Leighton v Commissioner of Taxation

4 In the relevant income years, s 98(3) of the ITAA 1936 provided: Where a beneficiary of a trust estate who is presently entitled to a share of the income of the trust estate: (a) is a company and is not, in respect of that share of the income of the trust estate, a beneficiary in the capacity of a trustee of another trust estate; (b) is a non-resident at the end of the year of income; and (c) is not: (i) a beneficiary to whom subsection 97A(1A) applies in relation to the year of income; or (ii) a body, association, fund or organization referred to subparagraph 97(3)(c)(i) or (ii); the trustee of the trust estate shall be assessed and is liable to pay tax in respect of: (d) so much of that share of the net income of the trust estate as is attributable to a period when the beneficiary was a resident; and (e) so much of that share of the net income of the trust estate as is attributable to a period when the beneficiary was not a resident and is also attributable to sources in Australia; at the rate declared by the Parliament for the purposes of this subsection. 5 Subsection 95(1) of the ITAA 1936 defined "net income" as follows: net income, in relation to a trust estate, means the total assessable income of the trust estate calculated under this Act as if the trustee were a taxpayer in respect of that income and were a resident, less all allowable deductions, except deductions under Division 16C or Schedule 2G and except also, in respect of any beneficiary who has no beneficial interest in the corpus of the trust estate, or in respect of any life tenant, the deductions allowable under Division 36 of the Income Tax Assessment Act 1997 in respect of such of the tax losses of previous years as are required to be met out of corpus. 6 Also relevant is the definition of "trustee" in s 6(1) of the ITAA 1936, which provided, materially: trustee in addition to every person appointed or constituted trustee by act of parties, by order, or declaration of a court, or by operation of law, includes: (a) an executor or administrator, guardian, committee, receiver, or liquidator; and (b) every person having or taking upon himself the administration or control of income affected by any express or implied trust, or acting in any fiduciary capacity, or having the possession, control or management of the income of a person under any legal or other disability. Paragraph (b) of this definition assumed an importance in the disposition of the dismissal of Mr Leighton's "appeal" by the learned trial judge and in the submissions before us. 7 Some general observations may be made about these provisions. 8 Though s 95(1) of the ITAA 1936 defines "net income" in relation to a trust estate, the expression "income of the trust estate" is not itself defined. In Howey v Federal Commissioner of Taxation (1930) 44 CLR 289 at 293 (Howey), Rich and Dixon JJ remarked of that expression as it appeared in the materially indistinguishable s 31(2) of the Income Tax Assessment Act 1922 (Cth) and of the likewise materially indistinguishable definition of "trustee" in s 4 of that earlier Act: It appears to relate to income derived by a trustee from property under his control. The income derived by the appellant is not that of a trust estate of which he is a trustee. To meet this difficulty it is said that the wide definition of "trustee" in sec. 4 covers his case. But the word is to have its defined meaning only unless the contrary appears, and it is therefore difficult to apply the definition in order to overcome the effect of the references in sec. 31 to "income of the trust estate." These references suggest that the person who answers the description "trustee" must stand in some relation to the proprietary right in virtue of which the income arises, even although he need not be a trustee in the proper sense. In this case, however, the appellant is constituted as an intermediary between the trustee of the estate and the beneficiaries contingently entitled, and he is empowered to deal only with the income paid to him by the trustee of the trust estate. 9 In Deputy Federal Commissioner of Taxation v Trustees of the Wheat Pool of Western Australia (1932) 48 CLR 5 at 24, in a passage the correctness of which is not affected by their dissent as to the outcome of the case, Dixon J (with whom McTiernan J agreed), referred to Howey and observed of the phrase "income of the trust estate" that, "The income must arise or be derived by the trustee in virtue of some property or right in the nature of property which is vested in him or is under his control or of which he is a fiduciary". More recent in time but to like effect is the following observation by the High Court in Federal Commissioner of Taxation v Bamford (2010) 240 CLR 481 at 503, [28] in respect of the definition of "trustee" in s 6 of the ITAA 1936: In considering this definition it is important to note that it is said in s 6(1) to apply "unless the contrary intention appears". Thus, it is not to be assumed that every person or entity which answers the statutory definition will be a trustee for the purposes of Div 6 of Pt III. The opening words of the definition speak of a trustee in the ordinary sense of a person who holds property on trust while paras (a) and (b) include persons in whom trust property is not vested. Thus, to be liable as a "trustee", Mr Leighton must stand in some relation to a proprietary right by virtue of which net income of the trust estate arises. 