The most important thing in communication is to hear what isn’t being said.
– Peter Drucker
There is much to comment on the decision of the First-tier tribunal in the Leeds Design case. However, in this short piece, I intend only to content myself to the examination of a sole point. The wide plethora of arguments did not serve to advance the taxpayer’s case. These arguments have been processed by the tribunal, its reply to them are to be found in the packaged paragraphs of its decision. The case solved. And yet. And yet there remains the curious incident of the dog in the night-time.
What were the issues arising? Before we turn to answering that question, let us first ask as to what were the issues the tribunal concerned itself with. The tribunal considered whether an undertaking, given on the part of the borrower, to pay official rates of interest could in itself be regarded as the payment of the requisite interest, so as to preclude an employment-related loan from constituting a ‘taxable cheap loan’. The taxpayer’s argument was that this ought to be the case – even in circumstances where the interest was to be simply rolled up over the course of the term of the loan rather than paid year-in year-out. The facts were complicated by the fact that the lender’s fee was expressed not as interest but rather as a discount.
The tribunal came to the conclusion that the labeling of the lender’s fee as a discount ought not in itself preclude it from constituting interest. The computation of the lender’s fee under the agreement concerned indicated that it bore all the characteristics of interest, constituting, as it did, a fee for the use of money borne by reference to time. So far, so good – for the taxpayer. Interest had accrued. However, the problem arose when the tribunal refused to accept that the accrual of interest could be viewed as the payment of interest. The case of Fenton was discussed. (I have a lot of fondness for this case for completely unconnected reasons – as the judges there accepted that the policy objective underlying the provision in question there could not be inferred – which makes it a useful addition to the quiver in the fight with GAAR). The provision concerned in Fenton was removed from the ‘taxable cheap loan’ provisions – as to how far removed, one cannot really say, in light of the accepted amorphousness of the policy objectives it embodied. In any event, in that case, the judges held that the capitalization of interest did not constitute a payment of it and, also, that ‘payment’ was an expression which derived meaning from its context. In Leeds Design, the tribunal managed an obedience to both principles. It reiterated that the expression took its meaning from its context and then also held that it meant the same as it did in Fenton, at least in the sense that capitalization could not constitute payment. In the end, one cannot take exception with this.
My own objection arises not so much from the arguments which the tribunal did address (that is, whether the compounding of interest can be viewed as a payment of it) but rather to an altogether separate point. This point was either not made to the tribunal or, if so, was considered picayune enough to be dismissed without much ado. The question when it comes to considering whether one has a taxable cheap loan, as I see it, is not so much whether interest has been paid at official rates but rather whether, under the terms of the borrowing, interest at such rates is to be paid. Assuming that this is the correct test, then Fenton and the question as to whether rolling over interest constitutes payment – questions with which both the pre-existing HMRC guidance and the tribunal concerned themselves – really fall away like fireflies in the night.
The question next arises as to how this magical switch is affected, whereby the test is adjusted from by reference to the interest actually paid to the interest contractually due under the terms of the borrowing. This is an argument which I have developed and would be happy to elaborate upon where needed to do so, so that others may rely upon it. (I have not seen any other writer espouse these views of the ‘taxable cheap loan’ provisions in their publications at the time of writing – whether in wake of the Leeds Design case or otherwise). I do not guarantee that it would be accepted but there are, in my opinion, reasonable grounds on which it is based. For the avoidance of doubt, should the argument ever be rejected by a court or precedent-setting tribunal, then I intend to leave this article posted here, as an exercise in hermeneutics. However, as promised, the weapon of choice today is the rifle and shot needs to be clean.
Section 175 ITEPA provides:
175 Benefit of taxable cheap loan treated as earnings
(1) The cash equivalent of the benefit of an employment-related loan is to be treated as earnings from the employee’s employment for a tax year if the loan is a taxable cheap loan in relation to that year.
(2) For the purposes of this Chapter an employment-related loan is a “taxable cheap loan” in relation to a particular tax year if—
(a) there is a period consisting of the whole or part of that year during which the loan is outstanding and the employee holds the employment,
(b) no interest is paid on it for that year, or the amount of interest paid on it for that year is less than the interest that would have been payable at the official rate, and
(c) none of the exceptions in sections 176 to 179 apply.
Subsection (2) provides the definition of a ‘taxable cheap loan’, without which there cannot be a charge under subsection (1). The test at (2)(b) is clearly whether there is a divergence between the official rates of interest and the interest paid for the year. My suggestion is that a reference to ‘interest paid for a year’ is to interest paid for a year! Not to interest actually paid ‘in’ a year, as appears to be argued by HMRC. However, setting aside this deeply archaic, naïve and unimaginative proclivity to go simply by the words of the legislator, there is another, more telling clue to which recourse may be had. This is found at subsection (3). Subsection (3) provides the method for calculating the ‘cash equivalent’ of the benefit:
(3) The cash equivalent of the benefit of an employment-related loan for a tax year is the difference between—
(a) the amount of interest that would have been payable on the loan for that year at the official rate, and
(b) the amount of interest (if any) actually paid on the loan for that year.
So, assuming that there is a ‘taxable cheap loan’ under subsection (2), then the computation of the charge hinges on the difference between the official rate of interest and the rate of interest which has ‘actually’ been paid. Suppose that the official rate of interest is 5% and 2% is actually paid, then the charge is 3%.
What I find telling is that (3)(b) is predicated on the assumption that there is a class (‘the class of actual payments on the loan for that year’) which forms a subset of the larger set of the class described at (2)(b) (‘the class of payments of interest on the loan for that year’). If it doesn’t form a subset of the latter, the former is at the very least something different – as the legislator is at (3)(b) simply looking at the interest payments actually made for the year (and I would respectfully submit that the former does in fact form a subset of the latter). To say that the two classes at (2)(b) and (3)(b) are the same would be to regard as otiose the very deliberate inclusion by the legislator of the word ‘actually’ at (3)(b). But the legislator is never taken to have acted in vain. And in this particular case, it seems to me to require the overlooking of a very deliberate inclusion to hold that there is not somehow a change between the two classes in his mind as he goes from one subsection to the contiguous other, as in one he looks to payments of interest for the year and in the other he considers only actual payments of interest for the year.
Now, if the class at subsection (2)(b) is not coterminous with the class at (3)(b) (and we can agree that the class at (3)(b) is rather well defined and not even I, for all my love of Hobbes, would query the concept of actuality before the First-tier tribunal), then the question arises next as to what this class is? Once we find ourselves posed with this question, the rest seems to follow rather swimmingly. The class of interest payments at (2)(b) (‘interest paid for the year’ but not ‘interest actually paid for the year’) is a reference to the contractual rate of interest – it is to the interest to be paid. There is quite simply no other candidate – and if there is, I should very much like to be told what it is.
When the realization dawns on us that the matter was really to be adjudged by reference to the contractual rates of borrowing, then those discomfiting details which so niggled at our conscious seem instead to line up in harmony. The legislator’s use of the expression ‘interest paid for the tax year’. Or ‘taxable cheap loan’. Or ‘benefit’. Everything is illuminated. But not here, not in this article. The scheme of the legislation would need to be developed into a comprehensive matrix, various objections soothed and section 191 addressed. But you are now already more than half-way there. The lawyerly expedient of taking the legislator at his word appears to bring meaning and consistency to the law.
I want a house that has got over all it’s troubles…
– Jerome K Jerome They and I (1909)
superated: adjective (archaic) overcome, surmounted, surpassed
– Collins English Dictionary
This is article on a speech I delivered at the M5 Conference at Oxford in October 2013 titled A-Ten: Ten Strategies for ATED. This article will be completed here after the KeyHaven Conference in December 2013.
1. All summer long I observed with some unease the deluge of solutions which followed the introduction of ATED. It seemed to me that the knee-jerk reaction in many cases was to liquidate and for corporate ownership to be supplanted with packaged solutions. There were two reasons for this unease. First, because even though it is mostly with approbation that I regard some of the solutions which have now obtained common currency, it appears to me that there other solutions which are not being considered and which would be far more efficacious in many cases (and I discuss some – but not all – of these solutions below). Second – and this really is the gravamen here! – is that one fundamental question which is being overlooked is whether anything really needs to be done at all. Or rather, the question more properly put is: whether the advantages hoped for from the entering into arrangements can really be said to outweigh the loss of the IHT and SDLT advantages which, we can say with relative confidence, have already been secured. I have considered what factors must be found to exist in a certain case before we reach for liquidation and I find that in many cases these factors may simply not be present.
2. One of the features of ATED is that even though it is, for the most part, a thorn in the side, to properly address it, one needs to know everything about everything if one is to preserve the overall position. The tax itself is, in simple terms, a tax on owner-occupied high value residences. I discuss the provisions in detail (and we shall even dabble in some algebra when we turn to consider ATED-related gains – you have been warned!) but I mention two salient points: It is not a tax on wealth – in an economy in which things proceed on credit and in a culture in which home ownership is perhaps the most prized investment, there ought not to be any inference which can safely be made about a person from the value of the house he or she resides in – and if there is one, I would submit that it be more to do with his or her aspirations and tastes rather than his or her wealth. It is more an indirect charge on non-domiciliaries, something which they must now effectively bear to secure certain IHT advantages (akin to the remiitance basis charge which they must pay to secure income tax advantages).Second, if you are pragmatic enough to leave the property which is in the structure and rent out another property, you can escape the tax. If you are romantic and resolve to stay in the property, then you need to consider further options. ATED is really a tax on sentimentality.
3. For the avoidance of doubt, the opinions expressed below are just that – opinions expressed in the spirit of academia. The gist of this speech is that things need to be looked at closely in each case. We start with considering the ATED provisions in detail first. Beautifully packaged solutions in PDF documents, that comes later. Before beauty, first comes blood and sweat. From Malcolm Gladwell’s David and Goliath (2013) which I just finished:
“You know there’s something about solving a math problem that’s very satisfying,” Randolph said at one point, and an almost wistful look came over his face. “You start with a problem that you may not know how to solve, but you know there are certain rules you can follow and certain approaches you can take, and often during this process, the intermediate result is more complex than what you started with, and then the final result is simple.And there’s a certain joy in making that journey.”
First, we dissect this new creature before us!
4. Part 3 of the Finance Act 2013 introduces the ATED regime. The conditions governing applicability are found in section 94. This provides:
94 Charge to tax
(1) A tax (called “annual tax on enveloped dwellings”) is to be charged in accordance with this Part.
(2) Tax is charged in respect of a chargeable interest if on one or more days in a chargeable period—
(a) the interest is a single-dwelling interest and has a taxable value of more than £2 million, and
(b) a company, partnership or collective investment scheme meets the ownership condition with respect to the interest.
(3) The tax is charged for the chargeable period concerned.
(4) A company meets the ownership condition with respect to a single-dwelling interest on any day on which the company is entitled to the interest (otherwise than as a member of a partnership or for the purposes of a collective investment scheme).
(5) A partnership meets the ownership condition with respect to a single-dwelling interest on any day on which a member of the partnership that is a company is entitled to the interest (as a member of the partnership).
(6) A collective investment scheme meets the ownership condition with respect to a single-dwelling interest on any day on which the interest is held for the purposes of the scheme.
(7) If a company is jointly entitled to a chargeable interest (as a member of a partnership or otherwise), then regardless of whether the company is entitled as a joint tenant or tenant in common (or, in Scotland, as a joint owner or owner in common) the ownership condition is regarded as met in relation to the whole chargeable interest.
(8) The chargeable periods are—
(a) the period beginning with 1 April 2013 and ending with 31 March 2014, and
(b) each subsequent period of 12 months beginning with 1 April.
(9) See also section 95.
So, one looks at the time slot of 12 months beginning the 1st April. One then asks of a chargeable interest, whether on one or more days within that period:
(1) that interest is a single-dwelling interest;
(2) has a taxable value of more than £2 million; and
(3) a company, partnership or CIS meets the ownership condition in respect of that interest.
5. The definition of chargeable interests at section 104 is similar to that adopted for SDLT. The following are not chargeable interests:
(3) An exempt interest is not a chargeable interest for the purposes of this Part.
(4) The following are exempt interests—
(a) any security interest;
(b) a licence to use or occupy land;
(c) in England and Wales or Northern Ireland, a tenancy at will.
(5) In subsection (4) “security interest” means an interest or right (other than a rentcharge) held for the purpose of securing the payment of money or the performance of any other obligation.
6. ‘Entitlement’ is central to the ownership conditions and is defined at section 95:
95 Entitlement to interests
(1) In this Part “entitled” means beneficially entitled—
(a) whether solely or jointly with another person, and
(b) whether as a member of a partnership or otherwise.
This is subject to subsection (2).
(2) References in this Part to entitlement to a single-dwelling interest (or any other chargeable interest) do not include—
(a) entitlement in the capacity of a trustee or personal representative, or
(b) entitlement as a beneficiary under a settlement.
(3) Subsection (1)(b) does not apply where the contrary is specified.
(4) In this section “settlement” has the same meaning as in Part 4 of FA 2003 (see paragraph 1 of Schedule 16 to that Act).
7. It follows from sub-paragraph (2) that in the case of a company holding as trustee of a settlement of which another company (or that company) is a beneficiary, none meets the ownership condition. For instance, A Co holding as trustee of settlement in which B Co has an interest in possession should mean that the ownership condition is not met. ‘Settlement’ does not include bare trusts.
8. In the context of the partnership ownership condition at section 94(5), a company must be a member of the partnership and must be entitled to the interest as a member of the partnership. This particular condition will not be met where the company is not so entitled.
Entitlement to the income should not suffice either for the purposes of the partnership condition. Suppose A, an individual, and Co, are in partnership. Co is not entitled to the interest as a partner or otherwise, so that A holds the interest. The partnership condition is not met.
Single-dwelling Interest and Merging
9. A ‘single-dwelling interest’ is defined at section 108(2) as:
A chargeable interest that is exclusively in or over land consisting (on any day) of a single dwelling is a single-dwelling interest (on that day).
In circumstances where the chargeable interest is in two or more single dwellings, then the person is deemed to have a separate chargeable interest over each dwelling, with each constituting a single-dwelling interest. They are not merged: tax is quite really a tax on expensive residences.
In circumstances where the chargeable interest is in land consisting of dwellings and non-residential land, then the person is deemed to have a separate single-interest dwelling in each dwelling and a chargeable interest in the rest.
It follows from the wide definition that a single-dwelling can harbour multiple single-dwelling interests. Section 109 caters for this:
109 Different interests held in the same dwelling
(1) Subsection (2) applies if on one or more days in a chargeable period—
(a) a company is entitled to two or more single-dwelling interests in the same dwelling, or
(b) two or more single-dwelling interests in the same dwelling are held for the purposes of the same collective investment scheme.
(2) This Part has effect with respect to that chargeable period as if those separate interests constituted just one single-dwelling interest, the taxable value of which on any day is the sum of the taxable values of the separate interests.
(3) In calculating the taxable values of the separate interests for the purposes of subsection (2), the market value of each interest is determined, under the provisions of TCGA 1992 applied by section 98(8), on the assumption that the other interest or interests are placed on the open market with that interest (on the valuation date appropriate to that interest).
The section therefore provides for the merging of separate single-dwelling interests held by the same person in certain circumstances. Where a company is entitled to several single-interest dwellings in the same dwelling, they are treated as one. The same where they are held for the purposes of the same CIS. Two points to make:
(1) This does not apply for the purposes of a partnership. So, suppose a partnership has three single-dwelling interests in a dwelling. Each is separate.
(2) It is also worth noting that there is no merging for individuals (relevant to below).
Section 110 provides for the further merging of single-dwelling interests in cases where different but connected persons have single-dwelling interests in the same dwelling. In the case of a company and a connected person, the company is deemed to be entitled to both of their interests:
(a) Where the connected person is a company, then the same applies to that company.
(b) Where the connected person is a CIS, then the company’s interest is also deemed to include the scheme interest (and the scheme interest is also deemed to include the company interest).
(c) However, where the connected person is an individual, then there is no merging unless the company is entitled to a single-dwelling interest in the dwelling that is a freehold or leasehold interest with a taxable value of more than £500,000
In the case of two CISs, the single-dwelling interests are also merged both ways.
(1) One important point about merging here – it can work both ways, with seemingly punitive consequences. One would have thought that in such cases (once my interest has merged with that of another, it would no longer constitute my interest. The position is actually the opposite). However, this should not result in a double charge:
104 No double charge
Tax in respect of a given single-dwelling interest is charged only once for any chargeable day even if more than one person is “the chargeable person” with respect to the tax charged.
Though there will be joint liability – section 97 provides:
97 Liability of persons jointly entitled
(1) Subsection (2) applies if—
(a) a company is within the charge for a chargeable period with respect to a single-dwelling interest by virtue of section 96(2)(a), and
(b) one or more other persons are jointly entitled to the interest on the first day in that period on which the company is within the charge with respect to it.
(2) The company and the other person or persons are jointly and severally liable for the tax charged for that period with respect to the interest (whether or not those other persons are also within the charge with respect to the interest on the day in question).
(2) If A Co, A and B each have single-dwelling interests and A Co and A are connected and A and B are connected but not A Co and B, then only the interests of A are merged with those of A Co. This is relevant to valuation.
(3) There is no merging under these rules where the single-dwelling interests are in separate dwellings. One structure which therefore suggests itself is for unconnected parties to have shares in separate residences.
