Re Commissioner of Taxation of the Commonwealth of Australia v Peter Aubrey Dunn [1989] FCA 32 (27 February 1989)

FEDERAL COURT OF AUSTRALIA

Re: COMMISSIONER OF TAXATION OF THE COMMONWEALTH OF AUSTRALIA
And: PETER AUBREY DUNN
No. G545 of 1986
Income Tax

COURT

IN THE FEDERAL COURT OF AUSTRALIA
NEW SOUTH WALES DISTRICT REGISTRY
GENERAL DIVISION
Davies J.(1)

CATCHWORDS

Income Tax - appeal from Administrative Appeals Tribunal - assessable income - whether cash or accruals basis more appropriate for assessing income of sole chartered accountant - role of accounting principles and practice - whether question one of law or fact .

Administrative Appeals Tribunal Act 1975 (Cth) - s.44(1)

Commissioner of Taxes (SA) v. Executor Trustee and Agency Co of South Australia Ltd (Carden's case) [1938] HCA 69; (1938) 63 CLR 108

Waterford v. The Commonwealth [1987] HCA 25; (1987) 61 ALJR 350

Arthur Murray (NSW) Pty Limited v. Federal Commissioner of Taxation [1965] HCA 58; (1965) 114 CLR 314

Henderson v. Federal Commissioner of Taxation (1970) 119 CLR 612

Federal Commissioner of Taxation v. Firstenberg (1976) 76 ATC 4141

Gulland v. Federal Commissioner of Taxation (1983) 83 ATC 4352

Federal Commissioner of Taxation v. Australian Gaslight Co and Anor (1983) 83 ATC 4800

Sun Insurance Office v. Clark (1912) AC 443

D. and G.R. Rankine v. Commissioners of Inland Revenue (1952) 32 TC 502 Wetton, Page and Co v. Attwool (1962) 40 TC 619

HEARING

SYDNEY
27:2:1989

Counsel for the applicant: Mr D.H. Bloom, Q.C. with Mr J.W. Durack

Solicitor for the applicant: Australian Government Solicitor

Counsel for the respondent: Mr R.F. Edmonds

Solicitor for the respondent: Mr S. Fienberg

ORDER

The appeal be dismissed with costs.

NOTE: Settlement and entry of orders is dealt with Order 36 of the Federal Court Rules.

DECISION

This is an appeal from a decision of the Administrative Appeals Tribunal which upheld objections by the taxpayer, Peter Aubrey Dunn, that his income for the years ended 30 June 1977, 1978, 1979 and 1980 should be assessed on the basis of cash received rather than on the basis of bills rendered, that is to say on a cash rather than on an accrual basis. The appeal is limited to a question of law. See s.44(1) of the Administrative Appeals Tribunal Act 1975 (Cth) and s.224(1) of the Taxation Boards of Review (Transfer of Jurisdiction) Act 1986 (Cth).

2. On the appeal, Mr D.H. Bloom QC, with him Mr J.W. Durack of counsel, appeared for the appellant, the Commissioner of Taxation. Mr R.F. Edmonds of counsel appeared for Mr Dunn.

3. As stated during the hearing of the appeal the questions of law raised for determination are:-

"1. Whether the Tribunal erred in law in finding
that the question for its decision was that
expressed by it in paragraph 3 of its Reasons for
Decision rather than whether, in respect of each
year of income, the fees rendered by the taxpayer but
unpaid at the end of that year were 'income
derived' by the taxpayer during that year within
the meaning of that term in the Income Tax
Assessment Act 1936.
2. Whether the Tribunal erred in law in holding that
'The effect of Firstenberg's case is that sole
practitioners are assessed on a 'cash receipts'
basis.'"

