Help from HMRC….or is it really?

I am highlighting a small point, of restricted interest to those involved with employee share schemes, but one which suggests that standards may not be what they were at HMRC.

Last month, HMRC published a revised Helpsheet 287 on the topic of the CGT consequences of disposing of shares acquired under a tax-advantaged employees’ share scheme. (https://www.gov.uk/government/publications/employee-share-and-security-schemes-and-capital-gains-tax-hs287-self-assessment-helpsheet/hs287-capital-gains-tax-and-employee-share-schemes-2025). This has excited some interest, as it clarifies how, by arranging for shares to be transferred directly from an SAYE share option scheme or a SIP into an ISA or personal pension arrangement, individuals may avoid triggering a liability to capital gains tax. However, it goes on, in para 16, to suggest (as did earlier helpsheets) that relief from CGT is available to both employees and non-employees who sell shares in an unlisted company to the company’s SIP trustees:

“This relief is designed to encourage shareholders disposing of their unlisted shares to sell them to the trustees of the company SIP for the benefit of all the employees of the company. You do not have to be an employee to claim it.”

There follows a note of how to claim the relief.

To the casual reader, this appears to be an attractive prospect, enabling any individual or corporate shareholder in an unlisted company to avoid CGT by selling their shares to SIP trustees.

What it fails to highlight is the key condition for the relief (which is afforded by s236A and Schedule 7C, TCGA 1992), namely that the SIP in question must hold/acquire (including shares awarded to, or acquired on behalf of, plan participants as Free, Matching or Partnership Shares) not less than 10% of the issued share capital of the company.

In practice, the relief (a form of CGT rollover relief, as the proceeds must be reinvested) is of very limited application, and certainly not as readily available to all and sundry, as the Helpsheet suggests. It is as if an officer at HMRC only read the first para of Sch 7C TCGA and did not bother to read the conditions in paras 2 and 3.

At best, it is hardly fair to “dangle the carrot” of relief from CGT without signalling that the detailed conditions mean that it is of only limited interest or application. “Help” is not what this is!

When, if ever, does Abbott v Philbin still hold good?

In Michael Saunders v HMRC ([2024] UKFTT 300 (TC)), the First Tier Tax Tribunal has held that a cash payment received by an ex-employee pursuant to the terms of “share appreciation rights” (“SARs”), awarded under an L-TIP established by the holding company of his former employer company, fell to be taxed as employment income when received. It was not, as the appellant contended, a sum derived from the SARs which, in line with Abbott v Philbin ([1961] AC 352), fell to be charged to income tax only when first awarded (as “money’s worth” which constituted an emolument of the employment at that time).

Under the terms of the SARs, Mr Saunders was entitled to a payout of an amount, calculated by reference to growth in value of shares in the holding company, if (i) his award had “vested” when he ceased employment and, (ii) the company was, inter alia, sold within 2 years after he ceased employment. In the event, the company was sold within two years after Mr Saunders had ceased employment holding vested SARs. The substantial sum to which he therefore became entitled was received by him in the overseas portion of a split tax year in which he became permanently resident outside the UK. Even if the payment was of general earnings, it was, so he argued, outside the scope of the charge to UK income tax as being attributable to the overseas part of a split year (per s15(1A)(a) ITEPA 2003).

Rights under such SARs are neither securities nor securities options and do not fall within the scope of the charging provisions in Part 7, ITEPA 2003. What Mr Saunders was granted was a conditional entitlement to future payment of a cash sum of an amount dependent upon growth in value of shares in the grantor company.

In Abbott v Philbin, the option purchased on favourable terms by the employee was “something” that could be turned into money (albeit that, by its terms, it was non-transferable). The terms of the option did not link its exercise to continued employment or the circumstances in which Mr Abbott might cease to hold the employment. It was the acquisition of the option itself which was the taxable perquisite from employment and not the gain realised upon subsequent exercise of that option. The gain realised upon its exercise was derived from that asset, not from the employment. (That decision was, of course nullified, at least in relation to the grant of “rights to acquire employment-related securities”, by what is now Chapter 5, Part 7, ITEPA. However, it is still good law to the extent that it has not been reversed by statute.)

The question for the Tribunal was whether, in this case, the SARs amounted to “something” which was itself an emolument of the employment taxable when acquired by the employee, or whether the sum eventually paid, being an amount paid pursuant to what was a conditional contractual entitlement to a sum of money, was derived from the employment, not from that “something”. The Tribunal held that the receipt of the payment arose from the employment relationship, not from the SARs. The terms of the SARs were closely linked to the employment. It did not matter that the quantum of payment was not directly and specifically linked to the performance of the duties of that employment. It was part of the reward for his services and comprised general earnings for the period of his employment since the award was made. By reason of s17 ITEPA, the general earnings were “for” the last of those earlier tax years but, by reason of s18, were taxable in the tax year of receipt. It was not attributable to the overseas part of the split tax year in which it was received.

