Technical tax area: Operational statements

OS 005 GST and the costs of sale associated with mortgagee sales

This Operational Statement also appears in Tax Information Bulletin Volume 16 Number 3 (April 2004)

Introduction

1. This Operational Statement sets out the Commissioner's position on GST input tax claims in relation to the costs of sale associated with mortgagee sales namely:
   
   
   1. Whether the mortgagee's costs of sale can be deducted prior to the calculation of GST due; and
      
      
   2. Whether a mortgagee can claim input tax on a mortgagee sale for the costs associated with the mortgagee sale.

Application

2. This Operational Statement sets out the Commissioner's existing position in relation to the Goods and Services Tax Act 1985.

 

Background

3. This Operational Statement has been produced due to growing evidence of cases where mortgagees in mortgagee sales are deducting the costs of sale before calculating the GST that is due pursuant to the Goods and Services Tax Act 1985, and related issues.
   
   
4. This statement therefore clarifies the GST treatment in relation to the issues that have arisen out of the above situations.

Summary

5. A mortgagee making a mortgagee sale cannot deduct the costs of sale before calculating the GST due under section 17 of the Goods and Services Tax Act 1985.
   
   
6. A mortgagee cannot claim input tax for the costs associated with a mortgagee sale.

Legislation

Goods and Services Tax Act 1985

SECTION 3 MEANING OF TERM FINANCIAL SERVICES
3(1) [Financial services defined] For the purposes of this Act, the term financial services means any one or more of the following activities

...

(ka) The payment or collection of any amount of interest, principal, dividend, or other amount whatever in respect of any debt security, equity security, participatory security, credit contract, contract of life insurance, superannuation scheme, or futures contract:

...

SECTION 3A MEANING OF INPUT TAX

3A(1) [Input tax defined] Input tax, in relation to a registered person, means-

1. Tax charged under section 8(1) on the supply of goods and services made to that person, being goods and services acquired for the principal purpose of making taxable supplies:

...

SECTION 5 MEANING OF TERM SUPPLY

...

5(2) [Sale in satisfaction of debt] For the purposes of this Act, where any goods acquired
(whether in terms of a hire purchase agreement, as defined in the Hire Purchase Act 1971, or otherwise) or produced by a person (that person being referred to hereafter in this subsection as the first person) are sold, under a power exercisable by another person (that person being referred to hereafter in this subsection as the second person), in or towards the satisfaction of a debt owed by the first person, those goods shall be deemed to be supplied in the course or furtherance of a taxable activity carried on by the first person (being deemed a registered person), unless-

1. The first person has furnished, to the second person, a statement in writing that the supply of those goods would not be a taxable supply if those goods were sold by the first person (notwithstanding that the first person may not be the owner of those goods), and stating fully the reasons why that supply would not be a taxable supply; or
2. Where the second person has been unable to obtain the written statement referred to in paragraph (1) of this subsection, that person may determine, in relation to any reasonable information held, that the supply of those goods would not have been a taxable supply if those goods had been sold by the first person (notwithstanding that the first person may not be the owner of those goods).

...

SECTION 6 MEANING OF TERM "TAXABLE ACTIVITY"

...

6(3) [Exclusions] Notwithstanding anything in subsections (1) and (1) of this section, for the purposes of this Act the term "taxable activity" shall not include, in relation to any person,-
...

4. Any activity to the extent to which the activity involves the making of exempt supplies.

SECTION 14 EXEMPT SUPPLIES

14(1) [Exempt supplies] The following supplies of goods and services shall be exempt from tax:

1. The supply of any financial services (together with the supply of any other goods and
   services, supplied by the supplier of those financial services, which are reasonably incidental and necessary to that supply of financial services), not being-
   1. A supply of financial services which, but for this paragraph, would be charged with tax at the rate of zero percent pursuant to section 11A; or
   2. A supply of goods and services which (although being part of a supply of goods and services which, but for this subparagraph, would be an exempt supply under this paragraph) is not in itself, as between the supplier of that first-mentioned supply and the recipient, a supply of financial services in respect of which this paragraph applies:

...

