D MARKS PARTNERSHIP & ORS v FC of TMembers:
IR Molloy DP
Administrative Appeals Tribunal, Brisbane
MEDIA NEUTRAL CITATION:
 AATA 651
IR Molloy (Deputy President)
1. These are applications to review objection decisions issued on 30 August 2013 for the years 2004, 2005, 2006 and 2008. The relevant applicants are D Marks Partnership, Quintaste Pty Ltd, and the trustee for the David Marks Trust ("the applicants"). Other applicants, David Marks and Susan Marks, withdrew their applications in the course of the hearing.
2. There are two main issues. The first is whether D Marks Partnership was a limited partnership, the members of which were Quintaste Pty Ltd ("Quintaste") and the trustee of the David Marks Trust (together "the partners"). The significance is that only a limited partnership can be a corporate limited partnership within the meaning s 94D of the Income Tax Assessment Act 1936 (Cth) ("ITAA 1936") and taxed as a company.
3. The other main issue is whether shares issued to D Marks Partnership (or to Quintaste and the trustee of the David Marks Trust) on 24 October 2003 by a company, HL Securities Pty Ltd ("HL Securities"), were a debt or equity interest. The significance of this is that if they are an equity interest, the recipient of dividends is entitled to claim franking credits.
4. On 10 October 2003, Quintaste and the trustee for the David Marks Trust executed a deed entitled Deed of Limited Partnership. The deed recorded that Quintaste (as general partner) and the trustee for the David Marks Trust (as limited partner) agreed to form a limited partnership commencing on that date.
5. The deed recorded that the legislation under which the limited partnership was formed was the Partnership (Limited Liability) Act 1988 (Qld) ("PLLA").
6. Clause 4 of the deed set out the purposes of the business of the partners in wide terms.
7. The parties to the deed registered D Marks Partnership under the PLLA. A certificate of registration was issued on 24 October 2003.
ATC 6846Under s 995-1(1) of the Income Tax Assessment Act 1997 (Cth) ("ITAA 1997"), a limited partnership is defined, relevantly, as:
an association of persons (other than a company) carrying on business as partners or in receipt of ordinary income or statutory income jointly, where the liability of at least one of those persons is limited.
9. The applicants contend there are three elements to this definition. The first of these, constituted by the words "an association of persons carrying on business as partners ..." is referred to as the general law definition of partnership.
10. The second element is said to be constituted by the words "...or in receipt of ordinary income or statutory income jointly...". This, it is contended, is an alternative to the first element, so that the legislation contemplates a situation in which two or more persons receive ordinary or statutory income jointly, and are not in a general law partnership.
11. D Marks Partnership was, it is said, in receipt of ordinary or statutory income, in the form of dividends. So much is conceded by the respondent.
12. The third element of the definition, as contended by the applicants, and described as critical, is constituted by the words: "... where the liability of at least one of those persons is limited".
13. The applicants' primary submission is that what are described as the second and third elements of the definition are satisfied, and no further enquiry is required to determine if D Marks Partnership is a limited partnership. The third element is said to be satisfied by reference to clause 8 of the deed, under which the liability of at least one of the partners is limited.
14. I do not accept that. In my view the requirement that liability be limited under the definition of "limited partnership" in s 995-1 of ITAA 1997 is not satisfied by an agreement between the partners that their liability be limited. What is contemplated is a limitation of liability of at least one of the partners to third parties. That is not achieved simply by the terms of the deed.
15. In my view the limitation of liability contemplated by s 995-1(1) of ITAA 1997 is achieved by the creation of a limited partnership under legislation enacted for that purpose.
16. In Queensland, at the time the deed was made, the relevant legislation was the PLLA as referred to in the deed. Since 2004, it has been Chapter 3 of the Partnership Act 1891 (Qld) ("PA").
17. The applicants submit it was not the intention that s 995-1 of ITAA 1997 could only be satisfied by creation of limited partnership under legislation such as the PLLA, because the state legislation is not uniform and there is no relevant legislation at all in the Australian Capital Territory and Northern Territory.
