RICHARDSON v FC of T

Judges:
Finkelstein J

Court:
Federal Court

MEDIA NEUTRAL CITATION: [2001] FCA 68

Judgment date: 19 February 2001

Finkelstein J

The applicant, Mr Richardson, was assessed to income tax under the Income Tax Assessment Act 1936 (Cth) in respect of income derived by him in the year ended 30 June 1988. The assessment was made under s 97 on the basis that the applicant was a beneficiary of a trust estate (the Richardson Family Trust, of which Ian R Richardson Pty Ltd was the trustee) and was presently entitled to a share ($707,122.00) of the income of the trust estate in that period. The amount of $707,122.00 was part of the gain made by the trustee on the sale of two properties which the respondent, the Commissioner, said were acquired and sold by the trustee in the course of its business of building and project management.

2. An objection to the assessment was disallowed by a deputy commissioner and the case went to the Administrative Appeals Tribunal for the review of that decision [

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reported at Case 15/97,
97 ATC 208]. In the first hearing before the tribunal, the applicant argued that the acquisition of the two properties by the trustee was for the purpose of deriving income (rent) and that the gain on sale was not income. The applicant also argued that even if the gain was revenue, he was not ``presently entitled'', within the meaning of s 97, to any part of that income.

3. To understand these arguments it is necessary to make some reference to the facts, most of which have not been in dispute. In 1981 the trustee identified a particular organisation that wished to establish its head office in Melbourne. The trustee located a suitable site in Box Hill, a Melbourne suburb, subject to the land being rezoned and planning approval being obtained. However, an adjoining neighbour warned the trustee that she would oppose the development. To be rid of a potential objector, the trustee agreed to purchase the neighbour's property (20 Prospect Street) on condition that the development proceed. This is one of the two properties which, when sold, produced the gain, a portion of which was included in the assessable income of the applicant.

4. When the trustee was in a position to proceed with the development it entered into a contract to purchase the site, which comprised a number of allotments. The contract was made in late 1981. It contained a provision permitting the trustee to nominate a person who would take a transfer of the land on completion of the contract. In due course a financier agreed to purchase the site, fund the development and lease the site to the organisation for its new head office. In 1982 the financier took an assignment of the land, save for one allotment which was not required for the development. That allotment (14 Prospect Street) was transferred to the trustee.

5. In 1984 the trustee ``exchanged'' 14 Prospect Street for another allotment, 18 Prospect Street, in the neighbourhood. The ``exchange'' was effected by two contracts of sale, one by which the trustee purchased 18 Prospect Street, and the other by which it sold 14 Prospect Street, wherein the purchase price was the same. The property which the trustee acquired in this ``exchange'' is the second of the two properties which, when sold, produced the gain of $707,122.00.

6. The argument that the gain derived on the sale of the two properties was not income was straightforward. The applicant said that the two properties were not acquired by the trustee with the intention of a resale at a profit. He said that when it acquired them, the trustee intended to ``hold on'' to the properties but said they were sold when the trustee received ``an offer... which was too good to refuse''.

7. Section 97(1)(a) relevantly provides that ``[w]here a beneficiary of a trust estate... is presently entitled to a share of the income of the trust estate, the assessable income of the beneficiary shall include: (i) so much of that share of the net income of the trust estate as is attributable to a period when the beneficiary was a resident;...''. To apply s 97 to the facts of a particular case in a relevant year, it is necessary to follow a number of steps. The first is to determine whether a beneficiary is entitled to a share of the income of the trust. That enquiry has two aspects, viz (a) whether the trustee has derived any income, and (b) whether the beneficiary has any entitlement to a share of that income. Leaving to one side the question of entitlement, an enquiry into whether the trust has derived income is to be distinguished from the question whether the trust has derived any ``assessable income'' within the meaning of the Income Tax Assessment Act. That which is to be determined is the income of the trust according to law. This distributable income will be found by reference to the applicable principles of the general law and the provisions of the trust instrument.

