Total Holdings (Australia) Pty. Limited v. Federal Commissioner of Taxation.

Judges:
Meares J

Court:
Supreme Court of New South Wales

Judgment date: Judgment handed down 4 July 1978.

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Meares J.: The appellant, Total Holdings (Australia) Pty. Limited, (hereinafter referred to as THA) was, at all relevant times, a wholly owned subsidiary of Compagnie Francaise des Petroles, a French company (hereinafter referred to as CFP).

Total Australia Limited (hereinafter referred to as TAL) was wholly owned by THA until 31st December, 1968, when THA transferred the whole of the issued capital of TAL to Total Boral Limited. The shares in that company were owned equally by THA and Boral Limited.

From 1st July, 1960, until 22nd March, 1967, CFP loaned to THA substantial sums of money. Amounts advanced up to 31st

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December, 1965, were used by THA in making loans to TAL for use by it in its business, in paying for shares in TAL acquired by THA and to finance the operations of THA. Amounts advanced by CFP to THA thereafter up to 22nd March, 1967, were used by lending portion to TAL for its use in its business and, as to the balance, to finance the operations of THA. All of these loans bore interest payable by THA to CFP at the rate of three per cent per annum. Up until 31st December, 1968, loans by THA to TAL were made free of interest but thereafter they bore interest at the rate of seven per cent per annum.

The year ended 31st December, 1972, was the first year in which THA made a taxable income, excluding deductions for losses of prior years, but the respondent assessed the company's taxable income in the sum of $24,450 on the basis that it was not entitled to claim losses for the preceding seven years incurred as a result of making certain loans to TAL free of interest.

This is an appeal from such an assessment.

Section 51(1) of the Income Tax Assessment Act, 1936, provides that: -

``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, or of a capital, private or domestic nature, or are incurred in relation to the gaining or production of exempt income.''

The appellant claims that such losses are losses incurred in gaining or producing the assessable income or, alternatively, losses necessarily incurred in carrying on a business for the purpose of gaining or producing such income and that, for taxation purposes, holding shares of a trading subsidiary and funding that subsidiary is carrying on a business within the meaning of the second arm of the subsection.

The respondent allowed as deductions interest paid on moneys lent by CFP to THA which were expended in paying for shares in TAL and otherwise for financing the operation of THA. In his view such interest was a legitimate income-producing use of the money but he maintained that interest paid to CFP on moneys loaned by it to THA which were, in turn, loaned by THA to TAL were not in that category.

It was common ground that if THA were entitled to a deduction for the interest it was paying on the loan from CFP it would substantially exceed $24,450, and it was not suggested by the respondent that the losses claimed as deductions must relate precisely to the assessable income return for the year in which the losses are suffered. Cf.
F.C. of T. v. Finn (1961) 106 C.L.R. 60;
A.G.C. (Advances) Ltd. v. F.C. of T. 75 ATC 4057: (1975) 132 C.L.R. 175.

It was, furthermore, common ground that the words ``incurred in gaining or producing the assessable income'' in the first arm of the subsection mean ``in the course of'' gaining or producing such income. Cf.
F.C. of T. v. Green (1950) 81 C.L.R. 313 at p. 317; that what is meant by the word ``necessarily'' in the second arm of the subsection is that the expenditure must be dictated by the business ends to which it is directed, those ends forming part of or being truly incidental to the business, cf.
F.C. of T. v. Snowden and Willson Pty. Ltd. (1958) 99 C.L.R. 431 at p. 437, and that it is sufficient, if the expenditure were ``reasonably necessary'' for the losses to have been incurred, etc. Green's case at p. 319.

As to the difference between the two arms of the subsection, the Court in
Ronpibon Tin N.L. v. F.C. of T. (1949) 78 C.L.R. 47, said, at p. 56:

``The alternative in sec. 51(1) therefore covers a wide description of activities. But in actual working it can add but little to the operation of the leading words, `losses or outgoings to the extent to which they are incurred in gaining or producing the assessable income'. No doubt the expression `in carrying on a business for the purpose of gaining or producing' lays down a test that is different from that implied by the words `in gaining or producing'. But these latter words have a very wide operation and will cover almost all the ground occupied by the alternative.''

As to the first arm the Court said on p. 57:

``In brief substance, to come within the initial part of the subsection it is both sufficient and necessary that the occasion of the loss or outgoing should be found in whatever is productive of the assessable income or, if none be produced, would be expected to produce assessable income.''

