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Merchant & Anor v FC of T

Judges:
Logan J
McElwaine J
Hespe J

Court:

MEDIA NEUTRAL CITATION: [2025] FCAFC 56

Judgment date: 22 April 2025

Logan J

1. I have had the benefit of reading in draft the reasons for judgment to be delivered by McElwaine and Hespe JJ ( joint judgment ).

2. The thoroughness with which the facts of this case, the reasons of the primary judge and the issues on the appeal are rehearsed in the joint judgment enables me to state relatively briefly why I would allow this appeal, except insofar as it relates to the Taxation of Financial Arrangements Provisions ( TOFA ) in the Income Tax Assessment Act 1997 (Cth) ( ITAA 1997 ). I would dismiss so much of the appeal as relates to the TOFA.

3. I refer to the facts only to the extent necessary to explain my conclusions.

SECTIONS 177D AND 177C OF THE INCOME TAX ASSESSMENT ACT 1936 (CTH)

4. In his youth, Mr Gordon Stanley Merchant was a surfer and a maker and repairer of surfboards. He travelled the world undertaking these activities. By the early 1970 ' s, when he was in his late twenties, Mr Merchant had settled in rented farmhouse accommodation in Springbrook in the Gold Coast hinterland. There he continued his business of building surfboards. During this time and through surfing, he met his future wife, Rena. Rena also then had a business serving the surfing community. She made bikinis and simple boardshorts, selling them to other surfers on the Gold Coast. In 1973, they decided to start making boardshorts at home and sell them to local surf shops on the Gold Coast. Together, they made about 20 pairs of boardshorts a week on their kitchen table.

5. Over time, the business so founded grew and evolved into the successful " Billabong " brand of surf ware. Billabong Limited ( BBG ), which came to conduct that business, was listed on the Australian Securities Exchange ( ASX ) on 11 August 2000.

6. Even before the listing of BBG on the ASX, there had been challenges for Mr Merchant in the conduct and direction of the Billabong business. These were created by the introduction of external shareholders (notably entities controlled by the Perrin brothers) and related tensions in corporate decision-making. These continued after the listing. A principal source of tension was Mr Merchant ' s view that the Billabong business should continue to concentrate on wholesale, rather than, as more recently introduced shareholders wished, retail, operations.

7. In about August 2002, Mr Matthew Perrin, who was CEO of BBG at the time, sold a large block of BBG shares. This was controversial and caused a fall in BBG ' s share price. Mr Perrin eventually stood down as CEO of BBG because of these events.

8. As at 1 March 2006, the Merchant Group, via Gordon Merchant No. 2 Pty Ltd ( GM2 ) as trustee for the Merchant Family Trust ( MFT ), an entity controlled by Mr Merchant, held about 25% of the issued capital in BBG. This was significantly more than the next largest

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shareholder. The Merchant Group shareholding of BBG Shares represented a large proportion of Mr Merchant ' s wealth. He was concerned about having such wealth concentration in BBG shares. So he decided to sell down the Merchant Group ' s BBG shareholding. To this end, on 1 March 2006, MFT sold 13,403,000 BBG shares to Citigroup Global Markets Australia Pty Ltd for total consideration of $199,838,730. After that sale, the Merchant Group held approximately 15% of the issued capital in BBG. That share parcel meant that the Merchant Group remained the largest single shareholder in BBG. Retention of that status was important to Mr Merchant both as a founder of BBG and for the influence it gave him in BBG.

9. The selling down of the BBG shareholding allowed Mr Merchant to diversify his investments. However, the sale proved controversial. Mr Merchant was reprimanded by BBG ' s then chairman, who told him that he was not happy that he had not told him he intended to sell the shares before he did so. The issues surrounding Mr Perrin ' s earlier sale of BBG shares made this a particularly sensitive issue. In combination, Mr Merchant ' s observation of Mr Perrin ' s fate after he sold his shareholding and his experience after he sold down MFT ' s made him cautious from that time about BBG management and board members.

10. Although the selling down of MFT ' s shareholding enabled greater wealth distribution for Mr Merchant, even before then the success of the BBG business had enabled Mr Merchant, or entities related to him, to acquire interests in entities carrying on other businesses.

