Commissioner of Taxation v Hart [2004] HCA 26; 217 CLR 216; 206 ALR 207; 78 ALJR 875

Commissioner of Taxation v Hart [2004] HCA 26; 217 CLR 216; 206 ALR 207; 78 ALJR 875 - HCA 2004 case summary — Zoe

[8]

It is part of the scheme of the Income Tax Assessment Act 1936 (Cth) that, as a general rule, interest on money borrowed to finance the purchase of a taxpayer's private dwelling house is not an allowable deduction, and interest on money borrowed to finance an investment property, such as a dwelling house to be let for rental purposes, is an allowable deduction[1]. That being so, other things being equal, it may make commercial sense for a taxpayer who is considering the relative levels of borrowing to be undertaken for the purposes of acquiring a residential property, and an investment property, respectively, to arrange for the latter to be more highly geared than the former. If such a taxpayer took out two separate loans, and the terms of the loan for the investment property were different from the terms of the loan for the residential property in that they provided for a higher ratio of debt to equity, and for payments of interest only, rather than interest and principal, during a lengthy term, then ordinarily that would give rise to no adverse conclusion under s 177D. It may mean no more than that, in considering the terms of the borrowing for investment purposes, the taxpayer took into account the deductibility of the interest in negotiating the terms of the loan. How could a borrower, acting rationally, fail to take it into account?
The argument for the respondents is that, stripped of immaterial complexities, in essence there is little more to the present case than that. The respondents wanted to borrow money for two purposes: to buy a new house; and to finance the retention of their former home as an income-producing property. They simply arranged for the second part of the borrowing to be more highly geared than the first, and it would not be concluded that their dominant purpose was other than to borrow money to enable them to buy a new house and retain their old house as an investment.
The appellant says there is much more to it than that. The tax benefit cancelled by the appellant in the s 177F determination (putting to one side the compound interest question) was a benefit of the kind referred to in s 177C(1) as "a deduction being allowable to the taxpayer ... where ... a part of that deduction would not have been allowable, or might reasonably be expected not to have been allowable, to the taxpayer ... if the scheme had not been entered into or carried out". As Hill J correctly pointed out[2], the definition of the scheme is important, because any tax benefit identified must be related to the scheme, as must any conclusion of dominant purpose, and also the ultimate determination. The significance of the definition of the scheme extends beyond a question of procedural fairness to the taxpayer. It is central to the application of ss 177C, 177D and 177F. However, the identification of the tax benefit is also of central importance. In this case, the benefit in question was not the deduction for interest on that part of the loan referable to the investment property (referred to in the evidence as loan account 2). It was part of that deduction. It was described by Hill J[3] as "the amount of interest representing the difference between the interest payable on the principal sum applied to refinancing Jerrabomberra [the sum the subject of loan account 2] calculated as if there had been rateable principal and interest payable on that sum and the interest in fact claimed as a deduction".
In the Federal Court, there were concurrent findings that such a tax benefit had been obtained by the respondents. Hill J, with whom the other members of the Full Court agreed, said that the finding of Gyles J on the point should not be disturbed[4]. That finding turned upon what was found to be a reasonable expectation as to what deduction would have been allowable if the relevant scheme had not been entered into or carried out. Gyles J based his finding as to that expectation on the information given to the respondents about the proposed loan, which invited them to compare the financing of a home loan and an investment/business loan using "standard financing arrangements", on the one hand, with the "wealth optimiser structure" that was ultimately adopted, on the other[5]. The identification of the tax benefit, and the identification of the scheme, are inter-related. The benefit was not the whole of the interest on loan account 2 (the investment part of the borrowing); it was that part of the interest which resulted from the special, or non-standard, features of the arrangements between the lender and the borrowers. Those were the features to which the respondents were invited to pay attention in deciding whether to enter into the particular transaction. Those features, which defined the "wealth optimiser structure" and distinguished it from "standard financing arrangements", were definitive of the scheme in connection with which the tax benefit, identified by all four members of the Federal Court, was obtained.
Gyles J found that there was no evidentiary basis for accepting, as a realistic possibility, that, if the respondents had not taken up the offer of the "wealth optimiser structure", they could have arranged finance, on the terms applicable to loan account 2, for their investment property. He said[6]:

[10]

