ATO compliance approach to GST apportionment of acquisitions that relate to certain financial supplies

This draft Guideline [1] outlines our compliance approach for GST apportionment of acquisitions that relate to certain financial supplies. This Guideline sets out the framework we use to assess the risk associated with methods to determine the extent of creditable purpose (ECP) [2] of these acquisitions under the A New Tax System (Goods and Services Tax) Act 1999 . [3]

If this Guideline applies to you, it applies to acquisitions that relate to making the financial supplies covered by the Schedule [4] in the ordinary course of business.

This Guideline reflects our expectations for the design of an apportionment method for these acquisitions. We recognise that flexibility is required in practice, as your individual circumstances (such as your business structure and how your cost allocation system operates) will affect how the principles are implemented.

We use the risk assessment framework in this Guideline and the accompanying Schedule to tailor our engagement with you having regard to your risk rating.

You can use this Guideline to: • obtain confidence about your approach by self-assessing the compliance risk associated with your apportionment method • understand the compliance approach we are likely to adopt given your position within our risk framework, and • work with us to mitigate the risk associated with your arrangements and to consider opportunities to reduce the likelihood that you will be subject to compliance activity.

We are committed to working with you to assist you to obtain confidence about your approach and minimise your compliance risk in this area. If you are unsure about how we would assess the risk associated with your approach or would like certainty in relation to your arrangements, you should contact us for assistance.

This Guideline is not intended to address every potential feature of an apportionment method or variation in individual circumstances noting, in particular: • Acquisitions made as part of a larger transformational or extraordinary change in the business will not fall within the scope of this Guideline. • If your arrangements are under review, we are not limited to the matters covered in this Guideline. • Regardless of your risk zone, we may apply compliance resources to test risks that are beyond what is covered in this Guideline. [5]

The apportionment methods set out in this Guideline are for risk assessment purposes only, and should not be taken as a requirement to use a specific method. Methods or examples provided in this Guideline must be considered in their entirety, as the absence of some elements or the presence of additional elements may change your risk rating.

This Guideline does not limit the operation of the law, and it does not replace, alter or affect our interpretation of the law in any way. [6] It does not relieve you of your legal obligation to comply with all relevant tax laws.

In this Guideline, we refer to 'relevant support area costs in other business units'. These are acquisitions that are not allocated to the business unit that makes a financial supply (such as the credit card issuing business), but that are to some extent for use in making the supply. For example, this includes acquisitions in other business units that relate to particular supplies in the credit card issuing business (for example, a proportion of marketing, technology or customer service costs), overheads that indirectly relate to all the supplies made in the credit card issuing business, or enterprise costs to the extent they are for use in making supplies in the credit card issuing business. [7]

This Guideline relates to determining the intended use of your acquisitions under Divisions 11, 15, 70, 72 and 84. While this Guideline does not address adjustments for the change in use of an acquisition under Division 129, we would expect you to use the same method that you used to determine intended use for these purposes.

This Guideline applies to you if you make financial supplies that are covered by the accompanying Schedule.

This Guideline applies to you in relation to all acquisitions that relate to making these supplies (including relevant support area costs in other business units).

This Guideline will not address how you identify which acquisitions are subject to a particular Schedule (for example, how to determine the extent to which acquisitions are for use in making supplies in the credit card issuing business). We would expect your identification of these acquisitions to follow your natural cost allocation or accounting systems (for example, in identifying the proportion of support area costs in other business units that are for use in making supplies in the credit card issuing business). We would also expect that any changes in the way you allocate your costs would be in response to business changes. Changes in cost allocation for reasons unrelated to business changes are likely to be subject to compliance activity.

Consistent with GSTR 2006/3, we accept that you do not necessarily need to give specific consideration to the status of each individual acquisition. In this context, we accept that you can take an approach where you identify and analyse acquisitions of a particular type that have a similar intended use (for example, the part of your debt collection costs that relate to making particular financial supplies) and treat them in the same way.

