The Federal Court of Australia has allowed the taxpayer’s appeal in Australian Building Systems Pty Ltd v FCT [2014] FCA 116. The appeal concerned the operation of s 254 of the Income Tax Assessment Act 1936, which requires trustees and agents to retain out of money which comes to them so much as is necessary to pay “tax which is or will become due” in respect of income, profits and gains derived by them in their representative capacity.

In allowing the appeal, the Court held that s 254 did not apply to oblige the liquidators of the taxpayer company to retain for the payment of tax a portion of the proceeds from the sale of land owned by the company in circumstances where no assessment had been issued to the taxpayer.

Background

Following their appointment, the liquidators of the taxpayer company sold land owned by the taxpayer which was subject to the capital gains tax provisions. The liquidators sought a private ruling from the Commissioner of Taxation as to whether s 254 required them to retain from the proceeds of sale an amount of money sufficient to pay, in priority to the taxpayer’s other creditors, any tax which might become payable by the taxpayer in relation to the sale, notwithstanding that no assessment had then been issued. The ruling was important to the liquidators because s 254 makes trustees and agents personally liable in respect of any amount which they have retained or should have retained but have not done so.

The Commissioner issued a private ruling to the taxpayer stating that s 254 did apply to require the liquidators to retain from the proceeds of sale an amount of money sufficient to pay any tax which might become payable by the taxpayer in relation to the sale. The taxpayer sought to challenge the Commissioner’s ruling on the basis that s 254 could have no application where no assessment had been issued and, in any case, it did not operate to create a priority in favour of the Commissioner as against other creditors. The liquidators sought a declaration to the same effect.

Does s 254 apply before an assessment has issued?

In allowing the taxpayer’s appeal, Justice Logan held that, in the absence of an assessment, the liquidators did not have an obligation under s 254 to retain from the proceeds of sale an amount of money sufficient to pay any tax which might become payable. His Honour followed the decision of the High Court of Australia in Bluebottle UK Ltd v Deputy Commissioner of Taxation (2007) 232 CLR 598. That case concerned the operation of s 255 of the ITAA 1936, which requires a person issued with a notice under that section to pay any tax “which is or will become due” by a non resident if the person has the receipt, control or disposal of money belonging to the non-resident. The High Court decided that the phrase “tax which is or will become due” must be read as referring to an ascertained sum, and that in the context of s 255 it means an amount that has been assessed to the non resident but that may not yet have become payable. By analogy to Bluebottle, Justice Logan held that, in circumstances where no assessment had been issued to the taxpayer, the liquidators were not subject to the retention and payment obligations of s 254.

Does s 254 create a priority in favour of the Commissioner?

One question which Justice Logan did not decide, as it was unnecessary for him to do so, was whether s 254 provides the Commissioner with a priority that overrides the provisions of theCorporations Act 2001. Various amendments to Australian corporate law have resulted in the general removal of any priority for the payment of tax liabilities in the winding up of a company. The provisions of the Corporations Act (ss 501, 555 and 556) provide that the Commissioner shall share in any distribution on a pari passu basis with other unsecured creditors. However, there is a longstanding and as yet unresolved issue as to whether s 254 alters this position, such that the Commissioner enjoys a priority notwithstanding what would otherwise be the effect of the provisions of the Corporations Act in a winding up.

Justice Logan noted that this issue may become the subject of a future controversy between the parties if and when an assessment is issued. If the judgment were to go on appeal and the Full Court did not reach the same conclusion as Justice Logan as to the meaning in s 254 of the words “tax which… will become due,” the Full Court may also find it necessary to consider this issue.

Is s 254 constitutional?

The taxpayer also contended that s 254 was unconstitutional because it imposed an incontestable tax. This argument was briefly dismissed. His Honour held that s 254 does not impose a tax at all. It is solely a provision in the aid of tax collection.

Significance

The case has significant practical implications for liquidators and receivers insofar as it confirms that the retention and payment obligations under s 254 only arise once an assessment has been issued. The decision is also inconsistent with the Commissioner’s draft tax determinations TD 2012/D6 and TD 2012/D7, which were released after the Commissioner disallowed the taxpayer’s objection. While there is a presumption that where words are used consistently in legislation they should be given the same meaning, the draft determinations contend that the reasoning in Bluebottle is limited to s 255 and does not extend to s 254. The draft determinations take this position because, in Bluebottle, the High Court drew a number of distinctions between s 255 and s 52(e) of the Income Tax Assessment Act 1915 (the predecessor to s 254) and observed that the context of s 52(e) was “radically different” to that of s 255. Given its inconsistency with the Commissioner’s draft determinations, the judgment is likely to be appealed. 

At a practical level, the Commissioner may also seek to overcome the effect of the Court’s decision by issuing companies in liquidation or receivership with special assessments following the sale of significant assets. The issue of a special assessment would enliven a liquidator’s or receiver’s obligations under s 254.

The case is also noteworthy for comments made by Justice Logan in the course of his judgment. Notwithstanding the conclusion, his Honour remarked that a prudent liquidator would at the very least be entitled to retain the gain (or a portion of it) until the tax position in respect of the income year had become certain, upon the Commissioner issuing an assessment or providing other advice. His Honour said:

“… in relation to income tax, the liquidator would at the very least be entitled to retain the gain until the income tax position in respect of the tax year in which the CGT event had occurred had become certain by the issuing of an assessment or other advice from the Commissioner that, for example, no tax was payable in respect of that income year…”

It is perhaps unlikely that his Honour’s observations as to the actions of a “prudent liquidator” will cause a break with the current practice of liquidators. A liquidator is unlikely to make a final distribution to unsecured creditors when the extent of the company’s liabilities remains uncertain. His Honour’s remarks also appear to be confined to payments to unsecured creditors and should not, in the absence of an assessment, be read as suggesting that liquidators must defer distributions to secured creditors until after an assessment has been issued.

Clearance obligations

In addition to their obligations under s 254, liquidators and receivers should be aware of their obligations under Division 260 of Schedule 1 of the Taxation Administration Act 1953. Under Division 260, liquidators and receivers are unable to part with any assets available for unsecured creditors before first receiving a clearance notice from the Commissioner notifying the amount which the Commissioner considers is sufficient to discharge any “outstanding tax-related liabilities.” Once a clearance notice is received, the liquidator or receiver is required to retain a proportion of the assets available to meet unsecured creditors in accordance with a statutory formula. Failure to comply with the clearance provisions may result in personal liability being imposed on the liquidator or receiver to the extent of the value of any assets which were required to be set aside. Because Division 260 only applies to pre-appointment tax liabilities, liquidators and receivers can be subject to the retention and payment obligations under s 254 even after the Commissioner has issued a clearance notice.