TLRC Discussion paper: new powers and novel protections?

A discussion paper by Tracey Bowler for the Tax Law Review Committee, a Committee of the Institute for Fiscal Studies, was released in November and focuses upon ‘new’ HMRC powers. Vanessa Houlder gives an overview of the paper in a piece for the Financial Times yesterday. Both the report and Houlder’s article are worth reading.

The report makes two important contributions that this post will focus on. The first is that the paper makes clear that the nature of HMRC powers has changed in recent years. The background to the report is that HMRC over the past 10 years has acquired new powers to tackle tax avoidance. But these powers differ from traditional HMRC powers which are directed towards obtaining information and imposing penalties for non-compliance. Instead these new powers seek to nudge taxpayers away from tax avoidance activities and also away from delaying the collection of tax by engaging in litigation. The report cites the Bank Tax Code as heralding a “new approach to HMRC’s powers” accordingly (though the DOTAS regime came in some years prior). The past three years has seen the placing of significant “nudging” powers in the hands of HMRC – for instance, to require the upfront payment of tax due (APNs and PPNs), to require taxpayers to follow judicial decisions or face a penalty for failing to do so (Follower Notices), to penalise taxpayers who fall foul of the GAAR (GAAR penalties), and to penalise ‘serial’ tax avoiders by naming and shaming, issuing fiscal penalties and restricting tax relief (serial avoiders scheme). These are the powers that the Bowler paper focuses on, though one could also examine under this heading of new powers other initiatives such as the DPT and POTAS regime.

Secondly, the paper considers the safeguards in connection with these new powers to be inadequate. It notes that:

“Traditionally, the main independent safeguard to control the power of an administrative body such as HMRC has been the granting of appeal rights to the tribunals and courts. The New Powers have avoided that approach. Although the taxpayer retains the right to appeal the underlying tax assessment, there is no appeal right in relation to the use of the New Powers”

This is an important observation. But what also follows from having broad, intrusive powers without traditional rights of appeal is that the courts will generally apply a restrictive reading of the powers. This has already occurred in the case of APNs and PPNs. Put another way, where legislation does not provide safeguards against powers, the courts will generally intervene to introduce them unless the statute is worded to specifically preclude the courts from doing so. The litigation in this area accordingly is likely to produce interesting assessments of the scope of HMRC’s ‘new’ powers.

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Rowe v HMRC [2017] EWCA Civ 2105: a case note on ‘notices’

On the 12th of December 2017, the Court of Appeal handed down judgment in the joined cases of Rowe v HMRC and Vital Nut v HMRC, in which dozens of taxpayers challenged the decision of HMRC to issue to them notices requiring the upfront payment of disputed tax – ‘upfront’ in the sense of being prior to a determination of the amount being due by a court or tribunal. These notices requiring the accelerated payment are aptly called ‘Accelerated Payment Notices’ (APNs), though in the specific instances where they are issued to partners in a partnership are referred to as ‘Partner Payment Notices’ (PPNs). The notices can be issued where the following conditions are satisfied (see Finance Act 2014, s. 219, as well as section 228 and Schedule 32):

  1. Either an enquiry or appeal are in progress;
  2. A tax advantage accrues from the particular arrangements; and
  3. A follower notice has been issued; the arrangements are DOTAS notifiable (FA 2004, s. 311); or a GAAR counteraction notice has been issued (FA 2013, Sch. 43, para 12).

Once issued, the disputed tax becomes payable within 90 days (though the taxpayer has a right to make representations to HMRC). These notices are being challenged through judicial review by 1,000s of taxpayers and it is easy to see why – taxpayers have no right of appeal against the notices themselves and, given the short time period in which the money must be repaid (which could well be into the 100s of £1,000s for tax schemes entered into a decade previously), will have little option but to fight the payment through judicial review. The High Court decision in Rowe was the first to be handed down in relation to accelerated payments (with several cases failing at the High Court on the basis of the judgment of Simler J –  see here, and here for instance) and several cases, or parts thereof, are being stayed behind the appeal (see here, here and here for instance). This general background underlines the importance of the judgment in Rowe and Vital Nut v HMRC.

Before discussing the case itself, I should also note the following things that have become apparent from the litigation in this area over the past two years. The first is that whilst there are explicit statutory conditions which must be complied with before an accelerated notice can be granted (as set out already), there are also inevitably implied conditions which too must be satisfied. This is simply a reflection of the fact that these notices are a ‘game-changer’ and significantly impact the taxpayers concerned. (This was predicted here, and confirmed here and here where the judges introduced implied conditions). Secondly, in order for a taxpayer to succeed in a challenge to the issuance of an accelerated payment notice, the taxpayer should point to some choice made by HMRC in the execution of the relevant legislation, rather than trying to challenge the legislation itself. This argument was explicitly made by Jonathan Peacock in the British Tax Review. The third is the seeming failure of the courts to properly apply the test for taking into account relevant considerations. Broadly, public law requires in a tax setting that HMRC, or the relevant person in HMRC, takes into account all relevant considerations when making a decision and does not take into account any irrelevant consideration(s). If there is a failure for either reason, the question then is whether HMRC, or the relevant person, would inevitably have arrived at the same decision (see pages 101-106 here). In the case of Dickinson, when deciding whether to issue an APN, the fact that there was previously an agreement with the taxpayer to postpone the requirement to pay the disputed tax until after a tribunal determination was ignored. This seemed a relevant consideration, but the court did not deal with the point. At various points in the lengthy judgment of the Court of Appeal in Rowe and Vital Nut v HMRC, these three observations were confirmed.

In Rowe and Vital Nut v HMRC, the Court of Appeal summarised that the taxpayers sought to challenge the issuance of the notices on six broad grounds, finding against the taxpayers ultimately on all six. Judgment on the first four grounds was given by Lady Justice Arden, with Lord Justice McCombe giving judgment on the remaining two. Lady Justice Thirlwall concurred, save for considering whether the legislation was compliant with Article 6 of the ECHR, whilst Arden LJ added some thoughts of her own on the compliance of the notices with the Convention.

