Tax Benefit
153 Part IVA applies only if a taxpayer obtains "a tax benefit in connection with a scheme" within s 177C of the ITAA 1936.
154 Section 177C relevantly provides:
(1) Subject to this section, a reference in this Part to the obtaining by a taxpayer of a tax benefit in connection with a scheme shall be read as a reference to:
(a) an amount not being included in the assessable income of the taxpayer of a year of income where that amount would have been included, or might reasonably be expected to have been included, in the assessable income of the taxpayer of that year of income if the scheme had not been entered into or carried out
155 As the Full Court said in Federal Commissioner of Taxation v Trail Bros Steel & Plastics Pty Ltd [2010] FCAFC 94; (2010) 186 FCR 410 at 418 [25]-[26] (Dowsett and Gordon JJ, Edmonds J agreeing at 426 [62]):
[25] The legislation requires a comparison between the relevant scheme and an alternative postulate: [Hart 217 CLR at 243 [66] (Gummow and Hayne JJ)].
[26] The alternative postulate requires a "prediction as to events which would have taken place if the relevant scheme had not been entered into or carried out and that prediction must be sufficiently reliable for it to be regarded as reasonable" (emphasis added). "A reasonable expectation requires more than a possibility": [Commissioner of Taxation v Lenzo [2008] FCAFC 50; (2008) 167 FCR 255 at 278 [122] (Sackville J), citing Federal Commissioner of Taxation v Peabody [1994] HCA 43; (1994) 181 CLR 359 at 385 (Mason CJ, Brennan, Deane, Dawson, Toohey, Gaudron and McHugh JJ)]. The question posed by s 177C(1) is answered on the assumption that the scheme had not been entered into or carried out: [Lenzo 167 FCR at 277-8 [121] (Sackville J)].
156 As the primary judge recognised (at [187]), Mr Springer bore the onus of proving that he did not obtain a tax benefit in connection with a scheme for the purposes of s 177C. The onus on the taxpayer was explained by the Full Court in RCI Pty Ltd v Federal Commissioner of Taxation [2011] FCAFC 104 at [128]-[131] (Edmonds, Gilmour and Logan JJ) in the following terms (emphasis added) (footnotes omitted):
[128] It is trite that a taxpayer in this Court bears the onus of proving that an assessment is excessive. It follows that it is the taxpayer who bears the onus to establish that a tax benefit is excessive. It might do that by establishing that there is no tax benefit or by establishing that it is less than that determined by the Commissioner.
[129] It has been said in the past … that the taxpayer carries the onus of establishing that the Commissioner's counterfactual is unreasonable; and that if the taxpayer does not establish that the Commissioner's counterfactual is unreasonable, then the taxpayer fails to prove that the assessment is excessive on that ground. (Of course, the taxpayer may establish that the assessment is excessive on some other ground, such as that the conclusion required to be drawn as to the dominant purpose of a party to the scheme under s 177D(b) cannot be drawn, but that is another matter.)
[130] Such an articulation of the onus is erroneous, but if not, certainly unhelpful because it can lead one into error. Even if a taxpayer establishes that the Commissioner's counterfactual is unreasonable, it will not necessarily follow that he has established that the assessment is excessive. That is because the issue is not whether the Commissioner puts forward a reasonable counterfactual or not; it is a question of the court determining objectively, and on all of the evidence, including inferences open on the evidence, as well as the apparent logic of events, what would have or might reasonably be expected to have occurred if the scheme had not been entered into. Thus, even if a taxpayer establishes that the Commissioner's counterfactual is unreasonable, that will not discharge the onus the taxpayer carries if the court determines that the taxpayer would have or might reasonably be expected to have done something which gave rise to the same tax benefit.
[131] That such an articulation of the onus is at worst erroneous and at best unhelpful, can also be illustrated from the other side of the coin, because it implies that if the Commissioner's counterfactual is reasonable that is the end of the matter; even if the court were to conclude, on all the evidence, inferences and logic referred to, that if the scheme had not been entered into the taxpayer would have or might reasonably be expected to have done something which did not give rise to a tax benefit, or which gave rise to a tax benefit less than that thrown up by the Commissioner's counterfactual. In our view, that cannot be correct.
157 Mr Springer bore the onus of satisfying the Court of what might reasonably be expected to have occurred in the absence of the scheme. This required Mr Springer to satisfy the Court that, in the absence of the scheme, he would not have received a direct distribution of unfranked income from the AIT, and what might reasonably be expected to have occurred instead.
158 The premise of the determinations and assessments issued to Mr Springer was that, had the 2012 related scheme and the 2013 related scheme not been entered into, it might reasonably be expected that Mr Springer would have been made presently entitled to the amount of net income of the AIT for each of the income years ended 30 June 2012 and 30 June 2013 to which AITCS had been made presently entitled. As a result, Mr Springer might reasonably have been expected to have had included in his assessable income the amounts of the AIT net income which AITCS included in its assessable income in each of those years of income.
