N338

PAPUA NEW GUINEA

[NATIONAL COURT OF JUSTICE]

CHIEF COLLECTOR OF TAXES

V

FOLKES

Waigani
Andrew J

5-7 October 1981
8 April 1982

INCOME TAX - Arrangement to avoid liability for tax - What constitutes - Private company - Sale of all shares - Accumulated profits - Dividends withheld - Loan to taxpayer/shareholder - Whether steps leading to sale constituted arrangement for purpose of avoiding tax - Income Tax Act 1959, s. 3611.

An arrangement to evade tax which falls within s. 361 of the Income Tax Act 1959:

(a) may extend over a period of years and at its inception it is not necessary to be able to predict each precise step by which it will be implemented;

(b) requires that the character of the acts done and the transactions entered into over a period, viewed objectively, constitute a unified plan;

Slutzkin v. Federal Commissioner of Taxation (1977) 140 C.L.R. 314,
Federal Commissioner of Taxation v. Cooper Brookes (Wollongong) Pty. Ltd. (1979) 79 A.T.C. at pp. 4398-4415; and

Steinberg v. Federal Commissioner of Taxation (1975) 134 C.L.R. 640 applied,

(c) requires, for the purposes of such a uniform plan, that later events be characterized as part of the arrangement of which earlier events also form a part.

(d) and requires, that the purpose or effect of the whole plan should be the avoidance or reduction of tax, by the taxpayer, not the transferring of the incidence of tax from one taxpayer to another.

Where, a company formed in 1967, borrowed moneys in 1972, which were loaned to a shareholder thereof (the taxpayer) for the purpose of buying out other shares in the company (which was effected by 1976) and where profits of the company were allowed to accumulate, dividends were withheld, and the loan to the taxpayer accumulated interest which remained unpaid, until in 1978, when there was a sale of the shares in the company for a capital sum, and on such sale the price was increased to cover the amount of the accumulated loan and interest so that without declaring a dividend it could be extinguished by an exchange of cheques, which involved the sale (and simultaneous conversion to cash in the identical amount of the sale price) of the taxpayer’s debt to the company:

Held:

(1) A sale of shares in a company with accumulated profits, does not on its own fall within s. 361 of the Income Tax Act 1959;

(2) Viewed objectively there was no connection between the earlier accumulation of profits and the withholding of dividends and the later transaction which was a sale of a capital asset and there was, accordingly, no arrangement having any purpose or effect of tax avoidance under s. 361(2).

Cases Cited:

Bell v. Federal Commissioner of Taxation (1953) 87 C.L.R. 548.
Chief Collector of Taxes, The v. Bailes [1973] P.N.G.L.R. 411.
Chief Collector of Taxes, The v. Thomas [1976] P.N.G.L.R. 571.
Cridland v. Federal Commissioner of Taxation (1977) 140 C.L.R. 330.
D.J.E. Constructions Pty. Ltd. v. Maddocks [1982] 1 N.S.W.L.R. 5.
Federal Commissioner of Taxation v. Cooper Brookes (Wollongong) Pty. Ltd. (1979) 79 A.T.C. 4398.
Hancock v. Commissioner of Taxation (1961) 108 C.L.R. 258.
Mullens v. Federal Commissioner of Taxation (1976) 135 C.L.R. 290.
Newton v. Commissioner of Taxation [1958] A.C. 450; (1958) 98 C.L.R. 2.
Slutzkin v. Federal Commissioner of Taxation (1977) 140 C.L.R. 314.
Steinberg v. Federal Commissioner of Taxation (1975) 134 C.L.R. 640.
Thomas v. The Chief Collector of Taxes [1975] 6 A.T.R. 95.

Appeal:

This was an appeal from the Income Tax Review Tribunal.

Counsel:

J. Burchett Q.C. and J. Geddes for the appellant.
G. Davies Q.C. and P. Dempsey for the respondent.
Cur. adv. vult.

8 April 1982

ANDREW J: This is an appeal by the Chief Collector of Taxes against a decision of the Income Tax Review Tribunal up-holding the taxpayer’s appeal from an assessment of income ending 31st December, 1978, and reducing the income assessed by the amount of K82,712.

