FC of T v RIPPON
Judges:Lockhart J
Beaumont J
Foster J
Court:
Full Federal Court
Lockhart, Beaumont and Foster JJ
Introduction
The Commissioner of Taxation appeals from orders made by a Judge of the Court (Heerey J. [
Rippon v FC of T 92 ATC 4186]) setting aside a decision of the Administrative Appeals Tribunal (``the Tribunal'') which had affirmed a decision of the Commissioner to disallow objections made by Mr. Rippon, the respondent, to assessments of income tax for the years ended 30 June 1980 to 1983.
The assessments, made pursuant to s. 260 of the Income Tax Assessment Act 1936, were in respect of the following amounts of income:
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"$14,544 for the income year ended 30 June 1980
$ 7,880 for the income year ended 30 June 1981
$28,740 for the income year ended 30 June 1982
$ 9,607 for the income year ended 30 June 1983"
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The Tribunal's reasons
The reasons of the Tribunal for rejecting the taxpayer's appeal may be summarised as follows:
(1) The taxpayer, a chartered engineer, was employed by a construction company until October 1976, when he decided to go into his own consulting business in project management. He sought legal advice as to an appropriate business structure. In accordance with that advice, the following structure was adopted: two shelf companies were acquired, one John T. Rippon Pty. Ltd. (``JTR'') becoming the trustee of a unit trust, the other John T. Rippon Holdings Pty. Ltd. (``Holdings''), becoming the trustee of a discretionary trust which had, as its objects, members of the taxpayer's family (except the taxpayer). The taxpayer adopted this structure because he wanted, as he put it, ``to provide maximum flexibility'' for the future. The taxpayer was aware, in broad terms, of the tax impact of these arrangements: minimising his total tax payment was the taxpayer's ``most significant purpose of implementing the
ATC 4691
structure'', although ``there clearly were commercial reasons'' for the arrangements.(2) JTR obtained, and was remunerated for, consulting work in the years in question. Initially, the taxpayer's salary as the employee of JTR, was $18,000 p.a. (which compared with $20,000 p.a. with his last employer), but was later reduced. For instance, in the 1980 year, the gross fees earned by JTR were $42,186 but the taxpayer's salary was only $3,016. In the 1981 year, gross fees earned by JTR were $49,893, consultants were paid $13,655, the taxpayer's salary was $1,892 and $5,988 was distributed by JTR to Holdings and by Holdings to the beneficiaries of the family trust. (The sum of $7,880 assessed by the Commissioner for this year, for instance, was the total of the two items of $1,892 and $5,988.)
(3) Although a ``borderline'' case, the transaction satisfied the test in
Newton & Ors v FC of T (1958) 11 ATD 442 at 445; [1958] A.C. 450 at 466, that is, that ``you must be able to predicate - by looking at the overt acts by which [the arrangement] was implemented - that it was implemented in that particular way so as to avoid tax'' because of factors described by the Tribunal as follows [Case Y31,
91 ATC 312 at 320-321]:
"First, there was the complexity of the structure. Whilst a company trustee of a unit trust and a separate discretionary sub-trust might be justified for a large and complex professional practice, the use of such complexity seems difficult to explain satisfactorily in this case without predicating that the structure was implemented in the way it was to escape the burden of the normal operation of the progressive tax system on the taxpayer. Second, the taxpayer's use of a registered business name rather than the company and the general inference from all the facts that the taxpayer projected himself personally and acted as if he were running his own business. Third, the limited scope of the taxpayer's con- sulting business and the `uncomfortable' means and ends relationship between the nature of that consulting, the limited organisation, minimal staff and office space, and the elaborate legal structure adopted to give practical expression to `these' objectives. Fourth, the minimal payments of salary to the taxpayer during the relevant period from 1980 to 1983 bear no relation to his work for the trust in later years. The mere fact that such a small salary might be explained, at least over part of that time, as a means of escaping other creditors does not legitimise the structure as being for commercial or family purposes, so far as this particular `creditor' (the Commissioner) is concerned. In my view such disproportionality is not repaired by vague assertions that the business structure was being established for all future eventualities."
(4) The absence of any relevant ``antecedent transaction'' did not mean that s. 260 could not operate.
The reasoning in this Court
As has been noted, the taxpayer successfully appealed to this Court and Heerey J. allowed the appeal.
With respect to the factors relied upon by the Tribunal, Heerey J. said [at 4189]:
``In my opinion, the four factors adverted to by the Tribunal do not lead to a conclusion that s. 260 applies.
First, the complexity of the structure is only of relevance insofar as that complexity in itself predicates that the structure was established for the purpose of tax avoidance. What is important for the purpose of s. 260 is not so much complexity as artificiality. If the structure adopted is explicable by reference to ordinary business and family arrangements, then complexity as such does not attract the operation of s. 260.
