Commissioner of Taxation of the Commonwealth of Australia v A.G.C. (Investments) Ltd

[1993] HCATrans 93

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IN THE HIGH COURT OF AUSTRALIA

Office of the Registry

Sydney No S1 of 1993

B e t w e e n -

THE	COMMISSIONER	OF TAXATION OF
THE	COMMONWEALTH	OF AUSTRALIA

Appellant

and

AGC (INVESTMENTS) LIMITED

Respondent

MASON CJ
DEANE J
DAWSON J
GAUDRON J

McHUGH J

Copyright in the High Court of Australia 1 27/4/93

TRANSCRIPT OF PROCEEDINGS
AT CANBERRA ON TUESDAY, 27 APRIL 1993, AT 10.18 AM

MR I.V. GZELL, QC: If the Court pleases, I appear with my

learned friend, DR H.R. SORENSEN, for the appellant. (instructed by the Australian

Government Solicitor)

MR R.J. ELLICOTT, OC:  May it please the Court, I appear

with MR A.H. SLATER, OC for the respondent.

(instructed by Clayton Utz)

MASON CJ: Yes, Mr Gzell?

MR GZELL:  I think Your Honours have our outline in front of

you on the bench.

MASON CJ: Yes. It is a question of fact, is it?

MR GZELL:  No, Your Honour. There are two principles that

we seek to advance before the Court. The first one

we think does not require us to enter into any

debate between the approach of the Full Court and

that of the primary judge, and that is the question

of whether the Full Court was right in limiting the

Insurance Company cases and whether the Full Court

was right in dismissing the approach that the

primary judge had taken on the basis of those cases

to the facts as found.

Certainly the second principle which we would

seek to agitate before the Court involves some

question of fact, and that is to the extent to

which the primary judge's rejection of the sworn

testimony of each of the three witnesses who were

before him was part and parcel of the background

matrix upon which he drew his final conclusion.	If
it was, then we say the Full Court ought not to
have interfered, but that is a subsidiary part of
our case.
The major part of our case is: take the Full Court's view of the matter; none the less, in our submission, they were wrong, and they were wrong

because, first of all, they ought to have

approached it on the basis that the Insurance

Company cases were not so limited. They ought not

to have rejected those cases. If this was part and

parcel of the operation of an insurance business,

the usual consequence is that the proceeds are

income according to ordinary concepts. There is

nothing in this case which talces it out of that

ordinary category, save for the circumstance that the investment is in a subsidiary rather than the

insurer itself, and we say that makes no difference

to the principle.

Secondly, even if one sets aside the Insurance

Company cases as the Full Court did, we say that

AGC(2) 27/4/93

their suggestion that just because the policy in building up the securities was long term growth,

that that must negate any suggestion of a purpose

of resale at a profit and acquisition, we say that

is wrong.

So that to answer Your Honour the

Chief Justice's question, certainly the first part
of our case does not depend upon inviting

Your Honours to analyze, in great detail, the

facts. Nor does it require us to submit to

Your Honours that the difference in view taken by

the Full Court and the primary judge enters into

that debate. We approach it as a matter of

principle and on that principle we say that the

Full Court erred in the way it treated those cases.

MASON CJ:  No doubt it will become clear as you elaborate

your argument.

MR GZELL:  Thank you, Your Honour. Might I take it that

Your Honours are familiar with the judgment in the

Full Court of the Federal Court?

MASON CJ: Yes.

MR GZELL:  The essential facts, that is the essential

background facts, are set out at pages 414 to 415

of the record and that is a succinct statement of

the relationship between Investments and its

holding company the insurer. There is perhaps one

additional bit of evidence that is not highlighted

in that summary to which we should take

Your Honours and that is the view of the managing

director, Mr Robson, who was a director of each of

the companies, because, as the evidence revealed,
there was a common board of directors in respect of

each of these companies and indeed Insurances and

Investments, its subsidiary and another subsidiary,

were regarded as an insurance division and treated

as one. Mr Robson gave evidence that the securities in

the respondent were held prudently as a reserve of

the insurance business and were not regarded as

being available for return to shareholders,

notwithstanding a growth in those investments

realized in 1987 when the portfolio was largely

disposed of, and that appears in the appeal book at

page 126 line 10 through to 127 line 45:

Is this the position, you regarded it as an essential part of the conduct of the insurance company's business that it maintain those reserves?---Yes.

AGC(2) 3 27/4/93

They being reserves which were established and which you wished to preserve against the

possibility of claims being made in excess of

immediately available liquid funds, do you
agree with that?---Yes, but it was not viewed

that it was a sort of come and go situation to be drawn on at will. It was the - that excess

of reserves which one maintains prudently.

You would not though have contemplated, would

you, as a director of insurances, treating the

value of -

and then there are some objections. And then down

at about line 35:

You, when you began your involvement with

insurances, were aware of the existence of

reserves?---Yes.

Those reserves were partly represented by

unrealised capital gains in the portfolio held

by investments, you agree with that? I am not

sure that that gets onto the transcript

either? ..... Yes.

Those reserves you regarded as a necessary

adjunct to the balance sheet of AGC insurances

did you not?---May I ask what you mean by

adjunct?

What I am suggesting to you is that you did not regard them as reserves which you could

return to the shareholders of insurances, in

accordance with the prudent conduct of the

insurance business?---Not at any of the

earlier stages of conduct of the insurance

company.

I am talking about the stage during the 1980s

up to 30 September 1987, do you agree with

that?---Yes.

Just to make it clear that there is no

misunderstanding, you would have regarded it

as imprudent to realise and return to the

shareholders of insurances the unrealised gain

which existed by reason of the increase in

value of the share portfolio of investments,

do you agree with that?~--I do not think that I could have been categoric on that, it would
depend upon the circumstances of the time.

During that period of the 1980s for instance, general insurance companies in New South Wales and Victoria were generally put out of the

workers compensation business. Now this had

profound effects upon their solvency

AGC(2) 4 27/4/93

requirements, their income and there was a

major change in the business. I could

therefore say that if there had been such a

major change, which made folly of carrying

reserves at the level that they were at, then

as a manager I would have to contemplate the

possibility of returning some of those

reserves to the shareholders, to the degree

that they were not necessary.

What I am asking you is this; in the events

which happened during the 1980s, you regarded

it as prudent to maintain the reserves at the

levels at which they were maintained?---! did.

And you would have regarded it as imprudent in

the events which happened, to return any of

those reserves to the shareholders?---

Particularly with my feeling about the likely

performance of the sharemarket.

Put aside the sharemarket performance, it is

clear, is it not, that the purpose for

realizing the gain which you perceive to be

there was not in order to return the amount of

the gain to shareholders but simply to ensure

that the gain was not lost?---It was to

crystallize the level of reserves.

Yes, but not with a view to returning any part

of them to your shareholders?---Not at that
time.

Because you would have regarded it as imprudent at that time to do so, do you agree

with that?---Yes.

So that the reserve which we are talking about,

notwithstanding that it is held in the subsidiary,

is a reserve which prudently was regarded as part The primary judge had said that if the

of the insurance business parent.

securities had been held by the parent he would

have had:

little difficulty in concluding that the

profits were income, as representing the

profits of a reserve fund -

of an insurer in reliance on ~he Insurance Company

cases. And he said that at page 390, line 3, down

to line 13.

I should say here, that notwithstanding a

submission of the applicant to the contrary,

had the portfolio investment been in the name

AGC(2) 5 27/4/93

of Insurances, but otherwise there were no

difference as to the facts, I would have had

little difficulty in concluding that the

profits were income, as representing profits

from a reserve fund -

citing some of the Insurance Company cases.

His Honour then went on to say that the

respondent's relationship to the insurer, the administration of it as part of the insurance business, and the fact that the assets were treated

as a reserve of the insurer, assisted him in

characterizing the activities of the respondent as a business, and enabling the inference to be drawn

that the profit-making purpose existed upon

acquisition of the securities.

That rationale in His Honour's judgment is at

page 390 of the appeal book from line 23 over the

page:

The fact that the applicant is a subsidiary of

an insurance company and is administered as

part of that company, and that its assets are

regarded by the parent as part of a reserve

fund, to be available to meet liabilities in

the event that that be necessary (even perhaps

were the occasions of necessity may be rare

indeed) assists in the characterization of the

activities of the applicant as a business. It

also enables an inference more readily to be

drawn as to the profit making purpose of the

applicant in undertaking its investment

activities.

The Full Court distinguished the Insurance

Company cases on the bases that they were explicable in terms of a need to maintain

liquidity, and that appears at page 439, line 18:

As has been noted, Hill J. placed considerable

emphasis on the role of the appellant as the

investment vehicle of the Insurance Division

and it is clear from the banking and insurance

cases that the need to maintain liquidity
continuously in order to conduct this kind of
business is the reason why profits generated

by the purpose and sale of securities by banks and insurance companies ure usually treated as income.

Then the Court refers to Colonial Mutual and an

observation from the judgments. They then refer to

an English text Konstam:

AGC(2) 6 27/4/93

" the buying and selling of investments is

a necessity of insurance business; and where

an insurance company in the course of its

trade realizes an investment of a larger price

than was paid for it, the difference is to be

reckoned among its profits; conversely any

loss is to be deducted."

They then indicate that Their Honours, in

Colonial Mutual, went on to say that:

there was no substantial distinction between
the business of an insurance company and that

of bank.

And they quote from the text:

"The acquisition ..... of an investment with a

view to producing the most effective interest

yield is an acquisition with a view to

producing a yield of a composite character,

the effective yield comprising the actual

interest less any diminution or plus any

increase in the capital value of the

securities. Such an acquisition and

subsequent realisation is a normal step in

carrying on the insurance business, or in

other words an act done in what is truly the
carrying on of the business of the society."

And then Their Honours go on:

But, in our opinion, the facts of the

present case may be distinguished from the
usual circumstances of an insurance company or

a bank, where the need to buy and sell

securities on a regular basis, in order to

maintain liquidity, justifies the conclusion

that this is a normal step in carrying on a

banking or insurance business, with the

consequence that the profits so earned are regarded as income.

And on that basis, Their Honours concluding that

this reserve fund was not the first line of defence
that represented investments on a long term basis,

His Honour the primary judge was wrong in applying

the insurance company cases.

McHUGH J: But you use the term "reserve fund"; that is not

really an operative term, is ~t? The trial judge

acted on the basis that the investment company's business was a separate business altogether from

that of the insurance company although, in

determining the nature of that business, it was

legitimate to take into consideration its

relationship with the insurer.

AGC(2) 27/4/93

MR GZELL:  Yes. His Honour did that and if one looks at it

solely from the point of view of investments, as

the taxpayer, then the word "reserve" is wrong.	I
accept that, Your Honour, because one then has to

say that since the subsidiary is not carrying on an insurance business in respect of which it has other

assets that it might call upon from time to time,

this cannot be regarded as a reserve. But none the

less, the interrelationship between the subsidiary

and the holding company and the circumstance that

the investments in the subsidiary are held at call,

albeit that the call may rarely occur, of the

insurance company, in aid of the insurance
company's business, enabled the primary judge to
conclude the way he did. And we say that there was

absolutely nothing wrong with that conclusion and

that conclusion was consistent with the rationale

of the Insurance Company cases, and on that basis, once the characterization of the activities of the subsidiary as a business were made, and the

business was held to have as an incident the

acquisition of securities for the ultimate purpose

of the insurer parent, it did not matter that the

volume of turnover in that portfolio was fairly

meagre.

The fact that it was characterized as an

incident of the business that such a turnover could

occur at the instance of the insurer was sufficient

to stamp it as an incident of the business. In our

respectful submission, it is a correct approach, it is a correct application of the Insurance cases or,

for that matter, the London Australia principle to the subsidiary. Indeed, in one of the later cases

to which I will come, the Full Court of the Federal

Court has said - and we would submit correctly -

that it matters not that an insurance company's

investment wing is in the hands of a subsidiary.

