DUNN and COMMISSIONER OF TAXATION
[2011] AATA 760
•27 October 2011
Administrative Appeals Tribunal
DECISION AND REASONS FOR DECISION [2011] AATA 760
ADMINISTRATIVE APPEALS TRIBUNAL )
) No WT200400135
TAXATION APPEALS DIVISION ) Re GREGORY JOHN DUNN Applicant
And
COMMISSIONER OF TAXATION
Respondent
DECISION
Tribunal Mr A Sweidan, Senior Member Date27 October 2011
PlacePerth
Decision The Tribunal affirms the decision under review
..(sgd) Mr A Sweidan.....
Senior Member
CATCHWORDS
Income Tax – “franchise” scheme - penalty where claimed deductions disallowed - whether 50% penalty correctly imposed - decision under review affirmed
LEGISLATION
Income Tax Assessment Act 1936 ss 51(1), 226L
CASES
Leggett v Commissioner of Taxation [2007] AATA 1624
Commissioner of Taxation v Starr [2007] FCAFC 204; (2007) 164 FCR 436
Commissioner of Taxation v Star City Pty Ltd (No 2) [2009] FCAFC 122; (2009) 180 FCR 448
Starr v Commissioner of Taxation [2007] FCA 23
FCT v Faigenbaum [2008] FCA 510
Faigenbaum and Commissioner of Taxation [2008] AATA 946REASONS FOR DECISION
27 October 2011 Mr A Sweidan, Senior Member Background
1. Application has been made for review of the respondent Commissioner's objection determination dated 12 March 2004 by which the applicant's objection was disallowed in full.
2. The objection was as to an amended assessment and imposition of penalty in respect of the applicant's 1995 income year. Essentially:
2.1The Commissioner issued an amended assessment to the applicant which was based on the Commissioner disallowing $150,000 in claimed deductions.
2.2The Commissioner imposed a penalty based on 50% of the tax shortfall under s 226L of the Income Tax Act 1936 (ITAA36).
3. The review concerns claimed deductions in respect of Satcom financial services franchises of the type considered by the Tribunal in Leggett v Commissioner of Taxation [2007] AATA 1624. (“the lead case”).
4. In the 1995 income year the applicant acquired 5 Satcom financial services franchises. Initial franchise fees of $150,000 were paid; $117,500 of that was funded by limited recourse loans so that the applicant’s cash outlay was $32,500. The applicant claimed $150,000 in deductions for the 1995 income year.
5. The structure of the applicant's franchise arrangements was not materially different to those considered in Leggett. Accordingly, the factual background referred to in Leggett is a convenient starting point to place this review in context. See Leggett at [1], [3] - [13], [16] & [26] – [48]. It is not necessary to repeat the detail of the arrangements here, except as set out below.
6. By his objection, and carried through in the application for review, the applicant put in issue both: (1) the Commissioner's determination to disallow the $150,000 in claimed deductions; and (2) the Commissioner's imposition of penalty under s 226L ITAA36.
7. The applicant no longer contends that the Commissioner was in error in disallowing the $150,000 in claimed deductions.
8. Accordingly, the only remaining substantive issue before the Tribunal concerns the imposition of the penalty under s 226L ITAA36.
9. Section 226L ITAA36 relevantly provides:
"Subject to this Part, if:
(a) a taxpayer has a tax shortfall for a year; and
(b)the shortfall or part of it was caused by the taxpayer in a taxation statement treating an income tax law as applying in relation to a scheme in a particular way; and
(c)the scheme was a tax avoidance scheme within the meaning of subsection 224(1); and
(d) none of the scheme sections applies in relation to the scheme;
the taxpayer is liable to pay, by way of penalty, additional tax equal to:
(e)if, when the statement was made, it was reasonably arguable that the way in which the application of the law was treated was correct - 25% of the amount of the shortfall or part; or
(f) in any other case - 50% of the amount of the shortfall or part."
10. The only part of s 226L ITAA36 which the applicant puts in issue is s 226L(c). In other words:
10.1 for the purpose of this review the applicant accepts that the other elements of s 226L are satisfied; and
10.2 if, despite the applicant's contention to the contrary, the Tribunal is satisfied that s 226L(c) is applicable, the applicant does not dispute that the additional tax should be 50% of the shortfall amount.
Issue for Tribunal’s Determination
11. The sole issue for the Tribunal on this review is whether the "scheme" was a "tax avoidance scheme" within the meaning of s 224(1) ITAA36.
12. The "scheme" refers to the 5 Satcom financial services franchise agreements, sub-franchise agreements and funding agreements entered into by the applicant: Commissioner of Taxation v Starr [2007] FCAFC 204; (2007) 164 FCR 436 at [58] and applicant does not dispute that these arrangements constitute a scheme as defined . However, it is necessary to determine whether the scheme was “a tax avoidance scheme”. In order to do this a broader range of issues must be considered as set out below.
13. Section 224(2) ITAA36 defines the term "tax avoidance scheme" for the purpose of s 224(1). A "tax avoidance scheme" means a scheme that:
"was entered into or carried out for the sole or dominant purpose of enabling a person to pay no tax or less tax".
14. It follows that s 226L ITAA36 applies in relation to the deduction claimed for initial franchise fees if it is established that the scheme was entered into or carried out for the sole or dominant purpose of enabling the applicant to pay no tax or less tax.
15. Section 224(2) ITAA36, and its criterion of "sole or dominant purpose", has been the subject of judicial consideration by the Full Court of the Federal Court of Australia inter alia in Commissioner of Taxation v Starr [2007] FCAFC 204; (2007) 164 FCR 436 and Commissioner of Taxation v Star City Pty Ltd (No 2) [2009] FCAFC 122 (2009) 180 FCR 448. See also the decision of French J at first instance in Starr v Commissioner of Taxation [2007] FCA 23 and the judgment of McKerracher J in FCT v Faigenbaum [2008] FCA 510.
16. These and other cases establish that:
16.1 The relevant purpose is that of the taxpayer.
16.2Section 224(2), and accordingly s 226L, import a subjective test: the Tribunal is required to determine subjectively whether the taxpayer had the requisite purpose. The inquiry is directed to the taxpayer's actual purpose rather than an attributed purpose;
16.3However the applicant’s own evidence of his subjective purpose is not the only relevant evidence which can be taken into account by the Tribunal.
Applicant’s Evidence
17. Applicant’s evidence is that his actual purpose is entering into the Satcom financial services franchise was to derive a commercial return and that he did derive some, albeit minor, assessable income from the franchise arrangements.
18. For the reasons which follow, based on a careful analysis of all the evidence before the Tribunal, the Tribunal does not accept the applicant’s evidence as to his purpose.
