Regina v Peter Michael Connolly John Donald Currie John Anthony Reid Peter William Russel
[2004] NZHC 1226
•22 October 2004
IN THE HIGH COURT OF NEW ZEALAND AUCKLAND REGISTRY
CRI 2004-004-000988
REGINA
v
PETER MICHAEL CONNOLLY JOHN DONALD CURRIE JOHN ANTHONY REID PETER WILLIAM RUSSEL
Hearing: 12-17, 20-24 September, 27 September - 1 October, 4-9, 11-14
October 2004
Appearances: JA Farmer QC, M J Ruffin and J L Mullineux for Crown H Fulton for P M Connolly
J Haigh QC and PF Wicks for J D Currie M A Gilbert and NCZ Khouri for J A Reid J R Billington QC for P W Russel
Judgment: 22 October 2004 at 15:20
REASONS FOR JUDGMENT OF FOGARTY J
R V PETER MICHAEL CONNOLLY And Ors HC AK CRI 2004-004-000988 22 October 2004
INDEX
Paragraphs
Introduction [1] – [4]
Conspiracy Counts [5]
The Digitech and NZIL Investments [6] – [44]
The future prospects of Digitech and NZIL [7]
The components of the scheme [8] – [17]
How the scheme was marketed [18] – [19] The legal opinion supporting the Digitech scheme [20] – [21] The tax advantage [22] – [26]
Implementation of the transaction [27] – [37] Intended performance of the obligations in year 10 [38] – [42] The use of the cash payments by the LAQCs [43] – [44]
The complaints leading to the prosecution [45] – [48]
The need for proof of dishonest agreement [49] – [59]
The Crown case [60] – [69]
As pleaded [60] – [64]
The Crown case as presented at trial [65] – [69]
Were the transactions entirely fictional? [69] – [116]
The consequences in a criminal conspiracy case
of inept implementation of a tax driven structure [106] – [116]
Did the accused represent the scheme as using real money? [117] – [195]
Did the accused make representations to the investors
in correspondence? [118] – [182]
Did the contract term promise a real insurance premium? [183] – [195]
Conclusion as to whether there was a dishonest conspiracy Among any of the accused in respect of the Digitech Scheme,
Against the investors [196]
Is the position different in respect of the NZIL scheme? [197] – [199]
Proof of conspiracy against the Commissioner of Inland
Revenue [200] – [205]
General conclusion [206] – [208]
Introduction
[1] On 14 October last I acquitted all the accused of all counts that they were facing. The recent decision of the Court of Appeal in R v Eide CA77/04, 8 September 2004, at paragraph [21] requires that the parties are entitled to know the key elements of the reasoning behind the verdict. That includes laying out the key facts in the case. The judgment has to be capable to being read as a stand alone document. After delivering my verdict Mr Ruffin for the Crown intimated that he was intending to make an application under s380 of the Crimes Act that the Court reserve for the opinion of the Court of Appeal one or more questions of law, with a view ultimately of seeking a directed verdict. Inasmuch as paragraph [21] of Eide may fall short of requiring a full judgment, Mr Ruffin’s intimation requires that my reasons should be full, in the manner of a judgment in civil proceedings.
[2] The charges which the accused faced were two counts of conspiracy to defraud against all of them, and 19 other laundering counts against various of them.
[3]At the start of the trial the Crown made a formal concession as follows:-
If an accused is acquitted on a conspiracy count the Crown accepts it could not prove beyond reasonable doubt an antecedent offence for the purpose of money laundering counts arising from that conspiracy count.
[4] Accordingly, the acquittals on the laundering counts followed immediately upon the acquittals on the conspiracy counts. Because of the concession it is not necessary to give reasons for the acquittals on the laundering counts. However, the conduct which the Crown says was laundering is relied on by the Crown as also being evidence in support of the conspiracy counts and where appropriate I will refer to it.
The conspiracy counts
[5]The two conspiracy counts are as follows:-
1.The SOLICITOR-GENERAL charges that between the 30th of September 1994 and 1 April 2000, at Auckland and elsewhere, PETER MICHAEL CONNOLLY, JOHN DONALD CURRIE, JOHN ANTHONY REID and PETER WILLIAM RUSSEL conspired by deceit, falsehood and other fraudulent means, to defraud both members of the public investing through a loss attributing qualifying company and the Commissioner of Inland Revenue in relation to an investment in DIGITECH COMMUNICATIONS LTD.
2.The said SOLICITOR-GENERAL further charges that between the 21st of March 1996 and the 1st of April 2000, at Auckland and elsewhere PETER MICHAEL CONNOLLY, JOHN DONALD CURRIE, JOHN ANTHONY REID and PETER WILLIAM RUSSEL conspired by deceit, falsehood and other fraudulent means to defraud both members of the public investing through a loss attributing qualifying company and the COMMISSIONER OF INLAND REVENUE in relation to an investment in New Zealand Investments Ltd.
The Digitech and NZIL investments
[6] The charges which the accused face are conspiracy to defraud investors who expended directly a total of about $16 million investing in two investment schemes. Digitech came first and then NZIL.
The future prospects of Digitech and NZIL
[7] Both Digitech and NZIL were companies whose future prospects were quite uncertain. Digitech, as the name suggests, was a company with expertise in digital products. In particular the company was developing products designed to be sold to persons who leased circuits from telephone companies. These products were designed to enable the lessors of the circuit to maximise the capacity leased by
inserting data transmissions into existing traffic. The particular exciting prospect of Digitech was a project known as “Free Rider”. NZIL was a holding company. Of its assets only one was likely to drive significant growth in the future. That was an invention extending the life of car batteries. If the invention proved commercial and generated very large sales the value of NZIL would have been considerable. In brief, both companies would only be worth considerable sums of money in the future if their unproven products were successful. Mr Chapman, the senior partner at Gosling Chapman, an investor in the Digitech scheme, summed it up by saying that Digitech would either be worth a lot of money in the future or nothing. The prospects for NZIL were slightly different, as it did have one orthodox asset, a company called Fruehauf which manufactured heavy road trailers. It was common ground between the parties that both Digitech and NZIL were worth nothing like the consideration being promised in the investments. So that the investments were speculative in nature, in the vernacular to buy their shares was a “punt”.
The components of the schemes
[8] Both investment schemes had a similar core structure, of three components. Apart from different detail the NZIL scheme was on the same template as Digitech. The trial focussed on the Digitech saga. And following the trial, I use this scheme to explain the components. The first component was an agreement by the investor to purchase the shares of Digitech over a ten-year period; structured so that the bulk of the purchase price was payable in year 10.
[9] The second component, designed to de-risk the speculative character of the investment, was a loss of profits insurance policy in the event that in year 10 the shares were not of a particular value. The second component of the structure was optional. The third component was a loan to the investor to pay the bulk of the insurance premium. This was a non-recourse loan. The financier took security in the form of a mortgage over the purchasers’ rights to the shares and the proceeds of the insurance policy. All the investors bar one took up the insurance policy and loan.
[10] These three components are most easily understood by taking the standard Digitech investment. Digitech had 100 million shares of a nominal value of $1 on issue. The asset backing of Digitech on day 1 was nominal. It was not capable of earning a profit and depended on financing by its owner, N-Tech. N-Tech owned all the Digitech shares. Most of the purchases of the Digitech shares from N-Tech were to purchase 1 million shares for $1 million. Where a parcel of 1 million shares was purchased an initial deposit of $95,000 was payable upon signing the agreement (at various dates in 1995) with further deposits of $10,000 each payable annually from 1 April 1988, up to and including 1 April 2004. Final settlement ($835,000) of the balance of the purchase price was to take place on 31 March 2005.
