1 Will the proceeds from the transfer of Lot 1 by Taxpayer A to the Company be assessable as a mere realisation of a capital asset and subject to the capital gains tax (CGT) provisions under Part 3-1 of the Income Tax Assessment Act 1997 (ITAA 1997)?
1 Yes Question 2 Will the proceeds from the proposed transfer of Lot 2 by Taxpayer A to a third party be assessable as a mere realisation of a capital asset and subject to the CGT provisions under Part 3-1 of the ITAA 1997? Answer 2 Yes Issue 2 - GST Question 1 Will Taxpayer A be making a taxable supply under section 9-5 of the A New Tax System (Goods and Services Tax) Act 1999 when they transfer Lot 1 to the Company and/or Lot 2 to a third party? Answer No This private ruling applies for the following periods: Income year ending 30 June 20XX Income year ending 30 June 20XX Income year ending 30 June 20XX
Taxpayer A owns a farm and operates a farming business on it. They have an ABN registered for this business. Taxpayer A is also the sole shareholder and director of the Company. The Company was incorporated in 20XX and has previously undertaken one property development project. The Company purchased an old house on a large block of land in 20XX. The house was renovated and the land was subdivided into X lots. The Company initially sold the lot with the renovated house, before building X new homes over a couple of years on the remaining X blocks. The X houses have been rented since construction (in 20XX) and continue to be rented by the Company. Since 20XX, Taxpayer A has not developed or subdivided any other property either directly or through an associated entity. In the 19XXs, Taxpayer A purchased the vacant properties located at NN-NN and NN-NN as tenant in common with their sibling and their spouse (who owned the other 50% as joint tenants). At the time of acquisition, Taxpayer A thought of the properties as a nice place to live in the future.
In 19XX, the properties were subdivided by a Partition Agreement into 2 lots, Lot A and Lot B (Lot B referred to as the Property for the purposes of this ruling). Taxpayer A transferred their half of Lot A to their sibling and their spouse, and they transferred their share of the Property to Taxpayer A, making Taxpayer A the sole legal owner of the Property. The Partition Agreement ended in 19XX. In late 19XX, Taxpayer A finalised the construction of 2 villas on the Property. The villas are adjacent to each other, under the one roofline. Villa 1 was rented to a third party from 19XX to June 20XX. Taxpayer A's child and their family moved into villa 1 in 20XX and have lived there ever since. Taxpayer A lived in villa 2 from 19XX until 19XX, and then rented it to a third party from 19XX until June 20XX. Taxpayer A moved back into villa 2 in 20XX, and an interconnecting door was built between the 2 villas in 20XX, making the villas one residence. Taxpayer A, child and their family have treated the villas as one family home. The villas cannot be sold separately.
The Property was listed for sale in 20XX, but was withdrawn as no offers to purchase it were received. In 20XY, an application to subdivide the Property into X equal lots was lodged with the Council. Council consented to the subdivision in 20XY. Taxpayer A listed the Property for sale again in 20ZZ, either in its entirety for $X million or as individual, subdivided lots. The Property failed to sell as a whole, but a prospective purchaser (the Purchaser) expressed its interest in buying one of the X proposed subdivided lots. Having received a firm offer from the Purchaser for a subdivided lot, Taxpayer A considered demolishing the villas, performing all necessary tasks to meet subdivision requirements and then selling X vacant lots. On the advice of their accountant, Taxpayer A decided that they would transfer the Property to the Company so that these activities would be carried out by a corporate vehicle (rather than them personally) for legal and asset protection reasons.
