OVERSEAS TEXTILES LTD v. COMMISSIONER OF INLAND REVENUE

IN THE SUPREME COURT OF HONG KONG

CIVIL JURISDICTION

INLAND REVENUE APPEAL NO. 2 of 1987

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JUDGMENT

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1. This is a case stated pursuant to section 69 of the Inland Revenue Ordinance (Cap. 112) on the application of Overseas Textiles Limited. The facts are comprehen-sively stated by the Board of Review.

2. The Appellant company carried on business as a textile manufacturer. It owned a piece of land ("the land") which it used for the purpose of its textile manufacturing business. In 1976 it decided to cease its textile manufacturing business, demolish its factory premises on the land, and redevelop the land. The Appellant ceased business in June 1976. When it did so it had certain stocks of raw materials, which it sold. It also had certain outstanding spinning and weaving contracts. Not being able to complete the latter upon cessation of business it was obliged to pay compensation for breach of contract.

3. The Commissioner of Inland Revenue decided that the Appellant was liable to pay tax on the surplus that arose upon sale of the raw materials, and that the compensation payments were not expenses of the Appellant which could be deducted from its assessable profits but were capital payments incurred by the Appellant to enable it to cease its manufacturing business. The Appellant appealed to the Board against that decision claiming that either the compensation payments should be allowed as deductions from the taxable surplus arising from the sale of raw materials or alternatively if the compensation payments could not be deducted, then the surplus on disposal of the raw materials should not be subject to tax.

4. The Board acknowledged the logic of that, but held that the Inland Revenue Ordinance and previous decisions did not support the Appellant's argument. The first part of the appeal is against that decision, and is posed in the following two questions:-

At the hearing of the appeal before me Mr. Dennis Yu for the Appellant conceded that question (a) was to be answered in the affirmative. By concession it is accordingly so answered.

5. Proceeding to question (b), it was in effect answered in the negative by the Board in reliance upon section 15D(2) of Cap. 112, which reads as follows:

"Where a person who has ceased to carry on a trade, profession or business in Hong Kong pays any sum which, if it had been paid before such cessation, would have been deductible in computing the profits of the trade, profession or business in respect of which the person is chargeable to tax under this Part, then to the extent to which the sum has not already been deducted in computing such profits, that sum shall be deducted in ascertaining his profits for the year of assessment in which the cessation occurred."

6. The Board held that whether or not there was such a nexus as suggested by the Appellant between the raw materials and the compensation payments that the latter must be allowable expenses, the Commissioner was right in disallowing the compensation payments from the taxable profits of the Appellant because the payments were not incurred in the course of the trade or business previously carried on by the Appellant.

7. Mr. Yu submits that the Board erred in law in deciding that the compensation payments were not  incurred in the course of the trade or business previously carried on by the Appellant. In particular, he submits that under sections 15C and 15D(2), where a person ceases to carry on a trade or business, the proceeds from the sale of the raw materials are deemed to be profits arising from the Appellant's business. That is not quite what section 15C says. What it does say is that the trading stock "shall be valued for the purpose of computing the profits in respect of which the person who has ceased trading is chargeable to tax" and that the value in the present context shall be the amount it would have realised if it had been sold on the open market. Thai such proceeds are to be taken into account for the purpose of computing the profits does not mean they are, or are deemed to be profits. Proceeding to section 15D(2), it provides that where a person ceases to carry on a trade or business and pays any sun, which if paid before such cessation would have been deductible in computing the profits, then to the extent that has not already been done, that sum shall be deducted in ascertaining the profits (my emphasis). I can see nothing wrong with the Commissioner's view that the payments were not incurred in the course of the trade or business previously carried on by the Appellant, and the Board's endorsement of that view, which, with respect, seems to me to he quite right. A sum paid "to get rid of a possible law suit after discontinuance" of a business is not made for the purpose of the trade as Upjohn CJ, observed in Godden (H.M. Inspector of Taxes) v .A Wilson's Stores (Holdings), Ltd. 40 T.C. 161, 174. Far from being made for the purpose of carrying on the trade, such a payment is on the contrary is made for the purpose of ending it. This consideration effectively disposes of Mr. Yu's submission. I would, however, go on to echo the Board's observation. It may be that the ordinance is unfair in this regard, but that is not a matter for the Board or, indeed, this Court. The relevant provisions of the Ordinance are quite clear. The answer to question (b) must, therefor be in the negative.

