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FC of T v ORICA LIMITED (FORMERLY ICI AUSTRALIA LIMITED)

Judges: Brennan CJ

Gaudron J
McHugh J
Gummow J
Kirby J
Hayne J
Callinan J

Court:
Full High Court

Judgment date: Judgment delivered 12 May 1998

Gaudron, McHugh, Kirby and Hayne JJ

The issue

42. The taxpayer, having liabilities that will fall due for payment in the future, agrees with a third party that in return for the taxpayer's payment of the present value of those liabilities, the third party will (when the liabilities fall due) pay amounts sufficient to discharge the taxpayer's liabilities. Is the difference between the amount paid by the taxpayer and the face value of the liabilities to be brought to taxation whether as income, profit or capital gain?

The facts

43. Before 1986, the respondent (``the taxpayer'') issued debentures to the public pursuant to two debenture trust deeds, the first dated 17 October 1966 and the second dated 10 August 1970. Each of those deeds was made between the taxpayer, one or more of its subsidiaries as guarantor, and a trustee company as trustee for debenture holders. The 1966 deed provided for the issue of debentures not exceeding a total nominal amount of $10 million. The 1970 deed provided for the issue of debenture stock to a nominal value of $10 million but provided also that, in addition to the initial issue of debenture stock, the amount of debenture stock which the taxpayer might create and issue was unlimited. Each deed provided, however, some limitations on the amounts that the company might borrow. Among the limitations was a requirement that the taxpayer not permit or suffer the total liabilities of the taxpayer (and subsidiaries of the taxpayer guaranteeing repayment of the principal moneys secured by the trust deed) to exceed a specified percentage of the amount of the tangible assets of the taxpayer and those guarantor companies. It is not necessary to notice otherwise the detail of the borrowing limitations.

44. On 31 May 1986, the total amount outstanding under the two trust deeds was about $98.7 million. Various debenture issues had been made with different maturity dates and coupon rates. By 1986 the borrowing restrictions imposed by the trust deeds were seen by the taxpayer as a burden. The taxpayer was considering making significant acquisitions which would be financed largely by debt and some of the assets which it intended to acquire were intangible assets which would be excluded from the assets taken into account in making the calculation of asset to liabilities ratios required by the trust deeds. The taxpayer's principal shareholder was unwilling to support the raising of equity by a fresh issue of shares and accordingly the taxpayer's board began to consider what steps it might take which would permit it to give effect to its plans.

45. In March 1986 the taxpayer's board approved a proposal that the taxpayer enter two separate liability assumption agreements. The

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paper submitted to the board described the proposal in the following terms:

``Under the principal assumption agreement [ the taxpayer] would pay to a Principal Assumption Party an amount calculated as the net present value of the debenture principal repayments only, discounted at a rate approximating the Commonwealth Bond yield for each of the principal repayment dates. The amount of principal assumed would be $99 million and the payment required would be approximately $59 million which could be provided from available cash sources of the company.

In the interest assumption agreement [ the taxpayer] would undertake to make a series of payments to a Interest Assumption Party to coincide precisely with existing debenture interest obligations. A fee would be payable to the Interest Assumption Party as consideration for assuming the primary legal responsibility for these payments.

It is expected that an extraordinary profit of approximately $17 million (after tax) would arise from the two transactions in the 1986 year comprising a capital profit of $40 million on the principal assumption less $23 million (after tax) for the interest assumption payments.''

The paper submitted to the board also proposed that debenture holders be given an option to redeem their holdings before maturity. This last aspect of the proposal did not proceed because it was thought that too many debenture holders would accept the option.

46. On 6 June 1986, the taxpayer made four agreements:

  • - a ``Principal Assumption Agreement'' between the taxpayer, ANZ Executors & Trustee Company Limited (``ANZET''), Melbourne and Metropolitan Board of Works (``MMBW'') and four companies associated with the taxpayer and referred to in the agreement as guarantors;
  • - an ``Interest Assumption Agreement'' between the taxpayer, ANZET, State Bank of New South Wales and the guarantors;
  • - a ``Second Amending Deed to 1966 Debenture Trust Deed'' between the taxpayer, ANZET and the subsidiary of the taxpayer named in the 1966 trust deed;
  • - a ``Second Amending Deed to 1970 Debenture Stock Trust Deed'' between the taxpayer, ANZET and the subsidiary of the taxpayer named in the 1970 trust deed.

ANZET was then trustee under both the 1966 deed and the 1970 deed having become trustee in the place of The Trustees Executors & Agency Company Limited (the original trustee) pursuant to the ANZ Executors & Trustee Company Act (Vic).

The Principal Assumption Agreement

47. The Principal Assumption Agreement provided that on 6 June 1986 the taxpayer should pay to ANZET (``the trustee'') (for the account of MMBW) ``in consideration for the agreement by [ MMBW] under Clause 3, an amount equal to the aggregate of the respective Present Values of the respective principal amounts of all Stock''. ``Stock'' was defined by the agreement as meaning all debentures and debenture stock issued and from time to time outstanding pursuant to either of the trust deeds. ``Present Value'' of stock was defined as meaning:

``in respect of the principal amount of any Stock, the amount obtained by discounting that amount, from the maturity date of that Stock to the Payment Date [ 1 July 1986], at the Discount Rate in respect of that amount, calculated semi-annually in arrears.''

The ``Discount Rate'' was defined, in effect, as a rate equal to the yield rate for Commonwealth Government Bonds maturing on or reasonably close to the maturity date of the stock in question, less 0.03 per cent per annum. The Principal Assumption Agreement obliged the trustee to invest the amount to be paid by the taxpayer on 6 June 1986 until 1 July 1986 and on that day to pay to MMBW the amount which had been paid by the taxpayer. (Interest which accrued in the meantime on the amount paid by the taxpayer was to be paid by the trustee to the taxpayer.)

