FEDERAL COURT OF AUSTRALIA

Noza Holdings Pty Ltd (ACN 098 410 881) v Commissioner of Taxation

[2010] FCA 990

THE COURT ORDERS THAT:

1.                  Those parts of the Supplementary Expert Report of Mr Fred O Marcus of 2 June 2010 (the Report) objected to by the Applicant are inadmissible and not received into evidence.

2.                  Those disallowed parts of the Report be received by way of submission pursuant to Order 10 rule 1 (2)(j) of the Federal Court Rules.

Note:Settlement and entry of orders is dealt with in Order 36 of the Federal Court Rules.
The text of entered orders can be located using Federal Law Search on the Court’s website.

THE COURT ORDERS THAT:

1.                  Those parts of the Supplementary Expert Report of Mr Fred O Marcus of 2 June 2010 (the Report) objected to by the Applicant are inadmissible and not received into evidence.

2.                  Those disallowed parts of the Report be received by way of submission pursuant to Order 10 rule 1 (2)(j) of the Federal Court Rules.

Note:Settlement and entry of orders is dealt with in Order 36 of the Federal Court Rules.
The text of entered orders can be located using Federal Law Search on the Court’s website.

THE COURT ORDERS THAT:

1.                  Those parts of the Supplementary Expert Report of Mr Fred O Marcus of 2 June 2010 (the Report) objected to by the Applicant are inadmissible and not received into evidence.

2.                  Those disallowed parts of the Report be received by way of submission pursuant to Order 10 rule 1 (2)(j) of the Federal Court Rules.

Note:Settlement and entry of orders is dealt with in Order 36 of the Federal Court Rules.
The text of entered orders can be located using Federal Law Search on the Court’s website.

THE COURT ORDERS THAT:

1.                  Those parts of the Supplementary Expert Report of Mr Fred O Marcus of 2 June 2010 (the Report) objected to by the Applicant are inadmissible and not received into evidence.

2.                  Those disallowed parts of the Report be received by way of submission pursuant to Order 10 rule 1 (2)(j) of the Federal Court Rules.

Note:Settlement and entry of orders is dealt with in Order 36 of the Federal Court Rules.
The text of entered orders can be located using Federal Law Search on the Court’s website.

THE COURT ORDERS THAT:

1.                  Those parts of the Supplementary Expert Report of Mr Fred O Marcus of 2 June 2010 (the Report) objected to by the Applicant are inadmissible and not received into evidence.

2.                  Those disallowed parts of the Report be received by way of submission pursuant to Order 10 rule 1 (2)(j) of the Federal Court Rules.

Note:Settlement and entry of orders is dealt with in Order 36 of the Federal Court Rules.
The text of entered orders can be located using Federal Law Search on the Court’s website.

THE COURT ORDERS THAT:

1.                  Those parts of the Supplementary Expert Report of Mr Fred O Marcus of 2 June 2010 (the Report) objected to by the Applicant are inadmissible and not received into evidence.

2.                  Those disallowed parts of the Report be received by way of submission pursuant to Order 10 rule 1 (2)(j) of the Federal Court Rules.

Note:Settlement and entry of orders is dealt with in Order 36 of the Federal Court Rules.
The text of entered orders can be located using Federal Law Search on the Court’s website.

THE COURT ORDERS THAT:

1.                  Those parts of the Supplementary Expert Report of Mr Fred O Marcus of 2 June 2010 (the Report) objected to by the Applicant are inadmissible and not received into evidence.

2.                  Those disallowed parts of the Report be received by way of submission pursuant to Order 10 rule 1 (2)(j) of the Federal Court Rules.

Note:Settlement and entry of orders is dealt with in Order 36 of the Federal Court Rules.
The text of entered orders can be located using Federal Law Search on the Court’s website.

THE COURT ORDERS THAT:

1.                  Those parts of the Supplementary Expert Report of Mr Fred O Marcus of 2 June 2010 (the Report) objected to by the Applicant are inadmissible and not received into evidence.

2.                  Those disallowed parts of the Report be received by way of submission pursuant to Order 10 rule 1 (2)(j) of the Federal Court Rules.

Note:Settlement and entry of orders is dealt with in Order 36 of the Federal Court Rules.
The text of entered orders can be located using Federal Law Search on the Court’s website.

