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Ruling

Subject: Creditable Purpose & Apportionment

Questions

1. Will the Commissioner confirm that the proposed apportionment methodology that Entity A intends to use to determine the extent to which it is entitled to input tax credits in relation to the transaction costs it acquired from third parties is fair and reasonable.

2. Will the Commissioner confirm that Entity A is entitled to claim reduced input tax credits in relation to acquisitions from Entity B and from Entity C.

3. Will the Commissioner confirm that Entity A is entitled to claim input tax credits for the amounts indicated in Appendix 1.

Answers

1. No. The Commissioner is of the view that the apportionment methodology that Entity A proposes to use to determine the extent to which it is entitled to input tax credits in relation to the transaction costs it acquired from third parties is not fair and reasonable. However, the Commissioner is of the view that the apportionment methodology would be fair and reasonable (subject to the conclusion in the reasons for decision below regarding direct allocation) if the value of the preference share redemption is added to the denominator of the proposed formula.

2. Yes. The Commissioner confirms that Entity A is entitled to claim reduced input tax credits in relation to acquisitions from Entity B and from Entity C.

3. No. The Commissioner is of the view that Entity A is not entitled to claim the input tax credits for the amounts indicated in Appendix 1.

Relevant facts and circumstances

Entity A is a GST registered Australian resident entity that is generally engaged in making supplies that would be taxable for GST purposes.

Entity A was at all relevant times the representative member of a GST group.

Entity A approached Entity B to provide assistance and financial advice in connection with the then proposed divestment by Entity A's shareholders of their interests in Entity A.

Entity D acquired 100% of Entity A ("the Share Sale Transaction").

A Vendor Due Diligence report was prepared for the purpose of providing information about Entity A to prospective purchasers.

Entity D was identified as a prospective purchaser and arrangements for the final transaction structure were negotiated.

Entity A did not instigate the Share Sale Transaction. The shareholders chose to divest themselves of their interests in the shares. This had a number of legal consequences for Entity A namely, to:

· Act in accordance with the resolution of shareholders;

· Act in the best interest of the company and shareholders, including assistance in the due diligence process;

· Assist the shareholders in considering Entity D offer including the provision of recommendations by directors as to whether or not to accept ENTITY Ds offer;

· Redeem the preference shares in accordance with its Constitution; and

· Issue shares to fund the redemption of the preference shares.

The consideration paid to the Vendors of the shares in Entity A consisted partly of cash and partly of shares issued by Entity D to the Vendors. In this respect, Vendors had the option of receiving cash or receiving shares in Entity D.

Immediately prior to completion, the Vendors' interests in Entity A consisted solely of:

· A class ordinary shares; and

· redeemable preference shares.

Under the terms of Entity A's Constitution it was not possible for the redeemable preference shares to be sold by the Vendors to ENTITY D. In this respect, the Constitution provides that if ordinary shares in Entity A are sold, it must either redeem or buy back each preference share on issue at the same time as the shares are sold. Therefore, immediately following Completion, ENTITY D was required under the terms of the Share Sale Transaction to subscribe for new A Class Ordinary Shares in Entity A for a value equal to the aggregate redemption price of the Redeemable Preference Shares.

Due to the Vendors desire to dispose of their shares in Entity A, the company was required to redeem the preference shares. However, because it did not have sufficient profits to fund the redemption it had no option but to issue a new A Class of Ordinary Shares to ENTITY D.

ENTITY D acquired these for an amount that matched the sum payable by Entity A to the Vendors for redemption of the preference shares.

The result of the overall Share Sale Transaction was that the Vendors no longer held any interest in Entity A and ENTITY D held all of the shares in Entity A.

Entity A incurred a variety of transaction costs associated with the Share Sale Transaction described above, including fees from:

· Entity B which was appointed by Entity A to act as its financial advisor and assist with the trade sale of Entity A.

· Entity C which was appointed by Entity A to represent the interests of the Vendors in the Share Sale Transaction.

The transaction costs incurred by Entity A in relation to the Share Sale Transaction caused it to exceed the Financial Acquisitions Threshold.

We have merely cited a spreadsheet incorporating the transaction costs associated with the Share Sale Transaction.

At this stage, Entity A has not claimed any input tax credits or reduced input tax credits in connection with the transaction costs that it has incurred.

Proposed Apportionment Methodology Including Submissions

Revenue Based Formula

The proposed revenue based formula is fashioned on the formula for determining the percentage of credit allowed as discussed by the Commissioner in paragraph 109 of Goods and Services Tax Ruling GSTR 2006/3: Goods and Services Tax: determining the extent of creditable purpose for providers of financial supplies (GSTR 2006/3), namely:

Revenue (other than revenue from input taxed supplies X 100

Total Revenue (including revenue relating to input taxed supplies)

Entity A's apportionment methodology is based on the Revenue derived by the Vendors from the Share Sale Transaction rather than its own revenue as explained below.

The cost to the purchaser of acquiring its 100% interest in Entity A was x. The Vendors received the consideration for the disposal of their respective interests in two parts:

· Y being payment of a cash amount worked out using the formula contained in the Share Sale Transaction for the Vendors' sale of the A class shares; and

· Z being payment of the aggregate redemption price for redemption of the Redeemable Preference Shares held by the Vendors.

As discussed above, under the terms of the Share Sale Transaction, the purchaser, ENTITY D was required to subscribe for new A Class Ordinary Shares in Entity A immediately after completion for a value equal to the aggregate redemption price of the Redeemable Preference Shares. The cash received by Entity A for the issue of these shares was then used to redeem the preference shares by paying the aggregate redemption price to the holders of the Redeemable Preference Shares. As a result of this process there is a direct nexus between the financial supply made by Entity A (being the issue of shares to ENTITY D) and so much of the revenue received by the Vendors as related to redemption of the Redeemable Preference Shares. It therefore submitted that the revenue received by the Vendors that relates to the redemption of the Redeemable Preference Shares (which equals the consideration received by Entity A for the issue of new shares to ENTITY D) should represent the revenue from input taxed supplies that should be excluded from the revenue figure in the numerator.