In late 20ZZ, the Company entered into a contract for the sale and purchase of land (the Contract) with the Purchaser in respect of the sale of Proposed Lot 1. The completion of the Contract is subject to special conditions, including that the Company obtain approval from the Council and the subsequent registration by State Land Registry Services of the plan of subdivision of the Property by a specified date. Subsequent to entering into the Contract (in late 20ZZ), Taxpayer A decided not to proceed with the original plan of demolishing the villas and subdividing the Property into X vacant lots for sale. Instead, they decided to remain living in the villas with their child and their family, and subdividing the Property into X lots so that approximately half of the Property on which the villas are located constitute one lot, and approximately one-quarter of the Property on either side of that constitute X other vacant lots. Taxpayer A re-engaged with surveyors to change the subdivision plans accordingly and lodged amendments to the subdivision with the Council. The subdivision application has allocated legal lot numbers to the X lots as follows:
the vacant lot subject to the Contract (referred to as Proposed Lot X in the Contract) is Lot X; the other vacant lot is Lot X; and the middle lot with the villas is Lot X. Despite the change of plans, Taxpayer A has decided that it would be problematic and risky to rescind the Contract (as already entered into by the Company) and renegotiate with the Purchaser to enter into a new contract with Taxpayer A personally. Taxpayer A has therefore proposed, subsequent to the subdivision, that they will transfer Lot X to the Company at market value so that the Company can then transfer Lot X to the Purchaser as required to settle the Contract. The purchase price under the Contract is $X, including GST of $X. Taxpayer A is further proposing that: proceeds from the sale of Lot 1 will be used to renovate the villas; Lot 2 will be sold by Taxpayer A as a vacant lot to a third party sometime in the near future (possibly within XX months, or at least during the income periods covered by this ruling) to help fund their retirement; and Lot 3 will be held long-term, before eventually being transferred to their child as part of their inheritance.
Taxpayer A owns other investment properties and earns rental income from those properties.
A New Tax System (Goods and Services Tax) Act 1999 section 9-5 A New Tax System (Goods and Services Tax) Act 1999 paragraph 9-5(b) A New Tax System (Goods and Services Tax) Act 1999 subsection 9-20(1) 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 70-10 Income Tax Assessment Act 1997 Part 3-1 Income Tax Assessment Act 1997 section 104-10 Income Tax Assessment Act 1997 subsection 104-10(4) Income Tax Assessment Act 1997 section 108-5 Income Tax Assessment Act 1997 section 115-25 Income Tax Assessment Act 1997 section 118-20 Income Tax Assessment Act 1997 subsection 118-20(2)
Issue 1 Questions 1 and 2 Summary Proceeds received by Taxpayer A from the transfer of Lot 1 and the proposed transfer of Lot 2 are not ordinary income assessable under section 6-5 of the ITAA 1997. The proceeds represent a mere realisation of a capital asset assessable under the CGT provisions in Part 3-1 of the ITAA 1997. Detailed reasoning Proceeds or profit (as applicable) from the sale of subdivided land will be taxed for income tax purposes as ordinary income under section 6-5 of the ITAA 1997: • where the land is held as trading stock and sold as part of carrying on a business involving the sale of land (or a business of property development); or • where the land is sold as a result of an isolated transaction entered into by a non-business taxpayer or outside the ordinary course of business by a taxpayer carrying on a business, and which is the commercial exploitation of an asset acquired for a profit-making purpose.
Alternatively, gains from the sale of subdivided land can be assessable on capital account as statutory income under the CGT regime contained in Part 3-1 of the ITAA 1997 on the basis that a mere realisation of a capital asset has occurred. Trading stock The term 'trading stock' is defined in section 70-10 of the ITAA 1997 as including anything produced, manufactured or acquired that is held for the purposes of manufacture, sale or exchange in the ordinary course of a business. Taxation Determination TD 92/124 [1] provides that land is treated as trading stock for income tax purposes if: • it is held for the purpose of resale; and • a business activity which involves dealing in land has commenced. Both the required purpose of resale and the business activity must be present before land is treated as trading stock. For these purposes, the business activity is taken to have commenced when a taxpayer embarks on a definite and continuous cycle of operation designed to lead to the sale of the land. The Commissioner's view on whether a taxpayer is carrying on a business is set out in Taxation Ruling TR 97/11 [2]
. TR 97/11 identifies the following indicators for consideration to determine whether a taxpayer is carrying on a business: • 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 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.
