Case P27

Judges: HP Stevens Ch

JR Harrowell M
BR Pape M

Court:
No. 1 Board of Review

Judgment date: 15 April 1982.

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J.R. Harrowell (Member)

This reference concerns the year ended 30 June 1980. The taxpayer, a public servant, in his income tax return for that year disclosed by way of note the sales of gold and silver bullion during that year. The net surplus, as finally determined, resulting from those sales was $57,343 and that figure was not in dispute.

2. The Commissioner, by notice of assessment dated 25 November 1980, included the figure of $57,343 as part of the taxpayer's taxable income for the year ended 30 June 1980 and assessed him accordingly. The taxpayer objected on the following grounds:

``1. That the amount of $57,660.58, being unexpected capital gain from the sale of gold and silver, is not subject to income tax.

2. That, at the time of its acquisition, the whole of the above investment was purchased exclusively and bona fide as a hedge against inflation to protect the capital value of an asset of the taxpayer and that, at the above time, the extent and the nature of the subsequent increase in the value of silver and gold was not expected nor anticipated so that the investment was a capital asset which was realised by the taxpayer to his best advantage.

3. That, therefore, the above investment was not acquired by the taxpayer for the purpose of profit-making by sale within the first limb of sec. 26(a) of the Income Tax Assessment Act 1936, nor to carry on or carry out a profit-making undertaking or scheme within the meaning of the second limb of sec. 26(a) of the above Act and neither the said amount of $57,660.58 nor any part thereof is assessable under sec. 26(a).

4. That neither the purchase nor sale of the investment was effected by the taxpayer as a transaction of any business carried on by him and neither the proceeds of the sale nor any part of such proceeds or profits is assessable under sec. 25(1) of the above Act.

5. That the sale of the investment took place after the expiration of the period of twelve months from the date on which the taxpayer purchased the investment and the sale of the investment was not made in pursuance of an option granted, or agreement entered into, during the period of twelve months from the date on which the taxpayer purchased the investment and neither the amount of $57,660.58 nor any part thereof is assessable under sec. 26AAA of the said Act.

6. That the taxpayer has not had any other transactions of this nature.

7. That neither the said amount of $57,660.58 nor any part thereof is assessable under sec. 25(1), sec. 26(a), sec. 26AAA or any other section of the Act.''

Note - the amount of $57,660.58 referred to in the objection represented gross not net profit.

3. The objection was disallowed and at the request of the taxpayer the matter is now before this Board.

4. The taxpayer was born on a 44-acre farming property and worked on the land until he was 18 years old. He then served in the police force for some years and from there he applied and was accepted into the Australian Army at the time of the Korean War. In the middle of 1953 he graduated as a second lieutenant at the age of 23. In 1971 he suffered a slipped disc. From that point on he commenced to think of early retirement as the opportunity for advancement was limited as he was older than the majority of those holding his rank (major) and further after serving overseas, including Vietnam, he felt the need to change.

5. Because of his early life on the land he had a wish to buy a suitable property and operate it as a business or perhaps a hobby farm. He also wished to travel by road around Australia. However he discarded for the moment such plans as his back injury made the prospect of such physical work or activity suspect.

6. As a major he was not due to retire from the Army until 15 May 1977 but on 26 November 1976 he received his discharge from the Army to become a public servant. On or about 5 January 1977 he received lump sum payments totalling $14,563 including pay in lieu of furlough. This figure was referred to in the taxpayer's 1980 return but subsequent evidence before the Board indicated that the amount was at least

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$14,576 but the difference has no significance in this matter. This sum was placed to the credit of an interest bearing savings account. At about that time the taxpayer commuted portion of his pension and received some $29,000 which he invested in savings bonds.

7. The taxpayer was married in 1961 and is the father of two children now aged 19 and 17. In 1970 he purchased a home with his wife as joint owner in the Capital Territory for some $30,000 financed in part by borrowing about $12,000 by way of a long term mortgage. At the time of his discharge from the Army his principal assets were his home, a sum of $40,000 invested jointly with his wife in bonds and set aside to meet the education costs of his children and the sums of $29,000 and $14,563 paid out by the Army.

8. In 1976 he attended a resettlement seminar in his home State. He wished to settle there and still had in the back of his mind the wish to purchase a small property preferably one with irrigation and established crops such as lucerne. In 1977 he had left the Army and was now a full-time public servant and studying at the Canberra College of Advanced Education. It was his intention to retire from the public service in 1985 when he was 55 years of age.

