UK: Tax Update - 10 September 2012

1. General news

1.1. HMRC compliance checks

HMRC has published a series of factsheets to help taxpayers understand compliance checks. These factsheets provide an overview of the main stages of a compliance check.

www.hmrc.gov.uk/compliance/factsheets.htm

1.2. Tackling tax avoidance

HMRC has issued a brief on tackling tax avoidance. This indicates the tax gap (the difference between what is owed and what is collected) is around £35bn. It includes a section defining tax avoidance as follows:

"Tax avoidance is bending the rules of the tax system to gain a tax advantage that Parliament never intended. It often involves contrived, artificial transactions that serve little or no purpose other than to produce a tax advantage. It involves operating within the letter – but not the spirit – of the law.

Tax avoidance is not the same as tax planning. Tax planning involves using tax reliefs for the purpose for which they were intended. For example, claiming tax relief on capital investment, saving in a tax-exempt ISA or saving for retirement by making contributions to a pension scheme are all legitimate forms of tax planning. While such actions may reduce the total amount of tax paid, they are not tax avoidance, because they involve using tax reliefs in the way that Parliament intended when it passed the relevant legislation.

A small proportion of taxpayers actively seek opportunities to avoid paying tax, and promoters of avoidance schemes often market them with promises of large savings and underplay the risks. HMRC relentlessly challenges tax avoidance and has a highly-successful record of defeating avoidance schemes in the courts.

Taxpayers who enter into tax avoidance schemes can face years of uncertainty and cost as HMRC takes them through the courts, and run a high risk of having to pay the tax plus interest in the end.

If a scheme relies on concealment or providing false information to us, it will amount to tax evasion and may attract serious sanctions, ranging from financial penalties to a criminal conviction."

www.hmrc.gov.uk/about/briefings/briefing-avoidance.pdf

2. Private Clients

2.1. Penalties and negligence of professional adviser

In the case of Waseem Shakor (TC02208) the First-tier Tribunal considered whether negligence of a professional adviser was attributable to the taxpayer.

Mr Shakor had disposed of properties at a profit but no capital gains were reported on the tax return, apparently on the advice of his accountant. HMRC subsequently imposed a penalty of 70% and Mr Shakor appealed.

Mr Shakor gave evidence that he had queried why the gain was not reported on his tax return and his accountant told him the disposal was exempt and therefore did not need to be reported. The tribunal considered the decisions made in other cases as follows:

5. Mr Maas also made reference to the decision of the Tribunal in AB v HMRC [2007] STC (SCD) 99, a case involving complicated facts concerning the deductibility of various expenses when computing profits. However, for our purposes the case also involved the issue of penalties in respect whereof the Tribunal (Sir Stephen Oliver QC and Dr. N. Brice) held that:

"105. We are of the view that the question whether a taxpayer has engaged in negligent conduct is a question of fact in each case. We should take the words of the statute as we find them and not try to articulate principles which could restrict the application of the statutory words. However, we accept that negligent conduct amounts to more than just being wrong, or taking a different view from the Revenue. We also accept that a taxpayer who takes proper and appropriate professional advice with a view to ensuring that his tax return is correct, and acts in accordance with that advice (if it is not obviously wrong), would not have engaged in negligent conduct."

6. We consider the approach taken in AB to be the correct approach. A taxpayer is only liable to a penalty if he has been negligent. There are few who would gainsay the proposition that tax law can be complicated and difficult for taxpayers to understand and, thus, it is only to be expected that, from time to time, taxpayers will resort to professional advice. The purpose of resorting to professional advice is that one normally expects to be able to rely upon it, whether that professional advice is taken from a lawyer, an accountant or a medical practitioner. We consider it difficult to understand how a taxpayer can be negligent if, perceiving the need forprofessional advice on a matter of difficulty or in a situation where the taxpayer is in doubt as to the proper approach to be taken, he then seeks, and relies upon properly considered professional advice.

