Colonial Mutual Life Assurance Society Ltd v Commissioner of Taxation

Colonial Mutual Life Assurance Society Ltd v Commissioner of Taxation - [1953] HCA 68 - HCA 1953 case summary — Zoe

[10]

That the sale of a capital asset may result in the seller receiving either capital or income has long been clearly established. The classic statement on the subject in the judgment of Rowlatt J. in Jones v. Commissioners of Inland Revenue [2] , need not be repeated here; it was quoted with approval and applied by this Court in Egerton-Warburton v. Deputy Federal Commissioner of Taxation [1] . In the simple case of a sale of an asset for a lump sum price, the character of the asset naturally determines the character of the receipt; but where the sale produces a series of payments it is a question to be decided upon an examination of the particular transaction whether those amounts come to the seller as instalments of an agreed principal sum constituting the price, or as income the right to which has been acquired by the sale. In the former case, the character of the asset sold must again be the decisive consideration, for parts of a principal sum must have the same nature as the sum itself would possess if paid in one amount. In the latter case, however, the payments received have the intrinsic character of income notwithstanding that the right to receive them has been acquired as the consideration for the disposal of a capital asset. Romer L.J. put the matter in these words in Inland Revenue Commissioners v. Ramsay [2] : - "If a man has some property which he wishes to sell on terms which will result in his receiving for the next twenty years an annual sum of £500, he can do it in either of two methods. He can either sell his property in consideration of a payment by the purchaser to him of an annuity of £500 for the next twenty years, or he can sell his property to the purchaser for £10,000, the £10,000 to be paid by equal instalments of £500 over the next twenty years. If he adopts the former of the two methods, then the sums of £500 received by him each year are exigible to income tax. If he adopts the second method, then the sums of £500 received by him in each year are not liable to income tax, and they do not become liable to income tax by it being said that in substance the transaction is the same as though he had sold for an annuity. The vendor has the power of choosing which of the two methods he will adopt, and he can adopt the second method if he thinks fit, for the purpose of avoiding having to pay income tax on the £500 a year. The question which method has been adopted must be a question of the proper construction to be placed upon the documents by which the transaction is carried out" [3] .

[12]

But it does not follow that the converse proposition is also true - that is to say it does not follow that, because the payments are assessable income of the seller, they are outgoings which qualify as allowable deductions for the purposes of s. 51 (1). This subsection has two limbs the meaning of which has been discussed in Ronpibon Tin (N.L.) v. Federal Commissioner of Taxation [4] ; Federal Commissioner of Taxation v. Green [1] ; Broken Hill Theatres Pty. Ltd. v. Federal Commissioner of Taxation [2] , and particularly in the first of these cases. There can be no doubt that the payments which the appellant agreed to make to the Just Brothers for fifty years are payments which fall within both limbs of s. 51 (1) if they are not of a capital nature. The rents which the appellant receives from the portion of the building which is let are part of its assessable income from property and the appellant was only able to erect the building and let this portion because it was able to acquire the land on which part of the building stands from the Just Brothers. The payments it has agreed to make to the Just Brothers can therefore be said to be incurred in gaining or producing the assessable income in the sense that the occasion of the outgoing is to be found in what is productive of the assessable income. The payments are also outgoings within the second limb because they are in this sense appropriate or adapted for producing assessable income. But all this could be said of many payments which are clearly of a capital nature. It could be said of all instalments of purchase money paid for the purchase of a fixed capital asset which the purchaser acquired and used to produce assessable income. No assistance in solving the present problem is really derived from the English cases which were cited to us relating to the right of a payer of an annuity or other annual payment to deduct income tax from the annuity or annual payment before making the payment to the payee and retain the deduction for himself, or to deduct such payment from his total income for the purposes of super-tax or surtax. This is because the annuities or other annual payments are in effect the profits of the recipient who bears the tax, and they are not also to be treated as profits of the person paying them. If no tax can be deducted on behalf of the recipient, the payments cannot be treated as profits of the recipient and must be treated as paid out of the profits of the person paying them who is therefore to be taxed thereon: Sugden v. Leeds Corporation [3] ; Earl Howe v. Commissioners of Inland Revenue [4] ; Allchin v. Coulthard [5] . Under Schedule D Case 1 the tax is computed on the full amount of the balance of the profits or gains. Rule 1 provides that the tax shall be charged without any other deduction than is by the Act allowed. Rule 3 provides that in computing the amount of the profits or gains to be charged, no sum shall be deducted in respect of (a) any disbursements or expenses, not being money wholly and exclusively laid out or expended for the purposes of the trade, profession, employment, or vocation; or (1) any annual interest, or any annuity, or other annual payment payable out of the profits or gains. In Delage v. Nugget Polish Co. Ltd. [1] , by an agreement between the plaintiffs and the defendants, the defendants acquired the exclusive right of selling and manufacturing articles by a secret process and agreed to pay to the plaintiffs for forty years a sum equal to eight per cent of the amount of the gross receipts received by them on the sale of these articles. The question at issue was whether the defendants could deduct income tax from the sums payable to the plaintiffs under the agreement. Phillimore J., as he then was, decided that they could. He held that these payments were annuities or annual sums payable out of the profits or gains brought into charge and were income in the hands of the recipients. Accordingly the defendants could deduct the income tax payable on these sums. But his Lordship also considered the character of the payments as outgoings and held they were of a capital nature. He said: "In the year 1903, which is the year in question in this case, the defendants made a very large sum of money in the form of gross takings, and they made also, as is agreed between the parties, a considerable sum of money in the form of net profits larger than 8 per cent. of the gross takings. They were compelled by the Crown, and as it seems to me rightly compelled by the Crown, to pay on their net profits without deducting the sum of money which they had to pay away as the 8 per cent. Rightly were they so compelled because that sum of money was at any rate as between the Crown and the taxpayer to be viewed as no deduction from profits, but as part payment in the way of capital expenditure for the article originally bought, out of which they made their profit" [2] .

