Tax Planning, Tax Avoidance, Integrity Rules and Part IVA
Tax planning is lawful; tax evasion is not. Tax avoidance sits between them and may be defeated by specific integrity rules or the general anti-avoidance rule in Part IVA. The analysis is structured, not intuitive.
What you should be able to do
- Distinguish tax planning, avoidance and evasion.
- Identify specific integrity rules such as Div 6AA, related-party deduction limits and prepayment rules.
- Identify a Part IVA scheme, tax benefit and purpose.
- Apply the statutory purpose factors rather than relying on moral labels.
- Explain the Commissioner's determination power under s 177F.
- Apply Part IVA to personal-exertion income channelled through a company and income diverted to associates.
Part IVA is not triggered simply because tax was reduced. Work through the statutory steps: scheme, tax benefit, purpose, then consequence. Specific integrity rules may apply before Part IVA is even reached.
Key language
Issue → Rule → Authority → Application
11.1 Tax planning, tax avoidance and tax evasion are not the same thing
Tax law permits taxpayers to arrange their affairs with tax consequences in mind. Legitimate tax planning uses choices and concessions made available by Parliament. Tax evasion, by contrast, involves unlawful conduct such as concealing income, creating false records or deliberately misstating facts. Between those ideas sits tax avoidance: arrangements that may comply with the literal operation of particular provisions but attract specific or general anti-avoidance rules because of their tax-driven structure.
Students should avoid moral labels. The legal question is whether a statutory integrity rule applies. The course begins with judicial responses, then specific anti-avoidance provisions, and finally Part IVA ITAA36—the general anti-avoidance rule.
11.2 Judicial limits and ordinary provisions come first
Before applying Part IVA, ask whether the taxpayer's claimed treatment is available under ordinary provisions. Ure v FCT and Fletcher v FCT illustrate how s 8-1 itself can limit deductions where the claimed outgoing is disproportionate to income-producing use or where the arrangement has significant private/tax purposes. If the ordinary provision already denies the deduction, Part IVA may be unnecessary.
This sequencing matters in exams: ordinary tax law → specific integrity rule → Part IVA. Part IVA is not a substitute for analysing the substantive tax provisions.
11.3 Specific integrity rules
Australian tax legislation contains many targeted rules dealing with known avoidance techniques. The Forum uses several examples:
- Division 6AA ITAA36 imposes special rates on certain unearned income of minors, limiting simple income-splitting strategies.
- Section 21A ITAA36 addresses non-cash business benefits that might otherwise escape ordinary-income treatment because of convertibility issues.
- Section 26-35 ITAA97 restricts deductions for excessive amounts paid to related persons.
- CGT market-value substitution rules, including ss 116-30 and 112-20, prevent gifts or nominal-price transfers from avoiding recognition at market value in relevant circumstances.
- Prepayment rules in the ITAA36 can spread deductions that a taxpayer might otherwise accelerate into an earlier income year.
These rules are often self-executing. They do not necessarily require the Commissioner to prove a dominant tax-avoidance purpose. Their operation depends on objective statutory conditions.
11.4 Division 6AA: income splitting with minors
Division 6AA is designed to impose penal rates on certain “eligible taxable income” of minors, especially passive income such as interest, rent and dividends. “Excepted” income—including categories such as employment or some business income—is treated differently. The policy is to reduce the benefit of shifting investment income to children who would otherwise have low marginal tax rates.
In the Forum's Susan/Victor example, the taxpayer tries to place $100,000 in a 15-year-old child's account so that investment interest is taxed at the child's rate. A complete answer identifies whether the interest is eligible taxable income, whether any excepted category applies, and then the special rate schedule.
11.5 Section 26-35: excessive payments to related entities
Section 26-35 limits a payer's deduction where an amount paid to a related person exceeds a reasonable amount for the services or work. The provision does not necessarily reduce the recipient's assessable income to the reasonable amount; the recipient can remain assessable on the full amount received. That asymmetry is deliberate integrity design.
In the Forum's plumbing example, a daughter is paid $750 per day for simple delivery duties when market evidence suggests $300. Analyse the payer's deduction and the daughter's income separately. Do not assume the excessive part disappears from the tax system.
11.6 Prepayments
Prepayment provisions target the timing benefit obtained when a taxpayer pays expenditure in advance to accelerate a deduction. The course locates the relevant regime in the ITAA36 and explains that statutory apportionment can replace immediate deductibility over the “eligible service period”. The rules can apply without proving subjective avoidance purpose.
When confronted with prepaid insurance, interest or service fees, first establish whether the outgoing is otherwise deductible. Then apply the prepayment regime and any available exception. Do not treat payment date alone as controlling the deduction year.
