Steele v Deputy Commissioner of Taxation
[1998] HCATrans 382
IN THE HIGH COURT OF AUSTRALIA
Office of the Registry
Perth No P30 of 1998
B e t w e e n -
KATHLEEN FAYE STEELE
Appellant
and
DEPUTY COMMISSIONER OF TAXATION
Respondent
GLEESON CJ
GAUDRON J
GUMMOW J
KIRBY J
CALLINAN J
TRANSCRIPT OF PROCEEDINGS
AT PERTH ON THURSDAY, 22 OCTOBER 1998, AT 9.40 AM
(Continued from 21/10/98)
Copyright in the High Court of Australia
GLEESON CJ: Yes, Mr Le Miere.
MR LE MIERE: May it please the Court. When the Court rose yesterday I was in the course of submitting to the Court that the connection between the interest payments and the deriving of assessable income is too remote for the expenditure to have been incurred in gaining or producing assessable income. If it please the Court, the history of the decisions is that the tribunal so found, that is that the connection was too remote ‑ ‑ ‑
GAUDRON J: Well, where exactly?
MR LE MIERE: At page 672, in the first paragraph commencing on that page.
GAUDRON J: Well?
MR LE MIERE: And perhaps to put it in ‑ ‑ ‑
GAUDRON J: That is precisely what the Full Federal Court said was really not an open finding.
MR LE MIERE: Not quite, your Honour, if I might trace it through. In our submission, that was the finding of the tribunal. When the matter went on appeal his Honour Justice Nicholson found that the finding was open to the tribunal. When the matter went to the Full Federal Court ‑ ‑ ‑
GAUDRON J: Well, which finding? The factual finding seems to be, I have a dream. Is that right?
MR LE MIERE: That was really a matter of ‑ ‑ ‑
KIRBY J: Was that Dr Gerber’s typically colourful expression?
MR LE MIERE: With respect, yes indeed, your Honour. The tribunal made very specific findings of fact, for example, that no plans were ever finalised, that no finance was ever obtained, that ‑ ‑ ‑
GLEESON CJ: Was this not a joint judgment or a joint reasons?
MR LE MIERE: The way it went was this way, your Honour, that there was a first hearing of the tribunal and the first set of reasons was a joint reasons. There was then a second hearing, that is, a second taking of evidence. On the second occasion on which evidence was taken before the tribunal, the evidence was concerned with the agistment question.
GLEESON CJ: I understand that, but you referred us to page 672, which is page 21 of a document that I understand begins on page 651.
MR LE MIERE: Yes, your Honour.
GLEESON CJ: Are these not joint reasons?
MR LE MIERE: Yes, your Honour, I am sorry if I said anything other to the contrary.
GLEESON CJ: Right.
MR LE MIERE: They were joint reasons and indeed, the only difference in the second set there were separate reasons, but they relate only to the agistment question.
GLEESON CJ: It is on a different issue; it was on the agistment.
MR LE MIERE: Correct. I am sorry, your Honour; your Honour is probably taking up the point in response to Justice Kirby. I was accepting the reference to Dr Gerber’s ‑ ‑ ‑
GLEESON CJ: It was just that I was confused, because I realise there are different sets of reasons, but I just wanted to be sure I had this one straight.
MR LE MIERE: Indeed, the references to “I had a dream” and so on were - indeed might be characterised as the colourful language used by the tribunal in delivering its reasons.
KIRBY J: And was that in the joint reasons?
MR LE MIERE: Yes, and indeed, in the very paragraph that I drew attention to.
KIRBY J: One can suspect who wrote that little sentence.
MR LE MIERE: Perhaps, like your Honour, I fell into that.
KIRBY J: Yes.
MR LE MIERE: Now that was a particular observation or comment made by the tribunal. In my submission, the findings upon which the conclusion is reached, that is that there was not a sufficient nexus, goes back to the, we call them, the primary findings of fact by the tribunal.
GLEESON CJ: Now where did Justice Nicholson deal with that? At what page? I think we need to be fairly precise about this, because amongst other things it might affect the form of the order.
MR LE MIERE: Yes, your Honour. At page 735 commencing at line 40, Justice Nicholson refers to the evidence, starting with matters relating to zoning, road closure, identity of a project changing, the sale of the interest to Williams.
GLEESON CJ: Page 736 line 25.
MR LE MIERE: That is the conclusion, your Honour, yes indeed. Now when the matter went to the Full Court, the Full Court dealt with the matter in the way, starting at page 761 ‑ ‑ ‑
GLEESON CJ: Is it not really the explanation of what Justice Carr did in the Full Court? Did he not say, the tribunal misdirected themselves.
MR LE MIERE: Yes, but on a different basis, your Honour. What Justice Carr said was, in effect, that what the appellant had been engaged in was that she intended to derive one way or another profit or gain from the venture and that it appeared to be a project of profit-making by sale, a venture of profit-making by sale, and that the tribunal had never addressed that question. Accordingly, Justice Carr would have remitted the matter to the tribunal for the tribunal to reconsider and to address that question.
GLEESON CJ: Well, I understand that; is that not the same thing as saying, the tribunal misdirected themselves on this issue and so he would have remitted it to them to have another go at it?
