GST de-registration - planning is essential
De-registration for GST purposes can be a minefield for the unwary, especially in situations involving proposed sales of land acquired prior to the imposition of GST in October 1986. The minefield is not entirely removed by the new rules on land transactions from 1 April 2011, because the zero rating treatment applies only when the recipient is registered for GST.
On 5 April 2011, the Court of Appeal delivered a judgment concerning the tax implications of GST de-registration in a situation where the taxpayer had plans to sell the land after de-registration: Thompson v Commissioner of Inland Revenue  NZCA 132. Not only does the judgment in Thompson reinforce the need for care in GST de-registration situations, it also provides taxpayer-friendly obiter comments refuting any suggestion that the arrangement in this case could be stigmatised as tax avoidance.
The case concerned three pieces of land. Mr Thompson, the vendor of the land, and the plaintiff in the litigation, had plans to sell land that he had acquired near Nelson in 1979, prior to the introduction of GST in this country. Mr Thompson was registered for GST and had been carrying on a leasing business on the land. Presumably aware of the implications of GST de-registration, given his land holdings, he sought professional advice. That advice was to the following effect:
- If he deregistered before the sale of the land, he would be obliged to pay GST output tax on the land held at the date of de-registration but at the rate of 1/9th of the original cost price of the land.
- If he sold the land prior to deregistering for GST purposes, he would be obliged to pay GST output tax of 1/9th of the sale price.
- If he deregistered prior to sale of the land, and then subsequently sold the land to an associated entity, a full GST input tax credit would be claimable by the associated entity but the taxpayer would have no liability to pay GST output tax because he would not be GST registered at the point of sale.
- That there should be a period of time between the de-registration and the sale. A period of three months was suggested.
There was a considerable difference in value between the current market price and the original cost of the land.
Armed with this advice, Mr Thompson filled out the GST de-registration forms for Inland Revenue. He stated on the form that the de-registration should take effect from 30 November 1999. In response to various pieces of information requested by Inland Revenue on the form, Mr Thompson answered that he was conducting a taxable activity, but with a turnover of less than $30,000. He also advised, in response to a question on the form, that he was retaining certain assets, including land.
Having sought to be deregistered from 30 November 1999, Mr Thompson then sold 49 hectares (subdivided from the larger block, being the Rolleston farm) to an associated entity on 3 December 1999. Settlement occurred in June 2000. The sale was conditional on certain events.
On 31 March 2000 Mr Thompson sold 15 hectares of the Rolleston land to an associated entity, and on 29 September 2000 he sold the remaining 138 hectares to a related entity for $2 million.
Although Inland Revenue initially processed the GST de-registration, they later assessed Mr Thompson for GST output tax on all three sales transactions. Mr Thompson disputed the assessments and that led to the recent Court of Appeal decision.
The relevant legislative provisions are ss 51 and 52 of the Goods and Services Tax Act 1985 (GSTA 1985). Pursuant to s 51, a person is liable to register for GST if at the end of any month they have, over the preceding 11 months, made supplies over the threshold (which is now $60,000).
Alternatively, a person is liable to be registered if on a prospective basis there are reasonable grounds for believing that over the next 11 months they will make supplies that exceed the threshold. There are exceptions to this, one of which is that for the purposes of registration, the threshold is not considered to be crossed if the value of supplies will exceed the threshold solely because of the cessation of taxable activity, or a substantial reduction in the size or the scale of the taxable activity.
Section 52 deals with cancellation of GST registration. The ability to cancel depends on whether the Commissioner of Inland Revenue (CIR) is satisfied that the value of a person's GST supplies over the next 12 months will be below the GST threshold.
Section 5(3) provides that any goods held on de-registration shall be deemed to be supplied. At the time that the relevant transactions in the Thompson case occurred, s 10(8) of the GSTA 1985 provided that where there is a deemed supply pursuant to s 5(3), the value of the supply was deemed to be the lesser of the cost of the assets or their open market value.
One reason for the haste with respect to the sale of the land may have been that following a 1997 review, Parliament amended s 10(8) (in 2000) to ensure that market value was the sole basis for determining value in a s 5(3) deemed supply situation. The change retained, however, the lesser of cost or open market value formula with respect to assets acquired prior to October 1986.
