Odeon Associated Theatres Ltd v. Jones (Inspector of Taxes)

[1972] 1 All ER 681

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(Decision by: Salmon LJ)

Between: Odeon Associated Theatres Ltd
And: Jones (Inspector of Taxes)

Court:

Judges:
Salmon LJBuckley LJ
Orr LJ

Subject References:
TAXATION
INCOME TAX
Deduction in computing profits
Trade expenses
Repairs
Deferred repairs
Acquisition of cinema in poor repair
Cinema fully capable of commercial use
Vendor's failure to repair before acquisition
Vendor precluded by war time restrictions from carrying out repairs
No diminution in price in respect of disrepair
Deferred repairs begun two years after acquisition
Repairs spread over several years
No indication of extra cost over and above cost of ordinary repairs
Expenditure on deferred repairs charged to revenue account as separate item from expenditure on current repairs
Expert evidence on accountancy practice
Finding that charging to revenue according with accountancy practice
No conflict with statute
Conclusiveness of finding
Whether expenditure on deferred repairs capital or revenue expenditure for income tax purposes
Whether deductible in computing profits

Legislative References:
Income Tax Act 1952 - s 137

Case References:
Bidwell v Gardiner - (1960) 39 Tax Cas 31; 28(1) Digest (Reissue) 194, 603
British Insulated and Helsby Cables Ltd v Atherton - [1926] AC 205; [1925] All ER Rep 623; 95 LJKB 336; 134 LT 289; 10 Tax Cas 155; affg CA sub nom Atherton v British Insulated and Helsby Cables Ltd [1925] 1 KB 421; 28(1) Digest (Reissue) 211, 627
BSC Footwear Ltd (formerly Freeman, hardy & Willis Ltd) v Ridgway (Inspector of Taxes) - [1971] 2 All ER 534; [1971] 2 WLR 1313; Digest Supp
Comr of Taxes v Nchanga Consolidated Copper Mines Ltd - [1964] 1 All ER 208; [1964] AC 948; [1964] 2 WLR 339; 28(1) Digest (Reissue) 204, 677
Highland Railway Co v Balderston (Surveyor of Taxes) - (1889) 2 Tax Cas 485; 28(1) Digest (Reissue) 201, 652
Inland Revenue Comrs v Granite City Steamship Co Ltd - 1927 SC 705; 13 Tax Cas 1; 28(1) Digest (Reissue) 202, 658
Jackson (Inspector of Taxes) v Laskers Home Furnishers Ltd - [1956] 3 All ER 891; [1957] 1 WLR 69; 37 Tax Cas 69; 28(1) Digest (Reissue) 192, 594
Law Shipping Co Ltd v Inland Revenue Comrs - 1924 SC 74; (1923) 12 Tax Cas 621; 28(1) Digest (Reissue) 599, 1480
Lothian Chemical Co Ltd v Rogers (Inspector of Taxes) - (1926) 11 Tax Cas 508; 28(1) Digest (Reissue) 202, 657
Ostime (Inspector of Taxes) v Duple Motor Bodies Ltd - [1961] 2 All ER 167; [1961] 1 WLR 739; 39 Tax Cas 537; affg CA sub nom Duple Motor Bodies Ltd v Inland Revenue Comrs [1960] 2 All ER 110; [1960] 1 WLR 510; 28(1) Digest (Reissue) 125, 371
Regent Oil Co Ltd v Strick (Inspector of Taxes) - [1965] 3 All ER 174; [1966] AC 295; [1965] 3 WLR 636; 43 Tax Cas 1; affg CA sub nom strick (Inspector of Taxes) v Regent Oil Co Ltd [1964] 3 All ER 23; [1964] 1 WLR 116; 28(1) Digest (Reissue) 183, 552
Roebank Printing Co Ltd v Inland Revenue Comrs - [1928] SC 701; [1927] 13 Tax Cas 864; 28(1) Digest (Reissue) 207, 685
Royal Insurance Co v Watson - [1897] AC 1; 66 LJQB 1; 75 LT 334; 3 Tax Cas 500; 28(1) Digest (Reissue) 185, 562
Stott v Hoddinott - (1916) 7 Tax Cas 85; 28(1) Digest (Reissue) 180, 542
Sun Insurance Office v Clark - [1912] AC 443; [1911-13] All ER Rep 495; 81 LJKB 488; 106 LT 438; 6 Tax Cas 69; 28(1) Digest (Reissue) 134, 398
United Steel Cos Ltd v Cullington - [1940] 2 All ER 170; [1940] AC 812; 109 LJKB 342; 163 LT 42; 23 Tax Cas 91; 28(1) Digest (Reissue) 460, 1658
Usher's Wiltshire Brewery Ltd v Bruce - [1915] AC 433; 84 LJKB 417; 112 LT 651; 6 Tax Cas 418; 28(1) Digest (Reissue) 130, 383

