Heerey J

Federal Court of Australia

Judgment date: Judgment handed down 30 March 1994

Heerey J

The applicant Louis Raymond Paykel was the Managing Director of a company Paykel Bros (Australia) Pty Ltd (``Paykel Bros'') and its wholly owned

ATC 4177

subsidiary Paykel Oils & Chemicals (Aust) Pty Ltd (``Paykel Oils & Chemicals''). Mr Paykel and his family owned most of the shares in Paykel Bros. On 1 February 1989 Efhco Inc, a United States corporation, agreed to buy all the shares in Paykel Bros. On the same date Mr Paykel entered into an agreement by which he agreed to retire as a director and employee of both companies on 30 June 1989 and covenanted that he would not divulge any of the companies' confidential information and that for a period of five years thereafter he would not carry on any business in Australia and South East Asia which competed with any business carried on by the companies. In consideration of those restraints the companies agreed to pay to Mr Paykel his heirs and assigns the sum of $400,000 on 1 September 1989. That sum was in fact paid on the due date.

The present appeal raises the question whether the payment is caught by s. 160M(7) of the Income Tax Assessment Act 1936 (Cth) (``the Act''). Resolution of this issue will require an examination of the decision of the High Court in
Hepples v FC of T 91 ATC 4808; (1991-1992) 173 CLR 492.

If the payment falls outside s. 160M(7), Mr Paykel says it was a payment of a capital nature and therefore not an ``eligible termination payment'' for the purposes of Part III Division 2 Subdivision AA: see s. 27A(1) and par. (m) of the definition of that term. The Commissioner contends that if s. 160M(7) does not apply, the payment was income according to ordinary usages and concepts and therefore within Subdivision AA. It is not suggested the sum is assessable under s. 25(1).

A question also arises whether the payment, if assessable, is assessable in the 1990 or 1989 tax year.

The Paykel business

Paykel Bros through its subsidiary Paykel Oils & Chemicals started in the business of importing industrial oil and chemical products in 1924 under licence from EF Houghton and Co of the United States. Primarily these were products used in the heat treatment of steel, textile processing applications (spinning, knitting, combing, cleaning), rust prevention to steel surfaces, and machining of metal (both ferrous and non ferrous) including drilling, reaming, honing, milling etc.

In the early 1930's Paykel Bros began blending some of these products from locally sourced ingredients to the formulae of EF Houghton. Progressively towards the early 1940's Paykel Bros, by employing or consulting industrial chemists, developed itself to the point of becoming a manufacturer, rather than a simple blender, of these (many dozens) of products. By the mid to late 1940's Paykel Bros was making additives and other raw materials by reactionary process, that is to say it was making to formula each finished product (cutting oils, lubricants, hydraulic fluids, rust preventives, quenchants, heat treatment salts, drawing oils and pastes, paper processing chemicals, textile lubricants (for yarn), detergents, surfactants, caustic and alkaline cleaning compounds, solvent based crack detector fluids, blackening compounds, antistatic agents, dust settling fluids, solvent based cleaners, fire resistant hydraulic fluids, heat transfer mediums). Although these were made to Houghton formulae, they required Paykel's local Australian knowledge to perfect. Production of these oils and chemicals was, and still is, not a matter of simply using an American formula, as, due to local conditions, many ingredients are chemically unstable. Consequently Paykel Bros had to modify ingredients or formulae by chemical processes, learned and developed over the years, to complete the formulated product.

More than 90 per cent of sales and profit of the business came from products manufactured in Australia. All of the products thus manufactured were sold in containers which had the Houghton name of the product stencilled on them together with the name ``Paykel Oils & Chemicals'' more prominently displayed. Similarly all advertising and promotional material referred to the Houghton name of the product and, more prominently, to the name ``Paykel Oils & Chemicals''. The containers also carried an acknowledgment (where applicable) that they were manufactured under licence.

Sales revenue of the group for the year ended 30 June 1988 was a little over $7 million resulting in an operating profit before tax of $281,511.

The business was started by Mr Paykel's uncle in 1924. Mr Paykel's father joined the business in the mid 1930's. Mr Paykel himself started work with the companies in 1954. He

ATC 4178

became a director in 1960 and managing director in 1972. He retired on 30 June 1989 at the age of 52.

