Wing and Commissioner of Taxation (Taxation)

[2019] AATA 5547

Wing and Commissioner of Taxation (Taxation) [2019] AATA 5547 (23 December 2019)

Division:TAXATION AND COMMERCIAL DIVISION

File Number(s):      2018/3758

Re:Phillip Wing

APPLICANT

AndCommissioner of Taxation

RESPONDENT

DECISION

Tribunal:Deputy President Britten-Jones

Date:23 December 2019

Place:Sydney

The Tribunal sets aside the reviewable decision dated 8 March 2018 with respect to the objection to tax assessment and in substitution, finds that the applicant’s assessable income be increased by $499,999. The Tribunal affirms the reviewable decision dated 8 March 2018 with respect to the objection to penalty assessment.

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Deputy President Britten-Jones

CATCHWORDS

Taxation – Income tax – Division 7A of the Income Tax Assessment Act 1936 –assessable income – small business CGT rollover concession under Division 152 of the Income Tax Assessment Act 1997 not available – exemptions under ss109J and 109M of the Income Tax Assessment Act 1936 not established – no grounds established to convert into a loan complying with the requirements of s 109N of the Income Tax Assessment Act 1936 - no basis for exercising a discretion under s 109RB of the Income Tax Assessment Act 1936 - Shortfall penalty under s 284-75 of the Taxation Administration Act 1953.

LEGISLATION

Income Tax Assessment Act 1936

Income Tax Assessment Act 1997
Taxation Administration Act 1953

Corporations Act 2001

REASONS FOR DECISION

Deputy President Britten-Jones

23 December 2019

1. The applicant seeks a review of a decision by the respondent on 8 March 2018 to disallow an objection to a notice of assessment and notice of penalty for the financial year ended 30 June 2015.

2. The applicant is the sole director and shareholder of the Wing Hotel Group Pty Ltd (“the Wing Hotel Group”) and Hammerfest Investments Pty Ltd (“Hammerfest Investments”).

3. The background to the decision is the sale of the Oriental Hotel in Springwood, New South Wales. The Oriental Hotel was owned by the Wing Hotel Group who transferred the sale proceeds to a related entity in August 2015. Shortly thereafter the related entity paid $500,000 to the applicant who was a director and shareholder of the Wing Hotel. The $500,000 payment was included as assessable income in the applicant’s 2015 Notice of Amended Assessment (“2015 Amended Assessment”) because the respondent considered it was a deemed dividend under Division 7A of the Income Tax Assessment Act 1936 (“the 1936 Act”).  On the 13 July 2016, the respondent issued a Notice of Assessment of Shortfall Penalty in respect of the 2015 financial year (“the Shortfall Penalty.”)

4. The applicant contends that the $500,000 should be excluded from his assessable income.

5. The respondent contends that the decision being reviewed is the correct or preferable one but, because of the operation of s 109Y of the 1936 Act, seeks an order that the objection decision be set aside and in substitution, the Tribunal find that the applicant’s assessable income is increased by $499,999. Section 109Y restricts the amount of the deemed dividend to the “distributable surplus” which is the Division 7A payment of $500,000 less $1 in paid up share value equating to $499,999 of assessable income.

   AGREED FACTS

6. There is no dispute with respect to the following facts.

7. The Wing Hotel Group is a private company for the purposes of Division 7A of the 1936 Act.

8. On 26 June 2014, the Wing Hotel Group entered into a contract with respect to the Oriental Hotel for the sale of business for $3.4 million and a contract for the sale of land for $2.95 million.

9. The financial statement of the Wing Hotel Group for the year ended 30 June 2014 reports no outstanding loans to shareholders and a liability of $1,833,468 to Hammerfest Investments.

10. On 21 August 2014, the Wing Hotel Group transferred $4,031,383.99 from its Westpac Bank account into an ANZ Bank account held by Hammerfest Investments.

11. On each of 27 August 2014, 28 August 2014 and 29 August 2014, Hammerfest Investments transferred $500,000 to the applicant. Hammerfest Investments was an interposed entity to transfer those moneys from the Wing Hotel Group to the applicant.

12. On 15 September 2014, the applicant as sole shareholder of the Wing Hotel Group resolved, inter alia, to wind up the company and appoint Mr Adam Shepard of Farnsworth Shephard as liquidator. Mr Shepard lodged a Declaration of Solvency with the Australian Securities and Investment Commission which stated that the Wing Hotel Group's sole assets were shareholder loans to the value of $2,334,867. This document was signed by the applicant in his capacity as director of the Wing Hotel Group and dated 11 September 2014.

