FEDERAL COURT OF AUSTRALIA

Commissioner of Taxation v Service [1999] FCA 1304

TAXATION – Income tax – Whether the Administrative Appeals Tribunal (“AAT”) applied correct test in determining whether the taxpayer was entitled to a deduction under s 51(1) of the Income Tax Assessment Act 1936 (Cth) for director’s fees paid to employer – Whether the AAT applied the correct test when determining whether the taxpayer obtained director’s fees subject to a constructive trust.

ADMINISTRATIVE LAW – Whether any evidence to support findings of fact.

Administrative Appeals Tribunal Act 1975 (Cth), ss 33(1)(c), 44(1).

Income Tax Assessment Act 1936 (Cth), s 51(1).

Muschinski v Dodds (1985) 160 CLR 583, discussed.

Australian Broadcasting Tribunal v Bond (1990) 170 CLR 321, cited.

Attorney-General (NSW) v Quin (1990) 170 CLR 1, cited.

Pochi v Minister for Immigration and Ethnic Affairs (1979) 36 FLR 482, cited.

Federal Commissioner of Taxation v Payne (1999) 162 ALR 158, cited.

Ronpibon Tin NL v Federal Commissioner of Taxation (1949) 78 CLR 47, distinguished.

Lunney v Commissioner of Taxation (1958) 100 CLR 478, cited.

Lodge v Commissioner of Taxation (1972) 128 CLR 171, followed.

Commissioner of Taxation v Cooper (1991) 29 FCR 177, followed.

Fletcher v Federal Commissioner of Taxation (1991) 173 CLR 1, followed.

Ure v Federal Commissioner of Taxation (1981) 50 FLR 219, cited.

Robert G Nall Ltd v Federal Commissioner of Taxation (1937) 57 CLR 695, cited.

Minister for Immigration and Ethnic Affairs v Wu Shan Liang (1996) 185 CLR 259, cited.

Glennan v Commissioner of Taxation (1999) 99 ATC 4467, cited. 

Countess of Bective v Federal Commissioner of Taxation (1932) 47 CLR 417, cited.

Federal Commissioner of Taxation v Everett (1980) 143 CLR 440, cited.

Liedig v Commissioner of Taxation (1994) 50 FCR 461, cited.

Zobory v Commissioner of Taxation (1995) 64 FCR 86, cited.

Giumelli v Giumelli (1999) 73 ALJR 547, cited.

Northern NSW FM Pty Ltd v Australian Broadcasting Tribunal (1990) 26 FCR 39, followed.

Commonwealth v Human Rights and Equal Opportunity Commission (1997) 77 FCR 371, cited.

Schokker v Commissioner of Taxation (1999) 162 ALR 677, cited.

COMMISSIONER OF TAXATION v JAMES GLEN SERVICE

N 213 OF 1999

SACKVILLE J

SYDNEY

16 SEPTEMBER 1999

THE COURT ORDERS THAT:

1.      The decision of the Administrative Appeals Tribunal (“AAT”) made on 19 February 1999, be set aside.

2.      The matter be remitted to the AAT, differently constituted, to be determined according to law and consistently with these reasons.

3.      The applicant pay the respondent’s costs of the proceedings.

Note:    Settlement and entry of orders is dealt with in Order 36 of the Federal Court Rules.

REASONS FOR JUDGMENT

The Proceedings

1                     This is an “appeal” under s 44(1) of the Administrative Appeals Tribunal Act 1975 (Cth) (“AAT Act”), on questions of law, from a decision of the Administrative Appeals Tribunal (“AAT”) made on 19 February 1999.  The AAT set aside objection decisions made by the applicant (“the Commissioner”) disallowing objections by the respondent (“the Taxpayer”) to amended assessments issued in respect of the taxation years ended 30 June 1993 to 30 June 1996 inclusive.

2                     The effect of the Commissioner’s objection decisions was

(a)        to include in the Taxpayer’s assessable income for the relevant taxation years fees payable to him in respect of directorships he held in various corporations and instrumentalities; and

(b)        to deny the Taxpayer any off-setting deduction under s 51(1) of the Income Tax Assessment Act 1936 (Cth) (“ITAA”) in respect of the on-payment by him of the fees to a private company, J G Service Pty Ltd (“the Company”) of which he was the managing director.

