BRAND v FC of T
Judges:RD Nicholson J
Court:
Federal Court
Nicholson J
The applicant ``appeals'' against the disallowance by the respondent of a claim for the expenditure of $15,000 made as advance payment of a licence fee for seven years in
ATC 4264
respect of a prawn farm (``the project'') in the year of income ended 30 June 1987 (``the relevant year'').The circumstances in which the applicant incurred the expenditure are as follows. On 4 June 1987, he entered into an exclusive licence (``the licence agreement'') for ninety-nine years for the use of land and pond facilities to conduct prawn farming with North Queensland Industries (Townsville) Pty Ltd (``NQIT'') by its agent General Rural Services Pty Ltd (``GRS''). By the licence agreement, NQIT licensed the applicant to exclusive use of lots three to four in pond eighty nine, sector one, comprising 1,000 square metres (``the pond''). NQIT undertook to construct or have constructed or make available ponds to the applicant in readiness for prawn farming within twelve months of the date of the licence agreement.
Two bases were provided in the licence agreement for the payment of licence fees by the applicant. The first was by annual payment. The second was by election to pay for seven years occupation of the pond upon the signing of the agreement. In the case of a 1,000 square metre area the total licence fee for seven years paid on an annual basis was $16,602 but if paid on signing the agreement was subject to a discount of $1602, making a net sum payable at that time of $15,000. The applicant exercised the right of election. In November 1987 the applicant received a refund of $7704. It is the deductibility of the amount paid as a consequence of the exercise of the right of election which is in issue on this appeal.
Notwithstanding the payment of either the annual fee or the exercise of the election to pay seven years licence fee in advance, the licence agreement also provided that the applicant's right to occupy the selected area of the pond would commence on the date that the pond was ready for the growing and harvesting of prawns, which date was to be advised by NQIT to the applicant in writing. Licence fees were to commence to apply from that date. The effect of this was that, even if payment had been made annually or by way of election at the time of the execution of the agreement, the period to which those fees would apply would not commence to run until the advice in writing by NQIT to the applicant that the pond was ready.
There was an added provision in the licence agreement that where the applicant elected to pay the first seven years licence fee in advance he would not be liable for further cost of licence fees, arising under a clause of the licence agreement providing for annual review, until the expiry of the seven year period.
Contemporaneously with executing the licence agreement, the applicant entered into an agreement (``the management agreement'') to farm prawns with GRS, the effect of which was to appoint GRS as manager of the applicant's pond until the expiration of a seven year period from the date of commencement of prawn farming at a fee of 30 per cent of the net profit of the prawn crop. The manager's obligation was to manage the pond including the harvesting and marketing of the prawns. It is apparent that until the applicant was provided with a pond the manager could not fulfil these obligations.
The applicant also paid $1000 to NQIT to purchase post-larvae prawns for use in the pond. A claim by the applicant for the allowance of that amount as a deduction, which was also disallowed by the respondent, was subject to objection by the applicant but he does not now seek to argue that disallowance on this appeal.
The pond was located in stage one of the plan for development of ponds. By letter dated 7 December 1987 NQIT advised the applicant that the pond had been renumbered pond twenty eight in the same sector.
The applicant came to have funds available for investment because his employment with Robe River Iron Associates Ltd was terminated in August 1986. As a consequence he received a termination payment of $18,132. He paid the sum into a bank account where it remained until being utilised for the payment to NQIT.
In September 1986 the applicant was reinstated to his employment on the basis that it was to be continuous between 1 July 1986 and 30 June 1987. However, in his evidence the applicant stated that there was an uncertainty over the continuity of his employment due to the industrial situation pertaining to his workplace which continued until April or May 1987. This evidence was uncontradicted.
For many years the applicant had known an investment adviser by the name of Royce who had also acted as his accountant and financial adviser. Sometime between January and March 1987 he again approached Royce for advice, as
ATC 4265
a consequence of which Royce subsequently notified him of a seminar being conducted by NQIT. The applicant attended the seminar. He was handed a document produced by GRS entitled ``A Report on Prawn Farming'' and a further document entitled ``Prawn Farm Rentals'' relating to the project. The latter report bore on its cover the words ``fully tax deductible''. It stated that an investor, by making seven years ``rental'' in advance would receive a very large discount. It contained a sheet headed ``rental and stocking fee'' in relation to sector one which showed that fee as commencing at $7000 per year for a 4,000 metre square lot, plus a 10 per cent CPI per annum. It quoted the licence fees earlier referred to in respect of a 1,000 square metre lot. Under a heading ``Tax Deductions'' it asserted the tax deductibility of either the annual rental or the payment of rental in advance for a seven year period. The qualification was added that the tax opinions were not a guarantee of likely decisions in an individual case.At the seminar the applicant had been told that NQIT was using its best endeavours to see that a first crop of test prawns was harvested before Christmas 1987. In December 1987 the applicant received a circular letter from NQIT advising there had been difficulties associated with the registration of its prospectus having the consequence of making it difficult to raise funds to continue the development of the project.
