England and Wales High Court (Chancery Division) Decisions

IN THE HIGH COURT OF JUSTICE
CHANCERY DIVISION
ON APPEAL FROM THE VAT & DUTIES TRIBUNAL

		Royal Courts of Justice Strand, London, WC2A 2LL
		6th February 2004

Mr Justice Evans-Lombe:

1. This is an appeal from the decision of the Value Added Tax and Duties Tribunal ("the Tribunal") delivered on the 8^th September 2003 in which the Tribunal dismissed the appeal of Fengate Developments (a partnership) ("Fengate") from an assessment to VAT in the sum of £37,234 plus interest made by the Commissioners of Customs and Excise ("the Commissioners") in June 2001. The assessment was made on the basis that Fengate had made a taxable transfer of an interest in land in respect of which exemption from VAT had been waived, at a VAT-inclusive price of £250,000. The background facts from which this appeal arises are comprehensively set out by the Tribunal at paragraphs 16-34 of their reasons. In the following paragraphs I set out such of those facts as are material to my decision.
2. Fengate is a partnership carrying on the business of property development and registered for VAT under the Value Added Tax Act 1994 ("VATA"). The partners of Fengate are Mr Anthony Darlow ("Mr Darlow") and his second wife Mrs Darlow ("Mrs Darlow"). Fengate had been set up to purchase certain land at Fengate near Peterborough ("the Fengate land"). Mr Darlow was also a partner with his first wife Mrs Brawn in a partnership trading under the name Darlows as potato merchants ("Darlows"). A cold store had been constructed on the Fengate land which was leased to Darlows. The Fengate land was purchased by Fengate in 1996 and on the 25^th October 1996 Fengate gave written notice to the Commissioners pursuant to schedule 10 para 2(1) of VATA to waive exemption from VAT. That notice was signed by Mr Darlow in his capacity as a partner of Fengate.
3. Situated at the southeast corner of the Fengate Land was an area of some 2.5 acres which had been zoned by planners for industrial development. This land was referred to by the Tribunal as the "Red Land" and I will also do so.
4. By a transfer in HM Land Registry form TR1 dated the 8^th July 1999 showing Mr Darlow and Mrs Darlow as transferors and Mr Darlow and Mrs Brawn as transferees the Red Land was transferred for a stated price of £125,00 to the transferees "to hold the property on trust for themselves as tenants in common in equal shares". See paragraph 11 of the transfer. At paragraph 12 of the transfer the following text appears:-

"The interest transferred by this Transfer and the consideration referred to in box 9 [£125,000] is exclusively in respect of the interest in the property of Lena Mary Darlow no transfer or dealing having taken place as a result of this Transfer in respect of the interest of the said Anthony Harry Darlow."

5. It was accepted before the tribunal and before me that the proper value of the Red Land at the time of the transfer was £250,000. It appears that at the time of the transfer £125,000 was paid by Mrs Brawn to Mrs Darlow and by her on to Fengate and a similar sum was paid by Mr Darlow to Fengate, the source of those funds being Darlows. These two payments served substantially to reduce an overdraft of Fengate built up as a result of drawings by Mr Darlow and Mrs Darlow to fund personal expenditure. Fengate's accounts for the year ended 31^st March 2000 record a disposal of "freehold property" to a value of £250,000. Fengate's VAT return signed by Mr Darlow for the period ending 30^th September 1999 shows the sale of the Red Land for £250,000 as part of its total sales figure for the period.
6. In the result the commissioners issued to Fengate a notice of assessment of unpaid VAT which, together with interest, totalled £42,429.19. It is from that assessment that Fengate appealed to the Tribunal. The Tribunal dismissed the appeal from which dismissal Fengate appeals to this court.
7. Section 4 of VATA provides:-

"4(1) VAT shall be charged on any supply of goods or services made in the United Kingdom, where it is a taxable supply made by a taxable person in the course or furtherance of any business carried on by him.

(2) A taxable supply is a supply of goods or services made in the United Kingdom other than an exempt supply."

