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Ruling

Subject: GST treatment of dishonour fee

Question

What is the correct GST treatment for the recovery of a dishonour fee imposed by a Financial Institution on Entity A from an Entity A customer (customer) that did not honour its payment obligation for a supply of Product?

Advice

The Commissioner considers that the recovery by Entity A of the dishonour fee imposed by a Financial Institution from a customer, being in the nature of compensation for damages, is not made in connection with, or in response to, or for the inducement of a supply of anything made by Entity A.

It follows that the recovery of a dishonour payment fee by Entity A is not consideration for a supply under section 9-5(a) of the GST Act and therefore is not subject to GST.

Relevant facts and circumstances

Entity A is a retailer in Australia with a large number of customers across various Australian states.

Entity A makes supplies of a Product and is registered for GST.

Entity A makes supplies of the Product to customers under agreements. These agreements will vary depending on a customers' location, product offered and the relationship Entity A has with its customers. We refer to the agreement as a 'Standard Agreement'.

Generally, the price for the Product under the Standard Agreement is a 'standing offer price' or 'charges' set out in the relevant document (the Product Price List). The Product Price List also outlines that a customer is subject to the payment of fees in certain circumstances.

In order for Entity A to run its business effectively, it has a number of payment arrangements with its customers. These payment arrangements are governed under the terms and conditions that apply when the customer contracts for the Product with Entity A.

The primary type of payment arrangement occurs when Entity A supplies the Product to the customer, and the customer pays Entity A for the Product via direct debit, credit or cheque payment.

For Entity A to accept the payments from its customers and settle their account, Entity A engages a transactional bank to facilitate the direct debit, direct credit or cheque payment.

Currently Entity A utilises various entities (collectively, the 'Financial Institutions') in order to facilitate such payments from customers.

Under the various types of arrangements that Entity A has with Financial Institutions, Entity A incurs certain types of fees. One fee is the dishonour fee.

Where Entity A is imposed a dishonour fee by a Financial Institution, Entity A will pass on this cost to a customer by charging the customer a dishonour fee.

The Product Price List includes a list of Fees which a customer is required to pay. Relevantly a customer must pay Additional fees and Dishonour payments fees (direct debit).

In some case a State may have a retail code (Retail Code) that applies to suppliers of the Product. In these cases, the Retail Code recognises that Entity A (as retail supplier of the Product) may be charged a fee by a Financial Institution. In such a situation Entity A (as retail supplier of the Product) may recover this dishonour fee from the customer.

The tax invoice issued to a customer by Entity A includes payments for 'other charges & adjustments'. These 'other charges & adjustments' are itemised further and the dishonour fee amount is clearly identified on the document.

Relevant legislative provisions

A New Tax System (Goods and Services Tax) Act 1999 9-5.

Reasons for decision

Section 9-5 of the A New Tax System (Goods and Services Tax) Act 1999 (GST Act) states that:

You make a taxable supply if:

(a) you make the supply for *consideration; and

(b) the supply is made in the course or furtherance of an *enterprise that you *carry on; and

(c) the supply is *connected with Australia; and

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

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

* Denotes a term defined in the GST Act.

The meaning of 'supply' is provided in section 9-10 of the GST Act and subsection 9-10(1) of the GST Act states that, 'A supply is any form of supply whatsoever'.

Subsection 9-10(2) of the GST Act contains a list of things that are included as supplies which includes (amongst other things):

- a supply of goods or services;

- a creation, grant, transfer, assignment or surrender of any right;

- a financial supply; and

- an entry into, or release from, an obligation to do anything or to refrain from an act or to tolerate an act or situation.

Goods and Services Tax Ruling GSTR 2006/9, Goods and services tax: supplies (GSTR 2006/9), provides guidance on the meaning of 'supply' in the GST Act. Paragraph 22 of GSTR 2006/9 sets out a number of propositions that are important to characterising supplies. Of relevance to this case are the following propositions:

- Proposition 5: to 'make a supply' an entity must do something;

- Proposition 6: 'supply' usually requires something to be passed from one entity to another;

- Proposition 11: the agreement is the logical starting point to work out the entity making the supply and the recipient of the supply;

- Proposition 12: transactions that are neither based in a binding agreement nor involve a supply of goods, services or some other thing, do not establish a supply;

- Proposition 16: the total fact situation determines the nature of the transaction, the entity making the supply and the recipient of the supply.

