Introduction
A recent round of Tribunal cases has illustrated the ever increasing focus by HMRC on the use of targeted anti-avoidance rules to question whether or not transactions have a main purpose of tax avoidance. In this article, we examine some of the themes emerging from these recent cases which may be of assistance to clients who are considering transactions or who are contemplating the prospect of a HMRC enquiry in this area.
In terms of the ‘big’ questions, the search for purpose is one which has occupied innumerable pages of philosophy since the advent of the written word. Given the often complex and multifaceted nature of the question, it is perhaps unsurprising that ‘purpose’ remains a difficult issue for both tax authorities and taxpayers to agree upon or indeed conclusively prove one way or the other. The fact that questions of purpose (at least in the context of the application of the UK’s many targeted anti-avoidance rules (TAARs)) are being increasingly litigated before the tax tribunal shows that satisfying HMRC of the commercial (i.e. non-tax) motives behind a transaction or structure is becoming increasingly difficult and is an area that is receiving a great deal of attention in enquiries and compliance checks.
There have been a number of recent judgments of the UK’s First-tier and Upper Tax Tribunals which address the application of a 'main purpose' test in the context of intra-group debt, the transactions in securities rules, as well as double tax treaties. Although each of these cases are decided on their own peculiar facts, a number of themes emerge that merit further consideration not just at the point of an enquiry by HMRC but also in situations where taxpayers are entering into transactions which may be caught by a TAAR, or are simply reviewing their position in relation to past transactions.
Contemporary evidence is key
An emerging trend from the recent purpose cases is for Tribunal’s to explicitly prefer the evidence found in contemporary documents as opposed to the recollections of decision makers a number of years after the event set out in witness statements. A particular area of interest for the Tribunal has been to look for evidence which shows the genesis of the idea to enter into a particular transaction or corporate structure with an especial focus on advice given by advisors in the initial stages of a project. Such an approach may be familiar to VAT specialists given the modern application of the Halifax test. A good example of this can be found in the decision of JTI Acquisition Company (2011) Limited v HMRC [2022] UKFTT 166 (JTI) where many of the factual findings relate to the advice provided by the group’s tax advisors prior to the particular transaction taking place, with the FtT describing the structuring scheme as 'bolted on' to the commercial acquisition. In this case the finding of a 'tax purpose' was supported by a series of presentations and plans by advisors, whereas the evidence in relation to the commerciale rationale for the structure was only found in the taxpayer’s witness statements.
A challenge often faced by clients is that the commercial rationale for doing a particular thing in a particular way is often obvious to decision makers at the time that the decision is made; conversely, navigating the UK tax code is often an area where decision makers may require specialist advice. This mismatch can sometimes lead to a position where much of the written material, especially when it is being reviewed a number of years after the event, might indicate by volume alone that tax was a primary consideration. What these recent cases reinforce is the need to document and evidence all of the relevant considerations at the point at which decisions are being made. The pertinent question for a Tribunal reviewing this material at a future point would be what do these documents indicate the purpose of this particular transaction to be? More colloquially, is a tax tail wagging the dog?
Subjective purpose and inevitable outcomes
One of positive trends revealed by the recent cases, particularly by the UT in Blackrock Holdco 5 LLC v HMRC [2022] UKUT 199 (Blackrock) as well as the FtT in Burlington Loan Management DAC v HMRC [2022] UKFTT 290 (Burlington) is the willingness of the Tribunal’s to look beyond tax outcomes which appear inevitable with the benefit of hindsight. The cases remind us that the application of main purpose type tests is a subjective exercise determined by reference to all of the relevant facts which means that purpose cannot be determined solely by reference to inexorable outcomes. Put another way, just because a certain tax outcome arises as the consequence of a transaction, this outcome is not automatically considered to be the taxpayer’s purpose for doing the transaction in a certain way. However, as the Tribunal in Burlington makes clear, the consequences of a transaction will form part of the overall factual matrix to consider; although, if the taxpayer can be shown to be ignorant of a particular consequence then that consequence cannot form part of the inquiry into their subjective intention.
Whose purpose?
The recent cases also make clear that the Tribunal is prepared to look beyond the directing minds of the particular entity, when that entity is part of a group, in order to ascertain the relevant purpose. Although the majority of TAARs seek to examine the purpose of the entity that secures the tax advantage (for example the borrower in cases of intra-group debt), clearly the intentions of those who make decisions at the group level will be taken into account. This question of 'group purpose' is especially important in cases (such as Blackrock) where an acquisition makes use of an SPV and that SPV is created as one of a number of steps in a transaction. In such cases, the Tribunals have been clear that the consideration of purpose is not limited to the point in time after these subsidiaries are created. In fact, the existence of the taxpayer entity is not always taken as a given fact when investigating purpose (see JTI).
The move towards a wider group purpose presents a number of practical considerations: first, where the motives of the directing minds of the individual subsidiary is being relied upon, evidence must establish that these individuals are given sufficient information to make a decision.
Second, it is important to show that the decision makers are given sufficient time to make the relevant decisions and that they have a permissible range of decisions that they can reach.In Blackrock the UT declined to focus on the decision making of the board of the SPV in circumstances where the relevant decision was to be made as the final step in the step plan and was presented as a fait accompli.
Severability of steps
With the exception of the recent decision of HMRC v Euromoney Institutional Investor plc [2022] UKUT 205 (Euromoney), the Tribunal in the majority of recent cases has been willing to separate the commercial rationale for the underlying transaction (such as the acquisition of JTI) from perceived ‘tax steps’ (such as the inclusion of LLC5 in the Blackrock tower structure). Interestingly, the decision in Euromoney seems to buck this trend, here the Upper Tribunal declined to sever elements of the transaction from each other, or from the commercial purpose which underpinned the transfer of shares, notwithstanding the presence of advice in relation to tax efficient structuring. Although the Tribunals are yet to attempt to reconcile these cases, there are a number of potential explanations: either, the Tribunal’s view is that the intra-group financing rules with their provisions for just and reasonable apportionment allow the Tribunals to sever elements of a transaction whereas the transaction in securities rules requires you to look at the relevant transaction as a composite whole; or, alternatively, that the facts of Euromoney were such that there was no logical way to divide the transactional steps where the commercial outcome still be achieved with a tax motive being ascribed to a different step (whereas this was not the case in JTI or Blackrock). It is our suspicion that this is a question that an appellate court might have to grapple with in the future.
In either event, it would appear sensible for taxpayers to operate on the basis that they may have to justify (with evidence) all of the steps in a transaction and not to simply rely on the commercial purpose underpinning the entire transaction in the event that the object of the transaction and the mechanism or structure used to achieve it can readily be separated. Again, the question to ask would be can it be shown at a future date why this transaction and its component parts were done in a particular way.
Conclusion
HMRC’s focus on the application of purpose type tests is unlikely to abate at any time in the near future. As such, clients are advised to pay careful attention to how they document the commercial rationale for transactions and keep such evidence under review in the event of challenge.
Our key takeaways from the run of recent cases are:
- To protect against future challenges, contemporaneous documents are key. It is important to record all aspects of the decision making process and not just the advice received from professional (tax) advisors.
- When considering 'purpose', the Tribunal is increasingly willing to consider the motivations of the wider group and not simply the immediate party to the transaction.
- When entering into transactions it would be prudent for clients to be able to justify the purpose behind all steps of a transaction, not simply the overall arrangement as a composite whole.