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High Court of Australia |
FEDERAL COMMISSIONER OF TAXATION v. W. E. FULLER PTY. LTD. [1959] HCA 41; (1959) 101 CLR 403
Income Tax (Cth.)
High Court of Australia
Dixon C.J.(1), Fullagar(2) and Menzies(3) JJ.
CATCHWORDS
Income Tax (Cth.) - Deduction - Losses of previous year - Where allowable deductions in previous year in excess of assessable income and not exempt income of that year - "Exempt income" - Meaning of "income" - Value of bonus shares issued on capitalization of profits - Income Tax and Social Services Contribution Assessment Act 1936-1953, ss. 6 (1), 23, 25 (1), 44 (1) (a), (2) (b) (iii), 80 (1), (2), (3).
HEARING
Sydney, 1959, May 5; September 3. 3:9:1959DECISION
September 3.2. This answer is not determined by the capital nature of the "profit" disclosed by the valuation: the necessity of expressing the qualification about its capital source is only because the question could not have arisen if the profit had been on account of revenue. The answer turns upon the legal nature of the payment up and distribution of the bonus shares. It is an ordinary capitalization of profits accomplished in the ordinary way. It appears to me that the allotment of shares and the distribution of the share certificates cannot involve a receipt or derivation of income except under some artificial statutory definition of that word and that the appropriation of the aliquot part of the profit fund to the payment up of the shares does not involve the shareholder in a receipt or derivation of income. The objection to considering the allotment of the shares and distribution of the certificates to be income is that it is settled law that they are distributed and received as capital. It should perhaps be remarked that even if it were otherwise there is nothing before us to show that the shares were so readily convertible into money that the distribution could properly be held to be a derivation of income without the aid of any statutory provision deeming it equivalent to money. Nor is there anything before us to give a market value to the shares. "The capitalization of undivided profits, as fully paid-up shares, is by no means the bestowal of a benefit of the full face value of the shares" per Scrutton L.J. in Inland Revenue Commissioners v. Blott (1920) 2 KB 657, at p 676; (1920) 8 Tax Cas 101, at p 122 . (at p408)
3. As to the appropriation of profit to pay the shares up, that does not mean a receipt or derivation of income by the shareholder: nothing is placed in his hands, he has no claim or title to the money, no choice governing the appropriation. All he can do is to accept or refuse the allotment of the shares: the application of the fund to pay them up has been predetermined by the company. (at p408)
4. We are of course familiar in Australia with the taxation of the moneys appropriated to pay up bonus shares on the ground that the moneys are credited to the shareholder: that was decided first in James v. Federal Commissioner of Taxation [1924] HCA 34; (1924) 34 CLR 404 . In Dickson v. Federal Commissioner of Taxation [1939] HCA 42; (1940) 62 CLR 687, at pp 713-715 I gave a brief account of the developments in the law on this point in Australia to which, in spite of the fact that it is contained in a dissenting judgment, I venture to refer. What for present purposes is important is that the whole question of bonus share capitalization or "stock dividends" is dealt with in the present form of the legislation under or by reference to the definition of "dividend". That word is defined by s. 6 (1) to include any distribution made by a company to its shareholders, whether in money or other property, and any amount credited to them as shareholders, and 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. (It does not include a return of paid-up capital.) Now it is obvious that if the conception of "dividend" in this definition governed or determined the meaning or the application of the word "income", the word "income" would, contrary to what I have said, extend to a distribution of bonus shares or the appropriation of profit to pay up the shares. But the conception of "dividend" does not affect the meaning or application of the word "income"; at all events so it appears to me. The Act is not expressed to bring the defined conception of dividend within the word "income". And in my opinion there is nothing in the Act which implies any intention to do so or to affect in any way the meaning simpliciter of the word "income" by the statutory definition of "dividend". The word "income" is left undefined, that is except perhaps in so far as the definition of the expression "income from personal exertion" may inferentially affect its content, a matter not here relevant. Doubtless the word "income" described the basal conception of the whole Act. It is so to speak the beginning from which the statutory conception of "assessable income" starts. That can be seen from s. 25 (1) which provides that the assessable income of a taxpayer shall include gross income which is not exempt income. (The discrimination between residents and non-residents which forms part of the purpose of the provision I omit as not to the present point.) The whole Act is then constructed on the foundation of the "assessable income" to be reduced by allowable deductions to the "taxable income", upon which income tax is imposed. The assessable income is a defined term: it means all the amounts which under the provisions of the Act are included in the assessable income: s. 6 (1). It is a definition which brings out strongly the fact that it is only what the Act makes assessable income that can fall within the conception. Section 25 (1) begins so to speak at bedrock with the simple notion of income as a known legal and commercial term. Provision after provision of the Act then says that this or that shall be part of the assessable income. One such provision is s. 44 which deals with dividends and says what dividends shall and what shall not be included in the assessable income. From the legal conception of "income" you can work forward, through s. 25 (1), to "assessable income". But the one thing which to my mind you cannot do is to work backward from what goes by express provision into "assessable income" and use it to control the basal conception of "income". That appears to me to run counter to the plan on which the Act is constructed. Yet that is what the case for the commissioner must do. (at p409)
