Private ruling: GST and insurance - decreasing adjustments, net amount and penalties
Published: September 2013

Ruling: Q1: 1. Confirm that the processes adopted by scheme agents by the insurer ('X') in relation to collecting the input tax credit entitlement ('ITCE') status of an insured and allocating a 100% ITCE (unless otherwise notified by the insured) will not result in X: (a) claiming a decreasing adjustment under section 78-10 of the A New Tax System (Goods and Services Tax) Act 1999 (GST Act); and (b) reporting an understated net amount under section 17 of the GST Act? 2. If there is an understated net amount in accordance with issue (1), is X liable for general interest charges (GIC) and administrative penalties under Schedule 1 of the Taxation Administration Act 1953 (TAA)? | A1: 1(a). The processes adopted by X (and scheme agents of X) for collecting ITCE status (notification) of the insured for the workers' compensation insurance and allocating a 100% ITCE for non-notification will not result in a decreasing adjustment under section 78-10 of the GST Act for X (or scheme agents of X). 1(b). The processes adopted by X (and scheme agents of X) for collecting ITCE status (notification) of the insured for the workers' compensation insurance and allocating a 100% ITCE for non-notification will not result in X (or scheme agents of X) reporting an understated net amount under section 17 of the GST Act. 2. As X (or scheme agents of X) has not reported an understated net amount in accordance with issue (1), X is not liable for general interest charges (GIC) and administrative penalties under Schedule 1 of the TAA in relation to the processes adopted for determining ITCE of the insured (as outlined).

Relevant facts and circumstances: A workers' compensation insurer (X) acts as an insurer and manages an insurance fund in accordance with the Workers Compensation Act 1987 . X is registered for goods and services tax (GST). Scheme agents issue and administer policies of workers' compensation insurance on behalf of X. Scheme agents are registered for GST in their own right, and also as a GST branch of X for activities they undertake on behalf of X. Scheme agents are limited to acting in accordance with the directions and control of X under agency arrangements. Micro employers (based on a certain low threshold) and the vast majority of households are excluded from paying a worker's compensation premium. The vast majority of employers with a policy carry on a business, are registered for GST and are entitled to claim input tax credits in full, that is, they have an input tax credit entitlement (ITCE) of 100%. This differentiates workers compensation insurance from other types of insurance where individuals and businesses may hold policies. X advises that out of over XXX employers covered by the workers compensation scheme, less than 1% of employers report wages in excess of $75,000 per annum and declare an ITCE of less than 100%. The majority of these employers are in the financial services industry or have claimed that they are not registered for GST. There is a process in place to make reasonable attempts to validate the accuracy of claims by employers that they have an ITCE of less than 100% which is outlined later. Process for calculating and collecting premium Premiums are determined by way of a statutory formula. The calculation is based on a number of factors, including the total sum of wages paid, claims made, the industry in which the insured operates (code) and the insured's ITCE in respect of premium. Process for collecting the ITCE of the insured The scheme agent requests the ITCE of the insured on commencement and renewal of the policy. The Workers Compensation Regulation 2010 provides that an insured must notify a scheme agent of its ITCE prior to the commencement of a policy. However, in practice, it is advised that the insured often notifies the scheme agent of its current ITCE when the insured provides its estimated wage declaration. This declaration does not need to be provided until two months into the period of insurance. The scheme agent may take up to a further month to process the wage declaration and ITCE. Once obtained, the scheme agent applies an insured entity's ITCE for the policy period, for the purposes of determining any premium discount to which the insured may be eligible and for determining the decreasing adjustment on claims (where the event giving rise to the claim occurs in the period). The ITCE allocated as part of the policy initiation process or, if later, that is declared in the prior year, each of which has already been subject to the scheme agent's validation, is applied throughout the new period of cover until the employer provides their current ITCE as part of the declaration of estimated wages required when policy is renewed. X advises that if the insured does not provide an estimate of wages or does not provide their ITCE, an ITCE of 100% is applied and no decreasing adjustments are claimed for claim payments that relate to claims arising from that policy period, pursuant to Division 78 of the GST Act. The scheme agent makes attempts to obtain the ITCE of the insured, at a number of stages, including: · at commencement of the policy; and · on annual renewal of the policy (as part of the declaration of estimated wages for the current year). In the majority of cases, the scheme agent successfully obtains the ITCE of the insured. In circumstances where the insured does not provide its ITCE to the scheme agent, the