Klein and Ors and Commissioner of Taxation
[2007] AATA 1869
•17 October 2007
Administrative Appeals Tribunal
DECISION AND REASONS FOR DECISION [2007] AATA 1869
ADMINISTRATIVE APPEALS TRIBUNAL )
) No WT200500016;
TAXATION APPEALS DIVISION ) WT200500046; and
WT200500071
Re RONALD JOHN KLEIN
FRANCES SNABEL
ALAN CLIFTON CUSWORTHApplicants
And
COMMISSIONER OF TAXATION
Respondent
DECISION
Tribunal Mr A Sweidan, Senior Member Date17 October 2007
PlacePerth
Decision The Tribunal affirms the decisions under review.
..........(Sgd. A Sweidan)......................
Senior Member
CATCHWORDS
Income Tax - deductions - whether amount claimed is a net loss arising from a "profit-making scheme", business operation or commercial transaction or whether loss sustained on "mere realisation" of a capital asset being rights under project agreements relating to cattle breeding project
LEGISLATION
Income Tax Assessment Act 1997 (Cth) s 8-1
Income Tax Assessment Act 1936 (Cth) s 51(1)
CASES
AAT Case 6286 (1990) 21 ATR 3728
AAT Case 5878 (1990) 21 ATR 3416
FCT v Myer Emporium Ltd (1987) 163 CLR 199
Californian Copper Syndicate v Harris (1904) 5 ATC 159
Commercial and General Acceptance Ltd v FCT (1977) 137 CLR 373
Edwards (Inspector of Taxes) v Baristow [1956] AC 14
FCT v Myer Emporium Ltd (1981) 163 C.L.R. 199 at 213;
FCT v Whitfords Beach Pty Ltd (1982) 150 CLR 355
Hobart Bridge Company Ltd v FCT (1951) 82 CLR 372
Moana Sand Pty Ltd v FCT 88 ATC 4897
Vincent v FCT [2002] FCAS 656
Vincent v FCT [2002] FCAFC 291Westfield Limited v FCT (1991) 21 ATR 1398
REASONS FOR DECISION
17 October 2007 Mr A Sweidan, Senior Member BACKGROUND
1. During the years ended 30 June 1996 to 30 June 1997, the applicants invested in a cattle breeding project known as the Active Cattle Management Project (“the Project”).
2. Each applicant claimed to have incurred expenditure of various amounts relating to the Project under a Management Agreement with Active Cattle Management Pty Ltd (“ACM”), and Lease and Loan Agreements with associated entities of ACM. It is not necessary for the Tribunal to set out here the details of those amounts.
3. The deductibility of the expenditure incurred by participants in the Project was the subject of decisions by the Federal Court and Full Federal Court, Vincent v FCT [2002] FCAS 656 and Vincent v FCT [2002] FCAFC 291.
4. As a consequence of the decision of the Full Court in Vincent, the full claimed deductions were effectively allowed to these applicants as the Commissioner was held not able to amend the 1995 assessment outside of the 4 year period prescribed by s 170 of the Income Tax Assessment Act 1936 (“the 1936 Act”). Of the deductions claimed for the 1996 year, the second year of the project that the applicants invested in, only a part was held to have been incurred, but this was held not to be deductible as the outgoing was held to be on capital account for that year of income. The Full Court held in Vincent that the relevant amounts were in truth paid by the applicants for 6 full-blood Hereford calves which they intended to sell or otherwise deal with to make a profit. As they were held not to be carrying on a business the payments were held not to be deductible.
5. On 11 January 1999 the relevant Project companies including ACM entered into a Deed of Company Arrangement pursuant to a resolution of creditors under s 439C of the Corporations Law. Under the Deed each of the companies, except for Princes Park Estates Ltd (“PPEL”), agreed to transfer all their property and assets to PPEL. Creditors, including the applicants, were bound to accept:
“their Entitlements under the Arrangement in full satisfaction and complete discharge of all Claims (if any) which they have or claim to have against the Companies and each Company upon payment or issue to the Creditors pursuant to the Arrangement, is released from such debt or claim.”
