Tuesday, May 19, 2015

Hii vs Federal Commissioner of Taxation

Even the judge admitted this 141 paragraph ruling was the product of a complex case. Mr Hii self-assessed as a Singaporean tax resident during years 2001-2009, an act which the Australian tax office (ATO) amounted to 'fraud or evasion' under Part IVA of the income tax assessment act (1936), because they thought he was a resident of Australia. Therefore, they amended the income tax returns in question.  (Note that income tax in Singapore is lower than Australia.)

At some point in the objection process, the ATO ceded to some arguments of the taxpayer, in turn, reducing his tax liability by amending his tax returns for a second time. However, the ATO maintained that the taxpayer was a resident of Australia and not Singapore - a point the taxpayer disputes and has taken to court, but before that proceeding commences, the taxpayer has a slightly more exotic objection. The objection is as follows; that when the Commissioner of taxation made the second amendments, he failed to reaffirm that the taxpayer had committed fraud or evasion, therefore the assessments are invalid.  (Yes, read it again, that is actually it)

The taxpayer had his work cut out for him considering that even if he was correct, s. 175 provides:

"The validity of any assessment shall not be affected by reason that any of the provisions of this Act have not been complied with."

The judge didn't make any surprising conclusions, ruling that the commissioner isn't required to reaffirm 'fraud or evasion' has occurred at every stage of amendment. The judge also ruled that s. 175 applies so that even if the Commissioner was required to reaffirm every point he makes in the act of amending, if his minions in the ATO forgot to perform that step, the assessment would still not be invalidated.  

The judge concluded that an assessment of the Commissioner can only be invalidated due to administrative error where public servants have acted in bad faith, and the only case he could name where such a conclusion was reached happened to be a federal court grilling of the ATO in Donoghue vs FCT earlier this year.

Highlights from the judgement

"In reviewing the first amended assessments in light of a taxpayer’s objection in order to determine if it was correct or should be allowed in whole or in part, it is not necessary for the Commissioner to redetermine, ab initio, all issues relevant to that decision. I accept the submission of the Commissioner that, in deciding the correctness of the original decision, it would be contrary to the concept of a “review” if every decision and consideration previously made by the Commissioner in relation to a taxpayer’s assessable income in any particular year was required to be discarded and made afresh. This absurdity is highlighted in the circumstance where an assessment is affirmed by the Commissioner, either wholly or in part. Certainly, the ITAA 36 does not specify that this procedure must be followed." (p 108)

"Mr Hii does not allege actual bad faith on the part of the Commissioner or his officers. His submission of conscious maladministration is referable only to Mr Hii’s claim that the Commissioner “took an unreasonable view of the law” by failing to form an opinion in relation to avoidance by Mr Hii due to evasion at the objection stage.
There is nothing before me to support such a finding as urged by Mr Hii. Even if the Commissioner took such a view of the law, at most on the material before me the view taken by the Commissioner would simply be wrong at law. I am not persuaded that the conduct of the Commissioner in this case can be described as conscious maladministration, which clearly contemplates bad faith." (p 101 & 102)

More to come

I doubt this is the last we will see of Mr Hii, a look at the case demonstrates he is in dispute with the ATO over sums upwards of $30 million.  He will now be left to argue that he was not a resident of Australia for the income years in question.

The case [2015] FCA 375:  http://www.austlii.edu.au/au/cases/cth/FCA/2015/375.html

Tuesday, May 12, 2015

Channel Pastoral Holdings vs Federal Commissioner of Taxation

Philosophical Underpinnings of Part IVA

Can the Commissioner rule that a consolidated group was formed as part of a tax avoidance scheme, then assess a subsidiary of the consolidated group as if the consolidated group was never created?

The Full Federal Court has ruled: Yes, the Commissioner can.  The key question was, who can the Commissioner assess, if anyone?

Can the Commissioner amend the assessment of the head entity to include a taxable capital gain (of the subsidiary) that would have existed if the consolidated group had never formed?  No:  The Federal Court ruled that the Commissioner can not assess the head entity of a consolidated group he is determining should never have been formed in the first place!  In their words this is an inconsistent conclusion.

Can the Commissioner issue an assessment to the subsidiary subject to this transaction, then attribute the taxable gain to the subsidiary's head entity in the consolidated group?  No:  The Federal Court dismissed this approach for the same reasons above.

Can the Commissioner issue an assessment to the subsidiary subject to this transaction, as if the consolidated group never formed?  The Federal Court said:  Yes. This is the preferred approach.