8. If the trust has derived income in a relevant year, it is then necessary to determine whether any beneficiary of the trust has a ``present entitlement'' to any part of that income. A beneficiary will be ``presently entitled'' to a share of income of the trust if the beneficiary can demand payment of the income from the trustee; that is, if the beneficiary has an indefeasible or vested interest in possession in the trust income:
FC of T v Whiting (Trustees of Estate) (1943) 7 ATD 179; (1943) 68 CLR 199;
Union Fidelity Trust Co of Australia Ltd & Anor v FC of T 69 ATC 4084; (1969) 119 CLR 177;
Taylor & Anor v FC of T 70 ATC 4026; (1970) 119 CLR 444.

9. Once it is established that a beneficiary has a present entitlement to a share of the income of a trust estate, it becomes necessary to determine ``that share of the net income'' of the trust estate. It is ``that share'' that is included in the beneficiary's assessable income. The ``net

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income'' of the trust estate is the total assessable income of the trust less all allowable deductions: s 95(1). According to the present state of the authorities, ``that share of the net income of the trust estate'' means the proportionate share rather than the quantum of the income to which the beneficiary is entitled: see
Zeta Force Pty Ltd v FC of T 98 ATC 4681; (1998) 84 FCR 70.

10. Having regard to the way the case was argued, the tribunal did not approach the application of s 97 in the manner just described. First it considered whether the applicant had any entitlement to any income of the trust that the trustee derived in the relevant year. This required the tribunal to determine what effect, if any, should be given to a resolution of the directors of the trustee recorded in signed minutes dated 24 June 1988, and what appeared to be a contradictory resolution recorded in unsigned minutes dated 22 August 1988. The 24 June minutes record the following resolution:

``It was resolved that the net income of the Trust be distributed in the following manner:
The Second Richardson Family Trust      $47,000
          
and the remainder to Ian Richardson.''

The 22 August minutes record a different resolution:

``It was resolved that the net income of the Trust be distributed in accordance with the minutes of the previous meeting.

Distribution of trust income was as follows:

The Second Richardson Family Trust     $47,000
Ian Richardson                          18,330
                                       -------
                                       $65,330''

11. Relying upon evidence given by the applicant, who was a director of the trustee alongside the trustee's accountant, Mr Gillard, and the fact that the minute of 24 June was signed, the tribunal found that the resolution it records ``is more likely to reflect the more accurate position with respect to the trustee's decision as to distribution of income of the trust...''.

12. The tribunal then considered whether or not the gain arising from the sale of the two properties formed assessable income under s 25 or s 26(a) of the Income Tax Assessment Act. It did not separately consider what was the distributable income of the trust to which the applicant was entitled and then enquire what was the applicant's share of the assessable income of the trust. I infer that the tribunal thought it appropriate to narrow the scope of the enquiry because of an assumption that the distributable income of the trust would be the same as its assessable income.

13. The tribunal found that 20 Prospect Street was acquired as part of the business of the trust, which it described as that of a ``deal maker''. The tribunal also found that 14 Propsect Street, and its exchange for 18 Prospect Street, should also be treated as part of the ``deal making'' aspect of the trust's business. The tribunal rejected the applicant's argument that the two properties were acquired as part of a strategy by the trustee to acquire property for long-term retail investment purposes. Accordingly, the tribunal found that the gain or ``profit'' from the sale of the two properties formed assessable income. In the result it affirmed the decision under review.

14. The applicant brought an appeal from the tribunal's decision to the Federal Court pursuant to s 44 of the Administrative Appeals Tribunal Act 1975 (Cth). The case is reported as
Richardson v FC of T 97 ATC 5098; (1997) 80 FCR 58. The appeal raised two issues for the determination of the court. The first was whether the tribunal was in error in finding that the profit from the sale of the two properties was an incident of the business conducted by the trustee. The court (Merkel J) found that the tribunal correctly understood the distinction between a capital gain and the receipt of income and that there was ``ample evidence'' to support the conclusion the tribunal had reached on this aspect.

