Iddles v Commissioner of Taxation
[2007] FCA 395
•23 March 2007
FEDERAL COURT OF AUSTRALIA
Iddles v Commissioner of Taxation [2007] FCA 395
TAXATION – income tax – tax effective investment schemes – appeal by taxpayer from decision of Administrative Appeals Tribunal – where taxpayer invested in viticulture project – where scheme included round robin arrangement regarding management and licensing fees and loan – where taxpayer had discernable commercial purpose for entering into scheme – whether Tribunal member ignored relevant factors in finding that relevant person had a dominant purpose of obtaining tax benefit – whether Tribunal member failed to proper and genuine consideration to commercial benefits of scheme – consideration of factors in s 177D(b) of the Income Tax Assessment Act 1936 (Cth).
Held – dominant purpose to be ascertained exclusively by reference to s 177D(b)(i) to (viii) of the Act – subjective motivation of taxpayer not a relevant consideration – evidence of commercial purpose does not preclude finding of dominant purpose of obtaining a tax benefit – Tribunal member gave proper and genuine consideration to relevant matters regarding commercial benefits of scheme – no error of law in Tribunal’s approach – appeal dismissed.
Administrative Appeals Tribunal Act 1975 (Cth) s 44
Income Tax Assessment Act 1936 (Cth) Part IVA, s 51 s 177
Income Tax Assessment Act 1997 (Cth) s 8-1Calder v Federal Commissioner of Taxation (2005) 59 ATR 655 considered
Calder v Federal Commissioner of Taxation (2005) 61 ATR 267 applied
Commissioner of Taxation v Consolidated Press Holdings Ltd (2001) 207 CLR 235 considered
Commissioner of Taxation v Cooke (2004) 55 ATR 183 considered
Commissioner of Taxation v Hart (2004) 217 CLR 216 considered
Commissioner of Taxation v Spotless Services Ltd (1996) 186 CLR 404 considered
Commissioner of Taxation v Sleight (2004) 136 FCR 211 considered
Cooke v Federal Commissioner of Taxation (2002) 51 ATR 223 considered
Equuscorp Pty Ltd v Glengallan Investments Pty Ltd (2004) 218 CLR 471 cited
Peabody v Commissioner of Taxation (1993) 40 FCR 531 consideredNORM IDDLES v COMMISSIONER OF TAXATION
WAD 261 OF 2005BESANKO J
23 MARCH 2007
ADELAIDE (HEARD IN PERTH)
IN THE FEDERAL COURT OF AUSTRALIA
WESTERN AUSTRALIA DISTRICT REGISTRY
WAD 261 OF 2005
ON APPEAL FROM THE ADMINISTRATIVE APPEALS TRIBUNAL
BETWEEN:
NORM IDDLES
ApplicantAND:
COMMISSIONER OF TAXATION
Respondent
JUDGE:
BESANKO J
DATE OF ORDER:
23 MARCH 2007
WHERE MADE:
ADELAIDE (HEARD IN PERTH)
THE COURT ORDERS THAT:
1.The appeal be dismissed.
2.The applicant pay the respondent’s costs.
Note: Settlement and entry of orders is dealt with in Order 36 of the Federal Court Rules.
IN THE FEDERAL COURT OF AUSTRALIA
WESTERN AUSTRALIA DISTRICT REGISTRY
WAD 261 OF 2005
ON APPEAL FROM THE ADMINISTRATIVE APPEALS TRIBUNAL
BETWEEN:
NORM IDDLES
ApplicantAND:
COMMISSIONER OF TAXATION
Respondent
JUDGE:
BESANKO J
DATE:
23 MARCH 2007
PLACE:
ADELAIDE (HEARD IN PERTH)
REASONS FOR JUDGMENT
This is an appeal by Mr Norman Iddles against a decision of the Administrative Appeals Tribunal (Taxation Appeals Division) (‘the Tribunal’). The respondent to the appeal is the Commissioner of Taxation. The applicant’s appeal to this Court is limited to an appeal on a question of law: Administrative Appeals Tribunal Act 1975 (Cth) s 44(1).
The decision appealed against is the following order of the Tribunal.
‘The Tribunal sets aside the reviewable objection decisions of 19 April 2002 and remits these matters to the respondent for reconsideration in accordance with the direction that the respondent issue further amended assessments to income tax to the applicant that give effect to the Tribunal’s determination pursuant to s 177F of the Income Assessment Act 1936 (Cth) that the tax benefits obtained by the applicant in relation to his participation in the Austvin Vineyards 1997 project shall not be allowable deductions in calculating his taxable income to the extent of $15,000 in the income year ended 30 June 1997, $7,365 in the income year ended 30 June 1998 and $58 in the income year ended 30 June 1999.’
In August 2001 the applicant was issued with amended assessments to income tax for the years ended 30 June 1997 (‘1997 year’), 30 June 1998 (‘1998 year’) and 30 June 1999 (‘1999 year’) respectively. The respondent disallowed as deductions certain expenses incurred by the applicant in each of those years. I will refer to these as ‘the disputed expenses’. It disallowed a claimed deduction of $17,204 for the 1997 year, $12,765 for the 1998 year, and $6,058 for the 1999 year.
On 19 April 2002 the respondent disallowed the applicant’s objections to each of the amended assessments and the applicant then applied to the Tribunal for a review of those decisions of the respondent.
The Tribunal held that the disputed expenses were allowable deductions, but it also held that they were tax benefits to be cancelled in part under Part IVA of the Income Tax Assessment Act 1936 (‘the Act’).
The Tribunal’s approach differed from the respondent’s approach in this respect. The Tribunal found that the applicant had made certain cash outlays in the 1997 year ($2,204), 1998 year ($5,400) and the 1999 year ($6,000) respectively. The respondent had cancelled the whole of the tax benefits in the respective years: 1997 year ($17,204), 1998 year ($12,765) and 1998 year ($6,058). The Tribunal decided that this was inappropriate and, exercising the power in s 177F of the Act, it directed that the tax benefits be cancelled to the extent that they were not represented by cash outlays.
It was common ground before the Tribunal that there was a scheme and that the disputed expenses were tax benefits within Part IVA of the Act. The applicant’s principal contention on appeal was that the Tribunal member erred in law in concluding that by reason of the provisions of s 177D of the Act the scheme was one to which Part IVA applied.
The facts
The disputed expenses were incurred by the applicant in connection with a viticulture project known as the Austvin Vineyards 1997 project (‘the project’). The project was established in June 1997. The project involved investors known as ‘growers’ being offered a licence to cultivate, tend, manage and maintain grapes and vines on an area of vineyard, and to harvest and sell the grapes from these vines.
The relevant participants in the project, other than the growers, were as follows:
1. Austvin Vineyards Ltd – the manager.
2. Coldridge Development Pty Ltd – the landowner.
3. Inteq Custodians Ltd – the trustee.
4. Austvin Management Pty Ltd – the vineyard manager.
5. Austvin Finance Pty Ltd – the lender.
6. Australian Vintage Ltd – the grape purchaser.
The grape purchaser, Australian Vintage Ltd, controlled the landowner, the manager, the vineyard manager, and the lender.
A prospectus for the project was issued and on 21 April 1997 it was lodged with the Australian Securities Commission. It was registered by the Commission. The prospectus is dated 18 April 1997 and it expired on 30 June 1997. It provided that no applications could be received prior to 6 May 1997 and that no growers’ interests would be allotted or issued pursuant to any applications received after 27 June 1997.
