"y we "ee NAS CATCHWORDS INCOME TAX - Sale of unregistered trade name and logo to offshore company - licence back from purchaser to vendor - legal effect of sale of trade name without goodwill - deductibility of licence payments. Income Tax Assessment Act 1936, ss.51, 260 Bacchus Marsh Concentrated Milk Co Ltd (In Liquidation) v Joseph Nathan & Co Ltd (1919) 26 CLR 410 Pinto v Badman 1891 8 RPC 181 Need v J _H Coles Pty Ltd (1931) 46 CLR 470 J _H Coles Pty Ltd v Need (1933) 49 CLR 499 Commissioner of Taxation v Gulland (1985) 60 ALJR 150 Magna Alloys and Research Pty Ltd v FCT (1980) 49 FLR 183; 33 ALR 3 COMMISSIONER OF TAXATION v JUST JEANS PTY LTD No. VG 38 of 1986 No. VG 39 of 1986 Woodward, Neaves and Wilcox JJ. 13 May 1987 Melbourne o. IN THE FEDERAL COURT OF AUSTRALIA ) ) VICTORIA DISTRICT REGISTRY ) VG No. ) VG No. ) GENERAL DIVISTON ON APPEAL FROM THE SUPREME COURT OF VICTORIA BETWEEN ry COMMISSIONER OF TAXATION and JUST JEANS PTY LTD MINUTES OF ORDER COURT: Woodward, Neaves & Wilcox JJ. DATE: 13 May 1987 PLACE: Melbourne THE COURT ORDERS THAT: 38 of 1986 39 of 1986 Appellant Respondent 1. The appeals be allowed with costs to be taxed and paid by the respondent. 2. So much of the judgment of the Supreme Court of Victoria as relates to the respondent's appeals in respect of the years of income ended 30 June 1980, 31 July 1981, 31 July 1982, 31 July 1983 and 31 July 1984 be set aside; and in lieu thereof it be ordered - a. acy | (a) that the appeal in respect of the year of income ended 30 June 1980 be allowed to the extent of excising from the respondent's taxable income in respect of that year the amount of $1,226.00 claimed as a deduction by way of investment allowance in respect of warehouse hanging racks and intercoms but that otherwise the appeal be dismissed; (b) that the appeal in respect of the year of income ended 31 July 1982 be allowed to the extent of excising from the respondent's taxable income in respect of that year the amount of $3,527.00 claimed as a deduction by way of investment allowance in respect of handy angle shelving systems but that otherwise the appeal be dismissed; (ec) that the appeals in respect of the years of income ended 31 July 1981, 31 July 1983 and 31 July 1984 be dismissed. (NOTE: Settlement and entry of orders is dealt with by 0.36 of the Federal Court Rules). By oe IN THE FEDERAL COURT OF AUSTRALIA VICTORIA DISTRICT REGISTRY VG No. 38 of 1986 VG No. 39 of 1986 wwe ww GENERAL DIVISION ON APPEAL FROM THE SUPREME COURT OF VICTORIA BETWEEN: COMMISSIONER OF TAXATION Appellant and JUST JEANS PTY LTD Respondent COURT: Woodward, Neaves & Wilcox JJ. DATE: 13 May 1987 PLACE: Melbourne REASONS FOR JUDGMENT THE COURT These are appeals from decisions of the Supreme Court of Victoria upholding, as against the Commissioner of Taxation ('the Commissioner'), claims for deductions from assessable income of licence payments or royalties paid by Just Jeans Pty Ltd ('Just Jeans') to a Dutch company, Wilverley Mansions I.B.V. ('Wilverley Mansions') during relevant tax periods. Just Jeans claimed these payments could properly be deducted from assessable income for the purposes of calculating taxable income under s.51 of the Income Tax Assessment Act 1936 ('the Act'). The right to the use of the name and logo 'Just Jeans' in the relevant periods was said to have been granted by Just Jeans to Wilverley Mansions pursuant to an agreement dated 15 June 1980 ('the agreement'). That agreement, in substance, provided for the sale of the name 'Just Jeans' and the logo to Wilverley Mansions for SA 6,000,000, free of all withholding or other taxes, which was to be paid as to $500,000 by 30 June 1980, as to $2,500,000 by 30 June 1982, and as to $3,000,000 by 30 June 1984, By the agreement, the purchaser granted back to Just Jeans, for an initial period of three years, an exclusive licence to use the name and logo on the mainland of Australia. (Just Jeans did not operate its retail business - to which the name and logo attached —- in Tasmania.) The licence was in consideration of a fee, payable annually, equal to four per cent of the turnover of Just Jeans' business. This fee was to be payable in Australian dollars, free of all Australian taxes including withholding taxes, and notwithstanding any change in the rate of exchange between the two countries. Article 17 of the agreement is worthy of special note and will have to be considered in more detail later. It provided that, if any of the specified events occurred to either party, Wilverley Mansions would reassign to Just Jeans the whole of its rights to the name and logo and would thereupon be released from all its obligations including that of paying further instalments of purchase price. It would retain any payments already made. In me the same way, Just Jeans would be relieved of any further payments of royalties, but Wilverley Mansions would retain royalties already paid. The historical background was described by the learned trial judge as follows: "... The business, dust Jeans, had been a partnership formed by Mr Kimberley and his brother and had then been converted into the appellant company in which the Kimberley family were the only shareholders in 1971 and at all relevant times. It had carried on the business of retail selling of clothing in Australia and had built up the reputation of the name 'Just Jeans' and in turn the mark and logo in the form which was the subject of evidence before me. That reputation was built up over a period of time and was well-known to the public, at least in the eastern States. It was not, however, a mark used to any great extent on jeans, although it has been used on certain other clothing. The name and associated goodwill was therefore primarily that of the retail business. --. it was a valuable asset of the company for the reasons I have just mentioned but it had not been brought into the balance sheets of the company for any of the years up to 30 June 1979. By late 1979, the company had expanded. It then had something in excess of 65 shops and it had acquired certain other related businesses and it appeared then to have had difficulties or was likely to have difficulties in maintaining its desired rate of expansion from its existing working capital and from loans from the bank and the other institutions with which it was then dealing. ~ Its principal lender, the A.N.Z. Banking Group, had indicated that it would not increase its lending pursuant to the existing facilities. This position was said to be critical although I did not understand that to mean that the company was unlikely to be able to pay its debts as they fell due. Rather, I understood it to mean that its planned expansion was going to be seriously curtailed if it could not obtain other funds from borrowing. I should add that its balance sheet indicated quite clearly that, apart from current assets consisting of items such as stock on hand, shop fittings and fixtures and things of that nature, it really had very few assets of significance. Apparently, it did not buy any of the properties on which it carried on business and ae therefore it had no real estate nor any other substantial assets against which it would be easy to obtain loans." After discussions with financial advisers, the management of Just Jeans decided that a sale