Smith & Son v Inland Revenue
| Jurisdiction | England & Wales |
| Judgment Date | 12 April 1921 |
| Docket Number | No. 8. |
| Date | 12 April 1921 |
| Court | House of Lords |
Viscount Haldane, Viscount Cave, Viscount Finlay, Lord Sumner.
RevenueExcess Profits DutyComputation of profitsDeductionsPurchase price of unexpired coal contractsFinance (No. 2) Act, 1915 (5 and 6 Geo. V. cap. 89), sec. 40 (1), and Fourth Schedule, Part I., paragraphs 1 and 3, Part III., paragraph 1 (a).
The testamentary trustees of a coal merchant, who died on 7th March 1915, conveyed the business to his son, who took over the whole assets, in terms of his father's settlement, at a valuation made as at his father's death. Part of the assets consisted of unexpired contracts with colliery owners, under which the colliery owners undertook to deliver from time to time fixed quantities of coal at definite prices. The rights under these contracts, all of which expired at or before 31st December 1915, and which ultimately turned out to be very advantageous to the purchaser, were valued at 30,000, which sum the son paid to the trustees out of his profits from the business during 1915. In ascertaining the profits of the business for the purposes of excess profits duty for the accounting period from 7th March to 31st December 1915, the son contended that he was entitled to deduct the 30,000 as representing part of the purchase price of the stock in trade.
Held (aff. judgment of the Second Division, diss. Viscount Finlay) that the deduction was not permissible; per Viscount Haldane and Lord Sumner, on the ground that the 30,000 was capital expenditure; per Viscount Cave, on the ground that excess profits duty was a tax on a continuous business, and, accordingly, that the change of ownership of the business in the present case fell to be disregarded.
City of London Contract Corporation v. StylesTAX, (1887) 2 Tax Cases, 239, approved and applied.
(In the Court of Session, 20th December 19191920 S. C. 175.)
John Smith & Son appealed to the House of Lords. At the hearing of the case the appellants abandoned their appeal upon the second of the two points decided in the Court of Session, viz., the point relating to the deduction claimed in respect of the salary paid by the appellants to their manager, Mr Thomas Keith Fair.
The appeal was heard on 21st and 22nd February 1921.
Argued for the appellants;The deduction in question was permissible in respect that it was a disbursement or expense incurred for the purpose of the trade or business, without which the trade or business could not have earned its profits. It was in effect the price paid for the stock in trade. Lord Johnston in J. & M. Craig (Kilmarnock) v. Inland Revenue,1 and Lord Atkinson in Scottish North American Trust v. Inland RevenueELR,2 had clearly stated the distinction between fixed assets and floating assets. This distinction, which was vital, had been ignored in the judgments of the majority of the Second Division. The definition of profits and gains given by Lord Atkinson in the same case was also of importance. He defined them thus3:The profits and gains of any transaction in the nature of a sale must, in the ordinary sense, consist of the excess of the price which the vendor obtains on sale over what it cost him to procure and sell, or produce and sell, the article vended. If the 30,000 had not been paid, the appellants could not have got delivery of the coal by the sale of which their profits were made. There was no logical difference between buying a right to get coal, and buying the coal itself. The case of City of London Contract Corporation v. StylesTAX,4 upon which the respondent founded, only showed that payments in the nature of capital charges could not be deducted from profits; it did not apply to payments made against revenue for the delivery of trading stock. Bowen, L.J., in that case brought out the distinction between payments made in order to acquire capital assets and payments made for the purpose of buying stock for resale at a profit. The respondent argued that excess profits duty was a tax on a continuous business. For the purpose of computing the pre-war standard of profits it was perhaps permissible to ignore a change of ownership. But for the purpose of the present case the change of ownership was all-important. Under the statute the profits on which tax had to be paid were the profits of the accounting period, and every person who made excess profits during that period had to pay his own tax. Thus the statute provided that, if there was a change of ownership in the middle of the accounting period, the Commissioners might divide the period into two. The 30,000 might be regarded as providing the appellants with their circulating capital, and that was not an expenditure on capital account.5
Argued for the respondent;This was a continuing business, and it was the business which had to bear the tax, and not the owner pro tempore. The object of the Act was to tax the extra war profit which had been made by the adventure, and the fact that the son of the former owner had been compelled to make a payment of 30,000 in order to obtain the full advantages of the adventure was an irrelevant consideration.6 Moreover the expenditure was capital expenditure; it was a payment made as part of a domestic arrangement between the father and son under which the son acquired the business. It was not a payment for the coal deliverable
under the contracts. The case was indistinguishable from City of London Contract Corporation v. StylesTAX,1 which was followed and approved in Alianza Co. v. BellELRELR.2Royal Insurance Co. v. WatsonELR3 was also an analogous case. In J. & M. Craig (Kilmarnock) v. Inland Revenue4 all that the Court decided was that the Inland Revenue were not entitled to take, as the true value of stock in trade, a mere bookkeeping entry. In Russell v. Town and County BankELR5 Lord Herschell gave a definition of profits, which supported the respondent's argument.