(4) In order for there to be merging of A and B’s interests, each must have single-dwelling interests in the same property. There is no suggestion that if A has an interest and B does not, then for the purposes of the ATED applicability conditions and, in particular, the ownership conditions, B will, by reason of connection to A, be deemed to have A’s interest (or any interest) where B does not otherwise have one. So, if A and A Co enter into a partnership and A Co has no entitlement to the property, then the ownership condition will not be met. Merging does not really affect the question of entitlement but more the computation of the tax. The object is really to avoid interest-splitting. However, it can affect applicability as it affects the taxable value of the interest.
10. The meaning of ‘dwelling’ is provided for at section 112:
112 Meaning of “dwelling”
(1) A building or part of a building counts as a dwelling at any time when—
(a) it is used or suitable for use as a single dwelling, or
(b) it is in the process of being constructed or adapted for such use.
There are more extensions which I do not discuss here.
ATED is only concerned with expensive single residences, rather than with the value of the property as a whole. Little reliance can be placed on this in general planning, though in appropriate circumstances, ATED considerations might result in partitioning one dwelling into multiple dwellings.
An odd point which I encountered is that if suitability is a test, then there are many converted offices (or should that be converted homes?) which inhabit former Georgian residences in the Mayfair area which might be subject to ATED! In Lincoln’s Inn, some floors are used as chambers and others as residences for judges. As far as suitability is concerned, there may not be much between them. Unfortunately, in such circumstances, it would appear that one has to place reliance on the reliefs (an in-out solution) instead of being able to discount ATED altogether.
11. Under section 99, the amount of chargeable tax is the annual chargeable amount in cases where the person chargeable is within the charge to tax on the first day of the chargeable period. In any other case, it is a relevant fraction of the annual chargeable amount, this fraction being by reference to the first day on which the chargeable person is within the charge to tax with respect to the interest. The annual chargeable amount is:
£15,000 £2 million to £5 million
£35,000 £5 million to £10 million
£70,000 £10 million to £20million
£140,000 More than £20 million
In addition to this, there is, at section 105, the ‘adjusted chargeable amount’ which is a fraction of the annual chargeable amount, calculated on a pro rata basis for each day on which the chargeable person is within the charge to tax – most relevant to cases where the chargeable person does not hold the property all throughout the chargeable period. Relief needs to be claimed at section 106.
It is important to note that the column on the right represents the taxable value of the interest. The taxable value is defined at section 102 by reference to the market value on the 1st April 2012, the 1st April every 5 years and on the dates of substantial acquisition and substantial disposition:
(3) The following are also valuation dates in the case of any single-dwelling interest to which a company is entitled on the relevant day (otherwise than as a member of a partnership)—
(a) the effective date of any substantial acquisition by the company of a chargeable interest in or over the dwelling concerned;
(b) the effective date of any substantial disposal of part (but not the whole) of the single-dwelling interest.
A substantial acquisition or disposal is where the consideration is £40,000 or more. In the case of connected persons, the consideration is the market value. In the case of linked transactions, the consideration for the various acquisitions or disposals is merged.
(6) For the purposes of subsection (2) the market value of the chargeable interest acquired is taken to be the sum of the market values of that chargeable interest and any chargeable interest in or over the same dwelling that is acquired in a linked transaction.
(7) For the purposes of subsection (3) the market value of the part of the single-dwelling interest disposed of is taken to be the sum of the market values of that chargeable interest and any chargeable interest in or over the same dwelling that is disposed of in a linked transaction.
The test of linkage is the same as in SDLT. The legislation doesn’t appear to me to answer the relevant question of when the two transactions become linked. For instance, if I buy a share in property in 2012-13 for £35,000 and then another for £50,000 two years later (assuming that there is no arrangement but still a series of transactions), then it is not clear whether there is a substantial acquisition in 2012-13. Whichever rule applies (i.e. whether the linkage is retrospective or not) must apply uniformly to acquisitions and disposals. So, in appropriate cases it may be possible to accelerate or postpone the date of valuation within the obligatory 5 year frame.
12. The reliefs apply on a day-by-day basis. They include:
(A) rental property business relief;
(B) property trade relief;
(C) property to provide accommodation to an employee;
(D) financial institutions;
(F) a relief for dwellings open to the public.
13. I do not intend to cover all the reliefs here, but I do discuss one. Section 133 provides:
133 Property rental businesses
(1) A day in a chargeable period is relievable in relation to a single-dwelling interest if on that day the interest—
(a) is being exploited as a source of rents or other receipts (other than excluded rents) in the course of a qualifying property rental business carried on by a person entitled to the interest, or
(b) steps are being taken to secure that the interest will, without undue delay, be so exploited in the course of a qualifying property rental business that is being carried on, or is to be carried on, by a person entitled to the interest.
(2) A day is not relievable by virtue of subsection (1) or section 134 in the case of a single-dwelling interest if on that day a non-qualifying individual is permitted to occupy the dwelling.
(3) In this Part “qualifying property rental business” means a property rental business that is run on a commercial basis and with a view to profit.
This provides a very significant caveat to the charge – it takes out in one stroke all pure investment residential properties. It is important to note that under (1)(a) the business must be carried on by the person entitled to the interest. In addition, if arrangements are structured to qualify for this relief, then it is worth noting that the income tax charge on the rent may be more than the ATED charge (though the rent may be required to be paid in any event in light of the benefits-in-kind charge).
14. A problem will arise here in relation to the occupation by non-qualifying individuals:
(a) the relief not available on the day of such occupation;
(b) the relief is not available for any subsequent day in that chargeable period or subsequent three chargeable periods on which the same person is entitled to the interest unless there is a day of ‘qualifying use’ in the interim: section 135(2) – i.e. a day on which relief can be claimed under section 133(1)(a);
(c) a similar restriction applies to the earlier days in that chargeable period under section 135(5);
(d) occupation by a NQI also restricts other reliefs – such as property trader relief at section 141: section 141(2).
15. Section 171 is worth noting:
171 References to the state of affairs “on” a day
In determining for the purposes of any provision of this Part whether or not a state of affairs obtains on a particular day, it is to be assumed that the state of affairs obtaining at the end of the day persisted throughout the day.
This may provide a let-out in certain circumstances.
16. To me ‘occupy…the dwelling’ also sets a high threshold and arguably denotes exclusivity throughout the dwelling. This is consistent with the exclusion of licenses from the definition of chargeable interests. Section 135 provides an extension of ‘occupation’ for these purposes:
(8) For the purposes of this section—
(a) “day of qualifying use”, in relation to a single-dwelling interest, means a day that is relievable in the case of the interest by virtue of section 133(1)(a);
(b) occupation of any part of a dwelling is regarded as occupation of the dwelling.
The extension there indicates the intention here. This thus may also provide another let-out.
17. A third let-out may be found in the meaning of ‘non-qualifying individual’ itself. This is at section 136:
136 Meaning of “non-qualifying individual”
(1) In sections 133 and 135 “non-qualifying individual”, in relation to a single-dwelling interest, means any of the following—
(a) an individual who is entitled to the interest (otherwise than as a member of a partnership),
(b) an individual (“a connected person”) who is connected with a person entitled to the interest,
(c) if a person is entitled to the interest as a member of a partnership, an individual who is, or is connected with, a qualifying member of that partnership,
(d) an individual (“a relevant settlor”) who is the settlor in relation to a settlement of which a trustee is (in the capacity of trustee) connected with a person who is entitled to the interest,
(e) the spouse or civil partner of a connected person or of a relevant settlor,
(f) a relative of a connected person or of a relevant settlor, or the spouse or civil partner of a relative of a connected person or of a relevant settlor,
(g) a relative of the spouse or civil partner of a connected person or of a relevant settlor,
(h) the spouse or civil partner of a person falling within paragraph (g), or
(i) an individual who is a major participant in a relevant collective investment scheme or is connected with a major participant in a relevant collective investment scheme.
(2) In subsection (1)(c) “qualifying member”, in relation to a partnership, means a member of the partnership who is entitled to a 50% or greater share—
(a) in the income profits of the partnership, or
(b) in the partnership’s assets.
Let us consider partnerships. For the purposes of subsection (1), section 1122(7) and (8) CTA 10 do not apply – section 136(6), so that there is no connection simply by virtue of partnership. The ATED guidance says at 36.11:
Exception to Connected Persons rule – the normal rules for connected persons contains, in section 1122(7) CTA 2010, a rule that a partner in a partnership is connected with:
(a) any partner in the partnership
(b) the spouse or civil partner of any individual who is a partner in the partnership, and
(c) a relative of any individual who is a partner in the partnership
For ATED this rule will not apply when identifying a non-qualifying individual. However, it should be noted that this is an express exception to that rule and it is only in relation to interests owned by partnerships that meet the ownership condition in section 94(5) FA 2013.
However, it is not clear to me that this is what section 136(6) says:
(6) For the purposes of subsection (1), section 1122 of CTA 2010 (as applied by section 172) has effect as if subsections (7) and (8) of that section (application of rules about connected persons to partnerships) were omitted.
It seems to me that partnership connection does not apply at all for the purposes of the NQP definition, irrespective of whether the partnership condition is met or not.
18. So, if Co holds the interest (but not as a member of the partnership) but still is in a partnership with A, an individual, then provided that there is no other connection between them, A is not connected with Co and does not fall within (b). A does not fall within (a) either. (c) is not satisfied either. A can live in the property. In what circumstances would A wish for the land to be owned and profited from by an unconnected company? It would not be a company which was in a settlement of which he was the settlor or a relative of the settlor – else he might fall within (d) to (h). It could be a company the shares of which he had absolutely given away by way of (say) PET.
19. This thus presents a solution to the NQI restriction involving unconnected companies. I next consider whether things might be pushed even further and whether there may be a solution involving connected companies.
20. There appears to be a strain between (1)(b) and (c), which you pick up the first time you are reading those sub-paragraphs, even if doing so quickly! If A is connected with another person who is entitled to the interest, then he, on a technical level, falls within (b). However, (c) suggests that in the case where a person is entitled by reason of partnership, the other person with whom the individual is connected must be a qualifying member of the partnership – in other words, the other person must not just be entitled to the interest but must also be a ‘qualifying member’ (with the requisite 50% interest). It could be that the bar is being raised at (c). But if this is the case, then it must also be true that (b) only applies where the interest is not held by the connected person as a member of a partnership.
21. There are three ways to look at this.
First, it might be that (c) is really catching circumstances other than those at (b) i.e. where the other connected person does not have an entitlement to the interest but still has a 50% share of the profits or partnership assets. However, if the aspiration was to widen the scope of NQP, it seems strange that ‘qualifying member’ (which is introduced only for this purpose) would be defined so as to set so high a standard. If the other connected person has a 50% share of the partnership assets then he ought to have some interest in the property. (If (c) is to apply, then, according to its opening words, the property ought to be a partnership asset.) In other words, a person falling within (c) should, on a literal basis, already fall within (b). So, the argument that the purpose of (c) is to extend the scope of NQP has flaws.
Second, that in (c) the legislator is really raising the bar in the context of partnerships. The ATED Manual provides (regarding the restriction of the partnership connection test in this context) at 34.11:
Its effect is to ensure that connection between persons otherwise with no familial or trust connection is not established through business partnerships.
HMRC appear to believe that in the context of partnerships any connection will suffice – including section 1122(7) partnership connections. They state at 34.4:
If a person is entitled to the chargeable interest as a member of a partnership, any person who is connected with a partner in that partnership
Example two: A partnership has several members, including Mr A and B Ltd.
B Ltd is entitled to a single-dwelling interest as a member of that partnership (but, for whatever reason, Mr A is not so entitled). As Mr A is connected with B Ltd, he will be a non-qualifying individual for these purposes. Note that this specific rule is not affected by the provisions in sections 136(6).
This appears to me to be wrong on both counts! Note that this discussion is in the context of (c) and not (b) (see the bold italicized part – also, the manual provides a separate example for (b) at 34.3). This analysis which is italicized is clearly not correct – or at the very least misleading. The truth is that under (c), B Limited would need to be a qualifying member in order to render A a NQP. Also, as seen above, it does not appear that the underlined parts are correct either – the restriction of partnership connection applies for all the purposes of subsection 136(1). Furthermore, if the partnership connection restriction were not applied here, then it is hard to see why there is at (c) a requirement for connection with a particular kind of partner, as the individual would be linked with all of them.
Third, that the legislator has simply gone for the shot-gun approach and has attempted to describe as many classes without concern for the overlap between them. Whilst this cannot be discounted as a matter of policy, the points made above in relation to the two other approaches argue against this.
22. If it really is the case that the bar is being raised at (c), then the implication must be that (b) should only apply in cases where the other connected person is not entitled as a member of a partnership. The opening words of (c) corroborate this. So, too, does the parenthesis at (a). It would highly anomalous if there was an individual, P, who:
(1) was entitled to the interest as a partner (and so did not himself fall within (a)); and
(2) who was not connected to a qualifying member (and so did not fall within (c)); and
(3) so was not an NQI;
but another individual, N, connected to P, fell within (b) by reason of N’s entitlement as a member of partnership and therefore constituted an NQI. Not only would N be an NQI but so too would all his relatives, his spouse or civil partner and their relatives. (P might be caught by reason of this, though it seems a roundabout and uncertain way to bring him within the definition).
23. If the second approach is correct, then a possible structure would be where there were three corporate members of a partnership who were each entitled to a third of the interest in the property by reason of partnership. None of the companies constitute qualifying members. But they are each connected to the individual. (a) is not satisfied as the individual does not have any entitlement himself. (b) does not apply on this construction. And there is no qualifying member for the purposes of (c). Relief from ATED is possible whilst at the same time, corporate ownership allows for IHT relief.
24. The attractiveness of any of the planning routes may depend on whether a disclosure is required under DOTAS. It is therefore worth bearing the following points in mind as we consider the strategies.
25. The draft DOTAS Regulations provide:
Citation and commencement 1.— These Regulations may be cited as the Annual Tax on Enveloped Dwellings Avoidance Schemes (Prescribed Descriptions of Arrangements) Regulations 2013 and come into force on 1 October 2013.
Prescribed description of arrangements in relation to annual tax on enveloped dwellings 2.—
(1) For the purposes of Part 7 of the Finance Act 2004 (disclosure of tax avoidance schemes) the arrangements specified in paragraph (2) are prescribed in relation to annual tax on enveloped dwellings.
(2) The arrangements are prescribed if they do not comprise excluded arrangements under the Schedule to these Regulations and as a result of the arrangements, or any element of the arrangements—
- . (a) a company, partnership or collective investment scheme ceases to meet the ownership condition in respect to the chargeable interest;
- . (b) the taxable value of the chargeable interest is reduced to £2 million or less; or
- . (c) the taxable value of the chargeable interest is reduced with the consequence that the chargeable interest falls within a lower tax band than it otherwise would.
26. The Schedule provides a definition of ‘excluded arrangements’:
Arrangements are excluded from being prescribed arrangements for the purposes of these Regulations if they comprise a transfer of the chargeable interest from a company, partnership or collective investment scheme (a “transferor”) to a transferee where—
(a) the transferor and transferee are not connected persons, and the transfer is on arm’s length terms;
(b) the transferor and the transferee are members of the same group of companies, the transfer is on arm’s length terms and the transferee meets the ownership condition;
(c) the transfer constitutes a company distribution, and the transferee is an individual, a corporation sole or a person who meets the ownership condition; or
(d) the transfer constitutes a settlement.
However, I understand that the following changes are forthcoming:
- Definition of distribution now amended so that distributions by companies in liquidation will be excluded from disclosure (previously it relied on CTA definition which didn’t include a distribution by a company in liquidation);
- Distributions to trustees will be excluded;
- Transfers on arm’s length terms will be excluded (previously only if between unconnected persons);
- No retrospection at all.
27. As for timing, paragraph 2 of the draft regulations provide:
Time for providing information: transitional provisions
3.—(1) Where paragraph 2 applies, the period or time (as the case may be) to be found in accordance with regulation 5 of the Tax Avoidance Schemes (Information) Regulations 2012(3) shall end on 30 November 2013 instead of the day on which it would end by virtue of that regulation.
(2) This paragraph applies in respect of proposals or arrangements (as the case may be) that are notifiable by virtue of regulation 2 where—
. (a) for the purposes of section 308(1) of the Finance Act 2004 the relevant date in relation to a proposal falls within the period beginning with 13 December 2012 and ending on 30 September 2013;
. (b) for the purposes of section 308(3) of the Finance Act 2004 the date on which the promoter first becomes aware of any transaction forming part of the arrangements falls within the period beginning with 13 December 2012 and ending on 30 September 2013; or
. (c) for the purposes of section 309 and 310 of the Finance Act 2004 the date on which any transaction forming part of the arrangements is entered into falls within the period beginning with 13 December 2012 and ending on 30 September 2013.
So, does anything need to be done?
29. When considering solutions, one has to start with the question as to whether there is a problem in the first place. If there is no problem, then nothing needs to be done. The rule of thumb for any advisor has to be: do no harm!
30. In many cases of corporate ownership, ATED will not result in a charge – for instance, where reliance can be placed on rental business property or property trade relief.
31. Problems may, however, arise where occupation by an NQI is permitted. In addition, the ATED regime brings with it administrative burdens, the need for five-yearly valuations and the prospect of disputes with HMRC. ATED is subject to counteraction by GAAR – section 206(3)(g), so a structural change with fundamental economic consequences might be preferable in cases where the ambition is to mitigate the charge by simply falling outside its scope.
