New ATO guidance on anti-avoidance rules a "must read"

Anti-avoidance rules play a pre-eminent role in Australia’s tax laws, so the latest guidance from the Australian Taxation Office (ATO) is mandatory reading for tax directors and practitioners.

In December 2005 the ATO released two documents that provide further insight into how they have and will apply the general anti-avoidance rules (or "GAARs") at its disposal. The GAARs include Part IVA, in respect of income tax; Division 165, in respect of the goods and services tax (GST); and section 67, in respect of fringe benefits tax (FBT).

The ATO’s new documents are:

• a short guide on how and when Part IVA applies, entitled "Part IVA: the general anti-avoidance rule for income tax", and

• the 135 page Law Administration Practice Statement, PS LA 2005/24, on the application of the general anti-avoidance rule, Part IVA of the Income Tax Assessment Act 1936 and other general anti-avoidance rules (GAARs).

The ATO has many statements on GAARs and Part IVA in particular. These documents consolidate many of the key themes. It might be said that they contain little that is new on the law, and the Commissioner has indeed said that after the last major Part IVA case, Hart, the law is essentially "business as usual".

Both documents however tend to contradict the proposition that nothing much has changed.

Firstly, Part IVA has been elevated to Australia’s boardrooms and top management in recent years, because of a deliberate campaign by the ATO. The short guide is yet another instalment of interesting, if sobering, reading that for corporate governance reasons, must not be ignored.

Second, the Commissioner’s spectacular record in Part IVA litigation has resulted in a significant jurisprudence that is well documented in the Practice Statement. High Court decisions in Hart & Consolidated Press. Furthermore various Federal Court "mass marketed scheme" cases feature, by way of targeted references and quotations.

A number of new themes or points of emphasis are extensively documented and substantially referable to these cases decided since the publication of the Practice Statement it replaces (PS LA 2000/10). These include:

• the irrelevance of subjective evidence of purpose

• the critical role of the way in which a scheme is entered into or carried out and whether that way is artificial or contrived and therefore suggestive of a dominant tax purpose, and

• the importance of comparing the outcomes of the scheme to an alternative postulate or counterfactual.

These matters combined, according to a speech by the Commissioner incorporated in the Practice Statement, to affirm in jurisprudence the original policy aim of Part IVA to give effect to the predication test as famously articulated by Lord Denning in Newton’s case, which concerned section 260, the failed predecessor of Part IVA.

This Statement contains some matters which will be the subject of continuing controversy. In particular, we are at an early point in understanding the "alternate postulate" doctrine emerging in Hart’s case and understanding how it should be properly applied. Also, some cases are not considered as extensively as they might be, such as the Full Federal Court decision in Eastern Nitrogen and Metal Manufacturers. Others are difficult to deal with at all, such as the split (and perhaps hypothetical) decision in Macquarie Finance (awaiting the outcome of a special leave application to the High Court at the time of writing).

A Short Guide to Part IVA for Boards and Top Executives

The short guide is targeted at a non-technical audience and will make interesting if sobering reading for corporate executives and directors.

The ATO’s guide, "Part IVA: the general anti-avoidance rule for income tax," provides a useful summary of the ATO’s general approach to Part IVA and the processes in place to govern its application. This guide is cross referenced to the more extensive analysis contained in the Practice Statement.

Of note, we can see that the guide places particular emphasis on the identification of a counter factual, or "what might reasonably have been expected to happen if the scheme had not been entered into". This approach to the application of Part IVA should be a clear signal to taxpayers entering into tax effective transactions that they should ensure that contemporaneous analysis on the possible alternate ways of undertaking the transaction is undertaken and recorded - if only to persuade the ATO these alternatives were not in fact "reasonable" at a later time.

The guide also covers matters previously discussed by the (former) Commissioner in his March 2005 speech "Corporate Governance and its role in tax" - which we discussed in some detail in our earlier article.

Other matters dealt with in the guide include a step chart of "how does the tax office apply Part IVA?". The most significant step in this process is the referral of the matter to the GAAR Panel (formerly known as the Part IVA Panel). The role of the Panel is discussed in detail below.

The Practice Statement

The second document, the focus of this article, may have the same impact but is also a useful resource on the law and ATO procedures.

PS LA 2005/24 replaces the earlier Part IVA practice statement, PS LA2000/10, which has now been withdrawn. The new Practice Statement covers two areas:

• administrative processes regarding the interaction of ruling applications and GAARs, the application of GAARs and rulings on GAARs, and

• the technical application of Part IVA and other GAARs.

Consequently, if the ATO rulings officer thinks Part IVA may apply - or even if it is not clear whether it applies or not - the officer must state in the ruling that Part IVA has not been considered but the taxpayer may seek a ruling on it. The only occasions when this statement is not necessary is when the rulings officer can see no reason to suggest Part IVA may apply.

We note in this regard that any taxpayer seeking certainty through the rulings process should almost always seek confirmation on Part IVA from the ATO, otherwise the ruling application will only bring attention of the arrangement to the ATO without providing any legislative protection for the tax consequence of the arrangement.

