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House and balloons | AccountingWEB | Misunderstanding of tax law costs taxpayer in £25k appeal
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Misunderstanding of tax law proves costly in £25k appeal

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Lucy Webb looks at how a misunderstanding of tax law led to HMRC being victorious against a £25,000 capital gains tax bill appeal.

23rd Apr 2024
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A self-represented taxpayer, who failed to understand the treatment of his beneficial ownership of a property for tax purposes following the discharge of his bankruptcy, was unsuccessful at the first tier tribunal (FTT) when challenging a ca. £25,000 capital gains tax bill.

Background

In 1997, Newfield inherited a London property from his mother. In 2000, the taxpayer was made bankrupt and beneficial ownership of the property vested in a partner of Grant Thornton UK LLP as his trustee in bankruptcy.

Newfield was discharged from bankruptcy in 2003 and subsequently reacquired beneficial ownership of the property from the trustee in bankruptcy.

In November 2016, Newfield sold the property for £215,000.

The question of beneficial ownership

Ownership of an asset can be legal or beneficial. However, capital gains tax liability principally follows the beneficial ownership, rather than legal ownership, of the disposed asset.

Newfield did not declare any capital gain in respect of his disposal of the property in his 2016/17 tax return. This was because, according to Newfield, there had been no capital gains tax liability on disposal, as the property did not increase in value between the time when he reacquired beneficial ownership of the property following his bankruptcy (which he argued was only shortly before the date of disposal) and the date of the disposal.

In April 2019, HMRC opened an enquiry into the return and extensive correspondence ensued between the taxpayer and HMRC (with quite aggressive undertones on the part of the taxpayer).

HMRC argued that section 66 TCGA 1992 applied, which in Newfield’s case had the effect of disregarding changes in beneficial ownership resulting from bankruptcy. In effect, this meant HMRC’s position was that Newfield had remained the beneficial owner of the property throughout the period from July 1997 to disposal.

In October 2020, HMRC issued Newfield a discovery assessment, assessing him to £26,305.50 in capital gains tax on the disposal of the property. Newfield appealed [TC09058].

Legal differences

The FTT agreed that, as a matter of general law, the taxpayer’s bankruptcy would have resulted in the automatic loss of beneficial ownership by Newfield of his assets, including the property, by virtue of section 306 of the Insolvency Act 1986.

Those assets became part of the bankruptcy estate automatically so that the trustee in bankruptcy would be able to deal with the assets freely in the course of the bankruptcy.

The fact that the taxpayer was discharged from bankruptcy in 2003 also did not, in and of itself, re-vest in Newfield beneficial ownership of the property as a matter of general law.

The property would have remained part of the bankruptcy estate and, as such, it would have required an act of the trustee in bankruptcy to re-vest the beneficial ownership of the property in Newfield (which the FTT was satisfied had occurred at some point prior to the property’s sale).

However, this was the position from a general law perspective. When considering matters from a taxation perspective, the FTT noted that section 66 TCGA 1992 operated on the basis of the statutory fiction that, when a person becomes bankrupt and his or her assets are vested in the trustee in bankruptcy, those assets are to be treated for the purposes of the TCGA as continuing to be owned by the bankrupt.

As a result, the disposal of the assets by Newfield to the trustee in bankruptcy and the acquisition by the trustee in bankruptcy of the assets from Newfield were disregarded for capital gains tax purposes.

Decision

Although there was extensive debate between HMRC and Newfield as to when he reacquired beneficial ownership of the property under general law, the FTT noted that the answer did not matter for tax purposes.

For CGT purposes, the taxpayer was to be treated as having held the property throughout the period from his acquisition of the property in July 1997 until disposal in November 2016.

As a result, his CGT liability was to be calculated by reference to the market value of the property in July 1997, when he acquired it through inheritance.

HMRC’s assessment was upheld and the appeal dismissed.

Comment

In concluding comments, the FTT made certain observations about the manner in which the taxpayer and HMRC conducted themselves in the course of the dispute, with the FTT providing extensive reference to correspondence between the parties in its decision.

While HMRC’s failure to identify the relevance and significance of section 66 TCGA 1992 at an earlier stage in the process meant that Newfield was put to more trouble than he should have been in the progress of the dispute, the FTT found no justification for the aggressive stance which the taxpayer adopted throughout proceedings, particularly given the absence of any technical merit in his tax position.

Replies (7)

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By FactChecker
23rd Apr 2024 22:24

It's surprising how often people forget that the FTT (a bit like a group of referees/linesmen/etc) are people ... and, however impartial they strive to be, being pleasant to them weighs in your favour more than being cantankerous.
When combined with a taxpayer who elects to be self-represented, the resultant concoction can prove too rich to consume without indigestion ... with predictable consequences.

Thanks (3)
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By Postingcomments
24th Apr 2024 10:11

Speaking of missing out key sections of the leg from your analysis, I wonder how Alan Sugar is getting on with HMRC re his non-res claim.

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By Springfield
24th Apr 2024 11:40

Not the first time and it won't be the last where HMRC get a very gentle telling off for being either slow or inaccurate or both, in their conduct. But, woe betide a taxpayer who expresses frustration and may feel that they're banging their head against a brick wall.

Remember, this wasn't some complex tax avoidance scheme created by the plaintiff with trusts, offshore companies and all the usual avoidance trappings. It was a CGT case on the sale of a house with a particular feature that gave the plaintiff a genuine reason to believe that he may not be liable for CGT and there is no reason why a person of average intelligence should not be able to pursue this case without representation.

As has just been reported in an totally unconnected "freedom of speech" case in Finland at the moment - it is the ability of the state to act over an extended period. unchecked by costs and without jeopardy that means that the process itself can become the punishment, regardless of the final decision.

Thanks (2)
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By [email protected]
24th Apr 2024 11:57

I guess the original enquiry was started by a lowly tax inspector (who asked the wrong questions because he/she wasn't up on the finer detail of the affect of bankruptcy on beneficial ownership) and only as the case progressed was it scrutinised by a fully trained senior officer who realised the true legal situation.
HMRC officials are human too.

Thanks (1)
Donald MacKenzie
By Donald MacKenzie
24th Apr 2024 13:58

The idea of avoiding the CGT, from original inheritance to disposal, because for a few years the property was held by trustee in bankruptcy is laughable. It looks clear the taxpayer's claim he had not been the beneficial ownership until "shortly before the date of disposal" is nonsense.
HMRC make mistakes but this looks like one they had to fight.

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Replying to Donald MacKenzie:
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By Springfield
24th Apr 2024 15:13

So my question is, why and how did it take nearly four years and a 27 page FTT judgement to get to the final outcome? There has to be a better way.

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Replying to Donald MacKenzie:
paddle steamer
By DJKL
24th Apr 2024 17:09

Sounds like it might have made a very cunning CGT marketed avoidance plan ,if it had worked, re base all your assets but as bankrupt no CGT tax to pay when rebasing, exit with untaxed dosh post bankruptcy.

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