Full Federal Court delivers decision on Billabong founder's tax appeal

The Full Court of the Federal Court of Australia has handed down its decision in Merchant v Commissioner of Taxation [2025] FCAFC 56, which involved certain tax schemes undertaken by Billabong founder Gordon Merchant, based on advice provided by EY.

The decision concerned transactions relating to the sale of shares in Billabong International Ltd and a bioplastics company Plantic Technologies.

In September 2014, Gordon Merchant Pty Ltd (GM2) as trustee of the Merchant Family Trust, transferred approximately 10 million in Billabong shares to GSM Superannuation, the trustee of the Gordon Merchant superannuation Fund for a consideration of $5,844,827.82.

In doing so, GM2 incurred a capital loss of $56,561,940. At the time, GM2 held all the issued shares in Plantic, which was not profitable and relied on cash injections from GM2 and loans from other Merchant Group companies.

Back in April 2015, GM2 had sold all of its shareholding in Plantic to Kuraray Co Ltd, an unrelated Japanese corporation, which resulted in the Merchant Family Trust deriving a capital gain of approximately $85 million. A condition of the sale required that related company loans, which totalled approximately $55 million, be waived or forgiven.

The Tax Office determined that Merchant had used the Merchant Family Trust to engage in an asset “wash sale” by selling the $5.8 million in Billabong shares to his SMSF to crystallise a $56.6 million capital loss. The capital loss was then used to offset the $85 million capital gain on the Merchant Family Trust's sale of Merchant’s shares in Plantic to Kuraray.

The Commissioner believed that the Billabong share sale scheme had been entered into or carried out for the dominant purpose of purpose of enabling the Merchant Family Trust to obtain a tax benefit, being the capital loss incurred by its on the Billabong share sale.

The ATO canceled the benefit by determining that the entire capital loss was not incurred by the Merchant Family Trust, which then increased the taxable income of the Merchant Family Trust.

Evidence was also produced suggesting that Merchant had engaged in a form of tax avoidance known as dividend stripping, reducing the distribution of Merchant group company profits by forgiving $55 million in related party debts to avoid paying tax at his marginal rate.

The Commissioner determined that the entirety of the forgiven amounts should be included in the assessable income of Gordon Merchant, the sole shareholder of GSM.

In the previous Federal Court decision, the court ruled against Merchant and found that the sale of the shares to the super fund were undertaken for the purpose of generating a capital loss. It determined that Part IVA applied, preventing the loss from being applied against the capital gain.

In the recent case heard by the Full Federal Court, Merchant submitted that the Billabong sale was neither artificial nor contrived and that the Billabong share share capital loss was caused by factors beyond the control or influence of the parties.

It was submitted that Merchant's retention of economic ownership of the Billabong shares was a consequence of the identity of the parties to the transaction.

The appellants claimed that Merchant retained economic ownership because he controlled each entity. They stated that the crystallisation of a capital loss by the Merchant Family Trust was a consequence of those features of the transaction.

The fact that the parties were related did not make the BBG Share Sale Scheme contrived, they stated, as the two entities were different in character, with one being a superannuation fund.

They also submitted that the capital loss was caused by factors beyond the control or influence of the parties and that the only control that rested with the parties was the timing of the realisation of the loss.

Justices McElwaine and Hespe rejected this submission by Merchant.

In their joint judgement, they stated that the submission from the appellants failed to focus on the crystallisation of a capital loss by the sale of the Billabong shares to a related party, without any alteration in the effective economic ownership and control of the shares. The outcome of this sale, they said, was that the vendor realised a significant capital loss which could then be applied to offset a likely anticipated significant capital gain on a transaction which was well-advanced at the time of the sale.

"What stands this case apart from the routine realisation of a capital loss to be offset against an actual or anticipated capital gain are the objective facts that the Billabong shares would not have been sold to an outside party, the control of the shares and the effective economic ownership did not alter and there was no divestment of investment risk," said Justices McElwaine and Hespe.

"These matters, when considered with each of the other findings of the primary judge concerning the absence of need in the Merchant Family Trust for a cash injection of $5.8 million, the acquisition was contrary to the investment strategy of the GMSF and the absence of a link between the Billabong Share Sale and the objective of obtaining the best price for the sale of Plantic, distinguish this scheme from ordinary commercial transactions with real economic and practical consequences where the dominant purpose is not to obtain a tax benefit."

The other judge, Justice Logan, reached an alternative view that obtaining a tax benefit from the sale of Billabong shares held by the Merchant Family Trust was not the dominant purpose for the sale.

Justice Logan said there was "considerable risk in the administration of taxation legislation of seizing upon beneficial taxation outcomes and seeing in them a dominant purpose on the part of a person to obtain the tax benefit".

"It is all too easy in such circumstances to leap to that conclusion and to tailor the logic to fit. Especially that is so where there is revealed in exchanges with tax advisors references to apprehended tax benefits," he said.

The majority of the court affirmed the application of s 177D of the Income Tax Assessment Act 1936, upholding the previous finding that the taxpayer’s schemes had the dominant purpose of obtaining a tax benefit.

They court confirmed that the objective purpose analysis by the primary judge had been correctly applied and dismissed the taxpayer's appeal.

Justices McElwaine and Hespe did, however, uphold Merchant's appeal in relation to the application of 177E to the GSM debt forgiveness scheme. Justices McElwaine and Hespe found that the quantitative elements of dividend stripping were not satisfied in respect of the GSM Debt Forgiveness scheme.

However, the Court did uphold the primary judge's finding that section 177E did apply to the Tironui debt forgiveness scheme.