Sandbach and Commissioner of Taxation (Taxation)
[2015] AATA 1024
•24 December 2015
Sandbach and Commissioner of Taxation (Taxation) [2015] AATA 1024 (24 December 2015)
Division
TAXATION & COMMERCIAL DIVISION
File Numbers
2013/6121, 2013/6122, 2013/6123
Re
Alan Sandbach
APPLICANT
And
Commissioner of Taxation
RESPONDENT
DECISION
Tribunal Deputy President F J Alpins
Date 24 December 2015 Place Melbourne The decision under review is affirmed
[sgd]........................................................................
Deputy President F J Alpins
TAXATION – income tax – deductions – settlement of proceedings concerning loans made to partnership and related company – equitable assignment of lenders’ rights against taxpayer partner to company not at arm’s length to taxpayer – whether interest on loans “incurred” for purposes of s 8-1 of Income Tax Assessment Act 1997 (Cth) in subsequent years of income – whether deductions allowable for tax losses of earlier income years under Div 36 – whether onus of proof discharged for purposes of Pt IVC of Taxation Administration Act 1953 (Cth)
Legislation
Administrative Appeals Tribunal Act 1975 (Cth), ss 25, 43
Income Tax Assessment Act 1936 (Cth), ss 166, 167
Income Tax Assessment Act 1997 (Cth), s 8-1, Div 36
Taxation Administration Act 1953 (Cth), ss 14ZZK; Pt IVC
Cases
Cases
ABB Australia Pty Limited v Commissioner of Taxation [2007] FCA 1063
Allard v Federal Commissioner of Taxation (1992) 24 ATR 493
Coles Myer Finance Ltd v Federal Commissioner of Taxation (1993) 176 CLR 640
Collector of Customs (NSW) v Brian Lawlor Automotive Pty Ltd (1979) 2 ALD 1
Commissioner of Taxation v Citylink Melbourne Limited (2006) 228 CLR 1
Commissioner of Taxation v Desalination Technology Pty Limited [2015] FCAFC 96
Commissioner of Taxation v James Flood Pty Ltd (1953) 88 CLR 492
Commissioner of Taxation v Rigoli [2013] FCA 784
Danmark Pty Ltd v Federal Commissioner of Taxation; Forestwood Pty Ltd v Federal Commissioner of Taxation (1944) 7 ATD 333
Federal Commissioner of Taxation v Dalco (1990) 168 CLR 614
Federal Commissioner of Taxation v Malouf (2009) 174 FCR 581
Federal Commissioner of Taxation v SNF (Australia) Pty Ltd (2011) 193 FCR 149
Gauci v Federal Commissioner of Taxation (1975) 135 CLR 81
George v Federal Commissioner of Taxation (1952) 86 CLR 183
Guest v Federal Commissioner of Taxation (2007) 65 ATR 815
Hooker-Rex Pty Ltd v Federal Commissioner of Taxation (1988) 19 ATR 1241
Hua-Aus Pty Ltd v Commissioner of Taxation [2010] FCA 341
Imperial Bottleshops Pty Ltd & Anor v FCT (1991) 91 ATC 4546
Ma v FCT (1992) 23 ATR 485
Marbren Pty Ltd v Federal Commissioner of Taxation (I984) 15 ATR 1145
McCormack v Commissioner of Taxation (1979) 143 CLR 284
Minister for Immigration and Ethnic Affairs v Pochi (1980) 31 ALR 666
Mulherin v Federal Commissioner of Taxation [2013] FCAFC 115
New Zealand Flax Investments Ltd v Federal Commissioner of Taxation (1938) 61 CLR 179
Nilsen Development Laboratories Pty Ltd v Federal Commissioner of Taxation (1981) 144 CLR 616
Rawson Finances Pty Ltd v Commissioner of Taxation [2013] FCAFC 26
Rigoli v Commissioner of Taxation [2014] FCAFC 29
Rigoli v Commissioner of Taxation [2015] FCA 803
Roberts v Gill & Co [2011] 1 AC 240
Spriggs v Commissioner of Taxation (2009) 239 CLR 1
Trautwein v Federal Commissioner of Taxation (1936) 56 CLR 63Secondary Materials
GJ Tolhurst, “Equitable assignment of legal rights: a resolution to a conundrum”, Law Quarterly Review 2002, 118 (Jan) 98 at 101
REASONS FOR DECISION
Deputy President F J Alpins
24 December 2015
INTRODUCTION
This is an application for review under Pt IVC of the Taxation Administration Act 1953 (Cth) (the “TAA”) of the reviewable objection decision of the respondent (the “Commissioner”) disallowing the objection made by the applicant, Mr Alan Sandbach, against assessments of income tax for the 2005, 2006 and 2008 years of income.
The essential issues before the Tribunal are whether the applicant is entitled to deductions for certain outgoings of interest under s 8-1 and to deductions under Div 36 of the Income Tax Assessment Act 1997 (“ITAA 1997”) and, further, whether he has discharged the burden of proof under s 14ZZK of the TAA.
EVIDENCE
The applicant gave evidence in the form of a witness statement and oral evidence; he was cross-examined. The applicant was the sole witness before the Tribunal.
The applicant practises, and at all material times did practise, as a member of the Victorian Bar. In his witness statement, the applicant stated that he was previously a partner in a partnership known as the “Wyvern Partnership” (the “partnership”), which commenced carrying on a business of primary production in 1986, when the partners purchased, through a nominee company, Moira Downs Pty Ltd (“Moira Downs”), a 3000 acre farm known as “Moira Downs” in the Riverina district of New South Wales. Under cross-examination, the applicant said that, as he recalled, the property was purchased in 1987.
In his witness statement, the applicant said that the members of the partnership included Mr David Munro, who was the director of farming operations, Mr Lightfoot, an engineer “who was director of technical works” and Mr Michael Gaylard, “who was qualified as an accountant and a solicitor” and who “was director of finance within the partnership”. In oral evidence, the applicant said that the partnership ended in the early 1990s.
Borrowings from Macquarie Bank Limited
On 30 June 1986, the partnership drew down a $50,000 advance from Macquarie Bank Limited (“MBL”), which is established by a letter from MBL to Mr Gaylard which is, apparently in error, dated 2 June 1986. The letter does not mention the interest rate to be applied to the advance. It was pleaded in an amended statement of claim filed in December 1992 by MBL in a proceeding brought in the Supreme Court of Victoria against the applicant and others that one of the terms governing the advance was that the members of the partnership (said to include the applicant and five others, being the three to whom the applicant referred in his witness statement and also Mrs Helen Munro and Mr James Rowe) would pay interest on the amount of the advance “at such rate or rates as charged by the Bank from time to time on accounts of a similar nature and type”.
A letter dated 7 July 1987 establishes that MBL then provided an additional fully drawn advance of $350,000 to the partnership “to assist in the purchase of a rural property known as ‘Moira Downs’ near Mathoura New South Wales”. It was stated in that letter that the security for the advance was a first registered mortgage over the property supported by an unlimited joint and several guarantee from the partners of the partnership and Rowlands Moira Downs Pty Ltd (later known as Moira Downs). Moira Downs granted a mortgage in favour of MBL. The partners (including the applicant) and Moira Downs executed an unlimited guarantee on 26 June 1987.
It was stated in the letter concerning that advance that the applicable interest rate was “1% margin over Macquarie Bank Rate presently 16% p.a.”. In the amended statement of claim to which I have referred, MBL pleaded that it was a term of that advance that “the Partners would pay interest to the Bank monthly on the said amount of $350,000 at the rate of 1% per annum above the Bank’s Base Lending Rate from time to time”.
Under cross-examination, the applicant gave oral evidence that MBL subsequently made further advances to the partnership:
“[T]here were numerous advances that were made by Macquarie over the years ... Wed were continually seeking and obtaining increases in overdrafts and drawing down, borrowing more and more from Macquarie. They were expanding the size of the facility that they were providing.”
There was no evidence before the Tribunal of the amounts of the further advances by MBL to which the applicant referred, nor of when they were made. Under cross-examination, the applicant said that the only records of those further advances were contained in bank statements, but that he was unable to produce them.
