WALTERS & ANOR v FC of T

Judges:
Greenwood J

Court:
Federal Court, Brisbane

MEDIA NEUTRAL CITATION: [2007] FCA 1270

Judgment date: 20 August 2007

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Greenwood J

1. By this Application, David James Walters and Rhondda Isobel Walters appeal from a decision of the Administrative Appeals Tribunal ("the Tribunal") affirming an objection decision in respect of each taxpayer made by the Commissioner of Taxation pursuant to the provisions of the Taxation Administration Act 1953 (Cth) to disallow an objection by each taxpayer against an assessment of income tax based upon income said to be derived by each taxpayer in the year ending 30 June 2000, the subject of an amended assessment dated 6 February 2004.

2. 

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The respondent issued an amended assessment on the footing that a series of transactions entered into during April 1999 commencing with each taxpayer disposing of a $1.00 share issued to each taxpayer at par in a company called Dart Trading Co Pty Ltd ("Dart Trading") to a separate company wholly controlled in each case by the respective taxpayer and concluding with a sale by each taxpayer of an interest in the share in the capacity of trustee of the relevant trust (as vendor in each case) to Terrence John Walters (the brother of David Walters) and Annette Mary Walters (the wife of Terrence Walters) for a purchase price of $350,000.00, was a sham and ought to be disregarded. Thus, the Commissioner contended that each taxpayer had received a capital gain upon the disposal of the asset on 10 September 1999 of $349,999.00 which formed part of each taxpayer's assessable income. The respondent issued the amended assessment on the alternative footing that the sequence of transactions leading up to the sale to Terrence and Annette Walters constituted a scheme for the purposes of Part IVA of the Income Tax Assessment Act 1936 (Cth) ("the 1936 Act") and that each taxpayer had entered into the scheme for the dominant purpose of "obtaining a tax benefit" in connection with the scheme. The tax benefit was said to be the avoidance or non-inclusion of an amount that would have been included in the assessable income of the taxpayer but for the taxpayer entering into or carrying out the scheme.

3. The Tribunal affirmed the decision of the respondent on the footing that the sequence of transactions was not a sham; each taxpayer intended the transactions to take effect according to their terms so as to bring about an uplift in the cost base of each share from $1.00 to $350,000.00 in the hands of the vendor of each share in the capacity of trustee of the relevant trust; the transactions had that effect; and the taxpayer did not incur a capital gain of $349,999.00 upon the sale of each share to Terrence and Annette Walters, subject to Part IVA of the 1936 Act. However, in affirming the decision under review, the Tribunal concluded that the series of transactions that preceded the ultimate sale of each share to Terrence and Annette Walters comprised a scheme entered into or carried out by each taxpayer for the dominant purpose of obtaining a tax benefit in connection with the scheme namely, avoiding an amount of $349,999.00 in the case of each taxpayer that would have been included in the assessable income of each taxpayer in the year ending 30 June 2000 had not the scheme been entered into or carried out.

4. The Tribunal concluded that notwithstanding an election by each taxpayer under s 122-15 of Subdivision 122-A of Division 122 of Part 3-3 of the Income Tax Assessment Act 1997 (Cth) ("the 1997 Act") to obtain a "roll-over" upon the disposal of each Dart Trading share to Sailpeal Pty Ltd ("Sailpeal") in the case of David Walters and Port Bracknell Pty Ltd ("Port Bracknell") in the case of Rhondda Walters, each taxpayer was unable to enliven an exclusion from the notion of "obtaining a tax benefit", provided by s 177C(2)(a)(i) of Part IVA of the 1936 Act.

5. Accordingly, the Tribunal concluded that each taxpayer had obtained a benefit for the purposes of s 177D of the 1936 Act and that each taxpayer had entered into or carried out a part of the scheme for the purpose of enabling the taxpayer to obtain a tax benefit. The Tribunal thus affirmed the respondent's objection decision disallowing each applicant's objection to the amended assessment arising out of the respondent's determination that the whole of the capital gain be included in the assessable income of each taxpayer for the year of income ending 30 June 2000, pursuant to s 177F(1)(a) of Part IVA of the 1936 Act.

6. The Tribunal however did not affirm the respondent's decision to impose by way of penalty, additional tax. The respondent imposed additional tax by way of penalty under s 226L of the 1936 Act and alternatively pursuant to s 226 of the 1936 Act. The Tribunal determined that since each taxpayer had entered into a scheme for the purposes of Part IVA resulting in a determination under s 177F(1), additional tax by way of penalty might be imposed pursuant to s 226(2) of 50% of the tax payable arising out of the cancellation of the tax benefit, unless a reasonable argument was available to the taxpayer that Part IVA did not apply, in which event the additional tax by way of penalty would be 25%. The Tribunal concluded that each taxpayer did have a reasonably arguable case that Part IVA did not apply and accordingly the Tribunal reduced the amount of

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additional tax to 25% of the tax payable arising out of the inclusion of the relevant amount in each taxpayer's assessable income in the year ending 30 June 2000 pursuant to the determination made under s 177F(1).

7. The applicants contend that the following questions of law arise to be determined on this appeal:

• "(a) Whether the Tribunal misconstrued the true meaning and effect of s 177C(2)(a)(i) of the Income Tax Assessment Act 1936 (ITAA36);
• (b) Whether the Tribunal was correct to conclude, as it purported to at paragraph 51 of the Reasons, that the Applicants were unable to bring themselves within the exemption provided for in s 177C(2)(a)(i);
• (c) Whether the Tribunal misconstrued the true meaning and effect of s 177D(b)(i) to (viii) of the ITAA 36;
• (d) Whether the Tribunal was correct to conclude, as it purported to do, at paragraphs 62 and 63 of its Reasons, that the sole or dominant purpose of the Applicants" entry into the scheme, as identified by the Commissioner of Taxation and accepted by the Tribunal at paragraph 44 of its Reasons, was the obtaining of a tax benefit, being the benefit identified by the Tribunal."

8. The applicants contend that the Tribunal erred in law by concluding at para 51 of its reasons that the applicants were unable to bring themselves within the exception provided for in s 177C(2)(a)(i) of the 1936 Act and erred in applying s 177C(2)(a)(i) of the 1936 Act to the facts as found.

9. The applicants give four particulars in support of the notion that the Tribunal erred in law in applying s 177C(2)(a)(i) to the findings of fact. The particulars are these. The scheme identified by the respondent and accepted by the Tribunal comprised a series of transactions which preceded the ultimate sale of each share but not the actual sale of the share (para 44, reasons - particular (i)); the tax benefit identified by the respondent but not accepted by the Tribunal was that each taxpayer would have been required to include $349,999.00 being the sale price of each share less a cost base of $1.00 in the taxpayer's assessable income but for the scheme (para 45, reasons - particular (ii)); the tax benefit identified by the Tribunal arose out of steps implemented in the scheme that led to an uplift in the cost base of the shares having regard to particular transactions and the parties to those transactions (para 50, reasons - particular (iii)); and if a tax benefit arose out of an uplift in the cost base of the shares in the hands of particular parties, it was not a tax benefit obtained by either applicant but rather a tax benefit obtained by the trustee of the relevant trusts.

10. As to the amount of additional tax imposed by way of penalty, the Commissioner of Taxation appeals by an Amended Notice of Appeal filed 7 February 2006 against the Tribunal's decision on the following grounds:

• "(a) The Tribunal erred in holding, at paragraph 67 of its reasons, that the respondents did have a reasonably arguable case.
• (b) The Tribunal erred in failing to consider, properly or at all, whether it was reasonably arguable, as that expression is defined in s 222C of the ITAA36 that Part IVA of the ITAA36 did not apply.
• (c) On a proper construction of s 226(2) of the ITAA36 and the expression reasonably arguable, the Tribunal should have held that it was not reasonably arguable that Part IVA of the ITAA36 did not apply."