5. Section 80 which contains the expression in question and upon which the taxpayer's claim rests is directed at enabling a taxpayer in arriving at his taxable income to obtain a deduction from his assessable income of losses sustained in any of the seven previous years of income. But a loss is defined to be the excess of the allowable deductions over the assessable income and the net exempt income of that year taken together. That is to say, if the taxpayer in the relevant year derived "exempt income" it must be taken into account; it must be added to the assessable income and it is from the total that the deductions allowed by the Act must be made. For sub-s. (1) of s. 80 provides that a loss is incurred when the allowable deductions from the assessable income of the year exceed the sum of that income and the net exempt income of the year. Sub-section (2) prescribes how the loss shall be allowed. On the view I have expressed above the material part is par. (a) which relates to the case where a taxpayer has not in the year of income derived exempt income. On the contrary view the material part is par. (b) which relates to the case where a taxpayer has in that year derived exempt income. The deduction in the former case is made from the assessable income; in the latter from "exempt income" and after that from assessable income. The expression "exempt income" is defined to mean income which is exempt from income tax and includes income which is not assessable income: s. 6 (1). In the present case the taxpayer received a dividend paid wholly and exclusively out of profits arising from the revaluation of capital assets. The dividend formed no part of the taxpayer's assessable income. If therefore it was part of his "income" within the meaning of the definition of "exempt income", as that expression is used in sub-s. (1) of s. 80 it must fall within the definition. But as I have said, I do not think that either the shares or the money appropriated to pay them up is "income". The facts of the case are simple enough. The taxpayer is a company resident in Australia. It held 2,500 fully paid-up shares of 1 pound each in another company. About the latter little appears, but in the year preceding the year of income of the taxpayer, it resolved to distribute 25,000 bonus shares of 1 pound paid up by means of 25,000 pounds standing to the credit of an assets revaluation account. The form of the various resolutions by which this was done is somewhat inartificial but no point arises upon their form. On the contrary it is agreed that the capital bonus constituted a dividend which satisfied the requirements of s. 44 (2) (b) (iii). That provision says 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 purpose of resale at a profit if the dividends paid from such profits are satisfied by the issue of shares of the company declaring the dividend. During the year of income ended 30th June 1952 the taxpayer incurred a loss: there had been a smaller loss incurred prior to that year. If there had been no question of putting the amount of the bonus shares against the loss, the taxpayer, under s. 80 (2), would have been able to claim an allowable deduction of 3,374 pounds from the assessable income of the year ended 30th June 1953. But as the commissioner took the view that the face value of the bonus shares, 2,500 pounds, formed "exempt income" within the meaning of s. 80 (1) the deduction was reduced in his assessment by that amount, that is to say, to 874 pounds. The taxpayer objected and on resort to the board of review the taxpayer's objection was upheld. The commissioner appealed to this Court and the matter is now before the Full Court on a stated case. Now on these facts it appears undeniable that the appeal must fail unless the amount of 2,500 pounds, which the commissioner claims is "exempt income" to be added to the assessable income, is "income". The commissioner's claim that the amount is "income" has found support in two diverse views which appear to me to be opposed one to the other. On the one hand it is said that the bonus shares form "income" which the taxpayer has received. On the other hand it is said that the "crediting" or appropriation of the amount standing at the credit of the assets revaluation account involved the receipt of income. The first treats what is the end result as a distribution of income. In referring to "distribution" I have not overlooked the fact that neither the definition of "exempt income" nor sub-ss. (1) or (2), as distinguished from sub-s. (3), of s. 80 speaks of the derivation, receipt or distribution of income but I do not find it possible to think of "income" in the abstract independently of derivation by some person or persons, and sub-s. (3) bases the definition of "net exempt income" on the exempt income "derived". Now I have said earlier in this judgment that I do not think that the distribution of shares can form "income" unless by reason of some statute attaching an enlarged or secondary meaning to the word. The point that there is nothing to show whether the shares constituted any and what amount of money's worth to be regarded as "derived" may be put aside. For probably it depends on nothing but an omission from the case stated. No more need be said about it than to give a reference to the glancing allusions to the same kind of question in Commissioner of Taxes v. Union Trustee Co. of Australia (1931) AC 258, at pp 263, 269 , to the passages in A. F. Pool v. Guardian Investment Trust Co. Ltd. (1921) 8 Tax Cas 167, at p 175 , in Weight v. Salmon (1935) 19 Tax Cas 174, at pp 185, 188, 193 ; in Thomas v. Federal Commissioner of Taxation [1923] HCA 43; (1923) 33 CLR 256 , per Starke J. (1923) 33 CLR, at pp 265, 266 ; and in Blott's Case (1920) 2 KB, at pp 662, 663, 670, 671, 675, 676; (1920) 8 Tax Cas, at pp. 114, 118, 121-122. . But the point that to my mind is decisive is that the shares could not reach the shareholder, the taxpayer, as anything but capital. I have re-read Blott's Case (1921) 2 AC 171; (1921) 8 Tax Cas 101 and I think that no judicial opinion was expressed at any stage in it supporting the view that the shares, as distinguished from the profits applied to pay them up, formed part of "the income from all sources" of Blott or of Greenwood. It is needless to say that the reasoning of Viscount Haldane, Viscount Finlay, Viscount Cave, Lord Sterndale M.R., Warrington L.J., Scrutton L.J. and Rowlatt J. was expressly directed against such a conclusion. (at p412)