Hearing date: 18-20 October 1971
Judgment date: 3 November 1971

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Decision by:
Salmon LJ

The relevant extracts from the case stated are all set out in Pennycuick V-C's lucid judgment ([1971] 2 All ER 407, [1971] 1 WLR 442); see pp 683-686, ante and I need not repeat them. I wish, however, to draw attention to certain salient facts affecting this appeal. The taxpayer company, Odeon Associated Theatres Ltd, carry on business as exhibitors of films. They are, and have been since the 1930's, one of the largest exhibitors of films in England and own very many cinemas throughout the country. They are now members of one of the biggest groups of companies engaged in the cinema industry in England. In the immediate post-war years, the taxpayer company bought a large number of cinemas and cinema owning companies. The object of these purchases was (a) to prevent this branch of the industry from falling under American domination, (b) to strengthen the taxpayer company's negotiating power in booking films, and, of course, (c) to enlarge their profits.

On 8 January 1945 the taxpayer company bought what had formerly been called the Regal Cinema at Marble Arch for £240,000. During the war years, owing to the then current restrictions, it had been impossible to spend more than comparatively small sums on keeping cinemas in repair. Accordingly in 1945 the cinema at Marble Arch, like all cinemas in this country, was some what run down. During the previous five years many repairs and replacements which would normally have been effected had necessarily been deferred, because it had been impossible to obtain licences to carry them out. Nevertheless, the Marble Arch cinema at the date of its acquisition was a fully effective profit-earning asset, and the price which the taxpayer company paid for it had not been diminished nor in any way affected by reason of its lack of repair.

During the period 1945-54 the taxpayer company spent considerable sums of money in making additions to building plant and equipment at this cinema. All these items were charged as capital expenditure by the taxpayer company in their accounts.

In each year from 1945 to 1954 the taxpayer company also spent substantial sums of money on repairs and renewals at this cinema. Some of this money was charged in their accounts as revenue expenditure spent on current repairs and renewals; it was allowed without question by the Inland Revenue as a charge against the taxpayer company's profits. On the other hand, some of the money spent during this period on repairs and renewals was charged in the taxpayer company's accounts as revenue expenditure spent on deferred repairs and renewals.

The reason for the taxpayer company distinguishing in their accounts between current and deferred repairs and renewals was to avail themselves of the concessions relating to their liability for excess profits tax made by s 37 of the Finance Act 1946. This tax had been in existence from about the middle of 1940 until the end of 1946. Section 37 provided in effect that any money spent after 1946 relating to repairs and renewals which had been necessarily deferred during the period when excess profits tax was exigible should be credited against liability for the tax. Between 1947 and 1954 the taxpayer company charged £17,708 as their expenditure on deferred repairs and renewals. The amount spent during this period on deferred repairs and renewals obviously could not be precisely measured. The Inland Revenue challenged the figure of £17,708. Negotiations took place and the amount attributable to deferred repairs and renewals was eventually agreed with the Inland Revenue at £11,510. It was also agreed that £7,969 of that sum related to the period prior to the acquisition of the cinema by the taxpayer company on 8 January 1945 and the balance of £3,541 to the period from 8 January 1945 until 1 January 1947.

The Crown contends that the several sums amounting in all to £7,969 are not revenue expenditure but capital expenditure and therefore cannot be taken into account in assessing the taxpayer company's liability for income tax in respect of any of the fiscal years in question. It is, I think, worth noting from the case stated how the expenditure of £7,969 was allocated over the years.

