CATC}:WORDS Income Tax (Cth.) - Assessable income — Payment received without consideration - Whether compensation for lost profits - Whether received in course of business ~ Whether capital or income. tTncome Tax Assessment Act 1946, s.25(1). The Federel Cocke Company Pty. Limited v. The Commissioner of Taxation of the Commonwealth of Australie G No. 23 of 1977 G No. 24 of 1977 Before Bowen C.J., Nimmo and Brennan JJ. Sydney 20th Tune, 1977 yr ae st IN TY PLD SAL CONN? CF WweTn TTA " ) ) NEW. SOUTH WALES. DISTRICT REGISTRY) No. G ..22.. of 1977 (GEVFERAL eee. DIVISTON ) No. G 2h of 197 pene ; , THE FEDERAL COKE COMPANY aaa . mite tb cave see teeseeeas ooceceeccces., ABDELIANE.. sees AND . | THE COMMISSIONER OF TAXATION , 28, THR COLMONVEALTH OP. AUSTRALIA / seleeeeeese eee. RESpondent | ORDER JUNGI(S) weKING ORDER : BOWEN C.J., NIMMO and BRENNAN JJ. DATE GF ORDER : 20th June, 1977 WHERE UATE : Sydney THE COU-T OFDLRS TEAT: 1. Appeals allowed with cests. 2. Orcers of the Supreme Court of New South Wales set aside and in liev thereof order that the appeals to that Court be allowed with costs and that each assessment be varied by excluding therefrom the sum of $499,567.00 as assessable income. Bate Litered: DILTRICM TOT, At mnie memes a? IN THE FEDERAL COURT OF AUSTRALIA ) a No. G23 of 1977 NEW SOUTH WALES DISTRICT REGISTRY No. G24 of 1977 GENERAL DIVISION CORAM: BOWEN C.J., NIMMO and BRENNAN JJ. 20th June, 1977 THE FEDERAL COKE COMPANY PTY. LIMITED and THE HISSIONER OF TAXATION OF THE COMMONWEALTH OF AUSTRALIA JUDGMENT: BOWEN C.J.: These are two appeals brought by The Federal Coke Company Pty. Limited (hereinafter called "Federal") against a decision of the Supreme Court of New South Wales in its Administrative Division upholding income tax assessments issued against the company by the Commissioner of Taxation iu respect of the income years ended 30th June 1972 and 30th June 1973. In its return for the income yeer ended *Cth June 1972, Federal snowed a taxable income of $7,677 arising from its coke making activities. The Commissioner in making his assessment added to cthis sum the ancunt cf $499,567 which he described in an adjustment sheet forwarded with tne assessment as follows: 'Porticn of net compensation on termination of contract with Sccrete fzonyme Le Nickel which is applicable tv tne year ended 3th June 1972%, -—p omy 8 Nee eee This had the effect of bringing the taxable income to $507,244 and the income tax upon this was $240,940.90. Federal objected on various grounds, in substance, Claiming the receipt was not of an income nature or otherwise assessable income and was a capital receipt. The Commissioner disallowed the objection whereupon Federal requested that its objection be forwarded to the Supreme Court of New South Wales. In its return for the income year ended 30th June 1973, Federal showed a loss of $5,535. The Commissioner, in his assessment, brought to account as income, an additional sum of $499,567 which he described in an adjustment sheet forwarded with that assessment as follows: tPortion of net compensaticn of contract with Societe Anonyme Le Nickel.'* This had the effect of bringing the taxable income to $494,032 and the income tax upon this was $234,665.20. Federal objected as before and when its objection was disallowed, requested that _its objection be forwarded to the Supreme Court of New South Wales. These matters were heard by the Supreme Court in its Administrative Division and judgment was given on 41th February 1977, upholding the Commissioner's assessments. Notices of appeal to this Court were lodged on grounds claiming, in substance, that the trial judge was in error in holding the respective amounts were assessable iacome and should have held they were receipts of a capital nature. The question to be decided 1s what is the nature of these receipts in the hands of the taxpayer, Federal. In order to determine the answer to this question it 1s necessary to consider the history of the matter and the circumstances leading to the receipt of the sums by Federal. They represented two equal instalments of $500,000 less certain adjustments paid in satisfaction of a total sum of $1 million. It is common ground that for income tax purposes the same considerations apply to each instalment. Federal is a company incorporated in New South Wales. It had for many years carried on a coke making business upon land situated less than 300 yards from Princes Highway and less than 700 yards from Crown Street, the main street of Wollongong. It was very close to the general business area of Wollongong and extensive residential areas were well within a quarter of a mile of it, the residential area on the south actually abutting the coke works. During the manufacture of coke, emissions of gases, smoke, dust and steam occurred. Federal had almost continuously since 1930 been engaged in disputes with various authorities and persons complaining of its activities. In April 1930 it was prosecuted by the Wollongong Council. In 1938 the Department of Public Health and the Wollongong Council both brought pressure upon Federal to mitigate the smoke nuisance. In April 1955 the Council arranged a conference between Federal and the Councilts Smoke and Dust Abatement Committee. A succession of conferences extending over some years took place, leading to the institution pean ow se by Federal of improved methods of control. After the Clean Air Act, 1961 came into force, the coke works became "scheduled" and Federal was required to hold a licence. Licences had a currency of one year from the date of issue, but might be renewed from time to time for a further period of one year. Federal succeeded in procuring a licence, but the Department of Health insisted on various works being undertaken to lessen pollution. In about 1968 strong pressure was brought to bear by the Department on Federal, who claimed that the capital works and dislocation of trade required to fulfil the demands of the Department would cost it in excess of $1 million. In August 1969 the Department gave directions to Federal, pursuant to s.17 of the Clean Air Act. Federal advised the Department that the cost to meet the init1ral requirements would be not less than $420,000, with no assurance that this would be the end of the matter. On 19th January 1968 the Illawarra Planning Scheme Ordinance was proclaimed and under this, the land, except for avery minor area, was zoned as reserved for Open Space (Public Parks and Recreation). The Ordinance also provided coke making could be continued as an existing use, so long as the right was not lost by non-use. Bellambi Coal Co. Limited (hereinafter called "Bellambi") is a company incorporated in New South Wales which has, for many years, carried on the business of producing coal from South Bulli mines on the southern coalfields of New South Wales. It acquired all the shares in Federal on 21st June 1960. It also acquired as subsidiaries three other companies: the Mt. Pleasant Coke Co. Pty. Limited on 26th January 1962; Corrimal Coke Pty. Limited on 10th March 1970; and the Australian Coal and Coke Co. Pty, Limited on 16th October 1972. It was the practice of Bellambi to make an arrangement with a coke-making subsidiary under which it would supply coal and the subsidiary would produce the coke which would then be sold by Bellambi. The arrangement between Bellambi and Federal, which was entered into on 26th June 1968, provided that Bellambi would deliver its coal from time to time to the coke works of Federal for conversion into coke, No stipulated quantities were set. Federal would convert Bellambi's coal to coke and would then supply this coke to Bellambi who would market it. Both the coal and the coke produced from it were to remain the property of Bellambi. Bellambi agreed to pay Federal for this service a fee equal to the actual cost of conversion plus ten cents per ton of coke produced or such otner amount per ton as was mutually agreed upon from time to time. In practice the service fee which was paid to Federal on top of the cost of conversion varied from year to year, being sometimes more and sometimes less than ten cents per ton. At the 22nd March 1972, the service fee being paid was elghty-nine cents per ton. Similar arrangements were made by Bellambi with Mt. Pleasant Coke Co. Pty. Limited on 28th June 7963 and with Corrimal Coke Pty. Limited on 26th March 1971 after that company became a wholly owned subsidiary. Societe Anonyme Le Nickel (hereinafter called "Le Nickel") is a corporation incorporated according to the laws ~ we of France and having its registered office at 1 The Roulevarde de Vaugirard, Paris, France. It has a subsidiary in Australia, Le Nickel (Australia) Pty. Limited (hereinafter called "Le Nickel (Australia)"), Prior to 24th April 1970, Le Nickel was a buyer from time to time of coke supplied from Corrimal, Mt. Pleasant and Federal coke works and it was at that date in the course of a substantial expansion of its nickel treatment plant in New Caledonia. In the period October to December 1969, Le Nickel (Australia) on behalf of its parent company became involved in discussions with Bellambi and Corrimal for the supply of coke fcr use by Le Nickel in New Caledonia. Bellamb2 did not in its then subsidiaries have adequate producticn capacity to supply its existing customers and to supply in addition 70,000 tons per annum which was required by Le Nickel. The normal production capacity of Mt. Pleasant was approxirately 46,000 tons per annum and Federal 53,000 tons per annum. Corrimal had been producing coke at the rate of approximately 128,000 tons per annum. So that when Bellambi acquired the shares in Corrimal its total capacity, combining the production of its three subsidiaries, would be sufficient to enable it to supply the local market in Australia and the 70,000 tons per annum to Le Nickel for use 1n New Caledonia. It seems that the discussions with Le Nickel (Australia) were broken off on 9th December 1959. On 11 ch December 1969 the manager of Bellamb1 prepared a report for submission to a board meeting held on 13th December 1969. In his reporLl, which was entitled "Future Operations in Coke Manufacture and Distribution by the Bellambi Coal Co. Limited", the general manager reviewed the various alternatives which were open to Bellambi and its subsidiaries. The two principal alternatives were either to close each of the two coke works then separately owned by the company's