Property Development: Practical income tax, CGT and GST issues
This paper was presented to The Tax Institute, Victorian Division, 29 October 2015
The distinction between ‘property development’ and ‘property investment’ is often difficult to divine in
practice.
This paper uses examples to illustrate and explain the income tax, CGT and GST treatment of common
property development transactions including:

distinguishing between and the taxation of trading stock, profit making schemes and capital gains
property development;

the selection of ownership and development structures to undertake property development;

main residence projects;

mixed investment and sale projects;

private property syndicate projects;

partition and exchange and in-specie distribution investment projects;

GST residential development classifications; and

GST going concern project disposals.
Restructuring ............................................................. 10
Introduction .................................................................... 2
Overview ..................................................................... 2
Introduction to taxation ................................................. 2
Overview ..................................................................... 2
Trading stock ............................................................... 3
Profit making schemes................................................. 5
Capital gains tax .......................................................... 7
Development entity .................................................... 11
Builder entity.............................................................. 11
Practical examples ....................................................... 12
Main residence projects ............................................. 12
Mixed investment and sale projects ........................... 14
Private property syndicate projects ............................ 15
Differences in expense treatment ................................. 7
Partition and exchange and in-specie distribution
projects 16
Mere realisation ........................................................... 8
GST residential development classifications .............. 17
GST going concern project disposals ......................... 18
Introduction to structuring ............................................ 8
Tax planning ................................................................ 8
Landowner entities....................................................... 9
Glossary ....................................................................... 19
Introduction
Overview
The distinction between ‘property development’ and ‘property investment’ is often difficult to divine in
practice.
‘Property development’ is used to mean the development of property for the purpose of sale (including
subdividing the family’s ½ acre block, broad acre subdivision and high-density strata developments).
‘Property investment’ is used to mean the development of property for the purpose of retention and use
to derive assessable income (including as premises of a trading business and to derive rental).
The diversity of a property project makes it impossible to deal comprehensively with the topic in a paper
of this nature.
This paper uses examples to illustrate and explain the income tax, CGT and GST treatment of common
property development transactions including:

distinguishing between and the taxation of trading stock, profit making schemes and capital gains
property development;

the selection of ownership and development structures to undertake property development;

main residence projects;

mixed investment and sale projects;

private property syndicate projects;

partition and exchange and in-specie distribution investment projects;

