Deputy Federal Commissioner of Taxation v. BlackJudges:
This is an appeal, brought by leave out of time, by the Deputy Commissioner of Taxation (``the Commissioner'') against Graeme A. Black (``the taxpayer'') from a decision of the Administrative Appeals Tribunal (``the Tribunal'') [reported as Case W115,
89 ATC 899] constituted by a Senior Member, in which it determined that for the years of income ended 30 June 1985 and 1986 respectively, the taxable income of the taxpayer ``shall be reduced by the sums of $86,876 and $420 and additional tax for incorrect returns by sums to be determined upon receipt from the parties of details as to the calculations of additional tax as levied together with such submissions as they care to make within fourteen days of the date hereof'', which was 4 October 1989.
The Commissioner's further amended notice of appeal was from that part of the decision whereby the Tribunal decided that in the year of income ended 30 June 1985 the respondent's taxable income was excessive to the extent of $80,339 or alternatively to the extent of $34,500.
In her final submissions, counsel for the Commissioner sought the following orders:
- 1. that the appeal be allowed with costs;
- 2. that the cross-appeal of the taxpayer be dismissed with costs;
- 3. that it be declared that the amended assessment of the taxpayer for the year ended 30 June 1985 was excessive to the extent of $6,397.83 and no more and that the assessment be reduced by that sum.
As the Tribunal found, the taxpayer, a gifted photographer, held 100 shares and his wife one share in a company (``Lens-co'') which carried on a photography business from 1 July 1978. With effect from 1 July 1984 the business of that company was acquired by another company (``Print-co''), in which the taxpayer and his wife held 50 shares each.
The Tribunal observed that the hearing and presentation of evidence was made confusing by errors made in the presentation of accounting documents.
The evidence of the taxpayer was described as being ``in many respects vague with particulars often being incomplete and his understanding of events limited - but not so limited as he would have had me believe'' but the Tribunal accepted his evidence and that of his accountant as being ``more probably than not accurate, except in so far as I shall hereafter otherwise indicate''.
At all material times Lens-co carried on business from premises owned by the taxpayer which it occupied rent free. A loan account was maintained between Lens-co and the taxpayer, the balance in which fluctuated from time to time. When it was opened it acknowledged the taxpayer as a creditor for $40,277 as the price of assets which he had transferred to Lens-co. With the passage of the years the taxpayer came to be recorded in that loan account as a debtor.
The Tribunal also found that ``towards 30 June 1984 decisions were taken which were to result in the transfer of the assets of the business of Lens-co to Print-co'', in Lens-co deciding to forgo the taxpayer's indebtedness to it and in the placement of Lens-co in liquidation, as a company stripped of assets and liabilities.
Later in its reasons, the Tribunal referred to the steps taken by the Commissioner to stay the liquidation of Lens-co and to raise assessments against it and advance his claims to be a creditor and found that no dissolution of the company had taken place.
On 1 May 1985 the directors of Lens-co resolved to recommend ``that the unappropriated profits of the company be distributed in total to current shareholders'' and a general meeting of shareholders so resolved.
On 15 August 1986 the Commissioner advised the liquidator as follows:
``On the basis of the return and/or information furnished there is no income tax owing in respect to income derived by the company up to the date of liquidation.
Provided sufficient funds are retained to meet income tax payable on any taxable income derived during the course of winding up, action may proceed to distribute the assets of the company and finalise the liquidation.''
By letter dated 8 January 1987 the Commissioner informed the liquidator that its letter of 15 August had been ``issued in error and is herewith retracted'' and that ``no clearance can be granted to finalise the liquidation at this stage'', because Lens-co was under investigation. The liquidator replied immediately, contending that the liquidation had been finalised.
On 8 July 1987 the Commissioner issued to the taxpayer the amended assessments, the subject of challenge before the Tribunal and of this appeal. They increased taxable income previously assessed as follows:
``Year of income ended 30 June 1985 1986 $ $ Taxable income as previously assessed 69,124 48,759 Loans/Advances from (Lens-co) considered to be dividends 110,174 - Value of benefits derived from employment (use of company cars for private purposes) included in assessable income 1,800 1,720 Omitted interest from income included in assessable income 208* - Profit from the sale of shares derived at the 1986 income year excised from assessable income (1,210) Profit from the sale of shares included in the assessable income 1,238** --------- --------- Taxable income as shown in attached notice 180,096 51,717
* By agreement the objection is to be allowed in $195.
