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Ruling

Subject: GST and transaction cost apportionment

Question 1

Is the cancelling of debts to, issuing shares to and borrowing money from non-resident entities that are not in Australia by Entity A, GST-free supplies pursuant to subsection 38-190(1) table item 2 of the A New Tax System (Goods and Services Tax) Act 1999 (GST Act).

Answer

Yes. The cancelling of debts to, issuing shares to and borrowing money from non-resident entities that are not in Australia by Entity A are GST-free supplies pursuant to subsection 38-190 (1) table item 2 of the GST Act.

Question 2

Is Entity A, as representative of the Entity A GST Group entitled to a reduced input tax credit (RITC) under:

a) item 11(a) or item 11(d) of the table in subregulation 70-5.02 of the A New Tax System (Goods and Services Tax) Regulations 1999 (GST Regulations) for the acquisition from Entity B in relation to the Transaction; and

b) item 9, 11(d) and/or item 27 of the table in subregulation 70-5.02 of the GST Regulations for acquisitions from (i) Entity C and (ii) Entity D, in relation to the Transaction?

Answer

Yes. Entity A as representative of the Entity A GST Group is entitled to a RITC under:

a) item 11(a) or item 11(d) of the table in subregulation 70-5.02 of the GST Regulations for the acquisition from Entity B in relation to the Transaction; and

b) item 9 and item 11(d) of the table in subregulation 70-5.02 of the GST Regulations for acquisitions from (i) Entity C, and (ii) Entity D relating to the Transaction.

Question 3

Is the apportionment method as set out in the facts, fair and reasonable for calculating the extent of creditable purpose (ECP) that Entity A can apply for acquisitions in relation to the Transaction?

Answer

Yes. The apportionment method as set out in the facts, for calculating the ECP that Entity A can apply for acquisitions in relation to the Transaction, is considered to be fair and reasonable in accordance with the Commissioner's view in 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).

Relevant facts and circumstances

Entity A is the representative member of the Entity A GST Group.

Entity A and entities that are members of the Entity A GST Group implemented an arrangement (the Transaction) to reduce the group debt under a Syndicated Facility Agreement.

Under the Syndicate Facility Agreement Entity A GST Group borrowed funds from lenders in Australia and lenders overseas (non-resident lenders)

Before implementation of the transaction, Entity A GST Group appointed joint advisors in respect of undertaking work to consider the opportunities in relation to the design and implementation of the Transaction.

Entity A GST Group reached an agreement with the Finance Syndicate on a plan to reduce the debt owed by the Group. The plan (the Transaction) included:

· the sale/transfer of assets by Entity A GST Group to a new company owned by the Finance Syndicate in return for the discharge of all the debt owed by Entity A GST Group,

· An entity within the Entity A GST Group would make an offer to acquire securities held by their Securityholders for a set monetary amount; and

· Funds to acquire the securities would be a combination of a payment made by the Finance Syndicate supplemented by cash that was held outside the Finance Syndicate lenders security package.

The activities which lead up to and ultimately resulted in the Transaction include:

· Entity A GST Group undertook a comprehensive process to identify the most effective strategy to reduce its levels of debt, owed to a consortium of Lenders;

· the process formally began with the appointment of Entity D as joint advisers and joint lead managers to consider deleveraging opportunities and recapitalisation options;

· Entity C was engaged by the Entity A GST Group to provide financial and strategic commercial advice;

· an agreement was reached for the Lenders to forgive or transfer the debts in exchange for substantially all of Entity A GST groups assets and also allow for a cash payment to the Securityholders;

· there were also independent asset sales as a GST-free supply of a going concern;

· the Transaction was put to Securityholders and the proposal to proceed with the Transaction was approved; and

· The Transaction was successfully implemented.

The acquisitions

The acquisitions that are the subject of the input tax credit entitlement were made prior to the implementation of the Transaction by entities that were members of the Entity A GST Group.

Acquisitions were made from various service providers and included professional, legal and administrative services.

