UK: Weekly Tax Update - Monday 18 February 2013

Last Updated: 26 February 2013
Article by Smith & Williamson


1.1 Regulation of will-writing, probate and estate administration activities

The Legal Services Board has recommended to the Lord Chancellor that will-writing activities should be made subject to regulation.

This recommendation concludes a two year investigation by the LSB. The investigation, under sections 24 and 26 of the Legal Services Act 2007, also considered the regulation of estate administration and probate activities.

The LSB's main conclusions are:

Will-writing activities

The LSB found comprehensive evidence that the market is not working efficiently - to the detriment of consumers and providers alike. Alternatives to statutory regulation have been tried but have not been successful. The LSB's recommendation, if accepted, will:

  • give consumers better protection and consistent access to redress by allowing access to the Legal Ombudsman for consumers of all will-writing providers;
  • increase competition by creating a level-playing field between traditional law firms and new forms of service provider, making both subject to equivalent regulation;
  • require regulators to develop proportionate and targeted approaches to supervising providers by identifying and targeting risks and taking swift enforcement action if things go wrong.

Estate administration activities

The LSB considered carefully the reported risk of fraud in estate administration but has concluded based on the available evidence that statutory regulation would not be effective in preventing what amounts to criminal behaviour. The LSB is instead recommending a range of policy initiatives to raise standards and help the market work well for consumers including:

  • major providers working together to produce voluntary schemes to promote standards and provide minimum protections for consumers;
  • improving the information available to consumers when they purchase these services to help them choose with confidence and understand potential risks.

Probate activities

Probate activities are currently subject to regulation and the LSB has concluded that no additional evidence has been presented to warrant changing this.

1.2 HMRC – Fraud Civil Investigation Manual (FCIM)

HMRC has now published the full online version of the FCIM which contains the guidance applicable from 1 January 2012 on the new Contractual Disclosure Facility offered under Code of Practice 9 for investigations where tax fraud is suspected. Under this disclosure facility, taxpayers are offered the chance to enter into a contract to disclose details within 60 days in return for civil, rather than criminal, investigation.

The manual replaces interim guidance issued in February 2012.

1.3 OECD report on Addressing Base Erosion and Profit Shifting

The OECD report on "Addressing Base Erosion and Profit Shifting" has been published. The accompanying press release is copied below.

12/02/2013 - Global solutions are needed to ensure that tax systems do not unduly favour multinational enterprises, leaving citizens and small businesses with bigger tax bills.

An OECD study commissioned by the G-20 finds that some multinationals use strategies that allow them to pay as little as 5% in corporate taxes when smaller businesses are paying up to 30%. OECD research also shows that some small jurisdictions act as conduits, receiving disproportionately large amounts of Foreign Direct Investment compared to large industrialised countries and investing disproportionately large amounts in major developed and emerging economies.

"These strategies, though technically legal, erode the tax base of many countries and threaten the stability of the international tax system," said OECD Secretary-General Angel Gurría. "As governments and their citizens are struggling to make ends meet, it is critical that all tax payers - private and corporate - pay their fair amount of taxes and trust the international tax system is transparent. This report is an important step towards ensuring that global tax rules are equitable, and responds to the call that the G-20 has made for the OECD to help provide solutions to the global economic crisis."

Many of the existing rules which protect multinational corporations from paying double taxation too often allow them to pay no taxes at all. These rules do not properly reflect today's economic integration across borders, the value of intellectual property or new communications technologies. These gaps, which enable multinationals to eliminate or reduce their taxation on income, give them an unfair competitive advantage over smaller businesses. They hurt investment, growth and employment and can leave average citizens footing a larger chunk of the tax bill.

The practices multinational enterprises use to reduce their tax liabilities have become more aggressive over the past decade. Some, based in high-tax regimes, create numerous off-shore subsidiaries or shell-companies, each time taking advantage of the tax breaks allowed in that jurisdiction. They also claim expenses and losses in high-tax countries and declare profits in jurisdictions with a low or no tax rate.

The report "Addressing Base Erosion and Profit Shifting" does not suggest optimal tax rates - each government decides its own. In the coming months, OECD will draw up an Action Plan, developed in co-operation with governments and the business community, which will further quantify the corporate taxes lost and provide concrete timelines and methodologies for solutions to reinforce the integrity of the global tax system.

1.4 Tax and procurement

HMRC has issued a document concerning how the Government will apply tax and propriety based criteria at the selection stage in their procurement processes.

Under the new policy, potential suppliers to central government for contracts advertised from 1 April 2013 above a threshold will have to self-certify, as part of the selection stage of above-threshold procurements, their recent tax compliance history. In addition, Contracting Authorities will ensure contractual documentation contains a standard clause enabling them to terminate a contract, at their discretion, if a supplier has had an 'occasion of non-compliance'. It also places a contractual obligation on the supplier to keep the Contracting Authority notified of changes in relation to tax compliance. Failure to do this will also trigger remedies including, potentially, termination of the contract.

