Lockhart J

Federal Court

Judgment date: Judgment handed down 8 September 1992

Lockhart J

This case raises the question whether the payment by the respondent, Rothmans of Pall Mall (Australia) Ltd (``Rothmans'') of the sum of $449,406 during the year of income ended 30 June 1988 to an industry association in payment of special levies requested by the association to fund a public relations campaign against the passing of legislation relating to tobacco products, then pending in the parliaments of Victoria and South Australia, was capital expenditure, falling within the exception mentioned in s. 51 of the Income Tax Assessment Act 1936 (``the Act''), and thus not a deduction available to Rothmans.

The Commissioner of Taxation disallowed Rothmans' claim for deduction and the decision on the objection was referred to the Administrative Appeals Tribunal, Taxation

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Appeals Division. The matter was heard by a Deputy President of the Tribunal (Mr BJ McMahon) who found that the whole of the payment by Rothmans to the industry association constituted a working expense and was accordingly not an outgoing of a capital nature. The Tribunal therefore set aside the Commissioner's decision and remitted the matter to the Commissioner with the direction that Rothmans is entitled to a deduction for $449,406 for the 1988 year of income under s. 51(1) of the Act. The Commissioner appealed to this Court from the Tribunal's decision.

The facts as found by the Tribunal (they are not in dispute) may be briefly stated. Rothmans' business includes the manufacture of tobacco products, Rothmans was a member of the Tobacco Institute of Australia (``the Institute'') which consisted of four manufacturers of tobacco products, three of which made monetary contributions more or less to the same extent, but the fourth (a smaller company) did not. The activities of the Institute were funded by the payment by members of regular subscriptions and where necessary by the payment of special levies imposed by resolution of the directors of the Institute. Each of the four members of the Institute had a right to appoint a director of it. The regular subscriptions were paid bi-monthly by the members on receipt of an invoice from the Institute. On occasions, when unbudgeted activities were considered appropriate but the Institute had insufficient funds to pay for them, the Board of the Institute would resolve that each member pay an additional levy to provide the necessary funds. Although there was no obligation upon members to pay these levies, there was an understanding that they would be paid, especially as they were not made unless unanimously approved by all four members.

The Institute is a company limited by guarantee. Its principal objects set out in clause 3 of its memorandum of association are as follows:

  • ``(i) to promote understanding of the tobacco industry in Australia by the public, by all levels of government and of public administration and by other authorities, institutions or associations whether public or private
  • (ii) to represent and to assist the tobacco industry in Australia in the legitimate maintenance, support and furtherance of its interests
  • (iii) to take part in, carry on, develop and encourage stimulate and aid research into tobacco and its products, into smoking and into any type of environmental factor which may affect human health and to do so by way of direct participation or by providing or contributing to funds to enable such research to be undertaken by others or in such other manner as may seem desirable
  • (iv) to engage in discussions and negotiations with and to determine or assist in the determination of matters of policy by or for all or any authorities, institutions or associations, whether governmental, public or private on matters relating to or affecting directly or indirectly any of the foregoing matters.''

The Institute sought to advance the interests of the tobacco industry and its members by seeking to protect their enjoyment of commercial freedom including the right to advertise their products, to sponsorship and to market tobacco products by various commercial means. The Tribunal found that the Institute was a vehicle which protected the interests of its members in the commercial environment by allowing the ideas of the members to be promulgated without attributing them specifically to any particular member. The Tribunal also found that the Institute aimed to foster public understanding of the tobacco industry by increasing public awareness of the agricultural, manufacturing, marketing, economic and social role of tobacco in Australia.

In October 1987 a bill entitled the Tobacco Bill was introduced into the Victorian Parliament. In March 1988 a bill entitled the Tobacco Products Control Bill was introduced into the South Australian Parliament. Rothmans perceived that if these bills became law they would affect its ability in a number of ways to market its tobacco products.

Specific provisions of the bills should be mentioned:-

(a) Advertising - a selective ban was proposed to be placed on tobacco advertising by covering theatres, sales of films and video tapes, billboards, external displays, leaflets, free samples and competitions connected with the sale of

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tobacco products. Point of sale advertising, newspaper and magazine advertising were excluded from the restrictions (Victorian bill, clauses 6, 7 and 8; South Australian bill, clause 12).

