CASE 3/96

Members:
J Block SM
C Prime M
P Greenwood M

Tribunal:
Administrative Appeals Tribunal

Decision date: 22 December 1995

J Block (Senior Member), C Prime and PM Greenwood (Members)

The Applicant sought review of decisions by the Respondent disallowing objections by the Applicant against notices of amended assessment numbered 290212/001-002 issued on 18 October 1994 for the tax years ending 30 June 1989 (the ``1989 year'') and 30 June 1990 (the ``1990 year''). The amended assessments included in the income of the Applicant, in respect of the relevant years amounts deemed to be dividends pursuant to section 108 of the Income Tax Assessment Act 1936 (Cth) (the ``Act'').

2. The Applicant was represented by Mr R Gordon of Counsel and the Respondent was represented by Mr S Gibb of Counsel. Oral evidence was given by the Applicant; in addition two sworn statements by the Applicant, one referable to the 1989 year (the ``1989 statement'') and the other referable to the 1990 year (the ``1990 statement'') were filed with the Tribunal on 6 November 1995. The Tribunal accepted into evidence the documents lodged pursuant to s 37 of the Administrative Appeals Tribunal Act, and also a number of exhibits. The Applicant tendered Exhibits A1 to A4, being financial accounts for the years ended 30 June 1991 to 30 June 1994 respectively of a company which was the source of the funds deemed to be dividends and which is referred to as the ``Company'', Exhibit A5, being an historical extract referable to a wholly owned subsidiary of the Company (``the Subsidiary'') and Exhibit A6 being a batch of unused tax return forms. The Respondent tendered Exhibit R1, being a letter dated 12 October 1995 addressed by the Applicant's accountants to the Deputy Commissioner of Taxation (referred to as the ``deferment letter'') and Exhibit R2 being a computer search referable to certain residential property in Linley Point, Sydney (``Residence'') in respect of which the Applicant and his wife (``his wife'') are the owners; Exhibit R2, includes certain annexures thereto, and in particular referable to mortgages in favour of the Australia and New Zealand Savings Bank Limited and the Australia and New Zealand Banking Group Limited (collectively referred to as ``the Bank'').

3. It is convenient to note at the outset that during the hearing, certain matters which might otherwise have been in issue were conceded or agreed:

4. The only issue before the Tribunal is as to whether it was reasonable for the Respondent to form the opinion that the distributions represented distributions of profits within section 108 of the Act.

5. The Company was incorporated in 1972; at all relevant times the Company (which has changed its name on two occasions) engaged in contract bricklaying; the Applicant and his wife are and at all times have been the only directors and (in equal shares) its shareholders. The Subsidiary engages in a line of business which is related but not the same. Reference was made

ATC 141

to another company (``G'') the shares in which are owned by the Applicant and his wife; as set out later in these Reasons, a reduction in the Loan Account (as defined in paragraph 6 below) was effected following a sale by G of certain property owned by it.

6. The Company's accounts from 1985 onwards, reflect as an asset, an aggregated amount owed to the Company by the Applicant and his wife; that debt, the amount of which altered over the years, is referred to in these Reasons as the ``Loan Account''; the Loan Account was at all relevant times in debit, in the sense that the Applicant and his wife were (and are) indebted to the Company.

7. The Company's accounts as at 30 June 1985 disclosed that the amount of the Loan Account was $83,985. These accounts were filed with the NCSC in 1986.

8. The Company's accounts for the year ended 30 June 1986 disclosed that the balance of the Loan Account had increased to $134,142, after a dividend of $271 was credited in that year. The Company's turnover in that year was $1,519,133.65; its net profit was $51,169.82, and its net profit after tax for that year was $27,544. The Applicant received a salary from the Company of $10,752 and a bonus of $8,600. His wife received a salary from the Company of $9,984 and a bonus of $1,000. These accounts were filed with the NCSC in 1987.

9. The Company accounts for the year ended 30 June 1987 disclosed that the Loan Account had increased to $171,177, after a dividend of $5,527 had been credited. The Company's turnover was $2,895,243.67; the net profit for the year was $87,953.29, and net profit after tax was $42,254. The Applicant received a salary from the Company of $36,980 and an allowance of $1,646. His wife received a salary of $24,946 and an allowance of $1,648. These accounts were filed with the NCSC in 1988.

10. The Company accounts for the year ended 30 June 1988 disclose that the Loan Accounts had increased to $311,069 after a dividend of $39,907 had been credited. The Company's turnover was $1,542,763.93; its net profit was $106,621, and its net profit after tax was $58,434. In that year the Applicant received a salary from the Company of $19,656 and an allowance of $1,831. His wife received a salary of $15,603 and an allowance of $1,831.

