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Smith, David M --- "Australasian Jam Co Pty Ltd V Federal Commission Of Taxation - A Retrospective" [2005] JlATaxTA 8; (2005) 1(1) Journal of The Australasian Tax Teachers Association 110

AUSTRALASIAN JAM CO PTY LTD V FEDERAL COMMISSION OF TAXATION — A RETROSPECTIVE

DAVID M SMITH[∗]

ABSTRACT: On 9 September 1953, Mr Justice Fullagar of the High Court of Australia handed down his judgment in the most significant case dealing with the valuation of trading stock under the Australian federal income tax legislation.[1]This case, Australian Jam Co Pty Ltd v FCT (‘Australasian Jam’)[2]is significant in that it settled most of the issues concerned with the application of the relevant provisions of the Income Tax Assessment Act 1936 (Cth).[3]It clarified how the choice between permitted methods is to be made and considered major issues dealing with the meaning of the valuation methods permitted for income tax purposes.

This article firstly considers the state of law prior to the handing down of the decision so that its impact can be seen in its contemporary context. Secondly, it considers Australasian Jam and the clarification of the legislative scheme for the valuation of trading stock for taxation purposes and the issues the case resolves with respect to the to this legislative scheme,[4]and the relationship with commercial business practice and the taxation requirements. Thirdly it applies the reasoning of the case to settle unresolved questions as to the valuation of trading stock in the Australian context. These issues include the use of the ‘Last In, First Out’ (‘LIFO’), ‘Next In First Out’ (‘NIFO’) and ‘datum value’ methods for determining ‘cost price’ and the meaning of ‘the price at which it can be replaced’ (now ‘replacement value’).

The article then compares the tax situation to the accounting practices with respect to the valuation of trading stock at the time in Australia as reflected in surveys of published accounts, the accounting literature and pronouncements of the accounting profession.

I INTRODUCTION

On 9 September 1953, Mr Justice Fullagar of the High Court of Australia handed down his judgment in the most significant case dealing with the valuation of trading stock under the federal income tax legislation. This case, Australian Jam Co Pty Ltd v FCT (‘Australasian Jam’),[5]is significant in that it settled most of the issues concerned with the application of the relevant provisions of the Income Tax Assessment Act 1936 (Cth), namely ss 28–31.[6]In a mere 3,330 words[7]Fullagar J’s judgment clarified how the choice between permitted methods worked and considered major issues dealing with the valuation methods permitted for valuing trading stock for income tax purposes. One point that is not usually associated with the case was that it gave some clarification to the meaning of the term ‘trading stock’ as defined by s 6(1) of ITAA 1936. Fullagar J also considered the operation of s 29 of the Act.

II BACKGROUND

The main provision with which Fullagar J was primarily concerned was s 31 of the Income Tax Assessment Act 1936 (Cth) which provided that:

31(1) [Value of trading stock]

Subject to this section, the value of each article of trading stock (not being live stock) to be taken into account at the end of the year of income shall be, at the option of the taxpayer, its cost price or market selling value or the price at which it can be replaced.[8]

The first Australian federal income tax legislation was enacted in 1915 (Act No 34 of 1915), namely the Income Tax Assessment Act 1915 (Cth) (‘ITAA 1915’). The relevant provisions dealing with the valuation of trading stock were in s 14(a), which provided:

14 The income of any person shall include-

(a) profits derived from any trade or business and converted into stock-in-trade or added to the capital of or in any way invested in the trade or business:

Provided that for the purpose of computing such profits the value of all live-stock, produce, goods and merchandise (not being plant used in the production of income) not disposed of at the beginning and end of the year in which the income was derived shall be taken into account; [9]

Thus, under s 14(a) of the ITAA 1915 ‘the value’ of trading stock on hand at the end of the year had to be taken into account in determining income for taxation purposes. However, no guidance was given as to how such trading stock was to be valued.

The Income Tax Assessment Act 1922 (Cth) (‘ITAA 1922’) was far more specific in its treatment of the valuation of trading stock. The relevant provision is s 16 which provided:

16. The assessable income of any person shall include-

(a) profits derived from any trade or business and converted into stock-in-trade or added to the capital of or in any way invested in the trade or business:

Provided that for the purpose of computing such profits the value of all live stock (not being live stock used as beasts of burden or as working beasts), and trading stock (not being live stock), not disposed of at the beginning and end of the period in which the income was derived shall be taken into account: For the purposes of this paragraph “Value” means-

(i) in the case of live stock (not being live stock used as beasts of burden or as working beasts) the values as prescribed; and

(ii) in the case of trading stock (not being live stock) - the actual cost price or market selling value of each article of trading stock, or the price at which each article of trading stock can be replaced, at the option of, the taxpayer in respect of each article;[10]

The reason for allowing these three methods for valuing trading stock for taxation purposes is difficult to discover. None the standard works on Australian income tax give any clue as the origin of the choice of these methods, however A A Fitzgerald has stated that:

When the present Section 31 was inserted in the Income Tax Assessment Act in 1922, the then treasurer, Mr. S. M. Bruce, said that it “contemplates all the possible and reasonable bases upon which trading stock could be taken with justice ‘to the individual taxpayer and the Department’.” It was believed for many years that the options given by Section 31 were satisfactory to the taxpayer [11]

III CONTEXT OF AUSTRALASIAN JAM — THE PRIOR LAW

Other than Australian Jam there are only a handful of court cases in the Australian jurisdiction which deal with the proper methods of valuing ‘trading stock’ under s 31 of the ITAA 1936. A discussion of the relevant sections of the judgments in these cases will put Fullagar J’s judgment in Australian Jam in its proper context.

In Moreau v FCT,[12]the taxpayer had purchased goods from France and, when they were delivered into stock, the cost price in French francs was entered into the records; beside the actual price was a conversion to pounds sterling. The contract price was specified in francs and unalterable. Isaacs J described the facts and concluded his findings as follows:

When goods were purchased from France, the price was agreed upon in francs, and as francs the price was inalterable. On arrival into stock, the cost price in francs was entered but alongside that actual price there was a conversion into pounds sterling at the rate of 25 francs to the pound. ... It happened that before the price became payable, the value of the franc fell so that fewer pounds sterling had to be taken out of the business in order to provide the necessary number of francs. ... The taxpayer’s contention is that the number of pounds sterling originally reckoned at 25 francs to the pound is the proper cost price for income tax purposes; the Commissioner contends that the number of pounds sterling eventually and actually used to pay for the goods is the true cost price. I agree with the Commissioner. ... but the important and only relevant fact in this connection is the actual amount of Australian money used for the purpose. [13]

Thus, it is the actual price paid that is the actual cost price incurred and not the anticipated cost price when the goods were ordered or delivered, which is relevant in determining the cost of trading stock under s 31.[14]It can also be argued to the contrary that on the basis of the foreign exchange cases where the payment takes place in a later year of income the full amount should be shown as the cost of the items of trading stock: see Texas Co (Australasia) Ltd v FCT.[15]

In Farnsworth v FCT,[16]Latham CJ rejected the Commissioner’s contention that the taxpayer’s share of the estimated proceeds of the sale of the dried fruits (£A 684) could not be regarded as any measure of value:

The amount of £ 648 was not an estimate of the value of any fruit owned by the taxpayer which was then on hand. It was an estimate of what she would probably receive after 30th June 1943 so as to pay her on a pooling basis the total amount which she would be entitled to receive for all her fruit from the total proceeds of all pooled fruit. The amount of £ 648 was an estimate of probable future income. Each grower had on 30th June 1943 a right to receive further progress payments and a final payment, but that right was not stock in trade. It was not something produced for the purpose of being sold. Nor was the separate interest of each grower in the mass of pooled fruit something produced for the purpose of being sold. These separate interests did not become the subject of sale. Such interests are not “articles” within s.31.... ... These statements refer to debts owed to a taxpayer continuously carrying on a trading business which upon any system of accounting would be regarded as book debts.... But the amount of £ 648 in the present case was not a debt owed by any person to the taxpayer. It represented only an estimate of what the taxpayer would probably be paid if the mass of fruit were all sold and paid for. Accordingly, in my opinion, this amount should not be included as if it were a debt owed to the taxpayer.[17]

Summing up, Rich J noted:

In my opinion, when the appellant handed over her fruit and it was processed she ceased to be the owner of it and it was not part of her stock in trade. If and when stock is sold and the proceeds of sale are received by the owner, such proceeds become assessable income from the date of sale. The sum in question was merely a prophetic estimate of the share of the net proceeds of sale she might receive after the sale. [18]

Thus once again, one must deal with real values, not anticipated values when determining the value of trading stock for income tax purposes.