GST residential development classifications; and

GST going concern project disposals.
Introduction to Taxation
Overview
The income taxation of a property project is complex as up to three taxation regimes may apply to levy
tax. The transfer of land may be taxable:
1. as a disposal of trading stock of a property development business; 1
2. as a profit making scheme;2 or
3. as a taxable gain on the disposal of a CGT asset.3
The application of these regimes leaves little scope for the transaction to be considered a non-taxable
‘mere realisation’ of a capital asset. It is usually only simple developments of pre-CGT Assets4 that will
qualify for this treatment.
Accordingly, most analysis by practitioners concerns whether:
1
2
Div. 70 ITAA 1997.
Sec. 6-5 ITAA 1997.
© Ron Jorgensen 2015
3
4
Pt 3.1 and 3.3 ITAA 1997.
i.e. land acquired before 20 September 1985.
Page 2 of 19
1. the taxpayer is carrying on a business of property development (i.e. whether the trading stock rules
apply);
2. the taxpayer had a profit making motive at the time of acquisition (i.e. whether there is a profit
making scheme); or
3. a specific statutory provision (e.g. profit making undertaking or plan) 5 applies.
The trading stock regime provides an exclusive regime for the taxation of land that constitutes trading
stock. The CGT regime expressly exempts trading stock (i.e. land) from being a CGT Asset.6 The trading
stock regime only operates on stock held in the ordinary course of business. Accordingly, the trading
stock regime and the profit making scheme regime (which has a residual operation for ‘revenue assets’
that are not trading stock)7 or the CGT regime (which operates for ‘capital assets’) cannot operate
concurrently.
Where the acquisition of land is for a profit making purpose, the land is considered a revenue asset and
its realisation a revenue profit.8 However, the fact that the land is a revenue asset does not preclude it
from being a CGT Asset. Land is a concurrent CGT Asset.9 Accordingly, the profit making scheme
regime and the CGT regime apply concurrently. The ordinary income regime has legislative priority over
the CGT regime, because, where a receipt is taxable as ordinary income and a capital gain, the capital
gain is reduced by the amount of the revenue profit. 10 Where the net profit under the profit making
scheme regime is calculated differently to the CGT regime, concurrent taxation operation is arguable
possible.
If these provisions do not apply, the adviser must determine whether:
1. the CGT provisions apply; or
2. the realisation will be a non-taxable mere realisation.
Trading stock
Trading stock includes articles acquired for the purpose of manufacture, sale or exchange in the ordinary
course of business. Land may be trading stock for tax purposes. 11
A taxpayer will account for trading stock on the following basis: 12
1. acquisition and ancillary costs (e.g. development costs) of purchased trading stock are an allowable
general deduction13 in the year the trading stock is held for use in a business;14 and
2. disposal consideration of trading stock is assessable income in the year of disposal of the trading
stock;15 and
3. where the opening trading stock value (e.g. the previous year 30 June closing trading stock value) 16
exceeds closing trading stock value (e.g. the current year 30 June closing trading stock value), an
allowable general deduction is incurred;17 or
Sec. 15-15 ITAA 1997; previously sec. 25A ITAA 1936.
Sec 118-25 ITAA 1997.
7 R. Parsons, Income Taxation in Australia, Law Book Company Ltd,
1985, para 12.3.
8 R. Parsons, Income Taxation in Australia, Law Book Company Ltd,
1985, e.g. para 12.8; FCT v Myer Emporium Ltd [1987] HCA 18.
9 Sec. 108-5(1) ITAA 1997 defines a ‘CGT Asset’ as ‘any kind of property’
and does not exclude revenue assets that are not trading stock.
Sec. 118-20 ITAA 1997.
FCT v St Hubert’s Island P/L 78 ATC 4104; (1978) 8 ATR 452.
12 Sec. 70-5 ITAA 1997.
13 Sec. 8-1 ITAA 1997.
14 Sec. 8-1 & 70-15 ITAA 1997.
15 Sec. 6-5 ITAA 1997.
16 Sec. 70-40 ITAA 1997.
17 Sec. 70-35 ITAA 1997.
5
10
6
11
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4. where the closing trading stock value (e.g. the current year 30 June closing trading stock value) 18
exceeds opening trading stock value (e.g. the previous year 30 June closing trading stock value),
assessable income is derived.19
Vacant land will constitute trading stock in globo even before it is converted into a subdivided and
improved condition for sale.20 In globo trading stock will become converted to individual articles of trading
stock upon subdivision.21
The key factors to weigh in determining whether the particular property project was part of a business
of property development are:
1. the taxpayer’s purpose in acquiring and carrying out the project; 22
2. the taxpayer’s history of property development or investment;23
3. the extent of personal involvement of the taxpayer; 24
4. the reasons for developing the land;25
5. the duration of ownership;26
6. the scale of the sub-division;27 and
7. the extent of any construction work undertaken.28
Reasonable practitioners may differ on whether a particular property project was a property
development business when weighing these factors resulting in potential dispute with the ATO.
Reasonable practitioners may differ on ddetermining the cost of land and improvements during a tax
period and allocating costs to individual articles of trading stock upon subdivision resulting in potential
dispute with the ATO.
The concept of ‘cost’ is directed at ascertaining the costs incurred in the course of a taxpayer’s materials
purchasing and manufacturing activities to bring the article to the state in which it became trading stock
held.29 It arguably excludes expenses and overheads that do not have a relationship with production
(e.g. marketing, distribution and selling expenses and general administration expenses).30 Although
many of these costs will be otherwise deductible,31 there are a number of expenses that may neither be
included in the cost of trading stock nor deductible as a general business outgoing.
Generally, the following costs of subdivision should be characterised as part of the cost price of the
broad acres before subdivision and, therefore, upon subdivision part of the cost price of the subdivided
lots:32
1. the cost of ‘infrastructure land’ (i.e. that part of the broad acres land on which services and utilities
were to be build and transferred to the Council);
Sec. 70-45 ITAA 1997.
Sec. 70-35 ITAA 1997.
20 FCT v St Hubert’s Island P/L 78 ATC 4104; (1978) 8 ATR 452.
21 Barina Corporation Ltd v FCT (1985) 4 NSWLR 96.
22 FCT v Whitfords Beach P/L [1982] HCA 8 (new shareholders intent to
develop) & Stevenson v FCT 91 ATC 4476; (1991) 22 ATR 56 (change
in development purpose).
23 FCT v Whitfords Beach P/L [1982] HCA 8 (new shareholders had a
history of developments) & Crow v FCT 88 ATC 4620; (1988) 19 ATR
1565 (multiple successive history of development).
24 Stevenson v FCT 91 ATC 4476; (1991) 22 ATR 56 (significant
involvement of landowner); cf Casimaty v FCT 97 ATC 5135; (1997) 37
ATR 358 (most aspects delegated to contractors and agents).
25 FCT v Whitfords Beach P/L [1982] HCA 8 (systematic for a profit); cf
Casimaty v FCT 97 ATC 5135; (1997) 37 ATR 358 (piecemeal as
increasing debt and deteriorating heath dictated).
18
19
