Yalos Engineering Pty Ltd and Commissioner of Taxation

[2009] AATA 390

Administrative Appeals Tribunal

DECISION AND REASONS FOR DECISION [2009] AATA 390

ADMINISTRATIVE APPEALS TRIBUNAL      )

)          No 2007/3018-3019  

TAXATION         APPEALS        DIVISION		)
Re		YALOS ENGINEERING PTY LTD

Applicant

And COMMISSIONER OF TAXATION  

Respondent

DECISION

Tribunal Mr B H Pascoe, Senior Member  

Date29 May 2009

PlaceMelbourne

Decision The Tribunal sets aside the decision under review and, in its stead remits the matter to the respondent with a direction to make a personal services business determination relating to the personal services income of Mr L Koundouras included in the applicant’s income of the year ended 30 June 2004 and 30 June 2005.

(sgd) B H Pascoe

Senior Member

income tax – personal services income – personal services business determination – whether satisfy results test – unrelated clients test – unusual circumstances

Taxation Administration Act 1953

Income Tax Assessment Act 1997  Part 2-42  

REASONS FOR DECISION

29 May 2009 Mr B H Pascoe, Senior Member  

1.      This is an application to review a decision of the respondent dated 21 May 2007 which disallowed an objection against a prior refusal of an application by the applicant, Yalos Engineering Pty Ltd, (Yalos) for a personal services business determination in respect of the personal services of an employee, Mr C Koundouras, for the years ended 30 June 2004 and 30 June 2005.

2.      At the hearing Yalos was represented by Mr A Sandbach of counsel and the respondent, Commissioner of Taxation was represented by Ms J Jaques of counsel.  Evidence was given by Mr Koundouras and Mr J Cini, an officer of BHP Billiton Petroleum.

3. As a preliminary issue, Yalos sought leave to add an additional ground to its objection pursuant to s 14ZZK(a) of the Taxation Administration Act 1953.  The additional ground was that the results test within the legislation was satisfied in the relevant years.  The respondent raised no objection to extending the grounds of objection and, given the additional ground had been advised to and considered by the respondent well before the hearing, the Tribunal gives leave for the additional ground to be included.

4.      Part 2-42 of the Income Tax Assessment Act 1997 (the Act) was introduced to first apply to income of the year ended 30 June 2000 and is said to set out the consequences of individual’s personal services income being directed to other entities unless that entity conducts a personal services business (PSB) as defined in Division 87. Section 87-10 states that: 

The object of this Division is to define *personal services businesses in a way that ensures that it covers genuine businesses but not situations that are merely arrangements for dealing with the *personal services income of individuals.

Personal services income is defined as income that is mainly a reward for your personal efforts or skills.

Under s 87-15, an entity conducts a PSB if either a PSB determination is in force relating to an individual whose personal services income is included in the entity’s income or the entity meets at least one of the four PSB tests in the relevant year.  Two of these tests, the employment test and the business premises test, are not relevant to this matter.  The remaining tests in question are the results test and the unrelated clients test, s 87-65 provides that a determination must not be made unless the Commissioner is satisfied that the conditions in one or more of the subsections are met.

5.      In relation to the results test the legislation provides in respect of both the 2004 and 2005 years:-

87-65   Personal services business determinations for personal services entities

(3A)     The conditions in this subsection are that:

(a)the entity could reasonably be expected to meet, or met, the results test under section 87-18, the employment test under section 87-25, the business premises test under section 87-30 or more than one of those tests; and

(b)the individual’s *personal services income included in the entity’s *ordinary income or *statutory income could reasonably be expected to be, or was, from the entity conducting activities that met one or more of those tests.

87-18  The results test for a personal services business

…

(3)A *personal services entity meets the results test in an income year if, in relation to at least 75% of the *personal services income of one or more individuals that is included in the personal services entity’s *ordinary income or *statutory income during the income year:

(a)the income is for producing a result; and

(b)the personal services entity is required to supply the *plant and equipment, or tools of trade, needed to perform the work from which the personal services entity produces the result; and

(c)the personal services entity is, or would be, liable for the cost of rectifying any defect in the work performed. …

87-18The results test for a personal services business

…

(4)For the purposes of paragraph (1)(a), (b) or (c) or (3)(a), (b) or (c), regard is to be had to whether it is the custom or practice, when work of the kind in question is performed by an entity other than an employee:

(a)     for the *personal services income from the work to be for producing a result; and

(b)     for the entity to be required to supply the *plant and equipment, or tools of trade, needed to perform the work; and

(c)     for the entity to be liable for the cost of rectifying any defect in the work performed;

as the case requires.