In The Commissioner of Taxation of Western Australia v D & W Murray Ltd,[19]the High Court considered the effect of particular rebates received by the taxpayer with respect to the certain cost of acquiring their trading stock, that is, purchasing expenses, insurance in transit et cetera. The Court in its judgment decided as follows:

We think that in a proper ascertainment of the profits of the business in Western Australia the rebates would be thrown against the expenditure or payments in respect of which they were made and received, and therefore treated as a mere diminution of expenses. [20]

Cost price was also considered by the Commonwealth Taxation Board of Review in (1947) 14 CTBR(Reprints) Case 10, where by default the taxpayers ( a department store) had chosen to value all their trading stock at cost and then applied uniform mark ups to the cost price of the trading stock to determine the stock’s selling price. The selling prices were reviewed regularly and the prices of slow-moving items reduced, with the consequential reduction of the ‘cost price’ used by the taxpayer for taxation purposes. This reduced ‘cost price’ being calculated by applying the uniform mark-up to the reduced selling price. The facts in this case are remarkably similar to those in United Kingdom case of B.S.C. Footwear Ltd (Formerly Freeman, Hardy & Willis Ltd) v Ridgway (Inspector of Taxes),[21]except, of course, that the taxpayer having elected to value its trading stock using the ‘cost price’ method, they could not use any of the other permitted methods of value under s 31(1) to value its trading stock in the relevant years. The Chairman[22]of the Board of Review, Mr H H Trebilco, commented that:

It was made clear at the hearing that the purpose of the writing down of the value of stock was not an attempt to arrive at replacement cost. It had no relation whatever to market selling value. [23]

It was also clear from the evidence that the directors of the company in this case took no cognisance of the taxation consequences when they decided upon using this method of valuation for its trading stock.

It was held that as the taxpayer had elected to use the ‘cost price’ method to value their trading stock, the Commissioner was at liberty to adjust the figures in the taxpayer’s return, in order to give effect to that election.

Member of the Board of Review, Mr R A Cotes, commented:

A taxpayer has a duty each year to value any stock correctly for purposes of his return or to disclose the quantum of any variation to the Commissioner. [quoting from 12 CTBR Case 19] ... “it is obvious that the right represented by the option under s31 is coupled with a duty to exercise it”. [24]

In (1946) 12 CTBR(Reprints) Case 19, the Board of Review had to determine what ‘cost price’ meant in s 31(1), the taxpayer having elected to use that method of valuation. The taxpayers in their return for the relevant year had deducted certain amounts from the cost of their inventory, to make allowance for certain alleged contingencies. The taxpayers claimed in their appeal that the term ‘cost price’, as used in s 31(1), meant the invoice cost of the trading stock or the landed, Free On Board,[25]cost of the trading stock, and that they were at liberty to ignore any other associated costs.

The Board of Review in its deliberations considered a statement issued by the Institute of Chartered Accountants in England and Wales which defined the elements comprising cost to be:

(i) the purchase price of goods, stores, and in the case of processed stock, materials used in manufacture; (ii) direct expenditure incurred in bringing stock-in-trade to its existing condition and location; and (iii) indirect or overhead expenditure incidental to the class of stock-in-trade concerned.... [26]

Having taken that definition into consideration, the Board decided the taxpayer’s contention was unfounded, and that ‘cost price’, as used in s 31(1), did not mean invoice price, nor did it mean purchase price. It was also noted that in s 39 the words ‘purchase price’ had been used showing that, after discussing the relevant provision, the words ‘cost price’ should be equated to the full cost of gaining the trading stock.

This can be distinguished from the later case (1953) 4 CTBR(NS) Case 2; (1953) 4 TBRD Case D95, where it was held by a majority of the Board that where no method of valuation appears on the return, the Commissioner was entitled to adopt an appropriate basis of valuation. In this case the taxpayer had merely inserted the net income of the business, without supporting figures, nor was the trading stock shown or valued on the accompanying accounts, there being merely a note to the balance sheet which showed wool shorn but not sold had not been accounted for and that it had an approximate value of £A 7,500.

The majority of the Board of Review went on to hold that the taxpayer’s income tax return having been assessed by the Commissioner, on what he thought was the appropriate method of valuation, it was open to the taxpayer, on objection, to have another or others of the allowed methods of valuation substituted for the one chosen by the Commissioner.

Member of the Board Mr F C Bock used different reasoning to find that the cost price method had been adopted. He felt that the note to the balance sheet indicated a choice having been made by the taxpayer not to elect the use of the ‘market selling value’ under s 31(1), rather the taxpayer was exercising an option to value using cost price.[27]However the reasoning he uses is rather difficult to follow.

In (1951) 1 CTBR(NS) Case 120; 1 TBRD Case 115, the Board of Review was called upon to determine how ‘market selling value’ should be ascertained where there was no true selling market for the item, and because the election of ‘replacement price’ could not consequently be made. The items in question were stocks of labels, containers, and packing material — all of which items were printed with the names of the products and the name of the manufacturer.

All the members of the Board held that the ‘market selling value’ should be estimated as though the trading stock had been sold in the normal course of business and not, as the company contended, a break up sale, thus relying on the dicta of Rowlatt J in Brigg Neumann & Co v The Commissioners of Inland Revenue (‘Brigg Neumann’).[28]Member Mr A C Leslie described how such a valuation should be determined:

that it is proper to consider all circumstances and ascertain the price a willing but not anxious vendor could reasonably expect to obtain and a hypothetical willing but not anxious purchaser could reasonably expect to pay.[29]

The Chairpman of the Bourd of Review, Mr R H Gibson, said that the trading stock should be valued in the following manner:

It follows that the market selling values of the goods must be determined by reference to some hypothetical sale, or sales at or about the material time, of each and all of the goods in their character of labels, containers, packing materials and the like, as distinguished from their intended character as parts of other goods. Is it necessary to suppose “a break-up sale, or a forced sale or anything of that sort”? ... the answer is definitely in the negative ... [30]

In Rowntree v FCT[31]Davidson J in New South Wales Supreme Court had to determine if the taxpayer’s method of calculating the average cost of his live stock was correct for income tax purposes under ITAA 1922. During the 1929/30 tax year the taxpayer purchased six stud cattle at a total cost of £A 1639.16.2, and had included this amount in calculating the average cost of his trading stock, that is, all of the cattle. This gave an average figure of approximately £A14.7.6. The Commissioner, in assessing the value of closing trading stock, excluded the six stud cattle and calculated an average cost of approximately £A 9.4.11 of the taxpayer’s other cattle and the six stud animals at the £A 1639.16.2 paid for them. This increased the closing value of the taxpayer’s trading stock by some £A 375. The taxpayer appealed to the Supreme Court of New South Wales. Davidson J rejected the taxpayer’s method as follows:

It then appears to me that the position must be this, that as the appellant sent in from year to year as the value of his stock a figure which he ascertained, not by taking their true cost price but by some other method of his own, and as the Commissioner had seen fit to accept that price over a number of years, that they had acted as if the agreement made by the election of the taxpayer had been carried into effect. The latter had elected to take as his basis of value the cost price for the beginning and end of the period; he had sent in something which must have represented that it was the cost price, and the Commissioner was pleased to accept it until he arrived at a certain stage when he proposed to bring into force what he considered to be, and what I think to be, a proper method of assessing the values under the terms of the section. [32]

Thus, the taxpayer’s use of the average cost method was rejected because the method used to calculate the average cost did not reflect the ‘actual cost price’ of the trading stock on hand at the end of the tax year. This was caused by the inclusion of the six high valued stud cattle in the calculation of the average cost. Davidson J approved the Commissioner’s method for calculating the average cost of the cattle excluding the six high valued stud cattle. Though the average cost method is particularly appropriate for calculating the cost of live stock, it is far from clear whether Davidson J’s approval of the average cost method would extend to other types of trading stock so the general acceptability of the average cost method for determining cost was still open to debate.[33]

To conclude this discussion on permissible valuation methods for trading stock under s 31 of ITAA 1936, a short comment with respect to the ‘cost price’ method is appropriate. It is important that we remember the comments of the Full High Court in Ronpibon Tin No Liability v FCT, expounding the following principal of income tax law:

It is important not to confuse the question how much of the actual expenditure of the taxpayer is attributable to the gaining of assessable income with the question how much would a prudent investor have expended in gaining the assessable income. The actual expenditure in gaining the assessable income, if and when ascertained, must be accepted.... It is not for the Court or the Commissioner to say how much a taxpayer ought to spend in obtaining his income, but only how much he has spent. [34]

This principal was of course applied by Menzies J with whom the rest of the Court agreed, with respect to trading stock in the Cecil Bros Pty Ltd v FCT.[35]

IV SUMMARY OF PRIOR STATE OF THE LAW

Most of the cases were concerned with what costs were to be included in the calculation of cost of trading stock for traders. In each case a comprehensive meaning was given to the word, including all costs incurred in bringing the trading stock into the possession of the taxpayer.[36]For a manufacturer, it does not include the cost of consumable supplies used in the production process and such items are not trading stock themselves.[37]Methods of determining cost must give real values not distorted ones.[38]And ‘market selling value’ is to be determined on the basis of a willing vendor who was not anxious and a hypothetical willing but not anxious purchaser.[39]

V AUSTRALASIAN JAM

A The Facts

Fullagar J set out the relevant facts of the case as follows:

As long ago as 1914 or even earlier, the company, for fairly obvious business reasons, adopted the practice of taking into its accounts, at the beginning and end of each trading period, its stocks of jams, canned fruits and tinplate, at “standard” values....

The values adopted by the company in or before 1914 have never been changed, and in all the years now in question the company’s opening and closing stocks of jams, canned fruits and tinplate, at “standard” values. ...

The values adopted by the company in or before 1914 have never been changed, and in all the years now in question the company’s opening and closing stocks of jams, canned fruits and tinplate were taken into account at 4s. per unit, 5s. per unit, and 20s. per unit respectively. [40]

The standard values (costs) used by the taxpayer were not based on each variety of jam produced by the company. Rather standard values were calculated for a standard box of a dozen tins of fruit, a standard box of a dozen jars of jams and a standard ‘base box’ for tinplate. The standard costs for jams and fruit did not take into account the particular variety, instead an average of all varieties was used to set the standard. In its own accounts and in the returns for taxation purposes these items were shown as being valued ‘at or under cost’.

The taxpayer’s valuation methods came to the attention of the Australian Tax Office as a result of an amendment contained in s 124(1) Victorian Companies Act 1938 which required companies to disclose the method used to value their trading stock. The Commissioner amended the company’s return for each of the tax years from 1936/37 to 1946/47.[41]The Commissioner calculated the cost price for each standard box for each of the years using a similar method to that used by the taxpayer when they originally calculated their standard cost except that the Commissioner undertook this calculation yearly. The Commissioner calculated the cost of a standard box of jam by averaging the cost of producing all the 20 individual types of jam. The reason for this rough average is that it appears that for stocktaking purposes the taxpayer simply counted the number of boxes overall not the number of boxes for each individual variety still on hand at the balance date.

B Australasian Jam and the Meaning of Trading Stock in s 6(1) of ITAA 1936

Australasian Jam is not normally cited as an authority on what can constitute trading stock for income tax purposes. None of the standard works on taxation law refer to it in this context.[42]Fullagar J noted that ‘s. 6 defines “trading stock” as including anything produced, manufactured, acquired or purchased for purposes of manufacture, sale or exchange’.[43]There is nothing exceptional in this comment and it adds nothing to the state of knowledge, however, Fullagar J a page or so later in his judgment notes that:

Its “trading stock” at any given time consists partly of goods manufactured or processed but not yet sold, and partly of raw materials such as fruit, sugar, and tinplate. [44]

This short sentence unequivocally demonstrates that both raw materials and work in progress are both capable of being trading stock for tax law purposes.

C Australasian Jam and the Application of s 29 of ITAA 1936

It was essential to the acceptance of the Commissioner’s calculations of the cost of the company’s trading stock that he considered the application of s 29 of ITAA 1936. This is because of the way the Commissioner had approach the amendments of the taxpayer’s returns. Fullagar J noted that:

The basis of the Commissioner's calculations was, as I understand it, as follows. With regard to jams, he began by accepting for the first income year (1936-37) the company's own opening stock figure. Then for that and each succeeding income year he endeavoured to arrive at a closing stock figure which would represent as nearly as possible actual cost. From figures supplied by the company, and in no way challenged before me, he worked out the cost per dozen tins of each of twenty varieties of jam manufactured by the company. [45]

Thus Fullagar J had to consider the operation of s 29 of the ITAA 1936, and concluded that it required that ‘the opening figure of any year must be identical with the closing figure of the preceding year’.[46]This is a clear and unambiguous statement of the operation of s 29.[47]

D Australasian Jam and the Application of s 31 of ITAA

1936

When considering the company’s method of valuing their trading stock Fullagar J noted:

Regarded as a matter of business discretion and wise management, the policy of stock valuation adopted by the company appears to me to have been unexceptionable. [48]

Fullagar J enunciated this concise explanation of the effect of s 31(1) and its importance in Australasian Jam:

It is on s.31 that the present cases primarily turn. The section in terms allows to the taxpayer considerable freedom of choice. He may adopt one method of valuation for one part of his stock, and another method for another part.... On the other hand, the section is imperative in that it requires him to adopt for each article of his stock one or other of the three prescribed bases of valuation. He is not at liberty to adopt some other basis of his own. [49]

Thus s 31(1) allows a taxpayer the choice of market selling value, cost or replacement cost for valuing their trading stock. Other bases of valuation are not permitted. Secondly, the method selected does not need to be consistent from item to item or from year to year.