By way of contrast, in MBL’s amended statement of claim, it is pleaded after reference to the advance of $350,000 being made in July 1987 (referred to therein as being done “pursuant to the Second Facility Agreement”) merely that “other sums ... were debited to the Second Facility Account from time to time” and that the Second Facility Agreement was subsequently varied, with the $350,000 facility being replaced by an overdraft facility with a limit of $200,000.
MBL pleaded that the terms governing the varied facility included the following terms governing the payment of interest:
“[T]he Partners would pay interest to the Bank monthly on the balance outstanding on the said overdraft facility from time to time ... at the follow [sic] rate or rates:
(a)for or on balances equal to or less than $200,000
- 1.0 per centum per annum above the Base Rate subject to variation in the discretion of the Bank (subsequently varied to 1.5 per centum per annum above the Base Rate in October 1989);
(b)for or on balances over $200,000
- 3.0 per centum per annum above the Base Rate subject to variation in the discretion of the Bank (subsequently varied to 3.5 per centum per annum above the Base Rate in October 1989)[.]”
The proceeding brought by MBL to which I have referred was commenced in October 1992; in that proceeding, MBL sought, amongst other things to recover $85,140.98 in respect of the first facility and $1,519,403.58 in respect of the varied second facility “together with interest thereon at the relevant daily rate” from the date it had served notices of demand on the partners to the date of judgment. In that regard, MBL pleaded that the balance of the first facility and the varied second facility “is continuing to accrue interest at the relevant daily rate” as at the date upon which it had served its notices of demand in respect of those facilities on the partners. In the alternative, MBL claimed the sum of $1,616,128.80 from all and each of the members of the partnership, including the applicant, pursuant to the terms of the guarantee.
In his defence, which was filed in December 1992, the applicant denied that the partners were liable to pay the sum in dispute to MBL. He pleaded in the alternative that it was a term of the agreement between MBL and the partners, or that MBL represented to the partners, that any money advanced to them would not be repayable until “the farming activities carried on or to be carried on by the partnership “should become profitable on an aggregate basis, that is the aggregate profit of the farming activities outweigh [sic] the aggregate development costs incurred by the Partnership”, which he also pleaded had not occurred.
Under cross-examination, the applicant confirmed that the reference to “any money advanced” not being repayable until a certain event which had not yet occurred did occur comprised both principal and also interest in respect of the loans in dispute, so that his position at the time that his defence was filed was that the partnership did not owe anything to the bank.
Nevertheless, the applicant sought to settle the proceeding as between MBL and himself. Under cross-examination, the applicant said that, he believed that the settlement negotiations were initiated by him and that, although he was not certain, he believed that they commenced before his defence was filed, first by him engaging in discussions with a solicitor acting for MBL.
Under cross-examination, the applicant made the rather piquant revelation that he had an arranged meeting with that solicitor in the Law Library of Victoria, which “was chosen as neutral ground” because the solicitor refused to attend his chambers and “I couldn’t go to his office in those days”. It is apparent from that evidence that the library serves not only as a place of learning but also, for some, as a place of commerce.
At the applicant’s initial meeting with MBL’s solicitor, they discussed “[w]hether the bank would be willing to accept some substantially lesser figure that I could afford to pay than they were claiming” and that “we certainly got down to talking about figures fairly quickly”. Before the applicant “handed over the negotiations to” his own solicitors at Corrs Chambers Westgarth, he proposed to MBL’s solicitor and discussed with him the terms of a deed by which the proceeding would be settled, pursuant to which MBL would assign its rights against him to a third party and would in return receive a payment from that third party. Under cross-examination, the applicant accepted that his concern at that stage was not to have MBL sue him to judgment.
Consequently, on 18 January 1993, a deed was made between MBL, the applicant and Campus Martius Pty Ltd (the assignee envisaged by the applicant) (“Campus Martius”), being a “Deed of Assignment and Covenant not to Sue” (the “MBL Deed”). I say more about Campus Martius shortly in these reasons. Reference was made in the recitals to the deed to the same facilities granted by MBL to the partners of the partnership as were the subject of MBL’s amended statement of claim. The deed included the following and rather verbose provisions:
“The Assignee [Campus Martius] covenants to pay to the Bank on or before 30 January 1993 the sum of $175,000 ... in consideration of which, the Bank assigns to the Assignee the benefit of its equitable rights (but not its legal interest) as against Sandbach only (but not against any of the other Defendants) in the Proceedings, the Moneys Owing, the Guarantee, the Facilities and the subject matter of the Proceedings and as qualified and modified (if at all) by his Deed of Assignment and Covenant not to Sue. The Bank and Sandbach acknowledge that the Bank’s claims against Sandbach which are being assigned in accordance with the terms of this Deed in and in relation to the Proceedings, the Moneys Owing, the Guarantee and the Facilities are quantified at not less than $1,600,000.00 (inclusive of principal and interest).
... In further consideration of the payment to and receipt by the Bank of the said Sum and subject to and conditional upon the receipt of same, the Bank covenants that: -
(a)it will forthwith file in the Supreme Court of Victoria a Notice of Discontinuance of the Proceedings as against Sandbach; and
(b) unless so directed by the Assignee –
it will not take any further steps against Sandbach in respect of the Proceedings nor take any new or other steps to sue Sandbach in respect of the Moneys Owing, the Guarantee, or the Facilities nor will it in any way proceed to execute or enforce against Sandbach any judgment, decision or order whatsoever obtained by the Bank against the Defendants or any of them in respect of the Moneys Owing including any orders for costs.
... Notwithstanding the covenants given by the Bank ... Sandbach expressly acknowledges that: -
... nothing herein in any way whatsoever and howsoever (whether impliedly, expressly, directly or indirectly) is to be construed or interpreted as a release of his or any of the Other Defendants’ obligations in respect of any one or more of the Moneys Owing, the Proceedings, the Guarantee, the Facilities, and the subject matter of the Proceedings whether in his or their capacity as borrower, guarantor or howsoever otherwise;
... The parties agree that upon payment of the said Sum by the Assignee to the Bank, the Bank’s equitable and beneficial interest (but not its legal interest) and all powers, licences, authorities, rights and remedies vested in the Bank in respect thereof in the Proceedings, the Moneys Owing, the Guarantee, the Facilities and the subject matter of the Proceedings as against Sandbach only and as qualified and modified (if at all) by this Deed of Assignment and Covenant Not to Sue and the transactions herein contained shall be automatically assigned in equity to the Assignee who shall have the same rights and benefits thereto as the Bank has but as qualified and restricted (if at all) by this Deed of Assignment and Covenant Not to Sue. The intention of this Deed is that the Bank shall retain its right, title and interest in and to the Proceedings, the Moneys Owing, the Guarantee, the Facilities and the subject matter of the Proceedings against the Other Defendants.
... The Bank covenants that it will hold on trust for, and forthwith pay to, the Assignee any amount paid to it or recovered by it whether pursuant to any judgment or otherwise by or on behalf of Sandbach or his estate (including amounts in respect of moneys obtained from Sandbach by co-obligors by way of contribution under the Facilities, the Guarantee, the arrangement constituting the Partnership or otherwise) less any costs or expenses incurred by it ... in so receiving, recovering or paying the same.”
Campus Martius, being the assignee under the terms of the MBL Deed, was registered on 10 December 1992. In oral evidence, the applicant said that the company was registered for the specific purpose of being the assignee under the MBL Deed. The initial directors of Campus Martius were the applicant’s wife, Mrs Maria Sandbach, and Mr Michael Pryse, a partner at Corrs Chambers Westgarth, being the firm which ultimately acted for the applicant in the settlement negotiations leading to the execution of the MBL Deed. In 1994, the applicant’s brother-in-law, Mr Anthony Mantello, replaced Mr Pryse as a director of the company when he resigned as a director. Campus Martius was deregistered in May 2014.
Under cross-examination, the applicant said that he discussed with his wife prior to the settlement of the proceeding brought by MBL “that the – a third party payment was – was preferable both on the part of the bank and me, and that it would be best to have a company make that payment rather than Maria personally, and that was the advice that I’d received from Corrs and she was willing to become a director of that company.”