6.      In relation to the unrelated clients test s 87-15(3) provides that if 80 per cent or more of the personal services income is from the same entity (or one entity and its associates) and the entity does not meet the results test then the personal service income is not taken to be from conducting a personal services business unless a determination was made.  In relation to the 2004 year the then s 87-65(3) provided that the Commissioner must be satisfied that the conditions in one or more of the conditions of subsection (3B) are met.  Subsection (3B) provides:

87-65  Personal services business determinations for personal services entities

(3B)The conditions in this subsection are that:

(a)but for unusual circumstances applying to the entity in that year, the entity could reasonably have been expected to meet, or would have met, the results test under section 87-18, the employment test under section 87‑25, the business premises test under section 87-30 or more than one of those tests; and

(b)the individual’s *personal services income included in the entity’s *ordinary income or *statutory income could reasonably be expected to be, or was, from the entity conducting activities that met one or more of those tests.

In relation to the unrelated clients test, s 87-20 provides:

87-20  The unrelated clients test for a personal services business

(1)An individual or a *personal services entity meets the unrelated clients test in an income year if:

(a)during the year, the individual or personal services entity gains or produces income from providing services to 2 or more entities that are not *associates of each other, and are not associates of the individual or of the personal services entity; and

(b)the services are provided as a direct result of the individual or personal services entity making offers or invitations (for example, by advertising), to the public at large or to a section of the public, to provide the services. …

(2)The individual or *personal services entity is not treated, for the purposes of paragraph (1)(b), as having made offers or invitations to provide services merely by being available to provide the services through an entity that conducts a *business of arranging for persons to provide services directly for clients of the entity.

Sub-paragraph (4) of s 87-65 provides:

(4)For the purposes of paragraph (3B)(a) but without limiting the scope of that paragraph, unusual circumstances include providing services to an insufficient number of entities to meet the unrelated clients test under section 87-20 if:

(a)the*personal services entity starts a *business during the income year, and can reasonably be expected to meet that test in subsequent income years; or

(b)the personal services entity provides services to only one entity during the income year, but met the test in one or more preceding income years and can reasonably be expected to meet the test in subsequent income years. …

In relation to the 2005 year, a further subsection (6) of s 87-65 applied and provided:

(6)The conditions in this subsection are that:

(a)but for unusual circumstances applying to the entity in that year, the entity could reasonably have been expected to meet, or would have met, the unrelated clients test under section 87-20; and

(b)if 80% or more of the individual’s *personal services income (not including income mentioned in subsection 87-15(4)) included in the entity’s *ordinary income or *statutory income could reasonably have been expected to be, or would have been, income from the same entity (or one entity and its *associates)—that is the case only because of unusual circumstances applying to the entity in the income year; and

(c)the individual’s personal services income included in the entity’s ordinary income or statutory income could reasonably be expected to be, or was, from the entity conducting activities that met the unrelated clients test under section 87-20.

7.      In the application for a personal services business determination for the 2004 and 2005 years personal services work was described as:

consulting engineering services in the offshore oil and gas industry, involving design, construction, review and monitoring.

It was said that unusual circumstances prevented Yalos from meeting the unrelated clients test because:

due to Minerva Project delays combined with lack of available engineering expertise in my industry, I was responsible to see the completion of the Minerva Project for BHP Billiton (a significant industry entity) and as a result was unable to accommodate other clients during that period.

It was said, further, that:

Yalos project durations are usually between 3 and 6 months, as it is unusual in the industry for offshore installations to be delayed by one year.  All contracts before this period and to date reflect this nature. This allows a series of clients per year.