Background Facts

11. The facts found by the Tribunal and its conclusions arising out of those facts are these ([12] - [49] of these reasons).

12. On 19 November 1991, Dart Trading was incorporated. David and Rhondda Walters, Terrence Walters and his wife Annette Walters became directors and each individual was issued with one ordinary share of $1.00 in the company. There were no other shareholders. The company conducted the business of a supermarket in Gordonvale in North Queensland.

13. In 1998, the shareholders of Dart Trading conducted discussions with Franklins about the possibility of selling the business (presumably either the business or shares in Dart Trading) to Franklins. Nothing came of those discussions. The applicants, however, became interested in selling their interest in the business in any event. David Walters contended

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ATC 4977

that he was having marriage difficulties; sought a restructuring of his affairs to protect his assets; and contended he was motivated by estate planning purposes.

14. David Walters met legal advisers about steps that might be implemented. The Tribunal notes that the applicants gave evidence that they were advised to enter into a transaction in several parts.

David Walters

15. As to David Walters, the steps were these.

16. On 13 April 1999, David Walters entered into an agreement in writing to sell his share in Dart Trading to Sailpeal at a price constituting the market value of the share on 13 April 1999 as determined by a firm of chartered accountants in Cairns. By cl 2.2 of the agreement, the purchase price would be satisfied by the issue of 2,000 $1.00 shares in Sailpeal to David Walters. David and Rhondda Walters were appointed directors of Sailpeal and David Walters agreed to provide a duly executed transfer instrument for the share to Sailpeal.

17. Having agreed to a transfer of the share in Dart Trading to Sailpeal and Sailpeal having issued 2,000 ordinary non-redeemable shares to him in satisfaction of the consideration, David Walters executed on 13 April 1999 a document for the purposes of Subdivision 122-A of Division 122 of Part 3-3 of the 1997 Act by which he chose to obtain a roll-over pursuant to s 122-15 in respect of the CGT "trigger event" being the disposal of his share in Dart Trading to Sailpeal, a company in which he owned all of the issued shares immediately after the trigger event (s 122-25, the 1997 Act).

18. The point of making that election, of course, is that a capital gain "made from the trigger event is disregarded" (s 122-40). The policy of the legislation is that if a taxpayer disposes of an asset to an entity wholly owned by the taxpayer immediately after the disposal event, the taxpayer, subject to the provisions of Part 3-3, might be relieved of the immediate consequence of realising a taxable capital gain arising out of a disposal of a CGT asset. The capital gain might then be postponed to a later event. The asset retains the same cost base in Sailpeal as it had in the hands of David Walters, namely, the par value issue price of $1.00.

19. On 13 April 1999, Maurice John Collins as settlor and Adelong Hills Pty Ltd ("Adelong Hills") as trustee established the Adelong Trust for the benefit of the "Absolute Beneficiary", Sailpeal. By clause 3.1, the trustee must in each year determine the net income of the Trust Fund. By clause 3.2, the trustee holds the net income of the Trust Fund for the absolute benefit of Sailpeal unless the trustee and Sailpeal declare the remaining parts of clause 3 to have effect. Clauses 3.3 - 3.9 confer a discretion upon the trustee to pay, apply or set aside any part of the Trust Fund for all or one or more of the Primary, Secondary or Tertiary Beneficiaries or accumulate the Fund. By clause 4.2, the capital of the Trust Fund vests in Sailpeal upon termination of the trust, subject to the trustee and Sailpeal enlivening a discretion in the trustee under clause 4.3 to apply any part of the Trust Fund to the Primary, Secondary or Tertiary Beneficiaries. Clause 5 confers a power upon the trustee should the trustee and Sailpeal enliven the power, to exercise an absolute discretion at any time to pay or apply the whole or any part of the Trust Fund to or for the benefit of all or any of the Primary, Secondary or Tertiary Beneficiaries. Clause 9 deals with special powers and discretions of the trustee and clause 9.3 provides that the power of appointing a new trustee shall vest in the Principal. The Principal under the Deed is Sailpeal. Under the Adelong Trust, the primary beneficiary is the Australia Red Cross ("Red Cross") and the secondary beneficiary is the Royal Flying Doctor Service of Australia ("RFDSA"). The "Tertiary Beneficiaries" under the Trust Deed are any trustee of any settlement in which Adelong Hills (as trustee of the Adelong Trust) or the Red Cross or RFDSA is a beneficiary or any company or corporation in which Adelong Hills (as trustee of the Adelong Trust) or the Red Cross or RFDSA hold shares.

20. David Walters and Rhondda Walters were appointed directors of Adelong Hills and each held one share in the company.

21. On 13 April 1999, Sailpeal as beneficial owner of the share in Dart Trading declared that it held its interest in the share "upon and subject to the trusts of the Adelong Trust" of which it was the "Absolute Beneficiary".

22. 

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ATC 4978

On 13 April 1999, the directors of Adelong Hills (the applicants) resolved that the company accept as subject to the Trust, the right, title and interest of Sailpeal in the Dart Trading share.

23. On 13 April 1999, the applicants as directors of Sailpeal, resolved on behalf of the company to consent to the enlivening by the trustee (Adelong Hills) of the discretions and powers conferred by clauses 3.3 - 3.9, 4.3 and 5.2 - 5.4 of the Adelong Trust Deed.

24. On 14 April 1999, Stephanie Maria Mauchlan and Port Bracknell entered into a Trust Deed to establish the Dart Trust for the benefit of the Primary, Secondary and Tertiary Beneficiaries. The Primary and Secondary Beneficiaries are the Red Cross and RFDSA respectively. The Tertiary Beneficiaries are any trustee of any settlement in which Port Bracknell (as trustee of the Dart Trust) or the Red Cross or RFDSA is a beneficiary or any corporation in which any of those parties hold shares.

25. On 14 April 1999, Adelong Hills as trustee of the Adelong Trust entered into an agreement to sell one fully paid share in Dart Trading for $35,000.00 to Port Bracknell as trustee of the Dart Trust recognising by clause 2.1 that the purchase price nominated in the Sale Agreement was substantially less than the market value of the share at the date of sale. The applicants as directors of Adelong Hills passed resolutions that the company dispose of its right, title and interest in the Dart Trading share to Port Bracknell and in their capacity as directors of Port Bracknell, the applicants resolved to affix the company seal to the agreement and acquire the Dart Trading share in its capacity as trustee of the Dart Trust.

26. On 14 April 1999, David Walters as Principal under the Trust Deed for the Dart Trust exercised a power pursuant to clause 9.3.2 of the Trust Deed to remove Port Bracknell as trustee of the Dart Trust and personally assume the role of trustee of the Dart Trust. By declaration dated 14 April 1999, David Walters acknowledged that as incoming trustee of the Dart Trust, he held the Trust Fund "upon the same trusts" subsisting prior to the appointment of a new trustee.

27. Three further trusts were established.

28. On 13 April 1999, Maurice John Collins and Adelong Hills established the Adelong Trust No. 2 for the benefit of the "Absolute Beneficiary", Port Bracknell. That Trust Deed is in similar terms to the Adelong Trust Trust Deed; contains the clause 3 discretions as to income (once enlivened); the clause 4 discretion as to capital (once enlivened); the clause 5 power (once enlivened) to pay or apply the whole or any part of the Trust Fund to or for the benefit of all or any one of the Primary, Secondary or Tertiary Beneficiaries; the clause 9 special powers including a power of removal of the trustee by clause 9.3. The Primary and Secondary Beneficiaries are the Red Cross and RFDSA and the Tertiary Beneficiaries are defined by the same method as the Adelong Trust.

