A Major Power Cut

JUSTIN HAMER and PETER NIAS of McDermott, Will and Emery take a look at power and forward tax agreements, and reach a surprising conclusion concerning the national minimum wage.

THE ART OF government is the art of the exercise of power. Power resides in Parliament and the Crown. The Government wields that power in the name of the monarch.

While the Crown can theoretically exercise power as it chooses, those bodies created by the Crown to operate and dispense its power must operate within the constraints of the dispensation that they hold.

To put the matter in another way, public bodies including the Inland Revenue, when acting in their public capacity, can only do those things which the law gives them the power to do. Such power will usually be found in legislation, either primary (Acts of Parliament) or secondary (statutory instruments). If it cannot be found there then, in the absence of some principle of common law or an exercise of the royal prerogative permitting it to be done, power will not exist.

Ultimately however, and in one way or another, Government, government and governance is about power.

Beyond the boundary

It was upon the basis that the Revenue was acting outside the scope of its powers, when entering into a forward tax agreement with a taxpayer, that Lord Justice Gill in the Court of Session declined to give relief to the petitioners in the case of Fayed and Others v Advocate-General for Scotland and Commissioners of Inland Revenue [2002] STC 910.

While the fact that the Revenue entered into such an agreement has been met by many with what, at best, can be described as incredulity, or with what might perhaps be more accurately described as moral indignation, there is the delicate question as to whether Lord Justice Gill got it all right. From some of the reaction there can be no doubt that the judgment was popular, but popularity is a poor basis upon which to run a legal system.

This article will not repeat the details of the case which were fully summarised and commented upon in Taxation, 13 June 2002 at pages 281 to 283. Rather it raises some questions about the legitimacy of aspects of a decision which may not be consigned to the graveyard of those cases 'decided upon their own particular merits', and which might return to haunt some hapless adviser upon tax.

As a preface, it is proper to note that the decision is one at first instance, and in that respect carries a weight similar to the judgments of Lord Justice Bingham and Mr Justice Judge in R v Commissioners of Inland Revenue, ex parte MFK Underwriting Agents Ltd [1989] STC 873. That case, together with the judgment of the House of Lords in Commissioners of Inland Revenue v National Federation of Self-Employed and Small Businesses Ltd [1981] STC 260 (the 'Fleet Street casuals' case), set out the boundaries within which the Revenue would be held to account for representations made as to the taxation of transactions. The reasoning deployed in the Al Fayed case gives the Revenue significant scope for arguing, should it be so minded, that those boundaries simply do not apply, as it never had the power to make the representations in the first instance.

It is also proper to note that when finding that the Revenue had no power to enter into 'forward tax agreements', Lord Justice Gill, though only concerned with the single agreement before him, felt obliged and sufficiently well informed to comment on all agreements of that broad genre. Potentially therefore the comments covered those agreements arrived at after detailed and measured consideration of the taxpayers' circumstances and which contained the very provisions the absence of which in the Al Fayed forward tax agreement Lord Justice Gill criticised: a procedure for review during the currency of the agreement; provision for change of law; provision for change of domicile; provision for change of residence; financial disclosure; and provision for limiting the amount of funds remitted to the United Kingdom.

Irrespective of whether the Revenue had the power to enter into such an agreement, Lord Justice Gill also found that he would in any event have struck down the agreement, following ex parte MFK and the Fleet Street casuals case, on the basis that the petitioners had 'not put all [their] cards face upwards on the table' (ex parte MFK per Lord Justice Bingham).

Why was the agreement ultra vires?

It was concluded that the payments under the forward tax agreement could not be characterised as 'inland revenue' within the terms of sections 1(1), 13(1) and 39, Inland Revenue Act 1890, and, as the Commissioners of Inland Revenue are (broadly) only charged with authority to collect and administer 'inland revenue', they had no power to collect something that was not 'inland revenue'.

Lord Justice Gill did not embark upon any particular analysis of what might constitute 'inland revenue' and what might not. He was simply very clear that in his view that which was collected ought to more 'fairly be described as a premium paid in consideration of [the taxpayer] not undergoing a process of assessment' and that it could not be 'characterised as a collection of inland revenue'.

While noting the wide scope of the Revenue's care and management powers, Lord Justice Gill found himself postulating the following question: 'in entering into this agreement [did] the respondents [carry] out an act of collection and management of inland revenue at all?'. If not, then questions as to the scope of the discretion inherent in the Revenue's powers of care and management are otiose.

Lord Justice Gill answered the question in the negative, and while the colourful characterisations that are made of the arrangement are a literary joy to read, it is not entirely clear that his conclusion follows from the facts before him (or which are reported in the decision at least).

The particular forward tax agreement before Lord Justice Gill is repeated at paragraph 54 of the decision. The operative section of the agreement provides that the payments were to be made in '… settlement of income tax or capital gains tax to which they become liable …' and '… which are assessable or may be assessable on them …'.

