JB CHANDLER INVESTMENT CO LIMITED & ANOR v FC of T

Members:
P Gerber DP

Tribunal:
Administrative Appeals Tribunal

Decision date: 22 January 1993

Dr P Gerber (Deputy President)

In July 1987, Billy Guyatts Ltd (``Guyatts'') acquired 100% of the shares in Chandlers (Australia) Ltd and all its subsidiaries (henceforth referred to as ``the Group''). The Group is a major discount retailing chain. Guyatts' acquisition did not, however, affect the nature of the operations or corporate structure of the Group, save that on 30 September 1987 Guyatts effectively agreed to sell the businesses of JB Chandler Investment Co Ltd and Chandlers Rental Pty Ltd (the two taxpayers) which were the main financiers within the Group, providing finance from various banks and financial institutions to the retailers in the Group. Further, the taxpayers provided credit facilities to the customers of the retailers in the Group in the form of credit sales via loans, hire purchase, continuing credit, 30 day trading accounts, lay-bys, associated rights etc. However, the Tribunal was informed that by the time of the Guyatts takeover, the main part of the business of JB Chandler - and to a lesser extent Chandlers Rentals - viz the provision of finance to customers of the various retail entities in the chain, had decreased substantially.

2. In strict chronological order, the events leading up to the sale of what was referred to as the ``receivables'' can be said to have commenced with exh 1, the written offer by HFC Financial Services Pty Ltd (``HFC''), the ultimate purchaser of the business of the two companies, dated 28 August 1987.

"Dear Sir,

Further to our discussion, here is our formal offer for the purchase of the receivables of the Chandlers Finance portfolio as follows:-

1. 100 cents in the dollar (nett) of the receivables less the 90 day delinquency as discussed.

2. A premium of $500,000.

3. Proposed date of take up September 15, 1987.

4. We would employ applicable Chandlers Finance staff on conditions discussed.

5. Ongoing business would be in accordance with our offer to the Billy Guyatts Group, including 7% of amount financed on our revolving product plus the other benefits in that offer. If you wished, we could discuss with you a closed-end.

As we discussed, we have priced this on the basis of ongoing business and therefore we would want an exclusive relationship for a period of 3 years.

While we believe this meets your requirements, we are always prepared to discuss further details and will meet with you to document final arrangements.

Yours sincerely

  (sgd) PI Ezzy
  Divisional General Manager"
  ---------------------------

(The applicants' attempts to find Mr Ezzy to give evidence at the hearing were unsuccessful.)

3. After protracted negotiations with various prospective purchasers, the two taxpayer companies (together with Chandlers Pty Ltd, a company currently not before the Tribunal) entered into an agreement with HFC. The recital states:-

``WHEREAS:

A. Each of J.B. Chandler Investment Company Limited, Chandlers Pty. Ltd. and Chandlers Rental Pty. Ltd. wishes to sell its respective interest in the Hire Purchase Agreements, the Continuing Credit Contracts, the Loan Agreements, the Equipment and the Associated Rights defined below.

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B. The Company (defined as `each of the companies referred to in recital A') is or will be the owner of Equipment herein defined.

C. The Company has lent or will lend certain moneys under the Continuing Credit Contracts and the Loan Agreements to certain Borrowers.

D. The Company is or may in the future be desirous of borrowing from the Offeree the Advances (as herein defined) subject to the terms and conditions set forth herein.

E. The Company is desirous of selling to the Offeree (HFC) all the right, title, claim, demand and interest of the Company in and to the Hire Purchase Agreements, the Continuing Credit Contracts, the Loan Agreements, the Equipment and the Associated Rights as herein defined.

F. The Company warrants as far as it is aware that none of the Equipment is a fixture.''

4. Paragraph 2, headed OFFER TO BORROW provides-

"2.1 The Company hereby offers to borrow from the Offeree:

(i) Forthwith upon the Offeree accepting this Offer the Initial Advance computed as follows:

$Initial Advance = $A + $B

Where $A = the balance expressed in dollars outstanding under the existing Hire Purchase Agreements and the existing Loan Agreements as at the close of business on the 29th day of September, 1987 less a rebate (calculated in accordance with the rule of 78) in respect of each of the said Hire Purchase Agreements and Loan Agreements; and

Where $B = $2,500,000.00;

(ii) on the 6th day of October, 1987 the Further Advance computed as follows:-

$Further Advance = $C - $2.5m

Where $C = the principal amount outstanding under the Continuing Credit Contracts as at the close of business on the 30th day of September, 1987.

Should $C be less than $2.5M then the Offeree shall have the right to require the Company to forthwith repay any relevant difference.

(iii) on the 30th day of September, 1987 for any new Hire Purchase Agreements and any new Loan Agreements and on the 1st day of October, 1987 for any new Continuing Credit Contracts and on each successive Business Day thereafter up to and inclusive of the 15th day of June, 1988, a Future Advance computed as follows:-

$Future Advance = $D + $E

Where $D = the balance outstanding under any new Hire Purchase Agreements and any new Loan Agreements as offered by the Company to the Offeree on that day; and

Where $E = the principal amount outstanding under all new Continuing Credit Contracts as offered by the Company to the Offeree on that day less an adjustment being 2% of that principal amount.

2.2 Should the Offeree accept this Offer, then the Company covenants to repay to the Offeree the Advances (in amounts and at the times the Company actually received repayments on account of principal from Borrowers and/or Hirers) and shall pay interest on the Advances equal to the sums from time to time actually received by the Company on account of interest (including any default interest) in relation to the Portfolio and being presently due and payable from and after the date of receipt by the Company.

2.3 The Company covenants to account to the Offeree for such principal and interest on the next succeeding Business Day following the day the Company actually receives same.

3. OFFERS TO SELL

3.1 The Company hereby offers to sell to the Offeree all the right, title, claim, demand and interest of the Company as beneficial owner in and to the Hire Purchase Agreements, the Continuing Credit Contracts, the Loan Agreements, the Equipment and the Associated Rights for a

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consideration determined in accordance with the following formula:-

$F = $G + $H

Where $F = the purchase price payable by the Offeree to the Company as aforesaid should this Offer be accepted by the Offeree;

Where $G = the balance expressed in dollars outstanding under the Hire Purchase Agreements and the Loan Agreements as at the close of business on the 15th day of June, 1988 less a rebate (calculated in accordance with the rule of 78) in respect of each of the said Hire Purchase Agreements and the said Loan Agreements; and

Where $H = the principal amount outstanding under the Continuing Credit Contracts as at the close of business on the 15th day of June, 1988.

3.2 Should the Offeree accept this Offer, then the Offeree shall pay the Purchase Price to the Company on the 16th day of June, 1988.

3.3 Contemporaneously with the payment by the Offeree to the Company of the Purchase Price, the Company shall repay to the Offeree the balance outstanding of the Advance which balance shall not be greater than the amount payable under Clause 3.2 hereof.

3.4 The Company hereby offers to sell to the Offeree on and from the 16th day of June, 1988 and on each successive Business Day thereafter all the right, title, claim, demand and interest of the Company as beneficial owner in and to all new Continuing Credit Contracts entered into by the Company with the prior approval of the Offeree on or after the 16th day of June, 1988 for a consideration equal to the principal amount (as evidenced by the relevant sales voucher used by the Company to effect the debit to the Borrower's account such principal amount being determined after taking into account the aggregate value of sales vouchers offered on that day by the Company to the Offeree less the aggregate value of credit notes also offered by the Company to the Offeree on that day) less 2% of that principal amount.

3.5 Should the Offeree accept any one or more of the offers referred to in Clause 3.4 hereof, then the Offeree shall pay such consideration to the Company on the next succeeding Business Day after the day upon which any such offer shall be made by the Company to the Offeree.

3.6 The Company covenants that from and after the 1st day of October, 1987 it shall not issue or re-issue any further Continuing Credit Contract account cards for customers."

