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Edited version of your private ruling

Authorisation Number: 1012544053794

Ruling

Subject: Supply made pursuant to a Farm-in Agreement

Question 1

Is the supply of the A Interest to X by A Pty Ltd (A) pursuant to a Farm-in Agreement (FIA) a GST-free supply of a going concern within the meaning of section 38-325 of the A New Tax System (Goods and Services Tax) Act 1999 (GST Act)?

Answer

Yes, the supply of the A Interest to X by A pursuant to the FIA is a GST-free supply of a going concern within the meaning of section 38-325 of the GST Act.

Question 2

Is the supply of the B Interest to X by B Pty Ltd (B) pursuant to the FIA a GST-free supply of a going concern within the meaning of section 38-325 of the GST Act?

Answer

Yes, the supply of the B Interest to X by B pursuant to the FIA is a GST-free supply of a going concern within the meaning of section 38-325 of the GST Act.

The Parties:

X is an Australian incorporated company. X is registered for GST. X develops resources.

A is an Australian incorporated company which is registered for GST and engaged in exploration for resources.

B is a company incorporated outside Australia.

Background:

A was awarded an exploration permit (Permit). There is a proposed development plan to process and export resources found in the Permit area.

Pursuant to a Joint Operating Agreement between A and B (Current JOA) a joint venture was created for the purpose of exploring for and developing resources located within the Permit area. A and B are participants in the joint venture. A is also the operator of the joint venture.

Farm-in Agreement:

A, B and X have entered into the FIA.

The recitals to the FIA state that each of A and B is registered as a holder of the Permit and that A holds a XX% Participating Interest and B holds a XX% Participating Interest under the terms of the Current JOA.

The recitals further state that X wishes to acquire the A Interest from A and that A wishes to assign and transfer the A Interest to X on the terms and conditions set out in the FIA. 'A Interest' is defined in the FIA as:

The recitals to the FIA also state that X wishes to acquire the B Interest from B and that B wishes to assign and transfer the B Interest to X on the terms and conditions set out in the FIA. 'B Interest' is defined as a XX% undivided interest in the Permit; a XX% Participating Interest in, under and arising from the Current JOA; and a XX% interest in the Permit Information.

The operative provisions of the FIA state that, in consideration of X agreeing to earn the A Interest by paying the A Cash Consideration to A on Completion Date; paying the A Historical Costs to A on the Completion Date; and contributing to costs associated with the Joint Operations and the Farm-in Well, A agrees to transfer and assign the A Interest to X.

The operative provisions of the FIA also state that in consideration of X agreeing to earn the B Interest by paying the B Historical Costs to B on the Completion Date and contributing to the costs associated with the Farm-in Well, B agrees to transfer and assign the B Interest to X.

The Completion Date pursuant to the FIA IS the 12th Business Day after the Conditions Satisfaction Date or such other date as agreed by A, B and X.

The FIA also sets out X's Farm-in obligations. X agrees to pay an amount equal to A's Participating Interest share of the costs of Joint Operations (excluding Farm-in Well Costs) from the Completion Date until the completion of the Farm-in Well. With effect from Completion, X is liable to pay XX% of Farm-in Well Costs (subject to a cap equal to XX% of the Farm-in Well Costs Cap); B is liable to pay XX% of Farm-in Well Costs (subject to a cap equal to XX% of the Farm-in Well Costs Cap); but A is not liable for any contribution to Farm-in Well Costs until the Farm-in Well Costs Cap is reached.

Completion of the FIA is expected to occur shortly.

According to the ruling request, the FIA states:

New JOA:

Upon Completion X will be the Operator of a new joint venture pursuant to a JOA entered into between A, B and X (New JOA). The Current JOA (i.e. between A and B) will be terminated by a Deed of termination entered into by A and B.

The New JOA also sets out the Parties' respective rights and obligations in relation to operations.