11. So it was that, on 31 March 2005, MFT acquired 14% of the issued capital in Plantic Technologies Limited ( Plantic ). Mr Merchant was appointed as a director of Plantic.

12. Plantic was a " start up " company that developed technology for recyclable and reusable material in plastic packaging. It produced a " plastic-like " material made of corn starch, which formed a barrier said to work as effectively as glass. Plantic ' s product was an invention of Commonwealth Scientific and Industrial Research Organisation but which Plantic owned and was seeking to commercialise.

13. Related to Plantic ' s then status as a " start up " company, it was not then profitable. There was a need, met from entities within the Merchant Group which Mr Merchant controlled, to fund its operations until such time, as was then hoped and expected, it became profitable. As it turned out, Mr Merchant underestimated how much subsidising funding Plantic would require.

14. In November 2010, MFT acquired all the shares in Plantic under a scheme of arrangement. MFT paid approximately GBP 6.38 million (which was then approximately AUD $10.3 million) to acquire all the shares in Plantic. Plantic then had about $10 million in its bank account.

15. Entities within the Merchant Group continued to fund Plantic while it worked to become financially viable on its own. During the time that MFT owned shares in Plantic, it did not make a profit. It required regular, monthly funding from entities within the Merchant Group. Plantic generally required funding of at least $1 million each month from January 2011. However, it was difficult to predict Plantic ' s funding requirements for a given month, because cash flow projections provided to Mr Merchant by Plaintic proved not to be accurate. An example of the variation is that, in August 2014, entities within the Merchant Group made loans to Plantic of $700,000; in September 2014, loans made to Plantic by entities within the Merchant Group amounted to $1.4 million.

16. Over time, Mr Merchant was forced to sell properties in Hawaii owned by entities he controlled to assist in funding Plantic, because other resources within the Merchant Group were insufficient.

17. Each year, the Merchant Group was required to provide a " comfort letter " to Plantic ' s Board, containing assurances that it would continue to provide financial support to Plantic.

18. Entities within the Merchant Group continued to fund Plantic by loans until March 2015, when MFT sold all its shares in Plantic.

19. By the end of March 2015, loans made to Plantic from within the Merchant Group comprised the following:

  • ATC 29771

    (a) in the period between 1 January 2011 to 30 March 2015 GSM Pty Ltd (GSM), an entity within the Merchant Group, loaned Plantic - $50,192,000 ( GSM Loan );
  • (b) in the period between 1 January 2011 to 30 June 2012 Tironui Pty Ltd (Tironui) loaned Plantic - $4,215,000 ( Tironui Loan );
  • (c) in the period between 1 January 2011 to 30 June 2012 Kahuna Pty Ltd as trustee for the Angourie Trust ( Angourie ) loaned Plantic - $790,854.

( the Plantic Loans )

20. From around 2011, a number of companies expressed interest in Plantic ' s technology and in acquiring the company. One such company was Sealed Air; another was Kuraray. Ultimately, by an agreement made in March 2015, Kuraray acquired all of the shares in Plantic from GM2 as trustee for the MFT.

21. A feature of the sale to Kuraray, as it had been in relation to earlier but ultimately failed negotiations with Sealed Air, was that amounts owed to various entities within the Merchant Group by Plantic were forgiven. In other words, Kuraray, as with Sealed Air before it, was interested only in acquiring shares in Plantic if that company were a " clean " company, free not only of any ongoing shareholding by MFT but free of debts to entities controlled by Mr Merchant.

22. Thus, on 2 April 2015, the Plantic loans were forgiven by GSM, Tironui and Kahuna as part of the transaction whereby MFT sold its shares in Plantic to Kuraray.

23. On 2 April 2015, Kuraray paid GM2, as trustee of the MFT, $59,803,400 cash for the whole of the shares in Plantic. The sale resulted in GM2 making a capital gain of $84,885,502.

24. This sale brought to an end the need of the Merchant Group to continue to fund Plantic ' s operations.

25. The BBG share price was generally on a downward trend from around 2007. The global financial crisis of 2008 negatively affected BBG and more particularly led to reduced retail sales due to decreased consumer spending and currency movements. In the 2009 income year, BBG ended with underlying net profit after tax down by 9.2% on the 2008 income year.