This Guideline does not apply to you if you have little or no access to direct estimation methods, and as a consequence you do not use direct estimation methods to allocate or apportion any of your acquisitions to particular business units (for example, a credit card issuing business) or products and/or particular supplies. [8]

For example, this Guideline does not apply to you if you are a smaller financial institution that uses an entity-based general formula for apportionment of all your acquisitions provided that this is in accordance with GSTR 2006/3. [9]

If this Guideline does not apply to you, a review may be undertaken under our usual compliance programs to in order to determine whether your method is fair and reasonable in accordance with GSTR 2006/3.

It is our intention to include additional Schedules to address other specific contexts in the future. We will consult publicly in respect of any additional Schedules.

This Guideline is structured as follows: • the main body explains the risk assessment framework that is relevant to the accompanying Schedule, and • the accompanying Schedule sets out the risk assessment framework for apportionment of acquisitions that relate to making the relevant financial supplies.

You will need to read the main body and Schedule in conjunction to determine your risk rating for the Schedule.

When finalised, this Guideline is proposed to take effect from 1 January 2020. [10]

Each Schedule may have effect from a different date. Where this is the case, the date of effect will be stated in the relevant Schedule.

The use and application of this Guideline will be under review for the first three years after finalisation. Any revisions will be made at the end of the review period or on an 'as necessary' basis. In particular, where a particular ECP rate is used as part of our risk assessment framework, we will review this rate regularly in line with industry developments. We will consult with impacted stakeholders in relation to proposed material changes.

The risk assessment framework in this Guideline is made up of five zones. Where this Guideline applies, you can expect the following engagement from us depending on your risk zone: Risk zone Risk level Our compliance approach White Self-assessment of risk level unnecessary No review other than to confirm ongoing consistency with the agreed/determined approach. Green Low risk We will generally only apply compliance resources to confirm you meet the requirements for this risk rating. Blue Low to moderate risk Low to moderate priority for review. We may undertake compliance activity to gain assurance that you fall within this zone or to address exceptional circumstances. Yellow Moderate risk Moderate priority for review. We may undertake compliance activity to review or test your approach. We will work with you to understand and resolve any areas of difference. Red High risk High priority for review. Reviews are likely to be commenced as a matter of priority.

Where the risk assessment framework in a Schedule provides that you will be in the green zone if you do not exceed a particular ECP rate (as a weighted average across all of the relevant acquisitions), this is subject to the following limitations: • If your weighted average ECP rate for the relevant acquisitions was below the relevant rate prior to the date of effect of the Schedule, you cannot automatically uplift your results to claim this rate. If we identify such uplift, we may seek to understand your relevant circumstances further. [11] • If your ECP rate is in the green zone, this does not necessarily mean that the method you used to determine your rate is itself low risk. As such, if the results of the method exceed the rate to be in the green zone in another period, you will no longer be in the green zone and our compliance approach may change according to your new risk rating. • If you subsequently lodge amendments to your business activity statements and these changes would result in your arrangement being outside of the green zone, you will be taken to not be in the green zone and we may apply compliance resources to assess your methodology.

You will be in the white zone and do not need to consider your risk rating where either: • you are applying the rate in PCG 2017/15 in accordance with that Guideline in the relevant period, or • you satisfy both of the following requirements - any of the following apply to your approach under a Schedule in the relevant period o a settlement agreement between you and us for the relevant period o a court decision to which you are a party o a current private ruling on which you are relying o we have conducted a review in the last two years of a period following the date of effect of this Guideline and provided you with a low risk or high assurance rating for your approach AND - there has not been a material change in your factual circumstances, including in the design or implementation of your methodology, since the time of the agreement, decision or review, or when compared to the scheme described in your private ruling.

You are able to self-assess your risk rating on an annual basis if there have been no changes in your apportionment methodology during the year. For Schedules that commence on 1 January 2020, we would expect you to self-assess your risk rating for the period 1 January 2020 to 31 December 2020.

If there have been changes in your apportionment methodology during the year, you will need to self-assess the relevant periods separately.

We may ask you to tell us in writing whether you have reviewed your risk rating under this Guideline and which risk zone your arrangements fall within. If you are in an annual compliance arrangement, we will expect you to notify us of your risk rating on an annual basis. We will also ask you to tell us your ECP rate relevant to applicable Schedules and whether there have been changes to your methodology during the year.

