HIGH COURT OF AUSTRALIA
GLEESON CJ,
GUMMOW, KIRBY, HEYDON AND CRENNAN JJRAFTLAND PTY LTD AS TRUSTEE OF THE
RAFTLAND TRUST APPELLANTAND
COMMISSIONER OF TAXATION RESPONDENT
Raftland Pty Ltd as trustee of the Raftland Trust v Commissioner of Taxation [2008] HCA 21
22 May 2008
B39/2007ORDER
1. Appeal dismissed.
2. Special leave to cross-appeal granted.
3. Cross-appeal treated as instituted, heard instanter and allowed.
4.Set aside the orders made in paragraphs 2 and 3 of the order of the Full Court of the Federal Court of Australia made on 31 January 2007 and, in their place, order that the appeal to that Court in respect of the year ended 30 June 1996 be dismissed.
5.Appellant to pay the respondent's costs of the appeal and cross-appeal.
On appeal from the Federal Court of Australia
Representation
D G Russell QC with H L Alexander for the appellant (instructed by Tobin King Lateef)
A Robertson SC with J H Momsen and P A Looney for the respondent (instructed by Australian Government Solicitor)
Notice: This copy of the Court's Reasons for Judgment is subject to formal revision prior to publication in the Commonwealth Law Reports.
CATCHWORDS
Raftland Pty Ltd as trustee of the Raftland Trust v Commissioner of Taxation
Income tax – Trust income – Present entitlement – Trust deed provided that beneficiaries entitled under default provision had immediate and indefeasible vested interest in income – Income never paid to or demanded by appellant as trustee of Unit Trust – Whether appellant as trustee of Unit Trust presently entitled to trust income – Whether entitlement of appellant under default provision reflected legal entitlements intended by parties creating trusts – Application of parol evidence rule – Whether entitlement of appellant under default provision a "sham".
Income tax – Trust income – Present entitlement – Reimbursement agreement – Income Tax Assessment Act 1936 (Cth), s 100A provided that beneficiary otherwise presently entitled to income of trust estate deemed not to be presently entitled where entitlement arose out of, or arose by reason of act, transaction or circumstance that occurred in connection with, "reimbursement agreement" – Whether transactions between building companies and Development Trust "reimbursement agreement" – Whether other income of Development Trust distributed to Raftland Trust but not derived from agreement between building companies and Development Trust arose out of, or arose by reason of act, transaction or circumstance that occurred in connection with, "reimbursement agreement" – Whether, by operation of s 100A, appellant as trustee of Raftland Trust and not tertiary beneficiaries of Raftland Trust presently entitled to trust income.
Income tax – Avoidance or minimisation of liability to tax – Proper analysis of documents and actions of appellant and other persons – Suggestion that certain actions constitute a "sham" – History and meaning of "sham" for the purposes of Australian law – Utility for legal purposes of conclusion that transactions constitute a "sham" – Whether in present case propounded documents expressed purposes and intentions of parties with legal consequences determined accordingly – Whether documents were a "sham" and may be disregarded with legal obligations of parties determined otherwise – Whether primary judge erred in references to and conclusions of "sham" – Whether Full Court erred in giving effect to different conclusion as to existence of "sham".
Trusts – Trust income – Whether losses borne by capital in previous tax years must be recouped before trust income is available for distribution – Relevance of existence of successive interests, where interest in income followed by interest in capital – Relevance of Upton v Brown (1884) 26 Ch D 588.
Words and phrases – "present entitlement", "reimbursement agreement", "sham".
Income Tax Assessment Act 1936 (Cth), ss 99A, 100A, 226H, 260, Pt IVA.
GLEESON CJ, GUMMOW AND CRENNAN JJ. This appeal concerns assessments to income tax of the appellant, Raftland Pty Ltd ("Raftland") in its capacity as trustee of the Raftland Trust, for the years ended 30 June 1995, 30 June 1996, and 30 June 1997. Although the respondent at one time relied upon Pt IVA of the Income Tax Assessment Act 1936 (Cth) ("the Act"), by the time of the hearing at first instance such reliance had been abandoned. The appeal turns upon the application of Div 6 of Pt III of the Act, and, in particular, ss 99A and 100A. The issue is whether, having regard to those provisions, the appellant has established that the assessments were excessive.
The appellant failed both at first instance in the Federal Court before Kiefel J[1] and (subject to one minor qualification) in the Full Court (Dowsett, Conti and Edmonds JJ)[2]. The qualification concerns an amount of $57,973 relating to the year ended 30 June 1996. It is the subject of an application for special leave to cross-appeal. It is convenient to leave that application to one side until the conclusion of these reasons. Save for that, the questions to be determined are the same for each of the three years of income. It is unnecessary to deal separately with the second and third years, other than briefly to note the material facts.
[1]Raftland Pty Ltd v Commissioner of Taxation (2006) 227 ALR 598.
[2]Raftland Pty Ltd v Federal Commissioner of Taxation (2007) 65 ATR 336.
There was a difference between the reasons for decision of Kiefel J and those of the Full Court, although ultimately they agreed that the net income derived by the appellant fell to be assessed pursuant to s 99A of the Act, which provides that in certain circumstances trust income is to be taxed in the hands of the trustee at a special rate. Section 100A affects the question of present entitlement to trust income. If s 100A(1) applies to a beneficiary, the beneficiary is deemed not to be presently entitled to income, thereby rendering the trustee liable under s 99A. Section 100A(3A) provides that, in certain circumstances, s 100A(1) does not apply. In order to give effect to ss 99A and 100A, it is necessary to identify the legal rights and liabilities arising from the facts, the decisive question being one concerning present entitlement to income of a trust estate, bearing in mind s 95A, which extends the concept of entitlement to cover the case of a beneficiary who has a vested and indefeasible interest (s 95A(2)).
There was also a matter of penalties under Pt VII of the Act. Kiefel J and the Full Court, having concluded that the appellant's challenge to the assessments had not been made out (subject to the minor qualification earlier mentioned), and that there was, therefore, a "tax shortfall" as defined by s 222A, accepted that, in the circumstances of the case, the shortfall was caused by recklessness within the meaning of s 226H. On the view of the case taken by Kiefel J, the reason for that conclusion was clear. On the other hand, the appellant strongly resists such a conclusion on the approach taken by the Full Court. The appellant also complains that the Full Court gave inadequate reasons for its decision on the point. This is a matter to which it will be necessary to return.
The statutory provisions
Division 6 of Pt III of the Act deals with trust income. Section 96 provides that, except as provided in the Act, a trustee shall not be liable as trustee to pay income tax upon the income of the trust estate. Where there is a beneficiary of a trust estate who is not under any legal disability and is presently entitled, s 97 provides that the beneficiary's share of the net income of the trust estate is part of the assessable income of the beneficiary. Later provisions deal with various circumstances in which the trustee will be liable to pay income tax on the income of the trust estate, or some part of it. Section 98 is one such provision. Section 99A relevantly provides:
"(4A) Where there is a part of the net income of a resident trust estate:
(a)that is not included in the assessable income of a beneficiary of the trust estate in pursuance of section 97;
(b)in respect of which the trustee is not assessed and is not liable to pay tax in pursuance of section 98; and
(c)that does not represent income to which a beneficiary is presently entitled that is attributable to a period when the beneficiary was not a resident and is also attributable to sources out of Australia;
the trustee shall be assessed and is liable to pay tax on that part of the net income of the trust estate at the rate declared by the Parliament for the purposes of this section."
The rate referred to in s 99A(4A) is what was earlier described as the special rate. Section 100A includes the following:
"(1)Where:
(a)apart from this section, a beneficiary of a trust estate who is not under any legal disability is presently entitled to a share of the income of the trust estate; and
(b)the present entitlement of the beneficiary to that share or to a part of that share of the income of the trust estate (which share or part, as the case may be, is in this subsection referred to as the 'relevant trust income') arose out of a reimbursement agreement or arose by reason of any act, transaction or circumstance that occurred in connection with, or as a result of, a reimbursement agreement;
the beneficiary shall, for the purposes of this Act, be deemed not to be, and never to have been, presently entitled to the relevant trust income.
