Woods v Deputy Commissioner of Taxation

Federal Court of Australia|1999-12-17|Before: Sackville J

The Proceedings 1 These are three appeals against objection decisions made by the respondent (the "Commissioner") in respect of the 1995, 1996 and 1997 years of income. By consent the appeals have been heard together. 2 In each of the three years of income, the applicant (the "taxpayer") lodged returns claiming to have sustained losses in connection with a business of horse breeding and racing. According to those returns, the applicant derived income and incurred expenses in the relevant years as follows:

Tax Year 1995 1996 1997 $ $ $ Income 366 2,699 5,493 Expenses 17,212 16,421 24,364 Net Loss 16,846 13,772 18,871 The applicant claimed the expenses as allowable deductions under s 51(1) of the Income Tax Assessment Act 1936 (Cth) ("ITAA"). 3 In consequence of an audit, the Commissioner issued amended assessments to the taxpayer on 17 June 1998 for each of the three years of income. The amended assessments disallowed the deductions claimed by the taxpayer and also reduced his assessable income by excluding the income returned from his horse breeding and racing activities. The amended assessments required the taxpayer to pay a total of $28,789 inclusive of understatement penalty and interest. 4 On 24 June 1998, the taxpayer lodged a notice of objection to each of the amended assessments. The letter accompanying the notice of objection stated that the taxpayer was not the owner of the horses but merely the manager. It was said that he received payment for coordinating training and trackwork, transporting horses, arranging races and jockeys and arranging sales of horses. The letter also asserted that the taxpayer received "[c]onsiderable payment…each year for [his] services". 5 On 24 August 1998, the Commissioner disallowed the taxpayer's objections to the amended assessments. The taxpayer has appealed to the Court against the Commissioner's decision pursuant to s 14ZZ(a)(ii) of the Taxation Administration Act 1953 (Cth) ("TAA"). On such an appeal the taxpayer has the burden of proving that the amended assessments are excessive: TAA, s 14ZZO(b).

Legislation 6 Section 51(1) of the ITAA provides as follows: "(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." 7 The parties agreed that the only issue in the present case is whether the taxpayer was "carrying on a business" in each of the three relevant years of income. Section 6(1) of the ITAA defines "business" to include "any profession, trade, employment, vocation or calling, but does not include occupation as an employee".

The Evidence 8 The taxpayer and his wife ("Mrs Woods") each swore an affidavit. Both affidavits were read in the taxpayer's case and both deponents were cross-examined, although in Mrs Woods' case only briefly. The documentary evidence included a ledger prepared and maintained by Mrs Woods which recorded expenses associated with the taxpayer's undertaking (to use a neutral word). The ledger recorded income for the 1997 year of income, but not for the two prior years. There was no dispute for the purposes of this case that the expenses had been recorded accurately, although a good deal of the supporting documentation was missing or had been destroyed. 9 It must be said that the taxpayer's case was not assisted by errors and omissions in his affidavit and inconsistencies and carelessness in his evidence generally. For example, the taxpayer stated in his affidavit that he purchased a mare called "Tia 'n' Ice" in 1992 which subsequently produced two foals. In fact he acquired only a half share in the mare, paying $500 for his interest. Similarly, the taxpayer erroneously stated that he had sold two foals in 1995, one of which was Tiester out of Tia 'n' Ice. It is clear enough from the evidence that the taxpayer did not sell Tiester, but gave a one-third share in the horse to each of Mrs Woods, Darby Woods (the taxpayer's father) and another person, Mr Cook. 10 In support of his claim to have systematically conducted a business, the taxpayer stated that he had studied a course in Horse Management Advanced Certificate at a College of Technical and Further Education. He said that the course ran for two years, but that he "was only able to undertake the course for the first year". In fact, as the College's records showed, he started the course in July 1993 (not February as he claimed) and attended no classes after the end of August 1993. Moreover, he completed none of the required forms of assessment. The taxpayer's affidavit and oral evidence on this topic were incomplete and less than frank. 11 There were also significant inconsistencies in the way in which the taxpayer's case was presented. The letter accompanying the notice of objection asserted, among other things, that the taxpayer had received payment for coordinating training and arranging sales of horses. The taxpayer's statement of facts, issues and contentions asserted that his business was based on the breeding of his own horses for the purpose of racing them. The statement further contended that the taxpayer's purpose was gradually to build the stock of horses to breed and to race their progeny. The evidence makes it clear that, to the extent the taxpayer had any plans at all to generate income, it involved inviting friends or relatives to take up shares in his horses for little or no consideration with a view to charging them training fees (notwithstanding that he had no trainer's licence) and, hopefully, obtaining a percentage of any winnings. There is no evidence that during the relevant period he received payment for arranging the sale of any horse, nor that he raced horses actually owned by him (although his wife had a one-sixth share in the one horse that raced during the relevant period). 12 For these reasons, I treat with caution the taxpayer's self-serving evidence. While the Commissioner did not dispute much of the taxpayer's evidence, I think it clear enough that Mr Richmond on behalf of the Commissioner challenged (if somewhat obliquely) the taxpayer's statements as to his intentions. I do not accept that the taxpayer had (as he claimed) a clear and settled intention from the commencement of the relevant period to build the size of his stock to ten or fifteen horses and, at that point, to leave the New South Wales Police Service (where he has been employed since 1986). In my opinion, it is more accurate to say that the taxpayer hoped, without having the benefit of any clear strategy or business plan, that his part-time activities as a breeder might expand over time. If that occurred, the taxpayer doubtless would have considered devoting more of his time and energy to breeding and, ultimately, racing horses. But in my opinion, his intentions throughout the relevant years of income were much less settled than he maintained.