The new policy will apply to:

  • UK and foreign suppliers participating in procurement exercises subject to the threshold;
  • Sub-contractors performing a significant part of the contract; and
  • Individuals and partnerships as well as companies bidding (whether individually or as part of a consortium or other wider body) for any contracts over the threshold value.

An occasion of non-compliance occurs if:

  • Any tax return is found to be incorrect as a consequence of HMRC successfully taking action:
    • under the General Anti-Abuse Rule (GAAR) to be enacted in Finance Bill 2013; or
    • under any targeted anti-avoidance rule (TAAR); or
    • under the "Halifax abuse" principle; or
  • Any tax return is found to be incorrect because a scheme which the supplier was involved in, and which was or should have been, notified under the Disclosure of Tax Avoidance Scheme (DOTAS) rules, has proved to have failed; or
  • The supplier's tax affairs have given rise to a conviction for tax related offences or to a penalty for civil fraud or evasion.

Where a return is amended, whether following the outcome of litigation or simply by agreement between HMRC and the taxpayer (by reason of GAAR, TAAR, etc.), that is also an "occasion of non-compliance".

It is proposed the timeframe for which 'non-compliance' must be considered cover a ten year history, although this is still under consideration. The time limit will apply to the date that the non-compliance is recognised (eg the date of a Court decision, or date when the return was amended) rather than the date that the particular arrangements were entered into or carried out.

1.5 Guidance on the tax treatment of dividends and distributions

HMRC has issued two guidance notes on:

  • the treatment of UK dividends and distributions received by individuals following a share capital reduction, to include its views on what may constitute new consideration received for a new issue of shares; and
  • the treatment of overseas dividends and distributions received by UK companies. The notes can be found at the following links:


2.1 ISA Limits – 2013/14

With effect from 6 April 2013 the ISA subscription rates will increase as follows:

  • For individuals aged between 16 and 18, the overall annual subscription limit for an ISA account rises from £5,640 to £5,760;
  • For all other qualifying individuals holding ISA accounts, the overall annual subscription limit rises from £11,280 to £11,520; and
  • For holders of junior ISA accounts, the overall annual subscription limit rises from £3,600 to £3,720.

2.2 HMRC launches new taskforces

HMRC has announced three further taskforces to tackle:

  • fast food outlets in East Anglia, expected to recover £5m;
  • the jewellery trade in the Midlands, expected to recover £2.5m; and
  • tax evasion in Northern Ireland, expected to recover £3.45 million.


3.1 HMRC Post - Scanning post starts in Trusts & Estates

From 11 February 2013, if HMRC has opened an enquiry into a trust return or inheritance tax account then letters should be sent to Netherton, Merseyside to be scanned.

Trusts & Estates have joined the growing number of HMRC businesses who use the system called Caseflow. There will be a new postal address on some letters received from them, and a second case reference starting with CFS or CCFS. It is important that the new reference is quoted and correspondence should be sent to this address.

Original post is scanned onto the Caseflow system at Netherton and immediately checked that it is clearly scanned and complete with any attachments. The original item is then kept at Netherton for three months. The team in Netherton may contact the sender occasionally to check if original items should be returned, but original items such as passports will automatically be returned following scanning.

The introduction of this scanning facility does not mean that Trusts & Estates can now accept correspondence by email.


4.1 Remittance basis and legislation of SP1/09

SP1/09 was introduced following changes made to the remittance basis of taxation in Finance Act 2008 and came into effect on 6 April 2009. It replaced an earlier statement of practice (SP5/84) which had broadly the same purpose and effect.

The statement of practice provides a simplified tax treatment of income for certain employees who are taxed on the remittance basis, and the Government's proposal is to put SP1/09 on a statutory basis in Finance Bill 2013.

The previous consultation took place in October 2012 and, as a result of this, a number of further changes in legislating SP1/09 have been proposed to take account of these representations.

HMRC have issued draft legislation and a further consultation, which invites responses until 25 February 2013. A summary of the further questions under consultation are below:

  • Are there any circumstances in which an individual would be significantly disadvantaged by being unable to use an existing bank account, given the current requirements for SP1/09?
  • Are there any circumstances in which an individual would be able to nominate an existing account on a prospective basis and who would be disadvantaged by not being able to do so?
  • Where separate accounts are held for each year, does each account need to be a qualifying account for every year that it is operating? If so, why?
  • What are the reasons why an individual should need to use multiple qualifying accounts for a single tax year? How commonplace is this?
  • Does this proposed relaxation meet the needs of individuals in a way which is fair but recognises that taxpayers must take responsibility for their tax affairs?