11.7 Part IVA — the general anti-avoidance rule
Part IVA ITAA36, broadly ss 177A–177R, is the general income-tax anti-avoidance regime. It is not a criminal evasion provision. It allows the Commissioner to neutralise a tax benefit obtained in connection with a scheme where the statutory dominant-purpose test is satisfied.
The course reduces Part IVA to four principal analytical stages:
- identify a scheme under s 177A;
- identify a tax benefit under s 177C and the appropriate alternative postulate/counterfactual;
- apply the dominant purpose inquiry under s 177D, using the statutory factors; and
- identify the Commissioner's determination under s 177F that cancels the tax benefit and permits consequential adjustment.
11.8 Step 1: identify the scheme — s 177A
Section 177A(1) defines “scheme” very broadly to include agreements, arrangements, understandings, promises, undertakings, plans, proposals, actions, courses of action and courses of conduct. Section 177A(3) confirms that a scheme can be unilateral.
The breadth of the definition does not mean scheme identification is unimportant. The way the scheme is framed influences the tax-benefit counterfactual and purpose analysis. Avoid artificially narrow or excessively broad descriptions. Identify the concrete steps that produced the alleged tax advantage.
11.9 Step 2: tax benefit and the alternative postulate — s 177C
A Part IVA answer must explain what tax result was obtained compared with what would reasonably be expected to have occurred without the scheme. This is commonly expressed through an alternative postulate or counterfactual. The relevant tax benefit can include an amount not included in assessable income, a deduction, a capital loss or another tax advantage specified by the legislation.
FCT v Hart and FCT v Spotless Services Ltd are leading High Court authorities illustrating Part IVA's operation and the importance of objective commercial/tax features. Modern statutory amendments must always be read with the cases rather than assuming the historical wording is unchanged.
The counterfactual must be reasonable. It is not simply “the taxpayer would have paid more tax”. Identify the commercial objective and ask what arrangement would reasonably have been used to achieve it in the absence of the impugned scheme.
11.10 Step 3: dominant purpose — s 177D
The purpose inquiry is objective. Section 177D directs attention to specified matters concerning the manner in which the scheme was entered into, its form and substance, timing, tax result, changes in financial position, consequences for connected persons and the nature of relationships. The question is whether, having regard to those matters, it would be concluded that a person entered into or carried out the scheme or part of it for the dominant purpose of enabling the taxpayer to obtain the tax benefit.
“Dominant” means ruling, prevailing or most influential purpose. A transaction can have real commercial effects and still satisfy Part IVA if the tax-avoidance purpose is dominant. Conversely, a tax advantage does not itself prove the statutory purpose.
11.11 Step 4: Commissioner's determination — s 177F
Part IVA does not simply rewrite the taxpayer's return automatically. The Commissioner makes a determination under s 177F to cancel the relevant tax benefit, and consequential assessment adjustments can follow. The course notes that Part IVA therefore requires ATO intervention, unlike many self-executing specific integrity rules.
Amendment periods and associated penalties can also become relevant. The Forum directs attention to ss 170 and 177G ITAA36 in the Part IVA context.
11.12 The cases: what students should learn
| Authority | Teaching proposition | Use |
|---|---|---|
| Ure v FCT | Ordinary deduction provisions can limit artificially large interest deductions before Part IVA. | Apply s 8-1 first. |
| Fletcher v FCT | Purpose and overall arrangement can affect s 8-1 where outgoings are disproportionate to assessable returns. | Deduction scheme facts. |
| FCT v Spotless Services Ltd | Commercial transaction can still attract Part IVA; tax purpose and commerciality are not mutually exclusive. | Dominant-purpose analysis. |
| FCT v Hart | Important authority on scheme, tax benefit and purpose in structured borrowing. | Part IVA method and counterfactual. |
11.13 Tutorial masterclass — Noah and Pipewise Plumbing Pty Ltd
Noah moves his plumbing business into a company. He remains the key licensed worker and relationship-holder. The company pays him salary and retains some after-tax profits at the lower company rate. In the following year, shares are issued to his fiancée Mia shortly before a profitable contract, and the company later distributes unfranked dividends according to the new shareholding.
The tutorial directs students to consider Part IVA separately for each income year and expressly assumes the personal-services-income attribution rules in Divs 84–87 do not apply because the company qualifies as a personal services business. Do not ignore that assumption or import excluded regimes such as Div 7A.
2025–26: incorporation and retained profits
Possible scheme: the incorporation, salary setting and retention of profits generated substantially by Noah's personal efforts. Possible tax benefit: an amount that would otherwise reasonably have been included in Noah's taxable income is instead taxed to the company at 25% and retained. The critical difficulty is the counterfactual: would Noah reasonably have continued as a sole trader, paid himself a higher salary, or still incorporated for genuine asset-protection/expansion reasons? The documented commercial rationale matters.