29. On 14 April 1999, Stephanie Mauchlan and Sailpeal established the Dart Trust No. 2 for the benefit of the Primary, Secondary and Tertiary Beneficiaries. The Primary and Secondary Beneficiaries are the Red Cross and RFDSA and the Tertiary Beneficiaries are any trustee of any trust in which Sailpeal as trustee of the Dart No. 2 Trust is a beneficiary or in which the Red Cross or the RFDSA is a beneficiary or any corporation in which any of those parties hold a share.

30. On 14 April 1999, Stephanie Mauchlan established a further trust with Peachbronze Pty Ltd ("Peachbronze") as trustee of the Adelong Trust No. 3 for the benefit of the beneficiaries described in the Trust Deed namely the Red Cross (Primary Beneficiary), RFDSA (Secondary Beneficiary) and Tertiary Beneficiaries reflecting the same formulation as the other Trust Deeds.

31. On 15 April 1999, the applicants as directors of Adelong Hills in its capacity as trustee of the Adelong Trust met, noted certain things and passed a resolution. The directors noted that the Red Cross is a beneficiary of the Adelong Trust No. 3 and thus Peachbronze in its capacity as trustee of that trust is a Tertiary Beneficiary of the Adelong Trust. Accordingly, the directors resolved to pay, apply and set aside the net income and the additional tax income of the Adelong Trust for the year ended 30 June 1999 to and for the benefit of the trustee (Peachbronze) of the Adelong Trust No. 3 to be held upon the trusts of that trust.

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Rhondda Walters

32. The Tribunal notes that similar transactions were entered into concerning the share held by Rhondda Walters in Dart Trading.

33. By agreement dated 13 April 1999, Rhondda Walters agreed to sell her share in Dart Trading to Port Bracknell at a price equal to the market value on 13 April 1999 as determined by a firm of chartered accountants. The sale price would be satisfied by the issue of 2,000 $1.00 shares in Port Bracknell to Rhondda Walters. Rhondda Walters agreed to provide a duly executed transfer instrument for the sale of the share and chose to obtain a roll-over pursuant to Subdivision 122-A of the 1997 Act in respect of the disposal.

34. On 13 April 1999, Port Bracknell executed a declaration of trust reciting its beneficial ownership of the Dart Trading share; its status as absolute beneficiary under the Adelong Trust No. 2; and declared that it held the share "upon and subject to the trusts of the Adelong Trust No. 2".

35. On 13 April 1999, the applicants as directors of Port Bracknell resolved to enliven the discretions and powers conferred by the Trust Deed upon the trustee pursuant to clauses 3.3 - 3.9, clause 4.3 and clauses 5.2 - 5.4 and on 13 April 1999, the applicants as directors of Adelong Hills recognised the resolution of Port Bracknell in that regard and resolved that either director be authorised to declare the activation of the provisions of the Trust Deed.

36. On 14 April 1999, Adelong Hills in its capacity as trustee of the Adelong Trust No. 2 sold the share in Dart Trading to Sailpeal in its capacity as trustee of the Dart Trust No. 2 for $35,000.00 recognising that the purchase price was substantially below the market value for the share. On 14 April 1999, Rhondda Walters executed a Deed of Change of Trustee of the Dart Trust No. 2 exercising a power as Principal under the Trust Deed pursuant to clause 9.3.2 to replace Sailpeal as trustee and replace the trustee with Rhondda Walters.

37. On 15 April 1999, the applicants as directors of Adelong Hills in its capacity as trustee of Adelong Trust No. 2 noted that Peachbronze in its capacity as trustee of the Adelong Trust No. 3 is a Tertiary Beneficiary of Adelong Trust No. 2 by reason of the interlinking mechanism of the Australian Red Cross. The directors resolved to pay, apply and set aside the net income of the Adelong Trust No. 2 for the year ended 30 June 1999 to and for the benefit of the trustee of the Adelong Trust No. 3 to be held upon the trusts of that trust.

38. As a result, David Walters replaced Port Bracknell as trustee of the Dart Trust which had acquired from the Adelong Trust its interest in the Dart Trading share. David Walters had resumed legal title to the share but held that share upon the Dart Trust for the beneficiaries of that trust. Similarly, Rhondda Walters replaced Sailpeal as the trustee of the Dart Trust No. 2 which had acquired the Dart Trading share from the Adelong Trust No. 2. Rhondda Walters had resumed legal title to the share but upon the Dart Trust No. 2 for the beneficiaries of that trust.

The disposal to Terrence and Annette Walters

39. In 1998, Terrence Walters and David Walters began discussing the possibility of each applicant selling their shares to Terrence and Annette Walters. Terrence Walters made enquiries about sources of finance in early 1999; a valuation dated 11 June 1999 of the shares of the applicant's was obtained from an accountant; the accountant was first approached prior to the transactions of 13 - 15 April 1999; and the valuation stated that each share had a value of $350,000.00.

40. At the end of May 1999, Terrence Walters told the applicants that Dart Trading was setting aside money in a solicitor's trust account each week in order to fund a purchase of the shares from the applicants. The Tribunal notes that the accountant was contacted by the solicitor and told of the possibility that Dart Trading would "lend $700,000.00 to [Terrence Walters and Annette Walters] to fund the purchase at the beginning of June [1999]". The applicants resigned as directors of Dart Trading on 15 June 1999; the Australian Securities and Investments Commission ("ASIC") approved a loan by Dart Trading to the purchasers to buy the shares; and the company resolved on 30 July 1999 to make the loan. On 10 September 1999, the applicants entered into an agreement as registered holders of each respective share to sell the shares to Terrence and Annette Walters for $700,000.00. The settlement statement

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(AB410) confirms settlement of the transaction on 10 September 1999. The net receipt after adjustments was $675,363.64 or $337,681.82 in respect of each share.

The distribution

41. The sale by David and Rhondda Walters was made in their capacity as trustee of the Dart Trust and the Dart Trust No. 2 respectively. The Tribunal notes that each trustee resolved to distribute the income of each trust to the Adelong Trust No. 3. That income included the sale proceeds of each share. The Tribunal also notes that the trustee of the Adelong Trust No. 3, Peachbronze, resolved to distribute income of that trust to a tertiary beneficiary of the Trust, so defined. That term included by reason of the mechanism described at para [23] of the Tribunal's reasons, each applicant as a beneficiary of the Adelong Trust No. 3. Each applicant was eligible to and did receive a distribution of income in the year ending 30 June 2000 as a beneficiary of the Adelong Trust No. 3.

The uplift in the cost base

42. Adelong Hills as trustee of the Adelong Trust sold the share originally held by David Walters, to Port Bracknell as trustee of the Dart Trust for $35,000.00. Adelong Hills as trustee of the Adelong Trust No. 2 sold the share originally held by Rhondda Walters to Sailpeal as trustee of the Dart Trust No. 2 for $35,000.00. Each agreement recognised that the sale price of $35,000.00 was substantially below the market value of $350,000.00. Since the sale agreement was not the expression of an agreement between arms-length parties in connection with the CGT event, the capital proceeds of $35,000.00 are replaced with the market value of the asset (Division 116, Capital Proceeds, Part 3-1, the 1997 Act, s 116-30(2)) and the cost base of the asset in the hands of the purchaser is the market value ($350,000.00). Accordingly, when the shares were sold on 10 September 1999 by David and Rhondda Walters in their respective capacity as trustee of the relevant trust, the vendor of the share, it was said, did not realise a capital gain upon disposal of a CGT asset.