[34]

The essence of the contract of 16th February 1934, so far as the company and Just Brothers are concerned, is that Just Brothers agree to transfer their land to the company in consideration of a promise by the company to pay to them for a period of fifty years from 1st January 1935 or from the completion of the building, whichever is the later, an amount equal to ninety per cent of all rents as and when received from lessees or tenants of three shops and a basement in the new building. The document, of necessity, contains a number of subsidiary provisions. It provides for the execution by Just Brothers forthwith of a transfer of their land to the company. The transfer is to be held in escrow with the certificate of title until the completion of the building, when it is to be delivered to the company for registration. Possession is to be given forthwith, outgoings being adjusted as at 30th June 1934. The company undertakes to commence forthwith, and to complete with all reasonable speed, the erection of a building in accordance with certain plans and specifications, which are identified. The building is to contain (inter alia) three shops and a basement situated on the corner of King William Street and Hindley Street, the shops having a frontage of thirty-seven feet to the former street and eighteen feet six inches to the latter street. The company is to use its best endeavours to let the shops and basement to reputable tenants at the best rental obtainable, and to collect all rents of the shops and basement, but it is not to be responsible for non-payment of rent by any tenant. It is to render to Just Brothers at the end of each month an account of all rents collected, and at the same time to pay to Just Brothers the amount shown to be due to them without any deduction. There are one or two other stipulations of minor importance, including a provision for prompt restoration in the event of total or partial destruction by fire of the shops or basement. The provisions which I have mentioned were, of course, designed to ensure that the premises whose rental was to provide the measure of the company's obligation should come into existence and be let as advantageously as possible, and to prescribe the time and manner of the performance of the company's obligation. But the whole essence and substance of the contract is, as I have said, that the company is to acquire the land of Just Brothers in consideration of a series of payments to Just Brothers extending over a period of fifty years. Two points may be noticed at this stage, though I do not know that I attach vital importance to either. In the first place, the shops and basement mentioned in the contract were to be erected not on the land to be purchased from Just Brothers but on part of the land originally owned by the company. In the second place, there is no assignment of the rentals of the shops and basement or of any part thereof, or even a promise to pay those rentals or a part thereof to Just Brothers. The position is simply that the rents actually received by the company in respect of the shops and basement provide the measure of the amounts which are to be paid monthly by the company.

