HIGH COURT OF AUSTRALIA

Gibbs J.

 

 

 

HOLLYOCK v. FEDERAL COMMISSIONER OF TAXATION

(1971) 125 CLR 647

29 September 1971

 

 

Income Tax (Cth)

Income Tax (Cth)—Arrangement for the avoidance of tax—Pharmaceutical chemist creates trust of business for wife and himself—Whether void—Whether purpose illegal—Whether purpose the avoidance of tax—Sham transactions—Income Tax Assessment Act 1936-1965 (Cth), s. 260.

Decision


October 29.
GIBBS J. delivered the following written judgment:-
This is an appeal against the decision of a Board of Review confirming assessments made by the Commissioner of income tax payable by the appellant on income derived by him during the years of income ended 30th June 1963, 30th June 1964 and 30th June 1965. (at p650)

2. The appellant is a pharmaceutical chemist, duly licensed under the Pharmacy and Poisons Act, 1910-1962 (W.A.). Until 29th September 1962 he carried on business on his own behalf as a pharmaceutical chemist in Perth under the name of "Craven's Pharmacy". On that date the appellant and his wife, who is not a pharmaceutical chemist, executed a deed whose provisions, being not altogether harmonious, are difficult to summarize and must be set out in full. The deed provided as follows:

"THIS DEED made the 29th day of September 1962
BETWEEN: GEOFFREY JOHN HOLLYOCK of 187 Thomas Street
Subiaco in the State of Western Australia Pharmaceutical
Chemist (hereinafter with his executors administrators and
assigns called 'the Vendor') of the one part and BEVERLEY
ANNE HOLLYOCK of the same address Married Woman wife
of the said Geoffrey John Hollyock (hereinafter with her
executors administrators and assigns called 'the Purchaser')
of the other part.

WHEREAS:
The Vendor has for some time past been carrying on under
the firm name of CRAVEN'S PHARMACY the business of
Pharmaceutical Chemist at the corner of Barrack and Hay
Streets Perth in the said State.
The Vendor has agreed to sell and the Purchaser has agreed
to purchase from the Vendor as from and including the 1st
day of October 1962 a one half share or interest in and to the
said business and the assets and nett profits thereof.
The Purchase Price payable by the Purchaser to the Vendor
will be an amount equal to a one half share of the goodwill of
the said business as assessed by the Commissioner of Stamps
for the payment of stamp duty hereon together with a one
half share of the amount by which the assets of the business
(excluding goodwill) exceed the liabilities thereof as will be
shown in a Balance Sheet to be prepared as at the 30th day of
September 1962 by A.B. PEARCE &COMPANY Public
Accountants
of 32 Beaufort Street Perth in the said State as
Accountants
for the Vendor and such purchase price will be payable
without interest as hereinafter provided.
It has been agreed that the Vendor shall have no lien or
other security for the purchase price referred to in the previous
sub-paragraph hereof and will by these presents declare that
as from and including the said 1st day of October 1962 he will
stand possessed of the said business and the assets thereof and
the income therefrom IN TRUST for himself and the Purchaser
in equal shares.

NOW THIS INDENTURE WITNESSETH as follows-:
1. The Purchaser HEREBY COVENANTS AND AGREES with
the Vendor to pay to him on demand the amount of the
purchase
price hereinbefore set out or the balance outstanding
of such purchase price from time to time PROVIDED THAT the
Vendor shall refrain from making demand for such purchase
price or outstanding balance thereof from time to time prior
to the death of the Purchaser so long as the said business shall
continue to be carried on and so long as the Purchaser does
not sell assign or otherwise dispose of her beneficial interest
in the said business and so long as she applies in payment or
part payment of the said price her share of the income derived
from the said business less a proper allowance for income
taxation in respect thereof.
2. The Vendor so as to bind himself and his executors
administrators estate and effects DOTH HEREBY DECLARE that
he now holds and stands possessed of and will hereafter hold
and stand possessed of the said business and the assets thereof
and the income derived therefrom UPON TRUST absolutely for
himself and the Purchaser in equal shares THE VENDOR reserving
to himself as Trustee and legal owner of the said business and
the assets thereof full and free right and liberty to continue
to carry on the same and for that purpose to appoint Managers
and other servants and if thought fit to enter into any
partnership
or partnerships with any person or persons in respect of
his share in the capital and assets and/or of the profits of the
said business and to receive reasonable remuneration for any
services he may render to or for the said business and at any
time to sell or join with any such partner or partners (if any)
in selling the said business and the undertaking thereof and any
part or parts of the assets thereof either as a going concern or
otherwise at such price or prices and whether for cash or on
terms and generally upon such terms and conditions as he
shall think fit."

