Commissioner of Taxation v Condell

REASONS FOR JUDGMENT 1 The Commissioner appeals from the decision of the Administrative Appeals Tribunal which allowed the objection of the respondent taxpayer and determined that the dividend paid to him by the Hewlett-Packard Company ('Hewlett-Packard') on 2 June 2000, by way of shares in a subsidiary company, was not assessable as income. 2 Hewlett-Packard is a company incorporated in the United States of America. In March 1999 the board of Hewlett-Packard decided to realign the company to create two distinct companies, one focusing upon the company's computing and imaging business and the other upon its Measurement Organization, which included its test and measurement, semiconductor products, chemical analysis and healthcare solutions businesses. On 12 August 1999 Hewlett-Packard entered into a Master Separation and Distribution Agreement with a subsidiary company, Agilent Technologies Inc ('Agilent'). On 1 November 1999 Hewlett-Packard transferred the assets and liabilities of its Measurement Organization to Agilent. 3 On 18 November 1999 Agilent launched an initial public offering (the 'IPO') of 15.9 per cent of its common stock. Prior to the IPO Hewlett-Packard owned the share capital in Agilent. Subsequent to the IPO Hewlett-Packard held approximately 84.1 per cent of Agilent's common stock. The net proceeds of the IPO were distributed to Hewlett-Packard. On 7 April 2000 Hewlett-Packard's board declared a stock dividend of substantially all of its shares in Agilent and some 380 million shares of Agilent common stock were distributed on 2 June 2000 to Hewlett-Packard shareholders. A shareholder in Hewlett-Packard was to receive 0.3814 Agilent shares for each Hewlett-Packard share that was held on 2 May 2000. At that date the respondent taxpayer held 3,483 shares in Hewlett-Packard and was therefore entitled to receive 1,327 shares in Agilent. It is agreed that those shares have a market value of $168,961.68. 4 Subsequent to the distribution of shares both the quarterly and consolidated accounts of Hewlett-Packard showed a US$4.2 billion reduction in retained earnings. The quarterly consolidated accounts for Hewlett-Packard and its subsidiaries for the period ended 31 July 2000, to which the Tribunal referred, contained the following note to "discontinued operations": 'On March 2, 1999, Hewlett-Packard Company (HP) announced its intention to launch a new company, subsequently named Agilent Technologies Inc (Agilent Technologies), through a distribution of Agilent Technologies common stock to HP's stockholders in the form of a tax-free spin-off. Agilent Technologies is composed of HP's former Measurement Systems Organization, which included the test-and-measurement, semiconductor products, chemical analysis and healthcare solutions businesses. Effective July 31, 1999, HP's management and Board of Directors completed the plan of disposition for Agilent Technologies. HP's consolidated condensed financial statements for all periods present Agilent Technologies as a discontinued business segment in accordance with Accounting Principles Board Opinion No 30. In November 1999, Agilent Technologies completed an initial public offering of approximately 16% of its common stock and distributed the net proceeds of approximately $2.1 billion to HP. HP provided initial funding in November 1999 to Agilent Technologies and retained certain assets and liabilities of Agilent Technologies as of November 1, 1999 which were subsequently liquidated. The aggregate impact of these transactions resulted in cash flows from discontinued operations of approximately $1.0 billion and an increase in additional paid-in capital of approximately $1.4 billion. HP distributed substantially all of its remaining interest in Agilent Technologies through a stock dividend to HP stockholders on June 2, 2000 resulting in the elimination of the net assets of discontinued operations and a $4.2 billion reduction of retained earnings. …" 5 Similar statements to those in the last two paragraphs set out above appear in the notes to the consolidated accounts forming part of the annual report of Hewlett-Packard and its subsidiaries for the year ended 31 October 2000, which was provided to the United States Securities and Exchange Commission. The earlier quarterly accounts, those at 30 April 2000, refer to the net funding provided by Hewlett-Packard to Agilent being $US1.1 billion. So far as concerns the increase in additional paid-in capital of approximately $1.4 billion, referred to in the notes to the quarterly accounts set out above, the Master Separation Agreement (section 3.2) stated that the net proceeds of the IPO would be distributed to Hewlett-Packard by means of dividend declared prior to the IPO. 6 The following is a summary of some of the entries appearing in the Consolidated Statement of Shareholder's Equity in the annual report: · The total shareholders equity reduces from $US18.2 billion to $US14.2 billion in the year; · 'Retained earnings' are reduced from $US18.2 billion to $14 billion; · A figure of $US4.2 billion is deducted from 'Retained Earnings' and is attributed to 'Initial Public Offering and spin-off of Agilent Technologies'; · The sum of $US1.3 billion is shown as received in 'Additional Paid-in Capital' from 'Initial Public Offering and spin-off of Agilent Technologies'; · Paid-in capital decreases by $US1 million. The explanation given is 'repurchase of common stock'; · A total of $US5.7 billion is reported as 'repurchase of common stock'. $US2.9 billion is recorded as deduction from retained earnings for this purpose. The balance put towards the repurchase, $US2.5 billion, is derived from three amounts of paid-in capital from different sources: $US1.3 billion (from the IPO and spin-off as earlier referred to); $US741 million (issued common stock); $US495 million (the benefit on employee stock options). There is a reference in the statement to the payment of $US638 million for 'dividends' from retained earnings but it is not suggested that it has any connection with the distribution in question. 7 The consolidated balance sheet for the year confirms that a purchase of common stock is the reason for the reduction of $US1 million in shareholders' equity and that $US4.2 billion has been taken from retained earnings. Net assets of discontinued operations of $US3.5 billion for 1999 have been removed. 8 A document in the bundle of documents which was before the Tribunal is entitled 'Taxation on Agilent Technologies dividends - September 2000'. It is not further identified but the parties have proceeded upon the basis that it is part of a memorandum of advice from Hewlett-Packard to its shareowners. It contains the statement that Hewlett-Packard Australia had obtained advice from accountants in relation to the Australian taxation treatment of the shares in Agilent that Australian tax residents had received on the spin-off. The Australian Taxation Office had confirmed that advice in the form of an opinion. This accords with the private ruling provided to the taxpayer in this case. The memorandum contained this reference, which was noted by the Tribunal: 'As stated in HP's quarterly accounts (refer to note 2) filed on 12 September 2000 with the Securities Exchange Commission, the distribution of the Agilent shares was against Hewlett-Packard's retained profits. This is the principal reason as to why the receipt of the Agilent shares was regarded by the ATO as a taxable dividend.' (emphasis added) 9 On 28 October 2003 the Commissioner issued a private ruling by which the taxpayer was advised that the shares in Agilent Technologies Inc were dividends and should be included in his assessable income in the amount of $168,961. The Commissioner issued a notice of amended assessment to the taxpayer for the year of income ended 30 June 2000 that included that amount. The respondent taxpayer objected to the amended assessment and that objection was disallowed by notice from the Commissioner dated 16 June 2004. The Commissioner now appeals from the Tribunal decision setting aside the Commissioner's decision on the objection.