1) On 30 May 2014 a new regime dealing with refunds of overpaid GST was introduced. The Tax Laws Amendment (2014 Measures No.1) Act 2014 repealed the previous regime found in s 105-65 of Schedule 1 to the Taxation Administration Act (TAA) and replaced it with Division 142 in the A New Tax System (Goods and Services Tax) Act 1999 (GST Act).
2) The new regime applies to tax periods starting on or after 30 May 2014. For monthly taxpayers that means tax periods starting 1 June 2014 and for quarterly taxpayers that means tax periods starting 1 July 2014.
3) Division 142 effectively creates a deeming regime, whereby overpaid GST that has been “passed on” to another entity is taken to have always been payable until that other entity is reimbursed for the passed on GST. The Commissioner retains a discretion to pay refunds, but it is expected to have a narrow operation.
4) Determining whether GST has been “passed on” is therefore a critical matter as it provides the trigger for the operation of the new regime. If no part of overpaid GST has been passed on, taxpayers will be entitled to a refund as a matter of right. However, to the extent that the overpaid GST has been passed on, taxpayers must reimburse the other entity or undertake the difficult task of convincing the Commissioner to exercise his discretion.
5) Critically, whether GST has been passed on will be a question of fact in each case. There is no bright line test and one must be careful about dogmatically applying presumptions or legal principles. However, when one has regard to the legislation and the Explanatory Mememorandum to the Bill (the EM), there does appear to be a presumption that GST will generally be passed on by business. In these circumstances, I expect that the Commissioner will take a broad view on what constitutes passing on and there will likely be disputes with taxpayers, who will then have the onus of showing that the overpaid GST was not passed on.
6) While it is acknowledged that it will often be difficult for the taxpayer to show that GST was not passed on, there do appear to be circumstances in which it is at least an open question whether GST has been passed on. This paper looks at some of those circumstances.
The concept of “passing on” – some general considerations
The source of the concept and its underlying principle
7) The concept of “passing on” finds its source in the law of restitution, as a defence to a plaintiff’s claim that the defendant was unjustly enriched at the plaintiff’s expense. The defence of passing on is said to arise when:
…the plaintiff shifts on to a third party the financial burden that is consequent upon the defendant’s unjust gain. Thus, in the most common scenario, a business purportedly liable for a tax makes payment to the government, but also attempts to recoup its loss by raising the prices that it charges to its customers. When the tax subsequently is determined to be improper or inapplicable, the business seeks restitutionary relief. The government resists that claim on the basis that its enrichment came not at the plaintiff’s expense, but at the expense of the plaintiff’s customers.
8) The underlying principle of “passing on” in the context of indirect taxes, such as sales tax and GST, is that the supplier will generally pass the economic burden of the tax to the consumer. To refund overpaid tax in those circumstances would therefore give the taxpayer a “windfall gain” at the expense of the consumer who bore the economic burden of the tax.
9) The challenge facing a provision which seeks to deny refunds where there has been a “passing on” of the tax is two-fold:
a) First, in many cases where a tax has been overpaid, one of the parties involved will receive a windfall gain – the GST is no different. A passing on restriction ensures that any windfall gain will fall to the Revenue, rather than the taxpayer. So much was acknowledged by Emmett J in KAP Motors Pty Ltd v Commissioner of Taxation  FCA 159 (KAP Motors)where his Honour made the following observation about s 105-65 of Schedule 1 to the TAA (at ):
While its object may be commendable, in seeking to avoid windfall gains for taxpayers, it is, in a sense, a paternalistic interference with the rights of taxpayers. It proceeds on the basis that GST that should not have been paid has been paid by a taxpayer. Its operation is to ensure that the Commissioner receives a windfall rather than a taxpayer.
b) Second, the concept of “passing on” is very difficult to apply in practice, putting a significant hurdle in front of the party that carries the onus of proof.
“Passing on” as a common law defence in Australia
10)The defence of passing on, in the context of unjust enrichment, has received limited consideration in Australia and has been rejected by the Courts in the context of the recovery of overpaid tax.
11)In Commissioner of State Revenue (Vic) v Royal Insurance Australia Ltd (1994) 182 CLR 51 (Royal Insurance) the State imposed a tax on the insurer taxpayer and, although the legislation was subsequently amended to remove the insurer’s liability to the tax, the insurer for some time continued to pay amounts to the Commissioner on account of the tax and attempted to shift the economic burden of the tax to its customers by raising the price of its premiums. The insurer sought restitution of the overpaid tax and the High Court rejected the Commissioner’s argument that the insurer’s act of passing on constituted a defence to the claim. The main judgment dealing with the issue of passing on was that of Mason CJ.
His Honour (at 69) premised his discussion by outlining the following fundamental principal of public law:
There is the fundamental principle of public law that no tax can be levied by the executive government without parliamentary authority…In accordance with that principle, the Crown cannot assert an entitlement to retain money paid by way of causative mistake as and for tax that is not payable in the absence of circumstances which disentitle the payer from recovery. It would be subversive of an important constitutional value if this Court were to endorse a principle of law which, in the absence of such circumstances, authorized the retention by the executive of payments which it lacked authority to receive and which were paid as a result of a causative mistake.
His Honour considered authorities in Canada and the United States dealing with the issue of passing on in the context of recovery of overpaid indirect taxes and made the following observations (at 71):
The argument that a plaintiff who passes on a tax or charge will receive a windfall or will unjustly be enriched if recovery from a public authority is permitted rests at bottom upon the economic view that the plaintiff should not recover if the burden of the imposition of the tax or charge has been shifted to third parties. In the context of the law of restitution, this economic view encounters major difficulties. The first is that to deny recovery when the plaintiff shifts the burden of the imposition of the tax or charge to third parties will often leave a plaintiff who suffers loss or damage without a remedy. That consequence suggests that, if the economic argument is to be converted into a legal proposition, the proposition must be that the plaintiff’s recovery should be limited to compensation for loss or damage sustained. The third is that an inquiry into and a determination of the loss or damage sustained by a plaintiff who passes on a tax or charge is a very complex undertaking. And, finally, it has long been thought that…the basis of restitutionary relief is not compensation for loss or damage sustained but restoration to the plaintiff of what has been taken or received from the plaintiff without justification.
