Our monthly round-up of the major tax cases, includes Keyl on AIA, CGT and the Wildin sale, beneficial ownership in Watson and the Interfish win at the Court of Appeal, while wider tax matters focus on the first Barclays tax transparency report and HMRC's direct recovery of debt powers under fire at CIOT debate
In the case of Keyl v Revenue & Customs  UKFTT 493 (TC) Mr Keyl was a self-employed air conditioning engineer trading as Changing Climates. His accountants drew up sole trader accounts for the accounting year to 31 March 2009, but not for any period after that date. Keyl incorporated a company called Changing Climates Ltd (CC Ltd) and transferred the business as a going concern, with the first accounting period of the company being from 1 April 2009 to 31 March 2010.
Keyl claimed entitlement to annual investment allowance (AIA) in connection with the purchase of a new van in July 2008. HMRC denied the claim.
Section 38A of the Capital Allowances Act 2001 (CAA 2001) provides that AIA qualifying expenditure must be incurred by a qualifying person on or after 6 April 2008. Expenditure will not be AIA qualifying expenditure if it is excluded by s38B CAA 2001. General exclusion 1 under s38B reads as follows: ‘The expenditure is incurred in the chargeable period in which the qualifying activity is permanently discontinued.’
For present purposes, s6 CAA 2001 defines ‘chargeable period’ as the period for which accounts are drawn up for the purposes of the trade. Both Keyl and HMRC agreed that the chargeable period was the year ended 31 March 2009.
HMRC considered that Keyl’s self-employment business was permanently discontinued in the year ended 31 March 2009, whereas he submitted that the business continued after 31 March 2009, relying in particular on the maintenance and warranty work that he continued to do in his own name.
Alternatively, Keyl submitted that if the trade was permanently discontinued it was not until CC Ltd commenced trading on 1 April 2009 and therefore not in the year ended 31 March 2009.
The First Tier Tribunal (FTT) referred to the case of Sethia v John (1947) 28 TC 153 and found that by Keyl transferring his business as a going concern to CC Ltd, while retaining trade debtors and continuing with his maintenance and warranty obligations to customers, he had permanently discontinued his trade as an air conditioning engineer as what he retained was not the same trade. Instead, Keyl had created a new trade of maintaining systems and dealing with warranty claims.
The tribunal did not accept the alternative argument that the trade was permanently discontinued on 1 April 2009, finding instead that it was intentionally discontinued to coincide with the end of the chargeable period as no accounts were produced for any period after 31 March 2009.
The FTT concluded that Keyl did permanently discontinue his trade in the year ended 31 March 2009 and was therefore not entitled to AIA in that chargeable period.
Case report: Chinyanga centres on rental payments and contracts
Stembile Chinyanga v Revenue & Customs  UKFTT 516 (TC) concerned Mrs Chinyanga, a majority shareholder and a director of a child care business called Professional Support & Development Ltd (PSD). PSD decided to expand its business and create a nursery on the ground floor of a property. Birmingham Midshires bank refused to lend to PSD for the property purchase so Chinyanga bought the property personally with a mortgage from Birmingham Midshires, and from January 2008 let the ground floor to PSD and the upper floor to another tenant.
A written agreement was entered into providing a yearly rent of £18,500 with monthly payments of £1,542. This agreement was never adhered to, with PSD paying more than the stipulated rent in earlier years and less in later years.
PSD ran into financial difficulties and in April 2009 PSD and Chinyanga agreed that the company would pay what it could afford and that it would not be required to make good any shortfall between the payments it did make and those set out in the January 2008 agreement. PSD paid sufficient money each month to ensure that, after taking into account the payments made by the upper floor tenant, Chinyanga could just cover the mortgage payment and any other recorded expenses of the property, so each month she broke even.
HMRC assessed Chinyanga on the basis that her property income should include the full amount of rent shown as payable by PSD in accordance with the January 2008 written agreement. It said that any amount unpaid could only be deductible under the bad debt rules under s35 of the Income Tax (Trading and Other Income) Act 2005 (ITTOIA 2005). Chinyanga appealed.
The FTT found that the agreement between the parties was not reflected by the written agreement, with the real agreement being that PSD would pay an amount such that in cash terms Chinyanga would break even each month, and after April 2009 this was amended so that PSD was only required to pay what it could afford.
The amount accruing and due for each relevant period was the amount actually received in that period. On this basis, the tribunal allowed Chinyanga’s appeal.