The Tribunal member described the offer made in the prospectus in the following terms:
‘The prospectus offered passive participation in a wine grape vineyard business by licensing the vineyard to participants (“growers”) in vine plots of 0.2 of a hectare for fifteen years and cultivating the grapes on their behalf, in return for licence and management fees, and buying the grapes from the participants pursuant to the grape sales agreement. The offer included the option of a loan to finance the licence and management fees. One hundred and forty two hectares of vineyard was offered subject to a minimum aggregate subscription of seventy-one hectares. The minimum subscription for each participant was two vine plots or 0.4 of a hectare. The vineyard is located in the Riverland District of South Australia.’
In June 1997 the applicant was the Executive Vice President of the Toyota Motor Corporation in Australia. He was contemplating his retirement in the year 2000 when he turned sixty years of age and the likely fall in his disposable income. He was minded to make investments during the last three years of his employment with a view to such investments producing an income stream for his family and himself in his retirement. He was attracted to the project for a number of reasons, including the fact that he saw it as a growth industry, the proposed development of the vineyard appeared to be a state-of-the-art development and it involved a contract for the sale of grapes and was long term.
The prospectus included a letter from the chairman of the manager, and the letter contains the following statements:
‘The project provides an opportunity to enter into the exciting high growth Australian viticultural industry. The project is structured to include the option of a limited recourse loan which, if utilised, will enable entry to the project for a cash outflow of only $2,204 before 30 June 1997 whilst entrants should qualify for a tax deduction of $17, 204 for that year.
Participation in the project requires you to enter into a fifteen year licence and management agreement for a section of a state-of-the-art vineyard being developed in the Riverland District of South Australia. It also requires entry into a grape sales agreement to sell the produce from your vineyard interest to our parent company, Australian Vintage Ltd, which is one of Australia’s foremost wine producers.’
The prospectus contained, among other things, financial projections for a grower (‘the projections’), an independent viticultural expert’s report, and an independent taxation report dealing with the tax implications of the proposed arrangements. The applicant gave evidence before the Tribunal that he considered the financial projections in detail and what an investment in the project would mean for him in terms of a return over the life of the project. He gave evidence before the Tribunal that although taxation implications were a factor to be taken into account in the investment, he was more concerned to see whether the viticultural project was ‘a soundly based long term commercially viable project’.
The applicant decided to participate in the project. He completed an undated application form in which he applied for licence and management agreements for two 0.2 hectare vineplots pursuant to the project deed made on 1 April 1997 (as amended) between the manager and the trustee. By signing the application form, the applicant agreed that he was bound by the terms of the project deed. He directed the trustee to distribute the purchase price for grapes in terms of the project deed. He certified that, as he was accepting the loan offer, he had read the standard loan offer document included within the prospectus and that he understood that by making the interest payment he would be accepting the loan offer made, and would be bound by the terms of the loan offer document.
On 19 June 1997 the applicant executed a power of attorney whereby he appointed the trustee to be his attorney, and granted him certain powers including the power to execute the licence and management agreement and the grape sales agreement. On that day he sent the manager the completed application form, the power of attorney and a cheque for $1,000, payable to the trustee, for licence fees in respect of two vineplots. On the same day, he also accepted the loan offer by sending the manager a cheque payable to the lender in the amount of $1,204 ($602 for each vineplot) representing prepaid interest for the period to 30 June 1998.
It is convenient at this point to set out the important features of the licence and management agreement, the loan offer and the grape sales agreement.
The licence and management agreement
The licence and management agreement is dated 27 June 1997 and it is between the manager, as licensor, and the applicant, as grower. Under the agreement, the manager grants to the grower from 27 June 1997 to 28 June 2012 the non-exclusive right for the grower to enter onto two vineplots (numbers V10022, V10021) to cultivate, tend, manage and maintain the grapes (being the grapes harvested from the vineplots) and the vines (being the grapevines located on the vineplots) and carry out the services (as defined) and to harvest and sell the grapes. The schedule to the agreement provides that the number of vines contained in each vineplot is at least 264 per plot. Under the agreement, the grower appoints the licensor to be the manager to provide the services (as defined) and manage the grower’s interest comprised in the vineplots and the grower’s business for the term, being the period from 27 June 1997 to 28 June 2012, and the manager accepts the appointment. By the agreement, the manager is to have the day-to-day management and conduct of the grower’s business.
Under the agreement, the grower must pay a licence fee to the licensor. The fee must be paid on or before 30 June each year for the year in advance. The licence fee to be paid on or before 30 June 1997, 1998 and 1999 is $500. For 2000 and subsequent years, the licence fee is $500 per year as adjusted at the time that payment is due by the CPI for the movement of that index from 30 June 1997. The moneys may be paid by crossed ‘non-negotiable’ cheque made payable to the trustee on account of the project or bearer and sent to the registered address of the licensor.
Under the agreement, the grower is to preserve and maintain the vineplot in a proper and efficient state of cultivation in accordance with Australian Industry Standard Viticultural Practice as applied by the viticultural industry in South Australia, and immediately prior to 28 June 2012 the grower is to complete all work that would ordinarily or necessarily be required to be completed having regard to the time of year, to properly prepare the vineplot for the next vintage. The grower is not to assign or transfer his interest or grant any licence affecting the vineplot during the term of the agreement.
The manager is to be paid a management fee and the agreement provides that the fee is to be paid on or before 30 June of each year for the year in advance. The management fee for each vineplot is specified in Item 4 of the schedule to the licence and management agreement and is as follows:
‘Payable on or before 30 June of: Amount payable
1997 $7,500.00
1998 $5,000.00
1999 $1,436.00
For 2000 and subsequent years, the Management Fee payable is the amount of $1,436.00 per year as adjusted at the time that payment is due by the CPI for the movement of that index from 30 June 1997.’
Clause 13 of the agreement provides that nothing in the agreement will be construed as creating an association or partnership between the grower, the manager, the licensor or other growers or any two or more of them.
The loan offer
Under the loan offer the lender agrees that on behalf of the borrower he will pay all amounts due by the borrower to the licensor and the manager by way of licence and management fees less the $500 sum payable by the borrower for each vineplot on or before 30 June 1997 under the licence and management agreement. The lender also agrees to lend to the borrower the interest payable under the offer except for the sum of $602 for each vineplot, representing pre-paid interest for the period to 30 June 1998, on or before 30 June 1997.
The offer provides that so long as the primary instalment amounts are paid by the borrower, the liability of the borrower to pay the money payable is limited to payment of the primary instalment amounts. The primary instalment amounts and the dates upon which they are payable are set out in Item 2 of the schedule as follows:
‘PRIMARY INSTALMENTS AND PRIMARY INSTALMENT DATES:
Primary Instalment: due on before September of
1997
1998
1999
2000
2001
Primary Instalment amount $2,700 $3,000 $1,300 $1,000 $600 In addition, the Primary Instalment amount includes the proceeds from the sale of the grapes that are due up to 30 June of the year the Primary Instalment is due under the Grape Sales Agreement (or any other agreement by which the Borrower sells grapes grown in the Vineplot to a third party) and the proceeds from the sale of grapes that are due after 30 June and up to 30 September reduced according to the following formula where the formula produces a number greater than zero:
(grape sales proceeds* - Management and License Fees* - Interest*) x 48.5%
* as returned to the Australian Taxation Office for the financial year immediately preceding the date that the Primary Instalment is due.’
