1.1. New penalties to tackle offshore tax evasion

HMRC has announced new penalties for offshore non-compliance.

These new penalties come into force from 6 April 2011 and apply to Income Tax and Capital Gains Tax. The first Self Assessment returns affected will be for the 2011-12 tax year, with paper returns due to be filed by 31 October 2012, and electronic returns by 31 January 2013.

The legislation can be found in Schedule 10 of Finance Act 2010.

How it works

The new penalty is an enhancement of the penalties for

  • failure to notify
  • inaccuracy on a return
  • failure to file a return on time

Under the new legislation, these penalties will be linked to the tax transparency of the territory in which the income or gain arises. Where it is harder for HMRC to get information from another country, the penalties for failing to declare income or gains arising in that country will be higher.

There will be three new levels of penalty:

  • where the income or gain arises in a territory in 'category 1', the penalty rate will be the same as under existing legislation
  • where the income or gain arises in a territory in 'category 2', the penalty rate will be 1.5 times that in existing legislation - up to 150 per cent of tax
  • where the income or gain arises in a territory in 'category 3', the penalty rate will be double that in existing legislation - up to 200 per cent of tax

The Treasury has laid legislation before Parliament which describes which territories are in 'category 1' and 'category 3' – see link below. All other territories (except the UK) are in 'category 2'.


All existing safeguards will still apply. There will be no penalty if a person can demonstrate they have taken reasonable care to get their tax right or have a reasonable excuse for a failure to notify taxable income.

Where penalties are due, HMRC can reduce them depending on how helpful the individual is in assisting it to establish the correct amount of tax due. The largest reductions will be for unprompted disclosures. Unprompted means when you tell HMRC about a tax issue you have no reason to believe we have discovered or are about to discover it.


1.2. EU Consultation on taxation of cross border dividend payments

The European Commission has opened a public consultation on taxation of cross-border dividend payments to individual or portfolio investors.

Taxation of cross-border dividend payments can lead to double taxation in different ways: Juridical double taxation arises where the outbound dividend paid by a company to a foreign shareholder is subject to a withholding tax in the source state and the payment is again taxed as the shareholder´s income in his state of residence. Economic double taxation arises where corporate tax has to be paid on the profit of a company and taxes are again levied on the dividend paid to the shareholder. According to ECJ case-law, both situations are not necessarily contrary to EU law. Also double tax conventions and the European Parent-Subsidiary Directive cannot completely resolve the issue as they leave many cases uncovered.

To resolve the described problems, the Commission presents seven different options:

  • abolition of withholding taxes on cross-border dividend payments
  • state of residence grants full credit for withholding taxes levied in the source state
  • net rather than gross taxation in the source member state
  • EU-wide reduced withholding tax rate with information exchange
  • limitation of both source and resident taxation of dividend income
  • neither withholding tax in the State of source, nor taxation of foreign source income in the State of residence
  • source state levies withholding tax at the tax rate of the State of residence of the recipient portfolio investor.



2.1. TC00913: Lyle Dicker Grace (First-tier Tribunal)

INCOME TAX – Appellant a British Airways pilot who was present for part of year in UK for purpose of his employment - Appellant owned and occupied two properties one in the UK and one in South Africa - whether Appellant resident and ordinarily resident in the UK

The background to the case of Mr Grace and his UK residence status has been well documented and reported on during its long process through the legal system.

Briefly, Mr Grace set up home in Cape Town while continuing his employment with British Airways and retaining a property in the UK. In 2004 HMRC issued a notice of determination, based on its view that he was ordinarily resident in the UK for the six years from 1997/98 to 2002/03 inclusive. Mr Grace appealed this determination on the grounds he had ceased to be resident in the UK from September 1997 and this appeal was accepted by the Special Commissioner in 2007. HMRC appealed this decision and the High Court concluded that the Special Commissioner had made errors of law and, further, that the only possible conclusion from the primary facts found was that Mr Grace was resident in the UK.

Mr Grace appealed this decision and the Court of Appeal unanimous judgment was that the Special Commissioner had mis-directed herself but did not agree with High Court that there was only one possible conclusion to the question of residence based on the primary facts as found at first instance. The Court of Appeal therefore remitted the case [back] to the First-tier Tribunal (Tax Chamber) which had by then replaced the Special Commissioners.

