Private ruling: Capital gains tax
Date of advice: 26 April 2023
Published: 13 June 2023
Ruling period: Year ended 30 June 20XX
Date scheme commenced: 1 July 20XX

Ruling: Q1: Is the profit or gain made from the sale of various allotments of land a capital gain pursuant to subsection 104-10(4) of the Income Tax Assessment Act 1997 (ITAA 1997)? | A1: Yes | Q2: If the answer to the first question is no, at what point did the land become trading stock under section 70-30 of the ITAA 1997? | A2: The Property will not change from being held as a capital asset to trading stock

Relevant facts and circumstances: 1. The taxpayer purchased some blocks of farmland jointly with their parent in 1982. The land was used to produce primary production income from purchase date. 2. The taxpayer inherited the other 50% share in the land from their late parent's estate after their parent passed away. 3. The principal business operation has been sheep breeding and grazing. 4. A portion of the land has been leased to a third party since 20XX as the taxpayer was no longer to complete the labour-intensive farming activities across the entire land holding. 5. The taxpayer intended to fund their retirement by selling some portions of the land. 6. The taxpayer had the land subdivided to seven 3-acre blocks with individual titles for sales. A further 5 or 6 titles are planned from the land not yet subdivided. 7. The taxpayer has never sub-divided land in the past and does not intend to undertake any other development in the future other than the ones have been planned. 8. A few development activities were conducted for the new titles. Electricity and mains water have been connected; however, no wastewater connections have been provided. The land has not been cleared or levelled. 9. The allotments are adjacent to a public road which has allowed the taxpayer to sell the land with no other development works. 10. There has been no finance obtained to fund the process due to the amount of outlay required. 11. The taxpayer has applied for an ABN with GST registration to sell the land using the margin scheme. 12. Some of the blocks have been sold. 13. There are 3 blocks available for sale and listed with a local agent.

Relevant legislative provisions: Income Tax Assessment Act 1997 Part 3-1 | Income Tax Assessment Act 1997 Part 3-3 | Income Tax Assessment Act 1997 section 6-5 | Income Tax Assessment Act 1997 section 6-10 | Income Tax Assessment Act 1997 section 104-10 | Income Tax Assessment Act 1997 section 115-30 | Income Tax Assessment Act 1997 section 116-20 | Income Tax Assessment Act 1997 section 116-25 | Income Tax Assessment Act 1997 section 118-20 | Income Tax Assessment Act 1997 section 995-1

Reasons for decision: Summary: The gain made from the sale of blocks of lands will be a capital gain pursuant to subsection 104-10(4). | Detailed Reasoning - Detailed reasoning: 14. The profits or gains made from the disposal of real property can be assessed for income tax purposes in a number ways, including: • Ordinary income under section 6-5 of the ITAA 1997, resulting from: o carrying on a business; or o an isolated or commercial transaction that was entered into with a profit-making intention; or • statutory income pursuant to the capital gains tax (CGT) provisions in Part 3-1 and 3-3 of the ITAA 1997 (section 6-10 of the ITAA 1997) Profits or gains made in the ordinary course of business 15. Taxation Ruling TR 92/3 - Income tax: whether profits on isolated transactions are income ('TR 92/3') sets out the Commissioner's view on the application of the principles established in Federal Commissioner of Taxation v The Myer Emporium Ltd (1987) 163 CLR 199 (' Myer '). Paragraph 32 of TR 92/3 states that a profit or gain made in the ordinary course of a business includes: • a profit or gain arising from a transaction which is itself a part of the ordinary business of a taxpayer (judged by reference to the transactions in which the taxpayer usually engages); and • a profit or gain arising from a transaction which is an ordinary incident of the business activity of the taxpayer, although not a transaction entered into directly in its main business activity. 16. In determining whether profits or gains made from the disposal of real property are made in the ordinary course of business, one must establish if a taxpayer is carrying on a business and what the nature of the business is. 17. The definition of 'business' for income tax purposes is wide and includes any profession, trade, employment, vocation or calling, but does not include occupation as an employee (subsection 995-1(1) of the ITAA 1997). 18. The principles in Taxation Ruling TR 97/11 Income tax: am I carrying on a business of primary production ('TR 97/11') provide guidance on whether a taxpayer is carrying on a business and can be applied in various contexts. Specifically, paragraph 13 of TR 97/11 provides a list of indicators that are relevant in determining whether a taxpayer is carrying on a business. In general, the indicators are: • 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. 19. No one indicator is decisive but rather different indicators must be considered in combination and as a whole. So the question of whether a business is being carried on is determined in an objective manner based on the weighing up of all the relevant facts and circumstances of each case. 20. In relation to property or land development, Taxation Determination 92/124: Income Tax: property development: in what circumstances is land treated as trading stock ('TD 92/124') recognises that repetitive buying and selling of property is not necessary to establish that a business of property acquisition, development and sale is being carried on. If a 'definite and continuous cycle of operations' has been initiated, a business of property development has commenced. 