Introduction

In Surrey City Centre Mall Ltd v The Queen 2012 TCC 346 the issue was whether GST was payable on the receipt of a payment under a Settlement Agreement was subject to GST under s 182(1) of the Act on the basis that the payment was received for the termination of an agreement to make a taxable supply.

Section 182 deems a payment received for a breach of an agreement to make a taxable supply to be taxable – there is no ready comparison in the GST Act.  This raises the question as to how this payment would have been treated for GST in Australia.  Also, the treatment in Australia may be different given the recent decision of the High Court in Commissioner of Taxation v Qantas Airways Ltd [2012] HCA 41.

The facts

The facts can be summarised as follows:

• The appellant acquired land for the purpose of constructing a mall and university space which would be leased to the Technical University of British Columbia (which had been established by the Province of British Columbia).  In 2000 the parties entered into agreements, including a Development Agreement whereby the appellant agreed to develop and construct a mall and the university space and the University agreed to lease the university space from the appellant.  The appellant’s parent company (ICBC) agreed to fund the appellant’s obligations.
• The development proceeded but in 2002 the Province closed the University and announced that it would not fulfil its obligations to lease the university space.
• After negotiations, a Settlement Agreement was entered into whereby the University agreed to pay the sum of $41.1m in exchange for the appellant and ICBC releasing the University and the Province from all obligations under the Development Agreement and the related agreements.

The decision

The Revenue contended that the payment was subject to GST pursuant to s 182(1) of the Act, which would be applicable if the payment was received for the termination of an agreement to make a taxable supply – in this case the taxable supply was said to have been the lease.

Section 182(1) provides as follows:

For the purposes of this Part, where at any time, as a consequence of the breach, modification or termination after 1990 of an agreement for the making of a taxable supply (other than a zero-rated supply) of property or a service in Canada by a registrant to a person, an amount is paid or forfeited to the registrant otherwise than as consideration for the supply, or a debt or other obligation of the registrant is reduced or extinguished without payment on account of the debt or obligation,

(a) the person is deemed to have paid, at the time, an amount of consideration for the supply equal to the amount determined by the formula…

The Court summarised the effect of the section as follows (at [52]):

In short then, when a registrant agrees to make a taxable supply to a person and as a consequence of the breach, modification or cancellation of that agreement an amount is paid to the registrant other than as consideration for the supply, the person is deemed to have paid consideration for the supply that includes GST and the registrant is deemed to have collected such tax amount in respect of the supply and must remit it.  The assessment seeks to uphold the remittance on Mall Co on the basis that it agreed to make a taxable supply to Tech BC and as a consequence of Tech BC reneging on its commitment under that agreement, a GST included payment is deemed to have been made to Mall Co.

The Court found that GST was not payable because, having regard to the agreements entered into and the terms of the Settlement Agreement, ICBC (the appellant’s parent) had the right to receive the settlement payment and it was not the entity which was going to make the taxable supply.

The position in Australia

The GST Act does not contain an equivalent to s 182(1) of the Canadian Act.  The closest equivalent would appear to be Division 99 dealing with forfeiture of deposits – however that Division does not deem the forfeited deposit to be consideration for a supply, rather it operates as a “wait and see” provision where the deposit is not treated as consideration until such time that the contract completes or the purchaser defaults: see Commissioner of Taxation v Reliance Carpet Pty Ltd [2008] HCA 22 (noting that before the Full Federal Court the Commissioner unsuccessfully argued that Division 99 did deem the forfeited deposit to be consideration for a supply – that issue was not agitated before the High Court).  Accordingly, recourse needs to be had to the general rules in Division 9 of the GST Act, and the question to be asked is whether the payment would be consideration “in connection with” a supply made by the appellant.

The position under GSTR 2001/4

To determine the treatment of the payment in Australia, it is helpful to consider the views of the Commissioner in GST Ruling GSTR 2001/4 (GST Ruling) which outlines the Commissioner’s views as to the GST treatment of court orders and out of court settlements.

In considering whether there has been a supply by virtue of an out-of-court settlement, the GST Ruling focuses on the relevant “nexus” between the compensation payment and one or more of the following supplies:

Earlier supply – this usually occurs where the subject of the dispute between the parties is an earlier transaction in which a supply was made involving the parties.

