In 1987 the High Court handed down its decision in the Myer Emporium case, a decision which was regarded as expanding the existing law about when gains would be treated as ordinary income. Over the following 30 years, the folklore about just what Myer decided grew remarkably and the decision gained a life of its own, but a recent decision of the Federal Court (Greig) has cast some doubts about just what ‘the Myer principle’ stands for. While the ATO won the case, it may be a victory the ATO will come to regret.
The relevant transactions in the Myer case were undertaken by The Myer Emporium Ltd, the parent company of the Myer group, comprising more than 50 companies. The group carried on retailing and property development activities. Just which subsidiaries operated which parts of the business is not clear from the judgment but the Federal Court was clear that The Myer Emporium Ltd was carrying on business itself: The Myer Emporium Ltd "acted in the role of a financier for the Group, by raising outside finance when necessary. It still does so to some extent… It had been in the ordinary course of its business to lend moneys to subsidiaries."
The Myer Emporium Ltd’s defence was simple: it argued that the profit the company made from a coupon-stripping operation was not ordinary income because the transaction was outside the scope and ordinary course of the company’s business; the company was admittedly carrying on business, but this particular transaction was extraneous to the business. The High Court held against the taxpayer on the basis that simply being outside the ordinary course of the company’s business was insufficient: transactions outside the ordinary course of business can also generate ordinary income in some circumstances: if "the transaction [was] entered into by the taxpayer with the intention or purpose of making a profit or gain …"
The lore which grew up around the Myer decision focussed entirely on the taxpayer’s purpose. The view which emerged was that whenever a taxpayer entered the transaction with the intention of making a profit or gain, then any taxpayer – even one who was not otherwise carrying on business – would trigger ordinary income. This extrapolation took ‘the Myer principle’ and applied it to situations which were not the same as the facts of that case – i.e., taxpayers who were not already carrying on business, but speculated in some isolated project.
The decision in Greig is a reminder that it is actually important to ask the question, is the taxpayer carrying on business? The taxpayer, an individual, was denied an allowable deduction for losses sustained on share transactions. The taxpayer’s position was that ‘the Myer principle,’ was not "confined to isolated transactions where a taxpayer was otherwise carrying on business;" any taxpayer could be affected. The ATO agreed that this was what the Myer decision established. The Court did not, insisting that, "the circumstance that the taxpayer is engaged in business at the time of the relevant transaction or acquisition is relevant." Mr Greig was limited to claiming a capital loss, even though the judge accepted that "[the] shares were acquired as a whole with the desire that the shares would go up in value and would be sold for a profit."
The decision has ramifications for taxpayers who are not otherwise carrying on business. Just whether a taxpayer is carrying on business is obvious in some cases and unclear in others. The issue resurfaced in 2017 in the context of the rate reduction for small companies. The ATO was proposing that a company would be viewed as carrying on business simply by being a company, so almost every company would qualify if its turnover was below the threshold. The Government had to amend the legislation to exclude companies which earned mostly passive income. And the ATO re-expressed the view in its ruling on when a foreign-incorporated company will be regarded as resident in Australia because it is managed here and carries on business in Australia.
The ATO seems committed to the idea that a company, simply by being a company, will be viewed as carrying on business, regardless of the type of income it earns. But there must be limits to this idea even for companies. Presumably, a company which is formed simply to hold title to some asset is not carrying on business especially if the asset is not generating current income, mutual companies and companies limited by guarantee and others which are not operated to make profits (and could not distribute profits to members if they were any) are not axiomatically carrying on business, a company which is a trustee is not axiomatically carrying on business unless it is earning a fee, a dormant company may have stopped carrying on business. For companies, however, resolving this issue may be unnecessary; unless the transaction yields a loss, in many cases a company will be ambivalent about whether it has made a capital gain or a revenue gain.
But for other classes of taxpayer, the issue remains more relevant, and for both gains and losses. The ATO has taken the view that, "the same activity undertaken by a trustee is similarly less likely to amount to the carrying of a business, than if it were to be carried on by a company." And in the case of superannuation funds, the ATO has said, "it would be rare for an SMSF to meet the conditions necessary to establish a property investment business. Courts have generally been reluctant to find an investment business being carried on by a trust … even in the case of large superannuation funds that invest on a considerable scale."
The ATO may well have limited Mr Greig to a capital loss only, but taxpayers will now have more opportunity to argue that they enjoy discounted capital gains.