The Full Federal Court has overturned the AAT’s decision that the taxpayer was assessable on two trust distributions, made to her for two reasons. The first was that it confirmed the Trusts’ assumed losses for the relevant years. The second was that she had no ‘present entitlement’ to any trust income, either because the alternate resolution made her initial entitlement contingent, or it was invalid and infected the interrelated main resolution with that invalidity.
The basic situation was this.
1. The case involved two trusts: the ACE Trust and the Arjod Trust, that had interests in a project to develop retirement villiages.
2. The Commissioner had ruled that the construction costs, of such villages, were deductible (a bit over generously, in hindsight, as the ruling was ultimately withdrawn).
3. The Trusts claimed losses in the 2006 and 2007 years (respectively). These stemmed from payments they made, after 30 June in 1999, which the Trusts claimed were deductible before that date, and created carry forward tax losses, in the Trusts, for the 2006 and 2007 respectively.
4. The the taxpayer’s position was that the trustees were entitled to claim that these post-30June payments, were deductible, under s8-1 of theITAA97, prior to 30 June, on the basis that their pre-30 June contract, ‘fully committed’ them to this future expense. The general law, relating to purchase of land, is that a ‘settlement’ amount is NOT relevantly ‘incurred’, at the time of the contract, because there is no liability to pay that amount, until (amongst other things) a transfer of land is tendered. But in this case, there were 2 unconditional payments, required under each contract – one of which was to be made after the 30 June date. Then there were the more traditional ‘settlement’ payments that were conditional.
5. On the basis that the Trusts were entitled to these losses, in the 2006 & 2007 years, respectively, they resolved to distribute their respective income amounts to taxpayer (Mrs Lewski) as follows.
(a) The ACE trustee resolved to distribute 100% of the income of the trust, to the taxpayer, for the 2006 income year.
(b) The Arjod trustee resolved to distribute the first $3.5m, of its 2007 income, to another beneficiary, and the balance to the taxpayer. The balance was small, after allowing for the losses.
(a) $10.109 m for 2006, representing distributions from ACE; and(b) $3.144 m for 2007, representing distributions from Arjod.
9. The ATO claimed that she was presently entitled to relevant amounts, such as to justify these assessments, under s97(1) of the ITAA36. Consistent with this view, the Commissioner then, disallowed her objections.
(a) The alternate distribution resolutions, WERE permitted by the trust deeds, but had to be read with the main resolution, making her entitlement to the Trusts’ income effectively contingent, such that, at the relevant 30 June, she was not ‘presently entitled’ to the trusts’ income (as required by s97 of the ITAA36); or(b) The alternate distribution resolutions were NOT valid, under the trust deeds, in which case, the validity of the main distribution resolution depended on whether the invalid alternative distribution could be severed. The Court held that the alternative resolution could not be severed, because the main and alternative resolutions were ‘interdependent’. Accordingly, if the alternative resolutions were invalid, they infected the main resolutions, with invalidity, also. In this case, the result was the same – the Taxpayer did not have a ‘present entitlement’ to the relevant amounts of the Trusts’ income and the assessments were not justified, under s97(1) of the ITAA36.
(Lewski v FCT [2017] FCAFC 145, Full Federal Court, Perram, Pagone and Moshinsky JJ, 18 September 2017.)
