Clough Limited v Commissioner of Taxation

Federal Court of Australia|2021-02-18|Before: Colvin J

The appeal against the objection decision of the respondent dated 15 January 2020 is dismissed.
The costs of the appeal are reserved.
On or before 5 March 2021, the parties do file an agreed minute of orders as to costs or competing minutes if they are unable to agree.
If competing minutes as to costs are filed then the parties shall each file and serve written submissions of no more than three pages as to the appropriate cost orders.
Unless otherwise ordered, the question of costs shall be determined on the papers. Note: Entry of orders is dealt with in Rule 39.32 of the Federal Court Rules 2011.

COLVIN J: 1 Clough Limited claims that an amount of just over $15 million (Amount) paid in consideration for the cancellation of employee entitlements under an employee option plan (Option Plan) and an employee incentive scheme (Incentive Scheme) is deductible under s 8-1 of the Income Tax Assessment Act 1997 (Cth) (Act). Of the Amount, it appears that about two-thirds was paid in respect of the Option Plan and about one-third was paid in respect of the Incentive Scheme. The matter was argued on the basis that the whole of the Amount was to be treated in the same manner when it came to its deductibility. 2 Clough and its subsidiaries account for their taxation liabilities on a group basis under s 701-1 of the Act. The payment to cancel the employee entitlements was made by a subsidiary of Clough Limited. No significance was attached to the identification of the particular entities involved and, in general, I will refer simply to Clough as a way of describing the consolidated position.

The issues for determination 3 Relevantly for present purposes, s 8-1 provides: General deductions (1) You can deduct from your assessable income any loss or outgoing to the extent that: (a) it is incurred in gaining or producing your assessable income; or (b) it is necessarily incurred in carrying on a business for the purpose of gaining or producing your assessable income. (2) However, you cannot deduct a loss or outgoing under this section to the extent that: (a) it is a loss or outgoing of capital, or of a capital nature … (3) A loss or outgoing that you can deduct under this section is called a general deduction. 4 By the time of hearing, the Commissioner accepted that the Amount is allowable as a deduction under s 40-880 of the Act which allows for the deduction of business capital expenditure. The consequence is that the Amount is deductible over five years. However, the Commissioner continues to maintain that the whole of the Amount is not deductible in the income year in which it was incurred (being the financial year ending 30 June 2014). 5 Clough claims that the whole of the Amount is deductible in the relevant year of income because it was comprised of amounts paid to its employees in gaining or producing assessable income or necessarily incurred by it in carrying on business for the purpose of producing assessable income and therefore satisfies the positive limbs of s 8-1(1). Further, adopting the language of the decided cases, Clough says that the Amount was incurred on revenue account and not on capital account and therefore deduction in the year of income is not excluded under s 8-1(2). It is the merit of these claims that must be determined. 6 Significantly, the concession concerning s 40-880 was not made conditionally. That is to say, it was not a concession that depended upon the claim by Clough failing for the reason that the payment of the Amount was found to be on capital account. The Commissioner continued to maintain that the Amount was not deductible both for the reason that the positive limbs were not satisfied and because the Amount was on capital account. As to both aspects it was said that the requirements of s 8-1(1) were not satisfied because the Amount was paid to benefit Clough shareholders in respect of the interest they had in selling their shares under a scheme of arrangement by which an existing majority shareholder (Murray & Roberts) was to assume 100% control of Clough.