and licence back of the name and logo would be advantageous to Just Jeans in that the name and logo would thus be valued and become a substantial asset to be included in the company's books of account, thereby (they believed) enhancing the company's borrowing power. It was contemplated that the purchase of the name and logo would be attractive to a Netherlands corporation, due toa low rate of taxation on income from intellectual property royalties in that country. An appropriate Netherlands corporation was sought to purchase the name and logo and, after lengthy discussions, Just Jeans and Wilverley Mansions entered into the agreement of 15 June 1980. An oral agreement between the parties had previously been reached on 4 or 5 February 1980, which provided that the name and logo would be sold to Wilverley Mansions for a sum of $A 6,000,000 payable by instalments as set out above. It was further agreed that Just Jeans would take an exclusive licence back to use the name and logo for three years. The evidence before the learned trial judge suggested that Just Jeans desired a longer licence term but that Wilverley Mansions held out for such a period because the Dutch revenue authorities would not be bound by their own rulings in such cases for longer than three years. tte a de Se In return for the licence, Just Jeans was to pay an annual fee equal to 4% of its turnover, payable in Australian dollars, free of all Australian taxes including withholding taxes. The licence fee would be calculated from 1 January 1980 but would be payable each June. It would thus appear that the oral agreement of 4 or 5 February 1980 was substantially that which was later reduced to writing and dated 15 June 1980. After the oral agreement was reached, both parties sought the approval of their respective fiscal authorities. Approval was given by the Reserve Bank of Australia on 15 April 1980 to the agreement in the form in which it was subsequently executed. The Bank was not, however, prepared to approve an agreement having any retrospective effect. Some time in June 1980, approval was given by the Dutch revenue authorities. Thereafter the written agreement was executed and, notwithstanding that it was dated 15 June 1980, his Honour found that it had not been signed and exchanged until 23 June. Both before and after execution of the written agreement, Just Jeans set about reorganising its financial affairs and had discussions with financiers about the restructuring of its existing loans. The learned trial judge found that the net result of these transactions was that, at the beginning of 1981, there was an increase in its combined borrowing facilities of $1,200,000. At the end of the three year period contemplated by the agreement, two further extensions were agreed between the parties, which maintained the arrangement in force up to the date of hearing. There were two basic issues said by the learned trial judge to require his attention at the end of the trial. The first arose from the Commissioner's submission that none of the royalty payments was deductible under the provisions of s.51(1) of the Act, because the expenditure was not incurred in gaining or producing assessable income, or in carrying on a business for the purpose of gaining or producing assessable income, and that the expenditure was incidental and relevant to one end only, namely, the production of a taxation advantage. The second issue which remained for consideration was whether the licence and royalty payments comprised part of a contract, agreement or arrangement which, by virtue of s.260 of the Act, was absolutely void against the respondent. The Commissioner's primary submission, subsequently abandoned at the beginning of counsel's final address, had been that the agreement was a sham, that Just Jeans had not assigned or intended to assign the right to its name and logo and obtain a licence back of the rights to use them. As a consequence of this allegation being abandoned, the learned trial judge said, "...I must therefore accept that the right to the name and logo was in fact assigned to Wilverley Mansions by the agreement and that, by the terms of that very agreement, there was a licence back" to dust Jeans. His Honour went on to find that the sale agreement was executed and that there was a licence back pursuant to which the licence fees were paid. He also found that the royalties and relevant withholding tax were paid in each year (except that in 1984 a sum was set off between the parties) and that the principal was paid by Wilverley Mansions and was paid on time (except that, in the year 1982, it requested an extension, deferring payment of $1,000,000 to 30 June 1983, and paying interest on that amount at an agreed rate until it was paid). His Honour concluded that Mr Day, Mr Terry and Mr Craig Kimberley (the three persons mainly concerned in Just Jeans' decision to enter into the agreement), were aware of the advantages, so far as their cash flow was concerned, arising from the use of the licence payments as deductions under s.51 of the Act, although he did not consider that it was a principal reason behind the decision to commence negotiations and to make the agreement. His Honour went on to say that, insofar as it was relevant to the case, the main reason or objective of the Just Jeans company and its advisers was to raise more working capital for expansion, and an incidental advantage was intended to be obtained by the deduction of the licence fees in calculating its taxable income. His Honour considered the evidence about the time at which agreement was reached between the parties, and found that agreement was reached orally on either 4 or 5 February 1980, but there were some matters which had not been finally resolved - not as to what had been agreed, but as to the mechanics of putting that agreement into effect. In particular, certain rulings had to be obtained from the Reserve Bank of Australia and relevant Dutch taxation a uthorities. Much was made by the Commissioner about the calculation of royalty payments from 1 January 1980 though they were to be paid in June of each year. The reason for calculation of the the payments from 1 January, and not from the date of the oral agreement or some later date, was dealt with by his Honour in the following terms - His Honour "... I am not entirely sure why the latter method of payment was agreed upon but I would infer that, so far as Wilverley Mansions was concerned, it was anxious to obtain a substantial sum in advance of the three dates fixed for payment of principal to enable it to make those payments, that is, as the first payment was due on 30 June 1980, Wilverley Mansions was anxious to have licence fees paid in advance to help it to pay that instalment of the principal sum. The appellant was anxious to show its lenders that the purchaser was a company of substance in the sense that it appeared capable of paying an instalment of $500,000, and it was also aware that the licence fees could be deducted under s.51. The date of calculation, the 1 January 1980, was both practical and convenient for both sides. In no way do I think that strange, although other people might organise their affairs differently." went onto find that each party to the agreement thought that there had been an agreement