Federal Commissioner of Taxation v. Everett.Judges:
Full High Court
Barwick C.J.; Stephen, Mason and Wilson JJ.: By majority the Full Court of the Federal Court (Bowen C.J. and Fisher J., Deane J. dissenting) held that the respondent, a partner in Dibbs, Crowther & Osborne, a Sydney firm of solicitors, who had assigned to his wife 6/13ths of his share in the partnership, was not assessable to income tax on so much of the income as was attributable to the share of his interest in the partnership which he had so assigned.
On 1 July 1966 the respondent became a partner in Dibbs, Crowther & Osborne by purchasing a 13% interest in the partnership business and the assets, undertaking, goodwill and income thereof from one of the existing partners, who continued as a partner in the reconstituted partnership. By reason of the admission of the respondent as a partner, the partnership consisted of four partners who thereafter carried on business under the same firm name. The respondent had formerly been an employee of the partnership. On 1 July 1966 he ceased to draw a salary and subsequently received no remuneration for his professional work apart from his contractual entitlement to share in the partnership profits. No formal partnership agreement was executed by the partners on the respondent's entry into the firm. However, a document described as ``Heads of Agreement'' was initialled by the four partners and it regulated their relationship. It is not material to refer to the terms of the document, except to mention that it recorded that the respondent had a 13% interest ``in the capital and income of the Firm''. By a deed dated 7 January 1969, the respondent (in the deed referred to as ``the Vendor'') for a consideration of $3,832.50 conveyed and assigned to his wife (in the deed referred to as ``the Purchaser'') -
``6/13ths of the Vendor's share in the partnership as aforesaid together with all those rights including the right to receive an appropriate share of the profits of the partner to which an assignee of a share in a partnership is entitled by virtue of Section 31 of the Partnership Act 1892 as from the date of these presents to hold the same unto the Purchaser absolutely PROVIDED HOWEVER that nothing herein contained shall entitle the Purchaser to any share of the prospective profits accumulated in the books of the partnership and held subject only to distribution thereof (as reflected in the figures of costs and disbursements of the control accounts in the partnership books) until such time as the share therein of the Vendor at the date hereof has been distributed to the Vendor.''
The deed went on to declare that the wife was not, by reason of the deed or otherwise, to become a member of the partnership or to be entitled to interfere in its business or affairs, or to require any account or to inspect the books of the partnership, and that her sole entitlement was to receive the portion of the share of profits and other moneys to which the respondent would otherwise have been entitled had the assignment not been made.
The deed was executed by the respondent and his wife, who happened to be a qualified solicitor, with the approval of the respondent's three partners. Shortly after its execution, notice of the assignment was given by the respondent to his partners and the assignment was accepted by the members of the firm. Thereafter income arising in respect of the 6% interest in the partnership assigned to the wife was, in accordance with her instructions, paid usually to the credit of her current banking account, although in some instances, at her direction, it was paid to the credit of her husband's account. The respondent's interest in the partnership was subsequently increased from the initial 13% to 22% but this increase did not in any way affect the interest in the partnership which he had assigned to his wife.
The present appeal relates to income derived during the year ended 30 June 1973. If one were to ignore the effect of the assignment, the respondent's share in the net income of the partnership for income tax purposes would be $35,418. In consequence of the deed, $11,185 of that amount was paid to, or applied in accordance with the instructions of, the respondent's wife. The respondent in his taxation return for the year excluded the amount of $11,185 from his assessable income. However, the Commissioner assessed him to tax on the basis that it should be included in his assessable income. The respondent appealed to the Supreme Court of New South Wales in its Administrative Law Division (Meares J.). His appeal was upheld and the assessment was varied by excluding the amount. This decision was subsequently affirmed by the majority judgment of the Full Court of the Federal Court to which I have already referred.
The argument for the Commissioner in support of the appeal rested very heavily on the dissenting judgment of Deane J. in the Federal Court. The argument was designed to show -
- (1) that the income which the respondent derived before the assignment as a member of the partnership was (a) income from personal exertion; and (b) future property or, as it is sometimes put, a mere expectancy;
- (2) that, conversely, it was not income which was produced by, or flowed from, the respondent's share in the partnership;
- (3) that income to be derived in the future from personal exertion cannot be made the subject of a present effective assignment so as to deprive it of the character of assessable income in the hands of the assignor; and
- (4) that, as a consequence, though the respondent's wife became entitled in equity to future income assigned to her, that income was not ``net income of a trust estate'' within the meaning of sec. 95 of the Income Tax Assessment Act 1936 (as amended) (``the Act'') and that it formed part of the respondent's assessable income as a partner under sec. 92 of the Act.
