RICHARDSON v FC of TJudges:
The appellant (``Richardson'') has appealed, on the ground of error of law, from the decision of the Administrative Appeals Tribunal (``the AAT'') to affirm the decision of the respondent (``the Commissioner'') disallowing Richardson's objection to an amended assessment issued in respect of Richardson for the year of income ended 30 June 1988. In the amended assessment the Commissioner included in Richardson's taxable income the sum of $707,122, being a distribution of profit of the Richardson Family Trust (``the Trust'') from the sale of 18 Prospect Street (``No 18'') and 20 Prospect Street (``No 20'') Box Hill.
Richardson is the chairman of the board of directors of Ian R Richardson Pty Ltd (``the Trustee'') which is the Trustee of the Trust which was established by a deed of settlement made on 19 July 1975 (``the Trust Deed''). The building and project management business of the Trust was carried on by Richardson on its behalf.
The AAT concluded that the Trust's business was that of a ``deal maker''. Richardson's main activity on behalf of the Trust was to bring together the seller of land, a lessee or occupier of a proposed development of the land and an end purchaser or financier for the development. The Trustee was to derive its profit from managing the construction and development of the project. In his evidence Richardson described the Trust's business as follows:
``I spend my life trying to find people or tenants who want to occupy a building. Let's take Digital as an example. They wanted to occupy a 40,000 square feet building, and I'm talking to them, and they give me a broad outline of what they're looking for. So we set out to try and find a piece of land that will accommodate their facility, and we can work out what the land is going to cost, we know what the building that they're looking for is going to cost, and they would agree to lease that facility for a period of time, and that is a very saleable product. So you have two people involved in this industry, the fellow who puts the idea together and there are investors who like to buy these products.
ATC 5101In this particular case it is the AMP. So you go to the AMP with a deal to say that: I can buy this land, I can build this building, and I want to sell it to you for X amount of dollars. And if they think it is a good deal they'll buy it, and fund the project. So you end up with a development agreement that - the development agreement is an agreement with a sort of three way sting in it where they, the investor, buys the land, funds the project, and on successfully completing the project, the tenant will occupy the building and pay rent for 10 years or whatever it is going to be. That's the way it works.
THE D. PRESIDENT: So it is building a purpose-built building for the tenant? - Yes.
MR MURPHY: And how do you make your money from that? - Well, let us say - let us be bold and say: I know I can buy the land for $1 million, I can build the building for $1 million, I can package the whole thing for a couple of million dollars. Let's assume I can sell it for $4 million. Then you make a good profit. It never really works like that, but that's just really what it amounts to. So you have got a buyer who wants to buy an investment project, someone who can package a deal together. And the difference between what it costs you and what it is sold for is profit. And sometimes it doesn't work out like that.''
The project which gave rise to the present dispute between Richardson and the Commissioner was as described above. Richardson, acting on behalf of the Trustee, located and contracted to acquire certain land, on a main road in Box Hill. He found a suitable tenant and a purchaser for the land after its redevelopment. He then managed the project through to its successful completion.
The purchase of the land was made by the Trustee or its nominee. In the course of the project the Trustee acquired the land proposed for the development and two additional blocks of land being No 20 and 14 Prospect Street (``No 14'') Box Hill. When the project was completed the redeveloped land was acquired by the purchaser but the Trustee retained the two additional blocks. The subsequent history of those blocks gave rise to the amended assessment.
No 14, which had a tenanted residence on it, was part of the land acquired by the Trustee for the proposed office development on the site facing a main road. No 14 was contiguous to and to the rear of the blocks used for the development. Apparently it was originally acquired by the vendor of those blocks with a view to providing future access to the property situated on the main road. In the course of putting together the proposed project, the Trustee acquired No 14 from the vendor but the block did not form part of the office development and was not on sold to the purchaser. Accordingly, the Trustee continued to hold No 14 as a tenanted residential property. It was treated by the Trustee as an unexpected benefit from the project and was recorded in the books as having been acquired at no cost.
No 20 was also acquired by the Trustee in the course of putting together the project. The project required a rezoning of the land proposed to be acquired by the Trustee. Richardson secured either general agreement or a lack of opposition to the proposed rezoning from surrounding residents save for the owner/ occupier of No 20. In order to overcome the opposition of the owner/occupier Richardson negotiated the acquisition of No 20 for $60,000.00. After the rezoning and the sale of the office development by the Trustee to the purchaser or its nominee, the Trustee continued to own and hold No 20 as a tenanted residence.
In explaining the acquisition of the two blocks as a ``side show'' to the Trustee's business Richardson gave the following evidence to the AAT:
``Bit of a side show? - It was a side show, yes, but it's something that, you know...
Because your business or the company's business is really putting together these deals which end up with you...? - Yes.
... building or project managing these much larger businesses? - Yes.
And the only time you acquire these other properties would be - well, if you had to acquire them to do that? - Exactly.
And that is what happened with number 20. I put it to you that is also what happened with number 14? - You're dead right, yes.''
No 14 and No 20 were acquired in 1981-2. In August 1984 the owner of No 18 offered to
ATC 5102exchange No 18 for No 14 at no cost to the Trustee. The exchange would allow the Trustee (which would then own No 18 and No 20) and the previous owner of No 18 (which would then own No 14 and the adjoining block) each to have two contiguous blocks. That would enable the owners of those blocks to take advantage of a council proposal for rezoning of the area enabling redevelopment of the blocks in a way which would not be possible for individual blocks. Richardson, on behalf of the Trustee, agreed to the proposal which was carried out by the sale by the Trustee of No 14 for $155,000 and the purchase by the Trustee of No 18 for $155,000. Richardson's evidence was that he was pleased to exchange No 14 for No 18, as No 18 was in a much better condition and he could charge a higher rent for it.
No 18 and No 20 were rezoned but the Trustee continued to hold them as tenanted properties until May 1987 when an offer, ``which was too good to refuse'', was made by a third party to acquire the two blocks for $950,000. The Trustee accepted the offer and made a substantial profit on the sale of the two blocks.
