Federal Commissioner of Taxation v. Equitable Life and General Insurance Co. Ltd.

Members: Davies J

Pincus J
Gummow J

Tribunal:
Full Federal Court

Decision date: Judgment handed down 13 June 1990.

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Pincus J.

This is an appeal from a judgment of a single judge of this Court in relation to two income tax objections referred to the Court by the Commissioner of Taxation [reported at 89 ATC 4972]. It concerns profits realised by the taxpayer (the present respondent) from the sale of shares in the years ended 30 June 1983 and 30 June 1984. The decision below was in favour of the appellant in relation to the former year and in favour of the respondent as to the latter; the respondent has cross-appealed with respect to the year ended 30 June 1983.

The statutory provisions which are principally in question are sec. 25(1) and 26(a) of the Income Tax Assessment Act 1936 . Section 25(1), which includes in assessable income, so far as relevant, ``the gross income derived directly or indirectly from all sources whether in or out of Australia'', has not been relevantly amended. Section 26(a) was repealed by Act No. 47 of 1984, but that Act also added a new sec. 25A(1) to the same effect as the former provision. The new sec. 25A applied (by sec. 60(8) of the 1984 statute) to sales after 23 August 1983 and so caught most of the sales in the second year in question here. Section 26(a) read as follows:

``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.''

For the sake of simplicity, I shall refer to the relevant provision as sec. 26(a), throughout these reasons.

For many years before 1977, the respondent had a life insurance business, but that was transferred to another company, Friends' Provident Life Office, which took over the whole life insurance business, including its liabilities, as at 31 December 1976. After discontinuing its insurance business, the respondent continued to hold a substantial share portfolio until 1984.

From 1981 or 1982, the respondent was a subsidiary of QBE Insurance (International) Ltd., which was in turn a subsidiary of QBE Insurance Group Ltd. (``QBE Group''). QBE Group also owned, at relevant times, a company called QBE Insurance Ltd. QBE Insurance (International) Ltd. and QBE Insurance Ltd. have both carried on insurance businesses at relevant times, the former outside and the latter within Australia.

For convenience in what follows, a year ended on, say, 30 June 1983 will be referred to as ``the 1983 year''.

The share profits which are in issue are a sum of $219,179 realised in the 1983 year and

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ATC 4449

$2,798,950 realised in the 1984 year; some debentures were also sold in the latter year, for a profit of $15,868.

It was argued that for the purpose of deciding the case, the primary Judge should have treated the respondent's activities as connected with an insurance business, although it carried on no such business after 1976. It was said that QBE Group made returns, as it was required to do under the Insurance Act 1973 , on a group basis, including all the assets and liabilities within the group. The figures shown in such returns would have enabled the ``required solvency margin'' to be achieved even if the respondent's assets and liabilities had been disregarded; but in fact they were taken into account. The primary Judge found that there was no evidence to suggest that the interest in the applicant was ever treated as a ``reserve to meet policy holders' claims'' and rejected the contention that the appellant Commissioner should succeed on the basis that the respondent's portfolio was held as ancillary to an insurance business.

However, the primary Judge held that the shares in question were retained, after the cessation of the respondent's own life insurance business, ``for their income earning potential'', meaning dividend-income earning potential. As will appear, I have drawn a contrary inference and think they were held mainly in the hope of preserving, and if possible augmenting, the total value of the group's investments, without much regard to dividend income.

Despite the finding as to the purpose of holding the portfolio, the primary Judge held that the respondent was taxable on profits made in the 1983 year. His Honour found (at p. 4981) that the respondent:

``... was willing to sell particular shares from time to time, no doubt whenever it was thought sensible to do so having regard to the performance of the shares and the price available. Such periodic sales must be regarded as a normal operation in the course of carrying on the business of investing for profit.''

As to the 1984 year, his Honour held that those sales ``... represented a closing down of the business previously carried on''. He held that the profits realised in that year were obtained upon the disposal of the business, not in the course of carrying it on. In the result, as we have mentioned, each side succeeded in respect of one year; the Commissioner has appealed in respect of the 1984 year and the taxpayer has cross-appealed on the 1983 year.

It does not appear to be possible to construct, from the material available, a completely satisfactory table of the respondent's activity in relevant years. However, a table which provides some assistance is as follows:

Share transactions: 7 years to June 1984

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           Year ended    Percentages   Purchases    Sales     Carried

             30 June         sold          $m         $m      forward

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             1978                          4.2        0.7        9.1

             1979            17            0.6        1.8        8.1

             1980            19            0.3        1.9        7.0

             1981            56            0.3        7.2        3.8

             1982            28            0.2        2.3        2.9

             1983            16            3.7        0.7        6.1

             1984           100            3.4       12.7        0.0

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Explanation of the headings of the columns is necessary. The second column, headed ``Percentage sold'', consists of figures taken from the primary Judge's reasons (p. 4978). His Honour sets out, as to six of the seven years listed in the table, the ``percentage, by value, of securities sold compared with securities held, at the commencement of the financial year''; I have taken them to the nearest whole number. The next column, headed ``Purchases'', gives the cost price of shares purchased in the year in question, rounded off to the nearest $100,000; the figures are in millions of dollars. The next column,

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ATC 4450

``Sales'', gives similarly rounded figures, in millions of dollars, for the proceeds of sales in each year. The last column, headed ``Carried forward'', is the cost price in millions of dollars of the shares left in the portfolio at the end of each year. The actual value of the shares held at the end of each year was, in each case, substantially greater than their cost.