On 21 November 1980 Mr Paykel entered into a service agreement with Paykel Bros which provided that his date of retirement should be his 65th birthday or such earlier date as the company might approve in writing, such approval not to be withheld where Mr Paykel was at least 60, had completed not less than 20 years of service and given at least three months notice of his intention to retire. The agreement also provided for payment to Mr Paykel or his designated dependant of a yearly amount of $20,000 for a period of 10 years from the date of his retirement.

Over the many years Mr Paykel worked in the business he acquired and developed a great deal of technical knowledge about the manufacturing of oils and chemicals and every formula required for different applications. He knew virtually all of the customers of the business.

Mr Paykel deposed in his affidavit that

``the goodwill of Paykel Bros and Paykel Oils & Chemicals was very largely attributable to the Paykel name which had an excellent reputation in the market place.''

Sale of shares

Between September 1988 and February 1989 Mr Paykel negotiated the sale of all of the issued shares in Paykel Bros to the Houghton Group. Mr Paykel and his immediate family held 41 per cent of the shares. The remainder of the shares were held by other relatives as to 17 per cent and former and existing employees as to 8 per cent. The Paykel Trust, established for employees of the company, held the balance.

A sale of shares agreement dated 1 February 1989 provided for the purchase by Efhco Inc (a company associated with the Houghton Group) of all the shares in Paykel Bros at a price of $27 per share. By cl. 10 of the sale agreement it was provided that the agreement was ``subject to and conditional upon an agreement collateral to this agreement for the retirement of Mr LR Paykel as a director and employee of [Paykel Bros] and [Paykel Oils & Chemicals] on 30 June being entered into between Mr LR Paykel and [Paykel Bros] and [Paykel Oils & Chemicals]''.

The retirement and restraint agreement

Also on 1 February 1989 Mr Paykel entered into an agreement with Paykel Bros and Paykel Oils & Chemicals. That agreement recited as follows:

``A. The director [Mr Paykel] is and has been for many years a director and employee of PAYKEL BROS. (AUSTRALIA) PTY LTD and its wholly owned subsidiary PAYKEL OILS & CHEMICALS (AUST.) PTY LTD but proposes to retire from these positions on 30 June, 1989.

B. The companies wish to ensure that the director does not compete with the business carried on by the companies after his retirement.

C. The director and the companies have agreed that the director shall, following his retirement as a director and employee of the companies enter into certain restrictive covenants upon the terms and conditions contained in this agreement.

D. EFHCO INC. of Suite 789, 1100 North Market Street, Wilmington, Delaware in the United States of America has purchased all of the issued shares in PAYKEL BROS. (AUSTRALIA) PTY LTD pursuant to a share sale agreement collateral to this agreement made on the date set out in the Schedule (`acquisition date').''

The clauses of the agreement relevant for present purposes were as follows:

``1. THE director shall retire as a director and employee of the companies on 30th June 1989 and shall be paid on that date the superannuation and benefits set out in the Schedule (`retirement benefits').

2. DURING the period from the acquisition date to the retirement date the director shall be retained by the companies in his present employments at his present level of remuneration and other benefits.


4. THE companies shall pay to the director, his heirs or assigns on the date set out in the schedule the sum set out in the schedule in consideration of the restraints contained in this agreement (`restraint payment').

5. THE director undertakes that he shall not for a period of five years commencing on 1st

ATC 4179

July, 1989 either alone, jointly with or as an agent of any person, firm, corporation or association, whether directly or indirectly:
  • (a) carry on;
  • (b) be interested in as a director, proprietor, partner, shareholder, financier, adviser or consultant;
  • (c) be engaged in;
  • (d) be employed in;
  • (e) grant financial assistance or loan money to;

any business in Australia and South East Asia which competes with any business carried on by the companies. However, the director shall not have breached any of these undertakings by reason of holding not more than five per cent of the issued share capital of any company whose shares are listed on any recognised stock exchange.

6. DURING the term of this agreement the director shall not divulge any information concerning the business transactions, trade secrets, operations, dealings, finances or affairs of the companies or clients of the companies and shall not use or attempt to use any such information in any manner which may injure or cause loss either directly or indirectly to the companies or their business or to the clients of the companies.