15. The second question that was before the court concerned the amount of income that was to be brought to account under s 97 when the assessable income derived by a trust in a relevant year is different from the distributable income. This required an examination of the finding by the tribunal that the assessable income of the trust was the same as the distributable income in the relevant year. Merkel J held that the tribunal had erred in law in the manner in which it had determined, or assumed, that the two types of income were the same. He held that before it was possible to

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determine the amount of income upon which the applicant was liable to pay tax, it was necessary for the tribunal to properly determine the distributable income of the trust. Merkel J said that this task was to be undertaken ``by reference to the `income' determined by the Trustee to form income of the Trust Fund for [ the relevant] period'': 97 ATC at 5110; 80 FCR at 72. Merkel J made this observation in reliance upon cl 1(9) of the deed that established the trust. In the result, Merkel J allowed the appeal in part and remitted the matter to the tribunal to deal with the issue in respect of which he had found error.

16. On the remittal, the tribunal again affirmed the decision to disallow the objection [ reported at 99 ATC 2198]. The tribunal found that the amount of $707,122.00 formed part of the assessable income of the applicant in the relevant year. It is from this decision that the applicant brings his present appeal, a gain under s 44 of the Administrative Appeals Tribunal Act.

17. To understand what transpired before the tribunal on the remittal, as well as to deal with the questions that arise on the appeal, it is necessary, first, to consider the relevant provisions of the trust deed, in particular those provisions that are relevant to the determination of what is, and what is not, income for the purposes of the trust. Then, it will be necessary to refer to some of the evidence that was before the tribunal.

18. By cl 2 of the trust deed, the trustee is required to ``stand possessed of the Trust Fund and of the income thereof upon the trusts and with and subject to the powers and provisions [thereinafter] expressed concerning the same''. There is a definition of ``the Trust Fund'' in cl 1(3). It provides:

```the Trust Fund' means the said settled sum being a sum paid or to be paid by the Settler to the Trustee upon the execution hereof all moneys investments and property paid or transferred to and accepted by the Trustee as additions to the Trust Fund the accumulations of income hereinafter directed or empowered to be made all accretions to the Trust Fund and the investments and property from time to time representing the said money investments property accumulations and accretions or any part or parts thereof respectively.''

Income is defined in cl 1(9) as follows:

```income' shall include any amounts which the Trustee shall in its absolute discretion determine to form income of the Trust Fund whether or not:-

(a) such amounts constitute income for the purposes of the Income Tax Assessment Act (or any other legislation relating to taxation of any form) or not;

(b) such amounts arise from investments or personal exertion;

(c) such amounts constitute gains of a capital nature (which have accrued actually or notionally) for the purposes of any legislation relating to taxation of any form.''

19. There is an important aspect of the definition of ``income'' that should be noted. It was incorrectly assumed by Merkel J and, so it seems, by the tribunal, perhaps because of the way the case was argued by the applicant, that, for the purposes of the trust, income was only that which the trustee determined to be income. That is not what the definition says. The definition in an inclusive one. Accordingly, subject to certain qualifications which I will explain in a moment, the income of the trust includes that which is regarded as income according to ordinary principles. In addition, the trustee can decide that any other receipt shall form part of the income of the trust, whether or not that amount is income according to ordinary principles.

20. I mentioned that there is a qualification to the proposition that a receipt which is income according to ordinary principles is income for the purposes of the trust. In fact the trustee has power to make determinations to a contrary effect. First, by cl 6(h) the trustee is empowered to determine whether income is to be regarded as a gain of a capital nature. The trustee can only do so for a limited purpose, namely for the purpose of any legislation relating to taxation. A determination made under cl 6(h) might be binding upon beneficiaries, but it could never bind the revenue authorities. Second, cl 7(m) gives the trustee a broad power to determine for the purposes of the trust whether a gain or receipt is capital or income. Clause 7(m) provides that the trustee shall have power:

``to determine whether any real or personal property or any increase or decrease in amount number or value of any property or holdings of property or any receipts or

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payments from for or in connection with any real or personal property shall be treated as and credited or debited to capital or to income and generally to determine all matters as to which any doubt difficulty or question may arise under or in relation to the execution of the trusts and powers of this Settlement; and every determination of the Trustee in relation to any of the matters aforesaid whether made upon a question formally or actually raised or implied in any of the acts or proceedings of the Trustee in relation to the Trust Fund shall bind all parties interested therein and shall not be objected to or questioned on any ground whatsoever.''