It is also perhaps worth noting that the work comprised in these items includes, for example, renewing carpets, decorating, rewiring, etc. It does not seem to me that any of this expenditure can, prima facie, properly be regarded as being in the nature of capital expenditure. It appears to me to be obviously revenue expenditure. Moreover, the first item of this expenditure was not incurred until two years after the acquisition of the cinema and the last not less than nine years after the acquisition. £7,969 may be a comparatively small sum of money, but the group of which the taxpayer company is a member owns 564 cinemas. In many of these, the same questions arise as in the present case. The total amount of tax liability depending on the result of this appeal is accordingly very large.

The evidence of a number of exceptionally distinguished accountants, accepted by the Special Commissioners, was that in accordance with the established principles of sound commercial accounting the disputed items of expenditure were a charge to revenue. Pennycuick V-C ([1971] 2 All ER 407, [1971] 1 WLR 442) held that in law these items were properly chargeable to revenue and that the profits for the years in question should be assessed for tax on that basis. Against that judgment ([1971] 2 All ER 407, [1971] 1 WLR 442) the Crown now appeals.

Few commercial questions have been responsible for so much litigation as: what is the true profit in a particular year? Sometimes this question depends, as in Ostime (Inspector of Taxes) v Duple Motor Bodies Ltd, on the correct method of assessing work in progress; sometimes, as in BSC Footwear Ltd v Ridgway (Inspector of Taxes), on the correct method of assessing stock in trade; and sometimes, as in the present case and many others, on deciding which items of expenditure are to be attributed to capital and which to revenue. In solving this question as to what is the true profit-

'... first, ... the ordinary principles of commercial accounting must, as far as practicable, be observed and, secondly, ... the law relating to income tax must not be violated ... that is to say, by one means or another the full amount of the profits or gains of the trade must be determined.'

See Viscount Simonds's speech in the Duple Motor Bodies case ([1961] 2 All ER at 169, [1961] 1 WLR at 746, 747). In Lothian Chemical Co Ltd v Rogers (Inspector of Taxes) ((1926) 11 Tax Cas 508 at 520, 521), Lord Clyde observed:

'My Lords, it has been said time without number ... you deal in the main with ordinary principles of commercial accounting. They do expressly exclude a number of deductions and allowances, some of which according to the ordinary principles of commercial accounting might be allowable. But where these ordinary principles are not invaded by Statute they must be allowed to prevail. It is according to the legitimate principles of commercial practice to draw distinctions, and sharp distinctions, between capital and revenue expenditure, and it is no use criticising these, as it is easy to do, upon the ground that if you apply logic to them they become more or less indefensible. They are matters of practical convenience, but practical convenience which is undoubtedly embodied in the generally understood principles of commercial accounting.'

I confess that in the present case I find it difficult to discern any conflict between logic and the established principles of sound commercial accounting. Lord Clyde was merely restating a principle of law which has been laid down in countless other authorities: see, for example, Stott v Hoddinott ((1916) 7 Tax Cas 85 at 91) per Atkin J; Sun Insurance Office v Clark ([1912] AC 443 at 455, [1911-13] All ER Rep 495 at 499) per Viscount Haldane and Roebank Printing Co v Inland Revenue Comrs ((1927) 13 Tax Cas 864 at 874) per Lord Clyde. In my judgment, the true proposition of law is well established, namely that in determining what is capital expenditure and what is revenue expenditure in order to arrive at the profit for tax purposes in any particular year, the courts will follow the established principles of sound commercial accounting unless they conflict with the law as laid down in any statute.

In the present case, it is argued on behalf of the Crown that to charge the items in question to revenue is contrary to the following provisions of s 137 of the Income Tax Act 1952:

'Subject to the provisions of this Act, in computing the amount of the profits or gains to be charged under Case I or Case II of Schedule D, no sum shall be deducted in respect of-(a) any disbursements or expenses, not being money wholly and exclusively laid out or expended for the purposes of the trade, profession or vocation ... (d) any sum expended for repairs of premises occupied, or for the supply, repairs or alterations of any implements, utensils or articles employed, for the purposes of the trade, profession or vocation, beyond the sum actually expended for those purposes ... (f) any capital withdrawn from, or any sum employed or intended to be employed as capital in, such trade, profession or vocation; (g) any capital employed in improvements of premises occupied for the purposes of the trade, profession or vocation.'

