Bendix Consolidated Industries Ltd. v. Federal Commissioner of Taxation.

Judges:
Kaye J

Court:
Supreme Court of Victoria

Judgment date: Judgment handed down 17 November 1982.

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Kaye J.

Bendix Consolidated Industries Ltd., which is commonly known as ``Bendix'', appeals against disallowances by the Commissioner of Taxation of its objections to assessments of tax for income derived by the company during the years 1973, 1974, 1975, 1976 and 1977. At the outset of the hearing, Bendix abandoned its appeal in relation to the 1973 year of income.

During those years Bendix traded profitably as a furniture manufacturer and distributor under the business name of ``Bendix Furniture''. It was one of number of interrelated companies. Some of the items of expenditure of Bendix disallowed by the Commissioner arose out of its activities in association with those companies. Fifty-one per cent of the share capital of Bendix was owned by Automotive General Industries Ltd., known as ``Autogen'', the shares of which were owned by J.N.F. Pty. Ltd. Through ownership by him and his wife of the share capital of J.N.F. Pty. Ltd., Joseph Guss controlled both Autogen and Bendix and their subsidiary companies. The latter companies included General Mutual Insurance Co. Ltd. (G.M.I.) and Motorists' Mutual Insurance Co. Ltd. (M.M.I.).

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Autogen owned 88 per cent of the share capital of G.M.I., which carried on business as a general insurer. G.M.I. owned 100 per cent of the share capital of M.M.I., which until the latter half of 1973 underwrote motor vehicle insurance.

Mr. Guss was the Chairman of Directors of all those companies.

In April, 1973 Autogen's scrip of Bendix shares was held by the Commercial Bank of Australia Ltd. as security for financial accommodation provided by the bank to G.M.I. Shortly after 27 April, 1973 Autogen sold its Bendix shares to G.M.I.

From time to time after June, 1973 Autogen, with funds totalling between $450,000 and $500,000 which it borrowed from Tricontinental Corporation Ltd., purchased Bendix shares through brokers. In accordance with a deed of mortgage and as security for moneys borrowed, Autogen deposited with Tricontinental its Bendix scrip.

In December, 1972 M.M.I.'s trading losses were approximately $600,000. At that time Messrs. Irish, Young & Outhwaite, the then auditors for the Bendix group, expressed to Mr. Guss their opinion that M.M.I. should not continue to trade as an insurer unless a substantial amount of additional capital were injected into the company. The auditors' advice went unheeded; M.M.I. continued trading for a further period of approximately six months. In early January, 1973 the Registrar of Companies informed Mr. Guss that unless a substantial amount of capital were introduced into M.M.I., an Inspector would be appointed. Additional capital, however, was not then provided for M.M.I.

On 23 January, 1973 Mr. R.C. Tadgell of Counsel (as his Honour then was) was appointed Inspector under Pt. VIA of the Companies Act 1961 to investigate the affairs of M.M.I., and a month later he was similarly appointed as Inspector of G.M.I. From time to time thereafter Mr. Guss presented himself before the Inspector, by whom he was examined concerning the affairs of the companies.

Both before and during the period under consideration, the business operations of G.M.I. in Perth included the underwriting of general insurance for unions associated with the Western Australian Trades and Labor Council as well as for union members. The large volume of business which was underwritten in Western Australia encouraged G.M.I. to commence transacting similar insurance with the Victorian trade unions and the Victorian branch of the Australian Labor Party. Subsequently, Mr. Guss held discussions with Mr. R.J. Hawke, the then President of the Australian Council of Trade Unions. As a result of their discussions, in a letter dated 11 May, 1973 to Mr. Hawke, Mr. Guss set out his proposal described as the ``A.C.T.U. Insurance Scheme'', by which the A.C.T.U. and a separate division of G.M.I. would form the ``Australian Union Insurance'' for the purpose of underwriting all classes of general insurance for unions and their members at premiums competitive with the general market. The proposal provided, inter alia, that at an opportune time in the future a separate company would be incorporated, to which the business of the ``Australian Union Insurance'' would be transferred, with the A.C.T.U. and G.M.I. each holding 50 per cent of the share capital, and that the A.C.T.U. would have an option to acquire from G.M.I. further shares, out of its share of the profits, so enabling it to hold eventually 75 per cent of the capital of the new company. This part of the proposal relating to the incorporation of the ``Australian Union Insurance'' was referred to by Mr. Guss as ``the grand scheme''. It was envisaged by Mr. Guss that the new company would underwrite insurance for statutory corporations such as Qantas and the Victorian Railways. At the invitation of Mr. Hawke, Mr. Guss attended a meeting of the A.C.T.U. which he addressed, explaining his proposal. Later during the afternoon of the same day, Mr. Hawke informed Mr. Guss that the A.C.T.U. had accepted his proposal, which, at a press conference held on the same day, was announced by Mr. Hawke.

During the evening of a day or so later, Mr. Hawke telephoned Mr. Guss. He then told Mr. Guss that newspaper reporters had raised with him the question of an Inspector having been appointed to G.M.I. and that he could not recall mention having been made during their discussions of investigation of the company's affairs by an Inspector. Mr.

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Guss sought to assure Mr. Hawke that he had told him about the Inspector. After further brief discussion concerning the matter, Mr. Hawke said that the newspaper reporters were tending to embarrass him. Mr. Hawke informed Mr. Guss that he wished the proposal to proceed but that it ought to be put into limbo until the Inspector had completed his task. He added that they could talk further about the proposal ``as matters progressed''. Thereafter no further conversation between Mr. Hawke and Mr. Guss took place, although Mr. Guss spoke about the proposal with others whom he did not identify.

