Thinking | 2 December 2016

Talking Tax – Issue 60

ATO updates

Government releases DPT draft legislation

The Government has released draft legislation and an explanatory memorandum regarding the implementation of the proposed Diverted Profits Tax (DPT) as announced in the 2016-17 budget.

The DPT is intended to strengthen the anti-avoidance rules in Part IVA by introducing a 40% tax on profits transferred offshore by multinationals for the purpose of avoiding Australian tax. The measure will only apply to large multinationals (being significant global entities with annual global income exceeding $1 billion), and schemes involving associated entities in lower tax jurisdictions without economic substance. The DPT is proposed to apply for tax benefits obtained in income years commencing on or after 1 July 2017.

Tax avoidance by multinational corporations continues to be a highly sensitive and politicised topic in Australia and around the world, and the implementation of DPT will add to the ATO’s arsenal of anti-avoidance measures. Companies should carefully analyse their cross border activity to ensure that contemporaneous documentation exists to support the non-tax economic substance of transactions.

The closing date for submissions on the draft legislation is 23 December 2016.

The ‘primary condition’ for the DPT to apply is that it must be reasonable to conclude that the scheme or part of the scheme was carried out for the principle purpose of:

enabling the relevant taxpayer and/or another taxpayer to obtain tax benefits; or
enabling the relevant taxpayer and/or another taxpayer to both obtain tax benefits and reduce foreign tax liabilities.

The following exemptions to the DPT are proposed:

Exemption	Operation	Reasoning
$25 million turnover test	Applies if the turnover of the taxpayer and any other Australian entities part of the same global group is below the $25 million threshold	To ensure that the DPT does not apply where the operations of the relevant taxpayer and associated Australian entities are relatively small.
Sufficient foreign tax test	Involves a comparison between the foreign tax liabilities incurred and the potential Australian tax liability. If the increase in the foreign tax liability as a result of the relevant scheme amounts to at least 80% of the reduction in Australian tax liability of the taxpayer, the exemption will apply.	To ensure that the DPT does not apply in circumstances where insignificant foreign tax benefits arise as a result of the scheme.
Sufficient economic substance test	Applies where the income from the scheme reasonably reflects the economic substance of the entity’s activities in connection with the scheme.	To ensure that the DPT only applies to artificial arrangements, not those where a structure reasonably reflects the entity’s economic substance.

Draft Law Companion Guidelines for superannuation reform

The ATO has issued two draft Law Companion Guidelines on the implementation of the Treasury Laws Amendment (Fair and Sustainable Superannuation) Bill 2016 (Bill) that received Royal Assent on 29 November 2016.

Among other things, the Bill imposes a transfer balance cap from 1 July 2017 on the amount that can be transferred to the tax free earnings retirement phase which supports superannuation income streams. For the 2017-18 fiscal year, the general transfer balance cap is $1.6 million. Draft Law Companion Guideline LCG2016/D9 provides guidance on the implementation of the transfer balance cap from 1 July 2017.

In preparation for the transfer balance cap reforms commencing on 1 July 2017, individuals may need to reduce amounts currently supporting superannuation income streams. Varyingly, this may involve withdrawing amounts from the superannuation environment, or transferring value from the retirement phase to the accumulation phase.

The Government has introduced CGT relief provisions which will apply to preserve the income tax exemption for capital gains accrued but not yet realised, by a complying superannuation fund on certain CGT assets. Draft Law Companion Guideline LCG 2016/D8 provides guidance on the CGT relief that will apply to the reallocation or reappointment of assets supporting income streams to the accumulation phase prior to the implementation of the superannuation reforms on 1 July 2017.

Comments on the draft Law Companion Guidelines should be made to the ATO by 8 December 2016.

Draft Law Companion Guideline LCG 2016/D8

Draft Law Companion Guideline LCG 2016/D8 provides guidance on the CGT relief that will apply to the reallocation or reappointment of assets supporting superannuation income streams during the accumulation phase prior to the implementation of the superannuation reforms on 1 July 2017.

The CGT relief will apply to individuals that need to reduce the amounts currently supporting their superannuation income streams in order to comply with the introduction of the transfer balance cap that will take effect as of 1 July 2017. The relief will be contained in sections 294-100 to 294-120 of the Income Tax (Transitional Provisions) Act 1997.

The provisions will maintain the CGT exemption for capital gains accrued but not realised on the CGT assets held by the superannuation fund during the pre-commencement period. The pre-commencement period is the period starting on the start of the day the Bill was tabled in the House of Representatives, being 9 November 2016, to just before 1 July 2017.

Draft Law Companion Guideline LCG2016/D9

Draft Law Companion Guideline LCG2016/D9 provides guidance on the transfer balance cap to be implemented from 1 July 2017. The reforms introduce the concepts of a transfer balance account, a general transfer balance cap and a transfer balance cap.

The general transfer balance cap is $1.6 million for the 2017-18 financial year (subject to indexation).
An individual’s transfer balance cap will limit the capital that can be transferred to the retirement phase to support superannuation income streams, and will be proportionally indexed based on whether an individual’s balance has ever equalled or exceeded their transfer balance cap. An individual who exceeds their transfer balance cap will permanently lose their entitlement to increase their transfer balance cap by indexation in future years.
The transfer balance account will track the net amounts an individual has transferred to the retirement phase. It can be used as a tool by individuals to determine whether they have exceeded their transfer balance cap. As they are not in the retirement phase, transition to retirement income streams will not be included in an individual's transfer balance account.

