Commissioner of Taxation v McNeil [2006] HCATrans 39 (10 February 2006)

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Commissioner of Taxation v McNeil [2006] HCATrans 39 (10 February 2006)

Last Updated: 14 February 2006

[2006] HCATrans 039

IN THE HIGH COURT OF AUSTRALIA

Office of the Registry
Sydney No S415 of 2005

B e t w e e n -

COMMISSIONER OF TAXATION

Applicant

and

HELEN MARY McNEIL

Respondent

Application for special leave to appeal

GLEESON CJ
KIRBY J

TRANSCRIPT OF PROCEEDINGS

AT SYDNEY ON FRIDAY, 10 FEBRUARY 2006, AT 9.33 AM

Copyright in the High Court of Australia

MR B.J. SHAW, QC: If the Court pleases, I appear with my learned friends, MR G.J. DAVIES, QC and MR S.H. STEWARD, for the applicant. (instructed by Australian Government Solicitor)

MR D.H. BLOOM, QC: May it please your Honours, I appear with my learned friend, MR J.H. MOMSEN, for the respondent. (instructed by Malleson Stephen Jaques)

GLEESON CJ: Mr Shaw and Mr Bloom, I think it is quite likely, although I do not positively know, that my wife is in the same position as Mrs McNeil. She is a shareholder in this company and it is her habit, although I do not discuss the details with her, not to respond to buy-back offers.

KIRBY J: I hope she has more shares.

MR SHAW: Your Honour’s wife is not in quite the same position as Mrs McNeil in view of your Honour’s presence here. We have absolutely no objection, if your Honour please.

MR BLOOM: Nor us, your Honour.

GLEESON CJ: Yes, Mr Shaw.

KIRBY J: How many are affected by this?

MR SHAW: Between 80,000 and 81,000, your Honour.

KIRBY J: It seems an ungenerous costing arrangement you have had, that each side pay its own costs in the past. I mean, it is put forward as a test case.

MR SHAW: It is put forward as a test case, your Honour, yes.

KIRBY J: You would not get that in this Court, I would think, if you are coming up here on a test case, unless there is something we do not know. Anyway, let us get a little bit further down the track before we talk about the grubby subject of costs.

MR SHAW: Your Honour, first of all, it is a test case. It does affect a large number of people. Secondly, it also affects the future of arrangements like this, because the question arises here whether it turns out, despite the attempts to fix up 160M(7), there is a hole in the net created by the tax on income and the tax on capital gains.

GLEESON CJ: Yes, the general issue may be important but the 80,000-odd people who are affected by this particular case are all affected in a very modest way financially.

MR SHAW: They are affected in a modest way, that is true, your Honour.

KIRBY J: But in aggregate it is not modest?

MR SHAW: But the aggregate is quite a substantial amount, and it seems to be a question of some significance for the future. The next thing we would say is this, that there is one initial problem with the decision of the Full Federal Court and that is that one member was a dissentient and the majority were two. Justice Dowsett took a view of the effect of the documents different from the view taken by the other judges who considered the matter because he took the view that the initial resolution of the company to enter into the scheme created rights in the shareholders. He does not explain exactly why he did that, but that conclusion affects the course of his reasoning. So you have a majority in which the reasoning of the two judges constituting the majority is different.

GLEESON CJ: You lost 3:1 on the income issue and 4:0 on the capital gains issue.

MR SHAW: Yes, we did.

GLEESON CJ: The income issue seems to involve the application of established principles to particular facts and circumstances.

MR SHAW: No, your Honour.

GLEESON CJ: The capital gains issue seems to raise an issue of general importance about the construction of the statute.

MR SHAW: In our submission, even the income argument does, and it is for this reason that – first of all, we would say it is clearly arguably since we have Justice Emmett agreeing with our submissions, but secondly, when one looks at what the majority did, it is clear, it is submitted, that what they did was come to their conclusion based either wholly or largely on taking a view of the effect of the arrangement from the point of view of the company. In our submission, it is not a question of looking at whether it is income or not from the point of view of the company; it is a question of looking at it from the point of view of the taxpayer.

GLEESON CJ: From the point of view of the shareholder, a share buy-back just involves selling your shares to the company rather than on the market. That may or may not give rise to a capital gain depending on the cost base of the shares.

MR SHAW: Yes.