26. At the end of 2011, BBG reviewed its capital structure. Following this review, BBG received proposals to purchase its issued capital. There were a number of trading halts placed on BBG during 2012. BBG also stopped paying dividends in 2012.

27. Even after BBG stopped paying dividends, Mr Merchant caused entities in the Merchant Group to continue to buy BBG shares. There were several, inter-related reasons for this. He believed that BBG would be successful again. He had always seen BBG as his personal venture and, related to that, had always believed in the Billabong brand. These beliefs were rooted in his knowledge of the business as a Board member and from his longstanding involvement with the business. In turn, Mr Merchant believed that BBG ' s poor financial results were due to mismanagement by key staff. He wanted to retain a controlling stake in the company to prevent mismanagement in the future. He believed that if the necessary changes in the management approach were taken it was likely that BBG would become successful again.

28. The primary judge accepted that Mr Merchant had a unique and distinctive connection with the BBG business, which caused him to wish to retain, via entities he controlled, his shareholding in BBG (PJ 267).

29. On 2 September 2014, GSM Superannuation Pty Ltd ( GSMS ) as trustee for the Gordon Merchant Superannuation Fund completed an off-market purchase of 10,344,828 shares in BBG for $5,844,827.82 ($0.565 per share) from GM2 ( BBG Share Transfer ). The BBG Share Transfer crystallised a capital loss for GM2 of $56,561,940 in the 2015 income year.

30. Although a transaction between related parties, the primary judge found (PJ 295) that the BBG Share Transfer was at market value. Neither party questioned this finding on the hearing of the appeal.

31. The Commissioner expressly conceded on the hearing of the appeal that, had the BBG Share Transfer entailed a sale not to a related party but to an unrelated third party, consideration of the factors in s 177D(2) of the Income Tax Assessment Act 1936 (Cth) would not have led to a conclusion that the dominant

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purpose of any person in entering into or carrying out the scheme he posited would have been to obtain a tax benefit. He likewise expressly conceded that this would remain so even though a crystalised loss of the same amount would thereby have become available.

32. In my view, the appellants demonstrated that the reasoning of the learned primary judge with respect to s 177D was affected by an error of principle. His Honour approached (PJ 250(a)) s 177D(1) on the basis that it " provides an objective test used to determine actual purpose " and that it " requires a conclusion about the intention of a person who entered into or carried out the scheme or a part of it to be determined objectively by reference to the eight matters in s 177D(2):
Commissioner of Taxation v Hart (2004) 217 CLR 216 ( Hart ) at [37] " .

33. The second proposition is correct; the first, with respect, is not. Another case referred to by the primary judge for these propositions was
Commissioner of Taxation v Zoffanies Pty Ltd (2003) 132 FCR 523 ( Zoffanies ) in particular observations made by Hill J at [54]. Hill J there stated:

It is sometimes said that the conclusion under s 177D is a conclusion of objective purpose. That way of putting it is correct if what is meant by it is that the conclusion is not one drawn from evidence of the actual purpose of the relevant taxpayer or other taxpayers. It may perhaps contribute to confusion if it is suggested that the conclusion to be drawn is other than a conclusion about the actual purpose of the taxpayer. Particularly, the conclusion required to be drawn is not a conclusion about the transaction itself but the state of mind of a person. To this extent Pt IVA differs from the previous general anti-avoidance provision (s 260) which was concerned inter alia with the purpose of the contract agreement or arrangement of the kind to which the section referred and not the purpose of a person party thereto.

[Emphasis added]

34. This passage from the judgment of Hill J in Zoffanies reveals, with respect, a confusion of understanding about s 177D uncannily similar to that of the primary judge. That understanding was not shared by the other members of the Full Court in Zoffanies . This is evident in the judgment of Gyles J (with whom Hely J, at [84], materially agreed) in his Honour ' s statement, at [91], " The difference between the actual purpose of a taxpayer, on the one hand, and the purpose which is to be imputed to the taxpayer based upon an exclusive set of criteria, on the other hand, is not without subtlety and has been misunderstood before " .

