David Lynton as trustee for the David Lynton Superannuation Fund (Taxation)

David Lynton as trustee for the David Lynton Superannuation Fund (Taxation) [2017] AATA 694 (17 May 2017)
Division: TAXATION AND COMMERCIAL DIVISION
File Number(s): 2015/2644 and 2015/3816
Re:David Lynton as trustee for the David Lynton Superannuation Fund
APPLICANT

Commissioner of TaxationAnd
RESPONDENT

DECISION
Tribunal:Egon Fice, Senior Member
Date:17 May 2017
Place:Melbourne

I find that the objection decisions made by the Commissioner on 18 March 2015 in respect of the 2012 and 2013 income years were the correct decisions. I affirm those decisions.
........................................................................
Senior Member
TAXATION –– tax offset disallowed following audit- dividend washing scheme – additional franking credits disallowed on the shares purchased cum-dividend which were sold ex-dividend - qualified person entitled to further imputation benefit-existence of a scheme- dominant purpose of gaining imputation benefit – application of anti-avoidance provisions.
Legislation
Income Tax Assessment Act 1936
Taxation Administration Act 1953 (the Administration Act)
Income Tax Assessment Act 1997
Tax and Superannuation Laws Amendment (2014 measures No. 2) Bill 2014
Cases
Mills v Commissioner of Taxation of the Commonwealth of Australia (2012) 250 CLR 171
Secondary Materials
Explanatory Memorandum (Senate) accompanying the Taxation Laws Amendment Bill (No. 2) 1999
REASONS FOR DECISION
Egon Fice, Senior Member
17 May 2017