The annual accounts of G.M.I. for the year ended 30 June, 1972 were prepared by members of the company's staff with the assistance of its auditors. The Profit and Loss Account recorded a net loss of $203,000 and accumulated losses of $357,000. In the Balance Sheet the value of shares in subsidiary companies was stated to be $150,005 at cost and the value of leasehold lands and buildings as $355,800. The subsidiary companies referred to were M.M.I. and Canberra Insurance Company Ltd., a non-trading company with paid-up capital of $5. For an extended period of time, Mr. Guss and the auditors discussed the qualification which the auditors proposed to make to the annual accounts, failing to agree upon its ultimate form. On 8 August, 1973 the auditors signed the 1972 accounts with qualifications that the shares in the subsidiary companies had no value and that no provision had been made for any loss of value of the leasehold interest.

In September 1973, while attending a Reinsurers' conference in Monte Carlo, Mr. Guss discussed with brokers arrangements for reinsurance facilities of the A.C.T.U. proposal.

During the latter half of 1973, as a result of matters discussed when attending him, Mr. Guss became concerned that the Inspector might report adversely on the affairs of G.M.I. and M.M.I., thereby creating a risk that the companies would be subject to winding up proceedings. To avert an adverse report and the risk of the companies being wound up, Mr. Guss devised a plan whereby Bendix would introduce capital into either G.M.I. or M.M.I. and at the same time take advantage of M.M.I.'s accumulated trading losses. On behalf of Bendix, he sought the advice of Mr. P.J. Brusey Q.C. concerning questions which counsel expressed in his opinion dated 21 November as follows:

``... whether the losses of G.M.I. would be allowable if Bendix were to acquire the issued capital of G.M.I. or M.M.I. and if profitable operations now conducted in Bendix were, under an agreement, conducted in M.M.I. so as to absorb losses.''

Mr. Brusey advised that, because benefits under sec. 80A(1) of the Income Tax Assessment Act would be lost if M.M.I. were purchased from G.M.I., Bendix should acquire G.M.I.

On the same day Mr. Guss attended the Inspector for purposes which the Inspector described as stating his proposal for the future conduct of G.M.I.'s business and for reorganisation of its structure. Mr. Guss then informed the Inspector that it was proposed that 100 per cent of the share capital of G.M.I. would be acquired by Bendix and as a consequence M.M.I. would become a subsidiary of Bendix. He stated that M.M.I. then had tax losses of $400,000 to $500,000 available for recoupment and that Mr. Brusey had advised that, by the acquisition of shares in G.M.I., Bendix would be enabled to obtain the full benefit of the M.M.I. tax losses. He disclosed that Bendix had budgeted for a substantial profit for the then current year, for which the Commissioner of Taxation had declared Bendix a private company for taxation purposes. In his remarks to the Inspector, Mr. Guss also said:

``A matter of natural concern is the current investigation into G.M.I. and M.M.I., and I strongly feel that if those investigations could be concluded, I hope upon the basis that with completion of the above proposed steps that no adverse report would result, that the interests of all concerned would be best achieved and that a sound base for the future operations of G.M.I. are established.''

Following his announcement to the Inspector concerning the future of the two subsidiary companies, Mr. Guss procured

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valuations of G.M.I. shares from E.S. Knight & Company, Consulting Actuaries, and Nelson Wheeler, Chartered Accountants. Those valuations were provided in two documents dated 21 December, 1973. At a meeting of the Board of Directors of Bendix held on 24 December, 1973 it was resolved that the common seal of the company should be affixed to an agreement whereby Bendix would purchase from Autogen the whole of the share capital of G.M.I. for the sum of $350,000, and that Bendix would apply for the issue of 400,000 ordinary shares of $1 each in the share capital of G.M.I. for the sum of $400,000. It was further resolved to affix the company's seal to an agreement made between Bendix and M.M.I. for the purchase by M.M.I. of ``Bendix Furniture'' for the sum of $700,000, subject to certain adjustments. It was noted that M.M.I. would transfer its insurance assets and liabilities to G.M.I.

As a result of a further resolution made at the same meeting, Bendix provided to the Commercial Bank of Australia Ltd. a guarantee for moneys not exceeding $175,000 advanced by the bank of G.M.I. In accordance with those resolutions, Bendix, by a round robin of cheques passing between it, Autogen, G.M.I. and M.M.I., acquired the whole of the issued capital of G.M.I., and G.M.I. issued to Bendix 300,000 redeemable preference shares. The result of the cheque movements was that Bendix held 850,000 ordinary shares and 300,000 redeemable preference shares in G.M.I., and it gained access to the tax losses of M.M.I. M.M.I. then commenced to carry on the business of ``Bendix Furniture'' from premises occupied by Bendix and with the latter's employees, in the same manner as it had been hitherto.

On or about 13 March, 1974 the Inspector's report was published. On 24 May, 1974 Menhennitt J., on the Attorney-General's petition, ordered that G.M.I. and M.M.I. be wound up. As a result of the Court orders, Bendix shares in G.M.I. became worthless and Bendix claimed that it thereby lost $750,000. Some time after 30 June, 1974 Bendix received a written demand from the bank for payment of $175,000 under the terms of the guarantee.

The foregoing facts constituted the background events and transactions relating to these several appeals, to the particulars of which I now turn.

1974 Return

In a Summary for Taxation which accompanied its income tax return for the year ended 30 June, 1974, Bendix claimed as expenditures two items which it described in the following terms:

      ``Holiday pay accrual
        30 June, 1973 ................    $28,229
      Cost of investment in
        General Mutual Insurance
        Co. Ltd. .....................   $750,000''
        

Among items of claimed expenditure disallowed by a notice given in an adjustment sheet which accompanied the notice of assessment dated 28 February, 1976 was the amount of $750,000 costs of G.M.I. investment. Contemporaneously with the notice of assessment the Commissioner requested in a typed form information concerning the amount of holiday pay accrual as at 30 June, 1974. Bendix returned the form with the sum of $41,862.11 recorded in answer to the question. It was agreed by counsel, however, that this amount was incorrect, and that the correct amount should have been $28,229.