7. THE restraint referred to in paragraph 7 [sic] shall continue to apply to the director after the expiry or termination of this agreement without limit in point of time, but shall cease to apply to information which comes into the public domain.

8. THE director shall not for a period of five years commencing on 1st July, 1989 either on his own account or for any person, firm or company, solicit, or endeavour to entice away from the companies, the custom of any firm, person or corporation who or which were, at any time during the period of one year immediately preceding the termination of the director's employment with the companies, in the habit of dealing with the companies or any corporation which is related to the companies within the meaning of the Companies (Vic.) Code.


15. THIS agreement shall be binding upon and enure to the benefit of the companies, their successors and assigns and upon the director and his legal personal representatives.




Restraint payment

Four hundred thousand dollars ($400,000) payable on the 1st day of September 1989.''

Mr Paykel in fact retired on 30 June 1989 and since then he has not provided any consultancy services to either of the companies and has not worked for them in any way. He received the payment of $400,000 on 1 September 1989.

Assessment and appeal

By assessment dated 24 April 1991 the payment of $400,000 was assessed as part of Mr Paykel's assessable income for the year ended 30 June 1990. On 31 August 1992 an objection by Mr Paykel was disallowed in full. An appeal to this Court was filed on 23 September 1992.

The legislation

At the relevant time s. 160ZO(1) of the Act provided

``Where a net capital gain accrued to a taxpayer in respect of the year of income the assessable income of the taxpayer of the year of income, includes that net capital gain.''

Part IIIA of the Act provides a legislative scheme for the assessment of capital gains in terms described as ``a legislative jungle'' (Hepples at ATC 4818; CLR 511 per Deane J) and ``unduly labyrinthine'' (ibid at ATC 4824; CLR 521 per Toohey J). It is sufficient to note that for the purposes of that scheme s. 160M defines the circumstances which constitute the disposal or acquisition of an asset.

Section 160M(1) and (2) provide:

``160M(1) Subject to this Part, where a change has occurred in the ownership of an asset, the change shall be deemed, for the purposes of this Part, to have effected a disposal of the asset by the person who owned it immediately before the change and

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an acquisition of the asset by the person who owned it immediately after the change.


160M(2) A reference in subsection (1) to a change in the ownership of an asset is a reference to a change that has occurred in any way, including any of the following ways:

  • (a) by the execution of an instrument;
  • (b) by the entering into of a transaction;
  • (c) by the transmission of the asset by operation of law;
  • (d) by the delivery of the asset;
  • (e) by the doing of any other act or thing;
  • (f) by the occurrence of any event.''

The present case is concerned with sub- section (7) which provides

``(7) Without limiting the generality of subsection (2) but subject to the other provisions of this Part, where-

  • (a) an act or transaction has taken place in relation to an asset or an event affecting an asset has occurred; and
  • (b) a person has received, or is entitled to receive, an amount of money or other consideration by reason of the act, transaction or event (whether or not any asset was or will be acquired by the person paying the money or giving the other consideration) including, but not limited to, an amount of money or other consideration-
    • (i) in the case of an asset being a right - in return for forfeiture or surrender of the right or for refraining from exercising the right; or
    • (ii) for use or exploitation of the asset,

the act, transaction or event constitutes a disposal by the person who received, or is entitled to receive, the money or other consideration of an asset created by the disposal and, for the purposes of the application of this Part in relation to that disposal-

  • (c) the money or other consideration constitutes the consideration in respect of the disposal; and
  • (d) the person shall be deemed not to have paid or given any consideration, or incurred any costs or expenditure, referred to in paragraph 160ZH(1)(a), (b), (c) or (d), (2)(a), (b), (c) or (d) or (3)(a), (b), (c) or (d) in respect of the asset.''

I now turn to the High Court authority already mentioned.

Hepples v Federal Commissioner of Taxation

About the beginning of September 1985 Mr Hepples commenced employment with Hunter Douglas Limited as Marketing Director/General Manager of the Window Furnishing Division of that company. At that time he entered into a written employment agreement which included covenants against the divulging or utilising or turning to his own account special processes or trade secrets. He also covenanted that upon the termination of his employment and for a certain period (the length of the period was not disclosed in the Special Case stated by the Administrative Appeals Tribunal) he would not engage in any business or competition with his employer in Australia. There were also covenants against canvassing or soliciting customers of his employer.

