Federal Commissioner of Taxation v South Australian Battery Makers Pty Ltd

[1978] HCA 32

HIGH COURT OF AUSTRALIA

Gibbs A.C.J., Stephen, Jacobs, Murphy and Aickin JJ.

FEDERAL COMMISSIONER OF TAXATION V. SOUTH AUSTRALIAN BATTERY MAKERS PTY. LTD.

(1978) 140 CLR 645

10 August 1978

Income Tax (Cth)

Income Tax (Cth)—Deductions—Capital—Lease of business premises to taxpayer company—Option to purchase granted to associated company—Capital cost of building recouped in rent—Option price reduced in proportion to capital recoupment—Whether rent fully deductible in calculating taxable income—Whether partly capital outgoing—Income Tax Assessment Act 1936 (Cth), s. 51 (1)*. * Section 51 (1) of the Income Tax Assessment Act (Cth) 1936, as amended, provides: "All losses and outgoings to the extent to &hich they are incurred in gaining or producing the assessable income, or are necessarily incurred in carrying on a business for the purpose of gaining or producing such income, shall be allowable deductions except to the extent to &hich they are losses or outgoings of capital, or of a capital, private or domestic nature, or are incurred in relation to the gaining or production of exempt income."

Decisions

1978, Aug. 10.
The following written judgments were delivered: -
GIBBS A.C.J. This is an appeal from a judgment of the Supreme Court of New South Wales (Mahoney J.) allowing appeals from assessments to income tax in respect of each of the years 1966 to 1971 both inclusive (1976) 9 ALR 165; 6 ATR 123; 76 ATC 4037 . The question in each year is the same, viz., whether amounts paid by the taxpayer, South Australian Battery Makers Pty. Ltd., as rent of land which it occupied and used as a factory at Elizabeth, in South Australia, were completely deductible under s. 51 (1) of the Income Tax Assessment Act 1936 (Cth), as amended ("the Act"), or whether the Commissioner was entitled to apportion those amounts and to regard them as being, in part, outgoings of a capital nature. (at p649)

2. The taxpayer was one of a group of companies whose main business was the manufacture, sale and distribution of batteries. The taxpayer was controlled (through another subsidiary) by Associated Battery Makers of Australia Pty. Ltd. ("Associated Battery Makers"), which was itself a subsidiary of Chloride Group Ltd., a company incorporated in the United Kingdom. These companies have all undergone changes of name, but that is not material and it is sufficient to describe them by the names already mentioned. Another company in the group, to which further reference will be made, was Property Options Pty. Ltd. ("Property Options"). (at p649)

3. In 1963 the group decided, for commercial reasons, to establish a factory in South Australia. With this end in view Mr. Alkin, a senior officer of the group, had discussions with officers of the South Australian Housing Trust ("the Trust") and was shown the site at Elizabeth which eventually came to be leased to the taxpayer. Mr. Alkin held positions in more than one company in the group - he is described as chief executive of the taxpayer, and as general manager of Associated Battery Makers - but it was in the latter capacity that he appears to have conducted these negotiations. The Trust was eager to encourage industrial development of the land and made a proposal which was stated in outline in a letter written on 5th August 1963 on behalf of the Trust to Mr. Alkin as general manager of Associated Battery Makers. This letter referred to two possible forms of lease, of which the second was described as follows:

"(2) A form of lease which carries with it some substantial advantages for purchase. This lease has as the annual rental, a sum equivalent to ten per cent of the capital cost, and read in conjunction with it would be a special option to purchase which confers on the grantor" (sic, "grantee" was intended), "the advantages of the annual amortised accounts. The copies of the model documents for Agreement for Lease, Memorandum of Lease and Option to Purchase and Memorandum of Encumbrance illustrate the method of leasing the property under these forms of agreement, and the option to purchase shows how a company to be named by the holding company may exercise the option at any time during the term of the lease. The schedule attached to this option agreement shows the sums outstanding at the commencement of each year for completion of the purchase."

On 10th September 1963 Mr. Alkin replied saying that his company wished to accept the Trust's offer as so outlined. The company to which he referred was Associated Battery Makers. (at p650)

4. The Trust had originally been reluctant to erect the new factory and office buildings that were necessary to enable the site to be used but in October 1963 it agreed to do so. The work of erection commenced and further correspondence ensued between the Trust and Associated Battery Makers with regard to the lease and the option. On 21st February 1964 the Trust forwarded to Mr. Alkin an agreement for lease (with a form of lease in the schedule thereto) and a memorandum of option to purchase with a form of encumbrance annexed. The letter requested that Mr. Alkin arrange for Associated Battery Makers to accept the agreement for lease under seal, but went on to say that it would take several months after occupation before final costs would be determined and the memorandum of lease prepared for execution. It added that the memorandum of option was submitted for identification only and would be executed when the final costs had been determined. The agreement for lease was executed by Associated Battery Makers on 19th May 1964. It provided for payment of a provisional quarterly rent until execution of the lease. It further provided for the calculation of the final quarterly rent, which was to be equal to 2 1/2 per cent of the "actual cost price", a term which was defined to mean: 1. $26,000, being the agreed value of the land; and 2. the costs and expenses of erecting a building and effecting other improvements together with capitalized interest on such costs and expenses at the rate of 6 per cent. (In this and some later documents figures are given in pounds but it is convenient to convert them to dollars.) In the schedule, before the form of memorandum of lease was set out, there appeared the words "Option to subsidiary". On 18th June 1964 Associated Battery Makers sought the approval of the Trust to assign the use of the premises to the taxpayer, and on 3rd July 1964 the Trust replied that this request was approved. The taxpayer in fact went into possession of the land in about June 1964. In that month a certificate of practical completion of the building on the land was issued. (at p650)

5. On 31st July 1964 Associated Battery Makers wrote to the Trust saying that it wished the option to purchase to be granted to Property Options. At a later stage the Trust expressed some concern at this suggestion, because the original form of memorandum of option, which had shown the grantee of the option as Associated Battery Makers, had provided that when exercising the option the grantee might nominate any "associated company" to pay the price and take a transfer of the land. The Trust sought an assurance that the taxpayer and Property Options were associated companies. The Trust was given this assurance. It was informed that Property Options had been formed for the specific purpose of holding the option, that its issued shares (two shares of $2 each) were held by members of a firm of accountants in trust for Edro Industrial Finance Co. Ltd., a company incorporated in the United Kingdom and a fully-owned subsidiary of Chloride Group Ltd., and that the association between the taxpayer and Property Options lay in the fact that both were "subsidiaries" of Chloride Group Ltd. It was frankly admitted that it was intended that "the option should be granted to a company as remote as possible from the company paying the rent" in case s. 260 of the Act, or some section that might replace it, might be invoked. (at p651)

6. Early in December 1965 the final cost and the rent of the leased premises were fixed by the Trust. On 9th December 1965 the Trust wrote to Mr. Alkin informing him that the final cost was $178,300 and that the rent was $17,830 per annum or $4,457.50 per quarter. The letter also set out a table of prices which was later included in the schedule to the option and whose effect will shortly be mentioned. (at p651)