9. When considering the ultimate investment of the $14/15,000 received in lieu of furlough he had in mind that it would be an investment which ``provided a hedge against inflation''. By this he meant an investment which would increase in value so that the sum he actually received when he resigned from the Army aged 46 would on realisation in eight or nine years' time more closely approximate the sum he would receive on retiring at the age of 55. As he was fully occupied in his new job and with his studies he had no wish to invest in property which required supervision of any kind. In 1975/76 he had purchased 1 oz of gold bullion for each of his children and so on seeing a bullion sale offer advertisement he wrote on 8 June 1977 seeking details. The bullion dealer replied on 14 June 1977 in general terms but emphasising the attractiveness of investing in gold or silver in times of depreciating money values. On 29 July 1977 he purchased:

      2 x 1 kilogram bars of gold

        @ $4473.57 each                 $ 8,947.14

      717oz of silver (Ingot No. 1)       3,200.00

      726oz of silver (Ingot No. 2)       3,230.00

                                        ----------

                                        $15,377.14

                                        ----------
      

He took delivery of the bullion which he insured and lodged with his bankers.

10. On 17/18 January 1980 he sold:

      2 x 1 kilogram bars of gold        $41,849.78

      717oz of silver (Ingot No. 1)       27,957.94

                                         ----------

                                          69,807.72

      Original cost                       12,147.14

                                         ----------

                                          57,660.58

      Less        selling costs allowed      316.90

                                         ----------

      Net surplus                        $57,343.68

                                         ----------
      

11. The taxpayer still owns Ingot No. 2 of silver. The children's 1 oz gold bullion bars were also sold in January 1980 but the details of those sales are not before the Board.

12. The taxpayer always intended to sell his investment in bullion at some time. His reason for selling in January 1980 was that a suitable irrigation property in his home State was to be auctioned in mid-February 1980. He intended to bid for the property and as bullion prices were high he decided to sell the greater part of his holding to provide the cash he would require on a down payment if his bid was accepted. He attended the auction but his bid was not successful.

13. At the hearing a great deal of time was spent on the taxpayer's early life, military service and his desire to buy a property. These matters undoubtedly provided an interesting background and gave some insight into the character of the taxpayer. I accept the taxpayer as a witness of truth but the essence of his case concerns his purpose in purchasing bullion as an ``investment'' and ``as a hedge against inflation''. I have no reason to doubt that purpose but the resulting taxation implications lie in a very confused section of income tax law relating to sec. 26(a). The Commissioner in his reg. 35(1) statement has referred to sec. 25(1) as well as sec. 26(a) but at the hearing counsel representing him did not pursue any argument under sec. 25(1).

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14. Section 26 of the Act says in part:

``The assessable income of a taxpayer shall include -

• (a) profit arising from the sale by the taxpayer of any property acquired by him for the purpose of profit-making by sale, or from the carrying on or carrying out of any profit-making undertaking or scheme;.''

(The emphasis is mine.)

15. I will not deal with sec. 25(1) as both parties agreed that that section had no application in this matter. I concur with that view.

16. The taxpayer's representative's argument, in essence, was that the evidence clearly supported the conclusion that the taxpayer invested in gold and silver bullion in an attempt to ensure that the purchasing power of the money at the time of investment would at least be retained over the ensuing eight or nine years of inflation. To achieve this purpose the bullion had to be eventually sold as a whole or in part and this fact was accepted by the taxpayer in evidence. It was argued that this purpose put the matter outside the first limb of sec. 26(a). In support the representative referred to the words of the Chief Justice in
Steinberg v. F.C. of T. 75 ATC 4221 at p. 4227 :

``The presence of sec. 26(a) in the Act does not mean that property cannot be acquired as an investment, as a hedge against the loss of value in the currency: or that the only investment advantage of the acquired property which is outside the reach of sec. 26(a) is the income it will produce. The retention of property in the hope or expectation that its value will increase is a justifiable form of investment. That the increased value may only be realised by sale does not deny that the purpose of its acquisition was investment or establish that the purpose of its acquisition was to use it as a subject of trade by reselling it at a profit. No doubt in borderline cases, the distinction may tend to become blurred but it is none the less a valid distinction and capable of resolution by the Court.''

17. The Chief Justice again expressed this view in
Gauci & ors. v. F.C. of T. 75 ATC 4257 at p. 4260 :

``The question in the application of sec. 26(a) is not whether the taxpayer, when purchasing, hoped that at some time in the future he could sell the land at an enhanced value. The question is whether he was then intending to sell it at a profit doing so as a matter of `business' . The purchase of land as a long term investment, or as a hedge against the depreciating value of money does not, in my opinion, come under sec. 26(a).''