3                     The AAT decided in favour of the Taxpayer on two independent grounds.  First, the AAT found that, assuming the Taxpayer derived the director’s fees beneficially, he was obliged to account to the Company for all those fees.  The AAT held, on the basis of this finding, that the payments by the Taxpayer to the Company were “losses and outgoings...incurred in gaining or producing the assessable income”, within the first limb of s 51(1) of the ITAA.  In the alternative, the AAT held that the Taxpayer had never derived the director’s fees himself, since the arrangement between him and the Company meant that he had received the fees subject to a constructive trust in favour of the Company.

4                     The Commissioner amended the Notice of Appeal during the hearing, without objection from Mr Slater QC, who appeared with Mr McMillan on behalf of the Taxpayer.   The Commissioner’s submissions ultimately identified what were said to be three errors of law on the part of the AAT.  These are as follows:

(i)         There was no evidence to support the critical findings of fact made by the AAT.  In particular, there was no evidence to support the finding that there was a binding agreement between the Taxpayer and the Company, whereby the Company granted permission to the Taxpayer to accept and perform the duties of the various directorships on the basis that he would be obliged to account to the Company for the director’s fees to which he was entitled.

(ii)        The AAT had applied an incorrect test when determining that the Taxpayer was entitled to a deduction under the first limb of s 51(1) of the ITAA to the extent that he had accounted to the Company for director’s fees.

(iii)       The AAT had applied an incorrect test when determining that the Taxpayer held any director’s fees received by him on constructive trust for the Company.

Section 51(1) of the ITAA provides as follows:

“All losses and outgoings to the extent to which they are incurred in gaining or producing the assessable income, or are necessarily incurred in carrying on a business for the purpose of gaining or producing such income, shall be allowable deductions except to the extent to which they are losses or outgoings of capital, or of a capital, private or domestic nature, or are incurred in relation to the gaining or production of exempt income.”

The AAT’s Reasons

            In the proceedings before the AAT, the Taxpayer, his wife and one of his sons made statements and were cross-examined by the Commissioner’s representative.  A fourth witness, Ms Mitchell, the Administration Manager of the Company, also made a written statement, but was not cross-examined.

            The AAT found that the evidence that the Taxpayer and his wife gave was impressive and “altogether worthy of credit”.  The evidence of the son was said to be less impressive.  Insofar as there were inconsistencies in the evidence, the AAT accepted the evidence of the Taxpayer and his wife. 

            The AAT made a number of findings.  The most significant are the following:

(i)                  The Company commenced business in Canberra in 1981 as property consultants and property managers. 

(ii)                 The Company was originally the trustee of a trust established for the benefit of the Taxpayer and his family.

(iii)               At all relevant times until 1996, the Taxpayer was the managing director and chief executive of the Company. 

(iv)               In 1986 the business of the Company was “incorporated” (the AAT’s word).  This was achieved (according to the evidence of the Taxpayer) by a transfer of the business from the Company in its capacity as trustee, to the Company in its personal capacity.  Thereafter, the Company owned the business both legally and beneficially.

(v)                The Company’s business had grown considerably over the years.  It had a staff of thirty, most of whom were professional staff.  The Company’s gross turnover was in the region of $5,000,000 per annum.

(vi)               There were ten issued shares in the capital of the Company, of which the Taxpayer owned six.  Each of the Taxpayer’s three sons and his wife owned one share.  The board of directors of the Company consisted of the Taxpayer, his wife and three sons.

(vii)             There was no written contract of service between the Taxpayer and the Company.  Nonetheless, from the inception of the business, the Taxpayer was employed on a full-time basis to devote his full-time attention to the affairs of the Company.  He received remuneration in respect of his services which, during the relevant years, amounted to a salary of $80,000 per annum.  In addition, the Company paid substantial amounts in respect of the Taxpayer’s superannuation and provided him with “an expensive motor car”.

(viii)            In 1984, the Taxpayer was invited to accept office as a member of the Canberra Development Board, a governmental body in the Australian Capital Territory.

