COMMISSIONER OF INLAND REVENUE v. WARDLEY INVESTMENT SERVICES(HONG KONG) LTD.

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Judgments handed down: 10 December 1992

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J U D G M E N T

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Fuad, V.-P.:

1. This is an appeal by Wardley Investment Services (Hong Kong) Limited ("the Taxpayer") from an order of Godfrey J. dated 10th March 1992 upon a case stated by the Board of Review ("the Board") under section 69 of the Inland Revenue Ordinance, Cap. 112 ("the Ordinance"). The operative part of the order stated:

"This court is of the opinion that the decision of the Board was erroneous and does accordingly allow this appeal,"

and there was a costs order in favour of the Commissioner of Inland Revenue ("the Commissioner"). There is a Respondent's Notice by the Commissioner. The issue between the parties concerns the liability of the Taxpayer to profits tax in respect of certain profits earned in the tax years 1985/86 and 1986/87.

2. Part IV of the Ordinance makes provision for the imposition and assessment of profits tax. For the purpose of this appeal, the material part of section 14 is as follows

"14. Charge of profits tax

Subject to the provisions of this Ordinance, profits tax shall be charged for each year of assessment at the standard rate on every person carrying on a trade, profession or business in Hong Kong in respect of his assessable profits arising in or derived from Hong Kong for that year from such trade, profession or business (excluding profits arising from the sale of capital assets) as ascertained in accordance with this Part: ..."

3. The Taxpayer is a private company incorporated in Hong Kong and at all material times was an investment adviser engaged in the management of customers' investment portfolios under management contracts with them. The Taxpayer gave general advice to its customers on investments as well as managing and investing customers' funds for them. The Taxpayer arranged the buying, selling and exchange of securities on behalf of its customers in Hong Kong and elsewhere through dealers and brokers.

4. Customers paid the Taxpayer a management fee from time to time calculated at a percentage of the funds being managed, the fees being deducted from funds held on behalf of the customer. Under the relevant arrangements, the Taxpayer was also entitled, the Board found:

"by way of 'additional remuneration as manager' to receive and retain rebates and share commissions from stockbrokers employed by the Taxpayer to perform transactions carried out on behalf of the customer and comprising the acquisition of or disposal of any of the investments into which the funds of the customer entrusted to the Taxpayer were invested."

5. It is in relation to what the Board termed "rebate commissions" received by the Taxpayer in respect of the purchase of bonds, shares etc. in overseas markets that the controversy between the parties has arisen. The Board found that where such transactions were involved, the Taxpayer would "negotiate for a share of the commission charged by the overseas agent for performing the transaction be paid to the Taxpayer."

6. The Taxpayer's profit and loss accounts for the years 1985 and 1986 showed a distinction between rebate commissions received on account of transactions effected by local brokers (under the heading "taxable") and those effected by foreign brokers.

7. This review of the background to the dispute is taken from the facts found by the Board. The Board also found these facts:

"(x) The entire operation, organisation, offices, staff and all other facilities of the Taxpayer were all situate in Hong Kong and nowhere else. The Taxpayer maintained bank accounts and securities accounts in foreign countries where it held investments belonging to its customers and was able to transfer moneys and give instructions to acquire and sell investments entirely at its discretion. All decisions and instructions were made in and given from Hong Kong. To effect transactions in the acquisition and disposal of overseas investments, the Taxpayer made use of the overseas services of agents in the form of brokers and others carrying on business in the countries and at the places where the overseas investments were traded. All instructions given to such overseas agents were given from Hong Kong being the only place where the Taxpayer had its staff and organisation."

