R v Hargraves, Hargraves and Stoten

[2010] QSC 37

SUPREME COURT OF QUEENSLAND

CITATION:

R v Hargraves, Hargraves and Stoten [2010] QSC 37

PARTIES:

R

v

GLENN LUKE HARGRAVES, ADAM JOHN HARGRAVES, DANIEL ARAN STOTEN
(applicants)

FILE NO/S:

Indictment 13 of 2010

DIVISION:

Trial

PROCEEDING:

Criminal Application

ORIGINATING COURT:

Supreme Court at Brisbane

DELIVERED ON:

15 February 2010

DELIVERED AT:

Brisbane

HEARING DATE:

11, 12 February 2010

JUDGE:

Fryberg J

ORDER:

Application refused

CATCHWORDS:

Taxes and duties – Income tax and related legislation – Deductions and rebates in calculating taxable income – Losses and outgoings incurred in gaining or producing the assessable income or necessarily incurred in carrying on a business for the purpose of gaining or producing such income – Generally – Necessarily incurred in carrying on business – Other matters – Characterisation of expenditure – Connection with business activities – Transaction directed to tax avoidance – Relevance of subjective purpose

Cecil Bros Pty Ltd v Federal Commissioner of Taxation (1964) 111 CLR 430; [1964] HCA 82, cited
Commissioner of Taxation v South Australian Battery Makers Pty Ltd (1978) 140 CLR 645; [1978] HCA 32, cited
Coppleson v Federal Commissioner of Taxation (1981) 34 ALR 377; (1981) ATC 4019, cited
Doney v The Queen (1990) 171 CLR 207; [1990] HCA 51, cited
Equuscorp Pty Ltd v Glengallan Investments Pty Ltd (2005) 218 CLR 471; [2004] HCA 55, cited
Federal Commissioner of Taxation v Isherwood & Dreyfus Pty Ltd (1979) 46 FLR 1; (1979) 79 ATC 4031, cited
Federal Commissioner of Taxation v Suttons Motors (Chullora) Wholesale Pty Ltd (1985) 157 CLR 277; [1985] HCA 44, cited
Fletcher v Commissioner of Taxation (1991) 173 CLR 1; [1991] HCA 42, cited
Inland Revenue Commissioner v Europa Oil (NZ) Ltd [1971] AC 760, cited
Jaques v Federal Commissioner of Taxation (1924) 34 CLR 328; [1924] HCA 60, cited
John v Commissioner of Taxation (1989) 166 CLR 417; [1989] HCA 5, cited
Lombardo v Federal Commissioner of Taxation (1979) 40 FLR 208; [1979] FCA 66, cited
Magna Alloys and Research Pty Ltd v Commissioner of Taxation (1980) 49 FLR 183; [1980] FCA 150, cited
R v Bilick and Starke (1984) 36 SASR 321, cited
Raftland Pty Ltd v Commissioner of Taxation (2008) 238 CLR 516; [2008] HCA 21, cited
Re Questions of Law Reserved on Acquittal (No 2 of 1993) (1993) 61 SASR 1, cited
Ronpibon Tin NL and Tongkah Compound NL v Federal Commissioner of Taxation (1949) 78 CLR 47; [1949] HCA 15, cited
Scott v Commissioner of Taxation (1966) 40 ALJR 265, cited
Spassked Pty Limited v Commissioner of Taxation (2003) 136 FCR 441; [2003] FCAFC 282, cited

COUNSEL:

A J Kimmins for Glenn Luke Hargraves
M J Byrne QC and M Robertson for Adam John Hargraves
J Hunter SC for Daniel Aran Stoten
A MacSporran SC and C Toweel for the respondent

SOLICITORS:

Peter Shields Lawyers for the applicants
Commonwealth Director of Public Prosecutions for the respondent

1. FRYBERG J:  Glen Hargraves, Adam Hargraves and Daniel Stoten are currently on trial before a jury for conspiracy to defraud the Commonwealth.[1]  At the close of the Crown case Mr Robertson, junior counsel for Adam Hargraves, submitted that his client had no case to answer.  Counsel for the other accused adopted his submissions and Mr Hunter SC for Stoten briefly supplemented them.

