Rowdell Pty Ltd v Federal Commissioner of Taxation

(1963) 111 CLR 106
37 ALJR 332

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(Decision by: Menzies J)

Between: Rowdell Pty Ltd
And: Federal Commissioner of Taxation

Court:

Judges: Dixon CJ
Kitto J
Menzies J

Subject References:
Income Tax (Cth)

Hearing date:
Judgment date: 10 December 1963

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Decision by:
Menzies J

In appeals to this Court under s. 196 of the Income Tax Assessment Act from the Commonwealth Taxation Board of Review No. 2, Kitto J., pursuant to s. 18 of the Judiciary Act, has stated a case for the consideration of the Full Court which asks seven questions relating to the taxpayer's income tax assessments for the years 1947, 1948 and 1949. The tax payable under the original assessments for each of the years 1947 and 1948 was 1 pounds 7s. 0d. but in 1951 the assessments for those years were amended to increase tax for 1947 to 1,777 pounds 7s. 0d. and for 1948 to 1,840 pounds 9s. 0d. At the same time tax for the year 1949 was assessed at 6,271 pounds 5s. 0d. What the Commissioner did in 1951 was to apportion deductions arising out of the purchase of shares in the course of the taxpayer's business as a share dealer and attribute proportionate parts thereof to dividend income that was either exempt under s. 44 (2) of the Act or rebateable under s. 46 or s. 107 which had been derived from the shares that the taxpayer had purchased and realized in the year of income. To take an example to illustrate the course that was followed, 8,809 pounds - the cost of 3,000 shares of 1 pounds each in H. L. Downe Ltd. (in liquidation) purchased in 1947 - was reduced by 3,000 pounds, that part of the distribution in the course of the liquidation that was treated as representing capital and was not to be deemed dividends pursuant to s. 47, and the loss (i.e. the difference between 8,809 pounds and 3,000 pounds, viz. 5,809 pounds) was attributed to distributions which in accordance with s. 47 were to be regarded as dividends making up the balance of what was paid by the liquidator (viz. 5,943 pounds) as follows:-

The taxpayer was then assessed as if its exempt income were 41 pounds rather than 1,800 pounds and its rebateable dividends were 62 pounds instead of 2,769 pounds under s. 46 and 31 pounds instead of 1,374 pounds under s. 107. In 1953 the assessments were further amended to increase the tax payable for 1947 to 1,817 pounds 11s. 0d., for 1948 to 2,391 pounds 15s. 0d. and for 1949 to 11,891 pounds 0s. 0d. The amendments in 1953 were made on the footing that, in any case where there had been an arrangement having the purpose or effect of avoiding tax to which the taxpayer and the persons from whom the taxpayer purchased shares were parties and the avoidance by s. 260 of the Act of that arrangement and the steps taken to carry it out resulted in the vendors of the shares being regarded as having remained the holders of the shares for the purpose of assessing their tax, the Commissioner could in assessing the taxpayer disregard the transfers to it and treat it as not being the holder of the shares transferred so that any moneys received as dividends did not have the character of dividends exempt or rebateable and the amount by which what the taxpayer received exceeded what it paid in the course of carrying out each transaction was a profit which the Commissioner was entitled to treat as a reward for participating with the vendors of th shares in an arrangement to avoid their tax: in other words, as payment for the service of transforming what would have been income into a capital receipt.

Again, to illustrate the basis of assessment by reference to transactions concerning shares in H. L. Downe Ltd. (in liquidation), the taxpayer was not regarded as having received any dividends but was treated as having been rewarded by the vendors of the shares for participating in an arrangment with them to avoid their tax obligations by being permitted to retain the difference (viz. 134 pounds) between what was received from the liquidator (8,943 pounds) and what was paid to or for the purported vendors in the guise of purchase money (8,787 pounds) and for stamp duty (22 pounds), in all 8,809 pounds. (at p130)

The taxpayer objected to all the 1951 and 1953 assessments and, upon its objections being wholly disallowed, the Commissioner's decisions were in accordance with the taxpayer's request referred to the Board of Review in accordance with s. 188 of the Act. Prior to the hearing before the Board of Review, the Commissioner wrote to the taxpayer advising that it was not intended to argue the principle upon which the 1951 assessments were based and that "the matters then remaining in dispute will be those in which it is intended to rely upon the provisions of Section 260 to support the existing assessments on the view that any income received by Rowdell Pty. Ltd. from certain transactions was in the nature of a profit or reward in respect of which no rebates are allowable under the Act. The particular transactions are:-

1947 H. L. Downe Ltd.

1948 Sumpton and Sons Ltd.

H. J. Wigmore & Co. Ltd.

1949 Baltic Agencies Pty. Ltd.

Mills & Ware Pty. Ltd.