On 27 June 1986 Mr Hepples and Hunter Douglas entered into a deed which provided that in consideration of the then payment of $40,000 Mr Hepples covenanted that for a period of two years immediately following the moment of the termination of his employment by Hunter Douglas he would continue to be bound by the clauses of the employment agreement already mentioned.

The Full Court of the Federal Court held unanimously that s. 160M(5)(c) and (6) did not apply but (by a majority) that the payment fell within s. 160M(7):
Hepples v FC of T 90 ATC 4497; (1990) 22 FCR 1.

On appeal to the High Court, a majority (Mason CJ, Deane, Toohey and McHugh JJ) held that the payment was not caught by s. 160M(5)(c) or s. 160M(6). Brennan, Dawson and Gaudron JJ dissented on that issue. For varying reasons Mason CJ, Brennan, Deane and McHugh JJ held that s. 160M(7) did not apply. Dawson, Toohey and Gaudron JJ held that s. 160M(6) and s. 160M(7) were mutually exclusive but if s. 160M(6) did not apply then s. 160M(7) did.

Section 160M(5)(c) and (6) were not argued in the present case. The various issues which arose in Hepples in relation to s. 160M(7) are summarised in the following table.

                       Yes                   No              No opinion

1. Must the asset      Mason CJ (ATC 4810;
referred to in s.      CLR 498)
160M(7)(a) be an
existing asset?        Brennan J (ATC 4816;
                       CLR 508)
                       Deane J (ATC
                       4821-4822; CLR 513,
                       McHugh J (ATC 4836;
                       CLR 541)

2. Must that asset be  Deane J (ATC          Dawson J (ATC  Mason CJ (ATC
   an asset of the     4819-4820;            4824; CLR 520) 4810; CLR 498)
   taxpayer?           4821-4822; CLR 513,   Toohey J (ATC  Brennan J (ATC
                       516-7)                4825; CLR 522) 4817; CLR 508)
                                             Gaudron J (ATC
                                             4828; CLR 528)
                                             McHugh J (ATC
                                             4833-4836; CLR

3. Was Hepples' deed   Dawson J (ATC 4823;   Mason CJ (ATC
   "an act or trans-   CLR 519)              4810; CLR 498)
   action in relation  Toohey J (ATC 4826;   Brennan J (ATC
   to an asset" or     CLR 523-4)            4817; CLR 508)
   "an event affect-   Gaudron J) ATC 4828;  McHugh J (ATC
   ing that asset"?    CLR 528)              4838; CLR 544)

4. Did the fact that   McHugh J (ATC         Dawson J (ATC
   covenant could      4837-4838; CLR        4823-4824; CLR
   only be enforced    543-4)                520) Toohey J
   in the future                             (ATC 4826;
   prevent the appli-                        CLR 524)
   cation of                                 Gaudron J (ATC
   s. 160M(7) because                        4828; CLR 528)
   there was nothing
   done in reation
   to an existing

Since much of the Commissioner's argument before me concerning Hepples was based on what was said by McHugh J on the last mentioned point, it is necessary to set out the following passage from his Honour's judgment (at ATC 4837-4838; CLR 543-544):

``It does not follow, however, that, where money is received in consideration for an act or transaction which enhances the value of the goodwill of a business, `an act or transaction has taken place in relation to an asset or an event affecting an asset has occurred' for the purposes of s. 160M(7). Money spent on research or training staff or improving the service of a business may enhance the value of a business and, therefore, its goodwill. But it seems absurd to think that the legislature intended s. 160M(7) to bring the receipt of such money to account as a capital gain. Such acts or transactions are outside the scope of s. 160M(7) because they merely add to the existing sources of earnings which constitute the goodwill of the business in the same way that the purchase of a new machine adds to the value of, but does not relate to or affect or change those pieces of existing machinery which constitute, the plant of a business. Likewise, a covenant by an employee of a business not to compete with the business on the termination of his or her employment is not an act or transaction which has taken

ATC 4182

place in relation to an asset of the business or an event which affects an asset of the business within the meaning of s. 160M(7). At least one thing is clear about that sub- section: it does not apply unless either an act or transaction has taken place in relation to an existing asset or an event has occurred which affects an existing asset. A covenant by an employee not to compete with the business on the future termination of his or her employment does not relate to or affect any existing source of the earnings of that business.

