Archive for month: May, 2015

Upper Tribunal strikes down another film partnership

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The Upper Tribunal (UT) has ruled against the taxpayer in another film partnership case, Samarkand Film Partnership No 3 & Ors v R & C Commrs; R (on the application of Samarkand Film Partnership No 3) v R & C Commrs; R (on the application of Proteus Film Partnership No 1) v R & C Commrs [2015] BTC 517.  The UT upheld a First-tier Tribunal (FTT) decision, ruling that partners of two partnerships, which had entered into sale and leaseback transactions in relation to films, were not entitled to loss relief in respect of tax losses which the partnerships claimed arose from the acquisition of films and other costs incurred by the partnerships. The UT found that the partnerships had not been trading and that the partners were not entitled to sideways loss relief because the businesses of the partnerships were not carried on on a commercial basis with a view to a profit.

The UT also dismissed the claimantsʼ applications for judicial review. The applications were brought on the basis of legitimate expectation derived from HMRCʼs Business Income Manual (BIM) and/or HMRCʼs settled practice.

The facts

Samarkand acquired interests in films The Queen and Irina Palm in 2006/7 and Proteus acquired an interest in Oliver Twist in 2005/6. In each case, the films were acquired under arrangements that incorporated pre-ordained elements that included the acquisition of the films and a lease back to the seller via a company in return for fixed, increasing, secured and guaranteed rental payments for a fifteen year period. The cash flows and intended fiscal consequences of the transactions were summarized by the UT as follows:

‘(1) the partners borrowed 8 from the Bank of Ireland (“the Facility Bank”);

(2) the partners contributed 10 to the partnership, ie 8 borrowed from the Facility Bank and 2 from their own funds;

(3) the partnership bought a film from the seller for 9;

(4) the partnership leased the film to Haiku Releasing Ltd (“Haiku”) for a 25 period of 15 years in return for fixed but escalating rentals;

(5) Haiku licensed the film directly or indirectly back to the seller;

(6) the seller paid or procured the payment of 8 to Haiku (retaining a “producer’s net benefit” of 1);

(7) Haiku placed 8 on deposit to secure the guarantee of its rental obligations;

(8) the partners’ loans and interest were discharged from the rental payments made out of Haiku’s deposit; and

(9) the partnership paid a fee of 1 to Future Capital Partners Limited (“Future”) who acted as agent for the partnership and negotiated the transaction on its behalf and provided other services.’

The legal issues

The issues that the UT had to decide were essentially:

  • Was the partner, through the partnership, carrying on a trade? – s.138(1) and 140(1)(a) ITTOIA;
  • If it was, was the trade one of the exploitation of films? – s.136(a) ITTOIA;
  • If so, was the relevant expenditure ‘incurred on the acquisition of the … film’? – s.130(3) ITTOIA;
  • Was the expense incurred wholly and exclusively for the purposes of that trade? – s.34(1) ITTOIA;
  • Was the trade carried on on a commercial basis in the relevant year or period? – ss.384 & 381(4) TA 1988;
  • Was the trade carried on with a view to the realisation of profits or with a reasonable expectation of profit? – ss.384 & 381(4) TA 1988?

The UT’s decision

The UT were in no doubt that the partnerships were not carrying on a trade. The UT said:

‘The issue for the FTT was how should the transactions in this case be characterised: were they the purchase of a film to lease or were they the payment of an amount of money in return for a guaranteed income stream?….In this case, the partnerships bought an asset, a film, and intended to lease it back to the seller. The FTT found that the purchase and lease back were part of a pre-ordained single composite transaction. The partnership could not acquire a film without an obligation to lease it back to the seller. The effect of the purchase of the film being combined with the lease back wasthat the partnerships paid a capital sum and, in return, received a guaranteed income. The amount paid for the film was not affected by the likely commercial success of the film. The amount of the rentals paid under the lease was calculated by an arithmetical formula that depended on the amount paid for the film….In our view, the FTT were entitled to conclude that the partnerships were not carrying on a trade.’

