Case R83

Members:
KP Brady Ch
JE Stewart M
DJ Trowse M

Tribunal:
No. 2 Board of Review

Decision date: 21 August 1984.

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K.P. Brady (Chairman), J.E. Stewart and D.J. Trowse (Members)

The question for decision in this case is whether the taxpayer was carrying on a business of primary production in the years of income in issue, namely those ended 30 June 1979 and 30 June 1981. By consent, the references of both years were heard together.

2. It seems that the taxpayer had known horses all his life through working on various farming properties. In November 1974, then being approximately 34 years of age, he purchased a one acre block of land on which there was a disused church and he converted the building into suitable living accommodation for his wife and children. The property was situated in a small rural settlement some 46 kilometres from the provincial city of P. The taxpayer proceeded to build stables with a view to breeding pure-bred Arabian horses. Over subsequent years, he constructed holding yards, including a round-yard where he personally broke in his young stock, and a loading ramp and various sheds.

3. Soon after acquiring the property he obtained permission of a neighbour to use a lane way that ran alongside his property, and this gave him further grazing over about a half acre. At the same time, he entered into an arrangement to agist his horses on a further 20 acres situated approximately three kilometres from his homestead property. That situation remained unchanged until the first of the years of income in issue, namely 1978/79, when he obtained rights to agist a further 20 acres some eight kilometres from his home. In that same year he entered into a verbal arrangement with a neighbouring property owner to graze his horses over 50 acres of his 1,200 acre property, subject to the taxpayer maintaining the fences of the particular paddock or paddocks where his horses were enclosed.

4. Over subsequent years he had need to substitute other land for agistment as existing arrangements worked themselves out.

5. Thus, in the years of income in issue, the taxpayer owned freehold land of one acre and agisted his horses on grazing land totalling some 40 acres and had gentlemen's agreements with neighbours for grazing over a further 50½ acres.

6. The taxpayer commenced his horse-breeding activity with the purchase in 1974/75 of an Anglo/Arab colt and a thoroughbred mare, who subsequently was found to have a biological defect and unable to foal. Additionally, he purchased a gelding and a pony in order that his wife and children respectively (of whom there were six aged between four and 15 years) might learn to ride in order to display horses at various shows. The taxpayer explained the latter purchases in the following terms:

``I have got them to train my children and my wife to help me in the showing of the animals that we do breed. I need the riding horses also to transfer my horses from paddock to paddock. But you have got to train the people to go into the show ring and you can only start them with a quiet horse, and geldings are your quietest and you have got to gradually go up the ladder, you have got to upgrade them as you go along. You have got to be confident that they can manage a horse and you can only learn this from a quiet one and from a lot of time.''

7. It seems that the gelding which the taxpayer purchased for his wife proved unsatisfactory and he replaced it in the same year with another gelding; likewise he replaced the pony purchased for his children.

8. In the following year he purchased two three year old part-Arab mares in foal, a six months old pure-bred Arab colt whom we shall

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ATC 559

call ``A'', and an 18 months old Anglo/Arab filly whom we shall term ``B''. A filly and a colt were born of the mares. In the same year he sold them and the mares, also the colt purchased in 1974/75.

9. In 1977 he purchased a one year old Arab filly ``C'', a one year old creamello filly ``D'' (we were informed that a creamello is the offspring of a palomino bred to a palomino), a five year old mare, a one year old palomino filly ``E'' and a seven year old palomino mare ``F''. In the same year he sold the five year old mare when it was put in foal. There was no natural increase.

10. In the following year 1978, he purchased a two year old Shetland pony for his children which was replaced by a four year old gelding in the same year, a seven year old registered trotter (a mare) as a riding hack for his wife and a further four year old gelding. He sold the children's pony purchased in 1975/76. Again there was no natural increase.

11. Accordingly, as at the beginning of the first of the years in issue, his breeding stock comprised (with the ages of the animals appropriately advanced):

• ``A'' - a four year old pure-bred Arab stallion.
• ``B'' - a three year old Anglo/Arab filly.
• ``C'' - a two year old Arab filly.
• ``D'' - a two year old creamello filly.
• ``E'' - a two year old palomino filly.
• ``F'' - a seven year old palomino mare.

It was pointed out to us that generally one does not breed from fillies until they are at least three years of age. Accordingly, the taxpayer had two breeding units only as at the beginning of the first year of income in issue. Additionally, he had on hand three geldings.

12. In the first of the years of income in issue a foal was born following upon the mating of ``A'' with ``F'', and ``D'' and ``E'' were sold. A further mare was purchased, as was another hack. A loss was incurred on all the above transactions amounting to $274.

