Case U47

Members:
PM Roach SM

Tribunal:
Administrative Appeals Tribunal

Decision date: 20 February 1987.

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P.M. Roach (Senior Member)

In this reference the decision of the respondent disallowing an objection to an assessment of income tax by the applicant was made on 1 April 1982. It related to an assessment of income tax against the applicant for the year ended 30 June 1981. The request for reference was made 20 April 1982 but not complied with until 22 May 1986. The matter came on for hearing before the Tribunal on 9 February 1987.

2. It was said that on 2 February 1981 the applicant (S) purchased a Mercedes motor vehicle and immediately sold it at a loss, as he had expected and planned to do before agreeing to purchase it. He claimed part of the consequent loss as a tax deduction. The claim was disallowed and, assuming that there had been no other relevant circumstances, was correctly disallowed. S was not a dealer in motor vehicles; the vehicle had not been acquired with a view to resale at a profit, nor had it been acquired as part of a profit-making

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undertaking or scheme. So long as the loss was so viewed it was not allowable as a deduction pursuant to either sec. 51 or 52 of the Income Tax Assessment Act. However, the facts recounted to date, although accurate, are quite incomplete as the transaction was part of a series of events which had arisen in the course of the business of S as a self-employed medical practitioner.

3. S carried on business on his own account and at all material times the conduct of that business called for the use of a motor vehicle. Motor vehicles were not used by S only for business purposes, and it was common ground that 10% of motor vehicle usage was for private purposes. On 11 April 1980 S acquired for use in that business a Mercedes motor vehicle. Instead of purchasing it, he arranged to lease it from Citicorp Australia Limited (Citicorp). That arrangement was documented and involved mutual commitments: by Citicorp to S as lessor; and by S to Citicorp as lessee. Citicorp was to make the vehicle available to S for a term of two years from 11 April 1980, provided that S paid the rent monthly and was not in breach of other obligations created by the agreement directed to the protection of the interests of Citicorp. S in turn was obliged to continue in possession of the vehicle for the full term of two years and throughout that period to pay a monthly rental of $455. When the period of two years had run its contemplated course, Citicorp was entitled to resume possession of the vehicle and S was obliged to deliver up the vehicle to Citicorp. On failure on the part of S to deliver up the goods to Citicorp on the expiration of the lease, S would become liable to pay by way of liquidated damages for detention a daily sum equal to one-thirtieth of the monthly rent.

4. But if S exercised his right to return the vehicle at the expiration of the lease his obligations were not necessarily at an end because then - so the lease provided - if Citicorp disposed of the vehicle and the net proceeds of the disposal (as defined) were less than the appraisal value nominated by the agreement, S became obliged to pay to Citicorp "by way of indemnity for the capital loss so sustained the amount of such deficiency (additionally to any rent or other moneys payable by the Lessee)" (cl. 8). Another provision (cl. 9) was to operate to similar effect in the event that, by mutual agreement, the vehicle was returned to Citicorp prior to the expiration of the lease. It was expressly provided that S would have no option to purchase the vehicle; and S acknowledged to Citicorp that:

"in the event of a payment by the Lessee under Clause 8 or 9 it is in [sic] the view of the Commissioner of Taxation that the payment is an outgoing of capital and not deductible for income tax purposes."

The acknowledgement has no relevance to the circumstances of S as neither cl. 8 nor 9 operated.

5. To understand correctly the legal issue which arises in this case it is necessary to have all of the relevant facts in proper perspective. S was in the continuing business of a self-employed medical practitioner. In the course of that business he needed to be able to use a motor vehicle. To that end he leased a motor vehicle on the terms which have been detailed above. Immediately prior to 2 February 1981 his obligation was to continue as lessee of that motor vehicle for the balance of the two-year term which still had some ten months to run. At that time the prospect of having to expend large sums on reconditioning the vehicle was close at hand. His commercial judgment was that it would be of advantage to him to replace that motor vehicle. To dispose of the vehicle and to be rid of his ongoing obligations to Citicorp under the lease and to avoid the prospective outgoings in maintaining the vehicle, he needed the consent of Citicorp and he needed a person willing to accept the vehicle; and it was to be expected that the consent of Citicorp would only be forthcoming if it could receive an acceptable return upon its investment.

