The Commissioners for HM Revenue and Customs v HFFX LLP
| Jurisdiction | England & Wales |
| Judge | Lady Justice Falk,Lady Justice Whipple,Lady Justice Asplin |
| Judgment Date | 19 July 2024 |
| Neutral Citation | [2024] EWCA Civ 813 |
| Court | Court of Appeal (Civil Division) |
| Docket Number | Case No: CA-2023-000974 |
Lady Justice Asplin
Lady Justice Whipple
and
Lady Justice Falk
Case No: CA-2023-000974
CA-2023-000990
IN THE COURT OF APPEAL (CIVIL DIVISION)
ON APPEAL FROM THE UPPER TRIBUNAL (TAX AND CHANCERY CHAMBER)
MR JUSTICE MELLOR AND JUDGE SWAMI RAGHAVAN
Royal Courts of Justice
Strand, London, WC2A 2LL
Kevin Prosser KC and David Yates KC (instructed by Macfarlanes LLP) for HFFX and the Individual Appellants
Thomas Chacko and James Kirby (instructed by HMRC Solicitor's Office and Legal Services) for HMRC
Hearing dates: 9 and 10 July 2024
Approved Judgment
This judgment was handed down remotely at 2.00pm on 19 July 2024 by circulation to the parties or their representatives by e-mail and by release to the National Archives.
Introduction
These appeals concern incentivisation arrangements put in place in October 2010 when GSA, an investment management business, transferred its high frequency foreign currency trading team to a limited liability partnership called HFFX LLP (“HFFX”). HFFX's business was to second members of the team to GSA Capital Partners LLP (“GSACP”), GSA's primary trading entity.
As a result of the restructuring, members of the team who were made members of HFFX became treated for tax purposes as self-employed partners rather than as employees. Under the arrangements with GSA their overall “pay-out” from the profits they earned for GSA was also increased, but a substantial proportion of it was deferred. The deferral was achieved via a “Capital Allocation Plan” (or “CAP”), under which 50% of the pay-out that the team would otherwise have received was allocated to a corporate member of HFFX, GSA Member Ltd (“GSAM”). GSAM invested those amounts in funds managed by GSA. On the first, second and third anniversaries of the allocation GSAM sold a third of the investments that it had acquired and contributed the net proceeds back to HFFX as “Special Capital”. GSAM then decided to reallocate the Special Capital to individual members, who were able to withdraw it.
The hoped-for tax analysis was that GSAM would be taxed at corporation tax rates on the amounts allocated to it (rather than the higher income tax rates to which individual members would be subject if the profits were allocated to them) and that the subsequent reallocation of Special Capital would not give rise to tax for the individual members.
The tax issues raised by the appeals are as follows:
a) Whether the allocation of profits to GSAM should be considered to be an allocation to the individual members under s.850 of the Income Tax (Trading and Other Income) Act 2005 (“ITTOIA”) (the “s.850 issue”). Strictly, this dispute is between HFFX and HMRC because it concerns the partnership tax return, although the substantive tax consequences are for the individual members.
b) If the answer to the s.850 issue is no, whether the individual members are taxable on the reallocation of Special Capital to them either as:
i) miscellaneous income under Chapter 8 of Part 5 of ITTOIA (“the miscellaneous income issue”); or
ii) sales of occupation income under Chapter 4 of Part 13 of the Income Tax Act 2007 (“the sales of occupation income issue”).
Both the First-tier Tribunal (“FTT”) and the Upper Tribunal (“UT”) found against HMRC on the s.850 issue. Although HMRC obtained permission to appeal on that issue from the UT they accept that this court's decision in HMRC v BlueCrest Capital Management LP; Dodd v HMRC [2023] EWCA Civ 1481, [2024] STC 92 (“ BlueCrest CA”) is determinative of that issue in favour of HFFX, albeit that HMRC reserve the right to apply for permission to appeal to the Supreme Court in due course. I will therefore not consider the s.850 issue further.
The FTT accepted HMRC's arguments on the miscellaneous income issue and the sales of occupation income issue. The UT dismissed the individual members' appeal on the miscellaneous income issue and (although it was not necessary for its decision) also went on to find against the individual members on the sales of occupation income issue. The UT granted permission to appeal on both of those issues but refused it in respect of two other issues, for which permission was also refused by this court. Following BlueCrest CA the individual members maintain their appeal on the miscellaneous income issue and the sales of occupation income issue. HMRC say that BlueCrest CA is dispositive of the miscellaneous income issue in HMRC's favour, and accordingly that the individual members' appeal should be dismissed.
