Is a forfeited land deposit income for the seller?

When parties enter into agreement for the sale of land, the buyer will often need to pay a deposit to guarantee performance. This is especially important in land sale agreements where there is often a delay between the date entered into the agreement and the settlement date. A deposit is typically 10% of the purchase price.

If the sale is to fall through due to the buyer defaulting, then the seller is allowed to retain the deposit. In this case, the seller must consider whether this forfeited deposit will be taxable.

Taxable income or not?

IRD have received a question regarding whether a forfeited land deposit will constitute as an income for the seller.

IRD have stated a forfeited deposit from a cancelled land transaction will count as an income if the following situations apply:

• The forfeited deposit is business income if the sale of land that is subject to the cancelled agreement was part of the current operations of the business or an ordinary incident of the business.
  A forfeited deposit is income from a profit-making scheme if the seller is carrying on a profit-making scheme which involves the sale of the land.
• A forfeited deposit is income under ordinary concepts if it has the character of income. The character of income is present if the proceeds of the sale would have been taxable under the land sales rules had the sale gone ahead.
• A forfeited deposit is not income to the seller under the land sale rules because there is no ‘disposal’ of land if the agreement is cancelled, and settlement and registration do not take place.

Settlement

Settlement occurs on the date which the parties fulfil their contractual obligations for the sale of land (e.g., the buyer pays the purchase price, and the seller provides the buyer with the means of acquiring the title to the land).

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