Victims of scam fight tax on 'interest'

Barbara Cottam has lost her husband, wound up the family business and shifted into a smaller house since the couple lost most of their life savings in a $29 million investment scam.

Her husband, Russell, died of a massive heart attack in November 2004 after working long hours to rebuild the family's finances.

Their son Daryl borrowed to invest in the scam run by alleged fraudster Donald Rea and lost everything.

Now Inland Revenue is demanding they pay tax arrears and penalty payments on "interest" received from Rea's International Investment Unit Trust (IIUT) - even though the monthly returns came from their original capital.

Rea, who died two days into his trial in May, allegedly ran a classic "Ponzi" scheme - using funds from new investors to pay the promised huge monthly returns to those who invested earlier.

The Serious Fraud Office says none of the funds were ever invested in the promised high-yielding "private" schemes run by European banks. It produced evidence at his trial that the returns were from investor funds.

The scheme collapsed soon after the SFO swooped in July 2003, but the IRD is still pursuing the 260 duped investors - despite undertaking to be more flexible towards taxpayers following a parliamentary inquiry.

Some have paid up in the face of letters threatening possible bankruptcy. Others are challenging the assessments through tax consultants and lawyers. It seems inevitable they will have to pay for expensive court action to get the IRD off their backs.

The department says the payments were income as they were regular "and investors treated them as income, being the return on the investment made". It cites a 1985 Appeal Court ruling on what constitutes income and says it is supported by the Crown Law Office.

But tax experts say another Appeal Court ruling makes it clear that payments based on fictitious transactions cannot be income.

"Rea was giving back returns on non-existent investments, therefore there can't be any income, in our view," says taxation specialist Norm Latimer of NSA Ltd.

The firm is advising investors to enter a disputes process with the department. But that won't stop the IRD sending monthly statements increasing late-payment penalties.

Evangelical preacher Rod Kyle has fought a running battle since last August, when IRD sent default assessments for $11,000 on income of $36,700 it says came from IIUT in 2003 and 2004. By late January the debt had risen to $19,675 but on June 27 it was reversed to zero. One day later he was reassessed as owing $16,907.

Mr Kyle formed a trust and invested about $180,000 in IIUT, much of it borrowed, in order to "help the Lord's work". He says the trust lost $120,000 and he filed nil returns for the years involved. He's been given no evidence as to the basis of the original assessment for 2003, which started at the ominous sum of $6666.

Mrs Cottam received a letter in May seeking payment of arrears of $21,000. The letter demanded immediate payment in full and said "failure to pay may result in legal action which will include bankruptcy". She had already filed a notice instigating a disputes process. She and her late husband lost about $80,000 of the $120,000 they invested through a family trust.

Mrs Cottam said many other investors were too embarrassed to fight the department. Her son Daryl was given two weeks' notice to repay $50,000 or face possible bankruptcy.

Tax consultant Gordon Israel has invited investors to a meeting in Hamilton tomorrow to discuss a response to the IRD.