JobKeeper rules extended to cover certain employment entities

By Alexis Kokkinos - May 5, 2020

The Treasurer has released a modified decline in turnover test for employers that provide labour services within their tax consolidated groups, tax consolidatable groups or GST groups.

This modified test can apply where the basic test is not already satisfied. The test provides for a grouping of the 'turnover' of test members within the group and can allow the test members to apply either the basic test or the Commissioner's alternative tests. Accordingly, calculations for a group can be quite complicated where the alternative tests may apply. This tax bulletin outlines the conditions that need to be satisfied in order to utilise this grouping rule and the difficulties that most SME groups will face in trying to meet those conditions.

Background to the modified test

In some cases, groups are structured such that there is an ‘employment entity’ that employs the group’s workforce and provides the use of the labour of those employees to related parties. The service entity may not be able to satisfy this basic decline in turnover test or the alternative decline in turnover tests, as the decline in turnover has been experienced by the operating entities in the group rather than the employment entity. The service entity’s turnover may be based on an internal fee charged to related operating entities rather than third-party revenue.

The Treasurer has now provided a modified test for service entities, set out in the Coronavirus Economic Response Package (Payments and Benefits) Amendment Rules (No. 2) 2020 (the Amended Rules).

Will this modified test apply to all groups?

As outlined below, the Amended Rules are very narrowly drafted and are unlikely to apply to the vast majority of employment entities in SME groups. Where an SME group cannot apply the modified employment entity test, the Commissioner has issued PCG 2020/4, examples 4 to 8, that may provide alternatives. For more information, click here.

When does the modified ‘employment entity’ test apply?

There are five tests that must be satisfied for an employment entity to be eligible to use the modified employment entity test. These are summarised in the following table. There are a number of complications and uncertainties with respect to each of these tests, which are discussed in more detail below.

Once all the tests are satisfied, the modified turnover test outlined below can be applied to the employment entity.

Test

Condition

Further info

  1. The group test

The employer entity must be a member of a consolidated group, consolidatable group, or a GST group.

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  1. Principal activity test

The employer entity’s principal activity must be to supply other members of the group with services (employee labour services) consisting of the performance of work by individuals the employer entity employs.

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  1. Integrity rule

The Commissioner must not have made a determination in writing that the rule cannot be applied by the employer entity.

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  1. Group entity supply test

In the turnover test period in which the test time occurs, the employer entity must supply employee labour services to one or more members of the group (each of which is a test member) that have, as their principal activity, the making of supplies to entities other than members of the group.

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  1. Merely Incidental test

In the turnover test period in which the test time occurs, the employer entity must not supply employee labour services to entities that are not members of the group (disregarding supplies that are merely incidental to the principal activity of the employer entity).

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Test 1: The group test

The first test requires that the employer entity is a member of a consolidated group, consolidatable group, or a GST group. This test is critical, as this modified rule is not available unless such a group exists.

Types of acceptable groups

The modified test is only available if the employer entity is in a consolidated group, consolidatable group or GST group.

·       A tax consolidated group generally consists of 100% wholly owned Australian corporate groups.

·       A consolidatable group is generally a group that meets the conditions to be a tax consolidated group but has not yet formed such a group.

·       A GST group is one that meets the grouping requirements in the GST Act which may include certain 90% owned corporate entities and certain trusts and partnerships.

The provisions do not appear to include MEC groups.

Testing time

The provision appears to require the rule to be satisfied at the ‘test time’, being a time in a JobKeeper fortnight. Accordingly, to the extent that the entity is not within such a group at the relevant test time, the modified test may not be available.

Can you form a GST group now?

The provisions are silent on the extent to which a group of entities that are capable of forming a GST group can make an election (now) under Division 48 of the GST Act and obtain access to the scheme. To the extent that this option is chosen, you would need to consider whether an election to form the group could potentially trigger the anti-avoidance provision (Section 19) of the Coronavirus Economic Response Package (Payments and Benefits) Act 2020.

Are there risks with relying on a currently registered GST group?

If the employment entity is not in a corporate group (e.g. it is a trust or services entities that are trusts), there may be technical issues in including trusts or partnerships under Division 48 of the GST Act. In particular, a number of trusts or partnerships that are otherwise ‘grouped’ for GST purposes may not satisfy some of the technical aspects contained in Regulations 48-10.01 to 48-10.03. Accordingly, even where the entities have formed a GST group, the modified test may not be available where the entity is not technically permitted to be in the GST group.

