This report analyzes whether an arrangement between Rosy and James for Rosy to pay James $40,000 annually for accounting work is a "tax avoidance arrangement" under New Zealand tax law. The report examines two tests: 1) whether the arrangement has a tax avoidance purpose or effect, and 2) whether the arrangement is consistent with Parliament's purpose based on a commercially and economically realistic interpretation. While the $40,000 fee could be viewed as remuneration for services, factors like their close family relationship and the unreasonably high fee suggest the arrangement was primarily intended to reduce Rosy's tax liability, in violation of general anti-avoidance provisions.

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Tax Avoidance Report
Issue:
This report has been written because of that Rosy and James require advice on whether the
arrangement for $40,000 of accounting work fee paid by Rosy to James is acceptable. The
objectives of this report are to determine whether the arrangement is “tax avoidance
arrangement” which is void as against the Commissioner by applying s BG1 Income Tax Act
2007 (ITA 2007). In order to make a determination on that question, it is necessary to analyse
whether there is possibility of the arrangement being attached under the general anti-
avoidance rule [GAAR] of the ITA 2007 and relevant cases. This report examines two tests
which include the tax avoidance test and the Parliament contemplation test in order to
determine whether that arrangement applies to BG1 in ITA 2007.
Law:
The term of “arrangement” defined in sYA 1 means “an agreement, contract, plan, or
understanding, whether enforceable or unenforceable, is including all steps and transactions
by which it is carried into effect.” 1
The “tax avoidance arrangement”2 means “an arrangement entered in by the person directly
or indirectly –
(a) Has tax avoidance as its purpose or effect; or
(b) Has tax avoidance as one of its purposes or effects, whether or not any other purpose
or effect is referred to ordinary business or family dealings, if the purpose or effect is
not merely incidental”
To apply BG13, there are three elements must be assessed:
1. The presence of an arrangement within the meaning of the section;
2. Whether the purpose or effect of such an arrangement is “tax avoidance” as defined in
the section;
3. Whether the purpose or effect is “merely incidental”, if it is not, then BG 1 applies
As section BG 1 is broadly outlined, it is difficult to interpret and apply the anti-avoidance
provisions. The reason why that section has been drafted in such a way is that the taxpayers
1 “arrangement” s YA 1, Income Tax Act 2007
2 “tax avoidance arrangement” s YA 1, Income Tax Act 2007
3 S BG 1, Income Tax Act 2007

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may have more than “merely incidental” purpose or effect to reduce tax liability, a literal
interpretation in details would not be able to cover all circumstances; also the parliament
intended to cover legislations and arrangements in a broad rang in order to achieve justifiable
outcome. As a result of it, due to the difficulties of the definition of s BG 1, those three
elements shall not only be tested in the following application section, but also the Parliament
Contemplation Test shall be taken as well.
This test was established by Supreme Court in Ben Nevis4, and is “considering:
- Parliament’s purpose – purpose and effects must not be more than “merely
incidental”; and
- Interpretation of the arrangement in the commercially and economically realistic
way:
 The manner in which the arrangement is carried out
 The role of all relevant parties and their relationships
 The economic and commercial effect of documents and transactions
 The duration of the arrangement and
 The nature and extent of the financial consequences”
 Whether or not the arrangement involves inflated expenditure or reduced
levels of income?
The relevant cases include: Ben Nevis, Penny and Hooper, BNZ Investments Ltd, Alesco,
Challenge Corp Ltd, and other relevant cases.
Application:
The definition of the “arrangement” in Ben Nevis is consistent with the Penny and Hooper5,
which stated that an “arrangement” is not restricted by one particular transaction or decision,
but covers all steps and transactions. So it is necessary to be aware of whether such
arrangement has been carried out with the fulfilment of particular purpose or effect in
reducing the tax liability (tax avoidance). BNZ Investments 6case also indicates that whether
or not the effect of such arrangement has brought the taxpayer benefits in tax reduction, if
such an arrangement is a “tax avoidance arrangement”, section BG 1 applies. In accordance
4 Ben Nevis Forestry VenturesLtd v Commissioner of Inland Revenue (2000) 19 NZTC, 15,732 (HC)
5 Penny and Hooper v Commissioner of Inland Revenue [2009] 3 NZLR 523 (HC)
6 Commissioner of Inland Revenue v BNZ Investments Ltd [2002] 1 NZLR 450 (CA)

