Review of Tax Office's management of complex issues — Case study on living-away-from-home allowances

Chapter 2 — Overview

Background

What is a LAFHA and how is it taxed?

2.1 A living-away-from-home allowance (‘LAFHA’) is paid to an employee to compensate for additional expenses or disadvantages suffered through the employee having to live away from home in order to perform duties for his or her employer.

2.2 With the move to the fringe benefits tax (‘FBT’) regime in 1986, the liability for taxation on benefits provided to employees, such as LAFHAs, shifted to the employer. This means that where an allowance satisfies the definition of being a LAFHA benefit, then it is taxable to the employer.

2.3 Under the FBT regime, a LAFHA will be tax-free (exempt) to both employer and employee to the extent that it is for the reasonable cost of additional accommodation and the increased expenditure for food. An employer can effectively give tax-free income to cover additional accommodation and food expenses for extended periods to an employee who claims to have to live away from their usual place of residence to do their job. The employee will not be liable to tax as a LAFHA is not assessable income in the hands of the employee and the employer will not be liable to FBT on the LAFHA to the extent that it qualifies as exempt.

Brief legislative and administrative history

2.4 A fully documented chronology of the administration and management of LAFHAs between 1992 and 2006 has been agreed with the Tax Office as part of the review and is at Chapter 4. The following is a brief summary of the legislative background and salient points from the chronology.

2.5 The concept of living-away-from-home was first introduced into the tax system in 1945. From around 1945 to 1986 LAFHAs were part of the income tax system. Under former section 51A of the Income Tax Assessment Act 1936 (ITAA 1936) the amount of any LAFHA was an allowable deduction from the assessable income of an employee taxpayer. The nature of a LAFHA was set out in the Explanatory Note:

Various wage-fixing authorities have granted away-from-home allowances to employees whose places of employment are located away from their usual places of abode. The allowance is paid to compensate the employee for the additional expenditure he is obliged to incur in providing board and accommodation for himself at his place of employment while, at the same time, maintaining his home elsewhere.

2.6 With the introduction of the Fringe Benefit Tax Assessment Act 1986 (the ‘FBTAA’), the taxation treatment of LAFHAs was moved from the income tax regime to the FBT regime.

2.7 The FBTAA sets out the definition of a LAFHA benefit and the valuation rules for calculating its taxable value. The essential conditions for an allowance to qualify as a LAFHA benefit are set out in section 30 of the FBTAA and are as follows:

1. The payment is an allowance paid by the employer to an employee in respect of the employee’s employment; and

2. It would be concluded that the whole or a part of the allowance is in the nature of compensation to the employee for:

• additional expenses (not being deductible expenses) incurred by the employee during a period; or

• additional expenses (not being deductible expenses) incurred by the employee, and other additional disadvantages to which the employee is subject, during a period,

by reason that the employee is required to live away from the employee’s usual place of residence in order to perform the duties of employment.

2.8 Where an allowance satisfies the definition of being a LAFHA benefit, then it is a fringe benefit. Section 31 of the FBTAA then applies to determine the taxable value of the LAFHA benefit that is taxed in the hands of the employer. A LAFHA benefit is not taxed in the hands of the employee. Where an allowance, or part of an allowance, is not a LAFHA benefit then it will be taxed in the hands of the employee under the income tax laws.

2.9 The taxable value of a LAFHA benefit is often minimal or nil as the value of the LAFHA benefit is reduced by any reasonable amounts paid in compensation for accommodation and for increased expenditure on food.

2.10 The essence of the LAFHA policy, as reported to Parliament in 1995 and still current, appears to be:

The objective of the existing LAFHA provisions in the Fringe Benefits Tax Assessment Act (FBTAA) is to provide a special tax exemption to cover additional expenses incurred by an employee on accommodation and food, as a result of living away from his or her usual place of residence in order to perform employment duties. The LAFHA provisions are not intended to provide a tax exemption where the employee is not incurring additional expenses on accommodation and food under these circumstances.