7. In our judgement, if the advice of a professional, in the sphere of tax matters usually an accountant, is negligently provided, that negligence is not to be imputed to the taxpayer. The question is whether the taxpayer was negligent. He cannot be principally or vicariously liable for the negligence of his professional adviser unless the factual circumstances in which the advice is given indicate that a matter is fraught with difficulty and doubt, with the professional adviser giving no more than his honest opinion about which side of a sometimes difficult line, the facts of a particular case happen to fall. It is contrary to the very notion of negligence (that is, a failure to take reasonable care) that the person who perceives there to be doubt or difficulty and then sets out to take the advice of a professional person whom he believes will be able to resolve that doubt or difficulty, can be said to be negligent if he then relies upon that properly provided advice (even if it turns out to be wrong).

8. Accordingly, we decline to follow the reasoning in paragraph 15 in Wald, as it seems to us to be counter-intuitive to speak about a taxpayer being negligent when he has placed his affairs in the hands of an accountant or sought specific advice on a specific matter and the professional adviser has then been negligent in providing that advice.

9. In our judgement, the two different decisions to which we have referred are probably reconcilable on this basis. If a taxpayer claims that his accountant has been negligent, for example, by failing to meet a deadline for filing a return or undertaking some and other administrative task, then the negligence of the accountant will not usually provide a defence to a penalty because the accountant is simply acting as the taxpayer's agent or functionary in filing the document that needs to be filed by a particular deadline. In other words, he is acting as an agent or functionary for his principal; but not as an independent professional adviser. However, in a situation where a professional adviser is not retained simply to act as a functionary, but is retained to give professional advice based upon the best of his skill and professional ability, he is not then a functionary or agent for his principal. He is a professional person acting under a retainer to give professional advice upon an identified issue. He is bound to provide that advice to the best of his professional skill and ability, whilst taking reasonable care in and about preparing and giving that advice. In other words, he is acting as a true professional, rather than as an agent or functionary.

10. In our judgement, where an accountant acts as an administrator or functionary, he is acting as the taxpayer's agent and his default (whether negligent or not) will usually provide a taxpayer with little opportunity to claim that he is not in default of a particular obligation. However, when a professional acts in a truly professional advisory capacity, the situation is otherwise and reliance upon properly provided professional advice, absent reason to believe that it is wrong, unreliable or hedged about with substantial caveats, will usually lead to the conclusion that a taxpayer has not been negligent if he has taken and acted upon that advice.

The tribunal concluded that a penalty was due, saying:

We find that the advice, if such advice was given by Mr Mandani, was obviously wrong and that the appellant realised or ought to have realised that it was obviously wrong or so potentially obviously wrong that it called for further explanation or justification. It is notable that nobody suggests that Mr Mandani gave any explanation to the appellant as to why the disposals should be exempt from capital gains tax or why they need not be referred to in the tax return. Given that the appellant plainly believed that the disposals may well give rise to a capital gains tax liability, it defies belief that he did not seek an explanation from his accountant as to why, or on what basis, any exemption, and which exemption, could be relied upon by him. This was, as we find, a case of shutting one's eyes to what either was or ought reasonably to have been seen as incorrect advice - if, indeed, any such advice was actually given – a matter upon which we entertain significant doubt.

However the judges reduced the amount of the penalty from 70% to 30%.

http://www.financeandtaxtribunals.gov.uk/Aspx/view.aspx?id=6670

3. PAYE and Employment matters

3.1. Film, television and production industry guidance

HMRC has issued updated guidance notes covering the employment status of non-permanent, casual and freelance workers in film and television production, UK and foreign television broadcast industries. These include references to the latest guidance in HMRC's National Insurance Manual, more detail on treatment of follow-up engagements and additions to the list of job grade definitions.

www.hmrc.gov.uk/specialist/fi-notes-2012.pdf

3.2. Employee benefit trusts

In April 2011, HMRC encouraged employers to agree settlements on any disputed tax liabilities involving employee benefit trusts up to 5 April 2011, with a view to resolving such disputes for periods before the new disguised remuneration legislation took effect.

