The Part IVA changes

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6 December 2012

On Friday, 16 November 2012, the Government released exposure draft legislation (ED) proposed to give effect to changes to the income tax general anti-avoidance rules in Part IVA of the Income Tax Assessment Act 1936 (Part IVA).

Taxpayers will need to assume for the time being that the proposed changes in the ED will be enacted unchanged and consider carefully what, if any, impact the changes will have on transactions and arrangements entered into after the 16 November 2012 start date to which the ATO might seek to apply Part IVA.

Background to the proposed changes

The release of the ED was foreshadowed in a 1 March 2012 press release by the then Assistant Treasurer (March 2012 Announcement), Mark Arbib, stating that the Government would “act to protect the integrity of Australia’s tax system by introducing amendments to Part IVA of the income tax law.”

The Government indicated that the amendments would:

  1. ensure that taxpayers could no longer successfully argue that they had not received a “tax benefit” from a scheme by showing that, but for the scheme, they would have entered into another scheme that would have generated a tax advantage at least as great as the one under the scheme, would have deferred their arrangements indefinitely or would have done nothing at all; and
  2. confirm that Part IVA was always intended to apply to commercial arrangements and steps within such arrangements implemented in a particular way to avoid tax.

The changes were prompted by a number of Federal Court decisions in which the Court’s interpretation of the manner in which Part IVA applies was at odds with the views of the Commissioner of Taxation (Commissioner).  In particular, in several cases, the Court found that the scheme in question generated no “tax benefit” as defined, having regard to a proper formulation of what might reasonably have been expected to have occurred but for the scheme (the alternative postulate).[1]

Senator Arbib also announced that the changes to Part IVA would have application to schemes entered into or carried out on and from 2 March 2012.

The changes in the ED

There are two main changes to Part IVA proposed in the ED.

Constraints on formulating alternative postulates

The first change addresses specific concerns that the Government has about taxpayers successfully arguing that there is no tax benefit.  The change constrains how the alternative postulate, that is, what might reasonably be expected to have happened but for the scheme, can be formulated.  It does this by imposing a number of assumptions in relation to the alternative postulate.

Those constraints are that, when hypothesising alternative postulates to the scheme:

  • no consideration is to be given to the potential tax or withholding tax costs of those alternatives (new s177CB(1)(a));
  • where non-tax effects are achieved by the scheme, consideration must be given to other ways in which the taxpayer (but not any other person) could reasonably be expected to achieve the same non-tax effects (new s177CB(1)(b)); and
  • if the scheme doesn’t achieve any non-tax effects, it is assumed that all events and circumstances that happened or existed outside the scheme would still have happened or existed (new s177CB(1)(c)).

Holistic operation of Part IVA

The second change addresses concerns that, on occasion, in determining the question of whether Part IVA applies to a particular arrangement, the dominant purpose test in s177D has been bypassed by the Courts because the taxpayer has demonstrated that it didn’t secure a tax benefit from the scheme in the first place.  The change is apparently designed to restore the dominant purpose test to its central role in the application of Part IVA. 

The explanatory memorandum to the ED (EM) suggests that what is sought to be achieved is to ensure that the question of whether there is a tax benefit (under s177C) is construed with the dominant purpose test (in s177D) in the interrelated way envisaged by Justices Gummow and Hayne in Commissioner of Taxation v Hart.[2]  In that passage, Gummow and Hayne JJ expressed the view that s177F (which authorises the Commissioner to make a Part IVA determination to cancel tax benefits obtained in connection with a scheme to which the Part applies) and s177D were the two provisions around which Part IVA “pivots”.  The meaning of expressions used in those sections, such as “scheme” and “tax benefit”, were amplified or elucidated by other provisions of Part IVA.  However, these various defined terms needed to be given operation in the interrelated way that s177F required to permit the making of a determination by the Commissioner.  Further, each definition needed to be understood bearing in mind the objective inquiry required by Part IVA as evident from s177D.

According to the EM, the question of whether Part IVA applies to a scheme should no longer start with a consideration of whether a taxpayer has obtained a tax benefit under the scheme.  Rather, it should involve a single, holistic inquiry into whether a person participated in the scheme with a sole or dominant purpose of securing a particular tax benefit for the taxpayer in connection with the scheme.

It appears that the ED seeks to make this change through subtle redrafting and reordering within existing provisions and the addition of other provisions which change slightly the emphasis of the provisions and the scheme of Part IVA.  This subtle change in emphasis is effected as follows:

  1. an object clause has been introduced (s177AA) which states that the object of Part IVA is to counter schemes entered into or carried out with an objectively ascertainable purpose of reducing the liability of a taxpayer to tax or withholding tax;
  2. section 177D has been restructured, seemingly to highlight the primacy of the dominant purpose test (the test is now contained in s177D(1) and the eight factors to be considered in determining the test are in s177D(2)) and highlight as elucidatory only the concepts of “tax benefit” and “scheme” (referred to in ss177D(3) to (5));
  3. changes to the drafting of s177F(1) seem again an attempt to clarify that the existence of a tax benefit is not the starting point for determining whether Part IVA applies; and
  4. new s177CB(2) prescribes that, in considering under new s177CB(1)(b) other ways in which the taxpayer could reasonably be expected to achieve the same non-tax effects of the scheme, you must have regard to the eight factors in s177D(2) viewed objectively.