The Course of Events 13 Although the evidence on behalf of the taxpayer was presented in a somewhat confusing manner (the taxpayer being particularly vague in his evidence on some issues and professing little or no knowledge of the ledger kept by Mrs Woods), there was no substantial dispute as to the major steps taken by the taxpayer in relation to the undertaking said by him to constitute a business. The following account records those steps and deals with other factual issues on which the evidence was less clear-cut.

Acquisition and Disposal of Horses 14 The taxpayer has been employed as a Police Officer since 1986. Until early 1992, the taxpayer's only involvement with horses or horseracing was betting at the TAB. 15 On 28 July 1992, prior to the commencement of the relevant period (that is, the period commencing on 1 July 1994 and ending on 30 June 1997), the taxpayer acquired a one-fifth share in a horse called "Never Can Tell" at a price of $2,000. Shortly thereafter, he acquired a strapper's licence. Later in 1992, the taxpayer purchased a half share in the mare "Tia 'n' Ice" for $500. In September 1993, Tia 'n' Ice produced a foal, Tiester. 16 In December 1993, the taxpayer purchased another mare, "Ruby Wonder", for $1,650. By the start of the relevant period on 1 July 1994, therefore, the taxpayer owned two mares and one foal. Never Can Tell (which died in 1995), appears to have been trained by a registered trainer without any direct involvement on the part of the taxpayer. It does not seem to have been suggested that Never Can Tell played any role in the taxpayer's undertaking during the relevant period. 17 On 2 September 1994, Ruby Wonder produced a foal named "Royal Voice". At about the same time, Tia 'n' Ice produced a second foal named "Jackson". 18 On 20 March 1995, the taxpayer was notified by the Australian Jockey Club that his application for a Provisional Trainer's Licence had been rejected. There was no evidence as to the reasons for the rejection of the taxpayer's application. Nor was there evidence that the taxpayer subsequently applied for a trainer's licence. 19 In April 1995, the taxpayer purchased a mare known as "Roowin" for $500. The mare at that time had a foal at foot. According to the taxpayer, the foal was sold later in 1995, although it does not appear that any sale was recorded in the ledger. In May 1995, the mare Tia 'n' Ice died. 20 As at 1 July 1995, the taxpayer had two mares (Ruby Wonder and Roowin), a yearling (Tiester) and one or two foals. In September 1995, Ruby Wonder produced a second foal "Princess Ruby". At some time in 1995, the taxpayer gave Tiester to Mrs Woods, Darby Woods and Mr Cook. In May 1996, Roowin died. It follows that on 1 July 1996 the taxpayer owned one mare (Ruby Wonder), two yearlings (Royal Voice and Jackson) and one foal (Princess Ruby). 21 The taxpayer's evidence was that at some stage during the 1996 year of income, he arranged the sale of Tiester, presumably on behalf of the new owners. There was no evidence of the sale price or the circumstances in which the sale occurred. Similarly, there was no evidence that the taxpayer received any remuneration in respect of the sale nor that, if Mrs Woods received a share of the proceeds, she accounted to her husband for that share. 22 In about August 1996, the taxpayer sold six shares in Royal Voice for a nominal total of $1,200 (that is, $200 for each share). Mrs Woods acquired a one-sixth share for which she was not required to pay. The other five shares were sold to friends and acquaintances of the taxpayer. The written agreement provided for the purchasers to pay a further $500 if the horse won at a city meeting. The gross training fees were said to be $20 per day exclusive of veterinary and dental fees and the like. The purchase price of $1,000 actually received by the taxpayer equalled the cost of breaking in Royal Voice, but did not cover other expenses that the taxpayer had previously incurred in respect of the horse. 23 In September 1996, Ruby Wonder produced her third foal, called "Zac". In December 1996, Jackson died. In April 1997, the six shares in Princess Ruby were sold for a total of $1,200 by arrangements similar to those applicable to Royal Voice. Again, Mrs Woods acquired a share for which she was not required to pay. 24 As at 30 June 1997 (the last day of the relevant period), the taxpayer therefore owned one mare (Ruby Wonder) and a foal (Zac). He also had some responsibility for Royal Voice and Princess Ruby by virtue of arrangements entered into with their owners.

