Fowler v Commissioner of Taxation [2013] FCAFC 69 | Case summary

The facts 6 The appellant challenged only one finding of fact made by the primary judge and I will identify that challenge and deal with it later in these reasons (at [51] and [95]). 7 Although the primary judge did not accept every aspect of the respondent's case, the respondent has not filed a notice of contention and does not challenge any of her Honour's findings of fact. For example, in the Court below the respondent alleged that there was no contract between the appellant and his employee on 14 September 2006. The primary judge found that there was such a contract. 8 Nexus Energy Limited ("Nexus") was a public corporation under s 9 of the Corporations Act 2001 (Cth) and it was first listed for quotation on the Australian Securities Exchange ("ASX") on 8 September 2000. Shortly after April 2000 the company commenced to conduct the business of oil and gas exploration and production. In 2006 it had not yet engaged in the commercial production of oil and gas. 9 The appellant was appointed a non-executive director of Nexus on 11 April 2000 and he continued in that position until 16 November 2007, when he was appointed the non-executive chairman of the board. 10 Tess Aust Pty Ltd ("Tess Aust") was the trustee of the appellant's family trust. It was an incorporated company and a resident of Australia for the purposes of the 1936 Act. The appellant's family trust was a trust established by deed and it was a tax resident of Australia for the purposes of the 1936 Act. At all material times, the appellant was an "associate" of Tess Aust within the meaning of s 139GE of the 1936 Act. 11 Nexus had an employee share option plan ("ESOP") which it had established in November 2003. The ESOP was governed by the ESOP Rules ("the Rules"). 12 In 2006, an issue arose within the company concerning the grant of options to directors in lieu of cash fees. At a meeting of the board of directors held on 26 July 2006 the board passed a resolution in the following terms: Accordingly, IT WAS RESOLVED to increase base director's fees to $60,000 per annum and the chairman's fees to $120,000 per annum effective immediately. It was also resolved that directors would be entitled to take part or all of their remuneration in the form of options priced on the same basis as under the ESOP scheme and subject to any shareholder and other approvals required. Directors were to notify the chairman of their preferred mix of remuneration. 13 Following this resolution, the managing director of the company, Mr Tchacos, prepared a paper entitled "2006 Employee Share Scheme and Board Options Recommendation" dated 9 September 2006. The paper contained recommendations for the issue of options under the ESOP and the issue of options to members of the board in lieu of cash remuneration. 14 There was a meeting of the board of directors on 14 September 2006 at which the minutes of the meeting of 26 July 2006 were accepted as a correct record and the following matters noted and resolved: The chairman presented a recommendation from the remuneration committee based upon a recommendation to the board from IZT [Mr Tchacos] dated 9th September in which the company's employees and directors remuneration and incentives were outlined. Following discussion on the remuneration philosophy for the company the following board resolutions were agreed to: … IT WAS RESOLVED that the following options be issued to the directors of the company [on] the same terms and conditions as the company's employees share option plan and that shareholder approval be obtained prior to being issued. Directors name Number of options Exercise Price Expiry date Neil Philip 742,500 87 cents 31 October 2007 Robert Boyson 742,500 87 cents 31 October 2007 Michael Fowler 742,500 87 cents 31 October 2007 Alastair Haydock 742,500 87 cents 31 October 2007 Total 2,970,000 15 At the same meeting the directors resolved to approve the issue of options to employees. 16 Before the primary judge the appellant challenged the accuracy of the board minutes insofar as they recorded the above resolutions and, in particular, he challenged their accuracy insofar as they referred to the need for the approval of shareholders. That challenge was rejected by the primary judge ([86] - [92]) and her conclusion on this point was not challenged on appeal. 17 In late September 2006 Nexus took action under the ESOP. On 26 September 2006 Mr Tchacos on behalf of the directors of Nexus wrote to employees inviting them to participate in the plan and offering to grant options on the terms indicated in the letter. The letter stated that the offer closed at 5 pm on 29 September 2006 and could be accepted before that time by returning the acceptance form enclosed with the letter. The primary judge referred to the rules of the ESOP, but for reasons which will become clear, it is not necessary for this Court to set out the details of those rules. The appellant was not sent a letter relating to the ESOP and he did not provide an acceptance in accordance with the rules by 29 September 2006. 18 In his appeal statement lodged under the Rules of Court the appellant had alleged that, in the alternative to his allegation that he acquired rights to acquire shares on 14 September 2006, he had acquired rights to acquire shares on 29 September 2006. That argument was put on the basis of an allegation that the non-executive directors' options were granted under the ESOP. That factual proposition was rejected by the primary judge ([67]) and the appellant does not challenge that conclusion on the appeal. 19 Nexus made an announcement to the ASX on 29 September 2006 to the effect that it had issued 6,624,300 options at an exercise price of 87 cents per share to eligible Nexus employees pursuant to the ESOP. The announcement also foreshadowed the following: In addition and subject to shareholder approval at the next Annual General Meeting, a further 4,770,000 million [sic] options are intended to be issued to the Managing Director and the non-executive directors. These options will also have an exercise price of 87 cents per share and will also expire on the [sic] 31 October 2007. 20 At a meeting of the board of directors on 29 November 2006, the board approved the minutes of the meeting held on 14 September 2006 subject to minor amendments which are not material. 21 The Annual General Meeting of the shareholders of Nexus was held on 30 November 2006. The notice of meeting identified an item of business being the approval of the issue of options to the appellant. The explanation in relation to this item included the following: 9. Approval for Issue of Options to Michael Fowler To consider and, if thought fit, to pass with or without amendment, the following resolution as an ordinary resolution: "That for the purposes of Listing Rules 7.1 and 10.11 and Chapter 2E of the Corporations Act and for all other purposes, approval is given for the Company to allot and issue 742,500 Options exercisable at $0.87 each on or before 31 October 2007 to acquire ordinary fully paid Shares in the capital of the Company to Michael Fowler on the terms and conditions set out in the Explanatory Statement accompanying this notice with a vesting date of 30 November 2006, subject to resolution 9 being passed." 