The grape sales agreement
The grape sales agreement is dated 27 June 1997 and is between the applicant as the grower and the grape purchaser as the buyer. Under the agreement, the grower agrees to sell to the buyer, and the buyer agrees to purchase from the grower in each vintage year all grapes that meet the grape quality standards set out in the agreement, and the buyer may in its absolute discretion purchase grapes that do not meet these standards. Clause 4 provides for the grape prices, and it is in the following terms:
‘The Buyer agrees to pay the Grower, for the Grapes purchased in each Vintage Year, a purchase price of:
(a)for Grapes harvested between 1 January 1998 and 31 December 2003, $747 per tonne adjusted for any increase in the CPI (from the CPI published for 30 June 1997 as published in or about late July 1997) to 30 June of the relevant Vintage Year (as published in or about late July of the relevant Vintage Year);
(b)for Grapes harvested subsequent to 31 December 2003 and until the end of the Term, the market rate discounted by 20%. The market rate is the rate applicable to the Vintage Year at the time the Grapes are delivered to the Buyer as determined by the South Australian Wine Grape Utilisation and Pricing Survey published in or about September of the relevant Vintage Year by the Department of Primary Industries of South Australia or if that publication is discontinued, a corresponding publication as determined by the Manager and advised to the Buyer and Grower.’
By clause 5 of the grape sales agreement, the buyer will pay the purchase price for the grapes and any interest payable thereon to the trustee to hold on behalf of and distribute to or at the direction of the growers in accordance with the terms of the project deed.
Grapes which do not meet the standards referred to in the grape sales agreement fall within the terms of clause 7.1(b) of the licence and management agreement which provides that the manager will harvest the grapes at its absolute discretion and will use its best endeavours to sell the grapes on terms that the manager reasonably considers are the best terms obtainable and will require the buyer or buyers to pay the purchase price for the grapes to the trustee to hold for and to distribute to the grower under the terms of the project deed.
The term of the grape sales agreement is from 27 June 1997 to 31 December 2012.
These then are the key features of the licence and management agreement, the loan offer and the grape sales agreement. The loan offer is accepted by a grower paying to the lender the sum of $602 per vineplot on or before 30 June 1997. As I have said, the applicant accepted the offer by paying to the lender the sum of $1,204, being prepaid interest for two vineplots and, in addition, he sent to the manager the completed application form, the power of attorney and a cheque for $1,000 payable to the trustee for licence fees in respect of two vineplots.
At that time, the total cash outlay by the applicant was $2,204.
It was common ground before the Tribunal that none of the agreements entered into by the applicant was a sham and that they were entered into with the intention that they bind the parties according to their terms and that they were implemented as such.
Under the project, 710 vineplots were licensed, and growers accepted the loan offer for licence and management fees in respect of 705 vine plots.
It was accepted before the Tribunal that the payment by the lender of licence and management fees borrowed by growers involved ‘round-robin’ arrangements. The Tribunal member found as follows:
‘On 27 June 1997 the amount of $5,287,500, representing the management fees under the licence and management agreement for 705 vine plots passed from the manager to the lender, from the lender to the trustee and from the trustee back to the manager (R7). These transactions originated in a loan of $5,287,500 from the manager to the lender (R7-T1/652). The ledger accounts for the manager and the lender show further loans to the lender of $3,525,000 in 1998 and $1,364,880 in 1999 (R7).’
The projections for growers contained in the prospectus were prepared on the following assumptions:
1.The yield in tonnes per hectare would be nil in 1998, 1 tonne in 1999 and 25 tonnes in 2003, and remain at that level until the conclusion of the 2012 grape season.
2. The typical grower will have a marginal tax rate of 48.5 per cent.
3.The interest rate charged on the loan from the lender will remain at 11 per cent throughout the term of the loan.
4.The consumer price index will increase by three per cent per annum over the term of the licence and management agreement.
5.The market price for grapes to be sold pursuant to the grape sales agreement with the grape purchaser will increase by 12 per cent per annum over the term of that agreement from a base price of $933.75 per tonne for 1997.
The projected returns on the above assumptions equated to an internal rate of 60 per cent where the limited recourse loan facility from the lender was utilised, providing a grower with two vineplots a projected total after-tax surplus cash flow over the life of the project of $70,488. Where the loan facility was not utilised, the projected internal rate of return was 17 per cent, providing a projected total after-tax surplus cash flow of $78,556. The risks and liability identified in the prospectus are agricultural risks, financial risks, managerial risks and tax risks.
In his 1997 income tax return, the applicant claimed as allowable deductions from his assessable income amounts totalling $17, 204 pursuant to the general provisions of s 51(1) of the Act. The amounts claimed were as follows:
1. licence fees of $1,000;
2. management fees of $15,000; and
3. pre-paid interest of $1,204.
In his 1998 income tax return, the applicant claimed as allowable deductions a sum totalling $12,765 under the general provisions of s 8-1 of the Income Tax Assessment Act 1997 (Cth) (‘the 1997 Act’). The amounts claimed were as follows:
1. licence fees of $1,000;
2. management fees of $10,000; and
3. pre-paid interest of $1,765.
In his 1999 income tax return the applicant claimed as allowable deductions a sum totalling $6,058 under the general provisions of s 8-1 of the 1997 Act. The amounts claimed were as follows:
1. licence fees of $1,000;
2. management fees of $2,872; and
3. prepaid interest of $2,186.
The applicant did not derive any income from the sale of grapes from his vineplots in 1997, 1998 or 1999 but has done so in the years following.
Issues before the Tribunal
The Tribunal member had to determine some issues which are not issues on the appeal. Before the Tribunal, the respondent submitted that the deductions claimed by the applicant were not proper deductions because the applicant was not conducting a business, they were capital outgoings incurred by the applicant as a passive investor in the manager’s business, and, in relation to the management fees for the first two years of the viticulture project, they were excessive and incurred in order to obtain the disputed deductions. The Tribunal member considered the provisions of s 51(1) of the Act in relation to the deductions claimed for the income year ended 30 June 1997 and the provisions of s 8-1 of the 1997 Act in relation to the deductions claimed for the income years ended 30 June 1998 and 30 June 1999 respectively.
The Tribunal member considered whether the applicant was carrying on a business from the vineplots since they were licensed to him on 27 June 1997. The Tribunal member referred to the fact that in June 1997 growers in the project obtained licences over an area of approximately 140 hectares of the Coldridge Vineyard known as ‘Coldridge North’. Each of them contracted with the manager to manage the area on their behalf in accordance with the licence and management agreement. Coldridge North is a small vineyard and the Coldridge Vineyard project located in the same area consists of approximately 327 hectares. A witness before the Tribunal gave evidence that he managed the whole vineyard, including the growers’ vineyard, using management procedures that are ‘reasonably common’. He gave evidence that the growers’ vineyard was an integral part of the Coldridge Vineyard project served by the same staff using the same plant and equipment and a single irrigation system. Seven varieties of grapes are grown across the viticulture project vineyard.
Another witness before the Tribunal member gave evidence that the cost of ownership and operation of a basic set of vineyard equipment, if purchased new and fully depreciated over four years, would typically require a minimum vineyard area of approximately 25 hectares.
The Tribunal member found that the applicant had been carrying on the business of growing and selling wine grapes since 19 June 1997 when he executed the documents and made the relevant payments. The Tribunal member said:
‘It follows from the Tribunal’s finding that the applicant is conducting a business of growing and selling wine grapes for the purpose of gaining or producing assessable income, that his proportionate share of the sale proceeds for the pooled grape harvests of the viticulture project constitute business profits in the applicant’s hands and not passive income from capital that consists of a beneficial interest or share in a business conducted by the manager. So the Tribunal finds that the disputed expenses, including the annual licence and management fees are not outgoings of capital for the purpose of s 51(1) or s 8-1(2)(a), to acquire an interest in a business conducted by the manager. The viticulture project involves the seasonal growing, harvesting and sale of wine grapes over a 15 year period pursuant to the rights and obligations contracted for by the applicant or the trustee on his behalf.’
The Tribunal member also considered the further and alternative submission by the respondent to the effect that the management fees paid by the applicant for the first two years of the viticulture project were excessive and were incurred in order to obtain the claimed deductions, and so tax savings, which funded the cash payments the applicant was required to make to the viticulture project. The Tribunal member noted that the applicant had derived assessable income from the sale of wine grapes in each year since 2000 and has been making a gross profit from his wine growing business before interest since 2001. He noted that if the viticulture project continues to perform according to prospectus forecasts the applicant will make a substantial profit from his business.