The profit was recorded in the Trustee's profit and loss statement (which formed part of the Trustee's income tax return) for the year ended 30 June 1988 in the following manner. The statement, which was prepared after 30 June 1988, recorded a net trading loss of $85,806, but after accounting for certain interest, rental income and a ``capital gain on disposal of fixed assets'' of $863,935 a net profit of $901,265 was disclosed. The sum of $863,935 was made up as follows:
``Capital gains made'' on sale of No 18 and No 20 being the sale price net of legal costs $923,935 Less costs of No 20 $ 60,000 -------- $863,935
The ``capital gain'' of $863,935 was transferred to the ``capital profits reserve''.
By a resolution of the directors of the Trustee on 24 June 1988 it was resolved that:
``... the net income of the Trust be distributed in the following manner: The Second Richardson Family Trust $47,000 and the remainder to Ian Richardson.''
The AAT found, as a fact, that the resolution was effective, operative and binding on the Trustee. A later unsigned resolution of the directors purporting to distribute a net income of the Trust for the relevant financial year of $65,330, as to $47,000 to the Second Richardson Family Trust and as to $18,330 to Richardson, was not accepted by the AAT as being effective, operative or binding on the Trustee.
In its 1988 income tax return the Trustee:
- • treated the capital profit of $863,935 as exempt income;
- • recorded a taxable income of $37,330; and
- • recorded the taxable income as being distributed to two beneficiaries, being the Second Richardson Family Trust as to $19,500 and Richardson as to $17,830.
The Commissioner issued assessments to the two beneficiaries on the basis of the income as returned. However, by his amended assessment issued on 15 December 1994, the Commissioner included an amount of $707,622 in Richardson's assessable income. The sum of $707,622 was the balance of the distribution of the profit realised on the two blocks after allowing for a distribution of $47,000 to the Second Richardson Family Trust in accordance with the Trustee's resolution of 24 June 1988. The Statement of Adjustments of the Commissioner was as follows:
``STATEMENT OF ADJUSTMENTS SALE PRICE 18-20 PROSPECT HILL STREET (NET OF LEGAL COSTS) 923,935 LESS 20 PROSPECT STREET: PURCHASE PRICE 60,000 COSTS 1,813 18 PROSPECT STREET: PURCHASE PRICE 155,000 216,813 ------- ------- PROFIT ON SALE 707,122 ------- 1988 RETURN: RICHARDSON FAMILY TRUST TAXABLE INCOME AS RETURNED 65,330 ADD: PROFIT ON SALE OF PROPERTIES 707,122 ------- AMENDED TAXABLE INCOME 772,452 DISTRIBUTION TO SECOND RICHARDSON FAMILY TRUST 47,000 ------- AMENDED DISTRIBUTION TO IAN RICHARDSON 725,452 ------- 1988 RETURN: IAN RICHARDSON AS AMENDED 725,452 AS ASSESSED 17,830 ------- ADJUSTMENT 707,622 ------- 1988 RETURN: SECOND RICHARDSON FAMILY TRUST AS PER CORRECT DISTRIBUTION 47,000 AS ASSESSED 19,500 ------- ADJUSTMENT 27,500 ------- DISTRIBUTION AS PER THE RESOLUTION''
The Commissioner disallowed Richardson's objection to the amended assessment and the AAT affirmed the Commissioner's decision disallowing the objection.
The appeal raises two issues. The first issue is whether the AAT erred in law in concluding that the acquisition, and therefore the profit realised on the sale of No 18 and No 20, arose as an incident to the Trust's deal-making business and not, as was contended by Richardson, as part of a strategy to acquire property for long term investment purposes.
The second issue relates to the operation of s 97(1) of the Income Tax Assessment Act 1936 (Cth) (``the Act'') in circumstances where the net income of the trust estate for the purposes of trust law differs from the net income in relation to a trust estate for the purposes of income tax law. When the trust income and the taxable income differ a problem arises under s 97(1) in translating the present entitlement of a beneficiary to trust income in a year of income under the trust deed into an ``entitlement'' to the assessable income of the trust which a beneficiary is treating as having been derived in the year of income for tax purposes. This issue has plagued tax lawyers for many years: see
Davis & Anor v FC of T 89 ATC 4377 at 4402-4403; (1989) 86 ALR 195 at 229-230 per Hill J. and ``Trust Accounting and Tax'', a paper given by K James at the 1997 Taxation Institute of Australia Victorian/Tasmanian convention.
Is the profit a capital profit?
Counsel for Richardson contends that the two blocks of land were not acquired for, or as part of, the Trustee's business as a building and project developer and manager. Rather, so it is said, they were acquired and held as a long term investment without any intention or purpose of resale at a profit.
Counsel for the Commissioner contended that the AAT had correctly resolved the issue of intention and purpose as an issue of fact against the taxpayer. Accordingly, so it is said, no error of law was made by the AAT. In the alternative, the Commissioner contends that in so far as the issue involves a question of law the AAT addressed that question in accordance with the principles stated in
FC of T v The Myer Emporium Ltd 87 ATC 4363; (1987) 163 CLR 199 and
Westfield Ltd v FC of T 91 ATC 4234; (1991) 28 FCR 333 and quite properly arrived at its conclusion that the profit was derived as
ATC 5104an incident of ``the trust's deal making business.''
In my view the relevant principles are stated by Hill J (with whose reasons Lockhart and Gummow JJ agreed) in Westfield at ATC 4241-4244; FCR 341-345. At ATC 4240-4241; FCR 341 Hill J said:
``At the heart of the appeal is the question whether, in the circumstances found by his Honour, the profit made by the appellant constituted assessable income. The starting point of its resolution is, as both parties agreed, the well known discussion of the Lord Justice-Clerk (the Right Honourable J H A MacDonald), in
Californian Copper Syndicate v Harris (1904) 5 TC 159 at 165-166:
`It is quite a well settled principle in dealing with questions of assessment of Income Tax, that where the owner of an ordinary investment chooses to realise it, and obtains a greater price for it than he originally acquired it at, the enhanced price is not profit in the sense of Schedule D of the Income Tax Act 1842 assessable to income tax. But it is equally well established that enhanced values obtained from realisation or conversion of securities may be so assessable, where what is done is not merely a realisation or change of investment, but an act done in what is truly the carrying on, or carrying out, of a business.'
