Martinovich v Commissioner of Inland Revenue [2014] NZHC 1357 (17 June 2014)

Last Updated: 24 June 2014

IN THE HIGH COURT OF NEW ZEALAND AUCKLAND REGISTRY

CIV-2013-404-5095 [2014] NZHC 1357

BETWEEN	LEANNE MARTINOVICH Applicant
AND	COMMISSIONER OF INLAND REVENUE Respondent

Hearing:	10 June 2014
Counsel:	S Kilian for Applicant J Gorman for Respondent
Judgment:	17 June 2014

_{JUDGMENT OF FOGARTY J}

This judgment was delivered by me on 17 June 2014 at 4.30 p.m., pursuant to Rule 11.5 of the High Court Rules.

Registrar/Deputy Registrar

Date: ...............................

Solicitors: Kilian & Associates Limited, Albany

Crown Law, Wellington

MARTINOVICH v CIR [2014] NZHC 1357 [17 June 2014]

Introduction

[1] The applicant seeks a judicial review of a decision of the Commissioner of Inland Revenue to claim privilege in respect of a report prepared by a Ms McIntosh- Watt, as a solicitor/team leader of the Legal Technical Services (LTS) office of the Commissioner. The Commissioner claims privilege.

[2] The purpose of the application for judicial review is to obtain this document to use it to either negotiate a settlement or to bring proceedings against the Commissioner for malfeasance in respect of the costs that the applicant incurred responding to a default tax assessment against her for $867,758.73. This was raised in August 2009 and reduced to nil (abandoned) in November 2011.

Material facts

[3] The applicant is now a part-time health worker in Whangarei. At the material times in 2009, she was the Executive Secretary of Caratapa Group of Companies Limited (Caratapa). This company was in the business of gold mining and sold shares for the purpose of raising capital. Proceeds from the sale of some shares, totalling approximately $2,252,360 were banked into the bank account of the applicant.

[4] The accountholders of this bank account had, until 24 August 2008, been the applicant and her partner, Mr Kelvyn Alp. Mr Alp was removed as a signatory and named accountholder on 24 August 2008, at which point the balance in the account was $2,056.00. Mr Alp had ongoing tax issues with the Commissioner.

[5] The applicant had previously owed debts to the Commissioner for child support and repayment of family support. She had been adjudicated bankrupt and discharged. She had not filed any income tax returns for five years. Her only recorded income was a benefit from WINZ and Family Support. Faced with this flow of funds, on 14 August 2009, the Inland Revenue issued a default assessment against her. She was advised:

For the income tax year ending 31 March 2009 we have raised a default assessment against you, which is based on information Inland Revenue has

available at this time. This has resulted in a current debt to pay, including interest and late payment penalties of $867,758.73.

[6] On the same day, the Inland Revenue issued a deduction notice to the ASB Bank advising the Bank that the applicant owed the Inland Revenue the aforesaid sum.

[7] On 10 December 2009, the applicant challenged the assessment, filing a notice of proposed adjustment (NOPA). She contended:

The amounts in question were capital in nature, and therefore not returnable as taxable income. ... Fund realised by sale of company stock are of a capital nature, and do not form part of a calculation of taxable income under the Income Tax Act 2007. ...

Supporting documents

1 Receipt for sale of SOC of the Caratapa Group of Companies Limited.

[8] On 9 February 2010 the Commissioner responded with a notice of response

(NOR).

[9] In that NOR the Commissioner contended that the default assessment was correct, giving as its reasons that the applicant had not provided evidence that established on the balance of probabilities that the default assessment was incorrect, the reason why it was incorrect and by how much it was incorrect. It noted that she had not filed a income tax return for the 2009 tax year and therefore had not made an assessment for that tax year.

