A special commissioner decided that payments made in return for undertakings in a non-compete agreement fell within ICTA 1988, s. 313, which brought into charge to tax under Sch. E payments made before, during or after employment.

Facts

The taxpayer company was incorporated in 1992. The shareholders were D and his wife, each holding one £1 ordinary share. In 1999 the shares in the taxpayer were acquired from D and his wife by another UK company (E). D remained a director of the taxpayer after the acquisition. A service agreement between D and the taxpayer provided for an initial fixed period of employment of 24 months from December 1999 at a salary of £70,000 per annum plus provision of a company car. By a non-compete agreement of the same date, D was paid sums of £250,000 in or shortly after December and December 2001 in the years ended 5 April and 5 April 2002 respectively. No income tax or NICs were deducted when making payment of the said sums of £250,000. However subsequently a payment equating to basic rate income tax had been made to the Revenue. Liability for NICs on those sums was the issue on the appeal. E claimed relief under FA 1988, s. 73 in respect of the payments made by it under the noncompete agreement. D's tax returns for the year ended 5 April 2001 and for the year ended 5 April 2002 treated the sums received under the non-compete agreement as capital gains. In December 2001 the taxpayer and D entered an agreement, inter alia, providing for the employment of D for the 2002 calendar year at a salary of £75,000 per annum plus payment in lieu of providing a car.

Issue

Whether the sums paid as consideration under the non compete agreement fell within ICTA 1988, s. 313.

Decision

The special commissioner (J Gordon Reid QC) (dismissing the appeal) said that the commercial arrangements had to be considered as a whole. The various aspects of the transaction were all connected to one another. It was a package tied together and wrapped up by the execution of the various documents in December 1999. The sum of £500,000 was as much part of the overall arrangement as the salary of £70,000. The £500,000 could not, in the light of the terms of the documents, be regarded as part of the share price.

There was plainly a connection between the holding of D's employment past, present and future with the taxpayer and the giving of the undertakings contained in the non-compete agreement. He had been and continued to be the ‘key man’. He was about to enter into a service contract with the taxpayer. The giving of the undertakings in the non-compete agreement which restricted his business conduct and activities was certainly connected with the share purchase but it was also plainly connected with the employment he held and the new arrangements he was about to take up. The transaction would not have come to pass had D been unwilling to enter into the service contract and/or the non-compete agreement. Each restrained D's activities.

The non-compete agreement had immediate effect whereas the service agreement would only bite following termination of employment. The connection between the giving of the undertaking and the holding of the employment was not de minimis. The fact that the giving of the undertaking was also connected with something else was of no moment (Beak v Robson [1943] AC 352; 25 TC 33, RCI (Europe) Ltd v Woods (HMIT) [2004] BTC 285 and Vaughan-Neil v IR Commrs [1979] 1 WLR 1283; 54 TC 223 considered).

In all the circumstances, D gave, in connection with the employment he held or was about to hold with the taxpayer, undertakings in the non-compete agreement the tenor or effect of which was to restrict him as to his conduct or activities all within the meaning of ICTA 1988, s. 313. Sums totalling £500,000 were paid in respect of the giving of those undertakings. Those sums were chargeable to tax under Sch. E. By virtue of s. 4 of the Social Security Contributions and Benefits Act 1992, those payments fell to be treated as remuneration derived from an employed earner's employment for the purposes of s. 3 of that Act. Those payments were subject to National Insurance contributions including secondary Class 1 contributions. Liability for secondary Class 1 contributions fell on the secondary contributor, namely the taxpayer, by virtue of s. 6 and 7 of the 1992 Act.

(2007) Sp C 643.
Decision released 8 November 2007.