In the present case the relevant asset relied on for the purpose of s. 160M(7) is the goodwill of Hunter Douglas. That means that company's goodwill which existed as at 27 June 1986 when the appellant entered into the Deed, that is to say, those sources of earnings which formed the goodwill of the business as at that date. The covenant of the appellant, however, was not directed to those sources. It was directed to the protection of whatever sources of earnings constitute the goodwill of Hunter Douglas as at the future termination of his employment and for a period of two years thereafter. There may be no goodwill when his employment terminates; or, if there is, the sources of earnings which constitute the goodwill may be very different from those which existed as at 27 June 1986. When the employment of the appellant terminates, for example, Hunter Douglas may have different product lines or different customers or different locations. The promise of the appellant contained in the Deed of 27 June 1986, therefore, was not an act or transaction which took place in relation to the sources of earnings which constituted the goodwill of Hunter Douglas as at that date. Nor was the promise of the appellant or the entry into the Deed an event which affected those sources. The promise of the appellant became, of course, part of the goodwill of Hunter Douglas. But that means no more than that it became another addition to the various sources which collectively constituted the goodwill of Hunter Douglas as at 27 June 1986. The vital point is that it did nothing with respect to or in relation to the then existing sources of goodwill. And it is those sources and not the descriptive name goodwill which are the form of property which constitute the `asset' or `assets' of the business.''

The application of Hepples

The High Court heard further argument as to the order which should be made in the light of the differing judgments of members of the Court. The question posed by the Court was (at 92 ATC 4013 at 4014; CLR 550):

``What order should this Court make when a majority would dismiss the appeal but for discrepant reasons and each of those reasons is rejected by a majority differently constituted?''

Particular problems arose because the proceeding was by way of case stated. The Court pointed out (at ATC 4014; CLR 551) that an appeal from a final judgment

``... has traditionally been determined according to the opinion of the majority as to the order which gives effect to the legal rights of the parties irrespective of the steps by which each of the Justices in the majority reaches the conclusion...''

But what is the precedential effect on subsequent courts bound by the decision? A statement of high authority is to be found in the speech of Viscount Dunedin in
Great Western Railway Company v Owners of SS Mostyn [1928] AC 57 at 73, a case decided at a time when the House of Lords considered itself bound by its own decisions. His Lordship was discussing how the earlier decision of the House of Lords in
River Wear Commissioners v Adamson (1877) 2 App Cas 743 had been dealt with by the Court of Appeal. His Lordship said:

``Now, when any tribunal is bound by the judgment of another Court, either superior or co-ordinate, it is, of course, bound by the judgment itself. And if from the opinions delivered it is clear - as is the case in most instances - what the ratio decidendi was which led to the judgment, then that ratio decidendi is also binding. But if it is not clear, then I do not think it is part of the tribunal's duty to spell out with great difficulty a ratio decidendi in order to be bound by it. That is what the Court of Appeal has done here. With great hesitation they have added the opinion of Lord Hatherley to that of Lord Cairns and then, with still greater difficulty, that of Lord Blackburn, and so have secured what they think was a majority in favour of Lord

ATC 4183

Cairns's very clear view. I do not think that the respect which they hold and have expressed for the judgments of your Lordships' House compelled them to go through this difficult and most unsatisfactory performance. As I have said, our own position is just the same as theirs, and I say unhesitatingly that I agree with Lord Herschell that you cannot extract from the judgments in Wear v Adamson such a ratio decidendi as is binding. That, however, is far from wiping Wear v Adamson off the slate. It remains for two purposes. First, for the judgment itself and, second, for the opinions of the noble Lords, which are entitled to the greatest respect. Now, the judgment is binding. What, therefore, I think is our duty on this occasion is to consider the statute for ourselves in the light of the opinions, diverging as they are, and to give an interpretation; but that interpretation must necessarily be one which would not, if it was applied to the facts of Wear v Adamson lead to a different result.''

That passage was cited with approval by Barwick CJ in
Victoria v Commonwealth (1970-1971) 122 CLR 353 at 382 and by Mason CJ, Wilson, Dawson and Toohey JJ in
Federation Insurance Ltd v Wasson & Ors (1987) 163 CLR 303 at 314.