21. Once it is established that there is a business, it then follows that the profits made in the ordinary course of carrying on that business constitute income. This principle has been discussed in many court cases, generally in the context of distinguishing between income and capital receipts. Californian Copper Syndicate (Limited & Reduced) v. Harris (1904) 5 T.C. 159 ('Californian Copper Syndicate') has been cited with authority in many Australian court cases as the leading case regarding these principles.(See for example, Westfield Limited v Commissioner of Taxation (1991) 28 FCR 333, Commissioner of Taxation (Cth) v Myer Emporium Ltd (1987) 163 CLR 199, London Australia Investment Company Limited v Federal Commissioner of Taxation 77 ATC 4398 and CMI Services Pty Ltd v Federal Commissioner of Taxation (1990) 90 ATC 4428). 22. In Californian Copper Syndicate Lord Justice Clerk stated at 165-166 that: It is quite a well-settled principle in dealing with questions of assessment to income-tax, that where the owner of an ordinary investment chooses to realise it, and obtains a greater price for it than that for which he originally acquired it, the enhanced price is not profit...But it is equally well established that enhanced values obtained from realisation or conversion of securities may be so assessable, where what is done is not merely a realisation or change of investment, but an act done in what is truly the carrying on, or carrying out, of a business. ... What is the line which separates the two classes of cases it may be difficult to define, and each case must be considered according to its facts, the question to be determined being, is the sum of the gain that has been made a mere enhancement of value by realising a security, or is it a gain made by an operation of business in carrying out a scheme for profit-making. 23. In London Australia Investment Company Limited v Federal Commissioner of Taxation 77 ATC 4398 (' London Australia '), Gibbs J, in discussing the above principles, stated: Their Honours [in Colonial Mutual Life Assurance Society Ltd v Federal Commissioner of Taxation (1945) 73 CLR 604] went on to point out that not all of the proceeds of a business carried on by a taxpayer are income for the purposes of the [Income Tax Assessment] Act; they will be so only if they are income 'in accordance with the ordinary usages and concepts of mankind, except in so far as the Act states or indicates an intention that receipts which are not income in ordinary parlance are to be treated as income' (see at p. 615). However it is in my opinion established by this and many other cases in which Californian Copper Syndicate v. Harris has been applied that if the sale in question is a business operation, carried out in the course of the business of profit-making, the profit arising on the sale will be of an income character. To apply this criterion it is necessary 'to make both a wide survey and an exact scrutiny of the taxpayer's activities': Western Goldmines N.L. v. C. of T. (W.A.) (1938) 59 C.L.R. 729 at p. 740. 24. Gibbs J also noted that the test in Californian Copper Syndicate is applicable to any business. 25. Similarly, in Myer , the High Court stated that: Although it is well settled that a profit or gain made in the ordinary course of carrying on a business constitutes income, it does not follow that a profit or gain made in a transaction entered into otherwise than in the ordinary course of carrying on the taxpayer's business is not income. Because a business is carried on with a view to profit, a gain made in the ordinary course of carrying on the business is invested with the profit-making purpose, thereby stamping the profit with the character of income. Isolated transaction with a profit making intention 26. In some instances a profit or gain made from an isolated or commercial transaction could constitute ordinary income if the taxpayer's purpose or intention in entering into the transaction was to make a profit, notwithstanding that the transaction was not part of its daily business activities. 27. This was discussed in Myer , where the full bench of the High Court stated that: But a gain made otherwise than in the ordinary course of carrying on the business which nevertheless arises from a transaction entered into by the taxpayer with the intention or purpose of making a profit or gain may well constitute income. Whether it does depends very much on the circumstances of the case. Generally speaking, however, it may be said that if the circumstances are such as to give rise to the inference that the taxpayer's intention or purpose in entering into the transaction was to make a profit or gain, the profit or gain will be income, notwithstanding that the transaction was extraordinary judged by reference to the ordinary course of the taxpayer's business. Nor does the fact that a profit or gain is made as the result of an isolated venture or a "one-off" transaction preclude it from being properly characterized as income ( F.C. of T. v. Whitfords Beach Pty. Ltd . 