His Honour appeared to equate the position under restitution with that of a claim for money had and received, operating to restore to the plaintiff what has been transferred from the plaintiff to the defendant. Under that approach, it does not matter whether the plaintiff will be over-compensated because he or she has passed on the tax or charge to someone else. His Honour concluded as follows (at 78):
As between the plaintiff and the defendant, the plaintiff having paid away its money by mistake in circumstances in which the defendant has no title to retain the moneys, the plaintiff has the superior claim. The plaintiff’s inability to distribute the proceeds to those who recoup the plaintiff was, in my view, an immaterial consideration…
Brennan J came to a similar view and provided his reasons in a single paragraph. His Honour found that the passing on of the tax did not affect the claim of the insurer – his Honour observed as follows (at 90):
The fact that Royal had passed on to its policy holders the burden of the payments made to the Commissioner does not mean that Royal did not pay its own money to the Commissioner. No defence of “passing on” is available to defeat a claim for moneys paid by A acting on his own behalf to B where B has been unjustly enriched by the payment and the moneys paid had been A’s moneys.
12)The High Court also considered the issue of passing on in Roxborough v Rothmans of Pall Mall Australia Ltd  HCA 68 (Roxborough). The States had for many years imposed an indirect tax on tobacco products. The burden of the tax was intended to be, and was, passed on to the consumers of the products. The High Court (in a different case) found that the tax was invalid and, at the time of the judgment, amounts had been paid by Roxborough (retailer) to Rothmans (wholesaler) in respect of tobacco sold by Rothmans to Roxborough which included amounts of the tax which was now no longer required to be paid by Rothmans to the Revenue. Roxborough claimed to be entitled to repayment of those amounts. The High Court found in favour of Roxborough.
Rothmans contended that if it had been enriched, it was not at the expense of Roxborough, but at the expense of its customers, and justice does not require restitution to be made to Roxborough. In considering this issue, the Court accepted that, at least in a practical sense, the burden of the tax had been passed on by Roxborough to its customers. Gleeson CJ, Gaudron and Hayne JJ observed as follows (at ):
The factual basis of this objection cannot be refuted. It is in the nature of an indirect tax that it enters into the cost of the goods the subject of the tax and is borne by the customers of the goods.
Their Honours found that the decision in Royal Insurance strongly supported the position of Roxborough and found that, as between the parties, Rothmans had no right to retain the amounts in question. As observed by their Honours:
Why does it make a difference to the conscientiousness of the respondent’s retention of the moneys that the products were sold by the appellants at prices that had the practical effect of recouping the expense they bore in paying the “tobacco licence fees”? The holders of licences were those upon whom the tax was imposed, but they were always intended to pass the tax on to the consumers. As between the licensees, it was the appellants who incurred the expense, in that they were charged, and paid, a severable amount for the purpose of the tax.
13)In KAP Motors the Federal Court considered a refund claim by a taxpayer in the context of GST and s 105-65 of Schedule 1 to the TAA. The claim related to GST paid by the taxpayer in respect of various “holdback payments” made by car manufacturers to car dealers. One of the questions put to the Court was in the following terms:
Is the entitlement of KAP Motors and GAP Motors to a refund of GST paid by them after 1 July 2000 in respect of holdback payments precluded by the general law in the absence of their refunding or undertaking to the Court to refund a corresponding amount to the persons from whom they received the holdback payments (including the GST component) in respect of which GST was paid?
Emmett J found that the claim was an action for money had and received and that the claim was not defeated simply because the claimant had recouped the outgoing from others. His Honour concluded as follows (at ):
It is difficult to understand why, as between KAP Motors and GAP Motors, on the one hand, and the Commissioner, on the other, the failure to pass on refunded GST to the relevant distributors should constitute conduct that would disentitle KAP Motors and GAP Motors from recovering from the Commissioner moneys that should never have been paid to the Commissioner. The concept of impoverishment as a co-relative of enrichment is foreign to Australian law. Even if there were any equity in favour of the distributors attaching to the fruits of any judgment that KAP Motors and GAP Motors might recover against the Commissioner, that circumstance would be quite irrelevant to this proceedings (see Roxborough v Rothmans of Pall Mall Australia Ltd (2001) 208 CLR 516).
“Passing on” as a statutory defence
14)The position is different where the defence is found in the statute. In such a case, the statute will override the position at common law and will constitute a code for the recovery of refunds of overpaid GST. This was the effect of the provisions in the Sales Tax legislation which were at issue in Avon Products Pty Ltd v Commissioner of Taxation  HCA 29 (Avon Products) which were described by the High Court (at ) as a statutory code which provided relief against overpaid sales tax to the exclusion of what otherwise could be common law claims for money paid under mistake.
15)A further example of a statutory code overriding the common law rights of taxpayers is found in Qantas Airways Ltd v Commissioner of Taxation (2001) 115 FCR 288 where Qantas sought to recover interest from the Commissioner in respect of overpayments of sales tax which had been refunded to Qantas. The taxpayer made the claim under the Taxation (Interest on Overpayments and Early Payments) Act 1983 and under the general law by way of restitution for the unjust enrichment of the Commonwealth at its expense. The Federal Court found that the statute constituted a code for the recovery of interest on overpaid sales tax. The Court observed that it would be “curious” if the legislature intended to restrict the right to recover interest under the Act, yet intended to allow an unrestricted right, derived from the general law, to remain at the same time.
16)The central provisions are sections 142-5 and 142-10, which provide as follows:
142-5 When this Subdivision applies
(1) This Subdivision applies if, after disregarding any amounts covered by subsection (2), your *assessed net amount for a tax period takes into account an amount of GST exceeding that which is payable.
Note: This Subdivision applies whether or not you have paid, or been refunded, the assessed net amount.
Example: Sunny Co mistakenly reports a negative net amount of $4,000 made up of GST of $10,000 less input tax credits of $14,000. In fact, Sunny Co’s GST should have been $8,000 making its negative net amount $6,000. Sunny Co has excess GST of $2,000.
(2) Disregard the following amounts:
(a) an amount of GST that was correctly payable and attributable to the tax period, but which later becomes the subject of a *decreasing adjustment.
(b) an amount of GST that is payable, but is correctly attributable to a different tax period.
142-10 Refunding the excess GST
For the purposes of each *taxation law, so much of the excess from subsection 142-5(1) (the excess GST) as you have *passed on to another entity is taken to have always been:
(a) payable; and
(b) on a *taxable supply;
until you reimburse the other entity for the passed-on GST.