In my view, the money laid out in respect of the disputed items was indubitably laid out by the taxpayer company wholly and exclusively for the purposes of their trade. I certainly cannot think of any other purpose for which the money was in reality expended. It was argued that this money was being laid out in the years 1947-54 partly for the purpose of a trade which had been carried on prior to 8 January 1945 by the company from which the taxpayer company bought the cinema. I am afraid that I cannot accept this argument. It seems to me to be unreal on the facts and to involve an altogether too artificial construction of s 137(a). For the same reasons, I am equally satisfied that all the sums expended for repairs of the cinema occupied by the taxpayer company or for the supply, repairs or alterations of any implements, utensils or articles for the purposes of the taxpayer company's trade were actually expended for those purposes and therefore are not excluded by s 137(d).

I of course accept that if any of the disputed items in truth constituted capital expenditure they would be excluded by s 137(f) and (g). But no help can be derived from the Act in deciding the question of what is capital expenditure. The Act does not give even the faintest hint as to how this question should be answered. I am therefore wholly unable to accept the argument that the established commercial accounting practice (found by the Special Commissioners) of charging the disputed items to revenue and not to capital is in any way in conflict with the Act.

That, in my view, really disposes of this appeal. I must, however, deal with Law Shipping Co Ltd v Inland Revenue Comrs, out of respect for the interesting arguments which have been addressed to us on it. In this connection, it must be remembered that in the present case the commissioners have found on ample evidence an established practice of sound commercial accounting. Sometimes, however there is no evidence of such a practice; sometimes there is conflicting evidence; and sometimes there is evidence of two parallel but conflicting principles of commercial accounting. In such cases, the courts must do the best they can without evidence, or choose between the conflicting evidence or decide which is the most appropriate principle of commercial accounting to adopt. Even in cases such as these, of which the Law Shipping case was one, the courts have never attempted to define 'capital expenditure' or 'revenue expenditure'. Such is the complexity of commerce and accountancy that no definition could be devised which would be appropriate in every case.

In the many cases in which the courts have had to determine 'What are the profits and gains?', they have often had to consider whether a certain item of expenditure is properly chargeable against capital or revenue without any evidence or with conflicting evidence of established commercial accounting practice. In such cases the courts have used illustrations or phrases which seemed helpful in solving the problem confronting them in the light of the particular facts being considered. As Viscount Radcliffe observed, in giving the judgment of the Board in Comr of Taxes v Nchanga Consolidated Copper Mines Ltd ([1964] 1 All ER 208 at 212, [1964] AC 948 at 959):

'... it has to be remembered that all these phrases ... are essentially descriptive rather than definitive, and, as each new case arises for adjudication and it is sought to reason by analogy from its facts to those of one previously decided, a court's primary duty is to inquire how far a description that was both relevant and significant in one set of circumstances is either significant or relevant in those which are presently before it.'

Where, however, there is evidence which is accepted by the court as establishing a sound commercial accounting practice conflicting with no Act, that normally is the end of the matter. The court adopts the practice, applies it and decides the case accordingly.

It seems to me important to keep these considerations well in mind when considering the Law Shipping case, which was the sheet anchor of the Crown's case in this court and which appeared to the Special Commissioners to be conclusive in the Crown's favour. In that case, the taxpayers had bought a ship for £97,000 which at the time of purchase was ready to sail with freight booked. The periodical Lloyd's survey was then considerable overdue. As a matter of grace, an exemption from survey was obtained until the completion of the voyage which the vessel was then about to commence. At the conclusion of the voyage about six months later £51,558 had to be spent on repairs in order for the vessel to pass its survey. £12,000 of this sum was in respect of repairs caused by deterioration during the voyage. The balance of £39,558 was spent to remedy the state of disrepair in which the vessel had been at the time of purchase. It was held that this latter sum was capital expenditure by the taxpayers and could not be charged against their profits. Before the taxpayers purchased the vessel they must have been aware that a large sum of money would have to be spent on repairs before the Lloyd's certificate could be renewed. It must have been apparent, as Lord Clyde pointed out, that if the vessel had been in a fit state of repair to pass survey at the time of purchase, its capital value, and therefore the price which the taxpayers would have had to pay, would have far exceeded the purchase price of £97,000,