There are no facts in dispute in this matter.
Mr David Lynton is the trustee of a self-managed superannuation fund known as the David Lynton Superannuation Fund (the Fund). In the relevant income years, 2012 and 2013, the Fund held shares listed on the Australian Securities Exchange (ASX). In those income years, the Fund bought and sold shares on the ASX. At that time it was possible for the ASX, on request, to establish a special market on which certain institutional brokers could trade securities on a cum-dividend basis for a short period after the relevant securities had begun trading on an ex-dividend basis. Taxation Determination TD 2014/10 describes the special market as follows (page 2 footnote 2):
Upon request from a Trading Participant, the ASX will create a Special Market under the ASX Operating Rule Procedures [procedure 2111] whereby Trading Participants may deal on a Trading Platform on a basis different to the existing quotation if a market for such a dealing is established in accordance with ASX Operating Rules. The Special Market operates independently from the ordinary market, such that shares that are trading on an ex dividend basis on the normal ASX market may be traded on a cum dividend basis on the Special Market. We understand that the origins of the Special Market were to allow the orderly settlement of option positions. However, there is no requirement that trades conducted on the Special Markets are used only to settle option positions, such that any shares can be traded on the Special Markets if the Special Market is created for that share.
TD 2014/10 also explains that the determination applies to trades entered into off-market,that is, by mutual agreement with another Trading Participant, which are executed outside the electronic marketplace.
The Fund, through its stockbroker Ord Minnett Pty Ltd, or through Mr Lynton, entered into a number of matched, sequential trades of shares between 12 February 2012 and 13 May 2013. Briefly, those transactions were as follows:
(a)the fund disposed of a parcel of shares in a company listed on the ASX ordinary market on the day or shortly after the day the shares had begun trading on an ex-dividend basis; and
(b)in the brief period in which the Special Market operated following the shares becoming ex-dividend, an equivalent parcel of shares in the same company was purchased on a cum-dividend basis.
Those trades included the following significant features:
(a)the parcel of shares to be traded, some of which had had been held for at least 45 days prior to the trade, were sold on the day the ASX announced that the shares in that company would trade ex-dividend;
(b)some of the shares traded had not been held by the Fund for 45 days at the time they were sold;
(c)on the same day, the Fund purchased the same number of shares in the same company on the Special Market on a cum-dividend basis;
(d)as a result of the first transaction (the sale), the Fund was entitled to the announced dividend and its accompanying franking credit;
(e)the subsequent share purchase on a cum-dividend basis was more expensive than the sale on the ex-dividend basis, usually by about the amount of dividend declared; and
(f)the Fund became entitled to the dividend and franking credit on both transactions.
Ordinarily, the back-to-back transactions may not be profitable except for the fact that the shares purchased in the second transaction would result in an additional franking credit because of the entitlement to the dividend on the shares purchased cum-dividend and the accompanying franking credit which may be utilised to offset other taxation liabilities.
In his statement of Facts, Issues and Contentions, the Commissioner gave the following example of a relevant transaction (paragraph 15 – 16):
On 20 February 2012, the Applicant sold 3552 Commonwealth Bank of Australia (“CBA”) shares on the ordinary market and then, on the same day, purchased 3552 CBA shares on the ASX Special Market. The Applicant did not satisfy the holding period rule in respect of 980 shares thus these shares are excluded from the relevant facts. However, in respect of the balance of 2572 shares the Applicant was a Qualified Person [that is, the Applicant held those shares for at least 45 days prior to 20 February 2012, being purchased 6 July 2010 for $122,093] and entitled to franking credits. Those 2572 shares were sold for $125,873.68 on an ex-dividend basis on the ordinary market. The 2572 shares purchased by the Applicant on a cum-dividend basis on the ASX Special Market were purchased for $129,521.
For the 2012 income year, as a result of the above trades in CBA, (being also the total result) –
(a)The Applicant received cash dividends totalling $7047.28 with franking credits of $3020.26.
(b)The Applicant made a gross capital gain of $1385.88, being the difference between the cost of the initial purchase 6 July 2010 and the proceeds received for the shares sold ex-dividend.
(c)In order to obtain additional dividends of $3523.64 with additional franking credits of $1510.13 the Applicant incurred a cost of $3647.90 (the difference between the consideration received from the ex-dividend trade and the amount paid for the cum-dividend trade).
(d)Without the additional franking credit obtained, the trades undertaken on 20 February 2012 would have resulted in a loss of $124.26 ($3523.64 $-3647.90).
(e)After undertaking the above trade Applicants still held the same number of shares in CBA, that is, 2572 shares.
The Commissioner provided the following example for the 2013 income year:
(a)the first transaction (the sale) resulted in the Fund receiving dividends of $139,922.71 and franking credits of $59,966.87;
(b)the second transaction (the purchase) which cost $72,938.69, resulted in the Fund obtaining additional dividends of $69,961.35 along with franking credits of $29,983.44;
(c)without the additional franking credit, the trades would have resulted in a loss of $2,977.34 ($72,938.69 $-69,961.35);
(d)with the additional franking credits, the trades resulted in a gain of $27,006.10; and
(e)the Fund continued to hold the same or a very similar parcel of shares in each company after undertaking the trades.
The Commissioner attached to his Statement of Facts, Issues and Contentions a table setting out the breakdown of costs for each trade in the relevant years, noting that if the additional franking credits on the purchase transactions were ignored, the Fund would have made an economic loss on those transactions.
In its income tax return for the 2012 income year, the Fund claimed franking credits amounting to $57,144. In the 2013 income year, the Fund claimed franking credits in the amount of $100,602.
On 3 October 2014 the Fund amended its tax returns for the 2012 and 2013 income years. Those amendments resulted in the Fund reducing its franking credit claim to $55,059 for the 2012 income year and to $64,569 for the 2013 income year. On 9 October 2014 the Commissioner issued notices of amended assessment for both years, giving effect to the Fund’s amended income tax returns.
Mr Lynton purported to object to the amended assessments of both income years in identical letters dated 3 October 2014 and 23 October 2014. However, in a telephone conversation with Mr Lynton on 21 October 2014, an Australian Taxation Office (ATO) officer informed Mr Lynton that he could not object to the 2012 income year assessment because nil tax was payable. Nevertheless, he could request a review of the 2012 income year assessment, whereupon the ATO would issue a decision under Part IVA of the Income Tax Assessment Act 1936 (ITAA 1936). He could then lodge a formal objection to that decision.
On 18 March 2015 Ms Katie Welsh, a Deputy Commissioner of Taxation, issued a formal determination in respect of the 2012 income year, made pursuant to s. 177EA(5)(b) of Part IVA of ITAA 1936. She determined that no imputation benefit was to arise in respect of a specified part of franked distributions received during that income year. The specified part of the distribution amount to $3,523.64. The amount of the imputation benefit (imputation credit) was $1,510.13.