Mulga Downs Pty. Ltd.

Naracoorte Pty. Ltd.

Western Press Pty. Ltd./Wheatgrower covenant.

The Board of Review by a majority rejected the Commissioner's contention upon these matters and allowed the taxpayer's objections to the 1953 amendments but, notwithstanding that there had been no argument with regard to the 1951 amendments, the Board went on to uphold the Commissioner's decision disallowing the taxpayer's objections to the 1951 amendments. Both the taxpayer and the Commissioner have appealed to this Court; the taxpayer supporting the Board of Review's decision so far as the 1953 amendments are concerned and appealing against its decision so far as the 1951 amendments are concerned; the Commissioner appealing against the decision so far as the 1953 amendments are concerned and, if unsuccessful in this, supporting the decision so far as the 1951 amendments are concerned. In these circumstances it seems desirable to start with a consideration of the 1953 amendments. (at p131)

These amendments were supported by reliance upon s. 260 and no case was made by the Commissioner that, independently of this section, the taxpayer's purchases of shares ripe to yield dividends were otherwise than genuine transactions for all purposes. In very general terms, what the taxpayer did during all the years in question was to seek out companies with substantial profits available for immediate distribution and whether or not in the course of liquidation and offer to purchase shares at a price somewhat below asset value from holders who would be taxable upon distributions as dividends. Such purchases themselves would afford the taxpayer the virtual certainty of profit because before it purchased it could calculate that it would receive by way of capital returns either on liquidation of the company or upon a resale of the shares and by the receipt of non-taxable or rebateable dividends the equivalent of the asset value of the shares without tax deduction - that is, it would receive free of tax more than it paid. There was for the taxpayer the further advantage that, being a share dealer, any loss made upon the realization of the shares would be taken into account in the calculation of its taxable income. For the prospective vendors the inducement was that instead of receiving taxable dividends, they would receive in the character of purchase money a capital sum enhanced by reason of their company's profits available for distribution which were represented in the asset backing of the shares. One of the taxpayer's transactions (that is, the purchase of shares in Mulga Downs Pty. Ltd.) was considered by this Court in Hancock v. Federal Commissioner of Taxation (1961) 108 CLR 258 where the facts are set out in detail so that it is convenient to examine the general problem now under consideration in relation to the taxpayer's purchases of shares in that company.

The taxpayer purchased 11,210 shares in Mulga Downs Pty. Ltd. from one group of shareholders (i.e. the Lefroy family) for 40,000 pounds and 7,728 shares from another group of shareholders (i.e. the Hancock family) for 23,500 pounds and so became the holder of all the shares in the company. After these purchases it withdrew 49,981 pounds 9s. 10d. in dividends from the company and then sold all the shares that it had purchased to the Hancock family for 21,000 pounds. It therefore paid 63,500 pounds and received 70,981 pounds 9s. 10d. leaving a difference of 7,481 pounds 9s. 10d. of which 2,043 pounds 1s. 8d. arose from the Lefroy family shares and 5,438 pounds 8s. 2d. arose from the Hancock family shares. The Lefroy family and the Hancock family were assessed upon the footing that s. 260 applied to the foregoing transactions and that by virtue of its operation the members of the families were entitled to, and taxable upon, the dividends arising from the shares that they had sold to the taxpayer. The assessment of the Hancock family upon this basis was upheld on the footing that the transfers of their shares were void as against the Commissioner because the members of the family were parties to an arrangement to avoid their tax obligations and the transfers were made in the carrying out of that arrangement. The objections of the Lefroy family were allowed on the ground, so it seems, that the arrangement was not made to avoid their tax obligations and the transfers of their shares were not avoided by s. 260. The 1953 amendments of the taxpayer's assessment for 1949 brought into account as non-dividend income subject to no rebate the sum of 7,481 pounds 9s. 10d. already mentioned and the question now for determination in relation to these transactions is whether this sum, or so much of it as represented what arose from the Hancock shares (i.e. 5,438 pounds 8s. 2d.), was correctly brought into account in this way.

