Federal Commissioner of Taxation v. Waldeck Nurseries Pty. Ltd.

Judges:
Bowen CJ
Deane J
Morling J

Court:
Full Federal Court

Judgment date: Judgment handed down 5 February 1982.

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Bowen C.J., Deane and Morling JJ.

This is an appeal from a decision of the Supreme Court of Western Australia (Wickham J.) upholding the entitlement of Waldeck Nurseries Pty. Limited (``the taxpayer'') to a deduction pursuant to sec. 75A of the Income Tax Assessment Act, 1936 of one-tenth of certain capital expenditure incurred by it in the year ended 30 June, 1977. The expenditure in question was on limestone rubble and blue metal which the taxpayer used in surfacing a part of the land upon which it conducted a nursery at Lansdale in Western Australia.

The taxpayer's overall nursery business was, at relevant times, a substantial one. It involved the cultivation and maintenance, in the ground, of ``mother plants'' to provide seeds and cuttings for propagation. It encompassed the propagation of plants from cuttings and seeds and by division and the nurturing of the propagated plants, in boxes, tubes, pots or in the ground, to the stage where they could be sold either wholesale or retail. It included the sale of potted and some bare rooted plants. We shall subsequently refer to the question whether, for the purposes of this appeal, the taxpayer's

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ATC 4016

relevant activities should be seen as constituting one business rather than as encompassing a number of distinct businesses. It is convenient, for the moment, to regard them as constituting one business. Apart from its nursery business, the taxpayer carried on no other business activity on its Lansdale land.

At three points, the taxpayer's activities involved the actual cultivation of land. First, an important part of the business was the cultivation of the mother plants. Ignoring plants which are propagated by division, 82% of the plants propagated by the taxpayer were grown from cuttings. The remaining 18% were plants propagated from seed. Almost all of the cuttings used (75% of the 82%) were obtained from the mother plants which the taxpayer grew. A quarter of the plants grown from seed was grown from seed obtained from the mother plants. Overall, approximately 80% of the plants which the taxpayer produced were produced from cuttings or seed derived from the taxpayer's mother plants. Second, some of the cultivation of propagated plants was actually done in the ground. In particular, deciduous plants, such as willows, poplars and grapevines, were grown in the ground, dug out in winter and sold either potted or bare rooted. Third, plants such as flax and cyperus, which are propagated by division, were grown in the ground.

A considerable amount of the evidence before the Supreme Court was concerned with identifying the precise parcels of land on which the taxpayer carried on the various activities involved in its nursery business during the tax year. In all, the taxpayer occupied some 32 acres of land of which 22 were owned by the taxpayer and 10 were leased. One parcel of land, Lot 56, was separated, by intervening lots, from the main area which the taxpayer occupied. It was on some three areas on Lot 56 that, during the tax year, the taxpayer grew plants in the ground as plants for sale. The mother plants were grown on Lot 56 and on two other parcels. In all, a further area of approximately three acres was devoted to the cultivation and maintenance of the mother plants. In the Supreme Court, Wickham J. found it unnecessary to define in detail the particular parcels of land making up the overall area of approximately 32 acres occupied by the taxpayer in the tax year or specifically to determine precisely what the taxpayer did on particular sections of the land. His Honour was content to conclude that the taxpayer carried on the overall business of a nursery, which business included the cultivation of plants in the ground, on the general area of 32 acres. For reasons which will subsequently appear, it seems to us that his Honour's approach in that regard was warranted and we propose to follow it.

The areas of land which the taxpayer surfaced with limestone rubble and blue metal were intended to be used, and were used, mainly for holding the containers in which the taxpayer nurtured the developing plants while they grew to the size desired for sale. We say ``mainly'' for the reason that, of necessity, part of the area so surfaced was used for access lanes. Generally speaking, the small shrubs were held in these growing areas for some six to twelve months while the larger plants would be held for up to, and in excess of, two years. Presumably, the surfaced areas would also have been used for holding plants, which had developed to the desired size, while they awaited sale. We were informed that some of the pots held on one or other of these surfaced areas would, on occasion, have been pots containing plants which the taxpayer had nurtured in the ground and, at an appropriate time in winter, dug up and potted for sale. The great bulk of the plants so held would, however, have been plants which the taxpayer had propagated, in seed boxes, tubes or pots, from cuttings or seeds.

