Heather (HM Inspector of Taxes) v P-E Consulting Group Ltd
| Jurisdiction | England & Wales |
| Judgment Date | 14 July 1972 |
| Date | 14 July 1972 |
| Court | Chancery Division |
HIGH COURT OF JUSTICE (CHANCERY DIVISION)-
COURT OF APPEAL-
Income tax, Schedule D - Profits of trade - Deduction - Expenses - Payments to trustees of scheme to buy shares in paying company for benefit of employees - Capital or revenue - Statements of accountancy witnesses not conclusive - Income Tax Act 1952 (15 & 16 Geo. 6 & 1 Eliz. 2, c. 10), s. 137(a) and (f).
The Respondent Company carried on the business of management consultants It was a subsidiary of H Ltd. Following the death in 1957 of one of the principal shareholders in H Ltd. the senior professional staff became concerned at the prospect of control being exercised by outside shareholders with no professional qualifications. They had in fact been upset on two occasions by drastic changes in management made by the outside shareholders. In September 1963 a scheme was set up with the objects broadly of (a) giving staff an opportunity to purchase a stake in the Company, thereby providing an incentive to greater effort on their part, and (b) removing the possibility of outside interference with the business of the Company. The articles of the Company and of H Ltd. were amended to provide that any shares available for transfer should be offered in the first place to the trustees hereinafter mentioned; and a trust deed was executed whereby the Company undertook to pay from time to time to the trustees 10 per cent. of its consolidated gross profits for each financial year (subject to a minimum of £5,000) to be held on trust for the purchase of such shares. The trustees were empowered to sell shares to employees and to apply the income from their shares in making discretionary grants to employees. The Company's obligation to the trustees was to cease when they had acquired 40 per cent. of the share capital of H Ltd. (41 per cent. being already held by the group's pension fund), or earlier on notice being given by the Company. At the winding up of the trust the proceeds of the net balance of the trust fund were to be distributed among the employees as the trustees should determine.
The Special Commissioners accepted the evidence of an accountant that the cost to a company in securing and retaining the services of employees was usually treated as revenue expenditure, and that as "employee goodwill" could not be evaluated expenditure for that purpose was normally written off.
On appeal against assessments to income tax under Schedule D for the years 1963-64 to 1965-66, profits tax for the chargeable accounting periods ending 31st December 1962 to 1964 and corporation tax for the accounting periods ending 31st December 1965 and 1966, the Company contended that the payments to the trustees (including an advance payment made to a stakeholder in 1962) should be deducted in computing its profits. For the Crown it was contended (inter alia) that the scheme was outside s. 137(a), Income Tax Act 1952, because its purposes were not solely for the Company's benefit but provided an extended market for the shares, and also that the payments were instalments of capital within the
meaning of s. 137(f). The Special Commissioners held that the payments did not secure a permanent asset for the Company, within the principle in Atherton v. British Insulated and Helsby Cables Ltd. 10 T.C. 155, at page 192, and were of a revenue natureHeld, (1) that the question of capital or revenue is a question of law, and it is for the court to decide whether an accountancy witness's evidence exemplifies sound accountancy principles;
(2) that the payments in question were revenue expenditure, being annual payments made to provide an incentive for the staff, and not instalments of any predictable capital sum;
(3) that, in view of the special character of the Company's business, the acquisition of the shares by the professional staff from outside shareholders was for the purposes of the trade.
(1) Heather (H.M. Inspector of Taxes) v. P-E Consulting Group Ltd.
CASE
Stated under the Taxes Management Act 1970, s. 56, by the Commissioners for the Special Purposes of the Income Tax Acts for the opinion of the High Court of Justice.
1. At a meeting of the Commissioners for the Special Purposes of the Income Tax Acts held on 26th and 30th January 1970 and 3rd July 1970, P-E Consulting Group Ltd. (hereinafter called "the Company") appealed against the following assessments to income tax and corporation tax:
Income Tax, Schedule D
1963-64 |
Consulting engineers |
… |
£25,000 |
1964-65 |
Consulting engineers |
… |
£54,000 (capital allowances £20,000) |
1965-66 |
Consulting engineers |
… |
£80,000 (capital allowances £20,000) |
Corporation Tax
Accounting period to 31st December 1965 |
… |
£45,000 |
Accounting period to 31st December 1966 |
… |
£125,000 |
2. Shortly stated, the question for our decision was whether or not in computing its profits assessable for the purposes of income tax and corporation tax the Company was entitled to deduct the payments made to the P-E Co-Partnership Trust (hereinafter called "the trust").
