TEPE HOLDINGS LIMITED V COMMISSIONER OF INLAND REVENUE COA CA676/2010

TEPE HOLDINGS LIMITED V COMMISSIONER OF INLAND REVENUE COA CA676/2010 21 October 2011IN THE COURT OF APPEAL OF NEW ZEALANDCA676/2010[2011] NZCA 534BETWEEN TEPE HOLDINGS LIMITEDAppellantAND COMMISSIONER OF INLANDREVENUERespondentHearing: 8 September 2011Court: Arnold, Randerson and Wild JJCounsel: R B Squire QC and D C J Russ for AppellantE J Norris for RespondentJudgment: 21 October 2011 at 10:00 AMJUDGMENT OF THE COURTA The appeal is dismissed.B The appellant is to pay the respondent costs for a standard appeal on a band A basis plus usual disbursements.____________________________________________________________________REASONS OF THE COURT(Given by Wild J)Introduction[1] This is an appeal against a judgment of Ronald Young J.1 The question on appeal is whether the Judge was right to hold that a transaction entered into by the appellant, Tepe Holdings Ltd (Tepe), was not the supply of a going concern and thus1 Tepe Holdings Ltd v Commissioner of Inland Revenue (2010) 24 NZTC 24,551 (HC).was not zero rated for GST purposes under the Goods and Services Tax Act 1985 (the Act).Factual background[2] In 2002 Tepe purchased the Group E shares in an office-owning company called Central House Ltd (CHL).2 Under CHL's constitution, this gave Tepe theright to occupy the fourth floor of Central House in Brandon Street, Wellington.[3] As required by CHL's constitution, a lease of the fourth floor was executed between Tepe and CHL. Tepe sub-leased the fourth floor to two tenants. By March 2007 both tenants' leases had expired, but they continued to lease their premises on monthly tenancies pursuant to s 105 of the Property Law Act 1952.[4] On 2 March 2007 Tepe entered into an agreement with Okato Management Ltd (Okato) for the sale of its shares in CHL. The following parts of the agreement are relevant:(a) The agreement was in the standard REINZ/ADLS form of Agreement for Sale and Purchase of Real Estate 7th Edition, July 1999.(b) The property being sold was described thus:Exclusive occupation rights to the 4th floor of the building known as―Central House, 26 Brandon Street, Wellington being Group E ofthe shareholding in Central House Limited being 19,750 shares numbered 89,501 to 109,250 inclusive.(c) The purchase price was $260,000 inclusive of GST (if any).(d) Possession date was 30 March 2007.(e) Vacant possession was to be given on possession date.(f) The chattels clause provided:2 The tax implications of CHL being an office-owning company are explained in [13] below.The following chattels if now situated on the property are included in the sale – as inspected.All partitions.(g) Clause 13.1 provided:If this agreement relates to the sale of a tenanted property (not being an exempt supply within the meaning of the Goods and Services Tax Act 1985) (the ―Act) then, unlessotherwise expressly stated herein:a) each party warrants that it is a ―registered personwithin the meaning of the Act; andb) the parties agree that the supply made pursuant to this agreement is the supply of a going concern on which GST is payable at zero per cent.(h) Clause 16 required Okato to comply with Reg 13.5 of CHL'sconstitution.3[5] On 15 March 2007 Okato advised Tepe it ―intends to retain the existing tenants on level four on the same terms . In a further communication, also on 15 March, Okato sought Tepe's consent to ―supplant Central Beehive Ltd (Beehive)as purchaser. Assuming consent, it suggested the agreement be varied by attachingcopies of the letter of request and Tepe's reply.[6] Tepe replied the same day consenting to the substitution of Beehive and agreeing to the suggested method of varying the agreement.[7] On 23 March CHL approved transfer of the Group E shares to Beehive.[8] The transaction was settled on 30 March 2007. These features of the settlement are relevant:3 Regulation 13.5 of CHL's constitution provided:Execute Lease: The holder of each group of shares shall prior to their registration as a shareholder holding such group, execute a lease with the Company in the form set out in Schedule 4 and the Company shall upon registration of such person, firm or corporation as a Shareholder be bound to enter into and execute such lease PROVIDED HOWEVER that nothing contained in this Clause 13.5 shall affect any of the leases held by the Shareholders as at the date of adoption of this Constitution to the intent that each such lease shall continue to have full force and effect until such time as the lessee thereunder ceases to be a shareholder of the Company.(a) On 30 March Tepe sent a duly executed deed of surrender of lease of the fourth floor to CHL, which the latter duly signed and dated 30 March 2007.(b) Tepe's settlement statement debited Beehive with the purchase price of $260,000 plus ground rental and quarterly levies which Tepe had paid in respect of periods after 30 March 2007, and credited Beehive with rent pre-paid by the tenants of the fourth floor for periods after 30 March 2007.[9] Tepe's letter covering its settlement statement advised Beehive that it should make arrangements with the tenants for rentals due from April 2007 onward and advised that it would notify the tenants of the change of landlord.