Courts and Tribunals: June 2020

Julian Harris

July 1, 2020

Hart St Investments Ltd v Commissioners for Revenue and Customs [2020] UKFTT 218 (TC)

Property development company’s payments to contractors liable to CIS deductions

Payments made by a property development company to building contractors and other third parties were construction contracts and therefore liable to deductions under the construction industry scheme (CIS).

The appellant company was formed specifically to develop a property. It entered into a Joint Contracts Tribunal (JCT) contract with a contractor for the property to be converted to residential and office use, incurred expenditure for the services of a tree surgeon and an expert in wooden beams in listed buildings, and arranged a bank overdraft for the project.

The appellant disputed HMRC’s finding that the payments it made to the third parties were liable to deduction under the CIS, and appealed against HMRC’s determination (under SI 2005/2045, reg 13) for failure to make CIS returns. The First-tier Tribunal (FTT) was required to decide (i) whether the JCT contract and contracts with the tree surgeon and expert in wood beams were construction contracts; and (ii) whether (for the purposes of FA 2004, s 59) the appellant was carrying on a business which included construction operations.

In the tribunal’s view, it was clear that the JCT contract and the other two agreements were construction contracts. There were a number of indicators that the appellant was carrying on a business, including its contractual relationships with third parties, the business risks it was taking, and the legal rights afforded it under the development agreement.

Construction operations were a component of the appellant’s business, which established that it was a company to which FA 2004, s 59 applied. The payments made by the appellant to its sub-contractors were therefore liable to deductions under the CIS.

The FTT also found the appellant had no reasonable excuse for its failure to make CIS returns for penalty purposes because it only took ‘informal’ advice from accountants on its tax position. The appellant’s appeal was dismissed.

Commissioners for Revenue and Customs v NCL Investments Ltd & Anor [2020] EWCA Civ 663

Company accounting debits on grant of EBT share scheme option were tax deductible

The Court of Appeal has confirmed that accounting debits when awarding share options through an employee benefit trust (EBT) were deductible for corporation tax purposes.

The taxpayer companies employed staff with accountancy expertise who were hired out to other group companies for a fee. The holding company established an EBT which entitled staff employed by the taxpayer companies to acquire shares in the holding company. Accounts for the companies complied with generally accepting accounting practice (GAAP), and the applicable standard (IFRS 2) in relation to the grant of the share options.

A dispute arose with HMRC over whether the IFRS 2 debits to the profit and loss accounts of the taxpayer companies relating to the EBT were deductible. HMRC argued before the First-tier Tribunal (FTT) ([2017] UKFTT 495 (TC)) that the deduction should be refused because: (i) the debits were not incurred ‘wholly and exclusively’ for trading purposes (as required by CTA 2009, s 54(1)(a)); (ii) the expenses were of a capital rather than a revenue nature and so not deductible (under CTA 2009, s 53); and (iii) CTA 2009, s 1038 prevented a deduction from being made before shares were actually issued under the option.

The FTT dismissed HMRC’s appeal on all three grounds. On the first issue, the IFRS 2 debit arose from the granting of share options to employees, which had a direct link to the earning of revenue profits and therefore to the taxpayer companies’ trades.

Second, the debits were recurring costs connected with earning of income and revenue in nature rather than capital. Third, the restriction in CTA 2009, s 1038 could not apply to restrict expenses associated with the grant of a share option unless and until that option was exercised. (NB a fourth ground – that the deductions were denied or deferred by CTA 2009, s 1290 – was held not to apply).

HMRC appealed to the Upper Tribunal (UT) ([2019] UKUT 111 (TCC)), which agreed with the FTT that the IFRS 2 debits were a deductible trading expense and dismissed the appeal. The issues for the Court of Appeal principally concerned the construction and application of CTA 2009, ss 46, 48 and 54. The court reviewed recent case law, but found no reasons to reverse the decisions of the FTT and the UT. HMRC’s appeal was dismissed.

