Commissioner of Taxation v Consolidated Press Holdings Ltd

Commissioner of Taxation v Consolidated Press Holdings Ltd - [1999] FCA 1199 - FCA 1999 case summary — Zoe

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Federal Commissioner of Taxation v Spotless Services Ltd (1996) 186 CLR 404, followed AGC (Advances) Ltd v Federal Commissioner of Taxation (1975) 132 CLR 175, cited Esquire Nominees Ltd v Federal Commissioner of Taxation (1973) 129 CLR 177, distinguished Thiel v Federal Commissioner of Taxation (1990) 171 CLR 338, referred to Federal Commissioner of Taxation v Peabody (1994) 181 CLR 359, cited Inland Revenue Commissioners v Brebner [1967] 2 AC 18, cited Peabody v Federal Commissioner of Taxation (1993) 40 FCR 531, cited CIC Insurance Ltd v Bankstown Football Club Ltd (1997) 187 CLR 384, cited Cooper Brookes (Wollongong) Pty Ltd v Federal Commissioner of Taxation (1981) 147 CLR 297, cited Saraswati v The Queen (1991) 172 CLR 1, cited Investment and Merchant Finance Corporation Limited v Federal Commissioner of Taxation (1970) 120 CLR 177, discussed Investment and Merchant Finance Corporation Limited v Federal Commissioner of Taxation (1971) 125 CLR 249, cited Federal Commissioner of Taxation v Patcorp Investments Ltd (1976) 140 CLR 247, discussed Bell v Federal Commissioner of Taxation (1953) 87 CLR 548, cited Newton v Federal Commissioner of Taxation (1958) 98 CLR 1, cited Hancock v Federal Commissioner of Taxation (1961) 108 CLR 258, cited Federal Commissioner of Taxation v Ellers Motor Sales Pty Ltd (1972) 128 CLR 602, cited Rowdell Pty Ltd v Commissioner of Taxation (1963) 111 CLR 106, cited John v Federal Commissioner of Taxation (1989) 166 CLR 417, cited Slutzkin v Federal Commissioner of Taxation (1977) 140 CLR 314, cited Harrison v Federal Commissioner of Taxation (1977) 77 ATC 4144, cited Hennessey v Federal Commissioner of Taxation (1975) 10 SASR 353, cited Federal Commissioner of Taxation v Newton (1957) 96 CLR 577, cited K Porter & Co Pty Ltd v Federal Commissioner of Taxation (1977) 19 ALR 510, cited Federal Commissioner of Taxation v Students World (Australia) Pty Ltd (1978) 138 CLR 251, cited Woellner, Vella, Burns, Barkoczy and Krever, Australian Taxation Law (9th ed 1999) Vincent, "Dividend Stripping: stricto sensu or strictly senseless" (1989) 24 Taxation in Australia 82

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Factual Background in Outline 2 In April 1989, the Group initiated steps with a view to making a takeover bid for a United Kingdom company, BAT Industries Plc ("BAT"). The bid was to be made in conjunction with interests associated with Sir James Goldsmith and Mr Jacob Rothschild. It was anticipated that capital in the order of 250 million pounds sterling would be required. The relevant principals of the Group believed that the BAT takeover would yield substantial profits flowing from Consolidated Press International Ltd ("CPIL(UK)"). The expected profit was approximately one billion pounds sterling. 3 There were at that time two member companies of the Group which were incorporated in the United Kingdom, namely CPIL(UK) and Consolidated Press International Holdings Ltd ("CPIHL(UK)"). Their shares were entirely beneficially owned by CPH. Under the tax laws of the UK, each company was a UK non-resident, since its central management and control were outside the UK. Since neither company was a resident of the UK, it was not liable to pay UK tax on its world wide income. At the relevant times, the boards of directors of CPIL(UK) and CPIHL(UK) included Mr Kerry Packer and, as the primary judge put it, "various high profile individuals" resident in the UK, the United States and elsewhere. 4 It was necessary to arrange finance for the takeover. Mr D. Bourke, who was at that time the Financial Controller of ACP, had already obtained advice from Mr J. Cherry of Arthur Young, in August 1988, about the most advantageous means of channelling borrowings through to CPIL(UK) and CPIHL(UK). That advice had been received in connection with an unrelated refinancing proposal flowing from an earlier acquisition of the Valassis Group of companies which were American owned. The refinancing proposal had not proceeded. The same advice however was offered in relation to the funding of the BAT takeover and it was followed. 5 Central to that repeated advice, of which no record was kept, was the proposition that instead of funds borrowed by the Group being advanced directly to the company or companies which were to act as takeover vehicles, ACP should use the money to subscribe for shares in MLG. That company could in turn invest the funds raised by the issue of its shares to ACP in a new issue of redeemable preference shares by CPIL(UK). The latter company would then advance the funds to the takeover vehicle via some foreign structure. The "foreign structure" in this case was CP Investment (Singapore) Pte Ltd ("CPI(Sing)") which was incorporated in Singapore on 11 October 1988. This last element had to do with double tax treaties and interest withholding tax in the United Kingdom and not with Australian tax. The takeover vehicle was to be Hoylake Investments Ltd ("Hoylake"), a company incorporated in the Bahamas. 6 The advice from Arthur Young indicated, inter alia, that the suggested mix of borrowing and share subscription would obviate the effects of a proposed change to the law foreshadowed by the Australian Government with the issue of a consultative document on 25 May 1988. This proposed that, as from the 1989/90 tax year, the income of non-resident entities in which Australian residents had an interest should be taxed on an accruals basis, where the income was derived from low-tax countries. The consultative document contemplated that the use of indirect ownership rules by countries that enacted accruals legislation could entail the income of a particular foreign entity being subject to more than one country's tax legislation. In other words, the document contemplated the possibility of double taxation, although it was said that consideration would be given to the need for relief. 7 The steps taken by the Group in implementation of the advice with a view to the takeover of BAT, and their immediate sequelae, were as follows: 1. 28 April 1989 - ACP applied for and was allotted 600,000 redeemable preference shares at $1 each at a premium of $500 per share in the capital of MLG. The subscription price was $A300.6 million. 2. 2 May 1989 - Consolidated Press (Finance) Ltd ("CPF") lent ACP $A300.6 million to enable the share subscription to proceed. 3. 5 May 1989 - Westpac Banking Corporation advanced $US240 million to CPH. 4. 5 May 1989 - CPIL(UK) allotted 2,400,000 fully paid ordinary shares of $US100 each to MLG. This was funded from moneys advanced to CPH by Westpac. 5. 21 June 1989 - CPI(Sing) subscribed for 195 ordinary shares of GBP1 each in Hoylake at a premium paying GBP8,835,125 to Hoylake representing 32.5% of the Hoylake shares. The balance was held by interests associated with Goldsmith and Rothschild. 6. 10 July 1989 - MLG lent $US100 million interest free to CPIL(UK), equivalent to $A131,483,585.03. The funds came from the CPF US Dollar account with Westpac in the US and were treated as an advance by CPF to ACP to enable ACP to pay for the redeemable preference shares in MLG. 7. CPIL(UK) immediately lent the $US100 million to CPI(Sing) initially described as interest free. Nevertheless interest was charged at 15% pa until 6 October 1989 and thereafter at 16.25% pa. 8. 11 July 1989 - a formal bid was announced in a press release. 9. 28 November 1989 - the funds lent by MLG to CPIL(UK) were used to pay for one million redeemable preference shares of $US100 each in CPIL(UK), allotted to MLG on that day. 10. April 1990 - the California Department of Insurance refused approval for the sale of Farmers Group Inc, which was a condition of the Hoylake bid. 11. 20 April 1990 - MLG's tax return for the year ended 30 June 1989 proceeded on the basis that s 79D of the ITAA as it then stood, applied. 12. 23 April 1990 - the bid for BAT was withdrawn. 13. 5 June 1990 - Hoylake went into voluntary liquidation. 8 In seeking advice about the foreshadowed Australian legislation from Mr Cherry in December 1989, Mr C.K. Mackenzie on behalf of the Group, indicated that he was "not particularly interested in avoiding the attribution of income, as seems to be the basic thrust and purpose of the new accruals legislation". He was "more concerned with the possibility that the group could suffer double taxation and/or be taxed in foreign jurisdictions to the detriment of the franking credits available to the ultimate parent corporation". A draft of the legislation was available in January 1990. Mr Cherry's advice was to relocate the holding companies from the UK to a tax haven. 9 By way of background, it should also be noted that on 15 March 1988 the UK Chancellor had announced proposed changes to tax legislation affecting non-resident UK companies such as CPIL(UK) and CPIHL(UK). The text of the announcement, relevantly, was as follows: "-companies incorporated in the UK will be resident here for tax purposes. If these companies transfer their trade or business to non-resident companies, the existing rules to determine tax liability including that on capital gains will apply. -companies incorporated in the UK before today but not resident here under existing rules will become resident here only after five years from today unless central management and control of the company is transferred to the UK in the interim. …" The announcement therefore contemplated a five year period of grace, during which management and control of the company would be transferred to the UK. After that time, a company incorporated in the UK, whether or not resident under previous rules, would be taxed on world-wide income. 10 On 22 March 1990, a meeting of directors of CPIL(UK) and CPIHL(UK) resolved to recommend to members that each company be placed in voluntary liquidation and that an extraordinary general meeting of members be called on 11 April 1990 to that end. The directors of each company also resolved to declare dividends payable to members on 8 May 1990 in relation to both ordinary and redeemable preference shares. The totals of the dividends declared payable by the directors of CPIL(UK) and CPIHL(UK) were $US100,000,000 and $US53,000,000 respectively. The stated aim of the final holding structure set out in the papers from the Directors' meeting was "…to ensure that the passive income referred to earlier is attributed to Australia as thereby franked dividends may be paid to the shareholders, ie dividends which will be tax free in the shareholders' hands". (emphasis in original) Replacement of the UK companies with entities based in the Bahamas or Bermuda would ensure that the passive income flowed tax free to Australia and that there was no possibility of double taxation. The term "passive income" is defined in s 446 of the ITAA and includes income by way of dividend. 11 In the event, the new holding structure was located in the Bahamas. Companies were incorporated there on 5 April 1990 under the names Consolidated Press International Holdings Ltd ("CPIHL(B)") and Consolidated Press International Ltd ("CPIL(B)"). On 12 April 1990, MLG and CPH agreed to sell some of their holdings in CPIL(UK) and CPIHL(UK) to CPIL(B). The consideration for the transfer of those holdings was to be by way of ordinary A class shares of $US1 in the capital of CPIL(B), in accordance with a valuation prepared by Ernst & Young. On this basis, a meeting of a committee of directors of CPIL(B) on 27 April 1990 determined that 452,346,000 shares would issue to CPH and 118,287,000 to MLG. No transfers to give effect to the agreements were ever registered in a Register of Members of either CPIL(UK) or CPIHL(UK), nor did the directors of either company approve any transfer or resolve to direct registration. 12 A further agreement for the sale by MLG of shares in CPIL(UK) to CPIL(B) was made on 7 May 1990. The number of shares was 2,400,000 fully paid at $US100 each. The consideration was 262,338,319 shares of $US1 each in CPIL(B), based on an Ernst & Young valuation of the same date. The separation of the sale of these shares from those the subject of the agreement of 12 April related to the timing of their acquisition and the incidence of Australian capital gains tax in relation to them. 13 On 31 March 1990, an entry was made in the general ledger of CPIL(UK), debiting the $US100,000,000 payable by that company on 8 May 1990. A similar entry was made in the general ledger of CPIHL(UK) on 20 April 1990 in respect of the $US53,000,000 payable by it on 8 May 1990. 14 On 16 May 1990, the two United Kingdom companies resolved to go into voluntary liquidation and liquidators were appointed on that day. The members of each company also resolved to authorise the liquidators to distribute the whole or any part of their assets to the members in specie. On the same day, each of CPH and MLG by its duly authorised attorney, authorised and directed the liquidators of CPIL(UK) and CPIHL(UK) to pay direct to CPIL(B): "(a) any payments consequent upon the crediting of dividends declared by the Company on 8th May, 1990; and (b) any distributions to members of the Company in the course of the winding up of the Company in respect of shares presently registered in the register of members in our name, direct to [CPIL(B)] in place of any payment or distribution to us." The direction may have been thought necessary because CPIL(B) at this time had not yet become registered as a member of either CPIL(UK) or CPIHL(UK). 15 On 17 May 1990, the liquidators of CPIHL(UK) assigned to CPIL(B) the first $US53,000,000 of a debt of $US84,220,334.05 due to CPIHL(UK) by Conpress (Singapore) Pte Ltd. This was expressed to be in full and final satisfaction of the liability of CPIHL(UK) to pay CPIL(B) the sum of $US53,000,000 by reason of the declaration of dividend payable on 8 May 1990. Similarly, on the same day, the liquidators of CPIL(UK) assigned to CPIL(B) the first $US106,751,299.80 of a debt due to CPIL(UK) from CPI(Sing). This was expressed to be, as to part, a payment by CPIL(B) on behalf of CPIL(UK) of the $US100 million dividend payable on 8 May 1990. 16 On 8 June 1990, the liquidators of CPIHL(UK) and CPIL(B) agreed that the liquidators would distribute in specie to CPIL(B) the balance of CPIHL(UK)'s assets. The assets of CPIHL(UK) identified in the agreement were certain shares held by the company and debts due to it by CPI(Sing) and another company. By a deed of assignment executed the same day, CPIHL(UK), by its liquidators, assigned the debts (totalling $US183,334,200.02) to CPIL(B). 17 CPH, in its income tax return lodged for the year of income ended 30 June 1990, returned a net assessable capital gain in relation to the sale of shares in CPIL(UK) and CPIHL(UK) as follows: (i) Sale of shares in CPIHL(UK) $A12,737,013 (ii) Sale of shares in CPIL(UK) ( 1,225,608) $A11,511,405 18 MLG, in its income tax return lodged for the year of income ended 30 June 1990, returnable assessable capital gains in relation to the sale of shares in CPIL(UK) as follows: (i) Sale of shares in CPIL(UK) on 12 April 90 $A22,696,550 (ii) Sale of shares in CPIL(UK) on 7 May 90 17,436,403 $A40,132,953 19 Assessments of income tax issued variously to CPH, MLG and ACP for the years of income ended 30 June 1990 and 30 June 1991 and are the subject of these proceedings. The assessment for the year ended 30 June 1990, which issued to CPH on 21 December 1994, adjusted the net loss of $52,742,535 set out in its income tax return to a taxable income of $83,423,359. The adjustment was effected by deeming dividends to have been received from CPIL(UK) and CPIHL(UK). On 21 December 1994, the delegate of the Commissioner made a determination for the purposes of s 177F(1) of the ITAA in respect of CPH. The Commissioner determined that CPH, in the year of income ended 30 June 1990, had obtained, or would but for the operation of s 177F have obtained, a tax benefit of two amounts, namely $69,681,830 and $49,726,875, being amounts which would not otherwise have been included in CPH's assessable income. 20 Although the determination did not say so, the sum of $69,681,830 was the Australian dollar equivalent of the dividend of $US53,000,000 declared by CPIHL(UK) on 22 March 1990. The sum of $49,726,875 was the Australian dollar equivalent of that portion of the dividend of $US100,000,000 declared by CPIL(UK) on 22 March 1990 attributed by the Commissioner to CPH. 21 An objection to the CPH assessment was disallowed on 21 December 1995. That objection decision was the subject of appeal number NG 76 of 1996. The appeal was allowed by Hill J, who made an order setting aside the decision. His Honour's judgment on that assessment is the subject of appeal NG 1172 of 1998 by the Commissioner of Taxation to this Court. 22 The Commissioner's delegate also issued a determination on 21 December 1994 in respect of MLG for the year of income ended 30 June 1990. This was in substantially the same terms as the determination for CPH, except that the tax benefit was said to be $81,748,275. This amount was the Australian dollar equivalent of that portion of the dividend of $US100,000,000 declared by CPIL(UK) attributed by the Commissioner to MLG. 23 On the same day, an assessment issued to MLG adjusting its taxable income of "Nil", as set out in its income tax return for the year ended 30 June 1990 to $94,434,357. The adjustment was based in part upon deemed dividends received from CPIL(UK). These elements of the adjustment were made pursuant to determinations by an Assistant Commissioner of Taxation that the amounts represented tax benefits which had been obtained or would, but for the operation of s 177F be obtained in connection with a scheme to which Part IVA of the Act applied. Again, the scheme relied upon what was said to be a dividend stripping scheme pursuant to s 177E. 24 The assessment so issued was the subject of objection, disallowance and appeal to Hill J by MLG. On 14 October 1998, in proceedings NG 72 of 1996, Hill J allowed the appeal and set aside the objection decision. His Honour's judgment is the subject of appeal number NG 1173 of 1998 by the Commissioner to this Court. 25 On 21 December 1994, the Commissioner also issued assessments to ACP (now CPH Property Pty Ltd) for the years ended 30 June 1989 and 30 June 1991. The assessment for the year ended 30 June 1989 added back to the previously determined taxable income a deduction of $9,882,740 for interest quarantined. This was set off by a deduction in the same amount of "Section 80G losses transferred from Consolidated Press (Finance) Ltd". The adjustment was supported by a determination that the interest sum represented a tax benefit that had been obtained or would, but for s 177F of the ITAA, be obtained in connection with a scheme to which Part IVA of the ITAA applied. Additional tax of $3,815.51 was raised in respect of the allegedly incorrect return. 26 The relevant assessment for the year ended 30 June 1991 issued as an amended assessment and, on the same basis as the 1989 return, disallowed a deduction of $24,435,073 for interest quarantined. This was offset by deductions allowed in the same amount so that the adjusted taxable income was $80,731,384, only $10,000 more than the previously adjusted taxable income. 27 These two assessments were objected to and both of the objections were disallowed. By appeals NG 68 and 66 of 1996, Hill J allowed the applications and set aside the objection decisions. These decisions by his Honour are the subject of appeals NG 1174 and 1175 of 1998 brought by the Commissioner to this Court.