The first ground of appeal was that the notices were unreasonable (or disproportionate or otherwise unfair). The second was that the notices did not comply with the statutory conditions necessary for their issuance. These two grounds were taken together by Lady Justice Arden who dealt with the varied and complex arguments advanced by the taxpayers under these headings such as whether it was unfair to issue the notices long after the schemes had been entered into (unfair either because of the delay, or the fact that the legislation should only apply prospectively, as posited here) or whether it was unfair to issue notices in a period shortly before the hearing of the substantive appeals which underpinned the tax dispute. Arden LJ was minded that the power to issue notices, given its severity, called for “caution” (in line with my comment above):

“In a case such as Mr Rowe’s, if the provisions of the FA 2014 are applied without limitation, the result may be that Parliament imposes a disadvantage on citizen A in order to deter citizens B, C, D, E and F from acting in a similar way. That is on the face of it a remarkable result. In principle, it is possible for Parliament to impose such an obligation, but the court will expect the legislation to be expressed in clear language if it is to achieve that effect. I approach the issues of statutory interpretation arising on this appeal on that basis.” [paragraph 50]

Ultimately, however, the Court was satisfied that the notices were issued by HMRC within Finance Act 2014, consistently with its statutory purpose, following a fair procedure specifically prescribed by the legislation, pursuant to rational and proportionate exercise of HMRC’s discretion and the notices did not involve any unlawful interference with the appellants’ rights under the Convention.

One wonders however whether the taxpayers might have been more successful if their argument had been based on a constitutional principle, such as access to justice, which had been infringed by deliberately sending the notices so soon before the substantive appeal was due to be heard. Courts are more likely to entertain an access to justice point after the success of the argument in the Supreme Court this year in Unison. In the case of the taxpayers in Rowe, HMRC offered a settlement opportunity to the taxpayers prior to the issuance of the notices [see paragraph 42], with the settlement expressly providing that those taxpayers who did not accept the offer would later receive an APN. The combination, it could be argued, was an aggressive means of forcing tax settlement and severely restricting the taxpayers’ access to the court. To recall, an APN requires upfront payment, but a settlement would not and could be staggered. Objectionable here is the fact that HMRC are requiring payment of the maximum amount due (by issuing the APN) despite knowing that less is in all likelihood receivable (by issuing the settlement opportunity). In order for a judicial review of HMRC to be successful, it is necessary for the taxpayer to show that she has been “shafted” in some way (my words), or as Arden LJ put it – “[t]here must be some material factor which makes [the exercise of a discretionary power] unfair.” Could it be argued that this is a material factor – asking for more up front, when knowing it is not due, in a bid to restrict the taxpayers’ access to the courtroom when an appeal is pending?

The third ground of appeal was that the issuance of the notices breached the principles of natural justice because taxpayers were not provided with a proper opportunity to rebut the claims of the asserted tax liability before the notices were served. Arden LJ held that the right to make representations to HMRC after the initial issuance of the notices must include the right to make representations as to the effectiveness of the underlying tax scheme. This again deviates from the strict wording of the statute and reads in a further requirement for HMRC. In the circumstances however, the taxpayers were well aware of the basis of the dispute and that HMRC questioned the effectiveness of the underlying scheme.

The fourth ground of appeal was a technical procedural point – that the notice did not relate to an “understated partner tax” as required by section 228 and Schedule 32 of the Finance Act 2014. In the case of PPNs, the notice must state the “understated partner tax” which is the amount which becomes “due and payable” following determination by the designated HMRC officer of the amount of tax advantage to be denied. The argument here was that no amount was “due and payable” because HMRC never opened an enquiry into the relevant tax return for the right year of the lead taxpayer in Rowe. The taxpayer filed his return for the year and then later, in a separate claim, filed for the relevant relief. HMRC challenged the relief, it was argued, but not the return and thus there was no tax due and payable. This ground of appeal is a direct fallout from the Supreme Court judgment in Cotter (though the taxpayer also had to try to distinguish the Court of Appeal judgment in De Silva, the appeal of which was unanimously refused by the Supreme Court). Arden LJ rejected this argument. HMRC had made an enquiry into the return of the partnership for the loss year, this operated as a deemed enquiry into Mr Rowe’s tax return, including the statement of his share of the relevant loss for the same period. Therefore HMRC did not need to open any other enquiry into the standalone claim for relief.

The fifth ground was that there was a breach of the taxpayers’ human rights (in respect of Article 1 of the First Protocol as well as Articles 6 and 7 of the Convention). The Article 7 ground was not argued before the Court. Whilst McCombe LJ had doubts about the conclusion of the High Court judges that Article 1 Protocol 1 was not engaged, he was happy nevertheless that any interference was in accordance with law and proportionate. As for Article 6, McCombe LJ was satisfied that the availability of the procedure for the making of representations against the issue of notices, backed by judicial review of any decision made, was sufficient.

The sixth ground was also a technical procedural point that HMRC must be satisfied that the disputed amount is in fact owed. The legislation requires that the notice specify the amount of disputed tax (section 221(2)(b) of Finance Act 2014), which should be determined by a designated officer (section 221(3) of Finance Act 2014). Charles J in the High Court found that this required that the officer is not satisfied that the underlying tax scheme is effective. The Court of Appeal however reversed this onus of proof, finding that it in fact required that the designated officer was positively satisfied that the scheme was ineffective. This is an important change as HMRC had argued that it could send out notices for instance whenever a scheme was DOTAS notifiable, unless it was as clear as a “slam dunk case” that the taxpayers would succeed in challenging HMRC as to the effectiveness of the underlying scheme.