The First-tier Tribunal has now heard the case and reported its findings.

The decision explains that it was for Mr Grace to demonstrate to the Tribunal that, having been resident in the UK for some years up to September 1997, he then ceased to be resident here.

The Tribunal judge did not consider that Mr Grace had demonstrated a sufficient break. The time Mr Grace spent in the UK was a little less than half the time before September 1997 (bearing in mind that time now spent in Cape Town would before September 1997 have been spent in the UK). But this was found not enough to amount to a definite break with the UK. It was found that Mr Grace did create new ties elsewhere but he did not sever his main ties (employment and house) with the UK. Taking into account all factors, but giving greatest weight to his employment and home here in the UK and the amount of time actually spent here together with the frequency of his short visits, the Tribunal judge was in agreement with the High Court judge that in September 1997 Mr Grace went from being a person resident in one country to being a person resident in two.

The conclusion was that Mr Grace was resident in the UK for the 6 years in issue (1997-2003). It follows, as it was both conceded and as found Mr Grace did have a settled purpose to his residence in the UK, that he was also ordinarily resident here.

Further commentary will follow looking at some of the reasons behind this decision.


2.2. TC00917: A.W. Kerr; Grantham House (First-tier Tribunal)

Appeal against disallowance of losses – whether the Appellant's activities amounted to a trade in the relevant tax year and he could deduct the losses against his other income

The Appellant claimed trading losses on his 2006/07 self assessment tax return in respect of expenses incurred in relation to his activities at Grantham House, leased from the National Trust, which resulted in him receiving a repayment from HMRC.

HMRC contended that no trade had been carried on during the tax year in question and that the onus was on the Appellant to prove, subject to the balance of probabilities that he had conducted a trade on a commercial basis with a view to making a profit.

Immediately after moving into the property the Appellant began undertaking some necessary repairs to the property and restoring the gardens incurring along with the other costs a wages bill of some £21,597.

The Appellant opened the house for business on two days in late October/early November 2006 for an event and although there were actually no paying visitors, the six visiting families were National Trust members allowed in free, there was someone to sell tickets had such paying guests arrived. The Tribunal found therefore that the trade started on the day of the first opening for the event.

Additionally during that year the Appellant advertised that the house was open for business and as a result of this a booking, the Tribunal found was a trading contract was made. The Appellant told the Tribunal that the best potential profit was to be made by private bookings and we find that the advertising was to ensure that the trade was repetitive and not occasional.

It was also found that, as to whether the trade was commercial and carried on with a view to making a profit, the Appellant did all that he could with the intention of making a profit.

But on the other hand, the Tribunal found that the loss claimed was not necessarily accurate.

The appeal was allowed subject to a deduction being made from the expenses which recognises the Appellant's use of the private living premises which were identifiable from those parts of the house open to the public.


2.3. TC00916: Mr William Bate (First-tier Tribunal)

Appeal against amendments made to partnership returns based on the findings made in an enquiry into a later tax year – whether HMRC were correct to do so and properly issued the amendments under the discovery provisions in the lack of any evidence from the Appellant to displace the amendments

The findings of the Tribunal were that the onus of proof is on HMRC to show that the amendments to the partnership profits were properly issued under the discovery provisions and the Tribunal found that they had done so.

The onus of proof is then on the Appellant to displace the amendments by producing evidence which demonstrated that they were wrong. Its was found that the Appellant was unable to do so and although there was sympathy for him in respect of his difficulties in obtaining statements from his bank, he had considerable time in which to do so.



3.1. IHT and DOTAS

Statutory Instrument 2011/170 has been issued which brings IHT avoidance within the DOTAS regime with effect from 6 April 2011 where:

  • property becomes relevant property (defined as per s58(1) IHTA84 – settled property in which no qualifying interest in possession subsists other than certain exceptions) as a result of arrangements;
  • a main benefit of the arrangement is that an advantage is obtained in relation to a relevant property entry charge (the charge to inheritance tax which arises on a transfer of value made by an individual during that individual's life as a result of which property becomes relevant property).

