When promotion is bad news for business
Financial planner practices risk hefty fines or even imprisonment if they are caught ‘promoting’ a tax scheme. Jennifer Yeo explains.
Unless you work in tax, you have probably never heard the phrase “promoter penalty regime.” Those three words, however, could mean a hefty fine or even potential imprisonment if you or your business are caught “promoting” a tax scheme.
In a case that is important to all tax and financial services professionals, the Commissioner of Taxation recently won a case in the Full Federal Court which has effectively resulted in a widening of the scope of the promoter penalty regime, such that it now has far-reaching impact and the potential to catch a very broad range of behaviour.
The Ludekens case
The Ludekens case, (full citation Commissioner of Taxation v Ludekens [2013] FCAFC 100) is the first promoter penalty case since the amendment to the provisions in 2006. The Full Federal Court systematically addressed each criteria of the operative provision, Subdivision 290-B of Schedule 1 to the Tax Administration Act 1953.
There are two basic types of conduct caught by the promoter penalty regime:
- An entity engages in conduct that results in it, or another entity, being a promoter of a tax exploitation (avoidance/evasion) scheme; or
- An entity engages in conduct that results in a scheme that has been promoted as conforming with a product ruling, being implemented in a way materially different from that ruling.
Significant civil penalties apply for promoters of tax exploitation schemes; up to $850,000 for an individual or $4.25 million for a body corporate, and twice the consideration received or receivable by the entity and its associates in respect of the scheme.
In the worst cases, criminal sanctions may also apply.
Most recently, the ATO successfully prosecuted a Gold Coast accountant for fraud arising from promoting tax avoidance schemes in a case brought under Project Wickenby. On 20 September, the individual was sentenced to six years imprisonment.
What should financial services and tax professionals take away from this? Here are 10 key issues that you should check before you create or modify a structure for any transaction for your clients.
1. Examine and document the purpose of the arrangements as a whole
Profit-making will almost always be the purpose of any scheme – the question is whether there is also a taxation advantage for someone arising from the scheme and whether this is the dominant purpose.
There might be a number of scheme benefits which comprise the “integrated whole”, so properly understanding and documenting the commercial rationale to any transaction is critical, together with balancing the reasons why the client enters into the transaction.
2. The provisions are very broad and aim to catch a wide range of behaviour
Even if the tax benefit is a relatively small proportion of the overall financial benefit arising from the scheme, this will not save the promoter. Again, some other non-tax purpose needs to drive the transaction.
3. Carefully analyse and document your reasonably arguable position
If you cannot readily demonstrate the commerciality of the arrangements and a non-tax benefit dominant purpose other than mere profit-making, a reasonably arguable position as to the application of the law will be your key point of defence. This should include consideration of Part IVA (general anti-avoidance) and any specific anti-avoidance provisions.
4. One-off structures for a single client can also be caught
While Ludekens was concerned with a marketed scheme with over 10 investors, the provisions do not only apply to mass-marketed schemes; structures for single clients can be caught.
5. The provisions have broad application as to the type of conduct and it applies regardless of when the conduct occurred in the scheme timeline
A promoter is the person or entity marketing or otherwise encouraging the growth of the scheme or interest in it, receiving consideration in respect of that and having a substantial role in the marketing or encouragement.
Conduct may be judged at a variety of times or periods of time both prior to and after implementation (regardless of whether the scheme is not implemented, partly or wholly implemented).
6. Ask whether someone has a substantial promotional role
Compare the entity’s role with the role played by others. For example, one person devising the scheme and giving instructions would have a substantial role (in this case, Ludekens and Van de Steeg) and another merely acting in accordance with those instructions (in this case, perhaps, the investors) may not.
The substantial role must be in respect of the marketing or encouragement to enter into the scheme and not merely the implementation.
7. Ask whether the Commissioner is within time
The Commissioner cannot make an application under the promoter penalty provisions if more than four years has passed since the conduct.
However, so long as some of the contravening conduct occurs within the four-year time limit, then all related conduct that occurred prior to that date may be relied upon.
8. Remember that protection is afforded by ATO Rulings only if the arrangement falls squarely within it
Understand the difference between implementing a scheme different to that which is the subject to the product ruling (not covered by the promoter penalty regime), or implementing a scheme the subject of a product ruling in a different way (which the promoter penalty regime would catch).
9. Ask whether an exception applies
Exceptions from the penalty regime exist for providing advice about the arrangement, employees who distribute information or material prepared by another entity, reasonable mistake or reasonable precautions, and entities relying on a public or private binding ruling.
10. For clients who are victims of a promoter and tax exploitation scheme, consider alternative remedies
Consider whether an action may be available against the promoter in contract (such as misrepresentation), consumer protection (misleading and deceptive conduct), negligence and professional indemnity claims. Matters may also be referred to the Director of Public Prosecutions for criminal prosecution.
Jennifer Yeo is a senior associate in Rockwell Olivier’s Sydney financial services team.
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