It is not often you get two tax cases in quick succession that have implications on your day to day advice, but we have recently. Given the importance of the decisions in M Group Holdings Ltd vs HMRC [2023] UKUT 00213 (TCC) (31 August 2023) and O Wilkinson and others v HMRC [2023] UKFTT 695 (TC) (4 August 2023), I thought it would be worthwhile setting out the key matters.
Snapshot for readers with little time
M Group Holdings – Substantial Shareholding Exemption (“SSE”) – interpretation of paragraphs 15A and 26 of Schedule 7A Taxation of Chargeable Gains Act 1992 (“TCGA 92”). Issue -does it apply to a period when a company was not part of a group – decision – no it does not – there must a “Group” as defined i.e., more than one company. HMRC win.
O Wilkinson and others – Share for share exchange – section 135 and section 137 TCGA 92 – did the exchange form part of arrangements with a main purpose of CGT avoidance – the exchange formed part of a scheme or arrangement – but was not the main purpose or one of the main purposes to the planning. Taxpayer win.
M Group Holdings
This was an appeal from the FTT decision in 2021 where it was decided that the taxpayer was not entitled to SSE. The appeal considered a number of points not put forward at the first trial.
Reminder of key facts
Prior to June 2015, a private limited company (“Old co”) operated as a stand-alone trading entity. During this time, the shareholder of the company started to receive interest from potential buyers.
Due to historical issues within Old co, in June 2015 a subsidiary entity (“Sub co”) was formed which, in September 2015, acquired the trade and assets of Old co. In May 2016 (note – 11 months after incorporation), Sub co was subsequently sold for approximately £55m. SSE was claimed (applying the deeming provision in para 15A) on the capital gain. This allows for the ownership period to be treated as extended when there has been a transfer of trading assets to the transferee company (i.e. Sub co) from another entity with the group within the 12 months before the disposal. Essentially using the ownership period of the transferor company.
HMRC opened an enquiry – that SSE did not apply on the basis that the exemption applied only to a period in which the assets were held and used for the purposes of a trade by a company that was at that time “a member of the group”. Since there was no group before the incorporation of Sub co, by its very definition, there could be no extended period of ownership.
The FTT dismissed the appeal. The tribunal found on the plain wording of the legislation that the purpose was to extend SSE to the sale of the shares in group companies that hold assets previously used by the group for the requisite period. In essence, Para 15A is to be interpreted as only applying to the period when Sub co was a member of a group – which was when it was incorporated.
UTT decision
The taxpayer put forward an argument which relied on the definition of Group for tax purposes. Essentially, it was put forward that it was possible to have a group consisting of one company and that a company can be a member of a group without having any subsidiaries.
The UTT disagreed on the basis that “group” should be given its ordinary meaning which required there to be more than one entity. Consequently, group for para 15A purposes also required more than one entity.
The UTT agreed with the FTT decision that the ownership period could only be extended for periods during which the assets were used by a member of the group. Essentially the purpose of the rules was to extend the availability of SSE to transactions within a group where an asset transferred had been used by a group member throughout the 12-month period even though the substantial shareholding in the hive-down subsidiary had not been held for that whole period.
HMRC win.
Thoughts
I’m cognisant of the fact that there is a real divide between tax professionals on whether or not Para 15A applies to singleton entities in the circumstances outlined in this case. I certainly fall in the campthat it should apply but am also aware that some of my colleagues fall into the other camp.
My understanding from the changes made in Finance Act 2011 is that the intention was that a company does not require a Sub co to be a member of group during the entire 12-month period referred to in para 15A. However, that intention doesn’t appear to have been clearly reflected into the legislation and in fact HMRC’s view has been confirmed in their manual CG53080C.
It is frustrating that SSE is now discriminating against businesses that choose to operate through one company vs those who operate in groups. It creates an absurd result i.e. if a singleton entity with say two trades is approached by potential buyers for one of the trades, the seller could incorporate a sub, hive down the trade and assets and sell the sub but that would not be exempt under SSE if sold before the 12 month holding requirement.