48. Clause 3 of the Principal Assumption Agreement provided:

``(a) In consideration for the payment to be made by the Company [ the taxpayer] under Clause 2(a), the Assumption Party [ MMBW] shall, on and after the Assumption Date [ 6 June 1986], assume in the manner provided in this Agreement the obligations of the Company to make due and punctual payment of the principal amount of

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all Stock in accordance with Clause 3 of each of the Trust Deeds and notwithstanding that after the date hereof an order is made for the winding up or dissolution of the Company or that the Company enters into any composition or arrangement binding on its creditors generally; and the Assumption Party shall indemnify the Company and the Guarantors, and keep them indemnified, in respect of such obligations.

(b) Unless otherwise agreed between the Assumption Party and the Trustee, the Assumption Party shall pay or cause to be paid to a bank account held in the name of the Trustee and nominated by the Trustee the amounts payable by the Assumption Party under Clause 3(a) and such payment shall be in pro tanto satisfaction of the obligations of the Assumption Party under Clause 3(a) and likewise in pro tanto satisfaction of the obligations of the Company as to repayment of principal under Clause 3 of each of the Trust Deeds.

(c) Unless otherwise required by the Trustee, the Company shall procure that the Registry dispatches cheques drawn on the bank account referred to in Clause 3(b) to the relevant Stockholders and, subject to Clause 3(a) and (b), the Company shall bear the cost of such dispatch by the Registry. For this purpose, unless the Trustee otherwise requires, the Trustee shall authorise appropriate officers of the Registry to operate on the said bank account.

(d) The Company shall, at its own expense, procure that the Auditors check the completion and dispatch of the cheques to be dispatched under Clause 3(c) and that the Auditors confirm in writing to the Company, the Trustee and the Assumption Party, within three (3) days after such dispatch, that payment has been made to the Stockholders entitled thereto and the date on which it was made.''

In order to understand the operation of that provision, it is necessary to refer to cl 3 of each of the trust deeds because it is the obligation of the taxpayer to make due and punctual payment of the principal amount of all stock in accordance with that clause which MMBW assumed under the Principal Assumption Agreement. Clause 3(1) of the 1970 trust deed provided:

``The Company hereby acknowledges its indebtedness to the Trustee in respect of the moneys hereby secured and covenants with the Trustee that as and when any of the Debenture Stock in issue shall become payable in accordance with the terms of issue thereof or on such earlier date as the security hereby constituted becomes enforceable the Company shall pay to the Trustee in Melbourne aforesaid the principal interest and premium (if any) payable in respect of such Debenture Stock in issue and such payment shall operate in satisfaction of the Company's obligations to the holders thereof in respect of such Debenture Stock PROVIDED always and notwithstanding the foregoing and unless otherwise required by the Trustee the Company will pay to the Debenture Stockholders all principal interest and premium (if any) payable in respect of the Debenture Stock PROVIDED further and subject to the provisions of the proviso of clause 3(1) and notwithstanding the other provisions of clause 3(1) payment to the Debenture Stockholders of principal interest and premium (if any) in accordance with the terms and conditions appearing on their Stock Certificates shall operate pro tanto in satisfaction of the principal interest and premium (if any) payable in respect of the Debenture Stock the indebtedness for which is acknowledged by this Clause.''

Clause 3 of the 1966 deed is worded slightly differently but those differences are not important.

49. A schedule to the Principal Assumption Agreement identified the maturity dates and principal amount of stock then on issue. The aggregate of those principal amounts was $98,662,800. The maturity dates ranged from 30 November 1986 to 31 January 2000.

The Interest Assumption Agreement

50. By the Interest Assumption Agreement the taxpayer agreed that on each day for the payment of interest in respect of stock on issue it would pay to State Bank of New South Wales the amount of interest payable in respect of the stock on that date, together with an amount equal to 0.125 per cent of the amount of interest then payable. In consideration for the taxpayer's agreement to make those payments, State Bank of New South Wales agreed ``on and after the Assumption Date [ 6 June 1986], [ to] assume the obligations of [ the taxpayer] to

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make due and punctual payment of all amounts of interest in respect of the Stock in accordance with Clause 3 of each of the Trust Deeds''.

51. No issue arises in these appeals about the Interest Assumption Agreement or the steps taken under it.

The amendments to the debenture trust deeds

52. Each of the amending deeds provided that no further debenture stock could be issued under the deed which was being amended. Each provided that the trustee released the charge created by the trust deed. Each provided for acceleration of the taxpayer's obligations to pay principal and interest if it defaulted in making due and punctual payment of amounts due under the deed. Most other clauses of the two trust deeds were deleted by the amending deeds.

53. On 6 June 1986, pursuant to the Principal Assumption Agreement, the taxpayer paid to the trustee $62,309,546 and on 1 July 1986 the trustee paid that amount to MMBW. During the year ended 30 September 1986 the taxpayer paid the State Bank of New South Wales $3,410,626 pursuant to the Interest Assumption Agreement.

54. In its profit and loss account for the year ended 30 September 1986 (appended to its tax return for that year) the taxpayer, under the heading ``Extraordinary Profit'', disclosed what it described as a `` [ c]apital profit arising from refinancing Company's debenture borrowings under separate principal and interest liability assumption agreements''. The amount of that capital profit was said to be $36,353,254 being the difference between `` [ p]rincipal liability transferred to assumption party'' of $98,662,800 and the ``payment to assumption party'' of $62,309,546. The profit and loss account offset against that amount what were described as `` [ f]ees payable from 1/7/86 until maturity of debentures in respect of interest liability assumption'' (an amount of $50,629,595). It also disclosed a future income tax benefit of $23,289,615 being the future tax benefit of future obligations at the then applicable company tax rate.

55. In a note to its statutory accounts for the year ended 30 September 1986 the taxpayer referred to the transactions as having resulted in ``extraordinary net gains'' to the taxpayer and its associated group of companies which had ``arisen from capital profits... on the liability assumption offset by liabilities and related tax benefits brought to account for facility fees''. The amount of this ``capital profit'' was recorded as $36.4 million, that is, the difference between the total amount of the principal liability in respect of the debentures and the amount of the taxpayer's payment under the Principal Assumption Agreement.