32. In addition to those problems, the charge under ATED may not be the worst aspect of falling within the ATED regime. Schedule 25 of the FA 2013 introduces a 28% charge on ‘persons’ (effectively including companies – both resident and non-resident (see the exception to section 2 TCGA inserted in the form of subsection (7A)) and those in a partnership – and certain CISs) on ATED-related gains on ‘relevant high value disposals’. In simple terms:
(a) there is a ‘relevant high value’ disposal where a chargeable interest is disposed of which includes a single-dwelling interest, where the consideration exceeds £2 million and the person was within the ATED charge with respect to that interest on one or more days and those days were not relievable under the ATED reliefs;
(b) the ‘ATED-related gain’ allows for rebasing from the 5th April 2013 (unless an election is made or the property is acquired after that date) and also allows for pro rata relief to the extent that a day was day on which the person was not within the charge to ATED or was a relievable day.
(c) the new section 2F also allows for marginal taper relief. One considers the difference between the sale price and the £2 million threshold and increases this gap this by 5/3. The extent by which the ATED-gain exceeds this amount is then relieved. If only a percentage of the relevant reference period comprises of ATED chargeable days, then this amount is then reduced to that percentage of itself. (If the property was held on the 5th April 2013 and no election is made, then the references period looks to post-5th April 2013 days which are ATED chargeable days. In any other case, one simply looks to the entirety of the period of the ownership.) The ATED-gain is reduced by this amount. So, (say) if one acquires a property for £X million and then sells it for £Y million. The gain is £(Y-X) million. The amount of available relief is (Y-X million) – [£(Y-2 million) * 5/3] (assuming that all the ownership days are ATED chargeable days). This can also be expressed as:
If this is to be a positive figure, then the following must also be greater than zero:
In such circumstances:
2Y+3X must be not more than 10.
We also know that Y must be at least 2. If Y is 2, then X can be up to 2. If Y is 3, then X can be just over 1. If Y is 4, then X must be 2/3 of a million. So, the relief will be limited to cases where Y is just under 5. Interestingly, as Y increases, X must decrease, so that the gain must be larger. The maximum relief will be in cases where Y is just under 5 and X is negligible – in such cases the tax will be on £1.66 million, with the relief peaking there at around £3.34 million (or 66.8% of the gain). However, the problem with taper relief will be satisfying the conditions pertaining to applicability.
To conclude on ATED-related gains, the position is likely to be fact-sensitive. The increase on the tax rates may be 5% (or lower depending on the relief).
33. We have considered the disadvantages. Are there any arguments for staying within the ATED regime?
(A) Many non-domiciled clients will simply be reconciled to the property tax, which is common in other jurisdictions. Client expectations are paramount.
(B) Are there any issues arising from foreign taxes?
(C) The intentions of the client are clearly very important. One would not wish to unravel a structure only for the client to return the following year with the announcement that he no longer wishes or needs to reside in the property! The question to the client should be along the lines of: Are you committed to residing in this property or, in the even that this property is sold and another is held in the same structure, that property?
(D) Will the trustees (where any) accede to the unraveling? All too often I hear advisors assume that the trustees would co-operate. Lawyers of all people mustn’t neglect to ask this question as a matter of form!
(E) SDLT is a very material consideration, which I see is being overlooked. The view might (very reasonably) be taken that an increased 5% charge on ATED-related gains is justified by a 7% or 15% reduction on SDLT (i.e. on the whole price of the property) to a prospective buyer. (I include the 15% charge here as the property may be held by the purchaser for investment purposes, in which case ATED and ATED-related gains may not be a concern to him or her. A vast proportion of London properties are brought for investment purposes. Or it may be that the buyer simply doesn’t care about ATED. Or it may be that he values more the 15% saving to the next buyer when he sells!). This argument may appear less attractive with the forthcoming lowering of the main rate of corporation tax from 2014. In addition, as time progresses, a greater part of the gains on the sale of property may constitute ATED-related gains.
But even then, the saving of 15% of the value of the property to the hypothetical future buyer of your house must be a concern. The SDLT on a £20 million house would be £3 million. The ATED would be £140,000.
Question: How many years do you have to pay ATED before you arrive at £3 million?
Answer: More than 20!
(F) The question may be determined by how pressing a concern IHT is in the case at hand – as the IHT position under the existing trust-company structure may be the most secure. Let us assume in the interests of caution that IHT would be payable in the case of the property being held in a settlement. IHT of 6% would be payable every 10 years. If the property was kept in the trust-company structure, ATED would be payable. What would the rates be? I find it curious that this is not covered in the speeches or opinions I have read. As it turns out, the effective rate of ATED really varies – on the value of the property but, more particularly, on where the value is within the relevant threshold. If you are at the lower end of the relevant threshold (whichever it may be), then the effective rate is 0.7%. At the higher end, it is as low as 0.3% (and once one breaches the last threshold, it may even less). So, what must be a consideration is where the property sits on the scale. If I am paying ATED at the rate of only 3% every 10 years, then it might not be worth incurring the risk of IHT at 6% every 10 years to avoid it.
(G) Unraveling existing structures will come with complications. DOTAS may not be as much of a concern in light of the widening of the scope of excluded arrangements. SDLT may be a concern where the property is subject to a charge. HMRC also indicate that where the shareholders assume a debt on liquidation then this ought not to constitute chargeable consideration either: Technical News Issue 5 November 2007. In the case of a transfer between companies on liquidation, section 53 and 54 FA 03 will also be relevant.
(H) In the context of CGT, the GAAR Guidance indicates that conventional methods of washing out gains may be subject to counteraction:
Option 2 – The settlor adds £4m cash to the trust in year 1. In the same year the trust liquidates the company and holds the property direct thus realising the £4m gain. It then pays the £4m cash back to the settlor in the same year.
Year 2 – the property is distributed to the son with a small amount of inheritance tax. The £4m cash payment made in Year 1 washes out the trust gains and so on the distribution of the property to the son there is no capital gains tax.
D21.7 Proposed counteraction
D21.7.1 The likely counteraction would be that the addition to the trust and payment of cash to the settlor would be ignored and the son will pay tax as under option 1.
This seems to take an extreme example and is likely to be a million miles away from the solutions which will most often be used.
A simpler solution would be payments to the other domicile (or elsewhere), with fresh payments coming in to fund the new structure.
A second would be for the property to be purchased from the offshore company with borrowing from a bank. In such circumstances, it would be arguable that the receipts by the offshore company constitute excluded property.
In certain cases, a more onerous solution would be for a UK-resident beneficiary to become non-resident for the requisite period.
To be published in December 2013.
 It is also interesting to note that the taxable amount is purely a function of Y in circumstances where marginal taper relief applies (assuming first that there is the requisite excess). Suppose that the gain is (Y-X). The amount to be reduced from this is the amount by which the gain (Y-X) exceeds the stated difference 5/3(Y-2). So the gain after relief is really:
(Y-X) – [(Y-X)-5/3(Y-2)]
This is really the same as:
Y-X – [Y-X] + [5/3(Y-2)]
This is same as:
The purchase price does not appear to have a bearing on the deemed amount of the gain. This seems to work with the HMRC example at CGM 73650:
The consideration for a disposal is £2.6 million and threshold amount for that disposal is £2 million.
5/3 of the difference between these figures (£0.6 million) is £1 million. If the whole of the gain on the disposal is ATED-related, the chargeable gain is capped at £1 million.
‘When we want to sink a convoy, we send out an observation plane first…. Of course, to observe is not its real duty – we already know exactly where the convoy is. Its real duty is to be observed…. Then, when we come round and sink them, the Germans will not find it suspicious…’
– Neal Stephenson, Cryptonomicion 2009
1.1 I am not, of course, suggesting through the quotation above that the purpose of the DOTAS legislation is anything other than to collect information. However, I am aware that these rules have been widely perceived by the taxpayer and their advisors as having the intention, if not to downright intimidate, to somehow disincentivise novel tax planning through the imposition of significant administrative burdens and the threat of extremely high penalties.
1.2 The scope of DOTAS is ever increasing in terms of the taxes covered – SDLT included in 2005, NIC in 2007 and IHT in 2011. The HMRC Consultation Paper ‘Lifting The Lid of Avoidance Schemes” states that the scope of this is only going to widen in other ways:
2.7 The initial focus of DOTAS was upon gaining information about avoidance schemes, particularly new and innovative schemes, to identify loopholes in the law that were being exploited and inform legislation to close them down. DOTAS has performed this role well and has informed over 60 measures in Finance Acts since 2004.
2.8 DOTAS also needs to adapt to keep in step with the changed avoidance environment described in paragraph 2.4. In particular, it is increasingly important for DOTAS to identify avoidance schemes, regardless of whether or not they are new and innovative, to enable communication with users and inform counteraction by operational challenge.
1.3 The attraction to HMRC of DOTAS is that HMRC can work with HMT to amend legislation quicker. At the same time, they are not precluded by reason of any amendment from seeking to collect in cases under the old regime.
1.4 However, there are some mitigating factors at play here. I consider only four of them below.
First observation – Not all planning warrants a legislative response
1.5 The first observation to make is that HMRC might well be reconciled to the tax planning in question. Or more importantly, Parliament might be. I can do no better than quote the words of Lord Nolan in Willoughby  STC 995 at 1002:
The hallmark of tax avoidance is that the taxpayer reduces his liability to tax without incurring the economic consequences that Parliament intended to be suffered by any taxpayer qualifying for such reduction in his tax liability. The hallmark of tax mitigation, on the other hand, is that the taxpayer takes advantage of a fiscally attractive option afforded to him by the tax legislation, and genuinely suffers the economic consequences that Parliament intended to be suffered by those taking advantage of the option.
So, it might simply be that the disclosure does not result in any action being taken at all. Consider, also, the old charge and debt schemes which were implemented in the context of IHT. Not only did Parliament not object to these – it enacted section 8A IHTA to affect the result without any steps being taken!
1.6 That this might be the case (i.e. that there may not be reactive legislation) is implicitly acknowledged by the legislator of the Descriptions Regulations in paragraph 6(2). This provides:
6(2) Arrangements are prescribed if the promoter would, but for the requirements of these Regulations, wish to keep the way in which the element of these arrangements that secures, or might secure, the tax advantage confidential from HMRC at any time following the material date, and a reason for doing so is to facilitate repeated or continued use of the same element, or substantially the same element, in the future.
1.7 However, the guidance seems to have misunderstood the significance of this Description. This provides:
For both promoters and scheme users, the relevant questions to be asked are not hypothetical questions. They do not ask what another promoter may do; what HMRC knows; or how HMRC, the Treasury or Parliament may react if they knew about the scheme (although this may be in the promoter or user’s mind when he forms his decision).
One observation to make here is that this is contradictory – not only does it contradict ITSELF, it also contradicts the immediately following paragraph:
Indicative factors include:
How new, innovative and aggressive the scheme is. Schemes that promoters know to be known to HMRC are not caught by the hallmark. These can be evidenced from, for example, technical guidance notes, case law, or past correspondence with a case officer in HMRC where the detail of how the scheme works has been made clear.
Whether a promoter imposes an obligation upon potential clients, whether in writing or verbally, to keep the details of the scheme confidential from third parties including HMRC. This factor would not be considered if the agreement is a general agreement.
Whether confidentiality agreements, general or specific, between a promoter and client allow the client to disclose information to HMRC without referral to the promoter.
The use of explicit warnings in marketing material or other communications to a client to the effect that the scheme may have a limited ‘shelf life’ because Parliament may act to close it once it became known.
The degree of co-operation to requests for information from HMRC concerning a specific scheme and the reasons for not providing information.
So, is one allowed to take into account how Parliament would respond to the arrangement or not? It’s not clear from the guidance. My own view is that this should be relevant, given how the sub-paragraph is phrased.
1.8 Also, when considering how Parliament would respond to the arrangement, I would submit that the relevant questions to ask are not whether the scheme is new or innovative. As far as I know, Parliament has never objected to innovation in tax planning. Rather, the question, to return to Willoughby, is whether the ‘economic consequences’ are borne.
Second observation: Not all reactive legislation is efficacious
1.9 Let us assume that Parliament would object to the arrangement. The point that emerges is that this does not mean that it will remedy the problem with legislation as effectively as it would like.
1.10 Consider for instance how Parliament reacted to the decision in Padmore v IRC  STC 36, 62 TC 352 – this section 858 of the Income Tax (Trading and Other Income) Act 2005. That section provided that where a UK resident is a member of a foreign partnership firm (i.e. one which resides outside the UK or carries on a trade the control and management of which is outside the UK) and by virtue of DTAs any of the income of the firm is relieved from tax in the UK, the partner is liable to income tax on the partner’s share of the income of the firm despite the DTA. However, this provision did not appear to cater for circumstances in which the taxpayer was not a partner but simply a beneficiary with a life interest in a trust which was the partner. And so it was that further legislation was required to contend with planning of the type exemplified in Huitson  EWCA Civ 893 (the necessary section being section 58 FA 08).
1.11 Consider Part 7A. It still isn’t unambiguously clear to me what the main objective of this legislation is. If it was to dovetail the income tax charge and corporation tax deductions regime, then this could have been achieved by tempering the corporation tax regime alone (so that deductions were contingent upon a tax charge arising). There was no need to create a new income tax charge. To that the reply would be that it was intended to accelerate the income tax charge, which have been deferred through the use of loans. But if that (collecting IT) was the objective, then why only extend this to third parties?
1.12 My preferred – by which I mean most degustative – example of ill-advised legislation is the new corporation tax deductions regime. In Dextra, HMRC lost before the Commissioners. Instead of waiting for the litigation to proceed through the higher tiers, they moved to amend the regime. ‘Provisional emoluments’ under section 43 FA 1989 was replaced with the ‘Employment Benefit Contributions regime’ now found in section 1290 CTA 10. What they didn’t know was that they would succeed in the Court of Appeal and in the House of Lords, the expression ‘provisional emoluments’ being construed widely by these courts. On the other hand, the new ‘Employment Benefit Contribution’ is not considered as casting as wide a prohibition.
1.13 To include a recent example, I consider DV3. This involved the interplay between sub-sale relief and partnerships. It was argued by HMRC that the purchase by the secondary buyer was made from the vendor. It was argued by the taxpayer that the purchase was made from the intermediate party, so that reliance could be placed on the partnership provisions. The Upper Tier Tribunal agreed with the taxpayer. The Tribunal also appears to take the view that this arrangement is now obsolete:
 … Similarly, if the relevant transactions had taken place a few months later, they would probably have been caught by anti-avoidance provisions in sections 75A to 75C of FA 2003 which were enacted in relation to disposals taking place on or after 6 December 2006. Thus the loophole of which the Company and the Partnership have, if I am right, succeeded in taking advantage was open for only a short period, and it appears to reflect a period of considerable legislative uncertainty about how to deal with transfers involving a partnership.
It is not clear to me that this is the case. Or, to put it more particularly, it may be that section 75A blocks this particular arrangement but it does not preclude a continued use of the element – sub-sale relief and dividends in specie.
1.14 The point that emerges from all this is that new legislation does not in itself preclude planning potential – and sometimes it will give rise to it. Quite apart from constituting a point which in itself is worth bearing in mind, it also implies that a fear of new legislation need not always be assumed on the part of the promoter for the purposes of the constituent rules, such as paragraph 6(2) of the Descriptions Regulations cited above.
Third observation: Putting penalties in perspective
1.15 The DOTAS provisions are not especially well-drafted. If the provisions are so badly drafted, why has the disclosure rate been so high? The fear of penalties exigible under secion 98C TMA. This provides:
98C Notification under Part 7 of Finance Act 2004
(1) A person who fails to comply with any of the provisions of Part 7 of the Finance Act 2004 (disclosure of tax avoidance schemes) mentioned in subsection (2) below shall be liable—
(a) to a penalty not exceeding
(i) in the case of a provision mentioned in paragraph (a), (b) or (c) of that subsection, £600 for each day during the initial period (but see also subsections (2A), (2B) and (2ZC) below), and
(ii) in any other case, £5,000], and
(b) if the failure continues after a penalty is imposed under paragraph (a) above, to a further penalty or penalties not exceeding £600 for each day on which the failure continues after the day on which the penalty under paragraph (a) was imposed (but excluding any day for which a penalty under this paragraph has already been imposed).
(2ZB) The amount of a penalty under subsection (1)(a)(i) is to be arrived at after taking account of all relevant considerations, including the desirability of its being set at a level which appears appropriate for deterring the person, or other persons, from similar failures to comply on future occasions having regard (in particular)—
(a) in the case of a penalty for a person’s failure to comply with section 308(1) or (3), to the amount of any fees received, or likely to have been received, by the person in connection with the notifiable proposal (or arrangements implementing the notifiable proposal), or with the notifiable arrangements, and
(b) in the case of a penalty for a person’s failure to comply with section 309(1) or 310, to the amount of any advantage gained, or sought to be gained, by the person in relation to any tax prescribed under section 306(1)(b) in relation to the notifiable arrangements.
(2ZC) If the maximum penalty under subsection (1)(a)(i) above appears inappropriately low after taking account of those considerations, the penalty is to be of such amount not exceeding £1 million as appears appropriate having regard to those considerations.
1.16 However, the provisions may not be as minatory as first appears.
1.17 (2ZB) is a rare example in UK tax law where a demonstrative penalty can be set – i.e. the penalty can be set with a view to deterring other persons. As far as (2ZB)(a) is concerned, there may be a difference between the fees received by ‘the person’ and the fees received by his employer. In most cases, ‘the person’ will not receive any fees, he will simply receive his salary. Of course, the problem is that the employer itself may be a promoter:
307 Meaning of “promoter”
(1) For the purposes of this Part a person is a promoter—
(a) in relation to a notifiable proposal, if, in the course of a relevant
business, the person (“P”)—
(i) is to any extent responsible for the design of the proposed
(ii) makes a firm approach to another person (“C”) in relation to the
notifiable proposal with a view to P making the notifiable proposal
available for implementation by C or any other person, or
(iii) makes the notifiable proposal available for implementation by other persons, and
(b) in relation to notifiable arrangements, if he is by virtue of paragraph (a)(ii) [or (iii)] a promoter in relation to a notifiable proposal which is implemented by those arrangements or if, in the course of a relevant business, he is to any extent responsible for—
(i) the design of the arrangements, or
(ii) the organisation or management of the arrangements.