 The UT also agreed with the FTT that the partnership trades could not have been carried on on a commercial basis. The UT said:

‘The FTT were, in our view, right to conclude that a trade that involved transactions that were intended to produce a loss in net present value terms, with no compensating collateral benefits, was not conducted on a commercial basis. No-one who was seriously interested in running a business or trade on commercial lines would pay £10 for an income stream with a net present value of £7 unless there were some good reason to do so. Of course in this case the reason why the partnerships were willing to do this was because they believed that tax relief would be available to the partners.’

 Sideways loss relief

 The UT also agreed with the FTT THAT the partnership loss provisions in sections 118ZE ICTA would operate so as to restrict the amount of sideways loss relief which may be given to a non-active partner in respect of a loss sustained in a trade in a year of assessment to an amount not exceeding the partner’s contribution to the trade. (There was no dispute that the Proteus and Samarkand partners were non-active partners).   This was because there was an agreement or arrangement under which all or any of the financial cost of repaying the loan would be borne by the another person, namely the Managing Partner of the partnership.

Legitimate expectation

The taxpayers argued that they were entitled to rely upon the BIM on the principles of ‘legitimate expectation.’  In R (GSTS Pathology LLP & Ors) v Revenue and Customs Commissioners [2013] EWHC 1801 (Admin) the principle of legitimate expectation was summarized by the Court as follows:

  • the claimant has an expectation of being treated in a particular way favourable to the claimant by the defendant public authority;
  • the authority has caused the claimant to have that expectation by words or conduct;
  • the claimant’s expectation is legitimate;
  • it would be an unjust exercise of power for the authority to frustrate the claimant’s expectation.

The taxpayer argued, based on the principle of legitimate expectation, that the BIM represented that he would not lose the tax relief just because his objective is to access the relief and that HMRC would not take the point that he was not trading just because there was no risk because of the guarantee arrangements.

The UT did not agree.

‘What, however, the BIM does not say in terms is that HMRC agrees that it will never take such points….It is clear, and obvious, that the statements in the BIM have to be read as a whole, including any relevant qualification. The taxpayers could not take out the plums they liked and ignore the duff they did not. HMRC made it clear in the BIM that they regarded film reliefs as designed for tax deferral. HMRC also made it clear in the BIM that they regarded film reliefs as having been the subject of a significant amount of tax avoidance. The contrast with the tax deferment for which the reliefs were designed shows what is meant by avoidance in this context: it is, or includes, obtaining the relief upfront but then not paying the tax as the scheme. When one combines this with the statement in the Introduction that HMRC would not necessarily apply the guidance in the manuals (including the BIM) to cases where it considered that there was or might have been avoidance, we think the only proper interpretation of the BIM is that in such a case all bets were indeed off.’

Conclusion

The decision of the UT will come as a disappointment to taxpayers and their advisers, although not perhaps as a surprise. Film partnerships, so popular with taxpayers and uncontroversial a decade ago, are now perceived as ‘aggressive’ tax avoidance by the Courts. It would seem that this particular type of tax planning may have had its day.

 

Levy and Levy – the tax investigations and resolution specialists in London and Tunbridge Wells.

Tax guidance for the profession in troubled times

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The Chartered Institute of Taxation (CIOT) and Association of Taxation Technicians (ATT) have released an updated edition of Professional Conduct in Relation to Taxation (“the guidance”) which replaces the February 2014 version.

Why is this guidance important?

The new guidance states:

‘The guidance includes further commentary to reflect the ongoing developments and the public concern about aggressive tax avoidance and evasion. This update does not include any specific changes following the paper published by HM Treasury and HMRC on 19 March 2015 Tackling tax evasion and avoidance.  This paper asks

“ the regulatory bodies who police professional standards to take on a greater lead and responsibility in setting and enforcing clear professional standards around the facilitation and promotion of avoidance.”

This puts it in a nutshell – at a time of unprecedented public and political interest in tax the tax profession is coming under increasing pressure to be seen to take the lead in the campaign against ‘aggressive’ tax avoidance. On the other hand, tax professionals have a duty to their clients to mitigate tax within the law. The guidance addresses these two competing pressures.

