CMS FE guidelines a. Purpose and focus

b. These guidelines provide: guidance to ATO active compliance officers as to the evidentiary and information requirements to support the forming of an opinion that there has been fraud or evasion that will allow for an amendment at any time; and examples and a case study to show how issues, evidence and law are to be presented.

c. The main focus of these guidelines is to ensure that the forming of an opinion as to fraud or evasion will be fully supportable on an application of the relevant law and not be open to claims that the opinion had been formed for an improper purpose.

d. These guidelines are also intended to ensure that the policy set out at Appendix 1 of Practice Statement Law Administration PS LA 2008/6 is followed. In particular, that the opinion that there has been fraud or evasion is appropriately formed by senior officers in accordance with that Practice Statement. e. Statutory context

f. These guidelines deal with fraud or evasion in the context of item 5 of the Table in subsection 170(1) of the Income Tax Assessment Act 1936 (ITAA 1936) which states that the

‘Commissioner may amend an assessment at any time if he or she is of the opinion that there has been fraud or evasion’.

g. It should be noted that for the 2004-05 and later years of income, subsection 170(1) also applies to assessments where no tax is payable.i

h. Both the former paragraph 170(2)(a) and the current subsection 170(1) of the ITAA 1936 apply to amended assessments.ii

i. Item 5 of the table in Subsection 170(1) does not make reference to the phrase ‘an avoidance of tax’. The former paragraph 170 (2)(a) stated that the Commissioner could amend an assessment at any time where the ‘avoidance of tax’ was due to fraud or evasion. The Explanatory Memorandumiii which accompanied the Bill that introduced subsection 170 (1) states that “the omission of the phrase referring to 'an avoidance of tax' from the old paragraph 170(2)(a) is not expected to have practical significance”. j. Therefore, for practical purposes these guidelines have been drafted on the basis that a taxpayer has a tax shortfall. They address amendment on the basis of fraud or evasion where a shortfall was directly attributable to the taxpayer’s (or their agent’s) behaviours. The guidelines also consider whether amendment is appropriate on the basis of fraud or evasion where a shortfall is only indirectly attributable to the taxpayer’s behaviours. k. Subsection 170(1) allows the Commissioner to amend an assessment where he forms an opinion that there has been an avoidance of tax due either to fraud or evasion. Although there are some common elements, there are also some fundamental differences. As such, each requires separate consideration. The analysis must be undertaken by reference to the different elements that apply and must be fully supported by facts and evidence. l. Evasion m. It is useful first to contrast ‘evasion’ with ‘avoidance’ of tax. The meaning of, and contrast between, avoidance and evasion was considered by Fullagar Jiv:

‘The word “avoidance”, unlike the word “evasion” does not… involve any notion of active or passive fault on the part of the taxpayer. If the absence of full disclosure has in fact resulted in less tax being paid than ought to have been paid, there has been avoidance of tax within the meaning of [the former] s 170(2).’ n. The courts have been reluctant to define the term ‘evasion’. Jordan CJv indicated that ‘evasion’ in a tax context is behaviour that is tantamount to intentionally keeping the Commissioner ‘in the dark’. Jordan CJ said (at 199):

‘Even where a taxpayer is firmly of opinion that his view is the correct one, he may be guilty of evasion by seeking to prevent the Commissioner from applying his mind to some debatable question, e.g., whether a particular item of income should be assessed: the evasion in such cases consists in the attempt to preclude the presentation of any opposing view or to exclude its application.’ o. On appeal to the High Court of Australia (79 CLR 296) Dixon J developed the views expressed by Jordan CJ. Dixon J said (at 313) that it was:

‘…necessary to consider what relevant conduct amounts to evasion and whether the Board correctly applied their minds to the question of evasion. I think it is unwise to attempt to define the word “evasion”. … it means more than avoid and also more than a mere withholding of information or the mere furnishing of misleading information. It is probably safe to say that some blameworthy act or omission on the part of the taxpayer or those for whom he is responsible, is contemplated. An intention to withhold information lest the Commissioner should consider the taxpayer liable to a greater extent than the taxpayer is prepared to concede, is conduct which, if the result is to avoid tax, would justify finding evasion.’ (emphasis added) p. Accordingly, evasion involves some blameworthy act or omission. Typically, evasion in the income tax context will involve omitting income from a return or wrongly claiming a deduction (intentional or otherwise) without any credible or excusable explanation for either action. The intentional withholding of information referred to in the above extract from the decision of Dixon J is but one example of calculated behaviour which would justify a finding of evasion. q. Behaviour contemplated by evasion

r. Before the Commissioner can form an opinion that there has been an avoidance of tax due to evasion, there needs to be:

1. An avoidance of tax in the sense that less tax has been paid than ought to have been paid (i.e. there is an identified tax shortfall); and

2. A blameworthy act or omission which has resulted in the tax shortfall.

s. Evasion falls between an innocent mistake on the one hand and fraud on the other and involves some blameworthy act or omission. Whether a taxpayer’s acts (including omissions) can be said to be blameworthy is an objective test based on what a reasonable person would do in any given situation. A person is usually presumed to intend the natural consequences of his or her own actsvi:

‘… There is no suggestion that the taxpayer detected the omissions from the returns and wilfully withheld the information from her agents. Upon the evidence it seems to be that the taxpayer simply approached the task of signing her returns with a lack of care that amounted virtually to indifference to their correctness. If they were understated (as indeed they proved to be), I do not think that the taxpayer can reasonably raise her own carelessness as an excuse. Such neglect must surely be blameworthy, and sufficient to justify the opinion that the avoidance of tax was due to evasion…’vii

t. The most common example of evasion is where a taxpayer has omitted income from their tax return and not provided any credible explanation: e.g. a taxpayer who consistently understates his business income.viii

u. Unbusinesslike behaviour (such as a failure to keep proper records) or indifference to the accuracy of a return before signing and lodging may also support a finding of evasion where it results in a tax shortfall.

v. However, a finding of evasion may be rebutted by other evidence which demonstrates that the taxpayer acted reasonably and honestly in, for example, omitting income from their tax return. In such a situation the taxpayer could not be considered to have acted in a blameworthy way, notwithstanding that there may be a tax shortfall. Therefore, it is useful to ask the following questions: what should a person, standing in the taxpayer’s shoes, be expected to have done if acting reasonably and honestly? what reasons have been provided by the taxpayer for not doing what would be expected of such a person who acted reasonably and honestly? to what extent are the taxpayer’s acts or omissions still considered to be blameworthy in light of the reasons provided by the taxpayer? w. Elements of evasion

x. An amendment based on the fraud or evasion power must be supported by the facts and evidence which exist in that particular case. The facts and evidence must be considered against the elements of the law. These elements are the requirements that must be proved for the provision to apply. These requirements are found in subsection 170(1) itself or in the case law which has considered that provision or its predecessors.

y. The elements which must be considered for evasion are listed below (fraud is considered under a separate heading later). However, it should be noted that the elements may change over time either because the provision is amended or its operation is further clarified by the courts. As such, it is necessary that the most current law is considered when undertaking the analysis.

z. The elements to be established which prove evasion are:

a There must be an avoidance of tax resulting in a tax shortfall.ix

b There must be a blameworthy act or omission on the part of the taxpayer or their agent/trustee.x aa. Establishing evasion

ab. Once the Commissioner has formed the opinion that the tax shortfall was due to that blameworthy act or omission he may revise the assessment at any time on the basis of evasion.xi

ac. The material facts will need to establish whether the conduct in question is blameworthy in the Denver sense. In the absence of an admission it is necessary to consider the facts and draw a conclusion, from those facts, as to whether the taxpayer engaged in evasion. Factors which will assist in drawing such a conclusion are discussed below.

ad. Reasons provided by the taxpayer and/or adviser for making the statements that gave rise to the tax shortfall are relevant but not determinative. The analysis in support of a finding of evasion is an objective exercise going to what a reasonable person would have done in the circumstances. Therefore, it is necessary to also take into account matters such as: the number of years over which the income was omitted or the deductions were over-claimed the steps involved that led to the tax shortfall, including the degree of any artifice involved (if any) the manner in which the taxpayer kept the relevant records the attention given to the particular matter by the taxpayer how the taxpayer had attended to other taxation obligations the complexity of the relevant law what (if any) uncertainty is there around the legislative provision or legal issue the nature of any information provided by the ATO in relation to the issue (rulings, ATO IDs, other guides, etc.) and whether that information was ambiguous or capable of misleading the sophistication of the taxpayer and/or adviser (including their knowledge of the ATO procedures and systems) the nature of any professional advice provided by an adviser and the questions asked of the adviser by the taxpayer in relation to the issue other means available to the taxpayer and/or the adviser to clarify the law (including the rulings system) information or questions on the return form that might alert a taxpayer to the relevance of certain transactions other information provided by the ATO that might alert a taxpayer to the relevance of certain transactions.