Relevant principles as to the positive limbs 7 As to the positive limbs of s 8-1, whether the outgoing should be characterised as incurred in gaining or producing assessable income or necessarily incurred in carrying on a business for the purpose of gaining or producing such income 'depends upon considerations which are concerned more with the essential character of the expenditure itself': Lunney & Hayley v Federal Commissioner of Taxation (1958) 100 CLR 478 at 499. For an outgoing to be of that character, the occasion of the outgoing should be found in whatever is productive of actual or expected assessable income: Ronpibon Tin NL & Tong Kah Compound NL v Federal Commissioner of Taxation (1949) 78 CLR 47 at 56-57; and Commissioner of Taxation v Payne [2001] HCA 3; (2001) 202 CLR 93 at [11]. The outgoing must be 'incidental and relevant to the operations or activities regularly carried on for the production of income', a matter that is to be determined 'not by reference to the certainty or likelihood of the outgoing resulting in the generation of income but to its nature and character, and generally to its connexion with operations which more directly gain or produce the assessable income': Commissioner of Taxation (Cth) v Smith (1981) 147 CLR 578 at 585-586. 8 As was stated in Fletcher v Federal Commissioner of Taxation (1991) 173 CLR 1 at 17 (dealing with the previous statutory provision which used the same language): The question whether an outgoing was … wholly or partly 'incurred in gaining or producing the assessable income' is a question of characterization. The relationship between the outgoing and the assessable income must be such as to impart to the outgoing the character of an outgoing of the relevant kind. It has been pointed out on many occasions in the cases that an outgoing will not properly be characterized as having been incurred in gaining or producing assessable income unless it was 'incidental and relevant to that end'. It is to be noted that it is appropriate to have regard to predecessor provisions in this area where the language was not materially different: Spriggs v Commissioner of Taxation [2009] HCA 22; (2009) 239 CLR 1 at [53] (French CJ, Gummow, Heydon, Crennan, Kiefel and Bell JJ). 9 The task of characterisation requires a focus upon the connection between the outgoing and the particular process by which income is derived in the instance under consideration. Where the case advanced is that the expenditure relates to a business that is being conducted then it is necessary to make both a wide survey and an exact scrutiny of the taxpayer's activities such that the whole of the operations of the business are considered in forming a view as to the proper characterisation of the outgoing: Spriggs at [60]. 10 The test is not to be couched in 'but for' terms. Rather, in undertaking 'the search for the necessary relationship which must exist between the outgoing and the activities which more directly produce the assessable income, it is necessary to look at the "essential character" of the expenditure': Trustees of the Estate Mortgage Fighting Fund Trust v Commissioner of Taxation [2000] FCA 981; (2000) 102 FCR 15 at [19] (Hill J). It requires the adoption of a 'practical and business point of view': Hallstroms Pty Ltd v Federal Commissioner of Taxation (1946) 72 CLR 634 at 648. The required inquiry is not a juristic analysis but rather a consideration of the commercial character of the outgoing and whether it was occasioned by producing assessable income or the conduct of a business of producing assessable income. 11 Insofar as deductibility under s 8-1 depends on satisfaction of the positive limbs, it is sufficient for the taxpayer to satisfy one of the limbs. In the present case, the claim made by Clough is that the Amount was an outgoing of the kind described in s 8-1 under both limbs. 12 The first limb requires the outgoing to be incurred 'in' gaining or producing assessable income. The preposition 'in' has considerable semantic breadth. Having regard to context, it is used in s 8-1 to express a requirement as to a form of involvement or connection as between the incurring of the outgoing and the specified activity such that the outgoing might be said to be incurred in the course of that activity: Amalgamated Zinc (De Bavay's) Ltd v Federal Commissioner of Taxation (1935) 54 CLR 295 at 309. 13 In the first limb of s 8-1 the preposition 'in' is used to describe a form of involvement or connection as between the incurrence of the outgoing on the one hand and the activity of gaining or producing assessable income on the other hand. It is not enough that the outgoing be incurred by a taxpayer who is involved in gaining or producing assessable income in a manner that bears some kind of unspecified relationship to the incurrence of the outgoing or was incurred for that subjective purpose. Rather, the requirement expressed in the first limb is that the incurrence of the outgoing was in the course of gaining or producing assessable income. The preposition 'in' focusses attention upon whether the expenditure happened as part of an activity that may be described as 'gaining or producing assessable income' (and may be contrasted with past formulations which used the preposition 'for', a formulation indicative of the object or purpose of the taxpayer: Herald & Weekly Times Ltd v Federal Commissioner of Taxation (Cth) (1932) 48 CLR 113 at 123). Ultimately, the outgoing may or may not result in gaining or producing income. It is not the actual outcome achieved that is the focus of the provision or indeed whether a direct respect in which the particular outgoing was expected, or might be said to have the potential, to achieve that outcome. Rather, the question is whether the outgoing was incurred in the course of activities the nature of which might properly be characterised as gaining or producing assessable income. 14 As has been noted, the incurring of an outgoing will have the requisite degree of involvement or connection with gaining or producing the taxpayer's assessable income if it is incidental and relevant to the gaining or producing of that income: see Ronpibon at 56. As was said in Payne at [9]: The connection which must be demonstrated between an outgoing and the assessable income, in order to fall within the first limb of s 51(1), is that the outgoing is 'incurred in gaining or producing' that income. The subsection does not speak of outgoings incurred 'in connection with' the derivation of assessable income or outgoings incurred 'for the purpose of' deriving assessable income. It has long been established that 'incurred in gaining or producing' is to be understood as meaning incurred 'in the course of' gaining or producing. What is meant by being incurred 'in the course of' gaining or producing income was amplified in Ronpibon … where it was said that: to come within the initial part of [s 51 (1)] it is both sufficient and necessary that the occasion of the loss or outgoing should be found in whatever is productive of the assessable income or, if none be produced, would be expected to produce assessable income. 15 The second limb of s 8-1 is slightly different in its structure. First and foremost, it requires that the outgoing be 'necessarily incurred in' the specified activity. The addition of the word 'necessarily' emphasises that the incurrence of the expenditure must have a closer involvement or connection with the specified activity than is required by the first limb. Second, the activity for which the outgoing must be incurred is described both by reference to its character and its purpose. So it is in undertaking the activity of carrying on a business for the purpose of gaining or producing assessable income that the outgoing must be necessarily incurred. It is the whole of the operations of the business that should be taken into account in making that assessment: Commissioner of Taxation v Day [2008] HCA 53; (2008) 236 CLR 163 at [33]. 16 The requirement in the second limb was described in John Fairfax & Sons Pty Ltd v Federal Commissioner of Taxation (1959) 101 CLR 30 at 49 (Menzies J, with whom the other members of the High Court generally agreed), in the following terms: Disregarding the application of the section to losses and considering the alternative head solely in its application to outgoings, there must, if an outgoing is to fall within its terms, be found (i) that it was necessarily incurred in carrying on a business; and (ii) that the carrying on of the business was for the purpose of gaining assessable income. The element that I think it necessary to emphasise here is that the outlay must have been incurred in the carrying on of a business, that is, it must be part of the cost of trading operations. (original emphasis) 17 In Magna Alloys & Research Pty Ltd v Federal Commissioner of Taxation (1980) 49 FLR 183 at 186, Brennan J relied upon the above passage for the following proposition: The purpose mentioned in the second limb is not a purpose imported by the phrase 'incurred in carrying on', but the purpose of the business in the carrying on of which the deductible expenditure is incurred. 18 Then in Esso Australia Resources Ltd v Commissioner of Taxation (Cth) (1998) 84 FCR 541 at 555, it was said, after quoting the passage from Menzies J in John Fairfax (set out above): However to fall within the characterisation described by Menzies J it is not necessary for the business actually to make assessable income - it must simply be conducted for that purpose. Menzies J went on to say in John Fairfax at 49: It seems to me that the deductibility of an outlay cannot be made to depend upon the success or failure of what the outlay was intended to achieve ... the success or failure of what was attempted can make no difference to the character of the expenditure ... In certain cases expenditure claimed to be deductible under the second limb is said by the Commissioner to be preparatory to an activity which might at some time in the future constitute the carrying on of a new or expanded business or the resumption of a previous business. In such cases, as his Honour found in the present case, establishing the proper characterisation of the particular business said to have been carried on is critical to resolving whether there is a sufficient nexus between the expenditure and the taxpayer's business: see Goodman Fielder Wattie at 386 per Hill J. 19 Therefore, the second limb requires that the incurrence of the outgoing be properly characterised as being involved in or connected to an activity that may be described as carrying on a business where the purpose of the business is gaining or producing assessable income. It may be so involved or connected if it is preparatory to gaining or producing assessable income. However, it will not be so involved or connected unless it is not shown to be necessary to incur the outgoing for an identified business that has the required purpose. The proprietors of businesses may incur outgoings that have nothing to do with the business. It is not enough that the outgoing was charged to the business. It must be necessarily incurred in the activity of carrying on a business for profit. So, the fact that the outgoing is in fact incurred by a business that is carried on for the purpose of gaining or producing assessable income will not be enough. If the incurrence of the outgoing is not properly characterised as being necessary in the carrying on of an identified business with the requisite purpose, it will not satisfy the second positive limb. The addition of the requirement that the outgoing be necessarily incurred in the carrying on of the business means that an outgoing that does not satisfy the first limb and is not shown to be necessary in conducting a business that is carried on to gain or produce assessable income is not deductible. 20 In Spriggs at [75], French CJ, Gummow, Heydon, Crennan, Kiefel and Bell JJ expressed what was required in order to demonstrate the necessary connection in the following terms: … a loss or outgoing will be 'necessarily incurred in carrying on' a business if it is 'clearly appropriate' or 'adapted' for the carrying on of the business. Restating the test another way, the loss or outgoing will be 'necessarily incurred' if it is 'reasonably capable of being seen as desirable or appropriate from the point of view of the pursuit of the business ends of the business'. (footnotes omitted). 21 It is sometimes said that the person running the business is the best judge of whether that is so. Language to that effect is a way of emphasising that the requirement is to be applied with a practical and commercial sensibility as to what may be desirable or appropriate for a business. The standard is not applied in an overly legal or clinical way removed from the real world context in which those running businesses must make assessments as to what will aid or advance the pursuit of business ends. 22 Finally, deductibility is allowed 'to the extent that' the outgoing has the requisite character. Therefore, in an appropriate case, there may need to be apportionment. However, no issue of apportionment of outgoings arises in the present case.

