Related party transactions: Full Court reaffirms that substantiation can win or lose a tax case

In the recent Full Federal Court’s decision in Commissioner of Taxation v S.N.A Group Pty Ltd [2026] FCAFC 10 (“S.N.A Group”), the ATO was successful in challenging the deductibility of intragroup service fees. In this case, payments described as ‘service fees’ continued to be paid after a written agreement between related parties to pay for the use of group assets and employees lapsed. Such fees were held not to have been ‘incurred’ and therefore not deductible. The Court’s decision highlights the risk that, in the absence of clear contemporaneous evidence of what was agreed, the ATO can successfully challenge the validity of such deductions. Accordingly, the case acts as an important reminder that it is always important to document and agree intragroup arrangements and calculation methodologies as between the parties.

Background

Two Queensland companies in the Coronis Group claimed tax deductions under section 8-1 of the Income Tax Assessment Act 1997 (Cth) (“ITAA97”) for “service fees” paid to related trusts for the use of group assets and staff. After their formal written agreements expired in 2015, the companies continued making payments based on what they considered was “fair and reasonable”, arguing that new contracts existed through their conduct. The Commissioner disallowed these deductions, citing a lack of an enforceable agreement between the parties to provide services.

Initial hearing

At first instance, Logan J ruled in favour of S.N.A, finding that evidence of the parties’ conduct could be used to infer the existence of a contract to provide the use of assets and employees to the taxpayers for a fair and reasonable fee. Logan J emphasised that perfection in documentation does not dictate eligibility for a deduction and that informality in business is not unique in groups like the Coronis Group.

Full court decision

The Full Court reversed the decision and unanimously ruled in favour of the Commissioner, holding that a contract requires objective evidence of mutual agreement rather than merely being inferred from the subjective intentions of the individuals controlling the entities. The deductions failed because there was no clear communication requesting services, the fees were calculated retrospectively with annual variations, and the payments were mixed with other inter-entity movements. Evidence given by the taxpayer’s bookkeeper and accountant were also found to be inconsistent with the terms of the contracts that the taxpayers alleged. The Court did not suggest that the arrangements were artificial or contrived but instead held that the taxpayers could not prove the payments were made under a specific legal obligation.

Even if it were accepted that the services were actually provided and the fees were considered reasonable, the lack of a proven contractual framework meant the outgoings did not qualify for a deduction under section 8-1 of the ITAA97.

Why evidence matters for deductions

Section 8‑1 of the ITAA97 allows a deduction for losses and outgoings incurred in gaining or producing assessable income, subject to specific exclusions. While the provision is broad, it still requires the taxpayer to establish that an expense has been incurred and to identify its character. In many cases, particularly those involving related parties, that character depends on the nature of the underlying agreement or arrangement. A contemporaneous written agreement may therefore be critical evidence that the taxpayer was subject to a present legal obligation, such that the relevant amounts were incurred, rather than being contingent or merely notional.

However, entering into an agreement may not always be enough. In the context of service fees, the Commissioner has previously stated in Taxation Ruling TR 2006/2 that deductibility depends on what the expenditure was calculated to achieve from a practical and business point of view, which is a question of fact. In particular, paragraphs 8 and 9 of the ruling outline that service fees should generally be deductible where there is an objective commercial explanation for the expenditure, whereas the mere existence of a service arrangement, without such an explanation, will not of itself be sufficient to characterise the fees as deductible.

What have the court’s said about evidencing transactions?

Recent cases illustrate that courts are willing to uphold informal arrangements where the evidence supports their existence but will not fill evidentiary gaps where objective proof is lacking.

Rowntree decision

In Rowntree v FCT [2018] FCA 182, the issue was whether amounts received by the taxpayer were loans or the receipt of assessable income. Despite the taxpayer’s genuine belief that the amounts were loans (based on testimony of the ‘controlling mind’ of the companies involved), the Court found that there was insufficient contemporaneous, objective evidence to establish the existence of loan agreements. The taxpayer provided copies of loan agreements created after the receipts in question, which the Court held did not acknowledge the existence of the prior transactions. The result was that the amounts received were treated as income.

Timbercorp decision

By contrast, in White v Timbercorp Finance Pty Ltd (in liq) [2017] VSCA 361, the Victorian Court of Appeal was prepared to accept that journal entries within a corporate group constituted sufficient evidence of payment under a loan agreement. In that case, a subsidiary company purported to loan money to investors to fund investments in a managed investment scheme. The investors argued the loan agreements were unenforceable because there was no transfer of funds, only journal entries. The Court relied on critical factors that included the group structure, the existence of shared directors between entities, the use of a single group bank account, and the auditing of and declarations as to accounts by those directors.