The object of surfacing parts of the taxpayer's land with limestone rubble and blue metal can be summarized in one sentence. It was to provide weed-free areas which would not be eroded by constant watering and on which plants could be nurtured in pots without root contact with the ground soil and with minimum exposure to attack by disease and pests. A somewhat more detailed explanation of the circumstances leading up to, and surrounding, the introduction of the limestone and blue metal surfacing is, however, desirable.

While the ground is an overall sustainer of plant life, the surface soil of fertile land provides a hostile base on which to rest pots

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ATC 4017

containing plants growing in pasteurized soil. The animal and vegetable pathogens in the ground - the nematodes, the fungi and so on - feed on roots protruding through drainage holes and invade the soil in the pots: the result is weakened and diseased plants. Insects come from the ground to attack the plants and, in some cases, return to the ground to breed. The ground provides a conductor for both vegetable and animal pests to and between the pots. When roots escaping through drainage outlets penetrate, and grow in, the ground soil, the result is that the potted plant is rooted in the ground and can be weakened or killed when the pot is removed. The frequent watering in a nursery will encourage the growth of weeds in the ground with resulting infestation of the pots. Constant watering of the pots is also liable to cause erosion of the underlying ground. Not surprisingly, it is accepted and recommended practice in nurseries in Western Australia that pots containing growing plants be not kept upon the untreated ground.

The taxpayer had, before its nursery activities were moved to Lansdale from another locality, itself experienced the disadvantages of keeping its pots upon the natural surface of the ground. The pots had to be moved every month in an attempt to avoid the roots of the potted plants penetrating the soil. A great deal of trouble was experienced with plant disease. Notwithstanding a constant vigil directed at keeping the weeds down between the pots, the weeds occasionally prevailed: when the weeds seeded, seed would fall or blow into the pots. There was considerable erosion of the soil and pots would often fall over because the water would come down the side of the pot and erode underneath it. To overcome these problems, the taxpayer, after its nursery was established at Lansdale, resorted to a number of successive measures. Each of them involved adding, to the surface of the land, material upon which the pots could rest.

The first procedure adopted consisted of placing jarrah sawdust, to a depth of approximately ten centimetres, over an area of land. The main objectives were the removal of weed growth and the prevention of roots of potted plants entering the ground and becoming diseased. After a period, the sawdust became cloggy and mushy and weeds grew in it. Organisms such as phytophthora and pythium emerged from the ground to attack the roots of the plants which grew, through the drainage holes, down into the sawdust.

The second procedure adopted was spreading black polythene sheeting over the ground. Again, the main objects were to keep weeds down and to separate the roots of the plants in the pots from the ground. This method was initially successful in those regards. In Western Australia's summer heat however, potted plants on the black plastic tended to burn. As time wore on, the effect of constant watering was that the black plastic became corrugated. Water was retained in the hollows. Algae and liverwort appeared. The movement of tractors and the blowing of the wind added soil to the surface of the plastic. Phytophthora and pythium reappeared. At the edges of the black plastic, soil erosion problems were encountered.

The third method tried was to surface the soil with bitumen. The sandy nature of the soil and constant watering of plants caused the bitumen to cut away. The problems of soil erosion were intensified.

The fourth procedure adopted was that directly involved in the present case. The surface of the ground was scraped clean and the topsoil was compacted. Limestone rubble was spread over the surface to an approximate depth of one hundred and fifty millimetres. To that was added approximately fifty millimetres of blue metal.

The results of the limestone and blue metal surfacing were that plants were free of disease, surface weeds were eliminated and soil erosion ceased to be a problem. A well-qualified plant pathologist, Miss Goss, explained why that was so. The roots of the potted plants did not grow down into the blue metal. The weeds in the ground, unable to reach the light and air, curled up and died. The fungi, such as pythium and phytophthora, and the nematodes had no roots on which to feed and starved. Drainage through the limestone rubble and blue metal was good and the regular watering washed any soil deposited on the surface down through the blue metal. Any disease in a potted plant had no surface soil or water through which it could spread laterally to an adjacent pot and was therefore isolated.