** The adjustment was not objected to.''
The Tribunal observed that the key issue in the amendment related to the sum of $110,174, identified as ``Loans/Advances from (Lens-co) considered to be dividends''. It then set out the figures relating to the loan account as follows:
``Year ended 30 June 1979 ($40,277) Change ($40,277) 30 June 1980 ($2,336) Change $37,941 30 June 1981 $17,398 Change $19,734 30 June 1982 $45,937 Change $28,539 30 June 1983 $78,036 Change $32,099 30 June 1984 $92,674 Change $14,638 30 June 1985 Nil Change ($92,674)
The transactions and events giving rise to a `Nil' balance at 30 June 1985 constitute the main issues upon this reference.''
The Tribunal went on to say (at p. 910):
``35. I am satisfied that the change in the loan account balance in any one year was a reflex of both debits and credits to the loan account made in relation to that year of income. I am also satisfied that in relation to all advances made to at least 30 June 1984, by which date net indebtedness stood at $92,674, that at the time any advance contributing to that liability was made it was not intended that the moneys advanced should never be repaid.
36. I find that, during the year of income ended 30 June 1985, the balance due and owing by Nigel to Lens-co on loan account moved in accordance with the following table:
Nigel's Loan AccountDebit Credit Dr. Balance $ $ $ 1/7/84 Opening Balance 92,673.58 30/6/85 Journal 8503 3,361 96,034.58 Journal 8503 10,000 106,034.58 Journal 8503 6,000 112,034.58 Journal 8503 15,000 127,034.58 Journal 8504 17,000 110,034.58 Journal 8506 23,942.75 86,091.83 Journal 8512 4,040 82,051.83 Journal 8517 80,339 1,712.83 Journal 8513 1,712.83 -
37. The figure brought to account by the Commissioner was not the $110,034 appearing in the last table but $110,174. The difference is to be explained by an adjustment to the figures for `Advances' (cf. below).
38. I am satisfied that four advances ($3,500, $10,000, $6,000 and $15,000) were made. I also find that the account in that regard is not inaccurate by reason of the circumstance that, in bringing to account $3,361, the accountant set off $139 against a cheque drawn for $3,500 by reason of a credit due to Nigel in respect of a cheque for $139 previously debited to his account. I accept that the opening balance had been overstated by $139 and that the effect of the set-off was to correct that overstatement.''
The Tribunal referred to some of the entries in the loan account, as follows (at pp. 911-913):
``The $4,040 and $1,712
42. I accept that the credit of $4,040 was a credit of a dividend which had been provided for in the accounts to 30 June 1984. I find that the $1,712.83 also represented a dividend distribution as provided for in Journal entry 8513 as
- `Being to distribute the remaining unappropriated profits to the shareholders on closure of the business as dividends.'
The amounts so credited to the loan account were in fact included in the figure returned by the applicant as dividends derived. In consequence, to that extent there has been a double-counting.
44. The proposed final act to close off the operations of Lens-co was the action taken by Lens-co to implement a resolution of directors of Lens-co of 30 June 1985 recorded in the following terms:
- It was resolved that the loan by the shareholders from the company be forgiven in view of the fact the company no longer was trading and that it holds sufficient reserves to absorb cancellation of the debt and has no material effect on the closure of the company prior to liquidation.
- It was further resolved that the debt be written off to a debt forgone account.'
I propose to consider in detail the significance of what was done in consequence of that resolution.
45. That resolution was given effect to by a further journal entry:`Debt Forgone Account Dr. $80,339 Shareholders Current Account Cr. $80,339 Being a transfer Balance out of Shareholder's account upon forgiveness of the debt'
46. On these things being done the balance sheet of Lens-co to 30 June 1985 was as previously set out. It was stripped of both assets and acknowledged liabilities and was therefore understood to be in a condition to persuade a liquidator to assume responsibility for the formal winding up.
47. To appreciate the significance of the resolution to `forgo', it is appropriate to compare in financial terms the decisions respectfully contended for by the parties after giving effect to all other financial transactions. In doing so, in the following tables I have taken into account:
- (a) the liability of Nigel to Lens-co at $80,339;
- (b) the circumstance that after the sale of the business it was inappropriate to retain `goodwill' as an item of value in the balance sheet;
- (c) the financial position contended for by the applicant; and
- (d) the financial position contended for by the Commissioner.
48. In the comparative tables following the objective is to express the financial position of the company in balance sheet terms according to the respective contentions of the parties immediately prior to the passage of the resolution to forgo.