REASONS FOR JUDGMENT

INTRODUCTION

1                                             During the Respondent’s (the Commissioner) opening on the first day of trial, Counsel for the Commissioner informed the Court that he intended to rely upon a supplementary expert witness report of Mr Fred O Marcus (Mr Marcus) of 2 June 2010 (the Supplementary Expert Report).  The Applicants initially objected to the Court receiving into evidence the whole of the Supplementary Expert Report.  At the hearing on 7 September 2010, the Applicants narrowed their objection to identified sections of the Supplementary Expert Report.  The issue of the admissibility of the Supplementary Expert Report was heard separately on 7 September 2010.  I decided not to receive into evidence those parts of the report objected to by the Applicants but directed that those parts be received by way of submission pursuant to O 10 r 1(2)(j) of the Federal Court Rules.  These are my reasons for that ruling.

BACKGROUND

2                                             On the assumption that Mr Marcus would give evidence consistent with the Supplementary Expert Report, set out below is a summary of the evidence he would have given.  Mr Marcus graduated in law in 1974.  Since 1982, he has been a principal, and founding member of, a Chicago law firm.  He is the chairman of the firm’s state and local tax practice group.  Mr Marcus has worked with some of the United States’ largest corporate taxpayers.  He has appeared before the United States Supreme Court, the California Court of Appeal and the California Supreme Court.  He has argued cases before the Illinois and Missouri Supreme Courts, the Illinois and the New Jersey Courts of Appeal and has represented clients in administrative proceedings in many of the United States.  Mr Marcus is a member of a number of boards including the Illinois Department of Revenue Director’s Practitioner Advisory Board and the Illinois Taxpayers’ Federation Board of Trustees and Advisory Board.  Mr Marcus has also published extensively on taxation in the United States with particular emphasis on State tax issues.

3                                             Mr Marcus was retained by the Commissioner to express an opinion as an expert on certain matters relating to a Private Letter Ruling issued by the Illinois Department of Revenue (the IDR)on 15 September 2001 to Mr Richard Lieberman of Deloitte & Touche (the PLR) and, in particular, whether hypothetical changes to the PLR propounded by the Commissioner constituted “a pertinent change … in material facts” so that the PLR would cease to bind the IDR. 

4                                             Mr Marcus’ Supplementary Expert Report is divided into paragraphs.  The paragraphs are not numbered.  Mr Marcus’ Supplementary Expert Report contains the following headings:

1.                  Introduction;

2.                  Conclusions;

3.                  Statutes and documents reviewed;

4.                  The relevant steps in the original transaction as reflected in Deloitte’s Ruling Request;

5.                  Ruling Sought in the Ruling Request;

6.                  Deloitte’s Representations and the [IDR]’s Ruling and Analysis; and

7.                  My Charge.

5                                             The last section entitled “My Charge” is itself divided into a number of sections.  The initial section which is not separately labelled summarises his instructions, summarises the law and then lists what Mr Marcus identifies as the “material facts”.  The opening part of the next section reads:

In each of the alternative hypotheticals set forth on Exhibit 1 and repeated below, you have instructed me to assume that a group of companies had originally proposed the transactions set forth in Exhibit 1, which transaction steps are identical to the transaction steps set forth in Deloitte’s Ruling Request.  For purposes of convenience, I have taken the proposed transaction steps 1 through 6 from the Ruling Request and have set them out in the section of this Report entitled “THE ORIGINAL TRANSACTION AS REFLECTED IN THE RULING REQUEST.”  As indicated, these transaction steps correlate to the transaction steps set out in paragraphs (2)(a)-(e) of Exhibit 1 but for transaction step 1 in Deloitte’s Ruling Request, which I have added.  You have further instructed me to assume that the [IDR] issued its PLR.  Finally, you have instructed me to assume that the original structure envisioned that (i) SGTS would issue USD preferred stock and (ii) each of AFC and CS(A) would issue AUD ordinary shares.  In each of the hypotheticals you then present a change to the original structure set forth in the Ruling Request and ask whether, under Illinois law, the change constitutes “a pertinent change … in material facts” such that the PLR ceases to bind the [IDR].  I shall address each hypothetical separately.  I shall first, however, respond to your question concerning the types of matters which, under Illinois law, may be taken to constitute “a pertinent change in … material facts.”