By applying the revenue figures relevant to the Share Sale Transaction to the Commissioner's revenue based formula, Entity A has calculated that its extent of creditable purpose is 45%, as demonstrated below:

Percentage credit allowed = Y/X x 100

The Transaction Costs

The Entity B Cost

Entity A approached Entity B to assist in the proposed divestment by the shareholders of Entity A of their interests in Entity A. The scope of services was to provide financial advice and assistance in relation to the sale of Entity A including such things as:

· Reviewing financial information to assist in the identification of appropriate adjustments to financial information and analysis of financial matters relevant to the sale;

· Assisting in preparation of initial valuation of Entity A;

· Considering different exit options available to shareholders;

· Providing recommendations in relation to the structure under which assets or entities should be sold;

· Developing a sale strategy plan and timetable;

· Liaising with existing senior debt providers in relation to the potential funding of growth initiatives and assisting to obtain relevant consents and approvals;

· Identifying potential purchasers;

· Coordinating and assisting Entity A in the preparation and provision to interested parties of a teaser, information memorandum and other information as required;

· Coordinating and assisting Entity A in preparation of management presentations;

· Dealing with initial expressions of interest from prospective purchasers;

· Advice in relation to exclusivity arrangements;

· Analysis of indicative offers received and the selection of shortlisted parties;

· Coordination of interested parties' investigations and due diligence;

· Reviewing draft sale documentation, advising on selection of preferred bidders, and participation in negotiations leading to an executed sale agreement; and

· Coordinating and assisting Entity A in the overall management of the sale and sale process.

The consideration for Entity B's supply included out of pocket expenses incurred by Entity B.

The Entity C Costs

To facilitate the transaction in the most expedient manner possible given the number of Vendors, we understand that Entity C was appointed to represent the interests of all of the shareholders in the transaction and in this respect incurred outgoings associated with negotiating pricing, the terms of the share sale transaction, obtaining advice concerning the consequences of different aspects of the transaction, and otherwise facilitating the transaction on behalf the various Vendors. Entity C's role involved the planning of the form of the final transaction and the settling of details with the various Vendors. We also understand that the shareholders provided Entity C with a power of attorney to execute documents on their behalf. Entity C would also be paid an exit fee and be reimbursed for disbursements incurred in relation to this role by Entity A.

Relevant legislative provisions

A New Tax System (Goods and Services Tax) Act 1999 Section 11-5

A New Tax System (Goods and Services Tax) Act 1999 Section 11-15

A New Tax System (Goods and Services Tax) Act 1999 Section 40-5

A New Tax System (Goods and Services Tax) Act 1999 Section70-5

A New Tax System (Goods and Services Tax) Act 1999 195-1

A New Tax System (Goods and Services Tax) Regulations 1999 sub regulation 40-5.09(1)

A New Tax System (Goods and Services Tax) Regulations 1999 sub regulation 40-5.09(2)

Reasons for decision

The issue to address is to what extent Entity A is entitled to input tax credits (or reduced input tax credits) for the Transaction Costs it acquired from the various entities.

Entity A's Submission

You submit that a review of the individual Transaction Costs indicates that it is not possible to attribute any particular cost to a specific aspect of the Share Sale Transaction. Instead, the relevant transaction costs serve Entity A's objectives indifferently. That is, though the Transaction Costs were incurred in part in connection with the financial supplies made by Entity A, the company's purpose in making the relevant acquisitions was much broader as demonstrated above. Therefore, you submit that, in the circumstances it is appropriate to make an assessment on a fair and reasonable basis of the extent to which the acquisitions relate to the financial supplies made by Entity A and of the extent to which the acquisitions serve the purposes of Entity A's enterprise generally. To that end a revenue based indirect estimation method is used as explained below:

Revenue (other than revenue from input taxed supplies

Total Revenue (including revenue relating to input taxed supplies) X 100

You further state that, Entity A's apportionment methodology is based on the Revenue derived by the Vendors from the Share Sale Transaction rather than its own revenue for the following reasons:

As discussed above, under the terms of the Share Sale Transaction, the purchaser, ENTITY D was required to subscribe for new A Class Ordinary Shares in Entity A immediately after completion for a value equal to the aggregate redemption price of the Redeemable Preference Shares. The cash received by Entity A for the issue of these shares was then used to redeem the preference shares by paying the aggregate redemption price to the holders of the Redeemable Preference Shares. As a result of this process there is a direct nexus between the financial supply made by Entity A and so much of the revenue received by the Vendors as related to redemption of the Redeemable Preference Shares. Therefore it is submitted that the revenue received by the Vendors that relates to the redemption of the Redeemable Preference Shares should represent the revenue from input taxed supplies that should be excluded from the revenue figure in the numerator.

Analysis & Rebuttal

For reasons explained below we disagree with the above methodology and conclude that the methodology used to claim input tax credits is not fair and reasonable.

Division 11 of the GST Act deals with the entitlement to input tax credits. Section 11-20 of the GST Act provides for an entitlement to an input tax credit for any 'creditable acquisition' made by an entity.

Section 11-5 of the GST Act states:

You make a creditable acquisition if:

(a) you acquire anything solely or partly for a *creditable purpose; and

(b) the supply of the thing to you is a *taxable supply; and

(c) you provide, or liable to provide, *consideration for the supply; and

(d) you are *registered or *required to be registered.

Terms denoted by asterisks are defined in section 195-1 of the GST Act.

You note that Entity A is registered for GST and that it provided or was liable to provide the relevant consideration for the respective services. Furthermore, these services were taxable to Entity A and this is also evidenced by the respective invoices raised. Accordingly, paragraphs (b), (c) and (d) of section 11-5 of the GST Act are satisfied for all the relevant services it acquired. Our discussion therefore, will primarily focus on paragraph (a) for the respective services in order to ascertain whether or not these services were acquired for a creditable or non creditable purpose.

The meaning of creditable purpose is defined in section 11-15 of the GST Act. Relevant to this issue are subsections 11-15(1) and (2) of the GST Act which states:

(1) You acquire a thing for a creditable purpose to the extent that you acquire it in *carrying on your *enterprise.

