North Coast Grazing Pty. Limited v. Federal Commissioner of Taxation.
87 ATC 4553
Full Federal Court
Judgment date: Judgment handed down 19 June 1987.
Bowen C.J., Neaves and Burchett JJ.: In this case North Coast Grazing Pty. Limited ("the taxpayer") appeals from a judgment delivered by Rogers J. in the Supreme Court of New South Wales on 19 December 1986 [86 ATC 4942]. The respondent is the Commissioner of Taxation ("the Commissioner"). The two grounds of appeal put forward may be stated as follows:
- (1) That his Honour erred in holding that an incorrect characterization of what in truth was assessable income as a capital profit in the taxpayer's profit and loss statements constituted an omission of assessable
87 ATC 4554
income for the purpose of sec. 226(2) of the Income Tax Assessment Act 1936 ("the Act").
- (2) Alternatively, that his Honour erred in holding that the Commissioner had not blindly obeyed a predetermined policy in exercising his powers of remission pursuant to sec. 226(3) of the Act.
The taxpayer seeks orders setting aside the judgment and orders of the Supreme Court and allowing the appeal to the extent of the penalties inflicted under sec. 226(2) of the Act and an order setting aside such penalties. It also seeks an order that the Commissioner pay the taxpayer's costs of this appeal and that each party pay its own costs in the Supreme Court.
The hearing before the Supreme Court related to income tax returns for the income years ended 30 June 1978-1984 inclusive. There were seven separate matters but these were heard together and one judgment was given. There is but one notice of appeal from the judgment and orders of Rogers J.
The contest in the trial Court concerned largely the issue whether profits made by the taxpayer upon sales of parts of two properties which may conveniently be referred to together as a property called Hearns Lake were assessable income within the terms of sec. 26(a) of the Act. The taxpayer claimed that the property at Hearns Lake was purchased for the purpose of improving it and running cattle on it with a view to establishing a cattle stud. The profit made on the subsequent sales progressively over the years in question was in each year disclosed as a non-assessable capital profit. The Commissioner contended that in fact the property had been acquired for the purpose of profit-making by sale, or from the carrying on or carrying out of a profit-making undertaking or scheme. The learned trial Judge upheld the Commissioner's contention on this point. He held affirmatively that the property had been acquired for the purpose of profit-making in terms of sec. 26(a) of the Act. There has been no appeal lodged against this part of his Honour's decision.
In relation to the orders in question, returns were made year by year and assessments were issued which did not tax the profits disclosed in relation to the sale of the Hearns Lake property. Eventually, following some investigation by the Commissioner, assessments were issued which taxed as assessable income the amount of profit disclosed as a capital profit each year in the various returns and which imposed, in pursuance of sec. 226(2), in each year additional tax as follows:
Return for year of Amount of additional
income ended tax
30 June 1978 $ 18,050
30 June 1979 $ 16,280
30 June 1980 $ 31,186
30 June 1981 $ 38,016
30 June 1982 $ 2,710
30 June 1983 $ 43,687
30 June 1984 $ 24,430
It was argued before his Honour that this additional tax was not properly assessed. The grounds argued were similar to those stated in this appeal to which we have already referred. His Honour decided in favour of the Commissioner on both the Commissioner's power to impose the additional tax and the correctness of the Commissioner's procedure in exercising his discretion in imposing it. It is from his Honour's decision in that regard that the appeal comes to this Court.
One matter should be mentioned. In the year ended 30 June 1984 additional tax was assessed at the sum of $24,430, but in respect of that assessment Rogers J. decided in favour of the taxpayer, by reason of an amendment of the law which occurred before the date of the assessment of this additional tax. There has been no appeal against that finding. The amount in issue between the parties is thus reduced to $149,929.