On the same day the Commissioner issued his Objection Decision in relation to both income years in issue. In respect of the 2012 income year, the Commissioner determined that Part IVA applied to the franking credits relating to dividend washing transactions. As for the 2013 income year, the Commissioner disallowed $32,848.73 which he claimed was the franked distribution received by the Fund in a dividend washing transaction made on 13 May 2013.
As I understood Mr Lynton’s submissions, they are:
(a)the ATO’s reasons are based on an interpretation of the general anti-avoidance provisions in ITAA 1936;
(b)express provisions dealing with distribution washing (also referred to as dividend washing) - which I understood to mean the provisions set out in s. 207-157 of the Income Tax Assessment Act 1997 (ITAA 1997) applicable to distributions made on or after 1 July 2013 - were introduced after the Commissioner had made his determination regarding the Fund’s franking credit claims for the 2012 and 2013 income years; and
(c)the ATO’s reliance on the numerous subsections of the anti-avoidance provisions in s. 177EA of ITAA 1936 is indicative of there being no legislation to specifically cover his situation and was an attempt by the ATO to achieve a predetermined outcome.
While it is correct to say, as does Mr Lynton, that legislative provisions dealing expressly with distribution washing only came into effect after 1 July 2013, that is not to say that Part IVA of ITAA 1936, which deals with schemes to reduce income tax, may not be applicable in his case.
ONUS OF PROOF
In taxation cases before this Tribunal, an applicant bears the onus of proof. Section 14ZZK of the Taxation Administration Act 1953 (the Administration Act) provides:
On an application for review of reviewable objection decision:
(a)an applicant is, unless the Tribunal orders otherwise, limited to the grounds stated in the taxation objection to which the decision relates; and
(b)the applicant has the burden of proving:
(i) if the taxation decision concerned is an assessment – that the assessment is excessive or otherwise incorrect and what the assessment should have been; or
(ii) in any other case – that the taxation decision concerned should not have been made or should be made differently.
In the context of this case, as Ms M Baker of counsel, who appeared on behalf of the Commissioner, said:
(a)in respect of the 2012 income year, Mr Lynton has the burden of proving that the determination made by the Commissioner under s. 770 A(5)(b) of ITAA 1936 should not have been made or should have been made differently; and
(b)in respect of the 2013 income year, Mr Lynton has the burden of proving that the notice of amended income tax assessment issued by the Commissioner was excessive and showing what the assessment should have been.
GENERAL LEGISLATIVE PROVISIONS DEALING WITH FRANKING OF DIVIDENDS
ITAA 1997 – qualified person
Prior to its repeal in 2002, Division 1A of Part IIIAA of ITAA 1936 dealt with this topic. Section 160APHC set out its objects as follows:
The object of this Division is to set out the circumstances in which a taxpayer can qualify for a franking credit, a franking rebate, or the intercorporate dividend rebate, in respect of a dividend paid on shares or in respect of the distribution from the partnership or trust that is derived from such a dividend.
As is stated in the Explanatory Memorandum (Senate) accompanying the Taxation Laws Amendment Bill (No. 2) 1999 at 4.11:
To be entitled to a franking credit, franking rebate, or intercorporate dividend rebate in relation to a particular dividend, a taxpayer must be a qualified person in relation to the dividend. Broadly speaking, to be a qualified person in relation to a dividend, a taxpayer must satisfy both the holding period rule (or certain alternative rules) and the related payments rule.
The Explanatory Memorandum also stated the purpose of the amendment to Part IIIA at 4.2 in the following way:
The purpose of the amendments is to protect the revenue by introducing a holding period rule and related payments rule for shares to curb the unintended usage of franking credits and misuse of the intercorporate dividend rebate by persons who are not effectively owners of shares or who are only very briefly owners of shares. This will counter certain tax avoidance schemes under which franking credits or the intercorporate dividend rebate are made available to such persons.
Section 160 APHO of ITAA 1936 described qualified persons in the following relevant ways:
(1) A taxpayer who has held shares or an interest in shares on which a dividend has been paid is a qualified person in relation to the dividend if:
(a)when neither the taxpayer nor an associate of the taxpayer has made, or is under an obligation to make, or is likely to make, a related payment in respect of the dividend – the taxpayer has satisfied subsection (2) in relation to the primary qualification period in relation to the dividend;…
The expression primary qualification period is a defined term explained as follows:
primary qualification period, in relation to a taxpayer in relation to shares or an interest in shares, means the period beginning on the day after the day on which the taxpayer acquired the shares or interest and ending:
(a)if the shares are not preference shares – on the 45^th day after the day on which the shares or interest became ex-dividend; or…
The expression ex-dividend was, relevantly, defined in s. 160APHE as follows:
(1) A share in respect of which a dividend is to be paid, or any interest (other than an interest as a beneficiary of a widely held trust) in such a share, becomes ex-dividend on the day after the last day on which the acquisition by the person of the share will entitle the person to receive the dividend.…
Despite the repeal of Part IIIAA of ITAA 1936, the introduction of Division 207 into ITAA 1997 in 2002, which deals with the effect of receiving a franked distribution, continued to refer to a qualified person in Division 207-F. Division 207-F deals with adjustments to cancel the effect of the gross-up and tax offset rules. In Taxation Determination TD 2007/11, the Commissioner said it was necessary to have regard to the rules in Division 1A of the former Part IIIAA of ITA 1936 when determining whether an entity is a qualified person for the purposes of ss. 207-145(1)(a) and 207-150(1)(a) of ITAA 1997.
Section 207-5 provides an overview of Division 207 of ITAA 1997. Relevantly, it provides:
(1) If a corporate tax entity makes a franked distribution to one of its members, then, as a general rule:
(a)an amount equal to the franking credit on the distribution is included in the member’s assessable income; and
(b)the member is entitled to a tax offset equal to the same amount.
(2) In some cases a residency requirement must be satisfied for the general rule to apply.…
Subdivision 207-A, which commences with s. 207-10, applies to a complying superannuation entity (s. 207-15).
Section 207-20 describes the general rule dealing with gross-up and tax offset in the following way:
(1)If an entity makes a *franked distribution to another entity, the assessable income of the receiving entity, for the income year in which the distribution is made, includes the amount of the *franking credit on the distribution. This is in addition to any other amount included in the receiving entity’s assessable income in relation to the distribution under any other provision of this Act.
(2)The receiving entity is entitled to a *tax offset for the income year in which the distribution is made. The tax offset is equal to the *franking credit of the distribution. [Words preceded by an * are defined in s. 995-1 of ITAA 1997]
Where a taxpayer’s claimed offset exceeds the amount of that taxpayer’s tax liability in a particular income year, if the tax offset is subject to the refundable tax offset rules in Division 67 of ITAA 1997, the taxpayer may receive a refund of the remaining amount