The Tribunal member said:
‘If one proceeds on the basis that the prepaid management fees in years 1 and 2 of the viticulture project, incurred by the applicant, were excessive for the services contracted for in those years, the question posed by the respondent’s submission is whether on that account they are to be characterised as non-deductible for the purpose of s 51(1) of the Act, or s 8-1 of the 1997 Act, because their relationship to the production of assessable income is colourable and they point to the applicant’s subjective pursuit of a tax deduction rather than assessable income; Fletcher and others v Commissioner of Taxation (1991) 173 CLR 1 at 18-19 reproduced at para 80 of these reasons. The Tribunal finds that the answer is no because although the disputed fees may have been disproportionate to the services they bought, they, together with the other expenses incurred by the applicant, were not disproportionate to the assessable income that was expected to flow to the applicant from the viticulture project. They were incurred by the applicant in genuine transactions at arm’s length in the course of his acceptance of the offer to participate in the viticulture project contained in the prospectus. In these circumstances the amount of the disputed fees and the applicant’s subjective motivation in relation to their income tax treatment are irrelevant to their characterisation for the purposes of s 51(1) of the Act or s 8-1 of the 1997 Act.’
The Tribunal member found that the deductions claimed by the applicant were allowable deductions pursuant to s 51(1) of the Act in relation to the 1997 year and general deductions under s 8-1 of the 1997 Act in relation to the 1998 year and 1999 year in calculating the applicant’s taxable income for the financial years ended 30 June 1997, 30 June 1998 and 30 June 1999 respectively.
None of the above matters are issues on the appeal.
The issue on the appeal relates to the application of Part IVA of the Act.
The Tribunal’s reasons with respect to Part IVA of the Act
The relevant provisions of Part IVA of the Act are as follows:
‘177A Interpretation
(1) In this Part, unless the contrary intention appears:
…
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.
taxpayer includes a taxpayer in the capacity of a trustee.
…
(3)The reference in the definition of scheme in subsection (1) to a scheme, plan, proposal, action, course of action or course of conduct shall be read as including a reference to a unilateral scheme, plan, proposal, action, course of action or course of conduct, as the case may be.
(4)A reference in this Part to the carrying out of a scheme by a person shall be read as including a reference to the carrying out of a scheme by a person together with another person or other persons.
(5)A reference in this Part to a scheme or a part of a scheme being entered into or carried out by a person for a particular purpose shall be read as including a reference to the scheme or the part of the scheme being entered into or carried out by the person for 2 or more purposes of which that particular purpose is the dominant purpose.
…
177C Tax benefits
(1)Subject to this section, a reference in this Part to the obtaining by a taxpayer of a tax benefit in connection with a scheme shall be read as a reference to:
(a)an amount not being included in the assessable income of the taxpayer of a year of income where that amount would have been included, or might reasonably be expected to have been included, in the assessable income of the taxpayer of that year of income if the scheme had not been entered into or carried out; or
(b)a deduction being allowable to the taxpayer in relation to a year of income where the whole or a part of that deduction would not have been allowable, or might reasonably be expected not to have been allowable, to the taxpayer in relation to that year of income if the scheme had not been entered into or carried out; or
(ba)a capital loss being incurred by the taxpayer during a year of income where the whole or a part of that capital loss would not have been, or might reasonably be expected not to have been, incurred by the taxpayer during the year of income if the scheme had not been entered into or carried out; or
(bb)a foreign tax credit being allowable to the taxpayer where the whole or a part of that foreign tax credit would not have been allowable, or might reasonably be expected not to have been allowable, to the taxpayer if the scheme had not been entered into or carried out;
and, for the purposes of this Part, the amount of the tax benefit shall be taken to be:
(c)in a case to which paragraph (a) applies—the amount referred to in that paragraph; and
(d)in a case to which paragraph (b) applies —the amount of the whole of the deduction or of the part of the deduction, as the case may be, referred to in that paragraph; and
…
177D Schemes to which Part applies
This Part applies to any scheme that has been or is entered into after 27 May 1981, and to any scheme that has been or is carried out or commenced to be carried out after that date (other than a scheme that was entered into on or before that date), whether the scheme has been or is entered into or carried out in Australia or outside Australia or partly in Australia and partly outside Australia, where:
(a)a taxpayer (in this section referred to as the relevant taxpayer) has obtained, or would but for section 177F obtain, a tax benefit in connection with the scheme; and
(b) having regard to:
(i)the manner in which the scheme was entered into or carried out;
(ii) the form and substance of 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 a business, family or other nature) between the relevant taxpayer and any person referred to in subparagraph (vi);
it would be concluded that the person, or one of the persons, who entered into or carried out the scheme or any part of the scheme did so for the purpose of enabling the relevant taxpayer to obtain a tax benefit in connection with the scheme or of enabling the relevant taxpayer and another taxpayer or other taxpayers each to obtain a tax benefit in connection with the scheme (whether or not that person who entered into or carried out the scheme or any part of the scheme is the relevant taxpayer or is the other taxpayer or one of the other taxpayers).
…
177F Cancellation of tax benefits etc.
(1)Where a tax benefit has been obtained, or would but for this section be obtained, by a taxpayer in connection with a scheme to which this Part applies, the Commissioner may:
(a)in the case of a tax benefit that is referable to an amount not being included in the assessable income of the taxpayer of a year of income—determine that the whole or a part of that amount shall be included in the assessable income of the taxpayer of that year of income; or
(b)in the case of a tax benefit that is referable to a deduction or a part of a deduction being allowable to the taxpayer in relation to a year of income—determine that the whole or a part of the deduction or of the part of the deduction, as the case may be, shall not be allowable to the taxpayer in relation to that year of income; or …’
There was no dispute before the Tribunal and the Tribunal member found that the making and implementation of the prospectus, the licence and management agreement, the loan agreement, the grape sale agreement and the project deed, by which the viticulture project was set up, constituted a scheme for the purposes of s 177A(1). I will refer to this as ‘the scheme’.
Before the Tribunal the respondent formulated two alternative schemes for the purposes of Part IVA which the applicant conceded were schemes for the purposes of Part IVA but denied that the disputed expenses were tax benefits in connection with the alternative schemes. It is not necessary to refer to these alternative schemes because the Tribunal member decided the matter by reference to the scheme described in [51] above.
There was no dispute before the Tribunal and the Tribunal member found that the disputed expenses were tax benefits obtained by the applicant in connection with the scheme for the purposes of s 177(C)(1)(b) and s 177(D)(a) of the Act.
Before the Tribunal, the respondent put an alternative submission, which was ultimately accepted by the Tribunal, to the effect that the tax benefits obtained in connection with the scheme might, in the proper exercise of the discretion under s 177F(1), be confined to the difference between the deductions claimed by the applicant and his cash outlays.
The Tribunal member commenced his reasons dealing with the application of Part IVA by making some general observations about the operation of s 177D(b) of the Act. He noted that the decision-maker under s 177D(b) was required to come to a conclusion as to the dominant purpose of the relevant party in entering into or carrying out the scheme and that he or she is required to do so solely by reference to the matters identified in s 177D(b)(i)-(viii) inclusive. Those matters do not include the relevant party’s subjective purpose or state of mind. He noted that that meant that there was no inconsistency between a finding that the purpose of a person lay in the pursuit of commercial gain in the course of carrying on a business and a finding that the dominant purpose was to enable the relevant taxpayer to obtain a tax benefit.
