Sentry Life Assurance Ltd v Life Insurance Commissioner

No judgment structure available for this case.

Re: SENTRY LIFE ASSURANCE LIMITED
And: LIFE INSURANCE COMMISSIONER (1983) 78 FLR 74
No. G128 of 1982
Life Insurance - Statutes
(1983) 2 ANZ Insurance Cases 60-531

COURT

IN THE FEDERAL COURT OF AUSTRALIA

NEW SOUTH WALES DISTRICT REGISTRY
GENERAL DIVISION
Morling(1), Fitzgerald(2) and Beaumont(1) JJ.

CATCHWORDS

Life Insurance - Life insurance company - Statutory funds - Surplus - Participating and non-participating policies - Contributions to fund of shareholders' funds - Distribution of surplus to shareholders - Surplus derived from participating policies - Meaning - Calculation - Real source of surplus - Proper bases of accounts.

Life Insurance Act, 1945, ss.37, 38, 48, 50, 69

Statutes - Life insurance company - Statutory funds - Surplus - Participating and non-participating policies - Contributions to fund of shareholders' fund - Distribution of surplus to shareholders - Surplus derived from participating policies - Calculation - Real source of surplus - Proper bases of accounts - Life Insurance Act 1945 (Cth), ss 4(3), (4), 37, 38, 48, 50(1), (2), 52, 69, Second Schedule.

HEADNOTE

Section 50(3) of the Life Insurance Act 1945 (Cth) places restrictions upon the powers of an insurer to deal with surplus funds in its statutory funds stating:

"(3) The sum of the amount paid or allocated to or for the benefit of the shareholders of the company and the amount transferred to another

statutory fund under subs. (2) in respect of that part of the surplus

which is derived from participating policies registered in Australia

shall not exceed one-quarter of the amount paid or allocated to or for

the benefit of the owners of those policies."

The respondent rejected abstracts of actuarial reports lodged by the applicant for the years 1979 and 1980 contending that they showed a distribution for the benefit of shareholders which was inconsistent with the provisions of s. 50(3). This decision rejecting the abstracts was affirmed by the Administrative Appeals Tribunal but certain directions given by the respondent were set aside and substituted directions, requiring lodging of abstracts, were given.

Held: per Morling and Beaumont JJ. - (1) When s. 50(3) speaks of the derivation of part of the surplus, it is inviting an inquiry into its real source ascertained by a proper account and looked at as a practical, hard matter of fact and in particular an inquiry as to whether it is proper to attribute part of that surplus to the participating policy part of the applicant's business. In that inquiry, it is necessary to attribute to the participating policies an appropriate proportion, if any, of the surplus.

(2) It was not open to the applicant to transfer moneys into the statutory fund from a reserve and then to purport to apropriate those moneys to one section only of the fund, namely the non-participating section. Amounts had been injected into the applicant's two statutory funds as a whole by way of transfer from a reserve and it was necessary to determine a proper basis, if any, for apportionment of the transfers from reserves as between participating and non-participating business.

(3) When transfers were made of funds from a reserve into the statutory funds those transfers should be treated as made to the fund or funds as a whole and apportioned within the fund or funds by attributing the payment or transfer so made to each dollar of the fund in the case of both participating and non-participating business. Since no appropriation within the fund or funds of the payment or transfer is open the statutory fund or funds is or are advantaged as a whole and a surplus in the fund as a whole within the meaning of s. 50(2) is realised accordingly in each year.

Mutual Life and Citizens' Assurance Co. Ltd v. Commissioner of Taxation (1959) 100 CLR 537 at 555; Resch v. Federal Commissioner of Taxation (1942) 66 CLR 198 at 230.

(4) The matter should be remitted for decision on the question of apportionment of the transfers from reserves. A pro rata apportionment was to be preferred to the notion of a fair and equitable apportionment.

Per Fitzgerald J. - (5) Section 50(3) assumed no more than that a part of a surplus in a fund may be derived from participating policies.

(6) In the present case no part of the surplus was derived from participating or non-participating policies but rather represented the transfers from reserves and income thereon less deficiencies from the business.

HEARING

Sydney, 1983, June 27, 28; August 29. #DATE 29:8:1983

APPEAL.

The applicant appealed on questions of law from a decision of the Administrative Appeals Tribunal.

H. D. Sperling Q.C. and A. R. Emmett, for the applicant.

R. J. Burbidge Q.C. and L. S. Katz, for the respondent.

Cur. adv. vult.

Solicitors for the applicant: Dawson Waldron.

Solicitors for the respondent: B. J. O'Donovan, Commonwealth Crown Solicitor.

T.J.G.

ORDER

1. The appeal is allowed.

2. Orders 1 and 2 made by the Administrative Appeals Tribunal on 21 June, 1982 in proceedings N.81/60 and N.81/175 be set aside.

3. The decisions of the Life Insurance Commissioner that the abstracts of the actuary lodged by the applicant with the respondent for the 1979 and 1980 years are rejected, be set aside.

4. The directions given by the respondent to the applicant referred to in order 2 of the Administrative Appeals Tribunal be set aside.

5. The said proceedings N.81/60 and N.81/175 be remitted to the Administrative Appeals Tribunal to be heard and decided again, with further evidence if necessary.

6. Make no order as to costs.

7. Publication or disclosure to the public of this judgment and publication or disclosure to the public of any part of the reasons for this judgment insofar as the reasons may tend to identify the applicant or disclose its financial or other circumstances is prohibited up to and including 2 September, 1983.

8. Liberty is reserved to either party to apply on twenty four hours' notice for any variation of order 7 hereof.

Orders accordingly.

JUDGE1

This is an appeal, on a question of law, from a decision of the Administrative Appeals Tribunal brought pursuant to s.44(1) of the Administrative Appeals Tribunal Act, 1975. The decision of the Tribunal was made in an application to review a decision of the Life Insurance Commissioner ("the Commissioner") in an application made under s.138(8) of the Life Insurance Act, 1945 ("the Act").

The review and this appeal involve the construction and operation of s.50(3) of the Act. That provision inhibits, to some degree, the powers of a life insurance company to deal with surplus funds in one of its statutory funds. It is convenient to refer, at the outset, to the relevant provisions of the statute before going to the facts of the case. In doing this, we have adopted, substantially, the analysis of the Act made by the Tribunal.

Statutory Funds

Section 37 of the Act provides that a company shall, at the date on which it commences to carry on life insurance business in Australia, establish and maintain a statutory fund in respect of the life insurance business carried on by it. Section 37(2) provides that a company may establish and maintain a separate statutory fund in respect of any class or classes of its life insurance business. A class of life insurance business is defined in s.4(3) and (4) of the Act. In the absence of a direction from the Commissioner, and there was none in this case, a class of life insurance business is life insurance business (other than superannuation business) under ordinary policies, life insurance business (other than superannuation business) under industrial policies and superannuation business. Section 37(2) further provides that, with the consent of the Commissioner, a company may establish and maintain a separate statutory fund in respect of a part of any class or classes of its life insurance business.

In the present case, the applicant first established a single statutory fund in respect of both its ordinary and superannuation business but subsequently created one fund for its ordinary business and another for its superannuation business. The funds covered both participating and non-participating policies. With the consent of the Commissioner, the company could have established separate statutory funds with respect to its participating policies and other statutory funds with respect to its non-participating policies but it did not do so. Apparently, it is not the practice of insurance companies to do so.

The essential difference between a "participating" policy and a "non-participating" policy is that, with the former, an additional premium is charged and, in return for that additional premium, the policyholder is entitled to participate in the profits of the life insurance business. Participation in profits takes the form of periodic additions to the sum insured under the policy. Once granted, these additions are guaranteed.

Pursuant to s.38, the assets of each statutory fund are to be kept distinct and separate from all other assets of the company and the income arising from the investment of the assets of the fund are to be carried to that fund. All amounts received in respect of the business to which the statutory fund relates are to be carried to and become, assets of the fund.

The Act restricts the class of creditors for which moneys, once carried to a statutory fund, are available. Section 38(2) provides:
"38(2) Subject to this Act, the assets of a statutory fund shall not, so long as the company carries on the class or classes of life insurance business in respect of which the fund was established, be available to meet any liabilities or expenses of the company other than -

(a) liabilities or expenses referable to that class or those classes of life insurance business; and

(b) liabilities charged on those assets or any of them immediately prior to the commencement of this Act,

and shall not otherwise be directly or indirectly applied for any purpose other than the purposes of that class or those classes of life insurance business."