The Commissioner's assessments

56. The Commissioner issued a notice of assessment in respect of the 1986 year on 14 May 1987 and subsequently issued amended assessments in respect of that year on 20 April 1988, 23 April 1990 and 11 February 1991. The detail of the assessment and subsequent amendments is not important. In effect, the Commissioner added $36,353,254 to the taxpayer's taxable income for the year ended 30 September 1986 on the basis that the difference between the total principal amount that the taxpayer would have been obliged to pay as principal in respect of the debentures, and the amount that it paid to MMBW, was assessable income. The Commissioner disallowed the taxpayer's claimed deduction in respect of the payments which it made to State Bank of New South Wales but the taxpayer's objection to this disallowance was later allowed.

57. For the year ended 30 September 1987 the Commissioner issued an assessment on 18 March 1988 and amended assessments on 6 June 1988 and 29 April 1991. Again, their detail is not important. In effect, the Commissioner added to the taxpayer's income an amount of $8,033,418 in respect of ``profit made from debt defeasance transactions included as income''.

58. The taxpayer objected to the assessments made with respect to the 1986 and 1987 years of income and, when the objections were disallowed, asked that the decision on each objection be referred to the Federal Court of Australia.

The Federal Court decisions

59. At first instance, Ryan J held that ``the difference between the amount payable under the principal assumption agreement and the face value of the [ taxpayer's] debentures is assessable as income of [ the taxpayer] under either s 25 or s 25A'' [65] ICI Australia Limited v FC of T 94 ATC 4600 at 4625; (1994) 125 ALR 63 at 93. of the Income Tax Assessment Act 1936 (Cth) (``the Act''), but that ``it should be assessed as accruing in the manner stipulated in Div 16E of Pt III'' [66] 94 ATC 4600 at 4625; (1994) 125 ALR 63 at 93. of the Act. The Commissioner had assessed the

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taxpayer on the basis that the Principal Assumption Agreement was a ``qualifying security'' within the meaning of that Division, that it was the ``holder'' of that security as therein defined, and that the taxpayer as ``holder'' was required by s 159GQ(1) to include a portion of the gain from the Principal Assumption Agreement in its assessable income for the year of income ended 30 September 1986.

60. The taxpayer appealed to the Full Court of the Federal Court which, by majority, allowed the appeal. [67] ICI Australia Limited v FC of T 96 ATC 4680; (1996) 68 FCR 122. The majority of the Court (Lockhart J with whose reasons Sheppard J agreed) held that the difference between the amount paid by the taxpayer under the Principal Assumption Agreement and the amount that it would have been required, but for the agreement, to pay to redeem the debentures was not income according to ordinary concepts [68] 96 ATC 4680 at 4690; (1996) 68 FCR 122 at 133. and was not income arising from a profit- making scheme. [69] 96 ATC 4680 at 4692; (1996) 68 FCR 122 at 135.

61. On appeal to the Full Court of the Federal Court the Commissioner had contended, as an alternative basis for upholding the assessments, that Pt IIIA of the Act applied and that the taxpayer had made a capital gain. [70] This contention was first made by the Commissioner in response to requests made by the taxpayer for further and better particulars of the basis of the assessments. The primary judge did not find it necessary to decide the question. The majority of the Full Court held that the taxpayer's rights under the Principal Assumption Agreement were not an ``asset'' within the meaning of Pt IIIA of the Act 1842 [71] 96 ATC 4680 at 4694; (1996) 68 FCR 122 at 138. but that, even if those rights did amount to an asset, there was no disposal of it by MMBW's performing its obligations under the Principal Assumption Agreement. [72] 96 ATC 4680 at 4694; (1996) 68 FCR 122 at 138.

62. All of the judges in the Full Court held that Div 16E of Pt III of the Act did not apply. [73] 96 ATC 4680 at 4691-4693; (1996) 68 FCR 122 at 135-137 per Lockhart J, ATC 4700; FCR 147 per Sundberg J.

63. Sundberg J concluded that the taxpayer made a profit or gain when each of the relevant debentures matured and, in performance of its obligations under the Principal Assumption Agreement, MMBW paid the taxpayer's debt to the debenture holder. [74] 96 ATC 4680 at 4699; (1996) 68 FCR 122 at 145. The profit was ``analogous to interest'' and was income according to ordinary concepts because ``it was recompense for the loss of use of the [ taxpayer's] money''. [75] 96 ATC 4680 at 4700; (1996) 68 FCR 122 at 146. He also held that the taxpayer made a profit from the carrying out of a profit-making scheme within s 25A(1). [76] 96 ATC 4680 at 4700; (1996) 68 FCR 122 at 146.

64. By special leave, the Commissioner appealed to this Court. Three principal contentions were advanced in support of the appeal:

  • 1. that the difference between the amount paid by the taxpayer to MMBW and the face value of the debentures was income according to ordinary concepts or was a profit arising from the carrying out of a profit-making scheme;
  • 2. that the income or profit was derived as each of the taxpayer's debentures was redeemed following payment made by MMBW; and
  • 3. that if the taxpayer had not derived income or profit, it had nevertheless made a capital gain as each of its debentures fell due for payment and was paid because it then disposed of an asset (in whole or in part) when MMBW performed its obligation to make the payment which it did.

The Commissioner expressly disclaimed any reliance upon Div 16E. Because none of the taxpayer's debentures fell due for payment in the year ended 30 September 1986, but some did in the 1987 year, the Commissioner acknowledged in argument that if his contentions were accepted, his appeal to this Court in relation to the 1986 year would fail.

65. It is convenient to deal first with whether the taxpayer derived income (as income is ordinarily to be understood) or made a profit from a profit-making scheme.

Income or profit?

66. Consideration of these matters must begin from an understanding of the effect of the Principal Assumption Agreement. In particular, it must begin from the recognition that following the making of the Principal Assumption Agreement, the taxpayer remained liable on its debentures. MMBW agreed that it would ``assume... the obligations of the [ taxpayer] to make due and punctual payment of the principal amount of all Stock in accordance with Clause 3 of each of the Trust Deeds'' [77] Principal Assumption Agreement, cl 3(a). and agreed that it would indemnify the taxpayer and its guarantors, and keep them indemnified, in respect of those obligations. But this stops well short of discharging the taxpayer from the obligations which it owed under each of the trust deeds. Those obligations included the obligation to pay to the trustee the principal due on each debenture subject to the proviso that in the absence of contrary direction by the trustee, the taxpayer would pay the principal

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(and interest) due on the debentures to the debenture stock holders directly (such payment being pro tanto in discharge of the taxpayer's obligations to the trustee). [78] 1966 Trust Deed, cl 3(a); 1970 Trust Deed, cl 3(1).