It is important to note one aspect of the structure of the reasons of the Tribunal member. He considered the rival contentions and matters of common ground in relation to each of the matters in s 177D(b). Later, he examined each of them again and set out his critical findings in relation to each matter. I will summarise his critical findings but his reasons must be read as a whole and his earlier discussion must not be overlooked.
The Tribunal found that as far as the grape producer and its professional advisers were concerned, the principal purpose of those persons was not to enable the applicant to obtain tax benefits. Various facts were indicative of the project’s commercial viability and a prevailing business purpose to obtain profits. The Tribunal member’s reasons focus on what he called the applicant’s ‘principal objective purpose’ in entering into the scheme having regard to the matters in s 177(b)(i)-(viii) inclusive.
The first matter the Tribunal member considered was the manner in which the scheme was entered into or carried out. He found that the applicant borrowed the relevant licence and management fees and interest cost of the loan save for an initial outlay of $2,204, and this was done in circumstances where the pre-payment of the licence and management fees by the lender on behalf of the applicant involved a ‘round-robin’ arrangement and the applicant’s liability under the loan offer was limited to the primary instalment amounts per vineplot. That meant, said the Tribunal member, that the lender recovered the balance of the loan from the proceeds of the sale of the applicant’s grapes and the applicant’s liability for the primary instalments was funded by the income tax saved by deducting the disputed expenses which it was accepted were tax benefits in connection with the scheme. The Tribunal member said that these facts objectively indicated a prevailing purpose on the applicant’s part to obtain tax benefits. He said that he did not think that this finding was ‘diminished’ by the fact that the applicant was a man of means, that he did not claim the relevant tax refunds at the earliest opportunity, that he participated in the project at the minimum level, that the promotional material did not over-emphasise the tax benefits, that the ‘round-robin’ arrangements were legally effective and that the limited recourse loan was a commercially sensible option for the applicant in his circumstances.
The second matter the Tribunal member considered was the form and substance of the scheme. He identified two areas where he said that there was a material difference between the form and substance of the scheme. First, although the genuineness of the relevant arrangements was uncontested, they related to extant vineplots which the evidence established were brought into existence some time after the contracts were made. Secondly, and, the Tribunal member said, more significantly, the formal arrangements by which the applicant conducted his business of growing wine grapes, including the limited recourse loan, had the practical effect of a passive investment which, but for the tax benefits, would ordinarily have been cast in a different legal form. The Tribunal member found that these distinctions between the form and substance of the scheme pointed to a prevailing purpose on the part of the applicant to obtain tax benefits.
The third matter the Tribunal member considered was the time at which the scheme was entered into and the length of the period during which the scheme was carried out. The Tribunal member found that the fact that the disputed expenses were incurred towards the end of the year preceding the commencement of the project indicated a purpose of obtaining tax benefits. He said no such inference could be drawn from the length of the period during which the scheme was to be carried out which he said pointed to a predominantly commercial purpose.
The fourth matter the Tribunal member considered was the result in relation to the operation of this Act that, but for this Part, would be achieved by the scheme. The Tribunal member said that in relation to this matter the applicant was entitled to the tax benefits that accrue from the income tax deductibility of the disputed expenses, a result that ‘unequivocally indicates a dominant purpose of obtaining those benefits which exceed his disbursements in respect of the viticulture project’.
The fifth matter the Tribunal member considered was 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. He said that the viticulture project was commercially viable and had been successful to the date of the hearing and that he had no reason to doubt that it will proceed to a successful conclusion in 2012. The Tribunal member said that it was implicit in the reasons for judgment of Nicholson J in Calder v Commissioner of Taxation 59 ATR 655 (‘Calder at first instance’) at [106] that the decision-maker must find whether, at the point of entry, the commercial benefits were certain or uncertain as against the certainty of the tax benefits incorporated in this scheme. The Tribunal member said:
‘Commercial benefits are seldom without risk and so absolutely certain. The viticulture project is managed as an extension of the grape purchaser’s wine growing operations and as such is not subject to risks of failure beyond those ordinarily associated with a vineyard business. On the other hand, according to the prospectus projections, the applicant would begin to derive after tax returns in 2007 ie after 10 years. This projection at the time of entry into the scheme would indicate a prevailing purpose on the part of the applicant to obtain the tax benefits.’
The sixth matter the Tribunal member considered was 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. The Tribunal member found that the connection which arose when the applicant entered into the scheme between the applicant and the grape producer, including the companies created to implement the scheme, was not a connection of the nature contemplated by s 177(b)(vi).
As far as the seventh and eighth matters in s 177D(b) were concerned, the Tribunal member found that there were no other consequences for the purposes of s 177D(b)(vii) or connections for the purposes of s 177D(b)(viii), and the fact that there were no such consequences or connections was neutral in applying the test in s 177D(b).
The Tribunal member then made the following findings and observations:
1.By participating in the project, the applicant was carrying on the business of growing wine grapes and he had a discernable commercial or business purpose in entering into the scheme to achieve the further purpose of providing for his retirement.
2.The findings in paragraph 1 do not decide the question whether, for the purposes of s 177D(b) of Part IVA of the Act, the applicant entered the scheme for the purpose of obtaining tax benefits. At the same time simply to show that the applicant obtained tax benefits does not show that Part IVA applies and the question always is whether the terms of the Act apply to the facts and circumstances of the particular case.
3.The question is whether the applicant entered into the scheme predominantly to obtain tax benefits based exclusively on the objective matters listed in s 177D(b)(i) to (viii) and without reference to the applicant’s subjective motives for entering into the scheme.
The Tribunal member then said:
‘The Tribunal considered each of the matters listed in s 177D(b) singly and collectively, in relation to the facts and circumstances of the scheme and the Tribunal finds that on the balance of probabilities arising in connection with the listed matters, the applicant entered into the scheme with the prevailing purpose of obtaining the tax benefits and so the Tribunal finds that Part IVA of the Act applies to the scheme.’
In the result, the Tribunal member decided that that part of each of the deductions which did not consist of a cash outlay shall not be allowable deductions. I have already referred to his reasoning and the order he made in [2] and [6] above.
Issues on the appeal
In his notice of appeal the applicant formulated what he contended were two questions of law raised on the appeal. The challenge raised by the second question of law formulated by the applicant is no longer pressed and it can be put to one side. Accordingly, the question of law said to be raised on the appeal is as follows:
‘Whether under section 177D(6) of the Income Tax Assessment Act 1936 (“the ITAA”) the dominant purpose of the applicant in investing in the Austvin scheme (grape growing and vineyard) was to obtain a tax benefit.’
The above does not state a question of law raised on the appeal. It is simply a statement of a question the Tribunal member was required by the relevant statute to determine. The Tribunal member decided the question adversely to the applicant, but simply to restate the question is not to state a question of law raised on the appeal.
The questions of law said by the applicant to be raised on the appeal are to be gleaned from the grounds of appeal and the oral and written submissions of the applicant. I summarise the main submissions made by the applicant. First, it is submitted by the applicant that the Tribunal member failed to take into account as relevant considerations the fact that the applicant was a man of means, he had a longstanding interest in the viticultural industry and he invested in the project at the minimum level. Secondly, it is submitted by the applicant that the Tribunal member erred in law in holding that the six matters he identified (see [58] above) did not negate or ‘diminish’ his conclusion that the dominant purpose was to obtain tax benefits in connection with the scheme. Thirdly, it is submitted by the applicant that the Tribunal member erred in concluding that according to the projections the applicant would not begin to derive after-tax returns until after ten years and that led him not to give proper and genuine consideration to the commercial benefits to be derived by the applicant from the scheme. Fourthly, it is submitted by the applicant that irrespective of the fate of the previous submission, the Tribunal member did not give proper and genuine consideration to the commercial benefits to be derived from the scheme and, in particular, the fact that the prospectus forecast healthy commercial returns.