Of paramount importance to the success of the appellant's argument is the proposition that the right of the respondent as a partner to receive his proportion of
ATC 4079partnership profits was a right separate and severable from his share in the partnership and that this right did not flow from, nor was it ``the fruit of'', that share. An examination of this proposition calls in the first instance for an explanation of the nature of a partner's interest in the partnership and of the incidents and consequences of an assignment of such an interest.
Although a partner has no title to specific property owned by the partnership, he has a beneficial interest in the partnership assets, indeed in each and every asset of the partnership (
Canny Gabriel Castle Jackson Advertising Pty. Ltd. & Anor. v. Volume Sales (Finance) Pty. Ltd. (1974) 131 C.L.R. 321, at pp. 327-328;
Livingston v. Commr. of Stamp Duties (Qld.) (1960) 107 C.L.R. 411, at p. 453). His share in the partnership consists of a right to a proportion of the surplus after the realization of the assets and payment of the debts and liabilities of the partnership (
Bakewell v. D.F.C. of T. (S.A.) (1937) 58 C.L.R. 743, at p. 770;
Bolton v. F.C. of T. (13 A.T.D. 378, at p. 382)). Historically the interest of a partner in a partnership has been considered to be an equitable interest because it is a right or interest enforceable in equity and not at law (Bolton).
A partner's interest in the partnership is a chose in action assignable in whole or in part (
Hocking & Ors. v. Western Australian Bank (1909) 9 C.L.R. 738, at p. 743). The better opinion seems to be that, though the interest of a partner is an equitable interest, it may be assigned under sec. 12 of the Conveyancing Act, 1919 (N.S.W.) (as amended), the counterpart of sec. 25(6) of the Supreme Court of Judicature Act, 1873 (U.K.), now sec. 136 of the Law of Property Act, 1925 (U.K.). The interest, being a chose in action, falls within the expression ``debt or other legal chose in action'' because the section, in providing that notice shall be given to a trustee ``as a person liable in respect of such debt or other legal chose in action'', appears to contemplate the assignment by a beneficiary of an equitable chose in action against a trustee. There would be no point in referring to a trustee if the section made provision only for the assignment by strangers to the trust of debts owing by, and choses against, persons who happen to be trustees. The expression ``legal chose in action'' may be read as ``lawfully assignable chose in action''. See generally O.R. Marshall, The Assignment of Choses in Action, pp. 162-168 and the cases there cited; Meagher, Gummow & Lehane, Equity - Doctrines and Remedies, para. 605-608; In
re Pain, Gustavson v. Haviland (1919) 1 Ch. 38, at p. 44.
However, the weight of authority is against the view that part of a debt or a chose in action can be assigned under that section: In
re Steel Wing Co. Ltd. (1921) 1 Ch. 349;
Williams v. Atlantic Assurance Co. Ltd. (1933) 1 K.B. 81, at pp. 100, 108;
Walter & Sullivan Ltd. v. J. Murphy & Sons Ltd. (1955) 2 Q.B. 584;
Norman v. F.C. of T. (1963) 109 C.L.R. 9, at p. 29;
Shepherd v. F.C. of T. (1965) 113 C.L.R. 385, at pp. 390, 396. Consequently, the assignment in the present case had effect as an equitable assignment.
Ordinarily the effect of an equitable assignment of an equitable interest is to entitle the assignee to all equitable remedies applicable to the subject matter of the assignment and to give a good discharge (Meagher, Gummow & Lehane, para. 606). By virtue of the assignment the assignee stands in the shoes of the assignor so that there is no necessity to regard the assignor as a trustee for the assignee.
However, the assignment of a partner's equitable interest in a partnership produces rather different consequences. A contract for the sale of such an interest is of course a contract capable of specific performance and in an action for specific performance the Court will direct the execution of an assignment (
Dodson v. Downey (1901) 2 Ch. 620).
