High Court of Australia MASON CJ, DEANE and TOOHEY JJ Commissioner of Taxation (Cth) v Australian National Hotels Ltd Mason CJ Yes, Mr Handley. Mr Handley: The applicant does not seek to proceed with the grounds of appeal which raise issues of fact or s 260. The proposed grounds of appeal are at pp 97 and 98 of the application book and the only grounds sought to be pursued are grounds 3 and 4. If the court pleases, we would present two alternative but related submissions in support of the grant of special leave and in support of any resulting appeal. Firstly, and more fundamentally, we would submit that premiums paid for insurance against capital losses of any kind are outgoings of a capital or of a capital nature and are not allowable under s 51. And we would therefore submit that the assumption made by the majority in the Federal Court that premiums such as fire insurance premiums on capital assets are deductible is not a correct view of the Australian law. Mason CJ: Was that point put in the Full Court of Appeal? Mr Handley: It was not put. The submissions put for the Commissioner in the Full Federal Court accepted that fire insurance premiums were deductible but argued against the principle being extended. The second submission is that if insurance premiums such as fire insurance premiums on capital assets are allowable under Australian law, this is anomalous and contrary to principle and there should be no extension of this anomaly by analogy or otherwise. On either view, we submit the present application does raise important questions in relation to s 51 which extend beyond the field of insurance against exchange losses and outside the field of insurance generally and we would instance payments to insure against future long service leave obligations as one possible extension of the Full Federal Court decision in this case. I should say something about Div 3B of Pt III of the Act which came into force in June 1987 which does allow, in some circumstances, deductions for capital losses in exchange contract situations where they are not allowable under s 51. It is our submission, and I do not know whether the court wishes to be taken to this at this stage of this application but the Division does not apply to insurance payments of any kind where the sum payable is in Australian currency, it only applies to contracts where there are amounts payable in a foreign currency in this situation. I have got the legislation here which we could hand up in a photocopied form ( s 82U(1)). Mason CJ: Thank you. Mr Handley: This Division applies in relation to gains and losses only to the extent to which they are of a capital nature. And it made clear that it is cumulative on s 51. Going to the definition, and these are the key provisions, on the first left-hand page (s 82V(1) ): " 'currency exchange loss' means a loss to the extent to which it is attributable to currency exchange rate fluctuations." Insurance premiums paid in advance of the loss accruing do not come within that definition, we would submit. " 'eligible contract' [includes] (b) a hedging contract [and a] 'hedging contract' … means a contract that is entered into by the taxpayer for the sole purpose [and that is an important limitation] of eliminating or reducing the risk of adverse financial consequences that might result for the taxpayer … from currency exchange rate fluctuations." Going over the page again to s 82Z: "currency exchange loss incurred by a taxpayer in a year of income under an eligible contract is an allowable deduction. …" and going back to s 82X: "where (a) a taxpayer has an option to purchase currency under an eligible contract that is a hedging contract;" and there you find the limitation that the eligible contract must be one under which the taxpayer has an option to purchase currency, that is, of course, foreign currency, so that insurance contracts where any claims will be payable in Australian currency such as the ones involved here are not within the new legislation. In any event, your Honours, we would submit, not only, of course, would these points continue to be applicable under the new legislation, the points raised by this proposed appeal, but in view of the fact that important questions arise under s 51, the court would be disposed to treat the case still of continuing public importance just as it did in Nilsen Development Laboratories Pty Ltd v FCT (1981) 11 ATR 505, in relation to long service leave provisions. Your Honours, there is no direct authority in this court or in Australia prior to the decision of the Federal Court in this case which supports the deductibility under s 51 of premiums paid to insure against capital losses. And the United Kingdom authority, when one looks at it, is scanty and unsatisfactory and reveals a great diversity of opinion. The applicants wish to submit that the decisions of this court in Carapark Holdings Ltd