If it is factually part of the business of the

group regarded as a whole, that is sufficient to

that line of authority. invoke the normal consequence in accordance with So that I am in error, in response to

Your Honour Justice McHugh, in using the words

"reserve fund" in respect of the subsidiary, but

none the less, when the group is looked at, it is a
reserve fund of an insurance business, and that is
sufficient to stamp the activity, looking at the
taxpayer alone as one of business, as one of

business in which it is an incident to acquire and

realize securities from time to time.

McHUGH J:  I must say at the moment I have difficulty in

seeing the real relevance of the banking and

Insurance Company cases. It seems to me that the

territory that this case is covered by is the

AGC(2) 27/4/93

London Australia Investment Company case or the
Myer case, although one is entitled to take into

consideration as a vital factor the relationship

with the insurance company.

MR GZELL:  Your Honour, I do come to that. As you will see

from the outline, we do put the submission that

there is essentially no difference in the approach

that ought to be taken, so far as the test is

concerned, to insurance and banking companies and

an investor. The question essentially is: are the

activities that of a business, or are the

activities not that of a business but of pure

investment?

His Honour the primary judge did approach it

in that way, but the Full Court appears to have

circumstance in which the immediate needs of liquidity are the concern, the Full Court appears simply to have distinguished them and said: therefore, the approach that

taken the view that simply by distinguishing the limited category of

His Honour took to the question of business can be set to one side, and they simply looked at the view that His Honour had taken of one document, sought

to construe it in a different way and concluded

that the inference that ought to be drawn was

contrary to that drawn by His Honour.

So that the first part of our argument is that

the Insurance Company cases are not limited to a

need for immediate liquidity, and it does not cut

across the latest submissions that we make to

Your Honours, that there is but one test to analyse

those cases because in the analysis of those cases

that task is in aid of the analysis of the

principle that flows, in our submission, from

London Australia and Myer

Now, Your Honours, if I can take Your Honours

to the Insurance Company cases, the first one that

we go to for convenience is Colonial Mutual Life

Assurance Society Limited v Federal Commissioner of

Taxation, (1946) 73 CLR 604, and we go there

because we think there is no need to go to the

earlier English cases which are sufficiently dealt

with in the course of the judgment.

In this case, the taxpayer was principally a

life company issuing life poricies, endowment

policies and annuities, but it did carry some

accident insurance as well, apparently. Actuarial

calculations - and this appears on pages 613 to 614
- were made of how much of the premium invested at

3 per cent was needed to meet payment on maturity;

how much ought to be set aside for expenses, and

AGC(2) 9 27/4/93

balance was regarded as surplus available for

members as bonuses. Investments were made on the

basis that securities would be held until maturity, the purpose being to maximize interest yield in the

meantime. Switching was infrequent and made to

increase the effective interest yield. That last

observation about switching appears at the bottom

of page 613 to 614:

In order to maintain and increase the

effective interest yield securities are

"switched" from time to time, that is to say

some are realized and the proceeds of sale
immediately re-invested in other securities;

but the percentage of funds so switched is

small in comparison with the total holdings.

We concede that a similar pattern exists in this

case. The percentage of switching of investments

in this case was small.

So that while there was no separate reserve

fund, the investments were not mere.ly designed to

meet liquidity needs. They were also designed to

produce a surplus for ultimate return to members by way of bonus. The purpose of investing was to hold

the securities until maturity.

The High Court approached the matter in terms

of the business test in Californian Copper

Syndicate v Harris, and that appears at page 614.

It is unnecessary for me to take Your Honours to the English case, the facts of it are well known, and the passage is well known, but at about two-thirds of the way down page 614:

Prima facie the depreciation in or

accretion to the capital value of a security

between the date of purchase and that of

capital and is therefore a capital loss or	realization is a loss of or accretion to	gain and does not form part of the assessable
income: Lomax v Peter Dixon & Son Ltd. But in
the words of the Lord Justice Clerk in
Californian Copper Syndicate v Harris which
have been so often quoted, "it is equally well
established that enhanced values obtained from
realization or conversion of securities may be
so assessable, where what is done is not
merely a realization or ~hange of investment,
but an act done in what is truly the carrying
on, or carrying out, of a business."

At page 616 there is a reference to the fifth

precept of the of the Lord President in Northern

Assurance Co v Russell. It is about half-way down

the page:

10   27/4/93

Where the gain is made by the company (within

the year of assessment ... ) ... by

realizing an investment at a larger price that

was paid for it, the difference is to be

reckoned among the profits and gains of the

company"

And there follows, in the judgment of the

High Court, a discussion of authorities going each

way in respect of that precept; that being resolved

finally by the High Court in favour of the precept

at page 618. About half-way down the page:

But the insistence by Lord Shaw upon the

correctness of the whole of the series of
propositions enunciated in Northern Assurance

Co v Russell after he had presumably read the

remarks of Hamilton Jin the court below, and

the criticism by the Privy Council of some

dicta in Commissions of Inland Revenue v

Scottish Automobile & General Insurance Co Ltd

in Punjab Co-operative Bank Ltd, Amritsar v Commissioner of Income-Tax, Lahore, coupled

with the willingness of the Inspector of Taxes in Royal Insurance Co Ltd v Stephen to allow a

loss on realization amounting to 754,000

pounds as a deduction in computing its profits

assessable under Case 1, tends to show that

the sounder view is that profits and losses on

the realization of investments of the funds of

an insurance company should usually be taken

into account in the determination of the

profits and gains of the business.

McHUGH J: What is meant by "investments" in that context?

Supposing an insurance company had a subsidiary

engaged in retailing; would profit from the

disposal of the shares or the assets of the

retailer be treated as income?

MR GZELL: Probably not, Your Honour. If that were regarded

- might I say that probably not the assets disposed

of through the subsidiary, because the assets

disposed of through the subsidiary would probably

be regarded as the capital structure from which the

revenue flows from the retail business were being

generated. If, so far as the insurer were

concerned, this amounted to a separate business, if

you like, that the investment in its retailing

subsidiary was separate from the insurance

business, totally demarked, not taken into account

as a last line of resort - that was attended to in

other matters - then I would probably answer Your

Honour by saying the answer was probably no. But the determination of that question would

be a factual one as to whether or not that

AGC(2) 11 27/4/93

investment formed part of the banking business and

in circumstances such as the investment by the bank

of a portion of its funds in its banking

accommodation. One would not normally regard that,

or a switch in that investment, as coming within

this principle because it would be regarded as part

of the capital structure of the bank from which the

business activities were conducted.

McHUGH J: A majority of insurance companies invest their

premium income in very conservative investments but

it is not unknown for the more entrepreneurial type

of insurance company to invest in very diverse

investments. I can remember, when I was at the

bar, one prominent insurance company that part of

its premium income was going into a company which

was manufacturing Winchester yachts.

DEANE J: What about MLC v H.G. Palmer, for instance?

MR GZELL:  If the insurance company - I took Your Honour's

question as being a situation in which there was a

wholly-owned subsidiary as a retail business. If

there is a portfolio of shareholdings by the

insurer, one of which happens to be a fairly large

holding in a retail business, then I would see no

difference between that and any other form of

investment. If it was there as an asset which the

insurer regarded as a reserve against some sort of

call upon it above and beyond the normal course, in

which event that investment in the company could be

sold and the funds realized therefrom utilized to

pay out the calls that had been upon it, we would

see no difficulty in saying that any switch in that

form of investment would lead to income according

to ordinary concepts.

I thought Your Honour Justice McHugh was

putting to me a particular circumstance in which

one might be able to say that there was an

investment which stood outside the normal course of

a portfolio of investment ready to meet the

exigencies of the business, and an attempt had been

made to set aside, as it were, a separate activity. If that is not the case, then we see no

difficulty with the proposition that any switching
of the investments held by an insurer or a bank,
albeit that they might be held as a last line of
defence, give rise to income ~ccording to ordinary

concepts.

If I could go back to - - -

McHUGH J:  I am sorry to keep you, but why do you

distinguish between bankers and insurers, and other

companies, even industrial companies, which are

AGC(2) 12 27/4/93

frequently investing funds and looking for high

rates of return when they do not need the funds for

their business for the moment?

MR GZELL:  If you have a situation in which there is but one

business, that being of a bank, or an insurer or an

investor, it is easier to say of that single line

activity that investment is part of the business.

If you have an industrialist that is making

widgets and funds are generated surplus to its

immediate needs in making widgets, and it puts

those funds out in a form of investment, different

questions, albeit questions of degree, will arise

because the question then becomes one of whether or

not the process of investment is part and parcel of

the one business, or whether the process of

investment can properly be regarded as a business

in its own right.

If it can not, and it is simply regarded as a

process of investment, then normally the proceeds
of sale, or switching, would not be income
according to ordinary concepts; and the gravamen of
the distinction, we would say, is that in the
business situation it is an incident of the

business that the securities be acquired and

realized from time to time.

The gravamen of the investment situation is that it is an incident of the investment that there

be an acquisition of the securities to be held for

their revenue flows. Albeit that any prudent

investor will no doubt have views as to the prospect

that his investment might go up and down and there
may be a need to change, that does not matter if it

is incidental and not regarded as an incident of the

activity.

The borderline may be very difficult but, in

our submission, the authorities suggest - and I am

not limiting myself solely to the Insurance Company

cases in making this submission - that ultimately

it is a question of whether the activities amount

to the activities of business.

McHUGH J:	I cannot help but think that the approach in the English cases, and even cases like the CML, were
derived at a time when markets were fairly stable,
but there can hardly be a prudent investment
company around that would not be switching investments fairly regularly when you have got markets going up and going down and interest rates
going up and going down.  Does this make any
difference?

AGC(2)	13	27/4/93
MR GZELL:	No.	I suppose that the fact that there is

greater activity in switching when the markets are

going up and down makes it easier perhaps to come

to a conclusion that the activities are activities
of business as distinct from the circumstance in

which there is little switching when the market is

either going up gradually or remaining static,

because the fact of repetition may make it easier

for a court to come to the conclusion that the
activities are indeed the activities of business.

But what I was attempting to do was to highlight the essential difference between the

circumstance in which realization is purely

incidental to an activity of investment and the

proceeds of realization are on capital account and

that circumstance in which realization from time to
time is an incident of the conduct of a business,

in which case, regardless of purpose, we would say,

the proceeds are on revenue account.

MASON CJ: But this decision really turns on a finding of

fact, does it not, namely that the purpose was that

of increasing the effective interest yield from

investments generally and was therefore an income

purpose?

MR GZELL:	Which case are we talking about, Your Honour?
MASON CJ:	CML.
MR GZELL:	Yes, I am sorry, I was confused when Your Honour

put that to me because I thought you were referring

to the case before you.

MASON CJ:  The only difference in the case of an insurance

company is that you can perhaps more readily arrive

at that conclusion in relation to an insurance

company than you can perhaps in the case of other

people.

MR GZELL:  Yes, but the principle that is put - and I think

Your Honour is referring to pages 619 to 620, is

that the portion?

MASON CJ: Yes.

MR GZELL: 

It is the case that in that case itself the

question of liquidity was predominant but, in our
submission, the observations -0f the court were
stated in general terms, it was not simply limited

to the circumstances of that case. It was stated
in general terms and, in general terms, it was said
that investment by an insurance company in a bank

is part and parcel of its business. The

acquisition of the securities have the twofold

purpose, to obtain the actual interest and the

AGC(2) 14 27/4/93

increment, hopefully, on realization. So that

whether the security was acquired to be held until maturity or was acquired to be sold in the interim

in a process of switching was beside the point;

realization was an incident of the business, with

the consequence that any realization in the course

of the conduct of the portfolio would give rise to

income according to ordinary concepts.

We do have that work that is referred to by

the court, of Konstam, the 8th edition of it. We

do not think it takes the matter very much further

but we will - - -

MASON CJ: It is referred to in the Full Court judgment, is

it, the Konstam statement?

MR GZELL:  Yes. We do not think it takes it a great deal

further but we will hand to Your Honours copies of

the portion that is referred to in the judgment of

the Full Court.

DAWSON J:  If a different insurance company really did want

to take some funds outside its business and invest

them, how would it go about it?

MR GZELL: Very difficult, Your Honour, very difficult.

