Private ruling: GST and apportionment
Published: March 2013
Ruling period: Not applicable.
Date scheme commenced: Not applicable.

Ruling: Q1: Is the proposed apportionment methodology to be used by each of the Funds considered fair and reasonable for the purpose of determining their extent of creditable purpose in accordance with section 11-30(3) of the GST Act? | A1: Yes, the proposed apportionment methodology is considered to be fair and reasonable for the purposes of determining extent of creditable purpose on acquisitions of the Funds that require apportionment.

Relevant facts and circumstances: XYZ Limited is an investment management entity which is the Responsible Entity (RE) for Fund Group 1 and Fund Group 2. In its capacity as RE, XYZ Limited provides investment management, administration and other services to the Funds. The Funds issue units to resident and non-resident investors. In addition, the Funds invest in domestic and international markets. All of the Funds are registered for GST and some of the funds exceed the financial acquisitions threshold ('FAT'), and are therefore not entitled to claim full input tax credits for GST included in acquisitions made that relate to some extent to making input taxed financial supplies. The various overseas instruments include traditional and discount securities, equities, bonds, fixed interest, forward foreign exchange, cash reserves, as well as investments in limited partnerships domiciled offshore. The Fund Group 1 have not historically utilised any apportionment methodology in calculating their entitlement to ITCs and/or Reduced Input Tax Credits ('RITCs'). Fund Group 2 have, however previously used an apportionment methodology based on unit-holder location and the location of the investments. Both Fund Group 1 and Fund Group 2 have recently conducted a review of apportionment processes and now wish to adopt the same proposed apportionment methodology across all of the funds. New Funds may be established in the future. It is intended that similar apportionment methodologies are to be adopted by any new Funds. In this regard, it is expected that additional requests for private binding rulings will be submitted as and when required for any new funds. Proposed apportionment methodology Fund Group 1 and Fund Group 2 intend to apply the same proposed apportionment methodology in order to determine their extent of creditable purpose. The approach that the Funds propose to adopt is described below: Step 1 - Determining the GST status of the Funds' operations. Two key activities are undertaken by the Funds, these being: 1. The issue and redemption of units to/from resident and non-resident investors; and 2. The supply and acquisition of interests in both domestic and offshore investments. The issue/redemption of units to/from domestic investors and the supply and acquisition of domestic investments are treated as the making of input taxed financial supplies. On the other hand, the issue/redemption of units to/from non-resident investors and transaction associated with offshore investments are treated as the making of GST-free supplies. Step 2 - Determine the extent to which acquisitions made by the Funds, such as investment management services, Responsible Entity services etc. relate to the issue of units and/or the making of investments. In this regard, and based on an analysis undertaken by the Funds, it has been determined that 85% of the RE's efforts are dedicated to providing investment management services, and the balance being 15% relates to activities associated with managing investors. Step 3 - Determine proportion of units held by non-resident investors, and determining the proportion of investments that are GST-free. This involves the calculation of the percentage of units held by offshore investors as a total of all units on issue by each Fund. In relation to the investments, this involves the calculation of the percentage of offshore investments (based on the value of the offshore investments compared to the total value of investments of each Fund). In relation to the percentage of offshore unitholders, where the percentage is immaterial, this is ignored for the purposes of calculating the apportionment recovery rate and all unitholders are treated as being residents of Australia. Step 4 - Calculate a 'weighted average recovery rate' that can be applied to those acquisitions of the Funds that indirectly relate to all supplies made by the Funds, such as RE services. This weighted average is determined using the following formula: Weighted Average = Offshore Investments x 85% + Offshore Held Units x 15% Total Investments Total Units The relevant recovery rates to be applied to the various acquisitions are then modified if required. For example, where a particular indirect acquisition qualifies as a reduced credit acquisition (RCA), the weighted average recovery rate calculation incorporates the 75% RITC entitlement. You have further confirmed that the 'Combined ARR and RITC' percentages in your workings applies only to RCAs that are acquired to some extent in relation to the making of GST-free supplies where the reduced input tax credit allowable is 75% The 75% RITC rate is applicable to those RCAs made prior to 1 July 2012, but will be modified to incorporate the requirements of new Item 32 of Regulation 70-5.02 (item 32) as applying to acquisitions from the RE from 1 July 2012. As advised, from 1 July 2012, acquisitions made by the Funds will be impacted by the operation of item 32 as the Funds are all considered to be Recognised Trust Schemes for the purposes of these new rules. However, as agreed with you, application of item 32 is not considered in this private ruling. For completeness, you advised that the proposed methodology is intended to cover apportionment