67. No debenture stock certificates were tendered in evidence. Assuming, as the parties invited us to do, that the certificates issued to debenture holders took the form appearing in the schedule to each of the relevant trust deeds, it seems likely that the taxpayer bound itself to the individual stockholders to repay the principal of the debenture on the due date. It is, however, not necessary to pursue this aspect of the matter further. For present purposes it is enough to note that the taxpayer's obligations under the trust deed were not swept away by the Principal Assumption Agreement.

68. It follows that when MMBW made its first payment to the trustee under the Principal Assumption Agreement, it made a payment that was applied in satisfaction of an obligation of the taxpayer. Thus, each time MMBW made a payment under the Principal Assumption Agreement the taxpayer received a benefit, being the discharge of the obligation which the taxpayer owed its debenture holders. The amount, and the character of the benefit as income or capital, require separate consideration. It will be necessary to return to those subjects but before doing so, some other aspects of the Principal Assumption Agreement should be noted.

69. The taxpayer made a single payment under the Principal Assumption Agreement - $62,309,546. That agreement required payment of ``an amount equal to the aggregate'' [79] Principal Assumption Agreement, cl 2(a). of the respective present values of the debenture stock then on issue. MMBW's obligation under that agreement was to make a series of payments - a payment as each debenture issue fell due for repayment. On no view, then, did the taxpayer receive, at the time of the making of the Principal Assumption Agreement, a benefit which was to be calculated as the difference between the amount which it outlaid under that agreement and the total amount which MMBW bound itself to pay in the future. At the time of the making of the agreement, the taxpayer received nothing except MMBW's promise to perform in the future. That promise is not income.

70. Next, little or no guidance is offered by considering what other transactions the taxpayer might have made to achieve a commercial result substantially the same as the commercial result said to flow from the making of the Principal Assumption Agreement. No doubt the taxpayer might have taken the amount of $62,309,546 which it paid to MMBW and instead of paying it to MMBW under the Principal Assumption Agreement have invested it in Commonwealth Bonds maturing at or about the same time as its debentures were to mature. If it had done that it would have derived income which it might then have applied in satisfaction of most, if not all, of its liabilities to debenture holders. Similarly, it might have invested the same amount as it paid to MMBW on more speculative investments and it might then have obtained returns greater than the amount necessary to pay the debenture holders. Examination of those other transactions does not reveal whether or when the taxpayer derived income as a result of the making of the Principal Assumption Agreement. In particular, the characterisation of the gains or receipts obtained in accordance with hypothetical transactions of the kind described is of little, if any, assistance in characterising the nature of the benefits identified as flowing from the making of the Principal Assumption Agreement.

Income according to ordinary concepts?

71. The Commissioner did not contend that the whole of each payment made by MMBW was income of the taxpayer. Central to the Commissioner's contentions was the proposition that the ``benefit'' or the ``gain'' which the taxpayer obtained was the difference between the amount which it outlaid and the amounts which MMBW paid under the agreement. This difference would be measured, so the argument proceeded, without regard to what is often called the ``true value'' of money and was properly to be considered as income emerging as each payment was made by MMBW.

72. For present purposes, two aspects of this argument may be accepted: that the taxpayer received a benefit each time MMBW made a payment and that: [80] FC of T v The Myer Emporium Ltd 87 ATC 4363 at 4370-4371; (1987) 163 CLR 199 at 216-217 per Mason ACJ, Wilson, Brennan, Deane and Dawson JJ.

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``The accounting basis which has been employed in calculating profits and losses for the purposes of the Act is historical cost ( McRae v FC of T [81] 69 ATC 4066; (1969) 121 CLR 266. ; and see Lowe v Commr of IR (NZ) [82] (1983) 15 ATR 102. ) not economic equivalence ( Commr of IR (NZ) v Europa Oil (NZ) Ltd [83] 70 ATC 6012; [ 1971] AC 760 at 772. ).''

It follows that the fact that the amount outlaid by the taxpayer at the time of making the Principal Assumption Agreement may be seen as the then present value of the rights which it acquired is nothing to the point. It follows also that nothing turns on the parties' choice of the Commonwealth Bond rate as the basis of the calculation of the net present value of the obligations undertaken rather than some other discount rate such as the rate of return that the taxpayer might have generated from the use of the funds within its own business.

The nature of the ``benefit'' or ``gain''

73. Plainly, then, the difference between the taxpayer's payment and MMBW's payments can be found reflected in the taxpayer's accounts. Is that difference a benefit or gain to the taxpayer and, if it is, what is its nature? (For the moment we leave to one side any complication presented by the fact that the taxpayer made a single payment and MMBW made a series of payments.)

74. There are several features of the difference between the amounts of the payments which are important. First and foremost, the difference is a difference between an amount that was expended and an amount that would have had to be expended.

75. Secondly, the obligation of the taxpayer that was satisfied by the payment made by MMBW was an obligation of the taxpayer that was on capital account. Thirdly, the transaction was a singular transaction concerning liabilities separately created by the taxpayer in raising capital for its business.

76. We deal with each of these in turn.

A reduction in expenditure

77. When MMBW made each payment and that payment was applied in satisfaction of the principal due on debentures, the taxpayer received the benefit of its liability being discharged to the extent of the payment made. But what is said to be the benefit to the taxpayer is not that receipt but the difference between outlays - one it actually made and one that it would have otherwise had to make. Thus the question of characterisation is very different from the question which arose in cases such as Hartland v Diggines [84] [ 1926] AC 289. upon which the Commissioner relied in this respect. There, voluntary payments made by an employer in discharge of an employee's obligations to income tax were held to be ``profits and emoluments'' of the taxpayer within the meaning of Sched E of the Income Tax Act (UK) (5 & 6 Vict c 35).

