Chapter 6 - Test Cases and Objections
6.1
In situations where taxpayers dispute the ATO’s
interpretation and application of tax law and consequent assessments of their
tax liability, taxpayers have a legal right to seek an independent, external
review of the ATO’s decisions. Avenues for review include:
- the Administrative Appeals Tribunal (AAT);
- the Federal Court;
- the Commonwealth Ombudsman; and
- the Privacy Commissioner.
6.2
Of these, decisions by the Federal Court and the
AAT are binding on the ATO, although either party can appeal decisions in a
higher court. The process of a court or tribunal ruling on key points of law is
generally referred to as a ‘test case’, as this creates precedents that may be
used by other courts, the legal profession and taxpayers about how the law
should subsequently be interpreted and applied.
6.3
While independent review is a legal right, in
reality taxpayers face substantial obstacles in challenging the ATO’s
decisions, largely because of the high cost of legal representation. Few
individual taxpayers can afford the costs associated with protracted court
action against the ATO. As Mr Mike Hutson of Hutson Duddy Solicitors noted:
For all we know, the Tax
department is wrong... But it is going to take, as I said earlier, a fair
amount of courage and an awful lot of money to test it. That is the big stick
that the tax department waves for which we have no defence.[1]
6.4
Further, the delay
involved in seeking a review instead of settling can result in an inflated tax debt if
taxpayers lose their case. Interest charges on outstanding debts compound
daily. As a result, many taxpayers may face significant financial disincentives
that preclude them from exercising their legal rights.
6.5
Nonetheless, it is inescapable that the ATO’s
disallowance of deductions sought in relation to these schemes needs to be
tested in the courts for the sake of establishing the legitimacy of its actions
and maintaining taxpayer confidence in the ATO’s interpretation of the law.
While the ATO maintains that its interpretation of the law and in particular
its use of Part IVA is appropriate, a significant number of lawyers, promoters
and investors are just as emphatic that the ATO is wrong. There appears to be
widely divergent opinion between the ATO and parts of the legal and financial
community about the legitimacy of the arrangements loosely referred to as tax
effective investment schemes:
After all, you have to
appreciate that a large part of the tax laws is subject to interpretation, and
there is nothing we can do about that. That is the nature of the beast. But
still we come down to this problem of the tax department and the professionals
being poles apart.[2]
6.6
The ATO and other
witnesses advised the Committee that a number of test cases related to several
mass marketed schemes are imminent and more are pending. In particular, cases
regarding the Budplan arrangements commenced in the Federal Court on June 4.
6.7
Mr Frank Wilson,
of Perth barristers and solicitors Wilson and Atkinson also advised the
Committee that his firm is mounting a number of cases in both the Federal Court
and the AAT, the first trial being set for August 2001.[3] The
Committee understands that Wilson and Atkinson cases include five agricultural
arrangements and a further two franchise arrangements.
Test case litigation program
6.8
Recognising the need for clarification of
significant legal issues and the obstacles faced by taxpayers in mounting
challenges, particularly in the Federal Court, the ATO operates a test case
litigation program. Under this program, the ATO will undertake to fund the
legal costs of individuals involved in test cases, provided they meet certain
criteria. However, it appears that the ATO will only fund test cases in very
limited circumstances.
6.9
Minter Ellison, a legal firm representing some Budplan
participants, applied for test case funding in August and September 1998 but
the ATO litigation panel recommended that funding be refused ‘because of the
tax avoidance implications of these cases and the potential application of Part
IVA of the Income Tax Assessment Act 1936’.[4]
The ATO did, however, in January 2000, offer test case funding to four Budplan
participants of its own selection, although at least three of these persons had
not themselves sought funding.[5]
The Committee understands that only one accepted, but too late for the case to
be included in the impending hearing.
6.10
Aside from the offers made to the four Budplan
participants, the ATO had not, until late April 2001, made funding available
for any tax effective schemes test cases. The ATO has now announced that it
will be funding from 20 April onwards four Budplan test cases and ‘a
representative group of cases’ in relation to a film scheme ‘provided we do not
experience any further delays’. The ATO has also indicated that it will
consider funding further test cases if they raise materially different
principles.[6]
This matter may require further consideration by the Committee.
Deferring recovery action
pending the outcome of legal action
6.11
The ATO’s policy in respect of action to recover
money assessed as being payable under amended assessments is apparently to
allow tax in dispute to remain unpaid until objections are determined,
providing the revenue is not at risk.
6.12
However, on 20 July 2000, the Taxation
Commissioner announced that the ATO’s strategy of generally holding off on
determining objections and, in some cases, amending assessments while pursuing
representative test cases would not be continued.[7]
6.13
The ATO explained that this decision was a
consequence of the experience at that stage in a number of arrangements that an
appropriate range of representative cases was not getting before the courts ‘as
early as the ATO would like’.