21. The trustee is required to deal with the income of the trust in the manner provided by cl 3. For that purpose income will comprise income according to ordinary principles, except to the extent that a determination under cl 7(m) changes that position, plus any amount determined to be income under cl 1(9), minus any sum that the trustee has determined to be capital gain under cl 6(h). Clause 3 relevantly provides:

``(i) The Trustee shall in each accounting period until the Vesting Day pay apply or set aside the whole or such part (if any) as it shall think fit of the net income of the Trust Fund of that accounting period to or for the benefit of or for all or such one or more exclusive of the others or other of the Income Beneficiaries living from time to time in such proportions and in such manner as the Trustee in its absolute discretion and without being bound to assign any reason therefor shall think fit; any amounts set aside for any Income Beneficiary as aforesaid shall not form part of the trust Fund as defined in Clause 1(3) hereof but shall upon setting aside be thenceforth held by the Trustee as a separate trust fund on trust for such beneficiary absolutely... The application or setting aside of any part of the income of the Trust Fund to or for the benefit of any beneficiary may be effectually made by a resolution of the Trustee that a sum out of or a portion of the net income of the Trust Fund for the accounting period be allocated to such beneficiary...

(ii) Any income not paid or applied pursuant to the preceding sub-clause in each year of income shall be held by the Trustee in trust for such of the Corpus Beneficiaries as shall be living at the 30th day of June in each year of income...

(iii) Notwithstanding anything to the contrary contained in the preceding sub- clauses the Trustee may by resolution in each year of income and at its own discretion determine to accumulate for the benefit of any adult Income Beneficiary to the extent permitted by law and for the benefit of any infant Income Beneficiary during the minority of such infant or infants any income derived in such year of income which the Trustee shall have appropriated for such infant or infants and the Trustee may postpone the payment of such accumulations to any such infant or infants until the date of vesting and until the aforesaid date any such accumulations shall be treated as an accretion to the Trust Fund....''

The applicant is an income beneficiary. This is relevant for the purposes of the trust generally and for the purposes of cl 3 in particular.

22. Turning to the evidence, there was before the tribunal the trust's balance sheet as at 30 June 1988 and profit and loss statement for the 12 months ended 30 June 1988. The profit and loss statement is in the usual form. There is a statement of the income from sales ($574,037.00) followed by details of the direct costs incurred in producing that income. The gross profit for the period is stated to be $65,329.00. There is then a list of indirect expenses, which total $151,135.00. A trading loss of $85,006.00 results. Immediately below the figure for the trading loss is a heading ``Other Expenses'' followed by three entries - interest received: $16,386.00, capital gain on disposal of fixed assets: $863,935.00 and net rental income: $106,750.00. It is clear that the heading misdescribes the entries. ``Other Expenses'' are actually all receipts. When all the receipts are brought to account, the net profit is stated as $901,265.00. For present purposes the relevant entry is ``capital gain on disposal of fixed assets''. This is a reference to the gain derived upon the sale of the two properties.

23. The balance sheet contains a statement of the trust capital. The capital comprises reserves and accumulated profits. Under the heading ``accumulated profits'' the following entry

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appears: ``transfer to capital profits reserve: ($863,935.00)''. The notes to the accounts provide an explanation for this entry. The relevant note reads:

``Capital gains made on sale of property

Consideration
(net of legal costs etc)      $923,935 (Aug. 87)
Cost (property purchase over
ten years ago)                  60,000
                              --------
                              $863,935"

24. Each side called an expert witness to explain the accounts, and the inferences to be drawn from them. In a court the evidence concerning inferences would not be admissible, that evidence not being ``expert'' testimony. Before the tribunal no party took any objection to the evidence. Mr James, a solicitor and accountant, was called by the applicant. Below are extracts from his affidavit:

``33.... In preparing [the] separate capital and revenue trust accounts regard would be had to the classification of the assets and liabilities in the balance sheet.... The current assets and current liabilities will... be transferred to the Revenue Account. The non-current assets and non-current liabilities and accumulated funds would be transferred to the Capital Account. Regard would also be had to any amounts which have been transferred to a Capital Profits Reserve in the balance sheet.

