Case X14

Members:
P Gerber DP

Tribunal:
Administrative Appeals Tribunal

Decision date: 28 December 1989.

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Dr P. Gerber (Deputy President)

It is unfortunate that the Tribunal had no shorthand cover at the hearing. I accept full responsibility for this. On looking through the papers, it did not appear to me to be a case, given the financial restraints placed upon the Tribunal, which would justify the expenditure on court reporters. As it happened, an important question of mixed fact and law has been raised which may well persuade the respondent to take the matter further.

2. The facts are not in dispute. Nor is the credibility of the taxpayer, whose sworn testimony I accept without hesitation. Regrettably, he did not have his accountant's file which would have cleared up several matters of detail. In the end, however, sufficient indisputable background emerged to enable me to give my decision with confidence as to the material facts, albeit with some hesitation as to the fiscal consequences which flow from them.

3. This saga began some time in 1980, when a private company purchased some 50 acres (``Blackacre'') near Bowral, New South Wales. The company's shares were held as to half by a distant relative of the taxpayer, a quarter by the taxpayer and the remainder by his wife. The taxpayer, an economist by profession, deposed that he had become disenchanted with his role as an executive and, when Blackacre was acquired, had decided to take up farming, intending to lease Blackacre from the company for that purpose. He began to research the feasibility of growing chestnuts commercially, preparing detailed estimates and projections, which were made exhibits. In addition, he consulted with agronomists in the area and contracted a grower of chestnuts from whom he agreed to buy 400 chestnut plants and 200 seedlings in the future (chestnuts, which are notorious carriers of exotic plant diseases, may not be imported into this country in any form). It was not challenged that it takes approximately six years after planting before chestnut trees will yield an economic return.

4. Blackacre had previously been used as a grazing property, was fenced and contained a small dam with a holding capacity of some 50,000 gallons. Some 30 acres were potentially suitable for chestnut cultivation. However, because the land was deficient in nitrogen, the taxpayer was advised to plough the 30 acres, plant lupin seed thereon, thence, when the lupin matured, briefly graze sheep on the land before commencing to plant the chestnut trees. Alas, after devoting two days of each week

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ATC 173

over several years to this venture and having, by 1982, planted 30 acres with lupin and ploughing it back into the soil, the project had become uneconomic; there had been a severe drought the previous year and further droughts were forecast. To make the chestnut venture viable would thus require the construction of a larger dam, with a holding capacity of 1 million gallons, an expenditure thought to be unjustified by the projected profits, the more so since the land belonged to a company in which the taxpayer had a mere 25% interest. In the result, no chestnut trees were ever planted and the land was subsequently sold at a small profit ($10,000), which the Commissioner treated as assessable income in the hands of the company and on which tax was paid, apparently without protest.

5. In the 1982 tax year, the taxpayer claimed a loss of some $12,951 which was disallowed, much of it made up of rent ($7,000), contract labour ($1,806) and depreciation ($3,430).

6. The Commissioner's opposition to the claim relied solely on the much quoted decision in
Southern Estates Pty. Ltd. v. F.C. of T. (1966-1967) 117 C.L.R. 481. In that case, the taxpayer had, as a member of a partnership, acquired virgin land in South Australia. The purpose of acquisition of the land was to clear it, fence it, plant grass for carrying stock and thereafter use it for grazing until such time as it could profitably be sold as grazing land. Barwick C.J. put the issue succinctly (at p. 486):

``The conduct of primary production upon the land to this extent was merely to establish its value as grazing land. It could therefore be held upon the material in the case and I am of opinion that it should be held that at least the dominant if not perhaps the sole purpose of the improvement of the land was its preparation for sale at a profit. It is conceded by the taxpayer that resale at a profit was at least an object of the acquisition of the land, for it gave in respect of the acquisition the requisite notice under s. 52 of the Income Tax and Social Services Contribution Assessment Act 1936-1961.''

Deductions were claimed as ``land improvement'' pursuant to sec. 75(1) which provides:

``Expenditure incurred in the year of income by a taxpayer engaged in primary production on any land... in -

• ...
• (b) the destruction and removal of timber, scrub or undergrowth indigenous to the land;
• ...
• (e) ploughing and grassing the land for grazing purposes;
• ...

shall be an allowable deduction.''

All their Honours concluded that the claim must fail. At first instance, McTiernan J. had held (at p. 484):

``... that upon the widest construction of which the word `engaged' admits, a person who merely has an intention to carry on the business of primary production is not engaged in it.''