Note 1: If you reimburse the passed on GST so that this section ceases to apply there will be an adjustment event under paragraph 19-10(1)(b) or (c). You will have a decreasing adjustment (see section 19-55) and the other entity may have an increasing adjustment (see section 19-80).
Note 2: Any excess GST you have not passed on will be refunded as described in section 155-75 in Schedule 1 to the Taxation Administration Act 1953.
Note 3: While this section applies, paragraph 11-5(b) (about taxable supplies) is satisfied for the corresponding acquisition by the other entity.
The concept of “passed on” is not defined, but s 142-25 provides some assistance with its meaning:
142-25 Working out if GST has been passed on
(1) Some or all of an amount of GST may have been passed on to another entity even if:
(a) a *tax invoice is not issued to or by that other entity; or
(b) a tax invoice issued to or by that other entity relates to that GST, but does not contain enough information to enable that GST to be clearly ascertained.
(a) you issue a *tax invoice to another entity, or another entity issues a *recipient created tax invoice to you; and
(b) the invoice contains enough information to enable some or all of an amount of GST to be clearly ascertained; and
(c) in a case where you must pay the *assessed net amount for a tax period to which the invoice relates – you have paid that assessed net amount to the Commissioner;
the invoice is prima facie evidence of that part of that GST having *passed on to that other entity.
The statutory meaning of “passed on”
17)As the words “passed on” are not defined, one must look to the ordinary meaning of those words. In Avon Products the majority of the Full Federal Court ( FCAFC 63 per Ryan and Merkel JJ) (at ) made the following observations on the ordinary meaning of “passing in” in the context of a tax on goods:
It has not been contended on either side on the hearing of the appeal that “passed on” is a technical expression or a term of art. Accordingly, the definitional approach taken by the framers of the Act leaves the concept signified by the expression “passed on” to be applied according to its ordinary English meaning. In the relevant sense “pass on” is defined by the Oxford English Dictionary, 2nd Ed Vol XI p 299 as “To send or hand (anything) to the next member of a series.” That suggests that a tax on goods is “passed on” if, instead of “stopping with” or being “absorbed by” one element in the series commencing with the original producer and ending with the ultimate consumer, it is sent from one element to the next. Put another way the tax is passed on if its burden is passed on.
The ordinary meaning of “passed on” in the context of Division 142 therefore arguably looks to whether the burden of the overpaid GST is passed on to the consumer, as opposed to being absorbed or borne by the supplier.
Guidance from the Explanatory Memorandum
18)The EM (paragraphs 2.67-2.76) provides some guidance as to determining whether overpaid GST has been passed on. This includes the following:
a) Whether GST has been passed on is a question of fact and must be determined on a case by case basis taking into account the particular circumstances of each case.
b) A tax invoice issued to another entity that shows the GST is prima facie evidence of the GST being passed on. However, GST may be passed on even though a tax invoice has not been issued. For example, information may be contained in other documents which would be sufficient to demonstrate that GST was passed on.
c) Whether an indirect tax has been passed on can be a relatively complex inquiry, but the seller’s pricing policy and practice are the starting point of that inquiry. Prices may be set with reference to a wide range of factors (including considerations of cost of production, competitive advantage, operational cash flow and customer goodwill). The seller’s pricing policy and practice is based upon its actual knowledge at the relevant time – this knowledge includes the belief that the component of tax which later proves to have been an overcharge is a real cost of doing business.
19)The EM states that further guidance on the question of “passing on” can be obtained from the decision of the High Court in Avon Products. The EM states as follows:
In Avon, the High Court noted that a central feature of the sales tax regime was that ‘the economic burden of the impost is generally not intended to be borne by the person liable to remit it; it is passed on.
The GST regime is similar to the former sales tax regime in that the entity liable to remit the tax is not intended to be the entity that actually bears the cost of the tax. As such, a number of judicial observations can be readily adapted to a GST context:
◦ in an economy geared to making a profit, GST is expected to be passed on;
◦ businesses set prices to cover foreseeable costs;
◦ GST will be passed on in the usual course of doing business;
◦ it is inherent in an indirect tax system that GST will be passed on; and
◦ it is for the taxpayer to establish a circumstance out of the ordinary, namely that the amount of the overpayment has not been passed on.
20)It is clear from the EM that the decision of the High Court in Avon Products will be important when looking at the concept of “passing on” in Division 142. However, as is made clear in the EM, in each case it will be a question of fact. It is also important to note that Avon Products involved a different legislative regime, being sales tax, and one must always be cautious before too readily applying the views of a Court on one statutory regime to a different statutory regime. So much can be seen from the rejection by the High Court of the taxpayer’s reliance on international authorities – as noted by the Court (at ):
The international authorities relied on by Avon must be treated with considerable caution. They deal with different statutory regimes. In particular, Pt 4 of the Act provides a code of applicable law relating to credits of sales tax in Australia. The international authorities tend to muddy the waters rather than to illuminate them. The United Kingdom authorities may be put to one side because the statutory regime in force is quite different from the scheme of the Act.
While these observations concerned international authorities, the point that sales tax is a different regime remains.
21)Nevertheless, given the central role that Avon Products will likely play in the application of Division 142, it is appropriate to undertake a detailed review of the decision. This review looks not just at the High Court, but also at the decisions of the primary judge and the Full Federal Court on appeal.
A detailed look at Avon Products
22) The underlying facts were not in dispute. The taxpayer had paid tax in accordance with certain sales tax rulings, initially at rate of “cost plus 35%” and then at a rate of “cost plus 15%”. The taxpayer obtained a private ruling to the effect that a lower amount of sales tax was payable. There was no dispute that the taxpayer had overpaid sales tax, what was in dispute was whether the taxpayer had “passed it on” to customers.