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with the fact of arrangement brought by Rosy and James, Rosy agreed to pay $40,000 each
year for accounting fee to James as remuneration of his work. This agreement can be covered
by the definition of an “arrangement” under s YA 1.Therefore, it is significant to exam
whether such arrangement is a “tax avoidance arrangement” under general anti-tax avoidance
rule (GAAR). However, before determining this issue, the Parliament Contemplation Test
shall be applied first, as Ben Nevis suggested looking at whether the arrangement complies
with what the Parliament contemplates to enact the legislation, and focus on interpreting
arrangement in commercially and economically realistic way.
To ascertain Parliament’s purpose is to determine whether the arrangement applies to the Act
in a way that is consistent with that purpose. The Parliament’s purpose should be interpreted
as a logical guide and principal, so rather determining how the guide approaches and analyses
the facts than considering an effect of its purpose on the tax concept. It shall be identified by
considering the relevant provisions and statutory scheme and context from extrinsic materials.
Even though some specific anti-avoidance rule accompanying provisions at the issue may
apply, it does not rule out the s BG 1.The decision in Alesco7 suggested that as it is difficult
to interpret the meaning of the ‘words’ on the text of the provisions, it should consider all
circumstances in the facts and focusing on the commercial and economical reality of the
arrangement.
There are two example in interpretation of Parliament’ purpose in a commercial and
economical concepts. In Ben Nevis the court had to look at the insurance premium expenses
in terms of deduction provision s DL 1 (3) of the ITA 19948, in order to identify whether or
not the presence of commercial “features” or “attributes” is in a contract of insurance9. The
result shows the Parliament’s purpose is identified as the commercial concept is approached.
Moreover, both Ben Nevis and Westpac10 contains an example of an economic concept. The
court of both cases decided that deductibility provision as specific tax rule is invoked by the
transaction “incurring of real economic consequences of the type contemplated by the
legislature”11. It means that the transactions taken by taxpayer carrying on business for
making profit shall approach to specific deduction provision. Such transactions would meet
to the Parliament’s purpose in economical concept. In accordance with previous two
7 Alesco New Zealand Ltd v Commissioner of Inland Revenue [2013] NZCA 40, [2013] 2 NZLR 175
8 Equivalent to s YA 1(1) of Income Tax Act 2007
9 Interpretation Statement June
10 Westpac Banking Corporation v CIR (2009) 24 NZTC 23,834 (HC)
11 Prior to Accent Management Ltd v Commissioner of Inland Revenue [2007] NZCA 230, (2007) 23 NZTC
21,323

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examples in identifying relevant Parliament’s purpose, the deductibility on remuneration
expense (accounting fee) for Rosy can be identified as specific deduction provision s DA 1 (1)
and (2) of ITA 2007. This is because of that even though there is no any contract signed by
both parties, the agreed regular annual payment was incurred as an expense for carrying on a
business for making profit. Therefore, this transaction is complying with the legislation when
the rule was enacted.
After the relevant Parliament’s purpose has been identified, it is necessary to determine
whether or not the tax avoidance purpose or effect is “merely identical”. It means that if the
taxpayer had the tax avoidance purpose/motivation in mind when arranging that agreement,
the tax avoidance arrangement would apply, hence s GB 1 applies. Challenge Corp Ltd had a
discussion about what “merely identical” means. If the assessment has to include the
estimation of the tax payer’s motivation, the problem would be magnified. Therefore, as
mentioned in Newton12case, the purpose is not something subjectively based on the terms of
motivation but referring to the arrangement itself in the objection. A constructive principle
provided from this case is that the “merely identical” purpose or effect is something which
“naturally following from or is linked to some other purpose or effect”, so it is called
accompanying thing.
Another example of application of “merely incidental” purpose is in the decision of Penny
and Hooper. This case raised a question in which whether the tax avoidance arrangement can
be determined by considering the effect produced by the arrangement in combination with the
operation of the other features of the structure. The fixing of salaries at unnaturally low level
as an arrangement enabled the taxpayer to obtain the benefits of use of the financial funds
without impost the highest tax rate. As a result of it, the tax avoidance purpose was more than
merely incidental, and was actually predominant. In accordance with this case, even though
James claimed to obtain monetary remuneration for the services he provided to Rosy, the
effect of this arrangement enabled the taxpayer (Rosy) to obtain benefits of paying tax on the
lower marginal rates. Therefore, it is arguable to state that the tax avoidance purpose might
be the predominant purpose for the agreement set up between Rosy and James.
The second element in the Parliament Contemplation Test - the commercial and economic
reality of the arrangement requires assessing several factors which listed above in the Law
section part. However, these factors are not limited when considering the presence of a tax
12 Newton v Federal Commissioner of Taxation (1958) 98 CLR 1 (PC)