5.1 UK tax treatment of the allocation of profits of a US LLC

The Court of Appeal has unanimously concluded in favour of HMRC in George Anson's appeal against the decision of the Upper Tribunal that in the particular LLC arrangement concerned, members of the LLC did not have a proprietary right to the LLC's profits as they arose, but only to the profits allocated to them after taking account of other obligations of the LLC.

The consequence was that for UK tax purposes the allocation of LLC profit to an LLC member who was liable to UK income tax on those profits was like the treatment of a dividend and not like the treatment of partnership profits. This meant that the UK taxable individual was unable to obtain credit against UK taxes for US taxes suffered on the LLC profits.

Amongst other things the case is of interest as it discusses the equitable interest of members of an English partnership in the partnership assets and their proprietary rights to their share of partnership profits (as they are in business together), and the fact that Scottish partnerships are treated the same for income tax purposes (Scottish partners have an indirect interest in the partnership profits as they accrue and are jointly and severally liable for the firm's debts, notwithstanding the fact that the partnership itself has a separate legal identity from the partners and the assets belong to the Scottish partnership).

Lady Justice Arden gave the leading judgement with which Lord Justices Laws and Lloyd agreed. In summary the conclusions were:

  1. The relevant test for determining whether a person is taxed on the same profits or income in both jurisdictions is whether the source of the profits or income in each jurisdiction is the same.
  2. Where the taxpayer became entitled to the profits of an entity because of some contractual arrangement to which he is a party, he must show that the contract is actually the source of the profit, rather than a mechanism to secure a right to a profit derived from another source. This will in general mean that, as the judge held, he has to show a proprietary right to the profits.
  3. The Upper Tribunal was right to conclude that the FTT erred in law in so far as it held that the profits of HV [HarbourVest LLC, a Delaware limited liability company] belonged to the members.
  4. The Upper Tribunal was also right to conclude that on the facts of this case the profits of HV did not belong to its members.

For the taxpayer the argument was made that the question of who is entitled to the profits of HV fell to be determined as a matter of Delaware law, and was thus a question of fact. However, in line with Memec (House of Lords in Memec plc v IRC in June 1998 [71 TC 77]) and HMRC's contention, Lady Justice Arden concluded that in the case of Mr Anson Delaware law governing the rights of the members of HV is the law of the place of its incorporation, and the LLC agreement is expressly made subject to that law. However, the question whether those rights mean that the income of HV is the income of the members is a question of domestic [UK] law which falls to be determined for the purposes of domestic [UK] tax law applying the requirements of domestic [UK] tax law.

The taxpayer argued that profits are conceptually different to assets, that entitlement to profits under Delaware law is contractual where it is governed by the terms of the LLC agreement, and the FTT interpreted the agreement correctly as imposing an obligation on the LLC to allocate those profits. However Lady Justice Arden agreed with HMRC that:

"...the key issue is whether the members of HV were entitled to the profits as they arose. The FTT identified this as a relevant question, but was misled into thinking that the matters to which the allocation of profits was subject - the availability of cash, the absence of claims by HV against the member which could be the subject of set off, a decision by the managing members to create reserves to meet HV's cash requirements, and the need to withhold profits to meet withholding tax payable by HV- had no substantial effect on the question whether the members were entitled to the profits from the very beginning. Those were very material reservations.... The fact was that the profits arose from HV's trading as principal, and the deductions that could be made from profits before they were allocated were powerful indications that confirmed that the profits did not belong to the members from the moment of their creation."

The issue of the UK/US Exchange of Notes dated 24 July 2001 was raised as indicating that from 2001 it was possible for tax paid or accrued by the entity to be treated as if it were paid or accrued by the person mentioned (the member in this case) for the purposes of determining the relief from double taxation to be allowed by the State of which that person is a resident. However Lady Justice Arden's position was that, without further evidence, this appeared to be with particular reference to relief to be given by the US, and that this did not change the way in which article 23 of the UK/US double tax treaty (with respect to the terms by which US tax could be given as a credit against UK tax) should be read. Accordingly she refused a further appeal on this point.

5.2 EU cross border loss relief

The 13 December 2010 issue of Tax Journal included the following extract:

"In the long running Marks & Spencer ('M&S') group relief case, it was established by the ECJ that a UK group can claim relief for the losses of its EU subsidiaries, but only where there is no possibility of those losses being used elsewhere. HMRC has maintained open enquiries in a very large number of claims for group relief by other taxpayers whilst the M&S case progresses through the courts. However, a number of issues of principle that arise in many of those claims cannot be determined in the M&S case, most notably where the claimant's group structure differs from that in M&S case. HMRC will not, for example, accept group relief claims where the losses are being claimed by the profitable UK subsidiary of a loss making EU/EEA parent company, or where the UK claimant company and the loss making EU/EEA company are commonly held by, for example, a US parent company.