(2) Where:
(a)apart from this section, a beneficiary of a trust estate who is not under any legal disability would, by reason that income of the trust estate was paid to, or applied for the benefit of, the beneficiary, be deemed to be presently entitled to income of the trust estate; and
(b)that income or a part of that income (which income or part, as the case may be, is in this subsection referred to as the 'relevant trust income') was paid to, or applied for the benefit of, the beneficiary as a result of a reimbursement agreement or as a result of any act, transaction or circumstance that occurred in connection with, or as a result of, a reimbursement agreement;
the relevant trust income shall, for the purposes of this Act, be deemed not to have been paid to, or applied for the benefit of, the beneficiary.
...
(3A) Where:
(a)apart from this section, a beneficiary (in this subsection referred to as the 'trustee beneficiary') of a trust estate is presently entitled to a share of the income of the trust estate in the capacity of a trustee of another trust estate (in this subsection referred to as the 'interposed trust estate');
(b)apart from this subsection, the trustee beneficiary would, by virtue of subsection (1), be deemed not to be, and never to have been, presently entitled to that share or a part of that share of the income of the first-mentioned trust estate (which share or part is in this subsection referred to as the 'relevant trust income'); and
(c)apart from this section, a beneficiary of the interposed trust estate is or was, or beneficiaries of the interposed trust estate are or were, presently entitled, or deemed to be presently entitled, to any income of the interposed trust estate (in this subsection referred to as the 'distributable trust income') that is attributable to the relevant trust income;
subsection (1) does not apply, and shall be deemed never to have applied, in relation to the trustee beneficiary, in relation to any part of the relevant trust income to which the distributable trust income is attributable.
(3B) Where:
(a)apart from this section, a beneficiary (in this subsection referred to as the 'trustee beneficiary') of a trust estate would, by reason that income of the trust estate was paid to, or applied for the benefit of, the trustee beneficiary, be deemed to be presently entitled to income of the trust estate in the capacity of a trustee of another trust estate (in this subsection referred to as the 'interposed trust estate');
(b)apart from this subsection, that income or a part of that income (which income or part is in this subsection referred to as the 'relevant trust income') would, by virtue of subsection (2), be deemed not to have been paid to, or applied for the benefit of, the trustee beneficiary; and
(c)apart from this section, a beneficiary of the interposed trust estate is or was, or beneficiaries of the interposed trust estate are or were, presently entitled, or deemed to be presently entitled, to any income of the interposed trust estate (in this subsection referred to as the 'distributable trust income') that is attributable to the relevant trust income;
subsection (2) does not apply, and shall be deemed never to have applied, in relation to the trustee beneficiary, in relation to any part of the relevant trust income to which the distributable trust income is attributable.
...
(7) Subject to subsection (8), a reference in this section, in relation to a beneficiary of a trust estate, to a reimbursement agreement shall be read as a reference to an agreement, whether entered into before or after the commencement of this section, that provides for the payment of money or the transfer of property to, or the provision of services or other benefits for, a person or persons other than the beneficiary or the beneficiary and another person or other persons.
(8) A reference in subsection (7) to an agreement shall be read as not including a reference to an agreement that was not entered into for the purpose, or for purposes that included the purpose, of securing that a person who, if the agreement had not been entered into, would have been liable to pay income tax in respect of a year of income would not be liable to pay income tax in respect of that year of income or would be liable to pay less income tax in respect of that year of income than that person would have been liable to pay if the agreement had not been entered into.
(9) For the purposes of subsection (8), an agreement shall be taken to have been entered into for a particular purpose, or for purposes that included a particular purpose, if any of the parties to the agreement entered into the agreement for that purpose, or for purposes that included that purpose, as the case may be.
...
(13) In this section:
'agreement' means any agreement, arrangement or understanding, whether formal or informal, whether express or implied and whether or not enforceable, or intended to be enforceable, by legal proceedings, but does not include an agreement, arrangement or understanding entered into in the course of ordinary family or commercial dealing;
'property' includes a chose in action and also includes an estate, interest, right or power, whether at law or in equity, in or over property."
Kiefel J and the Full Court, by different paths, came to the conclusion that s 100A applied, in conjunction with s 99A(4A), to bring about the result that the appellant was liable to tax at the special rate on the income of the Raftland Trust. The appellant, in order to succeed, must make good its challenge to both lines of reasoning. The primary difference concerned the legal effect of the transactions to be described below and, in particular, the matter of present entitlement to certain trust income. In that respect, Kiefel J concluded that the entitlement was not as the appellant claimed it to be. The Full Court, on the other hand, accepted the appellant's case as to the nature of the relevant legal rights, but held that, notwithstanding those rights, s 100A defeated the appellant's attack on the assessments.
The transactions giving rise to the assessments were acknowledged to have been aimed at securing a fiscal benefit by enabling accumulated tax losses, incurred in earlier years by a trust estate called the E & M Unit Trust, to be set off against the income of previously unrelated, profitable, businesses controlled by what were described in argument as the Heran interests. The appeal does not directly concern the offsetting of past losses against present income, although both parties attach evidentiary importance, in one way or another, to that fiscal objective. It is Div 6 of Pt III of the Act that is of direct relevance to the assessments, and the challenge to them. This is not a Pt IVA case, and the tax avoidance purpose of the arrangements to be described below, while of significance in the identification of the legal rights created by those arrangements, should not distract attention from the ultimate issues that must be decided in order to measure the assessments against the provisions of the Act. The assessments are founded upon an acceptance, at least to a substantial extent, of the legal efficacy of the arrangements. The differences between the appellant and the respondent as to the legal relations created by the transactions, upon which the Act operates, although important, are relatively confined. It is necessary to bear this in mind because, although the respondent relied, with good effect before Kiefel J, upon an argument that invoked the concept of "sham", that argument was not aimed at the entire complex of arrangements. A wider and less carefully directed argument might have threatened the assessments themselves.
The background to the 1995 transactions
The fiscal objective of the 1995 transactions which are said to have given rise to the tax liabilities in dispute was to enable the Heran interests, identified in more detail below, to obtain the benefit of tax losses previously incurred by the E & M Unit Trust. It is convenient to begin by identifying the E & M Unit Trust, the Heran interests, and two trusts (including the Raftland Trust) that were constituted on 30 June 1995.
The E & M Unit Trust was settled on 8 July 1986. The original trustee was E & M Investments Pty Ltd ("E & M Investments"), whose directors were, until August 1991, Mrs Thomasz (formerly Mrs Carey) and Mr Thomasz. The beneficial interest in the trust fund, comprising initial sums together with any additional sums accepted by the trustee, was held by unit holders in proportion to their units. Clause 22 of the trust deed obliged the trustee to pay, apply or set aside the net income from investment of the trust fund for the benefit of the unit holders in proportion to their units. Ten units were divided equally between Mrs Thomasz, as trustee of the ECK Family Trust, and Thomasz Enterprises Pty Ltd, as trustee of the Thomasz Family Trust.
The business of the trust was the acquisition and sale of real property. The business failed. The 1991 tax return for the E & M Unit Trust (prepared in 1994 and lodged in 1997) disclosed carried forward tax losses of $4,014,738. Mr and Mrs Thomasz became bankrupt, but they had been discharged by the time of the 1995 transactions. The bulk of the losses incurred by the E & M Unit Trust resulted from the sale (by a mortgagee) of trading stock (land), the proceeds of sale being insufficient to discharge secured liabilities.
Pursuant to documents executed in July 1991, E & M Investments ceased to be the trustee of the E & M Unit Trust and Mr Carey, the son of Mrs Thomasz, became trustee. At that time, it seems that Mr Carey also became trustee of the Thomasz Family Trust and the ECK Family Trust. There is no suggestion that Mr Carey had any role independent of that of a representative of the interests of Mr and Mrs Thomasz. The draft balance sheets for the 1992, 1993 and 1994 tax years were substantially the same as the financial statements prepared for 1991, except that after the sale of the security property in February 1992, a loan to Mr Thomasz appeared in place of (and in the same amount as) the loan from the mortgagee. Between July 1991 and June 1995, Mr Thomasz engaged in some modest trading in shares and options on behalf of the trust.
Until the 1995 transactions, the Heran interests had no contact or association with the E & M Unit Trust, or Mr and Mrs Thomasz. Heran Projects Pty Ltd ("Heran Projects"), Northbank Homes Pty Ltd ("Northbank") and Southbank Homes Pty Ltd ("Southbank") were building development companies controlled by one or more of the Heran brothers – Mr Brian Heran, Mr Martin Heran and Mr Stephen Heran. Northbank was trustee of the Northbank Trust, constituted by deed of settlement dated 11 July 1995, the primary beneficiaries of which were the three Heran brothers. Southbank was trustee of the Southbank Trust, constituted on the same date with the same primary beneficiaries.
