ATO process and criteria for deciding to retrospectively apply new or clarified views

5.1 As set out in the previous chapter, the current law relies on the Commissioner exercising his powers of general administration not to undertake compliance action for prior periods on particular issues where taxpayers self assess in accordance with a general administrative practice (GAP). There are a range of concerns with this administrative process and criteria, which are discussed below.

Overarching principles

5.2 On one view, the ATO's ability to apply views retrospectively promotes a desirable deterrent effect on those seeking to take inappropriate advantage of uncertainty or ATO errors in non-binding material. It may also encourage taxpayers to seek clarity and raise the ATO's awareness of all issues where the law was unclear.

5.3 However, this approach may also penalise taxpayers where they follow the law or ATO advice in good faith or hold a reasonable belief that the ATO had knowingly accepted the practice. The examples demonstrate that some areas of ATO change have been, in what were thought by a broad cross-section of the tax profession, a reasonably settled and longstanding accepted practice of application of the law.

5.4 For example, when the Division 7A provisions were first enacted into the Income Tax Assessment Act 1936 (ITAA 1936), small businesses sought clarity on whether unpaid present entitlements which were used by trustees in their businesses would be considered 'loans' for the purpose of that Division. From 1999, the ATO answered the issue as an 'FAQ' on its website. Several questions on this issue were asked, all of which (until February 2009) concluded that such arrangements were not loans and Division 7A would not be triggered. However, in 2008, the ATO identified compliance concerns in a small number of cases. In 2009, a senior tax official publicly stated that in these circumstances Division 7A could be triggered. Tax practitioners perceived a change in ATO approach on the issue and that it may be applied to commercial arrangements (estimated by some to number up to 460,000) which were already entered into in reliance on what was thought to be an ATO awareness and longstanding acceptance of such a tax treatment. The IGT notes that in December 2009, the ATO issued a draft ruling which proposes to apply part of its view prospectively. The IGT notes that, at the time of writing, there was still significant private sector dissatisfaction and it is likely that there will be further debate on this issue.

5.5 The examples that were raised in submissions to the IGT show that frequently there are disagreements as to whether the ATO is changing a previous view or approach or merely clarifying it. A 'clarification' is said to be consistent with prior advice and therefore, on one view, retrospective application of that view is justified because the ATO always held that view. To a large extent these disagreements are due to the inherent difficulties with definitively determining whether a subsequent view or its application is clearly a 'change' or not. Take, for example, recent compliance action on 'exploration expenditure' under the Petroleum Resource Rent Tax regime. On one view the ATO's recent compliance activities in relation to the application of the law in relation to feasibility studies arguably narrowed the purpose and nature of 'exploration or prospecting expenditure' — when compared to paragraph 51 of taxation ruling TR 98/23. It could be argued that the ATO officers placed more weight on different paragraphs in the ruling with the effect of reducing the scope of exploration expenditure in relation to feasibility studies and when those studies could be conducted. On another view, it could be argued that the application is entirely consistent with the ruling.

5.6 Overall, the IGT considers that the distinction between 'changed' views and 'clarified' views is unhelpful because it does not resolve the tensions that underlie the perceptions of unfair ATO treatment — that is, reasonable taxpayer reliance on the ATO's administration of the law at the time that taxpayers relied on that ATO conduct.

5.7 In this context, the IGT considers that the overarching aim of the Commissioner's exercise of his power of general administration should be the fair and reasonable treatment of taxpayers by striking an appropriate balance between:

  • protection for taxpayers where the ATO has facilitated or contributed to formation of taxpayer views which are inconsistent with subsequent ATO views; and
  • preventing a laissez-faire situation where any position could be arguably justified on a particular area of uncertainty before the ATO releases its formal view.

Criteria for exercise of Commissioner's power

5.8 A broad cross-section of the tax profession was also concerned with the criteria that the ATO chooses to consider in exercising the Commissioner's power of general administration. They consider without guiding principles or a self-executing process, the criteria set out in paragraphs 22 and 23 of the appendix B to the PSLA 2009/4 (set out above) provide scope to justify decisions made with the objective of revenue protection, rather than seeking to achieve what is fair and equitable for all.

5.9 The IGT believes that there is scope for improving the current processes so that proportionate and fair outcomes can be better achieved in a manner that instils greater public confidence. More could be done to ensure that such decisions are guided by clearly stated principles, with reference to considerations that are clearly relevant. The decision-making process should be transparent and instil public confidence that the competing principles have been appropriately balanced. Taxpayers should be able to input into such a process every time the ATO proposes a new, changed or clarified view.