6. The view that the appropriation of profits by the company to pay up the shares involves the shareholder, the taxpayer, in the receipt of "income" is the same as that upon which the claim against Blott and Greenwood of the Commissioners of Inland Revenue rested. It was answered in the simplest terms by Rowlatt J.: "Now I do not think that there is a payment of a dividend to a shareholder unless a part of the profits of the company is thereby liberated to him in the sense that the company parts with it and he takes it. . . . The fact is simply that the shareholder was given shares instead of a bonus." (1920) 1 KB 114, at p 133; (1919) 8 Tax Cas, at p 112 . The case for the Inland Revenue Commissioners was put with strength and clearness by Lord Sumner thus: "The scheme and the principle of the statute" (company) "law on this subject are clear. It takes two to make a paid-up share. A share issued, whether it is part of the company's original issue of capital or is one issued on the occasion of surplus profit arising, is a share to be paid for: paid for by the allottee in meal or in malt; in money, unless by contract between himself and the Company he is enabled to satisfy his obligation to pay by some other consideration moving from himself to the company. Under the contract in question what consideration so moves from the shareholders? None that I can see, except the discharge of the Company's debt for a dividend, which has become due to him by being declared. When debt for dividend is set off against debt for calls and the account is squared, the equivalent of payment of a dividend takes place. If the word 'bonus' has some effect to the contrary, then no consideration has moved from the shareholder and his shares are not fully paid. The Company can choose whether it will divide its profits in meal or in malt; if it decides to divide otherwise than in cash, a contract to accept something in lieu of cash operates nothing, for no right to cash has accrued. A contract to accept shares in satisfaction instead of cash implies, first a declaration which gives a right that has to be satisfied, and second a satisfaction of that right, which is equivalent to payment". (1921) 2 AC, at pp 212, 213; (1921) 8 Tax Cas, at p 142 . (at p413)
7. To the case so made the answer given by Rowlatt J. was sustained and it has remained good. The taxpayer obtained no title to receive the money, what he received was the shares and they were capital. In Australia the shareholder would have been taxed upon the profits credited to pay up the shares. But that was because of the express words of s. 14 (b) of the Income Tax Assessment Act 1915-1918. Section 14 (b) said that the income, on which at that time the taxable income was based, should include profits . . . credited to any . . . shareholder . . . of a company &c. If the judgment of Isaacs J. in James v. Federal Commissioner of Taxation [1924] HCA 34; (1924) 34 CLR 404 is examined, it will be seen that full effect is given to every part of the principle upon which Blott's Case stands. But in the words of his Honour "the Australian Act, unlike the English Act, does not always wait till the end of the process: it also sometimes seizes an intermediate operation". (1924) 34 CLR, at p 417 . In the case of the Assessment Act it seized for the purpose of taxing income the "crediting" of the profit by the company to a taxpayer as its shareholder. In Nicholas v. Commissioner of Taxes (Vict.) (1938) 59 CLR 230; [1940] UKPCHCA 2; (1940) AC 744; (1940) 63 CLR 191 it was shown that implicit in every capitalization was such a crediting and from it there could be no escape. In the meantime Blott's Case (1921) 2 AC 171; (1921) 8 Tax Cas 101 had been reinforced by Inland Revenue Commissioners v. Fisher's Executors (1926) AC 395 and Commissioner of Income-Tax, Bengal v. Mercantile Bank of India Ltd. (1936) AC 478 , but nothing appears to me to be needed to strengthen the application of Blott's Case. When all is said and done the point at which the argument for the revenue fails is when you come to consider whether the shareholder ever obtained such title to the profits as to make them his income. (at p413)
8. There is, in my opinion, no path left open to the commissioner by which he can reach the conclusion he seeks except by giving to the word income in the definition of the expression "exempt income" some enlarged or secondary meaning, a meaning that goes further than what I have called its natural legal meaning. But the path excepted does not, in my opinion, lead to the conclusion the commissioner desires. It does not do so because there is no provision in the Act extending the meaning of the simple word "income" in this fashion. No justification that I can find exists for implying such an extension. On the contrary, the very use of the conception of assessable income to embrace all the extensions of liability beyond the basal notion of income tends somewhat strongly against it. Moreover it is opposed to the canons of construction to make implications in a taxing Act which increase liability except under clear and compelling necessity. (at p414)
9. In my opinion the question in the case stated should be answered No. (at p414)
FULLAGAR J. This is a case stated by Taylor J. in an appeal by the commissioner from a decision of an Income Tax Board of Review. The question turns on the construction of s. 80 of the Assessment Act 1936-1953. That section provided: - "(1) For the purposes of this section, a loss shall be deemed to be incurred in any year when the allowable deductions (other than the concessional deductions and the deduction allowable under this section) from the assessable income of that year exceed the sum of that income and the net exempt income of that year, and the amount of the loss shall be deemed to be the amount of such excess. (2) So much of the losses incurred by a taxpayer in any of the seven years next preceding the year of income as has not been allowed as a deduction from his income of any of those years shall be allowable as a deduction . . . ". Sub-section (3) provides, in effect and so far as material, that, where the taxpayer is a resident, "net exempt income" means exempt income less the expenses incurred in deriving it. (at p414)
2. The respondent taxpayer is a company incorporated in Victoria, and is a "resident" of Australia within the meaning of the Act. In the relevant year of income, which is the year ended 30th June 1953, it made a net trading profit of 4,849 pounds, from which it claimed to deduct, for income tax purposes, a sum of 2,200 pounds for depreciation and a sum of 2,649 pounds in respect of losses incurred in previous years. The allowance of these deductions in full would have reduced its taxable income to nil. No question arises as to the amount claimed for depreciation, but the commissioner, in making his assessment, allowed under s. 80 a deduction in respect of losses of 874 pounds only. The company appealed to a board of review, which held that the full amount of 2,649 pounds was deductible. (at p414)
