DFC of T v JONES

Judges:
Raphael ADCJ

Court:
District Court of New South Wales

Judgment date: 1 April 1998

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Raphael ADCJ

On 24 May 1994 Bernard Patrick Jones had the misfortune to fall into bankruptcy. For the purposes of this case the misfortune was not so much the status into which he fell but the date upon which that occurred. It is argued by the plaintiff that because the bankruptcy occurred before the end of the financial year of 1994 any tax that became payable on the earnings of Mr Jones for that financial year did not constitute a provable debt pursuant to s. 82(1) of the Bankruptcy Act 1966. This being the case the plaintiff was entitled to sue for its recovery during the existence of the plaintiff's bankruptcy and enforce any judgment obtained against those after acquired assets which were not sequestered by his Trustee.

The claim by the Fisc was admitted by its counsel to be novel and to arise from a re- reading of the provisions of both the Income Tax Assessment Act 1936 (ITAA) and the Bankruptcy Act 1966 (Bankruptcy Act). Although the change of interpretation was signalled in an article by Roger Quinn in the CCH Journal of Australian Taxation June/July 1995 it was accepted by the plaintiff's counsel that at all times prior thereto the plaintiff had operated on the basis that this liability was one for which it could prove and frequently did so. This previous practice, of course, does not bind the Fisc and it falls to me to decide whether this blinding flash of perception heralds a new age in tax collection or is merely a false dawn.

It is common ground between the parties that if the obligation to pay tax falls within the definition of provable debts in s. 82 of the Bankruptcy Act then the claim must fail. Section 82 is in the following terms:

``82(1) Subject to this Division, all debts and liabilities, present or future, certain or contingent, to which a bankrupt was subject at the date of the bankruptcy, or to which he or she may become subject before his or her discharge by reason of an obligation incurred before the date of the bankruptcy, are provable in his or her bankruptcy.''

In
Official Trustee in Bankruptcy v CS and GJ Handby Pty Ltd (1989) 7 ACLC 1,070 at page 1,074; (1989) 21 FCR 19 at page 24 Morling, Beaumont and Burchett JJ said:

``Section 82(1) and its precursors have been generously construed. In
Ex parte Llynvi Coal & Iron Co; In re Hide (1871) LR 7 Ch App 28 at pp 31-32, James LJ said (of sec 31 of the English Bankruptcy Act, 1869):

`Every possible demand, every possible claim, every possible liability, except for personal torts, is to be the subject of a proof in bankruptcy, and to be ascertained either by the Court itself or with the aid of a jury. The broad purview of this Act is, that the bankrupt is to be a freed man - freed not only from debts, but from contracts, liabilities, engagements and contingencies of every kind. On the other hand, all the persons from whose claims, and from liability to whom he is so freed are to come in with the other creditors and share in the distribution of the assets.'''

At ACLC page 1,075; FCR page 25 their Honours said:

``... There is no reason why sec. 82(1) should be read down so as to pick up only claims which may be made under the general law. On the contrary, there is every reason to suppose that it was intended that sec. 82(1) should extend to debts or liabilities arising under a statute.''

The Commissioner's argument is that it matters not how widely s. 82(1) is construed because that section is always limited to liabilities to which a bankrupt was subject at the date of the bankruptcy or to which he or she may become subject before his or her discharge by reason of an obligation incurred before the date of the bankruptcy. In this case the assessment issued on 30 January 1996 which was before Mr Jones was released from his bankruptcy on 23 May 1997 and was therefore an obligation to which he became subject before his discharge. The question to be answered is whether the obligation was incurred before the date of the bankruptcy. The plaintiff says no. It argues that no obligation to pay tax is incurred before the very end of the year of assessment. It says that until such time the constituents of the taxation obligation are not present.

Income tax is imposed under the ITAA.

``17(1) Subject to this Act, income tax at the rates declared by the Parliament is levied, and shall be paid, for the financial year that commenced on 1 July 1965 and for each succeeding financial year, upon the taxable income derived during the year of income

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by any person, whether a resident or a non- resident.''

