European Court of Justice

Test Claimants in Class IV of the ACT Group Litigation v IR Commrs (Case C-374/04)

This ECJ case was part of a group litigation concerning advance corporation tax (“ACT”). Four cases brought by the Pirelli, Essilor, BMW and Sony Groups in relation to the refusal of the Inland Revenue to grant a tax credit in respect of dividends received by non-resident companies from resident subsidiaries, were chosen by the UK High Court as test cases to the ECJ.

The ACT system in the UK was abolished in April 1999.

The ECJ said that dividends paid by a company to its shareholders might be subject to both a series of charges to tax and to economic double taxation. It was for each Member State to organise, in compliance with Community Law, its system of taxation of distributed profits.

In the UK, there was a difference in treatment between resident companies receiving dividends and non-resident companies receiving dividends as regards the ability of those companies to pay dividends to their ultimate shareholders under rules which entitled those shareholders to a tax credit equal to the fraction of the corporation tax paid by the company which made the distributed profits – only resident companies might do so.

In order to avoid distributed profits being taxed both by the Member State in which the distributing company was resident and by that of the company receiving them, each of the Double Taxation Conventions concluded by the UK provided for an allocation of taxing powers between that Member State and the other contracting State.

The ECJ ruled:

• The freedom of establishment and the freedom of movement of capital do not prevent a Member State (UK), on distribution of dividends by a company resident in that State, from granting companies receiving those dividends which are also resident in that State a tax credit equal to the fraction of the corporation tax paid on the distributed profits by the company making the distribution, when it does not grant such a tax credit to companies receiving such dividends which are resident in another Member State and are not subject to tax on dividends in the first State.
• The freedom of establishment and the freedom of movement of capital do not preclude a situation in which a Member State does not extend the entitlement to a tax credit provided for in a double taxation convention concluded with another Member State for companies resident in the second State which receive dividends from a company resident in the first State to companies resident in a third Member State with which it has concluded a double taxation convention which does not provide for such an entitlement for companies resident in that third State.

For further details, see page 33.

UK Court of Appeal

Foulser & Anor v MacDougall (HMIT [2007] EWCA Civ 8

Capital Gains Tax: hold-over relief

This UK Court of Appeal case deals with an extraordinary capital gains tax avoidance scheme involving the disposal of shares by husband and wife in a UK resident company to an Isle of Man resident company by gift of the shares in the UK company to two UK companies, and using four other Isle of Man companies, two Isle of Man settlements, two insurance bonds and an Irish life assurance company in the structure.

In general the disposal of shares will result in a charge to capital gains tax. Relief may be claimed in respect of “the held-over gain” (section 165 TCGA 1992) for certain gifts. However, that relief is restricted in the case of gifts to companies where the transferee is a company controlled by a person who is neither resident nor ordinarily resident in the UK, and is connected with the person making the disposal.

At the time of the gift, the shares in the UK companies were held by the Irish life assurance company, therefore it was concluded that the transferee companies were controlled (i.e. share ownership) by a person who was neither resident nor ordinarily resident in the UK.

The key issue in this case was whether the Irish life assurance company which controlled the two UK resident companies was connected with the persons disposing of the shares. According to UK legislation, any two or more persons acting together to secure or exercise control of a company were treated in relation to that company as connected with one another and any person acting on the directions of any of them to secure or exercise control of the company. On the basis that the taxpayers and the Irish company acted together to secure control of the two UK companies, it was held that they wereconnected persons and hence hold-over relief would not apply.

The taxpayer appealed to the Court of Appeal (on a new point, which was accepted by the Court) on the wide application of the meaning of connected with. The taxpayer was of the view that the meaning accepted at the Special Commissioners and in the High Court should have been limited to the legislative references before it and not taken as a stand-alone provision. This was dismissed by the Court of Appeal.

In addition, the taxpayer had appealed to the High Court (and subsequently to the Court of Appeal) on the compatibility of the hold-over relief with EU law in relation to the right of establishment. This was discharged by the Court of Appeal on the basis that the High Court Judge should not have allowed the point to be introduced at that stage.