(ix)               At that time, a “family discussion” took place as to whether that appointment (and if relevant, similar appointments offered in the future) should be accepted.  The factors requiring consideration included the necessity for the Taxpayer to devote time to the proposed appointment and the benefits which might be derived by the Company from acceptance of the appointment.

(x)                As a result of the family discussion, it was agreed that the offer should be accepted notwithstanding its requirements as to the time of the Taxpayer.

(xi)               It was agreed, furthermore, that any and all fees derived should accrue to the Company.  This constituted a contract pursuant to which the Taxpayer was obliged to account to the Company for the director’s fees.

(xii)             It was also agreed that any offers received thereafter would be dealt with on the same basis, subject to a consideration of whether acceptance of the offer would be beneficial to the Company.  Each subsequent board appointment was in fact accepted after a discussion within the family.

(xiii)            Over the years, other “important” board and similar appointments were offered and accepted.  During the relevant years of income, the director’s fees amounted to the following:

1993                $119,254

1994                $141,653

1995                $171,056

1996                $183,551

In each of these years, the bulk of the fees was attributable to a directorship of Advance Bank Ltd.

(xiv)      It was very likely that these appointments were of benefit, albeit indirectly, to the Company, which had expanded and prospered over the years.

(xv)       The Taxpayer may well have been the most important voice in the Company, and his desires were not likely to be overruled.  But there was no evidence that his was the only voice in relation to the Company.

(xvi)      The director’s fees were paid by cheque made payable to the Taxpayer.  The cheques were endorsed by him in favour of the Company.  Any PAYE instalments deducted from the amount of the cheques were accounted for by the Taxpayer through debits to his loan account with the Company.  All fees were treated and recorded in the books of the Company as its income.

(xv)       The probability is that the various boards to which the Taxpayer had been appointed were not aware or were not concerned about the arrangement between the Taxpayer and the Company.

(xvi)      The Taxpayer did not include the director’s fees in his tax returns; nor did he claim a corresponding deduction.  He had, however, disclosed in his returns that the director’s fees had been included in the Company’s returns.

5                     The AAT said that the arrangements made in 1984 could be characterised as alterations or amendments to the original contract of employment or, alternatively, an amplification of the original contract to cater for a set of circumstances not previously contemplated.  Nothing turned on this, since it was “logical” that where a company was entitled to the full-time services of an employee, it was entitled to fees referable to services provided by its own employee using time properly belonging to the company.

6                     The AAT identified the major issue as whether the Taxpayer was entitled to a deduction in respect of the fees paid over to the Company.  The AAT approached this question on the basis that the Taxpayer could be said to have derived the fees beneficially.  The question, then, was whether the payments made by him were losses or outgoings “incurred in gaining or producing the assessable income”.

7                     The Commissioner’s representative had argued that the relevant assessable income was the Taxpayer’s salary and there was no evidence that the Taxpayer had sought any increase in salary by reason of his increasing directorial duties.  The AAT took the view that this argument was mistaken, since it ignored the director’s fees themselves which constituted part of the Taxpayer’s assessable income.  The AAT considered that the correct analysis was this:

“[T]he [Taxpayer] sought the Company’s acquiescence to enable him to take up the appointments; the Company in turn granted that acquiescence conditionally upon the payment over of the directors’ fees.  It follows then that the directors’ fees could not have been derived without that acquiescence and so that relevance and nexus is clearly established.”

This was sufficient to justify setting aside the amended assessments.

8                     While it was not strictly necessary for the AAT to address any other issues, it expressed its views on other matters referred to at the hearing.  In particular, it addressed an argument put on behalf of the Taxpayer, to the effect that he had never derived the director’s fees as income since the Company was entitled to the fees by reason of a constructive trust which arose in its favour.

9                     In a brief analysis, the AAT held that this argument was “tenable” because the Taxpayer could not in good conscience have retained the director’s fees.  The AAT considered observations made by Deane J in Muschinski v Dodds (1985) 160 CLR 583, at 614, to be apposite:

“Equity acts consistently and in accordance with principle.  The old maxim that equity regards as done that which ought to be done is as applicable to enforce equitable obligations as it is to create them and, notwithstanding that the constructive trust is remedial in both origin and nature, there does not need to have been a curial declaration or order before equity will recognise the prior existence of a constructive trust.”