159 The primary judge rejected this as a reliable prediction of what would have taken place in the absence of the scheme in the most strident of terms. His Honour was satisfied that, in the absence of the scheme, what might reasonably be expected to have occurred was that AITCS would have received and retained in full its unpaid present entitlement in cash or it would have invested that entitlement with Guardian in accordance with a Division 7A compliant loan agreement, or perhaps some combination of these (PJ [166]).
160 It is not accepted that, absent the scheme, it might reasonably be expected that AITCS would have received and retained in full its unpaid present entitlement in cash. Such an alternate postulate is inconsistent with the concerns Mr Springer expressed to Pitcher Partners at the time about leaving a large amount of funds in a bank account over which he had no control.
161 Nor is it accepted that, absent the scheme, it might reasonably be expected that AITCS would have invested the funds representing its present entitlement with AIT in accordance with a Division 7A compliant loan agreement for the following reasons:
162 First, although the learned primary judge considered that there was contemporaneous support in the form of loan agreements for such a prediction (PJ [189]), as set out above, the form of the investment agreement in fact entered into in 2013 does not provide such support. The terms of that agreement make it apparent that, consistent with the description accorded to it in Ms Burke's email of 11 April 2013, the investment agreement was a "safety net". It was to operate only to the extent that the Commissioner's views as expressed in PS LA 2010/14 would characterise any unpaid present entitlement of AITCS as a loan. In other words, the 2013 Division 7A loan agreement was not drafted as a substitute for AITCS's unpaid present entitlement "being cleared with a dividend" prior to the lodgement of AIT's tax return for the year ended 30 June 2012 (which Pitcher Partners understood to be the time from which the Commissioner would treat an unpaid present entitlement as a loan). The loan agreement dated 18 March 2016 was in quite different terms but it was not entered into at or near the time of the creation of AITCS's present entitlement to AIT net income for the years ended 30 June 2012 and 30 June 2013.
163 Second, the commercial substance of such an arrangement involving AITCS investing the funds representing its present entitlement with Guardian is quite different from the scheme carried out because, under that alterative arrangement, AITCS would retain an asset (in the form of its investment in Guardian) whereas, under the scheme, the asset is owned directly by Mr Springer. A loan or investment agreement entered into by AITCS would not be an asset owned directly by Mr Springer but an asset owned directly by AITCS, repayments of which would have ended up in a bank account over which Mr Springer did not then have control. Under the scheme, Mr Springer had direct ownership and control of the right to payment of the share of net income. A prediction that has a different commercial outcome from the scheme entered into and carried out is not readily accepted as reliable.
164 Third, the very commercial outcome which would result from an investment or loan agreement by AITCS was in fact rejected by Mr Springer when he proposed the payment of a dividend by AITCS. By the time AITCS's present entitlement was created on 23 June 2013, Mr Springer had evidenced no desire for a loan agreement. The taxpayer's rejection of an alternative at the relevant time is important evidence in determining what would have occurred in the absence of the scheme: Federal Commissioner of Taxation v Ashwick (Qld) No 127 Pty Ltd [2011] FCAFC 49; (2011) 192 FCR 325 at 372-3 [153(12)] (Edmonds J).
165 The primary judge was firmly of the view that "[t]he Commissioner's postulated distribution to Mr Springer would never, ever, have occurred" (PJ [189]). In coming to this conclusion, the primary judge relied upon the evidence of Mr Fischer to the effect that no competent adviser would have recommended such a course and the primary judge was satisfied that none of Mr Springer, Eric nor Mr Shafferman would have acted contrary to Mr Fischer's advice.
166 Mr Fischer's evidence in examination in chief was that he would not advise "in the first instance" that any income be distributed to Mr Springer, but this advice was dependent "on the form of income". The history of distributions to Mr Springer shows that franked income of the AIT had been distributed to Mr Springer. Based on this historical fact, the reference to "the form of income" is inferred to be a reference to whether the income took the form of franked income. Mr Fischer had not advised against a distribution of the AIT net income to Mr Springer, irrespective of Mr Springer's lack of need for funds, where that net income was attributable to franked income.
167 The import of Mr Fischer's evidence was that a competent adviser would not advise that the AIT unfranked income be distributed to Mr Springer. Whilst Mr Springer was a non-resident, that income would have been taxed at the highest marginal tax rate, whereas franked income would be received by Mr Springer without additional Australian tax payable. Mr Fischer's evidence is understood to be that, absent a demonstrable need by Mr Springer for the money, a competent tax adviser would not recommend Mr Springer incur a tax impost.
