Edited version of your written advice

Authorisation Number: 1051189172211

Date of Advice: 27 February 2017

Ruling

Subject: Supply of a going concern

Question 1

Is the sale of the Property a GST-free supply of a going concern within the meaning of section 38-325 of the A New Tax System (Goods and Services Tax) Act 1999 (GST Act)?

Answer

No.

Relevant facts and circumstances

The Property comprises Lots 4 and 5 in DP.

The Vendors (as Grantors) and the Original Party (as Grantee) entered into a Deed of Put and Call Option (Original Deed) pursuant to which the Grantors granted a call option to the Grantee to purchase the Property and the Grantee granted a put option to the Grantor to require the Grantee to purchase the Property.

The Original Deed gave the Grantee the right to extend the Call Option Period (which was stated in the Original Deed to end in May 2015). The Vendors and the Original Party signed a Deed of Variation of Put and Call Option Deed dated May 2015 which deemed the Call Option Period to expire on the Extension Date (December 2016).

By an undated Notice of Nomination of Nominee the Original Party nominated the Purchaser as the nominee for the purpose of exercising the Call Option granted by the Vendors under the Original Deed. It was stated in the ruling request that this occurred on in December 2016.

By an undated Notice of Exercise of Call Option the Purchaser gave notice to the Vendors of exercise of the Call Option granted to the Original Party under the Original Deed. It was stated in the ruling request that this occurred in December 2016.

The Original Deed provided that as soon as the Call Option has been exercised a contract for the sale and purchase of the property in the form of the Contract annexed to the Original Deed will immediately be taken to be operative and effective.

The Contract states that the sale price of the Property is $ million and that the Property is sold subject to existing tenancies. The section of the front page which deals with GST states that the sale is a 'taxable supply in full' and the box which refers to the sale not being a taxable supply because the sale is the supply of a going concern under section 38-325 has not been checked. The Standard Conditions in the Contract include clause 13.4:

13.4 If this contract says this sale is the supply of a going concern -

13.4.1 The parties agree the supply of the property is a supply of a going concern

That Standard Condition is not stated to be deleted or modified by the Additional Clauses attached to the Contract, but the Additional Clauses include clauses 42 and 51 as follows:

42. GST

42.1 GST means any tax, levy, charge or impost implemented under the GST Act.

42.2 The cost of any supply under this Contract does not include GST. If the vendor is or will become liable to pay GST in respect of the sale or supply of the subject matter of this Contract, cost of any supply under this Contract will be increased so that after payment of the GST by the vendor the net amount retained by the vendor is the same as if the vendor was not liable to pay any GST in respect of that supply. The vendor may calculate GST using the method described in Division 75 of the GST Act and commonly known as the margin method or using the ordinary method. The GST Amount will be notified by the vendor to the purchaser before the date for payment of the Price and must be paid by the purchaser to the vendor to the purchaser before the date for payment of the Price and must be paid by the purchaser to the vendor in the same manner and at the same time as the rest of the cost of the supply.

43.2 This clause does not merge on completion of this contract.

51. If the purchaser makes application to the Australian Taxation Office for a private ruling and the Australian Taxation Office issues such a ruling to the effect that this sale is not a taxable supply then the parties agree that notwithstanding anything else herein contained this sale is not a taxable supply and the purchaser shall not be liable to pay to the vendors any funds in the nature of GST.

It was stated in the ruling request that the Vendors are carrying on an enterprise of leasing commercial premises and that the Property was leased out to various tenants prior to and after the date of the Original Deed, that the Property continues to be leased or available for lease and that the current leases will continue after the Completion Date of the Contract. Copies of the following Lease Agreements were attached to the ruling request:

A Lease Agreement signed in December 2016 in respect of Part Lot 4 and Part Lot 5 granted by the Vendors to H for a term of 6 months commencing 1 August 2016 with an option for the Lessee to renew for 12 months from 1 February 2017 at Total Term Rent of $ plus GST ($including GST per month), payments to commence as of 1 August 2016 in calendar monthly instalments to be made on the first day of each month in advance.