MR LE MIERE: Yes, but the issue, your Honour, on which the tribunal made a finding and which Justice Nicholson upheld, was the question of whether or not there was a sufficient connection between the interest payments and the deriving of income from the operation of a motel. What Justice Nicholson said was that that is the wrong question. Justice Carr said that that was the wrong question; that the tribunal should have looked at the matter of whether or not there was a venture of profit-making by sale. Justice Carr referred to the fact that in one of the early versions of the project, there was a plan which included the building of 80 townhouses and that there was the prospect of the townhouses being sold at a profit and so Justice Carr was saying, in effect, that it appeared that there was, from the outset, a venture by the taxpayer to make a profit one way or another, not necessarily by the operation of the motel, but it could have been by selling the land and the whole project.
GLEESON CJ: Can I ask you a question about the sentence on page 736 line 25 in Justice Nicholson’s judgment. He did not say, the evidence relied upon by the tribunal:
entitled the Tribunal to conclude that there was an insufficiency of connection.
He said, and no doubt he expressed this very carefully:
the evidence relied upon for the respondent in this respect fully entitled the Tribunal to concluded –
so that the tribunal:
did not err in law –
MR LE MIERE: In my submission, your Honour, I think that comes from the way in which his Honour has structured his reasons. If your Honour goes back to page 734, for example, his Honour refers at line 44 to:
The case for the respondent points to evidence to support the Tribunal’s implicit finding in its rejection of the applicability of Travelodge –
and again earlier, perhaps I should have gone to the beginning of page 734, the first line:
For the respondent it is accepted that there must be a connection –
and so on, and then his Honour refers to again the evidence or the case for the respondent and pointing to evidence.
KIRBY J: Is his Honour there dealing with the first limb of section 51(1) or with the second limb? As I understand it, you have got to get through the two barriers; you have got to get through the first limb, the characterisation problem, then you have got to get, notwithstanding that, and it is not enough to get through the first limb, you have got to get through the second one as well.
MR LE MIERE: The exclusionary limb, your Honour, you mean?
KIRBY J: Yes.
MR LE MIERE: Yes. His Honour is referring to the first limb, the positive limb. The question of sufficient connection is one which relates to the first, the positive limb.
KIRBY J: Is the second limb a sort of check that says, well even if you get through the characterisation problem, it may be too remote and you are going to fall victim and lose on the second limb, is that how it works?
MR LE MIERE: Well, except the use of the words “too remote”, your Honour; the question of remoteness or sufficiency of connection has been ‑ ‑ ‑
KIRBY J: Put into the first limb, I see.
MR LE MIERE: Put into the first limb, and then the question is, as your Honour puts it, if the taxpayer gets through the first limb, the taxpayer may nonetheless fail, by reason of the exclusionary limb, that even though there is a sufficient connection for it to be found that the expenditure is incurred in the gaining or producing of assessable income, even though that is satisfied, if the character of the expenditure is of a capital nature, then it is not deductible; that is the check, as your Honour would refer it to.
GLEESON CJ: But what is the issue that was before Justice Nicholson in relation to the first limb? Was the issue this: on the evidence, was it open to the tribunal to conclude that there was an insufficient connection, or was the issue: did the tribunal make an error of law in reaching the conclusion that there was no sufficient connection?
MR LE MIERE: His Honour approached it in the latter way, your Honour, and, in my respectful submission, that is the correct question.
GLEESON CJ: Well, he seems to have approached it in the former way, does he not, on page 736 at line 25?
MR LE MIERE: Well he says that:
the evidence relied upon for the respondent in this respect fully entitled the Tribunal to conclude –
GLEESON CJ: That is different from the evidence relied upon by the tribunal.
MR LE MIERE: Well, in my submission, that is what his Honour is referring to, the ‑ ‑ ‑
GLEESON CJ: Well not quite, because in the key passage in the tribunal’s reasoning they made this reference to the dream which was castigated in the Federal Court.
MR LE MIERE: Yes.
GLEESON CJ: And which the Federal Court said seemed to reflect a complete misunderstanding of the evidence.
MR LE MIERE: Yes, your Honour, the Full Court said that that observation of the tribunal was, I think they said, both unfair and, in effect, it appeared that the Full Court was of the view that that was not a finding open to them, or a view of the facts that was open to the tribunal.
GLEESON CJ: That is a very significant thing, when you are dealing with a court that can only deal with issues of law.
MR LE MIERE: Yes. Justice Nicholson, in my submission, your Honour, came back to the point your Honour was saying about the evidence relied upon for the respondent and, in my submission, what his Honour means is that the evidence which the respondent has referred to before his Honour Justice Nicholson, on the arguing of the appeal, which supports the finding of the tribunal that there was an insufficient connection.
KIRBY J: Now, what is your submission as to the correct approach of this Court, sitting as we are on revue on an appeal which was limited to a point of law?
MR LE MIERE: Yes, well, in the end, your Honour, in our submission, the matter comes to this, that if the Court was against us on the question on the capital issue, then it would have this result ‑ ‑ ‑
KIRBY J: That is the second limb?
MR LE MIERE: On the exclusionary limb, but it also played a part in the way in which the tribunal approached its task on the first limb. The Full Court did not make a finding whether or not the expenditure fell within or satisfied the requirements of the first limb.
GLEESON CJ: They just said they were unhappy with the reasoning.
MR LE MIERE: Well, with one particular aspect of it, your Honour.
GLEESON CJ: Yes.