   [1]Strictly speaking, each accused faces two conspiracy charges, one in respect of a period before the Commonwealth Criminal Code came into force and the other in respect of a period after that event; but the Crown alleges only one conspiracy.

1. The case must be withdrawn from the jury and a verdict of not guilty directed “if the evidence cannot sustain a guilty verdict or, as is commonly said, if there is no evidence upon which a jury could convict”.[2]  The question “is whether there is evidence with respect to every element of the offence charged which, if accepted, could prove that element beyond reasonable doubt”.[3]  In the present case the element in question was the falsity of the representation alleged to have been made by the accused. 

   [2]Doney v The Queen (1990) 171 CLR 207 at p 212.

   [3]R v Bilick and Starke (1984) 36 SASR 321 at p 335, applied in Re Questions of Law Reserved on Acquittal (No 2 of 1993) (1993) 61 SASR 1 at p 4.

1. Mr Robertson submitted that the representation was true.  Mr Hunter SC submitted that at the very least the Crown had not proved beyond reasonable doubt that it was not true.

The Crown case

1. On the Crown case there is evidence upon which it would be open to the jury to be satisfied beyond reasonable doubt that the accused conspired with each other and with certain other named persons to make representations to the Commonwealth as to the allowable deductions of Phone Directories Company Pty Ltd (“PDC”) from 1999 to 2005.  There is evidence in support of the Crown case as particularised, that the income of PDC stated in its tax returns was reduced by knowingly claiming as deductions for business expenses amounts paid to Amber Rock Ltd.  The issue is whether PDC was entitled to deduct the whole of those amounts.

1. Few if any of the facts the subject of evidence in the Crown case on this issue were challenged in cross-examination or in any other way disputed.  The evidence shows that in 1999 PDC had for several years carried on a business of creating and selling phone directories.  To do so it was necessary for it to have the raw data for the directories electronically processed to a form suitable for use in printing the directories.  Originally this operation was carried out by company employees in Australia, but in the first half of 1999 PDC entered into an arrangement with a Chinese company, QH Data, for that company to do the work in Beijing.  One batch of data was sent to QH Data and processed by it before the alleged conspiracy commenced.  PDC duly paid QH Data for that batch, describing the expense in its accounts as “directory listings”.  It is common ground that the cost of this work was deductible from PDC's assessable income. 

1. At the material times, the accused were the sole directors and shareholders[4] of PDC.  In the second half of 1999, at the behest of the accused, a tax avoidance scheme was implemented for PDC and the accused by an overseas accountancy firm, Strachans, an alleged co-conspirator.  Strachans had Amber Rock Ltd incorporated in the British Virgin Islands.  Its shareholders and directors were various Strachans entities.  PDC continued until 2005 to order directory listings processing from QH Data but the accused Stoten instructed QH Data to send its invoices to Amber Rock.  In respect of each order he instructed Strachans of an amount by which the amount of each invoice was to be marked up.  The amount of the markups averaged 30 times the amount of the original invoices.  At Strachans’ request, Stoten drafted an agreement between Amber Rock and PDC providing for the former to act as broker for the latter in obtaining listings services, and various editions of the agreement were produced and executed.  Strachans caused Amber Rock to send PDC invoices for directory listings charging the sum of the QH Data invoice and the markup.  PDC remitted the amount of each invoice to Amber Rock and subsequently claimed the amounts remitted as tax deductions.  Strachans then caused Amber Rock to pay the relevant QH Data invoice and to distribute the amount of the markup to three secret discretionary trusts, of which the accused were respectively de facto beneficiaries.  The trustees of these trusts were also Strachans entities.  Strachans caused the trustees to act in accordance with the wishes of the accused respectively, and each accused had de facto power to replace the relevant trustee.  Strachans procured debit cards linked to the trust bank accounts to be issued to the accused (and to no one else) and the accused used these to withdraw cash from the accounts through ATMs.

   [4]In the case of Stoten, the shares were held by his family trust.

1. For the argument the accused conceded that the scheme “was intended to reduce the taxable income of PDC and by reference to the other arrangements to produce a large profit in the intermediate company which would then funnel that profit through to the benefit of the accused.”