35. There was much evidence at trial about subjective motivations of Mr Merchant and others, including advice furnished by EY. This was in turn much rehearsed by the primary judge. Reading the reasons for judgment as a whole, it is tolerably clear, as the appellants submitted, that the end to which this rehearsal was directed was the drawing of a conclusion as to actual purpose. This is most stark in the following passage (PJ, at [362]):

Each of these documents, understood in the context in which they were written, make it plain that the real reason for the BBG Share Sale was to crystallise a capital loss in the MFT which was regarded as beneficial whether Plantic was sold by way of asset sale or by way of share sale.

36. Further, as the appellants also submitted, to focus upon the " real reason " is to depart from the language of s 177D, which requires an objective conclusion, having regard to the eight factors specified in s 177D(2), as to what was the dominant purpose of a person who was a party to the scheme.

37. Of course, by the extinguishment via capital losses crystalised by the BBG Share Sale of a capital gain made by GM2 as trustee for the MFT on the sale of its Plantic shares, a tax benefit was obtained by GM2. Objectively, at the time of the BBG Share Sale, it was possible that the Plantic shares might be sold when and on the terms which came about but it could hardly be said this was at that time a matter of reasonable expectation. The failure of the proposed sale to Sealed Air is proof perfect of that. In the Full Court in
Peabody v Commissioner of Taxation (1993) 40 FCR 531 , at 541 , Hill J (with whom Ryan and Cooper JJ agreed) explained that the expression " reasonable expectation " that, " the word

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' reasonable ' is used in contradistinction to that which is ' irrational, absurd or ridiculous ' . The word " expectation " requires that the hypothesis be one which proceeds beyond the level of a mere possibility to become that which is the expected outcome " . A later appeal to the High Court by the Commissioner was dismissed by the High Court:
Commissioner of Taxation v Peabody (1994) 181 CLR 359 ( Peabody HCA ). The High Court did not gainsay the explanation offered by Hill J in the Full Court; indeed, the Full Court ' s reasoning was affirmed: see, esp. at Peabody HCA , at 385-386. In the absence of a capital gain against which to offset those losses, there could be no tax benefit, only losses to carry forward. " Reasonable expectation " is an important element both of whether there is a " tax benefit " (s 177C(1)(a)) and predicating a change in financial position for the purposes of s 177D(2)(e) and s 177D(2)(f).

38. Hindsight is apt to confer an expectation that the timing and terms of the ultimate sale of the Plantic shares is likely. However, that expectation could not exist at the time when the BBG Share Sale actually occurred. At the time of the BBG Share Sale, and in terms of the change in financial position considerations in s 177D(2)(e) and s 177D(2)(f), the only change in financial position was the capital losses. Nothing more could then reasonably be expected. A sale of the shares in Plantic and certainly one which generated the capital profit concerned, was then but a possibility. Yet for the posited tax benefit to exist, the " scheme " necessarily, had to include the sale of the shares in Plantic: Hart , at [9].

39. Further, as Gleeson CJ and McHugh J stated in Hart , at [15], taking up a point made in
Commissioner of Taxation v Spotless Services Ltd (1996) 186 CLR 404 , at 416 , as to the routineness of revenue law considerations influencing the form of commercial transactions, " even if a particular form of transaction carries a tax benefit, it does not follow that obtaining the tax benefit is the dominant purpose of the taxpayer in entering into the transaction " .

40. The Commissioner ' s concession that losses so crystalised by a third party sale would not lead to a conclusion that the dominant purpose was securing a tax benefit by their application against a later capital gain recognised a pervasive reality of holding shares in ASX-listed companies. Sometimes share investments made for reasons thought good at the time in terms of an apprehended dividend yield and increase in share value prove good, sometimes they do not. When they do not, it can be prudent to cut one ' s losses and to do so at a time when it is prudent to realise a capital gain on a share investment which has proved good. The Commissioner did not suggest that an application of s 177D to such a scenario would inexorably lead to a conclusion that the imputed purpose was the obtaining of a tax benefit by the application of the capital loss against the capital gain. Any such imputation would be difficult because an obvious additional purpose is just cutting one ' s losses.

41. There was no difference between form and substance (s 177D(2)(b)) with respect to the BBG Share Sale. In form and in substance it was a sale at market value of shares in a company listed on the ASX. That exact symmetry is hardly a factor supportive of a conclusion that the dominant purpose was the obtaining of the tax benefit.