Notwithstanding the fact that the incorrect test was applied, the Court of Appeal found that it was “highly likely that the same decision would have been reached by the designated officers in these cases, even if the correct test had been applied by him/her in specifying the sum to be paid.” This, it could be argued, was the incorrect test to be applied if the language of relevant considerations is used. The designated officer should have taken into account whether the scheme was in fact ineffective (which is an importantly distinct consideration from whether the officer was not satisfied that it was effective). That consideration ignored, the test then is not whether the same decision was highly likely, but rather whether it was inevitable. This then is where the court erred – by using the incorrect test of likelihood rather than inevitability to determine whether the officer’s decision was vitiated. But the court did not do so, and it does not appear to have been argued in such a way. But as noted already, it is becoming a common trend to overlook the proper application of the relevant considerations test. Whilst the taxpayers did come close to making an argument on the basis of failing to take account of relevant considerations, this was done so on the basis that HMRC had formulated an overly strict policy for the exercise of its discretion which in turn did not allow for exceptional cases in which the schemes might be effective. (The Court found that HMRC’s policy did in fact allow for exceptional cases).

Some time ago, I predicted that one of the ’notices’ cases would make it to the Supreme Court and this looks likely to happen with Rowe and Vital Nut. Over the past few years, HMRC have acquired important powers which ‘nudge’ the actions of taxpayers – the DPT, APNs, the GAAR, POTAS and so on. These powers are distinct from the traditional powers that HMRC exercised when investigating taxpayers. The public interest in having the Supreme Court consider a case like Rowe and Vital Nut accordingly lies in the fact that it would be the first opportunity to pronounce upon the proper interpretation and scope of these new ‘nudging powers’. This case for instance highlights the role that the courts can play in restricting the wording of statutes and the litigation has highlighted some misconceptions that HMRC had about its power to issue the notices.

 

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Tax Transparency Report

Before anything can actually be assessed, there must be information that can form the basis of the assessment. This is true in tax as it is in any other walk of life. A further question arises in respect of the source of that information. Should it be purely from taxpayers? Or should tax authorities be entitled to look at information gathered from other sources also? It seems clear that in order to crosscheck taxpayer’s information, the latter will be necessary. But to effectuate this end, it will be necessary for the tax authority to be granted the requisite powers, and wherever this occurs, the issue of taxpayer protections necessarily arises. James Madison recognised this as long ago as 1788 when he wrote: “you must first enable the government to control the governed; and in the next place oblige it to control itself”. For this reason additionally, the need for tax authorities themselves to act transparently towards taxpayers becomes obvious – it provides for control of the authority by providing clear evidence and means of investigation to concerned parties to either ensure that the authority is acting within its prescribed limits or to obtain remedies where the body fails to act within them.

Against this background, I have just uploaded on to SSRN a report I have prepared on tax transparency for the Annual Congress of the European Association of Tax Law Professors. The report is prepared in response to detailed questions and as a result it does not flow like an academic article pursuing a particular thesis.

The report itself deals with three primary aspects of tax transparency: what information HMRC may acquire and how it may be used, taxpayer protections, and the transparency of HMRC towards taxpayers and the public generally. It may be downloaded here.

 

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The doctrine of legitimate expectations: guidance, errors and reliance

Judgment in the case of R (Aozora) v HMRC [2017] EWHC 2881 (Admin) was handed down yesterday. Once again, a taxpayer sought to rely upon the doctrine of legitimate expectations. Once again, the taxpayer lost. The case however flags up important issues in respect of the doctrine of legitimate expectations, in particular the effect of HMRC guidance containing an error of law.

The taxpayer had been issued closure notices, the effect of which was to deny the taxpayer relief under section 790 of the Income and Corporation Taxes Act 1988 in respect of withholding tax imposed by the US. This was on the basis that, as HMRC contended, s. 793A of the Act operated to prevent the availability of the relief. The taxpayer however contended that HMRC guidance (in this instance HMRC’s international manual) gave rise to a legitimate expectation that it would be taxed in accordance with the guidance.

In this case, HMRC’s guidance set out the meaning of the legal provisions, but then also, significantly, added that “At 1 April 2003 the only provisions to which s.793A applies is Article 24(4)(c) of the new UK/US DTA”. This was removed in 2011. Article 24(4)(c) of the UK-USA Double Taxation Convention is a very specific provision which the judge read “several times, in a futile endeavour to understand its purpose” but, in essence, is an anti-avoidance provision in respect of tax on dividends. It was this limitation to section 793A that the taxpayer was seeking to rely upon in the case as creating a legitimate expectation.

With regard to the issue of legitimate expectation, the standard formula set out in tax cases is that you first consider whether there is a legitimate expectation created by the public authority, and secondly whether frustrating that is so unfair as to amount to an abuse of power. An important feature of this case was the idea that HMRC’s guidance had incorrectly stated the law, something which similarly arose in the case of Hely-Hutchinson (which this blog has covered extensively. For instance, see here). The judge quoted Lady Justice Arden’s formulation therein that “it is well established that it is open to a public body to change a policy if it has acted under a mistake. The decision whether or not to do so is not reviewed for its compatibility in the public interest: the question is whether or not there has been sufficient unfairness to prevent correction of the mistake”. In other words, it is legitimate for HMRC to seek to correct past mistakes in respect of guidance and it is only where doing so would be particularly unfair that the body will be estopped from doing so in an individual case.

Applying that law to the case at hand, the judge looked at three issues in respect of the legitimate expectation claim: first, whether there was a relevant representation from HMRC; second, whether there was reliance upon that representation; and finally, whether there was resulting conspicuous unfairness.

The judge was satisfied that there was a relevant representation. This was despite the fact that it came from an internal manual and that it was qualified that it might not cover the particularities of each taxpayer’s case. The finding that an internal manual can create a legitimate expectation, even though it is not per se directed towards taxpayers, is entirely orthodox. As for the qualified language of the guidance, the most prudent of ordinarily sophisticated taxpayer would have interpreted the guidance as meaning that section 793A only applied in respect of Article 24(4)(c).

