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IN THOSE DAYS when it's too hot to work, I like to polish up my plans for taxappealsbetting.com, the Gibraltar-based Internet gambling site I will launch one of these days. There will be straightforward bets on the outcome of an appeal; bets on which level the appeal will go to; spread bets, when we get to the Lords, on the majority.
The sister site vatappealsbetting.com will have other products, including 'most cases on completely different subjects by one taxpayer' (currently Abbey National are way out in front), and even 'losing in the Court of Appeal and finding you were right four years later when the European Court of Justice decides a completely different case' (Trinity Mirror plc [2001] STC 192 and Kretztechnik CJEC Case C-465/03).
There will be a special subscription service which will summarise the form of the runners and riders — the likelihood of particular Officers being right, or Special Commissioners, Tribunal chairmen or High Court judges being overturned, based on their previous record. The problem with this idea — which I think has great potential for a listing apart from this little detail — is that the only people interested enough to visit the site would be accountants and lawyers, who will be either too cautious to bet or too clever to lose; i.e. not the sort of clientele a bookie wants.
The main chance
The other thing a bookie needs is an instinct for the likely outcome. The last time I wrote about a case which had been appealed from a decision of Dr Brice to Mr Justice Park in the High Court, my brilliant analysis of why the High Court judgment was correct was published the same month that the Court of Appeal unanimously overturned it (Jerome v Kelly [2003] STC 206). But that was different: Park J had overruled Dr Brice. In Jones v Garnett (ChD 27 April 2005), he has agreed with Dr Brice … and I am still working on my calculation of the odds for the Court of Appeal, with the Lords a distant possibility.
One thing that both judgments have in common is the use of analogy and examples to explain Mr Justice Park's thinking. This is very useful if you want to understand what he is on about — in Jerome v Kelly, the initial view among most interested parties was that he had lost the plot completely, but I found his exposition completely convincing and the House of Lords gave him the last laugh. In Jones v Garnett, he has given a number of 'what if' situations to back up his decision, which helps if you want to see exactly what you can disagree with (or if you want to write yet another article about this well-visited case).
There have already been several excellent articles about it and I will assume that anyone who is still reading already knows the facts and major arguments very well. Mike Truman wrote about the decision ('Arctic Killer?', Taxation, 12 May 2005), without the benefit of the full text, but pointing out a possible circularity in HMRC's logic (adopted by Park J): the 'arrangement' involves the transfer of Mr Jones' earning power to the company, but it is not the earnings arising from this that the Revenue wishes to assess.
The transfer of the earning power is the thing that makes the gift 'not outright' (in Park J's view), but the thing that produces the assessed dividend income — the shares — surely are given outright. HMRC pick and choose the bits they want, while stating that they are taking 'the whole arrangement' into account.
John Wosner wrote about the judgment in detail once it had been published ('Nothing New?', Taxation, 23 June 2005) and raised four interesting and learned points about documents, bounty, the nature of property, and the nature of an outright gift. Anyone who has a potentially affected client would be well-advised to read both these articles if they want to (self) assess whether they can still justifiably file tax returns without applying the settlement provisions.
What ifs
The purpose of this article is to pick up a few points that do not seem to have been aired in these pages before (possibly because they are completely mistaken …). The first relates to Park J's use of 'what if' examples to back up his decision that there was not an outright gift. In paragraph 45(iii) of his judgment, he states:
'I do not consider that subsection (6) was intended to exclude a case like this from the charging provisions. It was intended for straightforward cases where one spouse gives income-yielding property to the other, and ordinary investment income continues to arise. For example, a husband gives some quoted shares to his wife …'
Once upon a time, judges did not consider the intention of the law — they made their decisions based only on what the law said. Then there was Pepper v Hart [1992] STC 898, after which it became permissible to consider the intention behind the law — but that was based on looking at Hansard to see what the Government ministers said about their intentions, rather than allowing the judge to form his or her own opinion.
