Improved communication with the Commissioner, strategic risk management and an emphasis on negotiation and alternatives to litigation headline the new approach to litigation by the Australian Taxation Office (ATO). These improvements are welcome and timely. Taxpayers, the tax profession and the Inspector-General of Taxation, Mr David Vos, will closely monitor whether or not perennial concerns about the ATO’s culture in dealing with disputes and governance of key decisions (such as in case selection and settlement strategies) are addressed.
Over the past twelve months a number of publications have been issued that are expected to impact on how the ATO will conduct litigation in future. They have also increased transparency in how the ATO administers its strategic litigation program going forward.
The first of these publications was a report by the Inspector-General of Taxation, Review of Tax Office Management of Part IVC Litigation, released to the public in August 2006. The ATO’s response to this report has come in two stages:
- Practice Statement Law Administration (PSLA) 2007/2 regarding management of decisions of Courts and Tribunals, issued in February 2007, and
- a number of Practice Statements dealing with risk management in ATO litigation and the conduct of ATO litigation in particular jurisdictions were issued in June 2007.
A second development has been the publication of a Litigation Update provided to the National Tax Liaison Group on 28 June 2007 (updated in early July 2007). This update provides an overview of the key issues currently being litigated by the ATO as well as an interesting summary of the overall litigation statistics for the ATO.
These ATO publications should be commended, as they provide increased transparency in relation to the important question of how the ATO conducts litigation as well as a greater indication of why it litigates particular matters. However, as a pointed post-script to the ATO’s move to a fairer litigation process, Mr Vos has made some criticisms of the ATO’s litigation mentality in his latest report, Review of the Tax Office’s management of complex issues – Case study on research and development syndicates, released in August 2007.
Practice Statements
The ATO has responded to criticisms of its litigation practices made by the Inspector-General of Taxation in his August 2006 report by issuing six Practice Statements that set out how ATO officers are to undertake litigation.
Background
In his report, the Inspector-General criticised the ATO’s litigation approach and made several recommendations to the ATO and Government to improve both the ATO’s litigation processes and public perceptions of the ATO’s administration of the tax litigation program. Some of the key recommendations in this report include the following:
- The ATO should develop a formal and consolidated published policy or guideline on tax litigation which would state that the primary aim of litigation for the ATO is to resolve disputes in a fair, timely and cost-effective manner, consistent with the rule of law.
- The ATO should introduce risk management techniques to its management of tax litigation issues. This process should start by defining the scope of the Commissioner’s and the ATO’s legal risk in collaboration with the Australian Government Solicitor (AGS) and Counsel.
- In relation to the formal test case program to fund cases that will clarify the law, the Government should establish new guidelines and legal principles for the management of the program, including increasing the propensity in which the ATO offers to fund the running of a case including paying a taxpayer’s legal costs (in instances where it is ultimately fair and in the public interest for the ATO to do so).
In response to these recommendations, the ATO has issued a number of Practice Statements over the course of this year.
PSLA 2007/2 – Management of decisions of courts and tribunals
This Practice Statement sets out in detail the process for communicating the outcomes of a Court or Tribunal decision.
The communication channels contemplated in PSLA 2007/2 include internal ATO stakeholders as well as Government Ministers, Treasury and the media if the matter holds enough significance to warrant such attention.
Importantly, PSLA 2007/2 requires the publication of a ‘Decision Impact Statement’ within eight weeks of the decision being handed down. A Decision Impact Statement will not only recite the content of the decision itself, but advise of the ATO’s view of the implications of the decision – including impacts on Public Rulings.
Significantly, the ATO makes the statement in PSLA 2007/2 that:
"In administering the law there will be rare instances where the Tax Office will maintain a position that is contrary to an existing Court or Tribunal decision."
The ATO then goes on to explain the circumstances where this may be the case and how the ATO position can later be tested.
However, following the criticism of the ATO (for not following prior decisions) by the Full Federal Court in the Indooroopilly decision (see TaxTalk, April 2007), the ATO has noted that the relevant sections of PSLA 2007/2 will be reviewed.
PSLA 2007/12 – Conduct of tax office litigation
PSLA 2007/12 outlines some general principles that the ATO should abide by when involved in litigation. Following are a couple of practical points to note arising from the Practice Statement:
- The ATO will argue its cases consistently with its published views of the law. Consequently, it is useful to understand published ATO views on the issues at hand and ensure that the ATO does not put arguments contrary to those views simply to succeed in a particular matter.
- Where possible and appropriate, emphasis will be placed on resolving disputes through consultation, negotiation, and alternative methods of dispute resolution. This emphasis on the part of the ATO should assist matters in coming to an acceptable resolution without having to go to the expense of a hearing, with all its attendant uncertainties, even though the litigation process has commenced.
PSLA 2007/16 – Risk management in litigation
PS/LA2007/16 is a response to the second recommendation of the Inspector-General of Taxation. This Practice Statement provides greater insight into what the ATO considers as part of its litigation strategy. It includes such things as taking a ‘global’ risk management perspective in the identification and regular review of the certain type of risks during the litigation process. The types of risks the Practice Statement identifies include:
- legal risks (interpretation and procedural uncertainty)
- revenue risks, the scale of which may lead to settlement
- operational risks (individual capability/availability and internal/external systems)
- compliance risks (community non-conformance with laws and regulations), and
- reputational risks (the ATO’s standing within Government and the community, etc).