v FCT (1967) 115 CLR 653; 10 AITR 378, dealing with the assessability of the proceeds of an insurance taken out by a company to protect it against the death of a key employee; FCT v Smith (1981) 147 CLR 578; 11 ATR 538, dealing with the assessability of receipts by a doctor under a sickness and accident policy and the allowability of deductions to secure such a policy; and John Fairfax & Sons Pty Ltd v FCT (1959) 101 CLR 30; 7 AITR 346, in relation to legal costs paid or incurred in defending title to capital assets all support the proposed appeal of the Commissioner in this case. In Carapark — and we do have copies here if necessary — this court unanimously held that proceeds of a life policy taken out by a company on a key employee who died in an accident were assessable income and the court looked at the nature of the loss insured against to characterise the receipt. The same analysis, we submit, should be implied to characterise the insurance premiums claimed as a deduction. In FCT v SmithDoctor's case, , the147 CLR 578; 11 ATR 538, the court held that since the insurance was to protect the doctor against loss of income and the benefits payable were periodic, the benefits were assessable and therefore the premiums were deductible. And, again, that would support, in our submission, the Commissioner's proposed appeal in this case. Unless payments received under insurance policies for the loss or destruction of capital assets are assessable income, the analysis in Smith, in our submission, on the deductibility question would support the conclusion that the premiums in this case were not allowable. Finally, in John Fairfax this court, in holding that costs incurred by the taxpayer in defending its title to capital assets were not deductible, refused to follow an English decision of Mr Justice Lawrence, later, Lord Oaksey, in Southern v Borax Consolidated Ltd [1941] 1 KB 111, who had held that such legal expenses were deductible in England. Significantly, Lord Oaksey had relied upon the Fire Insurance case in support of his conclusion, arguing by analogy, from fire insurance premiums being deductible under the English system to legal costs incurred in defending and maintaining a title to capital assets also being deductible, and we have here the relevant extract from Mr Justice Lawrence's judgment if that is required. Not only did this court refuse to extend that English principle about the deductibility of fire insurance premiums on capital assets to legal costs in John Fairfax's case but, impliedly, in our submission, and adopting a consistent view of s 51 principles, it disapproved of the anomalous rule about fire insurance premiums in the first place. Mason CJ: Mr Handley, there would be no decision of this court that would preclude the Full Court of the Federal Court from considering, and if it accepted the submission, giving effect to your first submission, the submission you make as a matter of general principle. Mr Handley: Your Honour, in my submission, the majority judgment in this case would stand in the way because … Mason CJ: The majority judgment in this case might, unless the Federal Court were prepared to reconsider it, and it might well be prepared to reconsider it seeing it did not have the advantage of the submission that you wish to make to this court. Mr Handley: I have to acknowledge your Honour's point on that matter but … Mason CJ: It seems to me inappropriate that we should be called upon to consider a matter of fundamental general principle when we do not have the advantage of a consideration of that question by the Full Court of the Federal Court. Mr Handley: Your Honour, what this court does have is the view of the majority that the allowability of fire insurance premiums under the English system represents an adequate basis to extend — adequate, or sufficient or an appropriate foundation for an extension into this area of insurance premiums payable to insure against capital exchange losses, and the dissenting judgment, as the court would appreciate, takes the stand that the existing accepted position is anomalous and is not to be extended. Now, it would be even less satisfactory for this court to look at the question that was actually litigated before the Federal Court without looking at the fundamental question and, in my submission, in the s 51 area where the court does have the benefit of its earlier decisions in Carapark, Smith and Fairfax, the usual considerations which would apply where the point was arising, as it were, de novo do not apply with the usual cogency in this case because when one tries to fit this decision into, what I might call, the seamless but consistent web of s 51 cases in this court, its anomalous nature stands out so that it is appropriate for the court to grant special leave to review the question of insurance premiums paid to guard against capital losses in the context