5. Paragraph 19 of the Agreement (carefully constructed by Mr Jeff Mann, a renowned tax lawyer who was at all times mindful of the potential fiscal consequences of the arrangement) is headed PREMIUMS, and provides as follows:-

``19.1 The Offeree shall pay to the Company the Premiums for entering into this Agreement and for procuring each of John Martin Pty Limited, Chandlers Appliance Stores Pty Ltd, Chandlers Appliance Stores (Northern) Pty Ltd, Chandler Piesse Pty Ltd and Chandler Derrick Pty Ltd (each of which is associated with the company within the Chandler Group) to enter into a certain Merchant Agreement of even date herewith with the Offeree, which Agreements will hereinafter enable the Offeree to provide credit facilities or other facilities to persons (whether or not presently Hirers and Borrowers) wishing to purchase the goods and merchandise offered for sale by the Company or other associated companies within the Chandler Group.

19.2 The Premiums payable to the Company contemporaneously with the acceptance of this Offer shall be:

JB Chandler Investment Co Ltd - $400,000

Chandlers Rental Pty Ltd - $100,000

19.3 Should the Merchant Agreement be terminated at any time prior to the 30th day of September, 1990, then the Company shall effect a pro rata refund of the sum of TWO HUNDRED THOUSAND DOLLARS ($200,000.00) of the Premium for that period from the date of termination to the 30th day of September 1990.''

6. In summary, in addition to premiums of $400,000 and $100,000 respectively, the

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balance of the consideration received by the applicants was the sum of-

a. the balance expressed in dollars outstanding under the Hire Purchase Agreements and the Loan Agreements as at the close of business on 15 June 1988 less a rebate (calculated using the rule of 78) in respect of each of the Hire Purchase Agreement and the Loan Agreements;
b. the principal amount outstanding under the Continuing Contracts as at the close of business on 15 June 1988, and
c. a premium of $400,000 and $100,000 respectively, the payment of the premiums being based on the hire purchase balance of the taxpayers and the other financiers.

7. The Merchant Agreement called upon the retail members of the Group to recommend and promote HFC as the first preference finance source and to act as agent for the purpose of providing to the potential credit customers documentation and publicity brochures for HFC's products. Under the Merchant Agreement, HFC was, inter alia-

a. required to pay commission of seven percent (7%) of the goods financed. It had been ascertained that the commission rate had been adjusted several times on an ad hoc basis during the term of the Merchant Agreement, and
b. entitled to compensation if the Merchant Agreement was terminated prior to 30 September 1990.

8. The original term of the Merchant Agreement was for a period of three years, commencing from 30 September 1987, and, whilst there were no provisions in the Offer for a renegotiation of the Merchant Agreement, there were no prohibitions on the renegotiation for a new Merchant Agreement. This agreement provides, inter alia, that ``should any of our customers wish to purchase any of our goods and merchandise using a new source of finance, we will recommend and promote HFC as our first preference finance source''. In essence, HFC received an existing customer base, and by operation of the Merchant Agreement, obtained an ongoing association with the retailers in the Chandler Group.

9. In the 1988 tax return of each of the two taxpayers, both requested a section 169A ruling with respect to the premiums received. The taxpayers asserted that the premiums were not assessable:

``as they represent consideration for the disposal of goodwill (an `asset' owned by the companies concerned, though not shown separately on their balance sheets), such goodwill having been `acquired' by the companies at the time when the relevant financing businesses were founded.

As the businesses concerned were established before 19 September 1985, the asset `goodwill' being disposed of would be regarded as having been acquired before that date and as such any consideration received would have no tax implications. (Refer Taxation Ruling IT 2328).

However, for capital gains tax purposes, the change in the companies majority underlying ownership (consequent upon Billy Guyatts Ltd's acquisition of 100% of the issued capital) in mid-July 1987, will trigger the operation of Section 160ZZS. As a result, all the assets acquired by the companies before 20 September 1985 are deemed to have been acquired on the same date as the change in ownership i.e. July 1987, for their market value at that date.

In the absence of a formal valuation of the asset `goodwill' in July 1987, the taxpayers submit that the $500,000 consideration received on its disposal in September 1987 equates consideration received on its disposal in September 1987. Therefore, no assessable capital gain would arise on disposal.''

10. The Commissioner rejected the assertion of ``goodwill'' and assessed the premiums of $400,000 and $100,000 as a capital gain. In his Notice of Decision on Objection, dated 13 September 1991, the Commissioner asserted:

``It is not accepted that the premium represented goodwill of the finance portfolio as goodwill is the attractive force which brings in custom and therefore cannot have an independent existence. It cannot subsist by itself and must be attached to a business.

It is considered that a proper construction of clause 19 of the contract of sale of 30 September 1987 is that the premium received under the contract was part of the monetary consideration payable for your agreement to perform the entire contract.

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The decision in
Westfield Ltd v FC of T 91 ATC 4234 affirmed recently by the High Court can be distinguished. The business activity of Westfield did not involve the reselling of land at all, other than on a sale and lease back financing basis. On the other hand your business activity involved the arrangement of finance facilities. Before the arrangement with HFC Financial Services (HFC), you used several sources to arrange the finance facilities, after the arrangement HFC became the sole source. The premium was received in the ordinary course of your business activity.

Alternatively, it is considered that sub- sections 160M(6), 160M(7) and Division 5 of Part IIIA are applicable. The application of sub-section 160M(6) is confined to situations where proprietary rights are created out of or over existing assets where the assets affected by the rights created continues to exist. Under the contract of sale, you have vested part of the right of enjoyment and all the right of administration of the finance portfolio to HFC Financial Services. Sub-section 160M(7) applies because the contract of sale of 30 September 1987 took place in relation to the asset, the provision of credit facilities to credit customers and you received a consideration which included a premium by reason of the execution of that contract. Division 5 Part IIIA and in particular sub-section 160ZZS(1) is applicable as property in the sense of proprietary rights may exist in intangible things and the contract of sale may be viewed inter alia as a lease over potential credit customers for a term of three (3) years.''

(The assessor appeared to have taken the view that the amounts were paid in anticipation of the satisfaction of a future event, and that goodwill, ``has no independent existence'', noting that (i) the term ``goodwill'' was not used in the offer, (ii) there was no formal valuation of goodwill of the finance portfolio in the various balance sheets, and (iii) Billy Guyatts Ltd did not value the goodwill of the Chandler Group at acquisition.)

11. In their respective objections, the taxpayers reiterated

(a) that the premiums represented payment for the goodwill attached to the finance portfolio and that, even though no valuation of goodwill was effected in July 1987, goodwill was acquired under sec 160ZZS at market value because the transaction between HFC and the applicant was at arm's length and also because there were no material changes in the operation of the Chandler Group or any material increase in activity between the months of July 1987 and September 1987;
(b) the premiums are not assessable under sec 25 because -
- (i) the taxpayers were not in the business of trading in finance portfolio, and the finance portfolio was not established for the purpose of resale;
- (ii) the premium was not a procurement fee for the taxpayers to procure the retailers in the Chandler Group to enter into a Merchant Agreement with HFC. The execution of the Merchant Agreement between the retailer and HFC was a formality to allow HFC to access the credit customers of the Chandler Group.

12. The issue in these two cases (which were heard together by consent) thus involves the assessability of the two premiums of $400,000 and $100,000 paid by HFC to the two taxpayers respectively as (i) part of a consideration for the two taxpayers entering into the above offer to sell their equipment and hire purchase and continuing credit receivables to HFC and (ii) the taxpayers' offer to borrow from HFC what is referred to in the agreement as ``Initial Advance'', ``Further Advance'' and ``Future Advance'' as provided for by a formula in the agreement.

13. In historic context, the Chandler Group of companies was established before 19 September 1985, i.e. before the date sec 160ZZS of the Income Tax Assessment Act (``the Act'') came into effect. Section 160ZZS(1) provides:-

``For the purposes of the application of this Part in relation to a taxpayer, an asset acquired by the taxpayer on or before 19 September 1985 shall be deemed to have been acquired by the taxpayer after that date unless the Commissioner is satisfied, or considers it reasonable to assume, that, at all times after that date when the asset was held by the taxpayer, majority underlying interests in the asset were held by natural

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persons who, immediately before 20 September 1985, held majority underlying interests in the asset.''