By notice of objection, to which I shall refer as ``the first notice'', Bendix objected to the disallowance of its claim in respect of $750,000 on the ground that the shares in G.M.I. acquired by it by purchase and allotment were acquired for the purpose of profit-making by sale, or alternatively in the course of or for the purpose of or carrying on a profit-making undertaking or scheme. Bendix also claimed a further deduction of $175,000 being the amount payable by it to the bank under the guarantee. It would seem that the latter sum was inadvertently omitted by Bendix when making its 1974 return of income.

The claim for $750,000 as an allowable deduction was made under the provisions of sec. 52 of the Act. The provisions of this section, which relate to particular forms of allowable deductions, are the counterpart of those of sec. 26(a), which are concerned with circumstances in which profit constitutes assessable income. The decision whether a loss incurred from a profit-making transaction falls within sec. 52 depends upon

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whether the transaction was one of the forms therein referred to. Those forms are the same as the ones provided for in sec. 26(a). What distinguishes a profit-making transaction with which sec. 26(a) is concerned from other transactions from which profit may be derived is now settled by authority. The essential differentia of a transaction falling within sec. 26(a) is its commercial or trading characteristic; see
Pascoe v. F.C. of T. (1956) 11 A.T.D. 108 at p. 112 per Fullagar J. and
Steinberg & Ors. v. F.C. of T. 75 ATC 4221 at p. 4225; (1972-1975) 134 C.L.R. 640 at p. 682 per Barwick C.J. It is recognised that the provisions of sec. 26(a) contain two limbs under which profit acquired from a transaction constitutes assessable income. The first limb is directed to profit arising from the sale by a taxpayer of any property acquired by him for the purpose of profit-making by a sale. To fall within this limb, the dominant purpose of the taxpayer at the time of the acquisition must be profit-making by sale; Pascoe (supra) at p. 112;
Loxton v. F.C. of T. 73 ATC 4001 at p. 4006 per Gibbs J.:
Burnside v. F.C. of T. 77 ATC 4588 at pp. 4594-4595 per Mason J.;
F.C. of T. v. Bidencope 78 ATC 4222 at p. 4233 per Gibbs J.; and
F.C. of T. v. Whitfords Beach Pty. Ltd. 82 ATC 4031 at p. 4045 per Mason J.

It follows that Bendix, to bring its loss under the first limb of sec. 52, bore the burden of proving on the balance of probabilities that its dominant purpose in acquiring G.M.I. shares was to make a profit by sale. This it sought to discharge by the evidence of Mr. Guss of his intention in relation to the G.M.I. shares. Mr. Guss exercised total effective control of Bendix by reason of his and his wife's shareholdings, and all decisions of his became those of the Board of Directors; consequently his were the mind and will of the company;
Lannard's Carrying Co. Ltd. v. Asiatic Petroleum Co. Ltd. (1915) A.C. 705 at p. 713 per Viscount Haldane L.C.; and
Bernard Elsey Ltd. v. F.C. of T. 69 ATC 4126 at p. 4127; (1969) 121 C.L.R. 119 at p. 121 per Windeyer J. Mr. Guss swore that the purpose of Bendix in acquiring the G.M.I. shares was to make a profit. Upon further examination, he swore by way of elaboration that it was his belief that through the A.C.T.U. scheme G.M.I. shares would become enhanced in value and that it was his intention that Bendix would sell all or part of its G.M.I. shares over a period of time, thereby realising a profit. He swore that the A.C.T.U. ``grand scheme'' provided that the A.C.T.U. over a period of time could, out of profit derived from the scheme, buy shares in G.M.I., based on the value of the shares at the particular time. He added that, in addition to sales to the A.C.T.U., it was intended that Bendix would sell its G.M.I. shares to others within the insurance industry.

Whether this was the intention of Mr. Guss depended to some extent at least upon my assessment of his credibility. There were a number of unsatisfactory features of his evidence which affected his credibility. Answers which Mr. Guss made to questions under cross-examination indicated that he was unwilling to make direct answers which might not have supported what he perceived to be the Bendix interest. In many respects some of his answers bore the characteristics of an advocate submitting argument to advance a weak cause. Moreover, his explanation of the Court's finding in the winding up proceedings that both G.M.I. and M.M.I. were insolvent did not reflect favourably on Mr. Guss' credibility. He attributed the finding to colour engendered in the proceedings following upon an incident between the learned Judge and senior counsel, thereby insinuating or implying that the finding was not in accordance with the evidence. His persistent denials on oath that the companies were insolvent were difficult to reconcile with findings of both the Inspector and the trial Judge, as well as with the High Court's dismissal of the G.M.I. appeal.

Nevertheless, apart from consideration of Mr. Guss' credibility, there were compelling reasons which caused me to reject Mr. Guss' evidence that it was his intention to sell G.M.I. shares at a profit. Foremost amongst these was his explanation that under the A.C.T.U. scheme it was intended that the A.C.T.U. would acquire shares in G.M.I. In his letter of 11 May, 1973 to Mr. Hawke, Mr. Guss set out in detail what he described as the ``A.C.T.U. Insurance Scheme''. The scheme, as elaborated by him in the letter, does not contain a proposal or provision whereby the A.C.T.U. would acquire any of the share capital of G.M.I. from Bendix or from any other source. On the other hand,

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Mr. Guss described the incorporation of a separate company at a time when the A.C.T.U. would have built up sufficient funds out of its share of the profits of the ``Australian Union Insurance'' business to enable it to contribute its half-share of the capital of the new company. The contents of this document therefore are at variance with Mr. Guss' evidence.