Tax advice

The guidance sets out that tax advice covers a variety of activities. The guidance states:

‘Tax planning is legal and taxpayers are entitled to enter into transactions that reduce tax or to take interpretations of legislation that HMRC may not agree with.  If HMRC wishes to challenge a particular transaction or interpretation, it may amend the return or issue an assessment accordingly.  The client may then appeal against HMRC’s decision through the tax tribunal and courts if necessary with the associated costs and disruption. Ultimately only the courts can determine whether a particular piece of tax planning is legally effective or not. However a member should always advise the client that there may be wider reputational issues in such circumstances.’

The guidance states that despite attempts by the courts over the years to elucidate tax ‘avoidance’ and to distinguish this from ‘acceptable’ tax planning or mitigation, there is no widely accepted definition.

‘Publicly, the term ‘avoidance’ is used in the context of a wide range of activities, be it multinational structuring or entering contrived tax-motivated schemes. The application of one word to a range of activities and behaviours oversimplifies the concept and has led to confusion.’

HMRC’s view of what is ‘acceptable’ tax planning

In March 2015 HMRC issued ‘Tackling tax evasion and avoidance’.  In this document HMRC provides its view on the question of ‘What is tax avoidance?  The guidance quotes from this, as a ‘a useful sense check for members.’

‘Tax avoidance involves bending the rules of the tax system to gain a tax advantage that Parliament never intended. It often involves contrived, artificial transactions that serve little or no purpose other than to produce this advantage. It involves operating within the letter – but not the spirit – of the law’.

‘Tax planning involves using tax reliefs for the purpose for which they were intended, for example, claiming tax relief on capital investment, or saving via ISAs or for retirement by making contributions to a pension scheme. However, tax reliefs can be used excessively or aggressively, by others than those intended to benefit from them or in ways that clearly go beyond the intention of Parliament’

Part of HMRC’s website ‘Tempted by Tax Avoidance’  sets out, inter alia, what HMRC views as typical characteristics of a tax avoidance scheme that taxpayers and their advisers should be wary of.  These characteristics have the following broad features:

  • If it sounds too good to be true it probably is.
  • Tax results out of proportion with commercial or economic risk or activity.
  • Over complexity, artificial or contrived steps, or circular money flow.
  • Offshore entities or tax haven countries are involved for no good reason.
  • Secrecy or confidentiality agreements.
  • The arrangement has a SRN assigned under the Disclosure of Tax Avoidance Scheme Rules (DOTAS).’

Impact of the GAAR

The guidance stresses the importance of the GAAR and states that members should be aware of its scope and potential application and put appropriate measures in place, such as training and raising awareness of the new rules with clients and internally in the firm, commensurate with the size of the practice.

Responsibility of the member for giving tax advice

The guidance sets out some key points for its members:

  • A member is required to act with professional competence and due care within the scope of his engagement letter;
  • A member should understand his client’s expectations around tax advice or tax planning, and ensure that engagement letters reflect the member’s role and responsibilities, including limitations in or amendments to that role;
  • A member does not have to advise on or recommend tax planning which he does not consider to be appropriate or otherwise does not align with his own business principles and ethics. However, in this situation the member may need to ensure that the advice he does not wish to give is outside the scope of his engagement. If the member may owe a legal duty of care to the client to advise in this area, the member should ensure that he complies with this by, for example, advising the client that there are opportunities that the client could undertake, even though the member is unwilling to assist, and recommending that the client seeks alternative advice. Any such discussions should be well documented by the member;
  • …..The member should ensure that the client is made aware of the risks and rewards of any planning, including that there may be adverse reputational consequences…..;

Any tax advice on planning should consider:

  • The technical implications including the strength of the legal interpretation relied upon, the potential application of the GAAR and the risk of a successful challenge by HMRC; and
  • Practical considerations such as the issues involved in the implementation of the planning arrangement; possible disclosure under DOTAS and the potential for an accelerated payment notice; the reputational risk to the client and the member of the planning in the public arena; the stress, cost and wider personal or business implications to the client in the event of a prolonged dispute with HMRC; and if the client tenders for government contracts, the potential impact of the proposed tax planning on tendering for and retaining public sector contracts.