To conclude, the decision of the Special Commissioners which had been appealed to the High Court and the Court of Appeal, remains.

On the basis that there is no equivalent hold-over relief in Irish tax legislation, the decision in this case should not have any relevance in Ireland. However, the discussion on the meaning of connected with may be useful. For further details, see page 34.

Chancery Division

St Helen's School Northwood Ltd v R&C Commrs [2006] EWHC 3306 (Ch)

VAT – Apportionment of Input Credit

This case considered whether the standard method of calculating the applicable input tax deduction and the special method proposed by the taxpayer each resulted in a fair and reasonable attribution, and if so, whether the proposed special method was a fairer and more reasonable alternative.

The taxpayer was a school that constructed a sports complex at a cost of £2.6m. It licenced the complex to a subsidiary for out-of-school use. It applied for a partial exemption special method (based on number of hours let over hours used by the taxpayer) which gave a VAT recovery rate of 54 per cent. The standard partial exemption method based on the proportion of taxable income to total income produced a recovery rate of one per cent.

It was held that the standard method produced a fair and reasonable apportionment which reflected the economic use of the sports complex. Further, the standard method produced an allocation which was more fair and reasonable.

The reason for this decision was that, for VAT purposes, the provision of an exempt supply of education was the principal use of the sports complex and the taxable supply of the licence to its subsidiary was a secondary use. Consequently, any method of allocation between the exempt and taxable supplies made by the taxpayer had to reflect that use.

For further details, see page 36.

Baxi Group Ltd v R & C Commrs [2006] EWHC 335 (Ch)

VAT – Input Credit on Single Supply

This UK case considered whether the promotion scheme of the taxpayer represented a single supply of marketing services and so the taxpayer was entitled to treat all VAT paid to the marketing company supplying the service under the scheme as input tax.

The taxpayer was the representative member of a VAT group, one member of which manufactured domestic heating boilers. The taxpayer operated a bonus scheme, which allowed the installers of the boilers to earn points which could be converted into goods. The taxpayer engaged a marketing company to administer the scheme. The taxpayer argued that the marketing company had made a single supply of marketing services and that the VAT charged was deductible as input tax. The Revenue argued that either the goods were supplied directly from the marketing company to the installer; or there was one supply from the marketing company to the taxpayer company and another supply from the taxpayer to the installer.

It was held in the Chancery Division that the scheme constituted a single supply of marketing services so that all the VAT paid to the marketing company delegated to run the scheme could be deducted as input credit.

There were two key issues in the decision: ownership of the goods and the supply from an economic point of view:

• As the marketing company owned the goods and the contractual arrangements did not empower the taxpayer to dispose of the goods as if it were the owner, there was no supply of goods by the marketing company to the taxpayer.
• Under art. 2(1) of the Sixth Directive, every supply of goods or services had normally to be regarded as distinct and independent, and supplies were not to be artificially split. As neither EU nor UK legislation contains provisions dealing with the proper fiscal treatment of mixed supplies, case law was examined. If a supply, from an economic point of view, was a single supply, it should not be artificially split. In this present situation, the marketing services were not economically dissociable from the provision of goods but a mechanism without which the provision of the goods could not achieve its purpose.

For further details, see page 37.

Snell v R & C Commrs [2006] EWHC 3350 (Ch)

Anti-Avoidance/Capital Gains Tax

This UK case considers the anti-avoidance element of the “share-for-share” legislation, i.e. the exchange, reconstruction or amalgamation in question was effected for bona fide commercial reasons and did not form part of a scheme or arrangements one of the main purposes of which was avoidance of CGT or corporation tax.

The taxpayer owned 91% of the shares in a company which he exchanged for three different types of loan stock in 1996. In April 1997 he emigrated to the Isle of Man, after which he became non-resident and not ordinarily resident in the UK. He then redeemed his loan stock.

The Special Commissioners determined that the exchange by the taxpayer of his shares for three separate classes of loan stock was ‘effected for bona fide commercial reasons’, but that such exchange did ‘form part of a scheme or arrangements of which the main purpose, or one of the main purposes, [was] the avoidance of liability to capital gains tax’. The Revenue appealed against the first conclusion and the taxpayer appealed against the second.

