'Joint Venture' tax confusion by BDO Kendalls Partner Eddie Chung

Friday 14 March 2008

Very often, the language used by property developers creates some confusion as to what kind of structure one is dealing with for tax purposes.

This is not surprising, given that tax is an entirely different creature that does not always fit neatly within the commercial world.

One of the most common areas of confusion relates to the term “joint venture”.

A joint venture means different things to different people. Commercially people tend to use the term “joint venture” to mean an arrangement under which several parties come together to undertake a project.

However from a legal perspective a joint venture may, in some cases, constitute a common law partnership if the “joint venturers” are carrying on business in common with a view to profit.

This legal distinction is very important because partners of a common law partnership are jointly and severally liable for acts done by each partner on behalf of the partnership. In contrast, true joint venturers are only liable to acts done by themselves.

To complicate things further, the absence of a common law partnership does not necessarily mean that there is no partnership for taxation purposes.

In fact, the income tax and GST laws specifically broaden the definition of a “tax partnership” to include arrangements where parties are jointly in receipt of income.

This means that even if the venturers are not carrying on business in common, a tax partnership may still exist for tax purposes if the venturers are receiving income jointly.

The most basic example is a rental property co-owned by two individuals. Even though the property is strictly a one-off investment, the co-owners will be taken to have formed a tax partnership (but not a common law partnership because they are not carrying on business together).

In general terms, when a tax partnership exists, the tax law deals with the partnership as if it is an entity in its own right and the respective partners are required to include in their assessable income their share of the partnership’s profits.

Having said that, property projects often involve situations where one venturer owns land and the other develops it for sale.

Given the prohibitive transfer costs of land, eg, duty, unless the parties have formed a common law partnership, they will not be receiving income jointly when the property is sold.

Therefore even if the relevant parties refer to their “profit share” in these arrangements, the developer may be contractually receiving a fee, rather than a share of partnership profit.

This differentiation is important as the fee will most likely be tax-deductible to the land owner. On the other hand, a share of profit from a partnership is not tax deductible. In summary, it is important for parties to any property project to understand the legal and tax characterisation of their arrangement so that they can fully appreciate how transactions within that arrangement are treated. For instance, if a property developer borrows money in their own name to fund a development project, the land owner will not be able to claim a tax deduction on the interest, even though the developer’s “share of profit” from the project (which may just be a contractual fee from the land owner) may take into account such interest. This often comes as a surprise to the land owner, which could have been avoided if they have a good understanding of the true nature of the structure in the first instance.

For further information please contact:
Helen Pham of BDO Kendalls on 07 3237 5713 or
Nadia Farha of Three Plus Consulting on 0408 535993.

Download Media Release (PDF)