Mr Brian Heran and, until May 1996, Mr Stephen Heran also controlled Maggside Pty Ltd ("Maggside"), which, as trustee of the Brian Heran Discretionary Trust, carried on a business of renting properties owned by the trust. The Brian Heran Discretionary Trust was constituted in April 1990; the primary beneficiaries included any trust or partnership in which any of the Heran brothers had a vested or contingent interest and any company in which any of them held shares or of which any of them was an office holder.
Heran Developments Pty Ltd ("Heran Developments") was a company incorporated in February 1993 and controlled, at the relevant time, by one or more of the Heran brothers. On or before 30 June 1995, two companies, Raftland and Navygate Pty Ltd ("Navygate"), were acquired. The three Heran brothers became the directors of those companies, and the shares were held by Brian and Stephen Heran.
The Raftland Trust was settled on 30 June 1995, with Raftland as the trustee. The trust was established on the advice of Mr Brian Heran's solicitor, Mr Tobin; the settlor, Ms Sommerville, was Mr Tobin's employee. She had no relevant intention independent of that of her employer's client. The trust was constituted by deed poll, executed by Ms Sommerville. The trust fund, which included a nominal settlement sum and any other property or income to be received by the trustee on the trusts of the deed, was to be held on behalf of beneficiaries, who were divided into classes described as primary, secondary and tertiary. The three Heran brothers were the primary beneficiaries of the Raftland Trust; the secondary beneficiaries included relatives of the Heran brothers, as well as any trust or partnership in which any of the Heran brothers had a vested or contingent interest, any company in which any of them held shares or of which any of them was an office holder and any person or company that had granted a power of attorney to any primary beneficiary. According to the terms of the trust instrument, the tertiary beneficiaries were the trustee for the time being of the E & M Unit Trust, together with any person the principal (Mr Brian Heran) determined to be a beneficiary before the perpetuity date.
Clause 3(b) of the Raftland Trust deed gave the trustee a discretion to pay, apply or set aside all or any part of the net income of the trust (after allowing for all expenses of the trust fund) for the benefit of one or more of the primary, secondary and tertiary beneficiaries, or to accumulate the income. Clause 3(b) further provided that, if that discretion was not exercised by 30 June in any year in respect of all or any part of the income, the trustee was obliged to hold that income as set aside or accumulated for such of the tertiary beneficiaries as were then living or in existence, absolutely and as tenants in common in equal shares and, absent tertiary beneficiaries, for one of the other classes of beneficiaries. Clause 3(c)(iii) provided that a determination in exercise of that discretion could be made in writing or by resolution of the trustee, while cl 3(f) provided that any beneficiary becoming entitled to share in the income of the trust under cl 3(b) had an immediate and indefeasible vested interest in that income. The trust was to terminate and vest absolutely on the perpetuity date and the capital was to be held for such one or more of the primary beneficiaries then living in such proportions as the trustee should in its absolute discretion think fit.
On 30 June 1995, Mr Carey executed a deed acknowledging, as trustee of the E & M Unit Trust, his acceptance of appointment as a beneficiary of the Raftland Trust and undertaking not to disclaim that interest or distributions from the Raftland Trust. In the same document, Mr Carey amended cl 34(a) of the E & M Unit Trust deed (relating to the period of notice required to be given before a trustee could retire), removed himself as trustee, and appointed Raftland as trustee of the E & M Unit Trust with effect from 2 July 1995.
The Heran Developments Trust was also constituted on 30 June 1995, with Heran Developments as trustee. The beneficiaries were of three classes, cast in the same terms as those of the Raftland Trust; as with the Raftland Trust, the settlor was Ms Sommerville. Clause 3 was the same as cl 3 of the Raftland Trust deed.
The 1995 transactions
In May 1995, management reports prepared for Heran Projects and Northbank forecast taxable profits of approximately $2.7 million and $284,000 respectively. Mr Brian Heran contacted Mr Tobin about the possible "acquisition" of a trust with accumulated tax losses. Pursuing Mr Heran's instructions, Mr Tobin obtained information about the E & M Unit Trust from Mr Adcock of Harts Accountants ("Harts"). Mr Adcock informed Mr Tobin that the E & M Unit Trust had tax losses of approximately $4 million, and nominated a "price" of $250,000 to be paid with respect to the E & M Unit Trust.
On 22 June 1995, Mr Tobin wrote to Harts, suggesting that the E & M Unit Trust be paid $250,000. Mr Tobin suggested that the E & M Unit Trust dispose of the distribution that would be made to it in a way which did not fall foul of the income injection test (referred to in a press release of the Commonwealth Treasurer dated 9 May 1995, entitled "Trafficking in Trust Losses"), giving as examples a distribution to its unit holders or part payment of debts. Mr Tobin also acknowledged that further steps might be necessary once amendments to the Act had been passed. He stated his expectation that Harts' clients would cooperate with his own clients' reasonable requests, but averred that he was "not seeking to impose any contractual obligation on them to do so." Mr Heran never met, spoke or wrote to Mr Carey, Mr or Mrs Thomasz or their agents.
The availability of the accumulated tax losses having been to that extent secured, it was then necessary to take steps to direct into a convenient channel the income against which the losses would be offset. On 22 June 1995, Heran Projects entered into an agreement with Maggside, by which Maggside, as trustee of the Brian Heran Discretionary Trust, was to be paid the sum of $2,915,000 for granting Heran Projects the right to sell a number of investment properties of the Brian Heran Discretionary Trust and retain the sale proceeds. The dealings between Heran Projects and Maggside involved the payment of $2,915,000 by Heran Projects to Maggside, and a payment by Maggside to Heran Projects in the same sum. The payment to Heran Projects was funded partly by way of repayment of an earlier loan, and partly by a further loan to Heran Projects.
On 30 June 1995, Maggside resolved to distribute all of the income of the Brian Heran Discretionary Trust for that year ($2,849,467 after carrying forward trust losses of $43,295) to the Raftland Trust. There is no challenge to the power of Maggside to apply the income of the Brian Heran Discretionary Trust in that way. It is accepted that Raftland as trustee of the Raftland Trust was an eligible beneficiary under the Brian Heran Discretionary Trust. The distribution and receipt were recorded in the internal accounts of the Brian Heran Discretionary Trust and the Raftland Trust respectively. This was the derivation of income by the appellant on which the 1995 assessment was based.
Also on 30 June 1995, the directors of Raftland passed two resolutions: that the Raftland Trust distribute $250,000 to Mr Carey in his capacity as trustee of the E & M Unit Trust; and that the Raftland Trust distribute the balance of its income for 1995 to Mr Carey in his capacity as trustee of the E & M Unit Trust.
The moneys for a bank cheque for $250,000 payable to Mr Carey came from Heran Projects, Northbank and Southbank. Mr Carey directed in writing that payment be made to Harts, and the bank cheque was handed over at a meeting on 3 July 1995. Harts deducted $30,000 (evidently for fees) and the balance of $220,000 was paid to Mr Carey, who in turn paid it to Mr Thomasz. Mr Thomasz decided to have the $220,000 paid to the Thomasz Family Trust. The Thomasz Family Trust income tax return for the 1996 year showed the sum of $220,000 as "business income".
The internal balance sheet of Raftland as trustee of the Raftland Trust shows in handwriting the figure of $2,849,467 against "other debtors" under "current assets", a non-current liability being "loan other entities" of $250,000 and a current liability of $2,642,762 ("other creditors"). In a notation against a journal entry, the sum of $250,000 is shown as "drawings to G Carey". The tax return of the Raftland Trust for the 1995 tax year asserted the distribution of net income of $2,849,467 to the E & M Unit Trust.
Raftland did not pay, and at the time the appeal was heard had not paid, the balance of $2,599,467 (after deduction of the $250,000 paid to Mr Carey) to the E & M Unit Trust. The E & M Unit Trust has never called for or received those moneys, and no distribution of those moneys to unit holders is proposed. Instead, as will appear, the amount was applied for the benefit of the Heran interests, in a manner calculated to diminish any risk that Mr and Mrs Thomasz might evince some further interest in it.
