Lack and Commissioner of Taxation
[2012] AATA 823
•22 November 2012
[2012] AATA 823
Division TAXATION APPEALS DIVISION File Number(s)
2011/0596-0598
Re
Katrina Lack
APPLICANT
And
Commissioner of Taxation
RESPONDENT
File Number(s)
2011/0609-0611
Re
Jeffrey Lack
APPLICANT
And
Commissioner of Taxation
RESPONDENT
DECISION
Tribunal Deputy President P E Hack SC
Date 22 November 2012 Place Brisbane In each application the objection decision is affirmed.
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Deputy President P E Hack SC
CATCHWORDS
TAXATION – Income tax – applicants participated in a profit-washing scheme through a unit trust – commissioner authorised to make amended assessments – remission of penalties denied – objection decisions affirmed.
LEGISLATION
Income Tax Assessment Act 1936 (Cth) ss 100A, 170
Taxation Administration Act 1953 (Cth) s 298
CASES
Denver Chemical Manufacturing Co v Commissioner of Taxation (NSW) (1949) 79 CLR 296
Dixon (as trustee) v Commissioner of Taxation (2008) 167 FCR 287; [2008] FCAFC 54
REASONS FOR DECISION
Deputy President P E Hack SC
22 November 2012
Introduction
The applicants, Mr Geoffrey Lack and Mrs Katrina Lack, are grain growers at Allora on the Darling Downs. Prior to June 2002 they carried on business in partnership with one another. In early June 2002, at the suggestion, they say, of their accountant, Mr David Mack, they restructured their business affairs to “lower [their] tax bill and protect [their] assets”[1].
[1]Exhibit 4, paragraph 2; exhibit 5, paragraph [2]. It is one of the curiosities of these proceedings that the witness statements of the applicants are almost identical.
The restructure was said to have been undertaken to participate in an arrangement that the respondent, the Commissioner of Taxation, describes as a “profit-washing scheme”. Mr and Mrs Lack were two of a number of local farmers who participated in the scheme. Of the number who participated, and who sought review in the Tribunal, only Mr and Mrs Lack and another couple went to hearing; all other applications were resolved prior to hearing. The arrangement, which Mr and Mrs Lack concede to be a scheme, was used by them to significantly reduce their taxable income in each of the 2002, 2003 and 2004 income years. In late 2009 the Commissioner made amended assessments of Mr and Mrs Lack’s taxable income for those income years on the footing that the arrangements were ineffective and that the income said to have been distributed by means of the scheme was that of Mr and Mrs Lack equally. Shortfall penalty was imposed on the basis of recklessness, i.e. 50% of the shortfall.
Mr and Mrs Lack objected to the Commissioner’s amended assessments and the penalty assessment but those objections were disallowed. In these proceedings Mr and Mrs Lack seek a review of the Commissioner’s objection decisions.
Two matters only remain in issue,
(a)whether the Commissioner was authorised to make amended assessments more than four years after the original assessments;
(b)whether the discretion to remit the penalty ought be exercised in favour of Mr and Mrs Lack.
Factual background
The background facts are agreed. What follows is largely taken from the Statement of Agreed Facts[2]. Prior to the income year ended 30 June 2002 Mr and Mrs Lack carried on business as a partnership, JA & KL Lack. Partnership returns were prepared and lodged for the 2000 and 2001 income years. The JK Lack Trust was settled on 13 June 2002 by deed of that date. It was a unit trust. According to the deed there were four unit holders – Mr Lack, Mrs Lack, Boxpark Enterprises Pty Ltd (Boxpark) and Danbowl Pty Ltd (Danbowl). Mr and Mrs Lack each held 100 ordinary class “A” units, Boxpark held 100 special class “A” units and Danbowl held 100 special class “D” units in the trust. Danbowl was the trustee of the trust. Mr and Mrs Lack were appointed directors of Boxpark on 13 June 2002. Danbowl was a company associated with Mr Jeffrey Nirens. It seemingly had carry forward losses.
[2] Exhibit 3.
