Residential Status and Ordinary Income

Residence and Source

As per taxation rules in Australia, person should apply for ‘residency test’ but if a person lives in Australia then that person will be considered as Australian resident for taxation purpose and in that situation, no need to apply for test of residency (Australian Government, Australian Taxation Office, 2016).

If individual do not satisfy with residency test, then that will be treated as Australian resident if any one out of the following three conditions fulfilled by individual.

  1. Domicile Test: If individual’s domicile is in Australia, then that person will be considered as Australian resident whether his usual place of dwelling is outside Australia. Here domicile refers as the place of permanent house.
  2. Test of 183 days: If individual lives in Australia for 183 days or more during the income year than that person will be treated as Australian resident. In other words, individual will be considered as Australian resident if resides for more than half of income year in Australia. Individual can be lived constantly or in breaks.
  3. Superannuation Test: If individual is working at post of Australian overseas as employee of Australian government, then that person will be considered as Australian resident.

In the given case study 1, Mr. Fred who is an executive of British corporation went to Australia for establish the branch of his company. And he hired a residence on lease for 12 months. He resides there, in Australia for 11 months and then returns back to UK due to health issues. He accompanied by his wife during the trip of Australia but his teenage sons reside in London due to just beginning of college. He rents out his family home. His work of action was relatively same as it was earlier in out of Australia. Fred earns interest on investment in France and also receives rent from UK property. As per taxation rules of Australia, if a person do not satisfy the ‘residency test’ but lives in Australia and fulfill any of the condition of residency, then that person will be treated as Australian resident. No matters, what are the other situations and circumstances.

As per taxation rules of Australia, Mr. Fred is not an Australian resident for tax purposes. He fulfilled the second condition out of three conditions of residential status, that is the test of 183 days. He lived for 11 months in Australia which is more than 183 days and also more than half of income year. So he will be treated as resident of Australia for taxation purpose for that year. 

Ordinary Income

As per Income Tax Assessment Act 1997, ordinary income will be (Commonwealth Consolidated Acts):

  1. Assessable or computed income included as ordinary income.
  2. For the Australian resident, income earned during the income year in Australia or out of Australia from all available sources, whether directly or indirectly will be referred as assessable income.
  3. For the resident of foreign, assessable income will be:
  • Ordinary income earned in Australia during the income year by all available Australian sources, whether directly or indirectly.
  • Ordinary income which is earned during the income year from sources available outside Australia as per included provision under assessable income.
  1. If individual is working out of Australia, then the amount of ordinary income derived or received. 
  • Californian Copper Syndicate Ltd v Harris (Surveyor of Taxes) (1904) 5 TC 159:

Under this case, Syndicate Ltd bought a mining property. Company purchased this property with intention of gaining profit by resale it. They received income by doing mining operations on that property. Later on they obtained profit by selling the same property. The issue arises under this case that profit earned by selling the property would be treated as ordinary income or capital income (Student Law Notes, 2016).

As per the statement of Lord Justice Clerk (Australian Government, Australian Taxation Office, Taxation Ruling, 2016), if a person who is owner of any property or investment and wants to sell that property for higher price than it was originally obtained. Then that increased price which he received by selling the property will not be treated as profit for the purpose of taxation. But in the case of increased value received by conversion or realization of property then income tax will be applied on that value. Where a transaction held merely for realization or conversion of security for obtaining gains, it will be considered as profit and tax will be applicable on same.

In the case of Californian Copper Syndicate Ltd v Harris, transaction occurred with the intention of gaining profit by selling the mining property. Syndicate Ltd purchased property for the motive of resale and gaining profit by resale on enhanced price. So, that increased price will not consider as profit for taxation purpose because it was not merely a transaction of conversion of property.    

  • Scottish Australian Mining Co Ltd v FC of T (1950) 81 CLR 188:

Under this case, taxpayers engaged in business of coal mining over land of 1771 acres which they bought during the period of 1863 to 1865. After a long period, in 1924 taxpayers came on a decision to sell the mining land because the land had been exhausted. The company wanted to receive attractive price by selling land in innovative or creative way. Significant expenses incurred by company for making division of mining land by build railway station, roads, park and providing land for schools and churches and other public institutions (Smith, 2003). It was held that, in company’s assessable income, profit should not be included. Here, company had engaged in the business of coal mining on the land. The company is not shaped for the intention of dealing in land and in fact, company is not engaged in such type of business.

The taxation commissioner evaluated the developing profit as assessable income. But the High Court consequently held that, all expenses incurred by company for making division and other actions, had merely taken for achieving most beneficial price of land. So the profit would not be assessable and would be assessed on capital account.