subsidiaries, that is Federal and Mt. Pleasant, or to spend $1.12 million at those plants to achieve compliance with the requirements of the Clean Air Act and further to spend $1.13 million on the acquisition of Corrimal Coke Co. Pty. Limited and make some modification of its works. In the report, reference was made to the negotiations which had been proceeding with Le Nickel (Australia) and it was noted 'These negotiations have been temporarily suspended!, It was noted that coke was on offer to a number of other overseas users and the general manager expressed the opinion that the surplus capacity of the industry could be profitably exported over the next few years. His recomnendation was in favour of the second of the alternatives referred to above. At the board meeting on 1$th December 1969, it was resolved that the recommendation by the general manager in his report dated 11th December 1969 relating to the expenditure of $1.12 million on the coke works operated by Federal and Mt. Pleasant to achieve a compliance with the Clean Air Act and to obtain increased capacity and greater efficiency at the Mt. Pleasant works and the expenditure of $1.13 million on the acquisition and modification of the coke works operated by Corrimal be approved subject to the signing of a memorandum evidencing the willingness of another company, Kembla Coal and Coke Pty. Limited, to purchase coke for supply for a period of seven yeals commencing January 1970. It seems that negotiations were not long afterwards cen accmmen tiyg see te resumed with Le Nickel (Australia) and at a board meeting held on 24th April 1970, the general manager tabled a proposed contract between Bellambi and Le Nickel for approval by the board. It was resolved that the contract be signed by Bellembi. This was done and the contract was also signed by Le Nickel and came into operation. It should be mentioned that at the board meeting of 24th April 1970, before the contract was approved, it was resolved that approval be given to capital expenditure totalling $339,729 and to the general manager's authorisation for certain expenditure, all of which wes described in the minutes as part of the capital expenditure programme previously approved in principle for 1969/70 and 1970/71. The agreement between Bellambi and Le Nackel of 24th April 1970, provided that Bellambi agreed to sell to le Nickel and Le Nickel agreed to buy 350,000 long tons of coke to be produced by subsidiary companies of Bellambi. Such coke was to be delivered to Le Nickel at the rate of 70,000 long tons per annum over five years computed from 1st January 1971. 'The price which was to be paid by Le Nickel to Bellambi was specified, together with certain adjustment provisions. In the event and notwithstanding the provisions in the agreement for delivery of 70,000 long tons per annum computed from 1st January 1971, Le Nickel experienced difriculties and had sccepted delivery of only 25,372 tons up to 30th June 1971. 'There was a meeting in Sydney on 2nd July 1971 at which Monsieur Germenot, the managing director of Le Nickel (Australia) requested cancellation of the agreement. On 7th July 1971, Bellambi sent a telex to the head office of Le Nickel in Paris expressing concern about this request and pointing out that when the agreement was negotiated it was made clear to executives of Le Nickel that Bellambi were purchasing a coke pliant for the purposes of fulfilling their obligation to supply the quantity. Capital expenditure on acquisition and subsequent modifications to achieve compliance with the Clean Air Act had been very substantial. It was suggested there should be an exchange of views between the executives of the parties. At a board meeting of Bellambi held on 27th July 1971, it was resolved that the chairman of the board, Mr. J.B. Massy-Greene, and the general manager, Mr. Ryan, 'be authorised to negotiate a settlement with representatives of Societe Anonyme Le Nickel', Meetings were held in Paris on 12th, 13th and 78th October 1971, the meeting on the last of these days being attended by Mr. Massy-Greene and Mr, Ryan. On this last day a negotiated settlement was reached which was then recorded in minutes of the meeting. These minutes contained various recitals, including one that Le Nickel had informed Bellambi that the prevalent economic recession had affected the demand for nickel and Le Nickel had been obliged to reduce production entailing loss of profit and also other severe financial hardship and this situation had reduced its requirements for coke. It had accordingly asked Bellambi to vary the agreemeiut between them. The minutes also recorded that BellamLi had pointed out that any reduction in the contractual deliveries ef coke under the agreement would entail 'not oaiy loss of profit to Bellambi but also other severe financial hardship'. The minutes then recorded that tIn consideration of the foregoing the parties had decided to change certain terms and conditions of the said agreement and they agreed on the following.*t Then followed various numbered and lettered paragraphs outlining negotiated variations to be made to the principal agreement. Paragraph 1 stated: 'As total compensation for any and all alteration and changes to the said Agreement, hereunder set forth, Le Nickel agrees to pay to Bellamb1 and Bellamb1 agrees to receive from Le Nickel a lump sum of 1,000,000 Australian dollars to be paid in two instalments: - 500,000 Australian dollars on 31 December 1971 - 500,000 Australian dollars on 31 December 19/72 Those amounts will be paid to the account of Bellambi at the Commercial Bank of Australia Head Office, George Street. Sydney, Australia.' Paragraph 2 then set forth certain variations of particular terms and conditions of the agreement. The principal change which they effected was to substitute 132,000 long tons for 350,000 long tons of coke to be Supplied and the rate of delivery was varied so as to be 52,000 long tons for the calendar year 1971 and 20,000 long tons for each of the calendar years 1972, 1973, 1974 and 1975. The final lettered paragraph of the minutes provided as follows: tThe terms of the said Agreement are to remain valid and binding and are hereby confirmed, save in so far as they are varied by these minutes. ?* There was a toard meeting of Zellambi held on 28th October 1971 and it was then resolved thet the settlement negotiated by the chairman and managing director in Paris be ee mee approved. The basic features of the settlement were stated in the minutes. Two further resolutions should be noted. The first was that the general manager cbtain the opinion of Mr. D.L. Mahoney, Q.C. regarding taxation aspects of the settlement and the second that the Federal coke works be closed. Federal in fact ceased production on 19th November 1971. On 23rd December 1971 Bellambi, under cover of a letter, forwarded to Le Nickel a form of deed varying the agreement between them which broadly embodied the settlement arrived at in Paris but departed in some respects from that settlement. On 29th December 1971, the sun of $500,006 was received by the Banque Nationale De Paris in Sydney for payment to Bellambi. On learning of this, Bellambi refused to accept the money and on 30th December 1971 sent a telex message to Le Nickel expressing surprise at the transmission of this before the completion of the amending agreement. They pointed out the amending agreement had been sent by airmail on 23rd December and further pointed out that their legal advisers stated that if Bellambi was to accept payment from Le Nickel, then Bellambi would certainly pay income tax on the full amount, whereas if the amending contract under which the money was to be paid to Federal was accepted, then it was possible that both Bellampi and Federal would not pay tax on the moneys received. Bellambi and Le Nickel appear then to have entcred upon a period of negotiation. There were some differences between them, Le Nickel at one point seeking to have the amending agreement operating according to French law and Bellambi refusing to accede to this een request and requiring it to operate according to New South Wales law. Eventually, an amending deed was entered into on 22nd March 1972 between Bellambi and Le Nickel. Pursuant to this deed, the sum of $499,134.28, being an instaiment of $500,000 less bank and exchange adjustments, was paid by Le Mickel to Federal on 29th March 1972. A further instalment of like amount was paid by Le Nickel to Federal pursuant to the amending deed on 16th January 1973 and it is these two sums which have been assessed by the Commissioner of Taxation. It remains to record that the land of Federal was resumed by Wollongong Council on 21st December 1973 for $150,000. In the argument against liability, considerable reliance has been placed upon the terms of the deed. It is convenient to set out certain material portions. Its recitals were as follows:- TWHEREAS -A. By an Agreement cated 24th April 1970 (hereinafter called "the Agreement") Bellambi and Le Nickel provided for the sale by Bellamb1 to Le Nickel over'a period of five years approximately of coke manufactured by certain subsidiary companies of Bellambi, including Federal Coke Works Pty, Limited (hereinafter called "Federal"). B. Le Nickel has informed Bellembi that, by reason of an economic recession and a fall in the demand fer nickel, the requirements of Le Nickel for ceke have been greatly reduced. C. Le Nickel has requested Bellambi to reduce the emount of the coke produced by subsidiary companies of Bellamb1i as referred to in Clause 1 of the Agreement and to reduce the quantity of eoke to be sold by Bellambi to Le Nickel under the Agreement. D. Bellambi has informed Le Nickel that such reduction as aforesaid can only be achieved in a practical manner if there is a discontinuance of all production of coke by Federal and the closure of Federalts coke works. E. Beliambi has informed Le Nicxel that discontinuance of production at Federal's coke works will involve the closure of these works and that thereby the value of the land and assets owned by Federal comprising such coke works will be directly and immediately reduced by reason, inter alia, of action likely to be taken by authorities of the State of New South Wales and certain local government authorities against the coke works in a non-operating condition which would not be taken against them while operating and by reason of other detriments to Federal,? OF the operative provisions, it is sufficient to record Clause 1 which is as follows:- 'In the circumstances aforesaid Le Nickel hereby agrees to pay to Federal the sum of one million dollars ($1,000,000) to compensate Federal (and consequently Bellambi) for such loss in the value of the land and assets of Federal as aforesaid (and consequently in the value of the assets of Bellambi) and it is agreed that such sum shall be paid by two equal instalments of five hundred thousand dollars ($500,000) each on the 31st day of March 1972 and the 31st day of December 1972.?