There are various clearance mechanisms whereby HMRC will provide assurance that they will not impose penal legislation to deny a tax payer relief. Share for share exchange treatment can be blocked from applying in cases where a transaction is not for bona fide commercial reasons and/or it is part of a tax avoidance scheme. There is therefore a clearance mechanism available whereby HMRC can confirm that they will not go down this route. Generally, although clearances do not have to be sought, they are attractive because they provide certainty against nasty surprises after the transaction. A recent tax case has highlighted the importance of laying all the cards on the table when requesting a clearance from HMRC.
The case of I Wroe and others
This case involved ‘transactions in securities legislation’ (TISL) which in certain circumstances allows HMRC to tax capital transactions as dividends. It is used when shareholders get capital treatment for transactions without materially reducing their holding of shares. HMRC provide a clearance mechanism whereby shareholders can gain assurance that TISL will not be applied. The key facts of the case were as follows:
1. There was a company (T) held 30% by each of three individuals and 10% by a fourth individual.
2. In August 2013 a new holding company acquired all the share capital of T by issuing shares and preference shares to the four shareholders.
3. The 30% shareholders each received 25% of shares in the new holding company and £600,000 of preference shares each, while the fourth shareholder simply received 25% of shares in the new holding company.
4. Therefore the 30% shareholders had each reduced their shareholdings to 25% (and the 10% shareholder had increased his shareholding to 25%) and had each received £600,000 of preference shares for ‘their trouble’.
5. The preference shares were later purchased by the holding company at par and the three shareholders reported this disposal as a capital gain.
6. TISL clearance had been received from HMRC in respect of this transaction but no mention had been made in the clearance application about the issue of the preference shares.
7. HMRC argued that the clearance was void due to absence of relevant information and therefore was able to successfully invoke TISL and the tax payers were subject to much higher income tax rates on the transaction.
The accountant’s advice letter was an important piece of evidence to suggest that this transaction had been undertaken for avoidance purposes. This advised that HMRC would be unlikely to give clearance if cash was used in this transaction and then also advised that the purchase of the preference shares should not be mentioned so as not to ‘flag’ the matter to HMRC. The clearance letter had effectively cherry-picked the facts to give the best chance of clearance being received.
Forbes Dawson view
We always advise laying out all the key facts in any clearance request. Although this may increase the chance of a clearance being refused, it also paves the way for frank discussions with HMRC about what they find offensive and this can sometimes be resolved by adjusting the structure. Failure to present all the facts in a clearance application is similar to making incorrect disclosures in an insurance application. Although the insurance certificate may be issued, it is likely to prove invalid in the event of a big claim. Furthermore, it is unlikely in the above case that the TISL clearance actually covered the potential purchase of the preference shares in any event. This was a separate transaction in connection with which a separate TISL clearance would have needed to be sought………………
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