Private ruling: Property – subdivision – income v capital
Date of advice: 19 December 2018
Published: April 2019
Ruling period: Income year ended 30 June 2018 | Income year ending 30 June 2019 | Income year ending 30 June 2020 | Income year ending 30 June 2021 | Income year ending 30 June 2022
Date scheme commenced: 1 July 2017

Ruling: Q1: Will the proceeds made on the sale of the subdivided lots be assessable under Parts 3-1 and 3-3 of the Income Tax Assessment Act 1997 (ITAA 1997)? | A1: Yes

Relevant facts and circumstances: Your spouse (Person A), purchased a property (the Property) after 20 September 1985. The Property was zoned Low Density Residential when it was acquired and had a land area of 5 acres. Settlement on the purchase of the Property occurred after a short period. After a number of months the services of Company XYZ were engaged and they issued a land capability assessment report (the Report) on the quality of the Property’s soil which indicated that the soil had a number of poor soil conditions. As a result the soil would require ongoing management. As a result of the soil test, it was determined that the Property was not suited for the purpose for which it had been purchased, which lead to the decision not to move into the Property. A month after the Report was issued you and Person A found a more suitable property which was purchased and is currently your main residence. Person A engaged the services of Company A to assess the feasibility of subdividing the Property and to provide the initial subdivision designs and plans. This involved informal discussions of the likely costs involved with the subdivision. No cash flow forecasts were prepared and the source of the funds required to finance the subdivision activities were not considered when commencing the activities. Person A gifted the Property to you for the purpose of asset protection due to their occupation and the title of the Property was transferred into your name. You decided to continue with the subdivision of the Property and engaged the services of Company A who: ● arranged public advertising for the planning; ● obtained the planning permit; and ● contracted the services of entities in relation to civil works, the installation of electricity and telephone access, and connection to water and sewerage. A subdivision planning permit was lodged with the Council which was approved to allow the subdivision of the Property into a specified number of subdivided lots. The Property was used for the following purposes after settlement on the purchase of the Property occurred: ● the Property and house located on the Property were vacant for a number of years after settlement on the purchase of the Property occurred; and ● for a number of months the house was used buy an associate of Person A. After Person A’s associate moved out of the house, renovation/repair work on the house commenced which was completed after a number. The purchase of the Property and the subdivision activities were funded from money sourced as follows: ● combined savings of both you and Person A were used to purchase the Property; ● gifted money from Person A’s parents to assist with the purchase, which is not required to be repaid; ● your income from a number of preceding years; ● a gift from Person A’s parent, being an early inheritance; and ● the balance from you and Person A’s savings. You have incurred costs in relation to the subdivision activities as at this point. It is estimated that you will incur additional costs. The Property was not put on the market during either Person A’s or your ownership periods. The subdivision activities are in final stages of being completed and are anticipated to be completed in the next few months. The lodgement of the final documentation with both the Council and the titles office has not been completed at this point. You will sell the subdivided lots during the period covered by this ruling. The subdivided lots are not currently listed for sale. You will engage the services of a real estate agent to sell the subdivided lots. You have not undertaken any similar activities in the past and do not have any plans to undertake any subdivision activities in the future. Person A has undertaken a number of subdivision activities in the past, but does not have any intention to undertake any subdivision activities in the future.

