British American Tobacco Australia Services Ltd v Federal Commissioner of Taxation
Document type: Decision Impact Statement
Venue: Federal Court of Australia (NSD 80 of 2010)
Judgment date: 10 November 2010
Date published: 8 November 2011
Decision outcome: Favourable

Summary of decision:
Outlines the ATO response to this case which concerned the application of Part IVA of the Income Tax Assessment Act 1936 to the particular arrangement entered into by the taxpayer.

Overview of facts:
In 1999, there was a global merger of the British American Tobacco ('BAT') group and the Rothmans International ('RI') group. Before the merger could proceed in Australia, the ACCC required disposal of certain tobacco brands by the taxpayer (a company in the BAT group) to a third party to mitigate the effect of the merger on competition in the Australian market. | In April 1999, the BAT group determined that it would sell 9 brands to the Imperial Tobacco Group and gave relevant undertakings to the ACCC in June 1999. However, the actual sale was not to occur until immediately after the merger of the BAT and RI groups which occurred in September 1999. At this later time, the taxpayer transferred ownership of the brands to a company within the RI group which immediately on-sold the same brands for the same consideration to Imperial Tobacco (the third party). | The taxpayer did not include an amount in its assessable income in respect of the sale of the brand assets to the RI company because of CGT rollover provisions that became available upon the event of the merger. The subsequent capital gains made by the RI company on the sale of the same assets to Imperial Tobacco were reduced to nil through the application of net capital losses that had been made by members of the former RI group. | At first instance in the Federal Court, Emmett J found that Part IVA of the Income Tax Assessment Act 1936 (the 1936 Act) applied to the arrangement. | Issues decided by the court | The appellant submitted that Emmett J had made three errors in applying Part IVA to the arrangement at first instance: | 1) Emmet J erred by accepting an incorrect definition of 'scheme' | The appellant argued that the scheme should have been limited to the step that produced the tax benefit, namely the choice to obtain rollover relief under Subdivision 126-B of the Income Tax Assessment Act 1997. If the scheme were so limited, there would be no tax benefit to which Part IVA could apply by reason of s177C(2A) of the 1936 Act. | Their Honours rejected this submission, holding that the words and operation of s177A and other sections within Part IVA are inconsistent with the taxpayer's submission and that there is also no reason to adopt a narrower meaning of "scheme" in the particular context of s 177C(2A). The usual meaning of "scheme" allows the section to have its proper and intended application (to exclude from the application of Part IVA, in particular circumstances, certain tax benefits attributable to choices and elections). The particular circumstances were not present in this case because the scheme was wider than the roll-over choice. | 2) Emmett J erred by focussing on the wrong 'tax benefit' in the arrangement | In relation to "tax benefit", their Honours rejected the taxpayer's submission that the trial judge focussed on the wrong tax benefit (use of capital losses by another entity rather than the non-inclusion of a capital gain in the assessable income of the taxpayer). The Court said that it was entirely appropriate for the trial judge to have regard to the use of capital losses by another entity in the context of considering the sixth and seventh factors in s 177D(b). It was clear that the trial judge was not confusing the use of capital losses with the actual tax benefit in that context. | 3) In applying the test in s 177D(b), Emmett J employed 'but for' reasoning rather than the correct 'dominant purpose' test. | Their Honours rejected the taxpayer's submission that the trial judge misapplied the "dominant purpose" test in s 177D by adopting a "but for" test. The taxpayer's submission was largely based upon the fact that the trial judge, in assessing the eight factors, took the approach of comparing the scheme with the counterfactual. However, their Honours confirmed that such an approach is "not only open but is usually required in assessing the dominant purpose of the scheme". In this regard, their Honours referred specifically to the factor of the "manner" in which the scheme was carried out and stated that a comparison between the scheme and the counterfactual revealed the manner to be explicable only by the tax consequences. As well as generally approving the trial judge's approach and conclusion as correct, the Court specifically approved of the trial judge's analysis of the third, fifth, sixth, and eighth factors in s 177D(b).

Issues decided:
The appellant submitted that Emmett J had made three errors in applying Part IVA to the arrangement at first instance: | 1) Emmet J erred by accepting an incorrect definition of 'scheme': The appellant argued that the scheme should have been limited to the step that produced the tax benefit, namely the choice to obtain rollover relief under Subdivision 126-B of the Income Tax Assessment Act 1997. If the scheme were so limited, there would be no tax benefit to which Part IVA could apply by reason of s177C(2A) of the 1936 Act. Their Honours rejected this submission, holding that the words and operation of s177A and other sections within Part IVA are inconsistent with the taxpayer's submission and that there is also no reason to adopt a narrower meaning of "scheme" in the particular context of s 177C(2A). The usual meaning of "scheme" allows the section to have its proper and intended application (to exclude from the application of Part IVA, in particular circumstances, certain tax benefits attributable to choices and elections). The particular circumstances were not present in this case because the scheme was wider than the roll-over choice. | 2) Emmett J erred by focussing on the wrong 'tax benefit' in the arrangement: In relation to "tax benefit", their Honours rejected the taxpayer's submission that the trial judge focussed on the wrong tax benefit (use of capital losses by another entity rather than the non-inclusion of a capital gain in the assessable income of the taxpayer). The Court said that it was entirely appropriate for the trial judge to have regard to the use of capital losses by another entity in the context of considering the sixth and seventh factors in s 177D(b). It was clear that the trial judge was not confusing the use of capital losses with the actual tax benefit in that context. | 3) In applying the test in s 177D(b), Emmett J employed 'but for' reasoning rather than the correct 'dominant purpose' test.: Their Honours rejected the taxpayer's submission that the trial judge misapplied the "dominant purpose" test in s 177D by adopting a "but for" test. The taxpayer's submission was largely based upon the fact that the trial judge, in assessing the eight factors, took the approach of comparing the scheme with the counterfactual. However, their Honours confirmed that such an approach is "not only open but is usually required in assessing the dominant purpose of the scheme". In this regard, their Honours referred specifically to the factor of the "manner" in which the scheme was carried out and stated that a comparison between the scheme and the counterfactual revealed the manner to be explicable only by the tax consequences. As well as generally approving the trial judge's approach and conclusion as correct, the Court specifically approved of the trial judge's analysis of the third, fifth, sixth, and eighth factors in s 177D(b).

ATO view of decision:
The decision is consistent with principles established in earlier case authorities relating to Part IVA and the concepts of scheme, tax benefit and dominant purpose.

Administrative treatment:
Implications for ATO precedential documents (Public Rulings & Determinations etc) | None | Implications for Law Administration Practice Statements | None

Legislative references: Income Tax Assessment Act 1936 Part IVA 177A 177C 177D Income Tax Assessment Act 1997 Subdivision 126-B
Case references: Commissioner of Taxation v Hart [2004] HCA 26 217 CLR 216 55 ATR 712 2004 ATC 4599 Commissioner of Taxation v Consolidated Press Holdings (No 1) [1999] FCA 1199 91 FCR 524 99 ATC 4945 42 ATR 575 Commissioner of Taxation v Spotless Services Ltd [1996] HCA 34 186 CLR 404 34 ATR 183 96 ATC 5201 Commissioner of Taxation v Peabody [1994] HCA 43 181 CLR 359 28 ATR 344 94 ATC 4663
Subject references: Capital Gains Tax Rollover Use of Capital Losses Part IVA Definition of Scheme Dominant Purpose of Entering Scheme Tax Benefit