Esquire Nominees Limited as Trustee of Manolas Trust v. Federal Commissioner of Taxation.

Judges: Barwick CJ
McTiernan J

Menzies J
Stephen J

Court:
High Court (Full Court)

Judgment date: Judgment handed down 24 September 1973.

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Menzies J.: The appellant - the taxpayer - appeals to the Full Court against the decision of Gibbs J. in favour of the Commissioner upon an appeal against an assessment made by the Commissioner under sec. 99 of the Income Tax Assessment Act 1936-1969 by which the sum of $30,910, a dividend received during the year of income 1969, was treated as the net income of a trust estate to which no beneficiary was presently entitled.

The taxpayer did, as the trustee of Manolas Trust, receive the dividend in question from Mitchell Credits Ltd. Under that trust no beneficiary was presently entitled to the income represented by the dividend.

Both the taxpayer and Mitchell Credits Ltd. were incorporated in Norfolk Island. The income of Mitchell Credits Ltd., which enabled the dividend to be paid, was a dividend from Pharmaceutical Investments Ltd., another company incorporated in Norfolk Island which had received a dividend of a like amount from Mitchell Holdings Pty. Ltd., a company incorporated in the Northern Territory. Mitchell Holdings Pty. Ltd., during the year 1968, had received from Manolas Pharmacy Pty. Ltd. dividends totalling $31,503.50 out of profits of a business carried on in Australia. It was these profits that enabled the making of the successive distributions as aforesaid.

Early in 1969, it was contemplated by the persons concerned with all these companies, i.e. the Manolas family and their advisers, Messrs. Wilson, Bishop, Bowes & Craig, that unless Mitchell Holdings Pty. Ltd. made a sufficient distribution by 30 April 1969, it would be liable for Div. 7 tax, but that if it did make such a distribution the dividends paid would be taxable in the hands of the shareholders of that company. It was to escape from this predicament that, between 24 and 28 April 1969, a number of transactions took place which are described in detail in the judgment of Gibbs J. and which had the result which his Honour described as follows -

``... the whole of the issued shareholding in Mitchell Holdings Pty. Limited was beneficially owned by Pharmaceutical Investments Limited, the whole of the issued shareholding in Pharmaceutical Investments Limited was beneficially owned by Mitchell Credits Limited and the one issued B class share in Mitchell Credits Limited was held by the appellant. On 1 May 1969 the appellant executed a declaration of trust by which it acknowledged that the one B class share in Mitchell Credits Limited, of which it was the registered owner, and the option over the unissued A class shares of Pharmaceutical Investments Limited were beneficially owned by the Manolas Trust. Although this declaration was not executed until 1 May 1969, there is no

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doubt that from 25 April 1969, when the share in Mitchell Credits Limited was allotted to the appellant, that share was held by the appellant as trustee for the Manolas Trust.''

It was this one share which yielded to the appellant the dividend in question.

His Honour also traced a number of transactions which culminated with cheques being drawn and banked on 29 April. His Honour summarised the position as follows -

``To give effect to these resolutions the appellant on 29 April 1969 drew a cheque in favour of Pharmaceutical Investments Limited for $209,400 and Pharmaceutical Investments Limited drew a cheque for $36,000 in favour of Manolas Pharmacy Pty. Limited, a cheque for $83,000 in favour of Manolas Holdings Pty. Limited and a cheque for $90,000 in favour of Manolas & Sons Pty. Limited. These cheques were credited to the respective accounts on 6 May 1969.

The net result of this juggling of cheques was that amounts of $35,929, $83,097 and $90,443 were drawn respectively from the accounts of Manolas Pharmacy Pty. Limited, Manolas Holdings Pty. Limited and Manolas & Sons Pty. Limited and amounts of $36,000, $83,000 and $90,000 respectively were on the same day credited back to the accounts of those companies.''

His Honour found -

``The income of the appellant was received in the form of a dividend from Mitchell Credits Limited. That company carried on no business of any kind, but itself received a dividend from Pharmaceutical Investments Limited. The latter company went through the motions of borrowing and lending money, perhaps so that it might be said that it carried on business on Norfolk Island, but those transactions yielded no profit and the company was enabled to pay a dividend only because of the dividend which it received from Mitchell Holdings Pty. Limited. The amount of $30,910.57, which the appellant ultimately received, came from the profits made by the conduct of a business in Australia and was passed on by Mitchell Holdings Pty. Limited, through Pharmaceutical Investments Limited and Mitchell Credits Limited, to the appellant.''

As it turned out, this spate of activity at the end of April 1969 was all to no purpose for the decision of this Court in
Casuarina Pty. Limited v. F.C. of T. 70 ATC 4069 , (1970) 44 A.L.J.R. 299 , given subsequently, showed that the taxation predicament was not as stated earlier and that Mitchell Holdings Pty. Ltd. at the critical date was a public and not a private company. It was not, therefore, liable to tax under Div. 7. However, that is now unimportant and the present problem is whether what did occur rendered the appellant liable to tax as assessed.

For the appellant it was contended that being incorporated in Norfolk Island, having its office and directors there, having all its meetings there, and its business being to act as a trustee there, it was a resident of Norfolk Island and that the dividend in question having been received from Mitchell Credits Ltd. - a company in similar circumstances - was derived from a source within Norfolk Island, so that the taxpayer was not subject to tax by reason of the operation of sec. 7(1) of the Act which is in these terms -

``This Act shall extend to the Territories of Papua and New Guinea. Norfolk Island, Cocos (Keeling) Islands and Christmas Island, but shall not apply to any income derived by a resident of those Territories from sources within those Territories.''

Gibbs J., after a full examination of the facts and the authorities, came to the conclusion that the appellant was a resident of Norfolk Island. With this conclusion I agree. The same reasoning established that Mitchell Credits Ltd. was also a resident of Norfolk Island.

