Tully Co-operative Sugar Milling Association Limited v. Federal Commissioner of Taxation.

Thomas J

Supreme Court of Queensland

Judgment date: Judgment handed down 3 September 1982.

Thomas J.

During 1976 the appellant was in the process of upgrading its sugar mill. Very substantial alterations were effected. Between 1st January 1976 and 30th April 1977 (the date on which the appellant's income tax year ended), it expended, inter alia, $3,181,517 on improvements (to use a neutral term) which it claimed as eligible expenditure under sec. 82AB(1) of the Income Tax Assessment Act. The Commissioner, by the time of hearing of this appeal, had allowed $741,603 of the claim, but had rejected the balance of $2,439,914.

Before 1976, the milling train consisted of some six mills. The end result of the upgrading was a conversion to five mills and the replacement or upgrading of various component sections of the milling process.

The system involves the processing and reprocessing of cane through the various mills. Juice is thereby extracted which finds its way into the various juice tanks. Ultimately the clarified juice is pumped to two effet sets, which operate in parallel with one another. The effet station increases the sugar content of the juice by evaporating water from the solution. The product from the effet station, now called liquor or syrup, is pumped to storage tanks. There is then a process of crystallization of sugars and the production of other products at the pan station. The overall scheme of things is much

ATC 4457

more complex than the primary course which I have described. It includes a reprocessing of by-products which are collected along the way. These include recovery of the eventual fibres which are used to fuel the mill itself; and the collection of ``mud'' which is then reprocessed so as to extract sugar-bearing liquids which it still contains.

The relevant expenditure related to equipment at various stages of the processing, as can be seen from the following summary.

      A.     Mixed juice pumping
               station ...................    59,226.50
      B.     First crushing mill .........   866,649.30
      C.     Third crushing mill
               (now called the number 5
               mill) .....................   998,658.12
      D.     Mud filter station ..........   442,282.23
      E.     Juice heaters and effet
               vessel ....................   814,701.04

The appellant called two witnesses, both of whom were patently fair in giving their evidence. Indeed their evidence was not seriously challenged, and no evidence was called by the Commissioner. I accept the evidence of Mr. Miskin and Mr. Lewis without reservation.

The work was generally designed and supervised by the appellant's own experts. It was effected by purchasing certain equipment, by engaging a contractor (such as Walkers Limited) to supply and construct on site certain specified items and by itself providing or arranging for necessary labour and materials to effect the various installations and alterations.

The case involves the application of Subdiv. B of Div. 3 of Pt. III, that is to say sec. 82AA to 82AQ inclusive of the Act. By far the most relevant provision for present purposes is sec. 82AB(1), which states:

Commencement and termination dates of Subdivision B; deduction allowable in first year property used or installed.

``82AB(1) Subject to this Subdivision, where -

  • (a) on or after 1 January 1976, a taxpayer has incurred expenditure of a capital nature (in this section referred to as `eligible expenditure') in respect of the acquisition or construction by him of a new unit of eligible property in relation to which this Subdivision applies;
  • (b) the eligible expenditure exceeded $500;
  • (c) the eligible expenditure was incurred -
    • (i) in respect of a unit of property acquired by the taxpayer under a contract entered into on or after 1 January 1976 and before 1 July 1983; or
    • (ii) in respect of a unit of property that was constructed by the taxpayer and the construction of which commenced on or after 1 January 1976 and before 1 July 1983; and
  • (d) the unit of property was first used or installed ready for use before 1 July 1984,

there shall be allowed as a deduction from the taxpayer's assessable income of the first year of income during which that unit was either used for the purpose of producing assessable income, or installed ready for use for that purpose, an amount (in this section referred to as the `relevant amount') ascertained in accordance with the following provisions of this section.''

It is convenient to discuss the issues which arise by reference to the particular parts of the mill with respect to which the work was performed.

A. The mixed juice pumping station

The only expenditure disallowed with respect to this item is $16,190, comprising $488 spent on foundations, and $15,702 spent on pumps and motors.

The evidence establishes that all the costs respecting the foundations were indeed incurred after 1st January 1976. The foundations were necessary for the functioning of two Kelly and Lewis pumps acquired and installed at the mixed juice pumping station. The relevant equipment included two starters and two electric motors to start and drive the Kelly and Lewis pumps. These items were ordered from Crompton Parkinson (Australia) Proprietary Limited on 19th November 1975.