E Australasian Jam and the Meaning of ‘Cost Price’

Fullagar J noted that the words ‘cost price’ used in s 31(1) are:

perhaps not literally appropriate to goods manufactured, as distinct from goods purchased, by a taxpayer, but I feel no difficulty in reading them as meaning simply “cost”. [50]

Fullagar J agreed with the Commissioner that at one time the method adopted by the taxpayer had represented the approximate cost of the trading stock, but concluded that:

In any case, I am not able to read s.31 otherwise than as requiring, at the end of every accounting period, a valuation, on one or other of the specified bases, of stocks actually on hand, and I cannot regard “cost” as meaning anything other than actual cost. [51]

Thus, because the standard costs based upon average costs had not been reviewed for many years, they were no longer a meaningful measure of the item’s actual cost. Fullagar J accepted the Commissioner’s calculation of the cost of each of the standard boxes as being correct. Thus His Honour approved of the use of the ‘average’ cost method although he showed reservation about using the rough average rather than a weighted average by enclosing the word in quotation marks.[52]In addition, by using these averages as standards in the Commissioner’s calculation, His Honour also approved of the use of the standard cost for determining cost for the income tax purposes.[53]

F Australasian Jam and Cost Flow Assumptions and the Calculation of Cost

As can be seen from the above discussion, the method of calculating the cost of the company’s trading stock used by the Commissioner and accepted by Fullagar J was first to apply costs on a First In First Out (‘FIFO’) basis to determine the cost that related to a particular year. Second, to use these figure to ascertain an average (unweighted) cost for each tin of jam and so forth. This average cost was then used as the standard cost for determining the cost of each box of jam at the end of each year. Thus Fullagar J approved of the FIFO, average cost and standard cost methods of determining cost of trading stock under s 31 of the ITAA 1936.

G Australasian Jam and the Meaning of ‘Market Selling Value’

Fullagar J went on to consider the meaning and application of the words ‘market selling value’, as used in s 31(1).

If one supposes such a sale - by auction or otherwise - I am quite prepared to accept the evidence that much lower values than those taken by the Commissioner would have been realised. But it is not to be supposed that the expression “market selling value” contemplates a sale on the most disadvantageous terms conceivable. It contemplates, in my opinion, a sale or sales in the ordinary course of the company’s business - such sales as are in fact effected.... In arriving at market selling value, it is legitimate to make allowance for the fact that normal selling will take place over a period. But the supposition of a forced sale on one particular day seems to me to have no relation to business reality. [54]

Fullagar J then quoted from the judgment Rowlatt J in Brigg Neumann,[55]where he found that in determining the meaning of the words ‘market value’:

It is not to be supposed that you would value – and it would not be right, of course, to do so – the cloth at a figure which you could get by having a break-up sale, or a forced sale, or anything of that sort. [56]

It is to be noted that number of commentators and the Board of Review have stated incorrectly that Rowlatt J found that ‘market value’ meant replacement cost.[57]Fullagar J, similarly to Rowlatt J in Brigg Neumann, concludes with respect to the words ‘market selling value’ that:

[t]o attempt to arrive at market selling value on the supposition that the whole of the stock in hand must be offered for sale and sold on the last day of the accounting period is, in my opinion, to proceed on a wrong basis. [58]

With respect to the taxpayer’s argument that because it had sold all the jam it could within Australia, the market selling price of the remaining jam should be valued at the price they could obtain on the export market, and arrive at the market selling value by deducting from export price the estimated cost of taking from store to the FOB point, Fullagar J found that in his opinion it was not ‘correct to arrive at market selling value by reference exclusively to an export price.’[59]This follows from his earlier note that the wording of s 31(1) regarding market selling value that it ‘contemplates, in my opinion, a sale or sales in the ordinary course of the company’s business - such sales as are in fact effected’. [60]

These comments recognise that ‘market selling value’ takes into account each of the actual markets in which each item would be expected to be sold and the actual quantities expected to be sold in each market. In addition, it shows that if some items are subject to a specific sales contract, though still in stock, those items should be valued at the contract price, rather than the general or normal market for selling for such items. This approach is consistent with that of Rowlatt J in Brigg Neumann, where defective cloth which was contractually liable to be returned to weavers or dyers[61]at specified prices had market value as determined by the contract.[62]Indeed all Fullagar J’s reasoning on the meaning of ‘market selling value’ is consistent with the reasoning by Rowlatt J as to the meaning of ‘market value’ in Brigg Neumann.

H ‘Base Stock’ or ‘Datum Value’ Method for Valuing Trading Stock

For many years the importance of the following passage of Fullagar J’s judgment had escaped the current author and all other commentators with respect to an argument put forward by Mr D I Menzies QC on behalf of the taxpayer. Mr Menzies argued that:

He went on to say that in the present case the company’s valuation per unit of closing stock had been originally based on cost, having been adopted at a time when it did represent approximate cost. I think, as I have said, that the evidence established that there was a time when it did represent approximate cost. The next step was to say that, stock being once established and valued at cost, what took place from year to year was merely a drawing on that stock and a replacement of that stock, so that it was legitimate to regard the stock on hand at any given time, so far as it did not in fact consist of the “original” stock, as substituted for, and the equivalent of, “original” stock taken out and sold. Therefore, it was said, the stock on hand at the end of each of the accounting periods in question could be said with truth to have been valued at cost. [63]

This passage is clearly an argument for the use of the ‘base stock’ method, or at least a variation of it — such as the ‘datum value’ method for valuing trading stock. Under the base stock method it is assumed that a minimum quantity of trading stock (‘base stock’) is necessary at all times in order to carry on business. The base stock is valued at the cost current when the base stock was established. Trading stock in excess of the base stock is valued in accordance with some other method. Ian M Bowie explains the use of the base stock method as being:

founded on the principle that a business requires always to hold in stock a certain basic quantity of stock which is more in the nature of a fixed asset than a current asset. For example, an estimate may be made of the minimum “pipe-line” stocks plus a reasonable reserve stock, the total of which would be considered to be the base stock which should always be held if economic production is not going to be interrupted. It is held that that portion of the stock which constitutes this base stock should be valued at the cost of the equivalent quantity of stock originally purchased at the commencement of the business, or at the cost of the equivalent quantity of stock on hand when the base stock method of valuation was first introduced. By so doing, in times of rising prices the increased cost of replacing the base stock is written off to profit and loss account and accordingly that portion of the capital of the business which was utilised in providing the base stock remains intact. [64]

Under the ‘datum value’ method, all or part of the closing trading stock is valued at the lowest possible value to which the trading stock is estimated to fall, so as ensure that there will be no loss at the time of sale and that the final sale price will be above the ‘datum value’.[65]

Rejecting Mr Menzies’ argument, Fullagar J stated that:

The conception behind the argument may possibly be regarded as a sort of theoretical justification for a practice which does not seem to me in itself to stand in need of justification. But I am quite unable to accept the conclusion which is said to follow. It does not seem to me to bear any relation to the real situation or to the actual requirements of s.31. There were, as I have said, very wide fluctuations, up and down, in the stock on hand from year to year ... [66]

Fullagar J concluded that:

In any case, I am not able to read s.31 otherwise than as requiring, at the end of every accounting period, a valuation, on one or other of the specified bases, of stocks actually on hand, and I cannot regard “cost” as meaning anything other than actual cost. [67]

Thus it can be seen that methods similar to the base stock method are not acceptable for income tax purposes as they do not reflect the item of trading stock’s actual cost.

I Accounting Practice — Valuation Methods Used for Valuing Trading Stock in Published Company Accounts

The author’s good friend and colleague for many years, Dr Robert W Gibson has demonstrated that, with the exception of one brief period, there has been minimal disclosure in published company accounts of the methods used to value trading stock.[68]The exception is caused by the very same factor that brought Australasian Jam Co’s method of valuation to the attention of the taxation authorities: s 124(1) Victorian Companies Act 1938.[69]The current author has compiled a summary table of the methods of valuation disclosed in the sources cited by Dr Gibson and the results appear in APPENDIX I of this article. The presumed normal method of valuation the ‘lower of cost and market rule’, or variations, was used by relatively few of the companies. One of the researchers noted by Dr Gibson was moved to comment that:

Thus two only of the companies expressly used the so-called “golden rule.” [The lower of cost and market rule.] The descriptions used by the others suggest that in the great majority of cases “cost” determines the ceiling value, whilst the floor is some indeterminate value less than cost not necessarily determined by market replacement value.

