Burke v Commissioner of Taxation [2004] FCA 126 (1 March 2004)

INCOME TAX ASSESSMENT – whether income tax should be paid upon a capital gain made from the sale of AMP Ltd shares – whether shares received in AMP Ltd upon demutualisation of the AMP Society are an ‘interest in rights under a life insurance policy’ and so within the ambit of s 118-300 Income Tax Assessment Act 1997 (Cth).

Income Tax Assessment Act 1936 (Cth) s 121AS
Income Tax Assessment Act 1997 (Cth) ss 102-5, 104-5, 104-10, 108-5, 118-300, 995-1
Life Insurance Act 1995 (Cth) ss 9, 204, 205

PHILIP DAMIAN BURKE v COMMISSIONER OF TAXATION

S 805 of 203

MANSFIELD J
1 MARCH 2004
ADELAIDE

IN THE FEDERAL COURT OF AUSTRALIA
SOUTH AUSTRALIA DISTRICT REGISTRY	S 805 OF 2003

BETWEEN:	PHILIP DAMIAN BURKE APPLICANT
AND:	COMMISSIONER OF TAXATION RESPONDENT
JUDGE:	MANSFIELD J
DATE OF ORDER:	1 MARCH 2004
WHERE MADE:	ADELAIDE

THE COURT ORDERS THAT:

1. The application is dismissed.

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

IN THE FEDERAL COURT OF AUSTRALIA
SOUTH AUSTRALIA DISTRICT REGISTRY	S 805 OF 2003

BETWEEN:	PHILIP DAMIAN BURKE APPLICANT
AND:	COMMISSIONER OF TAXATION RESPONDENT

JUDGE:	MANSFIELD J
DATE:	1 MARCH 2004
PLACE:	ADELAIDE

1 The applicant has been granted an extension of time in which to appeal from a decision of the Administrative Appeals Tribunal (the Tribunal) given on 24 September 2003. The Tribunal affirmed a decision of the Commissioner of Taxation to include in the assessable income of the applicant for the financial year ended 30 June 1999 a capital gain of $8733.

2 The capital gain arose in the following way. In 1961, the applicant took out a policy of life assurance with the Australian Mutual Provident Society (AMP). By reason of having taken out that policy, he also became a member of AMP. He thereby became entitled to membership rights in AMP, but only so long as the policy remained in force. The principal rights of members under the bylaws of AMP and under general company law were as follows:

In addition, under general company law, members were entitled to propose business to be considered at the next annual general meeting of AMP, and to require AMP to circulate a statement concerning business to be dealt with at a general meeting.

3 AMP was demutualised on 20 November 1997 by resolution of its members. Upon demutualisation, the applicant was issued with 857 shares in AMP Ltd (AMPL). His membership rights in AMP were exchanged for the shares in AMPL.

4 As can be seen from the recital of the membership benefits of AMP membership, the shareholders’ rights in AMPL were generally similar in nature. They also of course include the right to receive dividends when declared by the board of AMPL, and the opportunity to participate in any growth in value of shares if AMPL shares increased in price. In addition, shareholder approval for certain transactions by AMPL would be required. The shareholder rights in AMPL are conferred by its Memorandum and Articles of Association, and again under general company law.

5 The Explanatory Memorandum to members of AMP at the time of the demutualisation proposal indicated that there would be tax consequences for members of AMP if the proposal to demutualise were passed. The Income Tax Assessment Act 1936 (Cth) (the 1936 Act) Div 9AA, contains provisions specifically concerning demutualisation of insurance companies. Section 121AS relevantly provides that, upon giving up membership rights in AMP and upon receiving shares in AMPL, no capital gains tax liability would arise. The shares issued in AMPL were to be taken as having been acquired by the applicant on 20 November 1997, and the ‘cost base’ of each share for capital gains tax purposes was determined as being the lower of the ‘embedded’ value per share of AMPL or the final price at which AMPL shares were traded on the listing day.

6 There is no issue about the ‘cost base’ of each AMPL share at the date of demutualisation on 20 November 1997 being $10.43.

7 There was no change to the contractual entitlements to which the applicant was entitled under the life insurance policy by reason of the demutualisation.

8 Upon demutualisation on 20 November 1997, the applicant was issued with 857 shares in AMPL. The cost base of each share was $10.43 per share or $8938 in total. He sold the shares on 1 September 1998. He realised $17,671. Consequently, his assessable income for that year was found by the respondent to include a capital gain of $8733 (net realised value less cost base). A notice of assessment was issued to the applicant to that effect, 19 January 2000.