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Statutory Framework 28 There are two principal elements to these appeals, the first of which involves the construction of s 79D of the ITAA and, related to that, the operation of Part IVA. The second concerns the specific provisions of s 177E of the ITAA in relation to dividend stripping. 29 It is convenient first to set out the relevant provisions of Part IVA including s 177E, and then to refer to s 79D. The provisions of Part IVA set out are those in force at the relevant times. 30 Part IVA is entitled "Schemes to Reduce Income Tax". It was inserted into the ITAA in 1981. It confers upon the Commissioner, by virtue of s 177F, a discretion to cancel a tax benefit obtained by a taxpayer in connection with a scheme to which Part IVA applies. 31 The word "scheme" is defined in s 177A: "177A(1) In this Part, unless the contrary intention appears: "scheme" means: (a) any agreement, arrangement, understanding, promise or undertaking, whether express or implied and whether or not enforceable, or intended to be enforceable, by legal proceedings; and (b) any scheme, plan, proposal, action, course of action or course of conduct;" The definition is elaborated relevantly in two subsections: "177A(3) The reference in the definition of "scheme" in subsection (1) to a scheme, plan, proposal, action, course of action or course of conduct shall be read as including a reference to a unilateral scheme, plan, proposal, action, course of action or course of conduct, as the case may be. . . . 177A(5) A reference in this Part to a scheme or a part of a scheme being entered into or carried out by a person for a particular purpose shall be read as including a reference to the scheme or the part of the scheme being entered into or carried out by the person for 2 or more purposes of which that particular purpose is the dominant purpose." Provisions relevant to the operation of Part IVA are contained in s 177B, but none of those is in issue for present purposes. 32 Section 177D defines the schemes to which Part IVA applies and is in the following terms: "177D This Part applies to any scheme that has been or is entered into after 27 May 1981, and to any scheme that has been or is carried out or commenced to be carried out after that date (other than a scheme that was entered into on or before that date), whether the scheme has been or is entered into or carried out in Australia or outside Australia or partly in Australia and partly outside Australia, where - (a) a taxpayer (in this section referred to as the "relevant taxpayer") has obtained, or would but for section 177F obtain, a tax benefit in connection with the scheme; and (b) having regard to - (i) the manner in which the scheme was entered into or carried out; (ii) the form and substance of the scheme; (iii) the time at which the scheme was entered into and the length of the period during which the scheme was carried out; (iv) the result in relation to the operation of this Act that, but for this Part, would be achieved by the scheme; (v) any change in the financial position of the relevant taxpayer that has resulted, will result, or may reasonably be expected to result, from the scheme; (vi) any change in the financial position of any person who has, or has had, any connection (whether of a business, family or other nature) with the relevant taxpayer, being a change that has resulted, will result or may reasonably be expected to result, from the scheme; (vii) any other consequence for the relevant taxpayer, or for any person referred to in subparagraph (vi), of the scheme having been entered into or carried out; and (viii) the nature of any connection (whether of a business, family or other nature) between the relevant taxpayer and any person referred to in subparagraph (vi), it would be concluded that the person, or one of the persons, who entered into or carried out the scheme or any part of the scheme did so for the purpose of enabling the relevant taxpayer to obtain a tax benefit in connection with the scheme or of enabling the relevant taxpayer and another taxpayer or other taxpayers each to obtain a tax benefit in connection with the scheme (whether or not that person who entered into or carried out the scheme or any part of the scheme is the relevant taxpayer or is the other taxpayer or one of the other taxpayers)." The concept of "tax benefit" is explained in s 177C which, in the relevant parts, provides: "177C(1) Subject to this section, a reference in this Part to the obtaining by a taxpayer of a tax benefit in connection with a scheme shall be read as a reference to - (a) an amount not being included in the assessable income of the taxpayer of a year of income where that amount would have been included, or might reasonably be expected to have been included, in the assessable income of the taxpayer of that year of income if the scheme had not been entered into or carried out; or (b) a deduction being allowable to the taxpayer in relation to a year of income where the whole or a part of that deduction would not have been allowable, or might reasonably be expected not to have been allowable, to the taxpayer in relation to that year of income if the scheme had not been entered into or carried out; and, for the purposes of this Part, the amount of the tax benefit shall be taken to be - (c) in a case to which paragraph (a) applies - the amount referred to in that paragraph; and (d) in a case to which paragraph (b) applies - the amount of the whole of the deduction or of the part of the deduction, as the case may be, referred to in that paragraph." Subsections (2) and (3) are not relevant for present purposes. 33 The special case of dividend stripping is covered in s 177E, which is headed "Stripping of Company Profits", and is and was at all relevant times in the following terms: "177E(1) Where - (a) as a result of a scheme that is, in relation to a company - (i) a scheme by way of or in the nature of dividend stripping; or (ii) a scheme having substantially the effect of a scheme by way of or in the nature of a dividend stripping, any property of the company is disposed of; (b) in the opinion of the Commissioner, the disposal of that property represents, in whole or in part, a distribution (whether to a shareholder or another person) of profits of the company (whether of the accounting period in which the disposal occurred or of any earlier or later accounting period); (c) if, immediately before the scheme was entered into, the company had paid a dividend out of profits of an amount equal to the amount determined by the Commissioner to be the amount of profits the distribution of which is, in his opinion, represented by the disposal of the property referred to in paragraph (a), an amount (in this subsection referred to as the "notional amount") would have been included, or might reasonably be expected to have been included, by reason of the payment of that dividend, in the assessable income of a taxpayer of a year of income; and (d) the scheme has been or is entered into after 27 May 1981, whether in Australia or outside Australia, the following provisions have effect: (e) the scheme shall be taken to be a scheme to which this Part applies; (f) for the purposes of section 177F, the taxpayer shall be taken to have obtained a tax benefit in connection with the scheme that is referable to the notional amount not being included in the assessable income of the taxpayer of the year of income; and (g) the amount of that tax benefit shall be taken to be the notional amount. 177E(2) Without limiting the generality of subsection (1), a reference in that subsection to the disposal of property of a company shall be read as including a reference to - (a) the payment of a dividend by the company; (b) the making of a loan by the company (whether or not it is intended or likely that the loan will be repaid); (c) a bailment of property by the company; and (d) any transaction having the effect, directly or indirectly, of diminishing the value of any property of the company. 177E(3) In this section, "property" includes a chose in action and also includes any estate, interest, right or power, whether at law or in equity, in or over property." The key expression "dividend stripping" is not defined. 34 The operative provision of Part IVA allowing for cancellation of tax benefits is to be found in s 177F. For present purposes it is only necessary to set out s 177F(1): "177F(1) Where a tax benefit has been obtained, or would but for this section be obtained, by a taxpayer in connection with a scheme to which this Part applies, the Commissioner may - (a) in the case of a tax benefit that is referable to an amount not being included in the assessable income of the taxpayer of a year of income - determine that the whole or a part of that amount shall be included in the assessable income of the taxpayer of that year of income; or (b) in the case of a tax benefit that is referable to a deduction or a part of a deduction being allowable to the taxpayer in relation to a year of income - determine that the whole or a part of the deduction or of the part of the deduction, as the case may be, shall not be allowable to the taxpayer in relation to that year of income; and, where the Commissioner makes such a determination, he shall take such action as he considers necessary to give effect to that determination." 35 Section 79D of the ITAA was enacted in 1988 to cure a deficiency in the legislation relating to limitations on deductions which were connected with the derivation of foreign income. Prior to its enactment the general provisions of s 51(1) dealing with deduction of business expenses in relation to deductions connected to foreign source income were affected by s 51(6). In effect, s 51(6) quarantined deductions connected to the derivation of foreign source income in the year of income. As the learned trial judge explained it, there were two perceived deficiencies in s 51(6) which led to the enactment of s 79D. It quarantined only deductions under s 51(1) and not under other provisions of the ITAA. Further, it did not deal with cases where there were foreign losses. His Honour said: "These related defects were cured by ensuring that s 79D operated to extend the quarantining to "any deductions allowed or allowable" provided that they related to the relevant class of foreign income." The terms of s 79D relevant to the years of income ended 30 June 1989 and 1990 were as follows: "(1) Where the amount of a class of income derived by a taxpayer in a year of income from a foreign source is exceeded by the sum of: (a) any deductions allowed or allowable from the assessable income of the taxpayer of the year of income that relate exclusively to income of that class derived from that source; and (b) so much of any other deductions allowed or allowable from that assessable income (other than apportionable deductions) as, in the opinion of the Commissioner, may appropriately be related to income of that class derived from that source; the deductions to which paragraphs (a) and (b) apply shall be reduced respectively by amounts proportionate to those deductions and equal in total to the amount of the excess. (2) In subsection (1) "class of income" and "foreign source" have the same meanings as in section 160AFD."

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Section 79D and Part IVA 37 The Commissioner contended before the learned trial judge that, in relation to ACP, there were two schemes to which the provisions of Part IVA of the ITAA applied. Each scheme was said to have begun with ACP's application for shares in MLG, and in the case of the CPIL(UK) scheme, to have ended with the allotment of shares in that company to MLG and, in the case of the CPIHL(UK) scheme, the allotment of shares by that company to MLG. A relevant tax benefit is said to have been obtained by ACP, being deductions in the year of income for interest payable on its loan from CPF available to be applied against its assessable income in circumstances where, but for the schemes, the interest would not have been deductible because it would have been precluded from deduction by virtue of the provisions of s 79D of the ITAA. In his reasons for judgment, his Honour erroneously referred to the claimed tax benefit on this aspect of the case as having been obtained by CPH and MLG. 38 The Commissioner's contention about the application of Part IVA of the ITAA to ACP failed before his Honour at the threshold because his Honour held that the relevant interest would not have been precluded from deduction by virtue of the provisions of s 79D. Section 79D would operate when there was "an amount" of a "class of income" derived having a foreign source. Where there was no such income there was no "amount" derived and s 79D did not operate to quarantine foreign income deductions from deductibility against Australian source income. In this case there had been no dividend income from CPIL(UK) to MLG. So it could be assumed that, absent the scheme, there would have been no foreign source income to ACP. As a result it was not necessary to consider the other arguments in relation to s 79D and Part IVA raised by the respondents. His Honour however rejected a submission by ACP that, absent the scheme, it could be assumed that any dividend income derived by ACP would have been treated as Australian source income for ordinary Australian income tax purposes and would not have been from a foreign source in the defined sense. 39 Although it was not necessary for his Honour to consider the application of Part IVA, he said that, having regard to the likelihood of an appeal, it was desirable for him to indicate his views on the balance of the argument. He did so on the assumption that he had been wrong in his construction of s 79D. His Honour took as his point of departure the requirement for a "scheme", as that expression is defined in s 177A(1) of the ITAA. On any view of the matter, that requirement was satisfied. The acquisition by ACP of redeemable preference shares in MLG and the acquisition by MLG of redeemable preference shares in CPIL(UK) was a scheme. So was the like sequence ending with the acquisition of redeemable preference shares in CPIHL(UK). 40 The second element involved the obtaining of a "tax benefit" as defined in s 177C of the ITAA. That element was satisfied by his Honour's assumption, contrary to his primary finding, that s 79D would, absent the scheme, have prevented interest payable by ACP from being classed as a deduction from its taxable income. 41 The third element was that the purpose of one or more of the people who entered the scheme was to enable a taxpayer to obtain a tax benefit in connection with the scheme. This was to be a conclusion about dominant purpose, based upon objective facts: Federal Commissioner of Taxation v Spotless Services Ltd (1996) 186 CLR 404. His Honour identified two purposes of the scheme: 1. The obtaining of a deduction under s 79D; and 2. The adoption of a structure which would not detract from tax credit relief. The latter was not at the relevant time a "tax benefit" within the definition in s 177C. His Honour concluded, however, that the dominant purpose of the scheme's advisers in particular was to bring about the result that a deduction would be allowed to the applicants which, but for the scheme, would have been disallowed to them because of the application of s 79D. The interest deduction was more immediate than the adoption of a neutral structure for non-interference with tax credits. It follows that, but for his Honour's conclusion as to the construction of s 79D, the Commissioner would have succeeded on the Part IVA question.

