Marlborough DP Ltd
| Jurisdiction | UK Non-devolved |
| Judgment Date | 01 September 2021 |
| Neutral Citation | [2021] UKFTT 304 (TC) |
| Court | First Tier Tribunal (Tax Chamber) |
[2021] UKFTT 304 (TC)
Judge Harriet Morgan, Member John Woodman
Mr Michael Firth, counsel, instructed by Morrisons Solicitors LLP, appeared for the appellant (“MDPL”)
Mr Julian Gosh QC and Ms Barbara Belgrano, instructed by the General Counsel and Solicitor to HM Revenue and Customs, appeared for the Respondents (“HMRC”)
Income tax – Whether under the Income Tax (Pensions and Earnings) Act 2003 amounts paid under trust arrangements are taxable as earnings from employment – Or under Pt. 7A of that Act – No – Whether the Appellant can obtain a tax deduction for contributions to the trust in computing its profits for corporation tax purposes if the amounts are taxable under that Act – Yes – Appeal allowed.
The FTT found that loans made to a director from a remuneration trust were not connected to the employment and were distributions made in substitution of what would otherwise have been lawfully declared dividends.
Marlborough DP Ltd is a dental practice of which Dr Thomas is the sole director and 100% shareholder. The company used a remuneration trust arrangement through which contributions it made to the trust were used to provide personal loans to Dr Thomas, which he accepted that in reality would never be repaid. The arrangements continued over a number of years, from 2008 to 2015. Loans made to Dr Thomas were not subjected to tax (or NICs) and the company deducted the contributions in computing its profits for corporation tax purposes.
HMRC subsequently raised enquiries and discovery assessments covering the periods in question, denying corporation tax relief for contributions to the trust and raising determinations in respect of both income tax and NICs on the loans to Dr Thomas.
Marlborough DP Ltd (Marlborough) now appealed on the basis that the loans were not “earnings from employment” but should instead be taxed as distributions, or alternatively, that if the loans were earnings then the company should be entitled to a corporation tax deduction for the contributions.
In addition Marlborough appealed against the procedure and validity of the determinations. Though there was considerable legal argument on the point, this aspect of the appeal was dismissed and is not discussed further here.
It was not in dispute that the original purpose of the arrangement had been to extract money from the company in a form which did not attract tax (or NICs) whilst obtaining a deduction from company profits. The company now accepted that it was not entirely successful in achieving that purpose.
The remuneration trust arrangement was complex, but the essential issue at stake was straightforward: were loans made by the trust to Dr Thomas taxable as “earnings” or as distributions (dividends)?
HMRC contended that as the company had not followed any of the formalities of company law in declaring dividends and none of the documentation associated with the arrangement referred to the payments as distributions, there was no evidence to show that the payments were intended to be distributions or to show that they had been paid in respect of his shareholding. Dr Thomas was a director of the company and the payments represented the “fruits of his labours”, both as a dentist and in respect of his directorship duties; the payments must therefore be earnings.
On the contrary, Marlborough argued that the payments were distributions. Citing Mairs (HMIT) v Haughey [1993] BTC 339, it was argued that where a payment is made in substitution of another payment which would otherwise have been payable, then the payment in lieu should not be treated differently. In this case, prior to entering into the trust arrangements, Dr Thomas had been taking a minimal salary (as is customary in small, personally owned limited companies) and extracting the full amount of the remaining profits in the form of (properly declared) dividends each year. If the trust arrangements had not been entered into, this practice would have continued. In fact, after the trust arrangements ceased, this practice had been reinstated. The loans were therefore simply a redirection of what would otherwise have been formally declared as dividends and should be taxed as such.
Referring to Toone v Ross [2020] BTC 5, it was further contended that where a payment is made for the benefit of shareholders and is not a reward for service, the absence of formalities does not preclude it from constituting a distribution.
The FTT found that the payments were not earnings. HMRC's position that if payments were not properly declared as dividends then they must, by default, be earnings was rejected. In making this decision, the FTT considered the now well-known case of RFC 2012 plc (in liquidation) (formerly Rangers Football Club plc) v Advocate General for Scotland [2017] BTC 22 (Rangers) to which HMRC had referred, but drew a distinction. In Rangers, loans made to players were clearly made in respect of work performed under an employment contract and as such were in substitution for earnings, whereas in this case there was clear evidence that if Marlborough had not paid over its remaining profits to the trust it would have paid them as dividends to Dr Thomas.
Considering whether the disguised remuneration provisions of Pt. 7A, ITEPA 2003 were applicable, the FTT looked at s. 554A, ITEPA 2003, which provides that [emphasis added]:
(1) Chapter 2 applies if–
- a person (A) is an employee, or a former or prospective employee, of another person (B),
- there is an arrangement (the relevant arrangement) to which A is a party or which otherwise (wholly or partly) covers or relates to A,
- it is reasonable to suppose that, in essence –the relevant arrangement, orthe relevant arrangement so far as it covers or relates to A,is (wholly or partly) a means of providing, or is otherwise concerned (wholly or partly) with the provision of, rewards or recognition or loans in connection with A's employment, or former or prospective employment, with B,
- a relevant step is taken by a relevant third person, and
- it is reasonable to suppose that, in essence –the relevant step is taken (wholly or partly) in pursuance of the relevant arrangement, orthere is some other connection (direct or indirect) between the relevant step and the relevant arrangement.
For the same reasons it had found against the payments being direct earnings, the FTT concluded that the payments were not concerned with the provision of rewards, recognition or loans in connection with Dr Thomas' employment, but had instead been made by virtue of his shareholding. Accordingly, the disguised remuneration provisions did not apply.
Having made the decision that the payments distributions rather than earnings or disguised remuneration, it was largely irrelevant whether a corporation tax deduction should have been available, but the FTT determined that if it was wrong in its decision and that the payments were earnings, then a deduction would be appropriate.
This case is potentially momentous for sole director shareholders. HMRC clearly presumed that if lawful dividends were not properly declared then payments must more or less automatically represent earnings, but the FTT thought differently and felt there was not sufficient evidence to establish a direct connection between the payments and employment.
It may be surprising to some that HMRC contrived to lose the case, despite the admitted nature of the tax avoidance scheme, its variety of administrative and documentary failures (including some factual “untruths”) and that Dr Thomas apparently relied upon his advisers having found some “loophole” which by his own admission he did not fully understand (or fully question).
However, it is telling that the FTT found that “certainly, there is no presumption that, if the profits of such a company are extracted from it into the hands of the shareholder/director otherwise than by way of the making of a dividend which conforms with company law procedures, the profit must be assumed to be received as a reward for the shareholder/director's services as director/employee.”
HMRC is unlikely to want to let this decision set a precedent and we expect a further appeal.
[1] MDPL has appealed against various assessments, determinations and decisions issued by HMRC in which HMRC seek to impose taxes in respect of payments made under a “remuneration trust” structure which MDPL used for a number of years for the benefit of its sole shareholder and director, Dr Mathew Thomas. It appears the structure was devised and promoted by various persons and entities connected with Mr Paul Baxendale Walker (referred to together as “BW”).
[2] At all relevant times, MDPL operated a dental practice in which Dr Thomas provided his dental services. In summary, MDPL put in place the following arrangements (“the RT arrangements”) which are under consideration in this appeal:
- MDPL established a trust (the RT) which was stated to be for the benefit, broadly, of persons who had provided or might in the future provide services, custom or products to MDPL.
- MDPL made contributions to the RT (the contributions) on the basis that, as stated in the relevant documents, the contributions reflect part of the economic cost to [MDPL] of earning its profits. For each relevant accounting period, MDPL (a) deducted the contributions as business expenses in computing its profits for accounting purposes, and (b) claimed a deduction for them in computing its profits for corporation tax purposes.
- Acting on behalf of the trustee of the RT, a company controlled by Dr Thomas used the funds received as contributions, in each case very shortly after a contribution was made to the RT, to make loans to Dr Thomas (the loans) of the same or very nearly the same amount as the relevant contribution.
[3] There was no dispute that the sole purpose of the scheme was to extract MDPL's profits into the hands of Dr Thomas in a form which it...
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