Gabelle Tax Analysis: Relief confirmed for close company investment
Loan made to close company
Definition of material interest and associated companies
The First-tier tribunal in Antoni Nowosielski v Revenue & Customs, in a decision published on 22 March, found that a taxpayer was entitled to tax relief for interest paid on a loan made to a close company in which he held no shares.
The key to the decision was the tribunal’s analysis of the individual’s holding of a ‘material interest’ in the company as defined in s360A ICTA 1988 (now s394 ITA 2007), and in particular the way in which this should be measured.
Antoni Nowosielski (“AN”) owed 50% of the ordinary share capital of Andrew Pinchin Architects Ltd (“APAL”). Mr and Mrs Pinchin owned the other 50% between them. AN was also a director of Vanfame Ltd (“VL”), a company in which all the shares were held by Mr and Mrs Pinchin. In 2005, VL was experiencing financial difficulty and AN lent the company £100,000 raised from a second mortgage. VL paid AN interest sufficient to cover the bank interest on the loan and AN claimed relief under s360 ICTA 1988 (now s392 ITA 2007) in respect of the loan to a close company for 2004/05, 2006/07 and 2007/08. HMRC’s view was that relief was not due because AN did not hold a material interest in VL.
In order for AN to be eligible for relief under s360, he would either:
have to hold directly or through the medium of other companies 5% or more of the ordinary share capital; or
be in possession of an entitlement to such rights that would in the event of the winding up of VL or any other circumstance, give him more than 5% of the assets which would then be available for distribution amongst the participators.
The key point was that although AN did not hold any shares directly in VL, the fact that AN was owed money the tribunal held that that he was nevertheless a participator of VL, within the definition of s417 ICTA 1988 (now s449 CTA 2010). Because of that, his entitlement to assets on a winding up or other circumstance should be considered.
When considering the 5% entitlement the tribunal considered how this should be measured. Whether on liquidation before other creditors are paid or whether it should be 5% of remaining assets after all claims on VL had been settled. The judges found the former approach to be the correct one and as the loan of £100,000 outstanding gave AN an entitlement far exceeding the 5% limit, he did have a material interest and was therefore entitled to tax relief on the interest paid.
The case demonstrates that individuals making loans to close companies do not have to hold shares directly in the company to secure relief as long as their investment can satisfy the 5% asset entitlement on a winding up now contained within s394(4) ITA 2007.
While each case will differ, this decision can only help investors in a similar situation from securing valuable tax relief for investment in such companies.