However, arrangements are excepted from disclosure if they are of the same, or substantially the same, description as arrangements:

  1. which were first made available for implementation before 6th April 2011; or
  2. in relation to which the date of any transaction forming part of the arrangements falls before 6th April 2011; or
  3. in relation to which a promoter first made a firm approach to another person before 6th April 2011.



4.1. Taxation of termination payments

The case of Lars Sjumarken considered the tax treatment of a termination payment received by an individual in the 2005/06 tax year and indicates that merely relying on one's recollection of a telephone conversation with an HMRC official is insufficient support for contending that a binding agreement on the tax effect of arrangements was made. The termination payment had been received from BNP Paribas who had withheld 20% PAYE from the payments that arose from a 'Cash Incentive Plan' and 2003 and 2004 'Share Incentive Plans'.

Mr Sjurmarken asserted that the HMRC official he had entered into correspondence with on the issue had confirmed the portion relating to the SIP was exempt from tax, but, other than his record of the telephone conversation there was no other supporting information for this view. HMRC's records indicated that exemption would only have been given if the SIP had been tax approved by HMRC. It was clear from the 2004 SIP scheme rules that it would not meet the requirements for a tax exempt SIP, and the assumption was made that the 2003 rules would have been similar. There was no further supporting evidence for the exempt status of the cash incentive plan. The tribunal therefore upheld HMRC's amendment of £60,517 to the 2005/06 tax return.


4.2. IR35 and whether a contractor is an employee or employed earner

Mark Fitzpartick provided design engineering services to Airbus UK Limited (Airbus) over the tax years 2001/02 to 2006/07. His services were provided through MBF Design Services Limited (MBF), a company of which he was the sole director, which entered into a contract with Airbus. The Tribunal considered whether the contract (one of a number of contractors provided to Airbus) would have resulted in Mr Fitzpatick being an employed earner with Airbus for NI purposes, and an employee with Airbus for income tax purposes, as HMRC had held. There were no written contracts between Mr Fitzpartick and MBF, nor any written board minutes.

The original contract between MBF and Airbus (made through an intermediary) provided that unspecified design services were to be supplied, and that MBF had to supply suitably qualified 'operatives' (no particular individuals were specified) and that it would have to rectify at its own cost any defective work it carried out in relation to the project. The contract also required the intermediary and personnel (unspecified) to carry insurance against public, employer's and professional indemnity risks of £250,000. Similar terms were included in subsequent contracts, except that the requirement for insurance cover was removed, though there was a requirement for the intermediary to have legal liability cover in place to cover any damage done by operatives to Airbus equipment on site. All the contracts specified hourly rates for the provision of services.

The evidence was that substitution of Mr Fitzpartick would from Airbus's point of view have been very difficult to manage, but it would not have been impossible to organise, changing Mr Fitzpatrick's security clearances and passwords, etc. If Mr Fitzpatrick was absent when work from him was needed, it would either await his return or be done by another designer; if he sent a substitute, a complaint would have been made to the agency because Airbus wanted Mr Fitzpatrick's services specifically. Airbus would normally want to see and verify the CVs of persons doing work for them. MBF had a history of contracting out Mr Fitzpatrick's services of the kind featured in this appeal to a number of different clients, including Westland Helicopters, Strachan & Henshaw and Western Design Systems, both before and after the appeal period.

Supervision of Mr Fitzpatrick by Airbus team leaders was with a view to co-ordinating his work with that of other staff and contractors and with requirements from the Civil Aviation Authority, and not with respect to quality control. All the work was done at Airbus premises and Mr Fitzpatrick generally worked for more than 35 hours per week. There was no obligation on Airbus to provide work to Mr Fitzpatrick, nor to pay him when there was no work or when he was sick.

Each contracted worker was fundamentally insecure, having neither a specified role in the company nor a particular line of duty beyond what was for the time being allocated by the permanent staff.

Based on the above the Tribunal concluded that the contract was a contract for services and that Mr Fitzpatrick did not meet the definition of an employed earner for NI purposes, nor an employee for income tax purposes.

