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MA & ANOR v FC of T

Members:
JL Redfern SM

Tribunal:
Administrative Appeals Tribunal, Sydney

MEDIA NEUTRAL CITATION: [2012] AATA 47

Decision date: 31 January 2012

Ms J L Redfern, (Senior Member)

Reasons for decision

1. James Ma and the Estate of Late Wai Hung Ma have applied to the Tribunal for review of the objection decisions of the Commissioner of Taxation (the Commissioner) disallowing their objections to amended assessments issued by the Commissioner for the period 30 June 2001 to 30 June 2006.

Background

2. James Ma and Wai Hung Ma were directors and shareholders of the Castle Trading Corporation Pty Limited (Castle), which carried on business as an importer and seller of bearings to the wholesale industry. Mr and Mrs Ma were married and had three sons. Mrs Ma passed away in September 2008 and Mr Ma is the executor of her estate. Mr Ma has continued to operate the business.

3. In January 2008, the Commissioner commenced an audit of Mr Ma for the income years ended 30 June 2001 to 30 June 2006 and Mrs Ma for the income years ended 30 June 2004 to 30 June 2006. During the audit, the Commissioner reviewed the income tax returns of Castle for the period 30 June 2001 to 30 June 2006. These returns reported as deductions "payments to associated persons" which was said to include wages paid to the children and a nephew of Mr and Mrs Ma. The Commissioner did not accept that these wages were paid and treated the payments as income of Mr Ma and Mrs Ma for each of the relevant years. Amended assessments were issued to Mr Ma and the Estate of Mrs Ma on 20 and 18 May 2009 respectively, together with administrative penalties for Mr Ma. Mr Ma lodged notices of objection in respect of his own amended assessments on 15 July 2009 and in respect of the amended assessments of the Estate on 17 November 2009. The Commissioner disallowed the objections by decisions dated 28 and 29 April 2010.

4. By letter dated 24 August 2010, the Commissioner conceded that the amended assessments in respect of Mr Ma for the income years ended 30 June 2001 to 30 June 2004 were made outside the required time. As such at the time of the hearing, the matters in dispute related to the amended assessments for Mr Ma for the years ended 30 June 2005 and 30 June 2006 (including penalties) and the amended assessments for the Estate of Mrs Ma for the period 30 June 2004 to 30 June 2006. The disputed assessments totalled $35,125.71 (plus administrative penalty) for Mr Ma and $20,368.11 in respect of the Estate.

Submissions of the parties and issues for determination

5. Robert Richards, the legal representative for Mr Ma and for the Estate, submitted that the amended assessments were excessive because they were improperly raised as income rather than as deemed dividends under the scheme set out in Part III Division 7A of the Income Tax Assessment Act 1936 (the ITAA 1936). Division 7A is the appropriate and usual provision for assessing such claims but this assessment has not been made by the Commissioner. Instead, the Commissioner has wrongly treated the deductions claimed for the Ma children and nephew as income derived by Mr and Mrs Ma. While it was accepted these amounts were paid into Mr and Mrs Ma's joint bank account in the relevant period, it was submitted that these moneys were not beneficially derived by them and therefore not assessable as income in their hands. It was contended that the money paid was impressed with a trust (constructive, implied or inferred) on behalf of their children and nephew. It followed that no penalty should apply as there would be no shortfall of tax. Even if the submissions on the primary tax liability were not accepted by the Tribunal, penalties based on recklessness were not warranted in the circumstances.

6. Counsel for the Commissioner, Michael Heraghty, submitted that Division 7A did not apply because the amounts paid into the joint bank account of Mr and Mrs Ma were derived by them as salary paid to them by Castle. While these monies were not recorded as such, this could be inferred from the undisputed fact that the money had been paid into their joint bank account. Division 7A was not relevant.

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Moreover, there was insufficient evidence for Mr Ma and the Estate to discharge their burden of proof that the amended assessments were excessive and, in particular, that the amounts received were not beneficially derived by them but rather their children and nephew. There was insufficient evidence to establish that the Ma children and nephew actually worked in the Castle business and about whether any money was actually paid to them, or for their benefit. In these circumstances, the penalties imposed on Mr Ma for recklessness were appropriate and should not be remitted.

7. The Commissioner conceded the amended assessments for Mr Ma for the years ended 30 June 2001 to 30 June 2004 were made out of time and as such there was no dispute that these assessments (and any penalty thereon) are excessive.

8. The issue for determination is whether the remaining amended assessments and administrative penalties imposed on Mr Ma are excessive. It is not in dispute that Mr and Mrs Ma received payments from Castle in the period. The key issue is whether these payments were properly characterised as income derived by them and therefore assessable. It is accepted by both parties that Mr Ma and the Estate bear the burden but there is disagreement as to how this operates and whether the burden of proof has been discharged.

Legislative framework

9. The Commissioner may amend an assessment for a year of income within 4 years after the date on which he or she gives notice of the assessment to the taxpayer: s 170(1) item 4 of the ITAA 1936. An amended assessment is an assessment for the purposes of the ITAA 1936 as noted at s 173. A taxpayer who is dissatisfied with an assessment may object in the manner set out in Part IVC of the Taxation Administration Act 1953 (the TAA): s 175A.

