Fringe benefits tax: employer clients of Toyota Finance Australia Limited who provide car fringe benefits under novated lease arrangements incorporating the payment of insurance premiums

This Ruling sets out the Commissioner's opinion on the way in which the relevant provision(s) identified below apply to the defined class of entities, who take part in the scheme to which this Ruling relates.

The relevant provisions dealt with in this Ruling are: • subsection 9(2) of the Fringe Benefits Assessment Act 1986 (FBTAA) • subsection 10(3) of the FBTAA 1986 • sub-subparagraph 10(3)(a)(v)(A) of the FBTAA 1986, and • subsection 53(1) of the FBTAA 1986. All references in this Ruling are to the FBTAA unless otherwise stated.

The class of entities to which this Ruling applies is employer clients of Toyota Finance Australia Limited (TFAL) who provide car fringe benefits under novated lease arrangements incorporating the payment of insurance premiums.

The Commissioner makes this Ruling based on the precise scheme identified in this Ruling.

The class of entities defined in this Ruling may rely on its contents provided the scheme actually carried out is carried out in accordance with the scheme described in paragraphs 8 to 16 of this Ruling.

If the scheme actually carried out is materially different from the scheme that is described in this Ruling, then: • this Ruling has no binding effect on the Commissioner because the scheme entered into is not the scheme on which the Commissioner has ruled; and • this Ruling may be withdrawn or modified.

This Ruling applies from 1 April 2013. The Ruling continues to apply to all entities within the specified class who entered into the specified scheme during the term of the Ruling. However, this Ruling will not apply to taxpayers to the extent that it conflicts with the terms of a settlement of a dispute agreed to before the date of issue of this Ruling (see paragraphs 75 and 76 of Taxation Ruling TR 2006/10).

The following description of the scheme is based on information provided by the applicant. The following documents, or relevant parts of them, form part of and are to be read with the description: • The Application for Class Ruling dated 3 December 2013. • Example of a Toyota Fleet Management (TFM) Novation Agreement. • Example of a TFM Novated Lease Agreement Terms and Conditions. • Example of a Toyota Insurance Novated Lease Protection Insurance Policy and Product Disclosure Statement (as at 1 January 2014). • Copy of a TFM Novated Finance Lease Quote/Finance Schedule. • Copy of a TFM Novated Finance Lease Salary Packaging Analysis. • Additional information provided by Applicant on 6 March 2014. Note: certain information has been provided on a commercial-in-confidence basis and will not be disclosed or released under Freedom of Information legislation.

The employer clients of TFAL may enter into certain motor vehicle novated leasing arrangements [1] in relation to the provision of car fringe benefits. Under these particular novated lease arrangements the lessor is TFM (TFM is a division of TFAL).

TFAL is developing various insurance products, underwritten by third party insurance companies, to be made available as optional inclusions in the relevant novated lease arrangements.

The three kinds of insurance products that may be included as part of the novated lease arrangements are: (a) 'Motor Vehicle Comprehensive Insurance': providing comprehensive insurance cover against legal liability, accidental loss or damage of the novated leased vehicle and other costs during the period of cover. (b) 'Lease Protection Insurance': providing cover where the lessee's ability to make novated lease payments is affected by certain 'defined life events'. (c) 'Gap Insurance': providing protection against financial loss if a novated leased vehicle becomes a total loss following an accident.

Any one, or more, of the three kinds of insurance products may be included as part of the novated lease arrangements at the discretion of the lessees.

If the option is taken up to include any one, or more, of the three insurance products in the novated lease arrangements then the insurance premiums are directly paid to the insurer by TFM.

Although the lessees do not pay the insurance premiums directly to the insurer, the full costs of the insurance premiums paid by TFM are incorporated into the overall novated lease costs paid by the lessees. That is, the novated lease costs otherwise normally payable are increased by amounts equivalent to the full costs of the insurance premiums paid by TFM for the insurance products selected as additional options by the lessees, commonly referred to as being capitalised into the lease.

During the period of novation the employer clients of TFAL are regarded as the lessees of the novated leases. [2]

The employer clients of TFAL who provide car fringe benefits under these arrangements will determine the taxable values of the relevant car fringe benefits under either the 'statutory formula method', as set out in section 9, or if they elect to do so, under the 'cost basis (operating cost method)' as set out in section 10.

The payments of the insurance premiums to the insurers by TFM, in accordance with the relevant novated lease arrangements, do not form part of the base value of a car for the purposes of subsection 9(2).

The payments of the insurance premiums to the insurers by TFM, in accordance with the relevant novated lease arrangements, do not form part of the operating cost of the car during the holding period for the purposes of subsection 10(3).

