England and Wales High Court (Chancery Division) Decisions

IN THE HIGH COURT OF JUSTICE
CHANCERY DIVISION

		Royal Courts of Justice Strand, London, WC2A 2LL
		18/03/2004

Mr Justice Lightman:

INTRODUCTION

1. This is an appeal by the appellant Forthright (Wales) Limited ("Forthright") against the decision ("the Decision") of the Special Commissioners (J F Avery Jones) handed down on the 29^th September 2003 dismissing the appeal by Forthright against the refusal by the Inspector to give authority to Forthright to issue certificates to investors in Forthright entitling them to claim enterprise investment relief pursuant to section 306 of the Income and Corporation Taxes Act 1988 ("the 1988 Act").
2. The appeal raised two issues of law. The first is whether the refusal of an inspector to give authority to issue such certificates needs to be embodied in a closure notice in accordance with Schedule 1A of the Taxes Management Act 1970 ("the TMA"). The second is whether the use of money to pay dividends to investors can be a use for the purpose of a qualifying business activity within section 289 of the 1988 Act.

FACTS

3. There is an agreed statement of facts. Forthright was incorporated on the 23^rd February 1998 and acquired the trade and assets of Forthright Management Services Ltd ("FMS"). Forthright commenced trading in the United Kingdom on the 3^rd April 1998 supplying management services to Bartons, Chartered Accountants, (which is a qualifying trade for the purpose of the enterprise investment relief provisions) on the same terms as they were previously supplied by FMS. On the 3^rd April 1998 Forthright made a share issue to its existing shareholders as investors raising £299,998 which it used as to £81,350 to pay trade expenses, as to £161,046 to pay liabilities taken over from FMS and as to £57,602 to pay dividends. The sum of £57,602 was made up as to £17,596 of dividends to the investors and as to £40,006 of dividends to employees.
4. On the 10^th November 1998 Forthright submitted form EIS 1 to the Inland Revenue requesting authority to issue certificates to the investors under the provisions of section 306 of the 1988 Act. The statutory form included in paragraph 2 a statement that all the shares were issued to raise money for a qualifying business activity consisting of a trade or preparation for a trade and the signatory was required to identify the trade. Forthright identified the trade as that of "management services". On the 28^th March 2000 the Inspector issued a formal notice of decision refusing to give the required authority on the ground that the funds raised by the share issue were not used for the purpose of a qualifying business activity. On the 29^th March 2000 Forthright appealed to the Commissioners who on the 29^th September 2003 dismissed the appeal.

REQUIREMENT OF CLOSURE NOTICE

5. The first issue is essentially one of procedure. The statutory framework is as follows.
6. Part VII Chapter III of the 1988 Act includes sections 289 to 312. Section 306 of the 1988 Act (so far as material) provides as follows:

"(1) A claim for relief in respect of eligible shares issued by a company in any year of assessment shall be made?

...(b) not later than the fifth anniversary of the 31^st January next following that year of assessment.

(2) No claim for relief in respect of eligible shares in a company may be made unless the person making the claim has received from the company a certificate issued by the company in such form as the Board may direct and certifying that the conditions for the relief, so far as applying to the company and the trade, are satisfied in relation to those shares.

(3) Before issuing a certificate for the purposes of subsection (2) above a company shall furnish the inspector with a statement to the effect that it satisfies the conditions for relief…

(4) No such certificate shall be issued without the authority of the inspector…

(5) Any statement under subsection (3) above shall contain such information as the Board may reasonably require, shall be in such form as the Board may direct and shall contain a declaration that it is correct to the best of the company's knowledge and belief.

(10) For the purposes of the provisions of the [TMA] relating to appeals against decisions on claims, the refusal of the inspector to authorise the issue of a certificate under subsection (2) above shall be taken to be a decision refusing a claim made by the company."

Schedule 1A paragraph 5 of the TMA provides that an officer of the Board may enquire into a claim made by any person if before the end of the period specified he gives notice of his intention to do so to that person. Schedule 1A paragraphs 7(1) and 7(3A) provide that, where an officer of the Board has given such a notice and the claim is not for discharge or repayment of tax, if the officer is of the opinion that the claim should be disallowed in whole or in part, the officer shall within the period specified give notice under paragraph 7(3A) to the taxpayer of the extent to which he is disallowing the claim. Schedule 1A paragraph 9(1)(b) of the TMA provides that an appeal may be brought against:

"(b) a decision contained in a notice under paragraph 7(3A) above."