In determining whether a taxpayer is carrying on a business, no one indicator will be decisive. The indicators must be considered in combination and as a whole. Whether a business is being carried on depends on the large or general impressions gained from looking at all the indicators and whether these indicators provide the operations with a commercial flavour. Profit from isolated transaction In FC of T v The Myer Emporium 87 ATC 4363 ( Myer Emporium ), the Full High Court expressed the view that profits made by a taxpayer who enters into an isolated transaction with a profit making purpose can be assessable income. Taxation Ruling TR 92/3 [3] discusses profits on isolated transactions and the application of the principles outlined in Myer Emporium . According to TR 92/3 (at paragraph 1), the term 'isolated transactions' refers to those transactions outside the ordinary course of business of a taxpayer carrying on a business and those transactions entered into by non-business taxpayers. TR 92/3 (at paragraph 6) provides that a profit from an isolated transaction is generally assessable income when both of the following elements are present:
(a) the intention or purpose of a 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. It is not necessary that the intention or purpose of profit-making, as discerned from an objective consideration of the facts and circumstances of the case, be the sole or dominant intention or purpose for entering the transaction. It is sufficient if profit-making is a significant purpose (paragraphs 7 and 8 of TR 92/3). The taxpayer must have the requisite purpose at the time of entering into the relevant transaction or operation. If a transaction or operation 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 (paragraph 9 of TR 92/3). For a transaction to be characterised as a business operation or a commercial transaction, it is sufficient if the transaction is business or commercial in character (paragraph 12 of TR 92/3).
Whether an isolated transaction amounts to a business operation or commercial transaction will depend on the circumstances of each case. TR 92/3 (at paragraph 13) lists the following factors to be considered: (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.
In very general terms, 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 (paragraph 49 of TR 92/3). Mere realisation of capital asset The expression 'mere realisation' is used to contradistinguish a business operation or a commercial transaction carrying out a profit-making scheme, and the courts have often said that the profit on the mere realisation of an investment is not income, even if the taxpayer goes about the realisation in an enterprising way (paragraph 36 of TR 92/3). However, where the original asset is transformed so that it no longer retains its original character, the disposal of that asset will go beyond a mere realisation of an investment. The extent of the transformation is therefore relevant when determining whether the undertaking is profit-making in nature. In Casimaty v Federal Commissioner of Taxation
(1997) 37 ATR 358, the taxpayer conducted a primary production business on land he owned. In order to alleviate the effects of financial hardship and deteriorating health, the taxpayer decided to sell off parts of the farm. The taxpayer developed the subdivisions only to the extent necessary to comply with conditions placed on the development consent. Over a period of 20 years the taxpayer made 8 subdivisions amounting to nearly two-thirds of his property. It was held that the sales from the relevant subdivisions occurred as part of the mere realisation of a capital asset of the taxpayer. The taxpayer acquired and continued to hold the farm property for use as a residence and the conduct of a primary producer. Apart from the activities necessarily undertaken to obtain approval from time to time for subdivision of parts of the property, there was nothing to suggest a change in the purpose or object with which the property was held. Where the sale of a property is a mere realisation, the sale is on capital account and (subject to the operation of the anti-overlap provision of section 118-20 of the ITAA 1997 [4] ) CGT rules will generally apply. These proceeds are not ordinary income.
CGT event A1 under section 104-10 of the ITAA 1997 happens if you dispose of a CGT asset. CGT event A1 will happen upon the sale of land and a capital gain will be made pursuant to subsection 104-10(4) of the ITAA 1997 to the extent that the capital proceeds received on the sale exceed the cost base of the CGT asset. Application to Taxpayer A's circumstances None of the facts and circumstances on which this ruling is based indicate that: • Taxpayer A has intended to engage in a business involving the sale of land; • the disposal of Lot 1 and/or Lot 2 involved, or was part of, any repetitive or regular activity undertaken by Taxpayer' A; or • there is any permanency associated with the activities undertaken by Taxpayer A in connection with the disposal of Lot 1 and/or Lot 2. It is evident from the facts and circumstances on which this ruling is based that: • with the exception of the one property renovated and disposed of by the Company in or shortly after 20XX, neither Taxpayer A nor any entity associated with Taxpayer A has acquired or held land for the purpose of development or subdivision and resale;
• since its acquisition in the 19XXs, the Property was intended to be held long-term; • since the development of the villas in 19XX, the Property has either been leased to derive rental income (over a period of approximately 10 years) or resided in by Taxpayer A as well as by Taxpayer A'S child and their family (over a period of approximately XX years); • the decision to subdivide the Property only arose following Taxpayer A's original unsuccessful attempt to sell the Property in its entirety; • Lots 1 and 2 are vacant land, unimproved in any way such that they have not been transformed in a manner which has changed their original character or increased their value; • the proceeds from the sale of Lot 1 are intended to be used to fund renovations of the villas (on Lot 3) in which Taxpayer A and their family intend to continue to reside; and • the proceeds from the subsequent sale of Lot 2 are intended to be used to fund Taxpayer A's retirement.