(2) However, you do not acquire a thing for a creditable purpose to the extent that:

(a) the acquisition of the thing related to making *input taxed supplies; or

(b) the thing is acquired for a private or domestic purpose.

(3) …………

(4) An acquisition is not treated, for the purposes of paragraph (2)(a), as relating to making supplies that would be *input taxed if:

a) the only reason it would (apart from this subsection) be so treated is because it relates to making *financial supplies; and

b) you do not *exceed the financial acquisition threshold.

(5) An acquisition is not treated, for the purposes of paragraph (2)(a), as relating to making supplies that would be *input taxed to the extent that:

(a) the acquisition relates to making a *financial supply consisting of a borrowing; and

(b) the borrowing relates to you making supplies that are not input taxed.

The Commissioner in Goods and Services Tax Ruling GSTR 2008/1 Goods and services tax: when do you acquire anything or import goods solely or partly for a creditable purpose? (GSTR 2008/1) at paragraph 44 states:

44. In the Commissioner's view, you do not acquire a thing for a creditable purpose if the acquisition relates directly or indirectly to making supplies that would be input taxed.

At paragraph 49 of GSTR 2008/1 the Commissioner states that, an entity is often required to determine the extent to which an acquisition is for a creditable purpose based on the entity's intended use of the acquisition.

And furthermore, at paragraph119:

119. For the purposes of paragraph 11-15(2)(a) a sufficient connection is established if, on an objective assessment of the surrounding facts and circumstances, the acquisition is used, or intended to be used, solely or to some extent for the making of supplies that would be input taxed.

In the context of assessing the creditable purpose of the relevant acquisitions, it needs to be determined if Entity A acquired them in carrying on its enterprise or if there is any nexus to any input taxed supplies Entity A has made or will make.

You submit that the relevant services were acquired in carrying on Entity A's enterprise. You further submit that these acquisitions fall within the scenarios set out in paragraphs 71 to 74 of GSTR 2008/1, being a company that is subject to a takeover offer. In particular, the services acquired each secured a real benefit or advantage in continuing Entity A's enterprise and/or to satisfy a statutory or fiduciary requirement imposed on the enterprise by virtue of the Corporations Act and/or for the purpose of the supplies it was required to make under the Share Sale Transaction.

We will now look at each type of acquisition more closely and determine whether or not it has a creditable purpose based on the principles in GSTR 2008/1.

The Entity B Costs

Entity A retained Entity B to perform a number of functions as listed in the facts above to oversee the various aspects necessary to ensure that its shareholders' interest were smoothly transferred to ENTITY D.

In relation to the repayment of debt it is submitted that Entity A's borrowings were predominantly for the purpose of funding working capital and to make capital acquisitions including acquisitions of other entities within the Entity A economic group. Therefore, you submit that the borrowing fell within the exception of subsection 11-15(5) of the GST Act. Accordingly, the repayment of this debt is for a creditable purpose. We agree with this submission to the extent that this debt was not used to make any input taxed supply. To the extent it does relate to making input taxed supplies the Entity B costs will have to be apportioned.

Redeemable Preference Shares

In relation to the redemption of preference shares, Entity A submits that the redemption is not a financial supply.

The redemption of the preference shares could only be a financial supply if Entity A is a financial supply provider and therefore either:

· disposed of an interest it held in the preference shares; or

· if it acquired an interest in the preference shares.

Reference was made to the Commissioner's comments in paragraph 62 of Goods and Services Tax Ruling GSTR 2003/9 :Financial acquisitions threshold (GSTR 2003/9) where the Commissioner states that the issue of redeemable preference shares is an equity issue and does not involve a debtor/creditor relationship and hence is not a borrowing in respect of determining whether the current and future financial acquisitions thresholds are exceeded.

Given that redeemable preference shares are securities, Entity A contends that, by redeeming the shares, it did not dispose of any interest it held in those shares as the only entities that had any interest in those shares were the shareholders.

Regarding the acquisition of the interest in the preference shares, Entity A contends that the shareholders did not 'dispose' of their interest in the preference shares as they did not sell or (addressing the definition of 'disposal of an interest' in the GST regulations) transfer, assign, cancel, redeem (i.e. repay) or surrender any rights they had in the preference shares. The preference shares, the contention goes, ceased to exist only due to the action of Entity A paying the redemption amount to the shareholders. It was Entity A that redeemed the preference shares and not the shareholders.

It was then submitted that to the extent to which the preference shareholders did not dispose of their interests in the shares, Entity A could not make an acquisition of the interest in the preference shares even under the extended concept of acquisition as there was no acceptance or receipt of the interest. At all times the interest was held by the shareholders only.

Notwithstanding the advice was that the shareholders of Entity A have chosen for the preferences shares to be redeemed, Entity A stated that the position may have been different if the shareholders opted for the shares to be bought back (ie by way of a share buy back).

Entity As' understanding of the buy back process is for the shareholders to 'transfer' the shares to the company and for the company to be nominated as the holder of those interests on the share register, prior to the cancellation of the shares. However, Entity A contends that this position is difficult to sustain in light of the Supreme Court of Victoria decision in Coles Myer Ltd v Commissioner of State Revenue [1998] VSC 288 (Coles Myer).

In Coles Myer, the Court found that there had not been a transfer of the relevant securities for stamp duty purposes as the transferee was not capable of exercising the same rights as were capable of being exercised by the transferor before the transfer was executed. The transferee received only a paper transfer which enables it to write off the duties and obligations which it had formerly owed to the transferor. It received nothing over which it was capable of exercising its rights as a shareholder and it could not transfer any rights in the shares to any other person to enable them to be exercised thereafter. Entity A contends that the same issues would arise for GST and given that the interests obtained by it would not be the same interests that the former shareholders held, it would not be making a financial supply when it acquires its own shares under a buy back scenario.

Nature of a share

A share in a company consists of the bundle of rights to which the shareholder is entitled by reason of the provisions of the company's constitution and any relevant statute applicable to the share. Shares include (in addition to ordinary shares) preference shares and redeemable preference shares (though in this case all the company's preference shares are redeemable preference shares). A redeemable preference share also consists of bundles of rights, though the rights are typically more limited than for an ordinary share.