22 The Notice of Meeting was accompanied by an Explanatory Memorandum and that document provided the following information in relation to the resolution for the approval of the issue of options to the appellant: Resolution 8 [sic] seeks Shareholder approval for the Company to grant 742,500 Options to Michael Fowler a Director of the Company. Shareholder approval for the grant of the Options the subject of Resolution 8 is sought for the purposes of: • Division 3 of Part 2E.1 of the Corporations Act - which governs the giving of financial benefits to "related parties", e.g. directors of a company; • Listing Rule 7.1 - which generally prohibits a company from issuing more than 15% of its capital within a 12 month period without shareholder approval; and • Listing Rule 10.11 - which requires the grant of securities to a director of a company be approved by shareholders. As part of the annual performance remuneration review of all employees and directors for the year ending 30 June 2006, the Directors recommended the grant of 742,500 Options to Michael Fowler. The exercise price of the Options is 87 cents and will expire on 31 October 2007. The policy for pricing these Options was set by the board in May 2005 and is determined by taking a minimum 40% premium to the Volume Weighted Average Price (VWAP) of the Nexus Shares traded on the Australian Stock Exchange in June and July 2006. The price and terms of the Options are the same as those granted to other employees for the same review period. The pricing of the options was then ratified at a board meeting held on 14 September 2006. The purpose of the proposed grant of Options is to honour remuneration agreements and to provide Michael Fowler with added incentive in lieu of salary whilst enabling the Company to preserve its cash reserves for expenditure on its existing business. The number of Options proposed to be granted to Michael Fowler has been determined on the basis that it is reasonable relative to the number of Options offered under the Company's Share Option Plan to other employees of the Company, having regard to their respective levels of seniority in the Company. The Options are being granted for no consideration. Consequently no funds will be raised as a result of the grant of the Options. A total of $645,975 in additional Share capital would be raised if the Options were exercised in full. Subject to Shareholder approval, the Options will be granted on the terms and conditions set out below in this Explanatory Statement. … The proposed grant of Options to Michael Fowler involves the provision of a financial benefit to a related party of the Company and, therefore, requires prior Shareholder approval. … 23 The shareholders passed the resolution which approved the allotment and issuing of 742,500 options to the appellant. 24 On 8 December 2006 and in accordance with rule 3.19A of the ASX Listing Rules, Nexus submitted an Appendix 3Y form, "Change of Director's Interest Notice", to the ASX wherein it advised it that the appellant's indirect interest in Nexus had changed on 30 November 2006 in that the appellant had acquired a further 742,500 options, with an exercise price of 87 cents and an expiry date of 31 October 2007, through Tess Aust. 25 In its annual report for the year ended 30 June 2007, Nexus stated that it had granted the 742,500 options to the appellant on 30 November 2006 and that the options had vested, with a "fair value per option at grant date" of $0.5552.

Issues on the Appeal 55 In large measure, the appellant reiterated the submission he put in the Court below. He submitted that he had a right to acquire shares on 14 September 2006 within the terms of Division 13A of the 1936 Act. He submitted that he had a contractual right at that time which could lead to an acquisition of shares and that that was sufficient. He submitted that an analysis of the cases showed that the fact that the right was subject to conditions did not mean that it was not a right to acquire shares. He further submitted the word "creates" in s 139G(c) strongly supports the conclusion that it is the contract which gives rise to the right and therefore the relevant date is the date of the contract. The appellant also repeated his submission based on Brown v Heffer to the effect that the shareholder approval had retroactive effect so that the contract is to be treated as an unconditional contract as from 14 September 2006. 56 The appellant put an argument on the appeal which was not put to the primary judge, nor was it included in the appellant's written submissions on the appeal. It was identified as a result of a question from the Court in the course of oral submissions, although counsel for the appellant frankly acknowledged that he was intending to put the argument in any event. 57 The argument concerned the interaction between Division 13A and the CGT provisions in the Income Tax Assessment Act 1997 (Cth) ("the 1997 Act") and it was that Parliament intended that in relation to rights under employee share schemes the two sets of provisions operate conformably. For that to be done (so it was argued) the acquiring of a right to acquire a share within Division 13A must, in the circumstances of a case such as the one before the Court, be held to result from the contract which gave rise to the right, and that is the contract made on 14 September 2006. 58 In oral submissions, the appellant's submissions were primarily directed to the CGT provisions in force during the relevant year of income. With the leave of the Court the respondent responded in writing and he did so by reference to those provisions. The appellant's written reply (again lodged with leave of the Court) also referred in some detail to the CGT provisions at the time Division 13A was introduced. 59 In responding to the appellant's argument, the respondent sought to uphold the reasoning of the primary judge. 60 It is convenient to begin by noticing some matters of background. 61 Division 13A in the 1936 Act replaced s 26AAC in that Act. Section 26AAC had in turn replaced s 26(e) of the 1936 Act (see new s 15-2 of the 1997 Act but see also s 139DE of the 1936 Act). 62 The parties put forward the following extrinsic material in connection with the issue of the proper construction of Division 13A. (1) The Explanatory Memorandum relating to the introduction in 1974 of s 26AAC of the 1936 Act; (2) The Explanatory Memorandum relating to the introduction into the House of Representatives of the Taxation Laws Amendment Bill (No 2) 1995 which contained Division 13A; (3) The Explanatory Memorandum relating to the introduction into the Senate of the Taxation Laws Amendment Bill (No 2) 1995. 