Sections 40 and 40A provide for the transfer of the assets of an old fund to a new fund which has been established. Section 50(1) otherwise restricts the company in its dealings with the assets of a statutory fund by providing as follows:
"A company shall not:

(a) pay, apply or allocate any part of the assets of a statutory fund -

(i) as dividends or otherwise as profits to shareholders; or

(ii) as bonuses to policy owners; or

(b) transfer any part of the assets of a statutory fund to another statutory fund,
except in accordance with this section or sections 40 or 40A."

In the present case, neither s.40 nor s.40A apply. By s.50(2) the company may deal with surplus funds as follows:
"If, as a result of the latest valuation in respect of a company which is either -

(a) a valuation made in pursuance of sub-section 48(1); or

(b) a valuation (not being a valuation in pursuance of that sub-section) made in the course of an investigation into the financial condition of the company, being a valuation -

(i) the results of which are made public; and

(ii) in respect of which the provisions of sub-sections 48(2), (3) and (4) and section 49 have been complied with,

the valuation balance-sheet or valuation balancesheets in respect of the life insurance business to which a statutory fund relates discloses or disclose that the balance of the revenue account or, if there is more than one revenue account in respect of that business, the sum of the balances of the revenue accounts, is greater than the amount of the net liabilities of the company in respect of that business, the company may, with the approval of an actuary and subject to sub-section (3) of this section, pay, allocate or transfer the surplus or a part of it in any manner consistent with the provisions of the instruments constituting the company and the articles of association or other rules of the company."

In the present case, it is common ground that a relevant surplus existed for the purposes of s.50(2): the question for decision is whether the proposed dealing offends s.50(3). Under that provision, restrictions are placed upon the powers of the company to deal with the relevant surplus as follows:
"(3) The sum of the amount paid or allocated to or for the benefit of the shareholders of the company and the amount transferred to another statutory fund under sub-section (2) in respect of that part of the surplus which is derived from participating policies registered in Australia shall not exceed one-quarter of the amount paid or allocated to or for the benefit of the owners of those policies."

By s.50(4), where there were included as a liability of a company, in the latest valuation made in respect of the company (being a valuation referred to in paragraph (2)(a) or (b), bonuses which were attached to policies at the date of commencement of the Act or became attached to policies as a result of an allocation of surplus made in pursuance of s.50, the company may, without regard to the conditions and limitations contained in ss.(2) and (3), pay or apply, in respect of those bonuses, moneys forming part of the assets of the statutory fund or part of a statutory fund which relates to the business in which those policies are included.

Section 69 deals with the position of a statutory fund in a winding-up of a company as follows:
"(1) In the winding-up of a company, the value of the liabilities and the value of the assets of a statutory fund of the company shall be ascertained separately from the value of any other liabilities or from the value of any other assets of the company, and no assets of the statutory fund shall be applied to the discharge of any liabilities other than those in respect of that statutory fund except in so far as those assets exceed the liabilities of that statutory fund.

(2) In the winding-up of a company, if, when the liabilities and assets of any statutory fund of the company have been ascertained, there is found to be a surplus of those assets over those liabilities, there shall be added to the liabilities of that statutory fund an amount equal to that proportion of the surplus so found as is equivalent to the proportion, if any, of the profits in the class or classes of life insurance business to which the statutory fund relates, allocated to shareholders and policy owners, which was allocated to policy owners during the ten years immediately preceding the commencement of the winding-up, and the assets of that statutory fund shall be deemed to exceed the liabilities of that statutory fund only in so far as those assets exceed those liabilities after that addition:

provided that, if it appears to the Court that, by reason of special circumstances, it would be inequitable that the amount specified should be added to the liabilities of any statutory fund, the amount to be added shall be such amount as the Court directs."

Thus, when funds have become part of a statutory fund, the extent to which payments thereout may be made to or for the benefit of shareholders is, prior to a winding-up and apart from transfer to another fund pursuant to s.40 or s.40A, limited to the circumstances provided for by s.50(2) and (3) and, in the case of a winding-up, to the circumstances specified in s.69.
Statutory Accounts

Section 41 provides that a company shall keep separate accounts of its receipts and payments in respect of each class of life insurance business. Section 44 provides, inter alia, for a revenue account in accordance with Form A in respect of each class of life insurance business and a balance sheet in accordance with Form D. Those forms appear in the First Schedule.

Form A is a revenue account to be kept in respect of a class of life insurance business. With respect to that class of business, the revenue account is to set out the relevant particulars for the year. The credits include the balance of accounts at the beginning of the year, the premiums received during the year, investment income, appreciation of assets and "Transfers from Reserves (to be specified)". The expenditure side of the account provides for amounts paid under the policies, including bonuses paid in cash and outgoings including commissions, salaries, travelling expenses, contribution to staff superannuation fund or scheme, directors' fees, and the like. The expenditures specified include "Shareholders' Dividends", "Transfers to Profit and Loss" and also "Transfers to Reserves (to be specified)".

Form D, the balance sheet, includes, amongst its items, the balances of revenue accounts and reserve accounts and requires that, "(Where) a company maintains more than one statutory fund in respect of its life insurance business, the amounts of the items in the balance-sheet shall be shown in separate columns in respect of each statutory fund in lieu of combining those amounts in the columns headed 'Life Insurance Business'." (Note 1)
The dispute with the Commissioner

These proceedings arose out of an abstract of the report of the applicant's actuary prepared pursuant to s.48(1)(b). Section 48(1) provides that every company shall, at intervals of five years or such shorter intervals as it notifies to the Commissioner, cause an actuary to make an investigation of its financial condition and to furnish a written report of the results of the investigation and cause an abstract of the report of the actuary to be prepared in accordance with the provisions of the Second Schedule and a statement of its life insurance business to be prepared in accordance with the provisions of the Third Schedule. Section 48(3) provides that the company shall cause a separate abstract and a separate statement to be prepared in respect of each class of life insurance business carried on by the company.

The Second Schedule requires that there shall be annexed to every abstract a summary and valuation in accordance with Form I in the Schedule of the policies included in the class of business to which the abstract relates and a valuation balance sheet in accordance with Form J of the Schedule. Form I requires particulars for participating policies to be shown separately from those for non-participating policies. Form J is as follows:
"FORM J VALUATION BALANCE-SHEET OF (class of life insurance business
OF (name of Company) AS AT (date)

Total Total $ $

Net liabilities under Balance of Revenue

policies - Account

On registers in Deficiency (if any)

Australia or a

Territory

Other

Surplus (if any) _____ _____"

The liabilities referred to in the valuation balance sheet are to be calculated in accordance with s.49 which is in these terms, so far as material:
"(2) The basis of valuation adopted shall be such as to place a proper value upon the liabilities, having regard to the mortality experience among the persons whose lives have been insured by the company, to the average rate of interest from investments and to the expenses of management (including commission), and shall be such as to ensure that no policy shall be treated as an asset.

(3) The value placed upon the aggregate liabilities of a statutory fund in respect of policies by reason of the adoption of any basis of valuation shall not be less than it would have been if it had been calculated on the Minimum Basis in accordance with the rules set forth in the Fourth Schedule or, if those rules have been amended by the regulations, in accordance with those rules as so amended."

It is the contention of the Commissioner that, having regard to the operation of s.50(3), the abstract tendered by the applicant did not comply with certain of the provisions of the Second Schedule to the Act. Part II of the Second Schedule provides that the abstract of the report of the actuary shall disclose the following information, inter alia:

"(6) the basis adopted in the distribution of surplus as between the company and policy owners, and whether that basis was determined by the instruments constituting the company, or by its articles of association or other rules, or, if not, how the basis was determined;

(7) the general principles adopted in the distribution of surplus among policy owners, including statements on the following matters:

(a) whether the principles were determined by the instruments constituting the company, or by its articles of association or other rules, or, if not, how the principles were determined;

(b) the number of years' premiums to be paid, period to elapse, and other conditions to be fulfilled, before a bonus is allotted;

(c) whether the bonus is allotted in respect of each year's premiums paid, or in respect of each completed calendar year or year of insurance or, if not, how the bonus is allotted; and

(d) whether the bonus vests immediately on allocation or, if not, the conditions of vesting;"

It is now common ground that the abstract prepared by the applicant does not comply with the foregoing provisions for reasons not connected with the operation of s.50(3). The matter of contention springs from the operation, if any, of s.50(3) upon the provisions of para. (8) of the Schedule:
"(8) the total amount of surplus arising during the inter-valuation period including surplus paid away and sums transferred to reserve funds or other accounts during that period, and the amount brought forward from the preceding valuation (to be stated separately) and the allocation of that surplus -

(a) to interim bonus paid;

(b) among policy owners with immediate participation giving the number of the policies which participated and the sums insured under the policies (excluding bonuses);

(c) among policy owners with deferred participation, giving the number of the policies which participated and the sums insured under the policies (excluding bonuses):

(d) among shareholders or to shareholders' accounts (any such sums passed through the accounts during the inter-valuation period to be separately stated);

(e) to every reserve fund, or other fund or account (any such sums passed through the accounts during the inter-valuation period to be separately stated); and

(f) as carried forward unappropriated;".