On this language it would follow that if there were no tax liability, there would be no payment. Maybe this was not a possibility contemplated by the parties because the eventuality of there being no remittances was not envisaged, but that is what the words imply.

Maybe the words are being taken out of context and the specific language employed in the agreement should be ignored. Assume that such is the case and leave to one side the terms of an agreement made between a taxpayer and a tax collecting body which appear to provide that the payment agreed was in settlement of actual tax liabilities of the taxpayer.

Mechanism

Assessments to tax were made. That is, assessments as to the amount of tax due were made and accepted. Payments were made on the basis of those assessments, and payments were accepted on the basis of those assessments as settlement of the liabilities to tax acknowledged therein.

To be clear, a taxpayer agrees that there is a liability to tax, an assessment as to how much tax is due from the taxpayer is made, and the taxpayer pays the sum stipulated by the assessment; on the Al Fayed decision such a payment does not constitute tax. Might it possibly be an error to say that there was no collection of 'inland revenue' per se?

The Revenue received a sum of money in discharge of an assessed liability to tax. A collection of 'inland revenue' would seem to be precisely what was achieved.

Could it be that the court has confused the collection of tax with the manner of its collection? A collection is no more than a receipt of taxes by the Revenue. No agreement can of itself amount to a 'collection', as no back duty agreement can amount to a collection. An agreement in this context, back duty or otherwise, is a means by which collection is facilitated; it is the 'management' (section 1(1), Inland Revenue Regulation Act 1890) or the 'cause to be collected' (section 13(1), Inland Revenue Regulation Act 1890) of the collection and not the collection itself.

For the court to conclude that 'the 1997 agreement [did] not involve the taxation of taxable transactions' is to misconstrue the nature of the forward tax agreement. The taxation of taxable transactions occurred not through the agreement, but through assessment.

Perhaps a more balanced view might be that the forward tax agreement regulated any subsequent enquiry into the assessment. If this is so, then the question to which the judge should have addressed his mind was whether the agreement was a legitimate method by which tax should be collected. This question requires an examination of whether the Revenue acted within its managerial discretion, and the authorities are clear that the Commissioners are conferred with 'a very considerable discretion in the exercise of their powers' (Fleet Street casuals per Lord Scarman).

Although this is not entirely clear from the decision, Lord Justice Gill appears to have held that whether or not the payments amounted to payments of tax, the making of the forward tax agreement was not a proper exercise of the Revenue's care and management. That is, if what the Commissioners collected was tax, then the objection of the court was to the method by which the Commissioners collected it.

Lord Justice Gill accepts that there are circumstances where the Revenue may agree to forego tax in respect of a future transaction that on a strict construction of the legislation is properly due. However, he states that forward tax agreements cannot be 'equiperated' to such settlements or guidance as are referred to in paragraph 114 of the judgment.

The difficulty with this latter point is that none of the criticisms made in the decision of forward tax agreements in general answer the question why they cannot be so 'equiperated'. To put the point another way, each of the criticisms that is made of such agreements can equally be applied to the types of settlement or guidance with which Lord Justice Gill cannot 'equiperate.'

The Revenue's case

The Revenue's case was that it did have power to enter into forward tax agreements in general, but this particular agreement was ultra vires because the taxpayer had not placed all his cards face up on the table when the agreement was entered into.

On the basis of ex parte MFK, Fleet Street casuals and Matrix Securities Ltd v Commissioners of Inland Revenue [1994] STC 272, no criticism can be levelled at the Revenue for this approach. Those cases set out a code, for Revenue and taxpayer, delineating the circumstances in which a taxpayer might be able to rely on a ruling by the Revenue, and subsequently obtain relief by means of judicial review should the Revenue seek to resile from its original position.

In one material respect, however, the Al Fayed case is different from those situations envisaged in the decisions delivered in ex parte MFK and the other cases. In this case it appears that the Revenue was fully aware as to the quality and extent of the information that the taxpayer had supplied. The Revenue entered into the agreement fully cognisant of the deficiencies in the information that it held, indeed it was partly the deficiencies in that information that persuaded the Revenue that it would be beneficial to enter into such an agreement.

Efficiency and flexibility

The Al Fayed case concerns resources and economics. It concerns practicalities. It also concerns a flexibility that is afforded to all taxpayers, whether or not they determine that the case concerned a 'flexible approach' too far.

Mr Justice Judge said in ex parte MFK:

'The Inland Revenue may enter into agreements which in theory have the effect of reducing the amount of tax which may be collected. Such agreements could on one view be ultra vires the Inland Revenue's statutory obligation to "collect every part of inland revenue".

'Nevertheless if the Inland Revenue concludes that such arrangements would be likely in practice to result in a greater tax yield overall, it is entitled to make them. It does so as part of its administrative function: Commissioners of Inland Revenue v National Federation of Self Employed and Small Businesses Ltd 55 TC 133.'