11. The Company's accounts for the year ended 30 June 1989 disclose that the Loan Accounts had increased to $430,198 after a dividend of $53,069 had been credited. The Company's turnover was $7,151,658.38; its net profit was $311,845.01 and its net profit after tax of $183,605. The Applicant received a salary from the Company of $35,410 and an allowance of $1,938. His wife received exactly the same salary and allowance. The increase in the Loan Account was attributable to expenditure personal to the Applicant and his wife, and including $13,200 provided to pay a deposit on residential property in Guerilla Bay (the ``GB Property'') and $119,320 for the purpose of completing that purchase.

12. The Company's accounts for the year ended 30 June 1990 reveal that the Loan Account had increased to $639,846; in that year the Company paid an amount of $290,626 in respect of the purchase by the Applicant and his wife of the Residence. Expenses personal to the Applicant and his wife paid by the Company accounted for $106,455. In this year there were payments in reduction of the Loan Account, arising from the sale of a unit in Launceston ($113,409) a returned futures deposit ($32,829) and a cash repayment of $40,000; the source of this last payment was not specified. The Company's turnover was $4,092,659 and its net profit after tax in that year was $115,082. The Applicant received a salary of $24,601 and an allowance of $2,338. His wife received a salary of $17,780 and an allowance of $150. These accounts were filed with the NCSC in 1991.

13. In the year ended 30 June 1991 the Loan Account increased to $649,288.91. In that year the turnover fell to $137,501.19. This sharp drop when compared with previous years may arise (although there was no evidence to this effect) from the fact that the Subsidiary was formed or acquired in 1990.

14. In the year ended 30 June 1992, the Loan Account decreased to $493,566; it has remained constant at this amount ever since 30 June 1992. The reduction was effected, in accordance with evidence by the Applicant, in consequence of the sale of property owned by G.

15. The Company disclosed no income in respect of bricklaying contract receipts for any of the years ending 30 June 1992, 30 June 1993 and 30 June 1994.

ATC 142

16. The Tribunal was assisted in this area by a chronology provided by Counsel for the Applicant, to which Counsel for the Respondent did not object. For purposes of ease of reference we provide the following tables: 

--------------------------------------------------------------------------
Year   | Company     | Net Profit| Dividend| Salary of | Salary  | Balance
Ended  | Income      | After Tax | Credited| Applicant*| of Wife*| on Loan

       |             |           |         |           |         | Account
--------------------------------------------------------------------------
30 June|           - |         - |       - |         - |       - | $83,985
1985   |             |           |         |           |         |
--------------------------------------------------------------------------
30 June|$1,519,133.65|   $27,544 |    $271 |   $19,352 | $10,984 |$134,142
1986   |             |           |         |           |         |
--------------------------------------------------------------------------
30 June|$2,895,243.67|   $42,254 |  $5,527 |   $38,626 | $26,594 |$171,177
1987   |             |           |         |           |         |
--------------------------------------------------------------------------
30 June|$1,542,763.93|   $58,434 | $39,907 |   $21,487 | $17,434 |$311,069
1988   |             |           |         |           |         |
--------------------------------------------------------------------------
30 June|$7,151,658.38|  $183,605 | $53,069 |   $37,348 | $37,348 |$430,198
1989   |             |           |         |           |         |
--------------------------------------------------------------------------
30 June|$4,092,659.00| $115,0820 | $26,931 |   $17,930 |$639,846 |
1990   |             |           |         |           |         |
--------------------------------------------------------------------------
30 June| $137,501.19 |  ($2,378) |       0 |         - |       - |$649,288
1991   |             |           |         |           |         |
--------------------------------------------------------------------------
30 June|  $59,329.41 |  $1,918** |       0 |         - |       - |$493,566
1992   |             |           |         |           |         |
--------------------------------------------------------------------------
30 June|        0.00 |  ($5,241) |       0 |         - |       - |$493,566
1993   |             |           |         |           |         |
--------------------------------------------------------------------------
30 June|  $54,955.00 |   $38,701 |       0 |         - |       - |$493,566
1994   |             |           |         |           |         |
--------------------------------------------------------------------------
* Salary includes salary, allowances and bonuses.

