Jezareed Pty. Ltd. v. Federal Commissioner of Taxation
Judges:Ryan J
Court:
Federal Court
Ryan J.
The applicant has requested the Commissioner of Taxation to refer to the Court the Commissioner's decision on a notice of objection against an assessment to income tax in respect of the year of income ended 30 June 1981. In its return for that year the applicant, which carried on business as a motor trader, claimed a deduction of $446,115 for ``consultant's fees''. The Commissioner disallowed that deduction, and a similar deduction of $82,895 claimed for the tax year ended 30 June 1980. The evidence discloses that the ``consultant's fees'' represented amounts paid by the applicant taxpayer for advice and administrative work in connection with a scheme for the avoidance or reduction of sales tax.
Before the scheme was implemented, the applicant purchased motor vehicles from an associated company, Peter Williamson (Wholesale) Pty. Limited which in turn purchased them from one of several distributors, including Thiess Motors and York Motors. As a result of advice received from a Mr Gordon, a principal of Corporate Management Pty. Limited (``Corporate Management''), the applicant entered into a scheme for minimising sales tax under which Denouf Pty. Ltd. was interposed between Peter Williamson (Wholesale) Pty. Limited and the applicant. Pursuant to that scheme Peter Williamson (Wholesale) Pty. Limited sold motor vehicles to Denouf Pty. Ltd., a company under the control of Corporate Management for a nominal amount, on which Denouf Pty. Ltd. paid no sales tax. Denouf Pty. Ltd. in turn, as the last wholesaler, sold each vehicle to the applicant for an even smaller nominal amount on which 15% sales tax was paid.
Thus, in the example provided, a finance company purchased a vehicle from a distributor for $4,906, bailed it to Peter Williamson (Wholesale) Pty. Limited which, upon purchasing it for $4,906 plus floor plan costs, sold it for $49 to Denouf Pty. Ltd. That company in turn sold it for $15 together with $2.25 sales tax to the applicant. Funds for the acquisition of the car by Peter Williamson (Wholesale) Pty. Limited from the finance company were provided by a loan of $4,857, representing 99% of the wholesale price, from the applicant to Peter Williamson (Wholesale) Pty. Limited. That loan was forgiven when the applicant acquired the vehicle from Denouf Pty. Ltd. The applicant also paid $34 and $156 to Corporate Management. The $34 was to reimburse Denouf Pty. Ltd. for the ``loss'' which it made on selling to the applicant for $15 a vehicle acquired at a cost of $49. The sum of $156, representing 25% of the sales tax saved as a result of the scheme, was retained by Corporate Management as a fee for devising and implementing the arrangement.
The applicant had itself been registered as a wholesale merchant pursuant to the Sales Tax Assessment Act (No. 3) 1930 in respect of its wholesale business in automotive spare parts and was assessed to sales tax on retail sales of motor vehicles made by it in the period from 1 April 1980 to 30 September 1982. However, as a result of the decision of the High Court in
Brayson Motors Proprietary Limited (in liq.) v. F.C. of T. 85 ATC 4125; (1985) 156 C.L.R. 651, that assessment was withdrawn. Apparently, a fresh assessment for that period has been issued in respect of the same vehicles to Peter Williamson (Wholesale) Pty. Limited. An objection is pending against that
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assessment. It has been accepted on both sides that the Court is not concerned on the hearing of this objection with the propriety or effectiveness of the scheme for minimising sales tax.The applicant [contended] that the fees paid by it to Corporate Management were allowable as deductions under sec. 51(1) of the Income Tax Assessment Act 1936 which provides:
``All losses and outgoings to the extent to which they are incurred in gaining or producing the assessable income, or are necessarily incurred in carrying on a business for the purpose of gaining or producing such income, shall be allowable deductions except to the extent to which they are losses or outgoings of capital, or of a capital, private or domestic nature, or are incurred in relation to the gaining or production of exempt income.''
It was first contended on behalf of the Commissioner that the advantage which was sought to be gained by the implementation of the scheme accrued not to the applicant, but to Peter Williamson (Wholesale) Pty. Limited. However, the fact that the scheme, if effective, had the result of relieving the latter company of a liability for sales tax which it would otherwise have incurred, does not entail that the applicant itself derived no advantage from the scheme or the fees which it paid to Corporate Management for implementing it. The obvious advantage to the applicant, if the scheme was effective, was that the cost to it of vehicles which it acquired for resale was reduced by almost the whole amount of the sales tax otherwise assessable on those vehicles. The fact that the sales tax presumptively avoided would have been assessable against some entity other than the applicant, does not make the advantage to the applicant any less real. It is true that there is no evidence that the removal of Peter Williamson (Wholesale) Pty. Limited's liability to sales tax on the relevant vehicles allowed the taxpayer to derive any, or any increased, income as a shareholder or otherwise from Peter Williamson (Wholesale) Pty. Limited. Indeed, it is clear that the implementation of the scheme made no negative or positive contribution at all to the derivation of income by Peter Williamson (Wholesale) Pty. Limited. If anything, that strengthens the conclusion that the implementation of the scheme was incidental and relevant, in a real sense, exclusively to the derivation of income by the applicant.