For purpose, consider form/substance, salary just below the top-rate threshold, retained profits, genuine working-capital needs, and the absence of contemporaneous forecasts or board documentation. None of these facts alone decides the case. Apply the s 177D factors objectively.
2026–27: share issue to Mia and dividend split
Possible scheme: issue of 40% of shares for nominal consideration shortly before a profitable contract, followed by dividend distribution. Possible tax benefit: diversion of income generated substantially through Noah's personal exertion to Mia, who has little other income. The counterfactual might be continued sole ownership or a market-value transaction, but it must be the most reasonable alternative in the circumstances.
Purpose facts include timing, nominal consideration, Mia's limited role, absence of valuation, the impending contract and use of dividends for shared household/wedding costs. Against that, a genuine intention to share ownership or contribute to the business may be relevant if supported by evidence.
11.14 HD Part IVA IRAC
I — Issue
State the alleged scheme, taxpayer, income year and tax benefit. Deal with each year separately.
R — Rule
Set out s 177A scheme, s 177C tax benefit/alternative postulate, s 177D objective dominant-purpose factors and s 177F determination. Use Spotless and Hart for principle.
A — Application
First construct a reasonable counterfactual. Quantify the tax advantage if possible. Then work through the s 177D factors using actual facts—timing, form/substance, financial changes, relationships and commercial reasons. Address the strongest argument on both sides.
C — Conclusion
Give a reasoned conclusion on Part IVA for each year and explain the possible s 177F consequence. Avoid saying an arrangement is “avoidance” merely because it saves tax.
11.15 Plain-English summary
Integrity law is layered. First apply the ordinary tax provisions. Then apply any specific anti-avoidance rule. Only then use Part IVA. For Part IVA, remember four words: scheme → tax benefit → purpose → determination. The hardest step is usually identifying a reasonable alternative to what actually happened.
Deep Teaching Commentary — Learn the Doctrine, Then Learn How to Use It
Tax planning, tax avoidance and tax evasion must be distinguished. Lawful planning uses choices deliberately left by the legislation. Evasion involves illegality such as concealment or false statements. Avoidance generally refers to arrangements that seek tax advantages through legal form but may be defeated by specific integrity provisions or the general anti-avoidance rule in Part IVA.
The correct method is layered. First apply the ordinary substantive provisions. Secondly apply any specific anti-avoidance/integrity rule. Only then ask whether Part IVA applies. Part IVA is not a moral label and is not triggered merely because tax is reduced. It requires a statutory scheme, a tax benefit connected with the scheme, and the objective dominant-purpose conclusion under s 177D, followed by a Commissioner determination under s 177F.
The tutorial on Pipewise Plumbing is designed to force comparison between an ordinary commercial incorporation/profit-retention arrangement and later steps that may have a stronger income-splitting purpose. The alternative postulate is central: a tax benefit cannot be identified without a reasonable counterfactual.
Provision-by-provision teaching guide
| Provision / regime | What it does | How to use it in a university answer |
|---|---|---|
| ITAA36 Div 6AA | Special rate/integrity regime for certain income of minors, with exceptions for excepted income/taxable income. | Use where family income is directed to children. |
| ITAA97 / ITAA36 related-party payment rules including s 26-35 | Limits deductions for excessive payments to related entities to a reasonable amount in the circumstances. | Use where a family member is paid above-market wages/fees. |
| ITAA97 ss 116-30 and 112-20 | CGT market-value substitution rules can prevent value shifting through non-arm’s-length transfers. | Use for gifts/related-party asset transfers. |
| ITAA36 Pt III Subdiv H prepayment rules | Can spread deductions for prepaid expenditure rather than allowing an immediate full deduction, subject to statutory exceptions. | Use where insurance, interest or services are prepaid across income years. |
| ITAA36 s 177A | Defines scheme broadly and includes unilateral schemes. | Identify the arrangement with sufficient precision; avoid defining it so broadly that the purpose analysis becomes meaningless. |
| ITAA36 s 177C | Identifies the tax benefit by comparing the actual result with the most reasonable alternative postulate/counterfactual. | State what would reasonably have happened absent the scheme and quantify the tax effect. |
| ITAA36 s 177D | Requires an objective dominant-purpose conclusion using the statutory factors. | Work factor by factor where the facts are contested; do not substitute subjective assertions. |
| ITAA36 s 177F | Empowers the Commissioner to cancel the tax benefit and make consequential determinations. | State the adjustment that follows if Part IVA applies. |
| ITAA36 ss 170 and 177G | The materials identify amendment-period consequences for Part IVA matters. | Use in the administrative consequences portion of an avoidance problem. |
Cases, rulings and authorities — proposition + exam function
| Authority | Proposition taught by the source material | When to use it |
|---|---|---|
| Ure v FCT 81 ATC 4100 | Used to demonstrate ordinary deduction analysis and the kinds of arrangements later tested under general anti-avoidance concepts. | Apply s 8-1 first; then consider the Part IVA counterfactual/purpose analysis on the assumed modern facts. |
| Fletcher v FCT 91 ATC 4950 | Shows how disproportionate tax-driven arrangements can affect the character/apportionment of deductions under ordinary provisions before GAAR analysis. | Use to emphasise that ordinary provisions come first. |
| Part IVA authorities identified in Forum 11 | The Forum uses the statutory framework and explanatory examples to teach annihilation/reconstruction alternative postulates and dominant purpose. | Use cases/ATO guidance to support, not replace, the statutory steps. |
Matching tutorial — fact-by-fact reasoning map
Identify commercial reasons for incorporation, who earns the income, salary paid to Noah and profits retained. Apply ordinary income/company rules before asking Part IVA.