The bundle of rights cannot be dealt with separately from the share itself. The nature of shares and the rights attached to them and the applicable case law are described in paragraphs 18 to 26 of TR 94/30 Income tax: capital gains tax implications of varying rights attaching to shares)

Redeemable Preference Shares & The Corporations Act

Corporations Act 2001 ('Corporations Act')

Paragraph 124(1)(a) of the Corporations Act empowers a company to issue and cancel shares in the company. Paragraph 254A(1)(b) includes within this power the power to issue preference shares (including redeemable preference shares).

Subsection 254A(3) provides that redeemable preference shares are preference shares that are issued on terms that they are liable to be redeemed. They may be redeemable either:

· at a fixed time or on the happening of a particular event; or

· at the company's option; or

· at the shareholder's option.

Subsection 254J(1) of the Corporations Act provides:

A company may redeem redeemable preference shares only on the terms on which they are on issue. On redemption, the shares are cancelled.

Section 254K of the Corporations Act provides that a company may only redeem redeemable preference shares:

(a) if the shares are fully paid-up; and

(b) out of profits or the proceeds of a new issue of shares made for the purpose of the redemption.

Section 257A of the Corporations Act is about a company's power to buy-back its own shares. Note 2 to section 257A provides:

A company may buy-back redeemable preference shares and may do so on terms other than the terms on which they could be redeemed. For the redemption of redeemable preference shares, see sections 254J-254L.

In clause 1.1 of the Constitution, 'preference shares' is defined to mean:

mandatory redeemable preference shares having the rights and entitlements set out in this constitution.

Thus, all references to preference shares in the Constitution are to redeemable preference shares.

The rights attaching to redeemable preference shares are explained in clause 2.7, subclause 2.7(f) of which is extracted in the Facts above. This clause sets out the terms on which the company must redeem or buy-back each redeemable preference share.

Clause 2.7(g) deals with the redemption notice. Sub-clause 2.7(g)(ii) is as follows:

A Redemption Notice may be issued by the Investors at any time in respect of all or some of the Preference Shares and must specify:

…

(ii) that the price of redemption or buy back must be the same for each Preference Share and the proportion to be bought back must be the same for each holder of Preference Shares;

Financial supply provisions

Paragraph 9-10(2)(f) of the A New Tax System (Goods and Services Tax) Act 1999 (GST Act) includes 'a financial supply' within the meaning of 'supply'. Section 40-5 of the GST Act provides that a financial supply is input taxed and that 'financial supply' has the meaning given by the A New Tax System (Goods and Services Tax) Regulations 1999 (GST Regulations).

Subdivision 40-A of the GST Regulations is about financial supplies. Central to the operation of the subdivision is the concept of an 'interest'.

Regulation 40-5.02 of the GST Regulations provides that an interest is anything that is recognised at law or in equity as any form of property. Examples of interests are provided under the regulation.

Goods and Services Tax Ruling GSTR 2002/2:GST treatment of financial supplies and related supplies and acquisitions (GSTR 2002/2) explains the ATO view of what is an interest. Noting the examples in the regulations, paragraph 79 states:

The term 'interest' is taken to be very broad even taking into account the use of the word property. The above examples are property or proprietary rights on a broad interpretation of the term and do not extend or contradict the generally accepted concept of 'property'. The examples indicate that the term is given its broadest application so that an interest is as wide as the legal and equitable concept of property, including rights arising under a contract.

Subregulation 40-5.09(3) lists those interests which may be the subject of financial supplies.

Subregulation 40-5.09(1) relevantly provides that the provision, acquisition or disposal of an interest mentioned in subregulation (3) is a financial supply if:

· the provision, acquisition or disposal is

o for consideration;

o in the course or furtherance of an enterprise;

o connected with Australia; and

· the supplier is:

o registered or required to be registered for GST; and

o a financial supply provider in relation to the supply of the interest.

 Thus, an acquisition of an interest is a financial supply if it satisfies the requirements of subregulation 40-5.09(1). This is referred to as an 'acquisition-supply'.(Acquisition-supplies are discussed in more detail at paragraphs 110-116 of GSTR 2002/2.)

The terms 'provision', 'acquisition' and 'disposal' are defined in the GST Regulations.

Regulation 40-5.03 provides:

Provision of an interest includes allotment, creation, grant and issue of the interest.

Regulation 40-5.04 provides:

Disposal of an interest includes assignment, cancellation, redemption, transfer and surrender of the interest.

Regulation 40-5.05 provides:

Acquisition, in relation to the provision or disposal of an interest, includes acceptance and receipt of the interest.

Subregulation 40-5.06(2) provides that, in relation to the supply of an interest, the entity that acquires that interest is also a financial supply provider of that interest.

Thus, where an entity acquires a relevant interest, for consideration, in the course or furtherance of its enterprise, the acquisition is connected with Australia and the entity is registered or required to be registered, the entity is making a financial supply.

The AXA decision (AXA Asia Pacific Holdings Limited v Commissioner of Taxation [2008] FCA 1834, especially at [83]-[97]) is authority for the view that consideration provided by an entity for the acquisition of the interest may also be treated as consideration for the acquisition-supply.

Has Entity A made an input taxed acquisition-supply of interests?

Securities are listed as an interest in item 10 in the table in subregulation 40-5.09(3) of the GST Regulations. The redeemable preference shares in this matter fall within the meaning of securities in item 10. As noted above, GSTR 2003/9 states that the issue of redeemable preference shares is an equity issue.

It is not in dispute that the holders of the redeemable preference shares, prior to their redemption, held interests in securities for purposes of item 10 and regulation 40-5.02.

Disposal by the shareholders

Entity A's submission that they did not acquire interests in the redeemable preference shares because the shareholders did not dispose of them is not accepted.

As noted above, Entity A contends that the shareholders did not 'dispose' of their interest in the preference shares as they did not sell or (addressing the definition of 'disposal of an interest' the GST regulations) transfer, assign, cancel, redeem (i.e. repay) or surrender any rights they had in the preference shares.