The submissions for the accused

1. The accused submitted that the amounts paid by PDC to Amber Rock were indeed deductible pursuant to s 8-1 of the Income Tax Assessment Act 1997.  That section provides:

“(1) You can deduct from your assessable income any loss or outgoing to the extent that:

…

(b) it is necessarily incurred in carrying on a business for the purpose of gaining or producing your assessable income.”

The submission was based on this provision.

1. The accused submitted that the payments to Amber Rock were in fact made and were made for the directory listings in relation to which they were paid.  They submitted that the scheme was simply an invoicing and re-invoicing arrangement.  It was irrelevant to deductibility that PDC paid more than it ought to have paid,[5] that it purchased the listings from a related party[6] and that it had the purpose of placing an associated company in profit by paying it an inflated price.[7]  Benefits conferred on third parties were irrelevant.[8]  PDC's tax avoidance motive did not mean that a deduction for the expenditure could be denied.[9]  Its purpose was irrelevant.[10]

   [5]Cecil Bros Pty Ltd v Federal Commissioner of Taxation (1964) 111 CLR 430 at p 434.

   [6]Europa Oil (NZ) Ltd v Inland Revenue Commissioners [1971] AC 760 at p 772; Federal Commissioner of Taxation v Suttons Motors (Chullora) Wholesale Pty Ltd (1985) 157 CLR 277.

   [7]Federal Commissioner of Taxation v Isherwood & Dreyfus Pty Ltd (1979) 79 ATC 4031.

   [8]Commissioner of Taxation v South Australian Battery Makers Pty Ltd (1978) 140 CLR 645.

   [9]         Spassked Pty Limited v Commissioner of Taxation (2003) 136 FCR 441.

   [10]Magna Alloys and Research Pty Ltd v Commissioner of Taxation (1980) 49 FLR 183.

The submissions for the Crown

1. Mr MacSporran SC submitted that expenditure would generally be deductible under s 8-1 if its essential character were that of expenditure that had a sufficient connection with the operations or activities which directly gained or produced the taxpayer's assessable income.  If after weighing all the circumstances in a commonsense and practical manner it could be concluded that the expenditure was genuinely, and not colourably, used in an income producing activity, a deduction was allowable.  If it were concluded that the disproportion between the outgoing and the relevant assessable income was essentially to be explained by reference to the independent pursuit of some other objective, then the outgoing must be apportioned between the pursuit of assessable income and the other objective.[11]  On the facts, Amber Rock did nothing, and it certainly did not produce the listings or provide brokerage services as contemplated by the agreement between them.  It was simply a vehicle to divert income.  The payments had no commercial justification and the only advantage gained from them was the facilitation of the flow of funds to the accused without the payment of tax.  They were not dictated by business ends, nor did they form part of a business.  They should not be characterised as payments falling under s 8-1.

   [11]Ronpibon Tin NL and Tongkah Compound NL v Federal Commissioner of Taxation (1949) 78 CLR 47; Fletcher v Commissioner of Taxation (1991) 173 CLR 1.

1. Alternatively he submitted that the agreement and the invoices rendered by Amber Rock were a sham.  The parties did not intend to give effect to the rights and obligations under them.[12]  They were void and of no legal effect[13] and should be ignored for the purpose of characterising the payments made to Amber Rock.  Most of the money in those payments did not bear a character which would permit deductibility.

   [12]Scott v Commissioner of Taxation (1966) 40 ALJR 265; Coppleson v Federal Commissioner of Taxation (1981) ATC 4019; Raftland Pty Ltd v Commissioner of Taxation (2008) 238 CLR 516.

   [13]Jaques v Federal Commissioner of Taxation (1923) 34 CLR 328 at p 358.

The submissions for the accused in reply

1. In reply Mr Robertson submitted that Fletcher v Commissioner of Taxation was concerned only with the first limb of s 8-1 and that it should not be applied to the second.  Were it otherwise, Cecil Bros Pty Ltd v Federal Commissioner of Taxation would have been overruled in Fletcher.  On the facts the only things which PDC got for the expenditure were the listings.  Despite the words “to the extent that”, apportionment was rejected in Cecil Bros.  Motive was irrelevant.[14]  The payments could not be characterised as sham.[15] Even if they could, the resulting position was that the payments to the accused were directors’ fees or gifts, and were consequently deductible by PDC. They could not be characterised as deemed dividends as a result of s 109L of the Income Tax Assessment Act 1936.

