Scottish Court of Session Decisions

The Finance Act 1894 (57 and 58 Vict. cap. 30) enacts—Section 1—“In the case of every person dying after the commencement of this part of this Act there shall … be levied and paid upon the principal value ascertained as hereinafter provided of all property … which passes on the death of such person a duty called ‘estate duty.’ … Section 2 (1)—“Property passing on the death of the deceased shall be deemed to include … ( b) Property in which the deceased or any other person had an interest ceasing on the death of the deceased to the extent to which a benefit accrues or arises by the cesser of such interest.…” Section 7 (7)—“The value of the benefit accruing or arising from the cesser of an interest ceasing on the death of the deceased shall … ( b) if the interest extended to less than the whole income of the property, be the principal value of an addition to the property equal to the income to which the interest extended.”

The Lord Advocate on behalf of the Commissioners of Inland Revenue, pursuer, brought an action against Walter Thomas Scrymsoure-Steuart Fothringham, defender, concluding for delivery of a true and full account of the property which passed, or was deemed to have passed, on the death of Dame Hester Mary Fraser or Stewart, widow of the late Sir Archibald Douglas Stewart of Grandtul Iyand Murthly, Baronet, for the purpose of ascertaining the estate duty chargeable in respect of the value of the benefit accruing or arising from the cesser of an annuity of £4000 payable to the said Dame Hester Mary Fraser or Stewart in terms of certain deeds and charges upon the lands of Grandtully or Murthly or others belonging to the defender, and for payment of £8500 or of such other sum as might be found due and payable as estate duty in respect of the value of the benefit accruing or arising as aforesaid. The summons also contained conclusions for delivery of a succession duty account in respect of the cesser of the said annuity, and for payment of £5000 or such sum as might be found due as succession duty foresaid.

Dame Hester Mary Fraser or Stewart was the widow of Sir Archibald Douglas Stewart, Baronet, heir of entail in possession of the entailed estate of Grandtully and Murthly, who by his antenuptial marriage contract and by bond of annuity and disposition in security had burdened the entailed estate with two annuities in her favour under the “Aberdeen” Act (5 Geo. IV, cap. 87). The defender was the successor of the late Sir Archibald Douglas Stewart in the entailed estates now held in fee

Page: 160↓

simple by him, the defender, and had by agreement with Sir Archibald's widow restricted the amount of the annuities to a fixed sum of £4000 as being approximately one-third of the free yearly rent or value of the estate. On Lady Stewart's death on 6th October 1916 the annuity ceased.

The defender did not dispute liability for succession duty.