13. On 9 March 2015, the liquidator of the Wing Hotel Group lodged its capital gains tax (“CGT”) schedule for the 2014 financial year. The CGT schedule showed that the Wing Hotel Group claimed the following concessions to reduce the capital gain to nil:

    (i)Small business active asset reduction          $1,318,792

    (ii)Small business retirement exemption           $1,000,000

    (iii)Small business rollover   $318,792

14. On 3 September 2015, Medical Channel Unit Trust was established by way of Trust Deed. The Trust Deed was executed by the applicant on behalf of Health and Lifestyle Investments Pty Ltd as the Trustee and on behalf of P J Wing Pty Ltd, the original unit holder.

15. On 9 September 2015, the applicant, on behalf of the Wing Hotel Group, applied to Health & Lifestyle Investments Pty Ltd for 500,000 units in exchange for payment of $500,000.  On the same day, the applicant, on behalf of Health & Lifestyle Investments Pty Ltd as trustee for the Medical Channel Unit Trust, resolved to issue 500,000 units to the Wing Hotel Group.

16. Between 21 October 2014 and 25 June 2015 Hammerfest Investments had transferred between $1.4 million and $2 million to Medical Channel Pty Ltd.  

17. On 18 November 2015, the Wing Hotel Group was notified of the respondent's intention to conduct a review of its affairs for the 2013 and 2014 financial years.

18. On 27 May 2016, the Wing Hotel Group lodged an amended CGT schedule for the 2014 financial year claiming the following concessions to reduce the capital gain to nil:

    (i)Small business active asset reduction          $1,318,792

    (ii)Small business retirement exemption            $ 500,000

    (iii)Small business rollover   $ 818,792

19. On 6 July 2016, the respondent issued a Notice of Finalisation of Review to the Wing Hotel Group notifying it that the income tax return of the applicant for the year ended 30 June 2015 will be amended.  On 13 July 2016, the respondent issued the 2015 Amended Assessment to the applicant thereby increasing his taxable income by $500,000. On the same day, the respondent issued the Shortfall Penalty.

20. On 8 August 2016, the applicant objected to the 2015 Amended Assessment and the Shortfall Penalty, contending that the payment of $500,000 from the Wing Hotel Group (via Hammerfest Investments) to the applicant was not assessable due to the following alternate grounds:

    (i)Section 109J of the 1936 Act applies as the payment was used by the applicant to acquire an asset or pay a liability of the Wing Hotel Group and it was not more than would be required to discharge the obligation to the applicant had the parties been dealing with each other at arm's length; or

    (ii)Section 109M of the 1936 Act applies as the payment was advanced to the applicant as a loan and was to be repaid by delivering an asset of equal value to the Wing Hotel Group; or

    (iii)The payment was received by the applicant on trust or as agent for the Wing Hotel Group for the purpose of purchasing an asset and it would not have been the intention of Parliament for such payments to be taxable; or

    (iv)In the event Division 7A applies, the applicant ought to be given an opportunity to convert the loan to a loan in compliance with Division 7A; or

    (v)As the applicant caused the purchase of units of equal value to the payment prior to the lodgement day of the Wing Hotel Group the amount of the dividend is reduced to nil pursuant to s 109D; or

    (vi)the payment was held by the applicant on trust or as agent for the Wing Hotel Group for the purpose of acquiring units in the Medical Channel Unit Trust.

21. On 10 March 2017, the applicant's representatives advised that there had been no formal communication between the Wing Hotel Group and the applicant regarding the acquisition of units in the Medical Channel Unit Trust. It was explained that:

    "Dr Wing is the sole shareholder and director of the company at that time, and he was fully aware of the Company's decision to acquire the units in Medical Channel Unit Trust and he acted on this knowledge by actually transferring the money and acquiring the units in the Medical Channel Unit Trust for and on behalf of the Company"

    Assessable Income

22. Section 6-10 of the Income Tax Assessment Act 1997 (“the 1997 Act”) provides that assessable income includes statutory income. Section 10-5 of the 1997 Act contains a list of statutory income provisions including s 44(1) of the 1936 Act dealing with dividends. Section 44(1)(a) provides relevantly that the assessable income of a shareholder includes dividends that are paid to the shareholder by the company out of profits derived by it. A dividend is defined in s 6(1) of the 1936 Act as including “any distribution made by a company to its shareholders.” This definition is further extended by s 109C(1) in Division 7A of the 1936 Act which provides that a company is taken to pay a dividend to a shareholder if it pays an amount to the shareholder. Pursuant to s 109C(2), the dividend is taken to equal the amount paid, subject to s 109Y which limits the dividend to the company’s distributable surplus.

23. The Wing Hotel Group made the $500,000 payment to the applicant via Hammerfest Investments. There is no requirement that the payment be made direct from the Wing Hotel Group to the applicant because s 109T of the 1936 Act provides that Division 7A operates despite an interposed entity in circumstances that in this case are not in dispute.