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Section 177E and Dividend Stripping Schemes 42 In relation to CPH and MLG, the Commissioner contended before his Honour that s 177E of Part IVA, relating to dividend stripping schemes, applied to the transfer to CPIL(B) of the shares held by each of these companies in CPIL(UK) and CPIHL(UK), the subsequent liquidation of those companies, the sequence of loans, the payment of dividends and liquidation distributions. Alternatively, if s 177E were not applicable, the ordinary provisions of Part IVA could be invoked so as to include an amount in the assessable income of MLG and CPH. 43 His Honour identified the elements necessary to attract the application of s 177E. The section required the existence of a scheme, as to which his Honour held that the steps identified by the Commissioner constituted a scheme as defined in s 177A(1). The scheme had to be by way of or in the nature of dividend stripping or to have had substantially the effect of such a scheme. It had to result in the disposal of property. The Commissioner had to be able to form the opinion under s 177E(1)(b) that relevant disposal represented in whole or part a distribution of profits of the company. The hypothesis in s 177E(1)(c) had to be satisfied, namely that if before the scheme had been entered into a dividend had been paid out of profits to the extent the Commissioner determined were treated as having been distributed, it could reasonably have been expected that amounts would have been included in the assessable income of the taxpayer in a year of income. 44 His Honour identified the essential character of a dividend stripping scheme as one involving a company pregnant with accumulated profits, out of which a dividend would reasonably be likely to be declared or which had already been declared or where the company was about to receive profits in the future out of which a dividend would reasonably be likely to be declared. It involved the setting up of that company for sale by conversion of its assets to cash or the purchase back of operating assets so that its substantial assets became cash or loans back. It involved the sale or allotment of shares in the target company to the stripper and the subsequent payment of a dividend to the stripper by the target company or a deemed dividend to recoup the stripper for the outlay of the shares. The fact that the consideration for the sale of shares was not cash but an allotment of shares did not necessarily exclude the scheme from being a scheme in the nature of dividend stripping. 45 In his Honour's view, however, an objective examination of what had taken place in this case did not lead to the conclusion that there was a dividend stripping scheme or, for that matter, a scheme in the nature of dividend stripping if that were a significantly different thing. The United Kingdom companies had substantial investments in overseas companies from which dividends could be derived. They had no need to distribute accumulated profits. The accumulated profits could have sat there for ever. The sale of shares and subsequent liquidations were not brought about to enable the shareholders to receive capital instead of dividend distributions (although that was a consequence of what happened). They occurred as part of a reorganisation of the United Kingdom companies for reasons which had to do with United Kingdom and Australian tax, rather than obtaining dividends derived from the accumulated profits. 46 His Honour then considered whether the scheme was one "having substantially the effect of a scheme by way of or in the nature of a dividend stripping", within subpar 177E(1)(a)(ii) of the ITAA. This required a focus away from the essential character and nature of the scheme to a focus on effect. In his Honour's view, the relevant "effect" was to be judged by reference to the vendor of the shares in the target company and the target company itself. The scheme in respect of CPIHL(UK) only, was capable of being seen as one having the effect of a dividend stripping scheme such as to make s 177E applicable, but subject to the other matters with which that section is concerned. 47 CPIHL(UK) had substantial accumulated profits and current year profits. (Its audited accounts at 30 June 1989 showed accumulated profits of $US86,825,000 and, in the succeeding three months, it had an operating profit after tax of $US17,557,000.) The result of the scheme, in the case of CPIHL(UK), was that the shareholders received capital for their shares in an amount which included the accumulated profits and the purchaser received a distribution in specie. The scheme was capable of having the effect of a dividend stripping scheme, such as to make s 177E applicable. 48 The position was different with respect to CPIL(UK). As at 30 June 1989, it had accumulated losses of $US69,449,000. It had derived net profits of $US65,147,000 during the period 1 July 1989 to 31 December 1989. His Honour said this of the scheme in relation to CPIL(UK): "it is difficult having regard to the fact that it had a negative balance in its accumulated profits account, although a current year profit, to see that the effect of any scheme was one of dividend stripping. By the time the scheme was undertaken no further profits were to be earned, and the current year's profit could be offset by prior years' losses." His Honour considered that there had been a disposal of property of the United Kingdom companies. Even if no dividends had been paid, the distributions in specie of assets in the liquidation clearly enough were disposals. Those disposals resulted from the scheme. 49 CPH and MLG had argued that the purported declarations of dividends by the United Kingdom companies were void because the articles of association of each company permitted the directors only to pay an interim dividend. This was advanced in support of an argument that no dividends had ever been paid and that, therefore, there had been no disposal of the property of the United Kingdom companies. His Honour did not think it mattered to the outcome of the appeals to reach a conclusion on the point. If the resolution were invalid then the distributions of assets were distributions by the company in liquidation. In either case, the result of the scheme in respect of CPIHL(UK) was dividend stripping. In the case of that company, there had also been a disposal resulting from the scheme. 50 Paragraph 177E(1)(b) of the ITAA requires that the Commissioner form an opinion under s 177E that the relevant disposal represented in whole or in part a distribution of profits of the target company. ACP and MLG submitted that the formation of the Commissioner's opinion was vitiated in law and for that reason, whether or not there had been a dividend stripping, the provisions of Part IVA had no operation. The Commissioner had determined that the net assets of both companies represented profits available for distribution. 51 His Honour took the view that the Commissioner had conceded that CPIL(UK) did not, on any view of the matter, have profits sufficient to support treating any disposal of assets as representing a distribution of profits. (In this Court the Commissioner contends that his Honour was in error and that no concession was in fact made.) His Honour observed that the Commissioner was only able to reach the result he did by pooling the assets of the two companies when clearly he had to consider each separately for the purposes of s 177E(1)(b). He described the Commissioner's approach as an "arbitrary course". The Commissioner had never turned his mind to the amount of profits that had existed in each company, let alone how much was represented by the relevant disposal. His Honour concluded that, for these reasons, the discretion of the Commissioner under s 177E(1)(b) had miscarried. Since Part IVA could not apply unless the Commissioner had formed the relevant opinion, the assessments, so far as they were dependent upon s 177E, had to be set aside. 52 His Honour then turned to the Commissioner's submission that if he failed to succeed under s 177E he could support the assessment under s 177D relying upon the general provisions of Part IVA. His Honour could not see how, without the aid of s 177E, it could properly be said that there was a tax benefit to the applicants as defined in s 177C. There was no inevitability about the distribution of taxable dividends in relation to the year of income in question if the sale of the shares had not been entered into. 53 The Commissioner's exercise of discretion under s 177F was dependent upon treating the transaction as one falling within s 177E. He had not applied his mind to the matters in s 177F by reference to Part IVA without the application of s 177E. His Honour accepted that this might not be fatal since Part IVA could apply without the exercise of discretion. In any event, it appears from his judgment that he disposed of this issue on the basis of the absence of any tax benefit to the applicants.

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The Appeal Grounds 54 The question of the proper construction of s 79D of the ITAA arose, as noted, in relation to the assessments issued against ACP for the years of income 1988-1989 and 1990-1991 (appeals NG 1174 and 1175 of 1998). The Commissioner's grounds of appeal in each case were generally similar. It is not necessary to set them out in full but at their core was the proposition that the learned trial judge erred in holding that s 79D of the ITAA as in force in each of the 1988-1989 and 1989-1990 income years had no application where, in the year of income, no foreign source income was derived. It was also a ground that the learned trial judge erred in failing to hold that the dominant purpose of a participant in the scheme as found by him, namely to bring about the result that a deduction would be allowed to ACP which, but for the scheme, would have been disallowed because of the application of s 79D, was not a purpose of enabling ACP to obtain a tax benefit in connection with the scheme. 55 In respect of each of the appeals affecting ACP, ACP filed a notice of contention asserting that his Honour erred in deciding that: "(a) any hypothetical dividends paid on the shares in Consolidated Press International Limited (UK) would have been "income from a foreign source" for the purpose of Section 79D of the Income Tax Assessment Act 1936 ("the Act"); (b) it was a consequence of the decision of the High Court in Federal Commissioner of Taxation v Spotless Services Limited (1996) 186 CLR 404 that the Appellant could artificially dissect part of a scheme from the totality of the scheme adopted and, in particular, in the fashion in which he did; (c) a conclusion could be drawn that the dominant purpose of some person (not particularised as a party to that scheme) was to bring about the result that a deduction would be allowed which, but for the scheme, would have been disallowed because of the application of section 79D; and (d) such a conclusion would be drawn." 56 In the appeal relating to the assessment issued to CPH for the year of income 1989-1990 (NG 1172 of 1998) and the assessment issued to MLG for the same year (NG 1173 of 1998), the appeal grounds focussed on the question of his Honour's findings relating to the dividend stripping scheme. The grounds of appeal attacked his Honour's failure to find schemes in relation to both CPIL(UK) and CPIHL(UK) that were schemes by way of or in the nature of dividend stripping within the meaning of s 177E(1)(a) and failing to find a scheme in relation to CPIL(UK) that was a scheme having substantially the effect of such a scheme. His Honour was said to have erred in failing to hold that the property of CPIL(UK), namely the sum of $US100 million, was disposed of as a result of the scheme that was, in relation to CPIL(UK), a scheme by way of or in the nature of dividend stripping or having substantially the effect of a scheme by way of or in the nature of dividend stripping within the meaning of s 177E(1)(a). Aspects of his Honour's reasoning leading to his conclusion in that respect were also attacked in separate grounds of appeal which it is not necessary to set out here. 57 In relation to the validity of the declarations of the dividends, it was said that his Honour erred in failing to hold that, if the declarations of dividends by the directors of CPIL(UK) were beyond power, the shareholder companies by their conduct had ratified the declarations. His Honour was also said to have erred in failing to find that the Commissioner had formed the opinion that the disposal of $US100 million of the property of CPIL(UK) represented in whole or in part a distribution of profits of the company. It was also claimed that his Honour erred in failing to hold that the Court should reach its own conclusion as to whether the Commissioner ought to have formed the opinion that the disposal of the property represented a distribution of profits of CPIL(UK). Linked to that ground is the contention that his Honour erred in failing to hold that the Commissioner ought to have been of the opinion that the disposal of $US100 million represented in whole or in part a distribution of profits of the company.