SECTION 17 SPECIAL RETURNS

17(1) [Sale in satisfaction of debt] Where goods are deemed to be supplied by a person
pursuant to section 5(2) of this Act, the person selling the goods, whether or not that person is a registered person, shall, on or before the last working day of the month following the month within which the sale was made, -

1. Furnish to the Commissioner in the prescribed form a return showing-
   
   1. That person's name and address and, if registered, registration number, and
   2. The name, address, and, if registered, registration number of the person whose goods were sold; and
   3. The date of the sale; and
   4. The description and quantity of the goods sold; and
   5. The amount for which they were sold and the amount of tax charged on that supply; and
   6. Such other particulars as may be prescribed; and
2. Pay to the Commissioner the amount of tax charged on that supply; and
3. Furnish to the person whose goods were sold, details of the information shown on the return referred to in paragraph (a) of this subsection,-

and the person selling the goods and the person whose goods were sold shall exclude from any return, other than a return required pursuant to this subsection, which either or both may be required to furnish under this Act, the tax charged on that supply of goods.

17(2) [Debt due to the Crown] Any amount of tax charged on any supply of goods to which this section applies shall be deemed, for the purposes of this Act, to be tax payable and shall be recoverable as a debt due to the Crown.

SECTION 24 TAX INVOICES

...

24(6) [Modified records] Where the Commissioner is satisfied that there are or will be sufficient records available to establish the particulars of any supply or class of supplies, and that it would be impractical to require that a tax invoice be issued pursuant to this section, the Commissioner may determine that, subject to any conditions that the Commissioner may consider necessary,-

1. Any one or more of the particulars specified in subsection (3) or subsection (4) of this section shall not be contained on a tax invoice; or
2. A tax invoice is not required to be issued.

...

SECTION 60 AGENTS AND AUCTIONEERS
60(1) [Supply by an agent] Subject to this section, for the purposes of this Act, where an agent makes a supply of goods and services for and on behalf of any other person who is the principal of that agent, that supply shall be deemed to be made by that principal and not by that agent:

Provided that, where that supply is a taxable supply, that agent, being a registered person, may, notwithstanding anything in this Act, issue a tax invoice or credit note or a debit note in relation to that supply as if that agent had made a taxable supply, and to the extent that that tax invoice or credit note or debit note relates to that supply, that principal shall not also issue, as the case may be, a tax invoice or a credit note or a debit note.

...

Land Transfer Act 1952

SECTION 104 APPLICATION OF PURCHASE MONEY

104(1) The purchase money to arise from the sale by the mortgagee of any mortgaged land, estate,
or interest shall be applied -

1. Firstly, in payment of the expenses occasioned by the sale:
2. Secondly, in payment of the money then due or owing to the mortgagee:
3. Thirdly, in payment of subsequent registered mortgages or encumbrances (if any) in the order of their priority:
4. Fourthly, the surplus s (if any) shall be paid to the mortgagor.

104(2) Where the surplus cannot be paid to the mortgagor by reason of his not being found after reasonable inquiry by the mortgagee as to his whereabouts, the surplus may be paid to the Secretary to the Treasury in accordance with section 102A of the Property Law Act 1952, and the provisions of that section shall apply accordingly.

Discussion

7. All legislative references are to the Goods and Services Tax Act 1985 unless otherwise stated.

Whether the mortgagee's costs of sale can be deducted prior to the calculation of GST due?

8. The term "costs of sale" in this statement refers to expenses that are occasioned by the mortgagee sale. Examples of such expenses are legal fees, valuation fees and real estate advertising and commission. The term "costs of sale" does not include money that is owed under the mortgage such as the interest or principal of the mortgage.
   
   
9. Section 5 deems a supply to take place in specific situations. Section 5(2) which deals with a sale in satisfaction of debt situation, provides for there to be a supply by the defaulting person (the mortgagor) where the goods (the mortgaged property) are sold under a power exercisable by another person (the mortgagee sale under the terms of the mortgage agreement). As there is a supply under amortgagee sale, GST is to be charged pursuant to section 8.
   
   
10. It should be noted that sections 5(2) (a) and (b) provide for exceptions where a sale in satisfaction of debt would not be deemed a supply.
    
    
11. Section 5(2) alone does not aid in determining whether or not GST is to be calculated on the sale price inclusive of the costs of sale. It has to be read in conjunction with section 17.
    
    
12. Section 17 requires persons selling goods in a sale in satisfaction of debt to perform certain duties.
    
    
13. Section 17(1)(a) states that the person selling the goods (whether or not GST registered) must, on or before the last working day of the month following the month within which the sale was made, furnish to the Commissioner a prescribed form. The prescribed form (also known as the special GST 121 return, referred to as the "special return" in this statement) must show the following particulars:
    
    
    • The person's name and address and, if registered, GST registration number; and
      
    • The name, address, and if registered, the GST registration number of the person whose goods were sold; and
      
    • The date of the sale; and
      
    • The description and quantity of the goods sold; and
      
    • The amount for which the goods were sold and the amount of tax charged on that supply; and
      
    • Any other particulars as may be prescribed.
      