(b) Sponsorship - there was to be a prohibition of sponsorship of sporting and cultural events, with a power vested in the Governor in Council to make exemptions in Victoria and limited exemptions in South Australian for the Australian Formula 1 Grand Prix and the Sheffield Shield and international cricket matches (Victorian bill clauses 9 and 109; South Australian bill clause 12).

(c) Licence Fee - an increase was proposed in the State licence fees: from 25% to 30% in Victoria and 25% to 28% in South Australia (Victorian bill clause 46; South Australian bill clause 18).

(d) Vending Machines - there were to be restrictions on the location of vending machines, inter alia, on licensed premises (Victorian bill clause 13).

(e) Packaging of Cigarettes - a ban was to be imposed on the sale of cigarettes in packages containing less than 20 cigarettes (Victorian bill clause 14).

(f) Smokeless Tobacco Products - there was to be a ban on the manufacture and sale of smokeless tobacco products (Victorian bill clause 15).

Certain current activities of Rothmans would have been directly affected by the proposed legislation. Various marketing methods were adopted by Rothmans and were summarised in evidence by the Tribunal as follows:

  • ``(i) General Methods - these consist of advertising in newspapers, magazines and other publications and vending machines, and advertising on shopping trolleys.
  • (ii) Outdoor Advertising - this consists of contracted advertising space that gives exposure by being either fixed to buildings, or freestanding (such as billboards) or at event venues.
  • (iii) Point of Sale Advertising - this consists of advertising signage that is placed within a Tobacco selling outlet or a sign of a limited size that is affixed to the outside of a Tobacco selling outlet.
  • (iv) Co-operative Advertising - this consists of promotion by means of price `specialing' that is done in co-operation with a retail selling organisation.
  • (v) Promotion by Casual Promotional Representatives - this consists of `giveaways' by personnel who are engaged to promote products to smokers at retail outlets, sporting functions or other venues.
  • (vi) Sponsorship - this consists of providing funds or merchandise to support a sporting, cultural or educational activity. The funds might be provided either to the participants in the activity, or to support the costs of organising and running the activity itself.''

The Tribunal found that, as a result of the ultimate passage of the bills, Rothmans was obliged to change its emphasis in marketing activities. There was a marked shift to co- operative advertising in Victoria, although it was not in the opinion of Rothmans as efficient as outdoor advertising or ``general methods advertising''. The new emphasis was necessary to correct lost marketing opportunities.

Rothmans perceived the role of advertising and sponsorship as a marketing tool to assist it in improving its level of sales and to reverse any downward market trends for individual products. Evidence was given before the Tribunal, which it appears that the Tribunal accepted (but whether accepted or not it was not disputed before the Tribunal or on appeal to this Court) that, according to the perception of Rothmans', advertising did not increase the total market consumption of tobacco products. Rothmans perception was that the effect of advertising of its tobacco products was not to increase total market consumption of tobacco products. The Australian market was a mature market and the result sought from advertising and promotion was to increase Rothmans' share at the expense of its competitors. Rothmans was concerned that the passage of the bill would diminish its market share against its competitors in Victoria and South Australia, and that the proposed restrictions would have had a particularly adverse effect on Rothmans' business, namely, that as Rothmans' share of the market was represented by sales of the more expensive brands of tobacco products (whereas its competitors had a greater market share of the cheaper end of the market) experience had shown that any increase in taxes, which

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increased the prices of cigarettes, affected the more expensive brands to a greater extent than the cheaper ones.

The Tribunal found that the proposed legislation therefore presented a ``twofold threat'' to the business interests of Rothmans:-

  • (a) the proposed increase in tobacco licence fees would have a greater impact on the premium brand of cigarettes, a segment of the market in which Rothmans had a prominent market share;
  • (b) the proposed billboard advertising restrictions would make it more difficult for Rothmans to increase its market share through the promotion of cheaper brands of cigarettes.

On 5 November 1987 and 12 April 1988 the Institute resolved to impose the levy. The amounts involved were designed to finance advertising campaigns which had been discussed and approved prior to the meetings. To fund the Victorian campaign the Institute imposed a special levy upon each of the three principal members totalling $768,219.19. Each of the three members was required to contribute an equal one-third share, namely, $256,073.06. Invoices were sent by the Institute to Rothmans for its share and were paid.

The amount that the Institute received by way of special levy exceeded the amount of the costs which it subsequently incurred in relation to the Victorian campaign in the sum of $250,423.17. The amount which the Institute received in respect of the South Australian campaign exceeded the amount spent by $148,422.34. Both of these sums were retained in the Institute's ``General Funding Account'' or ``General Revenue Account''.