The Chief Collector had included this amount in his assessment due to the existence, in his opinion, of an arrangement the purpose of which was to avoid tax under the Income Tax Act 1959, s. 361.

The essential facts are not in dispute. The taxpayer and one Smith formed Papua New Guinea Motels Pty. Ltd. (the company) in 1967. They were equal shareholders and the company was incorporated to build and run a motel and each held 12,001 shares of $1 each. In September 1972, Smith wished to sell his shares and the taxpayer agreed to buy them for $82,000 payable $60,000 forthwith and the balance in 1975. The company borrowed $60,000 from a finance company on the security of the company’s motel property and taxpayer’s shares. The company then lent a similar amount to the taxpayer at the same rate of interest but on demand and without security. The taxpayer used the funds borrowed by him to purchase shares. This meant that the company was financing a purchase of its own shares and was therefore an illegal act under s. 67 of the Companies Act 1963. However, the illegality of the loan did not prevent the share transfer itself, once effected, being valid: D.J.E. Constructions Pty. Ltd. v. Maddocks [1982] 1 N.S.W.L.R. 5.

As at 30th June, 1973, shares in the company were shown to be held as to 24,001 by the taxpayer and 1 by his wife. At some time before the 1978 year the holdings had changed to 12,001 held by the taxpayer and 12,001 by the wife.

The following additional facts were found by the Tribunal and remain unchallenged:

“... 1. As at 30th June, 1973, the company had accumulated profits of $106,218; it owed $60,785 (apart from interest) to the finance company and was owed $66,915 by the taxpayer apparently comprising the amount advanced to him together with interest for that year. One dividend only (of $5,000 in 1973) had been declared by the company. That dividend was applied in paying off a 1972 advance of $5,000 to the taxpayer.

The company duly completed payment of its debt to the finance company, apparently by 1976. However, the director’s loan account continued to increase at least by the amount of interest debited on the loan each year. The director’s loan account was the subject of enquiry by the Chief Collector concerning the possible application of s. 144 of the Act in relation to the 1973 year and again in 1976 when it reached K92,972. No action was taken by the Chief Collector. In the period 1st January, 1978, to 31st August, 1978, the loan account increased from K120,081 to K124,381 including interest.

Over the period since Smith had departed and the motel was run by the taxpayer and his wife, the taxpayer regarded it as ‘a good business but it had been necessary to redecorate, re-carpet, replace air-conditioning and to make some extensions’. His accountant regarded the profit as small—’more or less breaking even with K20,000 profit each year but with potential if extended.’ The company bank account was overdrawn by K37,493 at 31st December, 1977, and K13,549 at 31st August, 1978. The taxpayer stated in reference to the whole period he was involved in the business, that he left the conduct of its financial affairs to his accountant and book-keeper. His accountants gave advice from time to time and he was in the habit of acting upon it. It was clear that the taxpayer understood that the motel business was carried on by a company. However, he spoke of the business as a partnership and the assets as if they were his property rather than the property of the company.”

I should interpolate here that the findings that earnings were small is under challenge: it being submitted that the fact that the loan from the finance company was paid off out of earnings which were considerable as evidenced by the fact that a total loan of $80,000 plus interest was paid off in two or three years.

“In 1978 the taxpayer decided to ‘sell’ the ‘motel’. This could have been achieved by the company selling the business and the land and other assets used in the business or the taxpayer and his wife could sell their shares in the company. The prospective purchaser wanted to purchase the shares, not the business and assets.”

The Tribunal’s undisputed findings continued as follows:

“A price was agreed orally about a week later. The taxpayer was uncertain as to the amount. I think it probable that the figure first mentioned was K260,000 clear of agent’s commission. I am satisfied that the agreement as to price in respect of the land, buildings etc., was for K250,000 after K13,000 commission, i.e. K263,000 gross. On 24th August, 1978, an amount of K26,300 was paid by P. to the agent E.A. The agent’s receipt was endorsed ‘for 10% deposit on the sale of... motel’. At this stage it was revealed that the purchaser was not P. but a company in the course of formation for which P. was acting. The prospective buyer B. Pty. Ltd., was registered soon after. Further negotiations were delayed apparently because funds were not available to the prospective purchaser. The taxpayer stated definitely that ‘I would not give it up or leave it or put it in his hands until I got settlement’.