10 The requirement that the relationship be with the net income of the trust estate and not, for example, with what is correctly to be characterised as the corpus of the trust estate is no less important than that the taxpayer be a "trustee". In the example just given, only the net income produced by that corpus could constitute the net income of the trust estate. This point is highlighted by the following passage from the judgment of the majority in Federal Commissioner of Taxation v Everett (1980) 143 CLR 440 at 452: The appellant's contention is that the income payable to the respondent's wife was not, as the majority in the Federal Court held, "the net income of a trust estate" within the meaning of s. 95 of the Act. The argument is based very largely on the proposition, founded on the judgment of Kitto J. in Stewart Dawson Holdings Pty. Ltd. v. Federal Commissioner of Taxation, that income derived by a trustee from his own property or by means of his personal exertion, "income with respect to which a trust arises at the moment of derivation", does not answer the statutory description. Kitto J. was making the point that when a person establishes a trust of his future income simpliciter, the income when it is derived is the subject matter or corpus of the trust, not the fruit of it. To use the terminology of s. 95, it is because the income is the "trust estate" that it cannot be "the net income of" that trust estate. His Honour's remarks do not touch the case where an immediate trust is established of a proprietary right which yields or earns future income. Then the income is accurately described as income of a trust estate. For reasons which we have already given, this is the situation which obtains here. [Footnote reference omitted] 11 The learned trial judge concluded that Mr Leighton was a "trustee" within the meaning of that term in s 6 of the ITAA 1936. Her Honour reasoned (at [50]), in respect of the sale of shares by Salina or, as the case may be, Kolton and the Directors and Management Services Agreement, referred to in the Agreed Facts: If the income was earned on a sale when a recoverable debt came into existence, then the capacity and manner in which Mr Leighton administered or controlled that income was under the Directors and Management Services Agreement which included his capacity as a director of Salina or Kolton and the management services of opening bank accounts etc under cl 1.2.1. If, however, the timing of the earning of income by Salina or Kolton was not until settlement through Westpac, then the capacity and manner in which Mr Leighton administered or controlled that income again was under the Directors and Management Services Agreement and included his capacity as a director of Salina or Kolton and the management services of opening bank accounts etc under cl 1.2.1. On one or the other of these bases, so her Honour concluded (at [51]), "Mr Leighton stood in some relation to the proprietary right by virtue of which the income exists … and he owed a fiduciary obligation towards them which included a liability to account to them" (citation of authority omitted). Hence, he was a "trustee" as defined. 12 Her Honour's further conclusion (at [52]) was that, on either view of Mr Leighton's role: [T]he "trust estate" included the shares held and the income earned from the share trading. The corpus of the trust estate changed over time consistent with the share trading. And for the reasons earlier identified, the "income" of that "trust estate" was "affected by an … express or implied trust" in favour of Salina and Kolton. Mr Leighton was not administering or controlling the shares and the income derived from the share trading for his own benefit. He was doing it for Salina and Kolton under the terms of their respective Director and Management Services Agreement. A little later (ibid), her Honour put this same conclusion another way as follows: … the "trust estate" was synonymous with the trust property - the shares and the income which was under his direct administration and control … . It was that trust property which gave rise to the income derived by the trustee, the trustee