At delivering judgment on 12th April 1921,
Viscount Haldane.The question in this appeal is whether the appellants are entitled to deduction of a certain sum of 30,000 in the estimation of the excess profits on which they were liable, under section 38 of the Finance (No. 2) Act of 1915, for excess profits duty, in an accounting period between 7th March 1915 and 31st December in the same year. The appellants say that this 30,000 was a disbursement or expense incurred by them for the purposes of their trade or business, and necessitated in order to earn its profits, having in truth been paid for the purchase of coal as part of their stock in trade. The respondent, the Surveyor of Taxes in Glasgow, who contests this claim on behalf of the Crown, says that the 30,000 was capital expenditure which cannot, consistently with the statute, be deducted. He contends that it was paid, not as the price of coal for stock in trade, but as part of the price given for a business which the appellants acquired, the value of which formed part of the capital of their own business.
The Second Division of the Court of Session, sitting as the Court of Exchequer of Scotland in the exercise of original jurisdiction, and consisting of the Lord Justice-Clerk, Lord Dundas, Lord Salvesen, and Lord Guthrie, decided by a majority in favour of the respondent, Lord Salvesen dissenting. The question was brought before them on a case stated under the Taxes Management Act of 1880. There was another point on which the judgment of the Court of Session was taken, as to an allowance for management salary of 20,615, 17s. 9d. to a Mr Fair as a manager of the business. This latter point was, however, abandoned at the bar of the House and has not to be considered.
In the accounting period between 7th March and 31st December 1915, the gross profits made by the firm on certain coal contracts amounted to 98,897, and, after deducting expenses and making adjustments, there remained 90,366, which was taken as the profit in the period through which the appellants were assessed for excess profits duty. It is from this amount that the appellants claim to be entitled to make the deduction in controversy.
It is necessary in the first place to state the circumstances under which the appellants became entitled to the business. The late John
Smith junior died on 7th March 1915. At the time of his death he was carrying on alone the business of John Smith & Son, a firm which had pursued the business of coal and shipping agents for many years. By a trust-disposition and settlement he directed his trustees to make over the business after his death, in the events which happened, to his son John Ross Smith. The goodwill and firm name were to belong to the latter without payment for them. But he declared that the whole assets of the said business shall be taken over at the value which may be ascertained from a balance sheet made up, as at the date of my death, by a chartered accountant, but nothing shall be charged for goodwill.
Pausing here, I will state the interpretation which, as I think, ought to be placed on the trust-disposition. It appears to me that the testator meant to leave his business as an entirety to his son, the appellant, subject only to this qualification, that his son should be willing to pay over to the trustees an amount in respect of what was so given to him which would in part fill the gap in the testator's estate made by his gift. Nothing was to be payable in respect of the goodwill, but the amount to be replaced was to be ascertained by a valuation of all the other assets as they stood in the business at the date of the testator's death. These assets were to pass under the gift along with the business and its goodwill, if the son elected to take them, and he was to be charged, not as on a sale to him of each asset in the open market, but on a valuation, to be made in the manner prescribed, of the whole assets of the business, the goodwill being included without charge for it.
The son elected to take on the terms of the will. A firm of chartered accountants...
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