Handbury Holdings Pty Ltd v Commissioner of Taxation of the Commonwealth of Australia [2010] HCATrans 113 (23 April 2010)

Last Updated: 29 April 2010

[2010] HCATrans 113

IN THE HIGH COURT OF AUSTRALIA

Office of the Registry
Melbourne No M99 of 2009

B e t w e e n -

HANDBURY HOLDINGS PTY LTD

Applicant

and

COMMISSIONER OF TAXATION OF THE COMMONWEALTH OF AUSTRALIA

Respondent

Application for special leave to appeal

HAYNE J
CRENNAN J

TRANSCRIPT OF PROCEEDINGS

AT MELBOURNE ON FRIDAY, 23 APRIL 2010, AT 2.43 PM

Copyright in the High Court of Australia

MR S.H.P. STEWARD, SC: If the Court pleases, I appear with my learned friend, MR F.D. O’LOUGHLIN, for the applicant. (instructed by Hall & Wilcox)

MR J.W. DE WIJN, QC: If the Court pleases, I appear with my learned friend, MR P.D. NICHOLAS, for the respondent. (instructed by Australian Government Solicitor)

HAYNE J: Yes, Mr Steward.

MR STEWARD: Your Honours, Mr Bloom was originally to have appeared in this matter. He has been prevented from forces - - -

HAYNE J: We understand that he has been dusted off.

MR STEWARD: He has been dusted off, your Honour. He sends his apologies. I was actually going to say he has been prevented from forces which are volcanic in nature, but your Honour stopped me.

HAYNE J: You have not seen what is going to happen now, Mr Steward.

MR STEWARD: I should have brought my fire retardant robes. This application for special leave, if the Court pleases, is concerned with the circumstances in which a court may effectively rewrite legislation and do so in the face of the contents of an explanatory memorandum which plainly supports a construction which would employ the ordinary and natural meaning of all the words used, in fact, by Parliament. The circumstances also raise for consideration for the first time in this Court the consolidation provisions contained in Part 3-90 of the 1997 Act which are of critical importance to corporate taxpayers.

Now, here the Full Federal Court, in essence, did three things. It gave no meaning and effect to the phrase “liabilities that the leaving entity takes with it” in step 4 of section 711-20. It said that the phrase “at the leaving time” was not to be construed by reference to its ordinary and natural meaning but was instead to be construed to mean a different phrase, namely, “just before leaving time” and, this is critical, they did so in reliance upon a supposed need for consistency between the steps of 711-20 which simply does not exist. Moreover, the court did so without first deciding whether, giving ordinary meaning and effect to these words would either give rise to a result that was so irrational that the court is forced to conclude that the draftsman had made a mistake – they are the words of Chief Justice Gibbs in Cooper Brookes at page 304 – or would give rise to a result that could not conform with legislative intent because it was, for example, capricious and irrational. That is the language of Justices Mason and Wilson in the same case.

Could I now take the Court directly to the primary error which we say was made by the Full Court and was the basis upon which they undertook the task of rewriting the legislation. If the Court could go to page 49 of the application book at paragraph 38. Paragraph 38 sets out for the first time the provision in issue, or one of them, section 711-45 which relates back to step 4. Then the error is contained in paragraph 39. They commence:

There is a significant difference between this provision [in 711-45] and ss 711-25 (Step 1), 711-35 (Step 2) and 711-40 (Step 3). Whilst each of those provisions contains an internal inconsistency which requires “at the leaving time” to be read as “just before the leaving time” this is not so in the case of s 711-45.

HAYNE J: Now, just pausing there. Do you accept the proposition in that second sentence?

MR STEWARD: No I do not, your Honour, but I do not need to deal with it for reasons I will just come to. They then say:

Viewed in isolation the word “at” the leaving time” in [section 711-45] are capable of being given their ordinary meaning.