** Before tax figure

The increase in the balance of the Loan Accounts for the year ended 30
June 1989 arose mainly in consequence of:

Dr. Personal expenses       $53,133
(including Deposit for GB
property)
Dr. Loan to complete       $119,320
purchase of GB property

                                       Cr. Dividend           $53,069

The increase in the balance of the Loan Accounts for the year ended 30
June 1990 arose mainly in consequence of:

Dr. Personal expenses       $94,624
Dr. Loan to purchase       $290,626
Residence
Dr. Personal expenses       $11,831

                                       Cr. Returned futures   $32,829

                                       deposit

                                       Cr. Proceeds sale of   $113,409

                                       old residence

                                       Cr. Cash repayment      $40,000

17. The amended assessments issued by the Commissioner to the Applicant on 18 October 1994 included in the applicant's assessable income for the 1989 and 1990 tax years deemed

ATC 143

dividends under s 108 of the Income Tax Assessment Act 1936 (Cth). In respect of the year ended 30 June 1989 an amount of $40,274 was deemed to be a dividend. In respect of the year ended 30 June 1990 an amount of $62,314 was deemed to be a dividend. These figures, of course, represent the Applicant's half-share only.

18. Section 108 reads as follows:

``108(1) If a private company:

  • (a) pays an amount to an associated person by way of an advance or loan; or
  • (b) pays or credits an amount on behalf of, or for the individual benefit of, an associated person;

so much (if any) of the amount paid or credited as, in the opinion of the Commissioner, represents a distribution of profits shall, for the purposes of this Act other than Division 11A of Part III and Division 4 of Part IV, be deemed to be a dividend paid by the company:

  • (c) to the associated person as a shareholder in the company;
  • (d) out of profits derived by the company; and
  • (e) on the last day of the year of income of the company in which the payment or credit referred to in paragraph (a) or (b) is made.''

19. The Company is a private company; the Applicant, as a shareholder in the Company, is an associated person. Section 108 of the Act relates to a payment by way of an advance or loan; it applies also where the Company pays or credits an amount for the individual benefit of an associated person.

20. Counsel for the Respondent contended that the payments in question do not constitute ``genuine'' loans; as to precisely what constitutes a ``genuine'' loan as opposed to a ``non-genuine'' loan was not clarified, given that it was accepted that the payments were not ``shams''; the possible applications of sections 6 and 44 of the Act was not argued.

21. We do not think that anything turns on the question of how precisely the payments are to be characterised; if they were not loans or advances, they were unquestionably payments for individual benefit within section 108(1)(b). The Applicant contends that they were loans, as evidenced by the reflection in accounts of the Company filed with the authorities, of the Loan Account as an asset of the Company. It is clear in this context that whatever the exact characterisation may be, the payments in question fall within section 108, and that the only issue is thus whether the Respondent was entitled to deem relevant parts of them to represent distributions of profits.

22. This is not to say that the distinction will be irrelevant in all instances. Certainly an enquiry into the relationship between s 108 and the provisions of ss 6 and 44 may require an examination of what is precisely meant by the phrase ``by way of advance or loan''. The Tribunal notes in this context the approach of Ormiston J in
Kenneth A Summons Pty Ltd & Ors v FC of T 86 ATC 4979, followed by the Deputy President of this Tribunal in AAT Case 8936
(1993) 26 ATR 1217 at 1221. However this is not an aspect which requires a decision by this Tribunal.

23. An issue of whether a loan is or is not genuine may, however, be relevant to a question of whether a borrower intends to repay the amount in question. That such an intention is a critical issue in determining whether or not there has been a payment which represents a distribution of profits is evident from the decision in Case 69
(1950) 1 TBRD 260 where at 263 the Board stated:

``The mere fact that a shareholder in a private company has become indebted to it is not in itself justification for the formation of an opinion that there has been what represents a distribution of income to him. If the debt is good it is an asset of the company and the profits available for distribution are not effected. It must in our opinion be more in a case than that, in order to justify the formation of such an opinion for a thing to be or to represent a distribution of income, there must be to our minds a getting of money into the hands of a shareholder with no idea of repayment. There must be something that goes beyond a mere debit or automatically arising on a taking of accounts, and which points to a subterfuge whether by a payment which upon examination is found to relate to the income of a company and to represent a distribution thereof is made to appear to be a loan or advance.''

(emphasis added)

24. Following the decisions in the (unrelated) cases of
Black v FC of T 86 ATC 4113 and

ATC 144

DFC of T v Black 90 ATC 4699 the Tribunal is bound to follow the principle set out in paragraph 23.

