Edited version of private ruling

Authorisation Number: 1011810545340

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Ruling

Subject: Taxable value for non-arm's length transactions

Issue:

This ruling considers the equivalent arm's length price as taxable value for non-arm's length transactions for the purposes of A New Tax System (Wine Equalisation Tax) 1999.

Question 1

Is the cost of manufacture plus X% an acceptable arm's length price for the purposes of section 27-10 of the A New Tax System (Wine Equalisation Tax) Act 1999 (WET Act) for the retail sales of assessable wine by the wine producer to the public and employees of a related entity?

Answer

Yes.

Question 2

Is the cost of manufacture plus X% an acceptable arm's length price for the purposes of section 27-10 of the WET Act for an application to own use (AOU) of wine by the wine producer?

Answer

Yes.

Question 3

Is the cost of manufacture plus X% an acceptable arm's length price for the purposes of section 27-10 of the WET Act for an AOU of wine by the wine wholesaler?

Answer

Yes.

Relevant facts and circumstances

The Group includes a wine producer and a wine wholesaler.

Both will be grouped for goods and services tax (GST) purposes.

The Group's wine producer will manufacture assessable wine and the wine wholesaler will distribute the wine to the Australian market.

The wine producer will sell the assessable wine to the wine wholesaler under quote. The producer will retain some wine for cellar door sales, sales to the employees of a related entity and AOU for tastings, samples and for internal training purposes.

The wine wholesaler will sell the wine to other wholesalers under quote with no wine tax charged and to retailers where wine tax will be charged. It will also apply wine to its own use through mainly promotional give-aways and samples.

The wine wholesaler will also import wine under quote to sell to other wholesalers and retailers, as well as for an AOU.

Previously, the Tax Office issued a private ruling to the Group's predecessor. The ruling covered retail sales and AOU of assessable wine by that wine producer and AOU of assessable wine by that wine wholesaler. The ruling confirmed for the purposes of section 27-10 of the WET Act, a value of "manufactured cost plus X%" was an acceptable arms-length price for wholesale sales between the producer and the wholesaler.

The following factors used in the previous private ruling have not changed:

· The wine producer's cost of manufacture includes all costs incurred by or attributable to it in getting the wine to the point at which it is received at the designated warehouse to be operated by the wine wholesaler

· The wine wholesaler maintains the standard cost and will separately record additional costs associated with wholesaling functions

· The wine producer owns or has access to the intellectual property, and

· To the extent the wine producer is required to pay for access to the intellectual property, the costs are included in its cost of manufacture.

Assumptions

The Group wishes to maintain the current taxable value procedures because:

· there is no difference to any of the critical factors upon which the previous private ruling was based

· the Group's wine operations replicate the wine operations of its predecessor, and

· continuing to act within the current taxable value ruling provides certainty and administrative convenience for the Group.

Relevant legislative provisions

A New Tax System (Wine Equalisation Tax) Act 1999 Section 5-5

A New Tax System (Wine Equalisation Tax) Act 1999 Section 9-25

A New Tax System (Wine Equalisation Tax) Act 1999 Section 9-40

A New Tax System (Wine Equalisation Tax) Act 1999 Section 9-45

A New Tax System (Wine Equalisation Tax) Act 1999 Section 27-10

A New Tax System (Wine Equalisation Tax) Act 1999 Section 33-1

Reasons for decision

These reasons for decision accompany the Notice of private ruling for the Group.

While these reasons are not part of the private ruling, we provide them to help you to understand how we reached our decision.

Question 1

Retail sales of assessable wine by the wine producer to the public and employees of the related entity

The wine producer is the manufacturer of assessable wine. It sells nearly all of its production to the wine wholesaler other than some wines it retains to make cellar door sales to the public, sales to employees of a related entity and AOUs. The treatment of AOUs is discussed at 'question 2'.

These sales are retail sales as the purchaser does not buy for the purpose of resale. The sales are 'AD2a' assessable dealings as the wine producer manufactured the wine in the course of its business. The taxable value for the sale is the notional wholesale selling price as defined in Subdivision 9-B of the WET Act.

The two methods for working out the notional wholesale selling price for a retail sale of assessable wine are the half retail price method and the average wholesale price method.

