FEDERAL COURT OF AUSTRALIA

Krok v Commissioner of Taxation [2015] FCA 51

THE COURT ORDERS THAT:

1.    The parties confer and file and serve proposed minutes of order reflecting these reasons within 14 days of the date of these reasons. In the event that the parties are unable to agree, the parties should have the matter listed for directions as soon as possible.

Note:    Entry of orders is dealt with in Rule 39.32 of the Federal Court Rules 2011.

THE COURT ORDERS THAT:

1.    The parties confer and file and serve proposed minutes of order reflecting these reasons within 14 days of the date of these reasons. In the event that the parties are unable to agree, the parties should have the matter listed for directions as soon as possible.

Note:    Entry of orders is dealt with in Rule 39.32 of the Federal Court Rules 2011.

REASONS FOR JUDGMENT

1    In these proceedings Mr Mark Krok has appealed, pursuant to Part IVC of the Taxation Administration Act 1953 (Cth) (TA Act 1953), against decisions of the Commissioner of Taxation (Commissioner) to disallow objections to notices of amended assessments of income tax for the financial years ended 30 June 2004 to 30 June 2009 inclusive. Both the Commissioner and Mr Krok have filed Appeal Statements and Mr Krok has filed a number of affidavits which he proposes to rely on in support of his appeal.

2    An issue has arisen in relation to pre-trial discovery. The Commissioner has sought discovery of certain categories of documents. Mr Krok opposes discovery of some of the proposed categories on the basis that he will be required to produce for inspection documents which he claims are the subject of legal professional privilege. The Commissioner does not dispute that, on the face of it, documents caught by these categories would attract legal professional privilege. He maintains, however, that the documents are nonetheless discoverable because the privilege otherwise attaching to them has been impliedly waived by Mr Krok. It would appear from a draft list of documents that has been prepared on behalf of Mr Krok that the contested privilege claim concerns four documents.

3    The issue for resolution in this interlocutory dispute is whether by his actions Mr Krok has waived the privilege that would otherwise subsist in documents that fall within the disputed discovery categories.

4    For the reasons that follow, there has been a waiver of privilege and Mr Krok should be required to discover documents falling within the disputed categories.

Background

5    It is necessary to provide some brief factual background to the proceedings.

6    Until 19 April 2002, Mr Krok was a resident of South Africa. On that day he immigrated to Australia. He arrived in Australia on 24 April 2002.

7    Between the time he left South Africa and the time he entered Australia, Mr Krok entered into a number of agreements which had (or in the Commissioner’s case, purported to have) the effect of selling certain assets, and Mr Krok’s interest in income derived in respect of those assets, to Polperro Enterprises SA (Polperro). Polperro was a company incorporated in the British Virgin Islands. The shares in Polperro were, at least initially, wholly owned by the Polperro Foundation, a “stiftung” established in Liechtenstein. Mr Krok came to be appointed the “first beneficiary” of the Polperro Foundation.

8    The consideration payable by Polperro under the sale agreements was about 69 million South African Rand. Polperro did not pay this money to Mr Krok. Rather, the amount payable was treated as an unsecured interest-free loan owed by Polperro to Mr Krok. By deed of assignment entered into on the same day as the sale agreements, Mr Krok assigned the benefit of the amounts owed to him to a trust, the Judcour Trust, for no consideration. Mr Krok and his children were the beneficiaries of the Judcour Trust. Mr Krok was also the director, secretary and shareholder of the trustee of the Judcour Trust, Judcour Pty Ltd.