[10] The NOR recorded that Mr Alp was having bankruptcy proceedings being taken against him by the Commissioner. The NOR recorded that the receipts to the applicant’s bank account were all signed by her and record the sale of shares in Caratapa to various parties. The NOR also recorded that Companies Office recorded that the Caratapa share transfers were made by Mr Alp as sole shareholder to various parties. The NOR recited that the onus of the burden of proof was on the taxpayer and that at the time of the default assessment she had not filed an income tax. The NOR then went on to say:

[33] The taxpayer has not provided any share certificates or any other evidence of the share sales apart from the supplied receipts, which the Commissioner does not consider to be sufficient evidence that the share sales occurred. Even if they did occur, they are not evidence of how or why the taxpayer received the funds derived from the sales.

[34] The taxpayer has not provided an explanation as to how the proceeds of the share sales came to be deposited in her bank account. The Companies Office does not record her having held any shares in Caratapa at any stage. The taxpayer has provided no evidence indicating how funds have been transferred from Mr Alp to her. As no evidence has been provided linking the share sales directly to the deposits into the taxpayer’s bank account the Commissioner considers that the funds deposited are income to the taxpayer from an unknown source.

[35] The Commissioner contends that the evidence provided by the taxpayer to support proposed adjustments in regard to the unexplained deposits into the bank account do not satisfy the evidential burden upon her to prove, on the balance of probabilities, that the Commissioner’s assessment is incorrect, the basis on which it is incorrect and by how much it is incorrect.

[36] On that basis, the taxpayer’s proposed adjustment for the 2009 tax

year is rejected.

[11] The applicant instructed solicitors who made a requested Inland Revenue under the Official Information Act 1992 and Privacy Act 1993 for documentation, and received in turn a request from the Inland Revenue in respect of Caratapa. By this stage, we are at February 2011.

[12] On 8 February 2011, Mr Jeram, the investigator of this matter, provided the applicant’s lawyers, Duncan Cotterill, with a number of documents. Some of the documents contained redactions due to departmental procedures, information about another taxpayer, legal professional privilege, and maintenance of a secure database. At that time, Duncan Cotterill were also acting for the applicant’s former partner, Mr Alp.

[13] On 25 February, Duncan Cotterill replied to Mr Jeram complaining that he had not provided any decisionmaking documents supporting the decisions to issue the notices nor further particulars about the withheld documents, including the date of the document, the parties to whom it was sent and received and a description of the documents. Those parts of the memorandum redacted were, in Duncan

Cotterill’s view, likely to refer to their client’s association with Mr Alp. But because the Commissioner was aware that they also act for Mr Alp, Duncan Cotterill requested a complete unredacted copy of those documents.

[14] The letter contended:

It would appear from the partially redacted copy of the decisionmaker’s memorandum there was no lawful basis for the Commissioner to raise the default assessments.

It went on to argue that:

It is clear that the Commissioner was only at the risk analysis and case planning phase of the investigation and while there may have been unexplained deposits in the bank account, all that was required was for the Commissioner to ask our client for an explanation to the source of the deposits in the bank account. In our submission, it is an essential preparatory step to the exercise of the Commissioner’s statutory discretion to raise default assessments, and the Commissioner’s failure to take this step makes his assessments arbitrary and capricious.

The fact that the money from the bank account was used for personal expenditure or transferred to unknown sources is not uncommon, and does not in any way assist the decisionmaker to establish whether the deposits are taxable or not. Clearly, the appropriate course of action for the Commissioner would have been to investigate and determine the source and nature of the deposits in order to determine whether they were taxable or not prior to raising any assessments. However, the Commissioner failed to do so prior to raising the default assessments.

This letter concluded in the following manner:

It would now seem totally appropriate for some senior officers to now review the way this investigation has been conducted in the light of all the issues raised, and consider whether the Commissioner should reverse his default assessments. If the Commissioner then wished to continue investigating this matter he may do so by undertaking a sensible and appropriate line of inquiry prior to raising or proposing any further assessments.

