Priorities in relation to ATO garnishee notices

What is a garnishee notice and when will the ATO issue one?

Where a taxpayer owes a debt to the Australian Tax Office (ATO), the ATO has the power under s260-5 of Schedule 1 to the Taxation Administration Act 1953 to issue a garnishee notice. This notice requires a third party, such as a bank, to pay to the ATO any moneys held by the third party for the taxpayer, or payable by the third party to the taxpayer. 

There is therefore the possibility of the ATO seeking to use these powers to access credit balances held in bank accounts of the customer. This can create tension when the bank or Authorised Deposit-taking Institution (ADI) wants to control and use the credit funds by way of set-off or combination of accounts.

In considering whether to issue a garnishee notice, the ATO’s current policy is to have regard to the following factors:

• the financial position of the taxpayer and the steps taken by the taxpayer to make payment in the shortest possible timeframe;
  
  
• the extent of any other debts owed by the taxpayer;
  
  
• whether the ATO is placed at risk because of actions of the taxpayer, such as the taxpayer making payment to other creditors in preference to paying the ATO; and
  
  
• the likely implications of issuing a notice on a taxpayer’s ability to provide for a family or maintain the viability of a business. 

What happens to moneys held on account if the ATO issues a garnishee notice?

In Commissioner of Taxation v Donnelly (1989) 25 FCR 432 (Donnelly), the Full Federal Court held that the service of a notice under s218, which was the predecessor to s260-5, created a charge in favour of the ATO.

In Cinema Plus v ANZ [2000] NSWCA 195 (Cinema Plus), the New South Wales Court of Appeal held that a bank’s right to set-off or to combine accounts, is merely a contractual right. It does not necessarily give a bank a charge or other security interest in moneys standing to the credit of the customer’s account. 

Therefore, in ordinary circumstances, if the ATO issues a garnishee notice before a bank exercises its rights of set-off, then the bank may well have to comply with the garnishee notice and pay the credit funds to the ATO.

However, the Cinema Plus case indicates that if:

• a deposit was specifically made available by a customer for the purposes of security;
  
  
• the customer was obliged to maintain the account; and
  
  
• there were restrictions on the operation of the account;

then this might manifest an intention to make the deposit available as security for the customer’s obligations and therefore take priority over the ATO’s entitlements.

Creating a security interest

At law, it is difficult to draft an agreement creating an effective security interest in respect of moneys held on deposit, because money once deposited with a bank belongs to the bank, not the customer. Money standing to the credit of a customer’s account represents a debt owed by the bank to the customer. Moreover, it is generally accepted that it is ‘conceptually impossible’ for a bank to have a charge over an account of its own customer. In other words, a bank cannot take a charge in favour of itself over its own debt to its customer, in respect of the credit balance in the customer’s bank account.

Nevertheless, English Courts have recognised that a bank can have an effective charge over money deposited in the same bank (Re Bank of Credit & Commerce International SA (No 8) [1998] AC 214). However, Australian courts have not yet accepted this principle. In Broad v Commissioner of Stamp Duties [1980] 2 NSWLR Lee J stated:

‘there can be no mortgage or charge in favour of oneself of one’s own indebtedness to another'

On the other hand, in Cinema Plus Spigelman CJ stated that:

‘the matter must now be revisited in the light of the House of Lords decision in Re Bank of Credit & Commerce International SA (No 8) [1998] AC 214’

This statement however was obiter dicta and is not, therefore, binding on other courts. Chief Justice Spigelman also observed that the application of the maxim ‘equity looks to the intent, rather than to the form’ may well lead, in an appropriate case, to a conclusion that a particular arrangement has a sufficient attachment to assets by way of security to be classified as a ‘charge’.

If Australian courts follow the lead of the House of Lords in Re Bank of Credit & Commerce International SA (No 8) [1998] AC 214, an appropriately framed authority to set-off deposits or other charge document may be sufficient to create an effective ‘charge’ over a deposit.

Lavan Comment

It is not yet clear whether Australian courts will follow the lead of the House of Lords. However if they do, an authority to set-off deposits (or similar document) combined with appropriate controls on the funds along the lines mentioned in the Cinema Plus case, will perhaps give banks and other ADIs the best protection in terms of avoiding the priority the ATO would otherwise obtain by service of the garnishee notice before the bank or other ADI combined the accounts or exercised its rights of set-off.

We recommend banks and other ADIs do the following in circumstances where they want to reduce the risk of the ATO having a priority entitlement to moneys standing to the credit of a customer’s bank account:

• monitor customers' dealings with the ATO closely, particularly compliance with any payment arrangements that may be in place with the ATO; 
  
  
• ensure that a specific contractual right of set-off is put in place and that the loan and/or set-off documents evidence a clear intention between the bank and the customer to create a security interest in the credit funds. This should include providing expressly that:
  
  
  • the account is specific security for the customer’s obligations;
    
    
  • the account is to be maintained at all times, possibly with a minimum credit balance; and
    
    
  • the customer has no (or limited) authority to operate the account.
    
    
• ensure that rights of set-off are actually exercised as early as possible.

The charge created by service of the ATO’s garnishee notice under s260-5 of Schedule 1 of the Taxation Administration Act 1953 will not need to be registered under the Personal Property Securities Act 2009, when that Act comes into force in May 2011, because it is a security interest arising by operation of law and it is specifically excluded from the new regime. The ATO’s charge will, therefore, continue to present problems for banks if they do not take precautions to combine the customer’s accounts or set-off before service of the garnishee notice or endeavour to create a fixed charge over the credit balance in the customer’s account.

If you have any questions about garnishee notices please contact Linh Trinh, Associate, on (08) 9288 6935 or linh.trinh@lavanlegal.com.au. If you have any queries about the Personal Property Securities Act 2009, please contact Jim O’Donovan, Special Counsel, on (08) 9288 6804 or jim.odonovan@lavanlegal.com.au.