Compare the actual tax result with a reasonable alternative in which Noah continued as sole trader or received different remuneration, depending on the facts. Explain why the chosen alternative is reasonable.
Use the s 177D factors objectively: manner, form/substance, timing, tax result, financial changes and relationships. Commercial advantages can coexist with tax advantages; the statutory question is dominant purpose.
Analyse whether the later income split has a stronger tax-driven character and whether the alternative postulate would have left the economic benefit with Noah.
State which tax benefit the Commissioner could cancel and how the assessment may be adjusted.
Identify scheme, tax benefit, counterfactual and purpose separately. Do not merely say “Part IVA applies because interest was excessive”.
How to write this chapter in IRAC / tax-problem form
Issue. Identify the taxpayer, income year and transaction. Break the problem into separate receipts, outgoings, CGT events or administrative decisions. Do not write one broad issue such as “what tax is payable?”.
Rule / Law. Start with the exact Act and provision. If the section contains multiple limbs, subsections, paragraphs, exceptions or a method statement, set them out in the order in which they operate. Then add the case, ruling or ATO authority for the particular proposition it explains.
Application. Apply one fact to one legal element at a time. Compare the facts with the authority and deal with the strongest alternative characterisation. Where the law requires a calculation, show the legal order and the arithmetic together.
Conclusion. State the legal tax consequence and amount where possible. Then add any associated loss, penalty, objection/review, timing or administrative consequence relevant to the chapter.
Chapter mastery — 15 questions with model answers
Source-Coverage Audit — Every Statutory Reference in the Supplied Materials
This completeness layer preserves every detected Act, Part, Division, Subdivision, section, subsection, paragraph and method-statement reference from the supplied Forum/Tutorial materials. Use the teaching chapter above for explanation; use this audit to ensure no source reference is silently omitted.
Source-Coverage Audit — Every Case, Ruling and Authority in the Supplied Materials
Every detected case or ruling from the aligned materials is retained here. The blue link opens an AustLII search so the authority can be checked and later replaced with the most direct official/public judgment link where appropriate.
Detailed Forum / Lecture Source Notes — Completeness Layer
The following is the detailed teaching layer derived from the supplied Forum material. It is kept deliberately full at draft stage so that the final editing pass can improve prose without losing doctrine, examples, calculations or statutory detail.
Introduction
Distinguishing:
Tax Planning;
Tax Avoidance; and
Tax Evasion.
Judicial Responses To Tax Avoidance/ Tax Planning
*Ure v FCT 81 ATC 4100
Fletcher & Ors v FCT 91 ATC 4950
Legislative Responses To Tax Avoidance: Examples Of Specific Provisions
Income splitting
Eg: Division 6AA ITAA36: Tax rates for minors - See Forum 1.
The tax rates on the “eligible taxable income” of an Australia tax resident child (aged under age 18 on 30 June 2026) under Div 6AA ITAA36:
Eligible Taxable Income
Tax payable
$0 - $416
Nil
$417 - $1,307
66% of the excess over $416
$1,308 and above
45% of the entire amount
Broadly speaking, eligible taxable income includes unearned income such as bank interest, rent and dividends.
However, if the child’s income is “excepted” taxable income, then the ordinary resident individual tax rates apply to that part of income. Examples of excepted taxable income include:
employment income
business income
bank interest derived from the investment of a damages payment the child received for a personal injury
income that arose from a deceased person’s trust estate from their property
income derived from the property of a testamentary trust.
