Private ruling: CGT - disposal - subdivision
Published: June 2015
Ruling period: Year ending 30 June 2015 | Year ending 30 June 2016 | Year ending 30 June 2017 | Year ending 30 June 2018 | Year ending 30 June 2019
Date scheme commenced: 1 July 2014

Ruling: Q1: Will the proceeds received from the sale of the subdivided blocks be assessable pursuant to sections 6-5 or 15-15 of the Income Tax Assessment Act 1997 (ITAA 1997)? | A1: No | Q2: Will the proceeds received from the sale of subdivided blocks be taxed under the capital gains tax provisions of the ITAA 1997? | A2: Yes | Q3: Will any capital gain or capital loss you make on the disposal of each subdivided block be disregarded for CGT purposes? | A3: Yes.

Relevant facts and circumstances: You acquired a parcel of land at (the property) before 20 September 1985. You have primarily used the property for farming purposes since acquisition. From May 20XX a 'Precinct Structure Plan' applied to the property and it was rezoned as an Urban Zone. You did not apply to have, nor took part in the rezoning of the property. After rezoning, the property was assessed for land tax. You objected to the assessment and you were granted a primary production land exemption under section 67 of the Land Tax Act 2005 (VIC) for the 20XX to 20XX years. Due to the change in zoning, subdividing the land was investigated and it was decided that a subdivision would be the best way to dispose of the land and to maximise the return. You have not been involved with land subdivision in the past and have not been involved in any business connected with development of land. In December 20XX you entered into a development agreement with A (the Developer) to subdivide the property into XXX lots. You do not have any connection to A apart from the development agreement. Your agreement with the developer is a purely commercial one, at arm's length and entered into in good faith. The intention of the agreement is to allow the developer to do all things to the land to capitalise on the subdivision approval and for you to deliver the land for sale. The developer will be responsible for all work associated with the development and subdivision of the land. The only development works carried out will be those required by the development approval. You will not commit any funds to the development of the land. The developer will be responsible for funding the project costs. You have consented to the land being used as security toward the developer's funding obligations.

Relevant legislative provisions: Income Tax Assessment Act 1997 Section 6-5 | Income Tax Assessment Act 1997 Subsection 104-10(5) | Income Tax Assessment Act 1997 Subsection 108-70(3) | Income Tax Assessment Act 1997 Section 108-80

Reasons for decision: Summary: The subdivision of the land is considered to be a mere realisation of a capital asset and will be subject to the capital gains tax provisions of the ITAA 1997. Provided the costs of the development (for example, the construction of roads and the provision of electricity, water and gas to the blocks) do not exceed the relevant improvement threshold, then the entire capital gain made on the disposal of the subdivided blocks will be disregarded. | Detailed Reasoning - Detailed reasoning: Under section 6-5 of the ITAA 1997, the assessable income of an Australian resident includes ordinary income derived both in and out of Australia during an income year. Ordinary income is defined as income according to ordinary concepts. Additionally, section 15-15 of the ITAA 1997 specifies that your assessable income includes profit arising from the carrying on or carrying out of a profit-making undertaking or plan. However, this provision does not apply to a profit that is assessable as ordinary income under section 6-5 of the ITAA 1997 or which arises in respect of the sale of property acquired on or after 20 September 1985. In FC of T v The Myer Emporium (1987) 163 CLR 199; 87 ATC 4363; (1987) 18 ATR 693 ( Myer Emporium ), the Full High Court expressed the view that profits made by a taxpayer who enters into an isolated transaction with a profit making purpose can be assessable income. Taxation Ruling TR 92/3 considers the assessability of profits on isolated transactions in light of the principles outlined in Myer Emporium . According to Paragraph 1 of TR 92/3, the term isolated transactions refers to: • those transactions outside the ordinary course of business of a taxpayer carrying on a business, and • those transactions entered into by non-business taxpayers. Paragraph 6 of TR 92/3 provides that a profit from an isolated transaction will generally be income when both the following elements are present: • your 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. In contrast, paragraph 36 of TR 92/3 notes that the courts have often said that a profit on the mere realisation of an investment is not income, even if the taxpayer goes about the realisation in an enterprising way. However, if a transaction satisfies the elements set out above it is generally not a mere realisation of an investment. In your case, you do not carry on a business of buying, selling or developing land. You purchased the property as farming land. You will have minimal involvement in the subdivision of the land and will only change the land to the extent that you are required for council purposes. Accordingly, the proceeds from the sale of the subdivided blocks will not be included in your ordinary income. Rather, the subdivision is considered to be a mere realisation of a capital asset and the proceeds will be subject to the capital gains tax provisions in Part 3-1 of the ITAA 1997. | Detailed Reasoning - Capital gains tax: As the land was acquired before 20 September 1985, it is a pre-CGT asset. Disposal of a pre-CGT asset does not give rise to a taxable capital gain in accordance with paragraph 104-10(5)(a) of the ITAA 1997. Furthermore, subdivision of the land does not alter its pre-CGT status. Taxation Determination TD 7 states: Where pre-CGT land is subdivided after 19 September 1985 the land will maintain its pre-CGT acquisition date because no CGT event has happened. The subdividing of the land is not itself a CGT event: section 112-25 of the ITAA 97. Therefore, as the land was acquired pre-CGT the capital gain made on the disposal of the subdivided blocks will be disregarded under subsection 104-10(5) of the ITAA 1997, subject to the value of the capital improvements. | Detailed Reasoning - Further issues for you to consider: Under subsection 108-70(3) of the ITAA 1997, capital improvements to a pre-CGT asset that are related to each other may be treated as a separate CGT asset if the total of their cost bases when a CGT event happens (for example a disposal) in relation to the asset is: • more than the improvement threshold for the relevant income year (for the year ended 30 June 2015, the threshold is $140,443), and • more than 5% of the capital proceeds from the event. In your case, the total subdivision and land development costs are considered related to each other in accordance with section 108-80 of the ITAA 1997. The total cost of these capital improvements is to be allocated over all of the subdivided blocks when determining if the capital improvements will be treated as a separate CGT asset. Therefore, the expenditure apportioned to each subdivided block will have to be less than the improvement threshold for the relevant year. Where this is the case, the capital improvement expenditure for the purposes of any subsequent disposal of any of these blocks of land will not be taken to be a separate CGT asset.