4. The Tribunal's reasons for decision were brief and read:

"1. In this case, the applicant is a chartered
accountant carrying on business in a small town as a
sole practitioner during each of the relevant years
of income.
2. During this period, the applicant employed five
or six regular employees, and also engaged additional
assistants from time to time in order to do
subcontracting work for another accountant. The
applicant also acted as agent for a Building Society,
and at least one of the staff employed by him was
employed full-time on that work.
3. The question to be decided is simply whether the
applicant should be assessed on a 'cash receipts' or
an 'accruals' basis. The respondent contends for the
'accruals' basis, relying on the decision of the High
Court in Henderson v F.C. of T. (1970) 119 CLR 612,
(1970) ATC 4016. The applicant seeks to support the
basis upon which he lodged his returns in reliance
upon the decision in FC of T v Firstenberg 76 ATC
4141, a decision of the Supreme Court of Victoria,
and the decision of the High Court in Commissioner of
Taxes (S.A.) v. The Executor Trustee and Agency Co.
of South Australia Ltd. [1938] HCA 69; (1938) 63 CLR 108.
4. The Tribunal must therefore enquire in the
circumstances of this case, which basis is calculated
to give a substantially correct reflex of the
applicant's true income. This case is
distinguishable from Henderson v F.C. of T. which
involved a large firm of public accountants, made up
of 19 partners together with 60 or more associates
who appeared to be partners in all but name. Such a
practice is similar to this case only in that the
persons involved are likewise accountants. At that
point, the similarity ceases.
5. This Tribunal is bound by the decision of the
Supreme Court of Victoria in Firstenberg's case
unless there is a proper basis for distinguishing it.
The effect of Firstenberg's case is that sole
practitioners are assessed on a 'cash receipts'
basis. This applicant employed more staff than Mr
Firstenberg; all of these staff were employed under
his direction; none were professional accountants;
and the applicant took sole professional
responsibility for the practice and signed all
statutory certificates.
6. The Tribunal is satisfied that this case is
governed by the decision in Firstenberg's case. The
applicant's appeals are therefore allowed with
respect to each of the years now before us and the
decision under review is set aside.'

5. An issue arising under Sections such as 25(1) and 51(1) of the Income Tax Assessment Act 1936 (Cth) may be an issue of fact, see Federal Commissioner of Taxation v. Brixius (1987) 87 ATC 4,963 and Federal Commissioner of Taxation v. Total Holdings (Australia) Pty Ltd [1979] FCA 30; (1980) 43 FLR 217, or an issue of law, see Charles Moore & Co (WA) Pty Ltd v. Federal Commissioner of Taxation [1956] HCA 77; (1956) 95 CLR 344, or it may be an issue of mixed fact and law.

6. The issue which was before the Tribunal was an issue of the last kind. It was not an issue of pure fact for the word 'derived' like the word 'incurred' is not used simply as an ordinary word of the English language. As Dixon J. said in Commissioner of Taxes (SA) v. Executor Trustee and Agency Co. of South Australia Ltd (Carden's case) [1938] HCA 69; (1938) 63 CLR 108 at pp 151-2:-

"The question whether one method of accounting or
another should be employed in assessing taxable
income derived from a given pursuit is one the
decision of which falls within the province of
courts of law possessing jurisdiction to hear
appeals from assessments. It is, moreover, a
question which must be decided according to legal
principles."

7. On the other hand, the question was not entirely one of law. The issue was the appropriate means of computing the income derived by the taxpayer. The circumstances of his occupation, how it was carried on and what records and books were kept were matters to be taken into account, and evidence as to accounting principles and practice was relevant. All these are matters of fact.

8. In so far as a decision of the Tribunal turns upon a matter of fact, the ascertainment of that fact is for the Tribunal not for this Court. As Brennan J. said in Waterford v. The Commonwealth [1987] HCA 25; (1987) 61 ALJR 350 at p 359:-

"A finding by the AAT on a matter of fact cannot be
reviewed on appeal unless the finding is vitiated
by an error of law. Section 44 of the AAT Act
confers on a party to a proceeding before the AAT a
right of appeal to the Federal Court of Australia
'from any decision of the Tribunal in that
proceeding' but only 'on a question of law'. The
error of law which an appellant must rely on to
succeed must arise on the facts as the AAT has
found them to be or it must vitiate the findings
made or it must have led the AAT to omit to make a
finding it was legally required to make. There is
no error of law simply in making a wrong finding of fact."

9. Nevertheless, as Brennan J. pointed out, all those errors which provide grounds of judicial review under the Administrative Decisions (Judicial Review) Act 1977 (Cth) provide grounds of law encompassed in an appeal under s.44 of the Administrative Appeals Tribunal Act. A tribunal will make an error of law in the relevant sense if it breaches the rules of natural justice in the conduct of its proceedings, if it takes into account some immaterial consideration, if it fails to give attention to a material consideration, or if its decision was so unreasonable having regards to the facts before it that no reasonable tribunal could have come to such a conclusion. See, eg., Edwards (Inspector of Taxes) v. Bairstow and Anor [1955] UKHL 3; (1956) AC 14.