Taxable income is defined under s. 6 of the ITAA as meaning:

``(a) except in a case where paragraph (b) or (c) applies - the amount remaining after deducting from the assessable income all allowable deductions;...''

Assessable income was defined at the relevant time as meaning:

``... all the amounts which under the provisions of this Act are included in the assessable income;...''

If this latter definition has some circulatoriness about it, it is one of the many apparent instances of this vice within the ITAA. The plaintiff submits that as it is impossible to calculate a taxpayer's taxable income until, at the earliest, midnight on 30 June in any one year the obligation to pay tax does not arise until that moment. The Fisc supports that position with the following submission:

``For example, in the present case the total tax for the 1994 year could not be known until 30 June 1994, as between the date of bankruptcy and that date further deductions could arise which could reduce or eliminate the liability to pay at all.''

In support of this contention the plaintiff makes reference to a number of cases that are also prayed in aid by the defendant. These are:

``Re Mendonca; ex parte Commissioner of Taxation 15 F.L.R. 256 at 259;
Commissioner of Stamps v The West Australian Trustee Executor and Agency Company Limited 36 C.L.R. 98 at 105, 118;
Deputy Federal Commissioner of Taxation v Brown 100 C.L.R. 32 at 51-52, 58 and 64;
Clyne v Deputy Commissioner of Taxation 150 C.L.R. 1 at 16;
Taylor v Deputy Commissioner of Taxation 16 F.C.R. 212 at 218-219;
Guyana Investments Limited v I.R.C. (No 2) [1971] A.C. 841.''

I have some difficulty with the assertion made by the plaintiff for the following reasons:

• 1 In Re Mendonca Gibbs J as he then was stated at page 259:
  • ``It is now settled that the effect of these and similar provisions is that the liability to income tax is imposed by the statute itself and that assessment is only a method of ascertaining the extent of the liability...''
• 2 In the Commissioner of Stamps case Knox CJ at page 104 said:
  • ``In my opinion, the Income Tax Act imposed on every person who during the year ended 30 June 1922 derived from sources in Australia income which was ``taxable'' according to the provisions of the Assessment Act an obligation to pay income tax at the rate declared. The obligation, I think, existed from the moment when the Income Tax Act became law.''
• At page 105 he stated:
  • ``It is true that income tax is not payable until thirty days after assessment, but the liability or obligation to pay imposed by the Income Tax Act comes into existence on the passing of that Act.''
• 3 In DFC of T (NSW) v Brown [(1958) 11 ATD 374] the court was dealing with a late assessment made after the death of the taxpayer and held that the Commissioner did have the right to claim in the estate. At ATD page 386; CLR page 58 Kitto J said:
  • ``As to the first of these questions, it may be observed that the deceased was at the time of his death under an actual liability, under taxing Acts already in force, to pay tax on all the income to which the amended assessments and the original assessments relate.''
• 4 In Clyne discussion revolved around the word ``due'' and the words ``due and payable'' in respect of notices under s. 218 of the Tax Act. These are terms which it is not necessary for me to construe because to be covered by s. 82(1) all that is needed is an obligation.
• 5 In Taylor [87 ATC 4441] the plaintiff's submissions referred to ATC pages 4445-4446; FCR pages 218 and 219 of the report which to my mind are so important that I will set them out in extenso:

Woodward and Northrop JJ:

``At [Clyne & Anor v DFC of T & Anor 81 ATC 4429; (1981) 150 CLR 1] ATC p 4437; CLR pp 16-17 Mason J, with whose reasons Aickin and Wilson JJ agreed, considered the same question. The following quotation is taken from part of that consideration:

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`However the correct view in my opinion is that income tax is due when it is assessed and notice is served of that assessment and that the tax does not become payable before the date fixed by sec 204. Dixon CJ, McTiernan, Williams, Webb and Fullagar JJ in
George v FC of T (1952) 86 CLR 183 at p 207 said that ``tax is only due after it is `assessed' (see, for example, sec 204)''. I recognize that on other occasions members of this Court have said that ``tax is a debt due and owing, although not payable, notwithstanding that no assessment has been made'', in the words of Gibbs J in
Re Mendonca; Ex parte Federal Commissioner of Taxation (1969) 15 FLR 256 at p 259. This approach can be traced back to the majority decision of this Court in
Commr of Stamps (WA) v West Australian Trustee, Executor and Agency Co Ltd (Mortimer Kelly's Case) (1925) 36 CLR 98, especially at pp 105, 116 and 118. I think that the decision is to be explained on the footing that it was held that a debt for income tax not assessed until after the deceased's death was a ``debt due by the deceased'' for the purposes of Acts imposing death and probate duties. The decision was so explained by Taylor J (dissenting) in
DFC of T v Brown (1958) 100 CLR 32, at pp 63-64 and this explanation derives support from the judgments of Higgins and Starke JJ, if not from the judgment of the third member of the majority, Knox CJ, in Mortimer Kelly's Case.'

In the light of these expressions of opinion, it is necessary to consider whether the provisions of sec 82 of the Bankruptcy Act apply where an assessment has not been issued and served at the time of the bankruptcy. It should be emphasised that this question arises from the application of an Act other than the Income Tax Act: cf what Mason J said in Clyne's case (supra). On a literal application, the liability imposed by sec 17 of the Income Tax Act would seem to be a liability within sec 82 of the Bankruptcy Act. In the absence of an assessment, the tax is not due, in the sense of owing, and is certainly not payable. It is a liability contingent on an assessment being issued and served. If an assessment is issued and served before the discharge of the bankrupt, does the bankrupt become subject to that `liability by reason of an obligation incurred before the date of the bankruptcy'?

In the Income Tax Act, `assessment' means the ascertainment of the amount of taxable income and of the tax payable thereon; see subsec 6(1). In some respects, an assessment means a calculation but it also means the result of the calculation which is reduced to writing, issued and served on the taxpayer. The assessment therefore constitutes the formal statement of the amount of tax that a taxpayer is liable to pay under sec 17.

In the present case, the default assessment for the financial year ending 30 June 1980 was issued to the applicant before he was discharged from his bankruptcy. In those circumstances, it is not necessary to consider the application of the other provisions of sec 82 of the Bankruptcy Act and in particular sec 82(4), which permits the estimate of a contingent liability. Nor is it necessary to consider what the legal position is when the assessment is made with respect to a financial year part of which coincides with a period of bankruptcy. In such circumstances, the provisions of sec. 168 of the Income Tax Act may enable two assessments to issue with respect to any one year commencing on 1 July. One special assessment would be with respect to the period from 1 July to the date of bankruptcy and the second special assessment from the date of the bankruptcy to 30 June. The first assessment would be a provable debt in the bankruptcy and the second would not.

It follows from what has been said that, in the present case, apart from sec 221H of the Income Tax Act, the assessment issued for the year ending 30 June 1980 would be a provable debt in the applicant's bankruptcy.''

(emphasis added)

• 6 Guyana Investments dealt with the use of the words ``debt owed by him on that date''. In the course of finding that the appellant could not obtain a deduction against one tax for his liability under another because it was not a ``debt due by him on that date'' their Lordships made a number of observations which would respectfully appear to provide support for the defendant's position in this