We encourage willing and cooperative compliance and recognise that the publication of this Guideline may prompt you to review your apportionment methods. This may cause you to adjust your apportionment methods to come within our green zone prospectively.

For the first six months following the date of effect of a Schedule, you will be in the white zone for that period if: • you are actively engaging with us to transition your arrangements to the green zone • by the end of the six-month period, you have made a voluntary disclosure to amend your business activity statements for the periods from the relevant date of effect to achieve an outcome in the green zone, and • for the remainder of the year, your methodology will result in your arrangements being in the green zone.

We will confirm with you whether you meet the requirements to be in the white zone for this transitional period.

If you meet the requirements set out in paragraph 32 of this Guideline, we will remit shortfall penalties to nil and general interest charge to the base rate.

This Schedule applies to you if you issue credit cards or charge cards in a four-party (open loop) payment system. [12]

This Schedule applies to all acquisitions that are for use or partly for use in making supplies in the credit card issuing business, regardless of where they are allocated in your cost allocation system.

The Commissioner's preliminary views on the application of paragraph 11-15(2)(a) to acquisitions that relate to making these supplies are set out in GSTD 2018/D1

Our risk assessment framework is set out as follows:

Verdant Bank's ECP rate is no more than 35%, as a weighted average, which is applied to: • acquisitions in the business unit for its credit card issuing business, and • acquisitions in relevant support areas in other business units, to the extent that they are for use in the credit card issuing business. This includes a proportion of its branch network, call centre, technology, and marketing costs which are in other business units, and a proportion of its overheads that indirectly relate to all the supplies made in the credit card issuing business or enterprise costs that it identifies as being for use in the credit card issuing business.

As the ECP rate used is no more than 35% as a weighted average for all acquisitions to the extent they are for use in making supplies in the credit card issuing business (including acquisitions in relevant support areas in other business units), Verdant Bank is in the green zone.

As Verdant Bank is in the green zone we will not apply compliance resources to assess if the apportionment methodology is fair and reasonable.

In addition, Verdant Bank also claims reduced input tax credits on the relevant acquisitions to the extent it is entitled to do so.

Cyan Bank undertakes an analysis of the acquisitions that are for use or partly for use in making supplies in the credit card issuing business (including in relevant support areas in other business units) over the previous 12 months.

In this case, Cyan Bank only has a few bank branches, so a higher proportion of its acquisitions relate to both the supply of the credit card facility and the supply of interchange services.

Cyan Bank's analysis is as follows: Acquisitions Analysis Acquisitions that only relate to the supply of the credit card facility. These acquisitions include a proportion of branch network costs and call centre costs, debt collection costs, costs to prepare credit card statements, credit check services, services to facilitate the introduction of new cardholders, and advertising services to sign up new cardholders. [23] Some of these acquisitions are in the business unit for the credit card issuing business, and some are relevant support area costs in other business units. These acquisitions have an ECP equal to the extent that this supply is GST-free (determined in accordance with GSTD 2017/1). Cyan Bank determines these acquisitions have an ECP rate of 4%. Acquisitions that relate to both the supply of the credit card facility and the supply of interchange services. These acquisitions include loyalty reward costs, issuer scheme services and credit card production services. [24] Cyan Bank treats all of these acquisitions as being equally intended for use in making both supplies, with apportionment on a 50/50 basis between the supplies. If Cyan Bank made supplies of interchange services in relation to all transactions undertaken by cardholders, this would result in an ECP rate for these acquisitions of 52% (as the supply of the credit card facility is 4% GST-free). However, in this example, Cyan Bank has an acquiring business, and 25% of cardholder's transactions are 'on-us' transactions where it does not make supplies of interchange services. As such, only 75% of these acquisitions would attract the 52% ECP rate. Therefore Cyan Bank determines the ECP rate of the acquisitions is 40% ((75% × 52%) + (25% × 4%)). Acquisitions that are processing services used in the credit card issuing business. These acquisitions are partly to manage and operate the credit card facility account (which only relate to the supply of the credit card facility), and partly to process credit card transactions via the payment system (which relate to both supplies). [25] Cyan Bank undertakes an objective assessment of its acquisitions of processing services to determine the parts that only relate to the supply of the credit card facility, and the parts which relate to both supplies. By undertaking an objective assessment of the relevant functions of the applications involved, Cyan Bank determines that 60% of the acquisitions only relate to the supply of the credit card facility and the remaining 40% relate to both supplies. Using the ECP rates above, Cyan Bank determines the ECP rate of the acquisitions is 18.4% ((60% × 4%) + (40% × 40%)).

