D.4 Conclusion with respect to s 8-1
159 The "advantage sought" (GP International Pipecoaters at 137; AusNet at [23]; Commissioner of Taxation v Citylink Melbourne (2006) 228 CLR 1 at [148]; Sharpcan at [18]) by the expenditure or what the expenditure was "for" (Colonial Mutual at 454; AusNet at [24]; Sharpcan at [22]) was the acquisition of a new or extended profit making structure for Origin, that structure being constituted by a bundle of contractual rights which operated to give OEEL:
(1) what had been Eraring Energy's business of trading electricity, together with a number of other risks and opportunities, including market risks associated with the input to the Eraring power station (coal and fuel oil);
(2) rights to the entire output of the Eraring and Shoalhaven power stations and the corresponding inability of those power stations to sell excess electricity to any other person;
(3) substantial elements of control over the generation of electricity, including the right to decide how much, and when, electricity was to be generated by the power stations; and
(4) so far as concerns the Eraring GenTrader Agreement, a significant expansion to Origin's existing business structure, in particular an expansion into baseload coal-fired power stations, including the supply of coal and sale of output.
160 Origin submitted that what OEEL acquired was similar to a typical long term supply contract. As has been discussed and as further discussed below, OEEL acquired risks and opportunities beyond those provided by a typical long term supply contract. It also acquired elements of control beyond those typically encountered in a long term supply contract. In any event, the question is the characterisation of the particular acquisition, not how it compares to a different one, even if there is potential benefit in analogy - cf: AusNet at [78] (Gageler J); at [143] (Nettle J).
161 As noted at [78] above, Origin also submitted that, apart from the payment of liquidated damages by Eraring Energy in the event of default, the GenTrader Agreements operated in a "very similar manner" to the Tolling Agreement between OEEL and the Origin group power station owners. I reject that submission for the following reasons.
162 The Tolling Agreement was described in these terms by Mr Jarvis:
For·internal management and accounting purposes, Origin's Generation division and Electricity Operations agreed a tolling arrangement under which Electricity Operations was treated as if it purchased the sent out generation of the generating units owned and operated by Origin's Generation division in return for a tolling charge. That arrangement was formalised in 2010 in a Tolling Agreement between Generation and Energy Risk Management (of which Electricity Operations forms part).
163 It was submitted that, under that arrangement, OEEL was obliged to pay a tolling charge to the owners as the purchase price for the sent out generation produced by those owners and to source fuel for the operation of the generating units. The Tolling Agreement did no such thing.
164 The "Executive Summary" of the Tolling Agreement included:
The purpose of this document is to formalise the agreed tolling methodology which provides the basis for the monthly tolling payment made by ERM to Generation. This document outlines the commercial principles underlying the elements of the Tolling Charge and the review process for adjustments to the Tolling Charge.
The Tolling Charge for each plant is calculated as the sum of:
1. Return on Capital Invested
2. Major Maintenance Fee
3. Growth Capex and SIB Capex Fee
4. Operations and Maintenance Fee
165 The "Purpose" of the Tolling Agreement was described in cl 1 in the following way:
1 Purpose
The purpose of this agreement is to measure and report on the returns that Origin achieves from its merchant generation assets. The intent of the agreement is to provide a commercial basis for the tolling charge, while at the same time providing flexibility to review the allocation of value between Generation and ERM as may be appropriate in response to material changes in the business.
166 The Tolling Agreement is not "very similar" to the GenTrader Agreements.
167 Origin placed particular reliance on the decision of the Full Court of the Federal Court in Commissioner of Taxation v Raymor (NSW) Pty Ltd (1990) 24 FCR 90 (Davies, Gummow and Hill JJ). Raymor sold and distributed plumbing goods and accessories, including copper tubing, the majority of which it purchased from Metal Manufacturers Ltd (MML) for resale. Raymor and MML entered into three substantially similar agreements in 1983, 1984 and 1985. Under those agreements, Raymor purchased copper tubing with payment to be made in advance of delivery. Raymor negotiated an 8½% discount off the usual list price achieved in part by reason of it being a large purchaser of copper tubing. The agreements contained a "rise and fall clause" to take account of the fact that the copper price would vary and might be higher or lower at the time of delivery of the copper. For present purposes, the 1984 year can be used as an example. Clauses 7 and 8 of the 1984 agreement provided:
7. As consideration for the goods sold by the Vendor pursuant to the terms of this Agreement and as specified in the Annexure hereto the Purchaser shall pay to the Vendor on the execution of this Agreement the total purchase price as specified in the Annexure hereto of Six hundred thousand, one hundred and thirteen dollars and sixteen cents ($600,113.16) (the receipt whereof is hereby acknowledged by the Purchaser).