Before the introduction of the Partnership Acts it was well settled that ``a person who agreed to buy a portion of the interest of a partner in a partnership did not become a partner, but that his vendor, while remaining a member of the partnership exactly as before, became a trustee for him of the interest agreed to be sold'': Hocking, at pp. 743-744, per Griffth C.J.; see also p. 749. In that case the Court considered that the counterpart of sec. 31 of the Partnership Act, 1892 (N.S.W.) did not alter the law relating to the assignment of part of a partner's interest in a partnership.
Does this trust relationship come to an end when the contract of sale is completed and a formal equitable assignment is executed? The question must, we think, be answered in the negative, though the nature of the trust changes once the vendor receives payment under the contract. Our reason for saying that a trust continues is that the assignment does not constitute the assignee a partner or pass to him the powers of management, administration and inspection of books and accounts which repose in the assignor as a partner. What is more, legal title to the assets of the partnership continues to vest in the partners to the exclusion of the assignee and he has no access to the assets. The extent of the assignee's equitable interest is ascertainable only on dissolution. These considerations lead us to the conclusion that the assigning partner continues to stand in the relationship of a trustee to the assignee, notwithstanding that the assignee may be entitled to receive payments from partnership profits direct from the partnership.
It is to be observed that sec. 31 appears to be speaking of an assignment of the entire share of a partner. This was the view taken at least by Griffith C.J. and Barton J., if not by all the members of the Court, in Hocking - see pp. 743, 749. Although sec. 31(1) applies only to an assignment of the entire interest of a partner, there is no reason to doubt that the assignment of portion of a partner's interest of itself likewise entitles the assignee to receive the appropriate proportion of the partner's interest in the income of the partnership whatever that may be. The partnership agreement may provide that a partner's share of partnership profits is greater or less than his share in the partnership itself. None the less a share in a partnership carries with it the right to receive the proportion of the partnership profits to which the partner is entitled by virtue of the partnership agreement. Consequently, when the share is assigned, it carries with it the right to receive the assigning partner's proportion of those profits. In the same fashion, when a portion of a share is assigned, the portion carries with it the right to receive the proportion of profits attributable to that portion. As the right to receive profits is inherent in the partner's interest in the partnership, unless it be excluded by the partnership agreement, it is carried on assignment of the share, even though no mention of it be made in the assignment.
Consequently, we are unable to agree with the appellant's submission, based on the dissenting judgment of Deane J., that the right to receive profits is separate from the partner's interest in the partnership as such. We do not doubt that a partner may enter into a contract or otherwise bind himself to deal with his future profits from the partnership so that others may acquire enforceable rights to those profits as and when they are derived. Whether he can sever his entitlement to receive future profits from his interest in the partnership so as to confer an immediate entitlement on an assignee with respect to those profits as distinct from assigning future profits and thereby binding those profits if and when they arise, is another question. It was answered in the negative by Woodhouse J. in
Kelly v. Commr. of I.R. (N.Z.) (1970) N.Z.L.R. 161, who said (at pp. 164-165):
``... it is clear enough that one partner's interest in the capital of a partnership is not something which can be quantified and assigned separately from the share in the partnership itself. During the continuance of the partnership a partner can assign all or part of his share in it and consequentially the right to prospective profits and any interest he may have in partnership capital. But such a share is not a thing separate from the share of another partner. It is a fractional interest in a surplus of assets over liabilities on a winding-up and a fractional interest in the future profits of the partnership business. Accordingly, `if A and B, being partners in equal shares, purport to exchange their shares one for another they accomplish nothing' [see Bolton's case, supra, at p. 387]. If this be the position concerning a capital interest or the fractional share in the partnership a fortiori it must be the position in relation to shares in prospective partnership income.''
His Honour relied on the observations of Windeyer J. in Bolton, at pp. 382 and 387, in support of this conclusion. In that case Windeyer J. pointed out that a partner's share in a partnership ``is a fractional interest
ATC 4081in a surplus of assets over liabilities on a winding up and in the future profits of the partnership business'' (at p. 387). Earlier Windeyer J. had said, ``During the continuance of the partnership all that he can assign and the assignee can get is a right to the prospective profits and a notional interest in the surplus of assets over liabilities upon a dissolution and winding up of the partnership'' (at p. 382). Although these remarks were not expressly directed to the question which Woodhouse J. answered, they tend to support the answer in that Windeyer J. made no mention of the possibility of an assignment of the right to profits dissociated from the interest itself. The fundamental consideration, as we see it, is that the partner's fractional interest is an entire chose in action; it is capable of division by assignment into further fractions, but it is not capable of division by assignment so that the right to participate in partnership profits which is inherent in the interest is hived off from the rest of that interest. Consequently, a partner's entitlement to participate in profits is not separate and severable from the interest of the partner.