[15] On 2 March 2011, Inland Revenue replied as follows:

I refer to your letter dated 25 February 2011, specifically your request to have Inland Revenue’s investigation file reviewed by senior personnel within the department. After considering your request it has been decided that Kerryn McIntosh-Watt, Team Leader, Legal and Technical Services, Wellington review the file.

The outcome of the review will be conveyed to you in due course.

[16] At this time, in 2011, Ms Teodoro was Manager of Investigations. A special audit unit was placed within her group. Team leaders reported to her on a significant number of ongoing cases. One of those leaders was Ms Duncan. One of her investigators was working on the applicant’s file. As part of her review of the file for which she was responsible, Ms Duncan discussed with Ms Teodoro her initial conclusion that this file “should be closed”. In context, that meant the assessment should be reduced to nil.

[17] Ms Teodoro then deposed:

6. Before a final decision was made on the next steps, I was concerned to ensure that Ms Duncan and I were able to take account of the whole picture in terms of the consequences of proceeding with or closing the file. To achieve this, I wanted not an administrative review by a senior manager but a legal review by a senior lawyer who could provide legal advice on our next steps taking into account the relevant law, facts and departmental procedures. It was possible the matter would become contentious and I was keen to ensure that the Commissioner had the benefit of free and frank legal advice before we made any relevant decisions.

7. Accordingly, in March 2011, I arranged for Kerryn McIntosh-Watt, then Solicitor Team Leader, LTS to provide the legal advice. ...

...

9. On 9 April 2011, I received Ms McIntosh-Watt’s legal advice, by email ... I asked Ms Duncan to let me know what further actions needed to be taken once she had had the opportunity to consider the advice.

10. After this, on the basis of third party shareholders confirmation as to the source of the deposits in the applicant’s account, the relevant assessment was withdrawn.

11. In August 2011, I was advised by Mr Jeram that Mr Kilian had requested a copy of the legal advice. Given by reasons for requesting the advice, I was confident that it should be subject to legal privilege. ...

[18] Thereafter, the Commissioner has consistently refused to disclose the report of Ms McIntosh-Watt on the grounds of legal privilege.

[19] On 26 September 2011, the applicant’s solicitors wrote to Inland Revenue’s special unit saying that the Commissioner had undertaken to carry out an independent review of the file; that they understood that the review had been

completed; and that they understood that two senior managers (Mrs Teodoro and another) wanted to arrange a meeting to discuss the findings. They were available to meet. In the interim they requested the Commissioner to urgently provide, in terms of the Official Information Act and the Privacy Act, a copy of the report or the memorandum produced by the independent review, together with all supporting information.

[20] On 29 September, this request was rejected in a letter to the solicitors for this reason:

The report resulting from the review is legally privileged, and therefore will not be provided. However, as discussed, Susan Teodoro, Manager, Assurance, is happy to meet with you to discuss issues relating to the report and investigation.

[21] A complaint was then made to the Ombudsman, without any success.

[22] On 30 November 2011, Ms Duncan wrote to Mr Kilian, the applicant’s

solicitor, as follows:

2009 DEFAULT ASSESSMENT AND INCOME TAX DISPUTE

I refer to the current tax dispute between Ms Martinovich and the

Commissioner of Inland Revenue (“the Commissioner”) in relation [to] the

2009 income tax year.

I advise that, following the facilitated conference held on 29 November

2010, Inland Revenue has now independently obtained information from

third parties in relation to the funds deposited into Ms Martinovich’s bank

account. The information obtained supports the adjustments proposed in your client’s Notice of Proposed Adjustment. After consideration of this information, and the comments made by you at the facilitated conference, the Commissioner has decided to accept your client’s position that the deposits are funds from Mr Alp’s sale of shares in Caratapa Group of Companies Limited.

As a result the disputes process has been completed and the tax investigation has been finalised. The Commissioner’s default assessment raised for the year ended 31 March 2009 will be withdrawn.

A Notice of Assessment and Statement of Account will be issued in due course. [That Notice of Assessment reduces the liability to zero.]