Some further observations about purpose and the positive limbs 23 Only the second limb refers to a purpose. For reasons already given, the expressly identified purpose is not the purpose of the outgoing, it is the purpose of the business. To speak of the purpose of a business is to refer to the object or aim for which the business exists. Purpose is not to be equated with intention. It may be subjective or it may be evident from an objective viewpoint. However, whether the object or aim of a business is the gaining or producing of assessable income is not a matter to be determined by reference to the subjective intention of the proprietor of the business. This is especially so where the second limb is concerned with whether an outgoing is necessarily incurred in carrying on a business with the aim or object of gaining or producing assessable income. The focus on whether the outgoing was necessarily incurred in the course of such an activity means that the inquiry is objective. It requires an objective assessment as to whether the outgoing was required when undertaking a business with the object of gaining or producing assessable income. 24 In contrast, to speak of the purpose of a person is to refer to the object or aim that person had in view when they engaged in particular conduct (whether by words or action). It is to refer to the state of mind of that person. It is to focus on the result that the person was trying to achieve, what the conduct was aimed at. 25 In one sense a business is disembodied, it is a description of the activities that are directed towards achieving the commercial end of producing income. In that sense, its purpose is to be determined by considering the nature of the activities that have been determined by well-established lines of inquiry to constitute a business. However, a business is not entirely inanimate. It does not exist without proprietors, directors or managers as the case may be directing the nature and scope of the activities of the business. They establish the particular aims of the business when it comes to how the business will earn income. Therefore, the purpose of those in control of the business may be relevant when seeking to determine the purpose of the business. 26 These distinctions explain at least part of what French J described as the winding trail of jurisprudence on the topic of the relevance of the purpose of the taxpayer to the question of deductibility of an outgoing (particularly an interest expense): Macquarie Finance Limited v Commissioner of Taxation [2005] FCAFC 205; (2005) 146 FCR 77 at [100]. Under the current form of the deductibility provision expressed in s 8-1, in most respects instances where the purpose of the taxpayer (or those in control of the business) is brought to account as part of the relevant analysis may be seen as part of the evidence used to determine, in the particular case, whether the outgoing has the requisite character of being necessarily incurred in the course of carrying on a business to earn income. Evidence of the actual subjective purpose of those in charge of the business (or the decision to incur the outgoing) will have relevance to an evaluation as to whether the incurrence of the outgoing is 'clearly appropriate' or 'adapted for' carrying on the business or 'desirable or appropriate' from that point of view. Any such evidence, if adduced, is not determinative of the question for determination and the weight to be afforded that evidence will depend upon the circumstances. 27 In Fletcher (a case dealing with the first limb, particularly the question of apportionment), the proper approach to evidence of purpose was described in the following terms (at 17-19): At least in a case where the outgoing has been voluntarily incurred, the end which the taxpayer subjectively had in view in incurring it may, depending upon the circumstances of the particular case, constitute an element, and possibly the decisive element, in characterization of either the whole or part of the outgoing for the purposes of the sub-section. In that regard and in the context of the sub-section's clear contemplation of apportionment, statements in the cases to the effect that it is sufficient for the purposes of s. 51(1) that the production of assessable income is 'the occasion' of the outgoing or that the outgoing is a 'cost of a step taken in the process of gaining or producing income' are to be understood as referring to a genuine and not colourable relationship between the whole of the expenditure and the production of such income. Nonetheless, it is commonly possible to characterize an outgoing as being wholly of the kind referred to in the first limb of s. 51(1) without any need to refer to the taxpayer's subjective thought processes. That is ordinarily so in a case where the outgoing gives rise to the receipt of a larger amount of assessable income. In such a case, the characterization of the particular outgoing as wholly of a kind referred to in s. 51(1) will ordinarily not be affected by considerations of the taxpayer's subjective motivation … The position may, however, well be different in a case where no relevant assessable income can be identified or where the relevant assessable income is less than the amount of the outgoing. Even in a case where some assessable income is derived as a result of the outgoing, the disproportion between the detriment of the outgoing and the benefit of the income may give rise to a need to resolve the problem of characterization of the outgoing for the purposes of the sub-section by a weighing of the various aspects of the whole set of circumstances, including direct and indirect objects and advantages which the taxpayer sought in making the outgoing. Where that is so, it is a 'commonsense' or 'practical' weighing of all the factors which must provide the ultimate answer. 28 Likewise, 'a bare payment of money is itself devoid of character' and therefore its character must be ascertained by inquiry, an inquiry that includes a consideration of evidence of its purpose (see Brennan J in Magna Alloys at 220 quoting Stephen J). As was said by his Honour in Magna Alloys: … when the question is whether expenditure is incurred in gaining or producing assessable income, the connection between the advantage for the taxpayer which the incurring of the relevant expenditure is calculated to effect and the taxpayer's income-earning undertaking or business must be considered. If the advantage can be sufficiently identified by reference to a contract, and the taxpayer's undertaking is known, the connection between the incurring of the expenditure and the undertaking is manifest, and it would be otiose to refer to the purpose of incurring the relevant expenditure. But purpose is relevant to describe an element of connection between expenditure and a taxpayer's undertaking or business in cases where a taxpayer incurs expenditure or agrees to incur expenditure without any antecedent obligation to do so or where the occasion of the expenditure (unlike the purchase of trading stock) is not manifestly to be found in whatever is productive of assessable income or in whatever would be expected to produce assessable income, or in the carrying on of a business. 29 However, it must be borne in mind that the subjective views of those people who direct the activities of the business are not themselves the subject matter of the inquiry. The task is to characterise the outgoing. Therefore, the inquiry to be undertaken in considering whether an outgoing is deductible under s 8-1 is not an inquiry as to whether the purpose of the outgoing was to gain or produce assessable income or whether the outgoing was for the purpose of carrying on a business. The subjective purpose that was operative at the time the outgoing was incurred may assist in undertaking the task of characterisation. However, it is not determinative. It is the nature of the connection as between the incurrence of the outgoing and the earning of income that is being characterised.

Relevant legal principles as to the exception for capital expenditure 30 The law as to the conceptual distinction between capital and revenue expenditure was recently summarised in Watson as trustee for the Murrindindi Bushfire Class Action Settlement Fund v Commissioner of Taxation [2020] FCAFC 92 at [45] (Kenny, Davies and Thawley JJ) as follows: The task of characterisation required to determine whether an outgoing is on revenue or capital account involves consideration of the character of the advantage sought by the taxpayer by making the payments … As the authorities make clear, the analysis requires the determination of what the outgoing was calculated to effect from a practical or business point of view … But, as the authorities also make clear, that is not to say that the legal rights and obligations are to be ignored … (citations omitted) 31 The effect of the relevant authorities was also summarised in Commissioner of Taxation v Healius Ltd [2020] FCAFC 173 at [54]-[68] (Jagot, Moshinsky and Colvin JJ). I note, in particular, the following exposition at [60]-[61]: Expenditure on capital account acquires, produces, sustains or protects something of lasting value that may deployed to earn income. It may involve the acquisition of an asset or it may involve the securing of an advantage or be protective of the undertaking that is deployed to earn income. It need not result in something tangible. Most expenditure on capital account is not perpetual or everlasting. It will have a limited life. Nevertheless, the nature of capital expenditure is that the advantage it seeks forms the part of the business undertaking that is deployed to earn income without the capital being expended or used up immediately or in the short term. For that reason, assets that result from or are protected by capital expenditure are described as structural because they form part of the structure upon which the existence of the business undertaking depends. Also, for that reason, it is the nature of the expenditure from the standpoint of the party making the payment (the taxpayer) that is relevant. It also means that usually the expenditure will not be regular, ongoing or recurrent and will tend to produce an ongoing longer term benefit that is enduring. However, the diversity of commerce means that it is not possible to identify attributes that are characteristic or must be present. It is for that reason that the inquiry is a practical and commercial inquiry that does not depend upon the juristic classifications of the legal rights that are created or transacted by the activity to which the expenditure relates. It must be informed by the nature of the particular business and what it deploys in order to earn income. On the other hand, expenditure on revenue account seeks no lasting or ongoing value and is used up in earning income. Some expenditure on revenue account will generate property or contractual rights for a time. It may involve the acquisition of something that may be described as an asset or property. However, revenue expenditure does not expand or protect the structure of the business undertaking. Rather, expenditure on revenue account is incurred as part of undertaking the business activity of securing and supplying customers. 32 In determining whether income gaining or producing expenditure is capital in nature, the character of the advantage sought by the relevant outgoing is 'the chief, if not critical, factor in determining the character of what is paid': GP International Pipecoaters Pty Ltd v Federal Commissioner of Taxation (1990) 170 CLR 124 at 137. 33 The task to be undertaken is objective in character and requires a comparison between the expected structure of the business after the outgoing with the expected structure but for the outgoing: Healius at [68].

Nature of the evidence adduced by the parties 34 Some of the evidence adduced by Clough in the present case took the form of subjective evidence as to what was sought to be achieved by the payment of the Amount or the rationale or reasoning behind the decision to cancel the employee entitlements under the Option Plan and the Incentive Scheme. In some respects this was given as the subjective view of the witness as to what motivated the decision at the time it was made. As has been explained, the inquiry is not properly framed by reference to the subjective views of the participants in the events at the time that the outgoing was incurred. Rather, the subjective rationale of participants at the time the outgoing was incurred may be relevant, but it is not determinative. 35 Also of evidentiary significance will be an understanding of the function served by incurring the outgoing and whether that function formed part of the activity of producing assessable income or carrying on a business for that purpose (recognising that in the latter case the requirement is that the outgoing be necessarily incurred in carrying on such a business). In the former case, understanding the manner in which assessable income is produced will be fundamental, in the latter case, understanding the nature of the business and the way in which it achieves (or is to achieve) its purpose of producing assessable income will be fundamental. Therefore, an objective commercial assessment as to whether the incurring of the Amount could be said to be something that would occur in the course of earning income or conducting the business of Clough for that purpose may be expected to be of significance in determining deductibility of the Amount. 36 Further, the views of particular employees as to why the payment was made that take the form of conclusions or arguments after the event rather than evidence of the actual reasons that affected the making of the payment at the time or the circumstances that prevailed at the time do not really assist in undertaking the task at hand. The task of characterising whether the outgoings were incurred for one of the reasons specified in the two positive limbs in s 8-1 is a task that falls to the Court. It is not a task that is discharged by undertaking an assessment of the opinions of those involved. Rather, it is for the Court to undertake the characterisation for itself. It is a matter for legal reasoning and not evidence to determine the character of the Amount when paid. 37 Finally, when it comes to determining whether the payment was capital in nature, an objective approach is required. Subjective beliefs of employees or others as to the nature of the payment do not assist. 38 Therefore, in considering the evidence, what is required is an understanding of the means by which Clough produced assessable income, an understanding of the nature of the Option Plan and the Incentive Scheme and the nature of the commercial dealings that formed the context in which the Amount was paid to cancel the employee entitlements under the schemes. Evidence of actual commercial reasoning undertaken and applied at the time of paying the Amount will be relevant. As will an objective evaluation, undertaken from a practical business perspective, as to what was likely to have been the reason for the payment of the Amount given the evidence as to the context for the dealings at the time. However, subjective views and opinions of particular employees formed after the fact as to why the obligation to pay the Amount was incurred will be of little, if any, value. 39 The following findings as to the relevant facts seek to focus upon those aspects which I have just described as being relevant. Other evidence is rejected as being irrelevant or as evidence given in a form where it should be given little weight in circumstances where other evidence is of greater assistance to the characterisation task at hand.