A Lease Agreement signed in December 2016 in respect of Part Lot 4 and Part Lot 5 granted by the Vendors to T for a term of 12 months commencing 1 January 2017 at an Annual Rent of $ plus GST ($per month including GST), payments to commence as of 1 January 2017 in calendar monthly instalments to be made on the first day of each month in advance.

A Lease Agreement signed in December 2016 in respect of Part Lot 4 and Part Lot 5 granted by the Vendors to C for a term of 12 months commencing on 1 July 2016 at an Annual Rent of $ plus GST ($including GST per month), payments to commence as of 1 July 2016 in calendar monthly instalments to be made on the first day of each month in advance.

A Lease Agreement signed in December 2016 in respect of Part Lot 4 and Part Lot 5 granted by the Vendors to G for a term of 12 months commencing 1 December 2016 at an Annual Rent of $ plus GST ($per month including GST), payments to be made in calendar monthly instalments on the first day of each month in advance.

A Lease Agreement signed in December 2016 in respect of Part Lot 4 and Part Lot 5 granted by the Vendors to E for a term of 12 months that commenced on 1 April 2016 at an Annual Rent of $ plus GST ($per month including GST), payments to commence as of 1 January 2017 in calendar monthly instalments to be made on the first day of each month in advance.

A Variation of Lease signed in April 2015 in respect of Part Lot 4 and Part Lot 5 granted by the Vendors to N for a term of 2 years 6 months and 16 days to expire on 31 December 2016 at an Annual Rent of $.

The Vendors have been registered for GST with effect from July 2000. The Purchaser has been registered for GST with effect from November 2016.

We asked the Vendors' adviser to provide copies of screen shots showing the payment of rent into the nominated bank account in respect of the Lease Agreements signed in December 2016. In an email the Vendors' adviser declined to provide copies of the screen shots and stated:

The purchaser advised that leases were signed on the same date because they were not happy with the terms on the original leases so they asked the vendor to revise the leases before settlement.

The Vendors' adviser also stated that the sale of the Property by the Vendors had settled in early February 2017 and provided copies of 'settlement calculations' and a letter from the Purchaser's solicitor to a bank directing the bank to draw a number of bank cheques for settlement. The settlement calculations attached to the e-mail treated the rent payable under the five Lease Agreements for the period 1 February to 28 February 2017 as unpaid and apportioned it so that the Vendors generally gave the Purchaser an allowance (i.e. a reduction in the amount payable by the Purchaser at settlement) for 25/28ths of the GST-exclusive monthly rental. The Vendors also gave the Purchaser an allowance for the security bonds paid under the Lease Agreements.

The Vendors' solicitor also confirmed to the ATO that the sale had settled, that the parties were relying on Additional Clause 51 as the written agreement by the supplier and recipient that the supply is of a going concern and that there was no document separate to the Contract but part of the arrangement which contained such a written agreement.

Relevant legislative provisions

A New tax System (Goods and Services Tax) Act 1999 38-325.

Reasons for decision

Summary

As paragraph 38-325(1)(c) of the GST Act is not satisfied, the supply of the Property by the Vendors to the Purchaser pursuant to the Contract is not the supply of a going concern which is GST-free.

Detailed reasoning

Section 38-325:

Paragraph 9-30(1)(a) of the GST Act provides that a supply is GST-free if it is GST-free under Division 38 of the GST Act. Division 38 of the GST Act includes section 38-325 which states:

(1) The *supply of a going concern is GST-free if:

(a) The supply is for *consideration; and

(b) The *recipient is *registered or *required to be registered; and

(c) The supplier and the recipient have agreed in writing that the supply is of a going concern.

