Commissioner of Taxation v RCI Pty Ltd
Document type: Decision Impact Statement
Venue: Federal Court of Australia (S 324 of 2011 (High Court); NSD 563 of 2011 (Full Federal Court))
Judgment date: 10 February 2012
Date published: 7 November 2016
Decision outcome: Adverse Full Federal Court decision | Commissioner's special leave application refused

Summary of decision:
Outlines the ATO response to this decision which concerned whether the Commissioner was correct in determining that the general anti-avoidance provisions applied in the circumstances of a particular transaction entered into by the taxpayer.

Overview of facts:
As part of an international corporate reorganisation codenamed Project Chelsea (also called Project Scully initially), the James Hardie Group transferred its operating companies into a new more tax effective structure headed by James Hardie NV. | Project Chelsea had been planned since early 1997. A key step in the Project from its inception had been a revaluation of assets and the subsequent payment of a dividend. | In October 1998, as part of the Project, the taxpayer ("RCI"), a wholly owned subsidiary of James Hardie Industries Ltd ("JHIL"), transferred its wholly owned US subsidiary, James Hardie (Holdings) Inc ("JHH") to a new group company, RCI Malta Holdings Ltd ("RCI Malta"). This transfer triggered a CGT event for RCI in the 1999 income year. RCI was, and is, an Australian resident company. JHH, incorporated in the US state of Nevada, was the holding company of the US sub-group, which was engaged in a business of manufacturing and sale in the US. | In March 1998, about seven months prior to the disposal of JHH, the following events took place: (a) JHH revalued its shareholding in its immediate wholly owned US subsidiary, James Hardie (USA), through which JHH held the US sub-group, resulting in identification of a US$318 million surplus; (b) JHH paid an exempt s23AJ dividend of US$318 million (A$478,555,305) to RCI out of the revaluation amount; and (c) To satisfy its liability to RCI to pay the dividend, JHH paid US$20 million in cash to RCI and, in exchange for JHIL crediting US$298 million to RCI's intercompany account with JHIL, issued a promissory note to JHIL for US$307,415,972. The promissory note was the first of three intra-group notes issued as part of Project Chelsea. | (a) JHH revalued its shareholding in its immediate wholly owned US subsidiary, James Hardie (USA), through which JHH held the US sub-group, resulting in identification of a US$318 million surplus; (b) JHH paid an exempt s23AJ dividend of US$318 million (A$478,555,305) to RCI out of the revaluation amount; and (c) To satisfy its liability to RCI to pay the dividend, JHH paid US$20 million in cash to RCI and, in exchange for JHIL crediting US$298 million to RCI's intercompany account with JHIL, issued a promissory note to JHIL for US$307,415,972. The promissory note was the first of three intra-group notes issued as part of Project Chelsea. | In August 1998, RCI injected US$50.2 million additional equity into JHH by way of a share subscription. In October 1998, RCI sold its shares in JHH to RCI Malta. | The exempt dividend had the effect of reducing the market value of RCI's shareholding in JHH. RCI included a capital gain of A$45,971,764 from the disposal of JHH in its 1999 income tax return. | As a result of an audit, the Commissioner issued an amended assessment for the 1999 year pursuant to a Part IVA determination on the basis that RCI had obtained a tax benefit being the non-inclusion of an amount of capital gain of A$478,237,746 in its assessable income. | The taxpayer's objection against the amended assessment was disallowed in full. | This was the Commissioner's application to the High Court for special leave to appeal against the decision of the Full Federal Court, delivered on 22 August 2011 that had been unfavourable to the Commissioner. The Full Court had allowed the taxpayer's appeal against the decision of Stone J at first instance, delivered on 1 September 2010, which was favourable to the Commissioner. | Issue decided by the High Court | Whether a grant of special leave to the Commissioner to appeal against the decision of the Full Federal Court was warranted in the circumstances of this case. | Answer: No. | At the special leave hearing on 10 February 2012, the High Court (Gummow, Hayne and Heydon JJ) refused to grant special leave to the Commissioner to appeal against the decision of the Full Federal Court. The High Court observed that it refused the application on the