(s. 63-10(1) and Item 40 of the underlying Table). In Mr Lynton’s case, the refundable tax offset rules apply.
Subdivision 207-F of ITAA 1997 explains that no gross-up or tax offset is available where the imputation system has been manipulated. Section 207-140 states:
This Subdivision creates the appropriate adjustment to cancel the effect of the gross-up and tax offset rules where the entity concerned has manipulated the imputation system in a manner that is not permitted under the income tax law.
This is where the anti-avoidance provisions are given effect. Relevant to Mr Lynton’s case is s. 207-145(1) which provides:
If a *franked distribution is made to an entity in one or more of the following circumstances:
(a)the entity is not a qualified person in relation to the distribution for the purposes of Division 1A of the former Part IIIAA of the Income Tax Assessment Act 1936;
(b)
the Commissioner has made a determination under paragraph

177EA(5)(b) of that Act that no imputation benefit (within the meaning of that section) is to arise in respect of the distribution for the entity;
(c)…
(d)…
then, for the purposes of this Act:
(e)the amount of the *franking credit on the distribution is not included in the assessable income of the entity under section 207-20 or 207-35; and
(f)the entity is not entitled to a *tax offset under this Subdivision because of the distribution;
(g)if the distribution *flows indirectly through the entity to another entity – subsection 207-35 (3) and section 207-45 do not apply to that other entity.
Where part of a share of distribution is manipulated, s. 207-145(2) is enlivened. It provides:
If:
(a)a*franked distribution is made to an entity; and
(b)
the Commissioner makes a determination under paragraph