… In order to maintain the equity of the tax system and to achieve the objective of the LAFHA provisions, it is necessary to ensure, as far as practicable, that a tax exemption is not available where an employee is not genuinely living away from home or where an employee is not incurring additional accommodation or food expenses as a result of living away from home.

2.11 The Tax Office’s Miscellaneous Taxation Ruling MT 2030, which issued on 30 September 1986, sets out the Tax Office’s view on LAFHA benefits including references to case law (mostly involving section 51A of the ITAA 1936. It provides guidelines for determining the circumstances in which an allowance is to be treated as a LAFHA.

2.12 Between 1986 and 1995 the Tax Office was concerned by the difficulties faced by tax officers, employers and their professional advisers in interpreting and applying the LAFHA provisions. The Tax Office was particularly concerned with the uncertainty around the term ‘usual place of residence’ and the need to provide guidance to taxpayers. It also considered that aspects of its advice in MT 2030 were inadequate.

2.13 In 1992, internal Tax Office documents re-capped upon the factors considered by the then Government at the time of moving LAFHAs into the FBT regime. They record that it was noted in 1986 that employees would not have to demonstrate that they actually incurred additional personal expenses through having to maintain two places of abode in order to attract the concessional treatment.

2.14 In 1995, the then Government sought to introduce new conditions that needed to be satisfied before a LAFHA benefit arose as a means to address uncertainty and compliance problems with LAFHAs. The Parliament was advised that many employers found it difficult to apply the guidelines issued by the Tax Office in MT 2030.

2.15 Internal Government papers prepared in the lead up to the proposed 1995 amendments discuss the current position in relation to LAFHAs. It was noted that the current provisions do not require that an employee demonstrate that he or she actually incurred additional personal expenses. It was also noted that foreign employees working in Australia could receive a LAFHA and free accommodation valued in the order of $20,000 to $50,000 a year, effectively free of income tax and FBT. The papers went on to state that the tax treatment of LAFHA was very generous, given that it allowed taxpayers to receive a large part of their remuneration tax-free, even if they incurred no additional costs from living away from home. The papers concluded that the proposed changes, despite increasing compliance costs, would impose a limit to the FBT exemption and be an improvement compared to the current open-ended exemption.

2.16 The proposed provisions sought to clarify whether a person was living-away-from-home by specifying time limits. For example, they provided that a payment would not be a LAFHA where an employee stayed in a location for more than 12 months (employees in remote areas were to have a two year limit and expatriate employees a four year limit). The proposed changes also sought to require both the employer and employee to make declarations.

2.17 The amendments also proposed to redefine the term ‘exempt accommodation component’ by limiting it to the amount actually incurred by the employee on accommodation. There was also to be an added requirement that the amounts be fully substantiated before the taxable value of a LAFHA could be reduced.

2.18 In late 1995 the then Government announced that it was not proceeding with changes to the LAFHA provisions. This was as a result of the substantial concerns expressed by industry groups about the effect of the proposals and the effect that they might have on business, including increased compliance costs.

2.19 In 1998 the Tax Office commenced enquiries as a result of community information relating to the alleged misuse of LAFHAs by a labour hire organisation within the IT and computer consulting industries. This initial investigative work was focussed on gathering information as to the arrangements in place.

2.20 In 1999 a media report on national television focussed on foreign visitors, predominantly ‘backpackers’, and alleged that tax was not being paid on income earned in Australia. A dominant theme in the segment was that Australian tax revenue losses were substantial. The media report alleged that foreign visitors, many of them on working holidays in Australia, were taking local jobs and paying virtually no income tax.

2.21 In 1999 the tax officers involved in the enquiries prepared a project plan. One of the risks identified in the project plan was the diversion of personal services income to an Australian based umbrella company that then payed a service provider a salary or wage and a LAFHA. The project plan noted that the Tax Office’s risk management systems had identified this issue as a high risk in terms of revenue consequences and the possibility that the practice may become more widespread in the community if the Tax Office failed to act quickly. The Tax Office estimated that there were approximately 10,000 employees receiving a LAFHA but with no entitlement to do so, representing $170 million in revenue forgone each year.

