Terence Michael Hanlon v. Federal Commissioner of Taxation.
Judges:Tadgell J
Court:
Supreme Court of Victoria
Tadgell J.
In his return of income for the year ended 30th June, 1976 the appellant claimed that a loss or outgoing of $8,833 incurred by him in that year was an allowable deduction. He relied on sec. 51 of the Income Tax Assessment Act standing alone or in combination with sec. 92. The respondent disallowed the claim and, following an unsuccessful objection, the disallowance was upheld by a Board of Review, from whose decision this appeal is brought under sec. 196 of the Act.
The extensive oral and documentary evidence adduced on the appeal showed the circumstances which had led to the relevant
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expenditure to have been these. In the first half of the 1976 calendar year the appellant associated himself with eleven other individuals and a company in a venture the purpose of which was the establishment of a herd of Simmental cattle of high quality. The company, Landstrom Holdings Pty. Ltd., had since 1972 conducted a stud property of about 4,250 acres near Yea known as Terangaville Station, among others. One J.J. Berger and his wife were the beneficial owners of Terangaville and the appellant had for many years held a position known as farming controller for the company and other companies associated with it. In that capacity he had been concerned as a management accountant and developed some expertise on the subject of farm costs.An initial objective at Terangaville had been to improve an existing herd of Hereford cattle by an infusion of blood of the Simmental breed with a view ultimately to establishing a pure-bred Simmental herd. In 1976 Simmental cattle of pure blood were not widely bred in Australia. Then and previously there were difficulties in the way of those who wished to establish a pure-bred Simmental herd here. Quarantine requirements made imported stud cattle of exotic breeds scarce and therefore expensive. Conventional artificial insemination techniques undertaken locally by way of cross-breeding, using imported Simmental semen, although possible, were thought by those responsible for the management of Terangaville to be unsatisfactory for a variety of reasons. It is unnecessary to canvass these save to mention one disadvantage, namely that suitable Simmental progeny could not be bred by these techniques in less than four generations over a period of at least six and three-quarter years.
In 1973 Mr. Berger learned of the so-called ovum or embryo transplant method of cattle-breeding and investigated the prospect of introducing it at Terangaville. Stated non-technically, the method involves the following steps: the administration to a selected, elite maiden pure-bred heifer of fertility drugs with a view to inducing the release of a multiplicity of ova, a state known as super-ovulation; the artificial insemination of the heifer while in that state with selected semen; the surgical removal from the heifer (known as a ``donor heifer'') of a number of fertilised ova or embryos; and the surgical implantation of the embryos, one within each of an equal number of suitable cows of other non exotic-breeds (called ``recipient cows''). The recipient cows need not be of particular quality save in terms of size, for their task is in effect simply to act as incubators for transplanted embryos and to give birth to and suckle the offspring. Nevertheless, if ova and semen from pure bred Simmentals are used, the progeny will be pure-bred Simmentals. An advantage of the method is that, unlike conventional methods of hard improvement involving cross-breeding, it enables the production of pure-bred Simmental cattle in but a single generation.
The embryo transplant technique was found to be rather too expensive for adoption at Terangaville in 1973 but Mr. Berger and some of those associated with him in business remained alive to the possibility of its later use if suitable arrangements could be made.
Late in 1975 or early in 1976 Mr. Berger was put in touch through one J.A. Santamaria, a public accountant who had advised him on taxation and other financial matters for many years, with Sir William Gunn, then prominent in the rural industry in Queensland and elsewhere. He and others were discovered by Mr. Santamaria to offer an entree to the embryo transplant technique, using connections in New Zealand, through what was for convenience referred to in evidence as ``the Gunn organisation''. The Gunn organisation had a stock or supply of semen from a celebrated Canadian stud Simmental bull (then deceased) called EXTRA. It also owned or had access in New Zealand to a number of Simmental heifers suitable for use as donor heifers for embryo transplants; and it was prepared for a high fee to lease them, to carry out the necessary surgical and other operations and to guarantee delivery in Australia of all or some of the offspring. Having investigated and discarded alternative avenues of approach, Mr. Berger and Mr. Santamaria had discussions with Sir William Gunn and others within the Gunn organisation, absorbed their proposals and set about assessing their practicability in terms of cost and probable effectiveness.