The internal accounts of the E & M Unit Trust for 1995 show current assets at $2,892,762 with a loan due from "other entities" of $250,000, and the balance of the assets owed by "other debtors". The tax return for the E & M Unit Trust for 1995 shows a distribution to it from the Raftland Trust of $2,849,467, against which losses brought forward from previous years were set off. The net income was nil. Losses of $1,165,271 were carried forward.
Mr Brian Heran's legal advisers were aware that income would be "sheltered" by the losses of the E & M Unit Trust only to the extent that the trustee of the E & M Unit Trust was presently entitled to the income of the Raftland Trust. It was not disputed that the attainment of a fiscal objective motivated the participants in the 1995 transactions. There was, however, a dispute as to whether the legal rights created by the transaction conformed with that objective. That was the point on which Kiefel J and the Full Court differed.
On 3 July 1995, there was a meeting of directors of Raftland as trustee of the Raftland Trust. The chairman reported that, apart from $250,000 to be distributed to the trustee of the E & M Unit Trust for immediate payment to creditors and/or beneficiaries, Raftland did not expect to require the funds to which it was entitled under the resolution of Maggside as trustee of the Brian Heran Discretionary Trust made on 30 June 1995. The basis of that expectation, or lack of expectation, will require further examination. What is clear is that no requirement to pay the money to the E & M Unit Trust was envisaged. The Thomasz interests had taken the $250,000 and departed. They were not expected to return. The directors of Raftland resolved that the moneys be applied in subscribing for shares in Navygate, to be paid as soon as alterations to the Memorandum and Articles of Association and to the authorised capital of Navygate had been effected. Also on 3 July 1995, the directors of Navygate resolved to accept Raftland's offer and to do what was necessary for the issue of the additional shares.
On 6 July 1995, in the context of Raftland subscribing for shares in Navygate, senior counsel provided a written advice to Mr Tobin, which said that, as the E & M Unit Trust would not be calling upon the balance of funds to which it was entitled from the Raftland Trust, the funds were to be reinvested in the group for the benefit of the group. The only sense in which the E & M Unit Trust was part of the group was that Raftland had become the trustee. The unit holders remained the same. The brief to counsel was not in evidence. The basis of his knowledge that the E & M Unit Trust would not be calling on the funds to which it was entitled is a matter of inference. The group for whose benefit the funds were to be reinvested did not include the beneficiaries of the E & M Unit Trust.
On 7 July 1995, at an extraordinary general meeting, the members of Navygate resolved to increase Navygate's share capital by three million shares of $1 each and to alter the Memorandum and Articles of Association accordingly. The directors of Raftland resolved to apply in writing for 3,999,998 shares in Navygate, and the chairman reported that Raftland as trustee of the Raftland Trust had received funds by way of income, which were not required for use in the business of the trustee, and that other companies related to Raftland had offered to provide additional loan funds to enable Raftland to subscribe for 3,999,998 shares in Navygate. The minutes recorded cheques tabled for $3,999,998, but no cheques were in fact tabled. Also on 7 July 1995, Navygate resolved to issue the shares. The Navygate share register did not record this further issue of shares, but the Navygate shareholding is recorded in the accounts of Raftland.
It was not contended by the appellant that the amounts referred to above were misappropriated. Yet it is central to the argument for the appellant that they were amounts to which the E & M Unit Trust and, through that trust, its beneficiaries were entitled. The apparent discrepancy between the entitlements appearing on the face of the documents and the way in which the funds were applied gave rise to a question whether the documents were to be taken at face value. In various situations[3], the court may take an agreement or other instrument, such as a settlement on trust, as not fully disclosing the legal rights and entitlements for which it provides on its face. If that be so, the parol evidence rule in Australia identified with Hoyt's Pty Ltd v Spencer[4] does not apply.
[3]See Equuscorp Pty Ltd v Glengallan Investments Pty Ltd (2004) 218 CLR 471 at 484 [36]; [2004] HCA 55; Hadjiloucasv Crean [1988] 1 WLR 1006 at 1019; [1987] 3 All ER 1008 at 1019.
[4](1919) 27 CLR 133 at 144; [1919] HCA 64.
One such case is where other evidence of the intentions of the relevant actors shows that the document was brought into existence "as a mere piece of machinery" for serving some purpose other than that of constituting the whole of the arrangement[5]. That, in essence, is the respondent's case with respect to the alleged existence of the "present entitlement" of the trustee of the E & M Unit Trust to the income of the Raftland Trust.
[5]Hawke v Edwards (1947) 48 SR (NSW) 21 at 23 per Jordan CJ. See also the remarks of Windeyer J in Scott v Commissioner of Taxation (No 2) (1966) 40 ALJR 265 at 279.
The term "sham" may be employed here, but as Lockhart J emphasised in Sharrment Pty Ltd v Official Trustee in Bankruptcy[6] the term is ambiguous and uncertainty surrounds its meaning and application. With reference to remarks of Diplock LJ in Snook v London and West Riding Investments Ltd[7], Mustill LJ later identified[8] as one of several situations where an agreement may be taken otherwise than at its face value, that where there was a "sham"; the term, when "[c]orrectly employed", denoted an objective of deliberate deception of third parties.
[6](1988) 18 FCR 449 at 453.
[7][1967] 2 QB 786 at 802.
[8]Hadjiloucas v Crean [1988] 1 WLR 1006 at 1019; [1987] 3 All ER 1008 at 1019.
The presence of an objective of deliberate deception indicates fraud. This suggests the need for caution in adoption of the description "sham". However, in the present litigation it may be used in a sense which is less pejorative but still apt to deny the critical step in the appellant's case. The absence of a present entitlement within the meaning of s 100A(1)(a) of the Act may appear from an examination of the whole of the relevant circumstances, and these are not confined to the terms of the Raftland Trust instrument.
The 1996 and 1997 transactions
In July 1995, Heran Developments and Heran Projects entered into an agreement by which Heran Developments as trustee of the Heran Developments Trust took over the assets and liabilities of Heran Projects. Heran Developments distributed all of its trust income for 1996 to the Raftland Trust, as did Maggside, as trustee of the Brian Heran Discretionary Trust, and Northbank, as trustee of the Northbank Trust. Raftland as trustee of the Raftland Trust then resolved to distribute its income for that year to the E & M Unit Trust. Subject to what appears in the next paragraph, it is not suggested that these arrangements, or the transactions carried out in 1997, produce any consequence different from that which obtains for the year ended 30 June 1995.
Of the moneys that came into the Raftland Trust for the year ended 30 June 1996, $57,973 came from the Brian Heran Discretionary Trust, which, the Full Court found, was not sourced from the agreement described above between Heran Developments and Heran Projects. Instead, it appeared to derive from rental and interest income. This is the matter the subject of the proposed cross-appeal.
The amended assessments
By letter dated 15 July 2002, the Commissioner informed Raftland that determinations had been made under Pt IVA of the Act. On 19 July 2002, the Commissioner issued notices of amended assessment for the 1995, 1996 and 1997 tax years. For 1995, the taxable income was stated as $2,849,467; the total tax assessed was $2,973,766.28, which included $689,571.01 in penalty tax and $905,051.25 in interest. For 1996, the taxable income was stated as $779,705; the total tax assessed was $837,610.43, which included $25,820.10 in additional tax for late return, $189,078.76 in penalty tax and $244,544.65 in interest. For 1997, the taxable income was stated as $386,035; the total tax assessed was $393,693.59, which included $10,819.45 in additional tax for late return, $93,999.58 in penalty tax and $100,875.50 in interest.
On 13 September 2002, Raftland lodged objections to the amended assessments. The Commissioner informed Raftland that its objections had been disallowed by letters dated 29 October 2002 (in relation to the 1995 and 1996 tax years) and 4 October 2002 (in relation to the 1997 tax year).
Shortly before the hearing before the Federal Court, the Commissioner advised that he no longer relied on the provisions of Pt IVA in relation to this appeal.
Entitlement to the income of the trust estate
The first question to be addressed was that of the legal entitlement to the income of Raftland as trustee of the Raftland Trust. As noted earlier, it is convenient to confine attention to the income for the year ended 30 June 1995. The answer, according to the appellant, was that the trustee of the E & M Unit Trust was so entitled, either by force of the resolutions to distribute such income passed by Raftland as trustee of the Raftland Trust on 30 June 1995 or by force of the default provisions of the Raftland Trust deed. This argument was accepted by the Full Court, but not by Kiefel J.