On 24 February 1988 the first mortgagee of the land on which the project was to be developed (``the land'') appointed Messrs Summerson and Ebbage of Ernst and Whinney, receivers and managers of the land. Further construction work thereupon ceased. On 4 March 1988 a provisional liquidator of NQIT was appointed. On 6 April 1988 the provisional liquidator was appointed as liquidator. On 23 December 1988 the land and improvements were sold by NQIT to another company. The consequence of these occurrences was that the applicant did not receive any return on his investment in the project and does not expect to recover anything from it.
The land was situated at Sleeper Log Creek, thirty kilometres north of Townsville. I accept the evidence of Mr Slaughter, an aquaculture consultant with experience primarily in prawn farming, that the site was excellent for prawn farming with soil, sea water quality and climate all being suitable for the commercial production of prawns.
At the date when the receivers and managers were appointed, construction of the ponds in stage one was not complete and the ponds were not suitable for filling with water and stocking with prawns. No further construction work occurred. However, four ponds located in stage two had been selected, filled and farmed as trial ponds between October 1987 and July 1988.
NQIT, which had been incorporated on 26 November 1986, became the registered proprietor of the land on 11 May 1987. Both prior to and subsequent to that date NQIT sought and obtained various permits and authorities to enable it to develop the pond farm to the stage it was at upon the appointment of a receiver and manager. These included permits and authorities relating to water, drainage, roads, pipelines, weirs, railways and surveys.
In relation to the land, a deed was executed on 21 January 1987 and 2 February 1987 between promoters of the project and the council of the relevant local government recording an agreement in respect of the zoning of the land to special facilities (aquacultural activities) subject to the approval of the Minister of Local Government and Main Roads of Queensland. On 2 April 1987, the Governor in Council of Queensland amended the relevant town planning scheme by re-zoning the land to the special facility zone. On 17 June 1987, the local authority granted approval for the group title sub-division on that basis. On 18 November 1987, the authority consented to seal and release the group title plan over stages one and two of the sub-division.
On 21 September 1987, NQIT proposed to the Fisheries Management Branch of the Department of Primary Industries of Queensland that it issue a permit to NQIT in respect of all the ponds on the basis that most would be managed by GRS and upon registration of the group title sub-division, the body corporate would hold the permit. On 28 September 1987, that department advised NQIT that before such a permit could be issued it required evidence of the re-zoning of the land and documentary evidence of the ability of NQIT to finance and carry out the proposed aquaculture activities. On 9 February 1988, the Department determined it would not issue such a permit to NQIT until it received advice from
ATC 4266
the Commissioner of Corporate Affairs, Queensland that NQIT had been granted corporate body status and that the associated prospectus lodged with the Commission had been approved and all other requirements governing the issue of aquaculture permits had been complied with. On 19 February 1987 a fish or marine products farming permit was issued under s 58 of the Fisheries Act 1976 (Qld) to NQIT but it expired on 19 February 1988 and no renewal was sought. On 30 March 1988 the Department issued a fisheries permit to the provisional liquidators of NQIT.So far as the establishment of staff was concerned, NQIT engaged Mr Keating as construction manager on 6 July 1987 and entered into an employment agreement for five years with Mr Slaughter on 1 July 1987 for him to act as project director. A pond manager was employed on 27 August 1987. I find from the agreed facts and the evidence of the witnesses Slaughter and Keating, as well as the fact of the sale of the prawn farm by the liquidator as a going concern, that had the farm been established it would more probably than not have operated profitably. No question of the farm being a sham arises on this appeal.
The applicant's case relies solely upon the first limb of s 51(1) of the Income Tax Assessment Act 1936. The primary issue is to what ``extent'' the outgoing constituted by the prepayment of licence fees was for the purposes of that sub-section incurred ``in gaining or producing the assessable income''.