Counsel for the Commissioner could not suggest any tax-related reason which explained the use of two trusts rather than one. One obvious non-tax reason which springs to mind is that the unit trust would be convenient in the future were the taxpayer to take a partner into the business. Units could be allotted to the new partner who could then make such personal trust arrangements as suited his or her own circumstances. As the taxpayer said in evidence, the business was very new, and he was concerned to provide `the maximum
ATC 4692
flexibility for whatever might occur in the future years'.Secondly, the use of the business name and the prominence of the taxpayer's identity in the conduct of the business are consistent with the fact that the personal skill and reputation of the taxpayer were likely to be of critical importance to a professional practice such as this. If the company had the right to use the services of the taxpayer and his personal qualities as an engineer might be likely to attract business, there was a very practical reason, quite unconnected with tax, to put his name at the forefront of the company's activities.
Thirdly, if by `scope' the Tribunal meant the size in terms of turnover of the company's business when the structure was established, then no doubt the scope was small and the physical assets modest. But many of the largest organisations in engineering, as well as law, accountancy and other professions and businesses in this country, had humble beginnings. The adoption at the outset of a structure which would be appropriate for hoped for growth is no indicia of tax avoidance.
Fourthly, the salary which the taxpayer received in the earlier years under review was fixed by reference to his previous experience as an employee. Such salary therefore reflected a proper commercial value of the personal service he was to render to the company - which of course was to earn income by the use of other resources, such as the capital injected by the taxpayer and services provided by consultants. The fact that much less salary was earned in 1980 to 1983 is explicable by the Kordiak problems. The point at issue is the proper characterisation of the arrangements in 1976. Future events are only relevant insofar as they cast light upon the purpose and effect of those arrangements. Absent the Kordiak problems, the reasonable inference is that the taxpayer's salary would have continued without substantial reduction. I do not see that the salary reduction which in fact took place assists the Commissioner's case.''
His Honour went on to consider whether the structure adopted by the taxpayer was an ``ordinary business or family dealing'' in the sense explained in Newton's Case. Heerey J. then referred to the familiar observation made by Kitto J. in
Peate v FC of T (1964) 13 ATD 346 at 348-349; (1962-1964) 111 CLR 443 at 469 that the question to be addressed was ``whether the arrangement bears on its face the stamp of tax avoidance''. Heerey J. said [at 4191]:
``A person with a family who establishes a business will often want to use a legal structure to achieve the result that some or all of the financial benefits which, hopefully, the business will generate will go to family members. Both legal obligation and natural love and affection encourage such an objective. The adoption of a structure that will achieve it is, to my mind, an ordinary family dealing. It is comparable to one of the examples of ordinary business or family dealings given by the Privy Council in Newton... viz a declaration of trust made by a father in favour of his wife and daughter... Whether the structure actually chosen is a company with different classes of shares or a discretionary trust or a combination of both, such an arrangement does not necessarily bear the stamp of tax avoidance, notwithstanding that the person establishing the structure may be better off in terms of his personal tax liability compared with his position were he to embark on the new venture as a sole trader on his own account.''
Having said that the concepts of ``antecedent transaction or situation'' were ``firmly entrenched in the jurisprudence of s. 260'', his Honour observed [at 4192]:
``To say that the taxpayer received periodical remuneration for working as a professional engineer both before and after the impugned arrangement is true enough. But to extract that fact in isolation and expose it to s. 260 is to ignore the clear mandate of authority. There was here a matrix of circumstances which to the hypothetical observer... give the arrangements sense and meaning unconnected with tax avoidance. Some of these business and family circumstances I have already mentioned. One other should be noted, viz the fact that there was, as far as I was informed, no legal impediment to a non-qualified person carrying on the business of a professional engineer: cf
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Gulland 85 ATC at 4796; 160 CLR at 111 per Dawson J.I think this case differs from Bunting because there was a new enterprise involving, amongst other things, the injection of capital and the contemplation that the efforts of persons other than the taxpayer would be harnessed for the purposes of the business. Still more is it different from cases like Peate, Gulland and Tupicoff [
Tupicoff v FC of T 84 ATC 4851; (1984) 4 FCR 505] where an artificial structure was introduced into existing professional practices and employment arrangements.''
The Commissioner's grounds of appeal
The Commissioner now appeals on grounds, developed in argument, which may be summarised as follows:
- 1. His Honour erred in determining that s. 260 had no application to the facts as found by the Tribunal.
- 2. His Honour ought to have held that on the facts as found, the case fell within the scope of s. 260 of the Act.
- 3. The Court should have held that the respondent entered into a contract, agreement or arrangement which:
- (a) altered the incidence of income tax or,
- (b) relieved the respondent from the liability for payment of income tax.