Hill J, in the Full Court, with whom Hely J and Conti J agreed, described the finding of Gyles J on the question of the tax benefit as a finding that, but for the "wealth optimiser structure", the respondents would have borrowed on the basis that (whether there was one borrowing or two) the borrowing would be on terms that the respondents would have made monthly repayments of principal and interest, so that interest would have been spread rateably over the total of the borrowed moneys in the proportion that these moneys were used to purchase the new home and refinance the Jerrabomberra property[7]. This finding, Hill J held, should not be disturbed[8].
The point of departure between the reasoning of Gyles J and that of the Full Court concerned the application of s 177D to the facts of the case. In that respect, the Full Court accepted an argument that Gyles J appeared to have found that the scheme was to be defined in a way that omitted the actual borrowing[9]. The members of the Full Court were correct to insist that it is inappropriate to exclude the fact of borrowing from the putative scheme. The tax benefit in question was the obtaining of part of a deduction of interest on borrowed money. A taxpayer is not allowed such a deduction for agreeing to a term in a contract of loan, or giving a direction about allocation of payments, or taking some other step in the exercise of rights conferred under the contract. The definition of "scheme" in s 177A is wide, but it must be related to the tax benefit obtained. The deduction here was for the incurring of a liability to pay interest on borrowed money. The tax benefit in connection with the relevant scheme was part of an allowable deduction for interest. This, it seems to us, is what was meant by references in the judgments in the Full Court to the scheme being capable of standing on its own feet. The judges were making the point, which is undoubtedly correct, that, where the tax benefit in question is part of an allowable deduction for interest, a search for the purpose of a scheme, identified in a manner that does not include the borrowing, is not an undertaking that conforms with the requirements of the legislation. In a given case, a wider or narrower approach may be taken to the identification of a scheme, but it cannot be an approach which divorces the scheme from the tax benefit. Here, the borrowing was an indispensable part of that which produced the tax benefit. A description of the scheme that did not include the borrowing would make no sense.
However, we do not accept that Gyles J made the error attributed to him. Nor is such an error implicit in the appellant's argument in this Court. While the fact of the borrowing cannot be left out of consideration, it was what the mortgage broker described as the "wealth optimiser structure" of the loan arrangements that secured the tax benefit, that is, not the deduction of the interest on loan account 2, but part of that deduction.
Gyles J said[10]:

[14]

Notwithstanding that finding, the Full Court, after taking account of all the factors listed in s 177D, held that it would be concluded that the dominant purpose of the respondents in entering into or carrying out the scheme was the obtaining of borrowed money to purchase a new home and refinance what was to become a rental property[12]. We are unable to share that opinion.
As Hely J correctly observed in the Full Court[13], the fact that a particular commercial transaction is chosen from a number of possible alternative courses of action because of tax benefits associated with its adoption does not of itself mean that there must be an affirmative answer to the question posed by s 177D. Taxation is part of the cost of doing business, and business transactions are normally influenced by cost considerations. Furthermore, even if a particular form of transaction carries a tax benefit, it does not follow that obtaining the tax benefit is the dominant purpose of the taxpayer in entering into the transaction. A taxpayer wishing to obtain the right to occupy premises for the purpose of carrying on a business enterprise might decide to lease real estate rather than to buy it. Depending upon a variety of circumstances, the potential deductibility of the rent may be an important factor in the decision. Yet, if there were nothing more to it than that, it would ordinarily be impossible to conclude, having regard to the factors listed in s 177D, that the dominant purpose of the lessee in leasing the land was to obtain a tax benefit. The dominant purpose would be to gain the right to occupy the premises, not to obtain a tax deduction for the rent, even if the availability of the tax deduction meant that leasing the premises was more cost-effective than buying them.
Even so, a transaction may take such a form that there is a particular scheme in respect of which a conclusion of the kind described in s 177D is required, even though the particular scheme also advances a wider commercial objective. In Federal Commissioner of Taxation v Spotless Services Ltd, Brennan CJ, Dawson, Toohey, Gaudron, Gummow and Kirby JJ, after noting that revenue law considerations influence the form of most business transactions, and that the presence of a fiscal objective does not mean that a person entered into or carried out a scheme for the dominant purpose of obtaining a tax benefit, said[14]:

[19]

The principal issue in this appeal is whether the general anti‑avoidance provisions of Pt IVA of the Income Tax Assessment Act 1936 (Cth) ("the 1936 Act") may be applied to disallow tax benefits obtained by taxpayers under what have become known as "split loan facilities". If that issue were to be resolved against the appellant ("the Commissioner") the Commissioner would seek special leave to raise a further issue about whether amounts charged as interest on interest could be claimed by the respondents as deductions where both the interest, and the interest on interest, were charged under an agreement to lend money which was applied by the respondents in purchasing an asset used to gain or produce assessable income. The application for special leave to appeal on a ground raising that issue was referred to this Court.
Under a "split loan facility" a taxpayer borrowed money, applied part to a private or domestic venture (often, as in this case, the purchase of a principal place of residence), and applied the balance to the acquisition (here the refinancing) of an asset to be used for the purpose of gaining or producing assessable income. The loan agreement provided for the borrower to direct the application of the whole of the periodical payments required under the loan agreement to the satisfaction of that part of the loan used for private or domestic purposes. Interest on the balance of the loan was allowed to accrue and be capitalised and compounded.
Because the periodical payments required under the loan agreement would suffice to repay the whole of the capital sum lent, and the whole of the interest which would accrue during the term of the loan, the application of periodical payments to only part of the sum lent (and the interest accruing on that part) would repay that part of the loan quickly. In the meantime, the amount of interest charged on the balance of the loan would increase, and the capital sum owing on that account would rise, as interest was capitalised and then compounded. On the basis that this second part of the sum lent was applied to acquiring an asset used for the purpose of gaining or producing assessable income, the taxpayer claimed the amount of interest charged on this account as a deduction against assessable income pursuant to s 51 of the 1936 Act or, later, s 8-1 of the Income Tax Assessment Act 1997 (Cth) ("the 1997 Act").
These reasons will seek to demonstrate that the Commissioner was entitled to make the determinations under Pt IVA which he made in relation to each of the respondents. The subsidiary issue about the deductibility of interest on interest does not arise.

