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QCT RESOURCES LIMITED v FC of T

Judges:
Drummond J

Court:
Federal Court

Judgment date: 16 January 1997

Drummond J

This is an appeal against the appealable objection decision of the respondent who disallowed the applicant's objection to the amended assessment issued to the applicant for the 1991 year.

The two issues in the case are, firstly, whether South Blackwater Coal Ltd (``SBC''), a wholly owned subsidiary of the applicant, is entitled, by s 51(1) the Income Tax Assessment Act 1936 (Cth), to deduct from its income for the 1991 year the sum of $9,200,592 paid by it in respect of certain work-in-progress under the contract by which it purchased an operating mine and, secondly, if SBC is not entitled to such a deduction, whether the $9.2M is ``allowable capital expenditure'' within s 122A and so ultimately deductible in full over a number of years from its income.

The South Blackwater mine has operated since the 1960s under a number of different ownerships. Mining was carried on by the vendor, South Blackwater Mines Ltd, a company associated with Pennant Holdings Ltd, on a number of the mining leases which it held in respect of that mine. A strip mining method is employed. The sequence of operations is as follows: vegetation and topsoil are removed by bulldozers, graders and scrapers from the strip, which can be from one to two kilometres long and which is about 65 metres wide: the topsoil is stockpiled away from the strip. A grid pattern of holes is drilled through the exposed overburden to the top of the coal seam. The holes are filled with explosive, which is then detonated, loosening the overburden material; this is then removed by a combination of mobile equipment and a walking dragline fitted with a 47 cubic metre bucket. As the overburden is removed from the strip, it is used to fill the void in the adjacent strip that has been previously mined of its coal. Once the overburden is removed and the coal seam exposed, the coal is dug and loaded by mechanical shovels and front end loaders into dump trucks, which transport the raw coal to the coal handling and preparation plant. As mining progresses and the void of each mined strip is filled with overburden, the mined land is shaped to the profile required by the mining lease rehabilitation requirements, topsoiled from the stockpile and seeded with grasses and trees. This operation is a continuous one, with each dragline operating three shifts per day, 363 days per year. Approximately 13 million cubic metres of overburden is removed by each dragline each year.

In view of the nature of the vendor's business, it was important that these operations be carried out continuously so that production of coal was uninterrupted: the vendor had ongoing delivery obligations under long term contracts and also needed a ready supply of coal to take advantage of spot sales. Whether there were also cost-related operational reasons that dictated a continuous operation was not the subject of any evidence. In addition to purchasing the mining operation, SBC took assignments of these long term contracts from the vendor. The Commissioner did not dispute that it was also commercially important to SBC that mining operations be maintained on this continuous basis by the vendor, up to settlement of SBC's purchase so that it could take over a working mine.

In order to maintain an uninterrupted supply of coal, it is necessary that the various activities preliminary to exposing the coal seam in each strip to be mined are carried on in a staggered sequence. At any given time, there will therefore be in each strip being worked some areas which have only been treated by clearing of vegetation and topsoil; other areas which have, in addition, been drilled; further areas which have been both drilled and blasted and other areas in the strip from which the loosened overburden has either been fully or partly removed. As a general rule, overburden is removed within about six months or so of initial clearing; but there can be a longer time lag in completing overburden removal work in a particular strip, depending on the requirements of the mine plan.

The work of clearing, drilling, blasting, removing and re-locating overburden from above any particular section of the coal seam is an essential part of the activity of extracting the coal from that section of the seam, ie, of the activity from which the mine gains its assessable income. It is not an improvement to the land mined, but rather something in the nature of a transient disturbance of the non-coal bearing strata that comprises the overburden. I will assume that the whole of the $9.2M was an outgoing incurred in gaining or producing SBC's assessable income, a proposition not disputed by the Commissioner in argument. The issue on which the case was fought was whether the $9.2M was an outgoing of a capital nature.

ATC 4081

Negotiations which commenced in the first half of 1990 culminated in the applicant sending to the vendor's parent company, on 9 July 1990, a written offer to purchase the mine. This offer was accepted the same day by both the parent company and the vendor itself. Pursuant to the terms of the applicant's offer, the agreement that thereupon came into existence was expressed to be ``subject to formal contracts of sale being entered into with respect to the subject matter hereof, such contracts to reflect the provisions of this offer...''. A formal contract reflecting the terms of the 9 July 1990 agreement was executed on 31 July 1990 between the vendor and SBC as purchaser and completed on 3 September 1990, when SBC took over the mining operation. The $9.2M was paid in accordance with the contract on 1 October 1990.

