[2010] UKFTT 629 (TC)

TC00868

Appeal number: TC/2010/04761

Small Companies Relief -- sections 13 and 13A Income and Corporation Taxes Act 1988 -- whether a close investment holding company -- property disposed of by company -- proceeds placed on bank deposit -- whether intention to reinvest in property -- appeal allowed

FIRST-TIER TRIBUNAL

TAX

                          HERTS PHOTOGRAPHIC BUREAU LTD         Appellant

                                                                      - and -

                                 THE COMMISSIONERS FOR HER MAJESTY’S

                                                   REVENUE AND CUSTOMS               Respondents

                        TRIBUNAL: GUY BRANNAN (TRIBUNAL JUDGE)                                                                            IAN ABRAMS (TRIBUNAL MEMBER)               

Sitting in public at Holborn Bars, London EC1 on 17 November 2010

Mr F Giffen for the Appellant

Mr B Lamb for the Respondents

© CROWN COPYRIGHT 2010

DECISION

1.       This is an appeal against an amendment by closure notice to the Appellant's corporation tax return in respect of the accounting period ended 31 May 2008. Briefly, the appeal concerns the question whether the Appellant was a close investment-holding company; if so, the Appellant would be disqualified from benefiting from marginal rate relief available to "small" companies.

Small companies relief

2.       Section 13 Income Corporation Taxes Act 1988 ("ICTA") contains provisions which charge companies that have "small" profits to a lower rate of corporation tax. If the profits fall between the lower and upper relevant maximum amounts (£300,000 and £1,500,000) the profits are charged at the prevailing full rate of corporation tax, but the resulting tax is reduced by a sum known as marginal relief. It is the availability of marginal relief that is in dispute.

3.       Section 13(3)(b) ICTA denies small companies relief (including marginal relief) if the company is a "close investment-holding company" ("CIHC") within the meaning of section 13A ICTA. The dispute between the parties is whether the Appellant is a CIHC.

4.       Section 13A ICTA contains the definition of a CIHC. It provides:

"Close investment-holding companies

(1)     A close company is for the purposes of section 13(1)  a “close investment-holding company” unless it complies with subsection (2) below.

(2)     A company (“the relevant company”) complies with this subsection in any accounting period if throughout that period it exists wholly or mainly for any one or more of the following purposes—

(a)     the purpose of carrying on a trade or trades on a commercial basis,

(b)     the purpose of making investments in land or estates or interests in land in cases where the land is, or is intended to be, let to persons other than—

(i)     any person connected with the relevant company, or

(ii)    any person who is the spouse or civil partner of an individual connected with the relevant company, or is a relative, or the spouse or civil partner of a relative, of such an individual or of the spouse or civil partner of such an individual,

(c)    the purpose of holding shares in and securities of, or making loans to, one or more companies each of which is a qualifying company or a company which—

(i)     is under the control of the relevant company or of a company which has control of the relevant company, and

(ii)     itself exists wholly or mainly for the purpose of holding shares in or securities of, or making loans to, one or more qualifying companies,

(d)    the purpose of co-ordinating the administration of two or more qualifying companies,

(e)     the purpose of a trade or trades carried on on a commercial basis by one or more qualifying companies or by a company which has control of the relevant company, and

(f)     the purpose of the making, by one or more qualifying companies or by a company which has control of the relevant company, of investments as mentioned in paragraph (b) above.

(3)     For the purposes of subsection (2) above, a company is a “qualifying company”, in relation to the relevant company, if it—

(a)     is under the control of the relevant company or of a company which has control of the relevant company, and

(b)     exists wholly or mainly for either or both of the purposes mentioned in subsection (2)(a) or (b) above."

5.       An important point to note is that for the company in question to fall outside the definition of a CIHC it must satisfy one of the conditions set out in section 13 (2)(a) to (f) "throughout" the accounting period in question. In the instant case the question in dispute is whether the Appellant satisfied the requirements of section 13 (2)(b) throughout the accounting period ended 31 May 2008.

The facts

6.       Documentary evidence was contained in a bundle produced by HMRC and the Appellant's sole director, Mr Giffen, gave unsworn evidence on behalf of the Appellant.

7.       It is common ground that the Appellant was a close company for the accounting period ended the 31 March 2008.

8.       In 1962 the Appellant acquired a property at 29 Holywell Hill, St Albans ("the Property") for the purposes of its photography trade. At that time, Mr Giffen's father and grandfather ran the business.

9.       The Appellant ceased to carry on its photography trade in 1996. From 1996, for a period of seven years, the Appellant leased the Property to a friend of Mr Giffen. Then, in 2003, the Appellant leased the Property to a new tenant on a 10 year lease. Mr Giffen considered the new tenant to be somewhat difficult. In 2006 there was a dispute about a major sewer leak. The agents for both parties met on 20 September 2006. As a result of that meeting, Mr Giffen decided that the Appellant should sell the Property to the new tenant. Mr Giffen said that he was influenced by his agent who suggested that the Appellant could sell the Property and buy another one.

