What are the GST implications of Retentions and Bank Guarantees?

While there have been no recent changes in this area, it is worth re-visiting as we have had a couple of queries on regarding Retentions and Bank Guarantees.

The forms of guarantee that are most common are Retentions and Bank Guarantees. The Bank Guarantee or Security option requires the subcontractor to have equity in property that they are prepared to provide to their Bank so that a security amount, typically equal to 5% of the Contract Sum, is held as security in two equal parts.

If you account for GST on a cash basis, you will normally need to pay GST when the cash payments are received, so the GST will be paid on the retention amount when it’s received in your bank account.

Accounting on an accruals basis normally means that you must remit all of GST on the total project at the time any payment is received. But rest easy, because there a couple of special rules that affect progress payments and retention amounts. The Commissioner has outlined his view as follows:

“The effect of the particular attribution rule is to defer attribution of the part of GST payable or the part of input tax credit that relates to the retention amount until the amount is actually received or provided, or a document notifying an obligation to pay the retention amount is issued in relation to that amount following expiry of the defects liability period.

For example, if a document is issued after the end of a defects liability period asking for payment of part or all of a retention amount, the GST payable on the retention amount is attributable to the tax period in which the document is issued.

However, if a payment of part or all of the retention amount is received before a document notifying an obligation to pay the retention amount is issued, the GST on the retention amount is attributable to the tax period in which the amount is received, but only to the extent of the amount received.”

So, in practice, it should be a matter of “follow the money”; when you invoice to get paid an amount, 1/11^th of that total amount would normally be GST in these situations.

Example

A builder may engage a subcontractor to supply goods and services for a total of $300,000.

During the installation, the subcontractor makes a progress claim of $50,000 based on an assessment of work to date. The builder agrees with the figure, but contractually needs to retain 5% of the $300,000 against satisfactory completion.

The builder would retain 5% of the first claim. The tax invoice issued by the subcontractor would show this

The subcontractor would remit GST of $4,750 (liability arises at the earlier of the issuing of the invoice or receipt of any of the payment). The builder would (presumably) be entitled to an input tax credit of $4,750.

GST liability on some or all of the retention amount would arise when it is invoiced at completion of the contract.

At RSM we can help you stay on top of tax alerts and ensure you are kept up to date.

If you would like to know more about this article, please contact your local adviser.

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