Monitored promoters

The guidance deals with situations where a member may be invited to introduce his clients to an arrangement from another source. The guidance is very clear in regard to monitored promoters:

‘Prior to considering the third party tax planning the member should ascertain whether the promoter is subject to a monitoring notice within the POTAS regime. The regime carries significant consequences for the monitored promoter, any introducer or intermediary of the monitored promoter and any client that uses a monitored promoter’s planning. If the third party is a monitored promoter within the POTAS regime it is difficult to envisage any circumstance in which it would be appropriate for the member to introduce their arrangement to clients.’

Conclusion

Ten years ago, giving advice used to be a much simpler business. Today, the twin forces of politics and public perception have made an adviser’s role much harder. Broadly:

  • An adviser must get the law right and give his client correct tax advice;
  • If he does not he may be subject to a claim for professional negligence;
  • However, he must also advise his client of ‘reputational issues’ connected to any particular planning advice he is giving;
  • Take a commercial view as to the how the advice might impact in terms of the implications to the taxpayer in the event of an HMRC challenge;
  • Keep HMRC’s view of what is ‘unacceptable’ tax avoidance in mind at all times;
  • Bear the GAAR clearly in mind at all times;
  • Ensure that any structure is accurately implemented;
  • Make absolutely sure that his engagement letter with the client clearly sets out the areas upon which the adviser will be giving advice and have the terms of engagement clearly in mind in his dealings with the client;
  • Keep up to date with a steadily increasing annual avalanche of new legislation.

To paraphrase Gilbert and Sullivan – a tax adviser’s lot in 2015 is not a happy one.

 

Levy and Levy – the tax investigations and resolution specialists in London and Tunbridge Wells.

Practice note: HRMC’s wide ranging information powers

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Introduction

HMRC have a formidable array of powers to require the provision of documents and information. These powers are predominantly contained in FA 2008, Schedule. 36.  The Sch. 36 information powers include:

  • The requirement to make available certain ‘statutory records;’
  • Giving HMRC access to business assets and premises;
  • The requirement for those whose tax position is being checked (taxpayer notices) to produce relevant information and documents; and
  • The requirement for third parties to produce relevant documents or provide information (third party notices) about named taxpayers.

The powers apply from 1 April 2009 in relation to income tax, CGT, corporation tax, VAT, and NIC. Their application was extended from 1 April 2010 to Insurance Premium Tax, Inheritance Tax, Stamp Duty Land Tax, Stamp Duty Reserve Tax, Petroleum Revenue Tax, Aggregates Levy, Climate Change Levy and Landfill Tax.

Taxpayer notice

When they carry out an enquiry or a compliance check, HMRC can use their powers under FA 2008, Sch. 36 to issue a taxpayer notice requiring them to provide information and documents reasonably required to check their tax position. The items will usually be requested informally in the first instance but a formal notice may be issued immediately in some circumstances.

The notice can ask only for information and documents reasonably required for checking the taxpayer’s tax position. There is an important distinction in the application of the powers as between matters which are and are not part of a taxpayer’s statutory records. That term is defined in general terms by FA 2008. For a business, the term extends to:

  • All business receipts and expenses;
  • VAT records if the business is registered for VAT;
  • PAYE records if the business employs people.

There is no right of appeal against a notice requiring the provision of statutory records. By contrast, there is a right of appeal against a notice requiring the provision of other information and documents.

Such information or documentation may include:

  • Records of board meetings;
  • Diaries of key partners or employees of a business;
  • E mails and correspondence between the members and employees of a business and its suppliers;
  • Any further evidence to support a stated position.

The overriding consideration in relation to information that does not comprise part of a taxpayer’s statutory records is that it is reasonably required.

HMRC may issue as many information notices as necessary throughout the course of an enquiry. It would be normal for an informal request for the information to be made on each occasion.

The taxpayer’s private records

HMRC can use their information powers to request private records, including bank and building society statements, paying-in slips and details of property or other assets. The information or documents requested must, however, be reasonably required for checking the taxpayer’s tax position. Whether a request is reasonable is, therefore, dependent on the circumstances in each case.

The opening letter of a full enquiry will normally include a request for the business records to be sent to HMRC. Any request in the opening letter for private records should be resisted, unless it is clear that the business records are inadequate – for example if the accounts for a business are not based on sound and well kept records and include unvouched or unverified sums. In the event of an appeal, the onus will be on HMRC to satisfy the tribunal that the information is reasonably required.