Tribunal’s Findings
Applicant’s credibility
19. To establish that the respondent’s assessment of additional tax is excessive, the applicant must differentiate his case from the lead case. In that case the applicants all claimed that their actual purpose was to derive a commercial return. The Tribunal did not accept their evidence in that regard. In the Tribunal’s view the evidence here does not demonstrate that the applicant’s position is different from the lead case applicants.
20. The Tribunal finds that the applicant’s entry into the scheme, including his participation in structuring and implementing the scheme, was primarily motivated by the immediacy of the $150,000 tax deduction and the tax savings it produced in the income year ended 30 June 1995 and that this was his dominant purpose.
21. The applicant’s claimed expectation of obtaining a return in accordance with the profit projections in the Business Opportunity Disclosure Statement 1995 (“the BODS”) from his investment in the scheme was in the opinion of the Tribunal no higher than the expectations of the other participants who were the applicants in the lead case.
22. At the hearing the respondent entered a formal objection to the applicant’s witness statement [Ex A1] on the grounds that it contained uncorroborated inadmissible hearsay and unsupported conclusions and opinion.
23. On adducing the applicant’s witness statement the applicant’s counsel gave the applicant the opportunity to correct errors and corrections were made, the applicant stating that he was satisfied that the contents of his witness statement with the corrections were true and correct. The applicant added that the statements of other persons set out in his witness statement were: “the gist of what I recall being said at the time”.
24. The Tribunal notes that there is no corroboration of various statements made by the applicant in his witness statement, particularly statements made in relation to those matters upon which the applicant apparently relies to differentiate his circumstances from the lead case. e.g. the alleged loan by Mercantile Mutual to Satcom, the alleged existence of a “floppy disc”, the alleged information underlying the profit projections in the BODS and the advice which he claimed to have received that those profit projections would be exceeded. There are also numerous inconsistencies between statements made by the applicant in his witness statement and his notice of objection and in his oral evidence. A number of statements made by the applicant in oral evidence do not appear in his witness statement. Many of these go to core issues.
25. On a number of occasions when under cross-examination the applicant was either evasive in answering or claimed a lack of recall of events because of the passage of time. e.g. the circumstances of how he came to work with Mr Irdi and the terms of that employment and the extent of his involvement in giving tax advice which he clearly sought to play down. By contrast, in respect of other aspects of his evidence he was often able to recall the minutiae of events in 1995, including the detailed “gist” of lengthy conversations with other persons in 1995. For example, at [11.9] of his witness statement he could recall in detail the “gist” of what Mr Palermo said to him about the scheme but at [11.8] of his witness statement could not recall what Mr Gallagher said to him in a discussion on the profit projections in the BODS.
26. None of the persons whose words the applicant has purported to reconstruct many years later in his witness statement (after publication of the Tribunal’s reasons for decision in the lead case), were called by the applicant to give evidence to the Tribunal to support the applicant’s statements and to be tested by cross-examination as to their recollections of events and discussions that occurred. No explanation is given for the failure to call Messrs Irdi, Gallagher, Palermo, Arns and others. The Tribunal infers that these persons have not been called by the applicant to give evidence because their evidence would not have assisted the applicant.
27. Overall, the Tribunal finds that the applicant’s evidence is in many respects self-serving and unreliable. The onus of proof which he bears is not discharged.
28. In his evidence about the role he played in structuring and implementing the scheme arrangements, the applicant was evasive as to the extent of what he did, how the client was invoiced for his time and how he was remunerated by Irdi Legal.
29. The applicant claimed he never gave clients tax advice and repeatedly denied that he gave advice in relation to the scheme arrangements. The applicant would say only that he prepared certain information and might have drafted certain things for Mr Irdi to review and the advice that was given was Mr Irdi’s or his firm’s.
30. The applicant described himself as a “gofer” for Mr Irdi and Mr McAuliffe and claimed he only did the work they instructed him to do. This he said entailed doing research and attending at Satcom’s premises from 8 to 10 hours a week obtaining information from Mr Gallagher relating to the franchise arrangements, being information that was needed by Mr Irdi and Mr McAuliffe.
31. Applicant denied that his research into franchises and more particularly into “up front” franchise fees was because he was formulating a “tax effective” structure for Satcom that derived its claimed tax effectiveness from a large deductible up front expense.
32. The applicant claimed the scheme structure was determined out of meetings and advice given by Mr McAuliffe and Mr Irdi. He said he was more than likely present in those meetings, but they did have some meetings where he was not present.
33. This evidence of the applicant is inconsistent with other evidence. Firstly, after 6 to 7 years working in tax law while at Curtin University and then Phillips Fox the applicant thought he had a reasonable understanding of tax law. He stated that Mr Irdi did not hold himself out to specialise in taxation. Given the applicant’s evidence of his tax experience, the reasonable inference is that the applicant was the person most likely to have given advice on the scheme arrangements. There is no evidence of any other party providing the knowledge to “tax effectively” structure the form and substance of the scheme arrangements for Satcom.
34. The extent of the applicant’s time interacting with Satcom of 8 to 10 hours a week and the $230,847 amount of professional fees for his personal services paid to Bankstream in the year ended 30 June 1995 are clear indicators that he was in fact much more than a “gofer” for Irdi Legal, as claimed by him.
35. Furthermore, the applicant’s evidence that he did not give advice is inconsistent with:
35.1 the evidence of Mr Gallagher who said that the applicant was the person at Irdi Legal who was advising Satcom:
Transcript of ATO interview with Mr Gallagher on 4 September 1998 at
Generic T Docs V9/2461 to 2470 particularly 2463-2466
35.2 communications from Mr Wharton referring to the applicant;
Generic T Docs V7/1847 and 1897
35.3statements in the applicant’s notice of objection that he had given advice to Satcom in relation to the scheme arrangements;
Individual T Docs at 22[3.2]-[3.3] and 11-13[4.6]-[4.8]
35.4other evidence that Mr Gallagher was relying on the applicant for advice: e.g. the applicant’s comment to Mr Gallagher “where would that leave you” if he were to leave Irdi Legal to run his Satcom franchises;
Ex A1, Dunn, witness statement at page 10 at [10.10]
Dunn, Transcript P-27/16-30
35.5the absence of any reference to working as a “gofer” in the applicant’s witness statement and his notice of objection.
Applicant’s claimed motive of obtaining the projected income
36. The applicant stated that Mr Irdi finalised invoices for his work and that in 1995 what was due to him from Irdi Legal was paid to Bankstream Pty Ltd a company of which the applicant was a shareholder and director in 1995. The applicant described the relationship between Bankstream and Irdi Legal as; “I believe that Irdi & Associates contracted with Bankstream for Bankstream to provide certain services”, being the sort of services the applicant personally could provide.
37. The applicant’s 1995 income tax return reported income of $150,000 from Bankstream and claimed a $150,000 deduction from the 5 franchisees he had taken in Satcom Financial Services.