The seven years analysed in the table are selected because it was on 30 June 1977 that the respondent gave up its life insurance business; those seven years are the whole period from that date until the date (30 June 1984) by which the whole portfolio was gone. It appears to me desirable, in attempting to understand the nature of the activity engaged in, to consider not merely the two years immediately in question, but the five preceding years.

It should be noted that in the year following the commencement date (30 June 1977), more than $4m. worth of shares were purchased. The respondent did not, in that year, follow the policy of being a mere passive holder of the shares which it already owned. In that first year, it bought shares in 17 companies whose shares it had not previously held and those shares cost about $2.9m. It also increased its holding in seven other companies by purchases on the market, and those purchases cost about $1.1m. That is, the major part of the acquisitions in that year ($4.2m) consisted in on-market purchases, and the major part of that, in turn, consisted in purchases of shares in companies the taxpayer had not previously owned.

For the next four years, there was a lull in purchases and in that whole period, the respondent made on-market purchases in only three companies. It also took up rights issues, as it did in each of the seven years. The same relative quiescence did not exist on the sales side. It is particularly to be noted that in the 1981 year shares worth more than half the value of all those owned at the beginning of the year were sold, the proceeds being over $7m.

In each of the two years immediately in question, there were substantial purchases. In the 1983 year, about $3.6m. worth of shares were bought, in six companies, none of which had previously been owned. They were all oil or mining companies and those transactions are discussed below. In the last year, there were, again, on-market purchases in six companies, but all of them had previously been owned; their total price was about $2.8m.

Looking at the table more broadly, it can be seen that there were three years in which large purchases were made on the market, 1978, 1983 and 1984; in two years, 1981 and 1984, large sales were made.

The primary Judge's view of the pattern of transactions was not precisely in accordance with that which I have expressed. His Honour remarked (at p. 4981):

``The impression I get from the evidence regarding purchases and sales is that the applicant reviewed and supplemented its portfolio immediately after it ceased to carry on life insurance business. Between that date and 1983 it was content more or less to retain that portfolio.''

It should be noted that, as the table shows, the process of supplementing the portfolio to which his Honour referred was a very substantial one; it involved the purchase of about $4m. worth of shares. Further (although the point may not be of great importance) it does not appear to have been shown that these substantial purchases were made ``immediately'' after 30 June 1977. Again, as I have pointed out, more than half (by value) the shares held at the commencement of the 1980/1981 year were got rid of during that year, so that it is difficult to agree that the original portfolio was ``more or less'' retained until 1983.

The submissions made for the respondent in this Court included a suggestion that most of the shares the respondent held when it ceased to carry on the business of life insurance were retained. That is true only in the sense that many of them were retained for some years. Plainly, the majority of the original shares were gone well before 30 June 1984.

That may be gathered from the evidence of transactions in the 1981 year. Of the 61 companies in which shares had been held as at 31 December 1976, shares were held in only 19 on 30 June 1981. It is appreciated that the commencement date of the period surveyed is 1 July 1977, but the evidence of Mr O'Halloran shows that in the six months ended 30 June 1977, the taxpayer bought no shares in public companies.

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ATC 4451

It was submitted by counsel for the appellant that the case should be decided on the basis of the High Court's decision in
London Australia Investment Co. Ltd. v. F.C. of T. 77 ATC 4398 ; (1976-1977) 138 C.L.R. 106 , the facts in which, he said, were not rationally distinguishable from those of the present case. An examination of the papers, however, shows that counsel's contention is difficult to support. There are certainly resemblances between the facts in this case and those in London Australia (one curious one being that the group of which the respondent forms a part had, at one stage, the same chairman as had the appellant in the earlier case). But an important difference between the two sets of facts was that the taxpayer, on the findings, in that case, switched investments having regard to the relation between dividend income and share values, on the findings. Here, there is nothing to suggest that dividend income was of any particular importance to the respondent. Its investment strategy was to buy for capital gain, using the words ``capital gain'' as denoting gain from the increase in the value of the shares.

The evidence as to the investment strategy being pursued consisted principally of documents which are discussed below. Speaking generally, they create the impression that investment decisions were not in a practical sense made by the respondent's board. The group of which the respondent formed part had established, as a sub-committee of the board of the ultimate holding company, QBE Group, an investment committee. It seems to have been intended to have the function of reporting to the board on and supervising the conduct of the whole group's investments. However, the evidence of Mr F.M. O'Halloran, the only witness called for the respondent before the primary Judge, suggests that the investment committee's functions were not of much practical importance.

Mr O'Halloran thought he became a member of the investment committee ``around 1982 or 1985''. He said that the investment committee did not make any decisions, but he recollected one or two instances in which the committee had recommended to the main board the purchase of property outside the investment manager's authority. He agreed that otherwise investments were conducted in terms of the investment manager's authority. He also said that the investment manager could invest within his authority and did not have to refer anything to the investment committee.

Mr O'Halloran added that he did not have any part to play in the decisions made concerning the transactions in question in the case.

This evidence would tend to make one think that the investment manager might have been a useful witness, able to throw light upon the reasons for the purchases and sales. However, as the primary Judge noted, he was not called. His Honour continued (at p. 4978):

``No evidence was given as to the reasons for the various decisions to buy and sell shares, except that Mr O'Halloran said that the major reason for the sales made in 1984 was to provide funds for lending to QBE UK.''

