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Capital/revenue divide: tangible assets: case law: a tale of two railways

Highland Railway Co. v Balderston (Surveyor of Taxes) (1889) 2 TC 485

Rhodesia Railways Ltd. v Collector of Income Tax, Bechuanaland Protectorate [1933] AC 368

Both these cases involved the extensive re-laying of railway track. In the case of the Highland Railway the expenditure was found to be an improvement and capital expenditure, whilst the work carried out by Rhodesia Railways was simply a repair.

Following its takeover of the Sutherland & Caithness Railway in 1884, the Highland Railway re-laid the track to bring it up to the standard of the rest of the Highland Railway.

This contrasts with Rhodesia Railways, where in 1929 it was recognised that the track originally laid in 1896/7 had deteriorated over time and was in need of significant repairs. In the period under appeal, the Railway had worked on 74 miles of the 394 miles of track in the Protectorate.

Rhodesia Railways also did some work that it accepted was an improvement and these costs were disallowed as capital expenditure. Otherwise the work:

‘… was to bring the track back to normal condition and the line as renewed was not capable of giving more service than the original line.’

In Highland Railway, the Lord President (Inglis) explained at pages 488-9 why the work was an improvement not a repair:

‘…it must be kept in view that this is not a mere relaying of the line after the old fashion; it is not taking away rails that are worn out or partially worn out, and renewing them in whole or in part along with the whole line. That would not alter the character of the line; it would not affect the nature of the heritable property possessed by the Company. But what has been done is to substitute one kind of rail for another, steel rails for iron rails. Now that is a material alteration and a very great improvement on the corpus of the heritable estate belonging to the Company, and so stated is surely a charge against capital. All that is done, it will be observed from the details given on page 7 with reference to this matter, is to charge the price of the weight of the rails and chairs; that is to say, the weight in addition to what was the original weight of the rails and chairs. That is the whole charge, and that is a charge made entirely for the improvement of the property, the permanent improvement of the property. Now how that can be anything but a charge against capital I am unable to see.’

In their judgment in Rhodesia Railways, the Privy Council quoted this passage saying that:

‘The contrast between the cost of relaying the line so as to restore it to its original condition and the cost of relaying the line so as to improve it is well brought out in the passage just quoted.’

The difference between the two cases was that Rhodesia Railways ended up with a line that was in good condition, but otherwise was the same as before. You could run the same number of trains and the same size of train. The Highland Railway, in contrast, had ended up with a better railway than was there before, the trains could be bigger and the trains could go faster.

In the Highland Railway case, the Lord President also made it clear, at page 487, that he saw the cost of improvements as part of the costs of acquiring the line:

‘It appears to me, therefore, that they must have purchased or acquired this Sutherland and Caithness line at a lower figure than it would otherwise have brought in consequence of its being in that imperfect condition; and if they did so it appears to follow of necessity that the renewal or improvement of this Sutherland and Caithness line to bring it up to the proper standard is just part of the cost of that line to work along with the main line. If it had been brought up to that standard before they bought it, they would have had to pay so much the more for it; and finding it in that condition, and knowing that they could not use it in connexion with the main line without expending this large sum of money upon it, just shows that, although it cannot be said in a proper sense to be part of the price of the line, it is certainly part of the cost of acquiring that line to be wrought along with the main line. I think that is sufficient to dispose of the portion of the case relating to the Sutherland and Caithness line.’