Factual findings 40 Clough is an engineering and construction company. It provides engineering, project management and construction services throughout much of the world with a substantial focus on the oil and gas sector. It provides services from conceptual evaluation and feasibility through to detailed design, construction, commissioning and long-term asset support and optimisation. 41 In the 2014 financial year, the delivery of services by Clough was managed by executives whose responsibilities were established by line or function. There was an Executive Committee of senior managers who had overall oversight of the activities of Clough. 42 Clough had a work force of around 6,000 people but less than 1,000 were employed as permanent employees. The permanent employees were generally qualified specialist staff at supervisor levels and above who were employees of Clough Projects Pty Ltd, a wholly owned subsidiary of Clough Limited. 43 In the view of Mr Rajiv Ratneser, a former executive director and group general counsel of Clough, the value of Clough's business 'has always been (in descending order): its people, its systems and processes, and its project order book' and Clough has always had very few capital assets. This statement and the evidence of Mr Ratneser more generally establishes that an important part of the structure of the business of Clough was the fact that at any point in time it had a considerable number of qualified and experienced senior managers familiar with the nature of the project work that formed the business undertaking of Clough. In consequence, as Mr Ratneser said, 'retaining and incentivising key employees [was and] is central to maintain the value of the business [of Clough]'. The fact that Clough had built up a significant group of experienced executives with skills that related to its business was both a significant part of its capital value and the reason for a significant part of the operating expenditure that it incurred in earning income. 44 These matters are confirmed by the accounts for Clough for the 2014 financial year. They show that the physical assets of the company are about $42 million with current assets mostly being receivables. These figures compare to labour costs of about $690 million. 45 Mr Ratneser also described Clough as operating in a fiercely competitive market in which there was competition between rival businesses for key employees. In the view of Mr Ratneser, the Option Plan and the Incentive Scheme 'were intended to incentivise and retain employees in order to increase the overall operating performance of [Clough] and thereby increase its revenues and profitability'. Given its form, I take this evidence, to be opinion evidence based upon the experience of Mr Ratneser as a person responsible for the conduct of Clough's business at a very senior level who had been working for Clough as group general counsel since 2008 and who was given additional functions involving the group's commercial and corporate affairs in 2012. On the basis of his evidence, I find that an important part of the business activities that were required by Clough in order to generate revenue was the securing of experienced permanent employees who could manage and supervise the activities of Clough through appropriate remuneration. Those employees were rewarded in part through their participation in the Option Plan and Incentive Scheme. However, it was also the case that an important part of the capital value of the business conducted by Clough was to be found in the consistent group of experienced senior managers working for Clough who were able to conduct a project based engineering and construction group on a world-wide basis. 46 At the time that decisions were made concerning the payment of the Amount, there was a Remuneration and Human Resources Committee (RHR Committee) of the board of directors of Clough which comprised three qualified and experienced non-executive directors of Clough. Mr Ratneser generally attended meetings of the Committee in his capacity as company secretary. 47 Mr Ratneser sought to give evidence of his understanding of the intention behind the Option Plan and the Incentive Scheme. However, Mr Ratneser was not presented as the decision maker who formulated or introduced the Option Scheme and the Incentive Plan. The terms of both were in evidence as were contemporaneous documents relating to their rationale. These documents provide objective evidence from which conclusions may be reached as to the nature of the Option Plan and the Incentive Scheme and the reasons for their adoption by Clough. 48 In evidence was a version of the Option Plan dated 28 October 2009 as revised at an annual general meeting on 18 October 2011. It was common ground that the document might be treated for all intents and purposes as representing the relevant aspects of the plan and that any differences that may have applied from time to time were not material to the resolution of the issue whether the Amount was deductible in the 2014 financial year.

Terms of the Option Plan 49 Under the terms of the Option Plan: (1) the board of Clough may in its absolute discretion offer options to selected employees (cl 2.1); (2) no amount was payable by the employee for the grant of the options (cl 2.3); (3) the options may be offered on the basis of a specified exercise price to be paid by the employee (cl 4.1(2.1)(a)); (4) the options may be offered on the basis of performance criteria or other conditions (as determined by the Board at the time the options were offered) that must be satisfied before the options would vest (cl 4.1(2.1)(b)); (5) each option entitled the holder on exercise to subscribe for and be allotted one share (credited as fully paid) at the specified exercise price (cl 4.1(1.1)); (6) the options were required to vest within three years and to be exercised within three years of vesting (cl 4.1(2.3) & cl 4.1(2.4)); (7) any option would lapse if not exercised before the exercise date (cl 4.1(4.1)) or the performance criteria were not met (cl 4.1(4.2)); (8) options would also lapse if they had not vested and been exercised within 30 days of an employee ceasing employment (cl 4.1(2.7)); (9) if in the opinion of the board a 'Change of Control Event' had occurred, the board may declare that some or all options will vest immediately regardless of whether any condition had been met (cl 4.1(2.8)); and (10) the term 'Change of Control Event' was defined to mean, amongst other things, Clough entering into a scheme of arrangement with its members. 50 Therefore, at any point in time it may be expected that options may be issued under the Option Plan which (a) may not yet have vested (by reason that the time for determining whether performance criteria or other conditions had been met had not yet expired); (b) may have vested but may not yet have been exercised; and (c) may or may not require an exercise price to be paid by the employee upon exercise. Further, by reason that options may take three years to vest, unless an employee continued in employment, any value in the options would be lost if the employee ceased employment. For that reason, the Option Plan provided for a form of benefit to employees that was structured in a manner that would have the effect of encouraging those employees to remain with Clough, at least for so long as the employees formed the view that when the options vested they would be 'in the money' in the sense that the price at which they may be exercised would be less than the then prevailing price for Clough shares. 51 It appears that the effect of the Change in Control provision was that options that had been issued but had not yet vested could, upon the exercise of a discretion by the Board, become vested even though applicable performance criteria or other conditions had not yet been met (and may not be met). However, there was no right on the part of the employee to secure such vesting. If the Board declined to exercise its discretion then the options would continue to be subject to their terms of issue and they would vest as provided for in the Option Plan and if they vested, they would be required to be exercised according to its terms.

Terms of the Incentive Scheme 52 The Incentive Scheme was different to the Option Plan. It was adopted at an annual general meeting of Clough held on 23 October 2012. The notice of the meeting included an explanatory statement which said that performance rights under the Incentive Scheme would be granted where the board of Clough 'believes that it is in the best interests of the Company to align the interests of Eligible Employees with the performance of the Company, to incentivise those Eligible Employees and to reduce cash expenditure on incentive based remuneration'. In broad terms, the Incentive Scheme achieved such alignment by providing for certain employees to become entitled at a future date to a specified number of shares (or their cash equivalent) three years after a performance right to receive the shares (or cash) was conferred on the employee by the board. 53 Under the terms of the Incentive Scheme: (1) it was to be managed and administered by the board of Clough and, except as provided in the Scheme, the board had absolute and unfettered discretion (cl 2.3); (2) the board determined eligibility (cl 3); (3) the board may invite an eligible employee to accept an offer and apply for 'Performance Rights' (cl 6.1); (4) a Performance Right was a right under the Incentive Scheme at the election of Clough to acquire one share or receive in cash the market price of one share, three years after the date of grant of the Performance Right (cl 1.1); (5) a Performance Right vested automatically after three years and also vested before then if a Change of Control Event occurred (cl 11); and (6) a Change in Control Event was defined to include the approval by the shareholders of Clough of a scheme of arrangement by which any person would own all of the shares in Clough. 54 Therefore, those employees who held performance rights were entitled to be issued with shares (or cash equivalent) upon a change in control of Clough of the kind specified. Although different as to the manner of its operation and as to the nature of the benefit (providing for shares or cash rather than options), like the Option Plan, the Incentive Scheme encouraged employees to remain with Clough in the period between the issue of the performance rights and the receipt of the shares (or cash) specified in those rights so that they could receive the incentives that depended upon their ongoing employment by Clough.