42. In terms of s 177D(2)(g), there were multiple other consequences of the BBG Share Sale, apart from crystalising capital losses. The sale was to the trustee of a superannuation fund, GSMS. Sale of shares in a company listed on the ASX was one of the permissible related party transactions for a superannuation fund trustee. Yet the sale maintained an overall interest in BBG by entities controlled by Mr Merchant. Maintenance of major shareholder status was a purpose and one singularly important to the founder of the BBG business. A sale to a third party would not have achieved this purpose. Selling to an entity controlled by Mr Merchant avoided the acrimony which had attended earlier sales of large parcels of shares in BBG by those involved in its governance or management. It could not be perceived as a vote of no confidence in BBG.

43. Another consequence of the BBG Share Sale was that GM2 as trustee of the MFT received an immediate cash benefit of $5.8m from GMSF. It was a permissible way for funds to be paid out from the GMSF. Given the Commissioner ' s concession

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about the unremarkable quality of a sale to a third party at a like price (and thus a like cash injection of $5.8 million), it is just a distraction as to whether GM2 really then needed that cash. Further and in any event, care needs to be taken about the false wisdom of hindsight. Objectively and at the time of the BBG Share Sale, Plantic continued to need regular monthly injections of funds from entities in the Merchant Group to continue to operate. It bears repeating that when and on what terms there would be a sale of GM2 ' s shares in Plantic admitted of a possibility that this would occur, as it came to, but not of a " reasonable expectation " .

44. With all respect to those who have a contrary view, consideration of the factors specified in s 177D(2) should lead, inexorably, to a conclusion that the obtaining of the posited tax benefit was not a dominant purpose.

S 177E OF THE INCOME TAX ASSESSMENT ACT 1936 (CTH)

45. Section 177E creates a sui generis regime directed to dividend stripping. It is singularly important that its meaning not be affected by notions imported from s 177D or, in relation to what constitutes a tax benefit, from s 177C. The section creates a " supplementary code " applicable in circumstances where it is not likely that s 177D will be applicable:
Commissioner of Taxation v Consolidated Press Holdings Ltd (2001) 207 CLR 235 ( Consolidated Press Holdings ), at [109].

46. I have concluded that s 177D is inapplicable. I do not in any event consider it appropriate to embark on a consideration of the applicability of s 177E influenced by a conclusion that s 177D was applicable. Further, a reason for the enactment of s 177E was, as mentioned, to serve as a " supplementary code " . The notion that it might be applicable in circumstances where s 177D was applicable is odd.

47. Rather than favour the so often futile endeavour of prescriptive definition, Parliament has in s 177E instead favoured concept-based drafting. Thus, there is no definition of what amounts to " dividend stripping " for the purposes of s 177E(1). Which is not to say, as is explained in Consolidated Press Holdings , that, when s 177E was enacted, what amounted to " dividend stripping " did not have certain well-understood characteristics. As to this, in Consolidated Press Holdings , at [105], the High Court (Gleeson CJ, Gaudron, Gummow, Hayne and Callinan JJ) cited with apparent approval an understanding of the term, as given in Halsbury ' s Laws of England, which had commended itself to Windeyer J in
Investment & Merchant Finance Corporation Ltd v Commissioner of Taxation (Cth) (1970) 120 CLR 177 , at 179 :

Dividend stripping is a term applied to a device by which a financial concern obtained control of a company having accumulated profits by purchase of the company ' s shares, arranged for these profits to be distributed to the concern by way of dividend, showed a loss on the subsequent sale of shares of the company, and obtained repayment of the tax deemed to have been deducted in arriving at the figure of profits distributed as dividend.

48. Subject to one caveat, the High Court also favoured in Consolidated Press Holdings , at [127], an explanation of " dividend stripping " offered by the Full Court of the Federal Court of Australia:

The widely understood connotation [of the expression ' dividend stripping ' ] was explained in the pre-1981 case law to which we have referred. The so-called dividend stripping cases invariably had as their dominant, if not exclusive, purpose the avoidance of tax that otherwise would or might be payable by the vendor shareholders in respect of the profits of the target companies. The apparent exceptions … are readily explicable on the basis that the particular scheme, insofar as it involved vendor shareholders, was complete before the dividend stripper began its operations and thus could not itself be described as a dividend stripping operation. The case law preceding the 1981 Act strongly supports the view that Parliament framed s 177E(1)(a) on the basis that dividend stripping operations necessarily involve a predominant tax avoidance purpose.