His Honour went on then to discuss the extent to which the documents disclosed the group's investment policies. Before turning to that subject, I would remark that the respondent's case with regard to the reasons for the transactions in issue was somewhat weakened by the paucity of evidence called. As to the investment strategy being pursued, remarks were made to the Court on that subject from the Bar table, but it might have been more satisfactory to have the matter explained by evidence from the person or persons who decided to buy and to sell the shares in question.

One reason is that one may safely deduce those reasons only to a limited extent from the documents tendered. They may or may not reflect the reality of the relevant purposes and actions. An example, I think, is provided by the report of the directors of the respondent on the financial statements for the year ended 30 June 1983. It said:

``The principal activity of the company during the year was the holding of investments for the purpose of earning income.''

A similar, but more elaborate, statement is to be found in the report for the succeeding year. One point which seems pretty clear is that in neither of those years was dividend income a consideration of any consequence. No dividend was paid by the respondent in either year and over the whole of the relevant period, it seems plain that augmentations to share value were

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ATC 4452

regarded as more significant than dividends from shares held - particularly, I would think, because the former were being treated by the respondent as not taxable.

I turn now to these internal documents which, in my opinion, are of some help in discerning the reasons for investment decisions and ascertaining other relevant facts not otherwise proved. The investment committee of which Mr O'Halloran spoke appears to have been formed on 21 January 1976. According to minutes of a meeting of the respondent's directors held shortly thereafter, at that meeting it was also resolved that:

``the merger of the administration of the Investment Departments of QBE Insurance Group Limited and Equitable Life and General Insurance Company Limited group effective February 1, 1976, be agreed to. It was noted that the investments of Equitable Life and General Insurance Company Limited will remain separate and independent of those of the QBE Insurance Group Limited and will remain under the control of this Board.''

It is unclear to what extent the separateness and independence referred to in this resolution were insisted upon; Mr O'Halloran threw no light upon that subject. However, it seems to me likely that, at least early in the seven-year period, the respondent's investments were to some extent treated separately. That may be deduced from a memorandum to the board of QBE Group dated 22 July 1982 signed by the managing director and by the investment manager, one Moody. It urged upon the board the course of having ``all investment activities of Equitable Group'' undertaken by ``the QBE Group Investment Division''. Evidence that after that the investments of the respondent were centrally controlled is contained in minutes of the directors of QBE Group dated 23 March 1983. Those minutes include a resolution to approve the sale of some millions of dollars worth of shares from another group company, QBE Securities Pty. Ltd., to the respondent, a transaction further discussed below.

One cannot proceed with any confidence, then, on the assumption that documents dealing with the investment policies of the group as a whole necessarily refer to the policies of the respondent. I would remark that gaps of that kind in the evidence must, in view of the onus of proof, weigh against the respondent and decrease its prospects of overturning the primary Judge's view with respect to the 1983 year.

Some of the documents concerning share market decisions, however, clearly appear to relate to the respondent. One such is a portfolio review of 5 May 1980 which includes the remark:

``In line with recently established investment strategy no new investment in ordinary shares is being undertaken other than to take up the Burns Philp new issue and other approved rights issues.''

A little later, the board of QBE Insurance Ltd. (not, be it noted, the holding company) expressed uncertainty as to whether the then higher level of share values would persist and resolved to authorise the investment committee to dispose of shares held by subsidiary companies up to an amount of $5m. About the same time, a further portfolio, review, expressly including the respondent's portfolio, noted that the equity market had recently closed near its all-time high and that no new investment in ordinary shares was being undertaken other than to take up rights issues.

These documents suggest that the respondent's disinclination to increase its portfolio about that time was influenced by apprehension that the sharemarket as a whole might fall and had nothing to do with income considerations. Then, in June 1981, the investment committee resolved to reduce ``QBE's exposure to the sharemarket'', a decision which presumably would reflect the same view.

A portfolio review in November 1981 analysed the performance of ordinary shares held by the group (expressly including those held by the respondent) under a number of headings. The analysis pointed out that there had been, during the period under review, a net increase in book value of over $5m. The purchases during the period were over $12m. and sales over $13m., while realised capital profits were over $6m. There was no separate analysis of the dividends received from the shares held during the period under review.

In June 1982, the investment committee recommended to the ``QBE Board'' that

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ATC 4453

$500,000 for short-term share investment and $5m. for longer term investment be allocated. A memorandum bearing the signature of Mr Moody (mentioned above) and a Mr Rope discussed the sharemarket outlook in these terms:

``Our view of the Australian economy over the next six to nine months suggests that industrial share price are likely to experience further weakness. The impact of high interest rates and slower economic activity is likely to be more fully reflected in reported earnings, and lead to lower share prices.

The Mining and Oil sectors are expected to continue to be volatile and provide trading opportunities. Long-term buying support is expected to arrest any share price declines. Mining and Oil shares have been by far the hardest hit during the present recession and long-term buying support is expected to form a base during the next six to twelve months. On occasions price rises may be considerable, however, the subsequent falls are also likely to be material and thus indicate a base building process.''

It is hardly necessary to observe that the concern is plainly to preserve capital and, if possible, achieve capital profits; there is no mention of dividend income. A further document, apparently prepared about the same time and again signed by Mr Moody, adds the following comments about strategy:

``Shares and Property are seen to provide longer term growth to meet long-term claims and provide growth in shareholders funds. Long-term fixed interest investment is viewed as too risky to satisfy these requirements.