Highlights from the majority judgement

Background:

Head Entity:  CPH
Subsidiary:  CCC

The CGT event happened to CCC.  CPH was a dormant company until shares in CCC were transferred onto its books.

The logic behind assessing a subsidiary as if consolidation never occurred:
"In the present case, the application of Pt IVA proceeds on the basis that CCC is not a subsidiary member of the CPH consolidated group for part of the 2008 income year. The fact that CCC is not a member of the CPH consolidated group for part of the 2008 income year is the basis for the alternative determination. The Commissioner then is required to, and did, give effect to that determination by issuing the alternative assessment to CCC: s 177F(1)(a). The ability to issue an assessment to a subsidiary member of a consolidated group that was not a member for part of the income year is expressly provided for by s 701-30. That section does not ignore the single entity rule in Pt 3-90. It recognises, as was the fact, that there will be instances where a subsidiary member is not part of the consolidated group for the whole income year. Section 701-30 provides a method of working out how the entity core rules apply to the entity for periods in the income year when the entity is not part of the group. The method involves treating each period separately with no netting off between them. That is what occurred here. There is no basis for reliance on the default exception to the core rules in s 701-85." (p 109)

On the application of Part IVA to tax consolidated groups
"Thirdly, the tax benefit upon which a taxpayer is assessed in reliance on a determination made under s 177F(1)(a) is predicated on a postulate, which is a hypothesis as to what the taxpayer would have, or might reasonably be expected to have, done if he had not done what he did do. If that postulate is that the taxpayer would have, or might reasonably be expected to have, sold an asset as a stand-alone entity without having become a subsidiary member of a consolidated group, it does not seem to us that there is any reason to prevent the Commissioner from making a determination in those terms, and using an assessment to give effect to it."  (p 103)


On the intersection between s 177F (Part IVA) and pt 3-90 (Division 700 - tax consolidated groups)
"We accept that, at the time of issue of the assessment, CCC is part of CPH under the single entity rule in s 701-1, and that an assessment to CPH to give effect to the anterior determination to CCC can be said, in the context of the single entity rule viewed in isolation, to be consistent with that determination. But we cannot agree with that analysis when the single entity rule has to be viewed through the prism of its intersection with Pt IVA and the hierarchy afforded those latter provisions by s 177B(1). Arguably, this is best exemplified in our answer to reserved question 3 below (see [89] to [109]), and, in particular, our acceptance that s 177B(1) does not allow the single entity rule in s 701-1 to stand in the way of the Commissioner making a determination to include in the assessable income of CCC the amount that would have been included on the postulate upon which the determination to CCC was predicated, and issuing an assessment to CCC to give effect to that determination. Such an outcome leads to “harmonious goals”, to use the term that fell from the plurality in Project Blue Sky Inc v Australian Broadcasting Authority [1998] HCA 28; (1998) 194 CLR 355 (“Project Blue Sky”) at [70], in contrast to the conflicting outcome achieved by the issue of an assessment to CPH, said to give effect to an anterior determination to CCC only because CCC was a subsidiary member of the CPH consolidated group at the time of the issue of the assessment. Moreover, having regard to the objects of Pt 3-90, in particular that expressed in s 700-10(a) (see [67] above) – to prevent double taxation of the same economic gain realised by a consolidated group – it cannot be the case that the Commissioner is authorised to assess both CPH and CCC. In our view, the more harmonious outcome is the process underlying the issues raised by reserved question 3."  (p 82) *Emphasis added

Technicalities of the Formalities

The five judges were split in their reasoning, with 3/5 affirming the position outlined above.  However, more accurately, all judges ruled in favor of the Commissioner for differing reasons.  I have quoted from the majority judgement of Edmonds and Gordon JJ, with whom Allsop CJ agreed with the conclusions of.

[2015] FCAFC 57

http://www.austlii.edu.au/au/cases/cth/FCAFC/2015/57.html

Friday, May 8, 2015

Devuba Pty Ltd vs Federal Commissioner of Taxation

This was a win for the taxpayer on small business CGT concessions in the Administrative Appeals Tribunal.  They ruled that ordinary shares are to be looked at before slightly more 'novelty' shares are considered, for the purpose of ownership tests outlined in the small business CGT concession division - 152.

