Tribunal allows set-off of corporation tax loss against income tax profit
In English Holdings Ltd v HMRC  UKFTT 0346 (TC), the First-tier Tribunal (FTT) allowed an appeal by a non-UK resident company against a decision of HMRC refusing its claim to offset losses arising in its UK permanent establishment (PE) against profits earned by its UK property rental business.
English Holdings Limited (the taxpayer) is a company registered in the BVI. It had a PE in the UK through which it traded in land.
Any profits made by the PE would be subject to corporation tax by virtue of section 5(3) and 19, Corporation Taxes Act 2009 (CTA). It had however made a trading loss of over £2m.
The taxpayer also owned a number of investment properties in the UK, from which it earned rental income. This letting business was not carried out through a PE, so that it was within the charge to UK income tax on the profits arising from the business under section 264, Income Tax (Trading and Other Income) Act 2005 (ITTOIA).
The taxpayer made a claim to set off the loss incurred by its UK PE against the profits of its letting business. The effect of the set off would be to reduce the taxpayer's income tax liability to nil.
HMRC opened an enquiry into the relevant returns and in due course issued a closure nature rejecting the claim. The taxpayer appealed.
The issue before the FTT was whether a corporation tax loss could be set off against an income tax profit.
The taxpayer argued that it was entitled to the relief claimed:
1. on an ordinary reading of the relevant statutory provisions; and
2. because of the application of the Treaty on the Functioning of the European Union (TFEU), in particular, the right to the free movement of capital.
The taxpayer relied on section 64, Income Tax Act 2007 (ITA), which provides:
"64 Deduction of losses from general income
(1) A person may make a claim for trade loss relief against general income if the person –
(a) carries on a trade in a tax year, and
(b) makes a loss in the trade in the tax year (‘the loss making year’)."
HMRC accepted that the taxpayer had 'carried on a trade' and made a loss in the relevant year. However, it did not accept that the relief was due owing to section 5, ITA, which provides:
"5 Income tax and companies
Section 3 CTA 2009 disapplies the provisions of the Income Tax Acts relating to the charge to income tax in relation to income of a company … if—
(a) the company is UK resident, or
(b) the company is not UK resident and the income is within its chargeable profits as defined by section 19 of the Act (profits attributable to its permanent establishment in the United Kingdom)."
HMRC argued that section 3, CTA, disapplied the income tax provisions, including the calculation of losses, if profits from the trade were chargeable to corporation tax.
The FTT was not persuaded by this argument. Although the legislation limits the scope of the charges to tax in circumstance where profits are taxed, the provisions relied on make no mention of losses. In the view of the FTT, on a literal interpretation of the legislation, the loss relief provisions contained in section 64 ITA, could be utilised by the taxpayer to offset income tax profits.
HMRC raised a further argument relating to the taxpayer's claim to set off the trading loss against profits of the same or preceding tax year. It argued that there was no basis period for income tax purposes and, therefore, no loss capable of set off. The FTT also rejected this argument. As the trade had not been started or discontinued in the tax year, the basis period was, by default, the accounting period ending in the tax year (section 198, ITTOIA).
The taxpayer's appeal was therefore allowed. As the FTT allowed the appeal on the basis of statutory construction, it was not necessary for it to consider the EU law ground of appeal.
This case raises some interesting questions regarding the interaction between income tax and corporation tax in certain circumstances. HMRC had argued that the legislation indicated that Parliament had intended that the regimes for income and corporation tax should be treated as distinct and exclusive. For example, the time periods are different: tax years versus accounting periods. The FTT was not persuaded by this argument. Parliament could have legislated to ensure that corporation tax losses could not be set against income tax profits, but it had chosen not to do so. It was not therefore necessary to adopt a purposive interpretation of the legislation as advocated by HMRC.
It remains to be seen whether HMRC will appeal the decision or simply seek to have the legislation amended.
A copy of the decision can be found here.