The recent case of Wilkinson v HMRC involves a commonplace scenario in corporate transactions, where shares in a target entity are often sold in exchange for some combination of cash, shares and/or loan notes issued by the buyer or a member of the buyer’s group. The issue of non-cash consideration can serve a commercial purpose: for example, by keeping a seller invested in the relevant company, thus incentivising their personal interest in the company’s success. There may also be tax considerations, including the sellers availing of “rollover relief”, and these were the focus of the First-tier Tribunal’s (FTT’s) decision in Wilkinson,where the FTT concluded that avoidance of liability to capital gains tax (CGT) was not a main purpose of the transaction. The case highlights the fact-specific nature of applying anti-avoidance provisions, demonstrating in particular that the way in which an “arrangement” is defined may have a significant impact on the ascertainment of its purpose.
The five appellants were shareholders in P Ltd, a logistics and vehicle processing services business. Three of the appellants (H, G and O) were the daughters of the other two appellants (Mr and Mrs Wilkinson), and acquired their shares in P Ltd from Mr and Mrs Wilkinson only several days prior to the sale of P Ltd to a third party buyer (TF1 Ltd). The daughters did not have any involvement in the negotiation of the sale, whereas Mr and Mrs Wilkinson acted as a unit in relation to their shareholdings, with Mr Wilkinson being the principal decision-maker. At the time of the sale in July 2016, there were also three other shareholders who collectively held approximately 42% of P Ltd’s ordinary shares.
On completion of the sale, H, G and O each received £10 million worth of loan notes, redeemable after 12 months, and 500 ordinary shares of 10p each in consideration for their shareholdings. Each daughter was appointed as a non-executive director of a wholly owned P Ltd subsidiary, with the term of such appointments stated to run until the later of the first anniversary of the sale and the date of repayment of the loan notes. Any tax practitioner readers may discern that this would go some way towards enabling the daughters to satisfy the shareholding and employment requirements for Entrepreneurs’ Relief (ER, now Business Assets Disposal Relief) in a year’s time, which would in turn enable them to benefit from a reduced rate (10% rather than 20%) of CGT on the eventual disposal of their loan notes and shares. The relief would not otherwise have been available to them at the time of the sale, given the duration of their shareholding (only a few days) and their lack of any employment or office with the P Ltd group.
A year and a day after completion of the sale, each of H, G and O redeemed their loan notes and sold their shares; the following day, they resigned from their directorships. The daughters then claimed ER in respect of the disposals in their self-assessment tax returns for the 2017-18 tax year. HMRC rejected their claims on the basis that an anti-avoidance provision in the relevant legislation rendered ER unavailable. For completeness, HMRC also disputed the filing position of Mr and Mrs Wilkinson, which explains their role as appellants, but in their case the HMRC assessments impacted only the timing, rather than the amount, of the relevant tax liability; their position is therefore not discussed any further in this commentary.
The disputed law pertains to company reorganisations, and specifically exchanges of securities, rather than ER. The default position is that a sale of securities (such as the shares held by H, G and O) constitutes a disposal that may give rise to an immediate chargeable gain. However, an exception to this rule can be found in section 135 of the Taxation of Chargeable Gains Act 1992 (TCGA 1992), where shares or loan notes in one company (the buyer) are issued in consideration for shares or loan notes in another company (the target). Assuming the applicable criteria are satisfied, the sale of the target securities is not treated as a disposal by the seller, and the newly issued securities are instead treated as having been obtained by the seller at the same time and for the same cost as the target securities, such that any gain arising to the seller is deferred until the disposal of the replacement securities. Thus, for H, G and O, the deferral of the disposal permitted a longer window of time in which the qualifying criteria for ER could be satisfied. Unfortunately for H, G and O, however, the analysis does not stop here. Section 137 of TCGA 1992 goes on to provide that this exception does NOT apply unless the relevant exchange of securities is effected for bona fide commercial reasons AND does not form part of a scheme or arrangements of which the main purpose, or one of the main purposes, is avoidance of liability to CGT.