It was scrutinize that the company engaged in the business of coal mining on the land, the company was not established for the purpose of selling or purchasing in land or such business. So it was held by court that such profits should not be treated as assessable income of company (Wolters Kluwer, 2016). 

  • FC of T v Whitfords Beach Pty Ltd (1982) 150 CLR:

Under the case of Federal Commissioner of Taxation v. Whitfords Beach Pty. Ltd., Whitfords was the taxpayer company who purchased the land with area of 1,584 acres in year 1954. Thus the fishermen, who were stakeholders, got right of entry in fishing shake on a beach. After a long period, in 1967, three companies which were engaged in development work wanted to obtain that land for the purpose of gaining profit on resale after subdivision of land. Developers purchased land and subdivided and sold on profit. To avoid income under ordinary income, they decided in place of buy shares in Whitfords, when they control over the company, land would be subdivided and sold. They assumed that the transaction would be treated as mere realization of asset, the motive of acquiring the land was not making gain. So they bought shares in Whitfords and altered the company’s constitution, and after that develop the land. At last they sold the land on appropriate profit. 

It was held by High Court that such profit (purchase of asset for gaining profit on resale after some development and subdivision) have been assessable under section 25(1) of ITAA 36. It was concluded that when Whitfords acquired by stakeholders, who were developers, the company converted into a business of profit making from the land held for “domestic purposes”. By this way conversion into development from realization will be treated as assessable transaction (Harvey & Legal, 2008).  

  • Statham & Anor v FC of T 89 ATC 4070:

Liability of paying tax was held with trustees of deceased land, under this case. Many years ago, parcel of farming land had purchased by deceased for the purpose of hoisting his family and holding some actions of farming. After some time, half portion of land sold by deceased to a company, which was managed by members of his family. There was no motive to resell on profit to the land and new holder come into partnership for the purpose of lifting up livestock. But the execution did not sound in partnership, so the holders decided to sell the land after subdivision. At the time of selling subdivided land, the deceased passed away. Dispute made by commissioner that income earned by sale of some subdivided land would be treated as assessable income of the deceased land. Argue made by taxpayers that earnings from sales or profit making plan would not be ordinary income.

It was held by the court that the holders were not engaged under profit making business, so these profits would not be ordinary income. Here, holders decided to resell the land due to unsuccessful farming business, so it cannot be assumed that realization will be taxable (Course Hero, 2016).                    

  • Casimaty v FC of T 97 ATC 5135:

George Casimaty, who was a farmer, bought a land from his father. The land was 988 acres and purchase made in installments. Further 40 acres land was purchased in January 1956 which was adjoining to previous land. 

Under this case, land has been purchased with intension of farming and after using for long years, land subdivided. This case showing that at the time of acquirement of land, there was no aim of gaining profit by resale the property.  

In Casimaty v FC of T 97 ATC 5135, the taxpayers subdivided land into eight parts and then sold major part of it. Property was obtained in 1950 in two separate parts. Subdivision commence due to increasing debts and ill health, after 20 years of acquisition.

            It was submitted for the taxpayer that the subdivision and sale of parts of land represented the realization of capital assets and there, business was not conducted for generating income. The question arises whether this income should be treated as profits or gains arises from carrying on a trade or business.  

It was held by Federal Court that subdivision and selling the land was not the business of taxpayers (AUSTAX PBR, 2000) and the profits acquired by subdividing the property were treated as realization of capital asset. Here, land was initially purchased with farming intention as well as for residential purpose and no facts given regarding change of intension. 

  • Moana Sand Pty Ltd v FC of T 88 ATC 4897:

Under this case, land acquired with the intension of selling sand on that land. When the sand became exhausted, land would be held until ready for subdivision. Decision taken under Moana Sand Pty Ltd v FC of T, that the gain arising from necessary acquisition of property would be treated as assessable income (Journal of Australian Taxation).

The land was purchased by the company for working and selling sand on that property, and land would be held by the company until company obtained fine price for subdivision. The resale price which was less than the purchasing price treated as assessable income. The Court concluded that the land obtained for two intensions. The land would be sold to family company or third party who can pay highest consideration to the taxpayers.

For entering into the transaction it is not necessary that the purpose of profit making be the dominant intention. So the Court came on conclusion that the taxpayers bought land for two purposes. The motives were working and selling the sand and after that holding the land for subdivision until it became ‘ripe’. They sold to another family company or to a third party for the subdivision purpose; whichever provided the highest financial return to the taxpayers. 

  • Crow v FC of T 88 ATC 4620:

A large sum of money was borrowed by the farmer to purchase five blocks of land over 10 years of period. The land used in farming, grazing and growing crops for short period of time and after that it was subdivided. The taxpayers sold 51 blocks of land and received an overall net profit of $388,288.   