The conclusions of the Tribunal

43. In relation to the transactions, the Tribunal made these observations.

• "26. [The applicants] say the shares were disposed of to [Sailpeal] and [Port Bracknell] on 13 April 1999 in return for shares in those companies. Those transactions were CGT events … but the taxpayers elected in each case that [Subdivision 122-A] of the ITAA97 should apply. The taxpayers say the fact they subsequently resumed legal ownership of the shares when they were appointed as trustees is irrelevant since they did not hold any beneficial interest in the assets. They also say the Tribunal should ignore the fact they ultimately received the proceeds of sale.
• 29. Taken at face value, the sale of the shares in [Dart Trading] at first instance to [Sailpeal] and [Port Bracknell] in return for shares in those companies had the effect of divesting the applicants of any legal and beneficial interest in the [Dart Trading] shares. While the machinations of 13-15 April 1999 appear to have had the effect of restoring legal ownership of the [Dart Trading] shares to the applicants (albeit as trustees), those transactions did not restore beneficial ownership of the shares to the applicants.
• 36. In this case, it appears the applicants intended the documents to have their full effect - indeed, the taxpayer depended on the documents taking effect according to their tenor in order that they might be placed in a position to exploit the taxation (and perhaps other) advantages that would become available when a sale of the shares in the business to a third party was completed.
• 37. … In this case, the applicants became aware of a result they wanted to achieve and gave instructions to their professional advisers to prepare the necessary steps.
• 38. … I am satisfied after hearing all the evidence that the applicants regarded themselves as committed to the transactions and reaping whatever benefits might flow. I accept their failure to comply with the detailed notice requirements [that is, presentation of share transfers so that changes in ownership might be recorded in the share register] reflects nothing more than a lack of attention to corporate secretarial functions.

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  ATC 4981

  39. Subject to the operation of Part IVA [the 1936 Act] I accept each of the taxpayer did not incur a capital gain in the amount of $349,999.00 following the sale of the [Dart Trading] shares as a result of the transactions they entered into."

44. In relation to the question of whether each applicant participated in a scheme for the purposes of Part IVA, the Tribunal reached these conclusions.

• "43. … the taxpayers do more than [engage in the sale of a share to a wholly owned company in return for shares in that company] in this case. They set in train a series of steps beginning with the disposition of the shares in [Dart Trading] to the wholly owned companies, including the disposition of the shares to the applicants" in-laws and ending with the gains being distributed to them by the trust which received the proceeds of sale. The taxpayers are involved in person or as trustees or directors of trustee companies at most of those stages.
• 44. … I do not think it matters that the scheme is not taken to include every step up to and including the distribution of the proceeds of sale. The High Court has signalled it is permissible in appropriate cases to include within the definition of the scheme "part only of the total plan or course of conduct". I am satisfied that, taken together, the steps (that is, all of the dealings up to but not including the actual sale of the shares to the in-laws) identified by the Commissioner constitute a scheme for the purposes of Part IVA."

45. As to the tax benefit, the Tribunal said this.

• "46. On the face of it, the scheme appears to generate a tax benefit within the meaning of s 177C(1)(a) in that the operation of the scheme has resulted in an amount not being included in the assessable income of the taxpayer where it would otherwise be included. If the taxpayers had not entered into any of the transactions involving the companies and trusts and merely sold their shares to their in-laws at the agreed price, they would have incurred a substantial capital gain.
• 50. While it is true the applicants did not make an assessable capital gain on the sale to the wholly-owned companies by reason of the [Subdivision 122-A] election, the tax benefit in question here arises out of the subsequent steps in the scheme that led to an uplift in the cost base of the scheme.
• 51. Section 177D requires that the decision-maker consider whether - having obtained a tax benefit - the taxpayer entered into the scheme in question for the purpose of enabling the taxpayer to obtain a tax benefit in connection with the scheme. In doing so, the decision-maker must have regard to the factors mentioned in s 177D(b)(i) - (viii)."

46. As to the question of purpose and whether the taxpayer was actuated by the dominant purpose of obtaining a tax benefit in connection with the scheme, the Tribunal reached the following conclusions having regard to each of the matters identified in s 177D(b)(i) - (viii).

• "62. … a reasonable person would be satisfied that taxpayers" entry into the scheme is explained by the prospect of a tax benefit. The applicants suggested in their evidence that they had other objectives in mind, including estate planning and the need to restructure their affairs given the state of their marriage. While those objectives might be legitimate, they do not explain the nature of the transactions that were entered into. The only rational explanation for the flurry of activity on 13 - 15 April was a desire to obtain a tax benefit.
• 63. I am satisfied the applicants entered into the transactions at a time when the sale of the shares was in prospect, even if the terms of an acceptable sale had not been finalised. The taxpayers and their in-laws were clearly anticipating a deal would be concluded: the evidence shows their discussions commenced in 1998, and inquiries were being made in March 1999 about the possibility of obtaining finance. The in-laws began setting money aside to fund the purchase of the shares in May 1999. I do not accept the flurry of activity in April was part of a separate process of estate planning or restructuring in anticipation of matrimonial difficulties. The arrangements were designed to reap a tax advantage upon the sale of the shares."

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  ATC 4982

47. Apart from these factual conclusions, the Tribunal dealt with a contention on the part of the applicants that no tax benefit (having regard to the findings at [46] and [50] of the Tribunal's reasons) arose because s 177C(2)(a)(i) has the effect of excluding from the notion of "an amount not being included in the assessable income of the taxpayer where that amount would have been included, or might reasonably be expected to have been included", an amount where the non-inclusion is attributable to the taxpayer making a choice or election expressly provided for by the 1997 Act. Therefore, since each taxpayer made an election under Subdivision 122-A of Division 122 of Part 3-3 of the 1997 Act to obtain a "roll-over" and the non-inclusion of $349,999.00 in the assessable income of each taxpayer in connection with the scheme so found, is "attributable to the making of [a] choice or election (expressly provided for by [the 1997 Act])", the applicants did not, it is said, obtain a tax benefit in connection with the scheme.

48. The Tribunal concluded [50] that the tax benefit in question arose out of the "subsequent steps in the scheme that led to an uplift in the cost base of the share" (in particular, the sale of the share by Adelong Hills as trustee of the Adelong Trust to Port Bracknell as trustee of the Dart Trust at the uplifted cost base of $350,000.00 in respect of the Dart Trading share originally held by David Walters and the sale of the share by Adelong Hills as trustee of the Adelong Trust No. 2 to Sailpeal as trustee of the Dart Trust No. 2 at the uplifted cost base of $350,000.00 in respect of the Dart Trading share originally held by Rhondda Walters), rather than the choice or election made by each taxpayer pursuant to s 122-15 of the 1997 Act in respect of the disposal by each taxpayer of their share in Dart Trading to Sailpeal and Port Bracknell.

49. In other words, the Tribunal was not satisfied that the non-inclusion of the relevant amount in the assessable income of the taxpayer was "attributable to" the choice or election made under s 122-15 of the 1997 Act. Accordingly, the applicants were "unable to bring themselves within the exception provided for in s 177C(2)(a)(i)" [51].

Considerations

50. At [39] the Tribunal concluded that neither taxpayer realised a capital gain consequent upon the disposal of each share as a result of "the transactions they entered into". Accordingly, neither taxpayer was required to include in his or her assessable income in the year ending 30 June 2000, an amount representing a realisation of a capital gain upon disposal of each share by reason of the transactions, by operation of Part 3-1 of Chapter 3 of the 1997 Act.