ATC 4458

It is first necessary to identify what is the ``new unit of eligible property'' with respect to which the taxpayer incurred expenditure. The appellant submits that the mixed juice pumping station itself comprises the relevant unit. Whilst it is plain that an electric motor, or a starter may in appropriate circumstances itself be a unit, the evidence here shows that each of these components has become an integral part of the pumping station. It may be noted that the Kelly and Lewis pumps (in respect of which expenditure has apparently been allowed) were delivered to the site with the relevant motors (in respect of which expenditure has not been allowed) attached to them. The station obviously would not function without the pumps, and the pumps obviously could not function without the motors or the starters. Two pumps are necessary because during the crushing season the milling must continue on a 24 hour basis.

Mr. Miskin regarded this station as a separate item within the overall process of the mill. He described it as being dedicated to withdrawing juice from the mixed juice tank, pressurizing it through the pumps and then pumping that juice under pressure through the primary juice heads through to the incubator. He pointed out that it has no other function.

On this evidence, I am prepared to hold that the mixed juice pumping station erected by the appellant during 1976 is a ``unit of eligible property'' under sec. 82AB(1). It is an item which performs a discrete function in the milling process. This is, I think, a sufficient criterion, at least in the present context, to enable it to be called a unit. There can be no comprehensive definition of unit because it will depend upon the circumstances of each case whether a particular item comprises a unit or not. A nut or a bolt would doubtless be a unit in a hardware store, but would not be a unit when fastened into a vehicle or a piece of machinery.

Within the context of a sugar mill, a wide spectrum exists for the identification of possible units. If one opts for the de minimis approach, one would regard the nuts, bolts and basic components as units; if one opts for the de maximis approach, one would opt for the entirety of the milling process as comprising a single unit. In the present case the Commissioner has made submissions which seek the inclusion of relatively minor components as units; and the taxpayer has made submissions seeking the identification of relatively large components within the milling process as comprising the relevant units. The factors suggested by the Commissioner as applicable in determining whether an item is a unit or not may be summarised as:

I am afraid that the all-important test in B begs the question. Why should not the converse question be asked, namely whether the postulated unit could not be regarded as a part of a large integer?

This is not the first occasion upon which difficulty in identifying a ``unit of property'' has arisen under the Act. Section 62AA has produced litigation concerning entitlement to deductions for investment in ``manufacturing plant'' which term is defined to mean a unit of property in relation to which that section applies. In
Ready Mixed Concrete (Victoria) Pty. Ltd. v. F.C. of T. 69 ATC 4038; (1969) 118 C.L.R. 177, Kitto J. had little difficulty in determining that a concrete mixer installed on the back of a truck was such a unit. It is to be recognised that sec. 62AA and 82AB are not on all fours, and that Kitto J., in the following passage, was addressing himself to the question whether the mixer was excluded by sec. 62AA(3)(b) as being itself a ``road vehicle... ordinarily used... for... the delivery of goods''. His Honour said (at ATC p. 4042; C.L.R. p. 184):

``Notwithstanding the mode and degree of annexation, the truck and the mixer are functionally separate and independent units of property. The function of delivery belongs to the truck. The use of the mixer is for mixing, as a step in the production of concrete in the condition required for pouring...''

ATC 4459

His Honour consequently held that it was not a machine ordinarily used for delivery.

Wangaratta Woollen Mills Ltd. v. F.C. of T. 69 ATC 4095; (1969) 119 C.L.R. 1, McTiernan J. had to consider the application of sec. 62AA to expenditure by the taxpayer within its factory which performed the functions of dyeing and spinning worsted yarn. The disputed items included the whole dye-house extension, an item consisting of excavation and concrete lining of a vat pit together with associated works, demountable segregation walls, and some sliver can pistons and springs (as distinct from sliver cans themselves). His Honour regarded the new dye-house extension (with certain exceptions) as a relevant item of plant, and by implication that it was a relevant unit of property. Likewise his Honour considered that the excavation and concrete lining of the vat pit and associated works (referred to as ``integral plant'') ``should be taken together to form an item of plant, that is a vat pit with drains complete with lining, brickwork tiling and gratings'' (ATC p. 4102; C.L.R. p. 12). His Honour considered that such items were ``used primarily and principally and directly in an operation, namely dyeing, by means of which manufactured goods as defined... are derived from other goods...''. With respect to the demountable walls, his Honour described the function which they performed in preventing the drift of fibre particles, and said:

``I have no doubt that these wall panels are manufacturing plant. They are movable and have been moved. They are used primarily and principally and directly in a part of the operations, namely twisting...''

