Scottish Court of Session Decisions

At the instance of Montague Cornwell Furtado, Surveyor of, Taxes, Glasgow, a stated case was presented to the Court bringing under review a decision of the Commissioners for the General Purposes of the Income Tax Acts of the Lower Ward of Lanarkshire.

The case set forth—“At meetings of the Commissioners for the General Purposes of the Income-Tax Acts, and for executing the Acts relating to inhabited-house duties for the Lower Ward of the County of Lanark, held at Glasgow on the 20th day of December 1904 and the 18th day of May 1905, the Cardonald Feuing Company, Limited (hereinafter referred to as the company) appealed against an assessment for the year ending 5th April 1905 on the sum of £746 (duty £37, 6s.) made upon it under Schedule D of the Income-Tax Acts in respect of the profits of the business carried on by it. The assessment was made under 5 and 6 Vict. c. 33, sec. 100, Schedule D, First Case; 16 and 17 Vict. c. 34, sec. 2, Schedule D; and 4 Edw. VII, c. 7, sec. 7.

“1. The following facts were admitted or proved:—( a) …

( b) The objects for which the company was established are set forth in the third article of the memorandum of association, and embrace, inter alia, the following:—“(1) To purchase or otherwise acquire lands, buildings, rights, or interests in or over lands or buildings, or any other heritable property or real estate of any tenure in Scotland. (2) To lay out and prepare for building purposes, and otherwise to do whatever may be deemed necessary or proper to develop the resources of the property of the company. (3) To sell the property of the company, or any rights or interests in or over the same, either by public roup or private bargain, in such lots, at such times, and upon such terms as may be thought proper, for a payment in cash or at a postponed date, or for a feu-duty or ground-annual, or partly in the one way and partly in the other, and subject to such conditions and restrictions as may be deemed necessary. (4) To sell, feu, exchange, lease, or otherwise deal with the property of the company or any rights or interests in or over the same, in such manner, upon such terms, and subject to such conditions as may be thought proper. (5) To erect, construct, and maintain, or procure the erection, construction, and maintenance of, any buildings or erections on the property of the company or in which it has an interest…. (11) To sell and realise from time to time the feu-duties and ground-annuals and duplications thereof, and other rights and privileges belonging to or vested in the company…. (20) To borrow and again reborrow money, and to grant and issue bills or promissory-notes, bonds, bonds and dispositions in security, mortgages, debentures, mortgage debentures, bonds of annuity, annuity certificates, or other securities or acknowledgments therefor, transferable to bearer, or otherwise founded or based on the credit of the company, or secured upon all or any of the property, assets, or revenue thereof, and terminable, redeemable, or perpetual, and upon such terms as to priority or otherwise as the company shall think fit, and for such security to mortgage, pledge, or charge the whole or any part of the property, assets, or revenue of the company, including the uncalled capital for the time, or to transfer or convey the same absolutely or in trust, and to give the lenders power of sale, power to make calls in respect of uncalled capital, and power in any other suitable manner to recover such capital, and all other usual and necessary powers for making any security granted by the company effectual. and also to receive moneys on deposit, account-current, or otherwise, with or without allowance of interest…. (24) To pay and distribute among the members of the company as dividends or otherwise moneys received as grassum in respect of any lease or feu, or as purchase money for land of the company sold, or as purchase money for any feu-duty or ground-annual and duplication thereof sold by the company if and so far as may be determined by resolution of the company in general meeting.’

( c) The 86th article of association, which provides for the application of purchase money, is as follows:—‘Rents, feu-duties, and casualties, ground-annuals, and duplications payable from land belonging to or sold by the company, shall be dealt with as profits arising from the business of the company. The company may in general meeting determine whether money from time to time received by the company as grassum in respect of any lease or feu, or as purchase money for land of the company sold, or as purchase money for any feu-duty or ground-annual from land belonging to or sold by the company, shall be distributed and paid to the members by way of return of capital, or by way of dividend, and the directors shall treat the said money accordingly, provided that no such return of capital shall be made to the members of the company whilst any sums are outstanding and due from the company on bonds or on mortgage or debenture.’

( d)……

( e) The company is the proprietor of lands at Cardonald, in the parish of Govan and county of Lanark, on part of which it erected 24 houses. For the purposes of its business the company borrowed £14,500, for which it granted an heritable security over the lands and houses in favour of the lenders. The bond and disposition in security granted by the company in security of said loan contained a declaration that the company should have power, without the consent of the security holders, to feu any parts and portions of the said lands at a rate not under £20 per acre, the feu-duties,

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when constituted, becoming subject to the heritable security.