51. Rather, certain steps along the way to an ultimate sale of each share to Terrence and Annette Walters are said to constitute a scheme attracting the operation of Part IVA of the 1936 Act. The Tribunal's error of law is said to lie in the conclusion that neither taxpayer was entitled to the benefit of the "choice or election" exclusion in s 177C(2)(a)(i) and, secondly, the application of that provision to the facts as found.

52. Section 177F(1) provides that where a tax benefit has been obtained or would but for s 177F be obtained by a taxpayer in connection with a scheme to which Part IVA applies, the Commissioner may, where the tax benefit is referable to an amount not being included in the assessable income of the taxpayer of a year of income, determine that the whole (or part) of such an amount shall be included in the assessable income of the taxpayer of that year of income.

53. A tax benefit in connection with a scheme, relevantly for present purposes, is a reference to an amount not 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" (s 177C(1)(a)).

54. A scheme means, among other things, any arrangement, plan, course of action, course of conduct or scheme (s 177A(1)).

55. A scheme, so defined, to which Part IVA applies is one where a "relevant taxpayer" has obtained a tax benefit in connection with the scheme and having regard to eight identified factors, it would be concluded that the person, or one of the persons, who entered into or

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ATC 4983

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, another taxpayer or other taxpayers each to obtain a tax benefit in connection with the scheme) (s 177D(a) and (b)).

56. A reference to "a scheme or part of a scheme being entered into or carried out by a person for a particular purpose" includes a reference to entering into or carrying out the scheme for two or more purposes of which "that particular purpose is the dominant purpose" (s 177A(5)).

57. The eight factors which condition the conclusion contemplated by s 177D are these.

• "(i) the manner in which the scheme was entered into or carried out;
• (ii) the form and substance of the scheme;
• (iii) the time at which the scheme was entered into and the length of the period during which the scheme was carried out;
• (iv) the result in relation to the operation of this Act that, but for this part, would be achieved by the scheme;
• (v) any change in the financial position of the relevant taxpayer that has resulted, will result, or may reasonably be expected to result from the scheme;
• (vi) any change in the financial position of any person who has, or has had, any connection (whether of a business, family or other nature) with the relevant taxpayer, being a change that resulted, will result or may reasonably be expected to result, from the scheme;
• (vii) any other consequences for the relevant taxpayer, or for any person referred to in subparagraph (vi), of the scheme having been entered into or carried out; and
• (viii) the nature of any connection (whether of a business, family or other nature) between the relevant taxpayer and any person referred to in subparagraph (vi)."

58. Section 177D expressly contemplates that Part IVA applies to "any scheme" where (having regard to subparagraph (a) and the eight identified factors in subparagraph (b)) it would be concluded that a person entered into or carried out the scheme or any part of the scheme for the identified purpose. Two steps are involved. The first is to identify the scheme in connection with which the relevant taxpayer has obtained a contended tax benefit. The second is to identify whether a person has entered into that scheme or a part of that scheme for the purpose of enabling the relevant taxpayer to obtain a tax benefit in connection with the scheme. If the purpose is made out in relation to a part of the identified scheme, Part IVA applies to the scheme and not merely the part.

59. The Tribunal found [44] that the scheme comprised the series of transactions that preceded the ultimate sale of the share in each case, "that is, all of the dealings up to but not including the actual sale of the shares to the in-laws". Thus, the scheme was found, on the facts, to comprise the sequence of steps "taken together" [44] commencing with the sale by each taxpayer of their Dart Trading share to Sailpeal and Port Bracknell and concluding with the last step taken prior to each taxpayer (as trustee) selling the relevant share to Terrence Walters and Annette Walters [43], [44].

60. Those findings were open on the evidence and are consistent with authority concerning the scope of the term "scheme" (
Federal Commissioner of Taxation v Spotless Services Ltd 96 ATC 5201; (1996) 186 CLR 404 at 425, McHugh J;
Federal Commissioner of Taxation v Peabody 94 ATC 4663; (1994) 181 CLR 359 at 383, Mason CJ, Brennan, Deane, Dawson, Toohey, Gaudron and McHugh JJ;
Federal Commissioner of Taxation v Hart 2004 ATC 4599; (2004) 217 CLR 216 at 225, Gleason CJ and McHugh J [9], Gummow and Hayne JJ, 236 [43], Callinan J, 250 [85]).

61. Plainly, the events of 13 - 15 April 1999 are a sequence of steps comprising a course of conduct and involved the execution of the documents "in a particular order" (AB388, para 10), supervised by the solicitor for the applicants (Mr Ian Collie - AB387).

62. Was that scheme or any part of that scheme entered into or carried out for the dominant purpose required by s 177D?

63. The Tribunal identified that question as one of whether "a reasonable person" would conclude that each taxpayer in entering into and carrying out the particular scheme had, as his or

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ATC 4984

her "most influential and prevailing or ruling purpose and thus [his or her] dominant purpose, the obtaining thereby of a tax benefit, in the statutory sense" (Federal Commissioner of Taxation v Spotless Services Ltd (supra) at 423, per the Court (supra)).

64. In considering each of the eight factors so as to determine whether a reasonable person would conclude that each taxpayer acted according to the most influential, prevailing or ruling purpose in the sense required by s 177D, the Tribunal was influenced by these findings in relation to the eight factors.

65. As to factor (i) (see [57] of these reasons in each case), the applicants did not so much enter into a series of transactions as acquire a packaged solution from their solicitors. The instructions required that each applicant execute a series of pro-forma documents over the course of a number of days [54].

66. As to factor (ii), the scheme involved the creation of a number of discretionary trusts in which the applicants continued to control ownership of the shares in the trustee company and no step was taken to notify Dart Trading of the change in the legal and beneficial ownership of the shares [55].

67. As to factor (iii), the scheme was entered into in April 1999. At that time, each taxpayer was contemplating the sale of each share. Although an agreement to sell each share was "still some way off, the sale was very much in prospect" [56].

68. As to factor (iv), each taxpayer realised a tax-free gain for $349,999.00 on the sale of the share [57].

69. As to factor (v), each taxpayer improved their financial position by the amount of the tax saved through the scheme on the proceeds of the sale of their share [58].

70. As to factor (vi), the applicants" professional advisers improved their financial position as a result of the transaction. They were paid for their advice. The other companies involved in the process did not experience a change in their financial position [59].

71. As to factor (vii), there were no other consequences apart from the gain derived by each taxpayer [60].

72. As to factor (viii), each applicant was a director of Sailpeal, Port Bracknell and Adelong Hills; David Walters was the sole shareholder in Sailpeal; Rhondda Walters was the sole shareholder in Port Bracknell; individuals associated with the legal advisers to each applicant were directors of the company that made the final distribution [61].

73. Clearly, the Tribunal regarded the particular sequence of transactions making up the scheme; the role of particular trusts; the engagement of the applicants as shareholders and directors of particular entities; the package of documents, pro-forma content, immediacy of timing and execution ("flurry of activity" [62], [63]); the complexity of the transactions ("machinations" [29]) and a finding that each taxpayer entered into the transactions at a time when the sale of the shares to Terrence and Annette Walters was in prospect, as persuasive of a conclusion that a reasonable person would conclude that the "only rational explanation" [62] (thus dominant purpose) for each taxpayer entering into the scheme was the obtaining of a tax benefit in connection with the scheme. Each of the conclusions reached by the Tribunal in its consideration of the eight factors was open to the Tribunal on the facts.

