WOOLCOMBERS (WA) PTY LTD v FC of TJudges:
On 29 June 1989 the respondent (``the Commissioner'') gave notice to the applicant (``the taxpayer'') of the Commissioner's assessment of the tax payable by the taxpayer for the year ending 30 June 1988 (``the 1988 income year''). On 29 August 1989 the taxpayer objected to that assessment. The
ATC 4344Commissioner disallowed the objection on 20 June 1990.
On 15 October 1990, pursuant to s. 187(b) and sub-s. 189(3) of the Income Tax Assessment Act 1936 (``the Act'') as it then stood, the Commissioner's decision on that objection was referred to this Court as an ``appeal'' against the decision.
On the hearing of the appeal direct and affidavit evidence was adduced by the taxpayer and the Commissioner. The following facts were established by that evidence.
The taxpayer is a wholly owned subsidiary of G.H. Michell & Sons Pty. Ltd. and one of a number of associated corporations together described as ``the G.H. Michell group'', the ultimate controller of which is G.H. Michell Holdings Pty. Limited.
Between 1947 and 1973 the taxpayer bought raw wool, scoured and combed it and resold the treated product as wool tops. Raw wool was acquired at auction or from other wool dealers. The taxpayer also engaged in buying and selling raw wool.
After 1973 the taxpayer ceased treating wool and thereafter carried on business only as a wool trader. As part of that change in business it commenced buying wool directly from woolgrowers. The taxpayer employed ``commissioned wool buyers'' to contact or visit woolgrowers and purchase wool as agents of the taxpayer. The wool buyers dealt with woolgrowers whose properties were in the south-west part of Western Australia, being the region with which the taxpayer was most familiar. The taxpayer instructed the wool buyers to purchase the wool a woolgrower had produced at shearing or to make contracts with woolgrowers to purchase wool yet to be shorn (``forward contracts''). The forward contracts were made up to nine months or more prior to shearing, the usual time for which, in that part of the State, was between August and October.
At least weekly the wool buyers received instructions from the taxpayer on the quality of wool to be obtained and the price the taxpayer would pay to woolgrowers according to the quality of wool supplied. The manner of conduct of the taxpayer's business required the taxpayer and its wool buyers to be well- informed on the quality of the flocks maintained by individual woolgrowers and as to seasonal and other factors that may affect the quality and weight of wool produced at shearing. The taxpayer maintained records on the quality, style and weight of wool produced by the woolgrowers with whom it dealt and wool buyers were required to obtain all such relevant information directly from the woolgrowers with whom the taxpayer had not previously contracted.
Although part of the taxpayer's business involved purchasing wool on forward contracts at prices set by relying upon estimates of weight and quality wholly dependent on predictions of the outcome of numerous variables, it was also part of that business to develop expertise in such forecasts and to employ wool buyers of sufficient experience and skill to enable the business to be conducted successfully.
Most forward contracts were fixed-price contracts under which the taxpayer agreed to pay a set price per kilogram for the whole clip. The formation of such contracts depended upon the exercise of judgment by the wool buyer as to the standard of the woolgrowers' flock and the anticipated quality of the woolclip. Some forward contracts provided for variable prices to be paid according to the quality yield of the clip. In the 1988 income year three hundred and twenty-three forward contracts were fixed-price contracts and thirty-one were variable-price contracts.
The forward contracts required the woolgrower to set an approximate date for shearing and a date on which the wool would be delivered to the taxpayer. Each contract contained an estimate of the number of bales of wool to be produced by the woolgrower. That estimate was based upon the size and composition of the woolgrower's flock and by having regard to the number of bales produced by the woolgrower in the preceding season.
