Today the Assistant Treasurer released draft legislation for public consultation dealing with refunds of overpaid GST. The legislation repeals the discretion in s 105-65 of Schedule 1 to the TAA and introduces Division 36 into the GST Act which does not provide any discretion but simply provides when refunds will (and will not) be payable, which will allow taxpayers to self-assess their entitlements to refunds.

The amendments are to apply to tax periods commencing on or after today, effectively meaning monthly tax periods starting 1 September and quarterly tax periods starting 1 October.

The press release states as follows:

The draft legislation clarifies the circumstances in which the restriction on GST refunds applies to overpayments of GST and allows taxpayers to self-assess their entitlement to a GST refund by reference to ascertainable criteria.

The same criteria will also apply for refunds associated with miscalculations of GST payable on a supply.

The amendments will protect the integrity of the tax system by ensuring that taxpayers who have passed on an amount of GST to their customers are not able to obtain a windfall gain irrespective of how that overpayment occurs.

Submissions are due by 14 September 2012.

The Exposure Draft legislation can be accessed here.

The Explanatory Memorandum can be accessed here.

INITIAL ANALYSIS

The draft legislation repeals s 105-65 of Schedule 1 to the TAA, which has had a controversial and difficult history.  The legislation effectively starts again by replacing that discretion and introducing Division 36 into the GST Act, which is headed “Excess GST” and provides as follows:

Division 36—Excess GST

36-1 What this Division is about

Amounts of any excess GST will usually not be refunded if you have passed on those amounts.

36-5 Working out if your excess GST can be refunded

(1) This section applies if, apart from subsection (2), your *assessed net amount for a tax period takes into account an amount of GST that exceeds what is payable.

Note: This section applies whether or not you have paid, or been refunded, the assessed net amount.

Example 1: Storm Co reports a negative net amount of $4,000 made up of GST of $10,000 less input tax credits of $14,000. In fact, Storm Co’s GST should have been $8,000 making its negative net amount $6,000. Storm Co has excess GST of $2,000.

Example 2: Snow Enterprises reports and pays a net amount of $2,400 made up of GST of $3,200 less input tax credits of $800. In fact, Snow Enterprises has incorrectly included an amount of $400 for a supply that should have been treated as GST-free, making its net amount $2,000. Snow Enterprises has excess GST of $400.

(2) For the purposes of this Act, the excess GST is taken to have always been payable except for:

(a) so much of the excess GST as you have not passed on to any other entity; and

(b) if:

(i) you have passed on some or all of the excess GST to another entity; and

(ii) that entity is neither *registered nor *required to be registered;

so much of that passed-on amount for which that entity has been reimbursed.

Note 1: Only excess GST covered by paragraph (a) or (b) can be considered for working out a refund under section 155-75 in Schedule 1 to the Taxation Administration Act 1953.

Note 2: If the excess GST has been passed on to a registered entity (or an entity required to be registered), that entity can treat the excess GST as being payable for working out the amount of its input tax credits under section 11-25.

(3) For the purposes of subsection (2):

(a) some or all of the excess GST may pass on to another entity even if:

(i) a *tax invoice is not issued to or by that other entity; or

(ii) a tax invoice issued to or by that other entity relates to that excess GST, but does not contain enough information to enable that excess GST to be clearly ascertained; and

(b) if: (i) a tax invoice is issued to or by another entity; and

(ii) it contains enough information to enable some or all of the excess GST to be clearly ascertained;

the tax invoice is prima facie evidence of that part of the excess GST having passed on to that other entity.

The aim of the amendments appears to be to ensure that taxpayers will only be entitled to a refund of overpaid GST if the GST has not been passed on to the recipient of the supply.  Also, the provisions will apply to all GST paid, regardless of the circumstances which gave rise to the overpayment.  This seeks to address previous decisions of the Courts and Tribunals to the effect that refunds should be made either because the discretion did not apply (see KAP Motors Pty Ltd v Commissioner of Taxation [2008] FCA 159 and International All Sports v Commissioner of Taxation [2011] FCA 824) or the discretion should be exercised and a refund paid (see Luxottica Retail Australia Pty Ltd and Commissioner of Taxation [2010] AATA 22).