[20]

In 1996, the respondents borrowed $298,000 from Permanent Custodians Limited. Austral Mortgage Corporation Pty Ltd ("Austral") acted as agent for the lender and negotiated the terms on which the respondents borrowed the money. The respondents applied $95,112 of that sum to repay the amount outstanding on the mortgage of a house which they then owned and which they intended to hold for the purposes of letting and thus gaining assessable income. It is convenient to refer to this house as "the investment property". The balance of the amount borrowed ($202,888) was applied to pay the purchase price of a house which the respondents intended to occupy, some expenses they incurred, and an amount owing on a property which the first respondent's mother owned which was to be provided as an additional security for the transaction.
The rate of interest payable on the loan could be varied by the lender. Interest accrued daily but was to be debited to the borrowers' loan account monthly. The respondents were bound to repay the loan by 300 monthly payments. The amount of each payment was calculated according to the prevailing interest rate at an amount which would repay the whole of the loan, and interest, over its term.
The loan agreement provided that upon request by the respondents, the lender would split the loan balance into a maximum of four separate loan accounts, and allocate the loan balance between those loan accounts in accordance with the respondents' request. It went on to provide that, while the loan amount was split into loan accounts, the loan agreement applied to each account as if the balance of each account was a separate loan and that, provided that the lender was not entitled to require the respondents to repay the loan in full immediately, the lender would credit all payments received by it among the loan accounts in accordance with the respondents' directions.
Pursuant to these provisions the respondents requested the lender to split the loan amount and requested that payments which they made should be allocated all to an account having as its opening balance $202,888. That is, the respondents directed that their monthly repayments be applied in satisfaction of that part of the loan which they had used for purposes other than their refinancing the investment property.
In consequence, the monthly repayments which the respondents made were credited to that part of the loan which they had used for private or domestic purposes. Interest charged on the part of the loan which the respondents had used to refinance the acquisition of an income‑producing asset accrued and was capitalised and compounded.
In their amended returns for the year ended 30 June 1997, and again for the year ended 30 June 1998, the respondents claimed as deductions from assessable income interest which was charged on that part of the loan which had been applied to the investment property. In 1999, the Commissioner made determinations that amounts which, but for the operation of Pt IVA, would have been allowable to the respondents as deductions in the 1997 and 1998 tax years not be allowable. The Commissioner issued amended assessments for the 1997 tax year and assessments for the 1998 tax year which reflected the determinations. The respondents objected against these assessments; those objections, so far as now relevant, were disallowed.
Pursuant to Div 5 of Pt IVC of the Taxation Administration Act 1953 (Cth) the respondents appealed to the Federal Court of Australia against the Commissioner's decision disallowing their objections. At first instance, the respondents' appeals were dismissed[16]. They appealed to the Full Court of the Federal Court. That Court (Hill, Hely and Conti JJ) allowed[17] the appeals and ordered that the Commissioner's objection decisions be set aside, the respondents' objections be allowed and the matters be remitted to the Commissioner to assess in accordance with law.

[21]

It is important to notice the way in which the Commissioner calculated the amount of the deduction which was disallowed. The amount disallowed was part of the amount of interest claimed by each respondent as a deduction in each of the 1997 and 1998 tax years. The Pt IVA determinations made by the Commissioner did not state how the amounts disallowed were calculated.
The reasons given for the Commissioner's objection decisions did reveal the basis of the calculations. Those reasons drew a distinction between what was called "additional interest" and what was called "the further interest amount". The former (the "additional interest") was identified as the difference between the interest incurred on that part of the loan which related to the investment property, and "the interest that would have been incurred if the borrower had applied the payments to the separate accounts". The interest that accrued on unpaid interest was referred to as "the further interest amount", which we will refer to as the "compound interest amount". It is important to note that the additional interest ($96 and $365 for each of the respondents in the 1997 and 1998 financial years respectively) included the compound interest amounts ($67 and $315 for each of the respondents in the 1997 and 1998 financial years respectively). The Commissioner's reasons, having distinguished between these two types of interest, went on to conclude that the interest on interest (the compound interest amount) was not deductible under the general deduction provision (s 51 of the 1936 Act, which applied in the 1997 tax year, and s 8‑1 of the 1997 Act, which applied in the 1998 tax year). But the Commissioner concluded that Pt IVA should be applied to disallow the additional interest which, as noted, includes the compound interest. (That is why the deductibility of interest on interest is a question which arises only if the Pt IVA issue is resolved against the Commissioner.) The amount of tax benefit identified, and disallowed, was calculated by taking the difference between the interest which the respondents claimed to be deductible (all interest charged to that part of the loan used for the investment property) and the interest which would have been charged on that part of the loan had it been a loan requiring periodical payments sufficient to pay both principal and interest over the term of the loan which the respondents had taken.

