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Due Diligence Costs

Due diligence costs are deemed to be financial acquisitions since they relate directly to making financial supplies (purchasing shares in a company, or units in a trust). Common examples of due diligence costs that the financial acquisition threshold applies to:

• Legal fees
• Tax advice
• Financial modelling
• Other technical support
  
  

Financial Acquisitions Threshold (FAT)

You can claim full GST credits relating to due diligence costs where the FAT is not exceeded.

- The FAT will be exceeded where GST incurred by the entity on its financial acquisitions exceeds either $150,000 or 10% of the total GST entitlements for a business.

- There are 2 tests periods for applying the FAT at any point in time;

o A current period of 12 months ending at the end of the month in which the test is conducted; and

o A projected period including the month in which the test is conducted and the subsequent 11 months.

- The FAT is exceeded if the threshold is exceeded in either period.

Given the dual requirement, for most businesses it is unlikely that financial acquisition threshold will be satisfied.

Reduced GST credits

Where the FAT is exceeded, a business may be entitled to GST credits of 75% on certain specific costs that are “reduced credit acquisitions” under the GST regulations.

The following are examples of costs which are eligible for reduced GST credits:

• arranging flotations and privatisations;
• arranging mergers and acquisitions;
• arranging takeover bids;

What Constitutes “Arranging”?

The term arrangement is not defined in the GST Act or regulations, nor does it have a specific industry meaning.

Its ordinary meaning is a 'preparatory measure, previous plan, preparation or a final settlement, adjustment by agreement'.

Generally arranging requires the following:

• Preparation, planning, and settlement activities directly connected to the transaction.
• Specialist advisory services (e.g tax or legal advice) must integrate into these activities to qualify as “arranging services.”
• Merely passing on services without integration does not meet the criteria.

GST groups & the borrowing exemption

Where an entity is part of a GST group, then the FAT applies as if it were one entity.

GST grouping may have a significant impact on your GST entitlements where you have an established business part of your group and establish a new entity for your purchase.

While it is likely the GST credits would be more than 10% for the new entity, on a group level the FAT test may be satisfied which would result in a larger GST refund.

The borrowing exemption allows for acquisitions relating to a borrowing to be treated as creditable when the borrowing relates to making taxable supplies. For a GST group the test of whether the borrowing relates to taxable supplies is applied at the Group level (i.e. the GST group is treated as a single entity).

GST liability on offshore costs ‘reverse charge’

It is important to consider the GST liability issues when receiving due diligence advice from overseas providers.

Since due diligence costs are input taxed, the ATO’s ‘reverse charge’ provisions to apply, which shifts the GST liability from the supplier of the service to the receipt.

This GST liability will offset your entitlement to the GST on your other costs which may have a material impact your overall budget.

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