Edited version of your written advice

Authorisation Number: 1012919442732

Date of advice: 30 November 2015

Ruling

Subject: Goods and services tax ~~ Financial supplies ~~ Apportionment Methodology

Question 1

Is the apportionment methodology proposed by F Co set out in this application for PBR 'fair and reasonable' for determining the extent of creditable purpose for the purpose of Division 11 of the GST Act for enterprise cost acquisitions made by F Co?

Answer

Yes

Relevant facts and circumstances

F Co is in the business of providing financial supplies.

F Co is registered for GST on a non-cash (accruals) basis and lodges its Business Activity Statement (BAS) on a monthly basis.

Due to the definition of 'financial acquisition' within section 189-15 of the GST Act, F Co fails the Financial Acquisitions Threshold (FAT).

In carrying on its enterprise F Co makes a mix of taxable supplies/GST-free supplies and input taxed supplies. Specifically, the revenue earned by F Co is pursuant to the four key agreements relating to its financial supplies.

Since inception, F Co took the approach that acquisitions of enterprise costs it had made were not acquired for a creditable purpose as they related solely to making input taxed supplies. As such, no ITCs were claimed in respect of F Co's enterprise costs.

Agreement A

Agreement A provides that A Co (an entity that is not in Australia) is the provider of services and that F Co provides agency services to A Co to provide services at its locations within Australia.

F Co is entitled to commissions for each transaction initiated Service at F Co's locations across Australia on behalf of A Co. That is, A Co is the only entity contracting with the consumers.

A Co also grants the right to F Co to use A Co's transaction software and trademarks.

F Co is entitled to commissions for each transaction initiated at one of F Co's locations. The Commissions received by F Co are based on a percentage of the applicable fee charged to the customer by A Co for each transaction initialled at one of F Co's locations.

Under the Agreement A, A Co warrants that it:

• has no permanent establishment or presence in Australia

• is not currently registered for GST in Australia

• does not make supplies connected with Australia as determined by the GST Act.

Agreement B

Agreement B provides that B Co appoints F Co as its authorised representative solely for the purpose of the supply of products as B Co's agent.

Agreement B provides that B Co supplies or facilitates the supply of various products and services, and that F Co acts to make available for the benefit of its customers the various products and related services supplied by B Co.

B Co, on behalf of itself and the issuer, agrees to supply products, product materials and services to F Co. F Co makes the products available for sale to its customers in accordance with Agreement B.

The issuer under Agreement B is a bank.

Upon the supply of a product under Agreement B:

• A contract is formed between the customer and the issuer

• F Co and B Co act as facilitators, with F Co in its capacity as B Co's agent.

The products remain the sole and exclusive property of B Co and F Co does not acquire any right, title, or interest in any products.

B Co pays F Co a commission calculated as a percentage of revenue generated in relation to the products.

Agreement C

Under Agreement C, C Co provides services to F Co. Specifically, Agreement C provides that C Co will supply F Co using various distribution models depending on State, location and volume.

F Co earns revenue in the form of a margin that it makes between the rate it purchases from C Co and the rate charged to F Co customers.

C Co provides F Co with other ancillary services under Agreement C allowing F Co customers to order via the internet.

Agreement C provides that F Co will retain absolute ownership and responsibility of the customer, together with all/any associated regulatory/reporting obligations; and that F Co is in all cases the provider of the designated service and the reporting entity for the purposes of the Anti-Money Laundering and Counter-Terrorism Financing Act 2006.

Agreement D

Agreement D provides that D Co appoints F Co as its agent for the purpose of providing online ordering services to customers.

Agreement D provides that the online ordering services mean the supply to the customers, via the website, as agreed between the parties from time to time.

Under Agreement D, D Co operates and maintains the website which provides customers with the ability to order online. D Co has set up a modified version of its online ordering website to enable F Co to provide online ordering services to its customers.

F Co is paid revenue earned on sales that occur through the online ordering website sales.

Methods of apportionment

Number of transactions formula

F Co considered an apportionment methodology using the total number of transactions undertaken by F Co. Under this apportionment methodology, the GST on F Co's acquisitions would be allocated based on the number of input taxed and non-input taxed supplies made by F Co.

To allocate ITCs using this methodology F Co needed to count the number of supplies it makes that relate to predetermined categories. The categories were classified as relating to either a creditable or non-creditable purpose. Once the number of transactions undertaken was identified, GST would then be allocated to each category, and ITCs claimed on the GST allocated to the creditable purpose categories.

