CASE 44/93
Members:BH Burns DP
BC Lock M
DJ Trowse M
Tribunal:
Administrative Appeals Tribunal
BH Burns (Deputy President), BC Lock and DJ Trowse (Members) The question to be determined in this reference is whether expenditure incurred in the gaining of an instructor's rating by a taxpayer holding a commercial pilot's licence qualifies for deduction pursuant to sub-section 51(1) of the Income Tax Assessment Act, 1936 (``the Act''). The year is 1992 and the amount involved is $6,500.
2. The Tribunal had before it the T documents (T1-T30) supplied in terms of s. 37 of the Administrative Appeals Tribunal Act, 1975, together with six exhibits tendered on behalf of the applicant (exhibits A1-A6). The applicant gave evidence under oath and was represented by Mr E.K. Robins. He also called as a witness Mr B. Chew, the managing director of Rossair Flight Centre. The respondent was represented by Mr P. Kenny.
3. The Tribunal makes the following findings of fact which are not in dispute. The applicant has been employed as a postal clerk with Australia Post since leaving school in 1980. For some years he has been interested in flying and in January 1989 he took two years' leave without pay to undertake a course in Air Traffic Control at the Tasmanian Institute of Technology. He failed in that endeavour, returned to South Australia and soon after passed the examinations pertaining to a pilot's commercial licence. That success, together with the requisite number of 150 flying hours, enabled the applicant on 27 February 1991 to obtain a commercial pilot's licence. Additional endorsements and ratings followed, the last being a grade three instructor rating granted on 8 April 1992. The achievement of that rating is solely dependent upon the performance of 50 additional supervised flying hours and it is the costs relating to that activity that are in issue.
4. In October 1991 the applicant made his services as a commercial pilot available to M, a company which at that stage held a charter licence and conducted a flying school. When not working for Australia Post, he would present at the premises of M in the expectation of being offered the opportunity of piloting scenic flights and, since 8 April 1992, instructing student pilots. On those occasions
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the uniform of M was worn and the relationship was one of master and servant. The applicant also ferried planes to other locations, attended the counter, washed planes and office windows, vacuumed and swept out hangars. The arrangements regarding reimbursement were such that all of the above functions, with the exception of piloting scenic flights, were performed without monetary reward. As explained by the applicant, the more manual tasks together with the ferrying of aircraft were carried out to ``keep the company going'' and thus ensure the continued use of its aircraft. The applicant's perception was that flying time in his log book was sufficient recompense. No remuneration was paid for time spent instructing students. A grade three instructor is limited to briefing students at ground level, flying with a student but always under the direction and supervision of a grade one instructor. In that latter circumstance, it is only the senior instructor who receives payment for services rendered.5. The method of calculating pilot entitlement for scenic flights was as follows. The pilot renders to M an invoice indicating point of destination and the amount of time allowed for such a trip. Applied to that time is a predetermined hourly rate. From that result, a deduction for aircraft hire based on actual time taken for the journey is made. It seems that within the industry the system is regarded as normal practice and according to Mr Robins, a flyer himself, is no more than a convenient administrative arrangement in the determination of the pilot's earnings. Be that as it may, it is capable of producing a distorted result; for example the applicant flew 39.2 scenic flight hours in the 1993 financial year for a loss of $921. More significant, so it seems, those hours were entered in the log book and added to the applicant's tally of overall flying hours.
6. During the financial year in question, i.e. 1992, M employed eight commercial pilots, seven of whom, including after 8 April 1992 the applicant, held instructor ratings. It was claimed that the holding of that extra qualification lifted their status to preferred pilots and that as a result it increased both their flying hours and income. However, the evidence before the Tribunal does not satisfy us insofar as the applicant is concerned, that any increase in hours resulted from the additional qualification. There was no evidence placed before us to indicate that the choice of any passenger who flew with the applicant was influenced by virtue of the applicant's extra qualification.