At the hearing some question arose whether, even if the Commissioner could properly assess the taxpayer on the footing that it did not become the holder of the Hancock shares because the correctness of the assessment of the Hancock family on the footing that s. 260 did make void the transfers of their shares to the taxpayer was not in dispute, it could be concluded that the taxpayer had not become the holder of the Lefroy shares notwithstanding that the assessment of the Lefroy family on the footing that they had not transferred their shares to the taxpayer had not been sustained. As was intimated at the hearing, it seems that the case stated was based upon the footing that it was only in those cases where the Commissioner had made and maintained an assessment based upon s. 260 against the vendors of shares that the question arose whether the taxpayer as transferee of shares under transfers that were admittedly void as between the Commissioner and the transferors should be assessed as though it had not become the owner of the shares and that to facilitate the determination of this question the taxpayer for the purpose of these proceedings conceded that in such cases the correctness of taxing the vendors on the footing that s. 260 avoided the transfers so far as they and the Commissioner were concerned was not in dispute. In other words, in such cases neither the existence of an arrangement to which s. 260 applied nor that as between the Commissioner and the transferors that section avoided the transfers was disputed by the taxpayer. This was the view of counsel for the taxpayer but at one stage counsel for the Commissioner sought to justify the 1953 amendments in so far as they related to what the taxpayer got from the Lefroy shares on the footing that, notwithstanding the result of the proceedings upon the objections of the Lefroy family, the case stated showed sufficiently that the transfers by the Lefroy family to the taxpayer were void as against the Commissioner by reason of s. 260. I do not think it does; indeed, if the basis already indicated upon which it appears the case was stated is to be departed from, I would not be ready to conclude that there is sufficient in the case stated to show that any of the transactions whereby the taxpayer bought shares was affected by s. 260. It was only after an elaborate examination of the position of Mulga Downs Pty. Ltd. and that of the Hancock family and of the negotiations between the Hancock family and the taxpayer that it was concluded in the earlier litigation that there was an arrangement within the scope of s. 260, the avoidance of which involved the assessment of the Hancock family on the footing that they remained the owners of the shares. The case stated does not provide the material for a similar investigation of any of the transactions to which it relates and, except upon the basis which the taxpayer is prepared to accept, I do not think it has been made out that s. 260 has any application to the transactions covered by the case stated. The summaries of what occurred which appear in the case stated are sufficient upon which to proceed if the basis already referred to is accepted but they would not by themselves warrant the conclusion that there was in each of the ten cases covered by exhibit "O" an arrangement to which s. 260 applied. The real problem as I see it, therefore, in relation to the taxpayer's purchase of shares in Mulga Downs Pty. Ltd. and of the other companies concerned is whether, as certain transfers are void as against the Commissioner by reason of s. 260 because they were made to carry out an arrangement to avoid the vendor's tax obligations, it follows that the purchaser ought to have been assessed upon the footing that it had not become the owner of the shares transferred to it and so could not have received dividend income to which ss. 44 (2), 46 and 107 would apply. (at p134)

Before considering this problem it is necessary to mention the matter to which, it seems, question 7 in the case stated is directed, namely, whether independently altogether of the situation of the other parties the arrangement to which it became a party had the purpose and effect of avoiding the taxpayer's own tax obligations. Again I have not been able to find sufficient in the case stated to support such a conclusion notwithstanding that it would seem that the acquisition by the taxpayer of shares for more than they realized upon disposal did provide it with deductions (i.e. the purchase price substantially larger than the corresponding receipts i.e. the selling price or its equivalent). This of itself, however, is not sufficient to attract s. 260 and, upon the material in the case stated, it is not possible to conclude that the taxpayer was party to arrangements that had or purported to have the purpose or effect of avoiding its tax obligations, to use a compendious phrase to describe what appears in (a), (b), (c) and (d) of s. 260. (at p134)

