Australia: Federal Budget 2017: Impact of proposal that purchasers pay GST on new residential premises and subdivisions

In brief - Property developers will be affected the most

The recent Federal Budget includes a Tax Integrity Package — improving the integrity of GST on property transactions, which is a proposal that purchasers rather than vendors will be required to remit GST directly to the Australian Taxation Office (ATO) as part of the settlement of newly constructed residential properties or new subdivisions. Given the nature of the property classes to which these measures are intended to apply, these measures will generally affect developers. It is proposed that this change will take effect from 1 July 2018. (See page 38 of Budget Paper No.2.)

PROPOSAL AIMS TO STOP DEVELOPERS SETTING UP PHOENIX COMPANIES TO AVOID GST OBLIGATIONS

Currently, it is the developer who has the obligation to remit the GST component of the sale of "new residential premises" to the ATO. The current practice reflects the ordinary position that the "supplier" of a GST taxable supply has the obligation to remit GST to the ATO. This new measure aims to treat most forms of "new residential premises" as a distinct and different type of GST supply from the ordinary position contained in the A New Tax System (Goods and Services Tax) Act 1999 (Cth).

The reason provided by the Federal Government for this proposed measure is the claim that some developers are failing to remit GST to the ATO from the sale of new residential premises despite having claimed GST credits on their construction costs. The Federal Budget estimates that this measure will increase GST revenue by $660 million, and associated payments to the states and territories, net of administrative costs, by $1.6 billion over the next four years. The Federal Government considers that the proposed measures will stop some developers avoiding obligations to remit GST to the ATO by setting up "phoenix" companies which go into liquidation prior to paying GST on completion of a project.

IMPLICATIONS FOR DEVELOPERS MAY INCLUDE DIFFICULTY OBTAINING, AND A HIGHER COST OF FINANCE, AND DELAYS IN CONSTRUCTION PROJECTS STARTING

We expect that the proposal will make finance even harder for developers to obtain and that the conditions of construction drawdowns will become even more difficult to satisfy. The flow on effects of this issue are significant.

We anticipate that construction lenders will raise their pre-sale level requirements to take into account that the GST component of the off-the-plan sale prices will not be available to pay down the construction facilities at the time of completion, thus potentially delaying the time in which the construction facilities can be paid out. The effect of this is that lenders will re-allocate the risk to developers.

The obvious effect of the greater difficulty for a developer in achieving satisfactory pre-sale targets is that developers may need to hold their development sites for longer before they can commence construction, as more off-the-plan stock will need to be sold before a project can continue. These financing conditions may also stop construction projects ever taking place. In addition, in order to reach higher pre-sale targets, we expect that developers will be placed under higher pressure to increase pricing of their off-the-plan stock. This results in greater holding costs and finance costs for the developer. It also slows down the supply of new housing to the market and delays the engagement of builders, which may have further negative impacts for the economy and place further upward pressure on housing prices.

If the GST liability of the purchaser is non-final, we assume that the developer will be able to claw back the difference paid by the purchaser to the ATO after settlement if GST has been overpaid. However, it is unlikely that lenders will patiently wait for appropriations, which may take months. The delays in the payout of the loan facilities will result in greater costs to the developers, and put developers at further risk of triggering default events under their loan and security documents.

IMPLICATIONS FOR PURCHASERS MAY INCLUDE MORE COMPLEX SETTLEMENTS AND INCREASED HOUSE PRICES

The Federal Budget paper states that as "most purchasers use conveyancing services to complete their purchase, they should experience minimal impact from these changes." Whilst the full impact on purchasers cannot be fully understood until the draft legislation is released, purchasers will likely find that settlements become more complex and legalistic, regardless of whether they use conveyancing services or are self-represented.

Even if it is accepted that, from a practical perspective, conveyancing transactions for newly constructed residential properties and new subdivisions will not be significantly disturbed, this does not mean that purchasers will not be affected in other ways. In particular, we expect that the impact on developers and lenders will reduce new housing supply and place upward pressures on prices at a time where there are serious and warranted concerns about housing affordability and availability.

IMPLICATIONS FOR LENDERS INCLUDE FINANCING RISK

If these measures are enacted, lenders will receive a reduced amount on settlement of newly constructed residential properties and new subdivisions, as the GST component of the sale prices will be removed from the proceeds of sale that would otherwise be available for collection by lenders. This increases risk for lenders.

We expect that lenders will look at strategies to counteract this risk and position by increasing pre-sale targets for developers and tightening other financing conditions. Lenders may also seek to price their construction loan products higher to account for the increased risk.

WHAT WILL THIS MEAN FOR CONTRACTS DUE TO SETTLE AFTER 1 JULY 2018?

The Federal Government has one year to address these issues, given that the proposed commencement date is 1 July 2018. More information is urgently required regarding how this measure will impact contracts for newly constructed residential properties or new subdivisions where settlement will occur after 1 July 2018; and in relation to contracts exchanged prior to the Federal Budget announcement, which will settle after 1 July 2018. It is important to know which party bears the onus of remitting GST to the ATO for these contracts, which are often GST-inclusive.

STAMP DUTY, RENTAL GUARANTEES AND PROPERTY DEVELOPMENT AGREEMENTS AMONG OTHER ISSUES TO CONSIDER

Further detail on the implementation of this measure is required to resolve issues such as:

• whether there will be any stamp duty implications at a state or territory level due to these proposed measures
• if these proposed measures will apply to incentives offered by developers to purchasers
• whether these proposed measures will impact "rental guarantee" payments
• if these proposed measures will affect property development agreements, which usually contain complex payment arrangements, and
• how the GST amounts that are to be remitted will be calculated, particularly where the margin scheme may apply

HOUSING AFFORDABILITY MAY BE PUT UNDER PRESSURE AS AN UNINTENDED CONSEQUENCE OF PROPOSAL

This proposal to counter deliberate strategies to avoid GST remittance responsibilities, may risk slowing supply, and increasing the cost of new housing in the market.

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.