18. In both these quotations I have emphasised what I believe to be the important words used by the Chief Justice. For a transaction to be caught by at least the second limb of sec. 26(a) it had to have a business purpose so that the resulting profit was by nature income and not a capital gain.

19. In an earlier case the Privy Council in
McClelland v. F.C. of T. 70 ATC 4115 had this to say in its majority decision at p. 4120:

``Do these facts disclose a `profit-making undertaking or scheme' within the meaning of sec. 26(a)? It is clear in the first place that not all such undertakings or schemes are caught by the section. Otherwise every successful wager would be within it. So also would the purchase of investments bought by a private investor as a hedge against inflation and sold - perhaps long afterwards - at more than the purchase price. The participator in a lottery would also be liable if he drew the winning ticket. The undertaking or scheme, if it is to fall within sec. 26(a) must be a scheme producing assessable income, not a capital gain. What criterion is to be applied to determine whether a single transaction produces assessable income rather than a capital accretion? It seems to their Lordships that an `undertaking or scheme' to produce this result must - at any rate where the transaction is one of acquisition and re-sale - exhibit features which give it the character of a business deal. It is true that the word `business' does not appear in the section; but given the premise that the profit produced has to be income in its character their Lordships think the notion of business is implicit in the words `undertaking or scheme'.''

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20. On the facts of that case the Privy Council had little to say on the first limb of sec. 26(a).

21. The taxpayer's representative based his case on the decisions in McClelland, Steinberg and Gauci (supra) and other cases which followed in the lower Courts, in particular
F.C. of T. Firstenberg 76 ATC 4141 . He argued that the taxpayer purchased the bullion as an investment not as part of a business deal. It was irrelevant that the investment yielded no income. The purchase of an investment as a ``hedge against inflation'' was supported by the Privy Council and the High Court as being examples of transactions which may fall outside the provisions of sec. 26(a). However a confusion arises in interpretation at this point as the Chief Justice took the view that the majority of their Lordships in the McClelland case (supra) considered that the character of a ``business deal'' applied to both limbs of sec. 26(a) -
A.L. Hamblin Equipment Pty. Ltd. v. F.C. of T. , A.L. Hamblin Constructions Pty. Ltd. v. F.C. of T. 74 ATC 4310 . This view was not supported by Stephen J. in
N.F. Williams v. F.C. of T. 72 ATC 4069 - he considered that their Lordships' judgment was directed only to the second limb of sec. 26(a). I realise that there must be some kind of business connotation which could be applied to a transaction where any property is bought for a profit-making purpose.

22. With the greatest of respect I found the decision in Firstenberg (supra) extremely difficult to understand unless it was based on his Honour's finding of fact that he accepted the taxpayer's statement that at the time of purchase ``he was not thinking of the selling of land'' - p. 4156. However at p. 4157 his Honour went on to say this - ``What he [the taxpayer] was concerned to do was to put his money into some form of property which would, when realised, return as much in purchasing power as the money when invested would have done''. Bearing in mind that the Act makes no allowance anywhere for depreciating money values, or the purchasing power of money, a taxpayer who purchases ``any property'' costing X with the intention of later selling it for X + Y surely cannot escape being caught by the first limb of sec. 26(a) because he chooses to call the profit Y ``a hedge against inflation''? It seems to me that where the property was acquired ``for the purpose of profit-making by sale'' that fact cannot be obscured by a throw-away phrase such as ``a hedge against inflation''. In fact I believe that that phrase is actually detrimental to this taxpayer's case as it clearly indicates an intention or purpose to make a profit. Such a phrase may not be detrimental where a taxpayer can show that when he purchased the property he had no intention of later reselling it at a profit. Naturally to become involved with sec. 26(a) he must later sell that property or part of it so that the facts surrounding the sale will become most relevant to his case. This situation can also arise where a taxpayer claims that the sale is part of a transposition of investments. The word ``transposition'' is no tax cure-all and if called upon, the taxpayer must show in terms of sec. 190(b) that the investments were not acquired for the purpose of profit-making by sale or from the carrying out of any profit-making undertaking or scheme.
London Australia Investment Co. Ltd. v. F.C. of T. 77 ATC 4398 .

23. Notwithstanding the conflicting views taken by the Courts in regard to this most difficult section the impression has been created that a profit resulting from the sale of property purchased as a hedge against inflation represents a non-taxable capital gain.