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The appellant, as an experienced farm cost and management accountant, was given the of task of making a comparative appraisal of the economics of herd improvement at Terangaville along traditional lines and of the production of a herd by the embryo transplant method, using data supplied by the Gunn organisation. He did so with one O'Halloran, the accountant and secretary of Landstrom Holdings Pty. Ltd. They concluded that, in spite of its high initial cost, the embryo transplant technique would be cheaper in terms of desired results than the conventional method and they knew that it would produce them more quickly. The financial rewards from the general introduction of the Simmental breed into Australia were expected to be large and the prospect of establishing a substantial herd at Terangaville was attractive. Mr. Berger's desire was to establish a herd of about 800 Simmental at Terangaville by 1982. The initial cost, however, was expected to be very appreciable. In order that the cost might be more conveniently met, Mr. Santamaria proposed that it should be spread, even though the inevitable consequence would be that ownership of the herd, when established, would not be confined to Landstrom Holdings, as was that of the existing herd at Terangaville. Mr. Berger agreed, giving Mr. Santamaria instructions to negotiate a transaction with the Gunn organisation and to gather together an appropriate number of interested and suitable persons as a syndicate. Mr. Berger said in evidence that ``... it would have to be people who believed in the Simmental animal and wanted to be associated with ourselves...''.
Mr. Santamaria investigated the financial and technical ability of the Gunn organisation to achieve its predictions and satisfied himself that it could. He had several long and detailed discussions with representatives of the organisation in the course of which, after some available alternatives were discussed, a firm plan was evolved. The Gunn organisation was to make nine specified donor heifers available in New Zealand and there to super-ovulate them, artificially inseminate them with EXTRA semen, provide suitable recipient cows, effect the necessary embryo transplants to them, procure the birth of four resultant calves (two of each sex), wean them and deliver them in Australia. There was to be a separate contract, called a lease, in respect of each of the nine donor heifers and the consideration for each contract was negotiated at $26,500, part of which was also to be financed by the Gunn organisation.
Mr. Santamaria's negotiations with the Gunn organisation took place over the last three or four months of the 1976 financial year and they overlapped in time with his efforts to form a syndicate of interested persons to take the nine so-called leases. The Gunn organisation required that each lessee should consist of a company or individual or a small group of individuals. That requirement suited Mr. Santamaria's ideas for a syndicate and also provided a convenient diversity of ownership of progeny for the purpose of stud registration, the benefits of which need not be now canvassed. Over the period of two or three months to June 1976 he assembled a syndicate of potential lessees, consisting of Landstrom Holdings Pty. Ltd. and twelve individuals. He and his two professional partners were to take one lease between them, Landstrom Holdings was to take three, Mr. and Mrs. Berger together were to take another, two of his clients (one also a friend and one also a nephew) were to take one each, two friends of Mr. Berger's actively associated with Terangaville were to take another between them and the last was to be taken together by the appellant and Mr. O'Halloran (the secretary of Landstrom Holdings) and one Macey, a director of Landstrom Holdings who was also actively associated with Terangaville. The many discussions which Messrs. Berger and Santamaria had with representatives of the Gunn organisation were attended by most of the other individual members of the proposed syndicate, but not necessarily always altogether, and the proposal was much agitated among the members themselves.
By 22nd June, 1976 the concept of a syndicate and its composition were sufficiently firm at least to induce Mr. Berger to procure the registration under the Business Names Act 1962 of a name for it - Preferred Simmental Stud Co. By deed dated 23rd June, 1976, he declared that he held the registered name on trust for thirteen nominated members.
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Messrs. Berger and Santamaria and others were painstaking in terms of time and effort in the settling of the documents which were eventually executed by the lessees and on behalf of the Gunn organisation. A document described as an indenture of lease and bearing date 29th June, 1976 was executed by Livestock Management Pty. Ltd. as lessor and by the appellant and Messrs. O'Halloran and Macey as lessees. The consideration, expressed as a rental, was $26,500. A loan agreement bearing the same date was executed as a deed between those lessees and Cattle Investments Pty. Ltd. Both these companies were within the Gunn organisation. I was told that each of the other groups of lessees executed a set of documents in common form, mutatis mutandis, but the other documents were not put in evidence. According to the reasons given by the Board of Review for its decision the date of execution by the lessees of these documents, and indeed their authenticity, were the subject of a strong challenge by the respondent upon the reference to the Board. The challenge was not maintained on the appeal and, there being no contrary evidence, the deeds to which the appellant was a party are to be taken to have been made on the date which each bears.