8. The following is a summary of the Board's principal conclusions:

(a) Section 14 of the ordinance made it clear that taxation in Hong Kong was based upon a territorial concept. Profits tax was only chargeable on persons who carry on a trade, profession or business in Hong Kong (subject to certain statutory exceptions which had no application in this case). However, such a person only paid tax on those profits which arose in or were derived from Hong Kong from the business which he carried on in Hong Kong. The words of the section were quite clear and precise and were capable of no other interpretation;

(b) The fact that the Taxpayer carried on its business in Hong Kong and nowhere else was not the determining factor in deciding whether or not profits from that business arose in or were derived from Hong Kong. If the mere fact of carrying on business in Hong Kong meant that all profits worldwide from such business were taxable here, section 14 of the Ordinance would be worded differently, Hong Kong would have a worldwide tax base and would require an extensive network of tax treaties;

(c) Every case had to be decided on its own particular facts according to the clear and strict wording of the Ordinance. One principle which appeared from all the authorities was that each case must be decided on the totality of its facts and that no short cuts could be taken in categorising sets of facts or laying down guidelines for different categories of cases. The question of geographic source of income for tax purposes was a practical hard matter of fact;

(d) The nature of the income sought to be taxed was the share of commissions earned by overseas brokers. What the Taxpayer was receiving was an actual share of the overseas agent's commission. Clearly the overseas agent had earned his commission overseas. It could not be suggested that the overseas agent was taxable in Hong Kong on the fees he earned. The agreements between the Taxpayer and its overseas agents were to share in the gross profits, that is, commissions which the overseas agents made on business offered to the overseas agents by the Taxpayer;

(e)     The argument that since the rebate commissions arose from the management contract between the Taxpayer and its customers, they were sourced in Hong Kong was attractive because the principal fees earned by the Taxpayer under its management contracts were taxable in Hong Kong and comprised a percentage of the funds under management. However this was placing too much importance on the management contract as the source and introduced an element of artificiality into the matter;

(f) The remuneration was stated in the management contracts to be remuneration for the management services of the Taxpayer and these services were performed in Hong Kong. However, it could not be said that because the Taxpayer was carrying on business in Hong Kong, all his income must be taxable in Hong Kong. The Board had to look more closely at the nature of the income in this case. The operations from which this particular income arose were the activities of overseas agents buying and selling investments in their own overseas market places. To find that such income originated in Hong Kong would be flying in the face of what a practical man would regard as the real source of the income.

9. The Board went on to find "as a matter of fact that the rebate commissions which are the subject matter of this appeal did not arise in nor were derived from Hong Kong and accordingly should not be charged to Hong Kong tax."

The question of law formulated by the Board in the case stated is in these terms:

". . whether the Board has erred in law in holding that the income in dispute did not arise in or was not derived from Hong Kong from a trade or business carried on by the Taxpayer in Hong Kong."

10. In his reserved judgment, the judge noted that the parties appeared to have agreed that the rebates should be treated as "income" of the Taxpayer for profits tax purposes insofar as they arose out of or were derived from transactions executed in Hong Kong. However, they had differed about rebates arising out of or derived from transactions executed overseas. While agreeing that these, too, were "income" of the Taxpayer, the Commissioner's contention had been that the source of that "income" was a Hong Kong source (the contract between the taxpayer and the customer) whereas the Taxpayer had contended that the source of the "income" was an overseas source (the brokers' commissions from transactions executed overseas). The Board had held that 'the income in dispute' did not arise in and was not derived from Hong Kong. All this, in the judge's view, betrayed a number of misconceptions as to the true legal position.

11. Godfrey J. said that the problems which arose from the fact that the tax was only on profits arising in or derived from Hong Kong (and not on profits arising in or derived from a place outside Hong Kong) had been lucidly analysed by Lord Bridge of Harwich in Commissioner of Inland Revenue v. Hang Seng Bank Ltd. [1991] 1 AC 306. The judge continued in words almost identical to those of Lord Bridge when giving the judgment of the Privy Council (at p.319):

" It follows that a distinction must fall to be made between profits arising in or derived from Hong Kong ('Hong Kong profits') and profits arising in or derived from a place outside Hong Kong ('offshore profits') according to the nature of the different transactions by which the profits are generated. But here a difficulty at once arises. The net profits of a business before taxation in any given period can only be calculated by deducting from the aggregate income from all sources the aggregate expenses of the business of every kind. If one requires to identify the profits derived from separate transactions, one can only identify the gross profit which each transaction yields ... But this gross profit becomes an item of income in the bank's profit and loss account for the period which, aggregated with all other items of income, only contributes to the net profits when all expenditure has been deducted. The practical problem to which this distinction between gross and net profits gives rise in the calculation of 'assessable profits' under section 14, which must of course exclude offshore profits, is resolved by the Inland Revenue Rules made under section 85 of the Ordinance. Rule 2A(1) provides:

'No deduction shall be allowed for any outgoing or expense incurred in the production of profits not arising in or derived from Hong Kong, but where any outgoing or expense was incurred partly in the production of profits arising in or derived from within Hong Kong and partly in the production of profits arising or derived from outside Hong Kong, then, for the purpose of ascertaining the extent to which such outgoing or expense is deductible under section 16 of the Ordinance, an apportionment thereof shall be made on such basis as is most appropriate to the activities of the trade, profession or business concerned.'

In this rule the phrase 'the production of profits not arising in ... Hong Kong' is clearly a reference to the gross profits arising from the offshore transactions after deducting from the offshore income only the offshore expenditure specifically referable thereto. But in arriving at the amount of offshore profits to be deducted from the net profit of the business in calculating the 'assessable profits' under section 14 it is obviously necessary, as rule 2A(1) provides, that the gross offshore profits should be scaled down to bear their fair share of the general expenses of the business which contributed indirectly to earning Hong Kong and offshore profits alike."

Godfrey J. then said:

"The profits of the taxpayer arise out of and are derived from its management contracts with the customers. Under those contracts, it receives remuneration, which is its 'income'. Its basic remuneration is its management fees; its additional remuneration is the money, which it is entitled to keep for itself, received by way of rebates from brokers both in Hong Kong and overseas; and its total 'income' is the aggregate of its basic and additional remuneration. In the computation of its assessable profits, it will be entitled to deduct all the outgoings and expenses incurred in the production of the remuneration, wheresoever they are incurred. The transactions it instructs brokers to execute on the customers' behalf do not give rise to any 'income' for the taxpayer; let alone any 'profit'. The transactions are effected for the benefit of the customers, not the taxpayer; and the rebates would, but for the provisions of the management contracts as to remuneration, enure for their benefit also. The significance of the rebate is merely that it reduces the expense of executing the customer's transaction. The customer having authorised the taxpayer to retain the rebate for its own account, the remuneration payable by the customer to the taxpayer is increased by the amount of the saving. The only source of the 'income' which the taxpayer receives, and on the basis of which its assessable profits fall to be computed, is its remuneration under its management contracts with its customers. The taxpayer obviously cannot be required to bring into account both the additional remuneration and the rebate itself; that would be to bring the same sum into account twice over."

After giving examples to illustrate these propositions, the judge went on to say:

" It is to be observed that the rebate is in no sense a 'profit' arising out of or derived from a transaction effected by the taxpayer for its own benefit. The only person who makes any 'profit' out of the transaction, the sale or purchase of securities, whether effected in Hong Kong or overseas, is the broker who effects the transaction on the instructions of the taxpayer. His profit consists of the whole of his commission, less the outgoings and expenses incurred in producing it (which in his case include the rebate he has had to give to the taxpayer). The arrangement between the taxpayer and the broker, whether in Hong Kong or overseas,, is in no relevant sense a profit-sharing arrangement. The taxpayer is not in any sort of partnership with the broker. The taxpayer is able, because of its muscle in the market, to obtain the services of the agent at a discounted price. There is nothing more to it than that.

The question raised by the stated case for the opinion of the Court, which is whether the board had erred in law in holding that 'the income in dispute' did not arise in and was not derived from Hong Kong proceeds on the footing that the rebate is to be treated as 'income' of the taxpayer. But if, as I hold, the rebate is not to be treated as 'income' of the taxpayer at all, here is no room for any inquiry whether the 'income' is sourced in Hong Kong or overseas."