24. Subject to the arguments below, the $500,000 payment is a deemed dividend which is to be included in the assessable income of the applicant.

    CGT Tax Rollover Concession

25. The applicant contends that there was no Division 7A payment because the $500,000 payment should be excluded from his assessable income as it is eligible for the small business CGT rollover concession available under Division 152 of the 1997 Act. The applicant’s contention is misconceived. The concession applied to the Wing Hotel Group with respect to the capital gain from the sale of the Oriental Hotel. It is the entity that makes the capital gain and satisfies the conditions in Division 152 of the 1997 Act that is entitled to the rollover concession. The capital gain was made by the Wing Hotel Group and not the applicant. It was the Wing Hotel Group that derived the benefit arising from the concession under Division 152. I find that there is no rollover concession available to the applicant in relation to the $500,000 payment.

    Exemption under s 109J

26. In the applicant’s objection to the 2015 Amended Assessment,  the applicant relied on the exclusion with respect to a deemed dividend under s 109J on the following basis:

    “That the payment should not be treated as a deemed unfranked dividend to the extent the payment amount was used by the individual to purchase an asset or pay a liability in respect of the company and that the amount is not more than would have been required to discharge the obligation to the individual had the company and the individual been dealing with each other at arm’s length.”

27. The applicant says that he received the $500,000 payment from the Wing Hotel Group and then used it to purchase a replacement asset of the same value for the Wing Hotel Group.  The applicant contends that the $500,000 payment is not assessable income because the payment was used by him to purchase an asset of the same value for the Wing Hotel Group.  I reject this contention on both legal and factual grounds.

28. The facts disclose that shortly after the applicant received the $500,000 payment, the Wing Hotel Group was put into liquidation.  The applicant as sole director of the Wing Hotel Group resolved on 15 September 2014 that the company be wound up as a member’s voluntary liquidation and that the assets of the company may be distributed in whole or in part to the members in specie should the liquidators so desire. Approximately one year later on 9 September 2015, notwithstanding that the Wing Hotel Group was in liquidation, the applicant purported to cause the Wing Hotel Group to apply for 500,000 units in the Medical Channel Unit Trust for a consideration of one dollar per unit.  The application for units was signed by the applicant purportedly on behalf of the Wing Hotel Group. As at the date of the alleged allotment of units, the Wing Hotel Group was still in liquidation[1] and any powers of its directors were suspended by operation of s 499(4) of the Corporations Act 2001.  There is no evidence that the liquidator was aware of this transaction.

    [1] The Wing Hotel was deregistered on 12 April 2018.

29. The applicant chose not to give any evidence in the matter and therefore there is no explanation by him as to how he could have acted on behalf of the Wing Hotel Group given the suspension of his powers as a director. I find that the applicant had no power to act on behalf of the Wing Hotel Group and consequently there was no valid transaction. It follows that the applicant’s contention must be rejected on the facts because there was no valid purchase of a replacement asset for the Wing Hotel Group.

30. Further, on legal grounds, the applicant’s contention must be rejected.  Section 109J of the 1936 Act provides that:

    A private company is not taken under section 109C to pay a dividend because of the payment of an amount, to the extent that the payment:

    (a)discharges an obligation of the private company to pay money to the entity; and

    (b)is not more than would have been required to discharge the obligation had the private company and entity been dealing with each other at arm’s length.

31. There is no evidence establishing that at the time of the $500,000 payment to the applicant there was an outstanding obligation of the Wing Hotel Group to pay the applicant $500,000. I note that in any event counsel for the applicant conceded this issue at the hearing and agreed that the $500,000 payment was not made to discharge an obligation.

32. I find that s 109J does not operate to exclude the payment of the deemed dividend under Division 7A.

    Exemption under section 109M

33. In the applicant’s objection to the 2015 Amended Assessment, the applicant relied on the exclusion with respect to a deemed dividend under s 109M of the 1936 Act on the following basis:

    “That the monies were paid to the individual as a loan that was required to [be] paid back by delivering an asset of equal value as directed by the company. Such an arrangement is one of agency and occurs in the ordinary course of business and the terms are such that the timing will not give rise to any benefit to the agent and that repayment is required in full if the asset cannot be delivered or the obligation satisfied.”

34. During the hearing, counsel for the applicant conceded that this exemption did not apply. In any event, the applicant put forward no evidence of a loan made in the ordinary course of the Wing Hotel Group’s business. There is no evidence that allotment of the 500,000 units in the Medical Channel Unit Trust constituted repayment of any loan. Further, I have already found that any transactions purportedly made by the applicant on behalf of the Wing Hotel Group after liquidation were not valid transactions. I find that s 109M does not operate to exclude the payment of the deemed dividend under Division 7A.