24. In my opinion confusion can arise when a judicial view or decision contains a phrase such as ``a hedge against inflation''. It makes it too easy to apply that phrase to a transaction and ipso facto one is supposed to enter the world of tax-free bliss. Section 26(a) cannot be treated as lightly as that. It is a complex section; it is expressed in very few words but they have a very wide effect. Each case under sec. 26(a) depends very much on its own particular facts and so decisions under that section do not, as a rule, lend themselves to generalisations. Let me take this example - a taxpayer with $200,000 to invest has a choice say, to invest in debentures at 15% or to purchase freehold property giving an 8% net return on capital in the form of rent. In today's financial climate many would advise him to purchase the freehold property as a ``hedge against inflation'' provided that there was no need for the taxpayer to maximise income. If the

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taxpayer opted for the freehold property, sec. 26(a) would have no application until it was sold. On sale, the Commissioner may decide to tax any resulting profit from it and on present law it would be open to the taxpayer to argue that it was purchased as a long term income producing investment. If the facts supported the contention that the property was purchased with the dominant purpose of deriving income from it and not for resale at a profit the taxpayer would succeed.
Evans v. D.F.C. of T. (S.A.) (1936) 55 C.L.R. 80 . In my opinion the real implications of the decisions in McClelland, Steinberg and Gauci (supra) , in respect to that example are that the taxpayer would still succeed if a secondary purpose was that the value of the property selected was expected to rise as the years progressed, so preserving the purchasing power of the amount originally invested. In the same example, if the facts showed that the dominant purpose was to purchase that freehold property for a profit-making purpose and the secondary purpose was to derive income from it pending ultimate sale, then in my opinion the Commissioner would succeed - Windeyer J. in
Buckland v. F.C. of T. (1960) 34 A.L.J.R. 60 .

25. In this reference the property purchased was bullion in the form of gold and silver. The property sold was the bullion less one bar of silver which the taxpayer still holds. Under the first limb of sec. 26(a) there must be an identity between what was sold and what was purchased. The first limb of that section may apply whether the property is sold as a whole or in parts - Windeyer J. in
McClelland v. F.C. of T. (1968) 41 A.L.J.R. 227 .

26. The bullion purchased by the taxpayer produced no income whilst held by him. In the objection the bullion was described as an ``investment''. This word is not defined in the Act but over the years it has been given a lot of judicial consideration. In a case dealing with the purchase and sale of land the learned Judge said ``that the word `investment' must be construed in the ordinary popular sense of the word as used by business men, and, not as a term of art having a defined or technical meaning'' - Tucker L.J. in
I.R. Commrs. v. Broadway Car Co. (1946) 2 All E.R. 609 at p. 611 . In Wragg, In
Wragg v. Palmer (1919) 2 Ch. 58 , P.O. Lawrence J. said at pp. 64-65:

``Without attempting to give an exhaustive definition of the words `invest' and `investment' I think that the verb `to invest' when used in an investment clause may safely be said to include as one of its meanings `to apply money in the purchase of some property from which interest or profit is expected and which property is purchased in order to be held for the sake of the income which it will yield'; whilst the noun `investment' when used in such a clause may safely be said to include as one of its meanings `the property in the purchase of which the money has been so applied'. No doubt in many cases the context in which the word `investments' occurs requires that this word should be confined to investments consisting of stocks, shares and securities, but where the word `investments' is used without any such context, or where, as in this case, the instrument in which it occurs expressly provides that the word is not to have any such restricted meaning, I think that it includes real estate purchased as an investment.''

27. The words ``investments'' and ``securities for money'' ``may mean almost anything within limits according to the context in which they appear'' - Harmon J. in
Re Lilly's Will Trusts v. Johnstone (1948) 2 All E.R. 906 at p. 907 . Finally,
Lord Normand in Tootal Co. Ltd. v. I.R. Commrs. (1949) 1 All E.R. 261 at p. 265 said:

``My Lords, the question in this appeal is whether income described as royalties received by the appellant company under three separate agreements relating to patent rights, and admittedly part of the appellant's business profits, is also `income from investments' within the meaning of the Finance (No. 2) Act, 1939, Sch. VII, Pt. I, para. 6.

The meaning of `investment' is its meaning, not in the vernacular of the man in the street, but in the vernacular of the business man. It is a form of income yielding property which the business man, looking at the total assets of the company, would single out as an investment. It certainly does not include all the property

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of the company, and I am unable to accede to the proposition of counsel for the taxpayers that every item of the company's property is an investment, and that while the company uses those items itself the profit it derives from them is a profit of trade, but, if it hands one of them over to others to use in return for a periodic payment, it begins to receive an income from an investment. The business man would not limit income from investments to income from the kinds of securities which are quoted on the stock exchange, and he would, I think, regard as income from investment a profitable rent from a sub-lease of office premises or the like surplus to the company's requirements...''