The parties averred, inter alia—“(Cond. 4) On the death of the deceased estate duty became payable by the defender in respect of the cesser of the said annuity of £4000 to the extent to which a benefit accrued or arose to the defender thereby. The said estate duty fell to be paid on the principal value of an addition to the defender's property equal to the income to which the said annuity extended. Such principal value for the purposes of estate duty is the price which in the opinion of the Commissioner of Inland Revenue such addition to the defender's property would fetch if sold in the open market at the time of the death of the deceased, and the said principal value fell to be fixed by capitalising the annuity at the number of years’ purchase appropriate to the property out of which it was Paid. The said method fell to be applied by finding the net annual value of the said whole lands and estates, and by dividing the principal value of the said whole lands and estates by the said net annual value for the purpose of finding the number of years' purchase appropriate to the said whole lands and estates. The principal value of the said addition thereafter fell to be arrived at by multiplying the said annuity by the number of years' purchase so arrived at. ( Ans. 4) Admitted under reference to section 2 (1) ( b) and section 7 (7) ( b) of the Finance Act 1894 that estate duty is payable by the defender in respect of the cesser of the said annuity of £4000 on the death of the deceased to the extent to which a benefit accrues or arises thereby, and that the value of the benefit accruing or arising from the cesser of the said annuity is the principal value of an addition to the property on which the said annuity was charged equal to the income to which the annuity extended. Quoad ultra denied under reference to the succeeding answer. (Cond. 5) In December 1920 an estate duty account was lodged on behalf of the defender for assessment of the duty due in respect of the cesser of the said annuity of £4000. The said account set forth the gross principal value of the whole said lands and estates as £213, 426, 9s. 5d., which sum after negotiation between the parties was increased to £238,047. This figure the parties are agreed is correct. In reaching the said sum of £238,047 as the principal value of the said whole lands and estates the question of the number of years' purchase applicable to the said whole lands and estates was left unsettled between the Commissioners of Inland Revenue and the defender, correspondence between the parties failing to bring about agreement as to whether or not the average annual expenditure on repairs fell to be deducted from the gross rental for the purpose of finding the net annual value. The said correspondence is produced. The defender submitted in the said account as the net annual value of the whole said lands and estates the sum of £11,484, 6s. This figure was arrived at by deducting from the gross annual value of £13,613, 4s. 11d. feu-duties and public burdens amounting to £2128, 18s. 11d., but not deducting the cost of repairs. On the said figures of £238,047 as principal value and £11,484, 6s. as net annual value, the value arrived at of the whole estate was 20·72 years' purchase, and the value of the addition to the defender's property arising from the cesser of the said annuity £82,914. With reference to the statements in answer, denied that to make a deduction in respect of repairs in ascertaining the principal value of lands is improper and unwarranted by statute or contrary to the principles or practice of valuation. Further denied under reference to the averments above made that the official valuers in their negotiations with the defender disregarded the expenditure on repairs. Sub-section 5 of section 7 of the Finance Act 1894 is referred to for its terms, beyond which no admission is made. Quoad ultra the statements in answer are denied so far as not coinciding herewith. ( Ans. 5) The statements with reference to the accounts lodged for estate duty purposes, the figures condescended on, and the calculations based thereon are admitted. The said correspondence is referred to for its terms. Quoad ultra denied so far as not coinciding herewith. The question between the parties is whether the average annual expenditure on repairs falls to be deducted from gross rental in order to arrive at principal value. The defender avers that such a method of ascertaining the principal value of the whole lands and estates is improper, is not warranted by statute, and is contrary to ordinary valuation principles and practice. The effect of making such a deduction is only to increase the number of years' purchase to be taken in arriving at the capital sum. The figure of £11,484, 6s. is agreed as the net rental of the said lands and estates without any deduction for repairs. If the sum of £1038 be deducted therefrom in respect of the average annual expenditure on repairs, as contended for by the pursuer, there is left a figure of £10,446, which at 22·78 years' purchase gives the sum of £238,047. The same result is attained by taking 20·72 years' purchase of the net rental of £11,484, 6s. without making any deduction for repairs. In the negotiations to fix the principal value of the said lands and estates which took place between the defender and the official valuers for the pursuer the expenditure on repairs was disregarded, and the said valuers arrived at the figures of principal value by deducting the amount of public burdens from gross rental and capitalising the net rental thus arrived at by taking as the number of years' purchase thereof a figure which varied with the nature and condition of the subjects under valuation. By the terms of subsection 5 of section 7 of the Finance Act 1894 the principal value of any property shall be estimated to be the price which in the opinion of the Commissioners such property

Page: 161↓

would fetch if sold in the open market at the time of the death of the deceased. To estimate the principal value of any property under this provision it is sufficient to now the nature and condition of the property (including therein its state of repair), the gross rental derived therefrom, and the extent of the feu-duties and public burdens affecting the same. The expenditure on repairs is reflected in the present condition of the subjects, and the amount thereof supplies no additional data necessary to the process of valuation. (Cond. 6) The said figure of £11,484 taken by the defender as the net annual value of the whole of said property is erroneous inasmuch as the cost of repairs is included therein. The correct figure for the purpose of calculating the capital value of the addition to the defender's property is £10,446, being the gross rental subject to the deduction, in addition to the said feu-duties and public burdens, of £1038 as the average annual expenditure on repairs calculated at 10 per cent. of the gross rental (less sporting rents and feu-duties). The value of the whole said lands and estates ascertained by the division of the said principal value of £238,047 by the said net annual value of £10,446 is 22·78 years' purchase, and the principal value of an addition to the defenders property equal to the income to which the said annuity extended is for the purposes of estate duty £91,153. ( Ans. 6) Denied under reference to the preceding answer.”

