Commercial Banking Company of Sydney Ltd v Federal Commissioner of Taxation [1917] HCA 15; (1917) 23 CLR 102 (26 April 1917)

The Commercial Banking Company of Sydney Limited Appellant; and The Federal Commissioner of Taxation Respondent.

The Bank of New South Wales Appellant; and The Federal Commissioner of Taxation Respondent.

Knox K.C. (with him H. M. Stephen), for the appellant the Commercial Banking Co. of Sydney.

Knox K.C. (with him Alec Thomson), for the appellant the Bank of New South Wales.

These two special cases were argued as one, for though the figures differ the considerations applicable are identical. The facts are set out in the special cases, so that there is no need to repeat them. The question arises under sec. 16 (1) of the Income Tax Assessment Act 1915, which is as follows, omitting two provisoes which do not affect the present questions: "For the purpose of ascertaining the taxable income of a company there shall be deducted from the total income, in addition to any other deductions allowed by this Act, so much of the income as is distributed to the members, shareholders, or debenture-holders of the company."

The "other deductions" allowed by the Act to taxpayers generally are specified in sec. 18 (1). They are not in question in this case.

The sums distributed to the shareholders as dividends during a period of twelve months constitute together the special deduction from the income of companies. This deduction is prescribed by sec. 16 (1) because the dividends form part of the income of the shareholders. They are taxable in respect thereof (see sec. 14 (b)), and therefore tax is not levied on the dividends as against the company.

When the deduction or subtraction of dividend is applied to the taxable profits of the past year and to those alone, the remaining taxable sum is, of course, smallest. When, rightly or wrongly, the deduction is applied proportionately to non-taxable funds, the taxable sum, being to that extent less burdened, is larger. Consequently the aim of the Commissioner is to spread the deduction proportionately over all non-taxable funds to which it can fairly be applied. Thus in the case of Federal Commissioner of Taxation v. Foster Brewing Co. Ltd.[1] heard at the last sittings in Melbourne, the Commissioner, relying on the fact that in their profit and loss accounts the company debited the dividends against the gross sum made up of (1) the net profits for the preceding period and (2) the balance brought forward undistributed into that period, sought to apply the deduction proportionately to the gross sum in both of its constituent parts, namely, the "carry-over" in addition to the profits, so that the proportion of the deduction charged against the profits would necessarily be smaller and the resultant taxable income, after the "other" deductions allowed by the Act, larger. In the present case he first seeks to apply the deduction proportionately in that way, setting it against the "carry-over" plus the profits of the period. Secondly, he also claims that the deduction from the total income in respect of the dividend should be limited to so much of the dividend as is attributable to the Australian profits less the interest on State Government securities. In other words, he claims that this interest, being exempted income, should be eliminated from the Australian profits to be divided; that it should be ascertained how much of the dividend is attributable to the profits then remaining, and that this part of the dividend should be deducted from the sum so remaining in the process of ascertaining the income taxable. This would make the deduction against the income smaller, and the taxable income greater.

The Banks contend that the intention of the Act is that the whole deduction in respect of dividend should apply to that part of the Australian profits which is subject to taxation. The result of this contention, if accepted, would be that the taxable income of the Bank after the deduction would be at its minimum.

The first question argued is whether the deduction can be applied proportionately to the total sum consisting of what has been called the "carry-over" and the annual profits.