GLEESON CJ: But what is special about it is what would otherwise be an unauthorised reduction of capital.

MR SHAW: But, of course, what happened here was that Mrs McNeil did not sell her shares back. What she did was sell the share back or, rather, the trustee on her behalf sold the sell-back rights. The question is, is the value of then or the value of what is received for the sale of an income nature, when it is simply like just another dividend, it is submitted.

GLEESON CJ: Why were the share sell-back rights not just part of the value of the share that she held?

MR SHAW: Because, your Honour, the shares had whatever rights were given to them by the articles of association and the rights which arose in relation to the sell-back or buy-back arose out of the various transaction documents into which the parties entered. It arises out of the setting up of the trust, the contracts and so on, not out of the rights attached to the shares, although Justice Dowsett says that the effect of the scheme was to alter the rights attached to the shares.

So we would submit that in relation to the income argument an important question of principle does arise in relation to income from property, whether you look at the character of the payment from the point of view of the person who makes the payment or the person who receives it, and in GP International Pipecoaters, as your Honours know, the Court said:

The question in this appeal –

where the question was whether something was income or not –

is the character of the establishment costs as receipts in the hand of the taxpayer.

Then they cite Scott:

“Whether or not a particular receipt is income depends upon its quality in the hands of the recipient”.

If I could take the Court to the application book at page 65, in paragraph 44 at the bottom of the page, Justice French cites from Parsons, and at the top of page 66 his Honour says:

The present case is not one which the entitlement conferred upon the Taxpayer by reference to the creation of Sell Back Rights could be regarded in any relevant sense as produce of her shares. It was not an entitlement derived from profits earned by the company. It arose out of the decision by the company to reduce its issued capital through a buy back process.

He repeats that concept on the next page at line 33 or 34, where he says:

The entitlement itself was a product of the capital restructuring process.

So, first of all, he is saying it is not at a profit, which is an irrelevant matter, it is submitted. That is relevant if one is looking at section 44 because section 44, which relates to taxation dividends, does require the dividends to be declared out of profits but, as is pointed out by Justice Dowsett at page 118, citing from the dissenting judgment of Justice Kitto in Uther’s Case, which was approved by the Court in Slater – and this is about three lines down from the top of the page:

The point is that the enactment of section 16AA together with the definition had the effect of making shareholders in a company which is a going concern assessable to tax on a principle fundamentally different from that of previous legislation. The criterion for the inclusion of a shareholder’s receipts from the company is no longer the “dividend” character of the receipts, that is to say their income character when considered from the shareholder’s point of view; it is the profit character – from the company’s point of view – of the source from which distribution should be made.’

That is relevant to section 44 but not relevant to the question which arises here. What Justice French has done, it is submitted, is really look at the matter in the sort of way that section 44 provides for, but that is not the question.

GLEESON CJ: Is your primary argument the income argument or the capital gains argument?

MR SHAW: Your Honour, the primary argument is the one which succeeds.

GLEESON CJ: I notice that there was a ruling on this.

MR SHAW: Yes, there was.

GLEESON CJ: How did the ruling approach it?

MR SHAW: As income, your Honour.

GLEESON CJ: Could you state in a summary form the capital gains argument?

MR SHAW: Yes, your Honour. The capital gains argument is this. First of all, one is concerned with CGT event H2. H2 is the result of the amendments made in order to fix up, so it was hoped, the difficulties which have been disclosed in Hepples in the old section 160M(7) and, first of all, what one has here is it is perfectly true that the members of the court all held that H2 did not apply, but they did so for different reasons. So what has happened is we have returned to the previous chaos. It is important that this CGT event which is an important one – it is an important one because it is the last hook, as it were. It only applies if none of the other CGT events do not apply.

What one needs to know is what its true meaning is, so that it can be properly applied, and that this position just leaves it in a mess. Not only is that so, but what has happened is that in some of what the court has said they seem to have flown in the face of the example given in the section. That example will be found at page 144, line 25. The example is:

‘You own land on which you intend to construct a manufacturing facility. A business promotion organisation pays you $50,000 as an inducement to start construction early.

No contractual rights or obligations are created by the arrangement.

The payment is made because of an event (the inducement to start construction early) in relation to your land.”

Now, one of the reasons why both Justice French and Justice Emmett said that H2 did not apply was that it was impossible for something to be at once “the act, transaction or event” and the consideration for it, but the example shows it can be, and the example is, by force of section 2 of the Act, part of the Act. So that, in our submission, that reason must be wrong.