The pursuer pleaded—“1. For the purpose of estate duty the value of the benefit accruing or arising on the cesser of the deceased's annuity is the principal value of an addition to the heritable estate equal to the annuity. 2. For the purpose of ascertaining the principal value of an addition to the heritable estate equal to the annuity, the number of years' purchase applicable to the whole said heritable estate falls to be ascertained. 3. For the purpose of ascertaining the number of years' purchase applicable to the whole said heritable estate (the principal value of which has been agreed between the parties) the average annual expenditure on repairs falls to be deducted from the rental thereof. 5. The principal value of the whole said heritable estate being equal to 22·78 years' purchase of gross rental less feu-duties, public burdens, and the average annual expenditure on repairs, the value of an addition to the said heritable estate should be calculated on the same basis.”

The defender pleaded—“2. The value of the benefit arising from the cesser of the said annuity being the principal value of an addition to the property on which the said annuity was charged, equal to the income to which the said annuity extended, the said value falls to be ascertained by capitalising the amount of the said annuity upon the basis of the number of years' purchase applicable to the said property without taking into consideration the amount expended on repairs. 3. The principal value of the defender's property being equal to 20·72 years' purchase of gross rental, less only the amount of feu-duties and public burdens, the value of an addition to the said property should be ascertained on the same basis, ”

The Lord Ordinary sustained the second and third pleas-in-law for the defender, continued the cause, and granted leave to reclaim.

Opinion.—“The only question in this case is the amount of estate duty payable by the defender, who is proprietor of the estate of Grandtully and Murthly, in respect of the cesser of an annuity of £4000 secured over the rents of the estate in favour of Lady Douglas Stewart, the widow of the defender's predecessor. The amount of the annuity was by agreement between the parties interested fixed at £4000 as being one-third of the yearly rent of the whole estates to which the defender succeeded as heir of tailzie on the death of Sir Douglas Stewart. The annuitant died on 6th October 1916. In order to calculate the duty payable it is necessary in the first place to ascertain the value of the benefit accruing or arising to the defender from the cesser of the annuity. This has to be done in terms of section 7 (7) ( b) of the Finance Act 1894, which provides that the value shall ‘if the interest extended to less than the whole income of the property be the principal value of an addition to the property equal to the income to which the interest extended.’ It has been pointed out more than once that this section is badly expressed (see Lord Advocate v. Henderson's Trustees, 7 F. 963), but it is not now disputed that what requires to be ascertained is the value of a hypothetical addition to the property capable of yielding an income equal to ‘the income to which the interest extended.’ The question between the parties is as to the meaning of the words ‘income to which the interest extended.’ The defender maintains that this means neither more nor less than £4000, being the amount of the annuity secured on the income or rental of the property. It is, however, argued for the Crown that since an annual outlay on repairs was necessary to maintain the rental of the property required to produce the annuity the ‘income to which the interest extended’ must therefore be assumed to have exceeded the amount of the annuity by a sum equal to the amount required to be expended on annual repairs in order to maintain a rental of £4000 a year. There is no doubt as to the proper method of as certaining the principal value of the hypothetical addition, which must of course be assumed to be similar in character to the property to which it is to be added—that is to say, it must be assumed to consist of subjects corresponding to those which form the property itself and bearing the same proportion to one another. What requires to be done first is to ascertain the principal value of the property itself. The principal value of a property is defined by section 7 (5) of the Act to be ‘the price which in the opinion of the Commissioners such property would fetch in the open market.’ In this case the principal value of the property has been agreed upon and the agreed-on sum must be taken as the fair market price, but the manner in which either party may have