6. Creditors, including the applicants, were issued with ordinary shares in PPEL. The applicants received such shares as their entitlement under the Deed of Company Arrangement in satisfaction of their claims against the relevant companies. The value of the shares when issued was 5.61 cents per share according to the applicants. The respondent asserted that it was 5.68 cents. However nothing turns on this difference for purposes of these reasons for decision.
7. The applicants each claimed a deduction in the 2000 year for the loss allegedly sustained by them, being the difference between the amounts claimed to have been invested in the Project and the value of the PPEL shares received by them.
8. The respondent disallowed the claims and also disallowed subsequent objections. The applicants have sought a review of those decisions.
ISSUE
9. The threshold issue for the Tribunal’s determination is whether the claimed losses arose from a business operation or commercial transaction i.e. a” profit-making undertaking or scheme”.
APPLICANTS’ CONTENTIONS
10. The applicants referred to the decision of the High Court in FCT v Myer Emporium Ltd (1987) 163 CLR 199 where it was held that a profit or gain made from an isolated venture or one off transaction will be characterised as income “if the property generating the profit or gain was acquired in a business operation or commercial transaction for the purpose of profit making by the means giving rise to the profit”. The High Court relied upon the decision in Californian Copper Syndicate v Harris (1904) 5 ATC 159 and Edwards (Inspector of Taxes) v Baristow [1956] AC 14.
11. The applicants asserted that in entering into the Project they entered into a profit making undertaking or scheme and that the profit from carrying on the investment scheme would have been assessable under either s 25 of the 1936 Income Tax Assessment Act or its equivalent, s 6-5 of the Income Tax Assessment Act (1997) and that therefore the claimed losses are deductible. It was asserted that the view expressed by the Commissioner in his Ruling TR 92-4 supports this contention (albeit in relation to the 1936 Act). Paragraph 4 of TR 92-4 states as follows:
“4.A loss from an isolated transaction is generally deductible under subsection 51(1) if:
(a)in entering into the transaction the taxpayer intended or expected to derive a profit which would have been assessable income: and
(b)the transaction was entered into, and the loss was made, in the course of carrying on a business or in carrying out a business operation or commercial transaction.”
12. The Tribunal was referred to Westfield Limited v FCT (1991) 21 ATR 1398 at 1408 to where the meaning of a “profit-making scheme” was judicially clarified as follows:
“11.1not necessarily be specific in detail nor every step which culminated in the profit be planned or foreseen; or
11.2include a mode of achieving that profit which is one contemplated by the taxpayer as being at least one of the alternatives by which the profit could be realised. (see also Price Street Professional Centre Pty Ltd v Commissioner of Taxation [2007] FCA 345 [at 28])”.
13. The applicants further asserted that in light of the respondent’s ruling referred to above and the principles of “profit making scheme” enunciated in Westfield, their evidence shows that their intention and purpose of investing in the Project was to make a profit, and also that the existence of the Management Agreement, the Lease and Loan Agreements, the promotional material and the reporting of the Project to the applicants all support a conclusion that the applicants were carrying out “a business operation or commercial transaction”, notwithstanding the finding by the Full Federal Court in Vincent that participants in the Project were not carrying on a business.
14. Accordingly it was claimed that based on the evidence before the Tribunal, a loss has been incurred by each of the applicants, being the difference between the amounts incurred by each of them and the value of shares issued pursuant to the Deed of Company Arrangement and such a loss is therefore deductible under s 8-1 of the 1997 Act for the 2000 year of income.
15. It was also said that, save for the decisions in AAT Case 6286 (1990) 21 ATR 3728 and AAT Case 5878 (1990) 21 ATR 3416, no Australian courts or tribunals have squarely addressed this issue in the context of a taxpayer not carrying on a business: In New Zealand there have been two decisions which have treated losses on shares acquired for the purpose of profit making by sale but not in the context of a share trading business as being on revenue account and deductible under the equivalent to s 8-1: see CIR v Inglis (1992) 14 NZZTC 9,180 and Case 540 (1995) 17 NZTC 7273.