2.22 In the course of the investigations a number of technical issues, including the application of Part IVA, were considered by the Tax Office and a number of proposed taxation determinations and a taxation ruling were considered by the Rulings Panel which led to the release of Draft Taxation Determination TD 2000/D5. The Tax Office also publicly released Taxpayer Alert TA 2002/7. A range of compliance strategies were also developed by the Tax Office, but they were not pursued to finality to resolve the issue. These strategies included running test cases, discussing law changes and, at one point, a proposal to issue up to 6,000 amended assessments to individual taxpayers. In 2001 the Tax Office issued the only two amended assessments arising from the investigations. There was also a meeting held between Tax Office compliance officers, technical officers and the Treasury to discuss how the Tax Office should deal with LAFHAs both generally and in the context of the project.

2.23 In 2002 the responsibility for the design of tax laws and regulations was relocated from the Tax Office to the Department of the Treasury.

2.24 Throughout much of this period the Tax Office was dealing with a number of co-operative taxpayers, representative of the industry, who incurred substantial costs in relation to these dealings.

2.25 The Tax Office’s approach during much of the 10-year period to 2005 was characterised by internal debate and disagreement, often at very senior levels, about how the LAFHA provisions apply. This resulted in an ongoing inability to conclude a corporate view of the law as a basis for resolving the issue in a timely way.

2.26 In May 2003, the Tax Office concluded that Pt IVA did not apply to the arrangements under investigation. Despite numerous taxpayer requests, the Tax Office did not withdraw Taxpayer Alert TA 2002/7 until July 2005.

2.27 In 2005, after a meeting between the Second Commissioner Law and the Deputy Commissioner Small Business, the Tax Office adopted the following approach:

Withdraw Taxpayer Alert TA 2002/7 on the basis that there had been improvements in practices within the industry.
Institute a compliance program from within the Small Business line to check that improvements within the industry continued.
Adopt a ‘usual place of residence’ approach consistent with MT 2030, that is, an ‘intention to return’ test (an intention to return to the same city or district in their home country) rather than a ‘bricks and mortar’ approach (an actual residence must exist in their home country).
In respect to the meaning of the word ‘additional’, a new taxation determination to clarify that all reasonable expenses are considered to be additional.
In respect to causation, adopt an approach consistent with MT 2030 which requires direct causation, that is, taking up the job required the travel.
Set out in a Practice Statement what a reasonable allowance would be and what would be expected in terms of the process that an employer would go through to assess what is a reasonable allowance.

2.28 In July 2005, the Tax Office again discussed its concerns about the operation of the LAFHA provisions with Treasury. The Tax Office considered that difficulties arose with the practical administration of LAFHAs due to the lack of certainty in the use of such terms as ‘usual place of residence’, ‘additional expenses’, ‘reasonableness’ and issues such as the length of time an employee may be entitled to concessional LAFHA treatment. The Tax Office advised that external legal analysis and submissions were not able to be rebutted and that the practices subject to the audit project were acceptable under the current law. The Tax Office indicated that the risks and difficulties identified in 1995 had not abated and may have increased. The Tax Office also advised that the reasons for the proposed 1995 amendments and the acceptance at that time of the administrative difficulties faced by the Tax Office, employers and employees were still present. The Tax Office advised that it would continue to monitor LAFHAs and would, as necessary, inform Treasury of further developments. In the absence of such advice, the Treasury file note stated that Treasury considered the current FBT law as giving effect to government policy.

2.29 The Tax Office has not at any time since 1995 formally approached Treasury or the Government seeking changes to the LAFHA provisions.

2.30 In late 2005, after ongoing discussions with industry members and their representatives, the Tax Office reached an agreed outcome with the taxpayers including the withdrawal of Taxpayer Alert TA 2002/7 and a return to the original view expressed in MT 2030. The Tax Office also announced the withdrawal of Draft Taxation Determination TD 2000/D5 following a letter from the Inspector-General that noted that taxpayers had been seeking its withdrawal for some time since the change in the Tax Office’s view.