Counsel for the Commissioner secondly contended that an expense incurred by a retailer with a view to reducing the sales tax component of the cost to him of goods acquired for resale is not relevant to the retailer's business in the sense required by sec. 51(1) in order for that expense to be an allowable deduction.
In
Magna Alloys and Research Pty. Ltd. v. F.C. of T. 80 ATC 4542; (1980) 49 F.L.R. 183 Deane and Fisher JJ. in a joint judgment observed at ATC p. 4559; F.L.R. p. 207:
``Where an outgoing which was not involuntary has actually achieved the purpose for which it was incurred or where the connection between an outgoing and the relevant business is direct and obvious, there will ordinarily be little practical point in distinguishing between characterization of the outgoing by reference to what it achieved and characterization in the light of the purposes and objects of those responsible for incurring it. Thus, in the ordinary case of a payment under a contract, the nature of the outgoing will commonly be determined by reference to the contractual quid pro quo. Cases where the outgoing does not achieve its intended purpose or where the connection with the business is indirect and remote demonstrate, however, the need to distinguish between the character of an outgoing determined merely by reference to objective factors and its character determined in the light of subjective purpose in any precise formulation of the ingredients of the second limb of sec. 51(1). The key to the role of the objective and subjective in such a formulation is, in the case of a voluntary outgoing, to be found in the statement of Fullagar J. in F.C. of T. v. Snowden & Willson Pty. Ltd. to which reference has already been made, namely, that `within the limits of reasonable human conduct the man who is carrying on the business must be the judge of what is `necessary'', ((1958) 99 C.L.R. at p. 444). The controlling factor is that, viewed objectively, the outgoing must, in the circumstances, be reasonably capable of being seen as desirable or appropriate from the point of view of the pursuit of the business ends of the business being carried
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on for the purpose of earning assessable income. Provided it comes within that wide ambit, it will, for the purposes of sec. 51(1), be necessarily incurred in carrying on that business if those responsible for carrying on the business so saw it. The statement of the relevant question in this composite form finds support in the judgment of Dixon J. in
F.C. of T. v. Midland Railway Co. of Western Australia Ltd. (1952) 85 C.L.R. 306 at p. 313, where his Honour said:
- `... what governs the issue is the business purposes for which the outgoing was incurred from the point of view of the taxpayer company. The controlling factors are those which arise from the character of the business or undertaking and the relation which the expenditure or the liability to make it bore to the carrying on of the business or the gaining of assessable income'.''
(Emphasis added)
In my view the connection between the fees paid to Corporate Management and the applicant's business is direct and obvious. However, if that view be wrong, I consider also that the observations of their Honours in the passage just quoted are applicable because, viewed objectively, the payment of the fees for the implementation of the scheme was reasonably capable of being seen as desirable or appropriate in the pursuit of the applicant's business as a retailer of motor vehicles being carried on for the purpose of earning assessable income. I am satisfied that Mr Williamson as the principal of the applicant saw the expense as necessarily incurred in carrying on the applicant's business. Accordingly, the expense comes within the second limb of sec. 51(1).
However, counsel for the Commissioner argued that the conclusion which I have just reached does not conclude the matter because the expense was of a capital nature. It was urged that it had that character because it was referable to altering the organisation or structure of the applicant's business as a profit-yielding subject. However, by contrast with the litigation examined in
John Fairfax & Sons Pty. Ltd. v. F.C. of T. (1958-1959) 101 C.L.R. 30, the advice and services provided to the applicant by Corporate Management had nothing to do with the organisation or structure of the applicant or its business. They were exclusively directed to reducing the cost at which the applicant acquired its trading stock.
