Tax Avoidance: Legal Analysis of Arrangements and Consequences

This report provides a comprehensive analysis of tax avoidance, focusing on the legal framework and its implications. It begins with an introduction outlining the objectives, which include understanding tax avoidance, identifying activities that do not constitute tax avoidance, and assessing the consequences of such arrangements. The report employs an issue, rule, application, and conclusion methodology to evaluate a scenario under relevant legal provisions, cases, and tests. It identifies key issues, such as potential liabilities for individuals and the validity of arrangements under the Income Tax Act 2007, including Section BG 1 and the General Anti-Avoidance Rule (GAAR). The report examines legal rules from the Income Tax Act 2007 and the Interpretation Act 1999, as well as relevant sections of the Tax Administration Act 1994. It also explores key tests like the Parliamentary Contemplation Test, Objective Test, and Merely Incidental Test, along with significant cases such as Alesco New Zealand Ltd v Commissioner of Inland Revenue, Newton v Commissioner of Taxation, and others. The application section applies these rules to a scenario involving a partnership and a related company, considering the accountant's recommendations. The report concludes with a discussion of potential penalties and the overall implications of the proposed tax avoidance scheme.

Running head: TAXATION
Taxation
Name of the Student
Name of the University
Author Note

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Introduction
This report has been written because obtaining thorough understanding about the concept
of tax avoidance as defined mentioned under legal provisions and drawing out the requisites
for the purpose of rendering an act to be an aid to tax avoidance. The objectives of the report
are to detect the range of activities relating to tax purposes that would not amount to tax
avoidance and the consequences that will follow a tax avoidance arrangement. This report
will follow the issue, rule, application and conclusion methodology of problem solving to
assess the scenario under the legal provisions, cases and several tests that exists with respect
to the identification of tax avoidance scheme. The report will identify the issues that the
scenario involves. It will strive to enumerate the list of legal rules, cases and tests that needs
to be mentioned while discussing the scenario. It will make an attempt to apply the rules thus
listed in the scenario with a view conceive a understanding of the same. Lastly, it will provide
a conclusion that has become evident in the discussion.
Issue
In the instant situation, the first issue is whether the design that has been recommended by
the accountant Chris would incur any liability for Ian and Michael. The second is in this
instant situation is whether the arrangement has any validity or would come under the
purview of section BG 1 of the Income Tax Act 2007. The third issue is whether the Inland
Revenue Department can attack the arrangement under the general anti-avoidance rule
[GAAR] of the Income Tax Act 2007 for being tax avoidance arrangement. And lastly, the
issue is whether penalties will accompany the implementation of the proposed design.

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Rule
Provisions
The Income Tax Act 2007 (ITA 07), Section BG 11
Under this section, the design or arrangements that are implemented in a given situation by
the taxpayer for the purpose of tax avoidance will be rendered to be void as against the
commissioner in relation to the tax consequences. The commissioner is also entrusted with
the power to counteract or nullify any tax benefit that been achieved by a person under any
scheme that he has designed or implemented for the purpose avoiding tax.
The Income Tax Act 2007 (ITA 07), Section GA 12
Under this section, the Commissioner has been entrusted with the power to effect
adjustments with respect to benefits reaped under the tax avoidance scheme. The
commissioner will make adjustment in the arrangements and the benefits accrued from the
same, which are construed as void under section BG 1. The commissioner will make
adjustments with respect to any taxable income pertaining to a taxpayer who has been
involved in the arrangement designed to avoid tax and the commissioner in that respect may
effect the adjustment in any way that he deems fit. The commissioner will be focussed upon
the counteraction of the benefits in relation to tax that has been accrued by the taxpayer under
the scheme that has been formulated for the sole purpose of avoiding tax. The credit that has
been obtained by the taxpayer under the arrangement that has been instituted for the purpose
of enabling the avoidance of tax would be taken away by the Commissioner either in part or
in entirety and the Commissioner may also confer such benefit in the favour of some other
person other than the tax payer. In making the required adjustments, the Commissioner would
extend the consider the amount of tax credit or loss, income or deduction or any other factors
that would have amounted in the absence of any such scheme or design implemented for the
1 The Income Tax Act 2007, s. BG 1
2 The Income Tax Act 2007, s. BG 1