Secondly, the G.M.I. shares for which $750,000 was paid by Bendix were acquired on 24 December, 1973. At that time no administrative or other steps had been taken to implement the A.C.T.U. scheme. Furthermore, no acknowledgement in writing of the proposed scheme or acceptance of the proposal by the A.C.T.U. had been given to Mr. Guss. Indeed, the proposal was never accepted in writing by the A.C.T.U. On 24 December, 1973 the scheme was at its best in abeyance, if not totally abandoned. After their telephone conversation in May 1973, Mr. Guss had no further communication with Mr. Hawke. Thereafter, Mr. Guss, because of the risks of liquidation of G.M.I., had no reason to believe that the scheme would be revived.

Thirdly, notwithstanding a volume of contemporaneous documents, there is no record supporting either the continued existence of the A.C.T.U. scheme or that Bendix acquired the Bendix shares for the purpose of making profit by sale.

Fourthly, when he attended the Inspector on 21 November, 1973, Mr. Guss expressed his expectation that a consequences of his proposal for the future conduct of G.M.I.'s business and reorganisation of its structure would be that M.M.I. would become a subsidiary of Bendix. However, he made no mention to the Inspector of the A.C.T.U. scheme in connection with the Bendix acquisition of G.M.I. shares or otherwise.

Fifthly, on 13 March, 1974, following on the publication of the Inspector's report, Mr. Guss released to the press a statement of which he was the author. In his statement he endeavoured to refute the Inspector's finding that the companies were insolvent and the recommendation that it was in the public interest that the companies should be wound up. Mr. Guss set out in some detail the December, 1973 transaction whereby Bendix acquired all the issued capital of G.M.I., and M.M.I. acquired the Bendix furniture business. Although he referred to ``the substantial strengthening of the companies' position on December 24, 1973'', Mr. Guss did not mention the A.C.T.U. scheme and substantial profits which were expected to accrue therefrom.

Sixthly, the minutes of the meeting of Bendix directors held on 24 December, 1973 contained no reference to the A.C.T.U. scheme or what was the purpose of the acquisition of the G.M.I. shares.

Seventhly, notwithstanding that the solvency of G.M.I. and M.M.I. was an issue strenuously contested in the winding up proceedings - to which Bendix was a party - no evidence was led on behalf of the respondents of any anticipated profitable trading resulting from the operation of the A.C.T.U. scheme. In this connection, I am mindful that the decision whether to advance evidence of the scheme would no doubt have rested upon counsel for the companies. Nevertheless, it is surprising that evidence of the scheme, if it were still extant, was not offered as a matter relevant to the exercise of the trial Judge's discretion.

On the other hand, a strong body of evidence has led me to the conclusion that the dominant, if not sole, purposes of Bendix's acquisition of G.M.I. shares were twofold: namely, to avert adverse findings and recommendations by the Inspector, which might have led to a petition for winding up of the companies under sec. 180 of the Companies Act, and to enable Bendix to exploit M.M.I.'s tax losses, which were then estimated to be between $400,000 and $500,000.

That these were Mr. Guss' purposes is evidenced by the statement which he made to the Inspector on 21 November, 1973. It is clear that, before making his statement, Mr. Guss was then concerned that the Inspector would find that the two companies were insolvent and that he might recommend winding up proceedings. On the hearing of this appeal, Mr. Guss repeatedly protested that both companies were solvent. Nevertheless, having regard to G.M.I.'s trading losses exceeding $203,000 for the previous year, making its total accumulated losses $320,000 on 30 June, 1973 and M.M.I.'s unprofitable trading resulting in

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the company being unable to pay its debts out of income, I am unable to accept that the companies were solvent and, more particularly, that Mr. Guss believed them to be so. The companies needed an infusion of capital for survival, which Mr. Guss claimed would have been available from other companies in the group.

That the other purpose of the December, 1974 transaction was to enable Bendix to exploit for its own tax advantage M.M.I.'s accumulated losses is manifest by Mr. Guss' instructions given to Mr. Brusey, to which I have already referred. Any doubt of the intention of Mr. Guss is removed by the form of the advice given by Mr. Brusey based upon those instructions. Similarly, in a letter of 6 August, 1974 to Mr. A.M. Horsburgh, the liquidator, Mr. Guss stated: ``As you are aware, the intention behind the proposal of 24 December, 1973 in relation to M.M.I. was to enable Bendix to obtain the benefit of M.M.I.'s tax losses.''

In his press statement, Mr. Guss claimed that the effects of the utilisation of M.M.I.'s tax losses by Bendix would strengthen the financial position of both G.M.I. and Bendix. From expressions used in his letter, it is clear that Mr. Guss' purpose for Bendix's acquisition of the G.M.I. shares was to avert an unfavourable report by the Inspector concerning the financial condition of the companies, and thereby to avoid their liquidation. Accordingly, I do not find that the dominant purpose of Bendix for its acquisition of the shares was to sell the same at a profit.

To fall within the second limb of sec. 52, Bendix was required to prove that its claimed loss was incurred from the carrying on of an undertaking or scheme, the profits (if any) from which sale, undertaking or scheme would have formed part of its assessable income.

In Burnside at p. 4594 Mason J. observed in connection with sec. 26(a) that:

``... where the profit in question arises from the purchase and subsequent sale of an asset and it is found that the asset was not acquired for the purpose of profit-making by sale it is very difficult to see how the profit can be said to arise from a profit-making undertaking or scheme.''

His Honour then added a comment which is apposite to the Bendix acquisition of G.M.I. shares, namely:

``In this case the difficulty becomes insurmountable because the finding in connection with the first limb of sec. 26(a) denies the existence of the relevant profit-making undertaking or scheme which is alleged to bring the profit within the second limb.''

Those observations and comments, however, do not conclude the matter before me.