HMRC has now issued an update on subsequent developments, together with Frequently Asked Questions.

www.hmrc.gov.uk/news/ebt-news0812.htm

www.hmrc.gov.uk/specialist/ebt-faqs.pdf

4. Business tax

4.1. Deductibility of legal fees

The First-tier Tribunal has recently considered the case of Linslade Post Office & General Store v HMRC (TC02136)

In proceedings commenced in the High Court in December 1996 Mrs Rehemtulla had alleged that she was a partner in the Appellant partnership, but her claim was dismissed. She subsequently sought to appeal that decision in October 2001 but was unsuccessful. The defendants in the proceedings were named as Mr Shabir Visanji and his brother Mr Salim Visanji, who were the undisputed partners in the Appellant partnership at the relevant time. The defendants retained solicitors and counsel. Mrs Rehemtulla conducted the proceedings as a legally aided claimant and no award of costs was made against her in favour of the successful defendants.

The legal costs of the defendants were claimed as a trading deduction by the partnership, but HMRC contended that the legal fees were not a deductible trading expense for the following reasons:

A partner in the business had paid legal fees to defend his interest against his sister, and that did not constitute an expense incurred for the purpose of the trade.

An authority that was close to the facts of the current appeal was C Connelly & Co v Wilbey [1992] STC 783 where a partner in a firm of chartered accountants served a notice of dissolution on his partner. The judge in that case ruled that "the reality is that this was a dissolution action and a dispute between the two partners, and that was how it continued. I cannot regard expenses incurred by Mr Burton to protect his interests in the partnership as a trading expense of the practice".

The tribunal found in favour of the partnership and extracts of the judges' conclusions are set out below:

"We consider it is important to identify the nature of the dispute that led to the incurring of the legal fees. The plaintiff (Mrs Rehemtulla) alleged that she was a partner in the firm but that claim was dismissed – she was never a partner. Thus the High Court proceedings should not be characterised as a partnership dispute. That distinguishes the current case from Connelly v Wilbey which was clearly "a dispute between the two partners". The High Court proceedings were instead a failed claim by an outsider (Mrs Rehemtulla) against the assets and profits of the firm. Thus the true nature of the proceedings was a defence of an unjustified claim in order to preserve the assets of the business.

In Cooke v Quick Shoe Repair Service a partnership purchased a shoe repair business as a going concern; the purchase agreement provided that the vendor would discharge all liabilities of the business outstanding at the date of sale, but the vendor failed so to do; to preserve goodwill and to ensure continuity of supplies the purchaser paid certain sums in discharge of the vendor's liability; the partnership claimed the payments as deductible revenue expenditure. Croom-Johnson J, having considered various authorities including Southern v Borax Consolidated, found in favour of the taxpayer (at 465):

"The cases show that, if money is expended with a view to preserving an asset, the result of it is, once the Commissioners are satisfied of that circumstance, it may be a deductible expenditure."

The fact that the preservation of the business assets may be so significant as to go to the possible survival of the business itself is not sufficient to tip the nature of the expenditure from revenue to capital – see Morgan v Tate & Lyle Ltd (1954) 35 TC 366 (campaign against nationalisation of the sugar refining industry). That case also confirms that the "wholly and exclusively" test was there satisfied – per Lord Morton (at 409 onwards):

"I would ask: If money so spent is not spent for the purposes of the Company's trade, for what purpose is it spent? If the assets are seized, the Company can no longer carry on the trade which has been carried on by the use of those assets. Thus the money is spent to preserve the very existence of the Company's trade.

... money expended to prevent seizure of the Company's assets is accurately described as money expended for the purpose of enabling the Company to carry on and earn profits in the trade, since without its assets it could not carry on its business."