Susan is an architect and has a marginal income tax rate of 47%. Susan has $100,000 available for investment. Rather than investing those funds in a high-yield investment account in her own name, Susan instead arranges for a bank account to be established in the name of her 15-year-old son, Victor, and places the $100,000 into that account. The account earns interest at 10% per annum.
In the absence of Div 6AA, what outcome was Susan hoping to achieve? What is the outcome due to Div 6AA ITAA36?
Non-cash benefits
FCT v Cooke & Sherden 80 ATC 4140
Convertibility issues and s 21A ITAA36
The FBT Act and s 26(e) ITAA36 - valuation issues
Payments to associated persons
Eg: Reducing deductions for amounts paid to related entities: section 26-35 of the 1997 Act. Recall the following example from the Forum 10 notes:
Jordan operates a plumbing business as a sole trader. During a period of staff shortages, he asks his daughter, Mia, to assist by delivering supplies to job sites and collecting materials from wholesalers.
Mia works 1 day each week over a 10-week period. Although Mia has no previous experience in the industry and performs relatively simple duties, Jordan pays her $750 per day.
Industry evidence suggests that a casual delivery driver performing comparable work would ordinarily be paid around $300 per day.
Over the 10 weeks, Jordan pays Mia a total of $7,500.
Capital gains tax
Eg: market value substitution rule for capital proceeds and cost base. Recall the following example from the Forum 6 notes:
Jeff purchased a block of land in January 2006 for $200,000 near where he lives. He wants to help his adult daughter build a house to live in on the land. On 1 June 2026, Jeff gifts the land to his daughter (meaning for nil consideration). The market value of the land on 1 June 2026 is $800,000. What is Jeff’s capital proceeds (consider s 116-30)? What if instead he transferred the land to his daughter for $1? What is his daughter’s cost base (consider s 112-20)?
Prepayment provisions
The tax formula and tax minimisation
Income Tax
=
[(Assessable Income
-
Deductions)
x
Tax Rate]
-
Tax Offsets
The prepayment provisions (in Pt 3, Subdiv 3-H ITAA36) are an example of a specific anti-avoidance or integrity regime because they target a defined tax planning technique: the use of prepayments to accelerate deductions into an earlier income year. The provisions replace immediate deductibility with statutory apportionment over the eligible service period in some situations.
The prepayment provisions are rule-based and do not require proof of a tax avoidance purpose, but their evident legislative function is anti-avoidance: to prevent taxpayers obtaining a tax benefit from a mismatch between the timing of a deduction and the period to which the expenditure economically relates.
How do the prepayment provisions operate?
Recall: What is the meaning of “incurred” in s 8-1 ITAA97? See Forum 9 Notes.
Prepaid expenditure is generally taken to be incurred when it is paid.
The prepayment provisions in ss 82KZL, 82KZM, 82KZMA and s 82KZMD ITAA36:
were enacted to adjust the timing of deductions that would otherwise be available under s 8-1 ITAA97 in certain circumstances. So, the prepaid expense must first meet the nexus requirements in s 8-1 ITAA97.
apply to expenditure paid in advance for goods, services or other things to be provided under an agreement, either wholly or partly, in a later income year.
operate to defer the timing of a deduction otherwise available under s 8-1 ITAA 1997 where the provisions apply, so the expenditure is not deductible in full when incurred This means that the prepayment provisions link with s 8-1 via the 4th negative limb to alter the s 8-1 result that would otherwise apply.
Instead, the prepaid expenditure is claimed as a deduction over the “eligible services period” (being the period during which the relevant thing is to be done).
For example, where rent is prepaid, the eligible service period will generally be the period of the lease covered by the payment. If the eligible service period exceeds 10 years, it is treated as being limited to 10 years.
When an immediate deduction may still be available
Where expenditure satisfies the ordinary deductibility requirements in s 8-1, the effect of s 82KZM ITAA36 is that a taxpayer may still be entitled to an immediate deduction for a prepayment where:
the prepaid expenditure is “excluded expenditure” (see below); or
both Condition 1 and Condition 2 below are satisfied.
Condition 1: the taxpayer is either:
an individual who has incurred non-business expenditure (eg it is an employment-related expense or investment-related expense); or
a “small business entity” (s 328-110 ITAA97), or a medium business entity (s 82KZM(1A) ITAA36), who has chosen not to spread the deduction over the eligible services period.
Condition 2: the eligible services period for the expenditure is, either:
is not longer than 12 months; or
12 months or shorter but does not end after the last day of the income year after the one in which the expenditure was incurred.
