ATO Interpretative Decision

ATO ID 2004/358 (Withdrawn)

Goods and Services Tax

• This ATO ID is withdrawn, as it is no longer necessary. The ATO view expressed in this ATO ID is a straight application of the law and does not contain an interpretative decision. Guidance on the view contained in this ATO ID can be found in GSTR 2002/2 GST treatment of financial supplies and related supplies and acquisitions.
  This document incorporates revisions made since original publication. View its history and amending notices, if applicable.

Issue

Are entities A and B, both commodity traders, making input taxed financial supplies to each other, under subsection 40-5(1) of the A New Tax System (Goods and Services Tax) Act 1999 (GST Act), when there is cash settlement that occurs as a result of a circle trade, resulting from two commodity forward contracts entered into between the two entities?

Decision

Yes, entities A and B are making input taxed financial supplies to each other, under subsection 40-5(1) of the GST Act, when there is cash settlement that occurs as a result of a circle trade, resulting from two commodity forward contracts entered into between the two entities.

Facts

Entity A and entity B are commodity traders. Entity A enters into a forward contract to buy a specified amount of a commodity from entity B, at a specified price for delivery on a specified date. At a later time, entity A enters into another forward contract to sell the same amount of the commodity back to entity B, at a specified price for delivery on the same date. The commodity is the same type in both contracts.

The physical delivery of the commodity would be a taxable supply under section 9-5 of the GST Act.

Both entity A and entity B belong to an industry association which sets out trade rules for commodity contracts. The present situation between entity A and entity B is a 'circle trade' under these trade rules. The trade rules provide that a circle trade occurs where sellers re-purchase from their buyers or from any subsequent buyer the same goods. These rules allow the contracts between entity A and entity B to be cash settled instead of physical delivery of the commodities occurring.

Entity A and entity B agree to cash settle their forward contracts instead of physically delivering the commodities.

Entity A and entity B are financial supply providers and are registered for goods and services tax (GST). The transactions relate to carrying on their enterprises, and the transactions take place in Australia.

Reasons for Decision

Under subsection 40-5(1) of the GST Act, a financial supply is input taxed. Subsection 40-5(2) of the GST Act provides that the term 'financial supply' is defined in the A New Tax System (Goods and Services Tax) Regulations 1999 (GST Regulations).

Subregulation 40-5.09(1) of the GST Regulations provides that the provision, acquisition, or disposal of an interest mentioned in subregulation 40-5.09(3) or 40-5.09(4) of the GST Regulations is a financial supply if:

(a)

the provision, acquisition or disposal of that interest is:

•

for consideration

•

in the course or furtherance of an enterprise, and

•

connected with Australia, and

(b)

the supplier:

•

is registered or required to be registered for GST, and

•

is a financial supply provider in relation to supply of the interest.

However, under subregulation 40-5.08(2) of the GST Regulations, a supply is not a financial supply if it is mentioned in both regulations 40-5.09 (what supplies are financial supplies) and 40-5.12 (what supplies are not financial supplies) of the GST Regulations.

Item 11 in the table in subregulation 40-5.09(3) of the GST Regulations (Item 11) lists an interest in or under a derivative.

A derivative is defined in the dictionary of the GST Regulations:

derivative means an agreement or instrument the value of which depends on, or is derived from, the value of assets or liabilities, an index or a rate.

Where an agreement gives an instrument or agreement some value based on the price movements of a commodity, that instrument or agreement will be known as a commodity derivative.

Part 9 of Schedule 7 to the GST Regulations lists examples of derivatives that are financial interests under Item 11 and includes 'Cash settlement of a derivative over the counter or on the exchange rather than physical delivery of the underlying taxable assets.'

Entity A entered into a forward contract to buy a specified amount of a commodity from entity B, at a specified price for delivery on a specified date. At a later time, entity A enters into another forward contract to sell the same amount of the commodity back to entity B, at a specified price for delivery on the same date.

Entity A and entity B are cash settling these obligations under the forward contracts rather than physically delivering the commodity. At the time of cash settlement, the forward contracts between entity A and entity B have a value which depends on or is derived from the value of the underlying commodity, and as such they are derivatives as defined in the dictionary of the GST Regulations.

As the commodity has not been delivered and cash settlement has occurred, similar to the example in Part 9 of Schedule 7 to the GST Regulations, the transaction results in both entities having an interest in or under a derivative under Item 11.

Item 7 in the table in regulation 40-5.12 of the GST Regulations (Item 7) lists an interest in or under ... 'an option, right or obligation to make or receive a taxable supply, except a mortgage or charge mentioned in item 3 in the table in regulation 40-5.09'.

As cash settlement occurs between the entities, there is not an option, right or obligation to deliver the commodity. Accordingly, the transaction is not excluded from being a financial supply under Item 7.

Each entity provides an interest in a derivative as they have exchanged obligations to cash settle the contract under certain circumstances. The obligations exchanged by each entity are also consideration for the supply of the interest in the derivative.

The transactions are in the course or furtherance of both entities enterprises and are connected with Australia. Both entities are registered for GST and both entities are financial supply providers. Therefore, the requirements in subregulation 40-5.09(1) of the GST Regulations are satisfied.

As such, entities A and B are making input taxed financial supplies to each other, under subsection 40-5(1) of the GST Act, when there is cash settlement that occurs as a result of a circle trade, resulting from two commodity forward contracts entered into between the two entities.

Legislative References:
A New Tax System (Goods and Services Tax) Act 1999
   section 9-5
   subsection 40-5(1)
   subsection 40-5(2)

Related ATO Interpretative Decisions
ATO ID 2004/359
ATO ID 2004/360

Keywords
Goods and services tax
Input taxed supplies
GST financial supplies
GST derivatives

Siebel/TDMS Reference Number:  1247197

Business Line:  Indirect Tax

Date of publication:  30 April 2004

ISSN: 1445-2782