Edited version of private ruling

Authorisation Number: 1011849569218

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Ruling

Subject: GST and supply of a going concern

Question

Is the vendor (you) making a GST-free supply of a going concern under section 38-325 of the A New Tax System (Goods and Services Tax) Act 1999 (the GST Act) when you sell your commercial premises, with the benefits of the existing lease arrangements to the purchaser?

Answer

No, you are not making a wholly GST-free supply of a going concern when you sell your commercial premises. The supply is a mixed supply with the portion of the property leased to the purchaser being a taxable supply and the remaining portion of the property leased to other tenants being a GST-free supply of a going concern under section 38-325 of the GST Act.

Relevant facts and circumstances

The vendor (you) is the registered proprietor of a commercial property (the property). You carry on an enterprise of leasing commercial premises from the property.

The property is leased to many different tenants. The tenants with current leases are listed in the tenancy schedule attached to the Contract of Sale provided.

You entered into a contract to sell the property to the purchaser subject to all leases, licences and other arrangements in place with occupants of the building. You will supply the property for consideration and have agreed on a purchase price.

You are registered for GST purposes in Australia. The purchaser is also registered for GST purposes.

You have agreed to carry on the leasing enterprise until the settlement date which is defined as the date on which the contract is actually completed.

You have agreed to supply all things necessary for the continued operation of the said leasing enterprise.

The building is fully leased and all assets of the leasing enterprise will be supplied under the contract which are necessary for its continued operation.

The current leases include a lease to the purchaser of a suite in the building, on arms length commercial terms and conditions. The area being leased by the purchaser is approximately 20% of the net lettable area of the building as a whole and the proportion of the gross rent payable by the purchaser for its area against the total gross rent received for the building is also approximately 20%.

Both the vendor (you) and the purchaser have agreed in writing that the sale of the property will be a GST-free supply of a going concern as per the contract.

Reasons for Decision

A supply is a taxable supply if all the conditions under section 9-5 of the GST Act are satisfied. Section 9-5 of the GST Act states:

You make a taxable supply if:

(a) you make the supply for *consideration; and

(b) the supply is made in the course or furtherance of an *enterprise that you *carry on; and

(c) the supply is *connected with Australia; and

(d) you are *registered, or *required to be registered.

However, the supply is not a *taxable supply to the extent that it is *GST-free or *input taxed.

(The asterisks in this ruling indicate terms defined under section 195-1 of the GST Act.)

Section 9-5 of the GST Act provides that a supply that would otherwise be a taxable supply is not subject to GST to the extent that the supply is GST-free or input taxed.

The sale of the commercial premises by you to the purchaser is not input taxed under any provision of the GST Act. However, we need to consider whether the sale is a GST-free supply of a going concern under Division 38 of the GST Act.

Subdivision 38-J of the GST Act provides that, if certain conditions are satisfied, the 'supply of a going concern' is GST-free.

Subsection 38-325(1) of the GST Act states that a supply will be a supply of a going concern and GST-free where the following provisions of the GST Act are met:

38-325 Supply of a going concern

(1) The *supply of a going concern is GST-free if:

(a) the supply is for *consideration; and

(b) the *recipient is *registered or *required to be registered; and

(c) the supplier and the recipient have agreed in writing that the supply is of a going concern.

Subsection 38-325(2) of the GST Act further states that:

(2) A supply of a going concern is a supply under an arrangement under which:

(a) the supplier supplies to the *recipient all of the things that are necessary for the continued operation of an *enterprise; and

(b) the supplier carries on, or will carry on, the enterprise until the day of the supply (whether or not as a part of a larger enterprise carried on by the supplier).

Accordingly, the sale of the property including the leasing enterprise by you to the purchaser will be a GST-free supply of a going concern where all the requirements of section 38-325 of the GST Act, as set out above, are satisfied.

