Commissioner of Taxation of the Commonwealth of Australia v Rowe S160/1995 [1996] HCATrans 168 (16 April 1996)

IN THE HIGH COURT OF AUSTRALIA

Office of the Registry

Sydney No S160 of 1995

B e t w e e n -

COMMISSIONER OF TAXATION OF THE COMMONWEALTH OF AUSTRALIA

Applicant

and

ANTHONY JOHN POULSTON ROWE

Respondent

Application for special leave to appeal

BRENNAN CJ

DAWSON J

TOOHEY J

TRANSCRIPT OF PROCEEDINGS

AT SYDNEY ON TUESDAY, 16 APRIL 1996, AT 10.34 AM

Copyright in the High Court of Australia

MR D.F. JACKSON, QC: If the Court pleases, I appear with my learned friend, MR W.G. MUDDLE, for the applicant. (instructed by the Australian Government Solicitor)

MR D.G. RUSSELL, QC: If the Court pleases, I appear with my learned friend, MR H.L. ALEXANDER, for the respondent. (instructed by Hunt & Hunt)

BRENNAN CJ: Yes, Mr Jackson.

MR JACKSON: Your Honours, may I state the issue first in broad terms and then advert to several features which refine it a little further. The issue, your Honours, broadly stated, is whether a sum paid to reimburse an amount which has been the subject of a deduction under section 51(1) of the Income Tax Assessment Act is itself assessable income. There are three features which go to refine the issue somewhat. The first is that I referred to reimbursement of a deduction under section 51(1), that is a deduction on revenue account as it is sometimes put, reimbursement of deductions made under other specific provisions may give rise to different problems.

The second feature is that what is in issue is a sum which is a reimbursement of a deduction. The issue is not one concerning the making of payments which go to replace income never earned, as for example in Commissioner of Taxation v Dixon 86 CLR, where an employer made up the drop in salary of a former employee who had volunteered for war service. Your Honours, the present case is one where the sum in question was to reimburse for the expenditure which had been the subject of the deduction. Your Honours will see that very clearly at page 10 about line 20 in the finding of the Administrative Appeals Tribunal.

The third feature, your Honours, is this, that a majority in the Full Court appear to have recognised that in the case of a continuing business and, as they say expressly, of a continuing business which accounts for taxation on an accruals rather than a receipts basis; reimbursements of this kind would fall into assessable income. Your Honours, the last of those three matters and the cases left out of it by the adoption of that criterion, is a matter which is one of great importance, in our submission.

Your Honours, I will give your Honours a list in just a moment of the potential applications of the principle but may I, before saying that, just say this that the principal judgment in the majority was that of Justice Drummond. Your Honours will see the relevant parts of his Honour's reasons commencing at page 59, about line 45, in a passage which goes through for three pages to page 62, about line 40. Your Honours, could I say, if I could take your Honours very briefly to some aspects of that, that if your Honours go to the bottom of page 59 your Honours will see a proposition. His Honour is saying about line 52 that:

various cases relied on.....provide no support for the proposition -

et cetera. Your Honours will see in the first three lines on the top of the next page, he says:

These cases are all cases in which the outgoings and receipts in question were transactions that occurred in the course of carrying on a continuing business.

Your Honours will then see on that page about line 30 a reference to the fact that:

It is of the nature of a continuing business that some liabilities on revenue account will be incurred -

et cetera. Then at the bottom of the page, the last five lines, there is a reference to the fact that:

An inflated picture of the assessable income.....will be produced if expenses.....are not taken into account -

and so on. Then your Honours will see in the passage going through to line 40 on page 61 that what has been done has been to say that matters of this kind could be taken into account in dealing with the income of a continuing business and particularly one done on an accruals basis.

Your Honours, it is difficult, in our submission, to see why a similar approach should not apply in the case of cash receipts because, your Honours, the accounting methods adopted for continuing business are the means to an end, not the end in itself. The end is to determine what the taxpayers assessable income and allowable deductions were in the relevant period and that is done in the case of the accruals basis by adopting that measure. In the case of a person whose tax is done by reference to actual receipts, the object is to achieve the same thing, that is, to determine what the person's assessable income and allowable deductions were at any particular time.