We turn now to the question whether the Commissioner was correct in assessing the taxpayer for additional tax in the years ended 30 June 1978-1983 inclusive. This depends upon the interpretation of the terms of sec. 226(2) of the Act. During the interim period leading to these hearings there were some amendments to the Act but they are not material to the question. Section 226(2) in its form at the beginning of the period (a form which remained relevantly unchanged) was as follows:
"226(2) Any taxpayer who omits from his return any assessable income, or includes in his return as a deduction for or as a rebate
87 ATC 4555
in respect of, expenditure incurred by him an amount in excess of the expenditure actually incurred by him, shall be liable to pay as additional tax an amount equal to double the difference between the tax properly payable by him and the tax that would be payable if it were assessed upon the basis of the return furnished by him, or the amount of Two Dollars, whichever is the greater."
The question, shortly stated, is whether the taxpayer omitted from its return any assessable income. Assessable income is defined in sec. 6 of the Act to mean "all the amounts which under the provisions of this Act are included in the assessable income". This definition is, of course, appropriate to catch amounts assessable under sec. 26(a) of the Act although it may be noted that what is caught under sec. 26(a) is not an amount received but a difference between two figures, namely, between a figure of cost and a figure representing proceeds of sale which results in a profit. It is the profit, that is, the difference which is brought in as assessable income. Having regard to the findings of the learned trial Judge there is no doubt that the profit, which in each case was stated in the return but was described as a capital profit, was assessable income. It follows that the question is whether the taxpayer has omitted, that is, left out, this assessable income from its return in each year. The question is a curious one because the figures actually assessed by the Commissioner in the amended assessments were the figures stated in the returns of the taxpayer in each year, the difference being that they were stated as capital profit, not assessable income. Yet the question is whether the taxpayer omitted any assessable income from its return.
Before turning to the submissions of each of the parties it is necessary to refer in more detail to the facts of the case in order to appreciate the force of each side's argument. We turn first to the taxpayer's income tax return for the income year ended 30 June 1978. In this return the taxpayer disclosed under the heading "STATEMENT OF TAXABLE INCOME" a "NET PROFIT as per Profit and Loss Account". A copy of the taxpayer's profit and loss statement was attached in the usual fashion and this showed an amount of profit of $22,836. One of the items in gross profit included in this part of the statement was "Gross profit on land trading $39,693".
It may be mentioned that the form of return made provision for the addition of "Income not included in Profit and Loss Account"; against this no amount was included in the taxpayer's return. However, the attached statement of profit and loss continued and below the profit from operations was disclosed the following:
Capital profit on sale of Hernes [sic] Lake $36,005."
In the Directors' Report furnished with the return there appeared the following statement in para. 3:
"3. The company disposed of a portion of its farming property at Woolgoolga. Apart from this, the results of the company's operations for the financial year were not, in the opinion of the directors, substantially affected by any item, transaction or event of a material and unusual nature."
On p. 2 of the income tax return form the taxpayer indicated that "Capital Profits" had increased during the year by $36,005 under the heading "MOVEMENTS IN PROVISION AND RESERVE ACCOUNTS". Finally, in Sch. 3, the taxpayer disclosed in relation to freehold land and buildings held at 30 June 1978 at cost figures relating to Woolgoolga property (Hernes [sic] Lake) stating purchase price less portion sold.
In relation to the years of income ended 30 June 1979 to 1983 inclusive substantially similar disclosures were made by the taxpayer in relation to profits made on the sale of parts of the Hearns Lake property. However, the reference to the "Extraordinary item" varied slightly in some later returns. For example, in the return for the year of income ended 30 June 1979 there was disclosed at the bottom of the profit and loss statement the following:
"Extraordinary item (no tax applicable)
Capital Profit on sale of Hernes [sic] Lake $38,230."
This form was identical for the year 1980 and varied only in the use of the words "Capital gain" rather than "Capital Profit" for the years 1981, 1982 and 1983.
In each printed form of return provision was made for the taxpayer to indicate whether or
87 ATC 4556
not it had made any sales during the year of income of real estate, stock, shares or other property. In the returns for each of the years ended 30 June 1978-1980 inclusive the taxpayer put a cross in the box indicating a negative and in the latter years a cross in the box indicating a positive. No counsel representing the parties on this appeal attached any significance to this.