The principles upon which this court should proceed in determining whether the outgoing in question falls within the sub-section are set out by the High Court in
Fletcher & Ors v FC of T 91 ATC 4950 at 4957-4958; (1991) 173 CLR 1 at 17-19. From that it is apparent that the outgoing must be incidental and relevant to the end of the gaining and production of assessable income. That does not exclude the motive of the applicant in making the outgoing as a possibly relevant factor in characterization of the outgoing and (at ATC 4957; CLR 17):
``At least in a case where the outgoing has been voluntarily incurred, the end which the taxpayer subjectively had in view in incurring it may, depending upon the circumstances of the particular case, constitute an element, and possibly the decisive element, in characterization of either the whole or part of the outgoing for the purposes of the sub-section.''
The present case is one in which no relevant assessable income can be identified. What is required therefore is (at ATC 4958; CLR 18-19):
``... a weighing of the various aspects of the whole set of circumstances, including direct and indirect objects and advantages which the taxpayer sought in making the outgoing. Where that is so, it is a `commonsense' or `practical' weighing of all the factors which must provide the ultimate answer. If, upon consideration of all those factors, it appears that, notwithstanding the disproportion between outgoing and income, the whole outgoing is properly to be characterised as genuinely and not colourably incurred in gaining or producing assessable income, the entire outgoing will fall within the first limb... If, however, that consideration reveals that the disproportion between outgoing and relevant assessable income is essentially to be explained by reference to the independent pursuit of some other objective and that part only of the outgoing can be characterised by reference to the actual or expected production of assessable income, apportionment of the outgoing between the pursuit of assessable income and the pursuit of that other objective will be necessary.''
For the respondent it is contended that the applicant cannot succeed because the purpose of the applicant in making the prepayment was to obtain a deduction and that the prepayment was not sufficiently contemporaneous with the gaining or producing of assessable income.
The applicant's evidence was that when he first heard of the investment it appeared fairly attractive to him. He telephoned a Mr Newton who represented the project and told him he was interested in acquiring a licence to operate two lots and a pond and was prepared to pre- pay $15,000 as licence fees and $1000 to stock the pond. Mr Newton had forwarded the documentation to him which he had duly completed and returned. He testified that the money he used for the payment had come from a payment that was paid to him when his employment was terminated in August 1986. It represented an accumulation of his entitlements over the previous eight years. He continued:
``When the termination payment came up I had to take it because I heard I was getting
ATC 4267
reduced to a lower rate which would mean all my accruals would be paid out at a lower rate. So I had to take the money and so I needed something to do with the money because in the past I haven't held onto money too well. So I wanted something that could earn me an income because I did not believe I would be working for Robe River for very much longer on the basis of all my fellow shop stewards, they'd all been sent to the grot squad or the day care squad in order to get rid of them.''
In cross-examination the applicant testified that after termination of his employment on 11 August 1986 and receipt of the lump sum payment, he had been reinstated to employment on the basis that the employment was to be continuous between 1 July 1986 to 30 June 1987. The net termination payment was banked by him upon receipt and remained earning interest until substantially paid out in June 1987 for the purposes of investment in the project.
In further cross-examination the applicant testified that he believed a tax deduction was in the package. He had not checked that out but had been told it by Mr Royce, although Mr Royce had not told him the amount of the refund. He said the taxation deduction was not the reason he went into the project. It was not true he would not have put in the whole of the $16,000 if he had thought there was any realistic prospect he would not get the deduction. However, when he made the prepayment he knew he would get a refund and expected to get a deduction for the whole amount. The deduction was not the overriding issue but was part of the package which he could not change.
The applicant further testified in cross- examination that he did not recall anyone from NQIT talking to him about a tax deduction, although there had been reference in one of the paper handouts that there was a tax deduction involved. It was Mr Royce who told him about the deductibility of the pre-payment of licence fees. He had decided to invest in the project without having received or read the agreements which he subsequently signed. By the time he received a letter from Mr Newton in which it was said that in the opinion of NQIT and in the opinion of Touche Ross and Co the licence fee was fully tax deductible, he had decided to invest. In his view the returns from the investment ``looked fairly attractive''.
In cross-examination on the 10 per cent discount of licence fees from $16,602 (if paid at yearly intervals for seven years) to $15,000 (if pre-paid for seven years) the applicant testified that he was aware he would get such a discount and considered that it was significant. He said: ``it was another advantage, but I had the money there and I wanted to put it to bed somewhere''. He further stated that if the discount wasn't there he would have invested anyway but he appreciated the fact that it was there.