The increased novated lease costs will form part of the operating costs of the relevant cars under sub-subparagraph 10(3)(a)(v)(A) and, therefore, the full costs of the insurance premiums are effectively included in such operating costs.

The payments of the insurance premiums to the insurers by TFM, in accordance with the relevant novated lease arrangements, do not constitute separate taxable benefits as they are exempt under subsection 53(1) where the novated lease costs otherwise normally payable are increased by amounts equivalent to the full costs of the insurance premiums for the insurance products selected as additional options by the lessees.

Section 9 sets out the methodology for establishing the taxable values of car fringe benefits under the 'statutory formula method'. The taxable value of car fringe benefits under the statutory formula method is principally determined by multiplying the car's 'base value' by the 'statutory rate'.

Following the 2011 Budget, changes were made to the statutory formula method which resulted in the former progressive statutory rates being replaced with a single statutory rate of 20% (subject to transitional rules) which applies regardless of the kilometres travelled. This single statutory rate applies to all car fringe benefits provided after 7.30pm AEST on 10 May 2011 except where there is a 'pre-existing commitment' in place to provide private use of the car.

Under subparagraph 9(2)(a)(ii), one of the main components in determining the base value of a leased car is the 'leased car value of the car at the earliest holding time'.

As relevant here, the term 'leased car value' is defined in subsection 136(1) as follows: leased car value, in relation to a car held but not owned by a person at a particular time, means: (a) in a case to which paragraph (b) does not apply - the amount that the person could reasonably be expected to have been required to pay to purchase the car from the owner at that time under an arm's length transaction; or (b) if the person commenced to lease the car at that time from a lessor who purchased the car at or about that time - the cost price of the car to the lessor.

Also as relevant here, the term 'cost price' is defined in subsection 136(1) as follows: cost price: (a) in relation to a car owned by a person, means: (i) ... (ii) ...an amount equal to the sum of: (A) the expenditure incurred by the person (other than expenditure in respect of registration or in respect of a tax on, or on a transfer of, registration) that is directly attributable to the acquisition or delivery of the car ...and (B) ...

Therefore, where the lease started when a lessor first bought the car, the base value is the cost price to the lessor (other than expenditure on registration or transfer of registration) directly attributable to the acquisition or delivery of the car. Where the lessor acquired the car at some other time, the base value is the arm's length market value at the time the car was first held.

Under the novated lease arrangements in this case, the insurance premiums are directly paid to the insurer by TFM and the cost of the insurance premiums are incorporated into the overall novated lease costs paid by the employer clients of TFAL.

The payments of such insurance premiums have nothing to do with the arm's length market value of the car when it was first held by the lessor nor do the payments of such insurance premiums have anything to do with expenditure that is directly attributable to the acquisition or delivery of the car to the lessor.

Therefore, neither the direct payments of the insurance premiums by TFM to the insurers nor the inclusion of the cost of the insurance premiums incorporated into the overall novated lease costs paid by the employer clients of TFAL have anything to do with the 'leased car value' as that term is defined in subsection 136(1).

Consequently, neither the direct payments of the insurance premiums by TFM to the insurers nor the inclusion of the cost of the insurance premiums incorporated into the overall novated lease costs paid by the employer clients of TFAL form part of the base value of a car for the purposes of subsection 9(2).

Section 10 sets out the methodology for establishing the taxable values of car fringe benefits under the cost basis (operating cost method). The taxable values of car fringe benefits under the operating cost method are principally determined by establishing the percentage of the total operating costs of the car during the fringe benefits tax (FBT) year that relates to the extent of actual private use.

Subsection 10(3) of the FBTAA specifies what is meant by 'operating cost' for the purposes of subsection 10(2) of the FBTAA. Subsection 10(3) and paragraph 10(3)(a), in particular, of the FBTAA state (as relevant here): 10(3) [Definition of components in formula] For the purposes of subsection (2): (a) the operating cost of the car during the holding period is the sum of: (i) any car expenses (other than insured repair expenses or expenses in respect of registration and insurance) relating to the car incurred during the holding period (whether the expenses are incurred by the provider or by any other person), not including, in a case where the car is leased to the provider, any car expenses incurred by the lessor pursuant to the lease agreement; and (ii) so much of any expense paid or payable in respect of the registration of, or insurance in respect of, the car as is attributable to the holding period (whether the expenses are incurred by the provider or by any other person), not including: (A) ... (B) in a case where the car is leased to the provider - any expense incurred by the lessor pursuant to the lease agreement... (iii) ... (iv) ... (v) in a case where the car is leased to the provider: (A) ...so much of the charges paid or payable under the lease agreement... (B) ...