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ATC 4018

Beneath the surface, the land itself had not been rendered permanently infertile. If the limestone and blue metal surface were to be removed, its productive capacity would be found to have been improved by the elimination of pathogens.

Section 75A of the Income Tax Assessment Act, 1936 (``the Act''), in the terms appropriate to the 1977 tax year, provided, for present purposes, as follows:

``75A(1) This section applies to expenditure incurred by a taxpayer who carries on a business of primary production on any land in Australia, being expenditure incurred in -

• (a) the eradication or extermination of animal or vegetable pests from the land;
• (b) the destruction and removal of timber, scrub or undergrowth indigenous to the land;
• (c) the destruction of weed or plant growth detrimental to the land;
• (d) the preparation of the land for agriculture;
• (e) ploughing and grassing the land for grazing purposes;
• (f) the draining of swamp or low-lying lands where that operation improves the agricultural or grazing value of the land;
• (g) preventing or combating soil erosion or flooding on the land; or
• (h) conserving or conveying water for use in carrying on primary production on the land.

...

(3) Where a taxpayer incurs expenditure to which this section applies, an amount equal to one-tenth of that expenditure is, subject to sub-section (4), an allowable deduction in the assessment of the taxpayer in respect of income of the year of income in which the expenditure is incurred and in respect of each of the nine succeeding years of income.

(4) A deduction in respect of expenditure incurred by a taxpayer in relation to land is not allowable under this section in the assessment of the taxpayer in respect of income of a year of income unless the taxpayer carried on a business of primary production on that land in that year of income or derived in that year of income assessable income from that land by reason of his having granted a lease of that land to a person who carried on a business of primary production on that land in that year of income.

...''

Section 6 of the Act contains a restrictive definition of primary production. For present purposes, the only relevant activity constituting primary production for the purposes of the Act is ``the cultivation of the land''. The Act contains no definition of ``a business of primary production''.

The taxpayer relies on para. (a), (c) and (g) of sec. 75A(1). It is common ground that the taxpayer is entitled to the disputed deduction if, and only if:

• (i) the taxpayer, at the time the relevant expenditure was incurred, carried on the business of primary production on land in relation to which the expenditure on the limestone and blue metal surfacing was incurred (sec. 75A(1) and (4)); and
• (ii) the expenditure was incurred by the taxpayer in one or more of: the eradication or extermination of animal or vegetable pests from that land (sec. 75A(1)(a)); the destruction of weed growth detrimental to that land (sec. 75A(1)(c)); and preventing or combating soil erosion on that land (sec. 75A(1)(g)).

The first question which arises is whether the taxpayer's overall nursery activities at Lansdale should be seen as constituting one business or whether they should, for the purposes of sec. 75A, be sub-divided into two or more businesses. Wickham J. plainly regarded it as common ground that the taxpayer's nursery activities at Lansdale should be seen as constituting one business or undertaking and it would seem that the case was, in fact, conducted on that basis. Express evidence was adduced, without objection, to the effect that the taxpayer's activities should be seen as encompassed in one business. That evidence was left unchallenged by cross examination and unquestioned by other evidence. In the circumstances, it seems to us that the appeal

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ATC 4019

should be dealt with on the basis accepted by the parties in the Supreme Court and that the starting point for consideration of whether the requirements of sec. 75A(1) of the Act have been satisfied must be that the taxpayer's activities, from initial cultivation of mother plants to ultimate sale of plants, should, for the purposes of the appeal, be seen as constituting one business.

