Edited version of your written advice

Authorisation Number: 1051383343516

Date of advice: 22 October 2018

Ruling

Subject: GST and a supply of equipment under a finance agreement

Questions:

1. Is the supply of Capital equipment under a Finance Agreement a supply that is made on a periodic or progressive basis, and is the consideration provided on a progressive and periodic basis?

2. If the answer to the above question is ‘yes’ then is the GST payable on the supply of the Capital equipment attributable at the point in time a tax invoice is raised for each component of the consideration in accordance with section 156-5 of the A New Tax System (Goods and Services Tax) Act 1999 (GST Act)?

Answers

1. The Commissioner ruled No, the supply of Capital equipment under the Finance Agreement is not a supply that is made on a periodic or progressive basis. It is a supply that involves a sale of the Capital equipment where possession passes immediately for payment by instalments, which has the characteristics of supply made under a hire purchase agreement. Therefore, GST on the supply of the Capital equipment is attributable in full to the tax period in which the supplier receives any of the consideration or issues a tax invoice, whichever occurs earlier.

2. Not relevant.

This ruling is based on the following facts

The entity (supplier) is registered for GST and is not a member of a GST Group.

The supplier accounts for GST on an accrual basis.

The supplier supplies certain type of equipment to a particular industry in Australia). It also supplies consumables and other services associated with the customer’s use of the equipment.

Customers

All of the suppliers’ customers are registered for GST and are entitled to claim input tax credits in respect of the GST included in the consideration provided for the acquisition of the equipment and associated consumables and services.

Customers may purchase Capital equipment from the supplier outright and purchase any quantity of consumable products as required either directly from the supplier or another entity.

Alternatively, given the up-front cost of the equipment, customers may acquire the Capital equipment and associated consumables and services from the supplier in accordance with an Agreement (Agreement).

The Finance Agreement and Invoicing

Pursuant to the Agreement the supplier will supply the Customer with the Capital upfront, in exchange for the Customer agreeing to purchase Consumable Products.

A clause of another agreement states that the entity agrees to sell and the Customer agrees to purchase the goods in accordance with the terms under that agreement.

Pursuant to the other agreement the title to the goods will not pass to the customer until the Customer has reached a particular amount. The Agreement terminates once the Customer reaches this amount or by the end of the term of the Agreement, at which point the customer will retain possession and obtain title to the Capital Equipment.

Pursuant the other agreement, the customer will hold the goods as bailee until all payments are made upon completion of the term of the Agreement.

Pursuant to the Agreement, at the end of the term of the Agreement, and provided the particular amount has been reached, ownership in the Capital Equipment passes to the Customer.

The Agreement also sets a minimum amount that needs to be spent by the Customer on the consumable products each year.

Where a customer chooses to acquire the Capital equipment under the Agreement, the price attributable by the entity for the Capital equipment is the same as what a customer would’ve spent had they purchased the Capital equipment outright.

For internal management accounting purposes, the entity opens up an accounts receivables account equal to the value of the capital equipment when a customer enters into the Agreement with the entity.

In the accounts, for internal management accounting purposes, the entity allocates a credit amount to reduce the value of the capital equipment over the term of the Agreement in accordance with the customer’s consumable product spend.

The price of the consumable products is agreed between entity and the Customers (both of which are acting at arms-length). A Customer who has not entered into an Agreement pays the same price for consumables products as a Customer that has entered into an Agreement.

The consideration paid that is attributable to the Capital Equipment is embedded in the price of the consumable products. The entity does not charge interest or receive any other payments (other than the cost of the Capital Equipment) during the term of the Agreement. The total consideration paid to the entity for the Capital equipment is never less/or more than the total value payable under the Agreement by a Customer.

Where the Customer has not reached the Annual Consumable Target, the entity has the discretion to invoice the Customer for a shortfall amount. Whilst it is unlikely for a Customer to not have reached the Annual Consumable Target and therefore pay the shortfall amount without purchasing any consumable products, in the event this occurs, the entity treats this shortfall amount as a credit in the accounts receivables account opened for the Capital equipment.

This ruling applies for the following period:

October 2018 to October 2022

Reasons for decision

For the purpose of subsection 9-10(1) of the A New Tax System (Goods and Services Tax) Act 1999 (GST Act), the entity makes two supplies under the Agreement.

The first is the supply of Capital equipment paid over the term of the Agreement.

The second is the supply of consumables.

The ruling is based on the premise that these supplies are taxable supplies in accordance with section 9-5 of the GST Act.

What needs to be determined in this case is the nature of the supply of the Capital equipment made under the Agreement. In this regard, we have considered the language used, surrounding circumstances and commercial objects of the Agreement. The interpretation of the Agreement is an objective exercise and the meaning of the terms ‘is to be determined by what a reasonable person would have understood them to mean as opposed to what the applicants state is privately thought or intended.