Under section 162C, the 'holding period of a car' for a particular FBT year commenced either (i) at the beginning of the of the FBT year if the person held it then, or (ii) at the time of the FBT year when the person first commenced to hold the car and ended either: (iii) at the end of the of the FBT year if the person continued to hold it until then, or (iv) ended at the time during the FBT year when the person ceased to hold the car. Under paragraph 162(1)(b) a car is 'held' by a person where the car is leased to the person.

The term 'car expense' is defined in subsection 136(1) as follows: car expense, in relation to a car, means an expense incurred in respect of: (a) the registration of, or insurance in respect of, the car; (b) repairs to or maintenance of the car; or (c) fuel for the car.

Therefore, as relevant here, the 'operating cost' of the car during the holding period will be the sum of any applicable: (a) car expenses (other than insured repair expenses or expenses in respect of registration and insurance) whether the expenses are incurred by the provider or by any other person; and (b) expenses paid or payable in respect of the registration of, or insurance in respect of, the car whether the expenses are incurred by the provider or by any other person (but not including any expense incurred by the lessor pursuant to the lease agreement); and (c) charges paid or paid or payable under the lease agreement.

Under the arrangements in this case, the insurance premiums are directly paid to the insurer by TFM and the cost of the insurance premiums are incorporated into the overall novated lease costs paid by the employer clients of TFAL.

It is considered that the insurance premium payments do not fall within the meaning of 'registration' for the purposes of paragraph (a) of the definition of the term 'car expense' in subsection 136(1).

It is also considered that the insurance premium payments do not fall within the meanings of either, or both, 'repairs' or 'maintenance' for the purposes of paragraph (b) of the definition of the term 'car expense' in subsection 136(1).

It is further considered that the insurance premium payments do not fall within the meaning of 'fuel' for the purposes of paragraph (c) of the definition of the term 'car expense' in subsection 136(1).

However, paragraph (a) of the definition of the term 'car expense, in subsection 136(1), does include 'insurance in respect of the car'. Nonetheless, subparagraph 10(3)(a)(i) specifically excludes any expenses in respect of insurance and subparagraph 10(3)(a)(i) also specifically excludes any expenses in respect of any car expenses incurred by the lessor pursuant to the lease agreement.

Irrespective of whether the insurance premium payments made by TFM pursuant to the novated lease arrangements can be considered to be 'insurance in respect of the car' such insurance premium payments will, nevertheless, be specifically excluded, one way or the other, from the operation of subparagraph 10(3)(a)(i).

Therefore, the insurance premiums directly paid to the insurer by TFM are precluded from falling within subparagraph 10(3)(a)(i) and, consequently, such payments are not included as part of the operating costs of the car during the relevant holding period under that aforementioned subparagraph.

Subparagraph 10(3)(a)(ii) includes in the operating cost of a car 'so much of any expense paid or payable in respect of the...insurance in respect of...the car...whether the expenses are incurred by the provider or by any other person'.

Under the novated lease arrangements, in this case, the insurance premiums are directly paid to the insurer by TFM and the cost of the insurance premiums are incorporated into the overall novated lease costs paid by the employer clients of TFAL.

The meaning of the phrase 'in respect of the employment of the employee' was considered in J & G Knowles & Associates Pty Ltd v. Federal Commissioner of Taxation (2000) 96 FCR 402; 2000 ATC 4151; 44 ATR 22 (Knowles). It was found in Knowles that the words 'in respect of' must be given a meaning that depends on the context in which they are used. In the case of the FBTAA, this means that there must be a sufficient or material relationship or connection between the provision of the benefit and the employee's employment. The establishment of a mere causal link between the benefit and the employee's employment is not necessarily enough.

There is an evident causal link between the insurance premiums directly paid to the insurer by TFM and the relevant car but what is effectively required, for the purposes of subparagraph 10(3)(a)(ii), is that there is 'a sufficient or material relationship or connection' between the payment of such insurance premiums and the car.

Nonetheless, 'any expense incurred by the lessor pursuant to the lease agreement' is precluded by the operation of sub-subparagraph 10(3)(a)(ii)(B) from inclusion in any expenses that will, otherwise, fall within subparagraph 10(3)(a)(ii).

In this case, the relevant lessor is TFM and under the terms of the novated lease agreement it is TFM who pays the insurance premiums to the insurer.

Therefore, the insurance premiums directly paid to the insurer by TFM are precluded from falling within subparagraph 10(3)(a)(ii) and, consequently, such payments are not included as part of the operating costs of the car during the relevant holding period under that aforementioned subparagraph.