[11] The insurance policy provided that in the event that the share purchase was completed at the end of year 10 and the shares sold on the open market for less than
$3 million, the insurer would pay the insured the difference between the value of the shares realised and 3 million. So if the shares were worth nothing the insurer/investor would receive $3 million.
[12] The premium for this insurance policy was $1 million payable at the time of entering into the investment in year 1. (The premium was in US dollars but for simplicity I am expressing it in New Zealand dollars.) The premium was funded by a cash contribution of NZ $40,000 and a loan of NZ $960,000. This loan bore interest, so that by year 10 the total indebtedness would be $2.8 million. The loan was a non-recourse loan. The investor assigned absolutely to the insurer the right to complete the purchase of the shares in year 10, and the benefit of the insurance policy. In return the lender promised not to sue the investor in the event that the securities did not cover the amount of the indebtedness.
[13] The investor was a $100 LAQC incorporated by the “member of the public” investing.
[14] Superficially these three elements make it look as though the insurance policy will enable the LAQC to complete the purchase in year 10 in any event. So even if the shares are worthless the maximum loss will be of the deposits paid and the
$40,000 to the insurance premium.
[15] In fact the interacting terms of the various agreements and policies led to the consequence that a claim could only be made on the insurance policy after the share purchase had been completed, and then after the shares had been resold for a value less than $3 million. But the share purchase could only be completed by repaying the loan. So before a claim on the insurance policy for $3 million could be made the LAQC had to repay a loan of $2.8 million and purchase the shares for $0.85 million, a total expenditure of $3.65 million. This meant that the LAQC would only break even at some value of the shares above $3.6 per share in year 10. There were competing estimates of what that value was. The value fluctuates depending on what additional costs one loads into the calculation, such as recovery of the deposits and the cash portion of the insurance premium and loss of interest on the use of money, and tax payable on the proceeds of the claim.
[16] Superficially the Digitech deal presented as a no risk investment in a speculative company. Nonetheless the LAQC still parts with a reasonable sum of money in cash in year 1. On the example given it is the sum of $135,000 ($95,000 deposit and $40,000 contribution to insurance premium). For practical purposes of course that sum is found by the LAQC’s shareholder(s). They are the persons referred to as the “members of the public” in the conspiracy counts.
[17] There were over 70 shareholder investors in the two schemes. Only a few of them gave evidence at the trial.
How the scheme was marketed
[18] The Digitech scheme was introduced by Gosling Chapman to their clients. These clients were taken to MRT for a presentation of Digitech’s commercial products. These events took place in January, February and March of 1995 in respect of the first tranche.
[19] Gosling Chapman “introduced” the Digitech investment to their clients. An apparently typical letter was one dated 25 January. It is appropriate to set it out in full:
DIGI-TECH COMMUNICATIONS LTD
Further to our recent communications with you in regard to the proposed investment in the above company, pleased find enclose the following:
1.A confidentiality deed prepared by Milloy Reid Tong & Company Ltd (“MRT”) which you need to execute and return to MRT.
2.A full information memorandum in regard to Digi-Tech Communications Ltd, which includes various appendices, including a draft sale and purchase agreement, together with various financials.
3.A copy of the “Loss of Profits” insurance policy together with the loan documentation and Mortgage of Personal Property Agreement, should you wish to avail yourself of these facilities.
As discussed with you previously, we would rate this investment as high risk and to this extent we ask you to proceed with caution. We stress that our firm is not expert in the telecommunications field and that a company that is in the innovative side of communication technology is very difficult to value.
In discussions with John Reid of MRT, it is obvious the company with its “Free Rider Project” is at the forefront of the communication technology and this we think will put the company in a very good position in the future. We must qualify this again by saying that this industry being innovative is full of risk and this is why we ask you to please consider the investment very carefully.
In the early stages of looking at this investment, we requested MRT to look at ways of minimising the potential exposure and in this regard to seek, if possible, a loss of profits insurance policy and we also requested MRT to see if finance could be obtained for this policy up to a minimum of 90%.
MRT through contacts in the United Kingdom and the United States, have been able to locate companies overseas that will provide such cover and finance. The main term of the policy is that for every $1M invested, the policy will cover three times the increase in share price (i.e., $1 to $3). The
$1M premium will be financed 96% by a United States bank at an interest rate of 11%. You may wish to avail yourself of this insurance facility.
The bank will require as security the assignment of the loss of profits insurance policy and also the agreements for sale and purchase of the Digi- Tech communications Ltd shares.
We note that although Castle Brown, Barristers and Solicitors, have reviewed the sale and purchase agreement and loss of profits policy together with the loan document and Mortgage of Personal Property Agreement from a general legal prospective for ourselves, and are reasonably happy with their contents, we believe you should seek independent legal advice in regard to these contracts. This opinion is a privileged document and was prepared for Gosling Chapman only.
Generally if you invest in shares and it is not your normal business, and you do not at the outset have an intention of resale, and the investment is
intended to be a long-term investment, then any subsequent profit arising out of the future sale of the shares is not taxable. If you have acquired the shares in this company with the intention or purpose of selling, then the profits or gains are generally taxable.
We also enclose for your reference an opinion from Denham Martin & Associates, Barristers and Solicitors, to ourselves, in regard to the taxation issues arising out of the proposed investment. This opinion is a privileged document and was prepared for Gosling Chapman only.
The initial deposit for this investment must be paid on or before 15 March 1995 and the cashflows on present day dollars (excluding final settlement of
$835,000) from 15 March 1995 up to 31 March 2005 are as follows:
With Insurance Without Insurance
Deposit on Shares 95,000 95,000 Insurance Premium
(net of loan) 40,000 -
Further Deposits on Shares
(1998 – 2004 inclusive) 70,000 70,000
$205,000 $165,000
====== ======
If you decide to form a company for this particular investment, Gosling Chapman can arrange this for you at a cost of $850 plus GST. There are various other costs, but these should not amount to any more than $500, and the remainder of Gosling Chapman’s fees will be paid by MRT.
Finally, we urge you to seek independent legal and taxation advice prior to entering into this transaction.
Yours sincerely
PW Russel
GOSLING CHAPMAN
The legal opinion supporting the Digitech scheme
[20] The opinion from Denham Martin and Associates is also dated 23 January 1995. This opinion offers the view that if it could be established that the investor had acquired the Digitech shares as part of “share dealing” activity or that the shares had been acquired for the purposes of resale or as part of a profit making undertaking scheme then any profits or gains arising from the sale of the shares would be
assessable income. To ensure that was the case the concept was that the shareholder investor would establish an LAQC whose stated business would be to acquire the Digitech shares for the purposes of resale. In that situation the Denham Martin opinion was to the effect that in this particular scheme the insurance policy paid (the
$1 million) would be fully deductible in year 1, as an “expenditure” by the shareholder investor.
[21] The deductibility was for a number of technical reasons, one of the most important of these was that under the terms of the insurance deal the insurer would set up a purpose trust and fund it so as to enable the trust to meet potential claims in ten years time. Having set up the trust the insurer would have fully discharged its obligations under the policy. The investor would not be entitled to sue the insurer. Nor would the investor be a beneficiary of the purpose trust. The investor would have no rights against the trustee of the purpose trust:-
The most an investor can expect under the arrangement is the payment of the money at a future time in accordance with the terms of the purpose trust and money is clearly excluded from the operation of section 104A.
