A profit that arises from the carrying out of a profit-making undertaking or plan (that is, one with a profit-making intention) will be assessable as statutory income where the proceeds of the profit-making undertaking or plan are not otherwise assessable as ordinary income.
Any capital profit on the disposal of assets acquired before 20 September 1985 is generally received tax-free, unless the taxpayer acquired the asset with the intention of reselling it at a profit or using that asset as part of a profit-making venture. The tax law assesses any profit on disposal of an asset if the asset was acquired for a profit making intention before 20 September 1985, but only if the proceeds from the venture are not otherwise assessable as ordinary income.
Any profit made on the disposal is assessed on the same basis as ordinary income (that is, the assessable profit is calculated after deducting all expenses incurred in deriving that profit).
A change of intention may subject a profit to tax; for example, where the owner of a block of pre-CGT land subsequently decides to significantly improve the land, sub-divide it, build residential units on the lots with the purpose of selling the blocks for profit.
However, profits arising from a “mere realisation” of a capital asset to its best advantage are not generally subject to the same treatment. Whether a capital asset is sold as part of a profit-making plan or as a mere realisation of the asset is a matter of fact and degree.
In the case of Whitfords Beach Pty Ltd (1982) (here’s a summary of the case), the taxpayer company owned land that had been acquired as a capital asset. When another company subsequently purchased all the shares in the company, the taxpayer developed and sold the land at the direction of the new shareholders.
The Federal Court looked through the corporate veil to the intentions of the shareholders and determined that the profit-making intention of the new shareholders should be attributable to the taxpayer company, thereby signalling a change in intention.
Inherited intention
Note that the intention of the original owner of the asset can be attributed to subsequent owners. For transfers of assets under a will or to a recipient in a non-arm’s length transaction, the recipient is deemed to have acquired the asset for:
- the same purpose as the original owner (ie profit motive), and
- the same cost at which the original owner acquired the asset.
The recipient is taxed on the profit on the disposal of the asset as if they had acquired the asset.
Example
A parcel of land was acquired in 1983 by the taxpayer’s late grandfather for $10,000. The grandfather’s original intention was to subdivide the property and to dispose of each separate parcel of land at a profit.
In 1993 the land was bequeathed to the deceased’s grandson. Its market value at that time was $600,000 even though there were no improvements made to the property. Over the years a total of $35,500 in rates and taxes were incurred. The grandson sold the property in 2015 for $1,000,000.
Because the property was originally acquired with a profit-making intention, the grandson is deemed to have acquired the property with the same intention. The grandson will be assessed on a profit of $954,500.
Sale price………………………………………………………………… $1,000,000
Less cost of land……………………………………… ($10,000)
Rates and taxes………………………………………. ($35,500)….. ($45,500)
Assessable profit ………………………………………………………. $954,500
Note: If the land had not been acquired by the grandfather with the intention of making a profit on disposal of the land, the grandson would have been assessed under the CGT rules (the asset is deemed to be acquired by the grandson at the date of death for its market value at that time). The cost base would have been $600,000 and the assessable profit significantly less. Further, the grandson would have been eligible for the CGT discount.