The argument of the Commissioner was in my respectful opinion based on a fallacy of the kind exposed by Viscount Dunedin. The point as to future goodwill persuaded McHugh J to the same ultimate conclusion as Mason CJ, Brennan and Deane JJ. But that did not, as the Commissioner's argument assumed, make the point part of the ratio decidendi of the case. It is not permissible to add the future goodwill point to the reasoning of the other three justices and treat the resulting combination as the ratio decidendi.

The first question therefore is whether the present case is distinguishable from Hepples, an exercise which involves comparison of the legally essential facts of that case with those of the present one: see (1977) 93 LQR 378, (1989) 2 Bond Law Review 36.

In my opinion Hepples stands for the proposition that a payment by an employer to an employee in consideration of the employee's covenant not to compete after the termination of his or her employment is not within s. 160M(7). That is ``the judgment itself'', to use the expression of Viscount Dunedin. The present case is on all fours with that judgment.

Counsel for the Commissioner sought to distinguish Hepples on a number of grounds. First, it was argued that in the present case the restraint was inseparably bound up with the sale of shares. There is no doubt that such was in fact the case. The sale of shares agreement was expressly made conditional on the entry by Mr Paykel into the retirement and restraint agreement. It is also clear that no such element was present in Hepples. However I think the difference is not material. In the present case the Commissioner accepts that the transactions were genuine and at arm's length. That being so I conclude that $27 per share was a reasonable price for the shares themselves without any restraint on Mr Paykel and that it was worth $400,000 to the purchaser to obtain the additional benefit of the restraint. The restraint agreement was a distinct transaction in its own right, even though it was linked with another transaction, and as such it has to be treated in accordance with the judgment in Hepples.

Secondly, it was argued that the time the restraint was entered into distinguishes the cases; in Hepples the restraint was entered into at the outset of the employment. As a matter of fact that is not the case. Some ten months passed between the time Mr Hepples started employment and the date of the covenant. There was no suggestion that the covenant made in June 1986 simply recorded an earlier informal agreement to the same effect entered into at the time of the commencement of employment. In any case, none of the judgments in the High Court appear to suggest that coincidence of the restraint with the commencement of the employment would be of any significance. Conceivably such a fact (if it be a fact) might be relevant if there were an argument that payment was really income according to ordinary usages and concepts, but that issue was not raised in Hepples.

Thirdly, it was said that Hepples only applied where the restraint affected goodwill as it existed at some time in the future, whereas the present case provided for the protection of existing goodwill. It was likely, counsel said, that the goodwill of the Paykel companies was the same on 30 June 1989 as it was on 1 February 1989. In any case the onus was on the taxpayer to prove that it was not and that onus had not been discharged.

ATC 4184

This ground of distinction is based on the approach taken by McHugh J in Hepples in the passage already cited. As I have already said, the point did not form part of the ratio. But in any case on this point I would respectfully prefer the contrary views of Dawson, Toohey and Gaudron JJ. Dawson J said (at ATC 4823-4824; CLR 520)

``Nor does it seem to me to matter that a covenant in restraint of trade may be enforced only in the future (in this case following the termination of the appellant's employment with Hunter Douglas) rather than in the present. The goodwill, which it is accepted was owned by Hunter Douglas, was immediately enhanced by the covenants entered into by the appellant in the sense that its present value was increased simply by their being given, notwithstanding that the enforcement of the covenants might only be called for in the future.''

Gaudron J (at ATC 4828; CLR 528), with one not presently material exception, agreed with Dawson J. Toohey J said (at ATC 4826; CLR 524):

``The entry by the appellant into the deed, with his assumption of continuing obligations in respect of the relevant covenants, was an act relating to an asset of Hunter Douglas, namely, that company's goodwill; there was a direct, certainly a sufficient, connection between the two. Furthermore, the entry into the deed affected the goodwill by removing a situation which would otherwise have existed and have exposed Hunter Douglas to the risk of competition from a former employee. It is somewhat unreal to treat the covenants as bearing only upon future goodwill. Goodwill is not an asset that can be dissected so neatly. It is a continuing asset of a business, though its content and value may vary. In the present case, goodwill was an asset of Hunter Douglas to which the act of entering into the deed related; and it was an asset which was thereby affected in the sense that a factor capable of reducing the value of the goodwill was eliminated by the deed.''