6.14
The ATO also argued that deferring debt recovery
would send the wrong signals to potential participants in what it identified as
aggressive arrangements:
...any long delays are putting off the hard edge of reality of
participating in aggressive schemes. This could be a factor in the continuing
participation in such arrangements.[8]
6.15
The ATO advised the Committee that, accordingly,
the office would continue to issue amended assessments unless matters put
forward by taxpayers or their representatives, such as realistic offers of
settlement were still under consideration. The ATO indicated, however, that
given previous commitments and the fact that test cases are now listed for
hearing before the Federal Court, it would continue to hold off on determining
objections in the Budplan cases.
6.16
A number of witnesses including individual
participants and representatives of the legal profession called for the ATO to
cease its recovery action against people whose assessments have been amended
pending the outcome of test cases.
6.17
Mr Frank Wilson of Wilson and Atkinson, was amongst those who called
for the ATO to suspend the process of recovering money before test cases are
concluded. Mr Wilson’s argument is that the financial and personal consequences
that recovery action has on taxpayers who are disputing their assessments is
severe. He points out that even if the taxpayer wins
the case, the ATO’s recovery action may well have caused significant and
irreversible harm:
I think it is unconscionable
and pernicious that the commissioner should be out there attempting to take
recovery action and bankrupt people pending the determination of these test
cases, which are likely to find that a large majority of these people do not
owe the tax office anything. It is a pyrrhic victory for a taxpayer if, after
being bankrupted and having his life destroyed, the commissioner finds that,
‘Actually, all this time you had done nothing wrong. Sorry. Here is your money
back.’[9]
6.18
Some witnesses also questioned the consistency
of the ATO’s approach in this regard. For example, the Committee received
evidence about the Foodland case, a Part IVA case where the ATO had apparently
agreed not to pursue payment ‘until the matter is settled or, alternatively, FAL
[Foodland Associated Limited] has exhausted all rights of appeal’. The
assessments totalled $27m in tax and a further $24.7M in penalties and
interest.[10]
This type of agreement appears to contrast with the ATO’s approach towards
participants caught up in the mass marketed schemes issue.
6.19
While it must be acknowledged that the ATO’s
policy concerning recovery of tax debt does contain guidelines on when recovery
action should proceed, the perception may be created that the ATO applies a
different, harsher standard in respect of small and relatively defenceless
individual taxpayers.
6.20
On 26 April 2001, the ATO announced that it was
changing its approach:
...we will agree not to take recovery action on outstanding debts
in all mass marketed abusive tax effective investment scheme cases where an
objection has been lodged provided there is no evidence of action such as
dissipation of assets to avoid meeting their tax liability. We will review this
position based on the decisions handed down. A lack of progress or continuing
withdrawal of cases will also cause us to review the position.[11]
6.21
Interest will continue to accrue on outstanding
debts. The Tax Commissioner has, however, announced that the ATO will reduce
the interest charges from 13.86% to 5.86% for ‘some investments’ in schemes.
It is unclear at the time of writing how widely the ATO will apply this
concession. The ATO has indicated that it will consult with community representatives
‘to develop reasonable guidelines for determining who should be entitled to a
reduction in interest’.[12]
Test case
delays
6.22
There have been very significant delays in
mounting test cases for mass marketed schemes. Moves to test one particular
arrangement, Budplan, commenced in 1998 but have yet to be heard. The reasons
and responsibility for these delays have been subject to claim and
counterclaim.
6.23
For its part, the ATO says that there have been
difficulties associated with identifying representative test cases and that
promoters have stalled the process. Lawyers representing the Budplan litigants
paint a different picture, attributing at least part of the blame to the ATO,
pointing to ATO refusal to accept certain nominated cases, a refusal to provide
test case funding[13] and delays in issuing notices of decisions on objections.
6.24
In the Committee’s view it appears that both
parties to the litigation have contributed to the delays and that neither the ATO
nor the litigants is blameless.
6.25
The controversy
now surrounding test cases has led to the Ombudsman investigating the matter as
an issue of taxpayer complaint in its own right. The outcome of the Ombudsman’s
report of his investigation is pending.
Conclusions
6.26
The Committee welcomes the ATO’s apparent change
of heart in relation to the funding of test cases, but notes that it is only
part funding the Budplan case. Given the number of people involved in these
schemes and the long running nature of the dispute, it is difficult to
understand why the ATO has been so reluctant to fund test cases.
6.27
The Committee also welcomes the ATO’s decision
to suspend recovery action until representative cases are resolved. The
Committee is of the view that the ATO’s action to move to recover debts before
any test cases could be determined left it open to the charge that its approach
was inconsistent with that adopted in relation to large taxpayers and
companies.
6.28
Notwithstanding these positive initiatives, the
Committee questions whether interest charges should continue to accrue while
test cases are pending. Taxpayers who have received amended assessments already
face substantial and in many cases very substantial tax debts. To continue to
apply interest during the test case program may increase pressure on
participants to withdraw, not because they do not believe their cases are
winnable but rather for financial reasons. The withdrawal of participants
under such conditions could stall the test case program.
6.29
The Committee would be concerned if financial
pressures on participants lead to further delays in test cases. This would be
unacceptable because, in the Committee’s view, this matter can only be
satisfactorily resolved after the Courts decide a number of representative
cases. The Committee therefore believes that there may be grounds for
suspending the accrual of interest for participants involved in the test case
program.
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