are:

•                    'commercial residential premises'; or

•                     'new residential premises' other than those used for residential accommodation before 2 December 1998.

The term 'new residential premises' is defined under subsection 40-75(1) of the GST Act, and provides that residential premises are new residential premises if they:

(a)  have not previously been sold as residential premises (other than commercial residential premises) and have not previously been the subject of a long-term lease; or

(b)  have been created through substantial renovations of a building; or

(c)   have been built, or contain a building that has been built, to replace demolished premises on the same land.

As the supply of the 50% interest in Townhouse B was the supply of new residential premises, it will not be input taxed.

Conclusion - Question 2

At the time of partitioning of the Property, you made a supply of your 50% interest in Townhouse B. This supply was for consideration (being Individual X's transfer of her 50% interest in Townhouse A to you) and was made in the course of furtherance of your enterprise. The supply was a taxable supply of new residential premises.

Further GST issues for you to consider

Taxable supply made as a result of the partition

The amount of GST on a taxable supply is 1/11th of the price, which is the sum of:

(a)  the amount of monetary consideration; and

(b)  GST inclusive market value of any non-monetary consideration.

Please consider the following ATO resources for further guidance on determining the GST inclusive market value of any non-monetary consideration for the supply made under the partition arrangement:

•                    GSTR 2001/6 Goods and services tax: non-monetary consideration explains the GST Act applies if part or all of the consideration for a supply is non-monetary consideration.

•                     GSTR 2009/2 Goods and services tax: partitioning of land outlines whether/how the margin scheme can apply to taxable supplies made as a consequence of partition arrangements (see also ATO website information: GST and the margin scheme).

Acquisition made as a result of the partition

When you partitioned the Property and each took a 100% interest in Townhouse A and B respectively, you also made an acquisition from Individual X in respect of the interest in the part of Property that was transferred into your sole ownership (that is, a 50% interest in Townhouse A).

Your entitlement to input tax credits in respect of this acquisition depends on whether the acquisition is a creditable acquisition under section 11-5 of the GST Act.

You make a creditable acquisition if:

(a)  you acquire anything solely or partly for a creditable purpose; and

(b)  the supply of the thing to you is a taxable supply; and

(c)   you provide, or are liable to provide, consideration for the supply; and

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

In this case, it is not clear whether the supply of the thing to you was a taxable supply as this depends on whether Individual X made the supply in the course of carrying on an enterprise and whether she is registered for GST.

In any event, we consider that you would not be entitled to input tax credits in respect of the acquisition, even if the supply to you was a taxable supply. This is because you did not make the acquisition for a creditable purpose.

You acquire a thing for a creditable purpose to the extent that you acquire it in carrying on your enterprise. However, you do not acquire the thing for a creditable purpose to the extent that:

(a)  the acquisition relates to making supplies that would be input taxed; or

(b)  the acquisition is of a private or domestic nature.

In this case, your acquisition of the 50% interest in Townhouse A relates wholly and directly to your on-sale of that interest in the property, which was an input taxed supply of residential premises.

Issue 2 - Income tax

Question 3

Are the profits from the sale of Townhouse A assessable as ordinary income under section 6-5 of the ITAA 1997?

Summary

Yes, the profits from the sale of Townhouse A are assessable to you as ordinary income under section 6-5 of the ITAA 1997 as a result of you carrying on a business of property development.

Detailed Reasoning

Tax treatment of property sales transactions

The profits from property sales are treated for taxation purposes in one of three ways:

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

2.    As ordinary income under section 6-5 of the ITAA 1997 (revenue account), derived from an isolated commercial transaction with a view to a profit; or

3.    As statutory income under the capital gains tax (CGT) legislation.

Ordinary Income

Subsection 6-5(2) of the ITAA 1997 provides that the assessable income of an Australian resident includes ordinary income derived directly or indirectly from all sources, whether in or out of Australia, during the income year.