of RCAs under item 32, and are presently in the process of determining the application of item 32 for acquisitions post 1 July 2012. You expect that the method to be adopted will be consistent with the Commissioner's guidelines as set out in the 'Question and Answer' document issued on 2 July 2012. The scope of this private ruling does not cover the method you are determining for item 32 acquisitions. As advised, in the context of the Funds, your understanding is that there is no system in place to directly allocate expenses to revenue streams and therefore, there does not appear to be a direct method available that would be a suitable proxy for determining the Funds' entitlement to input tax credits for GST included in RE services and other indirect costs. The Funds have therefore opted to use an indirect method to allocate the acquisitions to the various activities undertaken, and specifically with regard to the offshore investors and investments and the domestic investments and administration of the Funds in Australia. You submit that the proposed method chosen (as set out above) is a reasonable reflection of the use of the acquisitions by the Funds. You also believe it will provide a better estimate of the actual use of services acquired by the Funds. Other indirect methods may not necessarily produce a more accurate measure. You consider that other indirect methods based on revenue may be impacted by factors outside the control of those managing the investments (such as fluctuations in revenue derived from the investments), and therefore indirect apportionment methods based on such variables may not necessarily reflect the effort expended in managing the investments, nor produce an accurate estimate of the use of acquisitions. As such, in considering the most appropriate variable to use in calculating the extent of creditable purpose, for instance either 'revenue' or 'asset values', you submit that the asset value variable was considered more likely to provide a more accurate estimate of the use of acquisitions by the Funds. This is on the basis that the remuneration of investment managers is determined according to the asset values of the Funds, and is not determined by revenue, and therefore there is a clear link between RE fees and asset values. Additional information received The ATO received a response from you to our request for additional information. The additional information is summarised as follows: · Supplies that XYZ Limited makes to the Funds are limited to investment management, administration and other services. · The reference to 'other services' includes other services that are typically provided to REs to funds including trustee services, custody services, services in buying and selling investments and so forth. · The Funds do not make any other relevant supplies apart from issuing units to resident and non-resident investors and investing in domestic and international markets. · All of the Funds exceed the FAT. However, two funds invest wholly off-shore and all unitholders of those two funds are non-residents. Therefore the funds only make GST-free financial supplies. As these funds mentioned above are entitled to full ITCs, the apportionment methodology would not apply to acquisitions made by these entitles. However, as advised, if in the instance these funds do make input taxed financial supplies, then they propose to apply the same apportionment methodology as set out in this private ruling. The only input taxed supplies made by the Funds are financial supplies. Previously, the Fund Group 1 calculated their entitlements by claiming 75% RITC in respect of the Trustee and RE fees (including investment management fees) and also 75% RITC on Fund Administration and Custodian Fees. These are the main expense items incurred by the funds historically. Any other expenses would be considered on a case by case basis for eligibility for 75% RITC only although typically no ITCs had been claimed historically for other expenses. You confirmed our understanding that the proposed methodology is only applied to determine extent of creditable purpose for acquisitions of a Fund that are indirectly related to all the supplies made by that Fund (step 4 on page 6 of the submission). Furthermore, it is only proposed to apply the apportionment methodology to acquisitions indirectly related to all activities undertaken by the Funds as part of carrying on their respective enterprises, not any acquisitions that can be directly allocated to a supply or class of supplies. The acquisitions that will be subjected to the proposed apportionment methodology are: · RE Services · Fund administration · Audit Services · Taxation Compliance/Advice Services · Legal Services (where applicable). The proportion that RE fees represent as a percentage of total acquisitions varies from fund to fund and from period to period. The other services are charged directly to the funds and are not bundled into a single RE fee. You were asked to provide further detail on how you came up with the weighting figure of 85% for investments. You advised that in calculating the 85% figure your starting point was the contractual position in relation to the RE/Trustee Fee. For all funds for which portfolio investment management is sub-advised to an offshore investment manager there is a sub-advisory agreement in place and typically 70% of the total RE/Trustee Fee is paid to that offshore manager. You have also confirmed that all of the funds have a sub-advisory agreement in place. In terms of the remaining 30% of the RE/Trustee fee you considered the remaining services being carried out by the RE / Trustee and the activities of the personnel employed by the RE in carrying out those services. The conclusion reached was that 50% of the remaining activities related to managing investors and 50% related to managing investments. On that basis, 85% of the RE / Trustee Fee related to managing investments. You consider that this split is reasonable because investors agree to invest in your funds, from which the fees are paid, to benefit from your investment expertise and would consider little, if any, of this fee is paid with reference to administration of their interests. · The terms 'offshore investment' and 'total investment' referred to in the formula to Step 4 of the methodology are defined as follows: 'Offshore investments' are those investments made by the respective funds in traditional and discount securities, bonds, fixed interest, forward foreign exchange, Limited Partnerships etc that are issued by non-resident counterparties, or listed/traded on foreign exchanges outside of Australia. 