Edited version of private ruling

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Ruling

Subject: GST and treatment of a supply from a provider located outside Australia

Question 1:

Is the sale by A Ltd to a retailer of a particular product (Product) which is issued by and redeemable from a Provider which is located outside Australia, a supply that is made in relation to a right for use outside Australia within the meaning of Item 4(a) in subsection 38-190(1) of the A New Tax System (Goods and Services Tax) Act 1999 ('GST Act') and accordingly GST-free?

Answer:

No, the supply to a retailer of a Product which is issued by and redeemable from a Provider which is located outside Australia, is not a supply that is made in relation to a right for use outside Australia within the meaning of Item 4(a) in subsection 38-190(1) of the GST Act and is not GST-free.

Question 2:

Is the sale by a retailer to a consumer of a Product, which is issued by and redeemable from a Provider which is located outside Australia, a supply that is made in relation to a right for use outside Australia within the meaning of Item 4(a) in subsection 38-190(1) of the GST Act and accordingly GST-free?

Answer:

No, the sale by a retailer to a consumer of a Product which is issued by and redeemable from a Provider which is located outside Australia, is not a supply that is made in relation to a right for use outside Australia within the meaning of Item 4(a) in subsection 38-190(1) of the GST Act and is not GST-free.

Relevant facts and circumstances:

A Ltd is GST registered and is the Australian subsidiary of B, a company incorporated overseas.

A Ltd will enter into a Distribution Agreement with a Provider and distribute the Product to Australian retailers.

Each Australian retailer will enter into a Master Distribution Agreement with A Ltd which will allow the retailer to on-sell the Product to consumers . When an Australian retailer sells a Product to a consumer the retailer will use a technology and processing platform owned by B to activate the Product and load it with the nominated dollar value.

A consumer will redeem the nominated value of an activated Product by establishing an electronic connection over the Internet to the Product Provider's website, entering the security number appearing on the Product and establishing a credit equal to the nominated value in either a new or existing online account which the consumer has with the Product Provider. The consumer then accesses the relevant activity via the Internet and uses the credit in his or her account with the Product Provider to access the particular feature.

The Australian retailer will deduct the retailer's margin from the price of the Product received from the consumer and remit the balance to A Ltd. A Ltd will deduct a commission and other fees from the amount received from the retailer and remit the balance to the relevant overseas Product Provider.

Reasons for decision:

Question 1:

Summary:

The supply of a Product to an Australian retailer is not covered by Item 4(a) in subsection 38-190(1). The first test in the Travelex DIS (that is, whether a Product supplied to an Australian retailer has value only because of the rights attached to it) is not satisfied. Nor is the second test in the Travelex DIS (that is, whether those rights are transferred to the retailer) satisfied.

Detailed reasoning:

A supply that is made in relation to rights:

Item 4 in subsection 38-190(1) applies to 'a supply that is made in relation to rights'.

GSTR 2003/8 provides that Item 4 only applies to a supply if the essential character of the supply or an identifiable part of the supply is one of rights (Para 20), the right must bind the parties in some way (Para 25), that 'right' has a broad meaning under general law and has been defined as a benefit or claim entitling a person to be treated in a certain way (Para 57) and that there is no basis for limiting the operation of Item 4 to supplies of proprietary rights (Para 60).

On 20 December 2010 the ATO endorsed GSTR 2003/8 with a Case Note (which states that GSTR 2003/8 is being reviewed as a result of Travelex) and issued the Travelex DIS which states

Supply that is made in relation to rights

The Commissioner considers that the decision of the High Court means that the expression 'a supply that is made in relation to rights' in item 4 in the table in subsection 38-190(1) of the GST Act covers the supply of a thing (other than goods or real property) such as foreign currency where the thing supplied only has value because of rights that attach to it and those rights are transferred.

While the supply of that thing does not need to be characterised as a supply of rights, nevertheless, the supply has to encompass the transfer of rights and the value of the supply needs to be in the rights.

As the High Court decision is different in this respect from the ATO view expressed in public ruling GSTR 2003/8 that a supply that is made in relation to rights only covers a supply that is the creation, grant, transfer, assignment, or surrender of a right, the Commissioner will review and revise that ruling to reflect the High Court's decision.

In GSTR 2003/8 the Commissioner expresses the view that the right must bind the parties in some way. The Commissioner proposes to maintain this view but this will be considered more fully in light of the comments of French CJ and Hayne J. when the ruling is amended.

The tests for whether a supply is 'a supply that is made in relation to rights' as set out in the first paragraph of this extract from the Travelex DIS are whether the thing supplied to a retailer (that is, the Product) has value only because of the rights attached to it and whether those rights are transferred when the Product is supplied to the retailer.