Whether carrying on business of property development

Section 995-1 of the ITAA 1997 states the term 'business' includes any profession, trade, employment, vocation or calling, but does not include 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? provides the Commissioner's view of the factors used to determine if you are in business for tax purposes. 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 activity and the extent of the activity shows a business was carried on;

•                    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.

Isolated transaction

Alternatively, Taxation Ruling TR 92/3 Income tax: whether profits on isolated transactions are income discusses profits on isolated transactions and the application of the principles outlined in the decision of the Full High Court of Australia in FCT v. Myer Emporium Ltd (1987) 163 CLR 199; 87 ATC 4363; (1987) 18 ATR 693. Taxation Ruling TR 92/3 explains that profits on isolated transactions may be income.

Profit from an isolated transaction will generally be ordinary income where:

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

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

Intention or purpose

Taxation Ruling TR 92/3 outlines that the relevant intention of the taxpayer, in making a profit or gain, is not the subjective intention or purpose of the taxpayer, but rather their intention or purpose discerned from an objective consideration of the facts and circumstances of the case.

If the transaction involves the sale of property, it is usually necessary that the taxpayer has the purpose of profit-making at the time of acquiring the property. However, that is not always the case because the purpose can change. This was demonstrated in the High Court decision in FC of T v Whitfords Beach Pty Limited 82 ATC 4031 (Whitfords).

Further, in Whitfords, Gibbs CJ said (at 4034), that:

When the owner of an investment chooses to realize it, and obtains a greater price for it than he paid to acquire it, the enhanced price will not be income within ordinary usages and concepts, unless, to use the words of the Lord Justice Clerk in California Copper...'what is done is not merely a realisation or change of investment, but an act done in what is truly the carrying on, or carrying out, of a business'.

The Commissioner's position at paragraph 42 of TR 92/3 indicates a taxpayer's intention may change to profit-making after the time of acquisition. This is supported by the decision of the Federal Court in Stevenson v Commissioner of Taxation (1991) FCR 282 (Stevenson) where doubt was raised in relation to the position that a landowner may only form a profit-making intention in respect of any asset at the time of acquisition.

The Commissioner considers that from the moment you executed the JV agreement, you committed yourself to the development of the land for the purpose of subdivision and sale.

At this point, your intention was to hold the property as trading stock for the purposes of a land development business.

The Commissioner considers this to be a positive indicator of carrying on a business of land development.

The fact that the arrangement permitted you to live in the townhouse and that you lived there for four months does not negate your intent and commitment to profit from the development.

A business operation or commercial transaction

Paragraph 13 of TR 92/3 outlines the following factors which may be relevant when considering whether an isolated commercial transaction amounts to a business operation or commercial transaction:

•                    the nature of the entity undertaking the operation or transaction;

•                    the nature and scale of other activities undertaken by the taxpayer;

•                    the amount of money involved in the operation or transaction and the magnitude of the profit sought or obtained;

•                    the nature, scale and complexity of the operation or transaction;

•                    the manner in which the operation or transaction was entered into or carried out;

•                    the nature of any connection between the relevant taxpayer and any other party to the operation or transaction;

•                    if the transaction involves the acquisition and disposal of property, the nature of the property; and

•                    the timing of the transaction or the various steps in the transaction.

Capital Gains Tax

Profits from the sale of property may be treated as statutory income under the CGT provisions contained in Part 3-1 of the ITAA 1997 as a mere realisation of a capital asset.

Section 102-20 of the ITAA 1997 states that a capital gain or capital loss is made only if a CGT event happens. Most CGT events happen in respect of a CGT asset. The property is a CGT asset (section 108-5 of the ITAA 1997).

CGT event A1 happens if you dispose a CGT asset.

If profit from the sale of the property gives rise to both ordinary income and a capital gain, section 118-20 of the ITAA 1997 will apply to reduce the capital gain to the extent that the profit from the sale of the property is otherwise included as assessable income under section 6-5 of the ITAA 1997.