14. The effect of sec 160ZZS is that all assets acquired by the Chandler Group are deemed to have been acquired on the same date as the change in ownership, i.e. July 1987. Thus, the applicants assert that the effect of the sale to Guyatts was to vest the whole of their goodwill in the purchaser. This goodwill is said to include the latter becoming the first preference finance source for the Chandler retailers' customers by virtue of the Merchant Agreement. (Prior to the sale to Guyatts, the retail arm of the group was in the habit of informing customers who required finance that there was in-house finance available via the two taxpayer companies, each of which provided credit documentation, hire purchase agreements, continuing credit contracts and loan agreements.)

15. One DW Wells, the accountant both for Chandlers (Australia) Ltd and each of its subsidiaries at the relevant time, deposed on affidavit that the Chandler Group ``had a retail business worth approximately $180m at the time of the sale to HFC, and a considerable percentage of those sales were on credit. As a result of selling the finance portfolios to HFC, HFC acquired a valuable existing customer base.... The rights were valuable because they offered instantaneous access to the Chandler customer base''. The deponent went on to state:

``It is my understanding that Billy Guyatts Limited did value goodwill (one of the intangible assets) of the Chandler Group in their 1987 accounts. The fact that goodwill was not recorded in the accounts of the taxpayers was attributable to the fact that one does not usually record internally generated goodwill in the accounts of a business under generally accepted accounting principles.''

16. In an affidavit sworn by one RG Turner, who was the general manager of Chandlers (Australia) Ltd at the time of the sale, the deponent stated (para 38, tendered without objection to the inclusion of statements relating to HFC's intention):-

``... The Offer Agreement did not mention that the premium was paid for goodwill because of the heavy discussions which took place between the Chandler finance companies and HFC. The term `goodwill' was not allowed to be used as HFC wanted to create a situation where they could at least have a claim for a deduction for the payment of the premium. There was much discussion on the wording of the clause as it was hard to get an agreement which would not compromise the whole deal. In the end, clause 19 was settled in terms which was intended by the taxpayers to show that the payment was for the goodwill of the finance portfolios of the taxpayers (and CPL) without making an express reference to the word `goodwill' to allow HFC to have a claim for deductibility of the premium.''

17. One WF Reed, who was a director of Guyatts at the time of the sale, deposed on affidavit that:

``... the value of the credit portfolios which were acquired by HFC from the taxpayers (and CPL) was around $12,000,000.00 in September 1987. The Chandler Group tried to obtain a premium of around $1,000,000.00 but eventually settled for $500,000.00 as money was immediately required for the Billy Guyatts Group.... The customer book was valuable because it gave HFC access to several hundred thousand names of credit customers of the Chandler retailers.... The Offer Agreement did not mention goodwill because that was a matter of contractual negotiations with HFC. The transaction would not have been able to proceed if the taxpayers (and CPL) did not relent in removing the term `goodwill' from the relevant clause.''

18. An affidavit sworn by Mr Jeffrey Mann was tendered, which was supplemented by his oral evidence. The thrust of the affidavit is to effect that in conversations with the deponent and Mr Turner, the latter stressed that in characterising the premium, regard needed to be paid to:

``(a) that the hire purchase portfolios of the applicants had been part of the total business of the Chandler Group for many years;

(b) that all operating functions had been developed and controlled from within the Chandler Group. Those functions included computer networking, computer procedures, credit control and collecting procedures; and

(c) that a `goodwill' factor was being sold since the taxpayers (and CPL) were disposing of their finance businesses and not

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just selling an asset, being hire purchase and credit ledgers.''

The affidavit went on to state:

``11. After the offer made by HFC for the finance portfolios of the taxpayers and CPL was accepted, the characterisation of the $500,000.00 premium to be paid on settlement then became the subject of further considerable discussion between the taxpayers, CPL and HFC. The vendors were of the view that the payment of the $500,000.00 premium was for the goodwill of their finance businesses meaning the custom and profitability of the businesses which was being transferred to HFC and also the access which HFC would get to the existing and future clients of the Chandler retail companies. HFC were of the view that the payment was a premium of a revenue character.

...

13. The goodwill of the Chandlers' finance companies was purchased by HFC when they acquired the credit portfolios of the taxpayers. The goodwill which was sold by the taxpayers and CPL was the goodwill of their respective businesses being the advantage that HFC derived from the existing customer bases of the Chandler retail companies together with a right of ongoing referrals from the retailers because of the operation of the Merchant Agreement made between the retailers and HFC (Document C8).

...

18. There was considerable discussion between both the vendors and HFC over the construction of clause 19 of the Offer Agreement. Clause 19 dealt with the payment of the premiums to the applicants for the sale of their finance portfolios. The premium was apportioned between the taxpayers on the basis of hire purchase balances. I had discussed this matter with both Messrs Ray Turner and Ray Fischer who stated that the value of goodwill resided in the hire purchase contracts rather than the loan agreements and continuing credit contracts because most of the value of the credit business of the Chandlers' finance companies was based on those hire purchase contracts.

19. The taxpayers wished to stipulate in clause 19.1 that the premiums were paid for the goodwill of the Chandlers' finance companies' portfolios which were being sold to HFC. HFC resisted the drafting of the clause to state that the premiums were paid for the goodwill of the finance portfolios of the Chandlers' finance companies.

20. To allow the sale to HFC to proceed, it was agreed to delete any reference to the statement that the premium was paid for goodwill. I was then asked to draft clause 19.1 to show what the premiums were in fact paid for goodwill without making any express reference to the goodwill of the taxpayers' portfolios. This is evident from a typed diary note of my conversation with Mr Maurie Maughan of 28 September 1987 (Document l4).

...

24. The discussions that I had with Messrs Ray Turner, Maurie Maughan and Phil Ezzy of HFC are also referred to in my letter of 23 November 1987 to Mr Ray Turner (Document E6). This shows that the vendors had always regarded what was being sold to HFC for $500,000.00 as goodwill and that in discussions with Mr Ezzy closer to completion of the agreements, HFC resisted from describing the premium as a payment for goodwill. Further, Document E6 describes that the insistence of the vendors of the payment of $500,000.00 being for goodwill was not continued simply as a compromise with Mr Phil Ezzy of HFC to complete the sale transaction.''

19. Mr Ray Fischer, who was the Company Secretary and the Financial Controller of the Group in 1987, was called to affirm the contents of his affidavit and to explain in greater detail the various methods of finance engaged in by the two taxpayer companies prior to their sale to Guyatts. Thus, the witness explained that the term ``continuing credit customers'' referred to a species of customer who acquired goods either with payment delayed for 30 days, or else by paying 25% of the purchase price every month. That finance facility provided no income to the taxpayers. On the other hand, clients acquiring goods on hire purchase would make a down payment of 10% of the sale price and would then be

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charged interest at the rate ``of something like 25 to 30% depending on the duration of the contract. The contracts were written for a period normally from six months to five years, depending on the type of goods and the amount of credit that was granted for this particular purpose''. The witness stated that the taxpayers maintained a computer list of those customers who resorted to hire purchase finance. He added that this list ``had a great deal of value'' since the taxpayers used the list from time to time to send out direct mail letters, offering special deals ``and all sorts of things, the normal type of advertising''. When asked whether such mailing lists could be bought, he replied: ``I do know that they can, and requests were made to buy our mailing lists from time to time.''

20. Document A16 is a letter from HFC to Chandlers dated 1 October 1987.

  ``Mr Mo Salouk
  Chandlers (Aust) Ltd
  555 Kessels Road
  MACGREGOR QLD 4109

Dear Mo

Further to our discussions earlier in the week regarding marketing the Chandlers Finance base, could you please advise if you have the capabilities to do the following:

• Accounts that have never been to the stage of final notice.
• Accounts by store.
• Finalised accounts that have never had final notices.
• Finalised accounts by store.
• Former borrowers by store.

Can this information be supplied by tape with enough information for a mailing label, ie, name, street address, suburb, postcode and the Chandlers' account number.