There is a suggestion in some of the later cases to

which I will come that if an insurer completely

divorced a fund as a different sort of reserve,

earmarked it, took it away from the business and
used it for pure investment, that the proceeds
might be on capital account. We have some

difficulty with that proposition because -

DAWSON J:	The first thing it would have to take it out of the solvency register.
MR GZELL:	Yes.
DAWSON J: But you do not suggest, for instance, the

building of an insurance company is anything but

capital, do you?

MR GZELL:  No, I made that observation in answer to

His Honour Justice McHugh. We would say that an

investment in a building is part of the capital

structure of the insurer.

DAWSON J: Well, it may or may not be, but it may be.

MR GZELL:  Normally one would expect it to be part of the

capital structure of the insurer, if it is the

accommodation for the bank from which the banking

activity is being conducted. So the various

branches of Westpac, for example, would normally be

regarded as on capital account if there were any

AGC(2) 15 27/4/93

sale of any of those. On the other hand, no doubt,

Westpac has investments in income producing

property and it may have investments in other

property, as part of a portfolio of investments

available if the need should arise to meet calls by

depositors.

Any sale or transposition of those assets, we

would say, would give rise to income according to

ordinary concepts because they are part of the

investments prudently held in the conduct of the

business, and that is precisely the situation in

this case. We say, with respect, that the

investment in investments, by that I mean AGC

(Investments) Pty Ltd, were prudently regarded as

available, at call, to the parent company, should

the parent company need to call upon them and

albeit that the parent company had other lines of

defence before that situation should arise, that

does not divorce it from the reality that this fund

was built up by loan funds at call to the

subsidiary and the parent has, in that passage from

Mr Robson, regarded it as a fund that could be

called upon by the insurer if the need should

arise. May I take Your Honours to - - -

MASON CJ: Just before you do that, there is one thing I do

not quite understand about this case. Why was not

the issue in this case, as it was in CML, whether

or not the taxpayer was pursuing a purpose of

increasing the effective interest yield from its

investments generally? You see, it seems to have

gone off on a different issue; whether or not it

was buying equities to maintain short-term

liquidity as distinct from some long-term reserve

position.

MR GZELL:	Which case is Your Honour now referring to?
MASON CJ:	The present case.

MR GZELL: Sorry. I am again confused.

MASON CJ:	You see, I was drawing a contrast between the issue in the present case, as it seems to have been
formulated by the Full Court, and the issue as it
arose in the CML case

MR GZELL: Yes. Would Your Honour mind repeating that

question to me?

MASON CJ:  Why was not the issue in this case whether or not

the taxpayer was pursuing a purpose of increasing

its effective interest yield - income yield - as

distinct from the issue which seems to have been

formulated, whether or not it was creating this

fund in order to meet short-term liquidity problems

AGC(2) 16 27/4/93

as distinct from, say, a long-term reserve

situation?

MR GZELL:  Your Honour, I do not think that it was put on

that second basis. That is the view that the

Full Court took of it. The Full Court took the

view that you can set to one side the Insurance

Company cases because they are confined to a

situation where short-term liquidity needs are to

be met, and the Full Court said, the facts in this

case are that this fund was not needed to be called

upon for short-term liquidity needs, therefore this

case can be taken outside that line of authority

that His Honour the primary judge seems to have

placed emphasis upon, and we can look at it in a

different light.

Having put that to one side, they then said,

"The question then is, was there a purpose of

profit at the time these securities were acquired?"

The primary judge had inferred that there was, as

one of the purposes, and he said that is

determinative of the matter, the proceeds are on

revenue account regardless of whether the purpose

of building up the portfolio is to meet short-term

needs or long-term needs. The Full Court seems to

have taken the view that because the policy was

long-term growth, that negated any suggestion of a

purpose of profit making at the time the securities

were acquired, and, having taken that view, the

Full Court said, "We will therefore infer that

there was no purpose of profit making at the time

these securities were acquired and we will allow
the appeal".

That seems to be the thought process that the Full Court took, which is different from the way it

appears to have been argued in the court below, and

different from the approach taken by the primary

judge.

Now, I should say at this stage, Your Honour,

we do have a problem about the way in which the

primary judge approached it. The primary judge

seems to have said that you need to do more than

find a business, because he said, and indeed there

was a concession, there was a concession that a

business was being conducted in this case, and he

found there was a business.

Now, in our respectful submission, once you

find that there is a business and you characterize

that business as including, as an incident,

acquisition and realization of securities, that is

the end of the matter because, we would say, that

any purpose of profit making will be inferred from

that very circumstance.

AGC(2) 17 27/4/93

Once you have categorized it as a business,

normally a purpose of acquiring the securities with

a view to profit will be inferred and there is no

need to go on and examine the evidence to determine

whether it can be established, overtly, that there

was a purpose of profit making in those sales.

McHUGH J: That seems to run contrary to that passage at 620

in CML, does it not? CML seems to turn on the

proposition, about point 4, which says:

The acquisition of an investment with a view

to producing the most effective interest yield

is an acquisition with a view to producing a

yield of a composite character, the effective yield comprising the actual interest less any

diminution or plus any increase in the capital

value of the securities.

Now, that is a general proposition applicable to

any from of investment company, is it not?

MR GZELL:  Yes, I would accept that.

McHUGH J: Indeed, is it not the universal test, really, in

this?

MR GZELL:  It is not inconsistent with a test which simply

says - perhaps not, Your Honour. It is unnecessary

to take the further step, which is one of

explanation. It is sufficient, in our submission,

to simply say that the business involved

acquisition and realization of the securities.

No doubt, from that it might be inferred that

on the acquisition of the securities, there was a

twofold intention. The intention to get the

revenue flow from the security itself and an

intention to acquire any increment in value if the

security were realized.

That does not touch the point that I was

dealing with and the point that I was dealing with

was that His Honour the primary judge appears to

have taken the view, and the view is based upon a

perceived difference in approach in London

Australia between Mr Justice Gibbs, as he then was, on the one hand, and Mr Justice Jacobs on the

other, the suggestion being that before one can

capture into revenue account xhe proceeds of

realization of an investment, it is necessary, not

only to establish that the realization took place

in the course of the conduct of a business, but, in

addition, that it should be established that a

purpose, at the time of acquisition of the

security, was resale of the profit, or, more

correctly, realization of the profit.

AGC(2) 18 27/4/93

We say it was unnecessary for His Honour the

primary judge to have approached it in that way,
but that explains why, having taken the view that a

business was involved, he went on to explore the

evidence to see whether he should infer from the

evidence as a whole that a purpose at the time of

acquisition was realization of the profit, and he

did.

DAWSON J: Which was the business which was conceded - the

business of the investment company, or the business

of the insurance company?

MR GZELL:  No, the business of investment - perhaps I am

misstating this, but the distinction was drawn

between a business of investment and a business of

investing. It was said that one led to the

proceeds being on capital account and the other led

to the proceeds being on revenue account.

DAWSON J: But you cannot look at the business of a

subsidiary unless you look at the business of the

parent company, can you?

MR GZELL:  We would say that.

DAWSON J: That is what you say?

MR GZELL:  That is what we say. I am saying that the

concession was made by our friends that the

activities of the subsidiary were those of a

business, but they sought to draw a distinction

between a business of investment and a business of

investing. I have forgotten which one was said to

be the clean one and which one was said to be the

one that gave rise to revenue. It is set out at

page 394, I am reminded. This is in the judgment

of the primary judge at line 18:

There seems little doubt that the activities

of the applicant can be characterised as a

business: indeed counsel for the applicant

conceded this. However, he emphasised,

properly, that it is necessary to determine
the nature of the business and that there was

a distinction between a business of investing,

that being the description he preferred to use

for the applicant and an investment business,
as was the case in London Australia. If there

be substance in the distinction just drawn,

and I think there is, it lies in the absence of an intention to resell at a profit in the

first situation and its presence in the

second.

Then having said that, His Honour then went on to

say that therefore the insurance and banking cases

AGC(2) 19 27/4/93

were an exception to the general principle. we

cavil with that approach. We do not see the

insurance and banking cases as being an exception.

We see the question of whether realization of an investment by an investor, banker or insurer all

depending upon the question: were the activities

investment activities, the gravamen of which is

acquisition for a holding for the revenue flows or:

were the activities a business, the business being

characterized by acquisition and by realization

from time to time?

MASON CJ: That is not the way in which I understand it to

be put it at page 620. The distinction is not

drawn there in terms of businesses of various

kinds. The general principle in the sentence to

which Justice McHugh has referred is based on

acquisition with a view to producing a particular

result.

MR GZELL:  But the particular result involves realization,

because the particular result will not give rise to

anything other than the revenue flow, the interest

or the dividend or whatever, unless there be

realization.

MASON CJ: Certainly, if the result they are talking about

is realization, but the question is: was the

purpose of the acquisition with that end in view?

MR GZELL:  I think I am not, with respect, stating the proposition differently but in different words.

MASON CJ: Would it not be better to stick to the words used

by the Court?

MR GZELL:  Your Honour, this is the start of a line of

authorities, and perhaps I should reserve that

submission as a summary of them to the end, but I

take Your Honour's point. They certainly do put it
on the basis of seeking the twofold result.	The

point I simply make at this stage is to say - - -

MASON CJ: It is not confined to banks or insurance

companies.

MR GZELL: Not confined to banks or insurance companies and,

indeed, the two-fold result involves not only an

acquisition and a holding for the revenue stream,

but also a realization of th~ security, a

realization at maturity of a discounted bill -

McHUGH J:  You keep introducing the word "realization", but

is not the way the test is formulated a much better

way - was it acquired to produce the most effective

interest yield, which necessarily means that

whatever intention you may have about sale, you

AGC(2) 20 27/4/93

will be selling, because you will be switching, you
will be backwards and forwards, selling this,

buying this, always seeking to get the most

effective interest yield and, therefore, any losses

or gains on the sale is all part of the income

stream.

MASON CJ: And, to add to that, if you go down into the next

paragraph, they say:

The accretion in capital value is used for the

purpose of increasing the effective interest

yield from the investment and therefore for an

income purpose.

MR GZELL:  Yes. I accept that in respect of this case the

proposition that the Court has espoused is not in

the summary form that I have put to the Court. It
is not inconsistent with the summary form that I

have put to the Court, and as I take

Your Honours - - -

MASON CJ: Well, we ought to move away from this case, on to

some other case that takes you further.

MR GZELL:  Thank you, Your Honour. If I might move to the

next case which is Punjab Co-Operative Bank Ltd,

Amritsar v ITC Lahore, (1940) AC 1055.

MASON CJ:	We are actually moving backwards.
MR GZELL:	We are, I am sorry, Your Honour, but it is one of the cases relied upon by the Full Court in
Colonial Mutual, and I ought to take Your Honours
to it because it is somewhat against me, in a
moment to submit to the contrary of the view of the sense, bearing in mind that I am at pains at the limited to the circumstance where immediate
and realization of the securities.
liquidity needs are the purpose of the acquisition

This case involved an objection as to the

competence of the appeal, and a deal of the report

is centred upon that question of competence of the

appeal, but when it came to dealing with the

merits, at about page 1070 to 1071, it appears that

the bank sold shares and securities of profit,
claimed that the profit did not form part of the

profits of its business because the investments

were reserved for emergencie~ and sales were

occasioned by abnormal requirements. That appears at the bottom of page 1070, over to 1071. A "lac"

is a unit of 100,000.

The Commissioner did not regard the argument

of the bank that it was separate and kept for

AGC(2) 21 27/4/93

emergencies as being established, and the

Commissioner took the view that the change in the

securities was directed towards increasing reserves

after there had been some payment out in deposits

and the Privy Council sets out a table which

demonstrates that there was a drop in deposits in

the relevant time.

