Edited version of private ruling

Authorisation Number: 1011669076870

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Ruling

Subject: GST and out-of-court settlement

Question 1

Are you entitled to claim an input tax credit in relation to the amount you paid as the result of an out-of-court settlement?

Advice/Answer

Yes. You are entitled to claim an input tax credit in relation to the amount you paid as the result of an out-of-court settlement.

Relevant facts

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

Your supplier is a finance broker who procured finance for your business.

The supplier is registered for GST.

You signed a contract with your broker and at settlement paid the amount you believed was outstanding under the terms and conditions of the contract.

You advise that your financial lenders withheld an amount and paid your supplier.

Your supplier disputed the commissions he received, alleging that he was entitled to more and instigated legal action.

At a pre-hearing conference at the Magistrates Court, the parties agreed to settle the claim.

You advise that the out-of-court settlement relates to the previous supply of procuring finance for your business.

You advise that the sum paid by you is in full satisfaction of the claim only. This was the amount that was offered by you at settlement to your supplier as full settlement for his claim and this amount was not itemised nor were there or have there been any costs or interest identified at the time of settlement or at a later stage.

A tax invoice was not issued for the amount.

You advise that the amount has been paid in full to the solicitor's trust account.

Reasons for decision

Summary

You are entitled to claim an input tax credit in relation to the amount you paid as the result of an out-of-court settlement.

Detailed reasoning

Section 11-20 of the A New Tax System (Goods and Services Tax) Act 1999 (GST Act) provides that you are entitled to input tax credits for any creditable acquisitions that you make.

Section 11-5 of the GST Act provides that you make a creditable acquisition if:

· you acquire a thing solely or partly for a creditable purpose

· the supply of the thing to you is a taxable supply

· you provide, or are liable to provide, consideration for the supply, and

· you are registered or required to be registered for GST.

Subsections 11-15(1) and 11-15(2) of the GST Act provide that you acquire a thing for a creditable purpose to the extent that you acquire it in carrying on your enterprise and it is not acquired for making input taxed supplies or for a private or domestic purpose.

Subsection 9-20(1) of the GST Act provides that the term 'enterprise' includes an activity or series of activities done in the form of a business.

In your case, you carry on a manufacturing enterprise during the course of which you acquired the services of a supplier who was your finance broker, to procure finance for your business. You are registered for GST and you have provided consideration for the supply of services, albeit as the result of an out-of-court settlement.

In order for you to be able to claim any input tax credits in relation to the settlement amount, we need to determine:

Whether there has been a taxable supply made to you, and

How the consideration, paid as the result of an out-of-court settlement, should be treated for the purposes of the GST Act.

Whether there has been a taxable supply made to you

In accordance with section 9-5 of the GST Act, a supply is a taxable supply if the supplier:

(a) makes the supply for consideration

(b) the supply is made in the course or furtherance of its enterprise

(c) the supply is connected with Australia, and

(d) the supplier is registered, or required to be registered, for GST.

However, the supply is not a taxable supply to the extent that it is GST-free or input taxed.

In this particular case:

· the supplier has, in the course of its enterprise, made a supply of brokerage services to you for which you have paid consideration to the supplier.

· the supply has been determined to be in the course or furtherance of an enterprise that the supplier carries on in Australia, and

· the supplier is registered for GST.

The supply of brokerage services is not an input taxed supply or a GST-free supply under the GST Act or any other provision of another Act.

Therefore all the conditions of a taxable supply, in accordance with section 9-5 of the GST Act, have been met.

In accordance with the provisions of section 11-5 of the GST Act:

· you have acquired the services of the supplier to provide brokerage services to procure finance for use in your enterprise, which is for a creditable purpose

· the supply of services to you has been shown to be a taxable supply

· you have provided consideration for the supply, and

· you are registered for GST.

Therefore you have made a creditable acquisition of the services of the supplier in accordance with the provisions of section 11-5 of the GST Act.

The consideration for that taxable supply was made as the result of an out-of-court settlement.

Therefore, it needs to be determined how that payment should be treated for the purposes of the GST Act.

How the consideration, paid as an out-of-court settlement, should be treated for the purposes of the GST Act.

Goods and Services Tax Ruling GSTR 2001/4 provides the Australian Taxation Office (ATO) view in relation to out-of-court settlements.  The Ruling describes three broad categories of supplies that may be related to an out-of-court settlement.  They are:

· earlier supplies

· current supplies, and

· discontinuance supplies.

Earlier supplies are supplies that occur before a dispute arises.  A current supply is one that may be created by the terms of the settlement.  Discontinuance supplies usually result from the terms of a settlement, and generally ensure no further legal action in relation to the dispute, provided the terms are complied with.

GSTR 2001/4 provides the following at paragraphs 46 and 47:

46. … where the subject of the dispute is an earlier transaction, in which a supply was made involving the parties; that supply is referred to as an 'earlier supply'.

Example - Earlier supply

47. Widget Company supplies toys to a retailer. A dispute between the parties over payment for the toys is subsequently resolved through an out-of-court settlement, with the retailer paying all monies owed. The supply of the toys, that is the subject of the dispute, is an earlier supply because it occurred before the dispute arose.

The supply of the services, which is the subject of your dispute, is an earlier supply because it occurred before the dispute arose, as in the above example.

In your case, the dispute between you and the supplier, over payment for services, was subsequently resolved through an out-of-court settlement, with you agreeing to pay all monies owed to the supplier for services he provided to you.

In relation to an earlier supply, paragraph 101 of GSTR 2001/4 advises:

101. 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.

Therefore, where the primary reason for an out-of-court settlement is in satisfaction for an earlier supply, as explained in GSTR 2001/4, there is no necessity to examine the other categories of supplies, even though one of the terms of settlement may be indicative of a discontinuance supply.

Discontinuance supplies may be characterised as:

· surrendering a right to pursue further legal action,

· entering into an obligation to refrain from further legal action, and

· releasing another party from further obligations in relation to the dispute.

In relation to the terms of settlement, paragraph 108 of GSTR 2001/4 advises:

108. …'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.

From the information provided, the settlement amount involves an earlier supply, represented by the amount on the terms of settlement contract. Therefore, in view of the information presented in GSTR 2001/4, we consider that the out-of-court settlement amount represents payment for an earlier supply, which was a taxable supply.

In conclusion, we consider that the amount of the out-of-court settlement represents consideration for a supply made to you. Therefore, you are entitled to claim an input tax credit in relation to that payment.

Please note that GSTR 2001/4 provides the following information regarding the GST consequences of a payment made under an out-of-court settlement. (A copy of GSTR 2001/4 was enclosed for applicant's information).

Attribution in the period the payment is made

127. Attribution of GST payable or input tax credit in the tax period the settlement payment is made occurs where:

(i)   the payment is consideration for an earlier or current supply; and

(ii)   the supplier or recipient attributes on a cash basis; or

(iii)  no invoice was issued for the supply and no part of the consideration for the supply was provided or received in any previous tax period.

Adjustments because of changes to the consideration for a supply

128. An adjustment is needed where the supplier or recipient attributes on a basis other than cash and:

(i)   the payment is consideration for an earlier supply; and

(ii) an invoice was issued, or some part of the consideration was received or provided in an earlier tax period; and

(iii)  the payment (together with earlier payments if any) made under the settlement or order differs from the amount of the consideration on which the GST payable and input tax credit were previously attributed.