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​Andrew Davies and Others v HMRC [2020] UKUT 0067

In Andrew Davies and Others v HMRC [2020] UKUT 0067, the Upper Tribunal (“UT”) dismissed the appeal of the taxpayers from the decision of the First-tier Tribunal (Tax Chambers) (“FTT”) who had dismissed the appeals of three taxpayers made against a number of discovery assessments made by HMRC.

Key Points Under Appeal

There were two different points under appeal

  1. The Transfer of Assets Abroad exemption Issue (“the TOAA Issue”): This issue considered whether the taxpayers were able to rely on the exemption provision in section 741 of the Income Tax and Corporation Taxes Act 1988 (“ICTA 1988”) (replaced by section 739 of the Income Tax Act 2007 (“ITA 2007”). The FTT held that the taxpayers were not able to bring themselves within the exemption provisions; and
  2. The Double Taxation Convention Issue (“the Treaty Issue”): Whether the taxpayers were liable to tax by reason of Article 7 of the Double Taxation Convention made between the UK and Mauritius (“the Treaty”) which was given effect by the Double Taxation Relief (Taxes on Income) (Mauritius) Order 1981 (SI 1981/1121). The FTT did not accept the taxpayers’ contention based on the Treaty.

Relevant Background

In short, in 2002, SAP, a non-resident company, entered into an agreement with Wolverhampton and Dudley Breweries under which SAP would buy the bulk of a property with the remainder being purchased by a separate company.

Whilst SAP had previously only engaged in property investment, this purchase constituted property development and so would have led to SAP carrying on a trade in the UK, the profits of which would have been subject tot UK tax. If they decided not to proceed with the purchase, then they would lose their deposit. As such, they decided to undertake the following structure to be able to undertake the development without tainting their other business:
(1) ABP was incorporated in Mauritius;
(2) ABP completed the purchase of the property in place of SAP and undertook the development;
(3) The Appellants each took out a life policy with CSLP, paying premiums of £3,000 each;
(4) ABP was wholly owned by CSLP;
(5) The Appellants’ entitlements under their life policies were linked to ABP.
The Appellants sought an offshore company as a vehicle for the purchase and settled on Mauritius specifically because of the terms of that jurisdiction’s double taxation agreement with the UK.
ABP went on to make further property investments with input from Mr McAteer and Mr Evans-Jones in particular.
There was no suggestion by HMRC that ABP was not managed and controlled in Mauritius through its board.

The TOAA Issue

There was no dispute about whether the TOAA provisions could in principle apply: there had been a transfer made by the taxpayers in consequence of which, together with associated operations, income arose to a person not resident in the UK and the taxpayer had a power to enjoy that income.

The question was only whether the taxpayers were able to rely on the exemption in section 741(a) ICTA and condition A in section 739 ITA 2007. To be able to do so, the taxpayers had to show in essence that the purpose of avoiding liability to taxation was not the purpose or one of the purposes for which the transfer or associated operations or any of them were effected.

​The FTT did not consider that the taxpayers fell within the exemption. The UT agreed with this decision. The UT found that whilst one of the purposes of entering into the transactions was to obtain pensions for themselves, there were other motives behind the transactions which included tax avoidance.

The UT also rejected the taxpayer’s contention that because they were not able to entirely avoid tax, they were therefore not engaging in tax avoidance. The UT confirmed that tax avoidance includes where tax is deferred or reduced.

Key Takeaways

This case provides a stark reminder for those advising on these situations going forward or for those seeking to rely on the motive defence in court: the question is not whether it was the main purpose, the question is whether it was one of the purposes. Showing that there were more important purposes at the forefront of the individual’s mind will not eliminate or entirely negate a tax avoidance purpose as well.

Further, if someone is involved in an appeal based upon the motive defence in the future, they will want to ensure that they are able to actually meet the requirements of the test. It will be necessary to show that tax avoidance was not one of the purposes for which the transfer was effected.  The taxpayers here failed to show that avoidance of tax was not a purpose. Whilst in their minds, their purpose was to obtain pensions, that does not also preclude a finding that there was a purpose to avoid tax. This is an important lesson for many to always PAY attention to what the statute says and in particular to pay attention to the wording of an exemption. Sometimes you need to show a “main purpose” sometimes it just has to be a purpose.

The Treaty Issue

The provision of the Treaty that was of central relevance to this case was Article 7: the Business Profits Article.

The FTT held that the Appellants could not rely on Article 7 of the Treaty to claim that they were not liable to be taxed in accordance with the TOAA provisions. It is the income of APB which is deemed to be the income of the taxpayers. They are only able to claim reliefs which would have been available to them if the income had in fact been their income. The taxpayers were not deemed to be in the same position as ABP and so they did not get the benefit of ABP’s UK tax status or UK tax liability.

The UT agreed with the conclusions of the FTT. The non-application of Article 7 is correct. Article 7 is dealing with the tax treatment of the profits of ABP and not dealing with the UK’s powers to tax its own residents. Article 7 provides limits on the UK’s ability to tax the profits of ABP but does not limit the UK’s ability to legislate to tax the income, including the deemed income, of its residents even if it is computed by reference to the profits of ABP.

The purpose of the Treaty is to confer relief against double taxation but not to confer double relief.

The taxpayers sought to rely on two cases in order to appeal this decision. One criticism by the taxpayers and by general advisers alike was the FTT failed to consider these cases in detail in coming to their conclusions. As such, the UT considered them in detail.

