Between: John Fairfax & Sons Pty Ltd
And: Federal Commissioner of Taxation

Judges: Dixon CJ
Fullagar J
Kitto J
Taylor J

Menzies J

Subject References:
Taxation and revenue
Income Tax
Assessable income
Allowable deductions
Legal expenses
Capital or income expenditure

Legislative References:
Income Tax and Social Services Contribution Assessment Act 1936 - s 51(1)

MELBOURNE

Judgment by:
Menzies J

The Federal Commissioner of Taxation refused to allow the taxpayer as a deduction for purposes of the calculation of its taxable income for the year ended 30th June 1954, the sum of PD3,142 14s. 8d.  which it had during the year paid as legal expenses in circumstances that it will be necessary to examine.  From this refusal the taxpayer appealed to the Taxation Board of Review and the board has, pursuant to s. 196 of the Income Tax and Social Services Contribution Assessment Act, referred to this Court the question whether the sum of PD3,142 14s. 8d.  was in law an allowable deduction within the meaning of s. 51 of the said Act.  For purposes of determining the reference the board has stated a case from which I extract the following material facts.

The appellant was at all times material a newspaper publisher in New South Wales; so too was Consolidated Press Ltd  In August and September 1953 a struggle developed between these two companies which began with an attempt by Consolidated Press Ltd   to purchase from shareholders their shares in Associated Newspapers Ltd , another company which was also a newspaper publisher in New South Wales.  The appellant countered this attempt with a proposal to Associated Newspapers Ltd  of which we are told no more than that it was a firm proposal "to merge the operations of the two organizations while maintaining independence in ownership and editorial policy of  its publications and to take up all the unissued share capital".  The unissued share capital there referred to consisted of 678,674 shares of PD1 each which was the whole of the unissued ordinary capital of the company.  On 27th August 1953 the appellant was informed by a committee of the directors of Associated Newspapers Ltd  that its proposal was acceptable and thereupon Associated Newspapers Ltd  by letter offered the appellant the whole of the unissued ordinary shares at par.  This offer was accepted by letter from the appellant.  On Sunday, 30th August 1953, the directors of Associated Newspapers Ltd  met for the purpose of allotting these shares but for some unexplained reason the meeting was adjourned until 12.5 in the morning of 31st August when the meeting was resumed and the shares were upon the subscription of the appellant allotted to it for cash which was paid and the appellant and its nominees were registered as the holders of the shares. The reaction of Consolidated Press Ltd  was prompt and on the morning of the same day one Reichenbach, a shareholder in his own right in Associated Newspapers Ltd  commenced suit against Associated Newspapers Ltd , the appellant and the board of directors of Associated Newspapers Ltd  as defendants.  In commencing this suit Reichenbach agreed to act in the interests of Consolidated Press Ltd  which at that time was the beneficial owner or ordinary shares in Associated Newspapers Ltd  but was not itself registered as a shareholder of that company.  The relief claimed was rectification of the register of members of Associated Newspapers Ltd  by the removal therefrom of the name of the appellant as the holder of the aforesaid 678,674 ordinary shares and injunctions restraining the appellant from dealing with the shares or voting in respect of them and restraining the other defendants from recognizing the appellant as the holder of the shares.  Later on the same day the plaintiff obtained an interim injunction restraining the appellant and its nominees from selling the shares in Associated Newspapers Ltd  which represented capital unissued as at 26th August 1953 or from voting in respect of the said shares at any meeting of shareholders of Associated Newspapers Ltd  and restraining Associated Newspapers Ltd  and its directors from treating the said shares as qualifying any person to be elected as a director of Associated Newspapers Ltd  On 1st September 1953 the plaintiff filed a notice of motion to continue the interim injunction  until the hearing of the suit.  This application was dismissed on 22nd September 1953 but no order was made as to the appellant's costs.  After further interlocutory proceedings the suit was dismissed by consent upon terms which did not include the payment to the appellant of any of its costs of the said suit.  Its costs, which it paid itself, amounted to PD3,142 14s. 8d.  and its claim is that it is entitled to have this sum deducted as an outgoing not of a capital nature, incurred in gaining its assessable income or as necessarily incurred in carrying on a business for the purpose of gaining such income.