Fowler v Commissioners for Revenue and Customs [2020] UKSC 22

UK tax law ‘deeming’ provision could not be applied to interpret double tax treaty

The Supreme Court has overturned a Court of Appeal decision by finding that the income of a South African diver was employed income for the purposes of a double tax treaty (DTT), and UK domestic legislation in the form of ITTOIA 2005, s 15 could not be applied to alter the meaning of terms in the treaty.

The taxpayer was a qualified diver and South African resident who undertook diving engagements in the waters of the UK continental shelf in the tax years 2011/12 and 2012/13. The UK and South Africa are parties to a DTT, and the issue was which of them was entitled to levy income tax on the taxpayer during the relevant two-year period. It was common ground that if the taxpayer was self-employed, South Africa was entitled to tax him, but his employment status was disputed.

ITTOIA 2005, s 15 provides that seabed diving activities performed as employment duties are treated as the carrying on of a trade. HMRC maintained that the taxpayer’s income was taxable on the basis that it represented income from ‘an employment’ within article 14 of the DTT rather than business profits under article 7. The taxpayer contended that he was self-employed and exempt from tax, or alternatively that ITTOIA 2005, s 15 brought his income within article 7 which would allocate the right to tax him to South Africa.

The First-tier Tribunal (FTT) ([2016] UKFTT 234 (TC)) found for the taxpayer, concluding that his income from diving activities fell within article 7 by virtue of ITTOIA 2005, s 15. The Upper Tribunal (UT) ([2017] UKUT 219 (TCC)) agreed with HMRC on the assumption the taxpayer was employed, and overturned the FTT’s decision.

On appeal by the taxpayer, the Court of Appeal ([2018] EWCA Civ 2544) reversed the UT’s finding by a majority decision and reinstated the FTT’s ruling. HMRC appealed to the Supreme Court, which stated that the purpose of ITTOIA 2005, s 15 was not to decide whether qualifying employed divers were to be taxed on their employment income in the UK, but to adjust how that income should be taxed (specifically in relation to the deduction of expenses).

The Supreme Court considered that nothing in the DTT required articles 7 and 14 to be applied to the fictional, deemed world which may be created by UK income tax legislation. ITTOIA 2005, s 15 was a deeming provision which should not be applied so as to alter the meaning of terms in the DTT and render a qualifying diver immune from UK taxation. The appellant should be treated as a UK employee and subject to UK income tax in accordance with article 14 of the DTT. HMRC’s appeal was allowed.

Commissioners for Revenue and Customs v Sippchoice [2020] UKUT 149 (TCC)

Transfer to SIPP must be in money and not in specie to be a contribution ‘paid’

The Upper Tribunal (UT) has ruled that contributions to a self-invested pension plan (SIPP) were restricted to money payments in order to qualify for tax relief, overturning a decision by the First-tier Tribunal (FTT) that contributions could be made by a transfer of money’s worth.

The FTT ([2018] UKFTT 122 (TC)) was required to rule whether contributions made by four members of a SIPP were ‘paid’ within the meaning of FA 2004, s 188(2) and therefore qualified for relief from income tax at source as the respondent fund claimed.

The FTT focused on a claim for relief made by the respondent in respect of one of the four members (MC) on a contribution with a net value of £68,324 made by him to the SIPP, which comprised an in specie transfer of shares.

HMRC argued that the expression ‘contributions paid’ in FA 2004, Pt 4, Ch 4 should be given their natural meaning, which would require the tribunal to find it meant a ‘money payment’. Furthermore, there was no contract imposing a binding obligation on MC to transfer shares in satisfaction of a debt. There was only a mere promise to pay, so no debt existed.

The FTT considered that the parties intended to create legal relations and there was a clearly binding legal obligation on MC to make a contribution of £68,324. The FTT disagreed with HMRC’s view that the expression ‘contributions paid’ in FA 2004, s 188(1) must be construed as restricted to money payments.

