Question of selling the units I built two years ago

Hi guys,

I am a part time developer who have built a few villa/townhouses in the past. I normally presale 50%and keep the rest. Now I decide to sell two units I built two years ago and would lke to get second opinion on GST and CG issuues as I think what my account told me might be not 100% correct.

When I built those units two years ago under a partnership, I claimed GST input credit from all the costs and paid GST for the units I sold as brand new. With the the ones I keep, I have paid those input credit back pro-rata in last two years. Now my accountant is telling me that I will still have to pay GST for the 2 years old units on a pro-rata base, which is correct. However, I still have to pay income tax for the profit and am not entitled for 50% CG concession. The 50% CG concession will only be available after holding the units for 5 years. His reason for that is ATO treats my development activities as a business for profit so it is an income instead of CG.

Could any accountants or developers shed some light on the 50% CG concession? Do I have to wait unti the units are 5 years old to get the 50% CG concession or I can get it after the first year?

Thanks in advance.

Issue is it on revenue or capital account. Period of time held has no impact for cgt if indeed even relevant. Gst the 5 year period is relevant.

Was it a mere realisation of a capital asset I.e. capital and discount applies or profit undertaking from an isolated transaction and revenue applies. Given you have a done a few developments in the past this doesnt work in your favour. How have you recorded the acquisitions in your accounts ? Are they trading stock ? What was your intention when you bought the asset ? Was it to develop and sell or hold long term ? What actions did you undertake soon after aquisition ? Did you start developing ? Get DA approvals ?

Accountant should have all your facts and can make a more informed decision but 5 year rule is irrelevant as it was your intention at the time of acquisition. For cases read scottish aistralian mining and whitfords beach

Thanks for your explanation, coastymike. My understanding for CG is very similar to yours. What I have done in the past is applying for DA approval straight after acquiring the site and starting construction straight after DA is approved. The intention is to make a profit for selling 50% finished units and keep the rest 50% for long term investments.

Therefore I paid income tax for the 50% of the units sold off the plan because they are trading stocks but the rest 50% kept for long term investment should entitle 50% CG concession even if sold two years after completion because my intention for them is a long term investment. Am I correct?

Questions for accountant

1. how was the 50% held for investment long term treated in your accounts. have they been recorded as trading stock or as fixed assets.

2. how has GST been treated for those held for investment purposes. Have you claimed input tax credits on purchases for residential properties which would be input taxed during the development ? If so why ?

3. why are you selling the units held for investment instead of retaining them as originally planned ?

The answers to these questions will help formulate your accountant to formulate a response for you.

Answers to the question:

1. How does an accountant record an investment property as trading stock or fixed assets. Is there a checkbox on the tax form to indicate that to ATO? I have never been informed by my accountant whether those units were classified as trading stock or fixed assets to ATO. How can I find out what they are classified as?

2. All the development sites I acquired are GST free so I can't claim input credit for the site, but I use MArgin Scheme so the land cost in used in calculating GST cost. I DO claim the GST input credits for ALL the costs involved to improve the cash flow. So for the the units I keep for long term investment, I had to pay back the credits I claimed on the pro-rata base every year until year 5.

3. Need more cash for next development project, as for the units I keep I financed them to 80% LVR so 20% of the val is locked by the bank.

I think based on Point 2 you might have a real challenge arguing that everything wasn't trading stock from the beginning. The accounts will also tell you this so if they have also been recorded as trading stock then the following scenario will play out

ATO Auditor Q1 : "So you recorded these investment assets as trading stock in your accounts ? Any reason why if they weren't trading stock and you signed a declaration stating your financials and income tax returns were correct at time of lodgement"

ATO Auditor Q2: "So you claimed input tax credits along the way to help your cashflow but you said your intention at the beginning was for these units (which are residential) to be a long term investment. So are you telling us you deliberately claimed GST input credits on purchases relating to these units which you expected to rent out long term when you shouldn't have (95% penalities racking up thank you very much) or are they really trading stock. Which in that case CGT doesn't apply as they are all on revenue account"

I know lots of developers claim GST input credits to improve the cash flow during construction and keep some units for long term with very little debt. Are you saying I will not have 50% CG concession if I have claimed GST input credits because I should not need to pay any GST if the initial intention is to keep all of them for long term. OC1 and rockstar reckon I should still get the concession in a different thread but still ask me to post a new thread to seek professional advices from an accountant.