7. The memorandum of lease, when finally executed, bore date 16th June 1966. By that instrument the Trust leased to the taxpayer the land at Elizabeth for a term of sixteen years from 1st July 1964 at a quarterly rent of $4,457.50. The lease contained a number of covenants of the kind commonly found in leases. It did not contain, or refer to, an option to purchase the demised land. The lease was duly registered. (at p651)

8. The memorandum of option was executed on 25th October 1966. By that document the Trust agreed with Property Options that in consideration of the sum of $200 Property Options (therein called "the grantee") should have an option to purchase the subject land at the price and upon and subject to the conditions therein set out. The material terms of the option were the following:

"1. BY WHOM OPTION EXERCISABLE: This option is granted to the grantee as a company associated with Associated Battery Makers . . . and with South Australian Battery Makers Pty. Limited . . . being the lessee from the Trust as lessor of the said land . . . 2. OPTION: The said option shall be exercisable by notice in writing to be given by the grantee to the Trust at any time after the commencement and not later than two calendar months before the expiration or sooner determination of the term granted by the Lease PROVIDED THAT at the time of the exercise of the said option by such notice the lessee is not in default in any way under the Lease. . . . 3. PRICE: If the date so nominated is at any time during the first year of the term granted by the Lease the price shall be the amount appearing in the table at the foot hereof and written opposite the term 'first year' and if the date so nominated occurs during the second or any subsequent year of the said term the price shall be the amount appearing in the said table opposite the reference to such second or subsequent year of the Lease during which the completion date so nominated occurs. . . . 6. THE LEASE: The grantee shall arrange and procure that the lessee shall on or before completion of the purchase execute as lessee a proper Memorandum of Surrender to the Trust of the lessee's interest under the Lease . . . so as to complete the merger of the leasehold interest in the fee simple estate transferred by the Trust to the grantee hereunder. . . . 12. ASSIGNMENT: The option hereby granted is intended to be exercisable only by the grantee as a company associated with the lessee under the Lease and shall not be assignable by the grantee . . . without the previous consent in writing of the Trust . . . " (at p652)

9. The memorandum of option contained a table of prices reducing from $178,300 in the first year to $171,168 in the second year and so on to $12,296 in the sixteenth year. (at p652)

10. It is quite clear that the memorandum of option carried out the original proposal to the extent that the capital cost of the land and improvements were "amortised" by a portion of each payment of rent, and that the grantee of the option was entitled to purchase the land during the term of the lease for the amount which had not been recouped to the Trust or "amortised" in this way. Some figures prepared by the Trust, and embodied in a document dated 10th December 1965 (which was not proved to have been shown in that form to the taxpayer), suggest that the rental contained two elements: 1. Interest at 6 per cent on the unamortised capital cost; and 2. the balance, which was intended to go in reduction of the principal. The rent payable in each year was, as has been mentioned, $17,830. In the first year the "interest portion" of this amount was shown as $10,698 and the "reduction of principal portion" was $7,132. The purchase price in the second year was $171,168 which of course is a reduction by $7,132 of the original price. Similar reductions were made from year to year. (at p653)

11. The option has not been exercised. The taxpayer has at all relevant times been the lessee of the land and has used the premises for the purposes of its business of manufacturing batteries. Extensions to the factory proved necessary and in 1967 work costing $42,000 was done by the Trust at the cost of the taxpayer. The taxpayer has in fact paid the rent in accordance with the lease. Mr. Alkin stated in his affidavit that the annual rent was "a reasonable commercial amount" and (if it matters) that statement was not contradicted in evidence. (at p653)

12. There can in my opinion be no doubt that the payments made by the taxpayer to the Trust under the lease were outgoings incurred in gaining or producing the assessable income, or alternatively were necessary incurred in carrying on a business for the purposes of gaining or producing such income, within the meaning of s. 51 (1) of the Act. It is impossible to suggest that the lease was a sham. The taxpayer carried on its business in the factory on the leased land and the payments were those required by the lease to be made as the price for the right to possession of that land. The payments were made in the course of earning the assessable income and were incidental and relevant to that end: Ronpibon Tin N.L. and Tongkah Compound N.L. v. Federal Commissioner of Taxation (1949) 78 CLR 47, at pp 56-57, 58 . They therefore fall within the first of the alternatives mentioned in the section. If the business had failed to produce income, and the payments were not within the first alternative, they would have been covered by the second alternative; they were necessarily incurred in carrying on a business for the purpose of gaining or producing assessable income, in the sense that they were clearly appropriate or adapted for the purpose of earning such income: see Ronpibon Tin N.L. and Tongkah Compound N.L. v. Federal Commissioner of Taxation (1949) 78 CLR, at p 56 . It would not be relevant, if it were the fact, that the taxpayer might have leased the same or other premises at a lower rental: "It is not for the Court or the commissioner to say how much a taxpayer ought to spend in obtaining his income, but only how much he has spent.": Ronpibon Tin N.L. and Tongkah Compound N.L. v. Federal Commissioner of Taxation (1949) 78 CLR, at p 60 , and see also Cecil Bros. Pty. Ltd. v. Federal Commissioner of Taxation (1964) 111 CLR 430, at pp 434, 441 and Inland Revenue Commissioner v. Europa Oil (N.Z.) Ltd. (the first Europa Case) (1971) AC 760, at p 772 . (at p654)

13. The argument most strongly pressed on behalf of the Commissioner was that the payments were in part outgoings of capital or of a capital nature and so within the exception to s. 51 (1). They were not outgoings of capital, and the true question is whether they were (in part) outgoings of a capital nature. The submission on behalf of the Commissioner was that each payment made as rent comprised two separate parts, one part being attributable to the right of possession under the lease and therefore of a revenue nature, and the other attributable to the reduction or amortisation of the cost or price of the land and buildings which Property Options had an option to buy and therefore of a capital nature. It may be said immediately that it is not in doubt that it is open to the Commissioner in an appropriate case to apportion an outgoing and to treat part of it as being of a capital nature: see Ronpibon Tin N.L. and Tongkah Compound N.L. v. Federal Commissioner of Taxation (1949) 78 CLR, at p 55 ; Poole and Dight v. Federal Commissioner of Taxation (1970) 122 CLR 427, at p 440 ; the first Europa Case and Europa Oil (N.Z.) Ltd. v. Inland Revenue Commissioners (the second Europa Case) (1976) 1 WLR 464, at pp 472-473; (1976) 1 All ER 503, at pp 509-510 . It should be added that if it was right to make an apportionment in the present case the taxpayer did not seek to attack the manner in which the Commissioner made the apportionment. The case for the taxpayer however is that it was wrong to regard any part of the outgoings as of a capital nature. (at p654)

14. In Australia the classical statement as to the principles to be applied in determining whether an outgoing is made on revenue or on capital account is that of Dixon J. in Sun Newspapers Ltd. and Associated Newspapers Ltd. v. Federal Commissioner of Taxation (1938) 61 CLR 337, at pp 359-363 . Sir Owen Dixon there concluded his analysis by saying that there are three matters to be considered (1938) 61 CLR, at p 363 :

"(a) The character of the advantage sought, and in this its lasting qualities may play a part, (b) the manner in which it is to be used, relied upon or enjoyed, and in this and under the former head recurrence may play its part, and (c) the means adopted to obtain it; that is, by providing a periodical reward or outlay to cover its use or enjoyment for periods commensurate with the payment or by making a final provision or payment so as to secure future use or enjoyment."