177 EA(5)(b) of the Income Tax Assessment Act 1936 that no imputation benefit (within the meaning of that section) is to arise in respect of a specified part of the distribution (the specified part) for the entity;
then, for the purposes of this Act:
(c)the amount of the distribution is taken to have been reduced by the specified part; and
(d)the amount of the*franking credit on the distribution is to be worked out as follows:
*Franked distribution
apart from this section-Specified part            X       *franking credit
*Franked distribution  on the*franked distribution
apart from this section   apart from this section
Example:
A franked distribution of $70 is made to the trustee of the trust. Apart from this section, the franking credit on the distribution ($30) would be included in the assessable income of the trust under section 207-35.
The Commissioner has made a determination under paragraph 177EA(5)(b) of the Income Tax Assessment Act 1936 that no imputation benefit (within the meaning of that section) is to arise for the trustee in respect of $49 of the distribution.
Under this subsection, the amount included in the assessable income of the trust under section 207-35 because of the distribution is reduced from $30-$9.
If there is a beneficiary of the trust that is presently entitled to the trust’s income, the amount of the distribution that flows indirectly to the beneficiary is reduced from $70 to $21 under this subsection.
The anti-avoidance provisions in ITAA 1936

Section 177EA of ITAA 1936 falls under Part IVA which deals with schemes to reduce income tax. Mr Lynton expressed concern that the Commissioner had formed the view that s. 177EA of ITAA 1936 applied to dividend or distribution washing transactions because those terms are recent and could not possibly date back to 1936. This concern discloses a serious misunderstanding by Mr Lynton of the way in which legislation is amended on a regular basis. The title of the Act does not change simply because it has been amended. Amendments made in 2017 to ITAA 1936 do not alter its title. Amendments are made by Acts which have different titles, often carrying a title indicating that they are an amending Act. In this case, the amending legislation by which s. 177EA was introduced into ITAA 1936 was called the Taxation Laws Amendment Act (No. 3) 1998 (Cth). In addition, a number of subsections have been amended since its introduction. As Ms Baker submitted, ITAA 1936 as amended may apply in the 2012 and 2013 income years, with which this matter is concerned.
Furthermore, as Ms Baker submitted, the introduction in 2014 of s. 207-157 which deals expressly with distribution washing and which applies to distributions made on or after 1 July 2013, is not an indication that dividend washing transactions do not fall within the general anti-avoidance provisions in s. 177EA of ITAA 1936. In fact the Explanatory Memorandum which accompanied the Tax and Superannuation Laws Amendment (2014 measures No. 2) Bill 2014, in its outline, stated:
Broadly, dividend washing (or ‘distribution washing’) is a type of scheme by which a taxpayer can obtain multiple franking credits in respect of a single economic interest by selling an interest after an entitlement to a franked distribution has accrued and then immediately purchasing an equivalent interest with a further entitlement to a corresponding franked distribution [emphasis added].
Furthermore, the Explanatory Memorandum deals expressly with the general anti-avoidance provisions in ITAA 1936. It states, at page 44:
In some cases, distribution washing arrangements will constitute a scheme subject to the general anti-avoidance rules under Part IVA of the ITAA 1936. In these cases the Commissioner may make a determination to deny the benefit of the scheme to the relevant taxpayer and potentially apply further penalties.
In October 2013, the Australian Taxation Office identified that it had significant concerns about activities in this area in prior years and would be undertaking compliance activity. This compliance activity is unrelated to the amendments to the law set out in Schedule 3, being based solely on the application of the general anti-avoidance rule.
The Explanatory Memorandum also expressly deals with the interaction of the new legislation with the anti-avoidance rule. It states, at page 50:
As noted earlier, most of the activities that are affected by the rules set out in Schedule 3 would also potentially be subject to the general anti-avoidance rules set out in Part IVA of the ITAA 1936.
Despite this overlap, it was considered necessary to introduce a specific rule to provide clarity and certainty for taxpayers and the ATO, given the scale of distribution washing activity.
Those statements support the submission made by Ms Baker that the introduction of
s. 207-157 of ITAA 1997 served to avoid doubt that dividend washing transactions
were proscribed under the taxation laws.
The application of s 177EA is explained as follows:
(3)This section applies if:
(a)there is a scheme for a disposition of membership interests, or an interest in membership interests, in a corporate tax entity; and
(b)either:
(i)     a frankable distribution has been paid, or is payable or expected to be payable, to a person in respect of the membership interests; or
(ii)    a frankable distribution has flowed indirectly, or flows indirectly or is expected to flow indirectly, to a person in respect of the interest in membership interests, as the case may be; and
(iii)    the distribution was, or is expected to be, a franked distribution or a distribution franked with an exempting credit; and
(iv)   except for this section, the person (the relevant taxpayer) would receive, or could reasonably be expected to receive, imputation benefits as a result of the distribution; and
(v)    having regard to the relevant circumstances of the scheme, it would be concluded that the person, or one of the persons, who entered into or carried out the scheme of any part of the scheme did so for a purpose (whether or not the dominant purpose but not including an incidental purpose) of enabling the relevant taxpayer to obtain an imputation benefit.
The word scheme is defined in s. 177A (1) of ITAA 1936 in the following way:
scheme means:
(a)any agreement, arrangement, understanding, promise or undertaking, whether express or implied and whether or not enforceable, or intended to be enforceable, by legal proceedings; and
(b)any scheme, plan, proposal, action, course of action or course of conduct.
The expression scheme for a disposition of membership interests used in s. 177EA(3)(a) is explained in subsection (14) in the following way:
A scheme for a disposition of membership interests or an interest in membership interests includes, but is not limited to, a scheme that involves any of the following:
(a)issuing the membership interests or creating the interest in membership interests;
(b)entering into any contract, arrangement, transaction or dealing that changes or otherwise affects the legal or equitable ownership of the membership interests or interest in the membership interests;
(c)creating, varying or revoking a trust in relation to the membership interests or interest in membership interests;
(d)creating, altering or extinguishing a right, power or liability attaching to, or otherwise relating to, the membership interests or interest in membership interests;
(e)substantially altering any of the risks of loss, or opportunities for profit or gain, involved in holding or owning the membership interests or having the interest in membership interests;
(f)….
SHARES HELD FOR LESS THAN 45 DAYS
A number of shares traded by Mr Lynton were held by the Fund for less than 45 days. The Commissioner calculated those on the Last-In, First-Out (LIFO) rule set out in the former s. 160 APHI of ITAA 1936. Applying the LIFO rule, in the 2012 income year, 980 of the CBA shares acquired by Mr Lynton were held for 37 days. The rule was also applied to a number of transactions in the 2013 income year. The Commissioner determined that the shares held for less than 45 days included 2251 WOW shares; 2000 NAB shares; and 9650 SUN shares.
Accordingly, the Commissioner applied s. 207-145(1)(f) of ITAA 1997 and determined that the Fund was not entitled to a tax offset in respect of those shares.
There being no factual dispute between the parties, I find that the Commissioner has correctly applied s. 207-145(1)(f) to those parts of the impugned transactions where the shares were held for less than 45 days.
WAS MR LYNTON’S BUYING AND SELLING OF SHARES A SCHEME
It cannot be disputed that Mr Lynton’s course of conduct, which was impugned by the Commissioner, constituted a scheme as that expression is explained in s. 177EA(14). The sale and purchase of shares involved transactions which affected the legal and/or equitable ownership of membership interests (membership interests being shares in the relevant corporate entities). In fact, as Ms Baker submitted, each issue of the instructions to sell and buy shares in the company as part of a relevant transaction followed by the completion of those instructions affected legal and equitable ownership of the shares. Each sale transaction was followed immediately by a purchase transaction in an identical number of shares in the same corporate entity. I find that the series of share sale and purchase transactions as outlined in Appendix 1 of the Commissioner’s written submissions, which were not in dispute, constituted a scheme for the purposes of
s. 177EA of ITAA 1936.
Did Mr Lynton receive a frankable distribution
In addition, s. 177EA(3)(b)(i) was satisfied because Mr Lynton received a frankable distribution in respect of the shares sold. The expression frankable distribution is defined in s. 6(1) of ITAA 1936 which provides that it has the meaning given by subsection 995-1 (1) of ITAA 1997. That subsection refers to the meaning set out in s. 202-40 which provides that a distribution is a frankable distribution to the extent that it is not a frankable distribution under s. 202-45. The distributions received by the Fund do not fall within s. 202-45 of ITAA 1997 and, accordingly, are frankable distributions.
Did Mr Lynton receive a franked distribution with an exempting credit
Furthermore, s.177EA(3)(c) is satisfied because in each of those transactions, the distribution was franked with an exempting credit. Section 202-5 of ITAA 1997 explains when an entity franks a distribution. It includes where the entity allocates a franking credit to the distribution. Section 177EA(2) provides that an expression used in s. 177EA, which is also defined in ITAA 1997, has the same meaning as in that Act except to the extent that its meaning is extended by subsection (16), (18) or (19), or affected by subsection (15). Those subsections are inapplicable in Mr Lynton’s case.
Did Mr Lynton receive an imputation benefit
To satisfy the provisions in s. 177EA(3)(d), the relevant taxpayer must receive or could reasonably be expected to receive imputation benefits as a result of the distribution. The expression imputation benefit is explained in s. 204-30(6) of ITAA 1997 in the following way:
A *member of an entity receives and imputation benefit as result of the distribution if:
(a)the member is entitled to a *tax offset under Division 207 as a result of the distribution; or
(b)an amount would be included in the member’s assessable income as a result of the distribution because of the operation of section 207-35; or
(c)a *franking credit would arise in the *franking account of the member as a result of the distribution; or
(d)an *exempting credit would arise in the *exempting account of the member as a result of the distribution; or
(e)the member would not be liable to pay *withholding tax on the distribution, because of the operation of paragraph 128B(3)(ga) of the Income Tax Assessment Act 1936; or
(f)the member is entitled to a *tax offset under section 210-170 as result of the distribution.
As I have already indicated above [26], s. 207-5(1)(b) states the general rule - that a member is entitled to a tax offset equal to the franking credit on the distribution. It follows, as Ms Baker submitted, that s. 177EA(3)(d) is satisfied because, except for the application of s. 177EA, Mr Lynton would have received tax offsets or will have been entitled to claim tax offsets under Division 207 of ITAA 1997. Those tax offsets are clearly imputation benefits within the meaning given in s. 204-30(6).
Did Mr Lynton satisfy the purpose test
The essential question posed by s. 177EA(3)(e) is whether the person who entered into a scheme (or any part of a scheme) did so for a purpose, whether or not the dominant purpose (but not including an incidental purpose) of enabling them to obtain an imputation benefit. In answering that question, I must have regard to the relevant circumstances of the scheme. The meaning of the expression relevant circumstance of the scheme is explained, in an inclusive manner, in s. 177EA(17) of ITAA 1936.
It provides:
The relevant circumstances of the scheme include the following:
(g)the extent and duration of the risks of loss, and the opportunities for profit or gain, from holding membership interests, or having interests in membership interests, in the corporate tax entity that are respectably borne by or accrued to the parties to the scheme, and whether there has been any change in those risks and opportunities for the relevant taxpayer or any other party to the scheme (for example, a change resulting from the making of any contract, the granting of any option or the entering into of any arrangement with respect to any membership interests, or interests in membership interests, in the corporate tax entity);
(h)whether the relevant taxpayer would, in the year of income in which the distribution is made, or if the distribution flows in directly to the relevant taxpayer, in the year in which the distribution flows in directly to the relevant taxpayer, derived a greater benefit from franking credits than other entities who hold membership interests, or have interests in membership interests in the corporate tax entity;
(i)whether, apart from the scheme, the corporate tax entity would have retained the franking credits or exempting credits or would have used the franking credits or exempting credit to pay franked distribution to another entity referred to in paragraph (b);
(j)whether, apart from the scheme, a franked distribution would have flowed directly to another entity referred to in paragraph (b);
(k)…
(l)…
(m)whether a deduction is allowable or a capital loss is incurred in connection with the distribution that is made or that flows in directly under the scheme;
(n)…
(o)the period for which the relevant taxpayer held membership interests, or had an interest in membership interests, in the corporate tax entity;
(p)any of the matters referred to in subparagraphs 177D(b)(i) to (viii).
As Ms Baker submitted, although the reference in (j) above to s. 177D(b)(i) to (viii) was subsequently amended to refer to 177D(2) in respect of schemes entered into after