13. In the following year an eight year old thoroughbred mare, ``G'', was purchased to provide taller progeny, also another gelding and two ponies. It seems that in that year the taxpayer obtained his best result to date as a breeder, three foals being born including two part-bred Arab fillies. One of the geldings was sold, as was the foal born in the previous year.

14. In the following year, being the further year in issue, namely that ended 30 June 1981, a further two foals were born and, with purchases of horses exceeding sales by one, the taxpayer's stock of horses was increased to 16, comprising a stallion, six mares, three fillies, one colt and five geldings.

15. The Commissioner's representative informed us that losses had been incurred in every year since the taxpayer commenced his operation in 1974. For the years in issue they amounted to $6,893 and $3,855 and comprised the following revenues and expenditures:

                                           1978/79            1980/81
         Revenue
                                             $                  $
      Horse service fees                    600                Nil
      Agistment income                       50                Nil
      Profit/(Loss) on sale of
        horses                             (274)               146
      Profit from sale of cattle             27                Nil
                                            ---                ---
                                           $403               $146
                                            ---                ---

      Less Expenses
                                             $                  $
      Service fees                          140                Nil
      Agistment fees                        300                114
      Fodder and water cartage            1,588                961
      Veterinary fees                       497                 60
      Machinery fuel                         29                Nil
      Hire of horse floats                   26                Nil
      Subscriptions -
        Palomino Society                     38 ]
        Arab Horse Society
          of Aust.                           41 ]              205
        Kennel Control Council               16 ]
      Loan interest - horses                508                508
      Depreciation                          213                231
      Insurance - horses                    177                Nil
      Maintenance of farm dogs              104                 60
      Rates and taxes                        47                 74
      Motor vehicle expenses              3,230              1,286
      Loss on assets disposal               Nil                 70
      Saddlery                              Nil                199
      Advertising                           Nil                 36
      Overheads                             332                197
                                          -----              -----
                                         $7,296             $4,001
                                          -----              -----
         Net Loss:                       $6,893             $3,855
                                          -----              -----
      

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ATC 560

16. In each of the above years the taxpayer sought to deduct the above losses against his salary income. The Commissioner disallowed his claims on the basis that the taxpayer was not carrying on a business of primary production and, upon disallowance of the subsequent objections, the matter has come before this Board for review.

17. At the hearing the taxpayer was represented by his tax agent; the Commissioner was represented by one of his officers.

18. In narrating the facts adduced in evidence before us, we should add that the taxpayer's breeding activity only became his sole activity after approximately December 1980 when his services as an employee at X Ltd. were terminated. That company conducted a substantial malt-brewing operation at P, and the taxpayer worked night-shifts there as a matter of choice so that he could better attend to his horses in the day-time hours. From the tax returns for the years of income in issue, we noted that the taxpayer worked for X Ltd. for the whole of the year of income ended 30 June 1979, and for approximately six months only in the year of income ended 30 June 1981. For the times when he worked night-shift (which was the normal occurrence) he estimated that he also worked daily on his property for about five hours each day, or 40 hours over the whole week. He considered that the sum total of weekly hours that he spent on his horses when he had his salaried job was no different to the hours expended since the horse business became his sole activity.

19. The Commissioner's representative did not seem to resile from the proposition that the taxpayer indulged in considerable activity in conducting his horse-breeding operation, and made passing reference to
Inglis v. F.C. of T. 80 ATC 4001 where it was said at p. 4005 that it is the extent of the taxpayer's activity that determines whether or not a business is being carried on in any particular situation. However, he contended that the activities of the taxpayer in the instant case were so ill-planned and ill-considered as to lack commercial purpose. Here he referred us to the oft-quoted dictum of Lord Clyde in
I.R. Commrs. v. Livingston and Ors. (1927) 11 T.C. 538 that for a taxpayer's venture to be in the nature of a trade, the operations involved in it must be ``characteristic of ordinary trade in the line of business in which the venture was made''. To support his contention that the taxpayer's activity was basically a family recreational interest, as opposed to a commercial undertaking, the Commissioner's representative referred us to the very small scale on which the operation was conducted (and within that context we have noted that there were three horses only bred in the two years in issue). He also made reference to the losses made in previous years as well as those made in the years under review which, it seems, were induced principally through the trading base being too restricted.