Upon these facts counsel for the Commissioner argued that the taxpayer had omitted the assessable income in question from its return in each of the years under consideration. Although the taxpayer had not left the figure out altogether but had in fact stated it, it had stated it as a capital profit, and in some years added "no tax applicable". Counsel for the taxpayer agreed their client had failed to disclose sufficient facts to enable the Commissioner to conclude on the material submitted in the return that it was indeed assessable income.
It was submitted on behalf of the Commissioner that it is also necessary to consider the setting in which sec. 226(2) occurs in the Act, and the obligations which rest upon the taxpayer in making his return in order to decide this question. Reference was made to sec. 161(1) of the Act which provided in the relevant period as follows:
"161(1) Every person shall, if required by the Commissioner by notice published in the Gazette, furnish to the Commissioner in the prescribed manner, within the time specified in the notice, or such extended time as the Commissioner may allow, a return signed by him setting forth a full and complete statement of the total income (other than income upon which withholding tax is payable) derived by him during the year of income, and of any deductions claimed by him, and also setting forth such information (if any), being information that it is necessary for the Commissioner to obtain for the purposes of the administration or operation of a State income tax law, as is prescribed:
Provided that the Commissioner may, in the notice, exempt from liability to furnish returns such classes of persons not liable to pay income tax as he thinks fit, and any person so exempted need not furnish a return unless he is required by the Commissioner to do so."
Reference was also made to the Income Tax Regulations, in particular reg. 9(1) which provided and still provides as follows:
"9(1) Except as otherwise prescribed, every return under the Act shall -
- (a) be made and furnished in such of the forms provided by the Commissioner for the purpose as is applicable;
- (b) contain the information and particulars mentioned or referred to in that form;
- (d) be accompanied by all such balance-sheets, profit and loss accounts, statements and other documents, as are mentioned in the form or as are requisite."
and reg. 11(1) which provided and still provides as follows:
"11(1) The form of return applicable in the case of companies shall provide for -
- (a) a statement reconciling the net profit as per the profit and loss account with the net taxable income;
It was strongly argued by the Commissioner that the word "omit" in sec. 226(2) impliedly required sufficient disclosure of material facts in the return to enable the Commissioner to determine the assessability of the item in question. It was not a question of characterization of the income by the taxpayer. It was submitted that sec. 226(2) operated if the taxpayer failed in stating its taxable income to add to its net profit as per its profit and loss accounts "income not included" in those accounts in the form of the profits made upon the resale of the several parts of the subject properties which were sold in the respective years. It was said that the taxpayer "omitted" from its returns assessable income in that it failed to make a full and true disclosure of all the material facts referable to the profits arising from the sale of the several parts of the subject properties sufficient to enable the Commissioner to determine whether or not such profits constituted assessable income. In particular it was submitted that where property has been acquired for the purpose of profit-making by sale, as was held to be the case here, a full and true disclosure would only
87 ATC 4557
have been made if that purpose had been stated in the return.
Turning to the submissions of counsel for the taxpayer, it was argued that the item which ultimately turned out to be assessable income was stated in each return. It had not been left out or omitted from the return. Indeed he argued that it was the most significant item in the relevant years and was conspicuously disclosed as an extraordinary item. It was common ground between the parties that the accompanying schedules to each return were part of the return.
Counsel for the taxpayer further argued that the fullness and adequacy of the disclosure was not a matter to which the words of sec. 226(2) were directed as was the case in other sections. It was said that the word "omit" was neutral so far as any failure on the part of a taxpayer was concerned in regard to the fullness of his disclosure. It was used deliberately, and when it was desired to deal with a failure to make full and true disclosure the draftsman said so. Section 170 is an example of this. Reference was also made to other sections under which penalties might be imposed on a taxpayer for deficiencies in his return, including sec. 227 and following sections.