In order to bring these issues to a head, a number of taxpayers have applied for closure notices of their open enquiries and have asked the First-tier Tribunal either to determine the issues in the context of the closure notice applications, or to order that the enquiry be closed so that appeals can be launched against HMRC's inevitable refusal of the claim. The issues of principle can then be determined in parallel with the final stages of the M&S case to reduce the delays in obtaining determinations in the other claims once that case has come to an end."

The First-tier Tax Tribunal (Judge Kempster and Ms Hunter) heard the applications on 25 November 2010, and gave their decision nearly six months later on 20 May 2011. They declined to direct the issue of closure notices, on the ground that it would be inappropriate to do so while the facts relating to the grouping issues and the 'no possibilities' test were still under investigation [2011] UKFTT 342 (TC).

Justice Henderson in the High Court has now considered the issues in the Group Register of Loss Relief GLO. The question considered was whether the High Court should at this stage in the group litigation make a reference to the CJEU for a preliminary ruling under Article 267 TFEU on the question of whether claims for cross-border group relief could in principle be made by UK-resident claimant companies at the relevant times in various forms of corporate group structure which differ from the simple structure considered by the CJEU in M&S plc v Halsey Case C-446/03 (surrender of losses by an EU or EEA resident subsidiary to its UK resident parent company). The seminal decision in the M&S case led to the 'no possibilities' test, and the amendments to cross border group loss relief claims in Finance Act 2006 which is now the basis of the EC's 27 September 2012 reference to the ECJ over the alleged failure of the UK to properly implement that decision.

The loss relief GLO questions arise at an earlier stage in the analysis than the 'no possibilities' test, and go to the issue whether the freedom of establishment of a group company is relevantly engaged in the first place by a restriction which requires justification if it is not to infringe Article 49 TFEU. It is now clear, in the light of subsequent European case law, that the right to free movement of capital under Article 63 is not engaged by a legislative scheme which is, broadly speaking, confined to corporate groups, so it is only freedom of establishment which is now in issue.

According to the claimants, there are three types of corporate structure in particular, apart from the basic one considered in M & S v Halsey itself, in respect of which it is necessary to know whether a claim for cross-border loss relief could validly be made in reliance on EU law at the relevant times. Those structures are:

  1. where the common parent company of the surrendering and claiming companies is UK resident and the claiming company is a direct or indirect subsidiary of that common parent;
  2. where the common parent company of the surrendering and claiming companies is UK resident but is not the ultimate parent company within the corporate group; and
  3. where the UK resident claiming company is the subsidiary of the surrendering company.

There is a fourth disputed structure, namely where the common parent company of the surrendering and claiming companies is resident outside the EU/EEA, but it was common ground that this structure did not involve any further issue of EU law, and turned on provisions to be found in double taxation conventions between the UK and the parent company's state of residence.

In summary, the Loss relief GLO submits that the group structure issues are short and distinct points of principle that are well suited to preliminary determination; that if they are decided in the claimants' favour, and if the claimants also succeed on the 'no possibilities' test, there is likely to be a further delay of two to three years before they can enjoy the fruits of their success if a reference of the group structure questions is postponed; while if they fail on the group structure issues, the sooner that is known the better. However HMRC were insisting on detailed responses to questions on whether the requirements of the 'no possibilities' test had been met.

The clear implication of the GLO submissions is that it would be unreasonable to require them to answer the Revenue's wide-ranging requests for information on the 'no possibilities' test before the CJEU has ruled on the structural issues. All the time and costs involved in providing answers to the Revenue's enquiries would turn out to have been wasted if the structure of a claimant group is such that no EU rights were relevantly engaged in the first place.

Justice Henderson agreed with HMRC that due to the potentially large sums involved, in submitting their enquiries into the 'no possibilities' test, HMRC could not reasonably be blamed for making enquiries based on the law as stated by the Court of Appeal, even though they no doubt hope that the test will be reformulated by the Supreme Court (at the forthcoming hearing in June 2013) and/or the CJEU in a way which will ultimately make the enquiries redundant. The process may well be inconvenient, time-consuming and expensive for the claimants; but was in his view a burden of which they could not legitimately complain.

He thought it would be unreasonable for the Revenue to insist on full disclosure from every claimant at this stage, particularly when the 'no possibilities' test is shortly to be reviewed by the Supreme Court. If, on the other hand, the enquiries were confined to representative test cases, he did not consider it unreasonable for the Revenue to insist that they be answered.

Meanwhile he thought the parties should also identify a full range of suitable "in time" test cases for resolution of the group structure issues, and co-operate in bringing them before the FTT for consideration of when and in what terms a reference to the CJEU should be made, and of the extent to which potentially relevant facts should first be found at a hearing. In principle, he thought it was sensible to use the same test cases both for the provision of comprehensive information on the 'no possibilities' test and the disputed group structures.

5.3 Financial Transaction Tax and enhanced co-operation

The details of the Financial Transaction Tax (FTT) to be implemented under enhanced cooperation have been set out in a proposal adopted by the European Commission on 14 February 2013.