15 November 2012, the eight matters set out in the amended subsection remain identical. Taken from s. 177D(b), they are:
(i)     the manner in which the scheme was entered into or carried out;
(ii)    the form and substance the scheme;
(iii)    the time at which the scheme was entered into and the length of the period during which the scheme was carried out;
(iv)   the result in relation to the operation of this Act that, but for this Part, would be achieved by the scheme;
(v)    any change in the financial position of the relevant taxpayer that has resulted, will result, or may reasonably be expected to result, from the scheme;
(vi)   any change in the financial position of any person who has, or has had, any connection (whether of a business, family or other nature) with the relevant taxpayer, being a change that has resulted, will result or may reasonably be expected to result, from the scheme;
(vii)     any other consequence for the relevant taxpayer, or for any person referred to in subparagraph (vi), of the scheme having been entered into or carried out; and
(viii)    the nature of any connection (whether of the business, family or other nature) between the relevant taxpayer and any person referred to in subparagraph (vi);
…
Having regard to the relevant circumstances of the scheme, which I have set out above, it is clear that Mr Lynton’s share transactions impugned by the Commissioner fall within many of those listed circumstances, if not within all of them. The most significant aspect of his trading was the sale of a bundle of ex-dividend shares in one company on the ordinary market followed, on the same day, by the purchase of precisely the same number of shares on the special market where the shares remained cum-dividend. In the ordinary case, members of a corporate tax entity who receive franked distributions are generally entitled to a refundable tax offset equal to the amount of the franking credit allocated to the distribution.
As is stated in the Explanatory Memorandum to the Tax and Superannuation Laws Amendment (2014 Measures No.2) Bill 2014, the purpose of the imputation system was to put members of the corporation in the same position as if they had earned the corporate income themselves and that distributed income was subject to withholding prior to being paid to the member. That would result in the corporate income distributed to a member being effectively taxed only at the member’s marginal tax rate. Where a recipient of a franked distribution is subject to a low marginal tax rate, that recipient can obtain a significant advantage by having access to the refundable tax offset; particularly where that refundable tax offset may be acquired twice in the same income year and where the economic risk of holding the shares as a consequence of the transaction remains unchanged.
The back-to-back sale and purchase transactions on the same day in respect of shares in the same company by Mr Lynton resulted in the following:
(c)prior to the first transaction (the sale) which occurred on the day on which the shares became ex-dividend, Mr Lynton became entitled to receive a dividend distribution which was either fully or partially franked giving rise to a franking credit;
(d)the second transaction (the purchase) on the special market which occurred on the same day as the first transaction and involved the same number of shares in the same company, resulted in Mr Lynton becoming entitled to receive a dividend distribution which was fully or partially franked giving rise to a franking credit within a day or so of that transaction;
(e)while the sale of the shares in the first transaction was for a lower price than Mr Lynton was required to pay to purchase the same number of shares in the same company on the special market, effectively resulting in an overall loss on those transactions, he became entitled to receive the dividend distribution on that bundle of shares twice and received the franking credits twice in the same income year;
(f)using, for example, the sale and purchase of the CBA shares in 2012, the loss on those transactions amounted to $3,647.90 but Mr Lynton received a total dividend of $7,047.28 and a total franking credit of $3, 020.26, which was available to him to set off against his total tax liabilities for that income year;
(g)had Mr Lynton not entered into back-to-back transactions for the sale on an ex-dividend basis and purchase on a cum-dividend basis, he would have been exposed to the risks of loss and opportunities of profit ordinarily attached to those shares and of course he would not have had the benefit of utilising the second franking credit to enable him to set that off against his tax liabilities for that income year;
(h)there can be no doubt that Mr Lynton, via the back-to-back transactions, derived greater benefit from franking credits than other resident entities which held membership interests at the same time;
(i)while it may be speculative to suggest there is a connection between the consideration paid for the cum-dividend shares and the imputation benefits to be received shortly thereafter when those shares become ex-dividend, the additional imputation benefit must have had some value to Mr Lynton when used to offset his other tax liabilities in the same income year;
(j)the period for which Mr Linton held membership interests in each corporate tax entity varied, some were for relatively lengthy periods and others were for less than 45 days. However, individually acquired parcels of shares were grouped at or shortly before the date of the dividend distribution and the subsequent sale, followed by the same number of shares being purchased on special market immediately thereafter. This strongly points to a trading strategy beyond simply investing in shares over a long term;
(k)because shares traded on the ASX are traded on a cum-dividend basis until the date on which the dividend is payable when they become ex dividend, and the shares in that corporate tax entity can only be purchased on a special market on a cum-dividend basis after the normal trading ex-dividend date, that strongly suggests that the purpose of the transactions was to obtain the additional imputation benefit in the same income year;
(l)where the form and substance of an arrangement are disparate, such as the back-to-back transactions entered into by Mr Lynton (where the form of the arrangement was that there were two independent shareholdings with two entitlements to dividends, while the substance was that Mr Lynton continue to hold the same number of shares but acquired an additional imputation credit) that disparity indicates a scheme to obtain a tax benefit;
(m)the impugned transactions are limited to the very brief time where the shares in the corporate tax entity could only be repurchased in the special market. Had Mr Lynton simply wished to acquire additional shares in the same corporate tax entity after the ex-dividend date, if he had acquired them on the ordinary market following that date, he would have had to inject significantly additional capital for that purchase. As Ms Baker submitted, if Mr Lynton had held onto both parcels of shares at the same time and then disposed of the ex-dividend shares, the Last In First Out (LIFO) rule set out in the former s. 160 APHI of ITAA 1936 would result in Mr Lynton not being able to be treated as a qualified person in respect of the cum-dividend shares. Plainly, the timing of the back-to-back transactions was critical which emphasises the purpose to be attributed to those transactions;
(n)but for the operation of s. 177EA of Part IVA of ITAA 1936, it is likely that Mr Lynton would have received a refundable tax offset equal to the value of the franking credits received in respect of dividends on both parcels of shares; and
(o)there can be little doubt that Mr Lynton’s financial position improved as a result of his receiving refundable tax offsets in the back-to-back transactions without which, he would have been worse off financially.