38. By 30 June 1995 the applicant knew that his income from Bankstream was going to be $150,000. He also understood that if he took 5 franchises he would save tax on $150,000 of income. He understood that there was tax effectiveness in taking the franchises but claimed it was not his motive. He agreed that by claiming the $150,000 he saved outlaying $65,396 to the revenue for the 1995 income year and after paying the $32,500 to Satcom he had a surplus on his tax savings of $32,896 which came to him because of the limited recourse loan arrangement.
39. The applicant agreed there would be some risk in whether the returns promised in the BODS would be achieved, but would not agree that at the time he invested in the scheme he only stood to lose the $32,500 cash he had paid to Satcom if the franchises did not work out.
40. The applicant stated in oral evidence that:
“… There was a financial loss to me, and it was significant because I went into the franchise arrangements to earn not less than the projected incomes. You see based on the assumptions that we used behind those projections, which I thought were understated, my accountant thought they were understated – I expected to derive the amount of the projected income. Not less than that. I actually expected to derive more, …” [Transcript P-62/24-29]
“... If I can take you to the franchise income that is set out on page 19. [of the BODS] You will see that the franchisee income over in the total column is 49,000. Now, the total franchisee income is actually 79,000, because there is a negative there of 30,000, which was the original franchise fee. So I expected to earn the projected income of 79,000 per each franchise. That was my motivation. Let me tell you that the 79,000 represented for me an extremely good deal. …” [Transcript P-63/15-22]
“… why did you think you would earn that franchise income as appears on page 19 of the disclosure document? --- I had taken the assumptions, I had discussed the assumptions behind the projected income levels with my accountant – well firstly with Mr Gallagher. I took all that information back to my accountant , Mr Palermo, and we considered that the levels of income that were based on the assumptions behind the projections were easily achievable. In other words we had formed a view that those projected income levels were low. And yet they still gave a return, as I calculated, of 500 per cent over a ten year period – 50 per cent per annum. So it was a large return and one that we thought was understated. …” [Transcript P-63/30-39]
41. The Tribunal notes that:
41.1these statements are based on the premise that the applicant knew the assumptions behind the projections in the BODS and conveyed this information to Mr Palermo. The applicant’s statement: “based on the assumptions that we used behind those projections” is inconsistent with the applicant’s earlier statement in cross-examination that he played no part in preparation of the profit projections in the BODS;
41.2In [11.9] of his witness statement the applicant states that in or about April 1995 he took a copy of the BODD and “a sample floppy disc of Satcom’s financial services product” to Mr Palermo for him to provide advice on acquiring one or more franchises. He also provided Mr Palermo with a copy of the opinion of Mr O’Connor QC. The applicant says he asked Mr Palermo “to review the different income projections contained within the Financial BODS and recounted to him Mr Gallagher’s assumptions and other information concerning the projections”. Then at [11.9] he states that the “gist” of what Mr Palermo said was “I believe the income projections are realistic with the potential for upside”;
41.3However the applicant says at [11.8] of his witness statement that he did not obtain information from Mr Gallagher about the projections until a month later in or about May 1995;
41.4The applicant has the onus of proof and has not produced, made any effort to produce, alternatively explained why he is unable to produce independent and contemporaneous evidence of the assumptions and working papers for the projections at page 19 of the BODS;
41.5In the lead case, the evidence of Mr McGing stated that: “This lack of information particularly that supporting the projections basis, meant it had the potential to mislead franchisees”: McGing Ex R3 at pages 9-10[3] and 23[7].
41.6In the lead case, the evidence of Mr Hantke stated at Ex R6 at pages 10[4.23] and 17[10.02] that:
“The results of each projection are very low and indeed in all cases the outcomes would appear to be totally inadequate.”
…
“… The projected and actual earnings were modest and with growth options restricted (i.e. set number of clients per franchise territory) the financial benefit of this system largely revolved around the tax deductibility of the year 1 annual franchise fee.”
41.7In the lead case, the evidence of Mr Meredith stated at Ex R9 page 27[128] and page 28[135]-[136] that:
“The Disclosure Documents provide no guidance on how the estimated income per subscriber in Year 1 was calculated, nor does it provide any reasonable market analysis or market data to support the projection.
…
In the absence of any details of how the average gross profit per accounting firm was estimated in Year 1 or whether the estimate was based on any reasonable market analysis or market data, I am unable to express an opinion on the reasonableness of the estimate of average gross profit per accounting firm except to say that the volatility does not appear credible.
Additionally, given the aggressive growth estimates implicit in projections provided in the Disclosure Documents in my opinion, the estimated net income to be earned by the Franchisee, regardless of whether it opts to operate the franchise personally or appoint a Sub-Franchisee, is likely to be overstated in the Disclosure Documents.”
41.8The applicant’s evidence as to the expected profit projections from the scheme is at odds with the views of the experts Messrs McGing, Hantke and Meredith;
41.9The applicant’s evidence is that he knew what the assumptions were behind the profit projections and he conveyed that information to Mr Palermo. However the applicant apparently decided not to set out the knowledge he had of the assumptions in his witness statement and allow the assumptions to be tested by the experts. Messrs McGing and Hantke were not asked about the profit projections in cross-examination and Mr Meredith who had also provided expert evidence in relation to the profit projections was not required by the applicant for cross-examination;
41.10A reasonable inference from the observations in the sub-paragraphs above is that either there were no assumptions supporting the projections or it would not have assisted the applicant’s case to give evidence about them.
42. The applicant also claimed in cross-examination that he expected the respondent to disallow the $150,000 deduction unless he earned the projected income, in which event there would be no reason for the Commissioner to disallow the deduction if he earned the projected income.
43. This proposition by the applicant is not mentioned in his witness statement and is furthermore inconsistent with the evidence in his witness statement that he accepted and relied on the advice of Mr Palermo and Mr O’Connor QC that the outgoings would be deductible. Further, the proposition the applicant puts is unsound in principle. As a person with experience in taxation law the applicant would have known that the deductibility of an outgoing does not necessarily correlate with the actuality of receipt of income and the amount of any income derived. There may be many reasons why income may not eventuate, for example, an innovative venture may fail due to the prevalence of one or more risk factors. He would have known that does not mean that the outgoings are thereby rendered not deductible.
44. If anything, the proposition put by the applicant is of itself indicative that the his entering into the scheme and claiming the deduction was driven by his desire to obtain the $150,000 claimed deduction and the tax savings achieved by the claimed deduction.
The so-called franchise and franchisee records produced by the applicant
45. The applicant’s evidence and documents tendered by him do not answer the matters of concern to the Tribunal in the lead case when making a finding on the income producing activity and deductibility of the claimed deductions. Relevant terms of the franchise documents and the concerns about the franchise arrangements were fully canvassed before the Tribunal in the lead case and are set out in [2007] AATA 1624; (2007) 69 ATR 678 paragraphs [3], [4], [6], [8], [10]-[13], [16], [26]-[47], [50]-[52] and [119]-[137] and [168]-[176] of the Tribunal's reasons for decision in the lead case. They need not be repeated here in detail except as set out below.