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Scottish Australian Mining Co Ltd v FCT (1950) 81 CLR 188 &
Casimaty v FCT 97 ATC 5135; (1997) 37 ATR 358; cf Stevenson v FCT
91 ATC 4476; (1991) 22 ATR 56.
27 FCT v Whitfords Beach P/L [1982] HCA 8 (magnitude of development
does not convert it into a business); cf Stevenson v FCT 91 ATC 4476;
(1991) 22 ATR 56 (magnitude of development is highly persuasive).
28 Stevenson v FCT 91 ATC 4476; (1991) 22 ATR 56 (extensive services
and utilities provided); cf Casimaty v FCT 97 ATC 5135; (1997) 37 ATR
358 (minimal works to obtain council approval).
29 e.g. Philip Morris Ltd v FCT 79 ATC 4352; (1979) 10 ATR 44 (regarding
costing generally and not specifically land).
30 Rulings IT 2350 & IT 2402.
31 Determination TD 92/132.
32 FCT v Kurts Development Ltd 98 ATC 4877; (1998) 39 ATR 493.
26
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2. the costs of ‘infrastructure works’ (e.g. the cost of establishing services and utilities 33 on the
‘infrastructure land’); and
3. the ‘external costs’ (e.g. the costs of ‘headworks’ including the provision of services and utilities 34 to
the land, but on land not owned by the taxpayer).
It is unclear whether reinstatement costs may be used to reduce the market selling value of broad
acres.35 The cost of, for example, reinstating excavation works and rectifying site contamination may
markedly reduce the market value of land (at least for a period).
From year to year, the taxpayer may determine to value each article of trading stock at cost, market
selling value or replacement price. 36 Replacement price is generally not an appropriate method of
valuing land that is trading stock.37 For an appreciating article of trading stock such as land where there
will be an increase in value between the start of an income year and the end of the income year, the
change from:
1. cost to market selling value, will likely derive assessable income; and
2. market selling value to cost, will likely incur a general deduction.
It may be possible to recognise a general deduction for the loss in value in a particular year (e.g. by
reinstatement costs) by changing from cost to the market selling value method. The change back from
market selling value to cost will reverse this general deduction and derive assessable income. Although
relatively short term, this may create a cash flow benefit in the appropriate circumstances.
Profit making schemes
The ordinary income of a business operation or commercial transaction includes the ‘profit’ on certain
isolated transactions entered into with the purpose of making a profit. 38
Westfield Ltd v FCT 39 emphasised the distinction between a transaction occurring as part of ‘business
operations’ (Business Limb) and as part of a ‘commercial transaction’ outside the ordinary business
operations (Commercial Limb).
Arguably, the main difference between the Business Limb and Commercial Limb is that:
1. it will automatically be inferred at all times that the taxpayer had a profit-making intent under the
Business Limb; but
2. it will need to be positively establish at the time of entering into the transaction that the taxpayer
intended to make a profit in relation to the particular transaction by which the profit was in fact made
and not simply in a temporal sense under the Commercial Limb.40
The Commissioner considers that the sale of property will be a profit making scheme under both limbs
if the taxpayer had a profit making intent at the time the sale transaction is entered into and it need not
be established that the profit arose in the manner initially intended. 41
e.g. internal access roads, internal street lighting, internal sewage and
drainage and parklands.
34 e.g. external road works to the broad acres, downstream sewage and
drainage to the broad acres and external parklands and contributions to
civil services such as school improvements and expansions.
35 Refer to Case A42 69 ATC 235 where new Council requirements on
developing land arguably reduced the land’s market value. The taxpayer
was unsuccessful because the change occurred after the close of the
income year the subject of the assessment.
33
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Sec. 70-45 ITAA 1997.
e.g. Parfew Nominees P/L v FCT 86 ATC 4673 (1986) 17 ATR 1017.
38 FCT v Myer Emporium Ltd [1987] HCA 18; Westfield Ltd v FCT 91 ATC
4234; (1991) 21 ATR 1398; Ruling TR 92/3.
39 Westfield Ltd v FCT 91 ATC 4234; (1991) 21 ATR 1398.
40 FCT v Myer Emporium Ltd [1987] HCA 18; Westfield Ltd v FCT 91 ATC
4234; (1991) 21 ATR 1398; & FCT v Hyteco Hiring P/L 92 ATC 4694;
(1992) 24 ATR 218.
41 Ruling TR 92/3.
36
37
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The Commissioner’s position would significantly expand the operation of the profit making scheme
regime.
The Commissioner considers the following factors to determine whether an isolated transaction
constitutes a profit making scheme:
1. the nature of the entity undertaking the operation or transaction;
2. the nature and scale of other activities undertaken by the taxpayer;
3. the amount of money involved in the operation or transaction and the magnitude of the profit sought
or obtained;
4. the nature, scale and complexity of the operation or transaction;
5. the manner in which the operation or transaction was entered into or carried out;
6. the nature of any connection between the relevant taxpayer and any other party to the operation or
transaction;
7. if the transaction involves the acquisition and disposal of property, the nature of that property; and
8. the timing of the transaction or the various steps in the transaction.
‘Profit’ is calculated according to profit and loss accounting methodology and not receipts and outgoings
tax accounting. The profit calculation assumes the profit arises from one transaction and not from a
continuing business. The methodology of calculating the profit has not received much judicial
comment.42 The profit is the difference between the price realised on disposal, less the costs of
acquisition and the costs of selling.43
It is unclear whether historical cost44 or market value45 at the time the property becomes subject to a
profit making scheme is used. The historical cost basis would significantly increase the profit on the
transaction and might lead to double taxation.
The concept of cost is arguably includes a wider variety of costs in the profit calculation. 46 The fact that
a cost has not yet been paid or a liability is contingent at the time of calculating the profit does not
preclude such costs being subtracted from the profit. 47 The calculation may therefore result in costs not
otherwise allowable as a cost of trading stock being subtracted/‘deducted’ under the profit making
scheme regime
Where land is sold, the costs applicable to the development must be apportioned to each parcel of land
sold. This is done under the method of tax accounting. 48 The calculation method will need modification
if the project is restructured before development is completed. These issues are variously discussed in
the following Taxation Determinations (which in several respects can be criticized):
1. TD 92/126 Income tax: property development: if in an isolated commercial transaction land is
acquired for the purpose of development, subdivision and sale, but the development and subdivision