scheme agent, at the direction of X assumes the employers ITCE is 100% for the policy for the new period of insurance in their policy system and accordingly does not: claim a decreasing adjustment on payments made in settlement of a claim relating to that period of insurance; or provide a premium discount based on the ITCE of the insured. A discount of up to X% of the policy price, calculated on a sliding scale, is available based on an insured entity's ITCE. The rationale for the discount is that X will have a decreasing adjustment on payment-made in settlement of claim, reducing the claims cost. Further, the discount provides an incentive to the insured to provide its ITCE where the ITCE is less than 100%. There is another, further discount available to large employers whose premium is partially based on cost of claims, as the cost of claims is reduced by the estimated level of decreasing adjustment able to be claimed. Changes to the process of collecting ITCE from {date} 2013 for small employers For policies commencing from {date} 2013, revised practices apply for those employers with a base tariff premium of less than $Y. These policies are classified as small employers and their policies are automatically renewed without any entitlement to an ITCE discount unless they advise the scheme agent of a reduced ITCE and provide supporting evidence before the expiry of their existing policy. This requirement applies even if the employer had an ITCE of less than 100% in the prior year. Checks where less than 100% ITCE are claimed by employers Where an insured notifies a scheme agent that its ITCE is less than 100%, the scheme agent undertakes a validation check (in accordance with instructions from X) to ensure that the ITCE is reasonable. Contractually, scheme agents are required to comply with the following process: The scheme agent is required to have review mechanisms to ensure that where an employer advises that they are not entitled to a full ITC, that this view is soundly based. Review mechanisms should include: (a) declared wages are less than the level of payments required of an employer for it to be required to be registered for GST - $75,000 (b) policy is for domestic purposes (c) ensuring that the code that the employer is included in is one that normally is not entitled to a full ITC or is in an industry such as banking where the ITCE entitlement is between 0% and 100%. (d) questioning any policy where the employer has advised that their ITCE is 10% as this may indicate that the employer has confused the ITCE rate with the GST tax rate An employer's ITCE can change during the period of a policy in line with changes to its operations. However for administrative simplicity and given the policy discount is only determined once each policy period, the rate applying at the start of the policy period is assumed to apply for all claims in the forthcoming 12 months. Accordingly, it is essential that the scheme agent seeks an employer's ITCE and advises the employer of the consequences of notification of a less than 100% ITCE including that they may be liable for penalties. An employer falsely declaring a less than 100% ITCE is liable to penalties under the Workers Compensation Act 1987 as they have received a premium discount they were not entitled to. Targeted wage audits of employers are conducted and as part of this the accuracy of premium including wages declared and industries covered is examined together with any discounts given including those related to ITCE of less than 100%. The process for checking the ITCE of the insured is currently under review by X with a view to further tightening checks to be undertaken including restricting an ITCE of less than 100% to certain industries unless wages are less than $75,000, evidence from the ATO is provided or X approval is received. Scheme agents are contractually required to supply all policy details to the X on a monthly basis. Periodically the X also undertakes a review of all policies where: · the ITCE is less than 100%; · declared wages under that policy are more than the GST registration threshold ($75,000); and · the industry that the employer is in is not one where an ITCE of less than 100% would be expected (for example banking and financial institutions). In addition, particular focus is placed on policies where an ITCE of 10% is advised. A sample of items identified through the review is referred to scheme agents for detailed investigation, and all items are required to be reviewed if material error levels are detected. X advises that as an alternative to adopting a process that applies a 100% ITCE in circumstances where attempts to obtain an ITCE are unsuccessful, insurers could withhold payment of claims pending receipt of the ITCE from the insured. However, X advises that it is not legally in a position to withhold payments or treatment to injured workers pending receipt of the ITCE of the insured/employer. It is advised that doing so would be contrary to the nature of the worker's compensation scheme. X has an obligation to provide compensation and treatment to an injured worker in a timely manner. X advises that its calculation of its net amount is broadly the GST payable on premiums less input tax credits on acquisitions and input tax credits on settlement of claims plus (or reduced by) any decreasing adjustments made in settlement of claims and any other adjustments. X informed that the calculations general results in a positive net amount (that is, an amount is payable to the ATO).