grounds that it was not satisfied that the Commissioner had sufficient prospect of success in demonstrating error by the Full Federal Court in its findings respecting the criterion in section 177C of the 1936 Act (regarding whether the taxpayer had obtained a "tax benefit" in entering into or carrying out the alleged scheme). | Issue decided by the Full Federal Court | Whether Part IVA applied to the scheme identified by the Commissioner. | Answer: No. | The key points from the Full Federal Court's decision on 22 August 2011 are as follows. | Tax benefit | In paragraph 129, the Full Court noted that Stone J at first instance said in her reasons at [88] that the taxpayer carries the onus of establishing that the Commissioner's counterfactual is unreasonable; and that if the taxpayer does not establish that the counterfactual is unreasonable, then the taxpayer fails to prove that the assessment is excessive on that ground. In paragraph 130 the Court went on to find that such a statement of the onus is "erroneous, but if not, certainly unhelpful because it can lead one into error." Later in paragraph 130 it went on to say: "That is because the issue is not whether the Commissioner puts forward a reasonable counterfactual or not; it is a question of the Court determining objectively, and on all of the evidence... What would have or might reasonably be expected to have occurred if the scheme had not been entered into." | In paragraph 131 in a further statement of why the Court considered that Stone J's formulation of the onus was erroneous, the Court observed: "...it implies that if the Commissioner's counterfactual is reasonable that is the end of the matter, even if the Court were to conclude, on all of the evidence, .... that if the scheme had not been entered into the taxpayer would or might reasonably be expected to have done something which did not give rise to a tax benefit.... In our view, that cannot be correct." | In paragraph 135 in discussing how a taxpayer successfully discharges the onus regarding the Commissioner's counterfactual, the Court noted that, in a given case, it may not be necessary for the taxpayer to lead evidence of what it would have done differently, "...because, for example, the result of any objective enquiry as to the counterfactual is, at best, inevitable or, at worst, compelling. In such a case, the failure to lead evidence to say that the taxpayer would have undertaken a particular activity... in lieu of the scheme... will not lead to the taxpayer failing to discharge the onus." | In paragraph 150, turning to the facts of the present case, the Court found that if the scheme had not been entered into or carried out, the reasonable expectation was that the relevant parties would have either abandoned the proposal (i.e. the "do nothing" counterfactual), indefinitely deferred it, or altered it, "...but they would not have proceeded to have RCI transfer its shares...at a cost of $172 million. On this view, RCI did not obtain the tax benefit it was alleged by the Commissioner to have obtained in connection with the scheme." | Notably, it was, in effect, the largeness of the very tax cost the avoidance of which the Commissioner complained of that led the Court to conclude that Project Chelsea would not have proceeded in the same form, had the dividend not been paid. | Dominant purpose | In paragraph 151 the Court noted that having found that there was no tax benefit obtained by the taxpayer in connection with the scheme it was not strictly necessary for it to make any finding about dominant purpose, but in the event that Stone J was correct, the Full Court went on to discuss dominant purpose at paragraphs 152-169. | In paragraph 169 the Court said that the only objective indicia that arguably would suggest that the relevant parties had entered into the transaction for the dominant purpose of tax avoidance was the size of the dividend, being US$318 million. However the size of the dividend was explicable for other reasons as contended by RCI, and as a result it could not be concluded (by reference to a balanced consideration of the eight factors contained in s177D(b)) that the relevant parties had entered into the transaction for the dominant purpose of tax avoidance. | In paragraph 170 the Court said that, in the event that it was incorrect about the taxpayer not having obtained a tax benefit in connection with the scheme, it would as a result of the above also have come to a different conclusion to the primary judge in relation to the evidence on dominant purpose.