46. On the evidence both here and in the lead case no franchisee business actual or potential is established.
47. The BODS presents no business-like structure and does not define a discernible business. It refers to both technology and financial services, without explanation as to the precise nature of the purported business or how it was to be conducted. The BODS offers no assurance that Satcom was in a position to provide the proposed services.
48. The Franchise Agreement does not define any discernible business. The business activity to be undertaken by the franchisee is said to be to introduce and encourage accountancy firms to use the System (clause 3.1.2), that is, the “specialized on-line electronic communications network system which incorporates certain hardware, financial services software and other features designed specifically to assist and accommodate the accountancy profession” (clause 2.1). The business is not defined adequately to permit the franchisee to know what he is encouraging the use of or for what purpose.
49. Both the Franchise Agreement and the BODD are silent as to Satcom’s business model. Apparently, the technology in question was to facilitate the sale of financial products, particularly insurance, to clients of accountants. The technology was to be used by accountants to obtain a quote from Satcom. Satcom would, in turn, refer the business to an agent accredited to sell the financial product in question. Commission payable to the agent in respect of the sale of the product would be shared with Satcom and the accountant.
50. Total control of any business remains with Satcom: -
50.1the franchisee is forbidden by the Franchise Agreement to undertake any business activity of his own and is required to appoint a sub-franchisee. The franchisor is the subsidiary of the sub-franchisee;
50.2 the sub-franchisee conducts its own business;
50.3the franchisee was not permitted to terminate the Sub-Franchise Agreement unless the franchisor was satisfied that the franchisee had acquired the technical competence to operate and manage the Franchised Operation in his own right.
51. In this model, there is clearly no place for a franchise structure. There is no activity which can sensibly be franchised as the purported franchisee: -
51.1 cannot provide the financial services;
51.2does not receive the request from an accountant for a particular service, that was to go to Satcom via its data transfer technology; and
51.3the request is dealt with by an authorised agent who will accept referrals and be willing to share his commission.
52. As well, the territory arrangements for the purported franchise structure lacked a business-like application. Although franchisees were granted a non-exclusive State territory, there was a prescribed maximum of eight firms which would restrict the financial return of the franchisee as did the allocation of territories interstate instead of from the franchisees’ home states. There was no system for determining when a given franchisee might be said to have enlisted a firm nor how initial competition amongst franchisees for the most potentially lucrative firms might be managed.
53. The only feature which purportedly distinguished the business of one franchisee from another was an allocation of accountancy firms, as they were enlisted. The applicant had no knowledge or documentation of any accountancy firms allocated to his franchises. In cross-examination he made vague statements that he “made a separate inquiry” and “I know that some of my franchises had been allocated, or I was told had been allocated, one, accounting firm, whereas I know others hadn’t been allocated any, and then I think that changed through time where I had one in each and maybe two in another. I was told, I don’t recall specifically the different points in time; you know I just don’t recall in precise detail”. This information does not appear in the applicant’s witness statement.
54. As a result of these concerns and others with the franchise arrangements, Mr Hantke in his expert opinion described the scheme as a franchise without substance and said that the only financial benefit it provided to prospective franchisees was the tax savings from the initial year 1 franchise fee.
55. The Franchise Agreement provides that the franchisee is to receive “net receipts” generated by and to be paid to the franchisor from the use of the System by the accountancy firms. The franchisee accepts his share of “net receipts” according to the allocation of accountancy firms made to him.
56. These “net receipts” are to be reduced by a reasonable proportion of the franchisor’s expenses, allocated amongst franchisees. The franchise fee was for undefined services. Annual franchise financial statements provided to the franchisees contained no explanation of income and franchisor expenses figures given, how they were derived, from what activities or from whom.
57. The applicant did not take steps to ensure that the obligations he as franchisee had undertaken to the franchisor were met by the sub-franchisee, or to ensure the franchisor’s compliance with its obligations to provide an annual accounting. The financial statements provided to him contained no explanation of the income and franchisor expenses figures, or how income was derived and by any and what allocated accountancy firms. The applicant sought no information by which he could assess whether or how his franchise was being conducted, such as: -
57.1 schedules of subscribing accountant firms;
57.2 reports of the volume of transactions conducted in different periods; or
57.3 proper financial statements by which he could inform himself of:
57.3.1“the net receipts of all income received by the Franchisor from the utilization of the System by the accountancy firms”;
57.3.2“the Franchisor’s expenses incurred in providing the Franchisor’s Services”;
57.3.3“the basis upon which the relevant proportion of the same has been allocated to the Franchisee” – [ see Franchise Agreement, clause 15.4].
Other Witnesses - Experts
58. In the lead case the Tribunal had before it evidence from the following witnesses:-
Mr Neil Atchison
Mr Patrick Donaghey
Mr Bruce Sherlock
Mr Nigel Simpson
Mr Graham Speak
Mr Roger Clarke
Mr Tim Hantke
Mr Sean McGing
Mr Greg Meredith.
59. In the present case the applicant tendered the witnesses statements of the following witnesses who had been called by the lead case applicants. Those witness statements were supplemented by the respondent tendering the transcripts of the oral evidence given by these witnesses in the lead case hearing.
Mr Patrick Donaghey [Ex A7, A8, A9, A10 and R14]
Mr Bruce Sherlock [Ex A2 and R12]
Mr Nigel Simpson [Ex A5, A6 and R15]
Mr Graham Speak [Ex A3, A4 and R13].
60. In the present case the respondent tendered the witnesses statements and the transcripts of the oral evidence of the following expert witnesses whom the respondent had called in the lead case: -
Mr Roger Clarke [Ex R16, R17, R18 and R19]
Mr Tim Hantke [Ex R6 and R7]
Mr Sean McGing [Ex R3, R4 and R5]
Mr Greg Meredith [Ex R8, R9, R10 and R11].
61. In the lead cases the Tribunal summarised the evidence of these third party witnesses at [2007] AATA 1624; (2007) 69 ATR 678 at [57] and [60]- [78] as follows:-
“[60] Mr Donaghey's evidence is directed to: --
(a) the background to the Project;
(b) the projections and the franchise structure;
(c) his involvement with Satcom;
(d) the development of Satcom's financial services software;
(e) marketing of the product;
(f) reasons why the Project was not successful.
[61] Mr Clarke undertook an extensive review of the material produced by Mr Donaghey. On the basis of his analysis, Mr Clarke concluded that any software product that existed to support the franchisor's operations had very limited functionality and was unlikely to be adequate to ensure the viability of the business: see Clarke report pages 1 and 2 and [6.3], [6.5], [7.5] and [9.7].