25. In the first of the Black cases, Lusher J in the New South Wales Supreme Court referred to an ``intention to repay'' as an important factor in determining whether a distribution of profits had occurred. His honour opined at 4116:

``The facts here justify that there were distributions. There was no question of any intention or arrangement to repay. If paid out of profits they would be taxable as dividends. Here again the onus is on the taxpayer to show the payments were not so paid out of profits...''

(emphasis added)

In the second case, Sweeney J of the Federal Court also emphasised the concept of intention to repay, and referred in specific terms to Case 69 (1950) 1 TBRD 260. His honour stated at 4705:

``The finding by the Tribunal that this was not a case where loans or advances were made to the taxpayer with no idea of repayment, which is not challenged by the Commissioner, is fatal to any contention that the loans or advances themselves should be deemed to be dividends (see Case No. 69 (1950) 1 TBRD 260 at p 263).''

26. During the course of the hearing, the Tribunal's attention was directed to an article by Mr Kevin Burges of the Sydney Bar who is an acknowledged expert in taxation law, entitled ``Private Company Loans to Shareholders'' (the ``Burges article'') presented by Mr Burges to the Taxation Institute of Australia on 26 October 1995. Mr Burges states, correctly in our view, at pp 13-14, that:

``Hence it is clear now on the authority of two decided cases, one in the Federal Court and one in the Supreme Court, that the concept of distribution involves the concept of some permanent dealing out or bestowing of something upon the shareholder or associates; there must be a getting of money into the hands of a shareholder (or associate) with no idea of repayment.

This is the fundamental central concept of s.108 and if there is no getting of money into the hands of the recipient or application of money for his benefit `without no idea of repayment' then the section cannot apply. All other aspects of the interpretation of this section are subservient to this one essential central concept.''

The Tribunal entirely agrees with this analysis.

27. Taxation Ruling IT 2637 lists, in an inclusive fashion, the factors the Respondent will take into account in determining whether or not there has been a payment which represents a distribution of profits. We note, in regard to the ruling that it is not a binding ruling; it has been considered because it is germaine to the issues and the fact that it sets out the factors which will be taken into account in relation to a determination under section 108.

Those criteria are:

The first factor mentioned is the intention of the parties. Notably, the passage from Case 69 (1950) 1 TBRD 260 concerning the getting of money into the hands of a shareholder with no idea of repayment is cited in the Ruling with approval. The second factor listed is the description of the payment by the parties involved. The Commissioner states, and in our view correctly, that a description will not be decisive; this accords with the notion that it is the concept of intention which should be accorded primacy. Similarly, the Commissioner notes that it is the substance and not the form of the transaction which will be important; we agree that this is correct. The Ruling also provides that documentation may assist in determining the intention of the parties involved. Whilst it is true that comprehensive and contemporaneous documentation may well establish an intention to repay, an absence of such documentation cannot in our view necessarily be taken to connote that such intention is absent. The fact that in respect of a company which is owned within one family, there is not detailed and comprehensive documentation as to a transaction will not, in our view, however desirable such documentation may be, be decisive.

28. The terms of any advance or loan are cited in the Ruling as being an important factor to be considered. The Ruling provides at paragraph 46:

ATC 145

``Where the terms and conditions used in the advance or loan are comparable with the commercial terms and conditions ordinarily used in advances or loans between parties dealing at arms length, that would, in the absence of any evidence to the contrary, support the view that the transaction was not intended to be a `distribution of profits'. Conversely, a loan granted on interest-free terms and repayable on demand might warrant closer examination. This was particularly so where money is put in the hands or bank account of a shareholder and may be drawn on as and when the shareholders wishes.''

29. We do not agree with the Ruling on this point. The decisive factor is as whether or not there is an intention to repay. It cannot, in our opinion, be decisive as to whether a loan may not be given on commercial terms. If an amount is advanced, and there is an intention to repay that amount, then it cannot be said that the amount represents a distribution of profits. We refer in this context to the Burges article from which we quote (noting that we agree with the views expressed by Mr Burges) as follows:

``Terms of an advance or loan

The Commissioner suggests that loans on terms comparable with commercial terms and conditions ordinarily used in transactions between parties in arms length, may support the view that the transaction was a genuine loan. He further indicates that loans on interest free terms may warrant closer examination. I must say I strongly disagree with this inference. As I have said many times, the key factor is to be able to establish that there was both an intention and an ability to repay. We are normally here dealing with family transactions and it is perfectly common in families for money to be lent on interest free terms. That factor seems to me totally irrelevant to the true question of whether the loan is intended to be repaid.''

