Edited version of private advice

Authorisation Number: 1052187886146

Date of advice: 1 November 2023

Ruling

Subject: CGT - property development

Question 1

Will the sale of the property be considered the mere realisation of a capital asset and therefore eligible for the general discount in Division 115 of the Income Tax Assessment Act 1997 (ITAA 1997)?

Answer

Yes.

Question 2

Are the costs of obtaining a structure plan deductible under section 8-1 of the ITAA 1997?

Answer

No.

This private ruling applies for the following period:

Year ending30 June 2024

Year ending30 June 2025

The scheme commenced on:

1 July 2023

Relevant facts and circumstances

The trust is a discretionary family trust. The trust was established in the 20XX-XX financial year for the purposes of acquiring properties for long term investment. The trustee is an individual. The trustee has no experience in land development.

The trust is not registered for GST. The trust is not required to be registered for GST.

In the 20XX-XX financial year the trust purchased a residential property. The property comprises of a house on less than Xm2 of land.

The selling agent at the time of purchased advised that the land had potential for various uses.

The trustee's interest in the property arose given the potential for strong capital growth and the existing rental income assisted to support the required bank loan.

The property is close to the trustee's principle residence allowing them to keep an eye on the property.

In the 2017-18 financial year the trust received an unsolicited offer (offer 1) from a real estate agent acting on behalf of a property developer to purchase the property. Being a substantial offer, the trustee accepted it.

The offer included a special provision to allow the developer to conduct due diligence in relation to the property. As a result of its investigations, the developer determined that substantial pre-development time, work and costs were required to establish a structure plan before a development application could be made.

The developer subsequently withdrew their offer for the property.

In the 2020-21 financial year the trust received another unsolicited offer from another property developer to purchase the property. Being a substantial offer, the trustee accepted it.

The second offer included a special provision to allow the developer to conduct due diligence in relation to the property. As a result of its investigations, the second developer also determined that the substantial pre-development costs were required to establish a structure plan over the property before a development application could be made.

The second developer subsequently withdrew their offer for the property.

The preparation of a local structure plan would need to be supported by various specialist sub consultants. The structure plan exercise approximately 12-18 months from start to finish. The approximate cost would be $X.

The trust has never listed the property for sale.

The trust will not submit a development application or complete any construction or works on the property prior to selling.

Relevant legislative provisions

Income Tax Assessment Act 1997 section 6-5

Income Tax Assessment Act 1997 section 6-10

Income Tax Assessment Act 1997 section 8-1

Income Tax Assessment Act 1997 Part 3-1

Income Tax Assessment Act 1997 Part 3-3

Income Tax Assessment Act 1997 subsection 110-25(1)

Reasons for decision

Question 1

Taxation Ruling TR 92/3 Income tax: whether profits on isolated transactions are income (TR 92/3) discusses the application of the principles outlined in the Myer Emporium case and provides guidance in determining whether profits from isolated transactions are ordinary income, and therefore assessable under section 6-5 of the ITAA 1997. Paragraph 16 of TR 92/3 provides:

16. If a taxpayer not carrying on a business makes a profit, that profit is income if:

(a) The intention or purpose of the taxpayer in entering into the profit-making transaction or operation was to make a profit or gain: and

(b) The transaction or operation was entered into, and the profit was made, in carrying out a business operation or commercial transaction.

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. It is also not necessary that the intention or purpose of profit-making be the sole or dominant intention or purpose for entering into the transaction. It is sufficient if profit-making is a significant purpose.

Whether a particular transaction has a business or commercial character depends on the circumstances of the case. Paragraph 13 of the ruling outlines the following factors which may be relevant when considering whether an isolated 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.

Paragraph 36 of TR 92/3 notes that the courts have often said that a profit on the mere realisation of an investment is not income, even if the taxpayer goes about the realisation in an enterprising way. However, if a transaction satisfies the elements set out above it is generally not a mere realisation of an investment.

The expression 'mere realisation' is used to distinguish a gain made on an asset compared to income or gains derived from a business operation or an isolated transaction carrying out a profit-making scheme. Classifying an asset as a 'mere realisation' depends on the facts and circumstances of each case. The proceeds from the sale of a mere realisation of capital assets will be assessed under the capital gains tax provisions contained in Parts 3-1 and 3-3 of the ITAA 1997.

Capital gains tax (CGT) discount

Under Division 115 of the ITAA 1997, when a trust sells or otherwise disposes of an asset, it can reduce the capital gain by 50% if the Australia trust owned the asset for at least 12 months.

Application to your circumstances

In this case we do not consider the proceeds from the disposal of the properties will be assessable under 6-5 of the ITAA 1997. The factors set out above are not present when we consider the original intention and the use of the property to derive rental income since acquisition. We accept that the proposed sale will be a mere realisation and therefore the proceeds from any sale will be assessed under the CGT provisions.

Given the trustee acquired the asset in the 2015-16 financial year it has been held for more than 12 months and therefore the trust is eligible for the 50% CGT discount.

Question 2

Section 8-1 of the ITAA 1997 allows a deduction for all losses and outgoings to the extent to which they are incurred in gaining or producing income except where the outgoings are of a capital, private or domestic nature. If a cost is capital, and not deductible, it may form part of the cost base of a CGT asset.

In accordance with subsection 110-25(1) of the ITAA 1997, the cost base of a CGT asset is generally what it cost you to buy it, plus other costs you incur to hold and dispose of it. To work out the cost base of a CGT asset yourself, add these 5 elements:

1. Money paid or property given for the CGT asset
2. Incidental costs of acquiring the CGT asset or that relate to the CGT event
3. Costs of owning the CGT asset
4. Capital costs to increase or preserve the value of your asset or to install or move it
5. Capital costs of preserving or defending your title or rights to your CGT asset

The four element, capital costs to increase or preserve the value of your asset or to install or move it includes capital costs you incurred:

•         For the purpose of increasing or preserving the assets value - for example, the costs of applying (successfully or unsuccessfully) for zoning changes

Application to your circumstances

In this case, we do not consider the costs incurred to apply for structure approval to be incurred in gaining or producing the trust's assessable income. Therefore, these costs are not deductible under section 8-1 of the ITAA 1997. Instead, we consider the costs are akin to applying for zoning changes. These costs are incurred to increase the assets value and therefore will be included in the cost base.