Maybe I should give a full story about the development for the two units I want to sell now. The development site is my principle resident(my home) bought in 2004 and the adjacent block bought in 2005 as an investment property. In 2009 I lodged DA to keep my home and build 6 townhouse around it and it's approved in 2010. Give I have hold the investment property for almost 5 years and the other half of the site is my own home, I can argue the intention of the purchase is for long term CG. Then I got finance approval with a condition to pre-sell 2 units and completed construction in 2011. So I only sold two units required to get finance and kept rest 4 units and the old house.

Due to size of the development, my accountant told me that I would have to pay GST for the units I needed to pre-sell as ATO would consider it as a business activity. Because I had to charge GST for the pre-sale, I was also able to claim GST input credit. For the unit I decided to keep, I had to pay back those credit every year.

As to the ATO Auditor Q2, I had to charge GST for pre-sales so I could claim input credits. The only two units I sold was to obtain the finance which was not my initial intention. My intention was to keep all the units for long term as they give me very good rental returns.

As to the ATO Auditor Q1, I am not sure what my accountant recorded them as, whether investment assets or trading stock. How can I find it out?

Ok good to have all the facts. So building new residential premises and claimed input tax credits along the way. All good. Then decided to rent out and made a GST adjustment. All good.

Your financial statements will show how the accountant has treated the items. Trading stock are inventories and will be recorded as such in current assets. Fixed assets such as buildings are in non current assets section.

If, at the time of purchase a developer intends to keep a house or unit as a capital asset (and not as trading stock) it will never be trading stock. This is because at no stage has the property been held for the purpose of manufacture, sale or exchange.

The development costs for that property will not be deductible but may be included in the cost base of the asset and should not be included as closing stock. Refer to Starco Pty Ltd v FCT.

If the development costs relate to both trading stock and non-trading stock items, the costs will need to be apportioned in a reasonable way.

The accountant is concerned that the ATO will say because you didn't hold them long enough then the ATO will argue they are trading stock and always intended to be trading stock. If you can make a decent argument that they were never intended to be trading stock but always an investment then you will have less of a problem. How they were treated in the financials will help and obviously the full financial reasons for selling.

Good to have all the facts it really helps.

Looks like trading stock to me.

Maybe you should consider transferring the property from trading stock to fixed assets see S70-110.

This can be done at cost price which is a good outcome.

Obviously all of the GST relating to the property being transferred would have to be repaid.

Thanks for your clarifications, coastymike.

I did indeed intent to keep those units for long term which my accountant was aware of. My financial statements will show how my accountant has treated the items. Could you please be a bit more specific about the financial statements? Are you talking about the tax return statement or something else? I don't remember I have seen anything like financial statements.

You are exactly right, my accountant is concerned I have not hold the units long enough to argue with ATO that they are not trading stocks. He told me they can be treated as capital assets after 5 years, is that correct? Am I correct in saying that I will get 50% CG concession after holding it for more than 1 year if the units are recorded as capital assets by an accountant?

With the new development of 4 units I am going to start, could you please suggest whether what I am going to do is appropriate?

1. The plan is to sell two off the plan and keep the other two for long term.
2. Will pay GST for the two units sold off the plan.
3. Claim GST input credit for DA and Construction costs for all four units for better cash flow.
4. Will do a GST adjustment for the units I keep in next 5 years.

Is the plan above enough to convince ATO the two units I keep are not trading stocks if I decide to sell them within 5 years? Or should I only claim the input credits for the two units I want to sell? When does an account How could an accountant record an investment property as trading stock or fixed assets, at the first time doing tax return for it?

Thanks in advance.