Whilst awaiting the recommendations of Sir Amyas Morse, it should not be forgotten that challenges to the Loan Charge are also being mounted in the courts. This week, the High Court (Lady Justice Cockerill) heard a ‘rolled-up’ application (i.e. it was both a ‘permission hearing’ and a trial of the substantive application) for judicial review by corporate participants (and their shareholder/directors) in an arrangement (not notified under DOTAS) which involved loans made to directors by a third party and which, so HMRC assert, come within the ‘close company’ gateway in s554AA ITEPA 2003. The application was made on the grounds that the Loan Charge is incompatible with the applicants’ human rights, although it was recognised that such a declaration cannot strike down domestic primary legislation[1]. In particular, its retroactive effect and the fact that it obviates any opportunity to challenge a Reg 72/81 determination in respect of the earlier funding or making of a loan are, it is asserted, incompatible with Article 6 (right to a fair trial) and Art 1 of the First Protocol (“A1P1”), i.e. the right to peaceful enjoyment of possessions, as set out in the Convention on Rights and Freedoms as enshrined in UK law by the Human Rights Act 1998.
Judgement was reserved.
It is important to appreciate that this application was made in relation to a particular arrangement under which, as a first step, a loan was made by a third party to the director of a close company who then loaned that sum to the company which used it to make a contribution to an LLP which traded in film rights. An accounting valuation of the film rights produced a trading loss in the LLP which was attributed to its member companies. They then set the loss against their trading profits. This allowed the director/shareholder loans to be repaid free of income tax. HMRC was of the view that, as the first loan made to the director was outstanding at 5th April 2019, it was caught by the Loan Charge.
The fact that the loan in these cases was funded by a third party meant that the principle laid down by the Supreme Court in the Glasgow Rangers case (that a contribution by the employer to fund a loan was itself a payment of taxable earnings) did not apply. This leaves open the possibility that other applicants whose loans come through the ‘employee gateway’ in s554A may have a stronger case on the basis that the Loan Charge effectively denied employees the right to challenge a Reg 81 determination on what was, according to the Supreme Court, a liability which had already arisen (on the funding of the trust) before the F(No.2)A 2017 was passed – being a liability on the same amount – and on which PAYE had not been accounted for by the employer but for which HMRC were now out of time to assess the income tax on the employee.
In the present application, it was argued that, insofar as HMRC could have asserted that the loans made in 2010 and 2013 were ‘earnings’, the court should consider the combined effect of the 2011 disguised remuneration legislation (“DR”) and the Loan Charge (“LC”), taken together with the changes made by FA 2018[2] (which rendered nugatory any assertion that the earlier incidence of tax on such earlier earnings took the loans outside the scope of the DR legislation and the LC). Overall, this deprived the applicants of the right to argue before a tribunal that assessments to such earlier liabilities were out of time. The LC, coupled with the 2018 changes introducing the close company DR charges, would also result in double taxation because it was anticipated that HMRC would issue APNs and PPNs, having already issued Follower Notices (given on the basis that a decision of the Court of Appeal[3] had struck down the efficacy of the film rights trading partnership scheme). Under the DR rules, the LC is not suspended if an accelerated payment is made in respect of an earlier liability which overlaps with an amount to which which the LC applies – see s554Z5 (11). Relief from double taxation is afforded by ss554Z11F, but only insofar as there is an overlap. In the present case, APNs had not yet been issued but, in any event, if they would be to recover the disallowable trading losses, it would appear that there would be no overlap for the purposes of the DR rules in ss554Z11B – G.
HMRC argued that, as representations made in respect of the Follower Notices were still under consideration, the application was premature as that remedy should have been exhausted first.
