With the much-publicised increases in property values in recent times, many property investors are looking at maximising their return by subdividing their investment properties.
Along with the practical issues that go along with the actual subdivision, investors also need to consider the GST implications*.
Existing residential premises are considered to be input taxed for GST purposes. This means there is no GST charged on either the rent received, or the sale price of the property, and no ability to claim any GST paid on expenses relating to the property. However, this treatment does not apply to vacant land, or to newly constructed residential premises.
Enterprise or business
Whether a property investor is required to include GST in the sale price when they sell vacant land or a newly constructed residential property, will depend on whether the activities related to the subdivision are considered an ‘enterprise’ or a ‘business’ for GST purposes. Where an investor has owned a property for a number of years, and merely takes the minimum steps required to subdivide the property, then sell it, their activities will most likely be seen as the mere realisation of a capital asset, and not an enterprise.
At the opposite extreme, where an investor not only subdivides the existing property, but constructs a new house on the land, which they then sell, the activity will most likely be seen as an enterprise. In between these two ends of the spectrum, there is a range of different levels of activity which need to be considered on a case-by-case basis. To determine if these activities constitute an enterprise it is necessary to consider the level of activity.
This includes whether the owner has been involved in previous property development activities, their intention at the time that they decided to subdivide the property, and their intentions at the time that they first acquired the property.
Where the subdivision does not amount to an enterprise, there will be no requirement to include GST in the sale price, and no ability to claim any GST paid on expenses relating to the subdivision.
Where the subdivision is considered to be an enterprise, it will be necessary to include GST in the sale price. However, as the purchasers of residential land are generally not able to claim the GST on their purchase costs, the vendor will not be able to increase the sale price by the amount of the GST. Rather, the GST will be included in the gross sale proceeds.
Without any concessions, the GST which the vendor is required to remit to the ATO will be 1/11th of the gross sale proceeds. However, the amount of GST can be reduced by applying the margin scheme. Where an election to apply the margin scheme is made, the GST to be remitted on the sale of the property will be calculated as 1/11th of the difference between the gross sale proceeds and the original cost of the property (note, if the property was acquired prior to 1 July 2000, the GST will be calculated based on the property’s market value as at 1 July 2000 rather than the original cost).
If a property is purchased from a vendor who is using the margin scheme to calculate their GST, the purchaser is not entitled to claim any GST on the purchase. Any GST paid on the costs related to the subdivision and development of the property can be claimed as a credit as they are incurred.
New rules which will apply from 1 July 2018 will require the purchaser to withhold 1/11th of the gross sale proceeds, and remit this to the ATO as GST on the sale of new residential premises. Where the margin scheme has been applied to the sale, the vendor will need to lodge their BAS in order to report the actual GST, and claim a refund of the difference.
This article focusses on the subdivision of a rental property, however the principles will also apply where an individual subdivides the land where their home was located.
*There are also income tax considerations, and these will be covered in a later article.