(2) A supply of a going concern is a supply under an arrangement under which:

(a) The supplier supplies to the *recipient all of the things that are necessary for the continued operation of an *enterprise; and

(b) The supplier carries on, or will carry on, the enterprise until the day of the supply (whether or not as a part of a larger enterprise carried on by the supplier).

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

Goods and Services Tax Ruling GSTR 2002/5 (GSTR 2002/5) discusses a supply of a going concern for the purposes of section 38-325 of the GST Act and when the supply of a going concern is GST-free.

A supply under an arrangement:

Paragraph 19 of GSTR 2002/5 provides that the term 'supply under an arrangement' includes a supply under a single contract or supplies under multiple contracts which comprise a single arrangement provided that the things supplied under the arrangement relate to the enterprise referred to in paragraphs 38-325(2)(a) and (b) (the 'identified enterprise' - refer below).

In the present case the arrangement comprises the Contract and the supply under that arrangement comprises the Property subject to the existing tenancies.

Subsection 38-325(2) - identified enterprise:

Paragraph 21 of GSTR 2002/5 states:

21. Paragraphs 38-325(2)(a) and (b) require the conditions to be satisfied in relation to an 'identified enterprise'.

Paragraph 22 of GSTR 2002/5 refers to the definition of 'enterprise' in section 9-20 of the GST Act which provides that that an enterprise includes, among other things, an activity or series of activities done in the form of a business or on a regular or continuous basis in the form of a lease, licence or other grant of an interest in property. Paragraph 107A of GSTR 2002/5 provides that at identified enterprise may consist solely of the leasing of a property to a tenant or tenants.

In the ruling request the enterprise being carried on by the Vendor was described as the leasing of commercial properties. We consider that to be the identified enterprise for the purpose of subsection 38-325(2).

Paragraph 38-325(2)(a):

Paragraph 38-325(2)(a) of the GST Act requires that the supplier supplies to the recipient all of the things that are necessary for the continued operation of the identified enterprise.

Assets necessary for the continued operation of the identified enterprise:

The meaning of 'all things necessary is discussed in paragraphs 72 to 75 of GSTR 2002/5:

72. The term 'necessary' incorporates every attribute of an enterprise that is essential for the continued operation of the 'identified enterprise'. The things that are 'necessary' will depend on the nature of the enterprise carried on and the core attributes of that enterprise. The term 'all of the things that are necessary' does not refer to every conceivable thing which might be used in the 'identified enterprise'. Access to environmental factors, for example, access to public roads, public telephone systems and postal services, are not ordinarily things which must be supplied by the supplier.

73. A 'thing' is necessary for the continued operation of an 'identified enterprise' if the enterprise could not be operated by the recipient in the absence of the thing. For example, a boat may be essential to the conduct of the businesses of a professional fisherman, a water-ski instructor, a deep-sea diving instructor or a repairer of underwater structures because, in most instances, the relevant business could not be conducted at all without a boat.¹ The supplier must supply the boat for the continued operation of the enterprise.

74. The supplier is required to supply to the recipient all of the things that are necessary to carry on the 'identified enterprise' so that the recipient is put in a position to carry on the enterprise if it chooses.

75. Two elements are essential for the continued operation of an enterprise:

the assets necessary for the continued operation of the enterprise including, where appropriate, premises, plant and equipment, stock-in-trade and intangible assets such as goodwill, contracts, licences and quotas; and

The operating structure and process of the enterprise consisting of the commercial or economic activity relevant to the type of enterprise being conducted, for example, ongoing advertising and promotion.

Paragraph 107A of GSTR 2002/5 provides that where the identified enterprise consists solely of leasing a property, the supply of the property subject to the existing leases is all that is required to satisfy paragraph 38-325(2)(a) and that management and service contracts related to the lease are not things necessary for the continued operation of that identified enterprise.

In the ruling request it was submitted that, in accordance with the Contract, the Vendors will assign the obligations and benefits of the leases to the Purchaser upon Completion.