63 I do not think the extrinsic material is of any real assistance on the critical issue of construction because it does not identify anything that is not apparent from the sections themselves. The third item of extrinsic evidence provides some context to the purpose of s 139DD and the related amendments to Part III of the 1936 Act: 2.44 Situations may arise where rights to acquire shares are given to employees and there are conditions attached to those rights which result in the employee being unable to exercise the rights. These rights to acquire shares would have been valued as if the restrictions did not apply. Where an employee loses these rights to acquire shares without ever having had the power to exercise the rights, solely because of termination of employment or because the exercise of the rights was conditional on certain employer performance targets being met, the employee, on application, will be treated as never having provided thebenefit (sic). 2.45 The refund will only be provided in respect of rights received in the employer company or holding company of the employer company. [New section 139DD] … 2.1 Where a share or right under an employee share scheme is acquired by an employee, the amount that will be taken to have been paid by the taxpayer as consideration for the purposes of the CGT provisions will be: where the discount on the share or right to acquire a share is to be included in assessable income in the year of income in which the share or right was acquired - the greater of the amount actually paid for the share or right or the market value of the share or right at the time of acquisition of the share or right [new subsection 160ZYJB(2)]; where the share or right is a qualifying share or right and the discount has been included in the taxpayer's assessable income in a later year of income, i.e., the year of income in which the 'cessation time' occurs, then: if the share or right is disposed of by the taxpayer at the 'cessation time' or within 30 days of the 'cessation time', Part IIIA of the ITAA does not apply in respect of the disposal of the share or right by the taxpayer [new subsection 160ZYJB(3)]; if the share or right is not disposed of by the taxpayer at or within 30 days of the 'cessation time', the taxpayer will be taken to have paid, at the 'cessation time' an amount equal to the market value of the share or right [new subsection 160ZYJB(4) of the ITAA]. 2.2 A provision is inserted which applies to shares or rights disposed of by an associate of a taxpayer. For the purpose of calculating the capital gain on the disposal of the share or right, the associate will be taken to have paid the greater of the amount paid by the associate and the market value of the share or right at the tie of acquisition. [New section 160ZYJC] 64 It is plain enough, as her Honour held, that although s 139B, for example, refers to the acquisition of a share or right, the right being referred to is a right to acquire a share. That follows from the terms of ss 139E, 139CD(1)(b), 139DD, 139FC(1), 139F, 139FE, 139FF and 139G in Division 13A. As her Honour noted, in the predecessor to Division 13A i.e., s 26AAC, it was expressly stated that the right was a "right to acquire a share in a company". 65 An option is a right to acquire a share within Division 13A. An option is a conditional contract to sell the property to which it relates and it gives the option holder a contingent equitable interest in the property to which it relates. It is a contract to sell the property (or I might add issue shares) on condition that the grantee gives the notice and does the other things stipulated in the option. The granting of an option is the granting of a new right by the grantor and the grantee's equitable interest is measured by what a court of equity will decree in an action for specific performance: Commissioner of Taxes (Queensland) v Camphin (1937) 57 CLR 127 at 133 - 134 per Latham CJ; Laybutt v Amoco Australia Pty Limited (1974) 132 CLR 57 at 75 - 76 per Gibbs J (as he then was). 66 Where a contract for the sale, transfer or creation of property is conditional upon, for example, the consent of a third party the proposed transferee will be able to obtain relief in equity, but that relief will be limited to an order that the proposed transferee do all such things as might be necessary to obtain the consent of the third party: McWilliam v McWilliams Wines Pty Limited and Others (1964) 114 CLR 656 at 660 - 661 per McTiernan and Taylor JJ. 67 The Court was taken to authorities which have addressed the question of what rights under employee share schemes fall within Division 13A or its predecessors. It is convenient at this point to address these authorities. 68 In Abbott v Philbin (Inspector of Taxes) (1959) 39 TC 82; [1959] 1 WLR 667 (Roxburgh J); [1961] AC 352 (House of Lords) the issue was whether an option contract for the acquisition of shares was a perquisite within the Income Tax Act 1952 (UK) Schedule E Rule 1. The Inspector of Taxes assessed the appellant for income tax when shares were issued to him pursuant to the exercise of an option. The appellant was assessed on the profit being the difference between the market price and the option price less the consideration paid for the options. The appellant contended that he should have been assessed on the options in the prior year when he purchased the options. The company had to secure the consent of H.M. Treasury to the issue of shares as a result of the exercise of options before it could issue option certificates. It obtained that consent and issued the option certificates in the same year of income as the company decided to issue the options. Roxburgh J said that the option contract was a perquisite within the taxing provision. His Lordship said that the option contract before exercised nevertheless gave the option holder a right, albeit contingent or conditional, to some shares (at 99 (TC); 681 - 682 (WLR)). 69 The Court of Appeal allowed an appeal by the Inspector of Taxes, but on a further appeal by the taxpayer the House of Lords restored the decision of Roxburgh J. Viscount Simonds said (at 365) that when the appellant was granted the options he acquired something of value and it mattered not whether the right fell into the category of proprietary or contractual right, "or into some dim twilight that divides those juristic conceptions". As long as they could be turned to pecuniary account, they were a perquisite or profit within the taxing provision. 70 Lord Reid said (at 372 and 376): It appears to me that if a right can be turned to pecuniary account that in itself is enough to make it a perquisite. … … but I can sum up my view by saying that conditions and restrictions attached to or inherent in an option may affect its value, but are only relevant on the question whether the option is a perquisite if they would in law or in practice effectively prevent the holder of the option from doing anything when he gets it which would turn it to pecuniary account … 71 Lord Radcliff's speech was to similar effect (at 378 - 379). 