Of course, these new provisions will likely give rise to a new series of disputes about whether the GST was in fact passed on to the recipient. Similar issues arose in the context of Sales Tax.

On 10 April 2012 the UK First Tier Tribunal handed down its decision in Sound Solutions (Europe) Ltd v Revenue & Customs [2012] UKFTT 251. The case provides an insight into the extent of “missing trader fraud” or “carousel fraud” in the UK, usually involving the sale of computer chips and mobile phones.

This type of VAT fraud received some focus in Australia recently in Multiflex (see [2011] FCAFC 142), where the Commissioner had a suspicion that an investigation would disclose that Multiflex did not in fact make creditable acquisitions giving rise to the claimed input tax credits.  The evidence of the Commissioner’s auditor was that three companies in the same group as Multiflex had been involved in “sham transactions through a supply chain”.  The arrangement was described as follows:

The first company in the supply chain imported electronic goods into Australia, they were then on-sold (usually on the same day) through several different intermediary or buffer companies.  These products were not entered into Australia for domestic consumption but remained in a bonded warehouse.  Each of the companies in the Mercantile Group…was the final link in the chain and operated as the exporter.  Non- reporting of GST by the “missing traders” in the supply chain has lead to revenue leakage.  The tax office position in that the supply chain was a contrived sham arrangement for which the Mercantile Group was a participant.  In the United Kingdom this type of fraud is called “missing trader intra-community fraud”.  The revenue leakage is caused by the non-reporting of GST by the “missing trader”.  This and similar frauds have apparently cost the Government in the United Kingdom a significant sum of tax revenue.

In the decision of the First Tier Tribunal, the evidence from the Revenue was that carousel fraud was rife from 2003 to 2007.  Further, any loss to the exchequer only occurs when the input tax is refunded on a repayment claim.  The Revenue was been repaying substantial sums of money, in many cases in excess of £10,000,000 and the total loss to the revenue during these years amounted to in excess of £15 billion.

The position in the UK on the refunds of input tax credits is similar to that considered in Multiflex, in that the refund provisions are in mandatory terms and that no element of discretion is conferred on the revenue.  Of course, the position in Australia will change if the amendments to the TAA to introduce s 8AAZLGA are introduced (giving the Commissioner the right to withhold refunds pending an investigation).  Interestingly, the law in the UK developed its own defence to the mandatory refund provisions. Because the claimant of the refund was usually a long way down a chain of transactions from the defaulting entity, the Courts extended the established principles of fraudulent evasion beyond evasion by the taxable entity to include those entities who knew or ought to have known that by their purchase they were taking part in a transaction connected with fraudulent evasion of VAT.  This enlarged the category of participants who did not satisfy the objective criteria of being entitled to claim credits to those who themselves had no intention of committing fraud, but who, by virtue of the fact that they knew or should have known that the transaction was connected with fraud, were to be treated as participants.

The decision of the First Tier Tribunal undertakes a detailed investigation into the development of the law in this area and the judgment shows the level of complexity and sophistication of these types of transactions.  One would suspect that such transactions are being undertaken in Australia, as is shown by the Multflex decision.  As to whether the level of such activity reaches the giddy heights of the UK experience, and the effect on these schemes of the proposed amendments to the TAA allowing the Commissioner to delay refund payments, time will tell.

In Commissioner of Inland Revenue v Stiassny [2012] NZCA 93 the NZ Court of Appeal allowed the appeal by the Commissioner and found that the claim for a refund of GST by the receivers appointed to the partners in a GST-registered partnership should be struck out.  The decision of the High Court appealed from can be found here – Stiassney v Commissioner of Inland Revenue [2010] NZHC 1935

The case is interesting as it considers the question of whether the receivers of the partners (who were not appointed as receiver to the partnership) were personally liable to pay GST on the sale of partnership property. A similar question may arise under s 58 of the GST Act.  Secondly, the case discusses the scope for a claim based on restitution.