Relevant legislative provisions: A New Tax System (Goods and Services Tax) Act 1999 Division 78 | A New Tax System (Goods and Services Tax) Act 1999 Section 78-10 | A New Tax System (Goods and Services Tax) Act 1999 Section 78-15 | A New Tax System (Goods and Services Tax) Act 1999 Section 78-100 | A New Tax System (Goods and Services Tax) Act 1999 Section 78-105 | A New Tax System (Goods and Services Tax) Act 1999 Section 195-1 | A New Tax System (Goods and Services Tax) Regulations 1999, Schedule 10 | Taxation Administration Act 1953, Schedule 1

Reasons for decision: Detailed Reasoning - Issue 1(a) - Decreasing adjustments: The insurance provisions in Division 78 of the A New Tax System (Goods and Services Tax) Act 1999 (GST Act) are designed to ensure that an insurer will only pay GST on the value of services provided by the insurer. The legislation measures the value of the insurance services by imposing GST on the full amount of the premiums collected by the insurer and then reducing the insurer's GST by way of a decreasing adjustment under section 78-10 of the GST Act. Goods and Services Tax Ruling GSTR 2006/10 covers insurance settlements and entitlement to input tax credits. In relation to workers' compensation, paragraphs 116 and 177 of the GSTR 2006/10 state: | Detailed Reasoning - Workers' compensation: 116. Payments towards or under a workers' compensation scheme (and any settlement under such a scheme) are treated in the same manner as payments for an insurance policy (and a settlement of a claim under an insurance policy). This is only the case if the cover offered by the scheme is within the definition of an 'insurance policy' in section 195-1 or listed in Schedule 10 of the A New Tax System (Goods and Services Tax) Regulations 1999 as a 'statutory compensation scheme'. 117. If an employee makes a compensation claim against the employer and the employer's workers' compensation insurer accepts liability for the workplace injury, then the insurer may pay for certain goods and services to be provided to the employee. The same issues in relation to the payment of similar benefits as for other general insurance settlements arise. Whether the payment is subject to Division 11 or Division 78 depends on whether there is a binding obligation between the insurer and the supplier to provide goods and/or services to the insured's employee or a pre-existing framework or agreement between the insurer and the supplier (see paragraph 64B of this Ruling) which results in a supply being made by the supplier to the insurer. X's worker's compensation scheme under the Workers Compensation Act 1987 is a statutory compensation scheme in accordance with section 78-105 of the GST Act, and pursuant to subsection 78-100(1) of the GST Act, Division 78 of the GST Act applies in relation to a payment or supply made in settlement of a claim for compensation under this statutory compensation scheme in the same way that it applies to a payment or supply made in settlement of a claim under an insurance policy. We note that Division 78 of the GST Act is only applicable where the insurer has not made a creditable acquisition under Division 11 of the GST Act. For the purposes of this ruling, the insurer would need to determine for each settlement if it makes a creditable acquisition under Division 11 of the GST Act. If the insurer makes a creditable acquisition, it will be entitled to an input tax credit and there will be no decreasing adjustment under Division 78 of the GST Act. For further information on the application of Division 11 of the GST Act, refer to paragraphs 31 and 32 of GSTR 2006/10. | Detailed Reasoning - Division 78: Subsection 78-10(1) of the GST Act provides that an insurer is entitled to decreasing adjustments if, in settlement of a claim under an insurance policy, the insurer: (a) makes a payment of money; or (b) makes a supply; or (c) makes both a payment of money and a supply. The facts indicate that X acts as an insurer and manages the insurance fund in accordance with the Workers Compensation Act 1987 . Scheme agents issue and administer policies for workers compensation insurance on behalf of X, and therefore X (or the relevant GST branches of X, being the scheme agents) may be entitled to a decreasing adjustment in relation to a settlement of a claim. When the insurer (being X/scheme agents of X) settles an insurance claim by way of payment of money to the insured or a third party, or reimburses the insured or a third party for costs incurred, or to be incurred, then the insurer may be entitled to a decreasing adjustment if all the requirements under subsection 78-10(2) of the GST Act are satisfied. Subsection 78-10(2) of the GST Act applies if: (a) the supply of the insurance policy by the insurer was solely or partly a taxable supply; and (b) either: (i) there was no entitlement to an input tax credit for the premium paid in relation to the period during which the event giving rise to the claim happened; or (ii) there was an entitlement to such an input tax credit, but