Causes of action/pleadings

[23] The applicant pleads that the decision to claim privilege was the exercise of a statutory power preserved in s 81(4)(l) of the Tax Administration Act 1994 (TAA) prohibiting the Commissioner from releasing information otherwise permitted by that subsection, unless the Commissioner considers it reasonable and practicable to give that information.¹

[24] It is common ground that the Commissioner is entitled to claim privilege for legal advice. The statement of claim pleads that it was an error on the part of the Commissioner to decline to release the report, as the Commissioner had made the following errors of fact and law:

(a) She had agreed to undertake the independent review at the applicant’s request and for the applicant’s benefit, based on a number of alleged improprieties against the applicant.

(b) The relevant legal context and purpose of the report was not for providing legal advice to the respondent but, rather, for addressing the improprieties and issues raised by the applicant.

(c) A report prepared by the respondent’s solicitor containing legal analysis does not, in itself, make it subject to legal privilege and protected from disclosure under the TAA.

(d) The respondent erred in law and fact by determining the report was subject to legal privilege and therefore not reasonable or practical to be disclosed under the TAA.

(e) The respondent erred in law in failing to acknowledge that the secrecy provisions under s 81 of the TAA are for the protection of the

_taxpayer.

¹ Tax Administation Act 1994, s 81(4)(l)(ii)

[25] The applicant, in respect of those pleadings, seeks a declaration that the decision to decline to release the report is invalid or an order setting aside that decision.

[26] For a second cause of action, the applicant pleads legitimate expectation. The applicant pleads that it made a fair and reasonable request to the Commissioner to undertake an independent review which the respondent agreed to undertake and then report the outcome. She also pleads that, as a result, she had a legitimate expectation, based on the statements of assurances she would receive a copy of the review. The applicant further pleads that the Commissioner has an obligation to act fairly and responsibly and has failed to do so. Essentially, the applicant seeks as a remedy an order requiring the respondent to produce to her a copy of the independent report.

[27] For the third cause of action, the applicant pleads a failure to take into account relevant considerations. She repeats the pleading that the applicant requested an independent review. She pleads that the Commissioner had agreed to undertake such a review and then pleads that in claiming legal privilege on the independent report, the Commissioner failed to take into account that the report was to be provided for the purposes of an independent review on behalf of the applicant. The Commissioner took into account irrelevant considerations, being the fact that the solicitor provided the independent review document without doing so to provide legal advice.

[28] In oral argument, Mr Kilian pursued the pleadings which centre on the substantive proposition that the Commissioner had agreed to undertake an independent review and promised the outcome so that, as a consequence, the report was not undertaken for the purpose of the Commissioner obtaining legal advice and was essentially a report of the actions taken on behalf of the taxpayer.

[29] Alternatively, and inconsistently, Mr Kilian also argued that the report by Ms McIntosh-Watt which resulted in the assessment being reduced to zero, was effectively the decision, or part of the whole decision, so as not to be privileged. The latter argument relied on the distinction drawn in the authorities, exemplified in the

decision of Miller v CIR,² between a lawyer on the Commissioner’s staff who is a decisionmaker, exercising a delegated power to decide and thus performing an executive function, on the one hand, and a lawyer giving legal advice to a decisionmaker.

[30] In the nature of things, it can be an exercise of degree as to whether a person fits into one role or the other. So, in that case, Baragwanath J distinguished between the role of Ms Cotton and Mr Clarke:³

Mr Clarke’s opinion is in my view to be characterised as prepared for the dominant purpose of giving legal advice rather than in performance of executive function. Undoubtedly it was a step and an important one en route to Mr Phizacklea’s ultimate application of s 99 because it formed the legal basis for the policy discussion at the policy making meeting ... It clearly reflects its heading “JG Russell Schemes – Legal Issues”.

