Part B of a two-part article
Further to the last article on land transactions (and the taxation criteria relating to land or property sales), this month we are looking closely at subdivisions.
Developments or subdivisions begun within 10 years
Often people are involved in subdividing (ie, main home or existing investment property). Whether that subdivision constitutes a taxable activity is subjective.
There may not be an intention or have what constitutes a business, but the sale can still be captured for tax under other provisions such as:
1. an undertaking or scheme is carried on (not necessarily as a business),
2. the undertaking or scheme involves the development of the land or the division of the land into lots,
3. the person, or another person on their behalf, carries on the development or division work on or in relation to the land,
4. the development or division work is not minor, and
5. the undertaking or scheme commenced within 10 years of acquisition of the land.
Subdivisions can be tricky, and they can catch you out when you assume that because you are just subdividing a section/s from your family home, any profit from the sale of those sections shouldn’t be taxable.
Undertaking a subdivision project where the activity is carried on continuously or regularly, and/or the works involved are not minor, may result in your sale being taxable.
What does it mean if the work involved is ‘not minor’?
Tax law has a number of grey areas and this is another one! It has caused many tax disputes over decades – the landowner arguing that the subdivision work is straightforward and minor, while Inland Revenue arguing that the subdivision work is more than minor, and tax should be paid on the resulting gain.
The safe harbour threshold
A few years ago, Inland Revenue released an interpretation statement on this issue and included a safe harbour threshold of $50,000. If the subdivision costs do not exceed $50,000 and the costs are under 5% of the value of the land, it will be accepted as minor works on a subdivision.
Both measures of cost must be considered, as it’s possible for cost to be low in absolute terms but high in relative terms and vice versa.
Definitions of ‘Subdivision Costs’
Development work typically includes fencing, demolishing buildings, site clearing, earthmoving, installation of services, creating driveways, legal work, zoning applications, drafting engineering plans, and entering contracts for physical development work. It excludes the erecting of buildings.
Divisional work includes planning and preparation of formal plans, survey work, obtaining of consents and permits, legal work including the deposit of subdivisional plans and the issuing of separate titles.
Because of the need to look at the question in both absolute and relative terms, taxpayers seeking to argue that their schemes are minor will need to seek valuations of their land, prior to the schemes being commenced. This is so that costs can be measured against the value of land in order to satisfy the relative safe harbour test.
Subdivisions – requirement to register for GST
GST can also become a problem when undertaking a subdivision and is often overlooked by many people. For the work to be subject to GST, it needs to be carried on ‘continuously and regularly’.
There are two steps to consider:
1. The number of lots created, and
2. The level of activity involved in the subdivision project (ie, development work). In summary:
A taxpayer must register for GST if annual turnover (from taxable supplies):
· Was over $60,000 in the last 12 months, or
· Is expected to exceed $60,000 in the next 12 months.
Taxable supplies result from the business of buying, selling, developing or building residential or commercial properties.
Subdividing on any scale is complex, and we recommend if you are looking to subdivide, or purchase to subdivide, call us to talk you through your options regarding taxation exposure.
Disclaimer – While all care has been taken, Johnston Associates Chartered Accountants Ltd and its staff accept no liability for the content of this article; always see your professional advisor before taking any action that you are unsure about.
JOHNSTON ASSOCIATES, Level 1, One Jervois Road, Ponsonby, T: 09 361 6701, www.johnstonassociates.co.nz