According to the evidence of the appellant, the deed was executed to provide his wife with an income in the event of his death and to minimize death duties and without any thought of its effect on his taxation position. A balance sheet which was prepared as at 30th September 1962 by the public accountants mentioned in the deed showed that the business had assets totalling 10,641 pounds , including goodwill valued at 6,000 pounds, and liabilities of 8,542 pounds. The Commissioner of Stamps assessed duty payable on the deed on an amount of 4,536 pounds , being one half of the total of the following items: capital of appellant 2,099 pounds; secured liabilities 6,973 pounds . The Commissioner of Stamps did not expressly assess the amount of goodwill but it seems that his acceptance of the balance sheet figure of 2,099 pounds as representing the capital of the business amounted to an implied assessment of goodwill at the figure shown in the balance sheet. If this was so, the consideration under the agreement would have been 3,000 pounds, since the assets of the business apart from goodwill were exceeded by the liabilities. Whatever the legal position may have been, however, the parties to the deed seem to have agreed or assumed that the wife owed the appellant 5,321 pounds as the purchase price of the half share of the net assets. This sum represented one half of the total of the value of the capital of the business plus the amount of the liabilities. In fact the appellant's wife has made no payment in respect of the purchase price and the income to which she is said to be entitled under the deed has not been applied in payment thereof. (at p652)

3. After the deed was executed the appellant continued to carry on the business for a few months. He and his wife then went overseas, leaving the business in the control of a manager. After their return the appellant again ran the business for a short period but he then commenced a full-time university course and again put the business in the hands of a manager. Accounts subsequently kept in the name of "G.J. Hollyock as Trustee for G.J. and B.A. Hollyock" show equal drawings of profits by the appellant and his wife but in fact the wife drew no profits from the business. The appellant alone operated on the bank account, from which he made regular withdrawals of money which he paid to his wife for household expenses as he had done before the deed had been signed. In March 1964 the appellant and his wife purchased a house as tenants in common and it appears that some of the price payable on the purchase of the house was paid out of the bank account which was maintained in the name of the business, although the evidence does not disclose how much was paid from the account for this purpose. (at p652)

4. In respect of each of the years of income in question the Commissioner has assessed the appellant to tax on the basis that the net income of the pharmacy business was wholly derived by the appellant and therefore formed part of his assessable income. The appellant, on the other hand, contends that since 1st October 1962 his wife has, by virtue of the deed, been beneficially entitled to one half of the business and the income derived therefrom and that he has accordingly derived only a one-half share of the net income. (at p653)

5. Various arguments were advanced on behalf of the Commissioner in support of the assessment. It was submitted that the agreement embodied in the deed was illegal and void as being designed to effect a purpose forbidden by the Pharmacy and Poisons Act, 1910-1962 (W.A.). Reference was made to two sections of the Act, s. 16, which provides that no pharmaceutical chemist shall practise or carry on business as a pharmaceutical chemist, or either as agent, employee or otherwise be engaged with any other person in the practice or business of a pharmaceutical chemist, except, inter alia, under the authority of a licence from the Council of the Pharmaceutical Society of Western Australia, and s. 44, which subject to immaterial exceptions forbids any person other than a pharmaceutical chemist to carry on the business of a chemist and druggist or pharmaceutical chemist. Alternatively it was submitted that the agreement, even if valid, was not effectual to divest the appellant of his right to receive the income from the pharmacy business. Finally and most strongly the Commissioner relied on the provisions of s. 260 of the Income Tax Assessment Act 1936, as amended (Cth)("the Act"). (at p653)