ae. The above list of matters is not exhaustive. Each case will need to be considered on its own particular facts which may well point to other relevant matters not listed. af. Fraud

ag. Fraud involves the making of a false statement to the Commissioner relevant to the taxpayer’s liability to tax which the person makesxii: knowing it to be false, or without belief in its truth, or recklessly, being careless or indifferent as to whether it is true or false.

ah. A false statement may be made orally or in writing and is simply one that is contrary to fact, untrue, erroneous or incorrectxiii:

ai. Lord Hershell made the leading statement concerning what is meant by fraudxiv: ‘…fraud is proved when it is shewn that a false representation has been made (1) knowingly, or (2) without a belief in its truth, or (3) recklessly, careless whether it be true or false. Although I have treated the second and third as distinct cases, I think the third is but an instance of the second, for one who makes a statement under such circumstances can have no real belief in the truth of what he states.’xv

aj. Therefore, in the context of the Commissioner’s power to amend, any false representation that results in tax shortfall will be fraudulent if the evidence shows that it was made knowing that it was false or with such a degree of indifference to, or lack of concern about its correctness, that it can be concluded that the taxpayer could not have held any real belief in its truth. ak. Elements of fraud

al. As noted above, an amendment based on the fraud or evasion power must be supported by the facts and evidence which exist in that particular case. The facts and evidence must be considered against the elements of the law.

am. The elements which must be considered for fraud are listed below. As mentioned, elements may change over time. As such, it is necessary that the most current law is considered when undertaking the analysis.

an. Before the Commissioner can form an opinion that there has been a tax shortfall due to fraud, there needs to be:

a) an avoidance of tax resulting in a tax shortfall;xvi and

b) representations made to the Commissioner that resulted in the tax shortfall which the taxpayer: knew were incorrect or held no belief in their truth or made recklessly or indifferently as to whether the representations were true or false.

ao. Once the Commissioner has formed the opinion that the tax shortfall was due to false representation/s he may revise the assessment at any time on the basis of fraud.xvii ap. Establishing fraud

aq. The primary facts will need to establish that the taxpayer knowingly made false representations or held no genuine belief in the representations put to the Commissioner. This will mean that the primary facts and evidence will have to establish that the taxpayer either knew the correct position and chose not to follow it or was so reckless or indifferent to the correct position that he or she could not be taken to hold any genuine belief in the correctness of those representations. ar. NB: The same power to amend arises regardless of whether fraud or evasion is involved. The matters listed above at paragraph 24 for evasion may also be relevant to determine whether fraud can be established. It is important to remember that it may be more appropriate to proceed on the basis of evasion rather than fraud where there is a lack of clear evidence to form an opinion of fraud. as. It is worth reiterating that a person's intention is a question of fact. It may be proved by direct evidence of a person's state of mind (e.g. an admission), but may also be inferred or imputed from a consideration of all the relevant circumstances. In most cases, the analysis will need to be undertaken in the absence of an admission. As such, it will be necessary to consider the facts and draw a conclusion, from those facts, as to whether the taxpayer intended to make the false statement, held no belief in its truth or was reckless as to its veracity. at. Specific issues au. Proper purpose av. PS LA 2008/6 states that ‘item 5 is no basis for making corrections to assessments that could and should have been made within the ordinary time limits but were not’. It follows that the ATO must adopt work practices which provide assurance that the amendment power is being used appropriately and not to overcome a lack of timeliness. aw. To ensure that the forming of an opinion of fraud or evasion is being used for a proper purpose, fraud or evasion arguments must not be run except in cases where the arguments are clearly supportable on an application of the law to the relevant facts and those facts are in turn supported by either oral or documentary evidence. ax. Consequently, findings of fraud or evasion for amendment purposes which rely on assumptions, suspicions, opinions and/or bald assertions, or where gaps in evidence have not been properly explained and/or considered will not win support. Such findings would be contrary to the proper administration of the law and would leave the ATO open to criticism that it is using fraud or evasion for some extraneous purpose, such as overcoming its own lack of timeliness. ay. Acts of agent az. Taxpayers are responsible for the acts of agents and/or trustees. The common law principle that a principal may be held responsible for the fraudulent conduct of an agent applies, even though the principal did not authorise, or even know of, the fraudulent act of the agent..

‘To enliven the power to amend an assessment under s.170(2)(a), the Commissioner only has to be of the opinion that an avoidance of tax is due to fraud or evasion. There is no justification for implying a limitation on these clear words to restrict the Commissioner’s power under the provision to amend an assessment only where the avoidance of tax is due to fraud or evasion by the taxpayer personally. The wording of s.170(2)(a) is apt to empower the Commissioner to issue an amended assessment where an avoidance of tax is due to the fraud or evasion of the taxpayer’s agent engaged to prepare returns signed by the taxpayer and to lodge those returns on the taxpayer’s behalf, as Hart did here for Askena and the applicants.’xviii ba. Acts of trustee

bb. Acts of a trustee may also give rise to the forming of a fraud or evasion opinion with respect to a beneficiary’s assessment.xix Senior Member Pascoe stated:

‘…it is not necessary that the particular taxpayer is guilty or fraud or evasion provided the avoidance of tax was due to fraud and evasion and the taxpayer would have benefited from such avoidance of tax’.

This approach is supported by:

The ordinary meaning of the words of subsection 170(1) and the former paragraph 170(2)(a): Kajewski v FCT.

The context of Division 6 of the ITAA 1936, where a trustee determines the income of the trust in such a manner so as to avoid payment of tax by it or the beneficiaries on the net income of the trust, the beneficiaries stand to benefit from the avoidance.

Its consistency with legal principle. A trustee will be taken to know of its duties to adhere to the terms of the trust, and to keep and render proper accounts. At the time of the trustee’s fraud or evasion a beneficiary may have limited access to information about the trust and the determination and distribution of the income of the trust. They may not have constructive knowledge of the trustee’s fraud or evasion. But they do have a right against the trustee for the due administration of the trust, a right to disclaim for each exercise of the discretion, and a right to compensation in the event of a breach of trust.

bc. The Commissioner’s opinion as to the fraud or evasion of the trustee is therefore sufficient to enliven the Commissioner’s power to amend the assessments of the beneficiaries who have benefited from the avoidance and so they have a tax shortfall. bd. Interaction between voluntary disclosures & fraud or evasion

be. Where a taxpayer makes a voluntary disclosure outside of the statutory time limits and the Commissioner is relying on fraud or evasion to amend the taxpayer’s return, an opinion on fraud or evasion must be formed and recorded in writing. That is, the normal processes must be followed. bf. The fact that the taxpayer has or has not made a voluntary disclosure does not impact upon the requirement for the Commissioner to form an opinion on fraud or evasion where he is seeking to amend beyond the permitted time period. The Commissioner’s administrative practices require the opinion to be formed by an authorised officer and recorded in writing along with the basis for the opinion. bg. Interaction between penalties & fraud or evasion

bh. The legislative provisions that impose penalties and the provisions dealing with the amendment of assessment are distinct. Whilst the concepts involved may be similar there is no direct relationship between forming an opinion as to fraud or evasion and the level of penalties that should be imposed.

bi. Behaviour which amounts to evasion could potentially fall within either the 50% or 75% level of base penalty. That is, where a taxpayer intentionally disregards the law a base penalty amount of 75% will apply under item 1 in the table in subsection 284-90(1) of the TAA 1953, and it is very likely that such behaviour would at least constitute evasion. Alternatively, the behaviour of a taxpayer who is reckless and subject to a base penalty amount of 50% under item 2 may also be characterised as a ‘blameworthy act or omission’ as referred to by Dixon J in Denver Chemical Manufacturing and constitute evasion.

bj. For example, a situation where a taxpayer is held to have evaded tax due to the behaviour of his or her tax adviser who enters the taxpayer into an arrangement designed to avoid paying tax, may be seen as being less culpable than a taxpayer who manipulates his or her company’s accounting system such that millions of dollars of income is not declared. The taxpayer in the former situation may think what they have done is lawful and are reliant on advice from the tax adviser. The latter behaviour may warrant a greater penalty than the former, whilst each behaviour may still be characterised as evasion.

bk. MT 2008/1 contains the Commissioner’s views on the meaning of reasonable care, recklessness and intentional disregard in the context of the penalties legislation as used in Subdivision 284-B of Schedule 1 of the TAA 1953. The criteria and approaches adopted in MT 2008/1 should be applied as discussed in the ruling, regardless of whether the taxpayer’s behaviour is characterised as fraud or evasion for the purposes of item 5 of subsection 170(1) of the ITAA 1936.