But the judge did note two further matters in respect of representations. The first was that counsel for HMRC at one point “came uncomfortably close to asserting that HMRC could not in law be prevented in any case from resiling from a representation that could later be shown to be an incorrect interpretation of the applicable law”. Interestingly this is not the first time that it has been suggested by HMRC that it is bound to apply the law correctly and collect the tax due. In the High Court judgment of Hely-Hutchinson, Mrs Justice Whipple noted that HMRC there “came close to characterising the duty to collect tax as a trump card which prevails over all other considerations”.

In truth, HMRC may be precluded from applying a correct interpretation by reason of a legitimate expectation. But there are clearly “conceptual difficulties” with that proposition. This is the second further matter the judge briefly notes. HMRC is under a duty to collect tax due. How can it be the case that it would be empowered to act beyond this express duty by purposefully not collecting that tax which is due? This gives rise to circular conundrum: what authority does the body have to act outside its authority? This issue is addressed in Paul Craig’s Administrative Law 7th edition, at pages 701-716 and also in an article of mine in Public Law.

What is unclear from the judgment however, and the Court of Appeal in Hely-Hutchinson also did not elaborate upon this point, is how much weight to put on the fact that HMRC guidance might contain an error of law.

Turning to the matter of reliance upon the representation in the manual, the judge found that there was no reliance by the taxpayer. This was either because, as a matter of fact, the taxpayer was not told about the HMRC guidance by the advisors or because the advisors actually came to the conclusion about the applicability of section 793A independently, without recourse to the guidance. It might be queried whether it makes sense that it might be necessary to show that an actual taxpayer, rather than her adviser (which could then be imputed to the taxpayer), did in fact rely upon the HMRC guidance in question.

The judge held on the third point that even if he were wrong in respect of reliance, the taxpayer could not demonstrate that it was conspicuously unfair for HMRC to resile from its representation. In order to do so, the taxpayer would have to be able to show that “but for the advice that unilateral tax credit was available, it would not have made the business decision that it did, but would have made a business decision that was more favourable from a tax point of view”. But there was no evidence to support this proposition. This finding however raises a broader conceptual issue. The doctrine of legitimate expectations pursues different objectives. On the one hand, it undoubtedly protects citizens where they have changed their position in reliance upon a representation from a public authority. But the doctrine also seeks to ensure that public authorities act consistently with their policies. Where this is in play, the fact that a particular citizen may not have relied upon the representation is not determinative of the claim. However, the judge in this case only approached the matter as if the doctrine is only relevant in so far as a taxpayer has changed her position in reliance upon an expectation.

 

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Distinctions and blurred lines in tax

Over the past few days, I have had the pleasure of marking around 50 tax essays. And I do mean it has been a pleasure, because in the process of marking you must confront the fundamentals underpinning the questions that have been asked of students. A common issue throughout the questions has been how tax law distinguishes between two things, whether that is the difference between debt and equity; income and capital; an individual and a couple; employed and self-employed or accounting rules and tax rules. In each instance, in the paradigm case, it is easy to see how the two are different. An apple is clearly different from a tree if your business is selling apples. But at the margins unsurprisingly, the two are difficult to separate. If I buy a factory, but sell it very shortly after – is it an asset that has been sold off, or is it stock?

Much energy can be expended in trying to clarify the distinction. The task of doing so is not fruitless and can have obvious benefits to those that are seeking to plan their lives in accordance with the rules.

But there is a more fundamental point to the idea of these distinctions. Why does the particular distinction even matter? It will matter because there will usually be some meaningful difference between falling on one side or other of the line. In tax, the difference will be money (whether that is direct in that less tax must be paid or indirect in the sense of a lower administrative burden) and the result will be that people, companies, entities will seek to place themselves on the favourable side of the line. That is the significance of the distinction – remove that, and the fact that the line might be blurry becomes largely irrelevant. When viewed in this way, the question is not about how to clarify the distinction but whether, as a policy choice, that distinction is justified. If the distinction is justified, then we must live with the unfortunate consequences at the margins and try to clarify the differences. If it is not justified, then the task should be to minimise the difference in treatment between falling on either side of the line.

Bringing this to real world distinctions today that are, or at least should be, testing policymakers, is there a sufficient justification behind distinguishing between different categories of persons engaged in work for the purposes of employment law? What about the distinction in treatment between employed and self-employed persons for tax purposes? Although the Paradise Papers brought together myriad different issues, one oft-cited benefit of offshoring is its use for investment funds. If there is good reason for this, then should there be a distinction in treatment between offshore and onshore investment funds?

It is these questions on the justification underpinning any distinction that our attention should be focused upon. It is only after answering them that our minds should turn to clarifying the distinctions. (For an example of interrogating the justification for a distinction and looking at ways to clarify the distinction, see Professor Freedman’s work on the employee/self-employed distinction most notably here).

*Postscript: Apparently this two stage approach is in fact the approach adopted internally by HMRC (h/t Heather Self @hselftax)

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The Margin of Appreciation in Tax Law

In a recent article for the British Tax Review (see here for Peacock, ‘The “Margin of Appreciation” Afforded in the Tax Tribunals: is there any Limit to Judicial Deference?’ (2017) BTR 404), Jonathan Peacock QC explores recent caselaw where taxpayers have sought to challenge actions by HMRC where a “margin of appreciation” is present. In other words, those cases where the challenge directed itself towards policy choices made by the government or Parliament. In his article he concludes that:

“challenges to primary legislation are almost certain to fail; challenges to operational decisions made by HMRC might succeed…[and importantly] the taxpayer needs to point to some other cardinal principle offended by the actions of HMRC which the courts can balance against the incredible weight on the other side of the balance”

Peacock is absolutely correct. Challenges to policy choices by government or Parliament face an almost insurmountable hurdle in the tax arena, where it is orthodox for the courts to respect those choices (an interesting exercise would be to compare this to for instance challenges to immigration policy choices). This deference is entirely understandable and there are good reasons to support it – there are difficult policy choices which need to be made in respect of tax for which our politicians are ultimately accountable and these are made with the benefit of the best available evidence. Judges simply are not institutionally competent to lightly second guess in such instances. At the same time, one does query the degree to which there is genuine scrutiny of legislation as it passes through the House of Commons and or serious deliberation over the way in which policy choices are formulated in legislation – the recent case of Vrang should give pause for thought on whether the implications of policy choices are fully appreciated by those responsible for their promulgation.