Current administration of the LAFHA provisions

2.31 The current administrative outcome and legal position appears to be that anyone, including backpackers, who claims to be living away from their usual place of residence can, as part of their remuneration agreement with their employer, receive tax-free remuneration to cover their accommodation and food expenses for extended periods. In simple terms, some employees including overseas visitors to Australia who find employment after they arrive, can effectively salary sacrifice for normal living expenses if their employer agrees.

2.32 The following example of a case that the Tax Office has recently allowed shows how it currently administers LAFHAs:

The taxpayer came to Australia on a working holiday visa in 1998. After 12 months he decided to extend his stay. He obtained sponsorship, found a job and over three years received a substantial part (31 per cent) of his remuneration as a tax exempt LAFHA on the basis that he was living away from home in order to undertake employment duties and was incurring additional expenses. The Tax Office sought to amend his assessable income to include the LAFHA, but subsequently allowed the taxpayer’s objection in late 2005 on the basis that the circumstances met the requirements of MT 2030. From a total income over the three years of $170,169 the taxpayer received over $52,000 tax-free.

2.33 From the taxpayers perspective the current situation is that the Tax Office has accepted that the practices it was previously concerned about are permissible under the law. However, this has come after significant time delays and costs.

2.34 The Tax Office has advised that the issues arising in this case study only relate to situations involving foreign nationals and that it was undertaking targeted compliance activity. It considers by implication that its administration of LAFHAs in the domestic setting has been adequate. The Inspector-General notes that the key issues, principles and laws relating to these arrangements are equally relevant to all other employers, including those employing Australian employees. These include the meaning of the key legal terms ‘usual place of residence’, ‘additional costs’ and ‘required to live away’. The Inspector-General also notes that the Tax Office has done very little, if any, field work as a basis for its view.

Principles of good tax administration and issue resolution

2.35 In a self assessment system, audit investigations are a necessary element in ensuring that taxpayers fully and accurately comply with the taxation laws. The Tax Office has a responsibility to undertake help and enforcement activities both to influence taxpayer behaviour towards voluntary compliance and to address non-compliance. It must assure the community that there is an acceptable level of compliance with the taxation laws.

2.36 However, taxpayers selected for audit investigations also bear the compliance cost associated with achieving these outcomes. They also have other regulatory and commercial imperatives that can be affected by prolonged periods of uncertainty in their tax affairs. It is therefore important that the Tax Office’s conduct and approaches to audit investigations minimise excessive delays to taxpayers, particularly where issues are novel, complex or the law is uncertain.

2.37 Where the Tax Office encounters such issues, then principles of good tax administration require, amongst others:

timely identification of issues;
timely resolution of issues including an early objective view of how the law applies, and approaches and processes that are objective, fair and transparent;
timely communication of issues to taxpayers;
provision of objective guidance to the community on technical and administrative issues — how to comply — at the earliest possible time; and
recognition that, if resolution and guidance are not provided within a reasonable timeframe, the area of the law is by definition difficult and that this should be reflected in the compliance strategies.

Protocol between the Tax Office and Treasury

2.38 Under the current arrangements, there are a number of different agencies involved in the development and administration of the tax laws. The Treasury has the primary responsibility for advising Government on tax policy and designing the tax laws, with Government having ultimate responsibility for determining tax policy. The Office of Parliamentary Counsel is responsible for drafting the law, with the Treasury responsible for instructing legislative drafters and for the production of explanatory materials. A bill becomes an Act — a law — only after it has been passed by Parliament and receives Royal Assent. The Commissioner of Taxation is then responsible for the administration of the taxation laws. This includes the requirement that the Tax Office provides, subject to the guidance of the Courts, the official interpretation of the enacted law.

2.39 Despite the distinct roles of each agency, there is a protocol in place for the Treasury and the Tax Office to work cooperatively to ensure that the administrative, compliance and interpretative experience of the Tax Office fully contributes to policy and legislation development processes. This protocol is set out in Practice Statement PS CM 2003/14.