The decision did not explore the parameters of exactly what would amount to the grant of rights (not being rights to acquire securities) which is taxable as an emolument at the time of grant per Abbott v Philbin, but was content to rely upon the idea that the sum eventually paid derived from the employment, not from such rights. The question is important in the context of identifying the correct UK tax treatment of different forms of employment-related cash-based incentive awards made by US and other overseas companies to internationally-mobile employees. Does a liability to UK employment taxes arise at grant/award (per Abbott v Philbin), or only at the later time when the benefit of the award is satisfied by a cash payout? This decision suggests that it is difficult to craft a form of contingent contractual entitlement to a cash sum linked to ongoing employment which amounts to something capable of being converted into money or something of direct monetary value so as to be a taxable emolument when first received.

………………………………………..

David Pett

14^th May 2024

More About the Loan Charge

Those who follow the debates about the impact of the 2019 Loan Charge on employees and directors who had outstanding loans made to them by an employees’ trust or other third party will be interested to read the following exchange of letters between the Parliamentary Treasury Select Committee and the head of HMRC:

Letter from Chair of the Treasury Select Committee to Jim Harra dated 5 February 2024

https://committees.parliament.uk/publications/43894/documents/217675/default

Letter from Jim Harra dated 11 March 2024 in response:

https://committees.parliament.uk/publications/43895/documents/217677/default

Jim Harra’s response to specific questions asked by the Committee about the Loan Charge, is – at least in part – a masterpiece in “yes Minister”-style obfuscation and half-truth. Specifically, the answers to questions 2 – 5 give only a partial picture of how disguised remuneration tax avoidance schemes were established and operated in the decade or more before 2010.

Those questions were:

1. Please provide a diagram of how typical disguised remuneration schemes work.

2. Please provide the Committee with a timeline regarding disguised remuneration schemes and HMRC efforts to tackle them, beginning in 2000. This should include, but not be limited to:

the development of such schemes, HMRC actions, court cases and legislative initiatives, including the General Anti-Abuse Rule (GAAR).

3. Given the above timeline, is HMRC confident that it acted swiftly in seeking to counter disguised remuneration schemes?

a) Please list any constraints HMRC faced in its actions and the effectiveness of any measures taken by HMRC or HMT listed in the timeline.

4. Were HMRC confident that the department was in a position to win disguised remuneration cases in court prior to the introduction of the Loan Charge legislation? If so, how long would it have taken to clear all the cases through this route alone?

5. Without the Loan Charge legislation announced at the 2016 Budget, what courses of action would have been available to HMRC?

a) Did you cost those options at the time and what were their estimated costs?

Most importantly, it is necessary to correct the impression given by Jim Harra that HMRC had judicial authority for its campaign to recover income tax on (real) loans made by trusts funded otherwise than by way of “re-directed earnings” before 6 April 2011, and that the actions it took were the only courses of action reasonably open to it.

The making of loans from a trust, as a means to avoid PAYE tax and NICs on moneys advanced to a director or employee, was becoming a widespread practice amongst both listed and independent private companies well before 2000. The use of such structures to avoid tax was made known to HMRC officials on multiple occasions in the 1990s, and concern was expressed at the loss of tax and failure on the part of HMRC to respond effectively or at all. The idea of using such loans from a trust to avoid income tax and NICs can be traced back to material published by respected counsel in or about 1992, relating to the taxation of employees’ trusts.

It was suggested to HMRC well before 2010 that new legislation could impose a “loan to participators” – type charge[1], which is a primary liability of the employer, if it (or a connected company) causes monies to be put beyond the reach of its creditors by funding a trust. The tax deposited might then be available for credit against PAYE liabilities to income tax arising on the provision of benefits out of the trust. Alternatively, or in addition, a charge similar in effect to the 2019 “loan charge” could have been imposed at a much earlier date if any form of beneficial employment-related loan was not repaid in full after, say, 5 years.

When, in 2010, a draft of the Disguised Remuneration legislation was disclosed by HMRC officials to selected advisers for comment, it was queried why the charges to income tax were structured as charges on individual employee beneficiaries, and not as a primary liability of the employer. The response was that Ministers were anxious to avoid the new charge to tax being perceived as an additional tax on businesses.

In those cases in which an advance of moneys to an employee or director was purported to be a loan, but the facts supported the view that any such loan was a sham, HMRC had good authority on which to recover tax on the basis that the advance was a payment of earnings (see, for example the case of Philip Boyle v Revenue & Customs ([2013] UKFTT 723)).

Until 2015, HMRC sought to assert that the making of a loan to an employee by trustees in circumstances in which there was no expectation of repayment until after the death of the employee was, in effect, an earmarking of the funds (similar to the idea of an earmarking described in the Disguised Remuneration rules[2]) and that this was itself a form of payment of earnings which was liable to income tax and NICs, for which the employee is liable but which is collected from the employer under PAYE. It was only in that year, and in the course of the litigation with Glasgow Rangers’ football club (“the Rangers’ case”[3]), that HMRC changed tack and argued instead that it was the contribution made to the trust which, if on the facts was a payment of re-directed earnings of the employee, was liable to income tax and NICs.

