Taxpayer fails to prove bank deposits were loans

The Federal Court has allowed an appeal by the Commissioner and held that a taxpayer had not in fact discharged the onus of proving that amounts of over $4.75 million deposited in its bank account from an overseas bank were not income, nor that payments made in respect of certain loans were deductible interest.

Background

The taxpayer was one of many companies associated with one of two brothers and their successful manufacturing and property development business. The taxpayer’s financial statements for the 1997 to 2008 income years recorded a loan liability to an overseas bank, and substantial related interest expenses. The taxpayer said the liability amount approximated the total value of the taxpayer’s assets, while the interest expenses approximated its income. The Commissioner argued that the asserted loan liability related to funds that the taxpayer received as assessable, and that none of the asserted interest payments were deductible.

At first instance, in Re Areffco and FCT [2011] AATA 628, the Administrative Appeals Tribunal (AAT) found that the amounts were legitimate loans and that the payments made back to the bank in respect of these loans were legitimate interest deductions. It did so essentially on the basis that there was a sound evidentiary basis for concluding that the receipts were (among other things) loans, that they were from a reputable overseas bank and that the outgoings were for real interest obligations in respect of those loans.

Decision

However, the Federal Court found that the AAT had erred in finding that the taxpayer had discharged the onus of proof that the amounts were not income. In particular, it found that the existence of a loan is primarily proved by an obligation of repayment under the terms of a contract under which money is transferred from one party to another, and that in this case there was no evidence before the AAT of any such contract, nor of any obligation on the part of the taxpayer to repay the amounts it received.

The Court also found the “reality and substance of the matter” was that the payments only represented some form of transfer of funds, rather than the making of loans, as evidenced by the fact that:

• there was no evidence of any obligation of repayment to the bank, ie there was no agreement, either in writing or oral, imposing an obligation of repayment;
• the lender was not prepared to have any of its officers give evidence in the proceedings, apart from furnishing the taxpayer with documents that went into evidence but that, in any event, did not establish any obligation of repayment;
• there was no evidence that the taxpayer or any other entity, affiliated or not, gave security for the transfer of funds whether by way of charge, lien, set-off or surety – which was consistent with the alternative explanation of the funds being the taxpayer’s funds;
• the taxpayer had no assets in Australia nor any apparent capacity to repay the alleged loans; and
• no withholding tax was withheld from the alleged interest payments, at least until the transactions fell under the scrutiny of the Commissioner.

Accordingly, the Court concluded that the taxpayer had not established that the funds transferred to its Australian bank account in 1997 were loans made to it by the overseas bank and that it had not therefore discharged the onus of showing the assessments were excessive.

Appeals update

The taxpayer has lodged a notice of appeal to the Full Federal Court against the decision.

FCT v Rawson Finances Pty Ltd [2012] FCA 753, www.austlii.edu.au/au/cases/cth/FCA/2012/753.html