The Supreme Court rendered the 106-Pan-234 Decision of May 4, 2017 (hereinafter, the “Decision “), holding that if reduction of tax obligations through collusive and fraudulent legal forms is involved, this is not tax avoidance and should be treated as tax evasion.
According to the facts underlying this Decision, the original disposition agency initially determined that the Plaintiff had transferred the entire construction land at issue to his son under the pretext of agreed-upon division to evade the gift tax. Therefore, a gift tax was assessed along with a penalty equivalent to 0.5 times the evaded tax amount under the principle of substantive taxation. A reconsideration application was filed, resulting in the decision that the cash compensation paid by his son should be deducted from the total gift amount with the tax amount offset accordingly. The rest of the application was rejected by the original disposition. Dissatisfied, the Plaintiff brought administrative action pursuant to applicable procedures.
It was first pointed out in the Decision that although tax avoidance takes advantage of the legal form, still the appearance of the legal form is not inconsistent with the true intent of the parties. If a collusive and fraudulent legal form is involved to reduce or eliminate a tax obligation, this does not fall within the scope of tax avoidance and should be dealt with as tax evasion.
It was further held in the Decision that the Plaintiff had divided a jointly owned land at issue for mutual transfer of ownership and leveraged the legal form of price difference compensation for ownership shares based on announced land value. On the face of such legal form, the economic substance and the levy of gift tax disputed in this case at least entails three imaginable scenarios.
In the first scenario, the legal form and economic substance between the parties were completely matched where two individuals divided a jointly owned object and obtained their due share of the jointly owned land at issue through mutual transfer. Since they obtained the property of the other party for adequate considerations, there was certainly no room for any gift tax.
In the second scenario, although the legal form involved the division of a jointly owned object, still the land reserved for public infrastructure at issue lacked possibility for reasonable use and had no market value between the parties at all. However, since cash payment did take place, the economic substance of suchcase should still be cash as the consideration for the ownership share of the construction land at issue, except that the consideration was quite inadequate, and thus should be treated as a gift under Article 5, Subparagraph 2 of the Inheritance and Gift Tax Law. If the substance of this scenario only involved tax avoidance, it would be legal and the act of tax avoidance should not be directly equated with tax evasion unless the gift tax was “additionally” evaded through false or concealed filing.
The legal form in the third scenario is the division of a jointly owned object. However, the land reserved for public infrastructure at issue had no market value and the cash payment was false. Therefore, the economic substance of the transfer of the construction land at issue without compensation by abusing the legal form of division of a jointly owned object should be deemed as tax avoidance By the method of economic observation, it should be deemed that “a gift to another person without compensation” under Article 4, Paragraph 2 of the Inheritance and Gift Tax Law covers such scenario in which the gift tax may be levied for the ownership share of the construction land at issue based on its announced present value. The act of collusive and fraudulent transfer of cash could potentially involve tax evasion.
It was further pointed out in the Decision that the three scenarios have different factual basis, and that laws cannot be correctly applied until the act and facts associated with the taxpayer can be verified by evidence. The principle of substantive taxation used for determining facts and the method of economic observation used to interpret laws should not be confused by directly using the method to interpret tax laws to determine facts.
It was further pointed out in the Decision that since whether the cash payment by the Plaintiff’s son was false or true was not verified by evidence, the original decision was reversed and remanded for re-investigation for failure to investigate evidence ex officio pursuant to Articles 125 and 133 of the Administrative Litigation Law and for erroneous finding of facts.