FEDERAL COURT OF AUSTRALIA Merchant v Commissioner of Taxation [1999] FCA 49 TAXATION – income tax – allowable deductions – afforestation scheme – taxpayer entered into lease and management agreement of pine plantation for 30 year period – alleged pre‑payment of four years lease payments – whether lease and management charges actually paid – whether conclusion of agreement alone established "sufficient connection" – whether outgoings to revenue account – whether apportionment of management fee appropriate – whether apportionment of outgoings to portion "properly referable" to relevant year appropriate. TAXATION – income tax – outgoings – afforestation scheme - taxpayer entering into loan agreement – whether loan funds advanced – whether interest "incurred" – whether conclusion alone of agreement establishes "sufficient connection" – whether presently existing liability – whether funds used for connected purpose – whether interest should be apportioned to that portion "properly referable" to relevant year. WORDS & PHRASES – "properly referable", "incurred", "sufficient connection" Income Tax Assessment Act 1936 (Cth) s51(1) Federal Commissioner of Taxation v Lau (1984) 6 FCR 202, distinguished Federal Commissioner of Taxation v Emmakell Pty Ltd (1990) 90 ATC 4319, distinguished Brand v Federal Commissioner of Taxation (1995) 95 ATC 4633, distinguished Coles Myer Finance Ltd v Federal Commissioner of Taxation (1993) 176 CLR 640, applied Ronpibon Tin NL v Federal Commissioner of Taxation (1949) 78 CLR 47, cited Charles Moore & Co (WA) Pty Ltd v Federal Commissioner of Taxation (1956) 95 CLR 344, cited Calkin v Commissioner of Inland Revenue (1984) 7 TRNZ 100, cited Woolcombers (WA) Pty Ltd v Federal Commissioner of Taxation (1993) 47 FCR 561, referred to Federal Commissioner of Taxation v James Flood Pty Ltd (1951) 88 CLR 494, applied Ogilvy and Mather Pty Ltd v Federal Commissioner of Taxation [1990] ATC 4836, referred to Nilsen Development Laboratories Pty Ltd v Commissioner of Taxation (1981) 144 CLR 616, cited Cliffs International Inc v Commissioner of Taxation (1979) 142 CLR 140, distinguished McLennan v Commissioner of Taxation (1989) 91 ALR 52, distinguished MERCHANT v COMMISSIONER OF TAXATION WG 121 OF 1995 R D NICHOLSON J 5 FEBRUARY 1999 PERTH IN THE FEDERAL COURT OF AUSTRALIA WESTERN AUSTRALIA DISTRICT REGISTRY WG 121 OF 1995 BETWEEN: VERNON MERCHANT Applicant AND: COMMISSIONER OF TAXATION Respondent JUDGE: R D NICHOLSON DATE OF ORDER: 5 FEBRUARY 1999 WHERE MADE: PERTH THE COURT ORDERS THAT: 1. The application be allowed in part. 2. The objection decision be varied so as to allow the applicant a deduction for lease and management charges apportioned to the relevant tax year to 30 June 1987 as calculated in accordance with the reasons delivered in this matter. 3. The objection decision be otherwise affirmed. 4. Costs be reserved for written submissions. Note: Settlement and entry of orders is dealt with in Order 36 of the Federal Court Rules. IN THE FEDERAL COURT OF AUSTRALIA WESTERN AUSTRALIA DISTRICT REGISTRY WG 121 OF 1995 BETWEEN: VERNON MERCHANT Applicant AND: COMMISSIONER OF TAXATION Respondent JUDGE: R D NICHOLSON DATE: 5 FEBRUARY PLACE: PERTH REASONS FOR JUDGMENT 1 This is an application by way of review of an objection decision made by the respondent on 29 August 1995. The objection decision disallowed an objection made by the applicant on 30 September 1993 against an amended assessment of income issued on 4 August 1993 in respect of the income year ended 30 June 1997. The effect of the objection decision was to disallow to the applicant a claim for deductions under subs 51(1) of the Income Tax Assessment Act 1936 (the Act") in respect of the following three sums: Lease charges $1320.00 Management charges $10,680.00 Interest charges $3,484.00 2 These sums were said by the applicant to have been incurred under certain agreements in gaining or producing assessable income or as having been necessarily incurred in carrying on a business for the purpose of gaining or producing such income and not to have been out‑goings of capital or capital in nature. In the notice of appeal all these deductions are characterised as "deductible pine plantation expenses." Factual setting 3 The applicant was at the material time the assistant manager, Coventry Group Limited, Hot Mix/Bitumen Division. On 29 June 1987 he entered into an agreement ("the Lease and Management Agreement") with Fertile Holdings Pty Ltd ("Fertile") for the lease of allotments being part of a pine plantation ("the plantation") known as the Gommes Road Pine Plantation at Bridgetown, Western Australia ("the project") for the period of 30 years. 4 The land on which the plantation was to be grown ("the land") had been acquired by Fertile. Arrangements had been entered into between it and Select Forestry Pty Ltd ("Select") whereby Select was to manage and operate the plantation. The directors of Select were identical with the directors of Fertile. 5 The land was cleared in March/April 1987 by Independent Forestry Services Pty Ltd ("Independent"). The area of the land was 160 acres. A payment of $12,620 was made in respect of that work no later than 1 April 1987. In June 1987 additional work was carried out in the form of spraying, planting, the construction of fire-breaks and roads at a cost of $32,000. $16,000 of that amount was paid on 10 June 1987 and the balance on 30 June 1987. Both payments were made and funded by Mr John Barron. All the work was completed by 30 June 1987. 6 The applicant was persuaded to make the investment in the project by Mr Barron. On the applicant's case, Mr Barron, having agreed to purchase all the shares in Fertile and Select, was in effect in control of each of them from about mid‑June 1987. On the respondent's case Mr Barron did not assume either control or responsibility for Select or Fertile's operation until 1 July 1987 at the earliest. In this respect Mr Barron is said on either case to have acted through his wholly owned company Belmont Management Corporation Pty Ltd ("Belmont") or personally. 7 At the same time as entering the Lease and Management Agreement and in order to meet the lease, rent and management fees payable, the applicant as borrower signed a loan agreement with Belmont as lender ("the Belmont Loan Agreement"). This was for a loan in the sum of $15,800 for a term of 12 months with interest payable of $4,200 (of which $3,484 was claimed as a deduction) ("the Belmont Loan"). The total indebtedness of the applicant under the Belmont Loan Agreement was therefore $20,000. He intended to apply $3,500 of this to another investment and $300 to borrowing fees. The balance of $12,000 appears to have been calculated to cover the management fee of $10,580 and payment of four year's rental in advance in the sum of $1320. 8 On 14 October 1987 settlement occurred in respect of the sale of the interest of Fertile and Select in Belmont to Mr Barron. 9 On the respondent's case the loan funds of $15,800 were not advanced by Belmont to the applicant nor were they paid by Belmont to Select and Fertile in discharge of the amounts payable by the applicant under the terms of the Lease and Management Agreements. The applicant claims there is evidence to support a finding the advance was made. In any event, on 9 February 1988 the applicant, with the assistance of Mr Barron, obtained a loan of $29,000 ("the Challenge Loan") from Challenge Bank Limited ("Challenge"). The Challenge Loan was secured against the applicant's home. $9,000 was intended for payment of debts on other investments and $20,000 was intended to be utilised to repay Belmont in respect of the amount said to have been borrowed under the Belmont Loan Agreement. 10 On 10 March 1988 the applicant authorised Challenge to pay the borrowed sum of $29,000 to Mr Barron personally. Such payment was effected on 22 March 1988. The applicant trusted Mr Barron to make the intended payments for him. 11 On 22 November 1990 the mortgagee of the land sold it in a mortgagee sale and the applicant's leasehold interest was thereby extinguished. By 17 April 1991 the applicant had repaid the Challenge Loan with interest. He did so by selling his family home. Outline of cases 12 The Act was amended in May 1988 by the introduction of s 82KZM which had the effect of preventing the claiming of prepaid deductions for more than 13 months. For the applicant it is said, because the relevant date for the purposes of the resolution of this matter is before the introduction of that section, it falls for resolution in accordance with the decisions such as Federal Commissioner of Taxation v Lau (1984) 6 FCR 202; Federal Commissioner of Taxation v Emmakell Pty Ltd (1990) 90 ATC 4319; Brand v Federal Commissioner of Taxation (1995) 95 ATC 4262 and, in the Full Court, (1995) 95 ATC 4633. It is submitted the review should be decided in accordance with these "project or forestry" cases rather than the decision in Coles Myer Finance Ltd v Federal Commissioner of Taxation (1993) 176 CLR 640, upon which the case for the respondent substantially relies. For the respondent the view was taken that this Court was bound by the decisions of the Full Court in Lau, Emmakell and Brand but the respondent reserved the right to argue on appeal that those decisions were wrongly decided. 13 The applicant's submissions proceed on the basis that certain matters are not now put in contest on behalf of the respondent. These are that the plantation amounted to a commercial afforestation business; it was conducted in a business‑like manner; and the applicant had sufficient control over its operation. Additionally it is not in contest that the Lease and Management Agreement were valid and enforceable as between their parties or that the applicant had paid outgoings purportedly with respect to each of those agreements. Evidence 14 The case for the applicant relied upon affidavit evidence from the applicant and three other witnesses, the first two of whom were cross-examined on behalf of the respondent. They were Mr Barron whose evidence was that he was in charge of the project through his control of Belmont (a disputed fact). The next was Mr Wheatley, a director of Independent. Then there was Mr Yates, a forester employed in the relevant year by Independent. In addition, Mr Baggen, who had been an accountant to Mr Barron, Fertile and Select, gave oral testimony but was not cross-examined. 