78. Leaving aside the radical differences in statutory regime under consideration, the question in that case was to characterise the benefit constituted by the payments, not to characterise the difference between actual and hypothetical outlays. That difference is a reduction in expenditure not any inflow or gain to the taxpayer.

79. If, however, the relevant enquiry is an enquiry about the character of the difference between an outlay (the sum paid by the taxpayer under the Principal Assumption Agreement) and a receipt (the value of the benefit received in money's worth when MMBW paid an amount applied in satisfaction of the taxpayer's liability to debenture holders) other considerations arise.

80. Again we note, but do not stay to consider, that there may well be difficulties presented by the facts that the taxpayer's outlay was made in one year of income (1986) and that MMBW's payments (and thus the benefits to the taxpayer) would occur over several later years (between 1987 and 2000). What is significant in this context is that the benefit received was satisfaction of an obligation on capital account.

Capital account?

81. That the taxpayer's liability to its debenture holders was a liability on capital account was not (and could not be) disputed. No doubt, as is established by GP International Pipecoaters Pty Ltd v FC of T : [85] 90 ATC 4413 at 4422; (1989-1990) 170 CLR 124 at 142 per Brennan, Dawson, Toohey, Gaudron and McHugh JJ.

``... it cannot be accepted that an intention on the part of a payer and a payee or either of them that a receipt be applied to recoup capital expenditure by the payee determines the character of a receipt when the circumstances show that the payment is received in consideration of the performance of a contract, the performance of which is the business of the recipient or which is performed in the ordinary course of the business of the recipient.''

But that is not this case. The benefit obtained by the taxpayer was not the receipt of money into its hands which at its choice was then applied in satisfaction of a capital obligation. It was a benefit constituted by the discharging of that capital obligation.

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A singular transaction

82. Nor is this a case of the kind considered in AVCO Financial Services Limited v FC of T; FC of T v AVCO Financial Services Limited [86] 82 ATC 4246; (1981-1982) 150 CLR 510. or Coles Myer Finance Limited v FC of T [87] 93 ATC 4214; (1992-1993) 176 CLR 640. in which a finance company engages in various transactions on capital account yielding a difference properly regarded as a gain or loss on revenue account from the use of the company's working or circulating capital. [88] See Coles Myer Finance Limited v FC of T 93 ATC 4214 at 4221; (1992-1993) 176 CLR 640 at 663-664 per Mason CJ, Brennan, Dawson, Toohey and Gaudron JJ, ATC 4224; CLR 668-669 per Deane J, ATC 4230; CLR 681-682 per McHugh J. The present transaction was a singular transaction, not part of the regular means whereby the taxpayer obtained returns. [89] Sun Newspapers Ltd and Associated Newspapers Ltd v FC of T (1938) 61 CLR 337 at 359 per Dixon J; Commercial and General Acceptance Limited v FC of T 77 ATC 4375 at 4381; (1977) 137 CLR 373 at 384 ; cf FC of T v Unilever Australia Securities Ltd 95 ATC 4117 ; (1995) 56 FCR 152 . It must be acknowledged, of course, that the fact that it was a singular transaction is important but, standing alone, is not determinative of the characterisation of a ``profit'' or ``gain'' under consideration.

83. In FC of T v The Myer Emporium Ltd the Court said: [90] 87 ATC 4363 at 4366-4367; (1986-1987) 163 CLR 199 at 209-210.

``Although it is well settled that a profit or gain made in the ordinary course of carrying on a business constitutes income, it does not follow that a profit or gain made in a transaction entered into otherwise than in the ordinary course of carrying on the taxpayer's business is not income. Because a business is carried on with a view to profit, a gain made in the ordinary course of carrying on the business is invested with the profit- making purpose, thereby stamping the profit with the character of income. But a gain made otherwise than in the ordinary course of carrying on the business which nevertheless arises from a transaction entered into by the taxpayer with the intention or purpose of making a profit or gain may well constitute income. Whether it does depends very much on the circumstances of the case. Generally speaking, however, it may be said that if the circumstances are such as to give rise to the inference that the taxpayer's intention or purpose in entering into the transaction was to make a profit or gain, the profit or gain will be income, notwithstanding that the transaction was extraordinary judged by reference to the ordinary course of the taxpayer's business. Nor does the fact that a profit or gain is made as the result of an isolated venture or a `one-off' transaction preclude it from being properly characterised as income ( FC of T v Whitfords Beach Pty Ltd [91] 82 ATC 4031 at 4036-4037, 4042; (1982) 150 CLR 355 at 366-367, 376. ). The authorities establish that a profit or gain so made will constitute income if the property generating the profit or gain was acquired in a business operation or commercial transaction for the purpose of profit-making by the means giving rise to the profit.''

But here the taxpayer acquired no asset which it put to use in a way that realised a profit. [92] cf Californian Copper Syndicate v Harris (1904) 5 TC 159 . Rather, it acquired rights in relation to the satisfaction of liabilities it had incurred to provide it with capital in its business. While the difference between outlay and liability must find its reflection in the taxpayer's accounts, the accounting difference between the amount outlaid in a singular transaction to acquire the rights to have another pay sufficient to meet existing capital liabilities of the taxpayer in the future is not a profit or gain to the taxpayer and is not income according to ordinary concepts.

Profit-making scheme

84. The Commissioner contended that the transaction by which the taxpayer outlaid money to procure future payment of moneys to be applied in payment of the debentures was a profit-making scheme for the purposes of s 25A of the Act. Section 25A(1) states:

``The assessable income of a taxpayer shall include profit arising from the sale by the taxpayer of any property acquired by him for the purpose of profit-making by sale, or from the carrying on or carrying out of any profit-making undertaking or scheme.''

The Principal Assumption Agreement created obligations closely related to the debentures that the taxpayer had issued and it cannot be understood without reference to the arrangements governing those debentures. But that is not to say that there was a scheme whereby the taxpayer incurred certain future obligations and acquired the right (for a smaller price) to have someone make payments which would discharge those obligations. If that had been the course of events, the two transactions might be seen as ``integral elements in one profit-making scheme''. [93] cf FC of T v The Myer Emporium Ltd 87 ATC 4363 at 4370; (1986-1987) 163 CLR 199 at 216. If the two transactions are to be considered as separate and independent transactions, the taxpayer's argument that no relevant profit arose would have ``compelling force''. [94] cf FC of T v The Myer Emporium Ltd 87 ATC 4363 at 4370; (1986-1987) 163 CLR 199 at 216.