[22]

Part IVA is engaged only where a tax benefit has been obtained, or would but for s 177F(1) be obtained. The tax benefit must be one obtained by a taxpayer in connection with a scheme to which the Part applies. In those circumstances the Commissioner may exercise the power given by s 177F to determine that either an amount is to be included in the taxpayer's assessable income or a deduction is to be disallowed in whole or in part.
The schemes to which Pt IVA applies are identified in s 177D. Leaving aside what s 177D says about the time and place at which a scheme is entered into or carried out, there are two elements that must be satisfied. First, it must be shown that the relevant taxpayer has obtained, or would but for s 177F obtain, a tax benefit in connection with the scheme. Secondly, it must be shown that having regard to eight matters "it would be concluded that the person, or one of the persons, who entered into or carried out the scheme or any part of the scheme did so for the purpose of enabling the relevant taxpayer to obtain a tax benefit in connection with the scheme" or enabling the relevant taxpayer and one or more other taxpayers to obtain a tax benefit in connection with the scheme.
The "person" whose purpose is to be identified under s 177D is the person, or one of the persons, who entered into or carried out the scheme or any part of the scheme. Section 177D makes plain that the person whose purpose is to be identified may be (but need not be) the relevant taxpayer or one of the other taxpayers mentioned in the section.
The meaning of some of the expressions found in s 177D is amplified by some other provisions of the Part. Particular reference will be necessary to three of those provisions: first, the elucidation in s 177C of how a reference to "the obtaining by a taxpayer of a tax benefit in connection with a scheme" should be read; secondly, the definition of "scheme" in s 177A(1); and, thirdly, the elucidation in s 177A(5) of how a reference to a scheme or a part of "a scheme being entered into or carried out by a person for a particular purpose" should be read. Although it will often be convenient to begin any consideration of the application of the Part by attending to the operation of these elucidating and definitional provisions, approaching a particular case in this way must not be allowed to obscure the way in which the Part as a whole is evidently intended to operate.
Taking Pt IVA as a whole, it is clear that ss 177D and 177F(1) are the two provisions about which the Part pivots. Section 177F(1) provides:

[50]

Moreover, it is important to notice that "scheme" is defined, in s 177A(1), in terms that may not always permit the precise identification of what are said to be all of the integers of a particular "scheme". So much follows from the inclusion, within the statutory meaning, not only of arrangements that are not and are not intended to be enforceable by legal proceedings, but also of "any scheme, plan, proposal, action, course of action or course of conduct". This definition is very broad. It encompasses not only a series of steps which together can be said to constitute a "scheme" or a "plan" but also (by its reference to "action" in the singular) the taking of but one step. The very breadth of the definition of "scheme" is consistent with the objective nature of the inquiries that are to be made under Pt IVA.
Nothing in subsequent decisions of the Court detracts from these conclusions about the operation of the definition of "scheme". In Federal Commissioner of Taxation v Consolidated Press Holdings Ltd, the Court held[27] that part only of the total plan or course of conduct involved in the corporate arrangements that had been made within a group of companies could be identified as a scheme to which Pt IVA applied. Nor do we understand subsequent decisions of the Court as having sought to elevate the Commissioner's identification of the scheme upon which he relies beyond the purpose identified in Peabody: the purpose of preventing embarrassment or surprise to the opposite party in the conduct of the proceedings[28]. The fundamental question remains whether, having regard to the eight matters listed in s 177D(b), "it would be concluded that the person, or one of the persons, who entered into or carried out the scheme or any part of the scheme did so for the purpose of enabling the relevant taxpayer [alone or with others] to obtain a tax benefit in connection with the scheme".
Against this background it is necessary to come to one other aspect of what was said in Peabody which appears to have loomed large in the argument of the present matters below. The Court said[29] that it was possible, despite the very wide definition of a scheme, to conceive of a set of circumstances which constitutes only part of a scheme and not a scheme in itself. That will occur, the Court continued[30], "where the circumstances are incapable of standing on their own without being 'robbed of all practical meaning'[31]".
This statement must be understood as having been directed to the issues of procedural fairness which underlay the issue presented in that case. Could the Commissioner, at trial or on appeal, point to some steps (narrower than those first identified by the Commissioner as the relevant scheme) and say that those steps constituted a scheme? As the Court went on to say[32], immediately after its reference to circumstances being incapable of standing on their own feet without being robbed of all practical meaning:

[54]