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purpose of avoiding tax. In case, a particular income has been calculated in the tax liability of
one person, the same cannot be calculated under the tax liability of some other person as that
would render the calculation of a single transaction twice in within the tax liability of two
different persons. In this section, tax credit has been defined as any advantage that has been
accrued by the taxpayer that has resulted in the reduction of the tax liability that the taxpayer
has been obliged to pay and such a credit has nullified such liability.
The Income Tax Act 2007 (ITA 07), Section YA 13
This section is an interpretation provision and defines the terms in the sense that has been
used in the Act. Under this section, arrangement implies a plan, contract, agreement or
understanding that may or may not be enforceable. Tax avoidance, on the other hand, depicts
any modification in the present tax liability or the future tax burden and includes any
reduction or avoidance with respect to the future or present tax burden. Again, the term tax
avoidance can be construed to be a design or arrangement that has been formulated for the
enabling the purpose of tax avoidance.
The Interpretation Act 1999, Section 54
This section provides for a guidance to the courts to make with respect to the interpretation
of the statutes while deciding upon the matter. In this context, it has been provided by the
section that any provision would be required to be interpreted in two ways. Firstly, the court
will be required to consider the grammatical meaning of the provision and secondly, it would
consider the objective or the perspective of the Parliament, while enacting that particular
legislation.
3 The Income Tax Act 2007, s. YA 1
4 The Interpretation Act 1999, s. 5

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The Tax Administration Act 1994, Section 35
This section is an interpretation section that defined the terms that would be used for the
purpose of this Act. Under this section, any penalty or charge that has been imposed upon a
taxpayer owing to the position that he has assumed under the tax regime, which would be
incorrect or abusive with the perspective of taxation and has been subjected to penalty under
section 141D of this Act.
The Tax Administration Act 1994, Section 141D6
Under this section, the definition of the term abusive tax position has been provided. This
term has been defined as any position held by a taxpayer that will be rendered as
unacceptable or has the effect of assisting an incident of tax avoidance. This section also
provides for a penalty to be charged from a person holding such a position and has been
charged with hundred percent deduction of the short fall with respect to tax that has been
obtained under the scheme.
Test
Parliamentary Contemplation Test
The court has always considered the parliamentary contemplation test while interpreting
section BG 1 of the ITA 07. The parliamentary contemplation test required the court to refer
to the motive or the perspective of the parliament in passing a particular legislation. This test
has been applied in the case of Alesco New Zealand Ltd v Commissioner of Inland Revenue
[2013] NZCA 407.
Objective Test
The court has always considered the objective test while interpreting section BG 1 of the
ITA 07. Under this test the effect or the purpose that has been achieved or proposed to be
5 The Tax Administration Act 1994, s. 3
6 The Tax Administration Act 1994, s. 141D
7 Alesco New Zealand Ltd v Commissioner of Inland Revenue [2013] NZCA 40

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achieved is required to be considered to render an arrangement to be void and not the
intention of the party that has resulted in the tax avoidance. This test has been applied in the
case of Newton v Commissioner of Taxation [1958] AC 4508.
Merely Incidental Test
The court has always considered the objective test while interpreting section BG 1 of the
ITA 07. This test implies that an arrangement is required to be designed with a motive of
avoiding tax and is not just incidental to the same for the purpose of this section. This test has
been applied in the case of Challenge Corporation Ltd v Commissioner of Inland Revenue
[1986] 2 NZLR 5139.
Cases
The court in the case of Penny v Commissioner of Inland Revenue [2011] NZSC 9510,
held that a tax avoidance arrangement can be effected with the help of a series of transactions
or events and does not necessarily depicts a single or particular part or step of the event.
However, the whole purpose of all such events are required to be connected to tax avoidance.
The court in the case of Ben Nevis Forestry Ventures Ltd v Commissioner of Inland
Revenue [2008] NZSC 11511 held that any part or step involved in any arrangement avoiding
tax will render the whole arrangement to be a tax avoidance arrangement of the purpose of
being void under section BG 1 of the ITA 07. The steps may not be considered to have the
effect of avoiding tax when effected individually but can be construed as a tax avoidance
arrangement when they are implemented as a combination and that combination has the
effect of avoiding tax.
8 Newton v Commissioner of Taxation [1958] AC 450
9 Challenge Corporation Ltd v Commissioner of Inland Revenue [1986] 2 NZLR 513
10 Penny v Commissioner of Inland Revenue [2011] NZSC 95
11 Ben Nevis Forestry Ventures Ltd v Commissioner of Inland Revenue [2008] NZSC 115