It was argued by the respondent, and accepted by Kiefel J, that, notwithstanding the appearance of legal entitlement created by the Raftland Trust deed and the resolutions for distribution, such appearance did not reflect accurately the intentions of either Mr Brian Heran or Mr and Mrs Thomasz, who were the parties to the transactions constructed by Mr Tobin and Harts, and that those intentions were truly reflected in the application of the funds that in fact occurred.
The appellant bore the onus of establishing that the assessments were excessive. Although Mr Brian Heran, and his two brothers, Mr Tobin, Mr and Mrs Thomasz and Mr Carey were called as witnesses, the evidence of the intentions of the Herans and Mr and Mrs Thomasz was somewhat oblique, and much depended upon inference. The settlor of the Raftland Trust, Ms Sommerville, had no relevant evidence to give on the matter of intention. She was the only person who executed the trust deed. It may be inferred that she had no intention independent of that of the Herans, who were her employer's clients. It also may be inferred that Mr Carey had no intentions independent of those of Mr and Mrs Thomasz.
The legal relevance of the intentions of Mr Tobin was a matter of dispute in argument, but an attempt in cross-examination to elicit clear evidence on the subject was unsuccessful. The following exchange occurred:
"Q. Now, the Raftland Trust, was that set up by you?
A. Yes.
Q.Ms Sommerville who was the settlor, did she work in your office?
A.Yes.
Q.And I take it you determined the terms of the Raftland Trust?
A.Yes.
Q.And one of the matters in particular was that the trustee of the E & M Unit Trust was named as the tertiary beneficiary?
A. Correct.
Q. That was what you had intended?
A. Yes.
Q.Perhaps was advised that that was a deliberate step?
A.Yes.
Q.I take it that Mr Brian Heran played no part in the determination of what the terms of the trust should be?
A.He simply would have been advised by me.
Q. That is, he was advised what was necessary?
A. Yes.
Q.And the Heran Developments Trust was settled on the same day?
A.I think that's right, yes.
HER HONOUR: I'm sorry, which trust was that?
MR HACK: Heran Developments Trust.
Q.The purpose of naming E & M Unit – or the trustee of the E & M Unit Trust as a beneficiary of the Raftland Trust was to enable it to receive distributions from the Raftland Trust?
A. Correct.
Q. And in that way use up the losses that it had?
A. Correct.
Q.It was a mechanism for injecting funds from the Heran entities in a tax effective manner?
A.Yes.
Q.I take it that it was – you never intended that – leaving aside the question of the purchase price, that the trustee of the E & M Unit Trust ever benefit from these arrangements?
A.Well, in fact, the trustee would have benefited from the arrangements. That's how it was set up.
Q. In what way?
A. Well, that's what the document said.
Q.Sorry. It may say it but it was never the intention that there be real distributions to it, was there?
A.We recognised that the unit holders of that trust could call up those funds.
Q.And you created a mechanism to prevent that from happening?
A.Well, we did some things such as we took control of the trustee of the E & M Unit Trust, which was Raftland, and we did some other things which involved Navygate, and I suppose those things were done because we had a concern that the unit holders could call up those funds.
Q.And you wanted to ensure that they were not in a position to do so?
A.Well, there was a commercial risk that they could have.
Q.Well, by naming it as a beneficiary, it was not then in contemplation that anything other than a purchase price would have been paid to the trustee of the E & M Unit Trust?
A.Sorry, can you just repeat that?
Q.The trustee of the E & M Unit Trust was named as the tertiary beneficiary of the Raftland Trust?
A.Yes.
Q.At that time it was never in contemplation, leaving aside the question of $250,000, that any amount would be paid to the trustee of the E & M Unit Trust?
A.Do you mean physically paid?
Q.Well, let's start with physically paid?
A.Well, that's probably right, yes.
Q.And what was in contemplation at best was a distribution on paper only?
A.I think that sells it a bit too short because we recognised that there was a real risk that the unit holders could call up those funds."
It may be observed that "a commercial risk" is a curious way to describe a legal entitlement. When Mr Tobin said that "there was a real risk that the unit holders could call up those funds" he was giving less than enthusiastic endorsement to the theory that the money belonged to them.
As has been noted, the settlor of the Raftland Trust, Ms Sommerville, had no intention separate from that of Raftland. The directors of Raftland were the Heran brothers, and two of them were the shareholders. It is the intention of the Heran brothers that is specifically relevant to a question whether the trusts apparently created by the Raftland Trust deed were wholly or partly a pretence. The creation of such an express trust depends upon the intention of the person alleged to have created it[9]. A part of an instrument may be a pretence[10]. The respondent argued that in this case the pretence was that part of the trust instrument which made the E & M Unit Trust a tertiary beneficiary. The corollary of that argument was that the document signed by Mr Carey as trustee of the E & M Unit Trust, insofar as it accepted appointment as a beneficiary of the Raftland Trust, also was a pretence. As has been noted, Mr Carey had no intention independent of Mr and Mrs Thomasz, and it was their intention that was relevant to that question.
[9]Commissioner of Stamp Duties (Qd) v Jolliffe (1920) 28 CLR 178 at 181; [1920] HCA 45.
[10]A G Securities v Vaughan [1990] 1 AC 417 at 462-463.
The Heran brothers, and Mr and Mrs Thomasz, were business people, not lawyers. It is unlikely that they applied their minds with care to the detail of the documents that were prepared by Mr Tobin. That does not mean, however, that their intentions were irrelevant. It may mean, as a matter of factual inference, that they had no intentions inconsistent with the documents prepared by Mr Tobin and that, therefore, there is no reason to take those documents other than at face value. It may mean (as the Full Court, in substance, found) that they intended to do whatever was regarded by Mr Tobin as necessary to secure the fiscal objective of the exercise. On the other hand, the respondent argued, and Kiefel J held, that the Heran brothers and Mr and Mrs Thomasz had a common intention that was inconsistent with the creation and the enforcement of the entitlement of the E & M Unit Trust as a beneficiary of the Raftland Trust. It is, therefore, necessary to examine the findings of fact made by Kiefel J. Central to her Honour's reasoning was the $250,000 paid to the Thomasz interests as the "price" for the E & M Unit Trust. It was, her Honour held, the intention of the Herans, and Mr and Mrs Thomasz, that the Thomasz interests were to receive that amount and no more. Following such receipt, they were to make no further claim on the Raftland Trust.
The conduct of the parties after 30 June 1995 is evidence of their intention on and before that date. Kiefel J said:
"Raftland has not in fact paid the balance sum of $2,642,762 to the E&M Unit Trust and it is not intended to do so. I do not understand Raftland to suggest that it ever held that intention. Mr Tobin conceded as much and in any event its intention not to do so may readily be inferred ... The E&M Unit Trust has not called for or got in those monies and has recorded no intended distribution to its unitholders. Mr Thomasz said that apart from the purchase price of $250,000 he had no expectation of receiving any further benefits from the transactions. He considered that control had been relinquished by the E&M Unit Trust. In answer to a question put by the Commissioner, he agreed that he understood the transaction to involve entities with which he or his wife were associated being owed a purchase price and from that point [they] would have no further dealings with the trust."
The evidence showed that the business people looked upon the transaction as the purchase, for a price of $250,000, by the Heran interests from the Thomasz interests, of control of a trust with accumulated tax losses. In legal terms there was no sale and purchase of property. The sum of $250,000 was not consideration for rights of property. It does not follow, however, that for the parties to regard it as a price was wholly incorrect. It was the amount that the Heran interests (specifically, Heran Projects, Northbank and Southbank) were willing to pay to Mr and Mrs Thomasz for "control" of the E & M Unit Trust. In the context "control" included the assumption of trusteeship, and the capacity to direct its future affairs. It had a negative as well as a positive aspect, involving the exclusion of Mr Carey and Mr and Mrs Thomasz, or their respective trusts, from any future involvement. It would have been inconsistent with this "sale" of "control" for the Thomasz interests subsequently to seek an accounting from Raftland for the purported distributions.
Kiefel J pointed out that the $250,000 was not paid from income of the Raftland Trust; it was provided by other entities associated with the Herans. She found as a fact (and her finding was amply supported by the evidence) that it was to be "a one-off payment with nothing further to take place between the parties."
