Overturning an Assessment Where the ATO Merely Suspects Fraud or Evasion

Every person must, if required by the Commissioner of Taxation, lodge an annual return for income tax purposes. Once lodged, the Commissioner must make an assessment of the taxable income and tax payable based on information in the return and ‘any other information in the Commissioner’s possession’. This is irrespective of whether the information was illegally disclosed or privileged.

The Commissioner (or taxpayer) usually has two years to amend an assessment (4 years in the case of more complex affairs). However, if the Commissioner is of the opinion there has been fraud or evasion, an assessment may be amended ‘at any time’. Rightly, this ensures a taxpayer who engages in calculated behaviour to evade tax should remain permanently at risk. This will be the case where non-disclosure of an assessable amount is due to some blameworthy or unlawful conduct on the part of the taxpayer.

Evidence of inappropriate practice

In 2015, the Standing Committee on Tax and Revenue responded to growing evidence that Australian Tax Office (ATO) officers ‘sometimes allege fraud or evasion without turning their mind to the question of whether fraud or evasion actually exists’. The Committee recommended that the ‘burden of proof switch back to the ATO once the statutory record-keeping period for taxpayers has expired.’ This recommendation was promptly rejected by the Government on the basis that it would be counterproductive and encourage sham behaviour by taxpayers associated with fraud and evasion.

What the Government fails to acknowledge is that unsubstantiated allegations of fraud or evasion and the uncertainty this generates reduce taxpayer confidence in the system. This is particularly significant as the system was updated in 2004 to promote taxpayer confidence and reduce uncertainty by giving earlier finality to taxpayers who have tried to comply by shortening the period in which their assessment can be amended to increase their liability.

Judicial review

I argue that there is no need for legislative reform to reverse the onus of proof. The courts already have original jurisdiction to ensure the Commissioner always acts within the limits of his assessment-making power, including the obligation to act reasonably and not arbitrarily when making an assessment. This jurisdiction is in addition to the usual statutory process for reviewing assessments which is discussed below.

Whether it is rationally open for the Commissioner to infer fraud or evasion is ultimately a question for judicial decision arising within the original jurisdiction of courts. The Federal Court of Australia is vested with the same original jurisdiction as that conferred on the High Court of Australia, under section 75(v) of the Constitution. This is an entrenched minimum provision of judicial review authorising the High Court (and, by implication, the Federal Court) to grant discretionary relief of mandamus, certiorari and/or prohibition to vitiate an assessment made beyond power. This will be the case where the assessment-making process is tainted by jurisdictional error, which arises where:

an administrative tribunal falls into an error of law which causes it to identify a wrong issue, to ask itself a wrong question, to ignore relevant material, to rely on irrelevant material or, at least in some circumstances, to make an erroneous finding or to reach a mistaken conclusion….

What the court does in judicial review is to inquire whether the Commissioner’s opinion about fraud or evasion has really been formed. It will not in fact be formed unless there is evidence upon which the Commissioner could reasonably draw the requisite inference. To this end, it is a fundamental constitutional principle that the Commissioner cannot merely act arbitrarily or capriciously.

The statutory process for invalidating an assessment

A dissatisfied taxpayer can, in the normal course, seek to invalidate an assessment by establishing that the amount of tax assessed is excessive. The taxpayer can do so by producing documents affirmatively showing either that an undisclosed amount on which additional tax is computed is not assessable or that the taxpayer otherwise made full and true disclosure.

It may be particularly difficult for the taxpayer to discharge this burden of proof where the assessment relates to a period falling outside the 5-year statutory period for retaining documents. Without documentary evidence establishing the non-assessability of an amount on which additional tax is computed, it would be futile to allege the Commissioner could not have formed the requisite opinion because there was no evidence of calculated behaviour.

In Nguyen, the Administrative Appeals Tribunal confirmed assessments amended by the Commissioner (outside the 2-year period) after discovery of unexplained cash of around $2 million presented by the taxpayer at casinos. The taxpayer, who worked as a nail technician, contended, inter alia, that mere withholding of information does not amount to blameworthy conduct and that ‘the Commissioner failed to establish there was a business that would generate a realistic income’. At [34], Senior Member O’Loughlin said:

Provided the Commissioner has formed the requisite opinion … may well be to make a fraud or evasion finding unchallengeable independently of the challenge to the assessability of the relevant amount.