* Had Bellambi accepted the sum of $500,CO00 forwarded by Le Nickel on 29th December 1971 and been assessed for income tax upon it, the question would have arisen whether 1t was income or capital in the hands of Bellambi. On the one hand it might have been argued that the payment simply constituted compensetion for loss of profits under an agreement made in the course of its business whict: Bellambi would otherwise expect to have made, and, being a payment "to f111 a hole in profitst, it was income in Sar and aa the hands of Bellambi. If this argunent was accepted, the receipt would presumably have been assessable income in the hands of Bellambi (Californian Qil Products Limited v. Federal Commissioner of Taxation (1934) 52 C.L.R. 28; Heavy Minerals Pty. Limited v. Federal Commissioner of Taxation (1966) 115 C.L.R. 512; Glenboig Union Fireclay Co. Limited v. Inlard Revenue Commissioners (1922) S.C. (H.L.) 112; 12 Tax Cas. 427; Burmah Steamship Co. Limited v. Inland Revenue Commissioners (1931) S.C. 156; 16 Tax Cas. 67; Van den Berghs Limited v. Clark (1935) A.C. 431). On the other hand, it might have been argued that the payment constituted compensation not only for loss of profits but also for tother severe financial hardship' to use tne language of the Paris minutes of 18th October 1971. It might then have been argued that the facts suggested that the financial hardship referred to the effect of the alteration of the agreement of 24th July 1970 upon the business of Bellamb1i and the business of its subsidiaries resulting..as events showed, in the closing down of coke production at one of the subsidiaries with all the consequences which that involved. It might further then have been argued that the instalment of $500,000 was not distinctly allocated to either the income or capital elements but rather was half of a conglomerate sum of $1,000,000 to which those elements contributed without distinction. If this argument was accepted, the position might be that the instalment was not taxable in the hands of Bellambi (McLau71n v. Federal Commissioner of Taxation (1961) 104 C.L.R. 381; Allsop v. Federal Comuissioner of Taxation (1965) 173 C.L.R. 341. But Bellambi refused to accept the sum cf $500,600. Eventually a like sum with adjustments was paid by Le Nickel INN. to Federal in accordance with the deed of 22nd March 17972. Had an assessment then been raised against Bellambi, it might perhaps have been argued that the $500,000 had accrued due to Bellambi as income and had been paid by Le Nickel to a subsidiary of Bellambi in accordance with the order and @irections of Bellambi. Bellambi would then no doubt have argued that the money had not in fact accrued due to it and that, if it had, it was a conglomerate sum made up of indistinguishable income and capital elements and should be held not to be taxable. In the result, none of these bases of assessment were adopted by the Commissioner. He assessed Federal upon the receipts so that the question for determination by the Court is not what would have been the character of the receipts in the hands of Bellambi, but what, for the purposes of income tax, is the character of the receipts in the hands of Federal. Counsel for Federal argued that the payments were paid by Le Nickel to Federal under and in accordance with the amending deed of 22nd March 1972; that the deed was not attacked as a sham; that the deed was not attacked as being annihilated by s.260 of the Income Tax Assessment Act; and, finally, tnat the Court should turn to the terms of the deed and give full effect to them. As has been noted, the recitals 1n the deed characterised the payments broadly as compensation to Federal an respect of loss of value in land and assets. If one simply accepted the statements in the recitals and the operative portions of the deed, ancluding Clause 1, it would seem the conclusion would be inevitable that the receipts should te held to be capital ir the hands of Federal. BAe mee ow Certainly the deed was not attacked as a sham or by reference to s.260. Undoubtedly the payments were made pursuant to the deed. But Counsel for the Commissioner challenged the correctness of the recitals and submitted that the Court should look to the whole of the circumstances. I agree that the Court is not bound to restrict itself to the deed and is not bound by the terms of the deed in characterising the payments to Federal (cf. Ridge Securities Limited v. Inland Revenue Commissioners (1964) 1 W.L.R. 479). The learned trial Judge was not impressed with the recitals. He took the view that they did not accord with the facts. While the recitals may operate by way of estoppel between the parties to the deed, Federal was not a party. Furthermore, the recitals in no way constitute conclusive proof of the facts which they assert. I think the Court, or a Judge, is obliged to come to a conclusion as to what the true facts are and is not precluded from doing so by the terms of the deed. The true facts that appear are that Federal was engaged in a coke producing business, although at the time the first payment was received by it, Federal had ceased to carr on that business. In the negotiation of the round sum of $1 million, which was agreed between Bellambi and Le Nickel, no precise factors were used in the caiculation so far as apgears from the evidence. It is plain from the order of events ana the wording of the minutes of the Paris conference of 18th October 1971, that what was 1n the mindz of the negotiators was, on the one hand, the effect cf the lessening in demand for nickel and the consequent necessity of reducing production and the loss of profit and other financial hardship entailed for Le Nickel making it necessary for that company to secure a reduction in its obligations to take coke from Bellambi, and on the other hand, the loss of profit to Bellambi and other financial hardship which would be suffered by that company if the quantities of coke were to be reduced. 'Other financial hardship! referred to may well have involved some assessment of what Bellambi would suffer by reason of consequential loss of profit or capital loss suffered by all or any of its three subsidiaries including Federal. In the latter respect, what appears to have been uncer consideration was Bellambi'ts loss and not the loss of any particular subsidiary. When the arrangements between Bellambi and Le Nickel were altered, as appears from the deed of 22nd March 1972, the decision that the payment should be made to federal seems to have been made largely for the purpose of avoidiny income tax. It is true that between the time of the Paris conference and the amending deed of 22nd March 1972, a decision had been vaken by Bellambi to close down the business of Federal and it had 1n fact been closed down. It had then become evident that, of the subsidiaries, it was Federal which would suffer loss of profit by loss of the service charge which it would have received from Bellambi for producing the coke from Bellamtits ccal. It had also become evident that it was Federal which woud suffer capital less by reason of having to close down its coke works. In the case of Federal, its capital prohlem was particularly acute because its land, once the existing use terminated, would have value only as land zoned under the Illawarra Planning Scheme @s Open Space (Public Parks and Recreation) and its plant and equipment could no longer be sold on a going concern basis. The approach taken by the learned trial Judge was to decide the case on what he regarded as the substance of the matter. He thought that the statements in the deed did not affect the nature of the receipt and that the $1 million was ta sum acceptable to Bellambi as compensation for the loss of part of a profitable contract.* He did not overlook the fact that payment was in fact made by Le Nickel to Federal. He said: tHow and why payment was made to Federal and not to Bellamb2 1s here easy te ascertain. This 1s simply a case cf a commercial arrangement designed to have the money received by the Bellambi group to the best commercial advantage, that 1s to say, without having to pay tax on 1t. To my mind, that does not aiter the character of the receipt or the reason why the money was paid and received. I think it is simply a rece1pt by one hand instead of another, and 1t 1s received into that hand just as much as compensation for the contraction of the contract to supply coke as if the payee had been the parent rather than the subsidiary. The fact that the deed which was eventually brought into being was between Bellambi and Le Nickel and that Federal was not a party to it lends force to this conclusion. I do not consider the situation as being in substance different from there being a payment of this sum of money to Bellambi accompanied by a deed which calls it payment for something which 1t in fact is not. in my view it falls to be considered for taxation purposes as a payment representing compensation for centraction of the contract to seli coke', His Henour appears to have considered that he could approach the characterisation of tne receipts in the hands of the taxpayer by treating them as if they were received by Bellambi or the Bellambi group. On the other hand, if they were treated as received by Federal, his Honour thought that they were recvived by Federal just as much as compensation for the contraction of the contract to supply coke as if the payee had been the parent rather than the subsidiary. One may have some sympathy with an approach of this kind. However, in taxation matters, the Court is obliged to have regard to the actual facts and not to their equivalents. In cases where it is appropriate the Court may apply a statutory provision such as s.260 to get rid of a contract, agreement or arrangement and deal with the case in disregard of that element, but, where there 1s no statutory warrant for doing so, the Court cannot disregard certain of the facts or rearrange the facts or decide the case according to its view of the substance of the matter. It is not legitimate to disregard the separateness of different corporate entities or to decide liability to tax upon the basis of the substantial economic or business character of what was done (Slutzkin v. Federal Commissioner of Taxation (1976) 12 A.L.R. 321 at p.324; Inland Revenue Commissioners v. Europa 011 (N.Z.) Limited (1971) A.C. 760 at p.771; cf. Littlewoodts Mail Order Stores Limited v. Inland Revenue Commissioners (1969) 1 W.L.R. 1241 at p.1255). Counsel for the Commissioner contended that on a proper view of the facts. the payments to Federal were to fill tthe hole in profits for the four years lost as a result of the arrangement wnder the deed to reduce the quantities to be supplied to Le Nickel.