MR LE MIERE: Now that leaves the result that that matter has not been dealt with by the Full Court. It has been dealt with by Justice Nicholson, but if this Court were to find that the finding that the interest payments were of a capital nature, then one of the bases upon which the tribunal answered the question, and Justice Nicholson accepted, will have been found by this Court to be in error. The result in the final outcome appears to us is that the matter would have to go back for the tribunal to determine, as a matter of fact, whether or not there was a sufficient connection between the expenditure and the outgoing, having regard to this Court’s finding that it was not of a capital nature, if that was the Court’s finding.
GLEESON CJ: That might depend, might it not, whether we took the view that on the primary facts found by the tribunal and accepted in the Federal Court, it was not reasonably open to the tribunal to conclude that the first limb was not satisfied?
KIRBY J: Would that involve this Court deciding a question of fact?
MR LE MIERE: No, your Honour; in my submission, as I think your Honour the Chief Justice is really putting it, there are two questions: the first question is, whether or not the finding that the sufficient connection is open to the tribunal, that is a question of law. If it is ‑ ‑ ‑
GUMMOW J: The question of law here is whether the Full Court of the Federal Court was wrong. That is the question here. And are you saying that the Full Court of the Federal Court, because of the way it approached the matter where there were two issues, has only decided one?
MR LE MIERE: Yes, your Honour.
GUMMOW J: It needs to go back to it, does it not? It has not fully disposed of the appeal.
MR LE MIERE: Yes, with respect, I accept what your Honour puts.
GUMMOW J: It is not a very happy result.
MR LE MIERE: No. That again, with the priviso your Honour the Chief Justice puts, that it is capable of answering either way ‑ ‑ ‑
GAUDRON J: Could not this Court decide the matter, though, on the basis that it can make whatever order should have been made by the Full Court. I think we have, from time to time, done that, where an issue has not been determined by an intermediate court, although not always.
MR LE MIERE: And the particular question that we are addressing, of course, is a question of law, whether or not the finding is capable, not the ultimate question of fact of whether or not there is sufficient connection for the expenditure to have been incurred in gaining or producing assessable income.
GLEESON CJ: There are logically three possibilities: when we look at the primary facts, as found, we might say, on those facts, the tribunal could not properly have found that the first limb was satisfied or we could say, the tribunal could not properly have found that the first limb was not satisfied, or we could say, it was a matter for the factual judgment of the tribunal and, as a matter of law, they were entitled to go either way.
MR LE MIERE: Yes, with respect yes, your Honour. And the submissions that I was making initially to the Court was on the basis that the third is the course which would result in the matter going back to the tribunal, ultimately.
KIRBY J: That would respect what appears to be the scheme of the relationship between the Administrative Appeals Tribunal and the Federal Court called an appeal, that the factual evaluation and determinations are reserved to the tribunal.
GLEESON CJ: But that was not the basis on which Justice Carr would have sent it back to the tribunal?
MR LE MIERE: No, with respect, it was an entirely different basis, and the basis on which Justice Carr approached the matter has not been pursued in this Court.
GAUDRON J: Does the ultimate outcome of our deliberations, assuming we get into the matter, depend on the notion of nexus? That is to say, is that simply a useful mechanism for determining a factual issue or is it a legal concept that has been imported into the first part of the first leg of section 51(1)?
MR LE MIERE: The first, your Honour. The question always is whether or not the expenditure was incurred in gaining or producing assessable income. Over time the courts, back to Ronpibon and so on, have said that in answering, that that question involves an examination of whether or not there is a sufficient connection between the expenditure and the deriving of assessable income in order for it to be able to be said that the income was ‑ ‑ ‑
GAUDRON J: Well, the deriving of income that would ordinarily be expected to be derived; we have got to talk about one removed here.
MR LE MIERE: Yes, your Honour, we are not talking about the actual receipt of income.
GAUDRON J: No, well, is the question, would it be likely to result in the derivation of income or would it, of its nature, result in the derivation of income?
MR LE MIERE: Not quite, your Honour; the question is not simply whether or not it is likely that assessable income will be derived at some time in the future. That is, as it were, a necessary condition, but not a sufficient condition. The question remains, whether or not the connection between the expenditure and the postulated assessable income is sufficient such that the particular expenditure was incurred in gaining or producing the assessable income.
GLEESON CJ: I just want to be sure I have noted your submission accurately, Mr Le Miere. Is your submission this, that if this Court is against the Commissioner on the capital issue, then the matter should be remitted to the tribunal, unless we consider that on the primary facts already found by the tribunal, the tribunal is bound in law to find sufficient connection.
MR LE MIERE: Yes, your Honour, yes, with respect, that is correct. The only other matter that I need to ‑ ‑ ‑
GAUDRON J: One of us is confused, probably almost certainly me, but did you not start off with the proposition that there was a finding by the tribunal that there was not sufficient connection and that that finding was open to them?
MR LE MIERE: Yes indeed, your Honour, we submit ‑ ‑ ‑
GAUDRON J: Well, why did you not go back to the tribunal?
MR LE MIERE: Because that finding was based, in part, upon the tribunal’s assessment or evaluation that the expenditure was of a capital nature and all ‑ ‑ ‑
GLEESON CJ: In other words, they had misdirected themselves on that issue and had unnecessarily come to the wrong result?
MR LE MIERE: Yes, your Honour.
KIRBY J: But your submission is that they came to the right result?