5.10 The IGT has worked with the ATO, with input from industry and tax practitioners, to develop mechanisms that should help to reduce the adverse impacts of changed and delayed ATO advice. These are set out in recommendation 2 below.

5.11 Generally, the criteria seek to determine the extent to which the ATO facilitated or contributed to the practice, and if so, make any change prospective in effect. Other criteria also need to be considered, such as whether the taxpayer has taken reasonable care in adopting a practice which is devoid of legal merit. Naturally, the ATO has an overriding power to seek compliance on a retrospective basis where there is fraud, evasion or tax avoidance involved.

Recommendation 2

For the purpose of reducing the adverse impact of delayed or changed ATO views on significant issues, the ATO should within 12 months openly develop in collaboration with the taxpayer community, its administrative practice concerning the circumstances in which it seeks to apply its views retrospectively by incorporating the following process steps and considerations.

  1. Process steps
    1. Before announcing any view, the ATO would conduct its own research to see whether its previous publications or conduct could have conveyed a different view. The Commissioner, based on this research, will then consider a number of criteria (set out below) to decide whether to take compliance action, in accordance with the new view, prospectively or retrospectively.
    2. Where the new view is contained in a public ruling or determination, the Ruling Panel, in addition to their substantive recommendations to the Commissioner would opine on whether to take retrospective or prospective compliance action. In addition, taxpayers, tax practitioners and relevant representative bodies would be invited to express views on this issue as part of the consultation process in developing the ruling or determination.
    3. In the final product the ATO would state whether compliance action would be on a go forward basis or not and would provide reasons for such a position.
    4. Where the actual product does not involve the Ruling Panel, for example, practice statements, audits, etc. the process would be the same except for the non-involvement of the Panel.
  2. The criteria to determine whether to apply new or clarified ATO views retrospectively or not should be based on fair and reasonable treatment and should strike a balance between:
    • protection for taxpayers where the ATO has facilitated or contributed to formation of views, by taxpayers, which are inconsistent with subsequent ATO views; and
    • preventing a laissez-faire situation where any position could be arguably justified on a particular area of uncertainty before the ATO releases its formal view.
  3. On the above basis, the criteria should be as follows:
    1. the extent to which the ATO has facilitated or contributed to the taxpayer perception of the previous industry practice or position, including whether:
      • the ATO became aware of the previous industry practice or position (e.g. through audits) but did not challenge it within a reasonable timeframe,
      • the previous industry practice and position can be reasonably understood from ATO statements on how to administer the law,
      • a general administrative practice supporting the previous industry practice or position can be deduced from other ATO conduct, and
      • the time that has elapsed since the ATO's first awareness of the issue, publicly announcing it would challenge the previous practice and the time taken to finalise its new view;
    2. the extent to which affected taxpayers had taken reasonable care in adopting the previous industry position or practice and whether such a position or practice is not devoid of legal merit;
    3. the extent to which the ATO has relied on material not available to taxpayers generally (for example Treasury files and discussions) with respect to its new/clarified view; and
    4. as an overriding qualification, the ATO would reserve its right to apply views retrospectively where there is fraud, evasion or tax avoidance (viz Part IVA of the Income Tax Assessment Act 1936 or section 165 of A New Tax System (Goods and Services Tax) Act 1999).

It should be noted that any of the above criteria, other than tax avoidance, may not be sufficient of themselves. They must be considered as a whole in making a determination.

ATO response

The ATO agrees with the recommendation but has reservations about the relevance of criterion (c) (iii).

In considering the circumstances when an ATO view should only be applied prospectively, it is important to have regard to the legal framework under which the ATO administers the taxation laws. A taxpayer's liability is determined in accordance with the law subject to where a ruling issued by the ATO applies to the taxpayer. A public, private or oral ruling is binding on the Commissioner if the ruling applies to the taxpayer and the taxpayer relies on it.

The legal framework which supports the ATO's advice and guidance products is aimed at striking a balance between the needs of specific taxpayers to have certainty in their affairs and the need to protect the public revenue and thereby provide fairness to all taxpayers. It is the general community which bears the cost where the ATO makes a mistake in a legally binding document, while the taxpayer who has been able to rely on that document has received a benefit not available to others.