Charles Apartments decision

More recently, in Charles Apartments Pty Limited v Commissioner of Taxation [2025] FCAFC 180, the Full Court accepted that eligibility to claim a deduction is not conditioned on written evidence, but the absence of written evidence can present real challenges in discharging that onus. The Court acknowledged that many small and medium businesses operate with a degree of informality, particularly where ownership and control are closely held – but that such informality does not relieve taxpayers from the statutory onus of proof. On the facts before them, the absence of clear written evidence as to the nature of the relevant arrangements left construction of the agreement to the court’s interpretation and judgment as to the credibility of oral testimony, and ultimately the court held that the character of the amount in dispute was not in the nature of interest.

Are written agreements required?

Some provisions do impose explicit substantiation requirements. For example, work-related expenses for individuals are subject to the detailed substantiation rules in Division 900 of the ITAA97, and specific rules apply in the context of the capital gains tax provisions. Outside those regimes, written agreements are generally not mandatory, but the evidence required will depend on the nature of the dispute.

While written agreements may not be mandatory, they are often the most straightforward way of evidencing the existence and terms of an arrangement. Where no written agreement exists, the taxpayer must rely on other circumstantial evidence to establish those matters.

The S.N.A Group decision illustrates that accounting entries, benchmarking exercises and retrospective calculations, while relevant, do not themselves create legal obligations. They may support the existence of an underlying agreement, but they may not always substitute for proof that such an agreement existed at the relevant time.

Where payments are said to arise under an inferred contract, the evidentiary threshold is particularly high. The decision seems to suggest that some degree of contemporaneous communication between the related entities indicating offer and acceptance of legal relations could have assisted in being able to infer a contract. Where a taxpayer is seeking to claim a deduction for a particular 30 June year end, it would be important that the parties can evidence a legal obligation has been incurred on or before that date.

It is notable that the taxpayers conceded that if no contract could be proven to exist, the claim for the deductions would fail. As such, the circumstances in which it may be possible to claim a deduction for an actual payment made in the absence of a contractual liability (i.e. an ex-gratia payment) was not tested in this case. Further, the decision is notable for not considering a single authority from any tax cases. Rather it focussed on general law principles and factual matters.

What steps do I take now?

As we approach 30 June, consideration should be given to documenting agreements and transactions between related parties. While written commercial agreements between the parties may often be the best form of evidence, this does not mean that every transaction must be documented by a lengthy formal agreement. Rather, there must be sufficient objective evidence to demonstrate the arrangement, its terms and that there is a contractual obligation as between the parties at the relevant date.

Emails, invoices, payment records and even journal entries can form part of the evidentiary picture. However, reliance on such materials should be approached carefully. Inconsistent treatment, including retrospective calculations and a lack of clarity about the nature of payments, will invite scrutiny and increase the risk that adverse inferences will be drawn. In some cases, a simple contemporaneous record between the parties noting the key terms of an arrangement may materially reduce risk and support deductibility.

The shifting burden of proof?

It is important to recognise that evidentiary expectations may change as a matter progresses through the tax lifecycle. When lodging a return, a taxpayer must have sufficient records to support their position (enough to be reasonably arguable if they wish to have protection from penalties). At audit or objection stage, the taxpayer must be able to substantiate the facts to the Commissioner’s satisfaction. However, if the dispute proceeds to the Tribunal or the Federal Court, formal rules of evidence apply. At that point, the statutory onus becomes critical. Under section 14ZZO of the Taxation Administration Act 1953 (Cth), the taxpayer bears the burden of proving that the Commissioner’s assessment is excessive or otherwise incorrect. It is not enough to demonstrate that the Commissioner’s reasoning was flawed. The taxpayer must positively establish the correct tax outcome. Absent reliable evidence of the underlying facts, that task becomes extremely difficult.

What does this mean for assessability of income?

Consideration of deductibility at year end should also prompt a corresponding question about assessability on the other side of the transaction. If an amount has not been incurred because the terms of the arrangement are unclear, it may be necessary to consider whether the recipient has in fact derived income at that point, or whether the amount would be income at all (i.e. a gift rather than a loan). While the concepts of “incurred” and “derived” are distinct and do not always operate in parallel, they often turn on overlapping evidentiary issues. Uncertainty as to the existence, timing or terms of an obligation to pay will frequently create uncertainty as to whether a corresponding amount has been derived by the other party. It is also worth considering that where amounts paid to a company are considered a gift, rather than income derived, they can nevertheless be considered ‘profits’ that may be taxed as an unfranked dividend when later distributed to shareholders.

What are the next steps?

It is critical that clients consider their position in relation to intragroup arrangements (service fees, loans, etc) and how the rules apply to those arrangements. Clients should contact their Pitcher Partners representative to review their situation and determine what action is required well before 30 June.