MR LE MIERE: Yes, your Honour.
KIRBY J: But if the Court were against you on that submission, then the other questions arise.
MR LE MIERE: Yes, your Honour, that is so. The only other point on this issue which we wish to raise is the finding of the - or really the observations of the Full Court on this point, and the Full Court at pages 762 and 763, at 762 the Full Court having referred to the statements in the tribunal’s reasons, that:
Mrs Steele had “never more than an idea or hope” –
and went on to say at the bottom of 762:
These passages seem intended to invoke the proposition that a sufficient connection, for the purposes of section 51(1), between an outlay and the prospect of income requires a degree of commitment to the relevant income producing activity.
And then referred to cases in which the concept of commitment has been referred to. Then at page 763 the Full Court said that:
Mrs Steele did much more than announce a dream;…..She demonstrated her “commitment” –
And then, at about line 35 said:
These matters, of course, raise questions of fact; but it appears to us there is much to be said for the proposition that the Tribunal’s own findings of fact, set out in the various reasons in telling detail, suggest it was not open to the Tribunal to find in this case a relevant lack of commitment.
So, what the tribunal did ‑ ‑ ‑
KIRBY J: Excuse me, what page is that?
MR LE MIERE: Page 763.
KIRBY J: Thank you. At?
GUMMOW J: Line 35.
MR LE MIERE: At 35, yes, your Honour. So, what the Full Court said may not be open to the tribunal to find, was that there was not a relevant lack of commitment, not ‑ ‑ ‑
GLEESON CJ: That there was not a relevant lack of connection.
MR LE MIERE: Yes, your Honour, yes indeed. And the point we make in our written submissions is that the finding of a sufficient commitment is a necessary, but not sufficient, condition for there to be a sufficient connection. We say that in a case like this where the deriving of income has not yet commenced at the time that the expenditure is made, then evidence of what the taxpayer is committed to is necessary in order to identify the proposed cause of action. If there is a sufficient commitment, such that that proposed course of action can be identified, it is then necessary to determine whether there is a sufficient connection between the expenditure and that deriving of income.
CALLINAN J: That the commitment test is a subjective test and the nexus test is an objective test, is it, would you say?
MR LE MIERE: Certainly the latter, your Honour.
CALLINAN J: A matter of commitment is really a matter of what is in the mind of the person undertaking the project, is it not? And any outward manifestations of it, by doing whatever is done in pursuance of the commitment.
MR LE MIERE: Yes, certainly that is necessary. The notion of commitment in the authorities seems to be used slightly differently from one case to another. For example, in Inglis the Court spoke of the property being committed to the deriving of income. In other cases, the reference is to the taxpayer being committed to a course of action and indeed it appears that most often “commitment” or “committed” is used in its ordinary meaning of simply the person having been bound themselves to a certain course of action and, as your Honour put it, if the person then has fixed upon a course of action and the taxpayer has bound himself to go ahead with that course of action, that enables then the court to identify what is this course of action so that the future deriving of assessable income can be identified. So that, for example, in this case, if, as the Full Federal Court considered, the tribunal should have found that Mrs Steele, the taxpayer, was committed to the project ‑ ‑ ‑
GUMMOW J: I am just not sure what the Federal Court was doing, on page 763, apart from wringing its hands.
MR LE MIERE: Well, indeed, your Honour, with respect, a large measure of it is ‑ ‑ ‑
GUMMOW J: It is not their job to say there was much to be said for this or must be said for that; their job is to find an issue.
MR LE MIERE: Yes, they really, in terms, take the statement that was made by the tribunal, refer to it as flamboyant language, and then say that, in the terms your Honour has said, there is much to be said that that particular finding, if it can be called a finding, was not open ‑ ‑ ‑
KIRBY J: It is not or it does not rise to a finding by them; it is simply a statement. Obviously they did not think it was necessary for them to reach the finding.
MR LE MIERE: Indeed, the very next paragraph ‑ ‑ ‑
GUMMOW J: Yes.
MR LE MIERE:- - -they go on in effect to say that it is not necessary to deal with that matter, so they have left it to one side.
GUMMOW J: The structure set up by the Act is difficult enough without the intrusion of this sort of obscurity, but there we are.
MR LE MIERE: And so at most, what has been said is that she was committed to the project, and putting to the court this notion of commitment then enables one to identify what is this course of action which may lead to the deriving of income, in this case, the building of some sort of motel, hotel, country club complex. Having identified that, one can then determine whether or not there is a sufficient connection between the interest expenditure and the deriving of income from the operation of the motel, country club, and so on.
GLEESON CJ: Your proposition amounts to this, as I understand it: assuming against you that the majority in the Full Federal Court were wrong in relation to the capital issue, and also assuming against you that the members of the Administrative Appeals Tribunal were wrong, in so far as their reasoning depended or turned upon the capital issue, nevertheless, you say at the worst, from your point of view, on the issue of the first limb of section 51, there is an outstanding question of fact which was not for the Federal Court to decide and on which different minds could reach different views.