9    On 15 December 2008, Mr Krok emigrated from Australia and took up residence in the United Kingdom. In the days immediately before and after Mr Krok’s departure from Australia, a number of transactions occurred which had the effect of terminating or unwinding the arrangements or structures previously put in place or established concerning Polperro and the Judcour Trust. On 12 December 2008, the capital of the Judcour Trust, being the loan owed by Polperro, was distributed to Mr Krok and the Judcour Trust was terminated. On the same day, Mr Krok, as sole director and shareholder of Judcour Pty Ltd, resolved to wind up Judcour Pty Ltd. On 16 December 2008, the two shares in Polperro previously held by the Polperro Foundation were appointed to Mr Krok. The following day, Mr Krok, as sole shareholder of Polperro, resolved to wind up Polperro. The liquidator of Polperro subsequently resolved to distribute all the assets of the company to Mr Krok.

10    The dispute between the Commissioner and Mr Krok concerns income (and capital gains) derived from the assets the subject of the transactions and agreements between Mr Krok and Polperro during the tax periods when Mr Krok was a tax resident of Australia. The Commissioner assessed Mr Krok on the basis that this income was derived by Mr Krok. The Commissioner contends that the agreements or arrangements between Mr Krok and Polperro were shams or façades which disguised the fact that Mr Krok at all times retained a beneficial interest in the assets purportedly transferred to Polperro. Alternatively, the Commissioner contends that the arrangements and agreements involving Mr Krok, Polperro and the Judcour Trust constituted a scheme to which Part IVA of the Income Tax Assessment Act 1936 (Cth) (ITA Act 1936) applied and in respect of which Mr Krok obtained, and intended to obtain, a tax benefit.

11    Mr Krok contends, on the other hand, that he derived no income or capital gains from the relevant assets whilst he was tax resident of Australia because the assets were beneficially owned at the time by Polperro. He maintains that the transactions and agreements that transferred the assets to Polperro were legally effective, were not shams, and that there was no scheme for the purposes of Part IVA of the ITA Act 1936. Nor did he derive, or intend to derive, any tax benefit from any such scheme.

The disputed categories of documents

12    There are three disputed categories of documents. They each relate, in one way or another, to legal advice given by three solicitors in relation to the structures put in place in 2002 when Mr Krok immigrated to Australia and the steps taken in 2008 in relation to the structures when Mr Krok emigrated from Australia to the United Kingdom. The categories are described by reference to parts of affidavits that have been filed by Mr Krok in the proceedings. It is necessary to set out the relevant parts of the affidavits in full, both to understand the categories of documents sought and the Commissioner’s arguments concerning implied waiver.

Category One

13    The first disputed category is in the following terms:

The documents recording the advices given by Mr Stein or Werksmans referred to in paragraphs 9, 11 and 12 of the affidavit of C. Stein.

14    Mr Stein is a South African attorney. Between 2000 and 2006 he was a partner of South African law firm, Werksmans Incorporated Attorneys (Werksmans). Mr Krok was a client of Werksmans. Mr Stein’s advice was sought at the time of Mr Krok’s immigration to Australia in 2002. In his affidavit filed by Mr Krok in these proceedings, Mr Stein says that his advice was sought for two main reasons: first, to maximise the amounts that would be capable of being remitted out of South Africa upon Mr Krok becoming a non-resident of South Africa; and second, to consider the tax implications, including the Australian tax implications, of any arrangements put in place upon Mr Krok’s immigration.

15    Paragraphs 9 to 12 of Mr Stein’s affidavit are as follows:

9    After taking the various tax, exchange control and other legal considerations into account, I advised, inter alia, that the assets held in the South African trust which was constituted for the benefit of Mark and his descendants should be distributed by such trust in specie to Mark in his personal capacity prior to him ceasing to be a South African resident for both South African tax and exchange control purposes. One of the main reasons for this advice was that, with effect from October 2001, South Africa introduced a tax on capital gains for the first time, the effect of which was to generally exempt a non-resident of South Africa from that tax (except for gains realised on the disposal of real estate investments) but to subject capital gains realised by a South African trust to tax at an effective rate of approximately 20% of the capital gain.

10    In preparation for Mark’s emigration I, together with the other Werksmans attorneys assisting Mark, decided that it was advisable to obtain advice from an Australian solicitor to ascertain, inter alia, the impact of this proposal on his Australian tax position and to ensure that his affairs were efficiently structured from an Australian tax perspective. Contact was made with Julian Block in order procure the necessary advice.

