Regent Oil Co Ltd v. Strick (Inspector of Taxes); Regent Oil Co Ltd v Inland Revenue Commissioners

[1965] 3 All ER 174

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(Judgment by: Lord Upjohn)

Between:
And:

Court:

Judges: Lord Reid
Lord Morris of Borth-Y-Gest
Lord Pearce

Lord UpjohnLord Wilberforce

Subject References:
TAXATION
Deduction in computing profits
INCOME TAX
Deduction in computing profits
Capital expenditure
Premiums on grant of leases
Oil company
Tied service stations
Lease of premises to oil company for premium
Sub-lease back to proprietor at nominal rent
Covenants binding proprietor to use company's oil
Deductibility of premium in computing company's profits
PROFITS TAX
Computation of profits
Deduction
Capital expenditure
Premiums on grant of leases
Oil company
Tied service stations
Lease of premises to oil company for premium
Sub-lease back to proprietor at nominal rent
Covenants binding proprietor to use company's oil
Deductibility of premium in computing company's profits

Legislative References:
Income Tax Act, 1952 (15 & 16 Geo 6 & 1 Eliz 2. c 10) - s 137(f)

Case References:
Addie (Robert) & Sons' Collieries Ltd v Inland Revenue Comrs - [1924] SC 231; 8 Tax Cas 671; 28 Digest (Repl) 125, 348
Anglo-Persian Oil Co v Dale - [1931] All ER Rep 725; [1932] 1 KB 124; 100 LJKB 504; 145 LT 529; 16 Tax Cas 253; 28 Digest (Repl) 117, 449
Bolam (Inspector of Taxes) v Regent Oil Co Ltd - (1956) 37 Tax Cas 56; 28 Digest (Repl) 124, 479
British Insulated and Helsby Cables v Atherton - [1925] All ER Rep 623; [1926] AC 205; 95 LJKB 336; 134 LT 289; 28 Digest (Repl) 133, 499
Collins v Adamson (Joseph) & Co Adamson (Joseph) & Co v Collins - [1937] 4 All ER 236; [1938] 1 KB 477; 107 LJKB 121; 21 Tax Cas 400; 28 Digest (Repl) 120 463
Comr of Taxes v Nchanga Consolidated Copper Mines Ltd - [1964] 1 All ER 208; [1964] AC 948; [1964] 2 WLR 339
Inland Revenue Comrs v British Salmson Aero Engines Ltd, British Salmson Aero Engines v Inland Revenue Comrs - [1938] 3 All ER 283; [1938] 2 KB 482; 107 LJKB 648; 159 LT 147; 22 Tax Cas 29; 28 Digest (Repl) 120, 461
Inland Revenue Comrs v Coia - [1959] SC 89; 38 Tax Cas 334; 3rd Digest Supp
Kauri Timber Co Ltd v Taxes Comr - [1913] AC 771; 109 LT 22; 28 Digest (Repl) 114, 330
Knight (Inspector of Taxes) v Calder Grove Estates - (1954) 35 Tax Cas 447; 28 Digest (Repl) 58, 225
MacTaggart (Inspector of Taxes) v Strump - [1925] SC 599; 10 Tax Cas 17; 28 Digest (Repl) 126, 367
Hallstroms Proprietary v Federal Comr of Taxation - (1946) 72 CLR 634
Henriksen v Grafton Hotel Ltd - [1942] 1 All ER 678; [1942] 2 KB 184; 111 LJKB 497; 167 LT 39; 24 Tax Cas 453; 28 Digest (Repl) 116, 437
Hinton v Maden & Ireland Ltd - [1959] 3 All ER 356; [1959] 1 WLR 875; 38 Tax Cas 391; 52 R & IT 688
Inland Revenue Comrs v Adam - [1928] SC 738; 14 Tax Cas 34; 28 Digest (Repl) 126, 370
New State Areas v Comr for Inland Revenue - [1946] SALR 610
Ounsworth v Vickers Ltd - [1915] 3 KB 267; 84 LJKB 2036; 113 LT 865; 6 Tax Cas 671; 28 Digest (Repl) 118, 454
Rhodesia Railways v Bechuanaland Protectorate, Resident Comr & Treasurer - [1933] AC 362; 102 LJPC 62; 149 LT 1; 28 Digest (Repl) 405, 907
Roke (HJ) Ltd v Inland Revenue Comrs, Inland Revenue Comrs v Rorke (HJ) Ltd - [1960] 3 All ER 359; [1960] 1 WLR 1132; 39 Tax Cas 194
Smith (John) & Son v Moore - [1921] 2 AC 13; 90 LJPC 149; 125 LT 481; 12 Tax Cas 266; 28 Digest (Repl) 421, 1860
Stow Bardolph Gravel Co v Poole - [1954] 3 All ER 637; [1954] 1 WLR 1503; 35 Tax Cas 459; 28 Digest (Repl) 123, 476
Sun Newspapers Ltd v Federal Comr of Taxation - (1938) 61 CLR 337
United Steel Companies Ltd v Cullington (Inspector of Taxes) (No 1) - (1939) 162 LT 23; 23 Tax Cas 71; 28 Digest (Repl) 29, 129
Usher's Wiltshire Brewery Ltd v Bruce - [1915] AC 433; 84 LJKB 417; 112 LT 651; 6 Tax Cas 399; 28 Digest (Repl) 77, 293
Vallambrosa Rubber Co Ltd v Farmer (Surveyor of Taxes) - [1910] SC 519; 5 Tax Cas 529; 28 Digest (Repl) 105, 281
Van den Berghs v Clark - [1935] All ER Rep 874; [1935] AC 431; 104 LJKB 345; 153 LT 171; 19 Tax Cas 390; 28 Digest (Repl) 117, 450
Whimster & Co v Inland Revenue Comrs - [1926] SC 20; 12 Tax Cas 813; 28 Digest (Repl) 424, 944
Yarmouth v France - (1887) 19 QBD 647; 57 LJQB 7; 34 Digest (Repl) 299, 2159