Finally, reference should be made to s.55(1), which empowers the Commissioner to instigate an investigation, and specifically refers to the circumstance that:
". . . a valuation balance-sheet annexed to an abstract prepared in pursuance of Division 5 shows that the balance of the revenue account in respect of the life insurance business to which a statutory fund relates, or in respect of a part of that business, is less than the amount of the liabilities of the company in respect of that business or that part of that business, as the case requires;".
Powers of the Commissioner and of the Tribunal

By s.52(3), if it appears to the Commissioner that any account, balance-sheet, abstract, statement or return lodged with him by a company is, in any particular, unsatisfactory, incomplete, incorrect or misleading, or that it does not comply with the requirements of this Act, the Commissioner may reject the account, balance-sheet, abstract, statement or return and give such directions as he thinks necessary for the variation of any of them.

Section 138 empowers the Tribunal to review:
"(1) . . .

. . . .

(g) a rejection under sub-section 52(3) of an account, balance-sheet, abstract, statement or return or a direction given under that sub-section:".
The Facts

The applicant was incorporated on 16 November, 1960. It has two statutory funds in respect of the life insurance business carried on by it: one in respect of ordinary life insurance business and the other in respect of superannuation life insurance business.

The Tribunal found that experience in the industry has shown that, during the early years of a fund and during periods of development of new business, a fund may fall into deficit unless moneys from outside the fund are made available to meet the deficiency. This position arises principally from the cost of commissions on the sale of new business and other developmental expenses. Some of those expenses can be paid directly out of shareholders' funds rather than out of the assets appropriated to the fund. But, as the Tribunal found, it is not the practice to adopt that course and the structure of the accounts established by the Schedules to the Act suggests that the proper course is to meet expenses relating to the business of a fund from the assets which have been appropriated to that fund. Generally, therefore, additional funding is provided by means of the appropriation of shareholders' funds to the statutory fund. This is contemplated by the Act, for Form A provides for "Transfers from Reserves", being transfers to the fund of moneys not otherwise within the fund.

Between September, 1971 and September, 1974, the applicant effected a number of transfers from reserves to the statutory funds of significant amounts. In implementation of the resolutions for transfer, the shareholders' funds transferred were purportedly appropriated, in "internal" accounts, to "non-participating" sections of the statutory funds. The Tribunal found that, at the time, the concept was in the mind of the applicant that when, in subsequent years, surpluses were disclosed in the statutory funds, so much of the surpluses as related to the shareholders' funds so paid in could be withdrawn, without infringing s.50(3), for the reason, it was thought, that it could properly be argued that the surpluses would not be derived from participating policies.

The "internal" accounts had their origin in the following resolution of the board of directors of the applicant on 8 March, 1972:
"SPLITTING OF STATUTORY FUND

Ordinary/ The Board also approved of the Superannuation management decision to split the statutory fund for year ended December 31, 1972 and subsequent years, into separate and distinct ordinary and superannuation statutory funds.

With Profit/ These funds in turn to be further Non Profit split into 'with profit' and 'non profit' business for the purpose of correctly ascertaining the contribution to surplus. This latter split would be an internal record only and would not be published."

The principal reason for splitting the statutory fund was stated by the applicant's managing director, Mr. J. Corbett, in a report dated 11 April, 1974 on the topic in these terms:
"The principle (sic) point in preparing with profit and non profit accounts is to enable (the applicant) to be in a position to demonstrate to the Life Insurance Commissioner the sources from which surplus has emerged for (the applicant). In particular it may become necessary at some time in the future to demonstrate that although an amount allocated to shareholders is in excess of 25% of the amount allocated to policy-holders for that particular year, the actual distribution to shareholders is nevertheless less than the sum of 25% of surplus distributed to policyholders plus 100% of surplus existing in respect of non profit business. It is unlikely that we will need to do this for a number of years but unless we have accounts carefully recorded in the interim we would find it difficult to establish the distributed situation at the time the Life Insurance Commissioner questioned our allocations of surplus.

It would seem sensible to note in the Board Minutes of (the applicant) that non profit and with profit accounts had been received and adopted for a particular year. The passing of any such resolution however should be deferred until we have the necessary audited accounts available."

On 6 March, 1978, by Statutory Rule No. 31 of 1978, the Fourth Schedule was amended to change the "Minimum Basis" of valuing the liabilities of an insurance company. As a result of a subsequent revaluation of the liabilities of the applicant's ordinary life insurance fund, a surplus of $1,140,000 arose in respect of the year ended 31 December, 1979. The total surplus as at 31 December, 1979 was $1,572,863, there being a surplus of $417,829 otherwise arising during the year and a surplus brought forward of $15,034. Of this surplus, the Board purported to resolve to distribute $175,406 among policyholders with participation in profits and $930,000 for the benefit of shareholders. In respect of the fund relating to superannuation business, the surplus as at 31 December, 1979 was $243,499 and, of this, $56,989 was to be distributed to participating policy-holders and $125,000 to shareholders' accounts.
The "internal" accounts

In most years, in the period from 1972 to 1980, an amount was transferred from the development reserve, being part of shareholders' funds, to the "non-participating" section of each statutory fund. No such transfer took place in the case of the "participating" section. The transfers resulted in a significant improvement in the financial position of the "non-participating" section only.

In each year, the applicant's auditor expressed an opinion, in similar terms, on the apportionment of certain items between "participating" and "non-participating" business. By way of example, the auditor's opinion expressed in respect of the 1979 year was as follows:
"I advise that the attached balance sheet as at 31st December, 1979 and revenue accounts for the year ended on that date are in agreement with the statutory financial statements prepared in accordance with the provisions of the Life Insurance Act, 1945-1978 on which I reported as auditor, subject to the division of the revenue accounts between with profits and without profits business.

I have checked the apportionment of investment income, expenses and other outgo and profits and losses on sale of assets between with profits and without profits business and advise that, in my opinion, it has been made in an equitable manner."

It will be noted that the auditor does not refer to any possible apportionment of the amount transferred from the development reserve or any other part of the shareholders' funds.
The abstracts

The Commissioner contends that the requirements of Part II of the Second Schedule to the Act were not complied with in a number of respects:

First, clause (6) of Part II requires that:

"Every such abstract shall show -
. . .

(6) the basis adopted in the distribution of surplus as between the company and policyowners, and whether that basis was determined by the instruments constituting the company, or by its articles of association or other rules, or, if not, how the basis was determined;".

In respect of this matter, the abstract stated:
"6. The basis of distribution of surplus as between the company and policyowners was decided by the Directors, acting on the recommendation of the Actuary".

It is agreed that this response did not set out what was the basis of distribution as between the company and policyowners nor, save as to stating by whom the basis was determined, did it state how the basis was determined.

Secondly, clause (7) of Part II requires that the abstract state:
"(7) the general principles adopted in the distribution of surplus among policyowners, including statements on the following matters:

(a) whether the principles were determined by the instruments constituting the company, or by its articles of association or other rules, or, if not, how the principles were determined;".

The abstract stated:
"7. (a) The principles adopted in the distribution of surplus among policyholders were adopted by the Directors, acting on the recommendation of the Actuary."

Again, it is agreed that this answer did not set out what were the principles adopted in the distribution of surplus among policyholders. The applicant does not challenge the Commission's rejection of the abstract in respect of clauses (6) and (7).

Thirdly, (and this is the issue in the present proceedings), paragraph 8 of the abstract read:
"8. The surplus arising during the intervaluation period from 1 January, 1979 to 31 December, 1979 and the surplus brought forward from the previous valuation was as follows:

Ordinary Superannuation Business Business $ $

Surplus arising from change in valuation basis

1,140,000 307,000

Surplus arising during

year 417,829 (-)67,710

Surplus brought forward 15,034 4,209

--------- ------- 1,572,863 243,499 --------- -------

The total surplus shown above of $1,572,863 from Ordinary business and $243,499 from Superannuation business was allocated as follows:

Ordinary Superannuation ________ ______________ Business Business ________ ________ $ $

(a) to interim bonuses NIL NIL

(b) among policyowners with

immediate participation

in profits: 4,844 Ordinary

policies insuring

$50,785,069 435

Superannuation policies

insuring $10,446,753< 175,406 56,939

(c) among policyowners with

deferred participation

in profits NIL NIL

(d) among Shareholders or to Shareholders accounts 930,000 125,000

(e) to Investment and Contingencies Reserve NIL NIL

(f) carried forward unappropriated 467,457 61,510

_______ ______ 1,572,863 243,499 _________ _______

(Item (b) equals the new liability arising from the allocation of bonuses)".

