Tax Bulletin – January 2020

January has seen a rush of tax judgements on a variety of tax issues, including the Federal Court’s decision in Eichmann which may significantly narrow the scope of the active asset test within the Small Business CGT concessions. There has also been extra examples added to the TPB’s information sheet in regard to a tax agent’s obligation to take ‘reasonable care’, which is recommended reading for all practitioners. 

CASE LAW UPDATE

Eichmann v CofT— Active asset test

In Eichmann’s case, the taxpayer carried on a business of building, bricklaying & paving through a trust. Land was acquired next to their home, and the sheds and open space were used to store materials, tools, and to park work vehicles. There was no business signage was on the land. The issue was whether land satisfied the active asset test for the purposes of the small business CGT concessions.

The ATO had issued an unfavourable private ruling that the use of the property in the taxpayer’s business was incidental and not sufficient for the land to be an ‘active asset’ for these purposes. However, the AAT held that the use of the land was sufficient to be ‘in the course of’ carrying on the business and it did not need to be integral to the business. As such, the AAT held the active asset test was satisfied.

The ATO appealed to the Federal Court which held that the active asset test requires the use of the land to have a direct functional relevance to the carrying on of the normal day-to-day activities of the business. As the use for storage was a preparatory activity, and not activity in the ordinary course of the taxpayers business, the land was not an active asset.

Key Point: The judge also stated that the whole, or predominantly the whole, of the asset needs to be used in carrying on of a business to be an active asset. This decision therefore results in a potential narrowing of the active asset test where land is not used solely in a business.

Trustee for the Whitby Trust & FCT— Trust distributions and disclaimers

In the Whitby Trust case, the corporate trustee of a discretionary trust operated a property development business. The ATO contended that resolutions distributing trust income to certain beneficiaries for the 2011 to 2014 income years were ineffective and the income therefore vested in the default beneficiaries. On becoming aware these beneficiaries executed deeds disclaiming their entitlements to the trust income for those years. Further deeds of disclaimer were executed in 2016 in respect of all trust entitlements.

The AAT held that the purported distributions of trust income were not effective as there was no evidence that there had been a valid resolution by the directors. The terms of the trust deed were also not
observed as the guardian did not give prior written consent.

The beneficiaries were aware of their entitlements as default beneficiaries but the deeds of disclaimer failed to disclaim all of those entitlements within a reasonable time, or at all and so were ineffective. The 2016 disclaimer was also ineffective as there had been an implicit acceptance of the gift by virtue of the terms of the trust deed through a failure to disclaim it in its entirety. The default beneficiaries were therefore presently entitled to the income of the Trust.

Key Point: This decision emphasises the importance of ensuring that distributions are made and documented effectively, including carefully reviewing the deed. If beneficiaries wish to disclaim a trust entitlement this should be done promptly and proper legal advice obtained.

Miley v FCT—Valuation of shares

The AAT has dismissed a taxpayer’s argument that the value of shares for small business CGT purposes could be reduced by the sale price which was attributable to the value of non-compete restrictive covenants, on the basis they did not exist until after the share sale contract was concluded. The member found that they would have been reflected in the value of the shares immediately prior to sale.

Pike v FCT—Tax residency

The taxpayer in Pike v FCT came to Australia from Zimbabwe in 2005 with his family but took a job in Thailand as he was unable to find work. The family rented homes in Brisbane, jointly purchasing furniture and motor vehicles. The taxpayer was based in Thailand for 8 years, living in rented apartments big enough to accommodate his partner and their children. He joined clubs in Thailand and his salary was paid into a Thai bank account, with funds transferred to Australia as required. He returned to Australia to be with his family 4 to 6 times each year, spending 20% to 30% of his time in Australia. The taxpayer obtained Australian citizenship in 2014. 

The Federal Court agreed with the ATO that the taxpayer was tax resident of Australia for the 2009 to 2016 income years as he and his partner had made their rented accommodation in Australia their place of abode. Once he acquired Australian citizenship the taxpayer also acquired an Australia domicile of choice. As he was also a resident of Thailand the Court applied the tie-breaker tests under the DTA. The taxpayer had a habitual abode in both Australia and Thailand. However his economic relations were overwhelmingly closer to Thailand, as it was employment income which supported his and his family’s lifestyle, and he also had a range of personal connections in Thailand. This meant that he was deemed to be a resident solely of Thailand until 2014. As the Thai DTA prevailed over the income tax legislation the ATO had no entitlement to assess the personal services income derived by the taxpayer in Thailand.

Key Point: Where a taxpayer is a resident of two countries, the tie-breaker tests under the relevant DTA are important to determine where the income can be taxed.

Skourmallas & CofT— GST and Luxury Car Tax

In this case the taxpayer had acquired a luxury car and claimed input tax credits and a LCT refund on the basis he carried on a business of car trading. He had a dealer licence and was in the course of obtaining a qualification in motor trading. However, he did not have a car yard, signage, business cards or a website and did not maintain logbook records. The ATO denied the claims on the basis that the taxpayer did not carry on a business and that the car had been acquired for his private use.

The AAT view was that the taxpayer had a plan to generate a profit and that his pattern of purchasing and reselling luxury vehicles and general lack of private use supported that he was carrying on a business. It was found that the car was acquired in the course of his enterprise and satisfied the requirement that it only be used as trading stock. The taxpayer was therefore entitled to an input tax credit and a LCT refund.

Appeals update—Burton v FCT

The taxpayer in Burton v FCT (Tax Bulletin— August 2019) has applied for special leave to appeal to the High Court. The Full Federal Court held he was only entitled to half the US tax he paid on discounted capital gains as a foreign income tax offset, as only half the capital gains were included in assessable income.