8. I proceed them to questions (c) and (d) which may be conveniently dealt with together.

This part of the case is concerned with whether or not the Appellant was carrying on a property dealing business when it redeveloped its land and sold units in the new flatted factory building. The Commissioner decided that it was. The Board correctly dealt with the matter as one of fact to be decided upon the totality of the facts. From its summary of the facts, the following emerges. The Appellant owned the land which was clearly a capital asset. The entire shareholding was sold by the former owners who operated the textile factory, to the new owners who were Hong Kong property developers. A Board meeting on 28 day 1976, following the transfer of ownership, was informed that since the directors were unfamiliar with the textile trade, it would be beneficial to the Company to cease business as such and utilise the land more advantageously by erecting a flatted factory on it for rental. It was resolved that the Company would cease business on the 3rd June 1976 and that architects would submit redevelopment plans as soon as possible.

9. The Company ceased business in June 1976 and erected a flatted factory on the land but instead of retaining the building for rental purposes proceeded to sell units in it. Demolition of the old factory buildings commenced on 12 December 1976. The redevelopment was carried out in stages and completed during the year ended 31st March 1979. The redevelopment was financed by commercially funded borrowing of $19,000,000 and by pre-completion sales of units. The first sales appear to have taken place in March 1977.

10. In May 1977 the Appellant through its agent embarked upon a major sales promotion campaign and a press release described the development as the Kwun Tong Industrial Centre which would include units as small as 912 square feet and which, with a total of 1.8 million square feet; would be the largest industrial development ever undertaken in Hong Kong. The project was stated to be a $300,000,000 development offering the man in the street a chance to buy his own factory. It is not necessary to recount all the other superlatives including calculations that 50,000 people per day would visit the factories, the provision of "300 car parks" (sic), and 36 lifts, 4 of which would have a 70 person capacity.

11. On 14th April 1977 tire Appellant's Memorandum of Association had been amended to add two new objects including inter alia the dealing in land for investment only, and the acquisition, development and resale of land acquired by or which belonged to the Appellant.

12. The Board in its decision referred to The Hudson's Bay Co. Ltd. v Stevens (Surveyor of Taxes) (1909) 5 T.C. 424; West v Phillips (H.M. Inspector of Taxes) (1958) 38 T.C. 203 and Taylor v Good (Inspector of Taxes) (1974) 1 WLR 556, in which land or buildings were disposed of from time to time at substantial profits which were held not to be taxable. The Board observed that the relevance of those cases lay in demonstration what a taxpayer could do to realise the best price for a capital asset owned by him i.e. undertake considerable work, build roads and divide land into seperate lots, and redecorate flats and houses. It went on to spy that it is equally clear from the decided cases that if the facts show that the taxpayer has embarked upon a venture in the nature of a trade or has started trading in real estate, then the profits arising from such activities is correctly taxable. With respect that is right and I did not understand Mr. Yu to complain about that view of the law.

13. The Board went on to endorse the Commissioner's rejection of the Appellant's contention that the inclusion of the words "for rental" in the Appellant's Board's resolution established an original intention to redevelop with a view to retaining the new factory building for rental purposes.

14. Mr. Yu submits that there is no evidence that the Appellant purchased any proeperty for resale. Indeed there is not but there is suffidient, even ample and cogent evidence of a training venture. I will waster no more time upon this submission which is deveoid of merit.

15. Mr. Yu also submits that the Board's reasoning is founded upon the assumption that the Appellant must be taken to have embarked upon a trade unless it had intended to redevelop the land for rental purposes and did not deviate thereform; and that that assumotion is an error of law.