49. The caveat voiced by the High Court in Consolidated Press Holdings , at [129] was out of abundant caution and to avoid a possible

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misunderstanding of this statement. The High Court made clear that the Full Court ' s view at intermediate appellate level in that case that " s 177E was intended to apply only to schemes which can be said to have the dominant purpose of tax avoidance " . Without being prescriptive, the High Court added that, also at [129], that the required tax avoidance purpose would ordinarily be that of the enabling vendor shareholders.

50. The test posited by each limb of s 177E(1) is outcome or result focussed and it is an objective one.

51. The primary judge stated (at PJ [506]):

No commercial and objective onlooker could sensibly conclude that the object of the structure was to permit GSM and Tironui to access the increase in value in the MFT. It is plain that Mr Merchant would not choose to make a capital distribution to GSM and Tironui, and thereby expose himself again to top up tax as a shareholder of those entities, rather than to distribute the profits to himself in a manner which avoided that consequence.

[Emphasis added]

52. In the first sentence in the passage quoted, the primary judge has apparently proceeded on the basis that the test was an objective one. So to proceed would be correct. However, and with respect, whether that was indeed the basis upon which his Honour proceeded is immediately challenged by what is stated in the second sentence (emphasised). The appellants ' submission that the second sentence evinces an " actual purpose " error by his Honour analogous to that made with respect to s 177D should be accepted. An " actual purpose " analysis permeates the primary judge ' s analysis of s 177E (see, especially, PJ 541, 548 and 549).

53. Objectively, the contemporaneous evidence disclosed, as the appellants correctly submitted, the dominant purpose of the debt forgiveness had nothing to do with " dividend stripping " . The relationship between GSM, Tironui, MFT and Mr Merchant was such that the forgiving of the Plantic loans benefited the MFT and, in turn, each of GSM and Tironui as beneficiaries of the MFT. The debt forgiveness just increased the amount of the capital gain that MFT made on the sale of the shares in Plantic. The reason why MFT did not derive a net capital gain for the year was because it had available to it, not as a result of the debt forgiveness, capital losses.

54. After the remaining capital losses are exhausted, the balance of the capital gain derived by MFT from the sale of its shares in Plantic remain as a potential source of income tax obligations. If there are no other available capital losses MFT will be faced with choices. If paid to GSM to extinguish in part its unpaid present entitlements, there will be income tax consequences. If it distributes the gain to GSM as capital, GSM will face a choice of paying the amount to Mr Merchant as either a dividend or a capital amount. In either case, as the appellants submitted, there will be income tax consequences. If the former, " top up " tax on a dividend at an effective rate of 27.14% after franking credits would be attracted. If paid to Mr Merchant as a capital amount, tax at an effective rate of 24.5% for a concessional capital gain would be attracted.

55. The point is that nothing about the debt forgiveness rendered the capital gain made on the Plantic shares " tax free " . The debt forgiveness increased the amount of the capital gain.

56. These features are difficult, if not impossible, to reconcile with a dominant purpose of " dividend stripping " . The practice of " dividend stripping " as explained in Consolidated Press Holdings , entails a conversion of corporate profits which might have been taxed into something that will not be taxed (in the absence of a measure such as s 177E). In these circumstances and as Consolidated Press Holdings , at [133] highlights, s 177E was inapplicable.

TOFA

57. In addition to provision for cash payments, the agreement for the sale of MFT ' s shares in Plantic also included a range of economic performance clauses (termed " Future Payment Rights " by the primary judge).

58. Economic performance clauses of one sort or another are a not uncommon feature of corporate mergers and acquisitions and related share sale agreements. There is no one type of such clause.

59.