82 ATC 4031 at pp. 4036-4037, 4042; (1982) 150 C.L.R. 355 at pp. 366-367, 376). The authorities establish that a profit or gain so made will constitute income if the property generating the profit or gain was acquired in a business operation or commercial transaction for the purpose of profit-making by the means giving rise to the profit. And further: The important proposition to be derived from [ Californian Copper Syndicate ] and [ Ducker v. Rees Roturbo Development Syndicate Ltd (1928) A.C. 132] is that a receipt may constitute income, if it arises from an isolated business operation or commercial transaction entered into otherwise than in the ordinary course of the carrying on of the taxpayer's business, so long as the taxpayer entered into the transaction with the intention or purpose of making a relevant profit or gain from the transaction. And further: The proposition that a mere realization or change of investment is not income requires some elaboration. First, the emphasis is on the adjective "mere" ( Whitfords Beach , at ATC pp. 4046-4047; C.L.R. p. 383). Secondly, profits made on a realization or change of investments may constitute income if the investments were initially acquired as part of a business with the intention or purpose that they be realized subsequently in order to capture the profit arising from their expected increase in value - see the discussion by Gibbs J. in London Australia , at ATC pp. 4403-4404; C.L.R. pp. 116-118. It is one thing if the decision to sell an asset is taken after its acquisition, there having been no intention or purpose at the time of acquisition of acquiring for the purpose of profit-making by sale. Then, if the asset be not a revenue asset on other grounds, the profit made is capital because it proceeds from a mere realization. But it is quite another thing if the decision to sell is taken by way of implementation of an intention or purpose, existing at the time of acquisition, of profit-making by sale, at least in the context of carrying on a business or carrying out a business operation or commercial transaction. 28. TR 92/3 also provides that profits from an isolated transaction will be income when: • the intention or purpose in entering into the transaction was to make a profit or gain, and • 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. 29. Even where the requisite intention may not exist on entering into the transaction, the High Court held in Whitfords Beach Pty Ltd v Federal Commissioner of Taxation (1983) 14 ATR 247 ( Whitfords ) there be a change of intention. 30. In Whitfords there was a change of intention at the time a company holding a large parcel of land originally acquired for long-term investment, adopted a new set of articles that changed the intended usage of the land. 31. In Rosgoe Pty Ltd v Commissioner of Taxation (2015) FCA 1231, Logan J reinforced that the intent at acquisition and later, on sale of the property should be considered separately and the transactions as distinct activities: When, later, the property was sold, the profit here arose not from the purchase but from the sale and because the sale was not part of the profit-making scheme the profit did not arise 'from the carrying on or carrying out' of that scheme. 32. The intention and purpose needs to be carefully considered in each and every case. In Westfield v Commissioner of Taxation [1991] FCA 86 (' Westfield '), Hill J said: What was said in Myer has been applied in a number of cases in this court since. Among them are Moana Sand Pty Limited v Federal Commissioner of Taxation (1988) 88 ATC 4897, and Federal Commissioner of Taxation v Cooling (1990) 22 FCR 42. It does not, however, follow from the judgment in Myer , or for that matter, from the judgments in any later cases, that every profit made by a Taxpayer in the course of his business activity will be of an income nature. To so express the proposition is to express it too widely, and to eliminate the distinction between an income and a capital profit. 33. The relevant intention or purpose of the taxpayer (of making a profit or gain) is the taxpayer's intention or purpose discerned from an objective consideration of the facts and circumstances of the case. Generally, in cases where a person's subjective purpose or intention is a relevant issue, the person's evidence as to their subjective purpose or intention can be considered but it must be tested closely, and received with the greatest caution. Capital gain from mere realisation 34. For CGT to apply there needs to be a CGT event that happens to a CGT asset. 35. A CGT asset is defined in section 108-5, with note 1 indicating land is a CGT asset. 36. Division 104 sets out the CGT events that can happen to a CGT asset and section 104-10 provides that CGT event A1 occurs on the disposal of an asset. 37. As a consequence of CGT event A1, subsection 104-10(4) provides that you make a capital gain if the capital proceeds from the disposal are more than the assets cost base. Or conversely you make a capital loss if the capital proceeds are less than the assets reduced cost base. 38. The mere realisation of a capital asset will be subject to the CGT provisions. 39. Where the sale is a 'mere realisation' the sale is on capital account to which the CGT rules will generally apply. These proceeds are not ordinary income. 40. The expression 'mere realisation' is used to distinguish a mere realisation from a business operation or a commercial transaction carrying out a profit making scheme. 41. In Westfield Ltd v FC of T 91 ATC 4234 ( 'Westfield') , the company was in the business of designing, constructing, letting and managing shopping centres. The company acquired land in the early 1970s and further land via an option which it subsequently sold and realised at a substantial gain. The Full Federal Court held that the disposal of land was on capital account as the necessary intention or purpose of making a profit on the sale of the land was absent. This was because the main aim of the company was to secure contracts to design, develop and operate/manage a shopping centre on the land. The disposal of the land was incidental to these purposes. The fact that the transaction was commercial or a business transaction was, of itself, insufficient. 