This view is not supported by the GST law. 'Disposal' is a very broad term in this context. It is arguable that several of the terms appearing in its meaning may apply to the process that resulted in the shareholders in this case no longer holding the redeemable preference shares. It is arguable from the facts, including the Constitution, that the preference shareholders 'surrender' their interest when they deliver the share certificates to Entity A. However, 'redemption' specifically describes the process. Whether, as submitted by Entity A, the 'redeeming' was done by Entity A or by the shareholders is immaterial. 'Redemption' refers to the process, through which the shareholders disposed of their interest in the redeemable preference shares.

Did Entity A acquire that interest?

Entity A will be the financial supply provider under regulation 40-5.06 if it acquired 'that interest', being the interest disposed of by the holders of the redeemable preference shares through the redemption process.

Regulation 40-5.04 contemplates that disposal need not involve a counter-party. This point can be illustrated by any interest that legitimately is ended by way of cancellation. That is, an interest that is cancelled clearly ceases to exist and is not acquired by another entity. However, on the other hand an interest that is assigned, transferred or surrendered, by virtue of that process, has or is acquired by a counter-party.

In our view the process of redemption of the redeemable preference shares consists of a counter-party transaction. It is therefore, not a cancellation of an interest (where there is no counter-party) as you submit. In our view the redemption process is a two stage process as outlined below.

Subsection 254J(1) of the Corporations Act provides:

A company may redeem redeemable preference shares only on the terms on which they are on issue. On redemption, the shares are cancelled.

Clause 2.7(i) of the Constitution provides that the share certificates must be cancelled on the redemption date. This provision gives effect to the Corporations Act requirement that the 'shares are cancelled'.

It is clear from these requirements that redeeming the redeemable preference shares does not itself have the effect of cancelling the shares. Cancellation is required as a separate, though closely related, process.

An amount equivalent to the proceeds of the new issue of shares was paid to the shareholders for the redemption of the redeemable preference shares. The shareholders are paid for giving up something of value, being the interest, or bundle of rights represented by the shares (and share certificates). Entity A takes receipt of the certificates (and the interest represented by them) before the shares can be cancelled.

The interest attached to the shares, represented by the share certificates, is disposed of by the shareholders. The taking of delivery of the share certificates by Entity A is, in our view, acceptance and receipt of the interest and is therefore 'acquisition'.

Entity A contends that the redeemable preference shares ceased to exist due to their action in paying the redemption amount to the shareholders. In our view, this contention is not supported by the Corporations Act or the Entity A's Constitution. Both require Entity A to cancel these shares and it is at cancellation that they cease to exist. The timing of the redemption payment by Entity A to the shareholders is, in our view, not material to the issue of whether Entity A acquires the interest. Accordingly, it is our view that, in the redemption of the redeemable preference shares by Entity A, there is an acquisition by it of an interest in the redeemable preference shares.

For completeness, we would add that following its acquisition of the interests through the redemption process, the subsequent cancellation of the redeemable preference shares by Entity A amounts to a disposal of the interests by Entity A.

The requirements of subregulation 40-5.09(1)

Having acquired the interest, Entity A is the financial supply provider, in relation to the provision and acquisition of the interest.

In line with the decision in AXA, the amount paid to the shareholders by Entity A for the redemption is consideration for the acquisition-supply of the interest.

Entity A is registered for GST and has acquired the interest in the course or furtherance of its enterprise. The acquisition is connected with Australia.

It follows that the acquisition-supply by Entity A satisfies the requirements of subregulation 40-5.09(1) and is therefore a financial supply for purposes of section 40-5 of the GST Act.

As a financial supply is input taxed, paragraph 11-15(2)(a) provides that Entity A has not made acquisitions for a creditable purpose to the extent the acquisitions relate to this acquisition-supply. This denial of creditable purpose would be reversed if Entity A does not exceed the financial acquisitions threshold (subsection 11-15(4)).

If an acquisition relates partly to the acquisition-supply and partly to other supplies that are taxable or GST-free, it is partly creditable (section 11-30).

Goods and Services Tax Ruling GSTR 2006/3 :determining the extent of creditable purpose for providers of financial supplies provides guidance of determining the extent of creditable purpose.

Responses to Entity A's contentions

In the facts of this case, the redeemable preference shares were redeemed by Entity A - they were not bought back. However, Entity A rely on the Coles Myer case as support for the view that in the case of a buy-back, the entity buying back the shares does not acquire the same rights as the shareholders had. Entity A then contend that the same analysis as applied in Coles Myer should apply for GST purposes and to redemption as well as buy-backs.

Coles Myer

Reliance on the Coles Myer case in our view is not helpful for the taxpayer. It should be noted that Coles Myer deals with a different statutory regime, being Victoria's Stamps Act 1958 (Stamps Act) rather than the GST legislation. In Coles Myer the Court was concerned with whether the instrument of transfer could be characterised as a transfer of marketable securities within the meaning of the relevant Part of the Stamps Act.

The judgment in Coles Myer focused on the meaning of the term 'transfer' in the context of 'marketable securities', a term which has no particular significance for GST purposes. The Court obviously did not (and did not need to) consider the broader scope of the meaning of 'disposal' in regulation 40-5.04. The judgment also considered relevant legislative share buy-back provisions as they then appeared in the now repealed Corporations Law. It is noted that the share buy-back provisions are significantly rewritten in the Corporations Act.

In our view the different scheme of Subdivision 40-A of the GST Regulations, together with the meaning in the subdivision of the terms 'interest', disposal, and 'acquisition' would result in interests being acquired by an entity buying back shares, as in redeeming them.

Redemption versus buy-back

Buying back instead of redeeming the redeemable preference shares is permitted under the Corporations Act (see Note 2 to section 257A, above), however clause 2.7(j) of the Constitution does not contemplate buying back on terms other than the terms (or at least for an amount other than an amount) that each holder would receive on redemption.