10. As I have said, the question for the Tribunal was what was the gross income derived by Mr Dunn directly or indirectly from his occupation, which was that of Chartered Accountant, in sole private practice, during the years of income. In order to determine this issue, it was necessary to adopt a means of computation. As Dixon J. said in Carden's case at p.152:-

"Income, profits and gains are conceptions of the
world of affairs and particularly of business.
They are conceptions which cover an almost infinite
variety of activities. It may be said that every
recurrent accrual of advantages capable of
expression in terms of money is susceptible of
inclusion under these conceptions. No single
formula could be devised which would effectually
reduce to the just expression of a net money sum
the annual result of every kind of pursuit or
activity by which the members of a community seek
livelihood or wealth. But in nearly every
department of enterprise and employment the course
of affairs and the practice of business have
developed methods of estimating or computing in
terms of money the result over an interval of time
produced by the operations of business, by the work
of the individual, or by the use of capital. The
practice of these methods of computation and the
general recognition of the principles upon which
they proceed are responsible in a great measure for
the conceptions of income, profit and gain and,
therefore, may be said to enter into the
determination or definition of the subject which
the legislature has undertaken to tax."

At p 154, his Honour said:

"In the present case we are concerned with rival
methods of accounting directed to the same purpose,
namely, the purpose of ascertaining the true
income. Unless in the statute itself some definite
direction is discoverable, I think that the
admissibility of the method which in fact has been
pursued must depend upon its actual appropriateness."

In Carden's case, the Court was considering a tax imposed on incomes arising or accruing in or derived from the State of South Australia. Dixon J. said at p.155:-

"Speaking generally, in the assessment of income the
object is to discover what gains have during the
period of account come home to the taxpayer in a
realized or immediately realizable form. Thus, in
Thorogood's Case ((1927) 40 CLR at p 458),
where the question was whether, in a business of
buying land and selling it in subdivision on
instalment contracts, future instalments of
purchase money should be taken into the account of
taxable income derived during the accounting
period, the court pronounced decisively against the
inclusion of the present value of these future
payments. Isaacs J. said: 'Derived is not
necessarily actually received, but ordinarily that
is the mode of derivation.' Substantially the same
thing is said in reference to the words 'arising or
accruing' by Sir Houldsworth Shaw and Mr Banker in
their work on the Law of Income Tax, and they place
the distinction upon the difference between trading
and other sources of income. They say: - 'There is
an important distinction between debts due to a
trading company and unpaid in a particular year or
period and other income which is not a trade
receipt. Trading debts due but not yet paid must
be included in arriving at the balance of profits
or gains. With regard, however, to other income
there must be something 'coming in'; that is, for
income tax purposes, receivability without receipt
is nothing' (Law of Income Tax, p 111)."

At pp 155-6 his Honour went on to consider the means of assessing the income of a trade or manufacture. His Honour said:-

"The reasons which underlie the practice of
estimating for taxation purposes the income from
trade or manufacture by means of a commercial
profit and loss account consist in the
impracticability of computing income in any other
way and in the adoption for fiscal purposes of
recognized commercial principles. The computation
of profits from manufacture and trading has always
proceeded upon the principle that the profit may be
contained in stock-in-trade and 'outstandings.'
Whether this is to be explained on some view that
the purpose is to ascertain what is the detachable
increase in circulating capital, or more simply on
the ground of common sense and the teachings of
experience, the result for the purposes of taxation
is the same. The result is that a tax upon the
profits or income of such a business must be
understood as a tax upon the profits or income
computed according to the system, because,
according to common understanding and commercial
principles, that is the method of determining the
profits. The basis of a trading account is stock
on hand at the beginning and end of the period and
sales and purchases. In such an account book debts
represent what before sale was trading stock and it
is almost inevitable that they should be taken into
consideration upon an accrual and not a cash
basis."

At pp 157-8 his Honour discussed the case of Dr Carden, who was a Medical Practitioner carrying on private practice during the difficult 1930's:-

"Where there is nothing analogous to a stock of
vendible articles to be acquired or produced and
carried by the taxpayer, where outstandings on the
expenditure side do not correspond to, and are not
naturally connected with, the outstandings on the
earnings side, and where there is no fund of
circulating capital from which income or profit
must be detached for actual enjoyment, but where,
on the contrary, the receipts represent in
substance a reward for professional skill and
personal work to which the expenditure on the other
side of the account contributes only in a
subsidiary or minor degree, then I think according
to ordinary conceptions the receipts basis forms a
fair and appropriate foundation for estimating
professional income."

