Drummond and Others v The Commissioner of Inland Revenue
| Jurisdiction | New Zealand |
| Judge | Brewer J |
| Judgment Date | 15 July 2013 |
| Neutral Citation | [2013] NZHC 1768 |
| Docket Number | CIV-2012-419-185 |
| Court | High Court |
| Date | 15 July 2013 |
In The Matter Of the Income Tax Act 2004, the Income Tax Act 2007 and the Tax Administration Act 1994
[2013] NZHC 1768
Brewer J
CIV-2012-419-185
IN THE HIGH COURT OF NEW ZEALAND HAMILTON REGISTRY
Challenge to income tax assessments disallowing plaintiffs' shares of write-downs of the purchase price of a colt (bloodstock) in the income years 2008 and 2009 — plaintiffs were members of an unincorporated syndicate which purchased a colt for racing purposes with plans to eventually use it for breeding — plaintiffs claimed write downs on the cost of the colt under sEC39(1)(c) Income Tax Act 2007 (“ITA”) (first income year in breeding business) — the colt was never used as a stallion — whether an existing breeding business was a prerequisite for sEC39(1)(c) ITA to apply and if not whether the plaintiffs were carrying on a breeding business — definition of “business”.
JH Coleman for Plaintiffs
HL Dempster and SJL Townsend for Defendant
This judgment was delivered by me on 15 July 2013 at 9:30 am pursuant to Rule 11.5 High Court Rules. Registrar/Deputy Registrar
The plaintiffs challenge income tax assessments by the defendant disallowing their shares of write-downs of the purchase price of a colt in the income years 2008 and 2009.
The plaintiffs are members of an unincorporated syndicate called Te Akau Stallion Syndicate (No 1) (“the syndicate”) which was formed in March 2008. The catalyst for its formation was the availability for purchase of a colt named Roman Gladiator (“the colt”). The syndicate, upon its formation, bought the colt for $550,000 plus GST.
The syndicate agreement contains its objects: 1
The objects of the Syndicate are:
A. To acquire, train and race the Colt, and any other thoroughbred colts acquired by the Syndicate, with a view to increasing their value as thoroughbred Stallions.
B. To carry on business as owners of thoroughbred Stallions.
C. To carry on any other business associated with the racing industry as the Manager, with the approval of the Members, thinks fit.
The plaintiffs contend that pursuant to its objects the syndicate bought the colt for use as a stud stallion. They contend that this was the syndicate's business. It was on this basis that the syndicate members claimed reductions (or write-downs) of the colt's purchase price using the regime established by s EC39 of the Income Tax Acts: 2
Bloodstock to which this section applies
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(1) This section applies to bloodstock that is 2 years of age or older at the end of the first income year in which a person—
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(a) uses the bloodstock for breeding in their breeding business; or
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(b) forms the intention of using the bloodstock for breeding in their breeding business; or
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(c) buys the bloodstock, with the intention of using it for breeding in their breeding business.
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(2) …
Closing value
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(3) The closing value of the bloodstock at the end of the first income year is its cost price minus the reduction applying in that income year.
Determination of reduction
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(4) The reduction that applies is determined under section EC 41, EC 42, EZ 5, or EZ 6 (which relate to bloodstock).
The plaintiffs contend that s EC39(1)(c) applies because the syndicate bought the colt (which, it is common ground, is bloodstock) with the intention of using it for breeding in their breeding business.
The syndicate members opted for the reducing value method permitted by s EC41(3) and reduced the value of the colt by 75% of its cost price in the 2008 income year and 75% of the remaining 25% of the cost in the 2009 year.
The colt was never used as a stud stallion. Its temperament deteriorated to the point where it became too dangerous to keep intact. It was gelded on 5 October 2009. Thereafter, it was shipped to Singapore and used as a racehorse.
The issue is whether the syndicate, and hence the plaintiffs, came within the scope of s EC39(1)(c) for the income years in question. It has the following components:
(a) Is an existing breeding business a prerequisite for s EC39(1)(c) to apply?
(b) If not, did the plaintiffs carry on a breeding business?
The plaintiffs called eight witnesses. Each of the plaintiffs gave evidence, as did the syndicate's manager, Mr David Ellis, and two experts, Mr John Aubrey and Mr Royce Walls. 3 None of the witnesses were challenged for credibility. In my view, that was appropriate.
