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Dickson v Federal Commissioner of Taxation [1940] HCA 46; (1940) 62 CLR 687 (21 February 1940)

HIGH COURT OF AUSTRALIA

H C of A

2 June 1939

McTiernan J.

Fullagar K.C., Coppel and Ellis, for the appellant.

Ham K.C. and Tait, for the respondent.

1939, June 2

McTiernan J

. delivered the following written judgment:—

The appellant, who at all material times was a shareholder in the Castlemaine Brewery Co. Melbourne Ltd., was allotted by the company 801 fully paid shares during the financial year ending 30th June 1936. The assessment of Federal income tax on income received by the appellant during this financial year is governed by the Federal legislation which is to be cited as the Income Tax Assessment Acts 1936. Sec. 6 of the Act says that, unless the contrary intention appears, "dividend" includes any distribution made by a company to its shareholders, whether in money or property, and any amount credited to them as shareholders, and that it also includes the paid-up value of shares distributed by a company to its shareholders to the extent to which the paid-up value represents a capitalization of profits. The parcel of bonus shares which the appellant received was a dividend within the meaning ascribed to the word by this section. Sec. 44 (1) (a) provides, in the respects which are material, that the assessable income of a shareholder in a company shall, subject to the section, include dividends paid to him by the company out of the profits derived by it from any source. The parcel of bonus shares was, therefore, assessable income unless excluded by sub-sec. 2 of sec. 44. The appellant's objection to the inclusion of the shares in his assessable income is based upon sec. 44 (2) (b) (iii), which provides that "the assessable income of a shareholder shall not include dividends paid wholly and exclusively out of profits arising from the revaluation of assets not acquired for the purposes of resale at a profit or from the issue of shares at a premium if the dividends paid from such profits are satisfied by the issue of shares of the company declaring the dividend."

The Castlemaine company had assets consisting of shares in the Carlton and United Breweries Ltd., which it is admitted were not acquired for the purpose of resale at a profit. The appeal turns on the question whether the amount which the Castlemaine company applied in order to pay up in full the bonus shares allotted to the appellant and the other shareholders who participated in the distribution was paid wholly and exclusively out of the profits arising from the revaluation of these assets.

The Castlemaine company had, at 30th September 1934, 117,414 shares in the Carlton and United Breweries Ltd. These shares were taken into its balance-sheet as at that date at cost, the value represented being £119,861. The shares were made up of the following lots: 102,500 fully paid-up shares of £1 each, which were allotted in July 1907 in consideration of the transfer of certain assets to the Carlton and United Breweries Ltd.; 5,125 fully paid-up preference shares of £1 each, which were allotted in February 1913 in consideration of the payment of £5,125; and 9,789 fully paid-up preference shares of £1 each, which were allotted in December 1924 in consideration of the payment of £12,236 5s., these shares having been issued at a premium of 5s.

In December 1934 the Carlton and United Breweries Ltd. allotted to the Castlemaine company, by way of bonus, 51,250 fully paid-up ordinary shares of £1 each and 7,457 fully paid-up preference shares of £1 each. This allotment increased the number of shares held by the Castlemaine company in the capital of the Carlton and United Breweries Ltd. from 117,414 to 176,121, but in the Castlemaine company's balance-sheet as at 30th September 1935 the total holding of 176,121 shares was taken in at £119,861, which is the value at which 117,414 shares appear in the balance-sheet for the previous year. The Castlemaine company then made an alteration in the amount at which the value of its total holding of shares in the Carlton and United Breweries Ltd. was stated in the balance-sheet of 30th September 1935. The appellant claims that this alteration, which was an upward revision of that amount, was a revaluation of the 176,121 shares which disclosed a surplus available for distribution to the shareholders. Since the various issues of shares forming the total of 117,414 had been allotted to the company, they had appreciated in value, and the amount at which they appeared in the balance-sheet as at 30th September 1934 was an understatement of their value. This was, nevertheless, a genuine valuation of those shares, and a revaluation of them would have disclosed a large surplus. By taking the 176,121 shares into the balance-sheet of 30th September 1935 at £119,861, which was the valuation of the 117,414 shares, the company wrote down the value of the shares to a figure which, as the evidence shows, was equivalent only to two-thirds of their cost. This balance-sheet represents the value of the shares of the Carlton and United Breweries Ltd. at substantially below par, whereas they could have been sold then at a considerable premium. The Castlemaine company then substituted a valuation at the rate of 24s. per share for the value at which the 176,121 shares were represented in the balance-sheet of 30th September 1935. The appellant's contention is that the amount of the difference between the sum of £119,861, at which the 176,121 shares are represented in that balance-sheet, and a valuation of the shares at the rate of 24s. per share, is profit arising from a revaluation of the 176,121 shares.

