HMRC wins appeal in Smith & Williamson 'goodwill payments' tax case

The Upper Tribunal (UT) has upheld a determination by HMRC that ‘goodwill payments’ made to a partner at Smith & Williamson constituted income, and was therefore liable for income tax and national insurance contributions (NICs)

The ruling comes after HMRC appealed an earlier ruling in which Patrick Smiley, an investment management partner at Smith & Williamson, and the firm, contested HMRC’s decision at the First Tier Tribunal.

UT judge, Mr Justice Warren made note in his ruling of the structure of the mid tier firm – SWCS is a company within the NCL Smith & Williamson group along with another company, Smith & Williamson Investment Management Ltd (SWIM).

The group embarked on a strategy to increase the funds under management of SWIM, its investment management arm.

Smiley was employed by SWCS (as were the members of a team who had worked with him at Butterfield Private Bank (Butterfield)) under a contract of employment following acceptance of an offer of employment on 21 August 2005; and by a separate contract with SWIM, Mr Smiley and other members of his team agreed to deliver to SWIM his client relationships for what has been described as a ‘goodwill Payment’ (the payment).

Mr Justice Warren flagged up the point that there was not, in 2006, a single contract with the entire team or with Smiley as agent for his team. Instead there was a letter dated 16 November 2006, addressed to Smiley, setting out that he was to receive a share of the payment.

The judge held that the two contracts were derived from a single objective – the transfer of Butterworth clients – and from a single arrangement.

Referring to Smiley’s employment contract signed on 17 March 2006, he said: ‘The terms of the employment as set out in the offer letter, included employment as a ‘Director’ of SWCS and payment (as found by the Judge) of a market rate salary (ie, in line with existing employees of a similar level and seniority) and payment of a commercially competitive discretionary bonus. The Employment Contract itself was on standard terms save for somewhat tougher restrictive covenants.’

The FTT, he said, had attached too much weight to the fact that there were separate contracts and that they were independently negotiated.

The Judge also concluded that the FTT had wrongly attached importance to the parties’ perceptions that the team held an asset (namely the client connections) of which they could dispose.

In the case of a payment not by the employer (SWCS here) but by a third party (SWIM) it was right to see whether the payment was motivated by a desire to see that the employee enters into or continues in the employment of another.

The Judge concluded that the evidence established that the payment was a reward to the team for introducing the Butterfield clients to SWIM and procuring, or assisting in procuring, the transfer of those clients to SWIM. The team therefore provided a service. It was not right to describe what the team did as ‘the transfer of rights to exploit client connections’.

The Judge considered that the power the team had to turn their relationships with clients to accounts was not to be equated with goodwill.

The right to exploit which the FTT seemed to have identified was not the right to sell the customer portfolio, a right which belonged to Butterfield; it was not the right of ownership of the assets or of the right to manage the assets.

‘In my judgment, the evidence establishes that the Payment was a reward to the Team for introducing the Butterfield clients to SWIM and procuring, or assisting in procuring, the transfer of those clients to SWIM. In other words, as Ms Wilson [HMRC counsel] puts it, the Team provided a service. I do not consider that it is right to describe what the Team did as “the transfer of rights to exploit client connections,”’ Mr Justice Warren said.

Therefore the client connections did not provide a separate source of income and Mr Justice Warren concluded that the payment arose from the employment of the team by SWCS.

HMRC’s appeals in relation to both Mr Smiley and SWCS were therefore allowed.

CCH tax commentator, Julie Clift said: It appears that the FTT decision of this case was unreported but as the UT quotes extensively from the FTT it presumably was meant to have been made public. Whilst the decision in the UT was long, the Judge’s actual conclusions were expressed quite shortly.

‘He held that the FTT’s reasoning did not justify the ultimate conclusion that it reached. Quite simply, the payment in question was a reward to the team for introducing the clients to SWIM and as such arose from the employment of the team by SWCS. It followed that the payments were therefore liable to income tax and NICs.’

The judgment is here

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