6. The interests of S, of Citicorp and of any transferee in the circumstances could only be achieved if the transferee was to pay $9,550 to acquire title to the vehicle; if Citicorp received $12,633.62 and was to forgo title to the vehicle and any claims it may have on S; and if S was to pay $3,083.62 from his own resources to Citicorp and release Citicorp from further obligations under the lease. Those ends could have been achieved in a number of ways. S could have surrendered possession of the vehicle to Citicorp and paid Citicorp $2,083.62 with each releasing the other from all further obligations under the lease; and the transferee

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could have paid Citicorp $9,500 and thereon become the purchaser of an unencumbered title to the vehicle.

7. What occurred was, as a matter of commercial reality, little different. The transferee, having already paid S a deposit of $1,150, provided S with a bank cheque for $8,400 drawn at the request of S in favour of Citicorp. The transferree thereupon took possession of the vehicle as purchaser. S paid Citicorp $4,233.62 and $8,400 by way of the bank cheque and thereon took possession of the vehicle as purchaser with each mutually releasing the other from all further obligations under the lease. The gross loss to S on the money-movements of that transaction was $3,083.62 of which 90% ($2,775) was claimed as a deduction.

8. I am satisfied that nothing turns on the question as to whether S purported to pass title upon delivery, with such delivery being effected a matter of 2,. 4 or 24-hours or whatever before title passed from Citicorp to S. (For example, following successful presentation by Citicorp of the bank cheque and the cheque of S.)

9. But on any view what is significant is that S did not pay $12,633.62 to Citicorp only in order to purchase the vehicle. S paid Citicorp that sum in consideration of two things - the first to bring about a mutual release between S and Citicorp as to obligations under the lease; the second to enable S to acquire unencumbered title to the motor vehicle free of obligation to Citicorp. The payment served both objects and it is appropriate that it should be apportioned so as to identify the amount attributable for taxation purposes to each consideration. That calls for a finding of fact as to what is "fairly and properly attributable" to each head (cf.
Ronpibon Tin N.L. and Tongkah Compound N.L. v. F.C. of T. (1949) 78 C.L.R. 47 at p. 60).

10. On that basis I am satisfied that it should be held that, of the total amount paid by or on account of S to Citicorp on 2 February 1981, $9,550 was paid to secure title to the vehicle and the balance to secure a release from obligations under the lease, a lease which had come to involve S in unacceptable costs and which was perceived as likely to involve in the future far greater expense. I also find that all of that occurred as an element in the ongoing operations of his medical practice. That being so, I conclude that there was neither a profit nor a loss upon the transaction of purchase and sale.

11. The real question for determination is whether, in the circumstances of S, the moneys expended to be rid of the onerous rental obligation due to Citicorp are deductible. I am satisfied that to the extent to which motor vehicle usage was not private they are so deductible.

12. For the Commissioner it was contended that the loss was an affair of capital as if the transaction were in some way akin to the circumstances considered before a Full Bench of the High Court of Australia in
Foley Brothers Pty. Ltd. v. F.C. of T. ((1965) 13 A.T.D. 562, dismissing an appeal from the decision of McTiernan J. - ibid. at p. 474) in which the Commissioner's action in treating a claimed deduction as capital was upheld. In that case the taxpayer had paid moneys for the purpose of gaining a release from a deed by which the taxpayer had undertaken obligations as to the very structure of its business. In a joint judgment their Honours, Kitto, Taylor and Menzies JJ. said (at p. 563):

"The freedom thus acquired was clearly enough an enduring advantage. In the appellant's argument it was treated as relating only to day-to-day decisions in the course of income-producing activities, but so to describe it is to mistake its nature entirely. It was a freedom, not to make decisions, or even to carry decisions into effect, as part of the process of producing income within that structure, but to make changes in the structure of the income-producing organisation... It is a fundamental error to treat a freedom to dispense with whole branches of a widespread enterprise as if it were only a freedom to move the goods in a shop from one counter to another. The true contrast is between altering the framework within which income-producing activities are for the future to be carried on and taking a step as part of those activities within the framework."