Comparison of originally announced changes with what is contained in the ED

The forecast changes in the March 2012 Announcement focused mainly on denying taxpayers the ability to argue that there is no tax benefit because, but for the scheme, they would have entered into another scheme that also avoided tax, deferred their arrangements altogether or done nothing at all.  This has been addressed in the changes contained in the new s177CB(1).

The March 2012 Announcement also commented that the amendments would confirm that Part IVA applies to commercial arrangements (including steps within broader commercial arrangements) implemented in a particular way to avoid tax.  It is unclear what the concerns were here and how any apparent concerns are thought to be addressed in the ED.  The only direct reference to the topic seems to be in the objects section in s177AA, where reference is made to schemes, including schemes that are steps within or towards other schemes.

The measures in the ED apparently aimed at restoring the primacy of the dominant purpose test (on the assumption that such primacy has somehow been lost), do not appear to have been referred to in the March 2012 Announcement.

There is one pleasant surprise in the ED.

The Government has decided to make the Part IVA changes prospective from the date of the release of the ED, 16 November 2012, rather than from the day after the March 2012 Announcement.  In so doing, the Government has averted the criticism that would likely have been levelled at it concerning the introduction of retrospective tax laws and headed off any possible constitutional challenge to the Part IVA changes.[3]

Observations on the proposed changes

In the event that the proposed changes in the ED are enacted without amendment, some likely consequences are as follows:

  1. Taxpayers will still need to consider whether the scheme in question gave rise to a “tax benefit” as defined in s177C and, in doing so, it will still be necessary to hypothesise as to what might reasonably have occurred but for the scheme.  This may not be an easy or straightforward exercise.  In formulating the “alternative postulate”, taxpayers will be constrained in their inquires by the matters contained in new s177CB.  The alternative postulate might not be what is most reasonable or realistic in reality because factors that would inevitably impact upon what would occur or not occur but for the scheme (tax consequences for the taxpayer and both tax and non-tax consequences for others) must be ignored in formulating the alternative postulate;
  2. The type of argument that proved successful for the taxpayer in Axa, namely that a third party’s non-tax objective in relation to the scheme (the Macquarie fee arrangement) is relevant in determining the most reasonable alternative postulate to the scheme, is no longer available to taxpayers (as new s177CB(1)(b) is confined to a consideration of the taxpayer’s non-tax objectives);
  3. The type of argument that proved successful for the taxpayers in Futuris and RCI, namely that tax outcomes for the taxpayer are relevant in determining the most reasonable alternative postulate to the scheme, are no longer available to taxpayers (as a consequence of the new s177CB(1)(a));
  4. The changes are likely to narrow the range of taxpayer defences to an application of Part IVA in a limited number of cases.  As is currently the case, in most Part IVA cases in which the new rules will apply, there will be a scheme and an identifiable tax benefit.  The main focus will be on whether it is possible to identify a person who has the sole or main purpose in entering into the scheme of obtaining the tax benefit for the taxpayer;
  5. Because the alternative postulate is relevant in assessing purpose in s177D, it seems likely that there will be only a small number of cases which taxpayers would have won under the existing law that they would lose under the law as amended by the changes in the ED.  For instance, whilst the Full Federal Court in RCI found that there was no tax benefit (a finding that might not be made in relation to an equivalent scheme entered into after 16 November 2012), it also found that even if there was a tax benefit, there was no dominant purpose on someone’s part for the taxpayer to obtain such a benefit; and
  6. Finally, some of the proposed new provisions in the ED are so opaque in their operation and the disconnect between some of the provisions and the relevant commentary in the EM so wide that it may be many years, after much judicial consideration, before the true scope and nature of these provisions become apparent.

  [1] See Commissioner of Taxation v Axa Asia Pacific Holdings Ltd [2010] FCAFC 134 (Axa), Commissioner of Taxation v Futuris Corporation [2012] FCAFC 32 (Futuris) and RCI Pty Ltd v Commissioner of Taxation [2011] FCAFC 104 (RCI).

  [2] (2004) 206 ALR 207 (Hart) at [36] to [37].

  [3]See here on the possibility of a constitutional challenge to the recent retrospective transfer pricing measures.


The content of this publication is for reference purposes only. It is current at the date of publication. This content does not constitute legal advice and should not be relied upon as such. Legal advice about your specific circumstances should always be obtained before taking any action based on this publication.


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Rhys Jewell

Partner. Melbourne
+61 3 9672 3455

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