Pursuant to clause 2.7(f) of the Constitution, the redeemable preference shares in this case are redeemable when all the Ordinary Shares are sold.

As noted above, subsection 254A(3) of the Corporations Act indicates that redeemable preference shares may be redeemed at the shareholder's option, and Entity A has in fact contended that its shareholders chose to have the shares redeemed rather than bought back.

It may be accepted, as set out in the Facts, that the transactions occurred in accordance with a resolution of shareholders, however any suggestion that Entity A was controlled in this course by a choice of the shareholders is not supported by the terms of the Constitution, in particular either clause 2.7(j) (see above) or clause 2.7(h), which provides:

Preference shares which are the subject of a Redemption Notice must be redeemed or bought back in accordance with that Redemption Notice and no Board, Shareholder or other approval is required to issue the Redemption Notice.

From the perspective of the holder of the redeemable preference shares, there seems little prima facie difference as to whether the redeemable preference shares were to be redeemed or bought back by the company.

In either case, the transaction would appear to arise at the discretion of the company (as directed by the Investors and Investor Directors). In either case, the shareholders will no longer hold the shares, which revert to the company and are subsequently cancelled by the company. In either case, the amount the shareholders receive would be the same.

It may be that there are potential income tax implications for the holders regarding the treatment in their hands of the proceeds from the redemption. However, we have not explored this aspect in any depth.

From the perspective of Entity A, again there seems little practical difference as to whether the redeemable preference shares are redeemed or bought back from the shareholders. Amendments flowing from the Company Law Review process in the 1990s did impact on the appropriate accounting processes for redeeming such shares, with the abolishing of certain capital reserve accounts.

However, if the company were to buy-back these shares instead of redeeming them, presumably it would be required to comply with Division 2 of Part 2J.1 of the Corporations Act, which is about share buy-backs. Division 2 contemplates a process of offer and acceptance, which clearly does not apply to redemption.

As a result, holders of redeemable preference shares may not consent to their shares being bought back, but in that event the company could summarily redeem the shares, with essentially the same result for both parties.

Clause 2.7(k) of the Constitution may be intended to address this situation. Clause 2.7(k) imposes certain obligations on each shareholder to perform in ways that will expedite a buy back process if that course is elected by the Investors.

ASIC requirements

Entity A contends:

Under the Corporations Law, we understand that where shareholders elect for an entity to buyback preference shares, the statutory process requires the shareholders to 'transfer' those shares to the company and for the company to be nominated as the holder of those shares on the share register, prior to cancellation of those shares.

While this may have been the situation under the Corporations Law, there appears to be no particular requirement for it under the Corporations Act.

The Corporations Act is administered by the Australian Securities and Investments Commissions (ASIC). Regarding ASIC requirements in a share buy-back compared with a redemption, ASIC requires notification of intention to carry out a buy-back and details thereof, whereas it requires no prior notice of a redemption. However, advice to be provided to ASIC following the redemption or buy-back is the same. In both cases, ASIC require a 'Form 484-Change to company details' to be completed. Section C of this form, which is about cancellation of shares, requires (of redemptions and buy-backs) details of the share class code, number of shares cancelled and amount paid (cash or otherwise).

In conclusion, we do not consider the Coles Myer case provides any support for Entity A's view that it acquired no regulation 40-5.02 interest through the redemption of the redeemable preference shares.

Conclusion on the Redemption of Redeemable Preference Shares

In conclusion, it is our view that:

(i) in terms of regulations 40-5.02 and 40-5.05, Entity A has made an acquisition of interests in the redeemable preference shares through the redemption of those shares;

(ii) the acquisition-supply of the interests satisfies the requirements of subregulation 40-5.09(1) and is therefore a financial supply for purposes of section 40-5 of the GST Act;

(iii) Entity A is denied creditable purpose on acquisitions to the extent they relate to the acquisition-supply of the interests, as it exceeds the financial acquisitions threshold;

(iv) Entity A needs to recognise the acquisition-supply as input taxed when determining its extent of creditable purpose.

In the alternative, Entity A submits that if the redemption of the preference shares did constitute the making of a financial supply, it would not be appropriate to allocate a higher proportion of the transaction costs to input taxed supplies made by Entity A. This is because of the close and consequential relationship between the redemption of the preference shares and the shares issued by Entity A to ENTITY D.

We do not accept this view. Whilst we agree that the issuing of the ordinary shares to ENTITY D and the redemption of the preference shares were inextricably linked, we do not accept that the relevant acquisitions could only relate to one leg of the transaction. The issuing of new shares to ENTITY D and the redemption of the preference shares in our view are two distinct, independent and separate financial supplies that involve different planning, preparing and executing strategies and/or processes. This is further supported by the Corporations Act where there are different provisions governing these transactions.

To the extent these costs can be directly attributed to the issuing of shares to ENTITY D and to the redemption of preference shares there would be a denial of creditable purpose. Subsequent to this direct attribution of costs the rest of the costs would relate to the overall enterprise of Entity A, which will be required to be apportioned according to a fair and reasonable method (the subject of this ruling request). GSTR 2006/3 outlines the Commissioner's views on apportionment and the methods of calculating the extent of creditable purpose of an entity's acquisitions or importations.

To the extent these costs are denied input tax credits Entity A may be eligible for a reduced input tax credit such as arranging services. See below.

The Entity C Costs

Entity C was appointed to represent all of the shareholders interest in this transaction. In the context of assessing the creditable purpose of the relevant acquisition, it needs to be determined if Entity A acquired these services in carrying on its enterprise.

You submit that all acquisitions mentioned in this ruling request were acquired for the purpose of:

· assisting the Vendors of Entity A to consider the legal, commercial and financial impacts of divesting of their interests and of entering into the Share Sale Transaction.

· managing or conducting Entity A's enterprise and to meet Entity A's responsibilities to its shareholders under the Corporations Law;

· negotiating the terms of the Share Sale Transaction and fulfilling Entity A's obligations to issue shares and redeem the Redeemable Preference Shares under the Share Sale Transaction.