13. In my view the present reference is to be determined in accordance with the decision of the High Court of Australia in
W. Nevill & Co. Ltd. v. F.C. of T. ((1936-1937) 56 C.L.R. 290).

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In that case a company paid a sum of money to a senior officer of the company in order to procure a release from a term contract of employment. Latham C.J. said (at p. 300):

"The expenditure was made for the purpose of increasing the efficiency of the company and therefore increasing its income producing capacity. It was not a capital expenditure, it was, in my opinion, an expenditure incurred in the course of gaining or producing assessable income."

His Honour Rich J. (at pp. 303-304) said:

"In such an expenditure I can see no characteristics which would make it referable to capital account. There is nothing analogous to the acquisition of a fixed asset, to the enlargement of the goodwill of a company or... to the rescue of the business from annihilation. The question in the present case arose in relation to the staff and although, owing to the superior position of the officer, it was an important one and unlikely to recur, in other respects it was of a description which must arise over and over again in the conduct of any business where there is a large staff many of whom have a fixed tenure under contract. The expenditure was made as an incident in the organisation of the company's officers... The sum is not an expense which fulfils any of the tests laid down... for an expenditure of a capital nature."

14. His Honour then went on to consider another argument for the Commissioner, saying (at p. 304):

"The contention for the Commonwealth is that, as admittedly the object of making the lump sum payment was to save the future expenditure of the joint managing director's salary, it could not be exclusively and wholly laid out for the production of assessable income. For it was said to avoid expenditure is not to obtain assessable income. This argument seems to me to confine the investigation of the purpose to a stage later than that to which the taxpayer is entitled to go back. the taxpayer had committed itself at an anterior date to an expenditure on salaries for its managing directors. Its sole purpose in doing so was to earn income; but later the company found that in the prosecution of this purpose it had committed itself to a future expenditure unnecessarily large. It then negotiated what may be described as a commutation of the excess future expenditure it had otherwise incurred. So regarded, the purpose of the whole transaction was to gain assessable income. The Commissioner cannot rivet attention on the last stage to the exclusion of the earlier stage of the course of dealing which leads to the total expenditure."

15. In my view the latter passage particularly fairly applies to the present situation. In my view the applicant was entitled to the deduction claimed.

16. However, I am equally clearly of the view that the notice of objection lodged on behalf of the applicant did not set forth grounds which would entitle the applicant to the relief sought. By the objection, the applicant claimed that the entitlement arose in relation to a loss on sale allowable pursuant to sec. 52 of the Act or as depreciation allowable pursuant to sec. 59 of the Act. The former claim was abandoned at the hearing and there was nothing in the evidence to suggest that during such fleeting interval of time as the vehicle may have been owned by the taxpayer that it was used in the course of his income-producing activities. That being so, had this reference fallen to be determined at any time prior to 1 July 1986 it would have been the responsibility of any Tribunal adjudicating the matter to have affirmed the decision of the Commissioner upon the objection.

17. From 1 July 1986 the Taxation Boards of Review (Transfer of Jurisdiction) Act has been effective and there is now a discretion in this Tribunal not to strictly limit the taxpayer to the grounds stated in his objection. As a result justice may now be done where previously it was denied. At the commencement of the hearing the representative of the applicant sought to amend the grounds of objection by adding the following:

"7. Alternatively the said loss constituted a loss or outgoing wholly or partially incurred in gaining or producing the assessable income or in carrying on business for the purpose of gaining or producing such income and did not constitute a loss or outgoing of capital, or of a capital, private or domestic nature, and was not incurred in relation to the gaining or production of exempt income."

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As the Commissioner's representative advised that the Commissioner was not taken by surprise and would not be inhibited in the presentation of his case; and as I considered the amendment necessary to enable justice to be done, I have allowed the amendment. That being so, the order of the Tribunal will be that the determination of the Commissioner under review will be varied by reducing the taxable income of the applicant for the year of income ended 30 June 1981 as assessed by the Commissioner on 22 February 1982 by $2,775.

18. For once, delay on the part of the Commissioner in effecting transmission of an objection pursuant to a request for reference has worked to the advantage of the applicant.