MR LE MIERE: Yes, your Honour. Your Honours, that completes my submissions in relation to that matter. There are just two small matters really; one arising from yesterday and one arising from the appellant’s submissions, that I wish to take the Court to. The first is, yesterday, relating to the decision of the Hong Kong Court of Appeal in Wharf Properties, yesterday I said to the Court about in the Court of Appeal Vice President Litton had found that the interest payments were of a capital nature within section 17(1)(c) of the Hong Kong ordinance and had expressed the view that the construction taken by the trial judge in relation to section 16 was wrong. Now section 16, your Honours, refer to any period, and the question was there whether or not the profits being derived had to be derived in the same period as the outgoings, and at the time I had not read the two pages from the Court of Appeal decision that we did not then have. On reading those two, those two pages contain the decisions of the other two members of the Court of Appeal, Justices Ching and Godfrey. All three justices took the same view in relation to the capital nature of the outgoing, that is, all three found that the interest payments were of a capital nature, but Justice Ching took a different view of Vice President Litton on the section 16 question.
GUMMOW J: Page 565?
MR LE MIERE: Yes, your Honour.
GUMMOW J: Line 19.
MR LE MIERE: And with a conclusion at about lines 26 or 28.
KIRBY J: That is the same as our law has been assumed to be.
MR LE MIERE: Yes, your Honour.
KIRBY J: Well, what do you get from that?
MR LE MIERE: That there is not a relevant distinction between the Hong Kong ordinance, as considered by the Privy Council, and section 51(1).
GUMMOW J: The Privy Council did not direct attention to this passage?
MR LE MIERE: They did not, your Honour, because it appears that ‑ ‑ ‑
GLEESON CJ: They stopped argument on the issue.
MR LE MIERE: Yes, because the way the Court of Appeal had decided the first instance judgment stood, which was essentially that section 16 is the same as our 51(1). And, indeed, your Honour, my learned junior Ms Price this morning drew my attention to the decision of the first instance judge in the Wharf Properties Case. I have not yet read that case but I propose, with the Court’s leave, to make copies of the decision available to the Court. Ms Price has drawn my attention to a number of things in the judgment, this being the judgment of Justice Patrick Chan. At page 363, reference is made to ‑ ‑ ‑
GUMMOW J: What is the citation?
MR LE MIERE: (1995) 1 Hong Kong Law Reports commencing at page 347. The matters at page 363, Justice Patrick Chan made reference to the correct approach to these sections, that being sections 16 and 17, and referred to, amongst other things, what Sir Garfield Barwick had said in a Privy Council case. Further on in the judgment, in the course of again considering section 16(1), Justice Patrick Chan referred to Ronpibon and what had been said there and essentially saw that there was no material distinction between the Hong Kong section and the ‑ ‑ ‑
KIRBY J: You are going to send this into us?
MR LE MIERE: Yes, your Honour. May I just give your Honours the page references. That was at page 368. And at page 375 the judge referred to Sun Newspapers again in going through the distinctions. We make copies of these available, if we might make them available to the Court.
GLEESON CJ: Yes, thank you, Mr Le Miere.
MR LE MIERE: The final matter that I wanted to draw the Court’s attention to is a matter not advanced in argument yesterday by my learned friend, Mr McCusker, but we thought we should draw the Court’s attention to paragraph 22 of the appellant’s outline of submissions in which reference is made to the decision of the Full Federal Court in Commissioner of Taxation v Cooper, a case involving the professional footballer, and the appellant, in their written submissions, has there said that:
the Federal Court held that the outgoings of the professional footballer on food were not deductible because of their private or domestic nature, even though those outgoings were incurred in the gaining or producing of assessable income -
and it was said, therefore, the nature ‑ ‑ ‑
GUMMOW J: It is a bizarre case, Cooper.
MR LE MIERE: It is quite unusual, your Honour. The point we wish to make is this, that in fact the Full Federal Court found that the expenditure was not incurred in gaining or producing assessable income. That is, it was
found that it did not satisfy the positive limbs either. The reference is there, your Honour ‑ ‑ ‑
GLEESON CJ: He was seeking a tax deduction for the cost of beer, steak ‑ ‑ ‑
MR LE MIERE: Amongst others, beer, steak, yes your Honour. If I could just give the Court the references in Justice Lockhart at 185 and Justice Hill at 201, and both found that it did not meet the positive limb either. If it please the Court, those are our submissions.
GLEESON CJ: Thank you Mr Le Miere. Yes, Mr McCusker.
MR McCUSKER: Your Honours, just a couple of matters. First, on the Wharf Properties Case, I have had the opportunity of reading, as your Honours have, the decision of the Court of Appeal and there are some matters I would like simply to direct your Honours attention to in that case. The Vice‑President of the court Litton at page 559 said at line 30:
We then come finally back to s.17(1)(c) and it is here that I find the arguments of counsel evenly balanced –
So there was a real doubt on his part which he ultimately resolved in favour of the arguments that were advanced by the Commissioner. But it would appear he came down that way because of a view on his part, which is expressed later, that, first, the outgoing could take its character, that is the interest outgoing, from the purpose of the loan or the purpose to which the money was applied. And second, he took the view that once the structure was established, or the income‑yielding structure was established, this appears at page 563, this conclusion at line 35:
When the redevelopment is complete and is ready to generate chargeable income, or is actually generating chargeable income, any interest paid to secure that asset is expenditure of a revenue nature –
Now, that was simply a conclusion that he reached to overcome the difficulty that has been canvassed before this Court. At what point does the interest outgoing cease to become capital and become revenue in nature. He simply said ‑ ‑ ‑
KIRBY J: Much more important than the classification or characterisation of a particular transaction here is that it seems from what we have just been told that the foundation of your attack yesterday on the logic and reasoning and internal coherence of the Privy Council decision falls away because it seems that section 17 of the Hong Kong ordinance has been construed in the same way as section 51 of our Act. I mean, you may not be able to deal with that now and I think you should have an opportunity to deal with it. But it does seem from what Justice Patrick Chan said, and what the third judge in the Hong Kong Court of Appeal said, that it is not the law in Hong Kong that you have to establish that the deduction relates to the same year of income.