In relation to the first test, we consider that the Product has value because of the right attached to it to establish a credit in a new or existing online account with the Product Provider which is attached to the Product. The wording on the Product, for example, states:

This Product is good for X month's unlimited access to the features or currency that can be used to buy items or unlock premium access areas.

Terms and Conditions

…This prepaid Product may be redeemed to pay the transaction fees for using the features or to buy currency to be used in the Product's environment, but may not be used for your Internet access fees. This Product can only be redeemed for the full face value and cannot carry a balance.

The words on the Product suggest that a purchaser is prepared to pay the purchase price for the Product in order to use the features of the Product. The Product appears to have no value per se (e.g. as a collector's item) as it states on the Product:

No value until activated at register

However the test of whether the Product has value only because of the rights attached to it has to be applied to the supply of the Product to the retailer. As noted above, when a Product is supplied to a retailer the Product has not been activated and the Terms and Conditions appearing on the Product stipulate that it has no value. We understand that it is only when the retailer on-sells the Product to a consumer that the retailer uses B's technology and processing platform to activate the Product.

We consider that this distinguishes the supply of a Product to a retailer from the supply of Fijian currency made in Travelex. In Travelex the High Court majority described (Para 26) the rights which attached to the Fijian currency as the holder's right to use the Fijian currency 'as a medium of exchange or store of economic value'. Those rights attached to the Fijian currency at the time Travelex supplied the Fijian currency to Mr Urquhart and it was not necessary for the Fijian Currency to be activated in order for those rights to be used.

When an inactivated Product is supplied to a retailer, on the other hand, the right to establish a credit in a new or existing online account with the Product Provider is not attached to the Product and the Product is stated to have no value. It is only when the Product is supplied by the retailer to a consumer that the retailer activates the Product (which makes it possible for the consumer to establish a credit in a new or existing online account with the Product Provider).

We therefore consider when a Product is supplied to a retailer the Product does not have value only because of rights attached to it and the first test in the Travelex DIS is not satisfied.

We also consider that the second test in the Travelex DIS (i.e. whether those rights are transferred to the retailer) is not satisfied where a Product is sold to a retailer. A Ltd submitted that because a Product evidenced a right or entitlement to receive supplies in the future, a supply of a Product by way of sale necessarily involved a transfer of rights.

We disagree. It is only after the retailer on-sells a Product to a consumer and uses B's technology and processing platform to activate the Product and load it with the nominated dollar value appearing on the Product that a right is transferred to the consumer to establish a credit in a new or existing online account which the consumer has with the Product Provider. When a Product is supplied to a retailer, on the other hand, the Product is not activated and it is not possible for the retailer to exploit the right attached to the Product to establish a credit in a new or existing online account with the Product Provider. Consequently there is no transfer of that right to the retailer. We consider the supply of an inactivated Product to a retailer to be distinguishable from the supply of Fijian currency in Travelex where the High Court majority stated (Para 27):

When the supplier sells the foreign currency to the acquirer, the acquirer obtains the rights that attach to, or are constituted by, the ability to use the currency.

Given our conclusion that the supply of a Product to a retailer does not fall within Item 4(a) in subsection 38-190(1) of the GST Act, it is unnecessary to consider subsections 38-190(2) and (2A).

Question 2:

Summary:

A supply of a Product by an Australian retailer to a consumer in Australia is a 'supply made in relation to rights', but those rights are not for use outside Australia.

Detailed reasoning:

A supply that is made in relation to rights:

Item 4 in subsection 38-190(1) applies to 'a supply that is made in relation to rights'.

We agree with A Ltd's submission that a supply of a Product by an Australian retailer to a consumer is a 'supply made in relation to rights'.

As we explained in relation to Question 1, when the retailer activates the Product, loads it with the nominated dollar value appearing on the Product, and supplies it to the consumer, the true value of the activated Product to the consumer is in the right conferred on the Product to establish a credit in a new or existing online account which the consumer has with the Product Provider, which can then be applied within the feature specified on the Product.

In our view the second test set out in the Travelex DIS (i.e. whether the rights are transferred) is satisfied because after the retailer activates the Product the consumer is able to establish a credit in a new or existing online account with the Product Provider which gives the consumer the right to use the features for a particular period or other rights. Those rights are transferred to the consumer by the Product Provider when the consumer utilises the security number on the Product to create a credit in either a new or existing online account. In terms of the majority of the High Court in Travelex (Para 27), when the retailer supplies the activated Product to the consumer, the consumer 'obtains the rights that attach to, or are constituted by' the activated Product.