72 In Donaldson v Commissioner of Taxation [1974] 1 NSWLR 627 the issue was whether options under a "Supplemental Key Personnel Option Scheme" were taxable in the year of income in which the rights were created. The Commissioner of Taxation found that they were and Bowen CJ in Eq. dismissed an appeal by the taxpayer. The relevant provision of the taxation legislation was s 26(e) of the Income Tax Assessment Act 1936 - 1971 (Cth) which provided that included in a taxpayer's income was: (e) the value to the taxpayer of all allowance, gratuities, compensations, benefits, bonuses and premiums allowed, given or granted to him in respect of, or for or in relation directly or indirectly to, any employment of or services rendered by him, whether so allowed, given or granted in money, goods, land, meals, sustenance, the use of premises or quarters or otherwise. 73 Bowen CJ in Eq. decided first that the rights conferred on the taxpayer were of an income character and secondly, that they involved a benefit which could be valued and the value of which could be cast in money terms. As to the second matter, he said that he was not persuaded that the rights, which related to shares quoted on the Sydney Stock Exchange, had no immediate value to the taxpayer or were incapable of being valued in money terms. As to a third matter, namely, whether the rights had a present value to the taxpayer and were enjoyed or were capable of being enjoyed by him in the income year, Bowen CJ in Eq. said (643 - 644): I am unable to accept a proposition that the option rights conferred on Donaldson did not "come in" to him or were not enjoyed by him in the year of income. Items rendered assessable income by s. 26(e) have to be regarded according to their nature, whether they are meals, use of quarters, or option rights. To say the option rights could not be exercised in the year of income is no answer to the application of s. 26(e). Indeed, it is to confuse the enjoyment of the fruit of the rights with the enjoyment of the rights, a mistake made in argument on behalf of the Crown in Abbott v. Philbin. Again, to say rights are non-transferable is no answer to the application of s. 26(e). Meals which are consumed may be non-transferable and yet they are within s. 26(e). What is made assessable income by s. 26(e) is the value to the taxpayer of the benefit allowed, given or granted to him, that is to say, the rights conferred on him which others lack. Whether they have any value to him, and what that value is, are matters to be determined according to the facts of each particular case, preferably with the assistance of expert evidence, but that does not affect the principle that, where such rights are given they are present rights, though exercisable in the future, and confer an immediate benefit upon the taxpayer which he enjoys as the owner of them. 74 In Fraunschiel the issue was whether rights given to employees of a company under an employee investment plan "fell within s 26AAC(6) of the 1936 Act", or, in the case of Mr Fraunschiel, in the alternative, s 26(e) of the Act. Lee J considered the circumstances in which it can be said that a person has a right to acquire shares. His Honour considered that under an option to purchase the option-holder held a right to acquire shares even before actual acquisition by exercise of the option. The same could not be said about a right to accept an offer because such a right has no enforceable quality attached to it. His Honour stated (at 975): The offer may be withdrawn or revoked and the right to accept vanishes with the destruction of the offer. 75 Nicholas J considered Abbott v Philbin (Inspector of Taxes) and Donaldson in Tagget v Commissioner of Taxation [2010] FCA 25. His Honour's decision was upheld on appeal: (2010) 188 FCR 128. There are aspects of his Honour's reasons which are consistent with the conclusions I reach in this matter, but other aspects which are perhaps inconsistent with the reasoning of the Full Court in the subsequent decision of McWilliam (at [60] - [62]). 76 In McWilliam the Full Court of this Court considered an appeal from the Administrative Appeals Tribunal under s 44 of the Administrative Appeals Tribunal Act 1975 (Cth). The appeal was on, and limited to, a question of law. 77 It is necessary to address the facts in McWilliam in some detail. The taxpayer, Mr McWilliam, had acquired certain options to purchase shares in Seven Network Ltd, a public company. The issue in the case was, like the issue in the present case, the date on which the taxpayer had acquired a right to acquire a share in the company for the purposes of the calculation of the discount under s 139CC of the 1936 Act. The taxpayer's case was that he had acquired the right on 1 July 2003 whereas the Commissioner's case was that it had occurred on 22 December 2003, or alternatively, 28 November 2003. 78 The Court referred to the following findings of fact made by the Tribunal: (1) the taxpayer was offered employment by the company and one of the matters discussed was the issue of options in the company to the taxpayer; (2) an agreement between the taxpayer and the company was reached that the taxpayer would have 2,000,000 options at specified share prices on assuming office; (3) a draft contract was prepared and it referred to the issue of the options. However, the draft contract was never executed by either party; (4) the taxpayer commenced employment with the company in the position of Commercial Director on 1 July 2003 and he was appointed a director of the company on 3 September 2003; (5) on 28 November 2003 the annual general meeting of the shareholders of the company passed a resolution approving the issue of options for the taxpayer; (6) the taxpayer and the company executed an option deed on 22 December 2003 wherein the company granted the taxpayer 2,000,000 options on the terms of the deed and on the basis that there was no option issue fee. The issue date of the options was said to be 22 December 2003. Clause 3 of the option deed made provision for the options to vest in three tranches described by the Full Court as follows (at 482 [24]): Clause 3 of the Option Deed made provision for the options to vest in three tranches: 1 million options with an exercise price of $5.00 on 9 May 2004 if certain conditions as to Seven Network Limited's share price were satisfied; 500,000 options with an exercise price of $6.00 on 9 May 2005 if certain other conditions as to its share price were satisfied; and 500,000 options with an exercise price of $7.00 on 9 May 2006, again, if certain further conditions as to its share price were satisfied. 79 For the purposes of the appeal to the Full Court, the important factual conclusion by the Tribunal was that as at 1 July 2003 the taxpayer had an immediate legally enforceable entitlement to the options which had been previously discussed and to the acquisition of shares upon exercise of the options. 