It was arranged that the taxpayer should stay and manage the motel for a fee of K240 per week. The taxpayer continued at the motel until the execution of the contract.
Accounts for the company for the period 1st January, 1978, to 31st August, 1978, were prepared under the supervision of accountant and forwarded to the taxpayer’s solicitors. An abbreviated form of the balance sheet is as follows:

Liabilities	K	Assets	K	
Issued capital	24,002	Land, buildings, plants, etc.	101,657	
Unappropriated profits	165,164	Stock	1,500	
Bank overdraft	13,549	Trade debtors	8,055	
Trade creditors	6,693	Director’s Loan Account	124,381	
Accruals & Provisions	26,975	Cash	490	
Formation expense	300			
	K236,383		K236,383	

A contract of sale was executed on 24th November, 1978, and settlement took place on 8th December, 1978. The agreed purchase price was K350,209.00. The vendors were required to cause to be repaid all of the present loans to the directors. Cheques covering the agreed purchase price of K350,209 (reduced by the agent’s commission and increased by service fees to the taxpayer) were paid into the account of the taxpayer and his wife.

A cheque was then drawn on their account in favour of the company, being the amount required to be paid to the company to discharge the director’s loan account.

It is clear that the taxpayer understood that he was selling the motel for a price of either K250,000 or K260,000 and that he depended on his solicitor and accountant to make all the necessary arrangements and to document the sale.

The taxpayer’s income tax return for the period ended 31st December, 1978, showed only salary from the company (until 24th November, 1978). However in that return the taxpayer disclosed that he had disposed of the 12,001 shares in the company; and he claimed that the sale was “of a capital nature” and not assessable under any provision of the Income Tax Act 1959.

The Chief Collector in assessing the taxpayer included as income an amount for board and quarters and also K82,712 described as “one half of the unappropriated profits of (the company) as at the date of sale of your shares in the company (8.12.78)”. The taxpayer’s objection in respect of the amount of K82,712 was:

“... that the assessment should be reduced by the excession of K82,712 (being one half of the unappropriated profits of (the company) as at the date of sale of his shares in the company and included in the taxpayer’s assessable income as an amount deemed to be a dividend by reason of the operation of s. 361(5) of the Income Tax Act 1959.”

The taxpayer claimed that the amount of K82,712 was a capital sum. The Chief Collector disallowed the claim as “the sale of the shares in (the company) is in the opinion of the Chief Collector an arrangement within the provisions of s. 361 and the amount of K82,712 is properly included in the taxpayer’s assessable income”. The particulars supplied by the Chief Collector were as follows:

“The plan, understanding or arrangement pursuant to which profits of the company were accumulated, dividends withheld and the loan to the taxpayer arranged and permitted to accumulate interest and remain unpaid, until sale of the shares for a capital sum, and on such a sale the price was increased to cover the amount of the accumulated loan and interest so that without declaring a dividend, it could be extinguished by an exchange of Cheques, which involved the sale (and simultaneous conversion to cash in the identical amount of the sale price) of the taxpayer’s debt to the company.

Reliance is placed on each of the foregoing aspects individually any two or more of them collectively and additionally or alternatively on the conversion of the sale of the company’s tangible assets, the motel, to a sale of the shares for a very much larger price including the amount of the said loan and interest and on the basis it would be immediately paid out by an exchange of Cheques, resulting in the inappropriate profits being received as capital by the shareholders.

The arrangement includes all the steps taken to carry it out by sale of the shares.”

Evidence has been given by Mr. Hill and Mr. Gaylard, both chartered accountants and taxation specialists, to the effect that it is common practice in Papua New Guinea for private companies not to declare dividends but to accumulate profits. Various explanations were advanced for this but I think it is only necessary for me to say that I accept the evidence of both Mr. Hill and Mr. Gaylard as being expert evidence and I accept all of that evidence.

