Associated Persons in the GST Context

James Coleman, Barrister, Wellington on the application of the associated persons test by the High Court

There have been two cases in the last year or so that have looked at the issue of association in a GST context. The first was the High Court judgment in Concepts 124 Limited v CIR [2014] NZHC 2140 and the second was Staithes Drive Development Limited v CIR [2015] NZHC 2593. They are both of interest because of the particular view of the High Court has taken of the voting interest test set out in section 2A(1)(a)(i).

The Staithes Drive (Staithes) case involved a dispute over whether the purchaser of land was entitled to a GST input tax credit on that purchase. Staithes Drive was the purchaser of the land in question. It was a registered entity having been incorporated on 30 September 2004. The vendor was Whitby Limited, which was not registered for GST.

In order to understand the arguments surrounding association it is necessary to understand the complex ownership structure of each company. Set out immediately below is the wiring diagram provided in the High Court judgment with respect to Whitby.

The director of Whitby was Mr Mason. The chain of corporate ownership was Thoms Brothers Ltd (Thoms Bros), Commercial Management Ltd (Management), Commercial Administration limited (Administration) and Glen Eden Holdings Ltd (Glen Eden). Management held its shares in Thoms Bros on trust for Zinc and Brass Foundries Ltd (Foundries). Management owned 29,999 shares in Foundries which it held on trust for Mr and Mrs Manning who are United States residents. The remaining one sharein Foundries was owned by Nominees, which held that share on trust for Mrs Manning. The Judges noted that Whitby’s ultimate shareholders were Management, Administration and Glen Eden.

The shareholding structure of Staithes is set out in the wiring diagram below:

As can be seen from this wiring diagram a number of the same players appear in the ownership chain as well as shares being held on trust.

The day before the sale and purchase agreement for the land in question was executed, Mr Mason and Mr Russell effectively swap directorships between Whitby and Staithes. Whitby and Staithes entered into the sale and purchase agreement on 10 February 2006 at a transaction price of $4,555,000. That produced in Staithes’ hands an input tax credit of $505,000.

Inland Revenue disputed the input tax refund claim. The law is that where there is the supply by way of sale to a registered person of second hand goods situated in New Zealand, a second hand goods input tax credit is generally available under subs 3A(2) of the Goods and Services Tax Act 1985 (GSTA), if other conditions set out in subs 2(a) through to 2(c) are met. On these facts there was no dispute that the sale of the land was the supply of second hand goods and that all the other conditions were met. However, the amount of the GST input tax credit is governed by section 3A(3) of the GSTA.

Section 3A(3)(a) provides that the amount of input tax that can be claimed if the supplier and the recipient are “associated persons” is the lesser of:

(i) the tax included in the original cost of the goods to the supplier; and
(ii) the tax fraction of the purchase price; and
(iii) the tax fraction of the open market value of the supply.

If the shares in Whitby and Staithes are associated then the input tax credit would fall from $505,000 to zero. The relevant part of the associated persons test is found in s 2A(1)(a), which provides:

(1) In this Act, associated persons or persons associated with each other are—

(a) two companies if a group of persons—
(i) has voting interests in each of those companies of 50% or more when added together; or
(ii) has market value interests in each of those companies of 50% or more when added together and a market value circumstance exists in respect of either company; or
(iii) has control of each of those companies by any other means whatsoever:

After the exchange of the Statements of Position (SOP),  the Commissioner made an application to rely on subs (i) (above). This was opposed on the grounds that it was in breach of s 138G of the Tax Administration Act 1994. The Commissioner was allowed to rely on this new ground and that, in itself, is worthy of an article.

With respect to the voting interests test, Clifford J had decided in Concepts 124 that the voting interests tests in (i) related to the legal ownership of the shares only. This is because the judge found that s YC 9 (which deals with corporate trustees) does not apply in circumstances whre control rather than continuity is being looked at: [72] to [73].Because the judge was dealing with control issues not continuity issues he did not consider s YC 9 applied. Absent its application the existence of the trust was irrelevant and the tracing continued to look at the shareholders under s YC 4.  . Edwards J agreed with the reasoning of Clifford J in the earlier case.

The upshot was that the TRA’s decision was upheld. The High Court judge considered that Whitby and Staithes were associated parties because the same group of companies held the requisite voting interests in each of them pursuant to (i). When one looks at the wiring diagram that can be seen that there is a group of persons (Management, Administration and Glen Eden) who have voting interests in each of the companies of 50 per cent or more when added together, if legal ownership is the sole yardstick.

There was some dismay expressed at this logic at the recent Chartered Accountants Australia and New Zealand conference. The reason for the dismay at least by one of the commentators at the conference was with respect to the conclusion that the court reached that s YC 9 in a control situation. The Commissioner and advisors thought it did. Pursuant to that section, trustees holding shares or options are treated as a notional single person separate and distinct from other legal capacities and as not being a company. Hence the former logic was that  once one bumps into a corporate trustee, one’s tracing stops at that point. On these facts the tracing would stop at Management and Nominees respectively. However, the judges to have a point because s YC 7 expressly says: sections YC 8 to YC 19B apply to modify sections YC 2 to YC 6 when the continuity provisions are applied. These cases were dealing with control not continuity and hence there would seem to be strong statutory warrant for the conclusion that the courts reached. 

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