16. The crux of the applicants’ case was that the loss incurred by the applicants is on revenue account just as the expected profit from the Project would have been on revenue account. They contended that as the loss was incurred in an endeavour to produce assessable income, that is a profit, the net loss being the difference between the amounts incurred by each of the investors and the value of shares issued pursuant to the Deed of Company Arrangement is deductible under the first limb of s 8-1.
17. The applicants claimed that the loss is not as the respondent contends something flowing from the “mere realisation of a capital asset”. It was said that there was no hope that the value of the full-blood Hereford calves which the applicants acquired when they participated in the Project would enhance in value. Rather, it was said the applicants had an intention at the time of acquisition of the calves, that they would be sold or otherwise dealt with to make a profit.
TRIBUNAL’S FINDINGS
Administration of Project Companies
18. The evidence before the Tribunal shows that:
19. On 23 October 1998 Mr Neil Singleton was appointed administrator of ACM and related companies.
20. In his report to creditors dated 11 December 1998, the administrator said inter alia:
“My review of the company’s records disclose:
“A. Claims by Investors for Breach of Contract:
ACM has generally failed to perform the terms of the Livestock Management & Services Agreements entered into with investors.
In terms of the agreement, the company’s liability to investors extends to resupply of the goods or services contracted for or pay the cost of resupply. In view of the company’s circumstances, it is not possible for it to compensate investors in accordance with the above. Legal advice indicates that investors would therefore have a claim against the company for damages for breach of contract.
4. Valuation of Investor Claims
For the purpose of this report, I have valued claims by investors at [sic] the total of amounts paid by them to the company (in accordance with its records).”
21. The administrator received a proposal from KJ Group Pty Limited for a deed of company arrangement, which provided for the reconstruction of each of the Project companies. One of the terms of that proposal was:
“5. Investors in ACM, ACM#2 and FSCC will be offered shares in PPEL in consideration for releasing any claim they may have against the group for breach of management or loan agreements (TEI Finance Pty Limited) or any rights they may ultimately have to any progeny. The companies in the group will release the investors from any obligations they may have under the management or loan agreements.”
22. The deed of company arrangement entered into on 11 January 1999 was varied by resolution of the creditors on 13 May 1999 to, inter alia, extend the commencement date of the deed to 31 August 1999, or such other date as determined by the administrator. The deed was again varied by resolution of the creditors on 28 February 2000 to, inter alia, provide that:
“(1) all investors in the Project were re-classified as “Non-Viking Creditors”, and “Non-Viking Creditor” was defined to mean any Investor Creditor and the Deputy Commissioner of Taxation; and
(2) payments of entitlements to Non-Viking Creditors would be made by way of issue of shares by PPEL (another of the Project companies) to each Non-Viking Creditor, shares to be issued pro-rata for each $1.00 debt for which a claim is admitted by the administrator.”
23. Under the deed (as varied):
(1)“Admitted Claim” means a Claim that is admitted by the Administrator in accordance with clause 10 of the Arrangement;
(2)“Admitted Creditor” means any Creditor who has an Admitted Claim including Deferred Creditors;
(3)“Claim” means a debt payable by or a claim against one or more of the Companies (present, or future, actual or contingent, due or to become due, liquidated or unliquidated or sounding only in damages) arising out of or having its origins in any matter which occurred before 23 October 1998 or arising out of any transactions, act or omission of the Companies, or any other person before 23 October 1998 howsoever arising;
(4)“Creditor” means a person having or claiming to have a Claim against one or more of the Companies including Employees and Deferred Creditors;
(5)“Entitlement” means the amount of the Payment to be made to or on behalf of each Admitted Creditor in accordance with clauses 11 or 12 of the Arrangement;
(6)“Investor Creditor” means any Creditor who has an Admitted Claim arising out of the breach by any of the Companies of an agreement relating to the management of a cattle breeding enterprise, the provision of finance in respect of a cattle breeding enterprise, or an indemnity relating to finance in respect of a cattle breeding enterprise;
(7)“Payment” means … any issue of shares to Non-Viking Creditors pursuant to clause 12 of the deed;
(8)Each other Project company transferred to PPEL all of its property and assets, and PPEL agreed to accept that transfer (clause 7.3);
(9)PPEL agreed to assume liability for any debt or claim of any Project company (clause 7.4);
(10)upon receipt of their Entitlement, the applicants (as Creditors) released PPEL and the other Project companies from all claims they had against them (clause 7.8);
(11)each Project company released the applicants (as Non-Viking Creditors) from all claims it had against them arising out of any matter which occurred before 23 October 1998 (clause 7.9);
(12)the applicants (as Creditors) agreed to accept their Entitlement in full satisfaction and complete discharge of all Claims they had against the Project companies, and each company, on issue of each applicant’s Entitlement, was released from those claims (clause 9.5);
(13)if the administrator issued to the applicants their Entitlements, all debts or claims they had against the Project companies would be extinguished (clause 9.6);
(14)payment of the applicants’ Entitlements (as Non-Viking Creditors) would be made by way of issue of shares in PPEL (the PPEL shares), shares to be issued pro rata for each $1.00 debt for which each applicant’s claim was admitted by the administrator (clause 12).