MR McCUSKER: No, I would accept that, your Honour.
KIRBY J: If that is so, then the premise on which you are attacking the logic of the Privy Council is knocked away.
MR McCUSKER: Well, there is more to it than that, your Honour. First, the basis of the decision of Litton at the Court of Appeal was clearly a view, without any authority supporting it, that the nature of the interest would change from capital to revenue at a point which he said was when the redevelopment was complete and ready to generate any chargeable income or actually generating chargeable income. Now, there was no authority cited for that proposition or in support of that proposition, other than ‑ ‑ ‑
KIRBY J: But it presumably rests on the logic that up till that time it is not a revenue, it is not an income‑producing item, it is capital, and expenditure, until it starts producing income, is expenditure of a capital nature.
GLEESON CJ: But it remained a capital item when it started producing income, similar to Wharf Properties.
MR McCUSKER: Yes, it did, and the purpose of the loan was, and remained, capital ‑ ‑ ‑
KIRBY J: That is a question of characterisation. Obviously the logic of the Privy Council is you are paying for a time to get the capital item up and running. Once it is running, or is about to run, it is turned into a revenue producing item. That may not be good logic. It has a certain attraction ‑ ‑ ‑
MR McCUSKER: Could I direct your Honour’s attention also, without going through it in detail, to page 560 in that report where a considerable emphasis was placed on the method of treatment and the approach that had been taken in Hong Kong to the treatment of interest outgoings, in other words the court, although it did not finally rest its decision on that, seemed to have considerable regard to the fact that in Hong Kong this was the accepted practice and at line 40, his Honour said:
Mr Gardner’s arguments amount, in effect, to saying that the accounting profession in Hong Kong and the Inland Revenue Department itself have, for decades, misconstrued the effect of the statutory provisions for deducting interest –
We turn that, as it were, around ‑ ‑ ‑
KIRBY J: That is what is being said here.
MR McCUSKER: Yes. We are saying here that what has been said by the Full Federal Court has really turned around what has been accepted practice for decades. So it is a different situation entirely. But the practice in Hong Kong, according to this observation, was to treat interest as capitalised or as capital until such stage as the development was completed and ready to generate income.
KIRBY J: That is a view that has now got the concurrence of the Privy Council.
MR McCUSKER: Yes, could I just come to that.
KIRBY J: It has a certain logic.
MR McCUSKER: I accept that, your Honour, that that is what the Privy Council has said. Justice Godfrey, sitting in the same Court of Appeal, at 564, lines 30 to 40, expressed considerable misgivings about the view that interest could ever be treated as capital simply because the purpose of the loan was a capital purpose. And you will see his Honour starts about 27:
Without any great confidence, I conclude that to construe the words “expenditure of a capital nature” so narrowly as virtually to equate them with “capital expenditure” simpliciter would be wrong –
A little later he says, just above 40:
As I have said, I am persuaded (just) that in the context in which they appear they can and should be so construed –
he is stressing in the context in which they so appear. Now, Justice ‑ ‑ ‑
KIRBY J: This is a becoming modesty on his Lordship’s part.
MR McCUSKER: I would have thought it is a natural reluctance ‑ ‑ ‑
KIRBY J: It is not common in this Court.
MR McCUSKER: A natural reluctance, your Honour, to treat as capital an interest outgoing which he really recoiled from doing but said in the context in which this appears, I am prepared to, with reluctance, agree.
Justice Ching took the matter somewhat further and, at page 566, expressed a conclusion with which the Privy Council differed and that is he said at line 30:
The Commissioner conceded that interest payments made after the building had been constructed and became capable of earning revenue would be revenue expenditure and would therefore be deductible. McMullin, J. proceeded on that basis. In my view the concession was arguably wrong. The interest payments began as expenditure of a capital nature and it is difficult to see how it could become revenue expenditure simply because the building became capable of earning revenue –
and, with respect, that is really the logic of it. How can it change this kind of metamorphosis because the purpose of the loan has not changed. The nature of the interest cannot change simply because the building is generating income or the problem is at what point.
KIRBY J: Well, the logic of the argument is the purpose changes because, up to a certain point of time, the purpose is the fulfilment of the first stage, which is the capital creation and once it starts, or is about to produce revenue, it takes on the metamorphosis as you put it.
MR McCUSKER: We would adopt the argument that was unsuccessfully put by counsel Mr Gardener before the court there and again before the Privy Council on that point and that is that it is illogical to treat it, and if the wording of the statute were that if the interest outgoing is for a purpose connected with an acquisition of capital asset or something along those lines, but the word “purpose” does not appear in the second part of section 51(1). Our submission is that the problem has arisen because “purpose” has crept in as a means of characterising the interest outgoing rather than looking at the nature of the outgoing, whether it is indeed capable of being described as capital or should remain revenue.