Section 361 was amended with effect as from 14th November, 1978 (see now s. 368 Income Tax Act (Ch. 110)) and is as follows:

361. CONTRACTS OR ARRANGEMENTS TO EVADE TAX (1) IN THIS SECTION

“Arrangement” means any contract, agreement, plan or understanding (whether enforceable or unenforceable) including all steps and transactions by which it is carried into effect;

“Liability” includes a potential or prospective liability in respect of future income;

“Tax avoidance” includes:

(a) directly or indirectly altering the incidence of any income tax or dividend (withholding) tax; and

(b) directly or indirectly relieving any person from liability to pay any income tax or dividend (withholding) tax or make any return required to be made under this Act; and

(c) directly or indirectly defeating, avoiding, evading, reducing or postponing any duty or liability imposed on any person by this Act; or

(d) preventing the operation of this Act in any respect.

(2) Every arrangement made or entered into, whether before or after the commencement of section 11 of the Income Tax (Amendment) Act 1978, is absolutely void as against the Chief Collector for income tax or dividend (withholding) tax purposes or in regard to any proceedings under this Act if and to the extent that, directly or indirectly:

(a) its purpose or effect is tax avoidance; or

(b) where it has two or more purposes or effects (not being a merely incidental purpose or effect) is tax avoidance whether or not any other of its purposes or effects relate to, are referrable to, ordinary business or family dealings,

whether or not any person affected by that arrangement is a party to the arrangement.

(3) Where an arrangement is void by virtue of subsection (2), the assessable income and the non-assessable income of any person affected by that arrangement shall, for the purposes of assessing that person’s liability to income tax or dividend (withholding) tax, be adjusted in such manner as the Chief Collector considers appropriate so as to counteract any tax advantage obtained by that person from or under that arrangement and, without limiting the generality of this subsection, the Chief Collector may have regard to such income as in his opinion:

(a) that person would have, or might be expected to have, or would in all likelihood have, derived if that arrangement had not been made or entered into; or

(b) that person would have derived if he had been entitled to the benefit of all income or of such part thereof as the Chief Collector considers proper, derived by any other person as a result of that arrangement.

(4) Where any income is included in the assessable income or as the case may be, in the non-assessable income of any person pursuant to subsection (3), then for the purposes of this Act, that income shall be deemed to have been derived by that person and shall be deemed not to have been derived by any other person.

(5) Without limiting the generality of subsection (1) to (4) (inclusive), where in any year of income a person sells or otherwise disposes of any shares in a company under an arrangement (being an arrangement of a kind referred to in subsection (2)) under which that person receives or is credited with, or there is dealt with on his behalf, any consideration (whether in money or in money’s worth) for the sale or other disposal, being consideration the whole or, as the case may be, a part of which, in the opinion of the Chief Collector, represents or is equivalent to or is in substitution for any amount which, if that arrangement had not been made or entered into, that person—

(a) would have derived or would derive; or

(b) might be expected to have derived or to derive; or

(c) in all likelihood would have derived or would derive,

as income by way of dividends in that or any subsequent year or years of income, whether in one sum in any of those years or otherwise, an amount equal to the value of that consideration, shall be deemed to be a dividend derived by that person in the first-mentioned year of income.

The former s. 361 was in all material respects identical to s. 260 of the Australian statute and was considered by the Supreme Court in The Chief Collector of Taxes v. Bailes [1973] P.N.G.L.R. 411, Thomas v. The Chief Collector of Taxes [1975] 6 A.T.R. 95 and The Chief Collector of Taxes v. Thomas [1976] P.N.G.L.R. 571, where the Supreme Court applied the decision of the Privy Council in Newton v. Commissioner of Taxation [1958] A.C. 450; (1958) 98 C.L.R. 2, and the Australian cases on s. 260. The new s. 361 abolished the “ordinary business or family dealing” test of Lord Denning in Newton’s case (supra): Subsections (3) and (5) enable reconstruction by the Chief Collector following an application of the section. That is, it cured the defect inherent in s. 361 that it was an annihilating provision only, without any reconstructive aspect. This however is of little relevance in the present case as the main question is whether what was done is an arrangement which is void. Subsections (3) and (5) take up only where there is a void arrangement.