11. The principles to be applied were further explored in Arthur Murray (N.S.W.) Pty. Limited v. Federal Commissioner of Taxation [1965] HCA 58; (1965) 114 CLR 314. Barwick C.J., Kitto and Taylor JJ. said, at pp 318-320:-

"As Dixon J. observed in Carden's Case ((1938) [1938] HCA 69; 63
CLR 108): 'Speaking generally, in the assessment
of income the object is to discover what gains have
during the period of account come home to the
taxpayer in a realized or immediately realizable
form' (1938) 63 CLR at p 155. The word 'gains'
is not here used in the sense of the net profits of
the business, for the topic under discussion is
assessable income, that is to say gross income.
But neither is it synonymous with 'receipts'. It
refers to amounts which have not only been received
but have 'come home' to the taxpayer; and that must
surely involve, if the word 'income' is to convey
the notion it expresses in the practical affairs of
business life, not only that the amounts received
are unaffected by legal restrictions, as by reason
of a trust or charge in favour of the payer - not
only that they have been received beneficially -
but that the situation has been reached in which
they may properly be counted as gains completely
made, so that there is neither legal nor business
unsoundness in regarding them without qualification
as income derived.
The ultimate inquiry in either kind of case, of
course, must be whether that which has taken place,
be it the earning or the receipt, is enough by
itself to satisfy the general understanding among
practical business people of what constitutes a
derivation of income. A conclusion as to what that
understanding is may be assisted by considering
standard accountancy methods, for they have been
evolved in the business community for the very
purpose of reflecting received opinions as to the
sound view to take of particular kinds of items.
This was fully recognized and explained in Carden's
Case, especially in the judgment of Dixon J.; but
it should be remarked that the Court did not there
do what we were invited to do in the course of the
argument in the present case, namely to treat the
issue as involving nothing more than an
ascertainment of established book-keeping methods.
A judicial decision as to whether an amount
received but not yet earned or an amount earned but
not yet received is income must depend basically
upon the judicial understanding of the meaning
which the word conveys to those whose concern it is
to observe the distinctions it implies. What
ultimately matters is the concept; book-keeping
methods are but evidence of the concept.
....
The paragraph of the case stated in which the
established principles are described does not leave
to inference why it is that books are kept in this
manner. It is there specifically stated, as an
agreed fact, that according to established
accounting and commercial principles, in the case
of a business either selling goods or supplying
services, amounts received in advance of the goods
being delivered or the services being supplied are
not regarded as income. We have not been able to
see any reason which should lead the courts to
differ from accountants and commercial men on the
point. Neither, apparently, has the Taxation
Department seen any reason in principle, for we are
told that the Department was accustomed to take the
view we have expressed until an opinion grew up
that to do so was in some way inconsistent with the
judgment of this Court in the case of Federal
Commissioner of Taxation v. James Flood Pty. Ltd.
[1953] HCA 65; (1953) 88 CLR 492. The Court there held that,
while commercial and accountancy practice may
assist in ascertaining the true nature and
incidence of an item as a step towards determining
whether the item answers the test laid down in the
Act for allowable deductions, it cannot be
substituted for the test. In so far as the Act
lays down a test for the inclusion of particular
kinds of receipts in assessable income it is
likewise true that commercial and accountancy
practice cannot be substituted for the test. But
the Act lays down no test for such a case as the
present. The word 'income', being used without
relevant definition, is left to be understood in
the sense which it has in the vocabulary of
business affairs. To apply the concept which the
word in that sense expresses is not to substitute
some other test for the one prescribed in the Act;
it is to give effect to the Act as it stands.
Nothing in the Act is contradicted or ignored when
a receipt of money as a prepayment under a contract
for future services is said not to constitute by
itself a derivation of assessable income. On the
contrary, if the statement accords with ordinary
business concepts in the community - and we are
bound by the case stated to accept that it does -
it applies the provisions of the Act according to
their true meaning."