So far so good. It is what they then went on to say –

Be that as it may, it would be strange indeed if Steps 1, 2 and 3 of s 711-30 –

they have written 30, I think they meant 20 –

were to be assessed “just before the leaving time” but step 4 was to be assessed “at the leaving time”. Such an approach would require –

and here is where the error is contained and it is a manifest error, your Honour –

Such an approach would require different meanings to be given to “at the leaving time” in s 711-45 to that which we think that phrase bears in ss 711-25, 711-35 and 711-40.

That last sentence is critical and we make these observations about it. First, it would appear that what drives the ability to rewrite 711-45 is the presence in it of the phrase “at the leaving time”. That phrase was the glue, if you like, which the court decided would need to be read consistently throughout each of the four steps. Secondly, the premise or foundation or justification of the rewrite is the need to retain this consistency. But thirdly, the problem with that is that the premise or foundation is false and the last sentence of the passage is incorrect. It refers to the use of the phrase “at the leaving time” in each step. But, section 711-35, which relates back to step 2, contrary to what the Full Court thought, simply does not use that phrase at all. Section 711-35 appears in our additional bundle of material behind tab 7 and if you go to it, you will see, contrary to what the Full Court thought, the phrase “at the leaving time” nowhere appears. Instead that section refers to deductions and this is in subsection (2):

which the leaving entity becomes entitled under section 701-40 as a result of the leaving entity ceasing to be a “subsidiary member of the old group –

In our submission, that is unambiguously directed to deductions which the leaving entity has taken with it and which it becomes first entitled to claim after it has left the group, not just before, because when it is in the group the deductions are ignored. Further, that conclusion is supported by the language of step 2 itself in section 711-20. Section 711-20 appears at the application book on page 46. If one looks at step 2 it says:

Add to the result of step 1 the step 2 amount worked out under section 711-35, which is about the value of deductions inherited –

A different word altogether and plainly directed, in our submission, to something which happens after you have left. It is for that reason - - -

HAYNE J: Well, the inheritance is the value.

MR STEWARD: I beg your pardon, your Honour?

HAYNE J: The inheritance happens upon or after leaving - - -

MR STEWARD: Yes it does, your Honour. It does, because it is talking about an intra-group payment, which is not deductible while you are consolidated, but only becomes deductible when you deconsolidate.

HAYNE J: I understand that, but is value to be struck of all of these integers?

MR STEWARD: It depends on what you are valuing, your Honour. I will come back to that. I will put a positive case which the Full Federal Court did not deal with at all. Your Honour, if what I have said is just right, if there is no consistency because the thing which was the glue which held it all together just does not exist, and it does not exist, then the foundational premise upon which the rewrite took place is not engaged, in our submission. Your Honour, I should also add the error, in our submission, also appears in relation to step 3 which, in our submission, is about recognising liabilities owed by the old group to the leaving entity. If you look at step 3, at its purpose, the purpose appears on the second column, its purpose is:

To ensure that the liabilities, which are not recognised while the leaving entity is taken to be part of the head company by subsection 701-1(1), are reflected in the allocable cost amount.

That recognition can only take place after you have left, not before. It is repeated again at paragraph 48, application book page 50. Your Honour, that is the premise foundational justification for the rewrite of this legislation, but, your Honour, we do not stop there. We say another reason why the court erred is because it did the rewrite without first making any finding about irrationality or capriciousness or without first considering the explanatory memorandum to see if the rewrite accorded with legislative intent and we say that of itself is an error and a very fundamental error. Courts should not undertake the process of discarding the actual words used by Parliament without asking themselves the first question; if we engage with the ordinary and natural meaning of the words used, is that capricious, irrational or does it make sense and, secondly, what did the EM say?

CRENNAN J: Do you agree with the Full Court where it said that what division 711 is about is about putting a value on the interest held by the head company in the subsidiary at deconsolidation?

MR STEWARD: Yes, I do.

CRENNAN J: Well, then what about the very simple point made against you – I would be interested in your view – in the respondent’s summary of argument at 1.2 right at the bottom of the page, application book 73 and 74, that is to say, it is highlighting an anomalous result if a particular construction is favoured?