The taxpayer distributed to the wool buyers a printed standard form of contract to be executed by woolgrowers and by the wool buyers as agents of the taxpayer. The standard clauses provided for property in the wool to pass from the woolgrower to the taxpayer upon payment for the wool notwithstanding that there was an express provision in the contract that the wool was at the risk of the taxpayer after shearing. (See Benjamin's Sale of Goods (3rd Ed.) para. 289.) The usual provision in the contracts for payment for the wool was that it be made fourteen days after delivery of the wool to the taxpayer. The agreement did not create any lien
ATC 4345over unshorn wool or over the woolgrower's flock but the printed terms did contain the following, described as a warranty:
``The seller warrants and agrees that the wool delivered shall:-
- (e) in the event that the seller needs to dispose of the sheep described above by reason of drought, flooding or disease then the seller shall forthwith advise the buyer in writing of such necessity. The Seller shall be entitled to dispose of such number of sheep as may be agreed by the parties hereto and failing agreement within twenty-eight (28) days of the notice having been given as aforesaid then the parties shall refer the matter to two arbitrators appointed and acting in accordance with clause 8 hereof.''
The woolgrower agreed to indemnify the taxpayer in respect of any loss or damage suffered as a result of the woolgrower's failure to deliver the wool by the agreed delivery date or at all, or to deliver wool in warranted condition, namely wool that had been skirted, was free of staining, had been shorn in a dry condition and was a minimum of 11 and a maximum of 13 months growth.
Between 1976 and 1988, save for one exception, all forward contracts were completed by the woolgrowers. In the one exception the woolgrower sought and obtained a release from the contract.
Wool purchased by the taxpayer was resold to associated corporations in the G.H. Michell group. The wool purchased by those corporations was used to meet commitments made under prior contracts for the export of wool. There was no evidence that the taxpayer earned income in the 1988 year from resale of the wool it was entitled to receive under the forward contracts or by the sale of its interests in those contracts. In the succeeding year of income (``the 1989 income year'') approximately 40 per cent of the wool sold by the taxpayer was wool delivered under the forward contracts made with woolgrowers in the 1988 income year. The use of forward contracts formed a necessary part of the taxpayer's business, namely to acquire sufficient wool to supply the demands of associated corporations in the G.H. Michell group. The forward contracts also served the needs of the G.H. Michell group by fixing an acquisition price for the wool thereby providing a hedge against any unfavourable movement in the market price before the export contracts fell to be performed. The forward contracts were also of benefit to woolgrowers who could budget, or borrow, on the security of the taxpayer's commitment to pay for the woolclip at a price set months in advance of shearing not being a price subject to the vagaries of the market before and after shearing.
Competitors of the taxpayer had been engaged in purchasing wool on forward contracts some years before the taxpayer made wool trading its sole business and commenced to enter such contracts. It may be inferred that a substantial number of woolgrowers were prepared to sell their wool by forward contracts and that each year a significant proportion of the State woolclip was unavailable for purchase at auction or on woolgrowers' properties after shearing.
The Chairman of G.H. Michell Holdings Pty. Limited, who was also Chairman of the taxpayer, said that it was ``G.H. Michell group policy'' for the taxpayer to have a square book or to be within an acceptable margin thereof by being ``short'' or ``long'' by a few thousand bales at any one time. He added that ``as part of the G.H. Michell group position, the taxpayer was to purchase approximately 40,000 bales of wool forward in the 1988 income year''. As noted above, it was not suggested that the taxpayer made forward sales of the wool it purchased under forward contracts, although it was stated in evidence that associated corporations in the ``G.H. Michell group'' were ``heavily involved in overseas forward selling'' of raw and treated wool. It was said that at all material times the taxpayer ``functioned as a division of the G.H. Michell group''. That appeared to mean, in the 1988 income year, that the taxpayer entered commitments to purchase 40,000 bales of wool pursuant to some arrangement or understanding within the G.H. Michell group that the wool would be resold to the associated corporations which had export commitments falling due in the 1989 income year under contracts to sell wool made by those corporations in the 1988 income year. Whether the proceeds to be received by the associated corporations under those contracts were treated as accrued income or a deduction claimed for
ATC 4346an outgoing incurred as a liability to the taxpayer for the cost of the wool, is unknown.