The applicant said that his decision to enter into the deed with MBL and with Campus Martius as assignee was made by him “with a lot of faith and confidence that my wife as a director would not ever look to enforce Campus Martius’ rights and her brother would [not] [sic] ever look to enforce Campus Martius’ rights against me at a time that it wasn’t convenient to do so”, although as I have said, at the time of execution of the deed, the applicant’s solicitor was a director of Campus Martius, not his brother-in-law. Furthermore, he accepted that “my relationship with Campus Martius went a long way beyond a commercial, strictly commercial relationship because of the identity of the directors”. The applicant also accepted that, by the execution of the MBL Deed, he had removed the hostile lender seeking to recover the sum claimed and replaced it with what he hoped was, as put to him, a “benevolent, benign company”.
The applicant’s evidence given under cross-examination with respect to events as between him and Campus Martius following the execution of the MBL Deed was, at times, evasive. The applicant said that he never received any demand from Campus Martius for payment in respect of the subject matter of the assignment. He said that he “made payments voluntarily by agreement to Campus Martius”. It was somewhat surprising that at first instance the applicant was apparently referring in this regard to annual payments of between $100 and $300 he made to the Australian Securities and Investments Commission from 1994 to 2014 in respect of fees owing by Campus Martius.
The applicant then said that “fairly shortly after the assignment was entered I did make significant payments to Campus Martius” which were made “within the first year or two after the assignment”. He said that the payments were made by cheque, made payable to his wife at the direction of Campus Martius, which he had agreed to do upon her oral request. The applicant explained that his wife had loaned to Campus Martius the sum of $175,000 that it was required to pay to MBL under the terms of the MBL Deed. He said that “[b]y agreement with my wife and at her request I paid money which I owed to Campus Martius at Campus Martius’ direction to her in reduction of the loan that she had made to Campus Martius”. The applicant’s evidence was that he made “significant” payments to his wife totalling $175,000 over the period from “very shortly after the assignment” until 1994, in amounts of “a few thousand a week”.
The applicant’s evidence was ambiguous in respect to the basis upon which he owed to Campus Martius the sum paid by Campus Martius to MBL for the assignment under the MBL Deed. Indeed, despite the evidence quoted above, it was apparent from the balance of his evidence given under cross-examination that he understood that the effect of the MBL Deed was that he would be required to pay to Campus Martius the amount of the consideration paid by it under the MBL Deed, that is to say the amount of $175,000, rather than to pay any amount of the debts the subject of the assignment. In any event, he understood that he was obliged to pay $175,000 to his wife at Campus Martius’ direction at a time convenient to him, and not some larger amount, despite the quantum of the assigned debt.
There was no documentary evidence before the Tribunal of any direction being made by Campus Martius for the applicant to make such payments to his wife, nor of such payments being made, nor of any loan being made by the applicant’s wife to Campus Martius. Nor was the applicant’s wife called to give evidence to corroborate the applicant’s oral evidence.
There was no evidence before the Tribunal that MBL was ever directed by Campus Martius pursuant to the terms of the MBL Deed to take any further action against the applicant with respect to the moneys owing under the bank facilities the subject of the assignment.
Borrowings from Sandhurst Trustees Limited
A letter dated 17 March 1988 and the applicant’s oral evidence establish that in March 1988 Moira Downs borrowed $270,000 from Sandhurst Trustees Limited (“Sandhurst”); of that amount, $266,503.25 was paid to MBL; the applicant said that was done to reduce the debt owed to MBL. The loan from Sandhurst was secured by a mortgage over the “Moira Downs” property granted by Moira Downs in favour of Sandhurst, apparently dated 15 March 1988, and also by a guarantee said to be given by each of the partners, although under cross-examination the applicant confirmed that the copy of the guarantee before the Tribunal does not bear his own signature, merely that of the other partners.
By letter dated 19 October 1989, a request was made on behalf of Moira Down for Sandhurst to “increase the mortgage loan by $120,000.00 to assist the company in the completion of a purchase of an adjoining property”. The document recording the variation of the mortgage, apparently dated 20 October 1989, was not before the Tribunal. However, an annexure to the variation of mortgage, being a guarantee given by each of the partners in the partnership in respect of the varied mortgage was before the Tribunal, and bore the applicant’s signature.
In 1993, Sandhurst took possession of the property and sold it. Consequently, in September 1993 Moira Downs Pty Ltd, the applicant and some of his partners commenced proceedings in the Supreme Court of Victoria, claiming that Sandhurst “failed to take all reasonable steps to obtain a fair price for the land”, as pleaded in the statement of claim. Sandhurst brought a counterclaim for the amount of $304,438.55 against Moira Downs (as the mortgagor of the property) and against the applicant and other relevant partners (as guarantors).
Under cross-examination, the applicant said that his solicitors negotiated with Sandhurst about the settlement of the proceedings and proposed to Sandhurst the “same structure” as had been used in the settlement of the proceeding brought by MBL; that is to say that Sandhurst’s rights against him would be assigned to Campus Martius, in return for a payment from Campus Martius.
By a written agreement dated 22 December 1994 between the applicant and the other plaintiffs and Sandhurst, the plaintiffs acknowledged that they were indebted to Sandhurst in the sum of $392,082.56 and the plaintiffs and Sandhurst each promised to file and serve a notice of discontinuance with respect to the proceedings.
Also before the Tribunal was an undated agreement between Sandhurst and Campus Martius by which Sandhurst’s rights against him were assigned to Campus Martius for the sum of $30,000. That agreement signed on behalf of Sandhurst; under cross-examination the applicant said that it was a counterpart and was executed at the same time as the other agreement. He said further that he was aware when the other agreement was executed that assignment was to be made.
The agreement between Sandhurst and Campius Martius as assignee (the “Sandhurst Agreement”) relevantly provided:
“In consideration of the payment of the sum of $30,000 by the assignee and others to Sandhurst ... Sandhurst hereby assigns to the assignee absolutely all its right, title and interest in the Debt as against Alan ... Sandbach together with all powers, licences, authorities, rights and remedies vested in Sandhurst in respect of the debt and any rights which Sandhurst may presently have against Sandbach.
Sandhurst shall forthwith discontinue its counterclaim in the proceedings in the Supreme Court ...
Sandhurst agrees that unless so directed in writing by the assignee it will not take any step to pursue any claim against Sandbach.
Sandhurst shall if so directed by the assignee ...:
... Institute, prosecute or settle proceedings against Sandbach to recover the debt or any part thereof ...
Enforce or compromise any judgment or order against Sandbach in respect of the debt or any part thereof ...
Provided always that the assignee indemnifies Sandhurst with respect to all and any costs, expenses and disbursements reasonably incurred by Sandhurst and any damage suffered by Sandhurst in complying with any such direction by the assignee ...
Sandhurst agrees that it will hold on trust for and forthwith pay to the assignee any amount paid to it or recovered by it by from or on behalf of Sandbach or his estate.”
PROCEDURAL HISTORY
In April 2001, following correspondence concerning the applicant’s failure to lodge income tax returns for the 2005, 2006 and 2008 income years by their respective due dates, the Commissioner issued income tax assessments to him for each of those years.
The assessments for the 2005 and 2006 income years were made under s 167 of the Income Tax Assessment Act 1936 (Cth) (the “ITAA 1936”), which relevantly provides that if “any person makes default in furnishing a return ... the Commissioner may make an assessment of the amount upon which in his or her judgment income tax ought to be levied”. Those default assessments were based upon the applicant’s Business Activity Statements lodged in respect of those income years. The assessment for the 2008 income year was made under s 166 of the ITAA 1936, based upon the applicant’s subsequently lodged return for that year, but disallowing claimed primary production losses said to be in the sum of $2,625,390.
The Commissioner assessed the applicant’s taxable income for the relevant years of income as being in the amount of $241,209 for the 2005 income year, $314,966 for the 2006 income year and $258,472 for the 2008 income year.
The Commissioner also issued penalty assessments to the applicant for failing to provide a document, in the amount of $78,246 for the 2005 income year and $104,171 for the 2006 income year, calculated on the basis of 75% of the applicant’s tax payable for those years respectively.
In his objection lodged in February 2012, the applicant stated that he was objecting to the income tax assessments for the 2005, 2006 and 2008 years. He relied upon the following grounds:
“The decisions are incorrect as the assessments were issued on the basis that returns had not been lodged. In fact returns had been lodged for each relevant tax year before the assessments were issued.