It seems, therefore, that the guiding rule is caution (in accounting terminology usually erroneously rendered as “conservatism”) but that nothing even so precise as the “golden rule” – with all its uncertainties and obscurities – is in fact practised. Perhaps in view of this, it would be better if we were to speak of the “golden mean” (the old Greek ideal of moderation in all things) - rather than the “golden rule.” [70]

There is little indication what is meant by the words ‘cost’, ‘market value’, ‘replacement cost’ etc in the reports or how they have been calculated. Comparison with the permitted methods for taxation purposes is therefore not easy, except to say that cost and replacement cost were used. One variation of the lower of cost and market value rule used realisable value for market value. This could be argued to be similar to the term ‘market selling value.’

J Accounting Practice — Valuation Methods Used for Valuing Trading Stock in the Contemporary Literature

R Keith Yorston et al[71]state that normally trading stock is to be valued at cost and that in limited ‘certain circumstances’ the lower of cost and market rule can be used and that whatever method is used should be applied consistently. They note that precious metal may be valued above cost. They later list possible cost flow assumption for determining cost as follows:

These assumptions have resulted in a number of more or less recognized methods of valuing stock which may be listed as follows;

(a) First-in first-out (Fifo)

(b) Last-in first-out (Lifo)

(c) Average Cost

(d) Unit Cost [specific identification]

(c) Last Cost[72]

(f) Adjusted Selling Price [retail inventory method]

(g) Standard Cost

(h) Base Stock system

(i) Replacement Cost. [73]

This list is a good example of the methods of determining cost. In APPENDIX II the methods discussed in a number of publications from 1938 to 1954 are summarised in tabular form.

The method used by the Australasian Jam Co is consistent with the conservative methods of determining cost, particularly the base stock method, LIFO method and ‘last purchase price’ (‘last cost’) method. Average cost and standard cost are also common in the table. As quoted above, Fullagar J remarked that:

Regarded as a matter of business discretion and wise management, the policy of stock valuation adopted by the company appears to me to have been unexceptionable. [74]

From the evidence contained in the table, this comment by Fullagar J is a justifiable assessment of the company’s valuation method from the point of view of business and accounting practices.

VII ACCOUNTING PRACTICE — VALUATION METHODS USED IN RECOMMENDATION VII OF THE INSTITUTE OF CHARTERED ACCOUNTANTS IN AUSTRALIA

In 1946 the Institute of Chartered Accountants in Australia issued Recommendation on Accounting Principle VII – Treatment of Stock-in-Trade and Work in Progress in Financial Accounts. The recommended description in the accounts should normally be at lower of cost or market value and market value:

... should be calculated by reference to the price at which it is estimated that the stock-in-trade can be realised, either in its existing condition or as incorporated in the product normally sold, after allowing for expenditure to be incurred before disposal.

In estimating this price, regard should be had to abnormal and obsolete stocks, the trend of the market and the prospects of disposal. [75]

Where replacement cost is used as the market value the description in the accounts should be described as ‘at the lower of cost or replacement value’.

Market value here is different to ‘market selling value’ used in s 31 which does not permit deduction of selling expenses etc. The meaning of replacement cost in paragraph (b)(ii) of the recommendation is similar to that enunciated by Rowlatt J in Brigg Neumann.[76]

The methods of computing cost are set out in paragraph (a) as being:

(1) The ‘unit’ cost method (specific identification)

(2) The ‘First In, First Out’ basis

(3) ‘Average cost’ (weighted)

(4) ‘Standard cost’

(5) ‘Adjusted selling price’ (retail inventory method)[77]

In Australasian Jam Fullagar J had approved the use of determining cost in listed in (2), (3) and (4). Other methods noted but not specifically sanctioned were the LIFO and base stock methods.

VIII APPLYING THE REASONING OF FULLAGAR J — THE USE OF OTHER COST FLOW ASSUMPTIONS

Should the reasoning of Fullagar J that the method used must reflect the actual cost of the trading stock held be accepted, then it would follow that the LIFO method, the datum value method, the last purchase price method and the Next In First Out (‘NIFO’) cost flow assumptions would not be permitted, as the amount calculated does not represent the actual cost of the remaining items of trading stock. However in some circumstances the LIFO method may be permissible, that is, where the method reflects the actual flow of goods.[78]

A Applying the Reasoning of Fullagar J — the Determination of ‘the Price at which it Can Be Replaced’

Fullagar J’s observation as to the correct method of ascertaining ‘market selling value’ can also be applied in determining how to calculate the price at which it can be replaced, that is, that it is to be calculated by assuming purchases are made in normal quantities and, where the item is sourced from different suppliers, it would based upon the supplier who would normally supply the goods in the circumstances or in the proportion of actual purchases made.[79]As with market selling value, it would be improper to assume that all would be sourced from one supplier.[80]

There has been some difference of opinion in the accounting literature as to how to calculate replacement cost, that is, whether it is the cost of ordering on the balance date or the cost of having the item in stock on the balance day. Fullagar J’s insistence on using actual cost would lead to the adoption of the latter method. This is consistent with the approach of Rowlatt J in Brigg Neumann where he said that replacement cost means the cost to have the item in stock on the balance date. Rowlatt J continued with this analogy:

When one is seeking to get what in building or engineering is called the constructional value of an edifice or engineering work based upon current prices three months ago of a building, it is the price that you have to pay which will give you the building here now, not the price that you have to pay now to give you a building at some future time. So that, I think, is really the result of that part. [81]

Given the similarity of the reasoning of Fullagar J and Rowlatt J on the meaning of market value and other similarities in their reasoning, it is the author’s view that the above argument is almost unassailable.

IX CONCLUDING REMARKS:

Australasian Jam continues to be the most significant case on the valuation of trading stock for income tax purposes and is as relevant to day as it was just over fifty years ago.[82] The richness of the reasoning and the application of Fullagar J’s reasoning to solve other problems with respect to the valuation of trading stock has not been fully appreciated either by either tax practitioners or academics.[83]It is the author’s view that reading the case should be an essential part of any taxation law course and particularly so for accounting students.

APPENDIX I:

Summary of Findings of K C Keown,[84]A Fitzgerald,[85]Raymond J Chambers,[86]R K Yorston,[87] of the disclosed methods used for valuing trading stock.[88](See overleaf).

Valuation Method
Chambers
Yorston
Keown
Fitzgerald
1938
1948
1945




At Cost
6
5
10
27
2
At Cost plus Overhead
6
5
10
1
28
2
At or Below Cost



32
79
5
Cost or Deprecated Cost
1








Cost or Under as Certified by, etc
3
3






Cost Less Amounts Written Down
1








Cost or Under (or Lower, or Less, At or Below
9
12






Cost, At and Under Cost)









At or Below Cost, Less Depreciation

1






At Valuation not Exceeding Cost

1


11
1
At Cost or Under





6
16
Not Exceeding Cost

1
3


2
At Cost or Under after Providing for Prices





1


Fluctuation









At Prime Cost less Provision
14
18
35
2
99
24
At Cost and/or Valuation
1
1


12
2
Cost or Market Values as Certified
1
1






Cost, Replacement Value or Under
1








Cost or Replacement as Certified etc
1
1






Cost and/or Replacement Value
1
1






Cost or market
1
4
1
4
2
2



At Lower of Cost or Market Value (variations)
7
9
6
16
2
At Cost or Replacement Value (whichever is
3
2


1
1
less)









At Valuation not exceeding the Lower of Cost,
1




1


Market or Replacement Value









At Cost, Market or Valuation, whichever is
11
11

2
20
3
lowest









At Lower of Market or Replacement Value





2


Lower of Cost and Valuation
1
0




1
Fair Market Value
1
0






Sales Value Less 29% to reduce to present







1
market value









At Valuation
7
5


11
3
As Certified by the Managing Director etc
2
2


4


Valuation after Allowing for Obsolescence /
1
1






Diminution









As Valued by a Director
1
10
1
8

2
17
3
At or Under Market Value





2
1
Companies did not give any basis of valuation

2
19


3

50
50
72
180
40

APPENDIX II

Cost Flow Assumptions and Calculation of Cost - Methods Referred to in the Accounting Literature.