The Taxpayer's Work 25 The taxpayer gave evidence, in a form that could have been objected to but was not, that he worked horses in his care almost daily from 3 am to 7 am except Sundays. It is not clear over what period the taxpayer claimed to have worked these hours. However, during the 1997 year of income (again the precise period is unclear) the taxpayer worked in the early mornings as a strapper at a registered trainer's establishment. He apparently received no wages but worked in return for a reduction in the fees payable to the trainer for the stabling and feeding of Royal Voice, which was kept at the trainer's stables. It also appears that, apart from Royal Voice, the other horses and foals in the taxpayer's care were placed from time to time on agistment at various properties including one owned jointly by the taxpayer's mother. 26 I think the better view is that the taxpayer intended only to suggest that he worked from 3 am to 7 am while engaged as a strapper at the trainer's stables. If that is what he intended to say I accept the evidence. If, contrary to my view, the taxpayer intended to suggest that he worked these hours over the whole of the three year period, I do not think that the totality of the evidence supports the claim. Except for the time he worked at the establishment of the registered trainer, I am not satisfied that the taxpayer devoted more than a relatively short time each day to the care and maintenance of the horses.

Income 27 As has been noted, the taxpayer's taxation returns for each of the relevant years included income said to have been derived from his undertaking. The evidence as to the source and nature of the income was incomplete and in some respects unclear. The position, so far as it can be ascertained for each year, is as follows. 28 There was no explanation for the sum of $366 said to have been derived in the 1995 year of income. The taxpayer could shed no light on the source of the income and Mrs Woods carried the matter no further. The ledger recorded no income for that year. 29 Nor did the ledger record any income for the 1996 year of income. Mrs Woods explained the omission on the basis that she did not know how to record income in the ledger at that stage. This explanation was not challenged. In any event, it appears from a document prepared by Mrs Woods for the taxpayer's accountant that the income of $2,699 returned for the 1996 year of income simply represented two-thirds of the expenses incurred in that year in respect of Tiester. The return appears to have been prepared on the basis that Mr Darby Woods, and Mr Cook (who between them had a two-thirds share in the horse) had reimbursed the taxpayer for two-thirds of the expenses paid by him. I think the likelihood is that neither Mr Woods nor Mr Cook actually reimbursed any expenses. (The taxpayer gave conflicting evidence on the question.) In any event, on the basis adopted in the return, the "income" for the 1996 year simply represented reimbursement to the taxpayer for expenses for which the owners of Tiester were presumably primarily liable. 30 The 1997 income as returned comprised three elements: a total of $2,000 received in respect of the sale of shares in Royal Voice and Princess Ruby; amounts reimbursed by the owners of those horses in respect of expenses; and an amount by way of training fees for Royal Voice. Because the documentary evidence is incomplete, it is not clear how much of the returned income represented trainer's fees. However, the amount was very modest. Moreover, it included the fees of about $200 per month the taxpayer had agreed to pay to the trainer at whose establishment Royal Voice had been placed. It appears that the owners of shares in the two horses may not have paid the full amounts for which they were invoiced. The taxpayer made no attempt, however, to quantify the amounts due but unpaid at the end of the 1997 year of income. There is no evidence that the taxpayer took any steps to enforce payment of any amounts due by the owners. 31 The evidence suggests that only one horse in the taxpayer's care, Royal Voice, raced during the relevant period, although Princess Ruby appears to have been nominated for one event towards the end of the period. The registered trainer was recorded as the trainer of Royal Voice and, presumably, Princess Ruby. The evidence suggests that Royal Voice raced on one or, perhaps, two occasions before the end of the relevant period. It earned no prize money.

