Jones and Commissioner of Taxation

[2009] AATA 744

Administrative Appeals Tribunal

DECISION AND REASONS FOR DECISION [2009] AATA 744

ADMINISTRATIVE APPEALS TRIBUNAL      )

)          No 2009/1965-70  

TAXATION APPEALS DIVISION		)
Re		PETER AND HELEN JONES

Applicant

And COMMISSIONER OF TAXATION

Respondent

DECISION

Tribunal Senior Member Bernard J McCabe

Date28 September 2009

PlaceBrisbane

Decision The Tribunal affirms the objection decisions under review.

.................... [Sgd]..........................

Senior Member

CATCHWORDS

TAXATION – Income Tax – Objection to assessment – Claim for deduction on interest and loan service costs on advance to partnership – Whether allowable deduction – Whether advance characterised as loan or investment capital – Advance characterised as investment capital – Deduction disallowed – Objection decisions affirmed

Income Tax Assessment Act 1997 (Cth) s 8-1

Taxation Administration Act 1953 (Cth) s 14ZZK

Re Jones and Commissioner of Taxation [2003] AATA 84; 2003 ATC 2024

REASONS FOR DECISION

28 September 2009 Senior Member Bernard J McCabe         

1.      Peter and Helen Jones are married, but they are also business partners. These proceedings arise out of a business they operated in partnership during the 1990s. On 28 February 1994, Mrs Jones advanced $40,000 to the partnership from her own account. She and her husband say the advance was a loan. They have each claimed deductions in respect of interest and other loan servicing costs in the 1996, 1997 and 1998 years of income. The Commissioner of Taxation says the taxpayers are not entitled to the deductions. The taxpayers have asked the Tribunal to reconsider the matter.

2.      The Commissioner says the advance should not be characterised as a “loan”. But even if I am satisfied the advance was a loan, the Commissioner says there was no evidence that interest was payable. The Commissioner also argues the “loan service fees” claimed by the taxpayers were not a loss or outgoing incurred by the taxpayer within the meaning of s 8-1 of the Income Tax Assessment Act 1997 (“the Act”).

3.      I think the taxpayers’ claim falls at the first hurdle. The advance from Mrs Jones cannot be characterised as a loan. I am satisfied it is actually an investment of capital in the partnership. I explain my reasons below.

Background to the dispute

4.      Mr and Mrs Jones have been engaged in a long-running dispute with the Commissioner. These proceedings arise out of the machinations that followed an earlier hearing of the Tribunal. In Re Jones and Commissioner of Taxation [2003] AATA 84; 2003 ATC 2024, I concluded the Mr and Mrs Jones were carrying on a business in common with a view to a profit. In other words, their relationship was properly described as a partnership within the meaning of the Partnership Act 1891 (Qld).

5.      The earlier proceedings were complicated at the last moment when the parties realised that the Professional Engineers Act 1988 (Qld) prohibited engineers like Mr Jones from carrying on a business in partnership with individuals like Mrs Jones who did not possess engineering qualifications. The way in which the parties elected to deal with that challenge has resulted in further complications. As it happens, I do not think those questions make any difference to my task today if one starts from the finding that a partnership existed.

The facts

6.      Mr and Mrs Jones both gave evidence at the hearing. Mr Jones explained what happened when he decided to establish the Pajengco partnership with his wife. In 1994, it became apparent that the partners were unable to obtain finance from a bank that would enable them to launch the business. Mr Jones said he and his wife discussed the possibility of his wife investing a quantity of money that she held in her own account. Mrs Jones explained in her evidence that the money in question came from a variety of sources. Some of it was inherited; some had come to her from her husband. They both agreed the money was hers to use as she saw fit, although Mrs Jones said it was her intention to put the money towards a family home.

7.      Mr Jones said he recalled discussing the question of an appropriate rate of return. In particular, he recalled suggesting to his wife that the minimum rate of return should exceed the prevailing interest rates at the bank. He accepted there was no agreement as to a specific rate. Mrs Jones did not recall the conversation, although that does not mean it did not occur. The events in question happened 15 years ago, after all. Mrs Jones said it was her decision to advance the money.

8.      The taxpayers’ language when they described the advance was instructive. At the hearing, Mr and Mrs Jones both referred to a “loan”, but Mr Jones also said his wife “decided to invest in the business”. Mrs Jones also spoke of an investment. Mr Jones spoke of the intention to achieve “an appropriate rate of return for Helen”. He said the advance provided “funds to kick off and start and run a business”. He said he recalled describing the advance as a loan in discussions with the taxpayers’ accountant, although I note the accountant appears to have treated the advance as being of a capital nature in the partnership accounts: see Exhibit 1 at 162 and Exhibit 2 at 147, which note a capital contribution by each of the taxpayers. The accountant did not record the advance as a loan in the books. 

9.      Mr Jones was asked about the form of the return that he anticipated his wife would receive in return for her advance. He explained it was intended his wife would draw money from the partnership on a regular basis when it could be afforded. Mrs Jones was responsible for managing the finances. She said she would draw money by making out a cheque in favour of her and her husband. That cheque was drawn on the partnership account. While she could not remember into which account the drawings were paid, she agreed she and her husband received equal amounts. She was never paid an amount identified as being in respect of interest.

The relevant law

10.     I accept Mr and Mrs Jones were truthful witnesses who did their best to assist the Tribunal. But there evidence only takes me so far. I have to examine it and determine what legal conclusions I should draw from the facts they have provided. In particular, I must consider whether it is possible to characterise the advance that was made in 1994 as a loan. I accept it was not a gift, nor was it some sort of informal arrangement between husband and wife. It was a business transaction. But was it properly characterised as a loan or a capital contribution? If it was a loan, it will be necessary to consider whether any interest on the loan could be deducted. If it was a capital contribution, there is no interest payable and no deduction.

11.     As it happens, I am satisfied the advance is properly characterised as a contribution to the capital of the partnership. It was not a loan. It was money invested in the partnership with a view to earning a profit. As Mr Jones explained at the hearing, the advance was clearly intended to be working capital that would ultimately yield returns for both partners in the form of drawings. While I acknowledge the taxpayers used the word “loan”, that word is not decisive given they also described the advance as an investment. There was no agreement as to the rate of return, or the term of the advance. The advance was described as a capital contribution in the accounts.

Conclusion

12. The bulk of the language used to describe the arrangement, and the details of the arrangement itself, are redolent of a capital contribution rather than a loan. Given the burden imposed on the taxpayers by s 14ZZK of the Tax Administration Act 1953, it is impossible for me to conclude that any amounts in respect of interest were properly deductible. I must therefore affirm the objection decisions under review.

I certify that the 12 preceding paragraphs are a true copy of the reasons for the decision herein of  

Signed:..............................[Sgd]................................................
  Michael Buckingham, Associate

Date of Hearing  23 September 2009
Date of Decision  28 September 2009
Solicitor for the applicant          Unrepresented
Advocate for the respondent     J McGrath, Australian Taxation Office