The Tribunal accepted Rothmans' perception as reasonable that in its experience in the tobacco industry it sees advertising more as a tool for gaining market share than for increasing total consumption.

The Institute had mounted a similar advertising campaign in Western Australia in 1983. Rothmans believed that the Victorian and South Australian campaigns could be equally successful (i.e. stopping the passage of the bills). Its optimism was not justified by the events, and both bills became law.

The Tribunal found that financial information tendered in evidence showed that the fortunes of Rothmans did not appear to have been affected by the legislation, at least so far as overall profits and sales are concerned. Rothmans' business in the tobacco industry continued and it continued to trade profitably.

The Tribunal found that the payments by Rothmans to the Institute which are the subject of these proceedings were voluntary; indeed the contrary was not suggested. The Tribunal found also that Rothmans sought to assist the defeat of the two bills by making the payments in question, but that it would not be correct to say that the only object of the payment was to defeat the legislation. The object or purpose of the payment could, the Tribunal said, be viewed as an attempt to preserve Rothmans' right to continue to advertise in the pre-1988 manner.

The Tribunal found that there could be no doubt the objectives of the proposed legislation were to inhibit advertising in a manner which Rothmans had regarded as particularly advantageous (for example billboards), to limit sales by vending machines, to increase the price of cigarettes by substantially raising the ``franchise'', to limit the sale of small packets and to inhibit new smokers.

The Tribunal found that the advertising of Rothmans was an important part of preserving brand names and preserving an expanding market share and that it had a particular importance in an ability to earn revenue. The Tribunal also found that the proposed legislation affected the whole of the market and not just the interests of Rothmans; and that it would not have impeded Rothmans' ability to increase its market share any more than it would have impeded its competitors.

The Tribunal also found that the Australian market for cigarettes was ``mature'', but that nevertheless the annual sales of cigarettes since the passage of the legislation had increased by approximately $1,000,000,000.

The Tribunal rejected the argument of the Commissioner that the only avenue for expansion of sales was into the ``youth'' market and that it was the prevention of infiltration into that market that the legislation was designed to achieve. It found that there was no evidence to support that finding and that the ``hard'' financial evidence from Rothmans was clear evidence to the contrary.

The Tribunal rejected a submission by the Commissioner that the legislation imperilled the foundation of Rothmans' business. The

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Tribunal said that ``This would be a gross speculation. The business is continuing. The applicant [Rothmans] is continuing to trade profitably. There is no basis for the extreme inference which I have been asked to make''. Indeed, the Tribunal referred to the preamble to the Victorian bill which contained a sub- paragraph in these terms:

``(iii) Tobacco use is a widely accepted practice amongst adults which is inappropriate to ban completely.''

The South Australian legislation recited as its principal object:

``To reduce the incidence of smoking and other consumption of tobacco products in the population, especially young people''

(emphasis added).

The Tribunal rejected the argument of the Commissioner that the legislation constituted a threat to the very legality and continuing existence of Rothmans' business. The Tribunal said it was not even prepared to infer that such a result would be accelerated by the passing of the legislation and that there was no basis for drawing any inference of probative value as to the likely outcome of similar legislation in the New South Wales Parliament if it were to be introduced. The Tribunal held that the legislation was intended to limit and control, but not abolish, contact between the respondent and its present and future customers and that it was on its face not designed to put Rothmans out of business.

It was submitted by counsel for the Commissioner before this Court that the Tribunal erred in what counsel described as the ``key element'' in the Tribunal's reasoning, namely, a finding in these terms:

``I find it difficult however to accept that a right (or liberty) to advertise in common with others in an already restricted manner, can be regarded as a capital asset, even if this term does encompass incorporeal advantages and an `infinite variety of shapes'... no additional right was sought by the applicant, no advantage over competitors was pursued. What was being defended was a right enjoyed in common with others.''

Counsel argued that this reasoning applied the wrong test. The object of the payment was not to acquire a new right but to prevent the passage of legislation which, upon enactment, would both deny Rothmans the benefit of an existing right (or liberty) and impose upon it permanent detriment, namely, the direct affectation of many of its then current activities, the inhibiting of its advertising in a manner which Rothmans had regarded as particularly advantageous and a serious effect on its market shares. It was argued on behalf of the Commissioner that the detriment sought to be avoided by Rothmans was a permanent detriment going to an important part of its business, namely, its capacity to advertise in print, on billboards and elsewhere; its use of vending machines; its pricing structure and its ability to attract new smokers. In the context of Rothmans' business this was said to be a detriment of a capital character. The payment was to defeat the legislation which was designed to prevent Rothmans carrying on its business by losing specific areas of market share, restricting its advertising and imposing licence fees.