The Commissioner's directions

The Commissioner contended that this answer showed a distribution for the benefit of shareholders which was inconsistent with the provisions of s.50(3). On 13 March, 1981 the Commissioner served upon the applicant a notice pursuant to s.52(3) reciting that he was of the opinion that the allocation of surplus among shareholders was unsatisfactory and incorrect and did not comply with s.50. The Commissioner rejected the abstract and purported to give a direction in these terms:
"I . . . direct in pursuance of sub-section 52(3) of the Act that the company shall within the period of one month from the date of service of this notice, vary the allocation of surplus among Shareholders or Shareholders' accounts shown in paragraph 8(d) so that an amount not exceeding $278,000 in total shall be shown as having been derived from non-participating policies and furnish me with a properly signed Second Schedule Return to this effect. I also direct that the allocation among Shareholders or Shareholders' accounts ($930,000 in respect of Ordinary Business and $125,000 in respect of Superannuation Business) shown in the said rejected abstract shall not proceed."

(A similar direction was given in respect of the 1980 year.)
The decision of the Tribunal

The Tribunal was of the opinion that the intent of this direction was correct. In its view, the resolution of the directors purporting to authorise the transfer was in conflict with s.50(3). Therefore, the Tribunal held, there was no valid authorisation of the payment or allocation of that sum to or for the benefit of shareholders. However, in the Tribunal's view (and this is not challenged), s.52(3) does not empower the Life Insurance Commissioner in terms to direct that an allocation of a sum shown in a rejected abstract shall not proceed. For these reasons, the orders made by the Tribunal were as follows:
"1. That the Tribunal affirms the decisions of the Life Insurance Commissioner that the abstracts of the actuary lodged by Sentry Life Assurance Limited with the Life Insurance Commissioner for the 1979 and 1980 years are rejected.

2. The Tribunal sets aside the directions given by the Life Insurance Commissioner and in substitution therefor directs that:

Sentry Life Assurance Limited lodge with the Life Insurance Commissioner within two months of this date abstracts of reports of its actuary with respect to the 1979 and 1980 years which comply with the provisions of the Life Insurance Act 1945 including s.50 and the Second Schedule thereof."

In essence, the Tribunal based its rejection of para. 8 of the abstract upon its perception of a fallacy underlying the keeping of the "internal" accounts. The Tribunal said that, although the shareholders' funds were all credited to nonparticipating business, there was no justification for this: the sums paid in benefited all policy holders. In truth, the funds were paid in to meet deficits which could be seen to be emerging with respect to both participating and non-participating business. Moreover, the funds were paid in to produce a surplus adequate to provide bonuses for the participating policyholders. Therefore, in the Tribunal's view, the shareholders' funds were paid in for the benefit of the participating policyholders as well as for the benefit of the non-participating policyholders. There was no warrant, therefore, for crediting the funds in the internal accounts solely to the non-participating business. That step was taken only because it was desired to achieve a certain result, namely, that if, at any future time, an adequate surplus emerged, it could, to the extent of the past shareholders' subsidies, be distributed out to shareholders without infringing the provisions of s.50(3). But what was required was a fair and equitable apportionment of the shareholders' subsidies as between the two parts of the business. Such an apportionment was neither attempted nor achieved (Tribunal's reasons p.15). This, in the Tribunal's view, vitiated the abstract to that extent (i.e. para. 8).
The history of s.50(3)

The purpose of the Act is to regulate life insurance business conducted in Australia, and to protect the interests of persons who have effected life insurance policies. The object of the Act was to consolidate and extend the provisions of the various enactments of the Commonwealth and State Parliaments on the subject (see Australia Parliamentary Debates, House of Representatives, 25 May, 1945, 17th Parliament, 3rd Session, Vol. 182, p.2144, (Mr. Chifley, Acting Prime Minister and Treasurer, moving the second reading speech); cf. T.C.N. Channel Nine Pty. Ltd. v. Australian Mutual Provident Society (1982) 42 A.L.R. 496 at p.507; Commissioner of Taxation (Cth.) v. Whitfords Beach Pty. Ltd. (1982) 56 A.L.J.R. 240 at p.246).

The precursor of s.50(3) was s.14 of the Industrial Life Assurance Act, 1940 (Vic.), which provided that:
"No company shall allocate out of that part of its surplus which is derived from industrial life assurance business in connexion with participating policies, more than twenty per centum thereof to its shareholders."

A "participating policy" was defined (s.2) as meaning:
"An industrial life assurance policy under which the company agrees, subject to the terms and conditions of the policy, to pay to the policy holder a share of the company's surplus in addition to the sum assured."

The provisions of s.14 of the Victorian Act sprang from a recommendation made in the report of the Royal Commission on Industrial Life Assurance appointed by the Victorian Government in 1938 under the Chairmanship of Mr. T.S. Clyne, as he then was. In their report, the Commissioners said (at p.12):
"Companies are usually obliged to cause a periodical investigation to be made into their financial condition by an actuary, and this investigation shows the extent of their net liabilities, under their policies, in comparison with their assurance funds. Such an investigation should also show whether the operations of the company have resulted in a surplus or a deficiency. The valuation basis adopted by the actuary can, and often does, affect the amount of the surplus available for a conservative valuation tends to reduce the surplus in the early years of the policy but to increase it in later years.

Surplus may arise where one or more of the following conditions exist:

(a) Where a rate of interest is earned in excess of the rate assumed;

(b) Where a mortality experience is more favourable than that assumed;

(c) Where administration expenses are less than those assumed in calculating office premiums;

(d) Where the premium is loaded for the purposes of providing bonuses;

and, in certain circumstances, lapses also are a source of profit.
In Australia, the surplus of the larger companies appears to be mainly derived from interest.

During the early history of industrial life assurance policies did not generally participate in distributions of surplus, but in recent years there has been a marked tendency in favour of participating policies. It might be here observed that in the State of Victoria the great majority of the policies now in force are with-profit or participating policies.

The existence of surplus and the amount thereof must necessarily depend upon the efficiency of management of the particular company. While surplus enures for the benefit of all the participating policy-holders of a mutual company, in the case of a non-mutual company the amount of surplus available for policy-holders generally depends upon the provisions of its constitution relating to the distribution of surplus."

The report clearly contemplates the need to protect participating policyholders in the circumstances described. The recommendations of the Commissioners included:
"(f) Every company should distribute to its participating policy-holders in respect of each inter valuation period, at least 80 per cent. of the surplus or profits which may be earned by the company during such period by that part of its industrial assurance business which relates to with-profit policies.

(g) If any company can prove to the satisfaction of the Government Statist that the allocation of surplus or profits hereinbefore recommended is unfair to its shareholders, the Governor in Council may vary such allocation upon the recommendation of the Government Statist."

Section 50 of the Life Insurance Act, 1945, as originally enacted, was different from s.50 in its present form. Whilst there have been changes in the form and structure of s.50 (Act No. 94, 1953; Act No. 29, 1961), we need not describe them, since they do not bear upon the construction of the present provision. However, it is plain enough that s.50(3) was derived from the Victorian Act which, in turn, had its source in the Royal Commission report.
The construction of s.50(3)

Section 50(3) refers to "(the) sum of the amount paid or allocated . . . and the amount transferred in respect of that part of the surplus which is derived from participating policies . . . " (our emphasis). The provision thus assumes that it may be possible to establish or, at the least, to attribute, some nexus between a part of the surplus and the participating policies. Section 50(3) seems further to assume that, in turn, this part of the surplus may be traced into the sum of the amount paid or allocated to or for the benefit of shareholders and the amount, if any, transferred to another statutory fund. For convenience, we shall hereafter refer to the latter sum as payments to shareholders since, in the present case, no transfer to another fund is involved.

In other words, on its face, s.50(3) assums that, in a given case, it may be possible, and necessary, to carry out a tracing exercise which tracks the flow of funds from the revenue generated by the participating policies into the mixed fund (being the statutory fund consisting of participating and non-participating policies), and thereafter out of that mixed fund in the form of payments to shareholders. Prima facie, there would appear to be no reason why, as an accounting matter, such an exercise should not be carried out. We shall deal with this later, in the context of the operation of s.50(3).

So far as the construction of s.50(3) is concerned, the critical element of the provision for present purposes is the words "that part of the surplus which is derived from participating policies." In s.4(1), such a policy is defined as meaning "a policy by the terms of which the owner of the policy is entitled to a share in surpluses or profits which may be distributed by the company". There would appear to be no distinction intended to be drawn between "surpluses" and "profits" in this connection. There is no statutory definition of "surplus" but it is plain enough that the "surplus" referred to in s.50(3) is the same surplus as that mentioned in s.50(2).