of the extension favoured by the majority below and, indeed, the whole question of whether there is any exception at all to the general principle about capital losses. Mason CJ: Is it correct to say, as you have suggested, that Mr Justice Pincus in his dissenting judgment regarded the deductibility of fire insurance premiums as an anomaly? Mr Handley: Your Honour, he said it was not to be extended and I … Mason CJ: But that does not imply that it is an anomaly. Mr Handley: Perhaps the beauty was in the eye of the beholder but I did think that that was what his Honour was saying. For example, at p 75, line 9, his Honour says: "In the ordinary use of the term 'capital', a payment made to fix in advance" — well, perhaps that is not — I would put it in terms of what Mr Justice Pincus said at p 72. Then he did comment about analogy. Perhaps at the bottom of p 75, the last paragraph: "The tax laws require one, however, to endeavour to preserve the distinction." It is at the top of page 75, line 2: "At first sight, the analogy between, say, fire insurance as securing the value of a physical entity and this insurance as preserving the value of another sort of capital is attractive; but moving by analogy from one marginal case to another can, in the end, produce an erroneous result." So, that indicates, in my submission, a dissatisfaction with the terms of principal with the … Mason CJ: Has there ever been any suggestion before this statement by Mr Justice Pincus that the deductibility of fire insurance premiums is marginal? Mr Handley: Your Honour, on capital assets? Mason CJ: Yes. Mr Handley: I mean, it has just been — no one has ever looked at it. Deane J: And no exceptions on your primary argument. A lessor … Mr Handley: On capital losses? Deane J: Yes. Mr Handley: No, your Honour. Deane J: A lessor cannot deduct the fire insurance premiums in calculating his taxable income. Mr Handley: "A lessor"? Deane J: Yes. Mr Handley: He can deduct so much of it as relates to the loss of rent. Deane J: No, in relation … Mr Handley: In relation to the capital loss? Deane J: Yes. Mr Handley: Your Honours, what happened in Britain is that in a case — I have got Hannon here which explains what happened historically — where there were compulsory payments added to licence fees of publicans to sustain a fund out of which licensees would be compensated for the loss of their liquor licence or the publican's licence, there was an equal division in all courts including the House of Lords on whether those payments were deductible. That is Smith v Lion Brewery Co [1911] AC 150. We would say at this point of time that they were deductible because they were annual payments in the nature of licence fees so that the publican could carry on business, but the judgments in all courts stray into the area of insurance and there was an equal division of opinion as to whether, if you looked on these payments which were, in fact, compulsory and which, in fact, the government used to sustain this compensation fund — if you looked on them as insurance payments, they would or would not be deductible. There was an equal division of opinion. And then in Usher's Wiltshire Brewery Ltd v Bruce [1914] 2 KB 891, the Court of Appeal, three nil, affirming the trial judge, said: "Fire insurance premiums paid by lessors on licensed premises were clearly not deductible." And we have got the passages here. In the House of Lords ( [1915] AC 433), the matter was treated as covered by Smith v Lion Brewery : (a) where there was an equal division in the House of Lords, an equal division in all courts and; (b) where the payments were compulsory annual payments and the insurance component just related to the way in which the government used the money. So that is the very unsatisfactory basis, and Usher's case has just been accepted here as, indeed, Hannon indicates in his book ever since, understandably enough in the early days of the Commonwealth, as establishing that fire insurance premiums were deductible. But if you test it against principle and against what this court said in Carapark, Smith and Fairfax, in my submission, it cannot be supported and the extension by analogy which the Federal Court has adopted in this case and which Mr Justice Pincus refused to adopt, as it were, sends one back to first principles and one asks: "Well, how on earth can you deduct payments made to insure against capital losses?" I might just remind the court that in Sun Newspapers Ltd v FCT (1938) 1 AITR 403, Mr Justice Dixon said, of course, recurrence is not a test of deductibility. It is a factor but it is not a test, and we have that passage here also if the court would wish to be reminded of it. Accepting that these fire insurance premiums are paid generally year after year, recurrence is the only factor which points to revenue. The other factors all point to capital and, in my submission, it is an