Purchase of a Property 32 The taxpayer gave evidence that he had been looking for some time for a property suitable for the breeding and training of horses. I accept that he made inquiries, from time to time. However, no property was purchased during the relevant period. In fact, the taxpayer and Mrs Woods jointly purchased a property in Queensland during the latter part of 1997 (that is, during the 1998 year of income). According to the taxpayer, the property was suitable for the intended purpose and already had certain facilities such as stables. 33 It may have assisted the taxpayer's case that his activities during the relevant period were the beginning of a larger-scale business, had the property acquired in 1997 been used by him to breed or train horses. Even though the property obviously could have been used for these purposes only outside the relevant period, the acquisition and use of the property might have cast a somewhat different light on the taxpayer's intentions and activities during the preceding period. But the taxpayer and Mrs Woods chose to lease out the property they had acquired, while they remained in Sydney. The fact that the taxpayer acquired an interest in the Queensland property in 1997 does not in my view materially advance the case presented on his behalf.

The Principles 34 The question of whether a particular activity constitutes a business depends upon an assessment of the relevant facts and involves matters of fact and degree: Evans v Federal Commissioner of Taxation (1989) 89 ATC 4540 (Hill J), at 4554-4555. No one factor is decisive and many elements may have to be considered: Ferguson v Federal Commissioner of Taxation (1979) 79 ATC 4261 (FC), at 4264, per Bowen CJ and Franki J. It is to be borne in mind, however, when weighing the relevant factors, that there is usually a distinction between the pursuit of a pastime, even if the pursuit is vigorous, and the carrying on of a business: Martin v Federal Commissioner of Taxation (1953) 90 CLR 470, at 479, per curiam. 35 The factors relevant to assessing whether a taxpayer was carrying on a business at a particular time include the following: (i) Whether the activities were undertaken as a commercial enterprise for the purpose of making a profit: Hope v The Council of the City of Bathurst (1980) 144 CLR 1, at 8-9, per Mason J; Thomas v Federal Commissioner of Taxation (1972) 72 ATC 4094 (HC), at 4099, per Walsh J ("commercial purpose or character"). But it is not necessary that there was an immediate purpose of profit-making in a particular year: Ferguson, at 4264, per Bowen CJ and Franki J. A business may, for example, be conducted in a limited way as preparatory to or in preparation for a larger scale business: Ferguson, at 4269, per Fisher J; Federal Commissioner of Taxation v Walker (1985) 16 ATR 331 (S Ct Qld/Ryan J), at 334. (ii) Whether the activities were engaged in on a continuous and repetitive basis: Hope, at 9, per Mason J. But even isolated transactions may be part of a business if, for example, they can be seen as the beginning of a larger scale undertaking: Ferguson, at 4264. (iii) Whether the activities were carried on in a business-like manner: Ferguson, at 4264; Martin, at 479 ("systematic and organized"). It will therefore be relevant to inquire whether the taxpayer kept adequate books and records and employed a systematic approach to the conduct of the undertaking. (iv) Whether ordinary commercial principles were applied to the conduct of the undertaking, characteristic of the line of business of which the undertaking is said to have formed part: Evans, at 4555. (v) Whether the scale and volume of the undertaking (including the amount of capital employed) were substantial, especially where the question is whether the taxpayer was conducting a business or was engaging in a hobby or recreational activity: Ferguson, at 4265; Trautwein v Federal Commissioner of Taxation (1936) 56 CLR 196 (Evatt J), at 206-207. There may be overlap among the various factors and not all criteria will necessarily suggest the same result.

