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TMI Blog1943 (7) TMI 1X X X X Extracts X X X X X X X X Extracts X X X X ..... it operated in effect as from January 1, 1933. Its essential terms may for present purposes be thus summarised: (1) The Finnish company agreed to issue to the appellants 680 notes (which were freely assignable) of £ 500 each, amounting in all to £ 340,000, that is, £ 20,400 more than the £ 319,600 outstanding in respect of principal; in other words, these notes were to be issued at what is commonly called a "discount" of 6 per cent. (2) The notes were to bear interest at 1 per cent. above the lowest discount rate of the Bank of Finland during each year, but in no case higher than 10 per cent. per annum. (3) The notes were to be repaid as to Nos. 1 to 100 on November 15, 1933, and thereafter as to twenty-nine notes in consecutive order of numeration on April 6 in each following year. (4) Each note was to be redeemed at a premium of 20 per cent. if in the next year before the year of its redemption the net profits of the Finnish company reached a specified level. There is no suggestion that this agreement was other than a bona fide commercial transaction. The business object of it is apparent from the terms of the agreement and the circumst ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... arded as capital or as income is to be answered by the terms of the contract as properly interpreted in the light of all admissible extrinsic evidence. In some cases this is no doubt so. Examples are to be found in two cases which were cited to us. In a Scottish case, Inland Revenue Commissioners v. Nelson & Sons, Ltd. [1936] 22 Tax Cas. 175, a loan was made to an Indian company repayable in ten years or earlier on the happening of certain specified events, with a power to the company to repay one-tenth of the principal on three months' notice, the rate of interest being 3 per cent. The agreement provided (and this is the important matter) that, on payment of the principal sums or any part thereof, there should be paid a premium varying with the date on which such principal sums or any part thereof should become payable. From this it appears that the amount to be paid by way of premium must have been calculated by reference not to any element of capital risk but to the period of the loan whatever it might turn out to be, a circumstances which, prima facie at any rate, stamped the premium with a revenue character. The Lord President in his judgment placed great reliance on the f ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... t as interest. In Howard de Walden (Lord) v. Beck [1940] 23 Tax Cas. 384, the appellant became entitled to receive sets of promissory notes, payable without interest at three monthly intervals. The consideration moving from the appellant was an amount which represented the present value of the promissory notes, calculated in the case of one set of notes on a 4 per cent. basis and in the case of the other sets at a rate approximating to 4 per cent. Wrottesley, J., pointed out that the documents threw no light on the problem whether or not the difference between the present value and the nominal amounts of the notes represented capital or income. Nor did he find any assistance in the surrounding circumstances. He rejected the view that the appellant had purchased an annuity (a view which was not pressed by the Crown) and held that the appellant had stipulated for the return of his capital. This at once stamped the transaction as one of loan, and on that basis it does not seem to have been seriously argued that the difference between the present and the nominal value of the notes ought not to be regarded as interest. It is to be noted, (1) that the contracts did not in terms provide ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... l rate of interest and stipulates for payment of £ 120 at maturity of the loan. In such a case it may well be that A requires payment of the £ 20 as compensation for the capital risks: or it may merely be deferred interest. If it be proved that the former was the case by evidence of what took place during the negotiations it is difficult to see on what principle the £ 20 ought to be treated as income. In the absence of such proof, what inference ought to be drawn? Something may, perhaps, depend on the length of time for which the money is lent. If the period is short it is perhaps easier to treat the £ 20 as deferred interest. The longer the period the greater the element of risk, and if it was (say) ten years, the probability that the £ 20 was not intended to be deferred interest would seem to be greater. A good example of the difficulty is to be found in the contracts of loan which used to be made on a gold basis when the currency had left, or was expected to leave, the gold standard. In such contracts the amount to be repaid was fixed by reference to the price of gold ruling at the repayment date, and if the currency depreciated in terms of gold, th ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... may make the issue at par but give a high rate of interest. Here the defect in the security is expressed in terms of interest. The whole of the interest is unquestionably income and is taxable as such, although the high rate of interest is in part attributable to the capital risk. Another course which the company may take, and for commercial reasons probably will take, is to fix the rate of interest at a more normal level and make the issue at a discount; or it may make the issue at par and offer a premium on redemption; or it may combine both methods. Here the defect in the security is expressed in terms of capital. I venture to think that no business man would regard the discount or the premium as anything but capital matters. In each case the result is the same--the subscriber is paying for a more or less hazardous investment less than the figure at which it is to be redeemed, and in exchange has to be content with a lower rate of interest. Another way of making good the defect in the security would be for the company to take out a guarantee policy-a practice which was common in the days of the Law Guarantee Trust and Accident Society of unhappy memory. In such a case the issue ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... on, bound by the company's choice and cannot go behind it. The Inland Revenue authorities have never sought to tax the amount by which the redemption price of debentures exceeds the issue price. We were informed by the Solicitor-General that these amounts are regarded, not as income, but as capital sums which the company bears in consideration of the risk attaching to the investment which is borne by the investor. In my opinion, this view is undoubtedly correct. In passing I may point out that the reason given by the then Solicitor-General in Wilson v. Mannooch [1937] 21 Tax Cas. 178, for not claiming tax on discounts or premiums in the case of debentures, was quite different from that given by the present Solicitor-General in the present case. I can find no ground for distinguishing the present case from that of an ordinary issue of debentures by a trading company. If at the date of the agreement the appellants had lent to the Finnish company a sum of £ 319,600 to be secured by an issue of notes at ninety-four, repayable over twenty years at 120 and bearing interest at a rate fixed by reference to bank rate in the usual way, the Revenue authorities would not have claime ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... difference between issue price and redemption price when received by the holder is not income from "discounts" within the meaning of the paragraph. It is impossible to suppose that the Legislature intended to include under the one word "discounts" two such entirely different commercial transactions as the discounting of a bill of exchange or a Treasury bill (which normally are short-dated and carry no interest) and subscription for debentures issued at a discount. The issue of debentures or other obligation by companies was unknown in 1805 when "profits on discounts" were for the first time expressly subjected to income tax (45 Geo. 3, c. 49, s. 93, Sched. D, Case III, r. 2). In National Provident Institution v. Brown (90 L.J.K.B., at p. 1024; [1921] 2 A.C., at p. 254), Lord Sumner says that there is no restriction of the word "discount" in the statutes to transactions in use in the year 1842-he might have said 1805-and that the rule relates to profits on all discounts from whomsoever made. This observation does not, however, throw much light on the question whether any particular transaction is one of "discount" within the meaning ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... xpress a capital risk in terms of interest it must normally be so treated and no apportionment can be made. It is interesting to see the official reasons given by counsel for the Crown in the National Provident Case' for distinguishing the profit made on Treasury bills issued at a discount and 4 per cent. Victory Bonds issued at eighty-five. The latter, said counsel, "were an investment at the market rate of interest. The increased amount receivable when drawn of payment at per... is an additional capital sum bargained for to meet the probable fall in capital value likely to take place under present conditions." It may be convenient to sum up my conclusions in a few propositions. (1) Where a loan is made at or above such a reasonable commercial rate of interest as is applicable to a reasonably sound security there is no presumption that a "discount" at which the loan is made or a premium at which it is payable is in the nature of interest. (2) The true nature of the "discount" or the premium (as the case may be) is to be ascertained from all the circumstances of the case and, apart from any matter of law which may bear upon the question (such as ..... X X X X Extracts X X X X X X X X Extracts X X X X
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