10                  The AAT summarised the position as follows:

“(a)     if the [Taxpayer] derived the directors’ fees beneficially he was entitled to a matching deduction under the first limb of section 51(1) of the [ITAA]; and

  (b)     in the alternative, and on reflection [the Taxpayer’s] contention as to a constructive trust is tenable, and the [Taxpayer] received the directors’ fees on constructive trust for the Company.”

Was There Evidence to Support the AAT’s Findings?

11                  Mr Bloom QC, who appeared for the Commissioner, criticised the AAT’s findings on a number of grounds.  It was said that the only proper inference from the evidence was that the Taxpayer and his family had entered into a family arrangement not intended to have contractual force; that there was no evidence to support the finding that the Taxpayer was contractually bound to account to the Company for the director’s fees; that there were no specific findings that the discussions were held with family members who were able to bind the Company; that insufficient attention was paid to the fact that the Taxpayer did not account to the Company for 50,000 options received by him from Advance Bank but had placed them in the family trust; and that some of the material on which the AAT relied, notably the statements of the Taxpayer and his wife, was couched in the form of legal conclusions rather than as evidence of primary facts.

12                  Some of the criticisms made by Mr Bloom of the findings may have some force.  It is curious, for example, that the benefit of the options granted to the Taxpayer should have been permitted to accrue to the family trust rather than to the Company.  It is not easy to reconcile the parties’ conduct in relation to the options with the claimed rationale for the arrangement whereby the Taxpayer, as a full-time employee of the Company, was permitted to take up a variety of directorships.  Similarly, the discussions relating to the Taxpayer’s acceptance of directorial positions do not seem to have been confined to family members who were shareholders of the Company, perhaps lending support to the contention that the arrangement was not intended to have contractual force.

13                  But the question on an application for judicial review is not whether the Court would necessarily have made the same findings of fact as the AAT.  It is whether there was an absence of any evidence to support a material finding of fact: Australian Broadcasting Tribunal v Bond (1990) 170 CLR 321, at 358, per Mason CJ; Attorney-General (NSW) v Quin (1990) 170 CLR 1, at 35-36, per Brennan J.

14                  In my view, there was evidence on which the AAT could make the findings it did.  For example, both the Taxpayer and his wife gave evidence of discussions within the family amounting to an agreement substantially in the terms found by the AAT.  They also gave evidence of their understanding that the arrangement operated as a term of the Taxpayer’s contract of employment.  Furthermore, the AAT was entitled to take account of the written statements of the Taxpayer and his wife, even though they may not have been admissible in a court applying the rules of evidence.  The AAT is not bound by those rules: AAT Act, s 33(1)(c).  While s 33(1)(c) is not a licence to receive and act upon evidence devoid of rational probative force (Pochi v Minister for Immigration and Ethnic Affairs (1979) 36 FLR 482, at 492, per Brennan J), the written statements in the present case could not be said to lack any probative value.

15                  In substance, Mr Bloom’s criticisms constituted an attempt to canvass the merits of the AAT’s findings of fact.  Those criticisms do not establish an error of law on the part of the AAT.

Did the AAT Err in Law in Holding That the First Limb of s 51(1) was Satisfied?

16                  The Commissioner next submitted that the AAT fell into error in deciding that the Taxpayer was entitled to a deduction under s 51(1) of the ITAA in respect of the fees he paid over to the Company.  The error identified by Mr Bloom was that the AAT considered it sufficient to satisfy the first limb of s 51(1) that the Taxpayer could not have derived the director’s fees without the acquiescence of the Company.  Mr Bloom submitted that the AAT’s approach was erroneous because the authorities clearly establish that it is not sufficient to attract the first limb of s 51(1) merely to demonstrate that the expenditure is a prerequisite to the earning of assessable income.  It was therefore necessary for the AAT to have assessed the relationship between the outgoing and the assessable income to determine whether it had been incurred in gaining or producing assessable income.  This the AAT had failed to do.