Further, Taxation Determination TD 92/135 Income tax: capital gains: is the main residence exemption relevant when the proceeds of sale of a dwelling are treated as income under ordinary concepts? states that where the sale of a dwelling gives rise to income under section 6-5 of the ITAA 1997, that income remains assessable even if a main residence exemption is available for CGT purposes. TD 92/135 gives the following example that is referrable:

Example:

A builder constructs a spec home in which he and his family reside while construction proceeds on another spec home. Any profit on sale which gives rise to income is fully assessable to the builder even if a main residence exemption is available for CGT purposes.

Application to your circumstances

Ordinary income as a result of carrying on a business of property development

You are a sole trader and engage in property development activities. You were carrying on a business of property development through the Joint Venture during the relevant period. This is evident due to the following factors:

•                    The development of the Property had a commercial purpose or character; as evident in the terms of the JV agreement. Under the JV agreement you were required to prioritise the commercial interests of the Joint Venture Project above your other commercial interests and to carry out the development in a commercial and financially beneficial manner.

•                    You had acted on your intention to engage in a business, as demonstrated via your commitment to funding (your portion of) the Joint Venture Project and the building process.

•                    You had a purpose of profit, as well as a prospect of profit from the activity.

•                    This development, when viewed alongside your prior property development projects, shows a regularity and repetition of the activity.

•                    The development of the Property is of the same kind and carried on in a similar manner to your ordinary trade as a builder. This is evident by the extent of the party's obligations towards the completion of the Joint Venture Project which required them to avoid conflict of interest and the restriction of other opposing interests.

•                    The activity was planned, organised and carried on in a businesslike manner with the purpose to make a profit.

•                    The size and scale of the activity.

The facts and evidence demonstrate that the profits from the development and sale of Townhouse A through the Joint Venture were derived through the carrying on of a property development business you carried on.

The factors to consider when determining if the profit from the sale of Townhouse A was made as a result of you carrying on a business of property development for income tax purposes are similar to those considered when determining if it was made in the course or furtherance of your property development enterprise for GST purposes. Therefore, as discussed previously with regards to GST, an analysis of the factors points towards the profit from the sale of Townhouse A being made in your carrying on of a business in property development.

The alternate view: Ordinary income as a result of an isolated transaction

Alternatively, the Commissioner is satisfied that if you are not carrying on a business, the proceeds from the sale of Townhouse A will be those from an isolated profit-making transaction because:

•                    your intention or purpose in entering into the transaction was to make a profit or gain; and

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

Intention

As outlined above, the relevant purpose is the objective purpose of the taxpayer when considering the transaction or operation in its totality.

You have stated that your intention at the time that the Property was purchased was to live in Townhouse A (after its construction) as your primary residence for a period of time (either during the COVID-19 pandemic or until work on your nearby development sites was completed).

Paragraph 8 of TR 92/3 sets out the Commissioner's view that it is possible to have more than one intention in entering into a transaction or operation, and it is sufficient that profit making is a significant purpose. Your intention to reside in Townhouse A for a period of time does not mean that you did not also have a profit-making intention when purchasing, developing and selling that property.

You embarked on a profit making plan when you signed the JV agreement. The agreement shows your purpose and intent was to profit from subdivision and construction. The sale of the property is not mere realisation. The decision to live in the new townhouse for a short time does not change the nature of the activity.

When considering the totality of your actions from the purchase of the Property to the sale of Townhouse A, it is the Commissioner's view that a profit-making intention can be inferred.

As noted under Issue 1 (GST), the facts show a profit-making intention and they include the following.

•                    The development of the Property is the same type of property development activity that you have previously undertaken to derive profit.

•                    The undertaking of commercial risks, such as the risks of possible delays or inability to get contractors, the risks of increased building costs.

•                    Clause 9 of the JV agreement can be likened to a non compete clause and stipulated the ways you are to avoid a conflict of interest and refrain from doing certain things. It demonstrates that the Joint Venture was commercially significant and the likelihood of profit was considerable. So much so, that you would allow it to impinge on your other business interests.

•                    The construction and development on the Property was beyond that which was required for mere personal use.

