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Edited version of your private ruling

Authorisation Number: 1012511336833

Ruling

Subject: Whether a payment made pursuant to a Deed of Settlement is consideration for a taxable supply

Question:

Is the Total Sum paid by A to B pursuant to a Deed of Settlement (Deed) consideration for a taxable supply?

Answer:

No, the Total Sum paid by A to B pursuant to the Deed is not consideration for a taxable supply.

Relevant facts and circumstances:

The parties:

A plans, constructs and maintains infrastructure.

B is a company which specialises in building and maintaining transport and civil infrastructure.

Background:

A accepted B's tender to construct a high level crossing across a river in late June 20XX

The Award Date pursuant to the relevant contract was late May 20XX, but in fact A did not award the contract until late June 20XX

The original Practical Completion date specified in the contract was late October 20YY.

Following Practical Completion B claimed that although B achieved Practical Completion by the approved Date for Practical Completion, B expended considerable additional costs in mitigating the delay caused by the late award of the contract. B also claimed that B raised an extension of time notice on early September 20XX, but the Superintendent did not provide an Extension of Time until late February 20YY.

B's claim for additional payment:

By letter to A, B submitted a consolidated claim for an additional payment for delay. B used two methods to assess and value B's claim - as a claim for delay and disruption (Option 1) or as a claim for additional costs of directed re-sequencing of works (Option 2).

Pursuant to Option 1 B calculated B's entitlement to costs for the cumulative effect of delay events for which A was culpable. B claimed $X million pursuant to Option 1.

Pursuant to Option 2 B calculated the additional costs incurred by B by comparing the tender program and methodology with the as-build program and methodology. B took into account B having to:

· agree to the revised baseline program after late award of the contract;

· work the site at sub-optimal productivity while resolving access problems;

· incur additional site costs due to delaying wet season demobilisation;

· work around problems with piling, re-sequencing work and changing the methodology in order to maintain productivity;

· undertake more piling than tendered due to conditions which were not foreseeable because the site was inaccessible during the tender and mobilisation processes due to the wet season; and

· make scope variations and design changes which made orderly demobilisation impossible and resulted in B incurring damage and reinstatement costs in the wet season.

B claimed $Y million pursuant to Option 2.

In the letter B stated that B considered that Option 2 was the appropriate method and asked A to accept B's claim for $Y million.

The Superintendent in relation to the contract provided an assessment of B's claim and asked B to 'recast with sufficient particularity' certain sections of B's claim under Option 2.

Recast of B's claim:

B lodged a recast claim for $Z (a smaller amount than $Y) in a letter to A, made up as follows:

· B applied the preliminaries tender allowance rate to an assumed delay of 32 calendar days as a result of the contract being awarded late, plus a similar claim in respect of B's subcontractors.

· B assumed a delay of 25 days as a result of full possession of the site not being granted 14 days after acceptance of tender and claimed an amount based on the preliminaries tender allowance rate.

· B claimed that, as a result of resequencing of piling due to late award of the contract, 33 working days were deleted from the 92 working days of construction programmed to be undertaken before the wet season commenced and that this added 42 days to the contract program, 15 of which were concurrent with the claim for late possession of site, and claimed for the remaining 27 days based on the preliminaries tender allowance rate. B also claimed that there was a cost blowout in respect of the need to revise the piling sequence and, based on a conservative reassessment, claimed for the delay and disruption costs of re-sequencing piling.

· B claimed that as a result of the failure by the Superintendent to vary the Date for Practical Completion (despite B's request for an extension of time), plus scope changes, re-prioritisation of works, and delays in provision of design information and site possession B proceeded with the works beyond the agreed suspension date in the knowledge that B faced serious problems in delivering the project in the time remaining available under the contract. As a result B incurred additional costs repairing and reinstating works damaged during the wet season suspension for which B's insurer refused to accept liability. B claimed an amount based on a 50% apportionment of the costs incurred.

Letter from A:

A responded to B's recast of B's claim dated by letter. A rejected each part of B's recast claim.

Deed of Settlement:

The recitals to the Deed refer to the claim and recast claim made by B and to two Alleged Defects in respect of which A and B agreed to a Management Strategy which involved B undertaking repairs, A contributing $P to the cost of those repairs, and B agreeing to a $Q payment discount (collectively Claims)

The recitals state that A has agreed to pay B $Z (excluding GST) (Total Sum) over and above the Contract Sum in full and final settlement of the Claims and inclusive of the cost sharing involved in the Management Strategy in respect of the Alleged Defects.

Clause 2 states that A agrees to pay B the Total Sum in full and final settlement of the Claims. Clause 3 states that B accepts the Total Sum in full and final settlement of all Claims and releases and discharges A from all actions, suits, claims etc. Clause 3 also states that, in consideration of B agreeing to the terms of the Deed, A releases and discharges B.

Clause 4 states that the Deed may be pleaded as a full and complete defence to any actions, suits or proceedings in connection with the Claims.

