Somers Bay Investment Pty. Ltd. v. Federal Commissioner of Taxation.

Judges:
Jones J

Court:
Supreme Court of Western Australia

Judgment date: Judgment handed down 7 August 1980.

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Jones J.

Somers Bay Investment Pty. Ltd. (the company) objected under sec. 185 of the Income Tax Assessment Act (the Act) against its assessment for income tax in respect of the year of income ended 30 June 1974. The Commissioner disallowed the objection, and the company under sec. 186 of the Act requested the Commissioner to treat its objection as an appeal and forward it to this Court. This, with a very comprehensive file of papers, the Commissioner has done. This is the hearing of that appeal.

The point at issue, as counsel for the company phrased it, is ``on the face of it a very short point'': namely, whether insurance premium payments on a policy of ``a fire and accident type'' were in the particular circumstances wrongly disallowed as deductions against the company's assessable income in the year in question. The point may be short, but I have found it by no means easy to determine.

The company is a property investment company. It owns various properties in the metropolitan area, from which it receives rents. Until 1972 or thereabouts these included the C.T.A. Building in St. George's Terrace and Warwick House and Sherwood House in Sherwood Court - three of the buildings which were to be demolished to make way for the construction of a new building on that site, Allendale Square. The company had acquired those buildings with a view to that demolition and that construction; it had in mind the erection of the new building which was to be Allendale Square. In the 1973 taxation year it sold or disposed of those buildings, which consequently ceased to return it rents. It remained the owner of its five other buildings in different areas, and these continued to return it rents. Then it joined as a joint venturer with certain other parties in the Allendale Square project, its share in the project being 46.2 per cent. The joint venturers set up a trustee company, Allendale Holdings Pty. Ltd. (Allendale) for administrative convenience during the preparation for and construction of the new building, and the insurance policy was taken out in Allendale's name; but the joint venturers were responsible each for its aliquot part of the premium, the company's share being 46.2 per cent. The policy was described as a ``Contractor's `All Risk' Policy'' but in fact it virtually comprised two policies: one against the risk of material damage during construction and the other a public risk liability policy. The cover extended to a date 12 months after the ``date of practical completion'' of the building (which was to be about mid 1976), and the premium was a once-for-all premium, although payable in two parts. It was those payments - i.e. 46.2 per cent of each - that

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the company claimed as allowable deductions in its return for the income tax year in question. The amounts were $7,457 and $13,934 respectively, a total of $21,391.

The grounds of the company's objection against the disallowance of these deductions were, in substance, as follows:

``(1) Payment of insurance premiums of a fire and accident type are allowable deductions within the meaning of sec. 51(1) of the Act by virtue of the fact that such outgoings are necessarily incurred to preserve the operations of the company and are therefore necessarily incurred in carrying on the company's business.

(2) Insurance premiums of a fire and accident type are annual payments to insure against loss. It is the very fact of their regular recurrence which brings them within the arena of allowable deductions under sec. 51(1) of the Act.

(3) The insurance payments in question are not of a capital, private or domestic nature but are necessarily incurred in the ordinary course of business and therefore are allowable deductions.''

The Commissioner gave no reasons for his disallowance of the objection, but in fact the reason was his contention that the insurance premium payments were not outgoings incurred in gaining or producing the company's assessable income for the year in question, nor were they incurred in carrying on the company's business for the purpose of gaining or producing the assessable income for that year, and further that they were in any event outgoings of a capital nature.

Section 51(1) of the Act reads:

``All losses or 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 problem therefore is: were these outgoings, namely the parts of the insurance premium paid by the company, so paid that it can be said that they were necessary to be paid so that the company would gain or produce some part of its income during the taxation year in question; or that it can be said that they were so paid in the course of carrying on the company's business for the purpose of gaining or producing such income; and further, were those payments essentially ``of a capital nature''?

Section 51(1) speaks of ``outgoings,... incurred in gaining or producing the assessable income'' as allowable deductions. It is necessary to give its due importance to the definite article, the little word ``the''. The outgoings must be incurred in gaining or producing income not in some future year, but in the year of income to which the return relates - i.e. in the present case to the year ended 30 June 1974. In that year the company did not gain or produce any income from Allendale Square, to which alone the policy related - obviously, since that building was then in the course of construction, and the first tenant was not installed until May 1975. But was the outgoing necessarily incurred in carrying on the company's business, that business being a business for the purpose of gaining or producing assessable income? The answer to that question must be ``yes''. The company's business is, and was at that time, the business of owning and maintaining buildings from which it receives rents. It was carrying on that business. Payment of premiums on insurance policies for the protection of its buildings were outgoings necessarily incurred in carrying on that business. As to ``necessarily'', the authorities make it clear that that word is to be construed in the sense of ``clearly appropriate or adapted for'': see for example the Ronpibon Tin case (1949) 78 C.L.R. 47 at p. 57. So construed, the payments of its share of the premiums on the policy on Allendale Square were outgoings necessarily incurred in carrying on the company's business, which included not only the owning and maintaining of its existing buildings but the construction of new ones which would ultimately produce rent. But was the company, in this respect, carrying on this facet of its business ``for the purpose of gaining or producing'' - in the words of the section - ``such income''? If the matter were free from authority I would say without hesitation that, as a matter of grammar and logic, the words ``such income'' refer back to the words ``the assessable income'' in the

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first part of the section - i.e. the assessable income for the year of the return. But the matter is not free from authority - not perhaps strictly binding but at least highly persuasive. In the Ronpibon Tin case (supra) their Honours in their joint judgment said at p. 56:

``The words `such income' mean `income of that description or kind' and perhaps they should be understood to refer not to the assessable income of the accounting period but to assessable income generally. If they were so interpreted, they would cover a case where the business had not yet produced or had failed to produce assessable income...''