The case stated goes on to show that partnership agreements were made between the appellant and Associated Newspapers Ltd , firstly on 25th September 1953 and subsequently on 28th September 1954, for the publication of a Sunday paper called "The Sun-Herald"; that in October 1953 Associated Newspapers Ltd  ceased to publish "The Sunday Sun" and the appellant ceased to publish "The Sunday Herald" and thereafter, pursuant to the agreements aforesaid, "The Sun-Herald" was published by the two companies in partnership; that since 1956 all papers of Associated Newspapers Ltd  and the appellant, whether published separately or in partnership, have been produced from one building erected by the appellant, each having disposed of the building formerly used by it; that in April 1956 the appellant acquired all the ordinary shares in Associated Newspapers Ltd  so changing the position which had resulted from its holding of a large block of ordinary shares of being able to exercise "a substantial influence in the policy and control of Associated Newspapers Ltd  and of the business conducted by that company" to a position of complete control, subject only to the rights of preference shareholders.

There are therefore two questions for consideration: (1) whether in the circumstances aforesaid the sum of PD3,142 14s. 8d.  was an outgoing incurred in gaining or necessarily incurred in carrying on business for the purpose of gaining the assessable income of the appellant; and if so, (2) whether it was an outgoing of a capital nature.

It has been said that the words "the assessable income" in s. 51 refer to "the assessable income from which the deduction is to be made": Charles Moore & Co  (W.A.) Pty  Ltd  v  Federal Commissioner of Taxation. ^[F27] This assessable income in the present case seems in strictness to be the total on the credit side of the profit and loss account of the appellant for the year ended 30th June 1954 but there is a practice described by Dixon J. in Amalgamated Zinc (De Bavay's) Ltd  v  Federal Commissioner of Taxation ^[F28] as follows: "In a continuing business, items of expenditure are commonly treated as belonging to the accounting period in which they are met.  It is not the practice to institute an inquiry into the exact time at which it is hoped that expenditure made within the accounting period will have an effect upon the production of assessable income and to refuse to allow it as a deduction if that time is found to lie beyond the period". ^[F29] Furthermore, there is some justification for reading the words "such income" in the alternative provision in s. 51 as assessable income generally rather than as meaning the assessable income of a particular year: see Ronpibon Tin N.L. and Tongkah Compound N.L. v  Federal Commissioner of Taxation ^[F30] and Federal Commissioner of Taxation v  Snowden and Willson Pty  Ltd, ^[F31] per Dixon C.J. ^[F32]   Accordingly I do not confine my attention exclusively to inquiring whether it has been shown that the outgoing in question was incurred in gaining or in carrying on business to gain the assessable income of the appellant for the year ended 30th June 1954.  This inquiry, however, it is desirable to make because of the language of s. 51 itself; because there has here been an attempt to link the outgoing and that assessable income, and because the examination of that attempt seems to me to reveal the true nature of the outgoing.  In passing I should say that the way in which a taxpayer deals with a debit in its accounts cannot of course determine its character for the purposes of the Act: see Broken Hill Theatres Pty  Ltd  v  Federal Commissioner of Taxation ^[F33] and Ward & Co  Ltd  v  Commissioner of Taxes. ^[F34]

It appears from the case stated that the profit and loss account of the appellant for the year ended 30th June 1954 included the PD3,142 14s. 8d.  as a debit and included among the credit items three receipts, two of which were derived from the partnership constituted between the appellant and Associated Newspapers Ltd  already referred to and the third from an arrangement made with Associated Newspapers Ltd  that the appellant would manage that company as from 1st September 1953 for a fee.  Of this arrangement little more is revealed than that at a meeting of the directors of Associated Newspapers Ltd  on 29th September 1954 it was resolved that the management fee for the financial year ended 26th September 1954 be fixed at PD20,000.  This fee, it is explained, "was intended to cover inter alia the services of senior executives of the appellant which were made available to the partnership; no direct payments were made by Associated Newspapers Ltd  to such executives".  The first of these credits was an item described as "Licence fee-The Sun-Herald-PD37,500".  This, it seems, was the proportionate part of the fee of PD50,000 for the period ending 30th September 1954 for the use by the partnership of the word "Herald" in the name "The Sun-Herald".  The second credit was an item "Interest-The Sun-Herald-PD6,837 12s. 9d."  This was interest payable by Associated Newspapers Ltd  to the appellant as interest upon working capital of the partnership supplied by the appellant.  The third credit was an item "Management fee-Associated Newspapers Ltd -PD16,666 13s. 4d."  which was the proportionate part of the fee of PD20,000 already mentioned for the year ended 26th September 1954.  This information has no doubt been included in the case stated in order that the inference might be drawn that the outgoing of PD3,142 14s. 8d.  was incurred in gaining these items or some part of them or in carrying on business for the purpose of doing so.