There were some other points raised by the applicant which I will deal with in the course of dealing with his submissions.
Before considering these submissions in the context of each of the matters in s 177D(b), it is appropriate to make some general observations.
Section 177D(b) requires the decision-maker to consider the eight matters referred to in the paragraph, and those matters alone, and to decide on the balance of probabilities if a certain conclusion would be drawn: Peabody v Commissioner of Taxation (1993) 40 FCR 531 (‘Peabody’) at 541 per Hill J (Ryan and Cooper JJ concurring); Calder v Federal Commissioner of Taxation (2005) 61 ATR 267 (‘Calder’) at 290 [91]. The conclusion to be drawn is, in this case, as to the relevant taxpayer’s purpose and by reason of s 177A(5) that means his or her dominant purpose. A relevant taxpayer may have more than one purpose and one of his or her purposes may be to obtain commercial benefits. However, if, having regard to the matters in s 177D(b), his or her dominant purpose is to obtain a tax benefit in connection with the scheme, then Part IVA applies even if one of the relevant taxpayer’s other purposes is to obtain commercial benefits: Commissioner of Taxation v Spotless Services Ltd (1996) 186 CLR 404 (‘Spotless’) at 415-416; Commissioner of Taxation v Hart (2004) 217 CLR 216 (‘Hart’) at 227 [16] per Gleeson CJ and McHugh J; Commissioner of Taxation v Sleight (2004) 136 FCR 211 (‘Sleight’) at 229-230 [67] and 238-239 [113] per Hill J (with whom Hely J agreed); Calder at 291 [92]) . The question is to be determined objectively in the sense that the question is not as to the relevant taxpayer’s subjective intention and purpose: Spotless at 421-422, 424; Hart at 233 [37], 243 [65] per Gummow and Hayne JJ; Peabody at 542; Calder at 291-292 [96]. What these propositions mean in this case is that the applicant’s subjective purpose in entering into the scheme, even if a commercial one, is not of itself relevant. Furthermore, a decision-maker may conclude, after having regard to the matters in s 177D(b), that the applicant had a commercial purpose in entering into the scheme but that will not assist him if it is otherwise concluded that his dominant purpose in entering into the scheme was to obtain a tax benefit in connection with the scheme.
The authorities establish that in relation to the matters in s 177D(b) in any particular case one matter may be decisive and in another case it may only be after a careful weighing of all matters that a conclusion can be drawn. Furthermore, some factors may be neutral, others may point towards a commercial purpose but the conclusion drawn from a consideration of all matters may support a conclusion of a dominant purpose to obtain tax benefits in connection with the scheme (Sleight at 229-230 [67]; Calder at 290 [91]).
Section 177D(b)(i) – the manner in which the scheme was entered into or carried out
In [58] above I have identified the Tribunal member’s conclusion with respect to this matter and the fact that he said the six matters he identified did not ‘diminish’ the finding that the applicant’s prevailing purpose was to obtain tax benefits in connection with the scheme. The applicant submits the Tribunal member should have found that the six matters negated a finding of a prevailing purpose of obtaining tax benefits, or at the least diminished it.
It is important to appreciate the reasoning of the Tribunal member. He identified features relevant to the manner in which the scheme was entered into or carried out. He decided, after considering those features, that a conclusion of a dominant purpose of obtaining tax benefits should be drawn. With respect, the Tribunal member’s use of the word ‘diminished’ is not entirely felicitous, but I think, reading his reasons as a whole, it is clear what he meant. I do not think he was saying the six matters should not be considered or should not be weighed in the balance. In my opinion, all the Tribunal member was saying was that weighing them in the balance they did not dissuade him from reaching the conclusion that, in relation to the manner in which the scheme was entered into or carried out, the applicant’s prevailing purpose was to obtain tax benefits in connection with the scheme.
I reject the submission that the Tribunal member should have concluded that the six matters negated a conclusion of a dominant purpose of obtaining tax benefits.
Three of the matters were undoubtedly matters to be taken into account, namely, the fact that the applicant did not claim the relevant tax benefits at the earliest opportunity, the fact that the prospectus did not overemphasise the tax benefits, and the fact that the limited recourse loan was a commercially sensible option for the applicant.
As to the fact that the applicant did not claim the relevant tax refunds at the earliest opportunity, the background to this matter is as follows:
1.The applicant paid $1,204 to the lender on 19 June 1997 and $5,400 to the lender in late September 1997.
2.The applicant paid tax on his income for the year of income ended 30 June 1997 of $99,975.40.
3.The applicant lodged his taxation return on 6 April 1998 and received a refund of $9,174.84 on 9 April 1998.
The applicant submitted that the fact that he did not rely on the refund to finance his cash payments to the scheme detracted from a finding of a dominant tax purpose. A matter of a similar nature was considered by the Full Court in Calder at 293 [106]-[107]:
‘The timing and quantity of payments made by an investor and the relationship between those payments and tax refunds may be matters of objective fact which could be taken into account in assessing dominant purpose. They are made relevant to that consideration by the broad terms of the criterion in s 177D(b)(i).
It should be noted, however, that his Honour did not find these matters incapable of supporting an objective inference. He found that they did not objectively support such an inference. The fact that they might support an inference that Mr Calder was seeking commercial returns does not, on the authorities previously discussed, exclude the possibility that they would be neutral in relation to the question whether there was a dominant purpose of seeking a tax benefit.’
As to the fact that the prospectus did not over-emphasise tax benefits, the applicant submitted, correctly in my view, that the prospectus contained substantial agricultural and commercial information, including income projections and a report from an independent viticulture consultant. He also submitted that, by law, the promoters of a scheme were required to provide in a prospectus information as to the tax benefits available by way of allowable deductions under the Act. A report dealing with the tax implications of the project and an investigating accountant’s report meeting the reporting requirements were therefore included in the prospectus. A matter of a similar nature was considered by the Full Court in Calder at 294 [111]:
‘There is no doubt that the emphasis in the prospectus on the commercial aspects of the project would support an inference that, viewed objectively, a person investing in the project in response to the prospectus would be doing so for a commercial purpose. But, as has already been noted, a commercial purpose may be entirely consistent with the existence of a dominant purpose of securing a tax benefit. The latter not being indicated from the prospectus, it would seem that it was, in that sense, that his Honour regarded the prospectus as neutral. He cannot be said to have erred in that conclusion.’
As to the fact that the applicant was a man of means, this may be considered with the fact that he participated in the project at the minimum level. Both of these matters are matters the Tribunal member took into account. On no view are they strong enough to outweigh the conclusion reached by the Tribunal member that the prevailing purpose was the obtaining of tax benefits. The applicant also referred to the fact that he had a longstanding interest in the viticulture industry and that he carefully considered the forecast commercial benefits of the scheme before taking up the offer. These are not matters specifically referred to by the Tribunal member when setting out his conclusions in relation to the manner in which the scheme was entered into or carried out. He did refer to the latter when summarising the evidence which the applicant gave.
Both matters are matters of fact and are not in themselves matters of subjective purpose or intent. However, in my opinion, they are not matters which fall within any of the eight matters in s 177D(b) and the Tribunal member was not bound to take them into account.
As to the fact that the round-robin arrangements were legally effective, the applicant’s submission as it was developed was that the round-robin arrangements were irrelevant to purpose because the applicant was unaware of the arrangements or, in the alternative, if relevant, they did not support a conclusion of a dominant purpose of obtaining tax benefits.
The round-robin arrangements were the arrangements whereby the manager lent money, being the management fees for 705 Vineplots, to the lender who, on behalf of the growers paid it to the trustee who then paid it to the manager. This occurred in late June 1997 and then in each of the two following years.
