31 May 2018

HHG Legal Group is proud to be an expert for Legalwise News, assisting the publication answer reader questions. In their second edition, Greg Gaunt provided his take on how to help clients who fell victim to a high-profile Ponzi development scheme in Western Australia. 

The reader asked a tax-based question: How do we treat the victims of these Ponzi schemes? 1. Interest payments they received; 2. Capital eventually lost? Because it was always a scam, can we treat any repayment as a return of capital?

Charles (Carlo) Ponzi was born in Italy in 1882 but migrated to the United States in 1903 (reputedly having gambled away his life savings on the trip across).

The scheme he concocted in the early 1920s and which made him famous to this day, involved the purchase of discounted postal reply coupons in other countries and redeeming them for face value in the United States. He apparently offered investors a profit of 50% within 45 days or 100% within 90 days. In reality he was only able to pay early investors from funds obtained from later investors. The scheme ran for over a year and the cost to investors was reputed to be around US$20m.

Ponzi was convicted on mail fraud charges and imprisoned. He was later imprisoned for a second time on larceny convictions and, at the end of the second term of imprisonment, was subsequently deported back to Italy. There does not seem to be any doubt that Ponzi never considered that his scheme, like others that he came up with subsequently, had any chance of success. He was simply a swindler.

While he wasn’t the first to have thought of such a scheme, his name has been forever associated with such a fraudulent undertaking.

Following the Ponzi scheme conducted by Bernard Madoff, the IRS, in the United States, issued Revenue Ruling 2009-09, dealing with “Theft Loss deductions”. At its simplest, the ruling allows taxpayers to claim an ordinary deduction (not a capital loss) equal to 95% of their net loss in the year that such theft is discovered – net loss calculated as the sum of the amount invested and amounts previously reported as income, less any amounts recovered.

In Australia there is no equivalent to Revenue Ruling 2009-09. While there is provision under the Income Tax Act Assessment Act of 1997 for the deduction of “theft losses”, that is only where;

  • The taxpayer discovers the loss in the income year,
  • The loss was caused by the theft or stealing… of the taxpayer’s employee or agent,
  • The money was included in the taxpayer’s assessable income for that income year or for an earlier year.

The case of Lean v Commissioner of Taxation 2010 [FCAC] 1 made it clear that the money misappropriated must be the same money as was included in the taxpayer’s assessable income. That provision is, therefore of little, if any, assistance in this case.

One of the difficulties which arises in any consideration is whether a “scheme” was intended as a Ponzi scheme at the outset (i.e. it was an absolute sham from the outset) or subsequently evolved into a Ponzi scheme (or akin to a Ponzi scheme) as the original plan (with some possible, original merit or justification in the eye of the misguided proponent) suffered setback and began to unravel.

In the Canadian case of Roszko v The Queen (201 TCC 59), the Tax Court of Canada held that moneys paid out of a fraudulent scheme were not taxable as interest income. The Crown had argued in this case that money repaid to the taxpayer was property income in the form of interest. 

The Tax Court found, however, that the returns were a return of capital. In the Roszko case moneys invested were to be applied in a specific manner but were actually invested in a different fashion, without the knowledge of the investor. The Tax Court also found that;

  • it could distinguish this case, on its facts, from an earlier case (Johnson v The Queen (2012 FCA 253)), which reached the conclusion that there can indeed be a source of income in a Ponzi scheme,
  • the case was more like Hammill v The Queen (2005 FCA 252) where the court held that a fraudulent scheme from beginning to end cannot give rise to a source of income from the victim’s point of view.

There is no clear case law in Australia that can be used as guidance. As matters stand, therefore;

  • in circumstances where it was absolutely clear from the outset that a scheme was fraudulent from beginning to end (a la Hammill v The Queen in Canada), then perhaps it could be argued that any repayment could only be of a capital nature,
  • in most circumstances, however, where the Ponzi nature of the scheme only arises subsequently, it may well be difficult to characterise any payment, however characterised at the time of payment, as a capital repayment.

GREG GAUNT 

*This is general information only, and does not constitute specific legal advice. Please consult one of our experienced Legal Team for specific advice relevant to your situation.

100 years of Supporting West Australians

"Always fast and thorough service. Thank you"

Sitka Pil

My circumstances at the time I made contact with HHG were dire following my argument being rejected by two no win no fee firms. Following my initial meeting with HHG's employment law team I was left feeling extremely positive by the response and concern shown by HHG in regards to their support of my argument along with their preparedness to pursue an outcome on my behalf.