Nature of the supply of the Capital equipment

Supply is made for a period; the consideration is provided on a periodic basis

We do not agree with the contention that the supply of Capital equipment is made for a period under a bailment arrangement, and the consideration is provided on a periodic basis, such that section 156-5 of the GST Act may apply and GST may be attributable as if each progressive or periodic component of the supply were a separate supply. It is our view that the Capital equipment are not supplied merely for the term of the Agreement (i.e. a period) or spread over the term of the arrangement in a similar manner to, for example, a lease (i.e. progressively).

The fundamental nature of the Agreement involves the acquisition of the Capital equipment by the customer, with payment spread over the term of the Agreement, where possession passes immediately but title is retained by the entity until the final payment is received. Despite the delay in transfer of title, we consider the Capital equipment as having been supplied at the time of delivery due to the intention of the parties to make a sale.

Further, we consider the supply of the Capital equipment in this case to be in the nature of a hire purchase agreement, and accordingly it is not a supply made on a progressive or periodic basis (see section 156-23 of the GST Act and the further explanation below).

Lease, hire or similar arrangement

It has been contented that the supply of the Capital equipment by the entity is a supply by way of hire or similar arrangement and therefore section 156-22 of the GST Act applies.

Hire

The term ‘hire’ is not defined in the GST Act and therefore takes on its ordinary meaning.

According to the Macquarie dictionary, the word ‘hire’ as a noun is defined as ‘the price or compensation paid, or contracted to be paid, for the temporary use of something or for personal services or labour’.

In the Private Ruling application the entity cited, Gzell J in Australian Fencing Hire v Chief Commissioner of State Revenue [at para 48]:

‘At Common law four principle qualities distinguish contracts of hire: the transfer of possession in a chattel, an authority in the bailee to use it for his benefit, an advantage or reward accruing to the bailor in return for this permission, and a promise by the hirer to redeliver the chattel at a stated or determinable time.’

It is our view that these references clearly emphasise that possession for the hirer is temporary.

The hirer must redeliver or return the goods at a particular point in time. The supply of Capital equipment by the entity is not a supply by way of hire as the customer acquires the goods with the intention of purchasing them, and holds the goods as bailee and does not redeliver the goods. Rather, title is transferred to the customer once a certain amount over the term has been reached. The Customer then has permanent and exclusive possession over the goods after these conditions of the Agreement are met.

It is our view that the supply of the Capital equipment is not a ‘hire’ agreement for the purpose of section 156-22 of the GST Act.

Similar Arrangement

The alternate position expressed by the entity (if the Commissioner did not accept the Agreement as a ‘hire’ arrangement) is that the supply of the Capital equipment is a ‘similar arrangement’ to a ‘lease’ or ‘hire’ for the purpose of section 156-22 of the GST Act.

The term ‘similar arrangement’ is not defined in the GST Act. However, paragraph 67 of goods and services tax ruling, Goods and services tax: Division 156 - supplies and acquisitions made on a progressive or periodic basis (GSTR 2000/35) defines a ‘similar arrangement’ as ‘one that is not strictly a lease or hire, but which offers the possession and use of property without providing for title to pass to the recipient’. Further, GSTR 2000/35 goes on to state that ‘a hire purchase agreement cannot be regarded as a similar arrangement to a loan or hire’. Based on the view as expressed in GSTR 2000/35 and the underlying character of the transaction, we consider that the Agreement is not a ‘similar arrangement’ for the purpose of 156-22 of the GST Act as it provides for title to pass to the customer under 3.1(d) of the Agreement.

Hire Purchase Agreement

It is also our view that the supply of the Capital equipment under the Agreement is a supply under a ‘hire purchase agreement’ (as defined in section 995-1 Income Tax Assessment Act 1997 (ITAA) for the purpose of section 156-23 of the GST Act, and therefore should not be treated as being made on a periodic basis in accordance with this provision.

A ‘hire purchase agreement’ is defined in section 195-1 of the GST Act with reference to section 995-1 of the ITAA which reads as follows:.

Hire purchase agreement means:

(a) a contract for the hire of goods where:

(i) the hirer has the right, obligation or contingent obligation to buy the goods; and

(Note: An example of a contingent obligation is a put option.)

(ii) the charge that is or may be made for the hire, together with any other amount payable under the contract (including an amount to buy the goods or to exercise an option to do so), exceeds the price of the goods; and

(iii) title in the goods does not pass to the hirer until the option referred to in subparagraph (a)(i) is exercised; or

(b) an agreement for the purchase of goods by instalments where title in the goods does not pass until the final instalment is paid.