3. The following witnesses gave evidence before us: (a)Kenneth Trickett, a director of the Company, (b) William Adrian Melluish, an employee of the Company, secretary of the Barmel Investment Co. Ltd., secretary to the trustees of the trust and until 1969 chief accountant and secretary of the group hereinafter mentioned, and (c) Derek Oswald Bailey, chartered accountant and partner in the firm of Price Waterhouse & Co.
4. The following documents were proved or admitted before us:
(2) Copy memorandum and articles of association of P-E Holdings Ltd., as amended.
(3) Copy memorandum and articles of association of the Company, as amended.
(4) Copy trust deed dated 25th September 1963.
(5) Copy supplemental deed dated 30th June 1967.
(6) Copy second supplemental deed dated 7th November 1968.
(7) Copies of the Company's accounts for the years ended 31st December 1962 to 1966 inclusive.
(8) Copies of the accounts of the trust for the period 25th September 1963 to 31st December 1963 and the years ended 31st December 1964, 1965 and 1966.
(9) Copy letter dated 26th August 1963 from directors of P-E Holdings Ltd. to all shareholders.
(10) Copy circular to shareholders of P-E Holdings Ltd. dated 26th August 1963.
(11) Copy standard conditions of employment of the Company (15th edn., 22nd November 1968).
(12) Copy letter dated 29th March 1965 from Messrs. Price Waterhouse & Co. to H.M. Inspector of Taxes.
(13) Statement 1 from the Company's profit and loss account to 31st December 1962.
Copies of such of the above as are not annexed hereto as exhibits are available for inspection by the Court if required.
5. As a result of the evidence, both oral and documentary, adduced before us we find the following facts proved or admitted:
(2) The Company was a subsidiary of P-E Holdings Ltd. (hereinafter called "the holding company"). The latter (originally named Production-Engineering Ltd., then P-E Management Group Ltd., and finally P-E Holdings Ltd.) was incorporated in 1934 as a private company limited by shares, with the following main object:
To investigate, advise on, and carry out improvements on or in respect of business methods, operations, general organisation, staff, trading and production policies of any offices, warehouses, wholesale and retail stores, factories, industrial stores and businesses of all descriptions.
(3) The holding company had an authorised share capital of £20,000 in £1 ordinary shares, 10,300 of which were issued and fully paid up.
(4) The Company was incorporated in 1955 (under the name Production-Engineering Ltd., changed on 1st January 1965 to P-E Consulting Group Ltd.) as a private company limited by shares, all of which were held by the holding company (until 20 shares of £1 each were purchased by the trust during the period ended 31st December 1963). The Company's main object was similar to that of the holding company.
(5) The holding company was originally controlled by three main shareholders, one of whom, the late Maurice Lubbock, built up its successful business of managerial and industrial consultancy. At the date of his death in 1957 only a few shares in the holding company were held by the group's pension fund or by employees, and the senior professional staff became concerned at the prospect of control being exercised by outside shareholders with no professional qualifications. Shortly after his death the senior professional staff were in fact upset on two occasions when drastic changes in management were made by the outside shareholders.
(6) In 1938 Barmel Investment Co. Ltd. (hereinafter called "Barmel") was created for the investment of the group's pension fund, and by 1962 had acquired 41 per cent. of the equity in the holding company.
(7) By 1962 the Company had become the main trading company in the group, providing services in managerial and industrial consultancy. Fees for its services were charged under a fixed scale for assignments which might last from two days to two years. Its professional staff numbered 310, all of whom held university degrees or professional qualifications.
(8) In or about May 1962 the introduction of a scheme to enable employees to purchase shares in the Company and in the holding company was being discussed. A value of £13 per share in the holding company was taken as a guide to the finance required to start the scheme, which was to be made under s. 54(1)(b) of the Companies Act 1948, and was the basis for the subsequent formal trust. The objects of the scheme were broadly to be: (a) to give staff an opportunity to purchase a stake in the Company, thereby providing an incentive to greater effort on their part; and (b) to remove the possibility of outside interference with the business of the Company.
(9) In July 1962 a first payment of £5,000 was made by the Company for the purposes of the...
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