It was further stated that sec. 226(2) was designed to penalize omission just as it was designed to penalize excess statement of expenditure. It was pointed out that if it were necessary in one's return to characterize even a disputed item as assessable income before one could escape the penalty imposed in sec. 226(2) assessment would be the inevitable result. Then the taxpayer would be embarrassed in objecting because the Commissioner would have assessed in accordance with the taxpayer's return. In other words, it was not a question of the taxpayer having an obligation to characterize the item as assessable income. It was a question whether there being assessable income the taxpayer had omitted it from its return. Reference was made to
F.C. of T. v. Rabinov & Anor 83 ATC 4437; (1983) 50 A.L.R. 541, which was relied on as indicating sec. 226(2) is not concerned with the correct or incorrect characterization of income or expenditure but rather with the objective fact of a claim for excess beyond the expenditure actually incurred or the actual omission of an amount which was assessable income.
It must be stated that in view of the findings of the learned trial Judge this is not a case in which one is able to view with any degree or enthusiasm the disclosures made by the taxpayer in its returns. However, it appears to our minds that a taxpayer, who actually includes the precise item in his return which turns out to be assessable income, and indeed draws attention to it, notwithstanding he claims in one form or another that it is not assessable income as, for example, by classifying it as or asserting it to be a capital receipt, has not omitted it from his return notwithstanding it turns out to be assessable income. In our view, sec. 226(2) is dealing with an objective position, either omission of items which are assessable income from the return, that is leaving them out, or stating expenditure to be an amount in excess of that actually incurred, whether in respect of a claimed deduction or a claimed rebate. It is not, in our opinion, directed at the degree of disclosure which the taxpayer makes in his return where he includes the item.
In its setting in the then Pt VII, sec. 226(2) followed sec. 223 and 224 (creating offences in respect of the failure to furnish a return or information), sec. 225 (providing in certain cases for the making of orders to furnish returns or information), and sec. 226(1) (imposing a liability to additional tax equal to the tax assessable where a taxpayer "fails to duly furnish as and when required by this Act or the regulations, or by the Commissioner, any return or any information in relation to any matter affecting either his liability to tax or the amount of the tax"); and was followed by provisions creating offences and enabling the Court upon conviction to order payment to the Commissioner of amounts up to double the amount of tax avoided in cases involving returns "false in any particular", false answers to questions put by the Commissioner, knowing and wilful understatement of the amount of any income, misstatement affecting the liability to tax or the amount of tax, and fraudulent avoidance of assessment or taxation (see sec. 227, 230 and 231).
The vital words in sec. 226(2), in the present case, to our minds are:
"Any taxpayer who omits from his return any assessable income..."
"[H]is return" must refer back to the obligation imposed by sec. 161 to "furnish to
87 ATC 4558
the Commissioner in the prescribed manner... a return signed by him setting forth a full and complete statement of the total income (other than income upon which withholding tax is payable) derived by him during the year of income, and of any deductions claimed by him". There was and is no definition in the Act of "return", though subsequently there was inserted in sec. 6(1) a definition of "return of income" to encompass profits or gains of a capital nature (a definition inserted presumably as a consequence of the enactment of Pt IIIA).
It was conceded, no doubt correctly, that for the purposes of sec. 226(2) assessable income would not be omitted from a taxpayer's return if a sufficient statement of it was to be found in the schedules annexed to the return. But the question is whether a taxpayer who has complied with his obligation under sec. 161, to the extent that he has lodged a return stating all amounts which are income derived by him, should nevertheless be held to have omitted from his return assessable income because he has wrongly claimed in his return that an identified receipt was of a capital nature. The learned Supreme Court Judge answered this question as follows at p. 4955:
"In the present case, the taxpayer, although disclosing the fact of the receipt of the moneys in question, not only did not disclose it as assessable income but, indeed, by the description `capital profit', denied that the moneys constituted assessable income. It seems to me to be effecting surgery on the English language to say that there is a disclosure of assessable income by a person who, in terms, denies the receipt of assessable income. If there is no disclosure then, in my opinion, there is omission."