Case report: McLaren racing denied tax deduction for £32.3m fine
The Upper Tribunal in R & C Commrs v McLaren Racing Ltd  UKUT 0269 (TCC) has overturned a FTT decision on trading expenses in McLaren Racing Ltd  TC 02278 determining that a penalty of £32.3m paid by McLaren Racing Ltd for breaching sporting regulations was not wholly and exclusively laid out or expended for the purposes of McLaren’s trade, and as such was not an allowable deduction for tax. McLaren derived its income from sponsorship, advertising and receipts arising from a share of revenues from the commercial exploitation of broadcasting rights and other commercial activities. By entering the 2007 F1 World Championship, McLaren was bound by the International Sporting Code (ISC) of the Federation Internationale de l’Automobile (FIA).
McLaren’s chief designer received detailed plans and design information about Ferrari cars from an employee of Ferrari, a rival F1 team. This breached the terms of the ISC and, as a result, all McLaren’s points in the 2007 championship were deducted, leading to the loss of its share of broadcast and other revenues. The FIA also fined the company £32.3m.
In determining whether the penalty was ‘wholly or exclusively laid out or expended for the purposes of the trade’ under s74 (a) of the Income and Corporation Taxes Act 1988 (ICTA 1988), the Upper Tribunal considered whether ‘cheating’ was a part of McLaren’s trade and found it was not. It also dismissed McLaren’s argument that, even if cheating was not a part of its trade, the expense should be tax deductible because it was caused by the actions of an employee.
Even if the penalty was expended wholly and exclusively for the purposes of the trade, it would still not satisfy the statutory requirement
McLaren not only paid the penalty to avoid being excluded from the World Championship but also because it had engaged in conduct that was not in the course of its trade.
As such there was a duality of purpose and the expenditure failed the wholly and exclusively test in s74 (a) ICTA 1988.
In addition, the Upper Tribunal concluded that, even if the penalty was expended wholly and exclusively for the purposes of the trade, it would still not satisfy the statutory requirement. This was because the nature of the payment was such to prevent its deductibility, namely that it was designed to punish McLaren for a breach of the ISC.
It also ruled that s74 (a) ICTA 1988 was the relevant section to consider because the penalty was an ‘expense or disbursement’ and not a ‘loss’ to which s74 (e) ICTA 1988 applies. Even if this was not the case, the penalty would still not be deductible because the s74 (e) loss would not be connected with or have arisen out of the trade.
Case report: Interfish decision upheld by Court of Appeal
The Court of Appeal has upheld the Upper Tribunal decision which looks at the deductibility for corporation tax purposes of £1.2m paid by a group of companies to sponsor a struggling rugby football club in Interfish Ltd v Revenue and Customs  EWCA Civ 876.
Interfish had made a number of sponsorship payments to a local rugby club which was struggling for a few years. It claimed relief for these amounts against its trading profits. HMRC denied the claim on the basis that they were not incurred wholly and exclusively for the purposes of Interfish’s trade under what was then s74(1)(a) of the Income and Corporations Taxes Act 1988 (since rewritten as s54(1)(a) of the Corporation Tax Act 2009).
The Upper Tribunal determined that the expenditure did not qualify for deduction because there was duality of purpose
The FTT found in favour of HMRC and Interfish appealed to the Upper Tribunal. The company argued that although the payments had the immediate purpose of benefitting the club, they were made in order to achieve the ultimate objective of benefitting Interfish. As such, the benefit to the club should be seen as merely consequential and incidental to the benefits enjoyed by Interfish.
The Upper Tribunal determined that the expenditure did not qualify for deduction because there was duality of purpose, and therefore it was not wholly and exclusively laid out or expended for the purposes of Interfish’s trade.
On further appeal, the Court of Appeal upheld the decision of the Upper Tribunal, dismissing Interfish’s argument that it had a single purpose, that of promoting Interfish’s business among supporters of the rugby club and that the benefit to the rugby club was purely incidental to that main purpose.
Case report: CGT applied only to beneficial ownership in Watson
In the case of Watson v Revenue & Customs  UKFTT 613 (TC) Mrs Lorna Watson was in partnership with her husband operating from freehold land which was included in the accounts as a partnership asset. Due to ill health, she retired from the partnership in 1998 and the business was continued by Mr Watson as a sole trader.
In 2005, the land was sold with the contract for sale being signed by both Mr and Mrs Watson as beneficial owners.
The sales proceeds were paid into a joint account and later used to purchase a farm, with the farmhouse, yard and a paddock, which was registered in the sole name of Mrs Watson while the remainder of the land was registered in the sole name of Mr Watson.