The characteristics of a profit-making undertaking or scheme within the second limb of sec. 26(a) were described by Gibbs J. in Steinberg at p. 699 as:

``... a plan, design or programme of action devised and put into effect for the purpose of making a profit. It must be a scheme carried out by the taxpayer... it should - at least where the transaction is one of acquisition and resale - exhibit features which give it the character of a business deal. The mere realisation of a capital asset, albeit in an enterprising way, would not amount to the carrying out of a profit-making scheme.''

A transaction from which the profit is derived must result from an undertaking or scheme having some business or commercial flavour, and having as its purpose the making of profit; Steinberg at ATC p. 4228; C.L.R. pp. 687-688 per Barwick C.J. and Whitfords Beach at pp. 4033-4039 per Gibbs C.J. and at pp. 4044-4047 per Mason J.

It was submitted on behalf of Bendix that the scheme devised by Mr. Guss and as deposed by him was a profit-making one with the necessary commercial or business flavour, and therefore that it was a profit-making scheme within the ambit of sec. 26(a) and sec. 52.

Central to the scheme described by Mr. Guss was the successful operation of the ``Australian Union Insurance'' following upon the adoption of the A.C.T.U. scheme. Mr. Guss foresaw any addition to the value of G.M.I. shares would result from the volume of business derived from the A.C.T.U., its affiliates and members of unions, as well as from semi-government instrumentalities as a result of the operation of the union scheme. He swore that, from

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calculations made by him, he expected premium incomes of G.M.I. would increase to $7 million to $10 million in the first year, rising to the order of $100 million within a few years. Mr. Guss did not depose to any improvement in the trading of G.M.I. other than under the A.C.T.U. scheme. However, as I have already indicated, at all times after May 1973 the A.C.T.U. scheme was no more than a proposal suspended in limbo. Its retrieval from the River Styx was dependent upon the Inspector not reporting adversely upon the financial condition of the companies. By November 1973, when the G.M.I./M.M.I. venture was conceived, and during the following month before the G.M.I. shares were acquired, Mr. Guss had gained the impression from their discussions that the Inspector's report would be unfavourable to G.M.I. interests.

I find that the G.M.I./M.M.I. venture was devised without reference to the A.C.T.U. scheme, and that Bendix's acquisition of G.M.I. shares by purchase from Autogen and by allotment by the company was unconnected with the A.C.T.U. scheme. The round robin movement of cheques whereby Bendix acquired the G.M.I. shares did not improve the cash position or liquidity of G.M.I. Furthermore, it was not contended that, without the A.C.T.U. scheme, the G.M.I. shares would have improved in value by ordinary trading.

I find that the purposes of the Bendix acquisition of G.M.I. shares were to prevent the two companies from being wound up and to provide to Bendix access to the M.M.I. tax losses. Accordingly, Bendix did not satisfy me that the shares were acquired pursuant to any profit-making scheme. At its best the acquisition of the shares was, as described in the income tax return, an investment. It follows that the loss suffered by Bendix as a result of its G.M.I. shares becoming worthless consequent upon the order to wind up the company is not an allowable deduction under sec. 52.

A further objection made in the first notice concerned Bendix's claim of a deduction of $175,000 being the amount payable under the guarantee. The ground supporting the claim was expressed in the notice as follows:

``During the said year of income, the taxpayer guaranteed obligations of G.M.I. to the Commercial Bank of Australia Ltd. in an amount of $175,000 and was called upon to meet such guarantee to the extent of $175,000.''

By cl. 1 and 12 of the guarantee, Bendix agreed to become liable to pay all moneys advanced by the bank upon demand in writing for payment made by the bank in the manner therein provided. Mr. Guss swore that before 30 June, 1974 the manager of the bank informed him that the bank would be requiring its money, and that the demand was made a month or two later. Bendix did not tender as evidence the document wherein the bank made its demand in writing for repayment. However, under the heading ``Extraordinary Items'' in notes forming part of the accounts of Bendix and its subsidiary companies which were included with the 1974 return, the liability under the guarantee was described by Bendix as follows:

``Guarantee of a liability of General Mutual Insurance Company Ltd. to its bankers called subsequent to 30 June, 1974.''

I, therefore, find that before 30 June, 1974 Bendix received from the bank no more than an intimation or warning that it would be required to make payment to the bank of G.M.I.'s indebtedness to it. During the 1974 year of income Bendix did not incur a loss or expenditure under the guarantee; it had then merely an expectation of incurring a loss in the future. Discussing the meaning of the word ``incurred'' in sec. 51(1), Barwick C.J. in
Nilsen Development Laboratories Pty. Ltd. v. F.C. of T. 81 ATC 4031 at p. 4035; (1979-1980) 144 C.L.R. 616 at pp. 623-624 said:

``... there can be no warrant for treating a liability which has not `come home' in the year of income, in the sense of a pecuniary obligation which has become due, as having been incurred in that year. Sir John Latham's language in
Emu Bay Railway Co. Ltd. v. F.C. of T. (1944) 71 C.L.R. 596 at p. 606 clearly enough indicates that to satisfy the word `incurred' in sec. 51(1) the liability must be `presently incurred and due though not yet discharged'. The `liability' of which Sir John speaks is of necessity a pecuniary liability and the word `presently' refers to the year of income in respect of which a

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ATC 4591

deduction is claimed. It may not disqualify the liability as a deduction that, though due, it may be paid in a later year. That part of Sir Owen Dixon's statement in New Zealand Flax Investments Ltd. v. F.C. of T. which presently needs emphasis is that the word `incurred' in sec. 51(1) `does not include a loss or expenditure which is no more than pending, threatened or expected': and I would for myself add `no matter how certain it is in the year of income that that loss or expenditure will occur in the future'.''

Applying the meaning given by the Chief Justice to the word ``incurred'' as found in sec. 51(1), it follows that Bendix's expectation of a future expenditure, without any legal liability having accrued in the year of income, was not a loss or outgoing within the meaning of sec. 51(1). The disallowance of the claim for $175,000 was therefore properly made by the Commissioner.

