Resource Capital Fund IV LP v Commissioner of Taxation, [2018] FCA 41 (Federal Court of Australia), rev'd on various grounds [2019] FCAFC 51

Two Caymans investment LPs (“RCF IV” and RCF V”) whose limited partners were mostly U.S. residents, realized gains from the disposal of significant shareholdings in a TSX-listed Australian corporation which, through a grandchild corporation, held mining leases in Australia and carried out an operation there of mining lithium ores and processing them. The significant gains realized by RCF IV and RCF V in disposing of these investments consistently with their modus operandi, which was (per the oral evidence) to “go in, make the investment, improve the performance of the company concerned and then seek to exit within three to six years after that time, having made a profit” (para. 32) were realized on income account. Pagone J stated (at para. 50):

[T]he receipt will bear the stamp of income where the taxpayer, as here, did have the purpose of making profit from the ultimate disposal of investments. … Profitable realisation of the investment by disposal was an objective of the investment by the RCF partnerships from the beginning.

Two Caymans investment LPs (“RCF IV” and RCF V”) whose limited partners were mostly U.S. residents, realized gains from the disposal of shares of significant shareholdings in a TSX-listed Australian corporation (Talison Lithium) which, through a grandchild corporation, held mining leases in Australia and carried out an operation there of mining lithium ores and processing them. The significant gains realized by RCF IV and RCF V in disposing of these investments consistently with their modus operandi which was (per the oral evidence) to “go in, make the investment, improve the performance of the company concerned and then seek to exit within three to six years after that time, having made a profit” (para. 32) were realized on income account. In further finding that such gains were income derived from an Australian source, Pagone J first noted (at para. 52) the RCF LPs’ submissions that significant decisions were made outside Australia by the general partner’s investment committee and that the manager was outside Australia, and then stated (at para. 53):

The fact that the business and assets were in Australia might not of itself be sufficient to make Australia the ultimate source of the gain derived upon the disposal of the shares, but the location in Australia of the business and assets, and the nature and extent of the business and assets, occasioned substantial activities in Australia that were an integral part of the investment, its management, and its ultimate profitable disposal. …

An element of the investment strategy of the RCF IV and RCF V partnerships was for members of the RCF Management team to occupy positions on boards of the companies in which RCF invested to guide management and to contribute to an increase in the value of the investments which were intended to be sold at a profit. That function was performed by employees in the Perth office … .

Respecting the statutory reference to income derived “directly or indirectly,” he stated (at para. 51):

The Commissioner submitted that the phrase directs attention “not merely to the proximate origin of the income, but also to those acts or matters which constitute contributory causes to the generation of income”, however, the adverbial phrase quantifies the word “derived” in the section rather than the word “source”. It can be accepted that non-proximate contributory causes may be relevant to ascertain the source of derivation but the adverbial phrase does not lessen or reduce the need to find that that which was derived was from an Australian source.

Two Caymans investment LPs (“RCF IV” and RCF V”) whose limited partners were mostly U.S. residents, realized gains from the disposal of significant shareholdings in an Australian TSX-listed corporation (Talison Lithium) which, through a grandchild corporation held mining leases in Australia and carried out an operation there of mining lithium ores and processing them. Before finding that the U.S.-resident partners’ share of the partnership gains from selling the shares of Talison Lithium was not exempt under Art. 7 of the Australia-U.S. Convention because of the exclusion in Art. 13 for dispositions of (deemed) real property situated in Australia, Pagone J found that such gains were from “entreprises of” the U.S. limited partners, stating (at para. 57) that this expression encompassed “a passive investment activity" of the U.S.-resident partners, and stating further (at para. 57) that:

…in Thiel, their Honours said that “no element of repetition or system should be attributed to [the] expression” “enterprise of one of the Contracting States” by reference to the use of the words “carried on”… . Neither the RCF IV partnership nor the RCF V partnership is a separate taxable entity to be taxed separately from the partners and their agents. The taxable activity in each case was an investment in … Talison Lithium which was carried out on their behalf by their respective General Partners.