Although by 30th June, 1976 the nature of the relationship and the obligations between the lessees on the one hand and the Gunn organisation on the other had been the subject of detailed consideration and documentation on either side, the relationship of the lessees between themselves had been much less explored before that date. Indeed, the true legal character of the syndicate and the nature of its members' obligations one to another had probably not been fully thought through before the end of the 1976 financial year. The individual members were all professional or business people of one sort or another, but none was a lawyer, and there is no evidence that any legal advice on those questions was ever sought in 1976. Perhaps that is surprising inasmuch as, between them, the members of the syndicate were committing themselves to the Gunn organisation for a total sum of $238,500, although it should be observed that an employee solicitor of Landstrom Holdings vetted the documents which were executed. So far as appears there was never any constituent document executed or even proposed which defined the purposes, objects or limits of the syndicate or the relationship between its members. There was, it is true, a so-called Deed of Association executed on 1st June, 1977, relating to a similar but subsequently-formed syndicate, some of the participants in which were common to those of the earlier one. That does not, however, meet the point that, by 30th June, 1976, the constitution of the first syndicate had not been wholly thought out and expressed.
The apparent neglect of the syndicate members to reach any externally demonstrable solid and legally binding business arrangement between themselves before 30th June, 1976 formed a basis both for the decision of the Board of Review on the reference to it and the argument for the respondent on the appeal that the appellant was not entitled to the deduction of $8,833 which he had claimed. Furthermore, the evident difficulty of classifying the nature and extent of the interest derived by the appellant under the lease to which he was a party was alleged on behalf of the respondent to justify a disallowance of the deduction claimed. It, too, appears to have influenced the Board of Review in its conclusion that the respondent's disallowance was correct. The difficulty of defining, in terms of legal analysis, the nature, extent and consequences of the appellant's membership of the syndicate, and of his interest under the lease to which he was a party, may be conceded. That difficulty is not, however, determinative of the essential questions which arise on this appeal.
The appellant's case depends upon his demonstrating that his outlay of $8,833 was a loss or outgoing of the kind referred to in sec. 51, scil., one incurred by him in the course of gaining or producing assessable income or necessarily incurred by him in carrying on business for the purpose of gaining or producing assessable income. It was common ground that sec. 92 could not avail the appellant except in association with sec. 51. For the respondent it was submitted that nothing relevantly done by the appellant in the 1976 year of income constituted an affair of trade. It was a submission apparently also made to and accepted by the Board of Review. The Board relied for its
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conclusion upon the imprecise definition of the relationship of the syndicate members inter se, the nature of the interests derived by the appellant under the lease to which he was a party and the limited nature of the obligations thereunder of the appellant and his co-lessees. Counsel for the respondent developed these considerations on the appeal and added others, notably that the character of the appellant's activities was entirely coloured by his relationship to Landstrom Holdings as its employee. That company and Mr. Berger, the respondent conceded, were carrying on substantial commercial or business enterprises; but it was argued that what the appellant did was not independent of them and that no individual commitment by him was expected, offered or made in the 1976 financial year. Indeed, it was submitted, there was a conscious decision reached by the appellant in the 1976 year of income to postpone making any commercial commitment to anyone before the arrival of progeny pursuant to the lease agreement; such obligations as he had under the lease and the loan agreement in that year were said to be unconnected with any business or commercial scheme the purpose of which was to generate assessable income for him.A transcript of the hearing before the Board of Review was not made available to me but I was told on behalf of the respondent that the evidence I heard included material which was not before the Board. I also suspect that some of the evidence which was common to the reference and the appeal received a different emphasis in this Court than it did before the Board.
The totality of the evidence before me requires an emphatic rejection of the submission that the appellant was not engaged in a relevant commercial enterprise in the 1976 year of income. In my opinion the appellant deliberately committed himself in June 1976, at the latest, to a plan of cooperation with the other members of the syndicate for the purpose and with the intention of contributing together with them to the establishment of a Simmental herd at Terangaville. The appellant was induced so to commit himself by the expressed intention of Mr. Berger (of which in any event he was well aware) both to do so himself and to encourage others to do likewise. The appellant's incentive was commercial but whether it was solely commercial it is unnecessary to consider.