The 9 July letter of offer reflected the applicant's concern that, on settlement of the sale, SBC would take over an operating mine. The letter provided:

``Upon acceptance of this offer you agree not to acquire or dispose of any asset (whether owned or leased) otherwise than in the ordinary course of business or without our prior written consent. Until Settlement you agree to conduct the businesses of the Mine and Terang Station in the ordinary and usual course and in accordance with already approved budgets...''

Clause 9.8(b) of the formal contract contained a provision to similar effect, viz:

``9.8 General

  • ...
  • (b) Prior to Completion the Vendor shall ensure that the business of the Mine is conducted in accordance with normal and prudent mining practice and in accordance with the approved operating budget for the year ended 30 June, 1991. The Vendor shall not prior to Completion acquire or dispose of any asset for a consideration in excess of $20,000 (whether owned or leased) otherwise than in the ordinary and usual course of business or without the prior written consent of the Purchaser.''

Despite the change in ownership, mining activity continued uninterrupted throughout 1990 and beyond. This was facilitated by the fact that a number of the senior technical people who had been employed by the vendor to run the mine became employees of SBC upon settlement of the purchase contract.

The mining operation here in question is a complex one and, in order to ensure SBC's objective of being able to take over a continuing mining operation, fairly complicated procedures were included in the contractual arrangements. But SBC's desire in this regard is not something unique to this case. Any person who buys a business as a going concern generally expects, on settlement, to take over a continuing operation and to be able to carry it on without any interruption to trade as a result of the change of ownership.

The formal contract also contained the following provisions:

``4. DETERMINATION OF PRICE

4.1 (a) The purchase price for the Sale Property shall be the aggregate of the amounts determined under this Clause 4, less the adjustment made to those amounts under Clause 5 plus the assumption of obligations referred to in Clause 9.4 and shall be constituted as follows:

  • (i) for the Sale Property other than Stores, overburden work-in-progress, Security Deposits, Prepayments and Coal Stocks, the sum of $135,100,000 apportioned in accordance with Clause 6.1;
  • (ii) for Security Deposits an amount equal to the actual amount of such deposits as at the Completion Date as determined by audit;
  • (iii) for all Stores on hand at the Completion Date, a sum equal to their actual invoiced value as determined by audit;
  • (iv) for overburden work-in-progress an amount equal to the actual cost of carrying out such work as at the Completion Date as determined by audit;
  • (v) for Coal Stocks, a sum determined by audit equal to:
    • (A) the net realisable value of all finished coal comprised in the Coal Stocks (including by-pass coal) as at the Completion Date ascertained in accordance with generally accepted Australian accounting principles but having regard to the price payable to

      ATC 4082

      the Vendor under the coal sales contracts referred to in Clause 14 for such coal; and
    • (B) the value of all unfinished (ROM) coal comprised in the Coal Stocks as at the Completion Date being an amount equal to the actual cost of production of such coal; and
  • (vi) for Prepayments, a sum determined by audit in accordance with the principles set out in Clause 4.2.

...

6. APPORTIONMENT OF PURCHASE PRICE

6.1 (a) The purchase price shall be apportioned as between the several items of the Sale Property other than Stores, overburden work-in-progress, Coal Stocks, Prepayments and Security Deposits as follows: 

Plant and equipment to
which section 54 or other
relevant provisions of the
Income Tax Assessment
Act, 1936 apply                 $115,500,000

Mining Property including
mine development, mining
and prospecting rights and
information to which section
122B of the Income Tax
Assessment Act applies            $7,000,000

Employee Housing                 $12,600,000
                              --------------
                              $135.1 million
  • (b) The items of plant and equipment and the amount of the purchase price apportioned thereto shall be allocated in accordance with the valuation conducted by Mason Gray Strange Qld Ltd provided that the price apportioned to the dragline referred to in Clause 8.2(i) shall not exceed $20,000,000.

7. TERMS OF PAYMENT

7.1... on Completion the Purchaser shall pay by bank cheque or other cleared funds to the Vendor or as the Vendor shall otherwise direct $122,124,000 as the first instalment of the purchase price for all of the Sale Property determined in accordance with Clauses 4 and 5.

7.2...