The scheme was crude. The theory of the scheme was that profits from Mr and Mrs Lack’s farming venture would become the trading profits of the JK Lack Trust and that a major part of them would be “distributed” to Danbowl pursuant to a resolution of Boxpark (as trustee). Only 15% of Danbowl’s entitlement was actually distributed to it. That, no doubt, represented the promoter’s fee. The balance was retained by Mr and Mrs Lack. There is no evidence that even journal entries were made to reflect the distribution of the balance to Danbowl.
No minutes of the JK Lack Trust for June 2002 have been produced. The distributions claimed to have been made are demonstrated only by the 2002 income tax return of Boxpark (as trustee), lodged in October 2002. It disclosed income of $253,415 derived mainly from primary production activity. It claimed that distributions of $225,000 had been made to Danbowl, $12,549 to Mr Lack and $15,866 to Mrs Lack.
Mr and Mrs Lack lodged their individual tax returns for the 2002 income year in October 2002. They included in their assessable income amounts of $12,549 and $15,866 respectively shown as distributions from trusts. The Commissioner made an assessment of Mr Lack’s taxable income evidenced by a notice of assessment of 29 October 2002; in Mrs Lack’s case, the assessment was evidenced by notice dated 1 November 2002.
The pattern continued in the 2003 and 2004 income years although, bizarrely, in each of those years the minutes of what was said to be a meeting of the trustee of the JK Lack Trust recorded a resolution to distribute modest amounts of income to the infant children of Mr and Mrs Lack. Those children were not unit holders. In 2003 an amount of $115,000 was claimed to have been distributed to Danbowl; an amount of $175,000 was claimed to have been distributed to it in the 2004 income year.
Individual returns for the 2003 income year were lodged in November 2003 and were the subject of notices of assessment dated 2 December 2003 (in the case of Mr Lack) and 4 December 2003 (in the case of Mrs Lack). For the 2004 income year Mr Lack’s notice of assessment is dated 8 October 2004, Mrs Lack’s is dated 20 October 2004.
Seemingly the Commissioner became aware of this particular scheme in early 2005. It was the subject of a Taxpayer Alert issued by the Commissioner on 2 May 2005. In October 2005 the Commissioner wrote to Mr Mack, on behalf of Mr and Mrs Lack, informing him that information available to the Commissioner indicated that they might have participated in a “profit washing arrangement” and offering an opportunity to Mr and Mrs Lack to voluntarily self-amend their tax returns. There was correspondence and thereafter between the Commissioner and the legal representatives of Mr and Mrs Lack. The details of that correspondence are not presently relevant.
On 27 November 2009 the Commissioner made amended assessments of Mr Lack’s taxable income for the 2002, 2003 and 2004 income years. On the same day he made an assessment of shortfall penalty for the same years. The Commissioner determined that the shortfall had resulted from recklessness with the result that the penalty was imposed at 50%.
Amended assessments were made in the case of Mrs Lack on 8 December 2009 (2002 income year), 17 December 2009 (the 2003 income year) and 24 December 2009 (the 2004 income year). Assessments of shortfall penalty, again at 50%, were made around the same time.
On 7 June 2010 Mr and Mrs Lack objected to the assessments and amended assessments. The objections were out of time however the Commissioner determined to grant an extension of time but disallowed the objections in whole on 15 December 2010. These proceedings were commenced on 17 February 2011.
The issues
The matters in issue have narrowed considerably during the course of the hearing. In their written submissions[3], lodged after the hearing of the evidence, Mr and Mrs Lack conceded that,
(a)the scheme entered into by the applicants through their financial adviser Mr Mack was a sham and it is appropriate to disregard the entities Boxpark Enterprises Pty Ltd and the JK Lack Trust; and
(b)the scheme entered into is a Part IVA scheme and accordingly section 100A of the Income Tax Assessment Act 1936 (Cth) does not apply.
[3] Exhibit 9, paragraph 1.