2.40 The protocol that has been in place since 2003 enables the Tax Office to provide formal advice where it identifies significant issues that need to be drawn to the attention of the Treasury or Government, such as where the Tax Office identifies problems in the operation of the tax system like anomalies or unintended consequences in the legislation. The protocol also states that where the Tax Office seeks to make a specific recommendation to change a policy approach or law design, it is highly desirable that the Tax Office advice is comprehensive. This requires the Tax Office to provide a full assessment of all the impacts and this advice is required to be expressed in the form of an Administrative Impact Statement. Such a statement should include the Tax Office’s understanding of client impacts, revenue impacts and the administrative impacts, including such things as questions of interpretation, compliance and operational issues. The Practice Statement states that the Tax Office advice should be in the form of a recommendation with a full assessment of all the administrative impacts should the recommendation not be acted upon.

2.41 If the Tax Office is not satisfied that Treasury has adequately dealt with issues raised in formal advice, existing processes provide for the matter to be escalated to the Tax Policy Coordination Committee — a regular meeting of senior officials from the Tax Office and Treasury. Notwithstanding these processes, the Tax Office can, at any time, raise issues directly with the Government.

2.42 In relation to pre-existing (that is, enacted) law, the protocol states that the enacted law itself is ultimately the statement of intent of the Parliament, and that the Tax Office has the exclusive role of determining the official interpretation of the law. In these cases, Treasury does not provide statements of policy intent, but, where matters are uncertain, may engage in dialogue with the Tax Office in terms of the implications of its view in interpreting and administering the law.

Purposive approach in the interpretation of the law

2.43 The Tax Office is also obliged to adopt a purposive approach in the interpretation of the tax laws and has stated that it does. Such an approach requires that the interpretation delivers the intention of the law even where alternative interpretations are possible. A purposive approach therefore requires that the underlying purpose or object of the provision and policy intention are clear and discoverable through the words of the Act, legitimate extrinsic materials and relevant case law.

2.44 The Tax Office also has access to information that is not available publicly as extrinsic references including background material to the design and creation of tax laws, and access to Treasury advice. These sources can also legitimately assist the Tax Office in concluding a purposive interpretation.

2.45 If extrinsic materials and other information legitimately available to the Tax Office for a purposive approach do not adequately clarify the purpose or intent, then the Tax Office may face difficulties in settling its view internally and also be unable to defend its interpretations when faced with challenges by taxpayers and their advisers with alternative interpretations available on the words. It also follows that taxpayers will be adversely impacted, through ongoing uncertainty and costs where the Tax Office struggles over a long period of time to deal with a perceived compliance risk in an environment of ambiguous or uncertain law.

2.46 There are, however, a number of courses open to the Tax Office in these circumstances including running test cases and formally seeking legislative changes through the Treasury or, if necessary, by raising the matter directly with the Government.

Risk management approaches

2.47 The Tax Office is not resourced to chase every last dollar payable under the law nor is it able to review every last transaction or event that may have tax consequences. Rather, the Tax Office has to adopt a risk management approach to compliance that involves making informed risk based assessments about the allocation of its resources to optimise compliance with the tax laws.

2.48 The Tax Office adopts an end-to-end process for risk management based on a conceptual model that encompasses the complete cycle of risk management from identification to treatment and review.

2.49 The end-to-end process involves the following deliverables:

identification of risks through intelligence capture and analysis;
analysis of the issues arising and risk assessment of those issues;
early warning to the community and stakeholders as appropriate;
development of the Tax Office view on the substantive tax issues involved in the scheme or arrangement;
implementation of strategies to treat the risks to the revenue and to the integrity of the system; and
review to improve procedures and treatments.

2.50 Such an approach means that the level of scrutiny of taxpayers’ affairs depends on their level of non-compliance with the law. Where the Tax Office identifies a serious or widespread risk, then it will increase and intensify its scrutiny.

2.51 The Inspector-General considers that before determining the level of risk and non-compliance with the law the Tax Office must be able to arrive at the following:

an objective view of taxpayer conduct, including behaviour, arrangements, facts and contemporary commercial circumstances;
an objective view of the law; and
an objective view of what outcomes the law should be achieving.

