This article was written by Darren McClafferty and Greg Protektor.
On 21 September 2018, the Victorian Supreme Court dismissed an appeal by the Commissioner of State Revenue (Commissioner) in Commissioner of State Revenue v The Optical Superstore Pty Ltd  VSC 524. In doing so, the Supreme Court upheld the decision of the Victorian Civil and Administrative Tribunal (VCAT), which found that certain distributions made by an optometry business to optometrists under an express trust arrangement did not give rise to payroll tax under the Payroll Tax Act 2007 (Vic) (the Payroll Tax Act).
The Optical Superstore Pty Ltd (Trustee) was the trustee of four related trusts which collectively carried on a business known as "The Optical Super Stores" (TOSS). Stores that formed part of the TOSS were either owned and operated by the Trustee, or licensed by the Trustee to other parties (the Licensees).
Between 1 July 2005 and 30 June 2011, the Trustee and the Licensees entered into contracts (the Optometry Agreements) either directly with optometrists who conducted eye tests in optometry stores, or with companies or trusts through which optometrists carried on their businesses (the Optometrist Entities).
Under the Optometry Agreements, the Optometrist Entities were required to have their Consultation Fees (comprising fees earned from bulk billing to Medicare and money paid directly by patients) paid by patients to the Trustee. The Trustee then held that money under four related trusts for the relevant Optometrist Entities. Separate trusts were not created for individual Optometrist Entities. At the end of each month, the optometrists submitted the number of hours they had worked. From there, a "Reimbursement Amount", comprising the number of hours the optometrist was available to see patients multiplied by the applicable hourly rate set for each optometrist, was calculated and distributed to the Optometrist Entities from the Consultation Fees that were held on trust. The remaining amount was charged by the Trustee as an Occupancy Fee for the use of the Trustee's premises and was retained by the Trustee.
In addition, store owners made certain payments, referred to as a location attendance premium (LA Premium), to Optometrist Entities. This occurred where the Consultation Fees derived by an Optometrist Entity were less than the Reimbursement Amount which would otherwise be paid to them under the arrangements above. In effect, this provided the Optometrist Entities with a guaranteed minimum amount per payment period.
The Commissioner assessed the distributions made from the Trustee to the Optometrist Entities as giving rise to payroll tax obligations. The assessments were made on the basis of section 35(1) of the Payroll Tax Act, which provided that:
"For the purposes of this Act, amounts paid or payable by an employer during a financial year for or in relation to the performance of work relating to a relevant contract…are taken to be wages paid or payable during that financial year".
The Commissioner took the view that both the Reimbursement Amount and the LA Premium was paid or payable by the Trustee for or in relation to the performance of work by optometrists.
Five issues were considered at VCAT, namely:
- Whether the Optometry Agreements were "relevant contracts" for Victorian payroll tax purposes. That is, whether the agreements were contracts under which the Trustee was supplied with the services of persons (being the optometrists and Optometrist Entities) for or in relation to the performance of work (by the optometrists).
- If the Optometrist Agreements were relevant contracts, whether the LA Premiums and/or the Reimbursement Amounts should be treated as wages for payroll tax purposes.
- Whether any of the optometrists to whom wages were treated as paid fit within the exemption in the Payroll Tax Act for persons who provide services to the public generally.
- Whether the businesses carried on by related entities were carried on independently, and in turn, whether the Commissioner's discretion to "de-group" should be exercised.
- Whether penalties should be payable, or whether penalties should be remitted on the basis that the Trustee took reasonable care in determining its payroll tax position.
In relation to these issues, VCAT held that:
- The Optometry Agreements were relevant contracts, that is, contracts under which the Trustee was supplied with services for or in relation to the performance of work. This finding was made on the basis that the arrangements benefited the Trustee, as the provision of optometry services on the Trustee's site led to increased sales of frames, lenses and other optometry products by the Trustee.
- The LA Premiums were wages for payroll tax purposes. This is because the premiums had a close connection to the performance of services, given they were calculated based on the number of hours that the optometrists spent working in the TOSS stores. The Reimbursement Amounts, however, were not wages for payroll tax purposes. This is on the basis that there was an express trust in place under which the payments from the Trustee to the Optometrist Entities formed a return of their moneys and, as such, could not be viewed as a payment for or in relation to the performance of services provided to the Trustee.
- The exemption for contractors who provide services to the public generally should only be applied to certain optometrists, based on the hours of work and the percentage of income the optometrists derived from the TOSS stores. The exemption did not apply more generally.
- The discretion to de-group should not be exercised because there was a real and meaningful connection between the Optometrist Entities.
- The 25% rate of penalties had been properly imposed, on the basis that while the arrangements had been reviewed by other regulatory authorities, the reviews concerned different legislation and were undertaken after the filing of the payroll tax returns for the years relevant to the proceedings.