do not proceed, how is a profit on a sale of the land treated for income tax purposes?
2. TD 92/127 Income tax: property development: if land is acquired for development, subdivision and
sale but the development is abandoned and the land sold in a partly developed state, how is a profit
on a sale of the land treated for income tax purposes?
FCT v Whitfords Beach P/L [1982] HCA 8 (the decision when remitted
to the Federal Court to determine the profit of the transaction).
43 FCT v McClelland (1969) 118 CLR 353, 358.
44 FCT v Myer Emporium Ltd [1987] HCA 18.
45 FCT v Whitfords Beach P/L [1982] HCA 8.
42
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FCT v Whitfords Beach P/L [1982] HCA 8; R. Parsons, Income
Taxation in Australia, Law Book Company Ltd, 1985, para 12.40
47 R. Parsons, Income Taxation in Australia, Law Book Company Ltd,
1985, para 12.42 & 12.43.
48 FCT v Thorogood (1927) 40 CLR 454
46
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3. TD 92/128 Income tax: property development: if land is acquired for development, subdivision and
sale, but after some initial development the project ceases and is recommenced in a later income
year, how is a profit on a sale of the land treated for income tax purposes?
Capital gains tax
A capital gain or loss may arise upon the occurrence of a CGT event (e.g. a transfer)49 in respect of a
CGT asset (e.g. land),50 unless an exemption applies, rollover relief defers the capital gain or a provision
denies the loss.
A capital gain arises where the proceeds from the CGT event exceed the adjusted acquisition costs of
the CGT asset.51 A capital loss arises where the proceeds from the CGT event are less than the adjusted
acquisition costs of the CGT event.52
Capital gains on assets acquired before 20 September 1985 are disregarded.53
A net capital gain is included in the assessable income of the taxpayer.54
An individual or trust that has held a CGT asset for at least 12 months may reduce the capital gain by
50% and a superannuation fund may reduce the capital gain by 33% under the CGT general discount.55
A number of exemptions (e.g. the main residence exemption56) and concessions (e.g. small business
concessions57) may also apply in particular circumstances.
Acquiring and retaining land as a capital asset to access these discounts, exemptions and concessions
is central to tax planning property projects.
The cost base of acquiring an assets consists of ‘5 elements’:
1. The 1st element of cost base represents amounts of money or property paid or given, or required
to be paid or given, to acquire the asset.
2. The 2nd element of cost base includes incidental costs of acquisition (e.g. advice costs, transfer
costs, stamp duty, advertising costs and valuation fees).
3. The 3rd element of cost base’ includes non-capital costs of ownership (e.g. interest not otherwise
deductible, repairs and insurance costs and rates and land tax).
4. The 4th element of cost base includes capital expenditure increasing the asset's value.
5. The 5th element of cost base includes capital expenditure to preserve title.
Some project expenses may not be included in the cost base. For example, it is unclear whether the 1st
element of cost base includes remote third party tender payments 58 and whether the 4th element of cost
base include compensation payments to obtain Council approvals.
Differences in expense treatment
It is unclear whether development costs such as:
1. informal ‘compensation payments’ to residents objecting to the development;
Sec. 104-10 ITAA 1997 - Disposal of a CGT Asset: CGT event A1.
Sec. 108-5 ITAA 1997.
51 Sec. 102-5 ITAA 1997.
52 Sec. 102-10 ITAA 1997.
53 Sec. 104-10(5) ITAA 1997 - Disposal of a CGT Asset: CGT event A1;
Determination TD 7.
Sec. 102-5 ITAA 1997.
Sec. 115-25 ITAA 1997; Determination TD 2002/10.
56 Div. 118-B ITAA 1997.
57 Div. 152 ITAA 1997.
58 The provision would appear to be sufficiently widely worded.
49
54
50
55
© Ron Jorgensen 2015
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2. the notional value of personal services in managing the development;
3. ‘opportunity payments’,59 ‘tender administration payments’60 and ‘transferable floor area’
payments61
will be a cost of trading stock, subtracted in calculating profit under the profit making scheme regime or
an element of cost base under the CGT regime or whether such costs will be wasted (i.e. black hole
expenditure).
The entitlement to these expenses can be inconsistent across the regimes, so tax planning may require
structuring so a particular regime applies which will include the particular expenses.
Mere realisation
Where the trading stock, profit making scheme or capital gains tax regimes do not apply (e.g. pre-CGT
assets), the proceeds of the project are not taxed.
Post-CGT buildings and intangible improvements to pre-CGT Assets are separate post-CGT Assets.
These improvements are subject to the CGT regime, requiring capital proceeds to be apportioned.
A post-CGT building or structure is a separate asset to the pre-CGT land.62 Accordingly, the building
component of a property development on pre-CGT land, is taxable. The Commissioner considers that
the increase in land value attributable to Council approval for rezoning and development will be a
separate post- CGT Asset and separately taxable under the CGT regime.63
Tax planning to retain the pre-CGT status of land usually involves appointing a separate development
entity to undertake any development so that the landowner remains very passive so that the property
project does not become a profit making scheme.
Introduction to structuring
Tax planning
Tax planning is the professional art of balancing different legal and tax entities’ relative tax and non-tax
characteristics including:64
1. tax treatments (degree of transparency, working capital retention, distribution splitting/streaming,
entitlement to CGT discounts and concessions);
2. progressive marginal and corporate tax rates;
3. investment flexibility (capitalisation and financing);
4. asset protection robustness (personal, corporate and intra-entity insolvency);
5. business succession flexibility (third party or intergenerational transmissions);
6. governance regulation (degree of contractual, statutory and governmental and professional
supervision); and
7. administrative and compliance complexity and cost.
A payment to a person to assume that person’s right to tender for land
in a restricted tender arrangement.
60 A payment to a tender offeror to permit the taxpayer to tender or to
defray administration costs of the offeror in considering the tender.
61 The ability for the owner of a conservation site to transfer developer
‘floor area’ to another site to increase the maximum permissible floor
59
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area for development purposes of the other site; see the Naval Military &
Airforce Club of South Australia Case (1994) 28 ATR 161.
62 Section 108-55(2) of the 1997 Act.
63 CGT Determination No. 5; sec. 108-70(2) ITAA 1997.
64 B. Freudenberg, ‘Tax on my mind: Advisors’ recommendations for
choice of business form’, (2013) AT Rev 33.
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Legitimate tax planning uses tax policy distinctions/disconformities to reduce the overall effective tax
rate.
Tax planning opportunities are dictated principally by whether the landowner intends to sell the
