GST treatment of futures contracts
QB 10/02 considers the treatment of futures contracts that are cash-settled, cover physical delivery of a GST exempt commodity, or provide for delivery of money.
All legislative references are to the Goods and Services Tax Act 1985.
What is the correct GST treatment of futures contracts that:
- are cash-settled1 ; or
- provide for the physical delivery of a commodity exempt from GST; or
- provide for the delivery of money?
No GST is chargeable on the provision or assignment of a futures contract in the three circumstances listed above, because the provision or assignment is either an exempt supply or zero-rated.
The provision or assignment of a futures contract is a financial service and therefore an exempt supply when the futures contract:
- does not provide for physical delivery of a commodity; or
- provides for physical delivery of a commodity, but that commodity is an exempt supply; or
- provides for the delivery of money.
(See sections 3(1)(k)(a) and 14(1)(a).)
When a person supplies a cash-settled futures contract to a non-resident who is outside New Zealand when the contract is entered into, that supply will be zero-rated.
This item replaces the Commissioner’s statement on the operation of section 3(1)(k) in Public Information Bulletin 169 (February 1988), p 5 ("PIB 169").
Note that this item does not consider the potential application of elections under section 20F to zero-rate the supply of financial services under section 11A(1)(q) and (r). Elections may result in additional zero-rating.
This section explains how the provision or assignment of a futures contract may be an exempt supply or a zero-rated supply, depending on to whom it is supplied. This section also clarifies the Commissioner’s position on the novation of futures contracts. This is addressed because the Commissioner’s previous statement on the novation of futures contracts in PIB 169 arguably suggested that where a futures contract was novated, GST might be chargeable. The Commissioner considers that this is incorrect.
Section 14(1)(a) provides that a financial service is an exempt supply for GST purposes.
Section 3(1)(k) states:
- For the purposes of this Act, the term financial services means any one or more of the following activities:
- the provision or assignment of a futures contract through a defined market or at arm's length if -
- the contract does not provide for the delivery of a commodity; or
- the contract provides for the delivery of a commodity and the supply of the commodity is an exempt supply; or
- the contract provides for the delivery of money:
Section 3(1)(k) therefore provides that the provision or assignment of a futures contract is a financial service where the futures contract:
Section 14(1B)(a) provides that where a financial service can be zero-rated under section 11A, the zero-rating provisions override the exempting provisions.
In this respect, section 11A(1)(k)(i) provides that a supply of services must be zero-rated where those services are:
- supplied to a person who is a non-resident; and
- that person is outside New Zealand when the services are performed; and
- those services are not supplied directly in connection with land (or any improvement to land) in New Zealand or moveable personal property (other than choses in action).
Therefore, the supply of a cash-settled futures contract will be zero-rated when it is supplied to a non-resident who is outside New Zealand when the contract is entered into. The exception is where the performance of services is, or could be, received in New Zealand by another person including an employee of the non-resident or a director of a non-resident company: section 11A(2). However, it is considered unlikely that section 11A(2) will apply to standard cash settled futures contracts.
For all other futures contracts, section 3(1)(k) is the relevant section.
Novation of futures contracts
Novation in the context of futures contracts is the process whereby a central counterparty interposes itself between the original parties to the futures contract. This is a key feature of derivatives markets as it facilitates market liquidity and allows market participants to trade anonymously without needing to monitor the credit risk of their original counterparty.
The Commissioner considers that the provision of a futures contract under section 3(1)(k) is the supplying or furnishing of a futures contract for entry into such a contract. On this basis, it is the Commissioner’s view that the novation of a futures contract is a financial service, where that futures contract does not provide for the physical delivery of a commodity, or provides for the supply of a commodity exempt from GST or money. No GST will be chargeable where a futures contract is novated in these circumstances.
Where a futures contract is novated to a non-resident central counterparty who is outside New Zealand at the time the futures contract is entered into and that futures contract is cash-settled, then that supply will be zero-rated in accordance with section 11A(1)(k)(i) (and subject to section 11A(2)).
The Commissioner’s previous statement on the novation of futures contracts is set out in PIB 169. PIB 169 appears to suggest that GST could be chargeable in certain situations when futures contracts are novated. This interpretation has been questioned, and issues have been raised about whether this accurately reflects the law. This item replaces the Commissioner’s statement in PIB 169.
1 A cash-settled futures contract is a futures contract that is settled by an exchange of agreed cash flows rather than by the delivery of the underlying commodity.