Business operation or commercial transaction

Consideration has been given to the following factors in determining that the totality of your actions from the purchase of the Property to the sale of Townhouse A amounts to a business operation or commercial transaction:

•                    The nature and scale of other activities undertaken by you.

−        you are in the business of property development. The nature and scale of this operation is in line with numerous other property development activities undertaken by you in the course of your property development business (as outlined in Your prior property development activities above).

•                    The manner in which the operation or transaction was entered into or carried out.

−        Your development of the land was undertaken in a planned, organised way and was carried on in a businesslike timely manner. As noted above, clause 9 of the JV agreement provides restriction on your other business interests which signifies the commercial importance of this project.

•                    The nature of any connection between the relevant taxpayer and any other party to the operation or transaction.

−        you undertook the purchase of Property with Individual X. You and Individual X have engaged in property development activities together in the past. While you have a familial connection to Individual X, this engagement was of a business nature. As outlined in the JV you had acted on your intention to engage in a business agreement at clauses 5(b) and 5(e), you and Individual X 'intend to have a long-term relationship together owning, managing and developing sites' and 'will consider further Joint Venture arrangements in relation to any developments in the south eastern area'. This intention to continue to develop properties together indicates a businesslike relationship.

•                    The nature of the property.

−        the transaction involved the sale of a newly constructed townhouse that you had built.

•                    The timing of the transaction or the various steps in the transaction.

−        As set out above, you first purchased the Property as co-owner with Individual X in [date]. You demolished the existing residence; developed two townhouses on the property, Townhouse A and Townhouse B, and then subdivided the property around [date] into two lots. Following partition, you became the sole owner of Townhouse A and Individual X became the sole owner of Townhouse B. You listed Townhouse A for sale on [date] and the sale settled on [date]. The timing between the various steps in this transaction is consistent with a business operation or commercial transaction; steps were carried out in a commercial manner, and Townhouse A was listed for sale approximately four months after its construction. The fact that you resided in Townhouse A for a period of four months does not prevent the totality of your actions from amounting to a business operation or commercial transaction.

The facts support the alternative view, that you profited from the sale of Townhouse A pursuant to an isolated profit-making venture, and the profits are consequently assessable under section 6-5 of the ITAA 1997.

The Property was not resold before any improvements were made to it. The Property was purchased for the purpose of subdivision and development which you completed. Based on the facts presented, the sale of Townhouse A was not a mere realisation of a capital asset that produced a capital gain.

As outlined in TD 92/135, where a sale of a dwelling gives rise to income under section 6-5 of the ITAA 1997, that income remains assessable even if a main residence exemption is available for CGT purposes.

Question 4

Did you derive any profit in respect of Townhouse B that is assessable to you?

Summary

No, as you did not derive profit from Townhouse B you are not assessed on any profit arising from Townhouse B. You transferred your interest in Townhouse B in exchange for the remainder interest in Townhouse A. Your profit from the development was derived from the sale of Townhouse A.

Detailed reasoning

Subdivision of land

When a block of land is subdivided, the original land parcel is split into two or more separate CGT assets. Subdivision itself is not considered to be a CGT event as subdividing does not change the ownership of the subdivided block. The acquisition date of the subdivided block is the same acquisition date as that of the original block.

Change in ownership

The transfer of title of the townhouses changed the ownership of the subdivided blocks. In transferring your 50% ownership in Townhouse B to Individual X in return for their 50% ownership in Townhouse A, you effectively disposed of your 50% interest in Townhouse B for the consideration of Individual X's 50% interest in Townhouse A.

The exchange of your interests ensured that each party to the JV agreement had 100% ownership in one townhouse as a result of the execution of the JV agreement. The transfer of your interests in Townhouse B in exchange for the remainder interest in Townhouse A enabled the equal sharing of profits from the JV.

As outlined above, there are three ways in which profits from property sales are treated for taxation purposes.

You are taxable on the profits derived from the sale of Townhouse A under section 6-5 because you were either carrying on a business or a profit-making activity.