By letter of 15 July, 1981, it was conceded, on the part of the Commissioner, that the taxpayer ``at all material times carried on a business of primary production''. There was no suggestion that the taxpayer carried on any business other than the nursery business at Lansdale and this concession must be construed, as it was plainly intended to be, as a concession that that nursery business was a business of primary production. It is unnecessary to determine precisely what the taxpayer did, in the course of its business, on particular parts of the Lansdale land for the reason that it is plain that the taxpayer carried on its nursery business on, inter alia, the surfaced areas which it used for holding the pots containing growing plants. It should be mentioned that the Commissioner, in a subsequent letter, qualified his concession that the taxpayer at all material times carried on a business of primary production by pointing out - as was obvious - that the concession did not mean that it was conceded that the taxpayer was ``carrying on primary production within the meaning of the Act'' (i.e. actual ``cultivation of the land'') ``on the particular area of land'' which it surfaced. That qualification does not however affect the position that, in circumstances where the taxpayer is to be seen as carrying on one business on the land which it occupied at Lansdale, the effect of the concession that the taxpayer at all material times carried on a business of primary production is that the taxpayer carried on such a business on the Lansdale land generally, including the surfaced areas. In the Supreme Court, Wickham J. accepted and acted upon that concession made on behalf of the Commissioner. We consider it to be appropriate that this Court do likewise. The result is that, for the purposes of the case, the requirement of sec. 75A(1) and (4) that the taxpayer carried on the business of primary production on the land in relation to which the expenditure on the surfacing was incurred was satisfied regardless of whether that land be regarded as the overall area of land which the taxpayer occupied at Lansdale during the tax year or as the particular areas which were surfaced. We pass to the consideration of whether the expenditure can properly be regarded, for the purposes of sec. 75A(1), as having been ``incurred in'' one or more of the activities specified in para. (a), (c) and (g) of the subsection.

The primary submission advanced on behalf of the Commissioner on this aspect of the appeal was that the expenditure to which sec. 75A(1) refers is expenditure which is made in improving, from the viewpoint of primary production, the productive capacity of land as land and that the various paragraphs of the subsection should, on their proper construction, be read as referring only to activities of the designated types which procured, or were, at least, intended to procure, that result. Thus, so the argument went, expenditure incurred in exterminating mosquitoes which plagued the workers in a vineyard or wheatfield would not be within sec. 75A(1)(a) for the reason that the extermination of the mosquitoes would do nothing to improve the productive capacity of the land itself. The expenditure on the limestone and blue metal surfacing did not, so the submission proceeded, improve, in the relevant sense, the productive capacity either of the land surfaced or of any other land. To the contrary, while the surfacing remained, the subjacent soil was rendered incapable of the only relevant form of primary production, namely, the cultivation of the land.

In the Supreme Court, Wickham J. succinctly considered and rejected this submission. His Honour wrote:

``In my view the controlling fact is the classification of the taxpayer as a primary producer. As soon as it is shown that the taxpayer has that status and is carrying on that business on `any land', it is not necessary to show that the particular expenditure is on arable land (or for the purpose of making it so) or for the direct purpose of making other land more productive as land. I see no reason why it should be. Subparagraphs (d) and (e) of the section provide expressly for

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ATC 4020

expenditure incurred in the preparation of the land for agriculture and for ploughing and grassing it for grazing purposes. These are cases where the purpose is to make that actual land more productive. The other subparagraphs are not limited in this way and in those `the land' simply denotes the general area of land - `any land' - upon which the taxpayer carries on his business of primary production.''

Subject to the minor comment that para. (f) should, perhaps, be grouped with para. (d) and (e), we agree with these comments of Wickham J. In our view, there is no warrant for restricting the scope of sec. 75A(1), in the form applicable to the tax year, by superimposing, upon the activities specified in the various paragraphs, a general requirement that they improve, or at least be intended to improve, the productive capacity of land from the viewpoint of primary production.

There remains to be determined the issue which ultimately lies at the heart of this appeal. That issue is whether the expenditure on surfacing the land was ``incurred in'' one or more of the activities specified in the paragraphs of sec. 75A(1) upon which the taxpayer relies. We say ``one or more'' for the reason that, even though the various activities specified in sec. 75A(1) are listed disjunctively, common sense demands that expenditure which is properly seen as having been incurred in a number of those activities will satisfy the requirements of the subsection notwithstanding that that expenditure might not properly be seen as having been incurred in any one of those activities if viewed in isolation.

It is relevant to note that sec. 75A(1) does not refer to expenditure incurred ``wholly and exclusively'' or ``primarily and principally'' in one or more of the activities specified in the various paragraphs (see, generally,
National Mutual Life Association of Australasia Ltd. v. F.C. of T. 70 ATC 4134; (1970) 122 C.L.R. 13). Nor does it provide for apportionment of expenditure incurred jointly in one or more of the specified activities and some other activity. If expenditure is ``incurred in'' one or more of the specified activities, the appropriate deduction is allowable notwithstanding that the expenditure might properly be seen as having been also ``incurred in'' some other activity (cf.
Dampier Mining Co. Ltd. v. F.C. of T. 81 ATC 4329 at pp. 4332-4335, 4344-4346; (1981) 55 A.L.J.R. 496 at pp. 499-500, 508). The question of construction which arises is what is meant by the reference in sec. 75A(1) to ``expenditure'' being ``incurred in'' an activity specified in the subsection.

