Lee and McKeand and Son Pty Ltd and Commissioner of Taxation
[2005] AATA 650
•7 July 2005
Administrative
Appeals
Tribunal
DECISION AND REASONS FOR DECISION [2005] AATA 650
ADMINISTRATIVE APPEALS TRIBUNAL Nº VT2004/141‑143
TAXATION APPEALS DIVISION
Re: Lee McKeand AND Son Pty Ltd
Applicant
And: Commissioner of Taxation
Respondent
DECISION
Tribunal: Mr B.H. Pascoe, Senior Member
Date: 7 July 2005
Place: Melbourne
Decision:The Tribunal sets aside the reviewable objection decisions in respect to the years ended 30 June 1999 and 30 June 2000 and in their stead allows the objections in full by excluding $234,000 from assessable income in each year. The Tribunal varies the objection decision in respect of the year ended 30 June 2001 to the extent of allowing as a deduction the loss carried forward of $150,915 from the year ended 30 June 2000.
The Tribunal certifies that the proceedings have terminated in a manner favourable to the applicant.
(sgd) B.H Pascoe
Senior Member
INOME TAX ‑ Management fee from subsidiary to parent ‑ said to be in respect of prior years – when fee derived as income – whether income of prior years or in year in which fee quantified, accepted and charged.
Income Tax Assessment Act 1997
Henderson v Federal Commissioner of Taxation (1970) 119 CLR 612
Barratt v Federal Commissioner of Taxation (1992) 36 FCR 222
Federal Commissioner of Taxation v Total Holdings (Australia) Pty Ltd (1979) 24 ALR 401
REASONS FOR DECISION
7 July 2005 Mr B.H. Pascoe, Senior Member
These are applications to review decisions of the Commissioner of Taxation (“the respondent”) to disallow objections to assessments and amended assessments of income tax in respect of the years ended 30 June 1999, 30 June 2000 and 30 June 2001. The issue in contention was the time of derivation of a management fee of $468,000 charged by the applicant company to its parent company.
At the hearing the applicant, Lee McKeand and Son Pty Ltd, was represented by Mr P. Dal Bosco, an accountant, who was also the sole witness. The respondent was represented by Ms H. Riley of counsel.
The facts of this matter were not in dispute. Lee McKeand and Son Pty Ltd (“Son”) is a wholly owned subsidiary of Lee McKeand Holdings Pty Ltd (“Holdings”). Holdings did not operate its own bank account and incurred no operating expenses in the years ended 30 June 1999 and 2000. In the year ended 30 June 2001 its financial statements showed a management fee expense of $468,000 paid to Son. In that same year, Son included $468,000 of income from the management fee and claimed a loss of $486,000 transferred from Holdings under the group loss provision of the Income Tax Assessment Act 1997 (“the Act”).
The evidence was that the accounting firm of INPACT McDonald Carter became accountants and auditors of Son for the first time in respect of the year ended 30 June 2001. In February 2002 the audit manager of the firm requested Mr Dal Bosco as Director of Taxation to review the year’s results. Mr Dal Bosco noted that Holdings had not incurred any costs and considered it appropriate that a management fee be charged by Son to recover costs incurred which may be considered relevant to the running of Holdings. He reviewed the expenses of Son and calculated what he considered an appropriate fee being $234,000 per annum. This was discussed with the directors of the group who agreed with Mr Dal Bosco’s recommendation that a fee of $468,000 be charged by Son to Holdings. Again at the recommendation of Mr Dal Bosco, the fee was described as a management fee in respect of the year ended 30 June 1999 and 30 June 2000. He said that this was done so that the fee was referable to services provided before the introduction of Goods and Services Tax on 1 July 2000 due to the ATO administrative practice of holding on to refunds on BAS in those years. No fee was charged in respect of the year ended 30 June 2001.
The respondent took the view that the management fee was derived as to 50 per cent in the year ended 30 June 1999 and 50 per cent in the year ended 30 June 2000 and the same amount incurred by Holdings in each of those years. The affect of this on the assessments of Son was:
Year ended 30 June 1999
Taxable income previously assessed $1,206,240
Add management fee $234,000
Amended taxable income $1,440,240
Year ended 30 June 2000
Loss for year as returned $150,915
Management fee included as income $234,000
Amended taxable income $83,085
Year ended 30 June 2001
Net Income for year $1,595,222
Less tax carried forward $150,915
Less tax transferred from Holdings $468,000
Taxable income previously assessed $976,307
Management fee excluded ($468,000)
Less transfer excluded $468,000
Less carried forward not allowed $150,915
Amended taxable income $1,127,222
The respondent submitted that the management fees were referable to services provided in the year ended 30 June 1999 and 30 June 2000. It was said that the company correctly returned its income on the accrual or earnings basis and that it was artificial to suggest that amounts applicable to 1999 and 2000 for services completely performed in those years only accrued in 2001 because that is when the estimate was actually made of the value of the services. Ms Riley argued that, although there was no contract for the recovery of fees, the applicant could have sued under the general law, in restitution, for the management fees as soon as the management services had been provided. Accordingly, it was said, the management fee income had been earned and was properly assessable in 1999 and 2000.
