Case Q113

Judges:
KP Brady Ch
JE Stewart M
DJ Trowse M

Court:
No. 2 Board of Review

Judgment date: 11 November 1983.

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K.P. Brady (Chairman), J.E. Stewart and D.J. Trowse (Members)

In these references, which relate to the years of income ended 30th June 1980 and 1981, and which by consent were heard together, the taxpayer claimed deductions of $12,606 and $8,568 respectively as losses incurred in carrying on what he asserted was a business of primary production. The Commissioner contended that the taxpayer was not carrying on such a business and so disallowed the claims, as he also treated the taxpayer's subsequent objections. The matter has now come before this Board for review.

2. At the hearing the taxpayer, whom we shall call A, was represented by his solicitor. The Commissioner was represented by one of his officers.

3. The losses which the taxpayer claimed were occasioned by the following receipts and outlays:

                                                      1980          1981
      Income:                                           $             $
        Stud fees                                       450         1,200
        Agistment fees                                   60           180
        Prize money                                     300           220
        Gross profit/(loss) - horse account            (515)          260
                                                       -----        -----
                                                        295         1,860
                                                       -----        -----
      Less expenses:
        Commissions paid on sale of horses               85            -
        Agistment fees                                    -           262
        Fertiliser and seed                             470           250
        Fodder                                        1,132         1,313
        Shavings                                        118            -
        Veterinary                                      419           604
        Shoeing                                         350           163
        Registration fees and entrance fees             298           436
        Replacement of gear                             138           101
        Internal fencing                                 90            61
        Repairs and hire of plant                     1,006           662
        Water conservation                            2,511            -
        Motor vehicle registration, petrol and oil      530           830
        Depreciation                                  1,011           912
        Interest                                      3,748         3,963
        Overheads                                       995           871
                                                     ------        ------
                                                     12,901        10,428
                                                     ------        ------
      Net loss:                                      12,606         8,568
                                                     ------        ------
      

4. The above items suggest that A was involved in running a horse stud, and such was the case. He purchased the property which comprised 11.53 hectares (or 28¾ acres) in August 1975 in the names of his wife and himself at a cost of $39,000. It seems that the purchase was largely financed by a bank term loan of $19,750, plus an overdraft having a limit of $6,500.

5. A advised us that he bought the

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property in order to conduct a horse stud operation for a number of reasons: first, his wife was very experienced with horses, and he saw the proposed stud as a means of providing her with an income upon his death; and secondly, their daughter, then aged about 11, was involved in a pony club and, even at that age, was an accomplished horsewoman. He stated that his own interest in horses only commenced when he married some 19 years back.

6. A went on to advise us that he commenced the horse-breeding operation in February 1976. The emphasis initially was on breeding Australian stud book ponies. That activity commenced with the purchase of a champion stallion registered in the Australian Pony Stud book, and an unregistered mare bought some little time previously. Over the succeeding years 1976/77, 1977/78 and 1978/79 two mares were purchased, one of which died. Additional purchases comprised a filly, a colt and four horses and geldings. Natural increase amounted to four, all colts. The only sale made was one of the colts. Thus, at the beginning of the first year of income in issue, stock of horses totalled 12, comprising a stallion, two mares, a filly, four colts and four horses and geldings.

7. The taxpayer advised us that not all of the above stock grazed on his own property because he had access to adjoining and closely proximate paddocks of neighbours who were happy enough to have their grasses eaten down, and so reduce the risk of bush fires. That access was the subject of a gentleman's agreement only, and so could be terminated by the various land owners at will.

8. We were told that losses were incurred over the above years as follows:

                      $
      1975/76       3,242
      1976/77       6,512
      1977/78       6,812
      1978/79       6,963
      

9. It seems appropriate to mention here that A was an associate director and full time staff member of a proprietary company, and from his employment there he derived a salary in all of the above years, and in the years of income in issue. We were told that the Commissioner accepted the deduction of the above losses by A from his salary income for all of the above years 1975/76 to 1978/79, and assessed him on that basis. However, as has been already stated, the Commissioner was not prepared to accept a like deduction in the 1979/80 and 1980/81 years of income.

10. In explaining the sequence of losses occasioned since his horse-breeding operation began, A pointed out that in large measure that pattern of trading was inherent in every horse stud business. He alluded to the fact that the gestation period of a mare is 11 months, and that it is unwise to wean a foal before 12 months. Training and educating a horse can then take a further 12 months, so that three or four years can elapse before a stud has available for sale a marketable product. Accordingly, he contended that his pattern of losses was not unexpected. Additionally he asserted that his operation had been adversely affected by near-drought conditions, and by the propensity of his stallion to sire colts of unexceptional quality coupled with an ailing market over recent years.