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The court in the case of BNZ Investments Ltd v Commissioner of Inland Revenue [2000]
19 NZTC 15,732 (HC)12 has contended that even if the transaction, which has the effect of
tax avoidance has occurred or implemented outside New Zealand, but the effect is evident in
here, the same will be construed to be a tax avoidance arrangement under this Act.
The court has contended in the case of Krukziener v Commissioner of Inland Revenue
(No 3) [2010] 24 NZTC 24,563 (HC)13 that any arrangement that has more than one part,
which has the effect of tax avoidance and the rest of the parts are interrelated but not have
any tax avoidance consequences, the whole arrangement will be construed to be a tax
avoidance arrangement.
In the case of Furniss (Inspector of Taxes) v Dawson [1984] AC 474 (HL)14, the English
court has contended that the structure itself depicting a tax avoidance essence would readily
be rendered so. In this context, the statutory provision would not be considered once it has
been contended that the structure has a touch of tax avoidance motive.
In the case of Federal Commissioner of Taxation v Hart [2004] HCA 2615, it has been
held by the court that the transaction needs to be treated as a whole and not one by one while
assessing it under the light of tax avoidance.
Application
In the instant situation, Ian and Michael were running a partnership business, both being
arborists in the region of Auckland. The name of the partnership was I & M partnership. The
partnership owned a plant, a building and other equipment. It also has a staff of four. On the
other hand, David, brother of Ian, has been involved in the building industry as an
engineering contractor. The business he has been running was known as the Auckland
12 BNZ Investments Ltd v Commissioner of Inland Revenue [2000] 19 NZTC 15,732 (HC)
13 Krukziener v Commissioner of Inland Revenue (No 3) [2010] 24 NZTC 24,563 (HC)
14 Furniss (Inspector of Taxes) v Dawson [1984] AC 474 (HL)
15 Federal Commissioner of Taxation v Hart [2004] HCA 26

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Engineering Limited (AEL). The business has been suffering from financial distress and
owing to this David approached Ian and requested for his help. This made Michael and Ian to
have a discussion with their accountant named Chris. Chris opined that AEL has a viable
future. He suggested a design to be followed by I & M partnership in which they might
consider transferring their assets relating to the partnership to AEL and he also suggested I
and M partnership to take mortgage with respect of those assets belonging to AEL.
Afterwards, the assets will be given on lease by AEL to the partnership and would be held by
the partnership on an annual rental. This arrangements can be viewed as not having any
purpose of economic nature with respect to the business activities that the partnership has
been involved into. Moreover this arrangement consists of a plan, contract, agreement or
understanding that may or may not be enforceable. In this case, the transfer followed by the
mortgage and the lease does not yield any benefit to the business activity. This can be
construed to be an arrangement as defined under the Income Tax Act 2007 (ITA 07), Section
YA 1. Again, to be rendered void with respect to tax purposes under section the Income Tax
Act 2007 (ITA 07), Section BG 1 the tax avoidance motive of the same needs to be
established. All the tests and the legal provisions are to be given effect with respect to the
same.
In that context, it can be noted that the tax losses that has been carried forward by the AEL
amounts to an approximate total of $1 million. Hence, in the opinion of Chris, the loss of tax
can be utilised to offset the income arising from rent and other expenditure. This can be
construed to be an arrangement designed for the main purpose of avoiding tax. This cannot be
construed to have an economic purpose other than tax saving. All the steps as well as the
arrangement as a whole indicates a tax avoidance essence. This would bring the situation
under the purview of tax avoidance as provided under section BG 1.