Further and in the alternative, the assessments failed to apply losses carried forward from earlier income years set out in each of the relevant returns.” (All written in capital letters in the original.)
The applicant did not object to the penalty assessments in respect of the 2005 and 2006 income years.
As I have said, the applicant’s objection was disallowed; consequently, the applicant applied to the Tribunal for review of the objection decision, pursuant to s 14ZZ(1)(a)(i) of the TAA.
SUBMISSIONS
The applicant did not press the first ground of objection at the hearing of this proceeding. Nor did he press his contention that he was entitled to deductions for interest expenses in respect of loans made by a further entity, Advance Commercial Finance Limited (“Advance”).
As the Commissioner noted in his written submissions lodged after the hearing in accordance with the Tribunal’s directions, the applicant did not specify in his statement of facts, issues and contentions, nor in his own written submissions lodged after the hearing, any legislative provision pursuant to which he contended that he was entitled to claim deductions in respect of the relevant years.
In his brief written submissions, the applicant submitted that his oral evidence, certain documents upon which he relied, particularly “management accounts”, the “loan documents”, a letter from Mr Munro to MBL dated 21 June 1991 and a primary production questionnaire completed by him upon request by the Commissioner upon receipt of his objection demonstrated that at the relevant time he was carrying on business as a member of the partnership within the meaning of s 6(1) of the ITAA 1936 and as defined in s 995(1) of the ITAA 1997. In his written submissions in reply, the applicant submitted that the borrowings from MBL referred to in MBL’s amended statement of claim were made by the members of the partnership in the course of its business and that the MBL Deed was an “arm’s length commercial transaction which resolved the dispute between the parties”.
The applicant submitted further that the Tribunal “ought to accept his oral evidence as to the calculation of the losses incurred by him”, without specifying which aspect of his evidence constituted such evidence. He submitted that that evidence was corroborated by documentary evidence, particularly the “loan documents”, the MBL Deed and the Sandhurst Agreement. In his written submissions, the applicant set out calculations of the amount of interest he submitted had “accrued” in respect of his debt to MBL during the relevant years of income. He noted that the MBL Deed stated in the recitals that his debt to MBL stood at $1,616,128.80 as at 4 September 1992 and that interest compounded monthly. He then set out calculations in his submissions, applying an interest rate of 16% per annum to that debt to demonstrate that by the end of the 2005, 2006 and 2008 years it stood at figures which by the end of the 2008 year amount to almost $18 million. He worked out the increases in those amounts as between years to say that the interest accrued on the MBL debt during the relevant years was $1,637,420, $1,919,400 and $2,637,800 respectively.
It is relevant to note that the applicant referred in that context to the sum of $175,000, presumably being the amount he had in oral evidence said he had paid to his wife for Campus Martius following the execution of the MBL Deed as having been “paid in reduction” of the debt to MBL.
In his written submissions, the applicant also set out calculations of the amount of interest he submitted had accrued in respect of the debt to Sandhurst set out in the Sandhurst Agreement. He noted that the Sandhurst Agreement stated in the recitals that the relevant debt was in the sum of $392,082.56 and that it was stated in the recitals that a rate of 21% applied, compounding monthly, although in fact there is no such statement concerning compounding. He then set out calculations made accordingly, stating that by the end of the 2008 year the debt to Sandhurst had reached over $6 million and that, accordingly, the interest “accrued” on that debt in the relevant years of income was $605,580, $745,730 and $1,130,860. He then submitted, as he had in respect of the debt to MBL, that the amount of $30,000, presumably being an amount he asserted had been paid to his wife following the execution of the Sandhurst Agreement was paid “in reduction of the debt”.
In conclusion with respect to the income tax assessments in issue, the applicant submitted that:
“[a]ccordingly, it is clear that the deductions properly claimed by the Applicant in the [2005] and [2006] [income] years far exceed the income earned by him as disclosed in his returns. It is also clear that the carried forward losses available in 2005 of $5,932,134 and which increased by substantial amounts in the 2006 and 2007 years (as is apparent from the above calculations) far exceed the income earned by the Applicant in the 2008 year”.
I note that the applicant’s reference to the figure of $5,932,134 was said to be taken from a copy of his income tax return for the 2006 income year, which, as I have indicated, did not in fact form the basis of his assessment for that year, being a default assessment made under s 167 of the ITAA 1936.
I turn now to the Commissioner’s detailed written submissions. The Commissioner submitted that he understood the applicant to be contending that each of the income tax assessments in issue is excessive because in each year (being, as I have said, the 2005, 2006 and 2008 years of income) he was entitled to deductions under s 8-1 of the Income Tax Assessment Act 1997 (Cth) (the “ITAA 1997”) or under Div 36 of the ITAA 1997, which concerns deductions for certain tax losses of earlier income years, of such amounts so as to reduce his taxable income for each relevant income year to nil.
The Commissioner noted that the applicant would require leave pursuant to s 14ZZK of the TAA to rely on s 8-1 of the ITAA 1997 as a basis of deductibility, given that the former provision mandates that “[o]n an application for review of a reviewable objection decision ... the applicant is, unless the Tribunal orders otherwise, limited to the grounds stated in the taxation objection to which the decision relates”. The Commissioner stated that he would not oppose such leave being granted. In his written reply, the applicant sought such leave to rely upon s 8-1. The Tribunal will grant that leave.
The Commissioner’s primary contention was that the applicant had not discharged the onus of proof prescribed by s 14ZZK of the TAA in respect of the assessments in issue. In summary, the Commissioner submitted that “the applicant’s case is one of assertion, not evidence”. The Commissioner enumerated the numerous deficiencies in the evidence before the Tribunal in terms of records one would ordinarily expect to be available as evidence in the circumstances, particularly given the large deductions to which the applicant claimed to be entitled. He submitted that the applicant could not take advantage of the fact that, according to his explanation given to the Tribunal in oral evidence, he “what I lacked is a good filing system” and “still do lack a good filing system unfortunately”. The Commissioner also pointed to the lack of corroborating evidence from witnesses other than the applicant, which he submitted was required in the circumstances.
Shortly stated, the Commissioner addressed various deficiencies in respect of the evidence upon which the applicant did rely, contending that he failed to prove his true taxable income for the years in question and that he had failed to prove the quantum of the deductions to which he contended he was entitled. Amongst other things, the Commissioner noted that in the applicant’s oral evidence given with respect to deductions he had claimed in his returns for the 2006 and 2008 years, he had said that the amounts claimed had been calculated by reference to bank statements received from MBL which he had at the time, those amounts in fact being lower than the relevant amounts set out in the applicant’s written submissions, even though the deductions claimed in those returns also included amounts for deductions then claimed with respect to loans said to have been made by Advance. However, the applicant was unable to produce those bank statements.
Furthermore, the Commissioner said that the applicant had not explained why he had used 16% as the applicable interest rate in his calculations in his written submissions concerning the debt to MBL, given that the rate was not fixed. I note that the applicant in his written submissions in reply said that that rate was referred to in the MBL Deed, which as I have said was made in 1993. In fact, that rate was instead referred as being the present rate of interest in the letter dated 7 July 1987 concerning the terms governing the $350,000 facility granted by MBL. Accordingly, it follows that, as the Commissioner submitted, not only did the applicant’s calculations concerning the MBL debt in his written submissions treat 16% as a fixed rate when the rate was not fixed; further, the applicant was in fact extrapolating from a rate set in 1987 so as to make calculations relating to period some two decades later.
The Commissioner also submitted that the applicant had failed to adduce sufficient evidence to prove that the partnership carried on a business for the purposes of s 8-1 of the ITAA 1936 and that the evidence he relied upon in that regard was, to an unacceptable extent in the circumstances, uncorroborated self-serving testimony to which little weight should be given. Amongst other things, he pointed to the fact that the primary production questionnaire completed by the applicant was based largely on information received by the applicant from Mr Munro (who did not give evidence), the unexplained discrepancies in the financial statements upon which the applicant relied, which had apparently been prepared by Mr Gaylard (who also did not give evidence). He also pointed to the lack of evidence concerning what was in fact done by the partnership at the Moira Downs property.