11    Based upon my experience and knowledge, and the advice given to Werksmans by Mr Block, the following structure was proposed (“the Structure”) –

11.1    a Liechtenstein foundation would be established which would be the sole owner of a British Virgin Islands company;

11.2    before leaving South Africa, all or the major portion of the assets of Mark's trusts would be distributed to Mark in specie;

11.3    Mark would, after leaving South Africa but before arriving in Australia, sell all of his rights to both the income and capital of his assets to the British Virgin Islands company. However, in order to remain in compliance with South African exchange control regulations the transfer of his assets into the name of the British Virgin Islands company could not take effect without the prior consent of the South African exchange control authorities;

11.4    the purchase price payable for the assets would remain owing to Mark as an interest-free loan; and

11.5    Mark would then assign his right to repayment of the above loan to an Australian discretionary trust of which he would be the sole discretionary beneficiary.

12    In formulating the advice that Werksmans gave to Mark I was conscious that any agreement pursuant to which Mark sold his rights to the income and/or capital of his South African assets should not breach the applicable South African exchange control restrictions. To achieve this we advised that it was necessary for Mark to have physically left South Africa before signing the sale agreements referred to in 11.3 above so as to ensure that South African exchange control regulations were not breached since a South African resident could not transfer his South African assets to a non-resident without the approval of the South African exchange control authorities. I recall that Mark attended at least one meeting at Werksmans where the essential features of the Structure and the steps required to be taken by Mark were discussed.

Category Two

16    The second disputed category of documents is in the following terms:

The advice of Mr Block referred to in paragraphs 11 and 13 of the affidavit of Mr Stein and 6.2 of Mr Durham.

17    Paragraph 11 of Mr Stein’s affidavit has already been referred to. Paragraph 13 is as follows:

13    I believe that the advice that was received by me from Mr Block would have been made available to Archie so that he and the other trustees of Mark’s South African trust could react accordingly. In addition, the advice received by me would have been made available to Tom Theron in his capacity as accountant for the Abraham Krok family. As Archie and Tom both played an integral part in the management of the financial affairs of the family, I left it to them to pass on to Mark or others whatever further information needed to be passed on. I do not recall having personally forwarded any advice to Mark himself.

18    Mr Durham is also a South African attorney. He was a former partner of Werksmans and previously acted for the Krok family. At the time of Mr Krok’s immigration to Australia in 2002, Mr Durham worked for a company in Guernsey in the Channel Islands which provided trust and corporate administration services.

19    Paragraph 6 of Mr Durham’s affidavit is as follows:

6    My recollection of events in early 2002, at the time of Mark's emigration, is as follows –

6.1    In or about March or April 2002 I was contacted by one or more of the Werksmans partners acting in the matter at the time to inform me of Mark’s proposed emigration and to request my assistance in establishing an offshore structure. My recollection is that the initial contact was in the form of a conference call involving more than one person, and I believe the persons involved in the initial call were Archie Aaron and Carl Stein. I believe that subsequent to this call I dealt mainly with Angela Simpson of Werksmans in relation to the arrangements to be made on behalf of Mark but that Carl Stein and Archie Aaron were also involved;

6.2    I remember being told in the initial call referred to above that:

6.2.1    Mark was emigrating from South Africa to Australia, that his relocation was imminent and that there was a degree of time pressure associated with it;

6.2.2    legal advice had been received from an Australian lawyer, Julian Block, in connection with the structure;

6.2.3    Mr Block’s advice was to the following effect: a structure should be created consisting of a Liechtenstein foundation, which would be the owner of a British Virgin Island company. Mark would sell his rights to his South African “blocked” assets, to the British Virgin Island company at fair value, and the price would remain a debt due to Mark;

6.2.4    Mark’s assets were currently held in a Trust in his name, and that for exchange control and South African capital gains tax reasons Mark and the trustees of his trust had been advised by Werksmans that the assets of that trust should be distributed to Mark at the time of his emigration from South Africa.

