Willingale and International Commercial Bank LTD
[1978] AC 834(Decision by: Lord Keith of Kinkel)
Willingale (Inspector of Taxes)
and International Commercial Bank LTD
Judges:
Lord Diplock
Lord Salmon
Lord Fraser of Tullybelton
Lord Russell of Killowen
Lord Keith of Kinkel
Subject References:
Revenue
Corporation tax
Computation of profits
Anticipated profits from bills and promissory notes discounted or purchased by bank
Whether tax payable on fractional part of anticipated profits from bills
Legislative References:
Income and Corporation Taxes Act 1970 - Section 108
Case References:
BSC Footwear Ltd v Ridgway - [1972] AC 544; [1971] 2 WLR 1313; [1971] 2 All ER 534
Duple Motor Bodies Ltd v Inland Revenue Commissioners - [1961] 1 WLR 739; [1961] 2 All ER 167
Gardner, Mountain and D'Ambrumenil Ltd v Inland Revenue Commissioners - (1947) 177 LT 16; [1947] 1 All ER 650; 29TC69
Harrison v John Cronk and Sons Ltd - [1937] AC 185; [1936] 3 All ER 747
Newcastle Breweries Ltd v Inland Revenue Commissioners - (1927) 96 LJKB 735; 12 TC 927
Southern Railway of Peru Ltd v Owen - [1957] AC 334; [1956] 3 WLR 389; [1956] 2 All ER 728
Sun Insurance Office v Clark - [1912] AC 443
Bennett v Ogston - (1930) 15 TC 374
Dailuaine-Talisker Distilleries Ltd v Inland Revenue Commissioners - [1930] SC 878; 15 TC 613
Dimbula Valley (Ceylon) Tea Co Ltd v Laurie - [1961] Ch 353; [1961] 2 WLR 253; [1961] 1 All ER 769
Odeon Associated Theatres Ltd v Jones - [1971] 1 WLR 442; [1971] 2 All ER 407; [1973] Ch 288; [1972] 2 WLR 331; [1972] 1 All ER 681
Pearce v Woodall Duckham Ltd - [1977] 1 WLR 224; [1977] 1 All ER 753
Seaham Harbour Dock Co v Crook - (1930) 16 TC 333
Whitworth Park Coal Co Ltd v Inland Revenue Commissioners - [1961] AC 31; [1959] 3 WLR 842; [1959] 3 All ER 703
Judgment date: 2 February 1978
Decision by:
Lord Keith of Kinkel
My Lords, the respondents in this appeal were incorporated in 1967 with the object of providing medium-term finance in world markets to commercial companies. At all material times a substantial part of the respondents' business consisted in the discounting or purchase of bills of exchange and similar obligations issued by borrowers all over the world. The maturity periods of the obligations varied between one year and ten years; some carried a fixed rate of interest and others carried none. The respondents usually held such bills to maturity, but on many occasions they sold them before maturity. The purpose of discounting or purchasing a bill is to make a profit, and it is found in the case stated that the amount of profit a purchaser or discounter of bills may make is not ascertainable before the bill (a) is sold or (b) reaches maturity.
The respondents, however, in making up their annual profit and loss accounts, brought into account on the credit side at the end of each year a fractional part of the profit expected to be made if their bills were held to maturity. Their practice was to isolate the discount applicable to each bill or note, divide by the total number of days covered, and then take the appropriate number of days of discount into each profit and loss period. It was common ground that this procedure had the result that the respondents' account showed a true and fair view of the profit for the year in accordance with accountancy principles.
In respect of the respondents' accounting periods for the years ended December 31, 1967, to December 31, 1970, inclusive, the appellant assessed them to corporation tax on the basis of their audited accounts prepared in the manner I have described. The respondents appealed to the general commissioners for the City Division of London, and contended primarily that the assessments contravened the cardinal principle of income tax law that in ascertaining the assessable profit a profit is not to be taxed until it has been realised. They also advanced the alternative contention that the bills constituted stock-in-trade, and should be treated as such in the computation of the taxable profits of the respondents' trade. The commissioners found in the respondents' favour on their primary contention and accordingly found it unnecessary to reach any conclusion on their alternative contention, and made no findings in relation to it. The commissioners, at the appellant's request, stated a case for the opinion of the High Court and on March 12, 1976, Walton J. affirmed the decision of the commissioners. On March 15, 1977, the Court of Appeal by a majority (Ormrod L.J. and Sir John Pennycuick, Stamp L.J. dissenting) dismissed an appeal from Walton J. The appellant now appeals to this House.
The argument for the appellant started from the statement of Lord Haldane in Sun Insurance Office v. Clark [1912] A.C. 443, 455:
"It is plain that the question of what is or is not profit or gain must primarily be one of fact, and of fact to be ascertained by the tests applied in ordinary business. Questions of law can only arise when (as was not the case here) some express statutory direction applies and excludes ordinary commercial practice, or where, by reason of its being impracticable to ascertain the facts sufficiently, some presumption has to be invoked to fill the gap."
It was accepted that, in the words of Lord Reid in B.S.C. Footwear Ltd. v. Ridgway [1972] A.C. 544, 552:
"The application of the principles of commercial accounting is, however, subject to one well-established though non-statutory principle. Neither profit nor loss may be anticipated."