MR STEWARD: Your Honour, we do not think it is anomalous and the reason we say it is not anomalous is because that presupposes that there is some a priori correct answer about how one is to be taxed. We say you are taxed by reference to the words Parliament selects. In our reply I think - - -

HAYNE J: But that answer, Mr Steward, really is, our construction is right, therefore, there is no anomaly. Now, if one steps back a little, what is the process that is being engaged in here?

MR STEWARD: Your Honour, taxing statutes are difficult when it comes to issues like anomalies because there is either one result which is right or wrong; it is a fiscal result that you are taxed, a fiscal result that you are not taxed. In our respectful submission, the only way you can adjudge that issue is to look at what the words are that Parliament has, in fact, used. Otherwise you end up making the same mistake that was referred to by Chief Justice Gleeson in Carr v Western Australia in the passage that was picked up by the majority in Alcan, that you use this sort of driver of tax mobility or where there is a gain it must be taxed and, therefore, you try and stretch the words, as we say the Full Court did here, to get to that result. That is the wrong way of going about it, in our respectful submission, and needs to be corrected.

Your Honour, could I just take you to the passage in the explanatory memorandum which we think validates our approach to the Act. Perhaps before I do that, I will explain to you our approach to the Act. The key section here is 711-5, which is in the application book at the judgment at page 49. Section 711-5(2) sets out the object of Division 711, which is to align the cost of membership interests with underlying assets, then (3) tells you how it is to be achieved. It says – this is about point 3:

This is achieved by recognising the head company’s cost for those interests, just before the leaving time –

that is when you do the moment of recognition –

as an amount equal to the cost of the leaving entity’s assets at the leaving time –

that is the calculation –

reduced by the amount of its liabilities.

Your Honours, the juxtaposition of the two phrases is telling. It tells you that Parliament meant the two phrases to do different work. What we put to the Full Federal Court is that you can give meaning and effect to all of the words used and they are given their ordinary meaning if you accept that the regime requires you to undertake the act of recognition just before leaving, but what do you recognise? What you recognise are the assets and liabilities taken by the leaving entity at the leaving time and that way you give meaning and effect to all the words. Then you turn to the explanatory memorandum 5.115, which is the paragraph dealing with this very section and it appears at the application book page 80. You will see that approach to the construction of the provisions is entirely validated by the EM. The passage is set out in full in my learned friend’s reply submissions. It says:

“Where a subsidiary member (the leaving entity) leaves a consolidated group (the old group) the head company recognises, just before the time the entity leaves, the membership interests in the leaving entity. These membership interests would not be recognised whilst the entity was a member of the group.

Here we get to the critical passages –

The cost for the membership interests is set at a cost equal to the head company’s cost for the net assets that the leaving entity takes with it. This preserves –

this is the thing that –

the alignment between the costs for membership interests in the entity and its assets.

Now, your Honour, no part of that EM was considered by the Full Federal Court before it undertook its rewrite.

HAYNE J: Maybe. What comes from it? What do you say you draw from it?

MR STEWARD: What comes from it, your Honour, is that before undertaking the rewrite you have - - -

HAYNE J: No, what do we take from the EM?

MR STEWARD: You take from it, your Honour, that the calculation that one does just before leaving time is one that identifies assets and liabilities taken by the leaving entity. Assets and liabilities which exist just before is not the calculation. It is assets and liabilities taken. Here, of course, the liabilities in question were not taken and so it wholly supports, in our submission, our interpretation of the provision, which interpretation was not even considered in the reasons of the Full Federal Court. We would say about our interpretation there is absolutely nothing irrational, capricious about it. It gives meaning and effect to all of the words used and it gives them their ordinary meaning and effect.

It is true that our approach gives a different fiscal result to the approach that my learned friend contends for, but it simply gives us a different fiscal result because the words compel it to. That is what we say, your Honours, is the critical flaw in the reasons of the Full Federal Court and is one of general application and of importance. There are clear words that Parliament has chosen here. They have chosen the words “takes with

it”, they have chosen the words “at the leaving time” and they have just been swept out of the legislation.

