The cost of owning Australian vacant land just increased

The cost for Australian and international investors purchasing vacant land has come into the spotlight following the Australian Tax Office's recent tax ruling.

What is the restriction?

Expenses related to owning vacant land – such as interest, or ongoing loan costs – can only be claimed as a tax deduction if the land is being used in a business operation.

A qualifying business is one earning assessable income for:

• The landowner and their affiliates;
• The spouse or minor children of an individual landowner; or
• An entity linked to the landowner.

This deduction limitation does not affect corporate taxpayers, superannuation funds – excluding self-managed superfunds (SMSFs), managed investment trusts, public unit trusts, partnerships, or unit trusts whose members include the entities above.

What is the tax ruling?

Tax deductions are limited by failing one of three criteria:

• Does the land have a substantial and permanent structure?
• If a structure exists, is it currently in use?
• Does the structure serve a function independent of any other structure?

What is a substantial structure?

A substantial structure is characterised by its considerable size, worth, or another measure of importance relevant to the property. 

What is “currently in use”?

Properties that can be occupied, whether for residential or commercial use, are considered ready for use unless declared unsafe.

What is an independent function?

Structures designed to enhance the functionality of another structure are not independent. For instance, items such as farm fences, silos, and sheds are considered significant and enduring structures. And items like residential fences or garages, despite being permanent, lack an autonomous purpose apart from the home. 

Ready for use?

Whether land is being used in a business is factual. For example, land owned by a developer awaiting future projects is deemed “ready for use”.

The Australian Taxation Office (ATO) has issued guidelines and required items for “ready for use” properties:

• The tenant must have an active Australian Business Number; 
• The tenant must have a GST registration;
• Will the tenant need an invoice? 
• What is the tenant's objective for the land?
• What is the lease payment magnitude? Significantly low rates suggest non-business use;
• Is there a formal lease agreement in place and what are the conditions of the lease?

This approach is intended to assure investors that the ATO will limit further checks.

Conclusion

The increasing focus by Australian tax authorities on international property investors is changing the cash flow profile of property developments and their structuring. The recent tax ruling regarding vacant property has been long awaited and controversial for many developers, and created confusion for those without advice.

---

Ross Forrester is a director of the Australian accounting and tax firm Westcourt. He is the Asian Regional Chair of the GGI International Tax Practice Group and the State Chair of the Taxation Institute of Australia.