Cachia and Commissioner of Taxation

[2008] AATA 569

Administrative Appeals Tribunal

DECISION AND REASONS FOR DECISION [2008] AATA 569

ADMINISTRATIVE APPEALS TRIBUNAL      )   

)    No: NS2006/0046

SMALL TAXATION CLAIMS DIVISION           )   

ReSaviour Laurence CACHIA

Applicant

And    Commissioner of Taxation

Respondent

DECISION

TribunalProfessor GD Walker, Deputy President

Date3 July 2008

PlaceSydney

DecisionThe decision under review is affirmed.

................[sgd]..............................

Professor GD Walker
  Deputy President

CATCHWORDS – TAXATION – income tax return – whether applicant failed to exercise reasonable care - deductions previously disallowed by commissioner and tribunal – taxpayer is responsible for any claims for deductions under the self-assessment approach – decision under review is affirmed.

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RELEVANT ACT/S:

Taxation Administration Act 1953 (Cth) (the Act): 298-20, 284-90

Income Tax Assessment Act 1936 (Cth) (the ITAA): 169A

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CITATIONS

Case V10 (1988) 88 ATC 154

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AUTHORITIES

Taxation ruling TR94/4

Taxation ruling TR94/7

CCH Australian Master Tax Guide

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REASONS FOR DECISION

3 July 2008	Professor GD Walker, Deputy President
Basic facts

1.      The applicant owned units in the Westpac Growth Unit Trust.  These units were acquired before 20 September 1985.  He derived income in the form of dividends.

2.      In February 1992, Westpac Financial Services Ltd, as manager of the Westpac Growth Trust and Westpac Property Trust, circulated information with a notice of a general meeting to give effect to its recommendations.  Proposals included merger of the growth trust and the property trust and amendment of the growth trust deed to the effect that unit holders be deemed to have requested redemption of their units and to have accepted units in the property trust in full satisfaction.  Meetings of both trusts approved the resolutions in March 1992.  That meant that the applicant no longer had an investment in the growth trust and received units in the property trust.  The applicant took legal action to compensate him for the loss of his initial units and income from that source.

3.      In his 2003 income tax return, the applicant claimed a deduction for legal expenses of $108,376.  Those expenses were incurred by the applicant in pursuing an unsuccessful claim for additional compensation in relation to the redemption of his growth units (Cachia v Westpac Financial Services Ltd (2000) 170 ALR 65).

4.      The deductions were disallowed by the commissioner at audit, and the disallowance was maintained at the objection stage, as it was determined that the nature of the advantage being sought through this legal action was of a capital nature, being the further compensation for the loss of the applicant’s capital asset, the units in the Westpac Growth Unit Trust.  On appeal to the Administrative Appeals Tribunal (AAT), the respondent’s determination was upheld on 26 May 2005 (Cachia and Commissioner of Taxation [2005] AATA 479).

5.      The senior member who decided the case did not consider any income related aspects of the investments, but concluded that this did not determine or influence the character of the legal expenses incurred in relation to those investments.

6.      In his 2005 income tax return, the applicant claimed legal expenses of $15,914 relating to the same legal action against Westpac Financial Services Ltd with regard to the applicant’s investment in units (as referred to in paragraph 3 above).

7.      At the hearing, the respondent indicated that he was not pressing the proposition that the applicant had made a false and misleading statement in his 2005 tax return.  He had noted in that return that the claim for a different sum of legal expenses in the 2003 tax year was disallowed by the respondent and his decision was upheld by the AAT.  The respondent still submitted that the applicant had failed to exercise reasonable care in the preparation of his 2005 return and that his conduct in that regard still warranted the same penalty.

8. At the hearing, the applicant appeared in person while Mr Cambeez Yazdan-Parast appeared for the respondent. The documents before the tribunal comprised the documents produced pursuant to s 37 of the Administrative Appeals Tribunal Act1975 (the T documents), taken into evidence as Exhibit R1, together with the other documents tendered by the parties at the hearing.  The applicant gave no evidence at the hearing.  Both parties relied on written submissions supplemented by oral argument.

Applicant’s submissions

9.      The applicant’s written submissions had been prepared before the respondent made the concession referred to at para 7 above and consequently, in large part, were taken up with arguments related to the claim that a false and misleading statement was made.

10.     On the issue of reasonable care, the applicant maintained that the AAT’s decision on his 2003 return was based on a factual error as the tribunal had overlooked that he had earned income from the investment because the property trust had twice changed its name.  The tribunal had considered only whether there was assessable income gained by the trust under its original name.