8. The parties acknowledge that notwithstanding the payment made pursuant to Clause 7 hereof, the price of each item of goods set out in the Annexure hereto may be subject to variation in accordance with the provisions of this Clause and in the event of any such variation being required to be made hereunder then the parties will make the appropriate financial adjustment in accordance with their normal trading terms. The price of each item of goods set out in the Annexure hereto shall be varied in the event of the Australian Copper Price increasing above or falling below $1,560.00 per tonne at the date of delivery of each item of goods in which event the price for such item shall become the Vendor's List Price as applicable at that time determined by reference to the Australian Copper Price at the date of such delivery and discounted by 8½%.
168 Raymor paid the amount of $600,113.16 on 29 June 1984. Delivery of stock pursuant to the agreement commenced in early July 1984 and continued over a period of several months.
169 The Commissioner disallowed a deduction with the consequence, as the Full Court noted, that Raymore was not afforded a deduction for its trading stock: Raymor at 94. At the time, s 51 of the Income Tax Assessment Act 1936 (Cth) provided:
(1) All losses and outgoings to the extent to which they are incurred in gaining or producing the assessable income, or are necessarily incurred in carrying on a business for the purpose of gaining or producing such income, shall be allowable deductions except to the extent to which they are losses or outgoings of capital, or of a capital, private or domestic nature, or are incurred in relation to the gaining or production of exempt income.
(2) Expenditure incurred or deemed to have been incurred in the purchase of stock used by the taxpayer as trading stock shall be deemed not to be an outgoing of capital or of a capital nature.
170 At trial, Lockhart J had concluded that the expenditure was deductible under s 51(2). As the Full Court noted at 95, it followed from his Honour's reasons that, independently of s 51(2), the payments were also deductible under s 51(1) of the Act without reference to s 51(2). The trading stock aspect of the case may be put to one side for present purposes.
171 The principal submission for the Commissioner was that the expenditure was not for trading stock but for the right to acquire trading stock in the future and, therefore, on capital account. It was said that the right to acquire the future stock "matured" at the time of delivery into trading stock, a revenue asset. It was said that it was only at the time of delivery that the expenditure, albeit effected by payment in the preceding year of income, could properly be characterised as being expenditure incurred in the purchase of stock and so meet the test of deductibility. This argument was rejected and the appeal was dismissed.
172 The Full Court referred (at 99) to the "classic test for resolving the distinction between capital and income" as enunciated by Dixon J in Sun Newspapers Ltd v Commissioner of Taxation (Cth) (1938) 61 CLR 337 at 363:
There are, I think, three matters to be considered, (a) the character of the advantage sought, and in this its lasting qualities may play a part, (b) the manner in which it is to be used, relied upon or enjoyed, and in this and under the former head recurrence may play its part, and (c) the means adopted to obtain it; that is, by providing a periodical reward or outlay to cover its use or enjoyment for periods commensurate with the payment or by making a final provision or payment so as to secure future use or enjoyment.
173 The Full Court noted (at 99) that, earlier in Sun Newspapers (at 362), Dixon J had said:
… the expenditure is to be considered of a revenue nature if its purpose brings it within the very wide class of things which in the aggregate form the constant demand which must be answered out of the returns of a trade or its circulating capital and that actual recurrence of the specific thing need not take place or be expected as likely.
174 The Full Court then stated at 99 (Origin's emphasis added):
Here the character of the advantage sought was the acquisition of trading stock for delivery within a short time after the date the contract was entered into. As a matter of fact, delivery was completed within several months of the date of the contract. It is a misleading half-truth to say that what the taxpayer acquired was merely a contractual right to obtain delivery of stock in the future. The answer to the first question posed by Dixon J is not to be obtained by a jurisprudential analysis of the process of entering a contract. It can be said of every payment pursuant to a contract that it secures to the payee the contractual rights under the contract. In that sense every payment made under a contract confers upon the payee a chose in action which can be described as an asset and which contractual right is discharged by the performance of the contract. But such an analysis is of no assistance in the resolution of whether a particular outgoing is on capital or revenue account. Rather as Dixon J said in Hallstroms Pty Ltd v Commissioner of Taxation (Cth) (1946) 72 CLR 634 at 648 the answer:
"… depends on what the expenditure is calculated to effect from a practical and business point of view, rather than upon the juristic classification of the legal rights, if any, secured, employed or exhausted in the process."