18. I agree with the respondent's contention that this does not advance the case for the applicants. The place of formation of an association or entity is generally a matter of choice. The benefits that may follow from the existence of particular legislation in that location is a consequence of that choosing.
19. The question then is whether D Marks Partnership was a limited partnership under Queensland legislation. The applicants rely on the certificate of registration under the PLLA which they say provides conclusive evidence of that fact. They contend there is no requirement that the partnership carry on business with a view to profit or that the persons seeking registration ever have that intention.
20. The applicants contend that if a certificate issues, as has happened here, then that creates the limited partnership and there is no occasion to look any further. The scheme of the legislation provides for the creation of a limited partnership by registration. An analogy is drawn with title by registration under the Torrens system.
21. The applicants point out that, under the PLLA, formation of a limited partnership is preceded by a statement signed by each person "who is to be a partner in the partnership". Once registered the limited partnership continues to exist until it is deregistered. Reliance is placed on certain provisions of the PLLA , especially ss 6, 7 and 8 as follows:
ATC 68476. What is a limited partnership
- (1) A limited partnership is a partnership -
- a) that exists between 2 or more persons of whom 1 or more shall be a general partner or general partners and 1 or more shall be a limited partner or limited partners;
- b) that is formed under this Act.
- (2) A corporate person may be a general partner or a limited partner in a limited partnership.
7. How formed
- 1) A limited partnership shall be formed upon registration in the office of the registrar of a statement in the prescribed form signed by each person who is to be a partner in the partnership and payment to the registrar of the prescribed fee.
- 2) A statement referred to in subsection (1) shall contain the following particulars-
- (a) the firm name;
- (b) the full address in Queensland of the registered office of the firm;
- (c) the full name and address of each partner;
- (d) a statement that the partnership is to be a limited partnership;
- (e) a statement in relation to each limited partner to the effect that he or she is a limited partner whose liability to contribute is limited to the extent of an amount of money specified in the statement;
- (f) such other particulars prescribed by regulation.
8. Register-proof of registration
- 3) The registrar shall, upon registration of a statement referred to in section 7, and may, afterwards, issue a certificate in the prescribed form as to the formation and composition at any time of the limited partnership to which the statement relates.
- 4) A certificate issued under subsection (3)-
- (a) shall be conclusive evidence that the limited partnership to which it refers was formed on the date of registration referred to in the certificate; and
- (b) shall be evidence and, in the absence of evidence to the contrary, conclusive evidence that the partnership to which it refers consists or consisted of the general partners and limited partners named in the certificate as such.
22. The respondent takes a different view, relying on some of the same provisions, and contending that there will not be a limited partnership unless there is an underpinning extant partnership. It is pointed out, for instance, that s 7(2) of the PLLA contains a requirement that the statement in subsection (1) include "the full name and address of each partner", and "a statement that the partnership is to be a limited partnership".
23. In my view a limited partnership is a form of partnership with a number of special characteristics. The concept of a limited partnership, in which the liability of one or more (but not all) of the partners could be limited, was introduced in Queensland in the Mercantile Act 1867 (Qld), and carried forward in the PLLA.
24. Although there are express statutory provisions which apply only to limited partnerships, the intention is that limited partnerships are otherwise governed by the PA and the general rules of equity and common law applicable to partnerships. Thus the PLLA is to be read with the PA,
25. Of particular significance is s 5(1) of the PA which contains the definition of partnership:
Partnership is the relation which subsists between persons carrying on a business in common with a view of profit.
26. The provisions of PLLA dealing with the conclusive nature of a certificate of registration of a limited partnership should be construed strictly.
ATC 6848PLLA, refers only to proof of formation or registration under that Act. It has nothing to say, particularly when read in light of s 8(4)(b), concerning the requirements of a partnership under the PA, or whether s 6(1)(a) of the PLLA has been met.