80 The Full Court noted that the Tribunal held that the right to obtain options was a relevant right within the meaning of s 139B. The Tribunal found that the agreement in force as at July 2003 was not conditional upon approval, or a formal deed or upon shareholder approval (at 486 [39]). For reasons which will become clear that is a key finding. 81 The Commissioner's principal submission in McWilliam was that the taxpayer did not have a right to acquire shares until the option deed was executed on 22 December 2003 and that until then he had no more than a right to require his employer to issue him with options and that was not a relevant right within Division 13A. 82 The Full Court drew a distinction between a right to acquire an option and the acquisition of the option. The Court noted that on the appeal the Commissioner did not challenge any of the Tribunal's findings of fact. The Court concluded that the Tribunal found as a matter of fact that the taxpayer had acquired the options themselves on 1 July 2003 and that in those circumstances the appeal must be dismissed. 83 The Court went on to consider whether, on the assumption that all the taxpayer acquired on 1 July 2003, was a right to acquire an option that was a right to acquire a share within Division 13A. The Court's conclusions were obiter dicta. The Court said that a right to acquire options which is not conditional on future events is a right to acquire shares within Division 13A. The Court made it clear that not all entitlements which may lead to an acquisition of shares is a right to acquire shares within Division 13A. The Court said (at 491 [74]): For example, a right to accept an offer will not be such a right (see Fraunschiel v Federal Commissioner of Taxation [1989] FCA 236; (1989) 89 ATC 4616; (1989) 20 ATR 955 per Lee J) nor, if it be different, will a pre-emptive right to be offered shares to buy if the prospective vendor is desirous of selling. 84 The Court went on to say that the categories in s 139G were not mutually exclusive and that paragraph (c) could apply where there was the creation of a beneficial interest in the right to acquire shares. 85 I turn now to set out my reasons for concluding that the primary judge was correct. 86 The terminology which is used in connection with options to acquire shares is that the options are "granted" or "issued". In equity at least, I do not understand that that involves a particular act or event such as registration before it can be said that the options are granted or issued. Assuming the existence of an enforceable contract the question of when options are granted or issued depends on the intention of the parties. For example, in McWilliam the option deed granting the options was dated 22 December 2003 and in that deed the parties agreed that the issue date of the options would be 22 December 2003. Nevertheless, there was an unconditional agreement to grant or issue the options entered into on 1 July 2003. 87 This case raises a question not dealt with in the previous authorities. To explain why this is so it is convenient to postulate the possible steps between an enforceable contract and the issuing of shares. After the contract there may be a condition precedent to performance of the obligation to grant or issue options. That condition may or may not be met. If met, the options are granted or issued. There may be some other act involved at this point or later such as the issue of option certificates or entering of the details of the grant of options on the company's register under s 170 of the Corporations Act 2001 (Cth) but those matters are of no consequence for present purposes. Shares are not acquired until the options are exercised and there may be conditions upon the exercise of the options. In the case of an employee share scheme situation the conditions may include matters such as continued employment with the company at certain dates, or the achievement by the employee of performance targets, again at certain dates. The important point is that those conditions may not be met and therefore shares may never be acquired. If the conditions are met and the options exercised then the shares are actually acquired. 88 Ever since Abbott v Philbin (Inspector of Taxes) and Donaldson it has been recognised that options fall within the legislation which was replaced by Division 13A. To hold otherwise would, as Bowen CJ in Eq. said in Donaldson, "confuse the enjoyment of the fruit of the rights with the enjoyment of the rights". This was acknowledged by the Commissioner in his argument in McWilliam. 89 Furthermore, the provisions of Division 13A and, in particular, ss 139DD and 139FD, recognise that a taxpayer may have a right to acquire a share under an employee share scheme in the form of an option where, because of the non fulfilment of conditions on the exercise of the option, the right is lost. That is consistent with the decision in Donaldson. 90 The obiter dicta of the Full Court of this Court in McWilliam go a step further in that the Court held that the right to acquire options as distinct from the actual acquisition of options, was a right to acquire shares within Division 13A. However, the remarks of the Court do not cover this case because the Court in McWilliam was considering an unconditional right to acquire shares. That is not the case here. The respondent accepted the correctness of the decision in McWilliam. 91 At the other end of the spectrum we know from Fraunschiel (approved in McWilliam at 491 at [74]) that there are "rights" which are not rights within Division 13A such as the ability to accept an offer (which may be withdrawn at any time) or a pre-emptive right to be offered shares if the owner decides to sell. As the Full Court said in McWilliam not all entitlements which may lead to the acquisition of shares are rights for the purpose of Division 13A. 92 In this case the appellant's right on 14 September 2006 lies somewhere between the examples given in Fraunschiel and the right which was the subject of the obiter dicta in McWilliam. The appellant had a right without any further action on his part or anybody else, but he did not have an unconditional right to acquire options. 