24. In his report to creditors and investors dated 8 February 2000, the administrator said:
“… consistent with the legal advice provided to me, the claims of investor creditors have been disclosed at a value reflecting the gross value of management contracts entered into by them being the amount they would be entitled to claim in the event of a winding up.”
25. On 30 June 2000 all assets of the Project companies were transferred to PPEL.
Admitted claims
26. The administrator admitted the applicants’ claims on the basis set out above in various amounts, the details of which need not be set out here.
Issue of PPEL shares
27. PPEL’s financial accounts for the year ended 30 June 2000 [GT, pp.166-181] contained a report from its directors, which, in part, said:
“Matters Subsequent to the End of the Financial Year
On 24 November 2000 the Deed of Company Arrangement entered into by the company was finalised. In accordance with the terms of the Deed the company allotted in excess of forty million shares to creditors admitted under the Deed.”
28. In their report for the financial year ended 30 June 2001, the directors again noted that “[d]uring the year, the Deed Administrator issued 43,395,101 ordinary shares in the company to “investor” creditors in accordance with the Deed of Company Arrangement.”
29. On 31 October 2000 each applicant received a share certificate in respect of the PPEL shares issued to him or her under the deed.
RELEVANT PRINCIPLES
30. Ordinarily: -
(i)Australian taxation legislation brings into account for taxation purposes gross amounts of assessable income from which outgoings may be deducted to arrive at taxable income. See Commercial and General Acceptance Ltd v FCT (1977) 137 CLR 373 per Mason, J. at 381-382; FCT v Whitfords Beach Pty Ltd (1982) 150 C.L.R. 355 per Gibbs, C.J. at 365-366 (drawing the distinction in the context of consideration of the ambit of the former section 26(a) of the Income Tax Assessment Act 1936);
(ii)a profit (or loss) made on the realisation of a capital asset acquired for the purpose of profit-making by sale is not regarded as income according to ordinary concepts. See California Copper Syndicate v Harris (1904) TC 159 at 166; FCT v Myer Emporium Ltd (1981) 163 C.L.R. 199 at 213; FCT v Whitfords Beach Pty Ltd (1982) 150 CLR 355 per Gibbs, C.J. at 360-362, 367-368, Wilson, J. at 394-395.
31. However, the profit (or loss) made on realisation of a capital asset may be income according to ordinary concepts (or, relevantly, a deductible outgoing) where the gain or loss is made “in an operation of business in carrying out a scheme for profit-making”: California Copper Syndicate v Harris (1904) TC 159 at 166.
32. The principle comprehends a profit (or loss) made on an isolated transaction where that transaction is a trading or commercial transaction or exhibits the character of a business deal. See Whitfords Beach Pty Ltd (1982) 150 C.L.R. 355 per Gibbs, C.J. at 361, 363, 368, Mason, J. at 372, 375-376, 383-384; Moana Sand Pty Ltd v FCT 88 ATC 4897 at 4902-4903.
33. Similarly, a profit (or loss) made in a transaction extraordinary to the ordinary course of a taxpayer’s business may constitute assessable income (or, relevantly, an allowable deduction): FCT v Myer Emporium Ltd (1981) 163 C.L.R. 199 at 209-210.