Supreme Court appeal
The Commissioner appealed VCAT's decision on the first issue, arguing that VCAT erred in concluding that a return of money from an express trust could not meet the statutory description of an amount "paid or payable" under section 35(1) of the Payroll Act.
As such, two key questions were raised on appeal:
- Whether the moneys distributed from each express trust to the relevant Optometrist Entities were "paid or payable" by the Trustee?
- If so, whether those distributions were made for or in relation to the performance of work relating to a relevant contract?
Justice Croft dismissed the appeal. In doing so, His Honour held that the amounts returned to the Optometrist Entities (i.e. the Reimbursement Amounts) were not "paid or payable for or in relation to the performance of work" within the meaning of section 35(1). This was because the meaning of "payments" did not extend to the return of money by one person to another where the second person earned that money from providing services to a third party and directed the money be deposited in the bank account of the first person and held in trust. This finding was sufficient to dismiss the appeal.
In obiter, however, Croft J further stated that if the distributions to the Optometrist Entities had been "payments", then they would have been "payments for or in relation to the performance of work" within the meaning of section 35(1). This was on the basis that the term "in relation to" was broad enough to capture the fact that the distributions were for or in relation to the performance of optometrist services by the Optometrist Entities.
Meaning of the term "paid or payable"
In coming to his conclusion, Croft J focussed on the meaning of the term "paid or payable" in the context of section 35(1) of the Payroll Tax Act. His Honour considered the ordinary meaning of the term "paid or payable", and noted that:
(a) inherent in the ordinary notion of payment is that money is conveyed in exchange for something else; and
(b) there must be some disunity between the payee and payer. That is, a person is unable to exchange money with themselves. A flow of funds cannot therefore occur if the payee and payer are the same.
That said, the Payroll Tax Act provides that the term "paid", in relation to wages, "includes provided, conferred and assigned". As such, Croft J found that there did not need to be the transfer of money in exchange for something else for an amount to be paid. The requirement of disunity between the payee and payer did, however, remain.
The concept of disunity creates an important limitation to the concept of a payment, especially where payment is made under a trust arrangement. In particular, the concept creates a distinction between a distribution made under a discretionary trust and one made under an express trust. This is on the basis that there may not be the requisite disunity between the payee and payer under an express trust. On this point, Croft J explained that an object under a discretionary trust that has a distribution made to it gains a new equitable interest, while a beneficiary under an express trust does not. That is, if a person has a declaration made in their favour under a discretionary trust, that distribution could be characterised as a payment, as they are receiving money that was not previously theirs, "both as a matter of common sense and in equity". Conversely, to hold that a distribution to a beneficiary under an express trust in this instance was a payment would ignore the fact that the funds always belonged to the beneficiaries (here, the Optometrist Entities) and that the "essential character" of the payments was the return of money to the beneficiaries of the express trust. This is so despite the fact that individual trusts were not created in favour of each of the Optometrist Entities, and the money was instead deposited into one of four accounts held for multiple Optometrist Entities.
Further, Croft J found that while section 35(1) was introduced to ensure that "amounts paid or payable" would constitute wages but for the fact they were made outside the employment relationship, the breadth of the provision did not extend to capturing moneys distributed where the payee already had a beneficial interest in the money.
His Honour did, however, note that there may be circumstances where the creation of an express trust may constitute a "payment" under the Payroll Tax Act. This will particularly be the case where the express trust is created in favour of an employee (rather than distributions to an employee under an existing express trust).
Different business structure, rather than different billing structure
During the appeal, the Commissioner sought to argue that interpreting the meaning of "paid or payable" in section 35(1) in this way would allow the operation of the provisions in the Payroll Tax Act to be defeated by entities using a different billing structure.
In response to this, Croft J noted that the arrangement put in place by the Trustee did not constitute a different billing structure, but rather a different business structure. In this way, Croft J distinguished the arrangement from that in Freelance Global Ltd v Chief Commissioner of State Revenue  NSWSC 127, where it was the trustee as principal, rather than the beneficiaries, that billed the clients.
The Court's position in The Optical Superstore case imposes a limit on the circumstances where payments will constitute "wages" for payroll tax purposes. It provides that distributions made under express trusts in circumstances where the moneys are already held beneficially by the recipient will not be considered "wages" for payroll tax purposes.
While this case may be particularly pertinent to entities that enter into arrangements to engage medical and allied health professionals directly, taxpayers should be careful in how their arrangements are structured. This is particularly the case given Croft J's comments that if distributions under a trust are considered "payments", then they may have been made for or in relation to the performance of work relating to a relevant contract.
If you are considering entering into professional services arrangements involving an express trust, you should consider the impact of this case. We have significant experience in this area and can assist in determining the payroll tax implications (if any).