42. The Full Federal Court in reaching its decision considered the judgement in Myer and stated that Myer ' emphasises that where a transaction occurs outside the scope of ordinary business activities, it will be necessary to find, not merely that the transaction is "commercial" but also that there was, at the time it was entered into, the intention or purposes of making a relevant profit' . 43. Other aspects of the judgement in Westfield discussed when profits from transactions outside the ordinary course of business of an entity constituted ordinary income: Once it is clear that the activity of buying and selling, which generated the profit, was not an activity in the ordinary course of business, or, for that matter, an ordinary incident of some other business activity, the profit in question will only form part of the assessable income of the appellant, by virtue of its being income in accordance with the ordinary concepts of mankind, if the appellant had a purpose of profit-making at the time of acquisition. And further... While a profit-making scheme may lack specificity of detail, the mode of achieving that profit must be one contemplated by the taxpayer as at least one of the alternatives by which the profit could be realised. Such was the case in [Steinberg v Federal Commissioner of Taxation (1972-5) 134 CLR 640]. But, even if that goes too far, it is difficult to conceive of a case where a taxpayer would be said to have made a profit from the carrying on, or carrying out, of a profit-making scheme, where, in the case of a scheme involving the acquisition and resale of land, there was, at the time of acquisition, no purpose of resale of land, but only the possibility (present, one may observe, in the case of every acquisition of land) that the land may be resold. The same may be said to be the case where s. 25(1) of the Act is involved. As the court observed in Myer, in the passage already set out, the property, which generates the gain, must be acquired in an operation of business or commercial transaction: "... for the purpose of profit-making by the means giving rise to the profit." 44. In determining whether a receipt is on revenue or capital account, the authorities establish that it is necessary to conduct "a wide survey and an exact scrutiny of the taxpayer's activities": Commissioner of Taxation v Stone (2005) 222 CLR 289 at [19]; Federal Commissioner of Taxation v Montgomery (1999) 198 CLR 639 at 663 [69]; both citing Western Gold Mines NL v Commissioner of Taxation (WA) (1938) 59 CLR 729 at 740 per Dixon and Evatt JJ. 45. This 'wide survey' is particularly important where the sale of the asset is by a taxpayer conducting a business. Jacobs J noted in London Australia at 127: The identification and characterization of the business carried on by the taxpayer is the essential task. 46. Under the principle in Grollo Nominees Pty Ltd v Commissioner of Taxation (1997) 73 FCR 452 at 514-515 there will be occasions when it is appropriate to take into account the activities of the broader group of which the taxpayer is a part. Conclusion 47. After considering the taxpayer's circumstances, it leads to the conclusion that the land was not acquired with the intention of profit making by sale, but rather to hold as a long-term assets for the purpose of gaining income from primary production. 48. The decision to realise the capital assets of part of the farmland is to fund the taxpayer's retirement. 49. The sales are considered a mere realisation of capital assets and is subject to capital gains tax pursuant to subsection 104-10(4). | Detailed Reasoning - Detailed reasoning: 50. Division 70 deals with the tax treatment of trading stock. The term 'trading stock' is defined very widely to include anything produced, manufactured or acquired, that is held for manufacture, sale or exchange in the ordinary course of business (section 70-10). This definition includes land. 51. Taxation Determination TD 92/124 Income tax: property development: in what circumstances is land treated as 'trading stock? (TD 92/124) provides that land will be treated as trading stock if it is held for the purpose of resale and a business activity which involves the dealing in land has commenced. Both the required purpose and the business activity must be present. 52. TD 92/124 further provides that the business activity is taken to have commenced when a taxpayer embarks on a definite and continuous cycle of operations designed to lead to the sale of the land. 53. TD 92/124 provides that land is treated as trading stock for income tax purposes if it is held for the purpose of resale and the Landowner embarks on a definite and continuous cycle of operations designed to lead to the sale of the land. It is not necessary that the acquisition of land be repetitive; a single acquisition of land for the purpose of development, subdivision and sale by a business commenced for that purpose would lead to the land being treated as trading stock. 54. The purpose of landholding can alter. Where land was originally acquired as a capital asset but is later ventured into a property development business it will become trading stock of the taxpayer. Section 70-30 of the ITAA 1997 applies where an item which is already owned by the taxpayer (but is not held as trading stock) starts being held as trading stock. 55. As discussed in Question 1, the taxpayer has not ventured into a business of property development, subdivision and sale of land. The Property will not change from being held as a capital asset to trading stock.