6. In reply to the argument based on illegality it was said on behalf of the appellant that, notwithstanding the deed, the business continued to be carried on by the appellant so that no breach of s. 44 was occasioned, and that since the appellant was duly licensed s. 16 was in no way infringed. I am inclined to think that the appellant is correct in these contentions although it is unnecessary finally to pronounce on the point because, assuming the deed to be valid, the appellant's attack on the assessment nevertheless cannot succeed. (at p653)

7. There is something to be said for the view that quite apart from s. 260 the entire income derived from the business was income derived by the appellant and that the trust only operated on the income after he had earned it and had become liable to pay tax on it. In Peate v. Federal Commissioner of Taxation (1964) 111 CLR 443, at p 446 Menzies J. said that it is established that a family man "cannot achieve taxation immunity by the simple expedient of assigning his earnings to his wife and family: Parkins v. Warwick (1943) 25 TC 419 ". The present case is not one in which there was an assignment of income earned but it presents obvious analogies. However, like Menzies J. in Peate v. Federal Commissioner of Taxation (1964) 111 CLR, at pp 458-459 :

"I see no point in attempting to decide this matter
independently of s. 260 if the case falls within its scope, for
in that event that section, without the Commissioner or Court
'invoking' its operation, is part of the law that has to be
applied and, so far as the Commissioner is concerned and in
these proceedings, its operation would require some things
that were done to be disregarded notwithstanding that for
other purposes their legal effect would remain unimpaired."

I shall therefore assume that apart from s. 260 the deed is valid and effectual and that the provisions of Div. 6 of Pt III of the Act would be applicable. (at p654)

8. It is unnecessary to set out the provisions of s. 260 or to refer to all of the many cases in which an endeavour has been made to solve its "notorious difficulties". On behalf of the appellant much reliance was placed on Deputy Federal Commissioner of Taxation v. Purcell (1921) 29 CLR 464 . In that case the owner of certain pastoral holdings declared himself a trustee of them for himself, his wife and his daughter equally, but reserved to himself very wide powers of management, control and investment, and it was held that the declaration created a trust which was valid and binding and not affected by the provisions of s. 53 of the Income Tax Assessment Act 1915-1916 (Cth) which was in terms similar to s. 260. Knox C.J. said that the section "does not extend to the case of a bona fide disposition by virtue of which the right to receive income arising from a source which theretofore belonged to the taxpayer is transferred to and vested in some other person" (1921) 29 CLR, at p 466 . In the same case Gavan Duffy and Starke JJ. said: "If a person actually disposed of income-producing property to another so as to reduce the burden of taxation, the Act contemplates that the new owner should pay the tax. The incidence of the tax and the burden of the tax fall precisely as the Act intends, namely, upon the new owner" (1921) 29 CLR, at p 473 . This decision was mentioned with apparent approval in Newton v. Federal Commissioner of Taxation (1958) AC 450; (1958) 98 CLR 1 : in that case their Lordships stated the following test for the application of s. 260 (7):

"In order to bring the arrangement within the section you
must be able to predicate - by looking at the overt acts by
which it was implemented - that it was implemented in that
particular way so as to avoid tax. If you cannot so predicate,
but have to acknowledge that the transactions are capable of
explanation by reference to ordinary business or family
dealing, without necessarily being labelled as a means to
avoid tax, then the arrangement does not come within the
section."

