The Australian Taxation Office (ATO) has announced that it will undertake compliance activities in relation to Taxation Ruling 2014/1. The compliance activities in respect of the software development industry are confirmed to have commenced from 1 July 2014.

As part of its focus on the software development industry, the ATO issued Taxation Ruling 2014/1 to clarify when income is derived by taxpayers for the tax purposes from:

  • the sale of software;
  • provision of cloud or hosted access of software; or
  • related services bundled with either the sale of software or provision of cloud services – e.g. software updates, upgrades and maintenance or user support and/or training.

When does Taxation Ruling 2014/1 apply?

Taxation Ruling TR 2014/1 will apply for years of income commencing before and after the date of issue (12 March 2014).

Accordingly, developers will need to review their processes for recognising income from a contract. This will need to be done on a contract by contract basis and the accounting for income on some contracts may be brought forward to an earlier date than originally planned.

Contingency of repayment is the focus

Taxation Ruling TR 2014/1 focusses on the issue of when an amount which is subject to a contingency of repayment is derived.

A "contingency of repayment" exists where there is:

  • a contractual obligation to make a refund;
  • a demonstrated commercial practice to make a refund; or
  • contractual exposure for damages in respect of the non-performance.

The ruling provides that, where an amount is subject to a contingency of repayment, the amount is derived for the purposes of section 6-5 of the Income Tax Assessment Act 1997 (Cth) when either:

  • the obligation is fully performed; or
  • the contingency of repayment otherwise lapses.

It is only where a "contingency of repayment" exists that a deferral of all or part of the fee/income for the granting of a proprietary licence, a  hosted arrangement; and/or other additional services, may be valid for income tax purposes.

What can you do to help your software developer clients?

You can assist clients with a review of their contracts to determine whether they contain a "contingency of repayment". If they do not, then returns which have been lodged may need to also be reviewed to determine whether amendment is required.

If necessary, voluntary disclosure may need to be made to the ATO regarding the past treatment of income if it has not been accounted for in accordance with Taxation Ruling TR 2014/1.