Finally, his Honour discussed the sliver can pistons and springs in the following way (at ATC p. 4103; C.L.R. pp. 13-14):

``Counsel for the Commissioner submitted that a sliver can with piston and spring is a `unit of property' to which the words `manufacturing plant' in subsec. (1) apply. He said that a piston and spring without the can were in the nature of spare parts for `unit of property', and that it was the policy of the section to encourage manufacturers to buy new plant, rather than to patch up the old.

In my opinion it is not necessary to embark upon this consideration of policy. Sliver cans are used in the spinning factory for other purposes besides use with spring and piston to hold a sliver. For example they are commonly used to hold fibre bobbins on removal from the machine. I therefore regard the can as one unit of property, and the spring and piston as another, as an additional attachment to enable the can to be used for a more specialised purpose. It is true that the spring and piston cannot be used without the can, but the same could be said of any attachment for a tractor such as a mower or post hole digger operated from a power take off.''

It can be seen that his Honour was prepared to regard things both great and small as capable of being units within an overall manufacturing system. In my opinion a component may be a unit of property for the purposes of sec. 82AB in the context of a manufacturing system, if it can be shown to perform a discrete function, or if it can be shown to vary the performance of that system. Furthermore, where there is expenditure upon a complex group of items (as in the present case) I do not think that there is necessarily a single and absolute answer as to what the units are. To my mind the appellant is correct when it says that the mixed juice pumping station was a unit. The Commissioner may also be correct when he submits that the Kelly and Lewis pumps are units in respect of which claims could be made. If they are both units, or capable of being treated as units, the taxpayer may indicate the unit of property which he says he has acquired or constructed after 1st January 1976, and if it is in truth a unit of property he is entitled to the benefit of the section. It does not matter that he could also have nominated a smaller unit, or a number of smaller units of property.

The section refers to ``acquisition or construction by him of a new unit''. The alternatives of acquisition or construction are maintained throughout. This strengthens the view that a taxpayer could acquire an item of property such as a new Kelly and Lewis pump, and provided it was acquired within the prescribed time, he could claim his deduction on the footing that he had acquired a new unit. But if he acquired it as a

ATC 4460

component of a larger new unit of property which he was himself constructing during the prescribed period, it would be unnecessary for him to claim the deduction to which he would be entitled from acquiring the pump. He would be entitled to claim the full ``expenditure... in respect of the... construction by him of a new unit of eligible property'' and that expenditure would include the cost of acquiring the pump.

In any event, whether or not the section gives a taxpayer a choice in the matter, I think that the mixed juice pumping station has been correctly designated as a unit in this case.

The effect of this finding is that the taxpayer can show that it incurred expenditure in respect of the construction (as distinct from acquisition) by it of a new unit of eligible property. This is important in the present issue, because the order for relevant component parts had been placed before 1st January 1976, and the claim would fail under sec. 82AB(1)(c)(i) if the claim were based upon acquisition. However, as it is plain that the construction of the relevant unit commenced after 1st January 1976, the appellant has made out the requirement of subpara. (c)(ii).

I therefore find that the disallowed expenditure of $16,190 was in respect of the construction by the appellant of a new unit of eligible property and that the taxpayer is entitled to a deduction of the ``relevant amount'' under sec. 82AB(1), which is 40% of the actual expenditure.

B. The first crushing mill

This mill is now called the number 2 mill, and is the second in a chain of five. The appellant expended $866,649 on this mill, and the Commissioner has disallowed $648,201. In effect, two six foot mills were replaced with a new seven foot mill. The present five mills operate in train to the end result that the juice is extracted from the sugar cane.

I have no doubt that this mill can and does comprise a new unit for the purposes of sec. 82AB.

Once again the appellant submits that it has ``constructed'' a new unit. It cannot claim for acquisition of units, because the relevant orders were placed with Walkers Limited on 3rd December 1974.

The equipment acquired from Walkers was substantial, and included a turbine gear box roller crusher, gearing and associated parts.