Illinois Admin.  Code tit. 2, section 200.110(d), in its relevant part, provides that “[p]rivate letter rulings will cease to bind the [IDR] if there is a pertinent change in … material facts.”  The terms “pertinent change” and “material facts” are not, however, defined in the regulation.  Nor are the terms defined in any cases in which the [IDR] has attempted to argue that it was no longer bound by a Private Letter Ruling it had issued because of a “pertinent change in … material facts.”

Under Illinois law, a statutory (or regulatory) term which is not defined must be given its ordinary and popularly understood meaning.  Lake County Board of Review v. Property Tax Appeal Board, 119 Ill. 2d 419 (1998); see also, Van’s Material Co., Inc. v. Department of Revenue, 131 Ill. 2d 196 (1989) (Illinois Supreme Court’s review of a taxpayer’s application for refund of use and retailer’s occupation taxes paid on its ready-mix concrete trucks.  When required to provide a definition for the undefined term, “facility,” in the tax statute, the Illinois Supreme Court reviewed the definition of the word “facility” as provided in Webster’s New International Dictionary).

The term “pertinent” is defined to mean “relevant or applicable to a particular matter.”  The New Oxford American Dictionary, Oxford University Press, 2001.  The term “material” is defined to mean “important; essential; relevant.”  The New Oxford American Dictionary, Oxford University Press, 2001.  Black’s Law Dictionary, Seventh Edition, defines a “material fact” as “a fact that is significant or essential to the issue or matter at hand.”  On the basis of the definitions of “pertinent” and “material” found in The New Oxford American Dictionary, and the guidance provided by Black’s Law Dictionary which defines the term “material fact,” I am of the opinion that the phrase “pertinent change … in material facts” in the context of Illinois. Admin. Code tit. 2, section 200.110(d), means a change relevant or applicable to a significant or essential fact upon which the [IDR] relies in issuing a Private Letter Ruling. 

The question then is whether the proposed hypothetical changes to the original structure constitute “a pertinent change … in material facts” such that the PLR ceases to bind the [IDR]. 

In order to determine whether the proposed hypothetical changes to the original structure constitute a “pertinent change … in material facts,” it is important to first identify what I believe to be the material facts upon which the [IDR] relied in issuing its PLR.  In my view, the material facts are as follows:

…

(emphasis in the original, footnotes omitted).

6                                             The balance of the section is divided into “Hypothetical One”, “Hypothetical Two” and “Hypothetical Three”. 

GROUNDS OF OBJECTION

7                                             As noted, the Applicants initially objected to the admission of the whole of the Supplementary Expert Report.  At the hearing on 7 September 2010, the Applicants’ Counsel narrowed the objection to the following sections (the Objected Sections):

1.                  the whole of the section headed “Conclusions” on pages two and three of the Supplementary Expert Report; and

2.                  the part of the section headed “My Charge” on page 10 which commences in the penultimate paragraph extracted in [5] above through to the end of the Supplementary Expert Report except for the following paragraph that appears on page 16:

Although neither the Internal Revenue Code nor the regulations thereunder provide an objective test or set of factors for distinguishing between debt and equity for US federal income tax purposes, the courts have applied many different factors in characterizing different economic arrangements.  In O.H. Kruse Grain & Milling Co. v. Comm’r, 279 F.2d 123 (9^th Cir. 1960), the court stated that there are at least ten separate factors used by the courts in determining whether the party supplying funds is a lender or an equity participant for US federal income tax purposes, including: (i) the names of the certificates evidencing the indebtedness; (ii) the presence of a maturity date and the length of time until maturity; (iii) the source of the payment; (iv) the right to enforce the payments of principal and interest, including the adequacy of the security of the loans; (v) the opportunity to participate in the management of the entity; (vi) whether the debt is subordinated to other liabilities; (vii) the adequacy of the entity’s capitalization; (viii) the identity of the interest between the creditors and equity participants; (ix) the payment of interest only out of net income; and (x) the ability of the entity to obtain the loans from other lending institutions. 

