Anthony Victor Lomas and Others v HM Revenue and Customs
| Jurisdiction | England & Wales |
| Judge | The Honourable Mr Justice Hildyard |
| Judgment Date | 11 October 2016 |
| Neutral Citation | [2016] EWHC 2492 (Ch) |
| Court | Chancery Division |
| Date | 11 October 2016 |
| Docket Number | Case No: 7942 of 2008 |
[2016] EWHC 2492 (Ch)
IN THE HIGH COURT OF JUSTICE
CHANCERY DIVISION
COMPANIES COURT
IN THE MATTER OF LEHMAN BROTHERS INTERNATIONAL (EUROPE)
(IN ADMINISTRATION)
AND IN THE MATTER OF THE INSOLVENCY ACT 1986
Royal Courts of Justice
Strand, London, WC2A 2LL
The Honourable Mr Justice Hildyard
Case No: 7942 of 2008
John Gardiner QC, Daniel BayfieldQC andPhilip Walford (instructed by Linklaters LLP) for the Applicants
David Goy QC and Catherine Addy (instructed by General Counsel and Solicitor to HMRC) for the Respondent
Hearing dates: 28 & 29 April 2016
Approved Judgment
I direct that pursuant to CPR PD 39A para 6.1 no official shorthand note shall be taken of this Judgment and that copies of this version as handed down may be treated as authentic.
Lehman Brothers International (Europe) ("LBIE") has been in administration since 15 September 2008. There is a substantial surplus in the administration (presently estimated to be between £6.6bn and £7.8bn) which is to be used, amongst other things, to pay statutory interest to creditors under the provisions of paragraph (7) of Rule 2.88 of the Insolvency Rules 1986 ("Rule 2.88"). This unusual situation has given rise to a variety of novel legal issues on which LBIE's Joint Administrators ("the Joint Administrators") 1 have sought the directions of the Court, principally in the various Waterfall applications. The question arising in this present application (issued on 22 December 2015) is whether such statutory interest, when paid, will rank as 'yearly interest' for the purposes of section 874 Income Tax Act 2007 ("Section 874"). If it does, the Joint Administrators will be required, subject to specific statutory exceptions, to deduct basic rate income tax from the payments made and account for the same to the Respondents. If the interest is not ' yearly interest', no such obligation will exist and payments will be made gross.
In summary as to the respective arguments, the Joint Administrators submit that the statutory interest to be paid under Rule 2.88(7) does not accrue from time to time over any period and is not ' yearly interest' within the meaning of Section 874: therefore there can be no obligation to deduct tax. Initially, Her Majesty's Commissioners for Revenue and Customs ("HMRC") agreed, and gave a number of confirmations to that effect. However, on reviewing the issue and its fiscal impact, HMRC have altered their position and now contend that the statutory interest is ' yearly interest' within the meaning of Section 874 and as such a distribution of statutory interest should be subject to deduction of income tax at source. In HMRC's submission this conclusion follows on the basis that the statutory interest payable is calculated and payable in respect of periods in excess of a year, commencing at the time of the commencement of the administration. I return to elaborate on these arguments later.
Given the size of the surplus, and the rate of interest payable (see below), the sums involved are considerable. The Joint Administrators estimate the value of statutory interest calculated from the date of administration to the date of the final dividend to be in the region of £5bn.
Furthermore, the significance of the issue (particularly to HMRC, who have stated that the "risk to the Exchequer potentially runs up to £1.2bn") in monetary and fiscal terms is the greater because many of the creditors entitled to interest are non-resident, and under existing legislation non-residents cannot be charged to tax in relation to UK source interest beyond any amount deducted at source: if there is no deduction at source, then no tax is due (and see sections 811 and 815 of the Income Tax Act 2007).
Of course, and as the applicant Joint Administrators were at pains to emphasise, the amounts involved and the residence of the recipients are irrelevant to the determination of the legal question raised by the application. However, the significance of both aspects in revenue terms reinforces the appropriateness of
seeking the Court's directions, and may also explain HMRC's departure from their initial statements, including published statements 2, to the effect that no deduction at source was required.Nature and rate of statutory interest
Rule 2.88(7), in the form in which it applies to LBIE 3, provides that,
"Any surplus remaining after payment of the debts proved shall, before being applied for any purpose, be applied in paying interest on those debts in respect of the periods during which they have been outstanding since the company entered administration."