15 The respondent relied upon the affidavit of Mr Coulthard, a former director of Fertile and Select upon which he was subject to cross-examination on behalf of the applicant. 16 A bundle of documents was also admitted by agreement between the parties. 17 The issues of fact which require further findings are limited and will be addressed as the occasion for each determination arises in the light of the arguments to be addressed. Lease and Management Agreement 18 The Lease and Management Agreement was made on 29 June 1987 between Fertile, Select and the applicant. By subcl 1.1 read in conjunction with the Schedule to the Agreement, Fertile leased to the applicant 1.2 hectares being lots 109, 110 and 111 on the land for a term commencing on the date of the agreement and expiring, subject to the agreement, on 30 June 2017 or upon the plantation being clear-felled in accordance with good silvicultural practice, whichever fell sooner. The rental was $110 per annum payable annually in advance. Written next to the Schedule item specifying the rental were the words "first payment due January 1991". 19 In addition to a covenant to pay the rent and other usual covenants appropriate to a leasehold interest, the applicant covenanted with Fertile to use the premises only for the purpose of silviculture and cultivation of the plantation. 20 Subclause 1.6 provided that the agreement was conditional upon and subject to the State Planning Commission granting its approval to the lease pursuant to the provisions of the Town Planning and Development Act 1928 (WA) but it contained the proviso that "if such approval is not granted within twelve (12) months of the date hereof this Agreement shall be void and of no effect". No issue is made of this in the case for either party. 21 With respect to management, cl 2.1 provided for the applicant to pay Select (as manager) the sum of $10,680 upon execution of the Lease and Management Agreement as a management fee. In consideration of that payment the manager agreed to render the following services and do the following acts, matters and things at the manager's own cost and expense properly, punctually and diligently in accordance with good silvicultural practice for the term described in Item 7 of the Schedule: "(a) to prepare the leased premises to a standard suitable for the cultivation of Pinus Radiata seedlings. (b) to plant the seedlings to an average density of one thousand two hundred and fifty seedlings (1250) per hectare ("the Planting") on the leased premises. (c) to cultivate tend and care for the seedlings for a period of twelve months after the Planting and during such period to replant any of such seedlings which may die within nine months of the planting and maintain within such 12 month period an average density of one thousand (1000) seedlings per hectare on the leased premises. (d) to cultivate, tend, cull, prune, fertilise, spray, maintain, thin and otherwise care for the plantation and the trees as they may comprise the plantation on the leased premises ("the plantation") as and when necessary and to account for the sale proceeds of thinning in accordance with Clause 2.6; (e) to keep in good repair and condition all fire-breaks and access roads in and about the plantation; (f) to establish and maintain records in respect of the plantation including the health, vigour and nutritional status of the component trees and of the building-up of signs of insects and fungal pathogens in and around the plantation; (g) to furnish to the Lessee at least yearly a written report in respect of the plantation; (h) to advise the Lessee in writing when the plantation requires thinning or has reached maturity or has otherwise become marketable." 22 Subclause 2.2 provided that no part of the Management Fee would be refundable in the event of termination of the Lease and Management Agreement or otherwise and subject to other provisions in cl 2. Subclause 2.6 provided further conditions whereby the manager would procure a purchaser to purchase logs upon clear felling of the applicant's interest in the plantation. 23 The management term described in Item 7 of the said schedule was timed to expire on the same alternative dates as the Lease and Management Agreement. 24 The agreement was sealed by Fertile and Select and executed by the applicant and stamped with a Western Australian Stamp Duty on 30 June 1987. On behalf of the applicant it is submitted that by stamping the agreement Fertile and Select should be seen as having conducted themselves at all times as if the Lease and Management Agreement was valid. However I accept the submission on behalf of the respondent that there is no evidence that Fertile or the Select did anything to bring about the stamping of the Lease and Management Agreement. Belmont loan agreement 25 The Belmont Loan Agreement was dated 29 June 1987. It was entered into between the applicant as borrower and Belmont as lender. In respect of a principal sum identified as the amount of $15,800 the agreement provided: "(1) The Lender shall advance to the Borrower the principal sum for a period of twelve (12) months from the dates specified in item 3 of the schedule hereto ("the date of advance"). (2) The Borrower shall pay to the Lender interest on the principal sum in the amount specified in item 4 of the schedule hereto. (3) The Borrower shall repay to the Lender the principal sum and interest thereon at the expiration of twelve (12) months from the date of advance from the date specified in item 5 of the schedule hereto ('the due date') at the address of the Lender as stated herein or at the address specified by the Lender in writing to the Borrower'. " 26 Item 3 in the Schedule (see cl 1) identified the date of advance as 29 June 1987, the date of execution of the Belmont Loan Agreement. Item 4 identified the interest as: "Four thousand two hundred dollars ($4,200.00) for twelve (12) months". Item 5 in the schedule (see cl 3) identified the due date of 29 June 1988. 27 Clause 4 provided a right for the borrower to request an extension of time for repayment of the principal sum and interest and a discretion in the lender to extend that time. Clause 5 provided for interest to continue to run in the event of repayment not occurring. 28 The Agreement was sealed on behalf of Belmont and executed by the applicant. It was stamped with Western Australian duty on 30 June 1987. 29 The respondent's case accepts the validity of both the Lease and Management Agreement and the Belmont Loan Agreement. LEASE AND MANAGEMENT CHARGES Payment of outgoings 30 For the respondent it is submitted that there was a failure by Belmont or Barron to pay, apply or appropriate on the applicant's behalf to Fertile and Select the Belmont Loan funds or any part of them, with the result that the applicant failed to discharge his obligation to pay Fertile and Select for the lease rights over the plantation and for management. It is submitted that the applicant could not and did not therefore commence to carry on a business of afforestation. There was therefore no income producing income activity in which the applicant had an interest and with which there could have been a "sufficient connection" with the lease and management charges. Accordingly it is submitted those charges are not deductible under s 51(1) of the Act. 31 For the respondent reliance is placed upon the following authorities. The first is Ronpibon Tin NL v Federal Commissioner of Taxation (1949) 78 CLR 47 at 57 where it was said that "… to come within the initial part of the sub‑section it is both sufficient and necessary that the occasion of the loss or outgoing should be found in whatever is productive of the assessable income or, if none be produced, would be expected to produce assessable income". In Charles Moore & Co (WA) Pty Ltd v Federal Commissioner of Taxation (1956) 95 CLR 344 the High Court, in considering the deductibility of a loss of moneys robbed while being transported to a bank, said (at 351): "Phrases like… the phrase 'incidental and relevant' when used in relation to the allowability of losses as deductions do not refer to the frequency, expectedness or likelihood of their occurrence or the antecedent risk of their being incurred, but to their nature or character. What matters is their connection with the operations which more directly gain or produce the assessable income." See also Fletcher v Commissioner of Taxation (1991) 173 CLR 1 at 17-19. 32 The respondent then relies on Calkin v Commissioner of Inland Revenue (1984) 7 TRNZ 100. There the appellant was introduced to a woman who arranged and carried through business deals for investors. He provided her with a total of $167,500 to buy and sell for him various assets so that she was to act as his agent on a commission basis. He saw no documentation but he received payments totalling $78,000 representing profits on some of the transactions. The agent misappropriated the funds and the transactions were apparently fictitious. The appellant claimed his losses. At first instance it had been held that by simply making payments to his agent the appellant did not get as far as commencing business. Secondly, it was said in any event, there was not one undertaking but a number of disparate or unrelated intended transactions. At 106 Richardson J said: "A business cannot exist simply in the mind of the taxpayer. It involves real transactions carried on for pecuniary profit … the intended income earning activity never got started because she misappropriated his money." At 107, Somers J said that: "… As no actual transaction ever took place there is no material upon which to found the inference that such a business (or indeed any business or undertaking for profit) was carried on." 33 The respondent also relies on Inglis v Federal Commissioner of Taxation (1979) 28 ALR 425. That case concerned the question whether taxpayers who had carried on a pastoral business on a property but who had not done so during the relevant years in which they derived no income from the property, were entitled to deduct outgoings, principally relating to maintenance. Brennan J said at 428- 429: "In the present case, the expenditure for which deductions were claimed may have been incidental to the preservation of [the pastoral property] as a pastoral property. But expenditure on or in connexion with [the property] does not become expenditure incurred in gaining or producing future assessable income merely because the taxpayer intends in the future to use [the property] to produce assessable income. If a capital asset is not being used to produce assessable income, though it is intended for use in the future to produce assessable income, expenditure in merely preserving the asset until it is so used is not deductible. Rather, being expenditure upon a capital asset employed in producing income, it has the character of a capital outgoing. The expenditure related to [the property] appears unconnected with any activity for the production of future income, and does not qualify for deduction under the first limb of s 51(1)." 