* Some support for this contention can be found 1n the evidence that the days of Federal's coke works were numbered because of their emission of pollution, and that even if the works had continued for the balance of the term of the original agreement with Le Nickel, Federal would have had to close them down when that agreement ran out. The submission however, falls far short of being an adequate description of the payments. Even if loss of profits was used as a measure for calculating the amount of the payments, this would not necessarily mean they were of an income nature (Californian Oil Products v. Federal Commissioner of Taxation, supra, at p.115; Van Den Berghs Limited v. Clark, supra at p.442). But 1n this case, the facts do not show that loss of profits which would be suffered py Federal was used at all in arriving at the sums in question. Even if one might speculate that the payments had been calculated with reference to Federalts position, the evidence suggests that Federal's profits past and prospective were very small. On any view of the evidence, four years profit of Federal could account for only a small fraction of the total sum of $1 million. Counsel for the Commissioner further submitted that the payments were to compensate Bellambi for Joss of profits and for this reason acquired an income character ard that ' they retained this character and did not lose it when the deed was interposed whereby the arrangement was altered and the payments were made to Federal. Ncthing had been done, so it was argued, which would indicate that the character of the payments was altered. It may be possible to envisage a case where, for example, the subject of a gift would be seen to have in its origin, the essential character of income and to retain that character in the hands of a donee. The case of a transfer without : He Ranta consideration of a payment of future interest on debentures might be regarded as such a case. But there the essential income character of the receipt, which would lie in its being the produce of a capital investment coming forward in a series of periodic payments, would remain unchanged in the hands of the donee. In the present case, the suggested income character of the receipts having regard to the original arrangement, would be partly in the formulation of them as compensation for loss of prefits and partly in their being received by Bellambi in the course of its business to 'fill the hole in its profits'. But under the deed of 22nd March 1972, they were not received by Bellambi. A consequence of this is that one of the factors, which would have impressed them with the character of income, disappears. One is left only with the method of formulation and the original purpose of Bellambi and Le Nickei. It appears to me that this is insufficient to impress upon the sum an essential and unchangeable character of income. Indeed, it appears to me that the starting point of this argument for the Commissioner 15 wrong. When one is considering the character of an amount received by a taxpayer, the enquiry must start with the question: what is the character of the receipt in the hands of the taxpayer? It appears to me to be wrong to ask: what would have been the character of the amounts had they been received by Bellambi? and then to puse the question: has their character been changed hy the fact they were pazd to Federal? One must, I think, pose the essential question and start frem that question: what is the nature of the receipts in the hends of Federal? It then becomes less than decisive to observe and that, in their origin,/if they had been received by Bellambi, they may have been of an income character. Each receipt in the hands @ Federal is broadly in the nature of a gift, being a sum received without consideration. Certainly Federal, although it suffered economic detriment as one of the consequences of the compromise arrived at between Bellambi and Le Nickel, was not a party to the amending deed and gave no consideration either to Bellambi or to Le Nickel. Le Nickel, by reason of the amending deed entered into with Bellambi, was no doubt obliged to make the payment and Bellambi could have enforced it (Beswick v. Beswick (1968) A.C. 58). But so far as Federal was concerned, each payment was received by that company on a voluntary basis. In my view, for purposes of income tax, the sare principles apply in determining whether an amount received without consideration is income as apply in determining that question in relation to a gift proper. A mere gift or receipt without consideration, if nothing more appears, is prima facie not income in the hands of the recipient (Haves v. Federal Commicsioner of Taxation (1956) 96 C.L.R. 47 at p.54). Further facts may appeer which show that it was so related to income-earning activities of the recipient as toe be, in truth, a product of those activities. Thus gifts by employers to employees related to the1r services have been held to be assessable income. Gifts to persons who are not employees but which are related tc services which they have eo Nee Ey rendered such as tips to a waiter, a railway porter or a tax1 cab driver, or a jockey, have been held to be income (See cases cited 1n Whiteman and Wheatcroft on Income snd Surtax (1971) paras. 14.10 et seq. and, Challoner and Greenwood Income Tax Law and Practice, 2nd Edn. p.212). The same principle applies in the case of persons or corporations engaged in some profession or business. Thus an additional payment made by the Government to a wool grower, who had previously submitted wool for appraisal and been paid for it, the additional payment by the Government being discretionary but related to the amount of wool supplied, was held to be in a real sense a product of the business cf wool growing carried on by the recipient and to be income in its hands (Federal Commissioner of Taxation v. Squatting Investment Co. Ltd. (1954) 88 C.L.R. 413). On the other hand, a payment made to a solicitor by a woman client for whom he had acted, which was held on the evidence to be not a product of his professional activities but a payment made by way of bounty, was held not to be income in his hands (Scott v. Federal Commissioner of Taxation (1966) 117 C.L.R. 514). In the present case, and regarding the matter from Federal's point of view, it 1s seen that the two receipts were part of cne large and unprecedented sum; that they were received without any consideration passing from that company; and that they were in no sense the product of any besinesec or income producing activities which it carried on. Federel's business was the production of coke and even this had ceased by the time the payments were received. Federal did not carry on any business of receiving payments or acting as banker or financial repository on behalf of Bellambi or the Bellambi group. Furthermore, the receipts did not constitute a compensatcry equivalent for any loss suffered by Federal in its business. They were treated in its accounts as capital receipts. Even if it should be held that in their origin in the arrangements made between Bellambi and Le Nickel the receipts should be regarded as somehow impressed with the character of income, it does not appear to me, having regard to the circumstances of Federal, that they should be held to have retained this original character when received by Federal. On the contrary, having regard to all the circumstances, it appears to me that in the hands of Federal they bore the character, not of income, but of capital. It would seem from the evidence that a principal motive of Bellambi in contracting for the payments to be made to Federal was tc avoid income'tax. In sddition, it mav be observed that Federal was a wholly owned subsidiary of Bellamb1, The importance of the motive of a donor in determining the characterisation of a receipt was expressed by Fullagar J. in Hayes v. Federal Commissioner of Taxation (1956) 96 C.L.R. 47 at p.55 as follows: tWhile T would not say that the motive of the donor in making the payment or transfer is, in cases of this type, irrelevant, motive as such will seldom, if ever, in my opinion, be a Gecisive consideration. '™ many cases, pcrhaps in most, a mixture of motives will be discernible. On the one hand, personal goodwiil mav play a dominant part in motivating a vcluntary paymenr, and yet the payment may be so related to an employment or a business that it 1s income in the hands of the recipient. On the other hand, tne wer te element of personal goodwill may be absent —- the dominant motive may have been of the most purely selfish and commercial character -- and yet it may be impossible to find any connexion with anything that can make 1t income. The question in each particular case is as to the character of the receipt in the hands of the recipient: Moorehouse v. Dooiand (1955) Ch. 284, The test tc be eppiied is an objective, not a subjective, test.!? It does not appear to me that the motive of Bellambi of avoiding tax, whatever view one may take of that motive, when taken into consideration with all the circumstances of the case can alter the position so as to lead to a conclusion that the receipts in the hands of Federal bore the character of income and not of capital. In the result I conclude that the receipts were of a capital nature in the hands of Federal. It follcws, in ny view, that Federal was incorrectly assessed and that the appeals should be allowed. ees seen IN THE FEDERAE ColRI OF ALSTRALIA ) NER SOUIH WALES DISIRICT REGISTRY ) 51 . wy —_—_—_————_: ee eee ) No. G24 of 1977 GENERAL DIVISION ) CORAM 3: BOWEN, C.J., NIMMO and