Hancock v Federal Commissioner of Taxation

(1961) 108 CLR 258
35 ALJR 228
[1961] ALR 839

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(Judgment by: Fullagar J)

Between: Langley George Frederick Hancock
And: Federal Commissioner of Taxation

Court:

Judges:
Fullagar JDixon CJ
Kitto J
Menzies J
Windeyer J

Subject References:
Income tax (Cth)

Judgment date: 8 August 1961

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Judgment by:
Fullagar J

4 September 1959 - the following written judgments were delivered:

This is an appeal by a taxpayer against an amended assessment of income tax. The relevant year of income is the year ended 30th June 1949. The taxpayer returned his income from property of that year as 2,694 pounds, and tax was originally assessed on that amount (together with certain income from personal exertion) by an assessment, notice of which was given on 27th March 1950. The effect of the amended assessment, notice of which was given on 6th November 1953, was to increase the taxpayer's income from property by 17,759 pounds. The notice of amended assessment also, under s. 226 of the Income Tax Assessment Act, charged the taxpayer with "additional tax", amounting to 6,503 pounds, on the ground that he had omitted assessable income from his return. At the hearing before me counsel for the Commissioner conceded that the amended assessment could not be justified otherwise than by the application of s. 260 of the Assessment Act, which avoids, as against the Commissioner, certain classes of "contracts, agreements and arrangements". The case arises out of certain transactions in which the taxpayer and two companies, named respectively Mulga Downs Pty. Ltd. and Rowdell Pty. Ltd., were concerned. It is desirable to state the facts in some detail. (at p260)

Mulga Downs was incorporated in Western Australia in 1919. It was at all material times the owner of a very large property in the northern part of Western Australia, on which it has carried on a generally prosperous pastoral business. It was a private company within the meaning of the Assessment Act. In 1949 its issued capital consisted of 18,945 fully paid ordinary shares of 1 pound. These shares (apart from one share, which may be ignored) were held, and had for a long time been held, by members of two families - the Lefroy family and the Hancock family. The Lefroy family held a substantial majority of the shares, seven members holding between them a total of 11,209 shares. The remaining shares (a total of 7,735 shares) were held, as to 6,730 shares by Mr. George Hancock (the taxpayer), as to 5 shares by Mrs. L. Y. M. Hancock, and as to 1,000 shares by Mr. Langley Hancock, who is a son of the taxpayer. The five shares owned by Mrs. L. Y. M. Hancock did not enter into the transactions about to be mentioned, and when I speak of the Hancock shares, I shall be referring only to those of Mr. George Hancock and Mr. Langley Hancock. Up to about 1936 the taxpayer resided on the station and was manager of the company's business, and from 1936 to 1949 he was actively associated with the management. It is said - and I see no reason to doubt it - that he had long entertained a hope or ambition that the Hancock family should own the whole of the shares, or at least a controlling interest, in the company. (at p260)

Rowdell was incorporated in Western Australia in 1926. All the shares in this company have at all material times been held by Mr. H. K. Watson and his wife, Mr. Watson having a controlling interest. Mr. Watson, who played a prominent part in the transactions now in question, is a chartered accountant and taxation consultant practising in Perth. Rowdell's memorandum of association was not put in evidence, but it has in fact carried on a business of trading in stocks and shares. It possessed, therefore, the virtue - a virtue relevant in the present case - of being prima facie entitled, for the purpose of arriving at its taxable income of any year, to deduct from dividends or other assessable income received by it any loss incurred on a purchase or sale of shares. (at p261)

The accounting period of Mulga Downs was the year ending 30th April. Its balance sheet for the year ended 30th April 1948 showed it to be in a strong position. Its assets included land and improvements, plant and machinery, and live stock, taken in at a total sum of 37,838 pounds, which evidently represented a considerable undervaluation. The balance sheet also showed considerable "liquid" assets, consisting of Commonwealth bonds of a face value of 7,500 pounds, an advance by George Hancock of 5,000 pounds, and a credit balance of about 3,000 pounds with Dalgety & Co., which was in effect the company's banker. In February 1949 the holding of Commonwealth bonds had been increased by 10,000 pounds to 17,500 pounds, and the credit balance with Dalgety had been increased to about 5,400 pounds. On the liabilities side appeared a reserve of 4,161 pounds, a sum of 16,666 pounds at credit of profit and loss appropriation account, and a sum of 11,081 pounds at credit of profit and loss account. The profits of the year ended 30th April 1949 were about 24,000 pounds. (at p261)