Their Lordships went on to give illustrations of this statement, including the following (1958) AC, at p 466; (1958) CLR, at p 9 :

"Nor could anyone, on seeing a declaration of trust made
by a father in favour of his wife and daughter, predicate that
it was done to avoid tax: see Deputy Federal Commissioner of
Taxation v. Purcell
(1921) 29 CLR 464 ."
If this were intended as a universal proposition it would be too wide, for it must depend on all the circumstances whether one can predicate of a trust that it was created to avoid tax, but it cannot be supposed that it was so intended. Their Lordships had already remarked that the word "arrangement" in s. 260 comprehends (1958) AC, at p 465; (1958) 98 CLR, at pp 7, 8 :

" . . . not only the initial plan but also all the transactions
by which it is carried into effect - all the transactions, that is,
which have the effect of avoiding taxation, be they
conveyances,
transfers or anything else."

(See also Bell v. Federal Commissioner of Taxation (1953) 87 CLR 548, at p 573 .) Declarations of trust which have the purpose of avoiding taxation must be within the scope of the section, and Mangin v. Inland Revenue Commissioner (1971) AC 739 affords a recent example of trusts made by a father in favour of his wife and children that were struck down by the New Zealand section equivalent to s. 260. (at p655)

9. It is clear that s. 260 is not concerned with motives, so that it is irrelevant if in the present case the ends which the appellant hoped to achieve did not include the avoidance of tax. The purpose of the arrangement must be ascertained by looking at the arrangement itself, i.e. by considering the overt acts by which the plan which forms part of the arrangement is carried into effect (see Newton v. Federal Commissioner of Taxation (1958) AC, at p 465; (1958) 98 CLR, at pp 7, 8 ; Hancock v. Federal Commissioner of Taxation (1961) 108 CLR 258, at p 283 ; Peate v. Federal Commissioner of Taxation (1964) 111 CLR, at p 469 ). Further, it was held in Newton v. Federal Commissioner of Taxation (1958) AC 450; (1958) 98 CLR 1 , that s. 260 will apply even where the avoidance of tax is not the sole purpose of the arrangement. Their Lordships said (1958) AC, at p 467; (1958) 98 CLR, at p 10 :

"It is clear from this analysis that the avoidance of tax was
not the sole purpose or effect of the arrangement. The raising
of new capital was an associated purpose. But nevertheless
the section can still work if one of the purposes or effects was
to avoid liability for tax. The section distinctly says 'so far
as it has' the purpose or effect. This seems to their Lordships
to import that it need not be the sole purpose." (at p656)



10. In Hancock v. Federal Commissioner of Taxation (1961) 108 CLR 258 , also an arrangement was held to be void as against the Commissioner although the avoidance of tax was not its sole purpose. In that case Dixon C.J. (1961) 108 CLR, at p 278 (with whom Windeyer J. agreed) and Fullagar J. (1961) 108 CLR, at p 271 regarded the avoidance of tax as an "essential feature" of the arrangement there under consideration. Kitto J. said (1961) 108 CLR, at p 283 :

"If an arrangement has been a means for the avoidance of
tax, the fact (if it be a fact) that it has been a means to other
ends as well does not prevent the application of s. 260."

and see also (1961) 108 CLR, at p 292 . (at p656)

11. Menzies J. said that (1961) 108 CLR, at p 297 :

"Newton's Case
(1958) AC 450; (1958) 98 CLR 1
decided that the section can apply if to
avoid the receipt of taxable dividends is only part of the
purpose and effect of the arrangement."

In Peate v. Federal Commissioner of Taxation (1964) 111 CLR, at p 476 , Taylor J. said that the arrangement there held void as against the Commissioner "had other ends in view such as the making of provision for the appellant's wife and children", and added:

"But avoidance of tax was the means to those ends and a
diminution in the appellant's tax was not merely an incident
of what might be regarded as an ordinary family settlement."