7. The Tribunal now turns to consider the activities associated with flying and pertaining to the 1992 tax year in greater detail. For this period the log book of the applicant reveals 161 total flying hours, of which 4.1 relates to the provision of scenic flights for M and another company located in the South East of South Australia, and which were undertaken prior to the gaining of the instructor rating qualification. The remaining hours were occupied in obtaining ratings and endorsements, ferrying of planes and instructing, none of which were productive of any receipts of money. The total amount forthcoming from scenic flights and the working in M's office as a booking clerk was $1,070, which was disclosed as assessable income in the 1992 return. Recognising the timing of those flights and the kind of duties required as a booking clerk, the Tribunal is unable to identify any nexus between those activities and the costs of obtaining an instructor's rating. The remaining task of the Tribunal is to determine whether the outgoing in question was incurred in the course of gaining assessable income in the 1993 year and beyond.
8. The applicant's evidence is ample proof that he possesses a passion for flying and harbours the ambition to be employed by one of the major airline companies as a full-time pilot, which position is available only to commercially qualified pilots who have attained 1500 flying hours and the Tribunal finds as a fact that all of the activities engaged in during the year in question were focused towards the required increase in flying experience. Aided by some prompting, the applicant added the purpose of deriving income as a charter pilot and yet the Tribunal's perception of the arrangement with M was that it did no more than create the opportunity to significantly reduce the costs of attaining the sought after flying hours and thus hasten the advent of the 1500 targeted hours, and the Tribunal so finds. The concept of cost reduction versus the derivation of assessable income is a subtle one and will be further explored later in these reasons.
9. Mr Chew provided a detailed explanation of the steps normally taken by persons seeking a career in flying, the number of flying hours
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needed for all the various stages and the requirements of the Civil Aviation Authority. In his view the gaining of the instructor rating was an advantage ``because it will give the student an opportunity to build up his hours by teaching other people to fly'' and furthermore it added to the pilot's proficiency and thus his future employability. In his experience the progression normally followed is first the acquiring of the commercial licence succeeded by the instructor rating, then the further build up in flying hours and finally the employment as a transport pilot with one of the major companies. His answer to a question raised by the Tribunal on the arrangement between the charter company and the commercial pilot is of assistance in understanding its purpose:``Basically, it is helping them build hours up. That's basically what it gets to. In our situation at Rossair we help the commercial pilot build up hours by doing joy flights for us, or scenic flights.''
Conversely, the Tribunal sees the arrangement as being a lucrative one for the charter company. The cost of the services rendered by the pilot are offset against the amount of hire charge, which includes a component for petrol and oil, thus leaving the charter company with a profit of the major part of fees paid by passengers.
10. This dispute has as its origin a request for ruling lodged simultaneously with the applicant's 1992 income tax return and which questioned the deductibility of the following:
* depreciation of computer used solely for charter work $471 * instrument rating course $7815 * instructor rating course in order to gain additional income from the instruction of persons learning to fly $6500
After due consideration, particularly the decisions of
F.C. of T. v Highfield 82 ATC 4463 and Case R50,
84 ATC 391 and the views represented in Income Tax Rulings 285 and 2404, the respondent provided the following answers:
- • instrument rating costs and depreciation of computer aligned to existing flying business and therefore allowable deductions; and
- • applying office policy that expenses of entering a new field of employment are not allowable, the claim for the costs relating to the instructor rating course to be denied.
The applicant objected against that disallowance, the grounds being that the cost of $6500 had been incurred in gaining his instructor rating which allowed him to train others to fly. In disallowing the objection, the respondent gave emphasis to the opinion that expenditure incurred in undertaking a course will only qualify for deduction where the intention is to utilise the resultant skills in an existing occupation and that expenses of establishing a new field of operation are initial by nature and fail the test of deductibility under sub-section 51(1) of the Act. It is notable that before this Tribunal the applicant's grounds have been expanded to read:
- (1) costs were necessarily incurred in deriving assessable income;
- (2) undertaking the instructor's rating is a natural progression for a pilot with a commercial licence and it is not opening up a new income earning activity;
and that no objection on this apparent extension was forthcoming from the respondent.