34 He considered that whether any of the outgoings qualified for deduction under the second limb under s 51(1) depended upon whether a pastoral business was being carried on during the relevant years. He held that an intention to carry on the business on the remainder of the land at some future time was insufficient. The appeal was dismissed, St-John J agreeing with Davies J. 35 Here it is said for the respondent that the applicant's case does not establish either the necessary connection or that the expenditure was incidental and relevant to operations producing assessable income. 36 In his affidavit the applicant deposed: "Mr Barron was involved in the promotion of the project and was also involved in the financing of my participation. Following conversations with Mr Barron I understood that he would arrange for funds to be advanced by Belmont on my behalf directed to the promoters of the project." Additionally, he deposed: "At all times after signing the Lease, Management Agreement and the Loan Agreement, I believed that I was an investor in the afforestation project and that I would eventually be entitled to a healthy return on my investment." In cross examination the following exchange occurred: "… you say that you understood that he would arrange for the funds to be advanced by Belmont direct to the promoters of the project; that is, Fertile and Select. Is that right?---That's correct. But you didn't yourself know whether in fact he did advance those funds, do you?---No, I don't know. You left that entirely to him, didn't you?---That is correct." 37 In his affidavit the applicant had also deposed that he had trusted Mr Barron on the basis of his belief that he was a successful and affluent businessman. For the applicant it is submitted that this trust was not misplaced because there was evidence that when the applicant entered into the Lease and Management Agreement Mr Barron had, on behalf of the applicant, invested $3,800 to another investment described as "Westferm". 38 In his affidavit the applicant also testified that he understood the fund borrowed from Challenge would be used to re-pay Mr Barron who he understood and believed had paid on his behalf the amounts owing to the promoters of the project. Cross-examination on this ran as follows: "Then you say that you understood that the funds borrowed from Challenge Bank would be used to repay Mr Barron and Belmont who you understood and believed had paid on your behalf the amounts owing to the promoters, but you had no knowledge of whether those funds had been paid, did you?---I assumed they had. Yes, but you had no knowledge?---I had no knowledge. You trusted Mr Barron in that regard, didn't you?---That is correct." 39 Mr Barron's affidavit as admitted into evidence did not contain any evidence relating to the application of funds by Belmont to Fertile and Select. His responses in-chief led to objections on the ground, correctly, that his proposed evidence the subject of the objection was evidence of a conclusion. 40 In cross-examination Mr Barron was asked whether all that Belmont had paid by October 1987 was the $32,000 by way of deposit on the land, the commissions to salesmen and the purchase price of the land. This was denied by Mr Barron who said there was a lot more paid than that. However, he was unable to provide any evidence of any other payment up to that date. 41 Mr Barron's evidence was that when he received the applicant's funds from Challenge, he did so for and on behalf of Belmont. In support he referred to pro forma acknowledgments signed by him or with his authority for and on behalf of Belmont in respect of moneys paid direct to him from Challenge Bank from other investors. He was unable to produce such an acknowledgment in the case of the applicant. 42 Mr Baggen gave no evidence relevant to the question of the payment by Belmont of Fertile and Select. 43 The result is that the applicant has not been able to bring any evidence to establish that Belmont in fact paid Fertile and Select. The matter was a matter of belief only in the mind of the applicant himself: cf Calkin at 106 and 107. 44 The applicant's position is affected by two matters. The first is the entire absence of management records providing even a scintilla of support to the making of the payment by Belmont to Fertile and Select. The second is the lack of credibility of Mr Barron. He was an entrepreneur disposed to treating funds in his hands without apparent regard to the entities to which they were due. In the circumstances in which he conducted business I am not prepared to accept his evidence as the only evidence which supports the fact that the payments were made. Mr Baggen testified that the tax records of Mr Barron were disorganised when he joined the employ of Mr Barron or Belmont in June 1987. I regard this as symptomatic of the manner in which Mr Barron conducted his business affairs. In the entire absence of any other evidence I would not be prepared to conclude that Mr Barron or Belmont had in fact made the payments to Fertile and Select. 45 No assistance was derived from the evidence of Mr Barron in that respect save that for his evidence in relation to Challenge Bank. For the applicant it is contended that he would not have arranged to pay the Challenge funds to Mr Barron were it not that he had to discharge the liability to Belmont. 46 When the applicant places reliance on the evidence of the payment of the Challenge funds to Mr Barron objection is raised on the part of the respondent that such payment is irrelevant because it occurred in March 1988 and so was not an event occurring in the relevant income year. I do not allow this objection because I consider that such evidence occurring ex post facto to the relevant year is nevertheless capable of casting light on the events in that year. Unfortunately for the applicant it does not cast sufficient light because I consider all that it can do is to show that the applicant was justified in his belief that payments had been made by Belmont to Fertile and Select. That does not establish that those payments were in fact made. 47 In considering this evidence it has not been necessary so far to resolve the issue whether Mr Barron was in fact in control of Belmont only from 1 July 1987. Even if Mr Barron was in control of Belmont from mid-June 1987, as the applicants' case would have it, I do not find that the applicant's case discharges the onus of establishing that the payments to Fertile and Select were in fact made. 48 In any event the applicant's case does not discharge the onus of establishing that from early or mid-June 1997, Mr Barron either alone or through Belmont, was in control of the project. My reasons for this conclusion are: (1) Mr Barron's evidence that Mr Ducie and Mr Coulthard had so agreed is entirely uncorroborated by Mr Coulthard, whose evidence I consider to be more credible. (2) An agreement said to have been prepared to effect that purpose remained unexecuted and Mr Barron's own evidence was that occurred because he lacked sufficient available funds to pay for the land. It is unlikely control would have passed in such circumstances. (3) Mr Coulthard's evidence was that settlement of the sale from Mr Ducie and Mr Coulthard to Mr Barron or Belmont of the interest in Fertile and Select was to be on 1 July 1987. I do not consider Mr Coulthard's evidence is corroborated by the terms of statutory declarations executed at the time of settlement in October 1987 because I accept the submission for the applicant that those declarations relate only to debts incurred by either Fertile or Select. (4) The expense of $3,200 for services of Independent paid by Mr Barron in June 1987 was treated as a deposit for the purpose of the sale of the land, having been to the account of Fertile and Select. It is not therefore inherently improbable Mr Barron would not have paid those funds unless he was in control. (5) Belmont was not incorporated until 15 June 1987. (6) Mr Baggen's evidence that Mr Barron was paying all the expenses for the plantation is to be read in the light of Mr Barron's evidence of the nature of those expenses and with his further evidence that Mr Ducie and Mr Coulthard controlled the books of account of Fertile and Select in the last week of June and Mr Barron had not taken over any of the bank accounts of those companies. 49 There is no evidence to support a finding, which the applicant's case seeks, that from about mid‑June Mr Barron came within the extended definition of a "Director" within s 60 of the Corporations Law or could have been described as a de facto director of Fertile or Select or that he was a "shadow director". There is no necessary inference from the manner in which the seals of Fertile and Select were applied. 