This, however, was not a complete answer to the avoidance of tax by the use of loans from a trust. In many instances it was clear that the funds in the trust did not represent payments of re-directed earnings of specified employees. In the case of such loans (assuming they were genuine and not sham loans) made before the introduction of the Disguised Remuneration rules in 2011, there was no judicial authority supporting the imposition of a charge to income tax on the making of such a loan – although more modest annual charges arose under the “benefits-in-kind rules”. Settlement agreements secured by HMRC have, in many cases, been (in effect) imposed on the basis of a questionable representation of the law as it then stood. It is no answer for HMRC to assert that, whilst HMRC has power to collect income tax from an employer under PAYE, it is also justified in side-stepping the PAYE rules and collecting it directly from the employee: if there was no general earnings charge on the making of a genuine loan, the collection mechanism is not in point.

The truth is that, for more than a decade until 2010, HMRC were like the proverbial rabbit stuck in the headlights, aware of the issue but unable or unwilling to respond effectively by securing an early change in legislation and/or securing judicial guidance in all those situations in which real loans (etc) were not made out of re-directed earnings.

………………………………………….

David Pett

March 2024

[1] See s455 Corporation Tax Act 2010

[2] See s554C ITEPA 2003

[3] RFC 2012 Plc (in liquidation) (formerly The Rangers Football Club Plc) v Advocate General for Scotland [2017] UKSC 45

Tax Journal Interview

Published on 15 March 2024. See original article here

One minute with…David Pett

David Pett is a tax barrister at Temple Tax Chambers. Whilst he advises on all direcct taxes, David is best known for his advice on the income tax, PAYE, NICs and CGT aspects of employees’ and directors’ remuneration, incentives, and all aspects of employment-related securities and employee share plans.

What’s keeping you busy at work?

At present, I am principally fielding technical queries about the disguised remuneration rules, employee share schemes and sales of companies to employee-ownership trusts (“EOTs”), although my practice extends to all direct taxes and related trust and company laws.

If you could make one change to a tax law or practice (anywhere in the world) what would it be (and why)?

It would be to allow trustees of a bona fide employees’ trust holding ordinary shares of the principal class in the employer company or group to receive distributions free of UK tax provided that, within, say, 30 days, they are fully distributed amongst beneficiaries on an “all-employee and similar terms” basis. Subject to safeguards against abuse, such amounts should then be taxed as dividend, not employment, income in the hands of existing and ex-employees. This would encourage the collective ownership of shares in (especially P/E-backed) companies, and meaningful financial participation, for the benefit of all of a company’s employees.

Is there anything you know now that you wish you’d known at the start of your career?

How enjoyable and intellectually satisfying life as a tax barrister can be. I transferred from practising as a solicitor in 2017 but should have done so 20 years ago! The support of my clerks and of other members of chambers has been fantastic and helped me to produce two new tax books in 2021 and 2022 (Claritax guides to Disguised Remuneration and Employee Ownership Trusts), and to accept instructions on, and deal with, some very challenging and high-value matters. Being entitled to lunch in Hall in the Inns of Court is also a tremendous benefit.

Who do you see as your mentors over the years?

David Gottlieb, then head of tax at Clifford-Turner (and who died prematurely at the age of just 39), in the early 1980s, instilled in me both the need to examine all the detail and the maxim “always assume you are wrong and question your own opinion” (He would then add: “always assume your adversary is more right than you are…. but still assume they too are wrong.”). He gave me the time to study, understand and absorb the tax, trusts and company legislation without the pressure to meet financial targets. It was a fantastic training.

Is there a recent tax case has caught your eye (and why)?

The 2023 decision of the Supreme Court in HMRC v Vermilion Holdings Limited has given rise to widespread uncertainty as to what is and is not an employment-related security or option, falling within the charging provisions of Part 7, ITEPA 2003. The ratio is that the deeming provision in s471(3) is a “bright line rule”, but the conflation of identifying who provides shares or share options with that of identifying who provided the right or opportunity for an employee to acquire them, has muddied the waters.

What should we be looking out for later this year?

Getting one’s head around the proposed new residence-based tax regime for non-doms will be a challenge this year, but an important issue ignored in the Budget, is the ongoing plight of those lower-paid employees caught in the Loan Charge scandal as a consequence of HMRC’s failure to act effectively, or at all, when tax avoidance schemes for contractors and others were being peddled in full sight. The resulting penury for so many caught up in HMRC’s zealous efforts to recover tax from the victims, rather than the promotors of such arrangements, in a scandal not dissimilar to that of the Post Office saga.

Finally, you might not know this about me but…

Since a teenager, I have pursued a parallel career as an orchestral timpanist. This has afforded opportunities to play much of the symphonic repertoire and in some of the finest concert venues in Europe. There is nothing like participating in a performance of a Tchaikovsky or a Mahler symphony for shedding frustrations and angst. I still enjoy time spent at the back of a large ensemble of musicians – much of it counting bars – and conquering the fear of coming in at just the wrong moment! It has some similarities with appearing before a court or tribunal.