Peacock is right too to point out that taxpayer challenges will be more successful if they point to some particular choice made by HMRC in the operation of the particular legislation, rather than being directed to the legislation itself. This is something that I have raised here on this blog in the context of the current lot of challenges to Accelerated Payment Notices (see here and the links therein). Taxpayers should try to argue for instance that, even though the express statutory conditions attached to the discretionary power to issue an APN may have been satisfied in the case, there may be some other implied condition which has not (see here), or that HMRC failed to take into account a relevant consideration (or took into account an irrelevant consideration) when exercising the power (see here), or that the exercise of the power in the circumstances breached some important constitutional principle, such as access to justice (see here). Even then, taxpayers must still overcome the hurdle that courts in practice will in turn give a “margin of appreciation” (in Peacock’s words) to actions taken by HMRC pursuant to its discretionary powers (see here).

The article is a thoroughly enjoyable read and to be recommended both for its substance and also because it displays Peacock’s unrivalled ability to distill complex issues into simple, discrete points.

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The latest twist in the Mansworth v Jelley tale

Late on Wednesday afternoon, the Court of Appeal handed down judgment in the case of R (Hely-Hutchinson) v HMRC [2017] EWCA Civ 1075. It is the latest twist in the long running saga concerning what has come to be known as ‘Mansworth v Jelley losses’ (and has been the subject of this blog here, here and here, in addition to being the subject of a case note by the author in the British Tax Review (downloadable here)).

Background

The Mansworth v Jelley (2003) case concerned an assessment to CGT. The taxpayer in this case was granted options to purchase shares in JP Morgan at the market price of those shares. He duly exercised the options and thereafter, promptly sold the shares. The issue in dispute, between the taxpayer and HMRC, was whether the chargeable gain or loss ought to be calculated by reference to the proceeds from the sale of the shares, (a) minus the market value of the options when originally granted (which was nil) or (b) minus the market value of the options when exercised. The Court of Appeal ultimately held in favour of the latter construction, in other words, in favour of the taxpayer.

Following the case, the Inland Revenue issued guidance on the matter in 2003 to the effect that the chargeable gain or loss in such circumstances should be calculated on the disposal of shares acquired by such options by deducting both: the market value of the shares at the time the option was exercised; [and (controversially)] any amount chargeable to income tax on the exercise of that option

In 2009, Dave Hartnett and HMRC acknowledged this to be incorrect. The guidance was revised to provide that all that would be deductible would be the market price of the shares and not, additionally, the income tax that would be paid. As regards closed cases in which the earlier guidance was relied upon, HMRC’s position was that the revised 2009 guidance could not be applied and thus that the position created by the 2003 guidance would not be revisited.

What about open cases (in order words, instances where there is an open enquiry)? Would those persons get the same treatment?

R (Hely-Hutchinson) v HMRC

That is precisely the issue which arose for Ralph Hely-Hutchinson in the R (Hely-Hutchinson) v HMRC case. The taxpayer relied upon the 2003 guidance, but the case was not closed by 2009 (owing to a dispute between HMRC and the applicant’s employer about the tax treatment of the scheme used to distribute the shares to him). Accordingly, the taxpayer was refused the 2003 guidance treatment, and subjected to the harsher (albeit correct) 2009 guidance. Whipple J in the High Court found that this breached the taxpayer’s legitimate expectation that he would obtain the treatment specified in the 2003 guidance.

Court of Appeal judgment

The Court of Appeal opened its consideration of the factual matrix by first setting out the general principles which apply in cases of legitimate expectation, and in particular where the expectation arises from HMRC and its guidance. Precedence holds that HMRC is a public body invested with the power to collect tax and in doing so may provide guidance to assist the collection of tax. However, the duty to collect tax must be balanced with the duty of fairness owed to taxpayers. This duty is itself imbued with the considerations that a) not all taxpayers must be charged with tax which is strictly owed due to interests of good management and b) the public body must retain the ability to correct past mistakes, even if this results in inconsistent treatment. When balancing the duty of fairness against the duty to collect tax, the taxpayer needs to demonstrate conspicuous unfairness in order for a claim that tax ought not to be paid to succeed. Thus, it needed to be demonstrated in this case that there was unfairness which mounted to an abuse of power by reason of HMRC resiling from its previously published position.

However, as stressed in a previous blog, this was not an orthodox case concerning legitimate expectations where a citizen is given an assurance directly by a public authority and changes her position in reliance upon that assurance. Rather it was a case concerning consistency. The taxpayer thus was ultimately arguing that he did not receive the same treatment as similarly placed taxpayers. Before the court, this argument was split into two sub-arguments (although the author’s opinion is that they collapse into one). The first was that HMRC’s action produced comparative unfairness. The second was that, even if it was not comparatively unfair, it was nevertheless conspicuously unfair thus amounting to an abuse of power.

In respect of the first argument, the court responded that HMRC are entitled to change policy where the body has realised that a mistake was made. This amounts to a ‘good reason’ to depart from previous policy. Further, the Court found that in terms of consistency, HMRC were required to compare taxpayers at the time of assessment, not the time that the guidance was produced. In other words, the treatment of the taxpayer in the case should be compared with the treatment offered to other taxpayers whose cases were ‘open’, not those whose cases were ‘closed’. In this way, there was no inconsistency. The taxpayer was treated similarly to other taxpayers in materially similar circumstances. Thus, the Court found that there was not comparative unfairness in resiling from the previously published position.

The second argument was dealt a killer blow by the failure to land on the first. The fact that there was no comparative unfairness in turn meant that in the circumstances, it could not be said that there was conspicuous unfairness. The taxpayer’s second argument also introduced the idea that conspicuous unfairness could arise by virtue of breach of the taxpayer’s human rights. The taxpayer’s arguments on the basis of discrimination under Article 14 ECHR however and the right to enjoyment of private property under A1P1 ECHR were dismissed in short shrift on the basis that such rights were not established in the case.