12. These principles were applied in Henderson v. Federal Commissioner of Taxation (1970) 119 CLR 612 in which, at pp 646-7, Barwick C.J., with whom McTiernan and Menzies JJ. agreed, said:-

"At relevant times the partnership employed a
total of 295 persons of whom about 150 were
qualified accountants. Fees earned for the
year ending 30th June 1965 amounted to
$1,181,166 and in the year ending 30th June
1966 to $1,374,000. Bad debts in the year
ending 30th June 1965 amounted to $98 and in
the year ending 1966 to $641. Its
disbursements, excluding salaries to partners,
for the year ending 30th June 1965 amounted to
$1,045,358 and for the year ending 30th June
1966 to $1,074,567. The accountancy practice
which it conducted in various centres was said
to be the largest in Western Australia and one
of the largest in Australia.
It is apparent, in my opinion, that what such
a business earns in a year will represent its
income derived in that year for the purposes
of the Act. The circumstances which led the
majority of the Court to conclude in Carden's
Case ((1938) [1938] HCA 69; 63 CLR 108) that a cash basis
was appropriate to determine the income of the
professional practice carried on by the
taxpayer personally are not present in this
case."

13. In Federal Commissioner of Taxation v. Firstenberg, (1976) 76 ATC 4141, McInerney J. discussed the principles in some detail and concluded that the income derived by the taxpayer in that case, who was a solicitor with a small practice, should be assessed on a cash receipts basis. At pp 4153-5, his Honour said:-

"It is apparent also that there was, in the
professional practice carried on by the taxpayer,
'no fund of circulating capital from which income,
or profit must be detached for actual employment.'
....
I am of the view that the 'accruals basis' is, in
the case of a practice such as this taxpayer's, an
artificial, unreal and unreasonably burdensome
method of arriving at the income derived. The
provisions of sec. 63 as to bad debts do nothing to
remove this impression. The books of account kept
by the taxpayer were adequate for ascertaining the
income received by him in any year of income. His
return of income received, based on the information
contained in those books, constituted a full and
complete statement of the total income 'derived' by
him during the year as income and ought to have
been accepted by the Commissioner, for the
Commissioner was, by that return, enabled to make
an assessment of the taxable income derived by the
taxpayer. I am, therefore, of the view that the
Board of Review rightly upheld the taxpayer's
objection to the Commissioner's amended assessment
insofar as it related to the method of assessing
the taxable income of the taxpayer derived from the
conduct of his practice as a solicitor."

14. In Gulland v. Federal Commissioner of Taxation (1983) 83 ATC 4352 at p 4362 Kennedy J. said in relation to the income of a medical practitioner:-

"... it appears to me to be clear, and it was not
really challenged, that, in the light of C. of T.
(S.A.) v. Executor, Trustee & Agency Co. of South
Australia Ltd. (Carden's Case) [1938] HCA 69; (1938) 63 CLR
108, and Henderson v. F.C. of T. 70 ATC 4016;
(1970) 119 CLR 612, the method of accounting
calculated to give a substantially correct reflex
of the taxpayer's true income is that based on
cash receipts and payments and not on accruals."

15. As these cases show, the task is to determine what method of accounting or computation is calculated to give a substantially correct reflex of the taxpayer's true income. The method adopted must be the method which is actually appropriate to achieve this end.

16. In order to determine the actual appropriateness of an accounting method, regard must be had to the nature and particular circumstances of the taxpayer's income and enterprise. A cash receipts basis may be the correct method of determining the income come home to a taxpayer such as a medical practitioner who is unwilling to pursue vigorously the recovery of fees from patients or clients who have difficulty in meeting the charges rendered. See Carden's case. On the other hand, if income is derived from an enterprise having substantial fixed and circulating capital, trading stock, employees and the like, then an accruals basis of accounting may be appropriate to reflect the ongoing derivation of income by the complex organisation. See Henderson's case.

17. Necessarily, the actual books of account adopted by the taxpayer in his business may be a guide for, if they are appropriate books of account, they will appropriately reflect the taxpayer's income and expenditure. A taxpayer may have books of account, as did the partnership whose affairs were considered in Henderson's case, which record work done, including work in progress, and in which the value of that work done is carried into a balance sheet at the end of the year. If the taxpayer has an accounting system of this nature, and if the accounting system reflects the nature of the income earning enterprise, as it did in Henderson's case, an accruals method of computation may well be the method of accounting which is appropriate in the actual case. On the other hand, if the taxpayer, such as the solicitor in Firstenberg's case, has only a simple accounting system and no need for a balance sheet to which accruals can be carried as an asset, then the accounting system used by the taxpayer, which reflects cash received, may well be the appropriate means of computing the taxpayer's income.

