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Tribunals take firm stance on principals failing to meet tax and super obligations

The Queensland Law Society Council has published a policy titled ‘Failure of a law practice to meet tax and superannuation obligations – suitability matter’ (the policy), which commenced on 1 March 2021.

The position stated in the policy is that failure by a principal to meet tax and superannuation guarantee obligations of a law practice is a suitability matter under s46(2)(i) of the Legal Profession Act 2007 (Qld) (LPA).

The policy explains what those tax and superannuation obligations are and states that QLS Council expects principals of law practices to declare their failure to meet those obligations as a suitability matter. The policy also explains what action may follow as a result of such a declaration, including further investigation and the principal being required to show cause as to why they are a fit and proper person to continue to hold a practising certificate.

Where the failure to meet fiscal obligations results in a ‘show cause event’ for a practitioner,1 the procedures relevant to show cause events will be followed.2

A number of recent decisions deal with the fiscal obligations of a principal of a law practice and the effect that failure to meet those obligations may have upon fitness to practise.

Purdie v Queensland Law Society [2021] QCAT 291 (Purdie)

Mr Purdie was the sole legal practitioner director of an incorporated legal practice (ILP).

The ILP had accumulated liabilities for PAYG withholding amounts for three years and superannuation liabilities for six years. Although these liabilities had been mounting over the years, it was not until Mr Purdie received Director Penalty Notices from the Australian Tax Office (ATO) in August 2018 that he took any steps to address the ILP’s solvency issue. The Director Penalty Notices crystallised the risk of him being personally liable for at least part of those debts.

On 19 August 2018, a liquidator was appointed to the ILP, which was a show cause event.3 On 28 August 2018, Mr Purdie established another incorporated legal practice, Paterberg Legal Pty Ltd (Paterberg), to continue the business.

As a result of the circumstances surrounding the liquidation, QLS cancelled Mr Purdie’s principal practising certificate. He then applied for a restricted employee certificate, which QLS also refused. It decided Mr Purdie had deliberately liquidated the ILP to avoid paying debts, to defeat creditors and avoid personal responsibility. By that conduct, he demonstrated that he preferred his own interests to those of his creditors and his employees, so he was not a fit and proper person to be granted a practising certificate.

Mr Purdie applied to the Queensland Civil and Administrative Tribunal to review the decision. The tribunal found the decision to refuse to grant a practising certificate to Mr Purdie was the correct and preferable decision.

Daubney J summarised a number of important principles relating to fiscal obligations of legal practitioners:4

“(c) legal practitioners carrying out legal practice as legal practitioner directors of incorporated legal practices are under an obligation to ensure that certain statutory fiscal liabilities of the practice (including the GST, PAYG and staff superannuation contributions) are met. The obligation is a professional one which exists independently of the liability itself and has variously been referred to as a ‘civic responsibility’, ‘legal and civic duty’, ‘fiscal/revenue responsibility’ and ‘civic duty’;5

“(d) where the failure to pay statutory debts occurred over a lengthy period of time and were in significant amounts, there is support for the view that the continuing conduct of the business in the face of probable insolvency is, of itself, an interest of the proprietor capable of being preferred over the interests of staff and creditors…”6

Mr Purdie admitted lacking commercial sense and business acumen, and submitted that the ILP’s financial difficulties were caused by a client who owed the ILP a substantial sum and went bankrupt in 2015. However, the tribunal found his financial difficulties had existed for years prior to any involvement with that client.

There was evidence he had been making arrangements with the ATO to pay outstanding debts since 2012. In 2014, the Deputy Commissioner of Taxation obtained default judgment against him for some $220,000 (including costs and interest) for arrears of tax. Mr Purdie unsuccessfully appealed that judgment.7

At the hearing of the appeal before the District Court, Mr Purdie sought to adduce evidence of deeds in an attempt to avoid personal liability for the debt. The court found that the first deed could not have had the effect of appointing a trustee which did not exist and the second deed could not retrospectively change the legal person liable for the debt.