The Transaction

The Transaction, which is essentially a debt for equity swap, can be broken down into the following four main types of supplies:

1. Transferring Assets being transferred to Nominee Pty Ltd by way of issue of shares.

2. The purchase of the Securityholders' securities by an entity in the Entity A GST Group.

3. Lenders forgiving the debt owned by the Entity A GST Group.

4. Certain Lenders creating a new super senior debt facility for the Holding Company.

Post the Transaction, Nominee Pty Ltd and its subsidiaries became members of the Entity A GST Group.

The apportionment method adopted by Entity A to calculate the ECP assigns equal weight to each step in the Transaction.

Apportionment methodology

The Entity A GST Group apportionment methodology constitutes the following:

a) determine the extent of creditable purpose (ECP) for each of the four steps of the Transaction. For acquisitions that clearly only related to one step in the Transaction, the ECP from that step is applied;

b) determine an average ECP that can be applied to those costs relating to the overall Transaction. For acquisitions that related to all steps in the Transaction the average ECP is applied;

c) if the acquisitions also give rise to RITCs, to the extent they relate to an input taxed financial supply, then apply an ECP that reflects the RITC.

Relevant legislative provisions

A New Tax System (Goods and Services Tax) Act 1999 section 9-10

A New Tax System (Goods and Services Tax) Act 1999 section 9-30, 9-30(1)

A New Tax System (Goods and Services Tax) Act 1999 subsection 9-30(1)

A New Tax System (Goods and Services Tax) Act 1999 section 11-5, 11-20

A New Tax System (Goods and Services Tax) Act 1999 subsections 11-15 (1), 11-15(2), 11-15(4), 11-15(5)

A New Tax System (Goods and Services Tax) Act 1999 section 38-190

A New Tax System (Goods and Services Tax) Act 1999 subsections 38-190(1), 38-190(2), 38-190(2A), 38-190(3)

A New Tax System (Goods and Services Tax) Act 1999 subsection 39-190(1)

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

A New Tax System (Goods and Services Tax) Act 1999 section 70-5(1)

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

A New Tax System (Goods and Services Tax) Regulations 1999 subregulation 40-5.09(1), 40-5.09(03)

A New Tax System (Goods and Services Tax) Regulations 1999 regulation 70-5.02

Reasons for decision

Question 1

The term supply is broadly defined in section 9-10 of the GST Act and includes the making of a financial supply.

Section 40-5 of the GST Act provides that financial supplies are input taxed and have the meaning given by the GST Regulations.

Subregulation 40-5.09(1) of the GST Regulations states:

The provision, acquisition or disposal of an interest mentioned in subregulation (3) or (4) is a financial supply if:

a) the provision, acquisition or disposal is:

i. for consideration; and

ii. in the course or furtherance of an enterprise; and

iii. connected with Australia and 

b) the supplier is:

i. registered or required to be registered; and 

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

The table in subregulation 40-5.09(3) of the GST Regulations contains eleven categories of interest; the provision, acquisition or disposal of which would constitute a financial supply where the requirements of subregulation 40-5.09(1) of the GST Regulations are satisfied.

The provision, acquisition or disposal of an interest in a debt or a credit arrangement will constitute a financial supply in accordance with Item 2 of section 40-5.09(3) of the GST Regulations. The provision, acquisition or disposal of an interest in securities (shares is included in the definition of securities as per section 9 of the Corporations Act 2001) will constitute a financial supply in accordance with Item 10 of section 40-5.09(3) of the GST Regulations.

As such, the disposal of an interest in a debt (cancelling of debts) and the acquisition of an interest in a debt (borrowing of money) is an input taxed financial supply under item 2 of subregulation 40-5.09(3) of the GST Regulations provided all the other requirements of a financial supply as set out in subregulation 40-5.09(1) of the GST Regulations are satisfied.

Similarly, the provision of an interest in shares is an input taxed financial supply under item 10 in the table in subregulation 40-5.09(3) of the GST Regulations provided all the other requirements of a financial supply as set out in subregulation 40-5.09(1) of the GST Regulations are satisfied.