The second notice of objection arose out of a notice of amended assessment for the year ended 30 June, 1974. In an adjustment sheet explanatory of the amended assessment, the Commissioner informed Bendix that accrued holiday pay of $41,862 at 30 June, 1974 was not an allowable deduction. I have already noted the party's agreement that the Commissioner's allowance of $41,862 in lien of $28,229 was occasioned by an error made by Bendix in its answer to the Commissioner's enquiry of the amount of holiday pay accrued at 30 June, 1974. Be that as it may, having regard to the calculations appearing on p. 5 of the Commissioner's file for Bendix for the year ended 30 June, 1974, Exhibit ``L'', it would appear that the sum of $41,862 was the correct amount of the total holiday pay accrued up till the end of the 1974 income tax year.

In amending the assessment, the Commissioner purported to act under sec. 170 which, subject to other provisions contained in the section, enables him to amend an assessment by making such alterations and additions as he thinks necessary. By subsec. (2)(b) it is provided:

``Where a taxpayer has not made to the Commissioner a full and true disclosure of all the material facts necessary for his assessment, and there has been an avoidance of tax, the Commissioner may -

• ...
• (b)... within 6 years from the date upon which the tax became due and payable under the assessment,

amend the assessment by making such alterations therein or additions thereto as he thinks necessary to correct an error in calculation or a mistake of fact or to prevent avoidance of tax as the case may be.''

The burden lay on Bendix to prove that it had disclosed every fact which it knew or was capable of knowing, and which was material to a correct assessment;
McAndrew v. F.C. of T. (1957) 98 C.L.R. 263 at p. 269 and
Scottish-Australian Mining Company Ltd. v. F.C. of T. (1950) 81 C.L.R. 188 at pp. 197-198. The need to amend the assessment would follow it the failure by Bendix to make full and true disclosure would have resulted in less tax being paid by the company than ought to have been paid,
Australian Jam Company v. F.C. of T. (1953) 88 C.L.R. 23 at p. 33.

Bendix submitted that by the information concerning the amount of $28,229, furnished in the tax return, the Commissioner was given true and full disclosure of all material facts which it was necessary for him to have for the purposes of making a correct assessment.

The Commissioner relied upon the following matters and circumstances, which he contended constituted failure by Bendix to make a full and true disclosure of all the material facts concerning the amount of $28,229, thereby causing him to make a mistake of fact.

In the Summary for Taxation enclosed with the 1974 return, the first item of income was described as ``Operating Profit as per attached Accounts $258,716''. The attached accounts included a document headed ``Schedule of Acquisition Expenses'', wherein the total of the general works expenses was stated to be $676,753. Among the items of expenses there appeared ``Sick and Holiday Pay $164,461'', which was therefore the amount of holiday pay paid during the 1974 income year. Those figures

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ATC 4592

were carried forward into the amount shown in the Profit and Loss Statement for the year ended 30 June, 1974, from which the sum of $258,716 operating profit before tax, appearing in the Summary for Taxation, was calculated.

In the Summary for Taxation, Bendix set off against the operating profit and other charges the sum of $28,229 as an expense under the description ``Holiday Pay Accrual 30 June, 1973''. By that description, claimed as an expense, it appeared that $28,229 was the amount of holiday pay which had accrued up till 30 June, 1973 and which had been paid in the 1974 year of income. That was the assumption made by the Commissioner when making the first assessment and which prompted him to endorse on the adjoined assessment sheet, ``The enclosed statement is subject to review on receipt of the information requested in the attached F29''.

In answer to the Commissioner's request for further information, Bendix set out that $164,461 was the amount of holiday pay paid during the year ended 30 June, 1974, that $41,862 was the amount of holiday pay accrued as at 30 June, 1974 and that $178,094 was the amount of holiday pay credited to the holiday pay accrual account during the year ended 30 June, 1974. It became apparent that the amount of holiday pay which had been paid was the same as appeared as an item of general works expenses in the Schedule of Classified Expenses. In addition, from the information provided by Bendix, it emerged that the accrued holiday pay at 30 June, 1974 totalling $41,862 had not been paid during the 1974 year of income. This was further demonstrated by the Commissioner's statement on p. 5 of his file, Exhibit ``L'', constructed from the additional information provided by Bendix, which reads as follows:

      ``Holiday pay accrued
        30 June, 1973                $28,229
      Amount provided during
        year                         178,094
                                    --------
                                    $206,323
      Amount paid during year        164,461
                                    --------
      Holiday pay accrued
        30 June, 1974                $41,862
                                    --------''
        

On behalf of the Commissioner it was said that it became apparent only upon receipt of Bendix's answers to the request for further information that the sum of $28,229 had not been paid during the 1974 year of income. Therefore, it was submitted, Bendix had failed to make a full and true disclosure of all material facts relating to the deduction made for holiday pay. Alternatively, it was contended that, by its description of ``Holiday pay accrual 30 June, 1973'', Bendix had caused the Commissioner to make a mistake of fact resulting in an incorrect assessment having been made.

In reply it was submitted on behalf of Bendix that the description of the item in the Summary for Taxation was unambiguous, the sum of $28,229 being the holiday pay which had accrued up till 30 June, 1973. It was said that the use of the word ``accrual'' did not convey that the amount had been paid, and that the answer to the Commissioner's enquiry did not disclose any information additional to what was available from the income tax return and the accompanying documents.

