Private ruling: Application of the margin scheme
Date of advice: 7 June 2017
Published: October 2017

Ruling: Q1: Will X be able to apply the margin scheme to the supply of a residential unit at the property by X to either a company or the trustee of a unit trust established for the purpose of acquiring all X residential units at the property plus an adjacent property, developing the properties into apartments and commercial units and selling the apartments and commercial units? | A1: As X is neither registered for GST nor required to be registered, the supply of the residential unit by X to the company or trustee will not be a taxable supply and X will not be able to apply the margin scheme to that supply. However that does not mean that the company or trustee will acquire the unit through a supply that is 'ineligible for the margin scheme’ and the company or trustee will be able to apply the margin scheme to the sales of the apartments and commercial units.

Relevant facts and circumstances: X has an ABN but is not registered for GST. The unit: Pursuant to a Contract for Residential Lots in a Community Titles Scheme (Contract) dated May 201X X, Y and Z purchased the unit from A and B (Seller) for a Purchase Price of $. Settlement was 30 days from Contract Date and the unit was sold subject to a periodic residential tenancy. Clause 2.1 in the Terms of Contract states: Unless otherwise specified in this contract, the Purchase Price includes any GST payable on the supply of the Property to the Buyer. It was stated in the ruling request that the Purchase Price did not include GST, that the Seller did not issue a tax invoice to X, Y and Z and that X, Y and Z did not claim an input tax credit (ITC) in respect of the purchase of the unit. We were advised that the unit was purchased as an investment property and has been and/or currently is leased to a residential tenant. Proposed sale: The property comprises X residential units. X, Y and Z and the owners of the other units at the property together with the owner of the adjacent property intend to sell the X units and the adjacent property to either a company or the trustee of a unit trust which is yet to be established. X and the other vendors will hold either shares in the company or units in the unit trust and shares or units will also be issued to a developer. As soon as the company or unit trust is established X, Y and Z and each other vendor will grant to either the company or trustee of the unit trust an option to purchase the X units at the property plus the adjacent property. The company or trustee will develop both properties into more than YY apartments plus some commercial units. After obtaining a Development Approval the company or trustee will exercise the options, commence off-plan sales of the YY apartments and commercial units and demolish the existing buildings at both properties. The agreement pursuant to which X, Y and Z grant the company or the trustee of the unit trust an option to purchase the unit will include a term whereby X, Y and Z and the company or trustee agree that the margin scheme will apply to any sale of the unit upon exercise of the option.

Relevant legislative provisions: A New Tax System (Goods and Services Tax) Act 1999 section 75-5.

