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Changes to Victoria’s ‘economic entitlement’ rules to significantly impact development arrangements

There has been a recent change to Victoria’s ‘economic entitlement’ duty rules which relate primarily to rights associated with Victorian land. The changes have effectively introduced a new type of stamp duty.

The new rules treat arrangements where a person is entitled to participate in the profits, sale proceeds or capital growth from a parcel of land as having effectively acquired beneficial ownership of an interest in the underlying land and impose stamp duty on that basis.

Daniel Hui, Maddocks Lawyers

The Victorian Government announced an unexpected change to Victoria’s stamp duty regime in the 2019 State Budget. The changes were purportedly introduced as a response to the decision of the Supreme Court of Victoria in BPG Caulfield Village Pty Ltd v Commissioner of State Revenue [2016] VSC 172 (BPG), but the nature of the changes to the economic entitlement rules effectively create a new type of stamp duty.

The new rules, which came into effect on 19 June 2019, will detrimentally affect many property development agreements, by imposing a stamp duty liability at the time the agreement is entered (before the property is developed and eventually sold). The new rules can also potentially capture arrangements other than property development agreements where an ‘economic entitlement’ is acquired.

Property development agreements and the economic entitlements rules before 19 June 2019

What is a property development agreement?

The terms ‘property development agreement’ or ‘development agreement’ broadly describe agreements that are entered into between a landowner and a developer for the development and sale of a parcel of land. In return for the developer undertaking the development, the landowner is required to pay the developer a fee (typically from the proceeds of sale of the land as either lots, townhouses, apartments, etc.).

How did the old economic entitlement rules apply?

The former economic entitlement provisions, which formed part of the landholder duty rules:

  • were originally introduced to capture the use of property development agreements which would not otherwise attract a stamp duty liability, because there was no direct acquisition of land or acquisition of an interest in an entity which holds land;
  • charged duty where an entity acquired a right to participate in 50% or more of the proceeds of sale or profits from land; but
  • had limited application, as they only applied where the landowner was a unit trust or private company (i.e. not where the landowner was an individual or a discretionary trust).

Further to this, the Supreme Court of Victoria in BPG determined that the former economic entitlement rules did not apply where an entity acquired the right to participate in the proceeds of sale of some but not all of the Victorian land held by a particular landowner.

The new rules – what is an economic entitlement now?

In response to the decision in BPG and the deficiencies in the former economic entitlement rules, the Victorian Government introduced the new economic entitlement provisions, which apply to arrangements entered into on or after 19 June 2019.

Under the new rules, a person acquires an economic entitlement where the person enters into an arrangement in respect of land with value exceeding $1 million and is directly or indirectly entitled to:

  • participate in the income, rents or profits derived from the land;
  • participates in the capital growth of the land;
  • participates in the proceeds of sale of the land;
  • receive any amount or entitlement determined by reference to the above amounts; or
  • acquire an entitlement to any of the above amounts.

Unlike the previous rules, there is no threshold for the economic entitlement acquired (previously 50%) and the rules can apply to any type of landowner (not just unit trusts and private companies).

The new rules are intended to capture arrangements that provide for rights that are economically equivalent to ownership interests. The legislation was drafted incredibly broadly though, as any arrangement where payment is calculated with reference to the profits, capital growth or sale proceeds from land would technically be captured. This was not the intention of the new rules and the State Revenue Office (SRO) has released guidance stating that fees for service (such as real estate agents, architects, project managers, planning consultants and private advisory firms fees) are not subject to the new rules. However, there is no legislative basis for this treatment and it is only the SRO’s administrative view.

How and when is duty calculated on an economic entitlement?

Acquiring an economic entitlement is effectively treated as an acquisition of beneficial ownership in an interest in the relevant land for duty purposes. Where an agreement provides an entity with an economic entitlement by reference to a stated percentage and nothing else, the interest in the land acquired for the purposes of the new rules is determined with reference to that stated percentage (i.e. an agreement which provides for an entitlement to 20% of the sale proceeds from a parcel of land is treated as an acquisition of a 20% interest in the relevant land for duty purposes).

Where an arrangement does not however specify a percentage of the economic benefit entitlement, or includes any other entitlement, it is deemed that the person has acquired an interest in the relevant land of 100%. The Commissioner of State Revenue (Commissioner) then has discretion to determine a lesser percentage if the Commissioner considers it appropriate in the circumstances. Taxpayers will effectively need to satisfy the Commissioner that a lesser percentage is appropriate. This creates a great deal of uncertainty and is clearly not a satisfactory practical outcome for taxpayers.

Once the percentage entitlement is determined, the duty is calculated based on the value of the relevant land at the time the economic entitlement is acquired. Where the relevant land has value between $1 million and $2 million, duty is charged on a sliding scale. The duty becomes payable within 30 days of the economic entitlement being acquired (essentially the contract date).

Things to consider

Developers must be cautious if they are considering using property development agreements, as there may be an upfront stamp duty cost when entering into the agreement. Further, property development agreements going forward will need to be drafted carefully to ensure that duty is not chargeable as though the developer has acquired a 100% interest in the relevant land.

Other entities should also proceed with caution when entering into any arrangements involving land where they are entitled to a portion of profits, sale proceeds or capital growth in the land, as the arrangement may also be subject to the new rules.

More information from Maddocks

For more information, contact Maddocks on (03) 9258 3555 and ask to speak to a member of the Revenue Practice Group.

More Cleardocs information on related topics

You can read earlier ClearLaw articles on a range of matters.

 

Lawyer in Profile

Daniel Hui
Daniel Hui
Lawyer
PH: 61 3 9258 3563

Daniel is a lawyer in the Maddocks Tax & Revenue team.

Daniel advises extensively in the following areas:

  • structuring of businesses and transactions;
  • mergers and acquisitions;
  • corporate reorganisations;
  • sale of businesses; and
  • joint ventures and property developments.

His advice covers both direct and indirect tax considerations.

Prior to joining Maddocks, Daniel worked at a Big Four Chartered Accounting Firm focusing on tax consulting for mergers and acquisitions.