Relevant legislative provisions: Income Tax Assessment Act 1997 section 6-5 | Income Tax Assessment Act 1997 section 15-15 | Income Tax Assessment Act 1997 section 995-1 | Income Tax Assessment Act 1997 part 3-1 | Income Tax Assessment Act 1997 part 3-3

Reasons for decision: Summary: All references are to the Income Tax Assessment Act 1997 . The proceeds from the sale of the subdivided blocks of land will not be ordinary income and not assessable under section 6-5. The proceeds represent a mere realisation of capital assets which will fall for consideration under the capital gains tax provisions in Parts 3-1 and 3-3. | Detailed Reasoning - Taxation treatment of property sales: There are three ways profits from property sales can be treated for taxation purposes: 1. As ordinary income under section 6-5, on revenue account, as a result of carrying on a business of property development, involving the sale of land as trading stock; or 2. As ordinary income under section 6-5, on revenue account, as a result of an isolated business transaction entered into by a non-business taxpayer, or outside the ordinary course of business of a taxpayer carrying on a business, which is the commercial exploitation of an asset acquired for a profit making purpose; or 3. As statutory income under the capital gains tax legislation due to the realisation of a capital asset. Whether the proceeds are treated as income or capital depends on the situation and circumstances of each particular case. We will consider each of these in relation to your situation as follows: | Detailed Reasoning - Carrying on a business of property development: Section 995-1 states the term ‘business’ includes any profession, trade, employment, vocation or calling, but does not include occupation as an employee. For a one-off land subdivision to be considered to be of a business or commercial nature, it is usually necessary that a taxpayer has the purpose of profit-making at the time of acquiring the property. The Commissioner’s view on whether a taxpayer is carrying on a business is found in Taxation Ruling TR 97/11 Income tax: am I carrying on a business of primary production? which uses the following indicators to determine whether a taxpayer is carrying on a business: ● whether the activity has a significant commercial purpose or character; ● 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. In determining whether a taxpayer is carrying on a business, no one indicator will be decisive. The indicators must be considered in combination and as a whole. Whether a business is being carried on depends on the large or general impressions gained from looking at all the indicators and whether these indicators provide the operations with a commercial flavour. | Detailed Reasoning - Isolated business transactions: Profits from isolated transactions will be assessable as ordinary income where 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 out a business operation or commercial transaction Taxation Ruling TR 92/3 Income tax: whether profits on isolated transactions are income sets out the Commissioner’s view of the general principles and factors that have been considered in determining whether an isolated transaction is of a revenue nature. Paragraph 1 of TR 92/3 outlines that isolated transactions are: a) those transactions outside the ordinary course of business of a taxpayer carrying on a business; and b) those transactions entered into by non-business taxpayers. In general, whether a profit from an isolated transaction is income according to ordinary concepts depends very much on the individual circumstances of the case. Matters listed in TR 92/3, which are relevant in considering whether an isolated transaction amounts to a business operation or commercial transaction include: ● the nature of the entity undertaking the operation or transaction ● the nature and scale of other activities undertaken by the taxpayer ● the amount of money involved in the operation or transaction and the magnitude of the profit sought or obtained ● the nature, scale and complexity of the operation or transaction ● the manner in which the operation or transaction was entered into or carried out ● the nature of any connection between the relevant taxpayer and any other party to the operation or transaction ● if the transaction involves the acquisition and disposal of property, the nature of that property; and ● the timing of the transaction or the various steps in the transaction. TR 92/3 outlines that the relevant intention or purpose of the taxpayer, of making a profit or gain, is not the subjective intention or purpose of the taxpayer. Rather, it is the taxpayer’s intention or purpose discerned from an objective consideration of the facts and circumstances of the case. | Detailed Reasoning - Capital gains tax: The capital gains tax (CGT) provisions are contained in Parts 3-1 and 3-3. Broadly, the provisions include in your assessable income any assessable gain or loss made when a CGT event happens to a CGT asset that you own. CGT event A1 happens if you dispose of your ownership interest in a CGT asset. You make a capital gain is the proceeds from the sale of the CGT asset are more than the asset’s cost base. You make a capital loss if the proceeds from the sale of the CGT asset are less than the cost base of the asset. When a CGT asset (the original asset) is split into two or more assets (the new assets), such as when land is subdivided, the subdivision