34. The creation by accountants of a Capital Profits Reserve in the balance sheet is in my opinion evidence [that] the accountant regarded the asset subject to the capital profit, as being a Capital Account asset.

...

36. From the Profit and Loss account and Balance Sheet I conclude that the trustee accounted for no 20 Prospect Street, as forming part of the `trust fund' as prescribed by clause 1(3). The asset was shown each year as a non current asset. When the asset was sold the gain made from the sale was transferred to `Capital Profits Reserve'. In transferring the profit to a Capital Profits Reserve the accountant has treated the accretion in value as forming part of the `Trust Fund' pursuant to clause 1(3).

The transferring of the amount to a Capital Profit Reserve is in my view the crediting to capital as is set out in clause 7(m)....

37. I believe the accounting treatment of numbers 14 and 18 of Prospect Street leads to the same conclusion.

Number 14 on its acquisition was not recorded in the Balance Sheet. The evidence before the Tribunal which was accepted by His Honour Mr Justice Merkel was that the asset was acquired for no consideration. Following GAAP, and historical cost accounting principles, the asset does not appear in the Balance Sheet or Profit and Loss account. The acceptance by the Trustee of what is in the nature of a gift, in my view forms part of `the Trust Fund' as is defined in clause 1(3). Within the terms of the definition, `property was transferred to and accepted by the Trustee as an addition to the Trust Fund'. If it was income in any year it would have to have been regarded as income in the year of receipt. Clause 7(m) like section 21 of the Act empowered the Trustee to take up the value of the property as income. That power was not exercised.

...

41. The opinion[s] expressed in paragraph 36 in respect of No 20 Prospect Street are also made in respect of the exchange of No 14 Prospect Street in 1984 and the sale of No 18 Prospect Street in 1988.''

25. There are some comments that can immediately be made about this evidence. Mr James' assertion that current assets are necessarily on the revenue side and non-current assets are necessarily capital is not universally accepted, and it is certainly not how company accounts are now required to be prepared in Australia. In accounting practice, assets are commonly divided into current assets and fixed assets, current assets being cash or amounts that could be converted to cash in a short time, while fixed assets (usually plant equipment and goodwill and deferred assets such as long-term loans) are usually regarded as capital: see Jowitt's Dictionary of English Law (2nd ed, 1977) Vol 1 at p 145. Traditionally, current assets were viewed as ``circulating capital'' while fixed assets were regarded as ``fixed capital'';
Ammonia Soda Co v Chamberlain [1918] 1 Ch 266 at 286. K Yorston and I Winlaw, the authors of The Australian Commercial Dictionary (5th ed 1972) at pp 27-28 define fixed assets (or non-current assets as they are now commonly referred to in

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Australia) as those acquired with the intention that they should be held and used without change over a long period for the purpose of earning revenue. According to this definition the distinction between current assets and non- current (fixed) assets rests on two main tests: (a) intended use; and (b) quick realisability in the normal course of operations of a business. Most companies are required annually to prepare and lodge financial statements under Pt 2M.3 of the Corporations Law. The statements include a profit and loss statement and a balance sheet: s 295(2). Generally these statements must comply with accounting standards and with any further requirements found in the regulations, such as Sched 5 to the Corporations Regulations: s 296. Accounting standards are made by the Australian Accounting Standards Board: s 334(1). Clause 1(1) of Sched 5 defines ``current assets'' as ``cash or other assets of the corporation that would, in the ordinary course of the business of the corporation, be consumed or converted into cash within 12 months after the end of the last financial period of that corporation''. There is no definition of non-current assets in Sched 5, but one is contained in par 9 of accounting standard AASB 1010: Accounting for the Revaluation of Non-Current Assets, namely that non-current assets are ``all assets other than current assets''. Thus, the distinction for company purposes between current assets and non-current assets is based on the notion of turnover within or beyond one year after the company's balance date. Accordingly, current assets will comprise cash and other types of assets that are reasonably expected in the operating cycle of the business to be converted to cash, sold or consumed within one year after the firm's balance date. Usually inventory (stock-in-trade) is to be converted or sold within one year. But if it is not, it must be separated into current and non-current elements: see K Leo and J Hoggett, Company Accounting in Australia (3rd ed 1993) at p 195. This method of accounting is not confined to companies, but seems to be accepted generally: J Hoggett and L Edwards, Financial Accounting in Australia (2nd ed 1992) at p 128.