The proposal follows EU Finance Ministers' agreement in January to allow the 11 Member States to move ahead with an FTT under enhanced cooperation.

As in the original proposal, the FTT will have low rates. Proposed minimum rates are 0.1% for shares and bonds, units of collective investment funds, money market instruments, repurchase agreements and securities lending agreements, and 0.01% for derivative products. Participating Member States would be free to apply higher rates if they wanted to. The tax would have to be paid by each financial institution involved in the transaction. The tax will have a wide base and safety nets against the relocation of the financial sector. As before, the "residence principle" will apply. This means that the tax will be due if any party to the transaction is established in a participating Member State, regardless of where the transaction takes place. This is the case both if a financial institution engaged in the transaction is, itself, established in the FTT-zone, or if it is acting on behalf of a party established in that jurisdiction.

As a further safeguard against avoidance of the tax, the proposal also adds the "issuance principle". This means that financial instruments issued in the 11 Member States will be taxed when traded, even if those trading them are not established within the FTT-zone. Furthermore, explicit anti-abuse provisions are now included.

As in the original proposal, the FTT will not apply to day-to-day financial activities of citizens and businesses (e.g. loans, payments, insurance, deposits etc.), in order to protect the real economy. Nor will it apply to the traditional investment banking activities in the context of the raising of capital or to financial transactions carried out as part of restructuring operations.

The proposal also ring-fences refinancing activities, monetary policy and public debt management. Therefore, transactions with central banks and the ECB, with the European Financial Stability Facility and the European Stability Mechanism, and transactions with the European Union will be exempted from the tax.

The Commissions Q&A's on the matter include the following comments:

"...The most up-to-date analyses presented by the Commission showed that the FTT will not lead to any job losses. In terms of economic impact, it is estimated to have a -0.28% impact on GDP in the long run. Smart recycling back into the economy of the revenues delivered by the FTT can even potentially lead to a positive impact on GDP of 0.2%. Both these figures are cumulative effects over periods of several decades based on economic models. Rather than the figures themselves what is important is that putting in place an FTT will not negatively impact growth or jobs....

...The proposal foresees the FTT for the 11 Member States entering into effect on 1 January 2014. Obviously, it depends on the Council reaching agreement on the proposal in time to respect this proposed implementation date. The European Parliament and the European Economic and Social Committee and National Parliaments will also be consulted, and national transposition would then be needed...."

The detailed discussion of how it would be implemented (Proposal for a Council Directive implementing enhanced cooperation in the area of financial transaction tax) include anti-avoidance provisions which would disregard arrangements to circumvent the tax and would treat "a depositary receipt or similar security issued with the essential purpose of avoiding tax on transactions in the underlying security issued in a participating Member State shall be considered issued in that participating Member State, in case a tax benefit would otherwise arise.".

On scope, the discussion include the following notes on financial transactions that are outside the scope of the tax:

... most day-to-day financial activities relevant for citizens and businesses remain outside the scope of the FTT. This is the case for the conclusion of insurance contracts, mortgage lending, consumer credits, enterprise loans, payment services etc. (though the subsequent trading of these via structured products is included). Also, currency transactions on spot markets are outside the scope of the FTT, which preserves the free movement of capital. However, derivatives contracts based on currency transactions are covered by the FTT since they are not as such currency transactions.

5.4 Business Tax Forum minutes of 12 September 2012

The Large Business Tax Forum minutes of 12 September 2012 include the following extracts:

External scrutiny of business taxation

"It was agreed that it was important to ensure that this debate was well-informed. HMRC's issue briefings had a role to play in this. It was suggested that the CBI's previous work on the tax contribution of business and common misconceptions around business taxation could also contribute. The challenge was to convey a simple message in a way people can understand.

There was a brief discussion about whether the new governance arrangements around tax settlements would detrimentally affect the experience of businesses. HMRC made clear that customers should not feel a practical difference, and there should be no changes in the decisions made. It would be a case of building upon current procedures to make them even more robust, with no suggestion of slowing down these processes."

Strategic Planning

"Ian Quelch introduced a discussion about HMRC's large business strategy. In discussion, it was agreed that the "big picture" was working well, although there were hygiene factors which can degrade the experience. HMRC's approach will need to keep pace with changes in the business world, including developments in technology and intellectual property. It was increasingly important to demonstrate that there was a level playing field, not just among similar customers but across the entire customer base. It was recognised that egregious behaviour in respect to personal taxes can adversely affect business behaviour, and vice versa. Tax simplification will play an important role in curbing abuse and demonstrating fairness. Tailored support for growing businesses, particularly in the mid-sized/mid-cap sector, would be welcome.

