REEDERS v FC of TJudges:
BJ McCabe M
Administrative Appeals Tribunal (sitting as the Small Taxation Claims Tribunal)
MEDIA NEUTRAL CITATION:
 AATA 933
BJ McCabe (Member)
The applicant, Mr Albert Reeders, claimed a deduction for self- education expenses that was disallowed by the Commissioner of Taxation. Mr Reeders has not pursued the decision to disallow the deduction, but he objects to the Commissioner's decision to impose a penalty under s 226G of the Income Tax Assessment Act 1936 (the Act). That section provides for the imposition of a penalty where there has been a tax shortfall which is
ATC 2335attributable to the failure of the taxpayer, or his or her registered tax agent, to take reasonable care to comply with the Act or the regulations.
2. Mr Reeders was employed as a Concrete Technical Manager by Boral Construction Materials. His job required that he travel to sites around Queensland to provide advice and assistance to Boral clients. Boral offered to provide clients with on-site assistance anywhere in Queensland within 24 hours. Many of those sites were located in remote areas. Not all of the sites were served by convenient, regularly scheduled air services.
3. Mr Reeders decided in or around May 1997 to learn to fly a plane. He explained in his evidence that he felt a pilot licence would help him to ``stand out from the crowd'' and enhance his promotion prospects. He said it would help him do his job better and provide superior service to clients. After the first lesson, he approached his tax agent for advice on whether the cost of the lessons was deductible. Mr Donnelly, his tax agent, told him in the course of a visit lasting approximately 15 minutes that the cost of the lessons was deductible.
4. Importantly, Mr Reeders asserted in his evidence that he would have gone ahead with the lessons even if Mr Donnelly had told him the costs of the lessons were not deductible.
5. The applicant had further lessons (and incurred additional expenses) before meeting with Mr Donnelly again in or around February 1998. That visit was a longer one, and Mr Donnelly questioned Mr Reeders at greater length about the nature of his work and his reasons for the lessons. Mr Donnelly also talked with the applicant about the records that should be kept and the desirability of obtaining a letter of support from Boral. The general manager of Boral Construction Materials Country, Mr Baker, subsequently wrote a letter of support dated 14 April 1998. The letter noted that travel by car and commercial airlines was time- consuming, and added:
``... we have encouraged and supported him in a program of self-education to complete his Private Pilots licence. This will enable him to supply a better quality of service to our clients, and also be a more productive and efficient worker for our Company.''
6. Mr Reeders visited Mr Donnelly again after preparing the income tax return in or around June 1998. They had a further discussion about the deductibility of the expenses. The applicant says Mr Donnelly questioned him again about the costs, the supporting documents and records, and about the connection between the expenditure and his work. Mr Reeders indicated that Mr Donnelly appeared to be satisfied about the claim after the questions. The applicant's return was submitted in due course.
7. The Tribunal did not have the benefit of evidence from Mr Donnelly who might have been asked to explain how he went about formulating his advice. Mr Flintoft, for the Commissioner, suggested that Mr Donnelly's evidence was necessary and desirable from the point of view of the applicant, but Mr Maggs, for the applicant, disagreed. Mr Maggs said it would be time-consuming and expensive to obtain Mr Donnelly's evidence. Apparently there was some difficulty in locating him. For reasons explained below, Mr Maggs argued that Mr Donnelly's evidence was unnecessary because of a procedural defect in the decision- making process. In any event, Mr Maggs said his client was content for the Tribunal to proceed without the benefit of Mr Donnelly's evidence.
8. The deduction was disallowed by the Commissioner, and an assessment for additional tax was imposed under s 227 of the Act. The Commissioner also levied interest on the additional amount, and imposed a penalty under s 226G of $1381.42, being 25% of the amount of the shortfall.
9. Mr Reeders subsequently received a promotion and was transferred to Brisbane. More recently, he has returned to work in Mackay. He did not need to fly during his time in Brisbane, and his new job in Mackay does not involve him using use his pilot licence. Mr Reeders said in his evidence that his pilot licence was the source of favourable comment from his employer at the time of his promotion. He also noted that his employer had met the cost of seeking endorsements on his licence that would enable him to fly larger, more sophisticated aircraft.