Can a taxpayer who holds a genuine belief that he or she is not liable to tax or who has a reasonably arguable position engage in fraud or evasion?

bl. A taxpayer who holds a genuine belief that he or she is not liable to tax is required to put to the Commissioner material on which the Commissioner may raise a contrary contention. The issue is not whether the taxpayer genuinely holds a belief that there is no liability to tax, but whether the taxpayer could objectively be said to have acted reasonably and honestly in precluding the Commissioner from forming his own view on the material.xx bm. Clearly, taxpayers cannot remove themselves from controversy over their tax treatment simply by obtaining legal advice on which they rely:

‘the mere taking of advice favourable to a taxpayer’s course of conduct in omitting from his returns income, which is proved to be assessable for income tax, does not of itself resolve the question whether the avoidance of tax in a particular case is due to evasion’.xxi bn. Even if specific advice was provided and relied on by the taxpayer, the essential question remains, that is, ‘whether in being guided by such advice the taxpayer acted honestly and reasonably in relation to his obligations under the Income Tax Assessment Acts’.xxii bo. Whether it can be proved that the taxpayer did not act honestly and reasonably will depend on the characteristics of the taxpayer and the nature of the advice given. Where the advice is guarded, qualified, equivocal and/or ill considered because it is given without all the relevant facts having been disclosed to the adviser, it is more likely that acting on that advice may be viewed as dishonest and unreasonable. However, it still remains that the circumstances and attributes of the taxpayer receiving such advice will need to be considered before any conclusion can be made. bp. The term ‘reasonably arguable’ is an expression used in the penalty provisions (see point 5 above); it is not used in section 170. A taxpayer with a reasonably arguable position is relieved from liability for an administrative penalty. It does not follow that a taxpayer with a reasonably arguable position cannot engage in fraud or evasion. As a matter of statutory construction the law does not actually provide that a taxpayer, who has adopted a reasonably arguable position, should be free from administrative action after the expiration of the normal period for amendment. The question of whether the taxpayer has adopted a reasonably arguable position is not as such a relevant consideration for the application of section 170. bq. That is not to say that the degree of reasonableness of the taxpayer’s position is not a relevant consideration. The more reasonable the taxpayer’s position, the less likely it will be that a taxpayer will be blameworthy in acting on it. Where an area of the law is extremely unclear, it may be that acting on a particular view is not blameworthy, even if that view were ultimately incorrect. However, as stated, in considering the degree of blameworthiness, it would be incorrect to focus on that point in the spectrum which the penalty provisions identify as a reasonably arguable position and substitute a conclusion under that test for asking whether the taxpayer has engaged in some blameworthy act or omission. br. The proposition the ATO draws from Denver Chemical Manufacturing is that a taxpayer who knowingly takes a position that the Commissioner does not share (and which subsequently turns out to be wrong) is under a duty to draw the Commissioner’s attention to that fact and cannot simply ignore it and hope the Commissioner never finds out. A taxpayer has means of raising matters for the Commissioner’s attention outside the return process. bs. Intentionally ignoring the Commissioner’s views propounded in rulings or other advice precisely for the purpose of guiding what is to be put in tax returns may be blameworthy conduct amounting to evasion.xxiii

Whether the “blameworthy act” is limited to the tax return or extends to actions of the taxpayer outside of lodging the tax return (for example actions during the audit)

bt. Blameworthy acts are not limited to the lodgement of the return. Baripp and Denver Chemical Manufacturingxxiv provide authority for considering behaviour both before and after the preparation of a return in determining whether evasion has occurred.

bu. In Denver Chemicals, the High Court took the following factors into account when concluding that the taxpayer had engaged in evasion: the Commissioner had provided advice to Denver on how to calculate its liability for tax and Denver’s Mr Woodward chose to ignore this advice after receiving different advice from his neighbour; no clarification of the new method of returning sales income in 1923 or later years was sought by Denver from the Commissioner, and

Denver withheld profit and loss and balance sheet information from the Commissioner for the 1927 and 1928 financial years, which would have revealed sales income from outside NSW.

bv. The last point is an example of post assessment behaviour which was relevant in the High Court’s determination that the taxpayer had engaged in evasion. bw. Amendment not completely related to fraud or evasion

Whether the Commissioner can amend all issues for an income year which have resulted in an avoidance of tax, including where only some of those issues are due to fraud or evasion

bx. It is open for the Commissioner to review the entire assessment. However, judgment and caution must be exercised in cases where proposed revisions become more distant from the fraud or evasion opinion either legislatively or temporally. For such decisions case officers must refer contentious issues to the appropriate technical specialist area in their BSL for advice.

by. If a taxpayer has omitted income or over claimed deductions and the taxpayer’s actions and/or omissions constitute fraud or evasion then all issues in that year may be reconsidered in determining their taxable income.

bz. In Denver Chemical Manufacturing Dixon J held that the Commissioner could adopt a different basis than he had previously adopted for determining the taxpayer’s liability for tax when he amended the taxpayer’s return on the basis of fraud or evasion. Dixon J stated that the Commissioner: ‘was at liberty to reconsider the whole question of how he would ascertain the assessable income and taxable income of the taxpayer.’xxv ca. The Commissioner is obliged to consider all issues and all relevant circumstances so that he correctly ascertains the taxpayer’s taxable income. The assessment process starts afresh beyond the normal time period permitted by the Act because the taxpayer has engaged in fraud or evasion. Once the assessment process starts the Commissioner is bound to correctly ascertain assessable income and all issues can be amended because all issues are relevant to determining the taxpayer’s correct liability to tax. cb. Administrative and procedural issues cc. Timing of the fraud or evasion opinion cd. Procedurally, the opinion should be formed prior to issuing the position paper or reasons for decision to the taxpayer. If, after the position paper has been issued, the taxpayer provides additional information relevant to the ATO’s fraud or evasion opinion, then a new opinion based on the additional facts must be formed, or the original opinion withdrawn as appropriate. ce. Where a reasons for decision accompany an assessment the taxpayer has recourse to the normal objection processes. If the taxpayer provides information at objection which causes the ATO to change its position on its fraud or evasion opinion, then the opinion should be withdrawn. cf. A failure by the Commissioner to have formed an opinion that there was fraud or evasion prior to, or at the time of, raising an amended assessment does not invalidate that assessment (by operation of section 175 and subsection 177(1) ITAA 1936), but does go to whether the amended assessment is excessive because the Commissioner did not have the authority to impose the increased/altered liability. cg. However, given that the amended assessment is valid, the Commissioner can form an opinion on fraud or evasion at the objection stage. Subsection 169A(3) of the ITAA 1936 will apply to deem the opinion to have been made when the amended assessment was made. This results in the amended assessment being treated as appropriately authorised in terms of the requirement for the Commissioner to form an opinion on fraud or evasion (cf FC of T v BHP Billiton Finance Ltd 2010 ATC 20-169, which confirmed the decision and detailed analysis on the operation of s169A(3) by Gordon J in BHP Billiton Finance v FC of T 2009 ATC 20-097). ch. Provided the amount under the objection decision remains the same as the amount under the amended assessment it will not be necessary to issue new amended assessments. An increase or decrease in the amount included in the amended assessment at objection stage would require an amended assessment. ci. No requirement for an independent decision maker cj. There is no requirement that an opinion as to fraud or evasion be formed by an officer who is independent from, or separate to, the audit process. In other words, it is entirely appropriate for an officer who has been involved in the audit to form the fraud or evasion opinion. It is expected that the officer forming the fraud or evasion opinion will have a good understanding of the facts and evidence in the case and as such will be well placed to form the opinion. The fraud or evasion opinion must be formed by an officer who has been delegated or authorised by the Commissioner to form such opinions. ck. Further, the role of the S&ME Technical Panel and SNC Technical Panel in technically reviewing all fraud or evasion submissions assists in providing technical assurance in this important area. cl. Both fraud and evasion should be considered cm. Subsection 170(1) does not require both fraud and evasion to be established to extend the statutory amendment period. Similarly, the Commissioner is not required by subsection 170(1) to consider whether a taxpayer has engaged in both fraud and evasion. However, as a matter of administrative practice ATO employees considering whether the fraud or evasion amendment power should be exercised must separately consider whether the conduct amounts to fraud, evasion or both. This will ensure that alternative arguments are available to the Commissioner should the forming of the opinion be subject to review. cn. Cases where multiple years or periods are involved co. Where consideration is given to multiple years or periods the decision maker is required to consider each year or period individually and form an opinion in respect of each. The facts and circumstances of a case must evidence that the evasive or fraudulent behaviours were displayed by the taxpayer in each year for which a fraud or evasion opinion is formed. It is not sufficient that a period be considered where culpable behaviour was exhibited in only some of the years, or where the culpable behaviour exhibited over time would give the impression of fraud or evasion. However, culpable behaviour exhibited by a taxpayer may have been exhibited over a number of income years or periods. Similarly, different culpable behaviour may have been exhibited in different income years or periods. Where the behaviour is consistent across multiple periods these may be considered as a single submission as long as it is clearly explained. Where different culpable behaviour has been exhibited in different income years this must also be clearly explained. cp. Referral to the SNC or S&ME Technical Panels

cq. SNC and S&ME have dedicated Panels which provide advice on certain technical decisions. A finding of fraud or evasion in terms of subsection 170(1) or the former paragraph 170(2)(a) of the ITAA 1936 must be referred for assurance to the Technical Panel prior to the forming of the opinion by the authorised officer. This is required irrespective of Technical Excellence Practice or Case Leadership involvement in S&ME or SNC Technical involvement in SNC. The relevant Technical Panel referral guidelines require that the Panel be provided with a submission arguing why such a finding can be made.

