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Australia – The Case Of The Vanishing Lease Supply.

13 November, 2013

 

Legal News & Analysis – Asia Pacific – Australia – Tax

 

WHAT YOU NEED TO KNOW

 

  • In a case regarding the acquisition by the taxpayer of apartments subject to an existing lease and treated as a GST-free supply of a going concern, the Full Federal Court in MBI Properties Pty Limited v Commissioner of Taxation [2013] FCAFC 112 (MBI Case) has allowed the taxpayer’s appeal against an earlier decision of the Federal Court. The decision of the Full Federal Court involved a finding that there was no ‘continuing’ supply of leased residential premises from the original lessor to the tenant, in the context of the supply of the freehold subject to the lease from the original lessor.

 

  • This decision could have broader implications to supplies of land subject to lease, in terms of ongoing GST liability, the issue of tax invoices and the entitlement to input tax credits, among other matters discussed below. Acquirers of reversionary interests/owners and tenants should review the GST treatment of sales and ongoing leases.

Background


The MBI Case is one of the cases related to the earlier decision of South Steyne Hotel Pty Ltd v Commissioner of Taxation [2009] FCAFC 155 (South Steyne Case). South Steyne Hotel Pty Ltd (South Steyne), the previous owner of the Sebel Manly Beach Hotel complex, strata-titled each of the 83 apartments in the hotel. South Steyne then leased each apartment to Mirvac Management Pty Limited (to be used in a serviced apartment business by that entity). MBI Properties Pty Ltd (MBI) acquired three apartments at the hotel from South Steyne, each of which was subject to existing leases from South Steyne to Mirvac Management Pty Ltd.


The sale of each individual apartment was held to be a GST-free supply of a going concern, being an enterprise of leasing (see the majority decision of the Full Court in the South Steyne Case).


Notably, the Full Court in the South Steyne Case held that when MBI purchased the reversionary interest in the three apartments, there was no new supply by MBI to Mirvac Management Pty Limited of leased premises, but merely a continuation of the grant of the existing lease (by South Steyne).


Under Division 135 of the GST Act, the recipient of a supply of a going concern has an increasing adjustment for GST, to take into account the proportion (if any) of the supplies that will be made through the going concern that will not be taxable or GST-free supplies.
The Commissioner issued a notice of assessment to MBI, determining that, under Division 135 of the GST Act, MBI had an increasing adjustment (representing 10% of the total purchase price for the 3 apartments). MBI brought an appeal to the Federal Court, after its objection to the assessment had been disallowed by the Commissioner.


Federal Court Decision (Single Judge)


Griffiths J dismissed the taxpayer’s application, stating that the intention of the recipient of a going concern in section 135-5 of the GST Act, was to be objectively determined and ascertained by reference to the nature of the enterprise to which the going concern related and through which the supplies were to be made.


His Honour stated that there is no warrant for construing the provisions of section 135-5(1)(b), such that the relevant supplies made through the enterprise to be considered, are only to supplies made by the recipient of the going concern and not a third party.


Griffiths J considered that the requirements of s 135(1)(b) are satisfied in circumstances where there is a supply that is treated as a ‘continuing supply’ (namely the supply of the residential premises by way of lease), which continues to be made, after the supply of the going concern. Griffiths J referred to the earlier South Steyne Case finding that there was no new supply by MBI to Mirvac Management Pty Limited.


Full Court Decision


The Full Federal Court allowed the taxpayer’s appeal from the decision of the single judge of the Federal Court.


MBI identified as the principal error in the primary judge’s judgement, his Honour’s conclusion that South Steyne was “treated” by the GST Act as continuing to make input tax supplies to Mirvac Management after it had ceased to have any interest in the units. As conceded by counsel for the Commissioner, if there was no continuing supply, there is no basis on which MBI could be liable to an increasing adjustment.


The Court found the primary judge had erred in concluding that following the sale of the reversion from South Steyne to the taxpayer, there was a continuing supply by South Steyne to Mirvac Management.


Edmonds J stated that the idea that South Steyne continued to supply the lease to Mirvac Management is flawed. His Honour stated there was no continuing supply by South Steyne, merely a continuation of the lease – the grant was the “supply” and the “supply” constituted by the grant of the lease did not continue beyond the grant. References to “supplies made through the enterprise” in section 135-5 of the GST Act are to supplies to be made by the acquirer of that enterprise. This confines the liability for an “increasing adjustment” to the supplier (in this case, MBI). Davies J supported this reasoning and found that no continuing supply by way of a lease can be attributed to South Steyne.


Their Honours also noted that Division 156 only applies to taxable supplies by way of a lease and does not apply in the present case, because the supply by way of the lease from South Steyne to Mirvac Management was held to be an input taxed supply in the South Steyne Case.


Accordingly, as there was no continuing supply (merely a continuation of a lease), Division 135 of the GST Act did not apply, and the appeal was allowed.
The ATO has until Friday 15 November to bring any application for special leave to appeal to the High Court. It is expected that a Decision Impact Statement will be issued shortly by the ATO.


Implications


The MBI Properties Case could have implications more broadly than in the context of supplies of residential premises that are treated as input taxed supplies.
Issues arising include the following:


a) if the grant of the lease is the relevant supply, and there are no continuing supplies, query whether, absent any other enterprise other than that of leasing, whether there can be the supply of a going concern for GST purposes at all. While no GST would be payable in any event on the sale of old residential premises subject to a lease (as they would be input taxed), GST would otherwise be payable on the supply of other premises (eg, commercial premises, new residential premises or vacant land);


b) if there is no supply being made by the acquirer of the reversionary interest, query whether the purchaser of the reversion would ever be required to be registered for GST, if the purchaser does not engage in any other activities; and


c) if there is no taxable supply made to the tenant by the acquirer of the reversionary interest (where the grant of the lease was a taxable supply):


i. is GST payable in relation to rent payable by the tenant by the new lessor/the acquirer;
ii. if the new lessor/acquirer has recovered GST from the tenant and remitted to the ATO, does the new lessor/acquirer have an entitlement to a refund;
iii. have any tax invoices that have been issued including an amount for GST, been invoices that are valid “tax invoices”;
iv. if GST has been charged to the tenant by the new lessor/the acquirer in the past, was this done in error, and depending upon the terms of the relevant agreement, is the tenant entitled to a credit or refund; and

v. can the new lessor/acquirer claim input tax credits for GST in relation to the costs of the lease (eg, agent’s fees).


These issues might be addressed from an administrative perspective by the ATO in a Decision Impact Statement. However, the position under the law could still remain unclear.
Landlords and tenants alike, in circumstances where the landlord has acquired the property subject to an existing lease, should review the GST treatment of the acquisition and the ongoing lease.

 

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For further information, please contact:

 

Geoffrey Mann, Partner, Ashurst
[email protected]

 

Nika Dharmadasa, Ashurst
[email protected]

 

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