The High Court upheld a decision of the special commissioners and dismissed an appeal by the taxpayer against a charge to capital gains tax (CGT) on the redemption of loan stock where, on the evidence, the exchange of shares for loan stock formed part of a scheme or arrangements one of the main purposes of which was the avoidance of liability to CGT.

Facts

The taxpayer owned 91 per cent of the shares in a company which he exchanged for three different types of loan stock in December 1996. In April 1997 he emigrated to the Isle of Man, after which he became non-resident and not ordinarily resident in the UK for tax purposes. He then redeemed the loan stock. When he failed to declare the gain on the disposal of the shares in his 1996–97 tax return, the Revenue issued an amendment to include a sum in respect of CGT on the gain.

The taxpayer appealed to the special commissioners arguing that by virtue of TCGA 1992, s. 135, the gain had to be deferred until the loan stock was redeemed and so would not be chargeable to UK tax because he was not resident in the UK when the loan stock was redeemed. The Revenue contended that s. 135 did not apply as the taxpayer did not satisfy the two limbs of s. 137 which provided that s. 135 did not apply to any issue by a company of its shares or debentures in exchange for, or in respect of, shares in or debentures of another company unless 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 commissioners determined that the exchange by the taxpayer of his shares in the company for the three separate classes of loan stock to the aggregate value of £6,580,000 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’. Accordingly they concluded that TCGA 1992 s. 135 and s. 127–131 did not apply with the consequence that the taxpayer was liable for CGT in the additional sum of £2,634,586 together with interest ((2006) Sp C 532). The taxpayer appealed from the second of those conclusions and Revenue and Customs from the first.

Issue

Whether s. 137 of TCGA 1992 prevented the application of s. 135 under which the gain which would otherwise have arisen at the time of the exchange was deferred until redemption of the loan stocks.

Decision

Was the share exchange effected for bona fide commercial reasons?

Warren J (dismissing the appeal and the cross-appeal) said that the purpose of s. 137 was to limit the application of s. 135 and 136. Sections 132–134 applied s. 127–131, with modifications, to the conversion of securities. There was no suggestion in any of those provisions that the reason for the reorganisation or conversion, as opposed to its genuine occurrence, was relevant to the enjoyment of the relief for which s. 127 provided.

Sections 135 and 136 applied those provisions to exchanges of securities, whether involving a scheme of reconstruction or amalgamation or not, in which more than two persons were involved. In such circumstances it was necessary for the exchanges to be for commercial reasons if the new and the old holdings were to be treated as the same. But if there was appropriate identity and value commensurate with bona fide commercial reasons, there was no reason why Parliament should have been concerned with whether the same result might have been achieved by some other legal form or means. That was particularly so when the same subsection introduced a non-avoidance test by reference to the scheme or arrangements as a whole. That conclusion was confirmed by the wording of the subsection. The question was whether ‘the exchange in question is effected for bona fide commercial reasons’. If the answer was in the affirmative it was irrelevant to consider the reasons why the parties chose to structure their transaction in that way. Accordingly, the Revenue's cross-appeal would be dismissed.

Was the exchange 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 ordinary meaning of the word ‘scheme’ was ‘a plan of action devised in order to attain some end’. Similarly an arrangement was ‘a structure or combination of things for a purpose’ (see the Shorter Oxford English Dictionary). Accordingly unless the taxpayer had the purpose of becoming non-resident as at 21 December 1996 so as to link the acceptance of loan notes on that day with their redemption when non-resident after 5 April 1997 there could not be a relevant scheme or arrangement for the purpose of s. 137. There was no misdirection and the evidence was more than sufficient to justify the inference that the special commissioners drew. If that was the scheme or arrangements then a main purpose was, subject to a point of construction on which the taxpayer relied, the avoidance of a liability to CGT for there could have been no other. Thus there was no reason to remit the matter to the special commissioners to find further facts.

Section 137 was concerned with the terms on which a liability to CGT might be deferred. It provided for a right of deferral to be lost if it was to be used for the purpose not of deferral but of avoidance altogether. If that was a main purpose of the scheme or arrangements it mattered not whether the scheme, etc. was formed for purposes of tax mitigation, avoidance or indeed evasion. The plain fact was, as the special commissioners had recognised, that the main purpose of the scheme was the avoidance of a liability to CGT. The essential point was that the word ‘liability’ in s. 137(1) could not be limited to an actual liability. By definition such a liability could not be avoided, only evaded. Accordingly the liability to CGT had to include a contingent or prospective liability. It might be that the context in which the phrase was used could limit its ambit in relation to prospective liabilities. However, in a context, such as this, where liability might be deferred on certain conditions, there was no reason to restrict the ambit of the word ‘liability’ so as to exclude that which had been deferred. Accordingly, the exchange was part of a scheme or arrangements of which a main purpose was the avoidance of liability to CGT.

Chancery Division.
Judgment delivered 21 December 2006.