When a company sells shares in a small business, if the owners of the company who sold the shares wish to claim small business capital gains concessions, the company must be 90% owned (directly or indirectly) by individuals who own at least 20% of the small business being sold (directly or indirectly).  It is a complex concept when viewed abstractly, but when the time comes to sell your own business, the dots are a lot easier to connect with entities you are familiar with (ie: your own companies and trusts).

The problem in this case was that the taxpayer's wife held a dividend access share (DAS) in the Devuba, allowing her access to dividends, only when the directors want to give her one.  The share carried with it no inherent rights or voting power.  The ATO concluded that because the DAS could be paid a dividend, even on occasions that ordinary shares were not paid anything, that the DAS could effectively over-ride an ordinary share. 

This is of importance because s 152-70 provides:

"An entity holds a direct small business participation percentage at the relevant time in an entity equal to the percentage of any distribution of capital that the company may make."

The ATO concluded that the husband "may" receive $0 because his wife owns a share that could over-ride him.  This is a interesting conclusion that could lead to the eventual conclusion that no one is entitled to anything in a company with two different types of shares that can be paid out on different occasions.  The end result in this case is that the taxpayer would not satisfy the requirements of s 152-70, because they failed to hold 90% of the company that sold the shares of the small business in question.  In fact, following the ATO logic they own 0%.

The Tribunal didn't side with the ATO on this occasion.  They ruled that ordinary shares should be used in these cases to test taxpayers according to s 152-70, with disregard to any novelty shares that may form part of the companies share capital (see the reasoning below).  After the test was applied at the level of ordinary shares, the taxpayer was demonstrated to be 90% owned by owners of the small business being sold and hence could claim the concessions.  Highlights from the judgement are below.

"In the view of the Respondent, the directors of the Applicant had discretion to pay a dividend on the DAS and could use their powers to pay a dividend on the DAS to the exclusion of all and any of the other classes of shares. Accordingly, the holders of the ordinary shares might obtain a zero distribution. As a result, for the purposes of the test contained in item 1 of the s 152-70, the "percentage of any dividend that the company (namely the Applicant) may pay" on the ordinary shares is nil. The consequence of such a finding would be that the SBPPs held by Mr Van der Vegt and the Trust in the Applicant would be zero and the Applicant would not be entitled to any relief under div 152.

The issue comes down to this - what is the effect of the words "the percentage of any dividend the company may pay" as those words are used in the Table in s 152-70(1) of the Act when read in the context of the DAS."  (p 51-52)

"When one looks at the terms of s 152 - 10 (2) it is readily apparent that the CGT stakeholder test that is the subject of that subsection needs to be satisfied "just before the CGT event". Similarly, in s 152 - 70 the direct SBPP is to be worked out "at the relevant time" which again is just before the CGT event. It would seem to follow from this that the rights of shareholders in the Applicant and for that matter in Primacy are to be assessed at the same time namely just before the CGT event.

At that time being the moment just before 19 May 2010 logic would suggest that the only shares that carried any rights to dividends that may be paid in the Applicant were the ordinary shares. Those ordinary shares and no other shares at that time carried all the rights not only in respect of dividends but also in respect of voting and in respect of rights to distribution of surpluses on a winding up.

The consequence is that it cannot be said that at the relevant time (i.e. just before 19 May 2010), the DAS holder may be paid a dividend."  (p 61-63)
"The decision of the High Court in Casuarina would seem to suggest that it is more a case of testing a hypothetical dividend which may be paid by the company based on the facts as they exist just before 19 May 2010.
Consequently, the Tribunal concludes that in this case the relevant time to which the relevant provision takes us is just before 19 May 2010. It is at that time that the hypothetical needs to be posed - namely if a dividend were to be declared at that time the dividend would not and could not have been paid in favour of anyone other than the ordinary shareholders. At that time, Mr Van der Vegt had a direct SBPP in the Applicant of 50% and that is not diminished by the existence of discretionary entitlements in the DAS holder. The fact that at some hypothetical future time, a dividend could have been resolved and paid in favour of the DAS holder is, based on the reasoning of the High Court in Casuarina, not to the point and is largely irrelevant to the question at hand."  (p 76-77)


*Note:  This decision has been appealed*
*Was upheld in the initial appeal... (2016)


 [2015] AATA 255

http://www.austlii.edu.au/au/cases/cth/AATA/2015/255.html

Wednesday, May 6, 2015

WWXY vs Commissioner of Taxation [2015] AATA 130

In determining whether a property development business was being carried on, the tribunal concluded that acquiring development approval before selling land was a key determining factor.