the amount of the input tax credit was less than the GST payable by the insurer for the taxable supply; and (c) the insurer settles the claim for a creditable purpose; and (d) the insurer is registered or required to be registered for GST; and (e) the settlement does not relate solely to one or more non-creditable insurance events. | Detailed Reasoning - Paragraph 78-10(2)(a) - Taxable supply: Insurers will only have a decreasing adjustment on settlements that relate to the taxable part of a policy. Where the supply of a policy is solely GST-free or input taxed, there will be no decreasing adjustment on settlement of a claim. GST is payable on a taxable supply. The facts indicate that X satisfies all the requirements of a taxable supply under section 9-5 of the GST Act because: (a) X (via the scheme agents of X) supplies a right under the contract for insurance (for the coverage of a risk of specified events occurring during a specified period) in return for consideration by way of payments (premiums); (b) The supply is made in the course of its enterprise (business); (c) The supply is connected with Australia as the right is created in Australia or is made through an enterprise that X carries on in Australia; and (d) X and the scheme agents (being the GST branches of X) is/are registered for GST. Further, there are no provisions under the GST Act or any other legislation under which the supply of the workers' compensation insurance policy is input taxed or GST-free. X (via the scheme agents) is or would be charging GST on the insurance premiums payable for the supply of the workers' compensation insurance policy. Accordingly, the supply of the policy by X (or scheme agents of X) is taxable, and the requirement of paragraph 78-10(2)(a) of the GST Act is satisfied. | Detailed Reasoning - Paragraph 78-10(2)(b) - Entitlement to ITCs: The requirement under paragraph 78-10(2)(b) of the GST Act requires the input tax credit entitlements (ITCE) status of the insured to be determined. Paragraphs 20 and 21 of GSTR 2006/10 state: 20. The insurer is entitled to a decreasing adjustment if the insured is not entitled to an input tax credit on the premium it pays under the insurance policy. The amount of the decreasing adjustment is equal to 1/11th of the settlement amount. 21. The insurer is also entitled to a decreasing adjustment if the insured is entitled to an input tax credit on the premium it pays under the insurance policy, but that input tax credit is less than the GST payable on the premium. The amount of the insurer's decreasing adjustment is reduced if the insured has a partial entitlement to input tax credits on premiums paid. This would occur where the insurance policy was acquired only for a partly creditable purpose. The amount of the decreasing adjustment is also reduced to the extent (if any) the settlement relates to a non-creditable insurance event. An entity makes a creditable acquisition under section 11-5 of the GST Act if: · the entity acquires anything solely or partly for a creditable purpose; · the supply of the thing to the entity is a taxable supply; · the entity provides, or is liable to provide, consideration for the supply; and · the entity is registered or required to be registered. Under subsection 11-15(1) of the GST Act an entity acquires a thing for a creditable purpose to the extent that the entity acquires it in carrying on its enterprise. However, an entity does not acquire a thing for a creditable purpose to the extent that the acquisition relates to making input taxed supplies, or is of a private or domestic nature. For the workers' compensation scheme we look at the ITCE of the employer who is the recipient of the supply of the policy to determine if the requirement in paragraph 78-10(2)(b) of the GST Act is satisfied. This is discussed in Examples 11 to 18 in paragraphs 116 to 139 of GSTR 2006/10. Where an employer does not satisfy all the requirements of a creditable acquisition, and is not entitled to claim input tax credits, or is entitled to input tax credits of less than the GST payable by the insurer, for the premiums paid under the policy, paragraph 78-10(2)(b) of the GST Act is satisfied, and X (or GST branches of X) may be entitled to a decreasing adjustment where the other requirements of section 78-10 are satisfied. Alternatively, where an employer satisfies all the requirements of a creditable acquisition, and is entitled to claim full input tax credits for the premiums paid under the policy, paragraph 78-10(2)(b) of the GST Act is not satisfied and there is no decreasing adjustment. The insurer will be relying on the information from the insured in order to determine its adjustment entitlement under Division 78 of the GST Act. X outlines the processes it has adopted for collecting ITCE of the insured (ITCE notification) as follows: · The scheme agents (on behalf of X) make attempts to obtain the ITCE of the insured at a number of stages, being at the commencement of the policy and on annual renewal of the policy. · Although the