'Total investments' relates to all of the investment made by the funds, including both offshore (as per the definition above) and domestic investments. · With regard to the choice of 'value' in the methodology you have advised that the value used to determine the amounts of both offshore and onshore investments has been applied consistently. In particular, the realisable value of the investments has been used to determine this. This is considered by you to be reasonable given the RE Fee is calculated with reference to this value. · You were asked if you had any opinion on whether the choice of 'value' may or may not be distortive. The analogy provided to you was that acquisitions that relate to a high-value offshore investment may well be GST-free but the investment could be made up of many, low-value investments on-shore; so it would follow that most effort, for example, may go to the onshore investment. In response, you advised the following: ….. …With regard to the analogy drawn in your question that most effort could be taken to be directed towards many, low value investments (irrespective of jurisdiction), we note that the larger, higher value investments contribute more to the overall return generated by the funds. As a result, and by necessity, the majority of effort is dedicated to managing and monitoring the larger investments. …

Relevant legislative provisions: A New Tax System (Goods and Services Tax) Act 1999 Section 11-5 | Section 11-15 | Section 11-20 | Section 40-5 | A New Tax System (Goods and Services Tax) Regulations 1999 | Regulation 40-5.09

Reasons for decision: Summary: Under section 11-20 of the GST Act, an entity is entitled to an input tax credit for any creditable acquisition that it makes. An entity makes a creditable acquisition under section 11-5 of the GST Act when that entity: (a) acquires anything solely or partly for a creditable purpose; and (b) the supply of the thing to the entity is a taxable supply; and (c) the entity provides, or is liable to provide, consideration for the supply; and (d) the entity is registered or required to be registered. Subsection 11-15(1) of the GST Act provides that you acquire a thing for a creditable purpose to the extent that you acquire it in carrying on your enterprise. Under subsection 11-15(2) of the GST Act however, you do not acquire the thing for a creditable purpose to the extent that: (a) the acquisition relates to making supplies that would be input taxed; or (b) the acquisition is of a private or domestic nature. Accordingly, to the extent that acquisitions made by a Fund for which XYZ Limited acts as RE are related to the making of supplies that would be input taxed, they are not acquired for a creditable purpose. Therefore, such acquisitions are not, to that extent, creditable acquisitions and that Fund is not entitled to input tax credits. The exceptions to this general rule in section 11-15 of the GST Act have been considered for the purpose of the methodology noted above. The Funds exceed the FAT provided for in subsection 11-15(4) of the GST Act and therefore any creditable purpose that could have been reinstated due to the operation of subsection 11-15(4) is not available. Furthermore, certain acquisitions of the Funds that relate to the making of financial supplies may attract a reduced input tax credit under Division 70 even though no input tax credit would arise under Division 11 where such acquisitions are RCAs. Note however, that this private ruling has not considered whether certain acquisitions made by the Funds are RCAs. Where a Fund makes an RCA, the methodology caters for this by application of the relevant 'combined ARR and RITC' rate. The discussion below concerns extent of creditable purpose under the basic rules of the GST Act and not the extended meaning of creditable purpose under Division 70 of the GST Act. The enterprises of the Funds involve making a combination of: · financial supplies that are input taxed; and · GST-free supplies. Where acquisitions made by a Fund is used or intended to be used only for a creditable purpose, such acquisitions are fully creditable and do not require apportionment. Similarly, where acquisitions made by a Fund is used or intended to be used only for a non-creditable purpose, these acquisitions are not fully creditable and the Fund is not entitled to claim input tax credits in relation to these acquisitions except to the extent that reduced input tax credits are available. However, there are acquisitions made by the Funds that are both for a creditable purpose (making GST-free or taxable supplies) and an input taxed purpose (making or intending to make financial supplies). These acquisitions are partly creditable and the amount of input tax credits to which a Fund is entitled on these acquisitions depends upon the extent of creditable purpose as provided for in section 11-30 of the GST Act. The phrase 'extent of creditable purpose' is defined in subsection 