1 Will GST be payable on the supply of subdivided vacant lots located at property addresses to an associated entity, under section 9-40 of the A New Tax System (Goods and Services Tax) Act 1999 (GST Act)?
No. Issue 2 Question 1 Will any part of the proceeds or profit made from the transfer of subdivided vacant lots to an associated entity constitute assessable income under section 6-5 of the Income Tax Assessment Act 1997 (ITAA 1997)? Answer No. Question 2 Will the gain from the transfer of subdivided vacant lots to an associated entity be treated as a mere realisation of a capital asset and subject to capital gains tax (CGT) as a CGT event A1 under section 104-10 of the ITAA 1997 and assessable as statutory income under section 102-5 of the ITAA 1997? Answer Yes. Question 3 Will Subdivision 122-A of the ITAA 1997 be applied to a capital gain if an associated entity acquires the subdivided vacant lots you disposed? Answer Yes. This ruling applies for the following periods : GST DDMMYYYY to DDMMYYYY Income tax DDMMYYYY to DDMMYYYY The scheme commenced on: GST DDMMYYYY Income tax DDMMYYYY
You, individual name, are occupation currently employed in the industry type. You are not currently registered for GST and have never been registered for GST. Purchase of the Land On DDMMYYYY, individual name (your relative who resides in state) as your agent, entered into a single contract with entity name, in their capacity as mortgagee in possession, for the purchase of a property comprising two adjacent vacant lots located property addresses for $amount (the Land). The Land was formally known as Lot number and number on Strata Plan number in Certificate Tittle Volume number Folio number and number. The contract for the purchase of the Land settled on date. You obtained a temporary loan of $amount secured against a term deposit to purchase the Land while the sale of your other investment asset settled; the proceeds from which were then used to fund the purchase of the Land.
You were attracted to and purchased the Land because of its high growth and high yielding location, within number km of the CBD. Additionally, its size and orientation would allow you to construct multiple dwellings with their own street frontage. When purchased, you intended to subdivide the Land into number lots and construct dwellings on each lot to lease out long term. You did not seek any professional, legal or tax advice prior to purchasing the Land in your name. Subdivision of the Land On DDMMYYYY you applied to the Council to subdivide the Land into number vacant lots. Council endorsed the plans on DDMMYYYY. In undertaking the land subdivision, you did not seek the services of a project manager but instead relied upon services providers such as the draftsman, surveyor, demolition services, civil engineer and settlement agent to complete their relevant tasks as required. You managed the subdivision activities and liaised with the aforementioned service providers. You provided a table outlining the works involved in the subdivision of the Land and subdivision costs which you funded personally.
Despite purchasing the Land for long term investment as detailed above, all proposed vacant lots were advertised for sale around MMYYYY when titles were expected to be issued. You considered potentially selling number lot to assist with the funding of the project as at the time of the land purchase interest rates were much lower and the ability to obtain finance for the construction of number dwellings was achievable. You advertised all number vacant lots for sale on the recommendation of your real estate agent as it would allow potential purchasers to purchase a lot that they preferred rather than limiting the potential pool of candidates. You ceased marketing the vacant lots for sale as of DDMMYYYY and to date you have not sold any of the vacant lots. On DDMMYYYY separate tittles were issued for the vacant lots - Lot numbers on Deposit Plan number with the following street addresses: property addresses (the vacant lots).
On DDMMYYYY you paid a deposit of $amount to a builder to prepare plans for the construction of number dwellings on the vacant lots. The builder conducted site feature surveys, plans, soil testing and were meant to provide you with a contract to build, however due to builder's change in business model they declined to proceed with the work and returned your deposit. On DDMMYYYY, you engaged building designers - entity name, to design dwellings for number of the number vacant lots. The plans were completed on DDMMYYYY and submitted to the local council by entity name on your behalf shortly thereafter. You paid $amount to entity name for their services. Whilst it is still your intention to construct a dwelling on the number vacant lot, you have opted to construct number dwellings to begin with to take advantage of planning regulation leniency in relation to street setbacks on properties that were originally a corner lot, which would not have been favoured by the council if all number vacant lots had been built on together. You intend to construct the other dwelling after the first number dwellings are completed and generating rental income as this will also assist with cashflow.