Counsel for Rothmans argued that, on the basis of the findings of fact by the Tribunal, which were not challenged by the Commissioner, there was no threat to the existence of Rothmans' business or to any capital asset of that business; Rothmans was not seeking to preserve an existing capital asset of its business and it sought only to retain the right enjoyed in common with its competitors to enjoy commercial freedom such as advertising and sponsorship, and to market tobacco products by accepted commercial means.

The Commissioner argued before the Tribunal that Rothmans' interest in the surplus of the monies paid by three members to the Institute and not expended on the advertising campaign, was not expenditure incurred in gaining or producing assessable income and that it could not be said to be a business outgoing. The Commissioner submitted that there was no nexus between the payment and Rothmans' income earning activities so far as those circumstances were concerned. The Tribunal rejected that argument and concluded that the whole of the monies paid by Rothmans to the Institute should be viewed as a working expense. The Commissioner abandoned this argument before the Court; so that the question for the Court is whether the entirety of the levy paid by Rothmans to the Institute was deductible or not. No point was taken by the Commissioner as to the surplus.

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There is no contest that the expenditure falls within the second limb of s. 51(1); the sole question is whether it is of a capital nature.

The expenditure by Rothmans was to defeat the passage of legislation which would curtail sales and advertising of tobacco products and probably result in loss of market share of Rothmans. There was no threat to the existence of Rothmans' business or to any capital asset of that business.

This case stands in marked contrast to
Ward & Co Limited v Commissioner of Taxes (NZ) [1923] AC 145. In that case a brewery company carrying on a business in New Zealand expended money in printing and distributing literature to influence public opinion on a poll of voters in New Zealand about to be held under statutory authority on the question whether or not the sale of intoxicating liquors should be prohibited throughout New Zealand. The poll resulted in a small majority against prohibition. The company sought to deduct the expenditure in the assessment of income derived from its business for the purposes of the Land and Income Tax Act 1916 (NZ). Section 86(1)(a) of that Act provided that no deduction was to be made in respect of expenditure ``not exclusively incurred in the production of the assessable income''. The Privy Council affirmed the judgment of the Court of Appeal of New Zealand that the company was not entitled to make the deduction having regard to that legislative provision. The opinion of the Board was delivered by Viscount Cave L.C. who said (at 149) that it was quite impossible to hold that the expenditure was incurred exclusively or at all in the production of the assessable income. Their Lordships held that the expenditure was incurred, not to produce income, but to prevent the extinction of the company's business from which the income was derived; that it was:

``a voluntary expense incurred with a view to influencing public opinion against taking a step which would have depreciated and partly destroyed a profit-bearing thing.''

In the present case the proposed legislation did not pose a threat to the existence of Rothmans' business; quite the contrary, because Rothmans continued to trade profitably following the introduction of the legislation. Nor was the legislation designed to put an end to Rothmans' business or the business of any of the other tobacco companies. Indeed, as mentioned earlier, the preamble to the Victorian legislation stated:

``(iii) Tobacco use is a widely accepted practice amongst adults which is inappropriate to ban completely.''

The South Australian legislation recited as its principal object:

``To reduce the incidence of smoking and other consumption of tobacco products in the population, especially young people.''

(emphasis added)

Rothmans was not seeking to maintain or preserve an existing capital asset in paying the levy to the Institute. The ultimate effect of the legislation was to increase the cost of tobacco products. The proposed legislation did not affect general advertising of Rothmans; outdoor advertising by means of billboards was to some extent affected; point of sale advertising was not affected and co-operative advertising and other forms of advertising were not affected. Sponsorship was to be affected by the legislation, but selectively, for there were exceptions in Victoria and limited exceptions in South Australia for the Australian Formula One Grand Prix and Sheffield Shield and international cricket matches. The contributions by Rothmans and others to the Institute were not related to market share; their contributions were in identical sums, though their market shares were not. In paying the levies Rothmans did not gain an enduring advantage, it merely maintained its existing position in the marketplace. The legislation did not seek to effect a permanent alteration to Rothmans' capital structure or indeed any alteration to it at all. The recurrent character of expenditure has been said to be an element which may throw light on the question whether the expenditure is or is not an outgoing of a capital nature: see
Broken Hill Theatres Pty Ltd v FC of T (1952) 9 ATD 306; (1951-1952) 85 CLR 423; but as Dixon C.J., McTiernan, Fullagar and Kitto JJ. observed (at ATD 309; CLR 434), when applying the well known passage from the judgment of Dixon C.J. in [The Sun Newspapers Case]
Associated Newspapers Ltd v FC of T; Sun Newspapers Ltd v FC of T (1938) 5 ATD 87 at 95; (1938) 61 CLR 337 at 362: ``Recurrence is not a test, it is no more than a consideration the weight of which depends on the nature of the expenditure''.

