Bayfine UK v HM Revenue and Customs
| Jurisdiction | England & Wales |
| Judge | Lady Justice Arden,Lord Justice Pitchford,Lord Justice Tomlinson |
| Judgment Date | 23 March 2011 |
| Neutral Citation | [2011] EWCA Civ 304 |
| Docket Number | Case No: A3/2010/0984 |
| Court | Court of Appeal (Civil Division) |
| Date | 23 March 2011 |
[2011] EWCA Civ 304
IN THE COURT OF APPEAL (CIVIL DIVISION)
ON APPEAL FROM THE HIGH COURT OF JUSTICE
(CHANCERY DIVISION)
Peter Smith J
Before: Lady Justice Arden
Lord Justice Pitchford
and
Lord Justice Tomlinson
Case No: A3/2010/0984
Mr David Ewart QC & Mr Richard Vallat (instructed by the General Counsel and Solicitor to HMRC) for the Appellant
Jonathan Peacock QC & Mr Francis Fitzpatrick (instructed by Slaughter and May) for the Respondent
Hearing dates: 18–19 November 2010
Lady Justice Arden:
The nature of the issues on this appeal
This appeal is brought by Her Majesty's Revenue and Customs ("HMRC") and concerns double taxation relief pursuant to the US/UK Double Taxation Convention ("the Treaty"), alternatively unilateral relief from double taxation under section 790 of the Income and Taxes Act 1988 ("the 1988 Act"). The Treaty is set out in The Double Taxation Relief (Taxes on Income) (The United States of America) (Order) 1980 ( SI 1980 No 568). By his Order dated 23 March 2010, Peter Smith J allowed the appeal of the respondent taxpayer, Bayfine UK Ltd ("BUK"), from the decision of the Special Commissioners (Dr John F. Avery Jones CBE and Mr Edward Sadler) dated 19 November 2008. So far as material the Special Commissioners decided that (i) the Treaty did not entitle BUK to claim relief for any US tax paid on its profit from the transactions summarised in paragraphs 2 and 3 of this judgment and that UK tax should be paid first and credit claimed in the US; (ii) unilateral relief under section 790 of the 1980 Act was not available to BUK, and (iii) if unilateral relief had been available, section 795A of the 1988 Act would not have operated to reduce it. Each of those matters decided by the Special Commissioners is in issue on this appeal. I have set out the matters in the order in which this Court decided to hear argument and not in the order in which they were argued below.
Background
The transactions in question were carried out by BUK and another member of the same group of companies. BUK is a subsidiary of a US company, Bayfine DE Inc ("BDE"), and Bayfine UK Products ("BUKP") is a subsidiary of Baycliff DE Inc ("Baycliff DE"). BUK and BUKP, which are unlimited companies, are both resident in the UK for tax purposes and BDE and Baycliff DE are resident in the US for tax purposes and have a common parent company in the US. All these companies form part of a US banking group.
In July 2008, BUK and BUKP entered into self-cancelling forward contracts with Bank of America. The contracts were designed so that, depending on certain events happening, either one or other of the companies would make a large gain, and the other would make a large loss, but it was not known at the outset which company would make the gain and which the loss. In the event, BUK made a profit and BUKP made a loss of the same amount. BUK's profit was taxed in the US in the hands of BDE under the "check the box regulations". These permitted the profit to be deemed to be BDE's profit if no election was made for BUK to be taxed separately. BUK then claimed double taxation relief for that tax pursuant to art 23 of the Treaty (set out below).
In this situation the taxpayer in respect of the same income is a different person in the US, where the taxpayer is BDE, from the taxpayer in the UK, where it is BUK. Both are residents of the jurisdictions in which they are liable to tax. It is, however, not uncommon for different persons to be liable to tax in different jurisdictions in respect of the same stream of income. It may, for instance, happen with the income of unlimited companies, trusts and partnerships. These bodies may be treated as "tax transparent" in one jurisdiction but not in another so that in the former, tax is charged on the members of the entity rather than the entity itself. However the Treaty does not deal with the situation that has arisen in this case, in which there are two persons chargeable to tax in respect of the same income each being resident and subject to tax in a different Contracting State. The fact that the US taxes BDE and the UK taxes BUK on the same income gives rise to the risk of double taxation.