As we are committed to reduce this ledger as soon as possible I would also appreciate any other suggestions you may have on how we can market this base to get them to go to our branch network to take out loans to pay out the Chandlers' account.

Yours faithfully

  P.I. Ezzy,
DIVISION GENERAL MANAGER"
-------------------------

21. It was put to Mr Fischer by Mr McGill, counsel for the respondent, that the arrangement was such that

``customers who were beyond a certain date were not to be included? - That's right.

And it was also of relevance to HFC to know who the customers were, because it was understood that after 1 October (1987), the customers would be encouraged to refinance through the new Chandlers card? - Yes.

And indeed, this was part of the mechanism by which the value of the credit portfolio was reduced between September 1987 and June 1988? - Yes.

In Document A16, looking at the last paragraph, that is a reference to the credit portfolio that was purchased from Chandlers? - Yes.

And the commitment to produce the ledger was in order to reduce the value of the remaining transactions which were actually going to be bought and sold in June 1988? - Yes.

The form of the offer involving money being, as it is expressed, linked from HFC to Chandlers, the practical effect of that form was that Chandlers got the full money that would have been payable if the credit portfolio described in the agreement had been sold there and then on 30 September. But in fact, the credit portfolio was then run down in value between that date and the date in June, when the transaction was finalised, so that the transactions which were actually bought and sold were of much less value? - Yes.

But no more moneys changed hands in June 1988? - No.''

22. Mr Turner (referred to in para 16 above), one of the leading participants in the negotiations between Guyatts and HFC which resulted in the sale of the ``receivables'', was called and much cross-examination was directed to this witness over the use of the term ``up front''. Thus, in a memo to one Reed, dated 28 August 1987, the witness stated: ``... HFC have come back this morning with a revised offer of $500,000 up front (It was $250,000 last night) on the basis that they are guaranteed maximum support for 3 years''. The witness readily conceded that the term ``up front'' was his. He also agreed that the same document, (in which he examines the various options open to Chandlers, i.e. option 1 ``KEEP

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BUSINESS IN HOUSE'', option 2 ``GO HFC'' and option 3 ``GO AVCO'' contains the phrase ``front end payment of $500,000'' when examining option 2. It may be useful to set out how the witness viewed the HFC option:

``OPTION 2 : GO HFC

The HFC offer covers not only the current H.P. contracts but also the extended credit (account card) customers of approximately $3m at 30th June 1987.

The HFC offer is:

1. Acquire net receivables at date of take over (less delinquent accounts and rights to recovery of accounts previously written off).

2. Make a front end payment of $500,000 on signing of contract.

3. Take over extended account balances at face value (there is a goodwill amount included here because HFC will earn no income on these balances unless they go beyond 30 days).

4. Have an advertising launch to introduce the Chandler Card (which includes both terms and extended credit customers).

5. Pay commission at rate of 7% on face value of transactions using the credit card (except for 6. below).

6. Charge a discount factor of 2% on cards supplied to extended credit customers.

7. Effective date for transfer 15th September 1987.

8. Link existing computer network to HFC branch for data transfer.

9. Offer immediate employment to all personnel currently employed in credit section of business.''

23. Mr Turner was shown a letter he sent to Mr Mann dated 4 September 1987, dealing with the sale of the taxpayer companies.

  "4 September 1987
  Mr J Mann
  Chambers McNab Tully & Wilson
  G.P.O. Box 320
  BRISBANE Q. 4001
  ----------------
  Dear Jeff,
  Re: Sale of Finance Ledger
  --------------------------

During our preliminary discussions on the Chandler operations I mentioned to you that our plans for the future involved a group restructure that separated retail activity from the various non-retail activities.

One part of this restructure is the transfer of the customer finance segment of our business to a third party company; we are presently negotiating with Avco and HFC. Irrespective of the final outcome, the form of the transaction will be almost the same with either party.

The sale would include:

(1) Transfer of the portfolio at its book value, net of any unearned income.
(2) Payment of premium at acquisition date.
(3) Generation of ongoing business through retail stores using the finance company to service customer accounts.

In the second part of the agreement (payment of a premium) we have to consider carefully the way in which the `premium' should be structured and paid to address the following questions-

(a) Does the premium constitute a revenue amount or a capital gain?
(b) If it is a capital gain, is it (or can it be) recognised in such a way that no capital gains tax would be assessed on it?

Would you please give consideration to each of the above questions and advise us as to your opinion on this matter.

To assist you in your deliberations we offer the following points:

1. The HP portfolio has been part of the Chandler business for many years.
2. All operating functions have been developed and controlled from within the company. These include computer networking, computer operating procedures, credit control and collection practices.
3. We are selling more than an asset (H.P. Ledger), there has been a business developed and the premium payment recognises this `goodwill' factor.
4. The payment from the finance company will be a total sum covering both net receivable and premium - they will therefore treat the total amount as a

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cost of receivables and therefore treat the premium as a tax deductible amount.

This position eliminated some opportunities to us. For example

- could we have sold subsidiary company shares rather than the underlying assets.
- could we have sold any licences to operate as money lender which have been issued to those subsidiary companies.

5. The finance company will make an offer of employment to each person currently working in the finance sections of our operations.

It is proposed that the sale of the division will occur in approximately 14 days and so there is a need for this matter to be addressed promptly, particularly so if we need to refer any charges back to the intended purchaser.

Your early advice would therefore be appreciated.

  Yours faithfully,
  R.G. TURNER
  GENERAL MANAGER"

24. If one thing emerges clearly from this letter, it is that Mr Turner was keenly alive at this time that the sale to HFC could have tax implications. It was put to him that he sought legal advice ``with a view to structuring the transaction, if possible, so that the premium was treated as a capital payment rather than a revenue payment?'' to which the witness replied:

``We had no thoughts in our mind that it was going to be treated as a revenue payment, but the words that could be used were important and that was the reason for that request on the solicitor.

Mr McGill: The solicitor was asked to address the context of how the transaction should be structured. Whether the premium would constitute a revenue amount or a capital gain, and the purpose of that was to seek advice on structuring the transaction so that it would constitute a capital gain, rather than a revenue amount, was it not? - I really don't know how to answer that question because I feel as though you are putting words into my mouth.''

25. The cross-examination continued along the following lines:

``Mr McGill: Now, you refer to the foot of that page, you say you were, `Selling more than an asset, i.e. HP Ledger'. HP ledger refers to the balance outstanding on the hire purchase transactions, does it not? - Yes.

And you say then, `There has been a business developed'. That's the business of the Chandlers finance companies, is it? - Yes.

And, `A premium payment recognises this goodwill factor', you say? - Yes.

That is the goodwill of the business of the applicant companies that you are talking about there? - That's correct, yes.

And over the page, you say that, `The payment will be a total sum covering both net receivables and premium'? - Yes.

And that was what you had been told by the HFC people during the negotiations, was it? That was how they would make the payment? How they would record it I imagine would have been discussed during negotiations, yes.

Yes. Obviously the arrangement with HFC recorded the amount of the premiums, the separate amount payable as part of the total package? - What HFC did was their business.

What they did in their books -? - It had nothing to do with what we were doing.

What they did in their books was their business right? But I am just saying is that the source of that information in paragraph 4 was what you had been told by the HFC people, was it? - I would have imagined so, yes.''

26. The witness was then shown a letter from Mr Mann, dated 23 November 1987, addressed to him. I propose to set this letter out in full:

  "R.G. Turner, Esq.,
  General Manager,
  Chandlers Pty. Ltd.,
  G.P.O. Box 1399
  BRISBANE. QLD. 4001
  -------------------
  Dear Ray,

Re: HFC

ATC 2019

I refer to our recent telephone conversation and in particular to your original letter of 4th September, 1987.

You will no doubt recall our many discussions with Phil Ezzy of HFC and Maurie Maughan of Touche Ross. The essence of those discussions was to correctly categorise what the payment represented. The thrust from us of course was that it was correctly categorised as `goodwill', as raised in your letter of 4th September. The letter of 14th September, 1987 from Phil Ezzy refers to `a $500,000.00 premium'. Subsequent discussions which we had with him saw him trying to shy away from describing that payment as a payment for goodwill.