The evidence and the conclusions from it on which these findings are based may be quite shortly summarised. The appellant laid out or committed himself to lay out $8,833 of his own money in common with the other syndicate members (that having been calculated by him to be within his financial capability) in order to receive the benefits to which the so-called lease entitled him; and he intended to make further outlays in future years towards the same end. He made his outlay on the faith of an understanding which he believed existed among all the members of the syndicate that they would cooperate in the way he himself intended, and in the expectation that his entitlement under the lease would be fulfilled. It is not possible on the evidence, and it is unnecessary, to classify the nature of the co-operative venture between the thirteen members of the syndicate. Nor is it appropriate to consider whether the arrangement was legally enforceable. Much cross-examination and argument were devoted on behalf of the respondent towards the conclusion that what was reached was not a partnership agreement. That may or may not be so. What matters is that, rightly or wrongly, the appellant believed in June 1976 that the other members wished to do the same as he did. It would perhaps be interesting, but again it is not necessary, to investigate into and endeavour to categorise the various legal and equitable rights which the appellant derived as a result of the execution of the lease, both as against the lessor and as against his colessees. The Board of Review undertook that exercise and apparently concluded that the appellant derived no more than what was described in the reasons for decision as ``an anticipated interest, to arrive at some future date, in four pure-bred calves''. The Board was influenced by its legal analysis to find that the appellant's participation in the lease and his incurring financial liability thereunder, even when viewed against the background of the other facts, fell ``far short of constituting a business of breeding stud cattle carried on by him either alone or in partnership with others''. The Board of Review was also influenced in its decision by a conclusion that the lease contemplated no activity or intervention by or on behalf of the
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lessees - all was to be done thereunder by or on behalf of the lessor in the course of its business and no other. It is true enough that the lessees were not entitled by the terms of the lease to possession either of the donor heifer or of any of the recipient cows; and if all had gone well the lessees would not have been physically involved in any step to produce the four calves to which the contract entitled them. The lessees were, however, entitled to step in and make good any default by the lessor, and ultimately they did so, but outside the 1976 financial year. Irrespective of that, the mere fact that the lessor was to produce the calves for the lessees could only carry the consequence that the lessees were not themselves carrying on a business if the production of the calves was the be-all and end-all of the lessees' relevant activity. Even then it might not be determinative. As it was, I think the evidence shows that production and delivery of the four calves by the Gunn organisation for the appellant and his colessees, whilst fundamental and indispensable to the enterprise in which the appellant was engaged, did not constitute the whole of it. In truth, the acquisition of purebred calves from the Gunn organisation (two of each sex) by the appellant and each of his co-lessees (and 36 in all) was but a necessary first step in the achievement of a broader purpose - the commercial development of an elite Simmental herd at Terangaville Station. An effort was made on behalf of the respondent to indicate that the appellant's entitlement (whatever it was) to calves under the single lease agreement to which he was a party amounted to something which was, to use counsel's words, ``utterly uncommercial in significance''. The appellant was not disposed, under cross-examination, to disagree with that. He made it plain, however, that he regarded his involvement as not being confined to or limited by the lease agreement. He said in cross-examination: ``... I went into the lease agreement for the capital, because I saw it as an opportunity to be involved in a loan project which the company I worked for was being involved in, and the development of the new breed of cattle in Australia''. He also said (in-chief) that his participation in the project ``... was never understood to be one year because of the nature of breeding cattle. The object was to develop a unique Simmental herd and the only way that it's possible to do that is by having a good number of cattle from which to make a selection and an evaluation over a period of years. In fact, I don't think a stud, any bloodstock would reach any reputation under a minimum of perhaps ten years, to develop a herd.'' The appellant's evidence-in-chief continued in this way:- Q. ``Was it suggested that you should contribute for some years ahead? - It was my - I anticipated contributing for as long as I was able financially to do so.''
- Q. ``Did you consider that you would be financially able to contribute for more than one year? - Yes.''
Again, he said:
``As a result of the discussions that I had with Mr. Berger, Mr. O'Halloran and Mr. Macey and Mr. Santamaria I knew that I would be entitled to a proportionate part of the whole herd that resulted from the leases that were entered into.''
