In this article, the authors compare an income tax appeal
by a company in the Federal Court of Australia (FCA) under
Pt IVC of the Taxation Administration Act 1953 (Cth) (TAA53) with a claim for breach of contract, highlighting five key
differences. These differences are important because they
can inform how tax disputes are managed and explain why
the parties might behave in a particular way, even where the
relevant rules may not bite until a later time.
Significant information exchange
occurs well before litigation
Tax context
Most tax disputes which reach litigation follow an ATO audit,
the first stage of which is information-gathering. In an audit,
the ATO often issues multiple requests for information so
that it can form its view about the level of risk posed by a
taxpayer’s positions. The ATO sometimes supplements this
with interviews to ensure that it has what it considers to be
an appropriate level of factual detail to inform its views.
The ATO has a very broad statutory power to require
the production of information for the administration or operation of a taxation law. The ATO’s normal practice
is to seek information without using formal powers, but cooperation is encouraged by the fact that the
formal powers exist and carry significant penalties for
non-compliance. The ATO can also gather information
from third parties, such as a taxpayer’s banks, suppliers
and investors. Although not standard, broad-ranging fishing
requests are allowed.
These information requests allow the ATO to build on the
enormous amount of data gathered through tax returns,
other lodgment requirements (including country-by-country
reports and reportable tax position schedules), and
standardised compliance programs such as the justified
trust assurance reviews.
Once a contentious issue has crystallised, taxpayers and
the ATO spend considerable effort exchanging submissions
about the application of the law to the facts. This generally
occurs during the position paper stage of an audit, in any
independent review or general anti-avoidance rule panel
process towards the end of an audit, and also throughout
the objections process.
All of these processes mean that the parties are typically
well aware of the other side’s arguments and potential
evidence prior to any litigation being commenced.
Arguments for both the taxpayer and the Commissioner are,
of course, refined and can evolve during litigation. When
evidence is finalised in admissible form, and with the fresh eyes of any additional counsel involved in the litigation
phase, new perspectives are brought to the dispute. These
shifts in arguments are almost inevitable. However, the long
and information-heavy lead up to the litigation reduces the
possibility of ambush or surprise.
Once litigation commences, the ATO will generally need to
rely on the more limited discovery provisions of the court
rules rather than its broad information-gathering powers.
Other contexts
In contrast, parties to contractual disputes do not
generally have access to broad, pre-litigation statutory
mechanisms to obtain information about another party’s
case. Unless the parties have contractually agreed to a
dispute resolution procedure which involves some degree of
information-sharing or a court orders pre-action discovery
(which provides only for limited discovery and in limited
circumstances), they are generally left to the discovery,
subpoena or summons mechanisms in litigation to require
their opponent to provide information.
Implications
There are a number of implications of this early information
exchange, including:
- ATO audits can be extraordinarily cost-intensive,
particularly to conduct the burdensome tasks of looking
for supportive documents or responding to notices
demanding documents which may harm the taxpayer’s
case. Although much of this exercise now occurs
electronically, digitisation has resulted in significantly more information being created and therefore needing
to be reviewed. Further resource intensity also arises
if there are complexities concerning legal professional
privilege claims, an area of intense ATO interest;
- the process of case review does enable self-reflection
by a taxpayer, identifying gaps in its position and
developing evidence (lay or expert) to fill these as far
as possible;
- the parties to tax litigation are encouraged to assume
that discovery will not be necessary or that only limited,
targeted discovery will occur. The pre-trial steps in
tax litigation are normally focused on preparing and
filing submissions and evidence. Although discovery,
subpoenas and notices to produce can arise in tax
litigation, they are used far less frequently; and
- the parties can be more informed about the strengths
and weaknesses of each other’s position much earlier in
the process, conceivably making successful alternative
dispute resolution more likely before proceedings
are commenced. Over 90% of the disputes settled by
the ATO in the 2021 financial year had not reached
litigation.
The “pay now, argue later” regime
Tax context
Where the Commissioner disagrees with a taxpayer’s
position, he normally concludes an audit by issuing an
original or amended assessment to the taxpayer. The tax
liability becomes due and payable no later than 21 days
after receipt of the assessment. The due date invariably
falls prior to a taxpayer exercising its right to object against
the assessment, and certainly well in advance of any Pt IVC
litigation commencing.
Despite the tax liability being due and payable, the ATO has
a policy of entering into 50/50 payment arrangements with
taxpayers in certain circumstances where the assessment
is disputed. Subject to the ATO’s risk assessment in
accordance with its own guidelines, and the taxpayer paying
half of the primary tax in dispute, the ATO often agrees to
not seek to recover the rest of the debt while the dispute
continues. Other mechanisms which can satisfy the ATO
that it need not take debt recovery action for the full tax
liability include the taxpayer entering into a payment plan
or providing security.
