UK High Court (Chancery Division)

R & C Commrs v Xicom Systems Ltd [2008] EWHC 1945 (Ch)

Offset of costs against PAYE and NIC liability

The taxpayer dealt in mobile phones and was registered for VAT. HMRC rejected claims for rebate of over £2.3 million on the grounds that the rebate was not recoverable because the transactions giving rise to the claims were part of an overall scheme to defraud HMRC by means of missing trader intra-community fraud, in circumstances where the taxpayer knew or should have known that this was the case. The taxpayer appealed HMRC's decisions to deny the right to input tax.

The Tribunal issued directions in two appeals, and ordered that HMRC should pay the taxpayer's costs of one of the appeals as HMRC had been late in meeting the conditions of the Tribunal. In the intervening period, PAYE and national insurance contributions, for which judgment was given in the Reading County Court, were due by the taxpayer.

This case deals with a disagreement as to whether the order be set off against the county court judgment.

The High Court held that HMRC were entitled to set off their liability to the taxpayer under the order against the taxpayer's PAYE and NIC liability. A key reason in the decision was the taxpayer's lack of means for paying the County Court judgment against it. The High Court emphasised that “it cannot assume that orders for costs made in the future as a result of its tardy or inadequate conduct of the Tribunal proceedings will be treated in the same way.”

Special Commissioners

Halcyon Films LLP v R & C Commrs

Limited Liability Partnerships – film acquisition

The appellant was a limited liability partnership which carried on a trade or business which consisted of or included the exploitation of films, and in relation to that trade had claimed a loss in its tax return for the year to 5 April 2004 of over £14 million which it claimed it incurred in its accounting period ending on 5 April 2004. That loss comprised a claim for relief under the special provisions relating to expenditure incurred on films and a loss in computing profits arising by reason of the payment of fees to a company for film consultancy services.

HMRC issued a closure notice (carrying the incorrect date “2006”) amending the taxpayer's return by disallowing its claim to relief. The taxpayer appealed against that closure notice.

The issue between the parties was whether the restriction imposed by section 101 (that relief for qualifying expenditure on the acquisition of a film was available only in relation to expenditure on an acquisition by the producer of the film or directly from such a producer) applied only where relief under section 48 is claimed, or also where relief under section 42 is claimed.

The Special Commissioners decided that the taxpayer was not precluded from claiming relief for its acquisition expenditure in respect of the films. This decision was reached on the facts of the case, coupled with the legislative provisions – each of the Films had total production expenditure of less than £15 million (as required by s42). The Films were clearly all completed after 2 July 1997. Similarly, the expenditure was clearly incurred after that date. All the expenditure was incurred before 2 July 2005. Thus in principle, disregarding for the present the effects of section 101, the expenditure fell within section 48. However, the expenditure fell outside section 48 and, as a result, came back into (or remained within) the basic section 42 regime. This is in accordance with the construction of the provisions, and it gives a result which makes sense within the overall scheme of this legislation.

Key behind the decision was the purpose behind section 101 to counteract so-called “double dipping”, i.e. arrangements whereby the producer of the film or some other person obtains relief for production expenditure and a subsequent purchaser of the film obtains relief for his acquisition expenditure.

In relation to the deductibility of fees issue, it was decided that the fees incurred by the taxpayer were properly deductible in the calculation of the profits of the taxpayer's trade for the purposes of its tax return for the tax year ended 5 April 2004. While the greater part of the fees were invoiced after 5 April 2004, the taxpayer wrote off the fees in the period in which the Films were acquired in accordance with UK GAAP.

Singh v R & C Commrs

Neglecting to declare rental income

The taxpayer was in business as a haulage contractor, and had been trading since 1999. HMRC opened an enquiry into his 2002/2003 tax return. In a letter sent to his then accountant, various questions were raised about his business accounts, largely it seems because there was a certain lack of information and documentation. When the information was eventually supplied there was an assertion that no income had been omitted from the return.

HMRC had third party information which indicated that the Appellant had an undisclosed source of income, i.e. the letting of a property. The taxpayer's accountant provided details of the rental income to HMRC. In addition to assessing tax and interest in respect of the undeclared rentals, the Inspector proposed to impose a penalty on the ground that there had been neglect on the part of the Appellant. In accordance with the relevant law, it was not in dispute that it was for the Crown to demonstrate negligent conduct on the part of the taxpayer, but once that had been done, it was then for the Appellant to prove that the level of penalty was excessive.