The High Court dismissed the appeal and the cross-appeal.

In the appeal by the Revenue, the key issue was whether the transaction (i.e. the exchange of shares for three different classes of loan stock) was carried out for bona fide commercial reasons and, not the reason for the appellant choosing loan stock rather than cash.

In the appeal by the taxpayer, the legislation provided for a right of deferral to be lost if it was used for the purpose not of deferral but of avoidance altogether. There was a discussion on the meaning of ‘scheme’ and ‘arrangement’. It was concluded that there was sufficient evidence to justify the inference by the Special Commissioners that the main purpose was the avoidance of a liability to capital gains tax. The essential point here was that the word ‘liability’ could not be limited to an actual liability. Accordingly, the exchange was part of a scheme or arrangements of which the main purpose was the avoidance of liability to CGT

It is likely that this decision will be appealed to the House of Lords.

This case should have relevance for Ireland as subsections 3 of Section 586 and Section 587, Taxes Consolidation Act 1997 are similarly worded.

For further details, see page 38.

Special Commissioners

AB (a firm) v R & C Commrs

Wholly & Exclusively

In this UK Special Commissioners decision, costs and disbursements paid out by a firm of solicitors in respect of a personal litigation of one of its partners (with the firm acting for that partner) were deducted in computing its taxable income.

The Special Commissioners decided that the sums which had been deducted were not payments wholly and exclusively laid out for professional purposes of the firm and so were not deductible in computing its taxable income.

While the distinction between furthering the business interests of the firm on the one hand and the essentially private purpose of the partners on the other could be a fine line, it was decided that the payment of costs by the firm was not made for the purposes of enabling the firm to earn the profits of the firm, it was made to discharge a personal liability of the partner.

This case is distinguished from the McKnight v Sheppard case ([1999] BTC 236) where the taxpayer, a stockbroker, incurred legal expenses in defending himself against disciplinary charges brought by the UK Stock Exchange. On the basis that the expenses were

incurred not merely to avoid or mitigate the fines, but to protect the taxpayer from suspension or expulsion, it followed that they were incurred wholly and exclusively for the purposes of his profession, provided the expenses were not incurred to preserve his personal reputation. In this decision, it could not be said it was in the interests of the firm to conduct the litigation – it was personal liability of the partner.

On the basis that Ireland has similar legislation to the UK, this decision may have relevance for Ireland.

For further details, see page 40.

Nason v R & C Commrs

Deductibility of AVCs

In this Special Commissioners decision, it was decided that additional voluntary contributions (AVCs) made by a taxpayer in excess of 15% of his salary in a particular tax year, where there were no ‘carry back’ provisions, were not deductible for income tax purposes.

The key issue in this case was that the taxpayer had stopped paying AVCs for about a year and a half as a result of administrative issues surrounding his pension scheme. When he resumed making AVCs, he made payments representing the months he had missed together with current monthly payments. As a result he made AVCs in excess of 15% of his salary in that year. Also, there were no ‘carry back’ provisions. The taxpayers appeal had to be dismissed.

On the basis that, in Ireland, since February 2003, the carry back of contributions is restricted, the lessons from the above case should be borne in mind.

For further details, see page 41.

VAT and Duties Tribunals

Pret a Manger (Europe) Ltd

Supply of cold food

The appellant carried on business selling food to take away or consume in areas it controlled. The dispute concerned whether supplies of cold food, such as sandwiches and fruit selected by customers from displays, were zero-rated or standard rated as supplies of catering.

The tribunal allowed the company's appeal. The key issue related to where the food was eaten – in the designated seating areas or to take-away. The taxpayer conceded that food put on a tray for consumption in its designated areas was standard-rated. It was concluded at the Tribunal that there was no supply of catering in relation to sandwiches and other cold food sold for consumption outside the identified premises – there were no supplies of food for consumption on the premises in which the food was supplied.

For further details, see page 44.