The tax advantage
[22] Apart from enclosing the Denham Martin letter, in none of the documentation provided by Gosling Chapman to their clients is the tax advantage referred to, let alone quantified. Obviously Gosling Chapman explained this orally. Although several partners gave evidence I was never told what would have been said. But it is not hard to surmise from these consequences. The tax advantage from this typical $1 million deal is that the shareholder of the LAQC is entitled to claim in year 1 an expenditure of $1 million in his tax returns. At the then prevailing tax rate of 33% it followed that if that person would otherwise have had an assessable income of $1 million and a tax liability of $330,000, his annual income would reduce to nil and thereby his tax liability vanish. In cash terms he would have expended $135,000 in year 1 to get into the scheme but avoided having to pay tax of $300,000 and so his cash position would be improved in the sum of $165,000. I was left in doubt as to whether this was explained as a tax timing difference, for the proceeds of the insurance policy would be taxable. But a number of the investor witnesses expected
they could leave the policy with the lender and walk away if it was not worth their while to complete the purchase.
[23] All the investor witnesses called at the trial accepted that they did understand the tax advantage at the time they entered into the transaction and the presence of the advantage influenced their decision to invest. I am quite satisfied that the tax advantage was the immediate attraction for entering into these investments. Throughout the trial I was never won over by the notion appearing in the information documentation and advanced by some of the witnesses that these investments were a speculative punt into the future, comforted with an insurance policy, incidentally offering a tax shelter.
[24] All the investors in the scheme were by definition high income earners. The Court presumes that they were either themselves smart and astute or capable of taking smart and astute advice. Absent the tax advantage the arithmetic made nonsense of the insurance policy. This is if they bothered to read the small print. The predominant impression I obtained is that clients were impressed that Gosling Chapman partners were themselves investing. They were told that by the partner they dealt with. Therefore those investors who took out the insurance policy (all but one) did so either because they did not bother to look at the small print of the documents they were signing and/or because they knew the only way to get the $1 million tax deduction was to take out the insurance policy. In substance then there is no doubt that the investors took out the insurance policy package in order to obtain the tax advantage.
[25] The purpose trust was and is an unusual concept, unknown then and now to New Zealand law. It is a trust without beneficiaries. It is quite plain from reading the Denham Martin opinion that it is placed into the structure solely in order to ensure the tax advantage.
[26] It was also apparent from the documentation sent with this Gosling Chapman letter that the insurer would be a Netherlands company. The insurer was not named in the documents circulated on 25 January but simply described as “Netherlands
insurer”. The lender was named as Bank of New York – Intermaritime Branch Geneva (BNYIMBG).
Implementation of the transaction
[27] Conceptually all the transactions were intended, to be implemented in this following fashion. Each person investing in the scheme would each or in combination incorporate an LAQC. This meant that for tax purposes the expenditure and the income of that company could be incorporated into the tax return of the shareholder. Each LAQC was incorporated for a nominal sum, $100. The LAQC would immediately sign a memorandum indicating that its business was to trade in shares.
[28] Then the LAQC would execute an application to purchase shares in Digitech Ltd, an application for insurance and an application for loan funding. After notification of acceptance of these, the LAQC executes the agreement for sale and purchase, and pays to N-Tech the deposit. The LAQC then executes the loan agreement and the mortgage of personal property to the lender to secure to the lender the benefit of the agreement for sale and purchase and the insurance policy. The LAQC provides the 4% of the $1 million insurance company. The LAQC authorises Mr John Currie, a solicitor in Hong Kong to receive the cash portion of the insurance premium and from the lender the advance for the balance of the insurance premium and to pay the insurance premium from these proceeds. In due course the investors received back the share purchase agreement, a copy of the certificate of insurance, a copy of the loan agreement, a copy of the mortgage personal property and acknowledgment of receipt that the insurance premium had been paid. They made these documents to support the entry of the expenditure of $1,000,000 in their tax return.
[29] From these documents the investors know there is an offshore leg to the scheme. But they do not know what happens there. There is no evidence before me that any of them asked, or wanted to know. Some of the witnesses said they were reassured that an American Bank was involved.
[30] The draw down of the loans and payment of the insurance premiums were through Mr John Currie, a solicitor and accountant, being a member of the firm of Grant Thornton Byrne in Hong Kong. It was always intended, at least by Mr Currie and Mr Reid, that the loan draw down and payment of the insurance premium would be effected by a circular transaction. The lender on the face of the loan agreement to the LAQC was intended to be a fiduciary lender, though that was not disclosed on the loan documents. By a fiduciary lender I mean that the lender would be on lending funds received from a principal who would be unnamed. The unnamed principal was a company called Asian Growth Fund Ltd or AGFL. AGFL would advance the loan to the fiduciary lender. The fiduciary lender would immediately on lend the money to Mr John Currie as agent for the New Zealand borrowers. He would immediately pay the Netherlands insurer (Digitech Epicharmus Vastgoed BV). The insurer would then endorse the payment in favour of an entity called Swiss Underwriters Group Ltd, who would endorse the payment in favour of AGFL. It was a circular settlement, which did not need cash, as each liability to pay in cash a certain sum was matched by a counterpart obligation.
[31] All the entities in this transaction other than Mr J Currie were corporate entities, lawfully incorporated according to the law of the jurisdiction of their residence. According to their local law they all had directors and shareholders (often themselves limited liability companies) and duly authorised signatories. The intention was to settle each transaction by a negotiable instrument endorsed by one party in favour of the other so that the complete set of endorsements transferred a certain sum between all the parties. Then the accounts of each entity would record receipt of that sum and then the ongoing advance of it. So the lender would record the advance to J Currie as the draw down of the loan in favour of the New Zealand borrowers. The record of the advance would be broken down into accounts per individual borrower, Mr Currie merely being the agent for receipt of the borrowed funds. Similarly the insurer, Epicharmus, would record as a credit the receipt of the premium in accounts for each individual insurer. Epicharmus the insurer would instruct Mr Currie to pay the cash component of the insurance premium to Swiss Underwriter Group. This company held no bank account. So the cash component was held by Mr Currie as solicitor acting as settlement agent for the parties. With one exception the cash component was not included in the amount of the endorsed
negotiated instrument. As Mr Currie acted for both the insured and the insurer’s nominated recipient, Swiss Underwriter, it appears the latter’s right to the sum transferred by the acknowledgment of receipt by the insurer.
[32] This circular transaction is clearly set out in a handwritten diagram of the settlement circuit and explanations for each step prepared by Mr Reid and sent to Mr Currie on 29 March 1995. It is quite clear that Mr John Currie and Mr Reid understood the circle for the first tranche of the first Digitech transaction. It can be safely inferred they both understood and Mr Currie supervised the circular character of the settlement of each tranche thereafter.
[33] The particular settlements did not always go to plan and nor was the documentation complete. It had been originally intended to use BNYIMBG as the fiduciary lender. But on the eve of the intended settlement of the first tranche before 31 March 1995 (the end of the tax year for the LAQCs) not all the documentation required by BNYIMBG was available and the bank refused to participate until it was. Another Grant Thornton Byrne shelf company, Mei Shing Trading Limited, was inserted. A document entitled “transferable certificates of deposit” was drawn up. Although that was its title there was no underlying bank deposit. The terms of the document though were by way of promissory note:-
MEI SHING TRADING LIMITED
TRANSFERABLE CERTIFICATE OF DEPOSIT
HK 4398 DUE 29 March 1995
Mei Shing Trading Limited will pay to John Donald Currie of 13B Haven Court Discovery Bay Hong Kong being the Registered Holder the sum of Twenty million and eighty nine thousand six hundred United States dollars
US$ 20 089 600
ON THE 29TH DAY OF March 1995 upon presentation and surrender of this certificate to Mei Shing Trading Limited at its office at 1st Floor New Henry House No 10 Ice House Street Central Hong Kong by way of bank Cheque
Signed for and on behalf of Mei Shing Trading Limited by its duly authorised signatory
MEI SHING TRADING LIMITED TRANSFERABLE CERTIFICATE OF DEPOSIT ENDORSEMENT SCHEDULE
PLEASE PAY EPICHARMUS VASTGOED BV Officia 1, 2nd Floor
De Boelelaan 7 1083 HJ Amsterdam
Authorised Signatory ………………………………………..