reached and the qualifications were the need to obtain the Dutch tax ruling the Reserve Bank ruling, neither of which was thought to pose significant problem. In conclusion on this matter he said: "... I therefore see nothing unusual about the fact that the date for calculation of licence fees was the 1 January, as opposed to 4 or 5 February and as the opposed to the date which ultimately appeared on the agreement, the 15 June 1980. It was the royalty which was to be calculated from 1 January in the minds of the parties to the arrangement, not the operation of the assignment, which obviously had not and could not have taken place before the parties had agreed upon it in February." only and any His Honour was later to restate this finding by saying that the parties did not see 1 January as a date from which a notional payment for a notional assignment was to be made, but only as a date from which the money payments of the royalties were to be calculated. As to the nature of the agreement entered into, his Honour said, ",.. The transaction has some curious elements to it. In fact, when I first saw it and when the Matter was outlined to me in evidence, I thought that it was more than curious in the sense that a company, which had built up a reputation in a name, was disposing of that name and the goodwill attached thereto to a foreign company in return only for a fixed sum and three year licence period. However, the fact that it was curious does not mean that it was not a genuine business transaction designed to effectuate some real business purpose. The Commissioner conceded that it was not a_ shan, so the right to the mark 'Just Jeans' must have passed to Wilverley Mansions. The evidence indicates to me, so far as it is relevant, that there was a real business purpose to be achieved and which it appears was substantially achieved. The transaction still, in a sense, is not a transaction, as one of the witnesses conceded, that every retailer would enter into but there was a purpose behind it, which was a real purpose to those involved in the control of the company and that was to enable the borrowing of further funds for the continued conduct and expansion of the appellant's business. There was nothing unusual about the price or the rate of royalty, so far as I can see. Certainly the rate of royalty, although the fees have been paid for a number of years and in fact the disputed tax has already been paid in accordance with the terms of the Act, has not' been so excessive as to bring down the company." His Honour also observed that whilst the licence agreement was only for 3 years, there were practical reasons why the agreement would be renewed, as indeed it was. First, the income received within the first three year period would not be sufficient to enable Wilverley Mansions, except out of other funds, to pay the - 10 - purchase price. The agreement therefore encouraged, as a matter of necessity, either the extension of the agreement or negotiations with another party to take over the business name and use it in Australia. However the latter possibility seemed unlikely to his Honour. Given that the present managers of Just Jeans were responsible for its success, it would appear obvious that they would be the best people to continue the use of that name and thus to ensure the greatest return to Wilverley Mansions. The Commissioner, in arguing that the arrangement was for the purpose of avoiding tax, pointed to the matching amounts of money paid by each party. The learned trial judge saw nothing extraordinary in the licence fees being used to pay, or help to pay, the price agreed ta be paid as consideration for the original assignment. His Honour went on to say that: ",.. In any event the projections would not have meant a precise matching but, even if there were a Matching, that matching, in my opinion, would have been designed to enable Wilverley Mansions to pay the price and not for some other purpose on the part of the taxpayer, except that it could expect to receive certain instalments of principal from time to time. It is not insignificant that in the three relevant years the appellant was obliged to pay the licence fee before Wilverley Mansions was obliged to pay each instaIment of principal." It was said, by the Commissioner, that the licence payments were not properly deductible. His Honour, although indicating some difficulty in following the argument in the light of the Commissioner's concession that the agreement was not a sham, expressed a clear view: ",.. At least from 15 June 1980 and thereafter, there was an assignment and there was a right to a licence, which was obtained and which was directly relevant to the carrying on of the appellant's Mu -11- business. Indeed, as the evidence indicated, it was essential to the appellant's business that it maintained that name. It was suggested in some way that the agreement was voluntary and certain passages in Magna Alloys and Research Pty. Ltd. -—v- Federal Commissioner oF Taxation, (19680) 49 F-L.R., 183 were relied on, aS well as Ure -v— Federal Commissioner of Taxation, (1981) 50 F.L.R. 219 and The Federal Commissioner of Taxation -v- Ilbery, Tigsl) 58 F.L.R. I91.. Every Business contract is voluntary, in the sense that the two parties normally come to it with a choice; perhaps economists may differ on that but there is normally some choice involved in entering into an agreement. It was submitted that there was no significant relevant connection of the outgoings with the earning of assessable income. In the light of my findings and of the concession that the agreement was not a sham, I cannot accept that submission. I therefore find it difficult to see, in respect of the period from i5 June 1980, that the payments were otherwise than necessarily incurred in carrying on the business for the purpose of gaining or producing assessable income. The question of voluntariness and the taxpayer's purpose does not truly arise in relation to these transactions: that arises in relation only to a transaction which is not entered into in the first place for the'purpose of gaining or producing assessable income or by which expenditure is incurred pursuant to a contract which is not obviously connected with the business undertaking of the taxpayer: cf. per Brennan, J. in the Magna Alloys case, at p.191. These payments were obviously incidental and relevant, in my opinion, to the appellant's business. Therefore, in respect of those payments, I have no hesitation in holding that they were properly to be deducted from the assessable income of the taxpayer." The Commissioner finally argued that the arrangements between Just Jeans and Wilverley Mansions were in the nature of a scheme for the purpose of avoiding income tax, as described in s.260 of the Act. The Commissioner's submission was, the learned trial judge said, that because the money went out and back again to Just Jeans in some way, that made the deduction capable of being attacked as having more than the ordinary tax consequences of being deductible under s.51. -12- In considering that submission his Honour commented that what was paid was a revenue payment whereas what was received was a capital receipt. His Honour then made reference to the timing of the payments by both parties. He said: wl... O£ course, the parties were concerned that money should be available to pay both the instalments of principal on the one side and the payments of royalties on the other. Both were new obligations incurred by each company. As I have said already, it appears to me from the evidence and from the agreement, that the principal concern was that Wilverley Mansions should obtain the royalties before it was obliged to pay each instalment of principal rather than the other way around. In the first year, there was clearly going to be a large outgoing, that is, a payment of cash of half a million dollars, which had not been previously incurred and, in relation to this contract, at least, since the principal was not being paid immediately but over a period of time, that money had to be found from somewhere. The fact that the deposit or first instalment, whatever one likes to call it, of the consideration was to be paid in June was of some significance but only from a cash flow viewpoint and inno way from a taxation viewpoint, although the right to deduct the royalty payments in the first year was an obvious consequence of such a business transaction of which the appellant was not unaware." Neither was there anything in the circumstances surrounding the transaction which, in the view of the learned trial judge, indicated that it should be stamped as one for the avoiding of tax under s.260. His Honour concluded his findings on that point by saying: "... There remains only a suggestion that other overt acts should be seen as providing' the circumstances by which the transaction should be characterised differently. It was said that there was some arrangement between the parties whereby there was an agreement that the mark should be retransferred or reassigned, not for its full value, but for some lesser value. I find on the facts that there was no such agreement and, because of that, I do not see that it is necessary to pursue the matter further." -~13- The learned trial judge's final observations on s.260 argument are succinct, and summarise the case as he saw "...-. I do not think it is necessary to say anything more than that this transaction was not artificial and was a transaction capable of explanation by reference to ordinary business dealings within the meaning of Newton -v- The Federal Commissioner of Taxation, (1958) 98 CLL UR., Tat p.8, to the extent to which it was approved, in Gulland's Case: 84 A.T.C. at p.4771, 4779, 4795. [See now 60 ALJR 150.] It was not an ordinary, day to day transaction but that is not what is meant by that expression. It was a business dealing, it was capable of explanation and it was explained, in my opinion, by reference to the business interests of all the parties. Nothing that I have heard in evidence is, to my way of thinking, inconsistent with the transaction being one which was capable of explanation by reference to ordinary business dealings. As I have said, the cash flow argument, which was again put to me on this, seems to be to misconceive the nature of the transaction. The licence fees certainly flowed out of Just Jeans and principal certainly flowed back in, but the right to the mark was assigned absolutely to Wilverley Mansions as assignee, as was conceded. It was assigned only in equity, if that is applicable in Dutch law, as from the moment the parties agreed, but it was later assigned by written agreement and the payments which were made by the Dutch company Wilverley Mansions could not have been treated in the books of the taxpayer company other than as capital receipts. At the end of the day, Just Jeans had received the consideration of six million and they had lost the right to the trademark and logo and the associated goodwill. Those payments, therefore, seem to me not to be comparing like with like and insofar as there was a flow of cash, then that flow of cash was referable to, and capable of explanation by reference to, an ordinary business dealing being the transfer of the logo and the grant of a licence to use it in return. Such a conclusion flows inevitably from the concession in argument that the agreement was not a sham. For those reasons, I hold that the taxpayer company has established that there was no contract, agreement or arrangement which, by virtue of s.260, is absolutely void against the respondent." the it: -14- Thus the learned trial judge found that the transaction embodied in the sale agreement "was not artificial and was a transaction capable of explanation by reference to ordinary business dealings ..... It was not an ordinary day to day transaction but that is not what is meant by that expression". Earlier he had said, "the transaction has some curious elements to it". We would, with respect, go somewhat further and say that the transaction has some quite extraordinary aspects. In the first place there is the question of the Wilverley Mansions involvement. That company, registered in Holland, is controlled by a New York lawyer called Etra who has an impressive list of academic and professional achievements, but was found by the learned trial judge to be "lacking in candour". He was known to dust Jeans' legal adviser, Mr Terry, who seems to have introduced him to this transaction. Mr Terry was aware that Wilverley Mansions was Mr Etra's company, but his Honour found that he did not trouble to inform the Just Jeans principals of that fact until 1982. When they entered into the contract, and for two years thereafter, they (Mr Kimberley and Mr Day) believed Wilverley Mansions was controlled by a reputable Dutch bank. The fact was that Just Jeans sold its highly valuable name to a New York lawyer of whom it knew very little. The next strange circumstance is that the name, in itself, could have been of no use to the lawyer outside mainland Australia and of no practical use in this country. There is no - 15 - suggestion that Wilverley Mansions was interested in trading in jeans or other clothing here or anywhere else. There were unusual, though explicable, aspects to the transaction's timings. The learned trial judge's treatment of the early date from which royalties were calculated is set out above. The making of a final payment ($2.5m) by Wilverley Mansions a year after the licence back was due to expire also seems a little odd. But the two really remarkable features of the arrangement were the possibly related matters of Article 17 of the agreement and the absence of any provision as to the rights of Just Jeans (or, for that matter, Wilverley Mansions) after the three year licence back had expired. The principals of Just Jeans gave evidence, which his Honour apparently accepted, the burden of which was that they did not discuss among themselves, or otherwise consider, what might occur. This meant that they had surrendered the right to use the company's own name, a vital and most valuable aspect of its goodwill, in perpetuity. There was some evidence that it would have cost them perhaps $2.5m to establish a fresh name so, at the least, they could have been held to ransom for an amount of this order. Article 17 of the Sale Agreement is headed "INSOLVENCY" and reads, - 16 - "The parties hereto agree that: [then follow a series of numbered paragraphs referring to eventualities such as insolvency or receivership and including the following