In the case of the Foster Brewing Co.[2], already mentioned, it was held by the Full Court, in dismissing an appeal from the learned Chief Justice of this Court, that the Commissioner was not entitled to make an apportionment of the deduction by attributing part to the net profit and part to the anterior accummulations, but that the deduction could be made only from the total income of the year. But the facts in that case were not identical with the facts now before us. There, the taxpayer showed that the whole of the sum distributed as dividend was paid to the shareholders by cheques on the banking account of the company, which then stood in credit, the credit consisting wholly of moneys paid in as income received in the year and admitted to be for the year. The Commissioner rested his case in effect on the profit and loss accounts, which appeared to show each half-year an undistributed sum carried forward from the previous half-year, together with the profit for the half-year, from which two sums, added together as one aggregate, the half-year's dividend appeared by the account, so he contended, as having been deducted. That process was, however, held not to be conclusive that the dividend was paid out of the aggregate sum, and taking all the facts together it appeared to my learned brethren, and indeed to myself, that the proper conclusion in that case was that the sums distributed were paid out of the income for the taxable period. My own judgment rested on a ground which seems to me to be applicable to the present case, in which, as Mr. Knox admits, there is no specific evidence, outside the profit and loss accounts, of the payment of the dividends out of a separate sum received as profit in the period immediately preceding the dividend. I considered that according to the generally accepted meaning of a dividend as periodically declared by a company upon its operations was, normally, the profit distributed to the members and shareholders of the concern, and paid out of its total income, and that this dividend, when less than the profit seen to have been made for the period under review, was, according to common understanding, referable to that profit. So also, when the sum was equal to the profit. But, if it appeared that the sum distributed was larger than the profit, it was the general understanding, and I think it was the only possible one, that resort had been had to other existing funds of the company to make up the excess. (One would think that only in such a case could the dividend be taken primâ facie as even in part paid otherwise than out of profits.) I thought that, unless the facts showed the contrary, the profit and loss accounts of companies were made up in accordance with this understanding, and as there was nothing in the Act inconsistent with it, the Statute should be read in accordance with it. On such a subject as this, as well as on the subject in controversy in the case of Bank of Toronto v. Lambe[3], it is eminently true, as the judgment of the Privy Council put it at p. 582, that the common understanding of men is "one main clue to the meaning of the Legislature." The sum declared as dividend being, as it is here, less than the profit made in the taxable period, I thought it was within the terms of the section deductible from the income received in that period.

As the exact source of the dividend in the present cases is not proved by evidence similar to that which existed in the Foster Brewing Co. Case[4], the question is whether, upon the facts now before us, the true presumption is that the company had itself treated the dividends as apportioned between the previous undistributed balance and the income of the period. I do not think that the mere fact of the addition together on the face of the profit and loss account of the undistributed sum carried over and the profit of the period just ended, making in this instance the total of the credit side of the profit and loss account, is material evidence that the sum debited in that account for payment of dividend has been paid out of the aggregate sum credited, and not solely out of the profits shown, which largely exceed the amount of the dividend. It does not warrant the inference that the company has itself apportioned the dividends in the manner asserted; for the purpose of a profit and loss account is obviously not the making of any such apportionment. The profit and loss account in each case clearly distinguishes the "carry-over" from the profits of the period, and therefore from income of the year, to which alone sec. 16 (1) applies. The account cannot by any means be said to be evidence of a departure from the general understanding to which I have referred. The general practice of companies in these matters is notorious. It is a fact known to every shareholder in any business corporation. It would be too much to conclude that because that well-established practice has been adhered to since the Act, just as it prevailed previously, dividends, both before and since the Act, have not been paid wholly out of the profits where the profits have been larger in amount than the dividends, unless indeed there has been evidence to the contrary. It may be that in some future case there will be what there is not in this case: proof that resort was had to funds external to the profits of the period notwithstanding that the profits exceeded the sum necessary; a thing most unlikely to happen unless some strong and unusual occasion for it appeared. My opinion is adverse to the Commissioner on the first point.

The second question is, I think, solvable by the terms of the Act. The Australian profits in the case of each Bank consisted in part of interest derived from money invested by the Bank in Government securities of various States of Australia. This interest was part of the profits by which dividend was furnished, but the Bank's income earned in the period from sources within Australia was more than sufficient to provide for the dividends distributed apart from the interest on State securities. As it is agreed for the purposes of this case that this interest is not the subject of taxation, the question arises whether the deduction for dividends from the year's Australian profits is to include so much of the dividends as was paid out of the interest on State Government securities.

Sec. 16 (1), which, of course, does not apply to exempted incomes (sec. 11), is explicit in requiring the dividend to be deducted from the total income, in addition to any other deductions allowed by the Act. Those deductions, as I have pointed out, are specified in sec. 18 (1). There is no provision in the Act for the deduction from the company's total income of any sum in respect of interest on investments in State Government securities. The fact of exemption does not involve deduction. We are not informed of the reason for which this interest is agreed not to be subject to taxation, but I think we must take the effect of the agreement to be to place this interest on the same footing of exemption as that which is the subject of sec. 11 (e). It is therefore not part of the total income, which is the subject of the distribution in terms of the section, for it stands as exempted income. When one looks at the remainder of the Act one fails to find anything which takes this matter outside the letter of the provisions of sec. 16 (1).

I understand we are complying with the desire of all parties in expressing our opinions upon the first question, though it is not really a question of law, and further that such a course does not meet with any objection on the part of the learned Justice who will decide the appeal.

I therefore answer the questions as follows:—(1) As to the undistributed sum carried over—No. As to the interest on Government securities of States—Yes, having regard to the admission contained in the special case. (2) It is unnecessary to answer this question specifically in view of the answer to question 1.