The taxpayers purchased two blocks of land with the intention to substantially develop, but soon-after abandoned their plan to  perform substantial developments, and instead sold out of the project, but not before obtaining a few valuable development rights for the land that may have increased its value significantly.  The taxpayers compared themselves to Kratzmann in the High Court [1970]:

"It is, however, a matter for decision whether the difference between the purchase price and the selling price of the land—less the expenses of doing what the taxpayer did towards carrying out his scheme—is to be regarded as a profit from the carrying on or the carrying out of the taxpayer's scheme. What happened was that the taxpayer, for financial reasons, gave up the idea of developing the land as had been intended and sold it, so making a profit.

For the Commissioner it was argued that, because the purchase was part of a profit-making scheme, any profit arising from the purchase was a profit from the carrying on or carrying out of that scheme. It seems to me, however, that the profit here arose not from the purchase but from the sale and because the sale was not part of the profit-making scheme the profit did not arise ``from the carrying on or carrying out'' of that scheme. Indeed, the profit in question did not arise until the scheme had been abandoned."

Later cases on this issue include Myer [1987] and Westfield [1991], where the principle of acquiring an asset with the intention of making a profit was considered to be a determining factor in the question of whether or not a business was being undertaken.

The Commissioner's contention in the case was simple:

"The Commissioner says the taxpayer may have preferred to undertake a comprehensive development in company with other parties but the evidence in the email – and common sense – suggests from the outset that the taxpayer regarded the possibility of a profitable resale after obtaining relevant approvals as an acceptable outcome. On that view, the taxpayer was in the business of acquiring property for redevelopment but without a fixed view of how that redevelopment was to occur. "  (p 9)

That the taxpayer had a profit making intention.  Rather than abandoning this profit making scheme (as per Kratzmann), the taxpayer simply moved to "plan B", which was to make profit from the land in some other form.

The judge concluded:

"A range of successful outcomes must have been in contemplation. That range presumably included (and certainly did not exclude) the possibility of a profitable sale after obtaining a development approval. This case is different to the situation in Westfield, where a profitable resale of the land did not form any part of the taxpayer’s objective, even if the taxpayer knew that was one possible outcome of the transaction."  (p 22)



The case is here [2015] AATA 130:  http://www.austlii.edu.au/au/cases/cth/AATA/2015/130.html

Monday, May 4, 2015

Creation Ministries International vs Screen Australia

Division 376 of the Income Tax Assessment Act 1997 provides that Screen Australia are in charge of granting tax offsets to film producers and that the offset is only available for expenditure incurred by you in the process of making a film.

Creation Ministries International claimed expenditure incurred by an entity under their control (Fathom Media Pty Ltd) - which they eventually paid for, but the brains trust at Screen Australia were not satisfied that this was claimable expenditure under the act .  On appeal to the Administrative Appeals Tribunal, the deputy president held that the amount was not claimable under the act, not because claiming expenditure of a related entity was unlawful, but because the expenses claimed were held on a loan account for Creation Ministries,  rather than "incurred" under the legal meaning of that term by the organisation.  The tribunal appears to imply that if you do not incur expenditure at the time it is expensed, then you will not be eligible for the offset.  If you are going to pay for items through another entity, it appears that there would need to be a strict, legally enforceable agreement in place to ensure that the expenses are incurred by the head entity as defined by tax legislation.

Highlights:

"The applicant, Creation Ministries International Ltd, is a not-for-profit corporation. As is evident from its name, its purpose is to affirm the reliability of the Bible, in particular, the account of creation contained in Genesis. In 2006, and in anticipation of the bicentenary of the birth of Charles Darwin, Creation Ministries decided to make a film concerning the impact of the life and work of Darwin.

The film, which was called “The Voyage that Shook the World”, was produced. It was first exhibited publicly in about May 2009. Because the controlling minds behind Creation Ministries were concerned about the public response to the notion of a creationist entity producing a film about Charles Darwin, it was determined to set up a stalking horse, Fathom Media Pty Ltd, to be the public face of the production of the film."
  (p 1-2)

"In oral argument, Creation Ministries pointed to the agreement of 30 October 2008. That agreement operated retrospectively and prospectively it was said. Because Creation Ministries had agreed to indemnify Fathom Media, expenditure incurred nominally by Fathom Media was, additionally, incurred by Creation Ministries.

