GST consequences of leasing new residential developments
Posted on September 02, 2013
As a developer you may find yourself with a large amount of stock - and a lack of purchasers - upon completion of a development. Instead of leaving the apartment empty it may make sense commercially to lease some or all of them until the market recovers. There are many factors that need to be taken into account in making this decision, including: likely time of recovery in the property market; cash flow, holding costs (including land tax). Another consideration is GST.
If you sell ‘new’ residential premises you must remit 1/11th of the purchase price for GST. You are able to claim input tax credits on goods and services that went into building the premises.
If you sell residential premises and it is not ‘new’ then it is input taxed. You will not be required to remit GST. However, you cannot claim input tax credits.
Property that is not held for sale and has been leased out for 5 continuous years will not be new residential premises. Its sale will be input taxed. But it is not a GST free-kick. If you claimed input tax credits on the construction of the premises then over that 5-year period you will have to make GST ‘adjustments’ and pay the input tax credits back.
If your expected sale price is more your costs (i.e. you are selling for a profit) then the amount of the ‘adjustments’ should be less than the amount of the GST you would have remitted if the property was new.
Example 1
You have constructed a block of 10 residential units for sale. Your costs have been $4.4m, less $400,000 of input tax credits that you claimed back. You intended to sell each unit for $550,000 (GST inclusive). The market is weak, and you cannot achieve that price. However you believe that in 5 to 6 years the market will be strong again. If you rent the 10 units out the rent will cover their holding costs.
You change your intention (more on this later) and after 5 years the units become ‘used’ residential premises. The units are now input taxed. In the improved market you are able to sell all the units for $5.5m. You don’t have to remit 1/11th of the proceeds as consideration.
Over the 5 years that you leased the units you had to pay back the $400,000 of input tax credits. But upon sale there was $500,000 of proceeds that you didn’t have to remit for GST. So you are $100,000 ahead.
Keeping Property for Sale
You may decide that you don’t want to make ‘adjustments’ and pay back the input tax credits you have claimed. This might be because it reduces your cash flow or because you want to sell ‘new’ residential premises. Or it might be because the complex calculations for the ‘adjustments’ give your accountant heart palpitations (you should thank them if they do the ‘adjustment’ calculations). If you continue to hold the property for sale then you will be able to sell it as ‘new’ residential premises, even if you lease it out in the meantime.
Whether property is held for sale is based on “an objective assessment of the facts and circumstances”. You may intend to sell property and lease it out for a number of years. You may even lease it for more than 5 years without making any ‘adjustments’ - if you continue to hold the property for sale.
If you are leasing property for an indefinite time, you won’t be holding it for sale.
The 5 year clock on leased property becoming ‘used’ residential premises only starts running when you stop holding the property for sale.
Example 2
For 2 years after building the units in Example 1 you attempt to sell them. You lease them out over those 2 years in order to recoup holding costs. You then decide that you wish to sell them as input taxed ‘used’ residential premises. You will need to lease them out, with no intention to sell them for a further 5 years before the units become ‘used’ residential premises.
Conclusion
It is important to consider carefully whether you are holding ‘new’ residential premises for sale, or for leasing. The GST cash flow implication can be significant. If you make a mistake this area is the subject of ATO audit activity. But especially in a soft market careful planning can create tax benefits.