The other reason that is given, or principal reason that is given, is that “the act, transaction or event” was not in relation to an asset of the taxpayer because it was in relation to the shares held by the taxpayer on the record date, which was 23 January, not the date on which the grant of the sell-back rights was made, which is 19 February. But, quite apart from anything else, the taxpayer still held the shares. How can one say it is not in relation to her shares?

In our submission, it is taking altogether too strained an interpretation to come to the view that the court came to, but further than that, Justice Emmett introduced another criterion for liability that there had to be some juridical act by the relevant taxpayer that gives rise to the receipt of the money or the entitlement to receive money, and Justice Dowsett held that because the act, that is to say the grant of the rights, did not confer any benefit on the taxpayer there was not any relevant act.

GLEESON CJ: Mrs McNeil did nothing. On day 1 she owned some shares in St George Bank that were worth a certain amount of money – it varied from day to day depending on the market – and on day 2 she still owned the same shares that were still affected by the market, whatever it happened to be from day to day, but in the meantime there had been this buy-back in respect of which she just did nothing.

MR SHAW: Your Honour, that may be true, and that may show that she did not do anything, but it does not show, in our submission, that there was no “act, transaction or event” in relation to her shares. There was. There was a creation of the sell-back rights by reference to the number of shares she held.

GLEESON CJ: Let us hear what Mr Bloom has to say.

KIRBY J: Did you have anything, before you sat down, by way of inducement on the issue of costs? This is a 90-year-old woman with a very small shareholding - - -

GLEESON CJ: For Mrs McNeil and for almost all the other shareholders in the St George Bank company, I would imagine, the amount of money involved in this issue is miniscule.

MR SHAW: In this particular - yes, your Honour. Your Honour, I am instructed that we are prepared to pay costs in any event.

GLEESON CJ: And not to disturb the orders for costs made in the courts below?

MR SHAW: No, your Honour.

GLEESON CJ: Yes, Mr Bloom.

MR BLOOM: If your Honours please. It is true, of course, there was some divergence in the reasoning below but, in our respectful submission, the ultimate conclusion on both issues is clearly correct. There was certainly no divergence in the Full Court in relation to the one issue on CGT, which was that the grant of the sell-back rights to the trustee who held them for people in the position of Mrs McNeil was not relevantly an act which when it did occur occurred in relation to an asset of the taxpayer, which is what the section requires, and the cases have held that that connection must be a real one at the time of the alleged act or event.

Your Honours, this Court dealt at length with the predecessor to this section, which was section 160M(7), in Hepples’ Case and since then the only alteration to the section has been to strengthen it in favour of taxpayers by insisting that the asset that must be affected, et cetera, by the Act is an asset of the taxpayer.

KIRBY J: It said that it was dealt with at length but not with much assistance and that chaos reigned.

MR BLOOM: Your Honour, that cannot be right because Mr Shaw and I were called back to tell the court what had been decided, with respect. There was a separate reargument based on the M(6) and M(7) arguments in which it was ultimately very clear what had been decided.

KIRBY J: Of course, what the Commissioner sees as chaos may not be seen as chaos by everyone else.

MR BLOOM: Or why he says it is chaos, your Honour. In terms of the income issue 2, we say with respect that the decision of the court below is clearly correct and that the decision of Justice Emmett is demonstrably wrong, and I will come to that in a moment. If I could just go back to the basic propositions. The Commissioner seeks to tax either $514 which he asserts to be the value of the taxpayer’s rights as a beneficiary when they were created on 19 February, or the amount of $576 which she received in satisfaction of those rights.

Now, if we go first to the $576 amount, if the rights are themselves capital, then what she received in satisfaction of them is capital. So the real question is, what is the nature of the rights when she received those? I might also add that there was for capital gains tax purposes a deemed disposal at the point of satisfaction of the rights, and she did return the difference between that $514 figure and the $576.