Quick Shoe and Tate & Lyle are both fully consistent with the decision in Southern v Borax Consolidated which found that the legal fees in dispute were "expenses which were incurred in the ordinary course of maintaining the assets of the Company" and were deductible.

Accordingly, we find that the purpose of the disputed legal fees was to preserve the assets and trade of the Appellant partnership, that expenditure was revenue in nature, and also incurred wholly and exclusively for the purposes of the partnership's trade."

http://www.financeandtaxtribunals.gov.uk/Aspx/view.aspx?id=6598

4.2. Loss relief for loans to traders (TCGA s253)

The First-tier Tribunal considered the case of Peter Goldsmith (TC02197) and HMRC's refusal to grant a claim for relief for losses on loans to traders (TCGA s253) and to offset that loss against other income (under the legislation relevant at the time, ICTA 88 s574, now ITA s131). The facts of the case can be summarised as follows:

• Mr Goldsmith was a director of A company Efrussy Trading Company Ltd (we are not told whether he held any shares in the company).
• Westpac bank made a loan facility available to the company during the period April 1987 to June 1994 which was used to acquire two flats intended for sale at a profit. Mr Goldsmith was guarantor for the loans.
• One flat was sold and the other rented out, though the rental income (totalling £34k during the period 1988 to 1993) appears to have been paid into the bank account of Mr Goldsmith's accountancy business rather than the company's bank account.
• Interest payments of £133k were made during the period 1998 to 1993. The case summary does not indicate who made these payments, though it seems as though they were made by Mr Goldsmith and routed through his director's loan account with the company to Westpac bank.
• The loan was called in by Westpac bank in June 1994, the outstanding balance being £155k, and the company was dissolved in March 1995.
• Mr Goldsmith wrote to HMRC in June 1994 claiming a loss and then relief against other income under TCGA s253 and ICTA s574.

HMRC argued that there was no evidence that the company was trading. However evidence was produced that the properties were purchased with a view to resale rather than rental, so the Tribunal concluded the company had a trade for the purpose of TCGA s253.

In correspondence with HMRC, Mr Goldsmith had indicated the loan was irrecoverable when made, as there was insufficient income to repay the interest and loan (hence his ability to claim for relief earlier than in 1994). This had led HMRC to conclude that there was no relief due as the loan had not 'become' irrecoverable. The Tribunal however placed little weight on the communication by Mr Goldsmith on irrecoverability of the loans when made and dismissed HMRC's argument on this point.

There was some discussion as to whether the guarantee had actually been called on (so that a claim could be made under TCGA s253(4) for interest in addition to s253(3) & s253(4) for principal. It was noted that a guarantor could be deemed to have paid under the guarantee, even though the ultimate lender had not called on that guarantee. For the purposes of this case, the Tribunal concluded payments were made under the guarantee.

The Tribunal concluded no relief was available under ICTA s574 (now ITA s131 – loss relief against general income) as this relief is only available where the loss arose as a result of the disposal of shares. The outcome was that relief was available under TCGA s253(3) for the net of the interest payments and rental income (£99k) as a capital loss.

The possibility of a claim under what is now ITA s392 (previously ICTA s360) was not discussed. While Efrussy does not seem to have been a close investment-holding company, it may have been difficult for Mr Goldsmith to demonstrate that he worked for the greater part of his time in the actual management or conduct of the company (because he may have spent most of his time on his accountancy business). He might have held some shares in the company (no information is given on this, though it seems likely he was a director shareholder). The material interest condition can be met by a shareholder with 5% or less of the ordinary share capital of the company, provided the condition in what is now ITA s394(4)) is met (he is a loan creditor and therefore a participator and is entitled to receive more than 5% of the assets of the company available for distribution). However as Westpac bank would likely have a first charge on the assets of the company, it is unlikely there would have been any assets remaining for distribution to satisfy Mr Goldsmith's director's loan account.