Reasons for decision: Summary: All legislative references are to A New Tax System (Goods and Services Tax) Act 1999 (GST Act) unless otherwise stated. As X is neither registered for GST nor required to be registered, the supply of the unit by X to the company or trustee will not be a taxable supply and X will not be able to apply the margin scheme to that supply. However that does not mean that the company or trustee will acquire the unit through a supply that is 'ineligible for the margin scheme’ and the company or trustee will be able to apply the margin scheme to the sales of the apartments and commercial units. | Detailed Reasoning - Detailed reasoning: Subsection 75-5(1) provides that the margin scheme applies in working out the amount of GST on a taxable supply of real property made by selling a freehold interest in land, a stratum unit or granting or selling a long term lease if the supplier and the recipient of the supply have agreed in writing that the margin scheme is to apply. 'Taxable supply’ is defined in section 9-5 of the GST Act: You make a taxable supply if: (a) you make the supply for *consideration; and (b) the supply is made in the course or furtherance of an *enterprise that you *carry on; and (c) the supply is *connected with the indirect tax zone; and (d) you are *registered, or *required to be registered. However, the supply is not a *taxable supply to the extent that it is *GST-free or *input taxed. The supply of the unit by X, Y and Z will be made for consideration. The supply of the unit will be made in the course or furtherance of an enterprise carried on by X, Y and Z. The definition of 'enterprise’ in section 9-20 includes an activity, or series of activities, done on a regular or continuous basis in the form of a lease, licence or other grant of an interest in property. Consequently the leasing of the unit to a residential tenant amounts to carrying on an enterprise. The sale of the unit following the termination of the lease is also in the course or furtherance of that enterprise as section 195-1 provides that 'carrying on’ an enterprise includes doing anything in the course of the commencement or termination of the enterprise. The supply of the unit will be connected with the indirect tax zone as subsection 9-25(4) provides that a supply of real property is connected with the indirect tax zone if the real property, or the land to which the real property relates, is in the indirect tax zone and section 195-1 provides that 'indirect tax zone’ means Australia (subject to certain exclusions). In relation to paragraph 9-5(d), X is not currently registered for GST, so the issue is whether X is required to be registered. Section 23-5 states: You are required to be registered under this Act if: (a) you are *carrying on an *enterprise; and (b) your *GST turnover meets the *registration turnover threshold. Paragraph 23-15(1)(b) and regulation 23-15.01 of the A New Tax System (Goods and Services Tax) Regulations 1999 set the registration turnover threshold for an entity other than a non-profit body at $75,000. Section 188-10 provides that an entity must register if either of the following applies: ● its current GST turnover is $75,000 or more, except of the ATO is satisfied that the projected GST turnover is below $75,000; or ● its projected GST turnover is $75,000 or more. The first test in section 188-10 is unlikely to be satisfied as subsection 188-15(1) provides that an entity’s current GST turnover at a time during a particular month is the sum of the values of all supplies that the entity has made or is likely to make during the 12 months ending at the end of that month, other than, inter alia, input taxed supplies. Assuming that the only supply currently being made by X is the leasing of the unit, that supply is a supply of residential premises which is input taxed pursuant to paragraph 40-35(1)(a) and therefore ignored when calculating current GST turnover. The second test in section 188-10 deals with projected GST turnover which is defined in subsection 188-20(1) at a time in a particular month as the sum of the values of all the supplies that an entity has made, or is likely to make, during that month and the next 11 months, subject to certain exclusions. At some point during a current month and the next 11 months X, Y and Z will be likely to supply the unit to the company or trustee. However paragraph 188-25(1)(a) provides that in working out projected GST turnover any supply made, or likely to be made by an entity by way of transfer of ownership of a capital asset is to be disregarded. Paragraphs 31 and 32 of Goods and Services Tax Ruling GSTR 2001/7 discuss the meaning of 'capital assets’ for the purposes of calculating GST turnover: 31. The GST Act does not define the term 'capital assets'. Generally, the term 'capital assets' refers to those assets that make up 'the profit yielding subject' of an enterprise. They are often referred to as 'structural assets' and may be described as 'the business entity, structure or organisation set up or established for the earning of profits'. 32. 'Capital assets' can include tangible assets such as your factory, shop or office, your land on which they stand, fixtures and fittings, plant, furniture, machinery and motor vehicles that are retained by you to produce income. 'Capital assets' can also include intangible assets, such as your goodwill. In our view the unit is the structure established for the earning of profits in the form of residential rent and is a capital asset which may be disregarded when calculating X’ s projected GST turnover. As neither limb of section 188-10 is satisfied, X is not required to register for GST. Consequently all of the requirements in section 9-5 are not satisfied, the supply of the unit to either a company or the trustee of a unit trust will not be a taxable supply and the margin scheme will not apply to that supply. Implications for subsequent supply of apartments and commercial units by either the company or the trustee of the unit trust: After acquiring the X units at the property plus the adjacent property and developing both properties into apartments and commercial units the company or trustee (which will be required to register for GST) may wish to apply the margin scheme when selling the apartments and commercial units. Subsection 75-5(1) provides that the margin scheme applies in working out the amount of GST on a taxable supply of real property made by selling a freehold interest in land, a stratum unit or granting or selling a long term lease if the supplier and the recipient of the supply have agreed in writing that the margin scheme is to apply. However subsection 75-5(2) provides that the margin scheme does not apply to the supply of a freehold interest etc. if the supplier acquired the freehold interest through a supply that was 'ineligible for the margin scheme’. Section 195-1 provides that 'ineligible for the margin scheme’ has the meaning given by subsections 75-5(3) and (4). With application to supplies made on or after 17 March 2005 paragraph 75-5(3)(a) states: (3) A supply is ineligible for the margin scheme if: (a) it is a * taxable supply on which the GST was worked out without applying the * margin scheme; or The test in paragraph 75-5(3)(a) is similar to the test in the former subsection 75-5(2) before it was repealed and replaced by the Tax Laws Amendment (2005 Measures No 2) Act 2005 (2005 Amendment Act), i.e. whether the company or trustee acquired the freehold interests in Unit 5 through a supply that is a taxable supply on which the GST was worked out without applying the margin scheme. Paragraph 29 of Goods and Services Tax Ruling GSTR 2006/8 explains the operation of the test in the former subsection 75-5(2): 29. Under the subsection 75-5(2), prior to its amendment, you could not apply the margin scheme if you acquired the real property through a taxable supply and the GST on the supply was not calculated under the margin scheme. The effect of the former subsection 75-5(2) was that the margin scheme could only apply if the supply of the real property that you acquired was: ● from an entity that applied the margin scheme on the supply to you; or ● not a taxable supply. For example, supplies that are GST-free or input taxed, or from an entity that was not registered or required to be registered for GST purposes. As the company or trustee will acquire the unit from entities (X, Y and Z) that are not registered or required to be registered for GST, the company or trustee will not acquire the unit through a supply that is ineligible for the margin scheme pursuant to paragraph 75-5(3)(a). Nor will paragraphs 75-5(3)(b) to (g) apply. Consequently the company or trustee will be entitled to apply the margin scheme to the supplies of the completed apartments and commercial units provided subsections 75-5(1) and 75-5(1A) are complied with (i.e. the company or trustee and the purchaser agree in writing that the margin scheme is to apply and that agreement is made on or before the making of the supply or within such further period as the Commissioner allows).