Later in the judgment (at 166), his Lordship defined the line which separates the two classes of case, by reference to the following question:
`Is the sum of gain that has been made a mere enhancement of value by realising a security, or is it a gain made in an operation of business in carrying out a scheme for profit-making?'
In applying what was said by the Lord Justice Clerk, it is necessary to undertake:
`a wide survey and an exact scrutiny of the taxpayer's activities.'
Western Gold Mines NL v Commissioner of Taxation (WA) (1938) 59 CLR 729 at 740, cited with approval by Gibbs J in
London Australia Investment Company Limited v FC of T 77 ATC 4398; (1976-1977) 138 CLR 106 at 116.)
The test in Californian Copper was applied in more recent times by the High Court in FC of T v Myer Emporium Limited 87 ATC 4363; (1987) 163 CLR 199 and
GP International Pipecoaters Pty Limited v FC of T 90 ATC 4413; (1990) 170 CLR 124.''
After referring to a passage from the judgment of the High Court in Myer Hill J said at ATC 4241; FCR 342:
``The judgment, not only in this passage, but in several later passages (at 211-213), emphasises that where a transaction occurs outside the scope of ordinary business activities, it will be necessary to find, not merely that the transaction is `commercial' but also that there was, at the time it was entered into, the intention or purpose of making a relevant profit.''
and at ATC 4242; FCR 342-343:
``When in Myer the High Court spoke of profits made in the ordinary course of business, their Honours were not speaking in a temporal sense. Rather, as the judgment of the Full Court of this Court in
FC of T v Spedley Securities Limited 88 ATC 4126 at 4130 points out, it is necessary that the purpose of profit-making must exist in relation to the particular operation. In a case where the transaction which gives rise to the profit is itself a part of the ordinary business (eg a profit on the sale of shares made by a share trader), the identification of the business activity itself will stamp the transaction as one having a profit-making purpose. Similarly, where the transaction is an ordinary incident of the business activity of the taxpayer, albeit not directly its main business activity, the same can be said. The profit-making purpose can be inferred from the association of the transaction of purchase and sale with that business activity.''
If, as was the case in Westfield, the Court concludes that the particular activity is not in the ordinary course, or an incident, of the taxpayer's business then the issue of profit- making purpose at the time of acquisition arises. Hill J said at ATC 4243; FCR 343-344:
``Once it is clear that the activity of buying and selling, which generated the profit, was not an activity in the ordinary course of business, or, for that matter, an ordinary incident of some other business activity, the profit in question will only form part of the
ATC 5105assessable income of the appellant, by virtue of its being income in accordance with the ordinary concepts of mankind, if the appellant had a purpose of profit-making at the time of acquisition.''
Hill J concluded at ATC 4243; FCR 344-345:
``While a profit-making scheme may lack specificity of detail, the mode of achieving that profit must be one contemplated by the taxpayer as at least one of the alternatives by which the profit could be realised. Such was the case in Steinberg. But, even if that goes too far, it is difficult to conceive of a case where a taxpayer would be said to have made a profit from the carrying on, or carrying out, of a profit-making scheme, where, in the case of the scheme involving the acquisition and resale of land, there was, at the time of acquisition, no purpose of resale of land, but only the possibility (present, one may observe, in the case of every acquisition of land) that the land may be resold. The same may be said to be the case where s 25(1) of the Act is involved. As the court observed in Myer, in the passage already set out, the property which generates the gain must be acquired in an operation of business or commercial transaction:
`... for the purpose of profit-making by the means giving rise to the profit.'''
Counsel for Richardson placed considerable reliance on this latter passage contending, with some force, that Richardson's evidence was that he did not have the requisite profit-making purpose as required in Myer and Westfield. However, in my view the AAT did not arrive at a finding against Richardson on this point. Rather, the AAT concluded that the acquisition of No 14 and No 20 and the later exchange of No 14 for No 18 arose as an incident of the Trust's ``deal making business'' and not as part of a strategy of the Trust to acquire property for long term rental investment purposes. A fair reading of the AAT's reasons for decision discloses that it:
- • carefully scrutinised the Trust's business;
- • decided that the two additional blocks were acquired as part or as an incident of the ordinary business activities of the Trust; and
- • concluded that the requisite profit-making purpose can be derived from the association between the acquisition and sale of the land and the ordinary business activities of the Trust.
There was ample evidence to support the conclusions of the AAT which were consistent with the principles stated in Westfield. In my view no error of law on the part of the AAT has been demonstrated. Accordingly, the appeal on the first issue, which relates to the assessability of the profit derived from the sale of No 18 and No 20, must fail.
Section 97(1) provides:
``Where a beneficiary of a trust estate who is not under any legal disability is presently entitled to a share of the income of the trust estate-
- (a) the assessable income of the beneficiary shall include-
- (i) so much of that share of the net income of the trust estate as is attributable to a period when the beneficiary was a resident; and
- (ii) so much of that share of the net income of the trust estate as is attributable to a period when the beneficiary was not a resident and is also attributable to sources in Australia; and
- (b) the exempt income of the beneficiary shall include-
- (i) so much of the individual interest of the beneficiary in the exempt income of the trust estate as is attributable to a period when the beneficiary was a resident; and
- (ii) so much of the individual interest of the beneficiary in the exempt income of the trust estate as is attributable to a period when the beneficiary was not a resident and is also attributable to sources in Australia,
- except to the extent to which the exempt income to which that individual interest relates was taken into account in calculating the net income of the trust estate.''
Section 95(1) defines ``net income''
```net income' , in relation to a trust estate, means the total assessable income of the trust estate calculated under this Act as if the trustee were a taxpayer in respect of that
ATC 5106income and were a resident, less all allowable deductions, except deductions under Division 16C and except also, in respect of any beneficiary who has no beneficial interest in the corpus of the trust estate, or in respect of any life tenant, the deductions allowable under section 79E, 79F, 80, 80AAA or 80AA in respect of such of the losses of previous years as are required to be met out of corpus.''