11.     Further, the tribunal had “underrated the importance of the intention of the litigant in incurring the legal expense, which in my case was to increase income.  I did not have the intention to gain capital and the units have not been sold to realise capital, nor would they have been sold to realise capital”.

12.     In addition, following publication of the original decision, the tribunal had issued an amended decision because only one of the two applications listed for hearing together had actually been determined by the original decision.  “Both matters were supposed to be heard together and the error of the Member required a second hearing at great inconvenience of all concerned”, the applicant wrote, although at the hearing he seemed less than fully confident about the accuracy of the latter statement.

13.     In all, however, the applicant submitted that in view of the above he was unable to have confidence in the AAT’s decision and was therefore entitled to take into account those errors and raise his doubts as to whether the $15,914 was properly deductible as a legal expense.

14.     The applicant’s submissions then canvassed what he saw as the error in the tribunal’s reasoning concerning whether he had derived assessable income from the trust during the relevant period.  He said he had made all necessary disclosures.  However, the complexity of the law made it extremely difficult to determine what is taxable and what is not taxable in cases involving judgments and the associated costs of litigation.  In light of the difficulty an ordinary taxpayer faces in making such determinations, he did exercise reasonable care in the presentation of the information that he included in his tax return.

15.     At the hearing the applicant reiterated that he had explained in his return (T p37) why he thought the Australian Taxation Office (ATO) and AAT had made an error in relation to his 2003 return.

16.     In his submission, he did not “claim” or “seek” a deduction when he prepared his return, he had simply disclosed certain facts.  The commissioner was responsible for making an assessment on the basis of those facts.  The eight-month time interval between his lodgement of his return in September and receipt of the assessment was excessive, because a taxpayer in such a situation received no reimbursement for loss of income, only interest at the low rate of 4.5 percent.

17.     Once the earlier appeal had been determined, he had no practicable avenue for appeal as it would have been unwarranted to incur the expense of appealing to the federal court.  Another avenue available was the one that he chose, to take the issue in a subsequent year’s return, he said.

Respondent’s submissions

18.     The respondent submitted that the applicant had attempted to seek the same legal expenses as a deduction in his 2005 income tax return.  The respondent had audited his return and made a number of adjustments, including the disallowance of the legal expenses.  Consequently, a notice of assessment and liability to pay penalty was issued to the applicant on 26 April 2006 stating that a tax shortfall penalty of $1,969.35 at the rate of 25 percent for lack of reasonable care was imposed.  The applicant objected to the assessment of penalty on 30 April 2006, arguing that the respondent had harshly and inappropriately imposed the penalty and also incorrectly required the payment of the amount of the penalty.

19. Section 284-90 of Schedule 1 of the Taxation Administration Act 1953 (Cth) (the Act), a penalty of 25 percent of the shortfall amount may be imposed when the shortfall results from a failure to take reasonable care, such that the applicant had taken a position about a tax-related matter that is not reasonably arguable.

20.     Taxation ruling TR94/4 sets out the respondent’s position on the concept of lack of reasonable care and states (at paragraph 13) that the reasonable care standard is central to the new penalties.  As a minimum, all taxpayers are required to exercise reasonable care in the conduct of their tax affairs.

21. In this case the applicant had failed to exercise reasonable care because he made a claim for legal expenses even though he was aware that those legal expenses were not deductible because they were of a capital nature. He was aware of the AAT’s decision in his earlier case ([2005] AATA 479) that confirmed that those expenses were of a capital nature, and although he disagreed with the decision, he had chosen not to appeal against it. He had then deliberately made a claim in his 2005 return for those legal expenses, despite being aware that they related to the same legal action for which his legal expenses were disallowed in relation to the 2003 year.

22. In any event the applicant would be liable for a 25 percent shortfall penalty under s 284-90, item 4, as he had treated an income tax law as “applying to a matter or identical matters in a particular way that was not reasonably arguable”. Given the adverse AAT decision on an identical issue in an earlier year, it was not reasonably arguable that he could claim a similar deduction for the 2005 year.

23. Pursuant to s 298-20 of Schedule 1 of the Act, the commissioner may remit all or part of a penalty imposed in relation to a shortfall amount. Taxation ruling TR94/7 provides guidance as to when and how that discretion may be exercised.