34. Whether a profit or loss is obtained as the result of a mere realisation or is assessable income as acquired in a business or commercial transaction depends upon whether “the property generating the profit or gain was acquired –
(a) in a business operation or commercial transaction –
(b) for the purpose of profit-making –
(c) by the means giving rise to the profit” –
FCT v Myer Emporium Ltd (1981) 163 CLR 199 at 210.
35. Determination of the issue focuses on the taxpayer’s purpose having regard to the circumstances of the acquisition and disposal of the asset. “It is one thing if the decision to sell an asset is taken after its acquisition, there having been no intention or purpose at the time of acquisition of acquiring for the purpose of profit-making by sale. Then, if the asset be not a revenue asset on other grounds, the profit made is capital because it proceeds from a mere realization. But it is quite another thing if the decision to sell is taken by way of implementation of an intention or purpose, existing at the time of acquisition, of profit-making by sale, at least in the context of carrying on a business or carrying out a business operation or commercial transaction”: FCT v Myer Emporium Ltd (1981) 163 CLR 199 at 213. And see Whitfords Beach Pty Ltd (1982) 150 CLR 355 per Gibbs, C.J. at 370-371, Mason, J. at 384-385, Wilson, J. at 392-393, 398-399, 400; Hobart Bridge Company Ltd v FCT (1951) 82 CLR 372 at 382-383, 386; Moana Sand Pty Ltd v FCT 88 ATC 4897 at 4902, 4905.
36. The Tribunal finds that, in relation to these applicants any alleged loss in the circumstances referred to above arose from the mere realization of the capital investment each applicant made in the Project because:-
(i)consistently with the finding of the Full Court in Vincent the Project agreements did not establish the applicants in a business. Neither is there any other evidence which establishes that they commenced or conducted any business;
(ii)any loss each applicant suffered was suffered otherwise than in the carrying out of the asserted purpose of entering into the Project i.e. making a profit by dealing with the progeny of the cattle to be delivered under the management agreement;
(iii)the evidence shows that the applicants have dealt with outgoings and, in the case of the Snabels, income, in relation to the Project as gross amounts and the Snabels have returned annual losses and profits arising from their participation in the Project.
(iv)even if the Tribunal had found (which it does not) that the loss was suffered in the carrying out of each applicant’s original purpose, the investment made by the Project agreements did not amount to a commercial transaction or venture;
37. More detailed grounds for the Tribunal’s findings are set out below by reference to the numbered sub-paragraphs above.
(i) Business
38. The Project agreements did not establish the applicants in a business. As the evidence before the Tribunal shows, each applicant signed a management agreement that was in the same material (if not identical) terms to that considered by the Full Court of the Federal Court in Vincent. The Full Court held, at [69], that “when one considers the agreement carefully it is clear that the ultimate obligation of the Manager is the supply of six calves to the owner within the time stipulated” and, at [70], “[w]hat the owner was contractually to receive for the payment she made to the Manager were six calves.” In this respect, the Court drew a distinction between payment for the calves, being a capital payment, and payment for the activities necessary to produce them, which might have been on revenue account (see [69], [71]).
39. The applicants have not otherwise established that they commenced or conducted any business. In this respect, like Ms Vincent, their only activities regarding the project were to sign the project agreements, make the payments required of them and to receive certain notifications and standard form newsletters by post see Vincent v FCT 2002 ATC at first instance 4490 at [108]). French, J.’s conclusion that Ms Vincent was not in a business was further based on the way in which ACM managed the herd as an undifferentiated group of cattle without regard to the rights of particular investors” (at [108]). In this respect the Tribunal also notes Mr Singleton’s witness statement at pp.23-24, 33.
(ii) No loss suffered in carrying out profit-making purpose
40. According to each applicant’s evidence, each: -
(a)made an investment in respect of which he or she sought a return; and
(b)intended that return to come from dealing with the progeny of the cattle to be delivered under the management agreement, that is from selling them, from breeding and selling from them and/or from extracting and selling semen from bull calves.
