Private ruling: Subdivision of land - business income or capital gain event
Published: July 2013
Ruling period: Year ended 30 June 2013; | Year ending 30 June 2014; | Year ending 30 June 2015; | Year ending 30 June 2016; | Year ending 30 June 2017.
Date scheme commenced: 11 June 2013

Ruling: Q1: Will the subdivision of the land owned by the taxpayer amount to the carrying on of a business or a profit making undertaking? | A1: No. | Q2: Will the proceeds from the sale of the subdivided land be assessable income under section 6-5 of the Income Tax Assessment Act 1997 (ITAA 1997)? | A2: No. | Q3: If the answers to questions 1 and 2 are 'no' then will the sale of the subdivided land be subject to the capital gains tax rules under Part 3-1 of the ITAA 1997? | A3: Yes.

Relevant facts and circumstances: The taxpayer is a company and operates a farm adjacent to the land to be subdivided. The taxpayer entered into a contract to purchase the land. The sole purpose of the purchase of the land was for farming. The taxpayer was led to believe the land was suitable for farming and was told it would support a number of head of livestock. The taxpayer invested money into improving the land. They installed domestic and stock watering system, gravel driveway, tree plantings, stock yards, livestock troughs, cyclone gates, fencing, soil management and grazing management and sought alternative land use advice. The taxpayer attempted to farm the land for a number of years, but unfortunately the farming activities were unsuccessful. The quality of the land was classified, as per information from Dept of Primary Industries, as being class 5, 6 and 7, 5 being slight to moderate limitations, 6 severe limitations and 7 being very severe to extreme limitations. As a consequence, the taxpayer considered other options for the land and approached the local council in relation to selling off the land as one parcel or maybe two. The Council visited the site and reviewed the taxpayer's plans. The Council then advised them that the land needed to be subdivided into more than two parcels. The taxpayer approached a development company to assist with the process. This initial process was stalled by a number of planning issues. After a number of years the taxpayer was introduced to another development company to take over the process and the new developer agreed to become the project manager. A planning permit was issued and the taxpayer entered into an agreement with the developer. The taxpayer was approved for a loan to assist with the project. At the time the taxpayer's time was fully taken up with the operation of the farm and as such the development company took charge of the project management and the taxpayer merely providing the finance and attended meetings as required. The life of the development is X years.

Relevant legislative provisions: Income Tax Assessment Act 1936 section 25; | Income Tax Assessment Act 1936 section 26; | Income Tax Assessment Act 1997 section 6-5; | Income Tax Assessment Act 1997 section 15-15; | Income Tax Assessment Act 1997 Part 3-1; | Income Tax Assessment Act 1997 Part 3-3; | Income Tax Assessment Act 1997 section 104-10; | Income Tax Assessment Act 1997 section 108-5; | Income Tax Assessment Act 1997 section 110-25; | Income Tax Assessment Act 1997 section 112-25.

Reasons for decision: Summary: The taxpayer's involvement and activities are not indicative of the business of subdividing and realising property. The taxpayer's activities are not the same nor carried on in a manner similar to those of a company engaging in the trade of subdividing and realising property. The subdivision of the land amounts to a mere realisation of a capital asset and not a business or profit-making undertaking or scheme. | Detailed Reasoning - Detailed reasoning: Taxation Ruling TR 97/11 Income tax: am I carrying on a business of primary production provides at paragraph 23: There are no hard and fast rules for determining whether a taxpayer's activities amount to the carrying on of a business of primary production. The facts of each case must be examined. In Martin at CLR 474; AITR 551 Webb J said: 'The test is both subjective and objective: it is made by regarding the nature and extent of the activities under review, as well as the purpose of the individual engaging in them, and, as counsel for the taxpayer put it, the determination is eventually based on the large or general impression gained.' Paragraph 24 of TR 97/11 then states: The nature of the activity, the taxpayer's intention and the method of operation help determine whether a business of primary production is being carried on. Many of the relevant indicators are stated in the decision of the Full Federal Court in Ferguson . Bowen CJ and Franki J said in their joint judgment at FLR 314; ATC 4264-4265; ATR 876-877: 'Section 6 of the Income Tax Assessment Act [1936] defines 'business', stating that it includes any profession, trade, employment, vocation or calling, but does not include occupation as an employee. This does not afford much assistance in the present case. It is necessary to turn to the cases. There are many elements to be considered. The nature of the activities, particularly whether they have the purpose of profit-making, may be important. However, an immediate purpose of profit-making in a particular income year does not appear to be essential. Certainly it may be held a person is