Essential elements of a 'supply of a going concern'

Supply under an arrangement

Goods and Services Tax Ruling GSTR 2002/5 Goods and services tax: when is a 'supply of a going concern' GST-free? (GSTR 2002/5) sets out the tax office view on the supply of GST-free going concerns. Paragraph 19 of GSTR 2002/5 states:

19. A supply is defined in section 9-10. The term 'supply under an arrangement' includes a supply under a single contract or supplies under multiple contracts which comprise a single arrangement.  However, the thing supplied under the arrangement must relate to the same enterprise, that is, the enterprise referred to in paragraphs 38-325(2)(a) and (b) (the 'identified enterprise').

In our view, the contract constitutes an arrangement that satisfies the first requirement of subsection 38-325(2) of the GST Act.

Identified Enterprise

We need to determine if you are carrying on an enterprise in relation to the commercial property.

Paragraph 9-20(1)(c) of the GST Act defines the term 'enterprise' to include an activity, or series of activities, done on a regular or continuous basis, in the form of a lease, licence, or other grant of an interest in property.

The letting of property is an activity that meets the definition of enterprise. The expression 'regular or continuous' is met in this instance as there is a continuous tenancy of the property. You are, therefore, carrying on an enterprise of leasing the commercial property for GST purposes.

Supply of all of the things necessary for the continued operation of the enterprise

Paragraphs 74 and 75 of GSTR 2002/5 state:

74. The supplier is required to supply to the recipient all of the things that are necessary to carry on the 'identified enterprise' so that the recipient is put in a position to carry on the enterprise if it chooses.

75. Two elements are essential for the continued operation of an enterprise:

· the assets necessary for the continued operation of the enterprise including, where appropriate, premises, plant and equipment, stock-in-trade and intangible assets such as goodwill, contracts, licences and quotas; and

· the operating structure and process of the enterprise consisting of the commercial or economic activity relevant to the type of enterprise being conducted, for example, ongoing advertising and promotion.

You are carrying on an enterprise of commercial leasing. You will sell the property subject to the leases, subleases, sub-licences and other occupancies affecting the property and assign the benefit of all covenants under the lease documents together with the full benefit of any guarantees in respect of those lease documents.

Lease to the purchaser

You have a current lease to let part of the premises to the purchaser. To supply all things necessary for the purchaser to continue the enterprise of commercial leasing you would need to assign this lease to the purchaser. You are unable to assign this lease to the purchaser as this would mean they are leasing the premises to themselves. At law the lessor cannot lease premises to itself.

The thing you are supplying to the purchaser is merely an asset used in an activity that is carried on as an enterprise; the supply of that asset is not the supply of a going concern. An example of a supply of an asset which is not an enterprise is discussed at paragraphs 26-28 of GSTR 2002/5 as follows:

26. InsuranceCo is an entity that owns the building from which it operates its insurance business. InsuranceCo enters into a contract to sell the building to Landlord Unit Trust and agrees to enter into an agreement to lease the building back from the trust. Whilst InsuranceCo carries on an enterprise of conducting an insurance business from the premises, InsuranceCo does not at any time conduct an enterprise of leasing the premises.

27. InsuranceCo did not (and could not) conduct an enterprise of leasing to itself prior to the day of the supply and merely supplied Landlord Unit Trust with an asset used by InsuranceCo in the conduct of its enterprise. Although the recipient commenced to carry on an enterprise of leasing after the day of the supply, the supply of the premises cannot be the 'supply of a going concern' because no enterprise of leasing had been operated by the supplier.

28. That is, InsuranceCo could not satisfy the requirement that an enterprise be carried on to the day of the supply because there was no enterprise of leasing previously carried on by the supplier, (InsuranceCo). Further, InsuranceCo cannot supply all of the things that are necessary for the continued operation of an enterprise that was not carried on prior to the day of the supply.

Although this example differs from your scenario, it explains the principles that are relevant to your supply. Simply supplying an asset (the property) cannot be considered to be the supply of an enterprise in its own right. The operating structure and process must also be supplied to the purchaser. When the thing supplied is merely an asset used in an activity carried on as an enterprise, the supply of that asset is not the supply of a going concern.