There is no statutory definition of "derived". Its ordinary meaning is to receive or obtain from a source or origin or to trace, as from a source or origin (Oxford English Dictionary). In Commissioners of Taxation v. Kirk (1900) A.C. 588, the extraction of ore from the soil was held to be income "derived" from certain lands, notwithstanding that the finished products were sold exclusively outside New South Wales. Their Lordships (at p.592) attached no special meaning to the word "derived", which they treated as synonymous with "arising" or "accruing" (see also Harding v. Federal Commissioner of Taxation (1917) 23 C.L.R. 119 at p.133).

It has also been held that "derived" covers a wider field than "received". It connotes the source or origin of, e.g. income rather than its immediate receipt; that is, the "originating cause" of the payment being made and not merely "the quarter whence the moneys come". It means "flowing", "springing" or "emanating from" (see Kemp v. Minister of National Revenue (1948) 1 D.L.R. 65 at p.71; Inland Revenue Commissioner v. N.V. Philips' Gloeilampenfabrieken (1955) N.Z.L.R. 868 at p.883). The revenue authorities show that consideration of the question whether an amount was "derived" from a particular source involves looking beyond the immediate point of funding the amount to what, in practical terms, should be treated as its substantial source (see Nathan v. Federal Commissioner of Taxation (1918) 25 C.L.R. 183 at p.189) Further, in Evans v. Deputy Federal Commissioner of Taxation (1936) 55 C.L.R. 80, Rich, Dixon and Evatt, JJ. said (at p.101):
". . . The word "derived" does not connote that the profit must be a realized profit. It is enough at least if it is an ascertained profit, ascertained by a proper account."

In our opinion, when s.50(3) speaks of the derivation of part of the surplus, it is inviting an inquiry into its real source, ascertained by a proper account and looked at as a "practical, hard matter of fact" (cf. Insurance Commissioner v. Associated Dominions Assurance Society Ltd. (1953) 89 C.L.R. 78 at p.98). The history of the legislation is consistent with this interpretation.

Inquiries of this type, dealing with a mixed fund, occur frequently in a wide range of statutory contexts, particularly in the revenue field (see, for example, Commissioner of Taxation (N.S.W.) v. Hillsdon Watts Limited (1937) 56 C.L.R. 35 at 51-2 per Dixon, J.; Hughes v. Bank of New Zealand (1938) A.C. 366; Inland Revenue Commissioners v. Australian Mutual Provident Society (1947) A.C. 605; Mutual Life & Citizens Assurance Company Limited v. Commissioner of Taxation (1959) 100 C.L.R. 537; Australian Mutual Provident Society v. Commissioner of Inland Revenue (1962) A.C. 135; Inland Revenue Commissioners v. Montgomery (1975) 1 Ch. 266 at 271). So far as concerns the general law, both common law and equity have always permitted tracing into and out of, mixed funds in appropriate circumstances (see Keeton and Sheridan, Equity (1969) at p.521 et seq; Goff and Jones, The Law of Restitution, 2nd Ed. (1978) at p.48 et seq; pp.57-8). In our opinion, s.50(3), on its true construction, calls for an inquiry, of a practical kind, as to the source of the surplus. In that inquiry, it is necessary to attribute to the participating policies an appropriate proportion, if any, of the surplus. We do not understand there to be any significant difference of approach on the part of the applicant and the respondent to the construction of s.50(3) at this general level. The real point of departure, as we see it, is in the application or operation of the provision.
The operation of s.50(3)

The respondent submitted that the reasoning of the Tribunal was correct, involving as it did, a "fair and equitable" apportionment as between the participating and the non-participating sections of the fund of the injections of shareholders' funds. The applicant, on the other hand, contended that the Act required no such apportionment: all that s.50(3) called for was a simple enquiry as to the nexus, if any, between the s.50(2) surplus and the participating policies. In the present case, the "internal" accounts disclosed that the revenue account of those policies was in deficit and hence did not contribute to the surplus. It follows that the requisite nexus could not be established and s.50(3) did not apply. For this purpose, any transfers from any reserves are to be ignored as irrelevant: all that is required to avoid the restrictions of s.50(3) is to demonstrate that there is a deficit in the participating policy business, ignoring for this purpose first, any transfers from reserves and secondly, any surplus in the non-participating business. Such a deficit, the applicant submitted, is to be ascertained (as here) merely by making up a notional balance sheet for that business involving a comparison between a revenue account in that behalf (excluding transfers from reserves) and the net liabilities under those policies.

In its terms, s.50(3) requires the ascertainment, on proper accounts, of the proportion, if any, of the surplus which should properly be attributed to the participating policies. In our opinion, this is an accounting question, looking at the statutory fund as a whole. In any such accounting, the fact that, at all material times, there was only one statutory fund for ordinary life insurance business and one for superannuation business is, we think, of fundamental significance. The applicant did not seek the consent of the Commissioner under s.37(2) to partition the fund into two classes of business (participating and non-participating) and thus to create two statutory funds to replace the existing fund in each case. Hence, the question must be considered upon the footing that, there being only one fund, all transfers into or out of the fund, such as transfers from reserves or by way of distribution of surplus, should be treated as payments into or out of the fund as a whole. In other words, in our view, it was not open to the applicant to transfer moneys into the fund from a reserve and then to purport to appropriate those moneys to one section only of the fund, viz, the non-participating section. The making of such an appropriation within a statutory fund is, in our opinion, prohibited by ss.37 and 38: those provisions require that, absent the consent of the Commissioner to the establishment of a new fund in respect of part of that business, the whole of the assets of the statutory fund are available for that class of business generally and not only for a specified part of that business. To appropriate the subsidy to part only of the statutory fund is a "back door" approach and, in truth, is no more than an attempt to do indirectly what is forbidden to be done directly (see James v. Eve (1873) L.R. 6 H.L. 335 at p.344; Oxley County District Council v. Macleay River County District Council (1964) 65 S.R. 13 at p.28). It lacks validity accordingly.

Thus, even if the participating policyholders had no right in equity to have the assets marshalled (see In re International Life Assurance Society (1875) 2 Ch.D. 476), the provisions of ss.37 and 38, in our opinion, prohibit any attempt to appropriate part of the assets of the fund to one section only of the business of that fund. In any event, initially at least, the subsidies, being the transfers in question, were made to the fund as a whole, without any attempt being made, at that stage, to restrict the benefit of the transfers to the non-participating business only. The subsequent attempt, ex post facto, to attribute the subsidy exclusively to non-participating business was, for the reasons we have given, without legal effect and should be disregarded. The position simply is that amounts have been injected into the two statutory funds as a whole by way of transfer from a reserve. The question is then one of determining a proper basis, if any, for apportionment of the transfers from reserves as between participating and non-participating business.
Apportionment of the transfers from reserves

There are many purposes of the law for which it may be necessary to make an apportionment in respect of a payment. Unless a special appropriation can be made (and by dint of ss.37 and 38, none was open here), the rule is that a payment is attributed rateably to each dollar of a fund (see Mutual Life & Citizens' Assurance Co. Ltd. v. Commissioner of Taxation (1959) 100 C.L.R. 537 at p.555; Resch v. The Federal Commissioner of Taxation (1942) 66 C.L.R. 198 at p.230).

It follows, in our view, that when, from time to time transfers were made of funds from a reserve into the statutory funds, those transfers should be treated as made to the fund or funds as a whole and apportioned within the fund or funds by attributing the payment or transfer so made to each dollar of the fund in the case of both participating and non-participating business. Since no appropriation within the fund or funds of the payment or transfer is open, the statutory fund or funds is or are advantaged as a whole and a surplus in the fund as a whole within the meaning of s.50(2), is realised accordingly in each year. The "internal" accounts should therefore be rejected so far at least as they attributed the subsidies to the non-participating segment only.
That part of the surplus which is derived from participating policies

For the reasons we have given, s.50(3) requires the carrying out of a practical inquiry, on a taking of proper accounts, into the real source of the surplus and, in particular, an inquiry as to whether it is proper to attribute part of that surplus to the participating policy part of the applicant's business. The starting point is the preparation of proper accounts.
Proper Accounts

Although it rejected the "internal" accounts, the Tribunal did not attempt to recast the accounts of the statutory funds. For the reasons it gave, we agree that it was inappropriate for the Tribunal to do so. However, whilst we agree with the rejection of the "internal" accounts, we share the reservations expressed by Fitzgerald, J. as to the Tribunal's notion of a "fair and equitable" apportionment of the subsidies. An apportionment is called for but, in our view, it must be effected pro rata. It may be that the Tribunal had only this in mind in its notion of apportionment but the position is by no means clear (cf. the reference to what would be "inequitable" in the proviso to s.69(2)).