carrying on business notwithstanding his profit is small or even where he is making a loss. Repetition and regularity of the activities is also important. However, every business has to begin, and even isolated activities may in the circumstances be held to be the commencement of carrying on business. Again, organization of activities in a businesslike manner, the keeping of books, records and the use of system may all serve to indicate that a business is being carried on. The fact that, concurrently with the activities in question, the taxpayer carries on the practice of a profession or another business does not preclude a finding that his additional activities constitute the carrying on of a business. The volume of his operations and the amount of capital employed by him may be significant. However, if what he is doing is more properly described as the pursuit of a hobby or recreation or an addiction to a sport, he will not be held to be carrying on a business, even though his operations are fairly substantial.' (emphasis added) In the case Re Lindsay Thomas Statham and Sydney Douglas Bickerton As Trustees of the Estate of Charles Neville Adermann, Deceased v Commissioner of Taxation [1988] FCA 463 (23 December 1988) (Statham Case) the Court looked at similar circumstances to the taxpayer's where land originally purchased for farming was later subdivided and sold. Reasons for the Statham Case decision were provided as: 27. …that the mere realisation of an asset at a profit does not necessarily render the profit taxable. The profit must arise from the carrying on of a business or a profit-making undertaking or scheme. The mere magnitude of the realisation does not convert it into such a business, undertaking or scheme; but the scale of the realisation activities is a relevant matter to be taken into account in determining the nature of the realisation, i.e. in determining whether the facts establish a mere realisation of a capital asset or a business or profit-making undertaking or scheme. 36. ….. finding that the owners applied themselves in an enterprising way to the realisation of a capital asset. There is nothing surprising in the fact that they went about this realisation in a manner calculated to maximise their receipts. The fact that this occurred does not necessarily make the proceeds either profits from an undertaking or scheme, or income from a business. 45. We are satisfied, after applying the principles of law to which we have referred above to the established facts that the owners did not enter into the business of selling land. Therefore, the realisation of the land by sale did not result in income being earned by them for the purposes of sub-s.25(1). We are also of the view that this was not a case of profit which arose from the carrying on or carrying out of any profit-making undertaking or scheme. We are satisfied on the facts that what occurred was the mere realisation, by the most advantageous means, of the asset which the owners had on their hands when they abandoned the intention of farming the subject property. The taxpayer was and still is involved in the businesses of farming. The land was originally purchased for the sole purpose of farming. After attempting to farm the land for a number of years, and it was found that the land was not suitable for farming and a decision was made to realise the property. The taxpayer did not have the intention to carry on a business of selling land when the acquisition took place. The taxpayer has applied itself in an enterprising way to the realisation of a capital asset. There is nothing surprising in the fact that the taxpayer went about this realisation in a manner calculated to maximise their receipts. The fact that this occurred does not make the proceeds either profits from an undertaking or scheme, or income from a business. The taxpayer's involvement and activities are not indicative of the business of subdividing and realising property. The taxpayer's activities are not the same, nor carried on in a manner similar to, those of a company engaging in the trade of subdividing and realising property. The subdivision of the land amounts to a mere realisation of a capital asset and not a business or profit-making undertaking or scheme. | Summary: The taxpayer did not acquire the land for the purpose of making a profit by its sale. Taking the above factors into account, we do not regard the taxpayer as having ventured into a new business of profit making though subdivision of land. Whilst the taxpayer has sought to realise the asset in the most advantageous way (subdivision), this does not preclude the undertaking from being the realisation of a capital asset of the farming business. Consequently, the proceeds from the realisation of the property will not give rise to ordinary income under section 6-5 of the ITAA 1997. | Detailed Reasoning - Detailed reasoning: The proceeds from realising an asset may fall into one of the following situations: · It gives rise to income according to ordinary concepts under section 6-5 of the Income Tax Assessment 1997 (ITAA 1997); or · It gives rise to profit from the carrying on or carrying out of a profit-making undertaking or plan under section 15-15 of the ITAA 1997 if the asset was acquired before 20 September 1985; or · It gives rise to a gain under capital gains tax (CGT) provisions in Part 3-1 of the ITAA 1997. | Detailed Reasoning - Income