27. I also note s 23A of the PLLA,
28. Under s 23A(2) of the PLLA, the registrar may by written notice to the person registered as the partnership's general partner "ask whether the partnership still exists" and "ask for documentary proof of its existence or non-existence." Under subsection (5), if the registrar is not satisfied within 1 month after the date of the notice under subsection (2) "that the partnership still exists", then the registration may be cancelled.
29. These provisions are inconsistent with the notion that a limited partnership is simply a creature of registration; that there is no requirement that a limited partnership satisfy the statutory definition of partnership in s 5(1) of the PA; and that a certificate of registration provides conclusive evidence of a limited partnership's existence until registration is cancelled.
30. In my view the respondent is correct in contending that D Marks Partnership could not be regarded as a limited partnership, despite registration under the PLLA, unless it satisfied the requirements of a partnership under the general law. By that I mean that it was required to satisfy the statutory definition under s 5(1) of the PA of a relation which subsists between persons carrying on a business in common with a view of profit.
31. The deed constituted an agreement for a partnership, but for a partnership to exist there must be a relationship satisfying the statutory definition. It is the carrying on of a business in common with a view to profit, not an agreement to do so, which is the test of a partnership.
32. The respondent concluded that no business was being carried on by the partners at any relevant time. This is supported by the evidence of an interview with David Marks, as sole director of Quintaste, on 31 May 2011.
33. The respondent, as I have said, submits that a partnership must actually exist before an application is made for registration as a limited partnership. The applicants obviously dispute this. There is some support for each view in the provisions of the PLLA.
34. The issue is described in a leading text, in respect of UK legislation, as academic.
35. As there was no partnership under the general law, I find that D Marks Partnership was not a limited partnership under s 995-1(1) of the ITAA 1997. It was therefore not a corporate limited partnership for the purposes of s 94D of the ITTA 1936.
Debt or equity interest
36. The other main issue is whether the 10 Z class shares issued by HL Securities on 24 October 2003 to D Marks Partnership were a debt or an equity interest.
37. The background is that HL Securities, by way of special resolution, amended its constitution to create a new class of shares (being Z class shares). The issue price of the Z class shares was $1.
38. The amendment included the following subclause (ii) (b):
Each share shall be redeemable at the direction of the directors, at any time, for the issue price, and, at the end of 47 months following its issue, shall be automatically redeemed at its issue price and cease to exist at the expiration of that time, whether or not its redemption price has been paid.
s 37(1AB) Statement in Lieu volume 3, p 854.
ATC 6849On 24 October 2003, Quintaste, on behalf of D Marks Partnership, resolved to apply for the allotment of 10 Z class shares. The application was made and HL Securities allotted the 10 Z class shares.
40. The issue relates to dividends and loans. As to the former, there were four dividends paid by HL Securities the subject of the various assessments.
41. On 24 October 2003, a dividend of $347,597 (fully franked) was paid. On 30 November 2004, a dividend of $471,932 (fully franked) was paid. On 1 July 2005, a dividend of $48,316 (fully franked) was paid. On 10 November 2005, a dividend of $1,015,200 (fully franked) was paid.
42. The applicants submit that determining whether the issue by HL Securities of the 10 Z class shares is a debt interest or an equity interest depends on the application of Division 974 of the ITTA 1997.
43. A starting point is s 974-1 which provides, relevantly:
Whether an interest is a debt interest or an equity interest matters because returns on debt interests are not frankable but may be deductible while returns on equity interests are not deductible but may be frankable.
44. Section 974-5 of the ITAA 1997 provides an overview of the Division, including the following:
Overview of Division
Test for distinguishing debt and equity interests
- (1) The test for distinguishing between debt interests and equity interests focuses on economic substance rather than mere legal form (see subsection 974-10(2)). The test is designed to assess the economic substance of an interest in terms of its impact on the issuer's position.
- (2) Subdivision 974-B tells you when an interest is a debt interest in an entity. The basic test is in section 974-20.
- (3) Subdivision 974-C tells you when an interest is an equity interest in a company. The basic test is in section 974-75.