The comments made in the case on Mutuality of obligation include:

Mutuality of obligation

There may be mutuality of obligation in individual contracts made in an ongoing series of engagements, even though there is no obligation on either party to continue the series after the expiry of any of the individual contracts. The requirement for mutuality is satisfied if in each individual contract there is an obligation on the employer to continue paying, and the employee to continue working, until the specified work is complete: per Mummery LJ in Prater v. Cornwall County Council [2006] 2 All ER 1013, at [40] and Longmore LJ at [43].

Mutuality does not require the employer to provide the employee with work in addition to wages: per Stephenson LJ in Nethermere (St Neots) v. Taverna [1984] IRLR 240, at 246. It is only where there is both no obligation to provide work and no obligation to pay the worker for time in which the work is not provided that the want of mutuality precludes the existence of a continuing contract of employment: per Park J in Usetech at [64].

An obligation on the employer to provide work, or in the absence of available work to pay, is a touchstone or feature one would expect to find in an employment contract and whose absence would call into question the existence of such a relationship: per Special Commissioner Hellier at first instance in Dragonfly Consultancy Limited v. HMRC [2008] STC (SCD) 430 at [59]. A termination notice clause implies an obligation on the employer to provide work until the right to terminate is exercised: per Hart J in Synaptek at [27] (Synaptek Limited v. Young [2003] EWHC 645, 75 TC 51).

Although HMRC contended that Airbus always made work available for Mr Fitzpartick and he was always paid and that this meant the mutuality of obligation conditions were met to indicate an employment contract was present in a notional form, the Tribunal did not agree.

Care should be exercised in interpreting the results from using HMRC's employment status indicator tool though HMRCs guidance does indicate that the tool cannot be used to check the employment status of certain workers such as:

  • company directors and other individuals who hold office
  • agency workers
  • anyone providing services through an intermediary (sometimes referred to as IR35 arrangements)
  • www.hmrc.gov.uk/calcs/esi.htm


4.3. Close company loans to participators and class 1 NIC

Stuart Fraser Limited was a close company which was largely family owned of which Mr A.S.Fraser was a director and the majority shareholder. His overdrawn loan account had been waived by the company by the end of each income tax self assessment year, and this had been declared for income tax purposes on Mr Fraser's self assessment return. Loans had been waived as follows:

2004/05 - £73,665

2005/06 - £113,006

2007/08 - £183,047

Mr Fraser contended that the company had been unable to pay dividends because of a dispute with a minority shareholder, so that the waiving of loans had been the mechanism to compensate for the non payment of dividends. Therefore he contended he had received his loan waivers in his capacity as a shareholder rather than in his capacity as managing director. It was apparent that the waiving of the loans was approved in company board meetings, however and not at company shareholder meetings.

HMRC contended that the loan waivers were profits from employment and therefore assessable to national insurance under SSCBA s3(1). In addition HMRC also contended that merely because the waivers were taxed under ICTA88 s421 (now ITTOIA s416) and not ITEPA03 s188, this did not make them dividends.

Although the Tribunal recognised the difficulty caused by the dispute with the minority shareholder, but found that the loan waivers were made as a result of Mr Fraser's employment and were therefore remuneration liable to class 1 NIC.


4.4. Employer's liability to make good lost income tax (Reg 72 PAYE Regulations)

The case of P Owens trading as Buses Rhiwlas (TC00926 at the First Tier Tribunal) considered whether the company was required to account for underdeducted PAYE. The business had taken on a new employee in 2004/05 and although the P46 had indicated the new employee was receiving a pension (incorrectly noted as a retirement pension), the employer had used a PAYE code of 474L instead of operating the BR code until the correct coding had been notified to them by HMRC. This caused an underdeduction of PAYE as personal allowances were given both against the employee's employed earnings and against his pension income.

All business year end PAYE filings had been in order for 2004/05 to 2006/07, but it was only as a result of a routine PAYE inspection in September 2007 that HMRC noticed the error. The employer contended he had received no initial notice from HMRC indicating a BR code was to be applied for 2004/05 (HMRC contended it had been issued on 11 April 2004, but could produce no evidence of this) and no query had been raised with the year end returns submitted for any of the years 2004/05 to 2006/07.