GROUNDS OF OBJECTION

8                                             The Applicants object to receipt of the Objected Sections on two bases – (1) relevance and (2) contravention of the applicable principles for the receipt of foreign law.  I will deal with each of the grounds in turn.

APPLICABLE PRINCIPLES

Relevance

9                                             Expert evidence is an established exception to the principle that witnesses cannot give opinion evidence:  s 79 of the Evidence Act 1995 (Cth) (the Evidence Act) and Neilson v Overseas Projects Corporation of Victoria Ltd (2005) 223 CLR 331 at [119].  Of course, expert evidence is not limited to opinion evidence:  Gumana v Northern Territory (2005) 141 FCR 457 at [155] and [156].

10                                          Expert evidence will be admissible if it adequately discloses the facts and reasoning process that the expert asserts justify the opinions expressed:  Australian Securities and Investments Commission v Rich (2005) 218 ALR 764; see also Practice Note CM 7:  Expert Witnesses in Proceedings in the Federal Court of Australia para 2.5 (the Practice Note).  On the other hand, “[m]atters concerning the process by which an opinion was actually formed go to weight, not admissibility”:  Rich at [94] (emphasis added).

11                                          Counsel for the Applicants submitted that Mr Marcus’ report was not relevant to the issue before the Court, described as whether, “in resolving the foreign exchange issue that confronted the ITW [AFC Pty Ltd (ITW)] Group, ITW officers were entitled to be as risk [averse] in relation to departures from the [PLR] as they were”.  Counsel for the Applicants submitted that Mr Marcus’ opinion, as a “third party lawyer” on what constituted a pertinent material fact and about departures from the PLR, was not relevant.  Finally, the Applicants submitted that Mr Marcus’ report exposed no reasoning that would assist the Court.

12                                          Counsel for the Commissioner submitted that the evidence was relevant to a “subsidiary issue” to the ultimate question before the Court, concerning the Court’s consideration of “dominant purpose” under Pt IVA of the Income Tax Assessment Act 1936 (Cth).  The Commissioner submitted the evidence of Mr Marcus was relevant to the question of whether the Commissioner’s counterfactuals were practically available because the changes introduced by those counterfactuals did not constitute a “pertinent change … in material facts” as a matter of Illinois law (see [5] above) with the result that the PLR would continue to bind the IDR.  The Commissioner submitted that the Court would “be assisted by having an Illinois tax lawyer explain how he would approach the question” (emphasis added).  In fact, the Commissioner submitted that Mr Marcus’ evidence was that the IDR “would not regard the Commissioner’s counterfactuals as amounting to a “pertinent change … in material facts”.  On the reasoning point, the Commissioner submitted that one sees the reasoning in Mr Marcus’ report when “one looks at the report as a whole”.

Foreign Law

13                                          An expert’s ability to give an opinion on foreign law is circumscribed.  A distinction is drawn between the content of the foreign law and evidence about the application of the foreign law to the facts of the particular case:  Neilson at [119] and Allstate Life Insurance Co v Australia and New Zealand Banking Group Ltd (No 6) (1996) 64 FCR 79 at 82.  The content of the foreign law is a question of fact about which expert evidence is receivable:  Allstate at 82-83.  However, once the “content” is ascertained, the application of that foreign law is a matter upon which evidence is not receivable:  Neilson at [119].  The reference to “content” is a reference to identifying and expounding, in general terms, the scope, meaning and effect of relevant statutory and non-statutory foreign law:  Allstate at 82-83.  That position is not altered by s 80 of the Evidence Act:  Allstate at 82-83.

14                                          The position was most accurately summarised by Lindgren J in Allstate at 83 in the following terms:

It is fundamental that the ascertainment of the law relevant to a matter before a court and its proper application to the facts of the particular case are of the essence of the judicial function and duty.  Although those processes are properly the subject of submission, evidence of opinion, whether as to the identification of the relevant law or as to its proper application, is not admissible.  The rationale underlying this fundamental principle may be expressed in various closely related ways: to admit such evidence would be to permit abdication of the judicial duty and usurpation of the judicial function; such evidence cannot be allowed to be probative or to rise higher than a submission; such evidence is necessarily irrelevant.

