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Australia – To Retain Or Not To Retain: That Is The Question.

7 March, 2014

 

Legal News & Analysis – Asia Pacific – Australia – Tax

 

Key Decision On Obligations Of Liquidators And Receivers For Tax Liabilities

 

What You Need To Know

 

  • In the recent case of Australian Building System Pty Ltd v Commissioner of Taxation [2014] FCA 116 (“ABS“), the Federal Court has held that liquidators do not have any obligation to retain an amount for any income tax liability associated with a capital gain from the realisation of assets in the absence of a tax assessment. However, the Court also cautioned that a prudent liquidator would be “entitled” to retain an amount until the tax position is determined. 
  • The views of the Commissioner of Taxation expressed in Draft Taxation Determination TD 2012/D6 are now wrong in light of the ABS case. Draft Taxation Determination TD 2012/D7, dealing with the tax collection obligations of a receiver who sells an asset of a controlled company and the priority of the Commissioner for income tax liabilities associated with the sale of assets will need to be reviewed. 
  • The Commissioner’s priority for any tax liability was an issue raised in the ABS case, but given no tax liability had yet arisen, the Court did not ultimately need to determine the issue. Given that the Commissioner asserts that he does have a priority for any income liability in TD 2012/D7, the Commissioner’s response on this priority issue should be monitored.
  • The ABS case is an important development in the law dealing with the tax collection obligations of receivers and liquidators.

What You Need To Do

 

  • Despite the Court’s decision, liquidators and receivers will need to be cautious about distributing any proceeds from the sale of assets where a tax liability might arise. 
  • This is because even though section 254 does not require retention of proceeds of sale upon the mere happening of a CGT event, the Court considered a prudent liquidator would be “entitled” to retain the gain until the income tax position becomes certain by the issuing of an assessment or other advice from the Commissioner. Therefore, a prudent liquidator may in fact retain the proceeds even absent a tax assessment where a tax liability might arise, and even though there is no obligation to do so at that point in time. 
  • Secured lenders who appoint a receiver to sell the secured asset will also be affected by section 254 of the ITAA 1936. As with a liquidator, a prudent receiver may in fact retain the proceeds until the tax position is certain. 

Obligations Of Agents And Trustees Under s 254 Of The Income Tax Assessment Act 1936 


Section 254 of the Income Tax Assessment Act 1936 (the “ITAA 1936“) imposes certain obligations and liabilities on “agents” and “trustees” of taxpayers. For the purposes of that provision a “trustee” includes a liquidator or receiver. A receiver and liquidator will generally also, as a matter of law, be an agent of the company. A bankruptcy trustee acts as trustee of a bankrupt person.


A mortgagee in possession is generally not an agent or trustee of the debtor for the purposes of section 254 of the ITAA 1936, which is a proposition accepted by the Commissioner: see Draft Taxation Determination TD 2012/D7 (footnote 1). 


Section 254 essentially provides that an agent or trustee: 


a) is answerable as taxpayer in respect of the income, or any profits or gains of a capital nature, derived by him or her in his or her representative capacity, or derived by the principal by virtue of his or her agency, and for the payment of tax thereon;
b) shall make the returns and be assessed thereon;
c) is authorised and required to retain out of any money which comes to him or her in his or her representative capacity so much as is sufficient to pay tax which is or will become due in respect of the income, profits or gains; and
d) is made personally liable for the tax payable in respect of the income, profits or gains to the extent of any amount that he or she has retained, or should have retained, but he or she shall not be otherwise personally liable for the tax. 


Prior to the ABS case it had been established that section 254 of the ITAA 1936 is a collection provision and does not create a tax liability for the agent or trustee: Fermanis v Cheshire Holdings Pty Ltd 90 ATC 4201. 


Commissioner’s Position Before ABS Case 


The Commissioner issued two draft Taxation Determinations in September 2012 setting out his views on certain aspects of section 254 of the ITAA 1936.

 
In Draft Determination TD 2012/D6 the Commissioner states income tax does not need to have been assessed before an agent or trustee has an obligation under section 254 of the ITAA 1936 to retain sufficient money to pay tax which is or will become due as a result of their agency or trusteeship. Unless the Commissioner is able to successfully appeal the judgment in the ABS case, TD 2012/D6 is wrong and is likely to be withdrawn. 


In Draft Determination TD 2012/D7 the Commissioner states that when a receiver sells an asset as agent or trustee, section 254 of the ITAA 1936 gives the Commissioner priority over other creditors for the purpose of collecting tax on a capital gain made on the sale of the asset and the receiver is required to retain an amount equal to the tax on the entire gain, even if part or all of the gain relates to a period before the receiver was appointed. 


The view of the Commissioner in TD 2012/D7 would seem to be contrary to the reasoning of the High Court in FCT v Receiver of E O Farley Limited (in liq) (1940) 63 CLR 278 (“Farley“) in relation to similar tax collection provisions and does not reflect the statutory removal of the prerogative of Crown priority and the Crown being bound by the provisions of the Corporations Act 2001 (Cth). Section 555 of the Corporations Act establishes the general principle that (subject to certain priorities) all unsecured debts proved in a winding up rank equally. 