Before leaving the topic of the suggested distinguishing of Hepples, I would make the comment that, as a number of members of the High Court indicated in Hepples, the Capital Gains Tax legislation is very complicated. In my respectful opinion, courts should be slow to add another layer of complexity, like horizontal scrub over the existing forest, by way of fine judicial distinction turning on subtle factual differences between cases.

Counsel for the Commissioner also advanced two alternative arguments being matters which were not raised in Hepples itself. First he said that the restraint affected at least some existing assets. The section would only be escaped if the restraint did not affect any existing asset. This argument of course assumes the correctness of the point that the provision will only be escaped if the restraint extends to future goodwill. For the reasons already mentioned, I do not think the point is correct.

Secondly, counsel argued that there was an ``event affecting an asset'', namely, the retirement of Mr Paykel and its consequent enlivening of the restraint. The short answer to this point is that the retirement and restraint agreement did not make payment of the money conditional upon Mr Paykel's retirement. The right arose on the execution of the deed itself, albeit the payment was due on a future date. If he had died before 30 June 1989 the money would have been payable to his estate: see clauses 4 and 15.

I now turn to the second stage of the consideration of Hepples, given that there is no line of reasoning which commands a majority. As I understand it, this stage is an alternative and only arises if I am wrong in my conclusion that the present case is indistinguishable from Hepples. I have to, in the words of Viscount Dunedin,

``... consider the statute... in the light of the opinions, diverging as they are, and to give an interpretation; but that interpretation must necessarily be one which would not, if it was applied to the facts of [Hepples] lead to a different result.''

The diffidence and respect with which such an exercise must be undertaken hardly needs stating. That said, I respectfully indicate my preference for the reasoning of Deane J. In particular, his Honour's analysis of the provisions of Part IIIA provides a setting in which s. 160M(7) can be given a rational operation. Consistently with his Honour's reasons, I also find persuasive the reasons of Hill J, who dissented in Hepples in the Full Court and discussed the same issue in
FC of T v Cooling 90 ATC 4472 at 4493-4496; (1990) 22 FCR 42 at 68-72.

ATC 4185

Although, as has been mentioned, the legislation is very complex, the core notion of tax on capital gain is not. One acquires an asset and disposes of it at a profit. A capital gain is made and tax is payable. Section 160M(7) is understandable as a measure to plug what would be an obvious loophole were the legislation to be expressed in such Arcadian terms. For example, A, the owner of shares, might agree with B for consideration to pay to B all dividends and returns of capital on the shares and to vote the shares in accordance with B's direction. Section 160M(7) prevents A saying that there was no disposal of the asset and therefore no capital gain. Section 160M(7) provides a logical extension to the notion of what would ordinarily be understood as a capital gain. The theme of the extension is that a gain may be made even if ownership of an asset is retained - which necessarily means that the sub-section is concerned with an asset of the taxpayer. Thus s. 160M(7) can be seen as part of a coherent scheme and there is no need to impute to Parliament an intention to bring about odd and surprising results of the kind demonstrated by Hill J in Cooling (supra).

Was the payment income?

As has been mentioned, this question only arises for the purpose of considering the applicability of Part III Division 2 Subdivision AA. It is not suggested that if an affirmative answer is given the payment would be assessable under s. 25(1).

I think the case falls within the principle of
Dickenson v FC of T (1957) 11 ATD 157; (1958) 11 ATD 415; (1957-1958) 98 CLR 460. In that case a service station proprietor received a lump sum (payable in two amounts) in return for a covenant not to sell any petroleum products other than those supplied by Shell. The High Court held that the payment was not income. Kitto J said (at ATD 427; CLR 492) that the payment

``... seems in the nature of a sale price for a substantial and enduring detraction from pre-existing rights. The restriction does not strike the mind as an obligation undertaken incidentally to the carrying on of the business. Rather does it take a substantial piece out of the ordinary scope of the business activities to which otherwise the appellant might apply himself and for which he might use his premises... consideration for it was paid to the appellant in two sums but was otherwise non-recurring. Although the two deeds of covenant related to an aggregate period of only five years, there is nothing in the case to suggest any likelihood that at the end of that period further payments would be made in consideration of further similar covenants. All things considered, the two payments savour much more of capital than of income.''