At the trial of these matters the Commissioner had identified[37] a "wider scheme" and a "narrower scheme". The wider scheme was said to be "all the steps leading to, and the entering into, and the implementation of the loan arrangements" between the lender's agent and the respondents, including five particular steps. Those steps were: (a) the marketing of the loan to the respondents; (b) splitting the loan; (c) acceptance by the lender's agent of capitalisation of interest on that part of the loan used for investment purposes on the basis that it received another predetermined amount in reduction of the home loan portion; (d) the respondents' election to allocate all repayments to the home loan portion until that portion of the loan was paid; and (e) the consequential incurring of additional interest (including compound interest) on the investment loan portion. The narrower scheme was said to be "the provision in the loan for the division into two portions and the direction of the repayments to one or other portion and the direction by the [respondents] of the repayments to the home loan portion".
In the Full Court, emphasis was given[38] to whether the narrower definition of the scheme could "stand on its own feet". It was said that it could not, because it "did not include the loan itself". And because it was said that the narrower scheme could not stand on its own feet, the Full Court concluded[39] that the wider scheme should be considered. The wider scheme was said to be all the steps leading to, and the entering into, and the implementation of the loan arrangements. It therefore included, among its elements, the making of the loan to the respondents. This in turn led the Full Court to conclude[40] that, because the borrowing was for use in financing and refinancing the two properties, the dominant purpose conclusion required by s 177D(b) could not be reached. It will be necessary to notice some aspects of the way in which these conclusions were reached and expressed. But before doing that it is necessary to stay a little longer with the question of identifying the relevant scheme.
The scheme to be identified must, of course, meet the definition of "scheme" set out in s 177A(1). But, in addition, the scheme to be identified must be a "scheme to which this Part applies": one which is entered into or carried out by a person for a purpose of the kind identified in s 177D(b) where a taxpayer has obtained, or would but for s 177F obtain, a tax benefit in connection with the scheme.
It is important to bear steadily in mind that, as was pointed out in the joint reasons of six members of the Court in Federal Commissioner of Taxation v Spotless Services Ltd[41], "Part IVA is to be construed and applied according to its terms, not under the influence of 'muffled echoes of old arguments' concerning other legislation[42]". That applies to all aspects of Pt IVA. Whether considering what is a "scheme", or considering other provisions of Pt IVA, it is necessary to eschew arguments that proceed from unstated premises about choice[43] or the drawing of false dichotomies[44] between "rational commercial decisions" and obtaining a tax benefit. It is important to identify why that is so.
There is no doubt that "tax laws affect the shape of nearly every business transaction"[45]. But as was said in the joint reasons in Spotless[46]:

[57]

The bare fact that a taxpayer pays less tax, if one form of transaction rather than another is made, does not demonstrate that Pt IVA applies. Simply to show that a taxpayer has obtained a tax benefit does not show that Pt IVA applies. With these considerations in mind, it is sometimes said that it is necessary to read Pt IVA in a way that will not bring "ordinary" transactions to tax. It is obvious that the content of such a proposition turns entirely upon what is meant by "ordinary".
Similar considerations can be seen to lie behind contentions that it is necessary to read the definition of "scheme" more narrowly than the terms used in the Act would require. In the present matters, Hely J said[47] that "[t]he more the scheme can be confined to the essential elements by which the tax benefit is obtained, the more likely it will be that the conclusion will be drawn that the dominant purpose for a person entering into a scheme so defined was to obtain the tax benefit". Whether or not that proposition is universally true may be open to debate. Even if, however, it is true, the solution to the difficulty which would be revealed lies not in attempting to seek some additional criterion of completeness or coherence which would inform or restrict the otherwise general terms of the definition of "scheme". As has been pointed out earlier, the words of the provisions give no basis for doing so. If there is a difficulty, its solution must be found in the construction and operation of other provisions of the Part, most particularly s 177D(b).
What the Commissioner identified in these matters as the wider scheme falls within the definition of "scheme". That is, all of the steps leading to, and the entering into, and the implementation of the loan arrangements can be understood as together constituting a "scheme". Those steps were a scheme, plan, or course of action. One of the purposes of that scheme was, of course, to provide money for the financing and refinancing of the two properties. But so, too, the steps said by the Commissioner to have constituted the narrower scheme (the provision of the loan permitting both the division of the loan and the direction of repayments to one portion, coupled with the respondents' direction of their repayments to the home loan portion of the loan) can also be identified as a course of action, scheme, plan or action. Not only is that so, the steps identified as constituting the narrower scheme can be seen to have formed a part of the wider scheme.
The central question then becomes, would it be concluded, having regard to the eight matters listed in s 177D(b), that a person who entered into or carried out the wider scheme, the narrower scheme, or any part of either scheme, did so for the dominant purpose of enabling the respondents to obtain a tax benefit in connection with the scheme?