Broadly, the formula used to calculate the eligible creditable percentage can therefore be expressed as follows:

Number of Taxable and GST-free transactions undertaken by F Co

Total Number of Transactions undertaken by F Co

F Co engaged an external third party to extract the data required in order to determine the number of transactions it undertook classified as taxable, GST-free and input taxed. F Co then performed calculations using the number of transactions it undertook during the period 1 July 20XX to 30 June 20YY. F Co identified transactions that it undertook during the period ended 30 June 20YY, of which some related to non-input taxed activities of the enterprise. Accordingly, a percentage of the transactions undertaken by F Co's relate to its input taxed activities in Australia. The remaining percentage of the transactions undertaken by F Co related to its taxable supplies/GST-free supplies.

Applying a methodology as outlined above therefore allowed a creditable percentage of to be applied against all enterprise costs incurred by F Co. Similar to the revenue based methodology discussed in further detail below, this percentage reflects the fact that F Co is essentially an enterprise which undertakes a significant number of taxable/GST-free supplies. The difference between the creditable percentage derived under the number of transaction formula and the revenue formula (outlined below) is 0.89 basis points.

Time weighted number of transactions formula

Using only the number of transactions as a basis for apportionment methodology, however, does not take into account the comparative employee effort applied to the transactions undertaken. Accordingly, F Co also considered applying a time weighting to the transactions in order to provide an estimate of the F Co employee effort applied to each transaction. The formula used to calculate the eligible creditable percentage using a time weighting to transactions can therefore be expressed as follows:

Number of Taxable and GST-free time weighted transactions undertaken by F Co

Total Number of time weighted transactions undertaken by F Co

Based on the understanding of the administrative processes and procedures associated with performing A Co transactions, F Co considers that the employee time and effort associated with processing A Co transactions is likely to be approximately two times more than other transactions processed by F Co.

F Co applied this time weighting and calculated that it undertook a total number of time weighted transactions during the year ended 30 June 20YY, of which a percentage related to non-input taxed activities of the enterprise. Accordingly, under the time weighted transaction number formula a percentage of the transactions undertaken by F Co's relate to its input taxed activities in Australia. The remaining percentage of the transactions undertaken by F Co related to its taxable supplies/GST-free supplies.

This calculation therefore indicates that there is a relatively small difference between the time weighted and non-time weighted numbers which was only x.xx basis points. Further, the difference between the time weighted transaction number and the revenue formula outlined below is only x.xx basis points.

We note, however, that both the time weighted and non-time weighted formulae are limited by the availability of the underlying number of transactions processed by F Co across each transaction category and validation of the information on the time taken for the underlying time allocation mechanism (such as staff timesheets or diaries, or detailed computer usage information). Obtaining such transaction number information and time spent requires regular input from the business as well as the engagement of a third party service provider at a financial cost to F Co. Further, the ongoing monitoring of transaction numbers and time weightings would also result in a cost for F Co.

As such, F Co considers that an apportionment methodology based on number of transactions processed by F Co does not provide a suitable methodology for F Co to implement on an ongoing basis, albeit it is also considered that as there is only a relatively small difference in ECP percentage between this methodology and the revenue formula methodology that is proposed, the transaction number methodology provides support for the submission that the revenue formula is fair and reasonable.

Total transaction value formula

F Co also considered an apportionment methodology using the total value of the transactions undertaken by F Co. Under this apportionment methodology, the GST on F Co's acquisitions would be allocated based on the total value of taxable, GST-free and input taxed supplies made by F Co.

To allocate ITCs using this methodology F Co engaged an external third party to extract data that highlighted the total value of transactions undertaken by F Co relating to its taxable, GST-free and input taxed supplies. Once this information was extracted, ITCs would then be claimed on the GST allocated to the creditable purpose categories.

Broadly, the formula used to calculate the eligible creditable percentage can therefore be expressed as follows:

Total Transaction Value of Taxable and GST-free transactions undertaken by F Co

Total Transaction Value of Transactions undertaken by F Co

Using this methodology, F Co performed calculations based on the total value of transactions it undertook during the period 1 July 20XX to 30 June 20YY. F Co identified the total value of transactions during to the 1 July 20XX to 30 June 20YY period, of which an amount related to non-input taxed activities of the enterprise. Accordingly, under this methodology a percentage of the transactions undertaken by F Co relate to its input taxed activities in Australia. The remaining percentage of the transactions undertaken by F Co related to its taxable supplies/GST-free supplies.

As highlighted above for the transaction number formulae, obtaining the transaction value data required F Co to engage an external third party service provider at a cost. Further, the ongoing monitoring of total transaction value would continue to be costly and burdensome for F Co. As such, F Co considered that an apportionment methodology based on total value of transactions does not provide a suitable methodology for F Co to calculate its ITC entitlement in respect of all its general operating costs. This methodology is also, by definition, likely to give a different outcome depending on the movement in foreign currencies from day-to-day. Hence it is also for this reason that this methodology is not considered appropriate in these circumstances.