An individual’s transfer balance is the sum of the credits in their transfer balance account less the sum of the debits. Where an individual’s account exceeds their transfer balance cap, the cap will be breached and they will have an excess transfer balance. This is assessed daily, and can result in the excess transfer balance tax being incurred. Transitional provisions will operate so that excess transfer balance will not arise until 17 December 2017.

The ATO has warned that individuals with superannuation interests likely to exceed $1.6 million as at 30 June 2017 should closely monitor the balance of their superannuation funds to ensure that they do not exceed the transfer balance cap initially or at the end of the transitional period.

Case Law

BCI Finances Pty Limited (in liq) v Binetter (No 4) [2016] FCA 1351

In a long-running Project Wickenby related matter, the liquidators of four companies (acting on behalf of the Commissioner of Taxation) have succeeded in a Federal Court action claiming that several directors of those companies breached their fiduciary and statutory duties by engaging in tax evasion.

The decision confirms that the fiduciary and statutory duties of company directors may be breached where they are complicit in Part IVA tax evasion schemes.Following an audit, the Commissioner of Taxation issued notices of assessment, amended assessments and penalty assessments to the four companies in 2009 and 2010 on the basis of fraud and evasion. The companies disputed the revised assessments for several years, and eventually went into liquidation. The companies brought the Federal Court action for over $120 million against the directors for breaches of fiduciary and statutory duties, being equal to the tax liabilities arising from the amended assessments that had been issued to the companies in respect of a ‘scheme’ under Part IVA of the Income Tax Assessment Act 1936.

The alleged scheme was comprised of ‘back to back’ loan arrangements involving the use of funds in Switzerland and Israel as security for advances from Israeli banks. The advances were equivalent to offshore deposits. The liabilities in the amended assessment arose as a result of the disallowance of interest deductions paid to the Israeli banks and the inclusion of other related amounts in the companies’ assessable income.

The Court held that the directors breached their fiduciary duties by agreeing to participate in a scheme between the companies and the Israeli banks. The Court found the directors intentionally concealed the existence of the offshore deposits and any income earned from the deposits.

Across the four companies, the Court found that as a result of the breach of fiduciary duties, the directors were liable for the lodgement of false tax returns, costs of winding up, revised assessments and penalty assessments.

The court will hear the parties on the orders that should be made to give effect to the decision.

Smeaton Grange Holdings Pty Ltd v Chief Commissioner of State Revenue [2016] NSWSC 1594

The NSW Supreme Court has upheld an appeal by several entities against a decision by the Chief Commissioner of State Revenue to group the entities for payroll tax purposes on the basis that certain beneficiaries had a controlling interest in certain trusts.

The appeal centred on the effect of a disclaimer by one of the beneficiaries of any rights that he might have under the trust, following the decision to group the entities and whether the disclaimer effectively refuted this controlling interest.

The Court considered the validity of the disclaimer and found that as people could unknowingly be beneficiaries of trusts, the payroll tax grouping provisions could be oppressive if a disclaimer could not validly operate. In coming to this decision, the Court considered several key issues regarding the operation of disclaimers in the context of discretionary trusts.The entities, including two discretionary trusts and two companies, were grouped under section 72(1) of the Payroll Tax Act 2007 (NSW) based on the controlling interests of two brothers, Michael and Ralph.

Michael was within the class of beneficiaries of both trusts, and both brothers were directors of the corporate trustee of one trust (Family Trust) established by their parents. One of the trusts was established by Ralph, and Michael was not aware he was a beneficiary and had not received any distributions. The Commissioner grouped the two trusts and two businesses owned by Michael and Ralph on the basis that:

Michael had a controlling interest in both trusts and one business
Ralph had a controlling interest in the Family Trust and the other business and
the Family Trust was a member of both groups.

The basis for Michael’s controlling interest, pursuant to section 72(6) of the Payroll Tax Act 1971 (NSW) was that he was within the class of beneficiaries of both trusts. Michael retrospectively disclaimed any rights under the trust to prevent him having a controlling interest. The Commissioner rejected this, and the decision to group the companies was appealed to the NSW Supreme Court.

Michael disclaimed the interest by deed poll to which he was the only party. The Commissioner submitted that as a unilateral deed, the deed poll could be altered at any time, and as it was voluntary and without consideration it was possible that Michael could retract the disclaimer in the absence of third party reliance on it.

The Court found that while most authorities on the issue considered gifts of property, there was no reason that a person should be required to accept a gift of personal rights. Accordingly, the Court rejected the Commissioner’s argument that the rights under a discretionary trust cannot be disclaimed.

The Court found that the disclaimer by deed poll was effective and irrevocable despite the lack of consideration. Further, the Court stated that even if it was possible for the disclaimer to be revoked, it did not follow that they were ineffective merely because revocation in the future could be possible.

Term of imprisonment for participation in refund fraud syndicate

The NSW District Court has sentenced an individual to two years imprisonment for his participation in a tax refund fraud syndicate. The man participated in fraudulent activity whereby identity crime was used that resulted in the lodgement of 13 false tax returns using the identities of unknowing taxpayers. A total of $82,879 in refunds was deposited into bank accounts controlled by him.

The Court sentenced the man to two years imprisonment and the repayment of $82,879 to the Commonwealth. The Court stressed general deterrence as an important factor in sentencing for money laundering offences.

Following this decision, the ATO released a statement relating to this case indicating that the ATO are taking tax crime very seriously. It reiterated the data analytical tools available to the ATO to detect such activity and its intention to investigate and prosecute such activity.