The local council approved the building application on DDMMYYYY. You will commence getting quotes from builders shortly. You expect construction to commence approximately number months after this private ruling has been issued, and for it to be completed within number months of commencement. You expect the construction of the 4 dwellings to cost in the vicinity of $amount to $amount. Upon completion of the construction of the dwellings, you expect to market the properties for rent. At this early stage you have not yet engaged a property manager, but you have conducted some research into the potential rental return of the properties via Domain.com.au, CoreLogic and Realestate.com.au. etc. Based on comparable properties you expect to lease each property for approximately $amount per week. You have maintained records of the subdivision/development activities. Transfer of assets to associated entity Since purchasing the Land in your name, you have read about different entity structures and how they can be used to increase borrowing capacity, estate planning and asset protection.
You registered a company entity name (ACN number) (the Company) with ASIC on DDMMYYYY for the purpose of holding and carrying on the leasing enterprise. You are the sole director and shareholder of this company. You intend to transfer ownership of the number subdivided vacant lots, prior to the commencement of the construction of the dwellings, to the Company at market value. You will engage an independent valuer to provide you a valuation amount. Other than receiving the market value on transfer of the vacant lots to the Company, you will not receive any other form of consideration. One of the reasons for moving the assets across to the Company is that it is a strategy commonly employed by individuals who are building a significant long-term holding investment as it allows you to increase your borrowing capacity. This will also give you access to finance that has different lending requirements and criteria. The Company will fund its acquisition of the number vacant lots via a bank loan or via an equity transfer. You have not yet determined a particular bank account to be used for this transaction.
The construction of the dwellings on the vacant lots will be funded by the Company via a bank loan and loans from you as a director. Property ownership history You provided a list of your additional current and prior property ownership (solely, jointly and beneficially): You have previous subdivision/development experience as you subdivided and constructed a new residential premises on the subdivided lot of the property address. You leased the property located at property address which was subdivided from the property located at property address prior to selling it in MMYYYY. In addition to the subdivision of the property address, which is the subject of this private ruling, you are also currently subdividing and constructing a dwelling on the subdivided lot of your property address listed above. You lodged this private ruling application on property address. Section 26-102 [1] of the Income Tax Assessment Act 1997 was not a reason for applying for the private ruling. Assumptions You and the Company are Australian residents for the purpose of the ITAA 1997.
A New Tax System (Goods and Services) Tax Act 1999 section 9-5 A New Tax System (Goods and Services) Tax Act 1999 section 9-20 A New Tax System (Goods and Services) Tax Act 1999 section 9-40 A New Tax System (Goods and Services Tax) Act 1999 section 188-10 A New Tax System (Goods and Services Tax) Act 1999 section 188-15 A New Tax System (Goods and Services Tax) Act 1999 section 188-20 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 6-10 Income Tax Assessment Act 1997 section 102-5 Income Tax Assessment Act 1997 section 102-20 Income Tax Assessment Act 1997 section 104-10 Income Tax Assessment Act 1997 subsection 104-10(1) Inco
Issue 1 Question 1 Will GST be payable on the supply of subdivided vacant lots located at property addresses to an associated entity, under section 9-40 of the A New Tax System (Goods and Services Tax) Act 1999 (GST Act)? Summary No, GST will not be payable on the supply of the subdivided vacant lots located at property addresses, to your associate. Detailed reasoning In this ruling, • unless otherwise stated, all legislative references are to the A New Tax System (Goods and Services Tax) Act 1999 (GST Act) • all legislative terms of the GST Act marked with an asterisk are defined in section 195-1 of the GST Act. • all reference materials, published by the Australian Taxation Office (ATO), that are referred to are available on the ATO website ato.gov.au Section 9-40 provides that you are liable for GST on any taxable supplies that you make. You make a taxable supply where you satisfy the requirements of section 9-5 of the GST Act, which provides: You make a taxable supply if: a) the entity makes the supply for consideration b) the supply is made in the course or furtherance of an enterprise that the entity carries on