Other employee incentives 55 In addition to the Option Plan and the Incentive Scheme by the time that the decision was taken to pay the Amount, Clough also operated a short-term incentive plan which provided for additional incentives where specified earnings targets for the company were met. There was also a share plan in operation which allowed employees to acquire $1,000 of shares by salary sacrifice on terms that the company would match each share acquired with another share.

Murray & Roberts 56 By 2011, Murray & Roberts owned approximately 60% of the shares in Clough. Between 2012 and July 2013 negotiations were conducted around potential terms on which Murray & Roberts might seek to acquire the remaining shares in Clough. From the outset, the treatment of options and rights granted to employees of Clough under the Option Plan and the Incentive Scheme was a key concern regarding the acquisition of the remaining shares in Clough. 57 Mr Ratneser deposed that it was evident to him that the Option Plan and the Incentive Scheme could not continue following the proposed acquisition of Clough by Murray & Roberts because the purpose of the acquisition was to gain 100% control of Clough and delist Clough from the ASX. As a result he formed the view that if Clough was delisted the options and rights granted to employees as part of their remuneration packages would need to be converted or cancelled. It can be seen that, on this evidence, it was the acquisition by Murray & Roberts that produced the need to do something about the accrued rights under the Option Plan and the Incentive Scheme and it was the nature of that acquisition that was the source of the need to bring the Option Plan and the Incentive Scheme to an end as part of the acquisition. The views deposed to by Mr Ratneser were formed in the context of considering how the acquisition by Murray & Roberts might proceed. However, it is not evidence of a view that in fact guided those within Clough who were responsible for determining what would occur in relation to the options and rights of employees if Murray & Roberts were to acquire control of all the shares in Clough. 58 Mr Ratneser deposed to a strong preference being formed by him and others that the options and rights be paid out in cash in the event of a successful takeover. This evidence was received only as a statement of the subjective beliefs held by him at the time as to what should occur. 59 Mr Ratneser then deposed to the following personal belief: I believe that the cancellation of the options and rights in exchange for a cash payment was necessary to maintain the goodwill of key employees, including myself, whose ongoing employment with [Clough] was determined to be strategically important, indeed critical, to its future profitability and growth. 60 The basis on which he formed that view was not stated. However, he did say that the possibility of converting the rights to similar rights in respect of Murray & Roberts was considered but was thought to be unattractive because it was listed on the Johannesburg Stock Exchange and 'would result in complexities involving tax, reporting and trading, and expose holders to currency and foreign market fluctuations and risk'. 61 Mr Siford, the chief financial officer of Clough at the relevant time, expressed the opinion that it would be highly undesirable to employees of Clough to have options or rights in Clough converted into options or rights in a foreign entity such as Murray & Roberts. Expressed in those terms it contemplates that there would be some agreement by which that would occur. Under the terms of the Option Plan and the Incentive Scheme the rights of employees are to options and shares in Clough. It would be the delisting of Clough that would make those rights less desirable not so much the fact that Murray & Roberts acquired all the other security interests in Clough. 62 Nevertheless, from a practical business point of view it may be concluded that an outcome that caused the accrued rights of employees under the Option Plan or the Incentive Scheme to be affected in a manner that might be considered to be adverse to their interests may lead to disaffection in the minds of those employees. 63 Evidence of Mr Ratneser to the effect that he understood that the Amount was paid as part of efforts to retain those employees 'by both compensating the team for its past performance and to incentivise it to remain in [Clough's] employment' was received as evidence of his subjective belief at the time. It is difficult to see why the event of the acquisition of 100% control of Clough by Murray & Roberts required some payment to be made to remunerate employees for past performance. In the absence of any evidence to the contrary, it may be assumed that those employees were content with the past circumstances as to their remuneration. There is no evidence as to any view being formed by Clough that it was appropriate for it, as employer, to increase that remuneration retrospectively out of some sense of fairness or to reward or recognise some aspect of past performance or loyalty to Clough. 64 On all the evidence, including that considered below, the context of the payment of the Amount was all about dealing with the consequences for the rights under the Option Plan and the Incentive Scheme of the change in shareholding and delisting of shares in Clough from the ASX. The payments were calculated by reference to a view of what the accrued rights might be worth by reference to the prevailing share price. There is no evidence of any assessment having been made by Clough of the value of past performance by particular employees and the determination of an appropriate amount to reward employees, in retrospect, for that service. 65 In the result, Clough made offers to all of its employees to accept an amount as a payment to cancel their rights that was based upon a schedule that calculated what their rights would be if they vested immediately. The circumstances in which those offers were made are considered below. 66 As to the making of those offers, Mr Ratneser deposed as follows: The offers made in respect of all options and rights improved the overall financial outcomes for [Clough's] employees, reflecting the intent to reward employees for their past performance and encourage them to remain as employees following the scheme of arrangement, as part of the broader remuneration plans targeted to this end. 67 The above evidence was objected to by the Commissioner. I uphold that objection for the following reasons. It is evidence expressed in a conclusionary form as to matters to be the subject of determination by this Court. It takes the form of an attempt by Mr Ratneser to characterise the nature of the Amount. It does not describe, for example, any assessment in fact made as to amounts that should be paid for past performance. For reasons I have given, I do not accept that it has been demonstrated by the evidence that the Amount was paid to reward employees for their past performance. This evidence is not given by reference to any description of such an assessment. Whether the Amount was paid to encourage employees to remain with Clough is part of the issue for determination. The evidence is not founded on any contemporary matter. It is not even expressed as a subjective view of Mr Ratneser held at the time the Amount was paid. It is not evidence at all. It is argument or conjecture by Mr Ratneser. 68 Mr Henry Laas was the chief executive officer of Murray & Roberts Holdings Ltd and a director of Clough at the relevant time. He was involved in the discussions concerning the potential acquisition of shares in Clough by Murray & Roberts. He deposed to the discussions about the potential acquisition principally revolving around the question of value and price 'and the retention of the executive team and key management'. Mr Laas supported the proposed acquisition for two reasons. First, the acquisition would provide Murray & Roberts with entry into new market segments. Second, the Clough business was a valuable business 'because of its executive and management team'. His view was that the value of the Clough business was and is to be found in the ability of its people. He also was of the view that it was critical that the proposed acquisition of shares was not disruptive to the existing business operations of Clough and the intention of Murray & Roberts was to retain the executives and management of Clough. 69 On 4 July 2013, Mr Laas sent a detailed proposal for the acquisition of Clough to the Chairman of Clough, Mr Keith Spence. It stated that Murray & Roberts was strongly supportive of Clough's existing management and their strategic plan and did not intend to make any material changes to the operations or management of Clough. It included a detailed request for information to advance due diligence. One category of information was: 'Copies of all employee incentive plans, including details of any relevant performance hurdles and any events which accelerate vesting'. The term sheet sent as part of the proposal stated that Murray & Roberts would 'acquire or cancel (for consideration) all … unexercised options … and … performance rights'. It went on to state that the proposed method for acquiring the options and performance rights would be agreed with Clough after further information had been provided by Clough. It then said: Subject to its review of the existing arrangements, it is the intention of [Murray & Roberts] to acquire these rights for cash consideration based on the consideration paid to acquire Clough Shares and any vesting rights triggered by the Transaction. 70 On 30 July 2013 there was a meeting of a committee described as the 'Response Sub Committee' within Clough. On the basis of the minutes of the meeting it appears to have been a committee that was convened to consider a response to an updated proposal that had been received by Murray & Roberts concerning the acquisition of the remaining shares in Clough not held by Murray & Roberts. The minutes of the meeting record extensive discussion of the proposal including: • The recognition of management and staff as a specific part of the Scheme Implementation Agreement to reward them for the generation of value in the price; • The continuity of employment conditions for staff including replacement of incentive schemes … 71 The form in which these matters are recorded suggests that these matters were being considered as aspects of any proposal by Murray & Roberts and to form part of the terms upon which a scheme of arrangement may be implemented by which Murray & Roberts may acquire the remaining shares in Clough that it did not already hold. The minutes then recorded a resolution that the proposal should be put to shareholders and that Clough ought to allow Murray & Roberts to commence due diligence. 72 No evidence was given as to what was meant by the reference to rewarding management and staff for the generation of value in the price. It was the reference to continuity of employment conditions that was referred to by Mr Ratneser as being significant. In any event, what is apparent is that the minutes were recording terms to attach to the proposal by Murray & Roberts to acquire control of Clough. 73 Also on 30 July 2013, Mr Laas had a conversation with Mr Spence. After the conversation, Mr Laas sent an email to Mr Spence expressing agreement with principles relating to employees expressed in the following terms: 1. In [sic] is important to Murray & Roberts that this proposed transaction will not be disruptive to the employees of Clough, nor that it would diminish your employment conditions. 2. In terms of the scheme rules, options or performance rights previously issued to you will vest on completion of this deal and must be paid out in full, as per your entitlement under the scheme. However, as M&R wishes to enter into retention arrangements with senior executives, M&R may engage with you to offer you an alternative choice. 3. Options that you may have been awarded in October of this year will be replaced with an alternative scheme. The details of this new scheme will be communicated over the course of the next few months. 4. Your current salary packages will be maintained. Both clients and employees will want to know that: 5. Clough will continue to operate as Clough following the completion of this deal, however, as part of the M&R group. 6. There are no planned changes to leadership. 7. Murray & Roberts is supportive of the Clough leadership and strategy. The strategy was approved by the Clough board which comprise three Murray & Roberts directors. 7. Murray & Roberts would like to welcome Clough upon completion of the proposed transaction, as a wholly owned subsidiary of Murray & Roberts. (original emphasis) 74 It can be seen that the principles were expressed in terms that indicated that they were to be communicated to employees of Clough. They contemplated that options and performance rights would vest on completion of the acquisition of the shares in Clough by Murray & Roberts and must be paid out in full. For reasons already given, neither the Option Plan nor the Incentive Scheme operated in that way. Rather, discretions were reserved to the board of Clough as to what to do in respect of rights that had not yet vested. It is possible that the statements reflect a commercial assessment made at the time that it would be appropriate for the change in control discretions to be exercised in a manner that would require Clough to pay out the accrued positions of employees. However, there was no evidence to that effect. Further, in oral argument the case for Clough was put expressly on the basis that the Amount was paid to cancel the entitlements of employees under the Option Plan and the Incentive Scheme and not by way of some form of performance of those entitlements. 75 Significantly, the term sheet and the email of 31 July 2013 show that an arrangement whereby rights under the Option Plan and the Incentive Scheme would be paid out either by Murray & Roberts or by Clough had its origins in the requirements of Murray & Roberts as to what would be done as part of its proposed acquisition of shares in Clough. It began as a term of the proposal to acquire the shares in Clough. It was developed into principles that would govern the consequences for Clough employees of the acquisition of the shares. 76 Thereafter, on 28 August 2013, a Scheme Implementation Agreement (SIA) was entered into between Clough and two Murray & Roberts entities. It recited the proposal that a Murray & Roberts entity would acquire all of the shares in Clough pursuant to a scheme of arrangement. Schedule 7 of the SIA set out certain 'Incentive Acquisition Principles'. By cl 6 of the SIA the parties were required to ensure that all Performance Rights and Options were dealt with in accordance with those principles. The term 'Performance Right' and the term 'Options' were defined so as to refer to rights under the Incentive Scheme and the Option Plan. 77 Schedule 7 of the SIA required Clough to make an offer to cancel the Options (held under the Option Plan) and to ensure that each person receiving the offer accepted that offer. It also required Clough to offer to cancel each performance right held under the Incentive Scheme and to ensure that each person receiving the offer accepted that offer. Schedule 7 also dealt with what was to occur if the offers were not accepted. It is evident from the form of Schedule 7 that the nature of the consideration that was to be offered to cancel the rights would be informed by what would occur if the offers were not accepted which was, in turn, a matter that was agreed as part of the arrangements to facilitate the proposed scheme of arrangement. 