Kiefel J went on:
"So far as concerns the second resolution to distribute, Raftland had no intention of ever paying it and Mr and Mrs Thomasz had no expectation that the E&M Unit Trust would [ever] receive those monies or any further benefits. Mr Thomasz knew that that income was to be applied against the Trust's losses. He knew that whilst a debt was to be recorded as owed to the E&M Unit Trust, in its books of account, he and his wife would be having no further dealings with the Trust. Those controlling Raftland and the E&M Unit Trust well understood that the only transaction which was to take place between them was that relating to the control of the Trust. There is no direct evidence that Mr and Mrs Thomasz promised never to seek any further monies. I infer however that they had no intention of doing so, consistent with their understanding of the transaction."
Kiefel J concluded that the provisions of the Raftland Trust deed which purported to create an entitlement in the E & M Unit Trust as tertiary beneficiary, and the resolutions which purported to reflect that entitlement, were a façade and were contrary to the intentions of the Herans and Mr and Mrs Thomasz. Consistently with that, if, having received the $250,000, the Thomasz interests had attempted to restrain Raftland from applying the trust income as it did or to seek an accounting, or otherwise to assert any rights, they would have been unsuccessful. They had no entitlement to the income. Under the default provisions of cl 3(b) of the Raftland Trust deed the primary beneficiaries were entitled to the trust income. Her Honour went on to consider and apply s 100A on that basis. That is a matter to which it will be necessary to return.
In the Full Court, the principal judgment was that of Edmonds J. Dowsett J substantially agreed, subject to certain qualifications which are not presently material. Conti J agreed with Edmonds J.
Edmonds J disagreed with Kiefel J's conclusion that the E & M Unit Trust was not entitled to the income of the Raftland Trust, and that it was contrary to the intentions of the parties that the E & M Unit Trust (and, through it, the Thomasz interests) should be entitled to such income. He quoted, and relied upon, the passage from the evidence of Mr Tobin set out above. He said:
"Those who advised Mr Brian Heran, notably Mr Tobin, but there were others such as senior counsel retained by Mr Tobin, were well aware that, only to the extent that the trustee of the E & M Unit Trust was presently entitled to the income of the Raftland Trust, would that income be sheltered by the losses in the E & M Unit Trust. The attainment of that fiscal objective drove the transaction from the point of view of its participants. Hence, if it was not achieved by a determination to pay to or apply or set aside the income of the Raftland Trust to the trustee of the E & M Unit Trust pursuant to cl 3(b)(i) of the Raftland Trust deed, it was to be achieved by the default provisions of the proviso to cl 3(b), reinforced by the provisions of cl 3(f)".
Edmonds J referred to a passage in the reasons of Lehane J in Richard Walter Pty Ltd v Commissioner of Taxation[11], where that learned judge observed that many tax schemes are intended to have an otherwise inexplicable legal effect precisely because of the fiscal objectives that are pursued. That is undoubtedly true, but it does not deny the possibility that, in a particular case, documents might not be intended by the parties to have legal effect according to their tenor. The conclusion of Edmonds J was that, far from being a façade or sham, the nomination of the E & M Unit Trust as a tertiary beneficiary of the Raftland Trust "was at the forefront of the intentions of those charged with responsibility for establishing the Raftland Trust."
[11](1996) 67 FCR 243 at 267-268.
The reference to "the intentions of those charged with responsibility for establishing the Raftland Trust" appears to be a reference to the intentions of Mr Tobin. As earlier explained, the relevant intentions are those of the Heran brothers, and Mr and Mrs Thomasz. Furthermore, the reasoning does not reflect the complexity of Mr Tobin's position. In the passage from his evidence set out above, which Edmonds J quoted, it was put to him directly that it was not in contemplation that anything other than the "purchase price" ($250,000) would be paid to the trustee of the E & M Unit Trust. His response was evasive. He said it was probably right that nothing would be "physically paid" (an expression of unclear meaning). He then remarked that to say that what was in contemplation was a distribution on paper only "sells it a bit too short". He said that "we recognised that there was a real risk that the unit holders could call up those funds." He had earlier explained the steps that were taken to diminish that "risk", including the application for shares in Navygate. Mr Tobin's intentions were, no doubt, more subtle than those of his clients, but he was unable to give a direct answer to the suggestion that it was the intention of the parties that the Thomasz interests, and the E & M Unit Trust, were to receive $250,000 and nothing more.
There was an inconsistency between the fiscal and the financial objectives of the transaction, although they overlapped. It is accurate, as a proposition of law, to say that for the tax scheme to succeed it was necessary for the E & M Unit Trust to be entitled to the income of the Raftland Trust. Yet Kiefel J found as a fact, on the basis of compelling evidence, that it was the intention of the Herans, and of Mr and Mrs Thomasz, that $250,000 was all the beneficiaries of the E & M Unit Trust were ever to receive or to seek. It is little wonder that Mr Tobin found it difficult to distinguish between a legal entitlement and a commercial risk that the entitlement would be invoked. The primary judge was fully justified in finding that the entitlement under the Raftland Trust deed was not intended by the settlor or the trustee, or the "tertiary beneficiary", to have substantive, as opposed to apparent, legal effect.
On this issue, the conclusion of Kiefel J should be upheld. It was on the question of the operation of s 100A that the appellant failed in the Full Court. However, because Edmonds J was willing to accept that, subject to s 100A, the E & M Unit Trust was entitled to the income of the Raftland Trust for each of the three income years in question, whereas Kiefel J found that it was the primary beneficiaries who were entitled, they began their respective analyses of s 100A from different starting points. In view of the conclusion expressed above, the correct starting point is that adopted by Kiefel J.
The application of s 100A
Having held that the primary beneficiaries of the Raftland Trust were presently entitled to the income of the Raftland Trust, within the meaning of s 100A(1)(a) (a matter that followed from her earlier reasoning), Kiefel J considered whether that present entitlement arose out of a reimbursement agreement or arose by reason of any act, transaction or circumstance that occurred in connection with, or as a result of, a reimbursement agreement, bearing in mind the definition of "agreement" in sub-s (13), and the terms of sub-ss (7) and (8).
The transactions, her Honour held, were clearly not in the ordinary course of commercial dealings. Following Commissioner of Taxation v Prestige Motors Pty Ltd[12] and Idlecroft Pty Ltd v Commissioner of Taxation[13] she observed that an "agreement" does not have to be legally enforceable and it is not necessary that the beneficiary be a party to it. It is, however, necessary that a reimbursement agreement provide for the payment of money, transfer of property or the provision of services or other benefits to a person other than the beneficiary. Kiefel J said:
"A benefit in this case was gained by the Brian Heran Discretionary Trust and by Heran Projects. The benefit accrued so long as Raftland did not make the payment of trust income to the E&M Unit Trust. In turn Maggside did not have to pay Raftland and it did not have to call upon the monies it had loaned Heran Projects. At the same time they enjoyed tax benefits.
…
Raftland submitted that, whilst there may have been a connexion to the E&M Unit Trust's entitlement and the reimbursement agreement, this is not so with respect to the Primary Beneficiaries whose entitlement arises because of the operation of the default clause. A similar argument was raised and rejected in Idlecroft. It was held ... that the requisite connexion is present in such a case. The connecting circumstance is that the entitlements of the default beneficiaries came about because the appointment of income was invalid. That appointment was made pursuant to the reimbursement agreement. But for the existence of the agreement, the appointments would not have been made. The same analysis applies in the present case."
[12](1998) 82 FCR 195.
[13](2005) 144 FCR 501.
The reference to "appointment" in that passage is a reference to the facts of Idlecroft, and to a passage in the joint reasons of Ryan, Tamberlin and Kiefel JJ in that case[14]. In the Full Court, Edmonds J also found that the agreement of 22 June 1995 between Heran Projects and Maggside was a "reimbursement agreement", providing for the payment of money to a person other than the beneficiary, namely Maggside, and that but for that reimbursement agreement there would have been no income of the Raftland Trust for the year ended 30 June 1995. Although they had different views on the identity of the relevant beneficiary, the approach of Kiefel J and Edmonds J to s 100A(1) was otherwise consistent.
[14]Idlecroft Pty Ltd v Commissioner of Taxation (2005) 144 FCR 501 at 512 [45].
Kiefel J was correct to conclude that s 100A(1) applied, subject to the question whether s 100A(3A) denied that result. She held that s 100A(3A) did not apply to deny the application of s 100A(1) because the primary beneficiaries were not beneficiaries in the capacity of trustees of other trust estates. Upon the hypothesis that (subject to s 100A(1)) the primary beneficiaries were presently entitled to the income of the Raftland Trust for each of the income years, the reasoning of Kiefel J on s 100A(3A) was correct. This was accepted by the Full Court.