The Lopas case
Mr Thompson's case was the first Court of Appeal decision on de-registration following that Court's 2006 decision in Lopas v Commissioner of Inland Revenue (2006) 22 NZTC 19,726. The Lopas case had concerned an interpretative issue surrounding s 52, and whether the reference in s 52 to the GST threshold in s 51 was a reference simply to the monetary sum of (what is now) $60,000, or was a reference to that monetary sum and the exclusions contained in s 51. As mentioned above, one of the exclusions in s 51 was supplies made on cessation of a taxable activity. If supplies made on cessation of a taxable activity were excluded from the threshold calculations in s 52, then the timing of the sales of land owned by a person who was deregistering from GST would be irrelevant, as they would be ignored as not being relevant for computational purposes.
The Lopas case held that for s 52 purposes the reference to the GST threshold is a reference to simply the number appearing in s 51 and is not a reference to the figure and the exceptions contained in the section. Therefore if a person on de-registration is planning to sell assets within the 12 months following their preferred date of de-registration, those supplies will, if they occur in the following 12 months, be counted; and the actual date of de-registration will be at the point that those sales have been completed and it can objectively be considered that there will be supplies under the threshold over the next 12 months.
The Court of Appeal said in Lopas:
In this case, the sale to the Trust's Partnership was planned at the time of the application for de-registration. Indeed, major steps had been taken by the parties in relation to the sale, even if beneficial ownership had not passed. It is an available inference, from the timing of the entry into the sale agreement on 8 [October] 1999, that the consummation of the sale was merely awaiting the re-registration. This means, in terms of the analysis above, that the level of taxable supplies in the 12 months following 30 September 1999 was clearly going to exceed the threshold.
In Lopas the relevant taxable activity was forestry. The taxpayers applied for cancellation of the GST registration effective from 30 September 1999 but the impending sale of land for $375,000 meant that the anticipated taxable supplies in the ensuring 12 months would exceed the then threshold of $30,000. Consequently, the CIR was found to be correct in cancelling the de-registration and treating the sale of the land as part of the carrying on of a taxable activity.
Given the effect of Lopas and the fact that neither party was disputing its correctness, the principal issue in the Thompson case was whether the sales were sufficiently planned or contemplated to be included in the 12 month period from the date on which Mr Thompson sought to be deregistered.
Counsel for Mr Thompson submitted that the sales were not planned, whereas counsel for the CIR seemingly agreed that they were not planned, but were in fact contemplated. The Court admonished both counsel for excessive focus on words like "planned" and "contemplated" in the Lopas judgment, on the grounds that the Lopas decision was a judgment, not a statute. The Court considered that it was untenable in the Lopas case to suggest that the CIR was wrong in including the sale in his consideration of whether there were reasonable grounds for concluding that over the next 12 months supplies would be made under the relevant threshold.
Lopas, the Court said, established that two conditions must be met before the CIR could be satisfied under s 52(1) that de-registration was appropriate. First, it must be the case that no sale is planned as at the date of de-registration, or at least not a sale that would mean that the threshold was crossed; and secondly, the taxable supplies must be otherwise less than the threshold in the next 12 months.
On the facts Mr Thompson failed both tests. Further, it also transpired that he had yet another difficulty. Mr Thompson continued to receive rent of nearly $3,000 a month. At that rate he was making supplies - irrespective of the land sales to which this litigation relates - of $36,000 a year. While various attempts were made by Mr Thompson to assign that income, those attempts were held to be unsuccessful and to provide an independent and fatal reason as to why the CIR was correct in his assessments.
There is an interesting obiter passage at the end of the judgment . In the disputes documents, the CIR had raised as an alternative argument that the steps and transactions that Mr Thompson took amounted to an arrangement that infringed s 76 of the GSTA 1985. Section 76 of the GSTA 1985 is the equivalent provision to s BG 1 of the Income Tax Act 2007 - it is a general anti avoidance provision.
The Court went out of their way to say:
"...we record that we were not impressed by the Commissioner's argument on this topic, which was clearly no more than a backup argument to the (successful) arguments based on the black letter requirements of the relevant legislation."
This obiter statement is generally helpful for taxpayers. It indicates that despite explicit steps being taken to gain a tax advantage, the Court was unimpressed with the suggestion that those steps should be stigmatised as constituting tax avoidance. While there was nothing artificial or contrived about the transactions, there was an explicit pursuit of tax advantages. It would seem therefore that it is artifice and contrivance that remain the key determinant of avoidance, not explicit pursuit of tax benefits.
In conclusion, the judgment is a reminder of the need for careful planning with regard to GST de-registration. It also contains an unexpected bonus in the form of taxpayer-friendly obiter comments as to what would not be considered to amount to avoidance.