To succeed in obtaining a declaration of incompatibility on Human Rights grounds the applicant must first establish that:
- there has been a decision of HMRC which is reviewable by the court. HMRC asserted that letters inviting the claimants to negotiate a settlement did not amount to ‘decisions’;
- the claimants are ‘victims’ of a human rights abuse. HMRC argued that individual claimants were not victims, as they were not primarily responsible for the LC tax which is to be accounted for by the company under PAYE;
- the claims are brought in time. Insofar as the challenge was to the LC legislation, it should have been brought within 3 months of the passing of the F(No.2)A 2017 on 16th November 2017;
- in relation to A1P1, the claimants had to have “possessions” which had been interfered with. HMRC asserted that, as their monetary possessions had been impressed with the liabilities to tax, it could not be said that they had been denied enjoyment of those possessions.[4] This was particularly so if the money in question is enjoyed as a consequence of a tax avoidance scheme of which the full facts should have been disclosed. The APN/PPN regime was proportionate and perfectly compatible with A1P1.[5]
The rights afforded by A1/P1 do not impair the right of a State to enforce such laws as it deems necessary to control the use of property in accordance with the general interest or to secure the payment of taxes. Clearly, the State has a very wide margin within which it may exact taxes, particularly through primary legislation. Retrospective tax legislation is permitted provided it strikes a fair balance.[6] It should be sufficiently accessible, precise and foreseeable and must carry out a legitimate aim in the public interest and be proportionate.[7] If the LC and DR legislation do combine to amount to an interference with possessions, is it reasonable and proportionate?
It was pointed out that the style of drafting of the DR legislation is very different from that of other tax legislation in its use of vague terms such as “in essence” and “it is reasonable to suppose”. HMRC accepted that the wording of the DR legislation was intended to allow for the exercise of judgements on the part of HMRC officials in individual cases but made the point that such judgements were subject to the taxpayer’s right of appeal to the tribunal.
In their justification of the DR legislation, HMRC referred to the points made in the March 2019 Report by HM Treasury on time limits and the charge on DR loans.[8] It was also stated on behalf of HMRC that if an enquiry into an earlier year had been closed on the basis that full disclosure had been made, then HMRC would not apply the LC. So far as the particular claimants were concerned, there was no unfairness and, in any event, to succeed in showing incompatibility, they had to show that the legislation would operate unfairly in all cases, not merely in their own cases. Where there are many claimants, they should apply for a group litigation order.[9]
Much emphasis was placed by the claimants upon the effects of the LC upon individual taxpayers (and, indeed, the public gallery was filled with some 40-50 individuals personally affected), as highlighted in the Report of the Loan Charge All-Party Parliamentary Group in April 2019.[10] HMRC pointed out that as the claimants challenge is to primary legislation, rather than to the practice of HMRC, it is not open to them to rely upon the views and opinions of an APPG (which, unlike a Select Committee, has no formal status but merely exercises a right of freedom of speech in Parliament) as these cannot, under Article 9 of the Bill of Rights, be used to impeach the will of Parliament. The claimants must, so it was said on behalf of HMRC, accept that the present government’s position on the LC is at odds with the findings of the APPG.
We await the judgement of the court.
David Pett
[1] See s 4 Human Rights Act 1998
[2] By the insertion of ss554A(5A) – (5C)
[3] Degorce v HMRC [2017] EWCA 1427
[4] See, for example, R (oao St Matthews (West) Ltd & others v HM Treasury & anther); sub. nom. R (oao APVCO 19 Ltd & others) v HM Treasury & another [2015] EWCA Civ 648, [2015] STC 2272
[5] See R (oao Rowe and others) v HMRC and R (oao Vital Nut Co Ltd and others) v HMRC [2018] 1 WLR 3039
[6] See a decision of the EuCt HR in MA & others v Finland [2003] 37 EHRR CD210 and a Commission Decision of 10 March 1981 approved in Lay Lay Co Ltd v Malta [2013] ECHR 723.
[7] NKM v Hungary [2013] STC 1104
[8] https://www.gov.uk/government/publications/report-on-time-limits-and-the-disguised-remuneration-loan-charge
[9] As in the Knibbs litigation in the Court of Appeal [2019] EWCA Civ 1719
[10] http://www.loanchargeappg.co.uk/wp-content/uploads/2019/05/Loan-Charge-Inquiry-Report-April-2019-FINAL.pdf
David Pett, Tax Barrister 