Bowerman and Commissioner of Taxation [2023] AATA 3547 set the cat among the pigeons this month when a taxpayer successfully argued that she should be entitled to claim a deduction on revenue account on the loss when she sold her private residence.
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Inside this month Michael Carruthers (Tax Director), Matthew Tse (Tax Adviser) and Lisa Armstrong (MD) bring you:
The taxpayer who claimed a deduction from a loss on the sale of their main residence
In Bowerman and Commissioner of Taxation [2023] AATA 3547, the taxpayer successfully argued that she should be entitled to claim a deduction on revenue account on the loss that arose from selling a private residence.
The facts of this case are broadly summarised as follows:
- Following the passing of her husband in the 2015, the taxpayer signed a contract to purchase an off the plan apartment in Woolaware Bay (i.e., Foreshore Boulevard Unit) which she intended to live in on completion.
- Approximately two years later in November 2017, the taxpayer signed a second contract to purchase another off the plan apartment in the same development (i.e., Dune Walk Unit) which was expected to complete earlier than the Foreshore Boulevard Unit.
- While the taxpayer acknowledged that she had the intention to live in the Dune Walk Unit during the period that the Foreshore Boulevard unit was being developed, she also stated that she purchased the unit with the expectation of making on a profit on the sale. In fact, the taxpayer said that she would not have bought the apartment if she thought she would not make money on it.
- Ultimately, the taxpayer lived in the Dune Walk Unit for 26 months before she sold the property at a loss due to lack of buyer interest as a result of COVID-19 restrictions.
The taxpayer sought to claim a deduction for the loss on revenue account in her original tax return, but the ATO denied the deduction arguing the sale of the Dune Walk Unit was the mere realisation of a capital asset. Not only was the loss capital in nature, but the ATO considered that the capital loss was ignored under the main residence provisions.
The AAT disagreed with the ATO’s position, concluding that the taxpayer was entitled to claim a deduction for the loss on revenue account under section 8-1 ITAA97. This was based on the Myer principle. That is, the AAT was satisfied that she had acquired the property for the purpose of profit-making in the short term and that this transaction had taken place in the context of a ‘business deal’ or ‘commercial transaction’.
The AAT reached this decision having regard to the following:
- The taxpayer knowing at the time of purchasing the Dune Walk Unit that she would have needed to sell this apartment to fund the completion of the Foreshore Boulevard Unit; and
- The taxpayer’s awareness of growth in the off the plan units in the development acknowledging that she probably would have made a profit had it not been for the COVID-19 restrictions.
Interestingly, the AAT considered the profit-making intention need not be the sole or dominant purpose of the transaction, but just needed to be one of the purposes in order for the arrangement to be taxed on revenue account. Also, the AAT considered that the buying of the Dune Walk Unit with the intention of re-sale at a profit was the sort of thing a businessperson would do. The AAT concluded that the fact that the taxpayer lived in the property as their private residence across the ownership period didn’t mean that the loss was private in nature.
The AAT also reached an interesting outcome on the timing of the deduction.
Because the taxpayer relied upon the ATO’s ruling TR 97/7 which considers when an expense is incurred and this binds the ATO, the AAT held that the loss on the sale of the Dune Walk Unit was incurred and deductible in the income year in which the sale contract for the Dune Walk Unit was entered into.
Absent TR 97/7, the AAT conceded that the loss would not have been incurred and deductible until settlement.
This AAT decision has potential flow-on implications especially for those who buy and sell properties within a short period of time who were hoping to argue that the property is held on capital account on the basis that they’ve used the property as their main residence.
This is because the decision arguably sets a low bar for when the sale of a property could be taxed on revenue account as a commercial or business transaction.
In a way, the facts of this case are somewhat unique because most properties are sold for a profit. If the profit on the sale of a property is taxed solely on revenue account, the problem is that taxpayers will lose the ability to access the 50% general discount as well as other CGT concessions including the main residence exemption.
We will need to wait and see if the ATO appeals to the AAT decision. If the ATO does appeal, there is no guarantee that the Federal Court will reach the same conclusion as the AAT. If the ATO doesn’t appeal the decision, then hopefully a decision impact statement will be released which provides guidance on how the ATO plans to deal with the AAT decision. Remember that the ATO is not bound by an AAT decision.