Application of Principles 36 There are several features of the present case which suggest that the taxpayer was not carrying on a business of horse breeding and racing at any stage during the relevant period. 37 First, the undertaking was small in scale throughout the relevant period. In mid 1997, some five years after acquiring Tia 'n' Ice, the taxpayer owned only one mare and one foal. He provided services to the owners of two other horses in his care, although not as a registered trainer. The limited scale of the taxpayer's activities throughout the relevant period makes it difficult to view the undertaking as genuinely preparatory to the conduct of a business conducted on a larger scale, as distinct from a pastime or hobby. 38 The limited scale of the taxpayer's activities is illustrated by the fact that in the 1995 and 1996 years the only "income" (other than the unexplained amount of $366) was constituted by small amounts which, if they were received at all, simply reimbursed the taxpayer for some of the expenditure incurred by him. In the 1997 year, the taxpayer received sums totalling $2,000 from the sale of two horses, but these sums were barely sufficient to cover the cost of breaking them in, let alone the other expenses that had been incurred in maintaining and caring for them. Apart from reimbursement of certain expenses, he also derived a small amount of trainer's fees. But there was nothing to suggest that this form of income (assuming it can be described as income from conducting a "horse breeding and racing business") was likely to increase in subsequent years, particularly having regard to the difficulties experienced by the taxpayer in collecting moneys said to be due. 39 Secondly, there is no evidence that the taxpayer formulated anything that can be described as a business plan, or even a strategy, for expanding his activities into a viable business. There was nothing to indicate, for example, how he was intending to build up his stock of horses. Nor was there anything to show how the taxpayer proposed to generate income to a level where it would cover expenses, let alone produce a profit. My impression is that the taxpayer hoped (without having any solid foundation for the hope) that Royal Voice (and perhaps Princess Ruby) might earn prize money. In this respect, his optimism was doubtless not very different from many others who own or have an interest in horses. But the absence of a systematic approach to the development of the undertaking tells against it being a business. 40 In reaching this conclusion, I have not overlooked the purchase of the Queensland property in 1997. As I have explained, had the taxpayer immediately put that property to use for horse breeding and training purposes, it might have lent force to his argument that during the relevant period he had a definite intention to expand the undertaking. But the fact that the property was leased out strongly suggests that its acquisition was concerned with the taxpayer's domestic arrangements and the possibility that in the future he might start a different venture, than with any firm intention to expand his existing operations. 41 Thirdly, I do not think that the taxpayer's activities can be characterised as having a commercial purpose or character. In part, this conclusion flows from the points already made. It is reinforced by the fact that the taxpayer made no substantial capital investment in the undertaking during the relevant period, the only significant expenditure being the current expenses claimed by the taxpayer as deductions from assessable income. A further indication that the undertaking lacked a commercial character is the taxpayer's apparent reliance on family and friends to generate the small amount of income he actually derived and the absence of any attempt to tap a wider market, either for his horses or his services. There was no evidence that the taxpayer conducted the undertaking in accordance with the commercial principles characteristic of businesses involving horse breeding and racing. 42 Fourthly, although the taxpayer made some efforts to inform himself of principles of horse management, he cannot be said to have systematically acquired the skills required to conduct a business of the kind he said he wished to establish. He abandoned the TAFE course after a short time. He was unsuccessful in his application for a Provisional Trainer's Licence and made no subsequent application. On his own account of events, he was still being given informal instruction by the licensed trainer in rather basic matters connected with horse management in late 1996. 43 There are certain factors that provide some support for the taxpayer's contention that he was conducting a business. For example, Mrs Woods maintained a ledger throughout the relevant period. While many of the taxpayer's records were lost or destroyed, the ledger recorded in reasonably complete fashion the expenditure incurred by the taxpayer in connection with his undertaking during the relevant period. The taxpayer made some efforts to inform himself about principles of horse management and the racing industry, although his efforts were less than systematic. He also devoted some time, more or less on a daily basis over the whole of the relevant period, to the care of "his" horses. In addition some, at least, of the horses were insured. 44 These factors must, however, be weighed against the much stronger indications that the taxpayer was not carrying on a business at any stage during the relevant period. Both individually and collectively the factors relied on by the taxpayer are consistent with his pursuit of a pastime or interest, rather than the conduct of a business. In my opinion this is how they should be regarded. 45 The taxpayer relied on two authorities in particular to support his contentions, although Mr O'Neill, who appeared on his behalf, accepted that each case must depend on its own facts and that analogies by reference to decided cases are generally not helpful. In Federal Commissioner of Taxation v Walker, it was held that the purchase of an angora goat for breeding purposes, together with expenditure on stud services and other outgoings, constituted a business. This decision depended largely on a finding that the taxpayer's intention was not to pursue a hobby (the goat was left at stud) but to make a profit from the venture on the basis of expert advice. Intervening circumstances prevented realisation of the profit. The case is different from the present. Federal Commissioner of Taxation v Solling (1985) 16 ATR 753 (S Ct NSW/Lee J), which involved a sheep leasing scheme, bears little resemblance to this case.

Conclusion 46 In my opinion, the taxpayer has failed to discharge the onus of demonstrating that he carried on the business of horse breeding and racing at any stage during the relevant period. If it be relevant, I also think that he has failed to establish that he was carrying on a business of any description at any time during that period. The appeals should therefore be dismissed and an order made confirming the Commissioner's objection decision. The taxpayer should pay the Commissioner's costs. I certify that the preceding forty-six (46) numbered paragraphs are a true copy of the Reasons for Judgment herein of the Honourable Justice Sackville.

Associate: Dated: 17 December 1999 Counsel for the Applicant: Mr R N O'Neill

Solicitor for the Respondent: Australian Government Solicitor

At a glance

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Judgment (14 paragraphs)

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