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How should you structure property development?
How to Structure Property Development
Let’s say your client wants to build ten apartments. They have plenty of experience building, but this is their first development. So they ask you how to structure it.
Should they buy the land? Would a company, joint venture or unit trust work best? Should they sell off-the-plan or later? And what about stamp duty, land tax, GST and CGT?
These are just some of the questions Geoff Stein of Brown Wright Stein Lawyers in Sydney will discuss with you in this episode.
Here is what we learned but please listen in as Geoff explains all this much better than we ever could.
To listen while you drive, walk or work, just access the episode through a free podcast app on your mobile phone.
How to Structure Property Development
There are a lot of options and moving parts to consider. So to make it easier let’s use an example.
Example
Let’s say you are the developer in this case. You are GST-registered and want to build 10 apartments within 3 years.
The land costs $12m and building costs are $8m, so all up it will cost you $20m to develop those 10 apartments. You plan to sell them for $4m each, so $40m, so all up you make a profit of $20m.
Scenario 1 and 2 – Purchase of Land
The first scenario is that you just buy the land, have those apartments built either by your own building company or a third-party builder and then you sell those 10 apartments either at the end – scenario 1 – or – off-the-plan – scenario 2.
This approach has two disadvantages:
- You pay stamp duty on the land and then the investors or home buyers buying the apartments pay stamp duty again.
- And you also pay land tax during the three years of construction since you own the land during that time.
So we expected Geoff Stein of Brown Wright Stein Lawyers in Sydney to wipe this off the table in one sweep, but he didn’t.
To the contrary: This approach – buying the land and then selling off-the-plan or at the end – is by far the most common structure for property developments.
Because the advantages outweigh the additional stamp duty and land tax. The main advantage is that you sell a finished product and hence can ask for a higher price. And you can control the development and don’t have the landowner interfering in your project.
Once you involve the landowner through a joint-venture or similar in the development, that is when things get more complicated.
Off-the-Plan Sales
For off-the-plan sales stamp duty is due within 15 months and not within the standard 3 monts. That is the main advantage of an off-the-plan sale.
Land tax still applies until the sale is completed. So you as the developer still pay land tax all the way through until the off-the-plan sales reach settlement.
So off-the-plan sales mainly have a commercial advantage and not really a tax advantage.
Scenario 3 – No Purchase of Land
The second most common scenario to structure property development is that the original owner retains ownership of the land until the ultimate sale of the apartments.
You as the developer will then need security over your development work – for example through a joint venture agreement.
Margin Scheme
If the original owner is not registered for GST and the land was their main residence, then you as the developer might be able to apply the margin scheme.
In this example, you would only pay GST on 1/11 of $28m ($20m profit plus $8m construction cost), but then also receive an input tax credit for the $8m of construction costs.
Scenario 4 – Put and Call Option
You incur significant development cost but you don’t own the land in Scenario 3. How to secure your position as developer?
A Put and Call option might be the solution. There are three scenarios where you would use a put-and-call option.
1 – You use a put and call option to start the application process without yet having to pay a deposit and stamp duty on the purchase of the land.
2 – An investor might use a put and call option to defer when they have to pay stamp duty.
3 – A vendor might use the option to move the sale to a different financial year.
Stamp duty on put and call options is calculated at the time of settlements. So if the value goes up, you pay stamp duty on the higher value. If the value goes down during construction, you pay stamp duty on the lower value.
Scenario 5 – Joint Venture
The original owner maintains ownership of the land. And the development is done as a joint venture or under a management agreement.
A joint venture works better if you as the developer do not intend to keep any apartments at the end.
If you do, then you need to get on title. And so the question is when? And that brings a whole lot of GST, stamp duty and CGT issues with it. So for a joint venture it is best if you as the developer have no intention of holding apartments.
Scenario 6 – Unit Trust
Using a unit trust is a common vehicle to structure property development.
A unit trust is typically used where the developer wants to get tax dedcuctions for interest on monies borrowed and then offset that against other activities.
Scenario 7 – Foreign Persons
Foreign investors face three hurdles. They
1 – Need approval from the Foreign Investment Review Board
2 – Pay higher stamp duty rates
3 – Pay higher land tax
A foreign person tends to be a capital contributor rather than a land owner to avoid the additional stamp duty and land tax.
Scenario 8 – Ground Floor is Commercial Retail Space
With retail space you are dealing with a GST taxable supply all the way through.
Whereas with residential apartment if you intend to hold them as a longterm rental you don’t get an input tax credit.
Five years is the test. New residential premises become ‘old ‘after five years. So if you hold residential apartments for more than five years, you can’t claim an input tax credit. If you sell it within five years, you can claim the input tax credits.
If you sell the retail space while fully leased, you might be able to sell it GST-exempt as a ‘going concern’.
However, if you sell the entire development business while not yet completed including the residential apartments, then you could claim a going conern exemption for the entire entreprise.
Scenario 9 – Townhouses
With townhouses on individual titles after a subdivision, you can do a bare trust arrangement because you can identify who owns which parcels of land. That opens up a whole range of structuring opportunities.
Summary
So to summarise our learnings, here are 7 light bulb moments we had:
1 – Yes, stamp duty becomes due within 15 months, and not the usual 3 months, and that is a plus. But you don’t save any stamp duty as such, since stamp duty is calculated on the full price and not just the land value.
2 – In off-the-plan sales the owner of the land still pays land tax during the construction period. The land tax only moves over to the purchasers upon completion and actual sale.
3 – So off-the-plan sales have commercial advantages but don’t really offer any tax savings.
4 – Residential rent is input-taxed but the sale of new residential property is subject to GST as a taxable supply. The cut-off is five years.
5 – If the original land owner is not registered for GST, you can use the margin scheme.
6 – Joint ventures with the original land owner work best if the developer has no intention of holding units at the end. Because in a joint venture the developer doesn’t go on title, but to hold units they would need to.
7 – Foreign investors are better off to just contribute capital rather than going on title to avoid the higher stamp duty and land tax rates for foreign persons.
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Disclaimer: Tax Talks does not provide financial or tax advice. All information on Tax Talks is of a general nature only and might no longer be up to date or correct. You should seek professional accredited tax and financial advice when considering whether the information is suitable to your or your client’s circumstances.
Last Updated on 24 August 2021
Tax Talks spoke to Geoff Stein - Partner at Brown Wright Stein Lawyers - for more details.
