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Problem Question guide - Business Tax Structure:
1. Is the taxpayer 'trading'?
2. Is the sum a 'trading receipt'? (Is it a trading receipt or something else? Is it a capital or income receipt?)
3. Can the taxpayer claim expenses? (Is it a capital or income expense? Is it wholly and exclusively for the purposes of the trade?
1. Is the taxpayer 'trading'? (s 5 ITTOIA) 'Badges of trade' in the 1945 Royal Commission list: subject matter (certain types of property such as commodities or manufactured articles are normally the subject of trade); length of period of ownership (property meant to be realized within a short time after acquisition is normally the subject of trade); frequency of transactions; supplementary work; circumstances of realization (if there is some explanation such as a sudden emergency, this negatives the idea that any plan of dealing or trade prompted the original purchase); motive. Difficulty in determining, and guidelines on, whether there is 'trade' expounded on in Marson v Morton:
? T owned a company which traded in potatoes. He bought land, intending to make a capital profit and sell it in two years. He trusted the real estate agent who advised him; the real estate agent told T to sell the land. The question was whether T was engaging in trade - the General Commissioners argued that as the real estate agent was not instructed to sell at any particular price or time, the transaction was more like an investment in stocks and shares.
? Sir Nicholas Browne-Wilkinson referred to these cases as a 'no-man's-land', and he did not see it fit to interfere with the General Commissioner's decision.
? The case also provides its own 'badges of trade':
? (1) That the transaction in question was a one-off transaction
? (2) Is the transaction in question in some way related to the trade which the taxpayer otherwise carries on?
? (3) The nature of the subject matter: Was the transaction in a commodity of a kind which is normally the subject matter of trade and which can only be turned to advantage by realization. For example, a large bulk of whiskey or toilet paper is essentially a subject matter of trade
? (4) Was [the transaction] carried through in a way typical to the trade in a commodity of that nature? (5) What was the source of finance of the transaction? If money was borrowed that is some pointer towards an intention to buy the item with a view to its resale in the short term; a fair pointer towards trade
? (6) Was the item which was purchased resold as it stood or was work done on it or relating to it for the purposes of trade. If there was such work done, that is again a pointer towards the transaction being in the nature of trade.
? (7) Was the item purchased resold in one lot as it was bought, or was it broken down into smaller lots?
? (8) What were the purchasers' intentions as to resale at the time of purchase? If there was an intention to hold the object indefinitely, albeit with an intention to make a capital profit at the end of the day, that is a pointer towards a pure investment as opposed to a trading deal. On the other hand, if before the contract of purchase is made a contract for resale is already in place, that is a
very strong pointer towards a trading deal rather than an investment. Similarly, an intention to resell in the short term rather than the long term is some indication against concluding that the transaction was by way of investment rather than by way of a deal. However, as far as I can see, this is in no sense decisive by itself. (9) Did the item purchased either provide enjoyment for the purchaser or pride of possession or produce income pending resale. If it did, then that may indicate an intention to buy either for personal satisfaction or to invest for income yield, rather than purely for the purpose of making a profit on turn.
1. Purpose of profit?
In Religious Tract & Book Society, a religious order was sending out colporteurs, alongside a profitable bookstore trade. The colporteur operation made a loss. The Commissioners distinguished the colportage from the bookstores, and held that it was not a trade as it was not carried out in a commercial manner. The losses from the colportage could not set off the profits from the bookstore. Hence, an activity which invariably makes a loss as it is run in an uncommercial manner is not a trade. Instead, the colportage activity was a charitable one.