This I cannot accept.  It is obviously true that the income represented by the first two credit items was derived from partnership operations and would not have been derived had there been no partnership and had the appellant not provided working capital at interest; similarly, the third credit item would not have been derived had there not been an arrangement that the appellant should manage Associated Newspapers Ltd   Furthermore, it is possibly a matter for inference rather than speculation that there would have been no partnership and no arrangement for management if the appellant had not taken up the 678,674 ordinary shares in Associated Newspapers Ltd   and successfully resisted the attack made at the instance of Consolidated Press Ltd  upon that transaction.  But to draw this inference does not mean that either the outlay to pay for the shares or that to defend the acquisition of the shares was incurred in gaining the income in question or in carrying on business to gain such income.  At best what the acquisition of the shares and successful defence did was to put the appellant in a position to enter into partnership with Associated Newspapers Ltd  and to undertake the management of that company.  An analogy may be found in the case of a person acquiring shares in a company to qualify himself to be a director and so earn director's fees, or, although perhaps somewhat less pertinently, in a lawyer entitled to practise in one jurisdiction paying a fee to be admitted to practise in another jurisdiction:  see Daley v  Minister of National Revenue. ^[F35]   To make a payment to acquire or to defend the acquisition of a favourable position from which to earn income or to enter into arrangements that will yield income is not in general an outlay incurred either in gaining or in carrying on business for the purpose of gaining assessable income; such a payment in the  case of a trading company, occurs at a stage too remote from the receipt of income to be so regarded.  To be deductible an outlay must be part of the cost of trading operations to produce income, i.e., it must have the character of a working expense.  What the appellant wanted in taking up the shares in Associated Newspapers Ltd  was to keep Consolidated Press Ltd  out, and to gain the opportunity to make profits of the sort which the accounts show that it made, but that does not mean that payments in connection with the acquisition of the shares or for the defence of the acquisition of shares were incurred in carrying on the profit-making business.

The difference that has resulted from the inclusion in s. 51 of the alternative head of deduction that depends upon the words "or are necessarily incurred in carrying on a business for the purpose of gaining or producing such income" has on more than one occasion received the attention of this Court, notably in Ronpibon Tin N.L. and Tongkah Compound N.L. v  Federal Commissioner of Taxation ^[F36] where it was said:  "The alternative in s. 51 (1)  therefore covers a wide description of activities.  But in actual working it can add but little to the operation of the leading words, `losses or outgoings to the extent to which they are incurred in gaining or producing the assessable income'. No doubt the expression `in carrying on a business for the purpose of gaining or producing' lays down a test that is different from that implied by the words `in gaining or producing'.  But these latter words have a very wide operation and will cover almost all the ground occupied by the alternative.  The words `such income' mean `income of that description or kind' and perhaps they should be understood to refer not to the assessable income of the accounting period but to assessable income generally.  If they were so interpreted, they would cover a case where the business had not yet produced or had failed to produce assessable income and the alternative would then itself suffice to authorize the deduction of a loss made in a distinct business". ^[F37]   See also Broken Hill Theatres Pty  Ltd  v  Federal Commissioner of Taxation ^[F38] and Federal Commissioner of Taxation v  Snowden and Willson Pty  Ltd. ^[F39]   Disregarding the application of the section to losses and considering the alternative head solely in its application to outgoings, there must, if an outgoing is to fall within its terms, be found (i) that it was necessarily incurred in carrying on a business; and (ii) that the carrying on of the business was for the purpose of gaining assessable income.  The element that I think it necessary to emphasise here is that the outlay must have been incurred in the carrying on  of a business,  that is, it must be part of the cost of trading operations. The only trading business of the appellant with which we are here concerned is the publication of newspapers and to my mind to pay money to acquire shares in another newspaper company is not to incur an outgoing in carrying on that business nor is to pay legal costs either in the course of that acquisition or in its defence.