78 As to these terms, Mr Laas deposed as follows concerning change of control provisions under which unexercised options and performance rights would be paid out: A change of control clause of this kind providing for accelerated vesting is relatively common in my experience because it ensures that an employee is not disadvantaged by a takeover if they do not like their employer's new owner, or the new role they are given under a new ownership structure. In my view it was important that in the event that [Murray & Roberts] acquired the shares in [Clough] the payout of the options and rights, as per the terms of each arrangement, was honoured by [Clough]. This ensured that the executive and management of [Clough] maintained a high level of goodwill and trust, not only in [Clough], but also in [Clough's] new owners, which encouraged those employees to stay on and continue to perform at a high level post acquisition. It was important to me to ensure that the existing executives and management had confidence in [Murray & Roberts] and that [Clough] will not put the employees in a worse position or cause them to lose part of their remuneration as a consequence of the transaction. As the options and rights were granted to employees as part of their remuneration, I considered it was important for [Clough] to comply with the terms of each scheme. 79 The above evidence was received as evidence of the state of mind of Mr Laas at the time. He was a person at the most senior level within Murray & Roberts. His involvement in the transaction to acquire shares in Clough was as the chief executive officer of Murray & Roberts. Therefore, his evidence expresses its reasons for including such terms in the SIA. 80 However, it is to be noted that his interest in securing these outcomes was as an acquirer of shares in Clough. I do not accept his evidence as stating in full the reasons why there were to be offers made to each of the Clough employees holding rights under the Option Plan and the Incentive Scheme to cancel those rights. Neither Mr Laas nor Mr Siford gave that evidence. Only Mr Ratneser gave evidence as to the relevance of the arrangements made to bring the rights under the Option Plan and the Incentive Scheme to an end. As has been noted, he said that the acquisition by Murray & Roberts of 100% control of Clough could not continue with those rights in place. 81 On 27 August 2013 there was a meeting of the RHR Committee of Clough at which Mr Laas and other representatives of Murray & Roberts attended by invitation. Also in attendance by invitation was a Mr RAG Skudder. The Chairman of the meeting is identified as Mr RT Vice. The minutes are a business record of Clough. They record views formed by the members of Clough's RHR Committee, albeit with representatives of Murray & Roberts in attendance. At the end of the document is a section headed 'Murray & Roberts Holdings Limited, Remuneration & Human Resources Committee'. That part of the document appears to be a business record of Murray & Roberts. 82 The minutes of the meeting state under the heading 'Clough LTI Scheme' that Mr Skudder 'highlighted the salient features of a briefing note prepared to introduce a retention plan and a phantom FSP following the acquisition of minority interests in Clough'. The minutes then state: Due to the change of control provisions in the Clough Share Incentive Schemes, all outstanding options and performance rights vest immediately which will result in a cash payment to Clough Executives of AUD15.6 million [being, approximately, the Amount]. 83 The above language provides no hint that the cash payment to Clough Executives is made in order to ensure that executives stay with Clough after the acquisition. The only reason given is that under the change of control provisions the payment of the Amount must occur. 84 The minutes then record: Mr Laas reported on the negotiations held with Clough Executives to roll over all or a portion of their unvested options and performance rights into a phantom FSP. This was rejected on the basis that the automatic vesting is a right under the Clough Share Incentive Schemes and must be upheld. As a consequence thereof, an executive retention plan was proposed to retain key Clough Executives for a 3 year period. The Committee considered the proposal and approved the Clough retention plan (should the acquisition of the minority interests in Clough be successful). 85 The reference to a Phantom FSP for Clough indicates that a separate policy will apply to incentivise and retain employees of Clough if and when the proposed acquisition was to proceed. The significance of these minutes is that they show that the negotiations with the Clough Executives was about putting in place a new scheme in which their existing entitlements were rolled over into the Phantom FSP. The rollover was rejected for the sole reason that there was an automatic vesting right. Further, 'as a consequence thereof' an executive retention plan was proposed to retain key Clough Executives for a three year period. It can be seen that, according to the minutes, it was the new plan (not the cancellation of the rights under the Option Plan and the Incentive Scheme by payment of the Amount) that was identified as the means to retain the Clough employees. 86 Therefore, it appears that the Amount was paid on the basis that it represented entitlements that were triggered by the proposed acquisition. From a practical business perspective, on the basis of the contemporaneous records, the terms of the Option Plan and the Incentive Scheme were approached by both Clough and Murray & Roberts on the basis that the acquisition triggered a responsibility to pay out those entitlements and that the final element of the transaction would require a new scheme that would apply to incentivise employees. To the extent that similar incentives were needed to retain key management personnel after the acquisition those incentives were to be created by establishing a new scheme in which management staff of Clough could participate. 87 In the minutes of the Murray & Roberts Remuneration & Human Resources Committee there is the following recorded under the heading 'Summary of Matters Arising': The Committee considered and approved the Clough retention plan (should the acquisition of the minority interests in Clough be successful). The Committee supported and approved the Clough Phantom FSP (should the acquisition of the minority interests in Clough be successful) on the basis that the Committee will have oversight of the implementation of the Clough Phantom FSP. 88 Shortly before the hearing of these proceedings, the Commissioner wrote to the solicitors acting for Clough asking whether the retention plan referred to in the minutes of the RHR Committee as well as in the minutes of the Murray & Roberts Remuneration & Human Resources Committee was in evidence and if so where and if it is not whether Clough intends to provide the Commissioner and the Court with a copy. A formal response was sent by the solicitors for Clough in the following terms: We refer to your letter … regarding the retention plan and the directors of Murray and Roberts Holdings Ltd. With respect to the retention place [sic] the applicant does not intend to provide the Commissioner and the Court with a copy, either prior to or at the hearing. 89 On that basis, the Commissioner submitted that it had not been demonstrated by Clough that the terms of the retention plan to which reference was made in the minutes was not the instrument by which Clough incentivised its employees to stay with Clough after the change in control. In response, senior counsel for Clough submitted: It has never been hidden that there were other plans and other ways of remunerating and incentivising our employees. And there's no reason that the court would be entitled to assume that the documents wouldn't help the applicant. Particularly … in the circumstances where nothing was put to our witnesses in contradiction of what they've said. 90 Nevertheless, it remains the burden of Clough to demonstrate that the Amount is deductible. To make that case it must deal with the evidence before the Court. That evidence demonstrates that there were plans in place for Clough to establish new incentive schemes for its senior executives for the purposes of retaining them if the contemplated change in control was completed. Indeed, as senior counsel for Clough noted, Mr Laas deposed as follows: Following the implementation of the Scheme of Arrangement whereby the [Murray & Roberts] Group acquired 100% of the remaining shares in the Applicant, the [Murray & Roberts] Group immediately implemented new retention and long-term incentive arrangements for the Applicant's executive management team 91 The other evidence of Mr Laas as to the reason for the payment of the Amount to terminate the entitlements under the Option Plan and the Incentive Scheme must be evaluated in the above context. The contemporaneous documents indicate that the way in which the dealings were viewed at the time was that there was an obligation to pay out the existing arrangements by reason of a change in control and a need to put in place a new arrangement if the acquisition proceeded. Further, that obligation was triggered by the change in control. 92 The description of the performance of what was seen as an obligation to pay out the entitlements under the Option Plan and the Incentive Scheme was shown in the minutes of the meeting on 27 August 2013 by the following: The final retention and incentive element is the establishment of a Clough Phantom FSP to provide general alignment between the Clough Executives, Murray & Roberts and the Murray & Roberts Shareholders. Mr Skudder discussed the proposed Phantom FSP as contained in the briefing note in more detail. The eligibility, quantum of award and date of grant, will be determined by this Committee and the award levels and performance conditions will be similar to that of the Group's FSP as per the briefing note. The Committee supported and approved the Clough Phantom FSP (should the acquisition of the minority interests in Clough be successful) on the basis that the Committee will have oversight of the implementation of the Clough Phantom FSP. 93 Mr Siford gave evidence that 'the board's subcommittee' decided that if Murray & Roberts acquired all of the shares in Clough then 'all of the share options and performance rights granted under the Option Plan and the Incentive Scheme should be paid out in cash'. In giving that evidence, he appears to be referring to the takeover response subcommittee of which he was a member. His evidence then was: The reason for this is that the board subcommittee decided that [Clough] would need to provide an incentive both to reward employees for their past performance and encourage and motivate executive employees of [Clough] to remain with [Clough] post-transaction. It was my view that the more we could do to encourage staff to remain with [Clough] following the proposed transaction with [Murray & Roberts], the better. This would assist in retaining and motivating executives and employees of [Clough] going forward to continue to maintain and grow [Clough's] business. 94 The Commissioner objected to the second sentence of the above evidence on the grounds that it was not evidence of what was said at any meeting. It was simply Mr Siford's evidence of what he thought the reason was for a decision made at an unidentified meeting. I uphold the objection. The evidence is not expressed as a statement of the reasoning by the subcommittee at the time it made the decision. It is simply a statement of the subjective view of Mr Siford and there is no evidence that his subjective view was the operative view that guided the decisions taken by Murray & Roberts. 95 Therefore, on the basis of the contemporaneous records the reason for the payment of the Amount at the time was a view that there was an obligation to pay out what was thought to be accrued entitlements of Clough employees. The payment of the Amount was not directed to retaining employees. Further, on the evidence, Murray & Roberts, by its relevant officers, was concerned to ensure that Clough executives that were important to its business were retained notwithstanding the change in control and were incentivised to do so. It dealt with that concern by formulating the Clough Phantom FSP. 96 Indeed, it is difficult to see how the unconditional termination of the Option Plan and Incentive Scheme by making large cash payments to employees would create an operative incentive by which Clough might retain employees with rights thereunder. Rather, it would bring to an end the deferred nature of those entitlements which could only be earned by continued association with Clough. It would free the employees to make a decision whether to stay or go when the change in control occurred. No doubt that was why the Clough Phantom FSP was developed and offered to key executives. 97 In September and October 2013, offers in accordance with the SIA were made to all employees. Each offer was conditional on the SIA becoming effective. All employees either accepted the offer to cancel or exercised vested options and thereby became shareholders who could participate in the scheme of arrangement. 98 The scheme of arrangement was implemented on 11 December 2013. Clough was delisted on 12 December 2013. 99 The Amount was paid to employees on 11 December 2013 and the options and performance rights were cancelled. The amounts paid to each employee were determined by the amounts set out in a spreadsheet. 100 On the evidence, the amounts for each employee to cancel options were determined by reference to an amount that was calculated by reference to a price at which those options might have been sold less the amount to be paid on exercise and in the case of the performance rights under the incentive scheme by reference to the market value of shares. The relevant figure used in each case was $1.46 per share. I accept the submission for Clough that these amounts reflected an assessment that the options were 'in the money' at the time that the calculations were made. However, there was no evidence from Clough to indicate the nature of the conditions that were imposed upon the exercise of the options (assuming they vested). Therefore, the Amount was assessed on a basis that may not have applied had events followed their course and the acquisition of shares in Clough had not occurred. 101 For the Commissioner it was pointed out that the nature of the performance criteria that applied under the Option Plan meant that there must be an increase in the value of shares in Clough in a specified amount before the options could be exercised. Further, there were equivalent conditions that applied under the Incentive Scheme. Finally, it was not the case that the Amount was paid to perform accrued rights under the Option Plan or Incentive Scheme but to cancel the liabilities that may arise in future depending upon the course of future events. Those submissions may be accepted as reflecting the state of the evidence. 102 The above aspects indicate that the Amount paid represented, in some respects, an Amount that was only payable with certainty by reason of the event of the acquisition of the shares in Clough. If the Option Plan and the Incentive Scheme had each continued to operate according to their terms (and the Amount had not been paid on the basis of a view that it was triggered by the change in control) then some options may or may not have vested in the employees and those options that did vest may or may not have been 'in the money' by the time the conditions imposed on exercise were met. They support the submission for the Commissioner, which I accept, that the Amount represented payments that were made outside the parameters of the Option Plan or the Incentive Scheme in the sense that the Amount is not simply the payment of the present value of an accrued entitlement. There is no suggestion that there was a discount for the contingencies and uncertainties that may pertain. Instead, Clough took the view that it was required because of the change of control event to pay the Amount to its employees. 103 Significantly, Clough made no attempt to identify any basis for a view that any or all of the Amount was a payment to discharge accrued entitlements that would, in all likelihood, have to be performed by Clough. It was not submitted that the Amount was paid in performance of entitlements. Rather, the case for Clough was put on the basis that the Amount was paid to terminate the Option Plan and the Incentive Scheme.