26. The second respect in which there appears to be error on the part of Mr James, is in the view that, by transferring the gain on the sale to a capital profits reserve, ``the accountant has treated the accretion in value as forming part of the `trust fund' pursuant to clause 1(3)''. This ignores the effect of cl 3. By that clause, income that is applied to an income beneficiary (for example by a resolution that a portion of the income is to be allocated to that beneficiary) cannot form part of the trust fund, but must be held in a separate trust until it is actually distributed to that beneficiary. On the other hand, income which the trustee has decided to accumulate under cl 3(iii) must form part of the trust fund if there is a relevant postponement in payment. Any transfer of income to a capital profits reserve account could not alter the effect of a determination made by the trustee under cl 3(i) to apply or set aside that income to, or for the benefit of, an income beneficiary (the amount would not be part of the Trust Fund), or a determination under cl 3(ii) that payment of income is to be postponed (the income would be part of the Trust Fund).

27. Mr James' discussion about 14 Prospect Street also demonstrates error. First, he appears to treat the receipt of the property as a gift. This is plainly wrong. A second error is in the suggestion that if the property was income in any year it would be income in the year of receipt. Here Mr James confuses stock-in-trade with income derived from the sale of stock. One result of the finding by the tribunal that the two properties were acquired in the course of the trust business, is that the property acquired the character of stock. There was no occasion before sale to treat the receipt of the property as ``income''.

28. The next error is in relation to the statement that cl 7(m) ``empowered the trustee to take up the value of the property as income [ and t]hat power was not exercised.'' Mr James appears to proceed upon the assumption that, unless a receipt is determined by the trustee to be income for the purposes of the trust, the receipt cannot be regarded as income. By reference to cl 1(9) I have already shown this assumption to be false.

29. Finally, there is the critical evidence that the transfer of the gain on the sale of the two properties is ``the crediting to capital as is set out in clause 7(m)''. I will deal with this later. All I wish to record at this stage is that for cl 7(m) to have any effect in relation to a particular asset there must be an actual ``determination'' (that is a decision) by the trustee in that regard.

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30. The Commissioner also called an accountant, Mr Porter, to give evidence. He said that in view of the finding by the tribunal that the two properties were acquired as an incident of the trust's ``deal-making business'' he would characterise the profit from the sale of those properties as an abnormal gain of a revenue nature. However, somewhat in contradiction, Mr Porter said that he had no objection to the gain being described as a ``capital gain on disposal of fixed assets'' on the basis that the property disposed was described as ``fixed assets''.

31. Mr Porter did not agree with Mr James that the accounting records evidenced an intention that the accountant of the trust regarded the gain on the sale of the two properties as a ``capital gain''. Mr Porter said:

``14.... I can see no evidence to suggest that the accountant or the Trustee regarded the gain as being capital... or that it was held specifically for the benefit of beneficiaries or held [as] part of the `trust fund'.

15. On my examination of the accounts I am unable to conclude that the Trustee formed the view that the gain was to form part of the `Trust Fund'. I come to this view because the balance sheet does not indicate that `Reserves' form part of `Trust Funds'. Instead the balance sheet distinguishes between Trust Capital, Reserves and Accumulated Profits and discloses Total Trust Capital and Reserves.''