For the applicant, it was submitted that the management fees were derived and assessable income only in the year ended 30 June 2001 which is when they became quantified, accepted and recoverable. Mr Dal Bosco said that the decision to charge management fees was driven by a consideration of proper management accounting and not taxation. It was argued that no management fee or any right of recovery or indemnity had been contemplated by either Son or Holdings at any time prior to Mr Dal Bosco proposing such a fee. Mr Dal Bosco relied on the decision in Henderson v Federal Commissioner of Taxation (1970) 119 CLR 612 and Barratt vFederal Commissioner of Taxation (1992) 36 FCR 222 to submit that the management fee were not derived until the debt was quantifiable and recoverable at law. He maintained that this was only in the 2001 year.
It is a matter of conjecture as to why Mr Dal Bosco recommended a management fee charge said to be in respect of expenses incurred in the 1999 and 2000 years at the time of completion of the 2001 financial statements but with no such charge for 2001. It is possible that he was concerned that expenses incurred by Son but referable to Holdings may be considered as not deductible by Son as it was not expenditure incurred for the purpose of deriving Son’s assessable income or carrying on business for such purpose. If such expenditure could be said to be the running costs of Holdings it may well be argued that the decision in Federal Commissioner of Taxation v Total Holdings (Australia) Pty Ltd (1979) 24 ALR 401 would be of no assistance. In this case it could not be said that there was any prospect of a subsidiary deriving future income from a more profitable parent company. However, the issue of deductibility of the expenditure incurred by Son in any of the years is not before me. Nor is there any evidence of what specific expenses, if any, related directly to Holdings. It should be said, however, that it appears that the calculation of the management fee was not done on the basis of an analysis of expenditure of Son and identifying specific expenses as being directly relevant to Holdings. It would seem that the fee of $234,000 per annum was based on one‑third of the aggregation of a number of overhead expenses, property costs and 10 per cent of personnel costs.
Apart from one significant point of difference, I accept the argument of Mr Dal Bosco that the management fees were derived only at the point of time when they were quantified, accepted and charged. The evidence is clear that, until the recommendation was made, neither Son nor Holdings had ever contemplated or accepted that Son provided management services and had entitlement to a fee. While it may have occurred to somebody at some time that some part of Son’s expenditure might be said to relate to the operation of Holdings, it cannot be said that, at any time prior to the agreement to charge the fee, there was any agreement or right under general law for Son to recover a fee. However, the significant point of difference is that Mr Dal Bosco argues that the fee was derived by Son and incurred by Holdings in the year ended 30 June 2001 which was the year for which financial statements were in the course of preparation. The evidence on the other hand, was clear that it was not until February 2002, some eight months after that year end that it could be said that the recoverable debt arose. On the argument of Mr Dal Bosco alone it cannot be said that the income was derived at a point in time when the fee was quantified, accepted and recoverable and then maintain that such point of derivation was eight months earlier. He objects to the respondent seeking to attribute the income to periods well prior to the time of charging the fee but then seeks to attribute it to a later but still prior period. It must have been derived either in the periods in which the expenditure was incurred or at the time when the recoverable debt arose. The treatment by the companies was neither.
It follows from the foregoing that there is a finding that the management fees were derived by Son and incurred by Holdings in February 2002 and not earlier. The consequences of this finding is that the objection decisions in relation to the year ended 30 June 1999 and 30 June 2000 should be set aside and allowed in full by exclusion of $234,000 from assessable income of each year. The objection decision in relation to the year ended 30 June 2001 should be varied to the extent of allowing as a deduction the loss carried forward from the year ended 30 June 2000. The effect is to restore the taxable income of the 2001 year to the figure originally assessed albeit for different reasons. The position of the year ended 30 June 2002 is not before me.
I certify that the ten [10] preceding paragraphs are a true copy of the reasons for the decision herein of
Mr B.H. Pascoe, Senior Member
(sgd) Olympia Sarrinikolaou
Clerk
Dates of Hearing: 4 May 2005
Date of Decision: 7 July 2005
Advocate for the applicant: Mr P. Dal Bosco, accountant,
INPACT McDonald Carter
Counsel for the respondent: Ms H. Riley
Solicitor for the respondent: Australian Taxation Office, Legal Services Branch
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