HMRC appealed to the UT, which agreed with HMRC that ‘paid’ in FA 2004, s 188(2) must be construed as ‘paid in money’ in the context of FA 2004, Pt 4, Ch 4. Tax relief was therefore confined to cash contributions, including in satisfaction of a debt, even if the UT was wrong to find that transfers of non-cash assets made in satisfaction of pre-existing debts did not constitute ‘contributions paid’. The UT noted that HMRC’s Pensions Tax Manual (at PTM042100) contained passages that supported MC’s case, but considered that this carried little weight. HMRC’s appeal was allowed.

Commissioners for Revenue and Customs v Vermilion Holdings Ltd [2020] UKUT 162 (TCC)

Share option granted on condition recipient became a director arose from his employment with the company

The granting of a second share option to a company adviser which replaced an earlier one was an employment-related option because unlike the first it was conditional on his appointment as a director of the company.

An independent adviser (N) to the respondent company was granted a share option (the 2006 option) instead of fees. The company encountered financial difficulties, and a rescue package was agreed with investors. This was conditional on N becoming a director and executive chairman of the company, and the replacement of his previous option with a new and diluted share option (the 2007 option).

The First-tier Tribunal (FTT) ([2019] UKFTT 230 (TC)) found that the 2007 option was merely a replacement for the 2006 option and did not arise from N’s employment. HMRC appealed to the Upper Tribunal (UT), which found that the FTT had erred in law.

The FTT had failed to apply properly the guidance in the Court of Appeal decision of Wicks v Firth [1982] 1 Ch 355. Wicks stated that the phrase ‘by reason of employment’ in ITEPA 2003, s 471(1) must be given its ordinary meaning, and it was also sufficient that the fact of employment was a condition of the benefit being granted without being the sole or dominant cause.

The UT found that the FTT erred in finding that N’s directorship was not the causa for the grant of the 2007 option. The employment of N and the grant of the 2007 option were conditions for the rescue of the respondent company, and therefore N’s employment as a director by the respondent was a condition (albeit not the only one) of the granting of 2007 option. The 2007 option was therefore an employment-related share option for the purposes of ITEPA 2003, s 471, and PAYE and NICs therefore applied to its exercise. HMRC’s appeal was allowed.

Khan v Commissioners for Revenue and Customs [2020] UKUT 168 (TCC)

Company buy-back of shares was an income distribution to the selling taxpayer

A taxpayer’s purchase of shares and subsequent sale-back to the company were two transactions, not a single composite transaction, and the buy-back of shares was taxable as an income distribution to the taxpayer.

The three shareholders of a company wished to sell their shares. A deal was arranged whereby the taxpayer, who had been the company’s accountant, purchased the entire issued share capital (99 shares) and the company then bought back 98 shares from him. The transactions were documented separately, but they were both completed on the same day. The taxpayer planned to wind up the company within two to three years and benefit from any surplus on winding up and the short-term profits from trading.

In his submission to the First-tier Tribunal (FTT) ([2019] UKFTT 204 (TC)) the taxpayer advanced two arguments. The first was that the purchase and sale of shares in the company was a trading transaction and the disposal of shares amounted to a disposal of trading stock.

His alternative ground was that the entire deal was a single transaction whose effect was to place him as the owner of one share in the company at a small net cost. His liability to tax was on his net receipt of the single share.

HMRC disagreed, maintaining that the taxpayer’s purchase and the company’s buyback of shares were two separate transactions, each supported by their own documentation. The buy-back of shares was taxable as a distribution to the taxpayer.

The FTT found that the taxpayer’s acquisition and disposal of the shares was an investment, rather than a trading transaction, and agreed with HMRC’s submission. The taxpayer appealed to the Upper Tribunal (UT) using his alternative argument.