It was the taxpayer's only initial contention that the penalty should have been set at 15%, rather than 30% of the additional tax. His argument for this was the consistent treatment of other taxpayers in similar situations – he made reference to a politician's spouse who had been charged penalties at 10%.

It was contended on behalf of the Revenue that:

• the manner in which the penalty had been calculated was fair and in accordance with HMRC's standard procedures, proceeding initially on the basis that there had been neglect, which had not been disputed until the opening of the hearing;
• the 10% penalty offered to the offshore account holders was only given in return for voluntary disclosure.

The Special Commissioner dismissed the taxpayer's appeal on the adjustment of the penalty. Given that the Appellant had denied the existence of the income on a number of occasions and did not confirm the receipt of rental income until about 18 months after the commencement of the enquiry, it was the Special Commissioner's view that the reduction in penalty had been generous.

Sempra Metals Ltd v R & C Commrs

Payments to employee benefit trusts

Employee bonuses were paid to a newly established employee benefit trust (EBT). This money was then available to the employees as loans. The EBT was replaced with a family benefit trust (FBT) which was similar to the EBT except the beneficiaries included family of employees.

Revenue contended that payments to the EBT and FBT were “potential emoluments” and so not deductible for corporation tax purposes (until such time as the potential becomes an emolument).

It was decided that the payments were “potential emoluments” and hence not deductible. Key to this decision was that the trustees could use the funds not only to pay emoluments but also to make payments that were not emoluments.

Snell v R & C Commrs

Tax Advantage

The taxpayers had for many years been directors and the sole shareholders of a building company in which they held all the issued shares, holding 500 each. The company was a house builder and Mr S looked after the management of the building works while Mrs S looked after the administration. The taxpayers each gave one share in the company to one of their two sons in 1999 and they hoped their sons would take over the business one day.

The taxpayer was concerned that if he and his wife simply passed their shares to their sons they might, in these litigious times, be passing them liabilities as well as assets if a former customer sued the company for some defect in a property. The taxpayers were advised by their solicitor that it would be possible to transfer the business to a new company is such a way as to avoid the new company taking on such contingent liabilities. As a result of the tax effects of this transaction, the taxpayers’ accountant advised on a tax efficient means of transferring the company.

The sales of their shares by the four members of the family were transactions in securities and the taxpayers obtained a tax advantage in consequence of those sales. Hence the taxpayers had to show that the transactions were carried out for bona fide commercial reasons and that none of those transactions had as their main object or one of their main objects to obtain a tax advantage.

It was the case that one of the objects of the sale of the shares was to obtain a cash payment for the taxpayers which gave them a tax advantage and the sole issue in this appeal was whether that can be said to be one of the main objects of the sale.

The Special Commissioner held that the sale of the shares were transactions carried out for bona fide commercial reasons. These sales were part of the overall transaction which had the effect of securing the continued operation of a successful business in the context of the desire of the owners and managers of that business to retire but to enable the business to continue. However, it was held that one of the main objects of the sale was the tax advantage. The value of the transaction as a whole (about £1.4 million) and the cash payment (£100,000) compared with the issue of preference shares for £1,300,000 was not considered a correct test for reaching an alternative conclusion – it was the actions of the taxpayers, i.e. they sought to obtain the maximum allowable cash from the transaction.

It was interesting to note from the case that the fact that the owners of the business did not then immediately retire was immaterial.

VAT and Duties Tribunals

Quarriers

This is an appeal by the taxpayer (a registered Scottish charity) against a decision of HMRC dated to the effect that the proposed construction of a new building (an epilepsy assessment centre) would not qualify for zero rating.

The supply, in the course of construction of a building intended for use solely for a relevant charitable purpose, of services related to the construction were zero-rated – use for a relevant charitable purpose means use by a charity otherwise than in the course or furtherance of a business.

HMRC concluded that the works were not for a relevant charitable purpose, because the supplies to be made at the new epilepsy assessment centre, would, according to HMRC, be by way of business activities.

The Tribunal allowed the taxpayer's appeal. The basis for the decision was that the intended use of the proposed new epilepsy centre would not in any real sense be a trading or commercial activity which might justify it being described as “economic” or a use in the course or furtherance of a business.

In reading the report, one cannot help but wonder if HMRC's contention arises from EU influence on the UK tax system.