11. In the first of the two years in issue, that ended 30th June 1980, he commenced with a stock of 12 horses which was reduced to 11 at the year's end due to sales (four) exceeding purchases (one) and natural increase (two). A loss of $515 was incurred on those sales, which figure was increased, as we have seen, to $12,606 when account was taken of the year's operating expenditures, overheads and interest charges. In the following year, the horse-stock was increased to 16 due to purchases (three) and natural increase (three) exceeding sales (one). The horses purchased were not bought for breeding due to the extremely dry season then prevailing, but for adding value to them and subsequent selling. All three horses have since been sold at attractive mark-ups on their cost. However, the taxpayer placed considerable emphasis on the fact that the market had fallen away in the years of income in issue, and he considered that he could have got double the values that he in fact did obtain had prices remained at the levels which appertained when he went into the business in 1976. Notwithstanding the fall in prices, a small gross profit of $296 was earned in the 1980/81 year which, similarly

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to the 1979/80 year, was converted into a substantial loss ($8,568) after account was taken of all charges relating to the year's trading.

12. The purchase price of $39,000 which A paid for the property was said to comprise land $20,000, a residence $15,000, and a tractor, plough and other equipment having a value of $4,000. The taxpayer had stables built, and in June of 1980 had a dam built on the property at a cost of $2,500 in order to irrigate some six acres of pasture land and so provide fresh feed for the stock. Fencing generally was in poor condition at the time of purchase. The taxpayer estimated that, despite his salaried employment, he found it necessary to spend nearly 40 hours per week working on the property. He informed us that he performed most of the heavy manual tasks such as repairing the fences and sheds and putting in new fencing, clearing tracts of land, cutting chaff and crushing grain. Some of the less attractive jobs became his lot also, such as ``mucking-out'' the stables. However, it seems that the supervision of the breeding activities and the training and education of the horses was done by the taxpayer's wife. We shall call that lady, B. The taxpayer seemed to concede that such was the situation; in giving his evidence he stated:

``My wife is the horse expert. She knows how to groom horses, how to train them. She is a particularly good horse rider and she is the one who tends to the horses... She does all of the work that is related to the showing of the horses; to the education, mating-in and this sort of thing.''

13. The above matters were confirmed by B in giving her evidence. She stated that she worked up to 40 hours each week on the property, and at critically busy times, such as the foaling season, she put in even longer hours. It seems that she supervised the servicing of their mares by their stallion, also the servicing of mares not owned by them but brought onto their property. She foaled down the mares and looked after the newly-born foals. She also trained and educated all the stock and proved to be most successful in showing the horses at country and metropolitan agricultural shows, including the prestigious Royal Melbourne Show. She referred to the work involved in that latter aspect as follows:

``(Showing) is not just taken on the animal, it is taken on their gear, on their riding ability and of the overall picture that you have got in front of you. So you cannot take a pony out of a paddock, give it a wash, stick it on the float, and take it to a show. There are months and months and months of work to bring it into top show condition.''

B went on to say that she had been associated with horses since she was a small child, and from our own observations we would say that her knowledge of horses was wide in the extreme.

14. Despite her professionalism and expertise, however, we do not consider that a business was conducted on the property in the years of income in issue, or in the earlier years. In
Martin v. F.C. of T. (1952) 10 A.T.D. 37, (1953) 10 A.T.D. 226; (1952-1953) 90 C.L.R. 470, it was said by Mr. Justice Webb at A.T.D. p. 39, C.L.R. p. 474 that the determination of whether a business is carried on is, in the ultimate, based on the general impression gained from all the evidence. Applying that criterion, the learned Judge's view was that Mr. Martin's activity of betting on racehorses was a business and consequently the moneys so won represented assessable income. Upon appeal to the Full High Court, however, a different view of the evidence was taken. That Court, in holding that the taxpayer's racing and betting transactions were the normal activities of a person who derived pleasure from betting on racehorses, and as such did not constitute a business, stated at A.T.D. p. 228, C.L.R. p. 479:

``The definition of income from personal exertion includes the proceeds of a business carried on by the taxpayer, but the pursuit of a pastime, however vigorous the pursuit may be, does not usually amount to carrying on a business and gains or losses made in such a pursuit are not usually considered to be assessable income or allowable deductions in computing the taxable income of a taxpayer.''

15. After a close examination of all the evidence adduced before us, we consider that

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B was essentially conducting a pastime that she enjoyed and that the taxpayer's activity was primarily one of enabling B to indulge in that pastime by providing the necessary capital and by performing the more mundane tasks on the property so that his wife would be all the more free to exercise her special skills in the training and education of the stock of horses.