A practical difficulty arises in determining the tax liability in respect of the trust's assessable income, ie ``the trust income for tax purposes'', by reference to a beneficiary's present entitlement to a share of the trust income, ie ``trust income for trust purposes''. Section 97(1) can produce the anomaly of a beneficiary being taxed on income to which the beneficiary is not entitled (eg, where assessable income exceeds the trust income) or not being taxed on income to which the beneficiary is entitled (eg, where assessable income is less than trust income).
The underlying statutory purpose of the section is to ensure that the beneficiary presently entitled to trust income bears a commensurate ``share'' of the tax liability in respect of the taxable income. Unfortunately that purpose is not easily achieved.
In Davis at ATC 4403-4404; ALR 229-230 Hill J summarised the dilemma created by s 97(1):
``In every case where the income for trust law purposes differs from the net income as calculated under sec 95 a difficult question arises as to the application of sec 97 of the Act. In a case, such as would be here the case if sec 260 applied, the `net income' calculated under sec 95 of the Act including the income otherwise purported to be assigned might be seen to be greatly in excess of the income for trust law purposes calculated without regard to the provisions of sec 260. The tax consequences where the trust law income exceeds the tax law income have been the subject of much academic debate cf LG Priddle, `Trusts & Income Tax Concepts of Income' (1978) 8 ATR p 91; RF Edmonds, `The Taxation of Trusts', (1981) 15 Taxation in Australia 398 at pp. 410-411; TW Magney, `Pitfalls in the Future Operation of Trusts in Tax Planning' (1978) 12 Taxation in Australia 650 at 797-799; Munn, `Contemporary Issues of Concern' (1983) Taxation in Australia 362 at 372-376; Woellner, Vella and Chippendale, Australian Taxation Law (1987) CCH Australia Ltd, ¶10-270 to ¶10-290; GL Davies, `Developments in Taxation of Trusts' Taxation in Australia, July 1979, 3 at 14-16; MM Liebler, `Distributions of Trust Income - Some Selected Problems' Tax Essays, Vol 1, RE O'Neill (ed) (Butterworths 1979), among others. As is pointed out by all commentators, there has never been a court decision in which it was necessary to decide between the two competing views which have been put forward, although the matter has enjoyed the attention of Boards of Review: Case C36,
71 ATC 156; Case R32,
84 ATC 298.
The different views are best understood by considering the terms of sec 97 as it stood prior to its amendment in 1979. It will be recalled that these amendments followed upon the Taxation Review Committee, Full Report, 1975 (Asprey Committee Report) and were largely concerned to overcome the problem exposed by the decision of the High Court in
Union Fidelity Trustee Co. of Australia Ltd v FC of T 69 ATC 4084; (1969) 119 CLR 177. Although these amendments do not affect the construction of sec 97 for present purposes they obscure the simplicity of the position by what for the present analysis is unnecessary verbiage.
Section 97 read as follows:
`(1) Where any beneficiary is presently entitled to a share of the income of a trust estate and is not under any legal disability, his assessable income shall include that share of the net income of the trust estate.'
Under the `proportionate view' the opening words of sec 97(1) require a calculation of the share or proportion of the trust law income to which each beneficiary of a trust estate is presently entitled. Once that share or proportion is calculated then the second half of the subsection operates to include in assessable income that same share or proportion of the `net income'. Under this view, provided that there is a beneficiary or there are beneficiaries who are alone or together presently entitled to the whole of the trust law income of a trust estate the net income for tax purposes will be distributed
ATC 5107among those same beneficiaries proportionately and there will be no amount upon which the trustee will be liable to pay tax under the provisions of sec 99 or 99A of the Act.
The alternative view, while accepting as it must that present entitlement can relate only to trust law income and not to tax law income (for the simple reason that the composition of `net income' is merely a matter of computation and may include amounts which have no correlation with assets at all, eg an amount that might be included in the net income under sec 36 of the Act) would construe sec 97 as directing specific attention to a taxpayer's share of trust law income and requiring the inclusion in assessable income only of that part of the net income of the trust estate as is represented by the proportionate part of trust law income. Thus if one assumes that trust law income is to be divided equally between two beneficiaries A and B and the trust law income is $100, where the net income is $200, of which only $100 is represented by the trust law income, only that $100 is distributed equally between A and B under sec 97, leaving there to be a balance undistributed in respect of which the trustee is to be assessed and liable to pay tax under sec 99 or 99A.
It is quite clear that neither interpretation of sec 97 produces a desirable result as a matter of tax policy and the scheme of Div 6 calls out for legislative clarification, especially since the insertion into the Act of provisions taxing capital gains as assessable income. On the proportionate view, a taxpayer may be assessed on amounts he neither did nor could receive; on the alternative view a taxpayer could be taxed on less than he received if the share of trust law income exceeded that part of the net income as is represented by trust law income, and the maximum rate of the tax under sec 99A would be applicable to the balance.''
Before Hill J neither side contended against the proportionate view and his Honour, in a case where the trust income for tax purposes exceeded the trust income for trust purposes, concluded at ATC 4403; ALR 230-231:
``However, the proportionate view does seem to me, as a matter of language, to be the better construction of the section and in the absence of any authority compelling me to adopt the alternative method, I propose to accept it. It was not argued by either side that the proportionate method was incorrect.''
Although the current form of s 97(1) differs slightly from s 97(1) as set out by Hill J, as his Honour pointed out, the differences are not material to the resolution of the issues arising under the section.
The trust income
The Trust's taxable income as returned was $65,330. As a consequence of the assessability to income tax of the profit realised on the sale of No 18 and No 20 the amended taxable income was increased by $707,122 to $772,452. In arriving at that figure the Commissioner treated:
- • what the Trustee had treated as a capital profit as taxable income; and
- • No 18 as having a purchase price of $155,000 whereas No 18 had been treated by the Trustee as having been acquired at no cost.