There is no doubt that, as the Tribunal member found, the round-robin arrangements were legally effective: Equuscorp Pty Ltd v Glengallan Investments Pty Ltd (2004) 218 CLR 471 at 486-487 [46]-[47]. The applicant gave evidence that he was not aware of the round-robin arrangements, but the Tribunal member did not make a finding as to whether the applicant was or was not aware of the arrangements. He referred to the applicant’s evidence without disapproval and it is appropriate for me to proceed on the basis that the applicant was not aware of the arrangements.
In Commissioner of Taxation v Consolidated Press Holdings Ltd (2001) 207 CLR 235 the High Court said (at 264 [95]):
‘The finding made by Hill J, set out above, was criticised both in the Full Court and in this Court on the ground that, as the case was particularised by the Commissioner, the persons who entered into or carried out the scheme were CPIL(UK), MLG and ACP. They were the persons referred to in s 177D; not some unidentified advisors. There is no point in making a finding about what would be concluded concerning the purpose of an advisor unless that purpose is then attributed to a relevant person. It is reasonably clear that, albeit in a slightly elliptical fashion, Hill J was doing that. He was justified in doing so. As was mentioned above, it is to be expected that those who participate in a complex, international, commercial transaction will be concerned about its tax implications, and will seek expert advice. Attributing the purpose of a professional advisor to one or more of the corporate parties in the present case is both possible and appropriate. In some cases, the actual parties to a scheme subjectively may not have any purpose, independent of that of a professional advisor, in relation to the scheme or part of the scheme, but that does not defeat the operation of s 177D. If, in the present case, there had been evidence which showed that no director or employee of any member of the Group had ever heard of s 79D, that would not conclude the matter in favour of the taxpayer. One of the reasons for making s 177D turn upon the objective matters listed in the section, it may be inferred, was to avoid the consequence that the operation of Pt IVA depends upon the fiscal awareness of a taxpayer.’
The applicant referred to the decision of Stone J in Cooke v Federal Commissioner of Taxation (2002) 51 ATR 223 and submitted that arrangements of which the taxpayer is unaware are not part of the scheme for the purposes of s 177D(b) and therefore should not be considered when addressing the matters in s 177D(b). However, on appeal in Commissioner of Taxation v Cooke (2004) 55 ATR 183 the Full Court of this Court did not agree. The Court said (at 216 [88]):
‘The primary judge found that the evidence of the respondents was to the effect that at the time of making their respective investments, they knew nothing about the transactions identified in the emphasized passage in the preceding paragraph. Upon that footing, her Honour accepted the submission of the respondents that those transactions could not be part of any scheme, and purported to apply the dictum of Blanshard J of the New Zealand Court of Appeal in Commissioner of Inland Revenue v BNZ Investments Limited (2001) 20 NZTC 17 at [103] to the effect that a taxpayer’s ignorance of the arrangements the subject of an income tax avoidance scheme renders the New Zealand anti-avoidance legislation unavailable to the New Zealand revenue authority. However as was pointed out in Howland-Rose at [134], Part IVA of the Tax Act is distinguishable from the New Zealand legislation in that regard. Thus in Federal Commissioner of Taxation v Consolidated Press Holdings Ltd (2001) 207 CLR 235, in the joint judgment of Gleeson CJ, Gaudron, Gummow, Hayne and Callinan JJ at [95], it was pointed out that “[o]ne of the reasons for making s 177D turn upon the objective matters listed in the section, it may be inferred, was to avoid the consequence that the operation of Part IVA depends upon the fiscal awareness of a taxpayer”.’
In Calder at first instance Nicholson J found that the round-robin arrangements between the promoter companies of which the taxpayer was unaware, ‘mildly’ supported a tax benefit purpose. On appeal to the Full Court of this Court, the taxpayer submitted that the round-robin arrangements should have been ignored because the taxpayer was not aware of them. That argument was rejected by the Court (Calder) which said (at 294-295 [113]-[115]):
‘It is important to bear in mind that in considering the round-robin transaction his Honour was considering, having regard to the manner in which the scheme was entered into or carried out (alone or in combination with other factors mentioned in s 177D) it would be concluded that the taxpayer entered the scheme for the purpose of obtaining a tax benefit in connection with it. The subjective purpose of the taxpayer and, indeed, the taxpayer’s awareness of the relevant provisions of the law, his fiscal awareness, are not material to determining the question of purpose. The issue that arises is whether the way in which the entities associated with the promoters of the scheme deal with their funds may be relevant to determining the taxpayer’s purpose.
The broad formulation of the factors in s 177D(b) particularly paras (i) and (ii) clearly encompasses matters of which a taxpayer may be quite unaware. So a taxpayer may execute the relevant application form and agreements without reading them. That does not mean that the taxpayer is taken to be unaware of them and that the contents of the agreements are to be disregarded in assessing purpose under s 177D. It would be open to a taxpayer to make inquiry as to how the funds which the taxpayer is contributing will be dealt with as between, for example, lender and manager. That is an inquiry which the taxpayer would be entitled to make having regard to the liability that he or she has assumed to pay the manager’s fees. The absence of such inquiry and lack of awareness of the way in which the funds were actually processed does not mean that those factors are to be disregarded in the objective assessment of purpose under s 177D any more than the unread details of the contracts which constitute the framework of the scheme.
The ground of appeal in this case turned entirely upon Mr Calder’s ignorance of the round-robin arrangement that was said to exist between lender and manager. That lack of awareness being irrelevant to his Honour’s proper consideration of this aspect of the execution of the scheme, this ground must fail.’
The Tribunal member was entitled to have regard to the round-robin arrangements in concluding that the applicant’s prevailing purpose was to obtain tax benefits. The weight he placed on the matter is unclear but ultimately that was a matter for him, and the applicant’s case is not advanced by referring to another case where a Judge said that he was not inclined to place a great deal of weight on the round-robin arrangements Sleight at 232 [77] per Hill J).
The Tribunal member did not err in law in his approach to the manner in which the scheme was entered into or carried out, and the conclusions he reached in relation to that matter were reasonably open to him.
Section 177D(b)(ii) – the form and substance of the scheme
The Tribunal member said that the form of the scheme was one whereby the applicant conducted a business of growing wine grapes and using a limited recourse loan, whereas the substance of the scheme was a passive investment which, but for the tax benefits, would ordinarily have been cast in a different form. He said that that difference pointed to a prevailing purpose on the part of the applicant to obtain tax benefits.
The applicant criticised this reasoning on two grounds. First, he submitted that the Tribunal member’s finding, that the practical effect of the scheme from the applicant’s point of view was that of a passive investment, was inconsistent with his earlier findings in connection with the question of whether the expenses were necessarily incurred in carrying on a business for the purpose of gaining or producing income or losses of capital or of a capital nature. In that context, the Tribunal member found that the applicant was, through a manager, conducting a business of growing and selling grapes from the vineplots licensed to him and the expenses were not outgoings of capital. Secondly, the applicant submitted that there was no basis upon which the Tribunal member could conclude that, but for the tax benefits, the passive investment would ordinarily have been cast in a different form.
I reject both these submissions. I start with the alleged inconsistency of findings. The findings to the effect that the applicant was conducting a business and the expenses were not losses of capital, or of a capital nature, were made in the context of the issues raised under s 51(1) of the Act and section 8-1 of the 1997 Act. The context in which s 177D(b)(ii) operates is quite different. The reference to the substance of the scheme in that paragraph enables the decision-maker to examine what, in practical terms, the applicant was required to do. The answer to that question is that he was required to do no more than what would be required of a passive investor. As to the other criticism, it was open to the Tribunal member to conclude that ordinarily, but for the tax benefits, the investment by the applicant would have been cast in a different form.