The valuation of the 117,414 shares at cost was undoubtedly a genuine valuation. The appellant justifies the retention of the sum of £119,861 as the figure at which the increased holding should be represented in the balance-sheet of 30th September 1935, by the proposition that the allotment of bonus shares to a shareholder does not necessarily add to his wealth. This proposition is not universally true of every allotment of bonus shares by any company. An addition of bonus shares to those already held by a shareholder may increase the value of his holding of shares in the company. I am satisfied in this case that the value of the holding which the Castlemaine company had in the Carlton and United Breweries Ltd. was substantially increased by the allotment to it of 58,707 bonus shares in December 1934. The Act, however, does not lay down any criterion of valuation for the purposes of sec. 44. The Castlemaine company might have valued the increased holding of shares at the sum of £119,861 if it determined to adopt a conservative valuation. The company was entitled to act upon its own views about the amount of future dividends which would be paid by the other company and other matters which it considered would affect the value of the shares it held in that company. But I am not satisfied that the Castlemaine company did truly value its holding of 176,121 shares at £119,861, although its balance-sheet stated that amount as the value of the shares. The inference that I draw from the evidence adduced on behalf of the appellant is that, when the 176,121 shares were taken into the balance-sheet at £119,861, the Castlemaine company did not value the shares at that amount, but had determined that the shares were worth not less than 24s. each. It is not the case that the company, having taken the 176,121 shares into the balance-sheet at £119,861, found that, by reason of the appreciation in value of the shares, the value was under-stated, and made a revaluation of the shares at 24s. each, thus disclosing a surplus for distribution among the shareholders. The inference which I draw from the evidence is that the valuation of £119,861 was retained for the increased holding of shares, not because it represented the valuation which the company then placed upon its total holding of shares, but as a step in a scheme to disclose a predetermined surplus, which would be produced by writing up the value of the shares to 24s. each. The company did not alter the value of the shares to this figure because they had appreciated in value above the figure at which they were previously stated. The so-called valuation at £119,861 and the so-called revaluation at 24s. per share were figures selected by the company in order to produce the surplus which it determined to distribute by way of bonus shares amongst its shareholders and in the distribution of which the appellant was allotted the bonus shares now in question.

In November 1934, before making the issue of bonus shares (which were allotted in December 1934), the Carlton and United Breweries Ltd. sent a circular to its shareholders about this bonus issue. A general meeting of the shareholders of the Castlemaine company was held on 4th December 1934. The appellant, who was chairman of directors of the company, presided at the meeting and made a speech in which he explained to the shareholders the provisions of the Income Tax Assessment Act with respect to the taxation of bonus shares, and informed the shareholders that £975,000 of the undivided profits of the Carlton and United Breweries Ltd. would be capitalized by that company and issued as bonus shares before the end of the year, and that the Castlemaine company would receive under that scheme 51,250 ordinary shares fully paid up to £1 and 7,457 preference shares fully paid up to £1, on which no Federal or State taxes would be payable. In the course of his speech the appellant also said:—"These shares, of course, will be allotted to our company and will not go to individual shareholders, but your directors will subsequently consider at some convenient period next year the advisability of revaluing the assets of our company and of issuing bonus shares to our shareholders individually in respect to such valuation. As at present advised such assets which will be so revalued were not acquired for the purpose of resale at a profit, and the dividend arising therefrom, which will be issued in the form of bonus shares, will be free of Federal and State income tax in the hands of shareholders, but may be subject to State unemployment tax and special State tax. Even so, it will, in my opinion, be well worth doing. This, however, is a matter for the future, and when the directors have formulated their proposals, they will be placed before shareholders." The appellant objected to the admission of this speech in evidence. In my opinion, it is admissible. It explains the motive which induced the Castlemaine company to take the action which is described as the revaluation of the assets of the company. I should not infer from that speech by itself that the alteration in the stated value of the company's holding in the Carlton and United Breweries Ltd. was not a genuine revaluation of those assets. It was not improper to take such action as was necessary to make any dividend which the Castlemaine company proposed to distribute among its shareholders free from income tax. But, reading the speech with the evidence of subsequent action taken by the directors, it is, in my opinion, relevant evidence on the question whether the alteration of the value of those assets was a genuine revaluation or a scheme for passing on to its shareholders, in the guise of profits arising from a revaluation of assets, the profits which the Castlemaine company received from the Carlton and United Breweries Ltd. as bonus shares. In my opinion, it supports the inference that the alteration of the value of the company's holding of shares was not a revaluation of those assets.