You cannot assign the lease you have with the purchaser to the purchaser, as the purchaser cannot lease this part of the property to themselves. This part of the supply is merely a supply of an asset that is used by you in an activity that is carried on as an enterprise. Hence you will not be able to provide everything possible to continue the leasing enterprise in relation to this particular lease to the purchaser.

The leases to all other tenants at the property

The building is fully leased and all assets of the leasing enterprise will be supplied under the contract which is necessary for its continued operation. The vendor has agreed to supply all things necessary for the continued operation of the said leasing enterprise (clause 41.2(b) of the contract).

Consequently, the requirements of paragraph 38-325(2)(a) of the GST Act that the supplier supplies all of the things that are necessary for the continued operation of an enterprise have been met in part as you cannot supply a lease to the purchaser that relates to their own tenancy. It is accepted that with regard to the balance of the premises (that are not let to the purchaser), all things necessary for the continued operation of the leasing enterprise will be supplied to the purchaser.

Supplier carries on the enterprise until the day of the supply

Paragraph 141 of GSTR 2002/5 states:

141. The supply of everything necessary for the continued operation of an enterprise will only be a 'supply of a going concern' where the enterprise is carried on by the supplier until the day of the supply. All of the activities of the enterprise must be active and operating on the day of the supply. The activities must be capable of continuing after the transfer to new ownership.

Lease to the purchaser

As previously discussed this lease for the premises occupied by the purchaser cannot be assigned to the purchaser, as they cannot lease premises to themselves. Accordingly this activity is not capable of continuing after the property is transferred.

The leases to all other tenants at the property

You have agreed in the contract that the leasing enterprise will continue up until the day of supply as the leases to the other tenants in the building will be active and operating on the day of supply. The other leases are capable of continuing after the transfer of the property to the purchaser.

Consequently, the requirements of paragraph 38-325(2)(b) of the GST Act that the supplier carries on the enterprise until the day of the supply have been met in part. It is accepted that with regard to the balance of the premises that are not let to the purchaser, the supplier will carry on the enterprise until the day of the supply.

Is the 'supply of a going concern' GST-free?

In relation to subsection 38-325(1) of the GST Act, as the supply is made for consideration, it is only necessary to consider whether the purchaser is registered or required to be registered, and if the supplier and recipient have agreed in writing that the supply is of a going concern.

Recipient registered or required to be registered

We note from the facts provided the purchaser is registered for GST, thus this condition regarding GST registration is met.

Agreed in writing

Paragraph 183 of GSTR 2002/5 states:

183. An agreement in writing by the parties that there is a 'supply of a going concern' will not conclusively determine that there is a 'supply of a going concern' where the other requirements of subdivision 38-J are not satisfied. This will depend on a consideration of all factual circumstances. For example, there will not be a 'supply of a going concern' under subdivision 38-J where all of the things necessary for the continued operation of an enterprise are not supplied under the relevant arrangement, notwithstanding the terms of any agreement between the parties that the supply is a 'supply of a going concern'.

Both the vendor (you) and the purchaser have agreed in writing that the sale of the property will be a GST-free supply of a going concern in the contract. However where the sale of the property is not a supply of a going concern, regardless of whether or not the supplier and the purchaser agree in writing that the sale of property is a supply of a going concern, the sale cannot be GST-free under subsection 38-325(1) of the GST Act.

In your situation the supply of part of the commercial premises that is let to the Purchaser is not a GST-free supply of a going concern as you cannot assign a lease pertaining to the purchaser's own tenancy, to themselves. As the lease cannot be assigned to the purchaser, this activity of leasing is not capable of continuing after the property is transferred.

The remaining portions of the commercial premises that are presently leased to other tenants will be a GST-free supply of a going concern under section 38-325 of the GST Act.

Apportionment of the consideration of a mixed supply.

Under section 9-40 of the GST Act, you must pay the GST payable on any taxable supply that you make. Where a supply is GST-free, no GST is payable on the supply.

The sale of the property will be a mixed supply that is partly a taxable supply and partly a GST-free supply.

As GST is payable in respect of the taxable supply of the property, it is necessary to apportion the consideration received for the sale of the property between the taxable supply and the GST-free supply.