Revenue based formula

F Co then considered a revenue based formula as set out by paragraph 107 of GSTR 2006/3:

[Revenue* (other than revenue from input taxed supplies)

Total Revenue* (including revenue relating to input taxed supplies)] x 100

As its name suggests, a revenue based formula seeks to apportion overheads based on the portion of taxable or GST free revenue as a percentage of total revenue. Broadly, the formula used to calculate the eligible creditable percentage can therefore be expressed as follows:

Taxable Revenue + GST-free revenue

Total Revenue

F Co has included the following sources of revenue an in applying the above revenue based formula:

Taxable/GST-free Revenue consisting of:

• Commission revenue earned by F Co for certain sales under Agreement C

• Commission revenue earned by F Co under Agreement A

• Commission revenue earned by F Co under Agreement B

• Revenue earned by F Co under Agreement D.

Total Revenue consisting of:

• All Taxable/GST-free Revenue outlined above

• Commission revenue earned by F Co for the remaining sales under Agreement C

• Domestic interest income earned by F Co.

The proposed process for determining F Co's eligible creditable percentage under the revenue based methodology involves the following steps:

1. Directly allocate as many acquisitions as possible to creditable or non-creditable purposes

2. Determine the eligible creditable percentage for the period using the revenue based methodology outlined above

3. Applying the eligible creditable percentage obtained in Step 2 to any acquisitions that were not directly allocated to a creditable or non-creditable purpose in Step 1 (ie, F Co's enterprise costs).

From the revenue reports extracted from F Co's profit and loss statement, F Co has identified the total revenue during the period 1 July 20XX to 30 June 20YY, of which an amount was derived from non-input taxed activities of the enterprise. F Co identified this revenue by undertaking an analysis of specific general ledger (GL) accounts and determining the appropriate GST classification for each GL account.

Accordingly, for that period, a percentage of F Co's revenue relates to its input taxed activities. The remaining percentage of revenue is derived in relation to its taxable supplies/GST-free supplies.

Applying a revenue based apportionment methodology as outlined above therefore provided a creditable percentage of the remaining percentage to be applied against all enterprise costs incurred by F Co. It is submitted that this percentage appropriately reflects the fact that F Co is essentially an enterprise which undertakes a significant portion of income derivation from taxable supplies/GST-free supplies. As such, it is submitted that it is fair and reasonable for F Co to apply this recovery rate to calculate its ITC entitlement in respect of all its general operating costs.

For completeness, F Co also applied each of the above apportionment methodologies to data from the four previous years to generate a resulting ECP for each year. F Co also calculated an average ECP for each methodology based on this four years' worth of data. The ECP rates generated are fairly consistent/comparable from year to year. Further, the average of the ECP rates across the four year period is comparable with the ECP rate calculated for the period in question. This provides further support that the proposed revenue methodology produces a reasonable reflection of the use of F Co acquisitions between the taxable/GST-free and input taxed activities going forward.

Apportionment methodology to be used by F Co
The apportionment method proposed to be adopted by F Co is the revenue based formula stated above. It is submitted that this apportionment methodology applied by F Co should be considered a fair and reasonable method for the purpose of determining the extent of creditable purpose for its acquisitions. Further, it is submitted that the method should be acceptable to the Commissioner and is in accordance with the Commissioner's principles outlined in GSTR 2006/3.

This position is based on the following:

• The method is appropriate in allocating indirect costs across the types of supplies made, or to be made, by F Co.

• The method chosen produces a reasonable reflection of the use of F Co acquisitions between the taxable/GST-free and input taxed activities. We are also aware that the Commissioner has ruled in a number of edited PBRs that the use of a revenue basis of apportionment was a reasonable approach with respect to financial supply revenues.

F Co proposes to revise this apportionment methodology each year by collecting and reviewing the revenue reports at the end of a financial year and applying the revenue based formula to calculate the extent of creditable purpose for its acquisitions.

Where, during any financial year, F Co identifies a significant change, or an economic event which results in a distortion of revenue that impacts on the apportionment methodology, F Co will review the apportionment methodology to determine if it remains fair and reasonable.

To confirm if F Co is prepared to undertake annual retrospective calculation - F Co proposes to apply its previous year's apportionment rate to its current period acquisitions until such time that current year revenue data is available after year end. That is, F Co's previous year's apportionment rate will be used as a proxy for its current period ITC entitlement until the current year revenue data is available. F Co will then retrospectively apply the current year apportionment rate and make any necessary adjustments and Voluntary Disclosure to the ATO as part of the BAS preparation process.