   [14]John v Commissioner of Taxation (1989) 166 CLR 417.

   [15]Equuscorp Pty Ltd v Glengallan Investments Pty Ltd (2004) 218 CLR 471.

Ruling

1. I begin with the process of characterisation referred to in the judgment of Hill and Lander JJ in Spassked Pty Limited v Commissioner of Taxation:

“Section 51(1) involves a process of identifying the essential character of the expenditure to determine whether it is in truth an outgoing incurred in gaining or producing assessable income: Lunney & Hayley v Commissioner of Taxation (Cth) (1958) 100 CLR 478 at 498 and Commissioner of Taxation v Riverside Road Lodge Pty Ltd (in liq) (1990) 23 FCR 305 at 312.”[16]

[16](2003) 136 FCR 441 at p 465.

1. In my judgment the following facts are material in determining the character of the payments by PDC to Amber Rock:

·Amber Rock did nothing for PDC except forward payments to QH Data

·in particular it provided no brokerage services

·the invoices did not seek payment of commission

·the payments could not be characterised as commissions under the written agreement between Amber Rock and PDC

·orders for performance of listings work were placed by PDC with QH Data

·QH Data was instructed by Stoten to send its invoices to Amber Rock

·the surprise raid by Swiss law enforcement authorities on Strachans’ premises, where the Amber Rock documents were kept, found no contract between Amber Rock and QH Data and apart from the QH Data invoices, no evidence of any such contract

·that raid also found no evidence of any contact between Amber Rock and QH Data in which a contract might have been formed[17]

·PDC placed no orders with Amber Rock

·there were no contracts between Amber Rock and PDC in respect of the invoices sent to PDC

·the relationship between PDC and Amber Rock simply involved Stoten instructing Amber Rock as to the amount of the markup and Amber Rock sending PDC the invoices

·the amounts charged in the invoices were approximately 30 times the amounts paid to QH Data for doing the work

·those amounts were disproportionate to the work done by Amber Rock in forwarding payments to QH Data

·PDC regarded the “real” cost of the listings as being the amount paid to QH Data

·in reality the payments to Amber Rock, to the extent that they exceeded that cost, were payments out of PDC's profits.

[17]Mr Robertson's submission that orders were placed and contracts made with QH Data by employees of PDC as agents for Amber Rock smacks of desperation.

1. As I understand it none of those facts, except perhaps the last one, is in dispute.  The last one is an inevitable corollary having regard to the position which would have existed if there had been no payments of the amount of the markup.  Mr Robertson submitted that in the circumstances there was no question to be decided by the jury:

“MR ROBERTSON:  We say that the law is as set out in the - well, it doesn't become a jury question at all, it is still a question of characterisation of the facts as presented to date to determine whether 51(1) applies, and accepting that the motive is tax avoidance, then you, your Honour, have all the facts to allow you, as a matter of law, to determine the characterisation under 51(1), because that's a question of law, it is not a question for the jury once all the facts are there.”

I accept that submission:

“There is a long line of authority that a question of law will be involved in any case where the facts are not in dispute and the only question is whether the case necessarily falls within or outside the statute: Federal Commissioner of Taxation v Western Suburbs CinemasLimited[1952] HCA 28; (1952) 86 CLR 102 at 104; Inland Revenue Commissioners v Alexander von Glehn and Co. Ltd. (1920) 12 TC 232 at 242 per Warrington L.J.; Bean v Doncaster Amalgamated Collieries Ltd. (1946) 27 TC 296 at 307-308 per du Parcq L.J.; Rolls Royce Limited v Jeffrey (1962) 1 All ER 801 at 802-803 per Viscount Simonds; Farmer v Cotton's Trustees (1915) AC 922 at 932 per Lord Parker of Waddington, quoted with approval by Latham C.J. in Federal Commissioner of Taxation v Miller[1946] HCA 23; (1946) 73 CLR 93 at 97; and by Fullagar J. in Hayes v Federal Commissioner of Taxation [1956] HCA 21; (1956) 96 CLR 47 at 51.”[18]

In any event, in resolving a no case submission, the Crown case must be taken at its highest.