Issues decided:
Whether a grant of special leave to the Commissioner to appeal against the decision of the Full Federal Court was warranted in the circumstances of this case.: Answer: No. At the special leave hearing on 10 February 2012, the High Court (Gummow, Hayne and Heydon JJ) refused to grant special leave to the Commissioner to appeal against the decision of the Full Federal Court. The High Court observed that it refused the application on the grounds that it was not satisfied that the Commissioner had sufficient prospect of success in demonstrating error by the Full Federal Court in its findings respecting the criterion in section 177C of the 1936 Act (regarding whether the taxpayer had obtained a "tax benefit" in entering into or carrying out the alleged scheme). | Whether Part IVA applied to the scheme identified by the Commissioner.: Answer: No. The key points from the Full Federal Court's decision on 22 August 2011 are as follows. | Tax benefit: In paragraph 129, the Full Court noted that Stone J at first instance said in her reasons at [88] that the taxpayer carries the onus of establishing that the Commissioner's counterfactual is unreasonable; and that if the taxpayer does not establish that the counterfactual is unreasonable, then the taxpayer fails to prove that the assessment is excessive on that ground. In paragraph 130 the Court went on to find that such a statement of the onus is "erroneous, but if not, certainly unhelpful because it can lead one into error." Later in paragraph 130 it went on to say: "That is because the issue is not whether the Commissioner puts forward a reasonable counterfactual or not; it is a question of the Court determining objectively, and on all of the evidence... What would have or might reasonably be expected to have occurred if the scheme had not been entered into." In paragraph 131 in a further statement of why the Court considered that Stone J's formulation of the onus was erroneous, the Court observed: "...it implies that if the Commissioner's counterfactual is reasonable that is the end of the matter, even if the Court were to conclude, on all of the evidence, .... that if the scheme had not been entered into the taxpayer would or might reasonably be expected to have done something which did not give rise to a tax benefit.... In our view, that cannot be correct." In paragraph 135 in discussing how a taxpayer successfully discharges the onus regarding the Commissioner's counterfactual, the Court noted that, in a given case, it may not be necessary for the taxpayer to lead evidence of what it would have done differently, "...because, for example, the result of any objective enquiry as to the counterfactual is, at best, inevitable or, at worst, compelling. In such a case, the failure to lead evidence to say that the taxpayer would have undertaken a particular activity... in lieu of the scheme... will not lead to the taxpayer failing to discharge the onus." In paragraph 150, turning to the facts of the present case, the Court found that if the scheme had not been entered into or carried out, the reasonable expectation was that the relevant parties would have either abandoned the proposal (i.e. the "do nothing" counterfactual), indefinitely deferred it, or altered it, "...but they would not have proceeded to have RCI transfer its shares...at a cost of $172 million. On this view, RCI did not obtain the tax benefit it was alleged by the Commissioner to have obtained in connection with the scheme." Notably, it was, in effect, the largeness of the very tax cost the avoidance of which the Commissioner complained of that led the Court to conclude that Project Chelsea would not have proceeded in the same form, had the dividend not been paid. | Dominant purpose: In paragraph 151 the Court noted that having found that there was no tax benefit obtained by the taxpayer in connection with the scheme it was not strictly necessary for it to make any finding about dominant purpose, but in the event that Stone J was correct, the Full Court went on to discuss dominant purpose at paragraphs 152-169. In paragraph 169 the Court said that the only objective indicia that arguably would suggest that the relevant parties had entered into the transaction for the dominant purpose of tax avoidance was the size of the dividend, being US$318 million. However the size of the dividend was explicable for other reasons as contended by RCI, and as a result it could not be concluded (by reference to a balanced consideration of the eight factors contained in s177D(b)) that the relevant parties had entered into the transaction for the dominant purpose of tax avoidance. In paragraph 170 the Court said that, in the event that it was incorrect about the taxpayer not having obtained a tax benefit in connection with the scheme, it would as a result of the above also have come to a different conclusion to the primary judge in relation to the evidence on dominant purpose.