By virtue of s. 361(2)(b) it is no longer possible to say as Aickin J. said in Slutzkin v. Federal Commissioner of Taxation (1977) 140 C.L.R. at p. 314-325, that an arrangement which appears to be one which does avoid tax “nonetheless falls outside s. 260 if it has the character of an ordinary business or family transaction”. In Cridland v. Federal Commissioner of Taxation (1977) 140 C.L.R. 330 at p. 339, Mason J. with whom all other members of the High Court agreed, said:

“The distinction drawn by Lord Denning in Newton v. Federal Commissioner of Taxation ((1958) 98 C.L.R. 2 at p. 8), between arrangements implemented in a particular way so as to avoid tax and transactions capable of explanation by reference to ordinary business or family dealing has not been regarded as the expression of a universal or exclusive criterion of operation of s. 260. Lord Denning’s observations were applied neither in the Mullens case ((1976) 135 C.L.R. 290) nor in the subsequent case of Slutzkin v. Federal Commissioner of Taxation ((1977) 138 C.L.R. 164).”

The difficulty with the “ordinary business or family dealing test” was that an arrangement could have the purpose of tax avoidance as well as a purpose of an ordinary business or family nature. In my opinion s. 361 is in material respects similar to the Australian s. 260 and the Australian decisions have strong persuasive authority.

For the Chief Collector it is said that an arrangement can be seen by the accumulation of profits over many years, the withholding of dividends and the loan made to the taxpayer many years before sale. This, grouped with the sale, amounts, he says, to an arrangement having the purpose or effect of tax avoidance and that the tax avoidance purpose was not merely incidental and that there was a tax advantage by obtaining as capital, moneys which might have been obtained as dividends. More particularly counsel submits that an arrangement can be seen in the loan (not an ordinary business dealing) the expenditure of the finance company moneys for the benefit of the taxpayer, the withholding of dividends while using the earnings of the company to repay the finance company despite the resultant accumulation of an artificial and undesirable (except from the tax point of view) debt to the company, and finally, in the circumstances and method of extinguishing that debt by a variation of already orally concluded sale arrangements and the artificial addition to the sale of an unsalable (except perhaps at a discount) chose in action and an equally artificial exchange of Cheques on settlement. The effect, it is said, was to liberate profits from the company to a shareholder in the form of capital (utilized to acquire valuable shares) by pairing those profits through the contrived channels of the improper loan, the wholly unreal sale of the chose in action represented by the unsecured loan, and the elimination of it by the exchange of Cheques—the result being that the real money, being the profits of the company, did find its way to the shareholder as capital, not income, in additional shares purchased and finally received free of debt.
Alternatively, the Chief Collector submits:

“The steps prior to the sale may be seen as merely setting the stage, creating a potential for tax avoidance, but not yet consummating it, since the income was not yet ‘home’, having been merely ‘lent’ to the taxpayer. Because the steps taken prior to the sale had provided the earnings of the Company only in the form of a loan, they had not yet been received by the taxpayer as his in law. They were still tied to the company by the loan. Changing the metaphor, the tax avoidance conjure had not yet transformed potential income into capital (the loan) to appear alongside the potential income. The essence of the conjure, and the true tax avoidance arrangement was to cause the potential income to disappear and this was done by the arrangement consisting of the manipulation of the sale and exchange of Cheques to extinguish the loan obligation. By that arrangement capital actually appeared in the place of income since the amount required by the taxpayer to repay his obligations was found in the form of capital and not in the form of the dividend which otherwise, and in the normal course, would have been required to repay the loan. At the same time the taxpayer held, and could realize upon, the shares free of debt.”