In a notice of objection to the admissibility of evidence filed by the defendant on 16 April 2013, the defendant took exception to large parts of the briefs of evidence of the plaintiffs' witnesses. The evidence of Mr Ellis was challenged almost in its entirety on the ground that he is disqualified as an expert by reason of the closeness of his association with the syndicate and because of the precedent effect a judgment in favour of the defendant would have. Mr Ellis is the promoter of a number of syndicates which have claimed similar tax treatment.
The defendant was content to allow me to receive the evidence on a contingent basis. The witness statements were taken as read and the witnesses for the plaintiffs were cross-examined on them.
I think this issue is a distraction. The factual matters I have to determine are not finely balanced and do not require me to accept evidence which could be challenged for admissibility on any real basis. I have no doubt that Mr Ellis is an expert in his field. I also have no doubt that the weight I should give his evidence should be assessed in the light of his interest in the proceeding as litigation funder and in the light of the potential effect of its resolution on his other business interests.
Against this background, I make the following findings of fact:
(a) The colt has a pedigree which made it a suitable candidate to be a stud stallion. Its price reflected that potential.
(b) The plaintiffs joined the syndicate on the basis that the colt would be used as a stud stallion if that were feasible.
(c) The plaintiffs understood and intended that the colt would be trained and raced. The purpose of this was twofold:
(i) If the colt were a successful racehorse then it would earn money for the plaintiffs; and
(ii) If it were a successful racehorse then its worth as a stud stallion would be greatly increased.
(d) It is not necessary for a stallion of good pedigree to be a good racehorse before it can stand at stud. Pedigree alone can attract customers and the qualities of the progeny can build up business.
(e) Acquiring a colt for development as a stud stallion is a highly risky venture. I accept the evidence of Mr Walls to the effect that only about 5% of good pedigree colts sold annually at Karaka end up standing at stud. The evidence is that Mr Ellis has greater success than that (perhaps around 30%), but the risk of failure is still high.
(f) The colt was developed for racing. In the 2008 income year that development did not extend to any trialling.
(g) On Christmas Day 2008, the colt attacked and significantly injured one of its jockeys.
(h) In the income year 2009 the colt had three trials.
(i) The colt made no income in the 2008 and 2009 years.
(j) The colt never became a stallion as that term is defined.
(k) The colt was never held out as being available for stud work, and was never used for stud work.
(l) The practical work of caring for and developing the colt was delegated by the syndicate to Mr Ellis as manager. Only one syndicate member, Mr Drummond, was on the syndicate's management committee. Mr Drummond did not take a hands-on approach and the syndicate agreement makes it clear that the powers of the manager to determine the future of the colt (extending to gelding) are extensive.
(m) The syndicate members paid proportionate shares of the ongoing costs of caring for and developing the colt. Since the syndicate is unincorporated, each syndicate member, including the plaintiffs, deducted these costs and claimed their shares of the write-downs individually.
The meaning of an enactment must be ascertained from its text and in the light of its purpose. 4
The legislative history of s EC39 is useful. I begin with a predecessor section, s 86H of the Income Tax Act 1976, which dealt specifically with the tax treatment of bloodstock. Subsection (2)(a) addressed the year in which deductions could be made:
…
(2) Subject to subsection (4) of this section, the value of any bloodstock of a taxpayer to be taken into account at the end of any income year shall be,–
(a) In relation to the first income year of ownership by the taxpayer in which the bloodstock is used for breeding in the course of the conduct of any business of the taxpayer, the amount that remains after deducting from the cost price of
the bloodstock, the specified write down in relation to that bloodstock.(Emphasis added)
As the defendant has submitted, the legislation required bloodstock to be first used by the tax payer for breeding and that use had to be in the conduct of a business. This obviously excludes someone in the business of racing horses with an intention that they be used for breeding in the future in the course of that business or in the course of a future breeding business.
The section was amended by the Income Tax Amendment Act 1990 (No 3), thereafter reading:
(2) Subject to subsection (4) of this section, the value of any bloodstock of any taxpayer to be taken into account at the end of any income year shall be,—
(a)...
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