On the question of his purpose in making the pre-payment the cross-examination continued:
``the main reason you made the prepayment was that you thought you would get the advantage and a full tax deduction and you would get your refund? - No. Because I didn't need a tax deduction. I could've paid it monthly but the trouble is I didn't know if I'd have a job, I wouldn't be in a position to pay it perhaps in another year or two. I may not be able - if I left Robe I wouldn't be able to get a job in industry.
...
And the big advantage of prepaying was the tax deduction and the refund? - No. The big advantage of prepaying was I had the money there and now, I could do it.''
The applicant said he considered the deduction was there whether he prepaid or paid annually but he knew he would get a full deduction for the prepayment in the relevant year and would receive a substantial refund.
In submissions for the respondent it was said that the evidence of the applicant should be seen as quite unsatisfactory and that he should be seen as a person determined to defend his position from any concessions. I do not take that view of his evidence. In my opinion the applicant in his evidence has adhered throughout to his assertion that he made the investment because he considered it was a good business proposition and he made the prepayment because he had the money available, wanted to find an investment for it and felt that he may not have the money available if he lost his employment. I do not consider that cross-examination has disclosed that the purpose of obtaining deductibility was the applicant's purpose in making the prepayment. On the contrary it appears to me to establish that the applicant perceived deductibility as a tax advantage offered by the
ATC 4268
structure of the transaction which in itself was a real business transaction underpinned by genuine commercial considerations both as to the making of the investment and, in his case, the prepayment. In short, I do not consider that cross-examination has secured for the respondent the evidence which was sought to establish the applicant's subjective purpose in making the prepayment was to secure a tax deduction.I add that my observations of the witness in the course of giving his evidence do not lead me to a contrary conclusion.
For the respondent there are a number of other aspects which are contended should lead to a contrary conclusion. The first is that the prepayment was made in late June at the end of the tax year after the funds had sat in a bank account since August 1986. In my opinion that fact is as consistent with the taxpayer, having decided to outlay funds for a real or genuine commercial purpose, doing so at a time which would secure the tax advantage offered by the structure of the transaction, as it would be with him having as his purpose the securing of the tax advantage.
For the respondent a reference was also made to other deductible investments made by the taxpayer in the relevant year. In his tax return for that year the taxpayer disclosed that he had invested the sum of $2000 in a film from which he had received $800 in the relevant year, $660 of which was tax exempt and the balance of which was assessable. In addition, the applicant claimed a deduction in the same return for an annual licence fee of $550 in respect of an investment in a pine forest scheme to which he had been introduced by Mr Royce. Each of these investments had first been made in the previous tax year. This evidence of similar facts, which arose from evidence in the applicant's case, nevertheless must be treated with all the caution appropriate to such evidence.
At best it shows that the taxpayer was alive to the claiming of a tax deduction and that Mr Royce had the securing of such a deduction in mind in advising the taxpayer. None of that is inconsistent with the applicant's evidence but it cannot resolve the central question whether in making the prepayment of a very much more significant sum of money he was primarily motivated by tax considerations or by overriding considerations of the nature of the investment and the commerciality to him of making the prepayment. Neither of these other investments involved the outlay of a sum of money in the order of the prepayment. The quantum of the prepayment, in contrast to those other investments, makes it unlikely the applicant in his particular circumstances would have risked his capital for the purpose solely of securing a refund in the relevant year.
A further factor to which attention is directed on behalf of the respondent in assessing the credibility of the applicant's position is that when the applicant made the prepayment he was employed and was employed for the whole of the relevant year. That, however, is no answer to the applicant's evidence relating to the uncertainty which hung over the continuance of his employment even following his reinstatement. There is the further question whether such uncertainty would have occasioned him to conserve his available funds rather than part with them, but conjectures concerning that cannot assist in the face of the applicant's evidence that while he had the money he wanted to make the investment by way of prepayment ``because in the past I haven't held onto money too well''.