[62] The Tribunal accepts Mr Clarke's carefully detailed analysis of the evidence. Mr Donaghey's evidence was restricted to assertions which were, as Mr Clarke's review demonstrates, not supported by the evidence. As the applicants bear the burden of proof, the onus was on them to produce any further evidence by which Mr Donaghey's assertions might be supported. No such evidence was produced.
[63] With regard to Mr Clarke's evidence the Tribunal further notes that: --
(a)he provided extensive evidence of what was to the Tribunal his obvious and relevant expertise;
(b)he precisely identified his instructions and the material relied upon in forming his opinions;
(c)he examined the evidence produced by Mr Donaghey by reference to a series of precise questions, giving an answer to each. In giving each answer, Mr Clarke precisely identified the material relied upon in arriving at it.
[64] Mr Donaghey made no attempt to provide any detailed response to Mr Clarke's analysis or point to contrary evidence.
[65] Mr Sherlock's evidence was directed to the reasonableness of the assumptions upon which the profit projections in the franchisor's BODD were based. His opinion was based on a complex series of assumptions which were not contained in the BODD. Mr Sherlock's opinion was also based upon his extensive experience as a highly successful insurance salesman, and on the assumption that "the sales team engaged in the Project were experienced in the accounting and personal risk management industry".[66] Mr Sherlock approached the question by starting with each year's sales projections in the BODD. From there, he calculated the amount of life insurance premiums that would need to be written to achieve the projections. Having done so, he concluded "the insurance premiums projected to be written and the commission income projected to be derived by each franchisee ... were in my view conservative and easily achievable based on my experience in the industry".
[67] Overall Mr Sherlock's evidence was not helpful to the Tribunal. The Tribunal notes that the applicants did not consider their investment on the basis of the set of assumptions provided to Mr Sherlock. Neither was there evidence provided either to Mr Sherlock or the Tribunal to support his assumption that the franchisor had in place any sales team or a sales team of the calibre Mr Sherlock assumed.
[68] Mr McGing is an actuary with 30 years' experience in the life insurance and wealth management industry with particular interest in information technology as it affects life insurance and wealth management.
[69] Like Mr Sherlock, Mr McGing evaluated the financial services business proposed to be operated by the franchisor using technology developed by it for that purpose. Mr McGing was asked to consider a series of questions directed to defining the nature of Satcom's financial services business and its viability. In essence, he concluded: " ... the likelihood of achieving and sustaining the required commission income to make the business viable was very low, given the restricted target client base for each franchisee and the difficulty in establishing and running a quality sales team".
[70] Mr Sherlock's evidence was, fundamentally, anecdotal, based upon his personal experience as a highly successful salesman. It was narrowly based upon what was, in essence, an arithmetical exercise.
[71] Mr McGing in contrast has extensive experience as an actuary studying business models in the financial services industry. His evidence was based upon a broad consideration of the factors affecting the viability of Satcom's proposed financial services business. For these reasons, the Tribunal attaches more weight to Mr McGing's evidence.
[72] Mr Simpson, a financial planner, gave his opinion of the commercial merits of an investment in the Project based on the content of the BODD. He calculated an internal rate of return on a before tax before finance basis as shown by the projected returns to franchisees over the life of the franchise. He considered the Project to be attractive to an investor based upon statements made in the BODD. He compared his calculated rate of return with the rate of return available from other investments, and included some material about geared funds and the risks inherent in the Project.
[73] In cross-examination, Mr Simpson stated that: --
·he had not listed the Project's tax effectiveness amongst the features which would make it attractive to an investor:
·by reason of the Project's tax effectiveness, the only risk to the prospective investor was that tax deductions would not be allowed.
[74] Mr Meredith, by his Further Witness Statement dated 31 July, 2006 and his Note dated 15 February, 2007 (exhibits R 6 and R 7) commented on the views expressed by Mr Simpson. He noted, inter alia, that "an appropriate comparative IRR ... should ... be considered on an after finance basis given the material impact on the return to investors ... of the availability of the non-recourse loan ... ". Mr Meredith concluded, at [37]-[38] of the Further Witness Statement:
In my opinion, based on the financial information detailed ... a potential investor would not be in a position to properly evaluate the future returns from an investment in the franchise from a profitability and risk perspective.
Accordingly from an investment decision perspective, as risk and return are inexorably linked, without being able to reasonably assess both of these factors from the information ... I am unable to form a view on the reasonableness of the returns projected ...
[75] Mr Simpson's evaluation of the commercial merits of the investment appears to be narrowly focused on the return indicated by the income projections, ie, he assesses profitability without assessing risk. Mr Meredith agrees with the calculated rate of return. However, he notes that the evaluation of the investment depends on risk as well as return. In the Tribunal's view it is clear that in the absence of appropriate information in the BODD, risk could not be adequately assessed.
[76] With respect to Mr Meredith's evidence, his Witness Statement dated 31 July, 2006 (exhibit R 5) contained an extensive analysis of the available accounts of the Satcom entities, the outcome of which was not challenged.
[77] Mr Speak's evidence was directed to the reasonableness of the franchise fee of $30,000. His evidence was based on the BODD. In his Witness Statement dated 22 January, 2007 (exhibit A7), he referred to the Franchise Agreement and Mr Donaghey's affidavit without identifying any part of those documents upon which he relied for the views expressed. Mr Speak's affidavit and witness statement expressed support for the reasonableness of the franchise fee. However, in cross-examination, he stated that he understood the BODD to be an introductory document designed to solicit interest. Those expressing interest would then conduct their own due diligence, as to the existence of the software and the like.
[78] Mr Hantke has extensive experience of franchising and business management. His evidence provided a comparison between the usual features to be found in a franchise and the features of the Satcom Financial Services franchises. In his view:
§"this was a franchise system without substance";
§the year 1 annual franchise fee, on the basis of the proposed franchisee income of $100 in year 1, was not reasonable;
§the year 1 Annual Franchise Fee was the equivalent of an "up front" Franchise Fee;
§"the franchise had financial merit to the applicants largely as a result of the tax deductibility of the year one annual franchise fees and expenses together with the favourable loan arrangements. The projected and actual earnings were modest and with growth options restricted (ie set number of clients per franchise territory) the financial benefit of this system largely revolved around the tax deductibility of the year 1 annual franchise fee”.”
62. In the present case the applicant chose to cross-examine on the expert evidence adduced by the respondent from Mr Roger Clarke, Mr Tim Hantke and Mr Sean McGing. In cross-examination these witnesses did not advance the case for the applicant. The evidence they gave was entirely consistent with the evidence they had provided in the lead case. All of them said the applicant’s witness statement did not give them cause to revise the opinion evidence they gave in the lead case.
Deductibility Under Section 51(1)
63. The Tribunal held in the lead case at [2007] AATA 1624; (2007) 69 ATR 678 that:
“[186] In this case the answer to the question whether or not each applicant was carrying on a business, depends on the evidence and an exhaustive survey of the facts and circumstances relating to each applicant …
[187] The Tribunal is of the view, as set out above, that:-
(a) the applicants have not established that they were carrying on any business; and, in any event
(b) the claimed deductions were outgoings of capital.”