Page: 162↓

satisfied themselves that the sum agreed upon represents the market price is in my opinion immaterial. I entertain no doubt that the usual method of ascertaining the market price of a property is to add together the values of the different subjects which go to make up the property, and that these values are ascertained by multiplying the gross rental of each subject, under the usual deductions for public burdens, &c., but with no deduction for repairs, by the number of years’ purchase appropriate to the subject. The number of years’ purchase taken as appropriate to any subject depends always on the character of the subject under consideration; it may vary according to the state of the market and will certainly vary according to the condition of the subject, and it will thus reflect the cost of repairs. So far as I am aware this is the only recognised method of valuing property. I say this because in the course of the debate it was stated that the valuers for the Crown had estimated the principal value of the property by taking the requisite number of years’ purchase of the free rental after deduction of 10 per cent. of the rental as the average annual cost of repairs. As I have stated, it is in my opinion immaterial how they may have arrived at the market value, but having agreed on the value I deal with it as if it had been ascertained in the usual recognised manner. Next, in order to ascertain the number of years’ purchase of the rental of the whole property under the usual deductions for public burdens, &c., which is required to make up a sum equal to the principal value, it is only necessary to divide the agreed-on principal value by the total rental. Having thus ascertained the number of years’ purchase all that remains to be done is to multiply the ‘income to which the interest (which has ceased) ‘extended’ by the same number of years’ purchase in order to arrive at the principal or market value of a hypothetical addition to the property similar in all its component parts to the property itself which will yield an income equivalent to ‘the income to which the interest extended.’

Now, if the Crown's case had been presented logically a figure should in my opinion have been put forward which represented the income of the property to which the annuity of £4000 was said to have extended during the life of the annuitant. I do not know how any larger sum than £4000 could have been reached, but had the endeavour been made, I think the absurdity of the proposition would have been apparent. This is not, however, the way in which the case is presented. Counsel for the Crown opened with the apparently plausible statement that the benefit which accrues to the defender by the cesser of the annuity is a clear £4000 per annum, and that a hypothetical addition which only yields a rental of that amount would not provide the defender with a benefit equal to that which accrues by the cesser of the annuity since an annual outlay on repairs would be required to maintain the rent. The fallacy which underlies this proposition may in my opinion be attributed to the fact that the addition being purely hypothetical requires no additional outlay whatever on repairs, and accordingly the average annual expenditure by the defender on the repairs of his property will continue to be precisely the same as it was during the subsistence of the annuity. The only benefit which accrues to him by its cesser is £4000 per annum.

Next it was argued for the Crown that if £4000 was taken as the multiplicand in the last operation of ascertaining the principal value of the hypothetical addition, the multiplier, i.e., the number of years’ purchase, must be increased so as to increase the principal value of the hypothetical addition to an amount sufficient to produce a rental which would provide the defender with a clear £4000 per annum after keeping the hypothetical addition to his property in repair. To increase the number of years’ purchase it is only necessary to reduce the amount of the rental of the whole property by which the principal value of the property is divided, and for this purpose it is proposed to deduct 10 per cent. for repairs from the gross rental in addition to the usual deductions for public burdens, etc. This sum of 10 per cent. amounts in this case to £1038, and is stated in condescendence 6 to be a deduction from the gross rental ‘as the average annual expenditure calculated at 10 per cent. on the gross rental (less sporting rent and feu-duties).’ The Lord Advocate stated that this 10 per cent. only covered contractual obligations for repairs, but it was not made clear whether the figure is arrived at from the terms of the leases actually current on this property or is taken as an average applicable to such property generally. It does not, however, appear to me to matter whether the sums expended on repairs were expended under contractual obligations or in the ordinary course of good management. The result of this deduction in this case would be to reduce the rental taken as the divisor from £11,484 to £10,446, to increase the number of years’ purchase from 20·72 to 22·78, and to increase the value of the hypothetical addition from £82,914 to £91,153. The estate duty on the difference between these two last-mentioned sums is the amount claimed by the Crown and disputed by the defender.