Hearing date: 15, 16, 17, 21, 22 and 23 June 1965
Judgment date: 27 July 1965

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Judgment by:
Lord Upjohn

My Lords, the relevant facts are set out fully in the Case Stated and in the judgments in the courts below ( [1964] 1 All ER 585 at first instance; [1964] 3 All ER 23 in the Court of Appeal) and it is unnecessary for me to say more than a few words as a background to my judgment.

Ever since the war there has been intense competition between the importers and suppliers of petrol in this country. From 1951 onwards a system of trading has grown up, so that it is now admitted to be a custom of the trade, whereby each of the great oil companies supplies to garage proprietors supplying the public exclusively its own brand of petrol and in return the garage proprietor (to whom I will refer as the dealer) undertakes to buy all his petrol requirements from that particular supplier. This is known in England as the exclusivity system, and in Australia as the solo site system. So intense is the competition between suppliers that the dealers have the whip hand, in that post-war unusual thing, a strong buyer's market. The suppliers have to pay the dealers sums of money in order to persuade them to take their own particular petrol exclusively in preference to that of their competitors. This has developed over the years and the history of the matter is set out fully in the judgment of Lord Denning MR ([1964] 3 All ER at p 25) and I do not propose to repeat it.

For the relevant years of assessment, 1957-58 and 1960-61, this stage had been reached. The taxpayers, to whom I will refer as Regent, were supplying petrol to rather over 4,500 stations of which some ninety per cent were tied exclusively to Regent. Of this ninety per cent or roughly speaking four thousand, there were but four dealers who were tied to take Regent's petrol exclusively by means of a transaction known as lease and sub-lease, ^[F5] which I shall have to examine in a little detail later. All the rest were bound by what I may describe as long-term trading agreements, that is to say, Regent paid to the dealer a lump-sum down on the terms that he would buy his petrol requirements exclusively from Regent for a term of years. This term varied from three to ten or more years, but on the average seems to have been about five years. These ties were no more than long-term trading agreements and Danckwerts J had decided in Bolam's case that the limp sums paid by Regent in respect of those agreements were trading expenses of a revenue nature which were deductible in ascertaining Regent's profits for the year. The correctness of the decision in Bolam's case was not challenged by the Crown before your lordships.