The Primary Judge –  FCA 475
23)The primary judge was Hill J, who is generally accepted to be one of the greatest tax minds to sit on the Federal Court bench. It is interesting to consider the following observations of his Honour (at ), as to the difficulty of the task facing a taxpayer who has the onus of showing overpaid tax has not been passed on:
The question whether sales tax has been passed on may be a difficult hurdle for taxpayers seeking a refund to overcome. Whether or not this is the case, there have been few cases where the Court has had occasion to discuss the principles involved. Perhaps the reason for this may lie in the fact that the question is really one of fact and not one of law. No doubt a taxpayer which has charged sales tax at one rate and has thereafter found that the tax properly payable was a lesser amount could, if it wished, refund the amount of the overpayment to customers to whom it had sold goods and in such a case the taxpayer would obviously be entitled to a refund. However, that seldom happens in the real world. Indeed, it may often be impractical as customers may well have gone out of existence or be incapable of being located. That will particularly be the case where sales have been made to the public. In some cases taxpayers may be able to demonstrate that while not having given refunds, they have priced products in such a way as, in effect, to refund amounts previously overpaid to customers by reducing the price at which future goods are sold. Whether a taxpayer in such a case would be successful would depend upon the evidence which is adduced. In other cases a taxpayer may seek to show that it has priced its goods at a price that has the consequence that it is the taxpayer, and not the purchaser from the taxpayer, who bears the sales tax. That is what the applicant seeks to do in the present case. Accordingly it is necessary to examine carefully the evidence, particularly as to the applicant’s methodology for setting prices, and whether or not changes in sales tax affected this methodology.
24)His Honour reviewed the evidence of how Avon set its prices. That evidence was helpfully summarised into the following simple propositions (at ):
1) The lowest figure which Avon would price products at was cost, where cost included sales tax. Avon did not sell products at a loss. In other words to that extent at least, pricing included consideration of the sales tax payable as a cost component, notwithstanding that sales tax represented only a small amount of the price of a product.
2) The highest figure Avon could price products at was the price charged by competitors for comparable products or the price it presently charged for comparable products.
3) Between those two extremes Avon set its price to maximise its profits and achieve over each sales period a desired profit margin averaged over a range of products and a desired volume of sales.
4) Although Avon set what it called a “regular price” for a product, in fact that price was regularly discounted with the result that prices appeared to rise and fall.
5) Avon retained its pricing policy notwithstanding changes in either the rate of sales tax or the method of calculation of sales tax in the relevant period. In other words, it can be said that the regular price advertised remained constant, but as a result of discounting, the prices actually charged went up and down. The pricing of products thus did not specifically depend upon the amount of sales tax payable except so far as at all times it was ensured that Avon would sell its products at a figure which exceeded costs of production plus sales tax.
25)His Honour (at ) accepted the submission of Avon that it was a hallmark of an indirect tax that the economic burden of it is passed on to the ultimate consumer. However, in doing so, his Honour made the following observation which I would contend equally applies to Division 142:
…but if than at face value may lead to the conclusion that sales tax is always passed on to purchasers in the price for which the goods are sold. While that will ordinarily be the case it is implicit in the provisions with which we are here concerned that there will be circumstances where the sales tax will not be passed on to the purchaser.
26)Avon submitted that sales tax is passed on where the amount charged to the buyer is calculated to include a component to recoup the sales tax payable by the vendor. His Honour (at ) preferred the following formulation of that submission (noting that there may not be any real difference):
…sales tax will be passed on where it is shown that the price at which the goods are sold includes sales tax expressly or, if not expressly, where that price is calculated in such a way that the burden of sales tax will be borne by the purchaser.
27)Avon submitted that the sales tax was not passed on because of the evidence as to pricing and particularly from the fact that Avon did not change its prices so as to reflect the change in sales tax. His Honour (at ) considered that underlying the submission was the following proposition:
…that the question whether or not the overpaid tax has been passed on turns upon the question whether, if the amount of sales tax had not been overpaid the buyer would have given less (in which case the tax will have been passed on to the buyer), or the seller would still have charged the same price (in which case there will have been no passing on of the overpaid sales tax). Put another way, the submission is that there will be no passing on of the overpaid sales tax if the buyer is no worse off as a result of the overpayment and the seller has made no windfall gain.
28)Before considering the case law, his Honour put forward the view that the fact that the price of the goods remains constant during the time the sales tax is overpaid tells nothing on its own as to whether the tax was passed on to the purchaser. It is necessary to know first whether prior to the change in sales tax rate it was the purchaser or the vendor who was bearing the sales tax. His Honour then stated as follows:
In the present case the goods were, as I have indicated, always priced at a figure which exceeded cost plus sales tax and ensured a profit to the taxpayer. The fact that some benchmark price was used to determine the price to be adopted does not exclude the implication that sales tax was included in the price. It could be said either that the incidence of sales tax was borne by the customer or that the taxpayer did not show that the incidence of the sales tax was borne by it. It is perhaps immaterial which of these alternatives is adopted.
This extract shows that his Honour placed significant emphasis on the fact that the pricing always ensured a profit to the taxpayer.
29)His Honour observed that the meaning of the phrase “passed on” had been considered by the Full Federal Court in only two cases:
a) In Otto Australia Pty Ltd v Federal Commissioner of Taxation (1991) 28 FCR 477 the taxpayer entered into contracts with municipal councils for the collection of garbage. The taxpayer claimed a refund of overpaid sales tax on bins as those bins were acquired for the use by council. The Federal Court rejected the taxpayer’s submission that there was no passing on unless there could be shown to be an identifiable increase in the price – meaning that it would be necessary to separately invoice the sales tax. His Honour observed that Sheppard J (with whom Burchett J agreed, Beaumont J expressing no view) found that the Commissioner could not have been satisfied in the circumstances that the sales tax was not passed on and observed as follows (at 480):
Once it is conceded, as it has been, that the charge for each bin was computed by reference to costs which included sales tax, that cost was passed on. The fact that the sales tax was not passed on in an identifiable form is not in my opinion of relevance.
b) In Amway Australia Pty Ltd v Commonwealth of Australia & Anor (1999) 41 ATR 443 his Honour noted that the facts were not greatly different from the present case. Prior to 1 June 1988, Amway had calculated a taxable value at “cost plus 20%” on which it paid sales tax. However, from 1 June 1988, at the insistence of the Commissioner, Amway was forced to use a taxable value of “cost plus 35%”. Amway sought a refund of sales tax on the basis that the correct taxable value was “cost plus 20%”. The Commissioner contended that a refund was not available because the overpaid tax had been passed on to customers. His Honour observed that the Court (Hill, Lehane and Hely JJ) said as follows on the passing on issue:
The question of the incidence of particular types of tax is one upon which economists may differ. The generally accepted view, based on John Stuart Mill’s “Principles of Political Economy” (1848) referred to by the Privy Council with approval in Atlantic Smoke Shops Ltd v Conlon (1943) AC 550 and Bank of Toronto v Lambe (1887) 12 AC 575, is that direct taxes, like income taxes, fall upon the person taxed (although income tax may in a general sense be passed on to customers), whereas indirect taxes, such as taxes on the sales of goods are passed on to the consumer…the phrase “passed on” and comparable variations, is not a technical expression. It says no more than that the tax is borne (although not paid) by the end consumer of the goods, who purchases them in a retail transaction.