With regard to income tax, the position of the company and its shareholders was not made precisely clear to me. It is obvious, however, that, if the whole of the company's accumulated and current profits had been distributed to the shareholders in February 1949, very considerable sums would have become payable by the shareholders by way of income tax. For the rest, it is sufficient, I think, to quote the following extract from the evidence of Mr. Watson. He said:

"In respect of Div. 7 the position at 30th April was this: The tax liabilities at 30th April were roughly 3,600 pounds ordinary tax which had still not been paid in respect of the year ended 30th June 1948. The ordinary income tax prospectively due on profits earned for the year ending 30th April 1949 was 6,900 pounds. Profits for that year were 24,000 pounds. 6,900 pounds was the normal tax, and that, in round figures, left this position: That if the company did not by the 31st October distribute 14,000 pounds or thereabouts it would have been liable for a Div. 7 tax of 7,000 pounds or thereabouts, so that at 30th April I would say that Div. 7 tax of 7,000 pounds was the total liability of the company under that division". (at p261)

Whatever view may have been taken by them of their income tax position, it was not by the taxpayer or any other shareholder in Mulga Downs that the transactions now in question were initiated. The first approach was made to Mr. Langley Hancock by Mr. Watson on behalf of his company, Rowdell. That company, as has been seen, had been formed more than twenty years earlier and its turnover appears to have been extensive. About the time with which we are concerned it had had some transactions whereby the shares of private companies which had substantial undistributed profits were bought, and subsequently, after dividends had been declared and paid to it, either the shares were disposed of or the company was wound up.

The following passages are taken from the cross-examination of Mr. Watson:

"Q. Is it not a fact that round about that time you, on behalf of Rowdell, were keeping your eyes open for companies where shareholders might find it advantageous to receive a capital sum for their shares?

A. At that time I had made it quite clear around Perth that I was interested in any private company that was up for sale. I communicated with the two trustee companies and indicated that if they had any shares for sale I would be interested.

Q. My question is directed more to companies where the shareholders were in the difficulty I have mentioned. That the current profits which were going to attract considerable income tax liability were undistributed, and were you not keeping your eyes open?

A. I was, yes.

Q. And it was your practice to make an approach on the basis of, 'I can do a deal with you of buying shares at a figure which represents its present value with regard to the profits which would be free of tax in your hands and I can dispose of the shares to somebody else'?

A. No. My general approach was that I was prepared to have a look at any company's balance sheet and buy the shares on the the basis of net assets value less 10%.

Q. Yes, but in the case of the companies which had large current profits, or an accumulation of profits which were not freely available to the shareholders except on the penalty of taxation, was not your approach this: 'Here is a way you can get money as a capital sum free of income tax and I can turn an honest penny for myself'?

A. My approach was if you sell them to Rowdell you sell them as a capital asset.

Q. Yes, and you would point out that in substance, therefore, they would get the benefit either by the current profits or the accumulated profits, whichever it was, without the liability to pay income tax on the figure?

A. I think I made it pretty clear in my letter to Hancock of 15th February -

Q. I am not so much concerned with Hancock as to getting your general business practice at this time and show in a general way your approach to the shareholders included pointing out to them the advantage of selling and receiving a sum which would be a capital sum and which would include the benefit of profits without incurring income tax?

A. I made my approach exactly as I have told you.

Q. Did you not point out to the shareholder the advantage of receiving from you a capital sum, and the amount would be distributed to the shareholder?

A. No, I left it to the shareholder to draw his own conclusions. In my letter to Hancock I made it quite clear that it was a sale of a capital asset.

Q. You say that at no time you made that approach?

A. No, I would not say that.

Q. Whether you say it expressly in those words or not, that was what was to be understood - that was the advantage to the shareholder?