12. When the Board reached its decision and when, later, it stated the case, it did not have the benefit of two recent decisions of the Privy Council on the very question that had ultimately to be addressed in the present case: whether particular profits gained by the taxpayer in question were "profits arising in or derived from Hong Kong" for the purposes of section 14 of the ordinance - Commissioner of Inland Revenue v. Hang Seng Bank Ltd. [1991] 1 AC 306 and Commissioner of Inland Revenue v. HK-TVB International Ltd. [1992] 3 WLR 439. The Hang Seng Bank case was discussed and applied by Lord Jauncey in the HK-TVB case when giving the judgment of their Lordships and at pp.443-444 he said this:

"The issue in Commissioner of Inland. Revenue v. Hang Seng Bank Ltd. [1991] 1 A.C. 306 was also whether certain profits accruing to a company trading in Hong Kong arose in or derived from Hong Kong, but the facts were somewhat different. The practice of the taxpayer bank was to invest its day to day surplus holdings in foreign currencies on certificates of deposit which were issued by overseas banks agreeing to repay a fixed sum of money on a fixed. date at a fixed rate of interest but which, unlike fixed deposits, were readily marketable at any time before maturity at a price which reflected the accrued interest element up to the date of sale. During the three relevant years of assessment there were markets for certificates of deposit in London and in Singapore but not in Hong Kong. The taxpayer bank's foreign exchange department continually monitored the day to day situation and decided what certificates should be purchased and at what time before maturity they should be sold. Instructions for these purposes were given through correspondent banks in London and Singapore. The funds used in and accruing from these transactions were debited and credited to accounts of the taxpayer bank with overseas banks and it was the profits from these transactions which the commissioner sought to tax.

Before this Board the commissioner advanced two main submissions, namely: (1) that the business of the bank was one indivisible since all the profit earning operations were directed from Hong Kong by staff therein employed, no overseas branch of the bank was involved and the funds employed in the purchase of the certificates of deposit arose from the carrying on of the business in Hong Kong; and (2) that in any event, even if the sale and purchase of certificates of deposit failed to be treated as separate operations, nevertheless the profits from these operations arose in Hong Kong. The investment decisions were taken in Hong Kong and the funds used in the purchase derived from Hong Kong depositors.

This Board rejected both these submissions and held that the profits did not arise in or derive from Hong Kong. In rejecting the first submission Lord-Bridge of Harwich, who delivered the judgment of the Board, said, at p.318:

'Their Lordships cannot accept this submission. Three conditions must be satisfied before a charge to tax can arise under section 14: (1) the taxpayer must carry on a trade, profession or business in Hong Kong; (2) the profits to be charged must be `from such trade, profession or business,' which their Lordships construe to mean from the trade, profession or business carried on by the taxpayer in Hong Kong; (3) the profits must be 'profits arising in or derived from' Hong Kong. Thus the structure of the section presupposes that the profits of a business carried on in Hong Kong may accrue from different sources, some located within Hong Kong, others overseas. The former are taxable, the latter are not. On the commissioner's submission the requirement of condition (3) would be otiose, since it would be sufficient to show that profits were earned by a business carried on in Hong Kong to make them taxable.'

He then went on to reject a submission that the third condition was only effective to except a Hong Kong profits taxpayer from liability to tax on the profits of an independent business carried on by him overseas. Later, in a passage to which much argument was directed in this appeal, Lord Bridge said, at pp. 322-323:

'But the question whether the gross profit resulting from a particular transaction arose in or derived from one place or another is always in the last analysis a question of fact depending on the nature of the transaction. It is impossible to lay down precise rules of law by which the answer to that question is to be determined. The broad guiding principle, attested by many authorities, is that one looks to see what the taxpayer has done to earn the profit in question. If he has rendered a service or engaged in an activity such as the manufacture of goods, the profit will have arisen or derived from the place where the service was rendered or the profit making activity carried on. But if the profit was earned by the exploitation of property assets as by letting property, lending money or dealing in commodities or securities by buying and reselling at a profit, the profit will have arisen in or derived from the place where the property was let, the money was lent or the contracts of purchase and sale were effected.'

F.L. Smidth & Co. v. Greenwood [1921] 3 K.B. 583 was cited in the Hang Sing Bank case and their Lordships do not doubt that Lord Bridge had in mind the judgment of Atkin L.J. in that case and in particular the passage when he said, at p.593: 'I think that the question is, where do the operations take place from which the profits in substance arise?'