The taxpayer deployed a further third argument which sought to set aside HMRC’s decision not to apply the 2003 guidance to the taxpayer on the basis that it was unlawful having regard to the considerations taken into account when HMRC made the relevant decision. The Court was being asked to set aside the decision itself, thus requiring conspicuous unfairness to be demonstrated. The taxpayer argued that

  • HMRC took an overly narrow view of the concept of detrimental reliance, ignoring the fact that respondent’s expectation that the 2003 guidance would be applied to him was reinforced by the passage of time. HMRC’s policy today in respect of Mansworth v Jelley losses is that the 2003 treatment will be applied where the taxpayer can demonstrate inter alia detrimental reliance.
  • HMRC failed to take account of the fact that the enquiry remained ‘open’ for reasons not personal to the taxpayer, but to his former employer.
  • HMRC did not take into account the fact that the 2003 guidance was thought to be correct when the taxpayer made his Mansworth v Jelley loss claims.
  • HMRC did not take into account the delay of 11 years from the opening of the enquiry to refusal of the taxpayer’s claim.

The Court found that there was no unlawful decision. The taxpayer was returned to the position he was in when he exercised his options. He was warned since 2003 that HMRC did not accept his claims. His enquiry was ‘open’ and not ‘closed’ and thus the fact that there was different treatment applied to the different categories was immaterial. And the relevant HMRC officer did consider the detriment, a powerful factor, to the taxpayer when arriving at the decision. The taxpayer’s detriment was caused by financial difficulty, not reliance upon the 2003 guidance.

The taxpayer’s fourth and final argument, that the High Court should not have remitted the decision to HMRC but should have substituted its own judgment instead, was academic in the context but nevertheless rejected by the Court.

Comment

There is much that can be said about this case, and will be explored elsewhere in more detail. Some matters however stand out for comment. First, the Court’s finding appears to apply the orthodox understanding of the relevant public law principles. The decision to withdraw the previous guidance is one which falls squarely within HMRC’s managerial discretion to which courts will generally give significant leeway. To this end, the taxpayer was in the unenvious position of having to overcome the significant ‘conspicuous unfairness’ threshold. That is not to say that one cannot find sympathy with the taxpayer – the length of the dispute and its consequences are particularly unfortunate. Secondly, the case raises much broader questions about the limitations of the legitimate expectations doctrine. One aspect in particular relates to HMRC publications. The doctrine is the best legal protection for taxpayers who seek to rely upon assurances produced by HMRC. However even in this case (where the guidance was clear as day and had been in place for many years), HMRC was found to be entitled to resile from the previously published assurance. Taxpayers will now legitimately ask what is the utility of an HMRC publication, if at some unspecified time in the future the body can simply reverse its position? Thirdly and following from this point, the Court provided little guidance on when HMRC will be entitled to do so. The Court’s approach was that HMRC was entitled to reverse its position in order to correct a mistake. Must the Court be satisfied that a mistake was in fact made (something which the Court does not seem to have interrogated)? What about the case where it is highly unclear that HMRC has made a mistake of law in its publication? How grave must the mistake have been? Further, what counts as a mistake – does internal legal advice pointing out a possible mistake suffice? What about if a tribunal or other judge finds against an HMRC interpretation? One reading of this omission on the Court’s part would be that the error on HMRC’s part was particularly obvious such that it would go without saying that HMRC was entitled in such an obvious case to reverse its position (h/t @AislingTax). Indeed, the tax press in 2003 expressed amazement at HMRC’s mistake (see para 12 of the High Court judgment). But if this formed part of the Court’s reasoning, then it ought to have formed part of the judgment. Moreover, the Court at the beginning of the judgment wrote that “We are not concerned with the correctness of HMRC’s view”.

These issues may be given a further hearing in the Supreme Court if the taxpayer decides to appeal, something which this blog will keep an eye on. A final comment should be made about the taxpayer’s legal representation. It is clear from reading the judgment that the taxpayer has had unfortunate financial difficulties in the past decade, and it is to their credit that Rory Mullan and Harriet Brown of Old Square Tax Chambers represented him pro bono.

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The language of tax avoidance cases

The opening line of single Supreme Court judgment in UBS v HMRC [2016] UKSC 13 from Lord Reed reads as follows:

“In our society, a great deal of intellectual effort is devoted to tax avoidance. The most sophisticated attempts of the Houdini taxpayer to escape from the manacles of tax”

With an opening line like that, it is unsurprising to learn that the taxpayer went on to lose the case. This is certainly not the first time that the opening remarks from judges in tax avoidance cases signal how those judges will find in the end. In the recent Rangers case (in Rangers v Advocate General for Scotland [2017] UKSC 45), Lord Hodge’s opening line was far subtler:

“This appeal concerns a tax avoidance scheme by which employers paid remuneration to their employees through an employees’ remuneration trust in the hope that the scheme would avoid liability to income tax and Class 1 national insurance”

By conceptualising the appeal in this way however, David Goldberg QC and Nigel Doran have pointed out that this effectively determined the result, in this case, a taxpayer loss.

More subtle again, and perhaps I am reading too much into this, is the opening line from the single judgment in Pendragon from Lord Sumption (HMRC v Pendragon [2015] UKSC 37):

“This appeal is about an elaborate scheme designed and marketed by KPMG relating to demonstrator cars used by retail distributors for test drives and other internal purposes. In the ordinary course, a car distributor will buy new cars for use as demonstrators, paying VAT on the full amount of the sale price. This will in due course be recoverable as input tax by being set off against the output tax for which the distributor was accountable on its taxable supplies. The object of the KPMG scheme was to ensure that companies in the distributor’s group were able to recover input tax paid on the price of new cars acquired as demonstrators from manufacturers, while avoiding the payment of output tax on the price at which the car was ultimately sold second-hand to a consumer.”