In the alternative, the Commission submitted that the applicant was not entitled to deductions under s 8-1 of the ITAA 1997 in respect of the claimed interest expenses during the relevant years of income as the terms of the provision were not satisfied in any event. Amongst other things, the Commissioner focussed on what he contended to be the critical consequences of the settlement of the MBL proceeding and Sandhurst proceedings, particularly the terms of the MBL Deed and the Sandhurst Agreement and the equitable assignments they effected in favour of Campus Martius. The Commissioner also submitted that it was significant in that regard that the relationship between the applicant and Campus Martius was not an arm’s length relationship.
In his written submissions in reply, the applicant submitted with respect to the significance of the assignments made under the MBL Deed and [Sandhurst agreement] that what mattered is that:
“the debts remain owing to MBL and Sandhurst respectively at law. It is for the legal creditors to enforce, albeit at the direction of [Campus Martius]. It [is] [sic] incontestable that the debts (the very same debts incurred for the business purposes of the Wyvern partnership business) remain due and owing and that interest continues to accrue thereon”.
The Commissioner also submitted that the applicant’s liability to Sandhurst was merely that of a guarantor and that he was therefore never liable to pay interest in respect of the advances made by Sandhurst to Moira Downs and therefore could not properly be said to have incurred interest expenses in that regard in any event; the applicant’s liability as a guarantor to make any payment in respect of the Sandhurst advances to Moira Downs was of a capital nature and therefore not deductible by reason of s 8-1(2)(a) of the 1997 Act.
In his written submissions in reply, the applicant submitted that the applicant’s liability to Sandhurst were not merely in the capacity of a guarantor as the “partnership agreed with [Moira Downs] to pay the whole of the Sandhurst interest as part of the agreement whereby it had possession of Moira Downs” so that such interest was a business expense of the partnership. In that regard, he relied upon a profit and loss statement in the financial statements to which I have referred and what was said to be a cash flow analysis of the partnership.
The Commissioner submitted that no deduction for tax losses was allowable to the applicant for any of the relevant income years, for the following reasons. In the applicant’s tax return lodged for the 2006 income year, he had claimed “[p]rimary production losses carried forward from earlier years” in the amount of $5,932,134. In oral evidence, the applicant said that such “earlier income years” were the income years from 2001 onwards. The Commissioner submitted that the applicant had not established on the evidence before the Tribunal, and could not establish, given the lack of records which might serve to establish such matters, that he could deduct any amount in the earlier income years, let alone an amount that exceed his assessable income in respect of any of those years. The first two steps for the calculation of a tax loss in Div 36 could therefore not be undertaken.
The Commissioner submitted further that the applicant could not establish that he had suffered tax losses in the 2005 which could be deducted in the 2006 or 2008 income years because he was not entitled to the deductions claimed under s 8-1 in the 2005 year, and the same applied in respect to the 2006 year in answer to the applicant’s contention that he incurred a tax loss that year which could be deducted in the 2008 year. The Commissioner also submitted that the applicant had not established on the evidence that he incurred a tax loss in the 2007 income year which could be deducted in the 2008 income year.
In his written submissions in reply, the applicant submitted that the “carried forward losses referred to in the 2006 income year ... are evidenced by the return and corroborated by the interest calculations” in his written submissions, and that “[p]lainly income of the magnitude recorded in the relevant returns was substantially exceeded by the interest accrued on the MBL and Sandhurst loans in the years 2001-2005”.
CONSIDERATION
Onus of proof – s 14ZZK of TAA
The applicant “has the burden of proving ... that the assessment is excessive or otherwise incorrect and what the assessment should have been” (s 14ZZK(b)(i) of the TAA). A taxpayer bears the burden of “establishing affirmatively that the amount of taxable income for which he has been assessed exceeds the actual taxable income which he has derived during the year of income” (George v Federal Commissioner of Taxation (1952) 86 CLR 183 at 201; Federal Commissioner of Taxation v Dalco (1990) 168 CLR 614). The Commissioner does not bear any onus requiring him to show that the assessment was correctly made (Gauci v Federal Commissioner of Taxation (1975) 135 CLR 81 at 89).
In a proceeding such as this, being one where s 14ZZK(b)(i) of the TAA applies, the correct or preferable decision to be made by the Tribunal under s 43 of the Administrative Appeals Tribunal Act 1975 (Cth) (the “AAT Act”) will depend upon whether the applicant has discharged the burden of proving that the assessment is excessive (Rawson Finances Pty Ltd v Commissioner of Taxation [2013] FCAFC 26 at [89]-[90], [116] per Jagot J (Nicholas J agreeing)). If the Tribunal cannot be satisfied that, on the facts as found by it, the taxpayer has proved that the assessment is excessive, the application for review must be dismissed (Rigoli v Commissioner of Taxation [2014] FCAFC 29 at [26] per Edmonds, Jessup and McKerracher JJ).
In challenging an assessment, it is for the taxpayer “to establish any fact demonstrating the assessment to be excessive” (Hua-Aus Pty Ltd v Commissioner of Taxation [2010] FCA 341 at [22] per Edmonds J, citing Danmark Pty Ltd v Federal Commissioner of Taxation; Forestwood Pty Ltd v Federal Commissioner of Taxation (1944) 7 ATD 333 at 337). It “follows that if no evidence is adduced ...; if such evidence as is adduced is not a reasonable explanation of why the assessment is excessive and in consequence, is not accepted as discharging the onus; or if such evidence is otherwise rejected, the [assessment] must prevail” (Hua-Aus at [23], citing Gauci (1975) 135 CLR 81 at 89 per Mason J).
As Jessup J noted in Rawson Finances at [62] (quoting Minister for Immigration and Ethnic Affairs v Pochi (1980) 31 ALR 666 at 685), the Tribunal must proceed by reference to “rationally probative evidence” rather than on mere “suspicion or speculation”. The Tribunal must bear in mind the distinction between “permissible inference” and “impermissible conjecture” (see Rawson Finances at [88] per Jagot J).
The manner in which the taxpayer can discharge the burden of proof varies with the circumstances (Federal Commissioner of Taxation v Dalco (1990) 168 CLR 614 at 624 per Brennan J, cited with approval by the Full Federal Court in Mulherin v Federal Commissioner of Taxation [2013] FCAFC 115 at [45]; Rigoli v Commissioner of Taxation [2014] FCAFC 29 at [14]). While it is for the taxpayer “to show on the balance of probabilities what the true taxable income was”, in some cases the Tribunal “might be able, on the evidence, without reaching a view on the quantification of the taxable income as a matter of mathematical precision, to determine that the taxable income was not more than a particular figure (Imperial Bottleshops Pty Ltd & Anor v FCT (1991) 91 ATC 4546 at 4562-4563 per Hill J). Similarly, there will be cases where the Tribunal “would be justified finding an assessment to be excessive, and the extent to which it is, without a precise figure being determined” (Allard v Federal Commissioner of Taxation (1992) 24 ATR 493 at 499 citing Ma v FCT (1992) 23 ATR 485 at 492; Trautwein v Federal Commissioner of Taxation (1936) 56 CLR 63 at 88).
As I have said, the income tax assessments issued to the applicant for the 2005 and 2006 income years were default assessments made under s 167 of the ITAA 1936, while the income tax assessment issued to him for the 2008 year was made under s 166 of the ITAA 1936. Irrespective of whether an assessment has been made under s 166 or s 167 of the ITAA 1936, a taxpayer must prove that the assessed amount upon which income tax has been levied exceeds his or her true tax liability (see Federal Commissioner of Taxation v Dalco (1990) 168 CLR 614 at 621 per Brennan J).
