Edited version of private ruling

Authorisation Number: 3011375755288

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Ruling

Subject: GST and adjustment amounts

Questions:

1. Is the Fifth Defendant's transfer of the Property to the Second Plaintiff under the Terms of Settlement a taxable supply?

Answer: No.

The transfer of the Property by the Fifth Defendant to the Second Plaintiff is not a taxable supply.

2. Is the dismissal and/or release of all claims by the Second Plaintiff a creditable acquisition by the Fifth Defendant?

Answer: No.

The dismissal and/or release of all claims by the Second Plaintiff is not a creditable acquisition by the Fifth Defendant.

Relevant facts and circumstances

Pursuant to a Writ of Summons, The First Plaintiff, The Second Plaintiff, The Third Plaintiff and The Fourth Plaintiff (together the 'Plaintiffs') commenced legal proceedings against The First Defendant, The Second Defendant, The Third Defendant, The Fourth Defendant and The Fifth Defendant (together the 'Defendants').

The First Plaintiff is the ultimate holding company of the Second, Third and Fourth Plaintiffs.

The Second Plaintiff is a private company that carries on the business of providing services to industrial companies.

The First Defendant was an executive director, employee and shareholder of the Second Plaintiff.

In addition, the First Defendant was also a director, secretary and shareholder of the Fifth Defendant.

The First Defendant entered into an agreement with the First and Second Plaintiff pursuant to which the First Defendant had resigned his employment with the Second Plaintiff and commenced performing services as a consultant to the Second Plaintiff on or about a particular date (the Consulting Agreement).

Subsequently, it was alleged by the Plaintiffs that the First Defendant, with the assistance of the Second, Third, Fourth and Fifth Defendant as the implied agents of the First Defendant established and operated a business in competition with The Second Plaintiff in breach of the Consulting Agreement and had caused significant loss and damage to the Plaintiffs including the particular business operated by the Second Plaintiff.

Accordingly, the Plaintiffs sued the Defendants for damages to recover this loss.

A specified date, the Plaintiffs and the Defendants to the Proceedings executed a Terms of Settlement (Terms of Settlement) whereby the Plaintiffs agreed to dismiss the Proceedings against the Defendants.

The terms and conditions contained in the Terms of Settlement are as follows:

By a later specified date, The Fifth Defendant will transfer to The Second Plaintiff (or its nominee) (the Transferee) free of all encumbrances the estate in fee simple in a particular property (the Property).

The Fifth Defendant will:

· pay all stamp duty on the transfer of the Property;

· not later than the later specified date, deliver to the Transferee an executed stamped transfer with the duplicate certificate of title, in registrable form; and

· do all things necessary to enable the transfer to be registered.

The First, Second and Fifth Defendants warrant that:

(a) The Fifth Defendant has good title to the Property; and

(b) The Fifth Defendant is and will be entitled to and will transfer the Property free of encumbrances.

In exchange for The Fifth Defendant's delivery of the Transfer and compliance with the obligations in clause 2 above, the plaintiffs will provide a duly executed memorandum of consent orders in the following terms:

(a) the Action be dismissed;

(b) there be no order as to costs; and

(c) all costs orders made in the Action be vacated, including the costs of any appeal

(d) and the solicitors for the First, Second and Fifth Defendants shall hold the memorandum of consent orders and shall not file it in Court until the Transfer has been registered.

If The Fifth Defendant fails to comply with its obligations in clause 2 above, The Fifth Defendant consents to judgment being entered in the Action requiring it to transfer the Property to the Transferee and the costs associated with obtaining and enforcing such judgment.

Subject to the Property being transferred to the Transferee, the plaintiffs release each defendant from all claims in the Action or in any way related to the matters the subject of the Action, including but not limited to claims relating to the Employment Agreement, the Consulting Agreement (as those terms are used in the Further Re-Amended Statement of Claim in the Action), the formation and operation of The Fourth Defendant and the acquisition of The Second Plaintiff.

The defendants hereby release the plaintiffs from all claims in any way related to the matters the subject of the Action, including but not limited to those claims specifically mentioned in clause XX above.

The plaintiffs and defendants covenant jointly and severally to keep the terms of this Terms of Settlement confidential and will not disclose the terms to any person or body unless required by law to do so, or for the purpose of obtaining legal or accounting advice from professional advisers.

The Fifth Defendant and the Second Plaintiff are registered for GST.