Two Caymans investment LPs (“RCF IV” and RCF V”) whose limited partners were mostly U.S. residents, realized gains on income account from the disposal of shares of significant shareholdings in a TSX-listed Australian corporation (Talison Lithium) which, through a grandchild corporation, held mining leases in Australia and carried out an operation there of mining lithium ores and processing them. Pagone J found that the U.S.-resident partners’ share of the partnership gains from selling the shares of Talison Lithium were not exempt under Art. 7 of the Australia-U.S. Convention because of the exclusion in Art. 13 (as expanded in Australian domestic legislation) for dispositions of (deemed) real property situated in Australia. In this regard, Art. VI defined real property to include “rights to exploit or to explore for natural resources,” and Art. 13(2)(b) provided:

1. the term “real property”, in the case of Australia, shall have the meaning which it has under the laws in force from time to time in Australia and, without limiting the foregoing, includes:

1. real property referred to in Article 6;
2. shares or comparable interests in a company, the assets of which consist wholly or principally of real property situated in Australia… .

After first finding (at para. 81) that “real property” in Art. 13(2)(b)(ii) also had its extended Art. VI meaning notwithstanding the absence of a reference to Art. VI in that subparagraph. Pagone J went on to find that (based on Commissioner of Taxation v Lamesa Holdings BV (1997) 77 FCR 597) that “consists of” language, such as that quoted above “was intended to assimilate as realty only one tier of companies rather than numerous tiers,” so that “the alienation by the partners of RCF IV and RCF V of the shares in Talison Minerals would not come within the terms of Article 13 consistently with the reasoning in Lamesa” (para. 83).

However, Lamesa was overruled by s. 3A(1) of the International Tax Agreements Act 1953 (Cth), which extended the application of the Art. XIII exclusion to dispositions of shares of companies “the value of whose assets is wholly or principally attributable, whether directly, or indirectly through one or more interposed companies or other entities, to … real property or interests”. Thus the Art. XIII exclusion applied to the “disposal of real property indirectly by the partners of RCV IV and RCF V by their disposal of shares” (para. 85).

Two Caymans investment LPs (“RCF IV” and RCF V”) whose limited partners were mostly U.S. residents, realized gains from the disposal of significant shareholdings in a TSX-listed Australian corporation. An earlier decision of the Full Federal Court had proceeded on the basis that a similar partnership (“RCF III”) was a corporation for Australian income tax purposes. In finding that this did not preclude him from considering (and then concluding) that RCF IV and RCF V were to be treated as partnerships for such purposes (so that its partners were the relevant taxpayers), Pagone J first noted (at para. 6) that

It is important to the issues in this proceeding that at no stage had it been contended by either party in the RCF III proceedings that Division 5A did not constitute or contemplate RCF III to be a limited partnership able to be taxed as a taxable entity separately from the partners.

He then quoted the statement in Re Hetherington (deceased) [1990] Ch 1 that “even where a decision of a point of law in a particular sense was essential to an earlier decision of a superior court, but that superior court merely assumed the correctness of the law on a particular issue, a judge in a later case is not bound to hold that the law is decided in that sense,” and then concluded (at para. 8):

It follows from those observations, and from the way in which the issue of RCF III as a taxable entity was considered in RCF III, that the view in RCF III that the partnership in that case was a taxable entity is not binding in these proceedings.

After concluding (contrary to the understanding of the Commissioner) that two Caymen LPs were not themselves taxable entities for the relevant Australian income tax purposes, Pagone J went on to find (at para. 21) that assessments made in the name of the partnership were to be taken as assessments of the partners, stating:

The assessments and the other procedural steps taken in this proceeding should similarly be understood as assessments to, and as steps undertaken by, the partners by reference to their partnership name.

Art. VI of the Australia-U.S. Convention defined real property to include “rights to exploit or to explore for natural resources.” In connection with an analysis that treated mining leases as real property for purposes of Art. VI, Pagone J noted (at para. 98):

In TEC Desert Pty Ltd v Commissioner of State Revenue (WA) (2010) 241 CLR 576 the High Court in a joint judgment observed that the position at common law was that a right to mine land gave no interest in the land, saying at 587, [29]:

This treatment of mining tenements in the Australian statutory system had been foreshadowed by the law in England. The general position under the common law in England with respect to the grant by a freeholder of a licence to work a mine was described by Page Wood V-C in London and North-Western Railway Co v Ackroyd as follows:

“[A] licence to work a mine is only a licence to get the minerals, and when you have got them, you have done all you have a right to do, and you have no interest in the land.”