32. The tribunal reached the same result as in the first hearing. It is difficult to follow the reasons that the tribunal gave for its second decision. There are aspects of the written reasons that are unclear and in some respects contradictory. For present purposes, it will suffice if I set out some extracts from the reasons that appear under the heading ``Conclusions'' [99 ATC at 2210-2211].

``50. In the result, I will state that I reject, albeit with some hesitation, Mr James' contention that a reconstruction of the accounts can be easily effected to clarify the capital and revenue details of the Trust. These details, which were not before the Tribunal, can only be obtained from the general ledger. While the balance sheet is assumed to accurately reflect the general ledger, it is also noted by Mr James that certain details are omitted from the balance sheet, such as the value of Nos 14 and 18. This leads me to the conclusion that the transposing of amounts from the balance sheet to capital and revenue accounts may not fully represent the Trust accounts. The onus being on the taxpayer, this has not been discharged.

...

52. There is no dispute that the sale profit was treated in the balance sheet as part of the net profit of the Trust prior to transfer to the capital reserve account. There is no evidence as to when this transfer occurred to support the view adopted by Mr James. Therefore I can only refer to the statement as provided, which is to include the sale profit as part of the net profits by considering the accounts on an entity basis. The Trust definition of `income' in cl 1(9) is broad enough to include the sale profits as income of the Trust when received. At some later time the funds were transferred to the reserve account.

53. It would therefore seem that the present entitlement of the beneficiaries to the net profits arises when the sale profits are received as income of the Trust where the net income of the Trust includes the profits as a separate income source to `sales'. Pursuant to cl 3(i) of the Trust Deed, part of the net income of the Trust was distributed to the income beneficiaries. Clause 3(ii) provides that any income not distributed under cl 3(i) shall be held in trust for the corpus beneficiaries. `Any income' must be interpreted to mean any net income as referred to in cl 3(i), which would include the sale profit. So that part of the net income that the Trustee dos not pay, apply or set aside for the benefit of the income beneficiaries will be dealt with under cl 3(ii) after the vesting day. In this instance the effective resolution of the Trustee is accepted as 24 June 1988. The sale profits were then either dealt with as capital and transferred to the capital reserve account, or dealt with under cl 3(ii).

54. In any event, the important factor is the inclusion (in accordance with AAS 1) of the sale profits with the income in the balance sheet to give an amount for net profits, being the net income as accepted from Mr Porter's evidence. This being the assessable income

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less allowable deductions as prescribed in s 95. The assessable income is the amount of $1,052,400 inclusive of profit, interest and rental income, less the deductions as specified in the balance sheet of $151,135, to yield net income of $901,265.

...

56. Therefore the applicant prima facie has a present entitlement to this net income as an income beneficiary prior to the trustee's distribution of funds by resolution. After the transfer of the profits at an unknown time to the capital reserve, this present entitlement dissipated, not through distribution of the income, but through transfer to the capital reserve thus to be held for the benefit of the corpus beneficiaries. The applicant was not a corpus beneficiary. The applicant's argument that he must satisfy the precondition of present entitlement to the profits is therefore satisfied on the basis of these findings in relation to the accounting evidence and accounting standards.

57. Thus I must now turn to the question: what is the character of the moneys in the hands of the Trustee prior to distribution? As discussed above, there has been no distribution of the moneys to the beneficiaries, but I consider that this is not fatal. While the present entitlement of the beneficiaries may be dictated by the account records and accounting standards, these same considerations cannot apply to the characterisation of the moneys in the hands of the trustee. While not determinative, both witnesses considered that the moneys were not of a revenue nature as arising from the sale of fixed assets.

58. On the facts as found, the proceeds of sale are profits realised on the sale of capital assets of the trust acquired for the purpose of sale at a profit. As determined by the Tribunal at first instance and accepted by the Court, these amounts arise as part of the Trust's business in acquiring property for resale at a profit, and on ordinary concepts therefore constitute income in the hands of the Trustee. It follows that the s 97 calculation must apply in including the sale profit as income of the Trust for taxation purposes and the applicant must be assessed on the balance after payment of $47,000 in accordance with the resolution of 24 June 1988.''