The lease-sub-lease method of tie may be explained by taking one example from the Case Stated, that of Green Ace Motors Ltd. This arrangement was made by two documents, admittedly all part of one transaction. The first document was a lease dated 11 June 1956, between Green Ace Motors referred to as the dealer of the one part and Regent of the other part, whereby the dealer, in consideration of the sum of £5,000 then paid by Regent, demised to Regent the dealer's garage premises at Ipswich for a term of ten years at the nominal rent of £1 per annum. Regent entered into a number of covenants usual in a lease. The second document of the same date was a sub-lease made between Regent on the one part and the dealer of the other part, whereby Regent in consideration of the rent reserved and of the dealer's covenants demised to the dealer the garage premises for the terms of ten years less three days at a rent of £1 per annum. The dealer entered into a number of covenants usual in a lease and in addition a number of special covenants to continue to carry on on the premises the business of a dealer, to have Regent's brands of motor fuel available at all reasonable times so long as Regent were willing and able to supply him with fuel, to purchase its total requirements of motor fuel from the company, and not sell any motor fuel supplied by any other company from those premises or any adjoining premises owned or occupied by the dealer. The dealer also entered into certain covenants with regard to advertising Regent's products on the premises. There was the usual proviso for re-entry on breach of any covenant. It was an essential part of this agreement and a circumstance strongly relied on by counsel for Regent that the sum of £5,000 was calculated by reference to the gallonage which it was expected would be sold at the station during the currency of the sub-lease. At the date of that transaction the petrol suppliers were in general granting a rebate of a penny a gallon for exclusive rights and the sum of £5,000 was based on an anticipated sale of 1,200,000 gallons at the station during the period of the sub-lease. By a supplemental agreement it was provided that if the dealer did not sell as much he would not have to repay anything, but if more was sold he would get an extra penny per gallon on the extra amounts sold.

It is only with the four lease-sub-lease transactions that this appeal is concerned and it will be convenient if I set them out.

There were differences of detail between these transactions which are examined fully in the Case Stated but these differences are immaterial; the premium was in every case calculated according to gallonage anticipated to be sold during the period of the tie. The transaction with Mr Murphy was a little different; he owned a number of sites in South-east London where he was proposing to build petrol sites. He covenanted to build petrol stations on these sites; this circumstance, however, has not been treated in argument as relevant to the question of capital or income. The Murphy case I have stated above was typical of a number ^[F6] of lease-sub-lease transactions between Mr Murphy and Regent which were carried out at about this time (1959) between a number of subsidiary companies promoted by Mr Murphy and Regent.

Why was this new form of transaction invented in these few cases? For the simple reason, as appears quite clearly from the Case Stated, that these particular dealers were not content to receive lump sums under the Bolam case form of trading agreement which had been decided to be deductible expenses in the hands of Regent and might, therefore, have to be treated as trading receipts of a revenue character in the hands of the dealer. We were referred to a number of authorities on the taxable character of the receipt; they are not entirely satisfactory and it is not necessary to review them. So strong was the position of the dealers, however, that they could insist that the lump sum to be received by them should be received in a form which they believed would clearly be non-taxable; that is a premium for the grant of a lease, and Regent reluctantly accepted this type of transaction.

It was fundamental to counsel's argument on behalf of Regent that these transactions, although taking the form of lease and sub-lease, were in fact nothing more than a continuation of the ordinary trading methods common to the trade, and it was said that these premiums paid on the execution of each lease were nothing more than ordinary marketing costs incidental to the ordinary operation of day-to-day selling of Regent's petrol. He submitted that the lease procedure where the premium was tied arithmetically to anticipated gallonage was no more than a vehicle to provide for payment to the dealer of sums analogous to a rebate on the price which the dealer would in any event obtain for exclusivity. He submitted that Regent had no interest in obtaining an interest in land and that the three days reversion at the expiry of each sub-lease was purely nominal. He therefore invited your lordships to say that this lease and sub-lease procedure was no more than a cloak which must be pierced, when it would be found that the true nature of the transaction was no more than a perfectly ordinary trading arrangement which provided a rebate over a long trading period. He submitted that it mattered not whether the tie was for three months or twenty years. That was only a measure to fix the premium by an arithmetical calculation to work off the rebate estimated on the anticipated gallonage over the agreed trading period.