Accordingly, it is readily apparent that on any view there is a significant divergence between the Trustee's approach to determining the Trust's income for trust purposes and the Commissioner's approach to determining the Trust's income for tax purposes. The problem this created was dealt with by the AAT in two sentences at the conclusion of its decision:
``Since the Tribunal has found that the net income of the Trust estate is the same as the trust income, and that it is assessable under the provisions of s. 25(1). [sic] The issue of apportionment, addressed by the Federal Court in
Davis and Anor v FC of T (1989) 89 ATC 4377, particularly at 4403 per Hill J, does not arise for consideration.''
It is not possible to determine from the decision of the AAT, or the evidence before it, how it arrived at that conclusion. Counsel for the Commissioner relied upon it as a finding of fact but could not point to anything in the decision or the evidence that supported or justified the statement or the finding said to have been made. Indeed all of the material before the AAT pointed to a significant discrepancy between the trust income and the assessable income. In order to arrive at the conclusion that the trust and assessable income were identical a number
ATC 5108of issues were required to be addressed and findings were required. In my view it is clear that the AAT must have erred in law in arriving at its conclusion. The AAT has failed to give real and genuine consideration to the issue before it: see
Flentjar v Repatriation Commission (Federal Court of Australia, Beaumont, Branson and Merkel JJ, 10 October 1997, unreported at 5)
Hindi v Minister for Immigration and Ethnic Affairs (1988) 20 FCR 1 at 12-13;
Broussard v Minister for Immigration and Ethnic Affairs (1989) 21 FCR 472 at 483 and has arrived at its conclusion that the trust and assessable income were identical without any evidence to support it: see
Australian Broadcasting Tribunal v Bond (1990) 170 CLR 321, 335-339.
As was said by Barwick CJ in
Sinclair v Mining Warden at Maryborough (1975) 132 CLR 473 at 478:
``It is settled law that if the person having a duty to hear and consider misconceives what is his relevant duty, he will have failed to perform that duty and may be compelled by mandamus to perform it according to law.''
Ex parte Hebburn Ltd; Re Kearsley Shire Council (1947) 47 SR (NSW) 416 at 420 per Jordan CJ. In the present case, in my view the AAT ``has not considered the real question which was [its] duty to consider'' (see Sinclair at 480) and has therefore misconceived its duty.
However, that is not the end of the matter as both the Commissioner and Richardson contended that there was no need to remit the matter for a further hearing on this issue. According to counsel for the Commissioner, it was unnecessary to determine the amount of the trust income for trust purposes because the distribution pursuant to the Trustee's resolution of 24 June 1988 (of $47,000 to the Second Richardson Family Trust and the balance to Richardson) enabled the ``shares'' of Trust income to be distributed in exactly that manner under s 97(1) for tax purposes. Accordingly, there was no need to remit the matter to the AAT, so it was said, as the shares were correctly distributed by the Commissioner under s 97(1); $47,000 had always been treated as the distribution of taxable income to the Second Richardson Family Trust and the balance of the amended taxable income of $725,452 was to be treated as the amended distribution to Richardson under s 97(1). The Commissioner's submissions would be correct if the resolution was a distribution of taxable, rather than trust, income. However it was a distribution of trust income with the consequence that Richardson's entitlement depended upon the amount of the trust income derived for that year. The answer to that issue required an analysis of the Trust's accounts, the Trust Deed and any relevant determination of the Trustee. The contrast between the Commissioner's approach and that relied upon on behalf of Richardson is demonstrated by the Trust's profit and loss statement for the relevant year.
The Trust's profit and loss statement for the year ended 30 June 1988 states a profit of $37,330, being:
Net Profit $901,265 Less Capital gain on No 18 and No 20 (after deducting ``costs'' of $60,000 and legal fees etc) $863,935 -------- $ 37,330 --------
Counsel for Richardson contended that the books also show that the capital profit of $863,935 was transferred to the capital profits reserve, thereby becoming part of the corpus of the Trust estate with the consequence that, on any view, it is not income to which any beneficiary is presently entitled for the purposes of s 97(1). It was then contended that after the distribution to the Second Richardson [Family] Trust there was no further Trust income to distribute and therefore there was no distribution to Richardson and no share of the income of the Trust estate to which Richardson was presently entitled. If that approach is correct then there would be no need to remit the matter for any further hearing by the AAT as there would be no basis for the amended assessment which was issued to Richardson.
The starting point for the resolution of these submissions is the Trust Deed.
The trust deed
The Trust Deed is in a form which is not uncommon for discretionary family trusts. The ``income beneficiaries'' were Richardson, his wife and their children. The ``corpus beneficiaries'' were the children of Richardson and his wife. The parties have treated the Second Richardson Family Trust as a beneficiary although it is not readily apparent from the Deed and the amendments to it before
ATC 5109the Court that that trust is a beneficiary. In the light of the conclusions I have reached it is not necessary for me to resolve that issue although it may have to be considered further in due course.
The Trust Fund is defined in cl 1(3):
```the Trust Fund' means the said settled sum being a sum paid or to be paid by the Settlor to the Trustee upon the execution hereof all moneys investments and property paid or transferred to and accepted by the Trustee as additions to the Trust Fund the accumulations of income hereinafter directed or empowered to be made all accretions to the Trust fund and the investments and property from time to time representing the said money investments property accumulations and accretions or any part or parts thereof respectively.''
Clause 1(9) defined ``income'' as follows:
```income' shall include any amounts which the Trustee shall in its absolute discretion determine to form income of the Trust Fund whether or not:-
- (a) such amounts constitute income for the purposes of the Income Tax Assessment Act (or any other legislation relating to taxation of any form) or not;
- (b) such amounts arise from investments or personal exertion;
- (c) such amounts constitute gains of a capital nature (which have accrued actually or notionally) for the purposes of any legislation relating to taxation of any form.''
For present purposes it is sufficient to say that the width of the inclusive definition of ``income'' is such that it was open to the Trustee to treat the profit realised on No 18 and No 20 as ``income'' irrespective of whether it was a capital profit for income tax or trust purposes.
Clause 3 provided for the Trustee to apply or set aside the net income of the Trust Fund in each accounting period (which was defined as the twelve months ending on 30 June in each year).