Your Honours, the point can be made, how can taxpayers comply with their obligations if they read the legislation only to discover that critical words simply do not mean what they mean ordinarily, but they do not even mean what they mean in a strained way, because different words ought to be used. It makes it very difficult for taxpayers to comply with their affairs. Your Honours, the only other thing I would like to mention is that the facts are not in dispute. The issues which will confront this Court will be ones of law only and for that reason it is a suitable vehicle for special leave. If the Court pleases.

HAYNE J: Yes, Mr De Wijn.

MR DE WIJN: Your Honours, in our submission, both the Full Court and Justice Kenny resolved the construction issue raised by this case by reference to context and by reference to looking at the legislation as a whole rather than, as my learned friend would have it, by giving a literal meaning to a single word or a single phrase out of context. The way in which this legislation is structured is that it starts with a set of principles and core provisions and then works down to explain how those provisions operate and those core provisions make it plain that the exercise that is to be done, that is, the exercise in working out the assets and liabilities that leave a consolidated group when a company leaves a group, is to be done just before the leaving time.

Before I take your Honours to those core provisions, I would first make the observation that that is obviously the correct point in time to do it because what one is concerned about with these provisions is the tax consequences to the consolidated group, not the tax consequences to the entity that has gone. So what one is looking at is the assets and liabilities that leave the group and the liabilities, the liabilities that the group is relieved of. So that is the purpose of the exercise. Could I ask your Honours to go to our bundle of authorities at tab 2 and turn first to page 8, section 701-15. In this modern form of drafting these are called “Core rules”. Section 701-15 deals with core rules to the head company of membership interests in an entity that leave the group. So this is the starting point. Over the following page at subsection (3):

For each membership interest that the head company of the group holds in an entity that ceases to be a subsidiary member, the interest’s tax cost is set just before the entity ceases to be a subsidiary member at the interest’s tax cost setting amount.

So we are told right up front in the core provisions that the time you do your exercise is just before the entity ceases to be a member of the group. Then if your Honours could go to page 18 in that same tab at 701-50, again in the core rules, subsection (3), this is dealing with assets, the same principle applies:

The asset’s tax cost is set just before the entity ceases to be a subsidiary member of the group at the asset’s tax cost setting amount.

Then one turns to tab 3 in that bundle, which are the specific provisions dealing with leaving entity and 711-5(3) again makes the point that:

This is achieved by recognising the head company’s cost for those interests, just before the leaving time, as an amount equal to the cost of the leaving entity’s assets at the leaving time –

Now, it is, with respect, not right to suggest that Parliament would have intended there to be two different time concepts in the one section because what one is concerned about is what the consolidated group is relieved of, the liabilities the consolidated group is relieved of, and it is relieved of those liabilities just as well as when the liabilities are taken away in the traditional sense or where they are converted to equity to someone outside the group as happened in this case.

So both Justice Kenny, at first instance, and the Full Court looked at the core provisions and interpreted the relevant provisions in the light of the core provisions and then what each of them did in a slightly different way, they looked at other situations in the Act where the words “at the leaving time” clearly meant just before the leaving time. Her Honour Justice Kenny did that at paragraph 65 of her judgment, page 25 of the application book. Your Honour will see in paragraph 65 there are some subparagraphs there and in each of those cases her Honour found a provision in the Act that referred to “at the leaving time” but clearly contemplated the subsidiary company still being a member of the group. So clearly contemplated that “at” meant just before. Her Honour went to about five or six examples of that which confirmed the view that “at” meant just before.

The Full Court did the same exercise but in a slightly different way. They did that at paragraph 32, which is at page 48, and they set out two reasons why they favoured the conclusion that we contended for. Again, they did a similar exercise at paragraph 45 and rejected the applicant’s argument for four separate reasons that would result in inconsistency. So we say both Justice Kenny and the Full Court applied traditional concepts of interpretation, looked at context, looked at - - -

CRENNAN J: Purpose?

