Commissioner of Taxation v Rabinov, Don

[1983] FCA 141

Re: THE COMMISSIONER OF TAXATION OF THE COMMONWEALTH OF AUSTRALIA
And: DON RABINOV and ELINOR RABINOV (1983) 71 FLR 450
Nos. VG167 and VG168 of 1982
Income Tax

COURT

IN THE FEDERAL COURT OF AUSTRALIA

VICTORIA DISTRICT REGISTRY
GENERAL DIVISION
Fox(1), Toohey(1) and Lockhart(1) JJ.

CATCHWORDS

Income Tax - Deduction Disallowed - Whether additional tax payable - Whether amount of deduction actually incurred.

Income Tax Assessment Act 1936 - sections 51, 78(1), 226(2), 227, 230.

Income Tax - Allowable deductions - Additional tax - Expenditure on purported gift to public fund as part of artificial scheme - Expenditure actually incurred - Whether additional tax may be imposed for claiming deduction for expenditure - Income Tax Assessment Act 1936 (Cth), ss 78(1), 226.

HEADNOTE

The taxpayers were a husband and wife. Each of them on 20 February 1978 purported to make a gift of $25,000 to the Ezroh (Relief) Trust Fund (the fund), a public fund within s. 78(1)(a) of the Income Tax Assessment Act 1936 (Cth). The taxpayers claimed deductions for these amounts. The Commissioner disallowed each claim and imposed penalty tax pursuant to s. 226(2) of the Act. Various steps taken by the taxpayers and other parties at the time of the purported gifts included the actual payment to the fund by the taxpayers of the two sums of $25,000. The steps amounted overall to a contrived scheme from which the fund actually benefited very little. Faced with the decision in Leary v. Federal Commissioner of Taxation (1980) 47 F.L.R. 414), the taxpayers did not pursue their claims for deductions. However, they successfully appealed to the Supreme Court of Victoria against the assessment to additional tax. The Commissioner appealed.

Held, appeal dismissed. The taxpayers had actually incurred the expenditure by making payments to the fund. Section 226 therefore did not permit the Commissioner to impose penalty tax (Cyprus Mines Corporation v. Federal Commissioner of Taxation (1978) 36 F.L.R. 295).

HEARING

Melbourne, 1983, March 17; July 14. #DATE 14:7:1983

APPEAL.

Appeals from the decision of Jenkinson J. of the Supreme Court of Victoria allowing the taxpayers' appeals against the disallowance by the Commissioner of their objections to assessments in respect of the year of income ended 30 June 1978.

D. Graham Q.C. and R. A. Finkelstein, for the appellant.

A. R. Castan Q.C. and A. J. Myers, for the respondents.

Cur. adv. vult.

Solicitor for the appellant: B. J. O'Donovan, Commonwealth Crown Solicitor.

Solicitors for the respondents: Cohens, Frenkel, Berkovitch, Kefford and New.

J.H.T.

ORDER

1. The appeals be dismissed.

2. The appellant pay the respondent's costs of the appeals.

Orders accordingly.

JUDGE1

These two appeals were, by consent, heard together. They concern two taxpayers, husband and wife.

On 20 February 1978 each of the taxpayers purported to make a gift of $25,000 to the Ezroh (Relief) Trust Fund, a public fund within s.78(1)(a)(iii) of the Income Tax Assessment Act 1936. In their income tax returns for the year ended 30 June 1978 the taxpayers claimed these amounts as allowable deductions.

The Commissioner of Taxation disallowed each claim for a deduction, included the sum of $25,000 in each taxpayer's assessable income and imposed a liability against each taxpayer to pay $7864.37 pursuant to s.226(2) of the Act.

That sub-section reads:
"(2) Any taxpayer who omits from his return any assessable income, includes in his return as a deduction for, or as a rebate in respect of, expenditure incurred by him an amount in excess of the expenditure actually incurred by him or, in relation to a claim to be entitled to a rebate under section 23AB, 79A, 79B, 159J, 159K or 159L, includes in his return information that is false in any particular, shall be liable to pay as additional tax an amount equal to double the difference between the tax properly payable by him and the tax that would be payable if it were assessed upon the basis of the return furnished by him, or the amount of Two dollars, whichever is the greater."

The taxpayers objected to the disallowance of the amounts claimed by them as allowable deductions and they objected to the imposition of additional tax. The Commissioner having disallowed the objections, the matters came by way of appeal to the Supreme Court of Victoria.

