The Margin Scheme for Real Property – a GST ‘must know’

Categories: Articles, Property
11 June 2024

There is an important method of saving Goods and Services Tax (‘GST’) available to real property owners that conduct an ‘enterprise’. This method is what is known as the ‘margin scheme’. It is not available to all property owners. It is only available to those registered for GST who have acquired real property in certain ways.

The margin scheme has been part of the GST law since it was introduced in 2000. The policy behind this scheme was an attempt to provide a ‘level playing field’ between vendors of real property. The vendors of real property, that are registered for GST, may have purchased the property with or without an ability to get a refund for the GST that was in the purchase price of the property.

If a GST registered vendor acquired the property with GST in the price of the property, it is entitled to a refund of the GST. However, if a GST registered vendor acquired the property for a price that did not include GST, there would be no GST refund. This could occur, for example, where the person selling the property to the GST registered vendor was not themselves registered for GST.

Property prices are set by the market. Whether the property does or does not include GST is largely irrelevant. The market pays what the market thinks the property is worth, without regard to GST. Due to this, an uneven playing field would arise without the availability of the margin scheme.

To illustrate, assume Aaron sells a property to Bart for a GST inclusive price of $1,100,000. Also assume that both Aaron and Bart are registered for GST. This means that Aaron must pay the ATO $100,000 GST and Bart will obtain a refund of $100,000 GST. So, the cost of the property to Bart will be $1,000,000 after the refund.

Now assume Catriona sells the same property to Danielle for $1,100,000. Catriona is not registered for GST, so there is no GST in the price. The fact that this is the case does not affect the market value of the property. If Danielle is registered for GST, the cost of the property to Danielle is $1,100,000.

It will be seen that, when comparing Bart and Danielle, (absent the margin scheme) Danielle would need to raise her price on the sale of the property by $100,000 to recover the extra $100,000 in the costs. This is why the margin scheme was introduced.

Developing the example further, let us assume that both Bart and Danielle spent $500,000 developing the property and eventually sold the property for $2,200,000.

As Bart is registered for GST, he must pay $200,000 GST to the ATO. The overall profit Bart would make is $500,000 [2,200,000 200,000 (GST) – 1,100,000 + 100,000 (GST refund) – 500,000].

Now, let’s calculate Danielle’s profit without using the margin scheme. This is $400,000 [2,200,000 – 200,000 (GST) – 1,100,000 – 500,000]. There is no GST refund on the purchase price.

If it were not for the margin scheme, this outcome would produce a bias in favour of those who purchased property with GST included. The margin scheme is used to overcome that situation. Let’s look at how the margin scheme changes the profit Danielle makes.

Under the margin scheme, when property is purchased without the ability to claim a GST refund on the purchase, the amount of GST on the eventual sale of the property is reduced to 1/11 th of the ‘margin’. The margin, in the case of Danielle is $2,200,000 less $1,100,000, which is $1,100,000. (The development costs are not included in the margin calculation).

The GST that Danielle must pay to the ATO is 1/11 th of $1,100,000 = $100,000. This means that, due to the margin scheme, the profit Danielle now makes is 500,000 [2,200,000 – 100,000 (GST) – 500,000 – 1,100,000]. This is the same profit as Bart who was able to purchase the property and obtain a GST refund.

For the margin scheme to operate, both the vendor and the purchaser must agree, in writing, to its use.