Your tax agent has further advised that:

· the original amount of the claim submitted to the court was $XX and the said amount was in respect of the claim as listed in paragraph YY of the Minute of Proposed Amended Writ of Summons

· the parties attended a mediation process in a particular month

· the Fifth Defendant has chosen not to settle in cash and has offered the Property for the out-of-court settlement.

The property transferred was valued at about $XX.

Reasons for decision

1. Under section 9-5 of the A New Tax System (Goods and Services Tax) Act 1999 (GST Act), an entity makes a taxable supply if:

(a) it makes a supply for consideration;

(b) the supply is in the course or furtherance of an enterprise that it carries on;

(c) the supply is connected with Australia; and

(d) the entity is registered or required to be registered for GST.

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

In this case, while there is a supply of the property, the supply will only be a taxable supply where all the requirements of section 9-5 of the GST Act are satisfied.

On the facts provided, the supply of the Property does not come within the input taxed provisions in Division 40 of the GST Act or the GST-free provisions in Division 38 of the GST Act.

The Fifth Defendant has supplied the property to The Second Plaintiff. The supply was made in the course or furtherance of its enterprise. As the property is located in Australia, the supply is connected with Australia. The Fifth Defendant is registered for GST.

Therefore, if The Fifth Defendant has made the supply for consideration, it has made a taxable supply.

Subsection 9-15(1) of the GST Act provides that 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.

In this case, The Fifth Defendant transferred the property to The Second Plaintiff in settlement of The Second Plaintiff's Action for Damages. There was no payment made by The Second Plaintiff for the transfer.

The Second Plaintiff agreed to have its Action dismissed. As explained in paragraphs 50 to 55 of Goods and Services Tax Ruling GSTR 2001/4 Goods and Services Tax: GST consequences of court orders and out-of-court settlements (GSTR 201/4), this is a discontinuance supply. This discontinuance supply was made to The Fifth Defendant as a consequence of the property being transferred. In other words, this is the only thing The Fifth Defendant received as a consequence of its transfer of the property to The Second Plaintiff.

Paragraphs 106,107 and 109 of GSTR 2001/4 state:

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.

107. In most instances, a 'discontinuance' supply will not have a separately ascribed value and will merely be an inherent part of the legal machinery to add finality to a dispute which does not give rise to additional payment in its own right. They are in the nature of a term or condition of the settlement, rather than being the subject of the settlement.

109. We consider that a payment made under a settlement deed may have a nexus with a discontinuance supply only if there is overwhelming evidence that the claim which is the subject of the dispute is so lacking in substance that the payment could only have been made for the discontinuance supply.

The dispute arose due to The Fifth Defendant's alleged breach of the Consulting Agreement. From the value of the property transferred, it is clear that the dispute was not lacking in substance. The Second Plaintiff ceased legal action because it received compensation (in the form of the property) for the damages it incurred. The transfer was wholly in respect of the damages claim.

As noted in paragraph 107 of GSTR 2001/4, the 'discontinuance supply is merely an inherent part of the legal machinery which does not give rise to additional payment in its own right. It does not have a separately ascribed value. This is explained further in paragraphs 80 to 81 of Goods and Services Tax Ruling GSTR 2001/6 Goods and Services Tax: non-monetary consideration (GSTR 2001/6):

80. As stated at paragraph 68, the test for determining whether a payment is consideration for a supply is whether there is sufficient nexus between the supply and the payment. Consideration for a supply may include acts, rights or obligations provided in connection with, in response to, or for the inducement of a supply. However, things such as acts, rights and obligations can often be disregarded as payments as they do not have economic value and independent identity separate from the transaction.

81. For a thing to be treated as a payment for a supply, it must have economic value and independent identity provided as compensation for the making of the supply. That is, it must be capable of being valued and be a thing that an acquirer would usually or commercially pay money to acquire. Whether this requirement is satisfied will usually be demonstrated by the parties to an arrangement assigning a specific or separate value to the thing. However, the assigning of a value by the parties is not necessary for a thing to have economic value.

For a thing to be treated as a payment for a supply, it must have economic value and an independent identity and be provided as compensation for the making of the supply. The understanding is that it must be capable of being valued and be a thing that an acquirer would usually or commercially pay money to acquire. In this regard, there is no commercial value in The Fifth Defendant paying The Second Plaintiff for a discontinuance supply outside of the alleged damages claim. The discontinuance supply had no value to The Fifth Defendant. Accordingly, the property was supplied by The Fifth Defendant for no consideration, regardless of the discontinuance supply that eventuated from the settlement.

As the property was supplied for no consideration, all of the conditions prescribed in section 9-5 of the GST Act have not been satisfied. Therefore, the supply of the property is not a taxable supply.

