Edited version of private advice

Authorisation Number: 1052085440375

Date of advice: 8 February 2023

Ruling

Subject: Property development

Question 1

Were the sales of XXXXXXXXX State of AA (Property A) and XXXXXXX State of AA (Property B) a taxable supply under section 9-5 of the A New Tax System (Goods and Services Tax) Act 1999 (GST Act)?

Answer

Yes, the sales of Property A and B are taxable supplies under section 9-5 of the GST Act.

Question 2

Will the profit from the sale of property A be assessable income under section 6-5 of the Income Tax Assessment Act 1997 (ITAA 1997)?

Answer

Yes.

Question 3

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

Answer

Yes.

This ruling applies for the following period:

Year ended 30 June 20XX

The scheme commenced on:

1 July 20XX

Relevant facts and circumstances

You acquired a property on dual title in joint ownership.

You and your family did not move into the property when first practical to do so after settlement.

After settlement you initiated the separation of titles into 2 portions (lots A and B). A form was completed to separate the titles by you. Subdivision of the lots was not required, and the land did not need to be rezoned.

The demolition of the dwelling that existed on the Property commenced shortly after settlement.

On lot A you built a new dwelling (Property A) which you intended to move in with your family to make this your main residence.

On lot B you built a new dwelling (Property B) for investment purposes and intended to receive rental income.

The loans were structured on the following basis:

• Property A loan was structured as 'owner occupied' with principal and interest repayments
• Property B loan was structured as investment.

Shortly after the demolition of dwelling you attended a school open day and after the school tour one of your children decided to complete an enrolment application. This school is a prestigious school and when your child was accepted you decided to stay at your current home (not Property A or B), as the school is nearby.

Since national restrictions due to the COVID-19 pandemic were announced, there were growing concerns with the lower rental return and increased rental vacancy. There were news and reports about uncertainty in the property market and you believed that the prospect of receiving a reasonable rental for the Property B was slim. As such, you decided to put both properties A and B on the market to minimise the risk exposure with the struggling property market. You wanted to exit from these properties as the future development of COVID-19 and its impact on the property market were unknown.

Due to work travel requirements, proximity to the airport was another key driver behind the purchase decision. The COVID-19 pandemic has completely changed the nature of that work with travel becoming much less frequent and shorter. Therefore, the value of being close to the airport has changed completely.

During the development process you changed your electoral address to Property A, with the full intention of moving into Property A as your main residence.

Shortly after construction was completed, both Property A and Property B were sold.

You and your family did not move into Property A once construction was completed.

Property B was never made available for rent and did not receive rental income.

You have no prior experience in the construction and property development industry.

You do not work in a role that is related to property development activities.

You are not registered for an ABN or GST, as you never intended to sell the properties.

This was a one-off project and you have stated you will not undertake subdivision activities or any business land development in the future.

When you originally acquired the property and upon disposal of the two newly created dwellings on Property A and B, the margin scheme was not applicable.

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 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 Division 11

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

A New Tax System (Goods and Services Tax) Act 1999 section 40-65

A New Tax System (Goods and Services Tax) Act 1999 section 40-75

A New Tax System (Goods and Services Tax) Act 1999 section 75-5

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

Income Tax Assessment Act 1997 section 6-5

Income Tax Assessment Act 1997 section 15-15

Income Tax Assessment Act 1997 section 70-10

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

Reasons for decision

Question 1

Section 9-40 provides that you are liable for GST on any taxable supplies that you make.

Section 9-5 provides you make a taxable supply if:

(a)  you make the supply for consideration; and

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

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

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

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

When you sold the properties, it was for consideration. The sales were connected with the indirect tax zone as the properties were located in Australia. The requirements in paragraphs 9-5(a) and 9-5(c) of the GST Act were satisfied.

We will now need to consider whether the sale was made in the course or furtherance of an enterprise that you carry on (section 9-5(b) of the GST Act). If yes, then we will need to consider if you will be required to register for GST under section 9-5(d) of the GST Act when making the sales.

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;
• in the form of an adventure or concern in the nature of trade;

Section 9-20(2)(c) provides that an enterprise does not include an activity or series of activities by an individual with no expectation of profit or gain.

Section 195-1 states that the phrase 'carrying on' in the context of an enterprise includes 'doing anything in the course of the commencement or termination of the enterprise'.

The Commissioner, 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) provides advice on the meaning of the term 'enterprise' for GST purposes.

Goods and Services Tax Determination GSTD 2006/6 Goods and Services Tax: 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, confirms that the principles in MT 2006/1 apply equally to the term enterprise for GST purposes.