However, a taxpayer faces a different task in challenging an assessment made under s 166 than in challenging an assessment made under s 167. In the case of an assessment made under s 166 based upon a return lodged by a taxpayer, it is generally open to a taxpayer to accept the income components of the assessment and to challenge only the extent of the deductions allowed by the Commissioner (Commissioner of Taxation v Rigoli [2013] FCA 784 at [4] per Pagone J). In Rigoli, Pagone J explained the different task facing a taxpayer in challenging an assessment made under s 167 as follows:
“The figure arrived at by the Commissioner under s 167 may in any given case be based upon calculations similar to those where the taxpayer has furnished a return under s 166, but an assessment under s 167 is fundamentally different from one under s 166. A taxpayer seeking to establish that an assessment under s 167 is excessive needs to establish not that some element in the assessment is wrong but that “the amount upon which in [the Commissioner’s judgment] income tax ought to be levied’ was the taxpayer’s actual taxable income. The primary obligation of a taxpayer is to furnish a return of income under s 166 and an assessment under s 167 does not provide a means by which taxpayers may be relieved of their obligation to establish their actual taxable income. It is, rather, a means by which the Commissioner may impose a liability where the taxpayer has failed to furnish a return.”
(see also Rigoli v Commissioner of Taxation [2015] FCA 803 at [8] per Pagone J.)
The subject matter of challenge to an assessment under s 167 is not to the individual elements of assessable income and deductions which together would have made up taxable income if the assessment had been made under s 166. The “fundamental difference between the subject matter of assessment as between the two provisions” arises because s 166 “is concerned with assessments based upon returns filed by the taxpayer whilst s 167 is not”; the latter provision does not require the Commissioner to make an assessment of a taxpayer’s taxable income but, in contrast to s 166 has the effect of deeming the amount which upon the Commissioner’s judgment income tax ought to be levied to be the taxpayer’s taxable income (Rigoli at first instance at [10]-[11] per Pagone J).
Absent an agreement confining the issue for determination, the Commissioner is entitled to rely upon any deficiency in proof of the excessiveness of the amount of taxable income assessed. The taxpayer must establish not that the Commissioner’s assessment under s 167 was wrong, but, rather, what the actual amount should be, which must be proved on the balance of probabilities (Federal Commissioner of Taxation v Dalco (1990) 168 CLR 614 at 624-6 per Brennan J, cited with approval in Rigoli at [9], [10] and by the Full Federal Court on appeal in Rigoli v Commissioner of Taxation [2014] FCAFC 29 at [14], [25]). As Hill J said in Imperial BottleshopsPty Ltd & Egerton v Federal Commissioner of Taxation (1991) 91 ATC 4546 at 4552, “[i]t is not sufficient to merely show that the assessment is in error, thereby leaving a ‘blank’” (apparently quoting Trautwein at 87 per Latham CJ).
I turn now to the significance of documentary evidence in the context of the burden of proof borne by taxpayers under Pt IVC of the TAA. In Imperial Bottleshops at [4552], Hill J made the following statement about the significance of documentary evidence in the context of challenges to tax assessments which is particularly germane to this case:
“A taxpayer who does not keep records of his deductible outgoings faces a very difficult task. If he goes into the witness box and swears that he has incurred the outgoings he is making a self-serving statement. That does not necessarily mean that he is not to be believed. Such a statement, like statements of purpose, or object of state of mind must, however, be ‘tested most closely, and received with the greatest caution’ ... It would, of necessity, be a rare case indeed where a taxpayer, claiming to have expended a very large sum of money on trading stock and other business expenses, would succeed in satisfying the burden of proving that the assessment is excessive. Some other corroborative evidence would normally be required which makes it more probably than not that his sworn testimony is to be believed. It must however, be borne in mind that the evidence of a taxpayer is not to be regarded as ‘prima facie unacceptable’’
More recently, the Full Federal Court acknowledged the well-settled principle that “evidence of witnesses who have an interest in the outcome of litigation needs to be approached critically” (Federal Commissioner of Taxation v SNF (Australia) Pty Ltd (2011) 193 FCR 149 at [82] per Ryan, Jessup and Perram JJ).
A taxpayer’s explanation that he is unable to produce records because, for example, they have not been kept or have been lost or misplaced does not obviate the need to discharge the burden of proof – such an explanation is no substitute for such records as might serve to discharge that burden. Another passage germane to this proceeding appears in Trautwein, in the judgment of Latham CJ at 87:
“In the absence of some record in the mind or in the books of the taxpayer, it would often be quite impossible to make a correct assessment. The assessment would necessarily be a guess to some extent, and almost certainly inaccurate in fact. There is every reason to assume that the legislature did not intend to confer upon a potential taxpayer the valuable privilege of disqualifying himself in that capacity by the simple and relatively unskilled method of losing either his memory or his books.” (Emphasis added.)
For various reasons, I am not satisfied that the applicant has proved that the assessments in issue are excessive for the purposes of s 14ZZK of the TAA and, accordingly, the application for review must be dismissed.
However, it is apt to note at this point that, as I explain later in these reasons, I have also concluded that the true impediment to the applicant’s success in this proceeding lies in the fact that he was not entitled to any deductions pursuant to s 8-1 of the ITAA 1997 in respect of interest expenses arising from the loans made by MBL to the partnership, nor those made by Sandhurst to Moira Downs, in relevant years of income, particularly because such interest expenses could not properly be said to have been “incurred” for the purposes of s 8-1(1) in those years. Furthermore, I have concluded that the applicant is not entitled to his claimed deductions pursuant to Div 36 of the ITAA 1997 in those years of income.
Shortly stated for now, I have concluded that the claimed interest expenses were not “incurred” for the purposes of s 8-1(1) in the 2005, 2006 and 2008 years given the terms and effect of the MBL Deed and Sandhurst Agreement, which as I have said were executed in 1993 and 1994 respectively, and also given the arrangements and relationship between the applicant and Campus Martius.
It is apt to note that the existence of these documents and arrangements only came to light in the course of the applicant’s evidence given under cross-examination, after which the relevant documents were produced by him.
It follows that I do not propose to explore all aspects of the deficiencies in the applicant’s evidence and proof and the ways in which he has failed to discharge the onus of proof in a detailed manner, because it remains the case that he is unable to prove that the assessments are excessive because on the facts of this case, the claimed interest expenses are not deductible (see McCormack v Commissioner of Taxation (1979) 143 CLR 284).
Accordingly, it suffices to say the following. First, I note that it is clear that in respect of the assessments for the 2005 and 2006 years of income, being assessments under s 167 of the ITAA 1936, that the applicant, by confining his case to the deductions in issue, has failed to discharge the burden of proof he bears. That much is clear given the principles enunciated in Rigoli and of itself, means that the application must fail in so far as it concerns the 2005 and 2006 assessments. However, given that the significance of the distinction between assessments made under s 166 and s 167 was not the focus of the case as put by the Commissioner, the Tribunal’s decision does not turn on the significance of the fact that the assessments for the 2005 and 2006 income years were default assessments.
In general terms, the applicant’s case was deficient because of the paucity of contemporaneous or other probative documentary evidence and the lack of any corroborating evidence from other witnesses. Those deficiencies have significant consequences in this case given that, on this own evidence, the applicant’s involvement in the day-to-day activities of the partnership was limited and he was significantly reliant on information provided by those partners who had greater involvement. The applicant frequently responded in cross-examination that information bearing upon the question asked would be contained in certain documents which he no longer has in his possession. He explained the absence of some witnesses by adverting to his relationship with those witnesses as now being acrimonious. As the relevant authorities make clear, such excuses are no substitute for proof.
As the Commissioner contended, the applicant’s case was largely based on assertion rather than probative evidence and his own self-serving testimony, which was often vague and general, and sometimes evasive. As Hill J said in Imperial Bottleshops at [31], “[s]ome other corroborative evidence would normally be required which makes it more probable than not that this sworn testimony is to be believed”. To the extent that there was such corroborative evidence in this case, I am not satisfied that it answered that description, particularly given that the applicant was claiming to have incurred such significant interest expenses in the relevant years of income, such as to make his taxable income nil in each instance.
To the extent that the applicant did rely on documentary evidence, often that evidence was deficient or insufficiently probative. In particular, to the extent that the applicant sought to prove certain matters by pointing to figures contained in income tax returns he had lodged, those returns are not of themselves proof of the information they contain; they are not primary documents nor contemporaneous documents. Consonantly, the primary production questionnaire provided to the Commissioner after the applicant’s objection was lodged is neither a primary nor a contemporaneous document which might serve to prove the matters referred to therein. To the extent that the applicant relied upon financial statements said to have been prepared for the partnership, I accept the Commissioner’s submission that they are unreliable documents which contain a number of unexplained deficiencies and that in the circumstances the lack of corroborating evidence from the partner who was said to have prepared them was significant.