To reflect this analysis in its apportionment method, Cyan Bank decides to use separate coding mechanisms to reflect the relevant ECP rate for each of the categories of acquisitions. It will review these coding mechanisms every 12 months (or if material changes occur in its business).

Cyan Bank also has acquisitions that are overheads that indirectly relate to all the supplies made in its credit card issuing business or that are enterprise costs (for example, a proportion of rental costs for head office premises or a proportion of marketing costs to promote awareness of the brand of entity) that are identified as being to some extent for use in the credit card issuing business. Using an input based indirect method, Cyan Bank calculates a weighted average ECP of 35.51% based on the acquisitions it has analysed, which it applies to these relevant overheads or enterprise costs. Cyan Bank also treats the small number of relevant acquisitions that it has not analysed in the same way. [26]

When calculated across all of the relevant acquisitions, Cyan Bank's method results in a weighted average ECP rate that is above the rate to be in the green zone. However, as Cyan Bank is using a method that meets all of the requirements to be low to moderate risk, it is in the blue zone.

In addition, Cyan Bank also claims reduced input tax credits on the relevant acquisitions to the extent it is entitled to do so.

As in Example 2, Cyan Bank undertakes an analysis of acquisitions that are for use or partly for use in making supplies in the credit card issuing business (including acquisitions in relevant support areas in other business units) over the previous 12 months.

However, in this Example, Cyan Bank decides to use only one ECP rate across all of the relevant acquisitions. Cyan Bank determines a weighted average ECP rate that reflects the analysis of its acquisitions.

This analysis can be summarised as follows: Acquisitions GST incurred ECP Acquisitions that only relate to the supply of the credit card facility $1.2m 4% Acquisitions that relate to both the supply of the credit card facility and the supply of interchange services. $13m 40% Acquisitions that are processing services used in the credit card issuing business $1.2m 18.4% Total / weighted average $15.4m 35.51%

Cyan Bank applies the weighted average ECP rate of 35.51% to all of the acquisitions to the extent they are for use in making supplies in the credit card issuing business (including acquisitions in relevant support area costs in other business units). It also applies this rate to acquisitions that are overheads that indirectly relate to all the supplies made in the credit card issuing business or that are enterprise costs which it identifies are to some extent for use in the credit card issuing business (for example, a proportion of rental costs for head office premises or a proportion of marketing costs to promote awareness of the brand of entity).

Cyan Bank uses this rate for the next 12-month period before re-testing it to determine a new weighted average ECP rate (assuming no material changes occur in the meantime). Cyan Bank applies this method consistently, using the analysis of the previous 12 months to determine the intended use for the next 12-month period.

Cyan Bank's method results in a weighted average ECP rate across all of the relevant acquisitions that is above the rate to be in the green zone. However, as Cyan Bank is using a method that meets all of the requirements to be low to moderate risk, it is in the blue zone.

In addition, Cyan Bank also claims reduced input tax credits on the relevant acquisitions to the extent it is entitled to do so.

When finalised, this Schedule will have effect from 1 January 2020.

You are invited to comment on this Guideline, including the proposed date of effect. Please forward your comments to the contact officer by the due date.

A compendium of comments is prepared for the consideration of the relevant tax officers. An edited version (names and identifying information removed) of the compendium of comments may also be prepared to: • provide responses to persons providing comments, and • to be published on ato.gov.au Please advise if you do not want your comments included in the edited version of the compendium. Due date: 1 November 2019 Contact officer details have been removed following publication of the final guideline.