The court is grateful for the submissions of Kevin Prosser KC and David Yates KC, for HFFX and the individual members, and Thomas Chacko and James Kirby for HMRC. Mr Prosser addressed the miscellaneous income issue and Mr Yates made submissions on the sales of occupation income issue. Mr Chacko led for HMRC but we heard submissions from Mr Kirby on one aspect of the sales of occupation income issue.
Further background facts
The high frequency foreign currency trading team comprised a group of individuals who developed high frequency foreign exchange trading strategies which were implemented using automated trading software designed by the team. The team was led by Mr Alexander Gerko, who became HFFX's “Managing Member”. Prior to the creation of HFFX the team was employed by GSA Capital Services Ltd (“GSACS”). GSACS also acted as the managing member of GSA's primary trading entity, GSACP.
In addition to its individual members HFFX had two corporate members. The first was GSACS, which was labelled in HFFX's Partnership Deed as the “Corporate Member”. The second was GSAM, which was labelled as the “Retention Member”. GSAM was owned by a Cayman Islands company acting as the trustee of a purpose trust in the form of a Cayman Islands Star Trust. The purpose of the trust was to own GSAM to promote the business of GSACP and HFFX. GSAM's single director was not otherwise connected with HFFX.
Following their transfer to HFFX the high frequency foreign currency trading team continued the activities that they had previously conducted as GSACS employees as secondees from HFFX. As part of the restructuring HFFX also became a member of GSACP. In exchange for seconding the team HFFX received a share of GSACP's profits equal to 50% of the profits generated by the team's activities.
The UT outlined how the Capital Allocation Plan was intended to work as follows:
“[10] The steps in the CAP in outline were as follows:
(1) Mr Gerko calculated a “Pre-Retention Amount” for each individual member of HFFX. In essence, this was an amount that Mr Gerko would have allocated to the member if there had been no deferral scheme.
(2) Mr Gerko was required to allocate to GSAM at least 30% of [the] Pre-Retention amount (Clause 10.3(D) of the LLP Deed). In practice the first £100,000 of each member's profit allocation was made in cash and 50% of the rest was deferred.
(3) Mr Gerko was empowered (with GSACS's consent) to make recommendations to GSAM in prescribed form as to investment of profits paid to it, the contribution of proceeds of such investments to HFFX as Special Capital, and reallocation of Special Capital to other members.
(4) Mr Gerko duly made recommendations. Those reflected the proportions deferred for the various individual members participating in the CAP.
(5) GSAM duly invested profits paid to it and contributed sums as Special Capital. It then reallocated Special Capital to individual members.
(6) Upon reallocation members could withdraw Special Capital. They argue no income tax was payable by them on withdrawal.”
As already mentioned, in practice GSAM liquidated one third of the investments acquired, contributed the proceeds as Special Capital and then reallocated that capital on the first, second and third anniversaries of the profit allocation to it. The amount that GSAM was able to invest was also obviously net of the corporation tax that it was required to pay on its profits.
Individuals who left HFFX as “bad leavers” were not eligible for a reallocation of Special Capital, but “good leavers” could be given the status of “Restricted Member” to enable them to do so. There was also a separate provision for “Restricted Fund Shares” as an alternative to the CAP, but this was intended for use by US taxpayers only, on the basis that they would be subject to an excessive tax burden if they used the CAP.
The HFFX Partnership Deed
The recitals to the Partnership Deed record that:
“The Partnership has been established in order to enable certain former employees of the Corporate Member, each being members of the HFFX Trader Group (defined below), to exercise greater autonomy over their compensation; to provide the opportunity for promotion to partner status within the Partnership and to facilitate internal governance rights for the HFFX Trader Group.”
The business of the Partnership is described in clause 4 as being to “second Members to GSA…to assist GSA in carrying on the GSA Business”.
Clause 10 deals with profit allocations. Clause 10.2 provides that the Managing Member (i.e. Mr Gerko) would determine allocations in accordance with clauses 10.3–10.5 and determine what proportion of the amounts allocated should be capable of being withdrawn under clause 11.
Under the heading “Principles of allocation”, clause 10.3 provides an order of priority. The first in order is an initial...
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