Removing
taxable profit from one company by having a tax loss company charge a
management fee without any evidence of management services agreed or provided
was too blatant for Inland Revenue. The
High Court agreed, dissallowing a $1.16 million deduction claimed by property
company Honk Land Trustees and doubling the resulting tax payable as a penalty
for taking an “abusive” tax position.
Creating tax deductions with the effect
of shifting taxable profit between legal entities is a common ploy seen in cross-border
transfer pricing. Inland Revenue
challenged a domestic arrangement used to transfer all the 2005 taxable profit
from Auckland property company, Honk Land Trustees (Trustees), to a related
entity: Honk Land.
The High Court was told trusts and
companies in the Honk group were controlled by Mr Andrew Tauber. The first tax year in which Trustees made a
taxable profit was in 2005. This
potentially taxable profit of $1.16 million was removed by recording a $1.16
million management fee payable to Honk Land, a separate Tauber-controlled business
owning commercial buildings on Auckland’s North Shore worth over $20 million
and having a rent roll in excess of two million dollars. No cash changed hands. A series of consecutive Trustees accounting
entries were written up after the end of the financial year, backdated to
record twelve separate monthly management fee expenses of $93,000 each month.
For the 2005 tax year, a related business
Honk Land was facing a tax loss of $966,700.
Honk Land was about to be sold and these tax losses could no longer be
used following a change of ownership. Tax
losses were removed with a book entry recording Trustees management fee. Evidence was given that Trustees could not
set off its taxable profit against Honk Land’s losses because they could not be
grouped for tax purposes.
Inland Revenue argued the management fee
was an ex post facto contrivance
designed to transfer the precise amount of taxable income upon which Trustees
would otherwise have to pay tax. It acknowledged
there are management costs incurred in operating Honk Land but said there was
no record of any services provided to Trustees and the fee paid appears to be
fixed simply by reference to Trustees’ otherwise taxable profit.
Mr Tauber argued there was an oral
agreement for Honk Land to charge management fees. Justice Ellis ruled the factual evidence
indicated otherwise. The only year in
which Trustees paid Honk Land a management fee was in 2005, the first year it
made a taxable profit. The fee
supposedly earned by Honk Land was coloured by the fact that it included
payment for management of properties owned by Honk Land itself. Two of the three commercial properties owned
by Trustees were sold in the 2005 year, reducing levels of property management
required. Honk Land was the only
business in the Honk group with available tax losses capable of absorbing
Trustees profit.
Justice Ellis ruled no management
services in fact were provided by Honk Land to Trustees. No deduction can be claimed for the cost of
services whch have not been provided.
Even if there were a management agreement in place, the fee was void for
tax purposes as a tax avoidance arrangement, she further ruled.
Honk
Land Trustees v. Inland Revenue – High Court (17.06.16)
16.094