7.3 On the Payment Date [ie, the day which is 28 days after Completion - cl 1.1], the Purchaser shall pay by bank cheque or other cleared funds to the Vendor or as the Vendor shall otherwise direct the balance (if any) of the purchase price for the Sale Property as determined in accordance with Clauses 4.1 and 5.1 save that with respect to finished coal comprised in the Coal Stocks as at the Completion Date payment therefor shall be made...''

The term ``Sale Property'' referred to in these provisions was defined in cl 1.1 of the contract to mean ``all of the real and personal property of the Vendor listed or described in Schedules 1 to 4 together with Coal Stocks, Stores, overburden work-in-progress, Security Deposits and Prepayments and including also any items of property purchased or leased for use in or about the business of the Mine prior to the Completion Date and the rights of the Vendor under each of the Material Contracts''. The expression in cl 4.1(a)(iv), ``overburden work-in-progress'', refers to the work of overburden removal comprising drilling, blasting and moving of overburden from a strip to be mined to the adjacent previously mined strip. By cl 8.1, the completion date was 3 September 1990.

Clause 4.1(a)(v) entitled the vendor to payment for coal stocks of finished coal by reference to the market value of such coal and to payment for unfinished coal stocks by reference to the actual cost of production of that coal. This provision reflects the contractual intention of the parties to the effect that the vendor was both entitled and obliged to carry on ordinary mining operations up to the settlement day, but was also free to dispose of coal mined in the ordinary course of that business for its own benefit, up to the completion date of the contract.

The Commissioner correctly, in my opinion, contended that, notwithstanding cl 9.8(b), the vendor was not subject to any contractual obligation to carry out overburden removal work on behalf of SBC, ie, as SBC's agent or contractor: a considerable part of the overburden work-in-progress for which SBC paid $9.2M was done prior to the date of the

ATC 4083

letter of offer accepted on 9 July 1990 and SBC was obliged to reimburse the vendor for the cost of the overburden work-in-progress only if and when the contract was completed and not when the work was done. If the contract was not completed, the vendor was not entitled to be paid anything by SBC for any overburden removal work done: see cl 22.1. But it is clear that the vendor was bound by cl 9.8(b) to maintain operations to ensure that the purchaser would obtain one of the benefits it bargained for in entering into the contract, viz, the acquisition, or settlement, of a working mine without any interruption to ongoing operations.

The audit provided for by cl 4.1(a)(iv) to fix the amount to be paid by the purchaser to the vendor for overburden work-in-progress was duly carried out by valuing that work on an absorption cost basis. Although it did not throw up a figure which reflected the precise cost to the vendor of that work because the form in which the relevant information was kept did not permit of such an assessment, I accept that the figure of $9,200,592 arrived at, and which SBC paid, is a reliable estimate of the actual cost to the vendor of carrying out the work of overburden removal that had been completed by it up to the contract settlement date. Mr White, of the external accountants retained by the applicant to monitor the audit carried out by the vendor's accountant to fix the price payable for overburden work-in-progress, gave evidence to the effect that he considered there was an error made in arriving at the $9.2M figure: he said the vendor's consultants had allocated to overburden work-in-progress some costs which he considered should have been allocated to other activities. However, I do not think it is necessary to reach any conclusion on whether Mr White's opinion, disputed by others of the applicant's witnesses, should be accepted. It is beyond question that the $9.2M was paid by SBC specifically for overburden work-in- progress, so that figure is the measure of any deduction to which SBC may be able to establish an entitlement. The Commissioner did not challenge this approach.

Of the $9,200,592 paid in respect of overburden work-in-progress, $2,446,936 was incurred in respect of work carried out before 9 July 1990, when SBC's offer to purchase the operation was accepted by the vendor, with the balance of $6,753,656 being incurred on work carried out between 9 July and 3 September 1990, when the purchase contract was completed. $8,660,725 of the $9,200,592 was the estimated cost of drilling 1,499,250 cubic metres of overburden, of drilling and blasting a further 3,984,550 cubic metres and of drilling, blasting and removing a further 2,900,615 cubic metres of overburden in the areas of the leases in which the vendor was conducting mining operations. There was another part of the mine site called the Togara area. Work had been done on overburden removal in this area by Thiess Brothers Pty Ltd, the previous owner of the mine from whom the vendor had purchased it in 1988; the vendor, however, elected not to continue operations in this area after it took over the mine, but worked other areas where ratios of overburden to coal were less. The balance of the $9,200,592, viz, $539,867, represents what the parties to the sale agreement agreed was a reasonable approximation of the actual cost of the drilling and blasting done in the Togara area by the previous owner, Thiess Brothers Pty Ltd.