Subsection 9-25(3) of the WET Act provides the average wholesale price method can be chosen by an entity, if during the tax period in respect of which the liability to pay wine tax arises, at least 10% by value of all its sales of wine that:

· is of the same vintage as the assessable wine to which the taxable dealing relates, and

· is produced from the same fruit varieties, or the same blend of fruit varieties, as the assessable wine to which the dealing relates,

are wholesale sales.

The majority sales of assessable wine by the wine producer are wholesale sales of wine to the wine wholesaler under quote. The producer has chosen to use the average wholesale price method as the notional wholesale selling price for its retail sales of the wine to the public and the employees of a related entity.

Section 9-40 of the WET Act provides the method for working out the average wholesale price. It uses the weighted average of the prices (excluding any wine tax and GST) for wholesale sales (including exports) of assessable wine that fall into the category as mentioned in subsection 9-25(3) of the WET Act (for example, the same vintage and produced from the same fruit varieties) for the tax period.

The wine producer and the wine wholesaler are part of the Group and will be grouped for GST. Both companies, having satisfied the membership requirements of a GST group, would also be associates for the purposes of section 27-10 of the WET Act.

Section 27-10 of the WET Act operates automatically without the need for the Commissioner to exercise any discretion. It provides:

(1) This section applies to you if:

(a) you (or your associate) has been a party to a non-arm's length transaction and

(b) if the transaction had instead been an arm's length transaction, it would have been the case (or could reasonably be expected to have been the case) that:

(i) your liability to wine tax on the non-arm's length transaction, or any other transaction, would have been increased; or

(ii) your entitlement to a wine tax credit in connection with the non-arm's length transaction, or any other transaction, would have been reduced.

The liability or wine tax credit is taken always to have been the amount that it would have been (or could reasonably be expected to have been) if it had been based on an arm's length transaction instead of on the non-arm's length transaction.

Any dealing of wine between the wine producer and the wine wholesaler is considered to be a non-arm's length transaction.

The objective of the provision is to ensure the wine tax liability on a non-arms length transaction is at least equal to the amount it would have been if the transaction had been an arm's length equivalent transaction. Sales to related companies or other related entities are non-arms length transactions.

Wholesale sales of assessable wine by the wine producer and the wine wholesaler are made under quote and not taxable; therefore no WET is payable. To calculate the weighted average of the wholesale prices between both entities for determining the notional wholesale selling price for the retail sales of wine the producer makes, it needs to determine the wholesale price for the sale of wine between it and the wholesaler as if the sale was made under an arm's length transaction.

The Group has proposed a methodology to calculate the equivalent arm's length price for the wholesale sales between the wine producer and the wine wholesaler. The proposed wholesale price is equal to the cost of manufacture plus X%.

The following factors referred to in the original ruling for the Group's predecessor will not alter after the change:

· cost of manufacture includes all costs incurred by or attributable to the wine producer in getting the wine to the point at which it is received at a finished goods warehouse operated by the wine wholesaler

· the wine wholesaler will maintain the standard cost and will separately record additional costs associated with wholesaling functions, such as, warehousing and distribution, advertising and promotion and overheads

· the wine producer also owns or has access to the intellectual property associated with the wine and, as a result, it is liable to pay only very minimal amounts of licence fees outside of the Group, and

· these licence fees, where payable, are included in the standard cost and recovered in the wholesale price of the wine.

The mark up of X% is derived from calculating the gross profit (margin) achieved by the Group on its domestic wholesale sales of wine, deducting the expenses incurred by the wine producer and then dividing the remaining margin equally in percentage terms between the producer and the wine wholesaler. This is in accordance with the costs which would be incurred by each entity if they were dealing with each other at arm's length.

Based on industry benchmarking, we have accepted the cost of manufacture plus X% is a reasonable wholesale price for an equivalent arm's length transaction, provided that the facts and circumstances described by the Group do not change significantly. An alteration to the functions, assets or risks of the wine producer or the wine wholesaler may mean the taxable value of the dealings will need to be reviewed. Any changes to the expenses included in the standard cost should also be notified to the Tax Office.

Accordingly, the weighted average of the prices (excluding WET and GST) for all wholesale sales of assessable wine between the wine producer and the wine wholesaler will be the producer's cost of manufacture plus X%. Thus, pursuant to section 9-40 of the WET Act the notional wholesale selling price for retail sales of assessable wine by the producer to the public and the employees of the related entity is the producer's cost of manufacture plus X%.

