TRA allows deduction for GST input tax on legal services provided in trusts
2009 case note – trustees claimed invoice trust deductions for input tax on fees from litigation between trustees and beneficiaries - section 3A, taxable activity.
The trustees claimed various invoice trust deductions for input tax on legal fees arising from litigation between the trustees and beneficiaries. The question was whether these services were acquired for the principle purpose of the trust's taxable activity.
Impact of decision
Trustees can claim a deduction for legal fees on a GST input return basis through the trust when the trust is carrying out a taxable activity even if the fees are paid for by a third party. In the absence of an exempt supply or criminal charges outside the scope of normal business activity, GST input tax on legal fees which are incurred in the course or furtherance of a GST registered person's taxable activity will be deductible in full.
This proceeding involved two disputant trusts who are acting in a type of representative capacity as part of a complex structure of family trusts all having similar claims. The cases of the other trusts have been stayed pending the outcome of this case.
The disputant trusts claimed deductions of GST input tax for legal fees associated with extensive trust litigation. The trust litigation came about due to a dispute between family members. The dispute involved the removal of trustees of various trusts ("breach of trust proceedings").
The Commissioner disallowed the disputant trusts' GST deductions on the basis that the legal services were not acquired for the principle purpose of making taxable supplies. Also the invoices were not issued to any particular trust nor were they valid "tax invoices" for GST purposes.
Whether legal services were acquired by the disputant trusts?
The disputant trusts engaged professional legal providers to assist them in defending the breach of trust proceedings. The family trusts (through their trustees) had a legal obligation to pay the legal service providers.
The fact that the legal fees may have been indirectly funded at times by a third party is of no relevance to the GST position in terms of an input tax claim, the GST-registered person has the contractual liability to pay for the relevant supply of legal and other services.
The fact that the majority of the invoices produced during the proceedings were addressed to "The trustees of the Trust" globally is of no relevance.
A GST-registered person will be in the GST tax base and eligible to claim all GST input tax on costs charged to it, unless the trust is making exempt supplies and those costs can be shown to be referable to those exempt supplies.
In the absence of a clear disqualifying feature like an exempt supply or criminal charges outside the scope of normal business activity, GST input tax on legal fees which are incurred in the course or furtherance of a GST registered person's taxable activity will be deductible in full; as they must be to avoid that person being a consumer.
Whether a taxable activity was carried on by the disputant trusts, and were legal costs acquired in the course of furtherance of that activity?
The disputant trusts were carrying on a "taxable activity" at the time the relevant legal services were acquired.
In the case of the first disputant trust, it carried on the activities of leasing its land to a winery for viticulture purposes and the balance of its land was used for cattle and sheep grazing, breeding and fattening. Financial statements for the trust record the rent being paid. The share of GST input tax incurred on the legal services was "an ordinary incident of administration of the trust" and proper and reasonable cost for the trust to incur (Variety Leisure, Bayly and Case R38).
In the case of the second disputant trust, it provided bailment services and performed other bailment activities. This trust owned a large amount of livestock and the bailment activity per se was an economic activity and not a hobby. While there was no formal bailment arrangement, the arrangements operated in practice for some time. The fact that a third party provided staff from time-to-time to assist with the running of the trust's farming/economic activities would not alter this conclusion as many farming arrangements, particularly on this scale, often involve shared and informal arrangements. Bailment rental was received by the trust in the relevant GST periods, bailment rental calculations are recorded, as well.
The fact that the trust also had a shareholding in a farming station company did not alter the fact that a taxable activity was being conducted by it. The farming is incidental to the principal taxable activity being carried on. The legal costs incurred were proper and reasonable ones and an incidence of ordinary trust management and administration.
Whether any legal services were acquired for the principal purpose of making taxable supplies?
The legal services acquired were no different conceptually from the costs or valuation and accounting and consulting services which each of the disputant trusts acquired in the same GST periods.
The key point in solving this issue is to determine what effect the legal services had on the making of taxable supplies by the disputant trusts. The Authority understood that unless the litigation was resolved, the respective taxable activities of the disputant trusts were likely to collapse or, at least, be affected adversely in terms of good trading relations.
The pro-rating system used by the trustees to allocate legal and other costs to each of the disputant trusts was a reasonable and fair thing to do as all the trusts were embroiled in the breach of trust proceedings.
The legal costs charged to the disputant trusts came essentially from one legal service provider. An analysis of the relevant invoices discloses a range of entirely orthodox and general legal costs associated with a breach of trust proceedings.
There is no question that the legal costs incurred in the relevant GST periods related to the defence of the breach of trust proceedings. That is to do with management of the trust and its activity.
Evidence confirmed that claims arising from the breach of trust proceedings against the disputant trusts were designed to protect the income-earning capacity of the disputant trusts, and to protect their capital. The trustees of the family trusts affected by the breach of trust proceedings had to defend allegations of a breach of trust against them. The trustees would have been in breach of trust in not defending the claims.
It is well-established that where a trustee's conduct in terms of a trust is challenged by beneficiaries alleging breach of trust and the trustee incurs legal cost in defending those allegations, the incurring of those costs is a normal incident of the administration of the trust.
If GST input tax is not allowed to each of the trusts as GST-registered persons, they will effectively be consumers for GST purposes, and would bear the actual GST cost charged to them by legal service providers. That seems contrary to the scheme and purpose of the Act. Even if either trust never made a taxable output again, the GST charged to it should be an input because, until the trust exits the GST tax-base, any inability to recover the GST charged to it will always leave it in a position of economic loss. That would not fairly reflect the value-added position of that trust in carrying on a taxable activity.
Are the tax invoices adequate?
The Authority has considered that on a sensible commercial practice basis, the invoices for legal services held by the trusts in the relevant GST periods satisfied all the necessary statutory requirements to support the deductions of GST input tax in terms of section 20(2) of the GST Act. The relevant invoices from the main legal service provider and other services providers constituted tax invoices for the purposes of section 24(3) of the GST Act. Consequently even in the absence of a valid tax invoice, it would be impractical in a dispute of this type to require anything more.
- The Authority understood the Commissioner acted incorrectly in disallowing the GST input tax claimed by the disputant trusts on the legal services charged to them in the particular GST periods;
- that the disputant trusts acquired legal services for the principal purpose of making taxable supplies;
- that the invoices held by the disputant trusts, in respect of the disallowed legal and other services provided to them, constitute valid tax invoices allowing a deduction of GST input tax under section 20(3)(a) of the GST Act.
Goods and Services Tax Act 1985 ("GST Act) and the Tax Administration Act 1994 (TAA)