50 Subject to what follows under the next heading, this results in the position that the applicant has failed to establish that the business which the applicant contends was productive or expected to be productive of assessable income is not shown in the relevant year of income to 30 June 1987 as having been a business in which the applicant had acquired the interest sufficient and necessary to sustain the deductibility of the outgoing. "Sufficient connection" claim 51 However, it is contended for the applicant that the Lease and Management Agreement itself provides a sufficient connection or nexus between the incurring of the charges as expenditure and derivation of income from the plantation so that the applicant should properly been seen to have "incurred" that expenditure pursuant to s 51(1) of the Act. The principal contention for the applicant is that upon signing the Lease and Management Agreement the applicant made a contractual commitment to pay the lease and management fees and the binding nature of that commitment resulted in the charges being "incurred". 52 The line of authority upon which the applicant's case relies to support this submission is sufficiently summarised in Woolcombers (WA) Pty Ltd v Federal Commissioner of Taxation (1993) 47 FCR 561. In that case the Full Federal Court accepted the finding of the judge at first instance that the effect of the contractual provisions for forward purchase contracts of wool was "that there was an accrued obligation or present liability imposed on the taxpayer by a definite contractual commitment". In doing so it accepted the principles recognized in Federal Commissioner of Taxation v James Flood Pty Ltd (1951) 88 CLR 494 at 506-508 and stated (at 570): "For present purposes, the relevant principles with respect to the meaning and operation of the first limb of s 51(1) are well settled. 'Incurred' does not mean only 'defrayed, discharged, or borne', but also includes 'encountered, run into, or fallen upon'. It does not, however, include a loss or expenditure which is no more than 'impending, threatened, or expected' (New Zealand Flax Investments Ltd v Commissioner of Taxation (Cth) [(1938) 61 CLR 179], per Dixon J at 207). The expenditure must have been incurred in the course of gaining or producing the assessable income but it is not required that the purpose of the expenditure shall be the gaining or production of the income of that year. It is sufficient 'if the expenditure was made in the given year or accounting period and is incidental and relevant to the operations or activities regularly carried on for the production of income' (W Nevill & Co Ltd v Commissioner of Taxation (Cth) (1937) 56 CLR 290 per Dixon J at 305; see also AGC (Advances) Ltd v Commissioner of Taxation (Cth) (supra) per Barwick CJ at 185, per Mason J at 195-198). It is not necessary that 'an actual disbursement' should have taken place. Although it is not enough if there is 'no debitum in praesenti solvendum in futuro ['an existing debt payable at a future time'] …[or] an inchoate liability in process of accrual but subject to a variety of contingencies' (Commission of Taxation (Cth) v James Flood Pty Ltd (supra) per Dixon CJ, Webb, Fullagar, Kitto and Taylor JJ at 507‑508)." 53 In Woolcombers at 574-575 the Full Court accepted that much will depend upon the particular circumstances of the case at hand including the question of construction of the instrument on the point whether it does or does not give rise to a present liability notwithstanding that time for payment has not arisen. 54 The Full Court also distinguished Ogilvy and Mather Pty Ltd v Federal Commissioner of Taxation [1990] ATC 4836 at 4864-4865. There a claim for deduction of advertising costs was disallowed because, on the true construction of relevant rules, no liability arose in the advertising agent unless and until publication occurred. At 4864-4865 Hill J set out propositions which he regarded as settled in relation to s 51(1) and upon which the applicants case relies, although the formulation predates Coles Myer. 55 In making its submissions the respondent relies, with respect to the meaning of the word "incurred", particularly upon Coles Myer at 662, where the majority, after referring to what was said in Flood at 506 and 507‑508, noted that the event on which the entitlement of the employee's depended had not occurred. They said that Flood therefore stands as authority for the proposition that a liability must "presently be existing" in order to be "incurred" within the meaning of s 51(1). The majority said that decision and the decision Nilsen Development Laboratories Pty Ltd v Commissioner of Taxation (1981) 144 CLR 616 (where it was held that amounts provided in the taxpayer's accounts to meet employees' long service leave entitlements were not outgoings "incurred") in determining entitlement to a deduction under s 51(1) accepted the legal or jurisprudential analysis, rather than the commercial view, as the correct one. The majority said "in other words, the Court concluded that the liability was the ordinary liability to pay wages to an employee in respect of a period of employment in preference to the commercial view that the liability was a progressive one, being part of the cost of labour employed from day to day. They said that both Flood and Nilsen took up and applied the statement of Dixon J in New Zealand Flax Investments Ltd v Commissioner of Taxation (1938) 61 CLR 179 at 207 where he said: " 'incurred' does not mean only defrayed, discharged, or borne, but rather it includes encountered, run into, or fallen upon. It is unsafe to attempt exhaustive definitions of a conception intended to have such a various or multifarious application. But it does not include a loss or expenditure which is no more than impending, threatened, or expected." See also McHugh J at 677. 56 It is contended for the applicant that the decision in Coles Myer relates to the uncertain area of promissory notes and that the reference in it to New Zealand Flax is made without further analysis. In these circumstances, it is submitted the Court should rely on the statements in Lau's case and Woolcombers' case. In reply it is said for the respondent that the impact of Coles Myer is broader than the applicant's case would allow: see ANZ Banking Group v Commissioner of Taxation (1994) 48 FCR 268and Commissioner of Taxation v Citibank Ltd (1993) 44 FCR 434. 57 On the applicant's case it is submitted that on a proper construction of the Lease and Management Agreement the applicant was, upon execution of that document, subject to a contractual obligation to pay the lease and management fees so that they were "incurred" within s 51(1) of the Act as at 29 June 1997. It is necessary therefore to consider the precise character of the obligation which fell on the applicant as a consequence of the Lease and Management Agreement. 58 The obligation on the applicant to make the first payment of the lease fees was contingent upon the occurrence of the date of January 1991. It was an "immediate obligation to make payment in the future": cf Nilsen Development Laboratories at 628. That obligation was one to which the applicant was definitely committed "in the year of income" (Flood at 506). The applicant had a choate but contingent liability (Flood at 508). In my view it was more than an impending, threatened or expected expenditure not then grounded in a commitment in the form of a liability to pay upon the occurrence of the contingency. 59 There remains the question whether the contingency is such as to affect a conclusion that the liability was 'incurred'. In Coles Myer Deane J, after reviewing a number of authorities, said at 672: "The obvious category of case in which the fact that a single liability is contingent will not necessarily prevent it from, of itself, constituting or founding a 'loss or outgoing' which has been 'incurred' for the purposes of s.51(1) is where it is apparent that a condition giving rise to theoretical contingency can be treated, for practical purposes, as certain to be satisfied. …" At 671 he also stated: "Obviously, the fact that a liability to make a future payment is theoretically contingent or defeasible is a relevant consideration. For the purpose of ascertaining taxable income on an accruals basis, however, it will not of itself be decisive against deductibility under s 51(1) unless, in the circumstances of the particular case, the contingency or defeasibility precludes the liability from constituting, or giving rise to, a 'loss or outgoing' which has been 'incurred' in the sense explained by Dixon J in the passage in Flood at 506 that is to say, 'encountered, run into, or fallen upon' as distinct from being 'no more than impending, threatened, or expected'." 60 In my opinion the nature of the contingency in relation to the lease fees – the occurrence of a future date – can be treated as certain to be satisfied. The contingency does not therefore prevent the contingent liability to pay the lease fees from constituting a loss or outgoing which was "incurred" for the purposes of subs 51(1): Coles Myer at 670 per Deane J. 61 In the case of the management fee it was a lump sum payable upon execution of the Lease and Management Agreement in respect of a management term of thirty years. I consider the contractual obligation to pay the management fee was a choate obligation to which the applicant was definitely committed in the year of income. 