8. Pursuant to group 1, item 1 of schedule 9 of VATA the grant of an interest in land is an exempt supply but that exemption can be waived in respect of particular land under paragraph 2(1) of schedule 10. It appears that property developers frequently waive such exemption so as to be able to set off against their consequent liability to account for output tax to the Commissioners, input tax incurred by them in the development process. Fengate was registered for VAT as a partnership under section 45 of VATA and, as I have described, prior to the transfer, had waived exemption from VAT in respect of the Fengate land.
9. It is the appellant Fengate's contention that the transfer of the Red Land pursuant to the transfer dated the 8^th July 1999 does not constitute a "supply" by Fengate of that land to the transferees. The intention of the parties to the transfer was that it should give effect to a sale by Mrs Darlow to Mrs Brawn of her interest in the Red Land for £125,000. A form TR1 transfer was used showing the transferors as the partners of Fengate on advice. The intention of the transaction is evidenced by the text of paragraph 12 of the transfer quoted above. The payment by Mr Darlow of £125,000 to Fengate was not a payment of any purchase price for the balance of the value of the Red Land. Both that payment and the payment by Mrs Brawn, at the instance of Mrs Darlow, to Fengate of the purchase price of her interest in the Red Land represented capital contributions by them as partners to reduce Fengate's overdraft.
10. There being no separate partnership agreement in respect of the Fengate partnership the relationship of the partners in it is governed by the provisions of the Partnership Act 1890.
11. In Hadlee v Commissioner of Inland Revenue 1993 AC page 524 the Privy Council were dealing with a case where an accountant had assigned part of his interest in a partnership to a trustee for his wife and child in an attempt to give them income which would be less severely taxed than if it had remained his. In the course of the judgment, delivered by Lord Jauncey, reviewing a decision of the High Court of Australia, Lord Jauncey said this at page 532 of the report:-

"This case, it was argued, demonstrated that the right of a partner in a professional partnership to share in the profits of the partnership depended upon his proprietary interest therein and not upon his personal exertions. It followed that the assignment of a share in a partnership carried with it a proprietary right which yielded future income:…

In evaluating this argument it is necessary to examine the taxpayer's rights under the partnership agreements and what he assigned by the deed of assignment. First of all as a matter of general law, to quote the words of Richardson J, he "does not have title to specific partnership property but has a beneficial interest in the entirety of the partnership assets and in each and every particular asset of the partnership: Lindley on Partnership 15^th ed (1984) page 516"

He can enforce this interest against his co-partners to the extent of seeing that the partnership assets are used for the benefit of the partnership but he cannot assign it to a non-partner. This beneficial interest, expressed in terms of its realisability, is in the nature of a future interest taking effect in possession on (and not before) the determination of the partnership: Lindley & Banks on Partnership 16^th edition (1990) page 457. He has rights under the partnership agreements: (1) to share in the annual profits in proportion to his share in the partnership, (2) to have his share purchased by the remaining partners on his resignation or retirement, and (3) to share in the surplus assets of the partnership on a dissolution.

Section 34 of the Partnership Act 1908 reprinted as on 1 August 1982 which corresponds with section 31 of the United Kingdom Partnership Act 1890 (53 & 54 Vict. C.39) provides:

"Rights of assignee of share of partnership.

(1) An assignment by any partner of his share in the partnership, either absolute or by way of mortgage, does not, as against the other partners, entitle the assignee, during the continuance of the partnership, to interfere in the management or administration of the partnership business or affairs, or to require any account of the partnership transactions, or to inspect the partnership books, but entitles the assignee only to receive the share of the profits to which the assigning partner would otherwise be entitled, and the assignee must accept the account of profits agreed to by the partners.

(2) In case of a dissolution of the partnership, whether as respects all the partners or as respects the assigning partner, the assignee is entitled to receive the share of the partnership assets to which the assigning partner is entitled as between himself and the other partners, and, for the purpose of ascertaining that share, to an account as from the date of the dissolution."

The "property" carried by the deed of assignment was defined as including two components, namely the appropriate part of the right to share in profits and the right on dissolution to share in assets all in terms very similar to those used in section 34. The taxpayer assigned no revenue producing interest of a capital nature nor was he in a position to do so since he had no proprietary interest in any such asset. Thus the income which accrued to the assignee flowed not from a capital asset which was capable of assignment but from the performance by the taxpayer of such obligations as he was required to perform under the partnership contract."

12. The partner's appeal was accordingly dismissed.
13. In Popat v Shonchhatra 1997 1 WLR page 1367 the Court of Appeal was dealing with an issue as to the rights of partners consequent on a dissolution. In the course of his judgment at page 1372 Lord Justice Nourse said this:-

"On 29 September 1989, when the leasehold premises, fixtures and fittings and the goodwill of the business were acquired, they became "partnership property" to be held and applied exclusively for the purposes of the partnership pursuant to section 20(1) of the Act of 1890. Although it is both customary and convenient to speak of a partner's "share" of the partnership assets, that is not a truly accurate description of his interest in them, at all events so long as the partnership is a going concern. While each partner has a proprietary interest in each and every asset, he has no entitlement to any specific asset and, in consequence, no right, without the consent of the other partners or partner, to require the whole or even a share of any particular asset to be vested in him. On dissolution the position is in substance not much different, the partnership property falling to be applied, subject to sections 40 to 43 (if and so far as applicable), in accordance with sections 39 and 44 of the Act of 1890. As part of that process, each partner in a solvent partnership is presumptively entitled to payment of what is due from the firm to him in respect of capital before division of the ultimate residue in the shares in which profits are divisible: see section 44(b) 3 and 4. It is only at that stage that a partner can accurately be said to be entitled to a share of anything, which, in the absence of agreement to the contrary, will be a share of cash."