paragraphs] 5. if either of the parties ceases to carry on business or states its intention to do so; eeeeee 8. if either of the parties shall without the prior written consent of the other party sell or part with possession of the whole or the major part of its undertaking; 9. if either of the parties is in breach of any of the provisions under this Agreement, including the payment of any sum due hereunder, for a period of 30 days; 10. if there is a material change in the taxation, exchange control or other applicable domestic laws or international treaties in for in the TERRITORY of or affecting either party adverse to the purposes or operation of this Agreement then PURCHASER shall forthwith reassign to VENDOR (and VENDOR hereby agrees to such assignment) the whole of its rights in the PROPERTY and in consideration of this reassignment VENDOR agrees with PURCHASER that PURCHASER shall be forthwith released from all its obligations hereunder including but not limited to the payment of any further instalments of the purchase price or part thereof in accordance with Article 4 and PURCHASER agrees with VENDOR that VENDOR may retain the whole or part of the instalments of the purchase price paid to it prior to the reassignment of the PROPERTY in accordance with this clause. In the event of such reassignment the LICENCE hereby granted shall be extinguished and all obligations of the VENDOR to pay royalties' shall cease forthwith. The PURCHASER may retain the whole of any royalties paid prior to the reassignment of the rights." The appeals to this Court were on a number of grounds which were conveniently summarized by senior counsel for appellant in the following terms: "1, The subject of the agreement is a trade name or unregistered trade mark. They do not constitute property, or property separate from the business to which they are adjunct, and are in law incapable of the -17- transfer. Thus, they were not transferred or dealt with in any way by the agreement, and payments made under it purportedly in consideration for such transfer or dealings were made without consideration. The result of the above, is that: (a) there was no outgoing incurred by the Respondent, because the payments by each are mere naked payments which may be set off against each other; (b) the payments are not ones which can, as mere naked payments, fall within either limb of s.51. 2. The sole purpose of the payments was to obtain a tax advantage by the incurring of a deduction. Such payments are not ones to which s.51 applies. 3. The trial judge ought to have found that there was an agreement on the part of Wilverley Mansions to return the subject of the agreement to the Respondent at a nominal payment in the circumstances. In that case, the Respondent's payments are properly characterised as a return to Wilverley Mansions of the price which it was paying to the Respondent. Such payments would not be ones to which s.51 applies. 4. The agreement was (with or without the agreement referred to in point 3) one which has the effect of avoiding income tax by altering the incidence of the tax which would have been imposed on the Respondents, and is void as against the Appellant, pursuant to s.260. It is of this nature because it is not a normal business agreement and has no business purpose except that of avoiding tax." The first of these summarised grounds raises a point of law which, counsel conceded, was not put to the learned trial judge. This was no doubt due to the emphasis in the Supreme Court on the arguments that the arrangement was a sham and the only intent of the parties to it was to reduce the incidence of tax. In the event, it having been conceded that the agreement was not a sham, his Honour held, "... I must therefore accept that the right to the name and logo was in fact assigned to Wilverley Mansions by -~ 18 - the agreement ....", Later he said, "The Commissioner conceded that it was not a sham, so the right to the mark 'Just Jeans' must have passed to Wilverley Mansions". However 1t does not follow that an agreement which is not a sham (in the sense of a "trick, hoax, fraud, imposture .... something that is intended to be mistaken for something else .... made to appear to be what it is not ..." Shorter Oxford Dictionary) is therefore valid and effective. This is the point which was not argued. The point was not raised expressly in the grounds of appeal either, though it may have been indirectly covered. In considering whether counsel for the Commissioner should be permitted to advance this fresh argument, the Court required that it be directly formulated and an amendment sought. The additional ground was then expressed in the following terms, "SA. The Judge should have found - (a) that each of the payments was made under an agreement the subject of which was a_ trade Name or unregistered trademark; (b) that the trade name or unregistered trademark did not constitute property, or property separate from the business to which it was adjunct and thus was incapable of transfer; (c) that the trade name or unregistered trademark was not transferred or dealt with in any way by the agreement; ~ 19 - (d) that the payments made under the agreement, purportedly in consideration of such transfer or dealing, were made without consideration and that accordingly - (e) each of the payments made by the Respondent was a mere naked payment, which might be set off against each payment made to the Respondent under the agreement, and thus was not an outgoing incurred by the Respondent; (f) each payment as a mere naked payment, was not incurred in gaining or producing assessable income or necessarily incurred in carrying on a business for the purpose of gaining or producing such income." The Court reserved its decision as to whether the amendment should be allowed. In our view it should. The question raised is essentially one of law. Counsel for Just Jeans were able to deal with it on the two days after the day on which it was argued by the appellant. They also, fortuitously, had the benefit of a three months delay before argument could be concluded. They were given the option of applying to adduce further evidence, although the point does not seem to involve any question of fact which is not clearly established by his Honour's findings. They did not seek to do so. It is an important question which was effectively decided against the Commissioner and which goes to the heart of Just Jeans' case; it would be artificial for this Court to decide the serious issues involved without reference to it. Counsel for Just Jeans, while resisting the amendment, did so only ' - 20 - on general principles of lateness, and were not able to point to any particular prejudice their client might suffer, as a result of the late amendment, which could not be dealt with under the heading of costs. In pressing this first argument on the Court, counsel for the Commissioner made the following points, (i) there is no property in either a trade name or an unregistered trademark separate from the business to which they belong; they are only part of the goodwill of that business and cannot be separated from it; (ii) whether or not they can be categorized as property rights, or akin to property rights, the only right which exists in relation to them "is the right in a person