The allowance of $5 million for investment in shares will be subject to continuing review of economic indicators and the market. Due to the volatility of share markets and the point of the economic cycle we perceive it as necessary to have funds readily available to move at the appropriate time.''

I regard this passage as indicating that the investment manager regarded his task as being to increase the total value of investments held by appropriate purchases and sales, rather than to achieve a high level of dividend income.

In December 1982, the investment committee made a further recommendation, recommending the allocation of $500,000 for trading in mining and oil shares and $5m. for long-term investment in shares. It is unclear whether that recommendation was intended to be additional to the similar recommendation made six months earlier or whether it was merely a repetition.

The last document concerning general strategy to which I refer is a memorandum signed by Mr Moody as to the policy for the six months ended 31 December 1983. On the subject of the sharemarket, Mr Moody commented as follows:

``2. It is considered that excellent long-term investment opportunities in both the Resources and Industrial sectors of the share market shall be available for the period to December, 1983. It is therefore recommended that an allocation of $10 million be made for long-term share investment, subject to a formal review of the existing `model investment portfolio' following receipt in early 1983/84 of an actuarial analysis of QBE's liabilities.

3. For the period under review excellent short-term situation opportunities are expected to become available in both the Resource and Industrial sectors. Accordingly, we recommend an additional $1 million be allocated for trading investment in mining, oil and industrial shares.''

I have said that the documents, in general, throw no light upon the reasons for particular purchases and sales. Two important exceptions to that proposition remain to be discussed.

First, as I have mentioned, in March 1983 the board of QBE Group approved the sale of a number of parcels of shares to the respondent. The shares in question were all in mining and oil companies and it was apparently contemplated that QBE Securities Pty. Ltd. (the vendor) would continue to hold the legal title. The transaction was recommended by one M.J. Regan, described as ``Australian Securities Manager'' in a document part of which reads as follows:

``Over the past six months a reorganisation of the insurance company's long-term share portfolio in QBE Securities Pty. Limited

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ATC 4454

and Equitable Life and General Insurance Co. Limited has been undertaken. That reorganisation has involved both companies selling high yielding industrial stocks with perceived low earnings and dividend growth potential and their replacement with stocks offering the prospect of high earnings and dividend growth over the medium to long term. Purchase of new stocks has been confined to QBE Securities Pty. Limited.

Whilst the majority of stocks acquired during this period have been purchased at yields of 5% or higher, shares in certain oil/gas and metal producers have been purchased on very low or nil yields. These companies are expected to substantially increase earnings during 1983/84 and in each case either reinstate or increase dividend payments. Nevertheless, it is feared that the disposal of high yielding industrial stocks and their part replacement with low yielding resource stocks could be construed by the Commissioner for Taxation as a departure from the investment criteria governing classification of QBE Securities Pty. Limited as an investment company.

It is therefore proposed that in order not to jeopardise the existing tax status of QBE Securities, and thus to ensure protection of capital profits available in that company's long held shareholdings, these low yielding resource stocks be transferred to the significantly smaller portfolio of Equitable Life and General Insurance Co. Limited.''

It appears to me that this memorandum throws light on the issues in a number of ways. First, it suggests that broad investment strategy was, at least by this time, being considered with respect to the group as a whole; there appears to have been available to the group the possibility of moving shares from one member of the group to the other at the behest of the board of QBE Group. As a corollary of that, it may be that if the group as a whole needed to raise funds, it would have been for the QBE Group board to decide whether the funds came from one group member or another. Secondly, and not surprisingly, decisions as to what was bought and sold, and by which company, were influenced by tax considerations. Thirdly (a point related to the second matter just mentioned), it was perhaps thought that the acquisition or holding of shares in companies with ``very low or nil yields'' could be disadvantageous from the tax point of view, as suggesting that the acquirer or holder of the shares was not buying for income, but for gain on disposal.

The second way in which these documents throw light upon the reasons for specific transactions is that they deal with the ultimate sell-out, towards the end of the 1984 year. On 8 March 1984, Messrs O'Halloran and Moody wrote a memorandum for the board of QBE Group, seeking approval of the disposal of the respondent's entire investment portfolio. The purpose was twofold, first to send funds (A$7.9m. was necessary) to the United Kingdom ``representing the shareholder funding requirement on domestication in that country'' and secondly to repay part of a loan owed by ``QBE Insurance'', another company in the group. A number of reasons were given for recommending that the funds be obtained from the respondent. Among them were that the group had two ``investment subsidiaries'' of which the respondent was one, and only one subsidiary was necessary. It was pointed out that the recommendation had been delayed for three reasons, one of which was ``the current state of the Australian sharemarket''. There was then some discussion of what assets would be left in the respondent after the shares were disposed of, a subject further dealt with below.

That recommendation was accepted by the board of QBE Group at a meeting held on 14 March 1984; the minute mentioned the same two purposes for the proposed sales as were set out in the memorandum of Messrs O'Halloran and Moody.

