In Konebada Pty Ltd v Commissioner of Taxation [2023] FCA 257 the Federal Court has affirmed the decision of the Commissioner to deny the taxpayer’s claim for input tax credits with respect to invoices paid for legal and other services provided with respect to legal proceedings concerning third parties.

The taxpayer was a family trust and the legal proceedings involved members of the family and affiliated entities (the “family group”). The Court found that the taxpayer had acquired taxable supplies from the advisers, but that these were not “creditable acquisitions” because the acquisitions were not made in the course of the taxpayer’s enterprise – the acquisitions were not made for a “creditable purpose”.

The Commissioner did not dispute that the taxpayer was carrying on an enterprise, but he contended that the enterprise did not extend to include litigation funding activities or the provision of consulting or advisory services to which the acquisitions related. The Court agreed, rejecting the taxpayer’s contention that it was sufficient that the acquisitions were made “while carrying on an enterprise”. The Court found that there was an insufficient connection between the taxpayer’s acquisitions and the achievement of some commercial purpose of the taxpayer to stamp the acquisitions as being made by the taxpayer in carrying on an enterprise.

The decision provides an interesting discussion on the requirements for a “creditable acquisition” under s 11-5 of the GST Act, in particular the need for there to be a sufficient connection between acquisitions made by registered entities and the enterprise carried on by the entity.

Facts

The taxpayer was the trustee of a family trust (Trust). The taxpayer was controlled by a single individual (WL), who was the “Specified Beneficiary” of the trust. The general beneficiaries were defined by reference to their relationship with WL, including the WL’s wife and sons. The Trust was registered fro GST. The Trust and WL were registered tax agents.

The Trust was a party to a number of deeds dated 16 November 2016, each entitled “Litigation Funding Agreement”. The deeds were executed in October 2017. The terms of the deeds were essentially the same. The recital stated that the deed “records the agreement between the Litigation Funder and the Beneficiaries in relation to the payment of Litigation Costs and Litigation Proceeds arising in connection with the Proceedings”. The Proceedings were those court preceedings described in the schedule to the deed.

Clause 2 of the deed provided that the parties acknowledged and agreed that “the Litigation Funder” (the Trust) had, prior to the date of the deed, paid all Litigation Costs and, after the date of the deed, would continue to pay all Litigation Costs. “Litigation Costs” was defined to mean “all costs and expenses paid or payable by the Beneficiaries, or incurred for the benefit of the Beneficiaries, that relate to or arise in connection with the Proceedings”. This included all legal costs.

Clause 3 of the deed provided that in consideration for the payment of the Litigation Costs by the Trust, each of the beneficiaries agreed to pay the Trust any Litigation Proceeds within 5 business days of receipt of such amounts. “Litigation Proceeds” was defined to mean all moneys paid or payable to the beneficiaries in respect of the proceedings, including settlement, court ordered judgement and any costs order. One deed was in slightly different terms, with Litigation Proceeds defined to mean amounts only to the extent that the settlement or judgment amount was greater than $5 million.

The Trust paid invoices rendered by solicitors, barristers and accountants. WL’s evidence was that the Trust was authorised to “conduct” the litigation on behalf of the persons who were the parties to the litigation. All instructions to the lawyers were provided by WL, who considered that he was providing those instructions “as a representative of the [Trust]”. WL’s evidence was that he gave instructions to the lawyers and made a strategic decision about whether and, if so, how to act on the advice. He claimed to have received the advice from the barristers and lawyers on behalf of the Trust and that he, as representative of the Trust, “disseminated” that advice to the members of his family.

The Court accepted that WL was the directing mind of the Trust and that WL sought to co‑ordinate the direction of complex interrelated litigation and that he directed the strategy for the conduct of that litigation. The Court also accepted WL’s evidence that having litigation proceeds paid to the Trust rather than individuals might insulate the proceeds from the claims of future creditors against those individuals. The Court accepted that: WL instructed the lawyers; was the party to whom the lawyers conveyed their advice; WL made strategic decisions concerning whether to accept advice given by the lawyers; and, the Trust paid the invoices rendered by the professional service advisers.

However, the Court observed that the arrangements as described by WL had an air of artificiality, stating that by WL’s description, the Trust received legal advice relating to proceedings or matters to which it was not a party and then formulated recommendations and advised family group entities, and provided instructions to the professional advisors advising in relation to those proceedings or matters and the legal representatives for the parties to those proceedings. The Court observed that: there was no contemporaneous evidence that the Trust conducted, or was legally able to conduct, a practice entailing the provision of legal advice; there were no trustee resolutions or board papers or other documents to support a conclusion that the Trust provided legal advisory services; there was no evidence that the Trust received fees or remuneration for the provision of such services.

The Court did not accept that WL instructed lawyers and received the legal and other services on behalf of the Trust – rather, the Court concluded that he did so for and on behalf of the individuals or entity that was party to the proceedings.

The Court also did not accept that the Litigation Funding Agreements were really agreements for the provision of services. The agreements did not require the Trust to provide some form of service to the beneficiary which would have created a need for the Trust to acquire legal services for its own account. The agreement required the Trust to fund the provision of services by others.

