Commissioner of Taxation v Carter & Ors

The Commissioner of Taxation (the Commissioner) appealed to the Full Federal Court against a decision of the Administrative Appeals Tribunal (AAT) which had allowed the appeals of Mr. Carter and other taxpayers (the taxpayers) against amended assessments of income tax. The dispute concerned the deductibility of certain expenses incurred by the taxpayers in relation to their participation in a tax avoidance scheme. The Commissioner had disallowed these deductions on the basis that the expenses were not incurred in gaining or producing assessable income, nor were they necessarily incurred in carrying on a business for the purpose of gaining or producing assessable income, pursuant to sections 8-1 and 165-35 of the *Income Tax Assessment Act 1997* (Cth).

The central legal issues before the Full Federal Court were whether the AAT had erred in its findings that the expenses incurred by the taxpayers were deductible under section 8-1 of the *Income Tax Assessment Act 1997* (Cth), and whether the taxpayers had satisfied the requirements of section 165-35 of the *Income Tax Assessment Act 1997* (Cth) in relation to the continuity of ownership test for the purposes of carrying on a business. Specifically, the court had to consider the nature of the expenses and their connection to the taxpayers' assessable income, and whether the taxpayers' participation in the scheme constituted carrying on a business.

The Full Federal Court found that the AAT had erred in its application of section 8-1. The court held that the expenses were not incurred in gaining or producing assessable income, but rather were incurred in an attempt to gain a tax benefit. The court emphasised that the purpose of the expenditure was to create a tax loss, not to generate assessable income. Furthermore, the court found that the taxpayers had not satisfied the continuity of ownership test under section 165-35, as the scheme involved a change in the beneficial ownership of the relevant business interests. The court applied the principles established in cases such as *FCT v Ilbery* and *FCT v Europa Minerals Ltd* regarding the characterisation of expenses and the requirements for carrying on a business.

The Full Federal Court allowed the Commissioner's appeal, set aside the AAT's decision, and remitted the matters to the AAT for redetermination in accordance with the Full Federal Court's reasons.