17                  The general principles governing the construction of the first limb of s 51(1) of the ITAA are well-known.  They were recently restated by a Full Court: Federal Commissioner of Taxation v Payne (1999) 162 ALR 158, at 164-165, per Sackville and Hely JJ.  A familiar starting point is the observation of the High Court in Ronpibon Tin NL v Federal Commissioner of Taxation (1949) 78 CLR 47, at 56-57:

“For expenditure to form an allowable deduction as an outgoing incurred in gaining or producing the assessable income it must be incidental and relevant to that end.  The words ‘incurred in the gaining or producing the assessable income’ mean in the course of gaining or producing such income.”

18                  As Mr Slater observed, the AAT used the word “relevance” in the crucial passage in its reasoning, perhaps reflecting the language of Ronpibon.  But, as was noted in Payne (at 165), even the general statements in Ronpibon must be treated with caution.  In Lunney v Commissioner of Taxation (1958) 100 CLR 478, at 497, the joint judgment (Williams, Kitto and Taylor JJ) observed that

“the expression ‘incidental and relevant’ was not used in an attempt to formulate an exclusive test for ascertaining the extent of the operation of the section; the words were merely used [in cases such as Ronbipon Tin] in stating an attribute without which an item of expenditure cannot be regarded as deductible under the section.”

In Lunney, it was held that fares paid by taxpayers in travelling between their homes and places of employment or business were not deductible under the first limb of s 51(1).

19                  In Lodge v Commissioner of Taxation (1972) 128 CLR 171, at 175, Mason J explained the decision in Lunney as follows:

The rejection in Lunney’s case of the claim that the expenses of travelling between home and work was an allowable deduction was based on the proposition that it is not enough to show that the expenditure was an essential prerequisite to the derivation of assessable income.  The decision denied the notion that an expense was incidental and relevant to the derivation of income merely because it was necessary in that sense.  The decision turned rather upon a view of the character of the expenditure incurred.” (Emphasis added.)

20                  A similar point was made by Lockhart J in Commissioner of Taxation v Cooper (1991) 29 FCR 177, a case in which a majority of the Court denied a deduction to a professional footballer for additional food, over and above his normal meals, consumed on the instructions of his coach.  Lockhart J said this (at 184):

“The question whether the additional expenditure of the taxpayer is deductible under s 51(1) cannot be answered simply by a process of reasoning that, because expenditure of this kind is a prerequisite to the earning of the taxpayer’s assessable income (in the sense that it is necessary if assessable income is to be derived), it must be incidental and relevant to the derivation of income.  It does not follow that such expenditure is incurred in or in the course of gaining or producing the income.  The deductibility of the expenditure depends upon determining the essential character of the expenditure itself and not upon the fact that, unless it is incurred, the taxpayer will not be able to engage in the activity from which his income is derived.” (Emphasis added.)

21                  In Fletcher v Federal Commissioner of Taxation (1991) 173 CLR 1, the High Court considered the process of characterisation involved in determining whether an outgoing is wholly or partly “incurred in gaining or producing the assessable income” within the meaning of s 51(1) of the ITAA.  After referring to Ronpibon, the Court said this (at 17) about the significance of a taxpayer’s motive:

“So to say is not, however, to exclude the motive of the taxpayer in making the outgoing as a possibly relevant factor in characterization for the purposes of the first limb of s 51(1).  At least in a case where the outgoing has been voluntarily incurred, the end which the taxpayer subjectively had in view in incurring it may, depending upon the circumstances of a particular case, constitute an element, and possibly the decisive element, in characterization of either the whole or part of the outgoing for the purposes of the sub-section.”

The Court went on to say that it is commonly possible to characterise an outgoing as within the first limb of s 51(1) without any need to refer to the taxpayer’s subjective thought processes.  This is ordinarily the case where the outgoing gives rise to the receipt of a larger amount of assessable income.  But as the Court observed (at 18-19)

“the position may... well be different in a case where no relevant assessable income can be identified or where the relevant assessable income is less than the amount of the outgoing.  Even in a case where some assessable income is derived as a result of the outgoing, the disproportion between the detriment of the outgoing and the benefit of the income may give rise to a need to resolve the problem of characterization of the outgoing for the purposes of the sub-section by a weighing of the various aspects of the whole set of circumstances, including direct and indirect objects and advantages which the taxpayer sought in making the outgoing.  Where that is so, it is a “commonsense” or “practical” weighing of all the factors which must provide the ultimate answer.”