On appeal, Barwick C.J., after confessing to some hesitation, stated (at p. 488):

``I am unable to deny the limiting quality of the opening sentence [i.e. `engaged in primary production']. I am unable to read `a taxpayer engaged in' as satisfied by one of whom no more can be said than that he intends to engage in. To prepare land for primary production, even for primary production thereon by the person making the improvement is not of itself, in my opinion, to engage in primary production.''

Taylor and Owen JJ. stated (at p. 491):

``Section 75(1) proceeds upon the basis that at the time when the expenditure is incurred the taxpayer is actually engaged in carrying on the business of a primary producer on the land upon which the improvements are effected. But where, as here, the land is, at the time when the expenditure is incurred, incapable of being used for primary production and the expenditure is incurred in order to bring it into a condition in which it will be possible to use it for primary production we are of opinion that it cannot be said that the taxpayer is engaged in primary production on that land.''

Windeyer J. dissented from the view expressed by the Chief Justice, although he concurred in the result.

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ATC 174

7. It is thus tempting to limit the case to its own peculiar facts. Thus the Chief Justice clearly concluded that an expenditure on improvements, effected on land acquired with ``at least the dominant, if not perhaps the sole purpose'' for resale at a profit, does not qualify as an allowable deduction pursuant to sec. 75(1) notwithstanding their specific inclusion in the section. It is a view with which Taylor and Owen JJ. concurred (at p. 491):

``If, as was the case here, the real or substantial purpose of incurring the expenditure was to make the land capable of being used for primary production in order to resell it at a profit, s. 75(1) has, in our opinion, no application.''

8. The case appears disarmingly simple and the ratio decidendi precise and clear; viz. a person who acquires virgin land with the intention of reselling it after converting it to agricultural use is not ``engaged'' in primary production, hence the cost of the improvements are not an allowable deduction. Nevertheless, the case is habitually cited for a wider proposition; viz. that mere preparation of land for a specific agricultural purpose does not constitute primary production. This wider view has been consistently adopted by Boards of Review. Thus in Case N101,
81 ATC 560, a case where land was prepared for the growing of macadamia nut tree, the decision went in favour of the Commissioner in reliance on what I have referred to as the ``wider'' view of Southern Estates; cf. Ryan & O'Grady: Manual of the Law of Income Tax, 6th ed. p. 295. In the instant case, the Commissioner placed heavy reliance on earlier Board cases, as well as the fact that this taxpayer, like the taxpayer in Case N101, had not purchased any trees, thus seeking to distinguish the facts in the instant case from Case U192,
87 ATC 1098, a decision of Deputy President Todd where macadamia nut trees had been actually acquired by a taxpayer who succeeded in his claim for deductions in the early stages of the venture. The learned Deputy President distinguished Case N101 on the basis that in the case before him, some 700 macadamia trees had actually germinated and been put through a grafting procedure, a distinguishing feature which the Commissioner appeared to regard as highly relevant when applied to the facts of this case.

9. Whether a man is carrying on primary production - or indeed any business - is, ultimately, a question of fact. Some indicia are dimly discernible through decided cases; cf.
Thomas v. F.C. of T. 72 ATC 4094 and
Ferguson v. F.C. of T. 79 ATC 4261. Webb J. expressed one test felicitously in
Martin v. F.C. of T. (1952-1953) 90 C.L.R. 470 at p. 474:

``The test is both subjective and objective: it is made by regarding the nature and extent of the activities under review, as well as the purpose of the individual engaging in them, and, as counsel for the taxpayer put it, the determination is eventually based on the large or general impression gained.''

10. Applying these ``tests'' as I understand them, it seems to me that the failure of this taxpayer to purchase any chestnut trees is, on the facts of this case, of singular insignificance. I am satisfied that to plough 30 acres and seed them with lupin (itself a cash crop if harvested for seed) preliminary to the planting of the intended trees is no less a business of primary production because the land, being nutrient deficient, requires prior seeding with a ``foreign'' crop to render the soil more productive. Indeed, in my opinion, the business commenced eo instanti with the taxpayer commencing to plough the first furrow with the purpose of changing the land's use from grazing to one of chestnut tree cultivation.

11. In the result, the time has come either to bury the ``wider'' view of the Southern Estates case - with all its obiter - or to invite a superior court for a clearer guideline on less ambiguous facts.

12. Having concluded that this taxpayer was engaged in the business of primary production in the relevant year, the objection decision is to be set aside and all claimed deductions are to be allowed in full.