c) the supply is connected with the indirect tax zone, and d) the entity is registered, or required to be registered, for GST However, the supply is not a taxable supply to the extent that it is GST-free or input taxed. The circumstances in which a supply is GST-free or input taxed are found in Divisions 38 and 40 respectively. In your case, there are no provisions in the GST Act under which your supply of the vacant lots would be a GST-free or input taxed supply. In this case, the supply of the vacant lots to your associate will be for consideration (market value) and connected with the indirect tax zone as the vacant lots are located in Australia. It remains to be determined whether the supplies of the vacant lots will be in the course or furtherance of an enterprise you carry on (paragraph 9-5(b) of the GST Act), and whether you are required to be registered for GST (paragraph 9-5(d) of the GST Act). Supply in the course or furtherance of enterprise Section 9-20 relevantly defines enterprise to include an activity, or series of activities, done: a) In the form of a business
b) In the form of an adventure or concern in the nature of trade or c) On a regular or continuous basis, in the form of a lease, license or other grant of an interest in property 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'. This definition ensures that activities done in the course of the commencement or termination of an enterprise are included in determining whether the activities of the entity amount to an enterprise. Miscellaneous Taxation Ruling MT 2006/1 The New Tax System: the meaning of entity carrying on an enterprise for the purposes of entitlement to an Australian Business Number (MT 2006/1) provides guidelines on the meaning of carrying on an enterprise. Paragraph 1 of 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 guidelines in MT 2006/1 are considered to apply equally to the term 'enterprise' as used in the GST Act and can be relied upon for GST purposes. In the form of a business Paragraphs 177 to 179 of MT 2006/1 discuss the main indicators of carrying on a business, and state: Indicators of a business 177. To determine whether an activity, or series of activities, amounts to a business, the activity needs to be considered against the indicators of a business established by case law. 178. TR 97/11 discusses the main indicators of carrying on a business. 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. 179. 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'. TR 97/11 can be referred to for a fuller discussion on whether a particular activity constitutes the carrying on of a business. Given the facts of this case, we consider that the activities resulting in the subdivision and sale of the vacant lotsto your associate do not reflect the indicators of a 'business' as listed above. We now consider whether your activities will be in the form of an adventure or concern in the nature of trade (paragraph 9-20(1)(b)). In the form of an adventure or concern in the nature of trade
Paragraph 244 of MT 2006/1 explains that 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. Such transactions are of a revenue nature. However, 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. Paragraph 245 of MT 2006/1 refers to 'the badges of trade' which provides 'common sense guidance' in reaching a conclusion on whether a transaction has the characteristics of a business deal and whether an asset is held as a trading/revenue asset or a capital/investment asset for either investment or personal enjoyment. While an activity such as the selling of an asset may not of itself amount to an enterprise, account should be taken of the other activities leading up to the sale to determine if an enterprise is carried on. The Commissioner's view on the badges of trade in MT 2006/1 includes: The subject matter of realisation
247. This badge of trade considers the form and the quantity of property acquired. If the property provides either an income or personal enjoyment to the owner it is more likely to be an investment than a trading asset. The length of period of ownership 249. A trading asset is generally dealt with or traded within a short time after acquisition. ... The frequency or number of similar transactions 251. The greater the frequency of similar transactions the greater the likelihood of trade. Supplementary work on or in connection with the property realised 252. Improving property beyond preparing an asset for sale, to bring it into a more marketable condition and gain a better price suggests an element of trade. The circumstances that were responsible for the realisation 253. Trade involves operations of a commercial character. As assets can be sold for reasons other than trade, the circumstances behind the sale need to be considered. For example, a quick resale may have occurred as a result of sudden financial difficulties. Motive
254. If the activities on an objective assessment have the characteristics of trade, the person's 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. 255. Motive is also important in cases if there is a change in character of the asset. For example, a trading asset becoming an investment asset when the person decides to keep the asset, either for income producing purposes or personal enjoyment Paragraph 258 to 261 of MT 2006/1 further considers the character of an asset and distinguishes between trade/revenue assets and capital/investment assets as follows: Trade v. investment assets 258. United Kingdom cases categorise assets as either trading assets or investment assets. Assets purchased with the intention of holding them for a reasonable period of time, to be held as income producing assets or to be held for the pleasure or enjoyment of the person, are more likely not to be purchased for trading purposes.