The final clause which, you will recall, was agreed upon as a compromise in the efforts of everybody to try and get the best position reads: - [There follows paragraph 19 which has already been set out in paragraph 3 above.]

In my telephone conversation with Maurie Maughan on the 28th September, in which I read to him the terms of the draft, he was of the view that what we had all done was a `first class job of describing goodwill without actually mentioning it'. You will recall that we wanted to actually describe the money, not as a premium, but as goodwill but was not insisted upon at the last minute purely by way of a compromise with Phil Ezzy.

In the end, Maurie Maughan was of the view that he was reasonably confident that it would be accepted by the Commissioner as goodwill because Maurie could not see what it is other than goodwill. Maurie has indicated that he will be recommending to you to show the sum as goodwill but will be requesting the Commissioner to specifically consider the issue.

You will also recall my mentioning to you Income Tax Ruling IT 2328 to the effect that the date of acquisition of goodwill of a business which was founded by the taxpayer who is disposing of it is determined, for the purpose of capital gains tax, to be taken to be acquired at the time of the commencement of the business; and that this is so, irrespective of whether or not the goodwill was included in the formal accounts of the business before the date of disposal. In our discussions, you and Ray identified, as precisely as could be, the nature of the activities conducted by the vendors which constitutes the business, from which one is then able to argue that the premium is in fact a payment for goodwill, and that the goodwill was therefore acquired before the 20th September, 1985.

In the end, you will recall in our discussions with Phil Ezzy that the clause, which finally became Clause 19 of the offer document, would be drafted in such a way as to correctly record, in the context of the correspondence and discussions which had already passed and taken place, the description and reasons for the payment. It was agreed that the reason why the premium was being paid was to enable HFC to be in a position where it could receive the referrals from customers and to provide to them the financing arrangements previously provided by the Chandler Group. Clause 19 was therefore drafted in the way that it now appears. It was acknowledged that we could have tried to state specifically that it was for the acquisition of the goodwill attaching to the businesses but you will remember that it was agreed with Phil Ezzy that we wouldn't take that extra step so as to enable them at least to have an argument from their side as to the deductibility of those sums.

Please let me know if I can elaborate any further on the foregoing.

  Yours sincerely,
  J.G. MANN"
  ----------

27. The witness conceded that the letter was written on his instructions, adding:

``There was - there was certainly a lot of discussion at the - in the leading stages as to how the question of goodwill, or `premium' as it has been referred to here, would be referred to, and that was a - and that was a specific area that needed to - that needed to be addressed, and - and I - this letter, I would - would assume, would be the - would be formalising those things that had been discussed leading up to the point so we had something there on our file setting out exactly what was - what had been considered and the way which - which had been documented.''

The witness was then asked by Mr McGill:

``The need to address the formulation of clause 19, of course, was something which

ATC 2020
existed prior to 30 September, but then it went away. The need that was continuing was in relation to the question of how a payment would be treated for taxation purposes, wasn't it? - Would you repeat that again?

That insofar as your legal adviser was directed to formulating the documentation of the transaction, that task was completed by 30 September? - Yes.

At this stage, what remained for the future was the question of how the premium would be treated for the purposes of taxation, was not it? - The question of how the premium would be treated was something that was discussed on an - on an ongoing basis right through because there was disagreement between ourselves, Chandlers at the time, and HFC as to how - as to how - what - what words would actually be used, and I - as I recall, there was considerable discussion backwards and forwards between HFC, Chandlers, and Chandlers and the - the accountants at the time - Murray Maughan was the fellow who - who was looking after it - because we wanted to be very sure that the documentation made the position that Chandlers had in this matter very clear, and there was a conflict between Chandlers and HFC as to how this needed, or how both parties wanted the matter to be recorded, and discussion ensured [sic], and that particular aspect took some time to resolve. But primarily because we were both coming from different points, not because, from Chandler's point of view, they felt that there was - it was anything other than a - a value for goodwill for this business.

Yes, but the negotiations with HFC about that matter were all over by 30 September? - Is the - the agreement, is that signed at that stage?

The documentation, the formal documentation is dated 30 September, yes? - Right, yes.

You agree with that. So you were not still talking to HFC about it on 23 November? - No, well, that would be a letter formalising all of those things that had been discussed.

Well, would it be a fair summary of the disagreement between Chandlers and HFC, that Chandlers wanted the written document expressly to refer to the payment as being a payment for goodwill, and HFC would not agree to that course? - That is correct.

Now - and indeed that is summarised in the second paragraph of that letter? - That is right.

Would you turn over then to the third page, the second-last paragraph which commences with the words, `in the end,' if you just have a look at that first sentence, please? - Yes, I've read the first sentence.

All right. Now were you a party to those negotiations with Mr Ezzy? - I suspect that I was.

Well, do not you remember? - No. As - as I was involved in most of the negotiations I would assume that would be the case.

Yes. Well, when there were negotiations about the form of clause 19, were you doing the talking or was Mr Mann doing the talking? - It most probably would have been a matter discussed between legal parties.

All right. Well, you see I would suggest that the way that first sentence reads is to the effect that what was finally agreed between Chandlers and HFC was that clause 19 would be drafted so as to correctly record the actual transaction. In other words, the document was actually intended by the parties to mean what it said? - It was drafted in such a way as to satisfy the requirements of both parties.

Well, was it agreed in any oral negotiations with HFC that you were a party to that it would be drafted in such a way as to mean what it said, in effect? - I would say - yes.

And what about the next sentence, have you read that? - Hang on, no.

Well, have a look at that please? - Yes, I've read it.

All right. Now again, do you - does that accord with your recollection of what was orally agreed to between Chandlers and HFC in the course of those negotiations? - Yes, that is correct.''

28. The witness was then shown the objections, prepared by Messrs Arthur Andersen & Co, objecting, inter alia against the

ATC 2021

disallowance of the $400,000 and $100,000 respectively, stating:

``Section 25(1)

If it is the Commissioner's opinion that the $400,000 received does not represent consideration for the sale of an asset (being goodwill) which is subject to the provisions of Part IIIA of the Act (which we reject), we submit that the consideration is also not assessable under the provisions of Section 25(1) of the Act. The company is not in the business of trading in these types of assets and nor was the finance portfolio established for the purpose of sale at a profit.

Alternatively, the wording of Clause 19.1 may suggest that the amounts payable under this clause represent a procurement fee payable to Chandlers Rental and JB Chandler in exchange for their procuring various other companies in the Chandler Group to enter into Merchant Agreements - the purpose of such agreements being to ensure HFC of obtaining all credit provision contracts in relation to customers of the Chandlers Group.

However, we submit that this was not the true intention of the parties to the agreement. The intention, as supported by correspondence and discussions between the parties, was for HFC to pay the premium in order to be in a position where it could receive the referrals from Chandlers customers and to provide to them the financing arrangements previously provided by the Chandler Group. That is, it represented a payment to the vendors, in addition to consideration for the existing debt portfolio, for the transfer of the future right of access to a particular group of potential credit clients. The Merchant Agreements to be signed between the various Chandler Group companies and HFC was merely a formality to give effect to the transfer of the rights of access to that customer base to HFC. The premium did not relate to any services performed in relation to the physical act of arranging the Merchant Agreements but rather to the vendor companies surrendering their rights of access to those potential credit customers.''

29. When asked whether Arthur Andersen would have obtained that information from him, the witness replied:

``Questions would have been put to me as they would have been put to others. Whether they specifically got it from me and nobody else, I can't answer that.''

30. When it was put to the witness that none of the documents suggest that any part of the $100,000 and $400,000 was being paid for confidential information relating to customers buying on credit, and that that proposition first arose in the course of preparing the applications for hearing, the witness replied:

``No. That list was referred to in the minutes of that meeting signed by Rick Hayter, by Billy Guyatts Ltd. That was asked for with a view to looking to create within Billy Guyatts Ltd names for direct mailing. It wasn't - it was never specifically referred to in discussions between Chandlers and HFC.''