7. Forthright contends that the effect of these provisions is that, in order to be able to refuse to authorise the issue of a certificate under section 306(2), the Inspector must first have opened an inquiry under Schedule 1A paragraph 5 of the TMA and then served a closure notice under paragraph 7(3A); that (as is common ground) the Inspector has not followed this procedure; and that, as he has not done so within the requisite time limit, he cannot refuse Forthright's claim.
8. The Special Commissioners found that the purpose of section 306(10) of the 1988 Act was merely to provide that there should be a right of appeal against the refusal to give authority to issue a certificate and not to require the Inspector to adopt any particular procedure before he refused to do so. The Revenue submits that the Special Commissioner was correct so to find.
9. In my judgment the effect of section 306(10) of the 1988 Act is that the refusal of the Inspector to authorise the issue of a certificate "for the purposes of the provisions of the [TMA] relating to appeals" (and for that purpose only) is to be taken as a decision refusing a claim. It is implicit in this language that the refusal of authority is not in fact a decision to refuse a claim. If in fact it were a decision to refuse a claim, the provision would be redundant. What the provision does is to attach to the refusal of authority the same consequences in respect of the existence of a right of appeal as if it were (which it is not) a refusal of a claim and accordingly as if the Inspector had gone through the procedure set out in Schedule 1A and made a decision refusing a claim. It does not provide expressly that, in order for the Inspector to be in a position properly to refuse authority, he must first have opened an inquiry within the time limit provided by Schedule 1A paragraph 5 of the TMA and I can see no reason why such a provision should be implied. The consequence of my holding is that the right of appeal is triggered immediate upon the refusal. If it had been the intention of Parliament to require an Inspector to open an inquiry under Schedule 1A before there could be any refusal of authority, it would surely have said so. The way in which section 306 operates is that a company will submit to the Inspector a request contained in form EIS1 for authority to issue certificates under section 306. The Inspector will then consider that application and make a determination on it. Unless and until he has done so, the company cannot issue the certificate to persons seeking to claim relief under section 306. There is no reason why Parliament should have effectively required the Inspector in every case, not simply to consider the application, but also to formally open an inquiry under Schedule 1A of the TMA in relation to each application that is submitted to him in order that he may later be in a position to issue a closure notice.
10. It has been submitted that such an implication is necessary to enable the applicant to have the safeguard against delay by the Inspector in determining the application for authority provided by Schedule 1A paragraph 7(5). But the applicant already has such a safeguard. If the Inspector unlawfully delays his decision, it is open to the applicant for authority to apply for a mandatory order that the Inspector perform his statutory duty. There is no need for recourse to the closure procedure and no need to imply its application.
11. In a word neither the statutory language nor reason support Forthright's contention on the procedural issue and accordingly I reject it.

USE OF MONIES RAISED

12. The second issue raises a question of substantive law. The statutory framework is as follows.
13. Section 289 of the 1988 Act provides as follows:

"(1) For the purposes of this Chapter, an individual is eligible for relief subject to the provisions of this Chapter, if –

(a) eligible shares in a qualifying company [an unquoted company which exists wholly for the purpose of carrying on one or more qualifying trades] for which he has subscribed are issued to him and, under section 291, he qualifies for relief in respect of those shares,

(b) the shares are issued in order to raise money for the purpose of a qualifying business activity, …..

(c) the money raised by the issue is employed not later than the time mentioned in subsection (3) below wholly for the purpose of that activity.

(2) In this Chapter 'qualifying business activity', in relation to a company, means-

(a) the company or any subsidiary -

(i) carrying on a qualifying trade which, on the date the shares are issued, it is carrying on, or

(ii) preparing to carry on a qualifying trade which, on that date, it intends to carry on wholly or mainly in the United Kingdom and which it begins to carry on within two years after that date,

but only if, at any time in the relevant period when the qualifying trade is carried on, it is carried on wholly or mainly in the United Kingdom,".

14. Forthright contends that the effect of the above provisions is that the question to be asked is whether the money raised by the share issue is both raised and used for the purpose of a company which is carrying on a qualifying trade and that the purpose to which the money is put by the company is irrelevant as long as the money is used for the purposes of the relevant company. The money need not be used for the purposes of the trade itself.
15. The Special Commissioner's conclusions were as follows (see paragraphs 13-14 of the Decision):

"(1) the money raised by the share issue must be used wholly for the purpose of the qualifying business activity;

(2) the qualifying business activity means the carrying on (or preparing to carry on) the qualifying trade;

(3) the money must therefore be used wholly for the purpose of carrying on (or preparing to carry on) the qualifying trade;

(4) part of the money raised was used to pay dividends to investors - that part cannot be said to have been used for the purpose of the trade;

(5) it could not therefore be said that the whole of the money raised had been used for the purposes of the trade."

