However, the Full Federal Court threw the practice about GST on
rent into turmoil in MBI Properties Pty Ltd v Commissioner of
Taxation  FCAFC 112. The case involved MBI Properties
Pty Ltd's ("MBI") purchase of 3
commercial residential apartments in a hotel complex, each of which
was subject to an existing residential lease between the vendor
South Steyne Hotel Pty Ltd ("SS") and
the hotel operator, Mirvac Management Ltd
("MML"). MBI objected to the
Commissioner's subsequent issue of a GST assessment which
included an "increasing adjustment" for GST under section
135-5 of the GST Act, so making MBI liable to pay GST equal to 10%
of the price it paid.
Section 135-5 requires the recipient purchaser of a supply
(sale) of a going concern that intends to make supplies (leasing)
which are neither taxable nor GST-free, to make an "increasing
adjustment". The increasing adjustment is calculated by taking
1/10th of the price of the supply in relation to which the
increasing adjustment arises and multiplying it by "the
proportion of all the supplies made through the enterprise that you
intend will be supplies that are neither taxable supplies nor
GST-free supplies, expressed as a percentage worked out on the
basis of the prices of those supplies".
The Full Federal Court decided that a purchaser of commercial
residential premises subject to an existing lease as a going
concern was not liable for GST, basing its decision on the finding
that a lease involved the lessor making only one
"supply", being the time at which the lease is granted.
That finding presented practical difficulties and created
considerable confusion for purchasers of properties subject to an
existing lease or leases.
HIGH COURT RESTORES POSITION
Thankfully, the High Court, on 3 December 2014, has restored the
previously held view that a lease involves a landlord making at
least two supplies: a supply at the time of entering into the
contract (entering into the lease) and a continuing supply at the
time of performance (observing the covenant of quiet enjoyment).
The court unanimously confirmed that the continuation of the lease
after sale involved a "continuing supply" of residential
premises to the tenant which remains input taxed. So, MBI as the
purchaser landlord was not liable for GST on the rent it continued
to receive from the residential (input taxed) lease after the
purchase. It follows that if the lease was commercial and so MBI
was making a taxable supply, that MBI would have been liable for
GST on the rent.
But the High Court also held that:
the purchase by MBI of commercial residential was the purchase
of a going concern;
as MBI intended to continue to make only input taxed supplies
through the continuing residential leases, those supplies are
neither taxable nor GST-free;
MBI's assumption of SS's rights and obligations with
respect to MML constituted the making of supplies through an
enterprise to which the supply was related; and
MBI was subject to assessment under the "increasing
adjustment" provision and so liable to pay GST equal to
one-tenth of the purchase price of the property.
WHAT DOES THIS MEAN?
A purchaser landlord will have to pay GST on rental received
under a commercial lease previously entered into by the vendor or a
predecessor of the vendor.
The purchaser may have an "increasing adjustment" if
acquiring the property as a GST-free going concern and then making
input taxed supplies of residential premises.
We recommend that any client contemplating the sale or purchase
of leased commercial residential premises contact us for advice
about the impact of the above decision on the proposed
The content of this article is intended to provide a general
guide to the subject matter. Specialist advice should be sought
about your specific circumstances.
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The income tax treatment of any property lease incentive will vary, depending on the nature of the inducement provided.
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