Broadly, there was agreement that the strategy remained the right approach, and that it was succeeding. It should be robustly defended. Certainty about the future – both in terms of tax administration and tax policy – is crucial for businesses making investment decisions. In this sense, a degree of continuity may be welcome."

5.5 International Tax

HMRC has published draft guidance and draft statutory instruments on the International Tax Compliance (USA). The US authorities published final FATCA regulations on 17 January 2013 and HMRC has extended the consultation period on the draft UK regulations and guidance until 28 February 2013.

Draft guidance:

Draft regulations:

5.6 Vaccine Research Limited Partnership

The Vaccine Research Limited Partnership (VRLP) case centred on whether the partners were entitled to trading losses on research and development allowances claimed in 2006/07.

The First-tier Tribunal found that the Jersey partnership only qualified for research and development allowances on the part of its expenditure ultimately applied by a subcontractor on that specific activity.

In arriving at its conclusion, the tribunal split the partnership's activity into trading and non-trading elements.


The total losses claimed by the partners was £193 million, however, HMRC only accepted that there was expenditure of £14 million on relevant research and development.

The partnership carried out research and development of a number of vaccines through an agreement with an R&D sub-contractor, PepTcell, via PepTcell's agreement with Numology Ltd. Numology Ltd was the Class A Limited partner in the partnership.

There was a complex structure in place for the financing arrangements of the partnership and its contracts with PepTcell, which ultimately carried out the R&D activities. By way of example individuals would put into the partnership £270k of cash (£70k of this was to cover fees) and borrow £800k, their total contribution being £1.07m. The Class A partner would put in £800k in respect of this and the total investment by the limited partnership for these funds would be £1.8m. In reality however, £800k of the Class B partner's funds were used to effectively repay the £800k put in by the Class A partner. The investment was used to fund R&D expenditure qualifying for 100% R&D capital allowances. The promoter of the partnership, Matrix Securities group of companies, introduced individual investors to the partnership. Anyone investing in the partnership under the scheme arranged by Matrix would become a Class B limited partner in VRLP.

The loan used to fund the investment by the Class B partners was by way of a 15 year amortising loan repayable with interest to Royal Bank of Scotland.

The partnership engaged Matrix Structured Finance Ltd (MSF) to provide certain administrative services. MSF's fee was linked to the total capital raised from investors, and MSF was associated with the promoter.

The partnership engaged Numology on a research contract for R&D on certain vaccines, paying a fee of £193m. As a result of the R&D activity the partnership would acquire intellectual property rights in the vaccines which would generate licence income from Numology and which would be used to pay the interest on the loan taken out.

VRLP was intended to be a trading partnership, with expenditure of £193m which would qualify for R&D allowances.


Some of the issues that the tribunal looked at in this case were as follows:

  • Were the partners entitled to claim sideways loss relief on research and development allowances?
  • Was VRLP trading in the UK?
  • Was there a trade?
  • Was VRLP trade commercial and could profits be expected within a reasonable period of time?
  • What is a reasonable period of time, in the context of vaccine research and development?
  • Had the partnership incurred expenditure 'on' research and development?
  • Were the investors entitled to relief for interest payable on their loans from Bank of Scotland?


The tribunal concluded that:

  • VRLP was entitled to research and development allowances on £14m of its expenditure; this was the amount ultimately employed by PepTcell.
  • The investors could claim sideways loss relief for the loss attributable to this £14m expenditure.
  • VRLP did have a trade in respect of the R&D carried out by PepTcell, and that this was carried on at least in part in the UK.
  • The partners were entitled to deductions for interest under ICTA s362 for their loans to the extent that these loans were used for trading income.

In respect of sideways loss relief and whether profits could be expected within a reasonable time, the tribunal accepted that PepTcell applied the £14m it received on research and development and was genuinely attempting to secure a profitable outcome from this work. In particular:

"We accept that in this area of commercial activity there can be significant delays between initial investment and eventual reward. And we accept that agreements were in place under which the Limited Partners would receive a share of any successful development of vaccines under the Scheme. We also accept that PepTcell Ltd was genuinely engaged in attempting to secure a successful outcome to its activities, and that such an outcome was something that was dependent on the success of the scientific research that it was undertaking. We have no reason to question that the research and development activities of PepTcell Ltd were other than genuine. Accordingly, we consider it reasonable for a profit to be expected from that investment within the scope of the test in [what was ICTA] s381 [relief for losses in early years of trade. Note claims were also made under ICTA s380 – set off against general income]."


6.1 Establishment for VAT purposes

This note is intended to raise awareness of an area where we can expect some important developments in VAT over the next few years.

Currently for indirect taxes we have the concepts of a "business establishment" and a "fixed establishment" (discussed further below), whereas in direct taxes there is the concept of a "permanent establishment". Permanent establishment for direct tax purposes means a fixed place of business through which the business of an enterprise is wholly or partly carried on". There can be specific inclusions and exclusions and time limits before an establishment is regarded as permanent for direct tax.

Although the establishment definitions for indirect and direct tax are different, in practice there are many similarities in the way direct and indirect tax approaches these concepts. These are important definitions as they effectively dictate which country has the taxing rights where foreign entities and cross border transactions are involved.

For indirect tax purposes there is no definition of a 'fixed establishment' in the VAT Directive. The concepts of place of establishment and a fixed establishment for VAT purposes is vital to determine where a business belongs and hence where a supply of services is deemed to take place. This matter is even more topical in the context of services and following the changes to the place of supply rules for services from 1 January 2010. "Fixed establishment" for the supplier of services has been interpreted by the ECJ as requiring the "permanent presence of both the human and technical resources necessary for the provision" (see also CJEU decisions in 2006 re Planzer (C-73/06) and 2012 Daimler AG(C-318/11).

The Council Implementation Regulation that came into force on 1 July 2011 sets down guidance for interpreting place of establishment and fixed establishment and clarifies the concept of 'involvement' required in order to determine whether the establishment can be linked to a supply in order to become liable to account for the VAT.

In particular it clarifies that where the fixed establishment of the supplier in the recipient country merely acts in an administrative capacity (for example for administrative support tasks such as accounting, invoicing and collection of debt-claims), it shall not be regarded as having intervened in the fulfilment of the supply in order to create a VAT obligation for that fixed establishment.

In addition to differing opinions within the EU on which activities create 'intervention', the July 2011 Regulation itself states that concepts such as fixed establishment need to be clarified in order to achieve a uniform application of the rules, and that clear and objective criteria are required. At present there is huge scope for different interpretations between the Member States, creating uncertainties for all businesses involved in cross border supplies of services.

Today VAT/GST is very much a global tax, and the debates that have taken place over the last 30+ years in the EU regarding place of supply, apply equally today to these taxes on a global basis.

This month, the OECD published a discussion paper called "OECD International VAT/GST Guidelines" which invites comments on a number of issues regarding place of supply ( ). It includes:

  1. a preface to the Guidelines;
  2. the core features of VAT systems to which the Guidelines are intended to apply,
  3. place of taxation for cross-border supplies of services and intangibles to businesses that have establishments in more than one jurisdiction,
  4. implementation of specific rules for determining the place of taxation for cross border business-to business supplies of services and intangibles.

The Guidelines do not impose legally binding VAT rules on countries or prescribe legislative approaches. Their design and consistent implementation is intended to serve as a basis for countries to frame their own laws and administrative practice, reduce impediments to international trade and improve the neutrality of VAT regimes worldwide while reducing opportunities for tax avoidance and creating more certainty for business and tax authorities. The guidelines are open for comment until 3 May 2013.

At Smith & Williamson we see this as a precursor to inclusion of VAT/GST in the OECD model treaty for Double Taxation. Last October the OECD also issued a discussion paper on Article 5 of the model OECD Treaty concerning the definition of permanent establishment for direct tax purposes (see Informal 29 October 2012 item 4.6). That consultation arose from the considerations of a working party set up to examine various issues related to the definition of permanent establishment that had been identified in previous work of the Committee, such as the work on business restructurings and on the application to electronic commerce of the current treaty rules for the taxation of business profits. It proposed various refinements to paragraphs 1 to 42.10 of the commentary explaining how article 5 works in practice.

The merger of direct and indirect taxes into a single model OECD Treaty would mean that the direct and indirect definitions regarding business, fixed and permanent establishment will almost certainly have to come into line with a single definition as it will be non-sensical to continue having different working approaches. It will also open up a debate for indirect tax purposes concerning whether a branch should in the future be seen as a separate entity for VAT purposes in the same way as for direct tax purposes [see FCE Bank plc Case C-210/04]

6.2 Fuel used in private pleasure craft and for private pleasure-flying

VAT Notice 554 has been updated as follows:

From 1 April 2012 legislation was changed to make clear that the use of red diesel with full duty paid for propelling private pleasure craft is permitted under UK national legislation within UK waters. When red diesel is used outside UK waters it will be subject to any prohibitions and restrictions that apply in the waters of the Member State or country in whose waters it is used.

The declaration that the purchaser is required to make at the time of buying fuel has been changed to include an acknowledgment to that effect.

The changes were made following a challenge to the UK procedures from the European Commission.