In a Pt IVC dispute, a taxpayer can commence litigation
even if it has not yet paid the tax liability. However, if the taxpayer does not pay the liability or reach agreement
with the ATO about management of the debt, the ATO
can seek to recover the debt in parallel to objection and
litigation processes being pursued by a taxpayer despite
the substantive litigation continuing. The ATO can recover
the debt by initiating legal proceedings, or the use of its
powers to:
- issue a garnishee notice requiring a third party to pay the
funds (eg. the taxpayer’s bank);
- apply to a court for a freezing order preventing the
taxpayer’s assets from being disposed of, dealt with or
diminished in value; and
- issue a creditor’s statutory demand for the debt and
apply to the FCA to have the taxpayer company wound up
if it is insolvent.
Engaging with the ATO can mitigate the chances of any of
these steps being taken without advance warning from the
ATO to the taxpayer.
Other contexts
Payment of a disputed amount prior to litigation for breach
of contract is not required unless this has been agreed
in the contract. Rather, an immediate concern regarding
payment includes whether the parties continue to make
any contracted payments despite the alleged breach. While
parties can also use freezing orders and other interlocutory
measures to preserve a position while litigation continues,
that would rarely extend to payment of disputed funds
to one party. Further, it is rarely open for a party to
serve a statutory demand on another once litigation has
commenced as there would usually be a genuine dispute
as to the debt.
Implications
There are a number of implications of the tax debt arising
prior to any litigation, including:
- the tax legislation provides the ATO with a powerful
position in relation to tax debts. These strong statutory
powers typically come to the fore in any hostile disputes
where the taxpayer is not being communicative with the
ATO or where the ATO considers there is a risk that a tax
liability might ultimately remain uncovered; and
- taxpayers need to make arrangements promptly to pay
any assessments, negotiate a 50/50 arrangement or
reach some other agreed terms so that the ATO does not
take recovery action in parallel to the substantive dispute
proceedings.
Short filing deadline requires a quick,
important decision
Tax context
Where the ATO delivers an adverse objection decision,
the taxpayer only has 60 days to commence proceedings
in the FCA. The FCA has no power to extend the filing
deadline.
As discussed, this short filing deadline is preceded by many
interactions with the ATO, normally including an audit and
an objection process. However, the short filing deadline
means that taxpayers in the objections phase need to be
prepared to decide quickly whether proceedings should be
commenced. Once a taxpayer has lodged an objection, the
ATO can decide it at any time, starting the 60-day clock.
The ATO ordinarily communicates with the taxpayer about a
forthcoming objection decision and the likely outcome, but
even where this occurs, the actual decision generally results
in a flurry of activity for the taxpayer in formally deciding
how it should proceed.
The short filing deadline does not mean that a hearing
will necessarily occur quickly. Both parties may need to
prepare and file evidence and submissions, and procedural
issues can arise. However, there is an increasing desire of
the FCA to actively manage tax litigation as efficiently as
possible, including with early identification of key issues in
dispute and in relation to managing the amount of witness
evidence.
Other contexts
In other commercial matters, the statutes of limitation vary
between Australian States and Territories, but provide a
period of several years to bring civil proceedings. In Victoria,
simple contracts generally have a six-year time frame for
proceedings to be commenced once an action accrues. Tardy suits for breach of contract may also face defences
or counterclaims of misleading and deceptive conduct or
various estoppels, but those defences and counterclaims
are not an absolute bar to claims.
Implications
There are a number of implications of the short filing
deadline following receipt of an adverse objection decision,
including:
- during the objection process, taxpayers need to plan
as far as possible for the need to make a well-informed
decision regarding the commencement of litigation if
it becomes necessary. The size and nature of the tax
dispute and the taxpayer’s business will influence its
risk appetite, governance processes and the degree
to which other management personnel need to be
involved in any decision-making about litigation (eg. the
CEO, CFO, the general counsel, and the head of public
relations). Closely held groups also need to manage the
involvement of investors in decision-making. So that a
decision about whether to litigate can be made promptly,
it is important that these stakeholders are actively
engaged before any adverse objection decision is made
by the ATO; and
- once proceedings are initiated, certain information
filed with the FCA can be accessed by the public and
media. It is prudent to be ready to respond to questions
or to issue a proactive statement with the taxpayer’s
comments on the proceedings. Some taxpayers that
the authors have worked with have engaged PR firms
to assist them with this.
The ATO’s broader strategic
considerations
Tax context
As the federal government’s principal revenue collector,
the ATO has strategic considerations which go well beyond
any single dispute. Factors that the ATO needs to balance
include encouraging voluntary compliance with the law,
acting against non-compliance, having the law clarified
where necessary, acting fairly between taxpayers, and
managing litigation costs.
In deciding whether or not it should settle a dispute, the
ATO balances:
- the relative strength of the parties’ position;
- the cost versus the benefits of continuing the dispute
(eg. law clarification, acting against bad taxpayer
behaviour); and
- the impact on future compliance for the taxpayer and
the broader community.
