Davies (Inspector of Taxes) v Hicks
| Jurisdiction | England & Wales |
| Judge | Mr Justice Park |
| Judgment Date | 12 May 2005 |
| Neutral Citation | [2005] EWHC 847 (Ch) |
| Docket Number | Case No: CH/2005/APP/0006 |
| Court | Chancery Division |
| Date | 12 May 2005 |
[2005] EWHC 847 (Ch)
IN THE HIGH COURT OF JUSTICE
CHANCERY DIVISION
Royal Courts of Justice
Strand, London, WC2A 2LL
Mr Justice Park
Case No: CH/2005/APP/0006
Michael Furness QC (instructed by the Acting Solicitor to Revenue and Customs) for the Appellant
Julian Ghosh and James Henderson (instructed by Kimbells LLP) for the Respondent
Hearing dates: 19 April 2005
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.
Overview
This is a capital gains tax (CGT) appeal by HM Revenue and Customs (to whom I will refer as 'the Revenue') against a decision of the Special Commissioners. References in this judgment to sections are, unless otherwise indicated, references to sections of the Taxation of Chargeable Gains Act 1992, as amended at the relevant time (hereafter 'the TCGA'). The case concerns a CGT avoidance scheme carried out in the tax year 2000/01 in relation to shares in a quoted company called A.I.T. Group P.L.C. (AIT).
The Revenue accepted that in all the most obvious respects the scheme was effective, but they challenged it in one less obvious respect. A step in the scheme involved a change of the residential status of trustees of a settlement, achieved by the retirement of trustees resident in the United Kingdom and their replacement by a corporate trustee resident in Mauritius. When a settlement becomes non-resident in such a way the trustees are deemed to have disposed at market value of the assets which are the 'settled property'(s.80). So if the trust fund consists of or includes assets which have market values greater than their CGT base values a tax liability arises. On the actual facts of the case the assets comprised in the trust fund were either a sum of cash or a simple debt, on neither of which a taxable gain could have accrued. The Revenue argue, however, in a way which I will explain later, that a provision of the Act (s.106A(5)(a)) which directly brought about one result also had the indirect result of causing the trust fund to be regarded, contrary to the actual facts, as consisting of a holding of AIT shares. On that basis the Revenue argue that a chargeable gain was deemed to accrue to the United Kingdom resident trustees immediately before they were replaced by the Mauritian trustee. If that is correct it is accepted that Mr Hicks would be liable to CGT on the gain.
The Revenue assessed Mr Hicks to CGT on the gain which, on their analysis of s.106A(5)(a), accrued to the trustees, and Mr Hicks appealed. The Special Commissioners declined to hold that s.106A(5)(a) had the indirect effect for which the Revenue contended, and accordingly allowed Mr Hicks' appeal. The Revenue have appealed to the High Court against the Commissioners' decision. However, I agree with the Commissioners, and I shall therefore dismiss the Revenue's appeal.
The factual and legal background
The Commissioners' decision does not give much information about the background against which the scheme was implemented, or why it was carried out when it was. AIT was a public company. Publicly available information shows that its business was connected with computer software. Mr Hicks was resident in the United Kingdom, and so was in principle within the charge to CGT. He was a substantial shareholder in AIT. I conjecture that he may have been the founder, or a founder, of the company in earlier years, and that in consequence he owned shares with low CGT base values, far below their current market values. It is not clear why he carried out the scheme when he did, but from some information in the decision I would surmise that he had in mind selling some of his holding on the open market at prices on which, apart from avoiding action on his part, he would have had substantial CGT liabilities.
The concept on which the scheme was based was that, although as a general rule a chargeable gain accruing to trustees of a settlement made by a United Kingdom resident settlor who was also a beneficiary was (and still is) taxable on the settlor (s.86 or s.77), that would not be so if the trustees were resident in certain overseas jurisdictions with which the United Kingdom had made double taxation agreements. In this case it is s.77 which would be in point if the trustees were resident in the United Kingdom for part of the year in which the disposal occurred. If the double taxation agreement contained an article which exempted from United Kingdom CGT gains accruing on the alienation of assets by residents of the overseas jurisdiction, it was accepted that the exemption applied to the gain, not just to the non-resident person who alienated the asset. So it could exempt a resident settlor from CGT on a gain of non-resident trustees which would otherwise have been treated as accruing to him by virtue of s.86. At the relevant time the double taxation agreement with Mauritius took that form.