See also Ure v Federal Commissioner of Taxation (1981) 50 FLR 219, at 233, per Deane and Sheppard JJ.

22                  It was for substantially these reasons that the continued payment of a large salary to the governing director of the company, when his position had become a “sinecure”, was held not to be deductible under the predecessor to s 51(1) of the ITAA: Robert G Nall Ltd v Federal Commissioner of Taxation (1937) 57 CLR 695.  As Dixon J said (at 713):

“The expenditure could no longer be considered to conduce to obtaining the revenue, to be called for or required for the purpose of supervising the company’s investments.  The circumstances no longer gave it the complexion of an expenditure incurred in order to gain income, but, on the contrary, stamped it for the greater part as a distribution of income gained.”

23                  In assessing the AAT’s analysis in the present case it is of course necessary to give the reasons a “beneficial construction”: Minister for Immigration and Ethnic Affairs v Wu Shan Liang (1996) 185 CLR 259, at 272, per Brennan CJ, Toohey, McHugh and Gummow JJ.  Nor do I criticise the AAT’s brevity of reasoning or the absence of reference to authority on this issue.  It is not necessarily appropriate in every case to refer to authorities, provided the principles of law being applied are stated correctly.  Nonetheless, in my opinion, the authorities to which I have referred show that the AAT’s analysis in this case involved an error of law.

24                  The AAT clearly proceeded on the basis that the acquiescence of the Company to the Taxpayer’s taking up of the directorships pursuant to the contractual arrangement between them, was enough of itself to establish the necessary “relevance and nexus” with the Taxpayer’s assessable income in the form of the director’s fees.  It is true that, on the AAT’s findings, the Taxpayer could not engage in the activities producing assessable income without accounting to the Company for those fees.  But it was still necessary for the AAT to determine the “essential character” of the expenditure.  That question was not foreclosed by the fact that the Taxpayer had chosen to enter an agreement with a Company in which he was the dominant shareholder.  As Fletcher makes clear, in a case where there is an apparent disproportion between the detriment of the outgoing and the benefit of the income, it may be necessary to weigh all the circumstances, including the direct and indirect objects and advantages which the taxpayer sought to achieve.

25                  That this was such a case is shown by the disparity between the amount of director’s fees derived by the Taxpayer (which he on-paid to the Company) and his annual salary from the Company.  The AAT acknowledged that “it was possible that tax was considered” in relation to the manner in which director’s fees were dealt with.  (While it might be thought that this was a rather obvious inference to draw, it is worth noting that the Taxpayer had vehemently denied in evidence that he had paid the director’s fees to the Company in order to obtain a tax benefit.)  By adopting the approach it did, the AAT prevented itself from considering the significance of the indirect advantages obtained, or objects achieved, by the Taxpayer from the arrangement.  In this connection, it is to be remembered that, although the AAT said the Taxpayer’s wife could not be described as a “cypher”, it also found that the Taxpayer’s was the most important voice in the Company and that his desires were not likely to be overruled (a finding more than justified by the evidence).  The arrangement between the Taxpayer and the Company, albeit contractual in character (as the AAT found), could hardly be described as an arm’s length transaction.

26                  I have not overlooked the fact that the Taxpayer gave evidence that his entitlements from the Company were not limited to his relatively modest salary, but included superannuation entitlements and other benefits.  Nor have I overlooked the AAT’s finding that the Taxpayer’s appointments were of benefit, albeit indirectly, to the Company.  Doubtless these matters would need to be taken into account in considering the essential character of the expenditure incurred by the Taxpayer.  But they do not detract from the need for the AAT to have considered the indirect advantages or objects sought to be achieved by the Taxpayer’s agreement to account to the Company for Director’s fees.