However the present case cannot be resolved simply by applying these tests. The real problem in the case is not to determine the character of the advantage sought, once it has been identified, but to decide what was the advantage sought by the taxpayer by making the payments. If the only advantage sought was the right to possession under the lease, and what was called "rent" really answered that description, clearly the outgoings were entirely of a revenue nature. If on the other hand one advantage sought by the outgoings was the acquisition of a capital asset (the land and buildings), the fact that the payments were called "rent", and were made periodically, would not necessarily prevent them from being in part outgoings of a capital nature - see Colonial Mutual Life Assurance Society Ltd. v. Federal Commissioner of Taxation (1953) 89 CLR 428 ; Poole and Dight v. Federal Commissioner of Taxation (1970) 122 CLR 427 ; and A.P.A. Fixed Trust Co. Ltd. v. Federal Commissioner of Taxation (1948) 4 AITR 105, at p 107 . (at p655)

15. It is clear that by making the payments the taxpayer itself did not acquire any interest in the land or buildings except that of a lessee. The only binding arrangement between the taxpayer and the Trust was that embodied in the lease, under which the taxpayer had the rights and interests of a lessee and nothing more. The taxpayer was not granted any option to purchase, and it had no right to enforce the option granted to Property Options. It was argued on behalf of the Commissioner that if the group of companies of which the taxpayer was a member derived a benefit from the making of the payments, part of that benefit must accrue to the taxpayer. In my opinion, that statement cannot be accepted; it is true only in the most general sense - in the same way that it may be said that a man benefits if his children or his neighbours prosper. Of course it cannot be denied that the circumstances may be such that one company may benefit from the fact that its subsidiary receives an advantage; the control which the parent company exerts over its subsidiary may ensure that the benefit flows on from the latter to the former. This seems to me to be a sufficient explanation for the decision of the Court of Appeal in Littlewoods Mail Order Stores Ltd. v. Inland Revenue Commissioners (1969) 1 WLR 1241; (1969) 3 All ER 855 , where it was found that the object of the taxpayer in paying rent was to obtain the freehold reversion for its subsidiary and that the payments were of a capital nature. Denning L.J. reached this result by drawing aside the corporate veil and finding behind it a subsidiary which was in law as well as in fact the puppet of the parent company - an approach which was disapproved by the Judicial Committee in the first Europa Case (1971) AC, at p 771 . The majority of the Court of Appeal declined to depart from the principle that for tax purposes the taxpayer and its wholly owned subsidiary are separate entities, but found that in fact the true nature and purpose of the expenditure was to acquire the capital asset. However in the present case there is no evidence on which it could be found that the taxpayer could benefit from the exercise of the option. Property Options was not a subsidiary of the taxpayer, and there is no evidence that Property Options was intended to hold the land and buildings for the taxpayer, or would be likely to share with the taxpayer any profits which might accrue as a result of the exercise of the option. Indeed the probability is that any financial benefit from the transactions would enure for the benefit of the parent company, Chloride Group Ltd., and not for the taxpayer. (at p656)

16. However it is abundantly clear that those who managed the affairs of the taxpayer knew that the grant of the lease was part of a wider scheme designed to benefit another or other companies in the group. They knew that part of the payments made as rent would in effect be credited against the purchase price of the land if in the end the option was exercised, as in all probability it would be. It seems right to say that the payments were made not only with the knowledge, but also with the purpose, that part might be treated as part of the price of a capital asset which Property Options would probably acquire. The question is whether in these circumstances it may be said that the acquisition of the capital asset was an advantage sought in part by the payments, notwithstanding that the taxpayer had no right to share in or benefit from the capital asset if acquired, and that the payments gave the taxpayer no right to ensure that Property Options did acquire the asset. (at p656)

17. I have said that in deciding whether outgoings made by a taxpayer are of a revenue or of a capital nature, it is necessary to consider "the character of the advantage sought". In my opinion, in principle, that must mean the character of the advantage sought by the taxpayer for himself by making the outgoings. Of course, as I have already indicated, a taxpayer may derive an advantage if someone else, such as a subsidiary, acquires an asset. But the fact that someone else incidentally derives an advantage of a capital kind in which the taxpayer does not share is not enough to give the outgoings the character of capital. This view is in my opinion implicit in the discussions in the leading authorities such as the Sun Newspapers' Case (1938) 61 CLR 337 , but it is expressly supported and illustrated by the decision in Poole and Dight v. Federal Commissioner of Taxation (1970) 122 CLR 427 . In that case the appellants, who were father and daughter, were members of a grazing partnership which carried on its business on land which included a grazing homestead freeholding lease, under which the tenure could be converted to freehold, and the purchasing price was payable by way of annual rent. This leasehold land was not part of the partnership property but the partnership paid the rent to the Crown. Walsh J. held that if the lessees had been carrying on business on the land, the payment of rent would have been of a capital nature. He held however that from the point of view of the partnership the rent was a revenue outgoing. For reasons which do not concern us, that did not assist the father, who, besides being a member of the partnership, was one of the lessees of the grazing homestead. However the appeal of the daughter, who was not one of the lessees, succeeded. As to her position Walsh J. said (1970) 122 CLR, at p 443 :

"She has no interest in the lease. The partnership of which she is a member has the right to use the land but has no other rights in respect of it. She will get no benefit if an estate in fee simple is acquired by payment of the purchasing price. Therefore, the payment made by the partnership was not related in any way to the acquisition by her of a capital asset. From her point of view it was simply a payment made in fulfilment of a condition which attached to the right of the partnership to use the land."

The fact, which the daughter must have known, that the payment of the rent to the Crown would go towards paying off part of the price which the lessees would have to pay to complete the purchase of the grazing homestead did not make it an outgoing of a capital nature so far as she was concerned, although it was of such a nature when viewed from the point of view of a partner who was also a lessee. (at p657)

18. The decisions of the Judicial Committee in the two Europa Cases both proceeded on the basis that it is the advantage which the taxpayer seeks and gains from the outgoing that has to be considered in deciding whether the outgoing is of a revenue or of a capital nature. In the first Europa Case, it was held that the money expended by the taxpayer under a contract for the purchase of trading stock was incurred in part for the purpose of producing advantages which the taxpayer would derive through a subsidiary company, Pan Eastern. In that case the taxpayer had a contractual right to enforce the performance of the obligations to Pan Eastern, and the majority of the Judicial Committee attached considerable importance to this circumstance (1971) AC, at p 775 . In the course of his judgment Lord Wilberforce said (1971) AC, at p 772 :

"In their Lordships' opinion, s. 111" (of the New Zealand Act) "does not enable the Crown to disallow expenditure genuinely made whenever it can be found that some economic advantage accrues to the trader as a result of making the expenditure . . . For a claim to disallow a portion of expenditure incurred in purchasing trading stock to succeed, the Crown, in their Lordships' judgment, must show that, as part of the contractual arrangement under which the stock was acquired some advantage, not identifiable as, or related to the production of, assessable income, was gained, so that a part of the expenditure, which can be segregated and quantified, ought to be considered as consideration given for the advantage. Taxation by end result, or by economic equivalence, is not what the section achieves."