In submitting that the $9.2M had the character of a revenue outgoing, the applicant contended that the $9.2M was an expenditure directed to operating the mine and earning income and could not be regarded as part of the purchase price paid for any advantage of an enduring nature. It was said that the $9.2M was paid in return for the vendor meeting SBC's request to carry on work in the ordinary way so that SBC would be in an income earning position immediately it took over the operation. It was also said that there is no basis for differentiating between that part of the $9.2M paid in respect of overburden work-in-progress carried out prior to 9 July 1990 (or 31 July 1990) and that carried out between contract and completion on 3 September 1990. The applicant pointed to what is said to be the inconsistency that would arise if, as the Commissioner accepts, SBC is entitled to a deduction in respect of the cost of overburden work it carried out for itself after taking over the mine, but cannot obtain a deduction for overburden work done by the vendor and for which it paid the vendor, in order to enable it to mine coal once it took the operation over.

The dicta of Dixon J in
Sun Newspapers Ltd & Associated Newspapers Ltd v FC of T (1938) 5 ATD 87 at 93; (1938) 61 CLR 337 at 359 and in
Hallstroms Pty Ltd v FC of T (1946) 8 ATD 190 at 195-196; (1946) 72 CLR 634 at 648 are

ATC 4084

an authoritative guide to whether expenditure is of a capital or revenue nature: see
Mount Isa Mines Ltd v FC of T 92 ATC 4755 at 4757; (1992) 176 CLR 141 at 147. The concepts embodied in them have been explicated in subsequent cases, notably
GP International Pipecoaters Pty Ltd v FC of T 90 ATC 4413 at 4419; (1989-1990) 170 CLR 124 at 137, where it was said:

``The character of expenditure [ie whether it is on revenue or capital account] is ordinarily determined by reference to the nature of the asset acquired or the liability discharged by the making of the expenditure, for the character of the advantage sought by the making of the expenditure is the chief, if not the critical, factor in determining the character of what is paid.''

See also Mount Isa Mines Ltd v FC of T at ATC 4758 and 4760; CLR 149 and 153.

If an outgoing can be seen from the entire context in which it occurs, including any contract under which it may have been paid, to be the whole or to form part of the consideration given for the acquisition of a capital asset, that will be practically decisive of it being an outgoing on capital account. See
Colonial Mutual Life Assurance Society Ltd v FC of T (1953) 10 ATD 274 at 280, 283, 287; (1953) 89 CLR 428 at 449, 454, 460;
Cooper v FC of T (1957) 11 ATD 281 at 285; (1957) 97 CLR 397 at 404; Mount Isa Mines Ltd v FC of T at ATC 4759; CLR 150. Since the advantage sought by outlaying money for such a purpose is the acquisition of the capital asset, the expenditure will thus be stamped with the character of a capital outgoing.

Here, while the $9.2M was paid as reimbursement to the vendor for the cost of performing the overburden work-in-progress, that payment was declared by cl 4.1(a) to be an integral and inseparable part of the purchase price which SBC agreed to pay, in return for acquiring the entire mining operation in the condition it was required to be in on settlement day. The advantage that SBC sought by making this payment of $9.2M to the vendor was to ensure that, on settlement, it would acquire an uninterrupted continuous mining operation: the payment was made to ensure that the capital asset (the mine) would, on acquisition by SBC, possess the particular characteristic of being a mine in full operation. For these reasons, the $9.2M was a capital outgoing and the Commissioner was right in refusing to allow SBC to deduct it from its 1991 income, even though the feature for which SBC paid the $9.2M was one which would enable SBC to maintain the flow of income from ownership of the mine.

The cases on which the applicant placed particular reliance are all consistent with the proposition that expenditure on acquisition of a capital asset will ordinarily be on capital and not revenue account.