PLEASE PAY SWISS UNDERWRITERS GROUP LTD 1st Floor
New Henry House 10 Ice House Street Central Hong Kong Authorised Signatory ………………………………………..
PLEASE PAY ASIAN GROWTH FUND LTD Level 40 Lippo Tower
Lippo Centre 89 Queensway Hong Kong
Authorised Signatory ………………………………………..
PLEASE PAY MEI SHING TRADING LTD 1st Floor new Henry House 10 Ice House Street Central Hong Kong
Authorised Signatory ………………………………………..
[34] Although this document is entitled the “Transferable Certificate of Deposit” it functions as a promissory note, and was intended to be endorsed by successive promisees, back to Mei Shing.
[35] Not all the TCD/promissory notes were discovered by the SFO. At least some were incorrectly endorsed by the wrong person e.g. the first endorsee should have been Mr Currie. On the first and other TCDs it was not. And some were endorsed out of time sequence. I will be returning to these gaps and deficiencies, later in the analysis.
[36] In a substantial sense there was never intended to be and never was any “real” money loaned and any “real” premium paid. Here I use the word “real” as meaning an asset being a sum of money which was capable of being used for any other purpose. If I have a credit in my trading account for a $1,000 it is real in the sense that I can withdraw it to buy a TV set, some airline tickets to Australia, or simply as spending money. There was no such reality here. The assets and liabilities in these endorsed instruments were created, passed on and accepted, strictly on the understanding that they would be neutralised by the complete set of
endorsements on the instrument. That was made clear by Mr Tuyll, responsible for the conduit companies of Insinger de Beaufort in Hong Kong. It is obvious as well.
[37] It is also clear from the evidence that the persons authorised to transact business on behalf of these corporates did, however, regard these circular transactions as being real, and lawful, and justifying entering appropriate entries in the corporate books of account recording the transactions as having taken place. In the case of loans they were then seen as being the draw down of the loan and justifying the charging of interest during the term of the loan. In the case of the insurance premium they were seen as justifying issuing a solemn receipt of payment of the premium and thus satisfaction of the insured’s obligations under the insurance policy. I will return to this topic later, and illustrate by examples of correspondence.
Intended performance of the obligations in year 10
[38] All the obligations in Digitech are due to mature on 31 March 2005. It will be recalled it was intended that in the event of a claim on the insurance it would be met by a payment from the purpose trust. At the time the first Digitech transaction was entered into in March of 1995 there were only two jurisdictions in the world which recognised as lawful a purpose trust having no beneficiaries and not being a charity. They were Liechtenstein and one of the tax havens in the Caribbean. The first purpose trust was set up based in Hong Kong, but found on close examination not to be the sort of purpose trust intended by Denham Martin in its opinion. A replacement purpose trust was set up in the British Virgin Islands at a time when that jurisdiction had legalised the entity.
[39] It is and always was obvious, if any investor or their advisers bothered to read the terms of the agreements, that it was very unlikely that there would ever be a claim made under the insurance policy. There was no evidence led of any investors scrutinizing year 10. Mr Chapman took the simple view, he was an investor as well, that if the shares were not valuable he would leave the transactions with the Bank. Remember the loan is a non-recourse loan to a valueless LAQC.
[40] Mr Denham Martin said he did not examine how the transaction would unwind. Commercial investors usually do. In tax driven structures that I have examined when in private practice the unwind at the end is often not worked out, at the outset. It can be tricky. This is because of the arithmetic set out above. The cost of making a claim would be more than the net benefit. If the shares at the year 10 are simply not worth $3 million the $100 LAQC companies will simply not bother completing the transaction. It will be a waste of time for the lender to collect the debt against the LAQC. The shareholders of the LAQC are not liable on the debt. Shareholders have nothing to gain by funding the LAQC to repay the loan and complete the purchase because they would be spending nearly a million dollars more than they would receive.
[41] However, in the unlikely event that a claim was made the thinking of Mr Reid was that there would then be funds in cash in excess of $3 million available to the related entities, ensuring the honouring of the insurance policy. The principal lender, AGFL, would have cash of $2.8 million and N-Tech cash of $850,000 from which sums could be advanced totalling $3 million to the insurer, Epicharmus, for on-sending to the special purpose trust which would make the payment to the insured.
[42] In sum, Mr Reid said, in a voluntary interview to SFO investigators, that the shareholders of the LAQC got what they contracted for.
The use of the cash payments by the LAQCs
[43] The deposits on the purchase of the Digitech shares were paid to N-Tech. Both companies were owned by the merchant bankers, Milloy Reid Tong, later Milloy Reid Wong. These receipts went into a general treasury account of that firm. Mr Reid personally had no greater benefit from the receipt of those funds than did any of his other partners in the firm. Those cash deposits amounted to about $7.5 million in the case of Digitech. Gosling Chapman had negotiated a “brokerage” fee for placing the Digitech deal to investors at 1.67%. This netted about $1.2 million, including I think the NZIL placement.
[44] The cash portion of the insurance premiums remained under the control of Mr Currie. They were used to reward Mr Currie, Mr Paul Darvell, Mr Connolly and Mr Russel. Mr Currie took substantial fees for his role, being in effective control of transactions in the offshore leg of the scheme. Mr Connolly was paid £40,000 for his role, pretending to be a third party between Mr Reid and Mr Currie arranging for the establishment of the insurer and other associated corporate entities. In fact this task was done by either Mr Reid or Mr Currie, or both of them in combination. Mr Paul Darvell, now deceased, had a role in the refinements of the design of the structure and was rewarded with the sum of at least $600,000 New Zealand. Mr Russel received a payment of $600,000 or thereabouts also from these funds. That last payment to Mr Russel was in addition to his share of the brokerage payment to Gosling Chapman for obtaining the investors. This additional payment appears to be the reason he was arrested and charged with being a conspirator.
The complaints leading to the prosecution
[45] It was always anticipated by Gosling Chapman and Denham Martin that these investments would be scrutinised by officers of the Inland Revenue Department. Such an investigation would obviously be triggered by the sudden elimination of all, or substantially all, of the tax liability of the shareholders of the LAQC in year 1.
[46] It was originally perceived that the IRD scrutiny would be directed to the proposition as to whether or not the full amount of the insurance premium could be expended in year 1 or whether it would have to be accrued across the life of the policy. Indeed it was the latter issue rather than avoidance as such which was the focus of the intention of an IRD investigator for some years before the Department began to address the possibility that the whole scheme was an avoidance.
[47] As the IRD scrutiny continued the partners of Gosling Chapman developed a perception that they may be exposed to claims by their clients in the event that their clients suffered a loss consequent upon the tax deductibility of the insurance premium being set aside. (They would not suffer a financial loss otherwise, as explained above.) Mr Rowan Chapman, the senior partner, made a complaint to the SFO. His evidence in this respect was as follows:-
Notes of Evidence page 29 line 31 through to page 30 line 6.
q. You are the person who laid the fraud complaint, is that correct?
a. That’s correct
q.And the essence of your complaint was that the investors, of which you are one, were deceived into believing that they were dealing with a substantial lender and a substantial insurer with no link between them and no circularity of funding. Is that fair?
a. That’s correct.
q. And your basic position is that Gosling Chapman was mislead by the accused on these matters and as a result its investor clients were similarly mislead.
a. That’s correct.