Upon what I have referred to as the real problem, the strength of the Commissioner's case is the generality of the language of s. 260 which does not in terms confine the avoidance which the section works to the Commissioner vis-a-vis a taxpayer whose tax obligations the arrangement was intended to reduce or to proceedings under the Act in relation to such a taxpayer. If it be that the transfers by the Hancocks to the taxpayer are void as against the Commissioner without some such limitation so that for all the purposes of the Commissioner the Hancocks are to be treated as remaining the holders of the shares in Mulga Downs Pty. Ltd. which they transferred to the taxpayer with the consequence that the taxpayer did not become the holder of those shares, it would seem to follow that in the assessment of the taxpayer it could not be regarded as a shareholder. The operative words of the section are that an arrangement, etc. shall so far as it has or purports to have a specified purpose or effect "be absolutely void as against the Commissioner or in regard to any proceedings under this Act". Although I do not regard it as possible by implication of any particular words in the phrases "as against the Commissioner" or "in regard to any proceedings under this Act" to restrict them to persons who, if the arrangement, etc. in question had been in full force and effect, would have obtained a taxation advantage in that (a) the incidence of tax would have been altered from themselves to others or (b) that they would have obtained relief from liability to make a return or to pay tax or (c) that they would have escaped a duty or liability which the Act would otherwise have imposed on them or (d) that the operation of the Act with respect to them would have been prevented, it seems that as the section invalidates the arrangement, etc. and the steps to carry it out only in so far as it has or purports to have the purpose or effect of avoiding tax obligations, to use compendious language, so, when it is seen that the purpose and effect of a particular arrangement is limited to the tax obligations of particular persons, it is a proper conclusion that it is only to that limited extent that the arrangement is avoided. The purpose and effect of the arrangement with which I am particularly concerned as an illustration of the transactions here under consideration was to avoid the tax obligations which the Act imposed upon the Hancocks and this alone : accordingly, it is avoided by s. 260 so far and no further. When, therefore, the question is not as to the Hancocks' obligations under the Act, nothing is avoided by s. 260. This construction may be thought to have the unexpected consequence that, so far as the Commissioner is concerned, the transfers in question are void for the purpose of taxing the Hancocks (the transferors) but are not void for the purpose of taxing the taxpayer (the transferee) but this follows from the limitation which the section itself imposes upon the avoidance that it works. The contention of the Commissioner that any arrangement which has the purpose or effect of doing any of the things set out in (a), (b), (c) and (d) is void against him for all purposes and in all proceedings under the Act does not, I think, take sufficient account of the words "so far as". This phrase is not the equivalent of "if". In other cases it has been pointed out that the use of the phrase "so far as" gives the section an operation when tax avoidance is not the only purpose and effect of the arrangement under consideration : see Newton v. Federal Commissioner of Taxation (1958) AC 450 ; (1958) 98 CLR 1 ; in this case it is necessary to emphasize that the phrase "so far as" limits the operation of the section to what may be called an arrangement's tax-avoiding purpose and effect. (at p135)

What has been written about the transactions in relation to the purchase by the taxpayer of the Hancock family's shares in Mulga Downs Pty. Ltd. applies equally to the other transactions under consideration and for the foregoing reasons I have come to the conclusion that s. 260 does not support the 1953 amendments and that the taxpayer's objections to these were properly allowed by the Board of Review. In these circumstances it is not necessary to go further and to decide whether, if s. 260 applied, its operation would in any event have justified the conclusion that the taxpayer should be regarded as having obtained the difference between what it received and what it paid as income of the character of rewards for services rendered. (at p136)

The conclusion that the 1953 amendments cannot be supported makes it necessary to determine whether the 1951 amendments were correctly made and in so doing it is necessary to consider separately whether the Commissioner was right in making the deductions that he did from dividends having the character of exempt income, from dividends rebateable under s. 46, and from dividends rebateable under s. 107. At the outset it should perhaps be said that if any of such dividends should bear a proportion of some deduction, that deduction would be the cost of the shares which produced the dividends and not the difference between what the shares cost and what they brought after all dividends had been received. In other words, instead of the loss being spread over the dividends, the cost would have to be spread over the dividends and whatever else the taxpayer received for or on account of the shares. To revert to the H. L. Downe Ltd. transaction to illustrate the difference, the cost (8,809 pounds) would have to be spread rateably over the exempt dividends (1,800 pounds), dividends rebateable under s. 46 (2,769 pounds), the dividends rebateable under s. 107 (1,374 pounds) and the 3,000 pounds representing share capital instead of what is called the loss (i.e. 5,809 pounds) being spread over the three dividends, the course followed by the Commissioner with regard to that and other like transactions. The important question is, however, should the dividends bear any proportion of the proper outgoing ? (at p136)

So far as the exempt dividends are concerned, it is beyond question that no part of any deduction can be attributed to them, for deductions are made from assessable income to arrive at taxable income, and exempt income is not assessable income. Dividends falling within s. 44 (2) are exempt simply because it is provided that the assessable income of a taxpayer shall not include the dividends therein described. To attribute part of an allowable deduction to an item of exempt income is clearly contrary to the Act and what might be thought a more debatable question has not been raised - that is, whether, if shares that produce exempt dividends have been bought for the purpose of receiving such income, what could be treated as a deduction or part of a deduction loses that character pro tanto because any outgoing, to the extent to which it is incurred in relation to the gaining of exempt income, is not a deduction (s. 51). Had the Commissioner assessed along these lines, it seems to me that questions would arise whether the purchase price was apportionable and, if so, whether the taxpayer's exempt dividends should have been reduced by deduction of the proportion of the price attributable to them. All that is necessary for me to say is that, for the reasons stated hereafter in connexion with what the Commissioner did in relation to rebateable dividends I do not think the purchase price was apportionable and that I am inclined to think that an assessment arrived at by disallowing the deduction pro tanto would have been different from that which the Commissioner made and now supports. (at p137)