The applicant relied upon
Cliffs International Inc v FC of T 79 ATC 4059; (1978-1979) 142 CLR 140 for the proposition that the mere fact that a payment is associated with a capital transaction does not mean it is on capital account and that one must look at the quality of the outgoing in relation to the gaining of the income against which it is sought to be deducted in order to determine whether it is on revenue or capital account. There, C purchased all the shares in a company which held iron ore mining rights under a contract which provided that the purchase price was $200,000 ``plus Deferred Payments equal to 15c (US) per ton of Iron Ore...''. C did not mine the iron ore itself, but organised a consortium to do that, which paid C $0.30 per ton of ore mined. These receipts from the consortium were included in C's assessable income. The Commissioner, however, disallowed C's claim for a deduction in respect of payments by it to the vendor of the $0.15 per ton on the ground that they were outgoings of a capital nature. Barwick CJ, in reliance on
Egerton-Warburton v Deputy Federal Commissioner of Taxation (1934) 51 CLR 568 at 572-573, said, at ATC 4064; CLR 148:

``... the fact that payments are made or received in performance of a promise given as part of the consideration for the acquisition of a capital asset does not necessarily mean that the payments are themselves of a capital nature.

In the next place, the relevant quality of these payments is to be determined, in my opinion, in relation to the gaining of the income against which they are sought to be deducted. What quality they may have in the hands of the recipient will not determine their quality as disbursements by the appellant, though, for my part, that quality is not of necessity irrelevant.''

ATC 4085

It is, I think, necessary to note in respect of Egerton-Warburton that the annual payments made under the contract under which the sons acquired the property from their father possessed a character quite different from payments made as the price for the acquisition of a capital asset: see Colonial Mutual Life Assurance Society Ltd v FC of T at ATD 286-287; CLR 458-460 and Cooper v FC of T at ATD 285; CLR 404.

But Barwick CJ's statement cannot be read as detracting from or qualifying the proposition that where a payment of money is itself part of the consideration for the acquisition of a capital asset, that payment will generally be on capital account. That appears clearly enough from his Honour's conclusion, at ATC 4064; CLR 149, that the ``deferred payments'' of $0.15 per ton payable by C under the share purchase agreement were outgoings on revenue account for the very reason that they could not be regarded as part of the consideration for the acquisition of the shares.

Jacobs J, at ATC 4076; CLR 171-172, said that while the terms of the contract under which payments are made are relevant to the question whether recurrent payments are made on capital or revenue account, they will rarely be decisive; the answer depends on identifying just what the payment in question was calculated to achieve from a practical and business point of view. In concluding that the $0.15 per ton payments were deductible outgoings on revenue account, his Honour, at ATC 4078; CLR 175, placed emphasis on the fact that the payment in question could not, in a practical business sense, be seen to be made as part of the price for the acquisition of a capital asset. Murphy J also appears to have regarded it as decisive of an outgoing being on capital account if it could, from a practical and business viewpoint, be identified as part of the consideration paid for the acquisition of a capital asset: his Honour, at ATC 4078; CLR 176, concluded that the ``deferred payments'' were not on capital account because they were not paid to acquire the capital asset, the shares.

Gibbs and Stephen JJ dissented as to the result. But, as appears from ATC 4068; CLR 156, Gibbs J was of the view that it was decisive of the outgoing being on capital account if it could be ``truly characterised as the payment of consideration for a capital asset or advantage'', as his Honour held, at ATC 4067; CLR 153, was the case. Stephen J's judgment was to similar effect; he emphasised, at ATC 4071; CLR 161-162, the importance, as indicating that an outgoing was on capital account, that it was part of the consideration for the acquisition of a capital asset.

In
Commissioner of Taxation v Morgan (1961) 106 CLR 517, the primary consideration that led the Court to conclude that a payment of an adjustment in respect of water rates made by the purchaser to the vendor on settlement of the sale of an income producing property was a deductible outgoing and not of a capital nature was that it could not, on any view of the case, be said to represent a payment for that capital asset: see p 521.

The applicant also relied on dicta in
Commissioner of Taxes v Nchanga Consolidated Copper Mines Ltd [1964] AC 948 at 963-964 as supporting the proposition that, because the $9.2M was paid by way of reimbursing the vendor for work involved in the production of stock-in-trade, viz, mined coal, it should be regarded as a revenue outgoing. There, the Privy Council, at 963-964, accepted that, as a general rule, if a man acquires and pays for stock-in-trade for his own business on the taking over of another he is entitled to set off against the gross proceeds of realising the stock the identifiable cost of acquiring it. But it is clear, from the Privy Council's reference to Lord Sumner's dictum in
John Smith and Son v Moore [1921] 2 AC 13 at 39, that it regarded the principle as applicable only where an existing business acquires a profit-yielding asset for realisation in that business, eg, goods which would comprise trading stock of the purchaser's business or something analogous to trading stock, such as contracts which would generate income for that business. The purchaser of the coal merchant's business in the John Smith case failed in his claim to a deduction of an amount equal to the estimated value of long-term coal supply contracts which would yield coal, ie, the stock-in-trade from the sale of which the purchaser would generate his business income and which contracts were included in the purchase precisely because those contracts formed part of an entire business acquired by the purchaser, as a new venture. Lord Sumner regarded the John Smith case as governed by the decision in
City of London Contract Corporation Ltd v Styles (1887) 2 TC 239. There, the purchaser,