However, if the two trades operated as subsidiaries of a holding company and one was sold, SSE is likely to apply. So, what is the real difference? I would argue there is no real difference other than one party choose to operate two divisions in one entity (which is very common, especially for privately owned businesses) for a number of commercial purposes vs those parties that have various subsidiaries.
I remember the days when I used to advise clients to strike off dormant subsidiaries given the time and compliance costs involved in managing these entities – there are better things to spend one’s time on – like running a business. But now I feel I can no longer advise my clients to do this. instead, I would advise my clients to either incorporate a dormant subsidiary or keep one around so that they can benefit from SSE should it be required. This certainly feels entirely uncommercial for the reasons set out above and if anything could be considered to be entirely tax driven which again is contrary to a number of case law principles on substance over form. However, see my comment further below.
I also can’t help but think that because Old co had a number of legacy tax issues with HMRC, this has somehow influenced their decision on pursuing this matter. Only HMRC will know but what I do know is that approximately £10m of corporation tax will become payable if there is no further appeal.
Thoughts on the decision – it is difficult not to agree. There was a detailed debate in the FTT but ultimately neither the FTT or the UTT could agree with the taxpayers’ interpretation of para 15A or what is defined as a group. If I’m being honest with myself, I agreed with the UTT’s decision on what group means and think this was certainly the wrong approach to take.
Notwithstanding my own view on this matter, the taxpayer has lost twice and HMRC guidance is clear para 15A doesn’t apply to singleton entities in the circumstances outlined in this case. Therefore, it is much safer to keep a dormant subsidiary to form a group. After all, tax will form part of one’s commercial rationale when debating key business decisions and this should go some way to demonstrate tax was a factor in a number of other commercial matters considered at the time.
One final thought – this case demonstrates that keeping things simple, where practical and commercial, should always be at the forefront of any advice. By this, I mean why on earth they didn’t wait one more month does beg an answer! It will certainly cost them £10m!
O Wilkinson and others
Key facts
This case involved some pre-sale planning to essentially allow the daughters of shareholder parents to benefit from what was previously known as Entrepreneur’s relief (“ER” – now Business Asset Disposal Relief).
The parents held 58% of the shares in P Ltd with 42% held by other parties. The shareholders decided to sell 100% of the shares to a third party for consideration equal to £130m. A few days prior to the sale, the parents transferred some of their shares to the three daughters (equal to 7.90% each).
On completion, the parents received cash and loan notes and the daughters each received a different class of loan notes and shares (500 B £0.10 ordinary shares) in the acquiring vehicle (i.e. the “exchange”), but no day 1 cash. The loan notes were £10m ‘nil rate deferred payment A loan notes”, which were payable 12 months after issuance. To aid the qualification for ER, on completion the daughters were appointed as non-executive directors (unpaid) of a subsidiary company of P Ltd.
One year following completion, the loans were fully redeemed for £10m and each daughter sold their shares to an acquirer affiliated with the initial purchasing company and also relinquished their directorships.
The reason for undertaking this planning was to allow the daughters to benefit from ER – ie a CGT tax rate of 10% on the first £10m (at the time of the transaction, now only applicable to the first £1m of qualifying gains) of capital gain vs 20% on the whole gain.
Highlighted in this case was that the shareholders of P Ltd had previously tried to sell the business but due to some commercial issues and HMRC’s refusal to grant clearance, the shareholders decided to abort the deal.
Before the actual sale, the parents’ accountants had received clearance from HMRC that s137 TCGA 92 would not apply. The full facts in respect of the gift to the daughters had been disclosed. The level of detail provided in the clearance has not been disclosed.
