Messer v Deputy Federal Commissioner of Taxation [1934] HCA 39; (1934) 51 CLR 472 (13 September 1934)

When the proprietor of a business desires to register a company for the purpose of taking it over so that he will exchange his character of owner for that of shareholder in the company, which becomes the proprietor of the business and carries it on, the transaction is conducted according to well recognized forms. Shares are allotted as fully paid up to the owner of the business who promotes the company. The amount of the shares thus issued corresponds with the value placed upon the assets after the deduction of the liabilities which are assumed by the company. The value so placed upon the assets, which are transferred to the company, supplies the means of paying up the shares. In jurisdictions where the provisions enacted by sec. 25 of the Companies Act 1867 of Great Britain are not in force, the assets may be transferred in satisfaction of the amount of the share capital issued, so that the shares are in this manner fully paid up. In Ooregum Gold Mining Co. of India Ltd. v. Roper[1] Lord Watson said:—"A company is free to contract with an applicant for its shares; and when he pays in cash the nominal amount of the shares allotted to him, the company may at once return the money in satisfaction of its legal indebtedness for goods supplied or services rendered by him. That circuitous process is not essential. It has been decided that, under the Act of 1862, shares may be lawfully issued as fully paid up, for considerations which the company has agreed to accept as representing in money's worth the nominal value of the shares. I do not think any other decision could have been given in the case of a genuine transaction of that nature where the consideration was the substantial equivalent of full payment of the shares in cash." But, under the provisions enacted in Great Britain by sec. 25 of the statute of 1867, the liability upon the shares cannot be satisfied otherwise than by a payment in cash, unless an agreement between the allottee and the company is drawn up in writing and filed at or before the issue of the shares. Those who form companies to undertake their businesses naturally desire to avoid filing such a full statement of the transaction. Accordingly, wherever possible steps are taken to allow of a payment in cash to the company in respect of the shares issued. It was soon found that no difficulty existed in carrying through the transaction in a form which would leave the shares paid for in cash. If the company incurred a liability to pay a money sum equal to the face value of the shares in consideration of the transfer of assets, this liability might be used as the source of a payment in discharge of the liability imposed upon the allottee by the issue of the shares to him. In Spargo's Case[2], in a familiar passage, James L.J. said:—"In Fothergill's Case3(1873) 8 Ch. App. 270. the bargain in effect was to give paid-up shares in satisfaction of the money which was to be paid for other shares. But if a transaction resulted in this, that there was on the one side a bona fide debt payable in money at once for the purchase of property, and on the other side a bona fide liability to pay money at once on shares, so that if bank notes had been handed from one side of the table to the other in payment of calls, they might legitimately have been handed back in payment for the property, it did appear to me in Fothergill's Case1(1873) 8 Ch. App. 270., and does appear to me now, that this Act of Parliament did not make it necessary that the formality should be gone through of the money being handed over and taken back again; but that if the two demands are set off against each other the shares have been paid for in cash. If it came to this, that there was a debt in money payable immediately by the company to the shareholders, and an equal debt payable immediately by the shareholders to the company, and that each was accepted in full payment of the other, the company could have pleaded payment in an action brought against them, and the shareholder could have pleaded payment in cash in a corresponding action brought by the company against him for calls."

Under the operation of sec. 25 of the Act of 1867, it became the practice so to frame the transaction that the company bought the assets comprised in the business for a price expressed as a money sum. Shares to the amount of this sum were issued contemporaneously to the transferor: the cross-demands were then extinguished. Whether, because a set-off, such as that described in Spargo's Case[5], was thought to require some formal evidence or record, or because of a fear that, unless the capital in the shares was immediately called up so as to be then payable, the set-off would be ineffectual, it became usual to extinguish the cross-demands by an exchange of cheques which operated as counter-payments. In three States of the Commonwealth the provisions of sec. 25 remain in force. (See sec. 55 of the Companies Act 1899 N.S.W., sec. 25 of the Companies Act 1892 S.A., and sec. 26 of the Companies Act 1893 W.A., which contains an immaterial variation from the English model.) It is not uncommon in Australia for those engaged in pastoral pursuits to incorporate companies to take over in this manner their stations, often consisting of Crown leases. In this condition of State law and practice under it, the Commonwealth Parliament enacted sec. 16 (d) of the Income Tax Assessment Act 1922-1930, which deals, inter alia, with the taxation of the consideration obtained on the assignment of leases. The material part of this paragraph provides that the assessable income of any person shall include "(d) money derived ... by way of consideration for the assignment or transfer of a lease ... and shall also include, where that amount or any part of that amount is paid by a company in the form of shares in that company to a person who has a controlling interest in that company and where those shares are sold or transferred by that person during the unexpired period of the lease ... or within a period of two years after that date, whichever period is the lesser—the amount for which the shares were so sold or transferred." A proviso is made upon the paragraph that it should not apply to an amount paid by a company in the form of shares in that company, except to the extent provided in the paragraph. Another proviso made it clear that the assignment of Crown leases is included.