who has the reputation in respect of them to prevent others from deceiving the public to his detriment by a similar use". This would involve a passing-off action. In our view, there is substance in these contentions. It is true that a franchisor who has built up a reputation in a name may effectively licence a franchisee to use that name in a particular geographic area. But in doing so he is merely indicating that, for a price, the franchisee may share in the goodwill attaching to the name and will not be sued by the franchisor for passing-off or breaches of the Trade Practices Act 1974. Whether the franchisee acquires any right to transfer the business, and with it the name, to a successor will depend upon the terms of his contract. In each such case the right to use the - 21 - name would be expected to be accompanied by an obligation to observe the standards of quality and service which have established the franchisor's reputation. The name thus remains closely allied to the expanding goodwill of the whole operation. It is a far cry from the present case, where the name was purportedly sold to a purchaser which had no capacity for, or intention of, using it itself, could obtain no benefit from it by transferring it to any third party - except, theoretically, in areas where the vendor was already operating - and so, for practical purposes, had no use it could make of it except to hire it back to the vendor. The arrangement was thus highly artificial, and the artificiality was compounded by the anticipated approximate matching of royalty payments with payments of the purchase price. As the learned trial judge said (see above) ",... the projections would not have meant a precise matching but, even if there were a matching, that matching, in my opinion, would have been designed to enable Wilverley Mansions to pay the price .... It is not insignificant that in the three relevant years [Just Jeans] was obliged to pay the licence fee before Wilverley Mansions was obliged to pay each instalment of principal." However mere artificiality will not result in the agreement failing in its purpose. The Commissioner conceded, in effect, that the parties to the agreement genuinely intended to transfer property rights. The question is whether they succeeded in doing so. ~ 22 - It is not surprising, in view of the novelty and artificiality of the arrangement, that authority is hard to find. There appears to be no authority to support the view that a bare name is capable of transfer independently of goodwill. What the authorities do say is that the name of a business is one aspect of its goodwill which, along with other aspects such as trade mark, slogans or visual images, can in appropriate cases be protected by passing off actions, see Cadbury Schweppes Pty Ltd v Pub Squash Co Pty Ltd (1980) 32 ALR 387 at 393. But goodwill as a whole can only be transferred with the business -to which it relates. In Bacchus Marsh Concentrated Milk Co Ltd (in Liquidation) v Joseph Nathan s Co Ltd (1919) 26 CLR 410, the High Court was called on to consider the effect of a contract which purported to transfer "the exclusive right", of using certain inventions and processes, and of selling the milk powder produced by them, from one company to another. Isaacs J said, at 438-9, "All that the 'exclusive right' stipulated for could give was a personal right to exclude [the vendor] from further carrying on its business of selling dried milk in Australia. It is not, and does not purport to be, a transfer of a business with goodwill ..... Goodwill is property, but, as such, is inseparable froma particular 'business' in the sense of a particular going concern. It is an asset of that business and enhances its value -... The identity of the concern is essential to the conception of goodwill. You cannot attach the goodwill of an old business to a new business. .... {The vendor] may have thought the right to 'Eclipse' trade mark passed, on the ground .... that the trade mark indicated the method of manufacture, but unless the goodwill passed, the right to the trade mark did not, and unless 'the business' - the definite particular commercial undertaking or enterprise which [the vendor] was in fact carrying on - was sold and passed, the goodwill did not pass." - 23 - In Erven Warnink Besloten Vennootschap v J. Townend & Sons (Hull) Ltd [1979] AC 731 (the ''Advocaat' case) Lord Fraser of Tullybelton, at 755, said of passing off actions generally, in a frequently cited passage, ".,.. the plaintiff is entitled to protect his right of property in the goodwill attached to a name which is distinctive of a product or class of products sold by him in the course of his business." Many other authorities could be cited to the same effect - that at common law a distinctive name is one manifestation of the goodwill of the business, which may be dealt with or protected as part of that goodwill, but not otherwise; see Pinto v Badman (1891) 8 RPC 181 at 191-5. There is no suggestion that it can be dealt with in isolation as a severable item of property. Counsel for Just Jeans argued that, even if the agreement passed no rights in property, it still had validity and was enforceable as between the parties, who "plainly intended to create rights between themselves". Even if they could not achieve the property assignment they sought to achieve, Just Jeans covenanted with Wilverley Mansions, for valuable consideration, not to use its own name in its business without the permission of Wilverley Mansions. Counsel argued that this covenant could be enforced by injunction or, if broken, become the subject of substantial damages. They referred to Need v J.H. Coles Pty Ltd (1931) 46 CLR 470, arguing that there can be contractual rights in respect of a trade name created between parties "irrespective of what effect the creating of them may have on _ the public generally". - 24 - However it is clear from the opinions in that case which ultimately prevailed, that the assignment of the use of the name was regarded as valid because it was related to the sale of the assignor's goods and the adoption of the assignor's sales techniques. There is a clear thread running through the judgments that, in the absence of these links, the use of the assignor's name (in which a general business reputation was being established by other stores) by the assignee would have been regarded as a fraud on the public, rendering the agreement illegal; see Starke J at 46 CLR 479 and Dixon J at 46 CLR 486-8. (See also Pinto v Badman, above.) The conclusion of the Privy Council in J.H. Coles Pty Ltd v Need (1933) 49 CLR 499 at 505-6, is particularly significant for present purposes. The Board said, "Phere was clearly no fraudulent intent on the part of the appellant: the licence in its inception was properly issued because it was intended that the respondent should only vend goods emanating from the appellant; the trade names of the appellant could therefore be properly applied both to the goods and to the business in which the goods were sold, since for this purpose it is immaterial whether the goods were sold in the appellant's shops or in shops owned by licensees such as_ the respondent. What happened was that as time went on, the appellant being unable to give full supplies to the respondent, the