16. Now I suppose it is just possible to contend that such an assumption was made. But upon any reasonably careful reading of the decision, Mr. Yu's submission is untenable. The fullsome consideration of the point by the Board, and that by the Commissioner clearly originated in the contentions of the Appellant, which in my view were rightly rejected. Mr. Yu's submission here also fails.

17. Mr. Yu goes on to make related submissions complaining of the alleged may in which the Board dealt with the intention of the Appellant to retain the factory buildings for rental purposes, the intention to realise its capital asset, and the intention to change from such realisation to trade. In my view they all fail for the simple reason that there is ample evidence upon which the Commissioner and the Board could find that there never was any intention to retain the factory building for rental purposes, notwithstanding that a resolution was passed apparently authorising such retention, inter alia.

18. Reverting then to question (c), it can readily be seen to bear little relevance to the realities of this case. It is founded upon a travesty of the situation found by the Commissioner and by the Board upon ample evidence, that there was a property business carried out by the Appellant, which clearly was a venture on a massive scale. Moreover "doing nothing in the nature of buying immoveable property" is irrelevant given the finding of a property business and the evidence of a business venture of massive proportions. I therefore do not propose to answer this question. It is clear from the observations of Sir Alan Huggins V. P. in Chinachem Investment Co. Ltd. v Commissioner of Inland Revenue (Court of Appeal 1986 No. 116, unreported) that I am entitled  to decline to do so. I will add that I find no merit in the grounds underlying the question for the reasons I have indicated.

19. Proceeding to question (d), the answer is clearly yes. There was sufficient, indeed ample and cogent evidence, as I have indicated upon which the Board could come to its conclusion. That, of course, is the only basis for a question of law in what is otherwise a question of fact.

Mr. Yu submits that if the amendment on 14 April 1977 evidences a change of intention, the Appellant previously not having had power to redevelop land, the relevant date of commencement was 14th April 1977. I do not agree;   it would simply be the earliest date upon which property dealing could properly commence. I would accept that the amendment on 14 April 1977 could be evidence of a change of intention. That is not to say that such evidence could not properly be rejected, or, indeed, that there was such a change in fact. The evidence overall strongly points to the intention all along having been to implement the trading venture. Nevertheless, I would accept that the Board was inaccurate in stating that "there is no evidence whatsoever of any change of intention between 28 May 1976, being the date of the Board resolution, and May 1977". But I cannot see that that affects the Board's conclusion, i.e. that the Appellant had no real intention to build a flatted factory for rental purposes.

20. But Mr. Yu also relies upon Lord Radcliffe's dictum in his judgment in Edwards (H. M. Inspector of Taxes) v Bairstow and Another (1956) AC 14; 36, that upon a case stated to the court by commissioners, it is the court's duty to examine the determination having regard to its knowledge of relevant law; and that the court must intervene if the case contains anything ex facie which is bad in law. Upon that authority Mr. Yu submits that no tribunal acting judicially and properly instructed upon the law could have ignored the amendment; alternatively that the fact of the amendment is inconsistent and contradictory of the Board's statement that I have already accepted is inaccurate. I will merely repeat that the inaccurate statement has in my firm view, had no effect upon the Board's conclusion. Clearly it could quite properly, and would in any event, have come to the same conclusion.

21. I think it is necessary at this stage to return to question (e), from which Mr. Yu's submissions have strayed somewhat. As I have already recorded from the findings of the Commissioner and the Board, the first sales appear to have taken place in March 1977, and in May 1977 the Appellant embarked upon the major sales promotion I have already mentioned. Those facts in my view are sufficient evidence upon which the Commissioner and the Board could properly conclude that the Appellant commenced a property dealing business on May 28, 1977. For myself, I must say that the Appellant having failed to assist in providing any further evidence, that does seem to be the most probable date of commencement on such evidence as there is. Accordingly the answer to question (e) is in the affirmative.

22. To sun up, the answers to the several questions are: