HM Revenue and Customs v D'Arcy
| Jurisdiction | England & Wales |
| Judge | THE HON. MR JUSTICE HENDERSON,Mr Justice Henderson |
| Judgment Date | 07 February 2007 |
| Neutral Citation | [2007] EWHC 163 (Ch) |
| Docket Number | Case No: CH/2006/APP/575 |
| Court | Chancery Division |
| Date | 07 February 2007 |
[2007] EWHC 163 (Ch)
IN THE HIGH COURT OF JUSTICE
CHANCERY DIVISION
Royal Courts of Justice
Strand, London, WC2A 2LL
The Hon. Mr Justice Henderson
Case No: CH/2006/APP/575
Mr Michael Furness QC (instructed by Acting Solicitor to HMRC) for the Appellants
Mr Kevin Prosser QC and Mr James Henderson (instructed by P.E. Shirley & Co, Chartered Accountants) for the Respondent
Hearing date: 16 th January 2007
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.
Mr Justice Henderson
Introduction
This is an appeal by the Commissioners for Her Majesty's Revenue and Customs (“the Revenue”) against the Decision of a Special Commissioner, Dr John Avery Jones CBE, dated 14 th June 2006 (“the Decision”) allowing in principle the appeal of the taxpayer Mrs Philippa D'Arcy against the conclusion in a closure notice dated 15 th February 2005 and the amendments to her tax return for 2001/02 to give effect to that conclusion. The Decision is reported at [2006] STC (SCD) 543.
At the hearing before the Special Commissioner there was a procedural issue in addition to the substantive issue with which I am now concerned. The Special Commissioner decided the procedural issue in favour of the Revenue: see paragraphs 4 to 15 of the Decision. There was no appeal by the taxpayer against that part of the Decision. The Special Commissioner decided the substantive issue in favour of the taxpayer, and it is against that part of the Decision that the Revenue now appeal to the High Court.
Both before the Special Commissioner and before me the Revenue have been represented by Mr Michael Furness QC, and the taxpayer by Mr Kevin Prosser QC and Mr James Henderson.
The substantive issue turns ultimately on a short question of construction of an excepting provision in Chapter II of Part XVII of the Income and Corporation Taxes Act 1988 (“ ICTA”) as it applied in the tax year 2001/02 to a series of transactions in gilt-edged securities undertaken by Mrs D'Arcy with the avowed object of obtaining an allowable deduction against her taxable income for a so-called manufactured interest payment of approximately £1,511,000. It is no longer in dispute that she is entitled to such a deduction as a result of the transactions she entered into. The question that I have to decide, in outline, is whether the benefit of that deduction is largely cancelled out by a charge to income tax under the provisions relating to the transfer of securities with accrued interest (“the accrued interest scheme”) in Chapter II of Part XVII. It is common ground that such a charge arises unless it is excluded by the exception in section 715(1)(b), which applies:
“if the transferor is an individual and on no day in the year of assessment in which the interest period ends or in the previous year of assessment the nominal value of securities held by him exceeded £5000.”
At first blush it may seem surprising that there could be any question of this exception applying to Mrs D'Arcy, as the transactions which she undertook involved two acquisitions and disposals of gilts with a nominal value of £31,000,000 over a period of seven days in February 2002. However, as I shall explain the exception has to be read in the light of certain interpretative provisions in section 710, including in particular section 710(7)(b) which provides that a person holds securities on a day:
“if he is entitled to them throughout the day or he becomes and does not cease to be entitled to them on the day.”
The short point on which the appeal turns is whether Mrs D'Arcy, who admittedly became entitled to £31,000,000 nominal of gilts on 20 th February 2002, also ceased to be entitled to them on that day within the meaning of section 710(7)(b), in which case she did not hold them on that day and they do not count for the purposes of the £5,000 threshold in section 715(1)(b); or whether, as the Revenue contend, she did not cease to be entitled to them on 20 th February within the meaning of section 710(7)(b) because she is already conclusively deemed to have transferred them on 13 th February by virtue of further deeming provisions in section 710(6). If the Revenue's construction is correct, the conclusion follows that Mrs D'Arcy did indeed hold the relevant gilts on 20 th February 2002 and the exception in section 715(1)(b) is clearly inapplicable.
The facts
The facts were agreed and are set out in full in paragraph 3 of the Decision. Since the Decision is reported I will not reproduce paragraph 3, but will instead give a brief summary of the main steps in the transactions. I have rounded the figures for convenience, as nothing turns on the precise amounts involved.