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The arrangement made by Chris is required to be construed as the design or arrangements
that are implemented in a given situation by the taxpayer for the purpose of tax avoidance
will be rendered to be void as against the commissioner in relation to the tax consequences.
The commissioner will have the power to counteract or nullify any tax benefit that been
achieved by a the partnership and David under the scheme that he has designed or
implemented for the purpose avoiding tax. This can be treated to have been void under
section BG 1 of the Act.
In this furtherance, the three tests would be required to be applied to the given situation.
Firstly, Parliamentary Contemplation Test will be considered while interpreting section BG 1
of the ITA 07. The parliamentary contemplation test required the court to refer to the motive
or the perspective of the parliament in passing a particular legislation. In this case, it is
evident that the arrangement made by Chris will not be construed to be desired by the
legislation. This can be supported with the case of Alesco New Zealand Ltd v Commissioner
of Inland Revenue [2013] NZCA 40. Secondly, the Objective Test will be applied by the
court while interpreting section BG 1 of the ITA 07. Under this test, the effect or the purpose
that has been achieved or proposed to be achieved is required to be considered to render an
arrangement to be void and not the intention of the party that has resulted in the tax
avoidance. In this case, the object of the arrangement that has been designed by Chris is to be
construed as for the purpose of tax saving and other than that it does not have any
implications. This points towards the arrangement being for the sole purpose of tax avoidance
and hence the innocence of the taxpayer will not be taken into consideration. This test can be
supported with the case of Newton v Commissioner of Taxation [1958] AC 450. Lastly,
Merely Incidental Test will be considered by the courts while interpreting section BG 1 of the
ITA 07. This test implies that an arrangement is required to be designed with a motive of
avoiding tax and is not just incidental to the same for the purpose of this section. In this case,

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as the scheme designed by Chris does not have any other purpose other than tax saving, the
same cannot be construed to be an event merely incidental to tax avoidance. This can be
supported with the case of Challenge Corporation Ltd v Commissioner of Inland Revenue
[1986] 2 NZLR 513.
In the case of Ben Nevis Forestry Ventures Ltd v Commissioner of Inland Revenue [2008]
NZSC 115 the court held that any part or step involved in any arrangement avoiding tax will
render the whole arrangement to be a tax avoidance arrangement for the purpose of being
void under section BG 1 of the ITA 07. The steps may not be considered to have the effect of
avoiding tax when effected individually but can be construed as a tax avoidance arrangement
when they are implemented as a combination and that combination has the effect of avoiding
tax. In this situation, the arrangement made by Chris has the chief motive of saving tax as a
whole and it does not have any other economic purpose to serve.
The Tax Administration Act 1994, Section 141D provides for the definition of the term
abusive tax position. This term has been defined as any position held by a taxpayer that will
be rendered as unacceptable or has the effect of assisting an incident of tax avoidance. This
section also provides for a penalty to be charged from a person holding such a position and
has been charged with hundred percent deduction of the short fall with respect to tax that has
been obtained under the scheme. This this case also the tax saved under the plan will be
subjected to hundred percent deduction.
Conclusion
Hence, it can be concluded that the design that has been recommended by the accountant
Chris would incur any liability for Ian and Michael. The arrangement has no validity and
would come under the purview of section BG 1 of the Income Tax Act 2007. The Inland
Revenue Department can attack the arrangement under the general anti-avoidance rule

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[GAAR] of the Income Tax Act 2007 for being tax avoidance arrangement. Penalties will
accompany the implementation of the proposed design.

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Reference
Alesco New Zealand Ltd v Commissioner of Inland Revenue [2013] NZCA 40
Ben Nevis Forestry Ventures Ltd v Commissioner of Inland Revenue [2008] NZSC 115
BNZ Investments Ltd v Commissioner of Inland Revenue [2000] 19 NZTC 15,732 (HC)
Challenge Corporation Ltd v Commissioner of Inland Revenue [1986] 2 NZLR 513
Federal Commissioner of Taxation v Hart [2004] HCA 26
Furniss (Inspector of Taxes) v Dawson [1984] AC 474 (HL)
Krukziener v Commissioner of Inland Revenue (No 3) [2010] 24 NZTC 24,563 (HC)
Newton v Commissioner of Taxation [1958] AC 450
Penny v Commissioner of Inland Revenue [2011] NZSC 95
The Income Tax Act 2007
The Interpretation Act 1999
The Tax Administration Act 1994, Section 3