[18]       Lombardo v Federal Commissioner of Taxation (1979) 40 FLR 208 at p 212 per Bowen CJ.

1. On the foregoing facts, I characterise the payments made by PDC, to the extent of the amount of the markup, as payments of its profits to a third party (or possibly, as payments of its profits to a third party for the ultimate benefit of the accused) and not as payments for directory listings.  As such, and subject to Mr Robertson's argument regarding characterisation as directors’ fees, they were to that extent not deductible under s 8-1.

1. It will be observed that in reaching that conclusion I have not taken the purpose of PDC (and the accused as directors) for implementing the scheme into account.  That purpose is described above.[19]  A considerable part of the submissions put to me was concerned with whether I could take subjective purpose into account.  That question was discussed at some length in the major judgment in Spassked.  Hill and Lander JJ observed[20] that the role of purpose in s 51(1) of the 1936 Act, the predecessor of s 8-1, had been considered specifically in Magna Alloys and Research Pty Ltd v Commissioner of Taxation.[21]  They analysed the judgments in that case.  They wrote:

“70 The leading judgment was given by Deane and Fisher JJ. Their Honours expressed a two fold test as follows (at 210):

‘Whether a voluntary outgoing was so incurred depends upon the answer to the composite question which we have indicated, namely, whether the outgoing was reasonably capable of being seen as desirable or appropriate from the point of view of the pursuit of the business ends of that business and, if so, whether those responsible for carrying on the business so saw it.’

71 As this Court pointed out in Service v Commissioner of Taxation  (2000) 97 FCR 265 the test so formulated would seem equally relevant to the first limb of s 51(1) as to the business limb of the sub-section. The Court said:

‘It would follow from Magna that the fact that expenditure was incurred in circumstances where a taxpayer had as a purpose, or even a dominant purpose, the purpose of reducing tax the expenditure would be deductible, so long as objectively the outgoing was reasonably capable of being seen as directed towards the gaining and production of assessable income and was so seen by the taxpayer. Section 51(1) is not a section as such directed at tax avoidance.’

72 The Court, however, in Service continued by saying that purpose was not necessarily irrelevant to the question of characterisation, that is to say to the question whether the outgoing was incurred in gaining or producing assessable income. The Court referred by way of example to Ure v Commissioner of Taxation (Cth) (1981) 50 FLR 219, Madigan v Commissioner of Taxation (Cth) (1996) 68 FCR 12 and the decision of the High Court in Fletcher v Federal Commissioner of Taxation (1991) 173 CLR 1.”[22]

[19]Paragraph [7].

[20](2003) 136 FCR 441 at p 465.

[21](1980) 49 FLR 183.

[22](2003) 136 FCR 441 at pp 466-7.

1. If it were necessary to decide the matter, I would hold that subjective purpose can be taken into account in the way described by their Honours.  To do so in the present case would reinforce the characterisation of the markup component of the payments which I have already reached.

1. My conclusion on that question means it is unnecessary to resolve the question of sham.  Were it necessary to do so I would find that the invoices were shams, but I would not find the same of the payments by PDC to Amber Rock.  They were real.  In fairness I should record that I did not understand Mr MacSporran to submit otherwise.

1. I reject Mr Robertson's alternative characterisation of the markup component of the payments as directors’ fees or as gifts in return for services rendered.  I am prepared to assume that the facts that the bulk of the payments ended up in the bank accounts of the trustees of the overseas trusts and, on the Crown case, were dealt with as the money of the accused mean that they can be regarded as having been received by or on behalf of the accused; hence the possible alternative characterisation referred to above.[23]  However the suggestion that they were directors’ fees or gifts is speculative.  There is not a shred of evidence to support it.  Moreover it is most unlikely that the shareholders would have resolved to make payments to the directors, given the need for secrecy about the scheme and the quite elaborate lengths to which the alleged conspirators went to maintain secrecy.  It is unnecessary to decide whether the markup component of the payments should be characterised as deemed dividends; even if they were so characterised, they would not be deductible by PDC.

   [23]Paragraph [16].

1. For the same reason Mr Hunter's submission[24] must be rejected.  There is no basis upon which the jury could have a doubt about any material fact.

   [24]Paragraph [3].

1. I find that the accused have a case to answer.