In my opinion, the claimed set off of $28,229 in the ``Summary for Taxation'' was ambiguous, if not misleading. The description of $28,229 as ``Holiday pay accrual 30 June, 1973'', in conjunction with the deduction of the stated figure from the total income so as to show the amount of claimed taxable income, gave the appearance that $28,229 had been paid and that it was in addition to the amount of $164,461 sick and holiday pay paid during 1974 referred to in the general works expenses. However, by use of the further information provided by Bendix, it then became clear that the only amount of holiday pay paid in the relevant year of income was $164,461 and that $28,229 formed part of the amount of $41,862 holiday pay which had accrued up till 30 June, 1974 and which had not been paid.

I, therefore, consider that the information in the return concerning the item ``holiday pay accrual'' as described in the Summary for Taxation did not constitute a full and true disclosure of all the material facts necessary for the assessment which were known to Bendix. I further conclude that, by its failure to make a full disclosure of all the

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ATC 4593

material facts relating to the item, Bendix would have paid less tax than it ought to have paid. It follows that the Commissioner was enabled to amend the 1974 assessment. In accordance with the agreement of the parties, the assessment ought to be amended by adding to the assessable income $28,229.

1975 Return

In its objection to the 1975 assessment, Bendix claimed that allowance ought to have been made for several items. It was conceded that the claim made under para. (a)(i) for losses carried forward depended upon my finding concerning the loss occasioned by the G.M.I. investment. Having found against Bendix in relation to its loss arising out of those shares, I shall disallow the appeal against the claim under para. (a)(i).

The item claimed under para. (c) is for an allowance by a deduction for further losses and outgoings in respect of the G.M.I./M.M.I. venture $18,384. It was agreed between the parties that of this sum $12,969 was in respect of the total legal and associated expenses incurred in relation to the G.M.I./M.M.I. venture, and it was conceded by counsel for Bendix that if the claim for those losses and outgoings failed, so would the claim for $12,969.

Of the balance, namely $5,414, Bendix contended that, as the amount was unrelated to the G.M.I./M.M.I. venture, it was allowable under sec. 51(1). The ground upon which Bendix relied in support of this amount was said to be contained in ground 2(d) by which it was stated that in the alternative the amount was claimed independently of the G.M.I./M.M.I. venture.

For these purposes it is necessary to consider grounds 2(b), (c) and (d) which are in the following terms:

``(b) During the year of income ended 30 June, 1975 the taxpayer incurred further losses and outgoings totalling $18,384 in connection with and for the purposes of or resulting necessarily from the venture concerning General Mutual Insurance Company Ltd. (G.M.I.) and Motorists Mutual Insurance Company Ltd. (M.M.I.) therein referred to.

(c) The said losses and outgoings consisted principally of a valuation fee, legal expenses and amounts paid pursuant to guarantees given by the taxpayer in relation to debts of G.M.I., and are more particular described in the Schedule headed `Legal Fees and Debt Collection' forming part of the return of income for the company for the year ended 30 June 1975.

(d) The said losses and outgoings or alternatively some part of them, were incurred by the taxpayer in gaining or producing its assessable income or alternatively necessarily incurred in carrying on its business for the purpose of gaining or purchasing such income, and were not losses or outgoings of capital, or of capital, private or domestic nature, or incurred in relation to the gaining or production of exempt income.''

It is clear that ground 2(b) refers to losses and outgoings totalling $18,384 incurred in connection with and resulting from the G.M.I./M.M.I. venture. ``The said losses and outgoings'' referred to in ground 2(c) are those described in ground (b). Similarly, ``the said losses and outgoings'' referred to in ground (d) are the losses and outgoings identified in ground (b). The Commissioner contended that the claim for $5,414 was therefore not covered by any ground stated in the Notice of Objection, and that, by the operation of sec. 190(a), Bendix was precluded from relying upon an objection not stated in any ground. In
Molloy v. F.C. of T. (1938) 59 C.L.R. 608 at p. 610 the Court said of a provision in similar terms contained in the Land Tax Assessment Act 1910-1934 that:

``(It) is a positive statutory provision that upon appeal the taxpayer is limited to the ground set out in the notice of objection. This we regard as an imperative direction to the Court, not as a provision merely for the benefit of the Commissioner which he is in a position to waive. The provision is made for the purpose of protecting public revenue, and the Court is bound to give effect to it.''

See also
H.R. Lancey Shipping Co. Pty. Ltd. v. F.C. of T. (1951) 9 A.T.D. 267 at p. 272 before Williams J. It follows that the claim now made for the sum of $5,414 by Bendix, not being covered by the grounds in the

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ATC 4594

Notice of Objection, was properly disallowed by the Commissioner.

1976 Return

Bendix claimed $6,353 in respect of legal costs which it paid to Tricontinental Corporation Ltd. by way of settlement of a Supreme Court action against its directors.

That was the second of two actions commenced by Tricontinental against the directors of Bendix. In the first action Tricontinental joined as defendants all the then members of the Board claiming the removal of Messrs. Guss, Brown and Deare. Before the action came on for trial, three of the directors, including Mr. Guss, resigned as directors and three companies, namely J.N.F. Investments Pty. Ltd., Sanjo Investments Pty. Ltd. and General Mutual Investments Pty. Ltd., all of whom were related to the Bendix group of companies, were appointed directors to fill the vacancies so formed. Mr. Guss swore that the resignation of the three defendants and resolution appointing the three companies in lieu of them was a tactical manoeuvre designed to frustrate the Tricontinental action, and it succeeded. Tricontinental discontinued the action by filing a Notice of Discontinuance.

It then commenced the second action joining as defendants, in addition to all the then directors of Bendix, the three persons who had resigned. Tricontinental sought a declaration that a resolution appointed the companies as directors of Bendix was ultra vires and an injunction restraining all the defendants from acting as directors of the company. The action was settled on terms whereunder the defendants agreed to pay Tricontinental's costs, which were subsequently taxed at $6,353. Bendix discharged its directors' liability to pay Tricontinental's costs under the terms of settlement, purporting to act under Art. 173(1) of its Articles of Association, which is in these terms:

``Every Director and other officer of the Company shall be entitled to be indemnified out of the assets of the Company against all losses or liabilities which he may sustain or incur in or about the execution of his office or otherwise in relation thereto, not being a loss or liability in respect of any negligence, default, breach of duty or breach of trust in relation to the Company.''