And then at page 1072, Their Lordships observed that if the purpose was to increase the

reserve funds, then that would have been a

sufficient reason to dismiss the appeal, but they

went on, none the less, to deal with it in more

general terms, and that appears at the bottom of

page 1072 and the top of 1073:

In the ordinary case of a bank, the

business consists in its essence of dealing with money and credit. Numerous depositors place their money with the bank, often

receiving a small rate of interest on it. A number of borrowers receive loans of a large

part of these deposited funds, at somewhat

higher rates of interest. But the banker has

always to keep enough cash or easily

realizable securities to meet any probable

demand by the depositors. No doubt there will

generally be loans to persons of undoubted

solvency which can quickly be called in, but

it may be very undesirable to use this second

line of defence. 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, or, in other

words, that it is an act done in "what is

truly the carrying on" of the banking

business -

in terms of the test in Californian Copper v

Harris.

Now, it is true that the observations of

Their Lordships in that speech might be construed as being limited to the liquidity needs of a bank

and perhaps the Full Court, in this case, saw that

as a basis for the view that it formed. But we

would say that it was sufficient for the needs of

the Judicial Committee to express it in that way,

were held not as a first line of defence but

but one should not draw the inference, as the

perhaps as a second or a third line of defence, as

investments to meet the abnormal or even the

catastrophic situation, that it automatically meant

that any proceeds on the realization of those funds

AGC(2) 22 27/4/93

were on capital account. That ought not to be read

into the view of the Judicial Committee, in our

submission. But we have cited it to Your Honours

because it does lend some credence to the view that

the Full Court took of this line of authorities.

The next case, coming forward, is Producers' &

Citizens' Co-operative Assurance Co Ltd v Federal

Commissioner of Taxation, (1956) 95 CLR - - -

MASON CJ: Are .we going to go through all these cases?

MR GZELL: Well, I was, Your Honour. I was, to make good

the proposition that the Full Court has

misconceived the nature of these cases.

MASON CJ:  But all these cases from now on are going to

support your proposition, are they?

MR GZELL:  Yes, Your Honour. I think so. When I say that,

the answer is, it does. There will be cases, of

course, in which the factual matrix will be

different from that with which we are dealing.	For
example, there - - -

MASON CJ:  We are not much concerned with the facts, we are

concerned to identify the principles.

MR GZELL:  No, I am citing them for the principles. But I

shall move through them as quickly as I can. This

case, the investments in question were long term,
the proceeds of realization were switched to other

investments, neither the acquisition nor the

realization was dictated by a need to maintain

liquidity. The case involved the purchase and sale

of a building - this appears at pages 30 to 31 in

the report. The policy of the company was to

invest its funds in freehold properties. It was

argued that the purchase was for a dual purpose of

providing business premises and an investment.

Sir William Webb rejected the notion that

accommodation was a purpose.

It appears from the report that the building

was purchased in 1935; it was sold in 1948 to

another insurance company. The bulk of the sale

price was used as vendor finance, the balance was

invested, the switching producing a surer if not a

greater return.

The company had 30 properties, sold only six

between 1939 and 1953. His Honour found that the

building was not bought for resale at a profit but

was to be retained as a long-term asset, provided

it was a profitable one. That appears at the

bottom of page 32 to the top of 33. But

notwithstanding the absence of the profit-making

AGC(2) 23 27/4/93

purpose, His Honour concluded that the profit was

taxable. He applied the principle in Californian

Copper v Harris and said there was no difference between freehold and other investments. That

appears about two-thirds of the way down page 33:

For the purposes of this reasoning I see

no difference in principle between freeholds

and other investments, that is to say, when

the freeholds are purchased as investments and

not for office accommodation -

Then he goes on to refer to Northern Assurance Co v

Russell, and at page 34, about the middle of the

page:

Now I am unable to see why there should be a

departure from the usual course in this case,

as I find that the Strand Building was not

purchased for the office purposes -

and therefore it was an investment, an investment

of this insurance company, and regardless of the

absence of a purpose of resale and profit of

acquisition, he followed the line of authorities

that this was part of the business of the company

and that being so the normal course should follow.

MASON CJ: But that does not represent any advance over CML,

does it?

MR GZELL:	No, Your Honour, but in deference to the Full Court - the Full Court has taken a view that
one can divine from these cases a restriction. I
am at pains to demonstrate to Your Honours that
that is not so, and in deference to their views I
felt it incumbent upon me to take Your Honour to
the Insurance Cases.  We say that that case - and
for no purpose other than that at the moment -
indicates clearly that it was not involved in
short-term liquidity activities, it was a long-term investment, it was a building that had been held for a number of years.

There was nothing in the judgments which would

give comfort to the view of the Full Court that

these cases ought to be limited to circumstances

where short-term liquidity need to - are the

gravamen of the situation. If Your Honours

understand that I am referring to them for the

purposes of negating any basis upon which the

Full Court might have arrived at its conclusion, I

can move through them very quickly.

Australasian Catholic: might I simply

summarize this without taking Your Honours to it?

The insurance company's policy in Australasian

AGC(2) 24 27/4/93

Catholic Assurance Co Ltd, 100 CLR 502, was to
purchase new flats intending that they be held for

30 years and sold ultimately at about the same

price that they had been purchased for. In that

case, during the war years no maintenance was

carried out on them, rents were controlled and a

decision was made to sell off the flats. Some of

the proceeds were left outstanding as vendor

finance, the balance was invested in securities

other than real estate.

Sir Douglas Menzies found that the flats were

not acquired for the purpose of profit making by

sale and that their realization was in order to

prevent a decrement of the fund. That appears at

page 504 to 505. At page 506, His Honour referred

to the Californian Copper v Harris case, and

perhaps I should take you to the passage at 506

where he does contrast between a business of

investment and activities of investment which do

not constitute a business. He says at page 506,

about half-way down the page, having cited from the

Lord Justice Clerk in Californian Copper v Harris, he then goes on:

The distinction that I find in this quotation

from the Lord Justice Clerk is between a

profit which is in the carrying on of a

business and a profit which is not, because a

change of investments is made which is not in

the course of carrying on a business at all, eg, a doctor selling some shares and buying

others, or because it constitutes the

realization of the capital assets of a

business which has come to an end, eg Scottish

Australian Mining ..... or for some other

reason. The instant case, it seems to me, is

one where the enhanced values were obtained in

the carrying on of the taxpayer's business.

No doubt since the decision of Whitfords Beach

one would not place a great deal of reliance upon

the Scottish Australian Mining case, but none the

less the distinction that Sir Douglas Menzies was

drawing is clear enough: on the one hand it is an

activity of business; on the other hand it is not.

DEANE J: But is it not all a question of fact and degree?

On that question, whether it is a short-term

reserve or ultimate recourse .reserve, is obviously

of relevance and importance.

MR GZELL:  Ultimately the question whether the activities

can be categorized as a business must be one of

fact, and I accept that, Your Honour.

AGC(2) 25 27/4/93

DEANE J: Take, for example, the case where an individual

carries on an insurance business and he pulls out

500,000 and says, "I don't need this for the

day-to-day business; I'll buy a house with it. If

the business goes well, I can sell the house." In

one sense the funds in the house are invested and

they are available as last recourse or what have

you, but you would not suggest that if he sells the

house at a profit 20 years down the line, that that

is a profit of the insurance business, would you?

MR GZELL: It might be, Your Honour, if - - -

DEANE J: Depending on the -

MR GZELL:  Depending on the facts, because

DEANE J: Depending whether the funds were treated as part

of the business funds or whether he paid interest

to the business or whether he put it in his pocket

and bought it in the joint names of his wife and

himself.

MR GZELL:	If it were taken into account, for example, in statutory ratios to obtain the licence and to
maintain the licence, then we would have no
difficulty in saying that it is an investment of
the business and its realization gives rise to
income according to ordinary concepts.

DEANE J: This is not said critically of you in any way, but

it is a little hard to identify a proposition of

law that the parties are fighting over, is it not?

MR GZELL:  I can identify - even if one sets aside the

Insurance Company cases and leaves them to one

side, I can identify a problem and a principle of

law which has concerned the courts below since the

decision of this Court in London Australia and

Myer, and I adverted to it a little earlier. But

the test that some would perceive flowing from London Australia was simply a test in terms of Californian Copper v Harris: is there a business?

If there is, that is the end of the matter.

Other minds have taken the view that the

principle is not limited to that situation and that

is not a sufficient answer. What one has to be

able to demonstrate in addition to that is that at

the time the securities were 4Cquired, a profit-

making purpose existed - not the dominant purpose

or the sole purpose, but a purpose of profit making

existed.

DEANE J: But that really - they put it as profit making by

sale, did they not, or by realization?

AGC(2)	26	27/4/93
MR GZELL:	A profit-making purpose.	It could be either,

Your Honour, depending on the circumstances.

DEANE J:  I thought they ended by putting it by

realization. But that question really only became

relevant when, by reason of the process of

reasoning, which appealed to Their Honours, they

had moved the funds outside the business of the

holding company.

MR GZELL:  I am sorry, Your Honour. I do not understand the

point that Your Honour is putting to me.

DEANE J: Let us assume that the taxpayer issued 5 per cent

of its capital to a stranger. On your argument,

would the case be the same or would it be a matter

of seeing whether the fact that its interest in the

company was a second or third line recourse, when

added to the fact that there was a 5 per cent
outside shareholder, together combined to take it

outside the business of the insurance company?

MR GZELL:  It would depend upon an analysis of the facts as

to whether that 5 per cent could be-recalled at

some later stage for the exigencies of the

business. I was putting to Your Honour, in answer

to Your Honour's question whether there is any

matter of principle involved in this appeal, that

one matter of principle that can clearly be

identified is the confusion that appears to have

arisen since London Australia, and notwithstanding

Myer, as to whether or not, in approaching these

cases, it is sufficient to say there is a business,
regardless of what the factual matrix might be, if

the court takes the view that the activities

amounted to a business, is that sufficient or does

one have to take the next step and say, in addition
to your business you must perceive a purpose of

realization of the profit when the securities are

acquired.

DEANE J: What I was suggesting to you is, that is not what

the judgment of the Full Court says. Implicit in the judgment of the Full Court is a view that the

fact of separate corporate identity and second, or

down the line, recourse, in combination, suffice to

take it outside, as it were, the cloak of the

holding company's business, in much the same way as

the example I gave you, the question would be

whether taking it out and pu~ting it in the house

means it has moved outside the business and you

have to look at a profit making by realization

motive.

MR GZELL:  We would not read the Full Court judgment as proceeding on that basis. We do read it as

proceeding upon the basis that it is necessary to

AGC(2) 27 27/4/93

determine whether a profit-making purpose at

acquisition exists, because that is what they went

on to do. Maybe they were led in to that situation

because His Honour the primary judge had done that,

and we cavil with that proposition because

His Honour the primary judge said that, "There is a

business, but I still must ask the question, was a

purpose of realization of a profit extant at the

time the securities were acquired?" and His Honour
then goes on to deal with the evidence and says, "I

find, I infer from the evidence, that there was

such a purpose" .

When it got to the Full Court, the Full Court

said, "We can dismiss the notions that arise from

the Insurance Company cases, and then we will go on
to examine the question: should an inference have

been drawn that a profit-making purpose existed?"

and that was the only question, with respect, that

we thought they then addressed, and they addressed

it, no doubt, because the primary judge had done

so. In addressing it, they simply took the view

that the primary judge's attitude to an initial

letter could be interpreted in a different way, and

I will come to that.

The process by which the primary judge arrived

at this inference was that because the evidence was

that the method of operation of this portfolio had

not changed once Westpac, or the Bank of New South

Wales as it then was in the older days, took over

its management, and because there came to light,

albeit late in the trial, a document which is

internally referred to in later correspondence -

the later correspondence says, "Our instructions to

you are no different from what they were back in

1978". The 1978 document came to light, albeit

late in the trial, and the 1978 document says that,

"You should take advantage of cyclical fluctuations

in the market, selling at highs and buying at
lows".

His Honour said, "Well, that was the

instruction in 1978; it was reaffirmed in later

correspondence. I then have to examine whether

anything changed. The witnesses said it didn't

change. Albeit that the level of turnover was low,

the instructions that were subsequently given were

not inconsistent with the earlier instruction and a

policy of seeking long-term growth was not

inconsistent with the earlier instruction. You can

still use market fluctuations in the long-term

portfolio management; the difference being that one

is looking for long-term trends rather than

short-term trends".