The work undertaken by the appellant in creating this mill was also very substantial. It involved the removal of two existing six foot milling units, the removing of intermediate carriers, the removal of gearing forming part of the crushing units, and removal of a low speed unit, high speed unit turbines, access platforms, staging, and pipe work. Such items had to be removed to provide access to the site before demolition of the existing foundations could commence. Once back to ground level, the area for excavation was set out, breaking of concrete and excavation proceeded, three months being involved in forming the foundations. The various components supplied by Walkers Limited were slow in arriving. Their installation was a complicated process involving levelling, tensioning, aligning and assembling. The appellant's boilermakers spent a fortnight on welding work, their employed electricians (five or six men) spent a fortnight with much overtime, and the installation of the steam piping to the turbine took at least two weeks.

I have no doubt that the replacement of this mill amounted to a construction by the taxpayer of a new unit, as distinct from the acquisition of same. It is true, as the Commissioner submits, that the term ``constructed'' imports more than mere installation. But the work involved here went far beyond installation, and resulted in the creation of something quite different from the component parts acquired from Walkers. In plain terms, the appellant constructed a new mill.

The next question is whether the construction commenced on or after 1st January 1976, as required by subpara. (c)(ii). Now whilst there is some doubt as to the date upon which foundations were commenced with respect to the effet vessel, Mr. Miskin has sworn that no work was undertaken on the construction of any other relevant plant before 1st January 1976, and this does not appear to have been challenged.

A small part of the total expenditure ($5,263) related to labour and materials paid by the appellant in altering the intermediate

ATC 4461

carrier to render it compatible with the crushing mill. It was said that such expenditure was in respect of neither construction, acquisition nor a new unit. However, in my opinion it marks the commencing portion of the new unit and the expenditure was necessary to enable the old mill to be replaced by the new mill. I consider that it was expenditure in respect of the construction of the new unit.

It follows that in my view the Commissioner was in error in disallowing $648,201 of this claim for deduction.

C. The third crushing mill

This is now called the number 5 mill. The evidence with respect to this issue is parallel to that concerning the first crushing mill and I do not think that there is any feature of sufficient importance to produce a different result. Consequently, I consider that the Commissioner was in error in disallowing $793,121 of this claim for deduction.

D. The mud filter station

The appellant expended $442,282 of which the Commissioner has disallowed $394,355. During the appeal, the appellant abandoned its claim respecting $2,408. Consequently, the only issue remaining is whether the expenditure of $390,006 (described as job number 15 of 1976) should be allowed. That sum was paid to secure from Envirotech Australia Pty. Ltd. the supply and installation of an Eimco Cane Mud Filter Station. The order to supply and install was made on 23rd October 1975. The parties have admitted that this expenditure was incurred under a contract entered into between the appellant and Envirotech before 1st January 1976. Notwithstanding this admission the appellant's counsel submits that the expenditure was ``incurred'' after that date, because the contract with Envirotech provided for monthly progress payments, and most of the work to justify such payments must have occurred after 1st January.

I do not think it necessary to discuss the meaning of ``incurred'' in the present context, because even if the expenditure was incurred after 1st January, it was not ``incurred... in respect of a unit of property acquired by the taxpayer under a contract entered into on or after 1st January 1976''. Accordingly, it is impossible for the taxpayer to satisfy sec. 82AB(1)(c)(i). The only way in which the taxpayer could qualify this expenditure for deduction would be to demonstrate once more that the expenditure was in respect of a unit that was constructed by the taxpayer, and that the construction commenced after 1st January 1976. However in this instance, Envirotech not only made and supplied the substantial components for the mud filter station, it also installed them. It is true that the appellant did perform a considerable amount of work in connection, with the installation of this station. This work included the design, purchase and installation of all electrical wiring starters, and the construction of a motor control centre which operates the station. It also purchased and installed a sump pump with tank located below the filter station to pick up and return spillages from the filter.

Mr. Miskin's evidence indicates that the mud filter station consists of the mud filters, the auxiliaries associated with each filter, the mud belt and the mud storage tank. All those items appear to have been the subject of the Envirotech contract. The appellant did perform substantial work in relation to the mud filter station, and it would be impossible for the above items to operate without the connections that were made to them by the mill staff. But those factors fall short of establishing that the appellant constructed the mud filter station. In the circumstances I do not think that it can be fairly said that the mud filter station was constructed by the taxpayer.

Accordingly the Commissioner's disallowance of this item was correct.

E. Juice heaters and effet vessel

The appellant's counsel submitted that this heading may justify consideration of two units, namely juice heaters and the effet vessel respectively. The evidence in my view permits the juice heaters and the effet station to be regarded as units each in their own right. Accordingly I shall consider the evidence with respect to these items separately, so far as this is possible.