respondent had to get some supplies elsewhere, and eventually the supplies from sources outside the appellant far exceeded what the appellant was able to _ supply. But the licence was continued in good faith and in the hope that the difficulties would pass and the goods sold by the respondent be once more, as originally contemplated, goods solely supplied by the appellant. Their Lordships are unable to find any fraud in the original grant of the licence, which in their opinion was made in good faith and in the ordinary course of business and was only - 25 - continued until it was seen that the original arrangement had finally fallen through, when it was duly revoked. Thereupon the respondent was wrongfully refusing to admit the appellant's rights and was wrongfully claiming to use their trade names without authority and in respect of goods with which the appellant was not connected in any way, and to do so permanently and indefinitely, contrary to the appellant's prohibition. Their Lordships know of no authority which justifies the holding that ain such circumstances as these the respondent should not be prevented not only from infringing the appellant's rights, but also from deceiving the public." In our view this authority strongly suggests that, in the circumstances of the present case, no enforceable rights of any sort in the name 'Just Jeans' or the logo have been transferred to Wilverley Mansions. Leaving aside for the moment the licence back, any attempt by Wilverley Mansions to use the name, or authorise a third party to use the name, in a place where Just Jeans had established a reputation, would be "a fraud on the public". Today it would probably also be regarded as misleading and deceptive conduct, within the meaning of s.52 of the Trade Practices Act 1974. In a place where no reputation in the name 'Just Jeans' existed, anyone could use it and so the agreement's purported sale would be of no value to Wilverley Mansions. However it is neither necessary nor appropriate to express a firm view in these proceedings as to whether a binding covenant was created between the parties to the agreement. It is even possible that this question might be affected by Dutch law, by which "the validity, construction and performance" of the agreement is to be "governed and interpreted". No evidence was - 26 - led in the court below on this subject, and the hearing proceeded on the basis that, in the absence of such evidence, it should be assumed that the common law applied. The question this Court must determine is whether the royalty payments by Just Jeans to Wilverley Mansions were "incurred in gaining or producing the assessable income" or "necessarily incurred in carrying on a business for the purpose of gaining or producing such income" within the meaning of s.51 of the Act. The question must, we think, be approached on the basis that, in entering into the agreement and making payments under it, the parties believed that they could effect a transfer of rights in Just Jeans' name and logo, and Just Jeans believed that such a transfer would be reflected in its financial records in such a way that it would improve its borrowing capacity, and thus its cash flow. These beliefs were founded upon an error of law, which meant that, whether or not an enforceable covenant was made, no property was transferred, and Just Jeans could not properly show the transaction in its accounts as the sale of a capital asset with a value of SA 6,000,000. The point seems to be free of direct authority but, in our view, where a taxpayer expends moneys in away which is entirely divorced from the day to day conduct of its business, where the transaction involved has an artificial air about it, where the primary purpose of the transaction is, as a matter of law, incapable of achievement, and where a significant (though - 27 - subordinate) consideration is a reduction in the incidence of tax, then the requirements of s.51 have not been satisfied. We say this having regard to the place of s.51 in the general scheme of the Act, including the provisions of s.260. The Act must be construed as a whole in order to determine where the incidence of tax was intended to fall, see Commissioner of Taxation v Gulland (1985) 60 ALJR 150, Dawson J (with whom Wilson and Brennan JJ agreed) at 170. Counsel for Just Jeans did not expressly state whether they relied on the first or second limb of s.51(1) to establish the deductibility of the royalty payments. It seemed to be implicit in most of their submissions that they relied mainly upon the second limb, but there was at least one reference to the first limb in the course of dealing at length with the decision in Magna Alloys and Research Pty Ltd v FCT (1980) 49 FLR 183; 33 ALR 213. The first line of counsel's argument was that, considered at the time the payments were made, they were simply made to enable Just Jeans to continue to use its own name, free of risk of legal action by Wilverley Mansions. If it was said that the matter had to be considered as at the time the agreement was entered into, then the second line of argument was that the payments were made pursuant to a wider purpose to acquire capital funds and an improved balance sheet. In our view the matter cannot be considered as a simple payment for the right to use a name. The transaction must be looked at as a whole in order to determine whether the payments —~ 28 - are incidental and relevant to the gaining of income. As soon as it becomes clear that the taxpayer is paying for the use of its own name, the circumstances leading to that result must be closely explored. A similar situation arises where the purpose of borrowing has to be examined in order to determine whether interest payments are properly deductible, see Ure v FCT (1981) 50 FLR 219 at 232. Counsel for Just Jeans relied ona passage from Lord Diplock's judgment in the second Europa case [1976] 1 WLR 464 at 471-2, cited by Brennan J in the Magna Alloys case (above) at 49 FLR 189-90. "Their Lordships .... content themselves with emphasising that it is not the economic results sought to be obtained by making the expenditure that is determinative of whether the expenditure is deductible or not; it is the legal rights enforceable by the taxpayer that he acquires in return for making it". As Brennan J points out, the principle may be too widely stated for some cases, but not where the expenditure is incurred "solely in discharging an antecedent legal liability". In our opinion, in the present case, the taxpayer acquired no enforceable legal rights in return for making its payments. It had the right to use its own name initially; it had not validly transferred that right, and so it had nothing to show for its payments. Indeed, if Article 17 of the agreement is to be interpreted according to its terms (and for reasons dealt with later we believe it should be), Just Jeans only had to default in payment of royalties and Wilverley Mansions was obliged to re-assign to Just Jeans its 'rights' in the name and logo. eta A= 228 - 29 - Considering this as a case in which the payments ' failed to achieve their purpose, a further passage from the Magna Alloys case is instructive. In their joint judgment, at 49 FLR 208, Deane and Fisher JJ said, "... in the ordinary case of a payment under a