cr. The authorised officer may have regard to the Technical Panel’s advice. However, it should be noted that the decision to form the fraud or evasion opinion remains with the properly authorised officer. The Panel is not a decision making body. Its role is to provide advice to the decision maker on the technical merits of the arguments raised in the submission. cs. Suspected criminal fraud

ct. There will be occasions where a ATO employee is of the view that external fraud may have been committed against the revenue system which will require a referral to Serious Non-Compliance (SNC) in accordance with Practice Statement PS CM 2007/02 (Fraud Control and the prosecution process). This view can be formed at the beginning, during or end of any compliance or review activity (and includes cases where a finding of fraud has been made for amendment purposes). cu. Supporting and recording the forming of an opinion

cv. The forming of the Commissioner’s opinion that there has been an avoidance of tax due to fraud or evasion may be successfully challenged by way of judicial review (see Appendix 2 of PS LA 2008/6). In order to substantiate the decision the forming of the opinion must be properly documented and demonstrate that the opinion has not been arrived at capriciously, or upon irrelevant or extraneous factors, and/or failed to take into account relevant grounds. It is therefore vital that, in forming an opinion that there has been an avoidance of tax due to fraud or evasion, the opinion: is properly documented; sets out all the material facts; refers to the evidence from which the material facts were drawn, the reliability of the evidence and any conflicting material; highlights any gaps in the evidence which remain to be investigated or explained and why that evidence has not been sought; and explains the full administrative context in which the decision to rely on fraud or evasion was made.

cw. To assist in this regard, the following templates are available: a ATO Facts and Evidence Worksheet fraud and evasion template a fraud and evasion submission template to support the basis of the recommendation to the authorised officer who will form the opinion that there has been fraud or evasion a fraud and evasion opinion template to be used by the authorised officer to record the basis for forming the opinion. a fraud and evasion flowchart showing how the Fraud and Evasion worksheets are completed within SNC. cx. Example and case study

cy. The following attachments contain examples and a ATO Facts and Evidence Worksheet case study:

Attachment A – Examples

Attachment B – Case Study cz. Related Material

ATO employees should also refer to:

da. CMPS 2007/02 – ‘Fraud Control and the Prosecution Process’ (Intranet link to CMPS 2007/02 is here)

db. LAPS 2008/6 – Fraud or Evasion (Further analysis of the case law on evasion is set out at Appendix 4 of PS LA 2008/6). dc. Attachments dd. Attachment A – Examples

About these examples

de. These examples are intended to provide guidance for ATO employees on how to identify relevant issues when considering the fraud or evasion amendment power. They are not intended to provide a full analysis of the facts, evidence and application of the law. df. For a more thorough analysis please refer to the fraud or evasion case study on ‘Helen Green’ which uses the ATO Facts & Evidence worksheet to explain how to apply this area of the law.

Example 1 – mischaracterisation and omission of income based upon incorrect advice

dg. Simon runs a small business which is his primary source of income. He also owns a rented investment property, and holds shares in a small number of ASX listed companies.

dh. Simon has a good tax compliance history. Over an extended period he has consistently lodged his tax returns and Business Activity Statements on time and declared the correct amount of taxable income.

di. For his 2002 income tax return, Simon correctly declared his business and rental income, bank account interest income and dividends received from his shares. His taxable income was approximately $80,000.

dj. The ATO, as a result of data matching, became aware that XYZ Pty Ltd had distributed substantial funds in addition to the ordinary dividend to its shareholders in 2002 as a ‘return of capital’. Simon had included the dividend amount in his tax return but not the return of capital which totalled $10,000. He did not include the $10,000 because he understood (correctly) that a return of capital did not fall within the definition of a “dividend” in subsection 6(1) ITAA 1936 and was not assessable income.

dk. The Commissioner of Taxation formed the view after auditing XYZ Pty Ltd that the return of capital had not been undertaken in accordance with the strict legislative requirements. Accordingly section 45B ITAA 1936 applied to make the amounts paid in substitution for dividends to be unfranked dividends for income tax purposes. The Commissioner subsequently made a determination treating the XYZ Pty Ltd capital distributions as unfranked dividends.

dl. The ATO notified Simon that he had incorrectly omitted the unfranked dividend amount from his 2002 income tax return. Simon responded to the ATO acknowledging his mistake, but explained that he had assumed the amount was non taxable based upon XYZ Pty Ltd’s advice.

dm. As evidence Simon provided the ATO with a letter which discussed the tax effects from XYZ Pty Ltd to its shareholders at the time of the return of capital, although the letter did recommend that shareholders seek independent tax advice. Simon also provided the ATO with contemporaneous notes he’d kept from a conversation with his tax agent. The notes recorded that Simon and his tax agent agreed that the amount was non assessable.

dn. The period of review for amending Simon’s tax return has now expired pursuant to section 170 ITAA 1936. Simon has a tax shortfall arising from not paying tax on the unfranked dividend as he did not include the amount in his income tax return. do. However, notwithstanding the avoidance of tax, the Commissioner will only be able to amend Simon’s 2002 assessment if he forms the opinion that Simon has engaged in fraud or evasion.

Q) Should the Commissioner form an opinion that Simon has engaged in behaviour that would constitute fraud or evasion?

A) No.

dp. A brief analysis of the key considerations in deciding whether fraud or evasion exists in the circumstances is presented below. For further detail on how to apply the fraud or evasion amendment power, officers should consult PS LA 2008/6 and the Fraud or Evasion guidelines.

dq. Address the issue of evasion first before considering fraud.

The elements of evasion

dr. The elements to be established which prove evasion are:

a. there must be an avoidance of tax resulting in a tax shortfall: and

b. there must be a blameworthy act or omission on the part of the taxpayer or their agent.

Has Simon avoided tax resulting in a tax shortfall?

ds. The facts demonstrate that Simon has avoided tax by not declaring the unfranked dividend in his 2002 income tax return. This has resulted in a tax shortfall. Therefore the first element is satisfied and this discussion will focus on whether there has been a blameworthy act or omission by Simon or his agent.

Has Simon (or his agent) committed a blameworthy act or omission?

dt. A blameworthy act may entail Simon telling the Commissioner something which was relevant to his tax liability which he knew, or ought to have known, to be wrong.

du. A blameworthy omission may also entail Simon not making known to the Commissioner something he knew (our ought to have known) which the Commissioner would have considered relevant when assessing Simon’s tax liability.

dv. It is important to distinguish Simon’s actions from those of XYZ Pty Ltd. XYZ Pty Ltd is not considered to be Simon’s ‘agent’ for taxation purposes, therefore Simon cannot be held responsible for the company’s actions.xxvi

dw. Simon has mistakenly characterised the payment to him as a return of capital and not included the amount in his tax return. This constitutes an omission. However, this fact alone would not be sufficient to conclude that it was a blameworthy omission.

dx. Here are some examples of indicators and their application to the facts that assist in deciding whether Simon’s omission was blameworthy: the number of years involved: only one income year and one transaction. the steps involved that led to the tax shortfall: Simon had a passive role in receiving the return of capital from XYZ Pty Ltd. It can reasonably be concluded that much of the fault for the mischaracterisation lies with XYZ Pty Ltd, the manner in which Simon kept the relevant records: Simon kept relevant records and has been co-operative in providing them to the ATO. These records include documents which explain the reasons for his omission, how Simon attended to his other taxation obligations: Simon has a good compliance history and no other issues have arisen, the complexity of the relevant law: the law relating to return of capital and the Commissioner’s discretion under section 45B can be considered as complex. Simon and his tax agent made reasonable attempts to apply the law to the facts as they understood them at the time, the nature of any professional advice provided by an adviser and the questions asked of the adviser by Simon in relation to the issue: Simon relied upon advice provided by XYZ Pty Ltd who were in a better position to explain the tax effects of its return of capital. Indeed, it would have been difficult for Simon or his tax agent to ascertain that the return of capital was not undertaken correctly in accordance with the law because much of the information was private to XYZ Pty Ltd.

dy. These indicators are indicative and not exhaustive.