41. It is clear that any loss suffered by each applicant was not suffered in dealing with the progeny they had contracted for. The loss arose ‘because a fundamental and unanticipated change in the entire situation had led to the [project companies] going into [administration] and it was considered expedient to acquiesce in [the issue of shares in PPEL in consideration for release of project companies from claims arising out of breach by them of the project agreements] that acquiescence constituting a complete departure from the purpose with which the [project agreements had been entered into].” See Hobart Bridge Co Ltd v FCT (1951) 82 C.L.R. 372 at 386, and see 383.7. By contrast Moana Sand Pty Ltd v FCT 88 ATC 4897 was a case where a sale of land was “the fulfilment of the ultimate purpose of the company in relation to the land”, albeit being made pursuant to its compulsory acquisition (at 4905).
42. Here, in their transactions with the administrator, the applicants clearly did not obtain any return from dealing with their progeny. The shares issued to them represented the admitted value of rights each had against the Project companies, being rights arising out of the project agreements including rights to damages for breach of contract. The project agreements were the means by which the applicants were to obtain the cattle with which they intended to deal for the purposes of making a return. On the evidence, it was not the intention of the applicants to deal with the project agreements or rights arising out of them in order to make a return. Accordingly, there is no correlation between the intention of the applicants in making the project agreements and the asset represented by the contractual rights they realised upon the issue of the shares.
(iii) No warrant for inclusion of any net loss figure
43. Moreover, the applicants have not treated the Project as a profit-making undertaking. As noted above each has brought to account gross amounts by way of deductions. The Snabels have returned annual losses and profits arising from the sale of cattle they acquired as participants in the Project. In this respect, then, the applicants’ conduct is consistent with their asserted intention to produce ongoing gross returns from dealing with their progeny.
(iv) No commercial transaction or venture in any event
44. The Tribunal also finds that in any event the applicants’ investments in the Project did not amount to a commercial transaction or venture because: -
(a)the management agreement was for a term of only two years [see, for example, exhibit ACC2, management agreement, clause 2];
(b)the management agreement provided for nothing beyond the delivery of contracted progeny. Further dealing with progeny was to be at the request of the applicants, as owners, upon fees to be agreed [see, for example, exhibit ACC2, management agreement, clauses 3, 7 and recitals];
(c)none of the applicants had engaged in any commercial activity beyond contracting to acquire the progeny deliverable under the management agreements and, in the Snabels’ case, sell some of those progeny.
45. In the Tribunal’s opinion absent any further commercial activity, the applicants’ entry into the project agreements, coupled with their asserted intentions, does not form the basis for a conclusion that they had, by entry into the project agreements, embarked upon a trading venture because on the evidence: -
(a) any future proposed (but unspecified) breeding of their progeny would result only in further accretion of those assets or their realization in an enterprising way; cf. FCT v Whitfords Beach Pty Ltd (1982) 150 C.L.R. 355 per Gibbs, C.J. at 361, 367-368 and Myer Emporium Ltd (1981) 163 C.L.R. 199 at 213, and cases there referred to;
(b) moreover, the asset constituted by progeny to be delivered had not been committed to any breeding activities such as might constitute a trading venture; cf. FCT v Whitfords Beach Pty Ltd (1982) 150 C.L.R. 355 especially per Wilson, J. at 396, 398-400; and see Gibbs, C.J. at 370, Mason,J. at 384, 385.
46.
The Tribunal finds that the respondent’s assertion that the applicants’ losses arose from the realisation of a capital asset is correct as a matter of both fact and law.
DECISION47. The Tribunal accordingly affirms the decisions under review as being the correct or preferable decisions.
I certify that the 47 preceding paragraphs are a true copy of the reasons for the decision herein of Mr A Sweidan, Senior Member
Signed: ............(Sgd. R Riberi)..................................
AssociateDates of Hearing 14 May 2007 and 16 May 2007
Date of Decision 17 October 2007
Counsel for the Applicant Mr T Cziloswski
Solicitor for the Applicant Wilson & Atkinson
Counsel for the Respondent Ms H Symon, SC and Mr P Nicholas
Solicitor for the Respondent Australian Government Solicitor
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