Where an immediate deduction is not available
In other cases, provided the expenditure is otherwise deductible under s 8-1 ITAA97, the deduction is not available in full in the year the amount is incurred. Instead, the deduction is spread over the eligible service period according to the statutory apportionment formula:
Expenditure ×
Number of days of eligible service period in the income year
Total number of days of eligible service period
This formula has the effect of allowing a deduction only for the portion of the prepaid expenditure that relates to the relevant income year.
What is excluded expenditure?
For the purposes of the prepayment rules, s 82KZL ITAA36 defines “excluded expenditure” to include expenditure that:
is less than $1,000 (excluding GST);
is required to be incurred under a Commonwealth, State or Territory law, or under a court order, such as vehicle registration or land tax;
is incurred under a contract of service, such as salary or wages; or
is capital, private or domestic in nature.
Brian owns 3 rental properties as passive investments. He received 3 invoices in the mail on 10 June 2026 for the annual landlord insurance payable on the 3 properties. The invoices were all dated 5 June 2026, and Brian paid them as follows:
On 20 June 2026, Brian prepays $1,500 being the insurance premium on property 1 for the insurance period from 25 June 2026 to 24 June 2027.
On 21 June 2026, Brian prepays $1,600 being the insurance premium on property 2 for the insurance period from 10 July 2026 to 9 July 2027.
On 22 June 2026, Brian prepays $900 being the insurance premium on property 3 for the insurance period from 8 July 2026 to 7 July 2027.
On 1 June 2026, Brian had prepaid $30,000 in fixed interest to his financier relating to the loan over one of his rental properties for the period 1 June 2026 to 1 December 2027.
Comment on when Brian may claim deductions for each of these costs.
Part Iva Of The 1936 Act: The General Anti-Avoidance Provisions
Specific anti-avoidance provisions apply before Part IVA.
Part IVA ITAA36 (ss 177A to 177R ITAA36) is Australia’s general anti-avoidance rule for income tax. Practitioners commonly refer to the provisions as “Part IVA”.
Part IVA is designed to counter schemes that, while technically compliant with the tax law, are entered into or carried out for the dominant purpose of obtaining a tax benefit. Where Part IVA applies, the Commissioner may cancel the relevant tax benefit and make consequential adjustments, including issuing amended assessments.
In broad terms, Part IVA requires the identification of a “scheme”, a “tax benefit” obtained in connection with that scheme, and an objective conclusion that a person entered into or carried out the scheme, or part of it, for the dominant purpose of enabling the taxpayer to obtain that tax benefit. The provisions operate as a safeguard against artificial or contrived arrangements and are central to the integrity of the Australian income tax system.
Part IVA requires the intervention of the ATO before it can operate (meaning that the ATO needs to make a Determination). Compare this with many legislative responses to tax avoidance, including those above, which are “self activating”.
For a Part IVA matter, the ATO can generally amend a taxpayer’s assessment within 4 years after the day on which the Commissioner gives a notice of assessment to the taxpayer, subject to any applicable extension or exception: ss 170 and 177G ITAA36.
The requirement of a scheme
Part IVA can only operate where a person has entered into or carried out a scheme for the sole or dominant purpose of enabling a taxpayer to obtain a tax benefit in connection with the scheme.
Section 177A(1) defines a “scheme” to mean:
“any agreement, arrangement, understanding, promise or undertaking, whether express or implied and whether or not enforceable, or intended to be enforceable, by legal proceedings; and
any scheme, plan, proposal, action, course of action or course of conduct.”
A scheme includes a unilateral scheme: s 177A(3). For example, an action taken solely by the trustee of a discretionary trust: PSLA 2005/24, at para 56.
Taxpayers will often seek to define the scheme broadly, by reference to the overall commercial arrangement. The intent may be to reduce the prospects of a relevant dominant purpose being found.
By contrast, the ATO may seek to identify a narrower scheme, focusing on particular steps or features that are said to produce the tax advantage, such that a relevant dominant purpose is found to exist.
In FCT v Hart [2004] HCA 26, the High Court confirmed that a scheme need not comprise the whole transaction or arrangement. It may consist of part of a wider arrangement and, in some circumstances, may be confined to a single step.
The requirement of a tax benefit
The concept of a tax benefit is defined in s 177C and 177CB ITAA36. Examples of types of tax benefits include:
an amount not being included in the assessable income of the taxpayer in a year of income;
a deduction being allowable to the taxpayer in relation to a year of income;
a capital loss being incurred by the taxpayer in a year of income; or
However, a tax benefit does not arise if the benefit is attributable to the making of a declaration, agreement, election, selection or choice, the giving of a notice or the exercise of an option by any person expressly provided for under the ITAA36 or ITAA97. But, this carve out does not apply where a scheme was implemented to put the taxpayer into a position to make such an election, choice, etc, to be made: s 177C(2).