HMRC contended that although the employer had made an error in good faith and failed to deduct the correct amount of tax, he had not shown reasonable care in complying with PAYE regulations by not using the BR code initially and that the employer should pay over the underdeducted tax for the three years covering 2004/05 to 2006/07. The Tribunal determined that the reasonable care requirement was failed in respect of 2004/05, but not in respect of the other two years, so that tax was only due (with interest) in respect of the first year. No penalties were raised.



5.1. Income Splitting

With the top rate of income tax now at 50% and withdrawal of personal allowances where taxable income exceeds £100,000, thoughts will inevitably turn to allocating income within the family in the most efficient way. Where income splitting is contemplated however, it is important to bear in mind the rules regarding transactions in securities (ITA07 s682-713), transfers of income streams (ITA07 s809AZA-s809AZG) and settlements, amounts treated as income of the settlor (ITT0IA5 s619-s648).

In cases where the settlements legislation is in point it is important that any income or gains that become due to the spouse as a result of an outright gift, are in fact an outright gift and the donor does not have a claim on amounts arising from the gift. The issues were discussed in detail recently in the Patmore case which was covered in Informal of 31 August 2010 item 11.1. Section 11.2 of that issue of Informal discussed when a gift was not an outright gift and is reproduced below for information.

S626 ITTOIA 2005 provides a very important exception to the anti-avoidance legislation for settlements in respect of outright gifts between spouses and civil partners providing that two conditions are met:

"(2) Condition A is that the gift carries a right to the whole of the income.

(3) Condition B is that the property is not wholly or substantially a right to income."

However it is vital to note that this exception does not apply to gifts which are not "outright gifts" as defined in s626 (4):

"(4) A gift is not an outright gift for the purposes of this section if—

(a) it is subject to conditions, or

(b) there are any circumstances in which the property, or any related property—

(i) is payable to the giver,

(ii) is applicable for the benefit of the giver, or

(iii) will, or may become, so payable or applicable".

"Related property" has the same meaning in this section as in section 625 and means income from that property or any other property directly or indirectly representing proceeds of, or of income from, that property or income from it.

This "exception to the exception" was considered by the judge in the recent case of David Patmore (TC00619) as follows:

"67. It appeared to form no part of HMRC's case that s660A(6) did not apply because the income from it (the dividends on the B shares) were paid for the benefit of the donor (Mr Patmore). Yet, they were paid for his benefit as no sooner were the dividends declared, Mrs Patmore gave them to her husband.

68. It seems unlikely in the extreme that the interpretation of the last sentence of s660A(6) is that it captures all outright gifts as there is always a power for the donee to give the property back to the donor. If this were the correct interpretation it would render s660A(6) entirely otiose. It seems to me that the proper interpretation of this qualification on "outright gift" is that it applies where the pre-existing arrangement is that the income will or is or might be applied for the donor's benefit.

69. I have found (see paragraph 33) that it was no part of the original arrangement that Mrs Patmore would pay the dividends back to her husband: this only became part of the arrangement at the time the dividends were actually paid. However, it was always intended that Mrs Patmore would use the dividends to pay off the mortgage. It was clearly no part of the arrangement that Mrs Patmore use the money for a purpose other than that of repaying the loans to buy the company. All three witnesses understood the necessity to the Patmores of using the dividends to repay the loans taken out to buy the company. As Mr Patmore was both liable on the Henson loans and on the bank loan secured by the mortgage it follows that the exception to s660A(6) must apply. In all (and not just any) circumstances it was part of the arrangement that the dividends were going to be applied at least in part to Mr Patmore's benefit as he was as much liable on the debts as his wife. Therefore, unlike Arctic Systems, I would find that there was no outright gift of the B shares (except of course that I have found that the B shares were not settled at all).

77. In any event even if it were not for the exception against gifts of income in s660(6), the settlement (to the extent there was one) could not, any more than the alleged gift of the B shares themselves, be an outright gift because the last exception in that sub-section applies (set out in full in paragraph 66 above). The arrangement was that the dividend income would be used by Mrs Patmore to discharge the mortgage on which both Mr and Mrs Patmore were liable and not for any other purpose: the property given would therefore become applicable for the benefit of the donor."