Counsel for the respondent criticised that last statement as being, in effect, no more than a convenient reconstruction of the situation which suited the appellant's present purpose, and as being inconsistent with the fact that records had been subsequently kept identifying the progeny of each leased donor heifer which suggested a need to isolate the entitlement of each lessee. The evidence indicated, I think, that there were other reasons why the records should as a matter of good housekeeping have been made up in the way they were. However that was, the impugned statement by the appellant was consistent with statements given in their evidence by each of Messrs. Berger, Santamaria and O'Halloran, the last of whom, a co-lessee with the appellant, said in particular:
- Q. ``Was there any discussion as to the way in which you would go ahead with it as a group? - Only that, that it was put to us that we wanted to do it as a group so that we would have control of the Simmental cattle and [that] was the reason for getting the group together...''
- Q. ``Did you have any discussion concerning the proposal that the three of you should jointly enter into a lease? - Yes, well, that was done for the reason that there was a certain lease fee payable in respect of the leasing of cows as
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negotiated with the Gunn organisation, and I only wanted to participate to a certain extent, and the way to participate was to contribute with others. I didn't place any significance on the fact that there was a separate lease for this transaction as opposed to others, that I was aware of. So far as I was concerned, it was all relating to the one business transaction.... I would not have entered into that lease without the others entering into the other leases at the same time.''
When I asked him why, he said ``Because it was all part of the total transaction''.
I accept the appellant's impugned statement as representing what he believed. Whether, if it had come to the point, his actual legal position would have been equal to his belief I do not know and it is not material to discover. In my opinion the subject expenditure by the appellant was incurred by him in carrying on a business for the purpose of gaining assessable income.
Save for one submission to which I must refer, it was not contended on behalf of the respondent that the appeal should not be allowed if I were to conclude, as I have, that the subject expenditure of $8,833 was incurred by the appellant in the course of a commercial venture of his. The submission was that the appeal was incompetent because the decision of the Board of Review appealed from was not, as sec. 196(1) requires, one which ``involves a question of law''. The argument for the respondent was, in substance, that the Board's decision involved only a narrow and simple finding of fact to the effect that the appellant's expenditure was not incurred in the course of a commercial venture of his. It was argued that, if the Court had jurisdiction to entertain an appeal, the same question of fact would fall to be determined, and that it would follow that the conclusion on the merits at which I have arrived would also be a question of fact.
A decision ``involves'' a question if a resolution of the question forms an integral part of the reasoning which leads to or supports it, whether expressed or not. In
Lombardo v. F.C. of T. 79 ATC 4542 at p. 4550; (1979) 40 F.L.R. 208 at p. 219, Toohey J. expressed the position thus -
``If a perusal of a Board's decision shows that some step, although not expressly referred to, must have been taken by the Board in arriving at its conclusion, that matter was involved in the decision. And if the matter, on examination, is shown to be a question of law, then a question of law will have been involved.''
In my opinion there were several questions or matters which were integral to the decision of the Board which, on examination, are shown to have been questions of law. It will be sufficient to refer to one, perhaps one of the most obvious of them. This is the Board's conclusion upon the question whether the appellant's expenditure was incurred in gaining assessable income in terms of the first limb of sec. 51(1). The Board's conclusion was that, upon the facts found by it, the relevant expenditure did not fall within the first limb of sec. 51(1) because it was insufficiently connected with any income expected to be gained or produced as a result of it. The Board said in para. 13 of its reasons -
``At the date of the hearing, over two years had elapsed since the expenditure was incurred and the income of which it was to be productive could still not be identified save in terms of some possible future prospect. We think that the first limb calls for some less vague connection between the outgoing and the income than this...''
I consider that conclusion to have involved a question of law because it involved a consideration of what it is that sec. 51(1) means or, as the Board said, what it ``calls for''. That is not a question of deciding merely what the words mean as a matter of language but one of deciding whether the facts as found are sufficient to attract the operation of the statutory provision as properly construed - inevitably a question of law. Although it is not a question of law which I have found it necessary to decide, the Board's decision involved it with the result, in my opinion, that the decision was subject to appeal under sec. 196.
The appeal is allowed. The assessment is set aside and I direct the respondent to reassess the appellant for the year of income ended on 30th June, 1976, in accordance with these reasons for judgment. The respondent will pay the appellant's costs to be taxed.
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