Commissioner of Taxes (Victoria) v Nicholas
59 CLR 230(Judgment by: Rich J)
Commissioner of Taxes (Victoria)
v Nicholas
Judges:
Latham CJ
Rich JStarke J
Evatt J
McTiernan J
Subject References:
Taxation and revenue
Income tax
Bonus shares
Assessable income of shareholder
Legislative References:
Unemployment Relief Tax (Assessment) Act 1933 (Vic) (No 4171) - the Act
Income Tax Act 1935 (Vic) (No 4309) - the Act
Judgment date: 25 March 1938
Perth
Judgment by:
Rich J
The short question in the case is whether the capitalization of reserves of profit makes a shareholder liable to Victorian income tax (special tax) and Victorian unemployment relief tax upon so much of the profits capitalized as is represented by the shares he receives. For the purposes of these taxes the assessable income of a taxpayer includes, in the case of any person who is a member or shareholder of a company registered in Victoria-any dividend, interest, profit or bonus credited, paid or distributed to him by the company from any profit derived in or from Victoria or elsewhere by it (Income Tax Act 1935 (special tax), s. 2 (1) (g) and proviso; Unemployment Relief Tax (Assessment) Act 1933, s. 4). If the question were whether the shares themselves, issued as they are as fully paid up, constituted income arising in the hands of the taxpayer, the answer would be in the negative. For that answer is both authorized and required by Blott's Case [F15] and Commissioner of Income Tax, Bengal v Mercantile Bank of India Ltd [F16] . The reason for that conclusion is summarized by a short passage in the opinion of Lord Haldane in Blott's Case [F17] , which Lord Cave treated in Inland Revenue Commissioners v Fisher's Executors [F18] and Lord Thankerton in the Bengal Case [F19] as stating the principle.
Lord Haldane said: "My Lords, for the reasons I have given I think that it is, as matter of principle, within the power of an ordinary joint-stock company with articles such as those in the case before us to determine conclusively against the whole world whether it will withhold profits it has accumulated from distribution to its shareholders as income, and as an alternative not distribute them at all, but apply them in paying up the capital sums which shareholders electing to take up unissued shares would otherwise have to contribute. If this is done the money so applied is capital and never becomes profits in the hands of the shareholders at all. What the latter gets is no doubt a valuable thing. But it is a thing in the nature of an extra share certificate in the company" [F20] . It is to be noticed that Lord Haldane describes the operation of the company as applying the profits in paying up the capital sum which shareholders electing to take up unissued shares would otherwise have to contribute. To my mind the question on the Victorian statutes is whether this operation does not involve or connote the crediting of a profit to the shareholder. Now, the words I have quoted from the Victorian statutes have much history behind them in Australia. They are taken from the Federal income-tax legislation which preceded the consolidation of 1936, a consolidation now, I think, adopted in the same form by the various States.
In the Federal legislation the provision took its beginning in s. 14 (b) of the Income Tax Assessment Acts 1915, which provided that the income of any person should include "dividends, interest, profits, or bonus credited or paid to any member, shareholder, or debenture holder of a company which derives income from a source in Australia or of a company which is a shareholder in a company which derives income from a source in Australia, but not including a reversionary bonus issued on a policy of life insurance." Whilst the provision was substantially in this form it was interpreted by this court in James v Commissioner of Taxation [F21] . The case was decided in 1924 by this court with Blott's Case [F22] before it. It was an ordinary case of capitalization out of profits. After examining Blott's Case [F23] , Isaacs J., as he then was, said:"It appears to me that the point of divergence between the majority and the minority in that case is found in this consideration:Both agreed that the declaration of dividend entitled the shareholder to his proportion of the profits in some way. Both agreed that he was entitled to have that proportion applied by the company so as to impute payment of his liability in respect of the capital represented by the new shares to be issued" [F24] . In describing the particular procedure followed by the company there in question his Honour said that "the declaration of dividend created a debt, there can be no doubt" [F25] ; then he went on:"But it was a debt which from its birth was conditioned to be satisfied, not by payment over, but by a credit in discharge of a liability on shares in a process which the law says is, in the result, the creation of capital.