In its approach, the Tribunal seems to have regarded the outcome of the proceedings as depending upon the acceptance or otherwise of the "internal" accounts. In that connection, the Tribunal seems to have assumed that the "internal" accounts somehow misrepresented the deficits in the participating policies segment of the fund, independently of the impact of the transfers from reserves. They referred to the ability to pay bonuses on participating policies as evidence that, in truth, that sector of the applicant's business was generating surpluses whereas the "internal" accounts disclosed deficits in that respect. However, the Tribunal did not embark upon any detailed analysis of the accounts for this purpose. We therefore do not have a specific finding on the point and, in the light of the conclusion we have reached, it is not appropriate for us to consider the matter further.

The problem was compounded when, in this Court, the applicant abandoned any reliance on the "internal" accounts, notwithstanding their central importance to the proceedings below. The applicant sought before us to ignore the "internal" accounts and instead to rely upon a deal of primary material and to use the figures there contained to construct an argument, largely of a factual nature, that, in the circumstances, no nexus between the surplus and the section of the fund involving the participating policies could be perceived: on the primary material indicated, if earlier transfers from reserves are ignored, that section was at all material times in deficit; hence, it could never have contributed to the surplus. Thus, it was submitted, no part of the surplus was "derived from" those policies for the purposes of s.50(3).

There are real difficulties in inviting the Court at this late stage to embark upon a factual enquiry of the kind now suggested. In the first place, the jurisdiction of the Court under s.44(1) of the Administrative Appeals Tribunal Act, 1974 is limited to a decision on a question of law only. Clearly, the proper construction of s.50(3) and the question of apportionment of the transfers from reserves do raise legal questions: the same cannot necessarily be said of the argument now put. Secondly, the submission now advanced raises an issue of a factual kind which, in any event, may already have been resolved by the Tribunal adversely to the applicant.

We doubt whether, strictly speaking, the submission now put does raise a question of law. In any event, it would not be appropriate for the Court to explore such a matter in the absence of specific findings by the Tribunal. In particular, we think that it is undesirable that we speculate about the proper inferences to be drawn from the figures, complex as they are. We do not have the material available to make a finding of the type now sought even if it were open to us to do so. We are in no position to recast the accounts ourselves.

The orders made by the Tribunal were framed in general terms and gave no direction as to the treatment of any specific item in the applicant's accounts. The matter was thus resolved in principle and it was left to the parties to resolve the details to be contained within the fresh abstract. We agree that this is the appropriate course to be adopted in the circumstances. The Tribunal has directed no more than that a proper account be submitted by the applicant. It has not attempted to determine the details of the account in advance. In our view, in the absence of a full knowledge of all relevant details of that account, it would be wrong to seek to isolate, in the accounts as presently framed, a few items and then conclude, as the applicant urges, that no nexus has been established between those items and the participating section of the business. Such a conclusion can only be drawn from the accounts as a whole when properly recast along the lines we suggest.
Relief to be granted

In the circumstances, whilst we are not persuaded that the applicant is wrong in its submissions on the effect of the primary material now sought to be relied upon, we do not think that it is appropriate that we should now come to any final conclusions on what are essentially accounting questions. Those conclusions should only be arrived at after the accounts have been recast along the lines we suggest and, in particular, after the transfers from reserves have been properly apportioned within the funds. Only after the accounts have been rewritten will it be possible to ascertain whether, in the relevant years, a proper account discloses that some part, if any, of the statutory surplus was derived from the participating policies.

At the same time, we should indicate that we agree with the view expressed by Fitzgerald, J. that, in terms of derivation of any relevant surplus, a transfer from a reserve should not be treated as a source of any part of the surplus generated by the participating policies section of the applicant's business. In other words, we agree with Fitzgerald, J. that the transfers from reserves are not, as such, to be attributed to the participating policies as their source for the purposes of s.50(3).

We would propose to order that the decision of the Tribunal be set aside and that the case be remitted to the Tribunal to be heard again with the hearing of further evidence, if necessary. Since neither party has really succeeded in the appeal, each party should bear its or his own costs.

JUDGE2

The question of law raised by this appeal from the Administrative Appeals Tribunal concerns the interpretation of the Life Insurance Act 1945 ("the Act") and more particularly sub-s. 50(3) of the Act. The appellant is an insurance company. The respondent Life Insurance Commissioner rejected under sub-s. 52(3) of the Act abstracts of actuarial reports into the appellant's financial condition in the calendar years 1979 and 1980 which the appellant was required to cause to be prepared and to lodge with the respondent pursuant to sub-ss. 48(1) and 52(2) of the Act. The respondent's decision was affirmed by the Administrative Appeals Tribunal on a review under sub-s.138(1) of the Act. The apellant disputes that there was any deficiency in the abstracts beyond a non-compliance with paragraphs 6 and 7 of the Second Schedule to the Act, and, in particular, it calls in question the other basis upon which the abstracts were rejected, namely, that paragraph 8 of the Second Schedule was not satisfied. That issue depends substantially, if not entirely, on which of the competing views of sub-s. 50(3) of the Act is correct.

In the material years, the appellant had established and maintained a single statutory fund in relation to all its ordinary life insurance business other than superannuation business and a further single statutory fund in relation to its superannuation business; that is to say, it maintained a single statutory fund in each case with respect to both participating and non-participating policies. By sub-s. 4(1) of the Act, a "participating policy" is defined to mean, unless the contrary intention appears, "a policy by the terms of which the owner of the policy is entitled to a share in surpluses or profit which may be distributed by the company". Each of the appellant's statutory funds related to a single class of business within the meaning of the Act, and the appellant, in acting as it did, was acting in accordance with the Act and with industry practice.

Part III Division 4 of the Act is headed "Accounts, Balance Sheet and Audit". Section 41 requires that a company keep separate accounts of its payments and receipts in respect of each class of life insurance business. Section 44 provides for a Balance Sheet in respect of each class of life insurance business in Form D in the First Schedule to the Act. A note to Form D in the First Schedule provides that -
"Where a company maintains more than one statutory fund in respect of its life insurance business, the amounts of the items in the balance sheet shall be shown in separate columns in respect of each statutory fund in lieu of combining those amounts in the column headed 'Life Insurance Business'".
Section 44 also requires what is somewhat inaptly referred to as a Revenue Account in respect of each class of life insurance business. A Revenue Account must be in Form A in the First Schedule which is as follows: SCHEDULE OMITTED

No provision in Division 4 of Part III expressly requires separate treatment of participating policies and non-participating policies which comprise a single class of business which is the subject of a single statutory fund and, in my opinion, it is impossible to spell out any such requirement by implication.

Division 5 of Part III of the Act is headed "Actuarial Investigations". Paragraphs 48(1)(a) and (b) provide that every company shall, at specified periods, cause an actuary to make an investigation of its financial condition and to furnish a written report of the results of the investigation, and cause an abstract of the report of the actuary to be prepared in accordance with the provisions of the Second Schedule. A separate abstract is required by sub-s. 48(3) in respect of each class of life insurance business carried on by the company, but no similar requirement is made in respect of different categories of business which form part of the same class. The Second Schedule requires that there be annexed to the abstract a summary and valuation in accordance with Form I in the Schedule of the policies included in the class of business to which the abstract relates. Form I requires particulars for participating policies to be shown separately from those of non-participating policies. The Second Schedule also requires that there be annexed to the abstract a Valuation Balance Sheet in accordance with Form J in the Schedule. Form J, which makes no provision for details in respect of participating policy business and non-participating policy business to be shown separately, is as follows:
" FORM J.

VALUATION BALANCE SHEET OF (class of life insurance business) OF (name of Company) AS AT (date)
-------------------------------
-- Total -- Total
-------------------------------
Net liabilities Balance of Revenue
under policies - Account
On registers in Deficiency (if any)
Australia or a Territory Surpluses (if any)

----- -----

------------------------------"

The "Net liabilities under policies" referred to in the Valuation balance sheet fall to be calculated in accordance with s.49 of the Act, sub-ss. (2) and (3) whereof provide as follows:

"49.(2) The basis of valuation adopted shall be such as to place a proper value upon the liabilities, having regard to the mortality experience among the persons whose lives have been insured by the company, to the average rate of interest from investments and to the expenses of management (including commission), and shall be such as to ensure that no policy shall be treated as an asset.

(3) The value placed upon the aggregate liabilities of a statutory fund in respect of policies by reason of the adoption of any basis of valuation shall not be less than it would have been if it had been calculated on the Minimum Basis in accordance with the rules set forth in the Fourth Schedule or, if those rules have been amended by the regulations, in accordance with those rules as so amended."