259. Examples of investment assets are rental properties, business plant and machinery, the family home, family cars and other private assets. The mere disposal of investment assets does not amount to trade. 260. Assets can change their character but cannot have a dual character at the same time. 261. Investment assets such as business plant and machinery are used by entities in carrying on a business. The purchase and disposal of those types of assets is ordinarily considered not to be an adventure or concern in the nature of trade for UK income tax purposes. Paragraph 262 of MT 2006/1 acknowledges that the question of whether an entity is carrying on an enterprise often arises where there are 'one-offs' or isolated real property transactions. Paragraph 263 continues, stating that the issue to be decided is whether the activities being conducted 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 264 of MT 2006/1 discusses two seminal cases in this area:
Statham & Anor v Federal Commissioner of Taxation 89 ATC 4070 ( Statham) and Casimaty v FC of T 97 ATC 5135 (Casimaty) . Paragraph 265 of MT 2006/1 extracts the key elements of both cases and provides a list of factors that can be used to assist in determining whether isolated property transactions are an adventure or concern in the nature of trade or a mere realisation of a capital asset: 265. From the Statham and Casimaty cases a list of factors can be ascertained that provide assistance in determining whether activities are a business or an adventure or concern in the nature of trade (a profit-making undertaking or scheme being the Australian equivalent, see paragraphs 233 to 242 of this Ruling). If several of these factors are present 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 follows: • 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 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. In addition to the above, paragraphs 266 and 267 of MT 2006/1 provide that there may be other relevant factors outside this list that need to be weighed up in reaching an overall conclusion and that no individual factor is determinative to the question of whether an enterprise is present:
266. 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 facts 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 weighed up as part of the process of reaching an overall conclusion. 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. 267. No two cases are likely to be exactly the same. For instance, while the conclusions reached in the Statham and Casimaty cases were similar, different facts and factors were considered to reach the respective conclusions. Paragraphs 271 to 287 of MT 2006/1 set out examples of subdivisions that are enterprises whilst paragraphs 288 to 302 set out examples of subdivisions that are not enterprises.
In this case, the activities undertaken to subdivide the Land, are limited to those necessary to meet the minimum council requirements for the subdivision. You did not purchase additional land to add to the original parcels and you have not, nor do you intend to construct any buildings on the subdivided vacant lotsbefore selling it to your associate. You personally funded the subdivision costs and kept records of your expenditure to subdivide the Land. Whilst there appears to be a coherent plan for the subdivision of the Land, your personal involvement in the development was minimal and limited to engaging the services of draftsman, surveyor, civil engineer etc to facilitate and conduct all the subdivision works. We consider the purchase of the land and the steps you undertook to subdivide the land into number lots were done in the process of creating income producing assets - rental properties, which you intended to hold long term. Assets of this nature are considered to be capital assets - not trading assets, the mere disposal of which is not considered to be in the form of trade.
On balance, having considered the facts of the case against the badges of trade and other factors listed above, we consider the activities you have undertaken in subdividing the Land and the subsequent proposed sale of the number vacant lots to your associate, does not amount to an enterprise in the form of an adventure or concern in the nature of trade pursuant to paragraph 9-20(1)(b). We now consider whether your activities will be on a regular or continuous basis, in the form of a lease, license or other grant of an interest in property (paragraph 9-20(1)(c)). On a regular or continuous basis, in the form of a lease, license or other grant of an interest in property Paragraphs 303 to 322 of MT 2006/1 discuss activities done on a regular or continuous basis, in the form of a lease, licence or other grant of an interest in property. Goods and Services Tax Determination GSTD 2000/9 Goods and services tax: if you let out residential premises do you need to get an ABN for PAYG purposes or register for GST?
explains at paragraph 7 that the letting of a property is an activity in the nature of a lease, licence or other grant of an interest in property and that if it is done on a regular and continuous basis, the activity will meet the definition of enterprise. The leasing of a property (whether commercial or residential property) will fall within the scope of an 'enterprise' for GST purposes. This is the case regardless of the fact that proceeds generated from the rental of residential premises are not subject to GST. Relevantly, the activities associated with the commencement or termination of a leasing enterprise will also fall within the scope of an enterprise for GST purposes.