14. In the 18^th edition of Lindley & Banks on Partnership at page 520 in a discussion of a partner's beneficial interest in partnership assets the following passage appears:-

"Nevertheless, it is submitted that, irrespective of the terms of the agreement, each partner's share will display two characteristics which may be regarded as constants. First, each partner's beneficial interest, expressed in terms of its realisability, is in the nature of a future interest taking effect in possession on (and not before) the determination of the partnership, whether brought about by his departure or by a general dissolution. This limitation on his entitlement may be explained by reference to the fact that, as long as the partnership continues, each partner is entitled to require the partnership assets to be applied for partnership purposes and no partner is entitled to use or enjoy his share of those assets to the exclusion of his co-partners. Secondly, when the partnership is determined and the partner's beneficial interest in the partnership assets notionally falls into possession, it will take effect subject to the right of the other partners to have those assets applied towards payment of the firm's debts and liabilities and any surplus divided between the partners in the manner prescribed by the Partnership Act 1890. This will normally entail a sale of such property. Thus, in the absence of any agreement to the contrary, the share of a partner will represent (and should always be stated in terms of) his proportionate share in the net proceeds of sale of the partnership assets, after all the firms debts and liabilities have been paid or provided for."

15. Applying those principles to the facts of this case Mrs Darlow could have sold an interest in part of her Fengate partnership share to Mrs Brawn by an assignment of such an interest. However apart from a proportionate part of the partnership income accruing from time to time, Mrs Brawn could only have realised that interest on a dissolution of the Fengate partnership. Mrs Darlow did not do this. Instead Mr and Mrs Darlow as the sole partners in Fengate entered into a transfer in favour of Mr Darlow and Mrs Brawn of the Red Land previously an asset of the Fengate partnership. That transfer was effective to remove the Red Land from the assets of the Fengate partnership and to transfer it to Mr Darlow and Mrs Brawn to be held by them for themselves beneficially "as tenants in common in equal shares". See paragraph 11 of the transfer. It is not clear on the material available whether the Red Land, as a result of the transfer, was to become a partnership asset of the Darlows partnership. The fact that it was transferred to the partners in that partnership as tenants in common indicates that it probably was so intended. It matters not for the purposes of this appeal.
16. The provisions of clause 11 and clause 12 are mutually inconsistent. The effect of the transfer was not confined to a transfer only of Mrs Darlow's interest in the Red Land. Before that transfer she had no separate interest in that land to transfer. Prior to the transfer it was held by her and her husband upon trust for themselves as joint tenants in equal shares but as part of the Fengate partnership assets and so subject to the provisions of section 20(1) of the Partnership Act 1890 to be applied exclusively for the purposes of the partnership. The provisions of paragraph 12 of the transfer can only be reconciled with the provisions of the remainder of the transfer and made effective by construing them as a transfer of Mrs Darlow's beneficial interest in the Red Land after it had ceased, as a result of the transfer, to be an asset of the Fengate partnership, to Mrs Brawn against payment of £125,000. By reason of paragraph 11 of the transfer it was also effective to transfer Mr Darlow's interest in the Red Land so that it was held beneficially by himself and Mrs Brawn thereafter as tenants in common.
17. The consequence of the above analysis of the effect of the transfer, so far as concerns this appeal, is that the transfer was effective to transfer the whole interest in the Red Land out of the Fengate partnership initially for the benefit of Mr and Mrs Darlow and after payment of the £125,000, as to a half interest, for the benefit of Mrs Brawn. The transfer enabled the partners of Fengate to raise £250,000 to reduce Fengate's overdraft and thus was in furtherance of the business of Fengate. It follows, in my judgment, that the transfer constituted a supply of land, not exempt from the imposition of VAT, by Fengate to Mr and Mrs Darlow for disposition by them consistently with the provisions of clause 12 of the transfer and so as to half to Mrs Brawn.
18. It is not in issue that a partnership can make a supply to one of its partners and/or to a third party such as a different partnership. See Lindley & Banks on Partnership 18^th edition at paragraph 37-18 and 37-19 and VATA schedule 4 paragraph 5(4).
19. It follows that I have arrived at the conclusion that this appeal must be dismissed by a rather different route from that chosen by the Tribunal but which is consistent with the submissions of Mr Key for the Commissioners both before the Tribunal and before me.