Experience in the industry has shown that, during the early years of a statutory fund and during periods of development of a new business, because of the cost of commissions on the sale of new business and other developmental expenses a deficiency is likely to emerge in the Valuation Balance Sheet (Form J) in respect of the fund unless assets are transferred by the insurance company into the fund. It is a practical necessity to prevent such a deficiency arising in a statutory fund. In order to do so, sufficient assets must be transferred into the fund to ensure a credit balance in the Form A Revenue Account with respect to the fund which is not less than the Net liabilities under the policies in respect of the business to which the fund relates. Whilst the appellant's ordinary life insurance and superannuation business were developing, the business in relation to participating policies and the business in relation to non-participating policies each contributed to a need for the appellant to transfer assets into its respective statutory funds and the appellant transferred sufficient assets into each fund to ensure that the Valuation Balance Sheets showed surpluses not deficiencies. The assets transferred by the appellant were monies from a share premium account which it had created consequent upon share allotments to its holding company. The amounts transferred were recorded as "Transfers from Reserves" on the credit side of the appellant's Form A Revenue Accounts in respect of the funds. It is accepted that the course followed by the appellant was in accordance with the Act and industry practice.

Pursuant to s.38 of the Act, the assets of each statutory fund must be kept separate and distinct from all other assets of a company, and the income arising from the investment of the assets of the fund must be carried to that fund. All amounts received in respect of the business to which a statutory fund relates are carried to, and become assets of, that fund. Sub-section 38(2) provides:
"38.(2) Subject to this Act, the assets of a statutory fund shall not, so long as the company carries on the class or classes of life insurance business in respect of which the fund was established, be available to meet any liabilities or expenses of the company other than -

(a) liabilities or expenses referable to that class or those classes of life insurance business; and

(b) liabilities charged on those assets or any of them immediately prior to the commencement of this Act,

and shall not otherwise be directly or indirectly applied for any purpose other than the purpose of that class or those classes of life insurance business."
Sub-section 50(1) provides -
"50.(1) A company shall not -

(a) pay, apply or allocate any part of the assets of a statutory fund -

(i) as dividends or otherwise as profits to shareholders; or

(ii) as bonuses to policy owners; or

(b) transfer any part of the assets of a statutory fund to another statutory fund,

except in accordance with this section or sections 40 or 40A."
Neither s.40 nor s.40A is presently relevant. It is the other parts of s.50 itself which are the subject matter of the present disputation.

Sub-sections (2) and (3) of s.50 provide, so far as may be presently material:
"(2) If, as a result of the latest valuation in respect of a company which is either -

(a) a valuation made in pursuance of sub-section 48(1); or

. . .
the valuation balance-sheet or valuation balance-sheets in respect of the life insurance business to which a statutory fund relates discloses or disclose that the balance of the revenue account or, if there is more than one revenue account in respect of that business, the sum of the balances of the revenue account, is greater than the amount of the net liabilities of the company in respect of that business, the company may, with the approval of an actuary and subject to sub-section (3) of this section, pay, allocate or transfer the surplus or a part of it in any manner consistent with the provisions of the instruments constituting the company and the articles of association or other rules of the company.

(3) The sum of the amount paid or allocated to or for the benefit of the shareholders of the company and the amount transferred to another statutory fund under sub-section (2) in respect of that part of the surplus which is derived from participating policies registered in Australia shall not exceed one-quarter of the amount paid or allocated to or for the benefit of the owners of those policies."

Sub-section 50(3) of the Act, which is set out above, operates by reference to "that part of the surplus which is derived from participating policies". The judgment of Morling and Beaumont JJ. traces the sub-section to a report of the Royal Commission on Industrial Life Assurance appointed in 1938 by the Victorian Government under the chairmanship of Mr T.S. Clyne (as he then was), which led to a Victorian statutory provision which was the precursor of sub-s. 50(3). One of the Royal Commission's recommendations concerned the distribution by each company to participating policy-holders of "at least 80% of the surplus or profits which may be earned . . . by that part of the business which relates to with-profit policies". "Profit", according to its ordinary meaning in an accountancy context, is frequently and accurately spoken of as either "earned by" or "derived from" a business activity, and the two phrases are frequently interchangeable in that context. It is unnecessary to consider whether in the Act, for example in sub-s. 4(1), "surplus" and "profit" are synonymous. What is plain is that, if they are, the word "profit" is not there used in its ordinary sense. "Surplus" in the Act is a unique concept measured (as is its statutory antithesis "Deficiency") by the relationship, according to the Valuation Balance Sheet (Form J) in respect of a fund, between the Balance of Revenue Account and the actuarially valued Net liabilities under the policies to which the fund relates. "Surplus" bears no necessary relation to profitability. A Revenue Account in Form A is not confined to revenue and expenditure, or even to such matters together with increases or decreases in respect of investments associated with the insurance business which is the subject of the fund. A Revenue Account in respect of a fund may also relate, as it does in this case, to transfers of outside capital into the fund or to transfers out of the fund. The surplus in a fund may be improved or (subject to the Act) reduced by such transfers which are not directly referable to the business of the fund except in the sense that such business provides the occasion for the transfers.

By Statutory Rule 1978 No. 31, the "Rules for Calculation of Value of Liabilities on the Minimum Basis" in the Fourth Schedule to the Act were changed. The result, upon a further valuation under sub-s. 48(1) of the Act, was a substantial decrease in the Net Liabilities under the policies, both participating and non-participating, to which each fund related, and a substantial increase in the surplus in each fund. However, I did not understand it to be disputed that, if the Transfers from Reserves had not been made into each fund, there would have continued to be deficiencies not surpluses in the funds. The appellant was entitled to deal with the surpluses in the funds in accordance with sub-s. 50(2) of the Act, subject, as sub-s. 50(2) recognizes, to the further limitation which is imposed by sub-s. 50(3) where it applies. The dispute in the present case arises from the appellant's contention that sub-s. 50(3) has no application to any part of the surplus in either fund.

The Net liabilities under a category of policies which form part only of the business of a fund are readily ascertainable from the Second Schedule Forms I but there are no statutory provisions or forms which provide for separate Revenue Accounts to be prepared in respect of different categories of policies which form part of a single class of business which is the subject of a single fund. However, it is not in dispute that, provided that suitable records are kept, it is feasible to dissect the items recorded in the Form A Revenue Account in respect of such a fund. The various revenue and expenditure items can be apportioned between participating policy business and non-participating policy business, and a division of investments and investment income and outgoings can be effected between participating policy business, non-participating policy business, and the assets transferred into a fund (and shown in the Form A Revenue Account as a Transfer from Reserves) or out of the fund (Transfer to Reserves). The appellant in fact prepared internal "Revenue Accounts" which, have served as a distraction in these proceedings. Those accounts do not have, and were not suggested to have, any statutory recognition or effect. They were simply documents prepared to reflect the appellant's contention that no part of the Transfer from Reserves in the Form A Revenue Account in respect of either fund was relevantly referable to participating policies. The only possible use of the appellant's internal accounts might have been as an aid to demonstrating that, if the appellant's construction of sub-s. 50(3) of the Act is correct, in point of fact no part of the surpluses in the statutory funds was derived from participating policies. Regrettably, the appellant somewhat inconsistently included the entire Transfers from Reserves in internal "Revenue Accounts" in respect of the non-participating policies a step which was quite properly attacked by the respondent and which led to considerable confusion. It is fundamental to the appellant's argument that Transfers from Reserves have no connection for present purposes with either participating policies or non-participating policies.

I did not understand it to be in contest that, notwithstanding that, taking into account the Transfers from Reserves, there were overall surpluses in the statutory funds and that these surpluses had been increased by the decrease in the Net liabilities under all policies consequent upon the revaluation, the Balance of a "Revenue Account" in respect of each category of the policies which ignored the Transfer from Reserves would have continued to be exceeded by the Net liabilities under the policies in that category. According to the appellant, it is only when a surplus not a deficiency emerges from a comparison of a Balance of a "Revenue Account" in respect of participating policies which has been prepared on that basis and the Net liabilities in respect of such policies that there is any part of the surplus which exists in the statutory fund as a whole which is "derived from" the participating policies. The respondent's contrary position is that Transfers from Reserves are to be notionally divided between participating policies and non-participating policies on a "fair and equitable" basis calculated by reference to the circumstances at the time at which the Transfers from Reserves took place, and that separate "Revenue Accounts" for each category of policies in a fund should be prepared on that basis. What would constitute a "fair and equitable" apportionment was not elaborated upon but, given that a suitable formula might be arrived at, it was not in contest that separate "Revenue Accounts" might be prepared on the basis for which the respondent contends. The respondent further argued that the whole of th surplus which emerged from a comparison of a Balance of a "Revenue Account" in respect of participating policies prepared on that basis and the Net liabilities in respect of such policies was "derived from" the participating policies within the maning of sub-s. 50(3) of the Act.