62 Furthermore, I consider they were "necessarily incurred in carrying on a business for the purpose of gaining or producing" the income. The liabilities being extant, the applicant was obliged to discharge them. The Lease and Management Agreement had as its purpose the creation of the conditions for the carrying on of the project for the purpose of gaining or producing income. The occasion of the payment of the liabilities is therefore to be found in what would be expected to produce assessable income. In my opinion it follows there was "sufficient connection" between the occasion of the liabilities and the operations expected to be productive of assessable income. Pre-payment issue 63 If it is the case that Belmont should be found to have paid the lease and management charges to Fertile and Select, it is contended for the applicant that the fact of payment and acceptance of payment in advance establishes there was an agreement, partly oral, partly written, for that to occur. I do not consider these facts alone as they are, can support an inference in those terms. Although the applicant pleaded a case of oral agreement, no evidence was led to support the plea. 64 Nevertheless it is submitted for the applicant that the pre-payment (assuming again its occurrence) is indistinguishable from the pre‑payments allowed by decisions of the Full Court in Lau and in Emmakell. The respondent has reserved the right to challenge the authority of these decisions on appeal, it being accepted by both parties this Court is bound by the decisions of the Full Court. Both those cases concerned invalid leases. Here, it is not contended that the leases were invalid. Nothing is made here to that end of the requirement in subcl 1.6 of the Lease and Management Agreement for approval to be given pursuant to the Town Planning and Development Act. It is submitted that the absence of an invalid lease is an immaterial point of distinction and the fact that the pre-payments were allowed even in those cases involving an invalid lease, results in the decision in those two cases applying a fortiori to the present circumstances where there is a valid lease. 65 Lau, like the present circumstances, involved a scheme for the planting of land with pine trees and the payments for which deductions were claimed included both rent and management fees. The lease was for three years with options to renew. There was a separate management agreement for a period of twenty‑one years. The total management fee of $39,200 for that period was payable on execution of that agreement. 66 In Emmakell the taxpayer entered into agreements with a promoter company to lease six one-acre plots for development of a tea tree plantation. He then entered into a management agreement with that company. He claimed deductions pursuant to subs 51(1) for the payments made to obtain the leases. 67 In Lau Fox and Beaumont JJ delivered separate judgments with each of which Jenkinson J agreed. In respect of the management fees Fox J (at 208) said they were paid "for services to be rendered in connection with property which is, as between the parties, treated as that of the taxpayer." Beaumont J in Lau at 218 said: "The prepayment of a relatively large management fee may be unusual in business dealings ... The question is whether the prepayment of the fee is so significant as to work a transformation of the transaction from something which had a commercial objective into an arrangement which lacks any such purpose. In my opinion, the question should be answered in the negative. Although the transaction was structured so as to offer tax advantages to participants, it would be wrong to say it was not a real business transaction. The arrangements were underpinned by genuine commercial consideration and, in my view, these considerations are decisive for the application of sec. 51 …" 68 In Lau the manager was only prepared to deal with the taxpayer upon the footing he was contractually obliged to pay the management fee in advance of performance. There is no evidence to that effect here but nothing has been made of it in argument for the respondent. 69 The decisions in Lau and Emmakell were considered and applied by the Full Court in Commissioner of Taxation v Brand 95 ATC 4620 at 4645-4646. There the Full Court noted the Commissioner did not submit that these decisions were wrongly decided. On the present application the respondent reserved the right to so argue on a future occasion. In Brand the Commissioner sought to distinguish Lau and Emmakell on the basis that "at all material times the taxpayers had existing interests in land and there were management agreements capable of immediate performance." This was not accepted as a point of distinction. 70 Brand involved the Full Court considering and applying what was said by the members of the High Court in Fletcher and Ors v Commissioner of Taxation (1991) 173 CLR 1 at 16‑19. There, on the question of voluntary prepayment, the High Court said at 17: "At least in a case where the outgoing has been voluntarily incurred, the end which the taxpayer subjectively had in view in incurring it may, depending upon the circumstances of the particular case, constitute an element, and possibly the decisive element, in characterization of either the whole or part of the outgoing for the purposes of the subsection." In Brand at first instance, (95 ATC 4622 at 4269) it had been found that the voluntary prepayment had a commercial purpose in that the taxpayer wished to invest the funds as a lump sum retirement amount while he still had them available to him. In Lau the obligation to prepay was contractual so that the prepayment was an integral part of the commercial objective. 71 In the present case it is submitted the voluntary payment of the additional three years lease fees can be explained for commercial reasons. I do not consider that the applicant's case has brought forward the necessary evidence to discharge the onus of making that submission good. There was not the evidence led as to subjective purpose which would entitle the court to conclude that in all the circumstances commercial reasons explained the pre‑payment. The evidence does simply not make apparent the nature of those commercial reasons. There was not evidence led of the type on which the finding in Brand was based and there was not evidence of the contractual commitment of pre-payment as existed in Lau. Accordingly, even if the applicant can establish that Belmont paid Fertile and Select so that there was a sufficient connection, I do not consider the authorities on which the applicant's case can rely in relation to pre-payment could result in a finding in the applicant's favour on this point. Whether outgoings to revenue account 72 It is then contended alternatively for the respondent that as the lease and management charges (again assuming their payment) provided for under cls 1.1 and 2.1 of the Lease and Management Agreement were intended to secure the use of the leased premises and the right to management services for a term of thirty years, they were assets of an enduring nature and accordingly the outgoings incurred to secure those rights were outgoings of capital or of a capital nature and thus not deductible under subs 51(1) of the Act. 73 In support of this submission reliance was placed on the following authorities. In Sun Newspapers Ltd and Associated Newspapers Ltd v Federal Commissioner of Taxation (1938) 61 CLR 337 Dixon J, in considering cases distinguishing between capital sums payable by instalments and periodical payments analogous to rent payable on revenue account said at 363: "There are, I think, three matters to be considered, (a) the character of the advantage sought, and in this its lasting qualities may play a part, (b) the manner in which it is to be used, relied upon or enjoyed, and in this and under the former head recurrence may play its part, and (c) the means adopted to obtain it; that is, by providing a periodical reward or outlay to cover its use or enjoyment for periods commensurate with the payment or by making a final provision or payment so as to secure future use or enjoyment." 74 In Hallstroms Pty Ltd v Commissioner of Taxation (1946) 72 CLR 634 at 647‑648 Dixon J concluded that a claim for deduction for legal expenses was directed to an affair of capital, going to the character and organisation of the profit-earning business rather than being an incident in the operations by which it was carried on. In Regent Oil Co Ltd v Strick [1966] AC 295 it was held that premiums or lump sums paid by a company in order to acquire leases were lump sum payments for the acquisition of assets for the purpose of carrying on a trade and were therefore capital payments. The length of the leases was a significant factor in the reasoning of their Lordships: see at 325, 334‑335, 336, 345-346 and 353-356. 75 The respondent's case on this point also relies on the fact that the management fee was a once off payment and that the only recurrent aspect of the charges payable under the Lease and Management Agreement were the lease fees after 1991. 76 In response, the case for the applicant relies upon the decisions in Lau, Emmakell and Brand. In Lau, Fox J, in rejecting a submission that the payments were of a capital nature, characterised the position as involving the payment of an amount by way of lump sum for services to be rendered in connection with property which is, as between the parties, was treated as that of the taxpayer. The services were rendered over the period of up to 21 years with variations as the occasion required. He saw no basis for treating the payments as being of a capital nature. Beaumont J at 221 said: "…prima facie, moneys outlaid in return for such [management] recurrent services are paid on revenue account. In my view, the circumstance that the fee is to be paid as a lump sum in advance is not sufficient to displace this presumption. The important considerations are the nature of the services to be rendered and the periodic manner in which they are to be rendered. In my opinion, the outgoings fell within sec.51, being directed not to the profit-yielding subject of the taxpayer's business but to the process of operating it…" Beaumont J had characterised the arrangement as one which contemplates that the taxpayer would be granted, by way of lease, a specific area of land and, thereby, an identifiable interest in specific trees in that area. Furthermore, the manager's role was one of management on behalf of the taxpayer and not management in its own right. The agreement gave the taxpayer the right at any time to terminate the manager's services, although without any refund of the management fee. Further, the management did not own the subject land and the Management Agreement gave it no right of entry onto the land. Jenkinson J agreed with the reasons of Fox J and Beaumont J. In Emmakell the Full Court found the facts to be indistinguishable fromLau's case. 77 The duties of the manager as provided for in the Lease and Management Agreement are set out in cls 2.1 and 2.6 referred to earlier. There is no question here that the services were to be rendered in connection with a property which is that of the taxpayer. There were no special rights given to the manager in relation to growing timber or its sale (cfLau at 207). The manager's role was one of management on behalf of the taxpayer and not management in its own right (cf Lau at 221). The taxpayer had the right at any time terminate the manager's services, albeit without refund of the management fee (cf Lau at 221). 