[40]

It is, however, the second aspect of the transaction of 1934 that is material for present purposes, and the present question is whether the monthly payments to Just Brothers are allowable deductions from the assessable income of the company. Considerations which are relevant on the other aspect of that transaction appear to me to be irrelevant here. For it is incontestable here that the moneys are paid in order to acquire a capital asset. The documents make it quite clear that these payments constitute the price payable on a purchase of land, and that appears to me to be the end of the matter. It does not matter how they are calculated, or how they are payable, or when they are payable, or whether they may for a period cease to be payable. If they are paid as parts of the purchase price of an asset forming part of the fixed capital of the company, they are outgoings of capital or of a capital nature. It does not indeed seem to me to be possible to say that they are incurred in the relevant sense in gaining or producing assessable income or in carrying on a business - any more than payment of a lump sum would have been so incurred if the purchase price had been a lump sum payable on transfer. The questions which commonly arise in this type of case are (1) What is the money really paid for? - and (2) Is what it is really paid for, in truth and in substance, a capital asset? Examples could, of course, be multiplied. One example of a case which turned on the answer to the first of these questions is a case on which the appellant company relied in this case, Ogden v. Medway Cinemas Ltd. [1] . Whatever may be thought of the decision in that case, it seems to me to have no bearing on the present case. Contrast Commissioners of Inland Revenue v. Adam [2] and Green v. Favourite Cinemas Ltd. [3] . Another example is Egerton-Warburton v. Deputy Federal Commissioner of Taxation [1] , but I will refer specially to this case a little later. An example of a case which turned on the answer to the second of these questions is the recent case in this Court of Broken Hill Theatres Pty. Ltd. v. Federal Commissioner of Taxation [2] . The nature of the problem which often presents itself is analysed by Dixon J. in Sun Newspapers Ltd. v. Federal Commissioner of Taxation [3] . In the present case the first question is readily answered by reference to the documents. The money is paid for the land. And, as for the second question, it is obvious that the land is a capital asset. In essence the case is very like Tata Hydro-Electric Agencies Ltd., Bombay v. Commissioner of Income Tax, Bombay Presidency and Aden [4] . In that case the relevant enactment authorized the deduction of expenditure "incurred solely for the purpose of earning profits or gains", but there is nothing in the judgment of Lord Macmillan to suggest that anything turned on the word "solely". Their Lordships were of opinion that the proper question to ask was that propounded by the Lord President (Clyde) in Robert Addie & Sons' Collieries Ltd. v. Commissioners of Inland Revenue [5] , "Is it a part of the Company's working expenses; is it expenditure laid out as part of the process of profit earning?" That question is not less appropriate to s. 51 of the Commonwealth Act, and in this case it must clearly, in my opinion, be answered in the negative.

[44]

Surtax in England is charged only upon an individual's "total income from all sources" as diminished by certain kinds of interest, annuities, and annual payments, from which, under the system of collection "at the source", which is in operation with respect to ordinary income tax (but not with respect to surtax), he is entitled to deduct income tax as against the recipient: Konstam on Law of Income Tax, 12th ed. (1952), par. 331. Thus in Earl Howe v. Commissioners of Inland Revenue [2] , Scrutton L.J. said: "The "annuities interest and other annual payments" which can be deducted in order to obtain exemption" (i.e., from super-tax, now surtax) "are those from which the claimant can deduct tax on behalf of the recipient" [3] . In each of the cases I have mentioned, an annual payment was alleged by the payor to be deductible in the assessment of his surtax on the ground that it was of such a character that he was entitled to deduct income tax from it as against the payee. Now, the ordinary income tax which a payor is given the right to deduct when making his payment is a tax on the income of the payee, as Scrutton L.J. recognized in the passage above quoted. The amount is recovered by the Crown from the payor by charging the payor with income tax on his own income without making any allowance for the payment, but that is only the means of collection: see the explanation of the system by Viscount Simon in Allchin v. Coulthard [4] . Consequently a payment from which the payor is entitled to deduct income tax must be a payment which would be subject to income tax in the hands of the payee if it were paid to him in full: see Earl Howe v. Commissioners of Inland Revenue [5] , and cf. Watkins v. Commissioners of Inland Revenue [6] . In other words, such a payment must be in his, the payee's, hands, a receipt of an income and not of a capital nature. The point at issue in each of the cases now being discussed was thus simply whether the payment in question was of an income or a capital nature from the point of view of the payee. If, so regarded, it was of an income nature, it was deductible for the purposes of the payor's surtax: if, so regarded, it was of a capital nature, it was not deductible for the purposes of the payor's surtax. Its nature as an outgoing from the point of view of the payor had no relevance to the question of its deductibility, and none of the judgments was directed to that topic. Such cases deal with a position which has no analogy in this country, and they have no bearing on the question now under consideration. This is well illustrated by the case of Commissioners of Inland Revenue v. Duke of Westminster [1] . The object of the Duke's ingenious plan was to reduce his surtax: in Australia the labours of his legal advisers would have produced no result by way of relief from taxation.