He said in respect of Ms Cotton:⁴

In my view the commissioner was right in not pursuing the claim for privilege in respect of Ms Cotton’s report of 20 December 1990. Certainly as the analysis shows it is largely based on the Inspector’s report. But Ms Cotton’s affidavit and the form of the document suggest that she was acting not as an independent legal adviser contributing advice from outside the executive decision making process; rather she was a member of the personnel performing that process. Her document is not expressed as an opinion but as a Head Office response to a Northern Region reference with recommendations which were submitted in turn to the Manager Legal Services and to Mr Phizacklea as decision maker.

[31] The Commissioner disputes the proposition that it agreed to undertake an independent review in the interests of the taxpayer, such that the taxpayer became entitled to see the whole of the report, not just to learn of the outcome of it.

[32] I regard this as a the first issue because it also drives judgment on whether or not the report is subject to solicitor/client privilege in favour of the Commissioner.

[33] It is easy to appreciate that, from the perspective of the correspondence sent and received between the applicant’s solicitors and the Inland Revenue (Mr Jeram),

_{that there would be a review and that they would be informed of the outcome of the}

² _{Miller v CIR (1997) 18 NZTC 13,001 (HC)}

³ _{At 13,020.}

⁴ At 13,021.

review. They believed this was solely because of their request for an independent review.

[34] What the applicant taxpayer did not know was that the specialist auditor, Ms Duncan, had at about the same time independently formed the view that “the file should be closed”, i.e. that the assessment should be reduced to nil.

[35] Superior to Mr Jeram and to Mr Duncan was Ms Teodoro. She explains that, for different reasons, she already had Ms Duncan reviewing this case among a number of files. It was in response principally to Ms Duncan’s advice that Ms Teodoro wanted a legal review by a senior lawyer.

[36] There is an overlap between Ms Teodoro’s decision and the applicant’s request in February for the independent review. It was in March 2011 that Ms Duncan arranged for Ms McIntosh-Watt, then solicitor Team Leader and LTS, to provide the legal advice.

[37] At a pre-trial hearing, Mr Kilian had not pursued a suggestion that the Commissioner’s deponents on affidavit should be able to be cross-examined. Cross- examination is not readily granted in judicial reviews. Yet, in submissions to this Court, he invited this narrative of events to be disregarded.

[38] It is quite clear that Ms McIntosh-Watt was not given delegated authority to make the decision whether the file should be closed. She was selected for the task because she was a relatively independent legal expert within the IRD. The Commissioner is charged with the care and management of taxes.⁵ She is responsible for promoting the integrity and efficient functioning of a tax system, as well as bringing about its efficient and effective administration.⁶ It is for the purpose of, and in the course of, carrying out these duties and responsibilities that the Commissioner obtains all legal advice, including the legal memorandum. The Commissioner acts not on behalf of a taxpayer but on behalf of the tax system as a

_whole.

⁵ _{Tax Administration Act 1994, s 6A(2).}

⁶ Sections 6 and 6A.

[39] In this context, it would be counterintuitive for Ms Teodoro to seek a legal review of the file with a view to closing it but, on the basis that the entire content of the review would be disclosed to the taxpayer, subject to the default.

[40] One can readily understand that, as a general policy where legal advice is taken from a person who is not going to make the executive decision, would be done so under the cloak of legal privilege. I consider the facts here. There was obviously a past close relationship between Mr Alps and the applicant. There was also litigation going on between the Commissioner and Mr Alps. The NOR issued by the Commissioner had put the applicant, as a taxpayer, to the proof. It is possible that the review might turn up further lines of enquiry. Premature release of those lines of enquiry might hamper pursuit of other lines of enquiry. It is clear that Ms Teodoro was not sure, and wanted to be sure, that the file could be closed before she closed it. That is, in part, why she sought the review and at the same time was meeting a request by the taxpayer for a review. Through Mr Jeram, she promised disclosure to the taxpayer of “the outcome” of the review. That was not a promise to disclose the content of the review.