The taxpayer's estimate of the sum it was liable to pay under the forward contracts as at 30 June 1988 was calculated in about August 1988. At that time some of the forward contracts had been completed and the actual sum paid under those contracts was included in the estimate of the sum payable as at 30 June 1988. The estimate was calculated by multiplying the number of bales each woolgrower was expected to deliver by the price per kilogram agreed to be paid for those bales. An average weight per bale was estimated by dividing the total weight of wool sold by the taxpayer in the 1988 income year by the number of bales in which it was contained, the result being 176 kilograms per bale. An assumption of the quality of the wool to be supplied was made in respect of those contracts which contained variable prices.
Between 1973 and 1988 the variation between the estimate of the number of bales to be acquired and the actual number delivered did not exceed 10 per cent on any occasion. In the 1988 income year the taxpayer's estimate of its liability to woolgrowers under the forward contracts as at 30 June 1988 was $56,254,140 (allowing for a subsequent correction of errors in calculation), and the amount paid to woolgrowers pursuant to those contracts in the 1989 income year was $55,373,863, a variation of 1.6 per cent. On a contract by contract basis the variation between estimated liability and actual payment could be a significant underestimate or overestimate but if all contracts were considered together the variation tended to be minimal.
The taxpayer claimed that under s. 51 of the Act the estimate of the amount of its liability under the forward contracts was an allowable deduction from assessable income for the 1988 income year. The Commissioner did not allow the deduction and the Commissioner's decision is the subject of this appeal.
At the material time the relevant part of s. 51 was sub-s. 51(1). Sub-section 51(2A) introduced to cover the forward purchase of trading stock, had effect only from 19 December 1991.
Sub-section 51(1) read as follows:
``51(1) All losses and outgoings to the extent to which they are incurred in gaining or producing the assessable income, or are necessarily incurred in carrying on a business for the purpose of gaining or producing such income, shall be allowable deductions except to the extent to which they are losses or outgoings of capital, or of a capital, private or domestic nature, or are incurred in relation to the gaining or production of exempt income.''
The point of argument on which the appeal turned was whether the amount sought to be deducted by the taxpayer was ``incurred'' for the purpose of sub-s. 51(1) of the Act. The issue was not the reasonableness of the taxpayer's estimate of its liabilities under the forward contracts but whether there was ``an existing pecuniary liability'' as at 30 June 1988. In short the Commissioner contended that the sum which the taxpayer sought to treat as an outgoing incurred in gaining or producing assessable income or in carrying on a business for the purpose of gaining or producing assessable income could not have been so incurred unless it was a liability that had ``come home''. It was not in issue that deductibility under sub-s. 51(1) did not depend upon payment of the outgoing in the year of income in which the outgoing was incurred (see
Emu Bay Railway Co. Ltd. v. FC of T (1944) 7 ATD 455; (1944) 71 C.L.R. 596 per Latham C.J. at ATD pp. 460-461; C.L.R. p. 606), nor was it contended that deductibility did not accrue if the extent of the outgoing incurred could only be estimated. (See
The Ballarat Brewing Co. Ltd. v. FC of T (1951) 9 ATD 254 at pp. 257-258; (1951) 82 C.L.R. 364 at p. 369;
The Texas Co. (Australasia) Ltd. v. FC of T (1940) 5 ATD 298; (1939-1940) 63 C.L.R. 382 per Dixon J. at ATD pp. 353-354; C.L.R. pp. 465-466;
Commonwealth Aluminium Corporation Ltd. v. FC of T 77 ATC 4151; (1977) 32 F.L.R. 210.)