AGC(2) 28 27/4/93

And His Honour concluded, having taken the

evidence that there was no change in philosophy,

"There was a letter that indicates at the beginning

that a purpose in acquisition is realization, I can

properly infer, on the evidence as a whole" - and

particularly because he had rejected some evidence

of the witnesses - "that a purpose was present".

Now, the Full Court, having put to one side the Insurance cases, simply looked at the question

whether it was appropriate for His Honour to draw

that inference. They looked at the letter of 1978

and said, "Well, we don't interpret it the way

His Honour did. What we think it means is that

it's an instruction that if you sell, you don't

have to immediately run back into the market, but

you can wait until the market bottoms before going

back in to purchase". So they ignored any emphasis

upon the suggestion of sale at the top of the

market and, having taken that view of the 1978

instruction, they said, "If we look at the later

instructions, all of them speak simply about

long-term capital growth and nothing else,

therefore we would draw an inference the obverse of

that which the primary judge drew".

That is the way we see the Full Court as having approached its task. The problem in both

the Full Court and the court below is, in our

respectful submission, that Mr Justice Hill and the

Full Court thought that it was necessary, not only that there be established a business, but in addition to that that one should perceive a purpose

of profit making by sale. We say that is

unnecessary. It complicates the test. The test is a simple one. In the normal circumstance where one

has concluded that there is a business, which
involves switching investments, the normal

inference which flows from that finding that there

is a business, because a business is conducted with

a view to profit, is that any necessary

profiting-making purpose will be inferred, and that

is what this Court said in Myer, that once you

found that there was a business it would be normal

to infer the necessary profit-making purpose.

But not withstanding this Court's approach in

London Australia and Myer, this problem still

exists in the courts below. His Honour

Mr Justice Hill is an exampl~ of it because, having

put the test in the way that I have indicated to

Your Honours and regarding the insurance and

banking cases as an exception, he has in subsequent

cases turned to take the view similar to the one

that we are espousing, and perhaps, although I am

jumping, we do not have this on our list, but

AGC(2) 29 27/4/93

perhaps I can hand to Your Honours the judgment in

The Federal Commissioner of Taxation v Hyteco.

This was a case in which a business of hiring

fork-lift vehicles was being conducted and the
question was whether the sale of fork-lift vehicles
formed part of that business, and the facts do not

matter. It is the difference that His Honour has

now developed in the way in which he would pose the

test, which appears at pages 4703 to 4704, and if I

might simply remind Your Honours that in this case

before you His Honour had taken the view that it
was necessary to superimpose upon the requirement

of business a finding of realization at a profit,

which necessarily had the consequence that he would

regard the insurance and banking cases as an

exception, and the difference in approach that is

demonstrated in this case. It starts at the bottom

of 4703:

It is necessary before concluding this

judgment to return to the initial passage

cited in Westfield. In that p_assage I

referred to the case where a transaction was

an ordinary incident of the business activity

of a taxpayer, albeit not directly its main
business activity. Reference was then made to

the insurance and banking cases by way of

example. These cases I have discussed in some

detail in FC of T v Employers' Mutual

Indemnity Association Ltd. A subsequent

appeal brought in that case was

dismissed ..... The banking and insurance cases

are discussed in the same case in the judgment

of Sheppard J at 4852, Burchett J at 4855-4857 and Gummow J at 4860-4861. Reference may also be made to the judgment of Pincus J -

et cetera. And then coming down to the next

paragraph: 

The business of banking and the business

of insurance both require those who engage in

them to invest cash received on deposit or by

way of premiums and surplus to the immediate
needs of the business, so as to provide for
interest, or certain or expected payouts of

benefits of claims. The moneys so invested

form part of the circulating capital of the

business and the investment is so integrally

related to the business that it may truly be

said that the act of realising those

investments is an act done in the carrying on

of the banking or insurance business - And then reference is made to the Punjab case -

AGC(2) 30 27/4/93

The money held by a bank or insurance company

for this purpose is at least analogous to its

trading stock.

It has been made clear by Gibbs J, as he

then was, in London Australia (at 118) that
the banking and insurance cases do not reflect

a distinct and separate line or authority.

They are, rather, but examples of the

principle enunciated in Californian Copper.

That being so, it may perhaps be misleading to treat the insurance and banking cases as a

separate category of case where the main

business of the company (banking or insurance)

is treated as distinct from the business

activity which is, however, closely associated

to it (the making and realising of

investments). It may well be that the proper

characterisation of a banking business, for

example, is both banking and investing. But

whatever be the correct characterisation of a

banking or insurance business, the making and

realising of investments is so integral to the

banking or insurance business that a profit on

realisation will form part of the income of

banking or insurance business. It is in that

sense that I said in Westfield that the

profit-making purpose inherent in the

realisation can be inferred from the

association of the investment activity to the

main business activity. There may be examples

other than banking and insurance, where the

same result follows, not as matter of law but

as a matter of fact.

So His Honour has, in that case, departed from the

way in which he approached it in the case before

Your Honours by regarding the insurance and banking

company cases as but part of a single class of case

determining whether or not the realization of an

investment is on capital account or revenue

account.

He has also taken the view, contrary to the

way he approached it in this case, that one can

infer from the finding of business activity that

any profit-making purpose exists. So that

His Honour does not, in his later case, take the

view that it is necessary to approach it from the

point of view of a finding 0£ business, and then to

ask the question whether there was a purpose of

profit making by sale.

Now that has given rise to a number of

problems in the courts below, because there have

been cases in which there was no finding of a

profit-making purpose at the time of acquisition,

AGC(2) 31 27/4/93

and yet there was a finding of business, and the

Full Court has been faced with the problem that

there is a finding of business, but no finding of a

purpose of profit making at acquisition.	What do
you do?	CMI Services is an example of that sort of
situation.	Mr Justice Lockhart was pressed - the

Full Court was pressed in argument, and it is

explored in the judgment of Mr Justice Lockhart,

that the taxpayer had to succeed because, in the

absence of a finding of purpose of resale at a

profit at acquisition, the fact that there was a
business did not matter. His Honour

Mr Justice Lockhart rejected that, and he rejected

it on the basis of saying that he did not regard

the differences in emphasis between

Mr Justice Gibbs and Mr Justice Jacobs in

London Australia, as giving rise to an additional need for this additional element.

If I could just refer to CMI Services,

94 ALR 153. I do not need to take Your Honours to

the facts apart from the observation that I have

already made. If Your Honours look at page 158,

you will see that there is a reference to the
judgment of Mr Justice Jacobs in London Australia

and the references made to the judgment of Mr

Justice Gibbs in London Australia, and the

discussion then follows as to whether or not there

is a difference in approach between the two. That

appears at pages 160 to 162. It is finally

resolved in His Honour Mr Justice Lockhart's view,

at the bottom of 162:

I do not read Jacobs J's reasons for

judgment as departing from the well

established principles which determine whether

a taxpayer has derived income according to

ordinary concepts pursuant to s 25(1) and

which do not require that a taxpayer who

purpose of resale at a profit when assets are carries on a business must necessarily have a acquired in the course of carrying on the
business.

Now, the way in which Mr Justice Hill approached it

in this case is the opposite to that, because he

took the view that you would not have a business

that led to a revenue flow unless there was also

established the purpose of realization of profit at

acquisition. So that the confusion has arisen. It

is referred to in other authorities and we have

listed those in the part of our outline, headed

"Controversy".

I have taken Your Honours to HyTeco. Radnor

was a case in which a company was the vehicle of a

trustee and the Court took the view that a business

AGC(2) 32 27/4/93

was not being conducted and the activities should

be treated in terms of the requirements of the

trustee.

There had been suggested to be a conflict

between the CMI Services case and another decision, Equitable Life. Equitable Life was a case in which

a concession had been made that the taxpayer was

not a share trader and that the shares were not
trading stock. His Honour, Mr Justice Davies, took

the view that that being so, that was the end of

the matter, the realizations must be on capital

account. The apparent conflict between these two

cases, which is referred to by Mr Justice Hill in

the court below was again referred to in Radnor in

the judgment of Mr Justice Gummow, who sought to
dispel any difference between the two cases. But,

again, the problem arose by perceived differences

in approach stemming from London Australia. In our

respectful submission, this case being before

Your Honours, the opportunity ought to be taken to

dispel that controversy.

In this case, an attempt to make those

submissions to Their Honours who constituted that

Full Court met with a sharp criticism from the

bench as to the minuteness, apparently, of argument

that they thought was being addressed to them.

MASON CJ: This seems to have been directed at you,

Mr Gzell?

MR GZELL:  It was, indeed, Your Honour, it was indeed. The

submissions that were being made, in any event,

were that it has been perceived in other cases that there was a difference in approach and in that case
we said, if there be a difference of approach, it

does not matter, because the factual matrix will
determine the matter. If I might summarize, without necessarily

taking Your Honours back to where I departed from,
the cases that I had intended to take Your Honours

to in the insurance line that I did not were

Chamber of Manufactures. Chamber of Manufactures

raises, as an aside, the question whether, if one

were able to set aside a fund which was divorced

from the activities of the insurance business -ould

that avoid the consequence which would normally

flow from the Insurance Company cases. It was

merely an observation in the course of that

judgment. But in RAC Insurance, which followed, an

attempt was made to argue that the matter fell

within that sort of exception.

That case was the subject of a special leave

application, but the special leave application was

AGC(2) 33 27/4/93

rejected upon the basis that there was not a

sufficient demarcation of the fund to give rise to

an argument based upon the suggested exception in

the Chamber of Manufactures case.

Employers Mutual, which was also on our list,

was an attempt to invoke - perhaps before I leave

RAC Insurance, I should say that in RAC Insurance,

the scale of realizations was similar to the scale

of realizations in this case. There were, over a

ten-year period, acquisitions in some 49 companies,

59 acquisitions in total. There were 13 sales made

in that period, nine of which involved take-overs,
and that is certainly the sort of pattern that is

involved in the case before Your Honours.	By that,
I mean a limited sort of pattern.

If I can take Your Honours to the appeal book

at pages 33 to 40, this sets out year by year the

acquisitions and dispositions from the portfolio,

and Your Honours will see that in 1982 there were

new investments which total just over $1 million

and then below that "investments extended", which

meant that there were new acquisitions in stocks

already held, and that totals about $5.9 million.

So that the acquisitions during the year are

$7 million, as set out at the bottom of the page.

Then if one turns over, in contrast, there

were assignments of rights, at the top of the page,

of about 434,000; sales on takeover of about

$1.5 million - and I should pause there to say that

the evidence was that very rarely would the company

actually wait for a compulsory acquisition; that

if - - -

MASON CJ: Very rarely?

MR GZELL:  Very rarely would it wait for a compulsory

acquisition. If a takeover offer were made, an

assessment would be made as to whether or not a

sale on market before compulsory acquisition was in

the interests of AGC, and the decision was normally

taken that it was, that it was better to get - - -

MASON CJ:  It might be left in - locked in as a major

shareholder.

MR GZELL:  It might be, yes. I am not criticizing this; I

am just mentioning that when Jt says -

MASON CJ: But why are you mentioning it? What is the

significance of not waiting?

MR GZELL:	I am qualifying the words "sales on takeover".
MASON CJ:	I see.

AGC(2) 34 27/4/93

MR GZELL:  That it would be preferable if it said "sales as

a result of takeover offers", and we are not being

critical at all. The evidence was that commercial

reality dictated that if a takeover offer had been

made and it was likely to succeed, it was better to

get out, albeit the price might be a little lower

on the market, because you have got your money a couple of months earlier than would otherwise be

the case.

Sales on divestment are then listed, and there

is just under one million of those, so there is

about $2.5 million of realizations as against

$7 million of acquisitions. That sort of pattern

continues year by year until 1987, when there is

the big sell-off because Mr Robson anticipated that

there would be a fall in the insurer market.

The scale of the transactions cannot be the determinative factor, in our respectful submission.