3. It is common ground that the company is entitled to a deduction of 169 pounds in respect of a balance of losses incurred in years of income prior to the year ended 30th June 1952. What is in question is the amount of the loss incurred in the year ended 30th June 1952, and that question arises by reason of the receipt by the company in that year of certain "bonus" shares in another company. (at p415)
4. The company was on 25th July 1951 the holder of 2,500 fully paid ordinary shares of 1 pound in a company named Dewcrisp Products Ltd., which had a nominal ordinary capital of 50,000 pounds and an issued ordinary capital of 25,000 pounds. On that day an extraordinary general meeting of the shareholders of Dewcrisp Products passed a resolution in the following terms: - "That the sum of 25,000 pounds standing to the credit of Assets Revaluation Account and representing a surplus arising from a revaluation of freehold property, part of the capital assets of the Company, be distributed as capital bonus among the holders of ordinary shares numbered 1-25,000 in the proportion of one share for each share held by them." This resolution was followed on the same day by a resolution of a meeting of directors "That pursuant of the resolution passed at the Extraordinary Meeting of shareholders on the 25th day of July, the sum of 25,000 pounds being part of the amount standing to the credit of Assets Revaluation Reserve, be distributed as a special capital bonus free of Income Tax amongst the registered holders on the 25th day of July, 1951 of the ordinary shares number 1-25,000 in the Company's capital held by them respectively and that the 25,000 unissued ordinary shares be in accordance with the said resolution distributed amongst them in like proportion." These resolutions did not follow the orthodox form or the form contemplated by the company's articles, but, for reasons which will appear, I do not think that any importance attaches to this fact. The taxpayer company in due course received the 2,500 new fully paid shares of 1 pound to which it was entitled according to the terms of these resolutions. The precise manner in which the transaction was dealt with in the books of Dewcrisp Products does not appear. (at p415)
5. For the purposes of income tax on income of the year ended 30th June 1952 the taxpayer company was not required by the Act to bring into account as part of its assessable income any sum in respect of the bonus shares received by it from Dewcrisp Products. The commissioner has taken the view, however, that a sum equal to the face value of those shares was "income", though not "assessable income", of that year. Accordingly, when he came to apply s. 80 for the purposes of the assessment of tax on the company's income of the year ended 30th June 1953, he treated the sum of 2,500 pounds as "exempt income" within the meaning of that section. It followed, of course, that that sum must be brought into account in calculating the amount of the deductible loss incurred in the year ended 30th June 1952. The company's contention (which has been accepted by the board) is that the 2,500 pounds could not be "exempt income" because it was not "income" at all. On the commissioner's view the total amount actually deductible under s. 80 would be 874 pounds: on the company's view it would be 3,374 pounds - which would reduce the taxable income to nil, and leave an amount to be carried forward into the following year. (at p416)
6. The question raised is, as the chairman of the board observed, one of considerable difficulty. I think the most convenient course will be to begin by referring to the relevant provisions of the Act other than s. 80 which has already been set out. There are certain definitions in s. 6 which must be noted. The term "dividend" includes "any distribution made by a company to its shareholders, whether in money or other property, and any amount credited to them as shareholders, and 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 term "exempt income" means "income which is exempt from income tax and includes income which is not assessable income." The term "income from personal exertion" means income consisting of salaries, wages and many other specified classes of receipts, but "does not include dividends." "Income from property" means "all income not being income from personal exertion." The word "paid" in relation to dividends "includes credited or distributed." (at p416)
7. Section 23 provides that "the following income shall be exempt from income tax." Then follows a long list of incomes, which includes nothing applicable to the present case. The exemption is made to depend in some cases on the character of the recipient, in some cases on the character of the receipt, in some cases on both. The practical effect of the taxpayer's argument would, so far as I can see, be to limit the scope of the term "exempt income" in s. 80 to incomes of the classes specified in s. 23, although it seems very unlikely that a taxpayer to whose position s. 80 was pertinent would be in receipt of income of any of those classes. Section 25 (1), which is the general charging section, provides that the assessable income of a taxpayer shall include, where the taxpayer is a resident, the gross income derived directly or indirectly from all sources whether in or out of Australia. Section 26 commences with the words "The assessable income of a taxpayer shall include". Then follows a list of specific classes of receipts, some of which would, and some of which would not, be comprehended within the ordinary meaning of the word "income". (at p417)
8. Section 44 contains the general provision as to dividends. Sub-section (1) provides: - "The assessable income of a shareholder in a company (whether the company is a resident or a non-resident) shall, subject to this section - (a) if he is a resident - include dividends paid to him by the company out of profits derived by it from any source." The general provision is then qualified by sub-s. (2), which, so far as material, reads: - "The assessable income of a shareholder shall not include dividends. . . (b) paid wholly and exclusively out of one or more of the following: - . . . (iii) profits arising from the re-valuation of assets not acquired for the purpose of re-sale 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." Paragraph (c), which follows, is not directly material, but it is of some importance to observe that it contains two references to income which is not assessable income. (at p417)