Audited accounts for the 1988 income year lodged with the taxpayer's 1988 income tax return did not show the estimated liability under the forward contracts as a trading expense in the profit and loss account. Nor was any asset or liability in respect of those contracts included on the face of the balance sheet. However, a general note to the accounts disclosed that as at 30 June 1988 the taxpayer ``was committed to forward purchase wool contracts valued at $57,341,410''. The note also stated that an ``offsetting asset, representing this wool
ATC 4347receivable under the forward purchase contracts has also been recognized in the financial statements, being stated at cost''. A further note to the accounts provided a calculation of the amount recorded in the balance sheet under the heading ``Current Liabilities''. The calculation showed a liability of $57,341,410 for ``forward wool purchase contracts'' as included in the current liabilities. The net amount of those liabilities was calculated by deducting a sum of $57,341,410 for ``undelivered wool relating to forward wool purchase contracts''. ``Wool receivable'' was not included under Current Assets in the balance sheet. The notes did not allude to any arrangement between the taxpayer and associated corporations for the resale of the ``wool receivable'' nor carry any assessment of the capacity of associated corporations to pay for the wool at cost.
The taxpayer's income tax return was prepared by deducting the estimated amount of its liability under the forward contracts from the ``accounting profit''. In broad terms the effect of the deduction was to convert a $2.1m taxable income to a $54m taxable loss. In the income tax return $16,140,981 of that taxable loss was shown as distributed to six associated corporations for the 1988 income year.
Expert evidence was adduced by the taxpayer and the Commissioner from two experienced accountants and two professors of accountancy. All witnesses agreed that at the relevant time no accounting standard applied to put beyond issue, in accounting terms, how the taxpayer's commitments under the forward contracts should be reflected in the taxpayer's accounts. The point of difference between them was whether, in the absence of inclusion of the effect of the forward contracts in the profit and loss account of the taxpayer, it was appropriate to treat the estimated liability under the contracts as an ``incurred expenditure'', or appropriate to have regard to it without off- setting that sum by the worth of the ``asset'' represented by the right to receive the wool under the contracts. Each witness directed his evidence to the need for the financial statements of the taxpayer to reflect a ``true and fair'' view of the taxpayer's financial position. The expert evidence adduced by the Commissioner was to the effect that the estimated liability could not be recognized as an ``expense'' under generally accepted accounting practice. In particular, Professor Brown considered that unless an ``expense'' could be identified it could not be said that an outgoing had been incurred for the purpose of sub-s. 51(1) of the Act. It was his opinion that, in accounting terms, an ``expense'' would not arise until the wool, described as an asset, had been received and sold, the ``reduction of the asset'' leading to recognition of an ``expense''. It was also said that this proposition was further supported by the application of the accounting rule, the ``matching principle'', which required an ``expense'' to be ``matched'' with revenue to which the expense related. The taxpayer's witnesses maintained that proper accounting practice required recognition in the accounts of the liability represented by the estimate of the payments to be made by the taxpayer under the forward contracts.
Evidence from expert accountants does not supply the proper construction of sub-s. 51(1) of the Act but the evidence may assist the Court to identify, and to understand the commercial significance of, the facts to which the sub- section, duly construed, is to be applied. (
Commissioner of Taxes (S.A.) v. Executor Trustee and Agency Co. of South Australia Ltd. (Carden's case) (1938) 5 ATD 98; (1938) 63 C.L.R. 108 per Dixon J. at ATD pp. 130-131; C.L.R. pp. 153-154;
QBE Insurance Group Ltd & Ors v. Australian Securities Commission & Anor; NRMA Insurance Ltd v Australian Securities Commission (1992) 10 ACLC 1,490; (1992) 38 F.C.R. 270 per Lockhart J. at ACLC p. 1,506; F.C.R. p. 289;
Coles Myer Finance Limited v. FC of T 93 ATC 4214 per Mason C.J., Brennan, Dawson, Toohey and Gaudron JJ. at p. 4221.)