78 As Fox J said in Lau at 207 "it is necessary to see what was done, and to what end, and to relate that to the concepts being dealt with". It is apparent that if the applicant paid the management charges, he would have been seeking to obtain the management services referred to in subcls 2.1 and 2.6. In my opinion the outgoings, if made, would not have been directed to the profit‑yielding subject of the taxpayer's business but to the process of operating it: cf Lau at 221. They therefore would fall to revenue account. 79 A further argument advanced on behalf of the applicant was that the introduction of s 82KZM into the Act in May 1988 with effect from November 1988 leads to the inference that there would have been no need for such an amendment if what a person in the position of the applicant obtained was capital. I accept the response from the respondent that such inference is not open from the fact of the amendment of the Act. Apportionment of management fee 80 For the respondent it is contended that even if the payment of the lump sum in advance was made and does not result in the characterisation of the outgoings as of capital or of a capital nature, some portion of the fee may nevertheless be properly so identified. Subclauses 2.1(a) and (b) of the Lease and Management Agreement provided that in consideration of the applicant paying the management fee, Select at its own cost and expense and in accordance with good silvicultural practice would (a) prepare the lease premises to a standard suitable for the cultivation of pinus radiata seedlings and (b) plant the seedlings on the leased premises. On the basis that this work had been completed prior to the purchase of the lease by the applicant, it is submitted for the respondent that there should be an apportionment of the management fee to capital and revenue account. 81 It is said that apportionment of the management fee is necessary so far as the fee is payable in respect of matters such as preparatory costs for clearing the land as well as work which has already been completed, such as planting trees: cf Cliffs International Inc v Commissioner of Taxation (1979) 142 CLR 140 at 148, 150-151, 171-172 and 176; McLennan v Commissioner of Taxation (1989) 91 ALR 52 at 58‑59. It is submitted for the respondent that what is necessary is an identification of the quality of the advantage or character of the advantage that is being acquired by the payment and then to identify if there are particular apportionments of that quality or that advantage that are plainly capital and, if so, to apportion the payment in respect of capital and revenue accordingly. 82 The respondent's contentions in relation to apportionment derive from the evidence to the effect that a significant amount of the work on the land had already been done by the time the applicant signed the Lease and Management Agreement. The evidence establishes that Independent provided two quotations. Quotation 6287 dated 12 February 1987 was for the sum $12,620 and included the pushing over, raking and burning of all trees to forestry standards, preparing drains, forming roads and installing sets of culverts. A second quotation, quotation 6288, bore the same date and included spraying, planting, setting out roads and preparing fire-breaks, the total cost "being $32,000". It is submitted for the respondent that when the applicant obtained his leasehold interest (assuming that to be the case) in the land it was land that already had on it roads with fire-breaks and seedlings planted which had been sprayed, so that those improvements formed part of the asset which he was acquiring. 83 The question arises as to what is a fair and reasonable basis for apportionment. Normally this would be expected to be ascertainable from the manager's records: Ronpibon Tin NL v Commissioner of Taxation (1949) 78 CLR 47 at 59‑60. It is not in dispute that in this case there are no manager records which can be used to ascertain what part of the management fee is referrable to capital expenditure, if any. The respondent submits that the following is an appropriate basis: Cost per Total Cost (3 acres for Acre 30 years) 30 years Quotation 6287 Site preparation $79 per acre 79 = 7.44% x $3,545.00 = $264.86 x 3 $ 794.58 Exh 3 (AWV1) $12,620.00/160 acres 1062 Quotation 6288 Spraying, supply and plant trees, setting out roads and firebreaks $32,000.00/160 acres $200 per acre 200 = 18.88% x $3,546.00 = $670.34 X 3 $2,011.02" Exh 3 (AWV2) 1062 84 Alternatively it is submitted for the respondent that apportionment can be effected to take three one hundred and sixtieths (the total acreage) of $44,620 (being the total of the payments of $12,620 and $32,000). 85 Alternatively and additionally it is contended for the respondent that the whole of the $12,620 paid on quotation 6287 and that part of the $32,000 paid on quotation paid on 6288 for setting our roads and fire-breaks is expenditure in preparing the land for the plantation and is capital expenditure. It is submitted that is the case because it is expenditure which goes to establishing the business frame-work rather than operating that frame-work to gain assessable income, so that those amounts are not deductible under subs 51(1) of the Act: Southern Estates Pty Ltd v Commissioner of Taxation (1967) 117 CLR 481. (Although this aspect of the argument was put in the respondent's written submission as an alternative argument, no deduction for those amounts is claimed by the applicant, so I take the argument as relevant to the characterisation of the deductions claimed by the applicant and the apportionment contention). It is conceded on behalf of the respondent that any planting and spraying work done after the applicant had acquired his interest would be properly on a revenue account. 86 In the course of his evidence Mr A V Wheatley, a director of Independent at the relevant time, could not give any conclusive evidence to assist such apportionment. I accept the submission for the respondent that the closest which Mr Wheatley's evidence reached to the point was to say that the apportionment as between planting on the one hand and road and fire-breaks on the other would be something less than 50 per cent. He was not prepared to be more definite. 87 In this context the case for the respondent points to par 14ZZO(b) of the Tax Administration Act 1953 submitting that the onus is at all times on the taxpayer to prove that the assessment is excessive in respect of the year ended 30 June 1987. The respondent submits the applicant has failed to meet that onus by establishing that there is a proportion of the management charge which is an allowable deduction. 88 I am unable to agree, for the following reasons: (1) The Management Agreement specified the duties of the manager in cl 2.1(a)-(h). The prima facie position raised by the evidence is that the applicant received from the manager what the fee was paid for. The respondent brings no evidence to displace this. I do not consider the evidence of Mr Wheatley does so. (2) Mr Wheatley, as an expert in the relevant work, was unable to arrive at any detailed apportionment even under cross-examination. (3) The matters the subject of quotations 6287 and 6288 do not fit, other than in a general way, into the description of the duties of the manager so that no finding can be made that Independent had carried out the work of the manager. (4) The submissions for the respondent do not explain how the apportionments relied on carry forward to the management fee. (5) Cliffs International and McLennan are authorities in relation to shares. (6) Nothing in Lau, Emmakell or Brand provides support for the notion of going behind the management fee. (7) It is a question of fact, unable to be resolved on the evidence in the case, whether firebreaks on rural land subject to re-growth and requiring annual maintenance confer any enduring capital benefit. "Properly referable" argument 89 Next it is contended for the respondent that while cls 1.1 and 2.1 of the Lease and Management Agreement secured lease and management charges, these related to the provision of the lease and of management services for a period of 30 years commencing from the year of income ended 30 June 1987. Therefore, it is submitted, there is a need to identify that portion of the charges which is "properly referable" to the income producing activity in the year of income ended 30 June 1987. 90 In advancing this argument the respondent relies upon Coles Myer. There it was held that the difference between the face value and the sale price of bills and promissory notes was allowed as a deduction under subs 51(1) on a straight line apportioned basis. At 663 Mason CJ, Brennan, Dawson, Toohey and Gaudron JJ said: "But it is not enough to establish the existence of a loss or outgoing actually incurred. It must be a loss or outgoing of a revenue character and it must be properly referable to the year of income in question … So it was that in New Zealand Flax the taxpayer was not entitled to deduct all payments of interest in future years notwithstanding that it had incurred a liability to pay them in the accounting period under assessment." As has already been seen, the majority in Coles Myer considered whether the loss or outgoing was properly referrable to the year of income in question. They did so on the authority of New Zealand Flax and the statement of Deane J at 671, previously referred to, was made in reference to that case. In Ogilvy and Mather Hill J said the facts of New Zealand Flax were complex, involving a scheme which required a complicated accounting exercise to be undertaken for the purpose of applying the pre-cursor of subs 51(1). Consequently the statement by Dixon J in New Zealand Flax that certain items be "referrable" to a particular accounting period were to be viewed in that special context: see Woolcombers at 573. 