I accept the fact that nobody really wins in these cases (mental health/ workplace) however the end result was what would be considered most favourable and far in excess of what would have been achieved had I not sought the advice from HHG.

I have no hesitation in recommending HHG to anyone caught up in the messy circumstances I found myself in at the time.

Great advice and five-star commitment to their client!!"

Nathan Lynch

"Thank you for such great assistance with the transaction of Flying Domestics on behalf of Lorna Good. It has been such a pleasure to work with the HHG Legal Group and I look forward to working with you in the future."

Jim Goodwin

"Simon Creek and his team were at all times empathic, professional and confident.  My matter needed to be addressed within a pressing time frame, and their availability at short notice and contact after hours was much appreciated.  It caused me considerable stress, but having such a thoroughly reliable and competent team to call on helped me to feel in control. Although I hope not to need their services again in future, I would be confident in doing so!"

Dr Lana Bell

"A good outcome is what we can expect.  A great outcome is a sign of a company which does the very best for their clients. A very big thank you to Daniel Morris for showing empathy towards my small and much needed legal action.

To HHG Legal Group, thank you for a great outcome.  I would recommend your company to anyone seeking legal services."

Jan Atkinson

"Your support this morning was amazingly kind, not to mention your totally reassuring competence, knowledge and wisdom that you used on my behalf.  It was extremely reassuring to have your knowledgeable support, and I particularly appreciated your real and obvious kindness to me. It means so much at a very difficult time. I'm so grateful to you."

Family Law Client

"Janene was very professional and we established a good rapport quickly. The subject of death and wills can be quite confronting to deal with, however, Janene's approach was soft and accommodating."

Lynette Livesey

"A big thank you to HHG for their professional service, continued support, and wide range of legal knowledge. Our clients have given us nothing but kind words regarding HHG Legal Group and so we have no hesitation in referring and recommending Simon Creek and HHG Legal Group for their outstanding services and legal expertise."

Nigel Plowman, Director at McKinley Plowman & Associates

"Simon is a friendly and practical legal advisor. I have received great feedback from the clients I have referred to him and his team at HHG Legal Group."

Richard Beal, Director at BDO

"Over the last few years, I have been impressed by Simon’s legal ability, management skills, entrepreneurial spirit, personal integrity and people skills. He appears to be that rare breed of lawyer – both knowledgeable and commercial."

Michael Malone, Founder of iiNet

"Our family has been a client of HHG Legal Group over many years.  Business has included drawing up of wills for three generations and preparing of probate for my father in law. I would have no hesitation in recommending HHG Legal Group to anyone requiring such services."

Bernice Climie

"You should be congratulated for the manner in which your staff address clients and we found our dealings with your company, once again a very pleasant experience and we would like to truly thank you for your efforts."

Steve Harvey and Jane Powell

"HHG Legal were absolutely fantastic. Extremely responsive and brought calm to our chaotic family situation through their knowledge and caring attitude. Extremely professional from our very first contact with them and they expertly guided our family though the required legal process over almost a 12 month period."

Amanda Williamson

"Fantastic team! They really care about their client. Tim Colcutt is a 'go that extra mile' guy who gives his client his all. I can't recommend HHG and Tim enough."

Kerry Samson

"I had a fantastic lawyer in Anne Hurley. She helped me out a great deal with good, sound advice in a friendly, professional manner. First class, thanks Anne"

Graeme Hammond

"Marine Plant Systems has been working with HHG Legal Group for a few years now and they continually provide first-class service. Their professional advice has been invaluable to our company."

Carolin Grimm - Marine Plant Systems

"We were kept up to date at all times. Pricing was always updated over the time period so we remained "in budget". Personal access to someone whenever I had questions. All in all a great experience without too much fuss."

Rosslyn Tasker - COO AltusQ Pty Ltd

"Good service you can count on."

Miles Lee

"HHG Legal Group has provided outstanding support as I have taken the journey of buying a business, their professionalism is beyond reproach. Their assistance throughout the Due Diligence process has been invaluable, I would fully recommend them."

Mark Armitage

"Very friendly and efficient service - what a pleasure working with Anne."

Jacques Taylor

"I highly recommend Daniel from HHG Legal Mandurah. When dealing with a complicated legal property matter recently I was extremely impressed by Daniel's honesty and integrity and the legal advice I received. I am very happy with the service from HHG Legal."

Tony Walker