Category Three

20    The third disputed category of documents is as follows:

The advice of Mr Durham referred to in paragraph 22 of his affidavit.

21    Paragraph 22 of Mr Durham’s affidavit relates to the “unwinding” of the structures in 2008:

22    Because there had been changes in the taxation and residence laws of the United Kingdom at around that time, I sought the assistance of another firm of lawyers, MacFarlanes, who had expertise in this field. On the basis of their advice and my own knowledge, I advised Mark that:

22.1    it was advisable that the Polperro structure be terminated as it would no longer be of much benefit to Mark from a United Kingdom tax perspective, once he became a resident of the United Kingdom;

22.2    for this purpose, it would be preferable for the Stonehage group to take over the administration of that structure from Equity Trust as Stonehage had experience of the steps needed to achieve this termination and would be working with me as a lawyer employed by the Stonehage group, and to that end Mark should request that the BVI company make this change;

22.3    the outstanding debt of the BVI company to the Australian Trust should be assigned to Mark at which stage Mark would be its only creditor;

22.4    Stonehage should oversee the following steps, to be taken by the controllers of the Polperro Foundation and directors of the BVI company at Mark’s request:

22.4.1    The Polperro Foundation would distribute the shares of the BVI company to Mark after he left Australia at which stage Mark would be the only shareholder in the BVI company;

22.4.2    The BVI company would be liquidated;

22.4.3    The BVI company’s interest in the agreements concluded in April 2002 for the sale of assets and income would be distributed to Mark as a consequence of the liquidation, bringing these agreements to an end.

Implied waiver - relevant principles

22    In Mann v Carnell (1999) 201 CLR 1 at [29], the principle of implied waiver was put by the majority of the High Court in the following terms:

Waiver may be expressed or implied. Disputes as to implied waiver usually arise from the need to decide whether particular conduct is inconsistent with the maintenance of the confidentiality which the privilege is intended to protect… What brings about the waiver is inconsistency, which the courts, where necessary informed by considerations of fairness, perceive, between the conduct of the client and maintenance of the confidentiality; not some overriding principle of fairness operating at large.

23    In DSE (Holdings) Pty Ltd v Intertan Inc (2003) 127 FCR 499 at [58] Allsop J (as his Honour the Chief Justice then was) said that an implied waiver will arise where:

… the party entitled to the privilege makes an assertion (express or implied), or brings a case, which is either about the contents of the confidential communication or which necessarily lays open the confidential communication to scrutiny and, by such conduct, an inconsistency arises between the act and the maintenance of the confidence, informed partly by the forensic unfairness of allowing the claim to proceed without disclosure of the communication.

24    This statement of principle was approved by the Full Court in Commissioner of Taxation v Rio Tinto Ltd (2006) 151 FCR 341 (Rio Tinto) at [61]. In that case, the Full Court put the governing principle in the following terms (at [52]):

These authorities show that, where issue or implied waiver is made out, the privilege holder has expressly or impliedly made an assertion about the contents of an otherwise privileged communication for the purpose of mounting a case or substantiating a defence. Where the privilege holder has put the contents of the otherwise privileged communication in issue, such an act can be regarded as inconsistent with the confidentiality that would otherwise pertain to the communication.

25    Disclosure of the conclusion, gist, substance or effect of legal advice does not necessarily give rise to a waiver of privilege in respect of the whole advice. Whether it does or not in a particular case depends on whether, in the particular context and circumstances of the case, the requisite inconsistency exists between the partial disclosure, on the one hand, and the maintenance of confidentiality in the whole advice on the other: Secretary, Department of Justice v Osland (2007) 26 VAR 425 (Secretary, Department of Justice v Osland) at [49]; approved and upheld by the High Court in Osland v Secretary, Department of Justice (2008) 234 CLR 275 (Osland v Secretary, Department of Justice) at [44]-[50]. The relevant context and circumstances in this respect may include the evident purpose of the disclosure and the legal and practical consequences of limited rather than complete disclosure: Secretary, Department of Justice v Osland at [63]; Osland v Secretary, Department of Justice at [46].