10. Part IVC of the TAA deals with taxation objections, reviews and appeals. Where a taxation objection is lodged with the Commissioner within the required time, the Commissioner must make an objection decision: s 14ZY. If a person is dissatisfied with the Commissioner's objection decision and the decision is a reviewable objection decision, the person may apply to the Tribunal for review: s 14ZZ(a)(i). The assessment, determination, notice or decision against which a taxation objection may be, or has been, made is a "taxation decision": s 14ZQ. Part IVC Division 4 modifies various provisions of the Administrative Appeals Act 1975 (the AAT Act) in relation to the review of reviewable objection decisions. Of particular relevance is s 14ZZK(b), which provides:

  • "(b) the applicant has the burden of proving that:
    • (i) if the taxation decision concerned is an assessment (other than a franking assessment) - the assessment is excessive; or
    • (ii) if the taxation decision concerned is a franking assessment-the assessment is incorrect; or
    • (iii) in any other case-the taxation decision concerned should not have been made or should have been made differently."

11. Schedule 1 Division 284 of the TAA deals with liability for administrative penalties. Division 298 deals with the machinery provisions for the imposition and remission of penalties.

12. A taxpayer is liable for an administrative penalty under Schedule 1 s 284-75 of the TAA if the taxpayer, or their agent, makes a false or misleading statement and the statement results in a "shortfall amount". Relevantly, there is a shortfall amount under Schedule 1 s 284-80(1) item 1 if:

"a tax-related liability…. worked out on the basis of the statement is less than it would be if the statement were not false or misleading"

13. Schedule 1 s 284-90(1) provides for a base penalty depending on the basis on which the tax shortfall resulted. If the shortfall, or part of it, resulted from a failure by the taxpayer to take "reasonable care", the penalty is 25% of the shortfall amount. If the shortfall resulted from "recklessness" the penalty is 50% of the shortfall amount and if the shortfall resulted from "intentional disregard" the penalty is 75% of the shortfall amount.

14. The Commissioner may remit penalties under Schedule 1 s 298-20(1) of the TAA and

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has issued guidelines as set out in Practice Statement Law Administration (PS LA) 2006/2 as to when this discretion may be exercised. PS LA 2006/2 provides at [137]:

"A major objective of the penalty regime is to promote consistent treatment in respect of the rates of penalty imposed. The objective would be compromised if the penalties imposed at the specific rates were remitted without just cause, arbitrarily or as a matter of course."

15. According to PS LA 2006/2 a penalty should be remitted where there would be "unintended or unjust results" but notes such cases would be "exceptional".

16. In this case, the Commissioner raised the amended assessments on the basis of s 6-5 of the Income Tax Assessment Act 1997 (the ITAA 1997), which provides as follows:

"6-5 Income according to ordinary concepts (ordinary income)

  • (1) Your assessable income includes income according to ordinary concepts, which is called ordinary income.

    Note: Some of the provisions about assessable income listed in section 10-5 may affect the treatment of ordinary income.

  • (2) If you are an Australian resident, your assessable income includes the ordinary income you derived directly or indirectly from all sources, whether in or out of Australia, during the income year.
  • (3) If you are a foreign resident, your assessable income includes:
    • (a) the ordinary income you derived directly or indirectly from all Australian sources during the income year; and
    • (b) other ordinary income that a provision includes in your assessable income for the income year on some basis other than having an Australian source.
  • (4) In working out whether you have derived an amount of ordinary income, and (if so) when you derived it, you are taken to have received the amount as soon as it is applied or dealt with in anyway on your behalf or as you direct."

17. Section 6-10 of the ITAA 1997 relevantly provides:

  • "(1) Your assessable income also includes some amounts that are not ordinary income.

    Note: These are included by provisions about assessable income.

    For a summary list of these provisions, see section 10-5.
  • (2) Amounts that are not *ordinary income, but are included in your assessable income by provisions about assessable income, are called statutory income."

18. Mr Richards submitted that the Commissioner should have applied the provisions of Division 7A to determine Mr and Mrs Ma's income. Division 7A of the ITAA 1936 deals with liability for taxation in respect of private companies. The Division is intended as an anti-avoidance provision to prevent private companies from distributing profits tax free to shareholders or their associates in the form of loans or other payments. Division 7A was introduced by the Taxation Laws Amendment Act (No 3) 1998 and was intended to operate automatically to distributions after 4 December 1997. Section 109C(1) of the ITAA 1936 provides that a private company is taken to pay a dividend if it pays an amount to a shareholder or an associate of the shareholder. The amount of the dividend is equal to the "distributable surplus" of the company as calculated by s 109Y of the 1936 Act. This dividend is "assessable income" of the shareholder under s 44 of the ITAA 1936.

19. It is not in dispute that the Commissioner has not made any assessment under Division 7A of the ITAA 1936.

20. Given the facts of this case, this raises the issue of whether payments made to Mr and Mrs Ma in the relevant period could be covered by two different statutory provisions, namely the deemed dividend provisions and the provisions relating to ordinary income, and whether there is any inconsistency or conflict between these provisions. Section 109L of the ITAA 1936 and s 6-25 of the ITAA 1997 are potentially relevant.