In the second Europa Case, the taxpayer had no contractual right to enforce the performance of the obligation owed to Pan Eastern, and the majority of their Lordships regarded this distinction as crucial. Lord Diplock said (1976) 1 WLR, at pp 471-472; (1976) All ER, at p 508 that "it is not the economic results sought to be obtained by making the expenditure that is determinative of whether the expenditure is deductible or not; it is the legal rights enforceable by the taxpayer that he acquires in return for making it." See also (1976) 1 WLR, at pp 472-473; (1976) 1 All ER, at pp 509-510 . It was held that the "true legal character of the whole of the expenditure claimed to be deductible is that of the purchase price of stock in trade . . . and nothing else. As such it is deductible in full . . . " (1976) 1 WLR, at p 474; (1976) 1 All ER, at p 511 . Lord Wilberforce, who dissented, thought that in deciding what was the purpose of the expenditure a commercial rather than a legal test should be applied, and that the fact that the taxpayer was in a position to expect a substantial profit throught Pan Eastern was relevant, even though the taxpayer could not enforce the receipt of that benefit (1976) 1 WLR, at pp 480-481; (1976) 1 All ER, at pp 516-517 . (at p658)

19. The Europa Cases were decided on a New Zealand section which is not identical with s. 51 (1), but which for present purposes appears to be indistinguishable in effect from that section. It becomes a question whether the decisions in those cases are inconsistent with the principle stated by Dixon J. in Hallstroms Pty. Ltd. v. Federal Commissioner of Taxation (1946) 72 CLR 634, at p 648 in a passage cited with approval by the Judicial Committee in B.P. Australia Ltd. v. Federal Commissioner of Taxation (1965) 112 CLR 386, at p 397; (1965) AC 224, at p 261 , and by Lord Wilberforce in his dissenting judgment in the second Europa Case (1976) 1 WLR, at p 480; (1976) 1 All ER, at p 517 . In Hallstrom's Case, Dixon J. said (1946) 72 CLR, at p 648 :

"What is an outgoing of capital and what is an outgoing on account of revenue depends on what the expenditure is calculated to effect from a practical and business point of view, rather than upon the juristic classification of the legal rights, if any, secured, employed or exhausted in the process."

In Hallstrom's Case, as in B.P. Australia Ltd. v. Federal Commissioner of Taxation, it was known that advantage was sought by the taxpayer from the expenditure, and the question was whether an expenditure made to secure an advantage of that kind had the character of capital or income. In other words, the question in dispute was not, "What was the expenditure for?", but "Was the advantage, known to be sought by the expenditure, of a capital or of a revenue nature?" It was held that in answering that question the nature of the advantage from a practical and business point of view had to be considered. In the Europa Cases the question for decision was "What was the expenditure for?" and it was held, at least in the second case, that it was only for benefits to which the taxpayer became legally entitled. (at p659)

20. The words of the judgments in the Europa Cases, like those of any judgment, must be understood in the light of the issues that fell to be decided. Their Lordships could not have meant to suggest that in every case the character of an outgoing must be determined by having regard only to the contractual or other legal rights that the taxpayer acquired in return for it. That would indeed have been inconsistent with the principle stated by Dixon J. in Hallstroms' Case, and with cases too numerous to mention in which payments made "voluntarily and on the grounds of commercial expediency" (to use the words of Viscount Cave L.C. in British Insulated and Helsby Cables Ltd. v. Atherton (1926) AC 205, at p 212 ) have been held deductible as outgoings of a revenue kind although the taxpayer obtained no legally enforceable rights in return for them. However it is unnecessary for the decision of the present case to consider whether the second Europa Case (1976) 1 WLR 464; (1976) 1 All ER 503 laid down a principle in terms too wide to be applied to s. 51 (1). If the statement of Lord Diplock already cited correctly states the law for Australia, it is apparent that the Commissioner cannot succeed in the present case, for the taxpayer had no legal right to enforce the option in favour of Property Options. If on the other hand that statement needs qualification so fas as Australia is concerned, the decisions in the Europa Cases, and indeed the dissenting judgments in those cases, support the conclusion that it is the advantage which the expenditure was intended to gain, directly or indirectly, for the taxpayer that is relevant in determining the character of the expenditure, and that when an expenditure is genuinely made in payment of the price of trading stock, or in payment of rent, it is not permissible, for the purpose of deciding whether the expenditure was in part of a capital nature, to consider an advantage gained by another person as a result of the payment, when the taxpayer neither shares in that advantage, nor can secure its enforcement. (at p660)

21. The outgoings in the present case were genuinely made in payment of rent. The only advantage that the taxpayer sought or gained for itself by making the payments was that which it obtained as lessee under the lease. There was nothing to suggest that the taxpayer could or would share in the advantage which Property Options would derive from the making of the payments, and the taxpayer had no legal right, or for that matter any power, to ensure that Property Options did secure its rights under the option. The advantages gained by Property Options are therefore irelevant in deciding upon the character of the advantage sought by the taxpayer in making the payments. That advantage was of a revenue character, namely the interest of a lessee, it was to be enjoyed in the ordinary way that such an interest is enjoyed, and it was to be obtained by periodical payments. The outgoings were not of a capital nature. (at p660)

22. No doubt at first sight the transaction appears to have the flavour of a scheme or device to reduce taxation. However it was not a sham, and the Commissioner, no doubt rightly, made no attempt to rely upon s. 260 of the Act. What the companies did was to arrange their affairs so that payments, which, if made by different persons and under different circumstances, might in part have been of a capital nature, were, when made by the taxpayer, truly of a revenue character. (at p660)

23. For these reasons I consider that the conclusion reached by Mahoney J. was correct and that the appeal should be dismissed. (at p661)

STEPHEN AND AICKIN JJ. We have had the advantage of reading the reasons for judgment prepared by our brother Gibbs. We agree with his reasons and his conclusion. (at p661)

2. We would add only a few comments on the passage quoted from the dissenting judgment of Dixon J. in Hallstroms Pty. Ltd. v. Federal Commissioner of Taxation (1946) 72 CLR 634, at p 648 , a passage quoted with approval by Lord Pearce in B.P. Australia Ltd. v. Federal Commissioner of Taxation (1965) 112 CLR 386, at p 397; (1965) AC 224, at p 261 and by Lord Wilberforce in his dissenting judgment in the second Europa Case (1976) 1 WLR 464, at p 486; (1976) 1 All ER 503, at p 517 . It is, we think, necessary to bear in mind that Dixon J. was not there purporting to lay down any new principle. As the context shows he was engaged in applying, in relation to the facts of that case, the principles which he had formulated in the classic passage in Sun Newspapers Ltd. and Associated Newspapers Ltd. v. Federal Commissioner of Taxation (1938) 61 CLR 337, at pp 359-363 . He had said in Hallstroms' Case (1946) 72 CLR, at pp 646-647 shortly before the passage referred to above:

"As a prefatory remark it may be useful to recall the general consideration that the contrast between the two forms of expenditure corresponds to the distinction between the acquisition of the means of production and the use of them; between establishing or extending a business organization and carrying on the business; between the implements employed in work and the regular performance of the work in which they are employed; between an enterprise itself and the sustained effort of those engaged in it."