Mrs Watson’s 2005–06 return included a capital gain for the sale but claimed roll-over relief in respect of the farmland. HMRC rejected the claim and amended her self-assessment on 16 September 2010.
On 28 January 2011, Mr and Mrs Watson executed an ‘agreement’ which included a declaration by Mrs Watson that, when she retired from the partnership in 1998, she retained no interest in the business or the partnership assets.
On appeal to the FTT, Mrs Watson argued that it had been the ‘common intention’ of Mr and Mrs Watson that, when she retired from the business in 1998, she would assign her share in the partnership to him and that he would continue to operate the business and its assets as a sole trader. If such a common intention existed then it had to be shown that Mr Watson had ‘significantly altered his position in reliance to that common intention’.
The Tribunal accepted the fact that Mr Watson took no steps to wind up the business and continued to trade as a sole trader for a further seven years as evidence that he had significantly altered his position in reliance to that common intention.
As such, despite the fact that legal title to the land was in joint names when sold, Mr Watson had beneficial ownership of the whole of the land and Mrs Watson was merely a bare trustee for her husband.
On this basis, the tribunal allowed the appeal accepting that Mrs Watson had parted with her beneficial ownership to her husband in 1998 and, therefore, could not have made a disposal in 2005.
Wildin wins CGT appeal over goodwill valuation of firm
In an appeal against a closure notice, the FTT determined that in the case of Graham Wildin, centred on the valuation of an accountancy practice, valuing goodwill on the basis of a multiple of gross recurring fees is a more accurate method of valuing professional firms.
In Graham Michael Wildin  TC 03586  UKFTT 459 (TC), the taxpayer, Wildin, set up his own accountancy practice in July 1981 and incorporated the practice on 1 April 2003.
Valuations of the practice goodwill were therefore required at 31 March 1982 and at 1 April 2003 for capital gains purposes. The questions at stake were the appropriate methodology to be adopted, the amounts of the respective fees and multiples to be applied.
HMRC argued that the valuation should start with a ‘whole practice’ valuation from which should be deducted the value of the net assets of the practice. However their view was that this ‘whole practice’ or ‘total practice’ value was arrived at by the application of a multiple to gross recurring fees.
Wildin, presenting his own case before the tribunal, maintained that the normal method of valuing accountancy practices was simply to apply a multiple to the gross recurring fees; the net assets did not enter into the calculation at all.
The tribunal rejected HMRC’s arguments; it disagreed that there was any necessary link between the net assets of a professional firm and the value of its goodwill, indeed anomalies could result if HMRC’s approach was adopted.
It held that taking the ‘client book’ (ie, gross recurring fees) as proxy for the value of goodwill is a reasonable and more accurate method of arriving at a goodwill valuation for capital gains tax purposes for professional firms.
Having determined the appropriate methodology to be adopted, the FTT went on to consider the multiples and figures of gross recurring fees to be taken into account.
Wildin had proposed a multiple of 3.5 for 1982 as against HMRC’s 1.0. On the evidence presented, the tribunal slightly favoured HMRC and applied a multiple of 1.65. It also upheld Wildin’s claim that his accounts for the year to June 1983 were the best estimate of the figure of gross recurring fees at 31 March 1982.
In the case of the 2003 valuation, the tribunal accepted Wildin’s multiple of 1.5 and his figure of gross recurring fees.
Harra defends extending HMRC powers at CIOT debate
At a heated CIOT debate on the extension of HMRC powers, tax advisers objected strongly to plans to introduce new powers for HMRC to collect unpaid tax, with particular antipathy to the proposed direct recovery of debt (DRD) proposals, which they claim have simply been dusted off and resubmitted after they were rejected by the last government six years ago, reports Sara White.
Jim Harra, HMRC director general for business tax, mounted a strong defence of the plans and refuted claims that the measures represented a power too far. ‘Our powers are subject to extensive safeguards and we need to ensure that they are used proportionately. As we get more effective at tackling boundary pushers, if we think we need more powers we will ask for them,’ said Harra.
There is a lack of trust in HMRC’s ability to identify and calculate the correct tax for the identified non-payer, as well as questions over redress methods and safeguards for taxpayers
‘The DRD is the most controversial power we are consulting on and accelerated payments is a game changer, particularly for those holding out until decisions are taken in long-running cases and those that are hoping that HMRC will not get around to investigating a scheme.
‘The move reflects the expectations of the public. Some of the objections are reasonable, but some of the objections are just fanciful. I think we can be trusted with the powers we are given.’
A lack of trust in HMRC’s ability to identify and calculate the correct tax for the identified non-payer, as well as questions over redress methods and safeguards for taxpayers were the key issues for opponents of the system.