49.BALANCE SHEET OF LENS-CO (Immediately prior to resolution to `forgo') Figures according to: Taxpayer Commissioner SHAREHOLDERS FUNDS Ordinary Shares $101 $101 Capital Realisation Reserve $95,000 $95,000 Goodwill ($15,000) ($15,000) Unappropriated Profits Reserve ($92,152) --------- --------- $80,101 ($12,051) ---------
--------- Figures according to: Taxpayer Commissioner ASSETS Shareholder's Loan $80,339 $80,339 $80,339 $80,339 LIABILITIES Bank $238 $238 Tax $92,152 --------- --------- $80,101 ($12,051) --------- ---------
50. Upon the evidence presented before me the resolution to `forgo' and the action taken on the part of Lens-co in writing up its books of account to give effect to that resolution constituted nothing more than a unilateral act on the part of Lens-co whereby the company declared its intention to remit the debt due to it by Nigel and adopted accounts intended to reflect that decision. On the face of it, although that was done when Lens-co was substantially controlled by Nigel, it was not done in such a way as to confer any right upon Nigel against the company such as would have entitled him to resist a claim for payment of the debt. There is no basis in the evidence before me for Nigel to contend that he was released, whether by deed under seal or by any agreement for which consideration was given, or that he so acted in consequence of the company's representations as to be entitled to allege an estoppel. Once that is recognised, it follows that nothing has passed to Nigel. His liability to the company remains as it was. He may cease to be liable to pay the company by force of law by reason of the effluxion of time, but he was not so released by reason of either the passage of resolution or the action taken by the company in writing up its books of account.
51. The situation is therefore quite unlike the situation considered by the Supreme Court of
New Zealand in Campbell & Anor v. Commr of Inland Revenue (N.Z.) (1967) 14 A.T.D. 551 where debts of shareholders were forgiven by deeds of forgiveness. In those circumstances the execution and delivery of the deeds conferred an immediate financial benefit upon the persons in whose favour the deeds were executed. But no such advantage was conferred here. If any advantage is to come to the applicant it seems likely that it will come in consequence of the belated decisions of the Commissioner to raise assessments against the company and advance his claims to be a creditor of the company.''
In the course of argument before the Court neither counsel sought to challenge any finding of fact made by the Tribunal.
However, counsel for the Commissioner submitted that the Tribunal, even though it made the finding set out in para. 50 and 51 it, ``failed to consider that what in fact had happened was that the debt was discharged by performance, and the manner in which it was performed was by the company meeting that obligation'' that is, ``the company satisfying that debt by writing off that debt against the proceeds of the sale''. In any event, counsel submitted that the Tribunal failed to consider sec. 6(1) and 44.
The final paragraph of the Tribunal's reasons read (at pp. 913-914):
55. On the principal issue, taxable income was excessive to the extent of $86,231 ($110,174 - $23,943). That being so, the determination of the Tribunal is that for the years of income ended 30 June 1985 and 1986 respectively taxable income shall be reduced by the sums of $86,876 and $420 and additional tax for incorrect returns by sums to be determined upon receipt from the parties of details as to the calculations of additional tax as levied together with such submissions as they care to make within 14 days of the date hereof.''
The Commissioner's primary submission was that the Tribunal erred in law in reducing the taxpayer's assessable income as it did, and that it should have held that the amount of $80,339 was deemed to be a dividend, by operation of sec. 108(1) of the Assessment Act
ATC 4705as it stood at the relevant time. It then read as follows:
``108(1) If amounts are paid or assets distributed by a private company to any of its shareholders by way of advances or loans, or payments are made by the company on behalf of, or for the individual benefit of, any of its shareholders, so much, if any, of the amount or value of those advances, loans or payments, as, in the opinion of the Commissioner, represents distributions of income shall, for the purposes of this Act other than the purposes of Division 11A of Part III and Division 4 of Part VI, be deemed to be dividends paid by the company on the last day of the year of income of the company in which the payment or distribution is made.''
The finding by the Tribunal that this was not a case where loans or advances were made to the taxpayer with no idea of repayment, which is not challenged by the Commissioner, is fatal to any contention that the loans or advances themselves should be deemed to be dividends (see Case No. 69
(1950) 1 T.B.R.D. 260 at p. 263).
There was also the finding by the Tribunal, set out above, that there was no basis for a conclusion that the taxpayer was released by Lens-co from his debt and that his liability to it remains.