To determine if a tax benefit arises, a comparison is made between the tax effects of what the taxpayer actually did vs: what the taxpayer “would have” or “might reasonably be expected to have” done instead in the absence of the scheme. That is, you need to compare what actually did happen with a “counterfactual” or “alternative postulate”.
The tax benefit must be determined by having regard to s 177CB. This provision prevents taxpayers from arguing there was no tax benefit because they otherwise would have done nothing.
Under ss 177CB(2) and 177CB(3), the “would have” test requires consideration of what in fact occurred, disregarding the scheme (called the “annihilation approach”). By contrast, the “might reasonably be expected to have” test requires the identification of a reasonable alternative postulate, assessed by reference to the scheme but excluding its tax consequences (called the “reconstruction approach”).
“Deborah, a foreign resident, enters into an arrangement under which assessable income that would otherwise be derived by her from Australian sources is instead derived by her from foreign sources with the result that it is not assessable in Australia.
If the scheme had not been entered into, the income would have been included in Deborah’s assessable income because the only operation of the scheme was to change the source of the income for taxation purposes. The tax benefit is the reduction in Deborah’s assessable income.
No speculation is necessary or permitted in deciding what else might have happened if Deborah had not entered into the scheme.”
“Mr and Mrs Heginbothom want to borrow money to acquire both a family home and a holiday house that they plan to rent to holidaymakers. They borrow the money under an arrangement in which the repayments are applied exclusively to the borrowing in relation to the family home The result is that the deductible interest payments are increased for the holiday home borrowing and the non deductible interest payments for the family home borrowing are minimised.
Merely annihilating the scheme would not leave a sensible result because there would be no borrowing at all, so some reconstruction is necessary. It is therefore necessary to consider what might reasonably be expected to have happened if the scheme had not been entered into. A reasonable alternative in this case might be that the Heginbothoms took out two loans, one for each of the homes they wished to acquire, each of which was entered into on normal commercial terms.”
Is there a relevant purpose?
Section 177D(1)
Section 177A(5) - dominant purpose
Section 177D(b) relevant factors - have regard to the following matters:
the manner in which the scheme was entered into or carried out;
the form and substance of the scheme;
the time at which the scheme was entered into and the length of the period during which the scheme was carried out;
the result in relation to the operation of this Act that, but for this Part, would be achieved by the scheme;
any change in the financial position of the relevant taxpayer that has resulted, will result, or may reasonably be expected to result, from the scheme;
any change in the financial position of any person who has, or has had, any connection (whether of a business, family or other nature) with the relevant taxpayer, being a change that has resulted, will result or may reasonably be expected to result, from the scheme;
any other consequence for the relevant taxpayer, or for any person referred to in paragraph (f), of the scheme having been entered into or carried out;
the nature of any connection (whether of a business, family or other nature) between the relevant taxpayer and any person referred to in paragraph (f).
Cancellation of tax benefits
Section 177F
Other issues
Compensating adjustments - section 177F(3)
Amendment of assessments - section 177G.
Interest and penalties
Case studies concerning the application of Part IVA
*FCT v Spotless Services Ltd 96 ATC 5201
FCT v Hart & Anor 2004 ATC 4599
Matching Tutorial — Full Problem Source and Teaching Integration
The tutorial is part of the chapter, not an afterthought. Read the facts by turning each receipt, outgoing, event or procedural step into a separate issue. Write the relevant provision beside each issue before applying the cases.
Tutorial 11 - Week 12
Noah is a licensed plumber. For several years, he operated his plumbing business as a sole trader under the name “Pipewise Plumbing”. In that period, the business income was returned directly by Noah in his personal tax return.
2025-26 income year
From 1 July 2025, Noah restructured the business and began operating it through Pipewise Plumbing Pty Ltd (“PP”). Noah is the sole director and sole shareholder of PP. PP is a base rate entity.
Noah's accountant had advised that incorporation would provide greater asset protection in relation to building defect claims and would facilitate future expansion through the engagement of additional licensed plumbers.
PP contracts with residential builders to complete plumbing installations in new housing developments across the Gold Coast. Noah performs nearly all of the plumbing work personally for the company. PP has no other licensed plumbers and engages subcontractors only occasionally for overflow work. Builders engage PP largely because of Noah’s plumbing licence, reputation, skill and reliability. PP owns its own tools, equipment and work vehicle, and has systems in place for quoting, invoicing and managing builder relationships.
PP is generally engaged on fixed-price contracts for each stage of work, rather than on an hourly or daily rate. PP is required to provide the necessary tools and equipment and is liable to rectify defective work at its own cost.