appropriate case for the court to examine, (a) the propriety of the extension to … Deane J: Why do the other cases or other factors all point to capital when the insurance is against damage of a type caused by carrying on the relevant business? Mr Handley: It is not, with respect, your Honour. Fire is not caused by carrying on the business. Deane J: But what if it is a manufacturer of fire crackers? Mr Handley: Yes. Well, it is still a capital loss, your Honour; it is an insurance against a capital loss. Deane J: I was just querying your statement that all the other factors point to non-deductibility. I would have thought the obvious factor when you are insuring against damage caused by carrying on your business was the one that pointed to revenue. Mr Handley: Your Honour, the insurance is an undifferentiating insurance against capital losses to a building or plant, however caused. If it, of course, was stock in trade, it would be a different matter. If it was a loss of profits policy, it would be a different matter, more a business interruption policy. But the losses or damage to the structure of the building would cover such losses or damage from any cause: aircraft falling out of the sky; faulty wiring; fire spreading from next door or whatever. So, in the ordinary case, in my submission, a loss directly due to the hazardous nature of the business would only be one of the possible causes of the loss, but even then one sees that it is insurance against capital loss and that, in my submission, in the light of the other decisions of this court, would be the critical factor. They are our submissions, if the court pleases. Mason CJ: Thank you, Mr Handley. Yes, Mr Bloom? Mr Bloom: If your Honours please. Yours Honours, it was conceded below by counsel for the Commissioner that insurance against fire of the casino which was bought with the moneys that were the subject of the loan, the replacement loan, would be deductible. Your Honours, the principle which the majority of the Full Court applied in this case is the principle in Texas Co (A'asia) Ltd v FCT (1940) 2 AITR 4, and that is the principle which is set out at p 49 of the appeal book from the judgment of Mr Justice Dixon as he then was in that case. It is a simple principle. It is: "Some kinds of recurrent expenditure made to secure capital or working capital are clearly deductible." And he instances rent and interest as examples that fall within what he says. To the same extent was Sir John Latham in that case and, at pp 49 to 50 of the application book, what he said is there set out. Your Honours, this case, in our submission, is an application or an example of an application of that principle to the peculiar facts of this case and no more than that. It involves no new principle and, in particular, does not involve a departure in any existing principle. We also rely upon the enactment of Div 3B, your Honours. That, in effect, abolishes, for the purposes of either deductibility or assessability the distinction between capital and revenue in the case of foreign exchange losses and foreign exchange gains. It is our submission, your Honours, that your Honours should not grant special leave in this case. Mason CJ: Mr Handley? Mr Handley: Nothing in reply, if your Honours please. Mason CJ: The court will announce its decision in this matter after the adjournment at midday. At 9.58 am the matter was adjourned until later the same day. Upon resuming at 2.22 pm: Mason CJ: The applicant seeks to argue two points in the proposed appeal: first, that the premiums for insurance against capital loss of any kind, including fire insurance premiums, are of a capital nature and not deductible under s 51 of the Income Tax Assessment Act; secondly, that if some such premiums are deductible they constitute an anomaly which should not be extended to cover the payments made in the present case. The first point is both novel and fundamental. However, it was not raised in the Federal Court and this court should not embark upon an examination of it without having the advantage of a comprehensive consideration of it by an intermediate Court of Appeal. We are left then with the second point. It would be inappropriate for us to grant special leave to appeal to deal with this question in isolation now that the Commissioner has signalled his intention to challenge the traditional view according to which premiums for insurance against capital loss in a variety of circumstances have been treated as deductible under s 51. It would be an artificial exercise to consider and determine the second point so long as the first point remains in abeyance. For these reasons the application for special leave to appeal is refused. Mr Bloom: With costs, your Honour? Mason CJ: You do not dispute that? Mr Sullivan: No, your Honour. Mason CJ: The application is refused with costs. At 2.24 pm the matter was adjourned sine die.