Submissions made by A:

In the ruling request it was submitted by A that GST was not payable as the payment was paid by A to resolve a disputes rather than in payment of a claim resolved by variation and paid on issue of a tax invoice by B.

A acknowledged that there was a taxable supply of the bridge but submitted that B's claims were not in respect of A's failure to pay any amounts pursuant to the contract for construction of the bridge but rather in respect of claims of damage allegedly suffered by B while undertaking construction of the bridge.

A submitted that paragraphs 109 and 110 of Goods and Services Tax Ruling GSTR 2001/4 applied. Paragraph 110 states:

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.

A submitted that the proper characterisation of B's claim was as a claim for damages which does not have a sufficient nexus with a supply.

Relevant legislative provisions:

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

Reasons for decision:

Section 7-1 of the A New Tax System (Goods and Services Tax) 1999 Act (GST Act), provides that GST is payable on taxable supplies. In order for a supply to be a taxable supply, that supply must meet the requirements of section 9-5 of the GST Act, which states that:

You make a taxable supply if:

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

(b)     the supply is made in the course of 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, the supply is not a *taxable supply to the extent that it is *GST-free or *input taxed.

(The asterisks indicate terms defined under section 195-1 of the GST Act).

'Supply' is defined in subsection 9-10(1) of the GST Act as any form of supply whatsoever. However, a supply of money is expressly excluded from the definition of supply by subsection 9-10(4) of the GST Act.

'Consideration' is defined in section 9-15 of the GST Act to include any payment in connection with, in response to, or for the inducement of a supply of anything and subsection 9-15(2A) states:

It does not matter:

(a) whether the payment, act or forbearance was in compliance with an order of a court, or of a tribunal or other body that has the power to make orders; or

(b) whether the payment, act or forbearance was in compliance with a settlement relating to proceedings before a court, or before a tribunal or other body that has the power to make orders

GSTR 2001/4 deals with the GST consequences of court orders and out of court settlements and discusses subsection 9-15(2A) as follows:

99. This provision negates any argument that the characterisation of a payment according to section 9-15 either as consideration for a supply or otherwise could be affected by the payment being made in compliance with a court order or settlement relating to proceedings before a court.

GSTR 2001/4 also states that the GST consequences of a court order or out of court settlement depend on whether a payment made under the order constitutes consideration for a supply and, if so, whether that supply is taxable, input taxed, or GST-free (Para 17).

Supply:

GSTR 2001/4 describes three types of supply which may be related to an out of court settlement (Paras 42-55:

· an 'earlier supply' (i.e. a supply that occurs before a dispute arises and is the subject of the dispute, for example a dispute between supplier and recipient over payment for a supply which is resolved through an out of court settlement pursuant to which the recipient pays all monies owed);

· a 'current supply' (i.e. a supply that occurs as part of resolution of a dispute, e.g. where there is a dispute over unauthorised use of a trade name which is resolved by the parties entering into an agreement authorising use of the trade name in future); and

· a 'discontinuance supply' (e.g. where a dispute involves counter claims and the terms of the out of court settlement provide for each party to release the other party from such claims and those releases may be characterised as supplies such as surrendering a right to pursue further legal action or releasing the other party from further obligations in relation to the dispute).

Did B make a supply in the present case?

In the present case the dispute between A and B evolved over time.

The Option 2 method used to calculate the claim for $Y million was based on actual and notional additional costs incurred by B in order to complete the project on time despite late award of the contact and problems accessing the site.

B then recast that claim as a claim for $Z million (a lesser amount) by applying the preliminaries tender allowance rate to assumed periods of delay related to late award of the contract and late possession of the site, plus additional costs allegedly incurred by B.

A rejected all of B's recast claim and the recitals to the Deed indicate that A subsequently identified two 'Alleged Defects' in the works undertaken by B in respect of which A and B agreed that B would undertake repairs, A would make a monetary contribution, and B granted A a payment discount.

In addition, an operative clause of the Deed states that, in consideration of A paying the Total Sum B releases A from all liabilities in connection with the Claims and in consideration of B entering into the Deed A releases B from all liabilities arising in connection with the Claims.

In our view the Deed identifies three possible supplies made by B:

· a 'current supply' whereby, pursuant to the Management Strategy in the Deed, B agrees to carry out repairs;

· an 'earlier supply', i.e. the defective construction in respect of which B agreed to grant A a Payment Discount; and

· a 'discontinuance supply' whereby B releases and discharges A from all actions, suits, and proceedings.

Taxable supply:

GSTR 2001/4 states that whether a supply related to an out of court settlement is a taxable supply depends on whether the requirements for a taxable supply set out in section 9-5 are met in relation to that supply. GSTR 2001/4 discusses the requirement for a taxable supply set out in paragraph (a) of section 9-5, i.e. that an entity makes the supply 'for consideration' (Para 76):

It follows that there are two elements to the definition of consideration. The first is the payment by one entity to another. The second element is the nexus that must be established between the payment and a supply.

