Test Claimants in the Thin Cap Group Litigation v HM Revenue and Customs

JurisdictionEngland & Wales
CourtChancery Division
Judgment Date17 November 2009
Neutral Citation[2009] EWHC 2908 (Ch)
Docket NumberCase No: HC03C04130 and Others
Date17 November 2009

[2009] EWHC 2908 (Ch)



Royal Courts of Justice

Strand, London, WC2A 2LL


Mr Justice Henderson

Case No: HC03C04130 and Others

Test Claimants in the Thin Cap Group Litigation
Commissioners for Her Majesty's Revenue and Customs

Mr Graham Aaronson QC, Mr David Cavender (and on 2 and 3 July Ms Laura Poots) (instructed by Dorsey & Whitney (Europe) LLP) for the Claimants

Mr David Ewart QC, Mr Rupert Baldry and Ms Sarah Ford (instructed by the Solicitor for HMRC) for the Defendants


Hearing dates: 20, 21, 22, 23, 26, 27 28, 29 and 30 January and 2 and 3 July 2009


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.










The Legal Background


III. Were the UK thin cap rules compatible with Article 43 EC?


(1) Introduction


(2) Lankhorst-Hohorst


(3) The decision of the ECJ in the present case


(4) Discussion


IV. What is the effect of non-compliance with Article 43 on the

thin cap regime?


(1) Introduction


(2) Is a conforming interpretation possible?


(3) Disapplication and its effect


V. Evidence and findings of fact


(1) Introduction


(2) Volvo


(3) Lafarge


(4) IBM


(5) Siemens


(6) Standard Bank


(7) The evidence of Mr Brooks and Mr Black


VI. Is Article 43 engaged when the lender is non-EU resident?


VII. Remedies for breach of Article 43: (1) Restitution


(1) Introduction


(2) The categories of claim


(3) The guidance given by the ECJ


(4) Discussion


(5) Does English law provide an adequate remedy?


(6) Are any claims which are not San Giorgio claims restitutionary claims under English law?


(7) Change of position


VIII. Remedies: (2) Damages and sufficiently serious breach


(1) Introduction


(2) Disclosure of documents by the Revenue


(3) Evidence


(4) Discussion



IX. Limitation issues


(1) Introduction


(2) Section 32(1)(c) of the Limitation Act 1980


(3) When does the limitation period start to run?


(4) Section 320 FA 2004 and section 107 FA 2007


(5) Section 33 TMA 1970


X. IBM's claim under the US/UK DTC


(1) Introduction


(2) The relevant provisions of the US Treaty


(3) Discussion


XI. Summary of conclusions


Mr Justice Henderson

Mr Justice Henderson:


I. Introduction


1. What is thin capitalisation (or “thin cap” for short)? A helpful introduction to the subject may be found in the opinion of Advocate General Geelhoed in the reference for a preliminary ruling in the present case to the Court of Justice of the European Communities (“the ECJ”). Under the heading “Context and rationale of “thin cap” rules”, he said this:

“3. There are two principal means of corporate finance: debt and equity finance. Many Member States draw a distinction in the direct tax treatment of these two forms of finance. In the case of debt finance, companies are generally permitted to deduct interest payments on loans for the purpose of calculating their taxable profits (i.e., pre-tax), on the basis that this constitutes current expenditure incurred for the pursuit of the business activities. In the case of equity finance, however, companies are not permitted to deduct distributions paid to shareholders from their pre-tax profits; rather, dividends are paid from taxed earnings.

4. This difference in tax treatment means that, in the context of a corporate group, it may be advantageous for a parent company to finance one of the group members by means of loans rather than equity. The tax incentive to do so is particularly evident if the subsidiary is located in a relatively “high-tax” jurisdiction, while the parent company (or indeed an intermediate group company which provides the loan) is located in a lower-tax jurisdiction. In such circumstances, what is in substance equity investment may be presented in the form of debt in order to obtain a more favourable tax treatment. This phenomenon is termed “thin capitalisation”. By thus manipulating the manner in which capital is provided, a parent company can effectively choose where it wishes profits to be taxed.