It has been stated that Carlton and United Breweries Ltd. made the allotment of the 58,707 bonus shares to the Castlemaine company in December 1934. The latter company received the scrip in that month or in January 1935. The secretary of the company, who was called as a witness on behalf of the appellant, gave evidence that the scrip was not entered in the books of the company. The additional shares appeared for the first time in the balance-sheet of 30th September 1935, in which they were treated as not having added any value to the company's holding of shares in the Carlton and United Breweries Ltd. But in August 1935, the directors decided to instruct the auditor to make a valuation of the company's shareholding in the Carlton and United Breweries Ltd. Two letters, each of which is dated 9th October 1935, from the auditor and another firm of accountants to the chairman of the Castlemaine company, were produced by the secretary of the company. Both documents are in these terms: "As requested, we have made a revaluation of the shares held by your company in the Carlton and United Breweries Ltd., and certify in our opinion these shares are worth not less than 24s." The minute of the directors' meeting of 16th August 1935 shows that they decided to instruct the auditor to "make a valuation" of the shares. There is no record of any decision to instruct any other valuer. It may be observed that the minute says that it was decided to instruct the auditor to make "a valuation." The documents produced assert that the writers were requested to make a "revaluation." The secretary says that verbal instructions were given to them but no written instructions. This witness, however, admitted that both valuers were instructed to supply a valuation in a certain form. He was asked whether they (the company's auditor and the other valuer who was an "outside accountant" ) were asked "to value" the Carlton and United Breweries Ltd. shares, or whether they were asked "to say whether they were worth not less than 24s." The witness replied: "I should say it was obvious from the report that they were asked the second question." The witness admitted that the documents dated 9th October 1935, which are in identical terms, were furnished to the company after collaboration between their respective authors. It is quite inconsistent with the evidence which reveals how the letters of 9th October 1935 were obtained to say that the directors entertained the opinion that the amount at which the shares were taken into the balance-sheet of 30th September 1935—which represented only two-thirds of the par value of the shares—was in any sense a valuation of the shares. The secretary deposes that the directors instructed him to take the 176,121 shares into that balance-sheet at the amount of £119,861. In the course of his evidence, the witness said that the "mere" fact (he emphasized the word "mere" ) of an issue of bonus shares would not justify a "writing up" of the value of the total holding of shares which a company or a person held. I am not satisfied that the figure at which the shares of the Castlemaine company, held in the other company, were taken into the balance-sheet of 30th September 1935 was adopted in obedience to that principle. The difficulty which confronts the appellant is to show any justification for writing down the value of the shares below par. I do not think he surmounted the difficulty. The inference which I draw from the evidence is that the figure at which the shares were represented in that balance-sheet was a fictitious valuation. It has no reference to any admissible criterion of value. It should be observed that the secretary swore that he did not consider that any one share held in the Carlton and United Breweries Ltd. at that date was worth less than 20s., and that any person who considered the matter at that date would have thought likewise. The appellant objected to this evidence and the evidence of a witness who was called by the respondent on the question of the value of the shares. I think that this evidence was relevant to the issue whether the figure at which the total holding of shares was taken into the balance-sheet of 30th September 1935 was a real valuation or a sham. The valuation of a company's assets is not necessarily fictitious because it does not approximate to current market opinion or the theoretical opinion of an expert in share values. The directors may, in the exercise of a cautious discretion, determine on a figure which widely differs from the opinion of markets or experts. In the present case, however, the directors' instructions which produced the letters of 9th October 1935 refute the idea that they had any belief that the figure at which the shares were taken into the balance-sheet was anything but a sham valuation. I think, therefore, that the evidence of the secretary and the other evidence of value are admissible as tending to expose the sham and to attack the figure at which the balance-sheet represented the shares as a pretended valuation.