In the case of foreign law, the only variation required to the foregoing statements is that foreign law is proved in the way in which facts are proved (this is what is meant by statements that foreign law is proved “as fact”), whereas the court is presumed to know the public laws of the State.  But foreign law remains law to be applied by the Court.  It has been said that where there is a jury, “the only sound view, either on principle or on policy, is that it should be proved to the judge, who is decidedly the more appropriate person to determine it”: Wigmore on Evidence (J H Chadbourn (ed), Little Brown and Co, 1981) vol 9, section 2558 at p 687, and authorities there cited.  Accordingly, evidence of opinion as to the proper application of foreign law to fact is not admissible.

(emphasis in the original).

15                                          It should be noted that the further distinction drawn between content and application evidence as not precluding an expert from examining in evidence how a power or discretion would be exercised by a foreign court was not said to arise here:  see Neilson at [120] – [123].  The High Court described that kind of evidence in Neilson at [122] at [123] in the following terms:

In the National Mutual Case, it was decided [(at 226)] that “[w]here the relevant rules and principles of foreign law are so framed as to confer discretions upon the courts which administer them … evidence is receivable as to the manner in which those discretions are exercised, with reference to any pattern or course of decision”.  Evidence of that kind was held not to trespass upon the function of the court of the forum to decide the effect of the application of the rules and principles of the law of the foreign jurisdiction to the particular fact and circumstances of the instant case.

In the present case, then, it was open to the parties to adduce evidence of how Art 146 is administered in the courts of China.  But this they did not do, whether by describing the matters which a Chinese court would consider relevant to that question or by pointing to any particular examples of its consideration.

ANALYSIS

16                                          With those principles in mind, I turn to consider the Objected Sections of the Supplementary Expert Report. 

17                                          First, the Objected Sections do not satisfy the requirements of the admissibility of opinion evidence as to foreign law:  Neilson at [119] citing Allstate at 83; see also Elecon Australia Pty Ltd v PIV Drives GmbH [2010] FCAFC 56 at [12] citing National Mutual Holdings Pty Ltd v The Sentry Corporation (1989) 22 FCR 209 at 226.  The Objected Sections are inadmissible for the same reason that content evidence and application evidence in relation to domestic law is not admissible, namely it is expert evidence that intrudes upon the essential judicial function and duty and is directed at one of the ultimate issues in the case:  Allstate at 84-85.  It is evidence of opinion as to the proper application of foreign law to the facts.  The Commissioner’s submissions as to the effect of Mr Marcus’ evidence makes that clear:  see [12] above.  The rejection of the Objected Sections does not imply any criticism of Mr Marcus.  He simply answered the questions he was asked to consider.

18                                          Counsel for the Commissioner submitted that the Objected Sections were admissible consistent with the decision of Einstein J in Idoport Pty Ltd v National Australia Bank Ltd (2000) 50 NSWLR 640 at [43] – [47].  I reject that submission.  In Idoport, Einstein J sought to draw a distinction between cases where the expert evidence of the application of the foreign law would impinge on the essential curial function and those where it did not:  Idoport at [43].  His Honour approached that question by ascertaining the “function to be performed by the application of foreign law” in a particular case.  He concluded that if the evidence was directed at “one of the very issues the Court had placed before it by the parties for determination”, the expert evidence was inadmissible:  Idoport at [43].  His Honour provided the following example (at [43]):

In other words, … the court was concerned with the direct application of foreign law to facts so as to determine the rights and liabilities of the parties under it and the evidence of [the expert] sought to provide an opinion which, if accepted, would dispose of that very issue.

19                                          By way of contrast, his Honour stated that if the Court was concerned with foreign law as a subsidiary fact necessary to determine the rights and liabilities of the parties under, in that case, New South Wales law, then the receipt of evidence of foreign law experts as to the effect of foreign law, where the effect of foreign law is relevant to the administration of the domestic law, is not capable of usurping the function of the Court any more than is evidence of any other fact relevant to the determination of the rights and liabilities of the parties under domestic law.  Again, his Honour provided an example (at [45]), namely:

Where in this case an expert on foreign law expresses an opinion of the effect of foreign law on the facts of this case he or she does nothing different from a properly qualified expert who expresses an opinion to the effect that a particular person was “negligent”.  … Like evidence of foreign law in a case such as the present, an opinion that a person was negligent is one fact in the factual matrix necessary to establish the rights and liabilities of the parties. ...

