Edited version of your written advice

Authorisation Number: 1012774321843

Ruling

Subject: Timing of derivation of income

Question 1

Does the entity include fees invoiced for subscription services as assessable income under section 6-5 of the ITAA 1997 when the subscription services are provided?

Answer

Yes

This ruling applies for the following periods:

1 July 2011 to 30 June 2012

1 July 2012 to 30 June 2013

1 July 2013 to 30 June 2014

1 July 2014 to 30 June 2015

1 July 2015 to 30 June 2016

1 July 2016 to 30 June 2017

1 July 2017 to 30 June 2018

The scheme commences on:

1 July 20XX

Relevant facts and circumstances

• the entity is an online content provider

• the entity undertakes significant activities to provide the service

• The entity generates revenue by licencing its contents through a subscription model

• The licence holder's access to content is limited by either usage/consumption per month or by a specific geographical area

• All subscriptions are covered by licence agreements. Government and commercial licences are paper based whereas digital licences are a click-through agreement on the website. Digital licences are aimed at low consumption users such as hobbyists and individuals

• The entity accounts for revenue using the accruals method. For accounting purposes, the subscription revenue is recognised as income on a pro-rata daily basis over the subscription period

• Payments received for subscription services are un-dissected. Subscription fees received relate entirely to access to the entity's platform and content

• Subscription fees are invoiced in advance for a defined subscription term, generally twelve months although this may vary

• Government and commercial licences are invoiced and generally payable within 30 days. Digital licences are charged directly to the customer's credit card

• The entity has a commercial practice of providing refunds if requested by the customer

• Government and commercial licence contracts provide that either party may terminate the licence with immediate effect by notifying the other party. Commercial licences expressly state that upon termination by the entity a pro-rata refund is paid for the unexpired contract portion

• The terms of use relating digital licences state that all fees are non-cancellable and non-refundable except as expressly set out in the agreement. However, a later contractual term states the entity may refund any pre-paid fees relating to the portion of the term remaining as at the effective date of termination

• For all classes of licences, where a customer requests termination of the licence and seeks a refund of the pre-paid licence fee, the entity will consider the reason for the requested refund. In the majority of instances have in the past, provided a refund

• The entity has no intention, in the foreseeable future, of changing its treatment of refund requests. Where a customer seeks a refund of the pre-paid amount, the entity will in all instances provide a refund unless the customer has been unreasonable or has breached a term of the licence agreement

• the entity provided the following refunds during the relevant income years, reducing as familiarity increased

Income year	Number of refunds provided
30 June 2012	X
30 June 2013	Y
30 June 2014	Z

Relevant legislative provisions

Income Tax Assessment Act 1997 Section 6-5

Reasons for decision

Issue 1

When does an entity account for income?

Question 1

Does the entity include fees invoiced for subscription services as assessable income under section 6-5 of the ITAA 1997 when the subscription services are provided?

Summary

The entity provides an internet based service and derives income from licence agreements. The subscription fee is derived for the purposes of section 6-5 of the ITAA 1997 when the obligation is fully performed or the contingency of repayment lapses. Therefore, fees invoiced for subscription services are assessable income under section 6-5 of the ITAA 1997 when the subscription services are provided.

Detailed reasoning

Taxable income must be worked out not only in relation to a fixed accounting period but also in accordance with the method of accounting that correctly reflects the entity's true income. There are two methods of working out income for tax purposes:

• The cash or receipts basis; and

• The accruals or earnings basis

Under the accruals method, income is accounted for when the right to receive it comes into being. It is not actual receipt of money but the right to receive that is critical.

Section 6-5(4) Income Tax Assessment Act 1997 (ITAA 1997) states that when working out when income is derived 'you are taken to have received the amount as soon as it is applied or dealt with in any way on your behalf or as you direct'. The Commissioner's view on income derivation is contained in Taxation Ruling TR 98/1 Income tax: determination of income; receipts versus earnings.

There are circumstances where income is taken to be derived at a point after a receivable debt arises. Particularly, where a taxpayer has not completed all steps required in order to become entitled to a debt, examined by the Full High Court in the case of Arthur Murray (NSW) Pty Ltd v. Federal Commissioner of Taxation 114 CLR 314; 14 ATD 98;(1965) 39 ALJR 262;(1965) 9 AITR 673 (Arthur Murray's Case).

The Court in that case found that the taxpayer was not assessable on the income received in advance of services being provided. The advance receipts were held not to form part of the taxpayer's assessable income at the time of the receipt, but became assessable as and when the dance lessons were given. In Arthur Murray's Case, the Court held that income could not be taken to have come home to the taxpayer if the services had not been provided and if the possibility existed that any part of the advance receipts would need to be repaid.

You advised us that the entity is an online content provider, generating subscription revenue through licencing of an on-line service. All subscriptions are covered by licence agreements; Government and commercial paper-based licences while digital licences are website click-through agreements.

The entity uses the accruals method and recognises un-dissected subscription fee on a pro-rata daily basis over the subscription period. Government and commercial licences are invoiced and generally payable within 30 days of the invoice date while digital licences are charged directly on subscription to the customer's credit card.

Government and commercial licence contracts provide that either party may terminate the licence with immediate effect by notifying the other party. Commercial licences expressly state that upon the entity's termination, a pro-rata refund is paid for the unexpired contract portion.

In contrast, the terms of use relating digital licences state that all fees are non-cancellable and non-refundable except as expressly set out in the agreement. Further, contract terms state the entity may refund any pre-paid fees relating to the portion of the term remaining as at the effective date of termination. The entity has a commercial practice of providing refunds if requested by the customer, they do not, however, have a written policy underpinning this practice. For all classes of licences, where a customer has requested termination of the licence and seeks a refund, the entity will consider the reason for the requested refund. In the past, the entity has, in the majority of instances, provided a refund. They have no intention, in the foreseeable future, of changing the treatment of refund requests. Where a customer seeks a refund of the pre-paid amount, the entity will, in all instances, provide a refund unless a request is unreasonable or an agreement has been breached.

The Commissioner's view contained in Taxation Ruling TR 2014/1 Income tax: commercial software licencing and hosted agreements: derivation of income from agreements for the right to use proprietary software and the provision of related services (TR 2014/1) states that income from proprietary software licences or hosting arrangements (including bundled additional services) is considered to be derived for the purposes of s 6-5 of ITAA 1997 when the obligation is fully performed or the contingency of repayment otherwise lapses. The contingency of repayment refers to a contractual or commercial obligation to make a refund or a contractual exposure for damages. Taxpayers can defer income from these software arrangements where such a contingency for repayment still exists.

The entity provides an internet based service and derives income from licence agreements for the use of their software programs. The subscription fee that is properly attributable to the entity's contractual obligation and that is subject to a 'contingency of repayment' is derived, for the purposes of section 6-5 of the ITAA 1997, when the obligation is fully performed or the contingency of repayment lapses.

Therefore, fees invoiced for subscription services are assessable income under section 6-5 of the ITAA 1997 when the subscription services are provided.

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