The Court of Appeal held that dividends paid to a wife who worked for a company which she owned jointly with her husband (‘the taxpayer’) were not income arising under a settlement as defined in s. 660G(1) of the Income and Corporation Taxes Act 1988, so that they were not to be treated as the income of the taxpayer within s. 660A. It would be an unjustified extension of the scope of the settlement provisions for a commercial venture such as that in issue to be brought within their scope.

Facts

The taxpayer, who worked in the field of information technology, provided his services through a company which he jointly owned with his wife. As the shareholders of the company the taxpayer and his wife agreed that the company would pay them salaries which would meet their basic needs and that any profits would be distributed as dividends. It was the taxpayer as director who decided whether to declare the dividends.

The Revenue took the view that the dividends were income arising from a settlement, comprising the wife's share in the company, within the meaning of ICTA 1988, s. 660G and that that income should be treated as the income of the taxpayer as settlor of that settlement as a result of s. 660A(1). The taxpayer appealed against assessments for the years 1996–97, 1997–98 and 1998–99 on the ground that the dividends were not income arising from a settlement of which the taxpayer was settlor. The special commissioners dismissed the taxpayer's appeal, agreeing with the Revenue that the settlement provisions applied and that the exclusion for outright gifts by one spouse to another in ICTA 1988, s. 660A(6) did not apply ((2004) Sp C 432). The taxpayer appealed contending that the corporate structure was not an arrangement, but, even if it was, it fell within the outright gift exclusion in s. 660A(6) and was excluded from the description of a settlement. The Revenue argued that the corporate structure whereby the taxpayer was responsible for earning all the income of the company, from which he drew only very small remuneration but which paid substantial dividends, half of which went to the wife on her 50 per cent interest in the company, was an ‘arrangement’ within s. 660G(1) and therefore ranked as a settlement for the purposes of s. 660A. The High Court dismissed the appeal, holding that, since the structure of the company was an ‘arrangement’ within s. 660G(1), it ranked as a ‘settlement’ for the purposes of s. 660A and s. 660A(6) did not apply to exclude the arrangements as being an ‘outright gift’ by him to his wife ([2005] BTC 306). The taxpayer appealed to the Court of Appeal.

Issue

Whether there was a settlement within the statutory definition in s. 660G(1); and if so, whether there had been an outright gift by the husband to the wife within s. 660A(6) so as to be excluded from the operation of s. 660A(1).

Decision

The Court of Appeal (Sir Andrew Morritt V-C, Keene and Carnwath L JJ) (allowing the appeal) said that the question of whether there was a settlement within the statutory definition depended on identifying the relevant arrangement and ascertaining whether at the time it was made it involved the element of bounty required by IR Commrs v Plummer [1980] AC 896. The key word in the statutory definition of settlement was ‘arrangement’. In the context of this case it should be possible to identify income arising from the arrangement and the property comprised in the arrangement, for otherwise the terms of s. 660A(1) could not be satisfied. In addition the arrangement had to contain an element of ‘bounty’, variously described as ‘a taxpayer gives away a portion of his income, or of his assets’, ‘a flavour of donation’ or ‘the recipient benefits without any assumption by him of any correlative obligation’.

In this case there was no doubt that the arrangement was or included the acquisition by the wife of her share in the company. That acquisition on its own was for full value in the context of a joint business venture to which both parties made substantial and valuable contributions. If the arrangement was confined to such acquisition then it could not constitute a settlement for the purposes of s. 660G(1). It made no difference that the arrangement also included the corporate set-up whereunder the taxpayer held the other share and was the sole director so that he controlled the company both at board level and, through the chairman's casting vote, in general meeting. The corporate set-up was no more ‘bounteous’ than the acquisition by the wife of her share.

The ‘bounty’ on which the Revenue necessarily relied was that provided subsequently and in fact by the combination of the demand and charge-out rate for the services of the taxpayer, the salary in fact paid to the taxpayer, the other commitments of the company and the dividend subsequently declared and paid by the company to the wife. All those additional elements depended on the will of the taxpayer or extraneous factors and could not be included in the ‘arrangement’.

They did not form any part of a structure of things or combination of objects; their uncertainty and fluidity was the converse of an arrangement. It was not that they were not legally enforceable, they were not settled at all. Without those elements there was no element of bounty and no settlement within the statutory definition (Crossland (HMIT) v Hawkins (1960) 39 TC 493, Mills v IR Commrs (1974) 49 TC 367, Butler (HMIT) v Wildin [1988] BTC 475; 61 TC 666, Copeman (HMIT) v Copeman (1939) 22 TC 594, IR Commrs v Payne (1940) 23 TC 601 and Young (HMIT) v Pearce [1996] BTC 322 distinguished).

The payment of modest salaries to the taxpayer and his wife was not part of the arrangement. Similarly the declaration of the dividends was not arranged in advance; it was dependent on the trading fortunes of the company. Further, the fact that the structure being set up might lend itself in the future to some tax mitigation was irrelevant to the existence of an element of bounty. Accordingly, there was no settlement as defined, s. 660A(1) could not apply to the dividend received by the wife and the assessment under appeal was discharged.

Outright gift

On that view the second question did not arise but, on the assumption that there was a settlement, what constituted the ‘settlement’ was not an ‘outright gift’ at all. There was far more comprised in that arrangement than would be covered by the expression ‘an outright gift’ in s. s. 660A(6). The arrangement would not include any element which could, even taken in isolation, be regarded as an outright gift. The taxpayer did not give to his wife her share. On the findings of the special commissioners she purchased it from the company formation agents, and paid for it with her own money, albeit only £1. If s. 660A(6) otherwise applied then it is not excluded by para. (6)(b) because the share as an item of property was more than just a right to income.

Court of Appeal (Civil Division). Judgment delivered 15 December 2005.