Tanner, R.J. v Commissioner of Taxation
[1990] FCA 452
•29 AUGUST 1990
Re: RICHARD J. TANNER
And: COMMISSIONER OF TAXATION
No. G2228 of 1987
FED No. 452
Income Tax
COURT
IN THE FEDERAL COURT OF AUSTRALIA
NEW SOUTH WALES DISTRICT REGISTRY
GENERAL DIVISION
Davies J.(1)
CATCHWORDS
Income Tax - allowable deductions - losses incurred by partnerships - whether expenditure which resulted in the losses deductible under the Income Tax Assessment Act 1936 (Cth) - whether expenditure necessarily incurred in carrying on a business for the purpose of gaining or producing assessable income
Income Tax Assessment Act 1936 (Cth) - ss.51(1), 92, 190(b)
HEARING
SYDNEY
#DATE 29:8:1990
The applicant appeared in person
Counsel for the respondent: Dr H.R. Sorensen
Solicitor for the respondent: Australian Government Solicitor
ORDER
The application be dismissed with costs.
NOTE: Settlement and entry of orders is dealt with in Order 36 of the Federal Court Rules.
JUDGE1
This is an appeal against the decision of the Commissioner of Taxation on an objection lodged by the applicant, Richard John Tanner, with respect to an assessment which issued with respect to his income for the year ended 30 June 1980.
At the hearing, Mr Tanner appeared in person. Having regard to the complexity of the matters in issue, it was not feasible for Mr Tanner to satisfy the burden of proving that the assessment was excessive, a burden which s.190(b) of the Income Tax Assessment Act 1936 (Cth)("the Act") imposes upon any taxpayer who challenges the Commissioner's decision on an objection. In Case W2 (1988) 89 ATC 107, Mr P.M. Roach, Senior Member of the Administrative Appeals Tribunal, considered a matter similar to the one issue which Mr Tanner raised. I was informed that the hearing before Mr Roach took 11 days. Inevitably, Mr Tanner did not have the expertise to deal with so complex a matter. On this ground alone, Mr Tanner's application must fail. However, Mr Tanner adduced such evidence as was available to him and this, with some reference to Mr Roach's decision, enables me to express a tentative view on the merits.
The first issue concerns a partnership which I shall call the T.G.P. partnership. This was one of the partnerships with which United American and Australasian Film Productions Pty Limited was concerned at about that time. Mr Tanner signed an agreement to take four units as a special partner in the capital of the T.G.P. partnership which was formed on 24 June 1980.
There is in evidence a document, Exhibit D, prepared by an officer of the Taxation Department, which summarised the essence of the plan as follows:-
"1. A limited liability partnership T.G.P. Pty Ltd and Others limited is
commissioned by the holder of a copyright to make and market a film. In return the partnership is entitled to a share in the net profits earned by the film.
2. The partnership hires a company, Pact Production (Qld) Pty Ltd,
associated with the promoter to make the film on an itemised budget which represents the real cost to make the film plus 15% of the partnership capital. This company in turn hires sub-contractors to make the film.
3. Film Credits Pty Ltd, a finance company lends the partnership between
2 to 3 times the capital to be invested from the partnership funds. The existence of the loan, recourse for repayment of which is limited to the general partner which is an associate of the promoter, enables the private investors to gear up the section 51 deductions claimed."
In Case W2, Mr Roach stated the following facts, at p 119:-
"The activities of the Partnership which were directed to the production of income were embarked upon, performed, and carried to completion within the space of a few days. Indeed, on one view, those activities were confined to one day, with preparation for that day extending over some few days beforehand. Further, nothing to be done thereafter other than to ensure that the moneys to which the Partnership was entitled would be received and upon receipt would be dealt with in accordance with the terms of the partnership agreement."