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avoidance arrangement, as the general anti-avoidance provision does not confine the court to
make decisions. The court may seek for relevant factors for the determination based on the
particular facts. The factors will depend on what specific provision applied on the
arrangement, or what the Parliament would expect. For example, duration of the arrangement
would be relevant factor in Ben Nevis, as the mechanism (insurance premium is not for
insurance payment purely, but linked to the 50-year growing cycle of forest) used in the
arrangement would enable a separation between legal and economic payment. According to
this, duration of the arrangement would be irrelevant to the agreement between Rosy and
James, as this scheme (accounting fee) would not be able to take advantage of the mismatch
between the invoice dates and payment of services, which shown in the decision of Ch’elle13.
To assess what the manner in which the arrangement carried out is to determine how the
arrangement has been structured in the particular way. Whether or not the particular structure
has been carried out in usual commercial practice from understandable point of view? The
Court in Ben Nevis referred to an arrangement which was structured with specific provision.
The licence premium transaction was secured by issuing promissory notes which created a
timing mismatch between the dates for lawful and economic payments. The effect of the
incurred cost would never be truly incurred in the commercial nature. As a result of it, the
specific structure of the arrangement is not carried out in usual commercial practise, s BG
applies. According to this example, it is reasonable to understand that Rosy chooses to pay
James for the same price at a reasonable rate for the exchange of services rather than other
professionals, so this fee would be an arrangement. Such arrangement would be excluded
from the specific structure, because it was carried out in usual commercial practice from
understandable point of view.
To assess the role of all relevant parties and their relationships is to determine whether they
are related to share tax benefits gained from the arrangement. For example, BNZ
Investments14 indicates that even though there was unrelated and arm’s length relationship
between the taxpayer and counterparties, if an arrangement created by them to generate and
share tax benefits, it shall be considered as that there was mutual interests appearing up
between them. Their relationship may contribute to the view of commercial and economical
reality of the arrangement. Considering the relationship between Rosy and James, although
they are carrying out separate businesses, they shall be considered as in a closed relationship.
13 Ch’elle Properties (NZ) Ltd v Commissioner of Inland Revenue [2004]3 NZLR 274 (HC)
14 BNZ Investment Ltd v Commissioner of Inland Revenue (2009) 24 NZTC 23,582 (HC)