As he observed (1946) 72 CLR, at p 650 the decision of the House of Lords in British Insulated and Helsby Cables Ltd. v. Atherton (1926) AC 205 provided an example of a case where no alteration of a fixed capital asset was effected by the outlay there in question which was nevertheless held to be on capital account because, notwithstanding that, no enforceable rights were obtained. The difference of opinion in Hallstroms' Case lay in the application of these principles to expenditure on litigation in which the taxpayer had opposed the extension by way of re-grant of an expired patent, the process disclosed in which the taxpayer had planned to use on its expiration. Dixon J. thought it was directed to extension of its business organization, while the majority regarded such expenditure as incurred to defend or to maintain its liberty to use in its business what was then public knowledge available to all who wished to use it and thus incurred in the ordinary conduct of its manufacturing business, and not with a view to bringing into existence an asset or an advantage for the enduring benefit of a trade. (at p662)

3. The approval of the passage in Dixon J.'s judgment by the Privy Council does not in our opinion involve any conflict with what was said in Europa (No. 2) (1976) 1 WLR 464; (1976) 1 All ER 503 . An examination of the legal rights obtained is essential to the characterization of expenditure, notwithstanding that in some cases it may not alone be sufficient to complete the process, because absence of enforceable rights is not decisive of the revenue character of a business outgoing. Hallstroms' Case (1946) 72 CLR 634 was one where, although no enforceable rights were obtained, the character of the payment had still to be ascertained by reference to the factors referred to in the passage in Sun Newspapers Ltd. and Associated Newspapers Ltd. v. Federal Commissioner of Taxation (1938) 61 CLR 337, at p 363 referred to above; i.e. what was the character of the advantage to be sought and the manner in which it was to be used. Where what is sought to be obtained is not legally enforceable rights, i.e. an asset, but a practical, though intangible, business advantage, it too must be analysed in order to see whether the expenditure was made with a view to bringing into existence an enduring advantage for the benefit of a trade. We do not read Dixon J.'s judgment in Hallstroms' Case as intended to convey that practical business considerations are to be used to the exclusion of an analysis of legal rights. (at p662)

4. In this case the problem involves, as Gibbs J. has observed, an anterior step, namely the ascertainment of what was the advantage sought to be obtained, i.e. the advantage to the taxpayer. (at p662)

5. The taxpayer had not been a party to the original arrangement with the Electricity Trust, but was in effect an assignee of the agreement for a lease, which did not include the option. The advantage which it sought and obtained by each payment of rent was the right to continue for the appropriate period in occupation as lessee of its business premises. That others obtained, to its knowledge, a collateral advantage, even if it were of a capital nature, was not the advantage that it either sought or obtained. (at p662)

6. We agree that the appeal should be dismissed. (at p662)

JACOBS J. The question whether payments are made on revenue or capital account is often difficult to answer and it seems to me that the question as it arises in the present case is more than ordinarily difficult. The facts, though complex in their detail, may be stated in fairly general terms. Chloride Group Ltd. ("Chloride") was a United Kingdom company whose business included battery making. It had an Australian subsidiary, Associated Battery Makers of Australia Pty. Ltd. ("ABMAL") which made batteries in New South Wales. It was desired by ABMAL to extend manufacturing operations to another State, preferably South Australia. Negotiations were commenced with the South Australia Housing Trust ("the Trust") with particular reference to the ten-acre site for a factory at Elizabeth. The Trust proposed two alternative forms of lease in a letter of 5th August 1963 as follows:
"(1) A straight lease which would carry as an annual rental the sum equivalent to six per cent of the total capital cost and for a term of ten years. This lease would carry with it an option for renewal for a further period of ten years. In addition the lease would grant the Company an option to purchase which, if exercised within the first three years, would be at cost; and if exercised beyond the third year, would be at a sum to be determined from a valuation. (2) A form of lease which carries with it some substantial advantages for purchase. This lease has as the annual rental, a sum equivalent to ten per cent of the capital cost, and read in conjuction with it would be a special option to purchase which confers on the grantor," (sic grantee) "the advantages of the annual amortised amounts. The copies of the model documents for Agreement for Lease, Memorandum of Lease and Option to Purchase and Memorandum of Encumbrance illustrate the method of leasing the property under these forms of agreement and the option to purchase shows how a company to be named by the holding company may exercise the option at any time during the term of the lease. The schedule attached to this option agreement shows the sums outstanding at the commencement of each year for completion of the purchase."
The model documents do not require extensive reference but it is to be noted that cl. 1 of the model option to purchase which dealt with conditions for exercise of the option required that "at the time of the exercise thereof the grantee is to the satisfaction of the Trust a land-holding company for the lessee company as a trading company or otherwise directly associated with the lessee company". It may here be interposed that later, when the agreement for lease was made with ABMAL, a form of option to purchase in favour of ABMAL was annexed to the documents proffered by the Trust. Clause 1 (a) stated that the option was granted to ABMAL. Subclauses 1 (b) and (c) were as follows:

"(b) When exercising this option the grantee may in the notice exercising the same nominate any (or any other) associated company to pay the price and take a transfer of the said land on completion of the purchase thereof in lieu of the grantee.