The Facts

• The respondents traded in a forestry partnership.  Funding for the partnership was provided by a syndicate of banks for which security was held over the assets of the partnership and the individual assets of the partners.
• Receivers were appointed in respect of the assets secured and while the partners were each placed in receivership, the partnership was not.  However, the partners appointed the receivers to the management board of the partnership and the receivers effectively controlled the management of the partnership
• The partnership entered into an agreement where it agreed to sell its assets for USD$621m plus GST of NZ$127.5m.  The partners, in their capacity as partners of the partnership, were names as vendors in the agreement.  As happens in a number of these types of cases, the proceeds of the sale were insufficient to pay in full the secured amounts and the GST payable to the Commissioner on the sale.
• The partners and the lenders entered into a deed whereby funds sufficient pay the GST debt would be placed into the partnership’s bank account
• The sale was completed and the GST was paid because the receivers were of the view that they were personally liable to pay the GST
• The receivers brought proceedings in the High Court, in which it was asserted that, contrary to their earlier view, they were not personally liable to pay the GST and that the GST was paid under a mistake of law.
• The Commissioner sought to strike out the proceedings
• In dismissing the strike out application, the High Court found that the receivers were not personally liable to pay the GST and that the issue of mistaken payment should go to trial (also at issue were various “priority” issues with regards to the respective claims of the Commissioner and the creditors-that discussion is beyond the scope of this post).

Were the receivers personally liable for the GST

It was clear that the sale of assets was a taxable supply. The issue of whether the receivers were liable depended upon consideration of the NZ provisions dealing with the registration of entities such as partnerships and also the “incapacitated entity” provisions (ironically found in Section 58, which is the same number as the equivalent provisions in our GST Act).  The Court of Appeal agreed with the High Court that the receivers were not personally liable for the GST. When regard is had to the provisions of Division 58 in the GST Act, it would appear likely that the same result would apply here.

With respect to partnerships, like the Australian provisions, it is the partnership that is carrying on the enterprise and is to be registered for GST.  The members of the partnership may not be registered for GST.  However, the statutory provisions ensure that partners effectively have a secondary liability for the obligations of the partnership – this reflects the common law position.

The issue was whether the receivers were personally liable in circumstances where the partnership was not placed into receivership, as the partnership was not an “incapacitated person” within the meaning of s 58.  The Commissioner unsuccessfully sought to run a number of arguments which appear similar to those unsuccessfully run by our Commissioner in Deputy Commissioner of Taxation v PM Developments Pty Ltd [2008] FCA 1886 where Logan J found that Division 147 of the GST Act simply did not work.  The reasons of the Court of Appeal in rejecting these arguments also shows that the concept of “purposive construction” of statutes such as the GST Act can only go so far.  The arguments were:

• the combined relevant purposes of the provisions were to achieve administrative efficiency and to ensure that a receiver pays the registered person’s GST liability during a receivership, and the finding of the High Court was inconsistent with that purpose.  The Court rejected this argument on the basis that it would require the notional insertion of words into the legislation which are not there.  Also, the approach would directly conflict with the provision which provided that partners shall not be registered persons – the Commissioner’s approach would be to effectively make partners registered persons if they went into receivership
• the receivers should be treated as “members” of the partnership on the basis that they participated in the taxable activities of the partnership.  It was submitted that it would be anomalous if the receivers would become personally liable if they had been appointed in respect of the assets of the partnership but were not liable, where they were appointed only in respect of the assets of the partners

Can the receivers, the secured creditors or the partnership recover under a mistake of law

The Court of Appeal found that the secured creditors and the receivers had not right to seek recovery of the GST.  The claim by the secured creditors was denied because the Commissioner received the GST payment in priority to their claims.  The claim by the receivers was denied because they could have no greater right to recovery than the secured creditors

The claim by the partnership involved the question of whether a claim based on mistake of law could be maintained in circumstances where the payment discharged a debt due to the commissioner.  This can be compared to a case where the payment was never due, but was paid by mistake – for example, see the recent decision of the UK Court of Chancery in Investment Trust Companies v HM Revenue and Customs [2012] EWHC 458 where the Court found that rights in restitution may arise.  For my post on that decision, see here.