31. The witness was then shown document A16 (see para 19 above) and in particular the last paragraph:

``As we are committed to reduce this ledger as soon as possible, I would also appreciate any other suggestions you may have on how we can market this base to get them to go to our branch network to take out loans to pay out the Chandlers' account.''

32. It was put to Mr Turner that the commitment to reduce the ledger was part of the process of running down the value of the existing accounts prior to June 1988, which was one of the things that was to be done (semble) to minimising the incidence of stamp duty. He replied: ``Yes, that may well have been a consideration.''

33. The next witness to be called was Mr Mann (at the relevant time was a partner in the firm of Chambers McNab, Tully & Wilson, solicitors, and the draftsman of the two agreements). Mr Mann was referred to paragraph 24 of his affidavit:

``The discussions that I had with Messrs Ray Turner, Maurie Maughan and Phil Ezzy of HFC are also referred to in my letter of 23 November 1987 to Mr Ray Turner (Document E6). This shows that the vendors had always regarded what was being sold to HFC for $500,000.00 as goodwill and that in discussions with Mr Ezzy closer to completion of the agreements, HFC resisted from describing the premium as a payment for goodwill. Further, Document E6

ATC 2022
describes that the insistence of the vendors of the payment of $500,000.00 being for goodwill was not continued simply as a compromise with Mr Phil Ezzy of HFC to complete the sale transaction.''

Mr Logan, counsel for the applicants, in essence asked the witness only one question in evidence-in-chief, viz whether there was any resistance to the use of the term ``goodwill'', and, if so, which party did the resisting. Mr Mann replied that the resistance came from HFC.

34. Mr Mann was vigorously cross- examined. He was first shown the letter from Turner to him, dated 4 September 1987 (set out in para 22 above). The witness agreed that the letter constituted his instructions and that he was being asked to advise, inter alia, whether the premium constituted a revenue amount or a capital gain and, if the latter, ``is it (or can it be) recognised in such a way that no capital gains tax would be assessed on it?''

35. When asked whether the documentation was formulated with those considerations in mind, he replied that ``what we were endeavouring to do at all times was to try to characterise the nature of the receipt''. When pressed by Mr McGill that he attempted specifically to characterise the receipt as a capital gain which would not be subject to capital gains tax, Mr Mann replied:

``The discussions that we had always centred on what it was we were selling and trying to elucidate what is the nature of goodwill, and then try to work out that that is exactly what we were selling. We were trying to get to the bottom of the nature of goodwill, and to satisfy our minds that that is what we were selling.''

36. When dealing with HFC, Mr Mann recalled a conference attended by Mr Ezzy (HFC) ``with me saying to him: `We should be calling this goodwill because that's what it is' and he was smiling and resisting that... [T]he conversation of the negotiation was in my view very much indicative of him indicating to me that he thought it really was goodwill but was not prepared to say it was goodwill.'' However, when pressed on the point, Mr Mann was compelled to concede that Mr Ezzy would not be a party to the transaction if it were to be described as ``goodwill'' in the documentation.

37. Mr Mann was next referred to the letter he wrote to Mr Turner, dated 23 November 1987 (set out in para 26 above). He was asked why he wrote it. Since Mr Mann's evidence is of considerable significance, I propose to set much of it out verbatim:

``Because the transaction leading up to the settlement was extremely rushed, and I was unable at the time to make proper diary notes of the various discussions and conversations that we had. I was very concerned after the deal that people would forget the nature of what went on, and so that letter was written to record that very much as a matter of protecting any disputes between client and solicitor in the future. It was, in my view, an accurate reflection of what was said and done.

It was not an evidence-making letter, in other words? - No.

It was not that you were asked by Mr Turner to write a letter setting out those matters? - No.

What was the subject of the recent telephone conversation referred to in the letter? - Look, I can't recall. I really can't.

It must have had something to do with the letter or you would not refer to it in that letter, would you? - I agree. It could well have been me wanting to remind him of what went on.

There is nothing in that letter which records anything that occurred after 30 September except for the reference to the recent telephone conversation, is there? - No.

Now, on the third page of that letter, the sentence beginning, `In the end' - do you need to re-read that, or are you familiar with that sentence? - Right.

It may follow from what you said a moment ago, but is that, in effect, a statement which records what was agreed in the course of the negotiations with Mr Ezzy? - What it does is to record again the point that what we were selling was goodwill, that goodwill, if you can define goodwill, is essentially the advantage, I suppose, that one has to attract or have a relationship with customers, and it's to explain why that clause has been drafted the way it has.

ATC 2023

Well, if you can read all that into that sentence, you are doing better than I do. I suggest that what it means, what that sentence says, is that [it] was agreed that clause 19 be drafted so that it represented what was actually to take place between the parties - in other words, that clause 19 was intended to mean what it said? - No.

Clause 19 was not intended to mean what it said? - Clause 19 is concerned with form rather than substance.

Clause 19 means something on its face. What I am asking you is does it mean what it says or was it not intended to mean what it said? - It was intended to satisfy Mr Ezzy.

Well, no doubt any document which is intended to be part of a contract between two parties needs to be satisfactory to both parties, and what is recorded in that sentence of your letter is in substance that what was agreed was that clause 19 would mean what it said and that that was an understanding which was acceptable to both parties to the document, to the transaction? - No. Clause 19 is a way in which one can describe, and was intended to describe, a sale of goodwill but put in a form of words which would be acceptable to Mr Ezzy.

So you do not accept the proposition that clause 19 was intended simply to mean what it said? - Clause 19 has been drafted to be acceptable to the purchaser, but clause 19, the substance of it, is a reflection of the nature of goodwill that was sold.

Clause 19 as it is now drafted obviously was acceptable to both parties to the transaction; is that right? - It was acceptable to both parties, yes.

And was it agreed by both parties that clause 19 accurately reflected what it was that the premium was being paid for? - Well, clause 19, I again say, is there from the vendor's point of view to describe a sale of goodwill. It is there from the purchaser's point of view to be something else.

So that clause 19 was not intended to mean what it said? It was intended to perform one function in terms of the revenue requirements of the vendor and one function in terms of the revenue requirements of the purchaser, and neither had much to do with what it actually said? - Well, you can look at it that way, but, I mean, the point is that I drafted the clause. It was drafted in a way which would be acceptable to the purchaser to reflect the sale of goodwill.

Well, what about the second sentence there, the sentence beginning, `It was agreed' - does that record something which was agreed orally between the Chandlers people which may have included you, and Mr Ezzy or somebody else on behalf of HFC? Does that record something which was agreed? - That sentence was intended simply to reflect the fact that money was received for a sale of goodwill.

When it says, `It was agreed,' by whom was it agreed? - Perhaps the words, `It was agreed' are a bit loose, but I suppose you could say that it was the understanding between the parties.

A sort of tacit agreement? - Yes.

Well, between which parties? - Well, it would be between the vendor and the purchaser.

And HFC was in a position where it could receive the referral from customers because of the Merchant Agreement, was not it? - No, not by itself.

What else did it need? - Well, it needed the business.

No, the referrals from customers is a reference to the referrals from customers pursuant to the Merchant Agreement, isn't it? - No, that is not what I intended.

Well, where do the documents, other than in the Merchant Agreement, refer to referrals? - Well, the nature of goodwill is concerned with customer referrals. When you sell a business with goodwill, it's the goodwill element which is concerned with customers.

I accept that goodwill has something to do with customers. I do not know that it has anything to do with referrals. I suggest that sentence plainly and unambiguously is a reference to entering into the Merchant Agreement, and that was what HFC was paying for? - No.

The reason why HFC was going into this whole transaction was to get the benefit of that Merchant Agreement because that was

ATC 2024
where it had the opportunity to make profits, wasn't it? - No.