Goods and Services Tax Ruling GSTR 2001/8'Goods and services tax: apportioning the consideration for a supply that includes taxable and non-taxable parts provides guidance on the apportionment methods.

We have extracted some paragraphs from GSTR 2001/8 for your information.

Reasonable methods of apportionment

92. Where there is no legislative provision specifying a basis for apportionment you may use any reasonable method to apportion the consideration to the parts of a mixed supply. However, the apportionment must be supportable by the facts in the particular circumstances.

93. What is a reasonable method of apportioning the consideration for a mixed supply depends on the circumstances of each case.

94. Depending on your circumstances, you may use a direct or indirect method when apportioning the consideration for a mixed supply.

The method you choose should be based on a consideration of all the circumstances and not because it gives you a particular result. You may need to use different methods, or a combination of methods, for different supplies to ensure the appropriate amount of GST is payable. You need to keep records that explain all transactions and other acts you engage in that are relevant to supplies you make, including supplies that are GST-free and input taxed.

Direct Methods

97. Direct methods use relevant variables that measure the connection between what is supplied (the taxable and non-taxable parts) and the consideration for the supply. A direct method usually gives you the most accurate measure of the consideration for the taxable part of the supply you make. Such methods may include:

· the comparative price of each part if it were supplied on its own, relative to the whole payment received (see paragraphs 98 to 103);

· the relative amount of time required to perform the supply (see paragraphs 104 to 105); and

· the relative floor area in a supply of property (see paragraphs 106 to 108).

GSTR 2001/8 gives an example of such a direct method of apportionment, using relative price:

Example 14 - commercial and residential premises

101. Hilary is registered for GST. She sells a property that consists of commercial premises and residential premises. The property is on a single title and is currently untenanted, although the commercial part was recently rented for $1, 000 per week and the residential part for $500 per week. Hilary may reasonably apportion two thirds of the consideration for the sale to the commercial part and one third to the residential part.

Alternatively, it may be reasonable for an entity to apportion the consideration for a mixed supply by reference to the relative floor area of the property being supplied. Paragraphs 106 to 108 of GSTR 2001/8 state:

106. In some cases, it is reasonable for you to allocate the consideration for a mixed supply by reference to the relative floor area of the property being supplied. To make an allocation on this basis, you also need to consider the relative price of different types of floor space (for example, floor space in residential, retail and industrial property are often priced differently). That is, you may simply work out the proportionate floor area if the value per square metre does not vary. However, if the value per square metre is variable, then you can reasonably apportion on a basis of each area and its relative value. You may also need to take into account external features, such as the value of recreational areas.

Example 17 commercial and residential premises

107. Warren rents out a property to Josef for $2,000 per month. The property is comprised of residential and commercial premises. The floor area of the residential part is 160 square metres and the commercial part is 80 square metres. In the locality, the rental of the commercial space is worth twice as much as residential space.

108. It would be reasonable for Warren to base the taxable proportion of the supply on the floor area of the commercial part as a proportion of the combined floor area of the commercial and residential parts. However, he also needs to take into account the difference in the relative value of the commercial and residential floor space. Warren may reasonably apportion the consideration equally between the commercial and residential parts.

As noted in GSTR 2001/8, you are required to use a reasonable method to apportion the consideration. The calculations need to be supported by relevant documentation. You need to keep records that explain all transactions and other acts you engage in that are relevant to supplies you make, including the input taxed supplies.

Conclusion

The supply of the commercial premises is for consideration, the purchaser is registered for GST and the vendor and the purchaser have agreed in writing that the supply is of a going concern. As such, the requirements in subsection 38-325(1) of the GST Act are satisfied. However you are not making a wholly GST-free supply of a going concern when you sell your commercial premises. It will be a mixed supply with the portion of the property leased to the purchaser being a taxable supply and the remaining portion of the property leased to other tenants other that the purchaser being a GST-free supply of a going concern under section 38-325 of the GST Act. A reasonable method of apportionment must be used to calculate the GST-free component of the supply.

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