[46]

It remains only to refer to the decision of this Court in Egerton-Warburton v. Deputy Federal Commissioner of Taxation [2] on which counsel for the taxpayer strongly relied. This was a case of a very exceptional character. The appellants were a father and two sons, and the controversy related to a sum of £659, which during the year of income was paid by the sons to the father. The transaction in pursuance of which that payment was made is thus summarized in the joint judgment of Rich, Dixon and McTiernan JJ.: "the father was the proprietor of an estate in fee simple in land upon which farming and orcharding was carried on. His two sons formed a partnership for the purpose of carrying on the enterprise. The father entered into an agreement with them in which he was described as the vendor, and they were described as the purchasers. He agreed to sell to them, on a walk-in-walk-out basis, the land together with all stock, chattels and effects thereon. Briefly stated, the consideration for the sale was as follows. The sons were required to pay (a) an annuity to the father during his life of £1,200 by quarterly payments; (b) after his death an annuity to his widow of £1,000 by quarterly payments; (c) after the death of both the father and his widow, the sum of £10,000 to his three daughters and the children of a deceased daughter in such shares and upon such terms as he might by deed or will appoint, and, in default of appointment, in shares of one quarter to each of the three daughters, and one quarter to the children of the deceased daughter. The father reserved under the agreement the right to use and occupy a dwelling-house upon the land. The sons agreed upon the completion of the purchase to execute a mortgage over the land to secure the payment of the annuity and of the sum of £10,000. In part performance of this obligation, the sons secured the annuity to the father by a registered instrument of charge over the land. In the year of income upon which the assessments are based, the sons paid on account of the father's annuity the sum of £659 already mentioned" [1] . The commissioner treated the sum of £659 as assessable income of the father, and refused to allow any part of it as a deduction in the assessments of the sons, who had borne the payment in equal shares and claimed that one half was deductible from the assessable income of each.

[49]

It is not to be supposed that in this brief passage their Honours intended to convey that, because the money would normally and naturally be paid out of revenue, it could not be an outgoing of a capital nature. As Lord Greene M.R. observed in Associated Portland Cement Manufacturers Ltd. v. Inland Revenue Commissioners; Associated Portland Cement Manufacturers Ltd. v. Kerr [3] , "Whether or not an item of expenditure is to be regarded as of a revenue or capital nature must in many, and, indeed, in the majority of cases, depend upon the nature of the asset or the right acquired by means of that expenditure. If it is an asset which properly appears as a capital asset in the balance sheet, then that is an end of the matter. But it must never be forgotten that an asset which may properly, and quite correctly, appear, in the balance sheet as an asset may be acquired out of revenue It is, therefore, no sufficient test to say that an asset has been paid for out of revenue" [4] . In Grant v. Commissioner of Taxes [5] , O'Leary C.J. seems to have been disposed to think that the decision in the Egerton-Warburton Case [6] was inconsistent with what was said by the learned Master of the Rolls and also inconsistent with the decisions in the Tata Hydro-Electric Case [7] , and in a South African case of Lambson v. Commissioner for Inland Revenue [1] . See also Bern v. Commissioner of Taxes [2] . But it seems to me reasonably clear that the correct explanation of the Egerton-Warburton Case [3] is that which was suggested by my brother Taylor in the course of argument in the present case. It is simply that in the particular circumstances the annuity was not regarded as part of a purchase price payable by the sons to the father for the land. The nature of the transaction itself had been closely examined by the Court in the course of considering the first aspect of the case, and it was unnecessary, when the second aspect of the case came to be approached, to repeat what had been said. It had been pointed out [4] that the transaction was not an ordinary business transaction but bore "all the marks of a family settlement". There was nothing to show that the full value of the property transferred was represented by the consideration constituted by the various payments. The sum of £10,000 evidently amounted to a post mortem distribution to children as beneficiaries of the father's property. It may well have been that the effect was to invest the sons with a substantial interest which was not exhausted by the payment of the charges upon it. Seen as being in substance a family settlement, the transaction in spite of its form, could not be treated as meaning that the sons were paying for the land a true price which was represented in part by the annuity payable to the father. It resembled rather a gift of the land to the sons charged during the father's lifetime with an outgoing analogous to interest on a mortgage and charged with a capital sum payable at the father's death. So regarded, the case is not out of line with the New Zealand cases or with the authorities cited by O'Leary C.J.

At a glance

Court

Decision date

Before

Source

Judgment (54 paragraphs)

Parties

Cited By (2)