The Tribunal found support for the respondent's view of the operation of sub-s. 50(3) of the Act in the present circumstances by reference to, and a comparison with, the position which it conceived would exist if other alternatives which it considered that the Act presented were availed of. Reference was made to "the situation which would arise in the case of a statutory fund maintained solely in respect of participating policies on registers in Australia" that contained a surplus contributed to by "shareholders' funds". Such a fund might exist because a company's business with respect to that class of insurance related only to participating policies or because the company had "pursuant to s.37(1A) or (2), established a separate fund in respect of a part of a class of its . . . business". In the Tribunal's opinion, the whole of such a surplus would be appropriately described as "derived from participating policies registered in Australia". It is unnecessary to pursue the correctness of the Tribunal's view that, where a separate statutory fund is established in respect of a part of a class of business, it is "a necessary inference from s.38 of the Act" that "all the provisions which refer to a class of business are to be taken as referring to that part of the class in respect of which the separate statutory fund is established and maintained". It may for present purposes be accepted that perhaps in that situation, but certainly where a company's business in respect of a class of insurance related only to participating policies, there would be a full set of published accounts and records which related only to participating policy business. Further, in either event, any transfer of assets by the company to the fund would inevitably be a "Transfer from Reserves" in respect of a fund related only to participating policy business. However, in my opinion, the question would still remain whether all or any of any surplus in the fund was "derived from" the participating policies. I can find no indication in the complex statutory provisions dealing with accounting and actuarial records and reports which gives any real indication, one way or the other, as to which of the competing views of sub-s. 50(3) of the Act is correct. To establish the existence of a statutory obligation under the Act to produce separate Revenue Accounts in Form A in respect of participating policies in the form contended for by the respondent, at least in some circumstances, does not take the respondent the full distance. The ultimate question remains whether all or any part of any surplus arrived at by comparing the Balance of such a Revenue Account with the Net liabilities under the policies is "derived from" the policies within the meaning of sub-s. 50(3).

The respondent's argument in relation to what I have described as the ultimate question really amounted to a submission that, since the business of a fund and the deficiency which that business would otherwise produce was the occasion of a Transfer from Reserves, the Transfer from Reserves arose from the carrying-on of that business; where the business which necessitated the Transfer from Reserves was, or included, business in relation to participating policies, the Transfer from Reserves, or part of it arose from the carrying on of the business in relation to participating policies. It follows, according to the respondent, that when Transfers from Reserves contribute to a Balance of Revenue Account which gives rise to a surplus, part of the surplus, comprising or at least reflecting part of the Transfers from Reserves and income thereon, relates to the business of participating policies and can therefore be said to be "derived from" the participating policies.

The true operation of sub-s. 50(3) seems to me both different and simpler. I do not disagree with the view which commends itself to my brethren that sub-s. 50(3) calls for an inquiry of a practical nature as to the "source" of the surplus or that, insofar as there may be any material distinction in the context, what is necessary is to identify the originating cause, not the physical source of the surplus. However, in my opinion, the sub-section does not assume that a surplus which arises under sub-s. 50(2) must always, even in circumstances such as the present, have component parts, each of which must be derived from one or other of the categories of policies in the class of business to which the fund relates, and which, in the aggregate, must comprise the whole surplus; it assumes no more than that a part of a surplus in a fund may be derived from participating policies. For example, there may be a fund which is in surplus which is related only to non-participating policies or a mixed fund where no Transfer from Reserves was needed because non-participating policy "surplus" exceeds participating policy "deficiency". In neither case can it be suggested that part of the surplus in the fund is derived from participating policies.

In a case such as the present, even if some part of the Transfer from Reserves ought be considered as appropriated to the participating policy business, so that part of the surplus could properly be said to consist of that part of the Transfer from Reserves which is referable to the participating policy business, I cannot accept that it is possible, without torturing the language of the sub-section, to describe that part of the surplus as "derived from" the participating policies. The surplus consists of, or represents, the Transfers from Reserves and income thereon less deficiencies from the business; no part of the surplus is, according to the ordinary meaning of the words, "derived from" the business of participating or non-participating policies if each results in a deficiency considered apart from the Transfers from Reserves. The source of the surplus is identified as the Transfers from Reserves and income thereon, not the insurance business.

No doubt, the policy of ss. 38 and 50 including sub-s. 50(3) is related to the protection of policy-holders and sub-s. 50(3) exhibits particular concern for the holders of participating policies. However, the immediate object of sub-s. 50(3) is not the solvency of the fund; restrictions upon dealings to ensure that a surplus in a fund is not converted into a deficiency are found elsewhere, e.g. in sub-s. 50(2). On any view of the operation of sub-s. 50(3), the fund must remain solvent in the sense that surplus must remain. Sub-section 50(3) merely controls the application of so much of the surplus as it is elsewhere made permissible to remove from the fund; it limits the percentage of a part of that portion of surplus which may be removed which may go to shareholders or another statutory fund, not participating holders. There is no point of policy, and no issue of merit or fairness, which I can discern which might lead to a preference for one of the competing contentions over the other. The task is simply to give literal effect to the language of the Act.

An exercise in semantics such as is here called for can seldom be supported by purely logical considerations. A preference is formed, in part at least as a matter of impression, and reasons are developed which tend to circuity. However, in my opinion, there are two additional matters which may usefully be mentioned. Firstly, I found difficulty in the respondent's notion of equitable apportionment of Transfers from Reserves related to the situation in relation to each category of policies as it exists at the time of each transfer. Senior Counsel for the respondent refrained from any attempt to indicate how the equitable apportionment was to be achieved, and I find it an elusive concept, and one which seems to introduce an artificial inflexibility when related to the time at which a "Transfer from Reserves" takes place, without any accommodation of subsequent changes in the respective business operations in relation to different types of policy. Secondly, the Net liabilities under participating policies are increased by bonuses declared in favour of policy holders. Although the bonuses increase the deficiency in respect of such policies considered in isolation, and thus postpone the point of time at which there will be a surplus in respect of such policies considered in isolation, thereby delaying the operation of sub-s. 50(3), policy-holders are not thereby disadvantaged relative to an insurance company's shareholders. The bonuses are, of course, themselves a direct benefit to the policy-holders and reduce the amount which is surplus and thus distributable at all under sub-s. 50(2) of the Act. If, as it seems, the Tribunal considered that the appellant's capacity to pay bonuses on participating policies evidenced that the participating policy business was producing surplus, that view was in my opinion demonstrably incorrect. Surplus can exist in a fund as a whole, so that bonuses may be declared or paid, although all or any part of the business to which the fund relates is operating unprofitably.

It remains to add that I have not been influenced by the evidence, or the Tribunal's views, concerning acturial principles and practice, notwithstanding the relevant expertise possessed by the non-judicial members of the Tribunal. It is apparent that the acturial disputation centres entirely upon conflicting interpretations placed by the actuaries on sub-s. 50(3) of the Act.

I have recorded earlier in these reasons my understanding that it was not in dispute between the parties on this appeal firstly that, if the Transfers from Reserves had not been made into each fund, there would have continued to be deficiencies not surpluses in the fund, and secondly that, notwithstanding that, taking into account the Transfers from Reserves, there were overall surpluses in the statutory funds and these surpluses had been increased by the decrease in the Net liabilities under all policies consequent upon the revaluation, the Balance of an internal "Revenue Account" in respect of each category of the policies which ignored the transfer from Reserves would have continued to be exceeded by the Net liabilities under the policies in that category. Further, it seems to me that no issue was raised by the respondent with respect to any element of detail in the appellant's approach if the appellant was correct in the construction of sub-s. 50(3) of the Act for which it contended and I thought that it was common ground that, if the Court is of opinion that the appellant's construction is correct, the appropriate course was to allow the appeal, to affirm the decision rejecting the abstracts, but to vary the form of the direction with respect to the lodgment of fresh abstracts to delete any reference to paragraph 8 of the Second Schedule. If my understanding was correct, it would follow that, for the reasons which I have given, the appeal should be allowed with costs. However, Morling and Beaumont JJ. indicate a preference for a different course and, in the light of their reasons for doing so which are related to the possibility that there are unexplored and perhaps disputed questions of fact, I am not prepared to dissent without purpose. Accordingly, I do not disagree with the orders which they propose.

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Citations

Sentry Life Assurance Ltd v Life Insurance Commissioner [1983] FCA 230 ((1983) 78 FLR 74)

Most Recent Citation

Yorke, Miles Richard & Anor v Lucas, Ross Melville [1983] FCA 243 ((1983) 80 FLR 143)

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[1983] FCA 230

29 AUGUST 1983