18. Although ordinary accounting principles and practice are not determinative of the issue, they are relevant and may be influential, as Dixon J. in Carden's case at p 152 and Barwick C.J., Kitto and Taylor JJ. in the Arthur Murray case at p.318 pointed out. There are many examples where the law's view of derivation of income coincides with accountancy principles relevant to that issue. Thus courts have agreed with accountants that the revenue from the sale of trading stock should be brought to account at the time of the disposal of the trading stock, not at the time of payment. See J. Rowe & Son Pty. Limited v. Federal Commissioner of Taxation [1971] HCA 80; (1971) 124 CLR 421 and Commissioners of Inland Revenue v. Gardener Mountain and D'Ambrumenil Ltd (1947) 29 TC 69. Revenue received but not yet earned and treated in books of account as being in suspense was held in Arthur Murray (N.S.W.) Pty. Limited v. Federal Commissioner of Taxation, cited above, not to be derived. On the other hand, there are instances where the law has adopted a view different from that of accounting practice. See Henderson's Case, cited above, at pp 650-1, with respect to work in progress, and Willingale (H.M. Inspector of Taxes) v. International Commercial Bank Limited (1978) 52 TC 242, with respect to bills purchased by a bank at a discount.

19. Mr Bloom relied upon the remark by Bowen C.J., Fisher and Lockhart JJ. in Federal Commissioner of Taxation v. Australian Gaslight Co and Anor (1983) 83 ATC 4800 at p 4805 that "the fees of accountants are derived when they have matured into recoverable debts: Henderson v. F.C. of T. 70 ATC 4016; (1970) 119 CLR 621." However, their Honours were not laying down as a matter of law that the fees of accountants must be assessed on an accruals rather than on a cash basis. Their Honours previously stated that "(the) tests have inevitably been conceived in different circumstances and to determine differant facts and issues." Their Honours reasons were concerned with the manner in which the Australian Gaslight Co earned its income and with the nature and circumstances of the income earning enterprise. Their Honours laid stress at p 4806 upon "the exceptional manner in which the taxpayers operate" and the fact that "... payment (could not) be required of customers until their meters had been read and account rendered. Thus the taxpayers contend that they cannot regard the amounts on which customers are contingently liable on 30 June each year as recoverable debts. Their method of accounting is in accord with this conclusion." Their Honours' approach is consistent with the principles outlined above.

20. Similar principles to the above have been adopted in other jurisdictions.

21. In Sun Insurance Office v. Clark (1912) AC 443 where the issue was whether the profits of a fire insurance company should make allowance for unexpired risks on policies outstanding at the end of the year, Lord Loreburn L.C. said at p 454:-

"There is no rule of law as to the proper way of
making an estimate. There is no way of estimating
which is right or wrong in itself. It is a question
of fact and figures whether the way of making the
estimate in any case is the best way for that case."

At p 455, Viscount Haldane said:-

"It is plain that the question of what is or is not
profit or gain must primarily be one of fact, and
of fact to be ascertained by the tests applied in
ordinary business. Questions of law can only arise
when (as was not the case here) some express
statutory direction applies and excludes ordinary
commercial practice, or where, by reason of its
being impracticable to ascertain the facts
sufficiently, some presumption has to be invoked to
fill the gap."

In D. and G.R. Rankine v. Commissioners of Inland Revenue (1952) 32 TC 520, the Lord President said at p 527:

"Needless to say it makes little or no difference
over a period of years whether professional gains
or profits are computed on an earnings basis or on
a cash basis so long as an established business
continues to be carried on as a going concern and
Income Tax rates remain fairly constant. Absalom
v. Talbot, (1944) AC 204, per Lord Atkin at page
217. It is when the business is discontinued (as
must happen sooner or later in every profession or
vocation involving personal services) that the
matter acquires significance. From the standpoint
of strict accountancy practice I have no doubt that
the earnings basis is always the theoretically
ideal method of computing the profits and gains of
any business, vocation or enterprise - the credits
and debits being brought into the accounts of the
appropriate year and if need be readjusted on the
principles summarised by us in Spencer & Co., 1950
SC 345. But the ideal is not always capable of
realisation. There will sometimes be great
practical difficulty in putting a value upon credit
items at a time when they are only future or
contingent or perhaps conjectural, and a like
difficulty may even arise in connexion with bad or
doubtful debts - all of which may necessitate
suspense accounts and troublesome readjustment and
reopening of accounts when credits or debits mature
or become ascertainable in amount - a difficulty
conspicuously illustrated in the Excess Profits Tax
cases. In the case of some familiar vocations
instanced in argument the difficulty may become
virtually insuperable. In all such cases no
objection has been taken or could be taken to the
commonsense practical expedient of discarding the
earnings basis in favour of the cash basis as the
method of computation affording in the
circumstances the best practicable approximation to
the desired result."