contract, the nature of the outgoing will commonly be determined by reference to the contractual quid pro quo. Cases where the outgoing does not achieve its intended purpose or where the connexion with the business is indirect and remote demonstrate, however, the need to distinguish between the character of an outgoing determined merely by reference to objective factors and its character determined in the light of subjective purpose in any precise formulation of the ingredients of the second limb of s.51(1). The key to the role of the objective and subjective in such a formulation is, in the case of a voluntary outgoing, to be found in the statement of Fullagar J in Federal Commissioner of Taxation v Snowden & Willson Pty Ltd to which reference has already been made, namely, that 'within the limits of reasonable human conduct' the man who is carrying on the business must be the judge of what is 'necessary'', (1958) 99 CLR 431 at 444, The controlling factor is that, viewed objectively, the outgoing must, in the circumstances, be reasonably capable of being seen as desirable or appropriate from the point of view of the pursuit of the business ends of the business being carried on for the purpose of earning assessable income. Provided it comes within that wide ambit, it will, for the purposes of s.51(1), be necessarily incurred in carrying on that business if those responsible for carrying on the business so saw it." In our view, this is not a case in which the outgoing can "be reasonably capable of being seen as desirable or appropriate from the point of view of the pursuit of the business ends" of Just Jeans. The case is quite different from one where a taxpayer makes a mistake of fact in the normal course of its business (for example, when a car dealer pays for a used car which is later found to have been stolen and has to be returned). It can also be distinguished from a case where a mistake of law is -~ 30 - made in the ordinary course of business (for example, as to the right to import certain goods that have already been paid for overseas). The defect in the present case for deductibility is that the payments arise from an arrangement, far removed from the ordinary course of the taxpayer's business, which has a_ strange and artificial air about it, and is found on closer examination to be legally incapable of achieving its alleged purpose. Such a transaction cannot, in our view, found a successful claim for deductibility under s.51(1) of the Act in either of its limbs. The appeals should therefore be allowed. The remaining grounds of appeal, as summarized by counsel for the Commissioner, can be dealt with briefly. Although there are obvious weaknesses in Just Jeans' argument that its primary purpose in entering the agreement was to improve its borrowing capacity and cash flow, we do not believe the findings of the trial judge on this score can be successfully challenged. It is true that any improvement in the balance sheet would have been superficial only, and would not have withstood closer examination. Payments out for licence fees would precede, and were likely to equal, receipts of purchase moneys in the first four years. After that, Just Jeans would be more or less at the mercy of Wilverley Mansions, and might have to go on paying - 31 - indefinitely to use its own name. Nor was there any persuasive evidence that improved borrowing in recent years had been causally related to the changed balance sheet. However, the learned trial judge saw the witnesses at length, and was persuaded that this was indeed Just Jeans' primary purpose. This Court should not interfere with that finding. The same must be said of the third ground argued by Counsel for the Commissioner. It is, as we have said, most strange that the agreement makes no provision for what is to happen at the end of the licence back period ~- beyond a_ reference to the possibility of a further written agreement. However, in our view, there is no warrant for assuming some hidden agreement to cover this point. The possibility was not put to the relevant witnesses and there are other possible, and equally plausible, explanations. In the first place, Just Jeans may have felt safe because it believed Wilverley Mansions had _ no realistic alternative to renewing the licence at a reasonable charge. Secondly, and perhaps more importantly, there was Article 17. Although it is unusual to provide that a contracting party may benefit from its own default, the circumstances here are so strange, and the wording of the article so plain, that we believe that is the effect of the provision. If either party defaulted, the name and logo were to be re-assigned and all further payments were to cease. This was not unduly generous from Wilverley "> ~ 32 - Mansion's point of view, because it would always receive comparable royalties before it had to make a part-payment of the 'purchase' price. Read at face value, the article provided easy ways for either party to bring the arrangement to an end, and thus it may explain the absence of any other safeguard for Just Jeans. Finally, it is unnecessary to consider s.260 of the Act in isolation from s.51. If s.51 had been found to apply, there would have been no room for the application of s.260, see Cecil Bros Pty Ltd v For (1964) 111 CLR 430 at 438; but it has played its background part in the proper application of s.51. We think that the appeals should be allowed with costs to be taxed and paid by the respondent; that so much of the judgment of the Supreme Court of Victoria as relates to the respondent's appeals in respect of the years of income ended 30 June 1980, 31 July 1981, 31 July 1982, 31 Suly 1983 and 31 July 1984 should be set aside; and in lieu thereof it be ordered - (1) that the appeal in respect of the year of income ended 30 June 1980 be allowed to the extent of excising from the respondent's taxable income in respect of that year the amount of $1,226.00 claimed as a deduction by way of investment allowance in respect of warehouse hanging racks and intercoms but that otherwise the appeal he dismissed; —-33- (2) that the appeal in respect of the year of income ended 31 July 1982 be allowed to the extent of excising from the respondent's taxable income in respect of that year the amount of $3,527.00 claimed as a deduction by way of investment allowance in respect of handy angle shelving systems but that otherwise the appeal be dismissed; (3) that the appeals in respect of the years of income ended 31 July 1982, 31 July 1981 and 31 July 1984 be dismissed. We believe that the appellant should have his costs in this Court, including any costs reserved, because although a vital part of the argument on which he succeeded was raised at a very late stage, it was fully contested by the respondent and no costs were thrown away. However we would not order the respondent to pay the appellant's costs in the Supreme Court. Because part of the argument which we regard as crucial to the decision of the case was not raised there, we think justice would be done if the order of the learned trial judge as to costs were quashed and no order made in its place. I certify that this and the thirty-two (32) preceding pages are a true and accurate copy of the Reasons for Judgment herein of The Court ssociate Dated: 13 May 1987