MR DE WIJN: I am sorry, your Honour?

CRENNAN J: Purpose?

MR DE WIJN: Purpose, looked at context, purpose, and started with the core provisions, and the provisions that my learned friend rely upon drive off the core provisions. So we see by context that we find in the Act on a number of occasions the words “at the leaving time” is used in circumstances where the Act clearly contemplates that the subsidiary is still a member of the group. That is consistent with the object of this exercise because one is focusing, as I said a moment ago, on the assets and the liabilities that are taken away from the group, and obviously if a liability is taken away from a group, that gives a benefit to the group and that goes into the equation for tax purposes. So we say traditional concepts of interpretation, context and purpose and Justice Kenny in the Full Court in effect did a double check by looking at the other provisions of the Act and says this is what was clearly meant. The word “at” meant - - -

CRENNAN J: What do you say about the explanatory memorandum? It is just not helpful.

MR DE WIJN: Your Honour, we rely on the explanatory memorandum. It supports us. We refer to it in our submissions in the passage that my learned friend just took your Honour to at page 80 because what it emphasises again, in the second line, and we have emphasised the words, that the exercise is to be done just before the entity leaves. My learned friend focuses on the words “takes with it” but “takes with it” must be construed in the context of this legislation. We are not concerned with this exercise about the assets of the leaving entity. We are not concerned about what assets it has. We are concerned about the tax liability of the consolidated group. That is who is being assessed in this case.

CRENNAN J: What it is relieved of.

MR DE WIJN: Exactly, your Honour, what it is relieved of. In this case the exercise is that the consolidated group was relieved of liabilities of an extra $25 million or $26 million, which obviously was a benefit to the consolidated group, and that is why the focus of the legislation in the core provisions is to look at the position just before the leaving time. Parliaments use the word “at” presumably as a shorthand word to mean exactly the same, and that point is made good when one looks at provisions of the Act where the words “at the leaving time” are used in circumstances where the subsidiary is still a member of the group. For those reasons, we

say the decision of Justice Kenny and the Full Court are correct. If the Court pleases.

HAYNE J: Thank you, Mr de Wijn. Yes, Mr Steward.

MR STEWARD: Your Honours, first, we of course accept that you look at the tax consequences to the head entity. Nothing anomalous arises from looking at it by reference to what is taken rather than what is not taken or left behind. My learned friend relies upon the core provision. Again, the core provision is consistent with the interpretation which I have suggested to this Court, which is that “just before” tells you when you are to do something, not what is to be done. What is to be done is determined by the key operative provision at section 711-20.

My learned friend secondly talks about liabilities which the consolidated group is relieved of. The difficulty with that is that is not the language used in step 4. Parliament chose the words “liabilities that the leaving entity takes with it”. My learned friend makes these assertions without reference to extrinsic material, without reference to any policy paper which tells you this is what it is all about. In our respectful submission, what it is all about – other words, chosen – the text being the surest guide to legislative intent; Alcan.

Your Honour Justice Crennan asked about purpose. Your Honour, the relevant key operative provision, section 104-520, “CGT event L5” has nothing in its EM) that tells you what it is about at all, nothing at all. All that we know is that if you do the four steps and the figure is negative, you make a capital gain. That is all we know. Your Honours, I finally note that my learned friend said nothing about the manifest error in paragraph 39 of the reasons of the Full Court, the manifest error being that the Full Court believed that the phrase “at the leaving time” appeared in section 711-35. It does not. Therefore, no necessary consistency is required between all four steps, therefore no need to rewrite. If the Court pleases.

HAYNE J: Thank you, Mr Steward.

There are insufficient reasons to doubt the correctness of the decision of the Full Court of the Federal Court of Australia to warrant a grant of special leave to appeal. Special leave is accordingly refused. It must be refused with costs.

MR STEWARD: If the Court pleases.

AT 3.10 PM THE MATTER WAS CONCLUDED