ATC 4086

incorporated for the purpose of buying the business of a firm of building contractors as a going concern, failed in its claim to a deduction of the sum which was its estimate of that part of the purchase price for certain uncompleted building contracts acquired from the vendors, even though it was by completing those contracts in the course of carrying on its newly- acquired business that the purchaser would earn its income and thus its taxable profit. In the Court of Appeal, Esher MR said, at 244, that it was not permissible to deduct from the net profits derived by the purchaser, in the year in which the business was bought and on which profits income tax was payable, any part of the purchase price, ie, any part of the capital invested in the business. In John Smith, Lord Sumner said, at 39:

``The Court [in Styles] held that this sum was paid with the rest of the aggregate price to acquire the business and thereafter profits were made in the business; the sum was not paid as an outlay in a business already acquired, in order to carry it on and to earn a profit out of this expense as an expense of carrying it on.''

Nchanga provides no support for the proposition that where a purchaser who is not already conducting a particular business buys another's business as a going concern and commences to operate that newly-acquired enterprise, a store of assets acquired in the purchase and which will be sold, or which will otherwise be taken advantage of by the purchaser in the course of carrying on the newly acquired business to generate its income, can be treated as a charge against that income and deductible accordingly. The cost of acquiring such an asset as part of the purchase of a business as a going concern will be on capital account. Styles and Lord Sumner's views in John Smith, accepted as correct in Nchanga, are, in my opinion, authority for the proposition that, where a purchaser acquires as a new venture for it, an entire business as a going concern and the purchase includes the acquisition of the benefit of work done by the vendor which will, with further work by the purchaser, yield income to the purchaser from the business, anything paid as part of the purchase price which can be allocated to the acquisition of that benefit is an outgoing on capital account.

This is so, in my opinion, even if an existing business that bought that same benefit from the vendor might be entitled to treat the price paid as a deductible outgoing on revenue account: if, eg, an existing construction company were to take assignments of the vendor's partly completed building contracts, the consideration paid for those assignments might well be a deductible outgoing. No different conclusion is warranted even if the cost to the purchaser of the further work done by it after acquisition of the business on the work-in-progress performed by the vendor will be a revenue outgoing of the purchaser.

The reason is that such an outgoing by an existing business, as opposed to an outgoing by a purchaser as part of the cost of acquiring what is for it a new venture, is of the same kind as, or analogous to, the outlays repeatedly made in the past by that existing enterprise to obtain the regular returns, which together comprise the flow of money in the ordinary course of the business conducted by that enterprise and from which it has customarily generated its trading income. Cf Sun Newspapers at ATD 93; CLR 359. It is its similarity to outgoings that have already been incurred by the existing business and which undoubtedly have the character of revenue outgoings of that business that requires such an outlay to be characterised in the same way; the character of the advantage sought from such an outlay is the same income-generating advantage sought from similar outlays made and to be made in the ordinary course of carrying on the existing business. This justification is absent where part of the cost of acquiring a new business of a kind not previously conducted by the purchaser is an outgoing which will be similar in kind to revenue outgoings which the purchaser can expect to make in the future, once it commences to trade: in this situation, the character of the advantage sought by making the particular outlay is the same as that sought from making the other outlays which together comprise the price paid for acquiring the capital asset, viz, the new business as a going concern. From a practical and business point of view, there is no justification for characterising one component of the stated price paid to acquire such an asset differently from any of its other components: the entire price has to be paid to acquire the new business.