For these reasons I have reached the conclusion that the outgoing was not incurred in gaining the assessable income of the year ended 30th June 1954, nor in gaining any assessable income of subsequent years, nor in carrying on business to earn the assessable income of the year ended 30th June 1954 or that of subsequent years.  It had the character of an outgoing in the course of extending the appellant's business rather than that of a working expense in the carrying on of the appellant's business.

This conclusion is, I think, supported by another consideration that I will refer to shortly.  It seems to me that the deductibility of an outlay cannot be made to depend upon the success or failure of what the outlay was intended to achieve.  If the attack on the acquisition of the shares  had succeeded, I can see no basis upon which legal costs incurred by the  appellant in unsuccessfully attempting to maintain that it was the holder of the shares, could have been regarded as deductible from assessable income.  But the success or failure of what was attempted can make no difference to the character of the expenditure, cf. Southwell v  Savill Brothers Ltd, ^[F40] which is the matter at issue.

It is, however, necessary to consider whether the conclusion I have stated is at variance with controlling authority and, in particular, with Morgan v  Tate & Lyle Ltd, ^[F41] where expenditure to resist the nationalization of the sugar industry in England was treated by the commissioners as wholly and exclusively laid out for the purposes of the company's trade and as an admissible deduction from its profits for income tax purposes, and the House of Lords decided that there was no reason in law to prevent the commissioners from so deciding.  The basis of the decision of the House of Lords was that according to ordinary accountancy principles the outlay "must be charged against the profits to which it related" (these profits were treated as those of the year of the expenditure) and that there was no statutory prohibition against deducting the sum in question to arrive at the balance of profits for the purposes of taxation:  see per Lord Morton, ^[F42] and per Lord Reid. ^[F43]   The prohibition invoked by the Solicitor-General was that against allowing any deduction "not being money wholly and exclusively laid out or expended for the purposes of the trade" and in considering the applicability of that prohibition their Lordships emphasized one part of Lord Davey's famous observation in Strong & Co  of Romsey Ltd  v  Woodifield, ^[F44] upon the meaning of the words "for the purposes of such trade" and rather discounted another part of that observation.  The part emphasized was:  "These words ... appear to me to mean for the purpose of enabling a person to carry on and earn profits in the trade"; ^[F45]   the part discounted came later and was as follows:  "It must be made for the purpose of earning the profits": ^[F46]   see per Lord Morton ^[F47]  and per Lord Reid. ^[F48]   The earlier words were regarded as governing the later words.  When attention is directed to s. 51 of the Income Tax and Social Services Contribution Assessment Act (Cth.) however, it is the latter part of Lord Davey's observation that seems to me to have more application than the former.  This is obviously so if attention is directed to the first alternative, that is outgoings "incurred in gaining or producing the assessable income", i.e., to use Lord Davey's words," made for the purpose of earning the profits".  But if attention  is directed to the second alternative in s. 51 (1) "outgoings ... necessarily incurred in carrying on business for the purpose of gaining or producing such income", again, as I have already said, the essential element is that the expense has been incurred "in carrying on business" rather than again, to use Lord Davey's words, "for the purpose of enabling a  person to carry on"  trade and earn profits.

It seems to me that the decision of the Privy Council in Ward & Co  Ltd  v  Commissioner of Taxes ^[F49] is closer in point than Morgan v  Tate & Lyle Ltd. ^[F50]   The earlier case concerned New Zealand legislation and the question was whether expenditure bya brewery to oppose prohibition was "exclusively incurred in the production of assessable income".  It was held that it was not and their Lordships said: "The expenditure in question was not necessary for the production of profit, nor was it in fact incurred for that purpose.  It was a voluntary expense incurred with a view to influencing public opinion against taking a step which would have depreciated and partly destroyed the profit-bearing thing.  The expense may have been wisely undertaken, and may properly find a place, either in the balance sheet or in the profit-and-loss account of the appellants; but this is not enough to take it out of the prohibition in s. 86, sub-s. 1 (a), of the Act.  For that purpose it must have been incurred for the direct purpose of producing profits". ^[F51]   This decision was distinguished in Morgan v  Tate & Lyle Ltd ^[F52]  on the ground that the statutory provisions relating to deductions were different.   The Australian Act is different again and it seems to me that neither case is precisely applicable.