Workers Compensation Regulations 2010 requires that an insured must notify a scheme agent of its ITCE prior to commencement of a policy, in practice, X advises that the insured often notifies the scheme agent of its current ITCE at time of the wage declaration (up to 2-4 months). · Once obtained, the scheme agent applies the insured's ITCE for the policy period for the purposes of determining any premium discount (if any) and for determining the decreasing adjustment on claims (where the event giving rise to the claim occurs in the period). · The ITCE allocated (as part of policy initiation process or declared) is applied throughout the new period of cover until the employer provides their current ITCE as part of the wage declaration required when the policy is renewed. · When an insured does not provide an estimate of wages or does not provide their ITCE, an ITCE of 100% is applied and no decreasing adjustments are made by X (relevant GST branch) on claim payments arising from that policy period. · X has made changes to the process of collecting ITCE from {date} 2013 for small employers, where those classified as 'small employers' have their policies automatically renewed without any entitlement to a premium discount (unless they advise the scheme agent and provide evidence). This is even if the employer had an ITCE of less than 100% in the prior year. · Where an insured notifies a scheme agent that its ITCE is less than 100%, validation checks are undertaken to ensure that the ITCE is reasonable. An employer falsely declaring a less than 100% ITCE is liable to penalties under the Worker's Compensation Act as they have received a premium discount that they were not entitled to. · X informs that the process for checking the ITCE of the insured is currently under review, with a view to further tightening checks to be undertaken including restricting an ITCE of less than 100% to certain industries unless wages are less than $75,000, evidence from the ATO or X approval is received. · X periodically undertakes a review of all policies where: the ITCE is less than 100%; declared wages under the policy are more than the GST registration threshold; and the industry that the employer is in, is not one where ITCE of less than 100% would be expected. To summarise, X (scheme agents of X) has adopted the approach that the ITCE of the insured is 100% (unless otherwise notified or establish that the ITCE is less than 100%) and will not be claiming decreasing adjustments on settlement of claims. In relation to ITCE notification, the ATO Insurance Industry Partnership - issues register (Issues Register) provides some guidance: 26. Non-notification | Detailed Reasoning - Issue: Some workers' compensation authorities have decided that if they do not receive a notification of the extent to which there is an entitlement to input tax credits on the premium/levy/contribution, they will assume that the entitlement is 100%. Most employers will be entitled to 100% input tax credits (ITC). The result of this assumption is that the insurer will not claim a decreasing adjustment on the claim. If the assumption is incorrect, such as the employer concerned was entitled to less than 100% input tax credits, the insurer would not have claimed a decreasing adjustment to which it was entitled. Is this acceptable to the ATO? | Detailed Reasoning - ATO view: This is acceptable to the ATO provided the insurer: · requests the input tax credit entitlement information from the entity (for example, as a question on the claim form); and · in the event the entity fails to provide that information, the insurer has made reasonable attempts to obtain information as to the entity's input tax credit entitlement. Workers' compensation insurance covers an employer against liability for injury, death or disease suffered by an employee as a result of their employment. It is therefore reasonable to assume that given the nature of worker's compensation insurance, it is obtained for a creditable purpose. However, given the nature of other types of insurance, the same assumption could not be made by the insurer in respect of those other types of insurance. On the basis of the facts provided, the processes adopted by X (or scheme agents of X) as outlined in relation to the ITCE notification of the insured, and the allocation of an ITCE of 100% for non-notifications by the insured (unless otherwise notified) is acceptable to the ATO. This is given that X requests and makes reasonable attempts to obtain the ITCE of the insured, X has processes and reviews in place (and performs validation checks) to establish the ITCE (in particular when ITCE is less than 100%), and the nature of workers' compensation insurance (as outlined in the Issues Register). Accordingly, when X (or scheme agents of X) applies a 100% (full) ITCE for the insured on a claim, X does not satisfy the requirements under paragraph 78-10(2)(b) of the GST Act and is not entitled to a decreasing adjustment on the settlement of a claim. For completeness, paragraphs 78-10(2)(c) to (e) of the GST Act will be briefly addressed. | Detailed Reasoning - Paragraph 78-10(2)(c) - Creditable purpose: Paragraph 78-10(2)(c) of the GST Act stipulates that the insurer settles the claim for a creditable purpose. The meaning of creditable purpose is taken from section 11-15 of the GST Act which states, among other things, that an entity makes an acquisition for a creditable purpose to the extent that it is acquired in carrying on the enterprise, and to the extent that it does not relate to making input taxed supplies, or the acquisition is of a private or domestic nature. The requirement in paragraph 78-10(2)(c) of the GST Act is satisfied as the settlement of a claim under the policy is for a creditable purpose. That is, X (or scheme agents of X) makes the settlement in the course of carrying on its enterprise (business), and the settlement does not relate to making supplies that are input taxed or are of a private or domestic nature. | Detailed Reasoning - Paragraph 78-10(2)(d) - GST registration: From the facts provided, X (or GST branches, being the scheme agents, of X) is/are registered for GST, and therefore the requirement of paragraph 78-10(2)(d) of the GST Act is satisfied. | Detailed Reasoning - Paragraph 78-10(2)(e) - The settlement does not relate solely to one or more non-creditable insurance events.: In relation to paragraph 78-10(2)(e) of the GST Act, the settlement must not relate solely to one or more non-creditable insurance events. The term 'non-creditable insurance events' is defined in subsection 78-10(3) of the GST Act to mean an event where the supply of an insurance policy would not be a taxable supply if it were only an insurance policy against loss, damage, injury or risk that relates to that event happening. When a settlement claim made by X (or scheme agents of X) under the workers' compensation insurance policy does not relate to a non-creditable insurance event, the requirement of paragraph 78-10(2)(e) of the GST Act is satisfied. | Summary: The processes adopted by X (and scheme agents of X) for collecting ITCE status (notification) of the insured for the workers' compensation insurance and allocating a 100% ITCE for non-notification will not result in a decreasing adjustment under section 78-10 of the GST Act for X (or scheme agents of X), as all the requirements of subsection 78-10(2) of the GST Act are not satisfied. | Detailed Reasoning - Issue 1 (b) - Net amount: The difference between an entity's total GST payable and its total input tax credits for a tax period is the net amount. The net amount is increased or decreased by adjustments it has for the tax period. An increasing adjustment increases the net amount for the tax period, while a decreasing adjustment decreases the net amount for the tax period. The calculation of the net amount for a tax period is determined under section 17-5 of the GST Act, which states: (1) The net amount for a tax period applying to you is worked out using the following formula: GST - Input tax credits where: GST is the sum of all of the GST for which you are liable on the *taxable supplies that are attributable to the tax period. input tax credits is the sum of all of the input tax credits to which you are entitled for the *creditable acquisitions and *creditable importations that are attributable to the tax period. … (2) However, the *net amount for the tax period: (a) may be increased or decreased if you have any *adjustments for the tax period; … X advises that its calculation of the net amount is broadly the GST payable on premiums, less input tax credits on acquisitions and input tax credits on settlement of claims, plus (or reduced by) any decreasing adjustments made in settlement of claims and any other adjustments. X informed that the calculations generally result in a positive net amount (that is, an amount is payable to the ATO). As outlined in Issue 1(a) above, the processes adopted by X (or scheme agents of X) of allocating an ITCE of 100% to an insured (unless otherwise notified or an ITCE of less than 100% can be established) will result in X not claiming a decreasing adjustment on settlement of a claim(s). Accordingly, as X does not make a decreasing adjustment to the net amount, X will not be reporting an understated net amount in relation to the processes it has adopted for determining ITCE of the insured. | Detailed Reasoning - Issue 2 - GIC and penalties: As X (or scheme agents of X) has not reported an understated net amount in accordance with issue 1, X is not liable for general interest charges (GIC) under section 105-80 of the Taxation Administration Act 1953 (TAA), and is not liable for administrative penalties under Schedule 1 of the TAA (in particular, Division 284 -administrative penalties for statements, unarguable positions and schemes), in relation to the processes adopted for determining and applying a default 100% ITCE (unless otherwise notified by the insured or established) and not claiming decreasing adjustments under section 78 of the GST Act (as outlined).