Over the years you have owned a number of investment residential premises which you have leased on a regular basis. You sold the investment property located at property address and used the proceeds to purchase the Land. You subdivided the Land into number vacant lots on which to construct new residential premises to lease long term. We consider those preliminary activities have been done in the continuation of your leasing enterprise or otherwise in the commencement of a new leasing enterprise. Consequently, we consider that you are carrying on enterprise of leasing residential premises as defined in section 9-20 of the GST Act. The sale of the number vacant lots to your associate will be made in the course of carrying on, reducing or otherwise terminating that leasing enterprise for GST purposes. You have consequently satisfied the requirement in paragraph 9-5(b) of the GST. As you are not registered for GST, it remains to be established whether you are required to be registered for GST in relation to the supply of the <number> vacant lots to your associate. GST registration
Section 23-5 of the GST Act provides that an entity is required to be registered for GST if it is carrying on an enterprise and its GST turnover meets the registration turnover threshold (currently $75,000 or $150,000 for non-profit bodies). As you are not a non-profit body, the registration turnover threshold that applies to you is $XX,000. GST turnover Subsection 188-10(1), when read together with paragraph 188-10(3)(b), provides that you have a GST turnover that meets the registration turnover threshold if: a) 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 b) your projected GST turnover is at or above the registration turnover threshold. As mentioned above, the registration turnover threshold that applies to you is $XX,000. 'Current GST turnover' is defined in subsection 188-15(1) as the sum of the values of all of your supplies made in a particular month and the preceding 11 months other than: a) supplies that are input taxed b) supplies that are not for consideration
c) supplies that are not made in connection with an enterprise that you carry on. 'Projected GST turnover' is defined in subsection 188-20(1) as the sum of the values of all of your supplies made in a particular month and the following 11 months other than: a) supplies that are input taxed b) supplies that are not for consideration c) supplies that are not made in connection with an enterprise that you carry on. Section 188-25 requires you to disregard the following when calculating your projected GST turnover: a) any supply made, or likely to be made, by you by way of transfer of ownership of a capital asset of yours; and b) any supply made, or likely to be made, by you solely as a consequence of: (i) ceasing to carry on an enterprise; or (ii) substantially and permanently reducing the size or scale of an enterprise. Goods and Services Tax Ruling GSTR 2001/7 Goods and services tax: meaning of GST turnover, including the effect of section 188-25 on projected GST turnover (GSTR 2001/7 ) explains the meaning of 'capital asset' in the context of section 188-25 in paragraphs 31 to 36:
Meaning of 'capital assets' 31. The GST Act does not define the term 'capital assets'. Generally, the term 'capital assets' refers to those assets that make up 'the profit yielding subject' of an enterprise. They are often referred to as 'structural assets' and may be described as 'the business entity, structure or organisation set up or established for the earning of profits'. 32. 'Capital assets' can include tangible assets such as your factory, shop or office, your land on which they stand, fixtures and fittings, plant, furniture, machinery and motor vehicles that are retained by you to produce income. 'Capital assets' can also include intangible assets, such as your goodwill. 33. Capital assets are 'radically different from assets which are turned over and bought and sold in the course of trading operations'. An asset which is acquired and used for resale in the course of carrying on an enterprise (for example, trading stock) is not a 'capital asset' for the purposes of paragraph 188-25(a). 34. 'Capital assets' are to be distinguished from 'revenue assets'. A 'revenue asset' is 'an asset whose realisation is inherent in, or incidental to, the carrying on of a business'.
35. If the means by which you derive income is through the disposal of an asset, the asset will be of a revenue nature rather than a capital asset even if such a disposal is an occasional or one-off transaction. Isolated transactions are discussed further at paragraphs 46 and 47. 36. Over the period that an asset is held by an entity, its character may change from capital to revenue or from revenue to capital. For the purposes of section 188-25 the character of an asset must be determined at the time of expected supply. Based on the facts of this case, we consider the proposed supply of the number vacant lots to your associate will constitute the transfer of capital assets, for the purposes of section 188-25 of the GST act. Consequently, the proceeds from the sale of the number vacant lots to your associate will be disregarded when calculating your projected GST turnover. Given the above, you will not meet the registration turnover threshold and paragraph 23-5(b) will not be met. Consequently, you are not required to be registered under section 23-5 and paragraph 9-5(d) will not be satisfied. Conclusion
The sale of the number vacant lots to your associate will not be a 'taxable supply' as defined in section 9-5, consequently, you will not be liable for GST in respect of the sale under section 9-40. Issue 2 Question 1 Will any part of the proceeds or profit made from the transfer of subdivided vacant lots to an associated entity constitute assessable income under section 6-5 of the Income Tax Assessment Act 1997 (ITAA 1997)? Summary You purchased the lot with the intention of subdividing the land into number vacant lots and building residential dwellings on each lot to lease out as long-term rental properties. You are intending to transfer the titles to your associated entity to increase your borrowing capacity, facilitate estate planning and provide estate protection. Consequently, the proceeds from transferring the titles to your associated company will not be considered assessable income under section 6-5 of the ITAA 1997. Detailed reasoning Income
