Treaty-based profit attribution prevailed over domestic notional income rules for a foreign life assurer with UK business

Rule 3 of Case III of Schedule D operated as a special statutory mechanism for attributing a notional proportion of a foreign life assurance company's world investment income to its United Kingdom business, rather than as a direct tax on specific investments or on business profits simpliciter. That attribution method was inconsistent with the United Kingdom-Australia Double Taxation Relief Agreement, because the treaty required profits of a foreign enterprise with a permanent establishment to be attributed on an arm's length basis. The rule 3 assessment could not therefore be sustained where the treaty displaced the unilateral domestic method of computation.

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Issues: (i) Whether the charge under rule 3 of Case III of Schedule D to the Income Tax Act, 1918, as continued by section 430 of the Income Tax Act, 1952, was properly characterised as a tax on the life assurance company's business profits or as a method of attributing investment income to its United Kingdom business; (ii) whether that charge could be imposed consistently with the Double Taxation Relief Agreement between the United Kingdom and Australia.

Issue (i): Whether the charge under rule 3 of Case III of Schedule D to the Income Tax Act, 1918, as continued by section 430 of the Income Tax Act, 1952, was properly characterised as a tax on the life assurance company's business profits or as a method of attributing investment income to its United Kingdom business.

Analysis: The charge under rule 3 was not directed at specific investments as such. It applied a formula by which a proportion of the world investment income of a foreign life assurance company was taken and deemed to be profits comprised in Schedule D, the result being charged as income derived from business carried on in the United Kingdom. The statutory language, especially the proviso describing the sum charged as income derived from United Kingdom business, showed that the provision operated as a special machinery for attributing a measure of income to the United Kingdom business rather than as a direct charge on investment income simpliciter.

Conclusion: The charge was treated as an exceptional statutory method of attributing income to the United Kingdom business, not as a charge on particular investments as such.

Issue (ii): Whether that charge could be imposed consistently with the Double Taxation Relief Agreement between the United Kingdom and Australia.

Analysis: The Agreement allocated taxing rights over commercial or industrial profits by reference to a permanent establishment and required attribution on an arm's length hypothesis. Applying rule 3 would first import the company's world investment income into the computation and then seek to attribute the resulting figure to the United Kingdom business, which was inconsistent with the treaty's own method of attribution. The charge therefore could not stand if it depended on a unilateral basis of taxation displaced by the Agreement. A prior decision of the House on a different question did not compel a different construction of the treaty terms.

Conclusion: The charge was inconsistent with the Double Taxation Relief Agreement and could not be sustained.

Concurring Opinion: Lords Tucker, Somervell of Harrow and Birkett agreed with the majority opinion delivered by Lord Radcliffe.

Dissenting Opinion: Lord Denning would have treated the charge as a tax on investment income rather than on business profits and would have allowed the appeal.

Final Conclusion: The appeal failed because the rule 3 assessment could not be maintained consistently with the treaty-based method of attributing profits to a foreign enterprise having a permanent establishment in the United Kingdom.

Ratio Decidendi: Where a statute attributes to a foreign enterprise a notional proportion of its world investment income and deems that sum to be income of its United Kingdom business, the charge cannot be applied as a tax on treaty-protected commercial profits if the applicable double taxation agreement requires attribution by a different arm's length permanent-establishment method.

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