In this case, borrower obtained many lands and after subdivision, sale the land in parcels under the business of land development. The court came on decision that the taxpayer bought and sold the land for gaining profit. The taxpayer was engaged in the business of land development by performing on transactions of land development. The main motive of taxpayer to enter into this transaction was gaining profit (Australian Government, Australian Taxation Office).

It was held by the Federal Court that taxpayer engaged in the business of land development, hence profit would be assessable. The court had been known that at initial time land used as farm, but due to high volume of debts, some lands would needed to be sold. Hence as per decision of court, profit would be treated as assessable income because the primary business in which taxpayers were engaged was land development business. 

  • McCurry & Anor v FC of T 98 ATC 4487:

Under this case, land bought by the taxpayers on which an old house was built. House was destroyed by the taxpayer for constructing there three townhouses on that land. The ineffective advertisement made by taxpayer for sale the townhouse, before completion of construction over them. Later, taxpayers and their family started to live on two townhouses. After some time taxpayers purchased another block of land with intention to sell after constructing units on that land. The Commissioner told that gains arising from sale of townhouses would be treated as assessable income as the profit arises from commercial activity of gaining profit. argue made by the taxpayers that the sale of townhouses treated as mere realization of capital asset. And it would not be treated as ordinary income because the townhouses uses for residential purpose (Webb Martin, 2015).

It was held by the court that the sale of townhouses would be considered as ordinary income because the intension behind acquiring the land was gaining profit by resale, as it was commercial motive. There was no intention of investment by acquiring the land and built townhouses after acquisition and realization of capital asset not held there. Although the primary motive of taxpayers was making profit by resale the asset, no matters taxpayers lived there with their family. 

References:

AUSTAX PBR. (2000). Sale of land – Income or capital?. Retrieved on 26 Aug 2016 from: https://austaxpbr.com.au/document/PBR_8095

Australian Government, Australian Taxation Office. (2016). Legal Database. Taxation Ruling. Retrieved on 25 Aug 2016 from: http://law.ato.gov.au/atolaw/view.htm?DocID=TXR/TR923/NAT/ATO/00001

Australian Government, Australian Taxation Office. (2016). Residency tests. Retrieved on 25 Aug 2016 from: https://www.ato.gov.au/Individuals/International-tax-for-individuals/Work-out-your-tax-residency/Residency-tests/

Australian Government, Australian Taxation Office. ATO Interpretative Decision. Retrieved on 26 Aug 2016 from: https://www.ato.gov.au/law/view/document?docid=AID/AID200155/00001

Commonwealth Consolidated Acts. INCOME TAX ASSESSMENT ACT 1997 – SECT 6.5. Retrieved on 25 Aug 2016 from: http://www.austlii.edu.au/au/legis/cth/consol_act/itaa1997240/s6.5.html

Course Hero. (2016). Statham anor v fc of t 89 atc 4070 in this case the. Retrieved on 26 Aug 2016 from: https://www.coursehero.com/file/p1mvhm9/Statham-Anor-v-FC-of-T-89-ATC-4070-In-this-case-the-taxpayers-were-trustees-of/

Harvey, K. & Legal, A. (2008). Television Education Network. Tax Basics – Program 29: Taxation & CGT Aspects of Real Property Development. Retrieved on 26 Aug 2016 from:http://www.tved.net.au/index.cfm?SimpleDisplay=PaperDisplay.cfm&PaperDisplay=http://www.tved.net.au/PublicPapers/
September_2008,_Tax_Basics,_Tax_Basics___Program_29___Taxation___CGT_Aspects_of_Real_
Property_Development.html

Journal of Australian Taxation. Retrieved on 26 Aug 2016 from: http://www.austlii.edu.au/au/journals/JlATax/1999/13.html

Smith, A. (2003). Property Development: Land and Property. Retrieved on 25 Aug 2016 from: file:///C:/Users/Guest/Downloads/d020520030207_prop_development_smith.pdf

Student Law Notes. (2016). Californian Copper Syndicate v Harris (1904) 5 TC 159. Retrieved on 25 Aug 2016 from: https://www.studentlawnotes.com/californian-copper-syndicate-v-harris-1904-5-tc-159

Webb Martin, consulting. (2015). Property Subdivision. Retrieved on 26 Aug 2016 from: http://www.webbmartinconsulting.com.au/#!Property-Subdivision/c7zf/551ba1e30cf215f35a2ff93e

Wolters Kluwer. (2016). Court Cases: Federal Commissioner of Taxation v. Whitfords Beach Pty. Ltd., High Court of Australia, 17 March 1982. Retrieved on 25 Aug 2016 from: http://www.iknow.cch.com.au/document/atagUio549860sl16841994/federal-commissioner-of-taxation-v-whitfords-beach-pty-ltd-high-court-of-australia-17-march-1982

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