A. Yes, it was obvious.

Q. The advantage you were offering him was a tax free sum?

A. Yes.

Q. As opposed to having to pay income tax alternatively on profits as such?

A. That would be so." (at p263)

Mr. Watson and Mr. Langley Hancock were on friendly terms, but there was no business or professional relation between them. About the end of 1948, or very early in 1949, they met on some social occasion, and Mr. Watson, who then thought that Mulga Downs was owned entirely by the Hancock family, asked whether they would be prepared to sell all the shares. Mr. Hancock explained that the Lefroys owned a majority of the shares, and said that he would be more interested in buying shares in the company than in selling them. At that time, or a little later, Mr. Watson asked for and obtained the last balance sheet of the company and full particulars with regard to the station - stock records, rainfall records, and so on. (at p263)

The next step was taken when Rowdell on 15th February 1949 wrote to Langley Hancock a letter which I think should be set out practically in full. It reads:

"If your family would still be interested in acquiring the whole of the issued shares in Mulga Downs Pty. Ltd., or if you desire to get right out of Mulga Downs at a good profit, here are some deals for which our Company would be pleased to negotiate with your family and the Lefroys. We would be prepared to buy all the shares held by G. Hancock and L. G. Hancock and the Lefroy Group in Mulga Downs Pty. Ltd. for up to 20,000 pounds and up to 3,000 pounds and up to 40,000 pounds respectively - i.e. a total of 63,000 pounds for the issued capital of some 18,900 shares of 1 pound each. A sale at these figures would give the Lefroys and the Hancocks a substantial capital profit on which income tax would not be chargeable. We would not be particularly interested in buying only the shares of the Lefroy group or of your group. We would much prefer to buy the total issued capital of the Company, except for say, 10 shares....

We may as well also tell you quite frankly that if our Company succeeded in so purchasing all the issued shares in Mulga Downs Pty. Ltd. our Company would - after having first taken and retained no more and no less than 50,000 pounds out of Mulga Downs Pty. Ltd. by way of dividends during the month of May next - then be willing to sell all the issued shares in Mulga Downs Pty. Ltd. to any buyer/s - the Hancocks or the Lefroys or the Butchers or anyone else, for 21,000 pounds. We would - if you so desired it - be prepared to give the Hancock family the first right of refusing our offer to sell all the shares at that figure of 21,000 pounds; if, in this connexion, you wanted a formal option we would be quite prepared to give it to you if and when we are ever in a position to do so.

If our offers to purchase and re-sell appeal to you it would probably be as well for your father to sound out the Lefroys and - before we approach them - see whether they are willing to sell their shares for the price of 40,000 pounds indicated above. That is really an excessive price. It is certainly a price which you could not afford to pay them. If the Company were wound up they would not net anything like that amount after paying income tax on the surplus over 1 pound per share. The nature of our offer direct to the Lefroys - i.e. whether it will simply be an offer to buy their shares for 40,000 pounds or whether we will also offer them a first opportunity of repurchasing all the shares or some of them - will be determined largely by your attitude towards our offer as above. We will not approach them until we hear from you. We would like you to give serious thought to this offer of ours as it would enable the Hancocks in due course to acquire all the issued capital of Mulga Downs without any cash outlay at all over and above their present resources. Indeed, at the conclusion of all the purchases and sales the Hancock's cash position would be about 2,000 pounds better off than it is today. With Mulga Downs milked of most of its resources and accumulated and current profits by our dividends of 50,000 pounds the shares therein would, of course, then be worth very much less than they are today - but future prospects seem pretty bright.

Alternatively, if you are not interested in the opportunity of re-purchase, our prime offer to buy your shares for 23,000 pounds would give you a handsome non-taxable profit.... We would require to buy the shares not later than April or May and to offer them for re-sale during the last fortnight in June". (at p264)

To put it shortly, Rowdell by this letter proposes to buy the Lefroy shares for 40,000 pounds and the Hancock shares for 23,000 pounds. slightlyA higher value per share (about 3 pounds 11s. 0d.) is placed on the former than on the latter (about 2 pounds 18s. 0d.). Rowdell announces its intention, if the offer is accepted and it thus acquires complete control of Mulga Downs, of causing that company to declare and pay to it dividends amounting to 50,000 pounds. After this "milking" operation - to use what Mr. Burt described as the "bucolic metaphor" of the letter - it will be willing to sell all the shares acquired by it for 21,000 pounds. It will sell them to any buyer, but, if the Hancocks so desire, it will give them an option, and the Hancocks are obviously very likely so to desire. The transaction, if fully carried out, will not involve the outlay of any money or the payment of any income tax by either the Lefroys or the Hancocks, and it will leave the Hancocks owning all the shares in Mulga Downs. It is true that those shares will have a considerably lower asset backing than they had before, but the station assets will be intact and the prospects of the station business are "bright". As for Rowdell, the dividends to be received by it will be assessable income in its hands, but it is contemplated that the "loss" represented by the difference between the price paid by it for the shares and the price received by it from the Hancocks will be an "allowable deduction". (at p265)