[10] Following settlement, Beehive and CHL entered into a lease for the fourth floor of Central House for a term of 100 years from 30 March 2007.Dispute over GST[11] Tepe claimed the transaction was the sale of a going concern and was thus zero-rated for GST purposes. The respondent, the Commissioner of Inland Revenue (CIR), maintained that it was a sale of shares and therefore not exempt from GST. The parties agreed to refer this dispute over GST to the High Court, pursuant to s 89N(1)(c)(viii) of the Tax Administration Act 1994.The tax law[12] As Tepe was registered for GST, any supply of goods it made was liable toGST. Tepe's shares in CHL were within the broad definition of ―goods in s 2 of the Act. Tepe's sub-letting of the fourth floor of Central House was a supply of goodsand thus a ―taxable activity as defined in s 6 of the Act. Tepe's sale of its shares toBeehive was ―done in connection with the ending of that taxable activity and was thus included by s 6(2) within the term ―taxable activity. Accordingly, Tepe'ssale of shares was subject to GST under s 8 unless the Act otherwise provided.[13] Section 14(1)(a) of the Act ordinarily exempts a supply of shares from GST,as it is a ―financial service. A ―financial service is defined in s 3 as including a transfer of ownership in an ―equity security, a term defined as meaning ―anyinterest in or right to a share in the capital of a body corporate. However, s 3(3)(c) of the Act provides that a share in the share capital of an office-owning company as defined in s 121A of the Land Transfer Act 1952 is not an equity security. As CHL was an office-owning company, Tepe's sale of its shares in CHL was not exemptfrom GST under s 14.[14] A sale of goods otherwise subject to tax under s 8 will be zero-rated for GST if it falls within any of the categories set out in s 11. The relevant category here is sale of a going concern. ―Going concern is defined in s 2 of the Act thus:going concern, in relation to a supplier and a recipient, means the situation where—(a) There is a supply of a taxable activity, or of a part of a taxable activity where that part is capable of separate operation; and(b) All of the goods and services that are necessary for the continued operation of that taxable activity or that part of a taxable activity are supplied to the recipient; and(c) The supplier carries on, or is to carry on, that taxable activity or that part of a taxable activity up to the time of its transfer to the recipient.[15] Under s 11(1)(m), the supply to a registered person of a taxable activity that is a going concern at the time of the supply will be charged at a rate of 0% GST if:(i) the supply is agreed by the supplier and the recipient, in writing, to be the supply of a going concern; and(ii) the supplier and the recipient intend that the supply is of a taxable activity, or part of a taxable activity, that is capable of being carried on as a going concern by the recipient.[16] The effect of all this is that the transaction was subject to GST if it was the sale (or supply) of shares in CHL. But it was zero-rated for GST if it was the supply of a taxable activity that was a going concern and the requirements of s 11(1)(m) were met.The High Court judgment[17] The Judge held that the transaction was the sale of the shares of a company, not the sale of a going concern.[18] The Judge's approach was that mandated by Richardson J in Marac Life Assurance Ltd v Commissioner of Inland Revenue,4 in particular in this passage:5The true nature of a transaction can only be ascertained by careful consideration of the legal arrangements actually entered into and carried out: not on an assessment of the broad substance of the transaction measured by the results intended and achieved or of the overall economic consequences. The nomenclature used by the parties is not decisive and what is crucial is the ascertainment of the legal rights and duties which are actually created by the transaction into which the parties entered. The surrounding circumstances may be taken into account in characterising the transaction.[19] The Judge rejected Tepe's argument that the sale, correctly viewed, was thetransfer of a going concern of the lease of the fourth floor of the building. The basis for that argument was that the agreement involved not just the sale of the shares but also the transfer of the chattels and partitions. In addition, it required the parties to agree on the future status of the existing tenants. Tepe argued those factors demonstrated that the sale was much more than just the sale of shares. Tepe was operating a commercial leasing business which it transferred to Beehive.[20] The Judge's reasons for rejecting this argument can be summarised thus:(a) The agreement identified the sale of shares as the essence of what was transferred. Tepe owned nothing other than the shares. Thus, the agreement properly described the transaction as the sale and purchase of shares. No interest in land was directly conveyed by the transaction.4 Marac Life Assurance Ltd v Commissioner of Inland Revenue [1986] 1 NZLR 694 at 706.5 At 706.(b) All the essential rights and obligations of the parties to the transaction stemmed from the sale and transfer of the shares. The agreement obliged Tepe to transfer the shares and surrender the lease.(c) Although the agreement recorded that it was the sale of the exclusiveoccupation rights to the fourth floor, CHL's constitution did not giveexclusive rights. It gave a ―right to occupy, which was subject to the other rights in CHL's constitution. The ―right to occupy only arosewith ownership of the shares in CHL. It obliged Beehive, together with CHL, to sign a new lease subject only to CHL's right to assessBeehive.(d) The agreement itself did not provide for surrender of the lease nor the execution of a new lease. Those obligations arose from the sale of the shares and the obligations of the shareholders in CHL under its constitution. That was further illustration that the sale was of shares, not any interest in land.