Section 6-5 of the ITAA 1997 provides that the assessable income of an Australian resident includes all ordinary income derived directly or indirectly from all sources during an income year. Ordinary income is defined as income according to ordinary concepts. Ordinary income generally includes income that arises in the ordinary course of a taxpayer's business. However, in certain circumstances proceeds not within the ordinary course of the taxpayer's business may form part of their ordinary income. Section 6-10 of the ITAA 1997 states your assessable income also includes some amounts that are not ordinary income, which is assessable as statutory income. There are 3 ways the proceeds from a property development can be treated for taxation purposes: • Assessable ordinary income under section 6-5 of the ITAA 1997 as income from carrying on a business of property development. • Assessable ordinary income under section 6-5 of the ITAA 1997 as income from an isolated commercial transaction with a view to profit; or • A mere realisation of a capital asset, assessable under Parts 3-1 and 3-3 as statutory income. Carrying on a business Taxation Ruling 97/11
Income tax: am I carrying on a business of primary production? (TR 97/11) provides the Commissioners view on whether a taxpayer is carrying on a business. Although TR 97/11 deals with the issues in determining whether a taxpayer is carrying on a business of primary production, the same principles can be applied to the question of whether a taxpayer is carrying on any type of business including property subdivision and development. Paragraph 13 of TR 97/11 states that the following indicators are relevant in determining whether a taxpayer is carrying on a business: • whether the activity has a significant commercial purpose or character; • whether there is repetition and regularity of the activity; • whether the activity is of the same kind and carried on in a similar manner to that of the ordinary trade in that line of business; • whether the activity is planned, organised and carried on in a businesslike manner such that it is directed at 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 a sporting activity.
Whether a business is being carried on depends on the impression gained from looking at all the indicators against the case facts and whether these indicators provide the operations with a commercial flavour. Isolated Transactions Taxation Ruling 92/3 Income tax: whether profits on isolated transactions are income (TR 92/3) provides guidance in determining whether profits from isolated transactions are ordinary income and therefore assessable under section 6-5 of the ITAA 1997. Paragraph 6 of TR 92/3 states profit from an isolated transaction is generally income when both of the following elements are present: a) the intention or purpose of the taxpayer in entering into the transaction was to make a profit or gain; and b) the transaction was entered into, and the profit was made, in the course of carrying on a business or in carrying out a business operation or commercial transaction.
Paragraph 7 of TR 92/3 goes on to state 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. Paragraph 13 of TR 92/3 states some of the matters which may be relevant in considering whether an isolated transaction amounts to a business operation or commercial transaction: 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. If a transaction satisfies the elements set out above, it is generally not a mere realisation of an investment. Application to your situation In your case, you purchased the lots with the intention to subdivide the land into number vacant lots, build dwellings on each lot to lease out the residential properties long term. You were attracted to purchase the land because of its high growth and high yielding location. You did consider selling one of the lots to assist with the funding of the development for the other number residential properties. You cancelled the marketing for selling the lot on number, which has not been relisted. You intend to construct the number residential properties and you will construct the other residential property after you are generating income from the number residential properties which will assist with cash flow.
You stated that the reason for the proposed transfer of the titles to the Company is due to increase borrowing capacity, estate planning and estate protection that a company structure provides. Your transfer of titles to the Company is not considered to be being carried out in a manner similar to other property development business. It does not have a commercial purpose or character. Your activities do not have the indicators of carrying on a business or isolated commercial transaction. Therefore, the proceeds from the transfer of the titles to the Company will not be considered ordinary income under section 6-5 of the ITAA 1997. Question 2 Will the gain from the transfer of subdivided vacant lots to an associated entity be treated as a mere realisation of a capital asset and subject to capital gains tax (CGT) as a CGT event A1 under section 104-10 of the ITAA 1997 and assessable as statutory income under section 102-5 of the ITAA 1997? Summary
As explained in question 1, the transfer of titles to the Company does not have the indicators of carrying on a business or isolated commercial transaction. Therefore, it is viewed as a mere realisation of a capital asset and assessable as statutory income under section 102-5 of the ITAA 1997. When you transfer the titles to the Company, CGT event A1 will happen and assessable under section 102-5 of the ITAA 1997. Detailed reasoning Section 102-20 of the ITAA 1997 advises that you make a capital gain or loss if and only if a capital gains tax (CGT) event happens to a CGT asset that you own. A capital gain or capital loss may arise if a CGT event happens to a capital gains tax asset. A CGT asset is any kind of property, or a legal or equitable right that is not property (section 108-5 of the ITAA 1997) Subsection 104-10(1) of the ITAA 1997 provides that, CGT event A1 happens if you dispose of a CGT asset. Under subsection 104-10(2) of the ITAA 1997, you dispose of a CGT asset when a change of ownership occurs from you to another entity.