According to MT 2006/1, a business generally includes a trade that is engaged in on a regular or continuous basis, while an adventure or concern in the nature of trade includes a commercial activity that does not amount to a business, but which has the characteristics of a business deal.

The use of the words 'in the form of' before 'business' or 'an adventure or concern in the nature of trade' has the effect of extending the meaning of 'enterprise' beyond entities carrying on a business or an adventure or concern in the nature of trade. Despite this, the focus is on determining the factors indicating a business.

Paragraph 178 of MT 2006/1 with reference to Taxation Ruling TR 97/11 Income tax: am I carrying on a business of primary production? (TR 97/11), provides the main indicators of carrying on a business. These indicators include:

• a significant commercial activity;
• the purpose and intention of the taxpayer in engaging in the activity;
• an intention to make a profit from the activity;
• the activity is or will be profitable;
• repetition and regularity of activity; and
• the activity is organised and carried on in a businesslike manner.

Paragraph 179 of MT 2006/1 states that there is no single test to determine whether a business is being carried on. 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.

Given the facts of this case, we consider that the sale of the properties by you does not display the characteristics of a "business" as listed above.

As the transaction may be described as one-off, we also need to consider the extended definition of 'enterprise' and whether these activities are in the form of an adventure or concern in the nature of trade. MT 2006/1 provides guidance on the meaning of this expression.

An 'adventure or concern in the nature of trade' refers to transactions that have a commercial nature which are entered into for a profit-making purpose.

These factors in turn are derived from common law authorities spanning a number of jurisdictions but importantly approved by the High Court of Australia in matters including FCT v Whitfords Beach Pty Ltd (1968) 120 CLR 191 (Whitfords Beach), Federal Commissioner of Taxation v Williams (1972) 127 CLR 226, and Casimaty v FCT 97 ATC 5135 (Casimaty). A leading case considering isolated transactions is FC of T v The Myer Emporium Ltd (1987) 163 CLR 199 (Myer).

The principles in this case, amongst others, were selected and followed in Taxation Ruling TR 92/3 Income tax: whether profits on isolated transactions are income (TR 92/3).

TR 92/3 lists some factors in considering whether a transaction is a business or commercial transaction as set out below:

(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.

These cases indicate that the question of whether a business is being carried on is a question of a fact and the conclusion generally depends on weighing up all the relevant factors set out above.

You had acquired two lots and the existing dwelling on it, which was demolished.

You have owned the properties for a short time.

Your intention at the time of the construction was to move in with your family to make Property A as your main residence.

You also built a new dwelling (Property B) for investment purposes and intended to receive rental income.

You have not previously undertaken a development or sale of this nature.

This indicates that initially you did not have the intention to acquire and sell at a profit. Holding an asset for private use is not normally within the realm of an enterprise.

Your circumstances changed due to the enrolment of your child at school and the impact of covid.

This change is also not indicative of a profit motive per se. We consider that in terms of assessing the scale of your purchase, demolition and construction of Property A and B and the sale activities, if viewed in isolation, would not indicate that your activities were in the form of a business. You only constructed on two lots, not a large scale construction on multiple lots.

On this basis, there is no repetition and it is a small scale. Being small scale, as a factor viewed alone, does not prevent the activity or series of activities from being an enterprise.

In Whitford's Beach, a change in intention was found when the company changed its articles to become profit focussed. Early on, when you bought the property, there is no evidence of any commercial intention on your part. However, intentions can change.

In the recent matter of Ian Mark Collins & Mieneke Mianno Collins ATF The Collins Retirement Fund and Commissioner of Taxation (Taxation) [2022] AATA 628 (Collins), the argument was made that the property was the mere realisation of a capital asset and, as a result, should be excluded from the turnover threshold for GST registration under section 188-25(a). Senior member Olding found at paragraph 24 that the assessment of intention is far more significant at the point of sale rather than at acquisition for the purposes of making an assessment under that provision.

In your case, you changed your intention to reside in Property A and provide Property B for rental and your intention changed when the construction of the properties were completed to sell at a profit, considering you did not occupy or rent both properties.

You contend that you have no prior experience in the construction and property development industry. As a result, you do not have the expertise to construct property enterprise or act in the form of a business.