I am unable to agree. The argument fails on the facts because, despite the agreement of 30 October 2008, the parties did not act in accordance with its terms. They treated the relationship between Creation Ministries and Fathom Media as that of lender and borrower. "
  (p 20-21)

"Creation Ministries was never under a “presently existing liability”; it was not “definitively committed” nor “completely subjected” to, the amounts paid by Fathom Media to discharge its contractual obligations to suppliers and other third parties. Fathom Media was the contracting party; it was the entity that incurred the expenditure. Creation Ministries did not incur the expenditure by lending Fathom Media sufficient funds to discharge the contractual debts that Fathom Media incurred.

It follows that the decision under review was correct. It will be affirmed." 
(p 24-25)

The case [2015] AATA 250:  http://www.austlii.edu.au/au/cases/cth/AATA/2015/250.html

Swansea vs Federal Commissioner of Taxation

In this case the Administrative Appeals Tribunal rejected the Commissioner of Taxation's argument that the longevity of an investment (such as in antiques) should be considered when determining whether or not an enterprise is being carried on for purposes of GST. 

Swansea was the company used by a notable project home builder to build and manage his substantive art collection.  Swansea claimed GST credits on $4 million worth of art purchased in the mid-2000s and were yet to make any significant sales of the artwork, instead he claimed he was planning to sell the collection at some point in the future to a willing buyer at a profit.  True to form, the Commissioner objected to the claiming of GST credits by Swansea claiming that there was no enterprise being carried on and that the activities were that of a hobby, in any case.  He also disallowed the claiming of any tax losses.  The three key findings of the tribunal were:

1.  Swansea were entitled to claim GST credits because they were carrying on an enterprise (see the judge's reasoning below).

2.  Swansea were entitled to claim tax losses, because they were carrying on a business.

3.  The activities went beyond that of a personal hobby, so the GST registration exemption for personal hobbies did not apply.

Quotes from the judgement:

"The Tribunal is of the view for the reasons which follow, that in its ordinary meaning, an enterprise consists of an activity or activities comprised of one or more transactions entered into for business or commercial purposes."  (p 106)

"It appears to the Tribunal that the word “done” in s 9-20(1) in place of the words “carried on” or “carrying on” is used to ensure that a single transaction will suffice to constitute the activity of an enterprise, and to exclude the requirement for there to be a carrying on of business and its notions of repetition and regularity in relation to the enterprise. Those concepts arise in relation to taxable supply."  (p 112)

"A business is not a thing or things. It is a course of conduct carried on for the purpose of profit and involves notions of continuity and repetition of actions."  (p 128, quoted from high court)

"...the evidence shows that the business and commercial activities of the applicant are conducted in accordance with a pre-formulated policy, coupled with a carefully devised investment strategy. The applicant retains specialist art consultants. It keeps detailed records. It uses a database of records. It has an annual budget and banking facilities. It purchases valuable property, which is insured and properly stored and housed. All its activities are characterised by system, repetition and regularity. Such activities are in the Tribunal’s opinion consistent only with the carrying on of a business and the conduct of an enterprise."  (p 163)

"In determining whether what was initially a pastime or hobby has developed and become a business operation or not, the use of a system and the systematic conduct of the activity is often particularly important. "  (p 164)

"The Tribunal finds that in both an income tax and GST context there is no doubt that the activities of Swansea constitute the activities of a business."  (p 147)

"The Tribunal rejects the respondent’s assertion that the taxpayer’s operations amount to a hobby. The Tribunal finds that the facts do not support any such conclusion."  (p 161)


"Overall, the Tribunal finds that the activities of the applicant are consistent with the conduct of a business. The expenditure incurred in relation to the acquisition of paintings and artworks would in the Tribunal’s view be deductible under s 8-1 of the ITAA 1997, and would not be excluded by s 26-50. In fact the taxpayer has accounted for the artwork and paintings as plant and equipment, and has not claimed a deduction for the purchase of such items. The taxpayer has accounted for such items as plant and equipment because the taxpayer did not expect to sell those items within 12 months of purchase. In the Tribunal’s opinion that does not defeat the taxpayer’s purpose of embarking on the acquisition and eventual sale of artwork and antiques at a profit which is a business for both income tax or GST purposes."  (p 184)

The case is here  [2008] AATA 461:  http://www.austlii.edu.au/au/cases/cth/AATA/2008/461.html

This judgment makes sense when considering what approach the Commissioner might take on a business that has just declared $4 million of artwork sales on their tax return, without registering for GST!