The Commissioner submitted that the payment discharged the partners liability (albeit a secondary liability to that of the partnership).  The receivers contended that the Commissioner had been unjustly enriched because, but for the mistake made by the receivers, the GST would not have been paid and the funds would have been available to the secured creditors.  In finding for the Commissioner, the Court of Appeal based its decision on the simple footing that “if the defendant is entitled to the money, then it cannot be said to be unjust, or against conscience, to require payment”.  The Court acknowledged that an exception to this rule could be where it is shown that the recipient of the funds was not acting in good faith.  However, this was not alleged in this case.

Cases involving claims for refunds of VAT or GST are not unusual.  What is unusual is a refund claim made by the ultimate consumer (who bore the economic burden of GST).  Earlier this month, in Investment Trust Companies v HM Revenue and Customs [2012] EWHC 458 the UK High Court of Chancery handed down a decision involving such a case.  At the end of the day, the claim was not successful, but the judgment did make some interesting findings on restitutionary rights which consumers may have against the Revenue.

The facts can be simply stated:

• the claimant had for many years been charged VAT by the supplier of goods and services – the claimant paid the GST and the supplier accounted for the VAT to the Revenue
• as a result of a court decision, the supplies were at all material times exempt from VAT, with the consequence that the VAT was unlawfully charged
• the supplier recovered the overpaid VAT to the maximum extent possible under the VAT legislation and passed the benefit onto the customer
• the supplier was unable to recover all of the overpaid VAT because of the statutory 3 year limitation period on refunds and also that refunds were limited to the “net amount” actually paid by the supplier (i.e., the VAT less input tax credits claimed).

The question for the Court was whether the claimant, who had borne the full economic burden of the unlawful VAT, could bring a direct claim against the Revenue to recover the balance of the tax it paid to the supplier.  The Court considered this question from an English law and an European law perspective.  The comments below are restricted to the English law issues, as they give rise to matters which could impact on the position in Australia.

The essential question was whether the English law recognised a right to restitution in favour of the claimants. This involved the consideration of the following questions:

1. Was the Revenue benefited, in the sense of being enriched?
2. Was the enrichment at the claimant’s expense?
3. Was the enrichment unjust?
4. Are there any defences?

Was the Revenue enriched?

The Court found that the Revenue was enriched by the payments of VAT.  Also, the enrichment was the full amount of the VAT, notwithstanding that the supplier only paid a lower amount (after claiming input tax credits).

Was the enrichment at the expense of the claimants?

The Court noted that common sense might be thought to suggest that the answer to the question was obvious – the full economic burden of the unlawful tax was borne by the claimants.  As noted at [47]:

This entirely accords with the fundamental nature of VAT as a tax on the supply of goods or services, the burden of which is borne by the final consumer.  Equally clearly, it is HMRC who ultimately benefited from the imposition of the tax: that is the very purpose of taxation, to transfer money from the taxpayer to the Crown.  How, then, can it seriously be disputed that the enrichment of HMRC was at the expense of the claimants, who actually paid the tax, and were unable to pass it on to anybody else?

The Court then accepted “at a fairly high level of generality”, that for the purposes of VAT the final consumer is properly to be regarded as the taxpayer, and that the role of the intermediate taxable persons in the chain of supply is to collect the tax and account for it to the tax authorities.  However, the Court considered that there were dangers in pressing this point too far, because the claimant was not the taxpayer and was not liable, vis-a-vis, the Revenue, for the VAT.  The Court rejected any argument that the supplier was a “conduit” for the VAT or that there was any relationship of agency, or anything resembling agency.

Nevertheless, the Court found that the absence of a “direct” relationship or liability did not prevent there being a sufficient relationship.  In doing so, the Court recognised that one should look at whether “in reality” it was the claimant’s money and that this was not confined to strict legal reality, but could in appropriate circumstances include a broader underlying commercial or economic reality (at [65]).

In conclusion, the Court found that the enrichment was at the expense of the claimants, and stated as follows (at [72]):

In other woods, VAT is a tax on the consumer, collected by the supplier, and paid or accounted for to HMRC. Viewed in this way, the nexus between the consumer and HMRC could hardly be closer or stronger, and in economic terms the person at whose expense unlawful VAT is paid to HMRC is indubitably the consumer.  I remind myself at this point that “at the expense of” is not a statutory requirement, and (as the subrogation cases show) it can be satisfied by reference to the underlying commercial reality of a transaction.  To recognise that the test is satisfied in the present case would not, as Mr Swift submitted, be to dismiss the structure of the VAT legislation as mere formalism, but rather to give due weight to the economic reality which explains and underpins that structure.