BRENNAN JT, 20 TUNE 977. THE FEDERAL COKE COMPANY PTY. LIMITED and THE COMMISSIONER OF TAXATION OF THE COMMONWEALTH OF AUSTRALIA JUDGMENT NIMMO, J. ¢ This 1s an appeal from a decision made in the Supreme Court of New South Wales Administrative Law Division dismissing appeals brought by the Appellant, The Federal Coke Company Pty. Limited (Federal), against the disallowance by the Respondent, The Commissioner of Taxation of The Commonwealth of Australia (the Commissioner), of objections by it to assessments of the taxable income derived by 1t in the years of aacome ending 30 Sune 1972 and 1973 and of the tax payable thereon, ° Bellambi Coal Company Limited (Bellambi), a coal producing company , was alt aljJ material tames the holding compan, of three coke-producim: companies, namedy, Federal, Mount Pleasant Coke Company Pty. Limited (Mount Pleasant) and Corrimal Coke Pry, Limited (Corrimal). It has wholly owned Federal trom 21 June 1950, Mount Pleasant from 26 January 1962 and Corrimal from 10 March 1970. By an agreement dated 24 April 1970 and made between ) No. G23 of 1977 ' re ee ee aa ee a - «4™ | |i ' Belltambe. and a trench compuuy named Societe Auonyme Le Nachkel the | Nackel) Bellumbi agreed tu sell to Le Nickel and Le Nachel apoei dl toy buy From BDellambs 350,000 long tons of Ausiralran metalluryical coke | produced by subsidiaries of Be llambi1 at the rate of FO,900 ta, - per annum over five years computed From | Jannarv 1077, There wis . provision for monthly deliveries at a price which was fixed but was 1 subyect to variation in specified circumstarices, Ai the date ot 1 ¢ the agreement there existed an arrangement between Bellambi and each of its three subsidiaries whereby the subsidiary converted into coke such quantities of Bellambi's coal as Bellambi delivered to it from vee time to time.in return for a service fee. In the first year that Le Nickel was to buy coke from Bellambi it failed to accept the quantities of coke it had contracted to accept under the agreement. Up to 30 June of that - year (1971) it accepted only 25,372 tons. On 2 July 1971 at requested cancellation of the agreement. On July 7 1971 Bellambi anformed Le Nickel by cable that 1t was not possible for it to accede' to Le Nickel's request. It stated that at the time the agreement was negotiated 11 was made clear to execulives of Le Nickel that it was purchasing a coke plant (Corrimal) in order to be able tou carry out its obligation to supply 70,000 tons to dle Nackel per annum. 'Thereafter, until 15 October 1971, lengthy dascussions tooh place in Sydney and Paris between representatives of the two companies on whether, and if so,-on what terms, Bellambi would release Le Nicke} from its obligations under the agreeneit,. . Tn the minutes of a meeting of the board of directors of Bellambi which was held on 27 July 1971 the following minute ' appears ¢ q = ed ww Mee te 'O., Contract with Societe Anonyme fe Nir hel The General Manager reported that sovciete Anonyme Le Nachel had verbally requested that Bellambi state under wheat rerms at would agvree tu complete or partial caneetlatton of 1ts contractual obligations, It was resolved that - "The Chairman of the Board, Mr. J.B. MaseveGreene, and the' General Manager, Mr. E.J. Ryan, be authorised 10 negotiate a settlement with representatives of Societe Anonyme Le Nickel." ') ! Messrs. Massy-Greene and Ryan and representatives of Le Nackel negotiated a settlement in Paris and its terms were reduced to writing on 18 October 1971 and signed by Ryan on behalf of Bellambi and by one Monsieur Yves Ramband who had authority to sign on behalf of Le Nickel. The opening provisions of the document read as follows : 'It was recalled that the Bellamb1 Coal Company Limited ("Bellambi") and Le Nickel S.A. ("Le Nackei") had entered into an agreement dated 24th April 1970 ("the said Agreement") for the supply by Bellambi to Le Nickel of 350,000 long tons of Australian metallurgical coke over a period of 5 years commencing 1st January 1971 at a rate of 70,000 tons per annum upon terms more particularly set out 1n the said Agreement. 'Le Nickel has informed Bellambi that the prevalent economic recession has affected the demand for nickel and in particular the demand for nickel produced by Le Nickel from irs plant in New-Caledonia. In these circumstances Le Nickel has been obliged to reduce productfon at the said plant such situation entasling loss of profit and also other severe fsrnancial hardship for Le Nickel and this situatron has in turn reduced Le Nackel's requirements for coke. 'Accordingly Le Nickel has asked Bellamh1 to vary the saad Agreement. ° 'Rellambi has pointed out that any reduction 3n the contractual deliveries of coke under the sasd Agreement would entail not only loss of profit to Bellambi but also other severe financia: hardship. ~ 'In consideration of the foregoing the parties have decided to change certain terms and conditions of the said Avreement and have agreed on the following : ee ee aT a te tae. shall. AD Pr dne t ws er ee, ea te ™ ' 1 = As total compensation tor anv and all alteration and changes lo the said Agreement, hereunder set fLovlly Le Niche | agrees to pay to Bellambs and Bellambt agrees to receive from Le Nickel a lump sum oi 1,000,000 Australian Dollars to te patd an two instalments ¢ - 500,000 Australian Dollars on 31 December 1971 mer - 500,000 Australian Dollars on 31 December 1972, Those amounts will be paid to the account of fell aumty at the Commercial Bank of Australia Head Office, George Street, Sydney, Australia.' The document then goes on to provide for the reduction of the tonnage to be purchased by Le Nickel from 350,000 tons to 132,000 tons to be delivered at the rate of 52,000 tons in 1971 and 20,000 tons in each of the ensuing four years. After providing for other matters it concluded with the following paragraph : 'The terms of the said Agreement' (i.e. the Agreement of 24 April 1970) tare to remain valid and banding and are hereby confirmed, save in so far as they are varied by these minutes.' The board of directors of Bellambi met on 28 October 1971. The minutes of the meeting read as follows : , 'It was resolved that - "The following settlement, negotiated by the Chairman and Managing Director in Paris, be approved, A. Le Nickel would pay Bellambi $500,000 on December 31, ' - 4 1971, and a further $500,000 on December 31, 1972, as compensation for agreeing to reduce the contract tonnage. ' B. Bellamba would agree to reduce 'the contract tonnaze from 350,000 to 132,000 ro be detavered as to 3: (1 32,000 tons in 1971 (34 20,000 tons in each of the four subsequent vears," 'It was further' resolved that - "The Genera] Manager obtain the opinion of Mr. U.L. Mahoney, Q.C., regarding taxation aspects of the settlement." 'It was resolved that - "The Federal Ceke Works be closed.".' 4 The Federal Coke Works were closed on 19 November 1971. an te meio Desi whol. " 'ae ee ane - 7s . lhe opinion of Mr. Mahoney, Q.0., Was oblarned amd on 23 December 1971 the General Manager of Hellaumbi forwarded to the Directeur de I'Admintistration of Le Nichel a letter whieh teads as Lollows : 'You w1ll recall that during our meeting tn Paris in November, which was for the purpose of determining certain alterations to the coke coutract which exists between our two companies, at was agreed that this' company would prepare the amending document and pubmit ait io you for ywour consideration, 'T regret the delay, in not submitting this document to you earlier, However, upon my return to Sydney trom Paris, it was necessary for me to leave ior Japan almost immediately and I have been there for nearly the whole of the last four weeks. 'T now enclose a copy of the document which is designed to give effect to the agreement reached between us during our meeting an Paris. It has been compiled after due discussion with Mr, Pointon, of Herbert Smith & Co., and with Cooper Brothers, the company's auditors who are also represented in Paris, and in its present form I understand that payments made under the document will be deductible by you for taxation purposes. 'I have sent a copy of this document to Mr. Germenot of your Sydney office for his information. Our solicitors in Australia, Allen Allen & Hemsley, have sent a copy to Mr. Pointon and have explained to ham in detail, the reasons why certain phraseology is used. Accordingly, af you desire further information on this matter, may I suggest that anitially you contact Mr. Pointon,. 'From January 27 to February 4 next year Mr. Mahoney, Queen's Counsel, who has been advising this company on the taxation aspects of monies received by Rellambt under the agreement, will be an London and is Willing, at Bellambi's expense, to go to Paris to further explain to-you, 1f you should so require, why the document as in the form that :t 13s. Mr, Mahoney's function will be solely to provide an explanation, Arrangements to meet him can be made through Mr. Pointon, who will attend to all the necessary details. '1f the document is acceptable to you in the form submitted, would you please arrange to process 1t fer signature throuvh Mr. Poianton. 'If iat as not acceptable, L would appreciate receiving your comments.' On 30 December 1971 Bellambi sent the tollowing telex to Le Nickel : ae UE =. ne (OO een ee a Ae re) aaNet re ae ee er 8s ro ~ oes 6, Shor Mr. SoUuTLe Le Nickel Paris, dirs. Aust.500,000 in Bellambi'ts tavonr. We expected taiat before remitting this money, your company would require completion of the amending agreement fsivans effeel to the mew \ | 'We are surprised that the Fren bh Bank is holdings a drair ool tcoke sates contract between us, | "She amending contract was sent to you by atrmail December 33, i 1971. Our legal advisers state that 12f Bellambi was to accept payment from you, then Hellambi would certainly pay income tax upon full amount. ; ? 'However, their advice is that, if von agree to sign the amending contract which provides for the money to be paid to the Federal Coke Works Pty. Limited, then 1t 1s possible that both Bellambi and Federal will uot pay tax on the moneys received, 'Accordingly, we would ask you to jnstruct the French Bank to deposit the money in a trust account with the interest being credited to your account until such time as you have decided whether you are walling to sign the amending contract in the form sent to you on December 23. 