Also, the Court found that the decision in Otto stood for the following three propositions:
1. The question whether sales tax is passed on requires no separate identification of sales tax in the price.
2. Sales tax would clearly be passed on in circumstances where the evidence was that the price was calculated so as to include within it the sales tax component.
3. Where the evidence in the case falls short of (2) the finder of fact may be satisfied that the sales tax has been passed on unless satisfied that the sales tax was not in fact included in the price. Sales tax will not have been passed on where the tax payer bears the tax personally.
As with Avon, Amway contended that the increased sales tax had not been passed on because it maintained the same price on the products that it continued to sell. The Court rejected this contention and found that it was open to conclude that the tax had not been passed on, noting the following matters:
(1) For a number of goods, Amway’s profit margin had remained the same despite the increase in sales tax. This resulted from exchange variations on goods purchased overseas, which meant Amway’s cost base had fallen and allowed sales tax to be absorbed in the cost reduction;
(2) Where profit margin did not remain the same, Amway simply ceased to sell the goods if the margin became unacceptable.
30)Ultimately, Hill J found that it was a question of fact whether sales tax had been passed on to the consumer or was being borne by Avon. Nevertheless, his Honour found that the applicable principles could be expressed as follows (at ):
(1) The question whether overpaid tax has been passed on will raise the question whether it is the taxpayer or the purchaser from the taxpayer which bears the incidence of the sales tax.
(2) Where the sales tax is separately identified in the price it will be the purchaser from the taxpayer who will bear the incidence of the sales tax.
(3) Where the sales tax is not separately identified in the price it will be necessary for a taxpayer seeking to prove that the tax has not been passed on to show that the price charged is calculated without regard to the sales tax and that the proper conclusion is that it is the taxpayer who is bearing the sales tax. As the onus of proof lies on the taxpayer it will normally be difficult (although not impossible) for the taxpayer to satisfy the onus of showing that the taxpayer bore the incidence of the sales tax where the taxpayer sells at a price above cost plus sales tax.
(4) Where the price charged is calculated so as to exceed the cost (including sales tax) by a profit margin, it will be the customer who bears the incidence of the sales tax and not the vendor of the goods.
(5) Where sales tax increases but prices remain the same there may be a prima facie case that the vendor bears the increased sales tax. However the vendor will still need to show that other factors such as decrease in costs, including exchange variations as in Amway, do not affect the conclusion.
(6) Where there is a change in sales tax rate but prices remain the same it will generally be necessary to know who bore the sales tax before the sales tax change to determine who bears the sales tax thereafter.
31)In conclusion, Hill J accepted that the evidence established that Avon’s regular prices were not calculated as a function of cost (other than to determine that it did not sell at a loss), that it do not change its prices in response to changes in the amount of sales tax payable and that there was no evidence that its costs increased throughout the relevant period. However, his Honour found that Avon had failed to show that the overpaid sales tax was not borne by customers. The main reason for this appears to be that at all times, even with its discounted prices, Avon aimed to sell the products to make a profit (ie, to sell at a price which exceeded cost). As observed by his Honour (at ):
Certainly it is true that the actual discount prices themselves were based upon information from previous sales history, and in particular the price elasticity of the product. However despite this, and despite the fact that the applicant did set its regular prices without much regard to cost, the fact is that the applicant targeted a profit margin for each sales campaign. It follows that the overall campaign objective and the extent of discounting was set to achieve an overall profit margin, that is to say an overall margin over cost including sales tax. In other words the extent of discounting was determined by reference to cost overall, even if not by reference to the individual cost of each item. It is difficult to see what the real difference is between ensuring a particular overall profit margin and pricing at cost plus a profit margin. One is only another way of saying the other. Accordingly, the applicant has failed to show that its prices were not set with regard to cost. They were. That being the case, the tax was passed on.
Full Federal Court
32)The Full Court dismissed Avon’s appeal 2:1, with Ryan and Merkel JJ finding for the Commissioner and Conti J for the taxpayer.
33)The majority referred to the six “propositions” outlined by Hill J at first instance and noted that they understood that those propositions were formulated as general principles that were helpful in determining the question of fact at issue – namely whether the sales tax, or a specific component of it, had been “passed on”.
34)Critically, the majority (at ) considered that the fact that Avon’s regular prices did not change in response to the increases in sales tax was, at best, neutral, noting as follows:
It might have been otherwise had evidence been adduced of a deliberate decision by Avon, uninfluenced by competitors’ prices or other market forces, to absorb the increases when they occurred. However, there was no attempt to adduce any such evidence.
This extract shows the value of direct pricing evidence with regards to the tax at issue, rather than just evidence of pricing generally.
35)The majority (at ) also considered that Avon’s method of pricing was a hybrid, being partly based on market prices (what its competitors charged or what the market could bear) and partly cost-based because of Avon’s determination that in no case an item be sold at a loss (ie, less than cost including sales tax). Given this, the majority were unable to distinguish the decision from that in Otto where it was held that, once it was found that the price charged for an item was calculated by reference to costs including sales tax, the sales tax component had been passed on.
36)In his dissenting judgment, Conti J considered that the fourth “proposition” outlined by the primary judge was the most controversial in the appeal – that proposition was as follows:
Where the price charged is calculated so as to exceed the cost (including sales tax) by a profit margin, it will be the customer who bears the incidence of the sales tax and not the vendor of the goods.
37)His Honour (at ) observed that he had encountered significant conceptual difficulty with the tests enunciated in Otto and stated as follows:
It is not enough to my mind that in a commercial context, or at least in substantial and competitive commercial contexts such as here involved, to mathematically undertake an analysis as to whether resale prices exceeded the total cost price to the seller by any significant margin. As I have earlier indicated, that test may well satisfy bureaucratic requirements for surpluses, but in a commercial environment, which will be always the case in sales tax disputes, the ascertainment of profitability is normally more complex, and hence the likely existence of varying accounting conventions depending on the kind of trading involved.