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  ATC 4378

  case. At p. 848 Lord Donovan giving judgment for the committee said:
  • ``In Income Tax Commissioner v Barcellos (1957) L.R.B.G. 105, the question arose whether income tax assessed in what was then British Guiana, upon a person after the date when a receiving order was made against him, but referable to income earned before that date, was provable as a debt in insolvency. Stoby J held that it could: and in the course of his judgment allowing the proof said, at p. 106:
    • `As soon as income is derived in the colony over and above a certain sum the obligation to pay income tax arises. The taxpayer's liability does not depend on the arithmetical calculations of a government official: it is the extent of his liability which is dependent on the ascertainment of his chargeable income. A clear distinction must be drawn between the liability to pay on the one hand and the amount required to be paid as a result of the liability on the other hand'. And again... `in the present case the obligation to pay tax arose as soon as the income was earned.'
  • Not unnaturally, the appellant company relied heavily on these observations: but in their Lordships' opinion they refer to a completely different state of affairs. They do not assist the appellant company's case if the true sense in which the words `obligation' and `liability' were being used by Stoby J is considered. What he is clearly meaning is that by virtue of the charge to income tax imposed by the Income Tax Ordinance, the moment that a taxpayer receives taxable income he incurs a prospective obligation or liability to pay income tax therein in due course and subject to the provisions of the Income Tax Ordinance. He acquires, it may be said, a status of taxability. Stoby J could not have meant that the moment chargeable income accrues to a taxpayer a debt for tax thereon at once becomes owing. For during the rest of the year many things could happen which might expunge the prospective liability altogether, for example the suffering of losses in excess of the income. And it is not to be supposed that Stoby J intended to give the go-by to all those provisions of the Income Tax Ordinance which have to be obeyed before a taxpayer is required to pay a penny.
• The same comment may be made upon the appellant company's use of a passage from Lord Dunedin's speech in
  Whitney v Inland Revenue Commissioners [1926] A.C. 37, 52:
  • `Now, there are three stages in the imposition of a tax: there is the declaration of liability, that is the part of the statute which determines what persons in respect of what property are liable. Next, there is the assessment. Liability does not depend on assessment. That, ex hypothesi, has already been fixed. But assessment particularises the exact sum which a person liable has to pay. Lastly, come the methods of recovery, if the person taxed does not voluntarily pay.'''

It is my view that the defendant can obtain considerable comfort from Lord Donovan's analysis. He identifies the taxpayer's status during the year of assessment as a taxpayer whose obligation is contingent upon his taxable income exceeding his deductions. It is true that the calculations cannot be carried out until after the 30 June in the year of assessment but the obligation remains and only ceases after the time limit for the Commissioner to impose an assessment or amended assessment upon him has expired.

The most telling support for the above position in Australia is given by the Full Federal Court in Taylor in the passage cited above. In case it is suggested that their Honours were dealing with a case in which the year of assessment had been completed it is to be remembered that Mr Taylor is deemed to have become bankrupt on the first moment of 30 June 1980
Re Pollard; Ex parte Pollard [1903] 2 KB 41 and s 57A Bankruptcy Act 1966. At any time between 12.01am and midnight Mr Taylor could have incurred obligations which might have been deductions for that year and he was thus in no different position to that of the unfortunate Mr Jones.

In his submissions Mr Francis Douglas QC for the defendant made reference to two important cases on the meaning of contingent liability:

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``The House of Lords also considered the meaning of `contingent liability' in In re Sutherland, dec'd [1963] ACT 235, which was relied upon by Owen J in the Community Development case. At issue in In re Sutherland, dec'd was the value of certain shares held by the deceased at the time of his death for estate duty purposes. The shares had to be valued by reference to the net value of the assets of the company in accordance with the provisions of ss. 50 and 55 of the Finance Act 1940. These sections required that an allowance be made for all liabilities of the company, including contingent liabilities. The assets of the company at the date of death included certain ships for which the company had received capital allowances (similar to depreciation under s. 54 of the Tax Act). If the ships had been sold when the deceased died for their agreed value, there would have been a balancing charge which would have given rise to liabilities for income tax and profits tax amounting to £370,000 for income tax and profits tax. The issue was whether the liability for tax arising from a balancing charge was a contingent liability of the company at the date of death. The House of Lords held, by majority, that it was.''