Thus Lord Bridge's guiding principle could properly be expanded to read 'one looks to see what the taxpayer has done to earn the profit in question and where he has done it.' Further their Lordships have no doubt that when Lord Bridge, after quoting the guiding principle, gave certain examples he was not intending thereby to lay down an exhaustive list of tests to be applied in all cases in determining whether or not profits arose in or derived from Hong Kong. In the Hang Seng Bank case [1991] 1 A.C. 206 the two transactions which threw up the profit, namely the purchase and resale of the certificates of deposit, both took place outside Hong Kong and this Board held that the profits did not arise in or derive from Hong Kong, notwithstanding the fact that all the instructions to buy and sell originated in Hong Kong and that there was no independent branch office interposed between the head office in Hong Kong and the following transactions."

13. Mr. Robert Kotewall (who did not represent the Taxpayer either before the Board of before Godfrey J.) has submitted that the judge was wrong not to uphold the Board's decision since the Commissioner had been able to point to no error of law either in the Board's findings or its conclusions. The Board had addressed the only issue - whether the rebate commissions arose in or were derived from Hong Kong. The Board's decision was right; alternatively, there was evidence upon which the Board could reasonably have come to its decision and in the absence of any misdirection on the facts or the law, the Board's conclusions could not be disturbed by the court

14. Mr. Kotewall submitted, rightly, that the authorities showed that each item of profits had to be considered separately to ascertain whether it arose or was derived from Hong Kong for the purposes of attracting profits tax under section 14 of the Ordinance. In commenting upon Lord Jauncey's observation at p.446 of the HK-TVB case ("In the view of their Lordships it can only be in rare cases that a taxpayer with a principal place in Hong Kong can earn profits which are not chargeable to profits tax under section 14") Mr. Kotewall drew attention to a number of Hong Kong cases where the source of a taxpayer's profits had been held to be different from its principal place of business. He pointed out that the Board had recognised that "in normal circumstances, profits. arise where a person carries on his business ..." adding "[but] this is not necessarily the determining factor".

15. Mr. Kotewall argued that the Board had been on sure ground in referring to the views of "a practical man" regarding the real source of the income in question in the light of Lord Atkin's approval of the following observation (made by a judge in a case in the High Court of Australia) in Liquidator, Rhodesia Metals Ltd. v. Commissioner of Taxes [1940] AC 774 (P.C.) at p.789:

"Source means not a legal concept, but something which a practical man would regard as a real source of income " ... "the ascertaining of the actual source is a practical hard matter of fact."

16. Counsel pointed out that although the Board had not had the benefit of the Hang Seng Bank decision as a guide, it had asked itself (on page 18 of the case stated) the very question suggested as the appropriate one in F.L. Smidth & Co. v. Greenword [1921] 3 KB 583, at p.593, approved by Lord Jauncey in the HK-TVB case, at p.444:

"I think that the question is, where do the operations take place from which the profits in substance arise?"

17. It was the Taxpayer's case that the originating cause of the transactions which produced the profits had been its exploitation of overseas assets (the overseas investments) through its overseas agents - by the purchases and sales by overseas agents abroad on the Taxpayer's instructions. The successful negotiations or contracts between the Taxpayer and its overseas agents and the management contracts with its customers were incidental. If the transactions regarding which instructions had been given had not been carried through for one reason or another, no commission rebates would arise despite the arrangements between the overseas brokers and the Taxpayer, and the management contracts between the Taxpayer and its customers. Mr. Kotewall contended that the judge had not appreciated this and in any event had not addressed, adequately or at all, the critical issue. If no profit had accrued to the Taxpayer then, of course, no tax would be payable, but if profits had been gained then it was necessary to determine whether or not they arose in or were derived from Hong Kong. He further suggested that the judge had not given sufficient weight to the finding of the Board (which had not been challenged) that what the Taxpayer had received was "an actual share of the overseas agents' commission". Commissions were derived from the acquisition and disposal of overseas investments by overseas agents employed by the Taxpayer outside Hong Kong - and there could be no doubt that those agents had earned their commissions overseas.