[58]

It is convenient to consider the application of s 177D(b) in these matters by reference to the discussion of that subject in the Full Court. Hill J, with whose reasons in relation to Pt IVA the other members of the Court agreed, directed chief attention to three aspects of s 177D(b). They were, first, the manner in which the scheme was entered into or carried out (s 177D(b)(i)); secondly, changes in the financial position of the respondents, the lender and the lender's agent (s 177D(b)(v) and (vi)) and other consequences (s 177D(b)(vii)); and, thirdly, the conclusion that was to be reached having regard to those features.
Of the first of these matters, Hill J said[48] that "the manner in which the scheme was formulated and thus entered into or carried out is certainly explicable only by the taxation consequences" (emphasis added). No doubt this single aspect of the matter could not be treated as decisive. The Act requires that all of the eight matters listed in s 177D(b) be considered in deciding what conclusion would be reached about the purpose of the relevant persons. Yet it is important to notice the strength of the conclusion which Hill J reached about this matter: "the manner in which the scheme was formulated ... is ... explicable only by the taxation consequences". It will be necessary to return to consider what other considerations could be seen as denying the conclusion to which the manner in which the scheme was entered into or carried out pointed.
Of the second group of considerations (those referred to in s 177D(b)(v), (vi) and (vii)) his Honour noted[49] that, as a result of the scheme, the respondents had obtained and applied the funds in the manner earlier described. He said that there was no suggestion that the interest rate charged by the lender was other than a commercial rate. He noted that the respondents paid off the home loan faster than they otherwise would. No other financial or other kind of consequence was mentioned.
In this Court, the Commissioner submitted that there were three other relevant changes in the financial position of the respondents that had been brought about by the scheme. Those changes were, first, that, if the respondents were entitled to deduct all of the interest (including compound interest) attributed to that part of the loan used in connection with the investment property, they would pay less tax and would have more disposable income than they would have had if they had taken a loan on other terms. The second change, so the Commissioner submitted, was that, because interest would continue to accrue and be capitalised on that part of the loan used for the investment property, the amount owing on that account would increase to an amount well above the value of the investment property. Thirdly, as noted above, although the interest rate charged was commercially competitive, it was nevertheless marginally higher than would have been charged under the Austral standard principal and interest loans (for both home and investment financing) that were available to the respondents. In other words, so the Commissioner submitted, the respondents willingly agreed to pay a higher rate of interest than was available to them. No doubt account can and should be taken of these consequences of the scheme.
Hill J said that taking what, in substance, was a single advance and permitting its division into two parts might, "[t]o some extent"[50], support the conclusion that the obtaining of the additional tax deduction was the dominant purpose of the scheme. But this consideration, too, was evidently not treated as decisive. Any other considerations of form and substance, timing, and the nature of any connection between the respondents and any other relevant persons were not regarded as important.
Having said[51] that there was no doubt that the respondents and others involved in the transactions were aware of, and wanted the respondents to have, the tax deductions that were available for interest incurred on that part of the loan used for investment purposes, Hill J held[52] that "a reasonable person would [not] conclude that any person entered into or carried out the scheme or any part of it with the dominant purpose of ensuring that [the respondents] merely obtained a higher deduction for interest" (emphasis added). (It is by no means clear why the word "merely" was added.) He went on:

[62]

In these matters, it is, of course, true that the money was borrowed to finance and refinance the two properties. Of course the loan was structured in the way it was in order to achieve the most desirable taxation result. But those are statements about why the respondents acted as they did or about why the lender (or its agent) structured the loan in the way it was. They are not statements which provide an answer to the question posed by s 177D(b). That provision requires the drawing of a conclusion about purpose from the eight identified objective matters; it does not require, or even permit, any inquiry into the subjective motives of the relevant taxpayers or others who entered into or carried out the scheme or any part of it.
In the present matters, the respondents would obtain a tax benefit if, in the terms of s 177C(1)(b), had the scheme not been entered into or carried out, the deductions "might reasonably be expected not to have been allowable". When that is read with s 177D(b) it becomes apparent that the inquiry directed by Pt IVA requires comparison between the scheme in question and an alternative postulate. To draw a conclusion about purpose from the eight matters identified in s 177D(b) will require consideration of what other possibilities existed. To say, as Hill J did, that "the manner in which the scheme was formulated and thus entered into or carried out is certainly explicable only by the taxation consequences" assumes that there were other ways in which the borrowing of moneys for two purposes (one private and the other income producing) might have been effected. And it further assumes that those other ways of borrowing would have had less advantageous taxation consequences.
In these matters, demonstrating that there was another way in which the money might have been borrowed was very easy. Austral (the lender's agent) went to great lengths to give to the respondents (and presumably anyone else interested in similar proposals to borrow money for two purposes) material that identified the advantages that would be obtained by taking a split loan instead of other forms of loan. Much of this material was tendered in evidence at trial. It included elaborately worked examples illustrating how quickly the home loan could be paid off and how large were the tax benefits which could be obtained. As one of the brochures published by Austral, and given to the respondents, put it (by reference to a "working example"):

[67]