With respect to the learned Judge, his reference to the failure of the taxpayer to disclose the receipt "as assessable income", and his reliance on the assertion by the taxpayer that it constituted a capital profit, involve an assumption that sec. 226(2) is concerned with more than the omission of the income, and penalizes a failure to characterize the income correctly as assessable income. For a number of reasons, we cannot accept that this is the true construction of the subsection.
In the first place, we can see no warrant for reading into the section words which are not there. The subsection does not refer to a taxpayer who omits to state in his return that any income, which is in fact assessable income, is assessable income, but simply refers to the omission from the return of any assessable income. If the amount of income is included in the return, the subsection is not contravened according to its terms. The whole weight of the contrary argument must rest upon the word "assessable" in the expression "omits from his return any assessable income"; but that is a weight the word cannot bear. It merely identifies the income which must not be omitted, that is to say, income which is in fact assessable. Without reading in the word "as", which the learned Judge does in the passage we have cited, the legislative statement that the income which must not be omitted is assessable income, simply does not sustain the respondent's argument.
It appears to us that to construe sec. 226(2) as requiring the word "omit" to be read as applying where an item has in fact not been left out but indeed has been included, or to treat assessable income as having been omitted where additional information constituting sufficient information to enable the Commissioner to arrive at a conclusion about its assessability has not also been included, is to place too much weight altogether on a fairly simple word.
In the second place, the subsection must be read in its context. There is a logic to that context which denies the Commissioner's argument. Preceding sections, which we have summarised, are aimed at ensuring that the Commissioner can secure returns and information which he requires, but do not impose penalty tax. Succeeding sections enable a court, in cases where false information is furnished, to impose an appropriate penalty up to double the amount of tax sought to be avoided. As the furnishing of false information may occur in circumstances of widely varying culpability (as the former sec. 227(2) in particular recognizes), and may have to be proved by a process involving the examination of strongly conflicting evidence, it is a clearly comprehensible policy to commit to a court the task of determining, after a judicial hearing at which those circumstances and any such evidence can be examined, the extent to which a penalty should be imposed.
Sandwiched between the provisions we have described, the former sec. 226(2) fulfilled a
87 ATC 4559
distinct function. It imposed, by force of the statute itself, a penalty which the Commissioner, not a court, might wholly or partly remit. It seems completely consistent with the legislative scheme to read sec. 226(2) as referring to circumstances quite discrete and separable from those with which the succeeding provisions are concerned. Problems of the attribution of fraud and the credit of witnesses the legislature has left to the Court upon a prosecution, but simple failures to furnish returns or information required or to include items of income which are assessable in returns, or the inclusion in returns of expenditure not incurred, may readily be supposed to have been regarded by the legislature as proper for administrative decision as to the appropriate penalty. That even these questions may in particular cases involve difficult exercises of discretion does not deny the general distinction. The context in our view strongly supports the construction which in any case the language used naturally suggests.
In the third place, the matter is not free of authority. In F.C. of T. v. Rabinov & Anor (supra) Fox, Toohey and Lockhart JJ., in a joint judgment, seem to us clearly to have taken a view contrary to that taken below in the present case. At ATC p. 4439; A.L.R. p. 543 their Honours said:
"In our opinion sec. 226(2) does not have the operation contended for by the Commissioner. The subsection is concerned with these situations:
- (i) the omission from a return of assessable income;
- (ii) the inclusion as a deduction of an amount in excess of expenditure actually incurred;
- (iii) the inclusion of false information in relation to a claim for a rebate.
Although it was not suggested to the Court that these situations should be read ejusdem generis, it is possible to discern a common characteristic, viz. that facts are withheld from or falsely stated to the Commissioner. It is the failure to make a full and true disclosure of relevant information that attracts a liability to additional tax, not a failure properly to characterise an amount which has been disclosed."