168 Prior to the amendments made to Part IVA with effect from the year of income ended 30 June 2013, the Australian tax cost of implementation was an objective consideration to be taken into account in determining the reasonableness and reliability of the alternate postulate. The tax consequences of implementing the alternate postulate might objectively be shown to be such that the potential cost could call into question the reliability of the prediction that the alternative was reasonable. Such was the case in RCI [2011] FCAFC 104 at [136] and [141]-[150] (Edmonds, Gilmour and Logan JJ); and Peabody 181 CLR at 385-6 (Mason CJ, Brennan, Deane, Dawson, Toohey, Gaudron and McHugh JJ).
169 The primary judge appears to have been of the view that, given Mr Springer was already a wealthy man, a distribution to Mr Springer in the years ended 30 June 2012 and 2013 that would come with an additional tax cost would not be economically justifiable (albeit that the additional tax cost would, in substance, be the difference between the corporate tax rate in fact paid by AITCS and the marginal tax rate to which Mr Springer would be subject). However, the findings at PJ [165] and [189] are difficult to reconcile with the findings at [106] and [115] about Mr Springer's need for funds at that time. As explained above at [113], the objective evidence of Mr Springer's financial position as at 30 June 2012 does not suggest that he had any need for a distribution from the AIT in that year. Furthermore, the primary judge accepted the evidence of Mr Fischer in relation to the nature of the advice that would be provided by a competent tax advisor.
170 In RCI [2011] FCAFC 104 and Commissioner of Taxation v News Australia Holdings Pty Ltd [2010] FCAFC 78, the taxpayers were able to discharge their onus on appeal of s 177C by showing that, absent the scheme, they would not have undertaken a particular activity or a particular course. In this case, Mr Springer did not seek to contend that, in the absence of the scheme, the income would have been accumulated by the trustee of the AIT. This is not surprising given that the evidence before the Court was that the trustee of the AIT had not exercised a power of accumulation in the past. In these circumstances, for Mr Springer to discharge his onus, it was not sufficient for him to show that the Commissioner's alternate postulate was not reasonable. He had to satisfy the Court of what might reasonably be expected to have happened in the absence of scheme. For the reasons set out above at [161]-[164], it is not considered that Mr Springer satisfied that onus.
171 Accordingly, it is considered that Mr Springer obtained a tax benefit in each of the years ended 30 June 2012 and 30 June 2013 in the form of the non-inclusion of an amount in Mr Springer's assessable income in those years.
172 The conclusion in relation to the existence of a tax benefit in respect of the 2013 related scheme, is further supported by s 177CB(4). Although raised, but not addressed, before the primary judge, the application of s 177CB(4) is one of construction and law and it was open to the Commissioner to raise the application of that section in his notice of appeal.
173 Section 177CB is a statutory directive as to how the alternate postulate for the purposes of s 177C is to be determined. Relevantly, it is in the following terms:
(1) This section applies to deciding, under section 177C, whether any of the following (tax effects) would have occurred, or might reasonably be expected to have occurred, if a scheme had not been entered into or carried out:
(a) an amount being included in the assessable income of the taxpayer;
…
(3) A decision that a tax effect might reasonably be expected to have occurred if the scheme had not been entered into or carried out must be based on a postulate that is a reasonable alternative to entering into or carrying out the scheme.
(4) In determining for the purposes of subsection (3) whether a postulate is such a reasonable alternative:
(a) have particular regard to:
(i) the substance of the scheme; and
(ii) any result or consequence for the taxpayer that is or would be achieved by the scheme (other than a result in relation to the operation of this Act); but
(b) disregard any result in relation to the operation of this Act that would be achieved by the postulate for any person (whether or not a party to the scheme).
174 By reason of s 177CB(4)(b), it was not open to the primary judge to have regard to the higher Australian income tax cost that would have applied had the income been distributed directly to Mr Springer in determining what might reasonably be expected to have happened had the 2013 related scheme not been entered into or carried out.
175 For completeness, it is noted that, for the reasons explained above, given the fact that AITCS paid out as a dividend the post‑tax amount of its present entitlement to the AIT net income for the years ended 30 June 2012 and 30 June 2013, AITCS was not used in those years as a vehicle for wealth accumulation or asset protection (cf PJ [153]). Accordingly, a direct distribution to Mr Springer is not rendered an unreliable prediction of what might have been expected to occur in the absence of the scheme because a direct distribution would not result in wealth being accumulated in AITCS.
176 Notwithstanding the strident terms with which the learned primary judge expressed his conclusion, it is to be concluded that Mr Springer did receive a tax benefit in the year ended 30 June 2013 on the basis that, for the purposes of s 177C in the absence of the scheme, it might reasonably be expected that Mr Springer would have been made presently entitled to the net income of the AIT attributable to unfranked income.