85. The Commissioner did not seek to mount a case that the two transactions were to be seen as integral elements in the one profit-making scheme. The issue of the debentures being unrelated to the later arrangements made with

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MMBW, the two transactions (or sets of transactions) are properly seen as separate and independent and the Commissioner contended that the ``scheme'' was constituted by or reflected in the Principal Assumption Agreement.

Not income or profit from profit-making scheme

86. Standing alone, the Principal Assumption Agreement reveals no profit for the taxpayer, only an accounting difference between the face value of the debentures and the amount paid by the taxpayer to have MMBW pay amounts satisfying the principal sums due. For the same reasons that this difference does not constitute income according to ordinary concepts, it is not profit arising from a profit-making scheme. The taxpayer outlaid a smaller sum than the total it would have had to outlay over the next 14 years but it thereby reduced the expenditure it would otherwise have made on capital account and did so by the singular transaction embodied in the Principal Assumption Agreement (and associated agreements).

87. For these reasons we reject the Commissioner's contentions that the taxpayer derived income according to ordinary concepts or made a profit arising from a profit-making undertaking or scheme. We turn then to the alternative contentions based on the capital gains provisions of Pt IIIA of the Act.

Capital gains tax

88. Two issues were debated: whether, by making the Principal Assumption Agreement, the taxpayer acquired an asset and whether, when MMBW performed its obligations under the Principal Assumption Agreement, a change occurred in the ownership of an asset.

An asset?

89. Section 160A provides that in Pt IIIA, unless the contrary intention appears, ``asset'':

``means any form of property and includes -

  • (a) an option, a debt, a chose in action, any other right, goodwill and any other form of incorporeal property;
  • ...''

[95] Nothing turns on the amendments later made to s 160A by the Taxation Laws Amendment Act (No 4) 1992.

90. We have no doubt that the rights acquired by the taxpayer against MMBW under the Principal Assumption Agreement are an asset for the purposes of Pt IIIA. The contention, accepted by the majority of the Full Court, that the right acquired by the taxpayer ``was merely a personal right... which was incapable of being assumed by a third party'' [96] ICI Australia Limited v FC of T 96 ATC 4680 at 4694; (1996) 68 FCR 122 at 138 per Lockhart J. must be rejected. The conclusion that the taxpayer's right against MMBW was only a right to compel MMBW to specifically perform its obligations appears to have been founded in the proposition, adopted by the primary judge, that ``no conceivable assignee would have any interest in enforcing MMBW's obligation which was to discharge [ the taxpayer's] obligation to the debenture holders''. [97] ICI Australia Limited v FC of T 94 ATC 4600 at 4625; (1994) 125 ALR 63 at 92 . It may be doubted that enquiring whether there is any person who would have a commercial interest in taking an assignment will determine whether something is an item of property capable of assignment. [98] R v Toohey; Ex parte Meneling Station Pty Ltd (1982) 158 CLR 327 at 342-343 per Mason J. The question is whether the rights are capable of assignment, not whether anyone is interested in taking an assignment.

91. Furthermore, in construing the term ``any form of property'' in s 160A, it is important to bear in mind the following statement by Kitto J in National Trustees Executors and Agency Co of Australasia Ltd v FC of T : [99] (1954) 91 CLR 540 at 583.

``It may be said categorically that alienability is not an indispensible attribute of a right of property according to the general sense which the word `property' bears in the law. Rights may be incapable of assignment, either because assignment is considered incompatible with their nature, as was the case originally with debts (subject to an exception in favour of the King) or because a statute so provides or considerations of public policy so require, as is the case with some salaries and pensions; yet they are all within the conception of `property' as the word is normally understood...''

In any event, we do not accept that there is ``no conceivable assignee'' who would have an interest in taking an assignment from the taxpayer of its rights against MMBW. The debenture holders are an obvious class of persons who would have a real and lively commercial interest in having MMBW perform its obligations. It follows that the rights which the taxpayer had against MMBW under the Principal Assumption Agreement are an asset for the purposes of Pt IIIA.

Disposal?

92. Section 160M provided in 1986 and 1987:

ATC 4516

``(1) Subject to this Part, where a change has occurred in the ownership of an asset, the change shall be deemed, for the purposes of this Part, to have effected a disposal of the asset by the person who owned it immediately before the change and an acquisition of the asset by the person who owned it immediately after the change.

(2) A reference in sub-section (1) to a change in the ownership of an asset is a reference to a change that has occurred in any way, including any of the following ways:

  • (a) by the execution of an instrument;
  • (b) by the entering into of a transaction;
  • (c) by the transmission of the asset by operation of law;
  • (d) by the delivery of the asset;
  • (e) by the doing of any other act or thing;
  • (f) by the occurrence of any event.

(3) Without limiting the generality of sub- section (2), a change shall be taken to have occurred in the ownership of an asset by -

  • (a) a declaration of trust in relation to the asset under which the beneficiary is absolutely entitled to the asset as against the trustee;
  • (b) in the case of an asset being a debt, a chose in action or any other right, or an interest or right in or over property - the cancellation, release, discharge, satis- faction, surrender, forfeiture, expiry or abandonment, at law or in equity, of the asset;
  • (c) in the case of an asset being a share in or debenture of a company - the redemption in whole or in part, or the cancellation, of the share or debenture;
  • ...

(6) A disposal of an asset that did not exist (either by itself or as part of another asset) before the disposal, but is created by the disposal, constitutes a disposal of the asset for the purposes of this Part, but the person who so disposes of the asset shall be deemed not to have paid or given any consideration, or incurred any costs or expenditure, referred to in paragraph 160ZH(1)(a), (b), (c) or (d), (2)(a), (b), (c) or (d) or (3)(a), (b), (c) or (d) in respect of the asset.