The Tribunal then considered and at [197] found that the claimed deductions were not allowable under either limb of s 51(1) of the Act
64. The applicant has accepted in his opening written submission that the claimed deduction is not allowable under section 51(1) of the Act as the claimed deduction is an outgoing of capital. The applicant asserts that it is not necessary for the Tribunal to make a finding as to the position on the positive limbs of s 51(1).
65. The respondent contends, and the Tribunal agrees that the applicant’s evidence provides no basis for the Tribunal to reach a different finding to that reached in the lead case, namely that ( for the reasons there stated) the claimed deductions were not incurred for the purpose of gaining or producing assessable income.
66. The Tribunal is of the view that the occasion of the applicant’s outgoings was not the production of assessable income but rather the income tax deductions which reduced his tax payable for the 1995 income year to nil and also facilitated his participation in the scheme, as follows:
66.1The applicant’s tax savings after making the cash payments required of him, was a significant net cash surplus of $32,896 in the 1995 income year;
66.2he took up five franchises on 30 June 1995 aware of the assessable income he had derived from consultancy and aware that he could eliminate tax of $65,396 on $150,000 of that income by taking 5 franchises for the payment of $32,500 to Satcom.
67. The tax savings not only met the required cash contributions to Satcom but left a significant cash surplus from tax savings for the 1995 income year. By reason of the limited recourse nature of the loans, the applicant took and retained the benefit of the tax savings regardless of the outcome of his investment in the scheme.
68. While the applicant denies any participation in the Satcom scheme as a designer of the structure, the reasonable inference from the evidence is that he was operating as an advisor to Satcom, and apart from Mr O’ Connor QC who provided an opinion for inclusion in the BODD, was the only advisor with significant tax law knowledge and experience. He more than any other investor in the scheme was aware of the tax savings and of the limitations of the business model for the franchisees. Like the other participants the applicant may have been hoping for a commercial return from business conducted by the franchisor and the franchisee, but he expected no more than that he might derive income. There is no reliable evidence to support his claim that he had reason to anticipate with confidence that the profit projections would be realised and exceeded and in light of the other evidence referred to above the Tribunal does not accept his evidence in that regard.
69. In the terms used in Fletcher’s case (supra) having regard to the “contents and implications of the overall contractual arrangements”, the applicant’s outgoings make no business sense. They are more satisfactorily explained by the certain and immediate tax deductions and tax saving they secured for the applicant.
70. The tax advantages the investment offered, combined with the limited recourse loan meant that the investment was offered with no investment risk. The only risk was that the tax deductions which funded, or substantially funded, the investments might not be allowed.
71. As Mr Hantke concludes: “the franchise had financial merit to the applicants largely as a result of the tax deductibility of the year one annual franchise fees and expenses together with the favourable loan arrangements. The projected and actual earnings were modest and with growth options restricted (i.e. set number of clients per franchise territory) the financial benefit of this system largely revolved around the tax deductibility of the year 1 annual franchise fee”, [10.02]; and see [4.29], [8.03], [9.08], and [10.04]. Indeed, as the franchisor was lender of its own fees, the only rational explanation for the claimed outgoing was the amount of the tax deduction it secured relative to the applicant’s cash contributions.
72. Similarly, Mr McGing stated: “The tax relief related to the limited recourse loan based arrangement would appear to be a key support for the investment”, ([5.2], page 15) and [6.1] 5, page 23): “Easy availability of the limited recourse loan coupled with the expected tax relief … meant that for many franchisees the illustrative figures showed no after tax loss from the beginning of the franchise arrangement. … Hence, at this level, the viability of the business did not matter in terms of loss of capital. This is not the real world …”.
73. Further, the Tribunal finds that paragraphs 6 to 12 of the Applicant’s Closing Submissions (“applicant’s closing submissions”) are not an accurate statement of principle. At paragraph 9, the applicant relying on the outcome in Starr, is suggesting that the position in Starr and the position in the present case are similar. Moreover, the applicant is suggesting that the only relevant evidence is the applicant’s own evidence of his subjective purpose. That is plainly incorrect and contrary to the judgments in Starr.
74. Starr proceeded before the Tribunal only on the issue of additional tax by way of penalty and only on the interpretation of s 226L. Mr Starr was a participant in the Active Cattle Management project and the deductions claimed by participants in that project were disallowed in the Vincent case as capital outgoings under s 51(1) of the Act as the outgoings had been outlaid to acquire calves.
75. In the Tribunal Mr Starr filed a witness statement saying his purpose of investing in the Active Cattle Management project was to get the financial return. There was also a supporting affidavit from his advisor Mr Sleight, and there was no oral evidence. Before the Tribunal Mr Starr accepted that his outgoings in the project were on capital account, reflecting the decision reached by the Full Federal Court in Vincent and accordingly the decision in Vincent ultimately played no further part.
76. However in Vincent the Court had made statements about the application of Pt IVA which were influential in the Tribunal’s decision in Starr. The reasons for decision of the Tribunal in Starr and the reason French J did not return the matter to the Tribunal are explained in the following paragraphs from his Honour’s reasons for judgment in Starr:
“22 The Tribunal then considered whether the ACM breeding project was a tax avoidance scheme within the meaning of the definition of that term in s 224(2). It was conceded on behalf of the applicants that the project was a scheme within the meaning of Pt IVA and accordingly within the terms of s 177A of the ITAA. In the end the Tribunal’s decision about the application of the penalty under s 226L depended upon whether the "sole or dominant purpose" referred to in s 224(2) was to be assessed as a subjective purpose or an objective and, I interpolate, attributed, purpose.
23 The Tribunal observed that Pt IVA requires the purpose of a scheme to be assessed objectively. So much flows from the language of s 177D which applies when the taxpayer has obtained a tax benefit and "it would be concluded that the person or one of the persons who entered into or carried out the scheme ... did so for the purpose of enabling the relevant taxpayer to obtain a tax benefit in connection with the scheme". The Tribunal accepted the submission on behalf of the Commissioner that the language of s 224(2) indicated that an examination of the objective facts and circumstances surrounding the scheme was necessary and that this "tied in with the objective inquiry required in Pt IVA”.
24 The Tribunal found that the ACM scheme was a tax avoidance scheme in terms of
s 224(2) of the ITAA entered into or carried out with the sole or dominant purpose of enabling the participants and, in this case, the applicants, to pay no tax or less tax. Section 226L therefore applied. The applicants had not provided any evidence that their involvement in the ACM scheme was objectively different from the facts and circumstances ruled upon by the Federal Court in the case of Vincent [2002] FCAFC 291 (2002) 124 FCR 350. Accordingly, the Tribunal found the applicants had not "discharged their onus".…
54 It seems that in this case the Tribunal reached its conclusions about the relevant purpose upon the apparent assumption that the statements of the taxpayers, Messrs Starr and Hopkins, were irrelevant. In my opinion, however, there is no point in remitting these matters to the Tribunal as the evidence about the taxpayers’ actual purposes in entering the schemes was not contested by the Commissioner. In the circumstances, the decisions of the Tribunal will be set aside and the objections allowed. The parties will be given liberty to apply for any necessary consequential orders.