Tie breaker between debt and equity
- (4) If an interest satisfies both the debt test and the equity test, it is treated as a debt interest and not an equity interest.
45. More specifically, s 974-15 (1) of ITAA 1997 provides that a scheme gives rise to a debt interest in an entity if the scheme, when it comes into existence, satisfies the debt test in subsection 974-20(1) in relation to the entity. It is common ground that there was a scheme.
46. The relevant provision is s 974-20 (1) which provides:
Satisfying the debt test
- (1) A * scheme satisfies the debt test in this subsection in relation to an entity if:
- a) the scheme is a * financing arrangement for the entity; and
- b) the entity, or a * connected entity of the entity, receives, or will receive, a * financial benefit or benefits under the scheme; and
- c) the entity has, or the entity and a connected entity of the entity each has, an * effectively non-contingent obligation under the scheme to provide a financial benefit or benefits to one or more entities after the time when:
- i. the financial benefit referred to in paragraph (b) is received if there is only one; or
- ii. the first of the financial benefits referred to in paragraph (b) is received if there are more than one; and
- d) it is substantially more likely than not that the value provided (worked out under subsection (2)) will be at least equal to the value received (worked out under subsection (3)); and
- e) the value provided (worked out under subsection (2)) and the value received (worked out under subsection (3)) are not both nil.
The scheme does not need to satisfy paragraph (a) if the entity is a company and the interest arising from the scheme is an
ATC 6850interest covered by item 1 of the table in subsection 974-75(1) (interest as a member or stockholder of the company).
Note: Section 974-30 tells you when a financial benefit is taken to be provided to an entity.
47. Section 974-20(1)(a) of ITAA 1997 does not need to be satisfied because of the final paragraph of the subsection. Shares fall within Item 1 of the table in s 974-75(1).
48. As to the s 974-20(1)(b) requirement, s 974-160(1)(b) of the ITAA 1997 defines the term "financial benefit" in broad terms, relevantly:
Means anything of economic value.
49. The "entity" under paragraph (b) is HL Securities. In my view payment of $1 per share for 10 shares, or the entitlement to receive such payment, constitutes a financial benefit.
50. The applicants submit that conferring a $10 benefit on HL Securities is inconsequential especially having regard to that entity's other assets. I reject this approach. An amount of $10 is still a financial benefit; something of economic value. I do not think that the legislation contemplates a comparison of the value of the alleged benefit with the relevant entity's net worth. I should mention, although I do not consider it strictly necessary, that I am not satisfied that the $10 was not paid.
51. In respect of s 974-20(1)(c), the amendment to HL Securities' constitution provided that the Z class shares were redeemable at the direction of the directors, at any time, for the issue price, and, at the end of 47 months following their issue, shall be automatically redeemed at the issue price.
52. In my view this is "an effectively non-contingent obligation under the scheme" satisfying this requirement of the debt test. I do not accept the applicants' submissions to the contrary, including that the amendment to the constitution does not impose any obligation on HL Securities to repay the issue price. On my reading of the amendment, in full, that obligation arises irrespective of whether the shares are redeemed at the direction of the directors or automatically redeemed.
53. In respect of s 974-20(1)(d), I accept that it is substantially more likely than not that the value provided will be at least equal to the value received for the purposes of this provision. Section 974-35(1) provides relevantly:
Value in nominal terms or present value terms
- (1) For the purposes of this Subdivision:
- a) the value of a financial benefit received or provided under a scheme is its value calculated:
- i. in nominal terms if the performance period ... must end no later than 10 years after the interest arising from the scheme is issued;...
54. As the amendment provides the issue price of the Z class shares is the same as the redemption price, the value provided by HL Securities is at least equal to the value received.
55. The applicants submit "as a matter of fundamental basic economics", $10 in 47 months' time must be worth less than $10 today. That, however, has not been the subject of evidence, and is neither certain nor a matter of which I can take judicial notice. Moreover I do not accept it is an appropriate consideration. I think value in "nominal terms" means the stated or face value of $1 per share.