ATO view of decision:
As indicated in previous Decision Impact Statements on Part IVA cases, the Commissioner will take all decisions of the High Court and Federal Court into account in applying Part IVA to the particular facts of cases. | With the High Court having refused the Commissioner's application for special leave, the decision of the Full Federal Court (Edmonds, Logan and Gilmour JJ) to allow RCI's appeal against the decision of Stone J at first instance stands and became final. | Tax benefit | The Commissioner accepts that the decision is authority for the propositions set out above under the heading 'Issues decided by the Full Federal Court'. | How to discharge the onus of proof | The Commissioner will not automatically accept unsubstantiated assertions that a particular commercial transaction would not have been entered into if the tax advantage in question had not been available. The onus of proof remains on the taxpayer to make good such assertions, for example by reference to cogent evidence or compelling commercial logic. See paragraphs 133-136 of the Full Court's decision. | Dominant purpose | The Full Court's finding on purpose turned on the facts of the case. | Legislative announcement | The views outlined above represent the views of the Commissioner in relation to the application of Pt IVA as it currently stands. Those views are subject to the prospect of legislative change taking effect from 1 March 2012, as announced by the former Assistant Treasurer on that date.

Administrative treatment:
Implications for ATO precedential documents (Public Rulings & Determinations etc) | CGT reduction arrangement schemes are the subject of Taxation Determination TD 2003/3. Any alteration to TD 2003/3 required as a result of the RCI case has been superseded by the changes to Part IVA introduced by the Taxation Laws Amendment (Countering Tax Avoidance and Multinational Profit Shifting) Act 2013 , Schedule 1. | Implications for Law Administration Practice Statements | Law Administration Practice Statement PS LA 2005/24 Application of General Anti Avoidance Rules was updated on 16 September 2016 to reflect statements made by the High Court in this case, in relation to discharging the onus of proof for the tax benefit test under subsection 177C(1). Refer to paragraphs 102 and 104-105 of the PS LA 2005/24. | However, section 177CB was inserted by the Taxation Laws Amendment (Countering Tax Avoidance and Multinational Profit Shifting) Act 2013 , Schedule 1. In the ATO's view, section 177CB so significantly alters the conceptual framework of the tax benefit test in subsection 177C(1) that earlier case law involving the tax benefit concept can no longer be wholly regarded as representing the law after 16 November 2012, and should be treated with extreme caution. Refer to paragraph 83 of PS LA 2005/24. | Date of amendment Part Comment 7 November 2011 Administrative treatment Updated to advise the treatment of TD 2003/3 and PS LA 2005/24 Comments section Deleted

Legislative references: Income Tax Assessment Act 1936 Part IVA 177A 177C 177D 177E 177F Income Tax Assessment Act 1997 102-5 Taxation Administration Act 1953 14ZZO
Case references: Commissioner of Taxation v News Australia Holdings Pty Ltd [2010] FCAFC 78 2010 ATC 20-191 (2010) 79 ATR 461 Federal Commissioner of Taxation v AXA Asia Pacific Holdings Ltd (2010) 189 FCR 204 2010 ATC 20-224 (2010) 81 ATR 180 Federal Commissioner of Taxation v Trail Bros Steel & Plastics Pty Ltd (2010) 186 FCR 410 2010 ATC 20-198 (2010) 79 ATR 780 Futuris Corporation Limited v Commissioner of Taxation [2010] FCA 935 2010 ATC 20-206 (2010) 80 ATR 330 McCutcheon v Federal Commissioner of Taxation (2008) 168 FCR 149 2008 ATC 20-009 (2008) 69 ATR 607
Subject references: Exempt dividend Capital gain Scheme Tax benefit Reasonable expectation Counterfactual Alternative postulate