Method
Yorston et al
Ballan- tyne et al
Scott
Fitzgerald
Brad- dock
CARS
(Vic)†
1938
1946
1954
First-in first-out (Fifo)
T
T
T
T
T
T
T
Last-in first-out (Lifo)
T
T
T
T
T
T
T
Highest cost first
T


T*
T
Average Cost
T
T
T
T
T
T
T
T
Unit Cost
[specific identification]
T
T
T

T
T
T
Last Cost
T






Adjusted Selling Price
[retail inventory]
T
T




Standard Cost
T
T
T
T*
T
T
Base Stock
T
T




Replacement Cost

T




*indicates method is stated to be rarely used in Australia

† Chartered Accountants Research Society (Victoria)

Sources:

A Fitzgerald, ‘Problems of Accounting Valuation of Stock in Trade’ (1946) 16 The Australian Accountant 261, 261–72.

A Fitzgerald, ‘Balance Sheet Problems - I. The Valuation of Stock on Hand’ (1938) 6 The Australian Accountant 1, 1–14.

A Fitzgerald, Fitzgerald’s Accounting - Stage I (2nd ed, 1954) 107–9. Australian Chartered Accountants’ Research Society (Victorian Division), ‘Stock-on-Hand of a Major Manufacturer’, Chartered Accountant in Australia, April 1953, 522, 522–78.

L A Braddock, ‘Accounting profits and Taxable Income’ (1949) 19 The Australian Accountant 6, 6–25.

W M Scott, ‘Accounting for Stock in Trade’ (1947) 17 The Australian Accountant 464, 466, 471–2.

R Keith Yorston, E Bryan Smyth and S R Brown, Advanced Accounting, vol 3, (3rd ed, 1953), 48–50.

J R Ballantyne, L H Dillon, Louis Goldberg, V R Hill, K C Keown and V L Solomon, A Fitzgerald (eds), Intermediate Accounting (1948) 28–9, 99–100.

APPENDIX III

The Context of the Unsuspected Importance of Mr Menzies’ Argument.

Mr. Menzies sought to maintain that the closing stock values stated in the company’s returns for the years in question did conform to what is required by s. 31. His argument did not, I think, differ in substance from a view put by Mr. Robinson, a director of the company who gave evidence before me, in a letter written by him to the Commissioner during the progress of the investigation. He said that s. 31 was framed in the light of recognised practices adopted in businesses honestly and efficiently conducted. He said that a precise ascertainment of the cost of every article comprised in stock manufactured by a taxpayer must often be impracticable, and that a careful and honest estimate of the total cost of a quantity of stock was all that s. 31 really required. So far, I do not know that I would be disposed to differ from him. It is common knowledge that in many matters of accounting an honest and careful estimation is the most that can be expected or achieved. He went on to say that in the present case the company’s valuation per unit of closing stock had been originally based on cost, having been adopted at a time when it did represent approximate cost. I think, as I have said, that the evidence established that there was a time when it did represent approximate cost. The next step was to say that, stock being once established and valued at cost, what took place from year to year was merely a drawing on that stock and a replacement of that stock, so that it was legitimate to regard the stock on hand at any given time, so far as it did not in fact consist of the “original” stock, as substituted for, and the equivalent of, “original” stock taken out and sold. Therefore, it was said, the stock on hand at the end of each of the accounting periods in question could be said with truth to have been valued at cost. The conception behind the argument may possibly be regarded as a sort of theoretical justification for a practice which does not seem to me in itself to stand in need of justification. But I am quite unable to accept the conclusion which is said to follow. It does not seem to me to bear any relation to the real situation or to the actual requirements of s. 31. There were, as I have said, very wide fluctuations, up and down, in the stock on hand from year to year at 30th September. Moreover, so far as jams and canned fruits are concerned, Mr. Robinson said in cross-examination that “in general, the maximum time that the company would carry stock would be two years”. In any case, I am not able to read s. 31 otherwise than as requiring, at the end of every accounting period, a valuation, on one or other of the specified bases, of stocks actually on hand, and I cannot regard “cost” as meaning anything other than actual cost. [89]

[∗] BCom(Hons), LLB, MCom(Hons) (UNSW), PhD (Deakin), FCPA, FTIA. Formerly Deakin University School of Law, Senior Research Fellow Taxation Law and Policy Research Institute Monash University. This article is based on a paper delivered at the 15th Annual Australasian Tax Teachers Association Conference, Faculty of Law, University of Wollongong, 30th January – 1st February 2003. The law stated is at 1 March 2003.

[1] The relevant sections were ss 28 to 31 of the Income Tax Assessment Act 1936 (Cth).

[2] [1953] HCA 52; (1953) 88 CLR 23; 5 AITR 566; 10 ATD 217.

[3] There were two remaining issues. The first — whether direct or absorption cost was to be used to determine cost — was settled for manufacturers in Philip Morris Limited v FCT (1979) 10 ATR 44; 79 ATC 4352. The second issue — the meaning of the price at which it can be replaced (now referred to as ‘replacement value’ in s 70-45 of Income Tax Assessment Act 1997(Cth) — is still to be determined by the Australian courts.

[4] The case also considered whether the Commissioner had the power to make the amendments to the original assessments.

[5] Australasian Jam [1953] HCA 52; (1953) 88 CLR 23; 5 AITR 566; 10 ATD 217. Note: the author always advises students that any question of whether a particular method valuation of trading stock is permissible for taxation purposes can be answered directly from this case or indirectly by way of analogy.

[6] There were two remaining issues. Firstly, whether direct or absorption cost was to be used to determine cost. This issue was settled for manufacturers in Philip Morris Limited v FCT (1979) 79 ATC 4352; 10 ATR 44 but see comments of David M Smith, ‘Direct Cost or Absorption Cost: The Choice for Income Tax Purposes’ (1998) 17(1) Australian Tax Review 9. Obst and Smith question the application of absorption cost method to primary producers. The second issue is the meaning of the price at which it can be replaced: Wes Obst and David M Smith, ‘A critical analysis of ED 5 - the proposed simplification of Trading Stock Provisions’ (Paper presented at the Australasian Tax Teachers Association Conference, 19–20 January 1996, Brisbane). This issue is still to be determined by the Australian courts. The decision in Parfew Nominees v FCT (1986) 17 ATR 1017; 86 ATC 4673, settled little, if anything, as to the meaning or application of the words, and its significance has been vastly over rated by most commentators. The current author has grave reservations about the reasoning in the case.

[7] This concise judgment can be compared to the 120 page reasoning of Deputy President Mr J Block in [2002] AATA 746 Re Ciprian and Others v FCT [2002] AATA 746; 50 ATR 1257, the 12 000 words of Lindgren J in Energy Resources of Aust Ltd v FCT [2003] FCA 26 (2003) 52 ATR 120, 2003 ATC 4024 and the 6400 words used in Jenkinson J’s judgment in Philip Morris Limited v FCT, (1979) 10 ATR 44; 79 ATC 4352.

[8] Emphasis added.

[9] Emphasis added.

[10] Emphasis added.

[11] A A Fitzgerald, ‘A Further Note on the Valuation of Trading Stock’ (1944) 14 The Australian Accountant 424, 270. Although Fitzgerald gives no citation for this quote, it is from the Second Reading Speech of the Treasurer Mr Bruce to the Income Tax Assessment Bill 1922: Commonwealth, Parliamentary Debates, House of Representatives, 2 October 1922, 2724.