Prior application of apportionment methodology to be used by F Co

F Co lodged a 'Notification of entitlement to GST refund form' to preserve its GST refund entitlement. In their letter the ATO acknowledged the receipt of this form and confirmed that F Co's notification was within the four year period outlined in section 105-55 of Schedule 1 to the TAA and that from 1 July 2012 onward the self-assessment system applies.

In accordance with the Commissioner's practice as outlined in Miscellaneous Tax Ruling MT 2009/1 this letter stated that the refund is expected to be made within three months of this notification and that the ATO originally expected F Co to make the claim by August 20YY.

In a subsequent telephone discussion of between the ATO and F Co, the ATO granted F Co with an extension to the time it expects F Co to make the claim to November 20YY.

It is submitted that F Co notified the Commissioner of its entitlement to ITCs within the appropriate timeframe as confirmed by the ATO letter. Accordingly, it is submitted that F Co can therefore apply the apportionment methodology outlined in this PBR application to claim ITCs for the monthly tax periods from quarterly tax periods from 2011.

Relevant legislative provisions

A New Tax System (Goods and Services Tax) Act 1999:

Section 11-5

Section 11-15

A New Tax System (Goods and Services Tax) Regulations:

Reasons for decision

Summary

Yes, based on F Co's overall circumstances as set out in this private ruling, the Commissioner considers that the revenue based apportionment methodology is fair and reasonable.

Detailed reasoning

Unless otherwise stated, all legislative references are to the A New Tax System (Goods and Services Tax) Act 1999 (GST Act) or the A New Tax System (Goods and Services Tax) Regulations 1999 (GST Regulations)

F Co (you) acquire a thing for a creditable purpose to the extent that you acquire the thing in carrying on your enterprise. However, you do not acquire a thing for a creditable purpose to the extent that the acquisition relates to making input taxed supplies.

You make financial supplies that are input taxed as well as taxable and GST-free supplies.

Where you incur GST on acquisitions that directly relate to the making of input taxed financial supplies, you will not be entitled to full ITCs. However, where you incur GST on expenses directly relating to the making of taxable supplies/ GST-free supplies, full ITCs may be claimed.

The use of the words 'to the extent' within the definition of 'creditable purpose' as outlined in section 11-15 requires an entity to apportion its acquisitions where those acquisitions relate to both taxable supplies/GST-free supplies and input taxed supplies. This is also reflected in the formula in subsection 11-30(3) (relating to acquisitions that are partly creditable).

The Commissioner's views on apportionment and the methods of calculating the extent of creditable purpose (ECP) are outlined in Goods and Services Tax Ruling GSTR 2006/3: Goods and services tax: determining the extent of creditable purpose for providers of financial supplies.

In your application, you have set out a comparison of four alternate bases for calculating your ECP:

• Number of transactions formula

• Time weighted number of transactions formula

• Total transaction value formula

• Revenue based formula

Each of the methodologies has a purpose of measuring the relationship between acquisitions and their intended use and each basis makes sense in the context of your enterprise.

In choosing a fair and reasonable method, we consider these questions and factors are important:

• Is the information accurate and complete?

• Is the information likely to change in the near future?

• Can you fully explain your business activities and consumption of acquisitions and resources? Have you documented this?

• Have you accurately determined the classification of supplies?

• Are there any distorting elements in the methodology?

• Do you apply the method consistently?

• Did you use assumptions in the methodology and can they be supported? Do they continue to be relevant over time?

• Is the method overly complex and burdensome and does it cause unnecessary compliance costs?

• Is the method sufficiently sophisticated and appropriate to the nature, size, complexity and resourcing of your business?

• Is the outcome consistent with your documented understanding of the business activities and relationship or connection between acquisitions and supplies made?

Without addressing each factor specifically, the facts set out in the private ruling show that you have completed an analysis and comparison between each of the four methodologies. While the overall ECP outcomes are within a fairly narrow comparable range, it is the compliance costs associated with the first three methods (engaging a third party service provider and ongoing monitoring) that make the revenue based formula the most appropriate in your circumstances.

The revenue based method does not require the adoption of any major assumptions and there appear to be no distortive factors impacting the outcome. Additionally, the ongoing costs of compliance are reduced through data being sourced internally by undertaking an analysis of specific general ledger (GL) accounts and determining the appropriate GST classification for each GL account.

Finally, you have shown a clear understanding of the GST treatment applicable to the supplies you make under each agreement.

The decision that your selected methodology is considered to be fair and reasonable is based on the information submitted and the circumstances applicable at the time of issuing this private ruling and as set out in the facts section above. If those circumstances change, you may be required to review the methodology to determine if it remains fair and reasonable.

Your private ruling application also made reference to ATO ID 2008/75 GST and a retrospective application of a changed apportionment method under Division 11. You have correctly identified that this ATO ID allows an entity to revise an earlier net amount by applying a new apportionment method which is fair and reasonable.