ATO ID 2006/94: Capital gains tax: time of CGT event A1 where body corporate transfers property to developer
Date of decision: 24 March 2006
Year of income: Year ended 30 June 2002 Year ended 30 June 2003 Year ended 30 June 2004 Year ended 30 June 2005 Year ended 30 June 2006
Business line: Private Groups and High Wealth Individuals

Issue
In a case where, as part of a property development and sale of blocks, a body corporate 'sells-back' a 'new lot' to a developer and: is the time of the CGT event, being the disposal of the new lot, the time that the final sale contract is entered into pursuant to paragraph 104-10(3)(a) of the Income Tax Assessment Act 1997 (ITAA 1997)?

Decision
Yes. The words 'contract for the disposal' of a CGT asset in paragraph 104-10(3)(a) of the ITAA 1997 refer to the contract that is the source of the obligation to make a specific disposal. Even though the body corporate was not itself required under that contract to make the transfer, there is nevertheless a direct and proximate connection between the contract and the disposal. In the circumstances of this case, it is sufficient to satisfy the requirements of paragraph 104-10(3)(a). It does not matter that the body corporate was not a party to that contract. By it, the purchasers were legally bound to ensure that the body corporate effected the disposal, and this had the practical effect of ensuring that the disposal happened. Further, the developer's consideration for the acquisition of the new lot is contained in the agreements with the purchasers. There is no subsequent agreement by which this is done.

Facts
A developer builds a block of three units and enters into contracts to sell the units to individual purchasers (the purchasers). Just after the first sale contract is entered into, the strata plan for the scheme is registered under the Strata Schemes (Freehold Development) Act (NSW) 1973. On registration, the scheme comprises three lots and common property. This is also when the body corporate comes into existence. All contracts for sale contain a special sale back condition. Under this condition, the purchasers were legally bound to propose, and vote in favour of, body corporate resolutions to subdivide the common property to form a new lot and to transfer that lot to the developer. The purchase price under each sale contract reflects the fact that, on fulfilment of the terms of each sale contract, a valuable new lot will be transferred to the developer. The dimensions of the new lot are marked on a plan annexed to each contract. The developer's consideration for the new lot is provided by virtue of these contracts. The developer always intended to develop a scheme comprising four lots. However, it was necessary to adopt a staged approach by selling three units (with sale back conditions) to fund the development of the new lot. The only means by which the developer could give effect to this intent was to include a sale back condition in each sale contract. It was also necessary for all of the purchasers to vote in favour of the subdivision and transfer of the new lot in order for the body corporate resolutions to pass. After the transfer of the final unit from the developer to the purchaser, all of the purchasers are members of the body corporate. They exercise their voting powers to pass resolutions for the transfer of the new lot in fulfilment of their obligations under the sales contracts. This effects the disposal of the new lot by the body corporate to the developer. CGT event A1 in section 104-10 of the ITAA 1997 happens to the body corporate on completion of the transfer of the new lot to the developer. At issue is the time of the event under subsection 104-10(3) of the ITAA 1997.

Reasons for decision
Summary: CGT event A1 in section 104-10 of the ITAA 1997 happens if you dispose of an asset, that is, if a change of ownership occurs from you to another entity: subsections 104-10(1) and (2). The time of the event is when you enter into the contract for the disposal or, if there is no contract, when the change of ownership occurs: subsection 104-10(3) of the ITAA 1997. To work out how the timing rules in CGT event A1 apply on the facts of this case, it is necessary to consider whether any of the sale contracts entered into by the vendor and the respective purchasers satisfy the description 'contract for the disposal' in paragraph 104-10(3)(a) of the ITAA 1997. Meaning of 'contract for the disposal' Paragraph 104-10(3)(a) of the ITAA 1997 rewrote, in part, subsection 160U(3) of the Income Tax Assessment Act 1936 (ITAA 1936). The words 'contract for the disposal' in paragraph 104-10(3)(a) rephrased the requirement in subsection 160U(3) that a disposal or acquisition took place 'under a contract'. In considering the meaning of the words 'under a contract' for the purposes of subsection 160U(3) of the ITAA 1936, the Federal Court has held that the contract under which an asset is acquired or disposed of is the contract through whose operation the asset changes ownership: Elmslie v. Federal Commissioner of Taxation (1993) 46 FCR 576; (1993) 93 ATC 4964; (1993) 26 ATR 611 at FCR 592; ATC 4976; ATR 626. The Full Federal Court in Kiwi Brands Pty Ltd v. Commissioner of Taxation (1998) 90 FCR 64; 40 ATR 477; 99 ATC 4001 at FCR 77; ATR 489 and ATC 4011 similarly identified the contract as one 'under which there was a direct connection with the disposition required by it'. There was no requirement in subsection 160U(3) of the ITAA 1936 that the vendor of the asset had to be a party to the relevant contract. The rewritten law in paragraph 104-10(3)(a) of the ITAA 1997 refers to the time when 'you' enter into the contract for the disposal, but the better view is that it highlights the most common case (where the vendor is a party to the contract) without intending to narrow the scope of the law and to exclude other situations so long as the disposal can be said to happen under the relevant contract. In that regard, the establishment of a mere causative link, that the disposal would not have taken place but for the existence of the contract, is not sufficient to attract the operation of the contract timing rule in subsection 160U(3) of the ITAA 1936. The contract must actually require the disposition. In this case, the inclusion of the sale back condition in the sale contracts was the only means by which the intention of the parties to transfer the property could be given contractual form. Further, it was only at the time the final sale contract was entered into that all three purchasers were legally bound to fulfil the terms of the sale back conditions contained in the sale contracts which involved ensuring that the body corporate disposed of the new lot to the developer. On a strict and narrow application of the existing law, it might be said that the contracts between the developer and the purchasers do not of themselves oblige the body corporate to 'sell-back' the new lot, and therefore cannot be said to require the disposal. They merely ensure that the relevant steps will be taken by the purchasers to make it happen (assuming, of course, that the purchasers are not in breach). But against that must be weighed the very direct connection between the final sale contract entered into, at which point all purchasers were legally bound to fulfil the terms of the sale back condition, and the transfer that subsequently took place. It was clearly the intention of the developer and the purchasers that the 'new lot' would be 'conveyed back', and all the terms necessary to do that, including the developer's consideration therefore, were provided under the contracts. There was no subsequent agreement by which these things happened. To find that the body corporate transferred the property not under the final sales contract would have the effect of invoking for the body corporate the market value substitution rules for capital proceeds at the date of transfer. This would be wholly inconsistent with the understanding between the developer and the purchasers in respect of the 'new lot' to be 'sold back', and the consideration to be provided for it. On these particular and unusual facts, it is open to conclude that the 'contract for the disposal' of the new lot by the body corporate was the final sale contract.

Legislative references: Income Tax Assessment Act 1936 subsection 160U(3)
Case references: Elmslie and Others v. Commissioner of Taxation (1993) 46 FCR 576 (1993) 26 ATR 611 93 ATC 4964
Subject references: CGT event A1-disposal of a CGT asset CGT events