The ``perhaps'' and ``if they were so interpreted'' may indicate a doubt in their Honours' minds as to the correctness of the suggested interpretation; but Dixon C.J. in
John Fairfax & Sons Pty. Ltd. v. F.C. of T. (1959) 101 C.L.R. 30 at p. 35 said this:

``It is not a matter really affecting this case, but it may be desirable to add that I think the word `such' in the expression `a business for the purpose of gaining or producing such income' should be construed as meaning `assessable income' not `the assessable income' that is the assessable income of the particular accounting period...''

He referred to Ronpibon Tin and also to a previous judgment of his own in
Amalgamated Zinc (De Bavay's) Ltd. v. F.C. of T. (1935) 54 C.L.R. 295 at p. 309, where in what appears to me, with respect, to be a somewhat unclear passage, he said:

``This provision, however (sec. 25(e) of the previous Act), does not prefix the definite article to the words `assessable income' and, therefore, is satisfied if the purpose is the production of income considered independently of division into periods of account. The practice which prevails in the case of continuing businesses is, therefore, not inconsistent with the interpretation of sec. 23(1)(a) which makes it refer to the assessable income from which the deduction is to be made. The intention to refer to the assessable income under assessment is, I think, clearly expressed. This construction has been given by the Privy Council to the Indian Income Tax Act 1922, sec. 12 of which speaks of `expenditure... incurred solely for the purpose of making or earning such income'. Lord Tomlin said, in delivering the judgment of the Board: `In their Lordships' view, on the true construction of that sub-section, the allowance for any expenditure incurred must be an allowance for expenditure incurred in the year in respect of which arise the income, profits and gains forming the basis of the assessment. Upon that footing, therefore, there can be no justification for deducting from the profits and gains something in respect of expenditure, whether it be regarded as capital expenditure or not, which occurred many years before' (
Income Tax Commissioner v. Basant Rai Takbat Singh, 1963 L.R. 60 Ind. Rep. 307 at p. 312). The expenditure there in question consisted in the cost of erecting buildings on leasehold land, and the taxpayer sought unsuccessfully to spread it over the term of the lease and deduct the proportionate part from his gross income as an annual depreciation or loss.''

With respect, that pronouncement appears to me rather to negative than to affirm his Honour Dixon C.J.'s view. Nevertheless, with some reluctance, I accept the position that ``such income'' in the phrase in question means assessable income in general and not the assessable income of the taxation year in question.

On this basis the insurance premium paid by the company, or its share of it, was an outgoing incurred in carrying on its business for the purpsoe of gaining or producing assessable income, such income to be gained or produced in some future year. Was, then, the outgoing within the exception specifically mentioned in the section, namely, was it an outgoing of capital or of a capital nature? If so, it was not an allowable deduction.

In
Sun Newspapers Ltd. v. F.C. of T. (1938) 61 C.L.R. 337 at p. 361 Dixon C.J. said:

``In the attempt, by no means successful, to find some test or standard by the application of which expenditure or outgoings may be referred to capital account or to revenue account the courts have relied to some extent upon the difference between an outlay which is

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recurrent, repeated or continual and that which is final or made `once for all', and to a still greater extent upon a distinction to be discovered in the nature of the asset or advantage obtained by the outlay. If what is commonly understood as a fixed capital asset is acquired the question answers itself.''

Here, the nature of the advantage to the company obtained by its payment of its share of the premium was the protection of its interests during the construction of the new building in which it had a share. That building, when completed, would constitute a fixed capital asset. The payment of the premium was a once for all payment, and the term of the policy would extend only until the end of the maintenance period under the construction contract - 12 months after the date of ``practical completion''. Thereafter, the policy if renewed would be for future periods for which future, recurrent premiums would be paid. Those payments would obviously be outgoings incurred in gaining or producing the assessable income, year by year. But as for the premium for the policy here in question, the fact that the company, for its own accounting purposes, treated the two parts of the premium payment as revenue outgoings, is not to the point. The payment of the premium was, in fact, integrally connected with the establishment of the capital asset, the new building. It was clearly, in my opinion, a payment directly connected with an expenditure of capital and was therefore ``an outgoing of a capital nature''. It is therefore squarely within the exception, and the Commissioner was right in ruling that for that reason it was not an allowable deduction. It follows that he was right in disallowing the company's objection, and this appeal therefore fails.