But as far as the existing portfolio was concerned, it was simply buying that for its nominal value, i.e. it was paying X dollars for something which had a book value of X dollars. There was no profit in that, was there? - It is the nature of the business which was the important thing from HFC's point of view. Now, before the transaction, I do recall seeing a diary note or a note of mine in which I asked Ray Turner and Ray Fischer at length, because we were concerned to clearly identify the goodwill and whose goodwill it was, and part of the reason for the receipt of the money was this access to customers which, in my view, is the essential nature of goodwill. The Merchant Agreement was simply part of what was necessary for HFC to get in order to enjoy the goodwill.

What the Merchant Agreement gave it was the prospect to make a profit out of people who came into Chandlers stores after 1 October and wanted to buy something with credit arranged by Chandlers, wasn't it? - You interpret it that way, but it is not what was intended in the drafting of clause 19, or in the words in that letter.

And is that what was intended in the drafting of the Merchant Agreement? - The drafting of the Merchants Agreement was simply part of, as I have already said, what HFC needed to enjoy the goodwill.

No, the Merchant Agreement was so that HFC had the opportunity to make money out of people who, after 1 October, wanted to buy something they could not afford, and wanted Chandlers to arrange the finance. That is all the Merchant Agreement did, wasn't it? - No.

Well, you show me where the Merchant Agreement says something other than that? - Well, it doesn't say anything other than that.

Well, that was what it was for, wasn't it? - No.

Tell me about it? - In the same ways you can have restrictive covenant when you sell a business with goodwill, so you can sell a business with the goodwill and have a Merchant's Agreement. It is part of everything that you need to enjoy.

The Merchant Agreement is concerned with future transactions, isn't it? - So is a restrictive covenant.

There were two things that were being sold, the benefit of existing transactions, and the opportunity to enter into future transactions. Right? - That is not what was discussed.

Well, I would suggest that is precisely what clause 19 says. But anyway, if you read that letter together with clause 19, what it is saying is there were two things which were being sold, and it was the benefit of the future transactions that was what the premium was really being paid for? - That is not what was discussed.''

38. Mr Mann was next shown the diary notes he made covering his entire involvement with these transactions. Although much time was spent in cross-examination over these notes and, in particular, just when these various entries were made, some disagreement as to the meaning of the following entry took place. Under date 17 September 1987 appears the following notation:

``Any advantage of pressing $.5m is goodwill? Probably not. So long as sale agreement is tied to and recognises the ongoing nature of the trade relationship.

We are getting money because we are transferring our ledger and [entering into the trade agreement] providing access to our present and future customers.''

39. When Mr McGill put to the witness that that entry would suggest that what was sought to be achieved by entering into the trade agreement was providing access to present and future customers, Mr Mann replied ``No, that's too simple an approach to it''.

40. Mr Mann was shown another diary note he made, recording a telephone conversation he had with Mr Turner on 14 September 1987. The last paragraph of this note states:

``Pointing out to him that I have not been able to find any direct authority, but that it seems that from my own enquiries it is certainly up to the vendor to work out and to say whether what they are selling is goodwill. There is always the risk of the Commissioner however later on coming in and taking some other view. The ideal

ATC 2025
situation is to get the purchaser to agree that what they are paying (for) is goodwill. I read to him that portion of Income Tax Ruling IT 2328 with respect to goodwill, the time of its commencement and the fact that it doesn't have to have been included in the formal accounts of the business.

Mr McGill: That proposition is directed to the question that you have been asked to advise on, which was the way in which the premium should be structured to address the revenue issues, wasn't it? - What we were doing was to identify what it was that we were selling. The diary note of 17 September is all directed to me questioning them, what it was that we are selling, and pointing out to them that it would be preferable to have an agreement between the vendor and the purchaser agreeing that what was being sold was goodwill.

Preferable in terms of the way in which the premium was structured in the light of revenue considerations? - No. Preferable so that we would not have a dispute with the Commissioner. In other words, to accurately reflect what we were selling.

I think that you told me before that you drafted clause 19. Did you draft all of the offer document there for September? - Drafts were done and negotiated with the purchaser.

So there was some input from both sides, was there? - Yes, there was, but I don't recall on clause 19.

Well, just in terms of the overall agreement, for example, whose idea was it that instead of simply a sale and purchase of the credit portfolio as at 30 September, there would be the structure for the advances of the money, and then the final settlement of what was left in the following June? Who came up with that idea? - If my memory is correct, I think it was Mr Ezzy.

I think you or somebody refers to the fact in the affidavit that the purpose of that exercise was to reduce the amount of stamp duty payable? - That was a consequence of it, yes.

The stamp duty was payable by the purchaser? - Yes.

And was it also in that context that it was a written offer which was accepted orally? - Yes.

And again, whose idea was that? - I believe it was HFC's solicitors.

Clause 19 was something that came entirely from your side, clause 19 was your work, so to speak? Is that right? - I drafted it originally. I can't remember the comments from the purchaser.

Does that represent all of the clause 19, or just clause 19.1? - I can't recall, I'm sorry.

Do you know where the apportionment of the money between the two Chandlers companies came from? Whose idea that was? - That arose out of my questioning of those gentlemen in that sheet of paper that we held up before of 17 September.

Well, it did not come from HFC then? - No, but they didn't object to it.

But it was not their idea that `we'll pay 400,000 to you and 100,000 to him' sort of thing? - No.

The idea that it would be apportioned between those two companies was the product of some consideration being given by you, Mr Turner and Mr Fischer, possibly someone else, in relation to the matters on which you had instructions under the letter of 4 September? Is that right? - Yes. It arose out of us trying to correctly value the goodwill of the businesses. That is what the meeting of 17 September was about.''

41. ``T 14'' is a letter from Mr Mann's firm, signed by him, addressed to the Deputy Commissioner dated 21 June 1991. Paragraph 18 states:

``We believe that the premium was paid to the vendor in addition to the consideration for the existing debt portfolio, to transfer the existing credit portfolio and the future right of access to a particular group of potential credit clients of HFC. The merchant agreements to be signed between the various Chandler retail companies and HFC were a formality to allow the transfer of the right of access to their customer base to HFC. The premium did not relate to any service performed for the physical act of arranging the merchant agreements. It is the company's belief that the consideration paid

ATC 2026
under clause 19 of the agreement relates exclusively to the goodwill attaching to the finance portfolio of the vendor company.''

42. Although Mr Mann denied that he had any input into the drafting of paragraph 18, I have some difficulty in accepting that Mr Mann was unaware of the thrust of this paragraph, contained in a letter to the Commissioner of Taxation over Mr Mann's initials and signed by him. For good measure, over the page, under the heading ``Additional Comments'', appears the following:

``We believe that the premium was paid to the vendor in addition to the consideration for the existing debt portfolio, to transfer the existing credit portfolio and the future right of access to a particular group of potential credit clients to HFC (please refer to the notice of objection). The merchant agreements to be signed between the various Chandler group companies and HFC were a formality to allow the transfer of the rights of access to their customer base to HFC. The premium did not relate to any service performed for their physical act of arranging the merchant agreements.''

43. When Mr McGill put to Mr Mann that the contents of the above paragraph contains the same proposition ``in substance'' as the witness' diary note of 17 September 1987, (set out in para 38 above), Mr Mann persisted with his assertion that the two statements were not ``exactly'' the same. I disagree. Indeed, ``in substance'' there is little to choose between them.

44. It is of some historic interest that the final document in the applicants' set of documents is Mr Mann's memo of a telephone conversation between him and one Maughan, dated 28 September 1987. I propose to set it out in full:

``Phone with Maughan of Touche Ross.

I pointed out to him that there are really two issues from what I can see so far as he is concerned:-

1. What the Chandler Vendor companies do with the money once they get it; this is entirely over to him and Turner and Fischer;

2. What is the characterisation of the money receivable by the Vendor companies.

In relation to the second item I read to him the terms of Clause 20 in the draft of the 24th September. He said that he thought it was a `first class job of describing goodwill without actually mentioning it'. He says that the refund provision gives him some little concern but he understands that there is nothing really we can do about it. Advising him that certainly that is my understanding based on their previous letter from HFC to Chandlers.