The final consideration under s. 177EA(3)(e) is whether Mr Lynton entered into or carried out the scheme for a purpose which, while not necessarily the dominant purpose, was not an incidental purpose, and it enabled him to obtain an imputation benefit.
The High Court of Australia (French CJ, Hayne, Kiefel, Bell and Gageler JJ) in Mills v Commissioner of Taxation of the Commonwealth of Australia (2012) 250 CLR 171 was required to deal squarely with s. 177EA of ITAA 1936. Gageler J wrote the reasons in that decision with the other Justices agreeing. His Honour noted that the focus of s. 177EA of ITAA 1936 is on the taxpayer obtaining an imputation benefit and that a tax offset to which a member of a corporate tax entity becomes entitled as a result of the allocation of the franking credit to a frankable distribution answers that description (page 183). The Court in that case was concerned with a security issued by a listed corporate entity (CBA) referred to as PERLS V (Perpetual Exchangeable Resalable Listed Securities V) which were stapled securities, that is, preference shares to which was stapled a subordinated unsecured note. The holders of the stapled securities were entitled to quarterly distributions which were fully franked.
The issue for the High Court to determine was whether, within the meaning of s. 177EA(3)(e) of ITAA 1936, the arrangements for the issue of PERLS V from the perspective of a reasonable person was that the Bank entered into and carried out those arrangements for a purpose (whether or not the dominant purpose but not including an incidental purpose) of enabling a taxpayer who was a holder of PERLS V to obtain an imputation benefit by reason of the allocation of the franking credit to the payment of interest on a note. Gageler J said, at 201-203:
The conclusion a reasonable person would draw in answer to the question statutorily posed by s 177EA(3)(e) will therefore, for most capital raisings, be the jurisdictional fact on which the application of s 177EA will turn. The conclusion to be drawn under s 177EA(3)(e) “having regard to the relevant circumstances” of the scheme of capital raising is a conclusion as to purpose of one or more persons who entered into or carried out that scheme.… If the conclusion drawn is that the issuer or some other person entered into or carried out the scheme, or some part of it, “for a purpose… of enabling” a holder to obtain a franking credit then the jurisdictional fact to which s 177EA(3)(e) refers will exist and s 177EA will apply unless the conclusion to be drawn is that the issuer’s purpose of enabling the holder to obtain a franking credit is “an incidental purpose”.
Two uncontroversial features of “the relevant circumstances” to which

s 177EA(3)(e) refers can usefully be noted. The first is that the relevance of the relevant circumstances lies in the extent to which they are probative of the ultimate question is to purpose. The second is that the circumstances referred to in

s 177EA(17) are not exhaustive of the circumstances that might be probative of that ultimate question. They are nevertheless mandatory relevant considerations. Where they exist, they must be taken into account and their degree of relevance will vary according to the extent to which they are probative of the ultimate question.…
The questions of construction of s 177EA(3)(e), pivotal to the application of