The construction of sub-s. 51(1) is a jurisprudential analysis and not a construction assisted by the application of commercial principles (see Coles Myer per Mason C.J., Brennan, Dawson, Toohey, Gaudron JJ. at p. 4221, per McHugh J. at pp. 4227-4228) but commercial and accountancy practice may assist in ascertaining the true nature and incidence of the item claimed as a loss or outgoing under sub-s. 51(1). (See
FC of T v. James Flood Pty. Ltd. (1953) 10 ATD 240 at p. 244; (1953) 88 C.L.R. 492 at pp. 506-507; Carden's case per Dixon J. at ATD p. 130; C.L.R. pp. 152-153.) Furthermore, the manner of application of sub-s. 51(1) will depend upon the particular facts of each case.
For example, in the insurance cases
R.A.C.V. Insurance Pty. Ltd. v. FC of T 74 ATC 4169;  V.R. 1 and
Commercial Union Assurance Co of Australia Ltd. v. FC of T 77 ATC 4186; (1977) 32 F.L.R. 32 consideration of whether the liability of insurers to meet insurance claims could be properly characterized under sub-s. 51(1) of the Act as an outgoing incurred, was assisted by having regard to a longstanding method of accounting used by the insurance industry to calculate whether a business of insurance had operated at a profit, namely by treating part of the premiums received in the year of income as premiums earned in that year and by treating as an outgoing of the business the estimate of the amount payable for the liabilities likely to have been incurred in the year of income under the policies to which the premiums earned related (cf.
ANZ Banking Group Limited v. FC of T 93 ATC 4238).
In the present case the argument that an outgoing had not been incurred was said to be encapsulated in the reasons expressed by Barwick C.J. in
Nilsen Development Laboratories Pty. Ltd. & Ors v. FC of T 81 ATC 4031 at pp. 4034-4035; (1980-1981) 144 C.L.R. 616 at pp. 623-624:
``In my opinion, the language of Dixon J. in New Zealand Flax Investments Ltd. v. F.C. of T. (1938) 61 C.L.R. 179 at p. 207 needs to be carefully perused and applied. Granted that exhaustive definition of what may be denoted by the word `incurred' in sec. 51(1) may not be possible, there can be no warrant for treating a liability which has not `come home' in the year of income, in the sense of a pecuniary obligation which has become due, as having been incurred in that year. Sir John Latham's language in Emu Bay Railway Co. Ltd. v. F.C. of T. (1944) 71 C.L.R. 596 at p. 606 clearly enough indicates that to satisfy the word `incurred' in sec. 51(1) the liability must be `presently incurred and due though not yet discharged'. The `liability' of which Sir John speaks is of necessity a pecuniary liability and the word `presently' refers to the year of income in respect of which a deduction is claimed. It may not disqualify the liability as a deduction that, though due, it may be paid in a later year. That part of Sir Owen Dixon's statement in New Zealand Flax Investments Ltd. v. F.C. of T. which presently needs emphasis is that the word `incurred' in sec. 51(1) `does not include a loss or expenditure which is no more than pending, threatened or expected': and I would for myself add `no matter how certain it is in the year of income that that loss or expenditure will occur in the future'.''
As in Flood, Nilsen was concerned with the deductibility of a claimed accruing liability of an employer to pay money to employees for periods of annual and long service leave. Prudently, the employer had made provision in its accounts for the discharge of those obligations when called upon.
The decision in Nilsen, although delivered in 1981, related to an appeal in respect of an assessment issued for a 1974 year of income to which the provisions of sub-s. 51(3) of the Act, inserted by the legislature in 1978, did not apply. By the insertion of sub-s. 51(3) the legislature appeared to accept that a construction of s. 51 was available other than that pronounced in Flood. A similar conclusion could be drawn in respect of the insertion of sub-s. 51(2A). (See
Kalwy v. Secretary, Department of Social Security (1992) 38 F.C.R. 295 at p. 299.)
