Taxpayer loses £1m ‘Excalibur’ scheme appeal

A taxpayer claiming £1m in tax relief in respect of a £1m capital loss arising from investment in the ‘Excalibur’ tax scheme has lost his appeal at an Upper Tribunal, opening the way for HMRC to reclaim an estimated £155m in tax from other scheme members

Adrian Kerrison was one of a number of participants in the Excalibur scheme, which was designed and promoted by Premier Strategies Limited (PSL). In his tax return for 2006-2007 he claimed relief of £1,083,984 in respect of a capital loss of £1,102,655.

In 2011 HMRC issued a closure notice in which it concluded that the claims should be denied and that that one of the transactions, a loan waiver, gave rise to a charge to income tax on the amount waived.

Kerrison appealed that decision to the First-tier Tribunal (FTT), which dismissed the appeal against the refusal of his claims to a capital loss and to relief against income tax in respect of that loss, but allowed his appeal against HMRC’s conclusion that the loan waiver was subject to income tax.

The case then went to the Upper Tribunal [Adrian Kerrison and the Commissioners for Her Majesty’s Revenue and Customs, [2019] UKUT 0008].

Scheme operation

Under the scheme, which was designed to create an allowable capital loss that could then be used against income under ITA 2007, s. 131 (previously ICTA 1988, s574), Kerrison subscribed for 20 £1 shares at par in an Isle of Man company (Broadgate) that then acquired a small retail trade called Flower Emporium, and a few days later sold the shares for £24 to an unconnected company (Braye) that was also granted a put option to sell the shares back to the appellant within 30 days for fair value plus 9.1%.

Braye then used borrowed funds of £155,269,464 (guaranteed by Broadgate) to increase the value of the Broadgate shares by subscribing for one further share at a substantial premium. The put option was exercised and the appellant paid £1.1m (also funded by borrowing) to Braye to buy back the shares. Braye used the proceeds to repay its borrowings.

As the acquisition took place within 30 days of the previous disposal the two transactions were matched for capital gains tax purposes (TCGA 1992, s106A) and a capital loss of around £1.1m arose.

Using the funds raised by the issue of the share at a premium, Broadgate then established a British Virgin Islands (BVI) subsidiary, Broadgate Group Holdings Ltd that loaned money back to Kerrison interest-free (enabling him to repay his borrowings), and the BVI company then waived its loan to the appellant. Kerrison later gave his Broadgate shares to charity such that no gain nor loss arose (TCGA 1992, s257).

HMRC challenge

It was common ground that the scheme had no commercial purpose and that it was solely designed to create a capital loss which could then be set off against the appellant’s income for income tax purposes.

HMRC challenged the scheme on five grounds:

  1. that the sale to and repurchase of the shares from Braye fell to be disregarded under TCGA 1992, s139A (the ‘repo rules’) so no loss arose;
  2. that if a loss did arise, the value-shifting rules in TCGA 1992, s30 would reduce it to nil;
  3. that Ramsay principles prevented the scheme from achieving its intended effect;
  4. that any capital loss could not be relieved under s131, either because Broadgate was not a qualifying trading company or, alternatively, because the disposal to Braye was not by way of a bargain made at arm’s length for full consideration; and
  5. that the loan waiver was analogous to a dividend and gave rise to an income tax liability under ITTOIA 2005, s687.

The Upper Tribunal looked first at Kerrison’s appeal in relation to the second point, which centred on the material increase or reduction in value of an asset.

TCGA 1992, s30(1) applies where there has been a material reduction in the value of an asset and a tax-free benefit is conferred. In this case the value of the Broadgate shares had increased. However, if the disposal of the asset precedes its acquisition, s30(1) applies instead to a material increase in value (s30(9)).

The Upper Tribunal agreed with the FTT that the acquisition that should be considered was the repurchase by the appellant of the shares, not the original subscription (which preceded the disposal, therefore s30(9) would not have applied) because this was the relevant acquisition that achieved the undoubted aim of the scheme, hence s30(9) did operate to substitute ‘increase’ for ‘reduction’.

At the FTT, Kerrison argued that there had not been a material increase in the value of the Broadgate shares because the market value at the time of the repurchase would take into account Braye’s borrowings that Broadgate had guaranteed.

The Upper Tribunal agreed with the FTT’s conclusion that ‘value’ for the purposes of s30(1) did not necessarily mean ‘market value’ and considered that its meaning should be dictated by the terms and aim of the scheme.

In this case, the change in value that the scheme was designed to achieve was pre-determined by the parties, therefore that pre-determined amount was the value to be used and consequently the value had been materially increased.

(They also approved the FTT’s conclusion that, because expert valuations, taking into account the effect of the guarantee, had valued the shares at £39.42 on the date of the sale to Braye and at £45.36 on the date of the repurchase by the appellant, that increase of 15% would constitute a ‘material increase’ so that, even if market value did apply, s30 would be engaged).

The tribunal concluded: ‘Applying a purposive construction to s.30(9), properly interpolated into s30(1), it is necessary to enquire, where a scheme involves more than one acquisition, by which acquisition did the scheme purport to achieve its aim of creating an increase (or decrease) in the value of the asset.

‘Understood in that way, there is only one answer to the question on the facts of this case: the aim of the scheme was to create an increase in value of the shares via the disposal to Braye at par and the acquisition from Braye at a greatly increased price.’

Loan waiver

The Upper Tribunal went on to consider HMRC’s appeal in relation to the loan waiver, and agreed with the FTT that the loan waiver was not taxable under ITTOIA 2005, s687.

This was because it was an entirely voluntary transaction, which was capital in nature because the loan was made to discharge another loan that had been applied to purchase shares.

The tribunal judged that all of the transactions were capital not revenue, and also found that the waiver was not analogous to a dividend or other distribution and was not made in respect of the appellant’s shareholding in Broadgate, rather it was made to collapse the scheme in which the appellant had participated.

The tribunal said as a result, the FTT was correct when it concluded that there was no ‘sufficient link’, between the loan waiver and Kerrison’s shareholding in Broadgate. The fact that Broadgate, in which Kerrison was a shareholder, approved the loan waiver did not establish that link. Kerrison benefited from the loan waiver because he was a client of PSL and it ensured that Kerrison’s expectations were met, namely that an income tax deduction could be bought at a cost of 10% of the income sought to be sheltered.

The judges concluded: ‘In our judgment, the FTT was entitled to reach this conclusion on the evidence and we see no reason to interfere with it.’

A Croner-i writer said: ‘Kerrison was one of a number of participants in the ‘Excalibur’ tax avoidance scheme and it is believed that the total tax at stake was considerably higher (the total borrowings by Braye to finance the whole scheme exceeded £155m. The scheme has now failed before both the FTT and Upper Tribunal’.

Report by Pat Sweet

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