What happens if you are a member of two groups?

It is possible for an entity to be a member of two groups. For example, it is a member of a GST group and it is also a member of a consolidated or consolidatable group. The Explanatory Memorandum (EM) to the Amended Rules states that you can choose which group to apply the test to. However, it falls short of saying you can include both groups. This could be problematic, where for example, a tax consolidated group has not wholly elected to be in a GST group and the GST group includes entities outside of the tax consolidated group. In such a case, the employment entity may not satisfy Test 5 below where it provides services to non-group members.

Test 2: Principal activity test

The second test requires that the employer entity’s principal activity is supplying other members of the group with services (employee labour services) consisting of the performance of work by individuals the employer entity employs.

What is a principal activity?

This will be an important issue where the employment entity carries on multiple activities (e.g. provides leasing or other services to group members). The rule doesn’t state that the employment services can be one of the principal activities, but instead states it must be the single principal activity. In our view, this will likely require the activity to be dominant of all activities provided by the employment entity. Therefore, if two activities are performed, this would likely need to consist of more than 50%.

This is consistent with the EM, which says that the “principal activity is the main or predominant activity that the employer entity carries out. The employer entity may provide other services to the group, but that employer entity must not be an operating entity of the group and must provide no more than incidental services to third parties”.

What if you provide contractors?

The provision looks at “individuals that the employer entity employs”. Accordingly, this does not include contractors. This does not mean that the test will not be satisfied if the employment entity provides contractors. However, the employment entity will still need to satisfy the principal activity test in respect of the employees.

Test 3: Integrity rule

The third test is an integrity test that provides the Commissioner with an ability to determine, in writing, that the modified test does not apply to an entity when considering the purpose of the JobKeeper scheme.

What are the circumstances for a determination?

Generally, the Commissioner can look to make a determination where he believes the test is unsuitable or if he believes there is a risk to the integrity of the administration of the JobKeeper scheme (e.g. due to a poor compliance history of the relevant entity).

What is a potential example?

There are no examples of where this integrity provision may apply. An example may be where an employment entity provides 98% of its services to an internal investment entity that does not carry on business (that only has input taxed supplies) and 2% of its services to an operations entity (that has taxable supplies). To the extent that this group satisfies this alternative employment entity test (which is debatable, see commentary at Test 4 below), it may be open for the Commissioner to determine in writing that the test does not apply to that particular entity. Accordingly, in any case, there is a significant risk that the ATO could override the application of the modified test to any entity.

Can you object to a Commissioner’s determination?

An entity may object against the determination in the manner set out in Part IVC of the Taxation Administration Act 1953. Accordingly, the ATOs application of this rule is subject to review and will need to be appropriate.

Test 4: Group entity supply test

The forth test requires that, in a turnover test period in which the test time occurs, the employer entity supplies employee labour services to one or more members of the group (each of which is a test member) that have as their principal activity the making of supplies to entities other than members of the group.

Who is a test member?

A test member is defined as a member of the group who has received services from the employment entity. This is supported by Example 2 of the Explanatory Statement, where the head company of a consolidatable group (that does not receive services) is not considered a test member in the calculation.

When do you test principal activities?

It is not clear when you test the test member’s activities. For example, many test members currently have no activities and thus if it were to apply this test now, they may not be able to substantiate a principal activity. We believe the ATO would administer this in a sensible way and look at the test members historical supplies to determine its principal activities.

What is the principal activity test for the test entities?

As noted above, the provision requires that one or more of the test members have, as their principal activity, the making of supplies to entities other than members of the group. This test is slightly ambiguous and little guidance is provided on this test.

To demonstrate, assume the employer entity supplies services to two entities – one that has a principal activity of providing supplies to third parties and the other that does not. Assume that the combined principal activity of the two, however, is to third parties (measured on the basis of their combined activity or historical supplies).

One way of reading this test is that you look at each test member and determine if at least one test member satisfies the principal activity test. However, this would mean that if the employment entity supplied 2% of its services to that entity, it would satisfy this test. This interpretation could then place pressure on whether the ATO would apply their integrity rule outlined in Test 3 above.