of the land into subdivided lots is not a CGT event. Each of the new assets, being each subdivided lot, will be viewed as having been acquired on the same date as the original asset for CGT purposes. You can apply a 50% CGT discount to any capital gain made on the disposal of the CGT asset if you are an individual who meets the following conditions: ● the CGT event occurred after 21 September 1999 ● the cost base of the CGT asset was not calculated using the indexation method; and ● the asset must have been acquired at least 12 months before the CGT event. | Detailed Reasoning - Application to your situation: In this case, Person A purchased the Property and made initial enquiries about the subdivision of the Property after it had been identified that the soil on the Property had a number of poor soil conditions. Person A gifted the Property to you for asset protection reasons due to their occupation and the title of the Property was transferred into your name. In accordance with the decision in Federal Commissioner of Taxation v. N.F. Williams , High Court of Australia, 01 November 1972 72 ATC 4188 (1972) 217 CLR 226 (1972) 3 ATR 283 (1972) 46 ALJR 611, the intentions and purposes of the original owners were not relevant. Therefore, we must look objectively at your intention in relation to the Property when it was gifted to you, and when you subsequently subdivided the Property for the purpose of selling the subdivided lots rather than what Person A had intended using the Property for. You have decided to continue undertaking the activities in relation to subdividing the Property into a specified number of subdivided lots after it was gifted to you. It is stated that you propose to sell the subdivided lots by the most profitable means possible with consideration was given to maximising the realisable value of the Property. You are considering whether to sell the subdivided lots upon completion of the subdivision activities, or to retain the subdivided lots based on the prospect for capital growth over a number of years. The Property had a land area of acre/s, being a semi-rural block and is now being subdivided into a specified number of lots with land areas of around one acre each. The extent of the transformation of the Property into the subdivided lots is limited with each of the lots retaining the semi-rural nature of the Property. No other subdivision activities have been undertaken by you in the past and you do not intend to undertake any similar activities in the future. You engaged the services of Company A to manage the subdivision and engage professional entities as required. You have not participated in any of the activities involved in the subdivision of the Property other than those necessary to progress the subdivision activities undertaken by Company A, or other parties. You will use the services of a real estate agent to sell the subdivided lots and it is anticipated that you will receive sale proceeds. Based on the financials provided the return from the subdivision activities will not be large, prior to being reduced by any selling costs incurred in relation to selling the subdivided lots. Based on the information provided, and weighing up the factors in TR 97/11, it is viewed that your activities do not display the salient indicator of a business, being transactions entered into on a continuous and repetitive basis. Nor is there anything to indicate that this is the commencement of the carrying on of a business in relation to the subdivision of properties. Therefore, it is the Commissioner’s view that your activities in relation to the subdivision of the Property and sale of the subdivided lots are not those of an entity carrying on a business of buying, subdividing and selling subdivided land. After considering the facts of your situation and making an overall assessment on the factors set out in TR 93/2, it is the Commissioner’s view that the subdivision of the Property and sale of the subdivided lots will not be considered commercial in nature but will be a mere realisation of a capital asset. In conclusion, the activities involved in the subdivision and sale of the subdivided lots will not amount to carrying on a business. The transactions will not have the character of business operations or commercial transactions. There is no indication that your subdivision activities will become a separate business operation or commercial transaction, or that you will be carrying on, or carrying out a profit-making undertaking or plan. As it is not viewed that you are carrying on a business, or that the subdivision activities will be an isolated transaction, the proceeds from the sale of the subdivided lots will not be assessable under section 6-5 of the ITTA 1997. Therefore, the proceeds arising from the sale of the subdivided lots will be accounted for under the CGT provisions in Parts 3-1 and 3-3. Note: No CGT event occurs when the Property is subdivided. Following the subdivision of the Property each of the subdivided lots are viewed as having been acquired by you on the date you acquired the Property for CGT purposes. CGT event A1 will occur on the sale of each subdivided lot and you will need to determine whether you have made a capital gain or capital loss on the sale of each lot. If you meet the conditions as listed above for the 50% CGT discount to apply, you can reduce any capital gain made on the disposal of your ownership interest in the five subdivided lots by 50%.