Why the change?
Under the current law, the seller of new residential premises or subdivided land is required to collect and remit the GST associated with the sale to the ATO through its Business Activity Statement lodgement process. The government has identified that some property developers are failing to remit the GST on their sales, despite claiming credits for GST incurred on development costs. In order to combat this non-payment of GST, the responsibility for payment of the GST will be shifted to the purchaser.
Presently, where a developer goes into liquidation, the ATO becomes an unsecured creditor in respect of any outstanding GST liabilities often with little hope of recovery. As a result of the proposed change, the ATO will collect the GST at settlement in order to overcome the situation where the developer goes into liquidation before the GST on the sales is remitted. Pitcher Partners understands that the ATO has seen a significant increase in the use of illegal phoenix arrangements in recent years, where entities are deliberately liquidated to avoid payment of their debts (including taxes) and a new entity is created to continue the business of the liquidated entity. We understand it is these phoenix arrangements that are behind the move to make property purchasers responsible for GST payments.
How will it work?
The announcement was unexpected and it remains unclear exactly how the new regime will operate to collect the GST from the purchaser. At this stage we anticipate that the system will likely operate via a GST withholding model under which the purchaser will withhold the GST amount from the vendor at settlement and pay it directly to the ATO.
On the basis that a withholding model is likely to be implemented, it remains to be seen whether the amount to be withheld will be a specific dollar amount or a percentage of the purchase price. This has implications where the margin scheme is used by the developer to work out the GST payable on the sale.
It is not yet known whether the payment to the ATO by the purchaser will be made on behalf of the seller, or whether the purchaser will become legally liable for the GST.
This may present issues if the purchaser fails to pay the GST at settlement and whether the ATO’s recovery is then targeted at the seller or the purchaser. The parties will need to consider this issue when agreeing to any tax indemnities as part of the sale contract.
What does this mean for property developers?
We expect that property developers will be faced with a range of issues to consider as a result of the proposed changes, including those discussed below.
In the context of developments of new residential premises and new subdivisions, properties are often sold by the developer under the margin scheme, with the result that the GST payable is less than 1/11th of the sale price. Application of the margin scheme to property sales can be notoriously complicated. It remains to be seen how the new rules will deal with the onus of calculating the GST liability where the margin scheme is applicable to the sale. This may present several hurdles, including:
- If a specific dollar amount is required to be withheld, disclosure of confidential information by the seller regarding the property’s history including its purchase price may be required;
- If a ‘percentage of purchase price’ approach is adopted for the withholding calculation, the developer may need to undertake a withholding reconciliation to accurately determine their final liability and potentially obtain a refund from the ATO if too much GST has been remitted;
- If a ‘percentage of purchase price’ approach is adopted, whether there will also be the opportunity to vary the amount to be withheld to more closely align with the true margin scheme liability in respect of the sale.
A number of compliance issues will also impact developers and will need to be clarified, including:
- Amendment of the current format of settlement statements and settlement procedures to cater for the payment of the GST to the ATO; and
- The risk of error in calculation leading to an overpayment of GST and whether this can be recovered from the ATO.
Developers will also need to consider cash flow issues as they will no longer have the benefit of the GST component of the sale proceeds in their bank account for the period between settlement and lodgement of their Business Activity Statement.
Property development structures involving separate land owning and developer entities will need to consider the impact of the changes on the typical “waterfall payment” structure under which the developer is paid for its services.
Accounting and GST compliance software may need to be updated, particularly where the developer has a GST liability it will never receive payment for because that GST amount is paid directly by the purchaser to the ATO.
Where the responsibility for calculating the GST on the supply falls to the purchaser, this could also represent additional GST compliance costs for the purchaser and an increase in conveyancing costs (along with a need for conveyancers to upskill in the area).
Each state’s standard sale of land contract will also need to be updated to reflect the proposed changes. Lawyers that have developed their own sale contracts will need to ensure that they cater for the new regime.
In our view, the changes are unlikely to have a flow-on effect to the application of stamp duty to the sale of real property. Stamp duty is calculated on the GST-inclusive price. The price will not change once the new rules come into effect, rather the mechanism by which GST is remitted to the ATO will change.
Given that the time between parties entering into a contract of sale and the eventual settlement of a property can be many months or sometimes years, there is a need for definitive transitional rules to be included as part of the proposed measures for contracts which span the 1 July 2018 commencement date. This is especially the case in the context of off-the-plan developments, where contracts of sale are often executed a number of years prior to settlement. Many development that are currently under construction across Australia and which will be completed after 1 July 2018 are likely to be affected by the new rules.
While the Federal Government has not yet released any draft legislation or guidance on the proposed changes, we expect that given the broad range of issues associated with the changes there will be consultation with industry and professional groups.
We will be adding our voice to this consultation on behalf of our clients through various forums, particularly with a view to emphasising the need to ensure that the new rules do not adversely impact developers or investors.