The front page of the Contract states that the Property is being sold to the Purchaser subject to existing tenancies. The Standard Conditions in the Contract deal with Tenancies and are modified by the Additional Clauses. The Standard Conditions oblige the Vendors to allow or transfer any remaining bond money or security (and the settlement calculations indicate that the Vendors chose to make an allowance) and oblige the Vendors to give the Purchaser a proper notice of the transfer of the Property addressed to the tenant. The Additional Clauses state that the Purchaser acknowledges that the Property is sold subject to the Tenancy (defined as the Tenancies listed in Annexure C), that the Purchaser accepts title to the Property subject to Tenancy and oblige the Vendors on completion to give the Purchaser any Tenancy Document in the Vendors' possession which the Purchaser is entitled to receive.

Based on the Standard Conditions and Additional Clauses in the Contract we consider that the Vendors supplied to the Purchaser all of the assets that are necessary for the continued operation of the identified enterprise.

Operating structure and process of the identified enterprise:

Paragraph 78 of GSTR 2002/5 provides that the structure and processes used by the supplier in the operation of the identified enterprise must be supplied to the recipient if the recipient is to be placed in a position to continue to operate the enterprise in the future.

Paragraph 79 of GSTR 2002/5 refers to factors such as the continuation of forward bookings or orders, the passing on of information relating to operation of the enterprise, introduction to existing clients and continuity of marketing arrangements.

In our view if the Vendors complied with the Standard Conditions (as modified) and the Additional Clauses in the Contract the structure and processes used in the leasing enterprise were supplied to the Purchaser and the Purchaser is in a position to continue to operate the leasing enterprise.

We therefore consider that the structure and processes of the identified enterprise are being supplied by the Vendor to the Purchaser under the Contract.

Paragraph 38-325(2)(b):

Paragraph 38-325(2)(b) of the GST Act requires that the supplier carries on, or will carry on, the enterprise until the day of the supply (whether or not as part of a larger enterprise carried on by the supplier).

Paragraphs 141 and 142 of GSTR 2002/5 provide that all of the activities of the enterprise must be active and operating on the day of the supply and must be capable of continuing after the transfer to new ownership and that a supply will not be a supply of a going concern where, on the day of the supply, the activity carried on by the enterprise has ceased.

Paragraph 161 of GSTR 2002/5 provides that the day of the supply is determined in each case by reference to the terms of the contract and is the date on which the recipient assumes effective control and possession of the enterprise carried on by the supplier. In the present case 3 February 2017 is the day of the supply.

It was submitted in the ruling request that the current leases will survive after the Completion Date and that the Vendors therefore will carry on the activities of the leasing enterprise until the day of the supply. We note, however, that Additional Clauses state that the Vendors do not warrant that a Tenancy is enforceable or legally binding or that a Tenancy will be in existence on Completion and that a Standard Condition which obliges the Vendors to carry on the identified enterprise in a proper and business-like way between the date of the Contract and Completion does not apply as it operates only if the Contract states that the sale is a sale of a going concern (which the Contract does not).

We were unsure whether paragraph 38-325(2)(b) was satisfied because the term of the Variation of Lease expired in December 2016, four of the Lease Agreements provided to us were signed in December 2016 and the fifth was signed one day before the Contract was entered into.

Paragraph 149 of GSTR 2002/5 provides that a supplier may carry on an enterprise to the day of supply for the purposes of paragraph 38-325(2)(b) during the period of commencement or termination of the enterprise but paragraph 150 of GSTR 2002/5 provides that a supplier is unable to supply all of the things necessary for the continued operation of the enterprise unless the relevant enterprise is not only being carried but is also operating. Paragraph 151 of GSTR 2002/5 provides that where a property has not previously been leased but is being actively marketed the leasing enterprise is not operating until at least one tenant enters into an agreement to lease or occupies the premises.