The decision in Nilsen owes much to the particular incidents of the employer/employee relationship and to the fact that the character of the payments provided for was akin to that of wages. It was not accepted that any liability ``accrued'' from day-to-day in respect of the future payments to employees in periods of leave and it was said that the liability to pay could only arise when an employee had entered upon the period of leave or, presumably if the terms of employment provided for it, was entitled to receive a sum in lieu of payment for leave at the point of termination of employment.
Although the circumstances in Flood and Nilsen may have involved an existing obligation to pay an ascertainable sum to employees in the future, such payments when made would have the character of wages paid to employees upon commencement of annual or long service leave as part of the performance of employment contracts. As such the incurred obligations were to be treated as properly falling into the year of income in which the payments were made in the manner of a continuing obligation to pay wages. Present obligations to make future payments of wages in periods of leave earned under
ATC 4349contracts of service were regarded as liabilities of a character that did not fit the meaning of outgoings incurred for the purpose of sub-s. 51(1). Those circumstances are readily distinguishable from the instant case.
Although the taxpayer did not obtain the property in the wool until payment, the submission of the woolgrower to a contractual provision that restricted a woolgrower's right to dispose of sheep without the agreement of the taxpayer reflected a mutual intention that the taxpayer obtain enforceable contractual rights upon execution of the contract and undertake a commensurate liability. The woolgrower agreed to indemnify the taxpayer for any loss or damage, direct, indirect or consequential, suffered by the taxpayer as a result of the seller's failure to deliver the wool or any part thereof on the agreed delivery date or at all.
The result of the contractual provisions was the imposition of a clear liability on the taxpayer to pay for the woolgrower's woolclip. Although it may be said that the effective time for payment did not arise until the wool had been shorn and the quantum of payment decided by the weight of wool shorn, neither circumstance made the obligation a mere ``theoretical contingent liability''. The liability of the woolgrower to indemnify the taxpayer upon formation of the contract made it clear that it was intended that a correlative liability be imposed upon the taxpayer at the same time to pay the woolgrower for the woolclip. There was an accrued obligation or present liability imposed on the taxpayer by a definite contractual commitment. It was more than ``an impending, threatened or expected'' expenditure not then grounded in a commitment in the form of a liability to pay. (See
New Zealand Flax Investments Ltd v. FC of T (1938) 5 ATD 36; (1938) 61 C.L.R. 179 per Dixon J. at ATD p. 49; C.L.R. p. 207; Coles Myer per Mason CJ., Brennan, Dawson, Toohey, Gaudron JJ. at p. 4221, per Deane J. at p. 4225, per McHugh J. at p. 4228;
Ogilvy and Mather Pty. Ltd. v. FC of T 90 ATC 4836.)
If approached from the standpoint of commerce it may be thought that the formation of the forward contracts was essential for the maintenance of the taxpayer's business and, therefore, as a matter of commercial principle the liability to make payments under those contracts was an outgoing incurred in carrying on the business. Furthermore, the mutual contractual commitments of the taxpayer and the woolgrower made the contract itself an item of value in commerce. In any event, as a matter of jurisprudential analysis the taxpayer's present contractual commitment to buy and pay for the woolclip was a liability to pay an ascertainable sum at a later date undertaken by the taxpayer in the course of the conduct of and for the purpose of its business and the binding nature of that commitment satisfied the meaning of the word ``incurred'' as used in sub-s. 51(1) of the Act. (See
FC of T v. Australian Guarantee Corporation Ltd. 84 ATC 4642; (1984) 2 F.C.R. 483.)
It was not in issue that, if incurred, the outgoing was on revenue account, in that the outgoing was incurred in respect of the acquisition of trading stock for use in the gaining or production of assessable income and necessarily incurred in carrying on the business of a taxpayer for the purpose of gaining or producing assessable income. (See
John Fairfax & Sons Pty. Ltd. v. FC of T (1959) 11 ATD 510; (1958-1959) 101 C.L.R. 30 per Dixon C.J. at ATD p. 511; C.L.R. p. 35;
FC of T v. Raymor (N.S.W.) Pty. Ltd. 90 ATC 4461; (1990) 24 F.C.R. 90.)
