Tribunal rescues Humpty Dumpty
Tribunal rescues Humpty Dumpty
Tax Consultant Elfed Evans-Jones discusses a recent dispute resolved by the tax tribunal system.
Tax advisers have become used to working in a “Through the Looking Glass” world where nothing is as it seems. In that world, H M Revenue & Customs (“HMRC”) is perfectly cast as Humpty Dumpty when it applies the dictum, “When I use a word, it means what I choose it to mean – neither more nor less” to its interpretation of tax legislation.
This often leads to disputes between HMRC and taxpayers which are ultimately resolved by the tax tribunal system – either the First Tier Tribunal (“FTT”) or the Upper Tier Tribunal (“UTT”). When HMRC “suffers a great fall” by losing the argument before these judges, it frequently resorts to calling on “All the King’s horses and all the King’s men”, in the form of Members of Parliament, to come to the rescue by changing the law to agree with HMRC’s view.
Sometimes, in this topsy turvy world, HMRC wins a tribunal case which it is universally expected to lose. This happened recently in the case of the Skinner family, the three relevant members of which – Ludovic, Rollo and Bruno – all sound as if they had just walked in from the pages of The Rutshire Chronicles.
This particular case concerned an area of the Capital Gains Tax (“CGT”) legislation now known as Business Asset Disposal Relief (“BADR”) but formerly known as Entrepreneurs’ Relief (“ER”). This provides for a lower CGT rate of 10% on certain disposals of business interests or business assets.
There are several different versions of this relief but the one that was relevant to this case was that relating to the sale of company shares by a trust.
Put simply, a trust is a legal arrangement for protecting family assets by separating the ownership of an asset from the use of the asset or the income derived from it. One group of people (known as “trustees”) own the asset while another individual or group of individuals (known as “beneficiaries”) are entitled to use the asset or receive the income from it.
To qualify for ER on a sale of shares, a trust must have a beneficiary with a right at the time of sale to receive the income from the shares being sold. That “qualifying beneficiary” also has to pass two tests. He (or she) has to have held at least 5% of the shares and votes in the company, in his/her own right, for more than a year (now extended to two years) and also to have been a director of the company for more than a year (also now two years). There is nothing in the legislation to say that a qualifying beneficiary has to have held an income interest in the trust’s shares for any minimum period.
In the Skinner case, Ludo, Rollo and Bruno all qualified as 5% shareholders and directors of more than a year’s standing. The family trustees gave each of them an income interest in a discrete block of family company shares held by the trust. Four months later, the trustees sold all of these shares making a capital gain on which they claimed ER.
HMRC refused the claim on the grounds that the three qualifying beneficiaries should have held their income interest in the trust shares for more than a year (this would now be two years) and not for a mere four months. This was based on HMRC, in true Humpty Dumpty fashion, imposing its choice of what the legislation meant rather than observing what it actually said.
It was HMRC’s view that Parliament had intended to impose a twelve-month holding period for the income interest in the shares even though the law didn’t say so. HMRC’s view is also inconsistent with there being no minimum period for the trustees to own their shares and no minimum ownership period for an individual selling personally held shares.
The courts will usually interpret an Act of Parliament by looking at the plain, ordinary meaning of the words used. They will not examine the intention of Parliament beyond what is conveyed by those words.
The Skinner family appealed against HMRC’s ruling to the tribunal and the FTT found in their favour. HMRC, however, appealed to the UTT where the judges were more sympathetic. They believed that an examination of other parts of the legislation and other material could support HMRC’s argument and decided the appeal in HMRC’s favour. In the view of the judges, they did not need to consider resulting inconsistencies arising elsewhere.
Humpty Dumpty was thus restored to his position high on the wall looking down on the rest of us – at least for the time being – but we may not have seen the last of the Skinner case. Cases where the FTT and the UTT have disagreed, especially where the reasoning of the UTT appears to be flawed, are often appealed to the Court of Appeal. This legal version of VAR may yet find HMRC’s case to be “offside”. In the meantime, tax advisers need to be aware of the Skinner decision in planning for BADR on trust assets.
For further information about BADR you should get in touch with Elfed Evans-Jones