The foregoing discussion is not directed to speculating whether Morgan v  Tate & Lyle Ltd ^[F53] would have been decided differently if it had been s. 51 of the Commonwealth Act that had had to be applied, but has been undertaken for the purpose of pointing out that the decision rested upon statutory provisions that are not the same as those here in question and that accordingly it is not sufficient to say that because the outgoing there allowed as a deduction was one undertaken to protect assets from seizure and because the outgoing here in question was to protect the acquisition of assets, as I prefer to put it, or to protect the appellant's assets previously acquired, as Mr. Bowen preferred to put it, the outgoing must be allowed as a deduction.

This conclusion in strictness makes it unnecessary for me to consider whether the outgoing was of a capital nature but as I have reached the conclusion that it was I will state my reasons for so thinking.

It was argued that the outgoing was to preserve an existing capital asset and was of the same character as expenditure to maintain a building or other physical capital assets used in trading operations and Rhodesia Railways Ltd  v   Income Tax Collector, Bechuanal and ^[F54] was cited.  I see the outgoing, as I have already said, rather as part of the expense of adding to the appellant's capital than as an expense of maintaining a capital asset but even if it be assumed that its true character was a payment to protect a capital asset that had already been acquired I would still be disposed to regard it as of a capital nature.

The distinction between capital and revenue expense has been the subject of a good deal of consideration in this Court over recent years.  The starting point is Sun Newspapers Ltd  and Associated Newspapers Ltd  v  Federal Commissioner of Taxation, ^[F55] where a payment of PD86,500 by a newspaper publisher to persons about to publish a competing newspaper, made in order to prevent the publication of that paper but by which some tangible assets were acquired, was held to be a capital payment. Rich J. said:

"It is not expenditure of a recurrent nature.  It is not an incident, whether normal or unusual, of the  regular conduct of the organization for earning profits.  The purpose was to buy out opposition and secure so far as possible a monopoly.  The fact that the benefit was not perpetual does not deprive it of its capital attributes.  If physical assets of a terminating or wasting description were bought no one would say on that account that the money was a revenue expenditure". ^[F56]

This decision was affirmed upon appeal and Dixon J.  found the distinction between capital and revenue expenditure to correspond "with the distinction between the business entity, structure, or organization set up or established for the earning of profit and the process by which such an organization operates to obtain regular returns by means of regular outlay, the difference between the outlay and returns representing profit or loss" ^[F57] i.e. the distinction between "the profit yielding subject and the process of operating it". ^[F58]   His Honour said:  "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". ^[F59]   These principles have received acceptance in this Court ever since, see per Fullagar J. in Federal Commissioner of Taxation v  Snowden and Willson Pty  Ltd. ^[F60]   One instance of their application was in Broken Hill Theatres Pty  Ltd  v  Federal Commissioner of Taxation, ^[F61] where it was decided that the costs of a theatre proprietor of regularly opposing applications by other persons for licences for new theatres were capital outgoings notwithstanding that the expenditure did not result in any addition to the taxpayer's assets.  See too Federal Commissioner of Taxation v  Duro Travel Goods Pty  Ltd, ^[F62] per Taylor J. ^[F63]

In my judgment the application of the principles stated and applied in the cases cited shows the outgoing here in question to be of a capital nature.  The advantage sought to be obtained by the defence of the acquisition of shares was the same as  that sought by the acquisition itself, i.e. to prevent Consolidated Press Ltd  from obtaining control of Associated Newspapers Ltd  and to make possible the merger of the operations of Associated Newspapers Ltd  with those of the appellant; these were affairs of capital, relating as they did to the profit bearing subject rather than its operation.