The fact that the employer might be a promoter is made clear in the Guidance:
3.2 Who is a promoter? (FA 2004, s.307) You may be a promoter if, in the course of providing services relating to taxation (or, where applicable, National Insurance contributions), or if you are a bank or securities house, you:
are to any extent responsible for the design of a scheme;
make a firm approach to another person with a view to making a scheme available for implementation by that person or others;
make a scheme available for implementation by others; or
organise or manage the implementation of a scheme.
However, there may be a solution involving co-promoters (which I do not discuss here).
1.18 There are other issues with penalties. In IRC v Mercury Tax Group Ltd  UKSPC SPC00737 (17 February 2009), Dr. Avery Jones arrived at the conclusion:
13. Although Mr Angiolini contends that the opinion is short on analysis, the more important point is that Mercury went to the trouble and expense of taking counsel’s opinion. Counsel addresses his or her mind to the point and reaches a justifiable conclusion, with which I happen to agree. The contrary point of view is not set out but is mentioned in para 10. I consider that it would be wrong to penalise Mercury if (on the assumption I am now making that my decision is wrong) that opinion was also wrong. Other than to take advice there is nothing else they could do; they could hardly ask HMRC whether they agreed without disclosing the scheme in the process. In my view Mercury acted properly in relying on counsel’s opinion and arguing the case as a matter of principle rather than taking a view themselves and paying the penalty if they were found to be wrong, which I suspect would have been cheaper. If therefore I am wrong in deciding that the scheme is not notifiable and a penalty is payable I would fix the amount at nil.
1.19 I am curious to know which barrister this is whose fees are more than the DOTAS penalties. Tellingly, even Dr. Jones did not know who the barrister was – so he must assume that the DOTAS penalty would not have been very high in any event – by which I mean he did not even consider that the penalty would be towards the higher end of the prescribed scale. The starting point was low and (2ZC) was not even in contemplation.
1.20 The primary point that emerges in this context, of course, is that if the promoter goes through the expense and trouble of getting advice from counsel and then acts in reliance of it, it should not be the case that a penalty is exigible. If reliance is to be placed on the advice, then it must be sought well within time. Otherwise the claim may not be acceptable.
1.21 Even if advice is sought from counsel and that advice is wrong, then there is, according to this quotation, no basis for the imposition of a penalty.
1.22 Of course, it helps if counsel’s advice is justifiable and the position is even better when it is downright correct. Promoter Promoters should therefore consider obtaining advice from a specialist in DOTAS before disclosing in a rush. There is no objection to seeking advice from someone other than the barrister from whom advice is sought in relation to the scheme – indeed, anything which evinces extra expense and trouble is helpful.
1.23 (The other thing I find interesting here is the fact that he agreed with the reasoning of the barrister. I turn to this later).
1.24 HMRC have the following to say about this in their publication Lifting the Lid on Tax Avoidance Schemes 23rd July 2009:
4.11 If the promoter eventually agrees that the scheme is discloseable, they will generally rely upon the fact they have legal opinion that the scheme was not discloseable as providing ‘reasonable excuse’ for non-disclosure. Where reasonable excuse applies, the effect is that there is no failure to comply with the rules. HMRC’s view, as described in its published guidance, is that whether or not the obtaining of legal advice provides reasonable excuse is contextual and not absolute. However, it acknowledges that not all promoters agree with that view.
I find this hard to reconcile with the Mercury decision. It continues:
4.13 The Government considers that, in the particular circumstances of DOTAS, there is a case for raising the hurdle for a reasonable excuse as extinguishing a prima facie breach of the rules (e.g. to where the promoter relied upon a reasonable interpretation of both fact and law).
So, the hurdle for claiming ‘reasonable excuse’ is to be raised – yet another sacrosanct cornerstone of the tax regime is being tinkered with. Howsoever the new ‘reasonable excuse’ test is framed, however, I would expect that obtaining counsel’s advice would suffice.
Fourth observation: The DOTAS provisions themselves are poorly drafted
1.25 However, the DOTAS provisions are poorly drafted (and I am surprised that there have been so many disclosures under DOTAS that might result in 60 legislative amendments). I seem to be in good company. As per Dr. John Avery Jones in Mercury:
8. I find the Regulations hard to interpret….
Though he is referring to a superseded regulation, the style of the provisions remains similar today and, in particular, the problematic way in which the question of causation is poised. In the remaining part of this piece, I consider Hallmarks 1(a) and (b).
Hallmark 1(a) – Confidentiality from Promoters
1.26 I don’t intend to highlight all the difficulties present in the DOTAS provisions here. However, I would like to mention some found in sub-paragraphs 6(1) (Hallmark 1(a)) and sub-paragraph 6(2) (Hallmark 1(b)) of the DOTAS Descriptions Regulations. I start with the first:
6(1) Arrangements are prescribed if —
(a) any element of the arrangements (including the way in which the arrangements are structured) gives rise to the tax advantage expected to be obtained under the arrangements; and
(b) it might reasonably be expected that a promoter would wish the way in which that element of those arrangements secures, or might secure, a tax advantage to be kept confidential from any other promoter at any time following the material date.
First observation – Causation
1.27 The question being posed here is not whether:
the promoter would wish to keep the element confidential from any other promoter.
The question rather is whether:
he would wish to keep the way in which that element of those arrangements confidential from another promoter.
Can there be a distinction between ‘the element of the arrangements…which gives rise to a tax advantage’ and ‘the way in which that element secures a tax advantage’? If so, it might be argued that the actual arrangement falls within the former and the relevant provision might fall within the latter. I struggled with this and privately came to the conclusion that there could not be. The answer comes partly the parenthesized part in (a):
any element of the arrangements (including the way in which the arrangements are structured)….
When the italicized portion in (b) is read in conjunction with this, then the question which emerges is:
Would the promoter wish to keep the way in which [the way in which the arrangements are structured] secures or might secure the tax advantage confidential from any other promoter?
To me this suggests that what is being asked here is simply how the design secures the tax advantage and whether this is something the promoter would wish to keep confidential from any other promoter. In light of this it should not be possible to argue that the ‘way in which the element achieves the tax advantage’ is through a particular provision and that this section, being the law, is not something the promoter would wish to keep confidential.
1.28 However, unexpected support for a contrary view of things comes from the Mercury case. The scheme was as follows (as outlined by Dr. Jones):
The scheme in outline consists of high income individuals forming a Jersey limited partnership (Liberty 1) for carrying on a financial trade and contributing capital equal to the tax loss they wish to create. An offshore parent company (SPV1) has a subsidiary (SPV2). SPV2 declares a large dividend out of its share premium account. SPV1 sells the right to the dividend to Liberty 1 for an amount equal to the dividend, which is paid for by the partners’ contributions, following which Liberty 1 receives the dividend. The scheme is said to work (it is no part of these proceedings to decide whether it does work) because s 730 of the Income and Corporation Taxes Act 1988 (‘the Taxes Act 1988’) provides that the seller of the right to the dividend (SPV1) is taxable on it and not the recipient (Liberty 1), while the cost of purchasing the dividend is deductible on general principles as being expenditure incurred in the course of the financial trade of Liberty 1.
The question arose as to whether this should have been disclosed under paragraph 6(1) of the old 2004 Prescribed Descriptions Regulations:
6—(1) The arrangements specified in this Part are those which—
(a) satisfy the condition in sub-paragraph (2); and
(b) include one or more of the financial products to which paragraph 7 applies,
unless they are arrangements that are excluded by paragraph 8.
(2) The condition is that the tax advantage expected to be obtained under the arrangements arises, to a significant degree, from the inclusion in those arrangements of the financial product or any of the financial products to which paragraph 7 applies.
It was clear that a share constituted a ‘financial product’ for the purposes of paragraph 7. So, the question being posed here is does the tax advantage arise (to a significant degree) from the financial product (in this case, the shares in SPV2 held by SPV1) – or from something else? This is what Dr. Jones had to say:
I find condition (2) more difficult to apply. Does the expected tax advantage arise from the inclusion of a share in the arrangements, or from something else? The more proximate cause of the expected tax advantage is the purchase of the right to the dividend. The inclusion of the share in the arrangements is much more a ‘but for’ cause, that but for the inclusion of the share there would be no dividend and therefore no expected tax advantage. I consider that the Regulations are looking at the proximate cause of the expected tax advantage, which is not therefore from the inclusion of a share in the arrangements.
So, where then does the tax advantage derive from? The anonymous barrister, on whose advice the taxpayer relied, concluded:
10. A further prescribed financial product is a share and whilst, of course, shares are involved in the Liberty proposal, it is not, in my opinion, the involvement of a share that produces to a significant degree the tax advantage in question.
13. More particularly, I am of the opinion that the tax advantage arises by virtue of the clear wording of s 730 of the Taxes Act 1988 which provides that in certain circumstances, within which the Liberty arrangement falls, the receipt of a distribution is not charged to tax in the hands of the recipient. Further a payment for such a dividend right, under general tax principles is deductible. It is the mismatch between the tax free receipt and the tax deductible payment which produces a loss which may be accessed to the individual members pursuant to sections 380 and 381 Taxes Act 1988: no financial product produces the advantage per se in my opinion.
In other words, the proximate cause was section 730 ICTA – even though the presence of a financial product (in the form of shares in SPV2) was necessary, this was not the ‘proximate cause’. Dr. Jones found this to be justifiable.
1.29 What this shows, among other things, is that questions such as what it is that causes a tax advantage (certainly in the context of DOTAS) are relatively new concepts. (I am making a contra-distinction from questions such as the purpose for which the transactions are entered into – such as posed by TAA or TiS). Even though an element might be necessary in order to obtain a tax advantage, it does not necessarily follow that it is what causes to ‘arise’ (to refer to the old paragraph 6) or what ‘secures’ (to refer to the new paragraph 6) the tax advantage. Remoteness is a consideration too.
1.30 I like this sort of argument – because it is fact-specific. It does not etiolate the provision altogether, to make any such attempt would be to run the risk of suggesting that the legislator has acted in vain in providing this provision. A dangerous idea at the best of times. Far better to restrict the provisions.
1.31 Moving on, if one considers the phrase ‘the way in which that element of those arrangements secures, or might secure, a tax advantage’ in the current paragraph 6(1)(b) through the prism of the Mercury case, then it might be possible to argue that what ‘secures’ the tax advantage (i.e. the proximate cause) is not a particular element (be it a financial product or otherwise) but that it is simply the relevant provision. On this basis, it might then be concluded that the provision (or indeed even the way the provision interacts with the predicate facts of the arrangement) is not something which the promoter wishes to keep confidential from another promoter. What he really wants to keep confidential from another promoter is the arrangement itself. Once the arrangement is made public, then the way in which it secures the tax advantage can be readily inferred by another promoter.
Second observation – Efficacy
1.32 In the current paragraph 6(1)(b), I am not sure what is meant by the expression ‘might secure…a tax advantage’:
(b) it might reasonably be expected that a promoter would wish the way in which that element of those arrangements secures, or might secure, a tax advantage to be kept confidential from any other promoter at any time following the material date.
The legislator’s implicit acknowledgement here that there may be some uncertainty as to whether a series of steps may or may not result in taxation under the law is astonishing to me, As a matter of philosophy, the position under the law is meant to be clear:
We shall all agree that Mr. Smith (say) is mortal and we may, loosely, say that we know this because we know that all men are mortal. But what we really know is not ‘all men are mortal’; we know rather something like ‘all men who are born more than one hundred and fifty years ago are mortal, and so are almost all men born more than one hundred years ago.’ This is our reason for thinking that Mr. Smith will die. But this argument is an induction, not a deduction. It has less cogency than a deduction, and yields only a probability, not a certainty; but on the other hand it gives new knowledge, which deduction does not. All the important inferences outside logic and pure mathematics are inductive, not deductive; the only exceptions are law and theology, each of which derives its first principles from an unquestionable text viz the statute books or the scripture.
– Bertrand Russell, A History of Western Philosophy, 1946 (Chapter 22, Aristotle’s Logic).
Whilst it may be common for the class of lawyers or judges to manifest some uncertainty as to how the law is to be interpreted, an admission by the legislator himself that his words may be unclear is altogether new to me – though such an admission does go some way towards illiciting sympathy in those cases where the members of the former class do struggle.
1.33 There is another point that follows from this. As I say, an element of an arrangement (or the arrangement itself) either secures a tax advantage or it doesn’t. If it doesn’t (i.e. even if it is subsequently found or rather held by a court not to), it is arguable that the element or the arrangement was not notifiable under paragraph 6(1)(b) in the first place. Of course, this particular argument is not very attractive – the scheme doesn’t work and it is not disclosable. What we want is a scheme that does work and is not disclosable – however, there will be circumstances in the real world where a scheme is found not to work and the occlusion of a DOTAS liability will be welcome there.
Third observation – The Standard
1.34 There is another feature of Regulation 6(1)(b) which is worth considering – it is the way in which the standard is prescribed:
(b) it might reasonably be expected that a promoter would wish the way in which that element of those arrangements secures, or might secure, a tax advantage to be kept confidential from any other promoter at any time following the material date.
We have already considered the definition of ‘promoter’ above. What emerges from that definition is that there may be more than one promoter within an organization or else the organization and the employee or independent advisor may together constitute two promoters. There will usually be at least one person who designs the arrangement and another who makes it available to another person. The question arises as to whether in such circumstances the arrangement would fall outside this regulation.
1.35 The Guidance seems to insert a qualification:
The test would be answered in the affirmative if an element of the scheme were sufficiently new and innovative that a promoter would want the details to remain secret in order to maintain their competitive advantage and ability to earn fees.
This interpretation seems to suggest that the test is whether:
(b) it might reasonably be expected that a promoter would wish the way in which that element of those arrangements secures, or might secure, a tax advantage to be kept confidential from any other promoter at any time following the material date in order to maintain their competitive advantage and ability to earn fees.
There are various points to make about this interpretation:
(a) First, this seems more acceptable as a matter of policy.
(b) Second, it does not undermine the provision in a way it would be if the standard was set so high that most arrangements would fall outside it – the objection that one does not fall within it is more a propos and not a priori, and so the legislator is not considered to have acted in vain.
(c) Third, it might be said that there is indeed some literal basis on which to erect this construction – that is through the words ‘at any time following the material date’. In other words, the promoter might be resigned to disclosing it prior to the implementation where necessary but he would not be so after implementation.
1.36 On the other hand, there are problems with this interpretation too. Sometimes – often! – a promoter would wish to disclose to another promoter (such as a barrister or an employee) with the particular view to maintaining their competitive advantage and their ability to earn fees. Furthermore, the definition of ‘material date’ refers (in the context of section 308(1)) to the first time the promoter makes a firm approach to another person: paragraph 2(2) Descriptions Regulations 2006. So, it is likely, in many cases, that he will still wish to disclose to other promoters even after the material date – especially if he is to implement the arrangement more than once (which you would expect him to do if he is to keep a competitive edge and maintain his ability to earn fees).
1.37 Given the uncertainty, I think it would be reasonable to place reliance on the literal interpretation. It is also worth noting that the literal interpretation does not mean that the provision is rendered otiose – as indeed there are arrangements which I have developed which I in fact do wish to keep confidential from any other promoter, quite simply because they are that esoteric. This must be true of other promoters too. Finally, it worth bearing in mind the comments of Dr. Jones in Mercury – and he clearly made a distinction between arriving at the right conclusion and a justifiable one. The latter would also suffice to completely mitigate penalties (indeed, he indicates that a wrong one might suffice too where it is obtained from third party counsel). A literal interpretation must be justifiable. And once the ‘reasonable excuse’ threshold is raised in the future, I would assume that to place reliance on a literal interpretation would continue to be reasonable too.
1.38 As for the recent HMRC paper, Lifting The Lid of Tax Avoidance Schemes, this does not address paragraph 6(1)(a) in much detail and provides simply:
5.13 HMRC has seen a number of schemes that it would have expected to have been disclosed under this hallmark, in particular under the second test [Confidentiality from HMRC], which have not been disclosed (e.g. schemes that purport to circumvent the Disguised Remuneration legislation in Part 7A of ITEPA).
It would not appear from this that this Hallmark (Confidentiality from Promoters) is to be amended.
Hallmark 1(b) – Confidentiality from HMRC
1.39 I do not intend to cover this sub-paragraph in detail. However, there are some quick observations I would like to make and then mention the legislative changes being contemplated.
1.40 Paragraph 6(2) of the Prescribed Descriptions Regulations provides:
(2) Arrangements are prescribed if the promoter would, but for the requirements of these Regulations, wish to keep the way in which the element of these arrangements that secures, or might secure, the tax advantage confidential from HMRC at any time following the material date, and a reason for doing so is to facilitate repeated or continued use of the same element, or substantially the same element, in the future.
Lifting the Lid on Tax Avoidance Schemes states that one way which in which this differs from Hallmark 1(a) is that this is a subjective test whereas the other is an objective test. However, this appears to me to be an objective test too – ‘would’.
1.41 I have already discussed issues of causation and remoteness above in the context of Hallmark 1(a).
1.42 One difference here is that the purpose of confidentiality is articulated. There are three points to make in the context of this purpose:
(a) As I have outlined at the start, not all tax planning will result in legislation;
(b) The standard is not as high as one might think. The test is not whether the promoter would wish to keep the arrangement confidential to maximize repeated use in the future – rather it is simply that he would wish to keep it confidential to facilitate repeated use in the future.