[48] A second complaint was made by the Commissioner of Inland Revenue Department at a later date. No witnesses were called by the prosecution from the Inland Revenue Department. At one point the Department appeared to be taking the view that no loan or insurance transactions took place. That appears to have been the Department’s officer’s view at the time the complaint was made to the Serious Fraud Office. But at a later date when dealing with those of the investors who had not settled, the Department’s officers changed their view. The current IRD position, to the limited extent that it is before me, is that the transactions did take place, but the structure was avoidance. For at least one LAQC, the Commissioner has allowed a reconstruction whereby the premium is deductible in year 11 if a claim is made on the insurance policy, at least for some of the shareholder investors.
The need for proof of dishonest agreement
[49] It is obvious, and was common ground, that dishonesty is essential to each of these conspiracy counts, being conspiracies to defraud by depriving persons of property. In such frauds the onus is on the Crown to prove that each accused was acting deliberately and with knowledge that his conduct was in breach of his legal obligation. Counsel were agreed that the most apposite of the many authorities on this point was the decision of the Privy Council in Adams v R (1994) 12 CRNZ 379. The subject of those proceedings were four conspiracy counts that the accused did conspire with one or more of the others by deceit, falsehood and other fraudulent
means to defraud various entities of the Equity corp group. In Adams their Lordships adopted part of the advice in the decision Wai Yu-Tsang v R [1992] 1 AC 269, where Lord Goff of Chieveley delivering the judgment of the Board said of the expression “intent to defraud”, that:
In broad terms, it simply means an intention to practise a fraud on another, or an intention to act to the prejudice of another man’s right.
[50]Lord Gough also said at pages 279, 280 as follows:-
The question whether particular facts reveal a conspiracy to defraud depends on what the conspirators have dishonestly agreed to do, and in particular whether they have agreed to practise a fraud on somebody. For this purpose it is enough for example that, as in Reg v Allsop and in the present case, the conspirators have dishonestly agreed to bring about a state of affairs which they realise will or may deceive the victim into so acting, or failing to act, that he will suffer economic loss or his economic interest will be put at risk.
[51] On the subject of whether or not a person can be guilty of fraud by concealment the judgment in Adams says at page 391:-
In Their Lordship’s view a person can be guilty of fraud when he dishonestly conceals information from another which he was under a duty to disclose to that other or which that other was entitled to require him to disclose. …
[52] In this case the Crown has to prove that at least two of the accused have dishonestly agreed to bring about a state of affairs which they realise will or may deceive one of the shareholder investors into acting or failing to act so that he will suffer economic loss or his economic interests will be put at risk, and also consequently defraud the Government.
[53] Where, as here, the Crown goes on to say that a significant part of the conduct was dishonest concealment of information, it is necessary for the Crown to show that one or other of any conspirators was under a duty to disclose information.
[54] There is no doubt on the facts that a large group of persons, including but extending beyond the accused, were all working with a common intention of obtaining a significant tax advantage and persuading the IRD it was not by avoidance. That group included the shareholder investors themselves, the partners of Gosling Chapman, Mr Denham Martin and Associates, Milloy Reid Tong, Insinger
de Beaufort, Mr Paul Darvell, and arguably the solicitors doing minor work enhancing the commercial “look” to the documents. All of those persons must have known that it was a venture full of risk, but offering substantial financial reward.
[55] As Mr Fulton stressed in his submissions, it is important not to lose sight of the need to prove not just an agreement upon a course of conduct but that it is a dishonest agreement by at least two conspirators. That is why it is necessary for the Crown to prove against each of the accused before that accused can be convicted that the accused had a subjective belief that its conduct was in breach of his legal obligations.
[56] It is not possible to prove directly a person’s state of mind. Conclusions as to any person’s state of mind are derived by inference. I have discussed this process in an earlier judgment that I delivered in a civil conspiracy case earlier in the year: EIL Brigade Road Limited v Brown and Ors (CIV 2001-409-000733, High Court, Auckland, 5 August 2004). Proof of a state of mind is not displaced by the subject person denying the state of mind or by failing to make any statement. It has to be inferred, from that and other persons’ conduct. It is important to look at the whole pattern of conduct before forming a judgment. For example, a particular act may be capable of being explained as a mistake or as a deceit, but when that particular act is put into the whole pattern of events it becomes much easier to judge whether it is a deceit among other deceits or a mistake among other mistakes or has some other characterisation, such as being an exceptional event.
[57] In his closing submissions Mr Ruffin urged upon me that the Crown case depended upon all of the overt acts including the money laundering conduct canvassed during the five week trial, as to be taken into account when forming a judgment as to whether there was a dishonest agreement. I agree. The problem for the Crown, as I will endeavour to illustrate by example, and it can only be by example, is that there is a persistent pattern of conduct by the accused which presents behaviour very explicable as being persistent efforts to act within the law of the jurisdiction of the transaction. Persistent lawful conduct does not rule out a significant breach of legal obligation sufficient to found conspiracy. The facts of Smith New Court Ltd v Scrimgeour Vickers [1997] AC 254, 276, a case discussed in
the EIL Brigade Road Ltd judgment, is illustrative of this. There the critical illegal conduct of the brokers was plainly a lapse, but a crucial lapse.
[58] I reminded myself at the time, but have been asked to record in the judgment by Mr Ruffin as a record, that the onus in this case is on the Crown and that it must prove the counts beyond a reasonable doubt. That means that I had to be sure before I could have convicted the accused. It was because at the end of a five week trial I was quite sure that the Crown had not discharged this onus that I perceived I had a duty to immediately acquit the accused and deliver my reasons later.
[59] I now consider myself under a duty to set out in this judgment the reasons for the acquittal verdict, so far as possible as they were in my mind at the time I made the decision. This is not the occasion, after the event, of finding reasons to justify the verdict. I direct myself accordingly to guard against that in the course of preparing what has to be a reasonably lengthy judgment. However, to illustrate and explain my reasons, I have selected examples from the documents, and quotations from the cases, since the acquittal.
The Crown’s case
As pleaded
[60] The core particulars for both conspiracy counts were the following propositions:-
What might have been a legitimate (if marginal) tax scheme was however rendered a fraud on the investors by the fact that the insurance and loan transactions were entirely fictional. The transactions comprising them were circular. The so-called financier or bank and insurer were beneficially owned and controlled by Messrs Reid, Currie and Connolly, who together established, maintained or participated in implementing the structure. The true beneficial ownership and circularity of the underlying transactions were concealed from the investors and from the Commissioner of Inland Revenue. (Count 1)
(Amended particulars, Digitech, page 5, paragraph 8. The identical particular in the NZIL count 2 is paragraph 13.)
[61] Under the heading “Defrauding the public and any person” there are a number of particulars but the substance of them is gathered together in two paragraphs, 20 and 21 of count 1 as follows:-
20.There were thus several fraudulent acts involved in establishing and implementing the template. At the heart of these were the dishonest representations to the investors that the underlying loan and insurance transactions were real, because if they were not (and they were not):
·the investors’ LAQC would not have the cash contribution (4% of the premium) used for the purpose of paying loss of profits insurance policy premium.
·the bottom line benefit to the investors (the tax relief) would be disallowed, and
·without the downside protection, the agreements for sale and purchase would not have been entered into and the deposits not paid.