For the one thing, the fact that there are few

realizations in a switching process may be

indicative of astute purchasing and, for another,

it does not matter if the process is long-term

growth. The simple question is, are these

investments available for the utilization as part

of the business? In these circumstances, where
they were at call of the parent insurer, His Honour

the primary judge was entitled to take the view

that that meant that he could characterize the

business of the subsidiary as involving

realizations from time to time, albeit on rare

occasions, and that that characterization of the

business activity meant that the proceeds of

realization were on revenue account.

Employers Mutual, 103 ALR 17, is a case which

does involve a reserve distanced from the first

line of attack. The facts are set out at pages 21

to 22. Suffice it to say that it was an insurance

company which divided its business into sections by

industry type of its members. There were section

accounts in which immediate surpluses were invested
and from those section accounts surpluses on

investment were transferred to a general fund

account, and it was argued that this general fund

fell within the exception that had been mentioned

in the Chamber of Manufacturers case, and the

argument failed because the general fund was not

totally divorced from the insurance business and

was available, albeit as.a fund of last resort, as

it was described by Mr Justice Sheppard, at

pages 21 to 22. At the bottom of the page:

Reliance was placed by the company on the

evidence that only very limited recourse on

one occasion had been had to the general fund.

AGC(2) 35 27/4/93

But it is not at all difficult to envisage

circumstances in which there may arise,

perhaps out of the one incident or one series
of incidents, a mass of claims which would

require the company to have some recourse,

perhaps substantial recourse, to the general

fund. To my mind the evidence is not capable

of establishing that the general fund was not

one which, foreseeably, would ever be

reasonably likely to be required to meet

claims.

Mr Justice Burchett took a similar view and he referred to the observations of Mr Justice Kitto in

an earlier case. At page 25 the National Bank of

Australasia that is referred to there was a case in

which there was a takeover of a Queensland bank and

in the process of taking over the assets of the

Queensland bank, some shares in a pastoral company

were acquired. The evidence was that that was to

enable the bank to step into the shoes of the

Queensland bank and tap its customers, and the

realization of those shares was held to be part of

the capital structure rather than part of the
business activity. But in passing Mr Justice Kitto
observed - and the observation is set out at the

top of page 25 in the Employers' Mutual report:

"The purchase of the shares bore no

resemblance to an investment of banking funds,

made to earn income pending a need for their

deployment in the making of advances and the

like; it bore no resemblance to an investment

by way of erecting a second or third line of

defence against a time of stringency or

emergency.

So that in His Honour Mr Justice Kitto's mind it

did not matter whether an insurance company or a bank had a series of lines of defence. The

question was whether or not it was a reserve to

meet the exigencies of the business, albeit that

that reserve might not be expected to be called

upon. His Honour Mr Justice Burchett, having

referred to that observation, goes on at line 22:

It will be apparent from this passage

that an investment fund of a bank (or of an

insurance company) will not be excluded from

its banking (or insuran~e) business because it

is unlikely to be utilised for the making of a

payment in that business, being reserved as "a·

second or third line of defence". Like the

last line at Torres Vedras, it may not need to

be called upon, but it is nevertheless an

integral part, although only as an ultimate

reserve, in the whole operation. It was not

AGC(2) 36 27/4/93

as a reserve, but because their purchase "stood outside the course of the banking

business" that the shares in National Bank of

Australasia did not yield a revenue profit

upon their sale.

That reference to Torres Vedras I had to look

up. His Honour's scholarship was that during the
Napoleonic Wars and in particular in the Peninsula

War at Torres Vedras, the British troops built a

line of fortifications to prevent Napoleon's

onslaught into Portugal. Apparently there were

three lines. The first line was a massive line of

a number of miles, the second line was a lesser

line and the third line was around the town itself.

Apparently Napoleon's troops approached the first

line of defence, one shot was fired, the French

troops withdrew and never came back again. So

hence His Honour's allusion is to the circumstance

that notwithstanding that the third line of defence

might not be expected to be called upon at all,

none the less if it is an incident of the business,

realization of investments from it are on revenue

account.

GRE Insurance, 34 FCR 160, is the final one in

this line to which I will take Your Honours. There

are two matters involved in this case, the second matter is the one with which I am concerned. The

second one was a wholly owned subsidiary of the

taxpayer and the first to which an investment

portfolio had been transferred which would

otherwise have formed part of the investment

portfolio of the parent and that appears at

page 164. The group treated the parent and the

subsidiary as one, which is similar to the

circumstance in this case. The trial judge had

regarded the Insurance Company cases as not being

applicable, but the Full Court disagreed with that

view on the basis that the activities of the

subsidiary were an integral part of the insurance

business, and that appears at pages 164 to 165. Towards the bottom of 164, having pointed out

that the trial judge had set the Insurance Company

cases to one side, the Full Court said this:

In our respectful opinion, however, the

activities of Unitraders were an integral part

GRE.
of the insurance business conducted by owned subsidiary rather than by GRE directly, the equities indirectly formed part of the

funds representing the insurance reserves and

part of the circulating capital of the
business. Just as the prudent management of

the investment portfolio of an insurance

AGC(2) 37 27/4/93

company ordinarily requires that some

proportion of equities be held as well as

government securities, mortgages and

debentures, so, in this present case, it was

always an element of the investment strategy

that a proportion of equities be held. And

that strategy continued, the proportion

varying whenever it seemed prudent from an

investment point of view to vary the mix.

As the reason for holding the equities in

Unitraders rather than GRE was to enhance the

profits, the after-tax profits, of the

insurance business, we are unable to regard the activities of Unitraders as being other than an integral part of the insurance

business, whose profits were by this technique

increased.

That was sufficient for the Full Court to

conclude that the profits on realization of the

investments were income according to ordinary

concepts. In our respectful submission, the

conclusion of the primary judge that they were

income according to ordinary concepts is to be

preferred to that of the Full Court.

I have already said what I wanted to say in

respect of the use of the insurance cases. Perhaps

I can pass to the way in which the Full Court dealt

with the matter, having set aside the Insurance

Company case. We say that they were wrong to have

done so, that the primary judge was entitled to
have regard to the Insurance Company cases. If one

does have regard to the Insurance Company cases

then it follows, in our respectful submission, that
the judgment of the primary judge should be
reinstated because if the activities are the

activities of a business in respect of which the

fund is held for the exigencies of the parent

insurer, the holding of that fund is part of the

business activity, it does involve from time to

time switching of the investments in it and the

process of switching is but a process of the

business and the proceeds are on revenue account.

What the Full Court did, having rejected the

approach that His Honour took to the Insurance

Company cases, appears at page 444 through to 446.

At page 444, line 15, having 4dverted to the

circumstance that the investment strategy was long

term, rather than to meet short-term liquidity

needs, the Full Court said this:

The evidence also indicated that, insofar

as liquid funds were required for the purposes

of the insurance operations, they were found

AGC(2) 38 27/4/93

in sources other than the appellant's share
portfolio. Reliance was place, on behalf of
the Commissioner, upon the circumstance that
when, in April and September 1986, the

appellant repaid AGC (Insurances) the sums of

$1,000,000 and $9,000,000 respectively, the

latter used these funds to acquire bank bills.

Even if it be accepted, without finding, that

these circumstances indicated a desire by AGC

(Insurances) to obtain substantial funds in a
liquid form at that time, it does not follow

that the appellant's investment policy was not

oriented towards long term capital growth.

Now I pause, simply to explain that reference to

the $1 million and the $9 million returns. The

evidence was that the insurance parent never had a

need to call upon investments to meet the liquidity

exigencies of the business. Then, in the course of

evidence, it appeared that there were flows of

funds of $1 million and $9 million going back from

investments to insurances, and in the course of

cross-examination it appeared that those funds went

back either because the workers' compensation

business was being run down, and workers'

compensation claims being long-tailed, in the sense

that the claims continue long after the premiums

had stopped, there was a need for funds in the

insurance company, or whether the explanation was

that it was part of the strategy of reorganizing

the liquidity of insurances because of the view

that the Insurance Commissioner had taken.

His Honour the primary judge formed the view

that either explanation indicated that there was,

at least at that time, a need to call upon

investments for a liquidity need of the insurer

and, in that respect, he rejected the direct

evidence to the contrary of Messrs Robson and

Crisp. The Insurance Commissioner, in 1984, had

changed the view which he took of the investment

that the insurance company had in its subsidiaries.

Both in 1982 and in 1984 there was a deficiency of

assets over investments for the purpose of the

return to the Insurance Commissioner if one ignored

the investment in subsidiaries, and in 1984 the

Insurance Commissioner took a view that he would

only allow, as the asset represented by the

investment in the subsidiary, the loan account, and

would not take account of any capital groth in the

investment portfolio below, and the evidence was

that, as a result of that approach of the

Insurance Commissioner, a deliberate rearrangement

was made to ensure that insurances could answer the

solvency ratio without recourse to the

subsidiaries.

AGC(2) 39 27/4/93

That was primarily done without effect upon

investments. It was primarily done by pulling back

investments from the subsidiary securities and by

curtailing any further investments into securities,

so that the policy was to be achieved without

affecting the share portfolio that investments

held, but there was this movement of $10 million
worth of funds in that year and the twofold
explanations that were suggested in evidence led

His Honour to conclude that there was an occasion at which investments was called upon for funds.

I have diverted. To go back to the appeal

book, at page 445, Their Honours having said, as is

the case, that the fact that in one year there is a

call upon the funds does not negate the policy

being oriented towards long-term capital growth,

the Full Court then goes on:

With the possible exception of the

correspondence in 1978 concerning the London

Australia case, to which we now turn, the documentary and other evidence, taken as a

whole, indicates that Westpac Management was

instructed to achieve, and did achieve, the

objective of long term capital growth in the

appellant's share portfolio.

And then:

The correspondence in 1978 concerning the

London Australia decision.

Now, the letter that is being referred to is at

page 288 of the record, and this is the January

letter that His Honour concluded demonstrated that

the instruction to take advantage of cyclical

fluctuations indicated that the policy which was

being adopted in acquiring securities contained as

a purpose - not necessarily the dominant purpose or

indeed a major purpose but a purpose - realization

of the security at a profit.

We have received your letter of 9th December -

and I am skimming -

The present investment represents a cost to us

of $10,741,276 ..... we will welcome advice from

time to time on any specjal investment ..... As

you know, we are currently discussing our

investments with the Workers' Compensation

Commission of New South Wales and you have

details of the investments on which the

Commission have either placed an embargo or

limitation. It is important that you operate

AGC(2) 40 27/4/93

within these guidelines in the management of

our portfolio.

When we have overcome the current problem with the Commissioner we will con.sider a programme

of regularly allocating further funds to you for investment. This will be discussed with

you later.

We have requested our tax advisers to report on the effect that the decision in the

London/Australian Investment case may have on

our investments. If we are to be taxed on the

principles set out in the judgment we may as

well face these issues and exploit all forms of gain from our equity operation. We shall

inform you their advice and the policy we

should like to follow.

Notwithstanding the above we feel it is

important that you should fully exploit the

cyclical fluctuations in the share market by

capitalising on market highs for sales and

repurchasing at the bottom of ·any depressed

period.

The point we make is that if we sell any stock

the reinvestment does not have to be made

immediately unless the decision to sell was

made with the intention of replacing the stock

sold.

The main recommendations in your submission

with which we agree are -

and then those are set forth, and then at the

bottom of the page:

In addition to the above we should like you to

refer to us for approval any proposed sales

which will create a capital loss in excess of

$10,000 for approval.

Now, the Full Court construed that reference

to taking advantage of cyclical fluctuations as

meaning no more than if there were a sale, then you

did not have to re-enter the market immediately but
could wait until the market had bottomed - and I

will take Your Honours to their analysis in a

moment - but, in our respectful submission, that

looks at but one side of the equation and the clear

instruction is that one should capitalize both at

the bottom and at the top by purchases at the

bottom, true, but in addition to that, the

instruction being given that His Honour was

entitled to conclude indicated a purpose of

AGC(2) 41 27/4/93

realization of a profit was that advantage should

be taken of the market highs to sell.