9. It has often been observed, and it is plain from the above summary of relevant provisions, that the Act does not use the word "income" as a precisely defined term of art. What is income and what is not has, when the Act does not speak specifically, to be determined according to general commercial and accounting conceptions. It is on this fact that the taxpayer relies when it says that whatever accrued to it as a result of, or in the course of, the transaction of July 1951 cannot be "exempt income" because it is not "income" at all. The proposition that it is not income at all is, the taxpayer says, established by the well-known decision of the House of Lords in Inland Revenue Commissioners v. Blott (1921) 2 AC 171; (1921) 8 Tax Cas 101 . That case was one of a series of much-discussed cases, the source of conflicting opinions in which is explained by Dixon J. in Dickson v. Federal Commissioner of Taxation (1940) 62 CLR, at p 714 , in a passage to which I shall refer again later. The series consists really of two classes of case, which, until the decision of the Privy Council in Hill v. Permanent Trustee Co. of New South Wales (1930) AC 720 were not always kept distinct, though each was concerned with a different question. The one class was concerned with the beneficial interest in bonus shares as between tenant for life and remainderman under a settlement. The other was concerned with the liability to income tax of the recipient of bonus shares. In the former class of case the real issue was as to the character of the bonus shares as such - were they corpus or income in the hands of the trustee? In the latter class of case the question was - and has, I think, ultimately been held by the Privy Council to be - not as to the character of the bonus shares as such, not whether the receipt of them was an income receipt or a capital receipt, but whether the transaction which culminated in their issue did not involve the obtaining by the recipient of a monetary benefit which was income. If the real question had been as to the character of the bonus shares as such, a decision that they constituted income ought logically to have meant that their actual or market value, and not their face value, was to be brought into assessment. In fact in Blott's Case (1921) 2 AC 171; (1921) 8 Tax Cas 101 it was the face value of the shares that the Crown sought to tax (see, however, the argument of the Attorney-General (1920) 1 KB 114, at p 126 , although in the later case of Inland Revenue Commissioners v. Fisher's Executors (1925) 1 KB 451; (1926) AC 395 (a case of debentures, not shares) the actual or market value seems to have been regarded as providing the relevant sum (1925) 1 KB, at pp 457, 469 . Nothing further need be said about the former class of case, of which Bouch v. Sproule (1887) 12 App Cas 385 is the most notable example. Nor is it necessary to trace the course of the decisions in the latter class of case. It is necessary only to refer briefly to two of them, and to indicate their final outcome in Nicholas v. Commissioner of Taxes (Vict.) [1940] UKPCHCA 2; (1940) AC 744; (1940) 63 CLR 191 . (at p418)
10. The usual form of effecting an issue of bonus shares has been (to put it very shortly) by a capitalization of profits, followed by the declaration of a dividend with a provision that the dividend shall be satisfied by the issue of shares. Then in the books of the company the shareholder is credited with the amount of his dividend and treated as having applied it in paying up his new shares. This was substantially the course followed in Swan Brewery Co. Ltd. v. The King (1914) AC 231 . It was held that there had been a "crediting of a dividend" within the meaning of the Dividend Duties Act of Western Australia. Their Lordships quoted with approval the words of Parker C.J., who in the court below had said (1912) 14 WALR 177, at p 178 : - "Had the company distributed the 101,450 pounds among the shareholders and had the shareholders repaid such sums to the company as the price of the 81,160 new shares, the duty on the 101,450 pounds would clearly have been payable. Is not this virtually the effect of what was actually done? I think it is." (1914) AC, at p 236 . This decision was obviously a source of embarrassment in Blott's Case (1921) 2 AC 171; (1921) 8 Tax Cas 101 , but Blott's Case (1921) 2 AC 171; (1921) 8 Tax Cas 101 was, of course, concerned with a different statute, and, for present purposes, that is all that need be said about Blott's Case (1921) 2 AC 171; (1921) 8 Tax Cas 101 . In James v. Federal Commissioner of Taxation [1924] HCA 34; (1924) 34 CLR 404 the usual procedure had again been followed, and each shareholder had been credited in the books of the company with his proportion of the declared bonus as in payment for the shares. It was held that a "profit or bonus" had been "credited" to the shareholder, and this brought the case within the words of the relevant statute. (at p419)
11. In Nicholas v. Commissioner of Taxes (Vict.) [1938] HCA 18; (1937) VLR 331; (1938) 59 CLR 230; (1940) AC 744; (1940) 63 CLR 191 the relevant statute again taxed a "dividend profit or bonus credited or paid." An attempt was made to avoid the effect of the Swan Brewery Case (1914) AC 231 and James's Case [1924] HCA 34; (1924) 34 CLR 404 by a radical departure from the normal procedure. There was no declaration of any dividend or bonus, and there was no actual crediting in the books of the company of any share of any profit to any shareholder. Whether this course complied with the requirements of the company law need not be considered. The attempt was successful in the Supreme Court of Victoria, but failed in the High Court and in the Privy Council. It seems to me that Nicholas's Case (1938) 59 CLR 230; (1940) AC 744; (1940) 63 CLR 191 established two important things. The first is that, where an issue of bonus shares involves a shareholder in liability to income tax, it must be not because the receipt by him of the new shares is a receipt of income, but because in the course of the transaction a dividend or share of profits has been allocated to him and applied on his behalf in paying for the new shares. The second thing is that an issue of bonus shares on a capitalization of profits necessarily involves the crediting to him of a dividend profit or bonus and its application on his behalf in payment for the new shares. Even if no dividend or bonus is in fact declared, and no share of any profit is in fact credited to him in the books of the company, these steps must be deemed to have been taken, because in no other way could the issue of the new shares as fully paid be legally effected. The substance and effect of what is done, whatever form it may take, is that a share of profits is allocated to him and applied on his behalf. (at p419)