Conclusion

dz. As the factors above indicate, Simon’s omission should not be characterised as blameworthy. Simon has made an honest and reasonable mistake in omitting the amount from his tax return.

Example 2 – mischaracterisation of income, withholding of information from the Commissioner and failure to keep records

ea. Chris has a number of investments both in Australia and overseas. He is a director of numerous property development and building companies and travels regularly for business. His investments primarily consist of shares and interests in residential property development. He has bought and sold numerous residential properties “off the plan” over an extended period.

eb. Chris has a good tax compliance history having lodged his tax returns consistently on time and his average income as declared has been approximately $150,000 per annum.

ec. In early 2004 Chris purchased two adjoining apartments off the plan which were to be constructed in late 2004 with an expected completion date in late 2005. In early 2005, during the construction phase, Chris sold both apartments and made a significant profit due to the rise in property values. He declared the capital gain of approximately $200,000 in his 2005 tax return.

ed. The ATO sent Chris a letter in 2007 requesting information on the purchase and sale of the two neighbouring apartments. Chris responded by stating that he has very few records relating to the transactions and must have lost them or thrown them out. He stated that he has correctly declared the income as a capital gain and was entitled to the discount as he held the properties for more than 12 months (he held them for 13 months).

ee. Due to the lack of information provided by Chris, the ATO conducts an audit. Chris’ previous tax returns in which he had declared numerous capital gains on residential property sales are reviewed. Chris has sold eight properties in the income years 2000 – 2004, all for a profit and most with 15 months of their purchase date.

ef. At the time of the audit Chris had held another four properties for a period of less than twelve months. The auditor has concerns as to whether Chris has correctly classified this income as capital (instead of ordinary income) given that he has not been holding the properties long term, selling them after having held them for just longer than 12 months and claiming the CGT discount.

eg. Chris stated that he was aware of the difference between capital and income and that his purpose in purchasing the apartments was to live in one himself and have his parents live in the other. He had intended to hold onto the apartments long term, but had then decided to sell them because his circumstances changed.

eh. Chris stated that he received advice that the sales would result in capital gains from a business associate who was an accountant. However, when asked, Chris stated that he could not remember the accountant’s name nor did he have anything in writing.

ei. The auditor is concerned that Chris’ explanations do not accord with the facts and the lack of evidence to support his statements. For example, Chris’ parents live overseas. Further, Chris has treated all of his off the plan sales as capital gains, even though repetitive investments of this kind would usually be classified as ordinary income. A check with his former tax agent revealed that the agent had argued with Chris over the treatment of the profits as capital gains.

ej. After further inquiries the auditor concludes that Chris has incorrectly characterised the profits from the sales of the two apartments. The auditor’s findings are that Chris incorrectly characterised the profits as capital gains and claimed the 50% discount, instead of declaring the profits as ordinary income.

ek. The standard two year period of review for Chris’ 2007 income tax return has now expired. It can only be amended if the opinion is formed that Chris has engaged in fraud or evasion.

Q) Should the Commissioner form an opinion that Chris has engaged in behaviour that would constitute fraud or evasion? A) Yes.

el. Provided below is a brief analysis of the key considerations in deciding whether fraud or evasion exists in the circumstances as presented. For further detail on how to apply the fraud or evasion amendment power, officers should consult PS LA 2008/6 and the Fraud or Evasion guidelines.

em. The usual method is to address the issue of evasion first before considering fraud.

The elements of evasion

en. The elements to be established which prove evasion are:

a there must be an avoidance of tax resulting in a tax shortfall, and

b there must be a blameworthy act or omission on the part of the taxpayer or their agent.

Has Chris avoided tax resulting in a tax shortfall?

eo. Yes. By incorrectly including the profits from sale of the apartments as capital gains (and taking advantage of the capital gains tax discount) instead of ordinary income, Chris has avoided tax because he has paid less tax than is properly payable.

Has Chris (or his agent) committed a blameworthy act or omission?

ep. A blameworthy act may entail Chris telling the Commissioner something which was relevant to his tax liability which he knew, or ought to have known, to be wrong.

eq. A blameworthy omission may also entail Chris not making known to the Commissioner something he knew (or ought to have known) which the Commissioner would have considered relevant in assessing Simon’s tax liability.

er. Chris’ relevant behaviour includes both his actions and omissions at the time of lodging his tax return (assessment behaviour) and his actions and omissions up until the conclusion of the audit undertaken by the ATO (post assessment behaviour). When analysing the factors that assist in identifying evasion, both assessment and post-assessment behaviour can be taken into account.

es. Here are some examples of indicators and their application to the facts that will assist in deciding whether Chris’ acts and/or omissions were blameworthy: the number of years involved: one income year and two transactions. However, the audit did discover the existence of previous profits that Chris may also have mischaracterised as capital gains instead of ordinary income. As no findings were made on these transactions they cannot be considered material to a finding of evasion, although they may be relevant when considering the sophistication and experience of the taxpayer as noted below, the steps involved that led to the tax shortfall: Chris took an active role in structuring his tax affairs with respect to his property investments. It can be reasonably concluded that he has knowingly timed the sales of the apartments in order to take advantage of the capital gains tax discount provisions, the manner in which Chris kept the relevant records: Chris has failed in his record keeping duties. He has recklessly lost or disposed of records, and has failed to provide evidence to support his explanations for classifying the profits as capital gains. Given the doubt that is attached to his explanations, the lack of evidence weighs heavily against Chris, how Chris attended to his other taxation obligations: Other than these issues relating to his property investments, Chris appears to have a good compliance history. However, his lack of co-operation in the audit and failure to keep records weighs against Chris, the complexity of the relevant law: although there could be fact patterns where distinguishing between income and capital can be quite difficult, on these facts, it appears to be fairly straightforward. As well, Chris stated that he was aware of the difference. Further, guidance on classifying these types of investments is readily available, but Chris provided no evidence that he had made an effort to clarify his views of the law, the nature of any professional advice provided by an adviser and the questions asked of the adviser by Chris in relation to the issue: Chris stated he could not remember the accountant’s name from whom he received advice and didn’t get anything in writing. Chris’ failure to provide this information weighs against him, and there is significant doubt about whether he did in fact obtain such advice, or, if he did, whether the accountant was apprised of all the relevant facts. Further his former tax agent stated that he had argued with Chris over the treatment of the profits from property sales,

Chris’ knowledge and sophistication: Chris has been involved in property investment for quite some time and there is an expectation that he would be aware of the relevant law and record keeping requirements. His reckless behaviour in this regard is inconsistent with the knowledge and sophistication he has demonstrated in structuring his investments to achieve significant profits.

et. These indicators are indicative and not exhaustive.

eu. The above analysis demonstrates how some factors may indicate evasion while other factors will not necessarily lead to such a conclusion. This is often the case in matters where the taxpayer’s conduct falls into the grey area of the law.

ev. In Chris’ case, it is considered that that are sufficient indicators of blameworthy conduct to justify a finding of evasion. His failure to provide records and evidence to support his explanations, and the significant doubt as to the truth of these explanations, leads to the conclusion that his actions in classifying the profits as capital gains constitute blameworthy acts.

ew. Therefore, based on Chris’ assessment and post-assessment behaviour as detailed above, the auditor would be justified in forming an opinion that Chris’ behaviour amounted to evasion.

Example 3 – recklessly claiming deductions to which the taxpayer was not entitled ex. Susie works as an accountant in a large business. She has an expensive lifestyle and whilst she earns a good salary (approximately $100,000 per annum) her deductions significantly reduce her taxable income, such that she has paid only minimal amounts of tax in the past 5 years.

ey. Susie comes under audit by the ATO and the auditor focuses his inquiries on Susie’s deductions in her income tax returns. In particular, Susie’s “work related car expenses” are large and have been increasing year by year. Over the past 5 years Susie has claimed over $20,000 per year in car expenses.

ez. The ATO contacts Susie informally to request information supporting these deductions, however Susie does not respond to the letter.

fa. As a consequence, Susie is required to attend a compulsory interview pursuant to section 264 ITAA 1936. When Susie is asked to explain the basis for her work related car expenses she states that she merely estimated a figure which she then inserted into her tax return. She did not keep any records relating to her travel expenses.

fb. When pressed it emerges that Susie only drives to and from the office – she is not required to travel from one office to another or on other business. The auditor explains to Susie that work related car expenses cannot be claimed for driving to and from a single place of work. She states she is surprised to learn this and that she was unaware of this principle and assumed that everyone claimed these types of expenses. She states that she had never bothered to look into the issue and had not read the TaxPack when completing her tax return, nor consulted an adviser.

fc. Susie is subject to the 2 year period of review limitations and therefore for 3 of the past 5 income years, Susie’s assessments can only be amended if there is a finding of fraud or evasion.