It is true that an arrangement falling within s. 361 may extend over many years and that at its inception it is not necessary to be able to predict each precise step by which it will be implemented. It can develop over a period. In The Chief Collector of Taxes v. Bailes (supra) it appeared that the arrangement there found to exist extended over a period of more than four years. If “the character of the acts done and transactions entered into over such a period bespeaks an arrangement, this is sufficient”, Slutzkin v. Federal Commissioner of Taxation (supra). In Federal Commissioner of Taxation v. Cooper Brookes (Wollongong) Pty. Ltd. (1979) 79 A.C.T. 4398-4415, a dictum of Dean J. was cited with approval: “It does not follow that it is necessary that there be formal acceptance of, or committal to, such an arrangement by such parties. A plan can be propounded without prior arrangement and be constituted as an arrangement by acceptance of or adherence to it implicit in the performance of steps which it encompasses or the acceptance of benefits which result from its implementation.”

In the analogous case of a “scheme” under s. 26(a) of the Income Tax Assessment Act (1959) (Cth) the High Court of Australia expressly held that it is not essential to a scheme or plan (the words used in our s. 361(1)) that it should be wholly worked out to its conclusion at the beginning: Steinberg v. Federal Commissioner of Taxation (1975) 134 C.L.R. 640.

However, I agree with the submission for the taxpayer that it must be necessary to characterize later events as part of an arrangement of which the earlier events also form part, for example, the later steps may be steps in implementation of an earlier plan even though the precise steps may not have been worked out in detail at the time the plan was formulated.

What is the “plan”, “scheme” or “arrangement” in this case which has as its purpose or effect the avoidance of tax? The Review Tribunal found that those things which happened years before there was any decision to sell did not constitute any part of a relevant plan. I would uphold this finding. I cannot see any arrangement. It is common practice not to declare dividends and the consequent accumulation of profits was not improper. One reason was to provide working capital which in fact was the case here.

In my opinion, viewed objectively, a unified plan does not emerge. I agree that the facts do not support any connection between the accumulation of profits and the withholding of dividends, on the one hand and the sale on the other or indeed between the accumulation of profits and the making of the loan. I cannot see anything which links the loan transaction with the subsequent sale.

In my opinion, the earlier accumulation and loans were not part of an arrangement and neither was the failure at the date of sale to distribute accumulated profits by way of dividend. But as at September 1978 there were no profits in money or readily realizable assets which could have been distributed as dividend and there was no reason why that course should have been adopted rather than the one which was. The sale of shares in a company with accumulated profits is not, without more, within s. 361. A condition of the sale was that the taxpayer should re-pay what he owed to the company. Again I would uphold the finding of the Review Tribunal that this did not involve a step in an “arrangement” and that the “exchange of Cheques” was no more significant than the adjustments made in respect of the company’s other assets and liabilities.

Essentially there was a sale of shares in a company with accumulated (book) profits for a capital sum payable in cash. I think that the consequence of this was that a potential tax liability was transferred from the vendor shareholders to the purchaser shareholders. It did not avoid a potential tax liability. It was argued that par. (a) of the definition of “tax avoidance” in s. 361(1), by using the words “altering the incidence of any income” applied where shares in a company with accumulated profits are sold. But that phrase refers to altering the incidence of tax upon a taxpayer that is, in effect reducing its incidence on him; not transferring the incidence from one taxpayer to another. The paragraph is not concerned with derivation of assessable income but with altering the incidence of tax. So that merely because income which would have been derived by A is derived by B does not attract the section.

Section 361(3)(b) on the other hand, is concerned with derivation of assessable income. In many of the “strip” schemes the stripper derives assessable income in the form of dividends paid but is not taxable thereon. In these cases in both a practical and a legal sense the earnings of the company are made available to the purchasers of the shares in a tax free form; in a practical sense because those earnings are represented by cash which the purchaser causes to be distributed to it, and in a legal sense because though the dividends are declared and paid to the purchaser there is a step, which is an essential part of the arrangement, whereby the purchaser is not taxable in respect of that receipt. This is not the case here and distinguishes this case from such decisions as Bell v. Federal Commissioner of Taxation (1953) 87 C.L.R. 548, Newton v. Federal Commissioner of Taxation (supra), Hancock v. Commissioner of Taxation (1961) 108 C.L.R. 258, and The Chief Collector of Taxes v. Thomas (supra). In these cases a potential liability for tax was not simply transferred from one shareholder or group of shareholders to another. It was an essential part of the arrangements that that liability would disappear. Here the profits remained in the company and if and when distributed any liability for tax on distribution would be upon the purchasers of the shares. The leading case on s. 361 in our jurisdiction is The Chief Collector of Taxes v. Thomas (supra), a decision of the Supreme Court. A simplified summary of the facts is as follows:

1. Theo Thomas and Company Pty. Ltd. (Thomas) was a company with accumulated profits.

2. Rainau was a company associated with shareholders of Thomas. Its shareholders were in fact the family companies of the shareholders of Thomas.