12. The second of the two matters mentioned above is only important because in the present case Dewcrisp Products, in and about its issue of bonus shares, did not follow the orthodox procedure or the procedure prescribed by its articles. We have not before us its book entries, but its resolutions are more like those in Nicholas's Case [1938] HCA 18; (1938) 59 CLR 230; (1940) AC 744; (1940) 63 CLR 191 than those in the Swan Brewery Case (1914) AC 231 . The first of the two matters mentioned is the more important, because it seems to me to conclude the present case against the taxpayer. For it means that, even if we concede that the word "income" in the definition of "exempt income" and in s. 80 denotes only what is income within the ordinary meaning of that term, what the taxpayer received in connection with the transaction of 1951 was income within that ordinary meaning. What is relevant for consideration is not the parcel of new shares in Dewcrisp Products but the sum of 2,500 pounds which represented its share of that company's capitalized profits, and which was applied on its behalf in payment for those shares. I think that that sum was clearly income in the ordinary or commercial sense of that term. It is income which is exempted from income tax by s. 44 (2) (b) (iii), and it is therefore "exempt income" within the meaning of s. 80. (at p420)
13. But, even if it were wrong to hold that the taxpayer company, in the course of, or as a result of, what was done in relation to the bonus share issue of Dewcrisp Products, derived income in the generally accepted sense of that word, I should still be of opinion that the sum of 2,500 pounds fell within the definition of "exempt income" in s. 6 of the Act. That term "means income which is exempt from income tax and includes income which is not assessable income." To read this definition as not comprising anything which is not income in the ordinary and commercial sense is, in my opinion, to stick too much to the letter and to miss the substantive intention. (at p420)
14. James's Case [1924] HCA 34; (1924) 34 CLR 404 was decided in 1924, and very shortly thereafter the Income Tax Assessment Act 1924 was passed. By s. 4 (h) of that Act, what was then s. 16 (b) was amended so as to give effect to an important change of policy in relation to "bonus shares" or "stock dividends." In Dickson v. Commissioner of Taxation (1940) 62 CLR, at pp 714, 715 Dixon J., in a passage to which I have referred above without quoting it, mentioned the conflicting views which had been entertained, and then proceeded to explain the change of policy represented by the Act of 1924. His Honour said: - "But in 1924 the Federal legislature deserted altogether the ground taken by these rival views and established the nature, source or taxability of the profits whence the bonus shares had been paid up as the test of the shareholder's liability (Act No. 51 of 1924 s. 4 (h)). From that time the assessable income of a shareholder has included bonus shares unless they have been paid up out of some special class of profits and on the ground that they have been paid up from that source are made the subject of an express exception. The course of the legislation has been to narrow the scope of the exemptions; and the principle has been not only maintained but strengthened, the principle that stock dividends are taxable as income in the hands of the shareholder subject to particular exemptions based upon some peculiarity in the profits capitalized. Section 6 of the Act of 1936 includes in the meaning of the word 'dividend', 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. Section 44 (1) (a) provides that the assessable income of a shareholder in a company shall, subject to what follows, include, if the shareholder resides in Australia, dividends paid to him out of profits derived by it from any source. Section 44 (2) then follows with the exceptions." (at p421)
15. I do not suggest that his Honour, in using the words "exemption" and "exception" in this passage, had in mind the precise question which arises in the present case, but the naturalness of their use in the context is, I think, significant. The definition of "exempt income" makes, by the way, its first appearance in the consolidating and amending Act of 1936. (at p421)
16. On the taxpayer's reading of that definition the second part of it would add nothing and would be altogether otiose. Obviously income which is exempt from income tax is not assessable income. I think it reasonably clear that the second part of the definition was added in order to bring within its scope, in addition to receipts which the Act in terms "exempts" from income tax, receipts which the Act treats as income but excludes from assessable income. Section 44 (1), read with the definitions in s. 6 of "dividend", of "income from personal exertion", and of "income from property", clearly treats the amount represented by the face value of bonus shares as income - income for all the purposes of the Act, including the definition of "exempt income" in s. 6. Being income, it is prima facie assessable income (s. 25 (1) (a) ). But then s. 44 (2) takes out of the category of assessable income the amount represented by the face value of specified classes of bonus shares. Section 44 (1) makes them income, but s. 44 (2) makes them non-assessable income. These two facts make them, in my opinion, for the purposes of the Act, "income which is not assessable income", and therefore, by virtue of the definition, "exempt income" for the purposes of s. 80. (at p421)
17. The question asked by the case stated, should, in my opinion, be answered Yes. (at p421)
MENZIES J. This is a case stated by Taylor J. under s. 18 of the Judiciary Act 1903-1955 upon an appeal by the commissioner from a decision of the Taxation Board of Review allowing the taxpayer's objection to an income tax assessment for the year ended 30th June 1953. In July 1951, the taxpayer, as a shareholder in Dewcrisp Products Ltd. (which I will call "the company"), participated in a distribution of bonus shares arising from a revaluation of the company's freeholds and was allotted 2,500 shares of 1 pound each of a paid-up value of 2,500 pounds, which it is common ground was not part of the assessable income of the taxpayer by virtue of s. 44 (2) (b) (iii) of the Act. The commissioner, however, treated the 2,500 pounds as "exempt income" of the taxpayer for the purpose of the calculation of losses under s. 80 of the Act, with the result that the taxpayer was assessed on the basis that the deduction it was entitled to under that section was only 874 pounds, and not 3,374 pounds as it claimed. From this assessment, the taxpayer successfully appealed to the Taxation Board of Review, and the question for this Court is whether or not the 2,500 pounds was "exempt income" for the purposes of s. 80. (at p422)
