Case: Deed of variation did not change tax consequences
 UKFTT 0338 (TC)
Judge Guy Brannan
Decision released 29 May 2019
Capital gains tax – disposal – sale of shares in companies owning rights to TV game show – Marren v Ingles-type contingent consideration to be paid in loan notes under original sale agreement – later Deed of Variation amended contingent consideration to payment in cash – whether receipt of cash a capital sum derived from asset (right to loan notes) within TCGA 1992, s. 22 or from original disposal of shares – closure notices referring to wrong shares – whether closure notices invalid – TMA 1970, s. 114 – appeals dismissed
Briggs & Ors  TC 07166
In 2006, the appellants (Messrs Briggs, Whitehill and Knight, together with the trustees of the Briggs Accumulation and Maintenance Settlement) sold shares in two UK-resident companies that owned valuable TV rights to 2 Way Traffic Holding BV (the Buyer) . The consideration included an immediate cash sum and the right to a further cash sum if litigation underway in the US was successful (the pass through payment or PTP). The further sum was to be satisfied by the issue of loan notes in the Buyer. In December 2012 the litigation was successfully concluded and substantial further amounts were due to the appellants. In May 2013, the appellants and the Buyer agreed that the PTP should be made in cash rather than loan notes and both parties entered into a deed of variation that varied the original share purchase agreement (SPA) by amending the relevant clause in the schedule dealing with the calculation and apportionment of the PTP. In June 2013 the appellants received their respective shares of the PTP in cash. In their 2006-07 tax returns, each appellant reported a gain attributable to the initial cash sum. HMRC opened enquiries into the 2013-14 returns and subsequently issued closure notices concluding that each appellant was liable for additional CGT in respect of the PTP received in 2013-14. The closure notices issued to two of the appellants referred to gains arising on disposals of shares in the wrong company.
The appellants argued that the deed of variation effected a minor variation of the SPA (which was 160 pages long) by simply amending one clause and therefore the source of the PTP was the SPA and the deed of variation did not give rise to a CGT disposal. This meant that the gain in 2006 (which was eligible for business asset taper relief, therefore CGT was payable at only 10%), originally computed by taking into account only the initial cash consideration, should be recalculated, also taking into account the value of the right to receive the PTP. This was on the basis that the PTP was not, in consequence of the variation, to be satisfied in loan notes and therefore TCGA 1992, s. 138A (which applies to rollover a gain where securities of one company are exchanged for a right to be issued for shares in another company whose value is unascertainable when the right is conferred) was not applicable. This had the further consequence that when the PTP was received in 2013, there was a disposal of a chose in action, giving rise to a gain or loss (in this case a loss) computed by taking the proceeds of the PTP in 2013 less its value in 2006.
Two of the appellants also argued that the closure notices were invalid because they failed to comply with TMA 1970, s. 28A by referencing the wrong company.
HMRC’s argument in relation to the PTP was that in 2006, the conditions in TCGA 1992, s. 138A were satisfied and that that section applied automatically unless the taxpayer elected to disapply it. None of the appellants had elected. Consequently, in relation to the earn-out element of the PTP, the appellants had made only a part-disposal of the shares in 2006 in return for cash consideration. The right to the PTP fell to be treated as the same asset as the shares not disposed of, with the same acquisition cost. This right was extinguished when the deed of variation was executed and there was a disposal under TCGA 1992, s. 22 (capital sums derived from asset). The capital sum derived from the PTP was the right to receive the cash sum. (An alternative view was that the capital sum derived from the PTP right was the cash payment received a few days later). In either case, the tax effect was broadly the same – a gain arose on the difference between the cash received and the remainder of the base cost of the shares that had not been apportioned to the part-disposal in 2006.
In relation to the closure notices, HMRC argued that the requirement of a valid closure notice in s. 28A(2) for the notice to state the officer’s conclusions and the amendment (if any) required had been satisfied or, alternatively that TMA 1970, s. 114 (errors not to invalidate assessments etc) applied to ensure the error did not invalidate the notice.
The FTT found that the appellants’ analysis of the tax treatment of the PTP was fundamentally flawed because it did not reflect what actually happened and ignored the existence of the right to loan notes. Even if the deed of variation did only operate to vary the terms of the SPA, as the appellants argued, this did not affect the question of whether or not the PTP right was an earn-out right within s. 138A, and the Tribunal was satisfied that it was. In addition, the cash payments received in June 2013 did not derive from the sale of shares under the SPA but from the PTP right, and were therefore a capital sum derived from that right. The Tribunal also pointed out that s. 138A was intended to provide relief in an earn-out situation so that tax was not payable before the proceeds were received but that a taxpayer could elect (by the 31 January next following the tax year in which the right was received) for this treatment not to apply. None of the appellants had done so, and it could not be right that a deed of variation could be used to achieve the same effect where the election had not been made within the time-limit as this would render the time-limit meaningless.
In relation to the closure notices, the FTT did not think that the requirements of s. 28A were exhaustive but it was not necessary to reach a conclusion on the point because s. 114 would apply to ensure the error did not invalidate the notice. The test (per R (on the application of Archer) v R & C Commrs  BTC 1) of whether or not a reasonable taxpayer would have understood the closure notice was satisfied. It was clear from the correspondence between the parties that there had been no misunderstanding and in fact the appellants’ accountants had immediately pointed out the clerical error to HMRC.
In this case, electing for the receipt of the earn-out right not to be treated as a reorganisation so that the gain was triggered immediately would have been beneficial because it secured business asset taper relief (abolished in 2008). Similar considerations may now apply in relation to entrepreneurs’ relief – and the entrepreneurs’ relief legislation also allows an election to be made to disapply reorganisation relief (TCGA 1992, s. 169Q) within the same time-limit as the election under s. 138A.
For commentary on the election to disapply reorganisation relief under s. 138A, see In-Depth ¶561-600.