20. The case of
Thomas v. F.C. of T. 72 ATC 4094 is authority for the proposition that a taxpayer can carry on a business even though it be in a small way, also that a lack of business efficiency with which an operation is conducted does not necessarily lead to a conclusion that a business is not being carried on. We believe that the arguments of the Commissioner's representative are of considerable merit, but we consider, as was the case in Thomas, that they are not fatal to the taxpayer's claims. We say this because it is clear, we consider, that the main reason why the taxpayer has incurred losses to date lies in his straitened financial situation. He worked as a farm hand prior to 1977 and as a factory operative from 1977 to December 1980. In that latter year he was unemployed for a time, and applied for and received unemployment benefits. Additionally he had (and still has) the onerous financial task of raising and educating six children. Accordingly, we believe that lack of capital has been the main cause of the taxpayer's poor trading results in that it has disadvantaged him in two specific ways: first, it has precluded him from operating on anything but a very small scale and, secondly, it has caused him to sporadically change direction in his breeding programme as reflected in the palomino purchases in 1977 and the thoroughbred mare purchase in 1980. Thus he has been forced to seek profits in the short-term rather than adhere to his initial plan of breeding pure-bred Arab horses with profits being earned in the medium to long-term.

21. The matter of lack of finance arose at frequent intervals in the taxpayer's evidence-in-chief and in cross-examination. In the latter discourse, the following exchange took place:

``Q. So your aim the whole way through was to breed pure bred...? - A. Oh yes,

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ATC 561

and every other horse has only been a means to breed up till I can afford to get the pure-breds, to sort of pay for the pure-breds with what I got from the part-breds, but with the way the market went, well, I just did not have it, so I have had to lease them now, so I will be able to breed all my own.''

The above was followed later by the following exchange:

``Q. Would it be fair to say that your activities have taken a change of direction in this year,... you are not following the Arab breeding? - A. Well, I have also wanted the pure-breds and as I tried to explain earlier, that whichever way I was going to get my best foals, or the way I thought I could make the most money was the way I would pursue till I could get my pure-breds. I have always wanted the pure-breds, but the market changes all the time; one year there is a big demand for a small type horse; the next year there is a big demand for a big one and it is hard to keep up with what the times are demanding; and because I could not afford the pure-breds in the beginning I have had to try and follow what the demands were, and that is why I swapped from the ponies to the palomino and I went from the palomino, because they were a bit small, to go to the bigger horse. I have tried to change with the market and this is when the market was starting to head downward, but I was still only trying to make as much money as I could to get my pure-breds. That has never altered...''

22. In examining the evidence, we shared a tentative view that there might be two streams in the taxpayer's operation; one stream being represented by the horse-breeding activity (and so capable of being termed a business of primary production), and the other a business of simply trading in horses, and not amounting to such a business. We are satisfied, however, on further reflection that such was not the case. Because of the not inconsiderable distances between the properties on which the taxpayer agisted his horses, we believe that it was necessary for him to have a number of work horses and change them over at fairly frequent intervals so that his helpers, as represented by his children, might have mounts appropriate for their various ages, and we consider that his ever-precarious financial situation dictated the sale of his stud stock, often at most uneconomic price levels. Accordingly, we view the horse trading activity as being ancillary to, and even a necessary part of, his horse-breeding business.

23. We understand that the horse-breeding industry is a high risk one and that availability of adequate capital is vital, not only to have the business operate on an economic scale but also to tide it over the non-revenue earning establishment stage (see
Tweddle v. F.C. of T. (1942) 7 A.T.D. 186 at p. 190). The evidence discloses that the taxpayer did not possess the capital necessary to implement his original intention to breed only Arab horses and that, consequently, his breeding programme assumed various twists and turns which gave rise to considerable trading losses, but we are of the view that those aspects are not fatal to his claims. We believe that in the years of income in issue the taxpayer was carrying on a business of primary production.

24. The evidence, however, supports the alternative proposition put forward by the Commissioner's representative that, if there was a business of primary production, then it was conducted by the taxpayer and his wife jointly. The taxpayer's own evidence was that he owned the house property jointly with his wife, that trading receipts were paid into, and payments made out of, a bank account operated in their joint names and that the stud stock was registered in their joint names. Also, he informed us that his wife helped him in everything that he did on the property. Accordingly, we consider that the horse-breeding business was one conducted jointly by the taxpayer and his wife.

25. Having that view, we direct that the assessment in these references be varied as under:

• (i) Year ended 30 June 1979 - allow a loss from primary production of $3,447, being one-half of the amount claimed, namely $6,893.
• (ii) Year ended 30 June 1981 - allow a loss from primary production of $1,927, being one-half of the amount claimed, namely $3,855.

Claims allowed in part