It is apparent that in the transaction we have described, no payment of money takes place if the shares are allotted in respect of the transfer of assets, and no cross-payment or set-off is effected in respect of an agreed purchase price equal to the amount of the shares and the liability on the shares. Accordingly, in those States where the provisions of sec. 25 of the British Act of 1867 are not in force, the form which the transfer usually takes would not expose the transferor to liability to tax under sec. 16 (d), unless before the end of the lease, or within two years, whichever is the earlier, he transfers the shares. In States where the provisions are in force there is a point in the transaction at which undeniably the shares are in point of law considered to be paid for in cash. The entire transaction, however, produces exactly the same result, viz., allotment of shares in the company in exchange for the assets transferred. Does the fact that one step in the transaction involves a payment of money by the company take it out of the proviso and the second limb of par. (d) of sec. 16 and expose a transferor to an unconditional liability under the first limb?

Three partners in a pastoral enterprise formed a company with which, on the day of its incorporation, they made an agreement to transfer the assets of the business for a purchase price of £35,000. A term of the agreement was that the company should satisfy the price by taking over the liabilities of the business amounting to £6,000 and paying immediately in cash the balance of the purchase price, viz., £29,000. On the same day, the partners applied for fully paid up shares of the total amount of £29,000, and, on the same day, the shares were allotted to them in proportion to their interests. On the same day a cheque for £29,000 was paid by the partners to the company, and another cheque of £29,000 was paid by the company to the partners. One of the partners, the appellant, who has not a controlling interest in the company, and who has not sold or transferred his shares, now complains of an assessment upon him which includes in his assessable income an amount representing his proportion of that part of the total consideration of £35,000 which is referable to the leases. The question is whether this proportion constituted money derived by him by way of consideration for the assignment or transfer of the lease, or constituted an amount paid by the company in the form of shares in the company within the meaning of those respective descriptions in par. (d) of sec. 16.

The question depends rather upon the true interpretation of the enactment than upon the character of the transaction. For it appears to us to be indisputable upon the one hand, that in point of law a payment was made in the course of the transaction by the company in respect of the lease, and, on the other hand, that as a result of the entire transaction when carried to its completion, the taxpayer obtained not money but shares in exchange for his interest in the lease. The general policy disclosed by the provision upon the question material to the case appears to us to be to distinguish between, on the one hand, assignments of leases which result in the receipt by the taxpayer of money, whether by direct payment or indirectly by the subsequent disposal within a limited period of shares forming the consideration for the assignment, and, on the other hand, assignments which result in the taxpayer receiving no more than a new form of right, viz., shares enabling him to continue in the economic enjoyment of the property assigned. In carrying out that policy, the legislature has adopted expressions, not of a technical, but of a business character. The description "amount paid by the company in the form of shares" is the language of commerce rather than of company law. It is not incapable of describing the result produced by transactions carried out in the ordinary way determined by the operation of the provisions of sec. 25 of the British Companies Act of 1867. It is not the only place in the statutes in which the word "paid" is used in an elastic sense. (Cf. per Rich J. in J. C. Williamson's Tivoli Vaudeville Pty. Ltd. v. Federal Commissioner of Taxation[6].) The governing words, however, of par. (d) are those with which it opens: "Money derived." In the context of the provision, as it now stands, this expression appears to us to describe a receipt of money into the actual control or disposition of the taxpayer so that he may enjoy it, or deal with it as he chooses, in its character of money. It serves to mark the opposition to the other case dealt with by the paragraph, in which the taxpayer obtains shares, a case described as a payment to him of an amount in the form of shares. In the one case the lease is transmuted into money, in the other, into shares. The state of the law in the various States and the common course of practice must be taken into account in construing and applying the section. Upon its face, it is directed to transactions the nature of which is determined by that law and practice. Where, to meet the requirements of the provisions of the Act of 1867, cross-cheques are given or cross-demands are set-off, this process forms an essential part of the entire transaction. It is a thing which the parties contemplate, not as one which they may do, but one which they must do to carry it through. The transferor receives no money payment which in good faith he can retain; indeed, the cross-payments are concurrent conditions of the transaction simultaneously performed. Such is the practice which was conformed to in the present case.

For these reasons we are of opinion that the case is one in which shares and not money were derived by way of consideration for the assignment of the lease. Owing to the fact that, of the consideration of £35,000, £6,000 were satisfied by taking over liabilities and £29,000 by payment in the form of shares, it is not to the whole but only a proportion of the consideration referable to the lease that was paid in the form of shares. This proportion is twenty-nine thirty-fifths.

The assessment should be reduced by excluding from the assessable income twenty-nine thirty-fifth parts of the sum of £1,000 referable to the consideration for the pastoral lease.

First question in the case stated answered that the assessment should be reduced by excluding from the assessable income twenty-nine thirty-fifth parts of the sum of £1,000 referable to the consideration for the pastoral lease. Costs of the case stated, costs in the appeal.

[1] (1892) A.C. 125, at p. 136.

[2] (1873) 8 Ch. App. at p. 412.

[3] (1873) 8 Ch. App. 270.

[4] (1873) 8 Ch. App. 270.

[5] (1873) 8 Ch. App. 407.

[6] (1929) 42 C.L.R., at p. 479.

High Court of Australia

Messer v Deputy Federal Commissioner of Taxation [1934] HCA 39; (1934) 51 CLR 472 (13 September 1934)

HIGH COURT OF AUSTRALIA