A second way of reading this is that each test member must satisfy the test. This seems to be supported by the examples in the EM, which had each member satisfying the rule. However, the words do not seem to suggest that all have to individually satisfy the rule (it only refers to providing services to one or more members that satisfy this requirement). Furthermore, if (say) 10% of the services were provided to a holding company (e.g. by way of employing the board members) that provides no services to external parties, this would result in the rule being breached. This interpretation could effectively result in almost all groups being outside of the modified test.

The third way of reading this is that the test members (as a group) have a principal activity of providing supplies to third parties. This could be supported by the use of the words “have as their principal activity” which is used in the plural.

We will be seeking clarity from the ATO as to which of these three readings is the preferred way of applying this test. At this stage, it is not clear and may mean the difference between certain entities being able to access the provisions or not.

Test 5: Merely incidental test

Finally, the employment entity cannot supply labour services to entities that are not members of the group. In testing this, the employment entity can disregard supplies that are merely incidental to the principal activity of the employer entity.

What is merely incidental?

There is no definition of ‘merely incidental’. The ATO recently considered this term in TD 2019/13 dealing with employee share trusts. In that TD, the ATO stated:

9. … The Macquarie Dictionary defines 'merely' to mean 'only as specified, and nothing more'. 'Incidental' is defined as 'happening or likely to happen in fortuitous or subordinate conjunction with something else'.

10. Whilst the provisions relating to employee share trusts are concessional in nature, the restriction of those concessions to employee share trusts is an integrity measure and ensures that the concessions are only available to a specific subset of trusts that meet the statutory definition of an employee share trust. As such, the definition is not intended to be construed broadly.

11. Activities are merely incidental under paragraph 130-85(4)(c) if they are a natural incident or consequence [12] of the trust obtaining, holding and providing shares or rights under an ESS. If the activities undertaken by the trustee are not a natural incident or consequence of obtaining, holding and providing shares or rights under an ESS, or if the activity is undertaken for or follows from some other purpose, such activities are not merely incidental.

If the ATO takes a similar view on the reading of these words, it would mean that the supplies to the non-group members would need to be a natural incident or consequence of providing employment services to the group members. This may be an overly restrictive way of applying this exclusion.

This very restricted view would not be consistent with the EM. The EM states that the employment entity must provide “no more than incidental services to third parties”. The EM therefore suggests that providing a small amount of services (e.g. 2%) would be sufficient. It is unclear how this test will be applied in practice by the ATO and further guidance from the ATO will be required.

What is the modified test?

Where an entity meets the requirements to apply the modified test, the service entity is able to use the GST turnover amounts of other entities in the group rather than its own turnover in order to establish the requisite decline.

The modified test requires the service entity to compare the sum of the projected GST turnover for each test member with the sum of the current GST turnover for each test member for the relevant comparison period in determining whether there is a decline in turnover of the relevant percentage. More information on calculating the GST turnover of an entity can be found in our checklist and FAQ here.

This means that if ten operating entities within the group use the labour of the employees of the employment entity, the service entity will need to perform 10 projected GST turnover calculations (for the 2020 month or quarter) and 10 current GST turnover calculations (for the 2019 comparison month or quarter).

If a test member satisfies one of the Commissioner’s alternative tests, the entity could also choose to use the current GST turnover for the comparison period as set out in the alternative test, instead of the 2019 figure. More information on applying the Commissioner’s alternative tests can be found here or in the ATO guidance material that has been released here.

Considering the above, we believe that an employment entity may need to conduct multiple and complex calculations. As payments for the first fortnight are due this Friday 8 May 2020, employment entities must consider these calculations as soon as possible.

What additional integrity measures can apply?

The integrity rules that apply in relation to JobKeeper (i.e. Section 19) will continue to apply in relation to the Amended Rules. These apply to schemes entered into or carried out for the sole or dominant purpose of obtaining a JobKeeper payment or an increased amount thereof. The ATO has provided some guidance on the application of Section 19 to employment entities (see PCG 2020/4).

Can this test be applied retrospectively?

The EM is clear that the modified decline in turnover test for certain group structures applies in relation to JobKeeper fortnights beginning on and after 30 March 2020.

What are the next steps?

To the extent that you believe your employment entity may satisfy the modified employment entity test, there is significant work to be completed. Contact a Pitcher Partners representative to review your existing arrangements and determine what action is required in light of the changes.


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