Mr Roach also held at p 117:-
"For this Partnership, what was to generate its right to income was its performance of obligation it assumed contractually to deliver up commercially marketable films. That right to income was not to be the product of an exercise on the part of the Partnership in film production. That was to be a product of a financial exercise: the Partnership was to acquire the produced films by contracting in each case for their making by another. That other, like the Partnership itself, had no artistic or organisational capacity to produce a film. The work of film production was to be carried out at a later date by interests identified with Producers A and B. The role of the Partnership was to make that production possible by contributing risk capital by way of its own subscribed capital and funds borrowed on a `non-recourse' basis to the venture."
Thus, the balance sheet of the partnership as of 30 June 1980 read:-
"BALANCE SHEET AS AT 30TH JUNE, 1980
PARTNERS' CAPITAL ACCOUNT $ $
General Partners NIL
Special Partners - capital introduce 2,580,000
Less: Loss for the period 8,548,091
Deficit $5,968,091
Represented by:
CURRENT ASSETS
Cash at bank 48,759
Other debtor 5,000
53,759
LESS: CURRENT LIABILITIES
Trade creditor 16,850
Loan - Film Credit Pty Limited 6,005,000
6,021,850 $5,968,091"
The profit and loss account for the few days from 24 June to 30 June 1980 read:-
"T.G.P. PTY LIMITED AND OTHERS PROFIT AND LOSS ACCOUNT FOR THE PERIOD FROM 24TH JUNE, 1980 TO 30TH JUNE, 1980
INCOME $ $ $
Interest received 8,012
EXPENSES
Bank fees 3
Commission 6,850
Consultancy fees 20,000
Production costs -
"Race to the Yankee Zephyr" 5,213,000
"Turkey Shoot" 2,593,750
"Double Deal" 722,500
8,529,250 8,556,103
LOSS FOR THE PERIOD $8,548,091"
Mr Tanner contributed $20,000 capital as a special partner. His share of the loss of the partnership for the year was $66,264. The partnership's outgoings which resulted in that loss were said to be deductible under s.51(1) of the Act which provides:-
"All losses and outgoings to the extent to which they are incurred in gaining or producing the assessable income, or are necessarily incurred in carrying on a business for the purpose of gaining or producing such income, shall be allowable deductions except to the extent to which they are losses or outgoings of capital, private or domestic nature, or are incurred in relation to the gaining or production of exempt income."
Mr Tanner's share of the loss was claimed under s.92 of the Act.
On the evidence before the Court, the T.G.P. partnership did not carry on the business of producing films. It raised funds which financed the production of three films. It attracted funds from the public by purporting to create a taxation loss, thus giving investors an immediate gain. For example, Mr Tanner put in capital of $20,000 to obtain a taxation loss of $66,264. Mr Tanner said that he entered into the arrangement because, as a sharebroker, he was concerned to reduce the drawings on the broking firm's funds and to assist to maintain its liquidity at a time when "both the overdraft arrangements we had were stretched to the limits." Mr Tanner agreed in cross-examination that the tax saving, had it had been allowed, could have been worth $40,000 or thereabouts. The partners, at least Mr Tanner, did not expect to profit otherwise from the investment of their capital. As Mr Tanner said, "The odds would be against the partnership recouping what it spent on the films." So the special partners were to contribute capital and were to obtain a taxation deduction. The deduction was substantial and was to be achieved by the expenditure of moneys borrowed on the term that there would be no recourse against the special partners.
In these circumstances, it seems, as Mr Roach held, that the activities of the partnership were limited to a flurry of activity on and immediately prior to 30 June 1980 which involved the receipt and payment out of moneys and the signing of documents. Thereafter, the partnership had no particular activity, save that in the year ending 30 June 1986, it received the sum of $331,000 from the distribution of the films produced. This sum was expended in reduction of loans and payment of expenses.
Mr Roach held that the expenditure of the T.G.P. partnership was expenditure of capital or of a capital nature. In making that finding, he referred to the classic exposition of the distinction between capital and revenue in the reasons of Dixon J. in Sun Newspapers Limited; Associated Newspapers Limited v. Federal Commissioner of Taxation (1938) 61 CLR 337.