16. The Revenue submit that the Special Commissioner was correct in his conclusions, save that he did not go far enough in identifying dividend payments which represented the use of money other than for the purpose of the trade. The Revenue contend that dividends paid to employees equally represents the use of money other than for the purpose of the trade.
17. The critical issue between the parties is the proper construction of section 289(2) and the meaning there given to the words "qualifying business activity". According to Forthright the words "carrying on a qualifying trade" and "preparing to carry on a qualifying trade" appearing after the words "the company or any subsidiary" are merely adjectival describing the required character of the company or its subsidiary. The "qualifying business activity" means a company or any subsidiary which is carrying on a qualifying trade and any use of the monies invested by the company or subsidiary satisfies the statutory requirement. Such use may include a return on their investment to investors. According to the Revenue the words are (in the case of any company or subsidiary) the required qualifying activity in which the monies invested must be employed, and the employment in payment of dividends does not satisfy this requirement. Form EIS 1 is plainly drafted on the basis of this construction of the 1988 Act.
18. In my judgment the Special Commissioners and the Revenue are clearly correct for five reasons:

i) the broad statutory purpose of Part VII Chapter III of the 1988 Act is to provide for relief where individuals invest in companies and those companies use the money raised for the purpose of the qualifying business activity. It cannot reasonably have been intended to allow a company to use the money raised for any purpose, and in particular for the purpose of making dividend payments to the investors as shareholders;

ii) the statutory language "qualifying business activity" is a pointer to a requirement of user of monies raised for an activity or trade. It is scarcely apposite in this context as a description of a company;

iii) Forthright's construction renders redundant the words which immediately follow "carrying on a qualifying trade" and "preparing to carry on a qualifying trade, namely "which, on the date the shares are issued, it is carrying on" and "which, on that date, it intends to carry on" respectively. These words are however entirely meaningful on the Revenue's construction;

iv) section 289(3) provides that the condition in section 289(1)(c) that the money raised is employed wholly for the purposes of the qualifying business activity shall not fail to be satisfied because an amount which is not significant is employed for another purpose. That provision is again a pointer to the requirement for raising and expending for the purpose of carrying on the qualifying trade and not for the general purposes of the company; and

v) the statutory predecessor of section 289 of the 1988 Act relating to business expansion schemes required the monies to be raised for the qualifying trade or activity and not for the purposes of the company carrying on that trade or activity, and there is no apparent reason why this requirement can have been intended to be dispensed with or watered down in the current legislation.

19. The payment of a significant part of the monies raised on payment of dividends to investors plainly was not and cannot have been employment of the monies raised for the purposes of Forthright's qualifying trade.
20. A dividend payment should represent a payment out of profits (see section 263 Companies Act 1985). Such a payment should not be regarded as having been made for the purposes of the trade. I agree with Mr Carr, counsel for the Revenue, that the speech of Lord Davey in Strong & Company of Romsey v. Woodifield [1906] AC 448 at page 453 is apposite. He was considering whether a payment of damages made to a third party injured by the fall of a chimney was a proper deduction in arriving at the profits of the appellant's trade for the purpose of income tax. He said:

"I think that the payment of these damages was not money expended 'for the purposes of the trade'. These words are used in other rules and appear to me to mean for the purpose of enabling a person to carry on and earn profits in the trade etc. I think the disbursements permitted are such as are made for that purpose. It is not enough that the disbursement is made in the course of, or arises out of, or is connected with, the trade, or is made out of the profits of the trade. It must be made for the purpose of earning the profits."

By parity of reason a payment of dividends to investors is not made "for the purpose" of the trade or for the purpose of earning profit.

21. I have some doubt whether payment by way of dividends to employees are in any different position in this regard from dividends paid to investors. If arrangements are made to pay employees in place of salary by way of dividends which do not attract National Insurance, it should not too readily be assumed that payment of those dividends out of monies raised on a share issue such as the present will be in compliance with section 289 of the 1988 Act. That question does not however require to be decided on this appeal.

CONCLUSION

22. Accordingly for the reasons given I dismiss this appeal.