``3 (i) The Trustee shall in each accounting period until the vesting Day pay apply or set aside the whole or such part (if any) as it shall think fit of the net income of the Trust Fund of that accounting period to or for the benefit of or for all or such one or more exclusive of the others or other of the Income Beneficiaries living from time to time in such proportions and in such manner as the Trustee in its absolute discretion and without being bound to assign any reason therefor shall think fit; any amounts set aside for any Income Beneficiary as aforesaid shall not form part of the Trust Fund as defined in Clause 1(3) hereof but shall upon setting aside be thenceforth held by the Trustee as a separate trust fund on trust for such beneficiary absolutely with power to the Trustee pending payment over thereof to such beneficiary to invest or apply to deal with such fund or any resulting income therefrom or any part thereof in the manner provided for in Clause 6 (d) hereof. The application or setting aside of any part of the income of the Trust Fund to or for the benefit of any beneficiary may be effectually made by a resolution of the Trustee that a sum out of or a portion of the net income of the Trust Fund for the accounting period be allocated to such beneficiary or that a sum out of or portion of the net income as defined in Section 95 of the Income Tax Assessment Act of the Trust Fund for the accounting period be allocated to such beneficiary and any resolution of the Trustee allocating income as hereinbefore provided shall be irrevocable and the income of the Trust Fund shall be dealt with as required by such resolution.
(ii) Any income not paid or applied pursuant to the preceding sub-clause in each year of income shall be held by the Trustee in trust for such of the Corpus Beneficiaries as shall be living at the 30th day of June in each year of income and if more than one such beneficiary shall be living at the aforesaid date then equally between them as tenants in common and for the purposes of this sub- clause each date of accrual of each such portion of income shall be deemed to be the date of vesting.
(iii) Notwithstanding anything to the contrary contained in the preceding sub- clauses the Trustee may by resolution in each year of income and at its own discretion determine to accumulate for the benefit of any adult Income Beneficiary to the extent permitted by law and for the benefit of any infant Income Beneficiary during the minority of each such infant or
ATC 5110infants any income derived in such year of income which the Trustee shall have appropriated for such infant or infants and the Trustee may postpone the payment of such accumulations to any such infant or infants until the date of vesting and until the aforesaid date any such accumulations shall be treated as an accretion to the Trust Fund. The Trustee may from time to time resort to any accumulations and apply them as income at any subsequent time or times prior to the date of vesting.''
Clause 1(8) defines ``set aside'' as including the placing of sums to the credit of a beneficiary in the books of the Trust Fund.
In the present case the Trustee resolved to ``pay, apply or set aside'' the whole of the ``net income of the Trust'' for the accounting period ended 30 June 1988 to the Second Richardson Family Trust as to $47,000 and ``the remainder to Ian Richardson''. Although it was open to the Trustee under cl 3(i) to resolve to distribute the net income in relation to the Trust estate as defined in s 95 of the Act and therefore avoid the problems raised by s 97(1) to which I have referred, it did not do so.
As the resolution distributed the whole of the net income of the Trust for the relevant accounting period no question of a distribution of part of the income to the corpus beneficiaries under cl 3(ii) or an accumulation of part of the income under cl 3(iii) arises. However, it does not follow that the profit realised on the sale of No 18 and No 20 is to be distributed to the two beneficiaries; the distribution is to be the ``net income of the Trust Fund'' which might include ``income'' as defined in cl 1(9) and determined by the Trustee to form income of the Trust Fund.
Whilst there is some force in the contention of counsel for Richardson that the Trustee has treated the profit from the sale of the two properties as capital and not income for the purposes of the Trust Deed, understandably, the material relied upon to support that conclusion are the books of account prepared some months after the end of the relevant accounting period. If counsel is correct in his contention, that would have the result that the major part of the income in relation to the Trust estate as defined by s 95(1) of the Act would be income to which no beneficiary is presently entitled thereby raising the problem as to how that assessable income is to be distributed under s 97(1).
Clause 3(i) of the Trust Deed requires the Trustee to distribute the net income ``in each accounting period''. The net income to be distributed in respect of each accounting period is to be ascertained by reference to the ``income'' determined by the Trustee to form income of the Trust Fund for that period. The determination of income under cl 1(9) that is to form part of the net income of the Trust Fund under cl 3(i) is a critical step in determining the income to which a beneficiary is presently entitled under s 97(1) as a result of any distributions of income under cl 3(i).
The resolution of 24 June 1988 was passed prior to the completion of the accounting period. As at 24 June 1988 the quantum of the net income, as opposed to the distribution of and therefore entitlement to the net income, remained to be determined in accordance with the Trust Deed. The quantum of the net income which was to be distributed by reason of the resolution was a question of fact to be determined by the AAT having regard to the material placed before it, including material relating to whether the Trustee has made a determination in respect of that income under cl 1(9). As this particular issue was not the subject of detailed argument before me and the matter is to be remitted to the AAT, inter alia on this question, it is undesirable for me to say any more than that:
- • the determination of the net income of the Trust estate for trust purposes is a question of fact for the AAT;
- • the income is to be determined in accordance with the Trust Deed and any applicable determinations of the Trustee under cl 1(9); and
- • subject to the above matters, proper trust accounting principles are likely to be relevant to the determination of the net income.
As pointed out earlier I am satisfied that the AAT has not carried out its task in relation to these matters in accordance with law. The determination of the net income of the Trust estate is the starting point for the operation of s 97(1) as it will enable the ascertainment of the income of the Trust estate to which the two beneficiaries are presently entitled. If, and to the extent that, the net income is less or greater than the assessable income of the Trust estate that will raise the vexed issue of the operation of s 97(1).
In the light of my findings to date the appeal on the second issue must be allowed and the matter remitted to the AAT for it to determine the net income of the Trust estate for trust purposes. The fact that the profit realised from the sale of No 18 and No 20 is assessable income under s 25(1) of the Act is not determinative of whether that profit is income for trust purposes. However, the reason why the profit is assessable income might be relevant to that issue.
As it is almost inevitable that the Trust income and the taxable income will be different, it will almost certainly be necessary for the AAT to consider the application of s 97(1). In order to assist it in that task I will set out my views on the operation of the section.