There is however one argument pressed by Mr. Bowen that I must consider.  It was that because the payment of the costs added nothing to the appellant's assets it could not properly be regarded as capital expenditure.  To this there are two answers:  the first is that the costs were incidental to the acquisition of the shares;  the second is that the test propounded is not a decisive test.  It is perhaps true that that test was treated as decisive by Lawrence J. in Southern v  Borax Consolidated Ltd, ^[F64] for his Lordship said: "On the other question whether this is a payment properly attributable to capital or to revenue, in my opinion the principle which is to be deduced from the cases is that where a sum of money is laid out for the acquisition or the improvement of a fixed capital asset it is attributable to capital, but that if no alteration is made in the fixed capital asset by the payment, then it is properly attributable to revenue, being in substance a matter of maintenance, the maintenance of the capital structure or the capital assets of the company" ^[F65] and he concluded his judgment by saying:  "It appears to me that the legal expenses which were incurred by the respondent company did not create any new asset at all, but were expenses which were incurred  in the ordinary course of maintaining the assets of the company and the fact that it was maintaining the title and not the value of the company's business does not, in my opinion, make it any different". ^[F66]   That decision has not been accepted by this Court (Broken Hill Theatres Pty  Ltd  v  Federal Commissioner of Taxation) ^[F67] notwithstanding that it had been approved by the Court of Appeal in Associated Portland Cement Manufacturers v  Kerr ^[F68] and applied by Croom-Johnson J. in Cooke v  Quick Shoe Repair Service. ^[F69]   Now, however, Southern v  Borax Consolidated Ltd ^[F70] has the approval of the members of the House of Lords who decided Morgan v  Tate & Lyle Ltd. ^[F71]   In that case, however, it was not argued that the payments in question were of a capital nature; it was conceded that they were not and in these circumstances I do not regard the approval given to Southern v  Borax Consolidated Ltd ^[F72] as going beyond the first branch of the decision, i.e. that the costs of maintaining the taxpayer's title to land used in its business were "wholly and exclusively laid out for the purposes of the trade" which as has been seen was the only point in issue about the payments in Morgan v  Tate & Lyle Ltd. ^[F73]   I do not therefore regard the House of Lords in that case as adopting the proposition that because a payment made for the purposes of trade has not added to a taxpayer's assets it is therefore of a revenue and not of a capital character.

Some payments of a revenue character do add to the value of capital assets, such as (1.)  renewals, the subject of decision in Rhodesia Railways Ltd  v  Income Tax Collector, Bechuanal and ^[F74] where although no new asset was created an old one, worn out by service, was improved; or (2.) the cost of advertising which in addition to boosting current sales builds goodwill; or (3.)  the cost of sowing annual crops.  On the other hand capital expense does not always result in the creation of a new asset or increase the value of an existing asset, e.g. a payment to get rid of an unwanted capital asset such as in Mallett v  Staveley Coal & Iron Co  Ltd, ^[F75]   or the cost of reducing capital:  Archibald Thomson, Black & Co  Ltd  v  Batty. ^[F76]   See also the cases cited by Dixon J. in Hallstroms' Case. ^[F77]   In Van den Berghs Ltd  v  Clark ^[F78] Lord Macmillan said that from a study of the decided cases "no infallible criterion emerges" ^[F79] and the oft-quoted observation of Viscount Cave L.C. in British Insulated and Helsby Cables Ltd  v  Atherton ^[F80] is carefully expressed in qualified terms:  "when an expenditure is made, not only once and for all, but with a view to bringing into existence an asset or an advantage for the enduring benefit of a trade, I think that there is very good reason (in the absence of special circumstances leading to an opposite conclusion) for treating such an expenditure as properly attributable not to revenue but to capital". ^[F81]   There can be no doubt that when the question is whether a payment is of a capital nature or not it is an important circumstance that it has or has not increased the taxpayer's assets but this has not been accepted as an infallible test and I do not regard Morgan v  Tate & Lyle Ltd ^[F82] as elevating it to such a position.  I do not therefore think that this Court should accept the proposition that a payment otherwise within s. 51 (1) is not of a capital nature unless it has resulted in the creation of a new asset or an addition to an existing asset.

For the foregoing reasons I think the question asked should be answered No.