2.52 After having objectively analysed the risk, the Inspector-General considers that the Tax Office must seek to objectively implement the Tax Office view. This should involve establishing and communicating a treatment strategy appropriate to the confirmed risk. That strategy may involve a set of actions, which can include making determinations under Part IVA, litigating the substantive issues about the legal efficacy of the arrangement, audits or where there is uncertainty in the law running test cases or negotiating individual or widely-based settlements. In implementing a treatment strategy it is important that the Tax Office actions are consistent with the taxpayer’s behaviour and risks, and the Tax Office’s own past actions (or lack of action).

Current Tax Office practices

2.53 Over the past few years the Tax Office has introduced a number of initiatives to improve the quality and timeliness of its review, audit programs and decision-making processes relevant to managing significant issues. These include:

The establishment of a framework for risk and issues management, as set out in Practice Statement PS CM 2003/02.
The better management of priority technical issues through the procedures set out in Practice Statement PS LA 2003/10.
The introduction of case leadership roles for the large business and small to medium enterprise segments.
The implementation of the priority private binding ruling process, as set out in Practice Statement PS LA 2005/10.
New Practice Statement PS LA 2005/24 that provides instruction and practical guidance to tax officers on the application of Part IVA and provides an opportunity for a taxpayer (and/or a representative of the taxpayer at the taxpayer's election) to attend a Part IVA Panel meeting and address the Panel.

Review conclusions

1. The Tax Office had reason to be concerned about the potential revenue impacts where there was evidence of potentially excessive LAFHA payments as identified in the 1999 media reports. It had to investigate them.

2. The Tax Office takes a risk management approach to its compliance activities. Inherent in this approach is that some identified risks may not be addressed until their relative significance (in terms of either revenue or risks to the system or a combination of factors) rises above other priorities. This is inevitable, but could be the reason behind perceptions that the Tax Office appeared to allow significant periods of time to elapse before an issue is seen to have accumulated enough potential revenue leakage to initiate compliance action.

3. The Tax Office took far too long to resolve the technical and compliance issues arising from this project and has acknowledged that. Resolving the technical issues and establishing a corporate technical view were on the critical path of developing an effective resolution strategy. The Inspector-General concludes that the time frames for resolving the technical and compliance issues arising from this project were excessive and not reasonable in the circumstances.

4. The Tax Office had adequate extrinsic and other information for it to decide within a reasonable timeframe a technical view that would have been a sound basis for moving forward to resolution.

5. The Inspector-General concludes that the following factors contributed to the excessive timeframes in resolving the technical and compliance issues:

a. An inability to conclude in a timely manner a corporate position on how the law should apply.

b. Prolonged internal differences of opinion on the legal position and compliance strategies, sometimes at very senior levels.

c. Objective interpretation of the law clouded by attempts to deliver particular enforcement strategies. There appeared to be a great reluctance by the Tax Office to objectively appraise the strengths of taxpayers’ technical position due to the underlying belief that foreign nationals on working-holiday maker visas should not be entitled to a LAFHA.

d. Lengthy, delaying diversions to consider the potential application of Part IVA as a silver bullet compliance strategy. This process was eventually abandoned when it was realised that the primary tax laws (income tax and FBT) provided an adequate framework for compliance (provided an interpretation could be arrived at).

e. On again-off again test case strategies that were eventually all abandoned (at the cost of more timely and objective resolution).

f. Plans to pursue one-size-fits-all, anti-avoidance enforcement action against a large number of working-holiday visa employees based on a view of the law that the Tax Office subsequently withdrew and on very little casework that examined the individual circumstances of those taxpayers receiving LAFHAs.

g. There was no single senior tax officer that had overall ownership of the technical and compliance issues until late in the dispute. Once a senior tax officer was allocated to the dispute with overarching ownership of the resolution of the dispute this provided a central focal point for internal discussion, a more co-ordinated approach by the Tax Office and a senior contact point for the taxpayers and their representatives. These aspects helped improve the relationship between the taxpayers and the Tax Office and progress the dispute towards resolution.

