Smith and Another
| Jurisdiction | UK Non-devolved |
| Judgment Date | 30 October 2023 |
| Neutral Citation | [2023] UKFTT 912 (TC) |
| Court | First-tier Tribunal (Tax Chamber) |
[2023] UKFTT 912 (TC)
Tribunal Judge Amanda Brown KC, John Agaboola
First-Tier Tribunal (Tax Chamber)
Income tax – Whether there was a distribution made to the appellants assessable to income tax – Appeal allowed.
In Smith & Anor [2023] TC 08977, the FTT found that there had been no distribution of goodwill to company shareholders on the basis that the goodwill was not an asset of the company and could not therefore be distributed.
Messrs Smith and Corbett (the appellants) were shareholders and directors of Simpsons Independent Financial Advisors Ltd (SIFA). Mr Corbett had previously operated as a sole trader prior to incorporating SIFA and had no formal employment contract with SIFA. He regarded the client relationships as belonging to him personally. Mr Smith became a shareholder later, making a payment for his shares based on the net book value of the company’s assets (that did not include goodwill). His employment terms were not initially evidenced (although the Tribunal accepted evidence from both parties that there was an agreement that Mr Smith’s clients ‘belonged’ to him). Later a contract was signed, using a template provided by solicitors but from which the restrictive covenant clause that prevented Mr Smith from continuing to advise his clients if he left SIFA was struck out. Subsequently, SIFA’s business was transferred to Simpson Wealth Management LLP (SWM), an LLP in which there were five members, including both appellants and their wives. The appellants’ capital accounts were credited with £1,017,000 and £1,179,000 respectively, recorded as goodwill introduced. Following enquiries, HMRC issued assessments to income tax on the basis that a distribution of goodwill had been made by SIFA to the appellants.
The appellants submitted that as, under CTA 2009, s. 46, trade profits have to be computed in accordance with generally accepted accounting practice (GAAP) and SIFA’s accounts (which were GAAP compliant) did not include goodwill, goodwill could not have been distributed. Further, they contended that the goodwill contributed by the appellants had never belonged to SIFA and could not therefore have been distributed by it.
HMRC submitted that the goodwill must have belonged to SIFA because (on the authority of IR Commrs v Muller & Co Margarine Ltd[1901] SVC 25) goodwill was inseparable from the business to which it added value, and that the term of the transfer agreement that provided for transfer of goodwill from SIFA to SWM at market value led to an inference that it must have passed to the appellants in consequence of the transfer.
The Tribunal accepted that, although CTA 2009, s. 46 refers only to profits, it also carried through to the balance sheet which was also part of the GAAP accounts. SIFA’s balance sheet did not include the goodwill. As there was no basis to conclude that the accounts of either SIFA or SWM were not GAAP-compliant (particularly as they had attributed value to other goodwill acquired after the transfer to SWM, demonstrating that GAAP principles relating to intangibles had been considered and applied), they concluded that the goodwill that HMRC contended had been distributed could not have been an asset of SIFA.
Although strictly not necessary, they went on to consider the nature of goodwill more generally, in particular HMRC’s position that goodwill could only ever belong to the entity that carried on the business to which it related. In their view, the position was more complex. Both appellants had relationships with their clients that represented a valuable asset. In the Tribunal’s view, the asset of each appellant was their reputation which (per Kirby v Thorn EMI plc) was a form of goodwill, rather than a personal relationship which (per R & C Commrs v Smith & Williamson Corporate Services Ltd) did not represent a capital asset. Whilst employed by SIFA, those relationships provided SIFA with the opportunity to generate income but remained vested in the appellants. The Tribunal concluded that the relationships were assets of the individual appellants, hence not capable of transfer by SIFA so that no distribution could have been made.
The appeal was allowed.
Although ostensibly required to determine whether there had been a distribution within CTA 2010, s. 1000 (either a distribution out of assets of the company or a distribution consisting of a transfer of an asset of the company to its shareholders), the matter to be determined by the Tribunal was the factual question of whether the asset (goodwill) belonged to the company at all.
Comment by Stephanie Webber, Senior Tax Writer, Croner-i Ltd.