8.      The sole income of Yalos in both the 2004 and 2005 years was from Manpower Services Pty Ltd and amounted to $212,300 in 2004 and $119,215 in 2005.  Mr Koundouras said that this contract entered into in October 2002 was a contract to perform services as an offshore installation engineer for BHP Billiton in relation to the Minvera gas field.  He said that he was suggested for the project by a former colleague and dealt direct with Mr Cini.  He was advised that BHP Billiton at that time insisted that all such contracts were to be with a labour hire firm, Manpower, for convenience of paperwork etc, but no fee would be deducted from the contract payment.  The contract provided for a daily rate plus expenses and the location was at BHP Billiton offices or other locations as agreed.  This arrangement was confirmed by Mr Cini.  The original contract was to 31 December 2003.  It was extended to April 2005 as a result of delays in the construction of the onshore gas plant.  Mr Koundouras described his role as being responsible for the design and oversight of the fabrication and installation of the offshore pipe line as a representative of BHP Billiton.  He said that, at all times, the rate of pay was negotiated by himself and generally, resulted from agreement of the rate sought by him.  Mr Koundouras maintained that the normal duration of contracts was three to six months.  However, the Minerva Project role for BHP Billiton was larger than any prior role, including both design and installation which involved the full range of his knowledge.  He stated, also, that it was unusual for such offshore installations to be delayed to the extent that this project was delayed.

9.      Mr Koundouras believed that Yalos had satisfied the unrelated client test both before and subsequent to the years ended 30 June 2004 and 2005. It was said that consulting fees were derived as follows:-

Year ended 30 June 2001 Lawrence Allison Pty Ltd Kvaerner Ltd	37,193 11,000	48,193
Year ended 30 June 2003 Worley Ltd BHP Billiton Ltd via Manpower	70,909 78,155	149,064
Year ended 30 June 2006 BHP Billiton Ltd Alinta Network Services	57,762 18,480	76,242
Year ended 30 June 2007 BHP Billiton Ltd Upstream Petroleum Pty Ltd	45,188 78,145	123,333
Year ended 30 June 2008 AGR Asia Pacific AED Oil Ltd	284,589  64,600	349,189

Mr Koundouras was firm that each of these customers was independent from each other.  While he accepted that it was possible that Lawrence Allison Pty Ltd was now a recruitment company he maintained that, in 2001, he worked with an engineer employed by that company on a project for Phillip Petroleum.  He said that Kvaerna Ltd was an offshore pipe line construction company and not a recruitment company.

10.     Mr Koundouras said that, after completion of the offshore pipe line in April 2005, he entered into a contract direct with BHP Billiton in October 2005 to arrange a survey of the pipeline.  As this was an expensive operation he sought another company to share the costs.  Initially he negotiated with Origin Energy but no contract eventuated.  Ultimately he entered into a contract with Alinta Network Services to participate in the survey.  He said the fees received from BHP Billiton in the 2007 year were for provision of advice on asset management in Bass Strait.

11.     Mr Cini said that he had responsibility for the total Minerva Project in Western Australia with Mr Koundouras responsible for the offshore pipe line.  He said that the responsibility for building the pipeline was with the contractor.  He said that the project was originally expected to be finalised by January 2004 but was delayed for over one year as a result of delays in completing the onshore plant.  Mr Cini confirmed that he approached Mr Koundouras on the recommendation of a colleague.  He was not aware of the existence of Yalos and all of the contractual arrangements were delegated to Manpower.  He said that the design and specifications of the pipeline were prepared prior to the contract with Mr Koundouras with he being responsible for finalisation and supervision.  He said that Mr Koundouras was supplied with an office and access to computers.  He was not aware of the extent of use by him of his own computer, but confirmed that he would be restricted from loading software on the BHP Billiton computer.  Mr Cini was of the view, based on his knowledge of the industry, that Mr Koundouras would not be sued for any liability as a result of any defect in the pipeline.

12.     It was submitted by Mr Sandbach that the results test had been satisfied.  It was argued that Mr Koundouras was contracted to produce a result being a satisfactory offshore pipeline and, in the later contract, the carrying out of a survey.  It was said that he was required to provide and use his own computer with special engineering software and his own mobile telephone.  Further, it was said that the contract provided liability for rectification and indemnity for loss and the words of the contract should be preferred over the lay view of Mr Cini.  It was submitted that the extended length of the BHP Billiton contract was an unusual circumstance and that Yalos had met the unrelated clients test in two prior years and in subsequent years.  It was said that the market in which Yalos operated was a small specialised market and contracts were obtained by word of mouth and recommendations from others in the industry with no advantage in any paid advertising.