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Nature of the Findings Reviewed 58 His Honour's decisions in relation to the ACP appeals turned upon the threshold proposition that s 79D would not have operated to prevent ACP's interest payments from being treated as deductions. This was a proposition of law which, applied to the facts found to that point by his Honour, negatived an essential element of the Part IVA scheme posited by the Commissioner. 59 His Honour then proceeded to consider the application of Part IVA on the assumption that he was wrong about the construction of s 79D. That consideration involved additional findings of law and fact, the meaning of the relevant provisions of Part IVA and their application to facts as found. Although his Honour foreshadowed this part of his reasoning with the words "…it is desirable that I indicate my views on the balance of the argument" his findings of fact were not hypothetical. In this respect, it should also be noted that in his finding under s 177D about the purpose of persons participating in the scheme, his Honour began with the words: "With some doubt I am of the view that a conclusion would be drawn…" 60 The statement of doubt is not a statement that the finding is provisional or hypothetical. A finding on the balance of probabilities sufficient to establish liability in civil proceedings may nevertheless be attended by doubt. It may and, in this case was, nevertheless a definitive finding. The use of the words "that a conclusion would be drawn…." again does not reflect any disinclination on the part of his Honour to make the relevant finding. The words of s 177D(b) require a finding as to whether "it would be concluded that the person, or one of the persons, who entered into or carried out the scheme…did so for the [relevant purpose]…" His Honour's views of the law and his findings of additional facts provided a basis for the conclusion that, if his Honour were wrong on s 79D, then Part IVA did apply to the scheme in which ACP was participating. His findings of law were not obiter, nor were his findings of fact hypothetical or provisional. In disposing of the appeal so far as it relates to these issues, the Court is required to consider his Honour's findings in that light. In particular, his findings of fact had no less weight in relation to the general Part IVA issue than the findings of fact supporting his conclusions about the outcome of the s 79D aspect of the case. The Construction of Section 79D 61 The Commissioner's submissions on the s 79D/Part IVA scheme in relation to ACP began by identifying as the issue for the 1989 year, the question whether, by reason of Part IVA, interest incurred by ACP on the loan from CPF was an allowable deduction. For the 1991 year ACP had returned, inter alia, a loss carried forward from the year ended 30 June 1990. The issue for that year of income was therefore whether by reason of Part IVA the amounts of interest incurred by ACP in the 1990 and 1991 years were allowable deductions. The Commissioner contended that in each of the 1989, 1990 and 1991 years there was a scheme within the meaning of s 177A of the ITAA, and that by virtue of the scheme a deduction in respect of the interest incurred on the loans from CPF was allowable to ACP under s 51(1) of the ITAA in circumstances where, by reason of s 79D of the ITAA, it might reasonably be expected that, had the scheme not been entered into, the deduction would not have been allowable. 62 A diagram of the relevant sequence of transactions is attached to these reasons. The scheme for which the Commissioner contended is represented by that part of the diagram comprising ACP, MLG and CPIL(UK). Central to the scheme was the interposition of MLG and the use of funds borrowed by CPF to subscribe for redeemable preference shares in MLG which in turn subscribed for shares in CPIL(UK). Absent the scheme thus described it could, on the Commissioner's view, reasonably have been expected that ACP would have subscribed directly for the shares in CPIL(UK) using loans from CPF for that purpose. In that event, it is said that s 79D would have operated to prevent interest payments by ACP to CPF from being claimed as deductions against income earned in Australia. They could only have been claimed against the class of income, derived from a foreign source, to which they related. 63 The scheme, by interposing the subscription from ACP for redeemable preference shares in MLG, sought to break the relationship between interest paid on the CPF loans and potential foreign source income by way of dividend payments on the shares from CPIL(UK). The introduction of the MLG transaction could only, however, yield a tax benefit if otherwise s 79D would have operated to quarantine the deductibility of ACP's interest payments so that such deductibility could only be asserted against the related foreign source income. Absent the interposition of MLG, ACP would not have derived assessable foreign source income in the year of income 1989/1990 from the direct acquisition of the CPIL(UK) shares. The anticipated dividend flow from those shares did not materialise because the BAT acquisition, which was to be the source of dividend income, did not proceed. The existence of a tax benefit in the year of income 1989/1990 therefore depends upon whether s 79D, as it stood, operated to "quarantine" the deductibility of outgoings related to income from a foreign source where the amount of that income was nil. This aspect of the case reduces to a question of construction. 64 Turning first to the words of s 79D as it stood in the 1989/1990 year of income, the factual situations to which it applied were required to have the following elements: (i) an amount of a class of income derived by a taxpayer in a year of income from a foreign source; (ii) deductions relating exclusively to income of that class derived from that source; (iii) other deductions that, in the opinion of the Commissioner, might appropriately be related to income of that class derived from that source; and (iv) an excess of the sum of the deductions over the amount of the class of income referred to. 65 The words "amount of a class of income derived by a taxpayer in a year of income from a foreign source" are susceptible of the construction that they refer only to a non-zero amount of income. His Honour placed reliance upon the requirement that there be an "amount derived". It was, in his view, difficult to see how these words could encompass the case where nothing at all was derived. Moreover it was hard to imagine how a zero amount could be treated as having a particular source, foreign or otherwise. It might be added that on one view it is also difficult to see how a deduction can be said to "relate…to" income of a particular class where there is no such income. But these difficulties depend upon reading the section on the assumption that it is concerned with the offset of actual income and allowable deductions. 66 On another reading, the collocation "class of income derived by a taxpayer in a year of income from a foreign source" is adjectival. It defines the category of income to which a deduction must relate if it is to be burdened by the quarantining operation of the section. It therefore identifies the class of deduction upon which the section operates. There is no requirement flowing from the internal logic of the section so read, that the amount of income be non-zero. A category of things may be defined even if it may on occasion be empty. Further, the section operates by reference to "the amount of the excess" of the related deductions over the amount of the relevant class of foreign source income. It is concerned with the difference between that income and related deductions. When regard is paid to the logical importance of that difference, the sense of the section is not offended by applying it to a case in which the amount of the relevant class of income is zero. The constructional choice which encompasses zero foreign source income is open upon a literal reading of the section. In this regard we respectfully differ from his Honour's view that this is "a construction which the literal language of s 79D does not bear". 67 Given that the latter construction is open, it is to be preferred. For a given deduction related to a class of foreign income, the less the amount of the income the greater the excess of the deduction over it. Therefore the greater will be the proportion of that deduction not able to be claimed as an allowable deduction. That is to say, the less the foreign source income for a given deduction, the greater the amount of the deduction that is quarantined. But if the section does not touch the case of zero income in the relevant class then, when the income diminishes to zero, the whole of the deduction becomes potentially allowable against non foreign source income. On the construction for which ACP contends, the case of zero foreign source income creates a singularity or discontinuity which annihilates the operation of s 79D. There is no requirement in logic nor reason in policy why this should be so. 68 His Honour found no clear answer to the constructional question in the legislative history, the extrinsic materials or the legislative context in which s 79D is to be found. Nor was there. Nonetheless, in his Honour's view, which was effectively adopted by counsel for ACP, there is nothing intrinsically absurd about quarantining a deduction against foreign income but not quarantining a deduction where no foreign income is derived. As his Honour pointed out, deductions can be incurred prior to income being derived just as they may be incurred and allowable after the income to which they are directed may have ceased. 69 There is no doubting the correctness of those propositions. They have a respectable lineage: see generally AGC (Advances) Ltd v Federal Commissioner of Taxation (1975) 132 CLR 175, at 188 per Barwick CJ. The anomaly which his Honour identified in the present case was that, upon the Commissioner's construction, a deduction would be lost in the latter case and might never be allowed in the former if it should turn out that no foreign income were ever derived. That may be accepted as a consequence of the Commissioner's construction and it appeared that the Commissioner accepted that consequence. It may be that the case contemplated by his Honour reflects a harsh consequence of the operation of the section. But it is not absurd or irrational. In our opinion, this consideration does not outweigh the considerations of logic and policy which militate in favour of the application of s 79D to the case of zero income in the relevant class from a foreign source. 70 It was submitted in the alternative for ACP that, even if the Commissioner's construction of s 79D were correct, it could not operate in the present case in either of the 1989 or 1991 years of income because the only income that could be derived by ACP to which the relevant interest deductions might relate would be dividends paid on the shares in CPIL(UK). But these dividends, it was submitted, would not have a foreign source within the meaning of that term as defined in s 160AFD. In support of this proposition it was said that: (i) ACP's hypothetical subscription for and holding of shares in CPIL(UK) did not constitute, and would not have constituted, it carrying on business at or through one or more permanent establishments in a foreign country as required in par (a) of the definition of "foreign source". (ii) ACP's hypothetical subscription for and holding of shares in CPIL(UK) did not constitute, and would not have constituted, any other business, commercial or investment activity "carried on" in a foreign country as required by par (b) of the definition of "foreign source". Under the assumption the Commissioner asked the Court to make, ACP's business, commercial and investment activity, so far as it concerned its investment in shares in CPIL(UK), was carried on in Australia where its central management and control was located. That is where the subscription for the shares would have taken place. Reliance was placed upon Esquire Nominees Ltd v Federal Commissioner of Taxation (1973) 129 CLR 177 and Thiel v Federal Commissioner of Taxation (1990) 171 CLR 338. This proposition had been put to and rejected by his Honour. 71 Esquire Nominees concerned an assessment for dividend income received by Esquire Nominees Ltd, which was a resident of the territory of Norfolk Island. The ITAA in s 7 provided that the Act extended to Norfolk Island and other territories but did not "apply to any income derived by a resident of those Territories from sources within those Territories". The dividend issued was paid by another company incorporated in Norfolk Island and came from funds derived from a dividend paid to it by an Australian company, that payment originating in turn from dividends from another Australian company carrying on business in Australia. The Court held that the source of the dividend derived by Esquire Nominees Ltd was within Norfolk Island. Barwick CJ held (at 212) the fund of profits of the company paying the dividend to be the source of that dividend. This extended to dividends derived from profits earned from investment income. He also said at 212: "Further, in my opinion, the place where the company makes its investment income will be the place where it has its central management and control. It will, of course, be different in the case of a company conducting manufacturing or trading activities. In the case of such companies the place where these activities are carried on can be seen in fact to be the geographical source of the profits these activities yield." Menzies J at 221 and 222 and Stephen J at 229 also, in effect, held the source of dividend income to be the place where the profit (out of which the income was paid) was made. Esquire Nominees therefore is against ACP's submissions in so far as it identifies the geographical source of dividend income as the location of the funds from which the dividend is paid. 72 It must be recognised, in any event, that Esquire Nominees raised a different issue in a statutory context different from that applicable in this case. There the issue raised by s 7 of the ITAA was whether the income derived by the taxpayer was from "sources within" the territory of Norfolk Island. In this case, the question is whether the income to the taxpayer would have derived from a foreign source in the sense of a business, commercial or investment activity carried on by it in a foreign country. The identification of source is less concerned with the location of the fund than the location of the business, commercial or investment activity which generated the receipt of the relevant income, or which, in this case, would have generated the receipt of the relevant income. 73 Here the relevant investment activity, namely acquisition of the CPIL(UK) shares, was carried on in the United Kingdom. It was not an investment activity carried on within Australia. The source of the dividend was therefore a foreign source at least within the meaning of par (b) of the definition of that term in s 160AFD(7). It can also be accepted, as his Honour accepted, that the carrying on of the relevant activity referred to in the definition of "foreign source" does not require a repetition of transactions. In the context of the Double Taxation Agreement between Australia and Switzerland, the High Court held in Thiel that the expression "enterprise carried on by" in Article 3(1)(f) of the Treaty did not require a repetition of activity. It would extend to an isolated activity and a framework for making and carrying out decisions in relation to activities and projects. We respectfully adopt his Honour's observation when, after referring to Thiel, he said (at 23): "The context in s 79D is whether an Australian resident derives income from an investment activity which is carried on in a foreign country. It would seem highly unlikely that the legislature intended to quarantine deductions against foreign income where there was no repetition of the activity but not do so where the activity was done once and once only. In my view s 79D should be construed, consistent with the general law of source in any case, to bring about the result that a dividend from an overseas company in which the taxpayer has invested is to be treated as having a foreign source for the purposes of the section." 74 For the preceding reasons, the Commissioner's case on the construction of s 79D succeeds and ACP's case on that section fails. Section 79D would have applied to interest paid by ACP to CPH had MLG not been interposed in the chain of transactions leading to the acquisition of the CPIL(UK) shares. It is necessary, therefore, to consider whether Part IVA applied to support the Commissioner's determination that the deductibility of the interest was a tax benefit obtained in connection with a scheme under that Part.

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Part IVA - The Scheme - Section 177A 75 Part IVA operates upon "schemes". "Scheme" is defined generally in s 177A. The subclass to which Part IVA applies is defined in s 177D. Where a tax benefit, as defined in s 177C, has been or would, but for s 177F, be obtained, by a taxpayer in connection with a scheme, the Commissioner may make a determination that the benefit shall be included in the taxpayer's assessable income: s 177F. If the benefit is referable to a deduction then the Commissioner may determine that the deduction shall not be allowable. 76 In this case, the "scheme" identified by the Commissioner in relation to ACP was "the acquisition by ACP of redeemable preference shares in MLG and the acquisition by MLG of redeemable preference shares in CPIL(UK) in one case and CPIHL(UK) in the other". The scheme so identified was attacked by ACP as "an artificial dissection of part of a scheme by the Commissioner" and said not to be permissible. The decisions of the High Court in Federal Commissioner of Taxation v Peabody (1994) 181 CLR 359 and Spotless were said to preclude such a dissection. 77 The decision in Peabody is authority for the proposition that the Commissioner's discretion to cancel a tax benefit under Part IVA extends only to a tax benefit which is or would be obtained in connection with a scheme to which that Part applies. The exercise of the discretion does not depend upon its correct identification by the Commissioner. If there is a scheme to which Part IVA applies and there has been or would be a tax benefit obtained in connection with it, the Commissioner's discretion is enlivened. In particularising his case in appeal proceedings, the Commissioner may identify one scheme and alternatively rely upon another which is a sub-set of the first (at 382). 78 On the other hand as the Court observed in the joint judgment in that case (at 383-384): "But Part IVA does not provide that a scheme includes part of a scheme and it is possible, despite the very wide definition of a scheme, to conceive of a set of circumstances which constitutes only part of a scheme and not a scheme in itself. That will occur where the circumstances are incapable of standing on their own without being "robbed of all practical meaning". In that event, it is not possible in our view to say that those circumstances constitute a scheme rather than part of a scheme merely because of the provision made by ss 177D and 177A. The fact that the relevant purpose under s 177D may be the purpose or dominant purpose under s 177A(5) of a person who carries out only part of the scheme is insufficient to enable part of a scheme to be regarded as a scheme on its own. That, of course, does not mean that if part of a scheme may be identified as a scheme in itself the Commissioner is precluded from relying upon it as well as the wider scheme." 79 ACP argued that the borrowing of $300,600,000 from CPF on 2 May 1989 was not treated by the Commissioner as part of the scheme for the purposes of Part IVA. Nor was the loan by CPIL(UK) to CPI(Sing) which was relevant to the BAT takeover. The overriding purpose of the whole scheme was to put CPI(Sing) in sufficient funds to participate in Hoylake and its bid for the control of BAT which was expected to yield profits in the vicinity of one billion pounds. This was said to be a wholly commercial purpose and his Honour had so found. The scheme identified artificially excluded the loan from CPF to ACP, the loan from CPIL(UK) to CPI(Sing) and CPI(Sing)'s investment in Hoylake. These exclusions were said to have "robbed [the scheme] of all practical meaning". The latter term, used in the passage quoted from Peabody, was taken from the judgment of Lord Pearce in Inland Revenue Commissioners v Brebner [1967] 2 AC 18 at 27. That case concerned a general tax avoidance provision in s 28 of the Finance Act 1960 (UK). The section operated upon transactions whose effect singularly or in combinations of two or more provided a tax advantage. The House of Lords held that the Special Commissioners were justified in concluding that certain transactions were entered into for bona fide commercial purposes. Lord Pearce said, at p 27: "But that which had to be ascertained was the object (not the effect) of each interrelated transaction in its actual context and not the isolated object of each part regardless of the others. The subsection would be robbed of all practical meaning if one had to isolate one part of the carrying out of the arrangement, namely, the actual resolutions which resulted in the tax advantage, and divorce it from the object of the whole arrangement. The method of carrying it out was intended as one part of a whole which was dominated by other considerations." 80 All that having been said, a scheme identified as such may, as was pointed out in Peabody, be a scheme for the purposes of Part IVA even if it can also be regarded as part of a larger scheme. The first resort in determining whether what the Commissioner and his Honour identified as a "scheme" properly answered that description must be the words of the definition in s 177A. The caveat in Peabody sets a broadly stated outer limit upon those words. It is evaluative in character. Whether circumstances "standing on their own" are "robbed of all practical meaning" is a matter of judgment rather than logical analysis. Under the definition in par 177A(1)(b) a scheme encompasses any "action, course of action or course of conduct". It may be "unilateral" (s 177A(3)). On the other hand the action, course of action or course of conduct which may constitute a scheme may involve action or conduct by more than one person. 81 In this case the actions identified by the Commissioner and accepted by his Honour as constituting a scheme did fall within the definition in s 177A(1)(b). They can be described in the precise way his Honour described them "…the acquisition by ACP of redeemable preference shares in MLG and the acquisition by MLG of redeemable preference shares in CPIL(UK)". They can also be described compendiously as the interposition of MLG between ACP and CPIL(UK). They can be regarded as a module or component of the larger set of transactions. That does not prevent them from being treated as a scheme. The two transactions have a practical meaning. They are in a sense self explanatory. The identification of their purpose which may have to be undertaken in the context of surrounding transactions is not a condition of their characterisation as a scheme. The identification of a scheme within the meaning of s 177A is antecedent to its characterisation as a scheme to which Part IVA applies as defined in s 177D. It would be an error to suppose that identification of purpose is necessary in determining whether there is in existence a scheme under s 177A.