- 4. The Court misconceived its function upon appeal from the decision of the Tribunal in that it was not the function of the Court on appeal on a question of law to reconsider the material which was before the tribunal and come to its own view of the facts as disclosed by that material or to draw its own inferences from those facts when there were alternative and available inferences that the Tribunal was properly entitled to draw from those facts.
- 5. The Court drew inferences for itself from the primary facts which were not supportable on the evidence before the Tribunal and in particular:
- (a) there was no evidence for the conclusion of the Court that there were no tax related reasons which explained the use of unit trust and discretionary trust structures adopted by the respondent;
- (b) there was no evidence before the Court to support an inference or finding that the respondent adopted structures which would be appropriate for hoped for growth rather than as indicia of tax avoidance;
- (c) there was no reasonable basis for the Court's inferring on the evidence that the respondent's salary would have continued at proper commercial levels in years subsequent to incorporation of the company; and
- (d) the Court erred in determining that one explanation for the adoption of the corporate structures was limited liability when there was no evidence that the corporate structure was set up for that purpose or that by adopting corporate structures the respondent was only doing what ``countless people'' have done.
- 6. The Court erred in that it misapplied the tests enunciated in Newton's Case in determining that the adoption of a structure which had the effect of achieving a diversion of personal exertion income of the respondent constituted an ordinary family dealing.
- 7. The Court erred in purporting to distinguish the decisions in
Bunting v FC of T 89 ATC 5245; (1989) 24 FCR 283 and
Tupicoff v FC of T 84 ATC 4851; (1984) 4 FCR 505 and the decisions of the High Court in
FC of T v Gulland; Watson v FC of T; Pincus v FC of T 85 ATC 4765; (1985) 160 CLR 55 and Peate's Case. - 8. The Court erred in law in construing s. 260 as being inapplicable where an artificial structure has been introduced into a professional practice or employment arrangement at its inception or commencement.
Conclusions on this appeal
In Peate's Case, Kitto J., in a frequently cited passage, said (at ATD 349; CLR 469):
``The arrangement in the present case, considered objectively as is thus required, may well seem to be characterized by several purposes and effects, some of them unconnected with taxation, including the protection of individual members of the group against liability for negligence; the
ATC 4694
making of superannuation provision for employees, including doctors employed to assist the group; the better organization of the group's activities and particularly its methods of accounting; and the making of provision for the doctors' families. (All of these purposes, indeed, the appellant swore were actually contemplated in the formation of the plan). But the question remains, whether the overt acts that were done under the plan are fairly explicable without an inference being drawn that tax-avoidance is a purpose of the arrangement as a whole. Menzies, J. thought they were not, and with respect I agree. The arrangement bears ex facie the stamp of tax-avoidance. An understandable purpose of providing for the doctors' families, and doing so quite honestly, is perfectly evident; but what is equally evident is a purpose of doing so by a method which will divert income away from the participating doctors to or for the benefit of their families, to the end that a substantial part of the tax might be avoided which would have been incurred if the income had first been derived by the doctors and then applied by them for the benefit of their families.''
It follows, in our view, that the central question for determination by the primary Judge in the present case was the proper characterisation of the structure adopted. Clearly, considered objectively, the instant arrangements could be characterised as having several purposes and effects, some unconnected with taxation, and some not. His Honour was of the opinion that, in all the circumstances, the arrangements did not, on their face, bear the stamp of tax avoidance. Although, technically speaking, this involved a legal question, it was essentially a question of fact, albeit secondary fact, for his Honour to put a proper complexion upon the structure adopted by the taxpayer.
In a real sense, the present point was one of impression to be undertaken by the Judge upon a survey of all the material circumstances. Naturally, an appellate court should give due weight to the impressions of the primary Judge in this sort of context and, thus, an appellate court should be reluctant to disturb a conclusion of this kind, unless some error in his judgment has been demonstrated (cf.
S.W. Hart & Co. Pty. Ltd. v Edwards Hot Water Systems (1984-1985) 159 CLR 466 per Gibbs C.J. at p. 478; per Brennan J. at 491).
We accept that there is some force in the argument, advanced on behalf of the Commissioner, that, in respect of the discretionary family trust, in particular, there are some elements of similarity between the present matter and Tupicoff and Bunting. But each case must depend upon its own facts. We are not persuaded that the Commissioner has demonstrated that his Honour made any error of judgment, or any legal error, in characterising the arrangements in the way he did.
As we have already noted, the exercise to be undertaken by the primary Judge was essentially one of impression. The Tribunal said, correctly we think, that this was a ``borderline'' case. In our opinion, it was reasonably open to his Honour to conclude, as he did, that the structure adopted did not, on its face, bear the stamp of tax avoidance (cf. Bunting's Case at ATC 5252; FCR 289). We do not think, in these circumstances, that it is appropriate that we now disturb that finding.
The appeal will be dismissed with costs.
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