Note can be taken of the use of language such as “elaborate scheme”, the fact that it is “marketed” and the use of the word “avoiding”.

The single judgment from Lord Walker in Futter and Pitt (Futter and Pitt v HMRC [2013] UKSC 26) (although note that there was a part taxpayer victory in this case) and his lead judgment in Tower M’Cashback (HMRC v Tower M’Cashback [2011] UKSC 19) more clearly evince the judge’s disdain for avoidance schemes. However, Lord Walker’s style was not to open with such lines, but rather to plant them towards or in the conclusion. In Futter and Pitt, he wrote as follows:

“[S]ome cases of artificial tax avoidance the court might think it right to refuse relief, either on the ground that such claimants, acting on supposedly expert advice, must be taken to have accepted the risk that the scheme would prove ineffective, or on the ground that discretionary relief should be refused on grounds of public policy. Since the seminal decision of the House of Lords in WT Ramsay Ltd v IRC [1982] AC 300 there has been an increasingly strong and general recognition that artificial tax avoidance is a social evil which puts an unfair burden on the shoulders of those who do not adopt such measures.”

The final paragraph of Tower M’Cashback reads as follows:

“If a majority of the Court agrees with my conclusion, it is to be expected that commentators will complain that this Court has abandoned the clarity of BMBF and returned to the uncertainty of Ensign. I would disagree. Both are decisions of the House of Lords and both are good law. The composite transactions in this case, like that in Ensign (and unlike that in BMBF) did not, on a realistic appraisal of the facts, meet the test laid down by the CAA, which requires real expenditure for the real purpose of acquiring plant for use in a trade. Any uncertainty that there may be will arise from the unremitting ingenuity of tax consultants and investment bankers determined to test the limits of the capital allowances legislation.”

There might well be a thesis behind the extracts, but it should not be overstated. These are just four examples of statements from Supreme Court judges in tax avoidance cases. When the words “tax avoidance” are searched in the BAILII database of Supreme Court judgments (i.e. judgments arising from the UK’s highest court since 2009), seventeen cases are found. Thus, whilst some might argue that the current Supreme Court wind blows in favour of the Revenue in avoidance cases, the idea that this is evidenced by language used in those cases is not sustainable on the evidence produced here.

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Yet another case concerning APNs

Accelerated Payment Notices (‘APNs‘) have been frequently visited as a topic on this blog (see here, here, here, and here). To recap, APNs require taxpayers to pay disputed tax upfront before proceeding with an appeal (provided that certain conditions are satisfied). APNs may be issued, pursuant to section 219 of Finance Act 2014 where the following conditions are satisfied:

  1. Either an enquiry or appeal are in progress;
  2. A tax advantage accrues from the particular arrangements; and
  3. A follower notice has been issued; the arrangements are DOTAS notifiable (FA 2004, s. 311); or a GAAR counteraction notice has been issued (FA 2013, Sch. 43, para 12).

Several cases where the claimants sought to challenge the issuance of the APNs have already failed before the Administrative Court (see here, here and here for instance), with the Court of Appeal due to begin hearing one of those cases (Rowe v HMRC) on the 18th of July.

In the most recent case Dickinson, an element which differentiated it from the other APN challenges was that HMRC had previously agreed (by virtue of a postponement agreement) not to seek the tax purported to be due until after the outcome of the appeal. This agreement took place before the APN legislation was introduced. The problem however for the claimants in Dickinson was that section 214 of Finance Act 2014 specifically envisages a situation where a postponement agreement is already in place and allows nevertheless HMRC to issue an APN. The court’s task accordingly was to resolve whether “it was an abuse of power for the Revenue to resile from its express promise not to enforce the payment of the tax it had assessed and which had become due pending the resolution of the disputes relating to the validity of its assessments?”

In a strange concession, the Revenue accepted that it gave “no consideration” to the original postponement agreement when deciding to exercise the power to issue APNs in this case –  a concession which the judge found “surprising”.

The claimants’ argument in the case was that HMRC had abused its power by issuing the APN, taking into account all the circumstances of the case (such as the fact that it was not a complicated DOTAS arrangement, initial positive reception by the Revenue about the schemes effectiveness, and long delays in the processes and investigations of the Revenue). The Revenue’s response effectively revolved around “macro-political” issues of policy, in other words that the claimants were ultimately seeking to challenge a political choice made by Parliament when it expressly provided the body with the power to issue APNs in such circumstances.

When assessing whether there has been an abuse of power, the court set out the factors that should be taken into account:

  • categories of case or situations are not hermetically sealed but are of assistance as a matter of analysis of the competing factors and so in reaching the result,
  • all the competing factors have to be assessed and weighed in the round to assess and identify the proportionate balance between the rival contentions,
  • the competing factors engage private and public interests,
  • the clarity of the promise and the circumstances in which it is made are relevant. They can be weighty, and require the public authority to provide compelling reasons to depart from it,
  • “macro-political” issues of policy are relevant. They can be weighty and present a steep climb for a person to whom the relevant promise has been made,
  • once the promise is proved the onus shifts to the authority to justify the departure from the legitimate expectation it creates (and see Paponette v A-G of Trinidad and Tobago [2010] UKPC 32 at paragraph 37,
  • if a claimant wishes to reinforce his position by relying on detriment he must prove it. The existence of detriment is not a necessary ingredient, but is often present when a claimant succeeds (and see R (Bancoult) v Foreign Secretary (No 2) [2009] 1 AC 453 at paragraphs 73 and 179),
  • where a public authority is considering whether to act inconsistently with a promise that has given rise to a legitimate expectation good administration and elementary fairness demands that it takes its promise into account (see Lord Mustill in Doody and Paponette at paragraph 46),
  • in assessing the scales of fairness and so whether the breach of a promise is so unfair as to amount to an abuse of power the court asks itself whether the breach of the promise is conspicuously unfair to the persons to whom it was made, and
  • that focus on the relevant individuals is an important aspect of the necessary balance between private expectations and policy objectives.