The approach taken by the Tribunal member in relation to this matter was consistent with the approach taken in decisions of this Court. In Sleight, Hill J said (at 233 [81]- [82]):
‘There is a difference between the form and the substance of the present scheme. In form there is an option whether to farm alone or to employ the management company. There is a management agreement and financing and interest payments. The form, involving prepayment of management fee and interest is, it may be concluded readily, designed to increase the taxation deductions available to an investor. The substance is, however, quite different. As senior counsel for the Commissioner put it, in substance the investor is a mere passive investor in what, once the tax features are removed, is a managed fund where no deduction would be available, or perhaps an alternative characterisation of the substance of the scheme is an investment in shares in the Land Company which at the expiration of 15 years is to own the tea tree plantation.
With respect to the learned primary judge it is not correct to say that form and substance are the same. Rather the particular shape the investment took was clearly fashioned in a way that would maximise the tax deductions. They were geared up by the loan agreement with up front interest payments. But for the tax deductions the form the investment might be expected to take would clearly relate more to the substance of what happened. Rather than a loan with prepaid interest where the loan was to be repaid out of the investor's profit share without recourse (achieved through the indemnity agreement) the substance is that the investor was to receive only a lesser share of profit over the term of the loan agreement. The loan allowed, also, the prepayment of the management fee and the deduction which emanated from that.’
I refer also to the Full Court’s decision in Calder (at 295-296 [116]-[118]).Section 177D(b)(iii) – the time at which the scheme was entered into and the length of the period during which the scheme was carried out
I did not understand the applicant to challenge the Tribunal member’s conclusions in relation to this matter.
Section 177D(b)(iv) – the results in relation to the operation of this Act, that but for this Part, would be achieved by the scheme.
The applicant did not challenge the Tribunal member’s conclusion that, but for Part IVA, the effect of the scheme was that tax benefits would accrue from the income tax deductibility of the expenses. He did challenge the Tribunal member’s conclusion that that result ‘unequivocally indicates a dominant purpose of obtaining those benefits which exceed his disbursements in respect of the project’.
In this context, the applicant referred to the decision of the High Court in Hart in which Gummow and Hayne JJ said (at 240 [53]):
‘The bare fact that a taxpayer pays less tax, if one form of transaction rather than another is made, does not demonstrate that Pt IVA applies. Simply to show that a taxpayer has obtained a tax benefit does not show that Pt IVA applies. With these considerations in mind, it is sometimes said that it is necessary to read Pt IVA in a way that will not bring “ordinary” transactions to tax. It is obvious that the content of such a proposition turns entirely upon what is meant by “ordinary”.’
The applicant’s criticism of the Tribunal member’s reasoning is misconceived. The Tribunal member was addressing one of the eight matters in s 177D(b) and the conclusion he drew that, but for Part IVA, the applicant would enjoy tax benefits by way of the income tax deductibility of the expenses was undoubtedly correct. He said that that supported the conclusion that the applicant’s prevailing purpose was to obtain tax benefits in connection with the scheme, but he did not say that it was decisive. There is no error in that approach.
Section 177D(b)(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.
The Tribunal member found that the project was commercially viable, had been successful and that there was no reason to doubt that it would be successful to its conclusion. The income received by the applicant from the project to the date of the hearing before the Tribunal had exceeded $31,000 and was within 2.5 per cent of prospectus forecasts after seven years. The Tribunal member found that if the project continued to perform according to prospectus forecasts, the applicant will make a substantial profit from his business.
The Tribunal member said that the matter must be considered as at the date the scheme was entered into and he referred to the reasons of Carr J in Sleight at 255-256 [223]-[224]. The applicant did not take issue with that approach.
The applicant’s first submission in relation to the Tribunal member’s reasons in relation to this matter was that he had made an error in concluding that, according to the projections, the applicant would begin to derive after tax returns in 2007, that is, after 10 years. The applicant submitted that this was wrong and that the projections indicated after tax-returns after six years. As I understand the projections, the applicant is right in the sense that after about six years there are after-tax returns before repayments of the loan are taken into account. If repayments of the loan are taken into account there are only after-tax returns after 10 years.
I have no doubt that the Tribunal member did not misunderstand the effect of the projections. Earlier in his reasons he summarised the position accurately as follows:
‘Moreover, until 2007, tax savings were, in substance, the only source of returns to the participant as follows:
(a)From 1997-2001, the participant’s returns were the result of tax savings which more than covered the cash payments required of him pursuant to the loan;
(b)From 2003-2006, the project was expected to generate revenue of its own. However, in those years, the structure of the loan resulted in neutral cashflows to the participant who, after meeting his loan obligations was to be paid enough only to meet anticipated tax obligations.
(c)Only in the latter years of the project, 2007-2012, when the loan was paid off, was the project expected to be cashflow positive to the participant by reason of revenue received from the proceeds of the project itself.’
A little later, the Tribunal member said:‘From 2003 to 2006, the applicant was to have no net cashflow owing to loan commitments and taxation liabilities. Only 10 years after the project commenced, in 2007, was the applicant first to obtain after-tax returns from the vineyard.’
Leaving aside for the moment that the error, if it be an error, would be an error of fact and not of law, the Tribunal member, whatever terminology he used later in his reasons, clearly understood the correct position. The fact is that the applicant took up the loan offer and, taking into account repayments of the loan, it would only be after 10 years that the project would be cashflow positive by reason of revenue received from the project itself.
The applicant’s second submission is that the Tribunal member erred in relying on the reasons for judgment of Nicholson J in Calder at first instance for the proposition that a decision-maker must weigh the certainty of tax benefits against the certainty or uncertainty of commercial benefits.
The applicant submitted that that proposition was not embraced by Nicholson J in Calder at first instance. In one sense that is not the question because, if it is a correct proposition, whether it was embraced by a Judge in one case is not to the point. As it happens, I think Nicholson J did embrace it by implication in Calder at first instance and, properly understood, it is clearly an appropriate matter for the decision-maker to consider.
The applicant seemed to suggest that the Tribunal member was saying that once a conclusion was drawn that commercial benefits were uncertain, a conclusion that the prevailing purpose was obtaining tax benefits must follow. The Tribunal member was not saying that. He said a decision-maker was entitled to consider the certainty of tax benefits and the certainty or uncertainty of commercial benefits and that was not an impermissible approach. I do not see any error in the approach of the Tribunal member. The tax benefits are certain or almost certain and it is not erroneous to consider as against that the certainty or uncertainty of commercial benefits.
The applicant’s third submission was that the Tribunal member failed to give proper and genuine consideration to the commercial benefits associated with the scheme. In particular, he emphasised that the internal rate of return utilising the loan offer was 60 per cent and not utilising the loan offer was 17 per cent. The Tribunal member was alive to the commercial benefits associated with the scheme, including the projected rate of return. It seems to me that the Tribunal member weighed up the relevant matters and reached a conclusion in relation to a case where the answer was not as obvious as it has been in other cases. The conclusion he reached was a conclusion reasonably open to him.
Section 177D(b)(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 a business, family or other nature) between the relevant taxpayer and any person referred to in subparagraph (vi)
The Tribunal member found that these matters were neutral and it is not necessary to address them.
Conclusion
The Tribunal member did not misstate the law, and the conclusions he reached were conclusions which were reasonably open to him.
The appeal must be dismissed and the applicant must pay the respondent’s costs.
I certify that the preceding one hundred and thirteen (113) numbered paragraphs are a true copy of the Reasons for Judgment herein of the Honourable Justice Besanko. Associate:
Dated: 23 March 2007
Counsel for the Applicant: Mr M McCusker QC with Mr D Romano Solicitor for the Applicant: Wilson and Atkinson Counsel for the Respondent: Ms H Symon SC with Ms L Price Solicitor for the Respondent: Australian Government Solicitor Date of Hearing: 14 June 2006 Date of Judgment: 23 March 2007
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