[FJM; LTN 179, 19/9/17]
Catchwords from the reasons for judgement
TAXATION – income tax – deductions – when loss or outgoing is “incurred” – contracts for sale and purchase of land and for sale and purchase of aged care hostel business – whether certain amounts were incurred by purchaser upon execution of contracts – whether Tribunal erred in concluding that the amounts were not incurred upon execution of contracts
TAXATION – income tax – taxation of trusts – discretionary trust – where trustee resolved to distribute income to particular beneficiary but also resolved to distribute the income to a different beneficiary if the Commissioner disallowed a deduction or included an additional amount in assessable income – whether resolutions were valid – whether variation resolution, if invalid, was severable – whether first-mentioned beneficiary was “presently entitled” to a share of the income of the trust estate
TAXATION – review proceedings under Pt IVC of Taxation Administration Act 1953 (Cth) – application by taxpayer to rely on grounds not in objection – principles applicable
TRUSTS AND TRUSTEES – discretionary trust – distribution of income – where beneficiary executed deed of disclaimer – whether disclaimer effective – whether beneficiary had already accepted the distribution – whether knowledge of beneficiary’s agent should be imputed to beneficiary
TRUSTS AND TRUSTEES – discretionary trust – resolution of trustee to distribute income – where resolution expressed in terms of “income” of the trust – where distribution power in trust deed expressed in terms of “Net Income” – whether on its true construction the resolution related to Net Income of the trust
Extract from Judgement
- The issues raised by the appeal (including those raised by a notice of contention filed by the Commissioner) can be summarised as follows:
(a) whether the Tribunal erred in concluding that a settlement amount of $1.74 million (the Settlement Amount) payable under the Contract of Sale and the balance of the purchase price payable under the Purchase of Business Agreement (namely a balance of $5.51 million) were not “incurred” within the meaning of s 8-1(1) of the Income Tax Assessment Act 1997 (Cth) (the 1997 Act) on 30 June 1999 but were incurred later (the Incurred Issue);
(b) whether the Tribunal erred in concluding that the applicant was “presently entitled”, within the meaning of s 97(1) of the 1936 Act, to a share of the income of the trust estate of the ACE Trust for the 2006 year of income and the Arjod Trust for the 2007 year of income; among other things, this requires consideration of the validity and effect of resolutions made by ACPS (as trustee of the ACE Trust) for the 2006 year and Drewvale Investments Pty Ltd (Drewvale) (as trustee of the Arjod Trust) for the 2007 year, including a ‘variation of income’ resolution made by each trustee (the Trust Resolutions Issue);
(c) whether the Tribunal failed to apply, or misapplied, the principles governing whether the applicant should be given leave under s 14ZZK of the Taxation Administration Act 1953 (Cth) (the TAA) to rely on grounds not in her objection (the Leave to Raise New Grounds Issue);
(d) whether the Tribunal erred in concluding that the applicant had not effectively disclaimed the relevant benefits and entitlements under the trusts by executing, on 15 December 2015, two deeds of disclaimer (the Deeds of Disclaimer) (the Disclaimers Issue); and
(e) whether the Tribunal erred in rejecting the applicant’s contention that a resolution made by ACPS with respect to the 2006 year was ultra vires; the applicant had contended that the resolution, in purporting to appoint the “income”, rather than the “Net Income”, of the trust to the applicant was not authorised by the trust deed (the Ultra Vires Issue).
- In brief summary, our conclusions in relation to these issues are as follows:
(a) In relation to the Incurred Issue, the Tribunal effectively adopted a meaning of “incurred” in s 8-1(1) of the 1997 Act that was contrary to that which has been established by legal decisions. It follows that the Tribunal’s decision, insofar as it concerned whether the Settlement Amount under the Contract of Sale and the balance of the purchase price under the Purchase of Business Agreement were incurred on 30 June 1999, is to be set aside. Both parties approached the matter on the basis that the issue would be reconsidered by this Court. We consider that both amounts were incurred upon execution of the contracts on 30 June 1999.
(b) In relation to the Trust Resolutions Issue, we incline to the view that, in each case, the ‘variation of income’ resolution was authorised by the relevant trust deed. But, whether or not the ‘variation of income’ resolution was authorised by the relevant trust deed, the result is the same: the applicant was not “presently entitled” to a share of the income of the trust estate of the ACE Trust for the 2006 year or the Arjod Trust for the 2007 year.
(c) In view of the conclusions we reach in relation to the Disclaimers Issue and the Ultra Vires Issue, it is unnecessary to determine whether the Tribunal erred in the exercise of the discretion in declining to permit the applicant to rely on grounds not in her objection. However, we make some observations, below, about the issue.
(d) In relation to the Disclaimers Issue, we reject the applicant’s challenge to the Tribunal’s conclusion.
(e) In relation to the Ultra Vires Issue, we reject the applicant’s challenge to the Tribunal’s conclusion.
- It follows that the appeal is to be allowed. The decision of the Tribunal should be set aside and, in lieu thereof, orders made that the Commissioner’s objection decision be set aside and the matter remitted to the Commissioner for redetermination according to law.
The ‘incurred issue’
108. In this case, the provisions of the Contract of Sale demonstrate that the Settlement Amount was required to be paid on 31 October 1999 and was definitively committed to on 30 June 1999. There was no obligation on the Vendor to deliver an instrument of transfer prior to any obligation to pay coming into existence: see special condition 8.1 and general condition 12 in Table A. Nor was there any condition precedent requiring the Vendor to take any action before there was an unqualified obligation to pay the Settlement Amount. It is important to distinguish the Settlement Amount from the two other amounts payable under the contract, namely the First Post Settlement Amount and the Final Post Settlement Amount. Unlike those amounts, the obligation to pay the Settlement Amount was not referable to the obtaining of planning approval or the completion of building works. In this sense, the outgoing in issue (namely, the Settlement Amount) was materially different from the outgoing in issue in Malouf. Further, the fact that the transaction in question involved the sale and purchase of real property, while a relevant aspect, does not of itself require the established principles to be applied in a particular way. The issue in such a case remains whether the outgoing is definitively committed to and presently existing, which is to be determined by reference to the true interpretation of the particular language of the contract.