He went on to say that avoidance of tax was "at the very heart of the arrangement which was about as far removed as possible from any concept of ordinary business or family dealing". These authorities clearly establish that the avoidance of tax need not be the sole purpose of an arrangement within s. 260. However, in Mangin v. Inland Revenue Commissioner (1971) AC, at p 751 , their Lordships explained the passage from Lord Denning's judgment in Newton's Case (1958) AC, at p 466; (1958) 98 CLR, at p 8 , which I have already set out, by saying that the clue to Lord Denning's meaning lies in the words "without necessarily being labelled as a means to avoid tax", and then said:

"Their Lordships think that what this phrase refers to is,
to adopt the language of Turner J. in the present case, 'a
scheme . . . devised for the sole purpose, or at least the principal
purpose, of bringing it about that this taxpayer should escape
liability on tax for a substantial part of the income which,
without it, he would have derived'."

With great respect, I cannot accept that the words which Turner J. used (1970) NZLR 222, at p 236 to refer to the facts of the case before him, but which their Lordships adopted as indicating the meaning of Lord Denning's remarks, express completely the effect of s. 260. To say that the section applies only to arrangements whose sole purpose is tax avoidance would be contrary to the decisions in Newton's Case (1958) AC 450; (1958) 98 CLR 1 and Hancock v. Federal Commissioner of Taxation (1961) 108 CLR 258 . To hold that tax avoidance should be the principal purpose of the arrangement would seem to me to be opposed to the reasoning on which those decisions rest, and would introduce into s. 260 a refinement which is not suggested by the words of the section itself, and which would tend to increase, rather than remove, the difficulties to which the section gives rise, by requiring the courts to weigh one purpose against another and to decide which was predominant. An arrangement may, for example, be designed to secure both the avoidance of income tax and the avoidance of death duties - each purpose may be equally important - and in such a case the arrangement does not in my opinion escape from s. 260 simply because it cannot be held that the avoidance of tax is the principal purpose of the scheme. On the other hand, if tax avoidance is an inessential or incidental feature of the arrangement, that may well serve to show that the arrangement cannot necessarily be labelled as a means to avoid tax. (at p657)

12. The arrangement in the present case, considered objectively, can be seen to have several purposes, including the making of provision for the appellant's wife and the avoidance of death duty, but the avoidance of tax is clearly one of those purposes, and an essential purpose. Moreover, what was done does not seem to me capable of explanation by reference to ordinary business or family dealing, without necessarily being labelled as a means to avoid tax. An important feature of the case is that the business which the appellant declared that he held in trust was one that could lawfully be carried on only by a pharmaceutical chemist, so that it remained necessary for the appellant to carry on the business and his wife could not lawfully join with him in carrying it on. As Menzies J. said in Peate v. Federal Commissioner of Taxation (1964) 111 CLR, at p 460 :

"What, outside a profession, might be regarded as an
ordinary business transaction may, within a profession, have
an altogether different appearance."

Millard v. Commissioner of Taxation (1962) 108 CLR 336 provides another example of a case in which the business whose income was the subject of the arrangement avoided by s. 260 - that of a bookmaker - could only be carried on by a person who had the necessary registration. The conclusion appears to me inevitable that one purpose of the arrangement was to divide the income from the appellant's business in order to reduce the amount of tax that would become payable on it. Finally, it is not possible to regard this case as one in which the appellant has simply disposed of income-producing property. It is true that a considerable quantity of trading stock was included in the assets of the business, but the income derived by the appellant was derived from carrying on the business, and the trading stock yielded income only because the business was carried on. (at p658)

13. For the reasons I have given I hold that the execution of the deed formed part of an arrangement that was void as against the Commissioner by reason of s. 260. (at p658)

14. The present case does not give rise to difficulties as to the application of s. 260 such as led to the dissenting judgment of Lord Donovan in the Judicial Committee in Peate v. Commissioner of Taxation (1967) 1 AC 308; (1966) 116 CLR 38 . Once the arrangement whose purpose was to avoid tax is annihilated, what clearly remains in the present case is that the appellant received the entire income from the pharmacy business. It follows that the assessment was right and that the appeal should be dismissed. (at p658)

Orders


Appeal dismissed with costs. Usual order as to exhibits.