Tag Archive for input tax credits

The Hire Purchase amendments – impacts for financiers and their customers

February 6, 2012 / Damian / No comments

On 17 January 2012 I posted about the proposed changes to the GST regulations dealing with supplies to trusts.  Also included in those Exposure Draft regulations (link) was the final piece of the puzzle for the substantial amendments to the GST rules for hire purchase (or “CHP”) transactions, to come into force from 1 July 2012.

This proposed regulatory change is coupled with the earlier Tax Laws Amendment (2011 Measures No.9) Bill 2011 currently before Parliament (link) intended to allow cash-based taxpayers (generally those with annual turnover of less than $2 million) to claim the input tax credits upfront on hire purchase transactions (currently they can only claim input tax credits progressively with each instalment). This is achieved by a legislative change that, for hire purchase transactions only, a cash-based taxpayer is able to claim input tax credits on a non-cash (or accruals) basis. Cash-based taxpayers had tended to turn to chattel mortgages since the GST was introduced, so this cash flow change may then cause a swing back to hire purchase financing for smaller businesses.

The proposed changes to the GST regulations in the recent Exposure Draft are intended to make the separately disclosed credit component of a hire purchase transaction taxable rather than input taxed. The interest and other finance charges (eg fees, and recovery of some types of costs) will therefore become subject to GST, by being specifically excluded from being input taxed financial supplies.

The draft legislation still appears to treat the credit component as a separate supply to the sale of the asset, and an interesting issue that then arises is the GST treatment of a credit supply for a hire purchase of GST-free goods (eg medical equipment). Is the credit supply also GST-free?

The GST on the separate credit supply will be attributable upfront, so that the 10% GST on the total expected interest and other finance charges over the term will be attributable (for both the financier and customer) to the first tax period in which any invoice is issued or payment is made (whichever is earlier) for that credit supply. The GST on the supply of the asset (the principal) will also be attributed upfront. The GST on ongoing independent services, such as maintenance of the asset, will however be likely to continue to be attributed to tax periods progressively over the term.

There are clearly cash flow and quoting implications for the financier. Typically financiers already include the GST component of the principal in the amount financed, and they may in future also finance the GST component of the credit charges. This then gives rise to GST on interest, then interest on GST, then GST on interest… and so on. It is expected that the GST calculation on these iterations will be allowed to be rounded in some way. Alternatively, instead of funding the GST, the financier could require payment by the customer of the full GST amount on the credit component upfront.

A further effect of the amendments will be on GST adjustments arising for both the financier and the customer on termination of a hire purchase agreement. Where GST is accounted for upfront and a hire purchase agreement is terminated, Division 19 GST adjustments will arise where the consideration for the upfront supplies has changed, along with Division 21 bad debt adjustments for instalments in arrears written off or overdue for 12 months. Currently these GST adjustments only apply to the principal component, but in future they will also apply to the taxable credit component.

In addition to a termination, any variation or refinancing which has the effect of changing the interest or fees to be received by the financier will also give rise to a GST adjustment on that credit supply for both the financier and the customer, eg where the term is extended or the contract is paid out early.

Financiers will need to develop methods to calculate and process these GST adjustments which they can claim from the ATO, and issue adjustment notes to their customers where required.  The customers may then be required to repay to the ATO a portion of the input tax credits previously claimed.

As with any tax law change the transitional rules will also be important. It would obviously be unreasonable for the law changes to apply to agreements already in existence. The proposed amendments will not apply to an agreement entered into before 1 July 2012 unless there is some variation or amendment that results in a new agreement. Financiers will have to look closely at whether particular types of variations or amendments do in fact result in a new agreement. When an agreement was actually entered into will also need to be considered carefully in respect of transactions close to 1 July 2012 and in respect of conditional contracts. The previous experience of dealing with the transitional rules for pre 1 July 2000 agreements may be of relevance.

There are clearly also input tax credit recovery implications for financiers on overhead costs due to the finance charges becoming taxable (and therefore creditable). Interesting issues may arise for post 1 July 2012 apportionment methods while pre 1 July 2012 hire purchase agreements are still in existence. What (if any) ongoing acquisitions will continue to relate to making input taxed financial supplies?

Where the asset financed is a luxury car, the Explanatory Memorandum to the Exposure Draft regulations confirms that in determining whether the Luxury Car Tax (LCT) threshold is exceeded you only look at the GST-inclusive price of the car, and not to the credit charges, recognising that the credit is a separate supply. The input tax credit recovery restriction for a luxury car will also only apply to the principal component.

Cash-based customers will in particular welcome the new rules. The change to making the credit supply taxable was supposed to simplify the GST treatment of hire purchase transactions, but at least in the transitioning to the new rules there will be considerable extra work for financiers to do to have systems and processes in place to correctly account for GST and process adjustments, and to prepare quotes and documentation to their customers. While it may be a few months until the Act is actually passed and the regulations made, with less than 5 months until the proposed changes come into force financiers need to be considering the implications now.