There seem to me to be many important distinctions between that case and the present case. (1) In the Law Shipping case the purchase price was substantially less than it would have been had the vessel been in a fit state of repair to pass the Lloyd's survey at the date of purchase. Lord Skerrington stressed ((1923) 12 Tax Cas at 627) that the taxpayers had bought a vessel which was out of repair to the extent of £39,558 and that they made good this defect at the first opportunity. He added ((1923) 12 Tax Cas at 627):

'The cost of these repairs was in my opinion just as much a capital expenditure from the point of view of the Appellants' business as it would have been if the work had been executed by the seller before the sale and the cost had been added by him to the price of the ship.'

In the present case, the purchase price paid by the taxpayer company was in no way affected by the fact that the cinema was in disrepair at the date of its acquisition. The sellers could not lawfully have executed the repairs prior to the acquisition since no licence to execute such work was then obtainable. (2) In the Law Shipping case the vessel was not in a state to pass survey at the time of purchase, and in order to obtain a Lloyd's certificate and turn it into a profit-earning asset after the voyage on which it was then embarking it was necessary to spend a very large sum on deferred repairs immediately after the conclusion of that voyage. In the present case, the cinema was a profit-earning asset at the date of its acquisition in spite of its state of disrepair. It remained so, although no money was spent on deferred repairs for a number of years after its acquisition. (3) In the Law Shipping case there was no evidence that on established principles of sound commercial accounting the £39,558 could properly be charged by the taxpayer as revenue expenditure. And I should have been very surprised if there had been any such evidence. Lord Clyde thought it would have been abnormal to charge this outlay against the taxpayers' revenue expenditure. Lord Sands said ((1923) 12 Tax Cas at 629): 'Upon ordinary business principles this outlay appears to me to be properly a capital charge.' In the present case, however, the commissioners held, on ample evidence, that it was in accordance with the established principles of sound commercial accounting to charge the disputed items to revenue expenditure, and these principles in no way conflict with any statute.

To my mind, the facts of the Law Shipping case are so far removed from those of the present case that in spite of the most skilful arguments advanced on behalf of the Crown I am altogether unpersuaded that there is anything in that authority or any other which would make it permissible for us to hold in the present case that the sums spent on deferred repairs should be charged to capital expenditure in the teeth of sound commercial accountancy practice which conflicts with no statute. I would accordingly dismiss the appeal.

Before parting with this case, I should mention, however, that when this case came before the commissioners and Pennycuick V-C ([1971] 2 All ER 407, [1971] 1 WLR 442), the Marble Arch cinema was selected as an example of a class of transaction in which a cinema was acquired by the taxpayer company from an outside source without succession. Examples of three other classes of transaction were also considered, namely transactions in which a cinema was acquired from (a) an outside source with succession, (b) as the result of a transfer within the group without succession, and (c) as the result of a transfer within the group with succession. It was conceded that if deferred repairs in respect of the Marble Arch cinema were properly chargeable as revenue expenditure then they should also properly be so charged in respect of each of the other three classes of transaction. This no doubt was because the three other classes of transaction were even further away from the Law Shipping case than the Marble Arch transaction-if that be possible. Accordingly since I have come to the conclusion at which I have arrived in respect of the Marble Arch cinema, I find it unnecessary, as did Pennycuick V-C ([1971] 2 All ER 407, [1971] 1 WLR 442), to deal with the other classes of transaction. I would only add that had I considered that deferred repairs in respect of the Marble Arch cinema were properly chargeable against capital I think, although I am expressing no concluded view on this point, that I should probably have held that they were equally chargeable against capital in the case of all the other three classes of transaction to which I have referred. The question in each type of transaction must always be the same: what were the profits earned by the taxpayer company for the fiscal years in question? The source from which the taxpayer company acquired the cinemas with which they earned their profits does not seem to me, as at present advised, to be relevant to this question.

Nor does it seem to me to be relevant whether the taxpayer company acquired the cinemas with or without succession to the trade of the sellers or transferors.