77. That is, of course, not the present case because here all of the evidence from the lead case, save for the evidence of the lead case applicants themselves, is in evidence before the Tribunal. That is a very different position from that which existed in Starr. Whilst the Court in Starr held that s 226L is concerned with actual subjective purpose (rather than an attributed objective purpose under Part IVA), this is not and for obvious reasons cannot be determined only by what the applicant says his purpose was. The statement at paragraph 9 of the applicant’s closing submission ignores not only the relevance of the objective factors but also the question of weight to be given to the objective and subjective evidence.
78. The relevance of all the objective evidence relating to the scheme as well as statements of the applicant was plainly recognised by what French J said in Starr at first instance as follows:
52 It is to be recalled that s 226L was a penalty provision. The fact of entry into a tax avoidance scheme was a necessary condition of the imposition of the penalty for which it provided. If the purpose of penalties is to secure compliance with the tax laws, they may ordinarily be expected to be concerned with the conduct and purposes of defaulting taxpayers. That is to say their actual conduct and actual purposes. It is difficult to see why if two constructions of s 224(2) be available that construction should be adopted which would permit the imposition of a penalty by reference to a purpose which the taxpayer never had. Of course, purpose could be assessed even under s 224(2) by reference to objective factors. It may also be that the statements of individual taxpayers about their purposes relevant to the imposition of penalty would be given little weight. But the relative weight and extent of subjective and objective evidence relevant to that determination will be an accident of the particular proceedings in which the question arises. In this case the evidence of the taxpayers and the advisors was unchallenged.
53 In my opinion, the Tribunal erred in law in excluding consideration of the stated purposes of Messrs Starr and Hopkins. Their statements were not contested. They were not inherently improbable. The Tribunal came to a contrary conclusion evidently based upon that reached by the Federal Court in Vincent [2002] FCAFC 291; 124 FCR 350 about the application of Pt IVA.
54 It seems that in this case the Tribunal reached its conclusions about the relevant purpose upon the apparent assumption that the statements of the taxpayers, Messrs Starr and Hopkins, were irrelevant. …”. [Underline added]
79. The Full Federal Court in Starr endorsed his Honour’s statements at first instance: see 124 FCR 442[31]-[32] and 448[65]-[67].
80. In the lead case, the Tribunal, following Starr, held that in determining the application of s 226L to the lead case applicants what was required was “consideration of the taxpayer’s purpose in entering into and carrying out the scheme: and is clearly not based solely on the evidence of the taxpayer” and went on to find “on the evidence as a whole” that s 226L(c) applied: see Faigenbaum and Commissioner of Taxation [2008] AATA 946 at [14].
81. The Tribunal does not agree with applicant’s assertion that the positive limbs of s 51(1) are "an irrelevant distraction”. The positive limbs of s 51(1) are clearly relevant, and the Tribunal, standing in the shoes of the respondent and applying the relevant provisions of the Act must give full consideration to the requirements of s 51(1) in determining the applicability of s 226L.
82. In applying the principle in Fletcher a taxpayer’s purpose is also determined on the evidence of subjective purpose and objective factors. Therefore, in considering s 51(1) in the context of whether there is a tax shortfall for the purposes of s 226L(a) and (b), it is clear that the principle in Fletcher is relevant here because there is a disproportion between the outgoing incurred and the assessable income to be produced. The relationship between outgoing and income is colourable by a non-income producing purpose of the taxpayer, and it is difficult to see how the Tribunal could not also find that this non-income producing purpose was the purpose of the taxpayer when looking at s 226L(c).
83. This was recognized in FCT v Faigenbaum by McKerracher J as follows:
“[24] By its grounds of appeal, the Commissioner contends that s 226L is applicable following the Tribunal’s findings in the application of s 51(1). Even though the Tribunal’s finding on s 51(1) precluded any necessity for the Tribunal to go on to consider the tax avoidance provisions of Pt IVA for the purpose of s 177F(1) nevertheless, for the purpose of considering a penalty, it became necessary for the Tribunal to consider s 226L. The question for the Tribunal was whether in all the circumstances, the imposition of the penalty under Pt VII was properly assessed in the case of each respondent. On the face of the matter, a strong indication that s 226L was applicable may be found in the Tribunal’s findings as to the purpose of each of the respondents in incurring the claimed deductions. But for this appeal, it is unnecessary to reach a firm conclusion on that point. It is sufficient to say that under s 226L(a) and (b), tax shortfalls arose from each respondent returning an income tax return for claimed deductions in relation to the franchise/s as allowable deductions under s 51(1) of the Act, which the Tribunal confirmed were not allowable as deductions under that subsection. Secondly, given the width of definition of a ‘scheme’ the franchise arrangements referred to in s 226L(b) and (c) of the franchise arrangements were likely to be a scheme for the purpose of Pt IVA and s 224(2).
[25] In Starr 164 FCR 436, the Full Court in confirming the decision of French J at first instance also held that the s 224(2) definition in s 226L(c) looks to the subjective purpose of the person/s who participated in a scheme (as defined in s 177A(1) of the Act). This subjective purpose test in the context of s 226L is to be contrasted with the well established objective test that must be undertaken in determining whether Pt IVA applies to a scheme (as defined in s 177A of the Act).
[26] As the material finding of the Tribunal was that the claimed deductions had been incurred by the respondents for the purpose of obtaining tax deductions, it would seem a short step to conclude that the franchise arrangement was a ‘scheme’ and a ‘tax avoidance scheme’ within the meaning of s 224(2) and carried out for the sole or dominant purpose of enabling each respondent to pay less tax by the claimed deductions. Again, it is not necessary to reach a conclusion on that point but on its face it would appear to be arguable and because of the circumstances of the hearing as described above, was not considered by the Tribunal.
[27] This argument would have been put by the Commissioner had the opportunity to do so arisen, yet it was unable to do so. As the argument on its face appears to have merit, on this ground alone, in my view, the matter should be remitted to the Tribunal for further consideration on this point.” [Underline added]
84. The applicant appears to be attempting to find a way around the difficulty the principle in Fletcher and the findings on deductibility in the lead case present for him, by now confining his concession to one that the claimed deduction was not deductible under s 51(1) because it was an outgoing of capital. He is attempting to quarantine from consideration the Tribunal's findings on the positive limbs of s 51(1) in the lead case.