Daubney J noted a feature of longstanding persistence about Mr Purdie’s failure to meet his statutory fiscal obligations:

“Of course, the Applicant’s dereliction in relation to the statutory taxation and superannuation obligations, whilst not determinative, is clearly relevant. As noted above, the legal and civic obligation which lies in meeting these statutory fiscal responsibilities is a professional obligation which exists independently of the liability itself. In the present case, these were not minor oversights or temporary embarrassments. On the contrary, there was a longstanding persistence about these failures. The failure to pay superannuation guarantee liabilities, for example, dated back to 2012. The Applicant gave no proper or sensible explanation for these longstanding failures…”8

The tribunal found that Mr Purdie demonstrated a history of not only refraining to take action until his personal interests were threatened, but of seeking to implement arrangement to avoid personal liability at the expense of creditors.9 He either lacked the insight to know that what he was doing was wrong, or he was prepared to sign the document regardless in order to protect his personal position. Either way, “the conduct bespeaks a character which falls short of fitness to practise”.10

Mr Purdie’s conduct when he received the Director Penalty Notices for arrears of tax and superannuation further demonstrated that point. He took steps to liquidate the ILP before the notices crystallised, and in doing so, avoided incurring any personal liability.

Mr Purdie claimed the ILP sold the business as a going concern to Paterberg. However, the liquidator’s report to creditors showed that he had transferred most of the assets (but not the director’s loan owed by him to the ILP) and only two of the liabilities (some staff leave entitlements and the lease of a car) from the ILP to Paterberg.

The tribunal found that no valuable consideration was paid for the transfer of assets and that Mr Purdie transferred only the parts of the business that suited him. It was not the sale of a business as a going concern. Despite claims of his intention to pay the debts of the ILP, he did nothing to make himself or Paterberg liable for those debts.11

In cross examination, Mr Purdie confirmed that he understood that a ‘phoenix’ was a company created to take over the business of an insolvent company, to avoid paying creditors of the company. Of that arrangement, Daubney J said:

“Of deeper concern to this Tribunal, however, and more telling in terms of an assessment of the Applicant’s fitness to practise, is not just the fact that he traded in parlous and perilous circumstances for years, but that it was not until he was exposed to a risk of personal liability that he took steps to liquidate the ILP. It is clear, on all the evidence, that his response to the Director Penalty Notices had nothing to do with the wellbeing and interests of the Firm and its creditors, but everything to do with personal preservation and protection of his own liability position. His reference to the QLS officer of entering into a ‘phoenix’ arrangement was telling in that regard.

“It is, moreover, quite clear even on the Applicant’s evidence that he was acting on advice – that he was quite prepared to be a party to an arrangement under which he retained the parts of the Firm’s business which were necessary to keep trading, only on the basis of assuming the bare minimum of liabilities necessary to keep the business operating…”12

Mr Purdie’s reliance on the fact that he was acting upon advice did not excuse him of responsibility for his actions. The tribunal found Mr Purdie lacked “any real insight into what was fundamentally professionally wrong in the way he conducted himself”.13

The Council of the Law Society of New South Wales v Kernaghan [2021] NSWCATOD 111 (Kernaghan) and The Council of the Law Society of New South Wales v Rogers [2021] NSWCATOD 124 (Rogers)

Case notes of these decisions were recently published in Proctor:

In Kernaghan and Rogers, the New South Wales Civil and Administrative Tribunal found that the principal’s failure to comply with fiscal obligations constituted professional misconduct. Some common themes emerge from those cases:

  • Principals of law practices control how payments are allocated and are under an obligation to ensure that statutory fiscal obligations of a law practice, including the payment of company income tax, GST, PAYG and superannuation contributions, are met.3 This obligation may be a legal obligation or a ‘civic duty’.14
  • “The mere fact of a failure to pay superannuation guarantee contributions on time does not, on itself, constitute professional misconduct. It is the circumstances surrounding the failure, the consequences of the failure, and the actions subsequently taken by the solicitor, that determine whether the conduct constitutes professional misconduct.”15
  • The delinquency was not a unique occurrence but occurred over an extended period.16
  • Non-payment of superannuation disadvantages employees.17
  • In Rogers there was no evidence that the practitioner sought to engage with the ATO with a view to resolving matters.18 By contrast, in Kernaghan,19 the solicitor had negotiated a repayment agreement with the ATO that continued until the law practice was wound up.
  • Rogers’ failures were a conscious exercise in robbing Peter (the employee and the ATO) to pay Paul (suppliers and creditors of the law practice).20
  • The failures were deliberate and systematic, even though their motivation may have been to remedy the consequences of mismanagement, rather than direct personal gain.21
  • In diverting funds that should have been paid to the employee’s superannuation or to pay of PAYG liabilities, Rogers displayed neither candour nor honesty in dealing with the employee or respect for the law.22
  • A long list of authorities is quoted in Rogers23 concerning solicitors who failed to pay superannuation contributions. All claimed that the delinquency was caused by financial difficulties and cash flow constraints.
  • The tribunal in Rogers24 differentiated Mr Rogers’ conduct from that in Law Society of New South Wales v Koffel [2010] NSWADT 177:

“What appears relevantly to differentiate that case from all the others is that when his practice’s financial difficulties became apparent, the solicitor met with his staff and sought their agreement to attempt to trade out of those difficulties. In doing so, he informed them that the practice might not be able to pay their superannuation contributions as and when they fell due, but they accepted his personal guarantee of their eventual payment.”25

  • Mr Rogers did not offer his staff member that courtesy, but “conscripted both her and her superannuation entitlements in his efforts to have the law practice trade out if its difficulties without either consultation or even frank disclosure to her of the law practice’s difficulties”.26

Complaints about unpaid superannuation

The New South Wales authorities make it clear that failure to pay employee superannuation entitlements will usually amount to professional misconduct by the principal of the law practice. This has not been tested recently in Queensland, but the decision in Purdie adopts the reasoning of the NSW courts and tribunals regarding the impact of failure to pay tax and superannuation obligations on a practitioner’s fitness to practise.

The Legal Services Commission (LSC) is authorised to receive and investigate complaints about such matters and bring discipline applications against principals. Employees of law practices who have not been paid superannuation entitlements should consider making a complaint to the LSC.

Lauren FitzGerald is Queensland Law Society Regulation Manager and Principal Regulation Solicitor.

Footnotes
1 See Legal Profession Act 2007 (Qld) (LPA) sch.2 (definition of ‘show cause event’) which includes, for example, bankruptcy or an incorporated legal practice becoming a Part 5 Body Corporate under the Corporations Act 2001 (Cth).
2 LPA (n1) sch.2 (definition of ‘show cause event’), ss67-70.
3 LPA (n1) sch.2 (definition of ‘show cause event’), s68.
4 Purdie v Queensland Law Society [2021] QCAT 291, [19] (Purdie).
5 Ibid [19] citing Council of the Law Society of New South Wales v Wehbe [2018] NSWCATOD 14, [133] (Wehbe) and the
cases cited therein.
6 Purdie (n4) [19] citing The Council of the Law Society of New South Wales v Adams [2011] NSWADT 177, [70], Council of the Law Society of New South Wales v Andreone (No.1) [2014] NSWCATOD 49, [112]; Wehbe (n5) [309]-[310].
7 Deputy Commissioner of Taxation v Purdie [2014] QDC 222.
8 Purdie (n4) [56].
9 Ibid [36].
10 Ibid [59].
11 Ibid [58].
12 Ibid [57]-[58].
13 Ibid [62].
14 The Council of the Law Society of New South Wales v Kernaghan [2021] NSWCATOD 111, [3] (Kernaghan) citing Council of the Law Society of New South Wales v Wehbe [2018] NSWCATOD 14.
15 Kernaghan (n14) [209].
16 20 months in The Council of the Law Society of New South Wales v Rogers [2021] NSWCATOD 124 (Rogers) and several years in Kernaghan (n14).
17 Rogers (n16) [222].
18 Ibid [40].
19 Kernaghan (n14) [102], [107].
20 Rogers (n16) [43].
21 Ibid [42].
22 Ibid [43].
23 Ibid [31].
24 Ibid [41].
25 Ibid.
26 Ibid [42].

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