What Their Honours in the Full Court did

appears at page 445 line 10 in relation to this

document:

It will be recalled that, by its letter

dated 26 January 1978, the appellant informed

Westpac Management that the appellant was

seeking advice as to the effect of the London

Australia decision; and that, if the

appellant were to be taxed -

et cetera. Then there is set out the portion from

the letter dealing with the exploitation of

cyclical fluctuations. Then at line 21:

On behalf of the Commissioner, much

reliance is placed upon this passage to

justify the inference, at the time of

acquisition, of a purpose or intention on the

part of the appellant, of profit-making by

subsequent sale.

We have difficulty in accepting this

submission. For one thing, the existence of

such a purpose would be inconsistent with the

well documented instructions to Westpac

Management, before and after this letter and

confirmed by the oral evidence, to acquire

stocks with a view to long term investment.

MASON CJ: Were there well documented instructions to that

effect, both before and after this letter?

MR GZELL:  The answer is yes, and they are set out in the

judgment of the primary judge from page 416 - well,

this will do - in the judgment of the Full Court

they are set out from page 416 through to page 419.

The point is that those documents are not

inconsistent with the notion of taking advantage of

the cyclical fluctuations, and those instructions are instructions in relation to long-term growth.

But the point we make, and the point His Honour the

primary judge made, was that a policy management on

the basis of seeking long-term growth is not

inconsistent with a notion that switching will take

place, to take advantage of cyclical fluctuations

in the market.

More importantly, what Their Honours in the Full Court are doing is referring to their construction of this document to negate the inference that any purpose on the acquisition of these securities was realization of the profit.

That is their ultimate end.

AGC(2) 42 27/4/93

Again, long-term growth as a portfolio

management policy does not negate the existence of

a purpose of realization of a profit on

acquisition. So to go back to page 446:

and confirmed by the oral evidence, to acquire

stocks with a view to long term investment.

For another, it will be recalled that the

letter went on to explain the above passage as

follows:

"The point we make is that if we sell any

stock the reinvestment does not have to be

made immediately unless the decision to sell

was made with the intention of replacing the stock sold. 11

Then Their Honours say:

When the letter is read as a whole, it

appears that the appellant was not instructing

Westpac Management to become a trader in

shares - ·

we accept that with this reservation, that if there

is a distinction between a share trader and a

business of investment, then we accept the

observation -

nor was it giving instructions that a system

of "switching" securities in a regular

organised and large scale fashion, as was done

in London Australia, be embarked upon.

The letter was silent as to the scale of the

switching. The letter simply said, "take advantage

of cyclical fluctuations".

McHUGH J:  You talk about switching, but it is really

intended to instruct the portfolio managers to

preserve capital by selling when the market is high

and before the market declines.

MR GZELL:  With a view to investing the proceeds in another

security, and that is what I mean by switching.

MASON CJ: But not surely in shares in a company, because

the whole theory of the instruction was that the

market for shares would have highs and lows and you

would sell when a market high was reached, and that

meant you would defer reinvestment in shares until

such time as a market low was reached. So that

there would not be switching in the sense that you

are out of one share into another share.

MR GZELL: Switching of investments. I am sorry,

Your Honour. By "switching" I simply mean, and I

AGC(2) 43 27/4/93

have taken the term from some of the older cases,

that one moves from one investment to another

investment to take advantage - - -

MASON CJ: Yes, a fixed interest one, for example?

MR GZELL: 

Could be, or it could be moving from one lot of

shares that are over-priced in the market to
another lot of shares that are regarded as a better

acquisition.

MASON CJ: That is the point I am taking issue with you on.

I would have thought the instruction was

inconsistent with that. It is talking about the

market highs, it is not talking about highs for

particular shares.

MR GZELL:  Does it matter, Your Honour, I ask

hypothetically, because - let us assume that it is

confined to an instruction to say, "Sell if the

equity market is high, buy back into the equity

market if it is low", but the notion is that the

management of the portfolio will involve, if there are sales from the equity market, an investment in

a different form of property and that different

form of property, for some other reason, may be

realized at a later time - does it matter? It is

still an incident of the business that the

portfolio of investments be changed from time to

time. In the process of change there are

realizations, the realization is an incident of

that business activity, the profits arising

therefrom are income according to ..... concepts.

McHUGH J:  Can you really get much out of this? I mean, it

is almost touching in its faith in the judgment of

the advisers to pick the market highs and to pick

the bottom of the market.	I mean, what is a market
high?

MR GZELL: True.
MASON CJ:	You had better ask that question of Mr Robson.
MR GZELL:	Mr Robson was the one who knew at least when it

was going to fall. Your Honour, it is the use that

is made of this letter by the Full Court that I am

concerned with. The primary judge used it as one

of the matters that he took into account in the

exercise of determining whether it was proper for him to infer that one of the purposes at the time

of acquisition was profit making by realization.

The Full Court concluded that one ought not to draw

an inference that any purpose at acquisition was

profit making.

AGC(2) 44 27/4/93

One might think that that is odd because if

you have got a portfolio that is being managed and

there are deliberate decisions being made in an endeavour to improve the overall growth of that

portfolio which involve decisions to sell and to

switch to another form of investment, one would

have thought that it is odd in that sort of

circumstance for a Full Court to be able to

conclude contrary to the primary judge that there

was no intention at the time of acquisition that

these securities should be acquired with a view to

realization at a profit.

That is what we cavil with. This is the way

in which the Full Court overruled the primary judge

and came to the conclusion that there was no

intention, and they approached it in that way.

They said the question is whether an intention, not

the dominant or sole intention, an intention. Let

me say also, we submit that the manner in which

they sought to construe that letter was odd.	They
go on to say:

When the letter is read as a whole, it

appears that the appellant was not instructing

Westpac Management to become a trader in

shares -

all right -

nor was it giving instructions that a system

of "switching" securities in a regular

organised and large scale fashion, as was done

in London Australia -

we accept that; it was innocuous as to the scale of

operations -

be embarked upon. Rather, against the

background of the standing instructions to aim

for capital growth in the long term, the
appellant was making the point that if stocks
were sold, it was not necessary to go into the

market immediately to replace those stocks for
their own sake; rather, regard should be had

to "cyclical fluctuations" in deciding on what

action to take and when to take it. These

instructions are consistent with an objective

of long term capital growth.

And then they go on to say:

when regard is had to the whole of the

material in evidence, it should be concluded

that the appellant has discharged the
statutory onus of demonstrating, as a matter

of proper inference from the facts, that at

AGC(2) 45 27/4/93

the time of acquisition, the shares in its

portfolio were not acquired with an intention

that they be realised subsequently at a

profit.

Now, we say that that line of argument to defeat

the inference that was drawn by the primary judge

is unconvincing. In the first place, the latter

itself talks about sales as well as purchases, and

they would have it that the instruction is limited
to taking advantage of the low to go back into the

equity-market. In the second place, this is

precisely what happened in 1987. Mr Robson

foresaw, astutely, that the equity market was

overheated and he gave instructions for the

wholesale - I retract that. His view was that there

ought to be a wholesale sale of the investments in

shares, but he had some resistance from the people

who had built up the portfolio and it suited his

purpose to give instructions to sell off gradually

so that an appraisal was done and certain shares

were allocated and they were sold off first.

MASON CJ: What did they do with the proceeds of

realization?

MR GZELL:  I was about to come to that, Your Honour. The

instruction was that the proceeds of realization go
into fixed interest securities, but it is clear

that Mr Robson regarded that as an interim measure

only and that when the market picked up again they

should re-enter the equity market, and that

appeared -

McHUGH J: Not when it picked up, when it - - -

MR GZELL:  Let me say when it became more stable. I am

sorry, Your Honour, you are quite right. Before it

picked up again; when it became more stable, his

where Mr Robson's instruction to the chief general	view was that the equity market should be re-entered. That appears at page 84 of the record
manager:

Australian Stock Exchanges have fallen

recently from an extreme peak as gauged by the

various Stock Exchange indices. It would seem

prudent to liquidate many of our equity

holdings, reinvesting in fixed interest

instruments, with an intention of reinvesting

in equities when the marKet reaches a more

stable and realistic level.

MCHUGH J: What is the situation, do you say, of an investor who buys for dividend yield, but with a policy also of selling whenever it thinks that the price of a

AGC(2) 46 27/4/93

share is over valued and maybe the dividend yield

is still the same?

MR GZELL: 

There are going to be grey areas, but if the

factual matrix leads to the conclusion that the
taxpayer's activities were those of acquiring

investments for the purpose of taking the income

stream that flowed from them and that his

activities did not amount to the conduct of a
business, then the fact that he had in mind, as any

individual would when he embarks upon an

investment, there may be some need from time to

time to change the investment, to sell it or to

move into something else, would not cause the

activity to be characterized as involving, as an

ordinary incident, the realization and, in

consequence, realization would be treated as

incidental to the activity of acquisition and

holding for the income stream and the proceeds of

sale would be on capital account, in our

submission.

DAWSON J: 

What do you draw from the fact that it takes place in the context of the business?

MR GZELL: 

I go right back to Californian Copper Syndicate v

Harris in putting that proposition and saying - - -

DAWSON J:  As it applies, the necessary intent at the time

of acquisition.

MR GZELL:  No. I just simply make the distinction that if

one approaches it from the point of view that mere

realization of a capital asset is on capital

account, the question is what is mere realization,

and what takes you over the fence to the other

side. What I was saying was, that if the

activities are characterized as not constituting a

business and are mere realization of the

investment, then it is on capital account. If the facts, considered as a whole, are

regarded by the tribunal of fact, as constituting a

business, then that business will have, as its

necessary incident, acquisition and realization,

and the consequence will be that any realization in

the conduct of that business will give rise to

income according to ordinary concepts.

I started by saying the~e will be a grey area

in between, but that is a problem that the tribunal

of fact will have to determine. The best we can,

in trying to put the proposition as a matter of

principle in the division of the mere investment

from the business, goes back to the test that - - -

AGC(2) 47 27/4/93

DEANE J: But you say you cannot have a business as mere

investment?

MR GZELL:  No. We do say that. Although, that may be a

matter of semantics, Your Honour, because one can

say that the difference is activities which do not

constitute a business and are activities of mere

investment, on the one hand, contrasted with a

business which is the way it was put by the

Lord Justice Clerk in Californian Copper v Harris, one might achieve exactly that same result by saying, you can have a business of investment which

is different from a business of investing, as our

friends suggested in the Court at first instance,

the difference being, that the business of

investment involves, as its incident, only the

acquisition and holding, and that any realization

is peripheral, whereas, the business of investing

involves, as an incident, acquisition and

realization.

It may be a matter of semantics as to whether

one says that you can have a business of investment

which leads in the ordinary course to proceeds

being on capital account, and a business of

investing which leads to proceeds being on revenue

account, or the way we would prefer to do it

because it seems to us to be neater and easier to

make a clear distinction by saying you have mere

realizations from activities that do not constitute

a business but are investment activities on the one

hand and a business of investment on the other

which does.

I was about to make the point, in relation to

this approach of the Full Court, that they seem to

have jumped from the conclusion that if you have a

policy which is directed to long-term capital

growth it cannot be the case that a purpose of the

acquisition of any of those securities was

realization of profit, and we say that that just

does not follow, that a portfolio managed with a

view to its long-term growth can just as much have

as an incident of the acquisition a purpose that

they will be realized from time to time as and when

required.

The frequency of that realization will be much

less, but it does not negate the circumstances that

there is a purpose, just as in the case of mere

investment. It is unlikely that a person engaged

in mere investment will not have as one of his

purposes at the time that he acquires the

investment for its income screen the purpose of

realizing a profit, if that should become obvious.

48   27/4/93

MASON CJ:  Mr Gzell, we will adjourn now and resume at 2.15.

AT 12.46 PM LUNCHEON ADJOURNMENT

UPON RESUMING AT 2.17 PM:

MASON CJ: Yes, Mr Gzell.

MR GZELL:	If the Court pleases, I have been told that I did not make a submission clear enough this morning,
that in respect of the suggested exception in the
Chamber of Manufacturers that one might avoid the
implication of the Insurance Company cases by setting aside a reserve as a second or a third
reserve. In our submission, that is not sufficient
to avoid the ramifications of the decisions, and I
thought that was implicit in the submissions.
MASON CJ:	I thought that came through very clearly.