Faced with the decision of the Full Court of the Federal Court in Leary v. Federal Commissioner of Taxation (1980) 80 A.T.C. 4438, the taxpayers did not pursue the claim that each sum of $25,000 constituted a gift to the Fund. Jenkinson J. held that, although not a gift, each payment of $25,000 constituted expenditure actually incurred by the taxpayer, hence there was no liability for additional tax under s.226(2). The Commissioner appeals against that decision.

The matters came before the Supreme Court on statements of agreed facts and documents. Some reference to those facts and documents will be necessary but at this stage it is enough to note that each taxpayer held a trading account with the Australian and New Zealand Banking Group Limited at its branch at 293 Collins Street, Melbourne. For the purposes of the proposed gift to the Fund each taxpayer withdrew from his or her account the sum of $25,000, purchased a bank cheque made payable to the Fund and delivered the cheque to the trustees of the Fund.

Prior to the withdrawal of the money the male taxpayer had in his account an amount of $16,636.70 and an overdraft facility to which he resorted for the balance of the $25,000. The female taxpayer had in her account an amount of $25,555.47 upon which she drew.

Before this Court the Commissioner contended initially that s.226(2) operates so that if a taxpayer claims as a deduction an amount which is held not to be an allowable deduction under the Act he is liable to additional tax under s.226(2) even though the amount is expenditure actually incurred by the taxpayer. The proposition was that if a taxpayer claims as a deduction an amount which is not properly characterised, in part or in whole, as a deduction, a liability to additional tax arises under s.226(2). By way of illustration, if each of these taxpayers had actually expended the sum of $25,000 in a gift to the Ezroh (Relief) Trust Fund, claimed the sum as an allowable deduction, being a gift within s.78(1) of the Act and, as it happened, the Fund did not qualify under that sub-section, nevertheless a liability to additional tax arose. By way of further illustration, if a taxpayer actually incurred expenditure in overseas travel and claimed that expenditure as a deduction, if it were later held by court or board of review to be non-deductible as a loss or outgoing within s.51, s.226(2) authorised the imposition of additional tax.

Counsel for the Commissioner later sought to qualify this submission but as he did not resile from it, it is necessary to express a view on it.

In our opinion s.226(2) does not have the operation contended for by the Commissioner. The sub-section is concerned with these situations:

(i) the omission from a return of assessable income;

(ii) the inclusion as a deduction of an amount in excess of expenditure actually incurred;

(iii) the inclusion of false information in relation to a claim for a rebate.

Although it was not suggested to the court that these situations should be read ejusdem generis, it is possible to discern a common characteristic viz. that facts are withheld from or falsely stated to the Commissioner. It is the failure to make a full and true disclosure of relevant information that attracts a liability to additional tax, not a failure properly to characterise an amount which has been disclosed.

Section 161 of the Act requires the furnishing of a return setting forth a full and complete statement of the total income derived by the taxpayer and of any deductions claimed by him. Deductions do not always require expenditure in the relevant year, as in the case of depreciation. A taxpayer who claims depreciation to which there is held to be no entitlement is not, we think, within s.226(2) though if he makes a return which is false in any particular or knowingly and wilfully understates his income, he is liable to prosecution under s.227 or s.230 with a consequent liability for additional tax.

This construction of s.226(2) is entirely consistent with the rejection by the Privy Council in Newton v. Federal Commissioner of Taxation (1958) 98 C.L.R. 2 of the argument:
". . . that s.226(2) did not apply because the taxpayer could not properly be said to have 'omitted' the income from his return - seeing that it was not income when he received it or when he made his return - but only has become so ex post facto when the commissioner decided to treat it so . . . In the events that have happened, the money has been determined to be assessable income. As such it ought to have been included - and has not. The taxpayer is therefore liable to the penalty". (at pp.11-12)

The taxpayer was held liable to additional tax, not because of failure to characterise an amount correctly but because of failure to include the amount in the return.

In his construction of s.226(2) Jenkinson J. followed what was said by Smith J. in Cyprus Mines Corporation v. Federal Commissioner of Taxation (1978) 36 F.L.R. 295, a construction which Jenkinson J. said was "clearly open". In our respectful view Smith J. was correct when he said at p.321:
". . . unless the taxpayer includes as a deduction expenditure which he has not incurred or understates the amount claimed as a deduction, then the section does not operate to permit the (Commissioner) to impose additional tax".

The remaining question is whether each payment of $25,000 to the fund can be truly described as "expenditure actually incurred" by each taxpayer. In our view the answer is yes for each amount was paid from the trading account of the taxpayer and from money in that account or, in one case, from resort to overdraft facilities.