Consideration

The Court observed that two issues were to be resolved:

• Whether the Trust acquired anything by way of taxable supplies; and
• whether the Trust’s acquisitions were made in carrying on an enterprise.

Whether the Trust acquired taxable supplies

The Court accepted the evidence of the advisors that they issued the invoices to the Trust and they considered the Trust to be liable for the payment of the fees. The Court observed that the contemporaneous evidence of any arrangement between the Trust and the lawyers pursuant to which legal services would be provided to the Trust was limited to the fee agreements and engagement letters.

The Commissioner contended that the payments made by the Trust to the beneficiaries’ legal representatives were consideration for the legal services that were supplied to the beneficiaries. It was contended that the Trust had an administrative arrangement with the beneficiaries to pay the invoices that were rendered by the lawyers and the decision of Edmonds J in Professional Admin Service Centres Pty Ltd v Commissioner of Taxation [2013] FCA 1123 was applicable. In that case, the Court denied the claim for input tax credits where the taxpayer had paid the legal fees of third parties. The Court found that the taxpayer did not acquire anything from the lawyers and had simply agreed to pay his legal bills (see [51] of the decision).

The Trust contended that the supply of the Litigation Services was a supply to two parties at the same time – to the beneficiary who was the party to the preceding and to the Trust.

The Court found that the facts were distinguishable from those considered by Edmonds J in Professional Admin Service Centres. Unlike in that case, there was evidence of a pre-existing framework between the Trust and the legal service providers under which the Trust was liable to make payments to the legal service providers as consideration for services provided to the beneficiaries. The engagement with the legal services providers (whether reduced to writing or not) was an arrangement to which the Trust was a party. Unlike the facts in Professional Admin Service Centres, there was more here than the fact that, as a practical matter, the legal service providers looked to the Trust for payment of their fees.

The Court characterised the arrangement as follows:

• By the terms of the arrangements with the advisors, the Trust acquired a right to require the legal advisor to provide legal services to the beneficiaries.
• The Trust acquired from the legal advisor who provided legal services to the beneficiaries a service — the provision of legal advice or services to the beneficiaries. That service was acquired by the Trust in implementation of the arrangement it had agreed with the legal service providers.
• When legal services were provided to the beneficiaries and invoiced to the Trust, the Trust became liable for the payment.
• There was an acquisition by the Trust each time legal services were provided to the beneficiaries.
• The occasion for the payment was the provision of legal services to the beneficiaries.
• The Trust acquired from the legal service providers a service, being the provision of legal advice or legal services to the beneficiaries

Upon finding that the Trust had made an “acquisition” of a taxable supply, satisfying the requirements in paragraphs s 11-5(a) and (b) of the GST Act, the Court observed that this did not mean that the Trust’s acquisition was for a “creditable purpose”. Pursuant to s 11-15(1), a thing thing is acquired for a creditable purpose to the extent that it is acquired in carrying on an enterprise.

Whether the acquisitions were made by the Trust in carrying on an enterprise

The Trust submitted that it made the acquisitions while carrying on its enterprise of providing services and information to the members of the family group.

The Commissioner did not dispute that the Trust was engaged in carrying on some form of enterprise which involved the provision of management‑related services to certain entities, but contended that the nature and extent of the Trust’s enterprise did not extend to include its litigation funding activities or the provision of consulting or advisory services to which the litigation and other services.

The Court observed that it was it is necessary to consider the extent to which the Trust made its acquisitions in carrying on its enterprise. Contrary to the Trust’s contention, it is not sufficient that an acquisition be made “while carrying on an enterprise”. The phrase “in carrying on” requires more than a temporal nexus. Further, the nature and extent of the enterprise must be identified with some precision. Whether a taxpayer is engaged in an enterprise (more specifically, a business) is a matter of fact and degree and requires a “wide survey and exact scrutiny” of the taxpayer’s activities.

The Court found that there was an insufficient connection between the Trust’s acquisition and the achievement of some commercial purpose of the Trust to stamp the acquisition by the Trust as being made in carrying on an enterprise. The Court relied on the following matters:

• The evidence did not support a finding that the Trust carried on a business of providing or disseminating legal advice or of managing professional services for members of the family group. There was no acquisition of services by the Trust in carrying on an enterprise of providing services and information to the members of the family group.
• Nor is there evidence to support a conclusion that the engagement of service providers or the funding of the provision of the litigation or other services was made in the course of an enterprise involving the Trust providing procurement services for the members of the family group.
• The Litigation Funding Agreements do not support a finding that the Trust carried on an enterprise involving the provision or procurement of litigation‑related consultancy or advisory services. The obligation of the Trust under those agreements was to pay invoices.
• Nor do the Litigation Funding Agreements themselves evidence a concern in the nature of trade. The Litigation Funding Agreements required the Trust to incur significant costs which it needed to fund without an entitlement to fees for a service. As was the case in Professional Admin Service Centres at 455–6 [51] (Edmonds J), the prospect of the Trust ultimately making a return on any of the Litigation Funding Agreements was so remote that it had no meaningful nexus to the services that were supplied.

Given the finding of the Court, it was not necessary to consider whether, if the Trust acquired legal services by way of taxable supplies in carrying on an enterprise, the acquisitions relate to making supplies that would be input taxed by reason of being financial supplies.