(c) 'Associated Company' for the purposes of this paragraph 1 means a limited company incorporated or registered in South Australia under the Companies Act 1962 and which is to the satisfaction of the Trust a land-holding company for or is otherwise directly associated with the grantee." (at p664)

2. ABMAL received authority from its parent company to proceed and negotiate with the Trust for the acquistion of the land and the construction of a factory building. It elected for the second form of leasing arrangement proposed by the Trust (10th September 1963). ABMAL informed the Trust: "the equipping and operating of the proposed Elizabeth satellite will be financed by a plough-back of local profits" (1st October 1963). The lessee company was to be ABMAL but it was envisaged that another company would take the option to purchase (12th November 1963). (at p664)

3. ABMAL and the Trust executed an agreement for lease in May 1964. On 18th June 1964 ABMAL requested that its interest in the proposed lease be assigned to the taxpayer, the respondent ("SABM"). The Trust gave its agreement to the assignment on 3rd July 1964. Then on 31st July 1964 ABMAL nominated a company named Property Options Pty. Ltd., which had been incorporated in South Australia, as the associated company to hold the option to purchase. (at p664)

4. Building proceeded. By December 1965 the final cost of the factory premises had been fixed at 89,150 pounds. with a rent of 8.915 pounds per annum representing one-tenth thereof. ABMAL were notified accordingly. This rent under the proposed lease was payable from 1st January 1966 in place of the provisional rent which had been payable from 1st July 1964 to that date. In the letter of notification the Trust also set out the table of prices for inclusion in the option to purchase as the respective purchase prices at the end of each year of the lease. ABMAL was informed that preparation of the lease in favour of SABM and of the option to purchase in favour of Property Options Pty. Ltd. would now proceed. (at p664)

5. At this stage the Trust raised what it saw as a problem. It is best to quote from their letter to ABMAL of 11th February 1966:

"However, a problem has arisen concerning the granting of the option to purchase to Property Options Pty. Limited in lieu of Associated Battery Makers of Australia Pty. Ltd. which is the company described as 'the grantee' in the identified copy of the form of option to purchase. On the advice of the Trust's solicitors this letter is being written to seek clarification. At this point, I would mention the assignment of the lease to South Australian Battery Makers Pty. Limited means that this company is eligible to exercise the option to purchase should it so wish as it now comes within the ambit of clause 1 (a) (b) and (c) of the proposed option document. However, a search at the company's office with regard to Property Options Pty. Limited indicated that this company seems totally unconnected with your company or your South Australian company. Its paid up capital is 2 pounds/-/- consisting of the two subscribers' shares of 1 pound/-/- each, the subscribers being two members of a local firm of accountants and the two directors named in the list of directors filed in the company's office are two members of a local firm of solicitors. Based on this information alone, Property Options Pty. Limited does not meet the requirements of clause 1 (c) of the form of option to purchase, a fact of which the Trust was not aware prior to the search at the company's office.

The grant of an option to purchase to a company other than ABMAL, the lessee company or 'an associated company' within the meaning of the aforesaid clause 1 (c) is inconsistent with the Trust's original conception under which an option to a lessee company was to be an incentive to such a company to take a lease. In addition, an option to purchase at an annual reducing price is a valuable asset especially to a company which has not paid any of the rent." (at p665)

6. The Trust required an assurance that SABM and Property Options Pty. Ltd. were or were to be associated "and in what manner and within what period". ABMAL replied through their accountants on 23rd February 1966 who discussed the taxation aspects and then explained that the shares in Property Options Pty. Ltd. were held in trust for Edro Industrial Finance Co. Ltd., a wholly owned subsidiary of Chloride. (at p665)

7. This information apparently did not satisfy the Trust. Discussions continued and eventually the subject was taken up between the solicitors for the Trust and those for ABMAL. On 25th August 1966 the latter's solicitors wrote to the Trust's solicitors recounting the relationship of ABMAL with Property Options Pty. Ltd. and continuing:

"At some stage a draft lease and memorandum of option were initialled by the parties, which were a variation of the drafts originally submitted. The memorandum of option so initialled provides that the option is granted to the lessee company (including any associated company to which the lease may be transferred with the consent of the Trust) and provides also in clause 1 (b) that the grantee (lessee) may in the notice exercising the option nominate any associated company to pay the price and take a transfer. In this document 'associated company' is defined as a company which is to the satisfaction of the Trust a land holding company for, or is otherwise directly associated with the grantee. Under this document the grantee (lessee) is stated to be Associated Batteries, but it was subsequently arranged that in fact the lessee should be South Australian Battery Makers Pty. Limited, which is a subsidiary. The Trust has indicated that Property Options Pty. Limited does not meet the requirements of clause 1 (c) above referred to, although this company was formed for the sole purpose of serving as a land holding company in connection with this transaction, and all the companies concerned are members of a group which either directly or indirectly are wholly owned by Chloride Electrical Storage Co. Limited. The Trust's definition of 'associated company' in the relevant document requires either: (1) That the company exercising the option shall be a land holding company for the grantee or, alternatively - (2) Is otherwise directly associated.

It appears to us that Property Options Pty. Limited complies with both of these requirements." (at p666)

8. The Trust's solicitors replied on 31st August 1966 requesting further proofs which were given in the form of the declarations of trust in respect of the shares in Property Options Pty. Ltd. The option to purchase was granted to the latter company on 25th October 1966. (at p666)

9. The Commissioner has claimed that the payments by SABM under the lease ought to be apportioned partly to revenue account and partly to capital account. He did not succeed in this claim on the taxpayer's appeal to the Supreme Court of New South Wales. There the objection was allowed and the whole of the payments under the lease were held to be deductible (1976) 9 ALR 165; 6 ATR 123; 76 ATC 4037 . The Commissioner has appealed to this Court. (at p666)

10. Periodical outgoings reserved to a lessor under a lease (1) may be incurred by a lessee (either wholly or partly) in gaining or producing assessable income or may (either wholly or partly) be necessarily incurred in carrying on a business for the purpose of gaining or producing assessable income; (2) may be wholly or partly outgoings of capital or of a capital nature. In the case of (1) above the question whether they are wholly or partly so incurred falls to be determined according to the true legal nature and consequences of the transaction or transactions of which they form part. The description given by the parties to the outgoing is not conclusive but on the other hand the legal nature is not altered by the existence of extrinsic economic consequences or benefits even though those consequences and benefits may be intended or expected. (at p667)

11. Thus in the case of trading stock the cost thereof can only be the price in fact paid unless one goes behind the transaction, and that is what one cannot do without alleging that the form of the transaction is a sham. The price may not be that which is described as such in the documentation but it must nevertheless be the price - that which is in fact paid as consideration for the stock. The contractual quid pro quo is the governing consideration. It appears to me that this was the approach of the majority of their Lordships both in Europa (No. 1) (1971) AC 760 and in Europa (No. 2) (1976) 1 WLR 464; (1976) 1 All ER 503 . The price paid for the recurrent purchase of trading stock is essentially an outgoing on revenue account and the question which arises is whether it is incurred for the purpose of producing or in the production of the assessable income. (I use this language broadly in order to comprehend whatever variations there may be between the language of different statutes). In Europa (No. 1) the Privy Council examined the real legal nature of the transactions and concluded that the outgoings were not wholly, but only partly, incurred in payment for the trading stock and were therefore partly incurred in the production of the assessable income gained from trading in that stock and partly for the dividend benefit which was not assessable income. In Europa (No. 2) an examination of the real legal nature of the transactions, which were after Europa (No. 1) carried on under different arrangements, led to a contrary conclusion. The dividend benefit never went to the taxpayer at all under the later contractual arrangements. (at p667)

