BIM37755 - Wholly & exclusively: duality of, or non-trade, purpose: loans/advances to others: advances to secure supply of raw material
Investment of capital or an advance for purchases?
The cost of trading stock is allowable. It is a question of fact
whether money was paid to acquire trading stock or (wholly or
partly) for some other purpose. Where there is a non-trade purpose,
the expenditure is not allowable.
In the case of English Crown Spelter v Baker [1908] 5TC327,
the company traded as zinc smelters. The company made advances to
an allied mining company which had been formed in order to supply
raw materials (blende) for the smelting process. Some of the
advances were against material to be delivered though not against
specific parcels of ore. The allied company was placed in
liquidation and was unable to meet its liabilities (or supply ore).
English Crown Spelter claimed to deduct the losses suffered as bad
debts arising in the ordinary course of trade, or as money spent
for the purpose of their trade.
The courts held that the losses were not an allowable
deduction. Bray J explained that the advances were not made against
specific purchases but were in the nature of loans to assist the
subsidiary who had incurred heavy expenditure in opening up their
mine. On the facts established before the Commissioners, this was
an investment of capital in the Welsh company and was not an
ordinary trade transaction, of an advance against goods. In effect
the English company had lent money to its Welsh subsidiary and was
to be repaid by future deliveries of raw materials.
If, as a question of fact, the advances had been made against
specific purchases then a deduction would be due in the event of
non-delivery. In the current era of ‘just in time’
deliveries it would be unusual for a trader to pay for supplies
very far in advance unless their were exceptional difficulties in
securing supplies.
For those who do not have ready access to tax case volumes,
the part of Bray J’s judgement on which the above guidance is
based is set out below, 5TC foot of page 337 and head of page
338:
If this were an ordinary business transaction
of a contract by which the Welsh Company were to deliver certain
blende, it may be at prices to be settled hereafter, and that this
was really nothing more than an advance on account of the price of
that blende, there would be a great deal to be said in favour of
the Appellants. But it is quite clear that the Commissioners have
not taken that view, and it is seems to me rightly they have not
taken that view. It is impossible to look upon this as an ordinary
business transaction of an advance against goods to be delivered.
It is really nothing of the sort. The Welsh Company [the
allied, mining, company]
were in this difficulty. They had great
difficulties in opening their mine; they had to expend large sums
of money for that purpose, and they applied to the Appellant
Company - the English Company - to lend them money, and they lent
them money.
Now, I can come to no other conclusion but
that this was an investment of capital in the Welsh Company, and
was not an ordinary trade transaction of an advance against goods.
It was pressed upon me that it is quite sufficient to say that the
main object of this advance was to enable the English Company to
carry on their business more profitably, by being able to obtain
blende. I dare say that was one of the objects, and very likely the
main object; but if it really is an investment of capital, that is
not sufficient. If it were sufficient, then it would apply to the
£8,997 as well. Therefore it seems to me that that argument is
not sound, and the only conclusion I can come to is that the
Commissioners have rightly found, under the paragraph I have
mentioned, that this was an employment by the Appellant Company of
capital in a separate concern, and therefore cannot be allowed as a
deduction from gains and profits, and so the appeal must be
dismissed.