3. The taxpayer and the other shareholders of Thomas sold their shares to Rainau for a consideration equal to the asset backing of the shares, substantially represented by accumulated profits.

4. Because Rainau was, as a consequence of the acquisition of the shares in Thomas, a holding company of Thomas the distribution of a dividend by Thomas to Rainau was tax free in Rainau’s hands: s. 216. This was the “crucial basis” of the proposal. See Frost C.J. at p. 580.

5. A dividend was declared by Thomas in favour of Rainau and the amount received by Rainau was used by it to pay the taxpayer and the other former shareholders of Thomas (although this was done by book entry).

Thus Thomas had the same essential characteristics as Newton (supra) and Hancock (supra) namely:

(a) A declaration of dividend by the company in favour of someone in whose hands it would not be taxable; and

(b) An increase in wealth by the former shareholders of the company to the extent of the accumulated profits so distributed.

Here, the receipt of dividend by the purchaser of the shares in a way which did not involve such purchaser in liability to tax was an essential element of the arrangement.

This may be contrasted with Slutzkin v. Federal Commissioner of Taxation (supra), where there was a transaction in which shares in a company with considerable accumulated funds, after transforming all its assets into cash, were sold to another company which operated as a dividend stripper. It was unanimously held that the sale of the shares did not fall within s. 260 (of the Australian Act) and did not attract any tax consequence. The distinction is that the receipt of dividend by the purchaser of the shares in a way which did not involve such purchaser in liability to tax was not an essential element of the arrangement. What the purchaser chose to do with the shares was no part of the arrangement.

Slutzkin’s case (supra) is authority for the proposition that a sale of shares in a company with accumulated profits does not, without more, show the purpose or effect of tax avoidance. This is supported by dicta in Bell v. Federal Commissioner of Taxation (supra) at p. 571:

“If there had been no more in the case than that Bell, in preference to retaining his share and deriving the dividends which it seemed certain to yield, chose to sell the share for a capital sum equal to the assured dividends, the Commissioner would not have been entitled to treat the capital sum as assessable income....”

In Slutzkin’s case (supra) at p. 325, Aickin J. said:

“The contract agreement or arrangement thus found is one which is simply for the sale by all the shareholders of their shares in the company to a single purchaser for cash paid by bank Cheques. What the purchaser wanted to do with the company or with the funds which comprised its assets was not known to the vendors.... The arrangement was neither more nor less than a sale of shares for cash, such shares not having been acquired for the purpose of re-sale at a profit. The arrangement so found is, in my opinion, one of which it could not be said that it had the purpose or effect of avoiding tax. There was no prior contract, agreement or arrangement which might have had some tax operation which was avoided by changing an existing transaction into the present transaction. The only arrangement or transaction was that which was actually carried out, namely, the sale of a capital asset.”

For all of these reasons I would uphold the finding of the Review Tribunal that the transaction carried out in this case was the sale of a capital asset and that this was not an arrangement having any purpose or effect of tax avoidance under s. 361(2).

Section 361(3) operates only where an arrangement is void by virtue of s. 361(2). That is, it operates when there is an arrangement which is void under the section. Having found that there was no such arrangement I would again uphold the finding of the Review Tribunal that the claim under s. 361(5) also fails.

I would dismiss the appeal and uphold the finding of the Income Tax Review Tribunal wherein the taxpayer’s objection in respect of the amount of K82,712 was upheld and his assessment amended to exclude the amount of K82,712 in respect of the income year ended 31st December, 1978.

Appeal dismissed.

______________________________________

Solicitor for the appellant: The State Solicitor.
Solicitor for the respondent: Gadens.