Your Honours, once one makes the assumption, which lies of course behind the proposition, that what one is talking about is something which is properly regarded as being the reimbursement of something which has been the allowable deduction on a section 51(1) basis, then, in our submission, a reimbursement of that sum, by its nature, is likely, and, your Honours, in our submission, will partake of the same character, in both cases, whether it be the continuing business or the individual. Your Honours, the reasons of Mr Justice Drummond at page 61, about line 44, commencing there and going through to the end of that paragraph on page 62, do not, in our submission, really recognise that the payment in question was one to reimburse the respondent for a particular expenditure.

Your Honours, could I do three further things: the first is to refer to the decisions on the issue in the Court, and they are fundamentally two. The first is Allsop v Commissioner of Taxation [1965] HCA 48; (1965) 113 CLR 341, and your Honour, for some reason this eluded our list. May I give your Honours copies.

BRENNAN CJ: At what page, Mr Jackson?

MR JACKSON: Your Honour, there are two passages: the first at page 350 at the bottom of the page, the last paragraph on the page going over to the second line on page 351, and particularly the last four lines on page 350. Your Honours, we would wish to say about that, this, that the way in which the proposition is there expressed in that judgment appears to be that the mere allowance of the deduction is in itself sufficient. Your Honours, it may be that one has to look at the nature of the deduction but, in our submission, it should not matter.

The second feature is, your Honours, that when their Honours came to apply their approach, your Honours will see in the immediately following paragraph, third line of page 351, they said:

The primary question in the case is whether the payment.....constituted.....a refund of part of the fees -

Now, your Honours, if it had constituted a refund of part of the fees, the answer would seem to have been, or the answer was, because it did it was income. If your Honours look at the last four lines of that paragraph - I am sorry, your Honour, it was held that it was not, because it did not constitute part of it. I was thinking of the other case. If your Honours go to the last four lines of that paragraph, because it was not a refund:

there is no warrant for regarding the amount paid.....as a refund or recoupment.....of any revenue disbursement -

Your Honours, the second passage in that case at page 352, Justice Windeyer, the last five lines of his Honour's reasons where he said:

It does not appear from the material before us that the sum.....was.....paid and received as a refund -

Your Honours, the other decision is H.R. Sinclair & Son Pty Ltd v Federal Commissioner of Taxation[1966] HCA 39; (1964) 114 CLR 537. Your Honours, at page 542 - and your Honours this part of the decision, I would accept immediately, is against us - at the bottom of the page, it was said about eight lines from the bottom:

This question is a practical one and its answer cannot be made to depend upon what deductions were or were not allowed -

and that passage goes through to the top of the next page, the first five lines and, your Honours, at page 545, commencing the third line from the top of the page going to about eight lines down.

TOOHEY J: Mr Jackson, is the principle for which you contend one that is contingent upon a deduction having been claimed and allowed?

MR JACKSON: Yes, your Honour. I might perhaps add a slight qualification to that and that is that it may perhaps depend on whether the deduction was properly claimed, but our submission would be that it is sufficient that the deduction is one that has been claimed and allowed.

TOOHEY J: And if claimed and allowed, is it also your principle for which you contend that a reimbursement of that amount, whenever made, constitutes income in the hands of the taxpayer in the year in respect of which it is received?

MR JACKSON: Yes, your Honour, I emphasise in answering that, if I may with respect, that it depends upon the ability, of course, to describe the money received as being a reimbursement.

TOOHEY J: Yes.

BRENNAN CJ: Mr Jackson, you have referred to Allsop in your notes as one of the cases in which this question was left open. There is another case in which you refer to the judgment of Justice Gummow in the Federal Court, I think, where the question is left open.

MR JACKSON: Yes, your Honour, I do not think it advances the matter, with respect.

BRENNAN CJ: But it was left open in that case?

MR JACKSON: Your Honour, his Honour refers to the cases to which I have referred and says - I do not have the exact words with me - that the question may perhaps be open or something to that effect, your Honour. Your Honour, perhaps I will endeavour to get your Honour a reference in just a moment, to the words.

BRENNAN CJ: Yes. The proposition is as simple as this, is it not: deductable allowance followed by reimbursement equals assessable income?

MR JACKSON: Yes, your Honour.

