Private ruling: GST and apportionment of success fees
Published: December 2011

Ruling: Q1: 1. Can Entity one apportion the success fees it paid across the different phases as described in example 3 of the ATO publication 'GST guide - claiming input tax credits on acquisitions made in connection with a merger and acquisition activity' (the Guide), in order to determine its input tax credits or reduced input tax credits? 2. Can Entity one claim full input tax credits on an appropriate proportion of the success fees, where Entity one was pursuing a GST-free supply of shares to a non-resident under Phase 2 and Phase 3 as described in the Guide? 3. Confirm that once the form of the transaction changed and the transaction became an input taxed sale of shares, Shine is not entitled to claim input tax credits on an appropriate portion of the success fees. 4. What are the appropriate methods for apportioning the success fees across the 3 phases? Is a time based method fair and reasonable to apportion costs that cannot be tracked to a specific phase? Decision: 1, 2 & 3 We are of the view that the success fees paid by Entity one relates to Phase 3 as provided in the Guide. Even though the success fees relates to Phase 3, Entity one may still apportion the success fee to claim input tax credit/reduced input tax credits in relation to creditable acquisitions/reduced credit acquisitions that they have made. This means that Entity one is not entitled to claim input tax credits on the portion of the success fee that relate to the period after a decision was made to issue shares to the Australian subsidiary of the non-resident. Entity one may be entitled to reduced input tax credits on this portion where applicable. 4. We have identified the following three distinct periods in Phase 3 o Period between when the letters of engagement were signed to when it was decided to sell part of the shares to a non-resident (period 1) o from when period 1 ended to when it was decided to sell all of the shares to an Australian entity (period 2) o from when period 2 ended to when success fees were paid Entity one may use the time spent by the consultants in each of the above periods to ascertain the appropriate amount of input tax credits or reduced input tax credits. Where a cost cannot be tracked to a specific phase, Entity one may use the same basis of time spent by the consultants in each phase to apportion those costs. Facts: · Entity two is a wholly owned subsidiary of Entity one. · Entity one began considering plans to expand the operations of Entity two's business. · Entity one engaged professional services of two service providers (consultants) to assist with or facilitate the transaction. · It is contended that the above included canvassing all possible options to expand their business, identifying preferred investors, representing Entity one in negotiations and finalising the transaction. The terms of their respective engagements were that these consultants would be remunerated by way of a monthly fee and a success fee based upon a successful sale or placement of an equity interest. · A non-resident investor was chosen as preferred investor. Negotiations initially proceeded on the basis that any sale or issue of shares would be to the non-resident. Later the non-resident notified Entity one that it wished to purchase only a portion of Entity one's share and the rest of its shareholding through an Australian subsidiary. New shares in Entity A were also issued. · The non-resident again notified Entity one that it wished to purchase all of its shares through an Australian resident company. · Upon successful completion of the transaction, the consultants were paid their success fees by Entity one.