(7) Without limiting the generality of sub- section (2) but subject to the other provisions of this Part, where -

  • (a) an act or transaction has taken place in relation to an asset or an event affecting an asset has occurred; and
  • (b) a person has received, or is entitled to receive, an amount of money or other consideration by reason of the act, transaction or event (whether or not any asset was or will be acquired by the person paying the money or giving the other consideration) including, but not limited to, an amount of money or other consideration -
    • (i) in the case of an asset being a right - in return for forfeiture or surrender of the right or for refraining from exercising the right; or
    • (ii) for use or exploitation of the asset,

the act, transaction or event constitutes a disposal by the person who received, or is entitled to receive, the money or other consideration of an asset created by the disposal and, for the purposes of the application of this Part in relation to that disposal -

  • (c) the money or other consideration constitutes the consideration in respect of the disposal;
  • ...''

[100] Section 160M(1A) was inserted by Taxation Laws Amendment Act 1990 (Cth), s 14(a). The terms of that sub-section do not affect the disposition of the present matter.

The Commissioner submitted that s 160M(3)(b) applied to deem performance by MMBW of its obligations under the Principal Assumption Agreement to be a change in the ownership of the taxpayer's asset (its rights under that agreement). It was submitted that MMBW's performance of its obligations was the ``discharge'' or ``satisfaction'' of the asset being the ``chose in action or any other right'' constituted by the taxpayer's rights under the Principal Assumption Agreement.

93. The Full Court held that ``discharge'' and ``satisfaction'', when used in s 160M(3), were not to ``be construed as extending to the performance of obligations under an agreement giving rise to the rights in accordance with the terms of the agreement'' [101] ICI Australia Limited v FC of T 96 ATC 4680 at 4694; (1996) 68 FCR 122 at 139 per Lockhart J. and were words which ``must be confined to cases where the rights are satisfied or discharged otherwise than by performance of the obligations which give rise to the rights by the other party to the contract''. [102] 96 ATC 4680 at 4694; (1996) 68 FCR 122 at 139 per Lockhart J.

ATC 4517

94. There is no basis for confining ``discharge'' or ``satisfaction'' in this way. First, as a matter of ordinary language, ``discharge'' can be used in the sense of `` [ t]he act of clearing off a pecuniary liability; payment'' [103] The Oxford English Dictionary, 2nd ed (1989), ``discharge'' sense 5. or `` [ f]ulfilment, performance, execution (of an obligation, duty, function, etc)''. [104] The Oxford English Dictionary, 2nd ed (1989), ``discharge'' sense 6.

95. Secondly, it is common for lawyers to speak of a contractual obligation being discharged by performance. No doubt there are other ways in which the obligation can be discharged but performance is one. There is nothing in the ordinary usages in the law of the terms the ``discharge'' or the ``satisfaction'' of an obligation which would suggest that the use of the terms in s 160M(3) is to be confined in the manner suggested.

96. Thirdly, when the sub-section speaks, as it does, of the ``discharge'' of a debt it is plainly using the word ``discharge'' in a way that at least includes payment of the debt according to the terms of the obligation incurred by the debtor.

97. Fourthly, far from the other provisions of Pt IIIA (or s 160M in particular) providing a sound basis for reading down the apparent generality of s 160M(3)(b), the context in which the provision sits discloses an intention to give it a very wide operation. Sub-sections (1) and (2) of s 160M centre upon a change in ownership of an asset. Sub-section (1) deems a change in ownership to effect a disposal of an asset by one person to another and sub-s (2) amplifies what is meant by a ``change in the ownership''. Sub-section (3) provides that a change ``shall be taken to have occurred in the ownership of an asset'' upon the happening of any of several events or transactions. It is clear from the reference to redemption or cancellation of shares or debentures in par (c) that the events that are to be taken to amount to a change in ownership include events where the asset ceases to exist as an item of property. Similarly, sub-s (6) demonstrates that there can be a disposal of an asset for the purposes of Pt IIIA where an asset is created by the disposal.

98. It was submitted that unless the provision was read down by confining ``discharge'' and ``satisfaction'' to discharge or satisfaction otherwise than by performance of the obligation undertaken, performance of every executory contract would be brought within the reach of the capital gains provisions. No doubt that is so but it does not mean that a party to an executory contract will always be liable to tax. It is necessary to recall that tax will be payable only if there is a capital gain, that is, only ``if the consideration in respect of the disposal exceeds the indexed cost base to the taxpayer in respect of the asset''. [105] s 160Z(1)(a). If what the taxpayer receives on performance of the obligation undertaken by the other party to an executory contract does exceed the indexed cost base to the taxpayer in respect of the acquisition of the right to have the obligation performed, we see no incongruity in concluding that the taxpayer has made a capital gain.

99. Accordingly, there is no basis for confining the word ``discharge'' (or, for that matter, the word ``satisfaction'') to discharge or satisfaction otherwise than according to the tenor of the obligation incurred.

100. In all these circumstances it follows that for the purposes of Pt IIIA performance by MMBW of its obligations under the Principal Assumption Agreement, and discharge pro tanto of those obligations by performance, is a disposal of part of the taxpayer's asset (being its rights against MMBW under the Principal Assumption Agreement). [106] By s 160R ``a reference to a disposal of an asset'' in Pt IIIA ``includes, unless the contrary intention appears, a reference to a disposal of part of an asset''. No contrary intention is to be found in s 160M(3).

101. The taxpayer contended that if the difference between the amount paid by the taxpayer under the Principal Assumption Agreement and the face value of the debentures was income or profit from a profit-making scheme the Commissioner's appeal in respect of the 1987 year should nevertheless be dismissed because the taxpayer made no gain until MMBW had paid out more than the $62,309,546 that the taxpayer paid under the Principal Assumption Agreement. Debentures maturing between 30 November 1986 and 31 May 1990 were for principal amounts totalling $61,869,800. Accordingly, not until payment in relation to debentures maturing on 31 July 1990 (which had a face value of $4,275,000) would MMBW pay out more than the taxpayer had paid under the Principal Assumption Agreement. Because we consider that the difference between the two amounts is not income or profit, we need not decide whether this argument is good. It is, however, an argument that does not arise under Pt IIIA because where, as here, part of an asset is disposed of, s 160ZI requires apportionment of the cost base attributable to the asset.