It is, of course, well established that an equitable assignment of, or a contract to assign, future property or a mere expectancy for valuable consideration will operate to transfer the beneficial interest to the purchaser immediately upon the property being acquired, but not before (
Holroyd v. Marshall (1862) 10 H.L.C. 191, at p. 211; 11 E.R. 999;
Tailby v. Official Receiver (1888) 13 App. Cas. 523; In
re Lind. Industrial Finance Syndicate Ltd. v. Lind (1915) 2 Ch. 345; Norman, at p. 24). On the other hand, an equitable assignment of, or a contract to assign, present property for value takes effect immediately and passes the beneficial interest to the assignee.
The distinction between present property and future property or mere expectancy gives rise to some borderline cases. For present purposes the point to be made is that an equitable assignment of present property for value, carrying with it a right to income generated in the future, takes effect at once whereas a like assignment of mere future income, dissociated from the proprietary interest with which it is ordinarily associated, takes effect when the entitlement to that income crystallizes or when it is received, and not before.
Thus, in Norman, it was held that an assignment of the assignor's right to future interest and future dividends was an assignment of a mere expectancy, there being no certainty that interest would be earned or dividends declared. But subsequently, in Shepherd, an assignment of the taxpayer's right, title and interest under a licence agreement to 90% of the income which might accrue for three years by way of royalties proportioned to the number of products manufactured was held by majority (Barwick C.J. and Kitto J., Owen J. dissenting) to be an assignment of an existing chose in action and not of a mere expectancy. In this case there is no need to explore the grounds advanced in Shepherd for distinguishing Norman. The fineness of that distinction is beside the point here.
It is more profitable to return to Kelly, where two taxpayers, both members of two partnerships, attempted to alienate their respective rights to partnership income to relatives of the other partner. Woodhouse J. held (1) that on effective alienation of income took place for taxation purposes; (2) that the shares of partnership profits were first derived by the original partners for tax purposes before the profits were applied in accordance with the attempted alienations; and (3) - and this we have already noted - that a right to share in the income of a partnership cannot exist independently of the specified share in the partnership. His Honour also held, and this will become relevant later, that the partnership profits depended upon the services of the partners and so were derived by them personally.
Here, the deed dated 7 January 1969 expressly assigned 6/13ths of the respondent's interest in the partnership ``together with all those rights including the right to receive an appropriate share of the profits of the partner to which an assignee of a share in a partnership is entitled by virtue of Section 31 of the Partnership Act''. The parties misconceived the effect of sec. 31, thinking that it applied to the assignment of portion of a partner's interest. However, the deed should be given the same effect it would have had if it had made no mention of future profits - the assignment of portion of the
ATC 4082respondent's share would have carried the right to future income referable to the portion. This is certainly what the parties intended.
The consequence in the present case is that because the respondent assigned present property, a chose in action, being a share of his interest in the partnership which carried with it the right to a proportionate share of future income attributable to his interest, the assignment became effective at once and conferred on his wife an immediate equitable entitlement as against the respondent and the other partners to such income referable to the share assigned as might subsequently be derived. This case is to be distinguished from Kelly and other cases in which there have been assignments of future income dissociated from the property or proprietary right to which that income is attributable.
The appellant's contention is that the income payable to the respondent's wife was not, as the majority in the Federal Court held, ``the net income of a trust estate'' within the meaning of sec. 95 of the Act. The argument is based very largely on the proposition, founded on the judgment of Kitto J. in
Stewart Dawson Holdings Pty. Ltd. v. F.C. of T. (1965) 39 A.L.J.R. 300, at p. 301, that income derived by a trustee from his own property or by means of his personal exertion, ``income with respect to which a trust arises at the moment of derivation'', does not answer the statutory description. Kitto J. was making the point that when a person establishes a trust of his future income simpliciter, the income when it is derived is the subject matter or corpus of the trust, not the fruit of it. To use the terminology of sec. 95, it is because the income is the ``trust estate'' that it cannot be ``the net income of'' that trust estate. His Honour's remarks do not touch the case where an immediate trust is established of a proprietary right which yields or earns future income. Then the income is accurately described as income of a trust estate. For reasons which we have already given, this is the situation which obtains here.