It has been contended by the entity that the supply of Capital equipment under the Agreement does not satisfy the requirements of a hire purchase agreement within the meaning given in subparagraph (a)(ii) of the definition in section 995-1 in ITAA.

Under the Agreement, the entity does not impose a finance charge (i.e. interest), or additional charges for insurance, delivery, etc. in exchange for the Customer’s use of the Capital equipment during the term of the Agreement. While the supply may not satisfy subparagraph (a)(ii), paragraph (b) broadens the scope of the definition to include an ‘agreement to purchase goods by instalments where title in the goods does not pass until the final instalment is paid’.

In GST Law, supplies or acquisitions may be made under a ‘hire purchase agreement’. Paragraph 190 of goods and services tax ruling, Goods and services tax: attributing GST payable, input tax credits and adjustments and particular attribution rules made under section 29-25 (GSTR 2000/29) states that the key features of a hire purchase agreement are:

● hiring charges are calculated to cover the cash price of the goods plus credit charges, delivery, insurance etc less any cash deposit or trade in; and

● the recipient takes possession of the goods, and has a right to use the goods, as well as an option to buy the goods, exercisable at or before the end of the hire period.

Importantly, paragraph 191 provides:

‘….agreements for the purchase of goods by instalments where title in the goods does not pass until the final instalment is paid are within the income tax definition of a hire purchase agreement. The GST Act applies in the same way, for attribution purposes, to supplies and acquisitions made under these agreements as it does to supplies and acquisitions made under hire purchase agreements.’

Paragraph 191 captures the broad ambit of the ITAA 1997 (section 995-1) definition of ‘hire purchase agreement’, specifically paragraph (b). The Commissioner’s view in paragraph 196 is that the two basic ingredients of ‘hire purchase agreement’ are (1) the paramount purpose of purchasing and (2) the financing element of the hire purchase (purchasing by deferred payments).

This position is confirmed in case law. Paragraph 195 of GSTR 2000/29 cites Finnemore J (at 586) in Warman v. Southern Counties Car Finance Corporation Ltd W J Ameris Car Sales, who describes these two basic ingredients to a ‘hire purchase agreement’:

'A hire purchase agreement is in law, an agreement in two parts. It is an agreement to rent a particular chattel for a certain length of time. If during the period or at the end of the period the hirer does not wish to buy the chattel he is not bound to do so. On the other hand, the essential part of the agreement is that the hirer has the option of purchase, and it is common knowledge - and I suppose, common sense - that when people enter into a hire purchase agreement they enter into it not so much for the purpose of hiring, but for the purpose of purchasing, by a certain method, by what is, in effect, deferred payments, and that is done by this special kind of agreement known as a hire purchase agreement, the whole object of which is to acquire the option to purchase the chattel when certain payments have been made’.

This passage shows that the ‘hire purchase agreement’ is in commercial substance a method by which the 'hirer' purchases goods on deferred payment terms

In Metal Manufactures Ltd v FC of T, the Court (at 283) distinguished between a ‘hire purchase arrangement, under which the ‘borrower’ has a right to acquire the subject matter of the arrangement, and a lease, under which all payments are deductible but there is no security for acquiring goods at the end of the term’. Similarly, the Court in 3-D Scaffolding Pty Ltd & anor v FC of T (at [11]) held that the contract in question would be more aptly descried as a hire purchase contract as the equipment in question would belong to 3-D after the payments were made.

On this basis, the passing of legal title is what distinguishes a hire or lease arrangement from a hire purchase transaction. When one business hires or leases an asset from another business, the legal title to the asset remains vested in the hirer or lessor. If that same asset is acquired under a hire purchase contract, the legal title would remain vested in the supplying or financing business for the duration of the contract but is then acquired by the hire purchaser on final payment. This is reflected in paragraph 198 of GSTR 2000/29 and paragraphs 66-67 of GSTR 2000/35.

Paragraph 199 of GSTR 2000/29 finally states that the Commissioner’s view is that ‘when the legal nature of the hire purchase arrangement involves bailment and an option to purchase, there is not a supply of goods for a period or progressively because it is not intended by the parties that the goods in question will be returned to the original owner, but will remain with the hirer who, when the option is exercised, is able to deal freely with the goods.’

Under the Agreement, the customer has possession of the Capital equipment as bailee until the end of the term and provided that the minimum amount on the consumables is met. Once this amount has been reached, a certain clause of the Agreement operates to transfer title of the Capital equipment to the Customer. Unlike a lease of hire arrangement, the capital cost of the goods under the Arrangement is paid off over the term of the arrangement and full ownership of the goods will pass to the customer at the time of the final payment. The fact that the arrangement involves (1) bailment and (2) title to the Capital Equipment passes to the customer supports the conclusion, per paragraph 199 of GSTR 2000/29, that the legal nature of the arrangement is a ‘hire purchase arrangement’.

