Commissioner for Inland Revenue v Tod

• Jurisdiction: South Africa
• Judge: Milne JP, Page J and Nienaber J
• Judgment Date: 07 February 1983
• Hearing Date: 03 September 1982
• Court: Natal Provincial Division

Milne JP:

This is an appeal in terms of s 86A of the Income Tax B Act 58 of 1962 ("the Act") against a decision of the Special Court. During the years of assessment ending on the last day of February 1976, 1977, 1978 and 1979, the respondent ("the taxpayer"), made profits on the sale of certain shares. These profits were R114 564,45, R18 513,42, R118 380,26 and R27 C 739,63 for the years of assessment ended 29 February 1976 and 28 February 1977, 1978 and 1979 respectively. The Commissioner included these profits in the taxpayer's income for the years in question, and raised assessments accordingly. The taxpayer objected to these assessments on the grounds that the amounts in question constituted receipts of a capital nature, and were thus not subject to tax. The Special Court allowed the appeal, D set aside the assessments and ordered that the matter be remitted to the Commissioner for re-assessment in the light of its judgment. The Commissioner appeals against this decision.

The period that is directly relevant is February 1976 to February 1979. the Special Court correctly described the background as follows:

E "The appellant was, prior to his retirement in 1948, a dirctor of an engineering company, James Brown and Hamer Ltd. After he had retired actively from business, he commenced farming operations in the Underberg district, which he continued until about the year 1970, after which he retired completely from his various trading ventures. Since his retirement he has lived almost entirely on the dividends which he has received from a fairly large and substantial share F portfolio consisting in the main of shares quoted on the Johannesburg Stock Exchange.

It appears from the evidence that the appellant first commenced assembling (if indeed assembling is the correct word) his share portfolio from about the year 1948. During the period 1948 to 1974, but more particularly during the earliest part of this period, the appellant accumulated, both by means of inheritance and by means of his own purchase, a large number of shares. I pause, however, to point out that even though one talks in this G context of a relatively large number of shares, in fact the appellant's major holding was in four certain companies, namely Barlow Rand, C G Smith and Co (which had taken over shares previously held by the appellant in the Gledhow Sugar Co), Romatex Ltd and South African Breweries Ltd. The remainder of the portfolio consisted of shares of a much lesser value and number.

As I have indicated, the appellant's income from the time of H his retirement consisted almost exclusively of the dividends which he received from his shareholding, the appellant's remaining income being of a relatively minor nature and in the form of interest and dividends on building society shares. There were one or two other somewhat inconsequential sources of income.

At the beginning of 1976, the appellant, through his accountant, one Purnell, consulted a firm of stockbrokers with a view to examining his share portfolio. At that stage he received advice that he would be well advised to spread his share portfolio over more counters. In this way he would avoid the risk which might become attendant upon putting so many of his eggs in the four baskets to which I have previously referred. This advice was accepted,

Milne JP

and following upon it, and early in 1976, there was a certain amount of activity in the rearrangement of the appellant's portfolio. Thereafter, and during the years of assessment in issue in this appeal and (particularly in the 1976 and 1977 tax years) there was far greater activity with regard to the buying and selling of shares on behalf of the appellant than there had ever previously been, and this activity no doubt interested the A Commissioner for Inland Revenue in the appellant's share activities. In the result, and after certain explanations had been furnished to the Commissioner, he issued the assessment to which this appeal relates."

According to Purnell, the taxpayer's dealings with his shares fell into four distinct phases. What was described as phase 1, was the period already mentioned from about 1948 to the B beginning of 1976, during which the initial accumulation of the share portfolio occurred. During this period there was very little movement in the share portfolio.

The evidence as to phase 2 may be summarised as follows:

1.

"At the beginning of 1976", Purnell realised the danger of having a portfolio in which the majority of the shares were C held in only four companies, and as a result, consulted a stockbroker named Smith of the firm Max Pollak and Freemantle as to how the risk could be spread. Smith was advised by Purnell that the taxpayer lived off his dividend income and that the object of looking at the portfolio was to "ensure that there was a growth in dividend income in D the future on good shares".

2.