26    Where a party to litigation discloses or deploys a partial disclosure of legal advice in order to achieve some forensic advantage, while claiming privilege and thereby seeking to deny the other party an opportunity to see the full text of the communication, this may amount to conduct inconsistent with the maintenance of privilege: Secretary, Department of Justice v Osland at [67]; Osland v Secretary, Department of Justice at [35]: British American Tobacco Australia Ltd v Secretary, Department of Health and Ageing (2011) 195 FCR 123 (British American Tobacco) at [46]-[47]. That is no doubt, at least in part, because the judgment as to inconsistency is to be made not only in the context and circumstances of the case, but also in light of any considerations of fairness arising from the context and circumstances: Osland v Secretary, Department of Justice at [45].

27    Questions of waiver are matters of fact and degree: Nine Films and Television Pty Ltd v Ninox Television Ltd (2005) 65 IPR 442. Each case will turn on its own facts and circumstances and other cases in which implied waiver has been considered provide limited guidance unless they arise out of similar facts: Rio Tinto at [45].

Has there been an implied waiver by Mr Krok?

28    Mr Krok acknowledges that there has been a partial disclosure of the gist of the advice given by each of the lawyers who advised him, Messrs Stein, Block and Durham. That partial disclosure is made in affidavits sworn by Messrs Stein and Durham which have been filed by Mr Krok in support of his taxation appeals. Mr Krok does not suggest that he will not rely on these parts of the affidavits at the hearing of his appeals. Mr Krok maintains, however, that the disclosure is not relevantly inconsistent with the maintenance of the confidentiality of the otherwise privileged communications which record the advice.

29    Critical to Mr Krok’s arguments in this regard is his contention that all that has been disclosed in the affidavits is that, as a result of the input of various lawyers, Mr Krok was advised to establish certain structures. Mr Krok then acted in accordance with that advice, again with the assistance of his lawyers.

30    Mr Krok submits that neither the reasoning behind the advice, nor the purpose of the advice, has been disclosed. As a result, he submits, the only matter laid open to scrutiny is the “process” followed by Mr Krok; that is, that he was following legal advice when he entered into the agreements and arrangements that established the structures. The process undertaken is said to be relevant because Mr Krok’s intention is in issue in relation to the Commissioner’s contention that the relevant arrangements were a sham or a façade. Mr Krok submits that no taxpayer who has acted on legal advice could sensibly respond to an allegation of sham without disclosing that fact.

31    There are a number of difficulties with these contentions and submissions.

32    It is not correct that all that is disclosed in the affidavits is that Mr Krok received legal advice to implement or put in place structures and that he acted in accordance with that advice. Indeed, a fair reading of the relevant paragraphs of the affidavits reveals that there has been a disclosure, most likely only a partial disclosure, of the purpose and reasoning behind some aspects of the advice concerning the structures.

33    The affidavits reveal that the purposes for which the legal advice was sought and provided to Mr Krok included dealing with South Africa’s exchange controls and, more critically for present purposes, dealing with the “tax efficiency” of the structures and Mr Krok’s “tax position” both in South Africa and Australia: see in particular Mr Stein’s affidavit at paragraphs 7, 8, 9 and 10 and Mr Durham’s affidavit at paragraphs 6 and 8. Indeed, the advice of Mr Block, an Australian tax solicitor, was specifically sought in relation to the Australian tax position: see in particular paragraph 10 of Mr Stein’s affidavit. Whilst it may be the case, as Mr Krok submits, that Mr Block’s advice was not provided directly by Mr Block to Mr Krok, it may be inferred (in particular from paragraph 13 of Mr Stein’s affidavit) that the substance of it was in due course provided to Mr Krok. In any event, Mr Block’s advice was provided to and utilised by Mr Krok’s other advisers for the purpose of advising Mr Krok in relation to the structures that should be established.