30. The likelihood or otherwise of repayment is clearly a factor to be considered by the Respondent. In our opinion, this factor could conveniently be considered as part of the ``intention to repay'' aspect. As Lord Simon LC said in
Crofter Handwoven Harris Tweed Co. Ltd v. Veitch [1942] AC 435 at 444:

``An `intention' to my mind connotes a state of affairs which the party `intending' - I will call him X - does more than merely contemplate; it connotes a state of affairs which, on the contrary, he decides, so far as in him lies, to bring about, and which, in point of possibility, he has a reasonable prospect of being able to bring about, by his own act of volition. X cannot, with any due regard to the English language be said to `intend' a result which is wholly beyond the control of his will. He cannot `intend' that it shall be a fine day tomorrow: at most he can hope or desire or pray that it will.''

By analogy, an associated person cannot intend to repay an amount if he does not, and could not reasonably expect to, be able to repay those amounts. This issue, as noted by the Commissioner, is of critical importance. The payment of personal expenses from the amounts advanced may be indicative of the fact that the likelihood of repayment or the capacity to repay does not exist: see the Black cases: Black v FC of T 86 ATC 4113 and DFC of T v Black 90 ATC 4699.

31. We refer in the first instance to the oral evidence of the Applicant as to his intention to repay the amounts, since this issue must go to the essence of determining whether or not it was reasonable for the Commissioner to form the opinion that the payment represents a distribution of profits. The Tribunal noted inter alia the following responses to questions by Respondent's Counsel (at page 44 of the Transcript):

``Q: What was your intention, focusing upon yourself only, so far as repayment of the loan was concerned? When was it going to be repaid and how?

A: Well, whenever the funds were required by the company.''

...

``Q: What is the basis of your view that [selling the Property to repay the debts to the Company] might be necessary?

A: Well, again, if there was need - if the company found that it required - or it needed funds which it didn't have, then we would have to obviously come forward and provide it with those funds in repayment for the lines which had.

ATC 146

Q: So you are talking there are you about your capacity to satisfy the company's needs if it had needs?

A: Yes.

Q: You are not talking about any legal obligation to repay those moneys?

A: Well, that's always there.''

(Transcript page 55)

...

``Q: You just decided to make payments in or to make payments out as the occasion arose?

A: Yes, as the need again arose.''

(Transcript page 50)

32. These responses strongly suggest that the Applicant and his wife did not intend to repay the relevant amounts; rather they intended to repay them only if the Company were in need, and that if that need did not arise, then repayments would not be made.

33. Exhibit 12 to the 1990 statement is a minute of a directors [sic] meeting of the Company held on 31 October 1989; it contains a record of a resolution under the heading of ``Loan'', as follows:

``It was resolved that the Company advance additional funds from time to time to [the applicant and his wife] in their capacity as Shareholders, for the purposes of purchase of a residence at... Sydney, such advance is to be limited to $300,000 on such terms and conditions as the Directors may from time to time determine, and at such interest rates as the Directors may from time to time determine, initial interest rate to 0%. Such funds to be repaid out of dividends which the Company may from time to time declare payable.''

34. As the Applicant stated in cross- examination, the minute was prepared after the date of the meeting referred to therein. In the Applicant's own words, it was prepared ``probably within two years'' after 1989. It is also clear that the minute was never signed. In cross-examination (Transcript page 55) by Counsel for the Respondent, the Applicant noted his concern as to a document which had been prepared after the event:

``Q: You say in paragraph 12 that the minute was never signed?

A: Yes.

Q: Why was that?

A: Because it was prepared after the event by the accountant.

Q: Why did you consider that was a reason for not signing it?

A: Probably because it wasn't given to me to sign.

Q: Was it because you were already aware that the tax office had been informed that this document had been prepared after the event; is that the reason you never signed it?

A: No. I know that I was a little - I was concerned with my accountant as to why it occurred post rather than at the time we were doing it; that concerned me a bit. Again, we relied heavily on the accountant to provide documented minutes of what was discussed or agreed to.''

In contrast, and in answer to a Tribunal question (Transcript page 65):

``Q:... and you did not sign it because there was an audit in progress and...?

A: Yes.''

The Applicant stated (Transcript page 65) in evidence that had the minute been signed, it would have correctly recorded the transaction between himself, his wife and the Company.