His Honour further decided, however, that the source of the income in question, i.e. the dividend received by the taxpayer from

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Mitchell Credits Ltd., was not Norfolk Island but Australia. As to this he said -

``The only business operations which yielded the production of any income took place in Australia. Nothing that was done at the office of Mitchell Credits Limited, or the office of Pharmaceutical Investments Limited in Norfolk Island produced one cent of the income that the appellant received or one cent of the profits out of which the dividend received by the appellant was paid. Notwithstanding the devices adopted to give the facts a specious appearance, the reality is that the source, and the only source, of the income derived by the appellant was in Australia.''

The conclusion that a dividend paid to a shareholder whose shares were registered in Norfolk Island by a company incorporated, resident, and carrying on its only business in Norfolk Island out of its profits was not derived from a source within Norfolk Island is one with which I respectfully disagree. The critical finding which brought his Honour to this conclusion has already been stated. It seems to me, however, that in considering the source of a dividend the proper enquiry is not to ascertain where the production of wealth, to which it can ultimately be traced through other companies, took place. This would be too large an enquiry. Nor, at the other extreme, would I attribute the source of a dividend upon a share to the place where the share happens to be located, i.e. the place in which the register is kept upon which the share appears. To do so would be artificial. (See Nathan v. F.C. of T. (1918) 25 C.L.R. 183 at p. 196). To determine the source of the dividend, it is, in my opinion, necessary to examine the situation of the company which pays it out of its profits, rather than by merely looking at the share register. The most material consideration is the place where the profit, out of which the dividend was paid, was made. A dividend is payable out of the profits of the company paying it, and, in the case of a holding company, this profit-making business may merely be the receipt of a dividend from another company. It is, for instance, well known that Utah Mining Australia Ltd. is presently a holding company and not an operating company. The fact, however, that it simply holds shares in Utah Development Co., an operating company from which it receives dividends which it distributes to its shareholders, does not signify that it does not itself carry on a profit-making business in Australia. If it were to happen that part of the profits of Utah Development Co. were earned outside Australia, I do not think it would follow that dividends paid by Utah Mining Australia Ltd. to its shareholders would be classified as derived in part from a source outside Australia. It is to be observed that sec. 44 of the Act refers to dividends paid to a shareholder by a company ``out of profits derived by it from any source''. The words ``derived by it'' are of great significance and indicate, I think, that it is to the derivation of the profits by the very company which pays the dividend in question that attention must be directed, rather than to the derivation of profits at an earlier stage by an operating company which created the wealth without which there could have been no successive distribution of profits. The same notion of the source of income is, I think, present in sec. 7 and where the income under consideration is a dividend. It is the profit-making business of the company paying the dividend that is the source of the dividend paid out of profits so made.

This conclusion, which depends upon the construction of the statute unaided by authority, must, however, be tested by reference to the authorities which are collected and analysed with care in the judgment of Gibbs J. The critical authorities are:
Nathan v. F.C. of T. (1918) 25 C.L.R. 183 ;
C. of T. (N.S.W.) v. Freeman (1956) 30 A.L.J. 42 , and
F.C. of T. v. Mitchum (1965) 113 C.L.R. 401 . The English authorities dealing with different statutory provisions are not, I think, of great assistance.

It appears to me that some observations in Freeman's case cannot be completely reconciled with the decision in Nathan's case, but Freeman's case was decided upon the special provisions of a New South Wales statute - see
Parke Davis and Company v. C. of T. (1959) 101 C.L.R. 521 , at pp. 531 and 532 - and, in my opinion, what was said in Freeman's case does not impair the

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authority of Nathan's case which was fully accepted in Mitchum's case. Accordingly, in my opinion, the law to be applied is that stated in Nathan's case; viz. that the source of a dividend is that place where the company made the profit out of which the dividend was paid. Thus authority confirms the conclusion which I would have reached from the statute itself. Two citations from that case must, I think, be read together; viz -

• (1) ``The Legislature in using the word `source' meant, not a legal concept, but something which a practical man would regard as a real source of income. Legal concepts must, of course, enter into the question when we have to consider to whom a given source belongs. But the ascertainment of the actual source of a given income is a practical, hard matter of fact.'' (pp. 189-190)
• (2) ``When the company has made its profits, though no individual corporator can lay claim to any portion of them, every corporator has an interest in them. He can prevent their diversion to any purpose inconsistent with the bargain he has made, and if the corporation by its proper officers determines to divide them and does divide them, the individual shareholder's rights with respect to them do not then simply originate; they come to fruition in the final act, that has been aimed at from the beginning. The `dividend' he receives is an aliquot part of the fund dividend; the fund itself is the source of the part that he receives, and if on analysis the fund is derived from various sources, some of which are within Australia and some outside Australia, he is, according to the provisions of the Act, liable or not liable to taxation in respect of it accordingly. The Act treats a dividend from profits arising in Australia as also arising in Australia.'' (pp. 197-198)

Applying the foregoing principles to the facts here, I am compelled to conclude that, in the circumstances already stated, the dividend which the taxpayer received from Mitchell Investments Ltd. was derived from sources in Norfolk Island. All indicia, other than the ultimate source of the wealth being distributed, point to Norfolk Island as the source of the dividend in question.

Having so decided, it is necessary to consider the Commissioner's reliance upon sec. 260 of the Act - a problem with which Gibbs J. did not have to deal. The short answer to that reliance is, I think, to be found in sec. 7 itself which provides that the Act does not apply to the income upon which the Commissioner seeks to assess tax. It is not possible by means of sec. 260 to tax income which sec. 7 puts outside the operation of the Act, including sec. 260 itself.

In my opinion, therefore, the appeal should be allowed and the assessment set aside.