74. The applicants say that since neither applicant obtained a tax benefit for the purposes of Part IVA by reason of the exclusion contained in s 177C(2)(a) (discussed later in these reasons), no "occasion" arose (since s 177D is said not to operate) to make findings that the arrangements "were designed to reap a tax advantage upon the sale of the shares". The applicants further say that steps forming part of a "wider transaction", do not "lead to a conclusion that the tax benefit said to have arisen is thereby cancelled". However, the exclusion contained in s 177C(2)(a) does not operate to remove the non-inclusion of the relevant amount from the operation of s 177C(1)(a), thus constituting a tax benefit for the purposes of s 177D (see [77] - [89] of these reasons) and a finding of purpose in relation to the steps forming the scheme or a part of the scheme, applies Part IVA to the scheme. As to the question of no occasion arising to make relevant findings, once each taxpayer sought to rely upon the exclusion contained in s 177C(2)(a) a question of fact arose as to whether the contended non-exclusion of the relevant amount was attributable to the choice

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ATC 4985

made by each taxpayer pursuant to s 122A of the 1997 Act or attributable to something else.

75. Section 177D operates on an hypothesis that a taxpayer has obtained (or would but for s 177F have obtained) a tax benefit in connection with the scheme and the dominant purpose informing the scheme is one of enabling the taxpayer to obtain that benefit. The hypothesis is that because, on the facts found, each taxpayer "and their in-laws, were clearly anticipating a deal would be concluded" (for the reasons identified in the Tribunal's findings and summarised at [63]), each taxpayer would have sold their share to Terrence and Annette Walters respectively had not the scheme been entered into and carried into effect. On such a hypothesis, each taxpayer would have realised a capital gain upon disposal of a CGT asset and that gain would have formed part of the assessable income of the taxpayer in the relevant year.

76. Accordingly, having regard to the eight factors and the alternative postulate (Federal Commissioner of Taxation v Hart (supra) at 243, Gummow and Hayne JJ [66]) open on the evidence, the Tribunal concluded as was open to it, that the dominant purpose of entering into and carrying out the scheme was to obtain a tax benefit of non-inclusion of the amount of a capital gain in the assessable income of each taxpayer that would have been realised upon disposal, as contemplated by s 177C(1)(a).

77. Each taxpayer says that no tax benefit arose in connection with the scheme and thus s 177D(a) is not satisfied with the result that Part IVA does not apply to the sequence of transactions found to be a scheme. In other words, s 177D falls at the threshold and Part IVA has no application to the sequence of transactions. That result is said to arise because the statutory definition of a tax benefit contained in s 177C(1)(a) is subject to an express exclusion which removes the non-inclusion of a postulated capital gain from the assessable income of a taxpayer where the non-inclusion is attributable to the making of a choice or election expressly provided for by the 1997 Act (or the 1936 Act).

78. The relevant provisions are these.

" SECTION 177C TAX BENEFIT

177C(1) [Obtaining a tax benefit] Subject to this section, a reference in this Part to the obtaining by the 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; or
• (b) …

  and, for the purposes of this Part, the amount of the tax benefit shall be taken to be:

• (c) in the case to which paragraph (a) applies - the amount referred to in that paragraph; and

  …

177C(2) [Exclusions] A reference in this Part to the obtaining by the taxpayer of a tax benefit in connection with a scheme shall be read as not including a reference to:

• (a) the assessable income of the taxpayer of a year of income not including an amount that 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 where:
  • (i) the non-inclusion of the amount in the assessable income of the taxpayer is attributable to the making of an agreement, choice, declaration, election or selection, the giving of a notice or the exercise of an option (expressly provided for by this Act or the Income Tax Assessment Act 1997) by any person, except one under subdivision 126-B, 170-B or 960-D of the Income Tax Assessment Act 1997; and
  • (ii) the scheme was not entered into or carried out by any person for the purpose of creating any circumstance or state of affairs the existence of which is necessary to enable the declaration, agreement, election, selection, choice, notice or option to be made, given or exercised, as the case may be."

79. 

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ATC 4986

Is the non-inclusion of a capital gain in the assessable income of each taxpayer in the year ending 30 June 2000 that would have been realised on 10 September 1999 upon disposal (in an amount of $349,999.00) had not the scheme been entered into and given effect, "attributable to" the choice made by each taxpayer on 13 April 1999 to obtain a roll-over under subdivision 122A (s 122-15) in respect of the "trigger event" of disposing of each share to Sailpeal and Port Bracknell, respectively?

80. The applicants say that no tax benefit arose for these reasons.

81. The election by each taxpayer to choose a roll-over under subdivision 122A was an election expressly provided for by s 177C(2)(a)(i) of the 1936 Act. The effect of the election was that Sailpeal and Port Bracknell took the "rolled over" share subject to the cost base it had in the hands of each taxpayer ($1.00). When each company made a disposal of the asset, the capital gain realised by that company (if any) would be calculated on the same cost base as each applicant thus preserving the tax treatment of that gain. Neither applicant would be obliged to pay tax on any capital gain realised by Sailpeal or Port Bracknell. Whatever disposal occurred after the roll-over of the share into Sailpeal and Port Bracknell had no tax consequences for either applicant and therefore no "tax benefit" arising out of any subsequent disposal could be obtained by either applicant.

82. The only tax benefit obtained by each applicant was the disregarding of any capital gain upon disposal of the share to Sailpeal and Port Bracknell. Since s 177C(2)(a)(i) expressly contemplated that election, neither applicant obtained a tax benefit for the purposes of Part IVA, by reason of the express exclusion.

83. The phrase in s 177C(2)(a)(i) "attributable to" the particular election, choice or event means that there must be a direct relationship between the non-inclusion of the relevant amount and the choice or election made by the taxpayer. Here, each taxpayer chose to obtain a roll-over within the framework of Subdivision 122A of the 1997 Act with the result that upon disposal of the share to Sailpeal and Port Bracknell a capital gain, otherwise realised in the hands of the taxpayer upon disposal of the CGT asset, "is disregarded" (s 122-40). Had the Commissioner contended that the step of disposing of each share to the relevant entity constituted a disposal of a CGT asset giving rise to a realised capital gain in the hands of each taxpayer, the respondent would have been met with a complete answer under s 177C(2)(a).

84. However, the Tribunal concluded on the facts that each taxpayer entered into and carried out a scheme comprising a series of transactions including the sale or disposal of the share to Sailpeal and Port Bracknell in each case and the entire subsequent sequence of transactions leading up to the ultimate sale of the share to Terrence and Annette Walters by each taxpayer (in a trustee capacity) with the result, in part, that the cost base upon disposal of the asset at $350,000.00 did not give rise to a realised capital gain in the hands of the vendor, resulting in the subsequent distribution of the entire profit upon disposal. The non-inclusion of the amount of $349,999.00 representing the capital gain that would have been realised in the hands of each taxpayer but for the scheme, is not attributable to the choice made by each taxpayer to obtain a roll-over. The non-inclusion is "attributable to" the construct adopted by each taxpayer of a sequence of integrated and inter-dependent steps making up the scheme one of which was the initial disposal to Sailpeal and Port Bracknell, the subject of a choice by each taxpayer to obtain a roll-over for that step.

85. Accordingly, the Tribunal correctly determined that no nexus was made out between the choice or election made by each taxpayer and the non-inclusion of the amount of $349,999.00 in the assessable income of each taxpayer that would have been included, or might reasonably be expected to have been included, if the scheme had not been entered into or carried out. Thus, the exclusion provided by s 177C(2)(a)(i) was not made out and each taxpayer obtained a tax benefit in connection with the scheme for the purposes of s 177C(1)(a) and s 177D, enlivening the power of the Commissioner to make a determination pursuant to s 177F(1)(a).