In the statutory process, the taxpayer has no scope to allege that formation of the Commissioner’s opinion was unreasonable, and unauthorised, for want of probative evidence establishing fraud or evasion. This is because such an allegation relates to the due making of the assessment, which is deemed to have been properly made by virtue of section 350-10 of the Taxation Administration Act 1953. This provision gives evidentiary effect to section 175 of the Income Tax Assessment Act 1936, which provides ‘the validity of any assessment shall not be affected by reason that any provisions of this Act have not been complied with.’

When does an assessment not answer the statutory description of ‘assessment’?

According to the Full Federal Court in Chhua, an allegation there was no evidence to sustain formation of the requisite opinion can only be overturned in the statutory process. This is because such an allegation is unlikely to satisfy either of the two jurisdictional errors identified by the plurality in Futuris, which operate to render an assessment unlawful.

In Futuris, the High Court upheld the Commissioner’s argument that the Full Federal Court erred in upholding the taxpayer’s judicial review application alleging the Commissioner acted in bad faith by issuing two assessments to the same taxpayer in respect of the same amount. According to the plurality (Justices William Gummow, Kenneth Hayne, Dyson Heydon and Susan Crennan), the taxpayer could only challenge the validity of the assessments in statutory review proceedings as they were protected by the no invalidity provision in section 175.

As the plurality explained, an assessment will not answer the statutory description of ‘assessment’ for the purposes of section 175 where it is either ‘provisional’ or is otherwise tainted by conscious maladministration (which is ‘not lightly to be made or upheld’). In these two instances (neither of which arose in Futuris), a court can investigate the due making of the purported assessment within their original jurisdiction unhampered by the burden of proof imposed on taxpayers under the preceding statutory review process.

Federal Court decisions handed down since Futuris have sought to definitively limit the categories of cases in which tax assessments can be reviewed to the two jurisdictional errors identified in Futuris. However, not all Australian courts share this view, with one Supreme Court judge from Tasmania and another from Victoria disagreeing.

There must be a genuine attempt to ascertain taxable income

In my article of 2019, I argued that it is both apocryphal and repugnant to the rule of law to limit jurisdictional error relief in the manner suggested by the Federal Court. The case of Futuris did not consider a broader sense of bad faith (apart from conscious maladministration), which can operate to vitiate exercise of the assessment power.

Considering the serious evidentiary barriers inhering in the statutory review process, only judicial review can safeguard against an arbitrary or unreasonable finding of fraud or evasion. It is the constitutional duty of courts to grant appropriate and available remedies to ensure the Commissioner does not issue an assessment beyond power.

This will be the case where there is no evidence from which it can rationally be inferred ‘there has been’ fraud or evasion. Such an allegation must fail if raised in statutory review proceedings, albeit that it implies the Commissioner acted capriciously or arbitrarily in amending an assessment at any time.

The findings in my 2019 article can be further bolstered by drawing an analogy between exercise of the Commissioner’s power to amend at any time with the requirement for the Commissioner to make a genuine attempt to ascertain the taxable income of a taxpayer before making a default assessment under section 167 of the Income Tax Assessment Act 1936.

Given the serious financial and reputational implications, as well as legislative intention to promote certainty and taxpayer confidence, to be a genuine attempt, there must at least be some rationally probative evidence from which it may be inferred the taxpayer was involved in blameworthy or unlawful conduct directed at concealing from the Commissioner what would otherwise have been assessable amounts.

Cases litigated to date (Chhua and Buzadzic) have not sought to argue the ‘no evidence’ judicial review ground in the manner described above. However, given extant evidence of improper ATO practice and the Government’s unwillingness to reverse the burden of proof, taxpayers must continue to try and convince courts against definitively applying Futuris to ensure the Commissioner’s increased reliance on fraud or evasion assessments is authorised.