Over the last few issues we’ve been looking at the impact of Capital Gains Tax (CGT) on subdividing the land of your family home. Moving on from last month where we looked at subdividing and then selling the vacant land, this month we’re going to look at subdividing and then building on the vacant land. Many people may be surprised at the tax implications of building in their own backyard.
Let’s start with the worst case scenario. You’ve lived in your own home on a large block since 1995. You now see a money making opportunity by subdividing your large block. So you quickly go ahead and subdivide, build a house on the new block and then sell it soon after.
Firstly, CGT will be applicable as the newly subdivided area is no longer part of your main residence. Secondly, GST will be applicable. To recap on a previous article, GST is applicable if you are running an enterprise and have an expected turnover of ‘taxable supplies’ in excess of $75,000 per year.Subdividing and building with the intention and expectation of a profit is considered an enterprise, plus any profits derived from a new residential build are a taxable supply. A situation with both full CGT and GST applied can seriously erode your profits and in some cases put people in an even worse financial position.
There is however another option. You could actually move into the newly built premises and then sell the original family home. The tax consequences for selling the original home can be enticing. It won’t be subject to CGT as it will qualify as your main residence which receives an exemption (meaning you don’t pay tax on the profits), plus as it’s your private residence for sale it’s not considered an enterprise thus no GST to be paid.
And the tax consequences for the new home you’ve now moved into? Well, for now there isn’t really any. But let’s assume that of course some time down the track you will sell. For the period you lived in the property as your main residence, it will be free from CGT. But the portion of time you didn’t live in it (including when it was vacant land right back to the time of purchase of the original plot) will be subject to CGT.
So using the earlier example, let’s say you subdivided, built and moved into the back residence in 2005 instead of selling it (10 years after you first purchased the original house and land). You live in the property for 5 years and sell in 2010. When you sell, about 1/3rd (or 5 years) will be exempt from CGT for the period you lived there, while the remainder (10 years) will be subject to CGT. Additionally when you sell, even though the home is considered new premises, you should not be liable for GST because it is your main residence which would normally not constitute running an enterprise.
When developing your own backyard, it’s not always easy figuring out when CGT or GST may be applicable to your circumstances. Do seek professional advice from your accountant before embarking on such a project.
Also don’t forget to check out next month’s Tax Tips section where we’ll finish off our discussion of CGT and sub-division by looking at the implications of building and then renting out the new property.