Now, given the deliberation which (rightly, for the reasons given above) attends and retards the amendment of legislation, a promoter would be fairly confident in most cases that he would be able to implement the scheme at least twice more time in the future even if the arrangement were disclosed to HMRC.
If the area involved is such that the promoter might reasonably believe that he could implement the arrangement a couple of more times in the future even if HMRC sought to legislate against it, it is questionable whether the arrangement would fall within this description;
(c) What about the effect of the GAAR? If the arrangement is one that might be caught by the forthcoming GAAR, then it is questionable that the promoter would fear future legislation in any event.
One example might be sub-sale relief in SDLT. Even though certain reliance on this provision was considered objectionable, HMT have responded with the insertion of section 45(1A) FA 03 through section 212 FA 12 – which only attacks a particular version of the sub-sale arrangements using options. It might be that they consider that the wider problem will be dealt with by GAAR. The promoter has little to fear as a result of HMRC becoming aware of this arrangement.
It might be thought that this argument cannot be relied upon once the GAAR comes into effect – because if the arrangement is caught by GAAR, then the scheme is inefficacious in any event. (In such circumstances, it could apply in the period before the introduction of GAAR.) However, the argument may well be tenable even after GAAR comes into force. This because the view may be taken that if the arrangement is not caught by GAAR, then it is reasonable and, on that basis, there is no reason as to why HMRC might wish to legislate against it in the future.
1.43 Lifting the Lid on Tax Avoidance Schemes provides that the test will be made objective. As I say, this should not constitute a change at all. They also provide:
5.17 The Government also proposes to make explicit that a scheme will fall within the second test if the promoter imposes specific conditions of confidentiality on the client, which will include instances where the promotion or implementation of the scheme is conducted with a degree of secrecy such that the client is not given or allowed to keep the promotional material, plans, legal, tax or financial analysis and opinions or commentaries from advisers, counterparties or promoters.
In my own practice, I have been an advocate of showing the lay client as much documentation as possible so that he makes an informed choice.
In this piece, I have considered the potency of the DOTAS legislation.
I have aimed to show that not all tax planning will result in legislation and that not all legislation will preclude the supposed tax advantage sought. These are points which are not only of comfort in themselves, but, for the reasons given above, they ought also have some bearing on the question of whether and how the DOTAS legislation is to be complied with in a given case. In addition, I have also highlighted certain problems with the provisions imposing penalties and, also, those describing the arrangements which are to be disclosed.
In light of the Mercury Tax Group case, a promoter would be well-advised to obtain from a specialist in this area a separate opinion on the applicability of the DOTAS obligations to any tax arrangements.
– Based on a speech I gave at a Tax Chambers Seminar in December 2012
TAA and the Overkill Defence
Best to be prudent and kill them all, God will know his own kind!
– The Bishop at the gates of Beziers
First, A Past Instance of Overkill
Sometimes in the course of his or her submissions, a barrister will employ the technique of reductio ad absurdum, such as that employed by Euclid in his proof that there are an infinite number of prime numbers. Sadly, one finds that the judges are sometimes skeptical of such techniques, viewing them as a rouse to obfuscate the analysis of the case at hand through the introduction of far-fetched hypothetical instances. However, a decision-maker would do well to remember the salutary lessons from Congreve, where a body no less distinguished than the supreme court of the land failed to take into account the wider ramifications of interpreting the law as it did. When presented with the deeply unjust but inevitable consequences of its decision in the case of Vestey thirty years later, the court had no choice but to depart from its previous decision, expressly conceding as it did so that a whole range of cases had been decided erroneously in the interim and that many hundreds of cases would have been wrongly settled without resistance.
There are two questions which had dogged the area of TAA for a number of years. First, the question as to who was liable under these provisions and, in particular, whether a non-transferor could be liable. Second, what the amount of liability is to be (assuming that the person is in fact liable). The case of Congreve required the answering of both these questions. Mrs. Congreve’s father had 93,000 of 1000,000 shares in Company A. He transferred 60,000 of these to International Gas Processes Corporation in return for shares in the latter. He then gifted these shares to Mrs. Congreve along with 5,000 shares in Company A. Company B was incorporated in Canada. It purchased shares from International Gas in Company A in return for 995 of its 1,000 shares. International Gas was then liquidated, so that the shares in Company B were distributed as dividends in specie to Mrs. Congreve. Company B then bought 5,000 shares in Company A from Mrs. Congreve and the father’s remaining shares in that company from him. So, Mrs. Congreve ended up owning the entirety of the share capital in Company B, which in turn owned the bulk of the share capital in Company A.
The question arose as to whether Mrs. Congreve could be assessed under the TAA provisions on the basis that her rights did not ‘wholly or mainly spring from a transfer of assets affected by her’ – it was not of course disputed that there had been a transfer by her at all. It was held by the House of Lords that there could be no objection to her being so assessed. Indeed, their Lordships went further and held that she could have been so assessed even if no transfer had been affected by her at all. Finally, they also held that Mrs. Congreve could be assessed on the entirety of the income of Company B. This was in 1948.
In 1980, the House of Lords was faced with an extraordinary set of facts in the form of Vestey. Two settlors had made a trust in 1942. Certain payments were made to discretionary beneficiaries from 1962 to 1966. HMRC assessed the recipients to income tax on the distributions under the TAA provisions. HMRC then did something remarkable. It went back six years and assessed these beneficiaries to tax on a proportion of the entirety of the income of trust in each of those six years, irrespective of the fact that the beneficiary had not received a payment in that particular year and irrespective of the fact that there was no correlation between the income arising to the trustee and the distribution to the beneficiaries (the exact basis adopted by them was the proportion which the distribution of a particular beneficiary bore to the income of the trustees in each year). One beneficiary was called Mrs. Baddeley. She received a distribution in 1966-67 of £100,000. HMRC went back each of the six years and assessed her (or rather, her husband) to £270,000. The Commissioners did not see any problem with this and insisted that Mr. Baddeley could in fact have been assessed many times this amount. The House of Lords could not allow this. But nor could they allow the particular get-out which HMRC put forward, which was for allocations to be made among the various beneficiaries on an extra-statutory basis. As per Lord Wilberforce (citing the judge in the court below him):
One should be taxed by law, and not be untaxed by concession.
(Though for a subsequent acceptance of concessions, see ex-parte Fulford Dobson). Their Lordships ultimately decided that the decision arrived at in Congreve had to be departed from, so that the various recipients in this case, being non-transferors, could not be assessed at all. In doing so, they acknowledged the huge cost which the taxpayer would have unjustly borne over the preceding thirty years by reason of that court’s earlier reluctance to consider the reductio ad absurdum argument and to interpret the legislation as a comprehensive matrix which would cater robustly to circumstances which were, after all, not that unforseeable. As per Lord Wilberforce:
We now have to face the fact that this House decided otherwise, unanimously, and affirming the Court of Appeal. That was 30 years ago, the decision has been followed in reported cases (Bambridge v. Inland Revenue Commissioners  1 W.L.R. 1329, Philippi v. Inland Revenue Commissioners  1 W.L.R. 1272) and no doubt many persons have been taxed on the basis of it, without resistance.
The exact number of victims may never be known.
However, my objective here is not to remonstrate – for just one instance among many in which legislative overkill has been adroitly tackled by the courts, one has to consider only the settlements code. It just so happened that in the case of Congreve the courts were fettered to largely unwieldy language. The question which interests me now is this: What was it about the HMRC assessments in Vestey which their Lordships found so objectionable? Was it the mere fact that non-transferors were being assessed? Or was it the fact that non-transferors were being assessed on income they had never received? In other words, was it the incidence of liability or was it more the unfettered extent of it? The question is relevant today because it might cast some light on how the courts would react to another instance in the tax system of ‘overkill’. The particular instance I have in mind is also within the context of TAA – and I discuss it below.
For Lord Wilberforce, it was more the question of incidence. He accepts that the TAA rules might be viewed as penal provisions as was held in Howard de Walden. However, this does not mean that they are intended to penalize non-transferors (including persons who may never in fact benefit from the income arising to the person abroad). In his words, ‘to visit the sins of the transferor on future generations’ was not permissible. For Viscount Dilhorne, the objection lay more on the unfettered liability that HMRC’s approach gave rise to. At page 1184:
I share Walton J.’s view that Parliament cannot have intended that a person, it might be unborn at the time of the transfer of assets, should be chargeable to tax on the whole of the income of the foreigner if he acquired rights giving him power to enjoy part of that income or received or was entitled to receive a capital sum coming within subsection (2) and without limit of time or that the revenue should be able to recover multiple tax if there were a number of such individuals.
(His Lordship goes one further and seems to discount the application of TAA contemporaneously to multiple persons in respect of the same income – something which Congreve or Vestey were not strictly concerned with). Lord Edmund-Davies was much influenced by the scope of the potential charge to which the beneficiaries would be exposed and so was Lord Keith of Kinkel. Their Lordships also took into account the textual argument which had been put forward on behalf of the taxpayers, though it appears to me that it was the policy consideration which was really determinative. The important point which emerges from all this is that even though in Vestey the court restricted the scope of the legislation on the basis of the fact that the assessed individuals were not transferors, what really riled them was the extent and number of the assessments which might be potentially unleashed should that bar not be raised. The overkill was, for them, over the top.
Under the TAA provisions as they are now, there appears to be a clear dichotomy between the original provisions which are accepted as applying to transferors and the subsequently added provisions which apply to non-transferors. The question of incidence has thus been made relatively clear (though as to who constitutes a transferor or a quasi-transferor still continues to involve a value judgment). However, the question of what the extent of liability of a transferor is still appears to be capable of causing confusion and raising dispute.
Let us take the case where (say) a hundred individuals pay £100 to a trust with non-resident trustees of a discretionary trust with a view to avoiding tax which be payable by him on the interest. The income of the trust is £10,000 arising from these contributions. The transferors are beneficiaries of the trust. In such circumstances, the apportionment provision at section 743 requires for an apportionment of the £10,000 on a just and reasonable basis. The provisions thus go some way towards addressing the problems which may arise where there are multiple transferors, as in the instance above, even though the HMRC official would have some discretion in the matter.
However, what the provisions do not appear to me to yet take into account is the circumstance where the person abroad has income arising from unrelated sources. The recent introduction of section 721(3B) ITA by FA 2013 provides:
(3B) The amount of the income treated as arising under subsection (1) is equal to the amount of the income of the person abroad (subject to sections 724 and 725).
Take the facts of Congreve for instance, where the taxpayer transferred shares to a person abroad who had income other than that arising from those shares. (Such an occurrence was in fact forseen by Lord Greene MR in Howard de Walden). In such circumstances, HMRC might argue that it is the entirety of the income of the person abroad which would be allocated to the transferor, notwithstanding the overkill. If a succession of such cases were to arise then it is possible that history would repeat itself, with HMRC first bringing a case which would illicit the sympathy of the courts and secure for them a precedent (as in Congreve) and then a taxpayer would appeal in a more unjust case and in which he may well persuade the courts to bless a get-out from the charge (as in Vestey).
In the event of an appeal being made by a taxpayer in such circumstances, it would at the very least be arguable that the legislation was not ‘punitive’. Indeed, it would appear to me, as it did to Walton J in Vestey, to be strange if the penalty were somehow contingent upon the extent of the income arising to the person abroad as there would, of course, be no correlation between the penalty and the particular ‘crime’ (to use the word of Walton J in Vestey). In my view, the rule is perhaps better described as ‘preventative’ or ‘restorative’, having as it does an intention to restore the position to what it would have been had the transfer not been made and, in doing so, to provide a disincentive in making such transfers in the first place. Rather fortuitously, the provisions themselves provide some insight into the objectives of the legislator:
(1) The charge under this section applies for the purpose of preventing the avoiding of liability to income tax by individuals who are . . . UK resident by means of relevant transfers.
Finally, the inclusion of the apportionment provisions at section 743 ITA in the case of multiple transferors indicates to me that even to the extent that the provisions may at some time have been punitive, they are no longer intended to be so. There can be no reason for relieving, in the case of multiple transferors, one transferor from tax on the income from transfers made by other transferors and, at the same time, charging a single transferor on unrelated income arising to the person abroad.
In addition to policy considerations, it would, but of course, be necessary for the courts to have some literal basis on which to provide a get-out. In Vestey, as seen above, the get-out came in the form of restricting the person liable to the transferor and there was indeed sufficient basis in the language on which this view might be founded. In the case of section 721(3B), the argument would have to lie in restricting the definition of ‘the income of the person abroad’. The approach would not be to restrict this expression by reference to the transferor’s power to enjoy (as was unsuccessfully attempted in Howard de Walden) but instead by reference to income which can be traced back to the transferred asset (such an approach was by no means ruled out in Howard de Walden – it just so happened that in that case all the income of the person abroad could in fact be traced back to the transferor’s assets – and the same is true of Lord Simonds leading speech in Congreve). It is at least arguable that section 721(3B) is amenable to such an interpretation – as the expression ‘the income’ there could be referred back to ‘relevant transfer’ and the income mentioned therein. Another opening in the text might be found in cases involving multiple transferors. In such circumstances, section 743 would give leeway not only as to who is to be charged but also the extent to which he is to be charged.
It is desirable that legislation is interpreted in a way which not only answers to the fact of the case at hand but goes further and provides a comprehensive matrix which caters to all forseeable scenarios and the possibility of gross overkill. The failure to do so in Congreve lead to the courts having to back-track thirty years later, with dire consequences for many hundreds of taxpayers in the interim.
Even today, the TAA legislation has facets which might result in reckless assessments. If such assessments were to be made, it is not inconceivable that further restrictions (or, depending on how one views it, clarifications) may be necessitated. In the meantime, in cases where a liability to the transferor may arise under TAA, it would be desirable to ensure that the person abroad did not have any other income arising to him from unrelated sources (unless that income is attributable to transfers made by other transferors).
This piece is based on a speech I delivered at the Tax Chambers seminar in April 2013.
1. Background to the recent consultation and legislation
HMRC withdrew their publication, IR20 in 2009. IR20 had been relied upon by many thousands of taxpayers in good faith since its introduction in 1973. It was thought to provide a relatively clear test of individual tax residence which was significantly based on numbers and, in particular, day-counts.
As it happens, the Gaines-Cooper Supreme Court decision indicates that the tests in IR20 were perhaps not as clear as might have first appeared. For instance, consider Lord Wilson’s discussion on the meaning of the words ‘leave’ and ‘visit’ in the context of the ‘Leaving the UK to Work Full-time Abroad’ exemption. However, these perceived ambiguities had not often been raised by HMRC in practice and so, on the whole, the document had represented a halcyon period of clarity in this area.
The withdrawal of IR20 was followed by the introduction of HMRC6. This was far less clear and, further, it was expressly qualified so that HMRC do not consider themselves bound by it. So, the withdrawal of the IR20 effectively represented a reversion to the unclear position as it had been prior to the introduction of IR20 in 1973. The position then had been governed by the common law test. This test was amorphous. The cases demonstrate little legal analysis and there seemed to be an assumption that there was such a thing as a commonsensical or lexical meaning of residence and that once all the facts had been ascertained, one would arrive at a natural conclusion as to whether or not a person was resident in the UK.
The government accepted in 2011 that reliance on the common law test or HMRC6 was not acceptable. Among other things, the vague rules could deter investors from abroad who seek certainty and this in turn could affect growth: paragraph 1.6 of the consultation paper. A consultation was set up in July 2011 to consider the introduction of a statutory test of residence. The 12 week long consultation on changes came to an end on the 9th September 2011. In June 2012, HMRC provided a summary of responses to the consultation and how HMRC intended to react to them. HMRC have more recently provided draft legislation, the latest version of which is now found in schedule 43 of the Finance Bill 2013. The new rules will apply from the 6th April 2013.
2. SRT overview
It had been expected that the government would introduce a simple day-count system, as exists in most other jurisdictions. However, the produced draft proposes something more complex.
The proposed scheme is tripartite. Under them, one will be resident if:
(i) one satisfies one of the Automatic UK Tests (initially called Part A); OR
(ii) the Sufficient Ties Test (Part C); AND
(iii) does not satisfy any one of the Automatic Overseas Tests (Part B).
So, the expression ‘Automatic UK Test’ is a misnomer because satisfying one of them does not mean that one is automatically resident (this can be trumped by the Automatic Overseas Test). The only reference to ‘Automatic’ which is correct is in relation to the Automatic Overseas Tests.
As the Automatic Overseas Tests are the only true automatic tests, I start with them despite the order of the provisions (and I suspect that practitioners will follow the same methodology).
At first glance, the Automatic tests (UK and Overseas) appear to address extreme situations. On this basis, it might be thought that there cannot be an overlap between them. However, as we shall see, this is not the case.
2.1 Day in the UK
This is a seminal concept, relevant to all three parts. The test for this will remain the same. A day counts if the individual is in the UK at midnight – though that day will not count if it is spent solely for reasons of transit or exceptional circumstances (these being subject to a 60 day cap).
In addition, there is a deeming rule in paragraph 23(3) to (5) (which where it applies takes precedence under paragraph 23(2)):
(3) The deeming rule applies if:
(a) P has at least 3 UK ties for a tax year,
(b) the number of days in that tax year when P is present in the UK at some point in the day but not at the end of the day (‘qualifying days’) is more than 30, and
(c) P was resident in the UK for at least one of the 3 tax years preceding that tax year.