93 I have referred above to concepts of equitable proprietary rights as did the primary judge. That is because self evidently the concept of a right to acquire a share involves the concept of the right to acquire an item of property. On one view the appellant had a contingent right to a contingent equitable interest in shares on 14 September 2006. Another way of expressing the matter is that he had a conditional right to options on 14 September 2006. I do not think an analysis of property law concepts and the differences between contingent interests and mere expectations (Australian Securities and Investments Commission v Carey and Others (No 6) (2006) 153 FCR 509 at 519 - 520 [34] per French J (as his Honour then was) is decisive of the present question. Rather, the solution is to be found by focusing on the particular rights the appellant had on 14 September 2006 in the context of the statutory provisions in Division 13A. 94 On 14 September 2006 the appellant had a right to insist that the company put the issue of options to him to its shareholders for their approval. His right went no further than that. The company's shareholders were perfectly entitled to reject the proposal and, if they did, the appellant had no redress against the company. To my mind such a right is not properly characterised as a right to acquire shares in the company. The right the appellant had as a result of the contract entered into on 14 September 2006 was, as a matter of fact, an essential pre-condition to the right to acquire shares. But for the directors' resolution there would have been no right to acquire shares. Another way of putting the matter is that as at 14 September 2006 the appellant had an entitlement which may have led to the acquisition of shares. It may be said that the directors' resolution was the source of the appellant's right to acquire shares. All of these things may be accepted at a general level, but to my mind they do not address the essential question of the nature of the legal right the appellant had as at 14 September 2006. That was a right that may have led to the acquisition of a right to acquire shares, but it was not a right to acquire shares. 95 I would add that I do not think the level of certainty about whether the shareholders would approve the issue of options to the appellant affects the legal conclusion. I see no basis to interfere with her Honour's conclusions of fact in relation to that matter which I have summarised above (at [51]), but even if there was, it does not affect the legal conclusion. 96 I am unable to discern anything in the provisions of Division 13A which suggests that the conclusion that the appellant did not have a right to acquire shares on 14 September 2006 is not correct. 97 In the course of submissions the Court's attention was drawn to Section 139FD which is set out above (at [35]). It provides that in determining the market value of an unlisted share or unlisted right, the share or right and any share that may be acquired as a consequence of the exercise or operation of the right is taken not to be subject to any conditions or restrictions. 98 As at 14 September 2006 the appellant did not have a right which he could "exercise" and which would result in the acquisition of a share. Can it be said that, by contrast, as at 14 September 2006 the appellant had a right whose "operation" resulted in the acquisition of a share? If so, does it follow that the right that the appellant had on 14 September 2006 fell within the provisions of Division 13A? 99 I think s 139FD is inconclusive on the present issue. On the one hand, the agreement of 14 September 2006 operates together with other matters, including shareholder approval, compliance with any other conditions and the exercise of the options themselves to result in the acquisition of shares. On the other hand, it may be that exercise or operation are concepts intended to act in a mutually exclusive way and as the Court is undoubtedly dealing with options in this case the relevant, and indeed only, concept is the exercise of a right. If that view is correct, s 139FD would in fact be an argument in the respondent's favour. Although I would be inclined to the first view, I do not think arguments based on s 139FD are strong enough to carry the argument of either party very far. 100 Section 139G provided a definition of the circumstances in which a person acquires a share or right. Paragraphs (a) and (b) are not relevant in the circumstances of this case. I do not think paragraphs (d) and (e) assist the appellant's argument. They refer to a legal or beneficial "interest" in a right to acquire shares and before determining if there is an interest one must be satisfied of the prior question that the right being considered is a right to acquire a share. It is true, as I have said, that the right the appellant had on 14 September 2006 included the right to invoke the aid of a court of equity, but that did not amount to a beneficial interest in an option to purchase shares. 101 If any assistance is to be gained from s 139G then it is from paragraph (c) which provides that a person acquires a right to acquire shares if another person "creates" that right in that person. That no doubt occurred in this case, but the question is when it occurred. I do not think the word "creates" points to 14 September 2006. By at least 30 November 2006 the right had been created, but I do not think the word "creates" means that 14 September 2006 is the relevant date, if the right created on that date is not otherwise properly characterised as a right to acquire shares. 102 My conclusion is that by reference to Division 13A and the common law concepts which I have identified the right the appellant had on 14 September 2006 was not a right to acquire shares. 103 However, the new argument raised by the appellant on the appeal was that the Court should also take into account as a relevant contextual matter the CGT provisions and the relationship between them and Division 13A. 104 There are two aspects to the appellant's new argument. The first aspect is to say that it was intended that Division 13A and the CGT provisions operate together and in conformity with each other and then consider the facts of this case to determine whether the CGT provisions pointed to an acquisition date for CGT purposes of 14 September 2006 or 30 November 2006. A difficulty with this argument is that this is an associate case and as this argument was not raised below not all the matters relevant to the possible application of the CGT provisions were explored. The second aspect is to approach the matter more broadly and consider the CGT provisions in 1995 when Division 13A was enacted. 105 I start with the broader argument. 106 Division 13A was enacted by the Taxation Laws Amendment Act (No 2) 1995 ("the 1995 Amendment Act"). 107 In the 1995 Amendment Act Parliament addressed the relationship between Division 13A and the CGT provisions. I have already set out a relevant passage from the Explanatory Memorandum (at [63]). 