Reduction of penalty tax: disclosure after tax audit notified

Whether the taxpayer, who is subject to a foreign source income (FSI) audit and discloses additional FSI, is entitled to a reduction of penalty tax under section 226Y of the Income Tax Assessment Act 1936 (ITAA 1936).

The taxpayer is entitled to a reduction of penalty tax under section 226Y (ITAA 1936).

The Australian Taxation Office (ATO) is provided with details of interest paid from an entity in an overseas country to the taxpayer. The taxpayer is notified that they are the subject of an FSI audit and is asked to complete a questionnaire about FSI received. The taxpayer responds, including details of other FSI that the ATO is unaware of, as well as confirming the information already known. On the basis of the taxpayer's particular circumstances surrounding the omission of FSI, an amended assessment is processed to include FSI not previously disclosed to the ATO and penalty tax equal to 25% of the amount of the tax shortfall caused by the taxpayer's failure to take reasonable care is attracted under section 226G (ITAA 1936).

The taxpayer contends that the penalty tax imposed should be reduced by 20% under section 226Y (ITAA 1936).

Section 226Y (ITAA 1936) reduces penalty tax otherwise imposed by 20% where a taxpayer voluntarily tells the Commissioner in writing about a tax shortfall, after being informed that a tax audit is to be carried out, and the disclosure could reasonably be estimated to save significant time and resources in the audit. Taxation Ruling TR 94/6 provides guidelines on the circumstances under which a disclosure will be taken to satisfy the requirements of the legislation. Specifically, paragraph 9 of Taxation Ruling TR 94/6 states that a disclosure by a taxpayer after the taxpayer has been informed of a tax audit will generally qualify for a 20% reduction of the penalty otherwise attracted if it is made before detailed enquiries are commenced into the matter disclosed and the disclosure enables a correct adjustment of the taxpayer's assessment to be made. Moreover, disclosure will be voluntary if it represents a level of co-operation by the taxpayer that is well above what is ordinarily expected of a taxpayer during the conduct of an audit.

In this case, the taxpayer meets the requirements, as discussed in Taxation Ruling TR 94/6, for a reduction in penalty tax after being notified of an audit. The taxpayer voluntarily provided information that was unknown to the ATO and the information was provided before detailed enquiries had commenced. The taxpayer is therefore considered to have made the disclosure voluntarily and as a result saved the Commissioner a significant amount of time and resources in the audit. Under section 226Y (ITAA 1936) the penalty tax otherwise applied should be reduced by 20%.