      
14. The person selling the goods must at the same time, pay to the Commissioner the amount of tax that was charged on the supply and furnish to the person whose goods were sold, details of the information in the special return pursuant to sections 17(1)(b) and (c).
    
    
15. Section 17(2) deems the amount of tax charged on the supply to be tax payable and recoverable as a debt that is due to the Crown.
    
    
16. The important phrases in section 17 are the phrases "the amount of tax charged on that supply" in section 17(1) and "tax payable" in section 17(2).

"Amount of tax charged on that supply"

17. The phrase "amount of tax charged" refers to section 8, which is the provision that charges GST on the supply of goods and services. Section 8 provides that GST at the rate of 12.5% is to be charged on the supply of goods and services. The "amount of tax charged" therefore is the amount of the supply multiplied by the GST rate of 12.5%.
    
    
18. Section 8 states that GST is to be imposed on the supply "by reference to the value of that supply".
    
    
19. Section 10 determines the value of any supply of goods and services. Section 10(2) defines the value of supply to be:

Subject to this section, the value of a supply of goods and services shall be such amount as, with the addition of the tax charged, is equal to the aggregate of, -

1. To the extent that the consideration for the supply is consideration in money, the amount of the money:
2. To the extent that the consideration for the supply is not consideration in money, the open market value of that consideration.

20. Panckhurst J in Wilke v Commissioner of Inland Revenue (1998) 18 NZTC 13,923 stated the following regarding section 10:

"... s 10 is concerned with the "value" of the supply of goods and services. The purpose of the section is to ensure that the true value of the supply is captured for the purposes of the calculation of the goods and services tax component. Importantly, in my view, s 10(2) introduces the statutory options with the words that the value shall be "equal to the aggregate of" the consideration in money or the open market value. The subsection is expansive, rather than limiting, in the sense that the value of a supply is the monetary consideration paid, or where the transaction is not a commonplace arms length monetary one, the open market value of the supply".

21. In the majority of cases, the value of the supply is the consideration paid for the supply (exclusive of GST). Consideration is usually in monetary terms but pursuant to section 10, to the extent that it is not, the market value of the consideration provided to the supplier is used. The value of the supply in a mortgagee sale is therefore usually the monetary consideration received from the sale of the property but to the extent that it is not, then the open market value of the property is taken. Whichever value is taken, it ignores the costs of sale which means that GST is to be calculated on the total sale price of the mortgaged property (ie. is not discounted by the expenses incurred).
    
    
22. "The amount of tax charged on that supply" is the GST rate of 12.5% imposed on the consideration received from the sale of the mortgaged property.

"Tax payable"

23. The term "tax payable" is defined in section 2(1) as:

An amount of tax calculated in accordance with section 19C and section 20 of this Act; and includes -

1. Any amount referred to in section 17(2) or section 27(6) of this Act:
2. Any late payment penalty or shortfall penalty:
3. Any amount of tax refundable by the Commissioner pursuant to section 19C or section 20 of this Act; and, for the purposes of section 57, includes interest payable under Part VII of the Tax Administration Act 1994:

24. The definition refers back to section 17(2) which means that the term "tax payable" is the amount of tax charged on any supply of goods to which section 17 applies. "Tax payable" is therefore the amount of tax charged on a supply, ie. the GST rate of 12.5% imposed on the entire sale price of the mortgaged
    property.

Section 104 Land Transfer Act 1952 and section 17 Goods and Services Tax Act 1985

25. Section 104 of the Land Transfer Act 1952 (Land Transfer Act) determines the order in which money received from a mortgagee sale should be applied. It provides for the money to be applied firstly, to costs occasioned by the sale then to the mortgagee.
    
    
26. In the Court of Appeal case of Commissioner of Inland Revenue v Edgewater Motel Ltd (2002) 20 NZTC 17,984, in relation to the relationship between section 17 and section 104 Land Transfer Act Blanchard J held that:
    
    There is no settled policy apparent in s 104 that a mortgage debt is to have priority over a tax payable as a result of the sale of the mortgaged land. Section 104 does not address taxes, but that does not mean that when they arise under another statute they cannot qualify as expenses. Priority of a tax will depend upon what is dictated by the taxing statute. Section 104 is a general provision which gives priority to expenses occasioned by the sale. In this case the GST Act, by imposing a tax on the sale transaction, creates an expense of sale which ranks under s 104 ahead of the mortgage debt. That it might not do so where the tax is imposed under a different section of the GST Act is beside the point when s 17 is so clearly worded.
    