The primary Judge described the decision to sell in 1984 as being one taken ``in order to raise the funds required by QBE UK''. His Honour said that the sales ``represented a closing down of the business previously carried on''. Two qualifications must be made. First, as I have pointed out, there was another purpose, namely repayment of a loan owed by another company in the group. The proceeds of the 1984 sales were about $12.7m., from which it might be thought that about $4.8m. must have been applied towards the repayment of that loan; however, a memo from Mr Moody dated 24 July 1984 said that $6.3m. was so applied. The second qualification is that, whereas the share investment business had

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ATC 4455

ceased (at least for the time being) the respondent still had substantial assets. Of these, the principal items were shown by the 1984 balance sheet to be about $14.6m. ``owing by holding company'' and about $2.9m. being ``shares in subsidiary''. The latter was identified in the board minutes just referred to as being a ``55% interest in QBE Supreme''. The balance sheet also showed that about $105,000 was attributed to the value of a development project which the same minute describes as being a joint venture at Mt Druitt.

I have canvassed these details because the primary Judge's decision as to the 1984 year depended entirely upon the proposition, pressed before us, that assets sold on the closing down of a business do not produce assessable income, even if (as was the primary Judge's view in this case), the same sales would have been assessable if in the ordinary course of business.

Reverting now to the table of transactions set out above, I draw attention, although it may be a little repetitive to do so, to the years when purchases and sales rather above the average level were made. The years of large purchase were 1978, 1983 and 1984, and of those a special explanation (set out above) is available for only one year, namely 1983, when for tax reasons shares were sold within the group. Of the two years of unusually large sales (1981 and 1984), a particular explanation is given only as to the latter.

I will summarise the main points which have emerged:

• 1. The respondent generally bought industrial shares and did so, probably, to augment the chance that any profits earned would be tax-free.
• 2. During the period surveyed, and particularly in the two years immediately in question, the respondent was by no means content to retain its 1977 portfolio; it bought in all over $12m. worth of shares.
• 3. Few of the shares owned at the beginning were held at the end of the period; at the end of 1981 only about a third of the companies which had been in the portfolio four years earlier were still represented.
• 4. The principal purpose of the investment policy was capital gain and not the earning of dividends; capital gains were, of course, realised by sale, the shares ordinarily being held for some years before sale.
• 5. The share portfolio was part of the asset base used to satisfy the Insurance Commissioner with respect to solvency ratio.
• 6. After the share portfolio was sold at the end of 1984, the respondent's assets were substantial, consisting chiefly in shares in a subsidiary company and a large sum due by another company in the group; the respondent was not wound up.

It should be added that as his Honour recorded, the matter was argued before him on the basis of an admission that the respondent was not a ``share trader''. Much discussion took place before us as to the meaning of that concession. I do not believe the concession relieves the Court of the task of considering any point which would otherwise have arisen, except one. The primary Judge took the concession to imply that the respondent was not taxable under the first limb of sec. 26(a) of the Income Tax Assessment Act 1936 , as the provision was at the beginning of the 1983 year, and I will accept that. That interpretation of the concession is consistent with the remarks of Barwick C.J. in London Australia as to the business carried on by the appellant there (at ATC p. 4401; C.L.R. pp. 112-113):

``Quite clearly, it was no part of that business to traffic in shares. Accordingly, no shares were acquired with the purpose of making profit by their resale.''

Accepting, then, that if the profits in question are taxable, that result must flow from the terms of sec. 25 or those of the second limb of sec. 26(a) of the Act, it is desirable to give some consideration to the relationship between those two provisions. Fairly commonly, the two have been considered together, as they were by Taylor and Owen JJ. in
White v. F.C. of T. (1968) 120 C.L.R. 191 at p. 219 . In
F.C. of T. v. Whitfords Beach Pty. Ltd. 82 ATC 4031 at p. 4037; (1982) 150 C.L.R. 355 at p. 366 , Gibbs C.J. pointed out that the second limb of sec. 26(a) appeared to overlap, to some extent, the provisions of sec. 25(1). In that case, his Honour said:

``Not without some doubt I have therefore reached the conclusion that although the provisions of sec. 26(a), if given full effect,

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ATC 4456

would overlap those of sec. 25, the second limb of sec. 26(a) applies only to `profits not attributable to gross income that has already been captured by sec. 25' to use the words of Mason J....''

Mason J. (as his Honour then was) adhered in Whitfords Beach to the view he had previously expressed (ATC p. 4046; C.L.R. pp. 382-383).

I am of the opinion that where sec. 25 does not apply to profits on resale of property, the second limb of sec. 26(a) may do so, on the ground that it may make profits assessable although not earned in the carrying on of a business: Official Receiver in
Bankruptcy v. F.C. of T. (Fox's case) (1956) 96 C.L.R. 370 at p. 387 . A profit-making undertaking or scheme may produce assessable income from an isolated transaction, whether or not the taxpayer is, at that time or later, carrying on a business: cf.
Premier Automatic Ticket Issuers Ltd. v. F.C. of T. (1933) 50 C.L.R. 268 at p. 298 and
Clowes v. F.C. of T. (1953-1954) 91 C.L.R. 209 at p. 231 .

It is convenient to begin by considering liability under sec. 25; only if the respondent falls outside that provision is it necessary to go to sec. 26(a).

One thing which is clear from a number of cases, including London Australia , is that to defend an assessment of tax on profits on the sale of property such as shares, it is not enough for the Commissioner to argue that the taxpayer is in a business and buys and sells shares from time to time. Gibbs J. stated that (at ATC p. 4403; C.L.R. p. 116):

``... if the sale in question is a business operation, carried out in the course of the business of, profit-making, the profit arising on the sale will be of an income character.''