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Part IVA - The Tax Benefit - Par 177D(a) and Section 177C 82 The scheme having been identified correctly by his Honour, the next question was whether it was one to which Part IVA applied within the meaning of s 177D. The first relevant condition of that characterisation, imposed by par 177D(a), is that a taxpayer has obtained, or would but for s 177F obtain, a tax benefit in connection with the scheme. 83 Section 177C(1) explains what is meant by the reference in par 177D(a) to "the obtaining … of a tax benefit in connection with a scheme". The relevant circumstance is set out in par (b) of s 177C(1). That is: "a deduction being allowable to the taxpayer in relation to a year of income where the whole or a part of that deduction would not have been allowable, or might reasonably be expected not to have been allowable, to the taxpayer in relation to that year of income if the scheme had not been entered into or carried out." His Honour in this case said that the deduction was allowable to ACP under s 79D. Strictly speaking, as counsel for the Commissioner pointed out, the deduction, if it had arisen, would have been allowable under s 51, not being disallowed by virtue of the quarantining operation of s 79D. 84 The question of reasonable expectation raised in s 177C(1) has been the subject of comment in Peabody. The observations made in that case are important to the construction of this provision but, having been made in a particular factual context, must be read in that context. It is appropriate therefore in considering the question of reasonable expectation to begin with the words of s 177C and endeavour to apply them to the facts of this case. 85 There are two hypotheses which, absent the relevant scheme, satisfy the condition for demonstration of a tax benefit in relation to a deduction. The first is that the deduction would not have been allowable. The second is that the deduction might reasonably be expected not to have been allowable. The hypotheses would encompass the respective propositions that the outgoings said to constitute the deduction would, or might reasonably be expected to, have been incurred absent the scheme. The like hypotheses under par 177C(1)(a) would have to encompass the propositions that an amount, capable of being income, would or might reasonably be expected to have been derived absent the scheme. The extension of the hypotheses to the existence of income amounts and deductions in the relevant year is not demanded by the words of pars (a) and (b) which in their ordinary meaning assume those facts. That restrictive construction however could lead to quite artificial and unfair hypotheses adverse to taxpayers being forced upon the Commissioner and the Courts. The construction which requires the hypothetical situation absent the scheme to extend to circumstances which might or might not give rise to the relevant income or deductions reflects the approach taken by the High Court in Peabody where it was said (at 385) in the joint judgment: "A reasonable expectation requires more than a possibility. It involves a prediction as to events which would have taken place if the relevant scheme had not been entered into or carried out and the prediction must be sufficiently reliable for it to be regarded as reasonable." That was the approach also taken by his Honour in his consideration of the tax benefit issue when he said: "It is reasonable to expect that had the scheme as defined not been entered into or carried out ACP would either have subscribed for shares in CPIL(UK) or made loans to that company. Neither alternative matters to the present analysis, although I should think it more likely than not that the investment would have been by way of shares, since that was the way the actual investment by MLG into CPIL(UK) was structured. Why would it be reasonable to expect anything else if ACP had invested directly?" 86 The High Court in Spotless was confronted with a submission on behalf of the taxpayers, relating to the application of par 177C(1)(a) that, had they not entered into the investment scheme there in issue, there would have been no interest and no amount included in their assessable income so that the definition of "tax benefit" would make no sense in that case. As to that, the High Court in the joint judgment said (at 424): "In our view, the amount to which par (a) refers as not being included in the assessable income of the taxpayer is identified more generally than the taxpayers would have it. The paragraph speaks of the amount produced from a particular source or activity. In the present case, this was the investment of $40 million and its employment to generate a return to the taxpayers. It is sufficient that at least the amount in question might reasonably have been included in the assessable income had the scheme not been entered into or carried out." The language suggests less of a predictive and more of a reasonable hypothesis approach than the passage earlier quoted from Peabody. The passage quoted from Peabody was made in the context of other observations by the Court that there were difficulties in the way of transactions hypothesised by the Commissioner absent the scheme said to be the subject of Part IVA. It was in contradiction of the Commissioner's contention in that case which on one view seems to suggest that a reasonable expectation would encompass a possibility. In the Full Court - Peabody v Federal Commissioner of Taxation (1993) 40 FCR 531, at 541 - the reasons of Hill J (Ryan and Cooper JJ concurring) included an observation that: "The word "expectation" requires that the hypothesis be one which proceeds beyond the level of a mere possibility to become that which is the expected outcome. If it were necessary to substitute one ordinary English phrase for another, it might be said that it requires consideration of the question whether the hypothesised outcome is a reasonable probability…" The appeal from the Full Court was dismissed by the High Court, whose judgment contained no criticisms of that observation. 87 There is no doubt a large range of factual circumstances that may require consideration when hypothesising under s 177C(1), the alternative to a scheme being entered into or carried out. If the scheme is a severable component of a larger array of transactions which have been arranged or executed, the fact that they were arranged or executed can offer support for the hypothesis that they would or might reasonably be expected to have stood absent the scheme. The condition that the scheme be severable assumes that the remaining transactions are commercially and legally possible. If that assumption is falsified, then the hypothesis as to what would or might reasonably be expected to have happened may have to cope with a wider range of possibilities. But that is not this case. His Honour properly relied upon the way in which the "actual investment by MLG into CPIL(UK) was structured". 88 ACP argues that having taken the steps it did so that, on the Commissioner's hypothesis, s 79D would not apply, it was not reasonable to suppose that, absent those steps, it would have chosen an alternative to which s 79D did apply. There were investment choices open to ACP which did not attract the operation of s 79D, the simplest example being a loan at interest by CPF direct to CPI(Sing) or a loan from ACP to CPI(Sing). The Commissioner on the other hand contended that, had the scheme not been entered into, ACP would have invested in shares in CPIL(UK) as the means by which it would have provided the necessary funds from it to CPIL(UK). Investment in share capital was the means adopted by ACP and by MLG for the provision of funds. It was reasonable to expect that the same method would have been adopted in the absence of the scheme. As to ACP's suggestion about other ways in which funds could have been provided which would have avoided the operation of s 79D, for example a loan from CPF to CPI(Sing) or a loan from ACP direct to CPI(Sing), there was no evidentiary basis for those submissions. Those alternative ways of structuring the broader transaction were said by the Commissioner to be "mere speculation". The Commissioner argued that it is not legitimate in considering what might reasonably be expected to have taken place had the scheme not been entered into, to take into account the taxpayer's purpose of obtaining the tax benefit to which the scheme was directed. He also submitted that there was no evidentiary basis for the other ways suggested by ACP in which funds could have been provided which would have avoided the operation of s 79D, such as loans to CPI(Sing) directly from CPF or ACP. Hill J's findings as to the reasonable expectation of what would have occurred had the scheme not been entered into was a valid inference from what did in fact happen. 89 In the event the hypothesis is probably justified that, absent the scheme, the outgoing by way of interest to CPF would have existed and would not have been allowable. The hypothesis is certainly justified that absent the scheme that deduction might reasonably be expected to have existed and not to have been allowable. The condition set out in s 177D(a) for application of Part IVA to the scheme is satisfied, namely the taxpayer obtained or would, but for s 177F, have obtained a tax benefit in connection with the scheme.

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Part IVA - Purpose of enabling the taxpayer to obtain a tax benefit 90 For Part IVA to apply to the scheme in the circumstances of this case, a finding must be made that the person or one of the persons who entered into or carried out the scheme or any part of the scheme, did so for the sole or dominant purpose of enabling the relevant taxpayer to obtain a tax benefit in connection with the scheme (par 177D(b) and s 177A(5)). The consideration which leads to a finding on that issue must have regard to the eight factors set out in par 177D(b). These were described in the joint judgment of the High Court in Spotless as "the eight necessary criteria" (at 417). The question posed by par 177D(b) as formulated in Spotless, at 422, is: "…whether, having regard, as objective facts, to the matters answering the description in par (b), a reasonable person would conclude that the taxpayers entered into or carried out the scheme for the dominant purpose of enabling the taxpayers to obtain a tax benefit in connection with the scheme." Although presented in that judgment as the question "in the present case" the formulation is of sufficiently general application also to cover the present case. 91 In dealing with this aspect of the case, his Honour found two purposes behind the scheme identified by the Commissioner. The first was the obtaining of the deduction for interest paid to CPF. That finding was on the assumption, contrary to his Honour's view, that s 79D operated to disallow a deduction in a year of income where no foreign assessable income was derived. The second purpose was the adoption of a structure which would not detract from tax credit relief. That purpose did not involve a tax benefit, having regard to the definition of "tax benefit" in s 177C. The question as his Honour posed it was: "…which of these two benefits should be seen to be dominant in the relevant sense." The use of the word "benefits" seems to have been a slip. No doubt his Honour meant "purposes". He referred to the objective nature of the facts upon which the conclusion as to purpose must be based and that the conclusion must be one that a reasonable person would draw. In this he applied the dicta of the High Court in Spotless. In applying Spotless, he also held that a purpose will be dominant if it is the ruling, prevailing or most influential purpose. 92 His Honour observed that the advantage conferred by the scheme in relation to s 79D would be of no particular consequence unless no immediate foreign source income was anticipated to flow by way of dividend from the United Kingdom companies. Once an adequate stream of foreign income flowed, the interest deduction would be available to offset it. Similarly the tax credit advantage would arise only where foreign income was included directly or indirectly in assessable income of a resident taxpayer. It was not an immediate problem. His Honour then said (at 27): "With some doubt I am of the view that a conclusion would be drawn that the dominant purpose of some person who participated in the scheme, and in particular those (perhaps not Mr Cherry, but there were others) who advised the group at Arthur Young and later Ernst & Young, was to bring about the result that a deduction would be allowed to the Applicants which, but for the scheme, would have been disallowed to them because of the application of s 79D. I reach this conclusion because it seems to me that the interest deduction was more immediate than the adoption of a neutral structure for non interference with tax credits." His Honour did go on to observe that the larger arrangement of which the scheme was part was "directed to a commercial end much more significant than tax". His Honour also rejected a contention that the scheme was designed to attract the operation of the amended s 79D since that section was not law at the time the steps were taken. He said (at 28): "In my view the application of the Part can only be tested with respect to the obtaining of a tax benefit in accordance with the law as applicable [at] the time the scheme is entered into or carried out." And further: "The time for testing the dominant purpose must be the time at which the scheme was entered into or carried out and by reference to the law as it then stood." We respectfully agree with his Honour's observations in that regard. 93 In approaching the application of s 177D(b) under the heading, "The Section 177D Conclusion", his Honour went directly to the question of dominant purpose and dealt with it holistically without adverting expressly to each of the eight matters that must be considered in reaching a conclusion on purpose. The section requires the decision-maker, be it the Commissioner or the Court, to have regard to each of these matters. It does not require that they be unbundled from a global consideration of purpose and slavishly ticked off. The relevant dominant purpose may be so apparent on the evidence taken as a whole that consideration of the statutory factors can be collapsed into a global assessment of purpose. But if the reasons of the judge at first instance do not refer to them expressly and the conclusion appears debatable, then it may be necessary to ask whether they have been taken into account in accordance with the mandate of the section. It may appear by necessary implication from the reasons that they have been taken into account. If so, the reasons will be adequate and there will have been no error on that count. But if the consideration is not able to be identified expressly or by necessary implication, then there may have been a failure either to take them into account or to give adequate reasons. 94 His Honour's reasoning on the question of purpose was attacked for failure to have regard to the matters set out in par 177D(b). In ACP's submission, it was said that these were "the only matters to be taken into account". That latter proposition is not warranted by the language of the section or by the characterisation of the eight matters as "necessary" to be taken into account. It is not however really apposite to the main thrust of ACP's argument on this limb of the appeal. 95 In this case, his Honour did in our opinion have regard to the various matters mandated by par 177D(b). They were effectively canvassed in the body of the balance of the reasons so far as they related to the factual and other aspects of the case concerning s 79D and Part IVA. They formed the backdrop to his Honour's specific consideration of the conclusion to be drawn about purpose under s 177D. Under the heading "The Financing Arrangements", he described the manner in which the scheme relied upon by the Commissioner was entered into and carried out including its relationship to the advice given to Mr Bourke by Messrs Cherry and Verzi of Arthur Young (par 177D(b)(i)). As to this, it is simply said for ACP that there is nothing in the way in which the scheme was entered into or carried out that tends against the dominant commercial purpose of each party to it. It was submitted that the dominant purpose of ACP and MLG was to obtain shares expected to be productive of dividends and to obtain share capital for each allotting company. Without taxation benefits it is said the scheme made perfect commercial sense. That is difficult to accept when the scheme is seen in context as the interposition of transactions involving MLG. As the Commissioner's submission put it, the interposition of MLG is explicable principally or solely by reference to a desire to protect the deductibility of interest payments to CPF. The form and substance of the scheme were also effectively set out in the factual description, there being no relevant distinction between them (par 177D(b)(ii)). ACP correctly so submitted. 96 The time at which the scheme was entered into and the period during which it was carried out were also covered in the factual description. Under the heading relating to the s 177D conclusion, his Honour gave express consideration to the immediacy of the deductibility issue, the scheme being only of benefit in the short term while there was no foreign income flow against which to offset the interest payments. In this regard, ACP submitted that the scheme took place in April/May 1989. The timing was dictated by the need to have the funds in CPI(Sing) in order to finance participation in the BAT takeover. Nothing in the timing pointed to a dominant purpose of obtaining the tax benefit alleged but rather to the commercial purpose of the whole scheme of which the Part IVA scheme was but a part. However, the critical timing issue relevant to purpose was that considered by his Honour and there is nothing to suggest any error in the approach that he took (par 177D(b)(iii)). 97 The result, in relation to the ITAA, which but for Part IVA would be achieved by the scheme, was covered by his Honour's assumption, that contrary to his primary conclusion, s 79D would have applied to quarantine the deductibility of interest payments by ACP to CPF (par 177D(b)(iv)). The characterisation of this part of his Honour's reasoning as an assumption rather than a finding about the correct construction of s 79D does not vitiate his conclusion about purpose. For in this respect, purpose is judged objectively. The question of the result that would, but for Part IVA, have been achieved by the scheme was independent of the views of the participants about the operation of the section. So this Court on appeal, accepting the correctness of his Honour's assumption about the law, can uphold a conclusion based on that assumption notwithstanding that it was contrary to his own view. On this point, ACP submits that there was in truth no result whatsoever in relation to the operation of the ITAA which, but for Part IVA, was achieved by the scheme. It was argued that the borrowing by ACP was not part of the scheme. To so contend, however, is not to answer the proposition that a purpose of the scheme was to achieve deductibility for the interest paid on those borrowings (par 177D(b)(iv)). 98 The question of a change in the final position of ACP that might reasonably be expected to result from the scheme was directly related to the deductibility of interest paid by CPF had the scheme stood. This was expressly considered, although not quantified, by his Honour, as was the likely time within which the deduction benefit would be of use. As noted above, it was only when there was no significant foreign income against which to offset the interest payments to CPF that the s 79D advantage would be of particular consequence (par 177D(b)(v)). It was said for ACP that here it is clear that there is no change in the overall financial position of the taxpayer. ACP paid $300,600,000 for the allotment of redeemable preference shares in MLG. The asset, which was money, was replaced by an asset which was shares. But that overlooks the effect of rendering the interest paid to CPF deductible (par 177D(b)(v)). That having been considered, the change in the financial position of other persons resulting from the scheme did not require detailed consideration. It is apparent that in so far as ACP was a subsidiary of CPH and the ultimate shareholder a private company owned by Mr Kerry Packer, a benefit to ACP could be expected to be a benefit to them and possibly other members of the corporate group. But that is sufficiently evident from the materials and the description in his Honour's reasons of the corporate group relationship. It necessarily formed part of the backdrop to his specific consideration of the question of purpose (par 177D(b)(vi)). The question of other relevant consequences was covered in his Honour's discussion of the relationship between the structure adopted in this case and the objective of preserving tax credit relief. That was an objective which lacked the immediacy of the interest deductibility problem (par 177D(b)(vii)). The final factor under par 177D(b)(viii) covers the nature of any connection between the relevant taxpayer and any person referred to in subpar 177D(b)(vi). This issue was also dealt with in the consideration of corporate group relationships referred to earlier. 99 ACP submitted that, having regard to the eight matters in par 177D(b), it could not objectively be determined that the sole or dominant purpose of a person who entered into or carried out the scheme was to obtain a tax benefit. The parties who were alleged to have that purpose were identified by the Commissioner as CPIL(UK), MLG and ACP. The case below was conducted accordingly. ACP submitted that his Honour made no finding that any such party had the necessary sole or dominant purpose. Moreover, had he scrutinised the scheme in light of the eight matters referred to in par 177D(b), he would have been led, it was submitted, to the irresistible conclusion that no such person had that sole or dominant purpose. But as the Commissioner contended the scheme was entered into on the basis of advice received from Arthur Young. Mr Bourke gave evidence that on matters of this kind he relied on the advice of his tax advisers. The Commissioner submitted that in these circumstances the purpose or purposes of Arthur Young in recommending the scheme are to be attributed to those who entered into and carried it out on the basis of their advice. His Honour's reference to those who advised the group at Arthur Young is to be read in that light. There would be few such arrangements which do not involve the obtaining of prior professional advice and the objective purposes associated with the implementation of that advice can properly be attributed to those who implement it. In the circumstances the relevant purpose has been found, albeit by reference to the purpose of the advisers to the Group.

