Development Securities – Court of Appeal considers company tax residence
In HMRC v Development Securities Plc and Others [2020] EWCA Civ 1705, the Court of Appeal (CoA) has allowed HMRC's appeal against a decision of the Upper Tribunal (UT) and confirmed that certain Jersey based companies were resident in the UK.
Background
The appeal arose out of a tax planning arrangement devised by a large accountancy practice and entered into by the Development Securities group (the Group) in 2004. At the time, Development Securities Plc (DS Plc) had a number of subsidiaries (the L&R companies) whose value was less than their acquisition cost, while two other companies in the Group owned certain property (Property Co) which were not worth as much as had been spent on them. The Group wished to use the latent losses on the L&R companies and Property Co to offset gains elsewhere in the Group. If the L&R Companies and Property Co had simply been disposed of at their market value, the Group would not have had the benefit of the indexation relief that would have applied in the case of disposals at a profit, such relief being available to mitigate tax on gains but not to augment losses. The tax planning was intended to enable the Group to take advantage of indexation relief.
Three companies (the Jersey companies) were incorporated in Jersey as subsidiaries of DS Plc and granted call options entitling them to buy the L&R companies and Property Co if certain conditions were satisfied. The options were then exercised for an amount equal to the relevant Group company’s historic base cost in the relevant asset for capital gains purposes plus indexation accrued to that time, so that the price was considerably in excess of the then market value of the asset. The Jersey-based directors of the Jersey companies were then replaced by individuals resident in the UK so that the companies would themselves be resident in the UK for tax purposes. Thereafter, the L&R companies and Property Co were transferred to other companies in the Group and steps were taken to crystallise the losses on them, the intention being that the losses should be calculated by reference to the sums which the Jersey companies had paid for them. The losses were treated as accruing to DS Plc, where necessary by means of an election under section 179A, Taxation of Chargeable Gains Act 1992, which allowed a loss to be treated as accruing to another company in the same group.
HMRC rejected the claim and the Group appealed to the First-tier Tribunal (FTT).
Before the FTT, it was common ground that the arrangement was effective provided the Jersey companies were resident in Jersey when they exercised the call options in respect of the L&R companies and Property Co. The issue for the FTT, therefore, was whether the Jersey companies were resident in Jersey at the relevant time, or resident in the UK.
FTT decision
The appeals were dismissed.
The FTT concluded that the key decisions to acquire the assets at an overvalue and then to move the control of the Jersey companies back to the UK were taken by DS Plc in the UK. The FTT found that the Jersey board merely passed the relevant formal resolution for the Jersey companies to enter into the options and subsequently to exercise them on the basis of the instruction/certifications received, without any engagement with the substantive decision, albeit having checked (in tandem with DS Plc) that there was no legal bar to them carrying out the instruction. In the view of the FTT, the Jersey board merely rubber stamped the decision to move control back to the UK, having fulfilled the terms of its engagement. The FTT therefore concluded that the Jersey companies were resident in the UK.
The Group appealed to the UT.
UT decision
The appeal was allowed.
The UT concluded that the Jersey directors did properly consider the decisions they made on behalf of the Jersey companies and that, in consequence, central management and control (CMC) was exercised in Jersey and therefore the Jersey companies were resident in Jersey and not in the UK. In allowing the appeal, the UT was critical of the FTT. In its view, the FTT was not entitled to reach the conclusion it did on the basis of the facts found by it.
HMRC appealed to the CoA.
CoA judgment
The appeal was allowed.
The Court confirmed that the correct starting point when considering where a company is tax resident is De Beers Consolidated Mines v Howe (Surveyor of Taxes) (1903-1911) 5 TC 198. In that case, the House of Lords set out the test for corporate residence as being where the CMC of a company takes place as a matter of fact and not as simply stated in a company’s constitutional documents.
Lord Justice Newey (with whom Lord Justice David Richards agreed) did not consider the UT's criticisms of the FTT to have been well-founded and the UT was not justified in setting aside the FTT's decision for the reasons it gave. Lord Justice Nugee agreed that the appeal should be allowed, although he did express certain reservations about the FTT's reasoning.
Comment
This judgment elucidates the main principles to be applied when determining a company's residence, as identified in the main cases on company residence, in particular, cases such as De Beers Consolidated Mines (see above), Unit Construction Co Ltd v Bullock [1960] 38 TC 712 and Wood v Holden [2006] EWCA Civ 26. However, the decision illustrates the difficulties that often arise when considering where a company is resident for tax purposes. It is perhaps surprising that notwithstanding that the Jersey directors had actually met and understood what they were being asked to do and why, they have nevertheless been found not to have exercised CMC. It is to be hoped that the companies appeal the judgment as further guidance from the Supreme Court on what constitutes CMC would be welcome.
A copy of the judgment can be viewed here.