Now, the value of the rights as a beneficiary, whatever that value might be – and let us assume for a moment it is $514 – is not assessable income at the time of the creation. There is a special section that taxes the value to a taxpayer of benefits granted in limited circumstances. That section is set out in a case to which we have referred your Honours, Donaldson at page 17. It is section 26(e) and it still applies, though it is in the 1936 Act, and it taxes:

the value to the taxpayer of allowances, gratuities, compensations, benefits, bonuses and premiums allowed, given or granted to him in respect of, or for or in relation directly or indirectly to, any employment of or services rendered by him –

Now, those preconditions, of course, are not present here and one needs a section just like this to make the value of such a benefit taxable, but there is limited circumstances in which this section applies, of course, that do not apply to Mrs McNeil.

Now, his Honour Justice Emmett at paragraph 90, which is on page 81 of the application book, says that – and, with respect, gets it wrong:

By granting Sell Back Rights to the Taxpayer –

that never happened –

the Company conferred on the Taxpayer the right to require the Company to buy 272 shares . . . By doing so, it created for the Taxpayer the opportunity of obtaining a benefit equal to that excess. It granted that benefit to the Taxpayer, by reason of the Taxpayer’s holding shares in the Company.

Then at the beginning of 91:

Notwithstanding that, when the benefit was actually conferred by the Company, the Taxpayer was not required to be a Shareholder. The benefit, at the time it was granted, was a gain or profit proceeding from the shares –

Now, he therefore says that the benefit – and one presumes the value of it – is something which is a gain or profit to her at that point in time. Then over at 101 on page 84 of the application book, he says, no, it was really the payment of $576 because “that proceeded from the Taxpayer’s shares in the Company”. So he would not bring into the assessable income the value of the rights. He would bring into the assessable income the 576. Now, that is to do something which Sir Nigel Bowen cautioned against in Donaldson’s Case at page 20 based on the decision of the House of Lords in Abbott v Philbin. At about point 3 of the page after the second reference to section 26(e) he says:

Indeed, it is to confuse the enjoyment of the fruit of the rights with the enjoyment of the rights, a mistake made in argument on behalf of the Crown in Abbott v Philbin.

She gets the $576, your Honours, in satisfaction of her rights. If those rights are capital, so is the 576. The question is, are the rights income, and there is no section which takes the value of such rights and makes them capital.

Your Honours, ordinarily when the legislature wishes to cash payments by a company for the benefit of its shareholders it has always done so by enlarging the definition of “dividend” and, where necessary, deeming the payments which are treated as dividends to have been paid out of profits. If there really is a problem here for the future, your Honours, that is what it can do now. It can always enact legislation. Indeed, it does so on an almost daily basis in relation to the Tax Act.

Here there was no dividend within the very broad terms of the Tax Act. Bonus shares, your Honours, bonus debentures and rights granted by companies are not income and they are not dividends, and nor was anything paid out of the profits of the bank, and that still remains the precondition, actual or deemed, to dividends being assessable income

So, your Honours, that deals with the income question. So far as the CGT issue is concerned, my learned friend put what is, with respect, an entirely circular argument with a straight face, which is to his credit, but he says that the grant to the trustee on 19 February of sell-back rights was at that time an act in relation to the taxpayer’s shares, and then the value of that which was granted is the consideration because of the grant.

Your Honours, one only has to say it to understand that you cannot understand it. It just does not make sense and it cannot be right. My learned friend says it may be that the words of the Act do not say that but there is an example in there which, if you take that as far as you can possibly take its words, somehow overrides the words of the statute itself, and that cannot be right either, with respect, your Honours.

The former proposition which underlies the capital gains tax point is also wrong. The grant to the trustees on 19 February took place because the taxpayer was on the bank’s register on the preceding 23 January. Now, the section only applies where the act, when it happens, happens in relation to an asset of the taxpayer. At the time of the act here it was completely irrelevant who owned the shares which the taxpayer had owned on 23 January, and the grant, therefore, did not have that connection which the section requires.

Your Honours, my learned friend says it so happened that Mrs McNeil, who of course did nothing until she got $576, still held her shares. Well, it is part of doing nothing, of course. But if this is seen to be a test case involving 80,000 people who were shareholders, some of those will have sold their shares. So the proposition either has to be right according to those who have sold it and those who retained it or the proposition is entirely wrong. If your Honours please, special leave should not be granted.

GLEESON CJ: In this matter there will be a grant of special leave to appeal on condition that the applicant agrees to pay the costs of the appeal in any event and not to seek to disturb the orders for costs made in the courts below.

MR SHAW: We do, your Honour.

MR BLOOM: If the Court pleases.

AT 9.59 AM THE MATTER WAS CONCLUDED