After the letters of 9th October 1935 came to hand the next step of which there is evidence was the passing by the directors on 11th October 1935 of resolutions in the following terms:—"Resolved that a revaluation of the company's holding of 176,121 shares in the Carlton and United Breweries Ltd. having been made by the company's auditors, Messrs. Cook, Tomlins & Mirams, chartered accountants (Aust.) and by Messrs. Runting & McDonald, chartered accountants (Aust.) wherein both parties valued the shares at not less than 24s. per share, the shares be taken to account in the company's books at a value of 24s. each and the amount by which this valuation exceeds the present book value of these shares, namely, £91,483 19s., be credited to an assets revaluation reserve account. Resolved that extraordinary general meetings of shareholders be called for the purpose of considering and if thought fit passing the necessary resolutions (a) to increase the capital of the company to £262,500 by the creation of 100,000 new shares of 17s. 6d. each ranking for dividend and in all other respects pari passu with the existing 200,000 shares of the company."

Another meeting of the directors was held on 25th October 1935, at which the following resolutions were passed: "That the directors recommend to the shareholders that the sum of £87,500 being part of the profits arising from the revaluation of shares (not acquired for the purpose of resale at a profit) held by the company in the Carlton and United Breweries Ltd., carried to assets revaluation reserve account forming part of the undivided profits of the company which are not required for paying dividends be capitalized and distributed amongst the holders of the shares in the company on the footing that they became entitled thereto as capital and for this purpose that the capital of the company be increased to £262,500 by the creation of 100,000 new shares of 17s. 6d. each and that the said sum be applied in payment in full of the 100,000 new shares, such shares to be allotted to the holders on the twelfth day of November 1935 in the proportion of one new share for every two shares held; that in furtherance of the direction to call extraordinary meetings as provided at the last meeting of directors extraordinary general meetings to pass the necessary resolutions to give effect to the above recommendation be held; that contingent on the increase of the capital to £262,500 divided into 300,000 shares of 17s. 6d. each it be recommended to shareholders that the capital be reduced to £225,000 divided into 300,000 shares of 15s. each and that such reduction be effected by returning capital to the extent of 2s. 6d. per share and by reducing the nominal amount of each of the said shares from 17s. 6d. to 15s. and that the necessary application be made to the court for its sanction thereto."

Subsequently these resolutions were adopted and carried out, and the appellant received as his quota the parcel of bonus shares the subject of this appeal. It has been shown that "the present book value of the shares" referred to in the minute was £119,861, the figure which appeared in the balance-sheet of 30th September 1935. In truth, that balance-sheet did not attribute any value to the additional 58,707 shares allotted in December 1934. It failed to do so because the shares held by the Castlemaine company had not at that date depreciated in value below par and the par value of these shares, namely, the shares held by the company before it received the 58,707, was the sum of £119,861. The revision of this fictitious figure is not a revaluation of that asset. That the directors were rather merely altering book values than revaluing the assets is demonstrated further by the following evidence of the secretary given in cross-examination:—"Q. Can you tell me why 24s. per share was the figure? Perhaps I should read the wording: "As requested, we have made a revaluation of the shares held by your company in Carlton and United Breweries Ltd. and certify that in our opinion these shares are worth not less than 24s. per share." Why the 24s.? A. I had at an earlier stage worked out the bonus issues that my company could make at different values of the Carlton and United Breweries shares, and before the directors would revalue these shares, they desired expert opinion as to whether the values which would allow for one to two bonus issues could be justified.

Q. And so you worked out the 24s. so as to allow for a bonus issue of one to two? A. That is correct.

Q. You did that yourself? A. I did that myself.

Q. And told the directors that if the shares were written up to 24s. that would allow sufficient for your bonus issue of that nature? A. That is correct.

Q. When did you tell them that? A. About July 1935.

It is not necessary to say whether 24s. per share was a fair appraisement of the shares as fixed assets of the company. But I am not satisfied that it had the character of a revaluation which took the place of a genuine valuation of the assets of the company. The appellant has, in my opinion, failed to prove that the sum of £91,483 was wholly profit arising from a revaluation of the shares. I am not satisfied that the shares were allotted in satisfaction of a dividend paid wholly and exclusively out of profits arising from a revaluation of assets not acquired for the purpose of resale at a profit.

The appeal should be dismissed.

Appeal allowed. Order dismissing appeal from commissioner set aside. In lieu thereof order that the appeal from the commissioner be allowed. Declare that the 801 paid-up shares in Castlemaine Brewery Company Melbourne Ltd. were not assessable income of the appellant in the year ending 30th June 1936. Remit assessment to the commissioner for amendment in accordance with this order. Respondent to pay appellant's costs of appeal to High Court and to Full Court.

Solicitors for the appellant, Raynes Dickson, Kiddle & Briggs.

Solicitors for the respondent, H. F. E. Whitlam, Crown Solicitor for the Commonwealth.