The relevant law
10. The decision in this case turns on the proper interpretation of s226G of the Act, which says:
``226G: Penalty tax where shortfall caused by lack of reasonable care
Subject to this Part, if:
- (a) a taxpayer has a tax shortfall for a year; and
- (b) the shortfall or part of it was caused by the failure of the taxpayer or of a registered tax agent to take reasonable care to comply with this Act or the regulations;
the taxpayer is liable to pay, by way of penalty, additional tax equal to 25% of the amount of the shortfall or part.''
11. The expression ``reasonable care'' is not defined in the Act. Taxation Ruling TR 94/4 offers an interpretation; it suggests the taxpayer is required ``to exercise the care that a reasonable, ordinary person would exercise in the circumstances of the taxpayer to fulfil the taxpayer's tax obligations.''
12. The expression has also been discussed in the cases. In
Re Carlaw and FC of T 95 ATC 2166, Deputy President McMahon decided the position adopted by the taxpayer and his agent was reasonably arguable and remitted the penalty. The Tribunal remitted the penalty imposed under s 226G even though the claim for a deduction was disallowed. In
Re Sparks and Federal Commissioner of Taxation  AATA 28, Senior Member Block discussed a number of authorities, including the decision of Senior Member Beddoe in Case 34/95,
95 ATC 319. Mr Flintoft said Sparks (and the cases referred to in the course of that decision) was authority for the proposition that more might be expected of a registered tax agent than a taxpayer completing his or her own return. That is correct. The tax agent must have acted reasonably having regard to his or her ``knowledge, education, experience and skill'': see the Explanatory Memorandum to the Taxation Laws Amendment (Self Assessment) Bill 1992 at p 80. The explanatory memorandum may legitimately be taken into account in determining the meaning of the words in the legislation under s 15AB of the Acts Interpretation Act 1901. It follows that mistakes made by a tax agent might attract a penalty where the same mistakes made by a taxpayer might be excused.
Application to the facts
13. It was accepted for the purposes of these proceedings that a tax shortfall had occurred. So the focus of the dispute is on whether there was a want of care in making the claim. Mr Flintoft correctly observed that a penalty would be imposed on the taxpayer under s 226G whether it was the taxpayer or his or her agent who failed to take reasonable care. Mr Flintoft went on to concede, in effect, that Mr Reeders had acted reasonably. The applicant had sought advice from a registered agent, after all. But Mr Flintoft said it was unclear whether Mr Donnelly had acted reasonably and in the absence of that evidence, the Commissioner was right to impose a penalty.
14. Mr Maggs argued the decision-making process was flawed. He said the decision maker must identify and consider the evidence that suggested a want of care. He said that paragraph 27 of Taxation Ruling TR 94/4 provides:
``... officers will need to record the reasons why it was concluded that a particular penalty standard has been breached. This would include, for example, details of the circumstances surrounding the taxpayer's behaviour which led to the particular conclusion.''
15. The decision maker's Reasons for Decision do not detail the evidence suggesting a want of care. They concentrate instead on whether or not the deduction was allowable. In those circumstances, Mr Maggs argued that the decision to impose a penalty was flawed, and the amount of the penalty ought to be remitted.
16. I agree with the applicant. Section 226G should not be approached on the basis that a penalty is imposed in the event of a shortfall, with the possibility of an exemption if the taxpayer is able to satisfy the decision maker that the taxpayer or his or her tax agent took reasonable care. A penalty under s226G is not triggered until the decision maker is satisfied that both limbs of the section are satisfied. Since the decision-maker in this case did not appear to consider whether the short fall was attributable to a want of care on the part of the taxpayer or his or her agent, the penalty should not have been imposed.
17. That approach is consistent with the purpose apparent in the scheme of the legislation. Section 226G is one of a series of
ATC 2337provisions that impose a penalty in the event of a shortfall in tax occurring where other circumstances are present: for example, s 226H imposes a penalty where the shortfall is attributable to the taxpayer's reckless conduct, s 226J provides for a penalty where the shortfall is attributable to the taxpayer's intentional disregard of the law, and s 226M imposes a penalty where the shortfall is attributable to the taxpayer disregarding a private ruling. The fact that penalties may be imposed under different sections for shortfalls attributable to identified conduct suggests the parliament intended the decision maker to have regard in each case to the particular circumstances so that a decision can be made as to what provision, if any, was the proper source of the penalty.