There could be no doubt in these matters that the terms on which the loan was made available were explicable only by the taxation consequences for the respondents. If the scheme was identified as "all the steps leading to, and the entering into, and the implementation of the loan arrangements" the manner in which that scheme was entered into strongly suggested that the respondents (each a relevant taxpayer) entered into that scheme for the dominant purpose of obtaining a tax benefit. Further, if the scheme was identified in this way, the respondents, by giving the directions they did, carried out the scheme for that same dominant purpose. But so too, if the scheme is identified more narrowly (as the making of the relevant provisions in the loan agreement and the giving of directions under those provisions) the like conclusion would be reached. Both the manner in which that (narrower) scheme was entered into, and the manner in which it was carried out, strongly suggested the conclusion described.
It is then important to return, for a moment, to an aspect of the issues discussed earlier concerning the identification of the scheme. The conclusions just described, as being indicated by the manner in which the scheme was entered into or carried out, are indicated by a consideration of how else the loan might have been arranged. They are not conclusions which depend upon identifying the scheme in one of the ways put forward by the Commissioner rather than another.
As has already been pointed out, it would be wrong to treat any conclusion drawn from the first of the eight matters mentioned in s 177D(b) as determinative. All eight must be considered. When the remaining seven are examined in these matters it will be seen that either they tend to point to the same conclusion as the manner in which the scheme was entered into or carried out, or they are neutral. None points against the conclusion that the person, or one of the persons, who entered into or carried out the scheme or any part of the scheme did so for the purpose of enabling each respondent to obtain a tax benefit in connection with the scheme.
As Hill J rightly pointed out, the form and substance of the scheme (s 177D(b)(ii)) also point to the purpose of a relevant person obtaining a tax advantage. What was one advance, to be repaid by 300 instalments, was treated as if it were two separate loans. The only persons obtaining any advantage from the treatment were the respondents. And the only advantages which they obtained depended upon the taxation treatment resulting from the application of payments and accumulation of interest for which the scheme (however identified) provided. It was these results in relation to the operation of the Act (but for Pt IVA) which would be achieved (s 177D(b)(iv)) and these results would improve the financial position of the respondents (each a relevant taxpayer) (s 177D(b)(v)). The only other consequence for them would be the compounding of interest attributable to the investment portion of the loan (s 177D(b)(vii)). No other person (in particular, neither the lender nor the lender's agent) would gain or suffer financially (s 177D(b)(vi)) or sustain any other consequence (s 177D(b)(vii)). And the only connection between the lender, the lender's agent and the respondents was that created by the loan arrangement, apart, of course, from the relationship of marriage between the respondents.

[171]

