Can you reclaim the GST included in land bought for development? Will you have to repay it later?
Tax issues cause headaches for many people developing land in New Zealand. Recently, many have found that frequent GST reviews by Inland Revenue during the development process have caused a range of difficulties.
Tax issues cause headaches for many people developing land in New Zealand. Recently, many have found that frequent GST reviews by Inland Revenue during the development process have caused a range of difficulties. YIJU New Zealand has invited tax experts from William Buck’s (WB) New Zealand Chinese team to explain in detail:
Hello everyone. Recently, we have been publishing a series of practical property tax guides, including two instalments explaining GST matters relating to land development.
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Under the GST Act, land is classified as secondhand goods. When a buyer purchases land from a seller who is not GST-registered for the purpose of carrying out taxable activities, the buyer can register for GST and claim back the GST component of the purchase price under the secondhand goods provisions. The amount refundable depends on the proportion of the land used for taxable activities. For example, if a GST-registered buyer purchases land from a seller who is not GST-registered and uses 100% of it for development, all the GST component of the land price can be claimed back.
Related reading:
[Property tax guide series 05]
Claiming GST back on land purchases: what you may not know
[Property tax guide series 08]
New legislation on GST claims for land bought from associated parties has passed!
In practice, even a small misstep in land development can prompt a review letter from Inland Revenue. In this instalment, we discuss the questions Inland Revenue has commonly been raising recently in GST reviews of land development clients.
Why has Inland Revenue recently been reviewing GST？
Clients have asked us why Inland Revenue has been reviewing GST so frequently recently. Why review GST returns claiming refunds of only a few hundred or even a few dozen dollars? Some clients have encountered obstacles right at the start, when claiming back the GST component of their land purchase.
Possible reasons include: First, Inland Revenue has found that some clients obtained GST refunds on land early in the development process, but then, for various reasons, left their projects on hold for a long time without progressing as planned. There may have been only intermittent claims for small development expenses, or even no development at all. Inland Revenue has grounds to question the nature and actual conduct of this “land development”, which explains why even a small GST refund can trigger a review. Second, Inland Revenue may suspect that a client did not start developing the land immediately after purchasing it, and therefore refuse to refund the GST on the land.
This brings us to the key term: “land development”.
What does the commonly used term “land development” mean? Our understanding is that to meet the registration requirements for GST, “land development” must meet the definition of “taxable activity”.
Taxable activity is the fundamental prerequisite for GST in New Zealand: GST applies only where a taxable activity exists. Taxable activity requires the business activity supplying goods and services to be regular (regular) and/or continuous (continuous）, and carried out in exchange for payment (money or reward), but it does not matter whether that payment produces a profit.
Under this definition, once our land development begins, it must continue and ultimately generate sales revenue. If Inland Revenue finds that a development has started but has not progressed, it may suspect the business is neither regular nor continuous and does not meet the definition of a taxable activity. It may then launch a review, potentially requiring the client to repay GST refunds already received. If Inland Revenue suspects from the outset that development has not begun and rejects the existence of a taxable activity, it will naturally refuse the claim for the GST component of the land purchase.
Case studies
Here are some examples to help explain taxable activity. They have been adapted from real cases.
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Case 1: Development did not begin immediately after the land purchase
Client A wanted to undertake residential development. Late last year, A assessed the feasibility of subdividing and developing a large site at 123 ABC Road for housing. However, all the analysis was based on WeChat discussions with various technical specialists, with no written reports obtained. After considering the situation, A signed an unconditional purchase agreement for $1,150,000. The seller was an unrelated party who was not GST-registered. In March this year, A established a new company, registered it for GST and successfully settled the purchase. A then negotiated and signed a flexible rental agreement with the existing tenants, extending their tenancy until demolition. A immediately claimed a GST refund of $150,000 on the land price. A review letter from Inland Revenue followed, requesting a development timeline, invoices for development costs already incurred and the tenancy agreement to assess the “land development” activity. In a personal response, A said design work would begin in August this year, so there were no development costs yet, and supplied only the tenancy agreement.
Inland Revenue’s view:
Because client A would not begin design and development until month 8, the only income before then was residential rental income, which is an “exempt supply”. Inland Revenue determined that A had not begun a taxable activity at settlement in month 3, and rejected both the GST refund claim and the application for GST registration.
WB ’s view:
After several exchanges with Inland Revenue, A approached us and became our client, asking us to resolve the tax issue. We carefully analysed the background and found that A had mistakenly equated an intention to develop with having begun a taxable activity. Although A could produce WeChat conversations with various technical specialists to support the intention to buy for development, A had also told Inland Revenue by email that design would not begin until after the new Medium Density Residential Standards (MDRS) rules were introduced in month 8. This effectively confirmed that development had not begun, so the fundamental prerequisite for GST registration—a taxable activity—had not been met.
Moreover, A’s new company had only this entirely new project at 123 ABC Road, with no previous projects to demonstrate that A had already begun land development. It is difficult for a completely new project to demonstrate regularity or continuity in land development, so Inland Revenue’s position was based on a stricter application of GST law.
So when could A register for GST, and when could A obtain the $150,000 GST component of the land price?
If A began design work in August as stated and progressively began subdivision and development, A could register for GST when design work started. However, the $150,000 GST component of the land could not be refunded in full upon registration, a point many people find difficult to understand. Because A had not begun a taxable activity when purchasing the land from the seller who was not GST-registered, A could not register for GST between March and August. After later beginning design work and registering for GST, A could only use the approach we previously discussed: a “change in use” adjustment to the GST input on land, recovering the $150,000 over two years.
We therefore prepared a voluntary disclosure on A’s behalf to correct the errors. Inland Revenue quickly accepted our position, adjusted A’s GST return and cancelled the GST registration. This case highlights Inland Revenue’s increasing focus and strictness in determining whether a taxable activity has begun.
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Case 2: The development did not progress as planned
In 2015, client B settled the purchase of a large site with an old house at 456 DEF Road, intending to develop it. The seller was an unrelated party who was not GST-registered. B registered for GST at the outset and obtained a GST refund on the land, then progressively undertook design work and the resource consent (RC) process. Difficulties arose along the way, and by 2022 B had still not obtained resource consent. Inland Revenue sent a GST review letter asking B for an update on the project to determine whether a taxable activity still existed.
WB ’s view:
We are actively communicating with Inland Revenue on the client’s behalf, and the outcome remains under discussion. B did indeed work towards obtaining resource consent for the project from 2015 to 2022. We are seeking to demonstrate B’s ongoing involvement in land development using material collected from B, such as email correspondence with the council and designers over those years. Although the process has been difficult, B has never stopped working on the development, and the activity has been regular and continuous. For example, B followed up on progress at fixed intervals—once a month—rather than remembering after two or three years that resource consent had still not been obtained and only then asking about it. B’s purpose throughout has also been to obtain money or reward, for example, B can show ongoing contact with real estate agents to obtain information about pre-sales for the project. We will use this evidence to establish that B’s taxable activity has continued and that B can therefore continue filing GST returns.
If, however, the information provided cannot convince Inland Revenue that B’s development activity is regular and continuous, it will determine that the taxable activity has ceased. B would need to cancel the GST registration and, through the approach we previously discussed, make a “change in use” adjustment to repay the GST refund previously received from Inland Revenue—an outcome the client would not want.
Closing remarks
In our recent work, we have seen Inland Revenue scrutinising compliance closely. It was previously less strict about determining when a taxable activity began and ended. However, because land development involves substantial GST amounts, its latest approach is to tighten compliance in this type of business first. We recommend that clients proceed cautiously, and welcome you to contact us promptly if you have questions about compliance.