Mr Patrick Cannon of counsel, appeared for the appellant
Mx Cleo Lunt litigator of HM Revenue and Customs' Solicitor's Office, appeared for the respondents
[1] These appeals concern discovery assessments (Assessments) to income tax issued by HM Revenue & Customs (HMRC) to each of Mr Smith and Mr Corbett (together Appellants) pursuant to section 29 Taxes Management Act 1970 (TMA) for the year ended 5 April 2013 in the amounts of £361,160.43 and £418,744.92 respectively.
[2] The Assessments were raised because HMRC consider that Simpsons Independent Financial Advisors Ltd (SIFA) made a distribution to the Appellants meeting the definition of section 1000 Corporation Tax Act 2010 (CTA) and assessable to income tax pursuant to section 383 Income Tax (Trading and Other Income) Act 2005 (ITTOIA). The distribution in question is said to have been in the form of goodwill which was credited to the capital accounts of the Appellants in Simpsons Wealth Management LLP (SWM).
[3] SIFA was incorporated on 29 June 1999. At that time Mr Corbett was appointed as a director. Mr Smith was appointed as a director on 1 January 2006.
[4] SWM was founded on 2 June 2011 with five members including SIFA and the Appellants (together with the wives of each of the Appellants).
[5] Pursuant to a business transfer agreement (BTA) dated 1 July 2012 the business of SIFA was transferred to SWM.
[6] Mr Corbett's capital account in SWM was credited with £1,179,000 and Mr Smith's capital account was credited with £1,017,000. Both credits were recorded as “goodwill introduced”.
[7] On 24 December 2014 HMRC opened enquiries unto SIFA's corporation tax return for the period ended 30 September 2013 and SWMs partnership return for the year ended 5 April 2013. HMRC contend and the Appellants accept that in consequence of information obtained through those enquiries HMRC discovered what is said to be income for each of the Appellants which ought to have been assessed to income tax and, on 19 April 2017 raised the Assessments.
[8] On 7 August 2018 HMRC also issued a closure notice to SIFA for the accounting period to 30 September 2013 charging additional tax of £525,886.13 in respect of a capital gain said to have arisen in connection with the crystallisation of a gain in connection with self-generated goodwill. HMRC subsequently conceded that no such charge arose in that tax period. That closure notice is therefore not under appeal but HMRC's position in respect of SIFA is relevant in the context of the appeals before us.
[9] There is a single issue which we must determine: whether there was a distribution made by SIFA to the Appellants.
[10] For the reasons set out below we find that there was no distribution by SIFA. The appeal therefore succeeds.
[11] Section 1000 CTA (Section 1000) provides a definition for “distribution”. So far as material to this appeal, a distribution includes:
- B – a distribution out of assets of the company in respect of the shares in the company except repayment of capital on the shares or where made to a new contribution of capital of equal value; and/or
- G – an amount treated as a distribution (pursuant to section 1020 CTA) i.e. the transfer of assets to a member where the value of the benefit exceeds any new contribution.
[12] Section 383 ITTOIA brings any distribution into the charge to income tax (Section 383Charge).
[13] Section 46 Corporation Tax Act 2009 (section 46) provides:
The profits of a trade must be calculated in accordance with generally accepted accounting practice, subject to any adjustment required or authorised by law in calculating profits for corporation tax purposes.
[14] Section 46 has variously been described as encapsulating “the golden rule” when taxing a company. As recently confirmed by the Supreme Court in HMRC v NCL Investments Limited and another [2022] UKSC 9 (NCL) Section 46 confirms that accounts prepared in accordance with currently accepted accounting principles “are the best guide as to the true and fair view of the profit or loss of the company in the relevant accounting period.”
[15] There are no statutory provisions determining what constitutes goodwill or how its ownership is to be determined. The parties referred to a number of cases concerning goodwill. These cases were of limited assistance to us as it is it not the nature of the asset in question which is in dispute but who it belonged to before it was contributed to SWM. However, to the extent necessary we address the cases referred to in the outline of submissions and the discussion sections below.
[16] We were provided with a bundle of documents and six witness...
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