As the supply of the property is not a taxable supply, it is also appropriate to consider whether the Commissioner should exercise the residual discretion in section 105-65 of Schedule 1 to the Taxation Administration Act 1953 (TAA) to refund the overpaid GST to you.

Section 105-65 of the TAA provides that the Commissioner may not refund you if you have overpaid GST on a supply that is not taxable but you had originally treated it as taxable, if either you have not reimbursed the recipient the overpaid GST or the recipient is registered. The application of section 105-65 of the TAA is not limited to where the supplier, rather than the Commissioner, has made a mistake treating a non taxable supply as taxable (refer to paragraphs 54 to 58 of MT 2009/D1).

However, there is a residual discretion available within section 105-65 of the TAA, to ensure the legislation is applied fairly, whereby the Commissioner has the ability to grant a refund even though the supplier has not reimbursed the recipient and/or the recipient is registered (refer paragraphs 99 and 106 of MT 2009/D1.

Specifically, subparagraph 106(d)(ii) of MT 2009/D1 provides that if the overpayment of GST arises as a direct result of the actions of the Commissioner treating a supply as taxable and subsequently reversing that decision, then the residual discretion may be exercised.

In this case the overpayment of GST was as a direct result of the Commissioner's Private Binding Ruling which stated that the supply was taxable, a decision which the Commissioner subsequently reversed. Further, you would unfairly receive a windfall loss if the residual discretion within section 105-65 of the TAA was not exercised.

2. Section 11-5 of the GST Act defines the term 'creditable acquisition' and states that you make a creditable acquisition if:

(a) you acquire anything solely or partly for a creditable purpose

(b) the supply of the thing to you is a taxable supply

(c) you provide, or are liable to provide, consideration for the supply and

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

For the dismissal or release from all claims to be a creditable acquisition you must meet all of the above criteria.

It needs to be determined if there is a supply being made and if so whether there is a sufficient nexus between that supply and any consideration provided.

GSTR 2001/4 acknowledges that even where there is no earlier or current supply, because of the wide definition of a supply, out-of-court settlements can result in one or more new supplies being created.

Paragraph 51 of GSTR 2001/4 states:

51. Generally (it is suggested in most if not all cases), the terms of settlement, in finalising a dispute, will ensure no further legal action in relation to that dispute, provided that the terms of the settlement are complied with. This often takes the form of a plaintiff releasing a defendant from some (or all) of the existing claims and from further claims and obligations in relation to that dispute.

According to paragraph 54 of GSTR 2001/4, these conditions of settlement can create supplies for GST purposes. The supplies may be characterised as:

· surrendering a right to pursue further action - (paragraph 9-10(2)(e))

· entering into an obligation to refrain from further legal action - (paragraph 9-10(2)(g))

· releasing another party from further obligations in relation to the dispute - (paragraph 9-10(2)(g)).

These supplies are referred to as discontinuance supplies as per paragraph 55 of GSTR 2001/4.

In view of the above, as discussed before, the release by the Second Plaintiff from all claims in the action against the Defendants is considered to be a discontinuance supply.

However, whether a discontinuance supply will be a taxable supply will depend on all the conditions of section 9-5 of the GST Act being met, in particular consideration.

While it has been established that the Second Plaintiff's release of the Fifth Defendant from all claims is a discontinuance supply, it is necessary to determine if there is any consideration in relation to that supply.

It is acknowledged that the transfer of the Property by the Fifth Defendant to the Second Plaintiff could represent consideration. However the nexus element must be satisfied before it can be established that the Property constituted consideration for the Second Plaintiff's discontinuance supply.

GSTR 2001/4 confirms at paragraph 44 that the existence of a particular supply in relation to a given settlement will not necessarily mean a sufficient nexus exists between that supply and a payment made under the settlement.

Paragraphs 106 to 109 of GSTR 2000/4, as quoted before, discuss the nexus between the consideration paid under a court order or out-of-court settlement and a discontinuance supply.

It is considered that the Plaintiffs agreement to dismiss the Proceedings against the Defendants is a discontinuance supply that does not have a separately ascribed value. Therefore the transfer of the Property is not consideration for the discontinuance supply. Rather, it is compensation for damages incurred. As there is not sufficient nexus between the discontinuance supply and any consideration, there is no taxable supply being made under section 9-5 of the GST Act.

As the discontinuance supply represented by the agreement to dismiss the Proceedings against the Defendants is not a taxable supply, the Fifth Defendant has not made a creditable acquisition.