9 The Income Tax Assessment Act 1997 (Cth) (the 1997 Act) includes provisions relating to capital gains and losses. Section 108-5 makes it clear that the applicant’s shares in AMPL were CGT assets. Moreover, his sale of those shares on 1 September 1998 was a CGT event occurring on that day: S 104-10(3), and s 104-10(1) event A1. Section 104-10(4) provides that the applicant would make a capital gain if the capital proceeds from the disposal were more than the cost base of the shares which he sold. As I have indicated, nothing turns particularly upon the expression ‘capital proceeds’ or upon the expression ‘cost base’, so it is not necessary to refer to those definitions or concepts further. I note that s 104-10(5) provides that a capital gain or capital loss is disregarded if the asset were acquired before 20 September 1985.

10 Consequently, as the applicant by the sale of the shares in AMPL had made a net capital gain during the relevant financial year, his assessable income included that net capital gain. There is no dispute that the calculation of the net capital gain is correct, subject to the contentions of the applicant.

11 Section 118-300 of the 1997 Act deals specifically with insurance policies. Subsection (1) provides:

Before turning to the table, again I note that there is no need specifically to refer to capital gain, CGT event, or CGT asset. There is no issue about the meaning of those terms or their applicability. Nor is there any dispute that the applicant had a general insurance policy with AMP from 1961. So far as can be relevant, the table to s 118-300 then identifies particular policies to which the CGT event may happen, and the status of the person concerned. Item 3 refers to a policy of insurance on the life of an individual, where the individual is the original beneficial owner of the life insurance policy. Accordingly, subject to the applicability of s 118-300 in the way the applicant claims, his life insurance policy is one specified in the table.

12 Item 3 of the table to s 121AS of the 1936 Act provides that, in the event of demutualisation, nominated modifications to the CGT rules generally apply in the calculation of capital gains and losses. Item 3 provides that the disposer of the shares is deemed to have acquired the right disposed of on the demutualisation resolution day, which was 20 November 1997.

13 The Tribunal, after recording the uncontested facts, identified the applicant’s then submissions. It addressed each in turn. As he has not asserted an error of law on the part of the Tribunal in respect of each of those three submissions, it is not necessary to deal with each of them. By reference to s 121AS, the Tribunal concluded that the 857 AMPL shares were acquired on 20 November 1997 in accordance with s 121AS item 3 so that they were not a pre-capital gains tax asset.

14 The principal contention was that the shares disposed of should be perceived to be his interest in rights under his life insurance policy, falling under the aegis of s 118-300 of the 1997 Act, so that the resultant capital gain should be disregarded. However, the Tribunal found no ambiguity or uncertainty in the wording of s 118-300. It noted that the demutualisation resolution of 20 November 1997 involved the surrender of membership rights, exchanged for shares in the demutualised entity. It pointed out that the rights as a member and the rights as a policy holder are separate and distinct, and that the rights to AMPL shares came from the surrender of membership rights rather than any alteration in the interest and rights under the policy of life insurance. It said that his right to receive AMPL shares was not conditional upon the terms of the policy of insurance. Consequently, the Tribunal concluded that the AMP shares were acquired by him on 20 November 1997, that they were a CGT asset, that their sale was a CGT event occurring on 1 September 1998, that the capital gain resulting from the sale was an amount of $8733, and that the capital gain was assessable income derived during the 1999 year of income.

15 The notice of appeal identifies two alleged errors of law on the part of the Tribunal in failing to find that the sum of $8733 was:

16 At the hearing, the applicant did not pursue the second of those grounds as a separate ground of error of law. He accepted that those provisions of the Life Insurance Act, whilst consistent with a long-standing policy of protecting the proceeds of life insurance policies from creditors of the policy holder, should lead to, and be reflected in, a liberal interpretation of s 118-300(1) of the 1997 Act. He accepted that they did not otherwise demonstrate an error of law on the part of the Tribunal.

17 Having regard to the terms of those provisions, that was an entirely appropriate acknowledgment to make. Section 204 provides relevantly that the rights and interests of a person under a policy of life insurance are not liable to be applied or made available by any judgment, order or process of the Court in discharge of a debt made by the person. Section 205 provides that money payable to an estate under a life insurance policy effected on the death of a deceased person is not, except in special circumstances as specified, liable to be applied to the discharge of any judgment, order or Court process in payment of that person’s debts. As the applicant’s rights and interests under the policy of life insurance were unchanged both by virtue of the demutualisation and by virtue then of the sale of his AMPL shares which were received following the demutualisation, I think it is plain that his rights and interests under the life insurance policy are not being applied in discharge of a debt owed by him. The respondent has assessed a taxation liability upon the sale of a CGT asset. In any event, the assessment itself does not involve the application of rights and interests under the life policy by a judgment, order or process of the Court in discharge of a debt owed by him. The debt itself is a separate entity which is being enforced. Section 204 does not extend to exclude the gain realised from the sale of shares. Section 205 is clearly inapplicable.