The operation of section 97(1)
As I have already pointed out the purpose of the section is to provide for the tax assessed on trust income to be borne by the beneficiaries entitled to that income in shares which are commensurate with their entitlement. Unfortunately, as was said by Hill J in Davis, the vagaries of tax law can often result in the taxable income of a trust estate for tax purposes bearing little relationship to trust income of the trust estate for trust purposes. In a case where the taxable income is less than the trust income the purpose is satisfied by the proportionate approach. In that way the tax liability will follow the trust distribution proportionately so that if two beneficiaries are each presently entitled to 50% of a trust income of say $20,000, it will give effect to the statutory purpose for each beneficiary to be liable to tax for their ``shares'', ie 50% of the taxable income of say $8,000. That is achieved under s 97(1)(a) by the sum of $4,000 forming part of each of the beneficiary's assessable income.
A proportionate approach does not, however, satisfy the statutory purpose when the trust income is less than the trust's assessable income. That approach will result in a beneficiary having a liability in respect of taxable income to which the beneficiary was not and will not be presently entitled. Reversing the above example if the trust income of $20,000 is distributed equally to the two beneficiaries but the taxable income is $50,000 then on the proportionate approach each beneficiary will have a liability for 50% of the taxable income, being $25,000 each, yet each will only have a present entitlement to the trust income of $10,000. That anomalous and capricious result arises as the additional $30,000 of taxable income is, notionally speaking, ``income'' to which no beneficiary is presently entitled. It would be consistent with the statutory purpose for the trustee to bear the tax liability for the $30,000 under s 99 or s 99A as the ``shares'' of each beneficiary to the trust income are $10,000 each respectively. The remaining but notional ``share'' of $30,000, being undistributed ``income'' to which no beneficiary is presently entitled, is properly, and I add fairly, assessed as income of the trustee. The problem with the above approach is that it gives a different operation to the phrase ``share of the net income of the trust estate'' depending on whether the trust income is less (ie a proportionate ``share'') or greater (ie a quantum ``share'') than the taxable income. Is that approach to statutory construction permissible?
As is clear from the above analysis and that of Hill J in Davis the words of s 97(1) - ``that share of the net income of the Trust estate'' - are not clear or unambiguous.
In such circumstances the modern rule of construction is to resolve the uncertainty as to their operation by giving effect to the legislative purpose: see for example s 15AA of the Acts Interpretation Act 1901 (Cth). I considered the authorities in that regard recently in
Wang v Minister for Immigration and Multicultural Affairs (1997) 45 ALD 104 at 110-112. In Wang I said that where a judge concludes that the legislature could not have intended that a statute could operate in a manner which defeats its manifest object or purpose, then an alternative interpretation must be preferred. I referred to the substantial body of authority that supports that approach.
Cooper Brookes (Wollongong) Pty Ltd v FC of T 81 ATC 4292; (1980-1981) 147 CLR 297 several members of the High Court declined to adopt a literal construction which would defeat the object or purpose of the enactment. Stephen J (at ATC 4299; CLR 311) declined to adopt a literal application when to do so:
``... will, in the words of Fry L.J., be to construe `the Act in order to defeat its object rather than with a view to carry its object into effect'; Curtis v. Stovin.''
Mason and Wilson JJ said at ATC 4305-4306; CLR 320-321 that departure from the ordinary
ATC 5112grammatical sense is not restricted to cases of absurdity or inconsistency. Their Honours said in a much cited passage at ATC 4306; CLR 321 that:
``... when the judge labels the operation of the statute as `absurd', `extraordinary', `capricious', `irrational' or `obscure' he assigns a ground for concluding that the legislature could not have intended such an operation and that an alternative interpretation must be preferred. But the propriety of departing from the literal interpretation is not confined to situations described by these labels. It extends to any situation in which for good reason the operation of the statute on a literal reading does not conform to the legislative intent as ascertained from the provisions of the statute, including the policy which may be discerned from those provisions.
Quite obviously questions of degree arise. If the choice is between two strongly competing interpretations, as we have said, the advantage may lie with that which produces the fairer and more convenient operation so long as it conforms to the legislative intention. If, however, one interpretation has a powerful advantage in ordinary meaning and grammatical sense, it will only be displaced if its operation is perceived to be unintended.''
These principles have been applied more recently. In
MacAlister v. R (1990) 169 CLR 324 Mason CJ, Dawson, Toohey, Gaudron and McHugh JJ said at 330:
``To give the words `an offence' in s. 77 their literal meaning would defeat the purpose of the legislation and produce the unreasonable result that there was no right of appeal from the County Court against a s. 70(b) order. Such a result was certainly not intended. On the other hand, if the words `an offence' are read as `his or her offence', as we think their context and the apparent intention of the section suggest they should be read, the provision has a sensible meaning which gives effect to its evident purpose. In Luke v. Inland Revenue Commissioners, Lord Reid, when confronted with a similar problem, said:
`The general principle is well settled. It is only where the words are absolutely incapable of a construction which will accord with the apparent intention of the provision and will avoid a wholly unreasonable result, that the words of the enactment must prevail.'''(footnotes omitted)
Saraswati v R (1991) 172 CLR 1, after referring to the passage from the judgment of Mason and Wilson JJ in Cooper Brookes which I have set out above, McHugh J said at 22:
``Moreover, once a court concludes that the literal or grammatical meaning of a provision does not conform to the legislative purpose as ascertained from the statute as a whole including the policy which may be discerned from its provisions, it is entitled to give effect to that purpose by addition to, omission from, or clarification of, the particular provision: see Kammins Ballrooms Co. Ltd. v. Zenith Investments (Torquay) Ltd.; Jones v. Wrotham Park Settled Estates; Cooper Brookes; In re Lockwood.''