18. In any event, I am satisfied Mr Reeders has provided evidence that would have enabled the decision maker to form the view that the applicant and his agent acted reasonably. I have already noted there was no real dispute about the reasonableness of the applicant's conduct; but there is also nothing to suggest a want of care on the part of Mr Donnelly in advising in relation to the preparation or submission of the applicant's return. Mr Reeders gave evidence that Mr Donnelly asked detailed questions on two occasions about the link between the applicant's work and the flying lessons, and about supporting documents and records. That is what would be expected of a reasonable tax agent.
19. That leaves me to consider whether the claim for a deduction was reasonably arguable in the circumstances. The leading authority in relation to the deductibility of self-education expenses is
FC of T v Finn (1961) 12 ATD 348; (1961) 106 CLR 60. Finn established that expenses incurred in improving knowledge or skills are not capital expenses. It follows that self-education expenses are evaluated for deductibility under s 8-1 of the Income Tax Assessment Act 1997. The decision of the High Court in
Ronpibon Tin NL & Tongkah Compound NL v FC of T (1949) 8 ATD 431; (1949) 78 CLR 47 makes it clear that expenses are deductible if there is a sufficient connection between the expenditure and gaining or producing assessable income: see also
FC of T v Hatchett 71 ATC 4184; (1971) 125 CLR 494 and
FC of T v Studdert 91 ATC 5006.
Evans v FC of T 86 ATC 4901, Connolly J analysed the judgment of the High Court in Finn and identified four features (at 4904):
``... These were that his increased knowledge made his advancement in the Service more certain; that such advancement was a substantial motive for his undertaking study travel; that his superiors in the Service regarded his travel as an advantage in his employment; and finally, the fact that the activity occurred while he was in employment...''
21. The connection between the costs of obtaining a pilot licence and earning income as a concrete technical manager are not apparent at first glance. The connection is certainly not as immediately obvious as in Studdert, where a flight engineer was able to deduct the costs of flying lessons. But I am satisfied that Mr Reeders presented an arguable case that there was a connection. Applying the analysis set out in Evans, it is reasonably arguable that:
- (i) Mr Reeders' decision to take the lessons made his promotion more likely. Mr Reeders said in his evidence that he believed his initiative was taken into account when a decision was taken to promote him; I note in particular that Mr Ken Baker, the general manager of Boral Construction Materials Country, said in his letter to the Commissioner dated 8 June 2000 that obtaining the pilot licence enabled Mr Reeders to provide a better standard of service to Boral's clients. In doing so, he satisfied ``an important part of his Performance Management measurements and enhanced his promotional opportunities with Boral.''
- (ii) The applicant made it clear in his evidence that he obtained the licence with a view to setting himself apart from other employees and enhancing his promotion prospects. Mr Reeders insisted that he would have sought a licence regardless of whether he was entitled to a tax deduction.
- (iii) The letter from Mr Baker makes it clear that Boral regarded the pilot licence as an advantage. Mr Baker suggested the company supported the applicant in various ways - most obviously by paying for the cost of endorsements to the licence. Boral was clearly not simply tolerating or indulging their employee's endeavours.
- (iv) The letter from Boral also makes it clear the applicant was pursuing his licence as part of his employment, in the sense that his endeavours were designed to make him better at his job (albeit with a view to advancement to a similar position higher up the corporate ladder).
22. This analysis is consistent with the comments of Hill J in Studdert. The Tribunal there had concluded the taxpayer's course of study would assist him in obtaining a promotion to a higher grade in his existing occupation. His Honour commented (at 5016) that the Tribunal's finding supported a conclusion that the expenditure was incurred in gaining or producing assessable income.
23. In those circumstances, the tax shortfall penalty should not have been imposed. The amount of the penalty should be remitted to Mr Reeders.