HMRC’s tail fails to wag the CGT planning dogby
A recent tax tribunal ruling on a Capital Gains Tax transaction has underlined the significance of identifying the scheme or arrangement for the application of the purpose test.
“A tax deferred is a tax saved”, as the old saying goes. One way to defer Capital Gains Tax is by holding over the gain when reorganising shareholdings within a single company or exchanging shares in one company for shares (or loan notes) in another.
In the recent case of the Wilkinsons (TC08887), the first tier tribunal (FTT) had to consider whether tax had in fact been deferred, or whether the transaction was caught by anti-avoidance measures.
P Ltd was sold to TF1 Ltd (part of the BCA group) on 18 July 2016. Until 14 July, Robert and Susan Wilkinson had owned around 58% of the issued ordinary share capital; the remainder was owned by Mr Wilkinson’s brother and two unrelated shareholders. Robert Wilkinson was the primary entrepreneur behind the business.
On 14 July, Robert and Susan gifted 6,951 ordinary shares (approximately 7.9%) to each of their three daughters, the gains being held over.
On 18 July, the Sale and Purchase Agreement (SPA) was signed between P Ltd and TF1 Ltd. Consideration amounted to cash of £62.7m plus “deferred consideration loan notes” of £40m and “earn-out loan notes” totalling £30m.
What interested HMRC about the arrangement was that, while every shareholder received an equivalent total pre-share consideration (approximately £1,438.50 per ordinary share), the manner in which the various elements were allocated was rather less uniform. While every other shareholder received a mixture of cash, deferred loan notes and earn-out loan notes, the three daughters each received £10m of deferred loan notes and 500 Ordinary B shares in TF1 Ltd.
Even more interestingly, each daughter was appointed as a non-executive (and unpaid) director of a subsidiary company. The appointment letters stipulated that their appointments would run for one year or, “if later, the date of repayment of all loan notes due to you from TF1 Limited”.
To obtain a full grasp of how this deal was structured, it helps to examine some of the financial instruments involved in the consideration.
What actually transpired
One year after the SPA was signed, the three daughters redeemed their deferred loan notes for £10m each and sold their shares for their 10p par value. They also resigned their directorships in accordance with their letters of appointment.
They claimed Entrepreneur Relief (ER) in their tax returns, having satisfied the conditions by:
- having owned at least 5% of the issued ordinary share capital of P Ltd for a year; and,
- having an office or employment with P Ltd or one of its subsidiaries throughout their ownership period.
The transaction relied on sections 127 and 135 of TCGA 1992, which provide that, on a security-for-security exchange, there is no immediate disposal of the old shares. Instead, the new shares are treated as essentially the same holding, acquired at the time the original shares were acquired and for the same cost.
If section 135 applied, then gains on that part of the consideration represented by the deferred loan notes would be delayed from 2016/17 to 2017/18. Furthermore, the three daughters would be able to reduce their tax on the disposals by claiming ER. This was clearly to the advantage of the family.
The anti-avoidance provision (section 137) will disapply s135 unless the exchange:
- is effected for bona fide commercial reasons; and,
- does not form part of a scheme or arrangements of which the main purpose, or one of the main purposes, is avoidance of liability to capital gains tax or corporation tax.
Absent s135, the gains would be brought into charge immediately for all shareholders, and in the case of the daughters, would be at the full rate of tax.
HMRC issued discovery assessments and proceeded before the FTT on the argument that this was, in fact, an arrangement whose main purpose was to avoid a liability to tax.
What the judge saw
Judge Zachary Citron reviewed documentary evidence and took oral evidence from Robert Wilkinson and one of the unrelated shareholders.
Robert and Susan Wilkinson had been eager for some time to monetise their investment in P Ltd, and Robert had considered various possibilities:
- June 2015: BCA Marketplace plc offered £100m, of which at least £80m would be cash, the balance in BCA shares. These discussions fell through.
- October 2015: an “equity release” scheme was proposed by Grant Thornton, who obtained – but never used – HMRC clearance under s701 of ITA 2007.
- March 2016: a management buyout was proposed, and Grant Thornton obtained HMRC clearance (s138) that s137 would not apply. This was despite the proposed transactions including the fact that the three daughters would be gifted 25,000 shares pre-completion and would become directors – substantially the same deal as eventually took place.
He also saw documents which made it clear that the split between £60m cash and £40m loan notes for the non-earn-out elements “was an agreed term from a very early stage in the deal negotiations”, and one which suited both parties.
An email to Grant Thornton indicated that if the CGT planning involving the daughters was not acceptable to the purchasers, this was by no means a deal-breaker. Robert would “walk past the CGT saving for his family, rather than scupper the deal”.
As the judge noted: “this makes intuitive sense: the value of the savings from the Wilkinsons’ CGT planning was approximately £3m. The value of the consideration due to [the Wilkinsons] under the SPA was about £73m”.
It is not necessary for “arrangements” to include the entirety of the exchange. In HMRC’s view, the “arrangement” comprised the gift of shares to the daughters, their acceptance (and theirs alone) of ordinary shares and loan notes, their becoming “directors” and – just one year later – redeeming the loan notes, selling their shares and resigning their directorships.
Viewed through that lens, there was indeed an arrangement whose primary purpose was tax avoidance. “Their insertion was unnecessary for any commercial purpose behind the deal.”
“The obvious scheme or arrangement of which the exchange formed part was that aimed at selling P Ltd to TF1 Ltd for a total consideration whose value was £130m”. In the settled case of Coll, the Upper Tribunal held that there can only be one single “exchange” for the purposes of s135, and “this treatment must apply to all the shares if it applies to any of them”.
It made no sense to see the overarching sale plan as being subordinate to the desire to save £3m CGT for the daughters. HMRC’s attempt to make the tail wag the dog is not sensible. For one thing, the large majority shareholding bloc – with around 42% of the shares – had no stake in the Wilkinsons’ CGT planning. And even for the Wilkinson family, the saving represented only around 4% of the total that was at stake.
Of course, the £3m tax saving for the daughters was “a” purpose-built into the structure of the overall SPA, but it was by no means the sole or even a “main” purpose. If anything, it was a cherry on the top of a large cake.
The appeal was allowed.
HMRC strained at this one, seeking to elevate a minor and incidental element of the overall deal into the be-all-and-end-all of the matter.