21. Section 109L(1) provides that a private company is not taken under s 109C to pay a dividend because of a payment the company makes to an entity, to the extent that the

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payment would be included in the entity's assessable income apart from this Division. Section 109L(2) provides that a private company is not taken to pay a dividend because of a payment the company made to an entity to the extent that a provision of the ITAA 1936 has the effect that the payment is not included in the entity's assessable income, even though it would otherwise be included. This includes liability, or exclusion as the case may be, as assessable income under the ITAA 1997 (s 6 of the ITAA 1936).

22. Section 6-25 of the ITAA 1997 provides as follows:

"6-25 Relationships among various rules about ordinary income

  • (1) Sometimes more than one rule includes an amount in your assessable income:
    • • the same amount may be *ordinary income and may also be included in your assessable income by one or more provisions about assessable income; or
    • • the same amount may be included in your assessable income by more than one provision about assessable income.

    For a summary list of the provisions about assessable income, see section 10-5.

    However, the amount is included only once in your assessable income for an income year, and is then not included in your assessable income for any other income year.

  • (2) Unless the contrary intention appears, the provisions of this Act (outside this Part) prevail over the rules about ordinary income.

    Note: This Act contains some specific provisions about how far the rules about ordinary income prevail over the other provisions of this Act."

23. Having regard to the provisions of the ITAA 1936 and the ITAA 1997, it would seem that Division 7A will not apply to payments made to Mr and Mrs Ma if those payments are properly characterised as ordinary income or, conversely, if they were specifically excluded or exempt under the legislation. There is some circularity in the operation of these provisions and an analysis of the legislation and the overlap between Division 7A (deemed dividends) and s 6-5 (ordinary income) is dealt with below. Unfortunately, neither party referred to s 109L in their oral or written submissions nor could I find any judicial or Tribunal consideration of the issue.

The evidence

24. Mr Ma, his three sons, David Ma, Phillip Ma and Roger Ma, his nephew, Derek Ma, and staff from Castle (Edward Pickwell, Dennis Nightingale and Katherine Harrison) provided affidavits and gave oral evidence at the hearing.

25. Mr Ma is the managing director of Castle. He is also a shareholder. Prior to her death in September 2008, Mrs Ma was a director and shareholder in Castle and worked in the business. Mrs Ma managed the financial affairs of Castle together with the company's accountants, one of whom was Ms Harrison. Castle was incorporated in October 1987 and from late 2003 it carried on business at Wetherill Park. It imported, assembled and supplied bearings to the wholesale market and traded under the name 'Universal Bearing Company'. From 2004 to 2006, Castle employed about 29 staff (not all full time), excluding Mr and Mrs Ma. Mr and Mrs Ma worked six days a week and would take the children to work in the business on weekends and during school holidays from a young age. Their children were born in 1988, 1990 and 1992. This was a family business and Mr Ma said he expected the children to work in the business. He did not keep a record of the hours they worked and only supervised them on the weekends. They attended to the assembling and packaging of bearings, which was easy repetitive work "suitable for children".

26. Mr Ma gave evidence that Mrs Ma was responsible for the payment of wages to the children and to Derek Ma and he was unaware of how she paid them or the arrangements she made about payment and rates. He could not locate any records of the hours they worked and the amounts paid or set aside for their benefit but he was "sure" such records would exist. The family maintained one joint bank account but Mr Ma did not produce bank statements showing payments made to his children or nephew. It is unclear why money was not paid directly from Castle to his children and nephew but Mr Ma contended that wages for family

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members, including his nephew, were paid into their joint account and from there were disbursed by Mrs Ma.

27. Mr Ma said that as part of the audit process, Mrs Ma prepared reconciliation spreadsheets for amounts said to be paid to her children, Derek Ma, herself and Mr Ma. These spreadsheets were provided to the auditors. There were discrepancies between the amounts in the spreadsheets and the amounts declared to have been paid to "associated persons" in the tax returns for Castle, which were the subject of correspondence and discussion with the auditors. It is noted in a letter from the Australian Taxation Office (ATO) to Castle dated 15 May 2009, that the reconciliation spreadsheets were sent by facsimile to the audit case officer on 28 April 2008 and that they were prepared "with the assistance of Mohammed Shaheed". There was no mention of Mrs Ma. This inconsistency was not explained by Mr Ma, nor was he cross-examined on the issue, but he maintained that all wages information relating to the family was prepared by Mrs Ma. Nothing ultimately turned on this issue.

28. For the year ended 30 June 2004, the amount declared as being paid to "associated persons" was $172,111 and the amount claimed by Mrs Ma in her spreadsheet was $185,362, including $35,648 for amounts said to be paid to the children and Derek Ma and $40,000 for superannuation. For the year ended 30 June 2005, the amount declared was $234,225 and the amount claimed by Mrs Ma in her spreadsheet was $221,371, including $52,478 for amounts said to be paid to the children and Derek Ma and $40,000 for superannuation. For the year ended 30 June 2006, the amount declared was $171,397 and the amount claimed by Mrs Ma in her spreadsheet was $179,347, including $52,248 for amounts said to be paid to the children and Derek Ma and $43,405 for superannuation. The children were registered for tax file numbers on 8 August 2005 but tax returns for 2004 to 2006 were not lodged for each of them until 1 May 2008. The income declared in their tax returns was same as the wages figures recorded in the spreadsheets. Derek Ma was registered on 3 March 2004 but no tax returns were lodged by him or on his behalf.