In resolving the question of the applicant's purpose, regard must be had to the direct and indirect objects and advantages which he sought in making the outgoing: Fletcher (supra) at ATC 4957; CLR 18. In that regard it is material that the project in which the applicant sought to invest in making the prepayment was a real business transaction underpinned by genuine commercial considerations, albeit structured so as to offer tax advantages to participants:
FC of T v Lau 84 ATC 4929 at 4942; (1984) 6 FCR 202 at 219. It was the applicant's overriding objective that he wanted to invest in the project because he regarded it as a good commercial investment. For the respondent it is contended that a distinction must be drawn between the applicant's purpose in making the investment and his purpose in making the prepayment. However, it is not the case that the object of investment lacks relevance to the applicant's purpose in electing to prepay while he had the funds to enable him to secure his investment in that way.
There are cases in which deductibility has been allowed in respect of prepayments and it is to those which it is necessary to turn. In FC of T v Lau 84 ATC 4929; (1984) 6 FCR 202 the Full
ATC 4269
Court of the Federal Court dismissed an appeal against a judgment allowing as deductions outgoings in respect of payment of a management fee (for twenty one years), rental (for an invalid lease) and legal fees in respect of a scheme for the growing of pine trees. In examining whether there were considerations which cast any serious doubt upon the essentially commercial character of the transactions entered into, Beaumont J said at ATC 4942; FCR 218-219:``There is more force in the Commissioner's complaints about the prepayment. In
Commissioner of Taxation v Ilbery (1981) 58 FLR 191, a prepayment of interest was disallowed under sec. 51. It was held that the taxpayer's object in prepaying the interest was to obtain a tax advantage rather than to gain income. Two features of the case, not here present, should be noted. At the time of prepayment of interest, that taxpayer had not acquired any property from which he hoped to derive income. Further, he prepaid the interest voluntarily: he was under no obligation to accelerate the payment of interest, but elected to do so pursuant to an option granted to him in that behalf. This may be contrasted with the present case, where N.Q. was only prepared to deal with the taxpayer upon the footing that he was contractually obliged to pay the management fee in advance of performance. The taxpayer said in evidence that his preferred course was to pay the management fee by instalments rather than by a lump sum in advance. He explored the possibility of doing this but N.Q. was not prepared to treat it with him on that footing.The prepayment of a relatively large management fee may be unusual in business dealings. Against this, it can be said that N.Q. anticipated that the major development expenses would be incurred in the early stages of the project. The question is whether the prepayment of the fee is so significant as to work a transformation of the transaction from something which had a commercial objective into an arrangement which lacks any such purpose. In my opinion, the question should be answered in the negative. Although the transaction was structured so as to offer tax advantages to participants, it would be wrong to say it was not a real business transaction. The arrangements were underpinned by genuine commercial considerations and, in my view, these considerations are decisive for the purposes of the application of sec. 51 (cf
The Commissioner of Taxation of the Commonwealth of Australia v Walker (1984) 15 ATR 847).''
Turning to the factors referred to by Beaumont J, it is the case here that at the time the applicant made the prepayment he did not acquire any property from which he hoped to derive income. However, he did then acquire a contractual right to such property at a point in time to be notified to him within twelve months.
The applicant prepaid the licence fees voluntarily: he was under no obligation to accelerate the payment but elected to do so pursuant to the option granted to him in that regard. The voluntary character of the prepayment here distinguishes the facts in Lau, (supra) because the contractual obligation to prepay there made the prepayment an integral part of the commercial objective. Whether or not annual payments would have been deductible is not to the point: it is necessary to distinguish between the prepayment of the licence fee and the character that payment would have if spread over the years to which the prepayment applied:
FC of T v Ilbery 81 ATC 4661 at 4668; (1981) 38 ALR 172 at 181. However, this was not a case of the applicant moulding the transaction so as to maximise its tax advantages: Lau (supra) at ATC 4941; FCR 217. If there was no other evidence of the applicant's purpose in choosing to make the voluntary prepayment it may be open to inference that he must have done so to secure the tax advantage associated with it. Voluntary prepayment, unusual as it may be in business dealings, may not be unusual where the particular circumstances disclose a reason for prepayment independent of securing tax advantage. Once the applicant's evidence that he wanted to invest his funds while he had them is accepted, it provides a commercial purpose for the election. If that commercial objective is properly found to be established, it cannot be the case that the voluntary character of the prepayment works a transformation of the transaction from something which had a commercial objective into an arrangement which lacks any such purpose.