BRENNAN CJ: And that is a general proposition under section 25(1)?

MR JACKSON: Yes, your Honour.

BRENNAN CJ: Section 26(e) stands in a different case, does it not?

MR JACKSON: Yes, your Honour.

BRENNAN CJ: So that your special leave point is based on section 25(1) rather than on section 26(e)?

MR JACKSON: Yes, your Honour.

BRENNAN CJ: And that proposition, you say, has been left open in Allsop's Case and possibly in Justice Gummow's?

MR JACKSON: Your Honour, in Sinclair's Case the observations of members of the Court are against us to the extent to which they are made. Our submission about them is that the cases do not give sufficient weight - when I say "the cases" I mean the observation to which I have referred - to the fact that if one leaves aside some particular feature such as a special deduction under a particular provision, they do not give sufficient weight to the fact that the conclusion that has been reached, otherwise the issue would not arise, is that the purpose of the sum, the payment, is to reimburse a deduction which has already been made on revenue account. That is the purpose of the sum.

BRENNAN CJ: So it is a section 51(1) deduction this is linked to?

MR JACKSON: Yes, your Honour.

BRENNAN CJ: So it is section 51(1) and 25(1)?

MR JACKSON: Yes, your Honour.

TOOHEY J: And would you add as an element that the reimbursement need not be the result of any contractual or other obligation?

MR JACKSON: Yes, your Honour, that is so. It may be, of course, that there is an area on the fringe where a payment is made by someone, not by reason of anything that can be attributed to the activity which has resulted in the deduction. What I mean by that, your Honour, is that perhaps there is a line to be drawn in what sometimes is called "the rich aunt" case, where someone, as an exercise in benevolence in the true sense, unrelated to any relationship other than a family one, for example, or something of that kind, would provide the money, but, your Honour, leaving aside that case, and leaving aside cases of perhaps of that kind, which is spoken of but, in reality, one would think very infrequently would be likely to arise.

TOOHEY J: A more practical example might be the raising of public moneys or moneys from the public to meet some expense that has been incurred by a particular person in defending legal proceedings or something - - -

MR JACKSON: Well, your Honour, perhaps there was an element of degree and one would need to characterise it, but if one does come to the conclusion that what ultimately is being done is a reimbursement then, prima facie, that would fall within that category. Now, your Honours, of course one sees in the Income Tax Assessment Act and in various other cases, such as the ones your Honours have just been doing, various lists of exemptions of things from the operation of the Act and if the broad proposition were one that operated harshly in particular cases, no doubt a legislature might take that into account, but the - - -

TOOHEY J: It is the breadth of the proposition that interests me because, really, your argument for special leave depends upon a broad proposition.

MR JACKSON: Quite, your Honour, yes.

TOOHEY J: Although you admit of some possible qualifications to it?

MR JACKSON: Your Honour, I do that really because one sees, for example, that in the United States where there is -and I use the expression loosely and broadly - the income and deduction system that we have in Australia. There has been the development by judge-made law of a proposition of the nature to which I have referred, that is, that reimbursements of deductions are income, and the leading case on that in the Supreme Court of the United States is Hillsboro National Bank v Commissioner of Internal Revenue [1983] USSC 41; 460 US 370. Your Honours, I can give your Honours a copy of it.

BRENNAN CJ: Mr Jackson, are you content to limit your application to appeal on the basis of section 25(1)?

MR JACKSON: Yes, your Honour. In fact your Honour will see, I think, that the only reference to section 26(e) in the notice of appeal is in paragraph 3.

BRENNAN CJ: If you are content to do that we shall now call on Mr Russell.

MR JACKSON: Yes, thank you, your Honour.

MR RUSSELL: May it please the Court, your Honours have been referred in the previous case to the decision of this Court in the Westfield special leave application and we repeat all that was then said to you.

We would first respond to our learned friend's submission by saying that even if the question of whether or not reimbursements of expenses, which have been allowed as deductions, are automatically assessable income is a proper special leave application, this is not such a case. That appears perhaps most clearly from the judgment of Justice Burchett starting at page 47 of the application book at line 41:

The payment was in no sense a reward for -

the taxpayers -

services during his employment by the Council, which had long since been determined. It was a recognition of the wrong done to him, and also of the fact that he had been forced to shoulder the task of sharing in an inquiry undertaken by the government for public purposes. The payment was not a remuneration, but a reparation. Of course, it was far from being a complete reparation, since he had had to bear the costs, which were reimbursed without interest in the currency of some years later.