Bricom Holdings Ltd v IRC (1970) TC 272
The facts of Bricom were summarised in the Court of Appeal Judgment at pages 284B-F as follows:
“The facts are extremely simple. The taxpayer is incorporated and resident in the United Kingdom and is an indirect wholly owned subsidiary of The Bricom Group Limited (“BGL”). It has a wholly owned direct subsidiary Spinneys International BV (“Spinneys”) which is incorporated and resident in the Netherlands. Spinneys is an investment holding company which formerly carried on business through a branch in Singapore. After selling that branch it had surplus funds which it lent at interest to BGL. BGL duly paid interest to Spinneys, which was taxable on such interest in the Netherlands. The Revenue alleges that Spinneys is a controlled foreign company within the meaning of Chapter IV of Part XVII of the Act, which allows income of such a company to be attributed to its United Kingdom resident shareholders, and has raised assessments on the taxpayer by reference to the United Kingdom source interest received by Spinneys from BGL.
The taxpayer does not dispute that Spinneys is a controlled foreign company and that but for the provisions of the Double Taxation Agreement with the Netherlands it would be unable to challenge the assessments. But it claims that the terms of the Agreement exempt it from liability. For its part the Revenue accepts that the effect of the Agreement is to exempt the interest itself from United Kingdom corporation tax and not merely the resident of the Netherlands who receives it. The benefit of the exemption, therefore, is capable of enuring to the taxpayer. But the Revenue claims that  the assessments are not precluded by the terms of the Agreement because they are not assessments to corporation tax on the exempted interest.”

The provision relied upon in the treaty in Bricom was not the business profits article, but rather the interest article (Article 11) which provided that: “interest arising in one of the States which is derived and beneficially owned by a resident of the other State shall be taxable only in that State.”

The Court of Appeal determined that the effect of this article was to exempt the interest itself from UK corporation tax rather than to merely exempt the resident of the Netherlands who received that interest.

The UT determined that Davies can be distinguished from Bricom. In that case, it was the income itself which was exempted from charge, not just the person who had received it. In determining whether the particular article applies and how in each situation depends on the nature of the relevant statutory process.

Strathalmond v IRC [1972] 1 WLR 1511
In Strathalmond, the issue was whether Lady Strathalmond had the benefit of double taxation relief under a treaty between the US and the UK in relation to her income from investments in the US on which she paid US tax. Like Davies, this case involved a deeming provision in that at that time, “a woman’s income chargeable to income tax shall, so far as it is income for a year of assessment… during which she is a married woman living with her husband, be deemd for income tax purposes to be his income and not to be her income.”

The UT distinguished this case on the basis that in Strathalmond, the only income which was deemed to be that of the husband’s was income which was already subject to income tax. Therefore, before the deeming took place, there was  prior question of whether the wife’s income was chargeable to income tax and the wife’s ability to rely o the double taxation agreement arose irrespective of the operation of the deeming provision.

The UT determined that the answer in any particular case depends on the nature of the relevant statutory process.

In Davies, Article 7 provides that ABP is only to be taxed in Mauritius (absent a permanent establishment in the UK). The transfer of assets abroad provisions deem the profits of ABP to the income of the appellant and then to charge the deemed income of the appellants to tax. However, these provisions charge the income to tax as income of a miscellaneous property and not trading profits. It does not matter that that the deemed income is calculated by reference to the profits of ABP. The deemed income is not the profits of ABP and it remains the case that the trading profits of ABP are taxed by Mauritius and not the UK.

The Treaty Procedural Point
Whilst unnecessary, the UT also went on to decide the procedural point relied on by HMRC.

HMRC argued that the taxpayers did not claim relief as they were obliged to under 788(3)(a) and (6) ICTA 1988 (now TIOPA) and are now out of time to do so.
The taxpayers did not return the deemed income and therefore no claim for relief was made in relation to that deemed income. The assessments relied upon by HMRC were discovery assessments so the time limit for the taxpayers to claim relief in response to the discovery assessments is the end of the year of assessment following that in which the discovery assessments were made (section 43(2) TMA 1970).

The taxpayers argued a point which has been presented in the past for a reason not to make a claim: Article 7 allocates the right to tax to Mauritius as opposed to the UK. As Article 7 is allocating the right to tax, there was no right of the UK to tax the appellants in the first place and therefore the Treaty was not relieving anyone from income tax. As there was not a relieving of tax, there was no need to make a claim for relief.

The UT disagreed. If the taxpayers had been able to rely on Article 7, then they were required in their self-assessment tax return to return the deemed income in accordance with the TOAA provisions and then to claim relief in reliance on Article 7. Such a claim had to made within the time limits imposed by section 43 TMA 1970.

It may be that this argument for not requiring a claim would work in circumstances where instead of their being a relief from tax, there is actually an allocation of tax of tax in the treaty and therefore no right for the UK to tax, but where the UK has its right to tax which is relieved by the treaty, a claim ought to be made.

Key Takeaways
One point which does not appear to be considered in this case is whether EU law could have applied to relieve the taxpayers for the TOAA especially in light of Routier v RRC ​[2019] UKSC 43 and Fisher v HMRC [2020] UKUT 62 (TCC).

​It is also a stark reminder to those who are seeking to rely on the motive defence to meet the test that you need to. Look at what the test is actually asking and ensure that you meet those requirements. If the question is looking at a multitude of purposes for entering into a transaction, having an alternative reason will not be enough to rely on it.

​Finally, it shuts down an argument regarding whether or not a claim for relief is required in certain circumstances.

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