11. At the hearing it was conceded by the applicant that no business activity had been engaged in and that the matter in issue is to be determined in accordance with the first limb only of the sub-section. In view of that concession, which the Tribunal accepts as being correct, it seems that the rationale applied by the respondent in arriving at his conclusions on the deductibility of the depreciation and the costs of obtaining the instrument rating was incorrectly founded.
12. The relevant provisions of the sub-section are as follows:
``51(1) All losses and outgoings to the extent to which they are incurred in gaining or producing the assessable income,... shall be allowable deductions except to the extent to which they are losses or outgoings of capital, or of a capital, private or domestic nature...''
No question arose as to quantum nor was any suggestion made that there should be any apportionment made. Either the whole of the amount was allowable or none was.
13. The language of the sub-section has been the subject of careful analysis on many occasions and it is important to observe that whatever has been or will be postulated as to its
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interpretation represents a gloss on the words contained in the legislation. Subject to that reservation, a number of principles regarding the first limb have evolved. For expenditure to form an allowable deduction as an outgoing incurred in gaining or producing the assessable income, it must be incidental and relevant to that end. The words ``incurred in gaining or producing the assessable income'' mean in the course of gaining or producing such income (seeRonpibon Tin N.L. v F.C. of T. (1949) 78 CLR 47 at p. 56). Secondly, it is both sufficient and necessary that the occasion of the outgoing should be found either in whatever is productive of assessable income or, if none be produced, in whatever would be expected to produce assessable income, see Ronpibon Tin N.L. (supra) at p. 57. From the foregoing, it is clear to the Tribunal that the extent or degree of the relationship between the outgoing and the gaining of assessable income is of prime importance. Thirdly, the cost to an employee of obtaining employment in the future does not form an outgoing incurred in the course of earning the wages payable in the employment. The expenditure would have been incurred in getting, not in doing, work as an employee. It would come at a point too soon to be properly regarded as incurred in gaining assessable income (see
F.C. of T. v Maddalena 71 ATC 4161 at 4162 and 4163). Finally, the intention or purpose of a taxpayer in incurring expenditure of the kind currently under consideration may be an element in determining whether the expense should be characterised as allowable under sub-s. 51(1)(see decision of the High Court in
Fletcher & Ors v F.C. of T. 91 ATC 4950).
14. The applicant's conceived purpose in incurring the outgoing of $6500 was to increase his flying hours and thus hasten the probability of his employment as a pilot with one of the larger airline companies. On a long term basis, the Tribunal accepts that such an appointment would provide the applicant with not only greater satisfaction but also a more remunerative position. In truth what the expenditure related to was the prospect of obtaining a new position at some stage in the distant future with a different employer. Regrettable as it may seem, expenditure of this kind does not form, on the authority of Maddalena (supra), an outgoing incurred in the course of earning the wages payable in that employment. Furthermore, there is a difference of fundamental importance between obtaining a new appointment and seeking preferment to a higher or different, but better paid, position with the same employer - see decision of Ormiston J in
F.C. of T. v Klan 85 ATC 4060.
15. In the end, it is a question of characterising the acts of the applicant as being either incidental and relevant to the operations and activities carried on for the earning of assessable income as a charter pilot employed by M, or alternatively as a means of obtaining a new position of employment with a different employer. The Tribunal takes the view that the object of the applicant was directed solely to the latter end and that as a result the outgoing was not, in the context of sub-s. 51(1), incidental or relevant to the production of assessable income. It is on that basis that the Tribunal concludes that no part of the $6500 expended was incurred in gaining or producing the applicant's assessable income.