Lord Reid said (at page 247):

``No doubt the words `liability' and `contingent liability' are more often used in connection with obligations arising from contract than with statutory obligations. But I cannot doubt that if a statute says that a person who has done something must pay tax, that tax is a `liability' of that person. If the amount of tax has been ascertained and it is immediately payable it is clearly a liability. If it is only payable on a certain future date it must be a liability which has `not matured at the date of death' within the meaning of s. 50(1). If it is not yet certain whether or when tax will be payable, or how much will be payable why should it not be a contingent liability under the same section?''

Later he said (at page 249):

``The third class is `contingent liabilities' which must mean sums, payment of which depends on a contingency, that is, sums which will only become payable if certain things happen, and which otherwise will never become payable. There calculation is impossible, so the Commissioners are to make such estimation as appears to be reasonable.''

And (at page 251):

``The essence of a contingent liability must surely be that it may never become an existing legal liability because the event on which it depends may never happen.''

Lord Guest said (at page 262):

``Section 50(1) refers both to liabilities which have not matured at the date of death and to contingent liabilities. Contingent liabilities must, therefore, be something different from future liabilities which are binding on the company, but are not payable until a future date. I should define a contingency as an event which may or may not occur and a contingent liability as a liability which depends for its existence upon an event which may or may not happen.''

Later said (at page 264):

``The liability for such a balancing charge was, in my view, a `contingent liability' within the meaning of s. 50(1) of the Act of 1940, the liability being contingent upon the ships being sold at a price in excess of their written down value.''

He might also have added this quotation from Lord Birkett at p. 253:

``It was argued that an existing legal liability was essential to the creation of a contingent liability, and that no such legal liability existed in this case at the date of Sir Arthur's death. In my view this is to take too narrow a view of the true meaning of contingent liability.''

In
Commissioner of State Taxation (WA) v Pollock 93 ATC 5220, the Commissioner brought actions against a company director under s. 556 of the Companies (Western Australia) Code 1981 to recover unpaid pay-roll tax on the basis that when the debt for pay-roll tax was incurred, there were reasonable grounds to expect that the company would be unable to pay all its debts when they became due. At first instance it was ordered that the statements of claim be struck out on the basis that they did not disclose a cause of action. On

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appeal, the issue was whether the orders striking out the statements of claim were properly made. It was held that they were not. In the course of his judgment Ipp J, with whom Wallwork J agreed, discussed the nature of the liability for pay-roll tax under the Pay-roll Tax Assessment Act 1971 (WA), and said, at p. 5231:

``In my view, pay-roll tax only becomes owing when the pay-roll tax in question is capable of calculation and that will ordinarily be upon the expiry of the month in which pay-roll tax liability has been incurred.

However, when an employer employs an employee to work in a given month, in consideration for the payment for wages, the employer becomes liable under the Pay-roll Tax Assessment Act to pay-roll tax in an amount which can only be ascertained in the future. In such circumstances the employer incurs a contingent liability to pay pay-roll tax.

In my opinion, by such conduct, the employer becomes liable to a contingent debt. That contingent debt matures into a debt that is owing when the liability to pay- roll tax is ascertainable.''

The combined effect of all the authorities referred to above is as follows:

• 1 The obligation to pay tax is an obligation derived from the statute.
• 2 The obligation commences at the beginning of each financial year even though the amount of tax cannot be ascertained until its end. Ascertainment is merely an accounting exercise which first fixes the obligation to pay such tax as is due and then makes the tax itself due and payable.
• 3 The obligation which commences at the beginning of the tax year is a contingent debt liability which matures into an actual liability when the amount of the debt is ascertained.
• 4 The contingent liability is one which is caught by the wide definition of s. 82(1).

The parties have agreed that if there is no liability for primary tax there is no liability for penalties (see
DFC of T v Kavich and Official Trustee in Bankruptcy 96 ATC 4752; (1996) 68 FCR 519).

The plaintiff's debt being a provable debt in the defendant's bankruptcy I order that the current proceedings be dismissed and that the plaintiff pays the defendant's costs.