Likewise, the observations of Rich and Dixon JJ. in
Howey v. F.C. of T. (1930) 44 C.L.R. 289, at p. 293, where a rather different question was considered, have no application here. Their Honours were dealing with a case in which the appellant did not hold the trust estate in virtue of which the income arose. After referring to the statutory definition of ``trustee'' in the Income Tax Assessment Act 1922-1928, their Honours said:
``... it is therefore difficult to apply the definition in order to overcome the effect of the references in sec. 31 to `income of the trust estate'. These references suggest that the person who answers the description `trustee' must stand in some relation to the proprietary right in virtue of which the income arises, even although he need not be a trustee in the proper sense.''
Here, the interest in the partnership in virtue of which the income arises is vested in the respondent as trustee.
The appellant's submission that for taxation purposes the respondent could not alienate any part of his interest in the partnership income because it was income from personal exertion goes beyond the ground taken by Deane J. in his dissenting judgment. The appellant's proposition is that income from personal exertion cannot be assigned so that it is not first received as income by the assignor. The appellant relies on the remarks of Henry J. in
Spratt v. Commr. of I.R. (N.Z.) (1964) N.Z.L.R. 272, at p. 277:
``No taxpayer can, by way of assignment, escape assessment of tax on income resulting from his personal activities - such income always remains truly his income and is derived by him irrespective of the method he may adopt to dispose of it.''
He also relies on the observation of Menzies J. in
Peate v. F.C. of T. (1964) 111 C.L.R. 443, at p. 446, that it is established that ``a family man... cannot achieve taxation immunity by the simple expedient of assigning his earnings to his wife and family''. See also
Parkins v. Warwick (1943) 25 T.C. 419, at p. 424; Kelly, at p. 384. The appellant's argument did not succeed in identifying the origin of the proposition or, indeed, the precise area of its operation.
One thing at least is clear, and that is that the principle is one of taxation law, not of equity. Even an equitable assignment for
ATC 4083value of future property gives the assignee a right to the subject matter as soon as it comes into existence.
In some instances, as in Parkins and Spratt, the suggestion seems to be that salary and wages so obviously constitute income of the person to whom they are payable that they do not cease to be income in his hands because they have been assigned to another. An allied suggestion is that an assignment of future income from personal exertion is ineffective to deprive the income of its character as assessable income in the hands of the person who earns it. Another suggestion is that the principle is not confined to assignments of future income and that it extends to present assignments of a proprietary right carrying a right to future income if that future income derives from personal exertion, namely partnership profits. Each of these suggestions gives the principle an application which takes it further than sec. 19 of the Act.
Whatever be its true and its precise limits, we do not consider that the principle applies here. The income of the respondent from the partnership was not income from personal exertion in the sense in which that expression has been used in the cases. There, with the exception of Kelly, it has been usually employed to signify income by way of wages or salary under a contract of employment where the contractual right to receive the income has been incapable of present assignment. It would also apply to the income earned by a sole trader who operates a business and a professional man who practises on his own account. In this context it is correct to say that the taxpayer's remuneration is the product of his personal exertion and that all that he has to assign are his future receipts as distinct from any right to receive those receipts. But this is not true of partners in general or of the respondent as a partner in this case. The respondent's entitlement under the partnership agreement was to a proportionate share of the partnership profits as disclosed by the partnership accounts. The relevant proportion of the partnership profits was payable to the respondent because he was a partner and the owner of a share in the partnership. The respondent was entitled before the assignment to his proportionate share of the partnership profits, however much or however little energy he devoted to the practice, so long as the partnership remained on foot. Accordingly, it is a misnomer to speak of the respondent's share of the income as having been gained by his personal exertion. Even if it were accurate to so describe it, we cannot think that this in itself would constitute a reason for saying that an assignment of a share in the respondent's interest carrying with it the right to a proportionate part of the partnership profits would not be immediately effective to vest the right to future income in his wife for tax purposes.
For these reasons we would dismiss the appeal.