MR GZELL: Well, Your Honours, I will not go back and repeat it. The last case that I want to take Your Honours

to is Trent Investments Pty Ltd v Federal

Commissioner of Taxation, 10 ALR 58. This is a

case which is against us, and no doubt our learned

friends will rely upon it before this Court as they

have done previously.

McHUGH J:	Has Trent survived London Investment?
MR GZELL:	Your Honour, we would say that it is either

wrong, in the light of London Australia in the High

Court. This was decided after Mr Justice Helsham's

decision in London Australia, before it got to the
High Court.	We would say it is either wrong in

light of the approach taken in the High Court, or

it is simply distinguishable because there is a

clear finding on the part of Mr Justice Mahoney

that notwithstanding the activities in that case he

concluded that it was not a business. I refer

Your Honours to it simply to highlight those two

propositions, in our submission, that one would

think, having a look at the factual matrix in it,

that the decision might not have gone the way

Justice Mahoney decided it, ix it came before the

courts today. And if that becomes a matter of
significance - because the report of the judgment
of Mr Justice Mahoney does not deal with the

aspects of sale because His Honour was content to

rely upon the statement of facts before the board

of review, so that if it does become a question for

AGC(2) 49 27/4/93

Your Honours' analysis of that, we will hand to

Your Honours copies of the case before the board of

review, which is case E6, 73 ATC 24.

I am not going to dwell upon it, except to say

that that sort of fact situation1 in our

submission, is unlikely to lead now to a

determination that no business is involved and one

should regard Trent Investments as a doubtful

authority in the present context.

So that, in our respectful submission, on this

aspect of the case, that is whether there was an

investment business, both the Full Court and

Mr Justice Hill went wrong in placing emphasis on

the need to demonstrate, in addition to the

question whether a business was involved, that

there was a purpose of resale at a profit. In any

event, Mr Justice Hill did infer that the purpose

and, in our respectful submission, his inference

and the basis for his inference, is to be preferred to the Full Court's view of the matter and his view

should be reinstated.

In our outline of submissions,· at paragraph 4,

we refer to what we have called the "controversy".

I am not going to go back over that. We have set

out, in the outline, the references to the cases.

I have taken Your Honours to some of them. The

references in Myer and, on the previous page, to

London Australia are set out, they are well know.

The submission that we make is that, in view

of the controversy, Your Honours should take the

opportunity to restate the principle, simply in

terms of the test in Californian Copper v Harris.

That brings me to point 5 in our outline of

submissions, and might I say this about point 5.

It really is an alternative submission because we

have said up to now that the inference that was

drawn by the Full Court, contrary to the inference

that the primary judge had drawn, ought not to be

accepted for the reasons that I addressed

Your Honours this morning.

Really, this submission about the use of

rejected evidence is in the alternative. If

Your Honours were of the view that an inference,

along the lines that the Full Court drew, was open,

then our submission in point 5 is that it is not

simply a warren v Coombes-type situation, in which

the Full Court was in just as good a position as

the primary judge, because the primary judge did make some adverse findings in respect of each of

the three witnesses. We have set out, where he

made those findings, and indeed we have set out, in

AGC(2) 50 27/4/93

addition to that, the portions of the evidence upon

which reliance was placed to arrive at those views.

So that portions of the evidence of Mr Gates were rejected; that was on the basis that Mr Gates had said that he always had to refer a decision of

for sale to AGC Investments before he effected it.

That was his testimony in the witness box. It was

inconsistent with what he had said in his affidavit.

His affidavit was that, notwithstanding that he had

couched his letters in the terms of a request for an

instruction, he had in fact made the decision and

oftentimes effected the decision before he sent the

letters.

Now, there is a deal of analysis by His Honour

and a deal of evidence in the cross-examination of the inconsistency between that proposition that he
always had to refer matters back to his client and
the contemporaneous documentary evidence, and we

have set that out to justify His Honour's view that

that portion of Mr Gates' evidence should be

rejected.

Likewise with Messrs Robson and Crisp.

Mr Robson had said that there was never a need to

call upon investments for the purposes of the

business of insurances and I have already indicated

to Your Honours this morning that the 9 million and

$1 million amounts that went back from investments

to receipts were in contradiction of that testimony

of Mr Robson and His Honour the primary judge so

found.

Mr Crisp was regarded as unsatisfactory

because he sought to explain that 9 million and

$1 million amount as the result of an abnormal
profit being derived in a particular year, but it

was pointed out in the course of cross-examination

that that abnormal profit had nothing to do with

real cash because it was a changed accounting

standard which required a difference in the

accounting approach which threw out this profit and

that could not have been the source of funds

actually moving back from investments to

insurances.

So, upon the basis of Mr Crisp's attempts to

explain the $10 million and ultimately concluding

that it was either a question of the Insurance

Commissioner's requirements leading to this

strategy of reliquifying the holding company, or as

something to do with the run-down of workers'

compensation business that His Honour found that

Mr Crisp was unsatisfactory as a witness. Now,

His Honour was entitled to have regard to the views

of the witness in drawing an inference from the

AGC(2) 51 27/4/93

totality of the evidence. It is impossible to

divorce and set to one side the view that he formed

about the witnesses and to say, "He could not have

been influenced in that" and we can then look at it

as a Warren v Coombes-type situation, as the

Full Court did. We simply say it is impossible to

extract from the ultimate inference that His Honour

drew from the totality of the evidence the effect

that his view of the witnesses had and, that being

the case, this is in the Brunskill v Sovereign

Marine and General Insurance-type situation.

I say, Your Honours, that that is an

alternative submission, because it is only if

Your Honours formed the view that the Full Court

was entitled to draw an inference upon the basis of

its rationalization that that question will arise.

And those are our submissions.

MASON CJ: Well now, Mr Gzell, on more than one occasion you

have asked us to restate the principle in

Harris's case.

MR GZELL: Yes.

MASON CJ:	Now, the principle in Harris's case is that stated at page 614 of the Colonial Mutual Life
case, is it? That is:

it is equally well established that enhanced

values obtained from realizational or

conversion of securities may be so assessable,

where what is done -

et cetera?

MR GZELL:  Yes.

MASON CJ: Now, the important part of that formulation is

the words at the end and they are the words that, I

think, you advert to:

but an act done in what is truly the carrying

on, or carrying out, of a business.

MR GZELL:	Yes.
MASON CJ:	Now, what significance are you giving the word

"business" in that context? Is it the business

whatever it is that the company is carrying on or

is it the business of realizing and converting

securities?

MR GZELL: Well, I have used it in that latter sense,

because that is the way it is used, I would have

thought, in Harris's case - - -

AGC(2) 52 27/4/93

MASON CJ: In Harris's case, that is right.

MR GZELL:  - - - because one starts off with the

proposition, as His Lordship did, that normally a

realization of a capital asset is an affair of

capital and then he goes on to say, but:

it is equally well established -

so that he was regarding it in the latter of those contexts, that is, whether or not the transactions in respect of the investment could be categorized

as a business.

MASON CJ: That is right, so that in this case, if we were

to apply this principle, you would have to

establish, in order to succeed, that the taxpayer

was engaging in the business of realizing and

converting securities.

MR GZELL:  I have put it slightly differently; I have simply

said that it is in the business of acquiring and
realizing securities, but realizing and converting,

I accept, because the process of realization will normally involve conversion, and did in this case,

so soon as there was a sale, albeit that they were

infrequent, the proceeds of sale were used for

reinvestment. The evidence was that there were

advances from time to time by AGC (Insurances) to

AGC (Investments), but that, in respect of the proceeds of sale and dividends, or interest flows

from the portfolio, they were available to be

reinvested by the manager of the portfolio.

So, I do accept, Your Honour, the analysis

that Your Honour the Chief Justice has put to me.

The primary judge, in our respectful submission, at

the first part of his judgment, deals with it in
that fashion as well, and concluded that the

activities were the activities of a business in

that sense, and we rely on that finding and submit

to Your Honours that none of the analysis of the

Full Court contradicts that view of the matter.

MASON CJ: Yes, thank you. Mr Ellicott.

MR ELLICOTT:  Your Honour, I am told that we have misstated

- at the foot of the first page, it says that the

appellant having conceded below that the respondent

was not a share trader. They would not concede

below that it was trading stock. It does not

really matter to our argument. The fact is it was

not held that we were a share trader or that what

we held was trading stock. Our argument does not

depend on that and I do not want to have a debate

about that really. I do not want Your Honours to

think that it is a matter of debate.

AGC(2) 53 27/4/93

Your Honours have listened to my friend all

the morning and, with great respect to my friend,

we would submit that what is involved in this case

is a question of fact, that there is no question of

principle. My friend says, "Please say it again",

as they said it in Harris' case, but when you say

it again, Your Honours will add the qualifications

that Your Honours added in Myer. It all turns on

whether there was a purpose of profit making and it

has to be a purpose of profit making of the

business.

Really at the end of the day this Court is

being asked to upset the Full Federal Court which,

after all, is supposed to be the final court of

appeal on tax matters these days on a question of

fact. If Your Honours of course are prepared to entertain that, then of course Your Honours

necessarily - and I do not say this in terrorem -

have to listen to an argument on the facts and

search Your Honours' way through the appeal books

to come to a just decision on the facts, form

Your Honours' own views.

But we would submit, having regard to the role

of this Court, that it is not the role of this
Court to deal with issues of fact in that way

unless there is some matter of great principle

involved. There is no such matter of great

principle because really the argument is rather

circulatory in relation to the question of what is

income and what is capital in relation to this

matter. At the end of the day we are taken back to

the early cases and Your Honours are asked to

restate the matter.

So at the outset we would submit, with great

respect - and I do not expect Your Honours to leap

to this conclusion now - that this is an

appropriate case in which to rescind leave and for

Your Honours not to be troubled by the issue of

fact because at the end of the day the Full Federal

Court, we would submit, has looked at the matter,

it has gone into it carefully, it has formed a

view. It does not happen to be that view which the

single judge determined, but it was one that was

open on the record. We would say it was right. It

is not a matter, in other words, in which we would

respectfully submit, now that Your Honours have had

two or three hours of argument to expose it, that

it is a matter for special leave. However, as I

say, that is not something I am expecting

Your Honours to agree with now.

MASON CJ:  You think, on mature reflection, we might agree with you, as we try and write a judgment?

AGC(2) 54 27/4/93

MR ELLICOTT:  I do not know how one invites this Court to do

that, Your Honours, but certainly that is our

submission, but it reflects no unwillingness on our

part.

MASON CJ:  Mr Ellicott, perhaps your words have struck

fertile soil, but we will take a short adjournment

and consider the matter.

MR ELLICOTT: If Your Honours please.

AT 2.39 PM SHORT ADJOURNMENT

UPON RESUMING AT 2.56 PM:

MASON CJ:  Mr Ellicott, we will not trouble you further at this stage. Mr Gzell, you have heard the opening

submission made by Mr Ellicott in which he has

suggested that the Court ought to revoke the grant

of special leave on the footing that all that is

involved is a question of fact. Do you want to say

anything in response to that? After all, it is a

point that has been put to you during the course of

argument, as well.

MR GZELL: It has been, Your Honour. There is nothing

further that I can respond	to that proposition,
other than the submissions	that I have made to
Your Honours already.

MASON CJ:  Thank you.

Having had the benefit of hearing the

Commissioner's argument in full, we have come to

the conclusion that the appeal involves no really

disputed question of principle but the application
of accepted principle to the particular facts of
this case. In these circumstances, the Court

considers that it would be inappropriate for it to

engage in a detailed examination of the facts of

the case for the purpose of determining whether it

agrees with the conclusion reached by the primary

judge or the conclusion reached by the Full Court

of the Federal Court.

Accordingly, the order of the Court is that

the order granting special leave to appeal should

be rescinded. The Commissioner should pay the

respondent's costs of the proceedings in this

Court.

AGC(2) 55 27/4/93

The Court will now adjourn until 10.15 am on

Thursday morning.

AT 2.58 PM THE MATTER WAS ADJOURNED SINE DIE

AGC(2) 56 27/4/93