Edited version of private advice

Authorisation Number: 1052084233778

Date of advice: 7 February 2023

Ruling

Subject: GST and CGT on the sale of subdivided lots

Question 1

Will the subdivision of the existing land and sale of all subdivided blocks at XX (except for the block with original dwelling) be considered as carrying on an enterprise for the purposes of paragraph 9-5(b) and section 9-20 of the A New Tax System (Goods and Services Tax) Act 1999 (GST Act) and, therefore, require registering for an ABN and GST?

Answer

No, the subdivision of the existing land and sale of all subdivided blocks at will not be considered as carrying on an enterprise for the purposes of paragraph 9-5(b) section 9-20 of GST Act.

Question 2

If required to be registered for GST, can the margin scheme apply for the purposes of calculating the GST payable for the subdivisions in accordance with subsection 75-10(1) of the GST Act?

Answer

No, as you are not required to be registered for GST for the subdivided blocks the margin scheme does not apply.

Question 3

How will the sale of subdivided blocks be taxed?

Answer

The sale of subdivided blocks will be treated as a mere realisation of an asset subject to capital gains tax (CGT) under Parts 3-1 and 3-3 of the Income Tax Assessment Act 1997 (ITAA 1997).

This ruling applies for the following periods:

Financial years commencing 1 July 20XX to 30 June 20XX

The scheme commences on:

1 May 20XX

Relevant facts and circumstances

XX and XX ('you') acquired property ("the property') as joint tenants in October 19XX. The property is situated on land of XXX hectares.

The property was purchased by you in joint names (at 50% each) in October 19XX and has not been offered for sale at any time since.

No major capital improvements have been done to the property.

You originally purchased the land with a view to living there permanently on retirement or earlier, or to use as a holiday house.

You originally purchased the property with the intention to use it as a holiday house and to live there permanently on retirement or earlier.

The property was used as a holiday house until YYYY and leased to tenants from YYYY until MM YYYY.

In MM YYYY you consulted and engaged a surveyor to subdivide the property. In MM YYYY, a plan of subdivision for 8 lots was prepared and lodged with the Council which has issued a planning permit. The land will be subdivided into XX blocks.

You have retired and want to fund your retirement by selling X of the subdivided lots and to retain the lot with the original house, which you have stated you can't afford to do if you retain the property in its entirety. The subdivision and sale of the blocks will reduce your maintenance expenses and provide funds to live on.

Prior to the sale of subdivided lots, they will be connected to water, gas and electricity.

The property has always been zoned as residential.

No lots have been sold yet

You have not completed any land development projects in the past, nor are you planning to in the future.

A valuation by a certified practising valuer valued the land at $X on DD MM YYYY

Relevant legislative provisions

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

A New Tax System (Goods and Services Tax) Act 1999 subsection 9-20(1)

A New Tax System (Goods and Services Tax) Act 1999 subparagraph 75-5(1)(a)

Income Tax Assessment Act 1997 Part 3-1

Income Tax Assessment Act 1997 Part 3-3

Income Tax Assessment Act 1997 section 6-5

Income Tax Assessment Act 1997 section 104-10

Income Tax Assessment Act 1997 subsection 995-1(1)

Reasons for decision

1.    Enterprise

Subsection 9-20(1) 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' (paragraph 9-20(1)(a))

•         'in the form of an adventure or concern in the nature of trade', including isolated or 'one-off' transactions (paragraph 9-20(1)(b)).

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) provides the meaning of enterprise for the purposes of entitlement to an ABN. Goods and Services Tax Determination GSTD 2006/6 Goods and services tax: does MT 2006/1 have equal application to the meaning of 'entity' and 'enterprise' for the purposes of the A New Tax System (Goods and Services Tax) Act 1999? provides that the discussion in MT 2006/1 equally applies to the term enterprise as used in the GST Act and can be relied on for GST purposes.

Paragraph 159 of MT 2006/1 discusses how to determine the extent to which an activity or a series of activities amounts to an enterprise:

159. Whether or not an activity, or series of activities, amounts to an enterprise is a question of fact and degree having regard to all of the circumstances of the case.

Furthermore, paragraph 160 of MT 2006/1 discusses the need to identify all the relevant activities in order to determine the existence of an enterprise:

160. It is important that the relevant activity or series of activities are identified in order to determine whether an enterprise is being carried on. This is because one activity may not amount to an enterprise but that activity taken into account with other activities may form an enterprise. All activities need to be taken into account including activities from the commencement to the termination of the enterprise. For further information on commencement and termination activities, see paragraphs 120 to 148 of this Ruling.

Paragraph 178 of MT 2006/1 discusses the main activities to consider where an enterprise is done in the form or a business for the purposes of paragraph 9-20(1)(a).Based on that discussion some indicators are:

•         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; and

•         the entity has relevant knowledge or skill.

Paragraph 179 of MT 2006/1 provides 'there is no single test to determine whether a business is being carried on'. Paragraph 12 of TR 97/11 states that 'whilst each case might turn on its own particular facts, the determination of the question is generally the result of a process of weighing all the relevant indicators'.

Weighing up all of the facts and circumstances, with no one test being determinative, it is the Commissioner's view, that you are not carrying on a property development enterprise. The following facts have been considered:

•         You have owned the property for XX years.

•         You had always intended to live in the property permanently on retirement.

•         The property was originally used as a holiday house for X years and as a rental property for XX years.

•         The size of the activity is small and lacks the character of a property development business.

•         The activity is not recurrent or regular.

The Commissioner does not consider that you are carrying on a property development enterprise in the form of a business. However, an adventure or concern in the nature of trade may be an isolated or one-off transaction that amount to a business deal.