Further, his Honour found that the question should be approached in a broad and practical way, stating as follows (at ):
Satisfaction of the critical statutory expression contained in Table 3 to the Act, namely has not passed it on, reflecting as it does a normal economic notion of business practice, would normally fall to be determined according to the nature and extent of the particular business operations, the taxpayer bearing the onus of proof on the balance of probabilities of negating those circumstances as to passing on of costs, being an onus which the primary judge characterised as ‘normally difficult’, but ‘not impossible’, to discharge. It would seem that if that critical statutory expression is to be afforded a realistic or practical operation, which I think should be inferred, if not in any event presumed to be the legislative intent, the Court is obliged to adopt a broad and practical approach, rather than require a taxpayer, in particular in the case of a seller of mass produced products such as here involved, to establish its entitlement with mathematical precision. Otherwise those elliptical words comprising the statutory expression has not passed it on would tend to be robbed of practical and realistic operation in a context involving trading or merchandising activity, in commercial contexts such as the present, where the primary judge had found that discounting was a normal incident of trading.
And further at :
The Legislature must be taken to have known that these refund provisions would be required to have an operation in favour of a retailer of an extensive, as well as of a relatively minor, range of consumer products, and that as a consequence, the statutory test required the adoption of a broad as well as commercially realistic conspectus, in the context of the determination as to what would be enough to discharge of the statutory onus.
One can see some similarities between the reasoning of his Honour and the GST being a “practical business tax”. Indeed, earlier this year the Full Federal Court in ATS Pacific Pty Ltd v Commissioner of Taxation  FCAFC 33 (per Edmonds J at ) confirmed that the question whether there is one or two supplies for the purposes of the GST is to be approached “from a practical and business point of view…rather than from any separate treatment or quantification in the text of the contract or related tax invoice”. An open question may also be whether the issue of passing on should also be approached from a practical and business point of view.
38)Having doubted the premise of the fourth proposition found by the primary judge, his Honour then found that the following factors were sufficient, such as to prima facie satisfy, on the balance of probabilities, the onus of proof:
(1) Avon’s regular prices for its products did not change in response to the increases and decreases in the sales tax rate that occurred
(2) Avon did not set its prices at least principally upon the basis of or by reference to cost, but rather by reference to market circumstances for the time being prevailing
Having established this prima facie position, Avon was required to go no further.
39)Avon successfully applied for special leave to appeal to the High Court. The following extract from the transcript reflects the essential thrust of the applicant’s case:
KIRBY J: I do understand that you say that at least if the result is upheld in this case it is very hard for a business to ever succeed in recovering overpaid tax.
MR GAGELER: Yes. Your Honour, a business could only succeed in recovering overpaid tax if the business was a very bad business – that is, if it was going out of business – because if you would take the view of the majority, if the business, being the taxpayer, sells at a profit – that is, if it recovers its costs including the tax that was overpaid – then it has necessarily passed on the tax to its customers and it cannot recover. What that means necessarily is that any decent business is never going to be able to recover. It is only failing businesses or failed businesses that will. That would be a very odd result.
KIRBY J: I suspect from my economics degree that economists would say that in every case it is passed on directly or indirectly.
MR GAGELER: If the ultimate question is – – –
KIRBY J: Unless you somehow isolate it. Was that the theory in the Federal Court?
MR GAGELER: No. The question is who has borne the economic incidence of this tax that has been overpaid? That is the question. We say that the way to test that is to say what has been the effect of the overpayment? Putting it another way, what would have happened if the overpayment had not been made? Now, if it was the case – this is really the simple way in which we put the case – that the prices would have stayed the same, if that is the fair inference to be drawn on the balance of probabilities on the evidence, that the prices would have stayed the same and the taxpayer, if it had not overpaid the tax, would have made a greater profit, then it is the taxpayer and not the customers who have borne the economic incidence of the tax. Really, that is the very, very, simple way in which we put it.
40)The High Court unanimously dismissed Avon’s appeal. The Court rejected Avon’s contention (referred to in the judgment as Avon’s “test”) that the tax is only passed on if the price at which the goods are sold is increased by the amount of the tax. The Court (at ) observed that the Act required proof of “the extent that the claimant has not passed [the overpayment] on” and that this question was not to be answered merely by pointing to price as the sole indicator of passing on.
41)The Court found that the question whether the tax was “passed on” (taking its ordinary meaning) needed to be considered with reference to the particular circumstances of the case. The Court also cautioned against too readily applying a test or formulation – the Court observed as follows (at ):
That question ought not to be approached in an abstract way divorced from the circumstances of a particular case. To speak of a test is to invite error by superimposing upon the words of the statute some alternative formulation which obscures rather than reveals the nature of the inquiry that must be undertaken in order to determine whether a taxpayer has established an entitlement to a credit.
42)The Court saw the nature of the enquiry in the following terms (at -):
As has been explained, it is for the taxpayer to establish a circumstance out of the ordinary, namely that the amount of the overpayment of sales tax has not been passed on. Where the whole or part of the economic burden of sales tax may have been passed on indirectly through prices, the inquiry in this regard is likely to be complex. The complexity arises because prices may be set with reference to a wide range of factors (including considerations of cost of production, competitive advantage, operational cash flow and customer goodwill). However the starting point must be the seller’s pricing policy and practice.
In this way, the question is to be approached with reference to the actual conduct of the seller in setting prices based upon its actual knowledge at the relevant time. That knowledge includes the belief that the component of sales tax which later proves to have been an overpayment is a real cost of doing business. Accordingly, it is unsurprising that a seller’s intention, whether subjective or objectively ascertained, will generally be to pass the burden of the impost on to the purchaser…
43)Importantly, the Court found that in the ordinary course, the sales tax would be passed on, and it was incumbent on the taxpayer to provide otherwise (at ):
Additionally, once it is appreciated that it is in the nature of sales tax to be passed on, there is nothing remarkable in the consequence that proof to the contrary will occur comparatively seldom.
To make the task of the taxpayers all that more difficult, the Court (at ) approved of the findings of the majority of the Full Federal Court (and impliedly also the observations of Hill J at first instance) that:
…where the facts disclose that the taxpayer has set prices at a level to ensure that they exceed cost (including sales tax) it will be difficult for the taxpayer to satisfy the onus… to show that it has borne the tax burden itself.