Q) Should the Commissioner form an opinion that Suzie has engaged in behaviour that would constitute fraud or evasion?

A) Yes.

fd. Provided below is a brief analysis of the key considerations in deciding whether fraud or evasion exists in the circumstances as presented. For further detail on how to apply the fraud or evasion amendment power, officers should consult PS LA 2008/6 and the Fraud or Evasion guidelines.

fe. For this example we will begin by addressing the issue of fraud.

The elements of fraud

ff. Fraud involves the making of a false statement to the Commissioner relevant to the taxpayer’s liability to tax which the person makes: knowing it to be false, or without belief in its truth, or recklessly, being careless or indifferent as to whether it is true or false.

Has Susie avoided tax resulting in a tax shortfall?

fg. Susie has incorrectly claimed large amounts of deductions in her tax returns. She was not entitled to these deductions, and has avoided paying the correct amount of tax because her taxable income was incorrectly reduced. This has resulted in a tax shortfall.

Has Susie engaged in fraudulent behaviour?

fh. There is no evidence that Susie actually knew her representations in her tax return to be false. Indeed, Susie’s sworn evidence is that she was unaware that she was not entitled to claim the car expenses as deductions. Therefore the evidence would not support a finding that Susie made the claims in her tax returns knowing them to be false.

fi. However, as noted above, the concept of fraud in section 170 ITAA 1936 is broader than simply the making of representations knowing them to be false. If a taxpayer deliberately closes their eyes so that they might not ascertain the truth, this conduct may constitute fraud.xxvii Further, a representation may be fraudulently made without evil motive.xxviii

fj. Therefore Susie’s behaviour should still be analysed to determine whether she has claimed the deductions recklessly, being careless or indifferent as to whether she was entitled to claim the deductions.

fk. To assist in this analysis, the factors identified as relevant to proving evasion can also be used to identify whether sufficient evidence exists to prove fraud: the number of years involved: Susie has incorrectly claimed these deductions, for 5 consecutive years. This is a continuous pattern of behaviour and indicative of sustained recklessness or carelessness and indifference to the consequences of her actions, the steps involved that led to the tax shortfall, including the degree of any artifice involved: Susie’s behaviour does not exhibit a high degree of artifice, indeed her behaviour was quite blatant. However, behaviour like Susie’s undermines the integrity of Australia’s tax system self-assessment, which relies on taxpayers taking reasonable care and making an honest attempt to meet their tax obligations, the manner in which Susie kept the relevant records: Susie has not kept any records relating to her car expenses, and, according to her explanations, such records would be unlikely to support the claiming of these deductions, the attention given to the particular matter by the taxpayer: by her own admissions, Susie has given very little attention to the claiming of these deductions in her tax returns. Her behaviour was reckless in not making an effort to confirm her view of the law, yet persisting in claiming significant amounts of deductions, the complexity of the relevant law: the law on this point is clearly settled, and not considered to be complex, information or questions on the tax return that might alert a taxpayer: the availability of clear guidance on work related car expenses (such as in the TaxPack and eTax) further demonstrates Susie’s recklessness in not bothering to seek guidance. The information contained in this guidance clearly explains why Susie was never entitled to claim these work related car expenses.

fl. As the above factors indicate, Susie has been reckless in complying with her tax obligations. Her behaviour is sufficiently serious to justify a finding of fraud.

fm. Behaviour that constitutes fraud will also constitute the blameworthy act or omission required for a finding of evasion. Therefore Susie’s behaviour will also constitute evasion and the correct finding will be that Susie has committed fraud and evasion.

fn. Where an ATO employee forms the opinion or has a strong suspicion that fraud may have been committed against the revenue system, the matter should be referred to SNC in accordance with CM PS 2007/02 fo.Attachment B – Case study

fp. Sam commences an audit in February 2008 of the 2003 – 2007 income tax returns for Helen Green, the sole trader of ‘Green Trading’ which is a business which trades in replacement motorised components.

fq. Green Trading has sold a property located at Red Street and Helen Green has disclosed a capital gain of $54,317 (ignoring the CGT discount) in relation to the disposal in her 2003 tax return.

fr. An assessment for the 2003 year of income issued to Helen Green on 1 December 2003 with the tax becoming due and payable on 31 December 2003.

Details of the avoidance of tax

fs. Sam considers that this capital gain should be significantly higher as the property was an appreciating asset which had been held for seven years and the property is located in an area that had significantly increased in value.

ft. Sam obtained the following information relevant to the acquisition and disposal of the Red Street property:

Helen Green has lodged tax returns for the last five years which disclose the following information:

Helen Green has income from salary and wages in each year and business income from the Green Trading business.

Helen Green is a resident of Australia. Her spouse is Tom Green.

Her residential address is 20 Blue Street.

Tom Green’s tax returns for the last five years disclose that he has been living in the same residence as Helen Green at 20 Blue Street.

The 2003 accounts of Green Trading show that an item described as “Land – Red Street” has decreased from $1.75 million at the end of the 2002 income year to nil at the end of the 2003 income year.

fu. As a result of additional queries at the audit stage, Sam has obtained the following information:

A contract for the purchase of 34 Red Street on 26 August 1995 which has the following clauses:

Purchaser – Helen Green, trading as Green Trading

Seller – Mr Grey

Consideration $1,750,000, subject to any settlement adjustments.

Settlement terms – 60 days

The contract has a State Revenue Office stamp on it stating that stamp duty of $93,500 was paid in relation to the purchase.

A document outlining the settlement adjustments as at 25 October 1995 for the purchase of 34 Red Street which states the following adjustments were made to increase the purchase price:

Council rates - $3,206

Water charges - $120

Land tax - $4,298

A statement of disbursements from Green Trading’s lawyers in relation to the purchase of 34 Red Street for title searches and certificates ($129), land registry fees ($20) and legal fees ($440), totalling $589.

A contract for the sale of 34 Red Street dated 1 October 2002 which has the following clauses:

Purchaser – Property Trading Pty Ltd

Seller – Helen Green, trading as Green Trading

Consideration – $1,900,000

Settlement terms – 30 days A document outlining the settlement adjustments as at 31 October 2002 for the sale of 34 Red Street which states the following adjustments were made to increase the sale price:

Council rates - $2,106

Water charges - $89

Land tax - $3,998

A statement of disbursements from Green Trading’s lawyers in relation to the sale of 34 Red Street for title searches and certificates of $163.

A capital gains tax calculation (prepared by Helen) headed “Sale of 34 Red Street” containing the following information:

Consideration:

Sale price $1,900,000

Settlement adjustments on sale:

Rates $ 2,106

Charges $ 89

L/Tax $ 3,998

Total $ 1,906,193

Cost Base:

Purchase price $1,750,000

Settlement adjustments on purchase:

Duty $ 93,500

Rates $ 3,206

Charges $ 120

L/Tax $ 4,298

Legals on purchase $ 589

Legals on sale $ 163 Total $ 1,851,876

Capital Gain $ 54,317

A valuation performed by “Tom Green & Associates (Valuers)” of 20 Blue Street dated 23 September 2002 has been provided by Helen Green. The valuation states that the land and buildings at 34 Red Street are valued at $1,900,000. The valuation is a one page report which does not contain any working papers or assumptions on which the valuation is based.

A transfer of land form which was lodged with the State Revenue Office on 1 November 2002 and assessed on 12 December 2002. The transfer of land form reveals the following information:

Transferor – Helen Green, trading as Green Trading

Transferee – Property Trading Pty Ltd

Consideration - $1,900,000

Assessed value of property $2,300,000

Sam requests supporting information from the State Revenue Office surrounding the assessed value of property on 12 December 2002. The State Revenue Office provides him with a 20 page report which supports the assessed value of $2.3 million in the transfer of the land form lodged on 1 November 2002. Further, the State Revenue Office confirms that there was no request for review lodged by Property Trading Pty Ltd against the further $10,000 stamp duty payable as a result of the $400,000 increased valuation.