35. Although there are references in the T documents to minutes, Exhibit 12 to the 1990 statement was the only minute or resolution referred to in the hearing. The confirmation of a minute after the date of the relevant meeting, is of course, and for obvious reasons, by no means unusual. Exhibit 12 to the 1990 statement is indicative of an intention to lend $300,000; even more to the point is the fact that in its terms, that loan would be repayable out of dividends; it is thus reasonable to infer that there is an obligation to repay which is commensurate only with dividend payments. The following table indicates, in the years 1986 to 1990 the Loan Account and the level of dividend: 

         +-----------------------------------+
         |      |          |                 |
         | Year | Dividend | Balance of Loan |
         |      | Declared |     Account     |
         |      |          |                 |
         |      |    $     |        $        |
         |------+----------+-----------------|
         | 1986 |   271    |     134,142     |
         |------+----------+-----------------|
         | 1987 |  5,527   |     171,177     |
         |------+----------+-----------------|
         | 1988 |  39,907  |     311,069     |
         |------+----------+-----------------|
         | 1989 |  53,069  |     430,198     |
         |------+----------+-----------------|
         | 1990 |    0     |     639,846     |
         +-----------------------------------+

36. There have been no dividends since 1989. The table set out above indicates that payments out of dividends would be unlikely, on any historical analysis, to discharge the Loan Account. It is noteworthy moreover that in the 1989 year, provision was made for a dividend of $183,606; however this provision was written back in the following year. The Applicant stated in cross-examination that the provision was written back in order to avoid the tax which would be payable if that amount were in fact distributed. In fact, and as noted later in the hearing, the Company had a franking account sufficient to distribute the amount provided as a franked dividend; the tax payable would thus, had the amount been distributed, attracted tax only to the extent of the difference between the top marginal rate and the imputation credit.

37. In general terms, the Applicant's evidence, while at times a little confused and hesitant, and at other times rather less than precise, was not in our view untruthful. The Applicant admitted that he and his wife treated the Company and its funds and its bank account as if it were their own. Indeed the Exhibits to the 1989 and the 1990 statements are indicative of this fact; put in general terms, the numerous payments for them personally, indicate that they drew the Company's money when they needed it. The low level of salary allowances and dividends, in relation to a Company with a high turnover, when coupled with the evidence as to the writing back of the tax provision, give rise to an inference that payments from the Company may have been classified having regard to considerations of taxation.

38. The Applicant did not call his Tasmanian accountant as a witness. It was contended on his behalf that apart from the question of cost involved, there was an outstanding question as to liability on the part of that accountant, arising from alleged incorrect advice connected with the writing back of the 1989 year dividend provision. In this light, and notwithstanding that the Applicant in his evidence stated on a number of occasions that he relied on that accountant's advice, no adverse inference arises in our view from that failure to call him.

39. The Applicant's failure to call his wife to corroborate his evidence is open to criticism and the finding of an adverse inference; the Applicant gave evidence that there were many discussions between him and her as to the amount owing; by way of example (and at page 45 of the Transcript):

``Q: Can you recall any specific occasion when it was discussed?

A: Not that I could give you a time or a date or a location.

Q: Or a year?

A: Several times this year. The time of purchase.''

...

``Q: When was the first time you discussed [the repayment of the $300,000 borrowed from the Company] with her?

A: I couldn't say, I mean, discussions like that were held intermittently at all different times over the years.''

(Transcript page 46)

It may be noted that the Applicant's wife was by no means a passive party in all of these transactions. She was at all relevant times employed by the Company and moreover attended (according to the evidence) to some of its bookkeeping functions.

40. Counsel for the Respondent objected to certain parts of the 1989 statement and the 1990 statement, which although apparently filed with the Tribunal on 6 November 1995, became available to the Tribunal members only on the date of the hearing. The statements were admitted (subject to weight) notwithstanding that, as the Respondent's Counsel contended, they contain some argumentative or hearsay material. It may be noted that clause 16 of the 1989 statement, which sets out that $10,727.89 only was available for distribution, is clearly incorrect, more particularly when the dividend provision (subsequently written back) and the reserves in that year are taken into account.

41. The deferment letter is in our view adverse to the Applicant in two important and indeed fundamental respects:

The Applicant's Counsel sought (in his closing address) to explain the failure to mention the Loan Account in the deferral letter, on the basis that it also does not mention by way of balancing factor, the value of the shares in the Company. There was no evidence before the Tribunal as to the value of the shares. Even if there had been such a balancing effect, on the basis claimed for the Applicant, it would not in our view have served to excuse the failure to disclose so substantial a debt.

42. One of the crucial elements is as set out previously, that of intention to repay the debt. The evidence before the Tribunal strongly suggests that the Applicant and his wife did not intend to repay the Loan Account. The fact that, if the Company had been placed in liquidation a liquidator might have been able to compel payment of all or part of the Loan Account is not to the point.

