Commissioner of Taxation v Sydney Refractive Surgery Centre Pty Ltd
Document type: Decision Impact Statement
Venue: Federal Court of Australia (NSD 601 of 2008)
Judgment date: 18 December 2008
Date published: 15 December 2009

Summary of decision:
Outlines the Tax Office's response to this case which concerned the assessability under section 6-5 of the Income Tax Assessment Act 1997 of an amount in relation to damages awarded to a corporate taxpayer as a result of defamation proceedings.

Overview of facts:
This was an appeal to the Full Federal Court from a decision of a single judge. | On 18 March 2004, the Supreme Court of New South Wales entered judgment in favour of the taxpayer for $844,624.00 following the jury verdict in favour of the taxpayer against the respondent for publishing false and misleading statements as to the nature and quality of laser eye surgery services provided by the taxpayer. The Commissioner included that amount (less $31,898 allowed as costs) in the taxpayer's assessable income in the year it was paid. The taxpayer objected and the objection was disallowed. The taxpayer subsequently appealed. | The Supreme Court assessed damages on a lost profits basis. The formula applied was the actual number of surgical procedures which did not occur as a result of the adverse impact of the defamatory publications, multiplied by the average gross revenue per procedure then subtracted the costs which would have been incurred in performing those procedures and subtracted the amount of tax that would have been levied. | The judge and parties to the Supreme Court proceedings all assumed that the damages award itself would not be assessable as ordinary income. The Court relied on the English view described by the primary judge as the Gourley principle (referring to British Transport Commission v Gourley ) which was approved by the High Court. The principle is that notional tax savings must be taken into consideration when calculating damages in order to ensure that the plaintiff is not overcompensated for its loss. Applying this principle, the Supreme Court reduced the damages awarded by 36 percent, representing the estimated tax payable on the additional surgical procedures. | Issues decided by the court or tribunal | The Full Federal Court held that the proper test is to look at the character of the payment in the hands of the taxpayer. For an award of damages, that test requires an examination of the nature of the claim or cause of action, in respect of which the payment was made, and not how the payment was formulated. In this case, the damage was to the corporation's reputation which is part of what enables it to earn money. An injury to that reputation diminishes its capacity to earn because it reduces the corporation's ability to induce others to do business with it. The Court said that an award of damages for that injury is therefore no different from an award for the loss of an arm or any other injury impairing earning capacity.

Issues decided:
The Full Federal Court held that the proper test is to look at the character of the payment in the hands of the taxpayer. For an award of damages, that test requires an examination of the nature of the claim or cause of action, in respect of which the payment was made, and not how the payment was formulated. In this case, the damage was to the corporation's reputation which is part of what enables it to earn money. An injury to that reputation diminishes its capacity to earn because it reduces the corporation's ability to induce others to do business with it. The Court said that an award of damages for that injury is therefore no different from an award for the loss of an arm or any other injury impairing earning capacity.

ATO view of decision:
The ATO did not seek special leave to appeal as the decision of the Full Federal Court was open to it on the facts of the case. In addition, its application to corporations needs to be considered in light of amendments subsequently made to the defamation laws in all of the states and territories. An example is to be found at section 9 of the Defamation Act 2005 (NSW) where certain corporations do not have a cause of action for defamation.

Administrative treatment:
Implications on current Public Rulings & Determinations | None

Legislative references: Income Tax Assessment Act 1997 6-5
Case references: British Transport Commission v Gourley [1955] UKHL 4 [1956] AC 185 Cullen v Trappell [1980] HCA 10 (1980) 146 CLR 1 80 ATC 4185 (1980) 10 ATR 772 Eisner v Macomber [1919] USSC 119 (1920) 252 US 189 Liftronic Pty Ltd v Commissioner of Taxation (1996) 66 FCR 175 (1996) 32 ATR 557 (1996) 96 ATC 4425 London and Thames Haven Oil Wharves Ltd v Attwooll [1967] 2 All ER 124 Polone v Commissioner of Internal Revenue 505 F3d 966 (9th Cir 2007) Roemer v Commissioner of Internal Revenue [1983] USCA9 1596 716 F2d 693 (9th Cir 1983) Rubber Improvement Ltd v Daily Telegraph Ltd [1964] AC 234 [1963] 2 All ER 151 [1963] 2 WLR 1063 Sydney Refractive Eye Surgery Centre Pty Ltd v Beaumont [2004] NSWSC 164 Sydney Refractive Surgery Centre Pty Ltd v Commissioner of Taxation [2008] FCA 454 (2008) 247 ALR 313 (2008) 70 ATR 874 [2008] ATC 20-036 Tourism Holdings Australia Pty Ltd v Commissioner of Taxes [2007] NTSC 22 (2007) 210 FLR 80 2007 ATC 4420 (2007) 66 ATR 262 United States v Kaiser [1960] USSC 93 (1960) 363 US 299 Upenieks v Canada [1995] 1 CTC 8D Welch v Helvering [1933] USSC 140 (1933) 290 US 111 Whyte v Morin [2008] BCWLD 3470 Z-Tel Communications Inc v SBC Communications Inc 331 FSupp2d 513 (ED Tex 2004)
Subject references: Income tax Derivation of Income Compensation receipts Character of receipts