I note that the applicant also relied upon the fact that MBL and Sandhurst had made the loans to the partnership and a collection of other miscellaneous documents so as to establish that the partnership had carried on a business. While those documents bear some weight in that regard, it is not enough to cobble them together with the applicant’s oral evidence.
In Spriggs v Commissioner of Taxation (2009) 239 CLR 1, the High Court stated that the “existence of a business is a matter of fact and degree” (at [59]) and that to ‘determine whether a taxpayer is conducting a business and the scope of that business, as said in a different context, ‘it is necessary to make both a wide survey and an exact scrutiny of the taxpayer’s activities’” (at [60]). I accept the Commissioner’s submission that the Tribunal, given the various deficiencies in the evidence before it, is not in a position to undertake those tasks in this case. The oral and documentary evidence upon which the applicant relied do not suffice.
I turn now to the applicant’s case in so far as it was concerned with the quantum of the deductions for interest expenses he claimed to have incurred in the relevant years of income. I note first that the applicant has claimed deductions based on the full amount of interest he claimed had accrued with respect to the loans made by MBL and Sandhurst, despite being only one of a number of partners in the partnership, presumably on the basis of his joint and several liabilities as a partner.
It seems to me that an issue arises as to whether that claim is sustainable given that, during the years in which the partnership existed, his assessable income would have included his individual interest as a partner in the net income of the partnership (whatever that share in fact was), and hence, in effect, he would only have been entitled to a share of the allowable deductions for interest expenses (see s 92 of the ITAA 1936 and the definition of “net income” in s 90 of the ITAA 1936). However, as that issue does not appear to have been raised by the Commissioner at any stage, I have not considered whether it is a real issue nor considered it in any other respect, given my ultimate conclusions.
I accept the Commissioner’s submission that there is insufficient evidence before the Tribunal to found any proper conclusion as to the quantum of interest which might be said to have been incurred by the applicant in the relevant years of income with respect to the loans made to the partnership by MBL. On the applicant’s evidence, the amounts claimed in those returns which were before the Tribunal were based on bank statements received from MBL which he was unable to produce. The amounts calculated in his written submissions were larger, and moreover were based upon an interest rate used by the applicant to extrapolate some two decades into the future, despite the fact that it was clear from that correspondence that the rate was not fixed and there was no evidence dated after 1987 before the Tribunal as to the applicable rate. Accordingly, the rate used by the applicant in his calculations in his written submissions was essentially arbitrary with respect to the years of income in issue.
For the Tribunal to make any finding about the amount of interest that might have been incurred in any of the relevant years of income with respect to the loans made by MBL to the partnership would involve “impermissible conjecture” of the kind described in Rawson Finances. Leaving aside the particular failure by the applicant to discharge the burden of proof with respect to the default assessments for the 2005 and 2006 income years, this is not a case where the Tribunal can properly be satisfied that the applicant’s taxable income for the relevant years of income must necessarily have been nil, as the applicant contends, by reference to interest expenses with respect to the MBL loans to the partnership, nor indeed that the assessments were necessarily excessive to a sufficiently specific extent on that account (see Imperial Bottleshops at 4562-4563; Allard at 499).
With respect to the applicant’s claimed deductions for interest expenses said to have been incurred by him with respect to the loans made by Sandhurst to Moira Downs, I accept the Commissioner’s submission that, based on the evidence before the Tribunal, the applicant’s liability to Sandhurst was only ever borne qua guarantor and that he was not liable to pay interest on the loans made by Sandhurst. Rather, Moira Downs, being the borrower, incurred interest expenses with respect to those loans.
I am not satisfied that there was an agreement between the partners to meet Moira Downs’ liability to pay interest to Sandhurst, as the evidence upon which the applicant relied in that regard is not sufficiently probative, leaving aside whether that of itself would render the applicant entitled to claim deductions in the relevant years of income in respect of interest expenses relating to those loans.
I also accept the Commissioner’s submission that the applicant’s liability as a guarantor does not somehow give rise to an allowable deduction, in that, amongst other things, it does not take its character from the primary liability of the borrower, instead being of a capital nature.
“Incurred” – s 8-1 of ITAA 1997
Section 8-1 of the ITAA 1997 relevantly provides as follows:
“(1)You can deduct from your assessable income any loss or outgoing to the extent that:
(a)it is incurred in gaining or producing your assessable income; or
(b)it is necessarily incurred in carrying on a business for the purpose of gaining or producing your assessable income."
(Emphasis in original.)
As I have indicated, irrespective of the deficiency and insufficiency of the evidence before the Tribunal by which the applicant sought to discharge his burden of proof prescribed by s 14ZZK, the critical flaw in his case lies in the fact that the claimed deductions for interest expenses cannot properly be said to have been “incurred” for the purposes of s 8-1(1) in the relevant years of income, given the settlement of the proceedings brought in respect of the MBL and Sandhurst loans more than a decade earlier.
Although, as I have said, I am not satisfied that the applicant could be entitled to claim deductions with respect to the Sandhurst loans in any event given his capacity was merely qua guarantor, my reasoning that follows is predicated on the assumption that in that respect as a member of the partnership he was also, contrary to the finding I have made, also a borrower with respect to those loans, as was the case with the loans made by MBL.
I turn now to the meaning of the term “incurred” for the purposes of s 8-1. In New Zealand Flax Investments Ltd v Federal Commissioner of Taxation (1938) 61 CLR 179 at 207, Dixon J said, in considering the test for deductibility:
“To come within [the] provision there must be a loss or outgoing actually incurred. ‘Incurred” does not mean only defrayed, discharged or borne, but rather it includes encountered, run into, or fallen upon. It is unsafe to attempt exhaustive definitions of a conception intended to have such a various or multifarious application. But it does not include a loss or expenditure which is not more than impending, threatened or expected.”
(Emphasis added.)
With respect to the predecessor of s 8-1 (s 51(1) of the ITAA 1936), the High Court said in Commissioner of Taxation v James Flood Pty Ltd (1953) 88 CLR 492 at 506 that “the provision has been interpreted to cover outgoings to which the taxpayer is definitively committed in the year of income although there has been no actual disbursement” and that the taxpayer must have “completely subjected himself to them” (emphases in original; see also Coles Myer Finance Ltd v Federal Commissioner of Taxation (1993) 176 CLR 640 at 670-671 per Deane J; Commissioner of Taxation v Citylink Melbourne Limited (2006) 228 CLR 1 at 40-41).
It is not enough that the loss or outgoing is merely “threatened or contingent” (Hooker-Rex Pty Ltd v Federal Commissioner of Taxation (1988) 19 ATR 1241 at 1249-1250 per Sweeney and Gummow JJ, citing Nilsen Development Laboratories Pty Ltd v Federal Commissioner of Taxation (1981) 144 CLR 616). An obligation may be so infected by contingencies that it could not properly be concluded that the taxpayer was definitively committed to the obligation (Commissioner of Taxation v Desalination Technology Pty Limited [2015] FCAFC 96).In contradistinction, on some facts a condition giving rise to a merely theoretical contingency could be treated, for practical purposes, as certain to be satisfied (Coles Myer Finance at 670-672 per Deane J, cited in Citylink at 37-38).
In determining whether a loss or outgoing has been incurred for the purposes of s 8-1, every contract must be construed according to the intention of the parties, and upon taking a legal or jurisprudential approach, the terms and nature of the relevant contractual arrangements and surrounding circumstances must be considered. Accordingly, one must look at the circumstances of each case (Federal Commissioner of Taxation v Malouf (2009) 174 FCR 581 at 593-594 per Sundberg, Jessup and Middleton JJ).
I turn now to the terms of the MBL Deed and the Sandhurst Agreement, both of which created and vested in Campus Martius as assignee an equitable interest, being beneficial ownership of the legal right the subject of the assignments (GJ Tolhurst, “Equitable assignment of legal rights: a resolution to a conundrum”, Law Quarterly Review 2002, 118 (Jan) 98 at 101). In “the case of an equitable assignment the assignee is the true owner and the assignor is a bare trustee” (Roberts v Gill & Co [2011] 1 AC 240 at [68]). The legal chose in action the subject of the assignments was thereupon held on trust after the consideration for each of the assignments was paid in full (see ABB Australia Pty Limited v Commissioner of Taxation [2007] FCA 1063 at [60] and cases cited therein).
