Ask Ban Tacs Question
My wife and I purchased a house in December 2003 (purchase price $220,000) as she had returned to full time work and we saw this as a long term investment that would offset her not having much in her superannuation fund at the time. The house has been rented continuously over these 20 years. We still have a small mortgage on the property. Local government re-zoning has occurred to encourage urban infill in the last few years. I would like to know the CGT implications if we develop the property.
- Keep the original house & add new carport and subdivide as a battle axe block and sell the rear block.
- Keep the original house & add new carport and subdivide to build a new rear house to sell.
- Demolish the house and subdivide to make two lots side by side. Build a new house to use as our primary residence (downsizing).Sell the other lot.
- Demolish and subdivide. Build two new houses; one to live in as primary residence. The other to be rented or sold (whichever is viable)
Can you advise?
Answer
- Excellent choice if it works for you. Because you are merely realising an asset – the back yard, you will not be considered in business this will mean that you get the 50% CGT discount on all the gain and will not have to charge GST. It is important that you do not do anything to change the status of merely realising an asset. Do not do more than the council requires you to do to cut the block off, for example if you were to build on it before you sell the ATO would consider you to be in business which means some of the profit would not get the 50% CGT discount. Further do not contradict this in the sale contract. Make sure it does not have any of the following, a margin scheme clause, a going concern clause or state that you are registered for GST. The contract also needs to state that the buyer does not have the withhold notional GST from the sale proceeds because you are not registered for GST nor required to be registered. Most important of all don’t let anyone talk you into registering for GST, you do not need to and if you do you will have to give the ATO up to 1/11th of the sale proceeds.
- When you sell the new house you will be considered to have done that as part of a business enterprise. As the business’ turnover is more than $75,000 you will be required to register for GST. You can claim input credits on the construction costs but you will have to pay GST to the ATO out of the sale proceeds. You will be entitled to the 50% CGT discount on the gain on the land based on its market value at the time you commit it to the process but any profit after that is business income, no 50% CGT discount. Considering your circumstances make sure there is a margin scheme clause in the contract. Also consider the added risk of price blow outs and problems associated with the build.
- I am assuming here that you are not going to build on the other lot just sell vacant land. If so the circumstances are as per 1) above
- If you are going to build a duplex and sell the other side, this is a classic Tobias from MT 2006/1 paragraph 273 https://www.ato.gov.au/law/view/document?DocID=MXR/MT20061/NAT/ATO/00001 The house you sell will have all the problems associated with point 2) above.
- Regardless of selling land or building on other side, the side you live in will have a sleeping CGT liability so you will need to keep records all the time you own it. Section 110-25(4) ITAA 1997 allows you to increase the cost base by anything associated with holding and maintaining the property so this would include, interest, rates, insurance even cleaning materials. Good record keeping will save you CGT. The capital gain is first calculated for the whole time you own the property then apportioned pro rata on the number of days covered by the main residence exemption and the number of days not. Obviously, you will already have 20 years of days not covered. Once your tenants move out you can choose to use section 118-150 ITAA 1997 to cover your side with your main residence exemption during the construction period but this will limit the coverage on your current home so needs to be carefully considered. There is a way out of this pro rata CGT liability on the side you will live in. Die there, you see if it is covered by your main residence exemption at DOD it will be inherited by your heirs at market value at your DOD. All the previous CGT liability is forgiven and forgotten by the reset in section 128-15 ITAA 1997.
- No sale no CGT or GST, sounds like a plan. Note if you rent out one side for a continuous period of at least 5 years (normal rental turnover ok) you will not have to register for or pay GST when you sell but of course still CGT with the 50% CGT discount. This out is available even if rented for under 5 years if you are not already registered for GST you just need to be able to prove your thoughts at the time that you built was to hold as a long term rental, ideally have a change of circumstances that force you to sell. Regarding building and selling one side see the Tobias example in point 3 above.
There are no tricks with apportioning costs it is just on a reasonable basis. If you demolish the house you do not have to remove anything from the cost base, in fact you can increase it by the demolition costs.