6.3 Commission on travel agency supplies

Tui Travel plc and others (Tui & Ors) appealed HMRCs decision to refuse their claims dated 27 March 2009 and 25 June 2009 for repayment of output tax which Tui & Ors claim had been overpaid on commissions earned by UK travel agents within the Appellants' corporate groups. They also challenged HMRC's decision setting out additional grounds for refuting the claims. The claims amounted to in excess of £156m, as follows:

Fleming claim

Current claim

Scottish Equitable claim


£62,737,000 (pre 4 Dec 1996)

£10,349,000(April 2006 to September 2008)

£83,016,000 (January 1997 to March 2006)


The tour operator assembles holidays by purchasing the component parts, which are then sold as package holidays to end customers through Tui & Ors' travel agency business. Tui & Ors offer customers a discount on the package holidays which is typically 5% of the brochure price. This discount is funded by Tui & Ors and the full brochure price of the package holiday is paid to the tour operator. The tour operator pays Tui & Ors commission, usually 10%, based on the full brochure price of the holiday. Tui & Ors account for output tax on the full amount of the commission they receive from the tour operator. The tour operator is the principal in the sale of the holiday to the final customer. The discounts are entirely at the discretion of the travel agent and tour operators are aware of the general practice of travel agents funding discounts out of their commission.

Tui & Ors claim that they are entitled to a repayment of output tax by deducting the value of the discount from the commission and accounting for the output tax on the reduced amount.

The arrangements as described above are materially the same as those considered by the VAT and Duties Tribunal in First Choice Holidays plc v C & D Commissioners 1999 VAT Dec 16379 and by the ECJ in C & D Commissioners v First Choice Holidays plc (case C- 149/01) [2003], which decided that the tour operator had to account for VAT on the full amount of its margin and could not make any adjustment for the discount offered by the travel agent to the customers. In other words, the total taxable amount paid by the customer included the additional amount that "a travel agent, acting as an intermediary, on behalf of a tour operator", had to "pay to the tour operator on top of the price paid by the traveller and which corresponds in amount to the discount given by the travel agent to the traveller on the price of the holiday stated in the tour operator's brochure".

In First Choice the tour operator argued that the taxable amount of its supply was the discounted amount paid by the customer. The ECJ disagreed as referred to above. In this case Tui & Ors argue that the travel agent is entitled to deduct the value of the discount from the commission it receives from the tour operator and account for output tax only on the reduced amount.

HMRC rejected the claims for various reasons. They also contended that should Tui & Ors' claim be successful in whole or in part, the amount payable to Tui & Ors should be set off by the amount that HMRC repaid to First Choice Holidays plc following the VAT and Duties Tribunal decision in the Appellants' favour that was subsequently overturned by the ECJ. At the time the decision was overturned HMRC was out of time to raise the assessments to recover the amount paid.

HMRC also put forward an additional reason for refusing Tui & Ors' claims. HMRC said that as the travel agent does not supply the holiday to the end customer and only supplies third party consideration to the tour operator, Tui & Ors are not part of the supply chain of transactions which ends with the final customer. HMRC argued that consequently the output tax on Tui & Ors' commission related to an entirely separate supply, that of agency services provided by the travel agent to the tour operator, for which the commission paid by the tour operator is the consideration. HMRC therefore say that the commission received by Tui & Ors is not "reduced" by Tui & Ors funding the "discount", but instead is used by way of contribution towards the consideration paid by the customer to the tour operator and however Tui & Ors may wish to utilise the monies received from commissions this cannot affect the value of the supply of agency services to the tour operator.

The Tribunal agreed with HMRC and concluded:

  1. VAT has not been collected on an amount exceeding that paid by the customer. There has been no breach of the principles of fiscal neutrality.
  2. Tui & Ors supply of introductory services is separate from the supply of the package holiday and therefore VAT on the two chains of supply has not been paid twice. The consideration Tui & Ors receive as commission is separately taxable from the consideration which the tour operator receives from the customer.
  3. Tui & Ors have not been taxed on an amount exceeding the consideration it has received.
  4. An application to refer questions to the CJEU was made by Tui & Ors on the basis that a German Court (in Dusseldorf) had referred questions on a similar issue. The questions referred by the German Court were:

1. Is there according to the principles of the ECJ verdict of Elida Gibbs, also a reduction of the basis of taxation within the scope of a distribution chain if an intermediary (here the travel agent) refunds to the recipient (here the travel customers) a part of the price of the transaction brokered by him (here the service of the tour operator to the travel customers)?

2. If the answer to the first question is in the affirmative: are the principles in Elida Gibbs also then to be applied if only the transaction brokered by the tour operator, but not the travel agents' intermediary service, is subject to the special provision according to Article 26 of Directive 77/388/EEC?

3. If the answer to the second question is also in the affirmative: is a member state which has correctly implemented Article 11 C sub-paragraph 1 of Directive 77/388/EEC then entitled, in the case of tax exemption of the brokered service, only to deny a reduction in the basis of taxation if it has created additional conditions for the denial of the reduction by the exercise of the power of authority contained in this provision?

However the Tribunal was not provided with the context of the German legislation where this was relevant, and as they felt they had decisively concluded the issue for UK tax purposes, declined to permit the reference to the CJEU.

The content of this article is intended to provide a general guide to the subject matter. Specialist advice should be sought about your specific circumstances.

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