Hospital Benefit Fund of Western Australia Inc v Minister for Health, Housing and Community Services (1992) 111 ALR 1 at 6 per Wilcox, Burchett and French JJ,
Kingston & Anor v Keprose Pty Ltd (1988) 6 ACLC 226 at 240-241; (1987) 11 NSWLR 404 at 421-424 per McHugh JA,
Centronics Systems Pty Ltd & Ors v Nintendo Co Ltd (1992) 111 ALR 13 at 57 per Beaumont and Burchett JJ and
Collector of Customs v Agfa-Gevaert Limited 96 ATC 5240 at 5247; (1996) 186 CLR 389 at 401-402.
There are numerous cases in which courts in the United Kingdom have applied similar principles to give effect to, rather than defeat or frustrate, the manifest intention or purpose of the legislature: see FAR Bennion, Statutory Interpretation: a code (2nd ed, 1992) at 334-5, 711 and 723-5. This was particularly so where the narrow literal construction leads to an operation of the law that flouts common sense and justice. In such circumstances the Court does not disregard or override the statute but interprets it:
``... in accordance with the judicially presumed parliamentary concern for common sense and justice.''
Re: Maryon- Wilson's Will Trusts  Ch 268 at 282 per Ungoed-Thomas J.
Very recently the High Court has had occasion to reiterate the role of ``logic and commonsense in matters of statutory
ATC 5113construction'': see Agfa-Gevaert at ATC 5247; CLR 402 per Brennan CJ, Dawson, Toohey, Gaudron and McHugh JJ.
Lord Diplock observed in ``The Courts As Legislators'' in The Lawyer and Justice (Sweet & Maxwell, 1978) at 274-
``if... the Courts can identify the target of Parliamentary legislation their proper function is see that it is hit; not merely to record that it has been missed.''
Such considerations recently led Lord Templeman to comment in
Re M. (A Minor) (1994) 2 AC 424 at 438:
``My Lords, this appeal is an illustration of the tyranny of language and the importance of ascertaining and giving effect to the intentions of Parliament by construing a statute in accordance with the spirit rather than the letter of the Act.''
See also Statutory Interpretation (Bennion) at 549-50.
In giving effect to these principles it has been long accepted that the legal meaning of an enactment includes what is necessarily or properly implied so as to give effect to the legislative intention gleaned from the language used: see
Chorlton v Lings (1868) 4 CP 374 at 387 per Willes J and Statutory Interpretation (Bennion) at 361-368.
The cause of the s 97(1) problem is easy to identify. The statutory requirement that a share of a trust's assessable income be determined by reference to a share of trust income assumes that two fundamentally different concepts can be treated as the same for the purpose of determining the tax consequences of a present entitlement to trust income.
Notwithstanding the anomaly created by the legislative requirement, its purpose is clear. The relevant statutory provisions are not clear and unambiguous. In these circumstances the court will prefer a construction that gives effect to the statutory purpose rather than one which defeats it. However, to give effect to the statutory purpose, different approaches to the operation of s 97(1) and in particular to the meaning of a ``share'' for the purposes of s 97(1) need to be adopted depending on whether the trust income is less or greater than the trust's assessable income. I am satisfied that the authorities to which I have referred warrant that approach, particularly when it is necessary to avoid capricious, arbitrary and clearly unintended consequences. As was said by McHugh J in Saraswati at 22 the court is entitled to give effect to the statutory purpose ``by addition to, omission from or clarification of, the particular provision''.
In my view s 97(1) and the difficulties to which I have referred require that that principle of construction be employed to ensure that when trust income exceeds the trust's taxable income a proportionate approach is adopted to determining the distribution of assessable income to beneficiaries presently entitled under s 97(1). But, when the trust's taxable income exceeds the trust income a quantum approach is to be adopted to determine the distribution of assessable income in relation to the beneficiary presently entitled to the trust income under s 97(1). In the latter case the deficiency will be undistributed ``income'' to which no beneficiary is presently entitled and will be taxable income of the trustee under s 99 or s 99A of the Act.
The approach I have adopted to the operation of s 97(1) ensures that those entitled to the trust income, including the trustee in respect of ``income'' to which no beneficiary is presently entitled, bear their commensurate ``share'' of the tax liability in respect of the trust's income. I would add that where the trustee is assessed under s 99 or s 99A no capricious, unfair or anomalous result arises. The situation is usually one which is avoidable by the trustee, if it so desires, by exercising its power under the deed to ensure that there has been a distribution of all of the assessable income. In any event it is difficult to perceive any unfairness in the trustee's tax liability being borne by the trust estate, rather than the beneficiaries who did not become entitled to the ``income'' giving rise to the liability.
I appreciate that the conclusion at which I have arrived is different from that expressed by Hill J in Davis. However in Davis no submission was made or argument put to Hill J against the conclusion at which his Honour arrived. That is not so in the present case. Further, the approach to construction which I have adopted was not put to or considered by his Honour.
For these reasons I am satisfied that the appeal has not succeeded in so far as it relates to the decision of the Commissioner to treat the sum of $707,122 as part of the taxable income
ATC 5114of the Richardson Family Trust for the year of income ended 30 June 1988. However, the appeal has succeeded and is to be allowed in so far as it relates to the inclusion of a substantial part of that assessable income in the amended assessment issued by the Commissioner to Richardson. Accordingly, it is appropriate that the matter be remitted to the AAT to be determined in accordance with law and in particular with these reasons for judgment.
Subject to hearing the submissions of the parties, it seems to me that the appropriate orders are as follows:
- 1. The appeal be allowed in part.
- 2. The decision of the AAT be set aside.
- 3. The matter be remitted to the AAT to be determined in accordance with law.
It may also be appropriate for declaratory relief to be granted in respect of the operation of s 97(1): see
Baxter Healthcare Pty Ltd v Comptroller-General of Customs (Full Federal Court, Burchett, Moore and Merkel JJ, 21 February 1997, unreported) at 33 per Burchett J.
The appeal involved two issues. Richardson failed on one but succeeded on the other. It seems appropriate that the Commissioner pay 50% of Richardson's taxed costs of and incidental to the appeal.
I will hear the parties on the issue of costs and also as to the orders that are appropriate, having regard to conclusions I have reached.
THE COURT DIRECTS THAT:
The parties submit Minutes of Orders to give effect to the reasons for decision in this matter.