GSTR 2001/4 then discusses whether a sufficient nexus exists between a payment made pursuant to an out of court settlement and a supply in relation to an 'earlier supply', a 'current supply' and a 'discontinuance supply' (Paras 100-109).

Is there a sufficient nexus between any supply made by B and the Total Sum paid by A pursuant to the Deed?

One view is that a portion of the Total Sum paid by A to B has a sufficient nexus with a 'current supply', i.e. the repair services which B agrees to supply pursuant to the Deed. If that is the case, B is required to account for GST in respect of that supply and A is entitled to request a tax invoice and claim an input tax credit. Similarly, a portion of the Total Sum is a discount granted by B to A in respect of the second Alleged Defect and a reduction to the Contract Sum paid by A for an 'earlier supply' made by B to A. If that is the case there is an adjustment event and B is required to issue an adjustment note, B has a decreasing adjustment (assuming B accounted for the GST paid in respect of the Contract Sum) and A has an increasing adjustment (assuming the A claimed input tax credits for GST paid in respect of the Contract Sum). Pursuant to this view the Total Sum would be apportioned.

An alternative view is based on the operative clause in the Deed which states that A agrees to pay B the Total Sum 'in full and final settlement of the Claims'. The Deed defines 'Claims' to include all claims A may have against B in respect of the contract, including the Alleged Defects and all claims B may have against A in respect of any work under the contract, including claims in respect of the Alleged Defects (excluding defence claims for any other warranty and/or defect claims raised by the Territory). These provisions of the Deed support the view that the Total Sum only has a sufficient nexus with a 'discontinuance supply' and should not be apportioned between a current supply, an adjustment in respect of an earlier supply, and a discontinuance supply.

GSTR 2001/4 discusses whether a payment made pursuant to an out of court settlement should be apportioned:

117. In the case of an out-of-court settlement, where the terms of the settlement include a dissection and itemisation of the payment into the heads of claim, that itemisation will be accepted as representing the amounts of these relevant parts to the extent that it is made on a reasonable basis.

118. Where no dissection is made, even though the payment has a sufficient nexus with more than one supply, or to a supply and an item of damages which is not a supply, the payment should be apportioned into amounts representing these relevant parts in order that the correct GST consequences result.

119. The apportionment should be determined by the parties on a reasonable basis. Where a payment is apportioned in a manner that cannot be justified in terms of reasonableness, the general anti-avoidance provisions of the GST Act may have application.

In the present case the Deed recites that the Total Sum paid by A to B is 'in full and final settlement of the Claims inclusive of the cost sharing of the agreed Management Strategy for the two Alleged Defects' and that A agrees to pay the Total Sum 'in full and final settlement of the Claims'. The Deed does not dissect the Total Sum. Applying paragraph 118 of GSTR 2001/4, apportionment of the Total Sum is therefore required only if the Total Sum has a 'sufficient nexus' with the current supply, earlier supply and discontinuance supply made by B discussed above.

Taking into account the manner in which the dispute between B and A evolved from a claim by B for $Y million against A to B and A agreeing that payment of the Total Sum (a lesser amount) by A to B is in full and final settlement of 'all Claims', we do not consider that any part of the Total Sum has a sufficient nexus with the current supply and earlier supply made by B discussed above. Although it was probably necessary, as both a legal and practical matter, to incorporate the Management Strategy into the Deed in order to ensure that the two Alleged Defects were rectified, it does not appear from the Deed that the Total Sum was specifically adjusted to reflect A's contribution and B's Payment Discount. Although a recital to the Deed states that the Total Sum is in full and final settlement of the Claims 'inclusive of the cost sharing of the agreed Management Strategy', the operative provisions of the Deed simply refer to payment of the Total Sum 'in full and final settlement of the Claims' and to the releases granted by each party (clause 3).

We therefore consider that, if the Total Sum has a sufficient nexus with any supply made by B, it can only have that nexus with a discontinuance supply, i.e. the release granted by B pursuant to the Deed. GSTR 2001/4 distinguishes between a case where a discontinuance supply merely adds finality to a dispute (Para 107) (in which case any payment does not have a sufficient nexus with that discontinuance supply) and a case where the only supply in relation to an out of court settlement is a discontinuance supply. The present case falls into the second category. GSTR 2001/4 states (Para 106):

Where the only supply in relation to an out-of-court settlement is a 'discontinuance' supply, it will typically be because the subject of the dispute is a damages claim. In such a case, the payment under the settlement would be in respect of that claim and not have a sufficient nexus with the discontinuance supply.

Based on paragraph 106 of GSTR 2004/1 we consider that the Total Sum paid by A to B pursuant to the Deed does not have a sufficient nexus with the discontinuance supply made by B pursuant to the Deed. Consequently the Total Sum is not consideration for a taxable supply.