Taxation Law – Case Study Analysis

Is the annual payment income?

Issues: 

The current issue is based on determining whether the annual payment that is received by the taxpayer constitute ordinary income under the ordinary concepts of “section 6-5, ITAA 1997”.

Laws: 

The taxable income is subjected to income tax since it is added to the taxable income. The conception of ordinary income is generally derived from the case law approach and has been developed over the years (Edmonds 2018). The ordinary income is taken into the consideration as the taxpayers taxable income under “section 6-5, ITAA 1997”. The taxable income of the taxpayer comprises of the income in accordance with the ordinary income which is usually known as the ordinary income.

Ordinary income is generally characterised as the receipt that is periodic having regularity and recurrence of receipt. The receipt is associated with the revenue generating activities. “Section 6-5 of the ITAA 1997” explains ordinary income as the income which is based on the ordinary concepts (Burton 2017). Gains require the characterisation by the court of law in ascertaining whether it has the character of income and within the ordinary concept of “section 6-5 of the ITAA 1997”. The court of law in “Scott v Commissioner of Taxation (1935)” interpreted that income should be ascertained based on the ordinary concepts of mankind.

 A receipt cannot be characterised as the ordinary income unless it meets the prerequisites such as whether it can be convertible to cash or it is a real gain to the taxpayer. On finding that both the prerequisites of income has been satisfied then the gain will be treated as the ordinary income given it reflects the adequate characteristics of income such as regular or periodic receipts (Peiro. and Smyth 2017). As general rule gains are treated as the ordinary income when it is received periodically or regularly rather than receiving it as the lump sum. The court of law in “Blake v FC of T (1984)” regular receipts are treated as income in nature.

For a taxpayer an item of income has the character of gain unless it comes home. The court of law in “McNeil v FC of T (2007)” held that the character of income must be determined under the circumstances of its derivation by the taxpayer and without paying regard to the character it may have had given it has been derived by some other person (Jones 2017). The court in “Hochstrassser v Mayes (1960)” held its opinion by stating that in order to have the character of income the item should be gain by the taxpayer that derives it.

Computation of Taxable Income

A gain that is in the form of number derived periodically possess the character of income since it involves recurrence regularity and periodicity. The taxation commissioner in “FC of T v Dixon (1952)” held that the periodic receipts possess the character of income stream (Buchanan and Consett 2016). This means that the amount of money is paid periodically or at least yearly. The nature of the receipts should be ascertained with respect to all the necessary factors together with the quality in the recipient’s hands.

The present evidences gained from the case suggest that lotteries commission carry out instantaneous lottery where the winner is provided $50,000 for every year up to time period of 20 years. The first $50,000 is paid to the winner soon when the winner is notified and the amounts are payable following the first annual payment. In case of death the commission pays the deceased estate with the outstanding amount.

With respect to the “S 6-5, ITAA 1997” the sum from the lottery can be considered as the income based on the ordinary meaning (Brydges and Yuen 2018). With reference to “Scott v Commissioner of Taxation (1935)” the receipt of $50,000 has satisfied both the prerequisites of income and the amount constitute gain which will be treated as the ordinary income.

The sum of $50,000 constitute an item of gain that comes home to the taxpayer. Citing the judgement of court in “Hochstrassser v Mayes (1960)” the sum of $50,000 has the character of income and constitute gain for the taxpayer that derives it (Pinto and Evans 2018). The sum of $50,000 is derived periodically each year and possess the character of income since it involves recurrence regularity and periodicity for a period of 20 years. Therefore, with reference to “FC of T v Dixon (1952)” the sum of $50,000 is a yearly payment and possess the character of income stream.

Conclusion: 

On arriving at the conclusion yearly payment of $50,000 is an income. The amount will be held taxable under the ordinary concepts of “section 6-5 of the ITAA 1997”.

Computation of Taxable Income
In the books of Corner Pharmacy
For the year ended 2018
Particulars	Amount ($)	Amount ($)
Assessable Income
Cash Sales		3,00,000
Credit Card Sales		1,50,000
Credit Card Reimbursements		1,60,000
Receipts from PBS
Opening Balance	25,000
Add: Billings	2,00,000
Less: Closing Balance	30000	1,95,000
Total Gross Income		8,05,000
Expenses eligible as deduction:
Salaries	60000
Rent	50000
Cost of goods sold {(Opening stock + purchases) – Closing stock}	450000
Total Allowable Deductions		560000
Total Taxable Income		2,45,000

3: 

IRC v Duke of Westminster [1936]

In “IRC v Duke of Westminster [1936]” the duke of Westminster executed the deed of covalent with the help of his servants together with the domestic helpers, gardeners etc. The Duke in the specific deed of covenant promised his servants to pay some amount of money for their services (Black 2017). The Duke sent the servants with a written letter which stated that the Duke would be paying them with remunerations along with sum additional amount as the payment relating to the services that is rendered as the domestic helpers. The duke made an attempt of claiming the amount as the tax deduction in the form of arrangement of tax avoidance.