(4) The deeming rule is that once the number of qualifying days in the tax year reaches 30 (counting forward from the start of the tax year), each subsequent qualifying day in the tax year is to be treated as a day spent by P in the UK.
The deeming rule does not apply for the purposes of sub-paragraph (3)(a) itself (so, in deciding for those purposes whether P has a 90-day tie (which is one of the five significant ties), qualifying days in excess of 30 are not to be treated as days spent by P in the UK.
For another adjustment to the deeming rule, see FTWA below.
3. Automatic Overseas Tests
If an individual satisfies one of these tests, then he will be conclusively non-resident for that tax year. There are now five Automatic Overseas tests.
(a) The number of days spent in the UK during the tax year is less than 16 AND that individual has not been resident in the UK for more than one of the preceding three years;
Under the original draft, this was originally meant to be less than 10 days. However, it was increased following responses to the Consultation to the effect that less than 10 days was too stringent. Reliance on the automatic overseas test will not be possible in certain circumstances involving death:
The conclusive non-residence test in Part A for individuals who have been resident in the UK in one or more of the previous three years and have spent fewer than 16 days in the UK cannot apply.
This restriction in the event of death does not apply to the 46 day test (see below). This makes sense – if you are satisfying the 46 day test, then you have not been residence for the last 3 years and so death ought not to trump the strong historical position there.
(b) The number of days spent in the UK during the tax year is less than 46 AND that individual has not been resident in the UK for each of the preceding three years;
This – the current version – mirrors the position as it was in the draft first produced. Respondents to the Consultation Paper suggested that this should be increased – however, HMRC did not agree. This on the basis that it might allow persons who had significant connections to the UK to continue to spend a significant number of days in the UK.
As stated, this can be relied upon in the event of death. So, just because there are two Automatic Overseas Tests devoted to death (see below) does not mean that one should not also consider the possible application of this particular Automatic Overseas Test on death.
(c) FTWA: This is the third automatic overseas test.
The individual works sufficient hours overseas AND he does not spend more than 90 days in the UK in the tax year AND not more than 31 of these are working days. I discuss this below.
(d) Death: An addition to the first three overseas tests was added late in 2012:
(1) The fourth automatic overseas test is that—
(a) P dies in year X,
(b) P was resident in the UK for neither of the 2 tax years preceding year X or, alternatively, P’s case falls within sub-paragraph (2), and
(c) the number of days that P spends in the UK in year X is less than 46.
(2) P’s case falls within this sub-paragraph if— (a) P was not resident in the UK for the tax year preceding year X, and (b) the tax year before that was a split year as respects P because the circumstances of the case fell within Case 1, Case 2 or Case 3 (see Part 3 of this Schedule).
The objective here is to determine, in cases of death, the residence by reference to the historical position. So, in a year of death, it’s not good enough to have spent less than 46 days in the UK – non-residence in the previous two years is required too.
(e) Death: The FB includes another overseas test pertaining to death:
(1) The fifth automatic overseas test is that— (a) P dies in year X, (b) P was resident in the UK for neither of the 2 tax years preceding year X because P met the third automatic overseas test for each of those years or, alternatively, P’s case falls within sub-paragraph (2), and (c) P would meet the third automatic overseas test for year X if paragraph 14 were read with the relevant modifications.
(2) P’s case falls within this sub-paragraph if— (a) P was not resident in the UK for the tax year preceding year X because P met the third automatic overseas test for that year, and (b) the tax year before that was a split year as respects P because the circumstances of the case fell within Case 1 (see Part 3 of this Schedule).
(3) The relevant modifications of paragraph 14 are— (a) in sub-paragraph (1)(a) and (b) and sub-paragraph (3), for “year X” 30 read “the period from the start of year X up to and including the day before the day of P’s death”, and (b) in step 3 of sub-paragraph (3), for “365 (or 366 if year X includes 29 February)” read “the number of days in the period from the start of year X up to and including the day before the day of P’s death”.
Paragraph 14 refers one back to FTWA. So, if P was non-resident for the preceding two tax years on the basis of FTWA AND in the year of death would have been non-resident on the basis of FTWA, then he is automatically non-resident in the year of death. For these purposes, FTWA for the year of death is satisfied for these purposes as though references to year X were references to the commencement of year X till the day before P’s death. In other words, it is for this period that P must sufficient hours overseas and during which there must be no significant breaks from overseas work.
One clear advantage here is that the individual can have spent more than 46 days in the tax year in the year of death. It is a shame that the pre-conditions require FTWA to have applied to the preceding two tax years. On the other hand, any addition to the Automatic Overseas Death at this late stage is welcome.
3.1 Issues arising in relation to FTWA:
The third automatic overseas test is that:
(a) P works sufficient hours overseas, as assessed over year X,
(b) during year X, there are no significant breaks from overseas work, (c) the number of days in year X on which P does more than 3 hours’ work in the UK is less than 31, and (d) the number of days in year X falling within sub-paragraph (2) is less than 91.
(2) A day falls within this sub-paragraph if— (a) it is a day spent by P in the UK, but (b) it is not a day that is treated under paragraph 23(4) as a day spent by P in the UK.
(3) Take the following steps to work out whether P works “sufficient hours overseas” as assessed over year X—
Step 1 Identify any days in year X on which P does more than 3 hours’ work in the UK, including ones on which P also does work overseas on the same day. The days so identified are referred to as “disregarded days”.
Step 2 Add up (for all employments held and trades carried on by P) the total number of hours that P works overseas in year X, but ignoring any hours that P works overseas on disregarded days. The result is referred to as P’s “net overseas hours”.
Step 3 Subtract from 365 (or 366 if year X includes 29 February)— (a) the total number of disregarded days, and (b) any days that are allowed to be subtracted, in accordance with the rules in paragraph 28 of this Schedule, to take account of periods of leave and gaps between employments. The result is referred to as the “reference period”.
Step 4 Divide the reference period by 7. If the answer is more than 1 and is not a whole number, round down to the nearest whole number. If the answer is less than 1, round up to 1.
Step 5 Divide P’s net overseas hours by the number resulting from step 4. If the answer is 35 or more, P is considered to work “sufficient hours overseas” as assessed over year X.
I refer to this nostalgically, as others will, as FTWA.
One can see why the FTWA exemption is going to be the source of much disputation in the future – first, because many taxpayers will want to rely on it (as it allows for one to spend up to 90 days in the UK as opposed to 15 or 45 days – and possibly even more, as deemed days of presence are expressly excluded) and, second, because it does bring with it some ambiguities.
Sufficient Hours Test: The test at sub-paragraph (a) was originally:
P works full-time overseas for year X,
And there was no reference to ‘sufficient hours’.
One of the concerns raised by the respondents to the consultation related to the ‘complete tax year’ element in the original sub-paragraph (a). The concern was that some individuals (those who left just before the tax year) would satisfy the test more easily (by spending 366 days abroad). Others (those who left just after the start of the tax year) would find it harder to satisfy the test and would have to have left for almost two years before they would satisfy this condition. One suggestion, therefore, was to adjust the limb to ‘one complete tax year’ or ’18 calendar months’, whichever was shorter. However, HMRC initially rejected this proposal. This on the basis that most employers will factor this into account!
The position under the latest version is less stringent. First, one looks at a period of 365 days – or 366 where Year X is a leap year. One disregards from this 365/366 period by the total of
(a) days in which 3 hours are spent working in the UK; and
(b) some other days under schedule 28 representing annual or sick leave, non-working days (days on which the individual was not meant to be working but on which he or she does in fact work) embedded within a block of leave).
This gives the ‘reference period’. One divides the reference period by 7 (rounding down to the nearest whole number unless the division results in a number less than 1, in which case one rounds up). So, one has an approximation of the number of complete weeks one spends working purely abroad in Year X given by Step 4.
Second, one divides the number of hours spent working abroad in employments and trade, this gives the ‘net overseas hours’ at Step 2.
Lastly, one divides the net overseas hours by the number of weeks. If the number (which is the average number of hours spent working abroad) is more than 35, then the test is satisfied.
This test could be satisfied if one went abroad for one week and worked 35 hours during that week (and did not work more than 3 hours in the UK during that week).In this case, there reference period would be 365-288 = 7. Dividing this by 7 gives 1. Diving 35 by 1 gives 35.
In the context of the point raised by the Complainants, suppose I leave the UK on the 10th April in a year and am away for the rest of it. There are five disregarded days. So the reference period is 360. Dividing by 7 gives 52. So, as long as I work for 52*35 days abroad, I should be able to satisfy this test. Not having left before the commencement of the tax year has not had a detrimental affect.
This is much better and, in particular, what happens before or after the tax year concerned should not make a difference (unlike in the case of FTUK). Of course, in each of the examples above, the other FTWA conditions would need to be met – i.e. in relation to presence in the UK at sub-paragraphs (1)(c) and (d). In addition, there must not be a ‘significant break’ from overseas work. As we shall see, this means that it is not enough to satisfy the sufficient hours test by working abroad for 35 hours in one week.
One moral from the above is that the individual should spend less hours in relation to overseas employments on disregarded days and more on regarded days, so that these hours are included in the calculation of ‘net overseas hours’.
Full Time: Another concern related to the definition of ‘full time’ and the requirement that, on average, 35 hours must be spent on work every week. It was suggested by respondents that this be lowered to 30 hours. However, HMRC have rejected this. They are concerned that ‘part-time’ workers should not be able to satisfy the ‘automatic overseas test’, as such persons may well have significant connections with the UK.
However, MRC now make clear that the full-time work can be comprised of different employments, vocations, professions. Furthermore, if the employment ceases, then FTWA can still be claimed as long as you find employment within 15 days. It’s also important to remember that the 35 hour test needs to only be satisfied on average over the course of the tax year. Once again, the position appears to have improved under the FB, as Step 2 includes in the calculation of ‘net overseas hours’, the hours ‘(for all employments held and trades carried on by P) the total number of hours that P works overseas in year X,…’ So, as long as on average 35 hours are being spent working, it does not matter whether this is in relation to one employment or more (so that one is part-time).
Work: HMRC make clear that undertaking unpaid voluntary work will not constitute ‘work’.
The first point to make is that the difference between unpaid and paid work is, technically speaking, £1.
But, second, whether this is supported by the provisions. At paragraph 26 of schedule 43: (1) P is considered to be ‘working’ (or doing ‘work’) at any time when P is doing something: (a) in the performance of duties of an employment held by P, or (b) in the course of a trade carried on by P (alone or in partnership). The question of whether something must be done in the performance of duties of an employment must be more or less determined by the employment contract. So, if the contract requires the individual to work abroad for a full year and also requires him to spend no more than 30 working days in the UK, then drafting alone ought to go a long way towards satisfying this condition. Even if the employee spends more time working in the UK (than is required by his duties) then this ought not to constitute work.
What about sub-paragraph (2)?:
(2) In deciding whether something is being done in the performance of duties of an employment, regard must be had to whether, if value were received by P for doing the thing, it would fall within the definition of employment income in section 7 of ITEPA 2003.
Let’s say that P does something more than is required by his employment contract. One has to assume that value is received by P (and also that this value is ‘money or money’s worth’, otherwise there would be a priori problems with the legislation) AND that the value is received by him for doing that thing (so that causation, in one sense at least, cannot be a defence and so it cannot be argued that the value is for full consideration or is a present) AND that P is chargeable to income tax under ITEPA (sub-paragraph (5)). The question then arises: does that value fall within the definition of employment income? This in turn begs inter alia the question: does the value fall within section 62 ITEPA? The answer to this question must depend upon the facts and, in particular, on what that thing is and whether it is required by the employment. In Laidler v Perry 42TC363, Lord Reid said:
Did this profit arise from the employment? The answer will be no if it arose from something else. So, even though one can’t question whether or not the deemed value received by P is for the thing, it should remain open to ask whether the thing itself is done in the course of employment.
So, sub-paragraph (2) doesn’t take one further away from the employment contract. To take more obvious cases, if I return to the UK and sell my house (whether to me employer or someone else) OR if I take part in a swimming competition, the deemed value given for doing this thing should not constitute employment income. Likewise, if a return to provide promotional or consultancy services under a collateral contract, this should not constitute employment income either: See Sports Club  STC (SCD) 443.
A similar reasoning should apply to the case of the worker who somehow performs more under his employment contract than he is asked to – though I agree the position is not quite as clear cut. To refer to the words of Lord Reid, the (in this case, deemed) profit cannot arise from the employment, quite simply because the employment does not require the thing to be done. In this context, it is worth remembering: .
(8) A voluntary post for which P has no contract of service does not count as an employment for the purposes of this Schedule.
This seems to override sub-paragraph (2) (which assumes value to have been given). So, if there is no contract of service and there is no trade (which is defined narrowly), then there is no work done in the UK.
Of course, just as the client will be anxious not to work in the UK more than he is permitted, he will also be desirous of demonstrating that he has worked full time abroad. So, the employment contract will be just as crucial in relation to that aspect. In this respect, the definition of ‘work’ is similar to other tax definitions such as ‘connected’ – the draftsman drafts with one aspect in mind but the width can be useful in others.
In the context of ‘trade’, the provisions provide: .
(3) In deciding whether something is being done in the course of a trade, regard must be had to whether, if expenses were incurred by P in doing the thing, the expenses could be deducted in calculating the profits of the trade for income tax purposes.
The first point to make is that whilst ‘employment’ hinges upon chargeability, ‘trade’ hinges upon deductibility. The trade deductions are more generous than then the employment deductions. This seems strange. Suppose I return to the UK to set up an EBT for my employees. The expenses may not be deductible because of the EBC rules. The expense may not be a revenue expense and no capital allowances will be available. It may be that the ‘wholly or exclusively’ test is not satisfied (because my purpose in setting up the trust is, say, to fund an acquisition of assets from me). However, the absence of deductibility should not, as a matter of language, mean that I am not acting in the course of a trade.
To conclude the discussion on the definition of ‘work’, I think that the opening lexical definition is preferable. But the qualifications in sub-paragraphs (2) and (3) cited above and which aim to link the characterisation to other tax issues don’t quite work and are unnecessary. It may be that they are not considered that important, as after all, all that is required is that regard is had to them and it is not clear what weight they carry. However, they present opportunities.
Working while travelling: Paragraph 26 provides:
(4) Time spent travelling counts as time spent working—
(a) if the cost of the journey could, if it were incurred by P, be deducted in calculating P’s earnings from that employment under section 337, 5 338, 340 or 342 of ITEPA 2003 or, as the case may be, in calculating the profits of the trade under ITTOIA 2005, or
(b) to the extent that P does something else during the journey that would itself count as work in accordance with this paragraph.
In the context of employment, one is looking at sections 337 to 339 ITEPA. Travel from home to work is not included generally. This is useful because if an employee has a one-hour commute each way and then works for one hour, then this would result in there being a working day. In the context of trade, one considers where the base is (which may be the home) and expenses from the base to a place of work may be covered. In the case of Newsom v Roberts  33TC452, it was held by Lord Denning that the fact that the barrister had a study at home did not result in it constituting a base for these purposes. As for (b), this might result in travel time constituting work to the extent that the individual does some work (other than the travel) in the course of it.
Work in the UK: As for the location of work, this, in simple terms, is determined by reference to the embarkation/disembarkation point: see paragraphs 27(1) and (3). This might be helpful for directors outside the country. One concern pertained to the number of working days permissible in the UK. The current position is that an individual can spend:
(a) as many days of ‘incidental’ work in the UK (provided, of course, that he does not exceed the 90-day absolute limit); and
(b) he can spend up to 10 days involving ‘substantive’ duties. (The 10-day limit is not statutory but flows from HMRC pronouncements of March 2011).
Under the initial version of the draft, 20 working days were permitted. As to the meaning of ‘working days’, the provisions in the original SRT draft do not make a distinction between ‘incidental’ and ‘substantive’ duties. Rather there is just one concept – that of a working day i.e. if you spend 3 hours working in the course of the day. (In the more recent drafts, HMRC have done away with the expression ‘working day’, possibly because it was misleading – though the concept remains the same). So, there is a shift of emphasis from the nature of the work to the time spent. Questions will arise as to how compliance with the 3 hour limit can be evidenced. The individual may have to ‘clock off’. S
If you are carrying out ‘substantive duties’, the position under the SRT is beneficial, as the limit went up from 10 to 20. However, if you are carrying out ‘incidental’ duties, the position is detrimental – as the limit comes down from 90 to 20 (unless by ‘incidental’ one means working for less than 3 hours a day). Individuals (or a class of individuals) who were non-resident under the present regime would become resident under the SRT.
In relation to this, most respondents agreed with HMRC that the distinction between ‘substantive’ and ‘incidental’ duties ought not to be maintained – as it involved subjective judgements. However, it was suggested that: (1) the definition of working day be amended so that a greater number of hours was required to be spent on work; (2) that reporting and training duties be excluded; and (3) the 20 day limit be raised. Furthermore, clarification was sought as to how ‘work’ would be defined. As for (2), HMRC are not minded to exclude certain duties such as reporting or training – this on the basis that it would provide scope for avoidance. HMRC, however, were open to changing (1) working days and (3) the working day limit. HMRC was considering between (1) (raising the hour threshold from 3 hours to 5) and (3) (raising the day threshold from 20 to 25).
The absolute limit of working hours one can obtain, in light of the 90 day limit, is around 8*90 (540). If you are to exhaust all your working days under (1), then you obtain 8*20 (160) plus 3*70 (210) – so, 370 out of a theoretical total of 540. If you are to exhaust all your working days under (2), then you obtain 8*25 (200) plus 3*65 (195). So a total of 395 out of a theoretical total of 540.