44)The Court (at ) found that Avon had failed to demonstrate any error in the approach of the majority of the Full Court in rejecting its purported “test” and affirming the decision of the primary judge. The Court considered that the majority of the Full Court had due regard to Avon’s evidence that its regular prices and its discounting policy remained unaltered whatever the sales tax position, however their Honours were unpersuaded that this was determinative – no error had been shown in that conclusion.
Where to from here?
45)Given the findings of the High Court in Avon Products, one may well take the view that it will be a very rare circumstance (other than where the taxpayer makes an error in completing its activity statement) that GST is not passed on and also that it will be very difficult for the taxpayer to convince the Commissioner (and ultimately a Tribunal or a Court) that GST was not passed on.
46)In my view, that will certainly be the case for ordinary commercial transactions, such as those involved in Avon Products. However, as noted by the primary judge in Avon Products, the provisions themselves envisage that there will be transactions where GST is not passed on, and in each case the question must be considered in light of the particular circumstances. With this in mind, discussed below are some examples where it may be an open question whether GST was passed on. In each case, the nature of the evidence adduced by the taxpayer will be crucial.
Change in law
47)There has been a lot of discussion recently about expanding the scope of taxable supplies to include currently exempt supplies such as certain foods, health and education. If this occurred, this would likely raise issues of passing on if taxpayers incorrectly applied the changes and treated a supply as taxable where it should have remained GST-free.
48)Set out below is an example involving the sale of milk upon which the seller mistakenly imposes GST. Even with these relatively simple facts, the relevance of the particular circumstances and pricing choices undertaken by the supplier is clear. It is also clear from the judgment of the High Court in Avon Products that the result cannot be determined by the application of a single “test” and that it is not sufficient simply to rely on the price itself.
49)Consider the following example:
Legislation is introduced to make the supply of soy milk taxable as from 1 July 2015 (cows milk would remain GST-free). A supermarket chain mistakenly concludes that all milk will become taxable and determines to adjust its prices accordingly, after considering the market and its other expenses.
Option 1: the chain decides to increase the price of milk by 10% as at 1 July 2015 solely on account of GST.
Option 2: the chain decides to increase the price of milk by 10% as at 1 July 2015 on account of GST, but also on account of a store wide increase in prices to cover increased expenses, including an increase in petrol taxes, CPI, wages costs, utility costs.
Option 3: the chain decides to increase the price of milk by 5% as at 1 July 2015, on account of GST and other increases in costs.
Option 4: the chain decides to increase the price of milk by 5% as at 1 July 2015, solely on account of other increases in costs and it determines to bear in full the cost of the GST.
Option 5: the chain decides to keep the price of milk the same and to bear the cost of the GST.
In each case the chain issues a tax invoice to the customer showing GST of 10%.
Some 4 months later (after lodging 3 activity statements including GST on the sale of milk), the chain discovers that milk was actually GST-free.
The first point to note is that the issue of a tax invoice will be prima facie evidence that GST was passed on. In the context of disputing an assessment in the context of Division 142, the relevance of this prima facie evidence may be questionable, as the issue of the assessment is itself arguably prima facie evidence that GST was passed on due to the conclusive effect of the assessment. In any event, the task facing the taxpayer in any such objection is to show, by way of evidence, that on the balance of probabilities the GST (or a part thereof) was not passed on to its customers.
Options 1 and 5 would appear to be reasonably clear, although one must take into account the High Court’s comment in Avon Products that the question is not to be answered merely by pointing to price as the sole indicator of passing on. Option 4 should be clear, provided the taxpayer can adduce evidence to support its internal decision to fully bear the burden of the GST. Options 2 and 3 are more problematic, with some sort of apportionment likely to be required.
No tax invoice
50)Division 142 provides that the issue of a tax invoice will be prima facie evidence that GST has been passed on. In contrast, where a tax invoice is not issued, the legislation simply provides that GST may nevertheless have been passed on. One can readily see the basis for this distinction, because a tax invoice will disclose a separately identifiable component of the price paid by the purchaser on account of GST (or at least a way of working it out).
51)The relevance of the distinction was discussed by Mason CJ in Royal Insurance where his Honour (at 75-76) referred to the dissent of Learned Hand J in 123 East Fifty-Fourth Street v United States 45 (1946) 157 F Rep (2d) 68 as follows:
There the Court rejected the defence of passing on in circumstances where a restaurant owner, in accordance with advice received from revenue authorities that it was liable to cabaret tax, paid amounts as and for that tax. The Court held that the tax was not payable because the restaurant was not a cabaret. The restaurant owner had charged the tax to its patrons so that items on the patrons’ bills were actually part of the price paid by them and the money became that of the restaurant owner. The majority considered that this was no bar to recovery by the restaurant owner because the money, when paid to the government, belonged to and was the property of the restaurant owner. However, Learned Hand J. was prepared to infer that the owner had added the tax as a separate item to the bills and described it as a tax which it must pay and was collecting it from patrons in order to pay it to the Treasury. His Honour regarded as crucial the distinction between passing on the tax in this form and merely including in the bills the amount of the tax without saying anything about it.
His Honour went on to find that if it had been established that the insurer had charged the tax as a separate item to its policy holders, it would have been entitled to recover from the Commissioner, provided that it satisfied the court that it would account to policy holders.
52)In Roxborough,Gleeson CJ, Gaudron and Hayne JJ (at ) observed that the case at issue was not unlike that considered by the Court of Appeals of New York in Wayne Country Produce Co v Duffy-Mott Co Inc 155 NE 669. In that case, a manufacturer sold a quantity of cider by wholesale, at a certain price per gallon, less a stated discount, plus the tax. The total amount was paid to the manufacturer, and the manufacturer remitted the tax to the government. Later, it was ruled that the particular product sold was not taxable, and the manufacturer recovered the tax from the government. The purchaser claimed to recover from the manufacturer that part of the amount paid for the cider which was referable to the tax. The Court of Appeals upheld the claim. Cardozo CJ, who delivered the reasons of the Court, described the issue as being whether the money refunded to the manufacturer by the government was held “to the use of the plaintiff”. His Honour went on to say:
This is not a case where the item of the tax is absorbed in a total or composite price to be paid at all events … This is a case where the promise of the buyer is to pay a stated price, and to put the seller in funds for the payment of a tax besides. In such a case the failure of the tax reduces to an equivalent extent the obligation of the promise.