What principle was established in IRC v Duke of Westminster [1936] AC 1?

The principle that was established in the case of Duke was at heart of tax avoidance which is better known as the Westminster principle. It is understood from the decision that the individual taxpayers and the corporations are allowed to structure their financial arrangements in a manner that they are able to reduce their tax liability as long as they are inside the four corners of term law (Van Niekerk 2016). The principle stated that a seemingly purposive construction process of unravelling the actual nature of the transaction was entered into with the single intention of avoiding legitimate tax liability. The principle established developed as the rising common practice of self-cancelling transactions that was entered into with no lawful effect except to alter the apparent nature of the certain loss, gains or appropriation.

In the present case of “IRC v Duke of Westminster [1936]” the pay can be only considered as the allowable deductions if the payment was annual in nature to the gardeners and servants (Woellner et al. 2016). The Duke can only be allowed to claim income tax relief relating to the annual payment or the amount that is paid as the service rendered during that specific year. The case of “IRC v Duke of Westminster [1936]” suggest that tax avoidance can be permitted as long as it adheres with the established statute law (Barkoczy 2016). In the present case of Duke the basic principle of format of deed of covalent can help in lowering the tax liability if it is approved and only made claims for one year of annual payment that was made.

The relevancy of the principle established in the case of “IRC v Duke of Westminster [1936]” is viewed as the instance of tax avoidance. In the present day, the government of Australia has made an extensive effort in lowering the gap involved in taxation (Tan, Braithwaite and Reinhart 2016). As stated before the government of Australia has increased its revenue with the help of tax collection with individual taxpayer making planning for tax-avoidance so that they can pay lower amount of tax. In the present age, the principles of tax avoidance in Australia can be seen as avoiding an individual’s duty towards the society.    

Issue: 

Will the taxpayer be entitled to borne the entire amount of loss originating from the co-ownership of the rental property for income tax purpose?

According to the “taxation ruling of TR 93/32” a direction has been provided to the taxpayer relating to the income tax consequences of the rental property originating from the division of net income and loss among the co-owners of the property (Middleton 2015). The taxation ruling of TR 93/32 lay down the explanation based on which the taxation authority would accept relating to the income tax purpose the division of net income or the losses among the co-owners of the rental property for the income tax purpose.

How is this loss allocated for tax purposes?

According to the “taxation ruling of TR 93/32” the co-ownership of the rental property refers to the partnership for the income tax purpose but does not constitute partnership under the general law unless it is noticed that the co-ownership give rise to the carrying of the business activity (McGregor-Lowndes 2016). As it is evident that the co-owners of the rental property are usually not treated as the partners based on the general law, a partnership agreement irrespective of oral or writing does not possess any effect on the share of income or loss from the rental property.

As stated under the “taxation ruling of TR 93/32”, the ownership conveys an entitlement to use the maximum lawful permitted rights that is owned by the owners (Davison, Monotti and Wiseman 2015). The co-owners of the rental property would normally hold the property as the joint tenants or the tenants in common. These tenancies are additionally classified as the interest of the co-owners. A noteworthy feature of the joint tenancy and tenancy in common represents the lawful interest of the tenant. In other words, it is legal interest that ultimately determines, amid the co-owners of the property the division of net income or the losses originating from the rental property.

The co-owners of the rental property that are the joint tenants of the property would hold the property similar to their lawful interest in the property (Saad 2014). The interest of the co-owners should be in the similar extent, nature and duration where each of the owners would be entitled to 50% of the share in the rental property, given the other requisite features such as joint tenants of the property are present.

As the general proposition, it is very correct to define the rental property owners in the case McDonald’s as the co-owners for investment purpose instead of partners in business functions (Cao et al. 2015). Subsequently, the co-owners of the rental property are usually not treated as the partners under the general law with the result that they are not subjected to applicable general law of partnerships. This includes the division of net income and losses originating from the rental property.

Similarly in “McDonald v FC of T (1987)”, Mr McDonald and his wife Mrs McDonald both lawfully and beneficially owned the two units as the joint tenants (Hashimzade and Epifantseva 2017). The taxpayer rented out both the units based on the agreement that 25% of the profits would be distributed to Mr McDonald while the rest 75% will be distributed to Mrs McDonald. However, in the event of any loss from the rental property would be entirely borne by Mr McDonald.