6. The Tax Office continues to believe that there are compliance and administrative difficulties with LAFHAs. For example, in discussions with the Treasury the Tax Office again expressed its concern with the ongoing administrative difficulties faced by the Tax Office, employers and employees. It also stated that the risks and difficulties associated with the LAFHA provisions had not abated since 1995 and may have increased.

7. Issues such as LAFHA may have broader implications that may increase complexity from a Tax Office viewpoint. The need to be cognisant of the potential compliance burdens on employers and the possible impact that the Tax Office’s interpretation of these provisions could have had on the movement of employees both into and out of Australia are examples. However these considerations should not colour the process of reaching an objective, purposive interpretation of the law.

8. The Tax Office is charged with the administration of the tax system, which includes interpreting and applying the law. In most instances the Tax Office fulfils its interpretive obligations in a timely way; but there is a need for a circuit breaker process or intervention when reasonable timeframes have been exceeded. This is especially relevant when faced with issues that are complex, novel or where there is some uncertainty in the law.

9. Effective administration requires the timely interpretation of the tax laws and decision-making so as to provide taxpayers with sufficient certainty on the application of the law and allow for disputes to be resolved or, if necessary, progressed to the tribunal and courts. Excessive delays in reaching a corporate technical position erode community confidence in the tax system and fuel perceptions of unfairness.

10. Between 1999 and 2004 the Tax Office adopted at least five different strategies, including the mass application of Part IVA, test case litigation, a re-write of MT 2030 and the release of further taxation rulings and determinations. The Tax Office never pursued a particular strategy to finality because of its inability to conclude and maintain a corporate position on how the law should apply. The audit project team appropriately escalated technical issues, but these took far too long to be resolved. Ultimately, the Tax Office sought to work with particular industry groups to develop self-regulatory guidelines.

11. Taxpayers involved in the Tax Office’s compliance processes incurred higher than necessary costs as a result of the Tax Office’s protracted and prolonged timeframes.

12. The Tax Office’s actions in managing this issue, as set in the chronology in Chapter 4, support taxpayer concerns including:

That the Tax Office’s position has been driven by its view of what the policy should be regarding the payment of LAFHA and its efforts have been largely directed to finding ways that the law can be applied to support that policy.
That if the law supported the Tax Office’s attack, then the issue would not have been outstanding and debated for 7 years at a great cost to the taxpayers involved.
That part of the Tax Office delay may be attributed to it seeking to address arrangements it did not like where the law did not adequately support the Tax Office view of who should be entitled to a LAFHA.

13. There were also instances where the taxpayers were treated unfairly, not only through the excessive timeframes in resolving the dispute, but also in the Tax Office’s handling of various aspects of the disputes, contrary to the Tax Office’s stated values. This included:

Despite numerous taxpayer requests, the Tax Office refused to withdraw Taxpayer Alert TA 2002/7 even though its view on the application of Part IVA had changed.
The Tax Office refusing to acknowledge that the taxpayers were under audit even though internally it had decided to seek legal advice on a number of issues arising from the audit project, issue Part IVA determinations and issue amended assessments to individual taxpayers.
Seeking to limit the disclosure of information to taxpayers regarding its approaches.
An absence of a sense of urgency on the Tax Office’s part to resolve its technical view despite ongoing taxpayers requests to work with the Tax Office to resolve the dispute.

14. The Inspector-General found that the file management by the audit project team was good with detailed file notes and all relevant documents kept chronologically on file.

15. In recent years the Tax Office has improved its processes for identifying and resolving issues that are complex, novel or where there is some uncertainty in the law. One example is the Tax Office’s initiative in allowing taxpayers to attend Panel meetings which the Inspector-General believes promotes openness and transparency in the tax system. The Tax Office has also introduced a number of recent processes and procedures, such as the management of priority technical issues and the introduction of case leadership roles for the large business and small to medium enterprise segments. These are positive steps forward in improving the quality and management of active compliance activities. However these processes could be strengthened, by introducing appropriate circuit breakers, to further reduce the likelihood that significant issues such as LAFHA will take too long to resolve.