27                  I should mention one further issue on this aspect of the case.  Mr Slater observed in argument that cases such as Cooper and Ure were not drawn specifically to the AAT’s attention.  It is not clear whether he intended to suggest that that relieved the AAT from stating the relevant legal principles correctly.  If he did, that cannot be right.  It is one thing for the AAT not to address arguments that were never put to it: cf Glennan v Commissioner of Taxation (1999) 99 ATC 4467 at [80]-[83].  It is another for the AAT to apply incorrect principles on an issue before it, without having had the benefit of full reference to authority.  While the latter situation doubtless creates a burden for the decision-maker, it does not foreclose the party seeking judicial review for relying on the error of law so established.

28                  In my opinion, the first ground for the AAT’s decision was affected by an error of law.

Did the AAT Err in Finding that the Taxpayer Did Not Derive Assessable Income Because of a Constructive Trust?

29                  The Taxpayer sought to uphold the AAT’s decision on the alternative ground put forward by the AAT, namely that the Taxpayer did not derive the director’s fees beneficially, since they were subject to a constructive trust.  Mr Slater acknowledged that the AAT’s finding, that the Taxpayer “could not in good conscience have retained the director’s fees” was not “the clearest way of putting it”, but he contended that the AAT had not fallen into error on this aspect of the case.

30                  The AAT prefaced its brief discussion of the constructive trust issue by quoting from the judgment of Dixon J in Countess of Bective v Federal Commissioner of Taxation (1932) 47 CLR 417.  In that case an express trust had been created by an indenture.  The AAT quoted from that portion of the judgment which established that assessable income is, in general, limited to income which a taxpayer receives beneficially.  The AAT observed that Countess of Bective related to a trust instrument with a named beneficiary and was thus

“perhaps distinguishable from the facts in this matter, where and in respect of the director’s fees the Company does not fall into the same category”.

31                  It is clear that the AAT made no finding that an express trust had been created by virtue of the arrangements between the Taxpayer and the Company.  To do so would have required it to make a finding that the parties intended that a trust should be created (an intention not necessarily present merely because one person is required to account to another for moneys earned or received).  It would also have been necessary to make findings as to when the trust (or trusts) had been created and as to the subject matter of the trust.  For example, was there but one express trust or was a separate trust created each time the Taxpayer received a fresh offer of a directorship?  What, precisely, was the subject of the trusts?  Was the Taxpayer entitled to revoke the trust and, if so, in what circumstances?  Answers to these questions might have had significant consequences not only for income tax (cf Federal Commissioner of Taxation v Everett (1980) 143 CLR 440, at 453-454; Liedig v Commissioner of Taxation (1994) 50 FCR 461 (Hill J), at 468-470 (and cases cited)), but for capital gains tax.

32                  On the constructive trust issue, the AAT quoted the passage to which I have already referred from the judgment of Deane J in Muschinski v Dodds, in support of the proposition that, although a constructive trust is remedial in both origin and nature, there does not need to be a curial declaration or order before equity will recognise the prior existence of a constructive trust.  This much is clear.

33                  But the question that had to be addressed by the AAT was whether a constructive trust attached to the Taxpayer’s entitlement to the director’s fees, such that it could be said that he had never derived those fees beneficially.  The AAT referred to observations by Cardozo CJ in Beatty v Guggenheim Exploration Co 122 NE 378 (1919), at 380, quoted by Jacobs’ Law of Trusts in Australia (6th ed 1997), at 306:

“When property has been acquired in such circumstances that the holder of the legal title may not in good conscience retain the beneficial interest equity converts him into a trustee”.

It also referred to Zobory v Commissioner of Taxation (1995) 64 FCR 86 (Burchett J), a case involving moneys stolen by an employee, which the AAT acknowledged was perhaps distinguishable from the case before it.  The AAT then asserted that the Taxpayer, in good conscience, could not have retained the director’s fees.  On the basis of this assertion, it concluded that the Taxpayer’s argument as to the existence of a constructive trust was “tenable”.

34                  In my opinion, there are two difficulties with this analysis.  The first is that the AAT did not explain why a constructive trust could be imposed where the agreement between the parties apparently fell short of creating an express trust.  If the parties had not agreed to create an express trust, it is somewhat difficult to understand, in the circumstances of the present case, how a constructive trust could have arisen.

