Operating Framework of the Australian Tax System

Tax Administration
The Income Concept

Introductory Lecture
1. The Nature of Tax
2. Framework in which the Tax Laws operate: Constitutional Basis of Taxation
3. Sources of Income Tax Law
4. Tax Administration: The Management of Information for Tax Purposes
a) Lodging Tax Returns
b) The Assessment Process
c) Tax Reviews: Challenging the Assessment – Objections and Appeals
d) Tax Audits: Enforcing Tax Obligations
5. The Concept of Income

1. The Nature of Tax

MacCormick v FC of T (1984) - Significance of this case:
Taxes:
 Are compulsory payments;
 The moneys are raised for public purposes;
 Do not constitute a payment for services rendered;
 Are not a penalty;
 Are not arbitrary; and
 Are not ‘incontestable’.

Classification of Taxes
Direct Taxes Indirect (consumption) Taxes
Income Taxes Property Taxes Sales Taxes Factor Taxes
•FBT
•Personal Income Tax •Death Duty •Value Added Tax, eg GST
•Pay-roll Tax
•Wealth Tax
•Capital Gains Tax •Luxury Car Tax •Stamp Duties •Land Tax
•Temporary Budget Repair Levy
•Company Tax •Customs and Excise Duties • Carbon Tax

2. The Framework in which Tax Laws Operate

 Three tiered system (three levels of government including Federal, State and Local)
 The framework in which tax laws operate is governed by the Constitution.
 The Jurisdictional Issue:
 The primary power to impose income tax is vested in the Federal Parliament – (Constitution, section 51(ii).
 Limits to this power:
 It is not an exclusive power – (1st & 2nd Uniform Tax Cases 1942).
 Federal taxes cannot discriminate between the states or parts of a state
 Laws imposing taxes can only deal with one subject of taxation
o Rating Acts vs. Assessment Acts.

Taxation powers and Federal/State relations

 The Commonwealth effectively forced a uniform tax scheme on the States through wartime tax collection mechanisms during WW2.
 States no longer collect income tax, but do raise revenue through a variety of different taxes.
 Federal Gov’t collects all income taxes and hands back some of the revenues raised to the State and Territory governments.
 Federal tax may not be imposed on state property and state taxes cannot be imposed on federal property – (Constitution, section
114).

Additional taxing powers in the Constitution:

 Exclusive powers – conferred by section 90
o The power to impose duties of customs and excise is granted exclusively to the Federal government.
o Ha & anor v State of NSW 97 ATC 4764 a State levy on tobacco sales was held to be an excise duty. The NSW law which
imposed it was therefore held to be invalid – (unconstitutional).

3. Sources of Income Tax Law

1. Legislation
 Income Tax Assessment Act 1936 (ITAA 1936)
 Income Tax Assessment Act 1997 (ITAA 1997)
 ITAA 1997:
o contains provisions of ITAA 1936 in a rewritten form.
o Provides that if the 1936 Act expressed an idea in a particular form of words, and the 1997 Act appears to have expressed
the same idea in a different form of words in order to use a clearer or simpler style, the ideas are not taken to be different
just because different forms of words have been used (section 1-3 ITAA 1997)
 Other Tax Related Legislation
 A New Tax System (Goods and Services Tax) Act 1999
 Fringe Benefits Tax Assessment Act 1986
 Taxation Administration Act 1953
 Rating Acts

2. Case Law
 Interprets legislation and fills in the gaps
 Court hierarchy and precedent
 Variation over time in interpretive approaches

3. ATO Practice
Taxation Rulings
 An integral part of the self assessment system (post 1/7/92)
 Administrative guidelines issued by the ATO explaining how tax laws will be applied
 Cannot override the law (legislation/cases)
 Pre-1 July 1992 tax ruling system will find a IT or MT reference
 Post-1 July 1992 tax rulings are binding on the Commissioner:
 Public Rulings including various types (eg Taxation Rulings, Taxation Determinations, Product Rulings,
Class Rulings)
 Private Rulings
 QUERY: What is the binding effect of a ruling? – see, Woellner 30-015.