29. As recorded in the letter of 15 May 2009, it was accepted by the auditors that superannuation and a severance payment had been wrongly included as "payments to associated persons" but after deducting these amounts, the auditors formed the view that the difference between the amounts claimed by Castle in its tax returns for 2004 to 2006 and the amount declared by Mr and Mrs Ma in their tax returns for the same period represented under-declared income. As a result of the audit, the ATO "allocated" income to Mr Ma and the Estate (Mrs Ma had died by this time). The ATO did not accept wages were paid to the children or the nephew of Mr and Mrs Ma.

30. Relevant to the years in dispute, the ATO assessed the Estate with additional income of $4,548 for 30 June 2004, $18,863 for 30 June 2005 and $25,720 for 30 June 2006. Mr Ma was assessed with additional income of $33,615 for 30 June 2005 and $40,734 for 30 June 2006. For 2004, the "allocation" comprised Mrs Ma's share of the "payments to associated persons" recorded in the tax return of Castle (not the reconciliation). There is currently no claim against Mr Ma in respect of the year ended 30 June 2004 because it is now conceded any amended assessment was time barred before this date. For 2005, the "allocation" represented the wages alleged to have been paid to the Ma children and nephew (as recorded in the reconciliation). In 2006, the "allocation" comprised the amount recorded in the tax return of Castle (rather than in the reconciliation) but there was an additional adjustment of $22,551 for a claim for a superannuation payment that was disallowed. The allocations as between Mr and Mrs Ma were based on their proportionate share of the total income earned by them in each year. In summary, with the exception of 2006 (where a further adjustment was made), the amended assessments were calculated by reference to the payments said to be made to David Ma, Phillip Ma, Roger Ma and Derek Ma in the period 30 June 2004 to 30 June 2006.

31. It is not in dispute that there are no wages records or timesheets available for the children and the nephew evidencing hours worked or money paid to them. Tax was not withheld and tax returns for the Ma children were only prepared after the audit had commenced. Mr Ma was asked to search for

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and provide any records to substantiate his claims but he was unable to do so. He said that any records were probably contained on his late wife's computer, which he was not able to access or search. It was in the garage of the family home. He had searched Mrs Ma's filing cabinets and was unable to find any records relevant to this issue.

32. Mr Ma said he was not responsible for payments to the children but was "aware" she gave the children "pocket money", applied some wages to their "upkeep" and "placed some of the wages in undissected investments for their benefit". There was no documentary evidence of the investments and Mr Ma was unable to give particulars of the amounts paid or these investments.

33. Mr Ma gave evidence that Mrs Ma handled all money for the family (including for Derek Ma), which was received into one account. This is illustrated by the following evidence by Mr Ma [T 70.24 to 70.45]:

"So you don't know what payments she made?---I don't really handle the money, no.

You also said - I thought you said the words 'what Mum used it for', talking about the payments, how she used them. Did you say 'what Mum used it for', talking about your wife?---Yes.

'What Mum used it for was up to Mum'? Is that what you said?---Yes.

What did you mean by that? She could use it any way she wanted?---Yes. Almost. That the - you know, how Mum wanted to do the money is up to her to - yes.

But how was it - so she could invest it for the family is what ---?---Yes.

So how is that for your children?---It was the children. She's the money manager. She's the financial planner of the family. And she also the accountant. And I'm the technical man. I - yes, she's - it's totally up to her to get by and allocate and to invest, and to buy whatever things and reward the children. Yes.

So, forgetting any money paid to Derek, which I can see might be a different thing, is it fair to say that the money that she paid - what did she do? Did she pay that money into one account that was held for the whole of the family?---Yes, we only have one account. I mean, I mean there's one. One main account."

34. David Ma gave evidence that he commenced working in the family business on weekends and during holidays from 1999, when he was about 11 years old, until at least 30 June 2006. He would package bearings, help with data entry and assist with mail outs. He did not work every day but "most days" on the weekend and during school holidays. The brothers usually all went to the factory together and worked from about lunch time until late (although it should be noted that his affidavit said he worked from about 8.30am until 5pm). David Ma felt obliged to work in the family business but also knew "we were getting money for it as well". His mother paid him money each week to buy things and while he did not know how much money he had earned, he said that "you trust your parents to put away your money for you." He said that the money was now in his mother's estate. David Ma did not prepare his tax returns or discuss with his parents the money earned by him each year. He did not receive the amounts recorded in his tax returns and did not know the basis for the amounts he was said to have been allocated. He agreed he probably spent less time at the factory in 2006, as this was his High School Certificate year, but believes he may have been "paid" at a higher rate. He was vague about the rate and income earned.