ATC 4518

102. MMBW having made no payment under the Principal Assumption Agreement during the 1986 year, the Commissioner's appeal in respect of that year should be dismissed with costs. MMBW having made payments in the 1987 year, the appeal to this Court in respect of that year of income should be allowed, the orders made by the Full Court set aside, and in lieu it should be ordered that the appeal to that Court should be allowed, the decision of the Commissioner disallowing the taxpayer's objection set aside and the Commissioner directed to amend the assessment concerned.

103. The parties are agreed that each should bear its own costs of the proceedings before the primary judge. So far as the costs of the appeals to the Full Court and to this Court are concerned, the Commissioner having been entitled to succeed on the capital gains tax point in the Full Court, and having succeeded on that point in this Court, but failed on the other points argued, he should have part of his costs of both appeals. The taxpayer should pay half the Commissioner's costs of the appeals to the Full Court and to this Court.

Footnotes

[65] ICI Australia Limited v FC of T 94 ATC 4600 at 4625; (1994) 125 ALR 63 at 93.
[66] 94 ATC 4600 at 4625; (1994) 125 ALR 63 at 93.
[67] ICI Australia Limited v FC of T 96 ATC 4680; (1996) 68 FCR 122.
[68] 96 ATC 4680 at 4690; (1996) 68 FCR 122 at 133.
[69] 96 ATC 4680 at 4692; (1996) 68 FCR 122 at 135.
[70] This contention was first made by the Commissioner in response to requests made by the taxpayer for further and better particulars of the basis of the assessments. The primary judge did not find it necessary to decide the question.
[71] 96 ATC 4680 at 4694; (1996) 68 FCR 122 at 138.
[72] 96 ATC 4680 at 4694; (1996) 68 FCR 122 at 138.
[73] 96 ATC 4680 at 4691-4693; (1996) 68 FCR 122 at 135-137 per Lockhart J, ATC 4700; FCR 147 per Sundberg J.
[74] 96 ATC 4680 at 4699; (1996) 68 FCR 122 at 145.
[75] 96 ATC 4680 at 4700; (1996) 68 FCR 122 at 146.
[76] 96 ATC 4680 at 4700; (1996) 68 FCR 122 at 146.
[77] Principal Assumption Agreement, cl 3(a).
[78] 1966 Trust Deed, cl 3(a); 1970 Trust Deed, cl 3(1).
[79] Principal Assumption Agreement, cl 2(a).
[80] FC of T v The Myer Emporium Ltd 87 ATC 4363 at 4370-4371; (1987) 163 CLR 199 at 216-217 per Mason ACJ, Wilson, Brennan, Deane and Dawson JJ.
[81] 69 ATC 4066; (1969) 121 CLR 266.
[82] (1983) 15 ATR 102.
[83] 70 ATC 6012; [ 1971] AC 760 at 772.
[84] [ 1926] AC 289.
[85] 90 ATC 4413 at 4422; (1989-1990) 170 CLR 124 at 142 per Brennan, Dawson, Toohey, Gaudron and McHugh JJ.
[86] 82 ATC 4246; (1981-1982) 150 CLR 510.
[87] 93 ATC 4214; (1992-1993) 176 CLR 640.
[88] See Coles Myer Finance Limited v FC of T 93 ATC 4214 at 4221; (1992-1993) 176 CLR 640 at 663-664 per Mason CJ, Brennan, Dawson, Toohey and Gaudron JJ, ATC 4224; CLR 668-669 per Deane J, ATC 4230; CLR 681-682 per McHugh J.
[89] Sun Newspapers Ltd and Associated Newspapers Ltd v FC of T (1938) 61 CLR 337 at 359 per Dixon J; Commercial and General Acceptance Limited v FC of T 77 ATC 4375 at 4381; (1977) 137 CLR 373 at 384 ; cf FC of T v Unilever Australia Securities Ltd 95 ATC 4117 ; (1995) 56 FCR 152 .
[90] 87 ATC 4363 at 4366-4367; (1986-1987) 163 CLR 199 at 209-210.
[91] 82 ATC 4031 at 4036-4037, 4042; (1982) 150 CLR 355 at 366-367, 376.
[92] cf Californian Copper Syndicate v Harris (1904) 5 TC 159 .
[93] cf FC of T v The Myer Emporium Ltd 87 ATC 4363 at 4370; (1986-1987) 163 CLR 199 at 216.
[94] cf FC of T v The Myer Emporium Ltd 87 ATC 4363 at 4370; (1986-1987) 163 CLR 199 at 216.
[95] Nothing turns on the amendments later made to s 160A by the Taxation Laws Amendment Act (No 4) 1992.
[96] ICI Australia Limited v FC of T 96 ATC 4680 at 4694; (1996) 68 FCR 122 at 138 per Lockhart J.
[97] ICI Australia Limited v FC of T 94 ATC 4600 at 4625; (1994) 125 ALR 63 at 92 .
[98] R v Toohey; Ex parte Meneling Station Pty Ltd (1982) 158 CLR 327 at 342-343 per Mason J.
[99] (1954) 91 CLR 540 at 583.
[100] Section 160M(1A) was inserted by Taxation Laws Amendment Act 1990 (Cth), s 14(a). The terms of that sub-section do not affect the disposition of the present matter.
[101] ICI Australia Limited v FC of T 96 ATC 4680 at 4694; (1996) 68 FCR 122 at 139 per Lockhart J.
[102] 96 ATC 4680 at 4694; (1996) 68 FCR 122 at 139 per Lockhart J.
[103] The Oxford English Dictionary, 2nd ed (1989), ``discharge'' sense 5.
[104] The Oxford English Dictionary, 2nd ed (1989), ``discharge'' sense 6.
[105] s 160Z(1)(a).
[106] By s 160R ``a reference to a disposal of an asset'' in Pt IIIA ``includes, unless the contrary intention appears, a reference to a disposal of part of an asset''. No contrary intention is to be found in s 160M(3).

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