subdivided land to produce a profit or retain the land for income producing purposes (e.g. to use in a
business or for leasing). This will determine whether the profit is potentially taxable on revenue account
(e.g. as ordinary income) or on capital account (e.g. as a taxable capital gain) respectively.
Choosing the correct business structure is an art rather than a scientific application of principles. The
choice of structure will vary depending upon (amongst other matters) the insolvency protection, liquidity
and financing requirements and priorities of each participant.
There is a significant benefit of classifying a transaction on capital account on the odd occasion where
the ‘mere realisation’ principle will apply. Also, there is arguably a bias towards classifying a transaction
on capital account where the taxpayer has carried forward capital losses or there is the opportunity to
use the CGT general discount65 or the small business concessions.66
This paper does not discuss the State taxes consequences of structuring including stamp duty and land
tax.
Landowner entities
Selecting the landowner structure for a property project is not always possible. 67
A comparison of some of the relevant attributes of the above structures are summarised on the next
page:
Individual
Partn’ship
Family
Trust
Unit Trust
Company
Joint
Venture
Administrative
complexity
Low
Medium
Medium
Medium
High
High
External regulation
_
Partnership
Acts
Trustee Acts
Trustee Acts
Corporations
_
Act
High
High
Low
Low
Low
Medium
High
High
Low
High
High
High
Yes
Yes
No68
No
No
Yes
Yes
Yes
No
Yes69
Yes70
Yes
Yes
Yes
Yes
Yes
No
Yes
Access to equity
Yes
Yes71
Yes
possible
CGT Event
E4
Dividend
Division 7A
Yes
Distribution flexibility
Low
Low
High
Low
Low
Low
Insolvency risk to
participants
Family dispute risk to
participants
Access to development
losses
Access to negative
gearing at participant
level
Access to 50% CGT
Discount
65
68 The trust loss rules in Schedule 2F of the 1936 Act may permit injection
66
Div. 115 ITAA 1997.
Div. 152 ITAA 1997.
67 e.g. the land was acquired under a will or by a particular entity for
commercial and other reasons without regard to the taxation and
commercial issues for future development.
activities in limited circumstances.
69 If borrowed at participant level and used to capitalise the unit trust.
70 If borrowed at participant level and used to capitalise the company.
71 FCT v Roberts & Smith 92 ATC 4380; (1992) 23 ATR 494; Ruling TR
95/25.
© Ron Jorgensen 2015
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A company provides a high degree of insolvency protection and has a well-defined corporate
governance process, which is ideal for unrelated business parties. A company may be suitable for a
trading stock or profit making scheme project landowner. However, legislative restrictions on dividend
policies;72 the inability to distribute current year losses,73 and ineligibility for the CGT discount;74 means
that a company is not the most appropriate tax structure for a capital gains project landholder.
A trust (particularly a discretionary trust or a hybrid unit trust) provides a high degree of flexibility in profit
distribution policy. Again, the inability to distribute current year losses and restrictions on transferring
losses without making a family trust election 75 means that a trust is not the most appropriate structure
for landownership between unrelated parties. Negative gearing discretionary and hybrid trusts is also
problematic.76
A partnership permits the distribution of current year losses and has a reasonably well-defined
governance process. However, the agency and fiduciary relationships of the partners and the joint and
several liabilities of the partners generally outweigh the advantage of using current year losses, making
a partnership an unattractive structure.
An ‘unincorporated joint venture’ or a ‘non-entity joint venture’ provides separate taxation treatment of
landowners.77 The Commissioner limits a joint venture operation to circumstances where the
participants are compensated by a share of the output rather than joint or collective profits.78 An
improperly established joint venture structure may not achieve the desired business, 79 financing80 and
taxation81 requirements, because it is in fact a general law partnership 82 or a taxation partnership.83
Various forms of unincorporated joint ventures of companies and trusts are frequently used to achieve
a satisfactory mix of the above requirements.
Restructuring
Care needs to be exercised when the structuring of a property development is intended to be on capital
account, because changes to the taxpayer structure (e.g. a change of shareholding or a change of
purposes in a Constitution) may transform a capital account development into a property development
business. The admission of new equity parties to fund the property development may be the catalyst
that transforms a capital account development into a property development business. Such changes
were considered critical in FCT v Whitfords Beach Co P/L84 where beach front land held in a company
and used as a right of way to fishing shacks on the beach was acquired and restructured to permit
subdivision and development.85
The practice of establishing separate development entities to argue that each entity does not have a
history of property development may be of little effect. The members’ extensive history of property
development was a significant factor in FCT v Whitfords Beach Co P/L86 in concluding that the company
was carrying on a property development business.87 This reasoning suggests that the Courts may look
Div. 7A ITAA 1936 (deemed dividends); sec. 109 ITAA 1936
(excessive remuneration); Div. 202 - 207 ITAA 1997 (imputation credits);
sec. 160APHC-160APHU ITAA 1936 (45-day holding period rules);
Division 197 ITAA 1997 (share tainting rules)
73 Div. 36 ITAA 1936 (prior year losses); Div. 165 ITAA 1997 (current year
losses and bad debt deductions); Div. 175 (current year deductions); Div.
170 ITAA 1997 (intercompany loss transfers)
74 Sec. 115-10 ITAA 1997.
75 Sch. 2F ITAA 1936.
76 Income Tax Ruling IT 2385 & ATOID 2003/546.
77 Ruling GSTR 2004/2.
78 Ruling GSTR 2004/2.
79 The Laws of Australia, The Law Book Company Limited, Part 4.8,
Chapter 4.
80 The Laws of Australia, The Law Book Company Limited, Part 4.8,
Chapter 4.
81 Discussed in M. Walsh, ‘Partnerships – joint ventures and taxation
(1978-79) 13 Taxation in Australia, 478; G. Ryan, ‘Joint venture
72
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agreements’, (1982) 4 AMPLJ, 101; H. Speath, ‘Joint ventures & GST’,
(2001) 4(3) Tax Specialist, 162.
82 A general law partnership is defined as the relationship that subsists
between persons carrying on a business in common with a view to profit
(Section 5(1) of the Partnership Act).
83 A partnership for tax purposes includes a general law partnership and
an association of persons in receipt of income jointly (Section 995-1 of
the 1997 Act). For the purpose of this paper, ‘general law partnership’
will refer to a partnership satisfying the Partnership Acts, a ‘taxation
partnership’ will be used to refer to persons in receipt of income jointly
and ‘partnership’ will refer to both types.
84 FCT v Whitfords Beach P/L [1982] HCA 8.
85 FCT v Whitfords Beach P/L [1982] HCA 8, Gibbs CJ; Wilson J; cf
Mason J.
86 FCT v Whitfords Beach P/L [1982] HCA 8.