So, in our respectful submission, the essential premise that this case raises the issue of whether or not reimbursement of deductable expenses automatically produces assessable income simply does not arise, based on his Honour's analysis, which we would submit, with respect, is correct.

BRENNAN CJ: Is that right? I mean, it is not remuneration. In other words, it is not a section 26(e) proposition. It is reparation, that is, a reparation for the amount outlaid.

MR RUSSELL: For part of it, as is - - -

BRENNAN CJ: Part of it, pro tanto.

MR RUSSELL: Yes.

BRENNAN CJ: Well, does that not make it precisely the sort of case that Mr Jackson is relying on?

MR RUSSELL: In our respectful submission, no, your Honour. This is not a case where a defeasible outgoing has been incurred and is subsequently defeased or where an amount is paid by a taxpayer and recovered by reason of some form of obligation associated with the payment.

TOOHEY J: But that is not the principle for which the applicant contends. The applicant would stop short by saying the outgoing has been incurred and there has been a reimbursement of the sum outlaid, not by reason of any obligation, full stop.

MR RUSSELL: Yes. Your Honour, if it is that contention which is sought to be ventilated, our respectful submission is simply that the principle is, on the authorities, to date, wrong, and not only cases such as Sinclair's Case -and your Honours have already been referred to the relevant passages there in the decisions of Justices Taylor and Owen - but also more recently, in this Court, G.P. International Pipecoaters, which really mean that that is an inevitable result of the way in which sections 25(1) and 51(1) are cast.

BRENNAN CJ: What is the reference to that?

MR RUSSELL: G.P. International Pipecoaters itself, your Honour, is 170 CLR 124 and it most clearly appears from the discussion at pages 136 and 137. Effectively the case that was put to the taxpayer in that case was the reverse of what our learned friend seeks to put here. The taxpayer was arguing that what he had received was reimbursement of a capital expense and therefore its receipt must be capital, and the Court rejected that. The point that one is really asking quite different questions rather than the same question, when one looks at sections 25(1) and 51(1) appears at the commencement of the second complete paragraph on page 136 and then the second complete paragraph on page 137.

BRENNAN CJ: This has to do with the characterisation of the payment when received and that is the problem in the present case also.

MR RUSSELL: Yes, your Honour. Could I refer your Honours also to the first complete paragraph on page 142.

DAWSON J: And you say this is simply to augment the capital?

MR RUSSELL: Yes, your Honour, as a gift, in the same way as - my learned friend used "the rich aunt" concept: if somebody makes a gift to a taxpayer which the taxpayer uses to buy trading stock, starting a business for example, there cannot be a suggestion, in our respectful submission, that the taxpayer is not entitled to a deduction and is not obliged to include the gift in assessable income.

TOOHEY J: But the analogy is not a very happy one, is it? You speak of a gift for no particular purpose but which the taxpayer chooses to expend in a certain way and it is implicit in the argument here that the money received is by way of reimbursement for the expenditure incurred.

MR RUSSELL: Your Honour, we would go further and say that if the gift was given specifically for that purpose, such as in a situation where a family, for example, were helping a child to establish a business, so the money is given to enable the purchase of trading stock and quite explicitly tied to it, there would still be an entitlement to a deduction.

DAWSON J: But is it not really - if the money was taken out of income as an expense, it is to replenish income really, albeit in a retrospective way.

MR RUSSELL: I am sorry, your Honour, I have not understood that.

DAWSON J: Well, when the money was taken in the first place, it was taken out of income - - -

MR RUSSELL: Yes, your Honour.

DAWSON J: - - - in the sense that it was a deduction from income, so that when it is given back it is to replenish income, notwithstanding that it is in a retrospective sense that that is - - -

MR RUSSELL: Your Honour, in a business sense that could be so but we would say the cases establish that the test must always be the character of the receipt in the hands of the taxpayer at the time of receipt, and time can change that; the nature of the taxpayers activity at the time can change that, and the mere fact that it was income did give rise to a deductable expense, as the cases say, in our respectful submission, may be a relevant factor, and that is recognised in the court below. What the court below has said is the mere fact that it was deductable, and we would question that anyway.