[12] [1926] HCA 28; (1920) 39 CLR 65; R&McG 84.

[13] [1926] HCA 28; (1920) 39 CLR 65, 70. (Note: the ‘Commissioner’ here and below is the Federal Commissioner of Taxation)

[14] These comments fit well with the decision of Fullagar J in Ballarat Brewing Company Limited v FCT [1951] HCA 35; (1951) 82 CLR 365; 5 AITR 151; 9 ATD 254, and may be contrasted with the comments of Jenkinson J in FCT v Cadbury-Fry Pascal (Aust) Ltd (In vol liq) (1979) 10 ATR 55; 79 ATC 4346.

[15] [1940] HCA 9; (1940) 63 CLR 382; 2 AITR 4; 5 ATD 298.

[16] [1949] HCA 27; (1949) 78 CLR 504; 4 AITR 258; 9 ATD 33.

[17] [1949] HCA 27; (1949) 78 CLR 504, 512–13; [1949] HCA 27; 4 AITR 258, 262–3; [1949] HCA 27; 9 ATD 33, 36–7.

[18] [1949] HCA 27; (1949) 78 CLR 504, 515–16; [1949] HCA 27; 4 AITR 258, 264; [1949] HCA 27; 9 ATD 33, 38.

[19] [1929] HCA 21; (1929) 42 CLR 332; (1928–1930) R&McG (Supplement) 340.

[20] [1929] HCA 21; (1929) 42 CLR 332, 351 (Knox CJ, Rich and Dixon JJ), [1928-29] R&McG(Supp) 354.

[21] [1969] 1 WLR 1488; [1971] Ch 427 (CA) and [1971] 2 WLR 1313 (HL); (1971) 47 TC 495.

[22] Note: chairman is the correct legal title under relevant legislation.

[23] (1947) 14 CTBR(Reprints) Case 10, 413

[24] (1947) 14 CTBR(Reprints) Case 10, 436.

[25] ‘Free On Board’ (FOB’), is generally defined as loading at port of origin being at sellers expense, while freight etc is at buyers expense. However US/Canadian practice may involve additional terms FOB Origin (both loading and freight etc at sellers expense; FOB Destination, all above at buyers expense: see, eg, Export 911, ‘International Commercial Terms (Incoterms) (2000) avail <http://www.export911.com/e911/export/comTerm.htm> 14 September 2005.

[26] The Accountant (London) 16 June 1945, 302/3.This was Recommendation X. This recommendation also formed the basis of Recommendation VII issued by the Institute of Chartered Accountants in Australia in 1946. This recommendation is discussed below.

[27] (1953) 4 CTBR(NS) Case 2, 14/15; (1953) 4 TBRD Case D95.

[28] (1928) 12 TC 1191.

[29] (1951) 1 CTBR(NS) Case 120, 587; 1 TBRD Case 115. The emphasis is mine.

[30] (1951) 1 CTBR(NS) Case 120, 579; 1 TBRD Case 115.

[31] (1934) 3 ATD 32.

[32] (1934) 3 ATD 32, 35–6 (emphasis added).

[33] The reason the average cost method is particularly appropriate for live stock has been explained elsewhere by the current author (Australian Tax Practice para [25/50]) where it is stated that: it is more common in broad acre farming conducted in Australia and the most appropriate to use the weighted average cost flow assumption for the valuation of livestock. This approach is the most appropriate because the majority of individual animals are not identifiable and therefore a FIFO assumption cannot be proved. Death rates are generally much higher among young animals than older animals and most primary producers sell their youngest animals rather than the oldest. For instance, lambs are usually sold for export or slaughter and not older sheep.

[34] [1949] HCA 15; (1949) 78 CLR 47; 8 ATD 431, 4 AITR 236, 247.

[35] (1962– 1964) 111 CLR 431, 441; 9 ATIR 246, 249; 13 ATD 261, 264.

[36] The Commissioner of Taxation of Western Australia v D & W Murray Ltd [1929] HCA 21; (1929) 42 CLR 332; 1 ATD 340; Moreau v FCT [1926] HCA 28; (1920) 39 CLR 65; R&McG 84; (1946) 12 CTBR(Reprints) Case 19.

[37] (1951) 1 CTBR(NS) Case 120; 1 TBRD Case 115.

[38] Rowntree v FCT (1934) 3 ATD 32, and (1947) 14 CTBR(Reprints) Case 10.

[39] (1951) 1 CTBR(NS) Case 120; 1 TBRD Case 115.

[40] [1953] HCA 52; (1953) 88 CLR 23, 28–9; [1953] HCA 52; 5 AITR 566, 568–9; [1953] HCA 52; 10 ATD 217, 218–19.

[41] [1953] HCA 52; (1953) 88 CLR 23, 28–9; [1953] HCA 52; 5 AITR 566, 570; [1953] HCA 52; 10 ATD 217, 219. Excluding the 1944/45 and 1945/46 tax years.

[42] This includes the author’s numerous publications in this area. Nor is it referred to in FCT v St Hubert's Island Pty Ltd (in liq) [1912] HCA 78; (1978) 138 CLR 210; 8 ATR 452; 78 ATC 4104 when considering if land in course of development was trading stock (being work in progress). Many of the texts do not even deal with the general issue of work in progress and/or raw materials being trading stock for income tax purposes or deal with the issue only indirectly when discussing St Hubert’s Island.

[43] [1953] HCA 52; (1953) 88 CLR 23, 26; [1953] HCA 52; 5 AITR 566, 568; [1953] HCA 52; 10 ATD 217, 218.

[44] [1953] HCA 52; (1953) 88 CLR 23, 28; [1953] HCA 52; 5 AITR 566, 570; [1953] HCA 52; 10 ATD 217, 219. The emphasis is mine.

[45] [1953] HCA 52; (1953) 88 CLR 23, 28; [1953] HCA 52; 5 AITR 566, 569; [1953] HCA 52; 10 ATD 217, 218.

[46] [1953] HCA 52; (1953) 88 CLR 23, 27; [1953] HCA 52; 5 AITR 566, 568; [1953] HCA 52; 10 ATD 217, 218.

[47] The argument that this might not be the case where an improper value had been used in the previous year was recently given short shrift by Deputy President Block J in [2002] AATA 746 Re Ciprian and Others v FCT, [2002] AATA 746; 50 ATR 1257 relying on the words of Fullagar J in Australasian Jam. The comments of Lindgren J in Energy Resources of Aust Ltd v FCT [2003] FCA 26, (2003) 52 ATR 120, 136, 2003 ATC 4024, 4039 that in making these comments:

His Honour was not directing his mind to a situation in which there was a difference between an erroneous figure not sanctioned by the ITAA, which had in fact been brought to account as representing the value of the stock on hand at the end of the immediately preceding year, and a correct figure which the ITAA had required be brought to account as representing the value of the stock on hand at that time.

This is a complete misrepresentation of the facts in Australasian Jam which Fullagar J was dealing with.

[48] [1953] HCA 52; (1953) 88 CLR 23, 30; [1953] HCA 52; 5 AITR 566, 570; [1953] HCA 52; 10 ATD 217, 220.

[49] [1953] HCA 52; (1953) 88 CLR 23, 26–7; [1953] HCA 52; 5 AITR 566, 568; [1953] HCA 52; 10 ATD 217, 218.

[50] [1953] HCA 52; (1953) 88 CLR 23, 29; 5 AITR 570, 570; [1953] HCA 52; 10 ATD 217, 219–20.

[51] [1953] HCA 52; (1953) 88 CLR 23, 31; [1953] HCA 52; 5 AITR 566, 571; [1953] HCA 52; 10 ATD 217, 221. The emphasis is added.