A review of the individual transaction costs indicates that it is not possible to attribute any particular cost to a specific aspect of the Share Sale Transaction. Instead, we submit that the relevant transaction costs serve Entity A's objectives indifferently. While the transaction costs were incurred in part in connection with the financial supplies made by Entity A, the company's purpose in making the relevant acquisitions was much broader as demonstrated above. In the circumstances we submit that it is appropriate to make an assessment on a fair and reasonable basis of the extent to which the acquisitions relate to the financial supplies made by Entity A and of the extent to which the acquisitions serve the purposes of Entity A's enterprise generally.

As these costs have no direct relationship with any input taxed supply Entity A makes they would prima facie fall within the scope of what the Commissioner considers as enterprise costs in paragraphs 69-74 of GSTR 2008/1. However, we do not accept that these costs will be eligible for full input taxed credits because Entity A would be making a mixture of input taxed (redemption of preference shares, issuing shares to ENTITY D etc) and taxable supplies. Accordingly, Entity A will be required to apportion these costs using a suitable apportionment methodology that is fair and reasonable (the subject of this ruling request). To the extent these costs are denied input tax credits Entity A may be eligible for a reduced input tax credit such as arranging services. See below.

Entity A's Apportionment Methodology - Is it fair and reasonable?

Entity A's Proposed Apportionment Methodology Including Submissions

The Proxy Revenue Based Formula

The proposed revenue based formula is fashioned on the formula for determining the percentage of credit allowed as discussed by the Commissioner in paragraph 109 of GSTR 2006/3, namely:

Revenue (other than revenue from input taxed supplies

Total Revenue (including revenue relating to input taxed supplies) X 100

For the avoidance of doubt we acknowledge that Entity A is using a proxy to fashion the revenue based formula in GSTR 2006/3. Therefore, Entity A's proposed apportionment methodology is based on the Revenue derived by the Vendors from the Share Sale Transaction rather than its own revenue as explained below.

The cost to the purchaser (ENTITY D) of acquiring its 100% interest in Entity A was x. This is the figure that Entity A proposes to use in the denominator of the formula expressed above. The Vendors received the consideration for the disposal of their respective interests in two parts:

· Y being payment of a cash amount (or shares to an equivalent value in Entity D) worked out using the formula contained in the Share Sale Transaction for the Vendors' sale of the A class shares; and

· Z being payment of the aggregate redemption price for redemption of the Redeemable Preference Shares held by the Vendors.

For the purposes of our analysis and for ease of reference we have rounded the above figures.

As discussed above, Entity A had to issue new A Class Ordinary shares to the new purchaser ENTITY D to fund the redemption of redeemable preference shares. Therefore, the value of the A Class Ordinary shares was equal to the aggregate redemption price of the Redeemable Preference Shares namely, Z. Therefore, the Z was used by Entity A to redeem the preference shares by paying the shareholders this amount. As a result of this process there is a direct nexus between the financial supply made by Entity A and so much of the revenue received by the Vendors as related to redemption of the Redeemable Preference Shares.

It is therefore submitted by Entity A that the revenue received by the Vendors that relates to the redemption of the Redeemable Preference Shares (which equals the consideration received by Entity A for the issue of new shares to ENTITY D) should represent the revenue from input taxed supplies that should be excluded from the revenue figure in the numerator.

By applying the revenue figures relevant to the Share Sale Transaction to the Commissioner's revenue based formula, as demonstrated below:

Percentage credit allowed = Y/(Z+Y) x 100

Entity A submits that "the revenue received by the Vendors that relate to the redemption of preference shares (which equals the consideration received by the company for the issue of the new shares to ENTITY D) should represent the revenue from input taxed supplies that should be excluded from the revenue figure in the numerator. In doing so, Entity A is using the shareholder transactions or shareholder revenue as a proxy to allocate the costs incurred by it.

We are unable to accept that this methodology is fair and reasonable because it does not take into account of the redemption amount of Z. If the logic of the proxy formula has to be followed then it would be necessary to also include another Z in the denominator, namely the consideration for the redeemable preference shares.

In conclusion we are of the view that the formula is fair and reasonable provided that the following occurs:

(1) To the extent it is possible to directly allocate Entity B costs for the issuing of new A class shares to ENTITY D and for the redemption of preference shares from the vendors, then such an allocation should be done; and

(2) Subsequent to this direct allocation, the balance of costs to be allocated according to the formula submitted provided the redemption value of Z is included to the denominator.

Based on the formula you have provided and the premise it is constructed upon we are of the view that it should be constructed as follows:

Y

-----------------------

Z+Y+Z

Entity A's Entitlement to Reduced Input Taxed Credits

Essentially there are two requirements to determine if Entity A is entitled to reduced input tax credits. The first requirement is whether the acquisition relates to making financial supplies. Having already determined that the relevant part of the acquisition relates to input taxed supplies (e.g. the financial supplies mentioned above) for paragraph 11-15(2)(a) of the GST Act, it is therefore, also taken to relate to making financial supplies for the purposes of subsection 70-5(1) of the GST Act.

The second requirement is to determine if the nature of the acquisition is one that is listed in one of the Items of the table in subregulation 70-5.02(2) of the GST Regulations.

You submit that to the extent that Entity A is not entitled to claim a full input tax credit in relation to the Entity B costs and the Entity C costs it should be entitled to claim a reduced input taxed credit pursuant to Division 70 of the GST Act for arranging services.

ARRANGING SERVICES

Under item 9 in subregulation 70-5.02(2) of the GST Regulations (item 9), the acquisitions of arrangement, by a financial supply facilitator, of the provision, acquisition or disposal of an interest in a security, include the following:

(a) order placement and trade execution;

(b) clearance and settlement of trades;

(c) management of the issue of securities, including rights and bonus issues;

(d) arranging flotation and privatisations;

(g) performing a settlement, including issue of drafts and encashment;

(h) other securities transactions, including lodgement, withdrawal and exchange control;

(i) underwriting, except a matter that is described in the table in regulation 40-5.09.

A 'financial supply facilitator' is defined in regulation 40-5.07 of the GST Regulations to be an entity facilitating the supply of an interest for a financial supply provider.