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The Commissioner submitted that there was a scheme, within the meaning of s 177A(1) of the ITAA. It was constituted by the declaration of dividends (whether purported or actual) by CPIL(UK) and CPIHL(UK); the incorporation of CPIL(B); the acquisition by CPIL(B) of the issued shares in the UK companies from the taxpayers; the distribution of property in purported satisfaction of the declared dividends by the UK companies to CPIL(B); and the distribution of the assets of CPIL(UK) and CPIHL(UK) to CPIL(B) upon their winding up. 103 The Commissioner submitted that, in relation to both CPIL(UK) and CPIHL(UK), the scheme was of the type described in both s 177E(1)(a)(i) and s 177E(1)(a)(ii). Mr Shaw relied on the characteristics of the scheme that had been put to the primary judge and pointed out that in consequence of CPIL(B) stripping the UK companies, the shares in those companies became worthless, while CPIL(B) was not liable to Australian tax in respect of the distribution of assets by liquidators of the UK companies. 104 The primary judge had accepted that it was not an essential ingredient of a dividend stripping scheme that the stripper received a tax advantage, nor that the vendor shareholders received cash (as distinct from an allotment of shares). CPH and MLG had received a non-monetary consideration for their shares fixed solely by reference to the accumulated assets and other profits of the UK companies. Thus the fact that they had not been paid in cash did not prevent the scheme being characterised as one by way of or in the nature of dividend stripping. 105 The Commissioner argued that the primary judge had erred in holding that a scheme could not come within s 177E(1)(a) unless it could be predicated that it would only have taken place to avoid the shareholders in the target company becoming liable to pay tax on dividends out of the accumulated profits of the target company. Motive was to be distinguished from purpose. The substantive purpose of the transaction was to confer a capital receipt upon the vendor shareholders which represented, in substance, profits of the UK companies. It was also to enable CPIL(B) to "strip" the UK companies of their profits. The transaction did not lose its character as a dividend stripping scheme merely because the motive for the transaction was to reorganise a group of companies. It was not a requirement of a dividend stripping scheme that the objective purpose of the scheme be the avoidance of tax by the vendor shareholders. 106 In the alternative, the Commissioner argued that if, contrary to his submissions, an objective purpose of some kind was required for the operation of s 177E, it was only necessary to establish that the purpose was to enable the purchaser to strip the target of its distributable dividends. Moreover, the relevant purpose did not have to be the sole or dominant purpose; it was sufficient that the relevant purpose be a substantive, or not incidental, purpose of the scheme. A substantive, or not incidental, purpose of this transaction was to enable CPH and MLG to receive capital instead of distributions of profits and to allow CPIL(B) to strip the UK companies of their profits. 107 In any event, the scheme had "substantially the effect of a scheme by way of or in the nature of dividend stripping", within the meaning of s 177E(1)(a)(ii), in relation to both UK companies. According to the Commissioner, the characteristics of the scheme identified by him showed that the scheme had the relevant effect. The primary judge had reached a contrary conclusion with respect to CPIL(UK), but his Honour (so it was said) had overlooked the fact that there had been current year profits available for distribution. 108 The Commissioner also made submissions to the effect that the primary judge had erred in finding that the Commissioner's opinion formed under s 177E(1)(b) had been vitiated in law. Having regard to the conclusions we have reached on this limb of the appeal, it is unnecessary to set these submissions out.

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Dividend Stripping - CPH's and MLG's Submissions 109 CPH and MLG submitted that the transactions identified by the Commissioner in relation to CPIL(UK) and CPIHL(UK) did not constitute either: (i) a scheme by way of or in the nature of dividend stripping; or (ii) a scheme having substantially the effect of a scheme by way of or in the nature of dividend stripping. 110 As to (i), CPH and MLG relied on the primary judge's finding that the sale of shares and subsequent liquidations were not brought about to enable the shareholders (CPH and MLG) to receive distributions of capital instead of dividends, although that was a consequence of what happened. Those transactions had occurred as part of a reorganisation of the UK companies for reasons that had to do with the desire to avoid double taxation, rather than with the avoidance of Australian tax on dividends. They contended that the primary judge had been correct in holding that a scheme is one "by way of or in the nature of dividend striping" if, and only if, it could be predicated of the scheme that it would only have taken place to enable the shareholders in the target company to avoid becoming liable to pay tax on dividends out of accumulated profits. 111 CPH and MLG argued, in any event, that the features commonly found in a scheme by way of or in the nature of dividend stripping were absent in the present case. They identified five such features: (i) a "stripper" who is a dealer in shares (not present in this case, since CPIL(B) was not a dealer in shares); (ii) an outsider (not present in this case since CPIL(B) was part of the same group of companies); (iii) the assets of the target company largely represent profits of the company (not true in this case, since the UK companies had very substantial assets not represented by current year or accumulated profits); (iv) a non-taxable sum is received in lieu of an assessable dividend (not present in this case, since CPH and MLG did not receive a capital sum in lieu of an otherwise assessable dividend, and in any event they paid capital gains tax on the sale of their shares); and (v) there is an outlay by the stripper which is financed by the dividend (not true in this case, because CPIL(B) did not outlay anything other than the issue of its own shares to CPH and MLG). 112 CPH and MLG also identified two features in the present case not found in a scheme by way of or in the nature of dividend stripping: (i) Had CPIL(B) been a resident of Australia, it would have been assessable on dividends declared and paid by the UK companies and s 177E would have been inapplicable. The residence of CPIL(B) was to be ignored in determining whether there had been a scheme within s 177E. (ii) The transactions involved a group reorganisation having nothing to do with the avoidance of Australian tax. 113 The taxpayers disavowed a submission that the absence of any one of the common features of a dividend stripping scheme, or the presence of features not found in a dividend stripping scheme, rendered s 177E inapplicable. However, the identified features supported the primary judge's conclusion that there was no scheme by way of or in the nature of dividend stripping. 114 As to (ii), CPH and MLG submitted that his Honour had erred in construing the "effect" of a scheme as being equivalent to its result or consequence judged primarily by reference to the vendors of the shares. They contended that this construction rendered s 177E(1)(a)(i) otiose and failed to give sufficient weight to the Parliamentary intention, as reflected in the Explanatory Memorandum. The latter showed that the second limb of s 177E(1)(a) was intended to catch schemes by way of or in the nature of dividend stripping, with the only difference from the first limb being a distribution of the profits of the company otherwise than by a formal dividend payment (for example, by a loan not intended to be repaid). That intention would be realised by construing the word "effect" in s 177E(1)(a)(ii) to mean "purpose". Dividend Stripping - Section 177E - Approach to Statutory Construction 115 In considering the proper interpretation of s 177E(1) of the ITAA, in particular sub-par (a), it is necessary to bear in mind the principles that govern the modern approach to the construction of legislation. In CIC Insurance Ltd v Bankstown Football Club Ltd (1997) 187 CLR 384, the joint judgment (Brennan CJ, Dawson, Toohey and Gummow JJ) stated (at 408) that: "the modern approach to statutory interpretation (a) insists that the context be considered in the first instance, not merely at some later stage when ambiguity might be thought to arise, and (b) uses 'context' in its widest sense to include such things as the existing state of the law and the mischief which, by legitimate means such as those just mentioned, one may discern the statute was intended to remedy. Instances of general words in a statute being so constrained by their context are numerous." The context is particularly important where Parliament has chosen to employ an expression capable of different meanings and applications without supplying a definition or statutory guidelines, as is the case with the term "dividend stripping" in s 177E(1)(a). 116 Of course, if the language used by Parliament is sufficiently clear, the Court cannot escape the intended meaning merely because this leads to an inconvenient result. As Gibbs CJ said in Cooper Brookes (Wollongong) Pty Ltd v Federal Commissioner of Taxation (1981) 147 CLR 297, at 305: "if the language of a statutory provision is clear … and harmonious with the other provisions of the enactment, and can be intelligibly applied to the subject matter with which it deals, it must be given its ordinary and grammatical meaning, even if it leads to a result that may seem inconvenient or unjust". See also Cooper Brookes, at 320; Saraswati v The Queen (1991) 172 CLR 1, at 22, per McHugh J. 117 It is convenient to commence with the structure of the section itself and then to consider the context in which s 177E was enacted. This requires some examination of dividend stripping cases pre-dating Part IVA of the ITAA, which was enactedby the Income Tax Laws Amendment Act (No 2) 1981 (Cth) (the "1981 Act"). It also requires reference to other sections in the ITAA which incorporate the expression "dividend stripping" and to the Explanatory Memorandum accompanying the 1981 Act.

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The Structure of Section 177E 118 Section 177E specifies four conditions that must be satisfied if the section is to have effect. Three of these have multiple components. 119 First there must be a "scheme", as defined in s 177A(1), in relation to a company. The scheme must be of the kind identified in the first limb of s 177E(1)(a) ("by way of or in the nature of dividend stripping") or in the second limb of s 177E(1)(a) ("a scheme having substantially the effect of a scheme by way of or in the nature of dividend stripping"). The drafting of each limb assumes that there is an identifiable activity known as "dividend stripping" that can serve as a reference point for deciding whether a particular scheme is "by way of or in the nature of dividend stripping". 120 A result of the scheme must be that the property of the company (usually referred to as the "target company") is disposed of. This condition requires the specified state of affairs to exist; it is not expressed in terms of the Commissioner's satisfaction or opinion that the state of affairs exists. 121 Secondly, the Commissioner must form the opinion that the disposal of property by the target company represents, in whole or in part, a distribution, whether to a shareholder (usually referred to as the "vendor shareholder") or another person, of profits of the company (s 177E(1)(b)). This condition is framed in terms of the Commissioner forming the opinion that the disposal represents a relevant distribution of profits. 122 The third condition is framed by reference to a hypothesis, namely that the target company, immediately before the scheme had been entered into, had paid a dividend out of profits equal to the amount of profits which, in the Commissioner's opinion, was represented by the target company's disposal of property (the so-called "notional amount"). The condition is satisfied if the notional amount would or might reasonably be expected to have been included, by reason of the payment of the dividend, "in the assessable income of a taxpayer of a year of income": s 177E(1)(c). 123 The fourth condition is the temporal requirement specified in s 177E(1)(d), namely that the scheme was entered into after 27 May 1981.

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The Operation of Section 177E 124 If all four statutory conditions are satisfied, s 177(1) specifies three consequences. 125 First, s 177E(1)(e) provides that the scheme is to be taken as a scheme to which Part IVA applies, thereby attracting the operation of s 177F (which confers on the Commissioner a power, in effect, to cancel the actual or expected tax benefit). The effect of sub-par (e) is that a scheme satisfying the conditions laid down in s 177E(1)(a)-(d) need not independently satisfy the terms of s 177D (which identifies the characteristics of a scheme to which Part IVA applies, including the necessary purpose of "enabling the relevant taxpayer to obtain a tax benefit in connection with the scheme".) 126 Secondly, s 177E(1)(f) provides that, for the purposes of s 177F, "the taxpayer" shall be taken to have obtained a tax benefit in connection with the scheme that is referable to the "notional amount" not being included in the taxpayer's assessable income. The reference to "the taxpayer" appears to be to a taxpayer who might have been expected to include the "notional amount" of the dividend described in s 177E(1)(c). It follows that s 177E(1)(f) is drafted on the basis that "the taxpayer" is the vendor shareholder of the target company in a dividend stripping scheme. Doubtless s 177E(1)(f) was drafted on this basis because ss 46A and 46B of the ITAA (to which reference will be made later) were already in place to address the tax advantages obtained by the dividend stripper. 127 Thirdly, s 177E(1)(g) provides that the amount of the tax benefit obtained by the taxpayer shall be taken to be the notional amount. This quantifies the tax benefit which the Commissioner has power to cancel in the exercise of the powers conferred by s 177F of the ITAA. 128 By identifying the tax consequences of a dividend stripping scheme within s 177E(1), the sub-section operates as a "supplementary code" (to use an expression in the Explanatory Memorandum accompanying the legislation introducing Part IVA) operating within the general framework of Part IVA. Once there is a scheme which satisfies the four conditions laid down in s 177E(1)(a)-(d), the balance of the sub-section itself specifies the tax consequences for vendor shareholders who have participated in or benefited from the scheme. 129 As the competing submissions indicate, s 177E(1) gives rise to many questions of construction. The most fundamental issue dividing the parties is whether there was a scheme within either the first or second limbs of s 177E(1)(a). This issue turns principally on whether s 177E(1)(a) is confined, as the taxpayers contend, to a dividend stripping scheme the predominant purpose of which is the avoidance of tax by vendor shareholders who are party to or intended beneficiaries of the scheme.