'In the event of signing the contract, 1t will be necessary for the money presently held by the French Bank to be either returned to you or to be paid to Gold Fields, London, as agents for the Federal Coke Works Pty. Limited or alternatively' by direct remittance from the French Bank, Sydney, to Gold Fields, London, 'All expenses associated with such an arrangement to be to the account of Federal. 1 'I appreciate that this 1s almost New Year's Eve and you may not be able to process the matter immediately, therefore I have advised M. Germenot and the French Hank that we have telerved you on this matter and have requested yuu to tahe the abovementioned actions.'! , On the same day a telephone conveisation !ook piace between an otfaicey of the Sydney Brunch of Hanque Nationale de Paris and the Secretary of Bellambi. The following 15 the bank otfacer's record of the conversation 3: 'Phoned Mr. Foley, Secretary. 'He advises that the $A.500,000 received from Puris should, in effect, be payable to the Federal Coke Works, and thus Bellam1 ; are unable to accept them as to do so, even in transit, would 3 cause a tax probiem, Socyete Le Nackel hid altered so much that a mw drat agreement had been drawn up but, because of dittireulties in obtaining Counsels! opinions, was only sent to Ste Le Nachel on 23rd December 1971. 'Once approved and siened by SIN, then the pavment could be effected alone the Lines of the new amreement. 'It ais however preferred that the payment be effected eithe? | ' ie 'He adds that the conditions of the oraeinal contract with an France or in the U.K. | , | ' 'We advise that in view ot Bellambi refusal to accept the funds, we would be dbliged to go back to the order givers to obtain their new instructions regarding the dispusal of the funds, and that this implied exchange risk and other charges. Mr. Foley stated here that he supposed that SLN would hold Bellambi responsible for all this. 'When we asked Mr. Foley to confirm the above in writing to us, he said that this was impossible as, although he had written to Mr. Germenot explaining in brief the reason for the refusal, he did not want to recognize in any way that the funds had been received and were payable to Bellambi through the BNP. We then pointed out to him that we would be obliged to wrate to him outlining the above, to which he replied that in view of this, he would see 1f:1t were possible to write to us. He would ring us later in the day in this connection. 'Mr. Foley also added that he supposed that SLN France wish to have these funds paid out before the end of the year, to be able to register them as a loss for tax purposes. 'We await further news.' The Secretary of Bellambi wrote to the bank on the same day, stating : 'Actang on advice given to us, we have decided we should not accept receipt of the amount of $A500,@00 forwarded by Societe le Nackel of Paris, until an answer has been receaversd from them accepting the draft amended Agreement forwarded to them on December 2%, 1971. The document, in the form of a deed between Bellambhi and Le Nickel, which was sent to Le Nickel on 23 December 1971 and which was executed on 22 March 1972 contains the following recitals : ieee 'WHEREAS A. By an Agreement dated 24th April 1970 (hereinafter called "the Agreement" ) Bellambi and Le Nickel provided for the } ¢ ¥ i POSE tae lls 0S aT Atle a tn ape eta acl ate i arciten Bete = et ee ne Sel oan The deed "1. sale by Bellambt to Le Nickel over a period of Pive yoar- approsimately ot coke manufactured by certasn subsidiary companies of Bellamb1, ancluding Federal Cohe Works Pty. Limited (hereinalter called "Federal ") Le Nickel has informed Bellamb: that, by reason of an economic recesston anda fall ii the demani? for nickel, the requirements of Le Nickel for coke have been preatty reduced, * Le Nickel has requested Bellamb1 to reduce the amount of the coke produced tty subsidiary companies of Bellambi as referred to un Clause 1 of the Agreement and to reduce the quantity of coke to be sold by Bellambi to Le Nickel under the Agreement., Bellambi has informed Le Nickel that such reduction as aforesaid can only be achieved in a practical manner if there is a discontinuance of all production of coke by Federal and the closure of Federal's coke works. > Bellamb1i has informed Le Nickel that discontinuance of production at Federal's coke works will involve the closure of those works and that thereby the value of the land and assets owned by Federal comprising such coke works will be directly and immediately reduced by reason, inter alia, of action likely to be taken by authorities of the State of New South Wales and certain local government authorities against the coke works in a non-operating condition which would not be taken against them while operating and by reason of other detriments to Federal.' r then provides as follows : - ae ye In the circumstances aforesaid Le Nackel hereby agrees to pay to Federal the sum of one million dollars ($1,000,000) to compensate Federal (and consequently Bellambi) for such loss in the value of the land and assets of Federal as aforesaid (and consequently in the value of the assets of Bellambi) and it 1s agreed thal such sum shall be paid by two equal instalments of five hundred thousand dollars ($300,000) each on the 31st day of March 1972 and the 31st day of December 1972. The* deed then proceeds to vary the agreement of 24 April 1970 on the ldnes set forth in the settlement of 18 October 1971. The details of the variations are not material for present purposes. received In keeping with the provisions of the deed, Federal a sum of $499,567 in each of the years of income ended 30 June 1972 and 1973. Each sum of $499,567 represented a payment Arn Mt OE a ee oem ee ? c by Le Nickel ot #500,000 less eapendature aonecurred by that sompariy in meeting bank charges and losses cue to variaiiuns Li rates of exchange. In its books of acconnt Federal treated the twu payments as receipts of capital being 'compensation wath respect to loss of value of land and assets arising trom dascontinuance of production , at and closure of company's coke works,' The Commissioner otf Taxeatren disagreed with Federal's treatment of the two payments and , . -fo. ancluded them in its assessable income for the two years concerned. Federal objected on the ground that the two sums were receipts of a capital nature, The Commissioner disallowed Federul's objections and appeals to the Supreme Court of New South Wales against the disallowance were, as stated at the beginning of this judgment, dismissed. The learned trial judge held that if the two sums of $500,000 each payable to Bellambi under the settlement of 18 October 1971 had in fact been paid to Rellambi they would have formed part of the assessable income of that company for the years of income concerned. 1 agree with His Honour's conclusion. It was argued by Counsel for the Appellant that the settlement of 18 October 1971 was riothing more than a commercial arrangement and was not antended to be a legally banding agreement but was intended to be only a basis for a future contract. Ioreyec this argument for, several reasons, First, the authority gaven to Messrs. Massy-Greene and Ryan on 27 July 1971 was io negotiate a settlement with Le Nackel and that 15 precisely what they dad on 1& October 1971. Their authority went beyond negotiating 'for' or 'with a view' to a settlement. Secondly, the wording and terms of the settlement minutes' are inconsistent with 1t being other than a legaily binding agreement. For example, the concluding paragraph vee . 10, of the minutes confirmed the terms of the agreement of 24 Aprad 197G and provided thut they were to remain valid and binding save ain +o far as they were varied by those minutes, Thirdly, the minutes contain no previston for the preparation and execution of another document nor 1s there anything 1n them which implies that any sich J document was contemplated. Fourthly, the board of directors of ia Bellambi in the first of the resolutions of 28 October 1971 by meee approving 'the....settlement negotiated by the Chairman and Managing Director in Paris! on 18 October 1971 acknowledged that a settlement between Bellambi and Le Nickel had been effected, Fifthly, on 29 December 1971, Le Nickel sent to the Sydney Branch of Banque Nationale de Paris the first sum of $500,000 which was to be or a paid to Bellambi on 31 December 1971 under the settlement of 18 . ose October 1971. Finally, it was not until after the opinion of Mr. " > peut Mahoney, Q.C., 'regarding taxation aspects of the settlement' had been obtained that the first mention was made of another document % and then 1t and all subsequent references to such a document up to the execution of the deed on 22 March 1972 were made only by {oan ww Sams anege Beliambj. ' The document of T& October 1971 states in Clause 1 of ats operative part that Le Nickel agrees to pay the sum of $1,000,00( t am two instalments of $500,000 each 'tas total compensation for any and all alteration and changes' to the agreement of 24 ApriJ 1970. As the agreement of: 24 Apr2l 1970 was one for the sale and purchase of coke in the quantities and on the terms specified in 1t, and the alteration and changes provided for in the document of 18 October Fy i? ed 1971 relate only to those quantities and terms, the compensation of ¥ one $1,000,000 payable in two instalments of $500,000 each Le Nackel " _ agreed to pay to Bellambi would have been of a revenue nature had it. Nt nae Rete Lee wed Ree te ne we wath -* « = 24% 'Nickel on 30 Deeember 1971. To Beliambi the way out of its 11. been irecerved by Mellambi. The prainctpl: relied on for this conclusion is that 'moneys recovered Srom any source tepresenti1myr items of a revenue account must be regarded as received by way ot revenue! - Federal Commissioner of Taxation . Wade (1951) 84 CVL.R. 105, at p.112, and the passage there cited from the speech of Lord . Macmillan in Van Den Rerghs Ltd. v Clark (1935) A.C.43], at p.440, , The Jearned trial Judge went on to hold that the receipt by Federal instead of by Bellambi of the two instalments 1 did not alter their character in the hands of Federal; they were ! still of an income nature and therefore formed part of the assessable! ancome of Federal for the two years of income concerned. Counsel for the Appellant argued that this was not so. He contended that the source of the payments to Federal was the deed of 22 March 1972 and that receipt by Federal of each instalment was, as stated in the} deed, part