35                  Secondly, the AAT did not consider why “good conscience” required not merely that the Taxpayer should not retain the director’s fees paid to him, but that it would be unconscionable for him to deny the existence of a trust: Jacobs’ Law of Trusts, at 306.  In Muschinski v Dodds, Deane J rejected (at 615) the proposition that a constructive trust is imposed by courts of equity whenever justice and good conscience, in the sense of fairness, require it.  As his Honour said (at 616):

“proprietary rights fall to be governed by principles of law and not by some mix of judicial discretion, subjective views about which party ‘ought to win’ and ‘the formless void of individual moral opinion’.  Long before Lord Seldon’s anachronism identifying the Chancellor’s foot as the measure of Chancery relief, undefined notions of ‘justice’ and what was ‘fair’ had given way in the law of equity to the rule of ordered principle which is of the essence of any coherent system of rational law.  The mere fact that it would be unjust or unfair in a situation of discord for the owner of a legal estate to assert his ownership against another provides, of itself, no mandate for a judicial declaration that the ownership in whole or in part lies, in equity, in that other.  Such equitable relief by way of constructive trust will only properly be available if applicable principles of the law of equity require that the person in whom the ownership of property is vested should hold it to the use or for the benefit of another.” [Citations omitted.]

Moreover, as the recent decision of the High Court in Giumelli v Giumelli (1999) 73 ALJR 547 shows, before a court imposes a constructive trust it must consider the circumstances of the case to determine whether the relief sought goes beyond what is required for conscientious conduct: see at 556, per Gleeson CJ, McHugh, Gummow and Callinan JJ.

36                  In my opinion, the AAT erred on this aspect of the case by failing to consider whether the particular circumstances of the present case required or permitted the imposition of a constructive trust in accordance with established principle.  It was necessary for the AAT, at the least, to identify why it was that principles of equity required that “the director’s fees” (to use the AAT’s description of the subject matter of the Taxpayer’s entitlement) should be held by the Taxpayer on constructive trust for the Company and why those principles required the conclusion that the Taxpayer never derived the fees in his own right.  The mere assertion that the Taxpayer could not in conscience retain the director’s fees was not sufficient to justify the imposition of such a trust.  Accordingly, in my opinion, the AAT erred in law insofar as its decision rested on the conclusion that the director’s fees were subject to a constructive trust.

37                  Mr Slater submitted that, if the AAT were found to have erred on the constructive trust issue, the decision should nonetheless be upheld on the ground that the AAT inevitably would have found that there was an express trust, had it pursued that question to finality.  It must be said that it would be rather curious if the AAT’s decision could be upheld on a basis it adverted to but declined to adopt.  In any event, for the AAT to have found that an express trust was intended and implemented in the circumstances of the present case, it would have had to address the issues I have identified earlier.  To the extent that those issues require findings of fact, it is far from self-evident what findings the AAT would have made, even having regard to the favourable impression it formed of the evidence of the Taxpayer and his wife.

Conclusion

38                  For the reasons I have given, the AAT erred in law in setting aside the Commissioner’s objection decisions.  Accordingly, the AAT’s decision should be set aside and the matter remitted to the AAT for determination according to law.  It was agreed between the parties that, whatever the outcome, the Commissioner should pay the Taxpayer’s costs.

39                  Mr Slater submitted that, if the matter had to be remitted to the AAT, it should be remitted to the same Senior Member, since he had already made findings of fact.  This, however, is not the usual course: Northern NSW FM Pty Ltd v Australian Broadcasting Tribunal (1990) 26 FCR 39, at 42-43, per Davies and Foster JJ, with whom Burchett J agreed; Commonwealth v Human Rights and Equal Opportunity Commission (1997) 77 FCR 371, at 399-400, per Sackville J; Schokker v Commissioner of Taxation (1999) 162 ALR 677 (FC), at [31], per Drummond J with whom French and Carr JJ agreed.  Moreover, it is precisely because further findings of fact may have to be made that I think it appropriate to remit the matter to a differently constituted AAT which will not have formed a view as to the Taxpayer’s credit.  The AAT, upon remittal of the matter, should not be bound by the findings made by the AAT in the course of the decision that has been set aside.

Associate:

Dated:              16 September 1999