12. However, when one moves from the kind of question which arose in those cases to the question which arises when one is considering whether a payment of a kind which may be made on revenue account or on capital account is in fact made on the one or the other account the question to be determined is significantly different. An outgoing may be incurred in gaining or producing the assessable income or necessarily incurred in carrying on a business for the purpose of so doing even though it is wholly of a capital nature. Neither the particular form nor the legal nature of the transaction in which the outgoing occurs can of itself determine whether that outgoing is on capital account or revenue account or partly on one and partly on the other. It is necessary to go beyond the contractual form and the legal nature of the transaction and to consider on the basis of business reality and consequent accounting practice the nature of the advantage or benefit sought to be obtained. That this is so is well established. And it is to be noted that it is not the nature of the advantage or benefit actually obtained but the nature of the advantage or benefit sought to be obtained - the object of the expenditure - which is the subject of the inquiry. See per Dixon J. in Hallstroms Pty. Ltd. v. Federal Commissioner of Taxation (1946) 72 CLR 634, at pp 647-648 . I shall refrain from elaborating upon this last distinction because it has been fully discussed by Gibbs J. in his reasons and I agree with his conclusion that it is the nature of the advantage sought which is the critical matter for examination. (at p668)

13. Once it is found that the outgoing has been incurred in gaining or producing the assessable income or is necessarily incurred in carrying on a business for the purpose of gaining or producing assessable income, then in considering whether the outgoing is of capital or of a capital nature, the relevant advantage or benefit sought and the nature of which falls to be examined will be the advantage or benefit - directly or indirectly - to the person who claims to have expended the money on revenue account. But the advantage or benefit need not be of a proprietary nature, an asset vested in the taxpayer at law or in equity. To transfer the requirement of a legal, as distinct from an economic, consequence from the subject matter of the Europa Cases to the subject matter of the present inquiry is fallacious. It would run contrary to the statement of Dixon J. in Hallstroms' Case which was approved by the Privy Council in B. P. Australia Ltd. v. Federal Commissioner of Taxation (1965) 112 CLR 386, at p 397; (1965) AC 224, at p 261 . The subjects were considered by Lord Wilberforce, dissenting, in Europa (No. 2) (1976) 1 WLR, at p 480; (1976) 1 All ER, at pp 516-517 to be "different but analogous" and he quoted the words of Dixon J. in Hallstroms' Case. The majority in that case do not draw the distinction but they must have been conscious of it when attention was thus expressly directed to it by Lord Wilberforce and in the light of the precedent cases. The implicit view of the majority in their emphasis on the legal and not business character of the payments is that the two subjects not only were different but also were not analogous. (at p668)

14. The decision of Walsh J. in Poole and Dight v. Federal Commissioner of Taxation (1970) 122 CLR 427 is an example of how the distinction operates. The annual rent payable to the Crown for agricultural land could be set off by the leaseholder against the purchase price for obtaining a title in fee simple. This rent was paid by the partnership which carried on business on the lands. Two of the partners were the leaseholders and the other two partners were not. It was held that, though in the case of the former the rent was of a capital nature which on the facts was not required to be apportioned between capital and income, in the case of the latter the rent was wholly deductible as an outgoing. The reason why in the case of the latter the rent was wholly deductible was because there would be no benefit to the partnership if a fee simple were acquired (1970) 122 CLR, at p 443 . Walsh J. does say ". . . the payment made by the partnership was not related in any way to the acquisition . . . of a capital asset," but he cannot be taken by those words to be asserting that the relevant inquiry was whether a proprietary or legal asset was to be acquired. On the facts there was nothing to suggest that any benefit, legal or commercial, was sought from the conversion of the leasehold to a freehold by that taxpayer partner who had no interest in the leasehold. (at p669)

15. I propose to frame what I regard as the relevant inquiry in the instant case by adapting the language of Dixon J. in the Sun Newspapers Case (1938) 61 CLR 337, at p 363 to the circumstances of the present case. The character of the advantage sought by SABM was use and enjoyment of the factory premises. The question is whether the periodic outlay under the lease was to cover that use and enjoyment for periods commensurate with the payments or was in part by way of provision or payment so as to secure future use or enjoyment beyond those periods. In other words did SABM by the payments seek to secure to itself the advantage of a use and enjoyment of the factory premises at a future time beyond the time when there was an obligation to pay rent to the Trust? As I have already explained this use of the word "secure" does not mean only "secure as a legal right". (at p669)

16. I here observe that the burden lay upon the taxpayer on the appeal of proving that the assessment was excessive (s. 190 (b)) and therefore it had to establish the negative of the question which I have posed. It was content to rely upon the legal proposition that it had no legal right to use and enjoy the factory premises after the expiry of the lease and produced no evidence that by the payment of a rent which would secure transfer of the fee simple without further cost it did not thereby seek the advantage that it would be able to use and enjoy the premises free of the obligation to pay a rack or other rent thereafter. If it fails in this approach, as in my opinion it does, it has failed to produce evidence which will satisfy the burden of proof which lay upon it. But it seems to me that the Commissioner does not have to rely wholly on s. 190 (b). Such evidence as there is tends strongly to support the conclusion that a relevant advantage was sought by SABM in respect of the time after expiry of the lease. The Trust was not prepared to grant an unconditional option to purchase. It required that any company granted the option or nominated to exercise the option should be a landholding company for the lessee or otherwise directly associated with the lessee. The reason is obvious. The concern of the Trust was to encourage industrial development in South Australia and to ensure that the factory premises continued to be used for the industrial development which it had encouraged. There is nothing to indicate that it was interested in a mere financial association of companies. It wanted a direct association which would encourage the proposed lessee to take up the lease and to continue to use the factory premises for its manufacturing business after the expiry of the lease. Naturally it was not concerned, provided that it did its best to ensure that the industry was continued by the lessee, whether the former lessee paid rent to the associated company. But that is not to the point on the present inquiry. Further, there is no reason to think that, unless it suited the companies for bookkeeping purposes, the taxpayer would be required by its co-subsidiary to pay a rack rent for premises in respect of which it had already paid the value in fee simple. (at p670)

17. The Trust was assured by the solicitors for SABM and ABMAL that Property Options Pty. Ltd. was formed for the sole purpose of serving as a land-holding company for SABM and was a company directly associated with SABM. The Trust accepted those assurances on the proof that the two companies were co-subsidiaries within a single group of companies. The taxpayer would need to produce strong evidence that the statement by the solicitors was wrong, but it produced no evidence on the matter at all. That being so, it has not discharged the burden which lay upon it. (at p670)

18. In my opinion the appeals should be allowed with costs. The parties agree that in this event there should be an order remitting the matters to the Supreme Court and I would so order. (at p670)

MURPHY J. The question is whether part of certain payments made by the taxpayer, South Australian Battery Makers Pty. Ltd. and described as rent were allowable deductions within s. 51 (1) of the Income Tax Assessment Act 1936 (Cth), as amended, which provides:
"All losses and outgoings to the extent to which they are incurred in gaining or producing the assessable income, or are necessarily incurred in carrying on a business for the purpose of gaining or producing such income, shall be allowable deductions except to the extent to which they are losses or outgoings of capital, or of a capital, private or domestic nature, or are incurred in relation to the gaining or production of exempt income."