Characterisation of the Amount 104 On the findings I have made, the Amount was paid in order to fulfil an obligation that arose upon the change in control of Clough to pay relevant employees an amount to bring their entitlements under the Option Plan and Incentive Scheme to an end. 105 In the above context, the payment of the Amount terminated any incentive to remain with Clough that was created by the Option Plan and Incentive Scheme. It was made in the belief that there was an obligation to bring that incentive to an end in the event of a change in control. That is to say, it was informed by a view that the proposed acquisition by Murray & Roberts required Clough to bring to an end the ongoing incentives to stay with Clough that formed part of the continuation of the Option Plan and the Incentive Scheme. It was not made to retain those employees. 106 True it is that the Option Plan and the Incentive Scheme each operated in a way which meant that options could be issued on terms that meant that they would not vest until a date up to three years in the future. Therefore, in the period when the options had not yet issued or the options had been issued but had not yet vested or the qualifying period for the incentives had not yet run they operated in a manner that assisted Clough to produce income by securing the greater likelihood of the ongoing availability of senior employees. However, the fact that the schemes had that effect while they were in place did not mean that a payment to bring the rights conferred by the schemes to an end had the same character or object. Nor did it mean that a cash payment made to terminate the entitlements under the scheme on the basis of a view that a change in control meant that such a payment was required to be made was an outgoing incurred by Clough in producing assessable income or in carrying on its business (for the purpose of producing assessable income). 107 On the evidence the Amount was paid only because of the change in control. Without the change in control, Clough may be expected to have continued with the Option Plan and the Incentive Scheme for the same reason that they were established. It would do so in order to create incentives to stay with Clough and to 'align' the interests of its employees with those of Clough. 108 On the evidence it has not been shown that the act of buying the Clough employees out of their rights by the payment of a cash amount calculated on the basis that they were then entitled to the options had the potential to operate as an incentive for employees to remain with Clough. There is no suggestion that the employees had to make any commitment to stay with Clough as a condition of receiving the payment or that the cancellation formed part of an arrangement by which there would be a new entitlement when control of Clough was assumed by Murray & Roberts. Rather, it had the character of affording a protection to those employees that in the event of a change in control they would have a freedom to decide whether to continue with the company or leave. Making the payment of the Amount gave Murray & Roberts no leverage with the Clough employees. No doubt for that reason, in addition to the payment of the Amount, upon the completion of the acquisition Murray & Roberts put in place arrangements for the 'final retention and incentive element' namely the Clough Phantom FSP, a document that was not in evidence and about which Clough gave no evidence despite a call being made for the document by the Commissioner (albeit late in the day). 109 On the evidence, the payment of the Amount was made because of a view that the change in control triggered an obligation to pay out the rights under the Option Plan and the Incentive Scheme. 110 The payment of an amount to cancel rights under a scheme to incentivise employees to stay with an employer is a step that may be taken for a range of different reasons. Those reasons will be evident from an examination of the commercial context. It is the examination of those actual contextual reasons that will reveal the character of the cancellation payment, particularly whether its character is such that it may be described as having been made to gain or produce income. 111 Without being exhaustive, the payment of the lump sum may occur in order to compromise a dispute with an outgoing employee or a dispute with employees generally about the nature of the relevant scheme. It may be done as part of the restructure of arrangements with employees by which they were to receive options on different terms for the purpose of increasing the incentive created by the scheme for employees to remain with Clough. It may be done with a view to making it easier to raise capital or to satisfy the terms of issue of convertible notes or it may be seen to be in the interests of shareholders generally because it would make a bid for shares in the company more attractive to a bidder seeking to secure control of the company. 112 In the present case, on the evidence, the payment of the Amount was made to satisfy a requirement of the bid by Murray & Roberts for shares in Clough and because of a view that employees were entitled to the payment by reason of the change in control. It was also done to facilitate the acquisition of 100% control of Clough by Murray & Roberts. It was not done to reward employees or to retain them. It was not done with a view to Clough gaining or producing income. 113 Therefore, payment of the Amount was not incurred by Clough in gaining or producing assessable income or necessarily incurred in carrying on a business for the purpose of gaining or producing such income. If the scheme of arrangement by which Murray & Roberts acquired the shares in Clough had not occurred the Amount would never have been paid. The incurrence of the outgoing was not involved in or connected to an activity that may be described as carrying on Clough's business. Its incurrence was part of the activity by which Murray & Roberts acquired the shares in Clough. Clough did not pay the lump sum to produce income. Nor did it pay the lump sum as a necessary part of what was required in carrying on its business. 114 For those reasons, the appeal by Clough should be dismissed.