Based on the above, Taxpayer A is not carrying on a business involving dealing in land held for the purpose of resale. It follows that neither of Lot 1 or Lot 2 constitute an item of trading stock as defined in section 70-10 of the ITAA 1997 and the proceeds from their transfer (as proposed) will not be treated as ordinary income assessable under section 6-5 of the ITAA 1997. While the sale of Lot 1 and/or Lot 2 may constitute an isolated transaction entered into by a 'non-business taxpayer', Taxpayer A is not considered to have acquired that land with the sole or dominant intention to make a profit from its resale, nor is it considered that the sale of that land, and any profit from that sale, will arise in the course of carrying out a business operation or commercial transaction. As such, any net profit realised by Taxpayer A from their transfer (as proposed) will similarly not be treated as ordinary income assessable pursuant to section 6-5 of the ITAA 1997.
The proposed transfer of Lot 1 and Lot 2 therefore represent a mere realisation of a capital asset. CGT event A1 will happen upon the transfer of those Lots (CGT assets under section 108-5 of the ITAA 1997) and a capital gain will be made by Taxpayer A pursuant to subsection 104-10(4) of the ITAA 1997 to the extent that the capital proceeds received on each transfer exceeds the cost base of the relevant CGT asset. For the purposes of section 115-25 of the ITAA 1997 (about discount capital gains), subdivided blocks are taken to have been acquired on the date the original parcel of land was acquired. Issue 2 All subsequent legislative references are to the A New Tax System (Goods and Services Tax) Act 1999 . Question 1 Summary The transfer of Lot 1 and Lot 2 will not be a taxable supply pursuant to section 9-5 because it will be a mere realisation of a capital asset, and will not be in the course or furtherance of an enterprise that Taxpayer A carries on as required in paragraph 9-5(b). Detailed reasoning Section 9-5 of provides that: You make a taxable supply if: (a) you make the supply for consideration; and
(b) the supply is made in the course or furtherance of an enterprise that you carry on; and (c) the supply is connected with the indirect tax zone; and (d) you are registered or required to be registered. However, the supply is not a taxable supply to the extent that it is GST-free or input taxed. For the transfer of Lot 1 and/or Lot 2 to be a taxable supply, all the requirements in section 9-5 must be satisfied. In the course or furtherance of an enterprise Subsection 9-20(1) states that an enterprise is an activity, or series of activities, done: (a) in the form of a business; or (b) in the form of an adventure or concern in the nature of trade; ... Section 195-1 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'. Miscellaneous Taxation Ruling MT 2006/1 [5] provides the ATO view on the meaning of 'enterprise' for the purposes of entitlement to an ABN and Goods and Services Tax Determination GSTD 2006/6 [6] provides that the discussion on 'enterprise' in MT 2006/1 applies to the
A New Tax System (Goods and Services Tax) Act 1999 . 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 (paragraph 159 of MT 2006/1). The phrase 'in the form of a business' clearly includes a business and the use of the phrase 'in the form of' indicates a wider meaning than the word 'business' on its own (paragraph 170B of MT 2006/1). However, the phrase 'in the form of' does not have the effect of extending the reach of 'enterprise' to those activities which are in the form of a business but would not, in the ordinary meaning of 'business' be considered such. The activity must still be reasonably intended to be profit-making (paragraph 170A of MT 2006/1). One-off and isolated property transactions can fall within something done in the nature of trade. This is particularly in the circumstances where the property was purchased, developed (although this may not be necessary) with the intention to resell at a profit. Paragraph 237 of MT 2006/1 provides:
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 ... Ordinarily, the term 'business' would encompass trade engaged in, on a regular or continuous basis. However, an adventure or concern in the nature of trade may be an isolated or one-off transaction that does not amount to a business but which has the characteristics of a business deal (paragraph 234 of MT 2006/1). 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 'badges of trade' are considered at paragraphs 247 to 261 of MT 2006/1, and include the length of period of ownership, the frequency and number of similar transactions, supplementary work on or in connection with the property realised, the circumstances that were responsible for the realisation and trade versus investment assets.