Following the identification of the types of risks, as part of the risk management process, the ATO then considers what the appropriate risk treatment procedures and responses should be.
If taxpayers are involved in litigation and are able to highlight the existence or size of the risks identified above, this may well give rise to an opportunity to negotiate a settlement with the ATO on a favourable basis.
PSLA 2007/17, 18 and 19 – Tax technical litigation in the AAT, Federal Court and High Court
These Practice Statements are internally focused, and set out the necessary internal processes that should be undertaken in each of the nominated jurisdictions.
The Administrative Appeals Tribunal (AAT) Practice Statement, PSLA 2007/17 has greater significance given that approximately 85 per cent of all tax cases are litigated in the AAT. This Practice Statement recognises that it is important that communication channels and procedures are clearly outlined to ensure the Commissioner’s adherence to all of the laws, policies and guidelines with which he must comply (especially as a model litigant in the AAT). It also outlines the ‘best practice’ procedures to be followed by ATO officers for all legal proceedings involving tax technical litigation on behalf of the Commissioner in the AAT.
PSLA 2007/18 and PSLA 2007/19 provide guidance for officers involved in legal proceedings in the Federal Court and High Court respectively. For example, PSLA 2007/18 details the process and requirements for direct appeals to the Federal Court, appeals to the Federal Court from the Tribunal, questions of law referred by the Tribunal, and decisions reviewed under the Administrative Decisions (Judicial Review) Act 1977. PSLA 2007/19 highlights a number of statutory obligations that are imposed on the Commissioner in matters before the High Court.
Litigation update
At the National Tax Liaison Group (NTLG) meeting of 28 June 2007, the ATO provided an update which listed strategic issues currently in litigation.
The list produced by the ATO provides a fairly detailed outline of current and pending cases, issues and analytical data separated into the following categories:
- cases and a list of strategic issues across all areas that are currently in litigation and which the ATO considers as likely to encompass wider law clarification implications beyond the particular case in question
- significant Federal Court and High Court cases which have already been heard and are awaiting decision, and
- an analysis of market segment data on the forum in which cases were being heard in (e.g. AAT, Federal Court, or High Court).
The ATO has also since been asked to provide further details of the facts to make it easier for taxpayers to identify the significance and the impact of the issues being litigated.
Key themes
The ATO’s update demonstrates that it is not just mainstream tax cases that are viewed as holding strategic importance to the ATO. The range of issues that are being litigated in cases that are considered to have "significant implications and wider law clarification benefits" identified in the ATO update include:
- Tax administration – section 255 notices: Blue Bottle UK Ltd and Ors (appeal to the High Court)
- the scope of the ability to challenge the Commissioner’s determinations in transfer pricing cases: Taxpayers not identified, but there are various Federal Court and AAT cases
- Part IVA and Part IVA determinations: Lenzo; Tolich, Princi, Dorn, Prince & Sleight; and Futuris Corporation – Federal and Full Federal Court
- tax shortfall penalties – incorrect Business Activity Statements: Dixon as trustee for the Dixon Holdsworth Superannuation Trust (appeal to the Federal Court), and
- Legal Professional Privilege issues arising out of Project Wickenby (Barnes) – Federal Court.
In addition to the summary of key cases, the litigation update also sets out an analysis of all litigation under Part IVC of the Taxation Administration Act 1953 being undertaken by the ATO (essentially, litigation about tax liabilities and excluding debt recovery or administrative law challenges). We note that:
- the small and medium enterprise market segment (comprising taxpayers with turnover of $2m – $100m) is where most of the litigation action has come from, comprising 73 per cent of all cases currently being litigated
- large business (taxpayers with turnover above $100m) litigation comprises only 6 per cent of current cases being litigated
- the goods and services tax (GST) market segment contains the second largest area of litigious activity comprising 9 per cent of all current cases litigated
- 63 per cent of total cases being litigated relate to mass marketed schemes, and
- the AAT is still the forum of choice for most litigation, comprising 85 per cent of all cases litigated. The Federal Court was the next most popular option for tax litigation, comprising almost 12 per cent of tax cases.
Report on R&D syndicates – August 2007
The ATO’s litigation tactics have also more recently been criticised by Inspector-General of Taxation in his review of the ATO’s ability to identify and deal with issues concerning research and development
(R&D) syndicates.
The report, which was released on 16 August 2007, concluded that the ATO had acted unfairly towards some R&D taxpayers. One of the key areas the Inspector-General saw as deficient was in relation to R&D disputes where the ATO was found to have "used litigation purely to strengthen its settlement position rather than to test the issues objectively".
The R&D disputes at issue all pre-dated the issue of the ATO Practice Statements discussed above. Consequently, it will be of interest whether these Practice Statements have sufficient impact on the ATO’s approach to litigation so that the findings of the Inspector-General on R&D syndicates will not be repeated in future.
For further information, please contact your usual PricewaterhouseCoopers Legal adviser, Michael Bersten, Edwina McLachlan or Ashley King.