Dixon C.J. observed in
FC of T v Snowden & Willson Pty Limited (1958) 11 ATD 463 at 465; (1958) 99 CLR 431

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at 437, with respect to costs incurred by a taxpayer expending money on advertising to counter the effect of press reports concerning the allegations about it relating to its integrity in respect of which a Royal Commission had been appointed, the relevant costs being those incurred in appearing before the Commission:

``The proceedings were not necessarily directed at a winding-up of the company or a stoppage of the business. Precise definition or distinctions are difficult in such an affair. But what the company had most to fear was the embarrassments in the present and future conduct of its business and, no doubt, a decline in its custom.

There is no satisfactory ground for saying that the expenditure was an affair of capital.''

The following passage from the judgment of Deane and Fisher JJ. in
Magna Alloys & Research Pty Ltd v FC of T 80 ATC 4542 at 4562; (1980) 33 ALR 213 at 239 is apt in the present case:

``The occasion of the outgoings arose from the taxpayer's commercial activities in the course of carrying on its business. The outgoings were capable of serving the business ends of that business and were seen by those responsible for incurring them as desirable and appropriate in the pursuit of those ends.

... The outgoings did not involve the acquisition of any enduring or tangible asset. They represented expenditure incurred in carrying on the taxpayer's business which should properly be seen as being of a revenue character.''

Reference was made in argument to
Hallstroms Pty Ltd v FC of T (1946) 8 ATD 190; (1946) 72 CLR 634. Although that case concerned the question whether certain outgoings were of a capital nature or not under s. 51(1) it is a different case from the present. Certain of the principles expressed by members of the High Court are, however, of relevance to this case. Latham C.J. said (at ATD 191; CLR 641):

``Nor can it be said that the company, by making the expenditure, gained `an enduring advantage'. It gained nothing - it merely succeeded in maintaining an existing position. The prevention or avoidance of a loss is not a gain of anything. The prevention of subtraction is not the same thing as addition.''

A company which manufactures and supplies tobacco products these days is under fire. Community attitudes towards smoking have changed considerably in recent times. Pressures are exerted upon legislatures, both Federal and State, to prohibit or reduce the sale and consumption of tobacco products. On the other hand, the market for the consumption of tobacco products is large. Pressure groups are at work. As legislatures react to public and scientific opinion there are repercussions on the businesses of the tobacco producers and suppliers. But this is today an ongoing part of the setting in which those companies carry on business. Expenditure of the kind with which this case is concerned is on revenue account. The capital of Rothmans' business was in no way increased by the expenditures in question. The expenditure arose from Rothmans' commercial activities in the course of carrying on its business. It was incidental to the carrying on of Rothmans' business. There is a clear relation between the expenditure and the carrying on of that business. It was incurred in carrying on its business and was not of a capital nature. If legislation is proposed that will, if enacted, totally ban the sale of tobacco products in the future, Ward's Case would have something to say about the deductibility of expenditure incurred by tobacco companies in influencing public opinion against the passage of the legislation. But that is for another day and another case.

I agree with the conclusion of the Tribunal that the monies paid by Rothmans are deductible under s. 51(1) of the Act. The decision of the Tribunal must be confirmed and the appeal from its decision dismissed with costs.


1. The appeal be dismissed.

2. The decision of the Administrative Appeals Tribunal, Taxation Appeals Division, made on 29 August 1991 whereby the Tribunal decided to set aside the objection decision under review and remit the matter to the Commissioner of Taxation with the direction that Rothmans of Pall Mall (Australia) Limited

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is entitled to a deduction of $449,406 for the year ended 30 June 1988 under s. 51(1) of the Income Tax Assessment Act, be confirmed.

3. The appellant pay the costs of the respondent of the appeal to this Court.

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