The sole ground of appeal before the UT was that the FTT erred in failing to recognise that there was a composite transaction whereby the appellant received the remaining share in the company in return for entering into the various transactions. The UT stated it was immediately apparent that the transactions were not simultaneous. The UT concluded that the taxpayer received the distribution and the tax charge rested with him. The taxpayer’s appeal was dismissed.

Pickles & Anor v Commissioners for Revenue and Customs [2020] UKFTT 195 (TC)

Excess paid for purchase of goodwill was an income distribution

The First-tier Tribunal (FTT) has decided that the excess paid by a company for the purchase of the goodwill of a partnership business over the assessed market value upon incorporation was a distribution taxable on the purchasers, but one FTT member delivered a dissenting view on the amount of the distribution.

The appellants (husband and wife) were partners in a business which they incorporated by selling the business and its assets to a company (HFPL) set up for the purpose. The goodwill was valued at almost £2 million at the time of sale and credited to the directors’ loan account.

The appellants omitted to declare their capital gain on the sale of the goodwill on their self-assessment tax returns for 2011/12. HFPL was later placed into administration and dissolved. None of the balance owing on the directors’ loan account of £427,180 was repaid.

The FTT was required to determine (i) the capital gain on the sale of the goodwill by the appellants to HFPL; and (ii) the amount of the distribution (if any) made by HFPL in the form of a transfer of assets or liabilities to the appellants for the purposes of CTA 2010, s 1020.

HMRC claimed that for the purposes of CTA 2010, s 1020 there was a distribution of £2 million when the goodwill was transferred. The appellants argued that on a proper reading of the sale agreement the goodwill was sold for ‘value’.

Following expert valuation advice, the FTT found the market value of the goodwill at the date of sale was £270,200. The tribunal judge noted the appellants received £771,863 cash from HFPL in relation to the sale of goodwill, which exceeded the market value by £501,663.

The sum of £501,663 was a benefit received by the appellants, and a distribution under CTA 2010, s 1020 on which they were required to pay income tax. The amount outstanding on the directors’ loan account of £427,180 was excluded. The appellants’ appeal was allowed in part.

The other member of the tribunal dissented, agreeing with HMRC that the amount of the distribution was £2 million. CTA 2010, s 1020 did not apply because it was a cash transfer that did not need to be valued. The FTT agreed that the case raised an important point on which the Upper Tribunal should provide definitive guidance, and gave HMRC permission to appeal.

Contract Services (Millenium) Ltd v Commissioners for Revenue and Customs [2020] UKFTT 175 (TC)

Employer could not provide evidence of employees’ reimbursement for private use of company fuel

An employer was careless to assume that company policy requiring employees to submit records on their private use of company fuel was being followed despite the absence of returns from the overwhelming majority of eligible staff.

The appellant company provided company cars and fuel to certain employees. These employees were entitled to use the fuel for private use, but were required to replace or pay for all fuel so used. HMRC found that the appellant had failed to declare employee benefits in respect of the employees’ fuel use over a period of five years, and issued decisions for National Insurance contributions (NICs) purposes for the tax years 2012/13 to 2016/17, together with penalties. The appellant appealed.

The First-tier Tribunal (FTT) was required to determine whether the appellant was liable to Class 1A NICs relating to any fuel benefit to the relevant employees, and whether the appellant had acted carelessly by providing inaccurate returns.

All the relevant employees except one (C) had failed to keep any records of their private mileage using fuel provided by the appellant. The appellant’s procedure for reimbursement in cash or in kind was reliant upon the relevant employees for information as to the private use of company-provided fuel, and the appellant kept no records of its own.

While the absence of records was not determinative in itself, the lack of evidence meant that the appellant was unable to establish on the balance of probabilities that the relevant employees (except C) either did not use company-provided fuel for private mileage or had reimbursed their employer/replaced the fuel at their own expense.