ABS Case 

In the ABS case the creditors of Australian Building Systems Pty Ltd, which was in voluntary administration, resolved that the company be wound up. The liquidators sold one of the company’s assets, being real property located south of Brisbane. 


The disposal of the property was a capital gains tax (“CGT“) event, but no tax assessment for the tax year in which the CGT event occurred had yet been issued.


It was not clear from the facts of the case whether the tax liability could be calculated. In any case, the actual tax liability will depend on whether the company has taxable income at the end of its tax year and any net capital gain associated with the disposal of the property is one component of the company’s taxable income. Accordingly, at the time a property is sold by a liquidator the amount of taxable income (and therefore the amount of the tax liability) “may be far from certain”. 


The liquidators sought a private ruling from the Commissioner to confirm if section 254 of the ITAA 1936 required them to account to the Commissioner out of the proceeds of sale for any capital gains tax liability associated with the sale of an asset that belonged to the company before the company went into liquidation. Assuming the liquidators were required to account for any tax liability, the liquidators asked the Commissioner whether a requirement to retain monies arose at the time an assessment was issued or at the time the capital gain “crystallised”.

 

The Commissioner issued a private ruling stating that the liquidators were required to account for any tax liability on the sale of the property and that the retention obligation arose at the time a capital gain crystallises and not when a tax assessment issues.
The private ruling was consistent with the Commissioner’s views in TD 2012/D6 and TD 2012/D7. 


An objection to the ruling was lodged and disallowed by the Commissioner.
The liquidators appealed against the objection in the Federal Court and also sought a declaration that they were not required under section 254 of the ITAA 1936 to retain sufficient money to pay such tax, if any, which is or will become due as a result of the disposal of the asset. The appeal was successful. 


Court’s Findings 


The Court held that the obligation to retain an amount for “tax which is or will become due” could only arise once a tax assessment was issued. As no assessment had yet been issued to the liquidators or the company, no retention obligation arose under section 254 of the ITAA 1936. The Court relied on the construction given to the words “tax which is or will become due” in section 255 of the ITAA 1936 (another tax collection provision) by the High Court in Bluebottle UK Ltd v Deputy Commissioner of Taxation (2007) 232 CLR 598. In that case the High Court held that those words should be read as referring to an amount of tax that has been assessed, including tax which, although assessed, is not yet due for payment. 


The Court appeared to emphasise that the retention obligation under section 254 of the ITAA 1936 did not arise in the “absence of an assessment”. Does this mean that the retention obligation only applies to money held by the liquidator after the assessment is issued? 


Although the Court held that no retention obligation arose for the liquidator in this case, the Court cautioned that:

 

  • Even though section 254 does not require retention of proceeds of sale upon the mere happening of a CGT event, that does not mean that a liquidator is obliged immediately to distribute the proceeds to creditors in the course of the winding up. 
  • A “prudent” liquidator would be entitled to retain the gain for a time against other expenses which might arise in the course of the administration. 
  • A liquidator would at the very least be entitled to retain the gain until the income tax position in respect of the tax year in which the CGT event had occurred had become certain by the issuing of an assessment or other advice from the Commissioner.

Other Issues 


In addition to the subject matter of the private ruling, the company and the liquidators also raised questions about whether section 254 of the ITAA 1936 gave the Commissioner priority for any income tax assessed, notwithstanding that such tax would otherwise be subject to the application of sections 501, 555 and 556 of the Corporations Act. Unfortunately, this issue was not resolved as the question did not need to be considered given the Court’s finding that no retention obligation arose under section 254 of the ITAA 1936. 


The company and the liquidators also raised a constitutional issues about whether section 254 of the ITAA 1936 was invalid because it imposed an incontestable tax. The Court held that section 254 of the ITAA 1936 was not invalid.

 

Practical Considerations

 

  • The ABS case is an important development in the law dealing with the tax collection obligations of receivers and liquidators. 
  • Despite the Court’s decision, liquidators and receivers will need to be cautious about distributing any proceeds from the sale of assets where a tax liability might arise. 
  • This is because even though section 254 does not require retention of proceeds of sale upon the mere happening of a CGT event, the Court considered a prudent liquidator would be “entitled” to retain the gain until the income tax position becomes certain by the issuing of an assessment or other advice from the Commissioner. Therefore, a prudent liquidator may in fact retain the proceeds even absent a tax assessment where a tax liability might arise, and even though there is no obligation to do so at that point in time. 
  • Secured lenders who appoint a receiver to sell the secured asset will also be affected by section 254 of the ITAA 1936. As with a liquidator, a prudent receiver may in fact retain the proceeds until the tax position is certain.

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For further information, please contact:

 

Tony Ryan, Partner, Ashurst 
tony.ryan@ashurst.com


Michael Sloan, Partner, Ashurst 
michael.sloan@ashurst.com


Emanuel Poulos, Partner, Ashurst 
emanuel.poulos@ashurst.com


Ian Kellock, Partner, Ashurst 
ian.kellock@ashurst.com


Paul O’Donnell, Partner, Ashurst 
paul.o’donnell@ashurst.com


Marcus Ryan, Ashurst 

marcus.ryan@ashurst.com

 

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