On receipt of the letter of 15th February Mr. Langley Hancock communicated the contents to his father and to Mr. R. A. Long, a chartered accountant practising in Perth, who acted for Mulga Downs and also for both the Lefroys and the Hancocks. On 3rd March 1949 Mr. Long wrote to all the Lefroy shareholders, conveying and explaining the proposal which had been made, and by an exchange of letters on 14th April between Rowdell and Mr. Long a contract was concluded for the sale by the Lefroy group to Rowdell of their shares in Mulga Downs for 40,000 pounds payable in exchange for signed transfers on or before 31st May 1949. No formal contract of sale was executed between Rowdell and the Lefroys, but settlement was in fact effected on 30th April 1949, when Mr. Watson on behalf of Rowdell handed to Mr. Long on behalf of the Lefroys a bank cheque for 40,000 pounds in exchange for signed transfers of the Lefroy shares to Rowdell. At this point the Lefroy shareholders drop, so to speak, out of the picture: they have simply sold their shares to Rowdell for a cash price of 40,000 pounds. (at p265)

So far as the Hancocks are concerned, although doubtless an understanding had been reached, the evidence does not disclose any concluded contract for the sale of their shares to Rowdell until 30th April, when a formal contract between the Hancocks and Rowdell was executed, and the Hancock shares, as well as the Lefroy shares, were transferred to Rowdell. In the meantime, on 23rd April, Rowdell had bought the 17,500 pounds Commonwealth bonds, which were owned by Mulga Downs, for 17,300 pounds, giving therefor a promissory note for that amount payable on 27th May "fixed". Then on 28th April Rowdell sold 17,000 pounds of these bonds for 16,786 pounds, which sum was paid into its current account with the Union Bank. This was done in order to finance in part the purchase of the Lefroy shares by Rowdell. The rest of the necessary money for that purchase was obtained by the declaration and immediate payment on 30th April of a dividend of 3,500 pounds from profits earned by Mulga Downs in the year ended 30th April 1948 and a dividend of 21,500 pounds from profits earned by Mulga Downs in the year ended 30th April 1949 (a total of 25,000 pounds). Payment of these dividends was financed by overdraft on the current account of Mulga Downs with Dalgety & Co. The bank account of Rowdell was, in effect, overdrawn for the few hours which elapsed between the issue of the bank cheque for 40,000 pounds and the payment into the account of the cheques for the two dividends. (at p266)

The formal contract for the sale of their shares by the Hancocks to Rowdell, which, as has been said, was executed on 30th April, provided that the purchase price should be 23,500 pounds, of which 2,500 pounds was to be paid on the execution of the contract, and the balance of 21,000 poun on or before 30th June 1949. (It does not appear when or how the increase of the price from 23,000 pounds to 23,500 pounds was first agreed upon.) The "deposit" of 2,500 pounds was paid on 30th April in exchange for the transfers of the Hancock shares. The position then was that Rowdell owed 21,000 pounds, the balance of the purchase price of their shares, to the Hancocks, and there was an understanding (perhaps a contract) that Rowdell would, after "milking" Mulga Downs of a further 25,000 pounds, sell the whole of the shares in that company to the Hancocks for 21,000 pounds. (at p266)

The next relevant events occurred on 27th May 1949. On that date an extraordinary general meeting of the shareholders in Mulga Downs passed a special resolution effecting certain alterations in the company's articles. I do not attach any importance to these. On the same day the thirtieth annual general meeting of shareholders was held, at which the following resolutions were passed: "1. That the dividends of 3,500 pounds and 21,500 pounds paid by the Directors on the 30th April 1949 be and hereby are ratified sanctioned and confirmed. 2. That out of the profits for the year ended 30th April 1949 there be and hereby is declared a further dividend of 2,500 pounds and that such dividend be forthwith paid to the registered members of the Company as at this date according to their respective rights and interests. 3. That having regard to the amount of the undivided profits of 15,780 pounds still standing to the credit of P. & L. Appropriation Accounts and to the estimated profits for the year ending 30th April 1950, represented by the wool clip now about to be shorn, the Directors be and hereby are authorized and requested forthwith to declare an interim dividend of 22,500 pounds for the current financial year ending 30th April 1950." Also on the same day a meeting of the directors of Mulga Downs was held, at which the "interim" dividend of 22,500 pounds, which had been authorized by the general meeting, was declared and made payable forthwith. Finally, on the same day the promissory note for 17,300 pounds given by Rowdell to Mulga Downs for the price of the Commonwealth bonds was honoured by cheque drawn on Rowdell's bank account and paid into the bank account of Mulga Downs. The payment of the dividends declared and paid on 27th May was financed, as had been the dividends declared and paid on 30th April, by overdraft on the current account of Mulga Downs with Dalgety & Co. (at p267)