The appellant was wrong to assume that company policy was being followed despite the absence of fuel returns submitted by employees. It was therefore liable to the Class 1A NICs for all relevant employees except C. The tribunal confirmed the penalties, finding that appellant had acted carelessly in respect of all the employees except C. The appellant’s appeal was allowed in part.

Fiander & Anor v Commissioners for Revenue and Customs [2020] UKFTT 190 (TC)

Main house and annex linked by corridor were not multiple dwellings

A main house and an annex connected by a corridor were a single property and could not qualify for multiple dwellings relief (MDR) from stamp duty land tax (under FA 2003, Sch 6B).

The appellants acquired a property in April 2016 which consisted of a main house and an annex (a later addition), each with its own living accommodation and connected by a short corridor. The issue to be determined by the First-tier Tribunal (FTT) was whether the main house and annex were each ‘suitable for use as a single dwelling’ for MDR purposes as the appellants claimed.

HMRC argued that the annex was part of a single residential dwelling. Reasons included the fact that at the time of purchase the annex was not being used as a separate dwelling; there was free access between the annex and the rest of the property, with a consequential lack of privacy and security between the main areas; and the annex had no separate council tax or postal address.

The FTT agreed with HMRC. Unless occupied by a family member of those living in the main house, such as an older relative or grown-up child, the annex would not be suitable for individual use as a dwelling due to the insufficiency or privacy and security for occupants of both buildings. The main house and annex were too closely connected by the short corridor for either to be suitable for use as a single dwelling.

The tribunal rejected the appellant’s alternative argument that the main house and annex could be each be rendered suitable for single dwelling use by the simple expedient of installing a lockable door in the corridor. It would be wrong to reach an objective decision on suitability for use at the time of purchase on the basis that a new physical feature could be introduced (easily or otherwise) to enable a different kind of use. The appellant’s appeal was dismissed.

Budhdeo & Ors v Commissioners for Revenue and Customs [2020] UKFTT 193 (TC)

PAYE was recoverable from directors who knew company could not have paid it

Three company directors were held liable for PAYE which their company failed to deduct because they were in a position to know that the company was insolvent at the time and unable to pay the tax to HMRC.

The three appellants were all directors of IHL, a substantial company. When IHL went into administration on 4 December 2008, it was in arrears of £249,00 for PAYE and National Insurance contributions (NICs) and owed creditors £3.22 million. On the same day its business and assets were sold to another company (BVL).

HMRC issued assessments under TMA 1970, s 29 and the Income Tax (PAYE) Regulations 2003, reg 72, for two of the appellants (B and H) to recover unpaid PAYE that IHL should have deducted from their employment incomes in the tax year 2008/09. A closure notice was issued to the third appellant (M) under TMA 1970, s 28A to recover unpaid PAYE for the same tax year.

HMRC told the First-tier Tribunal (FTT) that P14 forms were issued with a leaving date of 8 December 2008. These reported the amount of earnings paid by IHL to all the employees, including the appellants, in the 2008/09 tax year along with details of PAYE and NICs. The income shown in the P14 forms must have been paid before IHL went into administration.

B and H filed income tax returns for 2008/09 claiming credit for PAYE income tax even though IHL had not accounted to HMRC for the relevant amounts. M filed a self-assessment return omitting earnings shown on the relevant form P14.

All three appellants claimed that no evidence existed that the relevant amounts were ever paid to them by IHL. BVL made funds available to them in the form of signing-on bonuses, and if any PAYE arose in respect of these it was a liability of BVL, not IHL.

The tribunal found that H and M were not credible witnesses, and B refused to provide a witness statement. The FTT did not believe their claim to have received signing-on bonuses, and had no hesitation in finding that the amounts shown in the relevant P14 forms were earnings from IHL. All the appellants would have known IHL was insolvent and could not have paid any of the PAYE or NICs shown in the P14 forms. The failure by IHL was ‘wilful’ because its directors (ie the appellants) knew that IHL would not account to HMRC for the PAYE due on those payments. The appellants’ appeals were dismissed.