2. Motive for acquisition, Purpose??
The acquisition of an asset with the hope of making a profit does not inevitably result in trade; an investment would also be for profit. The time at which resale is foreseen is of greater importance. In Turner v Last, the appellant purchased two fields, and intended to resell them for profit. He also farmed land, and contended that this transaction was solely for that farming, and that the profit was a capital accretion. The court held that the appellant purchased with the intention to resell as soon as he could, and hence the profit was made as an adventure in trade. [It is irrelevant if the activities of the taxpayer involve using land as capital, if the isolated transaction is an adventure in trade]
In Iswera v CTT, the appellant wished to reside near the school where her daughters were attending, and agreed to purchase land near the school. She bought the land, and divided it into sub-plots which she sold for profits. It was held that the appellant's dominant view was to profit and her actions were suggestive of trading, despite the case being borderline. However, it was clarified that in most cases, the appellant's object or purpose cannot alone prevail over what he in fact does; it is only if his acts are equivocal that his purpose may be a material factor. Lord Reid also considered it important that 'It was an essential part of her plan that the greater part of it should immediately be sold to sub-purchasers because without the money paid by them she could not have found the money to pay the balance due to the vendor. No doubt she acquired the part of the site which she retained as a capital investment, but in order to acquire it she had to buy, divide, and immediately resell the rest of the site.' [The emergent rule is that corollary intentions regarding the land (e.g. to live near her daughter's school) did not negate an intention to resell the land as an adventure in trade]. In Kirkham v Williams, however, the purpose of the development and sale of the site was severely circumscribed and subsidiary to another purpose; it was not an adventure in the nature of trade. In the case, T worked as a general dealer. He purchased land and acquired planning
permission for the erection of a dwelling house. He sold the land and the house and moved into a farm. The General Commission argued that the house and site were built primarily as an office for his dealing and contracting, and that the purchase, development and resale of the site was in the nature of trade. On appeal, the court held not to be so as 'it is clear that the taxpayer's subsidiary purpose of developing and selling Havannah Mills could not have been implemented concurrently with his principal purpose of providing office and storage space for his business. But he would not have been able to sell the site unless and until he had been able to provide himself with suitable office and storage space elsewhere, an event which might not have occurred for some time. And so the taxpayer's 'purpose' or 'object' or 'intention' in regard to the development and sale of the property was severely circumscribed, its implementation indefinite in point of time'.
[Comparing Kirkwood and Iswera, it is significant that in Iswera, the trade (sale of smaller plots) was necessary in order to achieve the subsidiary purpose of retaining the main site, but in Kirkwood, the sale of the land could only take place if it was first used as an office, and hence T's purpose as to the development and sale was circumscribed]
Recent dicta indicating that the purpose of the transaction is increasingly important: New Angel Court Ltd v Adam. In that case, 'It is plain from Coats v Arndale and Reed v Nova Securities Ltd that such an investigation is required. As Lord Templeman made clear in the Reed case not only must the asset which has been transferred be "of a kind which is sold in the ordinary course of the company's trade" but it must have been acquired by the taxpayer "for the purposes of that trade with a view to resale at a profit". It is therefore necessary to consider the purpose of the transfer. Was it for the purposes of the taxpayer's trade? Or, to put it another way, did acquisition of the asset have a trading purpose?'
3. Not income yielding?If the object yields income, the general rule is that it is an investment rather than trade. However, Marson v Morton stressed that it was no longer self-evident that land could not be an investment unless it produced income: 'Since the arrival of inflation and high rates on tax on income new approaches to investment have emerged putting the emphasis on the making of capital profits at the expense of income yield'. Profits on a sale of property which produces income may nonetheless be taxable as trading profits depending on the circumstances of the case.
4. Processing/supplementary workThe alteration of an asset might suggest that there is a venture in the nature of trade e.g blending of brandy in Cape Brandy Syndicate v IRC.
'Some explanation, such as a sudden emergency or opportunity calling for ready money, negatives the idea that any plan of dealing prompted the original purchase' (Royal Commission). In other words, the presence of a process or organization through which the disposal of the asset is carried out is one of the hallmarks of trade. E.g. In Cape Brandy Syndicate v IRC, the brandy was disposed of in some 100 transactions spread over 18 months. Note, however, that this is merely a fragile indicator of trade.
E.g. In Rutledge v IRC, the appellant purchased a very large quantity of toilet paper which he sold at a considerable profit. It was held that the profits were liable to income tax, as the appellant 'made himself liable for the purchase of this vast quantity of toilet paper obviously for no other con. ceivable purpose than that of re-selling it at a profit'. It therefore did not matter that the profit was of an isolated nature.