87 FCT v Whitfords Beach P/L [1982] HCA 8 Gibbs CJ; Mason J cf Wilson
J.
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beyond the separate legal entity to the history of members and possibly other key associates such as
directors and managers.88
Development entity
Since the indicia of carrying on a property development business includes the extent of involvement of
the landowner, the appointment of a development entity to manage the development and contract with
service providers may permit the landowners to remain very passive to assist in establishing that the
landowner is not carrying on a business.
The developer entity can be a company or trust. Depending on how the development contract is
structured, derivation of income and incurring of expenses can be managed so avoid liquidity problems.
Builder entity
The Proposed Structure
The obligation to incur and carry building costs may be transferred by the building contract to Builder
P/L.
A ‘turn-key’ or ‘modified turn-key’ building contract may require Builder P/L to incur and carry
development costs and to render an account only upon achieving a milestone (e.g. at lock up or practical
completion stages) or upon sale of the development (respectively).
Builder P/L deducts all these outgoings on a current year basis and returns income in the later years
when the milestones are met or the development is sold (as applicable). The landowner only brings into
account the increase in value of the land resulting from the building at the later years when the
milestones are met or the development is sold. As a group, the group has effectively accelerated the
deduction for the building costs.
compare Determination TD 92/124 where the Commissioner takes a
broad view of when land will be trading stock.
88
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Page 11 of 19
Tax Effect for the Builder
Builder P/L will derive income when entitled to bill for the work (being the time Builder P/L has a present
and non-contingent right to receive payment).89 This will be when Builder P/L achieves the milestone or
the development is sold (as applicable). The Commissioner appears to have accepted this proposition
in respect of arm’s length contracts.90
The Commissioner requires Builder P/L to apply normal accounting methods.91
The ‘basic method’ and ‘estimated profit basis’ are alternate accounting methods available to Builder
P/L to return income in respect of a ‘long term construction contract’. A long-term construction contract
is a building contract that extends over two income years.92 The basic method returns income (e.g. all
progress and final payments) derived in an income year less all outgoing deductions incurred in carrying
on the building business in an income year. 93 The estimated profit basis returns the ultimate profit or
loss over the duration of the contract on a reasonable basis in accordance with accepted accounting
standards.
The Commissioner has attempted unsuccessfully to require Builder P/L to use the estimated profit basis
where derivation of income for Builder P/L is deferred under the building contract.94
Tax Effect for the Landowner
The landowner is obliged to include in the cost of trading stock expenditure incurred in the course of the
landowner’s material purchasing and manufacturing activities to bring the article to the state in which it
became trading stock held. The building expenditure under the turn-key and modified turn-key building
contracts are not incurred until Builder P/L achieves the milestone or the development is sold. This is
because the landowner does not have a non-contingent liability to pay those amounts until that time.
Accordingly, the landowner does not have an obligation to increase the cost value of trading stock by
the value of the building improvements.
Reduced Building Margin
There is no requirement for a captive builder to charge a captive landowner full margins on services.
Where the landowner’s development is on capital account Builder P/L might forgo the builder’s margin,
which would otherwise be taxable to Builder P/L as ordinary income. As the value of the building vest in
the landowner, Builder P/L’s notional profit may be shifted to the landowner and converted to capital. 95
This value shift may have value shifting consequences where Builder P/L is incorporated.96
Part IVA
The general anti-avoidance provisions in Part IVA ITAA 1936 need to be carefully considered.
Practical Examples
Main residence projects
The purpose of this example is to demonstrate the technical considerations that must be considered in
selling a 2 lot main residence subdivision.
Henderson v FCT 70 ATC 4016; (1970) 1 ATR 596; Barratt v FCT 92
ATC 42745; (1992) 23 ATR 339.
90 Determination TD 94/39.
91 Ruling IT 2450.
92 Ruling IT 2450.
89
© Ron Jorgensen 2015
This represents the simple application of the statutory provisions;
Grollo Nominees P/L v FCT 97 ATC 4585; (1997) 36 ATR 424.
94 Grollo Nominees P/L v FCT 97 ATC 4585; (1997) 36 ATR 424.
95 Grollo Nominees P/L v FCT 97 ATC 4585; (1997) 36 ATR 424
96 Div. 727 ITAA 1997.
93
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Jack purchased 2 hectares (5 acres) in July 1997 on the outskirts of St Helens township. Jack completed
building a main residence on the property by December 2008. The property has tripled in value. Jack wants
to subdivide into 2 x 2.5 acres blocks, to retain one block as a main residence and to sell the other block.
The property was acquired to be used as a main residence and is on capital account. The property is
within the 2 hectare main residence limitation.97
The main residence exemption will apply to the block and subsequent dwelling from date of acquisition,
if the dwelling is built within 4 years from the date the land was acquired. The main residence must be
moved into as soon as practicable after the work is finished and cannot be sold within 3 months of
completion.98
The subdivision of the property is not a CGT event and the cost base is apportioned between the new
split blocks.99 The Commissioner will accept an apportionment between the new split blocks on an area
basis or a relative market value basis.100
The main residence exemption attaches to the land with the dwelling. Accordingly, the main residence
exemption will not apply to the sale of the vacant land. 101 Therefore, to preserve the main residence
exemption, the current dwelling and land should be sold and the taxpayer should retain and build upon
the vacant land.
The taxpayer can build on the vacant block, assume occupation of the new main residence and sell the
old main residence, provided the concurrent ownership periods do not exceed 6 months.102 A modified
method of calculating the ownership period would then apply. 103 The taxpayer’s ownership interest in
the old main residence only ends at settlement of the sale. 104 Care is required to ensure the 6 months
period is not exceeded. Long settlement dates can, therefore, be hazardous.
Alternatively, the taxpayer can sell the old main residence and then build a new main residence on the
vacant land. The main residence exemption may be retained in the new main residence for up to 4 years
from the date the land is acquired (not applicable in this example). Otherwise the 4 year period applied
for the period immediately before the land became the new main residence. The new main residence