The whole transaction originally contemplated was completed on 3rd June 1949 by delivery of share transfers and an exchange of cheques. Rowdell paid to Mr. George Hancock the balance (21,000 pounds) of the purchase money payable by it under the contract of 30th April for the Hancock shares, and transferred those shares, together with what had been the Lefroy shares, to George Hancock, Langley Hancock and certain nominees of George Hancock, receiving cheques drawn on Dalgety & Co. and totalling 21,000 pounds. The nominees were members of the Hancock family. In respect of the nominations gift duty was paid. The result of what was done on 3rd June was that all the shares (18,945) in Mulga Downs (with the exception of one share held by Mr. Long) were held by Mr. George Hancock and members of his family. (at p267)

Rowdell's receipts and payments, which have been narrated above, are tabulated (the exact figures being given) in Exhibit E, which is as follows:

(at p268)

I have before me balance sheets of Mulga Downs for the years ended 30th April 1948, 1949 and 1950, but, in the absence of explanation, I have not been able fully to understand them. The precise effect of the operations of Rowdell does not appear to be revealed by any comparison of them. In a very rough and approximate way the effect of those operations is shown by Exhibit D, which contains the figures on which Mr. Watson based his original proposal of 15th February 1949. It is clear, I think, that, for the purposes of this case the dividends of 50,000 pounds must be regarded as having been paid out of profits of Mulga Downs. (at p268)

Although the facts may be thought to be less complicated than either those in Bell's Case (1953) 87 CLR 548 or those in Newton's Case (1957) 96 CLR 577 ; [1958] AC 450 ; (1958) 98 CLR 1 , I have felt considerable difficulty over this case. The solution, however, begins, I think, to become apparent when one realizes that there were really two distinct transactions involved - the one between Rowdell and the Lefroys, and the other between Rowdell and the Hancocks. The two were, of course, interdependent both in the sense that Rowdell would not have bought either group of shares without buying the other, and also in the sense that one object of the operations as a whole was to place the Lefroy shares in the hands of the Hancocks. But the fact remains that there were two distinct transactions. A contract between Rowdell and the Lefroys was made and performed, and a contract between Rowdell and the Hancocks was made and performed, but there was, so far as the evidence goes, no contract or agreement or arrangement between the Lefroys and the Hancocks. It will not be misleading to speak from now onwards of a "contract" between Rowdell and the Hancocks, although on the evidence only one half of the transaction between them was actually the subject of an antecedent binding contract. (at p269)

The contract between Rowdell and the Lefroys was concluded by the letter of 14th April from Rowdell to Mr. Long, and that contract was completely performed on 30th April, when the Lefroys (those members of that family who were directors having in the meantime resigned from the board) transferred their shares to Rowdell and received the bank cheque for 40,000 pounds. So far as the Lefroys were concerned, that was the end of the whole matter. The sum of 40,000 pounds had in fact been obtained by Rowdell, as to about 17,000 pounds, by the sale of Commonwealth Bonds, which it had bought from Mulga Downs, and for which it did not have to pay until 27th May, and, as to the balance, by the declaration and immediate payment to it of a dividend out of the profits of Mulga Downs. But, so far as I can see, it was a matter of complete indifference to the Lefroys how or where Rowdell obtained the 40,000 pounds to pay for their shares. (at p269)