DAWSON J: I wonder why time does make a difference, because although I am not conducting that business, although I am not engaged in that profession, nevertheless, this is to augment or to replenish income which I lost.

MR RUSSELL: But, your Honour, in this sense, firstly: this is not a question of augmentation of income; this is a recovery of an expense which, in our respectful submission, the cases treat in a different manner, and the cases do treat dealings within income, assignments, right to receive income, for consideration as necessarily having the character of income. What the cases have said up until now is the mere fact that an amount is received does not automatically stamp the receipt as income. Just as this Court - - -

DAWSON J: One can accept that and that is what Mr Jackson accepted. He says the connection is with the deduction, and that is what stamps - - -

MR RUSSELL: Your Honour, in our respectful submission, that would be true only if the principle of symmetry was part of the law and, in our respectful submission, this Court has said most recently in G.P. International Pipecoaters, but also in M.I.M. Holdings, that symmetry is not part of the law.

BRENNAN CJ: This really raises what seems to me to be a quite fascinating problem, Mr Russell - - -

MR RUSSELL: Yes, I am afraid, your Honours are enticing me into talking about why it is interesting, when I am trying to persuade your Honours that it is not.

BRENNAN CJ: I mean, does it not come to this that on the approach that your argument would take, it is a question of whether the characterisation of a payment in the hands of a recipient is to be assessed by reference to the circumstances of the recipient solely at the time of the receipt? Whereas Mr Jackson's argument says, if you can look to what the payment is for, then you may find that the payment bears a different character from that which it would otherwise bear.

MR RUSSELL: Your Honour, he is, with respect, seeking to say more than that. In our respectful submission, the court below said that. They said the circumstances of what it replaces may be relevant but having looked at these circumstances, it is satisfied that they were not. The court below has not said, ignore the relevance, and all of the judges below have said that you have to take into account the circumstances of the initial deduction in determining the assessability of this. Our learned friends seek not to say that it may be relevant. Our learned friends seek to argue that it is determinative and that, in our respectful submission, is what the authorities up until now has said cannot be done and, in our respectful submission, correctly so because, effectively, if a reimbursement of an income payment is always income, which is what our learned friends seek to argue, then it is very difficult to see why reimbursement - leaving aside specific provisions of the Act - of a capital expense would not on the same principle always be capital, and yet that is precisely the proposition that was rejected by this Court in G.P. International Pipecoaters.

BRENNAN CJ: That might be an interesting proposition to debate in itself, but if the argument has been left open in Allsop, is it not time to close it?

MR RUSSELL: Your Honour, in our respectful submission, the proportion of Allsop which was read to your Honour did not draw attention to the fact that their Honours were talking in the context of a trading business.

BRENNAN CJ: Yes.

MR RUSSELL: Yes, where a refund is made to a trader in one income year.

BRENNAN CJ: Yes.

MR RUSSELL: So, in our respectful submission, that is not a position that is relevant here. I mean, the position in relation to traders is different because, as the courts have emphasised, their accounts are calculated on the basis of estimations. They take into account values of trading stock on hand. They are brought to tax on the basis of estimated receipts based on sales rather than actual receipts and so on. So it is necessarily a process of estimation and therefore there is always going to be a requirement for adjustment in later years. In our respectful submission, outside the trading concept where those adjustments form part of the nature of income, the proper process, if the question of assessability or allowability is raised by subsequent events, is through the process of amended assessments, which are provided for in section 170 of the Act. Those are our submissions, your Honour.

BRENNAN CJ: Thank you, Mr Russell.

Mr Jackson, the Court is minded to grant special leave in this case, limited however to an appeal based upon section 25(1) and upon the terms of costs which are indicated at the end of your notes of argument.

MR JACKSON: Yes, your Honour.

BRENNAN CJ: That is that the respondent shall have its costs in any event. That undertaking is given?

MR JACKSON: Yes, your Honour.

BRENNAN CJ: On those terms, special leave will be granted.

AT 11.07 AM THE MATTER WAS CONCLUDED