The entity contends that the supply of Capital equipment under the Agreement does not satisfy the requirements of a hire purchase agreement within the meaning given in paragraph (b) of the definition of ‘hire purchase agreement’ in section 995-1. The entity relies on the Macquarie dictionary definition of ‘instalment’ which refers to this term as ‘any of several parts into which a debt or other sum payable is divided for payment at successive fixed times’. As such, the consideration for the Capital equipment is not paid in instalments on the basis that no debt or sum payable is owed by the customer for the Capital equipment, nor is payment made at successive fixed times. Rather, the reduction in the value for the Capital equipment occurs with the customer’s order of Consumable products, which may be made at any time through the course of the year during the term of the Agreement and for differing and irregular values.

It is our view that while payments are neither demanded at a particular date or for a particular value, the customer must reach a particular sum by a fixed date (end of year) in order to avoid defaulting. The customer must meet a particular target each year. Further the allocation of the credits in the entity’s internal accounts to reduce the value of the Capital equipment over the term of the Agreement in accordance with the customer’s consumable product spend supports the view that payment towards the Capital equipment is recognised by the entity. Accordingly, it is our view that construing the word ‘instalment’ in a strict or limited sense is not consistent with the commercial context in which this definition and Arrangement operate in.

The meaning of ‘instalments’ in paragraph (b) of the ITAA97 definition depends on the text, context and purpose involved. While Macquarie gives a restrictive sense of what the term ordinarily means, there is a wider general sense which extends to ‘a succession of part-payments whether or not those part-payments vary in amount, time or frequency’ - ASIC v Kobelt [2016] FCA 1327 (at [194]) illustrates (appeal dismissed). Some other dictionaries provide senses of the word suggesting a possibly wider meaning.

Nothing in the text positively requires the Macquarie meaning or a wider meaning be adopted. Selection between available meanings is governed by s 15AA of the Acts Interpretation Act 1901 and constructional choice principles - SZTAL v Minister [2017] HCA 34, Brysland & Rizalar (2018) 92 ALJ 81. Dictionaries themselves cannot mandate the answer, given what they say is always contextual. Nor can older common law conceptions of ‘instalment’, or interim hire purchase or credit legislation notions, determine the issue.

The statutory, tax and commercial contexts, as well as the legislative history, all suggest the wider sense of ‘instalments’ is the appropriate one to be adopted in paragraph (b). The focus in this regard is on the fact that the agreement is question is a ‘sale’ under which passing of title is deferred until the full amount due is paid. In the income tax situations to which the paragraph (b) applies, the precise regime adopted by the parties to regulate the ‘how much’ and ‘when’ of payments is not legally important. Systemic coherence factors also exclude the impracticality of GST attribution influencing the income tax answer. Mere impracticality alone is not enough, something that GST as a ‘practical business tax’ does not change.

On this basis, the supply of Capital equipment is made under a ‘hire purchase arrangement’ for the purpose of section 156-23 of the GST Act, and therefore should not be treated as being made on a periodic basis in accordance with the provision.

Tax invoices

Tax invoices that the entity issues should appropriately reflect the types of supplies made at different times.

Attribution of GST

Paragraph 200 of GSTR 2000/29 stipulates that a supply of goods by way of hire purchase is not a supply for a period or on a progressive basis in the same way that a supply of goods by way of sale is not a supply for a period. Section 29-5 of the GST Act provides that if a taxpayer does not account for GST on a cash basis, the taxpayer must attribute all the GST payable on a taxable supply to the earlier of the tax period in which any of the consideration for the supply is received or an invoice for the supply is issued.

Therefore, the entity (which accounts for GST on non-cash basis) should attribute the GST payable on a taxable supply of the Capital equipment made under the (hire purchase) Agreement to the tax period in which it receives any consideration for the supply or issues an invoice. The taxable value of subsequent supplies of Consumables during the term of the Agreement should essentially be accounted for as the value of the monthly invoice less the amount attributed as the Credits for the Capital equipment.

Policy Intention of Division 156

The Commissioner is satisfied that the application of the basic attribution rules in relation to hire purchase agreements is appropriate. This view is expressed in paragraph 214 of GSTR 2000/29 which states that ‘The basic attribution rules provide the same outcome for a supply and acquisition of goods under a hire purchase agreement as results from the application of the basic attribution rules to the supply of goods by way of sale. This outcome is consistent with the income tax treatment of hire purchase agreements.

Relevant legislative provisions

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

Section 156 of the A New Tax System (Goods and Services Tax) Act 1999

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