The contract between Rowdell and the Hancocks was made and partly performed on 30th April, and was completely performed on 3rd June. On 30th April the formal document of that date was executed. On that date also the required deposit of 2,500 pounds was paid by Rowdell to the Hancocks, and the Hancocks transferred their shares to Rowdell. As to this payment of 2,500 pounds, Rowdell, after paying the Lefroys their 40,000 pounds, still had in hand some 2,000 pounds, being the balance of the dividends and the proceeds of the sale of the bonds. For the balance of 500 pounds it presumably drew on its own resources. It still held, of course, 500 pounds of the 17,500 pounds Commonwealth bonds which it had brought from Mulga Downs and not yet paid for. (at p269)

The formal contract of 30th April provided only for the sale of the Hancock shares to Rowdell. It did not provide for the re-purchase of those shares or the purchase of the Lefroy shares by the Hancocks from Rowdell. Obviously, however, it was understood throughout that Rowdell, after the "milking" operation, would sell all the shares to the Hancocks for 21,000 pounds in accordance with the terms of that letter. After 30th April Rowdell had to find some 17,500 pounds to pay Mulga Downs for the Commonwealth Bonds and 21,000 pounds to pay the Hancocks the balance of the price of their shares. Also it had to provide for some profit or reward for itself. The 21,000 pounds, however, could be set off against the 21,000 pounds which the Hancocks were to pay to Rowdell for the whole of the shares. This was the position when the dividends of 25,000 pounds were declared and paid to Rowdell on 27th May. On the same date Rowdell honoured its promissory note and paid 17,500 pounds to Mulga Downs. Then on 3rd June the whole business was completed by the transfer of all the shares by Rowdell to the Hancocks and the exchange of the two cheques for 21,000 pounds. Rowdell's profit was roughly the difference between the 25,000 pounds and the 17,500 pounds. This sum would be subject to income tax, but the tax payable would not be anything like the tax which would have been payable on a distribution of the available profits of Mulga Downs among the original shareholders. (at p270)

The first question is whether the transaction which I have described, and the parties to which were Rowdell and the Hancocks and Mulga Downs, constituted or involved, within the meaning of s. 260 of the Assessment Act, a contract agreement or arrangement which had the purpose or effect of avoiding any liability imposed on Mr. George Hancock by the Act. This is ultimately a question of fact, but it depends in no way on the credibility of witnesses. There is no conflict of evidence, and there is no witness whom I disbelieve. It is simply a matter of inference from the nature and result of the transaction itself and from all the surrounding circumstances. Mr. George Hancock did not give evidence before me, but Mr. Langley Hancock did, and I think it very probable that much of what he said could be accepted as true of his father also. I do not think that the transaction, so far as they were concerned, had its direct origin in a conscious desire to have a distribution of the profits of Mulga Downs without paying income tax. Therein the case differs, I think, both from Bell's Case (1953) 87 CLR 548 and from Newton's Case (1957) 96 CLR 577 ; [1958] AC 450 ; (1958) 98 CLR 1 . The transaction originated indeed not with them but with Mr. Watson, acting for Rowdell. I have nevertheless come to the conclusion that there was here such an arrangement as is struck by s. 260. (at p270)

The position of Mulga Downs at the beginning of 1949 was analogous to that of the motor companies in Newton's Case (1957) 96 CLR 577 ; [1958] AC 450 ; (1958) 98 CLR 1 , though it was not nearly so acute, and the amount of tax potentially payable was not nearly so large. An important factor was the desire of the Hancocks to acquire the whole or a large part of the Lefroy shares. They were not financially in a position to buy the whole of those shares at a price which the Lefroys, if they were willing to sell, were likely to demand, but they could obtain all the shares in Mulga Downs - a milked but by no means crippled Mulga Downs - if they could get their share of the available profits of that company without having to pay income tax thereon. When Mr. Watson first approached Mr. Langley Hancock, he was under the impression that the Hancocks owned all the shares in Mulga Downs, and he probably had in mind a plan somewhat similar to that which I envisaged in Newton's Case (1957) 96 CLR, at p 657, and which I though would clearly fall within s. 260. When he found that the Hancocks were minority shareholders and would prefer to buy shares rather than sell them, he evolved a different plan. It was a very ingenious plan indeed, but it seems to me that (apart from the potential profit to Rowdell itself) one of its purposes, and indeed its most essential feature, was that the Hancocks should have the benefit of a distribution of profits by Mulga Downs without having to pay any income tax by reason of that distribution. It is quite likely that the Hancocks did not fully understand the plan. Mr. Langley Hancock said that he was "bewildered" by the steps taken, and I sympathize with him. But both he and his father must have known that the plan was designed to effect the purpose I have mentioned as a means of their acquiring the Lefroy shares after the "milking" of Mulga Downs. They were present in person at the meetings at which dividends were declared.