The concession that the scheme was a sham is plainly justified. Mr and Mrs Lack collectively owned the real property on which they conducted their farming business. They used their own labour in that business. Presumably they owned the farming implements used in that business. In prior years they brought the profits of the business to account through the partnership. In early June 2002, with no change to the way in which the business was operated, they determined that, with effect from more than 11 months previously, the business would be operated by a trading trust. That was pure pretence. The trading trust was an edifice behind which nothing had changed – Mr and Mrs Lack continue to farm their land exactly as they had done before.
The only change in substance was that they had been persuaded to foolishly give away some of the profits of the business to the promoter of the scheme.
Given the concession of sham it is unnecessary to consider Part IVA – the concession of sham is sufficient warrant to ignore the arrangements said to have been made; it is not necessary to resort to the statute to negate the tax benefit.
Additionally Mr and Mrs Lack concede[4] that, if the Commissioner had been entitled to make amended assessments, the appropriate penalty was 50% of the shortfall amount.
[4] Exhibit 9, paragraph 12.
What remains in issue is the Commissioner’s entitlement to make amended assessments and the question of remission of the penalties either in whole or in part.
The power to amend
At the time of these assessments the power of the Commissioner to amend was expressed in s 170(2)(a) of the Income Tax Assessment Act 1936 (Cth) in these terms,
Subject to this section, where there has been an avoidance of tax, the Commissioner may:
(a)if the Commissioner is of the opinion that the avoidance of tax is due to fraud or evasion – at any time;
…
amend the assessment by making such alterations in it or additions to it as the Commissioner thinks necessary to correct the assessment.
Mr and Mrs Lack concede that there has been an avoidance of tax[5]. But they say that that avoidance was not due to fraud or evasion. Fraud, they say, is not alleged against them and the evidence does not show that the avoidance of tax was due to evasion as they “did not form an intention to omit income from their tax returns”.
[5] Exhibit 9, paragraph 3.
The submissions of both parties drew attention to these observations of Dixon J in Denver Chemical Manufacturing Co v Commissioner of Taxation (NSW)[6]:
I think it is unwise to attempt to define the word “evasion”. The context of s 210(2) shows that it means more than avoid and also more than a mere withholding of information or the mere furnishing of misleading information. It is probably safe to say that some blameworthy act or omission on the part of the taxpayer or those for whom he is responsible is contemplated. An intention to withhold information lest the commissioner should consider the taxpayer liable to a greater extent than the taxpayer is prepared to concede, is conduct which if the result is to avoid tax would justify finding evasion.
Mr and Mrs Lack’s submissions drew attention to their inexperience in taxation matters, their claimed “genuine belief” that their taxation obligations were being attended to by Mr Mack, their claimed lack of awareness of the extent of their financial position and dealings and asserted that they were not of a character to deliberately not declare income.
[6](1949) 79 CLR 296, 313.
This is a plain case of evasion. Mr and Mrs Lack concede that the scheme that they entered into was a sham, that is, that the documents signed by them were not intended to take effect according to the tender. It is difficult to see how, in light of that concession, there could be anything other than a blameworthy act or omission on their part. I simply do not accept their evidence that they relied upon the assurances of Mr Mack about the propriety of the arrangements. I find the written evidence glib and of no assistance whatsoever on critical aspects of the matter. Both of them assert[7],
I discussed the proposal with Mr Mack and he ensured [sic] me that if I followed his advice I would lower my tax bill in a legitimate manner that was allowed under the tax laws.
[7] Paragraph 4 of each of exhibits 4 and 5.
It is evident that the words used in the statements are not their words. I do not accept that they could possibly have believed that the arrangement being proposed was “legitimate” or “allowed under the tax laws”. In the 2003 income year the partnership had a trading profit in excess of $250,000 yet Mr and Mrs Lack disclosed a little over $28,000 from that as their income in that year. The balance, less the promoter’s fees, remained available for their use and benefit. In the succeeding years further considerable sums were dealt with in this way.
But in any event they are responsible for the acts of Mr Mack who was their agent. Mr Mack must have known the view that the Commissioner would have of arrangements of this nature.