The question remaining to be answered is whether the outgoing incurred was ``properly referable'' (Coles Myer per Mason C.J., Brennan, Dawson, Toohey, Gaudron JJ. at p. 4221), ``properly attributable'' (N.Z. Flax per Dixon J. at ATD pp. 49-50; C.L.R. p. 207; Coles Myer per Deane J. p. 4225) or ``fairly referable'' (AGC per Toohey J. at ATC p. 4650; F.C.R. p. 493) to the 1988 year of income.
Having regard to the longstanding view that s. 51 of the Act does not require a taxpayer to match the loss or outgoing incurred to income gained or produced in the income year (see Parsons, Income Taxation in Australia pp. 313-314;
FC of T v. Total Holdings (Australia) Pty. Limited 79 ATC 4279 per Lockhart J. at pp. 4282-4283), it may be said that the need for the loss or outgoing to be ``properly referable'' or ``properly attributable'' to the income year in which it is sought to be deducted requires the loss or outgoing not to be so anomalous to the revenue operations of the taxpayer as to effect a distortion in the result of those operations in the relevant income year. That is, the degree to which the outgoing incurred is incidental or relevant to the operations which gain, or may gain, or produce income has to be assessed. (
Fletcher & Ors v. FC of T 91 ATC 4950 at pp. 4957-4958; (1991) 173 C.L.R. 1 at pp. 17-18.) It may follow that decisions such as
FC of T v. Walker 84 ATC 4553; (1984) 2 F.C.R. 283, referred to in Raymor, have a narrow application having regard to the principles enunciated in Fletcher.
ATC 4350of T v. D.P. Smith 81 ATC 4114; (1980-1981) 147 C.L.R. 578 per Gibbs C.J., Stephen, Mason and Wilson JJ. at ATC p. 4117; C.L.R. pp. 585-586.) It should be noted, however, that in Coles Myer Mason CJ., Brennan, Dawson, Toohey, Gaudron JJ. at p. 4222 (cf. McHugh J. at p. 4227) raised the suggestion that the following words used in sub-s. 51(1) - ``to the extent to which they (losses and outgoings) are incurred in gaining or producing the assessable income'' - embodied a statutory recognition of the accounting practice or principle described as the ``matching principle'' but went on to hold that in the case before them apportionment of the outgoing was in accord with both that accounting principle and the statutory prescription of sub-s. 51(1). In cases where the outgoing has been voluntarily incurred, the motive of the taxpayer in incurring the outgoing may be, in some circumstances, the decisive element in its characterization under sub-s. 51(1) of the Act and may show that the outgoing is not an allowable deduction, or should be apportioned, consistent with the need for the relationship between the incurring of the outgoing and the process of production of income to be genuine and not colourable. (
The conclusion in N.Z. Flax that it was appropriate in that case to apportion the deduction claimed for future interest and deferred commissions (ATD p. 50; C.L.R. p. 208) was subject to a qualification that safe or proper practice in a method of accounting may require appropriation and retention of revenue in a year of income to meet outgoings incurred but not payable in that year of income (ATD p. 50; C.L.R. p. 207). In other words, due conduct of the business may require that course to be taken and apportionment of the deduction would not be appropriate.
In Coles Myer the capital acquired by the discounting of bills of exchange and promissory notes provided funds used by the finance company for the gaining of income in carrying on the business of lending monies to other members of the Coles Myer group of companies. Although the loss incurred in the year of income did not materialize until payment of the full value of the bills and notes in the subsequent year of income, the funds acquired by incurring that loss were put to profitable advantage in both years of income and it was held that the loss incurred should be apportioned between the two years of income on an accounting straight line basis, it being said that to do otherwise would lead to a ``distortion of the taxpayer's operations on revenue account in the year of income'' opening the way to ``inflating very considerably the amount of allowable deductions under s. 51 for that year'' (per Mason C.J., Brennan, Dawson, Toohey and Gaudron JJ. at pp. 4222-4223).