6. Frequency of transactions??Repeated transactions may support an inference of trade; isolated transactions may also be a venture in the nature of trade by reference to repeated transactions (where a transaction is repeated the court may use the fact to place the label of trade on the original transaction). E.g. in Leach v Pogson: T was a serial driving school incorporator. It was agreed he was liable to income tax on subsequent transactions; he was also liable on the first transaction despite the fact that he had no intention on embarking on the business of incorporating, based on the subsequent transactions. Furthermore, when a single transaction is carried out an is of a nature close to the trade of an individual, it is likely that the courts will conclude that the transaction is in the nature of trade. E.g. in Cape Brandy Syndicate v IRC, South African brandy was acquired for blending and resale in the UK by three persons who were members of firms in the wine trade. T was held assessable on the profits on the adventure in the nature of trade. However, the fact that the activity is isolated does not prima facie mean it is not trade: Rutledge v IRC. Important in Pickford v Quirke, where the appellant formed a cotton syndicate. The syndicate succeeded and the appellant formed three more syndicates with different groups of people. It was held that the profits were liable to be assessed for income tax as 'the Commissioners, carefully distinguishing between the case of a single transaction and the case of a series of transactions which together might or might not amount to a carrying on of a business, and taking the view that whether that was so or not was a question of degree, have come to the conclusion that four transactions of the kind in close proximity to one another were a sufficient series of transactions to make what Mr. Pickford did into a trade or business for which he might be chargeable'.
2. Is the sum a 'trading receipt'?
Basic provisions:?Income tax is charged on the profits of a trade: s 5 ITTOIA. Profits of the trade are charged to income tax on a 'preceding year' basis: Part 2 (Schedule D, Cases I and II), ITTOIA. In order to determine profits, consider generally-accepted accounting practice. This also contains the limitation that it is subject to any adjustment required or authorized by law: s 25 ITTOIA. Timing:In JP Hall v IRC, the receipt is added to the account of the taxpayer the year they are legally due to be paid.
Note also s 25A which allows small traders to elect to compute profits on a cash basis, in which case the payments are taxable when received, and expenses deductible when paid.
?????Therefore, for PQs, point out (a) s 25 GAAP and (b) the cash basis regime as two alternatives.
Question 1: Is it a 'trading receipt' or something else e.g. personal gift? (Cases: IRC v Falkirk, Murray v Goodhews, McGowan v Brown)The rule is that payment made for reasons other than trade will not be a trading receipt. It is a windfall/gift. Important indicators include the reason for payment, and whether there was an obligation to pay T the sum.
? The payment must 'relate to past work' (McGowan v Brown), and 'be related to some antecedent transaction in the course of trade' (Murray v Goodhews). IRC v Falkirk
?????F received donations to their ice rink in order to increase the quality of the ice. F contended that the payments are gifts and not profits. It was held that it was a trading receipt, as it was a payment made in order to use the business of F, and to supplement its trading revenue by enabling more activities on the ice.
? There was no need for the existence of a trading relationship between the payer and the payee of the sum; it is sufficient that the payment was made to supplement F's trading revenue and to preserve its ability to offer curling facilities. Murray v Goodhews
?????A brewing company terminated a number of tenancy agreements with T, and chose to make voluntary payments in lieu of those terminated agreements. They payments were not trading receipts as (a) although they were mentioned early in negotiations, there was no disclosure on the manner in which the payment was calculated; (b) there had been no subsequent negotiations between the parties on this point; and (c) the amount had not been calculated by reference to profit earned.
? Sir Pennycuik stated that, 'One broad consideration which has been acted upon in a line of cases of the highest authority is whether the payments can fairly be related to some antecedent transaction in the course of trade; for example, a transaction in respect of which the payer is content to regard the recipient as having been inadequately rewarded for goods sold or services rendered. In such a case the receipt, albeit voluntary, is equated to a payment made in consideration of such goods or services pursuant to a contractual provision'. McGowan v Brown
? A payment was made to compensate an estate agent for loss of a fee-earning opportunity. This was held to be a trading receipt, despite the end of the trading relationship, as it was attributable to the work carried out by the recipient.
? Although the PS2,500 was paid to compensate the taxpayers for loss of opportunity to make future profits, the payment had been made in recognition that the taxpayers were morally entitled to that opportunity because their past services as purchasing agents had been inadequately remunerated.
? Templeman J stated that 'If the payment does not relate to specific past work, then the payment is made, not because payment has been earned by work, but because the payment is intended for a deserving recipient. If the payment relates to work then although the recipient may not be legally entitled yet if he has a moral claim the payment is a receipt by him and a profit of his trade. On the other hand, if payment is not earned but is deserved, it is not income. If the recipient has been paid in full for past work, but the person making the gift wishes to acknowledge the past conduct
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