We asked the Purchaser's adviser to obtain from the Vendors and provide to us screen shots which confirmed the payment by direct bank transfer into the nominated back account of monthly rent under each Tenancy as specified in the Appendix to each Lease Agreement. That request was declined and the Purchaser's adviser stated that the Lease Agreements were entered into shortly before the date of the Contract because the Purchaser was unhappy with the terms of existing leases and asked the Vendors to revise them.

Subsection 38-325(1) of the GST Act:

Paragraph 38-325(1)(a) requires that the supply of a going concern is for consideration. The front page of the Contract states that the Price is $ million and an Additional Condition provides that the cost of any supply under the Contract does not include GST and that if the Vendors become liable to pay GST in respect of the supply of the subject matter of the Contract, the cost of that supply will be increased.

Paragraph 38-325(1)(b) requires that the recipient is registered for GST is required to be so registered. Paragraph 186 of GSTR 2002/5 provides that the effective date of registration of the recipient must be on or before the day of the supply. The date of the supply under the Contract is the Completion Date of the Contract (42 days from December 2016). We have confirmed that the Purchaser registered for GST with effect from November 2016 and remains registered.

Paragraph 38-325(1)(c) requires the supplier and recipient to have agreed in writing that the supply is of a going concern. Paragraph 181 of GSTR 2002/5 provides that 'agreed in writing' means that the supplier and the recipient have made a mutual declaration in such form that clearly evidences that they agree that the supply is of a going concern.

As noted above, Standard Condition 13.4.1 in the Contract provides that if the Contract says that the sale is the supply of a going concern then the parties agree that the supply of the property is a supply of a going concern. As the front page of the Contract states that the supply is a taxable supply which is taxable in full, Standard Condition 13.4.1 does not apply.

Additional Clause 51 in the Contract does not refer to the supply of a going concern. It merely provides that if the Purchaser applies for and the ATO issues a ruling 'that this sale is not a taxable supply' then:

…the parties agree that notwithstanding anything else herein contained this sale is not a taxable supply and the purchaser shall not be liable to pay to the vendors any funds in the nature of GST.

Paragraphs 181 and 182 of GSTR 2002/5 state:

181. The term 'agreed in writing' means that the supplier and the recipient have made a mutual declaration in such form that clearly evidences that they agree that the supply, being the supply under an arrangement of everything necessary for the continued operation of an enterprise, is a 'supply of a going concern'.

182. The supplier and the recipient must agree that the supply is a 'supply of a going concern' on or before the day of the supply.

It was submitted in the ruling request:

Whilst the parties don't expressly agree in writing regarding whether the supply is of a going concern, under Clause of the Contract of Sale, both parties will agree that the sale of the Property is a GST-free supply of a going concern provided a private ruling is issued confirming as such.

In our view Additional Clause 51 does not evidence that the Vendors and Purchaser have agreed that the relevant supply is a going concern. In fact Additional Clause 51, evidences the exact opposite, i.e. that the Vendors and Purchaser have not agreed that the sale of the Property is a supply of a going concern and will only agree that the sale of the Property is a supply of a going concern if the ATO issues a private ruling which confirms that that is the case. Consequently the Contract does not contain the written agreement required by paragraph 38-325(1)(c).

Paragraph 178 of GSTR 2002/5 provides that the agreement in writing that the supply is of a going concern 'need not necessarily form part of the arrangement under which the 'supply of the going concern' is made'. Thus it would have been possible for the Vendors and Purchaser to record the required agreement in writing in a document separate to the Contract provided that that written agreement had been made on or before the day of the supply, i.e. February 2017. In a telephone conversation on February 2017, however, the Vendors' solicitor confirmed that no such separate written agreement had been made.

For the reasons set out above, paragraph 38-325(1)(c) of the GST Act is not satisfied and the supply made by the Vendors to the Purchaser pursuant to the Contract is not the supply of a going concern which is GST-free.

¹ Case R63 84 ATC 457