The Commissioner argued that various steps taken by the taxpayers and others at or about the time payment was made somehow had the effect that no expenditure was actually incurred. We do not accept this. It is true that a contrived scheme was set up so that the taxpayers might reap the tax benefit of apparent gifts to the Fund which in the end benefitted very little from the amounts so paid. The very artificiality of that scheme destroyed the character of those payments as gifts, in accordance with the approach taken in Leary's case. But it does not follow that amounts paid by the taxpayers were not expenditure actually incurred by them. And it should be noted that save for one agreement to which the taxpayer was a party, it was acknowledged in the statement of agreed facts and documents that the taxpayer was not a party to and at all material times was unaware of the transactions constituting the scheme.

The agreement in question was made by each taxpayer with Baldon Investments Proprietary Limited whereby that company lent to the taxpayer an amount of $21,250. The loan was made by bank cheque purchased by Baldon at the Collins Street Branch of the ANZ Bank and deposited to the credit of the taxpayer's trading account with that bank. The agreement was made and the money was deposited subsequent to the payment by the taxpayer of the $25,000 to the trustees of the Fund.

The agreement with Baldon obliged the taxpayer to repay the principal sum with interest at the rate of 5% per annum simple, at the expiration of 40 years. The agreement provided that if the borrower should make a gift to one or more of the charitable institutions specified in a schedule to the agreement, of an amount specified in that schedule, certain provisions became operative. The Ezroh (Relief) Fund was one of the institutions so specified and the amount of $25,000 was identified as the amount of the gift.

The payment of $25,000 having been made to the Fund, an option conferred on the lender to require payment of the principal sum at call together with interest at the rate of 14% per annum thereupon determined. The borrower became entitled to purchase the rights and benefits of the lender under the agreement "at a price equal to the current commercial value thereof by reference to an appropriate cash flow discount chart to be prepared by Messrs. E.S. Knight & Co., Consulting Actuaries of 233 Collins Street, Melbourne . . . ". The lender agreed that during the period of 5 years from the date of the agreement the price at which it would sell its rights and benefits would not exceed certain percentage amounts of the principal sum set out in another schedule to the agreement. These percentage amounts ranged from 0.2449% during the first year of the loan to 0.5079% during the fifth year.

As it happens neither taxpayer has sought to exercise the right of purchase conferred by the agreement and, as matters stand, the amount of $21,250 remains due and owing by each taxpayer to Baldon.

In our view, the agreement that each taxpayer made with Baldon, though part of an overall scheme that failed to achieve its purpose of making a tax free gift to the Fund, cannot operate to destroy the effect of what otherwise was expenditure actually incurred by each taxpayer. As already pointed out, the taxpayers did not use the loan money in order to make payments to the Fund. The money paid by Baldon into the account of each taxpayer was paid subsequent to the payment of money to the Fund and, as acknowledged by the Commissioner, each loan is still outstanding.

Counsel for the Commissioner agreed that if the taxpayers had borrowed money from their bank to make the payments to the Fund it could not be said that they had not actually incurred the expenditure in question. But, it was said, the agreement with Baldon somehow had that consequence. On what basis it could have that consequence was not satisfactorily explained, particularly when each taxpayer made payment of $25,000 to the Fund before entering into the agreement with Baldon and, of course, before receiving the loan from the company.

Counsel for the Commissioner referred to the judgments of the House of Lords in W.T. Ramsay Ltd. v. Inland Revenue Commissioners (1982) AC 300, in particular to the judgment of Lord Wilberforce at p.326:
"To force the courts to adopt, in relation to closely integrated situations, a step by step, dissecting, approach which the parties themselves may have negated, would be a denial rather than an affirmation of the true judicial process. In each case the facts must be established and a legal analysis made: legislation cannot be required or even be desirable to enable the courts to arrive at a conclusion which corresponds with the parties' own intentions".

In the case of the present appeals, had the taxpayers sought to argue that what they paid to the fund was in truth a gift, it would have been necessary to look in its entirety at the steps taken by the taxpayers and others. But the question before us is a much narrower one. In making payment of $25,000 to the trustees of the Fund, did each taxpayer actually incur expenditure of that amount? In our view the answer is yes. The taxpayer paid the money from his or her trading account and from money already in that account or from overdraft facilities provided by the bank. As to the money later paid into the taxpayers' account by Baldon, it was not suggested by the Commissioner that this did not constitute a loan repayable in accordance with the circumstances of the agreement or that the borrowed sum is no longer outstanding.

The appeals should be dismissed with costs.