91 Nevertheless in Woolcombers at first instance Lee J considered whether the losses or outgoings were properly referrable or properly attributable to the income year. He did so on the basis that this required the loss or outgoing not to be "so anomalous to the revenue operations of the taxpayer as to effect a distortion in the result of those operations in the relevant income year." The applicant's case did not bring to the Court evidence of the accounting impact of the allowance of the outgoings being the lease and management charges such as that which was before Lee J at first instance in Woolcombers. See Woolcombers at 567. 92 For the respondent it is submitted in relation to the leasehold interest there are two alternative ways of making the appropriate apportionment. One would be two days out of four years multiplied by the lump sum. The other would be two days out of one year multiplied by the annual payment. Given that there was no discount for pre-payment the mathematical outcome would be identical but where such discount might be offered, the difference could be significance. 93 In relation to the management charge it is submitted for the respondent it is necessary for the Court to look behind the charge and look at the character of the advantage being obtained as a result of the charge. It is submitted the relevant components are the clearing of the land, the planting of the seedlings and related work and maintenance. As it is submitted the first two elements had been carried out prior to the acquisition by the applicant, the advantage which the applicant acquired was the maintenance obligation. However there was no maintenance obligation remaining to be performed in the income year ended 1987 – such works took place in subsequent years. Therefore there was no portion of the advantage derived from the management charges that is "properly referable" to the income year in question. 94 In response to these submissions the applicant's case, in relying on Woolcombers, contends that the respondent is endeavouring to introduce through a judicial determination the proportional provisions introduced by subs 82KZM and not applicable to the case of the applicant in the income year in question. The applicant's case distinguishes Coles Myer. It is submitted that as that was a case involving apportionment in relation to promissory notes it is an unreliable guide to what should apply in the instant case. In Coles Myer the High Court held that one factor in favour of apportionment was that the amount of the taxpayer's loss or outgoing in relation to promissory notes was not payable until the subsequent year of income. A further factor was that the loss or outgoing represented the "cost of acquiring funds which the taxpayer puts to profitable advantages in both years of income." Furthermore the applicant contends that in Commissioner of Taxation v Energy Resources of Australia Ltd 96 ATC 4368 the High Court reached a different result to that in Coles Myer. Relying on Fletcher at 17 it is submitted for the applicant that where there is a genuine and not colourable relationship between the whole of the expenditure and the production of income, then apportionment is inappropriate. It is submitted the present is such a case: cf Commissioner of Taxation v Brand 95 ATC 4642 and in the Full Federal Court 95 ATC 4633 at 4650. 95 I have found the applicant's case has not established an entitlement to deductibility of pre-payments of the lease and management fees because there was no sufficient evidence of commercial purpose led. It must follow that the quantum of the lease and management fees actually made contractually payable require apportionment to that portion referrable to the relevant year of income, namely the year ending 30 June 1987. 96 I consider that the basis on which apportionment should be made is in accordance with the respondent's first proposition: that is by applying the days for which the obligation existed in the relevant year to the total amount due under the obligation. This would allow the deduction of the obligation for two days out of four years in respect of the total obligation due on January 1991 of $1320. 97 In respect of the management charge, which was contractually payable in advance, I do not consider apportionment should be on the basis of going behind the fee and examining the work done by Independent. My reasons for that have been stated in relation to the capital apportionment argument. Rather I again consider the time factor during which the obligation has existed in the relevant year should be applied as a proposition to the total period and total amount. The management fee payable on execution was $10,680 for thirty years. The deduction of the obligation in the relevant year to 30 June 1987 would therefore be (2 ¸ (365 x 30 years)) x $10,680 = $1.95. INTEREST CHARGES Whether charges "incurred" 98 For the applicant it is submitted the interest charge was incurred when he entered into a binding obligation to pay the Belmont loan. The contention is that the obligation or liability to pay that interest arose upon the signing of the Belmont Loan Agreement. 99 For the applicant it is submitted the crucial factor is the incurrence of the liability to pay and not the actual payment of money: relying on Lau in which a submission on behalf of the respondent to the same effect as that of the present respondent was rejected. There it was held that the absence of any actual cash flow resulting from a round-robin of cheques did not result in the incurrence of the liability being denied. See also Woolcombers. It is therefore submitted for the applicant that even if there was a failure by Belmont to pay the loan funds to Fertile and Select, that would not affect the contractual obligations of the applicant so as to deny to him a deduction in respect of the liability "incurred". 100 For the respondent it is contended that examination of the facts concerning the application of the loan funds establishes that no outgoing was "incurred". Those facts show, it is submitted, that of the principal of $15,800 to be applied by Belmont, $12,000 was to be advanced to Fertile and Select. However it is submitted that as no funds were so advanced by Belmont in discharge of its obligations under the Belmont Loan Agreement, the applicant was under no liability to pay the interest charged under the agreement so that no deductible expense was incurred pursuant to subs 51(1) of the Act. In short, it is said the condition on which interest became payable was not activated. This contention is supported by reference to Jekos Holdings v Australian Horticultural Finance Pty Ltd (1996) 34 ATR 41 at 53 and Coles Myer at 661‑663 and 677. See also NZ Flax at 207; Case Q61 (1983) ATC 319 and Ogilvy and Mather at 4844‑4845 and 4864. 101 Jekos Holdings was not a tax case. At 51, Dowsett J said that if there was an agreement between the plaintiffs and the defendant in that case it obliged the defendant to lend to the plaintiff in question the sum specified in the Deed of Loan signed by that plaintiff by paying that sum to the representative. He did not agree with the plaintiff's claim that it had discharged these obligations by engaging in round-robin transactions because there was no sensible way in which it could be said that round-robin transactions amounted to payment of the principal sums to the representative. The effect of the round-robin transactions was that they were designed to ensure the amount of each cheque drawn upon an account was matched by a deposit by the same amount. They were not therefore intended or able to facilitate transfers of funds to the representative. Neither the representative nor any of the other companies participating in the round-robin acquired control over any funds. There had therefore been a failure to advance the funds required by the agreements. For the respondent it is submitted that, where there has not been the slightest attempt to transmit funds to Belmont to Select or Fertile or to record or document any loan or agreement between those companies, it cannot be found that the loan moneys had been advanced. 102 For the applicant it is sought to distinguish Jekos' case on the ground that here both the borrower and lender are claiming a loan was on foot whereas in that case the borrowers were claiming no loan had been made. I accept the submission for the respondent that this provides no relevant point of distinction. The essential question is whether borrowed funds were in fact put to any use. 103 The findings of fact concerning payment of the lease and management charges extend to the question of fact as to whether Belmont made an advance of loan monies to Fertile that is, the applicant's case fails to establish the loan monies were advanced. 104 The obligation on the applicant to pay interest arose from cl 2 of the Belmont Loan Agreement. Reading that clause in its context I consider it is clearly the case that such obligation did not arise unless and until Belmont had advanced to the applicant the principal sum. Such advance not having been proved, the obligation did not arise. If the obligation in cl 2 is properly characterised also as a choate but contingent liability to pay the interest contingent upon the advance of principal, there is a practical certainty the contingency has not been proved as having occurred. There is therefore no relevant obligation with respect to interest in respect of which the applicant can claim an allowable deduction was incurred. 