New regime tightens tax compliance

Articles, Restructuring + Insolvency

Company directors are now personally liable for both unpaid Pay As You Go (PAYG) obligations together with unpaid Superannuation Guarantee Charge (SGC) amounts after the introduction of changes in the Tax Laws Amendment (2012 Measures No. 2) Bill on 29 June.  The changes also mean that directors may find that common methods previously used to achieve remission of those liabilities are no longer available if a company fails to lodge tax documents within time.  The amendments represent the most fundamental changes to the Taxation Administration Act 1953 (Cth) (the Act) since the Director Penalty Notice (DPN) scheme commenced in 1993.

The new legislation significantly increases the obligations and liability of directors with serious implications that flow from non-compliance.  The ability of a new director to place a company into external administration on receipt of a DPN and leave the past behind has been taken away unless tax has been accurately reported within the permitted time limits.

Lawyers will need to advise directors to strictly monitor and control PAYG withholding and SGC compliance.  To avoid permanent personal liability, directors must ensure that all lodgements are made within the three-month period from the day the lodgement is due, for both PAYG and quarterly SGC.

Importantly, directors who are not accustomed to lodging SGC returns must form this habit if employee superannuation is not paid on time.  Directors should ensure their company does not under-report their PAYG or SGC liabilities since the Tax Office may subsequently discover or estimate the correct amounts.  Failure to report all of the debt will result in the directors incurring personal liability for the gap between what ought to have been reported and what was reported.

Old regime
Prior to 1993, the Australian Taxation Office enjoyed a priority in any liquidation, which enabled it to recover unpaid PAYG taxation debts in full before other debts were paid.  In 1993, this was replaced with a director penalty regime that placed personal liability on directors in the event that a company did not pay its taxation debts and was not promptly placed into external administration or liquidation upon receipt of a DPN.

The DPN regime is governed by Division 269 of Schedule 1 of the Act. The Tax Office could serve a director with a DPN in relation to unpaid PAYG withholding tax obligations.  The DPN gave directors notice that they were personally liable for the unpaid PAYG obligations of the company.  However, importantly, the director could have the penalty remitted, if the director took steps within 21 days from the date of service of the DPN to:

  1. have the company pay the outstanding PAYG debt in full;
  2. place the company into voluntary administration; or
  3. appoint a liquidator over the affairs of the company.

If 21 days passed without one of the above steps being taken, the director lost the opportunity to have their liability remitted, meaning they remained jointly and severally liable for the PAYG debt together with the company.

The operation of this regime provided an escape for a director who failed to remit PAYG withholding to the Tax Office.  It permitted an undercapitalised company to run up significant taxation debts with the Tax Office and, on receipt of a DPN by a director, take advice on and organise an insolvency appointment to the company.

New regime
Following the recent amendments, directors are now subject to a three-month lockdown provision.  A director’s personal liability can no longer be avoided if the company has a PAYG or SGC debt which:

  1.  is older than three months; and
  2. was not reported to the Tax Office within three months of the lodgement date.

The Tax Office is still required to serve a DPN on the director before commencing proceedings, but the DPN no longer gives the director the option to appoint an external administrator or liquidator to achieve remission of the debt. The only course of action available to the director to avoid liability is for the director or the company to pay the debt in full. Even if the company is placed into liquidation or administration, the director remains personally liable.

If, however, the debt were reported by the company within three months of the lodgement date, the lockdown provision does not apply.  The Tax Office must still issue a DPN if it wishes to commence proceedings, but the director then has the usual 21-day period from the date of the DPN to arrange for the company to pay the debt or to place the company into external administration in order to remit the penalty.

The amendments have significant impact.  They apply to all existing PAYG and the last quarter of SGC reporting amounts pre-dating 29 June 2012. If a company has failed or fails to report any of its pre-29 June 2012 PAYG obligations or an SGC sum relating to the 30 June 2012 quarter within three months of the lodgement date and if that tax and/or SGC debt is not paid, the directors of the company are liable for those sums in the event the company does not pay the debt.

Previously, a new director had 14 days from the date of appointment to resign or become liable for the current unpaid PAYG debts of a company.  Now, 30 days after accepting an appointment, a new director becomes liable for any and all unpaid PAYG sums (no matter how old) and SGC (limited to the 30 June 2012 quarter), which were not lodged within three months of the lodgement date. This places a significant risk on new directors to ensure:

  1.  they conduct proper due diligence in relation to any existing unreported and unpaid PAYG and SGC before or immediately upon (and preferably well before) becoming a director of a company; and
  2. that proper corporate governance is in place to monitor and enforce the PAYG and SGC reporting and payment obligations of the company.

If a company fails both to lodge and pay PAYG and SGC, Division 268 of Schedule 1 of the Act now provides that the Tax Office can make an estimate of:

  1. PAYG amounts not paid as required by Part 2-5 of the Act; and
  2. unpaid superannuation guarantee charge amounts.

The Tax Office can then take steps to recover the amount of the estimates.

The new legislation has also introduced a PAYG Withholding Non-Compliance tax (WNCT) which applies to directors and/or their associates. The effect of the WNCT is to disallow PAYG tax credit claims attributable to amounts withheld by the failed company to a director or the director’s associates.  In other words, if the company has withheld PAYG sums from the director’s salary but has not remitted those sums to the Tax Office, the director will have to pay the full amount of tax when it comes time to lodge their personal tax return and will not be given any credit for PAYG withheld.

The Tax Office must give written notice to a director or the director’s associates before commencing proceedings for WNCT and must first determine that it is “fair and reasonable” for the director or associate to pay the WNCT “in relation to the company for the income year”.

Statutory defences
The two limbs of s.269-35 of Schedule 1 of the Act remain much the same, granting a director a defence to avoid a penalty if they can satisfy the Tax Office of the matters set out in s.269-35(1) and (2) namely:

  1.  that due to illness or some other good reason it would be unreasonable to expect the director to have taken part and the director did not take part in the management of the company at any time when the director was a director that was under s.269-15 obligations;
  2. the director took all reasonable steps to ensure that:
    1. the directors caused the company to comply with its obligations;
    2. the directors placed the company into administration; or
    3. the directors appointed a liquidator; or
  3. there were no reasonable steps that the director could have taken to make any of the above happen;

A director bears the onus of proving these defences on the balance of probabilities. DCT v Saurig and other cases, while based on the similar language of the legislation, demonstrate how tough it is to make out a defence on these grounds.

Minority directors are at risk unless they can show that they have done everything reasonably possible to cause the company to pay outstanding PAYG and SGC debts.  The onus rests on the director to properly document their efforts to make out a defence under the second limb of s.269-35.

Further, non-executive directors need to be vigilant that executive directors involved in the day-to-day management of the company are meeting tax reporting obligations and that a proper reporting process exists to keep the non-executive/participating directors abreast of what the company’s position is in relation to its PAYG and SGC obligations and liabilities. Ignorance is no defence.

As a result of the legislative changes, the opportunity for directors to fly under the radar for extended periods is now gone.  Directors of companies that are unable to satisfy their PAYG or SGC when they fall due will need to consider insolvency appointments on an urgent basis rather than adopting a wait and see approach.

This article was first published in the Law Society Journal, November 2012, and is reproduced with permission.

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