On these facts it seems to me that I am bound to find that there was an arrangement between the two Hancocks and Rowdell which had for its purpose the avoiding of a liability to tax within the meaning of that expression as determined by N ewton's Case (1958) AC, at p 464; (1958) 98 CLR, at p 7. (at p271)

There remains the question whether s. 260 can be applied to this case in such a way as to justify the Commissioner's amended assessment. What the Commissioner has done by that amended assessment is to treat Mr. George Hancock as having received so much of the total distribution of 50,000 pounds as is proportionate to his shareholding in Mulga Downs before 30th April 1949. He has done the same thing in the case of Mr. Langley Hancock. (at p271)

The general effect to be given to s. 260 is now settled, though difficult cases will doubtless continue to arise under it. I will do no more than quote once again a well known passage from the judgment of Rich, Dixon and Evatt JJ. in Clarke v. Federal Commissioner of Taxation (1932) 48 CLR 56 . Their Honours said: -

"To invalidate the transaction into which the prospective taxpayer in fact entered is not enough to impose upon him a liability which could only arise out of another transaction into which he might have entered but in fact did not enter. Where, however, the annihilation of an agreement or arrangement so far as it has the purpose or effect of avoiding liability to income tax leaves exposed a set of actual facts from which that liability does arise, the provision effectively operates to remove the obstacle from the path of the Commissioner and to enable him to enforce the liability" (1932) 48 CLR, at p 77. In Bell's Case (1953) 87 CLR 548 the "exposed set of actual facts" which gave the character of income to the receipt in question was "that on 3rd February 1948, 77,000 pounds, consisting entirely of profits, was withdrawn from the company's bank account, and 11,000 pounds of it passed, indirectly but by steps which are clearly traceable on the face of the bank's ledgers, into Bell's bank account;". Bell was then "to be considered as remaining at that time a shareholder in the company, his transfer to Corlett being ex hypothesi void as against the Commissioner as an integral part of the arrangement". In Newton's Case (3) the "exposed set of actual facts" was that "a sum of 458,161 pounds has been distributed by Lanes out of its accumulated profits, and a sum of 402,679 pounds has been added to its issued capital in the shape of 402,679 B preference shares, which are fully paid. The original shareholders have acquired 402,679 fully paid B preference shares, and have also received 56,141 pounds in cash."

There was an exact correspondence, apart from a sum of 659 pounds which was otherwise accounted for, between the first-mentioned sum and the total of the cash and the face value of the shares. It was thus revealed, the "arrangement" being eliminated, that profits of the companies had reached the hands of the shareholders in the shape of cash and "bonus" shares, and this meant that the shareholders had received dividends within the meaning of the Assessment Act. It was, in effect, in Newton's Case (1957) 96 CLR 577 ; [1958] AC 450 ; (1958) 98 CLR 1 as in Bell's Case (1953) 87 CLR 548 , the tracing of money from its source in profits of a company into the hands of shareholders that gave the character of income to what the shareholders received. If the "arrangement" stood, what they received was the price of shares sold, and therefore capital. When the arrangement was destroyed, what they received was seen to be a share in a distribution of profits by a company to its shareholders, and therefore income. (at p272)

For the purposes of the present case it is necessary first to see what is avoided by s. 260, and then to look at what has been called the end result. What is destroyed, and what is left ? I do not think that s. 260 avoids the purchase by Rowdell of the Lefroy shares, although it must be taken to have been made in pursuance of an understanding between Rowdell and the Hancocks. What is no more than a genuine unconditional sale of a capital asset cannot be successfully attacked under s. 260, even though it be motivated by a desire on the part of the vendor to reduce the income tax for which he will be liable in the future. "The section does not include a conveyance or transfer of property, legal or equitable, as such": Jaques's Case (1924) 34 CLR 328 , at p 359: cf. Purcell's Case (1921) 29 CLR 464 , at pp 466, 467. I think that what s. 260 does avoid is the contract of 30th April and the transfer in pursuance thereof of the Hancock shares to Rowdell, because those were the steps which had as their object and apparent effect the shifting of the burden of income tax on any distribution by Mulga Downs from the shoulders of the Hancocks to the shoulders of Rowdell, on which it would rest much more lightly. What then is the final result as distinct from the steps by which it was reached ? So far as Mulga Downs is concerned, the position has changed in that its assets have been depleted by the payment of 25,000 pounds out of its profits. So far as the Hancocks are concerned, their position has changed in that they have received 2,500 pounds in cash and they have become the owners of the shares which were originally the Lefroy shares, but were at the material time owned by Rowdell. (at p273)