Section 9-30 of the GST Act deals with supplies that are GST-free or input taxed. Paragraph 9-30(1)(a) of the GST Act state:

A supply is GST-free if:

(a) It is GST-free under Division 38 or under a provision of another act

Where a supply is both GST free and input taxed the supply is treated as being GST free pursuant to subsection 9-30(3) of the GST Act.

Section 38-190 of the GST Act deals with supplies of things, other than goods or real property, for consumption outside Australia. Subsection 38-190(1) table item 2 of the GST Act state:

* denotes a term defined in section 195-1 of the GST Act.

If the requirements of subsection 38-190(1) table item 2 of the GST Act are met, the supply is GST-free provided subsections 38-190(2), (2A) or (3) do not negate that GST-free status.

Goods and Services Tax Ruling GSTR 2004/7 Goods and services tax: in the application of items 2 and 3 and paragraph (b) of item 4 in the table in subsection 38-19(1) of the A New Tax System (Goods and Services Tax) Act 1999 (GSTR 2004/7) provides guidance on the application of subsection 38-190(1) of the GST Act.

Paragraph 111 and 112 of GSTR 2004/7 state:

111. The term 'non-resident' is defined in section 195-1 to mean 'an entity that is not an Australian resident'.

112. 'Australian resident' is defined in section 195-1 to mean 'a person who is a resident of Australia for the purposes of the ITAA 1936'.

Paragraph 113 of GSTR 2004/7 provides that an entity includes an individual, company, partnership, corporate limited partnership or a trust.

For the purpose of this ruling, it is assumed that the 'non-resident' entities referred to in the ruling meet the definitions as set out above.

The exceptions under section 38-190(2), (2A) and (3) of the GST Act are not applicable in this case.

Therefore, the cancelling of debts to, issuing shares to and borrowing money from non-resident entities that are not in Australia, by Entity A will be GST-free supplies pursuant to subsection 38-190(1) table item 2 of the GST Act.

Question 2

Division 11 of the GST Act deals with entitlement to input tax credits. Section 11-20 of the GST Act provides that you are entitled to the input tax credits for any creditable acquisition you make. Section 11-5 of the GST Act state:

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 are liable to provide, *consideration for the supply; and

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

A creditable acquisition is one which is acquired solely or partly for a creditable purpose. Subsections 11-15(1) and 11-15(2) of the GST Act state:

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 the thing for a creditable purpose to the extent that: 

a. the acquisition relates to making supplies that would be input taxed; or

b. the acquisition is of a private or domestic nature

When considering creditable purpose, the general rule under Division 11 is that you will acquire a thing for a creditable purpose to the extent that you acquire it in carrying on your enterprise. However, paragraph 11-15(2)(a) of the GST Act provides that you do not acquire something for a creditable purpose where that thing is acquired in relation to making supplies that would be input taxed.

According to subsection 11-15(4) of the GST act, an acquisition is not treated, for the purposes of paragraph 11-15(2)(a) of the GST Act, as relating to making input taxed supplies where the FAT is not exceeded. In this case as Entity A exceeds the FAT, subsection 11-15(4) does not apply. Therefore, where Entity A makes an acquisition in relation to making financial supplies that would be input taxed it is denied an input tax credits.

However, in some cases, acquisitions that relate to making financial supplies may attract a RITC. Subsection 70-5(1) of the GST Act states that an entitlement to RITCs may arise for acquisitions of a specified kind relating to making financial supplies known as reduced credit acquisitions.

The table in subregulation 70-5.02(2) of the GST Regulations provides an exhaustive list of acquisitions that are reduced credit acquisitions within the meaning of subsection 70-5(1) of the GST Act.

Item 9 of subregulation 70-5.02(2) of the GST Regulations deals with services by entities facilitating a range of security transactions.

Item 11 of subregulation 70-5.02(2) of the GST Regulations provides an exhaustive listing of services which can be categorised broadly as loans services provided by a financial supply facilitator. Item 11(a) and item 11(d) provides that loan agency services and the arranging of syndicated loans are reduced credit acquisitions.