The transactions in question had no commercial purpose other than to produce a matching profit and loss. They were carried out for the purpose of taking advantage of the different treatment of the profit in US and UK tax law.
Decision of the Special Commissioners
I omit mention of the decision of the Special Commissioners on the application of certain anti-avoidance provisions with which we are not concerned. Having dealt with those provisions, the Special Commissioners rejected the claim for double taxation relief. As they saw it, the key issue was whether the US tax or the UK tax was the primary tax. They concluded that under the Treaty BUK's profits were taxable in the UK (art 7 below), that the UK had exclusive taxing rights and that the US could only tax these profits under the saving clause in art 1(3). The primary right to tax was that of the UK. The income was deemed to have a UK source under art 23(3) and this meant that the UK did not have to give credit for the tax imposed on BDE even though it was resident in the US. By like reasoning BDE could obtain relief against the tax it had paid in the US for the tax paid on the same income in the UK.
The Special Commissioners held that the source of BUK's profit was in the UK. It followed that, by virtue of section 790(4) of the 1988 Act, unilateral relief was not available. If they were wrong on this, and unilateral relief was available, they took the view that the steps which it was reasonable for the taxpayer to take to minimise the tax had to be limited to those steps which the taxpayer claiming it was in a position to take. Accordingly none of the steps proposed by HMRC fell within section 795A of the 1988 Act, and credit was thus not restricted.
Judgment of the judge
Peter Smith J dealt first with the question whether unilateral relief was available. He disagreed with the decision of the Special Commissioners as to the source of BUK's profit and held that this was in the US. It followed that credit was available under section 790(4). This was not restricted by section 795A for a number of reasons. In particular, in the judge's judgment, section 795A required regard to be had to steps which the taxpayer could reasonably take, including steps which the taxpayer could compel a third party to take, but excluding steps which were beyond the taxpayer's control.
As to Treaty relief, the judge held that the exercise of the saving clause overrode the provisions of art 7 and that, applying art 23(3), the source of the profit was in the US, and that accordingly the UK had to give credit for the US tax under art 23(2). He accepted the submission of Mr Jonathan Peacock QC, for BUK, that where more than one state imposes tax on the same income the state of the source has the primary right and the state of the residence must give credit for this tax. However, the judge went on to observe that the question of which state had to give credit was to be decided by reference to which state imposed tax first. The judge rejected that either State has the stronger right to impose tax.
Formulation of the issues
I formulate the three issues on this appeal as follows:
Issue 1: Is HMRC bound to give relief to BUK under the provisions of the Treaty?
Issue 2: If not, is HMRC bound to allow unilateral relief under section 790 of the 1988 Act?
Issue 3: Was relief restricted by section 795A of the 1988 Act to the extent that BDE could take steps to reclaim UK tax paid in the US?
In brief, Mr David Ewart QC, for HMRC, contends that HMRC was not bound to give relief from double taxation under the Treaty and that BDE should seek relief in the US. In those circumstances there is no right to unilateral relief. If there were a right to unilateral relief, that relief would be restricted under section 795A because BDE, BUK's parent company, could seek relief in the US. Mr Peacock's case is that the UK must give credit under the Treaty for the US tax paid by BDE on the same income. If he is wrong on that, unilateral relief must be available as the source of the income was in the US, and it is not restricted by section 795A.
There were also a large number of issues raised by HMRC in its skeleton argument which were not in the event pursued or argued on this appeal.
Issue 1: Is HMRC bound to give relief to BUK under the provisions of the Treaty?
Interpretation of double taxation treaties
The Treaty is an international instrument. By virtue of section 788 of the 1988 Act, its provisions declared by statutory instrument have effect in substitution for the equivalent provisions of domestic law. Nonetheless, the fact that the Treaty is an international instrument made by the two Contracting States must be borne in mind in interpreting the provisions of the Treaty. In particular, the Treaty must be given a purposive interpretation.
On the principles applicable to the interpretation of a double taxation treaty, we were referred to the well-known principles laid down by the House of Lords in Fothergill v Monarch Airlines [1980] 1 AC 251, as summarised by Mummery J in IRC v Commerzbank AG [1990] STC 285 at 297–8 and approved by this Court in Memec plc v IRC [1998] STC 754. It is the first three principles with which we are particularly concerned:
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