The idea was to take advantage of the Mauritius double taxation agreement: instead of Mr Hicks having a large holding of AIT shares and disposing of them, or of some of them, at a gain, Mauritius resident trustees of a settlement of which Mr Hicks was a beneficiary would have a holding of AIT shares, and they would make one or more disposals on which Mr Hicks would not be liable to CGT because of the CGT article in the double taxation agreement. The essence of the scheme was to create a system to get from the starting position where Mr Hicks, a United Kingdom resident taxpayer, had a large holding of AIT shares which stood at a potential gain, to a position where an equivalent holding was part of the trust fund of a settlement of which the trustee was a resident of Mauritius within the meaning of the double taxation agreement, and to get from the one position to the other without incurring a CGT liability on the way.
The Revenue accept that, once the final position was reached, gains accruing to the Mauritius resident trustee were not assessable to CGT on Mr Hicks (or on anyone else), but they contend that, contrary to the planning which lay behind the steps of the scheme, a CGT liability was incurred on the way. I should add that the double taxation agreement has been changed in the meantime, but at the time with which the present appeal is concerned the change had not yet been made.
The CGT identification or 'matching' rules
The case is heavily dependent on the effect of identification or matching rules now contained in the TCGA. The first capital gains tax introduced in this country was the short term capital gains tax (Case VII of Schedule D) enacted by the Finance Act 1962. CGT itself was introduced by the Finance Act 1965. It and Case VII of Schedule D operated side by side for a few years, but Case VII was repealed in 1971. CGT has been the subject of two consolidating Acts over the years, and has been heavily amended in virtually every Finance Act since it was first introduced. One matter on which both Case VII and CGT have always had detailed rules is the identification or matching of disposals of fungible assets (like shares of the same class) with acquisitions of assets of the same kind. If a taxpayer (1) acquires 100 ordinary shares in a company in year 1 for £x, (2) acquires another 100 shares of the same class in year 2 for £y, and (3) sells 100 shares in year 3 for £z, how is his CGT worked out? Which shares is he taken to have sold, and what is their base value for CGT? The legislation, both for Case VII and for CGT, has always provided that the identification of shares disposed of with shares acquired (or the 'matching' – in my experience a more commonly used expression, though the statutes have used the word 'identify') is governed by specific rules laid down in the statutes from time to time, and is not determined by any specific matching which can be shown to have existed on the particular facts of any disposal. For the present provision which enacts that rule for CGT, see s.106A(3). I reproduce the parts of s.106A which are relevant to this case below, and the precise wording of s.106A(3) will be seen there.
Case VII of Schedule D contained a set of detailed rules which identified specific disposals with specific acquisitions. CGT for most of its life adopted a different technique. It provided for a 'pooling' system under which all shares of one class acquired by one person in the same capacity were treated as a single asset, with their total costs being pooled. Disposals which did not dispose of all shares in the pool were treated as part disposals, and a base value was ascribed to the shares disposed of by the part disposal rules. In my simple example in the previous paragraph the base value of the 100 shares disposed of in year 3 for £z would be 100/200ths of £x+y. The pooling rule still applies for corporation tax on chargeable gains.
However, for CGT, which is the tax with which this appeal is concerned, the pooling rule was replaced by the Finance Act 1998 with rules for disposals to be identified or matched with specific acquisitions. The rules are contained in s.106A of TCGA 1992, that section having been inserted into the 1992 Act by s.124 of the 1998 Act. The present rules, on one part of which the present appeal turns, are not identical to the old rules of Case VII of Schedule D, but they are quite similar to them, and I suspect that to a considerable extent the draftsman of the 1998 Act drew on the long-repealed 1962 Act. I will now set out the relevant parts of the present s.106A, noting in advance that the particular part of the section which is critical to this appeal is s.106A(5)(a).
" 106A Identification of securities: general rules for capital gains tax
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