The facts before the Court are insufficient to enable me to form a final view on the issue. However, the evidence suggests that the benefit aimed at or sought by the expenditure in those few days concluding on 30 June 1980 was the attainment of a taxation deduction, the benefit of which would flow on to the special partners and which would exceed the value of the moneys they had contributed to the partnership. It is doubtful that such expenditure was incurred in the gaining or producing of assessable income of the partnership or necessarily incurred in carrying on business for that purpose. But if the expenditure was so incurred, Mr Roach's view that the expenditure was of capital or of a capital nature appears to be well founded. It was expenditure made once and for all to obtain a right to income in the future. The expenditure itself was expenditure of the capital contributed by the partners and of moneys borrowed by the partnership. These were balance sheet items. What was expended was not revenue or circulating capital. And insofar as income was anticipated, that income was to be received in the future and its extent was dubious. On the information before me, I would not disagree with Mr Roach's view on this point.
For these reasons, I would dismiss the challenge to the Commissioner's decision insofar as Mr Tanner's objection related to the T.G.P. partnership. It is not necessary to discuss the issue of s.82KL on which the Commissioner proposed to rely upon if Mr Tanner's objection on s.51(1) was otherwise upheld.
The next issue concerns a partnership called Soher Co. of which the partners were five members of the sharebroking firm of which Mr Tanner was a member and a company, China Acceptance Company Limited, of which Mr Tanner knew little other than that it was a company connected with a firm of accountants. The partnership commenced on 18 February 1980 and concluded its activities on 30 April 1981. The initial capital of the partnership, $1,000, was contributed by five sums of $20 from each of the individual partners and by $900 from China Acceptance Company Limited. It was a term of the partnership agreement that China Acceptance Company Limited was to be entitled to 90% of the assets and profits of the business, the others sharing equally as to the remaining 10% but that the individual partners were to be liable for 90% of the liabilities and losses and China Acceptance Co. Ltd for only 10% thereof.
Mr Tanner was not himself familiar with the exact details of the partnership's activities and did not call as witnesses the partners who had organised its affairs. In substance, however, what occurred was that the partnership purported to carry on the business of buying and selling share options. Thus, in the year to 30 June 1980, it purchased options for a price of $878,899.50 and sold options for a value of $862,186.57. As at the close of 30 June 1980, the value of the stock was alleged to be a negative $223,153.52, giving an overall loss in trading of $239,856.45. This loss was returned in the various income tax returns on the footing that the individual partners shared 90% of this loss while China Acceptance Company Limited took 10%, as its share of the loss. When the partnership ceased its activities on 30 April 1981, it had to that date allegedly made a net profit from trading of $224,518.70, of which China Acceptance Company Limited took 90%, that is $202,066.85, while the five individual partners shared the remaining 10%. The figures show that, over the period of the partnership's activity, the net result of the dealings practically evened out.
Necessarily, in the absence of evidence from Mr Mann and Mr Weston, the sharebroking partners who managed the dealings for the partnership, I could not uphold Mr Tanner's objection.
It was said by Mr Tanner that what occurred was a genuine commercial arrangement which was separated from the sharebroking partnership "for some professional reason associated with this accounting firm" and that the partnership loss for the year arose from the accounting procedures necessary to deal with the contingent liability of the partnership to deliver underlying securities in respect of the options sold at a figure below the market price of those underlying securities.
The inference that I draw from the evidence before the Court is that the partnership did not carry on business but merely bought and sold options with a view to staging a theoretical but unrealised loss as at 30 June 1980. The loss was not realised and I doubt that it was anticipated at that time. I do not accept that a negative value of the options should have been taken into account as the value of trading stock or otherwise as at 30 June 1980. My impression is that the partners purported to create a loss for taxation purposes. As the transactions were relatively few in number, I would not hold that the partnership carried on a business of trading in options or that the options which it purchased were its trading stock.
On this issue also, I would dismiss Mr Tanner's objection.
For these reasons, the application must be dismissed with costs.
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