The Trust Resolutions issue
121. Assuming that each of the ‘variation of income’ resolutions was authorised by the relevant trust deed, the next question is whether the applicant was “presently entitled” within the meaning of s 97(1) of the 1936 Act to a share of the net income of the relevant trust estate (that is, 100% of the net income of the ACE Trust for the 2006 year, and 100% of the net income of the Arjod Trust above $3.5 million for the 2007 year). In concluding, at [154]-[157] of the Reasons, that the applicant was presently entitled, the Tribunal treated the ‘distribution of trust income’ and the ‘variation of income’ resolutions as distinct and sequential. However, we do not consider it correct to treat the resolutions in this way. In the case of the ACPS resolutions, the two resolutions were made at the same time: they were set out in a single document signed by the sole director of the company. In the case of the Drewvale resolutions, the two resolutions were made at about the same time, at a meeting of the Board of Directors. In both cases, the resolutions were interdependent in that both resolutions dealt with the same subject matter – the distribution of the income of the trust for a particular year of income – with the latter resolution varying, in certain circumstances, the distribution made by the former resolution. In light of these matters, it is artificial to treat the two resolutions (namely, the ‘distribution of trust income’ resolution and the ‘variation of income’ resolution) as separate and sequential for the purposes of deciding whether the applicant was “presently entitled”. Rather, the two resolutions should be read together for the purposes of deciding this question. There does not appear to be any issue between the parties that, if the two resolutions are read together, the distribution to the applicant was contingent: it depended on the occurrence of an event that may or may not take place (namely, the Commissioner disallowing a deduction or including an additional amount in assessable income). It follows that, assuming that each ‘variation of income’ resolution was authorised by the relevant trust deed, the applicant was not “presently entitled” to a share of the net income of the trust estate of the ACE Trust for the 2006 year or the Arjod Trust for the 2007 year.
122. Although we incline to the view that each ‘variation of income’ resolution was authorised by the relevant trust deed, as the matter is not free from doubt we will also consider the position on the alternative basis that each such resolution was not authorised. If this is the correct analysis, a question of severance arises: can the invalid ‘variation of income’ resolution be severed, leaving in place the ‘distribution of trust income’ resolution? The common law principles regarding ultra vires legislation and subordinate legislation may be applied by analogy. In the context of legislation, the common law rule is that “[n]o severance could be effected unless an inference that the provisions are not to be interdependent can be positively drawn from the nature of the provisions, from the manner in which they are expressed or from the fact that they independently affect the persons or things within power in the same way and with the same results as if the full intended operation of the legislation had been valid”: Bank of New South Wales v Commonwealth [1948] HCA 7; (1948) 76 CLR 1 at 370 per Dixon J. The common law position as regards subordinate legislation is substantially the same: Harrington v Lowe (1996) 190 CLR 311 at 329 n 50, citing Owners of the SS Kalibia v Wilson [1910] HCA 77; (1910) 11 CLR 689 at 713. Alternatively, analogy may be found in the principles regarding severance of an uncertain contractual provision. In that context, whether an uncertain provision can be severed “depends on the intention of the parties to be gathered from the instrument as a whole”: Whitlock v Brew [1968] HCA 71; (1968) 118 CLR 445 at 461, citing Life Insurance Company of Australia Ltd v Phillips [1925] HCA 18; (1925) 36 CLR 60 at 72; see also United Group Rail Services Ltd v Rail Corporation New South Wales [2009] NSWCA 177; (2009) 74 NSWLR 618 at [90]. In the present case, for the reasons given above, we consider the two resolutions (that is, the ‘distribution of trust income’ resolution and the ‘variation of income’ resolution) to be interdependent: both resolutions dealt with distribution of the income of the trust for the same year, with the latter resolution varying the distribution made by the former. Thus, if the correct analysis is that the ‘variation of income’ resolution was invalid, whether legislative or contractual principles are applied by analogy, we do not consider severance to be available and both resolutions would fail. It follows that, on this analysis, the applicant was not “presently entitled” to a share of the net income of the trust estate of the ACE Trust for the 2006 year or the Arjod Trust for the 2007 year.
123. In summary, whether or not the ‘variation of income’ resolution was authorised by the relevant trust deed, the result is the same: the applicant was not “presently entitled” to a share of the income of the trust estate of the ACE Trust for the 2006 year or the Arjod Trust for the 2007 year. In our respectful opinion, for the reasons indicated above, the Tribunal erred in its approach to this question and its decision, to this extent, should be set aside.
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