The word 'facilitates', as evidenced by paragraphs 30 - 35 of GSTR 2004/1, requires that an entity have an active, rather than a passive or minor role.

A financial supply facilitator facilitates the acquisition of an interest where its activities have the effect of helping forward or assist a particular financial supply, rather than where those activities simply assist the financial supply provider.

It follows that the activities of a financial supply facilitator must have a sufficient nexus with the acquisition of an interest by a financial supply provider.

A sufficient nexus requires that there be an identifiable association with the acquisition that goes beyond a mere general association. An identifiable association does not mean that the activities have to be directly linked to the acquisition; however it does require that there be a substantial connection so as to exclude activities that are only generally related. The activities must relate to and assist a particular supply, not merely contemplated supplies. In the absence of this identifiable association, an entity will not be a financial supply facilitator of the supply of an interest. It follows that it is only when an entity is carrying out activities that are sufficiently or substantially identifiable with the actual financial supply being made, such that they help forward or assist the financial supply, that the entity can be said to be a financial supply facilitator.

Therefore, it needs to be determined if the Entity B services facilitated the various financial supplies consisting of securities. In this context it is considered that once it is evident that Entity B is arranging the acquisition of the respective securities it will also be sufficient to indicate that its services are facilitating that particular supply.

The term 'arrangement' is discussed in paragraphs 287 to 291 of Goods and Services Tax Ruling GSTR 2004/1: Goods and services tax: reduced credit acquisitions (GSTR 2004/1). Paragraph 287 of GSTR 2004/1 states:

287. The term arrangement is not defined in the GST Act or regulations, nor does it have a specific industry meaning. Its ordinary meaning is a 'preparatory measure, previous plan, preparation or a final settlement, adjustment by agreement'.F42 Arrangement under this item includes activities relating to the preparation for the transaction, the planning of the transaction and the settlement of the details of the transaction.

288. Typically, arrangement activities take place before the transaction is completed. However, in some instances they may take place after the transaction is completed. Provided the activities relate to the arrangement of the transaction, and not to ongoing services once it is completed, they are arrangement for the purposes of the item. Items 9(d), (e) and (f) also require that the service listed in each has the character of arranging.

289. Although many activities may be undertaken as part of the preparations for, for example, the public float of a company, not all of these are the arrangement of the provision of an interest in securities. Planning by the financial supply facilitator may require that a company group restructures. However, it is the acquisition of the planning which is the arrangement service, not the activities involved in the restructure that is the reduced credit acquisition. Equally, due diligence activities, though part of the preparation for the float, are not arranging for the purposes of item 9(d). This is because due diligence by itself, does not have sufficient connection to the 'arrangement' of preparing or planning a float. However, where an entity provides due diligence activities, as part of its services in planning or preparing a float, then it may come within item 9(d).

290. Where an entity conducts preparatory activities as part of the planning of, and preparation for, a listed service, these may be part of the arrangement of the transaction. Where the entity engages other entities to undertake parts of preparatory activities, the services of those other entities are inputs to the supply of arrangement services by the entity and are not, in themselves, arrangement services.

291. Whether or not a service is the arrangement of a transaction depends upon the nature of the services undertaken, not the name applied to them. For example, a merchant bank may invoice its clients for advisory services F43 for a securities transaction. If, however, the merchant bank is a financial supply facilitator in relation to that supply of securities, and is, in reality, supplying arrangement services under the agreement, the acquisition of those services is a reduced credit acquisition under item 9.

Paragraph 287 of GSTR 2004/1 indicates that in the context of a securities transaction, arrangement activities are those relating to the 'preparation for the transaction, the planning of the transaction and the settlement of the details of the transaction'. For a supply to be the arrangement of the provision, acquisition or disposal of a security the supply must have a sufficient connection to the arrangement of the proposed transaction to be properly described as itself constituting the 'arranging' of the transaction. A remote connection would not suffice. Paragraph 289 of GSTR 2004/1 provides guidance in respect to determining whether a specific supply has a relevant connection with the preparation, planning or settlement of a transaction:

You submit that Entity B played a pivotal role in arranging all aspects of the Share Sale Transaction and therefore, should be considered to have arranged the Share Sale transaction for the purposes of item 9. We see no reason to disagree with your submission. It is unequivocally evident that Entity B was engaged to oversee the planning, preparing and settling the relevant financial supplies mentioned above.

You have also made a submission stating that Entity C was involved in the planning of the form of the final transaction and the settling of details with the various Vendors.

As Entity C's activities had the effect of helping forward or assisting the respective shareholders sell their shares (the financial supply) it would also qualify as a facilitator. For completeness, it must be stated that the focus is the facilitator's role in a particular transaction and the relationship with a particular financial supply, rather than whether the recipient of that service is necessarily making the particular financial supply.

As such, whilst the recipient of the service will typically also be the financial supply provider of the particular supply, a financial supply facilitator can also provide a service to a recipient (Entity A) that involves facilitating a financial supply made by a third party (eg shareholders of Entity A).

In this particular case, Entity A had no option but to take an active role in negotiating, assessing and overseeing the Share Sale Transaction with the assistance of the Entity B and Entity C services. It engaged Entity C to assist in the disposal of the shareholders' securities. The takeover bid process had commenced and this is sufficient to meet the requirements that there is a particular financial supply. Therefore, when Entity A acquired the Entity C services those services still had an identifiable association with the relevant financial supply made by the shareholders.

Therefore, an entity such as Entity C that is providing services to the recipient Entity A to facilitate the financial supply to be made by a third party (the shareholders) is still capable of being a financial supply facilitator. The key issue is to determine if Entity C is facilitating the relevant supply of securities. In this context it is a given fact that it is arranging the disposal of the shareholders securities. This is sufficient to ensure that the Entity C services together with the Entity B services are reduced credit acquisitions made by Entity A and it will be entitled to a reduced input taxed credit.

For completeness, we advise that none of the other Transaction Costs provided by the various other service providers qualify as arranging service under item 9. Once a fair and reasonable apportionment methodology is in place Entity A will be eligible to claim a proportion of input taxed credits.