The outcome of the Review of Self-Assessment (ROSA) clearly envisaged two main forms of ATO advice:

  • Legally binding advice where taxpayers who reasonably rely on it would be protected from having to pay any further primary tax in accordance with the law, as well as penalties and interest charges, and
  • Other advice, which we call guidance, which provides more general information to assist taxpayers where taxpayers who reasonably rely on that guidance would be protected from penalties and interest charges.

This legal framework is the starting point for deciding whether, under the Commissioner's powers of general administration, there are circumstances which warrant the ATO deciding only to apply its view of the law on a prospective basis.

The ATO is of the view that the examples provided to the Inspector-General do not provide evidence of the ATO applying a change of view retrospectively. Some of the examples refer to opinions expressed in discussion papers which were issued by the ATO to facilitate consultation before the ATO formed its view on the particular issue. As pointed out in the report at paragraph 5.5, other examples demonstrate a difference of view about whether the ATO was merely clarifying an earlier view.

We agree with the process steps outlined in part (a). The ATO has for a number of years considered the appropriate date of effect of advice expressed in public rulings, as evidenced by the significant number of issued draft and final public rulings that have had special date of effect arrangements. TR 2006/10 (and TR 92/20 before it) sets out the principles and guidelines to be followed in deciding the date of effect of public rulings. The Rulings Panel provides advice on the appropriate date of effect.

The ATO agrees with the principles reflected in part (b). These are consistent with the approach outlined in TR 2006/10 and PS LA 2008/3 ( and TR 92/20 before them).

The ATO agrees with the criteria in part (c) apart from reservations about the relevance of point (iii). We will consider this further during consultation with taxpayer representatives. Where more than one possible interpretation is open in respect of an issue the ATO may consult with Treasury in seeking to understand the purpose or object of the particular provisions. However, the ATO's view is not determined by any such advice received. The ATO applies legally accepted principles of statutory interpretation, which means taking a purposive approach to the interpretation of the law which has regard primarily to the words of the relevant provisions read in the light of the scheme of the Act and the history and objects of the provisions.

The ATO agrees with the Inspector-General that the criteria must be considered as a whole and it is a weighing of the various criteria which will determine whether the ATO will apply its view only on a prospective basis. For example, the identification of an issue in an audit where no action was taken because it was not considered to be a sufficiently high risk does not by itself mean that the later application of the ATO view in respect of that issue should only be on a prospective basis.

5.12 The IGT will maintain a watching brief over the development of the ATO's administrative practice. Additionally, in accordance with current IGT practices, the IGT will review the implementation of these actions at a future date.

Taxpayer protection where the ATO is unaware of the issue

5.13 On one view, the GAP provisions generally reveal that the level of intended taxpayer protection effectively depends upon ATO acceptance of the practices that taxpayers adopt under the law. 'Acceptance' does not require positive action on the ATO's part. However, it does require that the ATO is, at least, aware of the practice.

5.14 Situations can also arise where the ATO may be unaware of an issue, taxpayers take positions which are inconsistent with an ATO view that is eventually released and there is no question of tax avoidance — for example, where taxpayers self-assess their tax liabilities under new law in the absence of any ATO indications of its technical interpretation or application of the law to facts.

5.15 In these cases, arguably, there is already protection — that is, against penalty and interest but not primary tax, provided that the taxpayer takes reasonable care and the position adopted constitutes a reasonable arguable position (RAP). If primary tax protection were afforded to an inappropriately low standard of interpretation of new law in the absence of ATO awareness, it could encourage tax avoidane as well as ATO responses in issuing 'protective' position papers, thereby reducing prospective certainty.

5.16 If the taxpayer requires protection against additional primary tax in these circumstances, a private ruling can be sought. But the problem can be with the time taken to obtain a private ruling from the ATO. This issue is currently being addressed in another IGT review, the review into the ATO's administration of private rulings.

5.17 Another difficulty is that often there is significant disagreement between the ATO and taxpayers in relation to whether reasonable care was taken and whether the taxpayer has a RAP. Taxpayers assert that the ATO appears to reject RAPs on the basis that the position does not agree with the ATO's view — that is, the ATO has a different assessment of the legal probability of the correctness for the taxpayer's view. Taxpayers point to a number of court decisions reversing ATO 'no RAP' decisions in support of their assertions. Taxpayers also argue that the ATO should take a wide interpretation as to whether there is a RAP in cases involving new law. However, this issue is outside the scope of this review, but has arisen in a number of other contexts and may be a potential review topic on the IGT's forward work program.