For the 2025-26 income year, PP had gross business income from clients of $300,000. PP paid Noah $189,000 in salary during the year. That amount had been selected so that Noah remained just below the top marginal tax rate threshold. After claiming a deduction for Noah’s salary and other business expenses, PP reported taxable income of $61,000 for the 2025-26 income year, which was taxed at the 25% company tax rate. PP was liable for income tax of $15,250 (25% x $61,000), leaving after-tax profits of $45,750, which PP retained in the company.
Noah says the retained after-tax profits for the 2025-26 income year were needed by PP for working capital, insurance, possible defect claims and future equipment purchases. However, PP had not prepared any cash-flow forecasts, equipment quotes, board minutes or documented expansion plans before the end of the income year.
2026-27 income year
On 1 July 2026, Noah arranged for PP to issue ordinary shares in PP to his fiancée, Mia, for nominal consideration so that Mia thereafter had a 40% shareholding in the company and Noah had 60%. No independent valuation was obtained. The share issue occurred shortly before PP was expecting to sign a very profitable contract with a major residential builder.
Mia is not a plumber, does not hold a plumbing licence and does not attend building sites. She occasionally assists from home by checking invoices and responding to emails, but has no formal employment contract and is not paid a market salary for that work. Mia is studying nursing part-time and has no significant income other than amounts received from PP.
During the 2026-27 income year, Noah continued to perform nearly all of the plumbing work personally for PP and remained responsible for PP’s key builder relationships.
PP’s gross income increased substantially after it secured the new contract with the major residential builder.
PP derived gross business income for the 2026-27 income year of $520,000. After paying Noah a salary of $189,000 and other business expenses of $131,000, PP had taxable income of $200,000 for the 2026-27 income year. PP was liable for income tax of $50,000 (25% x $200,000), leaving after-tax profits for the year of $150,000.
Rather than retaining its 2026-27 profits, on 30 June 2027, PP declared and paid unfranked dividends of $150,000. Noah received $90,000 on his 60% shareholding, and Mia received $60,000 on her 40% shareholding. Mia used most of the dividend to pay for household expenses, rent, and wedding costs shared with Noah. (As you will study the imputation system in the Taxation of Business Entities course, assume the company preferred to pay unfranked dividends and so do not consider the impact of any franking credits if franked dividends were paid instead.)
The Commissioner enters the picture!
The ATO subsequently conducts an audit of Noah and PP’s tax affairs.
The Commissioner contends that, in the 2025-26 income year, the arrangement involved profits generated from Noah’s personal exertion being derived and retained by PP, resulting in those profits being taxed at the lower company tax rate rather than at Noah’s marginal tax rates.
For the 2026-27 income year, the Commissioner further contends that the effect of the share issue and dividend payment was to divert income generated by Noah’s personal exertion to Mia, who was taxed at a lower marginal rate.
The Commissioner considers that Part IVA of the ITAA 1936 is likely to apply to cancel any tax benefits obtained in the above circumstances.
Advise Noah and PP whether Part IVA ITAA36 applies in the circumstances above for the 2025-26 and 2026-27 income years.
In your answer, consider separately for each income year whether:
there is a scheme within the meaning of s 177A;
Noah, PP, or another taxpayer obtained a tax benefit in connection with the scheme within the meaning of s 177C (in doing so, explain the most reasonable alternative postulate);
having regard to the matters in s 177D, it would be concluded that a person entered into or carried out the scheme, or any part of it, for the dominant purpose of enabling a taxpayer to obtain that tax benefit; and
if Part IVA applies, what determination the Commissioner may make under s 177F.
Support your answer with reference to relevant legislation, case law and any relevant ATO guidance.
Assume PP qualifies as a personal services business, so the personal services income attribution rules in Divisions 84 to 87 of the ITAA 1997 do not apply, and you need not consider them.
For the purposes of question 1, you need only consider the general anti-avoidance provisions in Part IVA. Also do not consider other tax issues such as CGT, value shifting, Division 7A, and the superannuation guarantee, and also do not consider any company law issues.
(If time permits) Assume the facts of Ure v FCT 81 ATC 4100 occurred today. The Commissioner argues that the excessive interest deduction should be denied under s 8-1 ITAA97. In the alternative, the Commissioner argues that, if the full deduction is otherwise available, Part IVA ITAA36 applies.
How would Part IVA apply to the arrangement? In your answer, identify the scheme, the tax benefit, the most reasonable alternative postulate, and whether the dominant purpose test in s 177D is satisfied. Support your answer by reference to relevant legislation, case law and any relevant ATO guidance.