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Some such clauses take the form of an " earn out " arrangement whereby, in addition to lump sum consideration of the purchase of shares, an additional amount may become payable depending on whether specified income targets are met for a specified period or periods after settlement of the share sale. That type of clause can be attractive where it is desired that previous owners of the shares in a company continue to work for the company after its acquisition by new owners, although that is not their only use or attraction. An " earn out " provides an incentive for such persons not just to continue to work for the company but also to maintain or improve its profitability.
Kilgour v Commissioner of Taxation [2024] FCA 687 was decided against a background which included such a clause.

60. Other such clauses in a share sale agreements focus upon post-settlement performance milestones in respect of sales or production volumes. Sometimes a feature of such clauses is that a failure to achieve a milestone triggers an obligation on the part of the vendor shareholder an obligation to refund a proportion of a lump sum previously paid by the purchaser to the vendor. Sometimes also a share sale agreement contains a combination of various types of economic performance clauses.

61. In each instance, an economic performance clause lends a contingent quality to the total consideration in respect of a share sale. But they provide a means by which, even in circumstances of some uncertainty about the value of shares, parties can nonetheless reach agreement with respect to their sale.

62. This share sale agreement contained a variety of economic performance clauses:

  • (a) Milestone Amounts (as detailed by the primary judge under a heading of that title at PJ 578 and following); and
  • (b) Earn Out Amounts (as detailed by the primary judge under the heading " Earn Out Amount " at PJ 589 and following).

63. The appellants submitted that the expression " contingent only on the economic performance of the business " in s 230-460(13) of the Income Tax Assessment Act 1997 (Cth) did not, as the primary judge considered the position to be, carry its ordinary meaning, but rather than a meaning " informed by " the meaning of the expression " contingent on the economic performance " as defined in s 974-85(1) of that Act. The effect of the latter expression is that a right is not relevantly contingent merely because it is contingent on " the receipts or turnover " of the entity.

64. A consideration which was said to support the construction promoted by the appellants was that Div 974 and Div 230 each formed part of a series of " reforms " progressively introduced into the Act with respect to the TOFA, Div 974 as part of the first stage and Div 230 as part of a combined third and fourth stages.

65. Considered at this level of abstraction, the submission made by the appellants is correct. It may also be said of the TOFA amendments generally that in such circumstances as they apply, they change the focus from legal form to economic substance. But that is where the commonality in the stages stops.

66. Division 974 was introduced by amendments made by the New Business Tax System (Debt and Equity) Act 2001 (Cth) and the New Business Tax System (Thin Capitalisation) Act 2001 (Cth). The amendments introduced rules for classifying financial instruments as debt interests or equity interests according to the economic substance of an instrument rather than its legal form. These rules can be seen to have a single organising purpose, which is that an instrument is a debt interest where an issuer has an effectively non-contingent obligation to return, to the investor, an amount at least equal to the amount invested. The wording of s 974-85(1) is adapted to that end. Further, unlike later stage TOFA reforms, Div 974 contains no direct taxing provisions. It just deals with the debt/equity classification of an instrument, leaving the resultant tax outcomes to be determined by taxation legislation elsewhere.

67. Division 230 was introduced by the Tax Laws Amendment (Taxation of Financial Arrangements) Act 2009 (Cth). It is directed to the tax treatment of gains and losses from " financial arrangements " . Where applicable, it permits a taxpayer to recognise the gains or, as the case may be, losses, over the life of a

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financial arrangement and to ignore distinctions between income and capital.

68. There are exceptions to the applicability of Div 230. These are found in Subdiv 230-H. One of these is that specified in s 230-460(13). The primary judge observed (PJ, at 636) of s 230-460(13) that it " addresses financial benefits arising from the sale of a business under an earn out arrangement " . I agree. The obvious purpose of the qualification " only " in the chaussette of that provision is to narrow the focus of the exception to arrangements based solely on economic performance rather than, for example, profitability.

69. Had parliament wanted s 974-85(1) to affect or supply the meaning of " contingent only on the economic performance of the business after the sale " in s 230-460(13), it would have been very easy to have stated this. Like the primary judge (PJ at 638), I find the difference in the text as between s 230-460(13) and s 974-85(1) reason enough not to regard s 974-85(1) as " informing " the meaning of s 230-460(13). Consideration of context and purpose, as discussed above, serves to confirm this.