My lords, I am quite unable to accept these submissions. No one has suggested that the transaction of lease and sub-lease was a sham. It was a real transaction representing the realities of the situation which, in this buyer's market, some tough dealers were able to expand, Regent in Regent's anxiety to maintain, and no doubt if possible to expand, Regent's sales of petrol in this country. Pausing there, I may add parenthetically that I cannot see any conceivable difference for any relevant purpose from an anxiety merely to preserve and maintain Regent's share of sales of petrol in this country and an anxiety to increase their sales if possible. It is all part of the fight to remain in the market. These transactions were not a mere cloak for a trading operation. Of course, in a sense the whole operation was intended to promote trade because Regent realised that exclusivity was the only way of remaining in the market and they must give a corresponding consideration to a dealer who was willing to buy exclusively the products of Regent for a period. So in the end both parties had their eyes solely on trade; but that does not entitle the court to disregard the agreements that the parties have made with a view to carrying out their arrangements, and it is impossible to disregard the four leases and to dismiss them as a mere cloak. It was not merely a matter of form. These transactions were as a matter of substance and reality forced on Regent to their regret by these few tough dealers as the price of the exclusive tie. It is therefore necessary to examine those transactions to see whether Regent are entitled to succeed in their claim that these lump sum payments were in fact in the nature of a revenue expenditure being really in the nature of rebates.

My lords, in the field of real property in relation to taxation certain matters are so fundamental as now to be axiomatic. Thus in cases other than those where a man is a property dealer, so that property is his stock-in-trade, it is quite clear that the purchase of a fee simple for a purchase price by a trader is the acquisition of property for the purposes of trade and the purchase cannot be regarded as a cost of carrying on the trade; it is therefore capital. This is so though the trader may desire to acquire the property for the purpose of providing himself with circulating capital by mining operations on the property acquired even if he is intending to acquire the property only for a short time, see Knight (Inspector of Taxes) v Calder Grove Estates. Exactly the same principle applies if the purchase price is payable by instalments spread over a period; it is a capital payment. But if the trader acquires a property on lease and pays a rent reserved by that lease that rent is not regarded as merely the acquisition of property de die in diem , but as payment for the use of property and the rent therefore is treated as a revenue expenditure and is deductible for purposes of tax. If in Knight (Inspector of Taxes) v Calder Grove Estates the trader had leased the property for a dead rent and royalty, that rent and royalty would have been deductible as a revenue outgoing. This is as well settled as anything in the law of taxation; but it frequently happens that the trader, anxious to acquire a leasehold property, has to pay a premium for the acquisition of a lease or possibly on renewal of a lease on its expiry; there can be no difference between the two situations. In such a case it is quite clear that the payment of a premium is regarded as the cost of acquiring the property for the purposes of the trade and not as part of the carrying on of the trade, and hence the premium, although paid for a property of a wasting character, is capital. If authority for that elementary proposition is required it is to be found in the Scottish case of MacTaggart (Inspector of Taxes) v Strump. There is no magic in the use of the word "premium"; it merely means a lump sum paid as a consideration for the acquisition of the lease. So also, if the premium or lump sum is paid by instalments spread over the term of the lease, it still remains of a capital nature; it may be very difficult as a practical matter in a particular case to ascertain whether, on the true construction of the document, such periodical payments are rent or payment of a lump sum by instalments, but once that question has been answered the distinction is clear. If it is a premium, that is to say, a lump sum payable by instalments it is capital. If it is rent or royalty it is an outgoing deductible for the purposes of tax.

My lords, having stated those elementary propositions, which it is not possible to doubt, then the problem in this case is clearly answered. It is plain that the premium or lump sum paid by Regent in order to acquire the lease is a lump sum payment for the acquisition of an asset for the purpose of carrying on a trade thereon and is therefore capital. With all respect to the argument that the three days reversion gave to Regent only a nominal interest in the land which could really be ignored, this entirely overlooks the point that the nominal reversion (valueless, of course, as enjoyment of the land for three days) gave the most valuable advantage to Regent because the transaction made them the immediate lessor of the dealer. That fact gave Regent very substantial advantages which it would not have acquired under the ordinary contract of the Bolam ^[F7] type, though no doubt those advantages were, as a matter of finance, outweighed by the consideration that there was a grave risk that the premium might be considered to be capital and not deductible for the purposes of tax. The countervailing advantages were, of course, that Regent throughout the term of the lease were in a much better position to enforce the covenants in the lease than if the matter had merely rested in contract. For example, had the matter remained in contract it might have been possible for a distributor to go out of business in breach of contract and to dispose of his garage to an innocent purchaser, and then Regent would be left with no more than a possibly arid claim for damages against the dealer. As a lessor under the lease Regent were under no such difficulty. Regent could at once re-enter subject always to giving proper notices under s 146 of the Law of Property Act, 1925.