Read literally, the definition of a scheme is easily wide enough to include something much less than an agreement or arrangement: indeed to include an "action", or "course of action", or a promise made pursuant to, or as part of an agreement or arrangement, or of a scheme. A scheme, however it is to be described, must nonetheless be something which is, or can be the object of a particular, that is to say, a dominant purpose as required by s 177A(5). Further requirements are that what is sought to be identified as a scheme, must be something to which the matters referred to in s 177D(b) can or may be relevant.
Those matters, especially those of relevance here, do not operate, however, to narrow the meaning of a scheme. The reference in s 177D(b)(ii) to the "substance of the scheme" invites attention to what in fact the taxpayer may achieve by carrying it out, that is to matters whether forming part of, or not to be found within the four corners of an agreement or an arrangement. They also require that substance rather than form be the focus. And s 177D(b)(v) requires reference to the financial position, actual or prospective, of the taxpayer before and after the scheme.
The first step is to ascertain whether the transactions, or any action taken in relation to, or as part of them, are capable of constituting a scheme within the meaning of s 177A(1). In my opinion there is no doubt that there was a scheme here within that meaning, and that there is more than one way in which what passed between the respondents, Austral and the lender, can be seen to answer the statutory definition of a scheme. The arrangement that the respondents might elect to have interest debited exclusively to one account was each of, an "agreement", "understanding", "promise" or "undertaking", and although the definition does not require as an element of it, legal enforceability, each was legally enforceable as such. The election as to the application of the payments also answers the description of an "action" or "course of action" within the meaning of those words in s 177A(1)(b). This was so despite that the Court said in Federal Commissioner of Taxation v Peabody[61], that "Pt IVA does not provide that a scheme includes part of a scheme". An action or course of action undertaken in the course of, or as part of a transaction or series of transactions, is not the same as part of a scheme. The use of the singular, narrow words, proposal, action or course of action in s 177A(1)(b) in juxtaposition with, for example, agreement or arrangement in s 177A(1)(a) indicates that something done which is less than the whole of an arrangement or agreement may be capable of itself being a scheme. This view is I think not only consistent with, and a true reflection of the statutory language, but also with the legislative intention discernible from the Explanatory Memorandum. It is also consistent with the approach of this Court in Federal Commissioner of Taxation v Consolidated Press Holdings Ltd[62] in which the Court looked to part only of the activity of the corporate taxpaying group. Furthermore, there is no reason why the promotion of the Wealth Optimiser, its utilization by the respondents, the agreements and mortgages giving effect to it, and the election as to the repayments and debiting of interest, should not be collectively regarded as an arrangement, a course of action or a course of conduct. The arrangement was in fact a tripartite one, involving the broker, the respondents and the lender. Under s 177A(3) a unilateral course of action, for example, the giving of notice of election and payment according to it, by the respondents would have been sufficient to constitute a scheme.
The respondents sought to emphasize, in attacking the appellant's submissions, that the election by them, or their splitting of the loan in the way in which they did could constitute a scheme, a statement of the Court in Peabody[63] in effect that, if "the circumstances are incapable of standing on their own without being 'robbed of all practical meaning'" then those circumstances although they may be a part of a scheme, cannot constitute a scheme itself. All that I would take the Court to mean in making this statement is that it is not for the appellant to attempt to seize upon and isolate one event, or a series of events, which, standing alone may appear to have a complexion which it or they cannot truly bear when other, relevant, connected events are taken, as they should be, into account.
Nor is there any doubt that the respondents obtained a tax benefit under s 177C "in connection with a scheme". The use of the word "connection" is significant. It is a word of wider import than, for example, "result". The benefit is obvious: a deduction from each respondent's taxable income of the whole of the interest payable in respect of a loan to finance not just the acquisition or holding of an investment property but of both it and a residence, the interest on the financing of which is not tax deductible.
The next question, which is of purpose, is whether under s 177D the scheme is one to which Pt IVA applies. This will, in my view, in most cases be the critical question. The answer to it, both as a matter of statutory interpretation and as the Explanatory Memorandum indicates, was intended to be the fulcrum upon which most Pt IVA cases will turn, because the definition of a scheme, being as wide as it is, will relatively easily be satisfied, and the presence or absence of a tax advantage will also usually be readily apparent. The Act requires that questions raised by s 177D be answered by reference to the indicia stated in the section. It is not necessary of course that every one of them be relevant to every scheme. Indeed the presence or overwhelming weight of one factor alone may of itself in an appropriate case be of such significance as to expose a relevant dominant purpose.
The first of the indicia is "the manner in which the scheme was entered into" (s 177D(b)(i)). The [wider] scheme was entered into by a transaction between arms length parties who were agreed that its manner of operation, by the making of the election, would lead to maximum tax deductibility. A narrower scheme was the election itself and payment in accordance with it, these being actions of the respondents.
The "form and substance" (s 177D(b)(ii)) of the scheme were to this end and effect: tax deductibility. It is also relevant that the scheme, however it is to be defined, was apparently tax neutral for the lender. And it was not suggested that the broker would be disadvantaged financially by the form it took. The contrary was probably the case but it is unnecessary to decide whether that is so. An aspect of the question to which s 177D(b)(ii) gives rise, is whether the substance of the transaction (tax implications apart) could more conveniently, or commercially, or frugally have been achieved by a different transaction or form of transaction. At least arguably it could have been. If it had, compound interest would have been avoided. Non-recourse by the lender to both (on default by the respondents), rather than to one of the properties only, may have been able to be negotiated. The absence of adversion by the respondents to such a consideration is itself some indication of the purpose to be inferred from the circumstances. The scheme was intended to endure for many years. Its duration had this significance. Although the debt in respect of the residence would be relatively quickly discharged, the mortgage on it would have to remain as security for the outstanding debt because of the very real chance that the sum of the principal owing on the investment property and the accumulating interest, would come to exceed the latter's value and would provide insufficient security for the debt. This, it may be observed, was a matter to which the Full Court did not have sufficient regard in identifying the respondents' dominant purpose. Each of ss 177D(b)(iii), (iv) and (vii) require that all of these matters be taken into account in determining whether Pt IVA applies.
From the matters to which I have referred it is easy to conclude, inevitable in fact that a court do so, that the respondents entered into a scheme for the [dominant] purpose of obtaining a tax benefit. What other purpose or purposes could have made commercial or other sense? There was no material before the Court to show that the purchase of the investment property was in fact a good investment in the sense that even if it did not yield a rental sufficient to cover interest and other outgoings there was a reasonable chance that it would appreciate in value. Repayment of the principal owing in respect of the residence did not make it immune to recourse by the lender in the event of default or shortfall in payment or value of the investment property.
It may be that the respondents did wish to make an investment and to change their residence. These were entirely irreproachable and proper objectives. But the means adopted to achieve these results could readily, and should be objectively concluded to be a scheme for the [dominant] purpose of enabling the respondents to obtain a tax benefit, and that is so no matter which of the alternative definitions as to the width of the schemes, within which what occurred here falls, is preferred.
I would allow the appellant's appeal. The appellant agreed that he should pay the respondents' costs in this Court in any event. The orders made by the Full Court of the Federal Court on 26 November 2002 should be set aside and the appeal to that Court be dismissed with costs.
Having reached this conclusion, it is unnecessary to resolve the questions which the appellant's application for special leave raises. That application should therefore be dismissed.

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