Transaction Documents:

X did not provide copies of the Current JOA, the FIA or the New JOA because those agreements contained commercially sensitive information. X asked the ATO to provide a ruling based on the information contained in the ruling request.

Submissions made in the ruling request:

It was submitted that although A and B are transferring a XX% and a XX% interest in the Permit, corresponding Participating Interests in the Current JOA and in the Permit Information, each supply is eligible to qualify as a GST-free supply of a going concern provided that the requirements of subsections 38-325(1) and (2) of the GST Act are met. Reference was made to paragraph 195 of Goods and Services Tax Ruling GSTR 2002/5 and paragraph 69 of Miscellaneous Taxation Ruling MT 2012/1 (which applies to immediate transfer farm-out arrangements).

In relation to the requirement in paragraph 38-325(1)(a) that the supply of a going concern is for consideration, it was submitted that X is obliged to pay A and B cash consideration (allocated across the Permit and Permit Information) and a disproportionate share of the costs associated with the Farm-in Well in accordance with the FIA.

In relation to the requirement in paragraph 38-325(1)(b) that the recipient is registered for GST or required to be so registered, it was submitted that X has been registered for GST with effect from YY YY YYYY.

The submissions referred to the view expressed in paragraph 15 of GSTR 2002/5 that, for the purposes of the definition of a supply of a going concern in subsection 38-325(2) of the GST Act a supply of a going concern is the aggregate of all of the supplies made under an arrangement which satisfies the conditions in paragraphs 38-325(2)(a) and (b). It was submitted that the transfer of the A Interest and B Interest to X is effected by the FIA, that the FIA is the relevant arrangement pursuant to which the supply of a going concern is made, and that the FIA provides an arrangement for the supply of all things necessary for the continued operation of the enterprise.

It was submitted that the identified enterprise is one of exploration with the aspiration of future development of the resources in the Permit area which is likely to later encompass the extraction, transport, processing and supply of resources. It was submitted that A and B are participants in the joint venture established pursuant to the Current JOA and have been actively assessing the economic viability of developing the resources located within the Permit area. Reference was made to paragraph 30 in GSTR 2002/5 which states that where the enterprise identified for the purpose of subsection 38-385(2) forms part of a larger enterprise, there is a supply of a going concern where all of the things necessary to continue the operation of that part of the enterprise as an independent enterprise are supplied and it was submitted that pursuant to the FIA A and B are each supplying to X part of an enterprise conducted by A and B.

In relation to the requirement in paragraph 38-325(2)(a) that the supplier supplies all of the things necessary for the continued operation of an enterprise, it was submitted that the supply, pursuant to the FIA, of participating interests in the relevant title and any associated rights puts X in the position to carry on the identified enterprise of exploration, with the aspiration of future development of the resource fields.

In relation to the requirement in paragraph 38-325(2)(b) of the GST Act that the supplier carries on the enterprise until the day of the supply, X advised that A and B will continue to conduct the activities associated with the A Interest and B Interest as participants pursuant to the Current JOA until the Completion Date under the FIA.

Further information provided:

X advised that A was the operator of the joint venture created by the Current JOA.

X further advised that the activities undertaken to date within the Permit include acquisition of 3D seismic from a multi-client seismic provider, seismic inversion, 2D and 2D reprocessing of seismic, geophysical interpretation of data, preliminary well design studies, interpretation of palynology, hydrocarbon charge maturation modelling, and reservoir characterisation studies.

In relation to the requirement in paragraph 38-325(2)(b) of the GST Act that the supplier carries on the enterprise until the day of the supply X advised that the FIA obliges A and B to use reasonable endeavours to keep the Permit in full force and effect and to conduct operations in accordance with the Permit and all applicable laws and to each conduct their affairs in relation to the Permit in a normal, business-like, proper and prudent manner.

Relevant legislative provisions

A New Tax System (Goods and Services Tax) Act 1999 section 38-325.