The Privy Council concluded, and seems to have based its conclusion quite strongly, on the view that the nature of the interest expenditure would change, or could change, once the development was completed and income was being produced. It referred at page 339 ‑ ‑ ‑
KIRBY J: That fits in with a tax statute, whose object is to provide a deduction from what otherwise you must pay tax on.
MR McCUSKER: The tax statute provides for a deduction for outgoings and this is clearly an outgoing. The only question is whether it is of a capital nature. But the Privy Council at page 339 of the report referred to its view that once the asset is acquired and is producing income, interest would become a revenue expense. So that seems to underlie the approach that has been taken. It referred to several cases, one of which is European Investment Trust v Jackson. We have obtained copies of that for the Court, your Honours, which I can hand up. It does not appear, in our respectful submission, to support that view. Indeed, none of the cases referred to appear to support the view that the nature of the interest can change from capital to interest at a point of time when the property is producing income, and so transform it into revenue.
GUMMOW J: Has there been any commentary yet in the English tax journal literature on this subject on the Privy Council case?
MR McCUSKER: On the Wharf Properties Case?
GUMMOW J: Yes.
MR McCUSKER: Not that I am aware of, your Honour. I will make a further search, your Honours, and if there is anything else I will obtain it. Your Honours referred yesterday to the Law Council’s submissions. We have extra copies if your Honours want us to supply those because we do adopt those.
GLEESON CJ: We have our own copies. By all means hand them up.
KIRBY J: I think they came in the papers.
MR McCUSKER: They probably came with the papers, your Honours, but then if your Honours’ associates ‑ ‑ ‑
GLEESON CJ: By the way, that last case you handed up, I was struck by the holding on the front sheet. Have you got that?
MR McCUSKER: Yes, I have, your Honour.
GLEESON CJ: It seems to raise this issue that we were discussing with Mr Le Miere this morning.
MR McCUSKER: Yes, it does.
GLEESON CJ: You will not forget to let us know what you say about that.
MR McCUSKER: I certainly will, your Honour. Perhaps I can come directly to it. Our submission on that is that the tribunal erred in law in the approach that it took to the application of section 51 to the facts. It approached it essentially when it talked of connection, or sufficient connection on nexus, on the basis that there must be some temporal connection. The findings of fact show that all steps were taken that might reasonably have been expected and there was no finding of fact against the taxpayer that she had some dual purpose in the sense of a purpose of income production coupled with some other purpose. The case is quite unlike Inglis which they referred to in their reasons and, indeed, so did the Full Federal Court where the finding was that the pastoral property there was held without any commitment to future income producing activities.
GUMMOW J: But is not the problem, your client lost in the tribunal. It bore the onus of proof, did it not?
MR McCUSKER: Yes, it did, your Honour.
GUMMOW J: So the assessment was wrong. What you seek here is an order that would have the result that your claim for the deduction be allowed and the assessments be amended accordingly.
MR McCUSKER: Yes, we rely ‑ ‑ ‑
GUMMOW J: What is put against you is that you can only get to that result by crossing a gap with a factual finding that you need, which you have not yet got.
MR McCUSKER: We have not yet got because of the, although ‑ ‑ ‑
GUMMOW J: You are hoping to get it for the first time here.
MR McCUSKER: Well, we have not got it because, we say, of the error in law of the approach taken both by the tribunal and then the full Federal Court.
GLEESON CJ: Yes, that might mean you are entitled to get it from somebody else.
MR McCUSKER: It may. Yes, I accept that that is ‑ ‑ ‑
GLEESON CJ: You would have to persuade us, would you not, that on the primary facts found by the tribunal, they were bound in law to conclude that the first limb was satisfied.
MR McCUSKER: Yes, and it was not open to ‑ ‑ ‑
KIRBY J: If it is a characterisation problem, that is a very difficult thing to assert.
MR McCUSKER: And that is was not – yes, it is certainly difficult, your Honour.
KIRBY J: Found in law.
MR McCUSKER: And that it was not open to the tribunal on these facts to find that the outgoing was not incurred.
KIRBY J: That is not quite the same thing. That is to knock it away. What they have decided, but to be found in law defined differently is a very heavy burden.
MR McCUSKER: Yes, however although I accept that what appears at page 761 through to 763 of the Full Federal Court’s reasons do not amount to as conclusive a statement as one would have hoped for, as their views on the application of the first limb of section 51(1), it nevertheless comes so close that your Honours would be entitled to infer from what appears there that, but for the view taken by the Full Federal Court on the capital issue, it would have concluded that the outgoings were deductible under section 51(1). I say that because ‑ ‑ ‑
KIRBY J: Is this the “There is much to be said” passage?
MR McCUSKER: No, your Honour. It starts at page 761 at line 52. Having criticised the approach taken by the tribunal, with respect a valid criticism, where from line 35 they refer to the tribunal having put forward an independent ground of its decision that too many contingencies to say with any certainty that income would ever be derived, clearly that must be a wrong statement or view of section 51, which is wrong in law, they said:
If the Deputy Commissioner’s case depended upon these further propositions, we would find it difficult to accept. There does not have to be “certainty” that –
and of course they explain that and go on at page 762 to explain why there does not have to be certainty. And then they refer at 762 in the middle of the page the idea, or hope, at line 46:
These passages seem intended to invoke the proposition that a sufficient connection, for the purpose of s51(1) requires a degree of commitment –
and they refer there to the relevant authorities. And then conclude, at 763.20 on the question of commitment:
She demonstrated her “commitment” –
so, we say that is a finding by the Full Federal Court there, that the facts as found, the primary facts, show the required commitment for the income‑producing activity.