This comes before us as a case stated under the Income Tax Assessment Act; but by general consent it is considered convenient that we should express our views on the facts as well as the law. Both the matters we have to consider arise under sub-sec. 1 of sec. 16 as it stood before 21st December 1916.

The first question in each case is as to whether any part and, if so, how much of the dividends paid to shareholders is to be regarded as paid out of amounts carried forward to the credit of the profit and loss account.

In the recent case of Foster Brewing Co. Ltd. v. Federal Commissioner of Taxation[5] the same question was raised in relation to the then appellant company. This Court unanimously held on a case stated by the learned Chief Justice that the fact of debiting in the balance-sheet and books of the company dividends to the gross sums made up of current profits and balances of profits brought forward was not conclusive that the dividends were not paid solely out of current income. The Court added as a guiding principle[6]: "Whether the dividends have been so paid is a question of fact which will be determined by the Justice who will hear the appeal." Then the learned Chief Justice proceeded to hear the appeal[7]. He dealt with it in accordance with the Full Court decision as I understand it and as he apparently understood it, purely as a question of fact to be determined according to the evidence appearing in the particular case. The evidence showed in his Honor's view that the dividends were in fact paid out of the moneys proved to have been received as current income. That was plainly the controlling feature of the case in the opinion of the learned Judge, and as he saw no evidence to alter that fact he held accordingly. There was an appeal from that decision to the Full Court, and it was dismissed (Federal Commissioner of Taxation v. Foster Brewing Co. Ltd.[8]). The primary factor there, in my opinion, was that which was taken by the Chief Justice. And the reason underlying my opinion was stated in my judgment. I adhere to it, and think it was not only in consonance with the Full Court decision but it was legally the only possible method of approach in that case.

For the present purpose we have to assume the "total income" for the given period—which means the total amount of income of a taxable character—has been ascertained. Then certain permitted deductions if claimed are to be considered in order to ascertain the company's "taxable income," that is, the amount upon which in fact for the given year the company is to pay tax. Apart from deductions, otherwise allowed, sec. 16 (1) itself allows a distinct deduction, namely, whatever part of the "total income" already ascertained has been in fact distributed among shareholders or debenture-holders. That being a deduction, and in respect of a transaction entirely within the control and knowledge of the company, is to be sustained by the company, and its allowance or disallowance depends entirely on what the particular company in the particular instance has done. It is a pure question of fact. In my view, the fact is to be ascertained just in the same way as any other fact is to be established where it is not notorious, or where the law does not alter the onus of proof or create any special presumption. Any evidence which, by direct assertion or legitimate inference, convinces the tribunal of the ultimate fact in controversy is sufficient, and, in my opinion, nothing short of that is.

Now, in the present case, we have not the starting point that presented itself in the Foster Brewing Co. Case[9], of the actual fund out of which the dividends were in the first instance paid. The only evidence consists of reports and balance-sheets, and whatever is incorporated in them. They do not directly show the portion of the profits out of which the dividends came. Taking the Bank of New South Wales Case, the first document relates to the first half-year of taxation. It does not say in so many words that the interim dividend of £87,500 was in fact paid out of current profits. It says the dividend was paid "out of this," that is, out of the total profits of £315,729 0s. 9d., which are shown to consist of both current and past profits. So far, that is consistent with the dividend being paid out of the conglomerate fund. Of course £28,000 of the dividend must have come out of current profits, but on the other hand the whole of the rest might have been paid out of the £69,000 odd carried over from the previous year. If the evidence stopped there, I should think the appellant as to the £69,000 failed altogether, because it had not proved the fact required by the Statute. The Commissioner in that state of affairs applies a proportionate calculation, and detailed criticism has been applied to it. I do not stop to consider that criticism, because I can find no justification for any such process. No doubt it is one which is very favourable to the taxpayer where he fails to prove his absolute right to the deduction. It may be a very just method where there is no evidence to satisfy a tribunal one way or the other. But, nevertheless, it is equivalent to legislation, and it is not what the law permits in relation to the public revenue. The law asks the one question: "Does the company show that the distribution came out of its total income or not?" If it does show that, it can deduct the sum; otherwise not. The proportion is only a compromise in the absence of evidence, and as I have said the law so far makes no provision for it, whatever the Legislature may think fit to do in the future.