Some commentators have suggested that Hansard supports the taxpayers' argument in this case, but Park J does not refer to it. If this were a significant part of the judgment, perhaps there would be a stronger argument for bringing in Hansard on appeal. However, it is at the end of one of Park J's lengthy explanations, and is probably not crucial on its own — he has already argued that the present situation is not an outright gift because Mrs Jones bought her share.
Another tip
On the same point, here is a further 'what if'. Other writers have pointed out the peculiarity of the Revenue's concentration on the dividends as being 'the income arising under the settlement' — if you don't pay a dividend, they cannot touch you. Of course, it is a little inconvenient to not be able to spend the money. So, suppose that Mr Smith (to make a change from Jones) sets up a company (Polar Systems) which is not caught by IR35; being an ungenerous sort, he keeps the two shares to himself. He works hard for the company, but does not pay either a salary or a dividend. The company stacks up the cash and buys quoted shares; the balance sheet shows undistributed reserves represented by investments. After a while, he stops working for the company and gives both shares to Mrs Smith. He starts to work for a different company instead (Aurora Systems).
There is no doubt that HMRC and Park J would see this as a settlement, and so do I. But surely there is now an outright gift of something more than a mere right to income. The features which made Park J regard the Jones' arrangement as 'not outright' are in the past — Mr Smith has no further influence on the company, and will provide no further effort after the gift. Although it would be perfectly possible (and highly tax efficient) for the company to pay dividends to Mrs Smith each year, liquidating investments to do so, it is surely more than 'substantially a right to income' because of the underlying value.
Because the company would have no further taxable income after the transfer of the shares to Mrs Smith, it would also avoid the impact of the non-corporate distribution rate — the dividends would all take place after there were taxable profits. However, I would want to make more than £50,000 a year for the whole thing to be worthwhile.
There is an outside possibility that HMRC might raise a problem over a transfer of goodwill from Polar Systems to Aurora Systems, but this is the type of business in which the goodwill probably remains with the principal anyway.
Income accumulator
I have seen another suggestion arising from the fact that HMRC want to tax dividends rather than the company's earnings. Mr and Mrs Jones — or couples in a similar situation — could retain profits in the company and then put it into liquidation after two years, reducing the liability to only 10% capital gains tax: there are no capital gains tax provisions equivalent to ITTOIA 2005, s 624 (TA 1988, s 660A as was). I see a number of problems with this.
First, it would probably require a formal liquidation rather than a strike-off under Extra-statutory Concession C16 — HMRC might well argue that the intention to turn 'caught' income into a 'not caught' capital gain was tax avoidance and they would therefore not allow the concession. Even if a formal liquidation was used, HMRC might — if they were feeling really cross — attempt to apply TA 1988, s 703 and so turn the capital back into income. If a direction under s 703 could be made to stick, s 624 would come back into play, because the result would once again be income. The last point is that dividend income is still better than a capital gain — for a basic rate taxpayer, it may be taxable at 10%, but that is covered by a tax credit.
Hitting the jackpot
One further argument that I would really love to see aired in the Appeal Court is based on a number of high-profile divorce cases. These cases have typically revolved around the contribution that a married woman has made to her husband's business, not necessarily by direct involvement, but through all the moral support offered in the course of an ordinary married life.
Judges have awarded significant shares of the assets purchased with the husband's income based on what the wife has 'earned'. Were not Mr and Mrs Jones simply recognising this principle without going through the expense and inconvenience of a divorce? As Mr Justice Park explicitly discounted suggestions that the Revenue could apply s 624 to unmarried couples or other pairings — he said that it was only applicable to husband and wife (and therefore to registered partners from December 2005) — there is now a positive incentive to divorce. 'Those whom God has joined, let taxman put asunder?'
I will finish with one other misquotation — my favourite, which is mis-taken from the Nation's Favourite Poem. 'If you can keep your head when all about you are losing theirs… you have probably underestimated the seriousness of your situation'. To depart even further from Kipling, 'if you regard something as simple and well-established when everyone else thinks it's controversial, you are either far more intelligent than anyone else, or…' — well, the alternative does not bear thinking about. Now, back to working out those odds…
Mike Thexton is director of Thexton Training Ltd and a lecturer on taxation matters.