105 For completeness I nevertheless address the remaining issues raised in relation to the interest charges. Whether presently existing liability 106 Alternatively it is argued for the respondent that on 29 June 1987 when the applicant entered into the Loan Agreement he did not incur a presently existing liability to pay the $4,200 interest charged to Belmont. It is said this follows from the Belmont Loan Agreement where there is no accruing liability and no debt presently due. The liability to pay the principal and interest did not arise before 29 June 1988. Consequently, it is submitted, the interest charge was not incurred in the year ended 30 June 1987 and was not therefore deductible under subs 51(1) of the Act: Flood at 506‑507; Nilsen at 623-624, 627; Commissioner of Taxation v Australian Guarantee Corp Ltd (1984) 2 FCR 483 at 488-489, 497 and 506-507 and Coles Myer. 107 In support of its submission that there was no presently existing liability in the relevant tax year it is said for the respondent that this is a case in which there was a lump sum specified for interest, no rate identified and a particular date upon which the interest was to be payable specified in the agreement. Additionally, there is no suggestion in the agreement that interest was accruing on a day to day basis or in any sense due prior to the date upon which the interest was to be paid, namely 29 June 1988. This was almost a year after the conclusion of the relevant year of income. 108 In further support of this submission the respondent submits that the terms of the Belmont Loan Agreement displaced the inference to the effect that interest accrues on a day to day basis: see Property Law Act 1969 (WA) ss 131 and 132. On this point reference was made to what was said by members of the Court in Australian Guarantee Corp Ltd at 488 and 493 (per Toohey J); at 503 (per McGregor J) and at 506‑507 (per Beaumont J). That case concerned the deductibility pursuant to subs 51(1) of the Act of interest payable on the third interest debentures where no interest would be "paid or credited" prior to maturity or earlier redemption at which time the debenture "will earn and be credited with interest". It was held such interest was "incurred" in the relevant year because the taxpayer had subjected itself to a liability to pay the interest notwithstanding a payment would not have to be made until maturity or earlier redemption. Further, it was held there was nothing in the special conditions relating to the payment of interest attaching to the debentures to indicate an intention to displace the common law rule that interest accrues from day to day. The position is otherwise here, in the submissions for the respondent, because of the way in which the Belmont Loan Agreement specified that interest was only payable in a fixed amount on a fixed date. 109 For the applicant it is submitted that upon the execution of the Belmont Loan Agreement the applicant was under a presently existing liability to pay the interest charge under the Belmont Loan Agreement from the date of signing on 29 June 1987. This submission is supported by reference to the applicant's previous submissions outlined earlier on the application of the word "incurred" in relation to the Lease and Management charges. 110 Additionally the applicant seeks to rely upon the decision in Trinidad Lake Asphalt Operating Co Ltd v Commissioner of Income Tax for Trinidad and Tabago [1945] AC 1. I accept the submissions for the respondent that the circumstances in that case are very different to the present case. 111 In my opinion the effect of the provision concerning interest in the Belmont Loan Agreement was to subject the applicant to a presently existing liability to pay the interest charged as from the date of the signing of that agreement in the event the principal sum was advanced. There was a present contingent liability to pay the interest. Sub clause (3) provided the re-payment date was at the expiration of the twelve month period from the date of advance. Furthermore, I do not consider that the provisions negated the inference that interest accrues from day-to-day. The agreement addressed the time at which interest would be payable as a lump sum. That did not have the effect of such negation. However, given the conclusion I have reached on whether the interest charges were incurred, nothing turns on my non‑acceptance of this argument for the respondent. Use of funds or no sufficient connection contention 112 Next it is submitted for the respondent that even if the interest charge was "incurred" the borrowed funds were not applied to an income producing purpose so that the expenditure did not have a "sufficient connection" with the operations which more directly gained or produced assessable income or with the business being carried on for income producing purposes. The submission is that the dominant if not exclusive matter to which the Court ought to have regard in determining whether or not the interest is deductible is the use to which the funds were put. 113 Support for this contention is sought firstly, in Commissioner of Taxation v Roberts (1992) 37 FCR 246. At 256-257 Hill J, with whose reasoning on this issue Jenkinson and O'Loughlin JJ agreed, considered the effect of the decision of the High Court in Fletcher v Commissioner of Taxation (1991) 173 CLR 1 at 17-19. Hill J said that the effect of the decision was that the process of characterisation involved in resolving an issue under s 51(1) will commonly be possible without reference to the taxpayer's subjective thought processes. In other cases motive may be a relevant fact, at least where the outgoing has been voluntarily incurred so that motive could be relevant to a case where no assessable income can be identified at the time the outgoing was incurred, or where the relevant assessable income was less than the amount of the outgoing. Hill J referred to a statement which he had made in Kidston Gold Mines Ltd v Commissioner of Taxation (1991) 30 FCR 77 at 85 to the effect that "in the usual case, the application of funds to an income producing purpose will demonstrate the relevant connection." However, he stressed the continuing relevance of the language of subs 51(1) saying at 257: "The issue continues to be whether the interest outgoing was incurred in the income producing activity or, in a case falling to be tested under the second limb, in the business activity which is directed towards the gaining or producing of assessable income. As the cases, including Kidston, all show, the characterisation of interest borrowed will generally be ascertained by reference to the objective circumstances of the use to which the borrowed funds are put. However a rigid tracing of funds will not always be necessary or appropriate: cf Total Holdings (Australia) Pty Ltd v Commissioner of Taxation (1979) 43 FLR 217…" 114 For the respondent it is contended that there are no circumstances in the present case which would take it outside the usual case referred to by Hill J in Roberts. Applying the principle and looking to the use which the funds were put, the problem becomes one of identifying which funds the principle is to be applied to. In respect of the funds under the Belmont Loan Agreement, which is the source of the interest obligation claimed to be deductible, it is said that the funds were not put to any use because they were never advanced from Belmont to Select, were never the subject a loan account between Belmont and Select and were never acknowledged being due by Belmont to Select. This in effect returns to the base of the first submission in relation to interest, namely that no interest was payable because there was in fact no advance. 115 For the applicant it is submitted that the execution of the Belmont Loan Agreement to enable the applicant to participate in the plantation by financing the Lease and Management Agreement provides the sufficient connection or nexus between the incurring of the expenditure and derivation of income from the plantation on the applicant's leased land. 116 Consistently with the earlier reasoning concerning the sufficient connection or nexus in relation to the lease and management charges, I consider that for the same reasons, that the Belmont Loan Agreement would provide the appropriate sufficient connection or nexus with respect to the incurring of the liability to pay the interest charges, had they been incurred. Properly referable proposition 117 Next it is submitted for the respondent that when the applicant entered into the Belmont Loan Agreement and incurred the interest charge on 29 June 1987 (if that be the case), the charge reflected interest on the borrowing up to and including 29 June 1998. Consequently, it is submitted, only that interest which is "properly referrable" to the income year ended 30 June 1987 is deductible in the year – that is, (2 ¸ 365) x $3,484.00. This is supported by reference to Coles Myer at 663 and 665-666 and Australian Guarantee Corp. The applicant's submissions in respect of this argument are identical to those made in respect of the Lease and Management charges under the not properly referrable claim. 118 There being a finding that the interest charges were neither paid nor were a presently existing liability because there was a certainty the contingency was not fulfilled, there is nothing to which the principle of apportionment can apply. Conclusion 119 For these reasons I consider that the applicant's case succeeds only in respect of the aforementioned apportioned amounts of the lease and management charges. The objection decision should be varied accordingly but otherwise affirmed. I certify that this and the preceding one hundred and nineteen (119) numbered paragraphs are a true copy of the Reasons for Judgment herein of the Honourable Justice R D NICHOLSON Associate: Dated: 5 February 1999 Dr J Hockley Counsel for the Applicant: Solicitor for the Applicant: Wilson & Atkinson Counsel for the Respondent: W Martin QC and L B Price Solicitor for the Respondent: Australian Government Solicitor Date of Hearing: 22 September 1998 Date of Judgment: 5 February 1999