Sam performs a MASCOT search of Property Trading Pty Ltd which reveals that its directors and shareholders are Tom Green and Bill Green. Tom holds 60% of the shares and Bill holds 40% of the shares. The registered office of Property Trading Pty Ltd is listed as 20 Blue Street.

fv. As a result of reviewing all of the information collected, Sam concludes that the capital proceeds received by Helen Green for the sale of the Red Street property were less than the market value for that property and that Property Trading Pty Ltd and Helen Green did not deal with each other at arm’s length in connection with the sale. As a result, Sam is of the view that sub-paragraph 116-30(2)(b)(i) of the ITAA 1997 applies to replace the actual consideration received of $1,900,000 with the assessed value for stamp duty purposes of $2,300,000.

fw. As the period that has elapsed since the date that tax became due and payable under the original 2003 assessment (31 December 2003) is more than 4 years, Sam must first make a finding of fraud or evasion under the then applicable paragraph 170(2)(a) of the ITAA 1936 before an amended assessment can be made for the 2003 year of income increasing the capital gain on the sale of the Red Street property from $54,317 to $454,317. fx. Sam refers to the Fraud or Evasion guidelines which state that, in forming an opinion that there has been an avoidance of tax due to fraud or evasion, certain steps need to be followed (refer to relevant section of this paper).

fy. Sam also notes that the guidelines set out certain non-exhaustive matters which should be considered for such non-disclosures, in addition to the reasons provided by the taxpayer (refer to relevant section of this paper).

fz. Sam realises that he will need to gather further information before he can make a finding of evasion which does not rely on suspicion, assumptions, opinions or bald assertions. Sam therefore conducts further research which reveals the following:

For the 2005 income year, Property Trading Pty Ltd returned a profit on revenue account from its development of the Red Street property. That property had been treated by it as trading stock that had been acquired at a cost of $1.9 million plus incidental costs of acquisition, such as stamp duty. However, that profit was largely absorbed by losses it had carried forward from a failed development it had undertaken in 2001.

There is no provision in the ITAA 1997 to increase the cost base of Property Trading’s trading stock where it was acquired for less than market value. If it had been held on capital account, Property Trading could have adjusted the cost base up to its market value under paragraph 112-20(1)(c) of the ITAA 1997. In this case, then, there is no counter-balancing credit adjustment that can be made to Property Trading’s 2005 return if Helen Green’s capital gains in the 2003 income year are increased as a result of the market value substitution rule.

There is ample, readily available information on the operation of the CGT market value substitution rule. For example, the CGT essentials set out on the ATO website include the following:

Adjustments to capital proceeds

ga. In some cases, if you receive nothing in exchange for a CGT asset (for example, if you give it away as a gift) you are taken to have received the market value of the asset at the time of the CGT event. You may also be taken to have received the market value if: your capital proceeds are more or less than the market value of the CGT asset, and you and the purchaser were not dealing with each other at arm's length in connection with the event.

gb. This is known as the market value substitution rule for capital proceeds.

gc. You are said to be dealing at ‘arm's length’ with someone if each party acts independently and neither party exercises influence or control over the other in connection with the transaction. The law looks at not only the relationship between the parties but also the quality of the bargaining between them.

gd. Sam calls in Helen for an informal interview on 28 March 2008. Sam’s record of that interview records Helen as saying: ‘…The property was purchased and used for warehousing the goods sold by Green Trading ... the property was sold because Green Trading no longer needed the warehouse. I had decided to outsource our warehousing to a central location… I was lucky because I knew that Property Trading Pty Ltd was looking for land in the area to redevelop and sell as residential apartments… this saved Green Trading money as I didn’t have to go through a real estate agent and pay any commissions, advertising, etc. … Property Trading is run by my husband, Tom, and my son, Bill who are very experienced property developers. I relied on them to provide me with a fair value for the Red Street property which would take into account the savings I made on commissions and advertising, etc. … I was also unconcerned about maximising my profits on sale as any bargain element received by Property Trading would be shared by me indirectly through extra profits made by my husband and son on the redevelopment of the site. So looked at in that way, as a sole trader, I didn’t really see the point in concerning myself with whether I had extracted the full market price. Surely this can’t be a problem for you guys. I mean, whatever profits I did not make come back to you through the larger profits made by Tom and Bill’s company. And their company can’t even claim the CGT discount which I could’ve claimed on the profits. I can’t see where any tax has been avoided. In fact even more tax is going to be paid. I can’t see why the Commissioner would want to extract a market value for what I considered to be a fair price in all the circumstances and where he will actually receive more tax.’ ge. Sam also asked Helen at this interview whether she was aware that Property Trading had significant carried forward losses and wouldn’t have to pay any tax. Sam’s record of interview records Helen as saying that: ‘Tom and Bill had never mentioned this to me at the time of the transfer, but my Accountant had raised it with me later when we all met to get our tax returns prepared, but there was nothing I could do about it by then because everything had been signed and sealed ’. gf. Helen has run her business for 15 years, but her business returns have been prepared by the same accountant as prepared the returns for Property Trading. Sam organises a meeting on 14 April 2008 to see the accountant about this matter. Sam’s record of that meeting records the accountant as saying:

‘I had raised this matter with Helen and Tom back in August 2003 when I met with them about the preparation of their 2003 returns. As a local, I was well aware of the significant appreciation in property prices in the area. It struck me that the sale of the Red Street property was below market value and I remember mentioning this to Helen and Tom with a warning about possible CGT implications. However, when I told them that Tom’s company could not change the tax cost for the Red Street property to its market value because it was trading stock, they said that this was unfair and there just didn’t seem to be anything that could be done to remedy the situation. I mean the contract had been signed and settled and stamp duty paid. It’s not like they could just cancel everything and start again. So they instructed me to just leave it like it is as they didn’t feel that they were cheating the Government out of any tax. In their support I also pointed out that Helen would have been able to claim the CGT discount, but not Tom’s company. Although, I did tell them that even given the overall tax outcome, that’s not likely to be the way the Tax Office would see it. I also mentioned that even if the Tax Office did take a sympathetic position because of the potential of double taxation, it would still be concerned about the additional deferral benefits in bringing any profits to account because of the loss situation of Tom’s development company at that time, even after allowing for the CGT discount forgone by Helen.’ gg. Sam now feels like he has the full story and completes the following Facts & Evidence Worksheet. Sam’s completed worksheet (along with a Worksheet, position paper and chronology that he prepared on the primary tax issue which details the application of the market value substitution rule) will need to be approved by a properly authorised EL2 officer before referral to the SME Technical Panel. gh. Link to example ATO Facts & Evidence Worksheet – Helen Green Case study (continued)

ATO Facts & Evidence Worksheet – Helen Green

Review period: 1 July 2002 to 30 June 2003

Law: As at 30 June 2003

Issue: Whether an opinion can be formed as to fraud or evasion

Section or Element to be Facts relied upon Evidence which establishes the other established facts authority (List the facts as a series of dot points and do not outline the ATO position in (Reference to document and this column) file where relevant)

Former subsection 170(2)(a) of the ITAA 1936 (applicable to assessments for the 2003-04 years of income and earlier years)

1. Avoidance of tax resulting in a tax shortfall

Net capital gain (ignoring the CGT - 2003 tax return. discount) of $54,317 returned by Helen Green (taxpayer) for the 2003 year of - Capital gains tax calculation income on the sale of land and buildings at prepared by the taxpayer. 34 Red Street (property) which was used by the taxpayer in her business trading as - Statements of disbursements ‘Green Trading’ which trades in and settlement adjustments. replacement motorised components. - 2003 accounts for Green Trading.

- Stamp duty stamp for $93,500.

An assessment for the 2003 year of Notice of assessment for 2003. income issued to the taxpayer on 1 December 2003 with the tax becoming due and payable on 31 December 2003. The period of time that has elapsed since the date that tax became due and payable under the original 2003 assessment is more than 4 years.

The property was acquired by Helen Green Contract for purchase of the trading as Green Trading for $1.75 million property. by contract dated 26 August 1995.

The property was sold by Helen Green to - Contract for the sale of the Property Trading Pty Ltd for $1.9 million by property. contract dated 1October 2002 and which settled on 31 October 2002. - 2003 accounts for Green Trading.

- Settlement documents

The directors and shareholders of Property - 2003 tax return. Trading Pty Ltd are Tom Green (the taxpayer’s spouse who lives with her at - MASCOT search. their home at 20 Blue Street) and Bill Green (their son) who are experienced - Record of interview with the property developers. Tom holds 60% of the taxpayer of 28 March 2008. shares and Bill holds 40% of the shares in - Tom Green’s tax returns for Property Trading Pty Ltd which has a 2003 – 2007. registered office also at 20 Blue Street.

A valuation dated 23 September 2002 Valuation report dated 23 performed by “Tom Green & Associates September 2002 (Valuers)” of 20 Blue Street has been provided by the taxpayer. The valuation states that the land and buildings at 34 Red Street are valued at $1.9 million. The valuation is a one page report which does not contain any working papers or assumptions on which the valuation is based.