I am then satisfied that there was evasion on the part of Mr and Mrs Lack and on the part of Mr Mack for whom they were responsible and that that evasion caused an avoidance of tax. In those circumstances I am satisfied that the Commission’s power to amend was enlivened.
Remission of penalties
Division 284 of Schedule 1 to the Taxation Administration Act 1953 (Cth) sets out the circumstances in which administrative penalties apply for, amongst other things, making false or misleading statements. It is a sufficient description of the scheme to say that penalties are imposed by that Act by reference to a characterisation of conduct causing a taxation shortfall. If the shortfall results from an intentional disregard of taxation law the basic penalty amount is 75% of the shortfall, recklessness warrants a penalty of 50% of the shortfall and a failure to take reasonable care leads to a 25% penalty. Those penalties may be increased by aggravating factors or reduced by mitigating factors.
The power in issue in the present case is that conferred by s 298-20(1) of Schedule 1 to the Administration Act in these terms,
The Commissioner may remit all or part of the penalty.
In Dixon (as trustee) v Commissioner of Taxation[8] the Full Court, in remitting a decision on the remission of penalty to the Tribunal, described the task of the Tribunal in these terms,
The matter should have been remitted to the Tribunal for consideration of the question of whether any part of the penalty should be remitted on the basis that the outcome is harsh, having regard to the particular circumstances of the Taxpayer.
[8] [2008] FCAFC 54; (2008) 167 FCR 287 at [26].
Here, Mr and Mrs Lack point to the following circumstances which they say leads to the conclusion that the failure to exercise the discretion to remit has operated harshly,
(a)they were reliant on Mr Mack and did not personally have sufficient knowledge, experience or understanding of the relevant tax laws to ensure that Mr Mack was complying with the legislation;
(b)Mr Lack sought, and received, assurances from Mr Mack that the arrangements were compliant with the legislation but Mr Mack proceeded to engage them both in a scheme that did not comply with the law;
(c)Mrs Lack relied upon Mr Lack to ensure that Mr Mack was not engaging in arrangements contrary to the legislation; and
(d)the tax agent assured both of them that the arrangements were compliant with legislation that proceeded to engage in a scheme that was contrary to those assurances.
Additionally Mr Lack submits that the documentation prepared by Mr Mack did not express the true intentions.
As I have sought to explain I do not accept the evidence given by Mr and Mrs Lack about the assurances they claim to have been given by Mr Mack. But it is to be remembered that they both accept that the conduct, or that of the agent, that led to the shortfall was reckless. And they accept that they entered into arrangements that were a facade intended to cloak from the Commissioner the true position. There is nothing harsh in the outcome in these circumstances.
Conclusion
It follows that I would affirm each objection decision.
I wish to make reference to the representation of the applicants in this, and the related, cases. At the hearing on 24 September 2012, after the evidence had been heard, the matter was adjourned for the provision of written submissions with a view to a further hearing of oral submissions on 30 October 2012. The parties were directed to exchange draft submissions with each other by 17 October 2012 with final submissions lodged and served by 24 October 2012. The applicants’ submissions were not exchanged as directed and when the matter was listed for a directions hearing I was informed by the solicitors for the applicants that counsel, Mr Mirza, had refused to provide the written submissions and had, apparently, returned his brief after the due date for the exchange of them. If this be the case it would seem to me to warrant the attention of the Legal Services Commissioner. I will ask the District Registrar to refer a copy of the reasons to the Commissioner for his consideration and investigation if required.
I certify that the preceding 33 (thirty -three) paragraphs are a true copy of the reasons for the decision herein of Deputy President PE Hack SC. ........................................................................
Associate
Dated 22 November 2012
Dates of hearing 24 & 25 September 2012; 30 October 2012 Counsel for the applicants
Solicitors for the applicants
Mr H Mirza (24 & 25 September 2012 only)
Worcester & Co
Counsel for the respondent Miss E Ford Solicitors for the respondent ATO Legal Practice
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