2. On 19th May 1964, the Electricity Trust of South Australia entered into a lease with Associated Battery Makers, after giving it the choice of paying rent at a nominated rate or paying higher rental payments with the excess being credited against the purchase price of the premises, over which an option to purchase would be given to an associated company. In each year, the payment would achieve a defined credit against the purchase price. On 3rd July 1964, the taxpayer, South Australian Battery Makers, accepted an assignment of the lease, knowing that part of the "rental" was to reduce the purchase price to an associated company. Later that month, the Electricity Trust granted Property Options (an associate of the taxpayer) the option to purchase. Thus, the taxpayer, as assignee of a lease, is paying sums in excess of the rent at which the lessor was willing to rent the premises in order to enable an associated company (if he chooses to exercise its option) to purchase the premises at a price reduced by the amount of the excess rental payments. (at p671)

3. The negotiations and events which led to these payments are set out in the judgments of Gibbs J. and Jacobs J. The lease expressed the total payments to be for occupation. But the wording of the lease is not controlling; the niceties of conveyancing must not be allowed to obscure the real substance of the transaction. The lease was a transparent device which is not consistent with the real transaction evidenced by the negotiations and various steps which the taxpayer revealed with refreshing frankness. The fact that the taxpayer was the assignee and not the lessee does not alter the real transaction. The companies were not at arm's length; they were all associates in what was described as "the Chloride group". Companies, like natural persons, can act as agents and intermediaries. The substance is that the payment for occupation (the true rent) was the amount for which the Electricity Trust was willing to let the premises to Associated Battery Makers. The excess was not payment for occupation but was intended to confer a benefit on Property Options. Payment for such a purpose was not intended by the legislature to be an allowable deduction under s. 51 (1). (at p672)

4. It would make a mockery of the legislative intent if the taxpayer is able to pay to another (who finds it convenient because it is non-taxable or otherwise) excess amounts for goods or services on the basis that the excess will be passed on as a benefit for an associate of the taxpayer. (at p672)

5. As the Supreme Court of the United States said in Gregory v. Helvering (1935) 293 US 465, at p 470 (79 Law Ed 596, at p 599) : "To hold otherwise would be to exalt artifice above reality and to deprive the statutory provision in question of all serious purpose." (at p672)

6. Thus, payments may be outgoings within s. 51 (1) although no contractual or other legal rights or obligations are received or satisfied; conversely, payments may fail to come within s. 51 (1) even if in form contractual or other legal rights are received or obligations discharged. (at p672)

7. Even if the excess payments were not of a capital nature, the result would be the same. If they were paid so that the Trust would confer a benefit of a revenue nature on Property Options, they would not be allowable deductions within s. 51 (1). However, the excess payments are properly regarded as of a capital nature and thus excluded from s. 51 (1). (at p672)

8. In Sun Newspapers Ltd. and Associated Newspapers Ltd. v. Federal Commissioner of Taxation (1938) 61 CLR 337, at p 363 . Dixon J. said that the matters to be considered in deciding whether an outgoing is revenue or capital are:
". . . (a) the character of the advantage sought, and in this its lasting qualities may play a part, (b) the manner in which it is to be used, relied upon or enjoyed, and in this and under the former head recurrence may play its part, and (c) the means adopted to obtain it; that is, by providing a periodical reward or outlay to cover its use or enjoyment for periods commensurate with the payment or by making a final provision or payment so as to secure future use or enjoyment." (at p672)

9. The substantial economic reality must be dealt with. As Dixon J. expressed it in Hallstroms Pty. Ltd. v. Federal Commissioner of Taxation (1946) 72 CLR 634, at p 648 :
"What is an outgoing of capital and what is an outgoing on account of revenue depends on what the expenditure is calculated to effect from a practical and business point of view, rather than upon the juristic classification of the legal rights, if any, secured, employed or exhausted in the process." (at p672)

10. If the option were held by the taxpayer and the excess payment would reduce the purchase price for it, it would clearly be a payment of a capital nature. This was the position at the time the taxpayer became the assignee, but a little later the arrangement was altered so that the option was given to Property Options. It is difficult to see that the taxpayer's position improves if the benefit is not to flow to it but to an associated company. In my opinion, the payment was of a capital nature and is excluded by s. 51 (1) even if the benefit flows, not to the taxpayer, but to another. (at p673)

11. Literal interpretations of the Act have allowed tax avoidance devices to succeed and have encouraged their growth. While the Act is read literally, no amount of legislative amendment will be able to stem the proliferation of such devices which are inconsistent with the general legislative intent. The strictly literal approach departs from the traditional respect of the courts for the legislative will. In Stradling v. Morgan (1560) 1 Plowd 199, at p 205 (75 ER 305, at p 315) , the English Court of Exchequer, after referring to many cases in which the courts have construed the intent of Acts contrary to their letter, said:

"From which cases it appears, that the sages of the law heretofore have construed statutes quite contrary to the letter in some appearance, and those statutes which comprehend all things in the letter, they have expounded to extend but to some things, and those which generally prohibit all people from doing such an act, they have interpreted to permit some people to do it, and those which include every person in the letter they have adjudged to reach to some persons only, which expositions have always been founded upon the intent of the Legislature, which they have collected sometimes by considering the cause and necessity of making the Act, sometimes by comparing one part of the Act with another, and sometimes by foreign circumstances. So that they have ever been guided by the intent of the Legislature, which they have always taken according to the necessity of the matter, and according to that which is consonant to reason and good discretion."

In Bradlaugh v. Clarke (1883) 8 App Cas 354, at p 372 Lord Blackburn said:

"All statutes are to be construed by the Courts so as to give effect to the intention which is expressed by the words used in the statute. But that is not to be discovered by considering those words in the abstract, but by inquiring what is the intention expressed by those words used in a statute with reference to the subject matter and for the object with which that statute was made; it being a question to be determined by the Court, and a very important one, what was the object for which it appears that the statute was made."

In Central Hanover Bank &Trust Co. v. Commissioner of Internal Revenue (1947) 159 F 2d 167, at p 169 Judge Learned Hand said:
"There is no more likely way to misapprehend the meaning of language - be it in a constitution, a statute, a will or a contract - than to read the words literally, forgetting the object which the document as a whole is meant to secure. Nor is a court ever less likely to do its duty than when, with an obsequious show of submission, it disregards the overriding purpose because the particular occasion which has arisen, was not foreseen. That there are hazards in this is quite true: there are hazards in all interpretation, at best a perilous course between dangers on either hand: but it scarcely helps to give so wide a berth to Charybdis's maw that one is in danger of being impaled upon Scylla's rocks." (at p674)

12. Literal compliance with the terms of an Act is not enough if the real result is contrary to the general intention of the legislature. This approach should be taken to tax Acts. (at p674)

13. The appeal should be allowed. (at p674)

Orders

Appeal dismissed with costs.