ATC 4270
In
FC of T v Emmakell Pty Ltd 90 ATC 4319; (1990) 22 FCR 157 the Full Court of the Federal Court followed Lau. There the taxpayer paid sums for leases and management agreements in respect of six one acre lots on which tea-trees were to be cultivated for the production of tea-tree oil. Both the leases and the management purported to commence upon execution of the documents. These leases were also invalid. The Full Court (Wilcox, Burchett and Ryan JJ) followed Lau in holding that the critical factor was what the payments had been made for. In the case of the invalid leases, this was the use of the land for the particular purpose. The Court said (at ATC 4324-4325; FCR 162):
``The question must be asked - what did the taxpayer pay for? But the answer is not concluded by what he actually got. The characterisation of a payment does not depend on its effectiveness, either economically (in the sense that it really earned a profit), or legally (in the sense that its contractual setting was valid in law).''
In the present case it cannot therefore be determinative that the applicant did not receive a right to occupy a particular pond on the making of the prepayment. It is not the future creation of the property or right which will preclude the taxpayer's expenditure from deductibility; it is the question whether the expenditure is made at such time and under such circumstances that it comes at a point in time too soon to be incidental and relevant to the earning of assessable income. The fact that the property or right needs to be created to enable the income-earning activity to commence will be a circumstance relevant to the latter question but will not itself preclude the qualification of the expenditure.
For the applicant reliance was also placed upon
FC of T v Solling; FC of T v Pepper 85 ATC 4518; (1985) 80 FLR 370. In that case Drs Solling and Pepper were successful in their claims for deductibility of four years prepayments of fees for leasing, agistment and management of sheep. The prepayment came about as the consequence of a contractual obligation resulting from the exercise of an option by the lessor to require payment in that manner. The case is distinguishable from the present case both by the absence of a voluntary payment and by the claim being made pursuant to the second limb of s 51(1). It provides no assistance to the applicant's case.
This is not a case where the making of the prepayment by the applicant is to be explained only by reference to a perceived taxation advantage: FC of T v Ilbery (supra) at ATC 4668; ALR 181. This is not a case where, as in
Ure v FC of T 81 ATC 4100; (1981) 50 FLR 219, the taxpayer was in a position to mould the entire transaction so as to maximise its tax advantages from his standpoint. Rather it is a case where both the investment and the making of the prepayment had a commercial objective although structured so as to offer tax advantages to participants. It nevertheless was a real business transaction underpinned by genuine commercial considerations which are decisive for the purposes of the application of s 51: FC of T v Lau (supra) at ATC 4942; FCR 218-219. Here the disproportion between the detriment of the outgoing and the benefit of the income is to be explained by the applicant's genuine desire in the peculiar circumstances in which he found himself to make an investment of real commerciality and to place his funds while he had them in that investment. Tax advantage was a consequence, not an objective. In my view that is the position which is arrived at after a commonsense or practical weighing of all the factors to which I have referred.
To determine whether these findings of fact concerning the applicant's purpose are decisive in giving the prepayment its character, it is necessary to examine the other circumstances of the case which, as addressed in argument, principally relate to the contemporaneity between the making of the prepayment and the gaining and production of assessable income. As Lockhart J expressed it in
FC of T v Cooper 91 ATC 4396 at 4401-4402; (1991) 29 FCR 177 at 184, the question of deductibility under s 51(1) cannot be answered simply by a process of reasoning that, because expenditure of the kind in question is a prerequisite to the earning of the taxpayer's assessable income (in the sense that it is necessary if assessable income is to be derived), it must be incidental and relevant to the derivation of income. It is also necessary that such expenditure is incurred in, or in the course of, gaining or producing the income. What is required is that the outgoing be incidental and relevant to the end of gaining and producing assessable income: Fletcher (supra) at ATC 4957; CLR 17. ``What is incidental and
ATC 4271
relevant... falls to be determined not by reference to the certainty or likelihood of the outgoing resulting in the generation of income but to its nature and character, and generally to its connexion with the operations which more directly gain or produce the assessable income'':FC of T v DP Smith 81 ATC 4114 at 4117; (1980-1981) 147 CLR 578 at 586. These principles are well settled and are not in dispute as a matter of law. What is in contention between the parties in the present appeal is the question whether the payment of the outgoing was incidental and necessary to the assessable income which it would be expected to produce; that is, whether there was the requisite connection between it and that expected income.
There are several features of the commercial arrangements established by the agreements which arguably distance the making of the prepayment from the gaining and production of assessable income. They are: (1) the provision in the licence agreement that the obligation on NQIT was to make available the pond to the applicant within twelve months of the licence agreement; (2) the commencement of the applicant's right to occupy the pond only upon advice to him of the date upon which the pond was ready for the growing and harvesting of prawns; (3) the deferment of the commencement of the pre-paid licence fees until such advice; and (4) the commencement of the obligations upon the manager only when the pond was available.