4. Tax Administration:
 The management of Information for tax purposes

1. Lodging Tax Returns
2. The Assessment Process
3. Tax Reviews: Objections and Appeals
4. Tax Audits: Enforcing Tax Obligations

1. Lodging Tax Returns

 Tax returns are the most important source of information for tax administration…sec 169A ITAA 1936
 Almost all taxpayers must lodge returns
 Must be lodged in the “approved form”
 Lodgment is subject to time limits
 Inadequate or incomplete returns
 Amendment of Returns
 Penalties for non-lodgment
 General interest charge
 Look at the Tax Return online

2. Assessment APPENDIX 1
 The ascertainment of amount of taxable income and tax payable – Sec 6(1) ITAA 1936
 Bona fide and final

There are two main models of Assessment:

I. Self Assessment
II. Administrative Assessments

i) SELF ASSESSMENT
a) ATO relies on information provided in the taxpayer's return –in working out a taxpayer’s liability Sec 166 ITAA 1936
b) Requirement to exercise reasonable care:
 In relation to accuracy of information provided in return
 In considering the impact of the tax laws
 Self amendment of returns lodged
c) Post-lodgment verification

ii) ADMINISTRATIVE ASSESSMENTS

a) Default/Arbitrary assessments -- sec 167 ITAA 1936: Burden is on the Taxpayer to prove that it is incorrect
b) Special assessments – sec 168 ITAA 1936
c) Amended assessments -- sec 170 ITAA 1936
 Time Limits: depends on the type of taxpayer
 Individuals and small business entity taxpayers (SPOR) – 2years
 Other taxpayers (eg. – companies) – 4 years
 Fraud/Evasion or transfer pricing abuses – no time limit
 3. Tax Reviews: Challenging the Assessment
Part IVC
Taxation Administration Act 1953

Tax Decision

Taxation Objection

Objection Decision

Direct lodgement of the application

by the Taxpayer

Appealable +
Appealable reviewable Reviewable

Where disputed tax is

Federal Choice <$5000 >$5000

Court

Small Taxation Administrative

Claims tribunal Appeals Tribunal

Appeal on
question of
law

4. Tax Audits: Enforcing Tax Obligations

 TAX AUDITS: Different Types
 Preparation for a review/audit:
o Record keeping, duration and form: (sec. 262A ITAA36)
 Taxpayer’s Rights during the review/audit:
o Notification of review/audit:
 Generally, the ATO will inform the taxpayer (in writing) about he review or audit before they visit the
taxpayer
 Taxpayer’s must be served with reasonable notice – (except in exceptional circumstances).
 Legal Professional Privilege

Taxpayer’s Obligations during the review/audit

a) Section 353-15 Sch 1 of TAA 1953 (formerly 263 ITAA 36) – Commissioner’s access power
 Authority to enter buildings -full and free access
 Taxpayer must be served with reasonable notice – (except in exceptional circumstances)
 Occupier’s duty – “provide all reasonable facilities and assistance” :- Citibank 1989 (Krever page 386) and Sharp 1989
 It is an offence for any person to hinder or obstruct ATO officers exercising their right of access
b) Sec. 262A ITAA 1936 – Record keeping, duration and form
c) Section 353-10 of Sch 1 of TAA 1953 (formerly 264 ITAA 1936) – Commissioner’s power to require any person to give evidence
 Provide all required information
 Attend and give evidence concerning income or assessment of the taxpayer under investigation
 Produce documents as required
d) Exceptions to (a) and (c) above:
 Legal professional privilege;
e) Legal Professional Privilege:
Common Law – protects from disclosure certain communications passing between persons and legal advisers.
f) Access to accountant’s papers for the purposes of ss353-15 and 353-10, Sch. 1 of TAA 1953:
“Guidelines for the exercise of access powers in relation to Professional Accounting Advisors’ Papers” (27 November 1991)
 OUTCOMES of reviews/audits
Revision Questions
 Private Study: The Australian Taxation Study Manual 27th edition:
Objections and Appeals
245, 260, 268 and 269

Self-assessment
250, 262

Amended Assessments
253, 256, and 267

Private Rulings
254, 255

Commissioner’s Access Powers

261, 270, 271

APPENDIX 1
Sample Notice of Assessment

You need
these details
to lodge
your tax
return using
e-tax

APPENDIX 2
Sample Objection Notice
I, ……….. (Taxpayer’s name) hereby object to the assessment of income tax in respect of the year 30 June 20…. On Assessment No.
………… dated ………., and claim that it should be reduced by –
* $........ incorrectly included as profit from the sale of some real estate;
* $........ Claimed as home-office costs and disallowed – and my reasons for wanting that done are -
* The amount of $......... is not income in accordance with Section 6-5, 6-10 or the Capital Gains provisions in the Income Tax
Assessment Act.
* The amount of $......... in respect of the home office expenses is an allowable deduction in accordance with Section 8-1, Division 40 or
some other Section of the Income Tax Assessment Act.
Name: ………………………………. Signature: ……………………………
Address:………………………………. Tax File Number: …………………..
5. The Concept of Income
What is Income?
- The competing concepts
- Identification: Principles of ordinary income
- The core assessing provisions
 An Analysis
 The Classification of Income

