• This judgment was the subject of a Special leave application.

Mussalli & Ors v FC of T

Members: McKerracher J

Thawley J
Stewart J

Tribunal:
Federal Court of Australia, Full Court

MEDIA NEUTRAL CITATION: [2021] FCAFC 71

Decision date: 14 May 2021

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Thawley J

101. I have had the advantage of reading the draft reasons of McKerracher and Stewart JJ. I agree that the appeal should be dismissed and with the substance of their Honours ' reasons.

102. The relevant payments, which were labelled by the parties to the transactions as " prepayments of rent " , were outgoings of capital. Accordingly, the outgoings were not deductible by reason of s 8-1(2)(a) of the Income Tax Assessment Act 1997 (Cth), which provides that a taxpayer cannot deduct a loss or outgoing to the extent that it is a loss or outgoing of capital.

103. The reasons for this conclusion may be demonstrated by reference to the acquisition of Erina Fair II. McDonald ' s Australia Limited ( MAL ) valued that business at $940,000. Of that amount, $465,000 represented the value of the equipment. The difference between

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ATC 24403

$940,000 and $465,000, namely $475,000, represented the remaining value of the business calculated by reference to a multiple of adjusted yearly profits.

104. MAL offered two methods for the acquisition of Erina Fair II, including the associated lease, which relevantly and in simplified form were as follows:

• (1) Option 1:
  • • purchase equipment: $465,000; and
  • • pay monthly rent at 13.93% of gross turnover.
• (2) Option 2:
  • • purchase equipment: $465,000;
  • • prepay rent: $475,000; and
  • • pay monthly rent at 9.4% of gross turnover.

105. Objectively assessed:

• (1) Under option 1, the purchaser would pay for the acquisition of the business valued at $940,000 by paying the full value of the equipment ($465,000) and the balance ($475,000) through a higher monthly rent.
• (2) Under option 2, the purchaser would pay for the acquisition of the business valued at $940,000 by paying the full value of the equipment ($465,000) and the balance of $475,000 under the label " prepayment of rent " .

106. Without examining the particular circumstances of the relevant taxpayer, it can be observed that the purchaser would know from the terms of the offer (which offered the equipment for sale at $465,000) and from the usual inquiries a purchaser would make that the value of equipment was $465,000. In the circumstances of this case at least, involving an operating business known to be profitable, the purchaser would know that the value of the business was significantly more than the value of the equipment used in the business. Objectively assessed, the purpose of the purchaser in incurring an obligation to pay $475,000 would be to acquire the business and associated structure, not to prepay rent.

107. The relevant issue is what the outgoing was calculated to effect from a practical and business point of view:
Commissioner of Taxation v Sharpcan Pty Ltd (2019) 373 ALR 414 at [18] . As Fullagar J observed in
Colonial Mutual Life Assurance Society Ltd v Federal Commissioner of Taxation (1953) 89 CLR 428 at 454 the commonly arising questions are: " What is the money really paid for? " and " Is what it is really paid for, in truth and in substance, a capital asset? " . The issue raised by s 8-1(2)(a) is one of characterisation of the expenditure from the perspective of the particular business or transaction. Here, the correct characterisation of the outgoing is plain from the objective facts: the so-called " prepayment of rent " was incurred to acquire the Erina Fair II and its associated business structure.

108. That is not to say that facts known to a taxpayer or the taxpayer ' s state of mind are irrelevant in the application of s 8-1(2)(a) in a particular case. The taxpayer ' s state of mind may be relevant because the process of characterisation operates from the standpoint of the particular taxpayer, not some hypothesised reasonable taxpayer. It is necessary to undertake the process of characterisation having regard to matters relevant to the particular business or transaction, including the particular taxpayer ' s objectives and state of knowledge - see:
Commissioner of Taxation v Midland Railway Company of Western Australia Ltd (1952) 85 CLR 306 at 313 (Dixon J);
Magna Alloys & Research Pty Ltd v Commissioner of Taxation (1980) 11 ATR 276 at 284-285 (Brennan J);
Fletcher v Commissioner of Taxation (1991) 173 CLR 1 at 18-19 ;
Spassked Pty Ltd v Commissioner of Taxation (2003) 136 FCR 441 . A taxpayer ' s business activities or objectives are determined by the controlling mind of the taxpayer.

109. Mr Mussalli in fact knew the manner in which MAL valued its businesses and knew that MAL valued the Erina Fair II equipment at $465,000 and the business as a whole at $940,000. Having regard to the matters of fact known to Mr Mussalli and the objective facts, the relevant entity agreed to pay the " prepayment of rent " in order to acquire the business and its associated structure. It paid the value of the business known to be the value determined by MAL. Even if the " prepayment of rent " is regarded in substance as analogous to a lease premium (and it is not entirely dissimilar) that is an affair of capital:
Commissioner of Taxation v Montgomery (1999) 198 CLR 639 at [38] .

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ATC 24404

110. In each of the various transactions, the method of calculation of the offers was the same, namely that the so-called " prepayment of rent " reflected the difference between the value of the equipment and the value of the business. It may be accepted that the character of a payment is not dictated by the manner of its calculation:
Glenboig Union Fireclay Co Ltd v Inland Revenue Commissioners (1921) 12 TC 427 at 464 ;
Commissioner of Taxes (Vic) v Phillips (1936) 55 CLR 144 at 156 ;
Commissioner of Taxation v Northumberland Developments (1995) 59 FCR 103 . However, that does not mean that one ignores the objective facts. The " prepayment of rent " was not calculated by reference to the duration of the leases or any other matter which would naturally form an integer in the calculation of a prepayment of rent. Further, in each of the transactions, consistently with the expectation of the parties, no new prepayment was required on renewal of the relevant leases. These matters indicate that the payments are not properly characterised as a replacement of a revenue outgoing in the form of rent but, rather, are properly characterised as part of the purchase price of a capital asset.

111. It may be accepted that a payment which is made to put an end to an ongoing revenue expense would, absent other purposes associated with the expenditure, often itself be a revenue expense:
Anglo-Persian Oil Co Ltd v Dale [1931] All ER Rep 725 at 732 ;
W Nevill and Company Ltd v Commissioner of Taxation (1937) 56 CLR 290 . That principle has no application to the present facts.

112. It may also be accepted that a lump sum payment made in substitution for future revenue expenses would, absent other purposes for incurring the lump sum payment, often constitute a revenue expense:
Commissioner of Taxation v Myer Emporium Ltd (1987) 163 CLR 199 at 218-219 ;
Hancock (Surveyor of Taxes) v General Reversionary and Investment Company Limited [1919] 1 KB 25 . Again, that principle has no application to the present facts.

113. The payments in the present case were ones made to acquire a business and its associated structure. It follows that the appeal must be dismissed.

THE COURT ORDERS THAT:

1. The appeal be dismissed.

2. The appellants pay the costs of the respondent to be assessed if not agreed.

SCHEDULE OF PARTIES

	NSD 555 of 2020
Appellants
Fourth Appellant:	SANDRA MUSSALLI
Fifth Appellant:	DANIEL MUSSALLI