The rate of interest which is payable under Rule 2.88(7) is, as prescribed by Rule 2.88(6) and (9), whichever is the greater of (i) the rate specified in section 17 of the Judgments Act 1838 on the date when the company entered administration or (ii) the rate applicable to the debt apart from the administration. (As at the date LBIE entered administration, and now, section 17 of the Judgments Act 1838 prescribes a rate of interest of " 8 pounds per centum per annum".)
The nature of statutory interest under Rule 2.88(7) was considered in detail by David Richards J (as he then was) in the Waterfall IIA application. 4 In particular, "Issue 2" (considered at [30]–[154]) was concerned with how the dividends paid in the administration should be allocated between principal and statutory interest. In dispute was whether what was referred to as "the rule in Bower v Marris" could apply to statutory interest under Rule 2.88(7), so that a creditor would be free to treat the dividends received as appropriated to such interest, rather than principal (so that principal should remain outstanding for longer, thereby increasing the amount of interest).
David Richards J, agreeing with the Joint Administrators, held that the dividends could not be appropriated to interest. A key part of his reasoning is based on the nature and some of the characteristics of statutory interest. According to his analysis:
(1) Rule 2.88(7) is a direction to the administration as to how any surplus " remaining after payment of the debts proved" is to be applied and is to be operated on the assumption that the debts proved have been paid. (See paragraph [134])
(2) Interest is not payable in respect of any period after the relevant distribution has been made. (See paragraph [135])
(3) The principle in Bower v Marris is derived from the legal rules as to appropriation of payments towards debts. Those rules apply where there are two (or more) outstanding debts (relevantly one being as to principal and one being as to interest) payable by the debtor to the creditor. (See paragraph [144])
(4) The right to be paid statutory interest out of a surplus under Rule 2.88 is not a right to the payment of interest accruing due from time to time during the period between the commencement of the administration and the payment of the dividend or dividends on the proved debts. (See paragraph [149])
(5) The dividends cannot be appropriated between the proved debts and interest accruing due under Rule 2.88, because at the date of the dividends no interest was payable. [ ibid.]
(6) The entitlement under Rule 2.88 to interest is a purely statutory entitlement, arising once there is a surplus after payment of the debts proved and payable only out of that surplus. [ ibid.]
(7) The position is very different in relation to interest on contractual debts, judgment debts, or analogous types of interest (e.g. interest on debts in the administration of a deceased's estate), where the interest " accrues due whilst it [i.e. the debt] is outstanding". See paragraphs [109] to [114] and [145].
Paragraph [149] of David Richards J's judgment reads as follows:
"The right to interest out of a surplus under rule 2.88 is not a right to the payment of interest accruing due from time to time during the period between the commencement of the administration and the payment of the dividend or dividends on the proved debts. The dividends cannot be appropriated between the proved debts and interest accruing due under rule 2.88, because at the date of the dividends no interest was payable at that time pursuant to rule 2.88. The entitlement under rule 2.88 to interest is a purely statutory entitlement, arising once there is a surplus and payable only out of that surplus. The entitlement under rule 2.88 does not involve any remission to contractual or other rights existing apart from the administration. It is a fundamental feature of rule 2.88, and a primary recommendation of the Cork Committee that all creditors should be entitled to receive interest out of surplus in respect of the periods before payment of dividends on their proved debts, irrespective of whether, apart from the insolvency process, those debts would carry interest."
As to the effect of that analysis, there is a disagreement between the parties, especially as regards the opening statement that statutory interest is not a right to the payment of interest "accruing due from time to time…"
HMRC contend that in so stating, David Richards J "can only mean that the right to any payment of such interest is contingent upon a surplus remaining after payment of the proved debts and the extent of that surplus; and that but for such contingency the right to interest would 'accrue due' over time".
The Joint Administrators, on the other hand,...
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