35. Phillip Ma gave evidence that he had also commenced working from 1999, when he was 9 years old. In his statement, Phillip Ma said he was "paid" about $10 per box of bearings, which would take about an hour to package, although when giving his oral evidence he confirmed he not receive all of this money. He and his brothers worked most weekends and most days during school holidays. His mother gave him spending money but she also said she was putting money aside as savings and to pay for school fees. Phillip Ma could not recall how much money he was paid each week but said it would have been about $50 a week, sometimes $100 in the holidays. He did not prepare his tax returns and did not receive the amounts recorded in those returns. Like David Ma, Phillip Ma believed the

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money earned by him was in his mother's estate and/or in school fees.

36. Roger Ma gave similar evidence to his brothers. He said his parents always told him he would be paid if he went to work in the factory. He and his brothers worked from the morning until night. If he played sport on Saturday, which he did during the winter, he would go to the factory on Saturday afternoon and/or Sunday. He said he was paid about $50 to $100 per week by his mother and the rest of the money was in his mother's estate.

37. Derek Ma gave evidence that he lived in Australia between 2003 and 2007 to study at Macquarie University. He lived with the Ma family until about 2005 but later lived with friends nearby. He worked at the factory one or two days a week and more during university holidays. He did some data entry initially and assisted Mrs Ma with some of the accounts and office work. Derek Ma was studying accounting and finance. He was initially paid $15 per hour and this later increased to $18 per hour. Derek Ma said he was paid cash and he used the money to assist with university tutor fees and living expenses, including the sharing of rent in a unit with friends. He said he received about $400 to $500 per month from Mr Ma for his work in the Castle business.

38. Edward Pickwell, a salesperson at Castle, gave evidence that he had worked at Castle since 2000. He would often see the Ma children working at the factory during the school holidays. They worked assembling and packing bearings, not five days a week, eight hours a day but frequently in and out. His best estimate was "three, four days a week, maybe" but he later said, "two, sometimes three" days a week. He did not work on the weekends but noticed that the stock levels were replenished over the weekends. Mr Pickwell understood the children worked over the weekend but he did not know that from his own knowledge or observation.

39. Dennis Nightingale, a salesperson at Castle and its Queensland representative since July 2003, gave evidence. He said he would visit the Sydney office every four to six weeks and stayed for about one week working out of the Wetherill Park premises. When he was there he would often see the Ma children and Derek Ma working at the office.

40. Katherine Harrison gave evidence that she was employed as an accountant at Castle from October 2001 until March 2005. She observed David, Phillip and Roger Ma working at the factory during the school holidays but could not say how often or for how long. Ms Harrison was not responsible for making or recording any payments to the Ma children and she believed this was handled by Mrs Ma, although Ms Harrison was not able to say whether in fact Mrs Ma paid the children wages. Ms Harrison did not mention Derek Ma in her statement or when giving oral evidence, neither was she questioned about this.

41. Mrs Ma executed a Will on 27 August 2008 and a copy of the Probate, attaching the Will, was tendered in the proceedings. Apart from some specific bequests, the Will records that the balance of Mrs Ma's estate was to be held on trust for her children as primary beneficiaries. A copy of the Probate was attached to an affidavit by Mr Ma but did not include the inventory of property owned by Mrs Ma on her death. There was no evidence of other trusts or investments.

Consideration

42. Mr Richards contended the Commissioner has in effect denied deductions for wages claimed by Castle in respect of the Ma children and Derek Ma but has improperly treated the difference as under-declared income by Mr and Mrs Ma. While it is conceded there were payments made by Castle to Mr and Mrs Ma, it was submitted that the payments could only be characterised as assessable income by reason of s 109C of the ITAA 1936. The Commissioner did not undertake this assessment and so is precluded from assessing these payments as "ordinary income" under s 6-5 of the ITAA 1997. This is the usual approach and the approach taken by the Commissioner in
3D Scaffolding Pty Ltd v Federal Commissioner of Taxation 2009 ATC 20-111; (2009) 75 ATR 604; [2009] FCAFC 75;
Federal Commissioner of Taxation v Rozman (2010) 186 FCR 1; 2010 ATC 20-171; [2010] FCA 324 and
Federal Commissioner of Taxation v H 2010 ATC 20-218; (2010) 188 FCR 440; [2010] FCAFC 128. Mr Heraghty simply argued that Division 7A did not apply.

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43. I accept that this would be a valid and possibly more usual approach by the Commissioner in the circumstances of the case but do not accept the contention that this is the only basis for characterising the payments to Mr and Mrs Ma as "assessable income". Section 109L makes it plain that if a payment is assessable income by reason of some other provision under either ITAA 1936 or ITAA 1997, the deemed dividend provisions will not apply. Similarly, the provisions will not apply if a payment would be assessable income but for a legislative exclusion. In other words, there is only one rule that can apply to payments by private companies to shareholders who are also employees. As such, s 6-25 of the ITAA 1997 does not assist in this case as there is no conflict. The payments to Mr and Mrs Ma are deemed dividends, ordinary income or neither. They cannot be both.

44. A further issue arises by reason of the written submissions served by Mr Heraghty after the proceedings. Mr Heraghty submitted that if the Tribunal determines that the payments were not made as salary or wages, then Division 7A applies and the payments were assessable income by reason of s 44 of the ITAA 1936.