22. In applying these principles, Ungoed-Thomas J. held in Wetton, Page & Co. v. Attwool (1962) 40 TC 619 that the profits of a firm of a partnership of accountants should be taxed on an earnings basis. However the matter was considered by way of case stated from the Special Commissioners. The Commissioners had made the following findings, inter alia, set out at p 626 of the judgment:-

"The earnings basis is the usual basis upon which
the profits or gains of accountants are computed
for Income Tax purposes, and it produces more
accurate results than the cash basis. The former
takes account of fees earned and the value of work
done during each accounting year, including
work-in-progress at the end of the year, the value
of which may have to be estimated. The cash basis,
however, takes account only of cash which may have
to be estimated. The cash basis, however, takes
account only of cash receipts and payments made
during the year, and the profits or gains shown by
accounts drawn up on this basis are necessarily
affected by the dates of both receipts and
payments. The cash basis therefore does not,
except by chance, produce reliable figures for the
profits or gains of any one accounting period. In
certain cases the difficulty of calculating fees
earned and of valuing work-in-progress may render
the adoption of the earnings basis impracticable,
so that profits have to be computed on the cash
basis. It would not be proper accountancy to
alternate from one basis to another."

In their decision the Commissioners had held:-

"(1) that in computing for Income Tax purposes the
profits or gains of an accountant, the earnings
basis was to be preferred by reason of its greater
accuracy"

These findings demonstrate a difference between the principles of Australian taxation law and that of the United Kingdom. As Henderson's case established, under the Act it would not be proper for a professional man to take account of work in progress unless that work had matured into a recoverable fee. On the facts as found by the Special Commissioners in Wetton, Page & Co. v. Attwool, it was correct to take account of the value of work in progress. Such a calculation necessarily involves an accruals basis of computation. But that is not the position under the Act.

23. The position in the United States is made clear by s.446 of the Internal Revenue Code 1986 (US) which provides inter alia:-

"(a) GENERAL RULE - Taxable income shall be
computed under the method of accounting on the
basis of which the taxpayer regularly computes his
income in keeping his books.
(b) EXCEPTIONS - If no method of accounting has
been regularly used by the taxpayer, or if the
method used does not clearly reflect income, the
computation of taxable income shall be made under
such method as, in the opinion of the Secretary or
his delegate, does clearly reflect income."

The Income Tax Regulations (U.S.) expand these provisions consistently with the principles set out in the cases I have mentioned. Regulation 1.446-1(a)(2) provides, inter alia:-

"It is recognized that no uniform method of
accounting can be prescribed for all taxpayers.
Each taxpayer shall adopt such forms and systems as
are, in his judgment, best suited to his needs.
However, no method of accounting is acceptable
unless, in the opinion of the Commissioner, it
clearly reflects income. A method of accounting
which reflects the consistent application of
generally accepted accounting principles in a
particular trade or business in accordance with
accepted conditions or practices in that trade or
business will ordinarily be regarded as clearly
reflecting income, provided all items of gross
income and expense are treated consistently from
year to year."

24. I turn now to the facts of the case.

25. Mr Dunn practised for many years as a chartered accountant at Richmond, N.S.W.. Until the 1970 year of income, his income tax returns were lodged and assessed on a cash receipts basis. Subsequent to the decision of the High Court in Hendersons case and the issue by the Commissioner of his Ruling IT 25, Mr Dunn's returns were lodged and returned on an accruals basis. After the decision in Firstenberg's case, Mr Dunn resumed the practice of submitting his returns on a cash receipts basis, commencing with the return for the year ended 30 June 1977. He continued to lodge his returns on that basis until he entered into partnership on 1 July 1981 after which time the partnership returns were prepared on an accruals basis. No point was taken in the appeal and apparently no point was taken before the Tribunal that the change from an accruals basis to a cash basis on 1 July 1986 to 30 June 1987 was inappropriate because of the lodgment of returns in several preceding years on an accruals basis.