Application of a General Anti-Avoidance Rule ("GAAR")

The ATO’s processes for applying Part IVA are described in detail in the Practice Statement. On all occasions when the ATO is seeking to apply Part IVA, either in response to a ruling application or in the course of an audit, the ATO’s Tax Counsel Network (TCN) must be consulted.

Interestingly, when the ATO is responding to a Class Ruling application, the matter will be referred to the TCN even if it is considered that Part IVA will not apply. Therefore, a greater level of care should be taken with Class Ruling applications on Part IVA in response to the greater level of scrutiny to which those applications will be subjected.

Whenever Part IVA (or other GAAR) is to be applied, it will be referred to a Deputy Chief Tax Counsel, and if it arises in the course of an audit, to the GAAR Panel. If Part IVA arises in the course of a ruling application, it will generally only be referred to the Panel at the taxpayer’s request.

The General Anti-Avoidance Rules Panel (the Panel)

The GAAR Panel was established a decade ago to provide independent advice to ATO officers on the application of the GAARs. Its stated purpose is to ensure decisions on GAARs "are objectively based and there is consistency in approach to various issues that arise from time to time in the application of the GAARs". The Panel includes senior tax officers (one of whom is the Panel chair), tax professionals and, at present, one industry representative.

Generally, any GAAR matter arising from an audit will be referred to the Panel before a final decision is made. However, the relevant ATO decision maker is not obliged to follow the advice of the Panel - Part IVA can be applied contrary to Panel advice that it should not apply. However, in this circumstance the matter must be escalated to the Chair of the Panel or the ATO’s Chief Tax Counsel.

It is important to note that a matter will generally only be referred to the Panel after the ATO has formed a ‘preliminary’ view that a GAAR applies, issued a position paper on the topic and considered the taxpayer’s response to that position paper. This sequence of events indicates that the ATO officer referring the matter to the Panel has by that stage already formed a reasonably entrenched view that a GAAR will apply. Thus, it is clear that it will be far preferable to dissuade the ATO from the application of a GAAR early in the course of an audit.

At the time a matter is being considered by the Panel, the affected taxpayer (and/or representative) will generally be invited to attend the Panel. The main benefits of attending are:

• the Panel provides a ‘last chance’ to avoid the making of a determination under a GAAR, which could trigger amended assessments that have to be reported or attract unfavourable press

• the Panel includes independent and experienced professionals, and

• the Panel has been instrumental in ensuring the ‘quality’ of Part IVA determinations that have ended up before the Courts - and thus will discourage the ATO from making a "marginal" GAAR determination.

The benefits can be weighed against the potential downsides:

• a particularly determined ATO officer might not follow the advice of the Panel;

• the experienced professionals on the Panel may identify additional arguments in favour of the ATO

• the Panel might provide advice to the ATO on further lines of enquiry or avenues for evidence gathering that will support the application of a GAAR, and

• the taxpayer might disclose all its strongest arguments to the ATO in the course of the Panel discussions and leave nothing in reserve for Court.

The Practice Statement specifies that non-attendance at the Panel is not to give rise to an adverse inference against taxpayers.

If attendance at the Panel is deemed appropriate, it will be preceded by a written submission which should succinctly summarise the taxpayers’ position.

On the day, the taxpayer (or representative) will be permitted to provide an oral address to the Panel. This address will only occur after the ATO officer, accompanied by the ‘sponsoring’ ATO tax counsel, has discussed the matter in private with the Panel. The fact that this ‘behind closed doors’ session is a part of the process is reasonably disheartening from an advisor’s perspective, as it creates an impression that the Panel will, in its deliberations, be considering facts or matters that have not been adequately disclosed to the taxpayer.

The Practice Statement states that the invitation to attend the Panel "is not extended on the basis that it will provide a platform for a hearing as part of a quasi-judicial process of review". However, given that Panel discussions are not being held on a without prejudice basis, and there is a need to persuade this independent body against the ATO’s preliminary view that Part IVA or a GAAR applies, it is generally prudent to approach the Panel as if it were in fact a quasi-judicial process.

Thus, a practice of briefing counsel to settle written submissions and appear is being adopted by a number of affected taxpayers to ensure their position is put both persuasively and in a way that does not prejudice their position.

Conclusion

The Guide and the Practice Statement are tools for taxpayers to approach tax effective arrangements with forethought and preparation in advance of the potential application of a GAAR.

That said, one might gain the false impression that the technical intricacies of GAARs are the be all and end all. In our view, difficult as these provisions are, the critical determinant of whether a taxpayer has a GAAR issue is the objective evidence of dominant purpose.

The implications of the application of a Part IVA, and a technical analysis of Part IVA are discussed in an earlier article "Why does Part IVA matter?", LegalTalk, August, 2005". The comments in that article are equally applicable to the GAARs in relation to GST and FBT.

For more information please contact:

	Michael Bersten, Partner Phone: + 61 2 8266 6858 Send email
	Daniel McInerney, Senior Associate Phone: + 61 3 8603 5625 Send email