Despite this finding, the Commissioner submitted that the action of Lens-co in writing off the taxpayer's debt against the proceeds of sale should be treated as if the company had in fact made an advance or loan to him to enable him to repay his debt to it. In my opinion, it is not permissible to construe the deeming provisions of sec. 108(1) so as to embrace forgiveness of a debt, on the basis that it produced the same effect as would have flowed from a different transaction. If the Parliament had intended to produce such a result, it would have been easy to include in the section a reference to a debt being forgiven or an obligation released. It is not open to regard the forgiveness of the taxpayer's debt as a payment made by the company on behalf of, or for the individual benefit of, the taxpayer within the meaning of the section.
In the alternative, the Commissioner sought to rely upon sec. 6(1) of the Act, which read as follows:
```dividend' includes -
- (a) any distribution made by a company to any of its shareholders, whether in money or other property;
- (b) any amount credited by a company to any of its shareholders as shareholders; and''
So far as para. (a) is concerned, there simply was not a distribution made by Lens-co to the taxpayer. The word ``distribution'' involves, at the least, a dealing out or bestowal. What Lens-co did here can amount, at best from the Commissioner's point of view, not to a distribution but to an indication that it forwent the receipt of payment from the taxpayer.
In my opinion, no amount was credited by Lens-co to the shareholder, as shareholder (emphasis added). The phrase ``as shareholder'' is to be read as ``in the capacity of shareholder''. Removal of a debit standing against the taxpayer constituted, at best for the Commissioner, an amount credited to the taxpayer in his capacity as a debtor of Lens-co, not in his capacity as a shareholder.
For these reasons, the appeal is dismissed, with costs.
The taxpayer instituted a cross-appeal against that part of the decision of the Tribunal by which it refused to allow the taxpayer's objections in relation to an amount of $23,943 which had been included in his taxable income.
The Tribunal referred to this amount as follows (at pp. 910-911):
40. The sum of $23,942.75 was not the subject of any clear explanation either. However, it was the assertion of the accountant - not controverted at all by Nigel - that the moneys had come to the hands of Lens-co from a client who had twice paid. The accountant was sure that, as between the client and Lens-co, the money was not due to Lens-co. He believed that there had been some exchange of correspondence between Lens-co and the client about it but none the less, in face of that rather extraordinary situation, he first processed the transaction by a journal entry in the following form:
30/6/85 Income Dr. $23,942.75 Loan - Nigel Cr. $23,942.75 Being amount received from advertising department twice which has been set aside to shareholders in the event of pending recovery. Later there were two other journal entries as follows: 30/6/85 Loan - Nigel Dr. $23,942.75 General holding reserve Cr. $23,942.75 Being adjustment to Journal 8506 for amount received from advertising department 30/6/85 Debt forgone account Dr. $23,942.75 Shareholders Loan Account Cr. $23,942.75 Being remaining balance of debt forgone as per Journal 8517.
41. I find that the $23,943 received by Lens-co constituted assessable income of the company. It was paid to it for services rendered. It may have been paid in error. It may have been that it should have been refunded to the client. It may have been retained dishonestly. But it still constituted assessable income in the hands of the company. As Rich J. said in
Permanent Trustees Co. (N.S.W.) v. F.C. of T. (1940) 6 A.T.D. 5:
- `A windfall on account of revenue may quite well be income.'
By treating the receipt in the course of trade as it was treated, the result was that the assessable income of Lens-co came to be understated. But inasmuch as that portion of the profits of Lens-co was credited to Nigel, the taxable income of Lens-co may not have been affected. Although the payment to Nigel was a `windfall', it constituted assessable income in his hands - whether it came to him as a dividend, or deemed dividend, or as a reward for services.''
The Tribunal thus found that the taxpayer had been credited by Lens-co with the amount of $23,942, being the second payment by a client of the company in respect of an account already paid. It concluded that although a ``windfall'' it came to him as ``a dividend, or deemed dividend, or as a reward for services''.
It is difficult to deduce from this paragraph, which constitutes the whole of the Tribunal's reasons on this question, what facts the Tribunal found, precisely what opinion it formed and the course of reasoning which led to that opinion. These are matters of vital importance to the parties, and to the Court when it is called upon to identify and decide a question of law said to arise on appeal. In these circumstances, I am of opinion that the questions raised in the cross-appeal should be remitted to the Tribunal for its further consideration and determination.
THE COURT ORDERS THAT:
1. The appeal be dismissed, with costs.
2. The cross-appeal, as amended, be allowed to the extent necessary to order that the matter be remitted to the Tribunal to consider and determine whether or not the amount of $23,943 is assessable income of the taxpayer -
- (a) as a dividend;
- (b) as a deemed dividend;
- (c) as a reward for services.
3. The matter be so remitted.
4. The Commissioner pay half the taxpayer's taxed costs of the cross-appeal.