The court rejected in part HMRC’s argument. The fact that there is a macro political issue at stake does not trump all other considerations. Thus, that there might be express provision for the Revenue to issue APNs when the statutory conditions are satisfied does not mean that there are no further restrictions upon the use of the power (such as for instance public law or the need to align with the underlying purpose of the legislation, or indeed the fact itself that there had been a postponement agreement). However, the court accepted that Parliament had expressly and deliberately “changed the goal posts” with respect to where the disputed tax should lie pending an appeal. On that basis, ultimately, the court found that the Revenue was using the power to issue an APN for the purposes provided by Parliament and thus the power was not abused.

The case highlights that although Parliament has endowed HMRC with a power to issue APNs provided that certain conditions set out in legislation have been satisfied, there are also other implied considerations which must be taken into account when exercising the power. This too was found in the case of Vital Nut, wherein Charles J in the High Court found that a necessary implied condition was that the relevant HMRC officer regarded the underlying tax scheme as ineffective.

Something slightly confusing about the case is however that the court seemed to suggest that HMRC had failed to take into account a relevant consideration when exercising the discretionary power, namely the postponement agreement. This of course is a ground for judicial review and should amount to a success for the claimant (provided that, had the consideration been taken into account, the same decision would not have inevitably been arrived at). But it does not appear that this point was argued in the case. Nor does it seem that this point was argued in the recent Vrang case, concerning a taxpayer who suffered at the hands of the 2011 Swiss/UK Tax Cooperation Agreement. A possible argument there could have been made that a relevant consideration when deciding to exercise discretion to repay monies was whether there was any tax initially due. In the case itself it seems that the taxpayer in fact owed little if any tax. It is canonical nevertheless that a public authority must not fail to take into account relevant considerations (and should not take into account irrelevant considerations) when exercising a discretionary power.

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Legal philosophy and a “voluntary” obligation to pay taxes

Legal philosophers (and philosophers more generally) have a beautiful way of cutting through the noise and expressing in the simplest language that which takes us mere mortals thousands of words to explain. This clarity presents itself of course whenever these people stumble upon tax. Take for instance this one paragraph from Tony Honoré in which he explains that whilst a moral obligation to pay taxes might arise, it is law which provides its substance:

“The need for determinants of morality is particularly clear as regards obligations owed by members of a community to their community. Taxation affords a good example. According to most people’s moral outlook members of a community should make a contribution to the expense of meeting collective needs. A morality which denied this would hardly count as co-operative. In a monetary economy the contribution has to be mainly in money, and takes the form of paying taxes. So members of a community have in principle a moral obligation to pay taxes. But this obligation is incomplete or, if one prefers, inchoate, apart from law. It has no real content until the amount or rate of tax is fixed by an institutional decision, by law. What amounts to a reasonable contribution is not otherwise determinable, since what is required is a co-ordinated scheme which can be defended as fair not merely in the aggregate amount it raises but in its distribution. Taxpayers cannot settle it for themselves, as people can within limits settle for themselves, say, the proper way of showing respect for the feelings of others. Apart from law no one has a moral obligation to pay any particular amount of tax. An obligation to pay an indeterminate sum is not an effective obligation; it requires only a disposition, not an action. So, apart from law no one has an effective obligation to pay tax. If there were a society in which morality was taken as a sufficient guide to conduct apart from law it would therefore not be viable. It would grind to a halt and disintegrate for lack of resources. For this crucial moral and political obligation, vital to the life of a complex community, morality depends on law in the sense that to create an effective obligation it must have recourse to law” (Tony Honoré, ‘The Dependence of Morality On Law’ (1993) 13 OJLS 1)

Tony Honoré would be little surprised then that when provided with a voluntary opportunity to pay more taxes, people might choose not to do so. The obligation to pay tax has been discharged. There is no further moral duty owed. This seems to be precisely what has occurred in Norway. In an interesting experiment, the government introduced a scheme whereby taxpayers could voluntarily pay more taxes than due under the law. From June 2016 to July 2017 however, the scheme raised just $1,325 (which is perhaps less than the cost of administering the scheme).

However, the Honoré thesis relates only to the idea of an effective obligation – it does not remove the possibility that people might still feel inclined to contribute more to the common pot than is specified in the law. For this reason, different results may be witnessed elsewhere. The US for instance has had a voluntary scheme in place since 1961 and has raised over $100mil to date. Even accounting for population size, there is still a significant difference in outcomes between the US and Norway.

Raz might use the “normal justification thesis” to help us understand the divergent results. Raz wrote as follows:

“the normal way to establish that a person has authority over another person involves showing that the alleged subject is likely better to comply with reasons which apply to him (other than the alleged authoritative directives) if he accepts the directives of the alleged authority as authoritatively binding and tries to follow them, rather than by trying to follow the reasons which apply to him directly” (Raz, The Morality of Freedom (OUP 1986) 53)

Thus, a prerequisite for authority normally is the presence of independent reasons which apply to the subject. When it comes to tax, people will normally accept as authoritative law which prescribes the need to pay a specific amount as there already is reason to give a fair share of resources for the common good.

This conception of authority based on reasons might give us an insight into the divergent result in Norway and the US. The reason to pay tax – to give a fair share of resources for the common good – might be felt no longer to apply in Norway generally after satisfaction of statutory obligations, whilst in the US there might still remain some residual reason for some people. And indeed, that makes sense when the tax systems are compared (for instance with respect to income taxes: lower in the US than in Norway).

Perhaps these twin theories about obligations and authority should be applied more broadly to debates around tax law and policy. Do they help illuminate issues around tax avoidance and evasion? About the relationship between states and supranational bodies when it comes to tax reform? The setting of tax rates? Or perhaps legal philosophy itself is merited a place more generally in the debates (in a previous blog for instance, I wrote about Hart’s “core” and “penumbra” idea in the context of tax avoidance). The texts cut through the noise, and that is something which is pretty desirable right now…

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