16. The applicant placed substantial reliance upon the decision of Hill J in
F.C. of T. v Studdert 91 ATC 5006, and for that reason some comment on that matter is called for. The following facts are taken from its headnote:
``The taxpayer was a flight engineer employed by Qantas, flying in Boeing 747 passenger transport aeroplanes. Flight engineers supervise and regulate the delivery of power to the aeroplane from the jet engines. They sit directly behind the first officer, who sits beside the captain on such planes.
The taxpayer took flying lessons for which he claimed a deduction of $7,240 for the 1986/87 income year. The Commissioner disallowed the claim and the taxpayer objected.
The Administrative Appeals Tribunal allowed the objection. It found that the flying lessons improved the taxpayer's proficiency as a flight engineer. It also found that the taxpayer believed that the lessons increased his prospects of promotion to the higher grades of training flight engineer and senior check flight engineer.
The Commissioner appealed to the Federal Court. The Commissioner submitted that the Tribunal had erred in law in that: (1)... (2) it failed to consider whether the taxpayer's dominant purpose in undertaking the flying
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lessons was to retrain as a flight officer; and (3)...''
In dismissing the appeal, Hill J had the following to say on the question of dominant purpose:
at page 5011-
``... Looked at objectively, the expenditure had the necessary connection (so it was held) with the gaining or producing of the assessable income of Mr Studdert. One of the purposes, at least of the expenditure, looked at objectively, was related to Mr Studdert's activities as a flight engineer. The essential character of the expenditure on the flight lessons can be seen to fall within the first limb of s. 51(1) and that character would not be lost because the principal or dominant reason for incurring the expenditure related to a possible application for retraining as a flight officer. It follows on either basis that it was not relevant to the decision to find whether the retraining motivation was or was not dominant.''
and at page 5012:
``... While the motivation of the taxpayer in a case such as the present is not an irrelevant matter in the question of characterisation, once it was found that Mr Studdert did have, as one of his purposes or motives in incurring the outgoing, the improvement of his performance as a flight engineer, it was unnecessary for the Tribunal to determine whether, if he also had the motive of undertaking retraining as a flight officer, the latter motive was dominant or not.''
17. It is noted that the views impressed in Studdert on the subject of dominant purpose have been resisted by the respondent - see paragraph 9 of Income Tax Ruling No TR 92/8 - and yet it is accepted that, in the event of the facts and findings of this reference being in parallel to those present in that case, the judgment of Hill J is binding authority on this Tribunal. However, the Tribunal is able to distinguish the following significant variations as between the two cases, and thus its conclusion that the decision in Studdert is of no assistance in the resolution of the current dispute. First, the applicant incurred the outgoing to hasten an appointment to a new position with a new employer, whereas Mr Studdert was seeking preferment to a higher position with the same employer. Secondly, the purpose of the expenditure in our view was in no way related to the applicant's performance as a charter pilot. Unlike Studdert, there was no dual purpose, dominant or otherwise.
18. Finally, the Tribunal returns to a consideration of the financial arrangement as between M and the applicant. The evidence as to the mode of payment was not only unclear but inconsistent. Furthermore, the Tribunal is left with the evidence of a representative from an opposition air-charter company rather than one from M. Why this was so was not explained. One possible interpretation of the arrangement based on the following suggested background is that no assessable income was derived-
- • applicant possessed with ambition to become a full-time pilot and thus requires additional flying hours;
- • in that regard, applicant needs use of plane, the hire of which varies between $120 and $210 per hour;
- • because of that limiting factor, applicant agrees to take passengers while at the same time increasing his hours;
- • passengers pay M and hire fee charged to applicant correspondingly reduced.
To regard such a reduction in tariff as assessable income is in our opinion an illusion. The Tribunal did contemplate reopening the hearing and calling as a witness a representative of M. However, in view of our other findings, this was not necessary.
19. For the reasons enunciated above, the Tribunal affirms the decision on the objection.
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