Item 27 of subregulation 70-5.02(2) of the GST Regulations deals with supplies for which financial supply facilitators are paid commission by financial supply providers.

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.

Goods and services tax ruling GSTR 2002/2 Goods and services tax: GST treatment of financial supplies and related supplies and acquisitions (GSTR 2002/2) provides guidance on issues related to financial supplies.

Paragraphs 258 and 259 of GSTR 2002/2 provides that a financial supply facilitator facilitates the supply and/or acquisition of an interest where its activities help to forward assist a particular financial supply, rather than those that simply assist the financial supply provider. Typically, a financial supply facilitator will play a significant, if not dominant role in co-ordinating or overseeing the supply or acquisition of the financial supply.

It follows that the activities of a financial supply facilitator must have a sufficient nexus with the supply/acquisition of an interest by a financial supply provider. A sufficient nexus requires that there be an identifiable association with the supply/acquisition that goes beyond a mere general association. 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.

Paragraph 260 of GSTR 2002/2 provides that as a general rule, acting in an agent-like capacity on behalf of a financial supply provider indicates an identifiable association with the supply of an interest, as the activities of the agent are substantially connected with the supply of an interest.

Goods and services tax ruling GSTR 2004/1 Goods and services tax: reduced credit acquisitions (GSTR 2004/1) states:

Item 9 - Securities transactions services

285. An acquisition is a reduced credit acquisition under item 9 where it is an acquisition of the arrangement by a financial supply facilitator of the provision, acquisition or disposal of an interest in a security.

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'. 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.

Item 11(a) - loan agency services

323. As item 11(a) refers to loan agency services, item 11 applies only to those services provided by entities that are financial supply facilitators authorised to act as agents on behalf of a principal. The acquisition of loan agency services therefore must have a sufficiently close nexus with the relevant supply, that is, one which goes beyond a mere general association and must assist the supply, rather than the financial supply provider.

Item 11(d) - arranging syndicated loans

350. Where the lead bank undertakes the supply of arranging the syndicated loan for the borrower, the acquisition of this service is a reduced credit acquisition under item 11(d).

351. Arranging in the context of this item must be by a financial supply facilitator. The lead bank normally has a role in managing and negotiating terms with the borrower and may assist the borrower in procuring relevant information for the other potential syndicate members. As such, the lead bank is a financial supply facilitator in relation to the supply of loans by the other participants.^F53

352. The service of arranging a syndicated loan typically ends when the loan contract has been entered into with all of the relevant parties. This is normally when the loan documentation is signed and executed. However, certain activities that take place after this time may still be part of the arranging of syndicated loans. An example of this is a post completion evaluation of the lead bank's performance in arranging the syndicated loan.

353. Once the loan documentation is executed the lead bank may be appointed as the agent of the other syndicate members to provide them with further services. Where these services include providing information and reports, channelling funds advanced by the lenders to the borrower and distributing repayments among the members, the lead bank is providing loan agency services covered by item 11(a).

Given the above and on examination of the Syndicated Facility Agreement, we agree with Entity A's submission that the acquisitions from Entity B in relation to the Transaction are reduced credit acquisitions and Entity A is entitled to RITCs in relation to these acquisitions under items 11(a) and/or 11(d) of subregulation 70-5.02(2) of the GST Regulations.

Similarly on examination of the Letter of Engagement of Entities C and D, we are satisfied that the acquisitions from these entities in relation to the Transaction are reduced credit acquisitions and Entity A is entitled to RITCs in relation to these acquisitions under item 9 and/or 11(a) of subregulation 70-5.02(2) of the GST Regulations.

Question 3

As discussed in question 2 above, section 11-20 of the GST Act allows an entity to claim an input tax credit for any creditable acquisition it makes and the term creditable acquisition is defined in section 11-5 of the GST Act.