Paragraphs 262 - 263 of MT 2006/1 state:

262. The question of whether an entity is carrying on an enterprise often arises where there are 'one-off' or isolated real property transactions.

263. The issue to be decided is whether the activities are an enterprise in that they are of a revenue nature as they are considered to be activities of carrying on a business or an adventure or concern in the nature of trade (profit making undertaking or scheme) as opposed to the mere realisation of a capital asset.

Paragraph 265 of MT 2006/1 has identified a number of factors related to isolated transactions and sales of real property. If several of these factors are present in a property transaction, it may be an indication that a business or an adventure or concern in the nature of trade is being carried on. These factors are as follow:

•         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 subdivision costs was claimed as a business expense;

•         there is a level of development on the land beyond that necessary to secure council approval for the subdivision; and

•         buildings have been erected on the land.

In determining whether activities relating to isolated transactions are an enterprise or are the mere realisation of a capital asset it is necessary to examine the factors and circumstances of each particular case. This may require a consideration of the factors outlined above; however, there may also be other relevant factors that need to be weighted up as a part of the process of reaching an overall conclusion. No single factor will be determinative rather it will be combination of factors that will lead to a conclusion as to the character of the activities. (para 263 of MT 2006/1)

There was a change of purpose for which the land was originally held and the land is to be subdivided. However, as none of the other factors are present in the sale of the subdivided lots, we consider that this isolated land transaction will not be a business, or adventure or concern in the nature of trade.

Conclusion

In your circumstances, you are not carrying on an enterprise as your activities do not have a commercial purpose and are not done in a business-like manner. You are not required to be registered for GST in relation to the sale of the subdivided property.

2.    Margin Scheme

Since you are not carrying on an enterprise and you are not required to be registered for GST in relation to the subdivided property, the sale of the subdivided property will not be a taxable supply. In addition, the margin scheme can't be applied to a supply which is not a taxable supply (sub-paragraph 75-5(1)(a) of the GST Act).

3.   Income Tax

Carrying on a business

Subsection 995-1(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 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 the clients 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 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.

Profits as Ordinary Income

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, 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, 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.

Under section 6-5 of the ITAA 1997, the clients' assessable income includes the ordinary income they derived directly or indirectly from all sources, during the income year.

Isolated transactions as Income

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. This ruling states that profits on isolated transactions may be income.

Profit from an isolated transaction will 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.

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

Profits on the sale of subdivided land can therefore be income according to ordinary concepts within section 6-5 of the ITAA 1997 if the taxpayer's subdivisional activities have become a separate business operation or commercial transaction, or an isolated profit-making venture.

Taxation Ruling TR 92/3 paragraphs 56 and 57 explain that a profit is income where it is made in any of the following situations:

•         a taxpayer acquires property with a purpose of making a profit by whichever means prove most suitable and a profit is later obtained by any means which implements the initial profit-making purpose; or

•         a taxpayer acquires property contemplating a number of different methods of making a profit and uses one of those methods in making a profit; or

•         a taxpayer enters into a transaction or operation with a purpose of making a profit by one particular means but actually obtains the profit by a different means.

Generally, a transaction or operation has the character of a business operation or commercial transaction if the transaction or operation would constitute the carrying on of a business except that it does not occur as part of repetitious or recurring transactions or operations.

Capital gains 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. Alternatively you will make a capital loss if those capital proceeds are less than the reduced cost base of the block.

Application to the clients' situation

TR 92/3 states that 'mere realisation' is used to contradistinguish a business operation or a commercial transaction carrying out a profit-making scheme. That is, mere realisation will occur when profits are derived that are not part of a business operation or a commercial transaction carrying out a profit making scheme. Mere realisation of property will occur when a gain is made on the sale of property merely by realising its enhanced value, where it is not carried on as part of a business operation or profit making venture. Any profit released is not ordinary income and instead will be a gain on capital.

In this case the following facts have been considered:

•         You have owned the property for XX years; it was used as a holiday house for XX years and as a rental property for XX years.

•         The intention or purpose in entering into the transaction was to use it as a holiday house and to live there permanently on retirement.

•         You have stated in your application, that you want to fund your retirement by selling the subdivided blocks and at the same time retain the original house, which you cannot afford to do if you retain the property in its entirety. The subdivision of the land does not have a significant commercial purpose other than to fund your retirement.

•         The works carried out in subdivision of the property (consulted and engaged a surveyor to subdivide the property and connected the lots to water, gas and electricity) were no more than what was necessary to secure the approval of the authorities and enhance the presentation of the individual lots for sale.

•         You have not completed any land developments projects in the past nor are you planning to in the future. You did not have the relevant knowledge or skill in relation to land development projects.

•         The size of the activity is small and lacks the character of a property development business.

•         There is no indication you engage in business of developing land.

•         There is no regularity and repetition of the activity.

•         There is no indication that the activity is planned, organised and carried on in a businesslike manner such that it is described as making a profit.

Taking all of the facts into consideration and weighing the various factors as per TR 97/11, you are not considered to be carrying on a business of property development, or alternatively, to have entered into a profit-making scheme or undertaking as it is established that your intention in purchasing the property was to live there permanently on retirement or to use it as a holiday house and the purpose of subdividing the land was to fund your retirement. Therefore the sale of subdivided blocks will be treated as a mere realisation of an asset subject to capital gains tax (CGT) and not ordinary income.

Conclusion

In this case the sale of subdivided blocks will be treated as a mere realisation of an asset subject to capital gains tax (CGT) under Parts 3-1 and 3-3 of the ITAA 1997. The clients are not carrying on a business therefore the profit from the mere realisation of property as a capital asset does not give rise to income according to ordinary concepts under section 6-5 of the ITAA 1997.