I am not prepared to hold that an annuity which is secured on the income of a property extends to any greater portion of the income than what is required to provide the annuity. Colloquially speaking the annuitant may be said to have had some interest in what the owner of the property spent on repairs, but she had no right to insist on his spending anything and legally had no interest whatever in such expenditure. Incidentally the annuity in this case was charged on an entailed estate and fell to be fixed without reference to the cost of annual repairs—see Earl of Galloway, 6 F. (H.L.) 1, In considering the meaning of the words above quoted from section 7 (7) ( b) reference may be made to the immediately preceding sub-section ( a), which provides that the benefit accruing

Page: 163↓

from the cesser of an interest shall, if the interest extended to the whole income of the property, be the principal value of that property.’ This I think points to an annuity which extends to the same amount of rental as must be taken into account in calculating the principal value of the property, i.e., the whole rental less public burdens, &c. I do not think it means an annuity which together with the amount spent on repairs exhausts the whole rental. As I have already stated I entertain no doubt that the recognised way of valuing a property is by estimating the number of years’ purchase which a prospective buyer would give of the gross rental less public burdens, &c. Accordingly it appears to me that in sub-section ( a) ‘income’ must mean rental less the usual deductions and without any deduction for repairs. This view appears to me to be strengthened by the proviso attached to section 7 (5) (now repealed), which provides that the principal value of a property shall not exceed twenty-five times the annual value after making, inter alia, ‘such deductions as have not been allowed under ‘Schedule A of the Income Tax Acts and are allowed under the Succession Duty Act 1853.’ The express deductions here allowed are not such as would ordinarily be taken into account in ascertaining ‘the annual value’ of a property. They are allowed in this proviso only for the purpose of restricting the maximum value and the inference that they are not otherwise to be allowed is I think clear. They include a deduction for repairs under the Succession Duty Act.

But the question is also, I consider, settled by the decision in the Lord Advocate v. Henderson's Trustees, 7 F. 963. In that case the property on the rents of which the annuity was secured was burdened with a large amount of debt, and the question was whether in fixing the principal value of the hypothetical addition to the property the Gross capital value of the bonds should be deducted from the market value of the property and the annual interest on the bonds should be deducted from the rental before dividing the one by the other in order to ascertain the number of years’ purchase. Lord Stormonth Darling (Lord Ordinary) held that the gross capital value of the bonds should not be deducted from the market value of the property, but that the interest on the bonds was a proper deduction from the rental, thus holding that the income of the property for the purpose of section 7 (7) ( b) meant the free income after deduction of the interest on the bonds. He then proceeded to ascertain the value of the hypothetical addition by a proportional sum in which the other three terms were the principal or market value of the property, the free income of the property as defined by himself, and the amount of the annuity which had ceased. The First Division held that the Lord Ordinary was wrong in allowing the interest as a deduction from the rent. His proportion sum was reduced to an equation by Lord President Dunedin (page 969 foot) with the result of exposing very clearly that the greater the amount of the debt on the property the less would be the free income, and accordingly the greater the value of the hypothetical addition, which, said his Lordship, ‘is absurd.’ The proportion sum was therefore rejected as not leading to sound results. But as this raises a question of mathematics rather than of law I venture to agree with Lord Stormonth Darling that the method described in the statute of arriving at the value of the hypothetical addition can be stated quite accurately as a proportion sum, which so long as the terms of the sum are correct does not lead to an unsound result. Where Lord Stormonth Darling went wrong was in introducing a wrong term in what he took as the ‘free income,’ and that alone led to the absurd result. The method approved by both parties in this case as the proper method for ascertaining the value of the hypothetical addition is just a proportion sum, viz., as the market value of the property is to the rental of the property, so is the value of the hypothetical addition to the annuity which has ceased. But the Crown seek to make the same blunder as was made by Lord Stormonth Darling in claiming to make a deduction for repairs from the rental, and this leads to a similar absurdity—for the more generous the proprietor of a property is in the matter of repairs, whether these are matter of contract or not, the greater will be the value of the hypothetical addition. So long as the rent taken as one of the terms is subject only to deduction of such public burdens as are fixed and ascertainable the proportion sum will lead to no absurdity. The moment you introduce variable and optional deductions from the rent it will. Accordingly in my opinion the defender's contention in this case is consistent with the true meaning of the statute and is supported by authority, and I shall meantime sustain the second and third of his pleas-in-law.

