Talking Tax – Issue 159

Forgiveness of a loan - deemed dividend under Division 7A

In VCJN and Commissioner of Taxation (Taxation) [2019] AATA 968 (23 May 2019), the Administrative Appeals Tribunal (Tribunal) agreed with the Commissioner of Taxation (Commissioner) that the taxpayer’s forgiveness of a loan should be treated as a deemed dividend per s 109E(1) of the Income Tax Assessment Act 1936 (Cth) (ITAA36).

In this decision, the Tribunal disagreed with the taxpayer’s arguments that he did not make the loan repayments due to circumstances outside of his control. Specifically, the taxpayer had argued that the 2008 Global Financial Crisis, and the subsequent economic downturn, was the cause of his failure to make the minimum yearly repayments. The Tribunal’s response was that:

If a person chooses to put himself into a position where he must meet certain financial obligations, if the operation of inevitable or foreseeable circumstances or the foreseeable financial environment, cause the [taxpayer] not to be able to meet those financial obligations, that cannot be considered beyond his control.

The [taxpayer] chose to expose himself to the consequences of reasonably foreseeable, in fact predictable, financial circumstances.

Furthermore, the Tribunal found that the taxpayer would not suffer ‘undue hardship’ if he were treated as having derived the dividend. The Tribunal did acknowledge that there may be some hardship in that the taxpayer may have to sell assets and rearrange his affairs but this did not amount to undue or unreasonable hardship. This was because the taxpayer, over a number of years, had structured his affairs so as to receive hundreds of thousands of dollars through his superannuation fund while neither he nor the entities that generated that income had met their tax obligations.

Ultimately, this Tribunal decision provides some useful commentary on:

1. what is meant by “circumstances beyond the entity’s control”; and
2. whether the Commissioner should be satisfied that a taxpayer would suffer “undue hardship” if there is a deemed dividend under s 109E of the ITAA36,

in the context of the Commissioner’s discretion to allow a loan to not be treated as a dividend under section s 109Q(1) of the ITAA36.

Summary judgement for payment of Director’s penalty relating to PAYG tax obligations

In Deputy Commissioner of Taxation v Giuseppe Giovanni Antonio De Simone [2019] VSC 346, Associate Judge Mukhtar of the Supreme Court of Victoria accepted the Commissioner’s application for summary judgment that the defendant pay a director's penalty for the Pay-As-You-Go income tax (PAYG tax) obligations in respect of two companies of which he was a director.

A company must deduct and withhold the PAYG tax payable on the gross wages, salaries, commissions, bonuses and allowances derived by its employees. The taxpayer was the director of a company which had deducted and withheld approximately $540,000 in PAYG tax payments.

Upon an amount of PAYG tax being withheld, the taxpayer (as director of the relevant company) had to cause the company to take at least one of the following steps:

1. remit the withheld PAYG tax to the Deputy Commissioner of Taxation (DCT);
2. make an agreement with the DCT for payment; or
3. move promptly into voluntary administration or liquidation.

The taxpayer failed to cause the relevant company to take any of these steps and was subsequently served with a Director Penalty Notice (DPN) by the DCT requiring him, as director, to pay a penalty equal to the amount of the unpaid PAYG tax.

The taxpayer pointed to 9 separate payments totalling $1 million that had been made to the ATO. The DCT had taken the 9 payments made and offset them against other primary tax debts owed by the relevant company to the ATO. The taxpayer claimed that he had made the payments on his own behalf, in his personal capacity, from his own money and that the payments were made to extinguish his personal liability for any penalty as a director of the relevant company. The taxpayer also contended that because the payments had been made by him personally, the DCT did not have the discretion to allocate payments made to satisfy the other tax debts of the relevant company, meaning that his liability to pay the PAYG penalty amount had been satisfied.

Whilst the judge noted that this argument was “ingenious,” it was ultimately unsustainable as the taxpayer was unable to produce evidence, beyond a mere assertion, that the payments were made by him specifically to satisfy his liability to pay the PAYG penalty amount. Indeed, 5 of the nine payments had been made before the relevant liabilities even arose.

Ultimately, this case covers a range of issues relating to:

• the imposition of penalties;
• the necessary onus required for summary judgement in relation to enforcing a payment; and
• a consideration of the character of penalties (as opposed to being characterised as tax).

This case may be used as an example of how debt enforcement proceedings can play out in reality where a director has failed to pay penalties, and sheds light on the risks involved for directors of entities that fail to comply with their tax obligations.

Extended ‘economic entitlement’ duty provisions will become law in Victoria

The controversial State Taxation Acts Amendment Bill 2019 (Vic) (Bill) was introduced without prior industry consultation, and has been passed by both houses without amendment and referred to the Governor to receive Royal Assent.

Some of the more controversial provisions in the Bill will come into effect the day after it receives royal assent, while others will commence on 1 July 2019 or later. These changes will have broad ranging consequences for taxpayers in Victoria.

One of the most significant changes is the revamping and extension of the ‘economic entitlement’ rules by introducing new provisions into the ‘transfer’ duty regime (rather than just in the ‘landholder’ duty regime). These proposed changes will have extensive reach and will bring many commercial arrangements to duty. They will apply to most ‘standard’ commercial development agreements, many arrangements in the funds management space, and may even go so far as to apply to common real estate transactions involving Victorian land.

For entities seeking to finalise their transactions and operations soon, they should be aware that certain arrangements that do not trigger duty under the current regime might trigger arrangements under the new provisions.

You can find our analysis of the impact the Victorian changes will have for taxpayers below:

• New Victorian transfer duty legislation to sting property professionals and fund managers
• Victorian State FY20 Budget
• Draconian new ‘economic entitlement’ duty provisions will become law!

Should you have any queries in relation to these changes, please contact Jim Koutsokostas or Joel Benjamin.

This article was written with the assistance of Charlie Renney, Law Graduate.