must be moved into as soon as practicable after the work is finished and cannot be sold within 3 months
of completion.105
The ownership period of the new main residence does not include the period of the old main residence
(if more than 4 years from the date of acquisition of the land). Accordingly, tax will be payable on the
subsequent disposal of the new main residence on a proportionate basis. The alternate scenarios need
to be compared for tax efficiency.
Sec. 118-120 ITAA 1997; Determination TD 1999/67.
Sec. 118-150 ITAA 1997.
99 Sec. 112-25 ITAA 1997; Determination TD 7.
100 Determination TD 97/3.
101 Sec. 118-165 ITAA 1997.
Sec. 118-140 ITAA 1997.
Sec. 118-130 ITAA 1997; Determination TD 2000/13.
104 Gasparin v FCT 94 ATC 4280, 4288; (1994 ) 28 ATR 130.
105 Sec 118-150 ITAA 1997.
97
102
98
103
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The subdivision and sale of a main residence is unlikely to be an enterprise for GST purposes.106 The
subdivision and issue of new titles will, therefore, have no GST consequences. 107
Mixed investment and sale projects
The purpose of this example is to demonstrate the effect of mixed investment & development purpose
projects.
Jack acquired a property for the purpose of subdivision, building 1 shop, 3 terrace houses and
48 townhouses for lease. To repay the bank, it is estimated that the shop, terrace houses and
15 townhouses would be sold (i.e. 36% of the project). In fact only the shop, 3 terrace houses and
13 townhouses were sold (32% of the project).
ARM Construction P/L v FCT has stated that:108
The decisive factor in determining whether or not the units…became trading stock at any time…was the
primary or substantial intent or purpose of the parties, which intention or purpose was carried into
execution. The fact that they may have had a secondary or subsidiary purpose in selling the units if that
became necessary in order to discharge their subsequent borrowing…did not stamp upon the units the
character of trading stock…
…[So] far as the unsold town houses are concerned, the situation is the same…I am of the opinion that
the town houses in fact retained… as well as the 13 sold, could not be characterised a “trading stock”, a
conclusion which extends to the shop and the terrace houses. But I consider that the profits arising on the
sale of the…properties in fact sold is assessable under the provisions of sec. 26(a). So far as the shop
and the two terrace houses are concerned, I find that it wa the intention of the appellants from the outset
o sell them in order to assist funding the development, an intention which related with greater certainty to
the ship than to the terrace houses.
Accordingly, the properties intended to be sold and in fact sold would be a profit making scheme. The
balance would retain their capital status. Although the taxpayer thought he would have to sell an
additional 2 townhouses, that expectation does not appear to make those 2 townhouses part of the profit
making scheme.
Determination GSTD 2000/8; Miscellaneous Taxation Ruling MT
2000/1, example 11.
106
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107
Ruling GSTR 2003/3.
108 ARM Construction P/L v FCT
87 ATC 4790, 4806; (1987) 19 ATR 337.
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Private property syndicate projects
The purpose of this example is to demonstrate that a unit trust property syndicate is generally tax
inefficient, unless a specially modified unit trust is used.
Jack and seven unrelated people acquired a property in a unit trust for the purpose of
subdivision, building a house on each block and distributing the block in specie (in kind) to each
unitholder.
The mixed purpose of the participants creates a problem identifying the purpose of the project. To
reconcile the mixed purposes, the property should be subdivided and each block distributed in kind to
the relevant unit holder.109 This will ensure the property is not trading stock and is not a profit making
scheme. This will permit the various unit holders to have different intentions.
The terms of the unit trust will also be vital. The unit holders of a traditional unit trust hold a tenants-incommon interest in all of the property (not any identifiable part of the property).110 After subdivision, each
unit holder owns a proportionate interest in each block. The partition and exchange of interests so that
each unit holder owns one block absolutely represents a proportionate disposal of an interest in all other
blocks. The disposal of the various interests will, therefore, have income tax consequences. 111
If a special purpose unit trust is used where each unit in the trust grants a beneficial interest in the
particular block of land, then the unitholder will have an absolute entitlement to the land and there is no
partition and exchange.112
The unit holder exemption exempts an in-kind transfer of land by the principal unit trust to a unit holder
who was a unit holder at the time the land was acquired.
In respect of the exemption:
1. only unit holders at the time the land was acquired can obtain an exempt transfer and other unit
holders are subject to duty;
2. the exemption is only applicable in the same proportion as the unit holder’s proportionate unit
holding; and
3. the value of the unit holder in the unit trust must decrease by a redemption of unit or by the overall
value.
109 ARM Construction P/L v FCT
87 ATC 4790, 4806; (1987) 19 ATR 337.
CSR (Vic) v Karingal 2 Holdings P/L [2003] VSCA 214.
111 Determination TD 92/148.
110
© Ron Jorgensen 2015
Sec. 116-30 ITAA 1997; cf TR 2004/D25; CSR (Vic) v Victoria
Gardens Developments P/L [2000] VSCA 233.
112
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The transfer must be a transfer in the capacity of beneficiary and not on sale. There must not be any
collateral consideration.
The beneficiary must receive the property in its capacity that it owned the units. Where the unit holder
was a company there must be no change in ownership control or as a trustee there must be no change
in the relevant beneficiary from the date the land was acquired by the principal unit trust.
The unit trust is treated as a separate entity for GST purposes. 113 Accordingly, the in kind distribution of
property will have GST consequences.114
Partition and exchange and in-specie distribution projects
The purpose of this example is to demonstrate how a partition and exchange occurs.
Jack and Jill inherited a property at tenants-in-common. Jack and Jill wish to subdivide the land
so each owns their own block.
A partition of land occurs when W and B as co-owners of both ‘white acre’ and ‘black acre’ exchange
their interests so that W solely owns white acre and B solely owns black acre. 115
In Maybelina Investments P/L v CSR (Vic),116 M, A and I acquired property as co-owners to develop and
partition 6 lots. Prior to partition 2 lots were sold to third parties. The partition of the balance land was
effected by sale contracts for a specified monetary amount. The SRO argued that since the transaction
was effected as a sale, it was not a partition and it was subject to transfer duty. Further, since some land
was removed from the pool of land, a partition could not occur in respect of any of the property because
there was not a community of ownership of the original acquired property.
