Upcoming Mallesons seminarsDevelopers of new residential premises will benefit from a change in the ATO's view regarding the GST treatment of development costs where residential premises are temporarily leased prior to sale.
What do you need to do?Developers should review their current approach to adjusting credit claims for development costs.
Matthew Cridland
Senior Associate
Peter Fogarty
Partner
T +61 3 9643 4127
Frank Brody
Partner
T +61 3 9643 4075
Sydney
Peter Green
Perth
Brisbane
David Bell
Canberra
Chris Wheeler
The ATO has recently published a new interpretative decision, ATO ID 2008/114, which sets outs its revised view on the entitlement of a developer of "new residential premises", to input tax credits (GST credits) where the developer temporarily leases the premises.
Summary of issue
A developer that constructs "new residential premises", with the intention of selling those premises, is entitled to full input tax credits for GST paid on its development costs. This is on the basis that the sale of the premises is a "taxable supply" (even if the margin scheme is applied), and full credits are available for costs associated with making a taxable supply.
However, if the developer instead leases the same premises (for example, because the sales market is soft), the developer is making an "input taxed supply" (GST doesn't apply to residential rent). Full credits are not available for costs associated with making an input taxed supply.
Such a change in use (from selling the premises to leasing the premises) necessitates a change to the credits previously claimed by the developer in relation to its development costs.
ATO's prior view
The ATO's prior view was that the developer was required to make a 100% adjustment (i.e. to effectively repay 100% of the credits previously claimed) in respect of the apartments being leased. Note that if some apartments were sold and others were leased, the development costs would need to be apportioned between the various apartments to calculate the adjustment.
If the developer was able to subsequently sell the apartments, the developer was entitled to make a further adjustment to recover a portion (not 100%) of those credits.
Due to the timing of the relevant "adjustment periods", the repayment of 100% of the credits, and the subsequent recovery of a portion of those credits, could take place years apart. This negatively impacted on the developer's cash flows.
ATO's revised view
The ATO now accepts that where the developer continues to actively market the property as being available for sale, at the same time that it leases the premises, the developer is only required to make a partial adjustment. The rationale for the change in view is that the developer is both leasing the premises (which is input taxed), but also trying to sell the property (which is taxable), and consequently there is only a partial change in use.
How are the adjustments calculated?
The developer can use any "fair and reasonable" method to determine its adjustments. However, one approach that the ATO accepts as being fair and reasonable is based on the anticipated purchase price for the premises and uses the following formula:
Estimated consideration for the taxable supply of the new residential premises when sold
________________________________________________________
Estimated consideration for the taxable supply of the new residential premises when sold plus consideration for the input taxed supplies of residential rent
Example
Assume a developer has incurred developments costs of $11 million (including GST of $1 million) to develop 100 apartments. The $1 million in GST was recovered as a full input tax credit. The developer has sold 95 apartments, but is leasing the last five. The development costs referable to those final five apartments has been determined to be $550,000 (including $50K GST). The developer expects to eventually sell those five apartments for $1 million and is still actively marketing the premises for sale. In the interim, the developer is receiving rent of $50K per annum.
Under the ATO's prior view, the developer would be required to make an adjustment to repay the $50K in GST referable to the five leased apartments. If the apartments were ultimately sold, say 12 months later, the developer could make a further adjustment to recover a portion of the $50K (the developer would likely recover in the order of $47,500, depending on when the apartments were sold and the total rents received).
Under the ATO's new view, the developer is only required to make a partial adjustment. Using the formula above, the initial adjustment would likely be $2,380.96. Subsequent adjustments may be required if the developer continues to lease the apartments for more than 12 months.
Premises leased for more than five years
It should be noted that if new residential premises are leased continuously for five years, the premises cease to be "new" for GST purposes. At that point, the developer would lose any entitlement to credits for GST paid on its development costs in connection with those premises. However, the developer would not be liable for GST on the eventual sale of the premises (and this benefit may more than offset the lost credits).