108 The 1995 Amendment Act enacted a new Division 9A in Part IIIA in the 1936 Act and that Division included s 160ZYJB (a non associate case) and s 160ZYJC (an associate case). These sections were as follows: Section 160ZYJB: Shares or rights under employee share scheme (1) This section applies if an amount is, or apart from section 139BA would be, included in a taxpayer's assessable income under Division 13A of Part III as a result of the taxpayer acquiring a share or right. (2) If subsection 139CC(2) applies, the taxpayer is taken for the purposes of this Part to have paid, at the time when the share or right is acquired by the taxpayer, as consideration in respect of the acquisition, the greater of: (a) the amount paid by the taxpayer as consideration in respect of the acquisition; and (b) the market value of the share or right at the time of the acquisition Note: Market Value is defined in Subdivision F of Division 13A of Part III. (3) If subsection 139CC(3) applies, this Part does not apply in respect of the disposal mentioned in that subsection. (4) If subsection 139CC(4) applies, the taxpayer is taken for the purposes of this Part to have paid, at the cessation time, an amount equal to the market value of the share or right at that time as consideration in respect of the acquisition. Note: Cessation time is defined in sections 139CA and 139CB. Section 160ZYJC: Shares or rights under employee share scheme-associates (1) This section applies if an amount is included in a taxpayer's assessable income under Division 13A of Part III as a result of an associate of the taxpayer acquiring a share or right. Note: Associate is defined in section 139GE. (2) The associate is taken for the purposes of this Part to have paid, at the time when the share or right is acquired by the associate, as consideration in respect of the acquisition, the greater of: (a) the amount paid by the associate as consideration in respect of the acquisition; and (a) the market value of the share or right at the time of the acquisition. 109 The appellant contends that the assumption underlying these sections is that the time of acquisition of the share or right is the same under the CGT provisions and Division 13A. That appears to be the case. The appellant contends a contextual matter relevant to the determination of the time of acquisition of a share or right under Division 13A is the time of acquisition of a share or right under an employee share scheme within Part IIIA. I agree that that would be a relevant matter. The appellant contends that in 1995 the time of acquisition of a share or right under an employee share scheme within Part IIIA was the time of the contract. Section 160U of the 1936 Act dealt with the time of acquisition or disposal of an asset and it provided relevantly: (3) Where the asset was acquired or disposed of under a contract, the time of acquisition or disposal shall be taken to have been the time of the making of the contract. 110 The High Court applied this subsection in Commissioner of Taxation of the Commonwealth of Australia v Sara Lee Household & Body Care (Australia) Pty Limited (2000) 201 CLR 520. The issue in that case was the date of the disposal of assets by a United States corporation and its subsidiaries and associated companies. There was the main purchase and sale agreement entered into on 31 May 1991 which dealt with the disposal of the assets. On 30 August 1991 the buyer assigned rights and obligations under the agreement, there was an amending agreement and settlement under the agreement was effected. The question for the Court was when, for the purposes of CGT, the subsidiary of the seller had disposed of its assets to the subsidiary of the buyer. The subsidiary of the buyer was a company incorporated between 31 May 1991 and 30 August 1991. The answer to the question determined whether the capital gain on the disposition was made during the 1991 income year or the 1992 income year. 111 The High Court found that the fact that the obligation of the purchaser under the agreement dated 31 May 1991 was subject to a number of conditions (condition precedent to performance of the contract; not conditions precedent to the formation or existence of the contract) was not a bar to a conclusion that the disposition of the relevant assets occurred on 31 May 1991 (at 535 [30]). 112 There was no question in the case but that the disposal of the assets had been under a contract for the purposes of s 160U(3) of the 1936 Act. 113 The Court considered that it was significant that subsection 160U(3) referred to "the time of acquisition or disposal", not the time of acquisition and disposal (at 538 [38]). 114 The High Court did not seem to disagree with the following observations of the Full Court which they summarised as follows (at 537 [40]): The Full Court, before coming to the issue to be resolved, made the following observations as to the legislative scheme. There is no reason why the date of disposition and the date of acquisition referred to in s 160U are necessarily the same. The section refers to the time of acquisition or disposal. Other provisions make it clear that disposal and acquisition are not necessarily contemporaneous, and it is not difficult to think of cases where they may be different. In order for there to be a disposal under a contract for the purposes of s 160U(3) it is not necessary that the contract be unconditional or specifically enforceable. What is relevant is the time of the making of the contract, not the time when it became unconditional, or specifically enforceable. Nor is there any reason why an asset cannot be said to be disposed of under a contract even though the transferee of the asset was not a party to the contract. 115 The Court said that the words "under a contract" in s 160U(3) directed attention to the "source of the obligation which was performed by the transfer of assets which constituted the relevant disposal" (at 537 [42]). The Court said that the source of the obligation to effect the disposal was the agreement of 31 May 1991. The case was about disposal and the Court found that the transferor was acting in performance of a pre-existing contract. The Court said that whether the same was true of the transferee was beside the point (at 538 [43]). 116 In a case like the present, there is only one contract and there is force in the appellant's submission that it was the source of the right to acquire the options and that by reason of s 160U(3) the date of the making of the contract was the date of acquisition. 