Reasons for decision

Summary

Based in the information provided in the ruling request we consider that the supply of the A Interest and the supply of the B Interest satisfy the requirements of subsections 38-325(1) and (2) of the A New Tax System (Goods and Services Tax) Act 1999 (GST Act).

Detailed reasoning

Paragraph 9-30(1)(a) of the GST Act states that a supply is GST-free if it is GST-free under Division 38 of the GST Act. Division 38 of the GST Act includes section 38-325 which states:

(* denotes a term defined in section 195-1 of the GST Act)

Goods and Services Tax Ruling GSTR 2002/5 discusses a supply of a going concern for the purposes of section 38-325 of the GST Act and when the supply of a going concern is GST-free.

Below we consider whether the requirements in subsection 38-325(2) of the GST Act have been met before addressing the further requirements in subsection 38-325(1) of the GST Act.

Requirements in subsection 38-325(2)

GSTR 2002/5 states that subsection 38-325(2) of the GST Act requires the identification of an enterprise that is being carried on by the supplier and that the supplier must supply of all the things that are necessary for the continued operation of the identified enterprise (Para 29). In addition the supplier must carry on the identified enterprise until the day of the supply, whether or not as part of a larger enterprise.

Section 9-20 of the GST Act provides that an enterprise includes, among other things, an activity or series of activities done on a regular or continuous basis, in the form of a business (paragraph 9-20(1)(a) of the GST Act). In addition, section 195-1 of the GST Act provides that carrying on an enterprise includes doing anything in the course of the commencement or termination of the enterprise.

GSTR 2002/5 states that if a business structure is a joint venture, then each joint venturer is an entity which is capable of conducting an enterprise (Para 195). This is confirmed in Miscellaneous Taxation Ruling MT 2012/1 (Para 69).

In the ruling request X advised that A and B had entered into the Current JOA to create a joint venture for the purpose of exploring for and developing resources within the Permit area. It was submitted that the identified enterprise in relation to both A and B is the exploration for resources in the Permit area with the hope of developing those resources in the future.

X advised that, to date, seismic data for the Permit area has been acquired, reprocessed and interpreted and preliminary well design studies, hydrocarbon charge maturation modelling, and reservoir characterisation studies have been undertaken. The terms of the FIA described in the ruling request indicate that the A Interest and B Interest each include 'Permit Information' and 'Data', which are defined to include geological, geophysical and other technical data and reports (subject to some exclusions). The activities undertaken to date and the terms of the FIA support X's description of the identified enterprise, i.e. exploration for resources in the hope of developing them in future.

Paragraph 38-325(2)(a) of the GST Act requires that there is an arrangement under which the supplier supplies to the recipient all of the things that are necessary for the continued operation of the identified enterprise. GSTR 2002/5 states that what is necessary for the continued operation of an enterprise will depend on the nature of the enterprise carried on and the core attributes of that enterprise (Para 72), that a thing is necessary for the continued operation of an enterprise if the enterprise could not be operated by the purchaser in the absence of the thing (Para 73), and that two elements are essential for the continued operation of an enterprise - the assets (both tangible and intangible) and the operating structure and process.

The terms of the FIA described in the ruling request indicate that A acquires the A Interest and the B Interest, each of which is defined to include an undivided interest in the Permit (including all property, rights, obligations and liabilities associated with such an interest) a Participating Interest in, under and arising from the Current JOA, and an interest in the Permit Information (defined to include geological, geophysical and other technical data and reports plus Data (which is further defined to include all data, information and reports in relation to the Permit subject to certain exclusions)). We consider that a supply of an interest in the Permit is necessary as the identified enterprise could not be operated without such an interest. In addition the inclusion in the A Interest and B Interest of a Participating Interest under the Current JOA indicates that the operating process of the identified enterprise is being supplied (notwithstanding that the Current JOA will be terminated). We are therefore satisfied that the requirement in paragraph 38-325(2)(a) of the GST Act is met.