It is noteworthy that the High Court reached this conclusion notwithstanding the fact that the taxpayer did not have an existing asset in the sense of a ``right'' to sell any brand of petroleum product he wished. I mention this because counsel for the Commissioner sought to distinguish Dickenson on the basis that in the present case Mr Paykel's ``right to work'' was not an ``asset''. The latter proposition is doubtless true (see Hepples at 91 ATC 4821; 173 CLR 515) but does not have the consequence that payments of the kind dealt with in Dickenson are income and not capital.

A similar result was reached in
FC of T v Woite 82 ATC 4578. The taxpayer was a professional footballer contracted to play with a South Australian Club. During the period of that contract he received a payment of $10,000 from the North Melbourne Football Club for signing a ``Form 4''. The effect of that document was that he could not play for any Victorian club other than North Melbourne. In the event he remained in South Australia until retirement and never played for North Melbourne. He was not obliged to repay the $10,000. Mitchell J in the Supreme Court of South Australia held that the payment was not income although her Honour pointed out that the situation might well have been different had the signing of the form been followed by a contract to play with North Melbourne.

In Hepples itself, where the Commissioner did not argue that the payment was income (in itself a fact of some significance), Deane J said (at ATC 4819; CLR 512):

``Traditionally, a genuine payment to an individual employee as consideration for covenants in restraint of his or her freedom to compete or to use or divulge certain information during a specified number of years after the termination of employment has not been seen as income in the ordinary sense for the purposes of s. 25(1) of the Act.''

ATC 4186

His Honour cited Woite and Dickenson as authority for that proposition.

Here the covenant was in no way incident to Mr Paykel carrying on the income earning activity of managing the Paykel companies. It was predicated on the assumption, indeed his covenant, that he would cease such activity. It was a one-off lump sum paid for a restraint for a substantial period. There was no suggestion that a similar payment would be repeated at the end of that period.

Counsel for the Commissioner relied on
Allied Mills Industries Pty Ltd v FC of T 88 ATC 4852; 89 ATC 4365; (1989) 20 FCR 288. However that case and the many authorities it cites dealt with a quite different issue namely whether compensation for termination of contracts is income or capital. The Full Court of this Court pointed out (at 89 ATC 4372; FCR 312) that such issues turn on the nature of the contract which generated the payment and the way in which the contract related to the structure and business of the taxpayer. It does not follow in my opinion that where the taxpayer has no asset at all (a ``right to work'' not being an asset for these purposes) a payment received in consideration for some negative promise must be income. Such a contention is simply inconsistent with Dickenson. In order to characterise a payment as capital rather than income it is not a universal requirement that there be an ``asset'' given up.


Counsel for the Commissioner conceded that if the payment was assessable under s. 160M(7) it fell within the 1989 year, that being the year of the retirement and restraint agreement, and not in the 1990 year. If the payment was not within s. 160M(7) but was within s. 27A it was assessable in the 1990 year, that being the year in which it had in fact been assessed. Counsel for Mr Paykel did not dispute those contentions. In the result however I find that the payment was not assessable on either of the grounds contended for by the Commissioner. Therefore the appeal will be allowed but, as counsel for the Commissioner requested, to ensure that my order reflects the determination of the real issue that was contested there will be declarations as to the non-applicability of s. 160M(7) and s. 27A.


1. Appeal allowed.

2. The objection decision of the respondent dated 31 August 1992 be set aside and in lieu thereof the applicant's further amended objection to the assessment of income tax for the year of income ended 30 June 1990 be allowed.

3. The matter be remitted to the respondent to amend the applicant's assessment of income tax for the said year of income in accordance with law.

4. Declare that the sum of $400,000 paid to the applicant on 1 September 1989 by Paykel Bros (Australia) Pty Ltd and Paykel Oils & Chemicals (Aust) Pty Ltd is not assessable income of the applicant by reason of s. 160M(7) or s. 27A of the Income Tax Assessment Act 1936 (Cth).

5. The respondent pay the applicant's costs of the appeal including reserved costs.


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