My lords, as I understand their judgments Pennycuick J ([1964] 1 All ER at p 587), and Danckwerts, and Diplock LJJ ([1964] 3 All ER at pp 28), reached the same conclusion solely on the ground that the premium was a lump sum payment for the acquisition of a lease. I do not think that Diplock LJ ([1964] 3 All ER at p 28), was making any alternative finding. I think he was only criticising, and if I may say so, rightly criticising, the mistaken findings of the commissioners. Lord Denning MR decided the case on the same ground, but he also decided it on an alternative ground. He said ([1964] 3 All ER at p 26) that, even if one looked at the transaction in a business sense, one got the same result, and he then posed a case where Regent said to the owner of the piece of land that they would pay £5,000 for the exclusive right to sell petrol for five or ten or twenty-one years. That payment, Lord Denning thought, would be clearly capital, and he thought that it could make no difference if the payment was for exclusivity by the dealer. My lords, in view of that statement and of the elaborate arguments that have been addressed to your lordships I propose now to examine the situation on the footing that there was no transaction of lease and sub-lease in these four cases, but that they were ordinary trading contracts for the considerations and for the term of years which I have set out earlier in this judgment, the dealer agreeing to buy all his petrol requirements during the term from Regent and no other. Would such payments be lump sum payments of a capital nature, as Lord Denning clearly thought that they would be, or would they be trading expenses, having regard to the custom of the trade to enter into these long-term contracts to preserve and maintain their trading position and to the fact that the lump sums were arithmetically calculated by reference to anticipated gallonage?

I suppose that no part of our law of taxation presents such almost insoluble conundrums as the decision whether a receipt or outgoing is capital or income for tax purposes. Parliament wisely has never given any general statutory guidance in this matter. It has been content to leave the determination of these difficult matters to the common sense of the tribunals and judges before whom these matters are brought. Naturally, therefore, many judicial decisions were cited to your lordship; so many of them so far removed from the facts of this case that I can gain no assistance from them and shall not discuss them, apart from three which I shall mention presently. I only desire to say that I regard the decision in Henriksen v Grafton Hotel Ltd as a very special case, a decision which if it can be supported at all can be justified solely on its own particular facts within the realm of licensing laws. Of the cases which I must discuss, the first in point of time is British Insulated and Helsby Cables Ltd v Atherton where Viscount Cave LC ([1925] All ER Rep at p 629; [1926] AC at p 213), made his celebrated statement that if an asset or an advantage is brought into existence "for the enduring benefit of a trade ... there is very good reason ... for treating such an expenditure as properly attributable ... to capital". In many cases this will be a valuable criterion, but it does not help in this case for it only invites the further question, how long does it take to be an "enduring benefit" if you are dealing with a purely long-term trading agreement? I am sure that Lord Cave, when he made these observations, did not have in mind anything in the nature of a long-term trading agreement. Therefore, I gain no real assistance from that case.

The next case in point of time is the Australian case of Sun Newspapers, Ltd V Federal Comr of Taxation where Dixon J sitting in the High Court of Australia ((1938), 61 CLR at p 359) had some very useful observations to make on this general question. That, however, was a very different case; the question there was whether a large sum paid out to stifle competition was capital or income, and it is not surprising that it was held to be capital, and I cannot for my part obtain much help from those observations in the very different circumstances of this case.

Finally, Viscount Radcliffe in Comr of Taxes v Nchanga Consolidated Copper Mines Ltd ([1964] 1 All ER at p 212; [1964] AC at p 960) selected, as probably the most illuminating line of demarcation, that between the cost of creating acquiring or enlarging the permanent structure of which income was to be the fruit and the cost of earning that income itself.