ATO view prevails despite Bendel case decision
Last month’s round up covered the AAT decision in Bendel and Commissioner of Taxation [2023] AATA 3074.
This AAT decision challenges the ATO’s long held position that unpaid distributions owed to a private company can be treated as a loan for Division 7A purposes.
While the decision is being contested before the Federal court, the ATO has issued a Decision Impact Statement in the interim to explain its administrative approach.
Pending the final outcome of the case, the ATO will continue to apply its existing view as expressed in TD 2022/11. This determination essentially outlines the ATO’s view that a corporate beneficiary’s failure to call for the payment of its trust entitlement and allowing the trustee to use these funds amounts to a loan to the trust for Division 7A purposes.
Until the appeal process is finalised, the ATO will also generally not finalise objection decisions where the decision concerns whether an unpaid trust distribution is a loan for Division 7A purposes. The main exception to this is where the taxpayer gives notice requiring the Commissioner to make an objection decision and in such a case, the decision will be made based on the ATO’s existing view in TD 2022/11.
Importantly, the ATO has reminded practitioners and taxpayers that the AAT decision deals specifically with Division 7A. Leaving trust distributions owed to corporate beneficiaries unpaid could trigger other tax implications including under the reimbursement provisions in section 100A.
In broad terms, section 100A is an integrity provision dealing with trust distributions which can apply in situations where income is appointed to a beneficiary of a trust, but the real economic benefit of the funds is provided to another party. This potentially includes situations where the funds are retained by the trust.
Many practitioners would be aware that the ATO has recently released guidance on section 100A in the form of TR 2022/4 and PCG 2022/2.
While the PCG in particular sets out a number of scenarios that would be considered low risk from a compliance perspective, it is important to be aware that some of the low risk scenarios essentially require the amount owed to the beneficiary to be placed on complying Division 7A loan terms.
Ultimately this AAT decision challenges an important ATO position, however it might be some time before this issue is resolved through the courts. In the meantime, practitioners should be aware of how the ATO is approaching this issue and also appreciate that unpaid trust distributions owing to corporate beneficiaries may trigger other tax considerations, including under the reimbursement provisions in section 100A.
Tax debts on hold
While it seems the ATO has paused sending debt letters for now, some clients and practitioners may have already received letters in connection with debts placed on hold that outline the ATO’s approach to collecting these types of debts.
Debts on hold are considered uneconomical to pursue and the ATO wouldn’t normally commit resources to try and collect them. However, if a client becomes entitled to any refunds or credits (for example, upon lodging their BAS or tax return), these will normally be used to pay the debts even if they are on hold.
Importantly, many clients may not be aware that they have debts that have been placed on hold. This is because they will not show up as an outstanding balance on the account. The ATO guidance sets out on how these debts can be specifically located using online services for both clients and registered agents.
Practitioners with clients expecting refunds that also have debts on hold should ensure those clients understand that these refunds can still be used offset these outstanding liabilities.
Tax agent linking
To improve the security of its online services the ATO has introduced additional steps that require taxpayers to authorise and nominate their agents through ‘Online services for business’.
While these steps previously only applied to certain taxpayers, they now apply from 13 November 2023 to all taxpayers with ABNs excluding individuals and sole traders.
Taxpayers that are maintaining their current arrangements with their existing agents should not be impacted. This is because these additional steps apply to taxpayers that are either:
- Appointing a new agent as their representative; or
- Providing an existing agent with an authority for a new tax obligation.
The ATO has released a series of guides to assist taxpayers and agents with this process and has also flagged several common issues.
The ATO is reminding agents that they should only add themselves to an account (for example, the activity statement account) that they are authorised to represent their client for. By adding themselves inadvertently to an incorrect account, this will remove any existing agents linked to that account which will then require the client to repeat the nomination process.
Agents should also consider asking clients to inform them when they have completed their nomination steps. This is because the agent is not automatically notified of this, but they only have 28 days to add the client to their client list before the nomination period normally expires (although this deadline can be extended for another 28 days).
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