Understanding tax and GST for property development

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Tax Minimisation
Tax Minimisation
By
Andrew Phelan
Andrew Phelan
Principal & Consultant
January 11, 2021
7
minute read

We outline the tax implications for investing in property development in Australia

There’s a lot involved when undertaking a property development; it’s not as simple as merely ‘flipping’ a house.

Two important areas you need to be aware of are your tax and GST obligations, and understand how these can impact the success of your property development.

Ready to get started in property development? Liston Newton Advisory will help you through the process. Contact us today to book a meeting, and see how our property tax accountants can help you turn your property development dreams into a reality.

Understanding property developments and income tax

When it comes to the profit you make on your property development, this can get taxed in one of three ways. The way it’s taxed will depend on the nature of your development.

There are:

  • Disposal of trading stock
  • If it's used for a profit-making scheme
  • Realisation of a capital asset

Disposal of trading stock

The ATO considers land that you’ve bought purely for development purposes to be trading stock. That is, a property or asset that’s owned solely for the sake of manufacturing, selling, or exchanging in order to make a profit.

Your property will be considered as trading stock if for income tax purposes if:

  • You bought it to sell in the future, such as a land deal
  • You regularly purchase land
  • Your activities on the land are of a large scale

When your land is considered as trading stock you’re required to include a valuation of the asset as part of your annual tax return. This can be based on the purchase cost, market value, or replacement value, and you can change the valuation method each year. However, the opening value of your property at the beginning of the year must be the same as the closing value of the previous year.

If this does happen, you choose to defer or reduce the income by changing the stock valuation method you use. You’re also able to take advantage of tax losses in prior years, and choose a valuation method that increases its value.

When you sell this property any tax liabilities aren’t technically taxable until settlement occurs.

Used as a profit-making scheme

Your sale is only considered as making a profit if it meets two criteria:

  • If the intention to sell and make a profit is there when you first bought it; AND
  • If you made this profit as part of a commercial transaction.

So for example, if you bought a property, subdivided it, and developed two units with the intention of selling them.

Under these circumstances, your profit is taxed as part of your ordinary income, and your profit is taxed in the year in which settlement occurs. It’s crucial to note that 50% CGT concession isn’t available for development activities.

The ATO released a Taxation Determination in 1997 which states that under these circumstances, property bought and sold in this manner is also considered trading stock.

Realisation of a capital asset

If you don’t sell your property as part of a development, or as a business activity, it’s considered as a realisation of a capital asset. This means that it’s considered as part of your Capital Gains tax, and qualifies to receive CGT concessions.

Profit under this sale is taxed in the year in which the sale contracts are executed.

What are the differences between a property developer and an investor?

Whether you're a property developer or a property buyer may have an impact on the GST and property development tax you're likely to pay.

  • A property developer buys, sells, renovates, or builds property on land with the aim of making a profit from it.
  • A property investor typically buys land or property with the aim of using it to generate an ongoing income. For example, buying a property and renting it out, or buying landing and building units on it, then renting these out.

What are the GST implications for a property development?

Developing a property is like running a business. If you’re likely to earn more than the GST threshold ($75,000) on your property development within one year, then you’ll need to register for GST. You’ll also need to register for GST if you’re running your development activities as a business.

If you are registered for GST then you can claim GST credits on the cost of your property development. But you’ll also need to pay GST when selling the property, which is calculated as 1/11th of the sale price.

As of 1 July 2018 the ATO put a GST withholding scheme in place. This means that property purchasers are required to withhold GST from the property’s contract price. Instead, this is paid directly to the ATO.

Reducing your GST obligations

The ATO’s GST ‘margin scheme’ allows you to reduce the amount of GST you’re liable for. This must be agreed to, in writing, by both the seller and the buyer.

Under the margin scheme you only pay GST on the profit margin of the property development. However, this doesn’t include any costs incurred in the development of the property.

You may be eligible for this scheme if:

  • You bought the property pre-GST, before 1 July 2000;
  • You originally bought the property under a taxable supply, and the margin scheme was used; or
  • You bought the property from someone not registered for GST.

If the margin scheme applies, the buyer can’t claim GST on the purchase.

The sale of a going concern

Selling a property that’s currently leased to a tenant may help you reduce your GST. If you include this lease as part of the sale contract, the sale of your property can qualify as the supply of a going concern. Supply of a going concern is GST-free.

However, both the buyer and seller must be registered for GST for this to apply.

When selling in this manner you may get challenged by the ATO. If they determine that the sale didn’t qualify as GST-free, you’ll then be legally liable for the full GST amount.

What if I make a loss on my development?

There are two types of losses you can make on your property development, a tax loss and a capital loss.

  • A tax loss occurs when the total amount of deductions you claim on your income tax are greater than the total of your assessable income.
  • A capital loss is when you sell a capital asset, such as property, for less than its tax value. Think of it as the inverse of a capital gain.

If you make a tax loss on your development, you can carry this forward indefinitely, to be claimed as a property development tax deduction against future income tax at the first possible opportunity.

If you make a capital loss when you sell your property, you can use the loss figure to reduce any capital gain amount you made in that financial year. If you haven’t made any capital gains that year, you can carry this loss forward to use in future years.

Common mistakes to avoid when undertaking a property development

There are a number of common mistakes to avoid when undertaking a property development. Any one of these can see you liable for GST payment, or have the ATO knocking at your your.

  • Registering for GST when you’re likely to be under the GST threshold. This effectively cuts out 10% of your sale profit for no reason.
  • Charging GST on a pre-GST property, or a property you intend to rent.
  • Not reading your purchase contract thoroughly, and getting caught out on agreements you weren’t away of, such as the GST margin scheme.
  • Claiming the 50% CGT discount on a development that’s considered as making a profit.
  • Claiming property development-related tax deductions on personal items.
  • Failing to account for trading stock when you’re developing multiple properties. This will skew your profit/loss.

The final word

Property development can be a lucrative business. But it’s just that—a business. So when undertaking property development, it’s important that you’re aware of the tax obligations that come with it. You don’t want to end up on the wrong side of the ATO.

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