www.financeandtaxtribunals.gov.uk/judgmentfiles/j6658/TC02197.pdf

5. VAT

5.1. HMRC guidance on addressing borderline anomalies

HMRC's Brief 27/12 contains links to seven information sheets covering the changes made to budget 2012 measures introduced to address borderline VAT anomalies. These are:

• Hot food and premises – the guidance sets out the current rules and the changes applying from 1 October 2012. From 1 October 2012 if food is provided hot to the customer, there will be five tests to consider which if one is met, the supply will be standard rated. In relation to whether food is supplied to customers for consumption on the premises, clarification will apply from 1 October 2012 to confirm HMRC's existing policy that "premises" include all areas that are set aside for the consumption of food, even if those areas are shared by a number of retailers.
• Caravans – currently the supply of a caravan is standard-rated if it does not exceed 7 m in length and 2.55 m in width. A caravan that is longer than 7 m or wider than 2.55 m is zero-rated. Removable contents (ie, goods that are not part of the structure of a caravan such as white goods, carpets, curtains and furniture) that are sold with a caravan are standard-rated. From 6 April 2013 the sale of a new caravan will be:

If the caravan is sold second-hand the above rules will generally apply, and the transaction may be subject to the margin scheme.

• Sports nutrition drinks – beverages are an excepted item (items 3 & 4) to VAT food zero rating at VATA sch8 group 1. Despite this currently some sports drinks are treated as zero rated. From 1 October 2012 a new excepted item 4A which taxes at the standard rate 'sports drinks that are advertised or marketed as products designed to enhance physical performance, accelerate recovery after exercise or build bulk, and other similar drinks, including (in either case) syrups, concentrates, essences, powders, crystals or other products for the preparation of such drinks.'
• Listed buildings – currently works of repair and maintenance to all buildings are standard-rated, while approved alterations to a protected building are zero-rated. Alterations to other types of buildings are standard-rated. Zero-rating also applies to the first grant of a major interest by a person substantially reconstructing a protected building. A major interest means the freehold (or in Scotland the absolute interest) or a lease for over 21 years (not less than 20 years in Scotland). From 1 October 2012 zero rate of VAT for approved alterations to protected buildings will be withdrawn. The zero rate will also be withdrawn for the first grant of a major interest in a substantially reconstructed protected building in circumstances where the zero-rating relies on three-fifths of the work being approved alterations.

Under the transitional arrangements, zero-rating will continue to apply until 30 September 2015, where the conditions set out below are met:

• Hairdressers' chairs – clarification in legislation that hairdressers chair rentals are standard rated. The new legislation applies from 1 October 2012, but is unlikely to result in any change in VAT treatment.
• Self storage – currently the provision of a clearly defined space (technically known as a 'licence to occupy land') for the self storage of goods is exempt for VAT purposes, subject to the option to tax. From 1 October 2012 new rules will operate to determine VAT based on use of space for the self storage of goods. The provision of space used for the self storage of goods (by the customer of the provider of the self storage space) in structures ('relevant structures') such as containers, units or buildings will become standard-rated, however there are some exceptions.

Special procedures apply when there is either a change in the VAT rate or a change in the VAT liability of certain supplies, which are explained in Section 30 of Notice 700 The VAT Guide. Anti-forestalling provisions which will apply in relation to this change of VAT liability. Supplies of self storage for periods straddling 1 October 2012 will be apportioned so that supplies before that date are covered by the current rules, and supplies on or after that date are covered by the new rules.

The lease of a warehouse or storage facility, such as a lock-up, to be used for the self storage of goods by the customer, will be subject to VAT. However, the supply of a warehouse or similar building for any other purpose will not be subject to VAT under these new rules unless an 'option to tax' has been made.

Self storage of livestock is specifically excluded from these changes and will remain exempt from VAT. The following self storage supplies will also not be subject to the new rules:

Businesses affected by the changes to the VAT liability of self storage will have the option of treating expenditure on assets that is below £250,000 but which would otherwise qualify as capital items, as capital items for CGS purposes and to make adjustments in accordance with that scheme.