86. There is no demonstrated error on the part of the Tribunal in the construction and application of s 177C(2)(a)(i).

87. 

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ATC 4987

The Commissioner of Taxation makes a further submission that even if the non-inclusion of the relevant amount is attributable to the choice made by each taxpayer to obtain a roll-over, the scheme was nevertheless entered into or carried out by each taxpayer for the dominant purpose of "creating any circumstance or state of affairs the existence of which is necessary to enable the … choice … to be made, given or exercised, as the case may be" and thus s 177C(2)(ii) is not satisfied.

88. At [49], the Tribunal found that each taxpayer "… did contrive to receive the proceeds of the sale of the shares to their in-laws. In particular, they each received $349,999.00 more than they paid for the shares in the first place". The Tribunal described the sequence of transactions as a "flurry of activity" between 13 to 15 April 1999 [62], [63] and characterised the transactions as "machinations" [29]. The conclusion that each taxpayer set in train a sequence of transactions as part of a scheme for the dominant purpose of obtaining a tax benefit is consistent with the notion that each taxpayer entered into or carried out the scheme for the dominant purpose of creating the state of affairs necessary to prevent the realisation of a capital gain in the hands of each taxpayer. Section 177C(2)(a)(ii) seems to contemplate a taxpayer entering into or carrying out a scheme to bring about the circumstances to enable the roll-over choice to be made. Here, the taxpayer made the roll-over choice as part of a broader scheme to avoid the realisation of a capital gain in the hands of each taxpayer. It may be difficult to conclude that the scheme was entered into or carried out for a purpose calculated to enable the roll-over choice to be made. Rather, the roll-over choice was the first step in a sequence of inter-related transactions making up a scheme for the dominant purpose of preventing the realisation of a capital gain upon disposal of each share by the vendor of that share to the ultimate buyer.

89. It is not necessary to decide this question as each taxpayer has failed to satisfy the first limb of the exclusion.

90. The applicants raise a further matter in relation to Part IVA. The applicants say that s 177F enables the Commissioner to make a "determination" which "cancels the tax benefit". Section 177F(1)(a) does not use the phrase "cancels the tax benefit" but rather confers a power upon the Commissioner to determine that the whole or a part of an amount not included in the assessable income of a taxpayer shall be included in the assessable income in the relevant year of income.

91. On 28 January 2004, the Commissioner made a determination in respect of each taxpayer that an amount of $350,999.00 being a tax benefit referable to an amount not included in the assessable income of the taxpayer in the year of income ending 30 June 2000 shall be included in the assessable income of each taxpayer for that year of income. The amount, of course, is incorrect and ought to be $349,999.00 in each case. The applicants say that the question is whether those determinations (AB98 and AB219) were authorised by Part IVA since the purpose found by the Tribunal is limited to some steps taken in a wider transaction. The applicants say that it is open to the respondent to rely upon alternative formulations as to the components of the scheme and to amend them; such alternative formulation raises the question of the dominant purpose of the parties to the scheme as thus formulated; there is no power in the Court to make or amend a s 177F determination; a different determination can only be made by way of an amended assessment; and having regard to the findings of the Tribunal, the conclusions are at odds with the Commissioner's position giving rise to the determination that the scheme resulted in the proceeds of sale not being included in the assessable incomes of the applicants under the capital gains tax provisions. The applicants say that having regard to the findings of the Tribunal, Part IVA determinations ought to have been made against the trustees of the Dart Trust and Dart Trust No. 2 and in effect, "the Tribunal's findings seek to impute to a taxpayer who the Tribunal has found to be entitled to the benefit of a … roll-over, the profit accruing … to the subsequent owner [of the share]".

92. However, the position is that the Commissioner made determinations under the power conferred by s 177F(1) that the whole of the amount constituting a tax benefit obtained by each taxpayer in connection with the scheme having regard to s 177C(1)(a) shall be included in the assessable income of each taxpayer. The

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ATC 4988

Tribunal found a scheme, as described in these reasons, to which Part IVA applies and in respect of which the exclusion contained in s 177C(2)(a) is not enlivened. The Tribunal concluded that but for entering into and carrying out the scheme as found, an amount of $349,999.00 would have been included in the assessable income of each taxpayer being the capital gain realised upon disposing of the share by each taxpayer to Terrence Walters and Annette Walters. That disposal was expressly in contemplation at the moment in time when each taxpayer embarked upon the series of transactions effected between 13 and 15 April 1999 and described in these reasons. Since the determination of the Commissioner rests upon the application of Part IVA as contemplated by s 177D and the findings of fact support a conclusion that each of the integers upon which that determination operates are satisfied, the Tribunal's findings do not have the effect of imputing to each taxpayer found to be entitled to the benefit of a roll-over election, the profit accruing to a subsequent owner. The fundament of the Tribunal's finding is that each taxpayer participated in a contrivance or construct to implement a series of transactions to obtain a tax benefit which had the effect of removing from the assessable income of each taxpayer in the relevant year, a capital gain that would have been realised but for the scheme.

The imposition of additional tax by way of penalty

93. The Commissioner imposed additional tax upon each taxpayer by way of penalty pursuant to s 226L of the 1936 Act and, in the alternative, pursuant to s 226 of the 1936 Act. Those provisions were contained in Part VII of the 1936 Act and that Part was repealed from 14 September 2006 by the Tax Laws Amendment (Repeal of Inoperative Provisions) Act 2006 (Cth). However, the provisions governing the imposition of additional tax by way of penalty are those contained in Part VII of the 1936 Act at the relevant time.

94. Section 226 is in these terms.

• " 226 Penalty tax where Part IVA applies - general
  • (1) Where:
    • (a) for the purpose of making an assessment or arising out of the consideration of an objection, the Commissioner has calculated the tax that is assessable to a taxpayer in relation to a year of income;
    • (b) in calculating the tax assessable to the taxpayer, a determination or determinations made by the Commissioner under subsection 177F(1) was or were taken into account; and
    • (c) either of the following subparagraphs apply:
      • (i) no tax would have been assessable to the taxpayer in relation to the year of income if no determination had been made under subsection 177F(1) in relation to the taxpayer in relation to the year of income;
      • (ii) the amount of tax (in this section referred to as the amount of claimed tax ) that would, but for this section, have been assessable to the taxpayer in relation to the year of income if no determination had been made under subsection 177F(1) in relation to the taxpayer in relation to the year of income is less than the amount of tax referred to in paragraph (a);

      the taxpayer is liable to pay, by way of penalty, additional tax equal to:

    • (d) in the case to which subparagraph (c)(i) applies - the penalty percentage of the amount of the tax referred to in paragraph (a); or
    • (e) in the case to which subparagraph (c)(ii) applies - the penalty percentage of the amount by which the amount of the tax referred to in paragraph (a) exceeds the amount of claimed tax.
  • (1A) …
  • (2) In this section:

    penalty percentage means:

    • (a) subject to paragraph (b) - 50%; or
    • (b) if it is reasonably arguable that Part IVA does not apply - 25%."

95. 

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ATC 4989

As to the question of additional tax, the Tribunal reached these conclusions.

• "65. … The Commissioner imposed administrative penalties under s 226 [of the 1936 Act] equal to 50% of the tax shortfall.
• 66. Section 226 is applicable where a tax avoidable scheme has been struck down. Section 226(2) sets the penalty percentage … at 50% unless it is reasonably arguable that Part IVA does not apply - in which case the penalty percentage is 25%.
• 67. I think the applicants did have a reasonably arguable case. The point they raised in relation to the effect of the election under s 122-A of the [1997 Act] was not easy to refute. I think they are entitled to have the penalty percentage reduced to 25% in the circumstances."