Smith accordingly made specific recommendations as to what should be done with the portfolio. The recommendations were that:

(a)

all the shares held in four particular companies should be sold. These were the Amic, Assmang, W F E Johnson and McCarthy Rodway shares.

(b)

The holdings in four counters should be gradually reduced. These were Barlow Rand, C G Smith (formerly Gledhow), Romatex and SA Breweries. The Breweries reduction was not quite the same as in the case of the F other three companies. The taxpayer originally had 12 727 Breweries shares. The taxpayer also held 5 800 ordinary Stellenbosch Wine Trust Ltd shares. There was a take-over, and the Stellenbosch shares were converted into 20 300 SA Breweries shares. Mr Smith accordingly advised that the original 12 727 shares should be sold.

(c)

The holding in three counters should be increased. G These were De Beers, Amgold and Amcoal (formerly Vereeniging Estates).

(d)

The proceeds of these sales should be used partly to pay for the increases referred to above, and the balance reinvested in 11 named companies with good potential income. These are the companies shown, in H green, on the chart put in by the taxpayer as exh B in the Court a quo. They are Asea, East Dries, Ed Bateman, Fed Kuns, Gough Cooper, H Lewis, Massey Ferguson, Russell Holdings, SA Druggists, Stewarts and Lloyds and Cementation Company. These are also reflected on a chart which was handed in by Mr Van Rensburg at the hearing before us and which was not an exhibit in the Special Court. I shall call this G. These 11 counters are also shown in green on G.

Milne JP

3.

Smith's advice was accepted and, subject to what follows, the sales and purchases of shares recommended by him accordingly occurred in February 1976.

Phase 3 is described in Purnell's evidence as follows:

A "What happened shortly thereafter? - Shortly thereafter Smith discussed with me the manner in which the return on this particular amount of capital could be increased in one year, from say 8 or 9 percent, which the shares were yielding, to perhaps 12 or 14 percent, and the manner of achieving this end was that one bought a share where a future dividend was imminent and one took that particular dividend. If an B opportunity arose thereafter for another share to be bought where a dividend was imminent, one of the other shares, on which the dividend has already been taken would be disposed of and the new share purchased, and of course the dividend received on that as well. In this manner we were able to, at times, get three or four dividends on a particular sum of capital instead of only getting one on one counter.

In this operation was any profit sought on the subsequent sale of the share ex dividend? - No I do not think that the C quantum of profit which may have been realised entered into the matter at all. We were quite satisfied as long as we recouped the original cost of the share and a similar amount of capital to invest again. Obviously there was no point in doing the scheme if one lost capital every time one did it.

Mr Broomberg: The only objective was to get the dividends? - That is right.

President: And with shares that were likely to maintain their D price notwithstanding? - Yes. It was a standing rule that shares were never bought unless they could be held for many many years to come. In other words, if shares were bought and there was some disaster, or something happened to the market, one always had shares in the portfolio which one could afford to sit tight with, hold and get a good dividend, until matters improved.

Mr Broomberg: You would not be ashamed to hold them? - You E would not be ashamed to hold them, no."

In the respondent's heads of argument, this phase is summarised as follows:

"Between March 1976 and September 1977, the respondent embarked on a procedure, in terms of which shares were purchased with a specific intention: to derive an immediate dividend thereon and thereafter to sell those shares as soon as that could be done without incurring a significant loss."

F Phase 4 is the phase during which shares were only sold for "some really cogent reason" and in order to raise the funds to pay the additional assessments. This was the result of a decision taken by Purnell in January/February 1978. He took a decision, at that time, to put an end to the phase 3 G operations, as a result of reading an article to the effect that the Department of Inland Revenue were going to revise their policy in a manner which might affect the taxation of the proceeds of operations such as the phase 3 operations.

As it was put by GROSSKOPF J in Bloch v Secretary for Inland Revenue 1980 (2) SA 401 (C) at 406H, in order to prove that the H profit on the sale of shares fell within the expression "receipts or accruals of a capital nature", the taxpayer had to prove

"... that the shares were an item of fixed capital in his hands. This turns on the purpose with which he acquired and held...