Developers should tread carefully following dramatic stamp duty changes in Victoria

In brief 5 min read

The Victorian Government has proposed amendments to the Duties Act 2000 (Vic) (Duties Act), which could have a dramatic impact on the stamp duty outcomes for development projects, particularly for residential developments, and other fee for service arrangements for real estate in Victoria. Partner Craig Milner, Managing Associate Tim Chislett and Law Graduate Simon Chiarelli report.

Key takeaways

• we urge developers to tread carefully when structuring their next development agreement or any arrangement which has a return referable to economic benefits, such as the value of the property, rent, profit or proceeds of sale;
• we hope attempts to clarify and limit the scope of the proposed reform with Government succeed so as not to reach into conventional fee for service arrangements; and
• we further hope the impact of the proposed reform does not over-burden the viability of projects in an already challenged residential property market in Victoria, which would have the double adverse impact of reducing supply to the market and failing to result in any collection of stamp duty on end-sales.

The current state of play

Currently, developers may not be subject to stamp duty on entering into a development agreement with a landholder, which entitles the developer to a fee calculated by reference to sale proceeds, profits or capital growth of the relevant development, unless:

• the landholder is a company or trustee of a unit trust; and
• the developer's entitlement under the arrangement is to 50% or more of the corresponding item of sale proceeds, profits or capital growth (or other relevant 'economic entitlement').

The above conditions comprise the rules regarding the dutiable acquisition of an economic entitlement under the current law. These rules are peculiar to Victoria.

The proposed reforms: a new take on 'economic entitlement'

Under the proposed reform, the above conditions will no longer apply before stamp duty is triggered. Instead, the new rules will treat the acquisition of an 'economic entitlement' in land with an unencumbered value of more than $1,000,000 as giving rise to an acquisition of 'beneficial ownership', which will be dutiable under the provisions of the Duties Act.¹

Under a proposed new section 32XC of the Duties Act, an 'economic entitlement' will be defined as:

• an arrangement made in relation to land that has an unencumbered value exceeding $1,000,000; and
• under that arrangement, the person is or will be entitled, whether directly or indirectly, to any one or more of the following:
  • to participate in, acquire an entitlement to, or receive any amount determined by reference to the income, rents or profits derived from the relevant land;
  • to participate in, acquire an entitlement to, or receive any amount determined by reference to the capital growth of the relevant land;
  • to participate in, acquire an entitlement to, or receive any amount determined by reference to the proceeds of sale of the relevant land.

It is common practice for a residential developer to enter into an agreement with a landowner under which the developer does not take ownership of the land, but agrees to carry out the development in return for a fee calculated by reference to the sale proceeds or profit of the project. There are various reasons why this arrangement may be entered into, including when the landowner wishes to retain title to the development land because of differences in view between an owner and developer about the value of the development land or uncertainty about the developer's ability to deliver, including under a projected timeline for the development.

Under the proposed changes, developers will be required to pay duty of up to 5.5% on the acquisition of an economic entitlement to land under a development agreement. The duty will be calculated on a dutiable value determined as the relevant percentage interest of the developer, multiplied by the unencumbered value of the land which is the subject of the entitlement.

Responding to BPG Caulfield Village Pty Ltd v Commissioner of State Revenue

The Government says this amendment to the Duties Act has been designed to address the consequences of the decision of the Supreme Court of Victoria in BPG Caulfield Village Pty Ltd v Commissioner of State Revenue (BPG),² which related to a development agreement for a portion of the land which was part of the Caulfield racecourse precinct. In BPG, the Court concluded the (current) economic entitlement rules did not apply unless the 50% threshold was satisfied in respect of the total landholdings of the landowner.

This meant the current rules would not be triggered if the developer only acquires a right to participate in, for example, an amount equal to the proceeds of sale of some of the land holdings of a private landholder where the entitlement was less than 50% of the total land holdings.³ In part, this was a function of the economic entitlement rules being included as part of the 'landholder duty' rules in the Duties Act.⁴

The proposed reforms to the Duties Act aim to overcome the outcome in BPG by imposing stamp duty on economic entitlements by reference to 'the relevant land itself, rather than the landholding entity'.⁵ In this regard, the new economic entitlement rules will be taken outside of the landholder duty regime. However, as currently drafted, the reform risks going further, and arguably will go too far.

Looking ahead: a bridge too far?

The change could have consequences (which we assume are unintended) by potentially capturing the fee arrangements applicable to estate agents, fund managers and property managers and, potentially, aspects of fund through transactions (eg, if the developer becomes entitled to a performance payment by reference to any value uplift during the build phase to completion). While we would expect these kinds of conventional fee for service arrangements (which objectively do not involve any intention to acquire an economic ownership interest) are not the target of the proposed reforms, without amendment to the relevant draft provisions or clarification from the State Revenue Office about how they will be administered, the current situation leads to uncertainty and risks over-reach.