RULINGS, GUIDELINES & PRACTICE STATEMENTS

Taxpayer Alert TA 2020/1— International arrangements & intangible assets

The ATO is reviewing international arrangements that mischaracterise Australian activities connected with the development, enhancement, maintenance, protection and exploitation of intangible assets. The ATO is concerned that functions performed, assets used and risks assumed by Australian entities are not properly recognised and remunerated in accordance with the arm’s length requirements of the transfer pricing provisions. Of particular concern is where intangible assets or associated rights are migrated to international related parties as part of non-arm’s length arrangements. Where these arrangements lack evidence of commercial rationale or substance the ATO may apply the transfer pricing provisions exceptions and the anti-avoidance rules.

The Alert includes a number of examples of arrangements where these provisions may be applied.

ATO & TPB ACTIVITY

Bushfire victims—ATO response for impacted regions

The ATO has announced it will allow taxpayers in bushfire affected regions until 28 May 2020 to lodge and pay income tax returns and BASs, and will remit interest and penalties applied to tax debts since the commencement of the bushfires. These will be applied automatically based on postcodes. This does not automatically apply to large PAYG withholders but they can contact the ATO for assistance with their tax obligations if required. Taxpayers can also request payment arrangements for outstanding debts.

The ATO will also consider releasing individuals and businesses from income tax and fringe benefits tax debts if they are experiencing serious hardship. Affected taxpayers are also able to vary their income tax instalments to nil without penalties. However, employers are reminded that they still need to meet their ongoing super guarantee obligations for their employees.

ATO open forum for practitioners

The ATO will hold an open forum between February and June 2020 to hear directly from practitioners about matters affecting them and their practice, as well as the broader tax professional community.  The forum will discuss:
– Establishing your identity with myGovID and how to set up authorisations and link your business in Relationship Authorisation Manager.
– Latest on a number of initiatives including Single Touch Payroll, communications preferencing, modernising business registers and more.
– The Tax Practitioners Board will also discuss their areas of focus for 2020.

Dates and places are available at: https://www.ato.gov.au/Tax-professionals/Services-and-support/Consultation,-open-forums-and-speakers/Open-forums/

FBT—Car parking fringe benefits

The ATO has advised it may contact clients who have engaged an arm’s length valuer to apply the market value method for car parking fringe benefits. The ATO warns that engaging an arm’s length valuer may not mean all the requirements have been met and it is the clients’ responsibility to confirm the basis on which valuations are prepared. Valuers have prepared reports in some instances using a daily rate that doesn’t reflect the market value, resulting in a significantly discounted value.

A valuation report required under the market value method must include:
– the date of the valuation;
– the precise description of the location of the car parking facilities valued;
– the number of car parking spaces valued;
– the value of the car parking spaces based on a daily rate;
– the full name of the valuer, their qualifications, and the valuer’s signature;
– a declaration stating the valuer is at arm’s length from the valuation; and
– a declaration relating to the FBT year that includes the number of car parking spaces available to be used by employees, number of business days, and daily value of the car parking spaces.

On a related issue, the professional bodies have lodged a joint submission on the draft tax ruling TR 2019/D5, which deals with when a car parking benefit is provided for FBT purposes (Tax Bulletin—November 2019). The bodies have raised concerns regarding the divergence of the law from the policy intent, the impact on previously unaffected taxpayers and the compliance approach that will be taken by the ATO.

Tax Practitioner Board —Reasonable care to ascertain client’s state of affairs

The TPB has updated information sheet TPB(I) 17/2013 which assists tax agents understand the obligation to take ‘reasonable care’ in ascertaining a client’s state of affairs. The sheet includes new examples of clients who receive cash income and what would be considered reasonable care steps to ensure the appropriate taxable income is returned.

An example provided where a tax agent would fail in their obligations is where a client’s turnover appears low and business expenses high in comparison with the ATO Small Business Benchmarks. The tax agent does not ask the client any further questions about his cash income, expenses or record-keeping. The tax agent does not keep written notes of conversations, working papers or records of what is provided by clients and has no checklist to refer to. They admit to not asking further questions in relation to clients’ income and expenses and do not wait for documents that are not provided but accept a verbal account.

In this situation, the TPB may impose sanctions for breach of the Code of Professional Conduct. Sanctions can include a written caution, an order requiring the registered agent to do something specified in the order, suspension of the registered agent’s registration or termination of the registered agent’s registration.

The information sheet contains other examples of whether reasonable care has been taken and, given current TPB activity, is a document that is worth a read by all practitioners.

What can we expect in 2020?

Division 7A: Practitioners are still anxiously waiting for legislation to be released for the Division 7A changes which are due to commence on 1 July 2020. If these are not forthcoming in the next couple of months the Government will be under pressure to further defer, or abandon, these proposals.

Small business concessions: The Board of Taxation report flagged a potential shake-up of the CGT and other small business concessions. Due to the potential revenue savings the Government could be looking to implement these in the near future.

Super guarantee amnesty: Parliament reconvenes on 4 February and the SG amnesty Bill is one of the most significant pieces of tax legislation which remains unpassed.

Professional services firms: The ATO will be issuing draft guidelines to explain how they intend to apply compliance resources when considering the allocation of professional firm profit or income in the assessable income of individual professional practitioners. These guidelines will replace those that were suspended in December 2017.

CONTACT US

For further information on any of these updates, or for general assistance, please contact Our Directors, Jacci Mandersloot or Natalie Claughton.

The information contained in this bulletin is intended to  provide  general information only and is not intended to serve as tax advice. Specific advice should always be sought regarding a taxpayers’ particular circumstances. Please contact MC Tax Advisors if you would like assistance with the issues identified in this bulletin.