The Competing Concepts of Income

1) Economic – “gain” over time per Henry Simons
2) Legal – ordinary concepts – not fixed – change over time – Jordan CJ in Scott 1935
3) The Income – Capital distinction
4) Flow concept – Eisner v Macomber 1920 – Tree (capital) and the fruit (income)

Identification: Principles of Ordinary Income

(a) Ordinary income comes to the recipient
Tennant v Smith (1892)* Krever 34
FCT v Cooke & Sherden (1980)* Krever 42

(b) An amount must be characterised as ordinary income in the hands of the person who derived it
Federal Coke Co Pty Ltd v FCT (1977)* Krever 13
Countess of Bective v FCT (1932) )* Krever 299

(c) Ordinary Income has a sufficient nexus with an earning activity

Californian Copper Syndicate v Harris (1904)* Krever 56
Scott v FCT (1966) Krever 22

(d) Ordinary Income is cash or something that is convertible into cash

Tennant v Smith 1892 AC 150
FCT v Cooke & Sherden 80 ATC 4140
 Section 21 ITAA 1936 (subject to s21A) states that where any non-cash consideration is paid or given to a taxpayer, the
money value of that consideration is deemed to have been paid or given to the taxpayer.
 Section 21A ITAA 1936 provides that where a benefit of property or services is provided in respect of a business
relationship:
I. that benefit will be treated as if it were convertible into cash; and
II. the amount of the income will be the arm’s length value of the benefit

(e) Compensation for an amount, which would have been ordinary income, has the character of ordinary income
C of T (Vic) v Phillips (1936) 55 CLR 144 *Krever 25

(f) Ordinary income will often exhibit periodicity, recurrence and regularity
FCT v Dixon (1952) 86 CLR 540 *Krever 19
C of T (Vic) v Phillips (1936) 55 CLR 144

(g) Illegal, immoral, or ultra vires receipts may be ordinary income

FCT v La Rosa 2003 ATC 4510 *Krever 166
Partridge v Mallandaine (1856) 2 TC 179
No 275 v MNR (1955) 13 Can Tax ABC 279

(h) Mixed amounts that cannot be dissected have the character of capital
McLaurin v FCT (1961) 104 CLR 381 *Krever 90
 The Income Concept
The Core Provisions: An Analysis
INCOME TAX ASSESSMENT ACT 1997
SEC 6-5 Income according to ordinary concepts (ordinary income)
(1) Your assessable income includes income according to ordinary concepts, which is called ordinary
income.
(2) If you are an Australian resident, your assessable income includes the * ordinary income you *
derived directly or indirectly from all sources, whether in or out of Australia, during the income year.
(3) If you are a foreign resident, your assessable income includes:
(a) the * ordinary income you * derived directly or indirectly from all * Australian sources during
the income year; and
(b) other * ordinary income that a provision includes in your assessable income for the income
year on some basis other than having an *Australian source.
(4) In working out whether you have derived an amount of * ordinary income, and (if so) when you
derived it, you are taken to have received the amount as soon as it is applied or dealt with in any way
on your behalf or as you direct.

SEC Other assessable income (statutory income)

6-10 (1) Your assessable income also includes some amounts that are not *ordinary income.
Note: These are included by provisions about assessable income. For a summary list of these provisions,
see section 10-5.
(2) Amounts that are not *ordinary income, but are included in your assessable income by provisions about
assessable income, are called statutory income.
Note: Many provisions in the summary list in section 10-5 contain rules about ordinary income . These
rules do not change its character as ordinary income.
(3) If an amount would be *statutory income apart from the fact that you have not received it, it becomes
statutory income as soon as it is applied or dealt with in any way on your behalf or as you direct.
(4) If you are an Australian resident, your assessable income includes your * statutory income from all
sources, whether in or out of Australia.
(5) If you are a foreign resident, your assessable income includes:
(a) your *statutory income from all * Australian sources; and
(b) other *statutory income that a provision includes in your assessable income on some basis
other than having an* Australian source.

The key concepts underlying the calculation of assessable income are:

I. The residence of the taxpayer
II. The source of income ; and
III. The question of whether income has been derived

These concepts will be examined in greater detail in Lecture 2.

The Classification of Income

Division 6: Types of Income and their Classification

Ordinary Income s6-5

Assessable Income
Statutory Income see s6-10 & Checklist in s10-5

Exempt Income s6-20 & Checklist in ss11-5 to 11-15

Non-Assessable
Non-assessable non-exempt income s6-23 and checklist in s11-55

S6-25 interaction between ordinary and statutory income