43. The Applicant gave evidence to the effect that creditors of the Company had access to (amongst other things) the Residence. However any such access would be at best indirect, and through the medium of a claim by a liquidator (or other similar officer) against the Applicant and his wife for recovery of the Loan Account.

44. There was evidence by the Applicant coupled with statements by his Counsel which when considered as a whole, and in relation to the Residence, can best be characterised as somewhat confused. This aspect relates to the question of the ability of the Applicant and his wife to pay the Loan Account. In this context:

Enquiries in this regard at the hearing did not elicit any evidence in support of this contention. Assuming (although there was no evidence to this effect) that the mortgage in favour of the Bank is an all-moneys mortgage, and assuming also that the Applicant and his wife guaranteed the debts of the Company and/or the Subsidiary to the Bank, so that the Bank would by this indirect route have access to any surplus moneys, this would not result in any credit against the Loan Account in excess of the surplus.

Moreover, in this context, the Applicant could have supported his contention in this regard (if they were correct) by producing evidence to the effect that the debtor to the Bank in respect of the amount of $300,000 is the Company or the Subsidiary, which gave a personal covenant to repay, and so that the mortgage over the Residence is merely a third party security. No such evidence was produced. Moreover the mortgage documents attached to Exhibit A5 are to the contrary effect; both mortgage documents indicate that the Borrower (as therein defined) is the Applicant and his wife. The Applicant's contentions in this regard cannot be accepted.

As to capacity to pay then, it is quite clear that at best for the Applicant and assuming a sale of the Residence and payment of the surplus to the Company, the Loan Account would have been reduced only to the extent of the surplus and no more. One of the Applicant's statements contains an allegation to the effect that he and his wife accepted that the Residence might have to be sold and that in such event they would occupy a rental property. That a sale of the Residence might, assuming that the proceeds (over and above that required to discharge the mortgage security in favour of the Bank) might be paid to the Company, does not result in a necessary reference that this was intended. On the contrary the evidence is to the effect that the Loan Account would be repaid only if payment were required. The deferral letter is, in any event evidence of an inability to pay a much lower amount. In addition, bearing in mind and given that the Applicant gave

ATC 149

evidence that Exhibit 12 to the 1990 statement correctly reflected the relevant transaction, the Loan Account was to be repaid out of dividends and there have not for a number of years been any dividend distributions.

45. It may be noted that a large proportion of the increases in the Loan Account in the relevant years resulted from payments of the personal expenses of the Applicant and his wife. Whilst it is unnecessary to go into detail in the context, it is evident from (for example) Exhibit 2 to the 1989 statement, that the Applicant and his wife used the relevant funds to pay for a range of personal items, and including the cost of hotels and restaurant bills in Australia and abroad, shopping expeditions, school fees and other personal items.

46. It is difficult, on a proper consideration of the figures and amounts involved, to reach any conclusion other than that the Applicant and his wife used the Company's money to provide themselves with the moneys required to maintain their personal expenditures and life style, and including in this context the GB property which appears to be a holiday home. That the Company's funds were used in this fashion so as to achieve a favourable tax effect is demonstrated by the level of salaries and allowances, coupled with the reasons given (even if based on erroneous advice) for the writing back in 1990 of the 1989 dividend provision.

47. Counsel for the Applicant contended that the fluctuations to the level of the Loan Account in the relevant tax years 1989 and 1990 demonstrate an intention to repay.

We quote paragraph 19 of Counsel's Applicant's Revised Outline of Submissions:

``The fact that the shareholders repaid the amounts they did in the year ended 30 June 1990 demonstrates that they had an intention to repay their indebtedness. What other purposes would repaying the debt have been directed at? The repayment was not after the commencement of the tax audit. How else could it have been categorised by the Company?''

Counsel for the Applicant submitted also that Case 69 (1950) 1 TBRD 260 is authority for the proposition that fluctuations demonstrate that there is an intention to repay. It is correct that Case 69 dealt with fluctuations in a loan account in relation to section 108. In our opinion, that case states, as a matter of law, that there must be a getting of money into the hands of the taxpayer with no idea of repayment. The case also alludes to a ``permanency of distribution'' which will assist in establishing whether or not the amounts are within the scope of s 108. The factual scenario in each case will inevitably be different; in our application of the facts in this case to these principles, we find that there are strong reasons for concluding that there was a distribution of profits to the Applicant.