20                                          Finally, Einstein J concluded by stating:

Likewise, in a case such as the present, it is necessary for the court to form its own view as to the effect of foreign law on the claims made by the plaintiffs, just as it is necessary for the court to form its own view on all the facts in issue necessary to determine the case.  Expert evidence on such a question is necessary to inform the court of a matter in respect of which it is, ex hypothesi, ignorant.  If the plaintiffs lead expert evidence in reply which is contradictory of the defendants expert’s opinions, the contrast of reasoning and conclusion will allow the court to better perceive the foreign law issue and its likely solution.  Cross-examination of the expert witnesses and the testing of the views and conclusions of the experts may further aid the Court’s understanding.  But no matter how eminent the various experts whose evidence is led by the parties and no matter how cogent or convincing their reasoning is and no matter how plausible their conclusion, the court must form and act upon its own view as to the effect of foreign law.  This is also the approach of the High Court in Rogers v Whitaker [1992] HCA 58; (1992) 175 CLR 479 at 487 per Mason CJ, Brennan, Dawson, Toohey, McHugh JJ at 493 per Gaudron J.

21                                          The analysis by Einstein J does not assist the Commissioner.  It is unnecessary for me to determine whether the distinctions drawn by Einstein J can be made or should be adopted.  It is sufficient for present purposes to note that of the three types of cases identified by his Honour as raising questions of foreign law, this case falls within the first case, being one where the Court is concerned with the direct application by a domestic Court of foreign law to facts:  Idoport at [6] and [43].  Moreover, this is a case where the evidence was directed at “one of the very issues the Court had placed before it by the parties for determination”:  see [18] above.  On this basis, and for the reasons explained in Allstate and Neilson, the Objected Sections are not admissible. 

22                                          For completeness, two matters should be noted.  First, admissible evidence could have been adduced from, for example, an officer of the IDR or a retired officer of the IDR outlining the factor or factors usually or likely to be taken into account by the IDR in assessing whether there has been “a pertinent change in … material facts” and, further, an outline of some of the previous cases pointing to “any particular examples of its consideration”:  Neilson at [123] referred in to in [15] above.  That kind of evidence is admissible because it is evidence about content, not application, and does not contravene the fundamental principle which the Commissioner accepts underpins this analysis – that the evidence should not usurp the judicial function. 

23                                          Secondly, I accept the Applicants’ submission that the Objected Sections do not adequately disclose the facts and reasoning process that the expert asserts justify the opinions expressed, and on that basis too it is not admissible: see [10] above.

Order 10 Rule 1(2)(j) of the Federal Court Rules

24                                          Although I have rejected receipt of the Objected Sections as evidence, it is also necessary to consider O 10 r 1(2)(j) of the Federal Court Rules which provides:

Without prejudice to the generality of subrule (1) … the Court may –

 …

 (j)        in proceedings in which a party seeks to rely on the opinion of a person involving a subject in which the person has specialist qualifications, direct that all or part of such opinion be received by way of submission in such manner and form as the court may think fit whether or not the opinion would be admissible as evidence.

25                                          Finn J considered this rule in Randwick City Council v Minister for Environment (1998) 54 ALD 682.  Extensive parts of the affidavit of an expert witness were held to be inadmissible.  As to other parts, Finn J directed they be received by way of written submission under O 10 r 1(2)(j) of the Federal Court Rules.  In that case, the facts informing the opinions of the expert witness were in large measure unidentified.  His Honour found that the witness’ “evidence” was often no more than “advocacy”.  

26                                          Here, although the problem with the Objected Sections is different, I consider that it is open to the Commissioner to seek to rely upon the Objected Sections by way of written submission pursuant to O 10 r 1(2)(j) of the Federal Court Rules.  Put another way, there is nothing to prevent the Commissioner incorporating or adopting the analysis as part of his closing submissions.  Although the Applicants objected to the Court exercising its discretion under O 10 r 1(2)(j) on the basis that Mr Marcus’ report did not disclose any reasoning that would assist the Court, I accept the Commissioner’s submission that the Objected Sections would be of assistance to the Court in the form of a submission on a question the Court needs to decide. 

Associate:

Dated:         8 September 2010