Advising him that we have got to settle the documents today and I will obviously let him know what we finally end up with. I suspect that Turner will not permit us to push that the money be called `goodwill'. He says that he is reasonably confident that it will be accepted by the Commissioner as goodwill. He agrees that to the extent to which any of the Vendor's companies conduct any other activities then this is simply a separate part of the business they conduct and that this is the goodwill attaching to it.

He says however that he will be recommending to Chandlers that they put it in the returns as goodwill but request the Commissioner under the self assessment provisions to specifically look at it. JGM.''

45. As noted earlier, Mr Wells, the company secretary for both taxpayers, was called as a witness. His evidence was useful in that it added to the historic narrative. However, apart from informing the Tribunal that both taxpayers are presently in voluntary liquidation, I do not propose to advert to his evidence further.

46. The final witness, Mr WF Reed, was flown in from Western Australia. Mr Logan, having got the witness to identify his affidavit, sat down. In cross-examination, it was established that Mr Reed is presently a director of Vox Ltd, which has been under the control of Guyatts since June 1987. At the time of the sale of the business of the taxpayer companies, the witness was also a director of Guyatts and, for all practical purposes, the man to whom the principal negotiator - Mr Turner - reported. However, despite lengthy cross-examination, I have not been convinced that Mr Reed added much to what I did not know before save that he gave a clear - and persuasive - explanation how, at the end of the three year period, AGC came to take over the finance arrangements

ATC 2027

previously undertaken by HFC, and why it came about that AGC obtained this commercial benefit without paying a premium.

47. I have dealt with the facts of this case in greater detail than strictly necessary, if only because I was given the clearest indication that whoever lost the case would take it to ``another place''. In the circumstances, it is a little surprising that it was commenced in ``this place'', particularly as neither taxpayer was concerned to preserve its anonymity.

48. Dealing firstly with the argument on which so much time was spent, viz that the $400,000 and $100,000 received by the applicants represented payment for the sale of ``goodwill'' attached to the finance portfolio, this ``goodwill'' is said to consist of the purchaser becoming ``preference financiers'' to any future retail customers of the Group who required finance. Many authorities were cited, including the famous zoological division of goodwill into cats, dogs and rats as described by Mr SPJ Merlin in his treatise on the subject and cited with approval by Scrutton LJ in
Whiteman Smith Motor Co Ltd v Chaplin [1934] 2 KB 35 at 42 (the cat stays at home even if the owner leaves the premises, the dog follows the owner, and the ``rats'' roam at will, vermin of no benefit to vendor or purchaser and described as such ``for no particular purpose except to keep the epigram in the animal kingdom''; supra at p 42). It is a charming analogy and has frequently been cited in subsequent cases. Be that as it may, I have not been persuaded that what occurred here can be fitted into the animal kingdom.

49. In
IRC v Muller & Co's Margarine Ltd [1901] AC 217 at 235, i.e. well before ``goodwill'' was transferred to the zoo, Lord Lindsay described it as including ``whatever adds value to the business by reason of situation, name and reputation, connection, introduction to old customers, and agreed absence from competition or any of these things and there may be others which do not occur to me''. More recently, ``goodwill'' was the subject of further analysis by some of their Honours in
Hepples v FC of T 91 ATC 4808. Applied to this case, Mr Logan suggests that the sale of the business of the taxpayer companies contains an element of goodwill because the Merchant Agreements provide some security from competition by virtue of treating the purchaser as the recommended financier for future credit sales by the Group (``Should any of our customers wish to purchase any of our goods and merchandise using a new source of finance, we will recommend and promote HFC as our first preference finance source''). It is thus said to be an asset of the business, albeit a wasting asset, being more valuable at the beginning than at the end of the term of the agreement.

50. However, I suspect that there is a fly in this ointment. Whatever ``the asset of the business'', it vests in the retail arm of the Group, a separate corporate entity. Thus the Group was so structured that, as part of its overall trading strategy, it included separate corporate entities willing to provide finance to customers of the Group's retail arm who sought financial assistance (i.e. the taxpayers now before the Tribunal). Thus, when one asks what did these taxpayer companies have to sell in terms of ``goodwill''? the answer is ``nothing''. These companies were merely the inert recipients of the benefit conferred upon them by another arm in the Group. By way of analogy, the taxpayers' position in this case is not unlike that of the barrister who has decided to retire. What has he got to sell? He can sell his chambers, his books and any debts that may still be owing to him. But he has no goodwill. Nor does he ``create'' any goodwill capable of sale if he persuades a dozen solicitors who had been in the habit of briefing him to enter into an agreement to recommend to any client in need of counsel's advice to retain the purchaser of the retiring barrister's chambers. In other words, these applicants are the butcher's block, not the butcher. If the butcher sells the block to another butcher, it is not easy to comprehend how the block can claim to have any goodwill.

51. Fortunately, I do not have to come to a final determination of the issue since I am satisfied that even if there was some ``goodwill'', the idea of its sale came merely as an afterthought - it was neither included in the offer, nor was there a formal valuation of the finance portfolio in the taxpayers' balance sheets. I am therefore satisfied that the term first surfaced when the lawyers and accountants looked at the sale of the finance portfolio to HFC and contemplated the potential tax implications.

52. I am also satisfied that the offer contained in Mr Ezzy's letter of August 28, 1987 (exh 1; see para 2 above) accurately reflects the state of

ATC 2028

mind of the parties as to just what was being acquired by HFC, a view which receives support from Mr Mann's letter to Mr Turner dated 23 November 1987 (``In the end, you will recall in our discussion with Phil Ezzy that the clause, which finally became Clause 19 of the offer document, would be drafted in such a way as to correctly record, in the context of the correspondence and discussions which had already passed and taken place, the description and reason for the payment. It was agreed that the reason why the premium was being paid was to enable HFC to be in a position where it could receive the referrals from customers and to provide to them the financing arrangements previously provided by the Chandler Group''.) (my emphasis). Thus, the attempt to paint the premiums with the colour ``goodwill'' was itself a colourable device, designed to render the premium tax-free in the hands of the taxpayers, and was resisted by HFC precisely because it was thought that the premium thus described may involve the purchaser in possible future tax consequences. It was for that reason that it was done so artfully as to cause Mr Maughan (Touche Ross) to congratulate Mr Mann on a ``first class job of describing `goodwill' without actually mentioning it'' (see para 44 above).

53. In the result, I have concluded that the attempt to characterise the premiums as ``goodwill'' cannot succeed. What occurred was that the Chandler Group, having decided to rid itself of its finance arm, sold a ``package'' which included a premium/``up front'' payment.

54. It remains to characterise this premium. Clause 19 states that the premium was payable in consideration of the two taxpayer companies ``... procuring each of [five named retailers of the Chandler Group] to enter into a certain Merchant Agreement''. Why should I not give the natural meaning to those words? Both taxpayers were part of the Chandler Group and thus in a strong position to persuade its retail arm to enter into the Merchant Agreement. That can properly be described as rendering a valuable service for which the procurers were entitled to be paid, no different from the retiring barrister who is able to persuade his/her former ``stable'' to brief the man or woman who bought his/her chambers. But such a payment is of a revenue nature, not an affair of capital. At its highest, HFC acquired the right to have referred to it those customers who sought credit from the Group's retail outlets. On that characterisation, the payment constitutes simply a procurement fee for entering into the Merchant Agreement. It thus constitutes a payment for services rendered and, on that basis, is income according to ordinary usages and concepts; cf
Austrotel Corpn Pty Ltd v FC of T 76 ATC 4245.

55. Mr Logan began his address with the observation that this case is nothing less than a ``re-run'' of
FC of T v Cooling 90 ATC 4472. Having found the premium to be income according to ordinary usages and concepts, it is with no disrespect for his persuasive argument that I find it unnecessary to deal with it other than to note that it is sufficient, on my finding, to note that even if Part III of the Act were to apply to the two payments in question, the operation of sec 160ZA(4) would, in any event, be such that any resultant capital gain would be reduced to nil.

56. For the above reasons, the Tribunal affirms the objection decisions under review.

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