34    Mr Durham’s advice concerning the unwinding of the structures in 2008 also clearly had, on Mr Durham’s evidence, the purpose of dealing with tax implications upon Mr Krok’s emigration from Australia to the United Kingdom.

35    A good deal of the reasoning behind the structural advice is also disclosed in the affidavits, though again, this may be, and most likely is, only a partial disclosure. For example, various aspects of the nature and timing of the structure are said to have been necessary to comply with South Africa’s exchange control restrictions.

36    The precise relevance of the evidence in the affidavits filed by Mr Krok concerning the legal advice provided to him is not entirely clear at this stage. That is an issue that falls for consideration and determination at the hearing of the appeal. It may readily be inferred, however, that it will be contended by Mr Krok that evidence of the advice provided to Mr Krok is relevant to his state of mind and intention in entering into (and subsequently unwinding) the various agreements and arrangements involving Polperro. Mr Krok’s state of mind and intention at the time of entering into these arrangements is in turn relevant to the issue whether the arrangements were a mere sham or façade and the issue whether (if the arrangements are found to constitute a scheme) Mr Krok’s purpose in carrying out the scheme was to obtain a tax benefit.

37    More fundamentally, it may be readily inferred that Mr Krok’s purpose in disclosing the gist, substance or effect of the advice was, and is, to advance his case in his taxation appeals. It may therefore readily be concluded that Mr Krok’s purpose in “deploying” a partial disclosure of the advice was, and is, to secure a forensic advantage in the proceedings. In these circumstances it would be unfair to deny the Commissioner an opportunity to see the full text of the otherwise privileged communications.

38    The unfairness is manifest. Whilst Mr Krok seeks to deploy the partially disclosed advice to support his case that the arrangements were not a sham and were not for the purpose of securing a tax advantage, the Commissioner is effectively denied the opportunity to scrutinize the advice and test whether what has been disclosed is accurate and complete. The partial disclosure of the advice has, in other words, necessarily put in issue and laid open to scrutiny the confidential communications.

39    The context and circumstances of the disclosure in this case are far removed from the context and circumstances in cases such as Osland v Secretary, Department of Justice and British American Tobacco; see too College of Law Limited v Australian National University [2013] FCA 492. In those cases, the relevant disclosures had nothing to do with use in pending litigation and the purpose of the disclosures had nothing to do with securing an advantage for the disclosing party.

40    Contrary to Mr Krok’s submissions, it also matters not that it is the Commissioner who first raised the issues of sham and tax schemes. Mr Krok commenced the appeal proceedings and he bears the onus of proving that the Commissioner’s assessments are excessive: s 14ZZO of the TA Act. Mr Krok was not in any sense compelled to partially disclose the legal advice he received for the purposes of the proceedings. In any event, an implied waiver may arise in circumstances where the disclosure was made for the purposes of mounting a defence: Rio Tinto at [52].

41    In all the circumstances, the partial disclosure of the advice provided to Mr Krok, or the disclosure of the gist, substance or effect of it, is inconsistent with the confidentiality that would otherwise attach to the communications recording the advice. The privilege that would otherwise attach to these communications has accordingly been waived.

Disposition

42    This interlocutory dispute concerns the categories of documents that Mr Krok is required to discover. In effect, the matter before the Court amounts to an application by the Commissioner that three disputed categories of documents should be discovered. The Commissioner did not, however, file any interlocutory application or motion. Nonetheless, for the reasons that have been given, Mr Krok should be required to discover documents that fall within the three disputed categories.

43    The parties are directed to confer and file and serve proposed minutes of order reflecting these reasons within 14 days of the date of these reasons. In the event that the parties are unable to agree, the parties should have the matter listed for directions as soon as possible.

Associate:

Dated:    6 February 2015