Virgin's tax scheme crashes
By Elizabeth Colman
20-05-2006
From: The Australian
VIRGIN Blue chief executive Brett Godfrey lured a US company into an elaborate financial scheme allegedly created to avoid $70 million in GST payments.
Australian Taxation Office documents, seen by
The Weekend Australian, claim Mr Godfrey stood to personally gain up to $US1.5 million ($2.1 million) under the plan to restructure the airline's leases on 11 Boeing planes.
British entrepreneur Richard Branson's Virgin Group, which launched Virgin Blue in Australia in 2000, was to be paid up to $US18 million, allegedly to buy its approval for the controversial financial scheme.
Under the terms of the plan, which became known inside Virgin Blue as "The Scheme", the airline and accounting firm Ernst & Young proposed altering plane leasing agreements in a manner that the ATO now describes as "tax avoidance".
US-based International Lease Finance Corporation leased Virgin Blue the 11 Boeing planes that made up its first fleet. It charged the nation's second-biggest airline a fee and, as a foreign company, was able to claim GST refunds from the tax office.
The restructuring proposed by Mr Godfrey was allegedly designed solely to extract extra GST credits by creating a series of transactions to shuffle the ownership of the airliners between different companies.
Mr Godfrey wrote to ILFC in November 2000 with a proposal to shift the planes and the leases to two new entities.
"We have come across a major and overwhelming material tax break to do with the aircraft you have leased to us," he wrote in an email to ILFC vice-president Philip Scruggs, according to documents tendered to the NSW Supreme Court.
"So much so that it has become a priority among the priorities.
"The only problem with the proposal is that we'd have to 'share' it with you as we would need to exploit it together.
"We have developed the idea with our tax and legal advisers to the point that if we do not pursue this with ILFC we'll do it with one of the other smaller lessors to (Virgin Blue) ... All I can say is that the margin is worth ILFC's attention."
In an email in August 2001, Mr Scruggs detailed Virgin Blue's involvement in the financial aspects of the scheme.
"I think you will be pleased with the proposal," he wrote. "It achieves immediate cash benefits to Virgin Blue while giving some degree of protection to ILFC in the event The Scheme blows up in our faces."
Having encouraged ILFC to take part in the scheme, two new companies - Interlease Aircraft Trading Corporation and ILFC Australia - were created by Ernst & Young.
Over 16 months from early December 2001 to late March 2003, the planes were sold from ILFC companies to IATC, and then immediately on-sold to ILFC Australia, which claimed $70 million worth of GST refunds on the sale of the second-hand aircraft.
Virgin Blue agreed to fly the planes to New Zealand at night for the physical sale, legally avoiding paying Australian stamp duty.
Mr Godfrey, who was sent a detailed list of questions by
The Weekend Australian, said last night he had recommended the restructuring to ILFC. "I recommended the arrangement for ILFC to consider and would do so again based on the professional advice received," he said.
He said that in November 2000, Virgin Blue was advised of a "tax-planning structure" by Ernst & Young "that had the potential to mitigate much of our withholding tax exposure - a common and material problem that applies to sourcing leased aircraft from overseas". "This potential overwhelmingly commercial benefit required our assistance to transfer the leases as requested by ILFC," he said. "Ultimately, (Virgin Blue) stepped away from any participation and the transaction and any transaction benefits were taken up by ILFC and Virgin Group."
The ATO claims the deals are not eligible for GST credits because ILFC owned all the companies involved in the transactions, the sales were not conducted at "arm's length" and had no Australian connection.
The ATO is demanding repayment of $71 million in GST credits and $42 million in penalties, saying ILFC and its agents "took steps to prevent or obstruct" tax office investigators.
The ATO also accused ILFC of "recklessness" and making false and misleading statements on GST tax returns.
In company reports to investors, Virgin Blue has disclosed the GST dispute with the ATO and repeated its advice that "no adverse consequences have resulted or will result to Virgin Blue Group".
Ernst & Young said the matter had been settled but declined to comment further.
ILFC has failed in two legal attempts to stop the ATO audit, the most recent in November, and now has to choose between appealing against the ATO finding in court or paying the tax bill and penalties.
The ATO "compliance activity report" reveals that ILFC was aware the transaction could be of interest to ATO investigators and, at one point, considered assigning a Turkish lease to IATC to "create greater evidence of IATC's aircraft brokering and associated activities in the eyes of the taxation authorities."
The ATO documents claim that under the terms of the deal, Virgin Blue and ILFC would share "costs and benefits 50:50" under the deal.
Sir Richard's Virgin Group, which launched the airline in 2000 and still retains a 15 per cent stake, was to be paid up to $US18 million.
In July 2002, Chris Ball from Ernst & Young wrote to Mark Poole, a Virgin Blue director who worked for Virgin Group, saying that "to ensure the Virgin Group did not block the restructure and to enhance the broader relationship ILFC has made certain payments to the broader Virgin Group".
Reflecting his then 8 per cent stake in Virgin Blue, Mr Godfrey stood to receive up to $US1.5million from the deal. The ATO documents allege he was paid $US280,000 before the scheme was suspended when the ATO began an audit of ILFC Australia.
Mr Godfrey said he received the $US280,000 "based on my then shareholding in Virgin Blue from Virgin Group".
"The benefit has been identified and disclosed in Virgin Blue's prospectus and statutory accounts," he said. "It has also been declared and tax paid on it prior to the commencement of this review."
Mr Godfrey - a poster boy for the Institute of Chartered Accountants and the winner of the institute's 2003 outstanding chartered accountant in business award - holds a $46 million stake in the airline, which is now controlled by Toll Holdings.
The documents say the Virgin Blue board was briefed on the progress of the ILFC lease restructuring proposal at least eight times in 2001 and early 2002. However, in late 2002, the tax office told Virgin Blue it planned to conduct a GST audit.
ILFC, one of the world's largest owners of commercial jet aircraft, is a subsidiary of the $US160 billion American International Group. Ernst & Young representatives travelled to the US to meet ILFC representatives and AIG general counsel Stanton Young in May 2000, the tax office documents state.
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