New GST rules will apply to all land transactions, writes Paul McGonigal, tax manager for PwC.
Just six months ago, the GST landscape underwent significant change when the rate increased to 15 per cent. Come April 1 we will be heading down another new path as compulsory zero-rating (GST at 0 per cent) starts applying to all transactions involving land between GST-registered parties. This is a sweeping change.
The removal of the GST component of the purchase price is likely to be welcomed by the market. Purchasers will pay and vendors will receive a price without GST, assisting cash flow.
The new rules counter so-called "phoenix" arrangements, which typically involve a purchaser claiming a GST refund in circumstances where no GST is paid by the vendor.
In a nutshell, compulsory zero-rating (CZR) will apply to all transactions involving land, provided both parties are GST-registered, the purchaser intends to use the land for making supplies which are subject to GST and the land is not intended to be used as the principal residence of the purchaser or an associate.
The new rules are wide in scope and CZR will apply to a transaction, even if land is only a minor component.
There are limited exclusions. The current GST rules will continue to apply to mortgages, leases of residential dwellings and most commercial leases. Although most commercial leases with periodic rent will have GST at 15 per cent on rentals, CZR will apply if the lessee pays more than 25 per cent of the amount payable under the lease upfront, for example, lease premiums.
In order to facilitate the transition to the new rules, CZR is optional for the vendor if a binding agreement is entered into before April 1. The liability to account for GST will be triggered on or after April 1. This means it is important to review all current and upcoming transactions to determine how they will be impacted.
Change is always followed closely by challenges and there are some practical issues you will need to watch out for: The purchaser may need to pay GST even if land is acquired under CZR - A GST-registered purchaser must pay GST to Inland Revenue to the extent of the land's GST-exempt use.
Say land is acquired for $1 million (plus GST if any) - the land will be used 50 per cent of the time for making supplies subject to GST and 50 per cent for GST-exempt supplies. The purchaser will pay $1 million (zero-rated) to the vendor and $75,000 of GST ($1 million x 15 per cent x 50 per cent) to IRD. So the total cost requiring funding is $1.075 million, not $1 million.
Be mindful of the fact that "normal" GST rules will apply if either the vendor or purchaser (or both) is not GST-registered. A developer selling to a private individual will add GST to the price.
Then there are GST clauses and pricing. GST clauses in sale and purchase agreements will need to be adapted to take account of CZR. In terms of pricing, best practice is to use "plus GST (if any)" pricing even if CZR is likely to apply.
It is important to bear in mind that if a transaction is incorrectly zero-rated under CZR and this is discovered after settlement, the purchaser is liable under the GST Act for the GST at 15 per cent. If the error is discovered before settlement it should be possible to correct the GST position.
Also, new apportionment rules will impact businesses which are not entitled to full recovery of GST on costs. Currently these businesses recover all or no GST up front and then adjust over time. From April 1, businesses will be required to estimate the taxable use of goods and services and recover GST on this basis.
Annual adjustments will be required if the taxable "use" changes over time, provided certain low-level thresholds are exceeded. The new rules could give rise to GST timing advantages or disadvantages compared with the current position.
The definitions of "dwelling" (GST-exempt) and "commercial dwelling" (subject to GST) have also changed. The key practical impact of the change is to narrow the GST exemption for "dwellings". The types of accommodation subject to GST have been expanded to include home stays, farm stays, bed-and-breakfasts and certain serviced apartments. Providers will need to consider the commercial impact of these changes.