53)That the GST Act expressly envisages the issuing of tax invoices (being a document in which the GST is separately identified or the purchaser is able to determine the amount of GST) is also a possibly distinguishing feature from the sales tax regime which was considered by the High Court in Avon Products. So much can be seen from the following extract of the judgment (at ) (emphasis added, footnotes omitted):
That sales tax is expected to be passed on depends upon the circumstance that sales of goods occur within an economy geared to making profit. It is the profit-making motive of business which, in the nature of things, generally results in sales tax being passed on. This is because, leaving aside rare cases where sales tax is separately identified and superadded to the invoice price after sale, sales tax can only be passed on indirectly through the price mechanism. In a profit-making structure, businesses will set prices so as to ensure at least that all foreseeable costs are recovered, anything above this being conceptualised as a margin of profit. Because sales tax is levied upon the vendor prior to the ultimate sale by retail in the manner explained by Dixon J in Ellis & Clark, it forms part of the cost structure of doing business. There is nothing extraordinary in the proposition that in the usual course of things sales tax will be passed on.
The GST Act operates quite differently. Save for special rules such as the margin scheme (where a tax invoice is not issued), there is an expectation that a tax invoice will be issued where taxable supplies are made. Therefore, in the ordinary course, GST will be effectively identified and superadded to the invoice price after sale.
54)The discussion in the EM about GST being passed on in the absence of a tax invoice refers to an example where a tax invoice has not been issued, but there are documents which the Commissioner could treat as a tax invoice under his discretion in s 29-70(1B). One can readily understand this view, However, what remains unclear is the treatment of a transaction where the price is GST inclusive and the contract is silent on the amount of GST payable. A ready example is the GST-inclusive sale of real property under the margin scheme. The view in the EM (at paragraph 2.80) appears to be that the agreement in the contract that the margin scheme is to be used and that the sale is inclusive of GST indicates that some amount of GST is included in the total purchase price and that an amount of GST has been passed on.
55)However, the scope of the investigation should not stop at the contract. As noted by the EM, it is necessary to also consider the market in which the supplier operates.
56)Consider the following example:
A (a State land developer) sells a completed residential property to B for $400,000, including GST under the margin scheme. Some 6 weeks later B sells the same property to C for $500,000.
Shortly after B sells the property, A advertises the adjacent property for sale, being a similar property. A prices the sale at $500,000, being the price B received for the sale of the adjacent property (but also a price A is happy to sell for because it exceeds its costs of development –including its estimated GST cost). The property is sold to D and the price is GST-inclusive and the parties agree to use the margin scheme. A mistakenly calculates its GST at $50,000 under item 1 of the table in s 75-10(3) where it was entitled to use item 4 of that table, which gave a GST liability of $10,000.
No tax invoice was issued by A, but the EM would appear to support the conclusion that GST was passed on to D because the contract referred to the use of the margin scheme and to the fact that the price was inclusive of GST. Also, the fact that A set the price at an amount which exceeded its projected costs (including it mistaken GST calculation) would also support the conclusion that GST was passed on to D.
However, such a conclusion does appear difficult given the particular market in which the supply was made. D arguably agreed to pay the market price for the property – which could have been taxable or input taxed (indeed, D did not care either way as the responsibility for GST fell to the vendor). While is true that the price gave A a profit, approaching the matter from a practical and business point of view, it does appear arguable that the GST was properly regarded as a cost to A, being something which served to reduce its profit on the sale of the property at the market price, rather than a burden passed onto D. Such a conclusion does appear to gain support from the fact that requiring A to reimburse D for $40,000 GST would arguably give D a windfall gain.
This argument appears even stronger if A and B auctioned their respective properties on the same day and each property was sold for the price of $500,000 (to C and D respectively). One sale includes GST and one does not, but both purchasers paid what the market would bear. It would appear to be a harsh result that A has passed on the GST to D and that A can only receive a refund of overpaid GST if it passes that refund on to D.
In considering the above matters, I note the observation of the Tribunal in Luxottica Retail Australia Pty Limited and Commissioner of Taxation  AATA 22 at - (dealing with GST overpaid by the Applicant on the sale of spectacles) that:
(1) a reimbursement to the customer would reduce the selling price of the spectacles and the customer would walk away from the transaction having paid, in net terms, less than he or she contracted with the Applicant to pay; and
(2) a windfall would flow to “the undeserving customer”.
Price taker not a price maker
57)The taxpayer’s pricing policy is clearly of critical importance in determining whether GST has been passed on. A fundamental question will likely be whether the taxpayer positively took GST into account in determining its price (ie, to ensure that the price recovered its costs and allowed a profit margin) or whether the taxpayer simply set its price by reference to what its competitors charged.
58)An example is found in Case 45/95 (1995) 95 ATC 395, which was discussed by Hill J at first instance in Avon Products (see ). In that case, the taxpayer sold wine at the cellar door and in setting its prices it had to take into account both competing cellar door prices as well as hostility from retailers if prices were too low. The Tribunal accepted the taxpayer’s evidence that in setting its prices the taxpayer did so by reference to the sales tax that was found to be overpaid and found that the sales tax was not passed on.
59)In reality, one would expect that businesses would set their prices by reference to both what their competitors are charging and also to their costs, so as to ensure that they are making a profit. In Avon Products the majority of the Full Court referred to this as a “hybrid” approach, and appeared to take the view that, as the price was set above costs, the tax was passed on. It may be rare that a taxpayer can show that he or she set prices solely by reference to what competitors were charging and took no account of his or her costs.
60)The introduction of Division 142 into the GST fundamentally changes the treatment of GST overpayments and removes much of the uncertainty which surrounded s 105-65 of Schedule 1 to the TAA. However, Division 142 introduces uncertainty of its own, namely when is overpaid GST “passed on” to the purchaser? With uncertainty comes disputes, and I expect this to be no different.
61)The decision of the High Court in Avon Products shows that taxpayers will often face a difficult task in establishing that overpaid GST was not passed on, and one would expect that the Commissioner will take a broad view on what constitutes “passing on”. However, each case will be a question of fact and the evidence of how the taxpayer set its prices and addressed the issue of GST will be crucial.
27 June 2014
 See McInnes, M, “Passing On” in the Law of Restitution: A Re-consideration”, Sydney Law Review, 1997, Vol. 19, 179 for a detailed discussion of the defence of passing on in the law of restitution.
 Air Canada v British Columbia (1989) 59 DLR (4th) 161.
 Shannon v Hughes and Co 24 (1937) 109 SW (2d) 1174.