having satisfied all of the tests in s 98(3) of the 1936 Act. 13 The learned trial judge regarded a submission made on behalf of Mr Leighton that it was Salina or, as the case may be, Kolton which derived any income as proceeding on a false assumption that it was not possible, if one taxpayer derived the income, for the Commissioner only to assess that taxpayer in respect of that income (at [56]). Referring to Richardson v Federal Commissioner of Taxation (1932) 48 CLR 192 at 207 (Richardson v Federal Commissioner of Taxation) and to Deputy Commissioner of Taxation v Richard Walter Pty Ltd (1995) 183 CLR 168 at 201-202 (Deputy Commissioner of Taxation v Richard Walter Pty Ltd), her Honour stated that the "fact that a tax liability remains outstanding against two taxpayers is no bar to the Commissioner exercising the power to assess both to tax in respect of the same income so long as there is no double taxation" (ibid). Her Honour further observed (ibid) that s 98A of the ITAA 1936 was expressly directed to the avoidance of double taxation where both the trustee of a trust estate and a beneficiary were assessed. 14 In his submissions on the appeal, the Commissioner of Taxation supported the correctness of these conclusions and the reasons for them. He also, by notice of contention sought to uphold the result below on the basis that the trust estate to which her Honour referred at [52] of her reasons for judgment (relevantly extracted above) was not limited to the shares held and income from the trust estate but also included the following: (a) the moneys (including the proceeds of share sales) standing to Mr Leighton's credit in the Westpac Bank Account in his name; (b) the rights held by Mr Leighton against Westpac Custodian and Westpac Bank in relation to the moneys standing to his credit in the Westpac Custodian Bank Account; (c) the shares held by Westpac Custodian as custodian for Mr Leighton, in which shares Mr Leighton held an equitable interest; and (d) the rights held by Mr Leighton against Westpac Custodian in relation to the securities registered in the name of Westpac Custodian. 15 With all due respect, the reasoning which led to the conclusion below that Mr Leighton was liable to tax and the Commissioner's derivative submissions which seek to uphold that conclusion, including those made in addition by notice of contention, are erroneous. Our reasons for this conclusion substantially reflect the submissions made to us on behalf of Mr Leighton. For that reason we do not separately reproduce those submissions. 16 In each income year, Salina and Kolton were each carrying on a business of trading in shares. The shares concerned were the trading stock of those businesses. So much was common ground between the parties. 17 The effect of this was that: (a) the gross proceeds of the sale of shares constituted the assessable income of Salina or, as the case may be, Kolton (ss 6-5 and 70-5 Income Tax Assessment Act 1997 (Cth) - ITAA 1997); (b) those companies derived that income on an accruals, rather than a cash basis, ie because the shares were trading stock, the assessable income was derived when a recoverable debt arose rather than when payment was received: J Rowe & Son Pty Ltd v Federal Commissioner of Taxation (1970) 124 CLR 421 at 450; (c) such derivation occurred either when the share sale contracts were entered into or, at the latest, when they were settled; and (d) the gross purchase outgoings constituted allowable deductions (ss 8-1 and 70-5 ITAA 1997). 18 It was Salina and Kolton which were respectively the parties to the share sale and purchase contracts. It was they who derived the income from the sale of the trading stock represented by shares. They did so without the intervention of any person as trustee, only a broker as agent. Further, the basis of their derivation being accruals, they derived that income irrespective of whether they or a third party such as Mr Leighton received payment on their behalf. 19 In these circumstances, a number of basal propositions, well recognised in influential taxation texts in earlier generations, arise. Once Salina and Kolton derived their income from share trading, the subsequent payment of the proceeds of sale was no more than the "realisation of income already derived": Hannan JP, A Treatise on the Principles of Income Taxation (Law Book Company 1946), p 185 (emphasis in original; see also p 187). Further, the payment of the share sale proceeds, whether to Salina or Kolton or to a third party such as Mr Leighton did not give rise to a further derivation any more than, "where a taxpayer is on a cash basis in relation to the item and receives cash there is a derivation, and there is no further derivation when he converts the cash into some other kind of property": Parsons RW, Income Taxation in Australia: Income Deductibility Tax Accounting (Law Book Company 1985), p 29 at [2.17]. For example and pertinently, if, by virtue of share trading, income accrues to a taxpayer on the sale of shares and, after that derivation, the payment for those share sales is made, by direction of the taxpayer, to a trustee on terms that require the investment of that payment, that payment does not constitute trust income but any product of its investment will. 20 Another basal proposition also arises on this analysis of the facts. If, as we conclude, Salina and Kolton derived on an accruals basis and as ordinary income the gross proceeds of the sale of shares in the course of conducting their respective share trading businesses, there could not be a further derivation by them of the same income as beneficiaries presently entitled to the income of a trust estate or a share of that income under Div 6 of Pt III of the ITAA 1936. Nor could Mr Leighton derive that income as a "trustee", for it would not be the net income of a trust estate. It follows from this that s 98A, which falls within Div 6 of Pt III, is irrelevant and reference to Richardson v Federal Commissioner of Taxation and Deputy Commissioner of Taxation v Richard Walter Pty Ltd is unnecessary. There is no net income of a trust estate in respect of which any question of double taxation could arise. 21 We offer the following amplification of our reasons with particular reference to the additional contentions made by the Commissioner. 22 The share sale proceeds deposited by the brokers into the Westpac Bank account in Mr Leighton's name (Agreed Facts, para 15, item 8) did not represent the income of either Salina or Kolton but rather represented the realisation of the income (the receivables) already derived by these companies. Upon being deposited, the proceeds were impressed with a trust in favour of Salina and Kolton, but they did not comprise the income of a trust estate. Rather, those deposited proceeds constituted or augmented a trust estate of which Mr Leighton was trustee. The income of that trust estate was such income, if any, as was later derived from the investment of that trust estate, eg any bank interest on the deposited proceeds. 23 The statement of the learned trial judge (at [52]), quoted above, as to what constituted the trust estate and the statement in the Commissioner's notice of contention as to what that trust estate additionally included are each, with respect, more noteworthy for what is not stated than what is. 24 It may be accepted that moneys (including the proceeds of share sales) standing to Mr Leighton's credit in the Westpac bank account represented moneys held by him on trust for Salina and Kolton or, more accurately, having regard to Harmer v Federal Commissioner of Taxation (1989) 91 ALR 550 at 560, that Mr Leighton's rights as a customer against Westpac as banker in respect of those moneys were held by him on trust for Salina and Kolton and to that extent constituted a trust estate of which he was trustee. Even so, neither those monies nor those rights with respect to them constituted income of a trust estate. 25 It may also be accepted that such rights as Mr Leighton was able to exercise against Westpac Custodian in relation to moneys standing to his credit in the Westpac bank account were held by him as trustee for Salina and Kolton and, to that extent, constituted a trust estate of which he was trustee. Once again, those rights with respect to those moneys did not constitute the income of a trust estate. 26 Even if it were accepted that Mr Leighton had an equitable interest in the shares registered in the name of Westpac Custodian and that he held that equitable interest in trust for Salina and Kolton and that interest constituted a trust estate of which Mr Leighton was trustee, that equitable interest would not constitute the income of a trust estate. The same conclusion would apply in respect of any rights held by Mr Leighton against Westpac Custodian in relation to the securities registered in his name. 27 A necessary consequence of our conclusion that the assessment of Mr Leighton pursuant to s 98(3) of the ITAA 1936 was erroneous is that there was no basis for the imposition of any penalties upon him. 28 The appeal should be allowed, with costs. The orders made below should be set aside and, in lieu thereof, it should be ordered that Mr Leighton's appeal against the objection decision should be allowed, with costs. The matter should be remitted to the Commissioner to take such further administrative action as is necessary to give effect to these orders. I certify that the preceding twenty-eight (28) numbered paragraphs are a true copy of the Reasons for Judgment herein of the Honourable Justices Edmonds, Gilmour and Logan.

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