Sub-subparagraph 10(3)(a)(v)(A) includes in the operating cost of a car 'so much of the charges paid or payable under the lease agreement' where the car is leased to the provider.

The employer clients of TFAL do not, themselves, directly pay the insurance premiums to the insurers but rather the cost of the insurance premiums are incorporated into the overall novated lease costs paid by them, as lessees, under the particular arrangements.

Therefore, it is considered that it is not the payment of the insurance premiums themselves that form part of operating costs of the car during the holding period but rather it is only the relevant overall leasing charges that form part of the operating costs of the cars during the holding period.

As determined above, at paragraph 42, it is considered that the payments of the insurance premium to the insurers by TFM do not fall within subparagraph 10(3)(a)(i) to be included as part of the operating costs of the car during the relevant holding period.

As determined above, at paragraph 49, the insurance premiums directly paid to the insurers by TFM are precluded by the operation of sub-subparagraph 10(3)(a)(ii)(B) from falling within subparagraph 10(3)(a)(ii) to be included as part of the operating costs of the car during the relevant holding period.

As determined above, at paragraph 52, the insurance premiums directly paid to the insurers by TFM do not form part of the charges paid or payable under the lease agreement for the purposes of sub-subparagraph 10(3)(a)(v)(A) and, consequently, are not included as part of the operating costs of the car during the relevant holding period under that aforementioned sub-subparagraph.

The payments of the insurance premiums to the insurers by TFM, in accordance with the relevant novated lease arrangements, do not form part of the operating cost of the car during the holding period for the purposes of subsection 10(3) (but rather it is only the overall leasing charges that form part of the operating costs of the cars during the holding period).

In this case, the novated lease costs otherwise normally payable are increased by amounts equivalent to the full costs of the insurance premiums for the insurance products selected as additional options by the lessees.

Therefore, amounts equivalent to the full costs of the insurance premiums for the insurance products selected as additional options by the lessees are included in, and correspondingly increase the amount of, the novated lease costs paid by the employer clients of TFAL.

Such increased novated lease costs will form part of the operating costs of the relevant cars under sub-subparagraph 10(3)(a)(v)(A) and, therefore, the full costs of the insurance premiums are effectively already included in such operating costs.

Section 53 provides exemption for certain benefits associated with the costs of operating a motor vehicle where the use of the motor vehicle gives rise to a fringe benefit. Section 53 states (as relevant here): SECTION 53 MOTOR VEHICLE FRINGE BENEFIT FUEL ETC. TO BE EXEMPT IN CERTAIN CASES 53(1) [Benefits provided when car fringe benefit provided] For the purposes of this Act: (a) a car expense payment benefit; (b) ... (c) ... in respect of a car, being a benefit that is attributable to a period when a car fringe benefit was provided, or would but for subsection 8(2) have been provided, in relation to the car, is an exempt benefit. 53(2) [Application where motor vehicle residual fringe benefit] ... 53(3) [Definitions] In this section: car expense payment benefit means an expense payment benefit where the recipients expenditure is a car expense; ...

As the employer clients of TFAL are providing car fringe benefits, an exemption under section 53 will, therefore, apply to any 'car expense benefits', as that term is defined in subsection 53(3), provided in respect of the relevant car.

To constitute a 'car expense payment benefit', as that expression is defined in subsection 53(3), requires that there is (a) an 'expense payment benefit' and (b) the relevant recipient's expense is a 'car expense'.

Section 20 determines when an 'expense payment benefit' arises. Section 20 states (as relevant here): SECTION 20 20 EXPENSE PAYMENT BENEFITS Where a person (in this section referred to as the provider): (a) makes a payment in discharge, in whole or in part, of an obligation of another person (in this section referred to as the recipient) to pay an amount to a third person in respect of expenditure incurred by the recipient; or (b) ... the making of the payment referred to in paragraph (a) ...shall be taken to constitute the provision of a benefit by the provider to the recipient.

The term 'recipients expenditure' is defined in subsection 136(1) as meaning, in relation to an expense payment benefit and as relevant here, the expenditure incurred by the recipient as mentioned in paragraph 20(a).

As stated above, at paragraph 34, the term 'car expense' is defined in subsection 136(1) as follows: car expense, in relation to a car, means an expense incurred in respect of: (a) the registration of, or insurance in respect of, the car; (b) repairs to or maintenance of the car; or (c) fuel for the car.

Under the arrangements in this case, the insurance premiums are directly paid to the insurer by TFM and the cost of the insurance premiums are incorporated into the overall novated lease costs paid by the employer clients of TFAL.