VCAT held that a partition occurred in respect of the land interests exchanged despite being effected by
a sale. However, no partition occurred in respect of the lots sold to third parties accordingly, duty was
payable on the value of that land.
Ruling DA.017 provides the following worked example:
Example
X and Y own land in Victoria valued at $100,000 with a respective 30% and 70% interests in the land. The
land is partitioned under an agreement such that after the partition, each has an interest of $50,000 in the
land.
No duty would be charged on the transfer of Y's interest in the land because the value of Y’s interest in
the land prior to the partition (ie $70,000) exceeds the value after the partition (ie $50,000). Duty would be
Sec 23-5 & 184-1 GSTA 1999.
By analogy with partnerships see Rulings GSTR 2003/13 & GSTR
2003/D5.
113
115
114
116
© Ron Jorgensen 2015
Sec. 27 DAV 2000; CSR (Vic) v Christian [1991] 2 VR 129.
Maybelina Investments P/L v CSR (Vic) [2004] VCAT 549.
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charged on the transfer of X's interest in the land because the value after the partition (ie $50,000) is
greater than that before the partition (ie $30,000). Duty would therefore be charged on the transfer of the
interest in land to X and calculated on a value of $20,000.
Provided each block is of equivalent value to the value of the tenants-in-common interest, no duty should
be paid.
GST residential development classifications
This example discusses the differences between different types of residential premises for GST
purposes.
Jack owned a terrace and significantly renovated the interior, including moving walls, altering
the location of the bathroom, refurbishing the kitchen and building a second story on the rear of
the terrace. Jack used the terrace as a dental surgery. Jack listed the property for sale and the
purchaser wanted to use the property as medical treatment rooms.
10% GST is levied on the value (or deemed value) of taxable supplies of goods, services, rights and
things connected with Australia made in the course or furtherance of an enterprise that is registered or
required to be registered but does not include GST-free, financial or input taxed supplies.117
Such an enterprise is entitled to an input tax credit or reduced input tax credit in respect of creditable
acquisitions of goods, services, rights and things obtained in the course or furtherance of the enterprise
that are not referable to GST-free, financial or input taxed supplies.118
The supply of new residential premises is a taxable supply. The supply of residential premises is an
input taxed supply. The supply of commercial residential premises is a taxable supply. 119
‘Residential premises’ means land or a building that is occupied or is intended to be occupied and is
capable of being occupied as a residence or for residential accommodation (regardless of the term of
the occupation or intended occupation).120
The character of the premises is determined by the physical characteristics of the premises test 121
without reference to the supplier’s use of the premises122 or the recipients intend use of the premises.123
Jack’s terrace demonstrates all the objective characteristics of residential premises. Jack’s use of the
premises and the recipient’s intended use of the premises is irrelevant and does not convert the
premises into commercial premises.
The premises will be new residential premises where the premises are substantially renovated. 124
The Commissioner considers substantial renovation includes:
1.
the renovation needs to affect the building as a whole and result in the removal or replacement of
all or substantially all of the building;125
2.
substantial renovations can be the structural or non-structural components of the building;126
3.
the removal and replacement of a kitchen and bathroom will not of itself be substantial
renovation;127
117
Sec. 9-5 GSTA 1999.
Sec. 11-20 GSTA 1999.
119
Sec. 40-65 GSTA 1999
120
Section 195-5 GSTA 1999.
121
Sunchen P/L v FCT [2010] FCAFC 138
122
Ruling GSTR 2000/20 at [19] and [22] does not apply.
118
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123
Toyama P/L v Landmark Building Developments P/L
2006 ATC 4160; Decision Impact Statement (4541/02).
124 Sec. 40-75 GSTA 1999; GSTR 2003/3.
125 GSTR 2003/3 at [61].
126 GSTR 2003/3 at [69].
127 GSTR 2003/3 at [76].
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4.
the additional story to the building was not substantial renovations;128
Reasonable practitioners can differ on what constitutes substantial renovation and whether substantial
renovations has occurred to Jack’s terrace.
Reasonable practitioners can differ on whether the sale is the input taxed supply of residential premises
or the taxable supply of new residential premises.
GST going concern project disposals
This example discusses whether the supply of an incomplete property development can constitute a
GST free supply of a going concern.
Jack owned 50 hectares of land and carried on a property development business of subdividing
the land into residential blocks over 3 stages. At the end of stage 1, Jack sells the land to a new
developer and agrees to continue construction of stages 2 and 3. Up until settlement Jack
continued to the development in accordance with the development timetable.
The supply of a going concern is GST-free if for consideration, the recipient is GST registered or required
to be GST registered, all things necessary for the continued operation of the enterprise are supplied and
the supplier and recipient agree in writing that the supply is of a going concern. 129
In Aurora Developments P/L v FCT130 the supply was not a going concern because the supplier had
abandoned the development activities before settlement. Theoretically it should be possible to continue
the development activities up until the date of settlement. There are some practical difficulties in how to
contractually manage this - e.g. adjustments for the materials and expenses up until settlement since it
is not defrayed from trading income.
Any hiatus between the completion of stage 1 and the continuation of work on stage 2 by Jack may
result in the property development enterprise not being carried on up to the date of the supply.
20 October 2015
Ron Jorgensen
Partner
Rigby Cooke Lawyers
Chartered Tax Advisor
Accredited Specialist in Tax Law
T
03 9321 7824
M
0414 967 411
F
03 9321 7900
A
Level 11, 360 Elizabeth Street, Melbourne, Victoria,
3000
E
[email protected]
W
www.rigbycooke.com.au
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www.taxlore.biz
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@TaxLore
128
129
GSTA TPP 068.
Sec. 38-325 GSTA 1999.
© Ron Jorgensen 2015
130
Aurora Developments P/L v FCT [2011] FCA 232.
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Glossary
DAV 2000
GSTA 1999
ITAA 1936
ITAA 1997
Duties Act 2000 (Vic)
A New Tax System (Goods and Services Tax) Act 1999 (Cth)
Income Tax Assessment Act 1936 (Cth)
Income Tax Assessment Act 1997 (Cth)
Disclaimer
This publication contains commentary of a general nature only and does not constitute taxation advice. Rigby
Cooke Lawyers recommend that you obtain professional advice regarding your specific circumstances. No liability
is accepted for any loss occasioned as a result of any material in this publication.
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