The judge's reasoning underlines the fact that this is an area where great care needs to be taken. The Arctic Systems case established that the spouse exemption applied in a case where both spouses acquired shares in a new company on day 1 as it was Mr Jones' consent to the transfer with expectation of dividend to Mrs Jones for £1 which gave the element of bounty and that made the transfer a gift. However it appears the gift will not be 'an outright gift' if for example the subsequent dividends are paid into a joint bank account or used to discharge a joint liability. This test will need to be carried out on an annual basis.

The Patmore case demonstrates that HMRC is still attacking income shifting despite the bloody nose that it suffered in the Arctic case in the House of Lords. It also demonstrates that the anti-avoidance rules will apply to spouses where there is a pre-existing arrangement that the income will, or is, or might be applied for the donor's benefit.

5.2. Professional bodies call for delay in implementation of iXBRL filing for companies

The CIOT and the other five main professional tax and accountancy bodies have written to the Exchequer Secretary to ask the Government to reconsider the timing of the plans for introducing on 1 April 2011 compulsory iXBRL filing of tax returns and supporting information for companies.


5.3. Cancellation of SDLT late filing penalties

Two cases have been heard regarding the £100 late filing penalty for SDLT, both of which resulted in the penalty being cancelled.

In one case the solicitor claimed to have filed the return on time with a letter and cheque for the SDLT (received in time by HMRC, but according to HMRC without the return). The letter and cheque quoted an online filing SDLT reference number, but the on-line filing had failed. The solicitor then sent in a paper return with another SDLT reference number, after the filing date. However the Tribunal determined there was insufficient evidence to indicate a proper filing had not been made within the due time and the penalty was cancelled.


The second case concerned a paper filing (of form and cheque) which had been made on the date of completion, but had apparently got lost in the post. The solicitor contacted HMRC on non-receipt of the certificate of payment of SDLT, and was subsequently informed to resend the form. The original cheque was cancelled and a replacement form and cheque was immediately sent, but shortly after the filing deadline. The Tribunal held that the solicitor had reasonable excuse to believe HMRC would receive the form, and acted without unreasonable delay once that excuse had ceased and therefore the 'reasonable excuse' provisions at FA03 s97 were met, so the penalty was cancelled.


5.4. Update of HMRC manuals

HMRC's Corporate Finance Manual has been updated for risk transfer schemes (overhedging arrangements):


6. VAT

6.1. Whether an extension to a newly constructed nursing home qualified for zero rating

The case of Hoylake Cottage Hospital considered whether an extension to a newly constructed nursing home qualified for zero rating under VATA94 Sch8 group 5 para 12, or fell within the exception for separately functioning annex to an existing building (as set out in notes 12, 16 and 17 to that group).

Plans were agreed with HMRC for the zero rated construction of a 60 bed nursing home on an existing site. Included in the plans was a comment that as a temporary measure the site's existing kitchen facilities or external caterers would be used until sufficient funds were available to construct a new kitchen for the property. The original plans had been approved by HMRC in 2004 for zero rating for the initial construction phase accepting that the original kitchen or external caterers could be used prior to sufficient finance being available for the kitchen unit. In 2005 new plans were put forward for the kitchen extension. The initial development phase was completed and handed over to the new occupiers in 2008. Confirmation was sought in 2007 that the kitchen extension would also qualify for zero rating, but this was refused by HMRC in 2008. The Commission for Social Care Inspection report confirmed that it was reasonable to permit the phase 1 construction to operate as a hospital with the requirement that the kitchen facility was to be completed by July 2010. In the end demolition work on the old kitchen commenced in October 2010, with construction work on the new kitchen to commence in January 2011 with completion expected by August 2011.

On the facts of this case the Tribunal concluded that there had not been an unreasonable delay between July 2010 and the commencement of the new kitchen works in October 2010. They also concluded there was a contemporal connection between the end of the developer's liability for phase 1 development (May 2009) and the commencement of phase 2 (October 2010) such that zero rating for the kitchen unit should be permitted.


6.2. Update of HMRC manuals

HMRC's VAT Insurance Manual has been updated for clarification on when claims handling services are exempt


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.