KIRBY J: But it goes on to say:
These matters, of course, raise questions of fact; but it appears to us there is much to be said for the proposition –
on its own findings of fact, et cetera. There is no ‑ ‑ ‑
GUMMOW J: That opens up this gap.
MR McCUSKER: Yes.
CALLINAN J: It may be closed, however, by the words:
Our concern about the absence of foundation.
MR McCUSKER: Yes, “for that conclusion”.
CALLINAN J: They seem to be saying there that there is an absence of foundation for the conclusion.
MR McCUSKER: They do, and what follows from 50 on seems to, although I certainly agree with your Honours the language could have been clearer, the message that comes through these reasons, these three pages is, in our submission, that the facts were such that it was not open to the tribunal to find that there was not the required commitment and that but for the view that the Federal Court took that the interest was in the nature of capital, section 51(1) would apply and the outgoing would be allowable as a deduction.
The alternative course that your Honour has discussed with my learned friend, Mr Le Miere, of sending it back to the tribunal is one which naturally the appellant would rather not see adopted, and ‑ ‑ ‑
KIRBY J: Naturally. But you are seeking to turn us into a fact finding tribunal which is something which the High Court does not ordinarily do.
MR McCUSKER: No, I would not suggest that, your Honours. What we say is there are primary facts found. There is a conclusion, based on those primary facts, expressed at at least page 763, lines 20 to 25, that is that those facts do demonstrate the required commitment and that the Full Federal Court was simply wrong in law in not then going on from that to conclude that because there was – and it nearly did but I must admit, it did not in the end say so – that the outgoings would be deductible under section 51(1). It did not do that simply because it sought alternative course which, in our submission, was wrong in law. That is the capital approach.
Your Honours, on the question - on the approach that the Commissioner takes to the first limb, the application of section 51(1) to these outgoings, my learned friend Mr Le Miere yesterday was putting in various ways what the Commissioner is seeking to say is the time at which the deduction for interest becomes allowable. If the Commissioner’s approach is correct, to take an analogous situation, if a taxpayer purchases a business which is a going concern but purchases it with a view, not only to continuing the going concern as such which is earning income, but increasing by development of the factory, perhaps tenfold, so as to increase the income and borrows money for the purpose of acquisition of that business, then on the Commissioner’s approach there would have to be an apportionment of the interest outgoing on the loan from day one. Although the Commissioner would concede that some interest is deductible, the Commissioner, presumably on that scenario, would say that one tenth of the interest outgoing is deductible at the point of acquisition because ‑ ‑ ‑
KIRBY J: But there are those words in the second limb, “except to the extent to which they are losses”.
MR McCUSKER: Exactly, and that is why the Commissioner seems to take this approach, and the other nine tenths of the interest on the Commissioner’s approach would become, presumably, progressively deductible as the development, or the planned development proceeded and it became progressively more and more income producing. That opens up a real spectre in terms of the kind of problems that would beset the taxpayer in that kind of situation. And the anomaly in all that is that if the taxpayer in that scenario had no intention on the date of acquisition but to carry on the existing business, the same business, then the whole of the interest outgoing would be deductible. There would be no apportionment because there was no other purpose than to conduct the existing business.
So you have on the Commissioner’s approach, if there is a purpose which is directly related to a future production of income, that is future production, then there must be an apportionment, even though there is an existing income‑producing business. But if there is no intention as to development of a future income production, then the whole of the interest
outgoing is deductible. In our submission that produces a bizarre result and one which one would recoil from in ordinary commercial terms.
One other matter, your Honours, and that was a reference by my learned friend to the Associated Minerals Case, and this appears at paragraph 17 of their outline. He said that is an Australian case where:
the Full Court of the Federal Court upheld the decision of the trial judge that interest payments were of a capital nature where the trial judge had found the principal object of the borrowing was to enable an exchange rate gain arising from an investment –
Your Honours, the trial judge at first instance, Sir Justice Lee did not use the word “capital nature”, but it is true that at first instance he referred to the outgoing as being on revenue account. In our submission, with respect ‑ ‑ ‑
KIRBY J: Not being on revenue account.
MR McCUSKER: Sorry, not being on revenue account. With respect, he was looking at the application of the first limb. He was not considering whether it was excluded by the second limb of section 51. There was no argument, as far as I can see, addressed to him or to the appellate court as to whether interest could become capital or was in the nature of capital. And, in our submission, what he said there as being on revenue account was simply a shorthand and perhaps loose expression for saying that it was not deductible because it was not incurred in gaining assessable income. It was unnecessary to express any view as to whether it was revenue or capital. The Full Court, on appeal, referred to him as having said that it was on capital account, which is perhaps a pardonable extrapolation. He did not say it was in the nature of capital but he said it was not on revenue account. Again, it was unnecessary to the decision of the Full Court to determine whether it was in the nature of capital and hence excluded by the second limb, it was simply a question of whether it was deductible under the first limb, and that is the basis upon which the decision was given. They are our submissions, your Honours.
GLEESON CJ: Thank you Mr McCusker. Very well, then, we will reserve our decision in this matter and the Court will adjourn to reconstitute.
AT 10.45 AM THE MATTER WAS ADJOURNED
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