Payment on capital account 115 As I have found that the positive limbs are not satisfied, it is not necessary to determine whether the Amount would properly be characterised as being on capital account if, contrary to my findings, the Amount did meet the positive limbs of s 8-1(1). 116 In that context, it would be significant that the Amount was paid by Clough to its employees. It was paid to buy them out of their rights under the Option Plan and the Incentive Scheme. The employees had already earned those entitlements by their past work. The payment was a one-off payment. Whatever the strict juristic character of the payment may be, it was paid on the basis of a view that there was an entitlement on the part of the Clough employees to be paid the lump sum amount in circumstances where there was a change of control. 117 From the perspective of Murray & Roberts it might be said that the payment of the Amount facilitated its transaction on capital account, namely the acquisition of shares in Clough. However, it is not the character of the transaction being entered into by Murray & Roberts that is in question. Further, it is not Murray & Roberts that has incurred the outgoing. 118 From Clough's perspective it had conferred the rights under the Option Plan and the Incentive Scheme as part of the remuneration of its employees. If those rights had been performed rather than cancelled then entitlements to options would have vested under the Option Plan (to the extent that they had not already vested) and then those options may have been converted to shares. Under the Incentive Scheme participating interests may have resulted in the issue of shares or the payment of a cash equivalent to employees. These differences may be significant to the character of the Amount given that part was paid to cancel the options and part was paid to terminate the participating interests. 119 Although the entitlements under the Option Plan and the Incentive Scheme were conferred incrementally on the basis of the efforts of individual employees, their cancellation occurred as part of a single dealing which related to all accrued entitlements. On the evidence, the Amount was paid because of a view that the change in control was an event that caused the Amount to be required to be paid. However, evidence that I have not accepted as being relevant to the determination as to whether the positive limbs were satisfied was to the effect that the Amount was paid to retain all of the employees who, together, represented the real capital value of the business conducted by Clough. 120 A change in control of a business is not part of the everyday operation of the business of Clough. 121 The arguments addressed to the alternative question as to whether the payments were on capital account were brief. 122 Had it been necessary to consider these matters I would have been inclined to invite the parties to provide further submissions as to whether the matters I have identified were material for adjudicating the question whether the Amount was paid on capital account. 123 Further, the nature of the qualifying condition that the payment not be on capital account (whatever its character) contemplates that it will be applied where outgoings have been incurred in producing assessable income or necessarily incurred in carrying on a business for that purpose. For reasons I have given, I have concluded that the outgoings are not of that kind. Therefore, there are conceptual difficulties in articulating the precise foundation upon which the question whether the Amount was paid on capital account should be determined. In particular, precisely what is the character to be given to the Amount as an outgoing for the purpose of determining whether it is an outgoing on capital account. 124 In the circumstances, having made findings as to the relevant factual matters, I do not consider it necessary or appropriate to make an alternative finding on the legal question whether the Amount was capital in nature on the assumption that my views concerning the positive limbs are not correct.

Conclusion and orders 125 It follows that the Amount is not deductible and the appeal by the Clough should be dismissed. There remains a question as to the appropriate cost order to be made in circumstances where the Commissioner until close to the hearing maintained that the Amount was not deductible over five years as a business related cost pursuant to s 40-880. Therefore, I will reserve liberty to apply for orders as to costs. If the parties are not agreed as to the appropriate cost order then the parties should file competing minutes and submissions of no more than three pages as to the appropriate cost order. I certify that the preceding one hundred and twenty-five (125) numbered paragraphs are a true copy of the Reasons for Judgment of the Honourable Justice Colvin.

Income Tax Assessment Act 1997(Cth)ss 8-1, 701-1, 40-880

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