21.These representations that the underlying loan and insurance transactions were real were made by the accused both in the template documents and other letters, memoranda, contracts including deeds which they wrote or directed to be written or arranged for others to write for the purpose of being shown to the investors and/or their professional advisers. These representations were a fraud against the investors as the investors’ claim for deductibility of the insurance premium and deductibility of interest on the loan would unwittingly be false if there was no genuine insurance premium and no genuine loan. This would consequentially defraud the Commissioner of Inland Revenue who, in the absence of further investigation to unearth the true position, would be obliged to allow deductibility in appropriate years for the insurance premium and payments of interest pursuant to the loan.
(The identical paragraphs in the NZIL count are paragraphs 26 and 27)
[62] It is appropriate to refer further to particulars of the overt acts from which the conspiracy to defraud can be inferred. There are four general clauses as follows:-
1.The accused and Mr Darvell participated in varying degrees in the design of the template documents, the discussions with the various professional advisers both representing Gosling Chapman & Co and independent investors, to refine a total wording of the template documents.
2.The accused and Mr Darvell all participated in telephone discussions including the instruction of other professional persons to take steps to form new or acquire existing companies and/or trusts; directing or
inducing persons to take consequential steps so that ultimate a paper trail existed which ostensibly showed that there was a real contract of insurance and an entity or entities available to meet the obligations under the policy of insurance forming part of the template and a real bank which provided a real loan for the purpose of paying the premium to the insurer.
3.Meticulous and intricate documentation was generated by way of a manufactured paper trail and kept by the accused to provide as appropriate evidence to investors and their professional advisers; and to the professional colleagues in Gosling Chapman and Milloy Reid Wong & Company Ltd that the structures underlying the template were legitimate and real and being implemented as required by the template; and provide an audit trail for any possible examination by investors and/or the Commissioner of Inland Revenue.
4.More specifically, the file notes, communications, the draft letters, letters, memoranda and actual documents prepared by various accused are identified generally in the following evidential volumes. Each act and/or declaration of each accused set out in such documents is relied upon.
[63] The same four particulars are repeated in the NZIL count with the variation that paragraph 1 deletes the words “and Mr Darvell” and adds the words at the end “to the NZIL investment proposal (the NZIL template)”. Paragraph 2 deletes the words “and Mr Darvell”. Paragraphs 3 and 4 remain the same.
[64] As is apparent from paragraph 4 the particulars rely on all of the conduct of the accused.
The Crown case as presented at trial
[65] Mr Ruffin for the Crown opened and closed on each occasion focussing on these pleaded particulars which I have just set out.
[66]In his opening, and repeated in his closing, Mr Ruffin said:-
15.The essence of Counts 1 and 2, being the conspiracy charges, is that there was an intention to defraud both the investors and consequentially the Commissioner of Inland Revenue as:
· If there was no genuine loan, there could be no genuine interest deduction claimed in appropriate years by the investor nor allowed by the Commissioner as a deduction.
· If there was no real insurance premium paid to an insurance company that could meet the policy obligations from its own funds, then the investors could not deduct a premium in the appropriate years nor the Commissioner allow such a deduction.
· The 4% cash contribution by each investor LAQC made in respect of the insurance premium was never used for that purpose
(Paragraph 36 of opening, paragraph 15 of closing)
[67] This submission is complemented by the following submission, made both in opening and closing, as follows:
18.It is assumed for the purpose of this prosecution that if the template had been implemented as documented and represented and:
· a real loan obtained to pay 96% of the premium
· a real payment of premium had been made (from the 4% cash provided by the investors LAQC and the 96% borrowed from the bank), to an insurance company not directly or indirectly associated with the bank, and
· there was no circularity of funds between the lender and the issuer.
then (although this is not binding on the Commissioner of Inland Revenue) there could have been an effective arrangement giving rise in appropriate years to deduction of the insurance premium and deduction of interest payments.
(Paragraph 52 of opening, paragraph 18 of closing)
[68] To me, during the trial the Crown case separated out into three separate contentions. These are:
1.That the insurance and loan transactions were entirely fictional, because they were circular and were not real loans and real premiums. The meticulous and intricate documentation was a deliberately manufactured paper trail made to pretend that the structures underlying the template were legitimate and real and being implemented as required by the template.
2.The insurance and loan transactions were entirely fictional because the instruments used to settle the loan were defective or did not exist.
3.Members of the conspiracy made dishonest representations to the investors that the underlying loan and insurance transactions were real:
(a)The representations were made in letters, memoranda and by concealing the truth; and
(b)Were made in the contractual terms of the agreements executed by the investors.
In each case (a) and (b) so that the circular transactions without using real funds was dishonest conduct.
Were the transactions entirely fictional?
[69] An inevitable conclusion from the mountain of paper before me was that Mr Currie and Mr Reid, and their associated staff in legal offices and accounting offices in Hong Kong, and Insinger de Beaufort staff in various jurisdictions, acting as managers or directors or signatories to the various companies, all thought that they were creating legal rights or obligations in these circular transactions. I reject completely the notion that the meticulous documentation by the professional firms in Hong Kong, the Netherlands, and elsewhere, such as the British Virgin Islands, was intended to be just a paper trail. Likewise I do not think that Mr Currie or Mr Reid thought that either.
[70] I did not apprehend Mr Ruffin to be seriously pursuing the proposition, which the Crown pleaded, that all the meticulous paper was simply a false paper trail. Certainly, the correspondence to and from Mr Connolly was a charade. I will address that fact later in the analysis. Nonetheless, Mr Ruffin’s opening and closing arguments pursued the notion that because the settlement of the insurance and loan transactions were circular and did not use funds they had to be a fiction. Implicitly
he appears to have been inviting the conclusion that professionals such as the accused had to know that. So there were two parts to the proposition. The proposition focussed on the accused not on the conduct of the Dutch professionals and other functionaries in the offshore jurisdictions. Mr Russel is a chartered accountant and former employee of the Inland Revenue Department. He is tax wise. Mr Reid has no formal tertiary qualifications. He got into merchant banking via a career starting out in the more traditional parts of the financial sector. Mr Currie is both a lawyer and an accountant, and a former partner of one of the major international accounting firms, formerly based in Melbourne. Mr Connolly has no formal tertiary qualifications. He has had some experience working in the financial sector. IN broad terms I think it is a fair enough proposition that all of these men, for one reason or other, can be presumed to know the difference between doing a sham transaction and doing a transaction which is intended to have legal effect.
[71] I gained the impression, rightly or wrongly during the trial, that one of the goals of this case was to establish some new jurisprudence as to the notion of sham, extending the concept. It seemed to me that a conspiracy trial was hardly the occasion to do this when the conspiracy trial depends upon proof of an active dishonest agreement to do something in breach of legal obligation.
[72] In the course of the opening I was puzzled by the concept of sham being advanced before me and sought more authority, which was provided. In the closing Mr Ruffin developed the proposition that there was authority that said that where no real money was involved a circular transaction was a sham. In particular Mr Ruffin ended up relying upon a famous decision of the House of Lords being that of W T Ramsay v IRC; Eildeck (Inspector of Taxes) v Rawling [1982] AC 300.
[73] Keeping in mind Mr Ruffin’s intention to pursue an application under s380, taking the case to the Court of Appeal on a point of law, it seems appropriate to me give in this judgment a full account of the reasons why I rejected the wider concept of sham which underpinned the heart of the Crown’s case.
[74] It appeared to me that the Crown were seeking in this case to establish a broader conception of a fictional or sham transaction than hitherto recognised by New Zealand authorities, when examining schemes pursuing tax advantage.