28. With the foregoing considerations in mind I am in no doubt that in this reference the taxpayer invested in bullion. The fact that an investment does not give rise to income during the period it is held is not, in itself, fatal to the taxpayer's case. For example one may purchase vacant land for the purpose say of later building a home on it to retire to at some time in the future. If a change of plans occurred requiring the taxpayer to sell that land, from which he derived no income, he may well succeed in showing that the dominant purpose was to establish a place of retirement so taking the transaction outside the terms of sec. 26(a). Here the taxpayer purchased the bullion ``to provide a hedge against inflation'' and with the intention of ultimately selling it. For this reason I distinguish this case from the Firstenberg case (supra) . At the time of purchase he had no intention to use the bullion as security for borrowing. On business grounds I would find it difficult to accept the proposition to purchase bullion with the dominant purpose of borrowing against it. Judicial phrases cannot displace the actual words of sec. 26(a) and were never intended to do so. In my opinion in this case the facts show that the taxpayer purchased bullion believing that it would increase in value over the ensuing eight or nine years when it would be sold. On resale the resulting profit would be treated by the taxpayer as compensation for the purchasing power of his original investment lost in the ensuing years through inflation. The fact that the Courts may have unwittingly encouraged him to describe these transactions as a plan to provide a hedge against inflation cannot change the nature of the transactions themselves. If this were not so a person could buy property to sell at a profit claiming the dominant purpose was to provide, say, increased funds to purchase a home to live in. On the facts of this case I consider that to say that the taxpayer's dominant purpose when acquiring the bullion was to provide a hedge against inflation would be to confuse motive with purpose. In
XCO Pty. Ltd. v. F.C. of T. 71 ATC 4152 Gibbs J. said at p. 4156 - ``The purpose of the scheme was to make a profit, even though the motive for making a profit was to lay the foundation for a test case. It hardly needs saying that the motive with which a profit is made is irrelevant to the question whether the scheme which yielded the profit was a profit-making scheme.''

29. Since writing the foregoing the High Court has handed down its decision in
F.C. of T. v. Whitfords Beach Pty. Ltd. 82 ATC 4031 . Having read the individual judgments I am of the opinion that the decision of the Privy Council in McClelland's case (supra) can no longer be considered authoritative. In particular I refer to para. 19 of my reasons where I quote part of their Lordships' majority decision. One part of that extract contains the following statement:

``The undertaking or scheme, if it is to fall within sec. 26(a) must be a scheme producing assessable income, not a capital gain.''

This interpretation has always raised difficulties as the wording of sec. 26(a) makes no such distinction. With respect that part of the judgment seems to beg the question because any profit eventually caught by sec. 26(a) immediately becomes assessable income. Whereas the taxpayer may succeed by showing that the profit was a capital gain falling outside the provisions of sec. 26(a) not through the use of the mystical words ``capital gain'' but because he can show that the property, the subject of the profit, was not acquired for a profit-making purpose covered by the first and second limbs of sec. 26(a). As I interpret this latest decision a profit arising from the sale of any property may be caught by sec. 26(a) irrespective of whether that profit be in the

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nature of assessable income or by nature a capital gain. The deciding factor to bring the profit to tax, i.e. assessable income, is whether or not that property was acquired ``for the purpose of profit-making by sale, or from the carrying on or carrying out of any profit-making undertaking or scheme''. This of course, brings the matter back to the actual words of sec. 26(a) to be decided on the facts of each case. As I see it the words ``capital gain'' give a profit no immunity from income tax if that profit on the facts is caught by sec. 26(a). We seemed to have judicially turned a full circle in regard to the interpretation of sec. 26(a) and we are back to where we started. In the words of Wilson J. in the Whitfords Beach case (supra) at pp. 4057-4058:

``Having regard to the diversity of judicial opinion touching the proper application of this paragraph, [the second limb of sec. 26(a)] revealed in the majority and dissenting opinions of their Lordships in the Privy Council in McClelland's case, and in subsequent cases in this Court, I think that any attempt at further elucidation should await a case which depends on the provision for its determination. I may add that I do not regard its construction as settled by existing authority.''

(The words in brackets are mine.)

30. I find that the profit of $57,343 is caught by sec. 26(a). I would uphold the Commissioner's decision on the objection and confirm the assessment issued in respect to the year ended 30 June 1980.