The fact you did not do the work yourself is not necessarily indicative that you were not acting in a business-like manner. As local council requirements are becoming more complex and potentially more costly, the decision to employ consultants is the hallmark of business deals in more recent times. In Collins, the Administrative Appeals Tribunal (AAT) made this point at paragraph 63:

That the applicant, with no professional experience in land development, should engage others to carry out works and market the subdivided lots is scarcely surprising. The engagement of contractors to provide advice and carry out engineering and construction works and real estate agents to market land is, I would have thought, a hallmark of modern subdivision projects. While that may mean Mr Collins was relatively passive in respect of these activities, I do not accept that this weighs heavily in the applicant's favour in the context of a development of this nature which involved the undertaking of extensive skilled work.

A factor adding weight to the business-like manner of the arrangement is the fact that you did not sell the lots as vacant land but instead had Property A and B constructed and then sold. As you have taken this further step, it suggests the aim was the maximising of profit.

Paragraph 237 of MT 2006/1 states:

237. The term 'profit making undertaking or scheme' like the term 'an adventure or concern in the nature of trade' concerns transactions of a commercial nature which are entered into for profit-making, but are not part of the activities of an on-going business. Both terms require the features of a business deal, See McClelland v Federal Commissioner of Taxation, in which Lord Donovan, delivering the opinion of the majority said:

It seems to their Lordships that an 'undertaking or scheme' to produce this result must - at any rate where the transaction is one of acquisition and resale - exhibit features which give it the character of a business deal. It is true that the word 'business' does not appear in the section; but given the premise that the profit produced has to be income in its character their Lordships think the notion of business is implicit in the words 'undertaking or scheme'.

Paragraph 6 in TR 92/3 provides that whether a profit from an isolated transaction is income depends very much on the circumstances of the case.

Considering these factors, you are individuals and, as discussed above, the activities are not on a major scale. The arrangement is more complex than a mere demolition and it was carried out in a manner expected of any business-like endeavour of the demolition and construction of Property A and B. The nature of the properties transformed from a personal place to live in, into what effectively became an investment property and anticipated personal asset.

MT 2006/1 also discusses isolated transactions and sales of real property, and, at paragraph 265, it presents a list of factors which, if present, may be an indication that a business or an adventure or concern in the nature of trade is being carried on. Those factors are:

• 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; and
• buildings have been erected on the land.

Again, these factors must be considered as a whole to assess the isolated nature of the activities to determine whether they may be business-like.

The facts indicate that you have changed your use of the property as you bought the property for personal reasons but subsequently constructed two new properties on it and sold both.

You do not operate as a property developer in such a way that you have an office or a letterhead.

Given that demolitions and constructions are becoming increasingly complex, there is less weight given to the fact you do not have traditional badges of trade.

You have not, to date, treated expenditures as business expenses but you have kept apprised of the costs incurred in relation to the Property A and B.

Additionally, you have built two properties on the land which, as stated above, is of significance then sold the properties for $X and $X respectively. In addition, it has costed you approximately $X (incl. GST) for the demolition and construction for Property A and B.

On this basis, it is considered that there is a reasonable expectation of a profit or gain and, as a result, the exception in section 9-20(2)(c) does not apply and we consider that you are carrying on an enterprise of selling new residential premises.

'Residential premises' is defined in the GST Act as land or a building that:

• is occupied as a residence or for residential accommodation, or
• is intended to be occupied, and is capable of being occupied, as a residence or for residential accommodation.

A sale of residential property is input taxed in accordance with section 40-65 of the GST Act but:

1.    ...only to the extent that the property is residential premises to be used predominantly for residential accommodation (regardless of the term of occupation).

2.    However, the sale is not input taxed to the extent that the residential premises are:

(a) commercial residential premises; or

(b) new residential premises other than those used for residential accommodation (regardless of the term of occupation) before 2 December 1998

In accordance with section 40-75 of the GST Act residential premises are new residential premises if they:

a)    have not previously been sold as 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.

Paragraphs (b) and (c) have effect subject to paragraph (a).

Property A and B were built as new residential premises and they replaced the demolished property.

You built the properties with the intention of using one as a long term rental property and the other to live in. However, the change in intention suggests that the sale of the properties at a profit was at least a 'not insignificant' possibility when you acquired the property.

Since both Property A and B were new residential properties and have been built to replace the demolished property, it satisfies the requirements in section 40-65 and 40-75 of the GST Act and would not be input taxed supplies.

You incurred the costs for the development for both property A and B, spending more than $X and you sold each of the properties more than $X.

The character of the sale of the properties was of a commercial venture for the purpose of gaining a profit on the sale. Accordingly, paragraph 9-5(b) of the GST Act is satisfied. As such you are carrying on an enterprise for the purposes of GST in relation to the sale of this property.