In the end, they opted to leave the working day definition at 3 hours and have increased the working day limit to 30. Quite apart from the particular question of hours gained, I suspect most employers would prefer this stance, as having a longer absolute limit for working days allows greater flexibility.
Significant Break from Overseas Work: Under paragraph 29, there is a ‘significant break from overseas work’ if at least 31 days go by and not one of those days is:
(a) a day on which P does more than 3 hours’ work overseas, or
(b) a day on which P would have done more than 3 hours’ work overseas but for being on annual leave, sick leave or parenting leave.
In other words, there is a significant break from work if there are 31 consecutive days where each one is a day where not more than 3 hours are spent working AND is not a day on which the employee is away on annual leave, sick leave or parenting leave. If the individual takes, say, an annual leave during those 31 days, then this prohibition should not apply. It is not immediately clear to me when the significant break is deemed to occur (relevant to the question of which tax year it occurs in). It would appear that it occurs at the end of the 31 day period. Where the period straddles two tax years should mean that the break occurs in the later tax year (and the fact that part of it falls within another tax year should not mean that there is no significant break in the second year).
One implication of the definition of significant break is that one may satisfy FTWA by working full-time overseas (theoretically) 1 day and then not working for 30 days, then working for 1 day and then not working for 30 days. Theoretically (emphasis!), one could work for just as many days as there are 30 month periods in a tax year. As long as 35 hours on average was spent working during these days and the individual did not breach the 90/30 days limits, he would be automatically non-resident. International
Transport Workers: HMRC had decided that international transport workers (pilots to truck drivers) should not qualify for FTWA. Originally,
28. (1) An ‘international transportation worker’ is someone who: (a) holds an employment, the duties of which consist of duties to be performed on board a vehicle, aircraft or ship as it makes international journeys, or
(b) carries on a trade, the activities of which consist of the provision of services on board a vehicle, aircraft or ship as it makes international journeys.
(2) But a person is not an international transportation worker by virtue of sub-paragraph (1)(b) unless, in order to provide the services, he or she has to be present (in person) on board the vehicle, aircraft or ship as it makes those journeys.
(3) In deciding whether the duties of an employment or the activities of a trade consist of duties or activities of a kind described in sub-paragraph (1)(a) or (b):
(a) it is sufficient that substantially all of the duties or activities consist of duties or activities of that kind (even if, for example, the person occasionally performs duties or provides services on board a vehicle, aircraft or ship as it makes domestic journeys), and
(b) duties or activities of a purely incidental nature are to be ignored.
Otherwise, the individual might have a home and family in the UK and yet still not be resident here. However, it is still possible for them to satisfy the ‘Automatic Overseas Test’ or else fail the ‘Significant Ties’ test. Likewise, it will not be possible for international transport workers to satisfy the FTUK test.
Under the FB, the terminology has been done away with and paragraph 14(4) simply provides:
(4) This paragraph does not apply to P if—
(a) P has a relevant job on board a vehicle, aircraft or ship at any time in year X, and
(b) at least 6 of the trips that P makes in year X as part of that job are cross-border trips that either begin in the UK, end in the UK or begin and end in the UK.
As for relevant job, paragraph 30 provides:
(1) P has a “relevant” job on board a vehicle, aircraft or ship if condition A and condition B are met.
(2) Condition A is that P either—
(a) holds an employment, the duties of which consist of duties to be performed on board a vehicle, aircraft or ship while it is travelling, or
(b) carries on a trade, the activities of which consist of work to be done or services to be provided on board a vehicle, aircraft or ship while it 15 is travelling.
(3) Condition B is that substantially all of the trips made in performing those duties or carrying on those activities are ones that involve crossing an international boundary at sea, in the air or on land (referred to as “cross- border trips”).
(4) Sub-paragraph (2)(b) is not satisfied unless, in order to do the work or provide the services, P has to be present (in person) on board the vehicle, aircraft or ship while it is travelling.
(5) Duties or activities of a purely incidental nature are to be ignored in deciding whether the duties of an employment or the activities of a trade consist of duties or activities of a kind described in sub-paragraph (2)(a) or (b).
The major change here is the requirement at (4)(b) for there to be 6 cross-border trips before one is excluded from FTWA.
4. Automatic UK Tests
There are four automatic UK tests at paragraphs 4 to 10. If an individual satisfies one of these tests, then he will be resident for that tax year unless he also satisfies one of the Automatic Overseas Tests. There are four ways in which an individual can fall within this Part.
(a) The individual spends more than 183 days in the UK during that tax year;
(b) The individual has only one home and that is in the UK OR the individual has more than one home and they are all in the UK;
(c) The individual carries out full-time work in the UK.
(d) Individual resident for last 3 year dies in a tax year.
4.1 The 183 day test
This is an improvement (in terms of clarity) on the existing 183 day rule. The old 183 day rule (as re-written) was not absolute (for reasons explained by me in my book on this topic). As a matter of drafting, the 183-day test continues not to be absolute – as, as seen above, an Automatic Overseas Test trumps an Automatic UK Test.
Of the four Automatic Overseas Tests, only one can possibly trump the 183 day test. That is, FTWA. Even though this requires a satisfaction of the 90 day meta-rule in FTWA, this rules does not include days which are deemed days of presence. Looking back at paragraph 14(2) of FTWA:
(2) A day falls within this sub-paragraph if:
(a) it is a day spent by in the UK, but (b) it is not a day that is treated under paragraph 22(4) as a day spent by P in the UK.
The legislator includes in (a) all days of presence (as generally defined) and then expressly excludes any day which is deemed to be a day of presence by paragraph 22(4). As seen above, once the ‘qualifying day’ threshold of 30 is reached, all subsequent qualifying days are excluded for the purposes of FTWA. And if the individual has not been resident in one of the preceding 3 years, then the deeming rule does not apply in any event. In other words, an individual can spend 90 days of presence (as generally defined, so that he spends the night in the UK on those nights) and he can be present in the UK on each of the remaining days provided that he does not spend the night here. Of course, the other conditions of FTWA would have to be abided by.
4.2 The Main ‘Home’ Test
The second automatic UK test is at paragraph 8:
(1) The second automatic UK test is that— (a) P has a home in the UK during all or part of year X, (b) that home is one where P spends a sufficient amount of time in year X, and (c) there is at least one period of 91 (consecutive) days in respect of which the following conditions are met— (i) the 91-day period in question occurs while P has that home, (ii) at least 30 days of that 91-day period fall within year X, and (iii) throughout that 91-day period, condition A or condition B is met or a combination of those conditions is met.
(2) Condition A is that P has no home overseas.
(3) Condition B is that— (a) P has one or more homes overseas, but (b) each of those homes is a home where P spends no more than a permitted amount of time in year X.
(4) In relation to a home of P’s in the UK, P “spends a sufficient amount of time” there in year X if there are at least 30 days in year X when P is present there on that day for at least some of the time (no matter how short a time).
(5) In relation to a home of P’s overseas, P “spends no more than a permitted amount of time” there in year X if there are fewer than 30 days in year X when P is present there on that day for at least some of the time (no matter how short a time).
(6) In sub-paragraphs (4) and (5)— (a) a reference to 30 days is to 30 days in aggregate, whether the days are consecutive or intermittent, and (b) a reference to P being present at the home is to P being present there at a time when it is a home of P’s (so presence there on any other occasion, for example to look round the property with a view to buying it, is to be disregarded).
(7) Sub-paragraph (1)(c) is satisfied so long as there is a period of 91 days in respect of which the conditions described there are met, even if those conditions are in fact met for longer than that.
(8) If P has more than one home in the UK— (a) each of those homes must be looked at separately to see if the second automatic UK test is met, and (b) the second automatic UK test is then met so long as it is met in relation to each of those.
A lot of this is numerlcal – 91 consecutives days where no home overseas and 30 days of that has to fall within year X. Even though HMRC used the word ‘Only’ to describe this test in their consultation documentation, the presence of an overseas home is not sufficient to discount this rule where the other home is occupied by the individual for less than 30 days in year X. The test is better described as the ‘Main Home’ Test.
HMRC have this to say:
3.92 The Government wants to ensure that having a home in the UK does not make someone conclusively resident if it is the individual’s only home for a short period. Therefore, an individual will not fall under the “only home” condition if their only home (or homes) is in the UK for a period of fewer than 91 days.
3.93 If there is a continuous period of at least 91 days during which the individual’s only home is in the UK and this period falls into two separate tax years, the individual would be treated as having an “only home” in both tax years (although in some cases split year treatment may apply to such individuals).
3.94 In addition, the Government confirms that where an individual is in the process of selling a home, it will not continue to count as a home for the purpose of the test after they have moved out of the property.
As for ‘home’, this is:
(1) A person’s home could be a building or part of a building or, for example, a vehicle, vessel or structure of any kind.
(2) Whether, for a given building, vehicle, vessel, structure or the like, there is a sufficient degree of permanence or stability about P’s arrangements there for the place to count as P’s home (or one of P’s homes) will depend on all the circumstances of the case.
(3) But somewhere that P uses periodically as nothing more than a holiday home or temporary retreat (or something similar) does not count as a home of P’s.
(4) A place may count as a home of P’s whether or not P holds any estate or interest in it (and references to ‘having’ a home are to be read accordingly).
(5) Somewhere that was P’s home does not continue to count as such merely because P continues to hold an estate or interest in it after P has moved out (for example, if P is in the process of selling it or has let or sub-let it, having set up home elsewhere).
What this means is that if an individual does not satisfy one of the Automatic Overseas Tests, does not satisfy one of the other Automatic UK Tests (so he spends less than 183 days in the UK and does not work here, I discuss FTUK below), then he can spend up to 182 days in the UK provided that he does not have an only home in the UK in which he spends 30 days.
The simplest way to preclude this test from being satisfied is to have a home outside the UK and to spend the permitted time in it. The definition of ‘home’ seems to imply that there must be an element of permanence about the individual’s arrangements. At the same time, (3)(b) is clearly predicated on the view that one can spend less than 30 days in it.
4.3 Full Time Work in the UK
The third automatic UK test is at paragraph 9:
(1) The third automatic UK test is that— (a) P works sufficient hours in the UK, as assessed over a period of 365 days, (b) during that period, there are no significant breaks from UK work, (c) all or part of that period falls within year X, (d) more than 75% of the total number of days in the 365-day period on which P does more than 3 hours’ work are days on which P does more than 3 hours’ work in the UK, and (e) at least one day in year X is a day on which P does more than 3 hours’ work in the UK.
(2) Take the following steps to work out, for any given period of 365 days, whether P works “sufficient hours in the UK” as assessed over that period—
Step 1 Identify any days in the period on which P does more than 3 hours’ work overseas, including ones on which P also does work in the UK on the same day. The days so identified are referred to as “disregarded days”.
Step 2 Add up (for all employments held and trades carried on by P) the total number of hours that P works in the UK during the period, but ignoring any hours that P works in the UK on disregarded days. The result is referred to as P’s “net UK hours”.
Step 3 Subtract from 365— (a) the total number of disregarded days, and (b) any days that are allowed to be subtracted, in accordance with the rules in paragraph 28 of this Schedule, to take account of periods of leave and gaps between employments. The result is referred to as the “reference period”.
Step 4 Divide the reference period by 7. If the answer is more than 1 and is not a whole number, round down to the nearest whole number. If the answer is less than 1, round up to 1.
Step 5 Divide P’s net UK hours by the number resulting from step 4. If the answer is 35 or more, P is considered to work “sufficient hours in the UK” as assessed over the 365-day period in question.
(3) This paragraph does not apply to P if—
(a) P has a relevant job on board a vehicle, aircraft or ship at any time in year X, and (b) at least 6 of the trips that P makes in year X as part of that job are cross-border trips that either begin in the UK, end in the UK or begin and end in the UK.
The concept of “sufficient hours” is the similar to – but not the same as – that discussed above in the context of FTWA. It is a way of testing whether in a given period of 365 days (ignoring days on which the individual works 3 hours overseas), the individual works on average 35 hours per week in the UK.
The seminal point to make here is that just as FTWA could be significantly beneficial to the individual (as it allows a 90-day presence in the UK), FTUK could be disproportionately disadvantageous. This because the 365 period is not the tax year concerned and is instead any given period of 365 days – there is no marriage here, as there is with FTWA, with Year X at (1)(a) or in the definition of “sufficient hours”. If even part of the 365-day period, which satisfies the sufficient hours test, falls within the tax year, then under sub-paragraph (1)(c), the automatic UK test will have been met.
The policy objective that undergirds this test is explained in the paper of June 2012:
3.98 The main purpose of this condition is to provide certainty for employers when they bring employees to the UK. Groups representing expatriate employers have emphasised that this is important and reduces administrative burdens.
Doesn’t the employee – the taxpayer – have a say in the matter? Also, under the new SRT would not the position be clear any way?
It is therefore helpful for employers if employees coming to the UK on secondment for a substantial period are automatically resident and, where relevant, have access to split-year treatment in the year of arrival and departure. In the absence of this condition, many employees who arrived in the UK late in the tax year would not have spent 183 days in the UK and might not be resident in the year of arrival.
In other words, because the individual would not otherwise have been resident (because he entered the UK after the 1st week of October), a special rule must be created to make him resident!
Moving away from the purported policy, the proposal under the original draft was that the individual should be treated as working full time in the UK if they were employed or self-employed in the UK over a continuous period of 9 months, and no more than 25 per cent of their duties were carried on outside the UK during the period of full-time work. One objection that was raised to this was that this test was dissimilar to that proposed for FTWA. So, HMRC have raised the 9 month threshold to 12 months. This increase from 9 months to 12 months in the last draft (and maintained in the FB) will significantly reduce the impact of FTUK.
If one is trying to escape this rule, then that means that one will otherwise escape the 183-day rule (otherwise there would be no point). Suppose the individual arrives before early October. Such an individual must leave within 6 months if he is to be non-resident in that year (the year of arrival) under the 183-day rule (let us ignore the more complex situation where he might be satisfying the 183-day test on the basis of deemed days of presence, so that he might wish to place reliance on FTWA). This person will not satisfy the sufficient hours test in FTUK in any event for a 365 day period (unless he is working a very large number of hours a week).
Suppose the individual arrives after early October. Such an individual must leave by early October of the following tax year if he is to be non-resident in the following tax year. Such a person should not satisfy the sufficient hours test in FTUK either for any period of 365 days which straddles these two tax years – though the hours he works per week will have to be carefully watched.
On the whole, FTUK is unlikely to impact significantly on planning where the individual is not likely to satisfy the 183 day test in any tax year. However, consider the case of an individual who arrives before early October and is reconciled to being resident in that tax year but does not want to be resident in the following tax year. If this person works for a period of one year only (so that the 183 day test is not satisfied in relation to the following year), he may still be ‘automatically’ resident in the following tax year. The danger of FTUK is that 1 days work in the following tax year can result in the ‘automatic’ residence. (Similar problems arise where the individual arrives after early October and is reconciled to residence in the following year on the basis of the 183 day rule but does not want to be resident in the year of arrival. FTUK might result in him being resident in the year of arrival).
This problem may be alleviated by the split year treatment. Another solution would be for there to be a significant break from work (which is similar to that discussed above in the context of FTWA).
4.4 Death of former resident An earlier version provided:
The fourth automatic UK test is that:
(a) P dies in year X,
(b) for each of the previous 3 tax years, P was resident in the UK by virtue of meeting the automatic residence test,
(c) even assuming P were not resident in the UK for year X, the tax year preceding year X would not be a split year as respects P (see Part 3 of this Schedule), and
(d) when P died, P’s normal home was in the UK (even if P was living temporarily overseas at the time).
The latest version at paragraph 10 is similar but subject to one addition to (d): .
Or P had more than one home and at least one of them was in the UK.
HMRC give the following rationale:
3.185 The statutory residence test will need to cater for situations where an individual dies part way through the tax year. The Government considers that, without specific provisions, the proposed test could give unfair and unwelcome results depending on when in a tax year an individual dies. For example, an individual who had been UK resident for all, or most, of their lives but who died abroad early in the tax year after spending very few days in the UK in that year could be automatically non-resident under Part A of the statutory residence test. A number of changes have therefore been made to the way in which the test applies to individuals who die during the year: . . * the conclusive non-residence test in Part A for individuals who have been resident in the UK in one or more of the previous three years and have spent fewer than 16 days in the UK cannot apply; * the number of days that need to be taken into account in the day counting tests of Part C will be reduced on a pro-rata basis, based on the proportion of whole months left in the tax year following the month of death; and . . * where an individual has been resident in the UK for the previous three years on the basis of satisfying one of the conditions in Part A of the test and, in the year of death their normal home was in the UK, they will remain UK resident for that year, regardless of circumstances.
5. Significant Ties
If an individual does not fall within the Automatic Tests, then one has to turn to the Significant Ties tests. Under Part C one has to consider five possible connecting factors. He will be deemed to be resident in the UK if he has a certain number of connecting factors. The number of connecting factors that are necessary to result in the individual becoming resident in the UK will depend upon the number of days he spends in the UK in that year. In general, the more time he spends in the UK, the fewer the number of connecting factors are needed to find him to be resident.
There are to be separate scales for ‘Arrivers’ and ‘Leavers’ (though the legislator has abandoned this terminology).
5.1 Days of Presence ‘Days of presence’ has been discussed above.
5.2 The Part C Connecting Factors: The connecting factors are as follows:
(a) UK resident family
The definition of Family allows for self-determination.
32(1) P has a family tie for year X if—
(a) in year X, a relevant relationship exists at any time between P and another person, and
(b) that other person is someone who is resident in the UK for year X.