24. The respondent submitted that remission of the penalties would not be warranted as the applicant was aware of the decision in his earlier case. The amount claimed was greater than $10,000, or one percent of the income tax payable by the applicant for the income year, within the meaning of s 284-90(4) of the Schedule 1 of the Act. Consequently, the penalty applied and remission was unjustified because the applicant was aware of the prior AAT decision. The fact that he disclosed it in his tax return did not alter the fact that he had attempted to “put something through” by claiming the deduction. That is not the correct way to proceed – he should instead have lodged an objection to the assessment or applied for a private binding ruling. No penalty had been applied in relation to the earlier disallowed claim for a deduction for legal expenses.

25.     Under the current self-assessment approach, the taxpayer is responsible for any claims for deductions on the basis of full and frank disclosure and could not simply disclose facts and leave it to the commissioner to make an assessment for him.

Consideration

26. In submitting that the penalty imposed under s 298-20 of Schedule 1 of the Act applies, the respondent no longer presses the argument that there was a false or misleading statement, but relies on the applicant's treating an income tax law as applying to a matter in a particular way that was not reasonably arguable, within the meaning of item 4 of s 284-90. That item attracts a base penalty of 25 percent of the shortfall amount, the equal lowest of the available rates.

27.     I accept the respondent’s submission that the position the applicant took was not reasonably arguable, given that the respondent and the AAT had ruled against his claim in relation to expenses for the very same piece of litigation, on the basis that the expense was related to capital and not to the derivation of assessable income.  The applicant did not appeal against the AAT decision.

28. The applicant submits that he did not in fact claim a deduction but simply set out the material facts in full and left it to the respondent to assess the tax payable. That argument is based on a misunderstanding of the true position under the current partial system of self-assessment. It is for the individual taxpayer to make full disclosure, but on the basis that the facts disclosed are to be the grounds for the assessment made by the commissioner, subject to any later amendment by the respondent. Under s 169A of the Income Tax Assessment Act 1936 (Cth) (the ITAA), the commissioner is entitled to accept the taxpayer’s statement in the return inter alia in relation to deductions to which the taxpayer claims to be entitled.

29. The self-assessment system places the onus on taxpayers to be honest and to ensure that their returns comply with taxation laws. Taxpayers should thus refrain from making “imaginative” claims, as was pointed out by Deputy President Todd in Case V10, 88 ATC 154 at p156:

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In the past taxpayers have been able to include imaginative if not bizarre claims in their taxation returns … knowing that, at worst, the claims could be expected to be rejected at the time of assessment.  Pursuant to self-assessment provisions, however, the assessments that issue will not be final, and in a number of years’ time the taxpayer may be subjected to an audit following which, if the claims are disallowed, the taxpayer will be presented with penalties for late payment.

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30.     Consequently, the applicant did claim a deduction, not merely disclose material facts.

31. In view of my conclusion that the shortfall resulted from taking a position that was not reasonably arguable, it is not necessary to consider whether the same rate of penalty could have been imposed for a failure to take reasonable care within item 3 of s 284-90 of Schedule 1 of the Act.

32.     The commissioner and this tribunal on appeal have the power to remit all or a part of a penalty so imposed (s 298-20 of Schedule of the Act).  Guidance on the exercise of the discretion to remit is provided by taxation ruling TR94/7.  The applicant’s conduct does not fall within any of the categories or examples given in the ruling.  While paragraph 6 of TR94/7 clarifies that “The list is not exhaustive”, it goes on to add that:

… it should be borne in mind that it will be in only exceptional cases that remission of the prescribed penalties will be warranted.

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33.     In my view remission is not warranted in the present case.  The AAT had decided against his claim in relation to this very same piece of litigation.  If dissatisfied with the result, the applicant had other options available to him.  He could have appealed to the Federal Court, or he could have sought a private ruling or an oral ruling, or could have included with his return a request for the commissioner to consider the question (CCH Australian Master Tax Guide, 40^th edn, 2007, p1437).  At the very least a prudent taxpayer would have sought professional advice on how to proceed in the face of a specific adverse ruling.  Instead he relied on a course of action that essentially could only succeed if there were inadvertence or some lack of co-ordination on the part of the respondent.

34.     The decision under review is affirmed.

I certify that the 34 preceding paragraphs are a true copy of the reasons for the decision herein of Professor GD Walker, Deputy President

Signed:   ........................[sgd]................................................
               Renee Wallace, Associate

Date/s of Hearing:  5 May 2008
Date of Decision:  3 July 2008
Solicitor for the Applicant:                  Self-represented
Solicitor for the Respondent:             Mr C Yazdan-Parast, ATO