We also consider that the value of the supply made to the consumer is in the rights as the Product has no value per se and the Terms and Conditions state that:

The Product cannot be redeemed for cash.

We consider that the right supplied to the consumer is binding on the Product Provider as that right is stated on the Product under terms and conditions.

Rights for use outside Australia:

In the ruling request A Ltd's current adviser submitted that it was 'self-evident' that a right to a supply which occurs outside Australia is a right for use outside Australia, that a Product confers a right to obtain credit to be applied in an online activity which was both created and redeemed outside Australia, and that where the activity occurs was irrelevant.

In support the ruling request referred to Chapter 4 of the Electronic Commerce Industry Partnership Issues Register, which deals with the application of GST to supplies of digital products made to Australian residents from non-resident suppliers where the supply is made via the internet. An example in Chapter 4 involves the supply of virus protection software by way of download over the Internet to an Australian resident by a United States corporation which owns servers located in the United States. The ATO considered that the supply is not connected with Australia pursuant to subsection 9-25(5) of the GST Act as it is neither a thing done in Australia nor made through an enterprise that the supplier carries on in Australia.

In our view it is not 'self-evident' that a right to a supply which occurs outside Australia is a right for use outside Australia and the Example in Chapter 4 does not address whether rights are for use outside Australia but deals with a different issue (that is, whether a supply is connected with Australia within the meaning of section 9-25 of the GST Act) and from a different perspective (i.e. the supplier's perspective). Item 4(a) in subsection 38-190(1), on the other hand, deals with whether a supply that is connected with Australia is nevertheless GST-free and from the recipient's perspective (that is, how the recipient intends to use the rights).

The ruling request also relied on ATOID 2001/578 which discussed the acquisition by an entity resident in Australia of electronic journals supplied via the Internet by a non-resident supplier. As with the Example in Chapter 4 referred to above, the portion of ATOID 2001/578 relied on by A Ltd deals with whether the supply of the electronic journals was connected with Australia.

Item 4(a) in subsection 38-190(1) refers rights that 'are for use outside Australia'. GSTR 2003/8 states (Para 114):

Accordingly, it is the intended use of the rights at the time they are created, granted, transferred, assigned, or surrendered that determines whether the rights are 'for use outside Australia' and therefore the extent to which the supply is GST-free. The extent to which the supply is taxable or GST-free is not affected by the actual use of the rights, other than as potential evidence of the intended use.

Section 38-190 falls within Subdivision 38-E of the GST Act - 'Exports and other supplies for consumption outside Australia'. The Explanatory Memorandum to the GST Act states (Para 5.73):

GST is a tax on consumption in Australia. Generally, things that are not for consumption in Australia, such as exports, are GST free. Subdivision 38-E of the GST Act provides for some such GST-free supplies.

In our view the reference to 'use' in Item 4(a) in subsection 38-190(1) relates to the consumption of the right and is intended to ensure that supplies of rights which are not intended to be consumed in Australia are GST-free. Our view is supported by the Example in respect of Item 4 of subsection 38-190(1) appearing in the Explanatory Memorandum (Para 5.88):

Example:

An Australian copyright owner sells to a non-resident the right to distribute a product in a country other than Australia. The supply of that distribution right is GST-free.

Our view is also supported by Example 3 in GSTR 2003/8 which involves the supply of public liability insurance by an Australian insurer to an Australian insured where the risk insured is any loss resulting from the negligence of the customer's employees while they are working overseas. GSTR 2003/8 states (Para 121) that there is a supply that is made in relation to rights that are for use outside Australia because the risk covered by the insurance policy is outside Australia.

In Example 3 there is a supply of a right (that is, a right to be indemnified if the insured event occurs) and that right is intended for use outside Australia (because the insured event or risk in respect of which the insured has a right to be indemnified must occur outside Australia). Where an Australian retailer sells a Product to a consumer in Australia we consider that there is a supply of a right (that is, to establish a credit in a new or existing online account with the Product Provider) and that consumer in Australia.

If the submission that a supply which is not connected with Australia is a right for use outside Australia was correct then the converse would also be correct, that is, the supply of insurance in respect of an offshore risk by an Australian insurer to an Australian insured in Example 3 in GSTR 2003/8 (which would be connected with Australia) would be taxable, despite the risk covered being outside Australia.

Given our conclusion that the supply of a Product by a retailer to a consumer does not fall within Item 4(a) in subsection 38-190(1) of the GST Act, it is unnecessary to consider subsections 38-190(2) and (2A).