As I have indicated, it was a term of the MBL Deed and also of the Sandhurst Agreement that each assignor would not pursue its rights against the applicant unless directed to do so by Campus Martius. It follows that, upon the execution of each document in settlement of the respective proceedings, it could no longer be properly said that he was “definitively committed” nor “completely subjected” to relevant outgoings of interest, unless that obligation lay outside the terms of those documents, as such outgoings were rendered contingent upon a direction being made by Campus Martius to the respective assignor or at least some demand being made by Campus Martius to the applicant (Marbren Pty Ltd v Federal Commissioner of Taxation (I984) 15 ATR 1145). In essence, the settlement of the proceedings relieved the applicant from his definitive commitment. I note in passing that in the relevant years of income the outgoings were contingent upon a direction being made by Campus Martius at a time about a decade after the settlement of the relevant proceedings.
This case is not, as the applicant suggested in his written submissions in reply, analogous to a case where a taxpayer merely owes interest in respect of the same loan to a successor in title of the original lender upon assignment of the loan (cf Guest v Federal Commissioner of Taxation (2007) 65 ATR 815).] The terms of the MBL Deed and Sandhurst Agreement served to relieve the applicant of the obligation to pay interest in the future save for upon the occurrence of events consequent upon a direction being made by Campus Martius. As I have indicated, any such definitive commitment could only be found elsewhere.
However, it is also the case that no definitive commitment to outgoings of interest lies in the surrounding circumstances, particularly the arrangements and relationship between the applicant and Campus Martius. If anything, those circumstances serve to demonstrate that the applicant’s liability to interest expenses was infected by further contingencies or else had been extinguished according to his arrangement with Campus Martius. As I have indicated, the applicant gave oral evidence that he paid to his wife, at the direction of Campus Martius the sums of $175,000 over a period preceding the relevant years of income, according to his understanding that he would only be required to do so at a time “convenient” to him. As I have also indicated, it was apparent from his oral evidence that he understood his obligation in so far as Campus Martius was concerned to involve, in essence, reimbursing his wife for her loan by which Campus Martius had paid the consideration under the MBL Deed.
I note in that regard that other aspects of his oral evidence conflate the rights of Campus Martius as assignee against him with what he saw as his obligation of reimbursement (leaving aside that it that regard he also appeared to conflate obligations to his wife and those owed to Campus Martius). Furthermore, I note that in his written submissions in reply, the applicant asserted in the context of his interest calculations that the sums he claimed to have paid to his wife were paid in diminution of the debts owing to Campus Martius as assignee.
Considering the applicant’s relevant oral evidence as a whole, I do not accept that assertion. The applicant never received any demand from Campus Martius to make any payment to it. I infer from the evidence that Campus Martius did not at any stage take any steps against the applicant with respect to the subject matter of the assignments. I find that, to the extent that there was any arrangement as between the applicant and Campus Martius consequent upon the execution of the MBL Deed and Sandhurst agreement, it merely consisted of an obligation imposed on the applicant to pay an amount equivalent to the consideration paid by Campus Martius under the MBL Deed and Sandhurst agreement. In any event, irrespective of the character of the payments, it is clear from the applicant’s oral evidence that he was only obligated to make them at a time convenient to him.
There are reasons to give little weight to the applicant’s oral evidence that he either promised to make or that he in fact made the alleged payments to his wife at the direction of Campus Martius. First, as I have said, there is no documentary evidence to corroborate that evidence, nor any corroborating evidence given by his wife. Based on the relevant evidence before the Tribunal, I find that the applicant and Campus Martius were not dealing at arm’s length; that serves as a further reason to doubt the applicant’s oral evidence about the alleged payments and his alleged obligation to make them.
What matters more is that, irrespective of the character of the payment of $175,000 made by the applicant to his wife, the inference which arises from the evidence is that that payment extinguishes any still extant obligation that the applicant had to pay interest in respect of the debt to Campus Martius as assignee. On his evidence, he kept his promise to pay the sum of $175,000 in respect of the MBL Deed to his wife at the direction of Campus Martius. On his evidence, he did do so at a time that fell well before the relevant years of income.
To the extent (if any) that the applicant was under any obligation to Campus Martius the breach of which might have led Campus Martius to make a direction under the terms of the MBL Deed or Sandhurst Agreement, or to make some other demand during or after the relevant years of income, the applicant had already fulfilled it. Accordingly, based on his own evidence, there was no basis upon which Campus Martius might properly make any direction to the respective assignors under the terms of the MBL Deed and Sandhurst Agreement, nor any demand that he make any payment to it in respect of the subject matter of the assignment, during the relevant years of income.
Accordingly, whether one confines attention to terms of the MBL Deed and Sandhurst agreement or looks more widely to the relationship and arrangements as between the applicant and Campus Martius, the claimed deductions for outgoings of interest were not “incurred” for the purposes of s 8-1 of the ITAA 1997 in any of the relevant years of income.
As I have indicated, the applicant submitted that his claimed deductions for interest relating to the loans made by MBL (to the partnership) and by Sandhurst (to Moira Downs) were allowable in the relevant years of income despite the assignments to Campus Martius pursuant to the terms of the MBL Deed and Sandhurst Agreement because the debts the subject of the assignments “remain due and owing” at law and “interest continues to accrue thereon”.
Leaving aside whether that submission is well-founded, it is not to the point. It does not follow that such interest expenses were “incurred” for the purposes of s 8-1(1) of the ITAA 1997 in the relevant years of income. On the applicant’s argument, he would be “incurring” interest on these loans in perpetuity.It is interesting to observe that it would follow that he might never be liable to pay income tax again.
As the deductions claimed by the applicant were not “incurred” for the purposes of s 8-1 of the ITAA 1997, the Tribunal does not need to consider the other aspects of deductibility under that provision.
Division 36 of ITAA 1997
As I have said, the applicant’s case as put, by his reference to “carried forward losses” also raises for consideration his entitlement to deductions under Div 36 of the ITAA 1997, which in certain circumstances allows deductions for tax losses of earlier income years.
I accept the Commissioner’s submissions, as stated above, as to why the applicant is not entitled to any deductions in the relevant years of income under Div 36, given that he is not entitled to the claimed deductions for interest expenses under s 8-1 of the ITAA 1997 and given the lack of any other probative evidence which might serve to establish some other basis of entitlement to deductions under Div 36 in the relevant income years.
Penalty assessments
In his written submissions, the applicant said the following with respect to the penalty assessments for the 2005 and 2006 years of income to which I have referred:
“As the penalties imposed by the Respondent are calculated at 75% of the outstanding tax asserted by the Respondent, the Applicant had assumed that those penalties would automatically fall if the amount outstanding is corrected to zero. If that assumption is wrong application is hereby made to make all necessary amendments to the Application herein to encompass correction of the penalties conformably with substantive tax.”
As I have indicated, the penalty assessments for the 2005 and 2006 years of income were issued to the applicant for failing to provide his income tax returns for those years, rather than arising in respect of the substantive issues in dispute in this proceeding. It suffices for present purposes to say that, as no objection and therefore no objection decision has been made with respect to those penalty assessments for the purposes of Pt IVC of the TAA, those penalty assessments lie outside the ambit of the Tribunal’s jurisdiction in this proceeding (see s 25 of the Administrative Appeals Tribunal Act 1975 (Cth), Collector of Customs (NSW) v Brian Lawlor Automotive Pty Ltd (1979) 2 ALD 1 at 4, 5 and 7).
CONCLUSION
For the above reasons, the decision under review will be affirmed.
I certify that the preceding [117] (one hundred and seventeen) paragraphs are a true copy of the reasons for the decision herein of Deputy President F J Alpins. [sgd]........................................................................
Administrative Assistant
Dated 24 December 2015
Dates of hearing 17 November 2014 & 30 March 2015 Date final submissions received 30 June 2015 Representative for the Applicant Self Counsel for the Respondent Mr P Nicholas Solicitor for the Respondent
Ms A Smyth, ATO Review & Dispute Resolution
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