117 By the year of income in issue (i.e., year ended 30 June 2007) the CGT provisions were in the 1997 Act. They were very complex. Part 3-1 of the 1997 Act dealt with CGT (general topics) and Part 3-3 dealt with CGT (special topics). Employee Share Schemes were dealt with in Subdivision 130-D of Part 3-3. In broad terms there were two sections, which seemed to have a similar purpose or function to s 160ZYJB and s 160ZYJC of the 1936 Act, that is to say, in a non associate case, to equate the market value determined under Division 13A with the cost base (or reduced cost base) for CGT purposes and to do the same thing in an associate case in relation to the cost base or reduced cost base of the acquirer of the share or right. The relevant parts of the two sections are as follows: Section 130-80: Share or right acquired under employee share scheme (1) This section sets out what happens if you: (a) *acquire a *share or right at a discount (within the meaning of Subdivision C of Division 13A of Part III of the Income Tax Assessment Act 1936) under an *employee share scheme; or (b) acquire a share or right that, because of section 139DQ of that Act, is treated, for the purposes of Division 13A of Part III of that Act, as if it were a continuation of a share or right acquired under an employee share scheme. Note: The fact that you made an election under section 139E of the Income Tax Assessment Act 1936 does not prevent a share or right from being treated as a continuation of a share or right acquired under an employee share scheme. (2) The first element of the *cost base and *reduced cost base of the *share or right is its *market value (worked out under sections 139FA to 139FF of the Income Tax Assessment Act 1936) when you *acquired it. … Section 130-85: Share or right acquired under employee share scheme involving your associate (1) This section sets out the modification to the rules about *cost base and *reduced cost base that happens if: (a) you *acquire a *share or right at a discount (within the meaning of Subdivision C of Division 13A of Part III of the Income Tax Assessment Act 1936) under an *employee share scheme; and (b) an amount is included, under section 139D of the Income Tax Assessment Act 1936, in: (i) your *associate's assessable income; or (ii) the assessable income of a company (an affiliate company) where you own an indirect interest in a *share in the company or in a right to acquire a share in it through one or more interposed companies, partnerships or trusts. (2) The first element of the *cost base and *reduced cost base of the *share or right is it market value (worked out under sections 139FA to 139FF of the Income Tax Assessment Act 1936) when you *acquired it. 118 The Court was referred to the time of acquisition provisions in the 1997 Act. The dictionary definition of "acquire" in s 995 refers relevantly to Division 109 as setting out the circumstances in which and the time at which a CGT asset is acquired. 119 It must be remembered that the case before the primary judge and on appeal did not involve an examination of the date of acquisition of a right for CGT purposes. Nor was any consideration given to the circumstances in which Tess Aust acquired the right. Nevertheless, to make good his submission the appellant took the Court to Division 109 to establish the proposition for which he contended, namely, that for CGT purposes in this case the date of acquisition of the right was the date of the contract (i.e., 14 September 2006). 120 The appellant submitted that this case was covered by s 109-10 item 2, that is to say, the date of acquisition in a case where a company issues or allots equity interests or non equity shares in the company is when the contract is entered into or, if none, when equity interests or non-equity shares are issued or allotted. In the alternative, and if this be wrong the appellant relied on s 109-5(2) item D1, that is to say, the date of acquisition when an entity creates contractual or other rights in a person is when the contract is entered into or the right created. 121 The respondent responded to these arguments by putting a number of propositions. A number of the propositions had a good deal of force. First, he submitted that there was already an asymmetry in an associate case (like the present) because the discount was included in the taxpayer's assessable income for Division 13A purposes whereas the market value was relevant to the cost base of the rights held by the acquirer. Secondly, the appellant's approach to Division 109 was wrong because the starting point was s 109-5(2) item D1 and not s 109-10 item 2. Tess Aust had not entered into a contract so that the relevant date was the date upon which the right was created. In this case that was 30 November 2006. Thirdly, s 109-10 item 2 was not relevant in a case such as the present because the right acquired by Tess Aust was not an equity interest within Subdivision 974-C of the 1997 Act and, in particular, s 974-75(1) item 4(b) and s 974-130(1) and (3). 122 The issues raised by the submissions of the parties are complex. I have decided that I do not need to address them. Even if I was to reach the view with a fair degree of confidence that in the non-associate case and in the associate case or only in the former, the date of acquisition for CGT purposes in a case like the present is the date of the contract (i.e., 14 September 2006) that is only one factor in the interpretation of the expression a right to acquire a share within Division 13A and it cannot prevail over the clear view I have reached about the meaning of the expression. The expression does not include the right acquired by the appellant or Tess Aust on 14 September 2006. 123 The appellant put an alternative submission to the effect that the approval of shareholders on 30 November 2006 operated retrospectively in the sense that he is taken to have had an unconditional right on 14 September 2006 and that this was so for the purposes of Division 13A. He seemed to submit, as I understood him, that there was a general principle of common law, more particularly contract law, that a contract subject to a condition is taken to have effect from the date of the contract even though the condition is not satisfied until some time afterwards. 124 The primary judge rejected the submission and so would I. Even if there was such a principle, I am far from convinced that it would be appropriate to apply it in the case of Division 13A. That Division provided its own quite detailed regime which included a valuation at a particular date and inclusion of the discount in the taxpayer's assessable income in a particular year of income. 125 In any event, I do not think the cases the appellant relied on support the proposition he advanced. Brown v Heffer was a case about the doctrine of ademption and it was decided in the context of the Closer Settlement Acts (NSW). Windeyer J, who wrote separate reasons from the joint reasons of Barwick CJ, McTiernan, Kitto and Own JJ, said (at 352) that the giving of consent had a kind of "retroactive effect" making the entitlement effective as from its date. Nevertheless, he joined in the orders of the other members of the Court who decided that there was no ademption because the equity or equitable interest remained inchoate until the testator's death. It seems to me that the result in the case would have been different had the Court expounded the principle for which the appellant said it was authority. 126 As to the other authority the appellant relied on, Hill End Gold Ltd v First Tiffany Resources Corporation, I respectfully agree with the primary judge that this case does not advance the matter because in it Brereton J was merely intending to follow Brown v Heffer and the other authorities to which his Honour referred.

Fowler v Commissioner of Taxation

At a glance

Court

Decision date

Before

Source

Judgment (25 paragraphs)

Parties

Legislation Cited (6)

Cases Cited (26)