48. Having regard to the oral evidence, we find that it is open to the Respondent to form the opinion that the Applicant used the funds provided by the Company with little or no idea of repayment, notwithstanding that he might pay some amounts back if the Company so required. This is consistent with the evidence surrounding the repayments. T21, which is the balance sheet of the Company as at 30 June 1990, shows that the Company had significant current liabilities and owed trade creditors some $108,991. If the Loan Account (which was treated as a current asset), is notionally removed from that statement, there were insufficient current assets to cover current liabilities. The reduction of the Loan Account balance in the year ending 30 June 1992 may perhaps (although there was no evidence to this effect) have been effected to correct this balance. Once this had been done, no further repayment has been made by the Applicant to the Company. Even if fluctuations in the Loan Account are, as contended by Mr Gordon in favour of the Applicant, the Tribunal is entitled to have regard to events (and the fact that there have been no further fluctuations since 1992), the only possible inference is that there is no intention (in the absence of, and by contrast with, need) to repay.

49. There are factors which indicate that the payments to the Applicant and his wife were at least in form, loans. The amounts were characterised as such in the Company's annual returns. Directors' statements were signed by the Applicant and his wife acknowledging that the accounts of the Company recording these payments as a debt were a true and fair view: see Exhibit 5 of the T documents. The relevant Company returns were filed with relevant corporate law authority, namely the NCSC or the ASC.

ATC 150

50. Counsel for the Applicant in his Applicant's Outline of Submissions argued that this last fact demonstrated that the Applicant and his wife were prepared to represent to the world at large that they owed money to the Company. The Applicant in his statement also made much of this point. Paragraph 13 of the 1989 statement is as follows:

``The inclusion of the Company's Balance Sheet as at 30 June 1985 recording the loan accounts with the 1985 Annual Return lodged with the NCSC and the lodgement with the ASC of the 1986-1990 Annual Returns incorporating the key financial data which record the loan accounts, represented to the world at large (and not just the Australian Taxation Office) that we would repay those debts to the Company. If the Company became insolvent then we would have had to repay those debts to the Company.''

The Tribunal does not find that this factor demonstrates that the Applicant had an intention to repay. Apart from the fact that the returns are lodged with the relevant corporate law authority, they do not state that the Applicant and his wife are debtors of the Company; it is in this context apparent from the evidence given by the Applicant in cross- examination that he himself was not fully aware of what was in those returns.

``Q: You are aware of the extent of disclosure in an annual return, aren't you?

A: Oh, not - I couldn't...

Q: In particular the fact that the information is highly abbreviated?

A: I couldn't - I couldn't say 100%, no, I don't - I'm not that familiar with them at all. Again I rely on my accountants to provide me with that.''

(Transcript pages 52 and 53)

On this basis we cannot find that the Applicant was representing anything at all to the world at large. The fact that there was disclosure merely confirms the fact that the transactions took the form of loans. We note (as we have noted previously) that form will not be decisive in a case concerning s 108 of the Act. The fact that the payment may in form resemble a loan does not of itself indicate any intention to repay.

51. It was contended on behalf of the Applicant that this case could and should be distinguished from the facts in
MacFarlane v FC of T 86 ATC 4477. MacFarlane's case dealt with a tax avoidance situation; the fact that MacFarlane's case is distinguishable on this basis does not have the result that s 108 is confined to a tax avoidance or fraud situation. Beaumont J in MacFarlane's case made it perfectly clear that section 108 is designed to bring to tax a disguised distribution of profits.

52. We find that the Respondent was entitled to form the opinion that the payments in question represented distributions of profits; accordingly, and excepting only that the culpability component of the penalty assessments is reduced by agreement to 5%, the assessments are confirmed.

 

Disclaimer and notice of copyright applicable to materials provided by CCH Australia Limited

CCH Australia Limited ("CCH") believes that all information which it has provided in this site is accurate and reliable, but gives no warranty of accuracy or reliability of such information to the reader or any third party. The information provided by CCH is not legal or professional advice. To the extent permitted by law, no responsibility for damages or loss arising in any way out of or in connection with or incidental to any errors or omissions in any information provided is accepted by CCH or by persons involved in the preparation and provision of the information, whether arising from negligence or otherwise, from the use of or results obtained from information supplied by CCH.

The information provided by CCH includes history notes and other value-added features which are subject to CCH copyright. No CCH material may be copied, reproduced, republished, uploaded, posted, transmitted, or distributed in any way, except that you may download one copy for your personal use only, provided you keep intact all copyright and other proprietary notices. In particular, the reproduction of any part of the information for sale or incorporation in any product intended for sale is prohibited without CCH's prior consent.