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Because they are part of family members due to the evidences showing as that James would
use $40,000 income to pay mortgage on Rosy’s house. Also, Rosy has to pay lots of tax while
James accumulates a large loss which can be carried over to the next business period. It is
reasonable to understand that they both have mutual interests to create and share tax benefits.
To assess the economic and commercial effect of documents and transactions is to exam
whether they are compatible with the economical reality under the arrangement. The court in
Glenharrow15 indicated that paying the purchase price by vendor finance under the
arrangement was artificial and totally unrealistic, as it had no economic impact other than
attempting to obtain tax credit. Even though the taxpayer believed that purchasing the mining
with unrealistic price would enable him to obtain large profit, it still shows that the taxpayer
was not suffering in the economic cost before an input tax credit was available. Therefore, he
has no rights to claim such credit before the price has been paid in cash. The court applied s
76 of the GSTA, because it is reasonable to believe that taxpayer created such arrangement
for tax avoidance purpose. As the transaction had no economical and commercial effect in
realistic practise beside other factors may apply, the taxpayer may breach the Parliament
Contemplation test. Considering the transaction of $40,000 paid by Rosy seems to be
unreasonable in the market rang for part time work, so it has economic effect in unrealistic
practise. Rosy has paid James for the price which is higher than market rate, so it indicates
that it was such an arrangement created for tax avoidance purpose. Therefore, this factor
applies.
To assess the nature and extent of the financial consequences is necessary to determine
whether or not the “facts, features and attributes” contemplated by Parliament when it
enacted the provisions, are presented under the arrangement. For example, the taxpayer has
not suffered in any financial consequences but claimed tax return or avoiding tax payment.
The decision in Glenharrow shows that the taxpayer with a share capital of just $100 to
purchase the licence with very limited practical life of mining land for $45 million, this
unrealistic arrangement was undertaken to produce a GST refund for tax avoidance purpose.
Also, because he purchase it from unregistered company, there was no input GST impost, the
effect of such structure would enable both Glenharrow (purchaser) and Mr Meates (vendor)
to obtain economic benefits. According to this case, the “facts, features and attributes” of an
arrangement shall be viewed in combination to analyse whether or not the nature and extent
of the financial consequences was natural following and accompanying outcomes in an
15 Glenharrow Holdings Ltd v Commissioner of Inland Revenue [2008] NZSC 116, [2009] 2 NZLR 359

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objective view. Taking this point of view into Rosy and James case, as Rosy’s annual net
profit is about $110,000, $40,000 for part time work on accounting services would be
unreasonable and unrealistic from commercial and economic point of view. However, the
effect of such arrangement would enable the taxpayer to reasonably claim deduction on such
expense, as the nature of the payment is an accounting fee for exchange of services. As a
result of it, Rosy was artificially legalizing the payment to make it commercially and
economically realistic, and claiming any tax benefits without suffering expense, so this factor
would apply.
There are other factors have been set up by Inland Revenue under the range of s BG 1 and
GA 1 of the ITA 2007. There are such as: 1) whether the arrangement involve pretence
(showing that the taxpayer attempt to make the payment that is not appear true); 2) whether
the arrangement circular; 3) whether the arrangement involve false expenditure or declined
income; and other relevant fators. All relevant circumstances, documents and transactions
have to be taken into account when sum them up to make conclusion in overall point of view.
Just based on the present material shown in the case of Rosy and James would not be
adequate to make precise conclusion, also as it is up to what features or attributes that the
court would consider more important and overlap others. Therefore, more relevant documents
such as any formal agreement/contract signed between parties and transaction record.
Considering the effect of the arrangement between Rosy and James, the $40,000 annual fee
would lower the level of Rosy’s net profit so that her tax liability would be reduced, and also
it would help James to offset his accumulated losses. Even though this payment is counted as
Jame’s personal income, due to his large amount of losses, IRD cannot get any tax from him.
As a result of it, such arrangement would be considered as tax avoidance arrangement.
Conclusion:
Considering overall factors mentioned above, the purpose or effect of such arrangement
between Rosy and James is more than “merely incidental” and was not carried out in the
commercial and economical reality, so such arrangement would be tax avoidance
arrangement. Also the effect of the arrangement would enable James to reduce his
accumulated losses, and enable Rosy to reduce her tax liability on the lower level of profit.
Therefore, it is possible for such arrangement apply to general anti-avoidance rule. According
to s BG 1(1) of ITA 2007, the tax avoidance arrangement is invalid form the start of the

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arrangement against the Commissioner. When an arrangement is void under s BG 1, it would
apply to s GA 1. According to s GA 1(2), if the voiding is not acting appropriately against the
tax advantages, the Commissioner can exercise the general power. Consequentially, penalties
under s 141D will apply, Rosy has to pay 100 percent of tax plus interest on use of money.
The purpose of the Parliament is to encourage taxpayer gaining profit to offset his/her own
losses, rather than use other people’s income to cover up.

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