56. As both the value provided and received by HL Securities was not nil, then s 974-20(1)(e) is satisfied.
57. I conclude that the Z class shares are a debt interest pursuant to s 974-15 of the ITAA 1997. It follows that the dividends received in respect of them are not franked.
58. I have found that D Marks Partnership was not a corporate partnership, a limited partnership, or a partnership at general law. However, s 995-1 of the ITAA 1997 defines partnership as follows:
- (a) an association of persons (other than a company or a limited partnership) carrying on business as partners or in receipt of ordinary income or statutory income jointly; or
- (b) a limited partnership.
ATC 6851It is common ground, as I have said, that Quintaste and the David Marks Trust were in receipt of income jointly. I accept the respondent's submission that D Marks Partnership was a partnership for tax purposes, pursuant to s 995-1 of the ITAA 1997.
60. As D Marks Partnership is not a corporate partnership, but is a partnership as defined by s 995-1 of the ITAA 1997, then the partners are assessed on the dividends. The respondent submits that the apportionment of that income should be in conformity with their interests under the deed: 99% as to the trustee of the David Marks Trust, and 1% to Quintaste.
61. The applicants submit that if there is no limited partnership, as I have found, then there is no occasion for giving effect to that apportionment: "If the respondent says the limited partnership must go, so too must that apportionment."
62. The deed, however, contains a sufficient expression of each partner's interest in joint income. Quintaste was to receive 1% of joint income, and the trustee of the David Marks Trust was to receive 99% of joint income. I am not satisfied that the same apportionment should apply to the partners as members of a tax partnership.
63. I refer now to the loans. There were two loans each to D Marks Partnership and each in the 2004 financial year: from HL Securities in the sum of $676,009; and from RMI Australia Pty Ltd of $1,962,008.
64. The applicants submit that if there was no limited partnership, then the issue is who borrowed the moneys. They contend that if there is no limited partnership then there is no loan agreement to which the trustee of the David Marks Trust is a party.
65. In those circumstances they argue that the loan agreements are between the lenders and Quintaste. They accept that the two loans are then caught by s 109D of the ITAA 1936, and properly treated as dividends forming part of Quintaste's assessable income.
66. Consistent with what I have said above, I do not accept there can be no loan to D Marks Partnership if that entity is not a limited partnership. There was a tax law partnership and the rights and obligations of the partners, where permitted, were subject to the deed.
67. I accept the respondent's contention that the loans were made to the tax law partnership being an entity within s 109D(d) of the ITAA 1936.
68. The applicants were assessed for an administrative penalty based on a failure to take reasonable care. Before the Tribunal they submitted, without elaboration, that their position was reasonably arguable.
69. Section 284-15(1) of Schedule 1 to the Taxation Administration Act 1953 (Cth) provides:
284-15 When a matter is reasonably arguable
A matter is reasonably arguable if it would be concluded in the circumstances, having regard to relevant authorities, that what is argued for is about as likely to be correct as incorrect, or is more likely to be correct than incorrect.
70. This is an objective test. It raises the question whether the taxpayer had a reasonably arguable position that while wrong could be argued on rational grounds to be right.
71. The question only arises after the taxpayer's primary argument has failed. It is therefore important not to allow hindsight to affect any view of the merits of the taxpayer's argument.
72. Even though a decision on a matter of statutory interpretation is considered clear, the taxpayer's case may still satisfy the test of reasonably arguable in the sense that it was "open to debate".
73. The applicants' primary argument, on the existence of a limited partnership, was carefully and skilfully presented. However it involved a strained interpretation of the legislation or a challenge to the fundamental nature of a limited partnership under the PLLA.
74. The applicants' other contentions on statutory interpretation were similarly unsustainable.
75. Having regard to all of the above, I am not satisfied that the applicants' contentions were reasonably arguable so as to satisfy the above test so that the decisions on penalty should be set aside or varied. There is no occasion for remitting any of the penalties.
76. The objection decisions upholding the respondent's primary assessments are affirmed.