26. Mr Dunn had a number of employees including his wife and his daughter-in-law, both of whom were employed on a part time basis, and his son. Save on particular occasions, Mr Dunn did not employ a qualified accountant and took responsibility for all work which emanated from his office. In the great majority of cases, work was billed when the work was completed; but Mr Dunn had one or two clients whom he billed on a quarterly basis. Mr Dunn kept a diary which showed the major usage of time. As part of his practice, Mr Dunn was agent for the United Permanent Building Society, but no significance was attached to that point before the Tribunal.

27. The evidence given before the Tribunal was brief, no doubt because the representative for the Commissioner did not raise any point of fact when asked whether there was any dispute about the facts. He expressly assented to the view that the issue was whether the case was governed by Henderson's case or by Firstenberg's case. Mr Dunn did not give evidence that in his opinion as a chartered accountant the books of account that he kept were appropriate for his practice and that the method which he adopted to calculate his income was the most appropriate method of calculation and provided a true reflex thereof. However, the Tribunal no doubt inferred that this was Mr Dunn's view as the objections which were before the Tribunal expressed this point. Thus an objection dated 10 July 1978 to the assessment for the year ended 30 June 1977 stated inter alia:-

"It is a fact that in a small practice the moneys
received form the income. There is no internal
need for any other accounting."

28. Before the Tribunal, the Commissioner's representative did not call evidence to show that a cash receipts method of accounting was not the most appropriate means of computing Mr Dunn's income or that such a method of accounting did not provide a true reflex of Mr Dunn's income. On the appeal, Mr Bloom did not point to any particular aspect of Mr Dunn's income earning activities or to any particular evidence to support his contention that an accruals basis of accounting was the only basis which would provide a true reflex of Mr Dunn's income.

29. I now turn to consider whether there was an error of law in the Tribunal's reasoning.

30. I reject Mr Bloom's submission that the Tribunal asked the wrong question and I reject his submission that it has been established as a matter of law by Federal Commissioner of Taxation v. Australian Gaslight Co. & Anor., cited above, that the income of a chartered accountant must be ascertained on an accruals basis. As I have said, the issue before the Tribunal was one of mixed fact and law.

31. The Tribunal referred to the principal relevant authorities and, in my opinion, no error of law is expressed in the reasons for decision.

32. Perhaps some doubt arises from the statement by the Tribunal that "the effect of Firstenberg's case is that sole practitioners are assessed on a 'cash receipts' basis." This was an overstatement. There is no principle of law or binding authority to the fact that a sole practitioner is to be assessed on a cash receipts basis. The matter depends upon the nature and incidents of the income earning enterprise, upon current accounting principles and practice and upon current perceptions in the field in which the taxpayer gains his income. These matters may differ from time to time. There may be relevant differences between different occupations, between different periods and between different taxpayers in the same field of occupation.

33. However I am satisfied from a reading of the Tribunal's reasons for decision as a whole that the Tribunal did give consideration to the particular facts of Mr Dunn's practice and addressed itself to the correct question.

34. The Tribunal said, "The Tribunal must therefore enquire in the circumstances of this case, which basis is calculated to give a substantially correct reflex of the applicant's true income." Mr Bloom submitted that both the Tribunal in that statement and McInerney J. in Firstenberg's case examined the wrong question in that they treated the question as one involving a choice of the appropriate method of accounting rather than a question as to when income is derived by a professional man for the purposes of the Act. In my opinion, there was no error. The computation of income derived by a taxpayer during a particular period necessarily involves the adoption of a basis of computation. In both Firstenberg's case and in the present case the issue was whether the computation should be on the basis of cash received during the relevant period or on the basis of bills rendered during that period. In both cases, that was the issue and the basis of computation to be adopted was the one best calculated to give a true reflex of the taxpayer's income for the period. I am satisfied that this was the approach taken by the Tribunal.

35. It has not been shown or alleged that the Tribunal failed to take into account some material consideration or took into account an immaterial consideration or that the Tribunal's decision was not well-founded on the evidence before it. The principal case put for the Commissioner is that, as a matter of law, the income of a chartered accountant is derived when billed. But there is no such principle of law. The task of the Tribunal was to ascertain the means of computation which best reflected the income derived by the taxpayer in each year of income. This was the task to which the Tribunal addressed itself and, in my opinion, no error in its approach has been shown.

36. Lest I be wrong in my view that the decision of the Tribunal was one of mixed fact and law, and that the facts were for the decision of the Tribunal, not this Court, I should add that I agree with the Tribunal's decision.

37. The appeal will therefore be dismised with costs. I should note that I was advised by Mr Bloom that the Commissioner would pay the costs of the appeal whatever the event.