The Australian Act, unlike the English Act, does not always wait to the end of the process: it also sometimes seizes an intermediate operation" [F26] . This represented the view of Knox C.J., who said that the sum appropriated answered the description of profits or bonus credited to a shareholder of a company [F27] . It represented also, I think, the view of Gavan Duffy and Starke JJ., who said: "Such a transaction could not be carried out, in point of fact or of law, unless the profits had been allocated to the shareholders and treated, in account between the company and the shareholders, as at the `credit' of the shareholders" [F28] . And I may add that I expressed the view myself that it was incontestable on the facts stated that the sum in question was credited to the shareholder out of the profits of the company in respect of the shares [F29] . This unanimous decision settled, so far as we are concerned the question, if any question there could be, that an appropriation by a company of a fund consisting of profits reserved to answer an allottee's prima-facie liability upon the amount of the shares is a crediting of profits within the meaning of the crucial words as they stood in the Federal Act. In the Federal consolidation of 1922, s. 16 (b) (i), the word "distributed" was added to the words "credited and paid." A special provision was made for bonus shares (s. 16 (b) (ii)), and to it a proviso was added excluding the application of James' Case [F30] beyond that provision. It is needless to go into the subsequent history of the matter in the Federal Acts.
It is enough to say that the legislation has proceeded on the basis of James' Case [F31] and the Acts have been modified or qualified from time to time according to the policy which for the time being appealed to the parliament. But the Victorian legislature took the very words upon which James' Case [F32] was decided and applied them to the purposes of the Victorian income tax, special tax and unemployment-relief tax. The notoriety of James' Case [F33] makes it certain that the legislature took them as words involving all the consequences of that decision. But in James' Case [F34] the procedure of the company in capitalizing was less direct than in the present case. Here art. 95 of the articles of association provides that "when declaring a dividend the directors may direct payment of the same wholly or in part by the distribution of specific assets and in particular of shares debentures or debenture stock of the company or of any other company or of war-loan bonds or stock at face value or in any one or more of such ways and when any difficulty arises in regard to the distribution they may settle the same as they think expedient and in particular may issue fractional certificates or sell shares not divisible by reason of fractions and may fix the value for distribution of such specific assets or any part thereof and may determine that cash payments shall be made to or by any members upon the footing of the value so fixed in order to adjust the rights of all parties.
Where requisite a proper contract shall be filed in accordance with s. 96 of the Companies Act 1915 and the directors may appoint any person to sign such contract on behalf of the persons entitled to the dividend and such appointment shall be effective." In James' Case [F35] an extraordinary resolution of the company authorized the directors to capitalize profits and to that end to distribute the amount to be capitalized as a bonus in proportion to the shares held by the members and to distribute in like proportions unissued shares paid up to the predetermined amount. It is said that the difference justifies the conclusion that profits were not credited in the present case, notwithstanding that they were in James' Case [F36] . As a matter of company law the direct method of capitalization pursued in the present case represents a comparatively recent practice. Its growth may be perhaps best evidenced by a reference to the polemics of anonymous controversialists in the Law Quarterly Review, vol. 33, pp. 208 and 297, and the note in reply, vol. 34, p. 7; see vol. 46, p. 336. Since then it has become common practice to adopt articles of association authorizing the direct issue of paid-up shares. But the shares must be paid up out of something and that something must be susceptible of application or appropriation to answer what would otherwise be a liability to the face value of the shares.
Unless the prima-facie liability is extinguished by the application of money or money's worth available for that purpose, the shares are unpaid, and that means the shareholder is liable for their amount and upon the capital being called up would owe a debt in praesenti (In re Eddystone Marine Insurance Co [F37] ). When a company appropriates or applies its profits to satisfy or extinguish this liability, it appears to me quite clear that it credits them to the shareholder. It applies them to his use. When the Act of Parliament speaks of "crediting" it is not discussing bookkeeping, but the appropriation of profits to answer the purposes of the shareholder. If the shareholder obtains shares, stock, debentures, bonds or any other negotiable or transferable form of obligation of the company or interest in its assets, and the consideration which otherwise must be supplied by him consists in an appropriation by the company of profits to that end it would seem to me to be the very thing meant by "crediting" the profits. At all events, this is what James' Case [F38] means, and we are bound by that decision. Perhaps it may be added that after all the water that has flowed under the statutory bridge it seems to me rather late in the day to ask us to say that a capitalization of profits does not involve a "crediting" of them within the meaning of Australian legislation.
In my opinion the question in the special case should be answered in the affirmative.