175 Origin placed particular emphasis on the underlined part of the passage set out above. That part of the passage must be read in the context of what appears before it and after it and in the context of the facts. Raymor was entering into yearly contracts for the supply of copper tubing for on-sale within its existing business operations and structure. The Full Court was making the point - unremarkable in the light of the facts of the case - that the expenditure was for the copper tubing, not for the contractual right to the copper tubing.
176 Origin submitted that the advantage from incurring the charges for the sent out generation supplied by Eraring Energy was the electricity acquired to on-sell it into the spot market, and not for the use or ownership of the means of production owned and operated by another. It submitted that it was not outlaid as an acquisition of the means of production which generated the supply - cf: Hallstroms at 648 (Dixon J); AusNet at [73] (Gageler J). Origin submitted that the payments here were, as they were in Raymor, to obtain a supply of that which OEEL used to meet the regular demands of its business: Raymor at 99. Origin submitted that OEEL "simply purchased electricity under a long term agreement for sale in the course of its business". It was said that the payment of capacity charges was not the payment of the purchase price of any asset acquired by OEEL or of any rights which comprised a new business.
177 I disagree. The expenditure was incurred to acquire a substantial extension to OEEL's profit making structure or a new profit making structure. The practical business and legal consequence of the transactions was that OEEL acquired the right to trade the whole of the electricity generated by the power stations for 22 and 28 years. The contractual arrangements giving rise to that right were such that OEEL, through its trading activities, could control when and how much electricity was generated. OEEL also took on risks and opportunity with respect to Eraring's generation activities. As Origin submitted, the main risks which were transferred by the State to OEEL were: first, the market risk associated with selling electricity into the NEM; and, secondly, but only in respect of the Eraring power station, the risk associated with fluctuations in the fuel price. These were not the only risks and opportunities, as discussed above. The fact that some of those risks were shared is no objection to characterisation of the expenditure as being on capital account. The acquisition of an interest in a joint venture might have that character. The totality of the arrangements gave rise to a new or extended business structure for Origin, which substantially extended its previous operations.
178 The capacity charges were not an expenditure of OEEL incurred in carrying out operations within its existing business structure analogous to the so-called "prepayments" in Raymor (acknowledging that the word "prepayment" is strictly incorrect - see: Raymor at 97). Nor were the capacity charges in the nature of working expenses for the purchase of electricity for on-sale analogous to Origin's tolling arrangements.
179 The power stations remained in the ownership of, and were managed and operated by, Eraring Energy. However, OEEL acquired the right to the long term capacity of, or the output of, Eraring Energy's two power stations. At the risk of over-simplification, Eraring Energy became an asset manager, managing the existing capacity, but OEEL acquired the right to trade the output, together with substantial risks and opportunities associated with the generation aspect of Eraring Energy's business. The capacity charges were paid "for" the acquisition of a profit making structure. The expenditure was not merely "for" the purchase of electricity for on-sale.
180 The expenditure was, as a matter of substance, one-off. It is true that the capacity charges were recurrent in form, usually an indicator that expenditure is on revenue account. In AusNet at [15], the majority noted that a "recurrent payment" might tend to indicate the expenditure was of a revenue nature, whilst a "once and for all payment" might tend to indicate that expenditure was a capital outlay, particularly when made with a view to bringing into existence an asset or an advantage for the enduring benefit of a trade. The weight to be given to this factor necessarily depends on the particular facts and, in particular, the precise way in which the expenditure is "recurrent". The fact is that OEEL paid all of the capacity charges for a period of 22 (Eraring) and 28 (Shoalhaven) years in advance. The up-front payment of the recurrent expenditure was calculated to secure an enduring benefit. The enduring benefit would not have been obtained if the capacity charges had not been paid up-front. Even if one looked past the fact that the capacity charges were all paid in advance, to the recurrent form of them, once "expenditure can be truly characterized as the payment of consideration for a capital … advantage, it will be of a capital nature notwithstanding that the payments are recurrent": Cliffs International Inc v Commissioner of Taxation (1979) 142 CLR 140 at 156.
181 Because the capacity charges are an "outgoing of capital, or of a capital nature" within the meaning of s 8-1(2)(a), they are not deductible.