The majority of the activities specified in the various paragraphs of sec. 75A(1), in the form applicable to the 1977 tax year, have a purposive element in the sense that they either take the form of objectives which can be achieved by direct or indirect means (e.g. extermination of pests, preventing or combating soil erosion or flooding) or are stated in terms which include a purpose or object (e.g. for agriculture, for grazing purposes, for use in carrying on primary production). This tends to support the view that the question whether expenditure has been incurred in one or more of the specified activities is not to be determined by reference merely to whether it in fact achieves the particular result. The reason for incurring the expenditure is of critical importance. Expenditure will, for the purposes of the subsection, properly be said to have been incurred in one or more of the specified activities if the achievement of that activity or those activities constitutes an operative and substantial reason for the incurring of the expenditure (cf.
Mikasa (N.S.W.) Pty. Ltd. v. Festival Stores (1972) 127 C.L.R. 617).

In the Supreme Court of Western Australia, Wickham J. expressed the conclusion that it was ``clear on the facts that the expenditure incurred in putting down the limestone and blue metal was incurred in the eradication or extermination of animal or vegetable pests, in the destruction of weed or plant growth, and that it did prevent or combat soil erosion''. His Honour's clear conclusion to that effect needs, however, to be seen in the context that, it would seem, a submission to the contrary was not placed in the forefront of the arguments advanced on behalf of the Commissioner before him. Before this Court, the Commissioner advanced the clear submission that, on the evidence, the relevant expenditure was incurred to obtain a base upon which pots

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ATC 4021

could rest without the roots coming into contact with the ground soil and not in any of the activities specified in sec. 75A(1). In support of this submission, reliance was placed on a number of passages in the evidence which placed separation of the protruding roots of the potted plants from the ground soil in the forefront of the reasons for surfacing the relevant areas with limestone and blue metal.

The objective to which the Commissioner points was plainly an operative and substantial reason for the spreading of the limestone and blue metal surface. Upon analysis, it cannot be said that the destruction of animal and vegetable pests in the underlying soil was such a reason. It was a matter of indifference whether those pests continued to exist beneath the limestone. What was important was that the limestone isolated them and prevented their coming into contact with the roots of the potted plants. On the other hand, the elimination of animal and vegetable pests from whatever might constitute the surface of the relevant areas of land was plainly such a reason.

There was however a number of other operative and substantial reasons or purposes for the spreading of the limestone and blue metal surface. One such purpose or reason was the ``extermination of animal or vegetable pests'' (sec. 75A(1)(a)) which did not come from the underlying soil but which infested the plants from the air: a result of the surfacing was that they could not spread between the plants through surface soil or water but were washed down into the blue metal and limestone. Another such reason or purpose was the elimination of weeds (``the destruction of weed or plant growth'': sec. 75A(1)(c)). A further such reason or purpose was ``preventing or combating soil erosion'' (sec. 75A(1)(g)) by reason of the constant watering of the nursery plants. The circumstances leading up to the use of the blue metal and limestone surface make clear how important these reasons or purposes were. Among the reasons which led to the abandonment of the black polythene sheeting were that it permitted the spread, through surface water and soil, of pests which infected the plants from the air and that soil erosion occurred at the edges. One of the reasons advanced for abandoning the use of the jarrah sawdust was that weeds grew in it. A reason for abandoning the use of bitumen was that the problems of soil erosion were intensified.

The conclusion which we have reached on the overall evidence is that an operative and substantial reason or purpose of the expenditure on the blue metal and limestone surfacing was the achievement of the matters specified in sec. 75A(1) to which reference has been made. That being the case, it follows that the expenditure was incurred in the relevant activities which those paragraphs specified. It follows that the appropriate proportion of the expenditure was allowable as a deduction in the tax year.

In the result, we would dismiss the Commissioner's appeal with costs.

THE COURT ORDERS THAT

the appeal be dismissed with costs.