    Conversion of loan to comply with section 109N

35. The applicant contended that he should be permitted to convert the $500,000 payment into a loan complying with the requirements of s 109N of the 1936 Act.

    (a)Section 109N states that a loan by a private company is not taken to be a Division 7A dividend in the income year, if before the company’s lodgement date for that year the agreement under which the loan is made is in writing; and

    (b)the interest rate payable on the loan for years of income after the year in which the loan is made equals or exceeds the benchmark interest rate for the year; and

    (c)the term of the loan does not exceed the specified maximum term.

36. There was no written loan agreement between the applicant and the Wing Hotel Group prior to the company’s lodgement date. Consequently, the alleged loan does not satisfy the criteria in s 109N.

37. Under s 109RB the respondent has the discretion to disregard a deemed dividend that a private company is taken to pay as a result of the operation of Division 7A. In considering whether to exercise the discretion, the respondent must be satisfied that Division 7A has applied because of an honest mistake or inadvertent omission.

38. The applicant did not give evidence and the documents relied upon by the applicant do not establish any basis for finding, by inference or otherwise, that there has been an honest mistake or inadvertent omission. To the contrary, the evidence establishes that the applicant acted without authority in purporting to cause the allotment to the Wing Hotel Group of the units in the Medical Channel Unit Trust after the appointment of the liquidator. There is no basis for exercising a discretion under s 109RB.

    The Shortfall Penalty

39. Having found that the applicant is deemed to have been paid a dividend in the amount of $499,999 which forms part of his assessable income, it follows that the applicant has made a false and misleading statement in his tax return. This triggers a liability to a Shortfall Penalty under s 284-75 of the Taxation Administration Act 1953 (“the 1953 Act”). The amount of the penalty is to be determined by reference to s 284-85 of the 1953 Act.

40. The applicant claimed in the objection to the amended notice of assessment that he did not make a false or misleading statement as it was not unreasonable to believe that the $500,000 payment did not attract tax and was not required to be reported as income. In making that claim, the applicant relied upon the events post liquidation asserting that the $500,000 payment was applied by the applicant for the benefit of the Wing Hotel Group which became registered as the owner of the 500,000 units in the Medical Channel Unit Trust. I have already found that the post liquidation transactions were not valid and were made without authority.

41. The applicant at relevant times was a director of many companies and he acted as sole director of the Wing Hotel Group to wind it up and appoint a liquidator. He has significant experience as a company director and had access to advice from professionals, namely Rothsay Chartered Accountants who prepared his tax return for the year ended 30 June 2015.  In these circumstances it was not reasonable for him to continue to act as a director when he was aware that the liquidator had been appointed. There was no explanation given as to why or on what basis the applicant purported to exercise his powers as a director after the Wing Hotel Group was put into liquidation. Further, a reasonable person in the same circumstances as the applicant would have made inquiries to determine if the CGT rollover exemption was applicable to the $500,000 payment and would have concluded that the payment was assessable as a dividend. A reasonable person would have appreciated that the benefit of the CGT rollover exemption had been claimed by the Wing Hotel Group and that it was not able to be claimed by the applicant. There is no evidence that the applicant or his tax agent sought advice from the Australian Tax Office or relied on any other ATO publication or other authoritative statements.

1. Taxpayers are required to take reasonable care in the preparation of their tax returns. By failing to include the $500,000 payment as income, the applicant failed to take reasonable care. Consequently, the penalty for lack of reasonable care has been correctly imposed. In all of these circumstances there are no grounds to remit the penalty.

   DECISION

2. Subject to the $1 differential below, the applicant has failed to establish that the assessment is excessive or that the relevant decision should have been made differently. There are no grounds to remit the Shortfall Penalty.  The assessable income of the applicant should include the amount of $499,999 as opposed to the $500,000 that the respondent included as assessable income. It seems that could be achieved either by varying the reviewable decision by replacing $500,000 with $499,999 or setting aside the decision and substituting a decision that the applicant’s assessable income be increased by $499,999. I note that the respondent has sort an order in terms of the latter approach and accordingly, I will make an order in those terms.

3. The decision of the Tribunal is that the reviewable decision with respect to the tax assessment be set aside and in substitution, the Tribunal finds that the applicant’s assessable income be increased by $499,999. The reviewable decision with respect to the penalty assessment is affirmed.

I certify that the preceding   forty-four (44) paragraphs are a true copy of the reasons for the decision herein of Deputy President Britten-Jones.

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Administrative Assistant Legal

Dated 23 December 2019                 

Date of hearing: 3 May 2019

Applicant’s Representative: Mr Frank Vrachas of Rothsay Chartered Accountants

Respondent’s Representative: Mr Michael O’Meara, counsel on instructions from the  respondent