On 13 January 2012, Treasury released exposure draft regulations setting out proposed amendments to the Goods and Services Tax (GST) financial supply rules. While there are a number of proposed amendments, the most significant is the proposal to reduce the Reduced Input Tax Credit (RITC) rate for certain services acquired by trusts (including superannuation funds) from 75% to 55%. Affected trusts will now be subject to two RITC rates (55% and 75%), which is likely to increase the net cost of GST for such trusts, as well as substantially increase GST complexity and administration for these businesses. Trustees and responsible entities will quickly need to understand the impact of the new rules to prepare for the 1 July 2012 start date. In particular, such businesses should:
- Update the GST disclosures in their Product Disclosure Statements (PDSs) and Information Memoranda before 1 July 2012 (if possible) to ensure they are not adversely financially affected
- Conduct an apportionment exercise to ensure their funds comply with the new rules from 1 July 2012.
We note there is no prescribed transitional relief in relation to the proposed amendments and hence the new rules will impact on most trust arrangements from 1 July 2012.
How do the current RITC rules work in relation to trusts?
A trust is treated as a separate entity for GST purposes (technically, the trustee acting in its capacity as trustee of the trust). This means that both the trust entity and the trustee (in its own right) are normally separately registered for GST. Many investment and superannuation trusts are not entitled to claim input tax credits on their expenses on the basis that they make financial supplies, such as trading in equities or financial derivatives, foreign currency transactions and the issue and redemption of interests in trusts to and from investors. While generally not entitled to claim full input tax credits on their costs related to these activities, such trusts are currently entitled to claim a 75% RITC on certain expenses, including trustee and responsible entity services. For example, investment trusts generally claim a 75% RITC on management fees charged by trustees and responsible entities to trusts.
The Australian Tax Office has long been concerned about trusts obtaining a perceived GST advantage by trustees and responsible entities engaging in "inappropriate bundling" and the proposed amendments address these perceived concerns. There are real doubts as to whether the ATO's concerns are valid and hence whether amendments to the RITC provisions are necessary. Regardless, the proposed amendments will almost certainly be enacted with effect from 1 July 2012.
What will change?
Under the proposed amendments and subject to the exceptions mentioned below, services provided on or after 1 July 2012 to a "recognised trust scheme" will only be eligible for a reduced RITC rate of 55%, rather than 75%. The amendments cover those services provided by the trustee to the trust, as well as services provided by third parties (such as investment banks, unit registry providers and tax advisers) directly to the trust. A "recognised trust scheme" covers managed investment schemes under the Corporations Act 2001 (Cth) (both registered and unregistered schemes, including qualifying managed investment trusts) and approved deposit funds, pooled superannuation trusts, public sector superannuation schemes and regulated superannuation funds (other than self managed superannuation funds) within the meaning of the Superannuation Industry (Supervision) Act 1993 (Cth).
Further, there are a number of services that have been excluded from the proposed rules and remain eligible for a RITC at the 75% rate, including:
- Brokerage services
- Investment portfolio management functions (excluding acting as a trustee or single responsible entity)
- Administrative functions in relation to investment funds (excluding compliance activities where the service is acting as a trustee or single responsible entity)
- Custodial services and master custody services.
There are two significant concerns with the proposed amendments. First, the scope of the proposed amendments is not entirely clear. For example, the explanatory statement to the proposed amendments suggests that trustees will not be required to unbundle trustee fees into various components based on the type of acquisition being made, such as investment management services and tax or auditing services. However, this is exactly what the proposed amendments appear to require in order for trustees and responsible entities to determine the extent to which their trusts can claim 75% or 55% RITCs. While it may theoretically be open to trustees to adopt the administratively simple approach of claiming a 55% RITC on all costs, such an approach may breach the trustee's duty to act in the best interests of beneficiaries and hence trustees may be required to undertake an additional, complex apportionment exercise, applying the multiple RITC rates.
Second, the proposed amendments appear to have unexpected consequences. In particular, they appear to put trusts at a disadvantage compared to other entity types in certain circumstances. For example, a company that undertakes a capital raising on the Australian Securities Exchange is entitled to claim a 75% RITC on the investment banking or manager's fees. However, under the proposed amendments, a trust that undertakes a capital raising would only be entitled to claim a 55% RITC on those same fees. Similarly, listed companies can claim a 75% RITC on share registry costs; however, listed trusts will generally only be able to claim a 55% RITC on unit registry costs under the proposed amendments.
Given these concerns, disputes with the ATO regarding the application of the new rules will inevitably arise.
When do the new rules apply?
The new rules are proposed to apply to services provided to trusts from 1 July 2012, ie the reduced 55% RITC rate will apply from this date. Crucially, there is no prescribed transitional relief in the proposed amendments and hence the new rules will impact on most trust arrangements from 1 July 2012.
What should affected businesses do?
Submissions on the draft regulations are due by 24 February 2012. Affected parties may wish to make submissions on the proposed law, particularly given the significant impact of the amendments.
Existing trust disclosure documentation (PDS and Information Memoranda) generally discloses fees (such as management fees) inclusive of GST and net of RITCs. Where trustees and responsible entities are not able to update their trust disclosure documents for existing arrangements from 1 July 2012 to take account of the reduced RITC rate, trustees and responsible entities are likely to be financially disadvantaged, since this will likely reduce the fees that can be charged to the trust. Regardless, the proposed amendments will likely increase the net cost of GST for trusts (and hence reduce trust returns).
The proximity of the 1 July 2012 start date means trustees and responsible entities will want to urgently understand the impact of and prepare for the new rules. This will likely require such businesses to conduct an additional apportionment exercise to ensure their funds comply with the new rules from 1 July 2012. The proposed amendments will likely substantially increase GST complexity and administration for trusts.
DLA Piper's tax practice is able to assist clients prepare for the new rules.
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