Relevantly, a creditable acquisition is one which is acquired solely or partly for a creditable purpose. The Entity A GST Group acquires a thing for a creditable purpose to the extent that it acquires it in the course of carrying on its enterprise.

Further, subsection 11-15(2) of the GST Act provides that you do not acquire the thing for a creditable purpose to the extent that the acquisition relates to making supplies that would be input taxed.

In this case, the Entity A has exceeded the financial acquisitions threshold provided for in subsection 11-15(4) of the GST Act and therefore it does not acquire a thing for a creditable purpose to the extent that the acquisition relates to making supplies that would be input taxed.

Based on the facts as stated above, the Entity A enterprise involves it making a combination of:

· financial supplies that are input taxed;

· GST-free supplies; and

· taxable supplies.

However, acquisitions are not treated as relating to making input taxed supplies to the extent that:

· the supply is made through an enterprise carried on outside Australia (subsection 11-15(3) of the GST Act);

· the GST group does not exceed the financial acquisition threshold (subsection 11-15(4) of the GST Act); and

· the acquisition relates to the making of a financial supply consisting of a borrowing and the borrowing does not relate to input taxed supplies (subsection 11-15(5) of the GST Act).

Given the size of the Transaction and the fact that the costs associated with the Transaction are not reflective of its day-to-day business, Entity A is proposing to apply an apportionment methodology specific to acquisitions relating to the Transaction, in order to determine the ECP of these acquisitions.

The Commissioners views on apportionment and the methods of calculating the extent of creditable purpose of an entity's acquisitions or importations are outlined in GSTR 2006/3. Specifically paragraphs 33 and 73 of GSTR 2006/3 provide that the method chosen to allocate or apportion acquisitions between creditable and non-creditable purpose needs to:

· be fair and reasonable;

· reflect the intended use of the acquisition (or in the case of an adjustment, the actual use); and

· be appropriately documented in your individual circumstances.

Further, paragraphs 81, 84 and 103 of GSTR 2006/3 explain the Commissioners views on direct and indirect methods of estimation and circumstances where these methods may be considered appropriate and state:

81. The Commissioner considers that the use of direct methods, including direct estimation (see paragraphs 92 to 101of this Ruling) best accords with the basic principles explained above (see paragraph 73). If it is not possible or practicable to use a direct method, you may use some other fair and reasonable basis, including an indirect estimation method.

84. You are not required to use direct and indirect methods in the manner set out in this Ruling, provided that whatever alternative method you do use is fair and reasonable having regard to the principles explained in paragraph 73 of this Ruling.

103. Indirect estimation methods may be appropriate in circumstances where there are overhead expenses that are not directly referable to particular supplies or activities. They may also be appropriate if the direct methods do not apportion acquisitions or importations to the level of supplies, or groups of supplies, that require different treatment for GST purposes. It may also be the case that the direct attribution of a large number of small acquisitions or importations is not cost effective. In all cases where indirect methods are used, the method chosen should be fair and reasonable in the context of your enterprise.

Therefore, the apportionment method adopted by Entity A must be fair and reasonable in the circumstances of its enterprise and must appropriately reflect the intended or actual use of its acquisitions or importations.

The apportionment methodology adopted by Entity A involves:

i. apportioning acquisitions direct to particular steps in the Transaction where possible, and equally to all steps where they relate to the whole Transaction;

ii. using the value of loans from non-resident entities as a percentage of the value of all loans to determine the proportion of costs related to the GST-free supplies to such non-residents; and

iii. the use of borrowing exemption for the new borrowing in the Transaction but not for the forgiveness of the old borrowings.

Consistent with the above paragraphs the Commissioner will accept any basis of apportionment of acquisitions which is applied indifferently to all supplies made, provided it is fair and reasonable in the individual circumstances.

We consider that the theoretical aspect of Entity A's GST apportionment method is fair and reasonable, and reflects the intended use of the acquisitions in their circumstances. Therefore, provided the practical application does not result in a distortive outcome, we consider the method used by Entity A falls within the ambit of being fair and reasonable in accordance with GSTR 2006/3.