19 As I understood the applicant’s contentions about s 118-300(1), they were twofold:

20 The membership rights in AMP were conferred primarily under AMP’s Bylaws. In the Explanatory Memorandum in relation to the demutualisation proposal, they are said to ‘derive from’ the policy. The consequence is that the rights are lost when the policy comes to an end, whether by sale, surrender, maturity or upon the defined policy event. The nature of the membership rights is set out above. The members may by resolution amend the Bylaws of AMP to remove or restrict the board’s discretion in relation to annual or other periodic distributions of surplus, or to require that cash distributions be provided to all members. Reference was also made to the Explanatory Memorandum where it appeared variously that the AMP board was satisfied that policy benefits would remain adequately secure and that the reasonable benefit expectations of policy holders, including future bonus expectations, would not be adversely affected by the proposed demutualisation. The applicant asserts that a consequence of the demutualisation was that the profits previously made by AMP which, subject to its Bylaws and its decisions, were applied to the benefit of policy holders (and not to members as such) became split between the policy holders on the one hand and shareholders of AMPL on the other. That is said to have affected the level of bonuses or other benefits under policies to their holders, and consequently surrender values and the like.

21 In my judgment, those contentions must fail. The wording of the relevant provisions of the 1997 Act are clear. For the reasons the Tribunal expressed, the shares held by the applicant in AMPL are a CGT asset, being a kind of property (s 108-5(1)). Their sale was the disposal of a CGT asset, and therefore a CGT event: s 104-5 Item A1, upon the date of the sale. The CGT event, being the disposal of the CGT asset, has therefore happened by its disposition or sale: s 104-10. Because the CGT asset was acquired after 20 September 1985, the capital gain thereby made does not fall within the exception provided by s 104-10(5). The applicant therefore made a net capital gain in the financial year ended 30 June 1999, and his assessable income included that net capital gain: s 102-5.

22 Nor is the capital gain to be disregarded by reason of s 118-300(1). It is only disregarded if the capital gain resulted from a CGT event (the sale) happening in relation to a ‘CGT asset that is your interest in rights under ... a life insurance policy ... in the situations set out in the table’. Relevantly, as noted, the CGT event must happen to the policy of life insurance in respect of the owner. I do not think that the capital gain from the sale happened in relation to a CGT asset that is the interest and rights under the life insurance policy. The interest and rights under the life insurance policy were the same before the sale as after the sale. There has been no CGT event happening in relation to the interest in rights under the life insurance policy. The CGT asset, which is the life insurance policy, is distinct from the CGT asset which was the shares in AMPL. I do not see any foundation for the applicant’s assertion that, somehow, the shares were in fact part of his rights under the life insurance policy, so that their disposal was somehow a CGT event in relation to his rights under the life insurance policy. Those rights as a shareholder are distinct from the policy. They arose upon demutualisation. The expression ‘life insurance policy’ is defined in the 1997 Act (s 995-1) as having the meaning of the expression ‘life policy’ in the Life Insurance Act (with certain further inclusions which are not relevant to the present matter). The Life Insurance Act defines ‘life policy’ by reference to the meaning given to that term in s 9. Section 9(1)(a) relevantly defines a life policy as being:

Following demutualisation, I do not consider it is correct to describe the rights attaching to shares in AMPL as part of the life policy which the applicant previously had, and which he continued to have, following demutualisation. It may be accepted that he has a life policy within that meaning. But the benefits from the shares do not fall within that definition. They are not themselves a contract of insurance. They are legally distinct from it.

23 Accordingly, in my judgment, the Tribunal has not erred in law in its approach to the application. It must be dismissed.

I certify that the preceding twenty-three (23) numbered paragraphs are a true copy of the Reasons for Judgment herein of the Honourable Justice Mansfield.

Counsel for the Applicant:	The Applicant appeared in person

Counsel for the Respondent:	R Sallis

Solicitor for the Respondent:	Australian Government Solicitor

Date of Hearing:	23 January 2004

Date of Judgment:	1 March 2004

(1)	exempt from capital gains tax pursuant to s 118-300 of the 1997 Act, or
(2)	not assessable as it was protected from creditors under ss 204 and 205 of the Life Insurance Act 1995 (Cth) (Life Insurance Act).

(1)	the ownership of AMPL shares includes an equitable right that they be treated as part of the original rights attaching to the life insurance policy, a right to be implied because of the contractual terms under the policy; and
(2)	the AMPL shares are so closely connected to the original life insurance policy that they should be treated as part of the returns on the policy.

Federal Court of Australia

Burke v Commissioner of Taxation [2004] FCA 126 (1 March 2004)