The evidence here adds to the bare statement referred to, that the August dividend was paid in terms of clause cv. of the Deed of Settlement. After carefully considering that clause I am not prepared to say it advances the matter one way or the other. To regard it as helping the Bank in the present instance, by limiting its power to pay interim dividends out of current profits only, might seriously affect its action on some future occasion. I treat that clause as neutral. The Articles of the Commercial Banking Company I treat in the same way. I look further at the document of November 1914. There it is stated that the balance for distribution after payment of the interim dividend, viz., £228,229 0s. 9d., the directors recommend shall be distributed as follows:— (1) September dividend £87,500 0 0 (2) Augmentation of reserve fund £50,000 0 0 (3) Balance carried forward £90,729 0 9 £228,229 0 9

I am entitled as a Judge to have regard to probabilities that arise from public or social facts, or in some cases from matters proved in Courts to have occurred so often as to constitute a general practice, but not to act on my own knowledge, if I had any, of particular facts or the practice of some or even many companies as to the particular part of their profits they usually apply to payment of dividends. Since every company is free to choose, it ought to be able to point to some evidence as to its choice.

I must, however, take into account as part of common knowledge the ordinary instincts of mankind in dealing with their business affairs.

In so doing, I give weight to the consideration that business men, when they can do a thing simply and directly, are likely to do it so, rather than indirectly and so as to embarrass themselves with complications, unless there be some motive shown to impel them to the contrary. No such motive is here shown. Therefore, though the evidence is by no means strong, yet, in the absence of opposing motive and of any evidence to the contrary, I consider, if I am to act as a tribunal of fact, that it is more logical and more likely that the Bank determined to pay the interim dividend out of current profit, and left the balance of current profit so diminished to stand for future consideration along with the past profits untouched, rather than that it first deliberately mixed up the former profits with the new and then out of the combined mass paid an interim dividend. To use a homely illustration, the course adopted seems to have been to leave the £69,405 1s. 10d. in the money-box. The Bank could have taken it out, but apparently did not. Then as to the next dividend, the same considerations satisfy my mind that the higher probability is that the balance of current profit was first dealt with by declaring a dividend, then a sum to the reserve, and finally the resultant balance of £21,323 18s. 11d. was added to the untouched sum of £69,405 1s. 10d. old profit, making a total £90,729 0s. 9d. of non-distributed and non-applied profit. The rest follows in the same way.

The facts in the Commercial Banking Co. Case are for all practical purposes identical, and lead to the same conclusion.

Then comes the second point, namely, as to whether the dividend so far as it includes income from non-taxable Government stock, should be included in the deduction. I think it very clear that the language of sec. 16 (1) is much more precise than is found in some other sections. It requires the deduction to be "so much of the income as is distributed" &c. What is the income? Clearly that expression is referable to the words "the total income"; and that, as I have said, means the total income of a taxable character. I avoid the expression "taxable income," because that has been given an arbitrary statutory signification which in this connection would be incorrect, and has apparently led to the more recent adoption of the phrase "assessable income." But as sec. 16 (1) stood before the recent amendment, no deduction could under that subsection be made in respect of any dividend of any other income. The income from State stock has been conveniently treated as not taxable, in other words, as outside the area of taxation, which means "exempt." It follows, in my opinion, that whatever was so paid cannot be deducted from the income otherwise taxable.

The cases should be remitted to the learned Justice with the opinion that (1) the dividends paid were paid out of current income of the year, and (2) the taxpayers are not entitled to deduct dividends paid out of income from State stock.

We agree that the proper inference of fact in each case is that the dividend was paid out of the profits for the half-year.

We also agree that so much of the income of the appellant Banks as consists of interest derived from money invested in Government securities of the States of the Commonwealth is no part of the total income mentioned in sec. 16 (1) of the Income Tax Assessment Act 1915, and should not be deducted under that section as part of the income distributed to the members or shareholders.

Solicitor for the respondent, Gordon H. Castle, Crown Solicitor for the Commonwealth.

[1] [1917] HCA 7; 22 C.L.R., 545.

[2] [1917] HCA 7; 22 C.L.R., 545.

[3] 12 App. Cas., 575.

[4] [1916] HCA 87; 22 C.L.R., 288; 545.

[5] [1916] HCA 87; 22 C.L.R., 288.

[6] 22 C.L.R., at p. 293.

[7] 22 C.L.R., at p. 293.

[8] [1917] HCA 7; 22 C.L.R., 545.

[9] [1916] HCA 87; 22 C.L.R., 288; 545.

High Court of Australia

Commercial Banking Company of Sydney Ltd v Federal Commissioner of Taxation [1917] HCA 15; (1917) 23 CLR 102 (26 April 1917)

HIGH COURT OF AUSTRALIA