This case considered whether expenditure incurred in settling legal proceedings and associated legal costs arising from the appellant setting up in business in competition with a former employer was expenditure wholly and exclusively for the purposes of the trade (duality of purpose consideration).

Background

The taxpayer worked for a large recruitment consultancy firm which he left to set up his own consultancy business. When he left he took with him details of his employer's clients which was subsequently found to be in breach of his contract of employment. His former employer took action against him as a result of which he agreed to pay £100,000. He also incurred legal costs of £15,354.70.

In his self-assessment tax return for 2007-08 the taxpayer declared the trading income from his business as a recruitment consultant and also claimed relief for the £100,000 paid to his former employer together with his legal costs in defending the claim by them.

HMRC opened an enquiry into that self-assessment return and issued a closure notice amending the self-assessment so as to disallow the expenditure referred to above. HMRC had concluded that the expenditure was not incurred wholly and exclusively for the purposes of the taxpayer's trade.

There then followed a statutory review as a result of which HMRC upheld the decision to refuse relief. The taxpayer appealed this decision.

Decision

The issue facing the FTT was whether the expenditure incurred was allowable. In particular was the expenditure incurred wholly and exclusively for the purposes of the taxpayer's trade as required by section 34 Income Tax (Trading and Other Income) Act 2005.

The taxpayer had argued that he incurred the expenditure in order to preserve his business, and on this basis the expenditure should be deductible against his profits. However, HMRC contended that the sum paid was at least partly referable to his breach of contract. As such there was duality of purpose and the expense was therefore not incurred wholly and exclusively for the purposes of his trade.

On the basis of their findings of fact, the FTT concluded that the payment was a global settlement relating to both admitted and non-admitted breaches of contract as well as removing the threat of 'springboard relief' and releasing the taxpayer from any future restrictions.

The payment of £100,000 and the legal costs incurred had two purposes: one to preserve the business which, on its own, would have been wholly and exclusively for the purposes of the trade; the other to defend and settle the proceedings including the claim for damages for breach of contract and breach of fiduciary duty. Those claims arose out of the taxpayer's contract of employment.

The FTT did not consider that on any view the second purpose could be described as merely an effect of preserving the business. It was part of the reason the expenditure was incurred. In particular, the decision reached was nothing more than recognition of Lord Brightman's judgment in Mallalieu v Drummond in relation to purpose and effect. For these reasons the appeal was dismissed.

The full text of the case is available at http://www.financeandtaxtribunals.gov.uk/judgmentfiles/j7321/TC02799.pdf