TFM is paying the insurance premiums on behalf of the persons insured. In the absence of any evidence to the contrary in a particular case, the relevant persons being insured will be the original employee lessees.

Again in the absence of any evidence to the contrary, the persons insured are the persons who have the prime responsibility for paying the insurance premiums.

It is considered, therefore, that the payment by TFM of the insurance premiums on behalf of the persons insured will, otherwise, constitute expense payment benefits.

As stated previously at paragraphs 37,38 and 39 respectively, it is considered that the insurance premium payments do not fall within the meanings of 'registration', 'repairs' and 'maintenance' and 'fuel' for the purposes of paragraph (c) of the definition of the term 'car expense' in subsection 136(1).

However, as also stated previously at paragraph 40, paragraph (a) of the definition of the term 'car expense, in subsection 136(1), does include 'insurance in respect of the car'.

As also explained previously, at paragraph 45, it was found in Knowles that the words 'in respect of' connotes a sufficient or material relationship or connection between the things being examined and that a mere causal link between them is not necessarily enough. Of course, the words 'in respect of' must be given a meaning that depends on the context in which they are used.

The obligation for TFM to pay the insurance premiums only continues because of, and during the terms of, the novated leases which have been entered into for the specific purpose of providing the relevant car fringe benefits.

Although the lessees do not pay the insurance premiums directly to the insurer, the full cost of the insurance premiums paid by TFM are incorporated into the overall novated lease costs being paid by the lessees.

The Employers Guide [3] provides the following guidance in relation to the operation of section 53: Operating costs of motor vehicle ... Where the use of a motor vehicle gives rise to a fringe benefit, the benefits associated with the costs of operating the vehicle are exempt benefits. There is no additional FBT liability for operating expenses you provide, such as for registration, insurance, repairs and fuel. This is because the valuation rules for use of the motor vehicle also take into account the operating costs of the vehicle.

Therefore, the underlying principle of subsection 53(1) is to ensure that the provision of certain limited kinds of benefits ancillary to the provision of car fringe benefits do not themselves give rise to a taxable benefit in addition to the provision of the car fringe benefit.

This is because, as advised in the extract from the Employers Guide given in paragraph 75 above, the valuation rules for the use of the cars already take into account the values of the provision of such ancillary benefits in determining the operating costs of the relevant vehicles.

In this case, the novated lease costs otherwise normally payable are increased by amounts equivalent to the full costs of the insurance premiums for the insurance products selected as additional options by the lessees.

Therefore, amounts equivalent to the full costs of the insurance premiums for the insurance products selected as additional options by the lessees are included in, and correspondingly increase the amount of, the novated lease costs paid by the employer clients of TFAL.

Such increased novated lease costs will form part of the operating costs of the relevant cars under sub-subparagraph 10(3)(a)(v)(A) and, therefore, the full costs of the insurance premiums are effectively already included in such operating costs.

If the cost of the insurance premiums are included in the operating costs of the car they will form part of the (increased) taxable values of the car fringe benefits. If the cost of the insurance premiums are also additionally treated as expense payment fringe benefits then this will mean that the same amounts are effectively taxed twice under the FBT regime.

It is considered, therefore, that as the payments of the insurance premiums only continue because of, and during the terms of, the novated leases which have been entered into for the specific purpose of providing the relevant car fringe benefits and also that the full costs of the insurance premiums are effectively included in the operating costs of the relevant cars under sub-subparagraph 10(3)(a)(v)(A) then, in these particular circumstances, exemption under subsection 53(1) should apply to such insurance premium costs to prevent the effective taxing twice of the same amounts.

Therefore, payments of the insurance premiums to the insurers by TFM, in accordance with the relevant novated lease arrangements, do not constitute separate taxable benefits as they are exempt under subsection 53(1) where the novated lease costs otherwise normally payable are increased by amounts equivalent to the full costs of the insurance premiums for the insurance products selected as additional options by the lessees.

The following is a detailed contents list for this Ruling: What this Ruling is about 1 Relevant provision(s) 2 Class of entities 3 Qualifications 4 Date of effect 7 Scheme 8 Ruling 17 Appendix 1 - Explanation 21 Statutory Formula Method 21 Cost Basis (Operating Cost Method) 31 Car expenses 36 Registration or insurance expenses 43 Charges under the lease agreement 50 Conclusion on payment of the insurance premiums forming part of the operating cost of the car 53 Exemption under section 53 for certain motor vehicle benefits when car fringe benefits are also provided 60 Appendix 2 - Detailed contents list 84