according to ordinary concepts: Taxation Ruling TR 92/3 Income tax: whether profits on isolated transactions are income discusses the circumstances under which profits or gains from an isolated transaction are income. Paragraph 6 of TR 92/3 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 the taxpayer in entering into the transaction was to make a profit or gain. (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. The dividing line between realisations that give rise to assessable income and those that involve the mere realisation of a capital asset is narrow. The Ruling sets out our views as to the application of the decision of the Full Court of the High Court of Australia in FC of T v. The Myer Emporium Ltd (1987) 163 CLR 199; 87 ATC 4363; 18 ATR 693. Paragraph 15 of TR 92/3 provides: If a taxpayer carrying on a business makes a profit from a transaction or operation, that profit is income if the transaction or operation: (a) is in the ordinary course of the taxpayer's business (see paragraph 32 for an explanation of the circumstances in which a transaction is in the ordinary course of business) - provided that any gross receipt from the transaction or operation is not income; or (b) is in the course of the taxpayer's business, although not within the ordinary course of that business, and the taxpayer entered the transaction or operation with the intention or purpose of making a profit; or (c) is not in the course of the taxpayer's business, but (i) the intention or purpose of the taxpayer in entering into the transaction or operation was to make a profit or gain; and (ii) the transaction or operation was entered into, and the profit was made, in carrying out a business operation or commercial transaction. Paragraph 32 provides clarity on 'profits or gains made in the ordinary course of carrying on business' to be either a profit or gain from a transaction which itself is a part of the ordinary business of the taxpayer and a profit or gain arising from a transaction which is an ordinary incident of the business. In Myer , at 163 CLR 213; 87 ATC 4369; 18 ATR 699-700, the Full High Court had this to say about the nature of profits from isolated transactions: 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 realisation. 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. The taxpayer was (and still is) carrying on a farming business when the land was purchased. The land was intended to be exclusively used for farming. The taxpayer had intended to continue carrying on farming from the site for many years, and did not intend for the land to be rezoned and subdivided. It is accepted that the sale and subdivision of the land is not in the ordinary course of the farming business nor is it an ordinary incident of the business. The profits on sale of the subdivision give rise to ordinary income under section 6-5 of the ITAA 1997 only if the intention or purpose of the taxpayer in entering into the transaction or operation was to make a profit or gain. The taxpayer did not acquire the land for the purpose of making a profit by its sale. Taking the above factors into account, we do not regard the taxpayer as having ventured into a new business of profit making though subdivision of land. Whilst the taxpayer has sought to realise the asset in the most advantageous way (subdivision), this does not preclude the undertaking from being the realisation of a capital asset of the farming business. Consequently, the proceeds from the realisation of the land will not give rise to ordinary income under section 6-5 of the ITAA 1997. | Summary: The sale of the subdivided land will be subject to CGT rules under Part 3-1 of the ITAA 1997. | Detailed Reasoning - Detailed reasoning: A capital gain or a capital loss may arise if a capital gains tax event (CGT event) happens to a capital gain tax asset (CGT asset). Section 108-5 of the ITAA 1997 provides that a CGT asset is any kind of property, or a legal or equitable right that is not property. Taxation Determination TD 97/3 answers the question if a parcel of land is subdivided into lots (blocks) do Part 3-1 and 3-3 of the ITAA 1997 treat the disposal of a block as an asset in it own right. The disposal of a subdivided block is treated as the disposal of an asset in its own right and not as a disposal of part of an asset (the original parcel of land). The subdivided and the newly created blocks are treated as separate assets under the capital gains provisions. Paragraph 4 of TD 97/3 states that when an original parcel of land is split into two or more blocks, and you are the beneficial owner of the original land and each of the new blocks, section 112-25(2) of the ITAA 1997 provides that each element of the cost base and reduced cost base of the original asset is apportioned in a reasonable way and included in the corresponding element of the cost base and reduced cost base of each new asset. As discussed above in relation to the Statham Case , in which farming land was subdivided and sold, the Full Federal Court held that the proceeds were not assessable under either section 25 or 26(a) of Income Tax Assessment Act (ITAA 1936). The subdivision of the land amounted to a mere realisation of a capital asset. The taxpayer is undertaking the realisation of a capital asset of the farming business and a CGT event A1 (section 104-10 of the ITAA 1997) will happen when the taxpayer disposes of the subdivided land.