At the same time, the lack of debate and scrutiny of new tax law left advisers fearing that the new powers would be poorly written into law in the rush to push through the measure.
Opposing the perceived power grab, James Bullock, head of the litigation and compliance group at Pinsent Masons said that DRD was a real concern for the profession: ‘This runs the risk of going against the constitution. In our view the powers over self assessment [introduced from the 1990s] were fair and are underpinned by the scrutiny of tribunals so in essence the checks and balances are there. The GAAR and modernising the tax system is also reasonable.’
Harra said the DRD scheme was a way to collect unpaid taxes from tax evaders who ‘simply refuse to engage with the system and will not pay their bills, even though they have the funds available’, equating DRD to the PAYE system, where companies deduct tax and national insurance for employees at source.
However, Bullock said that the new accelerated payment system is ‘egregious, forcing taxpayers to pay up before the case goes to tribunal. It’s a distraction to put these people in a position as if they were in PAYE’, he added. ‘It will catch a compliant regular taxpayer if they have invested in a scheme which is in DOTAS – this is retrospective legislation.
‘The third provision is a strict liability offence if people hold an overseas account – we naively assumed there would be a penalty and maybe the individual would be put on a blacklist,’ said Bullock. ‘But that the offence should carry a prison sentence – I am particularly worried about this,’ he added.
There was strong objection to the 14-day limit for immediate payment once the nine‑letter warning system was exhausted. There were calls for an extension to 30 days, which Harra said would be considered. Many also said that the powers were unnecessary as HMRC can already use the county court system to recover tax debts.
DRD is expected to recover £100m in tax debts in the first year if it comes into effect in 2015 as expected.
Barclays first to publish country by country tax transparency report
Some of the disclosures about the amount of tax Barclays pays in respect of the countries where it does business appear normal but others could raise questions, says Penny Sukhraj.
In its first country-by-country snapshot report of its global tax compliance, Barclays detailed the profit it generated, tax paid and subsidies received in jurisdictions where it has significant business.
Worldwide the bank paid £830m of corporation tax (CT) in 2013 (excluding withholding taxes) making its global cash tax rate 29%. When Barclays included other taxes paid, the total comes to £3,374m in 2013.
It paid the highest CT in South Africa (turnover of £3,202m) where the banking group owns nearly two thirds of household brand Absa Bank and employs over 31,000 staff. It also paid the highest amount of VAT here at £58m.
In Mauritius, where it operates corporate banking businesses and where profits are taxed at rates up to 15%, the bank paid £1m in tax on turnover of £66m. Barclays employs 841 staff in this here. In Guernsey, on turnover of £52m, it paid £4m in CT. Here the bank employs 115 staff.
In Luxembourg, where Barclays employs just 14 staff members, the bank reported a £1,389m turnover and paid £20m in CT
In Ireland, where Barclays has 134 staff, it paid £3m in total tax comprising £1m in social security and £2m in CT on £61m turnover.
In the UK headquarters, Barclays reported £18,953m turnover, paid £1,425m in total tax, including £55m in CT and £440m in VAT. Its bank levy in the UK – charged on the funding it raised to support its global businesses – was £421m, but the bank noted this did not equate to the accounting accrual of £504m. The UK staff count is 54,595.
The banking group’s second largest turnover came from activities in the US at £5,869m. Profit before tax was £703m while total tax paid was £301m and corporation tax was £215m.
In Luxembourg, where Barclays employs just 14 staff members, the bank reported a £1,389m turnover and paid £20m in CT.
But it also noted that while Luxembourg continued to be an important location for investment banking, its operations are changing due to closure of the structured capital markets unit last year and it expects 2014 turnover to be significantly lower. It also said that Luxembourg tax was not paid on the majority of profits due either to the offset of existing tax losses or as a result of dividends being exempt from tax.
Barclays outlined a set of principles governing its approach to tax in February 2013. At the time it said that its planning around tax would ‘only support genuine commercial activity’.
‘It must comply with accepted custom and practice and be of a type that tax authorities would expect; and we will only undertake it for customers and clients sophisticated enough to understand its risks. In short, all our activity relating to tax must be consistent with our purpose and values.
‘Tax influences decisions about how we organise and run our business, and about where we base our operations or hold assets.
‘When tax is a factor in deciding where or how we do business, we ensure there is genuine substance to the activity we conduct in each country,’ Barclays added.
About the authors
Tax updates by Sharon Khin, solicitor and tax writer; additional reporting by Penny Sukhraj and Sara White