2. There are several definitions in s. 6 of the Act to which it is necessary to refer - "dividend", as defined, includes "any distribution made by a company to its shareholders . . . and any amount credited to them as shareholders, and 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"; "income from personal exertion" is defined in terms which expressly exclude "dividends"; "income from property" means "income not being income from personal exertion"; "exempt income" means "income which is exempt from income tax and includes income which is not assessable income"; "paid" in relation to dividends includes "credited". (at p422)
3. Passing now to the relevant operative sections of the Act, it is enough to refer to s. 25, which provides that assessable income, where the taxpayer is a resident, includes gross income from all sources which is not exempt income; s. 44 (1), which provides that the assessable income of a resident shareholder shall include dividends paid to him by the company out of profits derived by it from any source; and s. 44 (2), which excludes certain dividends from the category of assessable income, the material exclusion for present purposes being that contained in (b) (iii), as follows: - "profits arising from the re-valuation of assets not acquired for the purpose of re-sale 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". Section 80, the section directly in question, makes provision, within limits, for the deduction of losses in previous years, and by sub-s. (1) provides a formula for the calculation of losses in any particular year for the purposes of the section which is: - "Allowable deductions (as specified) - (assessable income + net exempt income) = the 'loss . . . deemed to be incurred'". (at p423)
4. It was stated as long ago as 1887 that the distribution by a company among its shareholders of shares in the company credited as fully paid out of undivided profits capitalized for the purpose, is in its nature an addition to capital and is not income in the hands of the shareholder. This was decided in Bouch v. Sproule (1887) 12 App Cas 385 in favour of the remainderman against the life tenant when the shares in question had been allotted to the trustees of an estate; that decision was applied in favour of a taxpayer against the Commissioners of Inland Revenue in Inland Revenue Commissioners v. Blott (1921) 2 AC 171; (1921) 8 Tax Cas 101 , the effect of which was summarized by the Judicial Committee in Nicholas v. Commissioner of Taxes (Vict.) [1940] UKPCHCA 2; (1940) AC 744; (1940) 63 CLR 191 in these words: - "Although in form a dividend was declared, it was inevitably at once applied to payment of the capital sums which the shareholders would otherwise have had to contribute. The share of profits so applied was never in the hands of the shareholder, nor had he ever a right to sue for it. Therefore, in no sense could the shareholder be said to have received payment or to have had the right to demand payment of a share of the profits, which, in such an event, would have formed part of his income for the purposes of British super-tax." (1940) AC, at p 757; (1940) 63 CLR, at p 197 . Before Blott's Case (1921) 2 AC 171 it had been decided by the Privy Council in Swan Brewery Co. Ltd. v. The King (1914) AC 231 that the provisions of the Dividend Duties Act 1902 of Western Australia, required a company making such a distribution to pay dividend tax because it had declared a dividend within the meaning of a definition of "dividend" which included "every advantage . . . intended to be paid or credited to . . . any members of any company . . . ". In Commissioner of Income-Tax, Bengal v. Mercantile Bank of India Ltd. (1936) AC 478 , this decision was distinguished as one which depended upon the terms of the Dividend Duties Act. The later decisions followed Inland Revenue Commissioners v. Fisher's Executors (1926) AC 395 in applying Blott's Case (1921) 2 AC 171; (1921) 8 Tax Cas 101 . (at p423)
5. It is to be concluded from these cases and from the statement of "salient points" made by Lord Russell of Killowen for the Judicial Committee in Hill v. Permanent Trustee Co. of New South Wales (1930) AC 720, at pp 730-732 that, when a company having a fund of undivided profits uses it to increase its capital by paying up new shares which are allotted to those who would have been entitled to the fund had it been divided and paid away as dividends, the shares which the shareholders receive are in their nature capital and not income. According to the concepts of company law, although in such a case there must always be a fund of profits available for distribution as dividends, there is no distribution of those profits, but the character of the fund is changed from profits to capital which belongs to the shareholders who would have been entitled to participate in the distribution of the fund and who receive it in its changed condition as fully paid shares, the fund being used for the purpose of paying up the shares. Behind this is the general theory that dividends are distributions of profits, but bonus shares are not. It follows that shares received in such circumstances are not income according to ordinary usages and concepts, and are taxable as income only by virtue of the provisions of the relevant legislation. (at p424)
6. The course taken by the Income Tax Assessment Acts is to depart altogether from the concepts of company law by expressly including bonus shares (which are by their nature capital) within the definition of dividends (which are by their nature income). The result, prima facie, is to give everything that falls within the definition of dividends the character of dividends, that is, income. This prima facie result is, I think, borne out by the scheme of the Act. Thus, the express exclusion of dividends from the definition of "income from personal exertion" carries with it the implication that dividends, as defined, including the paid-up value of shares distributed by a company, are income, but are income from property. The definitions of income from personal exertion and income from property were considered in Nathan v. Federal Commissioner of Taxation [1918] HCA 45; (1918) 25 CLR 183 and it is made apparent that the Court considered that income which does not fall within the definition of income from personal exertion falls within the definition of income from property (1918) 25 CLR, at p 189 . In s. 23, "the income" of enumerated bodies such as charitable institutions, savings banks, provident funds and the like, is exempted from income tax: see s. 23 (e), (ea), (f), (h), (i), (j), (ja), (q), (r). This does, I have no