18. It became clear during the hearing of this appeal (as presaged by the Notice of Appeal and the Respondent's. Notice) that neither Mr. Kotewall nor Miss Gladys Li (who was representing the Commissioner for the first time in this controversy) were confident that they had fully understood the judge's reasoning. It is with very great respect that I say that all the members of this court shared the uncertainty expressed by leading counsel.

19. From the passages of his judgment that I have set out above, it is clear that the learned judge's whole approach to the issues before him was governed by his view that once the true nature and effect of the arrangements which ultimately led to a rebate being received by the Taxpayer were properly understood, everything fell into place, and it became readily apparent that the Taxpayer's liability to profits tax in respect of the amounts represented by the rebates was the same whether the relevant transactions had been carried out by Hong Kong brokers or overseas brokers. As I understand him, the judge concluded that only the broker made a profit out of the transactions effected on the instructions of the Taxpayer, who took no share of this profit. The Taxpayer's only source of income, on the basis of which assessable profits fell to be computed, was the amount to which it was entitled under the management agreements - the basic remuneration (the management fees) as well as the additional remuneration represented by the rebates.

20. It is, of course, a trite observation that every case, particularly in this field of law, will depend upon its particular facts. The facts of the present case are, I think, unusual and it is dangerous to draw analogies from the position in other cases.

21. I prefer to return to Lord Bridge's "broad guiding principle" expressed in the Hang Seng Bank case, as expanded by Lord Jauncey in the HK-TVB case: "one looks to see what the taxpayer has done to earn the profit in question and where he has done it."

22. When addressing the question the Board had formulated for itself: "where did the operations take place from which the profits in substance arise", in my respectful judgment the Board did not appear to appreciate that it is the operations of the taxpayer which are the relevant consideration. If the Board had been able to benefit from the decisions of the Privy Council in the Hang Seng Bank and the HK-TVB cases, I have little doubt the Board's general approach to the issues would not have been the same. I think that Miss Li was right when she submitted that the case stated clearly indicated that the Board had looked more at what the overseas brokers had done to earn their profits. Of course, there would have been no "additional remuneration" ultimately credited to the Taxpayer if the brokers had not executed the relevant transactions, and these took place abroad, but this does not tell us what the Taxpayer did (and where) to earn its profit. The Taxpayer, it seems to me, while carrying on business in Hong Kong, instructed the overseas broker from Hong Kong to execute a particular transaction. The Taxpayer was carrying out its contractual duties to its client and performing services under the management agreement in Hong Kong and in return receiving the management fee as well as the "additional remuneration as manager" to which it was entitled under that agreement. In my view, the Taxpayer did nothing abroad to earn the profit sought to be taxed. The Taxpayer would be acting in precisely the same manner, and in the same place, to earn its profit, whether it was giving instructions, in pursuance of a management contract, to a broker in Hong Kong or to one overseas. The profit to the Taxpayer was generated in Hong Kong from that contract although it could be, traced back to the transaction which earned the broker a commission.

23. For the reasons I have attempted to give, I would dismiss the Taxpayer's appeal.

Sir Derek Cons, V.-P.:

24. The broad principle, which should guide the Commissioner and theBoard of Review in cases of this kind, is, as my Lord has indicated, to be found in the words of

Lord Bridge in Commissioner of Inland Revenue v. Hang Seng Bank Limited [1991] 1 AC 306:

"one looks to see what the taxpayer has done to earn the profit in question".

25. In Commissioner of Inland Revenue v. HK-TVB International Limited [1992] 3 WLR 439 Lord Jauncey, giving the advice of the Board, observed that their Lordships did not doubt that Lord Bridge had in mind the judgment of Atkin, L.J., in Smidth v. Greenwood [1921] 3 KB 583 when the letter said:

"I think that the question is, where do the operations take place from which the profits in substance arise"

and then expanded the guiding principle to:

"one looks to see what the taxpayer has done and where he has done it".

26. Having regard to the factual differences in the two cases it was considered a mistake to seek an analogy with the former and instead their Lordships took the proper approach to be:

"to ascertain what were the operations which produced the relevant profits, and where those operations took place".

That is remarkably similar to the approach taken by the Board of Review in the present instance:

"The question which we now ask ourselves is where did the operations take place from which the profits in substance arise in this present case".