( f) In the year ending the 31st October 1903 the company created feu-duties amounting in cumulo to £114, viz., 20 of £4, 10s. and 4 of £6 over the houses. The extent of ground feued was 7181 square yards, and the average rate of feu-duty £76, 16s. 9d. per acre. The rents received for the 24 houses in the year ending 30th October 1903 were as follows:—20 at £30 for the whole year; 3 at £40, for the whole year; and 1 at £42, 10s. for the whole year. In the same year the company sold the feu-duties at the price of £3135, and this sum was applied in reducing to that extent the heritable security. The transaction was carried through by the company entering into feu-contracts with a person nominated by it, and on the sale of the feu-duties they were conveyed to the purchaser and the price paid to the company. The houses themselves remained the property of the company, though conveyed to their nominee for the purpose of creating the feu-duty. Immediately on the feu-duties being disposed of the houses were reconveyed to the company.

( g) The assessment for the year ending the 5th April 1905 fell to be made on the average profits of the company for the three years ending the 31st October 1903. The assessment of £746 made for the year ending the 5th April 1905 consists of the

price of the feu-duties, amounting to	£3135	0	0
Less the estimated original cost to the company of the ground on which the houses are built, as set forth in the company's report and accounts for the year ended 31st October 1903,	898	0	0
	£2237	0	0
One-third whereof is	£746	0	0

2. Mr John Findlay Robertson, writer, Glasgow, who appeared for the company, maintained—(1) That the feu-duties were constituted without reference to the value of the ground on which the houses were erected, but with reference solely to the rental of the houses over which they were secured. (2) That as matter of fact the feu-duties so constituted represented more than the value of the ground at the date of their constitution, and could not have been obtained for the ground if it had been put in the market. (3) That no profit has been earned, and that the property of the company has depreciated in value by the amount of the feu-duties capitalised. (4) That the transaction was entered into for the sole purpose of reducing the annual expenditure of the company. That the company was paying 4 per cent. interest upon the heritable security, and that by repaying the purchase price of the feu-duties, £3135, to the holders of the heritable security the company effected a saving of interest of £125, 8s., while it imposed feu-duties of £114, thereby effecting an annual saving of £11, 8s., thereby reducing its annual loss. That the transaction was accordingly purely a financial one, and merely a means of raising money more cheaply than by borrowing on heritable security. (5) That the assessment made is excessive. That in any event it cannot be ascertained whether a profit has been made until the houses are sold, and that the proper course is to wait until the houses are realised. (6) That the company's transactions result in a loss annually.

3. The Surveyor of Taxes (Montague Cornwell Furtado) maintained—(1) That a profit arising from the trade or adventure of buying land and creating and selling feu-duties has been earned and received, and should be assessed. (2) That no deduction can be allowed from the profit of the trade or adventure of buying land and creating and selling feu-duties in respect of possible subsequent loss in the trade or adventure of erecting and selling houses— Imperial Fire Insurance Company v. Wilson, 1876, 1 T.C. 71, Chief Baron Kelly at p. 73, 35 L.T.R. at p. 273. (3) That the Act 53 and 54 Vict. cap. 8, section 23, makes provision by which deduction could be claimed in respect of a loss sustained in the trade or adventure of erecting and selling houses should the houses ever be sold, and sold at a loss, both of which points are uncertain. (4) That it is of no consequence that the price of the feu-duties was applied to capital purposes, the application or destination of profits being immaterial— Mersey Docks and Harbour Board v. Lucas, 1883, 8 A.C. 891, 49 L.T.R. 781, 2 TC 25. (5) That the Company had not made a loss in trading, and that the sale of feu-duties under consideration was its first transaction in the nature of trade, and was a proper trading transaction, forming part of the business which the company was authorised by its memorandum to carry on. That the excess of its expenditure over its receipts since its inception was natural, in view of the fact that the building land which it originally acquired had so far been exploited to a small extent only, and the outlay for interest, law charges, and other expenses had been, so far, necessarily out of proportion to its revenue-earning capacity.

4. On a consideration of the facts and arguments submitted to them the Commissioners, for the reasons stated in the note, were of opinion that the sum is not profit within the meaning of the Income Tax Acts, and relieved the company of the assessment….”

The note by the Commissioners referred to was in the following terms—“(1) Before the creation and sale of the feu-duties the company's property was burdened with an heritable debt of £14,500, on which they paid interest. After the creation and sale of the feu-duties the heritable debt and the annual interest payable in respect of it were reduced, but, on the other hand, the company's property was burdened with the annual feu-duties. In the view of the Commissioners this is simply a financial transaction, analogous to what takes place when a railway company pays off terminable debentures and replaces them with perpetual debenture stock.