    
27. GST imposed on a mortgagee sale is therefore deemed a cost of sale. The relationship between section 104 of the Land Transfer Act and section 17 is that the latter provision gives rise to GST that is imposed on the sale transaction as a cost of sale thereby ranking ahead of the mortgage debt (that is, the mortgage principal and interest).
    
    
28. Pursuant to section 104 of the Land Transfer Act, the costs of sale are deducted from the full price of the property as they are ranked ahead of any other deductions. Therefore, if GST is deemed to be a cost of sale, it should also bededucted from the full price of the mortgaged property.
    
    
29. Blanchard J went on to state that the selling mortgagee is obliged to pay the GST charged on the supply of the land in priority to any payment in respect of secured debts and that such payment is an expense occasioned by the sale and must ultimately be borne by the mortgagor by way of deduction from the purchase price under paragraph (a) of section 104 of the Land Transfer Act.
    
    
30. Statements such as "by imposing a tax on the sale transaction" and "by way of deduction from the purchase price" used by the judge clearly require GST to be imposed on the sale price gross of the costs of sale. The term "purchase price" is the amount of consideration that is given in payment for buying something. That term indicates that it should include all the consideration that is paid for an item.

Conclusion

31. The costs of sale from a mortgagee sale cannot be deducted prior to the calculation of GST due under section 17.

Whether a mortgagee can claim input tax in a mortgagee sale for the costs associated with the mortgagee sale?

32. Section 5(2) does not allow a mortgagee to claim input tax incurred on costs associated with the mortgagee sale as the mortgagee does not supply the property in the course or furtherance of their taxable activity. Instead, the provision provides for the mortgagor (who is deemed to be registered) to have supplied the property in the course or furtherance of a taxable activity.
    
    
33. One argument to the contrary is that the mortgagee acts as the mortgagor's agent in a mortgagee sale therefore the mortgagee is entitled to claim input tax on the sold property. The relationship between a mortgagee and a mortgagor is one of creditor and debtor. The mortgagee acts on its own behalf when exercising a power of sale. It is unlikely that there is authority given from the mortgagor to the mortgagee to act on their behalf in selling the mortgaged property.
    
    
34. Usually, the mortgagee sale occurs through a power exercised by the mortgagee as agreed upon in the mortgage agreement because of the mortgagor's default in the mortgage payments. The mortgagee cannot purport to claim input tax on the costs of sale as agent for the mortgagor.
    
    
35. For the mortgagee to be permitted to claim input tax from the mortgagee sale would require that the sold mortgaged property is supplied in the course or furtherance of their taxable activity (putting aside the fact that section 5(2) deems the mortgaged property to be supplied in the course or furtherance of the mortgagor's taxable activity). In some cases the mortgagee may be able to demonstrate some such connection indirectly. Consideration has to be given as to whether a mortgagee's activity of providing mortgage finance is the provision of financial services, in which case the provision of that service is deemed to be an exempt supply (section 14) and is not part of a taxable activity (section 6).
    
    
36. "Financial services" is defined in section 3 for the relevant purpose of this statement to mean "the payment or collection of any amount of interest, principal, dividend, or other amount what ever in respect of any debt security, equity security, participatory security, credit contract, contract of life insurance superannuation scheme, or futures contract".
    
    
37. "Debt security", defined in section 3(2) means any interest in or right to be paid money that is, or is to be, owing by any person; but does not include a cheque. Therefore, the collection of any amount of interest, principal, dividend, or other amount what ever in respect of any debt security is the provision of a financial service which is an exempt supply.
    
    
38. A mortgage is simply security for the repayment of a debt. It satisfies the definition of "debt security" as the mortgagee has the right to be paid money owed by the mortgagor under the mortgage.
    
    
39. Therefore, a mortgagee whose activity is as a lender would be considered to be carrying on an exempt activity. As such the mortgagee would be unable to claim input tax from the mortgagee sale. This is subject to the newly enacted section 11A(1)(q) (enacted by the Taxation (Annual Rates, GST, Trans-Tasman Imputation and Miscellaneous Provisions) Act 2003).

Conclusion

40. A mortgagee in a mortgagee sale cannot deduct the costs of sale before calculating the GST due under section 17 of the Goods and Services Tax Act 1985.
    
    
41. A mortgagee cannot claim input tax for the costs associated with a mortgagee sale.

This Operational Statement was signed by me on 1 April 2004

Margaret Cotton
National Manager
Technical Standards

 

 

Date published: 25 May 2006

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