So far as dividends rebateable under s. 46 are concerned, the question whether any deduction should be made therefrom depends upon that section and ss. 49 and 50. It is clear from s. 46 that the rebate for which it provides is not calculated upon the dividends that a resident company receives without deduction in any circumstances. The rebate is allowable upon "that part of the dividends included in its taxable income" and what that part is has not been just left to be worked out on general principles : it has been defined by sub-s. (3) as follows : -

"The part of the dividends so included in the taxable income of the shareholder shall be the amount remaining after deducting from the amount of dividends included in its assessable income deductions allowable to it under this Act from income from dividends."

This provision directs attention to such other provisions in the Act as provide for deductions from income from dividends. The only section that could be so relevant for present purposes is s. 50 and the critical question is whether the deduction sought to be made from dividends rebateable under s. 46 falls within the description of part of a deduction which "relates directly to income from dividends", to adopt the language of s. 50 (a). There is no doubt that in a sense it is part of a deduction to which the taxpayer as a share dealer was entitled that the Commissioner has taken from the dividends under consideration but it is doubtful whether it is in a relevant sense because, as has been seen, all the Commissioner has done is to take what is one deduction, reduce it by what is regarded as a corresponding receipt and apportion the difference rateably over the dividends derived from the shares in the same year. What has already been said about making deductions from exempt dividends illustrates the lack of authority there is for such a procedure. The difficulty of finding justification for treating purchase price as apportionable among dividends or even among dividends that are not exempt dividends points, however, to the fundamental weakness of what the Commissioner has done in making the 1951 assessment. It is not the fact that a definite part of the purchase price of shares can be attributed to the different receipts that a purchaser expects or even intends to obtain from the shares purchased. If the parties to a sale as part of their bargain make up the purchase price by adding together amounts to be paid for or in respect of different intended receipts, there would be some justification for resolving the resulting sum into its constituent parts for the purpose of attributing each part of the deduction to the receipt to which it relates, but to say so much is only to say that in such a special case a direct relationship between the receipt and part of the deduction might be found. In the absence of such special circumstances it is difficult to find a justification for, for instance, apportioning the price of shares bought cum div. between the prospective dividends and the other rights accruing to the purchaser upon transfer. Here there was no apportionment by the parties: indeed, the case stated states that the purchase price was in each case calculated with reference, not to the receipts that might be expected from the shares, but to the asset backing of the shares purchased and, without regarding this as negativing what was no doubt the fact, viz. that the taxpayer in deciding what it would pay did take into earnest consideration the size and character of the dividends that were available for distribution, recognition of this reality does not go to the length of enabling an apportionment that the vendors and purchaser did not make to be made as a matter of law subsequently. In this case I do not think it can be said that any part of the purchase price of the shares which the taxpayer bought related directly to income from dividends, actual or deemed. What was done does not bring the case within s. 50 (a) and so no deduction pursuant to s. 46 (3) is warranted for the purpose of ascertaining what part of any dividend which the taxpayer received was included in its taxable income. Furthermore, the application of s. 50 would not of itself require a proportionate deduction to be made from particular dividends ; what the section provides is that, if there is income from dividends and other income, deductions related directly to income from dividends should be made in the first place from income from dividends. Whether general principles would dictate a reduction of rebateable dividends by the proportion of the purchase price attributable particularly to them is a matter that I do not find it necessary to consider in view of the conclusion I have already expressed. (at p138)

What has been said about dividends rebateable under s. 46 also concludes the question whether any deduction should be made from dividends rebateable under s. 107. That section authorizes no deduction. It provides simply that a person shall be entitled to a rebate of the amount by which his income tax is increased by the inclusion in his assessable income of dividends paid to him by a company. If a deduction or any part of a deduction can be made from dividends rebateable under s. 107, it must be by virtue of s. 50 but, as has already been shown, no part of the purchase price of shares bought by the taxpayer can be directly related to any dividend received by the taxpayer from such shares. (at p139)

It follows that the taxpayer's objection to the amendments made in 1951 ought to have been allowed. Applying the foregoing conclusions to the questions asked in the case stated, they should be answered as follows:-

(1)

Not necessary to answer.

(2)

(a)

No.

(b)

No.

(c)

No.

(3)

(a)

Yes.

(b)

No.

(c)

No.

(4)

(a)

Yes.

(b)

No.

(c)

No.

(5)

No.

(6)

Not necessary to answer.

(7)

No. (at p139)