Devil is in the detail of GST

By Greg Knowles and Donna Huggard

Friday 18th October 2002

Big changes are proposed to the GST treatment of the banking and finance sector. These changes are arguably the most significant since the introduction of GST in 1986. They are under discussion and will have flow-on effects for the broader business community.

The three key areas are:

* zero-rating of business-to-business finance transactions;

* GST reverse charge on overseas services acquired by banks and financial institutions; and

* certain brokerage fees becoming subject to GST.

Currently, financial services are exempt from GST, so banks and finance companies are not able to claim GST on their costs. The government proposes to zero-rate the supply of financial services to GST-registered businesses. Zero-rating will allow banks and financial institutions to claim back a greater proportion of GST on their costs.

This change should reduce business banking costs. However, the devil is in the detail. Administration of this measure will be relatively complex and systems changes will be necessary to accurately identify the zero-rated business transactions. It will be necessary for individual entities or finance industry groups to enter negotiations with Inland Revenue to determine methods for calculating GST apportionment ratios and claiming GST.

The so-called reverse charge is a trade-off for the positive impact of the zero-rating proposal. The reverse charge is a tax on imported services. Just as GST must be paid when goods are imported into New Zealand, under the reverse charge GST must be paid on imported services. This will only apply to businesses that are making exempt supplies, such as financial institutions.

The reverse charge will apply to services such as computer support and other management services provided by an overseas parent or head office. Therefore, when an Australian head office of a New Zealand financial institution charges for management services, IT support and so forth, the New Zealand branch will be required to return GST on the amount of the cost allocation. GST will not have to be returned on the salary and interest costs included in the cost allocation. Transfer pricing analyses will need to be reviewed to isolate the various cost components in these service charges.

The reverse charge is consistent with similar measures adopted by other OECD countries. It is intended to level the playing field for local service suppliers by removing a preference for banks and financial institutions acquiring services from overseas that are GST free.

Given the small size and remoteness of the New Zealand market, this economic rationale may not hold. In the case of cost allocations imposed by a related company, the service provider is captive. For example, a New Zealand branch or subsidiary may be required to source its computer system from head office and not have the option of contracting with a local supplier.

Under a separate proposal, brokerage and commission payments, often exempt, may also be brought into the GST net. This would be through narrowing the financial services definition to exclude certain arranging services. The New Zealand treatment would then be more closely aligned with that adopted in Australia where broking services are specifically excluded from the definition of "financial supplies" and are therefore subject to GST.

Examples of charges that would become subject to GST under this proposal include financial planning, mortgage broking and life insurance commissions. The overall impact of this change will be inflationary as the increased GST cost will ultimately be borne by consumers.

The government has put forward this proposal for further discussion at this stage. A significant amount of lobbying can expected from industry groups to oppose this.

Submissions close with the IRD on December 6, 2002. The proposals will come into force in mid- to late-2004.

Greg Knowles is a tax partner and Donna Huggard a senior manager, GST, at KPMG

Comments from our readers

No comments yet