His Honour pointed out that if the taxpayer is a company, it is necessary:

``... to have regard to the nature of the company, the character of the assets realized, the nature of the business carried on by the company and the particular realization which produced the profit...''

Jacobs J. in the same case, dealing with tax under the second limb of sec. 26(a), as well as under sec. 25, said (at ATC p. 4410; C.L.R. p. 128):

``... the determinant is the carrying on of a business, not any associated business in a general sense, but the specific business of acquisition with a purpose or intention or expectation of resale and subsequent resale with consequent profit. Though frequent activity of acquisition and resale does not necessarily signify a business, it is evidence from which it may be inferred that there is a business.''

From what is said in these two sets of reasons one might deduce that a profit on a sale of shares may fall within sec. 25, in the case of a company carrying on business, because the profit is earned in the course of the business or because of its connection with the taxpayer's business. Barwick C.J., who dissented in that case, expressed the view that whether a profit received by a taxpayer is income (at ATC p. 4401; C.L.R. p. 112):

``... must depend on the essential nature of his business and the relationship of the gain to that business and its conduct.''

I refer, also, to the discussion in
F.C. of T. v. Myer Emporium Ltd. 87 ATC 4363 at pp. 4368-4369; (1987) 163 C.L.R. 199 at p. 213 .

The connection between the profit and the business necessary to make the former assessable is variously described: see
Colonial Mutual Life Assurance Society Ltd. v. F.C. of T. (1946) 73 C.L.R. 604 at p. 620 (``normal step in carrying on the insurance business''),
Australasian Catholic Assurance Co. Ltd. v. F.C. of T. (1959) 100 C.L.R. 502 at p. 506 (``in the ordinary course of the taxpayer's business''). Descriptions of what is not a sufficient connection are not so easy to find, but one is in White's case where Taylor and Owen JJ. implied that if a sale is ``only a subsidiary activity in the development of'' the taxpayer's property sec. 25 will not apply: ( supra ) at p. 223; see also,
Western Gold Mines N.L. v. Commr of Taxation (W.A.) (1938) 59 C.L.R. 729 at p. 741 : ``... single transaction forming no part of any actual or intended system or organized business''.

In London Australia the essential problem for the respondent Commissioner was that it was accepted that the purpose of the taxpayer was to earn dividend income. Barwick C.J. remarked (at ATC p. 4400; C.L.R. p. 111):

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``I might here interpolate that his Honour [the trial Judge] had accepted as fact that the appellant's interest in growth potential was an interest in increase in dividend and not in an increase in market value.''

Gibbs J. said of the taxpayer's activities there (at ATC p. 4402; C.L.R. p. 115):

``It bought shares to hold as an investment to yield dividends, but it foresaw that it was likely that the shares would increase in market value, and of course hoped that this would occur.''

Despite these facts, the Court regarded the sales of the shares as part of the carrying on of the business (at ATC p. 4404; C.L.R. p. 117). That was so, it appears, because:

``The taxpayer systematically sold its shares at a profit for the purpose of increasing the dividend yield of its investments.''

It appears to me that the circumstances of this case, so considered, point more strongly towards assessability than did those in London Australia . In my view it was not dividend income, but gain from increases in value, which was the respondent's purpose. The strategy was to preserve capital, and if possible achieve capital profits. The former objective (preserving capital) could no doubt have been achieved without making sales, but that was not what was done; sales were made when it was thought that accrued increases in value might be vulnerable. As to the second objective, capital gains can of course be realised only by sales.

I should add that it does not appear to me that London Australia is authority for the view that if a portfolio is managed on the basis of preserving, and if possible enhancing, capital value rather than to achieve dividend income, profits are necessarily taxable under sec. 25. The question is, in the end, one of degree, as may be deduced from the close attention Jacobs J. paid to the volume and frequency of transactions in that case. The issue must be considered against the background that throughout the relevant period the currency was losing value at a substantial rate, a matter which was regarded as relevant in
Steinberg v. F.C. of T. 75 ATC 4221 at p. 4227; (1972-1975) 134 C.L.R. 640 at p. 686 .

One point which was pressed, on behalf of the respondent, was that the share transactions in the London Australia case were much more frequent than in the present case. Counsel referred to the report of the London Australia case at first instance (74 ATC 4213; (1974) 4 A.L.R. 44) and pointed to the fact that in the first of the three years in question there (1967), shares in 33 different companies were sold and in the two subsequent years shares in 37 and 18 companies respectively were sold; those figures exclude sales of rights. In the first of those years, investments were held in 116 companies; in the second, in 96 companies; and in the third in 91 companies. Comparable figures applicable to the present case were not placed before us. Of the seven years included in the schedule above, that in which the least percentage by value of shares was sold was 1983, and that in which the most was sold was 1984. In the latter year, of course, shares in a very large number of companies were sold. In the former year, shares or rights in only nine companies were sold. The year of greatest sales, other than the 1984 year, was the 1981 year in which shares or rights in 22 companies were sold.

I therefore accept that sales were substantially more numerous in the London Australia case than in the present case. The comparison has significance, although it has to be said that, at least after the large sales made in the 1981 year, the total amount of investment in the present case appears to have been lower than it was in London Australia .