• Anti-forestalling (relating to the listed building and self storage changes) - The anti-forestalling charge was announced on Budget day and legislated for in the Finance Act 2012 but has effect from 21 March 2012 by means of a Written Ministerial Statement. They are designed to prevent suppliers avoiding the effect of the 1 October 2012 changes by bringing forward the time of supply.

www.hmrc.gov.uk/briefs/vat/brief2712.htm

5.2. Form VAT426 – insolvent traders claim for input tax after deregistration

HMRC has updated its form VAT426 to simplify it and provide updated contact details.

http://customs.hmrc.gov.uk/channelsPortalWebApp/downloadFile?contentID=HMCE_CL_000071

5.3. Whether dog food could be described as pet food and validity of a resulting 'Fleming' claim

The First-tier Tribunal considered the case of Roger Skinner Ltd (TC02201) concerning voluntary disclosures totalling nearly £7million reclaiming output tax paid on sales of certain dog foods in the period 1 January 1980 to 31 January 2009. HMRC refused these claims on 21 September 2009 and upheld this refusal on review on 17 December 2009.

VATA Sch 8 zero rating for foods (group 1) includes zero rating for animal feeds that do not represent pet foods, canned, packaged or prepared; packaged foods (not being pet foods) for birds other than poultry or game; and biscuits and meal for cats and dogs. The claim therefore rested on whether the dog foods sold by Roger Skinner Ltd were classed as animal feed, and were not 'pet food' nor biscuits and meal for cats and dogs.

The claim concerned the following types of product (no split of the amount of VAT at stake was given).

• Skinner's Dog Food 1 January 1980 to May 2008.
• Skinner's Dog Meal Entire claim period.
• Skinner's Protein 23 1987 to December 2002.
• Skinner's Ruff & Ready 1990 to date.
• Own label Waveney Gold and Crane Dog Food 1989 to approximately 2004.

Mr Skinner had developed a new process for constituting the dog food and after initially operating through a partnership, the manufacture and sale of the products was transferred to Roger Skinner Ltd. The partnership's customers were local owners of working dogs (e.g. gun dogs and prison dogs). The company expanded the business nationally.

The Tribunal found that while the Skinners Dog Food and Skinners Dog Meal were on the whole unlike most pet dog foods available in the 1970s, when the market was dominated by canned food, over time the claim products and pet dog foods have tended to converge in appearance. While pelleted foods were and remain unusual as pet dog foods, it is clear that types of muesli-like complete dog foods are now marketed as pet foods, and types of extruded dog foods have been marketed as pet foods since around 1980.

After an examination of the marketing literature and methods of sale, the Tribunal concluded that sales of Ruff & Ready after about 2000 were pet food. All other sales of the claim products, including Ruff & Ready before 2000, were not sales of pet foods. So they concluded that apart from sales of Ruff & Ready from 2000 onwards, its sales of the claim products were sales of "animal feeding stuffs" and were not within the exception for "pet foods, canned packaged for prepared" as they were not pet foods.

After considering a range of evidence from experts on the meaning of different types of description of 'dog biscuits and meal', the Tribunal concluded: "meal" means a mixer for use with meat or canned dog food made primarily from wheat flour with other ingredients and baked; and in particular made from the same or similar ingredients to a dog biscuit and baked in the same way but crumbled or broken up rather than cut into shapes. "Meal" had only one meaning in this context. During the claim period, the company did not manufacture dog biscuits nor dog meal in the sense of this baked mixer food. All the claim products were complete foods in the sense of being nutritionally complete feeds.

The Tribunal therefore concluded that the company's sales of the claim products were zero rated except in relation to sales of Ruff and Ready in 2000 and afterwards.

www.financeandtaxtribunals.gov.uk/judgmentfiles/j6662/TC02201.pdf

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