Two Caymans investment LPs (“RCF IV” and RCF V”) whose limited partners were mostly U.S. residents, realized gains from the disposal of significant shareholdings in a TSX-listed Australian corporation (Talison Lithium) which, through a grandchild corporation, held mining leases in Australia and carried out an operation there of mining lithium ores and processing them. Pagone J found that the U.S.-resident partners’ share of the partnership gains from selling the shares of Talison Lithium were not exempt under Art. 7 of the Australia-U.S. Convention because of the exclusion in Art. 13 for dispositions of (deemed) real property situated in Australia, given s. 3A(1) of the International Tax Agreements Act 1953 (Cth), which extended the application of the Art. 13 exclusion to dispositions of shares of companies “the value of whose assets is wholly or principally attributable, whether directly, or indirectly through one or more interposed companies or other entities, to … real property or interests”. Thus, the Art. 13 exclusion applied to the “disposal of real property indirectly by the partners of RCV IV and RCF V by their disposal of shares” (para. 85). Given that Art. 13 and s. 3A(1) did not themselves impose tax, the question more precisely was whether “whether the tax effected by Division 855 of the 1997 Act [respecting taxable Australian real property assets, or “TARP”] is upon the value of assets which was principally or wholly attributable to such real property or interests (para. 87).

In this regard, Pagone J found (at paras. 101, 103)

The ordinary meaning of mining is the “action, process or industry of extracting ores” and that activity was complete upon the recovery of the ore from the earth in the absence of an extended meaning… . It follows that on this basis of assessment of the RCF IV and RCF V partners there is to be excluded from the taxable value of the capital gain, the value attributable to the general purpose leases, the miscellaneous licence and the plants used in the processing operations rather than in the mining. …

Whether the interests of the applicants in Talison Lithium also passed the principal asset test, for the purposes of s 855-25(1)(b), requires consideration of whether 50% or more of the market value of the assets of Talison Lithium were attributable to Australian real property.

Pagone J found that, subject to a further hearing as to the form of the order that he should issue, the taxpayer’s appeal was to be allowed and remitted for reconsideration by the Commissioner based on his acceptance of the valuation approach of the taxpayer’s valuation expert, under which the valuation of the assets and operations involved the mining of the ore body (“the upstream operations”) was lower than that for the subsequent operations after extraction and severance of the ore from the ground (“the downstream operations”), with the value of the ore extracted from the ground not being part of the taxable Australian real property and being valued for the above purposes immediately after that resource had been extracted and severed from the ground.

Two Caymans investment LPs (“RCF IV” and RCF V”) whose limited partners were mostly U.S. residents, realized gains from the disposal of shares of significant shareholdings in a TSX-listed Australian corporation (Talison Lithium) which, through a grandchild corporation, held mining leases in Australia and carried out an operation there of mining lithium ores and processing them. Although their (income account) gains were from selling the shares of Talison Lithium were not exempted under Art. 7 of the Australia-U.S. Convention because of the exclusion in Art. 13 (as expanded in Australian domestic legislation) for dispositions of (deemed) real property situated in Australia, their appeals of nonetheless were allowed on the basis that the shares of Talison Lithium were not taxable Australian real property because their value was attributable more to the “downstream” lithium processing operations than to the “upstream” mining operations.

Two Caymans investment LPs (“RCF IV” and RCF V”) whose limited partners were mostly U.S. residents, realized gains from the disposal of shares of significant shareholdings in a TSX-listed Australian corporation (Talison Lithium) which, through a grandchild corporation, held mining leases in Australia and carried out an operation there of mining lithium ores and processing them. Although their (income account) gains were from selling the shares of Talison Lithium were not exempted under Art. 7 of the Australia-U.S. Convention because of the exclusion in Art. 13 (as expanded in Australian domestic legislation) for dispositions of (deemed) real property situated in Australia, their appeals of nonetheless were allowed on the basis that the shares of Talison Lithium were not taxable Australian real property because their value was attributable more to the “downstream” lithium processing operations than to the “upstream” mining operations.

In particular acceptance, Pagone J acccepted of the valuation approach of the taxpayer’s valuation expert, under which the valuation of the assets and operations involved the mining of the ore body (“the upstream operations”) was lower than that for the subsequent operations after extraction and severance of the ore from the ground (“the downstream operations”), with the value of the ore extracted from the ground not being part of the taxable Australian real property and being valued for the above purposes immediately after that resource had been extracted and severed from the ground.