It is strictly unnecessary further to examine the reasons for the Full Court's conclusion, on a different hypothesis, that is to say, entitlement of the E & M Unit Trust, that s 100A applied adversely to the appellant. Nevertheless, one of those reasons involves a question of general principle that was fully argued in this Court, and it should not be allowed to pass.
The test as to the parties' intentions is subjective[144]. In essence, the parties must have intended to create rights and obligations different from those described in their documents. Such documents must have been intended to mislead third parties in respect of such rights and obligations[145].
[144]Snook [1967] 2 QB 786 at 802; Hitch [2001] STC 214 at 230 [66].
[145]Hitch [2001] STC 214 at 230 [66].
Where a court is considering a suggestion of sham that has a reasonably arguable evidential foundation, the court will not be confined to examining the propounded documentation alone. It may examine (and draw inferences from) other evidence, including the parties' explanations (if any) as to their dealings, and evidence describing their subsequent conduct[146].
[146]Hitch [2001] STC 214 at 230 [65]; Sharrment (1988) 18 FCR 449 at 461.
To justify a conclusion that documents constitute a sham, the requisite intention to mislead must be a common intention of the parties[147]. An exception may exist where the acts and documents reflect a transaction divisible into separate parts, such that a transaction is a sham as to part only of the transaction[148].
[147]Snook [1967] 2 QB 786 at 802; Hitch [2001] STC 214 at 230 [69].
[148]See New Zealand Commissioner of Inland Revenue, "Sham – meaning of the term", (1997) 9(11) Tax Information Bulletin 7 at 7-8.
Neither the complexity nor the artificiality of a transaction[149], nor any circularity evident in it[150], nor the apparent lack of commercial or economic sense[151] will of themselves, alone or in combination, necessarily warrant a conclusion that a transaction constitutes a sham[152]. Nor does a departure by the parties from the terms of their original agreement necessarily indicate that they never intended that agreement to be effective and binding according to its tenor[153]. Nevertheless, a sham can develop over time if there is a departure from the original agreement and the parties knowingly do nothing to alter the provisions of their documents as a consequence[154].
[149]Sharrment (1988) 18 FCR 449 at 454-455; Oakey Abattoir (1984) 55 ALR 291 at 297.
[150]Sharrment (1988) 18 FCR 449 at 458.
[151]See Case X10 (2005) 22 NZTC 12,155 at 12,171 [116].
[152]cf Accent Management [2007] NZCA 230 at [59].
[153]Hitch [2001] STC 214 at 230 [68].
[154]See Marac Finance Ltd v Virtue [1981] 1 NZLR 586 at 588.
Sham as a tool of analysis: When the foregoing considerations are kept in mind, it is obvious that the analysis of documentation by reference to such criteria can be useful so long as it is remembered that the focus is upon the mutual intentions of the parties as to their respective rights and obligations. The focus is not, as such, upon an assessment of the "broad substance of the transaction measured by the results intended and achieved or of the overall economic consequences"[155].
[155]Marac Life Assurance Ltd v Commissioner of Inland Revenue [1986] 1 NZLR 694 at 706 per Richardson J.
It follows that the primary value of sham analysis is that, where justified, it may rescue the decision-maker from being led by the nose into the artificial task of defining the legal rights and obligations of the parties by reference to their proved documents and related conduct alone, where extrinsic evidence demonstrates that they constitute a sham and were not intended to be effective or have their "apparent, or any, legal consequences"[156].
[156]Equuscorp (2004) 218 CLR 471 at 486 [46].
For a court to call a transaction a sham is not just an assertion of the essential realism of the judicial process, and proof that judicial decision-making is not to be trifled with. It also represents a principled liberation of the court from constraints imposed by taking documents and conduct solely at face value. In this sense, it is yet another instance of the tendency of contemporary Australian law to favour substance over form. As such it is to be welcomed in decision-making in revenue cases.
Conclusion: sham established, transaction ineffective
When the foregoing principles are given effect in this appeal, the present was a case where it was clearly open to the primary judge to conclude, as she did, that arrangements described in the impugned written documents amounted to a sham.
The primary judge made findings as to the intentions of the participants. There was no error in those findings. To the contrary, her findings were fully sustained by the evidence. They reflected sensible and rational inferences drawn from that evidence. They supported the primary judge's conclusion that a sham was demonstrated.
In the Full Court, Edmonds J departed from the primary judge's findings by deciding that the nomination of the trustee of the E & M Unit Trust as a "tertiary beneficiary" of the Raftland Trust was not a sham[157] and that, consequently, the trustee of the E & M Unit Trust was entitled to the whole of the trust income of the Raftland Trust for the taxation years ended 30 June 1995, 1996 and 1997. In so deciding, Edmonds J and the Full Court erred. Focusing on the state of mind of the Herans' solicitor, Mr Tobin, did not demonstrate that the findings and conclusion of the primary judge were wrong. Whatever may have been the purpose of the professional adviser, the proper subject of attention was the intention of the parties with regard to the impugned transaction. It was with this in mind that the primary judge correctly addressed the question that she had to decide.
[157](2007) 65 ATR 336 at 359 [83].
The conclusion of the primary judge as to the common intention of the parties ought not to have been disturbed. There was no demonstrated or proper ground for such disturbance. Because of the reimbursement agreement, s 100A(1) of the Act applied in relation only to the primary beneficiaries. Section 100A(3A) did not apply to the primary beneficiaries because they were not trustees.
The analysis of the primary judge was therefore correct. It should be restored. And this Court should not be diffident to invoke the tool of reasoning that sham provides in cases of this kind. Nor should it be hesitant in utilising the word "sham" when explaining its reasons. So long as the legal preconditions are established, the decision-maker should call a spade a spade – and a sham a sham.
If the documents evidencing a transaction are shown to be intentionally deceptive, false and misleading, they are "inherently worthless, and … no enactment [is needed] to nullify [the transaction]"[158]. In other words, when the documents amount to a sham, they are ignored. They fail to achieve their purported objectives. The law then gives consequence to the true transactions, as revealed by the evidence – just as the primary judge did in this case.
[158]Jaques (1924) 34 CLR 328 at 358 per Isaacs J.
There is an orthodox approach to sham, accepted and expressed in Australian legal doctrine, as in the law of other, similar jurisdictions. There have also been suggestions of the emergence of a broader approach to the notion of sham, particularly in revenue cases. I accept that the "narrower" approach to sham, explained by this Court in Equuscorp, is applicable to this case. It was correctly applied by the primary judge. However, in my view, the idea of sham could be broadened somewhat. Doing so would not cut across the language and purpose of the explicit tax avoidance provisions enacted as Pt IVA of the Act. On the contrary, such an approach would be compatible with that contained in Pt IVA and the purposes that led to the enactment of that Part. It would demonstrate, once again, that in the present age, the doctrines of the common law evolve in the orbit of statute[159].
[159]cf Roads and Traffic Authority v Royal [2008] HCA 19 at [93].
Orders
The orders of the primary judge should be restored. I agree in the orders proposed in the joint reasons.
HEYDON J. The circumstances are set out in the judgment of Gleeson CJ, Gummow and Crennan JJ.
The central question is whether the Tertiary Beneficiary under the Raftland Trust Deed was "presently entitled" to the income of the Raftland Trust in the tax year ended 30 June 1995 within the meaning of s 100A of the Income Tax Assessment Act 1936 (Cth).
The Heran interests – that is the brothers Brian, Martin and Stephen Heran – being the principals of the Heran group of companies, which were profitable, desired to obtain the benefit of tax losses incurred by the E & M Unit Trust and to obtain control of the E & M Unit Trust. The principals of the E & M Unit Trust, Mr and Mrs Thomasz – the Thomasz interests – desired to gain whatever financial advantage they could out of the transfer of control. The solicitor for the Heran interests, Mr Tobin, devised a plan to effectuate these desires, and prepared the documents thought necessary to implement them.
The Raftland Trust was created by a Deed executed by the Settlor, Mrs Sommerville, on 30 June 1995. It was executed in the presence of, and witnessed by, Mr Tobin.