In the context of ‘relevant relationship’, this includes relationships with partners (spouses, civil partners and common law partners) but does not include those one is separated from (and this includes circumstances where the separation is likely to be permanent).
Objections were raised to the inclusion of ‘common law partners’ – however, HMRC state that such associations can be as real as marriages and ought to be taken into account. They also state that they, in the context of tax credits, have ‘experience’ is determining issues such as when a relationship starts to constitute a common law partnership.
Family initially included minor children whom the individual spends time with ‘all or part of 60 days in the year’ (whether in the UK or elsewhere and whether one to one or with other people. This has now been amended to only take into account minor children whom the individual sees in the UK.
Under the original draft, children who were attending school in the UK but who spent less than 60 days in the UK outside term time and whose main home was not in the UK could not constitute a family tie – this limited the exemption to children in boarding school. Under paragraph 32(3), this exemption has now been amended – the time limit has now been reduced to 21 days but there is no other requirement pertaining to the main home of the child.
Other relatives such as adult children, parents and siblings are not included.
The nuclear definition of Family favours Leavers. It is unlikely to affect the position of persons entering the UK. The definition of children (and the exclusion of children who have reached majority) seems to favour slightly older individuals (or young ones).
One problem with the incorporation of the Family test is that it might give rise to a vicious cycle. If A’s residence status is dependent on his wife’s residence status and his wife’s residence status is dependent on his residence status, then it not clear what the position would be. The later draft provides at 33(2):
A family tie based on the fact that a family member has, by the same token, a relevant relationship with P is to be disregarded in deciding whether that family member is someone who is resident in the UK for year X.
In other words, if A’s wife is (or would be) resident in the country only by virtue of being in a relationship with A, then she does not count as a family tie. This applies to all family members and so there ought not to be any vicious circle.
(b) Substantive work in the UK
5(1) P has a work tie for year X if P works in the UK for at least 40 days (whether continuously or intermittently) in year X.
(2 )For these purposes, P works in the UK for a day if P does more than 3 hours’ work in the UK on that day.
There are further elaborations for International Transportation Workers.
(c) Accessible accommodation in the UK
One of the ciriticisms made by respondents was that the inclusion of this factor constituted double-counting, as those with a family were more likely to have a house. However, HMRC take the view that in such cases the ties with the UK are stronger and so each of these factors should count. The definition initially included accommodation available to the individual’s family members. This has been amended under the present draft so that only accommodation which is available to the individual will count. As for what constitutes ‘accessible accommodation’:
3.140 The Government…proposes a simple definition that an individual will have UK accommodation if: * the individual has a place to live in the UK * it is available to be used by them for a continuous period of at least 91 days in a tax year; and * the individual spends at least one night in that place during the tax year.
3.141 Where there is a gap of fewer than 16 days between periods in the tax year in which a particular place is available to the individual, that place will continue to be treated as if it were available to the individual during that gap. This mirrors the distinction that was made in the cases between (i) availability of accommodation; and (ii) duration of stay in it. (incidentally, under the previous statutory test, availability of accommodation was not a determinative factor – though it was as a matter of case law, such as in Cadwalader). It does not matter whether the individual owns the property or not, whether it’s provided by an employer or not.
3.142 There will be an exception for accommodation held by relatives (other than the individual’s spouse, partner or minor children). In theory such accommodation, for example, the parental home, may be available continuously and it would not be right to count such accommodation as a connection factor if the individual spent, say, a night or two with their parents at Christmas. Therefore, accommodation held by relatives will only count as a connection factor if the individual spends more than 15 nights there during the tax year. See paragraph 34(5).
(d) UK presence in the previous years – i.e. the individual spent 90 days or more in the UK over the previous two tax years;
(e) A country tie – More time in the UK than in any one other country. This reminds me of the First Process of Elimination (refer to Individual Tax Residence).
The scale for Arrivers: An ‘Arriver’ is someone who was not resident in any of the preceding three years. This word does not otherwise exist in the English dictionary. It is not included in the latest draft but continues to be referred to by the consultation report. Factor (e) is not taken into account in the case of such a person. So, there are only four potential connecting factors in such a case: paragraph 31(3).
Days in the UK Impact of connecting factors
46(45) to 90(89) days Resident if individual has 4 factors (else NR)
91(90) to 120(119) days Resident if individual has 3 factors (else NR)
121 to 182 Resident if individual has 2 factors (else NR)
The scale for Leavers: A Leaver is someone who was resident in the UK in any of the preceding three years. All of the 5 connecting factors listed above can be relevant in the case of a Leaver – and this allows for the scale to be more articulated.
Days in the UK Impact of connecting factors
16 (10) to 45 days Resident if individual has 4 connecting factors (else NR)
46 to 90 (89) days Resident if individual has 3 connecting factors (else NR)
91(90) to 121(119) days Resident if individual has 2connecting factors (else NR)
120 to 182 days Resident if individual has 1connecting factor (else NR)
One key difference between Arrivers and Leavers is where more than 16(10) days are spent but less than 46(45). An Arriver will always be non-resident in such circumstances. A Leaver, on the other hand, might be resident – though the threshold is high and all 5 connecting factors would have to exist. Another difference is that, for a given number of day of presence in the UK, the Arriver needs to have one more significant ties in the UK than a Leaver would need to be considered to be resident. 6.
Commentary on the proposed SRT:
Day-count test versus a more qualitative test
The day-count is more important in extreme cases (i.e. where more than 183 days are spent in the UK or where less than 45 days are spent in the UK). However, even in such cases, the day count is not always determinative and, other than in cases where 183 days have been spent in the UK, regard must also be paid to whether the individual was resident in any of the preceding three years. In other words, the test under the SRT remains qualitative. The legislator is aiming to simplify the law in this area but at the same time he does not wish to reduce it so much that it ceases to represent the essence or quality of an individual’s connections with the UK. Paragraph 3.5 of the 2011 Consultation Paper states:
The Government wants to ensure that introducing a statutory test does not lead to situations where individuals can become and remain non-resident without significantly reducing the extent of their connection with the UK. Equally, the Government is clear that individuals should not be resident if they have little connection with the UK.
The emphasis on the qualitative nature of residence pays due regard to the common law test. This seems fair as day-count itself is not determinative of one’s connections with the country and their obligations towards it. On a more cynical note, it also makes it harder to forfeit residence through simply (physically) leaving the country.
The SRT represents a beneficial change in the substantive position
Setting aside the anti-avoidance rule, the SRT represents a raising of the substantive test to be satisfied in order for there to be residence.
In the context of Part A or the Automatic Overseas Tests, a Leaver who spends less than 10 days in the UK in a tax year is not resident. Given that HMRC have previously argued that individuals who have never been in the UK during the tax year were resident, this clearly represents a raising of the standard: see Re Young, Re Rogers and Reed v Clark (they even succeeded in the first two).
In the context of cases falling within Part B or the Automatic UK Tests, there has been some tightening of the rules. Previously, the only factor which could of itself be conclusive of residence was day-count. In particular, an individual who spent 183 days in the country would be resident here. Part B represents an enlargement of this class of factors which can on their own deem residence. Under Part B, an individual who works full-time in the UK or whose only home is in the UK will be resident here. However, such an individual would most likely have been found to be resident under the common law principles in any event – and so, on balance, even Part B is not significantly to the detriment of the taxpayer.
The introduction of Part C or Significant Ties means that a case such as that of Cadwalader would not be resident (whereas he was found to be resident). Indeed, I cannot think of many cases where an individual who would not have been resident under the common law test would become resident under Part C. So Mr. Cadawalader’s position (or, rather, the position of those individuals he represents here) would have improved substantively and Part C, for the most part, also represents a raising of the standard to be satisfied in order for there to be residence.
Reduction of administrative burden on taxpayer and HMRC
Part A: In many cases where an individual falls within Part A, it will be unambiguously clear that he does so. One will simply have to look at the day count figure. In the context of the ‘Leaving the UK to Work Full-Time Abroad’ category, the shift from ‘merely incidental duties’ (as found in IR20) to the 90/20 day time limit is welcome.
Part B: In many cases where an individual falls within Part B, it will also be unambiguously clear that he does so. However, to the extent that an individual falls within Part B as a result of spending 183 days in the UK, his position would have been equally clear under the law as it currently stands.
Part C: In those confused cases which do not fall within Part A or B, the position will remain complicated but there is still an improvement. HMRC are right in saying that the vast majority of cases of taxpayers will fall within Part A or Part B but it seems to me that the vast majority of litigated cases would fall within Part C – i.e. where the day count is between 10 or, as the case may be, 45 days and 183 days. Cadwalader involved a day count of around 60 days. In Re Combe the day-counts for the three years were 6 months, 5 months and 2 months. Cases from Levene and Zorab to Grace and Gaines-Cooper involved day-counts of under 6 months. (I agree that a handful of cases did have very low day-counts – such as Reed v Clark and the mariner cases, Re Young and Re Rogers). So, the clarification of rules in this context is welcome and HMRC would be doing themselves a disservice in understating the relevance of Part C.
Under Part C the position of someone like Mr. Zorab, Mr. Combe or Mr. Dave Clark would also have improved. They were not resident under the common law test and this would not have changed under the SRT – but the advantage to them is that they would not have had to litigate to discover that. Furthermore, even if such individuals would have had to litigate, they would have at least known what sorts of evidence one had to adduce. One important aspect of the Part C connecting factors which results in an ease of the administrative burden is that they only include domestic matters and so there is no need for domestic tribunals to take evidence on foreign matters – such as, in the case of Gaines-Cooper, the planting of coco de mar trees in the Seychelles by the taxpayer!
(Indeed, most of the facts which were laid out by the Special Commissioners in their decision in that case went towards demonstrating the taxpayer’s connections to places outside the UK. However, when it came to them presenting their decision at paragraph 166 the facts they listed as being relevant to their decision were those which linked Mr. Gaines-Cooper to the UK. Had the taxpayer known with certainty that foreign factors would be of minimal relevance, then the burden of litigation would have been much relieved).
Another aspect of the changes I welcome is that it is intended to be comprehensive. Under the present statutory laws, if one is not found to be resident or not-resident under the provisions, then one has to then turn to the common law test for a conclusion. Under the SRT, there will be a comprehensive matrix and one will not have to look elsewhere.
The SRT does not simply determine whether you are resident or not (or whether you are non-resident or not) but rather it determines whether you are resident or not resident (and it does so mostly by reference to domestic factors).
Another testimony to the legislator’s insistence on comprehensiveness is that he has foreseen a possible overlap between Part A and Part B and he has provided that in such cases it is Part A which will take precedence.
He has also taken into account matters arising in relation to death.
The concessions, A11, D2 and A78 relating to the years of arrival and years of departure are to be given a statutory form and so there will not be a need to look beyond the statute book when contending with such special cases.
Finally, the SRT pronounces an individual to be resident – which is different to deeming him to be resident for tax purposes. This provides further certainty.
Areas of uncertainty in Part A or B: Historicity: Unfortunately, there has not been a distinct break from the old regime. One problem which arises is that the particular impact of the day-count often depends upon whether or not the individual was resident in any of the preceding three years.
Example 1: In the context of Part A, if an individual is to be not resident in a year (say 2014-15) where he has (say) spent 40 days in the UK, then he must not have been resident in any of the preceding three years.
So, a determination of his residence status will involve looking back to 2011-12. In this case, one will have to apply the current residence rules to 2011-12 in order to arrive at a determination and so all the rebarbative uncertainties of the current regime will have been incorporated.
Example 2: Consider a case where the individual spends 40 days in the UK in 2017-18.
One will have to consider the tax years up to 2014-15. However, it may be that the residence position for 2014-15 will itself depend upon his residence status in 2011-12 – a year before the SRT came into force. Through this process of iterated forking, one may have to go back quite a few years when considering the residence status for a given year.
Fortunately, HMRC have acknowledged these concerns and they have included transitional provisions:
Transitional provision 152 (1) This paragraph applies if:
(a) year X or, in Part 3 of this Schedule, the relevant year is the tax year 2013-14, 2014-15 or 2015-16, and
(b) it is necessary to determine under this Schedule whether an individual was resident or not resident in the UK for a tax year before the tax year 2013-14 (a ìpre-commencement tax year. (2) The question is to be determined in accordance with the rules in force for determining an individual’s residence for that pre-commencement tax year (and not in accordance with the statutory residence test).
(3) But an individual may by notice in writing to HMRC elect, as respects one or more pre-commencement tax years, for the question to be determined instead in accordance with the statutory residence test.
(4) A notice required under sub-paragraph (3) –
(a) must be given no later than the first anniversary of the end of year X or, in a Part 3 case, the relevant year, and
(b) is irrevocable.
7. Conclusion on SRT
The SRT is a welcome change to the common law test. It is not as simple as a day-count system. It is perhaps fairer than a day-count system. It is arguable that one’s obligation to the state in a given year must depend upon considerations more pervasive than the number of days one spends in the country in that year.When compared to the common law test, the SRT is a major change in both a substantive and administrative sense.
As far as the substantive test is concerned, it represents a raising of the standard that needs to be met to become (or continue to be) resident and therefore constitutes an improvement from the point of view of the taxpayer and growth in the UK. As far as the administrative burden is concerned, the great attraction of the SRT is that the more obvious cases are catered for under separate rules under which the day-count is given a crucial role.
As for the more uncertain Part C cases, there will still be several instances where the position will be clear without the need for litigation. In those cases where there is litigation, the taxpayer will at least know what sorts of factors there are in corroboration of which he needs to adduce evidence and, further, he will rarely have to adduce evidence pertaining to foreign factors. A more cautious taxpayer will always aim to have one less connecting factor then he needs to have in order to be non-resident under the rules.
It might be said by some that the clarity represented by the SRT is undermined by the coeval introduction of the temporary non-residence anti-avoidance rule. However, it appears to me that at least we have a set of clear rules on which to plan upon. In the past, individuals such as Mr. Gaines-Cooper who left the country in the 1970s could not be sure whether they had forfeited residence in the first place – so the absence of a temporary non-residence rule could not assist them in any event. Now, provided that the client is committed to leaving the country for five years, there are relatively straightforward steps that can be taken which can, with reasonable assurance, be expected to achieve mitigation.
8. Other matters arising from the consultation paper
8.1 Split Year Treatment
This will apply in the following cases:
Case 1: starting full-time work overseas
Case 2: accompanying spouse etc
Case 3: leaving the UK to live abroad
Case 4: coming to live or work full-time in the UK
Case 5: starting to have a home in the UK In cases where there is a split year.
There is no universal rule but rather a rule inserted in numerous charging provisions. For instance, in the context of employment income, there is an amendment to section 15 ITEPA:
(1) This section applies to general earnings for a tax year for which the employee is UK resident except that, in the case of a split year, it does not apply to any part of those earnings that is excluded.
(1A) General earnings are ‘excluded’ if they:
(a) are attributable to the overseas part of the split year, and
(b) are neither: (i) general earnings in respect of duties performed in the United Kingdom, nor 19 (ii) general earnings from overseas Crown employment subject to United Kingdom tax. (2) After subsection (3) insert:
(4) Any attribution required for the purposes of subsection (1A)(a) is to be done on a just and reasonable basis.
(5) The following provisions of Chapter 5 of this Part apply for the purposes of subsection (1A)(b) as for the purposes of section 27(2); (a) section 28 (which defines general earnings from overseas Crown employment subject to United Kingdom tax, and (b) sections 38 to 41 (which contain rules for determining the place of performance of duties of employment).
(6) Subject to any provision made in an order under section 28(5) for the purposes of subsection (1A)(b), provisions made in an order under that section for the purposes of section 27(2) apply for the purposes of subsection (1A)(b) too.
8.2 Ordinary residence:
Ordinary residence has been especially relevant to
(ii) Remittance Basis;
(iii) TAA; and
(iv) Overseas Workday Relief.
HMRC point out that ordinary residence has started to overlap with the concept of residence significantly. There was once an assumption that in order to become ordinarily resident one had to have been resident ‘year in year out’ or that one had to have been resident for a minimum period of time. However, these notions were not accepted in cases such as Tuczka and the appropriately demonym-titled Genovese and it follows that an individual could become ordinarily resident immediately after he arrives in the country. The test had begun to resemble to residence test significantly.
HMRC also point out that ordinary residence has become increasingly irrelevant as a matter of practice. They state that each year only 300 people claim the remittance basis on the basis of being resident but not ordinarily resident (one hopes its not the same 300 people each year!) They do not state how many people become liable to CGT as a result of being ordinarily resident though the number is small: paragraph 6.11 of the 2011 consultation paper.
In light of these factors, HMRC were initially considering three options:
(i) Limiting the concept to overseas workday relief;
(ii) Keeping it relevant to all tax purposes to which it is currently relevant (such as CGT);
(iii) Irrespective of whether they opt for (i) or (ii) above, amending the definition so that an individual will be ordinarily resident in a tax year if he has been resident in the UK for 1 or more of the preceding 5 years AND that tax year is the year of his arrival or one of the following two years.
In the 2012 paper, HMRC state that they intend to abolish ordinary residence altogether. However, OWR will be given a statutory footing (though it will be restricted to non-doms). In addition, transitional provisions will allow for the treatment to remain the same for 2 years after commencement in cases where the individuals are ordinarily resident. These changes are welcome – especially to the extent that any charge arises on the basis of ordinary residence (CGT). As for TAA, this will not apply to residents and not to those who are ordinarily resident. This ought not to make a significant difference – given the close nature between the two (consider Tuczka). Of course, the changes will be detrimental to those 300 taxpayers claiming the remittance basis. One danger with retaining the concept of ordinary residence (as opposed to effacing it completely) is that it might subsequently have formed the basis for later tax charges.