Paragraph 38-325(2)(b) of the GST Act requires that the supplier carries on, or will carry on, the enterprise until the day of supply (whether or not as a part of a larger enterprise carried on by the supplier). GSTR 2002/5 states that all of the activities of the enterprise must be active and operating on the day of the supply and must be capable of continuing after the transfer to new ownership (Para 141) and that a supply will not be a supply of a going concern where, on the day of the supply, the activity carried on by the enterprise has ceased (Para 142). GSTR 2002/5 also states that the day of the supply is determined in each case by reference to the terms of the contract and is the date on which the recipient assumes effective control and possession of the enterprise carried on by the supplier (Para 161). In the present case we consider that the day of the supply will be the Completion Date (as defined in the FIA) as that is the date when the transfers of the A Interest and B Interest will occur.

Some agreements for the supply of a going concern include an undertaking by the supplier that the supplier will carry on the enterprise until the day of supply. The ruling request did not refer to such a clause in the FIA. Instead it was submitted that, as A and B will continue to conduct the activities associated with the A Interest and the B Interest as participants in the joint venture established by the Current JOA until the Completion Date, the requirement in paragraph 38-325(2)(b) is met. Subsequently X advised that the FIA obliges A and B to use reasonable endeavours to keep the Permit in full force and to conduct operations in accordance with the Permit and all applicable laws. We prefer to rely on the fact that the Current JOA has not been terminated. As holder of a participating interest and operator under the terms of the Current JOA, A is in a position to ensure that the requirement to carry on the enterprise until the Completion Date is met is satisfied. We also consider that paragraph 38-325(2)(b) is satisfied in relation to the supply made by B as GSTR 2002/5 states that the enterprise must be carried on by the supplier which may do so itself or have another entity carry on the enterprise on its behalf (Para 146).

Therefore, the supply of the A Interest and the supply of the B Interest pursuant to the FIA are supplies under arrangements that satisfy the requirements of subsection 38-325(2) of the GST Act.

Requirements in subsection 38-325(1)

Paragraph 38-325(1)(a) requires that the supply of a going concern is for consideration.

X advised that, in return for the supply of the A Interest and the supply of the B Interest, X will pay a Cash Consideration (which is allocated across the Permit and Permit Information) and A's Participating Interest Share of the costs of operations (excluding Farm-in Well Costs) from Completion Date until completion of the Farm-in Well plus XX% of the Farm-in Well Costs (subject to a cap) despite X having only a XX% participating interest in the joint venture established pursuant to the New JOA.

This appears to be an arrangement of the type described in MT 2012/1 (Paras 15 and 16) where the farmor (i.e. A or B) receives both a cash payment and either a 'free carry' or 'exploration benefit' from the farmee (X). MT 2012/1 states that such arrangements involve the farmor making a supply for cash and non-cash consideration equal to the market value of the interest supplied by the farmor (Paras 21 and 67). We therefore consider that paragraph 38-325(1)(a) is satisfied.

Paragraph 38-325(1)(b) of the GST Act requires that the recipient is registered for GST or required to be so registered. GSTR 2002/5 states that the effective date of registration of the recipient must be on or before the day of the supply. We have confirmed that X is currently registered for GST and has been so registered with effect from YY YY YYYY. We therefore consider that paragraph 38-325(1)(b) is satisfied.

Paragraph 38-325(1)(c) requires that the supplier and recipient have agreed in writing that the supply is of a going concern. GSTR 2002/5 states that 'agreed in writing' means that the supplier and the recipient have made a mutual declaration in such form that clearly evidences that they agree that the supply is a supply of a going concern (Para 181).

Due to commercial confidentiality concerns the ATO was not provided with a copy of the FIA and was asked to provide a ruling based on the information contained in the ruling request which included the following description of a clause in the FIA:

X advised that the FIA was signed on YY YY YYYY. We therefore consider that paragraph 38-325(1)(c) is satisfied.

The rulings in the register have been edited and may not contain all the factual details relevant to each decision. Do not use the register to predict ATO policy or decisions.

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