33. To determine whether the tribunal has committed an error of law such that its decision ought to be set aside is a task usually undertaken by an examination of the tribunal's reasons to identify the error. In this case, however, that approach is made difficult, if not impossible, by the lack of clarity in the reasons which are supposed to demonstrate error. It is convenient for me to approach the case in the same way as the parties, namely to consider whether, on the facts as found by the tribunal (at the first hearing and on the remittal) it follows, as a matter of law, that the decision under review should have been affirmed or set aside. If the decision was correct, then no relevant error of law will be established. On the other hand, if the objection should have been allowed on the facts as found, then legal error will have been demonstrated, although the precise error may not be identifiable.

34. The starting point is with the finding by the tribunal that the gain from the sale of the two properties arose from the conduct by the trustee of its business. The consequence of that finding for the purposes of the trust is that the gain is income as defined in cl 1(a) and thus income for the purposes of cl 3, unless the trustee has, in some permissible way, made a decision that this income is to be regarded as capital for the purposes of the trust instrument.

35. The reason why the gain is income is that when trust property consists of a business, such as the business of selling goods or the business of manufacturing goods or any other business activity, the net profit derived from the business is income: RP Meagher and WMC Gummow, Jacobs' Law of Trusts in Australia (6th ed, 1997) par 1942; The American Law Institute, Restatement (Second) of the Law of Trusts (1959) § 233; Scott on Trusts vol IIIA (4th ed, 1988) § 233.

36. Next it is necessary to determine whether the trustee exercised its power to deal with the income as capital, thus taking the income outside cl 3. Whether or not such a determination has been made is a question of fact. The tribunal considered that question in relation to the trustee's power under cl 7(m) and decided that no such determination had been made. It is not alleged that this finding was in error, as, for example, by following an incorrect construction of cl 7(m), or by making a finding in the absence of evidence.

37. In any event, I do not doubt that, on the evidence, the finding is correct. The only evidence on which the applicant relied to show that there had been a determination under cl

ATC 4068

7(m) are the entries in the balance sheet and profit and loss statement. The accounting records were prepared by the trust's accountant well after 30 June 1988. The entries appearing in those records are entirely consistent with the view that was taken by the trustee, and presumably by its accountant, that the two parcels of land were acquired as a capital asset and were not part of the trading stock of the trust's business. Thus, the entries do not evidence the fact that the trustee had made a determination under cl 7(m). Indeed, on the view taken by the applicant, to have the land dealt with as capital did not require a determination under cl 7(m).

38. Moreover, the applicant, one of the directors of the trustee, gave evidence. If the trustee had exercised its powers under cl 7(m), the applicant would have said so. However, not only did the applicant not state that a determination had been made, nothing that he said suggested that the trustee had ever given consideration to using its power under cl 7(m).

39. The applicant will acquire a present entitlement to any income of the trust in the relevant year only if some portion of that income has been paid, applied or set aside for him under cl 3(i). The application or setting aside of income may be effected by a resolution that a portion of the net income be allocated to an income beneficiary. There are two resolutions which are relevant to this case, that of 24 June 1988 and that of 22 August 1988. The tribunal found that the resolution of 24 June bound the trustee and the resolution of 22 August should be ignored. The resolution of 24 June provides that the applicant is entitled to the whole of the net income of the trust apart from $47,000.00. By that resolution the applicant became presently entitled to that amount of the net income of the trust. The fact that only $18,330 has been paid to him is beside the point. The applicant was entitled to the balance because he was able to demand payment of it from the trustee or sue for it. The ``transfer'' of the income to a capital reserve account would not be a defence to an action for payment.

40. It is still necessary to determine what part of the profit on the sale of the properties should be included in the applicant's assessable income for the relevant year. That question was not addressed in argument and I will give the parties 14 days within which to file written submissions on this issue and on the appropriate form of orders to be made to give effect to these reasons.

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