An outgoing incurred in the acquisition of trading stock cannot be equated readily with a loss incurred by a financier in obtaining funds used in the business of moneylending. Notwithstanding that there may be some similarities between the business of a financier and the conduct of the business of a trading concern (see
Avco Financial Services Ltd v. FC of T 82 ATC 4246; (1981-1982) 150 C.L.R. 510 per Mason, Aickin and Wilson JJ. at ATC p. 4258; C.L.R. p. 530) there remains an inherent difference between the two. It may be prudent management of the business of a trader, if profitable continuation of the business is to be secured, to make a commitment to acquire trading stock well in advance of the need to have the stock on hand for trading. Payment for such stock may be made in the year of income with deferred delivery of the stock in the subsequent year of income (Raymor) or liability may be incurred in the year of income to pay for such stock upon its delivery in the subsequent year of income. In terms of the proper conduct of the business the need to account for the payment or to provide for it would be the same in either case.
On the particular facts of the present case the use by the taxpayer of the wool to be brought into stock under the forward contracts and the gaining of income therefrom would occur in the 1989 income year. Payment of the outgoing incurred in the 1988 income year would coincide with the receipt of income from the sale of the stock in the 1989 income year. Those facts do not suggest any basis for apportionment of the outgoing, which remained constant from the time at which it was incurred, and the outgoing is either not allowable as a
ATC 4351deduction in the 1988 income year, not being properly referable or attributable to that year of income, or is allowable in full. The 1988 income year was the first income year in which the outgoing incurred under the forward contracts was claimed as a deduction. If allowed the result of the deduction in that year may appear as a distortion of the taxpayer's operations on revenue account but that will not be an outcome caused by the introduction of an anomalous outgoing extraneous to the taxpayer's usual revenue operations.
As previously noted the liability to woolgrowers was not treated as a trading expense in the profit and loss statement of the taxpayer and no provision was made in the accounts for the 1988 income year for the estimated liability of the taxpayer incurred in that year. However, the fact remained that as at 30 June 1988 a revenue outgoing had been incurred relevant and integral to the taxpayer's revenue operations, notwithstanding that at the relevant time for assessing the revenue outcome of the taxpayer's business no stock on hand or revenue ingoing was available to be matched against the outgoing. The accounts did ``recognize'' an estimate of the liability in a note to the accounts. The estimate of the extent of the liability incurred in the accounting period was calculated pursuant to a method designed to provide a fair view of that liability in the accounts. If the estimated liability referred to in the accounts is treated as an incurred outgoing within the meaning of sub-s. 51(1) of the Act, the allowable deductions for that year of income will be substantially increased but that increase will be a consequence of due conduct of the taxpayer's business and not an anomalous event in the revenue operations of the taxpayer calculated to distort those operations by inflation of allowable deductions.
The taxpayer's obligation to pay the woolgrowers under the forward contracts was an outgoing incurred in the 1988 year of income within the meaning of s. 51 of the Act as it then stood, being a binding contract in the form of a liability to pay and being properly attributable to the year of income. It may be assumed that the difference between the estimate and the amount actually paid was treated as an adjustment in the 1989 income year. (See Texas Co.; Commonwealth Aluminium.)
It follows that the decision disallowing the objection must be set aside and a decision allowing the objection to the extent of $56,254,140 substituted therefor.
THE COURT ORDERS THAT:
1. The decision of the respondent made 20 June 1990 disallowing the applicant's objection to the respondent's assessment of tax payable by the applicant for the year ending 30 June 1988 be set aside and a decision allowing that objection to the extent of $56,254,140 be substituted therefor.
2. The respondent pay the applicant's costs of the application to be taxed.