Proposition 5 is further elaborated on in paragraphs 71 to 74 of GSTR 2006/9 which state:

71. In overseas jurisdictions the term 'supply' has been held to take its ordinary and natural meaning, being 'to furnish or to serve' or 'to furnish or provide'. The Commissioner picks up this meaning in considering the meaning of supply in the GST Act at paragraph 41 of GSTR 2004/9, a ruling which is about the assumption of liabilities:

In adopting the ordinary and natural meaning of the term, 'to furnish or provide', it follows that an entity must take some action to 'make a supply'. This approach is consistent with the use of active phrases throughout the examples of supplies in subsection 9-10(2), such as the normalised verbs: 'a provision'; 'a grant'; 'a creation'; 'a transfer'; 'an entry into'; and 'an assignment'.

72. The use of the word 'make' in the context of section 9-5 was considered by Underwood J in Shaw v. Director of Housing and State of Tasmania (No. 2) ('Shaw') in relation to the payment of a judgment debt. His Honour was of the view that GST only applies where the 'supplier' makes a voluntary supply and not where a supply occurs without any action by the entity that would be the 'supplier' had there been a supply. He considered the actions of the judgment creditor with respect to the extinguishment of the debt when the judgment debtor made the payment of the judgment sum to meet the judgment debtor's obligations.

73. The Commissioner agrees with Underwood J's decision that there was no supply by the judgment creditor, as the judgment creditor did not do any act or thing to extinguish the obligation when the judgment debtor paid the judgment debt.

74. However, Underwood J was of the view, with which the Commissioner also agrees, that an entity can still make a supply even if the supply is made under the compulsion of statute if the entity takes some action to cause a supply to occur. His Honour went on to compare a supply resulting from a positive act against a situation where there is no supply because nothing is done:

Section 9-15 of the GST Act provides the meaning of the term consideration and states:

(1) Consideration includes:

(a) Any payment, or any act or forbearance, in connection with a supply of anything; and

(b) Any payment, or any act or forbearance, in response to or for the inducement of a supply of anything.

Further, Goods and Services Tax Ruling GSTR 2001/6, Goods and services tax: non-monetary consideration (GSTR 2001/6) states at paragraph 47:

47. The definition of a taxable supply requires, among other things, that you make a supply for consideration. There needs to be a supply, a payment and the necessary relationship between the supply and the payment. Where one party makes a monetary payment to another, something of economic value is provided. The question is whether there is a sufficient nexus between the supply and the payment as consideration.

Therefore, to satisfy the first requirement for a taxable supply there are three fundamental conditions that must be met:

(1) there must be a supply;

(2) there must be a payment; and

(3) there must be a sufficient nexus between the supply and the payment for it to be a supply for consideration.

The Commissioner's view in determining whether there is sufficient nexus between a supply and payment is discussed in GSTR 2006/9 which states:

Sufficient nexus

180. In other GST rulings the Commissioner discusses the close coupling between supply and consideration in the GST Act. In determining whether a payment is consideration under section 9-15 and whether there is a 'supply for consideration' those rulings take the view that:

· the test is whether there is a sufficient nexus between the supply and the payment made; this test is objective;

· regard needs to be had to the true character of the transaction; and

· an arrangement between parties will be characterised not merely by the description that the parties give to the arrangement, but by looking at all of the transactions entered into and the circumstances in which the transactions are made.

In order of preference, it is Entity A's submission that the recovery of a dishonour payment fee is:

· in the nature of compensation or damages and is therefore not consideration within the meaning of section 9-15 of the GST Act, as it is not a payment made in connection with, or in response to, or for the inducement of a supply of anything made by Entity A to a customer; or

· consideration within the meaning of section 9-15 of the GST Act, as it is a payment made in connection with, or in response to, the supply of the Product by Entity A to the customer.

In addition, Entity A submits that the recovery of a dishonour payment fee is not consideration for an input taxed supply. In particular, the dishonour payment fee does not fall within the meaning attributable to its use in sub-paragraph 40-5.09(1)(a)(i) of the A New Tax System (Goods and Services Tax) Regulations 1999 (GST Regulations), as it is as it is not a payment made in connection with, or in response to, or for the inducement of a supply of an interest mentioned in sub-regulations 40-5.09(3).

In this case, there is clearly a payment (the dishonour payment fee) that is recovered by Entity A from a customer. Therefore what needs to be considered is whether the payment has a relevant nexus to any supply made by Entity A.

To determine whether the dishonour payment fee Entity A receives from the customer has a nexus with a supply, the character of the payment being made and the nature of the transaction involved needs to be considered.

