No escape for the taxpayer – Personal Liability Notices
For many years, individuals who chose to trade through companies could rest easy in the knowledge that, if the corporate entity became insolvent, they were shielded from personal liabilities including, of course, tax debts due to HMRC. In recent times, however, this is no longer the case. This article examines some of the important Personal Liability Notice (“PLN”) legislation which anyone trading through a company should be aware of, in relation to the ‘transfer of liability provisions’ which allow HMRC to shift liability for outstanding tax debts for an insolvent director onto directors or shadow directors.
The legislation
For ‘tax avoidance’ cases the legislation states:
‘1(1) This Schedule provides for an individual to be jointly and severally liable to the Commissioners for Her Majesty’s Revenue and Customs, in certain circumstances involving insolvency or potential insolvency, for amounts payable to the Commissioners by a company.
(2) Such liability arises where the individual is given a notice under—
(a) paragraph 2(1) (tax avoidance and tax evasion cases),
(b) paragraph 3(1) (repeated insolvency and non-payment cases), or
(c) paragraph 5(1) (cases involving penalty for facilitating avoidance or evasion).
A notice under paragraph 2(1), 3(1) or 5(1) is referred to in this Schedule as a “joint liability notice”.
(3) In this Schedule “company” has the same meaning as in the Corporation Tax Acts (see section 1121 of CTA 2010), except that it also includes a limited liability partnership.
(4) Paragraph 18 makes provision about the application of this Schedule in relation to limited liability partnerships.
Tax avoidance and tax evasion cases
2(1) An authorised HMRC officer may give a notice under this sub-paragraph to an individual if it appears to the officer that conditions A to E are met.
(2) Condition A is that a company has—
(a) entered into tax-avoidance arrangements, or
(b) engaged in tax-evasive conduct.
(3) Condition B is that—
(a) the company is subject to an insolvency procedure, or
(b) there is a serious possibility of the company becoming subject to an insolvency procedure.
(4) Condition C is that—
(a) the individual—
(i) was responsible (whether alone or with others) for the company entering into the tax-avoidance arrangements or engaging in the tax-evasive conduct, or
(ii) received a benefit which, to the individual’s knowledge, arose (wholly or partly) from those arrangements or that conduct,
at a time when the individual was a director or shadow director of the company or a participator in it, or
(b) the individual took part in, assisted with or facilitated the tax-avoidance arrangements or the tax-evasive conduct at a time when the individual—
(i) was a director or shadow director of the company, or
(ii)was concerned, whether directly or indirectly, or was taking part, in the management of the company.
(5) For the purposes of sub-paragraph (4)(a)(ii)—
(a) an individual is treated as knowing anything that the individual could reasonably be expected to know;
(b) an individual is treated as receiving anything that is received by a person with whom the individual is connected (within the meaning given by section 993 of ITA 2007).
(6) Condition D is that there is, or is likely to be, a tax liability referable to the tax-avoidance arrangements or to the tax-evasive conduct (“the relevant tax liability”).
(7) Condition E is that there is a serious possibility that some or all of the relevant tax liability will not be paid.’
There is similar legislation for the other areas covered by the PLN legislation, namely repeated insolvency and non-payment cases and cases involving penalty for facilitating avoidance or evasion.
The effect of the legislation
The effect of the legislation may be summarised as follows:
Liability for tax debts may be ‘shifted’ onto the taxpayer where:
- The company has entered into criminal tax evasive or lawful tax avoidance arrangements from which a tax liability has (or is likely to) arise;
- The company is insolvent, or there is a serious possibility that it will become so;
- Some or all of the tax may not be paid; and/or
- The individuals, either directors or shadow directors or participators receiving the notice, were responsible for the company entering into the transactions in issue; or knowingly received a benefit from the arrangements.
Directors or shadow directors or participators are jointly and severally liable with the company for the relevant tax liability. In practice, this will generally mean that HMRC will look to the individuals as the more fruitful avenue to collect the debt.
The width of the legislation
It may be seen that the legislation is drafted in very wide terms and covers not just ‘de jure’ directors, but also those who might be termed to ‘pull the strings’ i.e. ‘shadow directors’ and ‘participators.’ A helpful definition of the first two is given in the case of Hunt v Balfour-Lynn and ors [2022] EWHC 784 (Ch) (see further below) in which the Court said:
’24 The general law and section 172 are engaged only where the person is a director. As section 250 CA06 puts it, “In the Companies Acts ‘director’ includes any person occupying the position of director, by whatever name called”. Section 170(5) separately specifically provides that the general duties apply to shadow directors “where and to the extent that they are capable of applying”. Both de facto and shadow directors are therefore subject to the law as now expressed in section 172. Here, the uncontroversial characterisation of a shadow director is as one in accordance with whose instructions the directors of a company are accustomed to act. Neither is it controversial that an individual might be both a shadow and a de facto director, the latter being one who, even though not validly appointed, exercises the powers and discharges the functions of a director of the relevant company.’
A “participator” has the meaning given by section 454 of CTA 2010, essentially a shareholder.
The Hunt v Balfour-Lynn decision
Some restriction is effectively placed on the PLN legislation by the above decision.
In this case, between September 2002 and August 2010 £27,706,849 of PAYE and NICs otherwise due to HMRC in respect of the Respondents’ remuneration for their services to Marylebone Warwick Balfour Management Limited (the “Company”) was avoided using a ‘tax avoidance’ arrangement known as ‘conditional share schemes,’ and paid to them. An application was issued by the liquidator, Mr. Hunt, on 10 May 2019 contending that the entry into the avoidance scheme (the “Scheme”) and/ or its continuation was in breach of the Respondents’ fiduciary duties, and/ or that the payments were transactions defrauding creditors within the meaning of section 423 Insolvency Act 1986 (“IA86”); and making other connected claims.
The Judge accepted that the scheme was put in place for genuine commercial reasons, including incentivising scheme members through their receipt of dividends based on commercial results. Highlighting the important distinction between the purpose of the scheme, a pre-condition to liability under s.423, and the consequence of the scheme, the Judge found that its purpose was not to put assets beyond the reach of HMRC, even though that was its consequence. The accountants, BDO, fashioned the scheme and were actively involved in overseeing it. The Judge found that the directors were entitled to rely upon the accountants, being advisors of the highest reputation, in relation to the scheme. The judge said:
‘265…….The closest ground for a bad faith claim may be the 3 December 2002 internal BDO communication attaching information on the “aggressive tax planning we discussed” and stating “we are trying to retain our IP on these solutions and extend the period of time before the Inland Revenue catch up with this type of planning”. Even leaving aside the points that “aggressive” is not a synonym for “illegal”…..
283…….BDO was engaged on an ongoing basis to give advice, and was active under that engagement. It was a firm of the highest reputation, whose dealings with the Company were led by the impressive Mr Magrin.’
Conclusion
Assuming the Hunt v Balfour Lynn decision is not overruled by the appellate Courts, the putting into place of a tax avoidance scheme will not necessarily trigger a successful application of the PLN legislation by HMRC. Nonetheless, the provisions are very widely drafted and each case will turn on its own merits, and in particular on how well or otherwise the arrangements have been implemented and whether reputable external advisers have been involved. The authors have seen a marked increase by HMRC in their use of these powers in recent times, and there will no doubt be plenty more litigation to follow at which the PLN provisions will be tested.