Edited version of your written advice

Authorisation Number: 1012752497117

Ruling

Subject: Application of the mutuality principle

Question 1

Are member contributions paid to the entity assessable income under:

• section 6-5 of the Income Tax Assessment Act 1997 (ITAA 1997);

• section 6-10 of the ITAA 1997;

• section 15-10 of the ITAA 1997; or

• section 15-20 of the ITAA 1997?

Answer

No

Question 2

Are receipts of additional services provided to the members of the entity assessable income under sections 6-5 and 6-10 of the ITAA 1997?

Answer

No

This ruling applies for the following periods:

1 July 2015 to 30 June 2016

1 July 2016 to 30 June 2017

1 July 2017 to 30 June 2018

1 July 2018 to 30 June 2019

1 July 2019 to 30 June 2020

The scheme commences on:

1 July 2015

Relevant facts and circumstances

The entity was established by its members. It has supplied a list of services to its members.

The entity's primary aim is set down in its constitution. It has detailed ways in which members may appoint or nominate directors.

The entity has one part time employee and outsources its major operating functions to external service providers.

The entity's member fees have been specified. It is intended that the amount of fees received by the entity from its members will be equal to its operating expenses and a small cash reserve to cover any short-term contingencies.

The entity's constitution prohibits the payment of any income by the entity to members by way of dividend, bonus or otherwise, except for the payment of any net surplus remaining upon a winding up of the company, which must be divided among the members on a proportional basis.

The entity can provide additional services to its members by recovering the costs of providing such services.

Relevant legislative provisions

Income Tax Assessment Act 1997 section 6-5,

Income Tax Assessment Act 1997 section 6-10,

Income Tax Assessment Act 1997 section 15-10 and

Income Tax Assessment Act 1997 section 15-20.

Reasons for decision

Question 1

Mutuality is a common law principle developed in the overseas country and first considered in connection with insurance companies. The mutuality principle is not specifically mentioned in the ITAA 1997, however, it has been accepted and applied narrowly in relation to Australian taxation law.

The principle is based on the proposition that a taxpayer cannot derive income from itself. In the case of corporate entities, the principle recognises that contributions by proprietors are not in the nature of income because 'income consists of monies derived from sources outside of the taxpayer' (Bohemians Club v. Acting Federal Commissioner of Taxation (1918) 24 CLR 334 at 337).

Page 6 of the Tax Office publication Mutuality and taxable income (NAT 73436-07.2010) states:

Not all amounts of money or property your organisation receives will be assessable income. Receipts derived from mutual dealings with members of your organisation are not assessable income. This is due to the principle of mutuality, .....

The principle is summarised in Revesby Credit Union Co-operative Ltd v. Federal Commissioner of Taxation (1965) 112 CLR 564; (1965) 13 ATD 449; (1965) 9 AITR 459, where McTiernan J said:

The principle of mutuality seems to me to be settled. Where a number of people contribute to a fund created and controlled by them for a common purpose any surplus is not income but is to be regarded as a mere repayment of the contributor's own money…Incorporation of the fund is not relevant… What is required is that the fund must have been created for the common purpose and owned or controlled by the contributors.

The contributors to the fund must also be identifiable with those to benefit from any surplus. Lord Macmillan in Municipal Mutual Insurance Ltd v Hills (1932) 16 TC 430 at 448 states:

The cardinal requirement is that all the contributors to the common fund must be entitled to participate in the surplus and that all the participators in the surplus must be contributors to the common fund; in other words, there must be complete identity between the contributors and the participators. If this requirement is satisfied, the particular form which the association takes is immaterial.

Lord Wilberforce In Fletcher v. Income Tax Commr (1971) 3 All ER 1185 drew the distinction between a mutual activity which does not give rise to profits and a trading activity which does at 1189:

Cases in which groups of persons making contributions towards a common purpose have been held not liable for tax on any surplus over expenditure fall under a number of heads. The expression 'the mutuality principle' has been devised to express the basis for exemption of these groups from taxation. It is a convenient expression, but the situations it covers are not in all respects alike. In some cases the essence of the matter is that the group of persons in question is not in any sense trading, so the starting point for an assessment for income tax in respect of trading profits does not exist. In other cases, there may be in some sense a trading activity, but the objective, or the outcome, is not profits, it is merely to cover expenditure and to return any surplus, directly or indirectly, sooner or later, to the members of the group. These two criteria often, perhaps generally, overlap; since one of the criteria of a trade is the intention to make profits, and a surplus comes to be called a profit if it derives from a trade. So the issue is better framed as one question, rather than two: is the activity, on the one hand, a trade, or an adventure in the nature of trade, producing a profit, or is it on the other, a mutual arrangement which, at most, gives rise to a surplus?

The mutuality principle will apply to activities with the following criteria:

1. A fund must have been created for common purpose.

2. The fund must have been owned or controlled by contributors.

3. Contributors must be identical with participants.

4. The fund cannot be carrying on a trading operation for profits purposes.

Conclusion

The money received by the entity consists of fees paid by members for the service the entity provides. It will not be assessable income under:

• section 6-5 of the ITAA 1997

• section 6-10 of the ITAA 1997

• section 15-10 of the ITAA 1997, or

• section 15-20 of the ITAA 1997.

Question 2

There are exceptions to the mutuality principle and some receipts from members may constitute income for the purpose of the ITAA 1997. The principle will not apply to activities that are considered to be in the nature of trade. Nor will it apply where there is a distinct disparity between the identity of the contributors and the recipients of any surplus.

This exception was best explained by Lord MacMillan in Inland Revenue Commissioners v. Ayrshire Employers Mutual Insurance Association Ltd (1946) 1 All ER 637 at 640 when he said: 'It is not membership or non-membership which determines immunity from or liability to tax; it is the nature of the transactions.'

Royal Automobile Club of Victoria v. FC of T 73 ATC 4153 distinguishes between mutual and non-mutual dealings. Anderson J stated at 4157:

Where the activity is mutual, the fact that some members only take advantage of the facilities available does not affect the element of mutuality (National Association of Local Government Officers v. Watkins (1934) 18 T.C. 499).

It is required that the entity can provide additional services to its members by recovering the costs of providing such services. This demonstrates that additional services will be provided at cost and no surplus will arise. Any surplus that may arise is prohibited from being distributed to its members.

The mutuality principle may not apply to all additional services provided to members and consequently each type of additional services provided to members needs to be examined to determine if mutuality applies to make the receipts not assessable income under sections 6-5 or 6-10 of the ITAA 1997.

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