It is also well established that the reference in s 51(1) to ``the assessable income'' is not to be read as confined to assessable income actually derived in the particular tax year. It is to be construed as an abstract phrase which refers not only to assessable income derived in that or some other tax year but also to assessable income which the relevant outgoing ``would be expected to produce'': Fletcher v FC of T (supra) at ATC 4957; CLR 16;
FC of T v Finn (1961) 12 ATD 348; (1961) 106 CLR 60. For the outgoing to come within the first limb of s 51(1) it is both sufficient and necessary that the occasion for it ``should be found in whatever is productive of the assessable income or, if none be produced, would be expected to produce assessable income'':
Ronpibon Tin NL & Tongkah Compound NL v FC of T (1949) 8 ATD 431 at 436; (1949) 78 CLR 47 at 57. The prepayment of the outgoing before the object of its application is productive of income, in this case the absence of any assessable income produced by the project in the relevant year, is not therefore a determinative fact.
An outgoing will not qualify as a deduction when it comes at a point too soon to be incidental and relevant to the income-producing activity:
FC of T v Riverside Road Pty Ltd (in liq) 90 ATC 4567 at 4575; (1990) 23 FCR 305 at 313 citing
FC of T v Maddalena 71 ATC 4161 at 4163; (1971) 45 ALJR 426 at 427 and
Lodge v FC of T 72 ATC 4174; (1972) 128 CLR 171. In Maddalena the claimed expenditure on travel was incurred in getting, rather than doing, work so that it necessarily preceded the earning of assessable income or the anticipation of it. In Lodge the claimed expenditure was nursery fees in respect of an infant daughter of a solicitor for the period she worked in a solicitor's office. In the former case the expenditure was held to come too soon to be regarded as properly incurred in the gaining or production of assessable income and in the latter case it was found to be not incurred in, or in the course of, preparing her work as a solicitor even though it was an essential prerequisite to the derivation of that income. Cf FC of T v Cooper (supra) at ATC 4412-4413; FCR 198-199. In
The Griffin Coal Mining Company Limited v FC of T 89 ATC 4745 at 4761 it was held in relation to outgoings which had as their object the creation of a situation which would protect the source of assessable income (a coal sale agreement) or would remove the risk of possible destruction of the existing business by removing the threat of termination of the agreement, would be capital in nature, and would in any event be too removed from the gaining or producing of the assessable income to be able to be described ``as either incidental or relevant thereto or incurred in the actual course of production of it.'' See RW Parsons, Income Taxation in Australia (The Law Book Company Limited, 1985) at 314-317, pars 5.37-5.48.
In my opinion the prepayment is distinguishable from the claimed expenditure in both Maddalena (supra) and Lodge (supra). It was not a payment for other than the doing of the work of the project; it was not a payment to enable the project to be researched or investigated. While the payment necessarily preceded the earning of assessable income, the payment was the means of effecting the
ATC 4272
investment which was expected to produce assessable income: Fletcher (supra). However, the provision in the licence agreement that the licence fee, and hence the prepayment, ``shall commence to apply'' from the date advised by NQIT to the applicant of the commencement of the right to occupy, requires additional consideration. Until that date the prepayment does not ``commence to apply'' - it is made but its effect is deferred by agreement. Its effect being deferred, the question is can it properly be regarded as incidental and relevant to the gaining and production of assessable income. What is deferred is the commencement date for the time of seven years to run with respect to the prepayment. The nature and character of the prepayment is not deferred. That being the case I consider it cannot be said that the prepayment lacks contemporaneity with the gaining and production of assessable income. It is the prepayment which leads to that gaining and production, albeit permissibly in a later tax year.The project involves features apparently novel to the case law concerning prepayments. Nevertheless, I am unable to accept the submission for the respondent that those features result in this case being like Ilbery (supra) or Ure (supra) on the question of purpose or Maddalena (supra) or Lodge (supra) on the issue of contemporaneity.
For these reasons I would allow the ``appeal''.
THE COURT ORDERS THAT:
(1) The appeal be allowed.
(2) By consent, each party pay his own costs in the action.
This information is provided by CCH Australia Limited Link opens in new window. View the disclaimer and notice of copyright.