HMRC will be keen to inspect private records in situations where:

  • Payments from an account into the business (for example capital introduced) are unverified and treated as non-taxable;
  • The taxpayer’s records are incomplete;
  • It is reasonable to suppose that undeclared income or gains have been credited to the account;
  • HMRC have doubts or questions about the taxpayer’s means.

When requesting private records, HMRC must take into account the cost of complying with the notice and the taxpayer’s right to privacy and demonstrate that inspecting private records is an effective way of checking the liability to tax.

Restrictions on HMRC

The legislation sets out a range of restrictions on the requirement to provide or produce information or documents. In summary, a person cannot be required to provide or produce:

  • A document that is not in his or her possession or power;
  • Information relating to the conduct of a pending tax appeal;
  • Journalistic material in the possession of the person who acquired or created it;
  • personal records concerning the health, spiritual or welfare counselling or assistance in respect of an individual;
  • Documents more than six years old unless the notice is given by or with the agreement of an ‘authorised officer’;
  • Information for the purpose of checking the tax position of someone who died more than four years before the date of the notice;
  • Information or any part of a document that attracts legal professional privilege;
  • Subject to significant limitations, information held by that person in connection with his or her performance of a statutory audit or documentation created by him or her or on his or her behalf in connection with that function; and
  • Again subject to significant limitations, information held by a tax adviser about ‘relevant communications’ or documents belonging to the tax adviser, which are communications between the tax adviser and his or her client or any other tax adviser of the client.

Third party notices

HMRC’s new powers under FA 2008 extend to obtaining information and documents from third parties. The purpose of a third party notice is the same as that for a taxpayer notice; the information or document has to be reasonably required for the purpose of checking the tax position of the relevant person. However, there are additional constraints upon the issue of a third party notice. Except in relation to information that forms part of any person’s statutory records and relates to the supply of goods or services (or certain imports), a third party notice can only be issued with either the agreement of the taxpayer or the approval of the tribunal.

Legal privilege

HMRC may not obtain any documents or information in respect of which the taxapyer is entitled to legal professional privilege (“LPP”). The privilege is that of the client, and documents or information in the possession or control of either client or lawyer may not be accessed by HMRC. Broadly, LPP covers advice given by a lawyer to his client and communications between either and a third party for the purposes of pending or contemplated litigation.

Failure to comply with a notice

If a taxpayer or third party fails to comply with a notice requiring the provision of information or the production of a document, HMRC may impose an initial penalty of £300 and a subsequent daily penalty of up to £60 until the notice is complied with.

If the failure continues for more than 30 days beginning with the date of the assessment of a daily penalty, HMRC can apply to the tribunal for an increased daily penalty to be imposed. Before making such an application, HMRC must warn the person concerned that such an application might be made. In determining the amount of any such increased daily penalty, the tribunal must consider the likely cost of complying with the information notice and any benefits (to that person or any other) of not complying with it. The penalty awarded by the tribunal cannot exceed £1,000 for each day starting with the applicable day.

No penalty should be imposed while the appeal period is still open or if an appeal has been made against the notice and the appeal is still open.

Tribunal approval

The majority of taxpayer notices will be issued without the approval of the tribunal. Circumstances in which HMRC may, instead, seek the approval of the Tribunal include:

  • A history of refusing to provide information;
  • HMRC wish to protect their information from being disclosed at an appeal hearing on the notice – for example where they hold information from an informer or a third party.

There is no appeal against a taxpayer notice that has been approved by the tribunal.

If HMRC want to inspect documents and business premises at the same time, they can ask the tribunal for their approval for both the inspection visit and the taxpayer notice.

Conclusion

HMRC’s information powers are wide ranging and intrusive.  Both taxpayers and third parties served with such notices would be wise to seek expert advice at the earliest opportunity to establish whether the notice is reasonable and proportionate and whether items are being sought that are not relevant to HMRC’s enquiries or otherwise should not be produced.

 

Levy and Levy – the tax investigations and resolution specialists in London and Tunbridge Wells

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