s 177EA, are twofold: what amounts to “a purpose… of enabling”; and when is such a purpose “an incidental purpose”?
The reference to “purpose” in each of those phrases is to that of a person who made, but need not, be the issuer. A purpose is a consequence intended by a person to result from some action. Here it is a consequence intended by the person in entering into or carrying out a scheme for the disposition of relevant interest. A person will often intend that a single action have multiple consequences. It is to the relationship between multiple intended consequences that the emphasised words of s 177EA(3)(e) are directed.
There is, in the Explanatory Memorandum for s 177EA as originally inserted into the ITAA 1936 in 1998, already quoted, a very clear statement that “a purpose is an incidental purpose when it occurs fortuitously or in subordinate conjunction with another purpose, or merely follows another purpose as its natural incident”. The statement repeated in the Supplementary Explanatory Memorandum, employed the word “or” disjunctively because a purpose may be in subordinate conjunction with another purpose or may do no more than follow another purpose as the natural incident that other purpose without necessarily being fortuitous. The statement accords with standard definitions of the word “incidental” to be found in mainstream dictionaries and with the natural reading of the statutory text, “an incidental purpose”, in the context of s 177EA(3)(e). The adoption of the meaning conveyed by the statement as the proper construction of the statutory text produces a result that a purpose of a person, in entering into or carrying out the scheme for the disposition of equity interests, of enabling a holder to obtain a franking credit is “an incidental purpose” outside the scope of s 177EA(3)(e) if that purpose does no more than further some other purpose or follow some other purpose. That result confines the application of s 177EA in a manner that is consistent with its object. The meaning ought, for those reasons, to be adopted.
Adopting that meaning of “an incidental purpose”, there is no textual or contextually warrant for further confining the application of s 177EA by adopting a strained meaning of the word “enabling” in s 177EA(3)(e). The word “enabling” is directed to the end of obtaining an imputation benefit. It is best read in the sense suggested by Jessop J: that of “supplying with the means or opportunities to [that] end” (106). It follows that the disposition of an equity interest to an equity holder enables that holder to obtain whatever franking credits subsequently accrue to the holder when there is a distribution on that equity interest.
Where I disagree with Jessop J in relation to the construction of s 177EA(3)(e) is in two respects. First, a purpose can be incidental even where it is central to the design of the scheme if that design is directed to the achievement of another purpose. Indeed, the centrality of a purpose to the design of the scheme directed to the achievement of another purpose may be the very thing that gives it a quality of subsidiary and therefore incidentality. That is not impermissibly to confine the scope of s 177EA(3)(e) to a dominant purpose: the categories of “dominant” and “incidental” are not exhaustive. The emphasised words in s 177EA(3)(e) make clear that a dominant purpose of enabling a holder to obtain a franking credit is sufficient but not necessary for the requisite jurisdictional fact to exist, but it does not follow that a purpose which does no more than further or follow from some dominant purposes is incidental. Secondly, counterfactual analysis is not antithetical to the statutory enquiry mandated by s 177EA(3)(e). Purpose is a matter for inference and incidental nullity is a matter of degree. Consideration of possible alternatives may well exist drawing a conclusion in a particular case that a purpose of enabling a holder to obtain a franking credit does or does not exist and, if such a purpose exists, that the purpose is or is not incidental to some other purpose.
In Mr Lynton’s case, the purpose of the back-to-back transactions is readily identifiable. Such transactions were only able to be completed in a very short time and were only available to qualified persons following the ordinary announcement by a corporate tax entity of an entitlement to a dividend. The only economic benefit to be obtained by a person participating in those transactions was the advantage from obtaining a tax offset or an imputation benefit. The obtaining of the dividend cannot be said to be the purpose of the transaction because that financial gain is immediately dissipated in most cases by purchase of the same number of shares in the same corporate tax entity at a price which is increased by the amount of the dividend and, usually, slightly in excess of that amount. The purpose of the back-to-back transactions was plainly to enable a taxpayer, particularly one whose marginal rate is below the top marginal rate, to obtain a significant financial advantage by utilising the imputation benefit.
It necessarily follows that I must find that the impugned transactions for the 2012 and 2013 income years fall within s. 177EA of ITAA 1936. Therefore, the Commissioner’s decision to disallow the tax benefits obtained by Mr Lynton as a result of the impugned transactions in accordance with s. 177F of ITAA 1936 was the correct decision.
CONCLUSION
I have found that Mr Lynton’s share trading activities between 20 February 2012 and 13 March 2013, which are the subject of this challenge against the Commissioner’s objection decisions, constituted a scheme for the purposes of s. 177EA of ITAA 1936. In fact, each transaction may be regarded as a scheme for those purposes. As for the shares which the Fund held for less than 45 days and which were included in the back-to-back transactions, I have found that s 207-145 of ITAA 1997 applies such that the Fund was not entitled to a franking credit on the dividend distribution and therefore was not entitled to claim a tax offset in respect of those franked dividends.
Although Mr Lynton argued that s 177EA could not have applied to those share transactions for the reason that dividend or distribution washing was not contemplated by ITAA 1936, I have disagreed. It is clear that subsequent legislation dealing specifically with those topics introduced into ITAA 1997 in 2014, while perhaps overlapping to some extent with the former legislation dealing with schemes, did not replace the scheme provisions in s. 177EA.
The purpose of the transactions in question was plainly to obtain an imputation benefit by reason of Mr Lynton’s ability to offset his tax liabilities by the amount of the franking credits attached to those distributions. I have found that Mr Lynton’s purpose was not an incidental purpose but rather, the only purpose of conducting those transactions. They provided no other economic benefit, and in fact they probably would have had an economic detriment but for the claimed tax offset.
Accordingly, I find that the provisions in s. 177EA(5)(b) were enlivened and the Commissioner correctly made determinations that no imputation benefit arose in respect of the distributions or parts of a distribution made as a result of the scheme.
I find that the objection decisions made by the Commissioner on 18 March 2015 in respect of the 2012 and 2013 income years were the correct decisions. I affirm those decisions.

64. I certify that the preceding 63 (sixty-three) paragraphs are a true copy of the reasons for the written reasons herein of Egon Fice, Senior Member

…...................[sgd].....................
Associate
Dated 17 May 2017

Date of hearing 18 October 2016

Applicant In Person

Solicitors for the Respondent
ATO Review and Dispute Resolution

Counsel for the Respondent Ms M Baker

[2017] AATA 694

17 May 2017

Key Legal Topics

Areas of Law

Tax Law

Statutory Interpretation

Equity & Trusts

Legal Concepts

Statutory Construction

Intention

Remedies

Date of hearing	18 October 2016
Applicant	In Person
Solicitors for the Respondent	ATO Review and Dispute Resolution
Counsel for the Respondent	Ms M Baker