For the most part, the flexibility should be considered a good thing; it does generally encourage co-operation between the Inland Revenue and the taxpayer. For instance, the accountancy profession (represented by what was then the big five) persuaded the Revenue for a number of years to reach an accommodation with the Revenue over how 'tax-equalised' employees, taxed under Schedule E, Case II, ought to be treated where the employer paid any United Kingdom tax due. The 'accountancy profession' disagreed with the Revenue as to how United Kingdom tax should be calculated, and the Revenue, flying in the face of the clear statutory language (see Perro v Mansworth SpC 286), agreed to split the difference between the two methods, thus providing a significant tax, and presumably National Insurance, saving to the employers.

Regardless of whether or not this was a good thing, it is just one example of a flexibility that a large number of individuals took advantage of, and while never raised to the height of a published concession, the Revenue nevertheless deemed it appropriate to advertise the withdrawal of the practice.

Implications for the future

No doubt those who now seek to heap opprobrium on the Revenue will say, should they ever come to request of the Revenue how a future transaction will be treated, 'my case is different'. But how far will taxpayers actually be able to rely on such 'differences' in light of this judgment? To what extent can reliance now be placed on Revenue representations and rulings?

Stripped bare, this case concerns a taxpayer, who agreed, with the manifestation of the Crown responsible for such matters, how future transactions should be taxed and who found that the Crown reneged upon that agreement. Whether you take to the particular taxpayer concerned or not, whether you take to foreigners or not, whether you consider the bargain an atrociously bad one or not, this decision strikes both at the Revenue's ability to use its discretion as to how it goes about the collection of Inland Revenue and at the taxpayer who seeks certainty through a ruling as to the manner in which his future transactions will be taxed. The decision also provides a 'get out of jail free card' for the Revenue: 'it is not tax, so the whole caboodle is ultra vires,' should the Revenue decide to change its mind.

In itself, the Al Fayed case is about one agreement that the Revenue entered into that was ultra vires. Though Lord Justice Gill was careful not to present it as such, the wider picture is that this decision represents an attack on the Revenue's ability to exercise discretion with regard to the care and management of the tax system.

For the taxpayer, if Lord Justice Gill was right, and the Revenue did not collect tax then it follows that the Revenue is not entitled to keep the money that it did collect and it should be returned back to the taxpayer. It was also recognised at the end of the decision, and the Revenue accepted, that the taxpayer should not be prejudiced by the revocation of the agreement. Given that state of affairs, it is difficult to envisage how the taxpayer could be properly assessed to tax for past years without being unfairly prejudiced, particularly as he will have ordered his affairs on the basis of the agreement.

In response to a Parliamentary question last month, Dawn Primarolo confirmed that forward tax agreements were entered into under the Revenue's power of care and management and were 'intended as a practical basis for taxing future income and gains where there would otherwise have been particular difficulties in establishing the exact figure'.

It would be unfortunate if the blunt instrument of Lord Justice Gill's judgment were unnecessarily to constrain the Revenue's exercise of its wide managerial discretion as to the best means of obtaining the highest net return of tax as is practical having regard to staffing levels and costs. Perhaps Lord Justice Gill implicitly indicated a possible way forward for forward tax agreements when he identified seven characteristics absent from the Al Fayed agreement, which if contained in an agreement put before him, he might have approved.

National minimum wage

What has all this got to do with the national minimum wage? The National Minimum Wage Act 1998 was an Act introduced by, and under the care of, the Department of Trade and Industry. Section 12, National Minimum Wage Act 1998 allows that department to 'arrange' that another department should enforce the national minimum wage. How such an arrangement might be consummated is unclear, but suffice to say that the Revenue is the Government department now enforcing the national minimum wage.

Now here is the crunch. Section 12 gives power to the Department of Trade and Industry to 'arrange' with another department. In itself the section confers no power on any other departments. It certainly does not confer the necessary authority for the Commissioners of Inland Revenue to enter into such arrangements.

As noted above, the power of the Revenue is prescribed by the Inland Revenue Regulation Act 1890: 'The Commissioners shall have all necessary powers for carrying into execution every Act of Parliament relating to inland revenue, and shall in the exercise of their duty be subject to the authority, direction, and control of the Treasury, and shall obey all orders and instructions which have been or may be issued to them in that behalf by the Treasury …'

'Inland revenue' is defined by the 1890 Act as 'the revenue of the United Kingdom collected or imposed as stamp duties, taxes, and duties of excise, and placed under the care and management of the Commissioners, and part thereof …'.

The Commissioners, then, have the power to collect tax (and National Insurance contributions by virtue of The Social Security Contributions (Transfer of Functions, etc.) Act 1999). The Commissioners have all necessary powers for executing Parliament's will in matters concerning tax. The Commissioners do not appear to have any authority or power to enter into arrangements concerning the enforcement of the national minimum wage.

Next time a national minimum wage officer knocks on your door, or the door of your client, ask if he is from the Inland Revenue. If he is, invite him in to talk about the collection of inland revenue but, should he mention the national minimum wage, invite him to leave and not return until he has the power to act.

That is the thing about government; it is all about power.

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