The Federal Court has dismissed a taxpayer’s appeal and held that a debt of $1.1m owed to a related entity should be included in the maximum net asset value (MNAV) test for the purpose of determining if the taxpayer qualified for the CGT small business concessions. In doing so, it dismissed the taxpayer’s appeal from the decision in Re Breakwell and FCT  AATA 628. The taxpayer had sought the concessions in Div 152 of the ITAA 1997 in respect of a capital gain of $500,000 he made in relation to the sale of a finance broking business.
The taxpayer was a beneficiary (and trustee) of a family trust that held units in a unit trust, which operated a finance broking business. The business was sold in the 2008 income year for a capital gain of $500,000 to which the taxpayer was entitled. The taxpayer argued that, in determining whether the MNAV test was satisfied, a loan of $1.1m made to him by the family trust prior to 1998 had a nil value and was not to be taken into account as it was “statute-barred” from recovery by virtue of the Limitation of Actions Act 1936 (SA).
In particular, the taxpayer claimed that the family trust could no longer sue for the debt because of the 6-year statute of limitations – and that it had not sought repayment of the debt. However, the Federal Court found that the loan was not statute barred, and that the pre-1998 loan could not be regarded as having no value and therefore should be included in the MNAV test – with the result that the taxpayer failed to qualify for the concessions.
(Breakwell v FCT  FCA 1471, White J, 22 December 2015.)
[LTN 1, 5/1/16]
The Vine Report
The Federal Court has confirmed that a loan of $1.1m had to be taken into account in the maximum net asset value (MNAV) test when determining the taxpayer’s eligibility for small business CGT concessions. Despite the taxpayer’s claims that the loan was statute-barred from recovery and therefore had a nil value, the amount of the loan was included in the test. This meant the taxpayer did not qualify for the concessions.
Background – The taxpayer was a beneficiary and trustee of the Allan Breakwell Family Trust (ABFT), which was a beneficiary of the East Terrace Unit Trust (ETUT). The ETUT conducted a finance broking business, which it sold for $500,000 in 2007. This gave rise to a capital gain in that amount. The trust chose to disregard the capital gain from the sale of the business by applying the small business concessions contained in Div 152 and the taxpayer claimed relief by applying the MNAV test in s 152-15 of the Income Tax Assessment Act 1997 (ITAA).
In the proceedings, the Commissioner made a MNAV test calculation and included a loan of $2,374,562 from the ABFT to the taxpayer, which comprised a pre-1998 loan of $1,144,934 and a post-1998 loan of $1,229,628. The AAT held that the MNAV test had not been satisfied on the basis that the loan had been legally acknowledged (signing the balance sheets) by the trustee of the trust as being recoverable and was legally in existence at the time. As such, the loan amount of $1.1m was to be included in the MNAV test.
Decision – The taxpayer appealed the AAT’s decision before the Federal Court and argued that the debt was not recoverable and there was no acknowledgment contained in writing as required by s 42(1) of the Limitation of Actions Act 1936 (SA) (LAA) to find the loan was still in existence and not statute-barred from recovery. The taxpayer also argued that at best, the signing of the balance sheet was an acknowledgment of an asset, and not of a debt.
The Federal Court dismissed the appeal and rejected the contention that the pre-1998 loan was statute-barred and the loan could not be regarded as having a nil value. The court held that the limitation period in s 35(a) of the LAA barred the remedy but not the cause of action. Further, s 48 of the LAA allowed courts to extend certain limitation periods, including that fixed by s 35(a). As such, the court confirmed that the loan amount of $1.1m was to be included in the MNAV test and that the taxpayer failed to qualify for the concessions.
[The Vine 1, 22/1/16]
Extracts from  FCA 1471
Catchwords – appeal from the Administrative Appeals Tribunal – taxation liability – capital gains tax – whether applicants entitled to small business CGT concessions – whether loan by a family trust to the trustee should be included in applicants’ maximum net asset value test – whether loan was statute-barred by s 35(a) of the Limitation of Actions Act 1936 (SA) (LA Act) – effect of s 48 of the LA Act – whether no limitation period applied because an action to recover loan would be an action to recover trust property to which s 32 of the LA Act applied.
- In a case like the present, being an action by a trust to recover trust property, there is no limitation period. That is the effect of s 32(1) of the LAA, which provides:
(1) In any action or other proceeding against a trustee or any person claiming through him, except where the claim is founded on any fraud or fraudulent breach of trust to which the trustee was party or privy, or is to recover trust property, or the proceeds thereof still retained by the trustee, or previously received by the trustee and converted to his use, the following provisions shall apply:
(a) All rights and privileges conferred by this Act shall be enjoyed in the like manner and to the like extent as they would have been enjoyed in the action or other proceeding if the trustee or person claiming through him had not been a trustee or person claiming through him.
(b) If the action or other proceeding is brought to recover money or other property, and is one to which no other provision of this Act applies, the trustee or person claiming through him shall be entitled to the benefit of and be at liberty to plead lapse of time as a bar to the action or other proceeding, in the like manner and to the like extent as if the action or other proceeding had been an action for money had and received; and that so this Act shall run against a married woman entitled in possession for her separate use, whether with or without a restraint upon anticipation, but shall not begin to run against any beneficiary unless and until the interest of such beneficiary is an interest in possession. [Emphasis added]
I wonder whether Mr Justice White in fact reached the correct conclusion. He concluded that the trustee had no time limit to commence an action to recover the debt it was owed. His Honour based this conclusion on one of the particular ‘carve outs’ set out in s32(1), which he emphasised (see above). He saw that there was an exception for ‘recovering trust property’ and concluded that there was, therefore, that the trustee faced no time limit in launching an action to recover the amount owed to it.
But His Honour may have fundamentally misread the s32(1) and its effect. This is a provision about actions against trustees (and not by trustees). Its effect is to allow trustees to plead ‘lapse of time’ as a defence to an action (as if they were not a trustee). The point of the ‘carve outs’ was to ensure that trustees remained accountable for more serious actions for a longer periods of time (and could not plead ‘lapse of time’ as a defence).
If this is right, it matters not, whether a trustee is recovering trust property when it sues for a debt owed to it. This is because the ‘carve out’ in s32(1) is, on its terms, only to keep actions against trustees open for longer than standard periods.