The decision
There was interesting discussion on case law that involved section 137 TCGA 92. The cases of Snell v HMRC [2007], Coll v HMRC [2010] and Euromoney [2022] were all referenced. They discussed what was the meaning of “scheme” or “arrangements” and “purposes”. They are indeed very good cases to read if you are involved in similar transactions.
These cases aided the FTT on reaching their decision with two material questions:
- deciding if the exchange formed part of a scheme or arrangements, and if it did
- deciding whether the main purpose, or one of the main purposes, of that scheme or those arrangements was avoidance of liability to CGT.
On the first question, the FTT ruled that the only scheme or arrangement was the actual transaction i.e. the deal to sell the shares for £130m, This was the most significant part of the whole transaction. The FTT rejected HMRC’s typically narrow view that the exchange also formed part of another scheme or arrangement ie the CGT planning. The FTT commented that on a realistic view of the facts, the CGT planning was not a self-standing scheme or arrangement separable from the deal as a whole. It was a plan to reduce the family’s overall CGT liability in the event of a sale to a third party. Therefore, it cannot realistically be viewed as a scheme or arrangement distinct from the wider scheme or arrangements aimed at selling all the shares in P Ltd.
In any case, if it were that the CGT planning was a scheme or arrangement in its own right, then, on a realistic view of the facts, the exchange did not form part of it – the exchange was a significantly larger part than the CGT planning. Also there were other shareholders who had no part or interest in the CGT planning and the transaction went ahead notwithstanding the planning.
On the second question, the FTT found that the CGT planning was a purpose of the transaction, but it was not a “main purpose”. It was certainly a “purpose” because there clearly had been a number of discussions about the CGT planning and because there were features that would not otherwise have been present i.e. the shares to the daughters, their directionships etc.
The FTT went on to explain that the pre-eminent main purpose of the deal was the shareholders in P Ltd to sell their shares for £130m. The large minority of shareholders (42%) had no interest in the CGT planning. The family’s (as majority shareholders) value of the CGT planning, being approximately £3m was small and accounting for 4% of their £73m proceeds.
It was also noted in email exchanges between the buyer, seller and buyer’s adviser that the seller would not scupper the deal if the buyer could not adopt the planning as they did not want to jeopardise the deal. It was also noted that the buyer could “walk away” from the deal if they were not comfortable with the proposed planning. Finally, the SPA gave no price adjustment had the planning not worked. In other words, notwithstanding the CGT planning and whether it worked or not, the deal would have proceeded (which it did) and the buyer was under no legal obligation to accept any liability with respect to the planning.
While there was a purpose of CGT mitigation, in the context of the wider transaction, the avoidance of a liability to CGT was not a main purpose or one of the main purposes of the transaction.
Taxpayer win.
Thoughts
This provides some very useful guidance (admittedly for facts unique to this case) on the application of the anti-avoidance provisions for share exchanges. What is very welcome is that wider interpretation (and in my view the correct application of s 137 TCGA 92) of the relevant scheme or arrangement was the overall transaction not HMRC’s narrow view on the CGT planning, which was, on a realistic view of the facts, an insignificant part (including the tax at stake) of the overall transaction.
The case emphasises that the delineation of scheme or arrangement is a crucial link to application of the purpose test, as can also be seen in Snell case.
I recall a recent conversation I had with eminent tax counsel where we both agreed that if the amount of tax at stake is insignificant in the context of the whole, and the deal would have “gone ahead” anyway, then surely these reasons exemplify the planning to avoid a CGT liability was not a main purpose or one of the main purposes of the transaction. I know this might seem to be an overly simplistic view of how these rules operate and that it is very much dependent on the facts, but what it does demonstrate is that you must step back and think about the transaction as whole. Just because there is a tax saving shouldn’t automatically lead you to the conclusion that section 137 TCGA 92 will bite. This case demonstrates that HMRC don’t have carte blanche on the application of this provision.
*Author – Ses Memhi, Partner and Head of Transactions Tax