The main question that originated was whether the operating loss from the property was entirely incurred by the taxpayer or one-half of the loss was incurred by both Mr and Mrs McDonald (Fry 2017). The court of law denied the claim of the taxpayer that there was partnership between the Mr and Mrs McDonald both under the act as well as under the general law, that the two units were property of partnership. The court contented that as there was no partnership under the general law and the only relevant relationship that existed between the parties were of co-ownership.

As the parties were joint tenants based on the law and equity, therefore, the losses that is incurred in letting the premises must be shared in equal manner based on the outcome that the respondents was entitled to claim an allowable deductions for only one-half of the loss (Basu 2016). The private engagement amid the taxpayer cannot change or override their respective entitlement based on income tax purpose. Both the husband and wife owned the property equally. As a consequence, they were entitled to have 50% of the interest in net profit and losses of the partnership. Their agreement of sharing the profit and losses in different proportions was entirely ineffective for income tax purpose.

In the current case of Joseph and Jane both holding a rental property as the joint tenants. The agreement of joint tenancy between then stated that 20% of the profits would be distributed to Joseph while the rest 80% will be distributed to Jane. However, in the event of any loss from the rental property would be entirely borne by Joseph.

Referring to “taxation ruling of TR 93/32” the co-ownership of rental property between Joseph and Jane refers to the partnership for the income tax purpose but does not establish partnership in terms of the general law (Saad 2014). As the requisite feature of joint tenants of the property is present in the case of Jane and Joseph. Furthermore, the interest of the Joseph and Jane is in the similar extent, nature and duration. As a result the co-owners would be entitled to 50% of the share in the rental property.

Based on the general proposition, it would be appropriate to define the rental property owners in the case of Joseph and Jane as the co-owners for investment purpose instead of partners for business purposes. In the present case of Joseph and Jane, with reference to “McDonald v FC of T (1987)” there was no partnership under the Act as well as under the general law (Davison, Monotti and Wiseman 2015). Since Joseph and Jane were the joint tenants based on the law and equity, therefore, the losses of $50,000 that is incurred in letting the premises must be shared in equal manner based on the outcome that the respondents are permitted to claim an allowable deductions for only one-half of the loss.  

In an alternative event if Joseph and Jane decides to sell the property any capital gains or capital loss originating from such property must be shared equally. This is because both Joseph and Jane held 50% interest in the net income and losses of the partnership. The agreement of Joseph and Jane to share the profit and loss in the different proportion will be ineffective. The private engagement amid the taxpayer cannot change or override their respective entitlement based on income tax purpose.

Conclusion: 

Conclusively, no partnership existed under the general law for Joseph and Jane. Hence, the losses and profits should be shared in equal proportions for income tax purpose.

References:

Barkoczy, S., 2016. Core tax legislation and study guide. OUP Catalogue.

Basu, S., 2016. Global perspectives on e-commerce taxation law. Routledge.

Black, C., 2017. The Attribution of Profits to Permanent Establishments: Testing the Interaction of Domestic Taxation Laws and Tax Treaties in Practice.

Brydges, N. and Yuen, K., 2018. A matter of trusts: Trusts, income tax, CGT and foreign residents. Taxation in Australia, 53(2), p.80.

Buchanan, R. and Consett, E., 2016. Section 974-80 ITAA97: The current state of play. Tax Specialist, 19(5), p.217.

Burton, M., 2017. A Review of Judicial References to the Dictum of Jordan CJ, Expressed in Scott v. Commissioner of Taxation, in Elaborating the Meaning of Income for the Purposes of the Australian Income Tax. J. Austl. Tax’n, 19, p.50.

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Davison, M., Monotti, A. and Wiseman, L., 2015. Australian intellectual property law. Cambridge University Press.

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Fry, M., 2017. Australian taxation of offshore hubs: an examination of the law on the ability of Australia to tax economic activity in offshore hubs and the position of the Australian Taxation Office. The APPEA Journal, 57(1), pp.49-63.

Hashimzade, N. and Epifantseva, Y. eds., 2017. The Routledge Companion to Tax Avoidance Research. Routledge.

Jones, D., 2017. Tax and accounting income-Worlds apart?. Taxation in Australia, 52(1), p.14.

McGregor-Lowndes, M., 2016. Lawyers, reform and regulation in the Australian third sector. Third Sector Review, 22(2), p.33.

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Woellner, R., Barkoczy, S., Murphy, S., Evans, C. and Pinto, D., 2016. Australian Taxation Law 2016. OUP Catalogue.