1012684282271 | Legal database

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Edited version of your written advice

Authorisation Number: 1012684282271

Ruling

Subject: GST on out of court settlements

Questions

1. Do I have to remit GST on the money received in an out of court settlement?

2. What amount is used for BAS calculation based upon the payment amount and the large costs incurred in chasing the payment?

Answers

1. Yes, you have to remit 1/11^th of the money received in the out of court settlement as GST.

2. See explanation below

Relevant facts and circumstances

• You are a sole trader.

• You are registered for the goods and services tax (GST).

• You provided services to a registered company (recipient) and invoiced them a certain amount (including GST).

• The recipient of the services did not pay you.

• You took legal action and spent money for legal fees which included GST.

• The matter was settled out of court for a sum less than what your client owed you for you to refrain from seeking a court order and in full satisfaction of your claim against the recipient, interest and cost.

Relevant legislative provisions

A New Tax System (Goods and Services Tax) Act 1999 (GST Act) - Section 9-5

A New Tax System (Goods and Services Tax) Act 1999 (GST Act) - Section 9-10

A New Tax System (Goods and Services Tax) Act 1999 (GST Act) - Section 9-15

A New Tax System (Goods and Services Tax) Act 1999 (GST Act) - Section 9-40

Reasons for decision

Under section 9-40 of the A New Tax System (Goods and Services Tax) Act 1999 (GST Act),you must pay the GST payable on any taxable supply that you make.

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

(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.

(* Denotes a term that is defined in section 195-1 of the GST Act).

Subsection 9-10(1) of the GST Act states that a 'supply' is any form of supply whatsoever.

An out of court settlement gives rise to several types of supplies as well as situations where no supply is made. Goods and Services Tax Ruling GSTR 2001/4 (GSTR 2001/4) provides the Commissioner's views on GST consequences of court orders and out-of-court settlements.

For a supply to be a taxable supply, the first requirement is that it must be made for consideration.

GSTR 2001/4, at paragraphs 97 to 99, answers the question: Can a settlement or court awarded payment be consideration?

97. Subsection 9-15(2A) makes it clear that the fact that a payment is made in compliance either with a court order, or with a settlement relating to proceedings before a court will not, without more, prevent it from being consideration for a supply.

98. Subsection 9-15(2A) states:

(2A) It does not matter:

(a) whether the payment, act or forbearance was in compliance with an order of a court, or of a tribunal or other body that has the power to make orders; or

(b) whether the payment, act or forbearance was in compliance with a settlement relating to proceedings before a court, or before a tribunal or other body that has the power to make orders.

99. This provision negates any argument that the characterisation of a payment according to section 9-15 either as consideration for a supply or otherwise could be affected by the payment being made in compliance with a court order or settlement relating to proceedings before a court.

It can be seen from the above that an out of court settlement is consideration.

Whether or not this consideration is for a supply that satisfies paragraph 9-5(a) of the GST Act would depend on the settlement agreement. According to GSTR 2001/4, an out of court settlement may give rise to a 'discontinuance supply' and/or a supply that has a connection with an earlier supply. To establish the relationship 'supply for consideration' there must be sufficient nexus between the payment made as a result of the out of court settlement and any supply that may arise as a result of the settlement. Commissioner's views on where such a relationship may exist are discussed in paragraphs 100 to 109 of GSTR 2001/4.

Paragraph 101 of GSTR 2004/1 states:

Where the only supply (other than a 'discontinuance' supply) in relation to a court order or out-of-court settlement is an earlier supply and a sufficient nexus exists between the payment made under that order or settlement and the earlier supply, the payment will be consideration for that supply.

Paragraphs 106 to 109 of GSTR 2004/1 state:

106. Where the only supply in relation to an out-of-court settlement is a 'discontinuance' supply, it will typically be because the subject of the dispute is a damages claim. In such a case, the payment under the settlement would be in respect of that claim and not have a sufficient nexus with the discontinuance supply.

107. In most instances, a 'discontinuance' supply will not have a separately ascribed value and will merely be an inherent part of the legal machinery to add finality to a dispute which does not give rise to additional payment in its own right. They are in the nature of a term or condition of the settlement, rather than being the subject of the settlement.

108. We do not consider that the inclusion of a 'no liability' clause in a settlement deed alters this position. 'No liability' clauses are commonly included in settlement agreements and we do not consider their inclusion to alter the substance of the original dispute, or the reason payment is made.

109. We consider that a payment made under a settlement deed may have a nexus with a discontinuance supply only if there is overwhelming evidence that the claim which is the subject of the dispute is so lacking in substance that the payment could only have been made for the discontinuance supply.

In the context of this case, paragraph 109 above, is significant. The claim in this case is the non-payment of the amounts invoiced for the services you supplied to your client. It is, therefore, clear that the payment was in relation to the earlier supply of the services. There is an obvious nexus between the settlement amount and the earlier supply. Thus, paragraph 9-5(a) of the GST Act is satisfied.

You made the supply in the course or furtherance of the enterprise you are carrying on, the services were supplied in Australia and you are registered for the GST. Therefore, you satisfy all the positive limbs of section 9-5 of the GST Act for the supply you made for the settlement amount you received. Further the supply does not satisfy any of the provisions of Division 38 or Division 40 of the GST Act. Consequently the supply is a taxable supply and you are liable to remit 1/11^th of the amount received as settlement as GST.

Please Note:

2. Our records show that you, account for GST on non-cash basis (accrual). Therefore, you can make an adjustment for the two invoices you issued to the client previously and include the settlement amount in the period to which the out of court settlement was entered into. Additionally you can claim input tax credits on the legal services you acquired relating to this case (GST on legal fees).

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