compensation for the loss in value of 1ts land and assets ; arising from discontinuance of production at and closure of its ; works and was therefore of a capital nature, I cannot accept this H contention, — Although the payments were made pursuant to the deed i of 22 March 1972 it is an incomplete statement of the position to say that the deed was the source of the payment to Federal. It was Bellambi that gave the consideration and arranged and directed that the payments be made to Federal. The deed, to which Federal 1s not @ party, came into being at the instigation of Bellambi because Be llamb1 desired to'avoid income tax on the two anstalments of $500,000 each which at had been informed by Mr. Mahoney, Q.C., it would have been obliged to pay if it had raceived the two payments ' from Le Nickel. This is clear from the telex Bellambi sent to Le taxation difficulty was to persuade Le Nickel to pay the two sums oO heats ed whe ia + als en ae - Fume ae ae of $500,900 each to Lederal anstead of Bellambi as tt was obliped to do wider the settlement of 18 delober V7 and to make at appear that the two payments were by way o1 compensation Lor an alleged loss in value of Federal's Jand and assets arising, from the closure ' of its works, BeLllamba on 23 December 1971 sent to le Nickel a | ° document designed to achieve that end and in the accompanying letter anformed Le Nickel that payments by it to Federal would be . -/ . : deductible by it for taxation purposes. Bellambi's persuasion was ' successful for Le Nackel executed the document on 22 March 1972 notwithstanding that there never had been privity of contract between it and Federal and that it was not obliged to pay Federal ' anything by way of compensation or otherwise, The alleged compensation of $1,000,000 was not based on any valuation of Federal's alleged loss, it was simply the equivalent of what i Bellambi was entitled to receive from Le Nackel. Nor was Le Nickel, a. responsible for the closure of Federal. That was the result of a weeeeyrm - decision made by Bellambi which had it chosen could have kept Federal operative and closed one of its other subsidiaries, i.e. Pn od Mount Pleasant or Corrimal or it could have kept all three subsidiaries active by reducing the output of all or one or two of them, When asked during the hearing 'before the learned trial jude, why it was decided to close the coke works of Federal and not those of Mount Pleasant, or Corrimal, Mr. Ryan, the General Manager of Bellambi, replied |. - * 'There were numerous reasons, but undoubtedly the major one was the Clean Air Act, Mt. Pleasant was much more advantageously placed than Federal as far as the Clean Air Act was concerned, { In the. omse of Federal there were only 7} acres of land and in 3 the case of Mt. Pleasant there were 30. Federal was zoned * open space, Mt. Pleasant was zoned light industrial. In the °< qnee of Federal there were buildings on the south and west and ~ tennig courts and playing fields in the north. In the case of Mt. Pigasant there was residential area on the south, but some « "x - - _ « oo. ye rn" oN . ' oe Ee as ate tee Se oT whe va " e 13. wom distance tron the coke works, and separated by a Taine of trees, In addition the Mt. Pleasant works was a much mote eco rome plani to operate than the Federal plant, and histeuracally af had been subject to less industrial trouble than Federal. The reason why Corrimal was not closed was the capacity of \ Corrimal was 128,000 tons a vear, and we were only seeking tv f achieve a saving of 50,000 tons a year, ard 1! we had done | anything at Corrimal we would have hal to close half the plant, | whach would have been a most uneconomic action to take,'! ° t As the learned trial judge found the deciston to close Federal was made after the settlement of 18 October 1971 which ' stated that the tivo payments were total compensation for any and all . alteration and changes to the agreement of 24 April 1970. It was not a term of the settlement that Bellambi or Federal was to be compensated for the closure of Federal or any other subsidiary of ' ' Bellambi. The deed of 22 March 1972 was a far cry from the ' settlement of 18 October 1971 and in my opinion was originated for on the sole purpose of diverting from Bellambi to Federal the receipt ! of the two instalments of $500,000 each, which Le Nickel was ; obliged to pay Bellambi under the settlement, so that those sums r ' would not be taxable in the hands of Bellambi. It was not contended that the deed was a sham for the parties to it intended that it be f&1 effective to achieve the purpose for which it was brought into ae existence, In my opinion it yot only had the effect of providing ' A! Le Nackel with an alternative method of payment by which at could hr oe discharge ats obligations to Bellambi but 1t also had the effect of the making of a gift by Bellambi to Federal of the two instalments. t"have reached this conclusion because first there iy no evidence that Federal received the instalments as agent of or trustee for Bellambi and secondly because under its arrangement with Federal, ~ oe 'Bellambi wes under no ebligation to daliver coal to Federal for a Smet t : * phocess4ng no¥ was it under any obligation to compensate Federal . mee —_ lie =k ee £ ' ve we fe ee ~ oan 14, agreement with Le Nickel or tor any Capztal Losses resullaing trom ats closure of Federal'ts works, It follows that, in my view, Federal had no claam or entitlement whatever on either Le Nickel or Bellambi to the two Bellamb.. It does not follow, however, that a gift of what would have been income in the hands of Bellamb1i must necessarily be income \ ~ ! . . in the hands of Federal. As stated by Kitto J. in The Squatting Investment Company Limited v Federal Commissioner of Taxation (1952-1953) 86 C.L.R. 570 at p.627 'It must be observed at once, however, that even if it were correct to describe the payment as a gift in the strict sense of the word, the question we have to consider would still await an answer; for it is a commonplace that a gift may or may not possess an income character in the hands of the recipient,' - - i instalments it received from Le Nickel at the instigation of ree ree .- x - mm What then was the- character in the hands of Federal oft each of the instalments received from Le Nickel? It was not a é payment 'received in the course of Federal's busaness for its '¥ business of 'a coke producer had ceased when the payment was made norh was ita payment which arose out of the functioning of its business f when' tt was operating. lt was not a payment nor did it purport to f be a payment by way of compensation for any loss of profit Federal m4 » sustained by reason of Le Nickel's failure fo carry out the terms of its initial agreement with Bellambi or by reason of Bellambi's F . decision to close down its works. u It follows that unless, there are sume special considerations which demand a view to the contrary, it has not the character of incame. — . we ee =o, Coumisal. for the. Commissioner argued that there 7 Tae us ax : Atm phey beet - tthe * of ah ee OE ede ee oa et nee ee es lle abe ont OMe? s ~ fore = 38 relationship between Bellambi and Federal, viz. that of a parent company and 1ts wholly-owned subsidiary, Tn support he quoted from the judgment of Lord Denning M.R. in Littlewoods Mail Order Stores v Inland Revenue Commissioners (1969) TW.LLR. 1241 at p.1252 where His Lordship declined to treat a wholly-owned snbsidiary ' company as a legal entity separate from and independent of its parent company, a pourse of which Sachs L.J. at p.1255 clearly indicated he was not prepared to approve. He then went on to TO ot ete er ete ee ne er om clain that because the direction given by Bellambi to Le Nickel to pay the two instalments, which would have been income in the hands of Bellambi, to Federal, 1ts wholly-owned subsidiary, was given not only to benefit Federal but indirectly to benefit Bellambi as well, as was acknowledged in the deed of 22 March'1972, it gave to the instalments in Federal's hands an income character. I cannot aceépt this argument. As the law stands in Australia today, A ie Maks ek ee 6 lie aie Federal is a separate and independent entity - Slutzkin v Federal - Commissioner of Taxation (1976) 10 A.L.R. 321 at p.324 - and for 'that reason the fact that it is a wholly-owned subsidiary of woe Bellambi cannot operate to give the payments it received from Le ia Nackel a character they would not otherwise have. i am therefore satisfied that the two payments received from Le Nickel were not income in Federal's hands. As the Commissioner elected to tax Federal and not Bellambi in respect'of the two instalments, possible application of the provisions of sections 19 and 260 of the Income Tax Assessment e " Act 1936 was not argued before us. ~. ' F wopld allow the appeal. a Barniniad I IN THE FEDFRAL COURT OF AUSTRALIA ) - No. G23 of 1977 No. G24 of 1977 NEW SOUTH WALES DISTRICT REGISTRY wwe ae GENERAL DIVISION CORAM: BOWEN C.J., NIMMO and BRENNAN JJ. - 1977 THE FEDERAL COKE COMPANY PTY. LIMITED v. THE COMMISSIONER OF TAXATION OF THE COMMONWEALTH OF AUSTRALIA JUDGMENT BRENNAN, J.: The facts which gave rise to the deed of 22nd March, 1972 between The Bellambi Coal Company Limited (which I shall call Bellambi) and Societe Anonyme Le Nickel (which I shall call Le Nickel) are set out in the judgments of the Chief Judge and of Nimmo, J., and it 1s unnecessary to repeat them. Pursuant to the deed, Le Nickel paid to the appellant (which I shall call Federal) two amounts, each of $499,567. The first amount was paid in the income year ended 30th June, 1972, and the second in the income year ended 30th June, 1973. The respondent asscssed Federal to tax in respect of each receipt, and the question in these proceedings is whether the asscssments should be upheld or whether the assessments be varied by excluding therefrom the respective amounts of $499,567. Le Nickel paid the respective umounts to Federal because the deed bound it to do so. The consideration for the promise to make the payments was provided by Bcellambi. Bellambi secured Le Nickel's promise to pay the amounts to Federal in consideration of the variation of the coke supply contract between Bellambi and Le Nickel. As between Le Nickel and Federal the payment was gratuitous: the payment did not discharge any antecedent liability owed to ./2. 