[41] The law of solicitor/client privilege applicable to the Commissioner, is the common law. It is the same law that applies in commerce and to any disputes between private persons. It is common enough for persons in a dispute to invite the other side to get legal advice with the expectation that that advice will confirm the protagonist’s view of the hopelessness of the argument being made against him or her. No one would suggest in commerce that the suggestion that a legal review be taken by one’s opponent would result in that legal advice not being privileged. So far as possible, I think that the common law on solicitor/client privilege should be applied in respect of the Commissioner. That is also my understanding of the general body of case law on this subject.

[42] For these reasons, I think it is inherently improbable that Ms Teodoro would have ever assumed that by engaging Ms McIntosh-Watt, she was going to deliver the results of the latter’s work to the taxpayer in dispute, whatever the results. She was entitled to the benefit of solicitor/client privilege, and she has it. Nor has she waived it in the decision.

[43] It might be thought, “Well, as the decision went in favour of the taxpayer, what’s the fuss? Why is the report not being disclosed?” The answer to this is to be found in at [4.58] – [4.68] of the Cabinet Manual which sets out the Government’s approach generally to obtaining legal advice and the maintenance of legal privilege, including that the Attorney-General has the right to determine whether to release legal advice. Plainly, it would not be in the interests of the Government to release legal advice when it is favourable to the other party but to claim legal privilege when it is not. So I see nothing sinister at all in the Commissioner maintaining solicitor/client privilege in a report which obviously was favourable to the taxpayer.

[44] Almost all decisions made by a Commissioner are made pursuant to powers delegated by the Commissioner to a particular decisionmaker. There is no evidence at all that Ms McIntosh-Watt had such delegated powers. The evidence is the other way. It is in the affidavit of Ms Teodoro as discussed above and in Ms McIntosh- Watt’s own affidavit filed in these proceedings. She records that she was asked to complete an independent analysis of the case to date and complete a written document outlining advice/recommendations. She said she provided the legal advice in a capacity as in-house counsel. She used LTS’s standard legal privilege notation to reflect the fact the content of the memorandum was legally privileged. So she thought the legal advice she had provided was legally privileged and confirmed her opinion on that when asked later. That being the case, she clearly did not see herself as a decisionmaker.

[45] Ms Duncan’s evidence is also consistent. Ms Teodoro turned to Ms Duncan and asked Ms Duncan to request a senior legal officer to provide legal advice. It was Ms Duncan who discussed the matter with Ms McIntosh-Watt and obtained her to provide the legal advice.

[46] It is quite clear on the evidence that the advice Ms McIntosh-Watt provided was not the decision. The decision was made when her advice was accepted.

Conclusion

[47] It does seem more probable than not that the reasonably pre-emptory raising of an assessment for tax against the applicant was related to the ongoing pursuit of Mr Alp by the Commissioner.

[48] It is possible that the applicants might have a claim for pursuing the release of more of the information, particularly that withheld on the grounds related to another taxpayer. But that is a different question from whether or not the Commissioner is entitled to rely on solicitor/client privilege.

[49] I accept the evidence of Ms Teodoro, Ms Duncan and Ms McIntosh-Watt as fairly describing their processes. Their joint and several description leaves the Court in no doubt that the report of Ms McIntosh-Watt was legal advice, not an executive decision to reduce the assessment or part of the executive decision. Accordingly, it is not discoverable.

[50] As noted above, the pleadings approach this core question in three different ways. But, to my mind, it was a straightforward judgment on the part of Ms McIntosh-Watt to mark her report as legal advice and it was a straightforward decision of the Commissioner to maintain her usual policy of claiming solicitor/client privilege, which could only be waived by the Attorney-General, in order to comply with the Cabinet Manual.

[51] The whole point of this judicial review was to get this legal advice. Upon the finding that the Commissioner has privilege, the application for judicial review must fail.

[52] There is judgment for the respondent.

[53] The applicant is legally aided. Costs are reserved for that reason.