45. I do not accept this submission. The Commissioner has chosen to characterise the payments as "ordinary income" and cannot now contend, in the alternative, that the payments are deemed dividends and therefore assessable income pursuant to s 44 of the ITAA 1936. He has undertaken no assessment and in my view the burden of proof imposed by s 14ZZK(b)(i) of the TAA does not have the effect of shifting the burden to an applicant to disprove a case that has not been made or even argued by the Commissioner during the audit process or in the proceedings. The Commissioner has not established or even considered whether there was a distributable surplus at the relevant time and, as contemplated by Latham CJ in
Trautwein v the Federal Commissioner of Taxation (1936) 56 CLR 63 (at 88), the "general rule" about the burden of proof may not apply where there is "no intelligible basis" for the assessment.

46. Having decided the payments to Mr and Mrs Ma are not deemed dividends, the question therefore arises as to whether the payments represent "ordinary income".

47. Given it is conceded payments were made by Castle to Mr and Mrs Ma, the Commissioner contended that these payments were income derived by them in the relevant period according to ordinary concepts. Mr Ma and the Estate contended they did not derive the income within the meaning of s 6-5 as they did not derive the payments beneficially. The moneys were either paid or held for the benefit of their children and nephew. Income will not be assessable under s 6-5 of the ITAA 1997 unless the income was beneficially derived by the taxpayer (
Countess of Bective v Federal Commissioner of Taxation (1932) 47 CLR 419).

48. It is not in dispute that Mr Ma and the Estate bear the burden of establishing that the assessments were excessive. Under s 14ZZK(b)(i) of the TAA, once the Commissioner has issued an assessment, the onus falls on the taxpayer to establish that the assessment is excessive. The effect of the provision (or its predecessors) has been considered by the High Court in a number of cases over the years, including
Trautwein; Gauci v Federal Commissioner of Taxation (1975) 135 CLR 81 ;
McCormack v Federal Commissioner of Taxation 79 ATC 4111; (1979) 143 CLR 284 and
Federal Commissioner of Taxation v Dalco 90 ATC 4088; (1990) 168 CLR 614, and more recently by McKerracher J in the Federal Court in
Uratoriu v Commissioner of Taxation 2010 ATC 20-219[2010] FCA 1157.

49. There is no onus on the Commissioner to establish that the assessment was correctly made and the taxpayer must "go further and show, not only negatively that the assessment is wrong, but also positively what correction should be made in order to make it right or more nearly right" per Latham CJ in Trautwein (at 88). If the taxpayer alleges that income was not derived by him or her but by another, the onus will be on the taxpayer to establish this on the balance of probabilities. The absence of records to corroborate the claim will count against a taxpayer, as observed by McKerracher J in Uratoriu [at 27]:

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"In assessing the weight of the evidence adduced it is relevant that some facts concerning a taxpayer's income are or should be peculiarly within the taxpayer's knowledge and the taxpayer cannot take advantage of inadequate records or recollections."

50. Mr Ma and the Estate contended that some of the payments were paid to Derek Ma as wages and the amounts so paid were recorded in the reconciliation spreadsheets as $5,200 for 2004, $5,344 for 2005 and $5,433 for 2006. The balance of the payments were said to be paid to the Ma children in cash, paid for their benefit for school fees and the like or invested in assets to be held for them. These amounts were significant. No written records were provided to the Tribunal or auditors to substantiate the claims, other than the reconciliation spreadsheets and the tax returns for each of the Ma children, both of which were apparently created after the audit had identified the variance between the tax returns for Castle and the income declared by Mr and Mrs Ma in their tax returns for the same period. There were no source documents provided to the auditors in 2008 and 2009 verifying the basis for the reconciliation. No such documents were produced for the hearing. The only evidence to substantiate the claim is the evidence of Mr Ma, his children, his nephew and some of his staff. Importantly, this evidence falls short in a number of material respects.

51. Indeed, it is difficult to understand why Mr Ma and Mrs Ma did not pay Derek Ma and the children directly from the Castle accounts. This was not explained at the hearing, other than by evidence from Mr Ma that he and his wife kept the family arrangements separate from the company business and that Mrs Ma was responsible for managing these arrangements. Mrs Ma was not able to give evidence to clarify these aspects and the failure to produce records to substantiate the claims does not assist. It is a tragedy that Mrs Ma passed away and this no doubt has caused pain for the family. I accept that Mrs Ma's illness and death before the audit process was completed was likely to have caused difficulties for Mr Ma in providing information to the auditors. However, Mr Ma also said his wife was working on the matters raised by the ATO well before her death and had prepared the reconciliation and tax returns in April and May 2008. No source documents were produced to support these claims at this time. The proper and appropriate course was for Mrs Ma to keep records of the hours worked by the children and Derek Ma, register them for tax file numbers, withhold taxation and lodge returns for them. This was not done, although payments allegedly made to them or for their benefit were claimed as deductions by Castle.