16. Where you have a dispute unresolved for a period of seven years with no clear guidance from the Tax Office as to their technical view and compliance approach, especially where you have ongoing changes in approach and strategy, then there will obviously be uncertainty amongst taxpayers. The Tax Office did make some attempts to provide further guidance, but these were met with significant external criticism, with many believing that the Tax Office was going beyond what was stated by the law.

17. The Tax Office has recently sought to provide greater guidance to taxpayers including the development of industry guidelines and the additions to the FBT Employers Guidebook. These provide a good starting point for broader community guidance on the Tax Office’s view, in particular, the practical application of that view.

18. To date MT 2030 continues to represent the Tax Office’s view on LAFHAs despite its numerous identified shortcomings in providing clear guidance to taxpayers. Taxpayers and stakeholders have also expressed concern at the adequacy of MT 2030 in providing community-wide guidance on the Tax Office’s view on the interpretation, administration and practical application of the LAFHA provisions.

Recommendations

2.54 The following key recommendations seek to ensure that the Tax Office provides greater certainty to taxpayers on the key technical issues relating to its administration of the LAFHA provisions.

Key Recommendation 1

The Commissioner of Taxation should conclude a corporate view on whether the Tax Office should formally advise the Treasury, in accordance with Practice Statement CM 2003/14, that legislative change is required or not.

Key Recommendation 2

In the absence of the Tax Office providing such formal advice to Treasury or any legislative change, then the Tax Office should issue a new public ruling to replace Miscellaneous Taxation Ruling MT 2030. The new public ruling should provide community-wide guidance and certainty on the Tax Office’s interpretation, administration and practical application of the LAFHA provisions, and should include clarification of the key technical issues arising from this review such as:

usual place of residence;
meaning of the term ‘additional’;
factors the Tax Office would take into consideration in determining what was ‘reasonable’ for the purposes of a LAFHA including guidance on methods which would be acceptable to the Tax Office;
causation between employment and entitlement to receive a LAFHA, in particular, whether there is a requirement for a pre-existing employee/employer relationship for a LAFHA entitlement.

2.55 Guidance on the key technical issues raised during this case study will also ensure a clear, established Tax Office view being available to all taxpayers and minimise prolonged timeframes in resolving such disputes should they re-emerge in the future.

2.56 This report also signals possible recommendations for more systemic changes arising from this review. These broader recommendations will, together with others arising from the Research and Development and Service Entity case studies, be issued as part of the fourth report foreshadowed by the Inspector-General. These possible recommendations seek to minimise excessive delays in the resolution of complex technical and compliance issues through:

Improving the development of technical, compliance and resolution strategies by:
- Setting reasonable time limits for the Tax Office to resolve its view of how the law applies in respect of priority technical issues and other issues requiring precedential views.
- Introducing appropriate circuit-breakers in the pre-existing processes and procedures where they are not leading to the timely resolution of technical issues. For example, with priority technical issues this may include the escalation of the issue to the Priority Technical Issue Committee so as to form the Tax Office view after a reasonable time has elapsed.
Improving taxpayer access to senior technical management and key decision-makers by:

Providing formal avenues for escalation, review or comment of the Tax Office’s resolution strategies where they are not leading to timely resolution of a dispute. This could include the escalation of cases involving priority technical issues to case leaders after a reasonable time has elapsed and taxpayers having mandatory rights of representation to these case leaders.

Improving its communication with members of the community by:

Revising its publications, such as its Taxpayers Charter booklet dealing with audit, to clearly set out when a taxpayer is under audit.
Ensuring that taxpayers have access to all the relevant information before the Part IVA Panel and not just of that contained in the position paper.
Making publicly available, in an edited format, the PTI Register including the topic, its date of inclusion of the PTI Register and the due date for completion of the technical view.
Developing and applying a set of guidelines as to the form, content and purpose of a position paper.
Ensuring that the Tax Office promptly withdraws taxation rulings, taxation determinations or other interpretative decisions where it has changed or is uncertain with its view.

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