In this case, the dishonour payment fee arises when a customer fails to honour payment made for the supply of the Product. Also significant in this case is that the relevant Retail Code recognises that in this situation Entity A (as retail supplier of the Product) may be charged a fee by a Financial Institution. In such a situation Entity A (as retail supplier of the Product) may recover this dishonour fee from the customer.

As explained above, the GST treatment of compensation depends primarily on whether the payment represents consideration that has the relevant connection with a supply.

Does the payment have a connection with a supply?

The Commissioner's view in Goods and Services Tax Ruling GSTR 2001/4 GST consequences of court orders and out-of-court settlements (GSTR 2001/4) deals with issues where compensation payments are made in various situations. Paragraph 22 of GSTR 2001/4 states that, 'essentially, a supply is something which passes from one entity to another'.

Further, GSTR 2001/4 considers the 'supply for consideration' relationship in respect of an earlier supply and current supply and relevantly states:

Earlier supply

101. Where the only supply (other than a 'discontinuance' supply) in relation to a court order or out-of-court settlement is an earlier supply and a sufficient nexus exists between the payment made under that order or settlement and the earlier supply, the payment will be consideration for that supply.

Current supply

105. Where the only supply (other than a 'discontinuance' supply) in relation to a court order or out-of-court settlement is a current supply and a sufficient nexus exists between the payment and that supply, the payment will be consideration for the current supply.

In addition, paragraph 110 of GSTR 2001/4 states:

Damages

110. With a dispute over a damages claim, the subject of the dispute does not constitute a supply made by the aggrieved party. If a payment made under a court order is wholly in respect of such a claim, the payment will not be consideration for a supply.

In this case, Entity A is in the business of making supplies of the Product to customers for consideration. The supply of the Product to the customers is on an ongoing basis for an agreed duration of the contract with the customers. Further, the price of the Product is set out in the Price Fact Sheet. It is not in contention that these supplies of Product to a customer are taxable supplies by Entity A.

The tax invoice issued by Entity A separately discloses the dishonour payment fee from the other charges and the relevant contractual arrangements and surrounding circumstances in this case demonstrate that recovery of a dishonour payment fee does not modify the consideration for the taxable supply of the Product.

This evidence in this case therefore suggests that the charge of the dishonour payment fee by Entity A is merely a recovery by Entity A of the dishonour fee that has been imposed on Entity A by their Financial Institution or an amount equal to the estimated administrative costs as a calculation of damages. Therefore Entity A has taken no positive action to provide and/or furnish the customer with anything in recovering this fee from them.

On this basis, the payment does not represent a payment for the price of an earlier or current supply of the Product to the customer. Rather, the charge of the dishonour payment fee arises directly from the customers' failure to fulfil their contractual obligation for the payment of the Product. Consequently the dishonour payment fee is made to compensate Entity A for the loss suffered as a result of the customer's cheque being dishonoured rather than being for a particular supply.

In this case, the dishonour payment fee cannot be identified with any particular supply that Entity A makes. Therefore in accordance with the view in paragraph 110 of GSTR 2001/4, a payment of compensation for damages is not consideration for a supply. Accordingly, the payment of the dishonour payment fee is not consideration for a taxable supply under section 9-5 of the GST Act.

Additional information - GSTA TPP 065

Goods and Services Tax Advice GSTA TPP 065 Goods and services tax: Is GST payable on a dishonoured cheque fee? (GSTA TPP 065) provides that a dishonour fee will be input taxed where it is consideration for an 'interest' in or under a debt, credit arrangement or an indemnity (item 2 in the table in subregulation 40-5.09(3) of the GST Regulations).

In order for any payment to be consideration for a financial supply, the payment must first be made for a supply. Based on the above analysis we consider the character of the dishonour payment fee charged by Entity A to a customer represents compensation for the loss suffered by Entity A. Therefore, the recovery of the dishonour payment fee by Entity A is not for any supply Entity A has made to a customer.

Consequently where the dishonour fee charged to Entity A (by a Financial Institution) is recovered from the customer, the payment of the dishonour fee by the customer will not be consideration for any supply, including a financial supply.

We note, with effect from 27 February 2013 GSTA TPP 065 is withdrawn and replaced by Goods and Services Tax Determination GSTD 2013/1 Goods and services tax: When a payment for a supply fails, is a failed payment fee charged by the supplier consideration for a supply?

Conclusion:

Based on the above we agree with Entity A's primary submission that the payment of the dishonour fee received by Entity A is not subject to GST. Consequently, the payment is not consideration for any taxable supply and does not represent consideration for an input taxed supply.