52. Notwithstanding these deficits in the evidence, I accept that Derek Ma worked at Castle at least from 2004 to 2006 and was paid about $400 to $500 per month by Mr and Mrs Ma from their joint account. These payments are consistent with the amounts referred to in the reconciliation spreadsheets. The evidence of Mr Ma on this issue was corroborated by Derek Ma and, to a lesser extent, by Mr Nightingale. Derek Ma was a credible witness. Counsel for the Commissioner questioned Derek Ma about whether he was working in the business because of family obligation and Derek Ma agreed but maintained he was paid for his work. In my view it is irrelevant whether he was motivated by familial considerations. The evidence was that he performed work, expected to be paid, and was paid for this work. To the extent Mr Ma and the Estate received payment from Castle for amounts payable to Derek Ma, I find that they did not derive these amounts beneficially.

53. I am satisfied the money paid by Castle to Mr and Mrs Ma, which was then paid to Derek Ma, was held on trust and therefore was not derived by them beneficially. The trust can be inferred from the intention of the parties and the informal arrangements between them (see [17.35] Dal Pont, Equity and Trusts in Australia (5th ed, 2011)). Derek Ma performed work for Castle for which he was entitled to receive payment. Castle paid the money into the joint bank account of Mr and Mrs Ma and there is no dispute it was intended that these funds should be paid to Derek Ma by way of remuneration for his services. As such, insofar as the Commissioner has included the money which I have found was paid to Derek Ma for 2004 to 2006 in calculating the amended assessments for Mr Ma and the Estate; I find that the amended assessments are excessive.

54.

ATC 4592

The position is more complicated in relation the income said to be derived for the three Ma children.

55. I accept that David Ma, Phillip Ma and Roger Ma worked in the family business from at least 30 June 2004 to 30 June 2006. I also accept that they worked most weekends (not necessarily all weekend) and during school holidays but not necessarily five days a week, ten hours a day, as originally deposed in their affidavits. I accept this evidence based on the evidence of Mr Ma, his children, Mr Pickwell, Mr Nightingale and Ms Harrison. Mark Brassington, warehouse manager who was said by Mr Ma to have supervised the children, was not called and there was no explanation for this. I accept that I should draw an inference that his evidence would not have assisted the applicants (
Jones v Dunkel (1959) 101 CLR 298) but I am not persuaded that this alone discounts the other evidence.

56. On balance, there is sufficient evidence to establish that the Ma children spent significant hours working at the Castle factory but insufficient evidence to establish that they worked the time deposed in their affidavits. When giving oral evidence, all conceded they did not work every weekend and every day during the holidays. I also note there were inconsistencies about the hours worked and the rates paid. However, based on the corroborating evidence of the other Castle staff, I am satisfied that they at least worked one eight hour day on the weekend, or alternatively two half days, for about 40 weekends in the year. I am also satisfied they worked about three days a week during the school holidays. There are 12 weeks of school holidays in the year, although there was evidence that they did not always work if there were camps or family holidays, and as such it is reasonable to estimate that they would have worked approximately 10 of those weeks.

57. Notwithstanding these findings, I am not satisfied there is sufficient evidence that the payments received by Mr and Mrs Ma into their joint account from Castle in relation to their children and described as "payments to associated persons" were not derived by them beneficially.

58. As referred to above, there are a number of significant gaps and inconsistencies in the evidence.

59. First, the amounts claimed for the Ma children exceed any reasonable claim for wages based on the available evidence. The claims for David Ma were $13,018 for 2004, $19,862 for 2005 and $18,422 for 2006. On the assumption David Ma was paid $10 and worked 8 hour days, he would have had to work about 163 days to generate this income in the 2004 income year alone. However, I have found that on balance he would have worked about 70 days (being one day each weekend over 40 weekends and 30 days over the school holidays). The position is even more obvious in the two following years, particularly in circumstances where David Ma was studying for his High School Certificate in 2006.

60. While Phillip Ma and Roger Ma did not earn as much as David Ma, the wages claimed in their tax returns are still significant. I am not satisfied the amounts claimed for the three children are genuine. The wages claimed are those set out in the reconciliation spreadsheets that were created after the audit commenced. They were not supported by any written or source documents at the time of the audit or since then. While this was not conceded by Mr Ma in his evidence, the inference is that these documents were created to explain the difference between "payments to associated persons" as recorded in the tax returns for Castle and the tax returns for Mr and Mrs Ma. The Ma children gave evidence that they were not involved in the preparation of the returns and they were vague when they were questioned about the details. As noted in Uratoriu, the onus is on the taxpayer to establish that payments made were actually income derived by another person. The taxpayer cannot "take advantage of inadequate records or recollections". I am therefore not satisfied the Ma children earned the income claimed.

61. Secondly, even though I am satisfied the Ma children did perform work, I am not satisfied there was an arrangement that they would be paid wages based on those hours worked and that it was intended the payments received by Mr and Mrs Ma would be paid to

ATC 4593

the children (or held in trust for them) and would not be derived beneficially by Mr and Mrs Ma. Mr Ma gave evidence about the family arrangements. He said that all money for the family was paid into the joint account. It was pooled and Mrs Ma made payments as she considered appropriate. She had the sole discretion in relation to these moneys, although it was accepted she would pay the children about $50, sometimes $100, per week for entertainment and other expenses. She paid for education expenses and school fees and made investments for the whole family. It was expected that these investments would ultimately be available for the benefit of the children and this is evidenced by Mrs Ma's Will. However, it is implicit that the assets accumulated were owned by Mrs Ma and not the children. Mr Ma and Phillip Ma sought to characterise the payments for the children's education and school fees as discharging an obligation the children had to pay for their own education. I do not accept this evidence, which was not convincing and based on self-interest.