The expense incurred by the applicant is similarly distinguishable from that examined in
Foley Brothers Pty. Limited v. F.C. of T. (1965) 13 A.T.D. 562 which consisted of costs and an amount paid to settle an action for breach of contract as a result of which the appellant was free to sell businesses which it conducted at Lismore and Mullumbimby and to close down its Melbourne branch. Of the benefit obtained by that expenditure, the Full Court of the High Court (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 organization. The argument quoted the words but really missed the true sense of Viscount Radcliffe's reminder in
Commissioner of Taxes v. Nchanga Consolidated Copper Mines Ltd., (1964) A.C. 948 at p. 960 of `the importance of observing a demarcation between the cost of creating, acquiring or enlarging the permanent... structure of which the income is to be the produce or fruit and the cost of earning that income itself or performing the income-earning operations'. 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. There can be no justification for saying, as was said in the argument for the appellant, that the cost of a freedom to alter the framework by discarding part of it is to be classified differently from the cost of a freedom to add to the framework. The argument seized upon Viscount Radcliffe's words, `creating, acquiring or enlarging the
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permanent structure', and denied that getting rid of an uneconomic part of the structure fell within the category; but this was an essay in literalism which missed the substance of his Lordship's exposition of principle.''
The framework within which the applicant carried on its income-producing activities was not altered by the scheme which Corporate Management promoted. Rather a step was taken by the applicant of obtaining advice, and acquiring its trading stock through a different chain of supply as part of its income-producing activities within the existing framework of its business.
However, the feature of the applicant's expense which I have just identified was relied on by the Commissioner as indicating that the fees in question were outlaid for the acquisition of a source of supply of trading stock which was not of a wasting nature and therefore not deductible. In my view the real sources of supply to the applicant remained the distributors, Thiess Motors and York Motors, to which the vehicles which the applicant sold by retail could be traced. The interposition between those distributors and the applicant of entities like Peter Williamson (Wholesale) Pty. Limited and Denouf Pty. Ltd. for the purpose of deferring or minimising the attraction of sales tax did not amount in reality to the acquisition by the applicant of a new source of supply analogous to the purchase of a distributorship or franchise.
It is true that, as part of the consideration for the fee paid to Corporate Management, the applicant acquired knowledge of the features of a scheme by which, at least arguably, sales tax could be minimised. That knowledge could be said to be an enduring or tangible benefit to the taxpayer. However, I regard the substance of the consideration for the fee as the provision of an entity as last wholesaler which was willing or obliged to sell each vehicle on to the applicant at a price far below the actual value of that vehicle. Seen in that light, the substantial benefit to the applicant was not enduring or recurrent but accrued in a self-contained way on each acquisition by the applicant of a specific vehicle.
I am reinforced in the conclusion to which I have come by the fact that as long ago as 1940, the Board of Review unanimously concluded that expenditure on legal advice as to whether the taxpayer should lodge sales tax returns was deductible. ``In the opinion of the Board, the expenditure was an allowable deduction as being incidental and relevant to, as well as necessarily incurred in, the carrying on of taxpayer's business. It was certainly not of a capital nature.'' (Decisions of the Board of Review, Vol. 9. Case No. 44 at p. 151.)
Finally, the Commissioner contended that to allow a deduction for expenses incurred in furtherance of a concededly artificial arrangement for minimising sales tax would be contrary to public policy. Reference was made to
Mayne Nickless Ltd. v. F.C. of T. 84 ATC 4458; (1984) V.R. 863 in which it was held that it was a principle of public policy that fines and penalties for parking infringements and traffic offences incurred by a carrying contractor in the course of its business should not be allowed as deductions because to do so would frustrate the legislative intent in that the punishment imposed by the relevant legislation would be, or would be seen to be, diminished or lightened.
In my view the answer to this submission is provided by the penultimate paragraph of the joint judgment in Magna Alloys and Research Pty. Ltd. v. F.C. of T. (supra) at ATC p. 4564; F.L.R. p. 215 where their Honours concluded:
``Nor, in our view, do considerations of public policy provide support for the Commissioner's submissions on this aspect of the appeal. Whatever may be the position as regards the payment of fines or penalties, there is no basis in public policy for any overriding principle of non-deductibility of legal costs incurred in the defence of directors, employees or agents on criminal charges arising out of activities on the taxpayer's behalf. To the contrary, there are sound arguments to support the view that, in the absence of any question of inducement to criminal activity, an outgoing which is designed to achieve the result that a citizen charged with a criminal offence has proper and adequate legal representation, is positively in the public interest. Plainly, such an outgoing cannot properly be regarded as being contrary to contemporary notions of public policy.''
I am equally unable to discern any basis in public policy for regarding fees for legal advice
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which on general principles are deductible, as non-deductible, because the advice is directed not to a defence to criminal proceedings, but to a concededly artificial scheme for minimising sales tax into which the taxpayer has entered in good faith.For all of these reasons I uphold the objection and order that the assessments be amended by allowing the relevant deductions. The Commissioner must pay the applicant's costs.
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