Taxpayers can only form a view about how the ATO may
approach some of these issues. For example, the ATO’s
willingness to litigate a specific issue often depends on
what the ATO is seeing across the taxpayer’s industry or in
relation to a specific tax issue more broadly, which is based
on information held by the ATO and not the taxpayer. The
ATO frequently implements programs or taskforces which
are targeted at specific issues or industries.
When weighing up these factors, the ATO may determine
priorities for cases it would prefer to litigate. Some of
these cases may receive test case litigation funding from
the ATO where the law is unclear and where the outcome
of the dispute will be significant for a substantial section
of the public or for an industry. However, the ATO’s
preferred cases for litigation can be derailed by those
taxpayers agreeing to the ATO view or proposing acceptable
settlement offers.
Other contexts
Commercial organisations do not have the same
responsibilities to encourage compliance within an area
they regulate, and do not consider the public interest in the
same way as regulators do. Whether they litigate a matter
may also be impacted by strategic concerns beyond the
litigation itself (eg. seeking to discourage other customers or
suppliers from breaching their contracts), but these reasons
differ in nature to the strategic concerns of a regulator.
Implications
There are a number of implications of the ATO’s broader
strategic considerations in tax disputes, including:
- the ATO’s strategic objectives can have clear implications
for how a taxpayer’s specific dispute is managed, and
this commonly flows into the viability of settlement
negotiations;
- how a taxpayer’s dispute is managed can change over
time due to actions outside the control of both the taxpayer and even the ATO officers managing the audit or
objection on a day-to-day basis. For example, a taxpayer
might become the ATO’s preferred case for litigation
if another taxpayer that was at the head of the queue
concedes or settles with the ATO; and
- the ATO’s views on the value of law clarification for a
particular issue can also change over time, such as if the
ATO has an unfavourable court decision and wants to
prevent taxpayers from seeking to applying the decision
in a widespread manner.
Taxpayers bear a heavy burden
Tax context
Taxpayers bear the burden of proof in tax matters, with
the standard of proof being the balance of probabilities. There are two statutory requirements which make the
taxpayer’s burden decidedly heavy in practice.
First, the taxpayer must prove not just that the ATO’s
assessment is excessive, but also the specific amount that
the assessment should have been. This brings the scope
of the dispute into focus, and highlights the benefit to
taxpayers from agreeing to the scope of the dispute with
the ATO. Often this occurs through the parties’ submissions
to the FCA prior to trial, but there can be great benefit in
this occurring earlier. If the scope of a dispute remains
relatively wide, the burden on the taxpayer can be more
onerous.
In FCT v Dalco, Brennan J explained:
“If the Commissioner and a taxpayer agree to confine
an appeal to a specific point of law or fact on which
the amount of the assessment depends, it will suffice
for the taxpayer to show that he is entitled to succeed
on that point. Absent such a confining of the issues
for determination, the Commissioner is entitled to rely
upon any deficiency in proof of the excessiveness of the
amount assessed to uphold the assessment …”
In the process of seeking to confine the scope of
the dispute, taxpayers might be facilitated by the
Commissioner’s obligations as a model litigant, which
includes “endeavouring to avoid, prevent and limit the scope
of legal proceedings wherever possible”.
Second, the taxpayer is confined to its grounds of
objection unless the FCA orders otherwise. In contrast,
the Commissioner can defend the assessment on any
basis, which enables new arguments that have not been
raised at an earlier stage of the dispute. The Commissioner
introducing a new basis for defending an assessment will
bear favourably on the court allowing the taxpayer to
amend its grounds of objection.
The recent FCA decision in SingTel provides an example
of the Commissioner refining his arguments in defence of
an assessment, where the Commissioner was permitted to
change the basis on which he had calculated the transfer
pricing benefit. The court determined that although
the Commissioner’s calculations had changed since the
assessment was issued, that was permissible because the Commissioner had (in a more general sense) made his
determinations on the basis that a transfer pricing benefit
arose, which was still the case.
Other contexts
The burden of proof typically requires the claimant to prove,
on the balance of probabilities, that each element of a
breach of contract is established. Defendants will generally
bear the onus of proving any defences or counterclaims
such as estoppels or exclusion clauses. However, the
burden operates without the additional statutory provisions
discussed above in a tax context.
Implications
There are a number of implications of the taxpayer’s heavy
burden, including:
- because the Commissioner has a more flexible statutory
position than taxpayers, little comfort can be drawn
from any concessions by the Commissioner outside of
litigation, such as in an objection decision. Surprises in
tax litigation do happen from time to time; and
- taxpayers should consider trying to satisfy the
Commissioner of as many matters possible, confining the
dispute, in order to avoid needing to satisfy a court of
those matters with admissible evidence at a later time.
The lengths that taxpayers may need to go to in order to
discharge the burden of proof are significant, particular
given that it is not uncommon for tax disputes to be
litigated more than 10 years after the relevant events
took place.