[75] The Crown opened on the subject of ascertaining the legal character of the template transaction that it actually entered into and the steps that are followed by citing the decision of the Court of Appeal in Peters v Davison [1999] 2 NZLR 164 and those passages of the majority judgment referring to the decision of Richardson J in Mills v Dowdall [1983] NZLR 154, 159. The Crown also relied on the judgment of Thomas J at page 193 which also refers to Mills v Dowdall. The Crown counsel analysis concluded with this proposition:-
As was noted by Thomas J, the form of a particular step in the transaction will be a sham where the form merely conceals the fraudulent reality.
[76]That itself is a summary of a dictum of Thomas J at page 193 where he says:
Whatever one’s view of a doctrine of form over substance, it does not apply to instances where the transaction is a sham, that is, where the form merely conceals the fraudulent reality.
[77] But it was never clear to me how the Crown moved from Peters v Davison and Mills v Dowdall to the proposition that the circular transactions were fictional. It did appear in the opening that the Crown was arguing they were fictional because they were a dishonest implementation of the template documents. So they were fraudulent conduct and as a consequence of that they were fictional.
[78] In an effort to grasp the Crown’s proposition in this respect, during the opening I recorded Mr Ruffin as saying that these transactions were “fictitious because they were dishonest transactions”.
[79] It was also my understanding that that proposition depended in part on the notion that if there had been no close relationship between the insurer and the bank and real funds had been used and the settlement had not been circular there might have been a legitimate (if marginal) tax scheme.
[80] It will be recalled that the relevant particular as to fiction or sham is framed in this sentence:
What might have been a legitimate (if marginal) tax scheme was however rendered a fraud on the investors by the fact that the insurance and loan transactions were entirely fictional. The transactions comprising them were circular …
[81] Without submitting expressly, the Crown case seemed to be that anyone who puts in place a circular transaction in a tax scheme does so with the intent to defraud. The Crown in its case, whether in submission by counsel or through its witnesses may great play with the word “circularity”. Mr Ruffin emphasised that the Denham Martin opinion of 23 January recorded an assumption:
This advice has been prepared in the light of certain assumptions, namely:
… a real payment of premium is made by the investors and the proposal does not involve the circularity of funds.
[82] At the start of his closing address I put it to Mr Ruffin that for any transaction to be a sham there must be a common intention by the parties to the transaction that it be a sham.
But one thing, however, is clear in legal principle, morality and the authorities that for acts or documents to be a ‘sham’, with whatever legal consequences follow from this, all the parties thereto must have a common intention that the acts or documents are not to create the legal rights and obligations with which they give the appearance of creating.
(See Diplock LJ (as he then was) in Snook v London and West Riding Investments Ltd [1967] 2 QB 786, 802)
[83] Secondly, I said that there is no case that says that a circular transaction renders what might have been a legitimate tax scheme a fraud. Mr Ruffin accepted there was no such case but argued the decision of Ramsay v IRC [1982] AC 300 led to that conclusion. Inferentially he seemed to be arguing that had there been no real money in the transaction in Ramsay the Court would have held it to be a fiction. Mr Ruffin cited the opening paragraph of Lord Justice Templeman’s judgment in the Court of Appeal:
[184] Mr Ruffin argued that both clauses required the insurer to fund the trust before the trust would give to the trustee on behalf of the insured an undertaking to satisfy the obligations of the insurer.
[185] This construction had to be relied upon as reasonably obvious to be proof by the Crown that relevant persons of the accused did believe that the NOW clause and clause 9 of the insurance policy required the insurer to fund the trust or believed that that is how they would be understood by the investor. For if the accused or a relevant member of the conspiracy does not have this belief then the subsequent failure to fund the purpose trust ab initio could not be dishonest.
[186] As a matter of commercial contract law the terms of the insurance policy fell to be construed reading the insurance policy as part of a set of documents all signed on the same day by the same person participating in the structure.
[187] As a package the investor executed the memorandum of loan, limited power in favour of Mr Currie to collect the proceeds of the loan, and subscribed to the above insurance policy. The LAQC also entered into the agreement for the sale and
purchase of the shares and entered into a mortgage with the lender which, amongst other things, assigned to the lender the investors’ interest as purchaser of the Digitech shares by way of a first fixed mortgage. The assignment was absolute and deprived the investor of the ability to complete the purchase of the shares in year 10 without first repaying the bank. Then before the purchaser could make a claim on the policy it had to sell the shares and achieve a price of less than $3 per share. That effectively meant that the purchaser of say a million shares had to repay the loan debt of $2.8 million in year 10, pay N-Tech $1 million for the shares (expending
$3.8 million) and then make a claim on the insurance company for $3 million.
[188] The immediate problem Mr Ruffin faced is that neither clause says explicitly that the undertaking follows after a funding of the trust. Second, the parties to the transaction know that the reason for the trust is not to secure payment, but rather to secure the tax advantage. Third, the transaction is so structured as to give the “real” investor, the LAQC’s shareholder, the ability to walk away if the shares are valueless. Fourth, it is inherently unlikely that a claim would be made because the cost is more than the benefit. These are all facts known to all the parties before the documents are signed.
[189] Finally, at the time the documents were being executed and before they were dispatch to Hong Kong, the insurance as funding, which was received from the insurer, made it plain that the insurer would either fund or arrange reinsurance. The letter of 22 March from Epicharmus signed for Equity Trust by Mr van der Rhee, upon a close reading, conforms with an understanding that the policy did not require the funding from year 1 of the purpose trust. It was sufficient if there were funds in the trust in year 10 to meet any event of a claim being made.
[190] That letter of 22 March could only be written by Mr van der Rhee if he had had explained to him the logic of the documentation which required the repayment of the loan and purchase of the shares, costing in excess of $3 million before a claim could be made after a three month interval against the insurer.
[191] As at 22 March Gosling Chapman, as the adviser to all the investors, including themselves, were they pursuing this question in truth, which I doubt,
would not be reading the now clause and clause 9 and the letter written by Mr van der Rhee as an assurance for the funding of the special purpose trust ab initio.
[192] For the purpose of a conspiracy trial I do not think that the Crown has proved that the accused person’s would have believed that they were promising to fund the trust ab initio (that is confounded by Mr van der Rhee’s letter of 22 March) nor that they would be believing that that would be the understanding of Gosling Chapman.
[193] Mr Gilbert pointed out, in his closing submissions, that on 14 December 1995, Mr Adrian King (of the Hong Kong Trust Company Limited) sent all investors in tranches 1 to 4 Digitech a copy of the Hong Kong trust deed which was intended to meet the obligations under the policy for a special purpose trust. Clause 2.1 of the deed provides that the insurer “will transfer to the trustees as and when required sufficient funds … to cover … claims under the policies”. None of the investors, including the Gosling Chapman partners, took issue with this expression of the obligation.
[194] Mr Gilbert also pointed out that Messrs Paterson and Wilkinson from Rudd Watts Stone, looking at this in 1997, both reach the opposite conclusion to that now argued by the Crown. It was their view that “after … the trust assumes the liability of the insurer … the insurer continues to have a real risk in respect of the insurance contract by virtue of its obligation to put the trust in funds.”
[195] There is no evidence at all to suggest that Mr Reid ever understood that he had arranged for the transaction documents to require cash payments to fund the purpose trust in year one. All the evidence exists to the contrary. He spent a considerable amount of time explaining to Mr van der Rhee the complete opposite, in 1995 and later when Mr van der Rhee was seeking to have a document completely releasing Epicharmus.