ATC 4087

The proper tax treatment of the cost of trading stock, as part of the cost to a purchaser of acquiring a business, does not, I think, conflict with this analysis. Where a business is bought as a going concern and the sale includes trading stock, expenditure by the purchaser on the trading stock is on revenue, not capital, account: see s 51(2). The deduction to which the purchaser is entitled is an amount equal to the market value of that trading stock: s 36(1) and (8). But for these provisions, it might be thought that, consistently with what I think to be the consequences for tax purposes of laying out money to acquire an entire business, such an expenditure by the purchaser of a business as a going concern would be on capital account. This was the view expressed in Income Tax Law and Practice (Commonwealth), Challoner and Collins, 1st Ed, 1953 at p 189 and in The Law of Income Tax (The Commonwealth), Ratcliffe, McGrath and Hughes, 1938 at p 418. It is a view which would appear to be supported by
Webster v Deputy Federal Commissioner of Taxation (WA) (1926) 39 CLR 130, decided under a statute without provisions comparable to ss 51(2) and 36; there, the purchaser of a grazing business as a going concern claimed to deduct from his assessable income, which included the gross proceeds of sale of the mature wool clip, that part of the purchase price which he attributed to the wool growing at the date of acquisition of the business on the sheep included in the purchase. The majority rejected this claim on the basis that there was no justification for treating any part of the purchase money paid to acquire a business and the assets used in carrying it on as other than a capital outgoing. Yet the costs incurred by the purchaser after taking over the business of growing the wool to maturity would have been revenue outgoings, deductible from the sale proceeds of the clip. But cf
FC of T v Raymor (NSW) Pty Ltd 90 ATC 4461, in which the Full Court of this Court observed (at 4471): ``No reported case is to be found under the previous legislation [ie that ante-dating ITAA 1936], nor in the United Kingdom, New Zealand or Canada which ever suggested that expenditure on trading stock in the ordinary sense of that expression was on capital account, even if the outgoing were the first purchase of the business'' (emphasis added).

The respondent relied particularly on
Coughlan v FC of T 91 ATC 4505. There, Heerey J held that the purchaser of the assets of an accountancy practice was not entitled to a deduction for that part of the purchase price paid in respect of one of those assets, work-in- progress. The contract provided for payment by the purchaser of a lump sum price of $466,523, one component of which was $195,255 for the work-in-progress: see the Tribunal's decision at 90 ATC at 544-545. Heerey J observed that, although the purchaser did not have a legal right to complete the work-in-progress and to charge the clients for the total amount, there was a high probability that the clients in question would allow their work to be completed by the new firm and would pay it for all the work done, including the work done prior to the purchase of the business; his Honour therefore concluded that the work-in-progress was ``in essence no different from the acquisition of goodwill''. His Honour rejected the taxpayer's argument that the payment for work-in-progress was an outgoing of a revenue nature because it was said to be no different in kind from a payment made by the new firm if it were to subcontract the work out to another accountant: the new firm would plainly be entitled to a deduction for that accountant's charges against the fees it earned. Heerey J, at 4508, said:

``In my opinion, this argument ignores the critical circumstance that work in progress was acquired by the new firm as part of the assets of a business with the intention of using those assets to produce revenue.... Money was paid for goodwill and work in progress, along with other assets, to acquire a structure which could be used to produce income.''

At 4509-4510, after referring to decisions in which payments received by retiring partners in respect of work-in-progress were held to form part of the assessable income of the taxpayer and to
Henderson v FC of T 70 ATC 4016; (1970) 119 CLR 612, which, as his Honour observed, was concerned with the point in time at which professional fees of an accountancy firm were derived and thus when they should be included in its assessable income, his Honour said: ``The context had nothing to do with the sale of a business''. His Honour concluded:

``... But in the present case the new firm outlayed money to acquire a business and work in progress was simply part of the assets of that business.''

ATC 4088

In my opinion, there is no difference in principle between the overburden work-in- progress here in question and the work-in- progress the subject of the sale of the accountancy practice considered in Coughlan: each constitutes an asset of an income- producing business, purchased by a new trader as a going concern. Each is of value to the particular purchaser because the work-in- progress will directly assist the purchaser to generate income from the business when it is taken over. But the overburden work-in- progress is an integral part of the mining operation the subject of the purchase by SBC, just as the work-in-progress was an integral part of the accountancy practice the subject of Coughlan's case. If work-in-progress in an accountancy practice can properly be described as part of an income-producing structure, viz, the entire practice, as the subject of sale as a going concern, there is, in my opinion, no ground for denying that the overburden work- in-progress here in question has the same character as part of an income-producing structure.