Although in this passage there is a reference to "full and true disclosure", the context makes it plain that this was simply an attempt to subsume in one phrase the three categories of cases dealt with in sec. 226(2), in order to set them apart from a failure properly to characterize an amount which has been disclosed.
In Rabinov's case the Court was concerned with the second part of sec. 226(2), dealing with the inclusion in a return as a deduction of an amount in excess of expenditure actually incurred. The taxpayer there had claimed to have made a gift in circumstances of extreme artificiality which could not possibly sustain the claim, but as he had actually incurred the expenditure, and the vice of his return was the failure to disclose its correct characterization as irrelevant to his taxation liability, or the circumstances from which that characterization would have clearly appeared, and not an incorrect statement that expenditure had been incurred which had not been incurred, the Court dismissed the Commissioner's appeal. In the present case it was argued that the decision should be distinguished. But at ATC pp. 4439-4440; A.L.R. pp. 543-544 the Court made it plain that the same principle applied in its opinion to the omission of assessable income. For it referred to
Newton v. F.C. of T. (1958) 98 C.L.R. 1 where income had been omitted in the true sense, that is to say, there was no reference to the receipt of the income in the return. The Court commented (at ATC p. 4440; A.L.R. p. 544):
"The taxpayer was held liable to additional tax, not because of failure to characterise an amount correctly but because of failure to include the amount in the return."
If, in the face of these considerations, there remains a doubt whether nevertheless the subsection does not extend to a case such as the present, there is a further consideration. Accepting that in modern times the rule of strict construction of penal statutes has lost much of its importance (see
Beckwith v. The Queen (1976) 135 C.L.R. 569 at pp. 576 and 578), it would turn it on its head to construe sec. 226(2) (which is a penal provision: see
D.T.R. Securities Pty. Limited v. D.F.C. of T. 87 ATC 4156 dealing with sec. 207) in the manner contended for, thereby enlarging, to cover cases not clearly stated to be within it, a provision which allows an administrative
87 ATC 4560
officer, without anything approaching a hearing, to require the payment of a very substantial penalty by a citizen. It is still true to answer, when the Court is asked to take such a step, that there is an "established principle of statutory interpretation requiring strict construction of a penal statute":
Smith v. Corrective Services Commission (N.S.W.) (1980) 147 C.L.R. 134 at p. 139.
The respondent attempted to support the imposition of the penalty only pursuant to sec. 226(2). In our opinion that attempt must fail. The appellant should succeed on this question arising on the appeal.
As to the second ground of appeal, concerning the exercise of the Commissioner's discretion under sec. 226(3), in view of the decision to which we have come in answering the first question, this strictly does not arise. However, as the matter was argued, and the guidelines which were issued by the Commissioner were before us in the form of Taxation Ruling IT 2012, we may say that we see no reason to differ from the view of the learned trial Judge that in this particular case the relevant officer in the office of the Commissioner of Taxation did not blindly obey a predetermined policy but did direct his mind in addition to the actual facts of the case and the application of the policy to that case.
In the result we would allow the appeal with costs.
THE COURT ORDERS THAT:
(1) The appeal be allowed.
(2) The orders made by his Honour Mr Justice Rogers in the Supreme Court of New South Wales be set aside, so far as concerns the assessments in respect of additional tax for the years ended 30 June 1978, 1979, 1980, 1981, 1982 and 1983, and so far as concerns the costs of the appeals to the Supreme Court of New South Wales.
(3) In lieu of the orders set aside:
- (a) The appeals to the Supreme Court of New South Wales be allowed to the extent of the additional tax imposed under sec. 226(2) of the Income Tax Assessment Act 1936 for the years ended 30 June 1978, 1979, 1980, 1981, 1982 and 1983 amounting in all to the sum of $149,929, as well as to the extent of the additional tax imposed under sec. 226(2) for the year ended 30 June 1984 in the sum of $24,430.
- (b) Each party pay its own costs in the Supreme Court of New South Wales.
(4) The Commissioner of Taxation pay to North Coast Grazing Pty. Limited its costs of this appeal.