In the end, I come back to where I started.  In my judgment there is no convincing answer to the common sense proposition that the enrichment of HMRC was indeed at the expense of the claimants, and I would therefore so hold.

Was the enrichment unjust?

On the basis that the payments were made by mistake, and that if the true legal position had been appreciated, the payments would not have been made.  The enrichment was therefore unjust.

Conclusion on restitution claim

The Court concluded as follows (at [87]) “all the basic ingredients of a restitutionary cause of action by the claimants against HMRC are made out, and that subject to any available defences the claims should succeed as a matter of English domestic law“.

Were there any defences to the claim?

The only defence relied on by the Revenue was the statutory provision relating to refunds of VAT.  It was common ground that this provision provided a code for the recovery of VAT and that the code was exhaustive and excludes other remedies (such as common law claims for restitution).  Under the terms of the section, only the supplier could seek to recover under those provisions, and the critical question for the Court was whether the exclusion of other remedies applied only to the suppliers (being the only parties entitled to claim under that section) or it had a wider application which extended to the restitutionary rights of the claimants.

The issue was one of literal vs purposive construction of the section.  The literal construction favoured a limited exclusion which did not extend to the claimants.  The purposive construction favoured a broad exclusion which covered all potential claims for a refund of VAT, regardless of who the claimant was.  The Court favoured the purpose view at stated as follows (at [104]):

At this point, purposive considerations appear to me to be decisive.  The evident purpose of section 80, so far as taxable persons are concerned, is to provide exhaustive and exclusive machines for the recover of undue VAT, subject to a relatively strict time limit for the making of claims.  It is thus common ground that the [supplier] could not make restitutionary claims against HMRC in respect of VAT overpaid by them…although in the absence of section 80 there would be nothing to prevent them from advancing such claims, with the benefit of the usual six year limitation period and mistake-based extensions to it pursuant to section 32(1)(c) of the Limitation Act 1980.  Given that Parliament has decided to enact this limited regime in relation to the taxable persons by whom the undue VAT was paid or accounted for to HMRC, it seems to be inconceivable that Parliament could have intended a more generous regime to be available to end customers buy whom the economic burden of the unlawful tax was actually borne.  It would make no sense to limit recovery by the tax collector, but to expose the Exchequer at the same time to far more extensive claims by the “real” taxpayer.  Furthermore, it could not plausibly be suggested that the position of end customers was somehow overlooked, because the section contains a defence of passing on, and…regulations make elaborate provision for the benefit of repayments to suppliers to be passed on to their customers.  It would be wholly inconsistent with this limited and carefully regulated scheme if claims by the end customers fell outside its scope.

In Australia, it is unclear whether a Court would find that an “ultimate consumer” had a right in restitution to recover over-paid GST directly from the Commissioner of Taxation. The world of restitution is fluid and complex. Nevertheless, I would expect that the Commissioner would strongly defend any contention that consumers had recovery rights against the Commissioner.

At the end of the day, that question may be academic, given that a Court may find that there is a ready defence to any such claim through the provisions of s 105-55 and s 105-65 of Schedule 1 to the TAA, on the basis that those provisions provide an exclusive code for the recovery of overpaid GST.

On 15 February 2011 Treasury released an Exposure Draft of legislation allowing the Commissioner to retain refunds of GST (and other taxes) pending verification.  My initial analysis of the Exposure Draft can be accessed here.

The date for submissions has closed and notwithstanding the very short time period to make submissions, some 12 public submissions were made (many of them taking issue with the short time period in which to respond). A review of the submissions shows that the proposed legislation is viewed by taxpayers as being very controversial and that changes need to be made to the proposed legislation.

The submissions are outlined below and each can be accessed by clicking on the name:

• Alandal Consulting
• BDO
• Corporate Accountants
• CPA Australia
• Dominion Private Clients
• Financial Services Council
• Mills Oakley
• PKF
• Property Council of Australia
• The Institute of Chartered Accountants
• The Tax Institute and Law Council of Australia
• Waverley Council