11-30(3) to mean 'the extent to which the creditable acquisition is for a creditable purpose, expressed as a percentage of the total purpose of the acquisition'. On this basis, an apportionment of these acquisitions would need to be made by the Funds to determine the extent of creditable purpose. Goods and Services Tax Ruling GSTR 2006/3: Goods and Services Tax: determining the extent of creditable purpose for providers of financial supplies (GSTR 2006/3) outlines the Commissioner's views on apportionment and the methods of calculating the extent of creditable purpose of your acquisitions or importations. Paragraph 44 states that: 44. For the purpose of claiming input tax credits, you need to estimate the extent to which the acquisition or importation is for a creditable purpose. This means that at the time of acquisition or importation, it is your planned use of the acquisition for a creditable purpose that is relevant in working out your input tax credit. You may estimate the planned use of the acquisition or importation based on: · records you already have available from a previous period; · records kept since you made the acquisition or importation, but before you lodge your BAS, including your actual use (full or partial) of the acquisition; · records kept for some other purpose of the enterprise, for example income tax, management accounting, profitability analysis, intra-entity transfer charging or cost accounting; · your previous experience concerning the usage of similar acquisitions; · your business plan; or · any other fair and reasonable basis. The ruling referred to the High Court judgement in Ronpibon Tin NL v. FC of T (1949) 78 CLR 47; AITR 236 and at paragraphs 73 and 74 noted the following in relation to apportionment: 73. Following the principles set out by the High Court, the method you choose to allocate or apportion acquisitions between creditable and non-creditable purposes needs to: · be fair and reasonable; · reflect the intended use of that acquisition (or in the case of an adjustment, the actual use), and · be appropriately documented in your individual circumstances. 74. If you allocate or apportion acquisitions or importations using a method which meets all these principles, the Commissioner will not consider the fact that you choose the method that gives the most advantageous result to be, of itself, an arrangement to which Division 165 applies. Methods of calculating the extent of creditable purpose are discussed in paragraphs 80 and 81 of GSTR 2006/3: 80. To calculate the amount of your input tax credits, you need to adopt a method of estimating the extent of creditable purpose of your acquisitions and importations. The requirement that your estimation is fair and reasonable in your circumstances is a prerequisite for any decision you make. 81. The Commissioner considers that the use of direct methods, including direct estimation … best accords with the basic principles explained above (see paragraph 73). If it is not possible or practicable to use a direct method, you may use some other fair and reasonable basis, including an indirect estimation method. The ruling discusses direct estimation methods at paragraphs 93 and 94: 93. Direct estimation methods are preferable to indirect estimation methods ………… particularly if the direct estimation method used involves a detailed measure of the intended (or actual) use of the acquisition or importation. Measures based on inherent characteristics of, or factors directly connected with, the acquisition usually give a fair reflection of the use of the thing. These factors are sometimes referred to in management accounting and costing systems as 'drivers'. 94. The use of such characteristics or factors provides an estimation of a direct link between the acquisition or importation and its (or its intended) application. Some examples of these factors and characteristics are (relevantly): · distance… · time… · volume… · space… · staff numbers (for example, measuring the actual use of acquisitions by identified staff). With regard to indirect estimation methods the ruling provides at paragraph103 that: 103. Indirect estimation methods may be appropriate in circumstances where there are overhead expenses that are not directly referable to particular supplies or activities. They may also be appropriate if the direct methods do not apportion acquisitions or importations to the level of supplies, or groups of supplies, that require different treatment for GST purposes. It may also be the case that the direct attribution of a large number of small acquisitions or importations is not cost effective. In all cases where indirect methods are used, the method chosen should be fair and reasonable in the context of your enterprise. The Funds may choose their own apportionment methods, but the methods chosen needs to be fair and reasonable in the circumstances of their enterprise and must appropriately reflect the intended or actual use of its acquisitions or importations. In this regard the Commissioner will accept any basis of apportionment of acquisitions which are applied indifferently to all supplies made, provided it is fair and reasonable in the given circumstances. In this case, the Commissioner considers that on the basis of the information provided, the methodology submitted is likely to provide a fair and reasonable basis for calculating the extent of creditable purpose for acquisitions of the Funds that require apportionment under Division 11 of the GST Act. The methodology is considered to be fair and reasonable in the circumstances applying at the time of issuing this ruling. If those circumstances should change you may be required to review this methodology to determine if it remains fair and reasonable.

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