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(2) It cannot be assumed, as the Surveyor practically does, that the feu-duty created by the company represents ground alone as distinguished from buildings. In the ordinary case of ground being feued by a landowner without payment of a grassum the feu-duty represents the value of the ground. But when, as in the present case. the owner of house property enters into a feu-contract with a nominee of his own, simply for the purpose of creating a feu-duty over the property, the feu-duty created usually, if not invariably, exceeds the value of the ground. The feu-duty does not therefore represent the value of the ground alone, but to some extent the value of the buildings as well. In this case it cannot be ascertained whether there is profit or loss until the buildings are sold, when the prices received for the feu-duty and buildings can be compared with the cost of the ground and buildings.”

The case came before the First Division.

Argued for the appellant—The company was chargeable on the balance of its profits, and the taxable balance of profits was the sum received less the sum expended in earning it—Income Tax Act 1842, sec. 100, Sched. D, Rules 1, 3, and 4 of first case and Rule 1 of first and second cases. The company, however, was not entitled to charge in the sum expended the money spent in improving the land and making it an income-producing subject, for such expenditure was its business— Edinburgh Southern Cemetery Company v. Surveyor of Taxes, November 29, 1889, 17 R. 154, Lord M'Laren, at p. 166, 27 S.L.R. 71, 2 Tax Cases 516: Paddington Burial Board v. Commissioners of Inland Revenue, L.R., 13 Q.B.D. 9, 2 Tax Cases 46; Portobello Magistrates v. Surveyor of Taxes, July 9, 1890, 27 S.L.R. 863, 2 Tax Cases 647; Alianza Company, Limited, v. Bell, [1905] 1 KB 184, 22 T.L.R. 94, 5 Tax Cases 60. Applying these two principles to the transaction in question, the sum now sought to be assessed was obtained. That sum had been derived from ordinary trade. It was no doubt true that the gain, the profit earned, had been applied to paying off capital borrowed by the company and used in carrying through the transaction; but the Income Tax Acts did not allow any consideration to be given to withdrawal of capital in calculating the sum assessable to income tax. The profit from a similar transaction had been held taxable— Californian Copper Syndicate, Limited (and Reduced) v. Inland Revenue, July 1, 1904, 6 F. 894, 41 S.L.R. 691. The rule was that no deduction could be made from profits for the interest on borrowed money payable out of the profits— Alexandria Water Company v. Musgrave, L.R., 11 QBD 174; nor similarly for money applied as in the present case in reduction of the debt of the undertaking. The realising of investments as here at higher prices than had been given for them produced a sum which was “profit” in the sense of the Act— Scottish Investment Trust Company, Limited v. Inland Revenue, December 12, 1893, 21 R. 262, 31 S.L.R. 219; Scottish Union and National Insurance Company v. Inland Revenue, February 8, 1889, 16 R. 461, 26 S.L.R. 330. There might be taxable yearly “profits” in a continuing undertaking where the ultimate result was loss— Scottish Union and National Insurance Company v. Inland Revenue, cit. sup. The decision of the Commissioners was wrong in that it dealt not only with “profits” but also with their application, which was outwith their province. Coltness Iron Company v. Black, L.R., 6 A.C. 315, was also referred to.

Argued for the respondents—There was no taxable profit derived from the sale of the feu-duties. There was no profit at all, but if the respondents were wrong in that contention, there was no profit which could be ascertained, and further, the method proposed for ascertaining it was wrong. The creation of these feu-duties was only rendered possible by the erection of the houses on the land acquired, and the cost of their erection fell to be considered. It was impossible to apportion what part of the value of the feu-duties was attributable to the houses and what to the land respectively, so the taxable profits, if any, were not yet ascertainable—Assets Company, Limited v. Inland Revenue, February 23, 1897, 24 R. 578, 34 S.L.R. 486. Further, the terms of the statute prescribed that the tax was to be assessed on the “balance” of profits or gains, and the method for calculating such balance of profits was that against the profits must be set the expenditure necessarily incurred in earning them — The Gresham Life Assurance Society v. Styles, [1892] AC 309. Here the cost of building the houses, or at least a large part of it, as well as the price of the land, must be set against the price of the feu-duties. Edinburgh Southern Cemetery Company v. The Surveyor of Taxes, cit. sup., was not on all fours with the present case, since there what was sold was actually the thing bought; here the subject sold had been created by the respondents.

At advising—