Other comparisons may be made which are not quite so favourable to the respondent here. In the three years in question in London Australia , average annual purchases were a little under $1.5m. In the two years immediately in issue here, annual purchases were much higher (about $3.5m.) and over the whole seven years they averaged about $1.8m. Again, the comparison on the sales side does not particularly favour the respondent in this case: annual sales averaged about $1.7m. in the London Australia case whereas (ignoring the final year) they averaged $2.4m. in the present case. It appears that the value of shares sold and purchased, relative to the total value held, appears to have been higher on the average in the present case than in London Australia , but there purchases and sales were more frequent. The explanation is, perhaps, that in London Australia an attempt was made to limit the holding in each company to about 5% of the

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total investment, whereas here nothing of the sort seems to have occurred; for example, in the final year, over $1.8m. worth of shares in ANZ Banking Group was sold and about $1.3m. worth of shares in W.M.C. Holdings Ltd. However, the question whether transactions fall within sec. 25 does not depend merely upon the frequency of the transactions and what proportion the amounts purchased and sold bear to the total value of the portfolio. It is necessary to make ``both a wide survey and an exact scrutiny of the taxpayer's activities'': London Australia at ATC p. 4403; C.L.R. p. 116.

One circumstance that was relied on by the appellant was that the portfolio constituted part of a reserve fund available to the holding company. That was a matter which the primary Judge declined to take into account in favour of the Commissioner. His Honour remarked:

``In the present case the relevant assets were not owned by a company which was both the relevant taxpayer and an operating insurance company. They were owned by a taxpayer which, during relevant years, did not carry on the business of insurance and whose only connection with insurance was being the subsidiary of an operating insurance company. There is no evidence to suggest that the insurance company ever treated its interests in the applicant as a reserve to meet policy-holders' claims. Even if there were such evidence, this would be relevant to the insurance company's tax position, rather than to that of the applicant.''

It would seem to follow that if a bank (see
Punjab Co-operative Bank Ltd., Amritsar v. Commr of Income Tax, Lahore (1940) A.C. 1055 ) or an insurance company (see Australian Catholic Assurance Co. Ltd. v. F.C. of T. (supra) and the cases discussed therein) conducts no investment activity itself but relies upon such activity conducted by an associated company (which it would presumably fund) the banking and insurance cases have no relevance to the assessability of its income from switching investments. The principle applied in those cases, as exemplified by Punjab Co-operative Bank (at p. 1,072), is as follows:

``But the banker has always to keep enough cash or easily realizable securities to meet any probable demand by the depositors... If, as in the present case, some of the securities of the bank are realized in order to meet withdrawals by depositors, it seems to their Lordships to be quite clear that this is a normal step in carrying on the banking business...''

I do not find it necessary to determine whether the line of authority to which I have just referred can apply directly to a company which forms part of an insurance group, but does not itself carry on insurance business. It is enough to note that, as pointed out above, the investment strategy was to keep up and if possible augment the value of the portfolio by appropriate purchases and sales. One reason for doing so, expressed in the document prepared in 1982 which I have quoted above, was to ``provide longer term growth to meet longer term claims and provide growth in shareholders' funds''. What was being done necessarily involved switching investments from time to time.

That circumstance is not conclusive, as is suggested by the decision in
Charles v. F.C. of T. (1953-1954) 90 C.L.R. 598 . One view is that the essence of that decision (see London Australia at ATC p. 4404; C.L.R. p. 118) is the proposition that the moneys in question arose -

``... from transactions effected in the course of performing a fiduciary duty to preserve for beneficiaries as far as practicable the assets comprising the trust fund and any increments in the value of those assets which might appear from time to time to be in jeopardy.''

There, although dealings in securities by trustees were ``considerable... occurred frequently and produced substantial profits'' ( Charles' case at p. 609), the profits were not taxable. Of course, company directors are also subject to some fiduciary obligations: Principles of Company Law , H.A.J. Ford, 5th ed. pp. 446-458. It is not at first sight easy to follow why investment activities conducted by trustees under a unit trust (as in Charles' case ) should, as regards the assessability of profits, be in a different position from identical activities conducted by such a taxpayer as the respondent. It may be that Charles' case should be regarded as giving some support to the view that, whether the holder of a portfolio is a

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trustee or not, even frequent switching between investments does not necessarily make profits assessable.

The difficulty in the present case is to determine on which side of the line the facts fall. The primary Judge regarded the respondent's sales as having been ``... a normal operation in the course of carrying on the business of investing for profit''. It is for the respondent, as cross-appellant, to displace that conclusion. More importantly, it was for the respondent, as the applicant taxpayer before the primary Judge, to adduce such evidence as to justify his Honour's setting the 1983 assessment aside: sec. 190(b) of the Act,
F.C. of T. v. Dalco 90 ATC 4088 ; (1990) 64 A.L.J.R. 166 . Here, as I have pointed out, no evidence was called from a witness able to explain the reasons for the purchases and sales. Those reasons are to some extent deducible from the documents tendered, but there are substantially unexplained shifts in investment behaviour; I do not have any precise knowledge of the reason why the portfolio was significantly added to, for example, in 1984, nor why the majority of the portfolio was disposed of in 1981. Where, as here, the volume and frequency of transactions are such that the profits may be assessable, it is particularly difficult for a taxpayer to show that they are not, in the absence of satisfactory proof of the purposes and circumstances accompanying the transactions in issue. Although I have reached a view of the facts which differs in some respects from that held by the primary Judge, I have not been able to become convinced that his Honour's ultimate conclusion with respect to the 1983 year was wrong; indeed, I agree with it.