Conclusion as to whether there was a dishonest conspiracy among any of the accused in respect of the Digitech scheme, against the investors
[196] From the preceding analysis I am satisfied that the Crown has failed to prove a dishonest agreement by any two or more of the accused to defraud the investors. On the evidence that I have seen all the accused thought they were participating in putting in place transactions which did have legal validity. None of them made any promise or misrepresentation to any of the investors that the transaction would not be circular. Only one of them had an obligation in law to pass on any knowledge that the transaction may be circular. That was Mr Russel who was in a client relationship with the investors. Whether or not he was in breach of duty does not fall to be decided in this case. The same applies to his partners. The matter only becomes relevant if I had decided there was a dishonest agreement between he and one of the other accused, it could only be Mr Reid. It would have to be a dishonest agreement by he and Mr Reid to deceive the investors as to the presence of a real loan and a real premium and the absence of a circular transaction. There is no proof that the two of them had such a dishonest agreement. Later in 1995 Mr Reid persuaded Mr Russel to accept $600,000 or thereabouts in addition to his share of the brokerage fee. That is a significant fact pointing to a special relationship. But it is countervailed by Mr Reid’s statement to Mr Sidnam. At the very least, such an agreement is not proven beyond reasonable doubt. There was no proof at all against Messrs Currie or Connolly.
Is the position different in respect of the NZIL scheme?
[197] At the very end of his closing address, when Mr Ruffin could see where I was going, he ventured to suggest that Mr Reid’s position was different in the NZIL scheme. He proffered and extract from an opinion from a firm of solicitors, to Gosling Chapman, that they should be less involved in the marketing of the NZIL scheme, now that the Digitech scheme was under investigation by the Inland Revenue Department, and suggested that Mr Reid should be more involved. That amounted only to an opinion by solicitors. I did not have placed in front of me any evidence which suggested that Mr Reid gave any assurances to the investors in the
NZIL scheme on these critical matters. Mr Ruffin confirmed my understanding that Gosling Chapman continued to receive the benefits of their brokerage fees on the placement of the NZIL investments.
[198] The trial was based, as this judgment reflects, on a close examination of the conduct of the parties putting in place the Digitech scheme and the first tranches of the Digitech scheme. It was on the basis that the NZIL scheme was on the same template.
[199] Looking at the big picture it seemed to me that Gosling Chapman were on even greater notice in the NZIL scheme of the potentiality of a close relationship between the insurer and the lender. The Bank of New York Intermaritime Geneva branch had dropped out. A new lender called Armour Fidelity Fund Limited had come in. Documents were littered with the address of Insinger de Beaufort. The insurer’s name had changed to a different insurer. But it still had the address of Insinger de Beaufort. None of this appeared to disturb Gosling Chapman. For these reasons I do not think any conspiracy has been proved in respect of Count 2 against the investors, for I can see no material difference in the facts vis-à-vis the accused, from the Digitech scheme.
Proof of conspiracy against the Commissioner of Inland Revenue
[200] About the same time as Mr Ruffin and I explored whether a distinction could be drawn between Counts 1 and 2, I threw out what I thought might be a lifeline to Mr Ruffin, having previously mentioned it once before, that there might be a conspiracy against to deceive the Commissioner of Inland Revenue though not to deceive the investors. Mr Ruffin did not pursue that comment.
[201] When Mr Gilbert rose to reply, he being the first and, in the end, the only counsel to make an oral address in closing, I put the question to him as to whether or not on the facts there may not be an evidence of a conspiracy to deceive the Commissioner of Inland Revenue.
[202] He pointed out immediately that this was simply not the way in which the trial had been run. He referred to particular 21 of Count 1 (see [61]) and replicated in Count 2 which contended that the representations were a fraud against the investors and then:-
This would consequentially defraud the Commissioner of Inland Revenue who, in the absence of further investigation to unearth the true position, would be obliged to allow deductibility in appropriate years for the insurance premium and payments of interest pursuant to the loan.
(My emphasis)
[203] I think both points are fairly made. As will be apparent from this judgment, there were efforts by all concerned, including, to a degree, by all the investors, to present these investments as a commercial transaction with only an incidental tax benefit. As I have also observed, this, to an extent, is a behaviour the Commissioner comes to expect in this sort of investment. When Denham Martin Associates gave advice to Gosling Chapman on the Salisbury investment on 22 March 1994 he said, under the topic of tax avoidance:-
22.While I could not totally dismiss the possibility that section 99, the general anti-avoidance provision, would be held to apply to the proposal, I believe that the risk of it doing so is of a very low order, particularly given that credible commercial reasons can be advanced in support of the proposal and the prospects of investors who see the real profits at the time the relevant trees are sold.
23.However, I note that the tax advantages of the proposal should be downplayed as much as possible in the materials which are provided to investors by Salisbury Securities Limited. Obviously, the greater the emphasis on tax benefits in the proposal and any materials which are provided to investors, the greater risk of there being a challenge under section 99 of the Act.
[204] Finally, I note that no witness was called by the Department and, as already recorded, it would appear that the Department now takes the view that the transactions were real. This is a proposition completely at odds with the main premise upon which the case was run for the Crown by the SFO.
[205] For these reasons, I was of the view that the submission of Mr Gilbert was correct and that the Crown had presented its case on the grounds that proof of
conspiracy against the Commissioner of Inland Revenue was consequential upon first proving a conspiracy against the investors.
General Conclusion
[206] Before finally reaching my verdict I stepped back and looked at the big picture. I thought that one of the most critical pieces of evidence was Mr Sidnam’s testimony to the Inland Revenue Department as to the warning that Mr Reid gave of a relationship between the lender and the insurer. As I observed in argument with Mr Ruffin, in situations like this, investors in such schemes often do not want to know what goes on, on the other side of the scheme out of their sight. It could well have been the case that Mr Reid said enough to enable Mr Sidnam and/or Gosling Chapman to pursue the issue if they wanted to. Once I had taken that view of the evidence I considered that the Crown would not be able to prove beyond a reasonable doubt any agreement between Messrs Reid and Russel to dishonestly deceive the investors and put their assets at risk. I was not in anyway sure that these two had conspired dishonestly. I thought there was no proof at all against Messrs Currie and Connolly.
[207] In his closing submissions, Mr Haigh said this was a case in which the Court should take the opportunity to reaffirm the basic difference between evasion conduct, which is criminal and avoidance conduct, which is not criminal.
[208] There was never any doubt in my mind throughout the trial that I was looking at the development, implementation and ultimate collapse of avoidance structures. But I was never persuaded that before me were conspirators to defraud the investors. Some of their correspondence was false and a charade. As Mr Reid acknowledged in his interview, the charade between himself and Mr Connolly was totally unnecessary. But, in the end, those falsities did not bite in terms of deceiving any of the investors. The case was not pursued independently of deceit of the investors against the Commissioner. I was also influenced throughout the trial by the fact that the insurance scheme was obviously artificial, whether there was a real loan or premium or any circularity. Investors such as these are sophisticated people who know they are taking a risk. If they, or their advisers, do not ask penetrating
questions in order to fully understand the whole arrangement, that is at their risk. To the promoters of the scheme it may reasonably appear that they do not ask, because they do not want to know how it is done.
J G Fogarty
Signed at on 22 October 2004
Solicitors:
Meredith Connell, Auckland, for Crown McCabe & Co, Auckland, for First Defendant Haigh Lyon, Auckland, for Second Defendant Chapman Tripp, Auckland, for Third Defendant Castle Brown, Auckland, for Fourth Defendant
0
0
0