Question 2

AOU of assessable wine by the wine producer

As previously mentioned, the wine producer manufactures the assessable wine. It applies some wine to uses such as tastings, samples and internal training purposes. Such applications of the wine conform to the definition of AOU in section 33-1 of the WET Act. The AOU is done by the producer in the course of its business. The producer therefore will be making an 'AD3b' assessable dealing with the wine.

The taxable value of an 'AD3b' dealing in assessable wine is its notional wholesale selling price, as defined by Subdivision 9-B of the WET Act.

AOU connected with retail sales of assessable wine

The two methods of working out the notional wholesale selling price for a taxable dealing that is an AOU connected with retail sales of assessable wine include the average wholesale price method.

The majority of sales by the wine producer are wholesale sales to the wine wholesaler. According to subsection 9-25(3) of the WET Act, the producer may choose to use the average wholesale price method. The producer chooses to use that method for working out its notional wholesale selling price for its AOU connected with a retail sale of assessable wine.

Under section 9-40 of the WET Act the average wholesale price method uses the weighted average of the prices (excluding wine tax and GST) for wholesale sales (including exports) of assessable wine referred to in subsection 9-25(3) of the WET Act (for example, the same vintage and produced from the same fruit varieties) for the tax period. This would be the weighted average of the prices (excluding wine tax and GST) for all wholesale sales of wine between the wine producer and the wine wholesaler.

AOU not connected with retail sales of wine

Section 9-45 of the WET Act provides the notional wholesale selling price for an AOU not connected with retail sales of wine is the price (excluding wine tax and GST) for which the wine could reasonably have been expected to be sold wholesale under an arm's length transaction.

Thus, the WET liability for an AOU connected with a retail sale of assessable wine and an AOU not connected with a retail sale of assessable wine are based on the prices of the wholesale sales of the wine by the wine producer to the wine wholesaler at an equivalent arm's length transaction.

Sales to related companies are non-arms length transactions. For the reason given above, the wine producer and the wine wholesaler are associates and therefore are related. Any dealings between the entities are considered to be non-arms length transactions and section 27-10 of the WET Act will apply.

Therefore, the wine producer needs to determine the wholesale price for the sale of wine between it and the wine wholesaler as if that sale was made under an arm's length transaction.

In answer to question 1 of this ruling, we have accepted the cost of manufacture plus X% is a reasonable wholesale price for an equivalent arm's length transaction between the wine producer and the wine wholesaler, provided the facts and circumstances described by the Group do not change significantly.

Consequently, the notional wholesale selling price for an AOU of wine by the wine producer that is connected with retail sales of assessable wine or an AOU not connected with retail sales of assessable wine will be the producer's cost of manufacture plus X%.

Question 3

AOU of wine by the wine wholesaler

The wine wholesaler makes wholesale sales of imported and locally manufactured wines to the liquor trade in Australia. It acquires most of the wines that the wine producer manufactures. It acquires that wine, as well as wines it imports, under quote. It applies some of this wine to own use, mainly as promotional give-aways and samples.

Accordingly, the wine wholesaler makes an 'AD3c' assessable dealing as it applies the wine to its own use, is not the manufacturer of the wine and obtained the wine under quote. The taxable value of the dealing is the purchase price (excluding GST) of the wine.

The wine wholesaler and the wine producer are related entities. Sales of wine between them are considered to be non-arm's length transactions and therefore section 27-10 of the WET Act will apply. The wholesaler needs to determine the purchase price of wine that it purchases from the producer under quote as if the purchase was an arm's length transaction.

Questions 1 and 2 of this ruling have accepted the cost of manufacture plus X% is a reasonable wholesale price for an equivalent arm's length transaction between the wine producer and the wine wholesaler, provided the facts and circumstances described by the Group do not significantly change.

Thus, the purchase price of the wine by the wine wholesaler from the wine producer is the producer's cost of manufacture plus X%. The taxable value for an AOU of the wine by the wholesaler is the producer's cost of manufacture plus X%. This taxable value only applies to an AOU of wine by the wholesaler where it purchases the wine under quote from the producer.