Capital Gains Tax on Wraps?

Hi Roofarmer

Yes, things have changed. There has been some tax determinations produced early this year (do a search on this site for more details). Basically the ATO is saying the sale takes place on the date of the contract, and therefore CGT should be paid for that financial year.

Maybe lease otpions are a way around this.

Terryw
Discover Home Loans
North Sydney
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Roofarmer

Terry as usual is correct there has been a few changes to the way Installment Contracts are taxed.

Have a look at the following link and this might help. All in all its another win for wrappers in the way income is assessed.

http://law.ato.gov.au/atolaw/view.htm?dbwidetocone=05%3AATO%20Interpretative%20Decisions%3ABy%20Year%3A2004%3A1-99%3A%230027%23ATO%20ID%202004%2F27%20-%20Derivation%20of%20income%26c%20residential%20properties%20instalment%20sales%20contracts%20-%20carrying%20on%20a%20business%26s%3B

Cheers Richard
richard at fhog.com.au
http://www.fhog.com.au

There is no such thing as a problem.
Just a solution waiting to be found

Roofarmer

I beleive that you can distribute the gains to any beneficiary and the tax payable would depend on their income. I assume it would be 30% only if distributed to a company.

Terryw
Discover Home Loans
North Sydney
[email protected]

Roofarmer,
Both lots of advice are wrong. CGT does not apply to Wraps it is normal income tax from sale of trading stock but you are not taxed on the income until settlement.

Here are the examples for Skippygirl and rulings for the doubters.

If the Vendor Finance arrangement has the following features the income stream received, once the wrap arrangement has begun, is considered to be principle and interest by the ATO. The income stream received before the wrap arrangement is entered into is considered rent. Reference ID2003/968.
Typical Features of a Wrap (Vendor Finance Arrangement)
1) The purchaser pays a deposit at the time of entering into the arrangement.
2) The settlement (change of the title deed to the purchaser) does not take place for several years after the arrangement is entered into.
3) The purchaser has the right to occupy the property prior to settlement
4) The purchaser pays a weekly amount (regardless of the name it is given in the arrangement) for the right to occupy the property
5) As part of the arrangement the purchaser pays the rates, taxes and insurances on the property.
6) The balance of the purchase price to be paid on settlement of the arrangement is reduced by the weekly instalments.
7) If the purchaser fails to complete the arrangement the deposit and weekly instalments are forfeited.

Now what about the profit on the sale of the property? Is that normal income or capital gain and when is it taxable? Assuming an agreement similar to that described above the answer to this question revolves around whether the vendor is in the business of selling houses or an investor just realising an investment. The key issues in differentiating here, according to ID2004/25, 26 & 27 are:
1) The Vendor did not use the property for any other purpose than to enter into the wrap. A straight rental of a property before entering into a wrap arrangement would avoid this point.
2) The property was sold at a profit
3) The wrap arrangement was entered into within 6 months of the vendor purchasing the property.
4) The Vendor is in the business of purchasing properties to resell. It would be difficult for the ATO to argue this case if the Vendor only bought and sold one property.

If you are caught by all of the above then CGT cannot apply to the sale of the property as the profit on the sale is revenue in nature. If a transaction is caught as income, CGT does not apply or in other words CGT is the last option if income tax doesn’t catch it. But even if you weren’t caught by the above and CGT applied there would be no discount if the property was held for under 12 months. If you did hold the property for less than 12 months before entering into the wrap it is better to argue that you are in business and caught by the above because the profit on sale would be revenue in nature and as a result not assessable until settlement which could be 25 years away (ID2004/27). If you hold the property for less than 12 months but it is subject to CGT you don’t qualify for the discount but would be assessable on the profit when entering into the wrap.
Section 104-15(1) of ITAA 1997 states that a CGT event happens when the owner of a property enters into an arrangement with another party to allow them to live in the property and title may transfer at the end of the arrangement. Section 104-10(3) states that the time the CGT event happens is the time of entering into a contract for the disposal of the asset, not when settlement (title passes) takes place.
For example this means that the vendor who enters into a wrap on a property that has been previously used as a rental and held for more than 6 months will be subject to CGT on the property in the financial year the wrap agreement is entered into. Accordingly, if at this stage the property has not been held for 12 months no CGT discount will be available even if they eventually end up holding the property for 25 years under the arrangement.

Disclaimer: Please note this information is general in nature and constantly changing so please don’t act on it without consulting your Accountant.

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Skippygirl,
“If the Vendor Finance arrangement has the following features the income stream received, once the wrap arrangement has begun, is considered to be principle and interest by the ATO”

You only declare the interest you receive as income and deduct against this income the interest you pay the bank. The principle portion of the repayment sits in your balance sheet as a deposit and is not assessable.

You are not thick I have just been doing this for too long to notice the obvious questions.

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KP,
The principle portion of the amount received is part of the deposit so not accessable as such though the sale itself is accessable.
The only time payments from the wrappee are rent is if they happened to be a normal tennant before you entered into the wrap agreement. Or you rented it to another tenant first. If either of these has happened you have a window of opportunity to get away from trading stock and into CGT though this is only an advantage if you hold the property for more than 12 months before you enter into the agreement to sell. The only difference between trading stock and capital gain being the 50% CGT discount available for properties held for more than 12 months. But if you do qualify for CGT you must pay the tax when you agree to sell rather than settlement which could be 25 years later.

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