The market value substitution rules take effect if you do not deal at arm's length with another entity in connection with the event. This also applies when you have not received any capital proceeds from the CGT event. The market substitution rule, broadly, is when the capital proceeds are replaced with the market value of the asset (sub-section 116-10(2) of the ITAA 1997). The time of the event is when you enter into the contract for the disposal, or, if there is no contract, when the change occurs (subsection 104-10(3) of the ITAA 1997). Application in these circumstances In your case, when the titles are transferred by you to the Company, an associated entity, CGT event A1 will happen. You will be taken to have received the market value for the property on the date you transfer the titles to the Company, an associated entity. The Company will be taken to have paid the market value to you. Question 3 Will Subdivision 122-A of the ITAA 1997 be applied to a capital gain if an associated entity acquires the subdivided vacant lots you disposed? Summary
If you transfer the titles to the Company has described, you will be able to choose the rollover in Subdivision 122-A of the ITAA 1997. Under subdivision 122-40(1) of the ITAA 1997 any capital gain or loss from the disposal of the property titles to the company will be disregarded. Detailed reasoning Section 122-15 of the ITAA 1997 provides that an individual can choose to obtain a roll-over if a specified CGT event (including CGT event A1) occurs involving the individual and a company in the circumstances set out in sections 122-20 to 122-35. It should be noted that section 122-35 relates to the discharge of a liability and is not relevant to the current scheme. Where there is a disposal of a CGT asset, or all the assets of a business, to a company by an individual (event A1), subsection 122-20(1) of the ITAA 1997 requires that the consideration received by the individual for the CGT event must only be shares in the company, or shares in the company and the company undertaking to discharge liabilities in respect of the asset or assets.
The shares received by the individual cannot be redeemable (subsection 122-20(2)), and the market value of the shares received from the disposal of the CGT asset must be substantially the same as the market value of the CGT asset disposed of (subsection 122-20(3)). Section 122-25 also requires: • the individual must own all the shares in the company just after the disposal of the CGT asset (subsection 122-25(1)), • the CGT asset disposed of cannot be an excluded CGT asset under subsections 122-25(2) to (4) - such as collectables, personal use assets, bravery or valour awards, trading stock, registered emissions units, rights, options, convertible interests or exchange interests, • the company must not be an exempt entity (subsection 122-25(5)), and • relevantly, the individual and the company must both be Australian residents at the time of the disposal of the CGT asset (subsection 122-25(6)). Application in these circumstances Under the proposed scheme, you will transfer the titles in the properties to the Company, an associated entity and you will own 100% of the shares of the Company immediately after the transfer.
The property titles are CGT assets for the purposes of section 108-5 of the ITAA 1997, and the transfer of the titles to the Company will be a disposal of a CGT asset (CGT event A1) for the purposes of section 104-10 of the ITAA 1997. You will receive the market value from the Company. The market value of the titles will be determined by an independent valuer. The company will fund its acquisition of the number vacant lots via a bank loan or via an equity transfer. The market value of the shares will substantially be the same as you will engage an independent valuer to value the land and the transfer will be at market value. As such, the roll-over in Subdivision 122-A will be available to you provided that the other requirements for the roll-over are satisfied. The Company is not an exempt entity, and the property titles are not excluded CGT assets for the purposes of subsections 122-25(2) to (4) of the ITAA 1997. Following the transfer of the titles, you will be sole shareholder in the Company. The Company and you are Australian residents. Conclusion
If you transfer the titles to the Company has described, you will be able to choose the rollover in Subdivision 122-A of the ITAA 1997. Under subdivision 122-40(1) of the ITAA 1997 any capital gain or loss from the disposal of the property titles to the company will be disregarded. > [1] Briefly the provision contained in section 26-102 of ITAA 97 allows the claiming of expenses incurred when holding vacant land only to the extent the land is used or available for use in carrying on a business.