The applicant, in its written reply to the respondent's statement of facts, issues and contentions filed pursuant to O 52B r 5, asserted that, if, contrary to its primary contention, the $9.2M was incurred in the acquisition of an asset, it should be treated as incurred in the purchase of trading stock, ie, coal to be won by SBC, and so deductible by force of s 51(2). The applicant did not pursue this contention at the trial, no doubt because of the difficulty in showing that the unmined coal underlying the strata in which the work-in- progress had been done by the vendor could properly be described as ``trading stock'' within s 51(2) before it was severed from the land of which it formed part.

The applicant's accounting and other witnesses described, at some length, how the $9.2M was accounted for in SBC's books. This was not treated in the books as the cost of acquiring a capital asset, but rather as a revenue outgoing. SBC accounted for the $9.2M in exactly the same way in which it accounted for the costs incurred in respect of overburden removal, which it carried out for itself after it took over the mine. All these costs of overburden removal, where the underlying coal had not been sold at balance date, were included in SBC's balance sheet at the end of the relevant financial year as ``deferred mining expenditure''. Such costs were then included in the cost of sales of the associated coal and matched with that sales revenue to identify the profit to be brought to account in the period in which the sales were made; in accordance with this orthodox accounting approach and save to the extent that some of the coal in the areas in which the work of overburden removal for which SBC paid the $9.2M then remained unsold, the $9.2M reimbursement paid in October 1990 to the vendor in respect of overburden costs was charged against the sale proceeds of the underlying coal earned in the 1991 year to arrive at the profit of SBC for that year. But no reliance was placed by the applicant in argument on the way the $9.2M was dealt with in SBC's books as an indication that the payment was a revenue, rather than a capital, outgoing. I would not, in any event, regard this accounting evidence as sufficient to justify a conclusion that the $9.2M was an outgoing on revenue, rather than capital account, in view of the statutory denial of deductibility for capital outgoings and what I take to be the clear law governing the tax characterisation of this payment.

The applicant contended, in a brief submission, that, if the $9.2M is not allowable under s 51 as a deduction from SBC's 1991 income, it is an allowable deduction under s 122DG. If this is correct, a fractional part of the $9.2M would be deductible from SBC's income for each of the 1991 and a number of subsequent years, until amounts totalling that figure had been deducted from the income of those years.

Whether SBC is entitled to these deductions depends, for present purposes, upon the $9.2M being ``allowable capital expenditure incurred by the taxpayer'' within s 122DG(1). The expression ``allowable capital expenditure'' is defined in s 122A(1) to mean ``expenditure of a capital nature incurred by the taxpayer'' which falls into any one of a number of categories. The only category upon which the applicant relied is that in s 122A(1)(a): ``expenditure in carrying on prescribed mining operations...''. The term ``prescribed mining operations'' is defined in s 122(1) to mean ``mining operations on a mining property for the extraction of minerals, other than petroleum, from their natural site, being operations carried on for the

ATC 4089

purpose of gaining or producing assessable income''.

The applicant submitted that, because SBC paid the $9.2M solely for the purpose of obtaining the benefit of work carried out by the vendor up to the date of completion of the contract entirely directed to facilitating the extraction by SBC of the coal, that expenditure by SBC came within s 122A(1)(a).

There is authority that the expenditure of sums for the purpose of acquiring a property for use as a mining property is not ``expenditure in carrying on prescribed mining operations'' within s 122A(1)(a) because it is preparatory to the carrying on of such operations on the property, once acquired; it is only in cases covered by s 122A(1)(d) (and s 122B) that such expenditure becomes ``allowable capital expenditure'' for the purposes of Division 10 of Part III of the Act. See
Utah Development Co v FC of T 75 ATC 4103 at 4116-4117; (1975) 5 ALR 474 at 491 (affirmed on other grounds by the High Court: 76 ATC 4119) and
Cyprus Mines Corporation v FC of T 78 ATC 4468 at 4485; (1978) 22 ALR 322 at 344-345. I respectfully agree with the views there expressed. For the reasons given, the $9.2M was paid by SBC as an integral part of the cost of acquiring a working mine and so cannot be ``expenditure in carrying on prescribed mining operations'' incurred by SBC. There is no suggestion that SBC complied with the requirements of either s 122A(1)(d) or s 122B. The $9.2M is therefore not ``an allowable capital expenditure'' for the purposes of Division 10.

The application is dismissed with costs.


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