But it was contended that the bringing in on the credit side of a profit and loss account of a present debt payable in the future does not offend that principle; that the difference between the amount paid for a bill of exchange and the amount payable on maturity was a debt of that nature; and that sound principles of commercial accountancy having led in the present case to the bringing in of a particular part of that difference in each year before maturity, there was no good reason why the result should not be applicable for tax purposes. Reliance was placed on Newcastle Breweries Ltd. v. Inland Revenue Commissioners (1927) 96 L.J.K.B. 735, Harrison v. John Cronk and Sons Ltd. [1937] A.C. 185, Gardner, Mountain and D'Ambrumenil Ltd. v. Inland Revenue Commissioners (1947) 177 L.T. 16 and Southern Railway of Peru Ltd. v. Owen [1957] A.C. 334.
That group of cases establishes that it may be right in principle to bring into credit in a particular accounting year something which will not be received until a later year, and likewise to bring into debit an expenditure which will not require to be made until a future year, and further that it may be correct to strike the appropriate credit or debit by a process of estimation or of discounting. The principle which justifies this is that the receipt has been earned by services rendered or goods supplied in the earlier year, or that the liability for the expenditure arises from some transaction in the earlier year, and it is not a necessary objection to the inclusion in the account of the receipt or expenditure in question that is uncertain, deferred or contingent. Whether or not the credit or debit should be included was said by Lord Radcliffe in the Southern Railway of Peru case at p. 357 to turn on the answer to the practical question, how much more will the trader have to pay out or be able to get in than his current accounts of the year are recording, and later on he said:
"But, whatever the legal analysis, I think that for liabilities as for debts their proper treatment in annual statements of profit depends not upon the legal form but upon the trader's answers to two separate questions. The first is: Have I adequately stated my profits for the year if I do not include some figure in respect of these obligations? The second is: Do the circumstances of the case, which include the techniques of established accounting practice, make it possible to supply a figure reliable enough for the purpose?"
Cases suitable for the application of these principles may in many instances be identified without difficulty. In my opinion the present case is not one of these, having regard to the nature of the transactions which form the relevant part of the respondent bank's business. In each case a sum of money is paid out by the bank in a particular year and in return for it the bank receives a bill of exchange, a chose in action. The bill obliges the issuer or acceptor to pay the bank a larger sum at the expiration of a number of years. The situation presents some analogy to the purchase by a trader of goods, which he expects later to sell at a profit, so that one might have expected to see the bank in the year of purchase enter the cost of the bill in its profit and loss account as a debit, in subsequent years to enter as a debit the cost or market value of the bill whichever was the less, and in the year of maturity to enter as a credit the face value of the bill, whether or not it was actually paid in that year. But here the cost of the bill does not enter the profit and loss account; it goes in the balance sheet. It is only the difference between the cost and the maturity value of the bill which ever finds its way into the profit and loss account in annual fractions over the period of maturity. There can be no doubt that from the beginning the issuer or acceptor of the bill is under a present obligation to pay the bank a sum certain on a particular future date. So there is attraction in the view that under the principles to which I have referred the bank, since it has by the transaction received in return for its payment the present right to receive a larger payment at a future date, should bring into its profit and loss account on the credit side the value of that right, suitably discounted, the payment out being likewise brought in on the debit side. But that again is not what was done, nor is it suggested that it should have been done. Nor has the amount of profit expected been brought in at a valuation or at a discount. The reason why accounts prepared in the manner adopted by the respondent bank show a true and fair view of its profits over the years is that, in order to have funds available for its bill of exchange transactions, the bank borrows money at interest. The interest payable each year goes into the debit side of the profit and loss account, and it is with the object of showing what benefit there is to counter-balance these payments that a fractional part of the discount on the bills is taken into the account on the credit side in each year. But it is not accurate to say that the interest payments are earning these fractional parts of the discount. The borrowing transactions and the bill of exchange transactions are separate and distinct from each other. It is the bill of exchange transactions upon which attention must for present purposes be concentrated. The substance as well as the form of these transactions are such, in my opinion, that the respondent bank is by them acquiring assets which in the future they expect to realise at a profit. It is not reasonably to be regarded as rendering services to the issuers of the bills for which the latter there and then become liable to pay. The case stated speaks of the respondent bank making a profit when the bills reach maturity, and I think that is in accordance with the plain common sense of the matter. What goes into the profit and loss account each year is a fractional part of what it is hoped the profit will ultimately be, although it is found in the case stated that the amount of the profit is not ascertainable, due to a number of circumstances, until the bill is sold or reaches maturity. So I am of opinion that the assessment of the respondent bank to corporation tax on the basis of accounts made up in this way does contravene the rule that a profit may not be taxed until it is realised.
Part of the accountancy evidence before the commissioners was to the effect that accounts drawn up so as to exclude so called accrued discount, and presumably so as to show the profit on the bills as and when realised, would have accorded with proper principles of accounting, provided that the procedure followed was fully explained in the accounts. This shows that accounts prepared on what I regard as the proper basis for tax purposes would not have contravened sound principles of accounting and helps to neutralise the appellant's argument in so far as it is founded upon the principle that for taxation purposes profits are to be ascertained in accordance with commercial accountancy practice.
In the circumstances it is unnecessary to deal with the respondent bank's alternative contention that the bills of exchange represent stock-in-trade, a contention which could not in any event be disposed of without a remit to the commissioners.
My Lords, for the reasons I have given I would dismiss the appeal.