• Example          Widget Company supplies to a retailer.  A dispute between the parties over payment for the toys is subsequently resolved through an out-of-court settlement, with the retailer paying all monies owed.  The supply of the toys, being the subject of the dispute, is an earlier supply

Current supply – this is a new supply created by the terms of settlement.

• Example          A dispute arises over a claim by Beaut Enterprises Pty Ltd that Plagiariser Pty Ltd is using their trade name.  Negotiations between the parties follow, resulting in Beaut entering into an agreement with Plagiariser that allows Plagiariser to se its trade name in the future.  The supply of the right to use the trade name is a current supply.

Discontinuance supply – terms of settlement will generally provide for the plaintiff to release the defendant from some or all of the existing claims (indeed many terms of settlement contain mutual releases) and for a notice of discontinuance to be filed.  The Commissioner considers that these terms can create one or more of the following “supplies”

• Surrendering a right to pursue further legal action;
• Entering into an obligation to refrain from further legal action;
• Releasing another party from further obligations in relation to the dispute.

Also, the GST Ruling makes the important concession that a number of disputes relate to matters which do not constitute a supply, for example:

• property damage;
• negligence causing loss of profits;
• wrongful use of trade names;
• breach of copyright;
• termination or breach of contract;
• personal injury.

As stated in paragraph 73 of the GST Ruling:

“The most common form of remedy is a claim for damages arising out of the termination or breach of a contract or for some wrong or injury suffered. This damage, loss or injury, being the substance of the dispute, cannot in itself be characterized as a supply made by the aggrieved party.  This is because the damage, loss, or injury, in itself does not constitute a supply under section 9-10 of the GST Act.”

The GST Ruling considers that most cases where the only supply is a ‘discontinuance supply’ will involve the settlement of a claim for damages – in that case the compensation would be received in respect of that claim (which is not a supply).  Where there is also an earlier supply or a current supply, the compensation will be regarded as consideration for that supply.

Applying the GST Ruling to the payment considered by the Canadian Tax Court, in my view the payment would not be subject to GST as it is a payment of damages for the breach by the University of its obligations under the Development Agreement, including its obligation to lease the University when it was completed.  It is true that the damages are to compensate for the loss of rental, and that the rental would have been subject to GST.  However, as the payment essentially represents damages for economic loss (being future rental), applying the GST ruling the payment is not consideration for a supply.

Does Qantas change things?

In Commissioner of Taxation v Qantas Airways Ltd [2012] HCA 41 the High Court (by a majority of 4:1) allowed the Commissioner’s appeal against the judgment of the Full Federal Court and found that Qantas was liable to pay GST with respect to fares for travel which was not taken by passengers.

The view of the majority was that upon entry into the contract with passengers, Qantas made a taxable supply for consideration (being the fare) and GST was payable and attributable to the tax period in which the fare was received.  At [33] the majority said as follows:

The Qantas conditions and the Jetstar conditions did not provide an unconditional promise to carry the passenger and baggage on a particular flight.  They supplied something less than that.  This was at least a promise to use best endeavourrs to carry the passenger and baggage, having regad to the circumstances of the business operations of the airline.  This was a “taxable supply” for which the consideration, being the fare, was received.

While this case involved the GST implications of a transaction which did not proceed to completion, the majority’s conclusion would appear to apply to all contracts, regardless of whether those contracts complete or not.  Accordingly, whenever a party enters into a contract and receives consideration, that party arguably makes a taxable supply.

This analysis also applies to Settlement Agreements and it raises the question of whether the GST Ruling should be reviewed.  Under the Settlement Agreement considered by the Canadian Tax Court, the University agreed to pay to the appellant $41.1m in exchange for the appellant releasing the University and the Province from all obligations under the Development Agreement and the related agreements. The entry into the Settlement Agreement by the appellant was clearly a “supply” within s 9-10(2)(g) as the release of an obligation on the University of its obligations and also within s 9-10(e) as the surrender of its rights under the Development Agreement.  The payment was clearly made “in connection with” those supplies, as can be seen from the terms of the Settlement Agreement themselves.  Applying the reasoning of the majority of the High Court, it is difficult to resist the conclusion that there is a taxable supply.