Mrs D'Arcy is the founder and chief executive officer of a company called The Rose Partnership which carries on specialist executive search business in the City of London. She was introduced to the scheme by Mr Philip Shirley, a tax adviser, who wrote to her on 10 th January 2002 giving details of how it was intended to operate, the margin money (approximately £360,000) that she would need to provide in advance, and the fees (20% of any net tax saving) which she would have to pay if the scheme succeeded. The letter, and a projection which accompanied it, referred to proposed transactions with a nominal value of £33.5m, but in the event the actual transactions which took place had a nominal value of £31m.
On 13 th February 2002 the following transactions took place:
(1) Mrs D'Arcy (acting, as she did throughout, through the agency of a firm of brokers called NCL Investments Limited) entered into a sale and repurchase (“repo”) contract with the Royal Bank of Scotland (“RBS”), under which
(a) she agreed to buy £31m nominal Treasury 9.75% Stock 2002 (“gilts”) cum dividend for settlement on 14 th February at a price of £33.665m; and
(b) she agreed to resell equivalent gilts to RBS for settlement on 20 th February for £33.683m.
The difference between the purchase and resale prices of approximately £18,000 represents, in economic terms, interest payable by RBS for the use of Mrs D'Arcy's £33.665m for 6 days. However, the gilts were due to go “ ex-dividend” on 18 th February, so under the terms of the contract between Mrs D'Arcy and RBS she was also obliged to remit to RBS an amount equal to the income coupon on the gilts (£1.511m) on the date when it was paid (27 th February).
(2) Mrs D'Arcy also agreed to sell, again “cum dividend”, £31m nominal gilts to another market maker, JP Morgan Securities Ltd (“JPMS”), for a price of £33.325m (which included accrued interest of £1.404m) for settlement on the next day, 14 th February.
On 14 th February, RBS duly transferred £31m nominal gilts to Mrs D'Arcy under the first leg of the repo contract, and she duly transferred an equivalent amount of gilts to JPMS under the sale contract.
On 20 th February the transactions of 13 th February were unwound, as follows:
(1) In order to comply with her obligation to deliver £31m nominal gilts to RBS under the second leg of the repo contract, Mrs D'Arcy agreed to buy an equivalent amount of gilts from (coincidentally) JPMS for settlement on the same day for a price of £31.855m. The price was of course lower than the price at which JPMS had bought the gilts on 14 th February because they had gone ex-dividend in the meantime.
(2) Mrs D'Arcy also resold £31m nominal gilts to RBS under the second leg of the repo contract for the agreed price of £33.683m.
Finally, on 22 nd February 2002 the coupon on the gilts became payable. Mrs D'Arcy was not, of course, entitled to receive it herself, because she did not own the gilts when they went ex-dividend on 18 th February. However, she was obliged under the repo agreement with RBS to make an equivalent “manufactured interest” payment of £1.511m on the date when the coupon was paid, and this she duly did. She was not left out of pocket, however, because she had already made a profit of a similar (although not identical) amount on the repurchase of the £31m nominal gilts, now ex-dividend, from JPMS on 20 th February.
Mrs D'Arcy's payments and receipts are conveniently summarised in a table in Mr Furness' skeleton argument, which I reproduce:
| Date | Transaction | Payments £m | Receipts £m |
| 14/2/02 | Purchase of gilts from RBS, under repo agreement of 13/2/02 | 33.665 |
|
| 14/2/02 | Sale of gilts to JPMS, under JPMS sale agreement of 13/2/02 |
| 33.325 |
| 20/2/02 | Purchase of gilts from JPMS, under JPMS purchase agreement of 20/2/02 | 31.855 |
|
| 20/2/02 | Sale of gilts to RBS, under repo agreement of 13/2/02 |
| 33.683 |
| 27/2/02 | Manufactured interest payment to RBS, under repo agreement of 13/2/02 | 1.511 |
|
|
|
| 67.031 | 67.008 |
As Mr Furness points out, the payments and receipts do not quite balance because, first, the transactions with JPMS are stated net of commission, and, secondly, the interest rate inherent in the repo was slightly different to the rate at which interest was accruing on the gilts.
Common ground: the taxation of the repo and the manufactured interest
There is no disagreement between the parties as to how the repo transaction should be taxed. In economic terms, a repo is a form of secured borrowing, and accordingly s.730A of ICTA (which was enacted in 1995) provides that the difference between the sale price and the repurchase price is to be treated as a payment of interest. In the present case, the difference between the price paid for the gilts by Mrs D'Arcy to RBS on 14 th February and the sum which she...
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