96. As a result, the Tribunal set aside the decision to impose additional tax by way of penalty in an amount of 50% and substituted an amount of additional tax of 25%. The penalty percentage is set by the statute at 25% "if it is reasonably arguable that Part IVA does not apply". Section 222C provides, in relation to an income tax law:

• 222C Reasonably arguable
  • (1) For the purposes of this Part:
    • (a) the correctness of the treatment of the application of a law; or
    • (b) another matter;
  • is reasonably arguable if, having regard to the relevant authorities and the matter in relation to which the law is applied or the other matter, it would be concluded that what is argued for is about as likely as not

97. Section 177D determines whether Part IVA applies to a scheme. The correctness of the treatment by the taxpayer of the application of Part IVA to the circumstances of the taxpayer is reasonably arguable if what is argued for is "about as likely as not" [correct]. The application of Part IVA, in this case, depends upon a consideration of a number of integers including whether the taxpayer has entered into or carried out a scheme; whether the taxpayer has obtained a tax benefit in connection with the scheme; whether having regard to eight factors, a reasonable person would conclude that the taxpayer entered into or carried out the scheme for the dominant purpose of enabling the taxpayer to obtain a tax benefit; and whether having regard to the notion of "obtaining a tax benefit in connection with a scheme" the exclusion provided by s 177C(2)(a)(i) applies so as to exclude the non-inclusion of the relevant amount from the assessable income of the taxpayer in the year in question.

98. The findings of the Tribunal are clear that each taxpayer entered into a scheme comprised of a series of transactions struck for the dominant purpose of obtaining a tax benefit of excluding a capital gain of $349,999.00 from each taxpayer's assessable income that would have been realised upon a sale of each taxpayer's share to Terrence Walters and Annette Walters but for the implementation of the scheme. In that sense, the Tribunal found that each taxpayer had contrived to bring about that result. Purpose is a question of fact. Those findings were open to the Tribunal. Accordingly, it seems to me that having regard to findings of fact the notion or argument of each taxpayer that he and she did not enter into or carry out a scheme for the dominant purpose of obtaining the identified tax benefit is not "about as likely as not" correct. Thus, the position taken by each taxpayer concerning those integers is not "reasonably arguable".

99. As to the integer influencing the question of whether Part IVA applies to the scheme as found, each taxpayer contended that no "tax benefit" arose for the purposes of s 177C(1)(a) and s 177D(a) by operation of the exclusion contained in s 177C(2)(a)(i). However, since the non-inclusion of the relevant amount in the assessable income of each taxpayer was not attributable to the roll-over choice made under subdivision 122A of the 1997 Act, each taxpayer obtained a tax benefit in connection with the scheme (s 177C(1)(a)). The scope of the exclusion is limited to the non-inclusion of the relevant amount directly attributable to the roll-over choice. Since the Tribunal correctly found that the sequence of inter-related transactions between 13 - 15 April 1999 comprising the scheme is the source of the non-inclusion of the relevant amount in the assessable income of each taxpayer rather than the roll-over choice made under s 122-15 of the 1997 Act, it can be seen, having regard to the facts found, that the argument of the taxpayer

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ATC 4990

concerning the construction and application of that integer is wrong. However, that is not the end of the matter. Even though the argument is incorrect, the question is whether the argument contended for by each taxpayer is one that could be argued, objectively, "on rational grounds to be right" (
Walstern v Commissioner of Taxation 2003 ATC 5076; (2003) 138 FCR 1 at 26 [108]).

100. The principles identified by Hill J, which apply with equal force to s 226 of the 1936 Act, are these (Walstern v Commissioner of Taxation (supra) [108], propositions 1 to 7).

101. The test to be applied is an objective one; the comparison is one between the taxpayer's argument and the argument which is considered to be the correct argument; a determination must then be made whether the taxpayer's argument although considered wrong, is about as likely as not correct, when regard is had to the "authorities" (including the income tax law, material for the purposes of s 15AB(1) of the Acts Interpretation Act 1901 (Cth) and decisions of Courts, the Tribunal or a Board of Review) - s 22C(4); it is not necessary that the taxpayer's argument, in an objective sense, is "more likely to be right than wrong" as the taxpayer's argument will have been found to be wrong as an underlying premise; nor is it necessary that the taxpayer's argument is "just as likely correct" as the principal argument will have been found to be wrong; the word "about" indicates the need to balance two competing arguments so that "on balance the taxpayer's argument can objectively be said to be one that while wrong could be argued on rational grounds to be right"; and:

"… the view advanced by the taxpayer must be one where objectively it would be concluded that having regard to the material included within the definition of "authority" a reasoned argument can be made which argument when contrasted with the argument which is accepted as correct is about as likely as not correct. That is to say the two arguments, namely, that which is advanced by the taxpayer and that which reflects the correct view, will be finely balanced. The case must thus be one where reasonable minds could differ as to which view, that of the taxpayer or that ultimately adopted by the Commissioner, was correct. There must, in other words, be room for a real and rational difference of opinion between the two views such that while the taxpayer's view is ultimately seen to be wrong, it is nevertheless "about" as likely to be correct as the correct view.

A question of judgment is involved."

102. The Tribunal has not addressed itself to the principles governing the question of whether the argument advanced by the taxpayer is one which is sufficiently "finely balanced" to be reasonably arguable. The Tribunal concluded that since the "point raised", ([67] of the Tribunal's reasons) ie, the taxpayer's argument in relation to the effect of the election was "not easy to refute" each taxpayer did have a reasonably arguable contention.

103. The principles to be applied are those identified at [101].

104. It seems to me that the taxpayer's argument in relation to the construction and application of s 177C(2)(a)(i) is not objectively about as likely as not correct. Since the Tribunal has found that each taxpayer entered into and carried out a scheme comprising the sequence of identified transactions as a mechanism for bringing about a contrived avoidance or non-inclusion of a capital gain within the assessable income of the taxpayer, it is difficult to conclude on the question of attribution that the taxpayer's argument (ie, the non-inclusion of the relevant amount is directly attributable to the roll-over choice) is objectively, while wrong, capable of support on rational grounds to be right. The objective rationality of an argument of the taxpayer must be determined against the background of the findings of fact. Plainly, each taxpayer has formulated an argument which warrants analysis and evaluation in the context of whether each taxpayer has "obtained a tax benefit" for the purposes of s 177C(1)(a) and thus s 177D having regard to the exclusion provision and the foundation facts upon which it operates. However, having regard to the proper construction of the provision and application of the provision to the facts as found, the taxpayer's argument concerning attribution for the purposes of s 177C(2)(a)(i), when contrasted with the argument accepted as correct, is not about as likely as not correct.

105. 

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ATC 4991

Accordingly, the Tribunal fell into error in concluding that the taxpayer's contention was reasonably arguable.

106. In the result, the appeal by each taxpayer must be dismissed.

107. The appeal by the Commissioner of Taxation in relation to the imposition of additional tax by way of penalty will be upheld. The decision of the Tribunal with respect to s 226 of the 1936 Act will be set aside and in lieu thereof it will be ordered that the Commissioner's objection decision in respect of each taxpayer concerning the imposition of additional tax by way of penalty, be affirmed.

108. As to the question of costs, the costs of the proceeding will be reserved as neither party has been heard in relation to costs. I propose to direct that David Walters and Rhondda Walters file and serve submissions (if any) in relation to costs within seven days and the Commissioner of Taxation file and serve submissions within a further seven days. The Court will decide the question of costs on the papers.