5. Many States, viewing thin capitalisation as abusive, have implemented measures aimed at countering this abuse. These measures typically provide for loans which fulfil certain criteria to be regarded for tax purposes as disguised equity capital. This means that interest payments are recharacterised as profit distributions, so the subsidiary cannot deduct all or part of the interest payment from its taxable income, and the payment is subject to any applicable rules on dividend taxation.”


2. The UK tax system draws the distinction noted by the Advocate General in paragraph 3, and although the UK's national tax legislation does not, in terms, deal with “thin capitalisation” as a separate topic, it has nevertheless sought in various ways to counter the perceived opportunity for abuse to which the Advocate General refers. The questions that I have to consider in the present case arise out of challenges to the compatibility of the UK legislation and rules with Community law, made by multinational groups which have invested in UK-resident subsidiaries by means of loan finance.


3. The potential vulnerability of the UK legislation to such a challenge first became apparent to taxpayers and their advisers when the ECJ delivered judgment on 12 December 2002 in Case C-324/00 Lankhorst-Hohorst GmbH v Finanzamt Steinfurt, [2002] ECR I-11779, [2003] STC 606 (“ Lankhorst-Hohorst”). In that case, which I will need to examine in more detail later in this judgment, the ECJ held that the German thin cap rules breached Article 43 EC (freedom of establishment). The German rules considered in that case were in many respects very different from the UK rules, but the judgment made it clear that Article 43 was likely to be engaged in cases where a member state's thin cap rules did not apply to similar lending by a resident parent company, and that the grounds upon which a national measure which in principle breached Article 43 could be justified were likely to be fairly narrow. In particular, paragraph 37 of the judgment suggested that any justification based on the risk of tax avoidance would have no hope of success unless the relevant national rules were specifically targeted and went no further than was necessary to achieve that purpose:

“37. As regards more specifically the justification based on the risk of tax evasion, it is important to note that the legislation at issue here does not have the specific purpose of preventing wholly artificial arrangements, designed to circumvent German tax legislation, from attracting a tax benefit, but applies generally to any situation in which the parent company has its seat, for whatever reason, outside the Federal Republic of Germany. Such a situation does not, of itself, entail a risk of tax evasion, since such a company will in any event be subject to the tax legislation of the state in which it is established ….”


4. Following Lankhorst-Hohorst, numerous claims were brought in the High Court by UK-resident subsidiaries of multinational groups, and on 30 July 2003 a Group Litigation Order (“GLO”) was made by Chief Master Winegarten for the orderly management and disposal of the claims. The proceedings are known as the Thin Cap Group Litigation, and the order of 30 July 2003 as the Thin Cap GLO. Within the group litigation appropriate test claimants have been identified. Two corporate groups, Lafarge and Volvo, with their headquarters in France and Sweden respectively, have been test claimants from an early stage, and agreed statements of facts relating to them were included in the order for reference to the ECJ which was made by Park J on 21 December 2004. The other three test groups of companies whose claims are now before me have been added since the date of the reference. They are IBM, Siemens and Standard Bank, which have their respective headquarters in the USA, Germany and the Republic of South Africa.


5. The questions posed in the order for reference were, in summary, as follows. Question 1 asked (in effect) whether the UK's thin cap rules were contrary to Articles 43, 49 or 56 EC, in circumstances where the loan finance to the UK-resident borrowing company was granted by a parent company resident in another member state. Question 2 asked what difference (if any) it would make to the answer to Question 1 in various factual situations where the states of residence of the lending and/or the direct or indirect parent company were not member states (“third countries”). Question 3 asked whether it would make any difference to the answers to Questions 1 and 2 if it could be shown that the borrowing constituted an abuse of rights or was part of an artificial arrangement designed to circumvent the tax law of the member state of the borrowing company, and (if so) what guidance the ECJ thought it appropriate to provide as to what constituted such an abuse or artificial arrangement. Question 4 may for present purposes be ignored, because it proceeded...

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