[21] Consequent upon his finding that the transaction was a sale of shares, Ronald Young J held that clause 13.1 of the agreement had no application.6 He observedthat the clause was ―inserted no doubt to meet the requirements of the Goods andServices Tax Act 1985, s 11(1)(m).7Tepe's argument on appeal and our decision on it[22] Somewhat to the surprise of counsel for the CIR, Mr Squire QC accepted that the correct approach to ascertaining the nature of the transaction was that mandated by Richardson J in Marac in the passage we have cited at [18] above. In acceptingthat, Mr Squire emphasised the words ―and carried out in the first sentence of this passage. This was an invitation to us to look, not just at the agreement itself, but at the way in which it was carried into effect. Analysed in this way, Mr Squire6 At [47].7 At [46].contended that the transaction was the sale of a going concern and thus zero-rated for GST.[23] Mr Squire's first point was that the agreement was not just a sale of theshares, but also a sale of the partitions and chattels on the fourth floor. He accepted that the agreement did not ascribe any separate consideration to the partitions and chattels, but submitted that some value must have been ascribed to them.[24] While we accept that the agreement expressly included the partitions and chattels as inspected, we do not accept that Tepe has established that any consideration was ascribed to them or, if it was, what that consideration was. Tepe carried the onus of proof on those matters. There was no evidence on which findingscould be based. Mr Squire's submission that some value must have been ascribed tothose items is but an invitation to speculate. For all the Court knows, the parties may have ascribed little value, or no value, or even negative value to these items, as each of those options occurs in transactions of this type. We conclude that the inclusion of the partitions and chattels in the agreement does not detract from the finding that it is properly viewed as a sale of shares.[25] Mr Squire's second point was that a ―transfer of the tenancies was engrafted onto the agreement later and that converted it into the supply of a going concern. For evidence that the tenancies had been ―transferred upon settlement of theagreement, Mr Squire pointed to the apportionment in the settlement agreement of the rent from the two tenants.[26] We do not accept that there was a transfer of the tenancies. Tepe was required to surrender its lease from CHL upon settlement, and did so. We referred to this in [20](b) above. No longer having a lease of the fourth floor, Tepe had no sub- leases of space on the fourth floor to transfer or assign to Beehive. It is significant that there was no evidence of such transfers or assignments.[27] The correct analysis of what happened is that the two tenants on the fourth floor simply remained in possession, because Beehive had indicated to Tepe that it wanted them to remain. As each tenant had paid monthly rent in advance, Tepeaccounted to Beehive for its portion of that pre-paid rental. The apportionment in the settlement statement was the most convenient way of doing that. The clumsy alternative was for Tepe to refund the rent overpaid to it to each of the respective tenants and for the tenants to pay that to Beehive. Tepe's covering letter of 30 March 2007 (to which we refer in [9] above) advised Beehive that it would need to make new leasing arrangements with the tenants and presumably it did so.[28] The further, somewhat obvious, difficulty with Mr Squire's submission that atransfer of the two tenancies was engrafted onto the agreement is that the purchase price did not alter to reflect any such engrafting. The purchase price remained $260,000. That indicates that nothing of any value was added to the agreement after it was entered into on 2 March and before it was settled on 30 March 2007.[29] To summarise, having surrendered its lease of the fourth floor, Tepe could not transfer the fourth floor tenancies to Beehieve and there is no evidence that it did so. The unchanged purchase price indicates that nothing of value was added into the transaction.[30] Although not referred to in the judgment under appeal, we consider thisCourt's decision in CIR v Gulf Harbour Development Ltd8 is squarely against the analysis contended for by Tepe. Gulf Harbour was an unsuccessful attempt by theCIR to argue that the sale of redeemable preference or ―membership shares in acompany was a supply subject to GST. That was because those membership shares carried the right to membership of a country club. Counsel for the CIR argued that―what were really being sold here were memberships to the country club. The equitysecurity (that is shares) element was ancillary or incidental to that supply.9Applying Marac, this Court had little difficulty in rejecting the CIR's argument. TheCourt stated:10Although [counsel for the CIR] disputed that her argument was effectively one of substance over form, we disagree: in our view that is exactly what her argument amounted to, and as such it is contrary to well-established authority in this Court.8 Commissioner of Inland Revenue v Gulf Harbour Development Ltd [2005] 2 NZLR 162 (CA).9 At [13].10 At [15].[31] Mr Squire sought to distinguish Gulf Harbour on the basis that the country club memberships attached to the membership shares, whereas here the transfer of the chattels, partitions and tenancies was severable from the share sale. For the reasons we have given in dealing with the chattels, partitions and tenancies we do not accept that. We consider Gulf Harbour and Marac are authorities fatal to the position contended for by Tepe.Result[32] The appeal is dismissed. Tepe is to pay the CIR's costs as for a standardappeal on a band A basis, plus usual disbursements.Solicitors:Fletcher Vautier Moore, Nelson for AppellantCrown Law Office, Wellington for Respondent