16. In our view, the taxpayer's activities cannot be said to constitute a ``business'' because they were not engaged in ``for the purpose of profit on a continuous and repetitive basis'' (see
Hope v. The Council of the City of Bathurst, 80 ATC 4386 at p. 4390). Both A and his wife denied that the activity was a pastime or hobby, but it is difficult to see that it could be anything else because of the very limited scale of the operation. In
McInnes v. F.C. of T. 77 ATC 4167, Waddell J., in ruling that the taxpayer, a practising barrister, was not carrying on a business of grazing, stated at p. 4169:

``In my opinion no significant commercial purpose or character can be attributed to the activities here in question in view of the small number of stock and sales involved and the small profit derived. The activities involved have little in common with those associated with what would ordinarily be described as a business of grazing.''

17. Considerable emphasis was placed by A's representative on the proposition that, had 1979/80 and 1980/81 sales been made at the 1976 level of prices, the revenue would have been doubled. However, we have calculated that, even if that price level had operated in the years of income in issue, the combined net losses for the two years amounting to $21,174 would have been reduced by only $2,225. Again, reliance was placed on the fact that B had never sold a horse for less than she had paid for it but, with running costs totalling in excess of $10,000 for each of the years in issue, that fact of itself must count for very little. Essentially the venture could not make profits because the number of horses carried on the property was too few. Extremely dry weather conditions were mentioned as a factor inducing reduced stock holdings, but we consider that the real reason lay in the inherently limited carrying capacity of the property, particularly, but not exclusively, as regards the provision of pasture for those horses brought onto the property for adding value to them preparatory to sale.

18. The decision of the High Court in
Tweddle v. F.C. of T. (1942) 7 A.T.D. 186 was said to support the taxpayer's case, but a significant factor influencing the decision in favour of Mr. Tweddle was that he had a genuine belief, despite the incidence of current losses, that eventually he would be able to make his business pay. In the instant case we do not consider that the taxpayer, particularly having in mind his broad business experience, can properly entertain such a belief, because on the most optimistic of future trading projections it seems to us that no profit is foreseeable. The taxpayer advised that future plans involved owning five brood mares and having them serviced by outside stallions. On the basis that each mare would give birth to a foal each year, sales of progeny, at an average sale price of $1,500 each, would produce a total value of $7,500. Additionally, five horses would be purchased each year at an average price of $800 each and, after educating and training, these would be sold for $1,500 each to produce a profit of $3,500. The total annual gross profit would be $11,000. He foresaw that the interest cost would be reduced, and also anticipated reductions in certain other items of cost. He therefore anticipated a reduction in the 1981 level of running costs which amounted to $10,400. However, we have some misgivings concerning the validity of those projections. Basic to running more horses is the need to have continued access to neighbours' paddocks, which access was given by way of verbal approval only and obviously could be withdrawn in whole or in part at any time. Also, the expense projections ignore inflation and do not appear to take account of the increased number of horses to be fed and maintained. Our view is that they tended to be based more on hope than on economic realities. Contrary to what the taxpayer's representative contended in referring us to
I.R. Commrs. v. Livingston & Ors. (1927) 11. T.C. 538, we do not believe, and here we paraphrase what the Lord President stated at p. 542, that the taxpayer's operation was of the same kind, and carried on in the same way as those

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which are characteristic of ordinary trading in the horse-breeding business.

19. Furthermore, and again contrary to what the taxpayer's representative contended, we consider that the fact situation of the instant case precludes any finding of the kind made in
Ferguson v. F.C. of T 79 ATC 4261, viz. that activities carried out preparatory to the conduct of another business on a larger scale can themselves amount to carrying on a business. For, unlike the conclusions as to facts arrived at in that case (see judgment of Fisher J. at p. 4271), we do not consider that the taxpayer's venture in the instant case had a commercial flavour, nor was it, in our view, conducted in a businesslike manner. The main strength of the taxpayer's operation was the skill and flair of his wife in handling horses, but much more than personal know-how must be manifested if a ``business'' is to be carried on, as that word has been judicially explained (see joint judgment of Bowen C.J. and Franki J. in Ferguson (supra) at p. 4264).

20. For completeness we would add that, if we are wrong in finding that the taxpayer's activity was simply that of supporting his wife in having her indulge in the pastime of educating and showing horses, and that he was in truth conducting a business, we would consider that the income from the business was received jointly with his wife. For the property was in their joint names, as was the registration of all the horses. Funds were borrowed in their joint names and, more relevantly, the income from sales, stud fees, agistment and show prizes was paid into a bank account in their joint names; also from that same joint account were paid all expenses relating to the venture. Accordingly, we would consider that the taxpayer had incurred only one-half of the expenses claimed, some items of which appear to be partly of a private nature such as interest, and rates and taxes.

21. In the light of the above reasons, we uphold the Commissioner's decisions on the objections and confirm the assessments.

Claims disallowed