13.     For the respondent, Ms Jaques submitted that the results test was not satisfied in that the contracts were payment for time and expertise and not for producing a result, there was no requirement within the contract for the use of plant and equipment or tools of trade, all facilities being provided and that the evidence of Mr Cini should be preferred that the practice in the industry was no liability for rectification.  It was further submitted that there were no unusual circumstances in relation to the 2004 and 2005 years in that the initial contract was for twelve months with provision for extension and that it was not unusual for a project such as that involved to have some delays.  It was said that Yalos did not provide services as a direct result of making offers to the public or a section of the public.  Ms Jacques said that, in the 2001 year the two companies to whom services were provided appeared to be related and Mr Koundouras had been unable to demonstrate that they were not related.  She said that in the 2008 year one of the two clients produced 81 percent of the income.  As a consequence it was submitted that as the unrelated client test was not met in 2005, being the subsequent year, Yalos did not qualify in 2004.  In relation to the 2005 year, the test had not been met in all subsequent years.

14.     On the evidence, I am satisfied that Yalos did not meet nor could reasonably have been expected to meet the results test in either of the relevant years of income.  In none of the contracts produced can it be said that the fees were for producing a result.  In all cases of personal services being provided under contract it may be possible that a result is expected whether by way of satisfactory legal advice, cleaning services or engineering oversight of a project.  In my view the legislative provisions require more than satisfactory service.  It requires a specific payment to produce a result.  In this case, the installation contractor for the pipeline produced the result which was likely to have been for a fixed contract fee.  Here, on the evidence of Mr Cini, Mr Koundouras was hired at a daily rate of fee to provide expertise not otherwise available within the staff of BHP Billiton for the project.  It would be stretching the words of the legislation to say that the fee was for a specific result.  While I accept that Mr Koundouras provided and used his own computer and software, I am not prepared to accept that this satisfies the second of the cumulative results test.  If the result is said to be the installation of an offshore pipeline it could hardly be said that Yalos or Mr Koundouras provided the equipment or tools required for that result.  The computer software may well be regarded as an extension of the intellectual property possessed by Mr Koundouras.  Finally, I accept the evidence of Mr Cini that it was not the custom or practice to consider Mr Koundouras liable for the cost of rectifying any defect.

15.     The remaining issues are whether Yalos, but for unusual circumstances in 2003 and 2004, could have been expected to meet the unrelated clients test and/or met the test in one or more preceding years and could reasonably have been expected to meet the test in subsequent years.  In my view, the answer to both of these is yes.  On the evidence of both Mr Koundouras and Mr Cini and having regard to the history of Yalos from 2001 to 2008, I am satisfied that the project involved and the services provided by Yalos were unusually large being expected to last some twelve months and the unexpected delays, out of control of either party, which extended the contract for more than one further year contributed unusual circumstances. Unusual, as defined in the Macquarie Dictionary, means not usual, common or ordinary.  I would expect that many of these type of projects encounter delays but would regard the extent of the delays in the Minerva Project as unusual.  I further find that Yalos did meet the unrelated clients test in a preceding year; 2001 and 2003 and could reasonably have been expected to meet that test in subsequent years.  It is appropriate to have regard to the industry in which Yalos operates and the limited number of players available within that industry.  As seen by the three separate contracts with BHP Billiton it is likely that one party may appear as a customer in more than one year of income.  Again, I am satisfied that the services provided is a direct result of offers or invitations to that limited market.

16.     It follows from the foregoing that the decision under review should be set aside and, in its stead, the respondent be directed to make a personal services business determination relating to Mr Koundouras’ personal services income included in the applicant’s income of the years ended 30 June 2004 and 30 June 2005.

I certify that the sixteen (16) preceding paragraphs are a true copy of the reasons for the decision herein of
Mr B H Pascoe, Senior Member

Signed:      Dianne Eva
  Clerk

Date of Hearing  24 March 2009
Date of Decision  29 May 2009
Counsel for the Applicant         Mr Alan Sandbach 
Solicitor for the Applicant          Ms Nurran Duali, AJH Lawyers
Counsel for the Respondent     Ms Julianne Jacques

Solicitor for the Respondent     Ms Mariam Abbass, Australian Taxation Office,       Legal Services Branch