Now, I do not think that the sum of 2,500 pounds can be traced in such a way as to identify it with any part of any dividend or payment out of the profits of Mulga Downs. That sum may perhaps be regarded as intended as an extra inducement to the Hancocks to enter into a transaction designed to make a profit for Rowdell. On the other hand, it is impossible to regard the Lefroy shares as income in the hands of the Hancocks. Their face value cannot, as in Newton's Case (1957) 96 CLR 577 ; [1958] AC 450 ; (1958) 98 CLR 1 , be treated as income by virtue of the definition of "dividend" in the Act. This, however, has not seemed to be the end of the matter. The shares are not income, but how were the shares acquired ? Whence came the money to pay for them ? When we look at Mr. George Hancock's account with Dalgety & Co. (Exhibit C) we see that the sum of 21,000 pounds was paid out of that account on 4th June, and that the same sum 21,000 pounds, had been paid into the account on the previous day. The former sum is the money which paid for the shares. The latter sum, as is shown by the current account of Rowdell with the Union Bank (Document 16 in Exhibit A), came from the dividends declared by Mulga Downs on 27th May. It purported to come from Rowdell, but we have to treat as void the arrangement which involved the transfer of the Hancock shares to Rowdell and the payment to Rowdell of the dividend on those shares. When we eliminate that arrangement from consideration, there is left only a payment of a sum of money by Mulga Downs and a receipt of that sum by the Hancocks. And, since the payment by Mulga Downs was a payment out of the profits of that company to persons who must be treated as shareholders, that payment is income in the hands of the Hancocks. (at p274)

I have said that it appears from Rowdell's bank account that the amount of 21,000 pounds paid by Rowdell on 3rd June was provided by the dividends declared and paid by Mulga Downs on 27th May. This conclusion may be reached by an application of the rule in Clayton's Case (1816) 1 Mer 572 (35 ER 781), but I would prefer to place it on the broader ground of a general inference to be drawn from all the known facts. The conclusion could, I think, equally well have been reached if it had happened by accident that more than 21,000 pounds was standing to the credit of Rowdell's account before the payment in on 3rd June of the sum of 24,990 pounds 14s. 11d. It could, I think, equally well have been reached if, instead of exchanging cheques for 21,000 pounds, Rowdell and the Hancocks had on 3rd June simply agreed to set off the one amount payable against the other. Whether there was an exchange of cheques or an agreed set-off, the effect of what was done would have been that two payments were made - the one a payment by Rowdell to the Hancocks for the Hancock shares, and the other a payment by the Hancocks to Rowdell for the Hancock shares and the Lefroy shares. And the inference seems plain enough that the real money to make the latter payment was intended to be provided, and was in fact provided, by means of a dividend or dividends from Mulga Downs. The inference arises from the original arrangement and the whole course of events which followed upon it. (at p274)

The sum of 21,000 should pounds, in my opinion, be apportioned between Mr. George Hancock and Mr. Langley Hancock in proportion to their respective original shareholdings in Mulga Downs before the transfers to Rowdell. The figures will have to be checked, but I think this means that Mr. George Hancock must be treated as having received 18,283 pounds and Mr. Langley Hancock 2,717 pounds. (at p274)

My view of the case is not precisely in accord with that taken by the Commissioner. The Commissioner has treated the whole of the dividends (50,000 pounds) in fact paid to Rowdell as having been paid to the Lefroys and the Hancocks, and has attributed a due proportion of that total sum to George Hancock and Langley Hancock respectively. Actually my view of the case is slightly less favourable to the taxpayer than the Commissioner's, but the difference in the result is comparatively trifling. The appeal should, in my opinion, be dismissed.

For the reasons which I have given in the case of George Hancock v. The Commissioner of Taxation I am of opinion that this appeal should be dismissed. (at p275)

From these decisions both taxpayers appealed to the Full Court of the High Court. (at p275)