85. The Tribunal notes however that up until a few days before the hearing (and in his objection beforehand) the applicant was actively contending, notwithstanding the findings about the scheme made by the Tribunal in the lead case, that in his circumstances all the limbs of s 51(1) were met, namely that he was carrying on a business for the purpose of gaining or producing assessable income, that the outgoings were incurred for the purpose of gaining or producing assessable income and that they were not outgoings of capital or of a capital nature.
86. The Tribunal takes the view that as all of its findings in relation to the scheme and the application of s 51(1) are no longer being challenged by the applicant, it may have regard to all of its findings on each of the limbs of s 51(1) as relevant objective facts in applying s 226L. The applicant cannot be allowed to artificially shut those factors out of a proper application of the relevant provisions of the Act by making his concession only on the basis of capital, and simply saying that "because I have conceded the outgoings are capital I no longer needed to assert that the positive limbs of s 51(1) were met".
87. While the Tribunal is making findings on the applicant’s subjective purpose under s 226L the Tribunal’s findings (already made in the lead case), that the scheme participants were not carrying on a business to gain income nor had incurred the outgoings to gain income are objective matters also relevant to that consideration of purpose.
88. Notwithstanding that these are relevant matters the applicant chose not to challenge them at the hearing.
89. The applicant’s closing submissions argue at length over the evidentiary rule in Jones v Dunkel. These technical arguments over a rule of evidence are a distraction for the Tribunal in the task of applying s 226L. They are also arguments not accepted by the Tribunal.
90. The Tribunal essentially has to decide two different things, i.e. whether to believe the applicant’s evidence and, if so, what weight to give to that evidence in light of all the other relevant evidence. As indicated earlier the Tribunal does not accept the applicant’s evidence as to his dominant purpose or motive in entering in to the scheme. But even if the Tribunal accepted the applicant’s evidence, the Tribunal needs to assess what weight the applicant’s evidence should be given in light of:-
90.1the objective factors arising from the whole of the evidence relating to the scheme; and
90.2the fact that the applicant has chosen not to challenge the Tribunal's findings about the application of s 51(1) to the scheme in the lead case.
91. The applicant was on notice that at the hearing the respondent would rely upon all the evidence in the lead case, including the evidence of the experts Messrs McGing, Clarke, Hantke and Meredith as to the substance of the scheme. In distinguishing his position from the lead case it was necessary for the applicant to establish that contrary to the evidence of these experts the franchises had substance and they offered participants more than the tax savings.
92. The applicant provided no evidence to the Tribunal that the profit projections in the BODS had substance. As in the lead case there was no evidence put before the Tribunal of the assumptions behind the profit projections, and the opinions of Messrs McGing, Clarke, Hantke and Meredith were unchanged.
93. In the opinion of the Tribunal the applicant’s real purpose in entering into and carrying out the scheme is revealed by the whole of the evidence including:
93.1 the applicant’s involvement in structuring and implementing the scheme and his understanding of how it worked;
93.2the fact that the applicant acquired 5 franchises on 30 June 1995 for a cash outlay of $32,500 immediately obtaining the claimed deduction of $150,000 which the applicant knew would offset the taxable income of $150,000 from his tax consultancy work, and place him in a “no tax payable” position, achieving tax savings of $65,396 for him for the 1995 income year;
93.3the fact that on considering the applicant’s evidence the opinions of Messrs McGing, Clarke, Hantke and Meredith that the profit projections were unsupported and overstated, the franchises were without substance and the only financial benefit they provided was the tax advantage, were unchanged;
Penalty
94. The respondent imposed penalty by way of additional tax pursuant to section 226L, at the rate of 50% of the amount of the tax shortfall arising from the claimed deduction. The Tribunal finds that this additional tax is not excessive because penalty was properly imposed under section 226L in light of the following:
95. The applicant has only put in issue paragraph (c) of s 226L and more particularly whether the scheme was “entered into or carried out for the sole or dominant purpose of enabling a person to pay no tax or less tax”. Consequently the remaining paragraphs of s 226L are not addressed as it is accepted by the applicant that he satisfies the remaining requirements of s 226L.
96. The second part of the s 224(2) tax avoidance scheme definition requires consideration of the taxpayer’s purpose in entering into or carrying out the scheme: Starr v Commissioner of Taxation; Hopkins v Commissioner of Taxation at [49]-[50] and is not based solely on the evidence of the taxpayer at [29], [38] and [52]; also see the reasons for judgment of the Full Federal Court on the appeal at [30]-[31], [66] and [65], [67] respectively. As noted above, based on the evidence as a whole the Tribunal found in the lead case (at [2007] AATA 1624; (2007) 69 ATR 678 [116], [191] and [197]) that the purpose of each lead applicant was to obtain the tax savings which permitted participation in the scheme without risk of loss. The applicant has not shown that his position is any different to this. It follows, for the purposes of section 226L(c) and in the words of the definition of tax avoidance scheme in section 224(2), that the scheme was entered into or carried out for the sole or dominant purpose of enabling this applicant to pay no tax or less tax.
97. As noted above the contention of the applicant that for the purposes of section 226L(c) and in the words of the definition of ‘tax avoidance scheme’ in section 224(2), his sole or dominant purpose of entering into the scheme was to obtain the projected returns from the scheme is not accepted by the Tribunal.
98. The Tribunal notes that it has been held, albeit in the context of Part IVA ITAA 36 that the pursuit of a commercial objective is not inconsistent with the existence of a dominant purpose of enabling the taxpayer to obtain a tax benefit, see for example: FCT v Spotless Services Ltd at 415, 416, FCT v Consolidated Press Holdings Ltd at [96] and FCT v Hart per Gleeson CJ and McHugh J at [16]-[18] per Gummow and Hayne JJ at [52], [68], [71]; per Callinan J at [93]-[96].
99. The Tribunal notes further that the applicant’s participation in and knowledge of the scheme extended beyond that of the lead case applicants. The applicant was substantially involved in structuring and implementing the scheme to achieve the claimed tax savings outcome for all participants. He derived substantial consulting fees from his work. On entering the scheme as a “franchisee” he was in the opinion of the Tribunal predominantly motivated by the desire to pay no tax or less tax on his consulting income for the 1995 income year, despite his assertions to the contrary.
Decision
100. The Tribunal finds that the Commissioner correctly applied penalty at the rate of 50% of the amount of the tax shortfall as the applicant met all the requirements of s 226L, and accordingly the objection decision should be affirmed.
I certify that the 100 preceding paragraphs are a true copy of the reasons for the decision herein of Mr A Sweidan, Senior Member
Signed: ..(sgd) T Freeman.....................
AssociateDate/s of Hearing 12 and 13 September 2011
Date of Final Submissions 10 October 2011
Date of Decision 27 October 2011
Counsel for the Applicant Mr J C Vaughan
Solicitor for the Applicant DLA Piper
Counsel for the Respondent Ms L B Price
Solicitor for the Respondent Australian Government Solicitor
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