The total expenditure (in respect of both items) claimed by the appellant is $814,701, of which the Commissioner has disallowed $588,047.

ATC 4462

The installation of the juice heaters involved work by Walkers and also by the mill. Walkers initially performed the majority of pipe work associated with the heaters. Later additional pipe work was performed with the mill supplying materials and Walkers supplying the labour. The mill's work involved the design, installation and foundation to support the staging on which the heaters were eventually mounted; the purchase and installation of steam pipe work to provide the heating medium to the juice heaters; the purchase and installation of instrumentation to control the system, particularly with respect to temperature control; and the purchase and installation of valve work associated with the steam pipe work. The work carried out by the mill cost approximately $187,000. The foundations prepared by the mill did not serve any function in relation to the structure of the mill building, and were for the sole purpose of the construction of the new juice heaters.

In my view the overall work was organised and effected by the appellant. It matters not that relatively substantial sub-contract work was obtained from third parties.

I also find that the appellant commenced its construction work after 1st January 1976.

I am prepared to declare that to the extent to which the assessment disallows deductions in respect of expenditure incurred in the construction of the juice heaters, the assessment was in error. There is however a problem in assessing the quantum of expenditure on these heaters.

The evidence is very nearly sufficient for me to distinguish the expenditure attributable to the effet vessel from that attributable to the juice heaters. An analysis was undertaken, the results of which appeared in exhibit 24. Mr. Morley Q.C. for the Commissioner very properly advised me that there was no submission that the apportionment made under exhibit 24 was inadequate or inaccurate, or that there is any better way of apportioning the expense if such an exercise is warranted.

My problem is that there are four job numbers involving expense in respect of juice heaters, but in only three of them can I detect the appropriate amount. The position may be summarised thus:

Mr. Gzell Q.C. for the appellant submitted that if any doubt emerged in relation to apportionment, the matter could be sent back to the Commissioner under sec. 82AN. Having made these findings I am prepared to hear submissions as to whether I should simply set aside the Commissioner's assessment insofar as it rejected deductions in respect of expenditure on juice heaters, and direct that 40% of $324,063 (the amount sufficiently proved as attributable thereto) be allowed; or alternatively whether this whole question be sent back to the Commissioner for a determination under sec. 82AN(1).

The evidence with respect to the effet vessel is rather different.

Walkers contracted to design, manufacture and erect effet house alterations in accordance with a specification for a fixed price payable pursuant to monthly progress claims, such claims to be submitted based on the value of materials procured and work completed. Walkers also installed certain pipes supplied by the mill.

The work performed by the mill consisted of designing and installing the foundations for the vessel, provision of steam connections to the vessel, provision of instrumentation and control valves to control steam flow and juice flow to the vessel.

There is some doubt surrounding the actual date when the appellant commenced excavation for the foundations of the effet vessel. Records suggest that some preliminary work was undertaken in preparation for excavations between 24th and 27the December 1975. The stores records show that some chalk lines and angle-iron were taken during that period, and their taking is consistent with their being used for the setting up of profiles for foundations. Some shovels were drawn from the store between 29th and 31st December 1975. Although some wages were charged against

ATC 4463

this particular job prior to 1st January 1976, this could have been either for staff officers concerned with design, or for other work. In the result Mr. Miskin was not able to put the commencement of the excavation work for the effet vessel on either side of 1st January 1976.

The amount of work that could have been done by 1st January 1976 is relatively trivial, having regard to the size of the project. Nevertheless, the test is that of commencement simpliciter not that of substantial commencement. I do not think that the appellant has been able to discharge its onus of showing that the construction of the effet project commenced on or after 1st January 1976.

Thus the appellant cannot satisfy the requirement of subpara. (c)(ii). Nor can it bring itself within subpara. (c)(i) with respect to any components for the effet vessel, because its contracts with the various suppliers and contractors were all entered into before 1st January 1976.

I therefore think that the Commissioner was correct in disallowing the claim for deduction for expenditure in respect of the effet vessel.

No submissions were made by the Commissioner to suggest that the expenditures, if otherwise within the ambit of sec. 82AB(1), would fail to qualify as investment allowance deductions under Subdiv. B of Div. 3 of Pt. III of the Act.

The appeal will be allowed to the extent I have indicated, with costs. I shall hear submissions as to the appropriate form of order.


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