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Dividend Stripping - The Concept in Case Law 130 Prior to the enactment of Part IVA of the ITAA, share trading companies frequently entered into what were described as dividend stripping schemes. These schemes generally exploited the rebate on dividends paid by private companies allowed under s 46 of the ITAA, and were designed to strip profits from companies in a tax free manner and generate losses to the "stripping" company: Woellner, Vella, Burns, Barkoczy and Krever Australian Taxation Law (9th ed 1999), at 21-742. The authors describe the "simplest form of 'traditional' dividend stripping" as usually involving the sale of shares to a dividend stripper, typically a share trader: "The stripper would pay a price for the controlling shares reflecting the value of the target company's assets reduced by an amount sufficient to give the stripper a reasonable profit on the transaction, the price for the shares being received by the old shareholders as a tax-free capital gain. Following the share transfer, the stripper would liquidate the target company's assets, declare a dividend of the whole of the company's retained profits (the profits being non-taxable in the stripper's hands because of the availability of a sec 46 rebate), resell the target company's shares (which were now, of course, virtually worthless) and claim a deduction for the 'loss' on the resale. Thus, under the 'ideal' dividend strip, the ex-shareholders in the target company received, as capital, payments for their shares of amounts which would otherwise have been taxable dividends or liquidation distributions; the dividend stripper obtained a non-taxable reimbursement of the purchase price it had paid for the shares and, in addition, generated a large tax 'loss' which could be set off against the stripper's other income." 131 The term has found its way into the Oxford and Macquarie Dictionaries. In the New Shorter Oxford English Dictionary, it is defined in terms which make clear its tax-related purpose: "the practice of buying securities ex-dividend and selling them cum-dividend before the next dividend is due in order to avoid the tax payable on dividends." In the Macquarie Dictionary, the focus is on the actions which constitute dividend stripping: "the practice of purchasing shares in a private company with the intention of declaring dividends from the company's accumulated profits to the new shareholder, and then selling the shares in the company once the dividend has been paid." 132 Reference to case law however demonstrates the term is applicable to a range of transactions provided certain essential characteristics are present. Investment and Merchant Finance Corporation Limited v Federal Commissioner of Taxation (1970) 120 CLR 177 (Windeyer J), rev'd (1971) 125 CLR 249, involved a simple scheme concerning the purchase and subsequent disposal of shares in a company called Macgrenor Investments Pty Ltd (albeit that the relevant events were spread over two financial years). Windeyer J at first instance noted that the scheme had been called in evidence a "dividend-stripping operation". His Honour continued at 179: "That term has become well known in English revenue law. I quote from Halsbury's Laws of England, 3rd ed, vol 20, p 201: 'Dividend stripping is a term applied to a device by which a financial concern obtained control of a company having accumulated profits by purchase of the company's shares, arranged for these profits to be distributed to the concern by way of dividend, showed a loss on the subsequent sale of shares of the company, and obtained repayment of the tax deemed to have been deducted in arriving at the figure of profits distributed as dividend.' So well known has the term become that the second edition of Fowler's Modern English Usage (1965) has a brief explanation, under the heading 'Bond washing and dividend stripping', introduced by - 'Most of us are familiar with these terms, but few know much more about them than that they are devices for the legal avoidance of taxation. In the course of the duel provoked by them between the tax avoider and the legislature they have developed a protean variety of detail, but their essence remains the same.'" Later (at 185) his Honour quoted an extract from the transcript which identified the steps taken under the so-called Macgrenor transaction and said that this "clearly stated the basic practice of a dividend-stripping operation". 133 While the appeal was allowed (the Court reversing Windeyer J's holding that the "stripper" was not entitled to a deduction for the loss on resale of the shares), no doubt was cast on Windeyer J's description of the scheme as a dividend-stripping operation. Menzies J (at 262) said that the attraction of the scheme lay in the concurrence of three features: "namely, that the purchase price would be deductible from assessable income; that the dividend to be received would be rebatable and that the sale of the shares would result in a loss which would, it was expected, be deductible from other income of the year in which the loss was made." 134 Federal Commissioner of Taxation v Patcorp Investments Ltd (1976) 140 CLR 247 was another typical case of dividend stripping, with the stripper being a related company of the target and the operation being carried out "for the purpose of obtaining taxation advantage" (at 290, per Gibbs J). The case was complicated because the dividends were declared and paid before the share transfers were registered, although this was held not to affect the rebatability of the dividends in the stripper's hands. The scheme was referred to as a "dividend-stripping operation" by Mason J at first instance (at 253) and on appeal (at 290, per Gibbs J; at 310, per Jacobs J). 135 Gibbs J (at 300) observed that the Commissioner had relied on a line of cases "in which arrangements, which might be described as dividend-stripping operations" had been held to have been struck down by s 260 of the ITAA. His Honour noted that in all the earlier cases "the arrangements had the purpose of giving the character of capital to what, apart from the arrangement, would have been received as income and thus of avoiding liability for tax on the amounts received [by the vendor shareholders]". It was held that s 260 of the ITAA, whatever its effect on the vendor shareholders, could not be used to deny the "stripper" a rebate to which it was entitled under s 46 of the ITAA (at 300, per Gibbs J; at 312, per Jacobs J). 136 What is helpful for present purposes is that Gibbs J identified four cases as involving dividend stripping operations: Bell v Federal Commissioner of Taxation (1953) 87 CLR 548; Newton v Federal Commissioner of Taxation (1958) 98 CLR 1 (PC); Hancock v Federal Commissioner of Taxation (1961) 108 CLR 258; Federal Commissioner of Taxation v Ellers Motor Sales Pty Ltd (1972) 128 CLR 602. These four cases had the following characteristics in common: · a target company, which had substantial undistributed profits creating a potential tax liability either for the company or its shareholders; · the sale or allotment of shares in the target company to another party (a company in three cases and individuals resident in the then Territory of New Guinea in Bell); · the payment of a dividend to the purchaser or allottee of the shares out of the target company's profits; · the purchaser escaping Australian income tax on the dividend so declared (whether by reason of a s 46 rebate, an offsetting loss on the sale of the shares, or the fact that the shareholders were resident outside Australia); and · the vendor shareholders receiving a capital sum for their shares in an amount the same as or very close to the dividends paid to the purchasers (there being no capital gains tax at the relevant times). See CJ Vincent, "Dividend Stripping: stricto sensu or strictly senseless" (1989) 24 Taxation in Australia 82, at 92. 137 A further common characteristic of each of the schemes in the cases considered by Gibbs J, was that they were carefully planned, with all the parties acting in concert, for the predominant if not the sole purpose of the vendor shareholders, in particular, avoiding tax on a distribution of dividends by the target company. In Bell, the Court said (at 571) that: "[t]he sale of the share [by one of the seven vendors] was a part of a complex transaction carefully planned and carried through by Bell [the vendor] and a number of other persons acting in concert, for one predominant purpose, which was to ensure that Bell and his six colleagues should each receive Ł11,000 tax-free instead of Ł11,000 subject to tax." 138 In Newton, Lord Denning, delivering the judgment of the Privy Council in relation to the application of s 260 of the ITAA to the complex arrangement in that case, accepted that the avoidance of tax was not the sole purpose or effect of the arrangement. However, it was found (at 10) that the "whole of the transactions show that there was concerted action to an end - and that one of the ends sought to be achieved was the avoidance of liability for tax". 139 In Hancock, the arrangement was partly designed to enable minority shareholders ultimately to acquire all shares in the target company, but there was "no sense or purpose" in the sale of the shares to the stripper and then back to the minority shareholders except to ensure that the vendors received a capital sum for their shares: at 278, per Dixon CJ. An "essential feature" of the plan was the escape of tax that would have been attached either to the company or to the shareholders if the profits of the target company remained undistributed (by reason of Div 7 tax), or to the shareholders if the profits were distributed as dividends: ibid. 140 The dominant purpose of the elaborate scheme implemented in Ellers, on the advice of taxation advisers, was to arrange matters so that shareholders received very large sums of money as capital and not as dividends and to avoid the problems that otherwise would have arisen: see at 619, per Walsh J, with whom Windeyer and Gibbs JJ agreed. 141 A similar pattern emerges from other well-known cases. Rowdell Pty Ltd v Commissioner of Taxation (1963) 111 CLR 106 concerned a series of transactions carried out by a dividend stripper, including the scheme dealt with in Hancock. The transactions were described by Dixon CJ, at 116, and characterised by Kitto J, at 126, as "milking" operations. See also Investment and Merchant Finance, at 262, per Menzies J; at 270, per Walsh J; John v Federal Commissioner of Taxation (1989) 166 CLR 417, at 428 (John post-dated the enactment of s 177E). 142 The Commissioner in the present case pointed out that the courts have applied the description "dividend stripping" to schemes in which there was no objective purpose of avoidance of tax by the vendor shareholders. The principal example given was Slutzkin v Federal Commissioner of Taxation (1977) 140 CLR 314. In that case, s 260 of the ITAA was held to be inapplicable to the sale of shares in a company for a cash price equivalent to the value of the company's assets which had been converted to cash. However, the key to Slutzkin was the finding, as explained by Aickin J (at 325), that the arrangement was one "simply for the sale by all the shareholders of their shares in the company to a single purchaser for cash paid by bank cheques.... The arrangement was neither more nor less than a sale of shares for cash, such shares not having been acquired for the purpose of re-sale at a profit." 143 So characterised, the arrangement was an ordinary commercial transaction - "no more than a realization by [the shareholders] of the benefit of their shareholding in a way which would not attract tax" (at 319, per Barwick CJ). Any dividend stripping carried out by the purchasers, which doubtless had a tax avoidance purpose, was regarded as a separate scheme or arrangement. See to the same effect: Harrison v Federal Commissioner of Taxation (1977) 77 ATC 4144 (S Ct NSW/Waddell J), at 4150; Hennessey v Federal Commissioner of Taxation (1975) 10 SASR 353 (Zelling J); C J Vincent, supra, at 93.

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Legislative Antecedents of Section 177E 144 The concept of "dividend stripping" was introduced into the ITAA by the Income Tax Assessment Act (No 3) 1972 (Cth). The object of the legislation, according to the Explanatory Memorandum, was to limit the rebates of tax on dividends received by a share trading company as a result of dividend stripping operations. The Explanatory Memorandum explained the problem and solution as follows: "In its simplest form, a dividend-stripping operation involves the purchase by a share-trading company of shares in another company which has accumulated profits. A payment of a dividend is then made to the share-trading company which, in effect, wholly or substantially recoups its outlay on purchase of the shares that are then resold for a reduced price or are retained at a reduced value for income tax purposes. Although, in a commercial sense, the share-trading company may make an overall profit on the transaction, no part of the deduction allowable for the cost price of the shares can be set off against dividend income to determine the part of the dividends included in taxable income on which the rebate is allowable. The result is that, while the dividends are effectively freed from tax by the rebate, the deduction allowed for the cost of acquiring the shares is applied against non-dividend income which thereby escapes full tax." 145 The key provision introduced was s 46A of the ITAA which operated (as it still does) where the payment of a dividend "arose out of, or was made in the course of, a transaction, operation undertaking, scheme or arrangement that the Commissioner is satisfied was by way of dividend stripping" (s 46A(1)). As was explained in the Second Reading Speech (Cth Parl Deb, HR, 9 December 1971, at 4453): "[t]he term 'dividend-stripping' has been employed in the courts here and in the United Kingdom and has come to have a widely understood connotation in professional and financial circles". 146 Notwithstanding this "widely understood connotation", s 46A (unlike s 177E), specified matters that the Commissioner was obliged to consider when determining whether he or she was satisfied that the scheme was by way of dividend stripping. In substance, these were (s 46A(3)): · whether the effect of the dividend to the new shareholder substantially reimbursed the shareholder for the acquisition cost of the shares; · whether the value of the shares was substantially reduced by reason of the payment of the dividend; · whether the right to receive dividends on the shares was subject to some limitations; and · any other relevant matters. 147 The Explanatory Memorandum issued in conjunction with the 1972 Bill stated that cl 46A(3) of the Bill directed: "the Commissioner to consider features common to dividend stripping as the term is ordinarily understood. These features do not exist in normal commercial transactions, eg, in the purchase in the ordinary way of shares cum div and the subsequent sale of those shares". 148 As is so often the case with specific anti-avoidance measures, arrangements were soon devised to circumvent the operation of s 46A. This prompted the enactment in 1978 of s 46B which was designed to nullify the new arrangements: Australian Federal Tax Reporter, par 21-300. Section 46B did not take further the definition of "dividend stripping" itself. Other sections utilising the concept of dividend stripping in the context of dividend rebates are ss 102L(3) and 102T(3), both of which cross-refer to ss 46A and 46B. See further ss 160APHA and 160APP, which were introduced in 1987 and deal with the franking of dividends. Section 160APHA uses the same formula as s 177E(1)(a) (and see s 160ARDCA); s 160APP(6) simply uses the expression "dividend stripping operation". See also ss 160AQT.

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Dividend Stripping - Section 177E - The Parliamentary Purpose 149 It was against this background that Part IVA of the ITAA, including s 177E, was enacted by the 1981 Act. The Explanatory Memorandum accompanying the Bill said that the legislation was intended to introduce general anti-avoidance provisions to replace s 260 of the ITAA, since the latter had received a very restrictive judicial interpretation. It explained that Part IVA was designed to provide: "an effective general measure against those tax avoidance arrangements that - inexact though the words be in legal terms - are blatant, artificial or contrived. In other words, the new provisions are designed to apply where, on an objective view of the particular arrangement and its surrounding circumstances, it would be concluded that the arrangement was entered into for the sole or dominant purpose of obtaining a tax deduction or having an amount left out of assessable income. That test for application of the new provisions is intended to have the effect that arrangements of a normal business or family kind, including those of a tax planning nature, will be beyond the scope of Part IVA." (Emphasis added.) 150 The Explanatory Memorandum went on to explain the operation of s 177E: "Part IVA will have within it, in section 177E, a supplementary code to deal with dividend-stripping schemes of tax avoidance and certain variations on such schemes, the effect of which is to place company profits in the hands of shareholders in a tax-free form, in substitution for taxable dividends. Section 177E is designed against the background that, while such schemes are of the general kind to which preceding provisions of part IVA are to apply, it may not always be able to be concluded that, if the scheme had not been entered into, the relevant dividends would have been (or might reasonably be expected to have been) included in assessable income: the company may simply have retained the profits for the time being. In schemes of this kind, arrangements are generally made to convert into cash the assets of the company to be stripped and, following the sale by shareholders of their shares in the company for a capital sum, subsequent transactions ensure either that the purchaser is reimbursed for the price of the shares in the form of a dividend or other payment from the company or that an entity which has a close association with the shareholder obtains the enjoyment of property of the company in one form or another. These transactions are structured so that profits thus effectively stripped from the company do not bear tax. Section 177E will treat such schemes as schemes to which the Part applies so that, for example, a shareholder who disposes of his or her shares in the context of a dividend-stripping scheme will be treated as having obtained a 'tax benefit' of the amount which the person would have derived as a dividend had the company paid as a dividend the amount of company profits that are represented in the property of the company that is stripped from it under the scheme." (Emphasis added.) 151 The Explanatory Memorandum said that s 177E was: "a self contained code, within the framework of Part IVA, designed to apply to schemes of a dividend stripping kind which would otherwise effectively place company profits in the hands of shareholders in a tax-free form." The Memorandum noted that schemes within s 177E might on occasions come within s 177D, but repeated that s 177E was needed for certain situations not covered by s 177D, as where the profits might not have been distributed as dividends, at least not for some time. It also observed that without s 177E, Part IVA might not "counter a dividend strip carried out in relation to current-year profits of a company, where tax purposes other than those of avoiding tax on dividends may also be present". 152 The Explanatory Memorandum addressed the distinction embodied in s 177E(1)(a) as follows: Paragraph (a) sets out the initial and key test that there be a scheme that in fact is either one by way of or in the nature of dividend stripping or one having substantially the effect of such a scheme. Schemes within the category of being, or being in the nature of, dividend stripping schemes would be ones where a company (the 'stripper') purchases the shares in a target company that has accumulated profits that are represented by cash or other readily-realisable assets, pays the former shareholders a capital sum that reflects those profits and then draws off the profits by having paid to it a dividend (or a liquidation distribution) from the target company. In the category of schemes having substantially the same effect would fall schemes in which the profits of the target company are not stripped from it by a formal dividend payment but by way of such transactions as the making of irrecoverable loans to entities that are associates of the stripper, or the use of the profits to purchase near-worthless assets from such associates." 153 Similar comments to those made in the Explanatory Memorandum were made by the then Treasurer in the Second Reading Speech: Cth Parl Deb, HR, 27 May 1981, at 2684-2685. Dividend Stripping - Was there a Scheme? 154 The first question that arises in the present case is whether there was a "scheme" within the expanded definition of that term in s 177A(1) of the ITAA. The Determination Report, approved by the Commissioner's delegate, was somewhat vague in identifying the steps said to constitute the "scheme" falling within s 177E(1)(a). At the trial and on appeal, the Commissioner was more specific. He proceeded on the basis that the scheme commenced with the declaration of dividends by the UK companies and concluded with the distribution of the assets of those companies by the liquidators to CIPIL(B). 155 Mr Bloom, on behalf of CPH and MLG, criticised the lack of specificity in the Determination Report. Nonetheless, he did not dispute that the steps identified by the Commissioner were capable of constituting a "scheme" for the purposes of s 177E(1)(a). Nor did he take any point about the scheme being narrower in scope than that identified in the Determination Report. We are therefore able to approach the case on the basis that there was a "scheme" consisting of the steps identified by the Commissioner.