A transfer of land form which was lodged Completed Transfer of Land form with the State Revenue Office on 1 November 2002 was assessed on 12 December 2002. The transfer of land form reveals the following information:

Transferor – Helen Green, trading as Green Trading

Transferee – Property Trading Pty Ltd

Consideration - $1,900,000

Assessed value of property $2,300,000

A 20 page report from the State Revenue Letter from State Revenue Office Office supports the assessed value of $2.3 enclosing their valuation report. million in the transfer of the land form lodged on 1 November 2002. Further, the State Revenue Office confirms that there was no request for review lodged by Property Trading Pty Ltd against the further $10,000 stamp duty payable as a result of the $400,000 increased valuation. The taxpayer agrees that $1.9 million was - Record of interview with the not the market value of the property. taxpayer of 28 March 2008.

For the 2005 income year, Property - Tax return for Property Trading Trading Pty Ltd returned a profit on Pty Ltd and accounts for the 2005 revenue account from its development of year of income. the property. That property had been treated by it as trading stock that had been acquired at a cost of $1.9 million plus incidental costs of acquisition, such as stamp duty. That profit was largely absorbed by losses it had carried forward from a failed development it had undertaken in 2001.

There has been an avoidance of tax because the capital proceeds received by the taxpayer for the sale of the property were less than the market value for that property and that Property Trading Pty Ltd Conclusion of fact and the taxpayer did not deal with each other at arm’s length in connection with the sale. As a result, sub-paragraph 116-30(2) Refer to Position Paper for a (b)(i) of the ITAA 1997 applies to replace detailed analysis of the the actual consideration received of application of the market value $1,900,000 with the market value. substitution rule to the particular facts of this case

The amount of tax avoided on the increased net capital gain is:

$400,000 (increased capital proceeds) x 48.5 (marginal rate) x 50% (CGT discount) = $97,000

2. Behaviour amounts to evasion

The taxpayer had signed a declaration with 2003 return her 2003 return that the information 2a. On the part of provided was true and correct, and that the taxpayer or she had disclosed all her income – their agent/trustee including net capital gains.

2b. Blameworthy The taxpayer had been warned by her - Record of interview with the act or omission accountant of the CGT implications and the accountant on 14 April 2008. likely concerns of the ATO before the preparation and lodgement of her return.

A relatively significant amount of tax of See tax calculation above and $97,000 has been avoided in discussion of the application of circumstances where the application of the the law to the facts on the law to the facts established is not position paper problematic.

The taxpayer knew that the property had - Record of interview with the been sold for less than its market value taxpayer of 28 March 2008. and that there were taxation implications that flowed from that. - Record of interview with the accountant on 14 April 2008.

Non-arm’s length valuation by Tom Green & Associates + ATO or Mascot search

The taxpayer expressed her belief that - Record of interview with the more tax would be paid because it would taxpayer of 28 March 2008. be returned by Property Trading Pty Ltd and she had foregone the CGT discount on - Record of interview with the that capital profit. accountant on 14 April 2008

The taxpayer had been informed by her - Record of interview with the accountant, before signing her 2003 return, taxpayer of 28 March 2008. that Property Trading Pty Ltd (the purchaser of the property) had carry - Record of interview with the forward losses that would largely absorb accountant on 14 April 2008. any profits arising as a result of the below market value acquisition of the property.

The taxpayer stated that the non-arm’s - Record of interview with the length deal was motivated by being able to taxpayer of 28 March 2008. save real estate agent and advertising costs.

The taxpayer stated that the non-arm’s length deal was not motivated by tax because at the time of the sale she thought - Record of interview with the that more tax would end up being paid taxpayer of 28 March 2008. overall by the family entities – she stated that she was not aware of the loss situation of Property Trading Pty Ltd at the date of transfer of the property.

The taxpayer has run her own business for Conclusion of fact: 15 years and is reasonably sophisticated and familiar with taxation issues. - Previous years returns

- Record of interview with the taxpayer of 28 March 2008.

- Record of interview with the accountant on 14 April 2008

There is readily available information on - ATO website the operation of the CGT market value substitution rule set out on the ATO - return form guides website and in other return form guides. Withholding information - Record of interview with the accountant on 14 April 2008. The taxpayer instructed the tax agent to leave things as they were because she didn’t think they were cheating the government out of any tax and it was not possible to adjust the value of the property to reflect it as trading stock of Property Trading Pty Ltd to avoid effective double taxation.

(Note: There is no provision in the ITAA 1997 to increase the cost base of Property Trading’s trading stock where it was acquired for less than market value. If it had been held on capital account, Property Trading could have adjusted the cost base up to its market value under paragraph 11220(1)(c) of the ITAA 1997.)

The taxpayer kept excellent records of the - Capital gains tax calculation transaction and had included all other prepared by the taxpayer. aspects of the net capital gain correctly, except for omitting the true market value. - Statements of disbursements. - Statements of settlement adjustments.

- Relevant contracts of purchase and sale.

The taxpayer had an otherwise excellent - Returns and financials for the compliance history having attended 2003 – 2007 years of income. thoroughly and accurately to all other matters.

The evidence supports that there was a clear intention by both the taxpayer and her agent to withhold information from the Commissioner about the non-arm’s length dealing at below market value and the tax Conclusion of fact implications that flowed from that. Both the taxpayer and her tax agent knew the tax consequences arising from the disposal of the property. They decided to take a calculated risk. This behaviour is of a more serious nature, knowingly undertaken in concert with the tax agent. i See the definition of ‘assessment’ in subsection 6(1). ii Subsection 170(3) of the ITAA 1936 states: ‘Except as otherwise provided every amended assessment shall be an assessment for all the purposes of this Act’. iii Tax Laws Amendment (Improvements to Self Assessment) Bill (No. 2) 2005 iv Australasian Jam Company Pty Ltd v FCT (1953) 88 CLR 23 at 33 v Denver Chemical Manufacturing Co v Commissioner of Taxation (NSW) (1949) 49 SR (NSW) 195 vi Lloyds Bank Ltd v Marcan [1973] 2 All ER 359 vii F.E. Dubout (Chairman) - Board of Review in Case 61 (1969) 15 CTBR (NS), Case A79 69 ATC 424 at paragraph 10 viii For example Case No H10 (1956) 8 TBRD 46 ix Australasian Jam Company Pty Ltd v FCT (1953) 88 CLR 23 x Australasian Jam Company Pty Ltd v FCT (1953) 88 CLR 23, Kajewski v FCT, [2003] FCA 258, and Hasmid Investments Pty Ltd v FC of T 2001 ATC 2150, see also paragraphs 43 and 44. xi These elements represent the conclusions of fact that need to be drawn from the primary (or evidentiary) facts and evidence. For further and more detailed discussion on this, reference should be made to the ‘ATO Facts and Evidence Worksheet Workshop – Learner Guide’. xii Kajewski v FCT [2003] FCA 258, 2003 ATC 4375, (2003) 52 ATR 455, (para 111) xiii See Given v C.V. Holland (Holdings) Pty Ltd (1977) 29 FLR 212 at 217 and FCT v Turner 84 ATC 4161 at 4163, 15 ATR 379. xiv Derry v Peek (1889) 14 App. Cas 337 at 373 xv Further analysis of the case law on fraud is set out at Appendix 3 of PS LA 2008/6. xvi Australasian Jam Company Pty Ltd v FCT (1953) 88 CLR 23 xvii These elements represent the conclusions of fact that need to be drawn from the primary (or evidentiary) facts and evidence. Refer to the “ATO Facts and Evidence Worksheet Workshop – Learner Guide” for a more detailed discussion.

xviii Kajewski & Ors v FC of T (2003) ATC 4375, para 114 xix Hasmid Investments Pty Ltd & Ors v FC of T 2001 ATC 2150; 2001 47 ATR 1020, para 24. xx Taxation Board of Review Decision Case 9 (1950) 1 TBRD and see also Wilson v. Chambers & Co Pty Ltd 38 CLR 131 1926 - 0608A - HCA xxi Ibid. xxii Ibid, page 19 xxiii However, it is not evasion to ignore the Commissioner’s view in instances where the Commissioner has said that he has taken a particular view of something but will not take compliance action to enforce that view. xxiv Barripp v C of T (NSW) (1941) 6 ATD 69 and Denver, op cit. xxv Denver Chemical Manufacturing Co v Commissioner of Taxation (NSW) 1949 79CLR 296 at 314 xxvi For further guidance on the concept of ‘agency’, please refer to the iLearn ‘Agency’ xxvii Derry v Peek (1889) 14 App Cas 337 xxviii Krakowski v Eurolynx Properties Ltd [1995] HCA 68