The Trustee, who was not party to the Raftland Trust Deed, was Raftland Pty Ltd. The directors of Raftland Pty Ltd were the three Heran brothers. The shareholders of Raftland Pty Ltd were Brian and Stephen Heran. The three brothers were the Primary Beneficiaries of the Raftland Trust, and various of their relatives and associated entities were the Secondary Beneficiaries.
Clause 1(u) and the Schedule of the Raftland Trust Deed appointed the Trustee of the E & M Unit Trust as a Tertiary Beneficiary of the Raftland Trust. In the events which happened, the effect of cl 3(b) was that if by 30 June 1995 the Trustee of the Raftland Trust had not decided to pay out or accumulate the income of the Trust Fund for that year, it was to be held in trust for the only Tertiary Beneficiary – the Trustee of the E & M Unit Trust. On 30 June 1995 the directors of Raftland Pty Ltd passed a resolution proposing that in its capacity as Trustee of the Raftland Trust it distribute as income an amount of $250,000 to Mr Carey as Trustee of the E & M Unit Trust. On the same day those directors also passed a resolution that Raftland Pty Ltd, in its capacity as Trustee of the Raftland Trust, distribute the balance of its income to Mr Carey as Trustee of the E & M Unit Trust.
The appellant's case was that if matters stood there, contrary to the assessment made by the respondent, the sum of $2,849,467 would not have been taxable in the hands of Raftland Pty Ltd, the Trustee of the Raftland Trust, because it had no present entitlement to it. It would have had no present entitlement to it because the Trustee of the E & M Unit Trust would have had a present entitlement under the Raftland Trust Deed.
However, the respondent contended that matters did not stand there. It contended that the following three things should be "disregarded". The first was the Raftland Trust Deed so far as it appointed the Trustee of the E & M Unit Trust as a Tertiary Beneficiary of the Raftland Trust (cl 1(u) and the Schedule). The second was the first resolution on 30 June 1995. The third was the other resolution passed that day.
It may be inferred that, so far as the intention of the Settlor, Mrs Sommerville, was relevant, that intention was to be found in the minds of the Heran brothers, the principals of Mr Tobin, who was Mrs Sommerville's employer. So far as the intention of the Trustee, Raftland Pty Ltd, was relevant, the same was true in view of its directors and shareholders. In assessing that intention any evidence by Mr Tobin, the architect of the transactions, could be taken into account, particularly if it were adverse to the interests of his principals. It may also be inferred that the intention of Mr Carey as Trustee of the E & M Unit Trust was the intention of Mr and Mrs Thomasz, the controllers of that Trust, and that that intention was the same as that of the Heran brothers.
The trial judge made the following findings. The Heran interests desired to obtain control of the E & M Unit Trust, with its carried forward losses. The Thomasz interests desired to relinquish that control for the price of $250,000. The Heran interests did not desire to benefit the E & M Unit Trust to any extent greater than $250,000. The Thomasz interests had neither any expectation of that benefit nor any intention of seeking it: any risk that the unit holders of the E & M Unit Trust might require the Trustee of that Trust to seek payment of the income of the Raftland Trust pursuant to cl 3(b) of the Raftland Trust Deed was "commercial" only – a risk of no significance, "little more than a mere possibility". Hence both the Heran interests and the Thomasz interests did not contemplate that there would be any distributions of income from the Raftland Trust, and the only payment to pass from the former interests to the latter was to be the $250,000 payable as the price for control of the E & M Unit Trust.
Those findings are crucial to considering the question of whether, as at 30 June 1995, the Trustee of the E & M Unit Trust had a present entitlement to the income of the Raftland Trust.
A person of full capacity who has a present beneficial entitlement to trust income can vindicate that entitlement by curial action, and a person of full capacity who cannot do that has no present beneficial entitlement. The position in relation to the income of the Raftland Trust thus may be tested by posing a hypothetical inquiry. As shown below, if the event hypothesised took place, criticism of the Trustee of the E & M Unit Trust would be merited. Accordingly, it is desirable to stress that the event hypothesised has never happened and is never likely to happen. The inquiry is: had the Trustee of the E & M Unit Trust sued the Trustee of the Raftland Trust for the income of the Trust in its operation for the year ended 30 June 1995, pursuant to cl 3(b) of the Raftland Trust Deed, what answer could the Trustee of the Raftland Trust have made?
It does not appear possible for the Trustee of the Raftland Trust to answer that there was a "sham" in the sense of a transaction aimed at deceiving third parties. The trial judge did not make a finding to that effect, and does not seem to have been explicitly invited to do so. In these circumstances it would be difficult in this Court to make that finding in this case.
In some cases it would be possible to hold that a beneficiary apparently entitled under a trust was not presently entitled because that beneficiary had contracted to give up the relevant beneficial interest in whole or in part. That is an unlikely analysis for the Trustee of the Raftland Trust to proffer here, because it is difficult to find any consideration flowing to the E & M Unit Trust or from any other party for that contract. In any event it is erroneous to characterise the parties' dealings as first causing beneficial interests to spring up in the Tertiary Beneficiary and then leading to a contract in which the Tertiary Beneficiary gave up those beneficial interests: the question is rather whether their dealings, despite the form of cl 3(b) of the Raftland Trust Deed, prevented any beneficial interest arising at all.
For the same reason it would not be possible for the Trustee of the Raftland Trust to contend that the Tertiary Beneficiary had waived its beneficial interests. "'Waiver' implies that you have something, and that you are throwing it away."[160] On the trial judge's findings of fact, the question is rather whether the Tertiary Beneficiary as such ever had anything.
[160]Ewart, Waiver Distributed, (1917) at 13.
Nor, if the Trustee of the E & M Unit Trust insisted on its apparent rights under the Raftland Trust Deed, is the case one where rectification is available to forestall that claim. Rectification is a remedy granted where the parties are in complete agreement as to the terms of their dealings, but by an error wrote them down wrongly. Here they were in complete agreement, and one of the terms of that agreement was that in part they be written down as they were written down in the Raftland Trust Deed.
However, the Trustee of the Raftland Trust could give an answer in the words which Lord Selborne LC, James and Mellish LJJ used in Jervis v Berridge[161]. It is not the case that cl 3(b) of the Raftland Trust Deed was "valid and operative between the parties, but omitting (designedly or otherwise) some particular term which had been verbally agreed upon". Rather it was "a mere piece of machinery obtained by the [Heran interests] from the [Thomasz interests], as subsidiary to and for the purposes of the verbal and only real agreement, under circumstances which would make the use of it for any purpose inconsistent with that agreement dishonest and fraudulent."
[161](1873) LR 8 Ch App 351 at 359. The passage was quoted with approval by Hope JA in Air Great Lakes Pty Ltd v K S Easter (Holdings) Pty Ltd (1985) 2 NSWLR 309 at 318.
A court of equity, asked by a person claiming a present beneficial entitlement under a purported trust to enforce it, would not do so if that attempted enforcement of the purported trust would be dishonest and fraudulent. That is the position in which the Trustee of the E & M Unit Trust would be if an attempt to enforce cl 3(b) had been made. If the Thomasz interests acting through the Trustee of the E & M Unit Trust could not use cl 3(b) of the Raftland Trust Deed to claim a present entitlement to the income of the Raftland Trust, it follows that they did not have that entitlement.
The conclusion of the Full Court of the Federal Court cannot stand with the findings of the trial judge, and those findings have not been shown to be wrong. While in one sense the Full Court was correct to say that the nomination of the Trustee of the E & M Unit Trust as a Tertiary Beneficiary of the Raftland Trust was at the forefront of the intentions of those who established the Raftland Trust, their intentions taken as a whole were inconsistent with the existence of any capacity in the Trustee of the E & M Unit Trust to enforce a beneficial entitlement, and that Trustee did not have a beneficial entitlement.
It follows, as the respondent submitted, that the nomination of the Trustee of the E & M Unit Trust as a Tertiary Beneficiary of the Raftland Trust should be "disregarded". It further follows that the two resolutions of the directors of Raftland Pty Ltd on 30 June 1995 purporting to distribute the income of the Raftland Trust to the Trustee of the E & M Unit Trust as a Tertiary Beneficiary should also be disregarded. There having been no payment of income to the Secondary Beneficiaries, the proviso to cl 3(b) has the result that Raftland Pty Ltd held the income on trust for the Primary Beneficiaries within the meaning of s 100A.
On other issues I agree with Gleeson CJ, Gummow and Crennan JJ, and with the orders they propose.