It follows that the respondent fails with respect to the 1983 year. The decision with respect to the 1984 year must be the same, unless the result there is capable of being distinguished on the basis found by the primary Judge, namely that the 1984 sales ``represented a closing down of the business previously carried on''. To that point I now turn.

The primary Judge said (at p. 4982):

``The applicant made a decision in early 1984 to sell the whole of its share portfolio in order to raise the funds required by QBE UK. It carried out that decision, even to the point of selling at a substantial loss the mining shares which it had acquired during the previous year. The 1984 sales represented a closing down of the business previously carried on. Such profits as were realised were capital profits obtained upon the disposal of the business, not profits realised in the course of carrying it on.''

I have commented above upon the qualifications of these findings which appear to be necessary, namely that the funds obtained from the sale went towards repayment of a substantial loan, as well as the purpose mentioned by the primary Judge, and secondly, that the respondent was left after the sale with substantial assets, including a $2.9m. investment in a subsidiary and a small investment in a development project. Nevertheless, I accept that, treating investment in listed companies as a separate business, that was wholly discontinued.

In
C. of T. (W.A.) v. Newman (1921) 29 C.L.R. 484 , a grazier sold his property as a going concern. There was no apportionment of the livestock, but the Commissioner made an apportionment, admitted to be correct, and imposed tax on that basis. The High Court held that the assessment could not stand because the sale of the property was entered into ``not in the course of carrying on the business or for the purpose of carrying on the business, but for the purpose of putting an end to the business'' (per Knox C.J. at p. 489).

It is possible that Newman's case depended partly upon the particular statutory wording being considered; the question was whether the money in question was income ``arising or accruing to any person wheresoever residing, from any profession, trade, employment, or vocation carried on in Western Australia''. Higgins J. said that the profit ``made, if any, was not made in carrying on that business, but in parting with it'' (at p. 489). Starke J. said that the ``final transaction... was not a carrying on or a carrying out of his business, and the profit therefore was not derived from and did not accrue from any trade or business carried on...''. It does not appear that the Court intended to hold, as a general proposition, that money deriving from the sale of goods on a closing down of a business is not income.

A few months later, the House of Lords had to consider a similar case (
J. & R. O'Kane & Co. v. I.R. Commrs (1919-1922) 12 T.C. 303 at

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p. 346 ). There the question was whether wine and spirit merchants, who sold their stock in the course of retiring from business, had to pay income tax and excess profits tax. The House of Lords, reversing the Court below, said they did, apparently on the ground that the sales were made gradually and not all at once. It is not easy to understand how this distinction is to be reflected in the books. At the beginning of the year in which the business ceases, there will be stock in the books at a certain value and to that will be added purchases made during the year. To derive the profit, one would ordinarily take those figures away from the amount realised on sales. But if the sales take place all at once, then on the principle being discussed, there would have to be a substantial loss entered in the profit and loss account for the year, even if, in fact, a profit was derived.

The principle in Newman's case was applied again in
Hickman v. F.C. of T. (1922) 31 C.L.R. 232 , where the facts were similar except that the vendor and purchaser agreed on an apportionment. In a third case in this line, F.C. of T. v. Ryan (1926) 38 C.L.R. 472, the same rule was applied.

Professor Parsons, ``Income Tax Law in Australia'', suggests (at p. 721) that Newman's case should not be followed. The difficulty is to determine precisely what proposition the three grazing property cases stand for. In
Joshua Brothers Pty. Ltd. v. F.C. of T. (1923) 31 C.L.R. 490 , the stock of a manufacturing company was sold in the course of a winding up and the proceeds were held to be income. Higgins J. expressed surprise (at p. 500) that Newman's case was relied on. Isaacs J. emphasised that the sales took place over a period of six months (at p. 498).

In the present case, there is no finding as to the period of time during which those sales made in the 1984 year were effected. There is a board memorandum dated 8 March 1984 seeking approval of the disposal of the entire portfolio and one of 25 July 1984 advising the board that it had been disposed of ``in terms of the board resolution of 14 March 1984''. Further, Mr O'Halloran said the final sales took place in April, May and June 1984, although it is unclear whether his knowledge of the matter is complete.

I am of the opinion that the learned primary Judge fell into error in treating the line of authority of which Newman's case is an example, as governing these circumstances. The respondent did not go into liquidation, as did the taxpayer in Joshua's case , but remained in business of some sort. It continued to hold assets, including a substantial parcel of shares. Those shares which were sold were not suggested to have been sold in other than the normal way, except that the sales were accelerated; the sales took place on market, over a substantial period of time. I think that the proper course is to confine Newman's case to its own facts and not to extend it so as to make it authority for a general principle that sales of property effected by the means which would ordinarily be used in carrying on a business cannot produce income if such sales were made with a view to abandoning the business.

Some mention was made during the argument of the provisions of sec. 36 of the Income Tax Assessment Act , which specifically catches sales of trading stock other than in the ordinary course of business. It appears to have been assumed that this provision cannot affect the present case. I refer to the definition of ``trading stock'' in sec. 6(1) and to
Investment & Merchant Finance Corporation Ltd. v. F.C. of T. 71 ATC 4140 ; (1971) 125 C.L.R. 249 , but do not find it necessary to discuss the correctness of that assumption.

In my opinion, the appeal should be allowed and the cross-appeal dismissed. The orders made by the primary Judge should be set aside and it should be ordered that both applications be dismissed. The respondent should pay the costs of the proceedings here and below.