HMRC rejected the ER claims based on section 137, asserting that section 135 treatment did not apply to the exchange of H, G and O’s P Ltd shares for TF1 Ltd loan notes and shares because the exchange formed part of a scheme or arrangements of which a main purpose was avoidance of a CGT liability. As such, the sale of H, G and O’s shares had given rise to an immediate disposal at which time the ER requirements were not yet satisfied. In HMRC’s view, the “arrangements” in question consisted of particular aspects of the overall transaction, including (1) the pre-sale gift of shares from Mr and Mrs Wilkinson to H, G and O, (2) the exchange of those shares for TF1 Ltd loan notes and shares pursuant to the subsequent sale, (3) the appointment of H, G and O as directors of the P Ltd subsidiary and (4) the subsequent redemption of the loan notes, sale of the shares and resignation from the directorships. HMRC further submitted that it was for the appellants to prove that there were no such arrangements, and that it would be sufficient (for triggering section 137) for the tribunal to find that any of the appellants had an objectionable main purpose for the arrangements. Finally, HMRC contended that H, G and O’s “insertion” in the arrangements was unnecessary for any commercial purpose, and their “non-involvement in the business” prior to the sale made it obvious that their participation in the sale had a main purpose of CGT avoidance.
The appellants argued that section 137 did not apply because the avoidance of CGT was not a purpose, let alone the main purpose, of the relevant arrangements. Contrary to HMRC’s view, the appellants submitted that the relevant “arrangements” comprised the broader transfer of the entire share capital of P Ltd to TF1 Ltd (i.e., the third party sale), of which the main purpose was to realise the value of P Ltd. This was demonstrated by, amongst other things, the relatively small value of the tax saving (approximately £3 million) as compared to the overall deal value (approximately £130 million) and the apparent willingness of Mr Wilkinson (evidenced by contemporaneous emails) to proceed with the deal even if the ER planning had not succeeded.
The FTT’s decision
The FTT began by framing the arrangements, stating that “the obvious scheme or arrangement of which the exchange formed part was that aimed at selling P Ltd to TF1 Ltd for a total consideration whose value was £130 million.” The FTT dismissed HMRC’s submission that the exchange of securities formed part of a separate scheme or arrangements aimed at securing the Wilkinson’s CGT planning, noting that this was not a “self-standing” scheme that could be separated from the deal as a whole. Even if the CGT planning could be viewed in its own right, the exchange of securities would have been a larger arrangement than the Wilkinsons’ CGT planning, involving shareholders that had no interest in that aspect of the transaction. It also seemed wrong to the FTT “to posit subsidiary or part-related schemes or arrangements . . . where, as here, there is one scheme or arrangements of which [the] exchange, quite obviously, formed part.” Regarding HMRC’s contention that it was for the appellants to prove that there is no scheme or arrangements, the FTT remarked that this was of no particular significance in the present case where there were clearly arrangements in place; more importantly, it was the role of the FTT to make findings of fact regarding the nature and extent of those arrangements.
Having established the scope of the arrangements, the FTT went on to consider their purpose and concluded that the main purpose of the deal was the sale of the P Ltd shares to TF1 Ltd for £130 million. Although the Wilkinsons’ CGT planning was a purpose of the deal – that purpose being avoidance of CGT liability – and affected the deal in a number of ways, the FTT highlighted the facts that: the large minority shareholding bloc had no stake in the CGT planning; the value of the CGT planning represented only about 4% of the Wilkinsons’ sale proceeds; the CGT planning had neither been an agreed term at “heads of terms” stage nor had any protection or price adjustment been included in the sale and purchase agreement to cater for a possible failure of the CGT planning; and Mr Wilkinson had apparently been willing to proceed with the deal even if the CGT planning could not be achieved.
Having found that CGT avoidance was not a main purpose of the deal (being the relevant arrangement), the appellants’ appeals were allowed. It is not yet clear whether HMRC will seek permission to appeal.
This decision is welcome for taxpayers in confirming that the relevant scheme or arrangements for the rollover relief avoidance test should be viewed holistically in light of the broader commercial arrangements, rather than limited to any narrower tax planning steps forming part of those wider arrangements. This is an issue which arises not only in the context of rollover relief, but also for other anti-avoidance provisions which use similar purpose tests; above all, the case underscores that the way in which the relevant scheme or arrangements are defined can have a significant impact on the identification of their main purpose and whether they fall foul of the anti-avoidance rules.