2. Federal and its receipt did not impose any obligation upon Federal. Federal was, at all material times, a wholly owned subsidiary of Bellambi, but it did not receive the amounts paid to it as agent or trustee for Bellambi. It received these amounts for itself. When received, each amount increased Federal's nett assets and the value of its shares was thereby enhanced. That was the benefit which flowed, and which was intended to flow, to Federal's shareholder, Bellambi. Federal may, in a sense, be said to have received the payments as a gift, but such a description does not determine the character of the receipt. As Kitto J. said in The Squatting Investment Co. Ltd. v. Federal Commissioner of Taxation (1953) 86 C.L.R. 570 at pp. 627, 628: "It must be observed at once, however, that even if 1t were correct to describe the payment as a gift in the strict sense of the word, the question we have to consider would still await an answer; for it is a commonplace that a gift may or may not possess an income character in the hands of the recipient. The question whether a receipt comes 1n aS income must always depend for its answer upon a consideration of the whole of the circumstances; and even in respect of a true gift it is necessary to inquire how and why it came about that the gift was made." Whether a payment be made by way of gift or not, the principle 1s that moneys received from any source, representing items of a revenue account must be regarded as received by way of revenue (Federal Commissioner of Taxation v. Wade (1951) 84 C.L.R. 105 at p. 112). When a recipient of moneys provides consideration for the payment, the consideration will ordinarily supply the touchstone for ascertaining whether the receipt is on revenue account or not. The character of an asset which is sold for a price, or the character of a cause of action : 6/3. 3. discharged by a payment will ordinarily determine, unless 1t be a sham transaction, the character of the receipt of the price or payment. The consideration establishes the matter in respect of which the moneys are received. The character of the receipt may then be determined by the character, in the recipient's hands, of the matter in respect of which the moneys are received. Thus, when moneys are received in consideration of surrendering a benefit to which the recipient 1s entitled under a contract, it is relevant to enquire whether or not that benefit was a capital asset in his hands. To adapt the words of Lord Macmillan in Van Den Bergs Ltd. v. Clark (1935) A.C. at p. 443, and of Williams J. in' Bennett v. Federal Commissioner of Taxation (1947) 75 C.L.R. 480 at p. 485, the enquiry is whether the congeries of the rights which the recipient enjoyed under the contract and which for a price he surrendered was a capital asset. When a recipient gives no consideration for a receipt, it is not possible to identify the matter in respect of which the moneys are received by reference to rights which the recipient surrenders. Nevertheless, an enquiry into the "how and why" of the receipt may reveal the matter in respect of which the payment is received. If there be a consensus between the payer and the payee, their common understanding may identify the relevant matter. The intention or understanding of the payer alone is insufficient for "it would plainly be unsound to allow a determination of the character of a receipt in the hands of the recipient to be affected by a consideration of the uncommunicated reasoning which led the payer to agree to pay it" (McLaurin v. Federal Commissioner of Taxation ./4. 4. (1961) 104 C.L.R. 381 at p. 391). In the present case there is a consensus between Bellambi and Federal - between the company which directed the payment to be made and the company which received the payment. Each of the companies had common directors who acted simultaneously as the boards of both. Federal may thus be taken to have shared Bellambi's motive in causing the payments to be made to Federal and Bellambi's selection of the matter in respect of which the payments were made. In casting the transaction in the form which Bellambi chose, Bellambi and Federal were no doubt motivated to avoid the possible tax liability in Bellambi which may have arisen if Bellambi had received the payments from Le Nickel. There was a sufficient similarity between Bellambi's position and that of the appellant company in Heavy Minerals Pty. Ltd. v. Federal Commissioner of Taxation (1966) 115 C.L.R. 512 to warrant the devising of a scheme which would divert the proposed payments by Le Nickel to a recipient who might take the payments without incurring a tax liability. The motive for devising the scheme, however, says nothing as to its success. When a recipient gives no consideration for a receipt, the motive of the payer 1s not irrelevant (albeit not conclusive) in determining the character of the receipt (Hayes v. Federal Commissioner of Taxation (1956) 96 C.L.R. 47 at p. 56). The motive may either tend to identify the matter in respect of which a payment is made, or 1t may show that there is a mere gift, which is unrelated to any matter by reference to which the character of the receipt may be ascertained. The significance of the motive depends upon the circumstances. ./5. 5. Federal's business of processing coal into coke for Bellambi was, of course, dependent upon BejJlambi's ability to sell the coke to its customers. So long as Bellambi had sales for the coke which Federal could produce, Federal was assured of a profitable business. Bellambi had agreed on 28th June, 1968 to pay Federal a fee for processing its coal at a rate per ton which would cover Federal's costs of processing plus a sum which would provide Federal with a profit. In 1971, the profit rate stood at 0.4¢ per long ton. Bellambi had not bound itself, however, to provide any minimum quantity of coal for processing. When Bellambi's sales to Le Nickel partly fell away, the directors decided to close Federal's works to avoid the high capital outlay and other disadvantages that were involved in continuing production there. Whether the works of another subsidiary may have been closed instead of the Federal works is immaterial. The fact is that, on 19th November, 1971, Federal ceased production and thereafter its works were closed and its coke processing business ceased. It was no longer entitled to use its land for the purpose of making coke and its plant was dismantled. The result was a diminution in the value of its capital assets. Bellamb1 was not obliged to compensate Federal for that diminution. But the appellant's case 1s that Bellambi chose to do so, and that the payments were directed to and accepted by Federal in compensation for that diminution. If there were any motive, other than the mere avoidance of a possible tax liability, in directing the payments to Federal, the likely motive was to compensate Federal for loss in the value of its capital assets. Federal had, at the date of the deed, sustained an actual ./6. 6. loss in the value of its assets, and a cause of that loss was the contraction of Le Nickel's requirements for coke. Le Nickel was to pay $1,000,000 in order to procure its release from an obligation to take more coke than it required. By the deed of 22nd March, 1972, Bellambi directed Le Nickel to make the payments to Federal "'to compensate Federal (and consequently Bellambi) for such loss in the value of the land and assets of Federal as aforesaid", that 1s, the loss in the value of the land and assets "comprising the coke works". I do not see why the contents of the deed should not be admissible to explain the contemporaneous motive and purpose of Bellambi in giving Le Nickel the direction, therein contained, to make the payments to Federal. The evidence tends to identify the matter in respect of which the payments were received, but the conclusion to which it tends must be tested by reference to other relevant evidence. The disparity between the amounts received by Federal and any reasonable estimate of the value of its expected profits in the future is a factor which supports the conclusion that the amounts were received as compensation for loss in the value of assets of a capital kind. What other cxplanation can there be for Bellambi's direction to pay the amounts to Federal? The receipts could not have represented the temporary loss of profits which the carrying on of Federal's business were expected to yield, for Federal's business was closed before the direction was given, and the magnitude of the receipts appears inconsistent with an explanation of this kind. The evidence shows that Bellambi directed the payments to be made, and Federal received the payments, as compensation 22/7. 7. for the loss in value of capital assets. The consequence of this finding is that the receipts bear the character of receipts on capital account and do not form part of Federal's assessable income (cf. Californian Oil Products Ltd. (In liquidation) v. Federal Commissioner of Taxation (1934) 52 C.L.R. 28). If it be said that Federal did not receive the amounts in respect of any loss sustained by it, but merely to provide a tax-free sanctuary for the funds, the respondent's case is not thereby advanced. A money sum is amenable to characterization only in the hands of a recipient (Scott v. Federal Commissioner of Taxation (1966) 117 C.L.R. 514 at p. 526), and if it be impossible to relate the receipt to any income-producing activity on the part of the recipient, that fact is decisive (Hayes v. Federal Commissioner of Taxation (1956) 96 C.IL.R. 47 at p. 56). Federal did not conduct a business of receiving moneys which were earned by or payable to other members of the Bellambi group, nor did its business extend to the receipt of moneys paid at the direction of Bellambi for the purpose of avoiding possible tax liabilities if Bellambi should receive them. The receipts were not therefore related to an income-producing activity and they do not form part of Federal's assessable income. During argument, much was said as to the liability of Bellambi to tax in respect of the payments which Le Nickel agreed to make. Whether Bellambi is, or whether in different circumstances 1t might have been, liable to tax in respect of the payments made by Le Nickel are questions which do not now fall for decision. It is sufficicnt to say that, whatever Bellambi's liability 1s or might have been, Federal cannot be made to bear it. ./8. 8. I would therefore allow the appeals with costs here and in the Supreme Court of New South Wales.