[52] [1953] HCA 52; (1953) 88 CLR 23, 29; [1953] HCA 52; 5 AITR 566, 570; [1953] HCA 52; 10 ATD 217, 219.

[53] It may be argued that Fullagar J had little choice as actual quantities of each variety were not known and he had to accept a standard value based upon an average of all varieties. Any doubt was removed later by Jenkinson J in Philip Morris Limited v FCT, (1979) 10 ATR 44; 79 ATC 4352.

[54] [1953] HCA 52; (1953) 88 CLR 23, 31–2; [1953] HCA 52; 5 AITR 566, 572; [1953] HCA 52; 10 ATD 217, 221.

[55] (1928) 12 TC 1191.

[56] (1928) 12 TC 1191, 1202.

[57] See, eg, (1953) 4 CTBR(NS) Case 5; 4 TBRD Case D65 at paras 20 and 21 although these comments appear to be inconsistent with the comments at para 18 (Chairman Mr A Fletcher); C J Allan Macleod ‘The Institute and the Valuation of Stock-in-Trade’, letter to the editor, The Accountant, 1 September 1945, 107; John H Burton, Costing for Control (1948) 46–7; The Accountant Tax Supplement, 14 July 1928, 361–2, 362; ‘Valuation of Stock for Income Tax’ The Accountant Tax Supplement, 22 November 1941, 293–5, 293–4; Max Englard, ‘Stock Valuation’, The Accountant, 28 January 1956, 80–2, 80. The reason for this error has recently been canvassed by the author in ‘Stock-in-trade valuation for UK taxation purposes 1925 to 1971 (Has it been all the accountants way?)’ (Paper presented at the 14th Annual Accounting, Business and Financial History Conference, Cardiff University (Cardiff Business School), 11–12 September 2002). This paper has recently been published in (2005) 1 Journal of Australasian Tax Teachers Association 342–413.

[58] [1953] HCA 52; (1953) 88 CLR 23, 32; [1953] HCA 52; 5 AITR 566, 572; [1953] HCA 52; 10 ATD 217, 221.

[59] [1953] HCA 52; (1953) 88 CLR 23, 32; [1953] HCA 52; 5 AITR 566, 572; [1953] HCA 52; 10 ATD 217, 221. The emphasis is added.

[60] [1953] HCA 52; (1953) 88 CLR 23, 31–2; [1953] HCA 52; 5 AITR 566, 572; [1953] HCA 52; 10 ATD 217, 221.

[61] Or alternatively they were indemnified for any loss on sale due to the defect so that they had a guaranteed total income from the sale to third parties.

[62] (1928) 12 TC 1191,s 1205–6.

[63] [1953] HCA 52; (1953) 88 CLR 23, 30–1; [1953] HCA 52; 5 AITR 566, 671; [1953] HCA 52; 10 ATD 217, 220. Appendix III contains the full paragraph and demonstrates why Mr Menzies’ argument is not immediately obvious even to the most careful reader. Emphasis added.

[64] Ian M Bowie, ‘The Basis of Valuation of Stock and Work-in-Progress’, The Accountants’ Magazine, October 1954, 570–92, 573–4 (emphasis added).

[65] This method is discussed in ‘STOCK Datum Values’, [Finance and Commerce], The Accountant, 8 January 1938, 59; ‘STOCK Valuation’, [Finance and Commerce], The Accountant, 1 February 1947, 78. This method is also highlighted by Thomas Henry Sanders, ‘British Accounting Practices and the Profession’, The Accountant, (Reprinted from Harvard Business Review), 9 March 1940, 265–73, 267, where he notes that in a few cases ‘an equivalent of the base stock’ was used, the ‘datum value’ method.

[66] [1953] HCA 52; (1953) 88 CLR 23, 31; [1953] HCA 52; 5 AITR 566, 671; [1953] HCA 52; 10 ATD 217, 220.

[67] [1953] HCA 52; (1953) 88 CLR 23, 31; [1953] HCA 52; 5 AITR 566, 671; [1953] HCA 52; 10 ATD 217, 220–1.

[68] Robert W Gibson Disclosure by Australian Companies (1971), ch 24. A later paper by Robert W Gibson and Peter Downey, ‘The Acceptance of Professional Statements on the Valuation of Inventory’ (1980) 51 The Chartered Accountant in Australia 27–9, shows there was little change in disclosure of methods of valuation up until the mid 1970s.

[69] This provision was not included in the Uniform Companies Acts of 1961.

[70] A A Fitzgerald, ‘A Further Note on the Valuation of Trading Stock’ (1944) 14 The Australian Accountant, 424, 425.

[71] R Keith Yorston, E Bryan Smyth and S R Brown, Advanced Accounting (3rd ed, 1953) vol 3, 45.

[72] This method applies the most recent purchase cost to each use or sale of an item. In times of rising prices this will have the effect of undervaluing the cost of closing trading stock. However, as with the LIFO method, when prices fall consistently over time it will lead to an excessively valued cost of closing stock. The author has found no reference to this method as such in the accounting literature of the United Kingdom of the time, but can be seen a variation of the NIFO method.

[73] Yorston, Smith and Brown, above n 71, 48. These methods are explained at 48–50.

[74] [1953] HCA 52; (1953) 88 CLR 23, 30; [1953] HCA 52; 5 AITR 566, 570; [1953] HCA 52; 10 ATD 217, 220.

[75] Recommendation (3).

[76] (1928) 12 TC 1191, 1404. Discussed and quoted above.

[77] The Accountant (London) 16 June 1945, 302.

[78] Eg, a bin containing bulk nails where individual nails are removed from the top of the bin and new supplies placed on the top of the nails already present.

[79] This is consistent with the rejection of the taxpayer’s method of calculating the price at which it can be replaced in Parfew Nominees v FCT (1986) 17 ATR 1017; 86 ATC 4673, where Gobbo J rejected the replacement cost figure of the taxpayer (a quantity surveyor) as the surveyor did not have access to the plans of the building when calculating the replacement cost, relying only on contract schedules; thus the figure did not represent the actual replacement cost and merely applied an index to original cost. Gobbo J found that a more relevant approximation of the price at which it could be replaced was the selling price. This valuation was part of a s 36A election scheme and the case should be read in this context. Gobbo’s decision that replacement cost was not open to the taxpayer in the given circumstances is suspect and not at all convincing. In the author’s view Gobbo’s reasoning was merely a device to frustrate the taxpayer’s s 36A scheme.

[80] An exception might occur which there is only a small amount on hand, however in the author’s view this simply means applying the replacement cost based upon a normal purchase quantity.

[81] (1928) 12 TC 1191, 1404 (emphasis added).

[82] As is demonstrated by the recent case of [2002] AATA 746 Re Ciprian and Others v FCT [2002] AATA 746; 50 ATR 1257.

[83] Many case book extracts give scant attention to the full impact of this case, a situation which is greatly to be regretted.

[84] K C Keown, ‘Stock on Hand in the Balance Sheets of Victorian Companies’ (1951) 21 The Australian Accountant 265, 265–6.

[85] A A Fitzgerald, ‘A Further Note on the Valuation of Trading Stock’ (1944) 14 The Australian Accountant 424, 424–6.

[86] Raymond J Chambers, ‘The Spice of Accounting’, First published in (1949) 19(11) The Australian Accountant 398, 398–401.

[87] R K Yorston, ‘Stock-in-Trade’ (1945) 16 The Chartered Accountant in Australia 199, 199–200.

[88] Other methods noted but noted enumerated by Yorston were included: at usual trade values at cost or replacement at cost or valuation at or under market value at cost less allowance for depreciation

[89] [1953] HCA 52; (1953) 88 CLR 23, 30–1; [1953] HCA 52; 5 AITR 566, 571; [1953] HCA 52; 10 ATD 217, 220–1.

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