This brings me at once to the argument addressed to your lordships on behalf of the Crown, when it was submitted that the contract for the exclusive supply of petrol for a term of years was a chose in action creating a right which, provided it lasted for more than an annual accounting period, was necessarily part of the permanent profit-making structure and, therefore, capital, while the exercise of the right thereby granted to supply petrol was part of the income-earning activities of Regent. When dealing with tangible assets the distinction between the profit earning structure and those cost of earning the income may not be difficult to draw. It becomes very difficult when dealing with a purely commercial contract, and I do not think it useful to endeavour to dissect such a contract in this manner for the purpose of tax; that is too artificial an operation and is divorced from the realities of the situation. I do not for one moment think that these long-term trading contracts can possibly be described as part of the profit-earning structure of Regent. But that does not mean that it necessarily follows that the lump sums paid under that contract are necessarily to be regarded as the expenses of carrying on the trade; it merely means that I do not think that the demarcation suggested by Lord Radcliffe in the Nchanga case ([1964] 1 All ER at p 212; [1964] AC at p 960) is of assistance in the completely different circumstances of this case.

How, then, is this problem to be solved? My lords, there is one matter on which counsel on both sides are agreed. That it is the duty of the court to consider every relevant fact, giving it its due weight, and then to reach a conclusion on the whole matter. I cannot but recall the observations of Sir Wilfrid Greene MR in Inland Revenue Comrs v British Salmson Aero Engines Ltd ( [1938] 3 All ER 283 at p 289; [1938] 2 KB 482 at p 498) where he said:

"There have been many cases which fall on the borderline. Indeed, in many cases it is almost true to say that the spin of a coin would decide the matter almost as satisfactorily as would an attempt to find reasons."

Somewhat cynical but true. It is a question of fact and degree and above all judicial common sense in all the circumstances of the case and, while no one regrets it more than I, I do not believe that it is possible to lay down any principle, when dealing with trading contracts, which would be of any guidance alike to Crown and subject in future cases.

I certainly approach the problem with this in mind, that in modern conditions trading contracts become more and more complicated, and those responsible for the affairs of large companies have to look much further into the future and to plan for the future in a way unthought of years ago. A company may reasonably require and be prepared to pay for secured outlets for its products for some years ahead, especially when dealing with a product like oil which costs so much to extract, transport and refine. Another company executing a long contract to supply a number of complicated machines, eg, aeroplanes, may want to assure itself of a constant supply of some vital component and be prepared to pay some supplier a lump sum to assure that supply. Such payments are not lightly to be held to be capital.

The amount of the payment and the length of the tie, however, are important elements among all the other relevant facts. I part company at once with the submissions of counsel on both sides on the one hand that a lump sum payment for a tie for more than an annual accounting period is necessarily capital and, on the other, that the length of the tie is utterly immaterial save as a factor in calculating the anticipated gallonage and so the amount of the lump sum payment. The lump sum payments here are large; but one must not attribute to that too much importance, because after all the lump sum payment is calculated on the basis that it represents no more than one penny per gallon on the expected sales over the length of the tie. So I approach this matter as one of judicial common sense and I start with the case of Murphy; it seems to me that to pay substantial sums for a tie for as long as twenty-one years is quite plainly, as a matter of common sense, a tie which must be described as of a capital nature so that the sums paid under the Murphy agreements must be regarded as capital. So, too, must be the sum of £10,416 paid under the agreement for the Stadium Motor Works, Belfast, for a tie of a similar length.

On the other hand, one has the agreement with CV Clapp Ltd for a payment of a sum for five years. The sum, of course, is much less, as is the tie, but I would think that the length of the tie plainly puts it into the character of a merely long term trading contract, and this would have been an ordinary trading expense deductible for tax had it not been for the fact that the company was able to drive a hard bargain with Regent to ensure that it was capital. The interesting case, of course, is that of Green Ace Motors where the tie was for ten years for payment of a sum of £5,000. This is a borderline case and I shall say no more about it than that I think that it was very wise of that company also to drive a hard bargain with Regent which quite plainly made the sum a capital sum.

I would dismiss these appeals.