62. For there to be a trust, I would have to be satisfied there was an intention that the moneys paid by Castle and held by Mr and Mrs Ma in the joint account would be held for the children. This was not the evidence of Mr Ma. His evidence was that Mrs Ma was the person who managed the money for the family and it was "totally up to her" how the money was spent and allocated. This is consistent with the notion the Ma family worked together in the family business and for a common purpose of increasing the family wealth. The children had an expectation they would benefit from this in the future. They each gave evidence that they had an expectation they would be paid $10 per hour (or for a packaged box) but they were content for their mother to pay for their education and invest these moneys for them. They all accepted that the benefit was retained for them in their mother's estate.

63. At best, any inferred trust would be limited to the weekly payments of $50 to $100 per week during holidays. I am satisfied that there was an intention (and an expectation by the children and Mrs Ma) that the payments from Castle of $50 per week and $100 per week during holidays would be paid to each of the children. This represents a modest annual income of about $3,200 for each.

64. The parties did not address these issues and both proceeded on the basis that their argument would either wholly succeed or wholly fail. This is not the case. I have found that some of the payments to Mr and Mrs Ma, representing the payments referred to in paragraph 63, were not derived by them beneficially. As such, insofar as these payments have been included in the amended assessments, the assessments are excessive.

Penalties

65. An administrative penalty of 50% of the shortfall was imposed on Mr Ma on the basis of recklessness. In particular, the Commissioner relies on the lack of record keeping and the failure of Mr Ma to ensure that wages records were kept and income was appropriately declared by members of the Ma family.

66. I have found that the amended assessments were excessive insofar as they included income derived by other members of the family but these amounts represent a relatively modest proportion of the shortfall. This is not a case where Mr Ma has been merely careless. In my view the claim for "payments to associated persons" by Castle for the years 2005 and 2006, the failure to declare those payments as income and the attempt to explain the variance to auditors by raising tax returns for the Ma children for income they could not have earned and were not paid, suggests some design and at the very least recklessness.

67. In
Hart v Commissioner of Taxation 2003 ATC 4665; (2003) 131 FCR 203; [2003] FCAFC 105 the Full Federal Court stated at [43]:

"Recklessness is a concept well known to the law, particularly in the fields of tort and criminal law. In those fields, recklessness will usually be found to have been established if the person's conduct shows disregard of, or indifference to, consequences foreseeable by a reasonable person. In some contexts a subjective test is applied, but in others the test is objective."

68. Mr Ma was the managing director of Castle and must have been aware of or signed

ATC 4594

off on the financial statements and the relevant tax returns that recorded the "payments to associates". He must have also known that these payments, which were in the vicinity of $52,000 for both 2005 and 2006, were not paid to his children and nephew as income. While Mr Ma said he was not aware of all payments because Mrs Ma "handled the money" he had the responsibility to ensure his tax return was accurate and was consistent with the tax returns of Castle.

69. Moreover, there is no evidence to justify remission of penalty. This is not a case where there would be an "unintended or unjust" outcome and as noted in PS LA 2006/2 at paragraph 142,

"Where an entity has been more culpable and has behaved recklessly or with intentional disregard it is difficult to envisage a situation where the Commissioner would exercise the discretion to remit."

70. I therefore agree with the objection decision of the Commissioner in relation to the penalty imposed on for Mr Ma for any shortfall.

Conclusions

71. Having regard to the above, I find:

  • (a) As conceded by the Commissioner, the amended assessments of Mr Ma for the years ended 30 June 2001 to 30 June 2004, and any penalties thereon, are excessive;
  • (b) Insofar as the amended assessments for Mr Ma and the Estate include income derived by Derek Ma (as described in paragraph 53), they are excessive; and
  • (c) Insofar as the amended assessments for Mr Ma and the Estate include income derived by David Ma, Phillip Ma and Roger Ma (as described in paragraph 63), they are excessive.

Decision

72. The income assessments for Mr Ma for the years ended 30 June 2001 to 30 June 2004 are excessive; the related objection decisions are therefore set aside and the Tribunal substitutes the Commissioner's original assessments.

73. The income assessments for Mr Ma for the years ended 30 June 2005 to 30 June 2006 are excessive and the related objection decisions are therefore varied to take into account the income derived by David Ma, Philip Ma, Roger Ma and Derek Ma.

74. The income assessments for the Estate for the years ended 30 June 2004 to 30 June 2006 are excessive and the related objection decisions are therefore varied to take into account the income derived by David Ma, Philip Ma, Roger Ma and Derek Ma.

75. I remit the matters in paragraphs 73 and 74 for reconsideration by the Commissioner so that amended or further assessments can be made in accordance with these reasons.

76. The objection decision in relation to administrative penalties for Mr Ma in respect of the income assessments is set aside but only as to quantum, having regard to the revised shortfall amount to be assessed by the Commissioner.


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