However, in answering that question, the Board perhaps did concentrate too much on the objective nature of the transactions themselves and too little on the part played in them by the taxpayer. This is not surprising, since at the time that the Board of Review were giving consideration to the question their Lordships' guidance in the Hang Seng Bank case had not yet been given.

27. The question of what the taxpayer did to earn the profits in question is one that find myself unable to answer with confidence and am conscious that my Lords have come to a different conclusion. But, for my part, I would see the answer as being "to put business in the way of an overseas broker". That is why the broker was willing to pay money to the taxpayer, albeit in the form of a rebated commission, fearing, presumably, that if he did not do so the bank might well take the business elsewhere.

28. I find equally difficult the question of where the taxpayer can properly be said to have acted in this way. Miss Li, for the Commissioner, urges Hong Kong, where the instructions were given, where the taxpayer keeps its administration and staff and where the decision to buy or sell is taken. On the other hand, Mr. Kotewall, for the taxpayer, emphasizes that instructions are valueless until received and that the commission, from which the overseas broker eventually pays the taxpayer, is not earned until the transaction has been carried out.

29. I have eventually come to the conclusion that the latter is the better view. In addition to the points made by Mr. Kotewall, the position appears to me to have a significant similarity with that of Commissioner of Income Tax v. Chunilal B. Mehta (1938) AIR 232 at 235 in that at the end of the day the overseas broker:

"has money in his hands or under his control which as between himself and the assessee belongs to the assessee".

30. It is true that, but for the clause in the management agreement, the taxpayer could not keep that money for himself; and I have to accept that it is described in the agreement as "additional remuneration". But I find it difficult to see what the taxpayer has done vis-a-vis the customer to earn that particular piece of remuneration or to accept that a profit which has never even notionally reached the customer, for that is precluded by the clause in the management agreement, can be said in any way to emanate from him.

31. For these reasons I regret that I am unable to agree with my Lords. For my part I would allow the appeal.

Penlington, J.A.:

32. I agree with Fuad, V.-P., and, for the reasons he gives, would also dismiss this appeal. I am satisfied that the taxpayer only receives a taxable profit when, pursuant to the management agreement, it debits its customer with the full commission, including the amount of the rebate on the offshore transaction. If the overseas broker charged its full commission but sent part of it to the taxpayer in Hong Kong the taxpayer could not retain it but would be obliged, as the customer's agent, to account for it. It is only the terms of the agreement which enable the taxpayer, in Hong Kong, to credit the payment to itself, not the customer.

33. I agree with Godfrey, J, when he says that the agreement with the overseas broker simply means that the transaction is done at a discounted rate of commission - there is no profit accrued to the taxpayer at that stage.

The profit only comes when the amount of the rebate is debited to the customer in Hong Kong and credited to the taxpayer. To use the test so succinctly stated by Atkin L.J. in F.L. Smidth & Co. v. Greenwood, approved by Lord Jauncey in Commissioner of Inland Revenue v. HK-TVB International Ltd, the operation from which the profit arises is the debiting of the customer with the full rate of, commission and the retention, pursuant to the agreement, of the difference between that and the discounted rate. That operation clearly takes place in Hong Kong.

34. The facts here are distinguishable from the Hang Seng Bank case because there, although the decision-making process was carried on in Hong Kong, the securities traded overseas belonged to the bank. As soon as any of them was sold at a profit, that profit belonged to the bank. The money did not have to be brought back to Hong Kong at any stage. Here there was no profit to the taxpayer until the second part of the transaction - the debiting of the client with the full commission - was done in Hong Kong.

35. This is not a matter which clearly calls for only one conclusion but in my view the offshore broker does not pay the taxpayer - as found by Godfrey, J. - he simply charges a discounted commission. The payment from which the taxpayer earns a profit comes from the customer in Hong Kong who pays the full commission to the taxpayer who is then entitled to retain a part of it. Until he does that the taxpayer has made no profit on the transaction.

Sir Derek Cons, V.-P.:

36. In handing down these judgments, by a majority dismissing the appeal, we make an order nisi that the Respondent shall have his costs thereof.