When Tax Avoidance And Directors’ Duties Intersect: The Binetter Appeal

23 Jan 2019

By Benjamin Caddaye, Law Clerk, and Alicia Hill, Principal, MST Lawyers

Introduction

The recent appeal decision of BCI Finances Pty Limited (in liq) v Binetter [2018] FCAFC 189 illustrates the requirement of actual acts or omissions of a director to give rise to a breach of directors’ duties. The appeal concerned the liability of Gary Binetter, the son of Erwin Binetter. Erwin, alongside his brother, Emil, had orchestrated a tax avoidance scheme to avoid paying the ATO monies which would otherwise be payable, utilising offshore funds in Israeli Banks to maximise interest deductions on the family company’s tax returns in Australia. Gary had been a director of one of the family companies involved in the scheme, and the question was whether the inference of knowledge of the surrounding facts and circumstances was enough to give rise to a breach of his directors’ duties.

Binetter Family’s Tax Avoidance

The Binetter brothers Emil and Erwin came to Australia as refugees after World War Two. Between the 1950s and 1988, Emil and Erwin expatriated large sums of money from Australia to overseas bank accounts in Switzerland and Israel upon which no income tax had been paid.

Between 1988 and 2014, Emil and Erwin engaged in a tax avoidance scheme whereby two Israeli banks (IDB and Bank Hapoalim) provided back-to-back loans to companies in the family group. A back-to-back loan is defined as a loan where the sum advanced is secured by deposits with the bank of the equivalent amount. The previously expatriated money was used to cover these deposits, and the bank charged interest at the rate of 0.3%. The loans were made to four finance companies in the family group (BCI, EGL, Ligon 268 and Binqld). These companies then on-lent the money as working capital to other entities in the family group at higher commercial rates of interest. The interest expenses were then deducted in income tax returns to the ATO as an expense to reduce the company’s tax liability.

In essence, the scheme used money that had left Australia to avoid tax and enabled the family corporate group to gain large interest deductions, further reducing their taxable income through the back-to-back loan scheme.

Up until around 2006, the Commissioner of Taxation accepted the on-loaning of funds and therefore the deductibility of the interest payments. After this time, the ATO alongside several other Government departments established Operation Wickenby which targeted taxpayers who were participating in the abusive use of tax secrecy jurisdictions to hide assets that were subject to taxation in Australia. As a result of the audits and investigations of the Operation, the ATO issued amended assessments to four of the finance companies in the Binetter family group. Based on the fraudulent evasion of tax, the assessments did not recognise the deductibility of interest to the Israeli banks, nor the existence of the loans, treating the inflow of money from Israel as income. These amended assessments alongside interest and penalties resulted in a tax liability to the ATO of approximately $120 million.

At First Glance                                                          

The family finance companies, unable to meet this debt, became insolvent and the ATO funded the liquidators to pursue the directors of the various companies for breach of their director’s duties to recover the sum owed to the ATO.

This claim was decided in BCI Finances Pty Ltd (in liq) v Binetter (No 4) [2016] FCA 1351. Gleeson J found that the agreement between the finance companies and the Banks were shams and not loans, and had been devised to justify the deduction expense and avoid tax.

Her Honour found that the various family members owed the companies three duties:

  1. a duty not to permit the interests of the relevant director to conflict with the interests of the relevant applicant company, without the company’s informed consent (conflict duty);
  2. a duty not to exercise a power conferred upon the relevant director in order to obtain some private advantage or for any purpose foreign to the power (proper purpose duty); and
  3. a duty not to exercise a power conferred upon the relevant director in a manner which is detrimental to the interests of the relevant company (company interests duty).

Her Honour held that Emil, two of his sons Michael and Andrew and Erwin were guilty of breaching their directors’ duties in relation a variety of conduct such as the drawdowns, rollovers and on lending of funds from the Israeli banks, for receiving and making the relevant payments and lodging the tax returns. However, the judge found that Margaret Binetter, Erwin’s wife and Gary Binetter, Erwin’s son had not breached their duties.

The finding that Gary had not breached his duties was of particular importance. The Court held that because Gary had not been a director at the time BCI had received the funds from Bank Hapoalim, he had not caused BCI to enter into those transactions. There was no evidence that the Bank dealt with Gary in respect of the later transactions, or that he took any steps to give effect to the scheme or took any particular role in the management of BCI.

The Liquidators tried to argue that Gary had knowledge of and participated in the scheme based on a number of matters. These matters included:

  • the fact that the only business of BCI was to implement the scheme,
  • Gary had accounts with the banks himself and was aware of a deposit held by BCI with IDB,
  • he was at a meeting in Tel Aviv where instructions were given to Bank Hapoalim to destroy the BCI file, and
  • he had opened a Swiss franc account with ANZ.

Her Honour accepted that Gary knew Emil’s dealing with the banks involved back-to-back arrangements and had opened the foreign account with ANZ. However, this was not enough to satisfy that Gary knew of the key elements of the scheme, nor that the agreed to participant in it.

Appeal To The Full Federal Court

Four appeals were initially instituted against this judgement by the various parties. Two appeals settled, leaving two remaining issues for determination before three Judges of the Federal Court. These issues concerned the finding that the agreements between the Israeli banks and the finance companies were not loans, and, as is the focus of this article, the finding that Gary did not breach his director’s duties.

The Liquidator argued that the primary judge should have found that Gary’s knowledge of the scheme could be inferred from his involvement in a similar scheme involving two other companies not in the family group, and through his role as director of Milgerd and Ligon 159 (two of the family companies which received the funds from the scheme from BCI). The Liquidator also argued that Gary’s failure to give evidence at trial was a factor that aided the inference he was aware of the scheme.

Their Honours found that the Liquidator had not established that there was an error of law in the primary judge’s conclusion. They agreed with the primary judge that the question was whether there was a particular act or omission on the part of the relevant director. In this case, there was no evidence of any act or omission on the part of Gary. Involvement in a similar scheme with separate companies was not an act or omission, and therefore there could not have been a breach of directors’ duties, and the appeal was dismissed.

The Significance Of The Decision                                                                                  

This decision helps clarify that where a party alleges a breach of director’s duties, they must be able to point to actual conduct or actual omissions. Without such conduct, a circumstance on its own will not be enough to found a breach by a director of the duties owed to the shareholders and creditors of the company.

If you have any questions about the content of this article of the issues raised by it, please feel free to contact Alicia Hill by email or call +61 3 8540  0200.