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A Scheme by way of or in the Nature of Dividend Stripping 156 We have already observed that the drafting of s 177E(1)(a) assumes the existence of an identifiable activity known as "dividend stripping". A question therefore arises as to whether the scheme identified in the present case has the characteristics that enable it to be described as a "scheme by way of or in the nature of dividend stripping" within the first limb of s 177E(1)(a). (We consider the second limb later.) The terms of the first limb of s 177E(1)(a) suggest that a scheme may fall within its scope, even though not all the elements of a dividend standard dividend stripping scheme are present. The use of the words "by way of or in the nature of" suggests that variations from the paradigm will not necessarily result in the scheme being excluded from the first limb, provided it retains the central characteristics of a dividend stripping scheme. 157 Since the legislation does not identify those central characteristics, it is necessary to look to the decided cases preceding the 1981 Act and to the extrinsic materials accompanying the relevant legislation. We have identified what we would see as the central characteristics of a dividend stripping scheme, by reference to the High Court decisions discussed in Patcorp. The six characteristics so identified are set out in pars 136 and 137. They are similar to those identified by the primary Judge as comprising the "essential character" of a dividend stripping operation. 158 The present scheme has a number of features supporting the Commissioner's contention that it can fairly be described as one by way of or in the nature of dividend stripping. The features are the following: · prior to the commencement of the scheme the UK companies had substantial undistributed profits; · had dividends been declared out of the available profits, the shareholders (CPH and MLG) would have incurred a substantial liability to pay Australian tax, since the dividends would have formed part of their assessable income; · the dividends actually declared by the UK companies virtually exhausted the total profits available for distribution; · CPH and MLG sold their shares in the UK companies to CPIL(B) cum dividend; · CPIL(B) received a distribution of the assets of the UK companies, partly in purported satisfaction of the dividend; · CPIL(B), as a Bermudan resident, was not liable to Australian tax in respect of the distribution; and · CPH and MLG were allotted shares in CPIL(B) which, in part, were referable to the dividend component of the sale of their shares in CPIL(B). 159 On the other hand, CPH and MLG identified features of the scheme that were said not to satisfy the first limb of s 177E(1)(a). Some of the features so identified are, in our opinion, compatible with the existence of a scheme by way of or in the nature of dividend stripping: · The fact that the "stripper" (CPIL(B)) was not a dealer in shares is not critical to the existence of a dividend stripping operation. In Bell, the shares in the target company were acquired by private individuals who were not dealers. The critical point is that the dividends paid to those who acquired the shares were not assessable income for Australian tax purposes. · Nor is the fact that the stripper in this case was a member of the same corporate group inconsistent with a dividend stripping operation. In Ellers Motors, a dividend stripping case, the profits remained within the "company cell": see at 623. · The fact that CPH and MLG each received an allotment of shares, rather than cash, as the consideration for their shares in the UK companies, is compatible with a dividend stripping scheme. While the vendor shareholders usually receive a cash payment for their shares in the target company, the fact that the consideration takes a different form is not a significant departure from the paradigm. The critical point is that the vendor shareholders receive a consideration which is in a tax-free or largely tax-free form. · Similarly, we would regard the fact that the stripper's acquisition of the vendors' shares in the target company is not directly financed by the target company as compatible with a dividend stripping operation within the first limb, especially where the scheme involves intra-group companies: cf the example given by Fullagar J in Federal Commissioner of Taxation v Newton (1957) 96 CLR 577, at 657. Other means can readily be employed to achieve the desired result, including the issue of shares by the stripper to the vendor shareholders. · Nor do we not think it appropriate to approach the application of the first limb of s 177E(1)(a) on the assumption (contrary to the fact) that CPIL(B) was an Australian resident. The fact is that it was a resident of Bermuda and received the distribution from the UK companies without incurring a liability to pay Australian tax on the distributions so received. 160 There are, however, two features of the scheme in the present case which are not easy to reconcile with the central characteristics of a dividend stripping scheme. 161 The first is that the assets of the UK companies did not consist wholly or even primarily of accumulated or current year profits. While CPIHL(UK) and CPIL(UK) had substantial profits available for distribution (but not required to be distributed), they each had other assets. In the case of CPIHL(UK), these amounted to at least $US186 million and in CPIL(UK)'s case to at least $US550 million. These assets were assigned to CPIL(B) as part of the reorganisation designed to avoid the risk of double taxation. The existence of these assets, particularly in the context of a corporate reorganisation, is important in relation to the question of purpose which we consider shortly. Independently of purpose, however, the fact that the target company has very substantial assets other than profits acquired by the purchaser, suggests that the scheme might not readily be described as or by way of a scheme in the nature of dividend stripping. 162 The objective feature perhaps most strongly suggesting that the scheme in this case was outside the first limb of s 177E(1)(a) is that the consideration received by each of the taxpayers for the sale of its shares in the UK companies (that is, an allotment of shares in CPIL(B)) attracted capital gains tax in Australia. As has been seen, CPH included a net assessable capital gain of $11.5 million in its return for the 1990 year, while MLG returned a gain of about $40 million. The "classic" dividend stripping operation was of course developed in Australia prior to the introduction of capital gains tax in 1985. As the Explanatory Memorandum accompanying the 1981 Bill shows, a dividend stripping operation was thought to have the effect of placing "company profits in the hands of shareholders in a tax-free form". 163 Rather surprisingly, we were not taken to the manner in which the capital gains flowing from the sale of the taxpayers' shares in the UK companies had been calculated. Nor did the parties explain how (if at all) the capital gains related to the consideration received by the taxpayers for the assignment of their entitlement to the dividends declared by the UK companies. Since s 177E has survived the introduction of the capital gains tax regime, it may be that the receipt by the vendor shareholders of a relatively small assessable capital gain (in comparison with the available profits of the target company) is compatible with the application of the first limb of s 177E(1)(a). Nonetheless, the fact that the vendor shareholders in this case reported a significant assessable capital gain by reason of the sale of their shares tends to suggest that the scheme may not fall within the first limb of s 177E(1)(a). 164 Because of the view we take on the question of purpose, it is not necessary to consider whether the departures from the paradigm of a dividend stripping operation, independently of the question of purpose, would prevent the present scheme from falling within the first limb of s 177E(a). The matters to which we have referred are, however, important in relation to the question of purpose, to which we now turn.

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Is a Tax Avoidance Purpose Necessary? 165 The language of the first limb of s 177E(1)(a), while in one sense broad, is striking for the absence of any reference to a tax avoidance purpose. It simply does not address the question of whether such a purpose is required for the limb to apply and, if so, what circumstances will demonstrate that the requisite purpose is present. 166 Mr Shaw, on behalf of the Commissioner, contended that the absence of any such reference is significant, particularly when set alongside the general provisions of Part IVA. He pointed out that s 177D limits the schemes to which Part IVA generally applies to those of which, it can be concluded, by reference to specified criteria, that the person or persons entering the scheme did so for the purpose of enabling the "relevant taxpayer to obtain a tax benefit in connection with the scheme". By contrast, a scheme satisfying the four requirements specified in s 177E(1), is taken to be a scheme to which Part IVA applies: s 177E(1)(e). He argued that the concept of a dominant tax avoidance purpose should not be introduced into s 177E by the "back door method" of implying it as an essential ingredient of the expression "dividend stripping". 167 In our view, the absence of any reference to purpose in s 177E(1) is equivocal on the question of whether the first limb can only be satisfied if a tax avoidance purpose is present. The language of s 177E(1)(a), if read in isolation, is consistent with the need for such a purpose. The very concept of a "scheme" implies concerted action to achieve a particular goal. The compound concept of a "dividend stripping scheme" suggests that the predominant goal sought by the participants is a taxation benefit of a particular kind. It follows that the omission of any express reference to purpose is consistent with the drafter intending that a scheme should not fall within the first limb unless a tax avoidance purpose is present. 168 When the concept of a "dividend stripping" scheme or arrangement was introduced into the ITAA in 1972, it was on the basis, expressed in the Explanatory Memorandum, that the concept had a widely understood connotation. This was also the basis for the use of the expression "scheme by way of or in the nature of dividend stripping" in s 177E(1)(a). There is no other explanation for Parliament's disinclination to define or clarify the expression. 169 The widely understood connotation was explained in the pre-1981 case law to which we have referred. The so-called dividend stripping cases invariably had as their dominant, if not exclusive, purpose the avoidance of tax that otherwise would or might be payable by the vendor shareholders in respect of the profits of the target companies. The apparent exceptions, such as Slutzkin, are readily explicable on the basis that the particular scheme, insofar as it involved vendor shareholders, was complete before the dividend stripper began its operations and thus could not itself be described as a dividend stripping operation. The case law preceding the 1981 Act strongly supports the view that Parliament framed s 177E(1)(a) on the basis that dividend stripping operations necessarily involve a predominant tax avoidance purpose. 170 This conclusion is reinforced by the extrinsic materials to which we have also referred. The Explanatory Memorandum and second reading speech accompanying the 1981 Bill emphasised that Part IVA, which includes s 177E, was concerned with "tax avoidance arrangements that ... are blatant, artificial or contrived". According to the Explanatory Memorandum, Part IVA was not designed to catch arrangements of a normal business or family kind. Section 177E itself was to be a "self-contained code, within the framework of Part IVA" and was to deal with "dividend-stripping schemes of tax avoidance and certain variations on such schemes". 171 These carefully formulated observations, in our opinion, clearly indicate that s 177E was intended to apply only to schemes which can be said to have the dominant purpose of tax avoidance. The section was not intended, in our view, to apply to a "scheme" entered into or carried out primarily for business or other purposes unconnected with avoidance of tax, even if the scheme is implemented in a manner that produces taxation advantages: Spotless, at 425, per McHugh J. (We recognise, of course, that a taxpayer may have the dominant purpose of avoiding tax consistently with the pursuit of commercial gain in the course of carrying on a business: Spotless, at 415.) Since the section is directed at vendor shareholders participating in or benefiting from dividend stripping schemes, the required tax avoidance purpose is ordinarily that of enabling the vendor shareholders to receive profits of the target company in a substantially (if not entirely) tax-free form, thereby avoiding tax that would or might be payable if the target company's profits were distributed to shareholders by way of dividends. 172 We accept that the concept of a tax avoidance "purpose" is itself ambiguous. Depending on the statutory context, it can refer to the subjective intentions of particular persons. This was held to be the case, for example, with s 80B(5)(c) of the ITAA, which referred to an arrangement being entered into "for the purpose, or for purposes that included the purpose of enabling the company to take into account" certain losses: K Porter & Co Pty Ltd v Federal Commissioner of Taxation (1977) 19 ALR 510, at 517, per Stephen and Murphy JJ; Federal Commissioner of Taxation v Students World (Australia) Pty Ltd (1978) 138 CLR 251, at 266-267, per Mason J. 173 Section 177D of the ITAA, on the other hand, in terms posits an objective test. The question posed by that provision is whether, having regard to the eight objective factors specified in s 177D(b), a reasonable person would conclude that the taxpayers entered into or carried out the scheme for the dominant purpose of enabling the taxpayers to obtain a tax benefit in connection with the scheme: Spotless, at 422. The expression "dominant purpose" (which is the sense in which "purpose" is used in s 177D(b): see s 177A(5)) means "the ruling, prevailing, or most influential purpose": Spotless, at 416. 174 In our view, the first limb of s 177E(1) embraces only a scheme which can be said objectively to have the dominant (although not necessarily the exclusive) purpose of avoiding tax. The requirement of a tax avoidance purpose flows from the use by Parliament of the undefined expression "a scheme by way of or in the nature of dividend stripping". What is important is the nature of the scheme, not the subjective motives or intentions of any of the participants or the beneficiaries. The purpose of the scheme is to be assessed from the perspective of the reasonable observer, having regard to the characteristics of the scheme and the objective circumstances in which the scheme was designed and operated.

[35]

Was the Requisite Purpose Present? 175 The primary judge applied the appropriate test to determine whether the scheme in the present case had the necessary tax avoidance purpose. His Honour found that the sale of shares in the UK companies and the subsequent liquidations took place not for the purpose of enabling CPH and MLG to receive distributions of capital in lieu of dividends, but for the commercial purpose of reorganising the UK companies to eliminate the risk of double taxation in the light of foreshadowed legislative changes in the UK and Australia. His Honour acknowledged that one consequence of the scheme was that the capital distribution to shareholders in part represented accumulated profits that otherwise could have been distributed only as dividends, which would have formed assessable income in the hands of CPH and MLG. But an objective examination of the circumstances did not lead to the conclusion that the dominant purpose of the scheme was tax avoidance in a relevant sense. In particular, it could not be said that the dominant purpose of the scheme was to enable the vendor shareholders to avoid paying tax on dividends out of the target company's profits. 176 In our view, his Honour was correct in making these findings. The transactions of which the scheme was an integral part were entered into against a background of imminent threat of double taxation arising from the foreshadowed legislation in the UK and Australia. The scheme included steps, notably the acquisition by CPIL(B) of the issued shares in the UK companies, the winding up of those companies and the distribution of all their assets (not merely assets in satisfaction of the declared dividends), that were referable to the implementation of the corporate reorganisation designed to avoid the threat of double taxation. The documentation attending the scheme was consistent with the object of restructuring the group so as to overcome the threat of double taxation, while still maintaining a future stream of dividends to the Australian controllers. Had the scheme not been entered into, the UK companies would have been exposed to double taxation in respect of future earnings. By contrast, as the primary judge pointed out, the UK companies were under no immediate obligation to distribute their accumulated profits. 177 The scheme involved the distribution of assets of far greater value than the accumulated and current year profits of the UK companies. As we have observed, this fact suggests that the scheme is not one by way of or in the nature of dividend stripping. In the circumstances of this case, it reinforces the conclusion that the dominant purpose of the scheme was to avoid threatened double taxation, rather than to convert the taxpayer's entitlement to dividends into receipt of a capital sum. This conclusion is also reinforced by the fact that the taxpayer received assessable capital gains as the consideration for the transfer of the shares in the UK companies. 178 For these reasons, the scheme was not by way of or in the nature of dividend stripping and therefore was not within the first limb of s 177E(1)(a) of the ITAA.

[36]

A Scheme Having Substantially the Effect of a Scheme by way of or in the Nature of Dividend Stripping? 179 The primary Judge held that the scheme, insofar as it concerned the shareholders of CPIHL(UK) had "substantially the effect of a scheme by way of or in the nature of dividend stripping". It was therefore within the second limb of s 177E(1)(a). 180 His Honour's reasoning proceeded on the basis that there was a difference between the purpose and effect of a scheme. The effect was to be judged by reference to the vendor of the shares in the target company and the target company itself. With respect, the difficulty with this approach is that it leaves no work for the first limb of s 177E(1)(a) to do. If purpose is not an element in assessing the "effect" of a scheme, there would never be a case within the first limb of s 177E(1)(a), which was not also within the second limb. In any given case it would be necessary only to consider the effect of the particular scheme. 181 In our view, the drafter had something rather different in mind. It will be recalled that the Explanatory Memorandum addressed the distinction between the first and second limbs of s 177E(1)(a) (see par 152). The examples given of schemes within the first limb were those in which a dividend or a deemed dividend are paid by the target company. (Section 47(1) of the ITAA provides that distributions to shareholders by a liquidator, to the extent to which they represent income, other than income applied to replace paid-up capital, are deemed to be dividends paid to the shareholders out of the company's profits.) The example given of schemes within the second limb was one in which the profits of the target are not stripped from it "by a formal dividend payment" but by way of transactions having the effect of dividends. The particular illustrations provided were the making of irrecoverable loans to associates of the stripper or the use of accumulated profits to purchase near worthless assets, presumably at an overvalue. 182 Having regard to the Explanatory Memorandum,it can be seen that the second limb of s 177E(1)(a) is intended to catch schemes by way of or in the nature of dividend stripping, where the distribution by the target company takes a form other than a formal dividend or a deemed dividend. The reference to "having substantially the effect of" a dividend stripping scheme is to a scheme that would be within the first limb, except for the fact that the distribution by the target company is not by way of a dividend or deemed dividend. If the distribution has substantially the effect of a dividend or deemed dividend, it will be within the second limb. 183 It is true that the second limb identifies a wider range of schemes that will be caught by s 177E. But a scheme is not defined by its content alone. The word, in its ordinary meaning and its statutory definition still connotes purpose, a purpose not to be defined merely by effect. The policy underlying Part IVA, which is to attack blatant, artificial or contrived arrangements, the imposition of significant statutory penalties by way of double taxation and the intention to save normal commercial transactions, converge to support a purposive construction of the conduct covered by sub-par (ii). 184 It follows that a scheme is not within the second limb unless the dominant purpose of the scheme is that of tax avoidance in the sense explained earlier. It follows that the scheme in the present case was not within the second limb of s 177E(1)(a). 185 In the light of the conclusion we have reached, there is no need to address other issues raised by the taxpayer's submissions, namely whether there was a disposal of property for the purposes of s 177E and whether the Commissioner's opinion was validly formed for the purposes of the section. The Commissioner did not press a submission made to the trial judge, namely that even if he failed under s 177E, the assessment based on the scheme could be supported under ss 177D and 177F. In any event, any such submission would fail because, on the findings made by the trial Judge, it could not be concluded that the scheme had the requisite purpose. 186 For the reasons we have given, the schemes impugned by the Commissioner were not entered into or carried out for the dominant purpose of the avoidance of taxation. Section 177E therefore did not apply to them. Hill J was correct to set aside the objection decision based on the application of ss 177E and 177F. The appeals by the Commissioner should be dismissed.

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