Reasons for decision: Detailed Reasoning - Phases: The Guide discusses a merger and acquisition activity as comprising three broad phases. We are of the view that the success fees paid by Entity one to the two consultants related to Phase 3 for the following reasons. According to the Guide, Phase 3 (or the final phase) commences when the proposed manner in which the merger and acquisition will occur has been decided and extends through to the conclusion of the transaction. The Guides provides that Phase 3 includes: · activities where the form of the transaction has been determined but the deal has not yet been struck - for example, continuing due diligence, drafting of legal agreements, establishing necessary legal and regulatory approvals. By the time the letters of engagement were signed, Entity one had already made a decision to raise capital by way of issuing shares to a non-resident entity. It may be that Entity one engaged the consultants prior to signing the letters. However, the letters of engagement specifically states that the services to which the success fees relate to are in relation to the chosen investor and activities were in relation to that particular investment. Whilst there were some changes made as to who was purchasing the shares (ie: it was the Australian subsidiary of the non-resident entity as opposed to the non-resident), we are of the view that the success fees outlined in the letters of engagement relate to services that would generally fall under phase 3 according to the Guide. | Detailed Reasoning - Input tax credits: An entity is entitled to input tax credits where that entity has made a creditable acquisition. A creditable acquisition is defined in section 11-5 of the GST Act. Amongst other things a creditable acquisition is one that is made by an entity for a creditable purpose. Therefore, whilst the success fees in this case may relate to Phase 3, Entity one is still entitled to claim input tax credits for any portion of the consultants' fees that Entity one acquired for a creditable purpose (provided the rest of the requirements of section 11-5 of the GST Act are satisfied). Before we discuss whether the services of the consultants were acquired for a creditable purpose, it must be determined who acquired those services (in other words, it is necessary to establish here whether it was Entity one that acquired the services). Was it Entity one who acquired the services of the consultants? | Detailed Reasoning - Consultant - 1: According to the documents that are provided to the ATO, the agreement to provide the adviser service to which the success fees related to was between Entity one and consultant 1. The letter provides that the consultant will provide its services to Entity one. On that basis, we are of the view that Entity one acquired the services of consultant 1. | Detailed Reasoning - Consultant - 2: For commercial/contract law purposes it is taken that the agreement was taken to have been made between consultant 2 and Entity one, and that the consultants' services were considered to have been made by consultant 2 to Entity one. We consider that the services provided by consultant 2 were acquired by Entity one. | Detailed Reasoning - Was any of the service fees in relation to the share issue of OHPL?: It is contended that whilst it may be seen as if some part of the success fees were in relation to the share issue by Entity A, because the consultants were engaged by Entity one, it was Entity one who acquired the services and not Entity A. It is also contended that this situation is analogous to the 'grandma's flowers' example provided at paragraph 118 of Goods and Services Tax Ruling GSTR 2006/9. Therefore, on the basis that both consultants were engaged by Entity one and Entity A, we agree with the contention that in this instance, that the services provided by the consultants were made to Entity one (i.e. acquired by Entity one). | Detailed Reasoning - Did Entity one acquire the services of the consultants for a creditable purpose?: Generally, sale of shares is an input taxed financial supply under subsection 40-5(1) of the A New Tax System (Goods and Services Tax) Act 1999 (GST Act), where the requirements of sub-regulation 40-5.09(1) of the A New Tax System (Goods and Services Tax) Regulations 1999 (GST Regulations) are satisfied. Where a supply of shares is input taxed, any acquisitions that are made in relation to that supply that would be input taxed supply is not considered to be made for a creditable purpose as provided in paragraph 11-15(2)(a) of the GST Act. However, by virtue of subsection 38-190(1) of the GST Act, sale of shares to a non-resident who is not in Australia when the shares are issued is a GST-free supply. Goods and Services Tax Ruling GSTR 2002/2 states: 146. As discussed at paragraphs 51, 'thing' means anything that can be supplied or imported and therefore includes interests that are financial supplies. 147. A supply to a non-resident recipient is GST-free under subsection 38-190(1) if it is a supply made to a non-resident who is not in Australia when the thing supplied is done and: · the supply is neither a supply of work physically performed on goods situated in Australia when the work is done, nor a supply directly connected with real property situated in Australia; or · the non-resident acquires the thing in carrying on the non-resident's enterprise, but is not registered or required to be registered. Here, because there were some changes in intention in terms of who was purchasing the shares, it needs to be ascertained the extent of the creditable purpose in relation to the acquisitions that the success fees would relate to. We have identified three distinct periods in this regard. Period between when the letters of engagement were signed to when it was notified that part of the shares were to be acquired by an Australian resident entity (period one): On the basis that Entity one was of the view that it was selling 100% of the relevant shares to a non-resident who was not in Australia, we are of the view that the success fees that relate to this period would be for a fully creditable purpose. | Detailed Reasoning - From when period one ended to - when it was notified that all of the shares were to be acquired by an Australian resident entity (period two):: Entity one was advised that only part of relevant shares would be purchased by the non-resident that was not in Australia and the rest of the shares was to be purchased by the non-resident's Australian subsidiary. And then later Entity one was advised that 100% of the shares will be purchased by an Australian entity. Therefore, on this basis, it is our view that the success fees that relate to the above period would not be for a fully creditable purpose. In other words, to the extent that the success fees related to the issuing of the shares to the non-resident, that portion of the success fee would be for a creditable purpose. The rest of the success fee that relates to this period would be in relation to a non-creditable purpose, as the sale of part of the shares would be an input taxed supply of shares to an Australian entity (provided the requirements in sub regulation 40-5.09(1) of the GST Regulations are satisfied). | Detailed Reasoning - From when period two ended to when the success fees were paid (period three):: Later when Entity one was advised that 100% of the shares were to be issued to an Australian entity, Entity one became aware that it would be making a fully input taxed supply. Thus, any of the success fees that related to the period after than announcement was made, would not be in relation to a creditable purpose. Therefore, provided the rest of the requirements of section 11-5 of the GST Act are satisfied, we are of the view that Entity one is entitled to claim input tax credits as follows: | Detailed Reasoning - Period one: Full input tax credits to the extent that the success fees related to this period. | Detailed Reasoning - Period two: The percentage of the success fees that related to this period is only partly creditable. Entity one may be entitled to claim reduced input tax credits on the rest of the portion of the success fees that is not for a creditable portion if it can be ascertained that the acquisition of the consultants' services during this period was a reduced credit acquisition. | Detailed Reasoning - Period three: No input tax credits to the extent that the success fees related to this period. Entity one may be entitled to claim reduced input tax credits on this portion of the success fees, if it can be ascertained that the acquisition of the consultants' services during this period is a reduced credit acquisition. Therefore, whilst Entity one may not be able to attribute the input tax credits in relation to success fees outlined in the letters of engagement for a period before the letters were signed, Entity one is nonetheless entitled to apportion the fees as outlined above. | Detailed Reasoning - Apportionment methodology: Goods and Services Tax Ruling GSTR 2006/3 provides the Commissioners' views on determining the extent of creditable purpose for providers of financial supplies. GSTR 2006/3 lists the methodologies that may be used by Taxpayers to determine the relevant proportion of a cost (and thus the input tax credit/reduced input tax credit) amount that relate to making a creditable acquisition. Based on the information provided so far, we are of the view that a time based apportionment methodology, based on the times spent by the consultants during the three time periods as outlined above is appropriate in this instance to calculate Entity one's entitlement to input tax credits/reduced input tax credits for the success fees. We accept that the same proportion of time spent by consultants in each phase can be used as a fair and reasonable estimate to allocate the portion of the success fee that cannot be tracked to a specific phase. However, because we are of the view that the services in relation to the success fee were supplied as of when the letters of engagement were signed, it is not appropriate to attribute this amount to a phase before the letters were signed.

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