doubt, operate to exempt all dividends, as defined, including "bonus shares", from income tax. Upon coming to s. 44, the leading provision, sub-s. (1), is that the assessable income of a shareholder shall include certain dividends, and the question arises why the reference is to "assessable income" rather than simply "income". It is to be observed, however, that this form of words is commonly used in Div. 2, which deals with "income" (see ss. 25, 28 and 43), and the reason lies in the purpose of the sub-section. That purpose is to make provision for the inclusion of dividends (which are prima facie income) in the category of assessable income by reference to their source. Dividends paid from sources outside Australia are "income" just as much as dividends derived from sources within Australia, but the former are not assessable income in the case of a non-resident shareholder. The sub-section assumes dividends are income for the purposes of the Act and lays down the extent to which they are to be treated as assessable income according to their source. What s. 44 (2) does is to take out of the category of "assessable income" dividends which are "income" and which are "assessable income" by virtue of sub-s. (1), but in doing so it does not deny to those dividends the character of income. It is clear, for instance, that what falls within sub-s. (2) (b) (i), (c) and (d) are dividends which are by their nature income, and I see no reason for treating the sub-section as negativing the character of income accorded by the definition to which I have already referred to bonus shares issued in the manner provided by sub-s. (2) (b) (iii). (at p425)
7. It is my opinion, therefore, that the Act does give to the paid-up value of bonus shares, the character of income. (at p425)
8. It was also argued for the commissioner that the words of s. 44 (2) (b) (iii) indicate that to fall within that provision there must be a declaration and crediting of a monetary dividend by the company to its shareholders which would precede the issue of shares, and that the dividend so declared and credited is income, not only according to the definitions in the Act but according to ordinary usages and concepts. The language of s. 44 (2) (b) (iii) does indicate that the issue of shares is in satisfaction of a dividend paid from profits and in this context there is no reason why the word "paid" should not include "credited". This, it is said, distinguishes Blott's Case (1921) 2 AC 171; (1921) 8 Tax Cas 101 . Moreover, the argument is supported by the examination of what is involved in the issue of bonus shares, that was made by this Court and by the Privy Council in Nicholas v. Commissioner of Taxes (Vict.) [1938] HCA 18; (1938) 59 CLR 230; (1940) AC 744; (1940) 63 CLR 191 where it was decided that the application of accumulated profits to paid-up bonus shares involved a credit from profits to each shareholder which was a dividend credited to that shareholder for the purposes of the Unemployment Relief Tax (Assessment) Act 1933 (Vict.). It was stated by Lord Thankerton: - "There can be no doubt that the company applied a sum of 210,000 pounds from undistributed profits in satisfaction of the amount of the liability which would otherwise have rested on the appellant on the allotment of the 210,000 shares, which was made with his consent, and thus, by the action of the company, the appellant received a benefit in the issue to him of shares credited as fully paid by an application of undistributed profits. In the second place, the distribution of the shares and the application of undistributed profits was among the shareholders only and was in proportion to their holdings in the company, and the application of undistributed profits was also in those proportions, and therefore in the proportions which would regulate the distribution of a dividend. In their Lordships' opinion, such an application by the company of an appropriate proportion of undistributed profits for the benefit of the shareholder is aptly described as crediting the shareholder with the amount necessary to render the shares fully paid, the source of the credit being profits of the company." (1940) AC, at p 754; (1940) 63 CLR, at p 195 . See too James v. Federal Commissioner of Taxation [1924] HCA 34; (1924) 34 CLR 404 , which the Judicial Committee approved. (at p426)
9. It appears to me that approaching the problem that arises from along the lines just indicated, it would be a proper conclusion that a dividend of 2,500 pounds was credited to the taxpayer by the company. In view, however, of the inclusion in the definition of dividend of "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", which is a special provision not to be found in the Victorian Act under consideration in Nicholas v. Commissioner of Taxes (Vict.) [1940] UKPCHCA 2; (1940) AC 744; (1940) 63 CLR 191 or the Commonwealth Act under consideration in James v. Federal Commissioner of Taxation (2), I prefer to rest my decision on the ground that when the taxpayer received the bonus shares, he received as a dividend the paid-up value of those shares. (at p426)
10. For these reasons, I think the taxpayer did derive 2,500 pounds income from the company. (at p426)
11. The question whether that income is properly to be described as "exempt income" is not, I think, a question of great difficulty, because the definition of "exempt income" recognises that two categories of income are covered: (1) that which is elsewhere described as "exempt income", and (2) that "which is not assessable income". When reference is made to s. 44 (2) (b) (iii), it is found that the dividends there described are taken out of the category of the "assessable income" of the shareholder, and it seems to me that what falls within this provision, if it be income, must fall within the definition of "exempt income". (at p427)
12. It remains to add that, although the articles of association of Dewcrisp Products Ltd. provide adequately for the capitalization of profits and for the issue of bonus shares, the course that was followed departed altogether from those articles. In this case, it is not, however, necessary to pursue the consequences of these irregularities because it is common ground between the parties that there was an issue of shares by the company to the taxpayer which fell within the provisions of s. 44 (2) (b) (iii) and my decision is based upon that assumption. (at p427)
13. For the reasons I have given, I consider the question asked in the case stated should be answered Yes. (at p427)
ORDER
Question in the case stated answered Yes. The respondent taxpayer to pay the costs of the case stated.
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