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Ruling

Subject: Mutuality

Question 1

Are all receipts received by the applicant from its member's, mutual income, and therefore not liable to tax under:

· section 6-5 of the Income Tax Assessment Act 1997 (ITAA 1997)

· section 6-15 of the ITAA 1997, or

· section 6-20 of the ITAA 1997.

Answer

Yes.

This ruling applies for the following periods:

Year ending 31 December 2009

Year ending 31 December 2010

Year ending 31 December 2011

Year ending 31 December 2012

The scheme commences on:
1 January 2009

Relevant facts and circumstances

The applicant is principally involved in the provision of accommodation to its members in Australia. Income consists of membership fees and cost of accommodation.

Relevant legislative provisions

Income Tax Assessment Act 1997.

Reasons for decision
Are all receipts received by the applicant from its member's, mutual income, and therefore not liable to tax under:

· section 6-5 of the Income Tax Assessment Act 1997 (ITAA 1997)

· section 6-15 of the ITAA 1997, or

· section 6-20 of the ITAA 1997.

Common purpose, ownership and control

The principle of mutuality is summarised in Revesby Credit Union Co-operative Ltd v. Federal Commissioner of Taxation (1965) 112 CLR 564 at 574 where McTieman J said:

The principle of mutuality seems to me to be settled. Where a number of people contribute to a fund created and controlled by them for a common purpose any surplus is not income but is to be regarded as a mere repayment of the contributor's own money... Incorporation of the fund is not relevant... What is required is that the fund must have been created for the common purpose and owned or controlled by the contributors.

The common propose of the applicant and its members relate to the provision of travel accommodation. The members control the applicant through the ability to exercise their right to votes.

The existence of trading activities

An important issue to be considered in determining mutuality is whether the particular body can be said to have carried on trading operations. Generally, a distinction is drawn between activities between the association and its members (mutual activities) and activities with outsiders for payment (trading activities).

Thus, in Fletcher v Income Tax Commr (Jamaica) (1971) 3 All ER 1185, Lord Wilberforce of the Privy Council, in discussing the mutuality principle, said (at p 1189):

"In some cases the essence of the matter is that the group of persons in question is not in any sense trading, so the starting point for an assessment for income tax in respect of trading profits does not exist. In other cases, there may be in some sense a trading activity, but the objective, or the outcome, is not profits, it is merely to cover expenditure and to return any surplus, directly or indirectly, sooner or later, to the members of the group. These two criteria often, perhaps generally, overlap;...So the issue is better framed as one question, rather than two: is the activity, on the one hand, a trade, or an adventure in the nature of trade, producing a profit, or is it, on the other, a mutual arrangement which, at most, gives rise to a surplus?"

What is, and always has been, of significance is not the fact of membership or non-membership but the nature of the transactions: if these were trading transactions, the addition of membership makes no difference (see Inland Revenue Comrs v Ayrshire Employers Mutual Insurance Association Ltd ([1946] 1 All ER 637 at 640, 27 Tax Cas 331 at 347)-the converse case-per Lord Macmillan).

The applicant makes accommodation available to those members who wish to use it. It does not offer accommodation to the public generally. The applicant has stated that it does not seek to make a profit but merely to make sufficient funds necessary for it to pursue its purpose. The type of accommodation provided, usually shared accommodation, and the lower costs charged, would be indicative of the applicant not having a profit motive and it not carrying on operations in the nature of trade.

Participation in any surplus.

In the House of Lords, the essence of the principle of "mutuality" was explained by Lord Macmillan who said (at p 448):

"The cardinal requirement is that all the contributors to the common fund must be entitled to participate in the surplus and that all the participators in the surplus must be contributors to the common fund; in other words, there must be complete identity between the contributors and the participators. If this requirement is satisfied, the particular form which the association takes is immaterial."

The significance of the wording of a winding up clause was discussed by the Full Federal Court in by Coleambally Irrigation Mutual Co-Operative Ltd v FC of T 2004 ATC 4835. The taxpayer (CIMCL) was a non-trading co-operative established to construct, own and maintain new irrigation infrastructure assets in the Coleambally district. A separate co-operative (CICL) was responsible for water supply operations, using the infrastructure owned by CIMCL. CIMCL was financed by a sinking fund levy, being contributions from irrigator members.

At first instance, Hill J (2004 ATC 4126) said that the doctrine of mutuality did not apply because (at para 41):

"The fact that those surplus funds are forbidden to be distributed to members but must be distributed to others, has the consequence, it seems to me, that it is impossible to say that CIMCL is an entity to which contributions are made by its members and where those contributions remain the property of the members in the sense that expression is used in the cases as including a class of members. This is but another way of saying that it is impossible to say of CIMCL that there is the requisite 'complete identity' between the contributors and the participants (including identity as a class, rather than individual identity) where Article 75 would permit, indeed, require on a winding up that surplus funds be distributed otherwise than to members."

On appeal by the taxpayer, the Full Federal Court (Beaumont, Merkel and Hely JJ) agreed with Hill J that the mutuality principle was dependent on the existence of an identity between the classes of contributors and the participants. The court also agreed that CIMCL's constitution was such that, once contributions were made, the moneys could no longer be said to belong to members. The wording of Art 75 had the effect that the sinking fund could not satisfy the description of funds which can only be expended in pursuit of a common purpose or returned to contributors. It followed that the sinking fund levy contributions formed part of the CIMCL's assessable income in the year in which the contributions were received. The High Court refused the taxpayer special leave to appeal the decision of the Full Federal Court.

Clause 10 of the applicants constitution states that any surplus on winding-up must only be distributed to other entities that have similar object. Members therefore have no entitlement to a share in any such surplus. The result of this is that, as was the situation in the Coleambally case, there is perceived to be a lack of identity between the contributors and the participators in relation to the applicant, and as a result the applicant does not fully satisfy the common law test of mutuality.

Legislative extension of the mutuality principle

Australian Taxation Office (ATO) practice prior to the Coleambally case, and represented by the 1992 Guidelines for Registered and Licensed Clubs, did not accord with the Coleambally decision. In those guidelines, the ATO stated the following:

"The principle of mutuality will apply where the Club has the following general attributes:

a. the rules of the Club prohibit any distribution of surplus funds to the members

b. upon dissolution of the Club, the rules of the Club provide that surplus funds must be donated to another Club with similar interests and activities

c. the operations of the Club fall within the ambit of State/Federal laws governing Clubs, and

d. the Club is a member of a recognised Club Association."

Following the Coleambally decision, the ATO introduced s59-35 ITAA 1997. This section provides that an amount of ordinary income of an entity is not assessable income and not exempt income if:

(a) the amount would be a mutual receipt, but for the entity's constituent document preventing the entity from making any distribution to its members, and

(b) apart from this section, the amount would be assessable income only because it is ordinary income.

Section 59-35 applies in relation to income years commencing on or after 1 July 2000.

The application of S59-35 ITAA 1997 means that, in spite of the prohibition on the return of surplus funds to members on the occasion of the winding up of the entity, the income received by the applicant from its members in the form of membership fees, and payments received for the provision of accommodation at its hostels, is now accepted as mutual income and therefore not assessable income and not exempt income, and therefore is not subject to tax.