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In A.G.C. (Advances) Ltd. v. F.C. of T. 75 ATC 4057; (1975) 132 C.L.R. 175, Barwick C.J. in considering the subsection, said, at ATC p. 4065; C.L.R. p. 188:

``It is clear enough, it seems to me, that in order to be a relevant loss it must be a loss of money which has been put out in order to gain assessable income.''

Since the greater part of the appellant's submissions were directed to the second arm of the subsection, I deal with that first.

It is, no doubt, correct, as counsel for the respondent submitted that in considering whether a taxpayer is carrying on a business within the meaning of the subsection, it is necessary to differentiate between the profit-making activities of a subsidiary, a separate tax-paying entity and the activity of its parent.
Odhams Press Ltd. v. Cook (1940) 23 T.C. 233 at pp. 247, 253-4 and 257;
North Australian Pastoral Co. Ltd. v. F.C. of T. (1946) 71 C.L.R. 623 at p. 635.

But, in
Carapark Holdings Pty. Ltd. v. F.C. of T. (1966-67) 115 C.L.R. 653 a holding company which had a contract of insurance providing for payment to it of £10,000 in the event of death by air accident of its employee or the employee of an associated or subsidiary company, received £10,000 on the death of an employee of a subsidiary company. The holding company set up a trust fund of £8,000 to be used, as to income and capital, to provide a weekly sum of £15 to be paid for a period of ten years to the widow and in the event of her death for the benefit of her children.

It was held: -

``that the only two possible explanations of the insurance were that it was effected to enable the holding company to extend an appropriate degree of generous treatment to employees, either of itself or its subsidiaries, or their dependants, or that it was effected so that in any of the events insured against the holding company should receive moneys to take the place of that which it would otherwise have derived from a continuance of the service of the employees. On either basis, the insurance moneys received must be considered as having been gained in the course of its business and formed part of its assessable income.''

And, in
Esquire Nominees v. F.C. of T. 72 ATC 4076; 73 ATC 4114; (1971-73) 129 C.L.R. 177, Menzies J. said at 73 ATC p. 4123; C.L.R. p. 221:

``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.''

And see also Stephen J. at 73 ATC p. 4128; C.L.R. p. 229, who referred to the business activities of the company paying the dividend ``that is to say, the activity of holding shares and receiving payment of dividends, which was its only business activity.''

Counsel for the respondent relied strongly on a short passage from the passage of Dixon J. in North Australian Pastoral Co. Ltd. v. F.C. of T. (supra) when in considering a subsidiary question under sec. 46 of the Income Tax Act, as it then was, he said at p. 635:

``This last suggestion seems beside the point. For the companies paying the dividends are independent entities taxable as such and no deduction would be allowed in the appellant's assessment for expenses incurred by the appellant for the purpose of the earning of profits for those companies.''

But the learned Judge was considering the amount of dividend rebate any taxpayer was entitled to under sec. 46 as it then was and whether the expenditure there under consideration was directly attributable to the dividends. The passage, in my respectful opinion, is not authority for the proposition that outgoings incurred for the purpose of the earning of profits for subsidiary companies are not deductible under sec. 51(1). In fact, the respondent himself concedes, in this case, that deductions for interest paid on moneys lent by CFP to THA expended in paying for shares in TAL, its wholly owned subsidiary, were allowable deductions.

As to both arms of the subsection it is to be observed that the question as to whether any particular loss is incurred either in gaining or producing the assessable income under the first arm or in carrying on a business for that purpose under the second arm, is to be determined by considering the essential character of the expenditure itself rather than the motive for or the purpose of it.
Marshall Richards Machine Co. Ltd. v. Jewitt 36 T.C. 511,

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per Upiohn J. at p. 526; Case J43,
77 ATC 414;
Lunney v. F.C. of T. (1958) 100 C.L.R. 478 at pp. 496-499.

As to the second arm of the subsection, the appellant, in my opinion, carried on a business within the meaning of sec. 51(1); that business was the business of holding shares and advancing by way of loans a trading company in which it was substantially interested. In my view the essential character of the losses which THA incurred in interest payments to CFP was a loss incurred as a result of an expenditure truly incidental to its business in the anticipation of the production of assessable income. In my view, also, the loss being incurred in such an anticipation, was incurred in the course of gaining or producing the assessable income.

In considering claimable deductions under sec. 51(1), I would only add, in conclusion, that I can see no difference, in principle, between losses resulting from borrowing moneys to inject capital into a subsidiary by the purchasing of shares and losses resulting from borrowing moneys to advance such a subsidiary by way of loans.

The appeal is allowed. The respondent will pay the costs.