Counsel for the Commissioner submitted that the costs incurred by the directors, and more particularly by Mr. Guss, were not incurred in the execution of their office as directors. It was argued that those costs arose out of a personal or private conflict between Tricontinental, as a mortgagee or creditor of Bendix, and Mr. Guss and his co-defendants, who were concerned to retain control of the company. The litigation not having arisen out of the companies' affairs, it was further submitted, Art. 173(1) had no application to the costs of the directors.

However, notwithstanding the genesis of the action and the defendants' motives for defending it, the liability of each of them to pay Tricontinental's costs was incurred in the execution of his office as a director. The directors could have properly accepted responsibility to defend the action for the purpose of protecting both the Board of Directors, as well as the interests of the company. I therefore conclude that the indemnity for their liability to pay Tricontinental's costs of the action was within the scope of Art. 173(1), and an outgoing necessarily incurred by Bendix in carrying out its business. Its claim for $6,365 ought to have been allowed by the Commissioner.

1977 Return

The Commissioner disallowed Bendix's claim of $35,167, being costs incurred both by Mr. Guss in defending seven informations for breaches of provisions of the Companies Act 1961 preferred against him, and by the company in seeking legal advice in connection with its liability to indemnify Mr. Guss in respect of his costs.

The informations were heard in the Magistrates' Court at Melbourne. Mr. Guss was convicted on three charges, the remaining four charges being dismissed. On appeal against convictions, the County Court upheld the appeals and set aside two of the convictions. The third conviction was dealt with by this Court in Order to Review proceedings.

The amount of $35,167 included $34,946 in respect of legal fees and expenses incurred in defending the proceedings in the

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ATC 4595

Magistrates' Court and in prosecuting the appeal to the County Court, together with $221 being the costs of Messrs. Weigall and Crowther for their advices whether it was proper for Bendix to pay and any and what amount of Mr. Guss' costs. His costs of the Order to Review proceedings did not form part of the amount claimed.

The two informations under which Mr. Guss was convicted were laid under sec. 124 of the Companies Act. By the first information Mr. Guss was charged with failing to act honestly in the discharge of his duties as a director of Bendix, and by the second information he was charged with failing to use reasonable diligence in the discharge of his duties as a director. Particulars supplied by the informant revealed that the alleged offences arose out of the G.M.I./M.M.I. venture of December 1973.

Payment of Mr. Guss' legal costs was claimed by Bendix to have been authorised by Art. 173(2) of the Articles of Association, which reads:

``Every director, manager and officer of the Company, and every person employed by the Company as auditor, shall be indemnified out of the funds of the Company against all liability incurred by him as such director, manager, officer or auditor in defending any proceedings, whether civil or criminal, in which judgment is given in his favour, or in which he is acquitted, or in connection with any application under Section 390 of the Act in which relief is granted to him by the Court.''

For the Commissioner it was argued that the conduct alleged against Mr. Guss in the informations constituted abuse of his office of a director and improper conduct in his office as a director, and that the Article does not extend to that type of alleged criminal behaviour. It was contended that the conduct of Mr. Guss constituted criminal exploitation of his office as a director for his own and his family's benefit. It was further submitted by counsel that the conduct alleged did not arise out of or in connection with the management or control of the company's business affairs.

The Article, in so far as it is relevant for these purposes, provides that a director shall be indemnified out of the funds of the company against all liability incurred by him as a director of the company in defending any criminal proceedings in which he is acquitted. Thus the right to an indemnity extends to liability incurred by a director arising out of his office as a director in defending any criminal proceedings. In the absence of any express qualification, in my opinion, there is no warrant for reading down the Article so that its operation might either be limited to particular types of criminal conduct, or exclude any particular type of criminal conduct. Similarly, the motive of a director, whether it be for the promotion of the interests of the shareholders or for those of his own, is in no way relevant to the criminal conduct covered by the Article. The use of the phrases ``as such director'' and ``any criminal proceedings'' make clear the intention that the indemnity should extend to any form of criminal proceedings defended by a director arising out of the performance of his duties as a director. Furthermore, the conduct referred to in the particulars of the alleged offences was conduct which arose out of Mr. Guss' performance of his duties as a director. What was alleged against him was, in effect, that he had abused his office when purporting to perform his duties as a director of the company. It is not without significance in this connection that Mr. Guss was acquitted of those charges. Had he not been a director of the company, the informations would not have been preferred against him. Clearly, therefore, the criminal proceedings arose out of his conduct as a director; and the payment of the indemnity was an authorised one. Thus, the Commissioner ought to have allowed the claim for $35,167 legal expenses of Bendix.

For the foregoing reasons, it will be ordered as follows:

In the matter of 1979 Tax No. 111

(1) 1973 Assessment - Appeal dismissed.

(2) 1974 Assessment - Amended Notice of Assessment be remitted to Commissioner for reduction of assessable income by $13,633 and, by consent, for reduction by $229 in respect of depreciation and for reassessment; otherwise appeal dismissed.

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ATC 4596

(3) 1975 Assessment - By consent Notice of Assessment be remitted to the Commissioner for reduction of assessable income by $612 in respect of depreciation and for reassessment; otherwise appeal dismissed.

(4) 1974 Assessment - Appeal allowed. Notice of Assessment remitted to Commissioner for reduction of assessable income by $6,353 and for reassessment.

In the matter of 1981 Tax No. 132

Appeal allowed. Notice of Assessment remitted to Commissioner for reduction of assessable income by $35,167 and for reassessment.