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Category: Financial services, GST administration / Tags: , , , , ,

New proposed RITC rate for trustee services

January 17, 2012 / Damian / No comments

The ATO has for some time been unhappy with the manner in which many trusts have been claiming 75% reduced input tax credits (RITCs) for GST incurred on services acquired through their trustee or responsible entity by “inappropriate bundling”. The Government announced in the May 2010 Budget that the law would be changed from 1 July 2012, and the proposed changes to the GST regulations were released on 13 January 2012 in an Exposure Draft (link).

Investment trusts are generally unable to claim input tax credits for GST incurred as they make input taxed financial supplies, although they can claim RITCs for 75% of the GST incurred on acquisitions listed in items in regulation 70-5.02(2) of the A New Tax System (Goods and Services Tax) Regulations 1999.  Many trusts have been claiming RITCs of 75% of the GST on every cost they incur, on the basis that they are part of “trustee services” within item 29 or “single responsible entity services” within item 31. Trusts can of course also claim normal input tax credits to the extent costs relate to their making taxable or GST-free supplies (if any).

While a trust is not a legal entity, it is effectively treated as an entity for GST purposes, being the trustee acting in its capacity as trustee of the trust (ie separate to its corporate/individual capacity). The trustee therefore acts in two separate capacities for GST purposes, and may make supplies and acquisitions in either of those two capacities.

Remuneration for trustees for their services and cost recovery arrangements can take many different forms depending upon the precise wording of the trust deed and associated documents. This could include:

  1. reimbursement out of the trust fund for expenses incurred, with or without an additional specific trustee fee
  2. trustee remuneration on a full cost recovery basis, with or without a mark-up
  3. a single amount (eg a fixed fee or a percentage of funds under management) covering both recovery of expenses and trustee remuneration.

What is the consideration for the acquisition of RITC-eligible “trustee services” by the trust in these scenarios?  In which of the two capacities is the trustee incurring external costs?

In the first scenario only the specific trustee fee would likely be consideration for supplying trustee services and covered by item 29, and the individual expenses would need to be separately examined for RITC-eligibility pursuant to other items in regulation 70-5.02(2).  Some of these expenses, eg advertising, tax compliance and audit expenses, would not by themselves be RITC-eligible.

However, arguably the expenses in the second and third scenarios above are effectively bundled into the trustee’s consideration for supplying RITC-eligible trustee services and so become RITC-eligible for the trust.  This is the distortion the proposed amendments are trying to redress.

The initial Government announcement was that the law would be changed to “unbundle” the trustee acquisitions in the bundled scenarios referred to above.  The Exposure Draft legislation now released however proposes an alternative option “favoured for simplicity and clarity” which introduces a new lower 55% RITC rate for trustee services.

New item 32 is proposed to be inserted into regulation 70-5.02(2) for services acquired by a “recognised trust scheme”, to the extent the services are performed on or after 1 July 2012. The services covered by item 32 are the acquisitions qualifying for the 55% RITCs.

Item 32 will only apply if the trustee carries on an enterprise in its own capacity that includes making taxable supplies to the recognised trust scheme, eg it will not apply where the trustee is not GST-registered in its corporate capacity. It also may not then apply if the trustee does not itself receive any remuneration for trustee services, eg in the first scenario above but where there is no specific trustee fee.

Also, specified services covered by other items will remain eligible for 75% RITCs, including:

  • brokerage services
  • investment portfolio management functions
  • certain administrative functions, and
  • custody services.

The 55% RITCs would appear to be available to the trust regardless of which of the two capacities the trustee originally incurred external costs in, although the need to determine the capacity in which the trustee incurs a cost is not completely removed by these proposals. For example, the trustee needs to know what to report on the Business Activity Statements prepared in its corporate capacity. Also, when a cost is incurred from overseas, the capacity in which the trustee incurs the cost may dictate whether the trust needs to reverse charge GST or the trustee needs to charge GST to the trust instead.

The result should then be that all GST-bearing services acquired the trust are eligible for either 75% or 55% RITCs, but there will still be some work to do to allocate costs between these two GST recovery buckets.

Note also that proposed item 32 only applies to a “recognised trust scheme”.  This is defined to be a managed investment scheme under section 9 of the Corporations Act 2001, or an approved deposit fund, pooled superannuation trust, public sector superannuation scheme or regulated superannuation fund (other than a self managed superannuation fund) within the meaning of the Superannuation Industry (Supervision) Act 1993.  Other types of trusts will still be subject to the existing rules.

While it will cover unregistered managed investment schemes as well as registered ones, there could be an issue as to whether all of the trusts (eg sub-trusts) in an investment trust hierarchy satisfy the Corporations Act definition and are therefore covered by item 32 as currently drafted.

Comments on these proposals close on 24 February 2012. Investment funds should closely examine the impact of these proposals, including how particular acquisitions would be classified from 1 July 2012 under these proposals, the potential financial impact, what system changes would be needed, and whether they wish to participate in the consultation process.

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Category: Financial services, Input tax credit recovery / Tags: , , , , ,
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