I should perhaps point out that it is quite clear that in Henderson's case the Crown did not claim, as they now do, any deduction from the rent for repairs. The only explanation of the apparent change in practice was a statement by the Lord Advocate that it must have been an oversight, as, so he was informed, the invariable practice has always been to make such a deduction.”

The pursuer reclaimed, and argued—Section 2 (1) ( b) of the Finance Act 1894 had created an artificial position. Although no property actually passed on the cesser of the interest, property was to be deemed to have passed. Such property could not be valued in the ordinary way, and accordingly a method of valuation had been provided by section 7 (7) ( b), and the question was one of the interpretation of the section— Attorney-General v. Coole, [1921] 3 K.B. 607; In re Earl Cowley's Estate, [1898] 1 QB 355. It had been settled in Lord Advocate v. Henderson, 1905, 7 F. 963, 42 S.L.R. 720, that the proper method of applying the section was to multiply the annuity by the number of years’ purchase value of the property burdened,

Page: 164↓

obtained by dividing the capital value of the property by the rental. In that case, however, the question as to whether the rental to be taken for the purpose of the calculation was the gross rental or the net rental after deduction of the cost of repairs did not arise. But in section 7(7) “income” was used in the sense of net income. This was clearlysoin sub-section ( a), under which, if the interest amounted to the whole of the net income, the value of the benefit accruing was the value of the whole estate. The same meaning fell to he given to “income” in sub-section ( b). Further, the ordinary meaning of “income” was income after the cost of earning it had been deducted. An “addition to the property equal to the income to which the interest extended” must therefore mean an hypothetical estate which would produce a free income equal to the annuity— Attorney-General v. Coole ( cit.), per Sankey, J., at p. 619; Lord Advocate v. Maclachlan, 1899, 1 F. 917, per Lord President at p. 922, 36 S.L.R. 727. The cost of repairs therefore fell to be deducted from the rental in calculating the number of years’ purchase of the property. This was in accordance with the ordinary practice in calculating the annual value of an estate— Edinburgh and Glasgow Railway Company v. Hall, 1866, 4 Macph. 1006, per the Lord Justice-Clerk at p. 1008, 2 S.L.R. 159; Attorney-General v. Power, [1906] 2 I.R. 272, per Palles, C.B., at p. 277; In re Elwes, 1858, 3 H. & N. 719, per curiam, Watson, B., at p.716. There was no hardship on the owner of the property because he was benefited by the addition of the amount of the annuity, which had not hitherto carried its share of repairs. On the other hand the deceased was clearly interested in the property being kept in repair.

Argued for the defender—As a taxing statute the Finance Act of 1894 should be interpreted in cases of ambiguity in favour of the subject, and the onus was on the pursuer to show that “income” meant net income if the result was to make the duty greater. The pursuer had failed to do so, and “income” therefore fell to be interpreted as gross income in both sub-sections of section 7 (7). It was doubtful if the defender had been right in conceding the deduction of public burdens although they were a charge on the income prior to the annuity. The cost of repairs, however, should not be deducted. It was not deducted in finding the free year's rental— Earl of Galloway v. Countess of Galloway, 1903, 6 F. (H.L.) 1, 40 S.L.R. 82. The “addition to the property equal to the income to which the interest extended” therefore fell to be calculated on the basis that “income” meant income without deduction for repairs, and it was the rental, without any such deductions by which the capital value of the property was to be divided in order to ascertain the number of years' purchase value. The necessity of express provision for deduction of the cost of repairs in section 5 supported this contention, and the cases of Lord Advocate v. Maclachlan ( cit.), per Lord President at p. 922, and Lord Advocate cate v. Henderson ( cit.), per the Lord President at p. 970, were in its favour. The pursuer's contention led to the result that if the free income of the whole estate was diminished owing to increased cost of repairs the amount of estate duty payable in respect of the cesser of the annuity was increased. In Edinburgh and Glasgow Railway Company v. Hall ( cit.) the question was one of income tax, and the Lord Justice-Clerk was using the words “annual value” in a particular sense. The other cases cited by the pursuer were not in point. The Lord Ordinary's interlocutor should therefore be sustained or a proof should be allowed as to the practice in such valuations.