Section 23-5 of the GST Act provides that you are required to be registered for GST if you carry on an enterprise and your GST turnover meets the registration turnover threshold (currently $75,000).

Subsection 188-10(1) of the GST Act provides that you have a GST turnover that meets the registration turnover threshold if:

• your current GST turnover is at or above the registration turnover threshold, and the Commissioner is not satisfied that your projected GST turnover is below the registration turnover threshold, or
• your projected GST turnover is at or above the registration turnover threshold.

In calculating your GST turnover under Division 188 of the GST Act certain supplies are excluded. Section 188-25 provides that when calculating your projected GST turnover, you do not include any supplies made, or likely to be made by you:

• by way of transfer of ownership of a capital asset, or
• solely as a consequence of ceasing an enterprise or substantially and permanently reducing the size or scale of your enterprise.

Goods and Services Tax Ruling GSTR 2001/7 explains the meaning of GST turnover and the effect of section 188-25 of the GST Act on the calculation of projected GST turnover. GSTR 2001/7 is available on our website at www.ato.gov.au

As the sale of the new residential premises are considered as taxable supplies and not the sale of a capital asset and the activity of selling the properties would constitute an enterprise for GST purposes. The requirements in section 23-5 of the GST Act are met.

As you are not currently registered for GST, you are required to be registered for GST and pay GST on the sale of both properties in accordance with section 9-40 of the GST Act.

Claiming Input tax credits

As you were required to be registered for GST, you are also entitled to the input tax credits on the construction costs and sale costs of Property A and B in accordance with Division 11 of the GST Act provided you hold tax invoices for those acquisitions.

Margin Scheme

Subsection 75-5(1) of the GST Act, the margin scheme may only apply in working out the amount of GST on a taxable supply of real property if the supplier and recipient of the supply have agreed in writing that the margin scheme is to apply to the supply.

The agreement must be made on or before the making of the supply, or within such further period as the Commissioner allows.

Under subsection 75-5(1A) of the GST Act, the Commissioner has the discretion to allow a further period of time, after the making of the supply, for the supplier and recipients of the supply to make the agreement in writing.

The Law Administration Practice Statement PS LA 2005/15 The Commissioner's discretion to extend the time in which the agreement in writing must be made to apply the margin scheme under Division 75 of the A New Tax System (Goods and Services Tax) Act 1999 sets out the circumstances in which the Commissioner may exercise his discretion under subsection 75-5(1A) of the GST Act. The discretion may be exercised where the Commissioner is satisfied that:

• all the requirements to apply the margin scheme, other than the requirement for the agreement in writing, are met; and
• there is no arrangement that has the effect of producing an outcome contrary to the policy of the legislation.

Other than satisfying the requirement of the written agreement, to apply the margin scheme, you must be making a taxable supply by:

• selling a freehold interest in land;
• selling a stratum unit; or
• supplying a long-term lease.

However, you will not be able to use the margin scheme if you are selling real property that you:

• acquired through a taxable sale on which the margin scheme was not used;
• inherited from a person who would not have been able to use the margin scheme;
• acquired from a member of the same GST group who would not have been able to use the margin scheme; or
• as a participant in a GST joint venture, acquired from the joint venture operator who would not have been able to use the margin scheme.

There should not be any evidence to suggest that any arrangement exists that would have the effect of producing an outcome contrary to the policy of the legislation.

Questions 2 and 3

Broadly, there are three main ways profits from a land development and sale can be treated for income tax purposes:

1. As ordinary income under section 6-5 of the Income Tax Assessment Act 1997 (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.

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 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 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 transactions

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

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).

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.

Application to your circumstances

The factors to consider when determining if a business is being carried for income tax purposes are similar to those considered for GST purposes. Therefore, as discussed previously with regards to GST, an analysis of the factors points towards that you have not been carrying on a business.

However, while you are not carrying on a business, the proceeds from the sale of the properties will be those from an isolated profit-making transaction. While we acknowledge that the Property was purchased with the intention of having a main residence and a rental property, there was a change in purpose for which the land is held. Based on the facts, the intended use of the property changed as the Property was purchased for personal reasons but subsequently both lots were sold without being used for the originally intended purpose. It can be concluded that the development and subsequent sale of the subdivided lots, occurred with the intention of profit from a commercial transaction.

Therefore, any profit/gain from the sale of the properties will constitute a profit from an isolated transaction and should be included as ordinary income under section 6-5 of the ITAA 1997.