Paragraphs 262 and 263 of MT 2006/1 provides that the question of whether an entity is carrying on an enterprise often arises where there are 'one-offs' or isolated real property transactions. 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 provides a list of factors considered in determining whether a property subdivision activity is a business or an adventure or concern in the nature of trade. It states: 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... 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 relation to land bought with the intention of resale, paragraph 270 of MT 2006/1 provides:
In isolated transactions, where land is sold that was purchased with the intention of resale at a profit (which would be ordinary income) the Commissioner considers these activities to be an enterprise. This would be so whether the land was sold as it was when it was purchased or whether it was subdivided before sale. An enterprise would be carried on in this situation because the activities are business activities or activities in the conduct of a profit making undertaking or scheme and therefore an adventure or concern in the nature of trade. Relevantly, MT 2006/1 provides a number of examples of subdivisions of land that are not enterprises (at paragraphs 288 to 302). This includes: Example 33 291. Ursula and Gerald live on a 2.5 hectare lot that they have owned for 30 years. 292. They decide to sell part of the land and apply to subdivide the land into two 1.25 hectare lots. The survey and subdivision are approved. They retain the subdivided lot containing their house and the other is sold. 293.
Ursula and Gerald are not carrying on an enterprise and are not entitled to an ABN in respect of the subdivision as the subdivision and sale are a way of disposing of some of the land on which their home is situated. It is the mere realisation of a capital asset. Application to Taxpayer A's circumstances Events leading up to the transfer of Lot 1 and/or Lot 2 (as proposed) do not amount to activities in the form of a business carried on by Taxpayer A, nor activities in the form of an adventure or concern in the nature of trade. Broadly, this is because the transfer of the Lots are not transactions of a commercial nature entered into for profit-making, as reflected by a number of factors which are largely the same as those upon which the answer to question 1 of this ruling is based, including: Taxpayer A has not engaged in any activity or trade on a regular or continuous basis; the Property was purchased for investment purposes; it was not purchased with the intention to resell at a profit, nor was it developed with the intention to resell at a profit;
the Property has provided both rental income and personal use/enjoyment to Taxpayer A over a long period of time (over 30 years in total); the Lots have not been improved in any way such as to bring them into a more marketable condition in order to gain a better price; the proceeds from the transfers are required to fund necessary renovations to the villas and, ultimately, Taxpayer A's retirement; and the factors listed in paragraph 265 of MT 2006/1 are mostly not present. The supply of Lot 1 and Lot 2 by Taxpayer A (as proposed) represents a mere realisation of a capital asset and is therefore not considered to be made in the course or furtherance of an enterprise that they carry on, meaning paragraph 9-5(b) is not satisfied and the transfers of those Lots will not be a taxable supply. > [1] Income tax: property development: in what circumstances is land treated as 'trading stock'? [2] Income tax: am I carrying on a business of primary production? [3] Income tax: whether profits on isolated transactions are income. [4]
Section 118-20 of the ITAA 1997 provides that a capital gain made from a CGT event will be reduced if, because of the event, the amount is otherwise assessable under another provision of the ITAA (outside of Part 3-1 of the ITAA 1997). The gain will be reduced to zero if it doesn't exceed the amount included (subsection 118-20(2) of the ITAA 1997). [5] The New Tax System: the meaning of entity carrying on an enterprise for the purposes of entitlement to an Australian Business Number . [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?