70. It follows that I agree with the primary judge ' s assumption that, assuming what his Honour termed the " Future Payments Rights " were " financial arrangements " to which division 230 would otherwise have applied, the rights were subject to the exception in s 230-460(13).

71. As with the primary judge, that conclusion means that it is strictly unnecessary to express a view on the subject. However, I respectfully agree with the primary judge, for the reasons his Honour gives, that each of what his Honour termed " the Expired Future Payment Rights " is a " financial arrangement " within the meaning of s 230-45.

72. More particularly, the use in the text of s 230-45(1) of " legal or equitable right " and " legal or equitable obligation " more naturally direct attention to the right or obligation itself, as described and sourced in a specific contractual provision, rather than to the contract in which that right or obligation is found as a whole. In turn, that meaning is congruent with s 230-55 (Rights, obligations and arrangements (grouping and disaggregation rules)) and with the reference to " right " in s 230-460(13).

73. I would therefore dismiss so much of the appeal as related to the TOFA provisions.

OUTCOME

74. In summary, if one steps back and examines events which transpired informed by the considerations specified in s 177D(2), a number of purposes are evident:

  • (a) crystallization of tax losses via a sale of BBG shares, which did not in itself confer any tax benefit, only the contingency that a benefit of uncertain nature and extent might in the future become available depending on whether and on what terms MFT ' s shares in Plantic could be sold;
  • (b) a purchase at market value of those BBG shares by GSMS, bringing with it the benefit of retention under the control of Mr Merchant of an influential parcel of shares and without any potential for criticism for the sale to be construed as a loss of confidence by a founder in BBG ' s business;
  • (c) liberation of funds from within a superannuation fund and bringing the shares within the superannuation regime;
  • (d) bringing to an end via the Plantic share sale of an investment that was occasioning a monthly haemorrhaging of funds by other entities with the Merchant Group (and it was not necessary in order to find an absence of dominant purpose that those entities be proved to already have been bled white financially).

75. So viewed and objectively, no single purpose is dominant.

76. If one adds to this consideration of s 177E, a debt forgiveness which maximises an assessable capital gain is, in itself, the antithesis of " dividend stripping " .

77. Subject to the TOFA related dismissal noted, I would, for the above reasons, allow so much of the appeal as relates to objection decisions which confirmed assessments grounded in determination under s 177F, based on the applicability of s 177D and s 177E. I would, to this extent, set aside the objection decisions and in lieu thereof order that the objections be allowed and the related assessments quashed. I would remit the matter

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to the Commissioner for reassessment accordingly.

78. In their written submissions in relation to s 177D, the appellants put that " one of the root problems with the Commissioner ' s approach in this matter was that ' schemes ' are filleted out for forensic reasons, divorced from their wider and non-fiscal context, in order to support a conclusion about ' purpose ' that is essentially myopic " .

79. It is a corollary of the conclusion I have reached when looking to s 177D(2) and s 177C(1) that, with all respect to the Commissioner, I agree with this characterisation. Indeed, it is likewise applicable, in my view, to the s 177E aspect of this matter. In each, another ophthalmological analogy is also applicable, " tunnel vision " .

80. There is a considerable risk in the administration of taxation legislation of seizing upon beneficial taxation outcomes and seeing in them a dominant purpose on the part of a person to obtain the tax benefit. It is all too easy in such circumstances to leap to that conclusion and to tailor the logic to fit. Especially that is so where there is revealed in exchanges with tax advisors references to apprehended tax benefits. The Commissioner ' s role in the general administration of taxation legislation and as a revenue collector makes him peculiarly prone to his decision-making being affected by this risk. Tax collection is, after all, " core business " for him. Outside the Commissioner ' s office, in businesses large and small across Australia, taxation considerations, including tax benefits, are often but one of the many factors those in business routinely take into account. As Peabody illustrates, where discernible commercial purposes are present, as well as the obtaining of a tax benefit, a conclusion that the latter is the dominant purpose is fraught. On the other hand, as Spotless Services and Hart illustrate, where a scheme can, objectively, be seen to be but an artificial construct inexplicable in its occurrence other than for the purpose of obtaining a tax benefit, it is likely that purpose will be the dominant, if not sole, purpose.


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