Group relief for losses of foreign group companies

The Marks & Spencer (M&S) case has been around for a few years now and has been covered in previous issues of tax.point, the last case being before the Upper Tribunal which was covered in the July 2010 issue. The case has resulted in a number of hearings before both the UK National Courts and the European Court of Justice (ECJ) and concerns the availability of group relief for foreign subsidiary losses.

The current case was brought to the Court of Appeal by both HMRC and the taxpayer who appealed against the decision of the Upper Tribunal (2010 UKUT 213 TCC) relating to the availability of group relief for the losses of non-resident subsidiaries and the quantification of such group relief. The Court of Appeal delivered its judgment on 14 October 2011.

Background

The facts of the underlying case were the following.

M&S submitted a claim for group relief in respect of the surrender of losses of its foreign subsidiaries (in France, Germany and Belgium). The case was referred to the ECJ to determine whether the UK group relief rules (which only allowed relief for losses incurred in UK tax resident entities to be set against UK taxable profits) were contrary to EU law. The ECJ held that the exclusion from the UK loss relief regime, of losses incurred by an EU subsidiary, did constitute a restriction on the freedom of establishment provisions but that in some cases such restrictive UK provisions were nevertheless justified.

The UK government and others put forward three justifications for the exclusion of foreign losses and it was held that the exclusion of non-resident subsidiaries from the group relief provisions did pursue legitimate objectives. However, the ECJ had to consider whether the total exclusion of relief was a proportionate response. The ECJ ruled that the UK group relief provisions went beyond that which was necessary to attain the legitimate objective.

The UK rules were contrary to EU law to prevent the UK parent company from claiming group relief where the EU subsidiary had exhausted the possibilities available in its home territory for offsetting the losses in the current accounting period and also for previous accounting periods. Also, the provisions went too far where there is no possibility for the EU subsidiary's losses to be taken into account in its country of residence for future periods either by the subsidiary itself or by a third party, in particular where the subsidiary has been sold to that third party.

The case reverted to the UK High Court and then the Court of Appeal for consideration of the correct interpretation of the ECJ judgment before returning to the First-tier Tribunal for determination of the “no possibilities test”.

HMRC appealed the decision of the First-tier Tribunal to the Upper Tribunal and the subsequent judgment of the Upper Tribunal was appealed by both HMRC and the taxpayer (M&S) before the Court of Appeal.

Issues

The issues before the Court of Appeal were as follows:

• Whether the “no possibilities test” was to be applied at the end of the accounting period in which the losses crystallised or at the date of claim.
• Could sequential claims be made by the same company for the same losses of the same surrendering company in respect of the same accounting period?
• Where a surrendering company had losses which could be utilisied or could not be, did the no possibilities test preclude the transfer of that proportion of the losses which it had no possibility of using?
• Did the principal of “effectiveness” require the taxpayer to be allowed a reasonable period to make fresh ‘pay and file’ claims?
• What was the correct method of calculating the losses to be transferred?

Judgment

• No Possibilities Test

The court in the current case was bound by its previous decision and held that it was not open to depart from the previous decision that the question whether the ‘no possibilities’ conditions are satisfied is to be answered by reference to the facts as at the date of claim.

• Sequential claims

The difficulty for the Court in this case is that M&S made a series of group relief claims in relation to the losses and if the ‘no possibilities’ test is applied at the time of each claim, it is possible that a different answer will arise.

HMRC's objection was that the taxpayer should not be permitted to delay making a claim until it can satisfy the ‘no possibilities’ test and, accordingly, should not be permitted to withdraw earlier claims, which do not satisfy that test. Reaching the same decision as the Upper Tribunal, the Court of Appeal held that once it is acknowledged that a claim may be delayed from the accounting period in which the losses claimed actually crystallised to the end of the time for making a claim, there can be no reason not to permit a series of claims being made.

The court ruled that M&S is permitted to make successive claims to the same loss and rely on the claim which satisfies the criteria, and then withdraw any earlier claims to the same surrendered losses.

• If any part of a loss may be used does that preclude a claim to the part which satisfies the test?

HMRC appealed against the Upper Tribunal's decision that the ‘no possibilities’ test is to be applied on a euro by euro basis so that at the time the claim is made the criteria may be fulfilled even if a proportion of the losses do not satisfy them. Adopting that approach, the Upper Tribunal concluded that once liquidation had commenced, at the time of the second and subsequent claims, the ‘no possibilities’ test was satisfied “to the extent that losses could not be utilised against income arising in the normal course of the liquidation process.”

In this case, the court considered that once it is accepted that the assessment of the criteria involves a factual question based on the factual position of the subsidiaries which suffered the losses, it seems that the absurdity of excluding all losses simply because one euro of loss may be used should be avoided. The Court of Appeal agreed with the conclusion of the Upper Tribunal and dismissed HMRC's appeal on this issue.

• Principal of effectiveness

Agreeing with HMRC, the court held that the principle of effectiveness is concerned with vindicating, not creating a right. The Upper Tribunal had concluded that the principle of effectiveness has no application when a claimant seeks an opportunity to bring about a state of affairs which would create new rights which the claimant did not already have. At the time the claims were made, M&S did not satisfy the ‘no possibilities’ test and thus could not have satisfied the conditions within the time limits provided in domestic law. Without such right, the principle of effectiveness could not be invoked to create a new right subsequently.

The court considered that at the time M&S made its claim to the losses, it had no community law right to make such a claim. The prohibition against such a claim was lawful because M&S did not satisfy the conditions identified by the ECJ.

The court held that the Upper Tribunal was correct and the ‘pay and file’ claim in respect of subsidiary company is time-barred.

• Quantum of Losses

The parties had agreed the underlying figures for the losses which satisfied the ‘no possibility’ test, but they could not agree the amounts which were eligible each year for group relief, principally because of the different tax systems.

The Upper Tribunal concluded that in relation to different calculations of losses/profits in jurisdictions, which were nothing to do with timing differences, any disadvantage that results from the operation or conjunction of different national tax systems, does not contravene Community law.

The court in this case considered that the application of “method E” by the First-tier Tribunal and the Upper Tribunal was correct in principal. Inherent in this method was that group relief can only be claimed for the amount of local losses; the method is of re-allocating losses to periods for which they arise for UK tax purposes and does not result, overall, in a group relief claim being available for an amount in excess of the losses for which reallocation is being sought.

The court held that this method did not result in a group relief claim for an amount more than could be claimed were the subsidiary to have been resident in the UK. The re-allocation of losses to a different period in the UK is merely the result of the application of UK tax law. HMRC's appeal on this point was dismissed.

The full text of the case is available at http://www.bailii.org/cgi-bin/markup.cgi?doc=/ew/cases/EWCA/Civ/2011/1156.html&query=group+and+losses&method=boolean