10.    Eventually, after various difficulties, the sale was completed on 12 June 2007.

11.    According to Mr Giffen, he took a few months off after the sale of the Property as he was recuperating from heart surgery. He said that he intended, after this break, to look to new properties which the Appellant could buy with the proceeds of sale.

12.    Mr Giffen said that he was unable to implement his plan. The global financial crisis intervened. For example, Northern Rock was rescued by HM Government in September 2007. It was a bad time to invest in property, said Mr Giffen, since he risked losing part of his capital if he invested in a falling market. He said thatonce he had decided to wait until a more propitious time to invest in property, he had discarded the particulars of the properties that had been sent to him. Mr Giffen said that he had not registered with any particular estate agents. He had been looking to invest in residential property as a rental investment.

13.    Mr Giffen said that he still intended that the Appellant should reinvest the sale proceeds of the Property in other properties. Since the date of the sale of the Property, however, the property market had been unpredictable and, according to Mr Giffen, the Appellant was waiting until the markets stabilised before re-investing the cash. In the meantime, the sale proceeds had been put on deposit with a bank and were earning interest.

14.    In cross-examination, Mr Giffen acknowledged that the rent from the Property, prior to its sale, had come directly to him rather than the Appellant and he had returned it on his tax return. HMRC were aware of this irregularity (strictly, the Appellant should have received the rent of the tax purposes) but did not pursue the point.

15.    The accounts of the Appellant for the year ended 31 May 2008 record the principal activity of the Appellant as that of "the management of it's [sic] investments." The balance sheet recorded the disposal of a fixed asset (ie the Property) resulting in a profit on the disposal of £414,504 which, after creditors, left net current assets of £334,118. The profit and loss account recorded "interest receivable and similar income" of £16,848.

Appellant's arguments

16.    Mr Giffen argued that it was still his intention (and therefore the Appellant's intention) to reinvest the sale proceeds in other properties when the property market recovered. Consequently, in Mr Giffen’s view, throughout the accounting period ended 31 May 2008 the Appellant existed wholly or mainly for the purpose of "making investments in land or estates or interests in land" where the land is, or is intended to be, let to third parties.

17.    Mr Giffen complained that he was being penalised for being prudent. He estimated that if the Appellant had reinvested in property in 2007 it would have lost £70,000. Mr Giffen also noted that because of delays in the hearing date the period of uncertainty had been prolonged by another six or seven months. While the tax issue which is the subject matter of this appeal was undetermined, he did not know the net of tax proceeds of sale available for reinvestment.

HMRC's arguments

18.    Mr Lamb submitted that the Appellant had ceased to trade in 1996, had owned the Property  which it let out, as an investment until 12 June 2007 and, since that time, it owned a bank deposit on which it earned interest. The Appellant had not reinvested in other properties.

19.    Mr Lamb submitted that there was no documentary evidence that any attempt had been made by the Appellant to purchase new properties. It was a requirement of section 13(2) ICTA that the purpose of property reinvestment existed throughout the accounting period ended 31 May 2008. After the sale of the Property in June 2007 the Appellant had no activity other than the receipt of bank deposit interest, but this was not an activity that qualified under section 13(2).

20.    Mr Lamb noted that the Appellant had filed dormant company accounts up to 2006. As discussed above, the rent received in respect of the Property was paid directly to Mr Giffen and did not feature in the Appellant's accounts or tax returns. Until the sale of the Property in June 2007 the Appellant was effectively dormant. Mr Lamb suggested that accounts for the year ended 31 May 2008 had only been drawn up to obtain a tax advantage to which the Appellant was not entitled.

21.    Mr Lamb submitted that the onus of proof lay with the Appellant to establish its entitlement to marginal relief.

Decision

22.    The Appellant must show on the balance of probabilities that in the accounting period ended 31 May 2008 it existed wholly or mainly for the purposes set out in section 13 (2) ICTA, particularly subparagraph (b). It is this period in which its purpose is relevant. Its purpose in subsequent periods is not in point. If the Appellant could establish that it had the necessary investment purpose in the accounting period ended 31 May 2008 but that purpose ceased to exist in a subsequent accounting period the Appellant would be entitled to marginal rate relief, assuming all other requirements of the statute were satisfied.

23.    That is not to say, however, that evidence of the Appellant's investment activity or inactivity in relation to subsequent periods is irrelevant as evidence of its purpose in the accounting period ended 31 May 2008. The Appellant's continued reluctance to apply the proceeds of the sale of the Property in subsequent accounting periods is relevant to the question whether the Appellant’s assertion, that it had the necessary investment purpose in the accounting period ended 31 May 2008, is credible.

24.    Moreover, the test in section 13(2) looks at the Appellant’s purpose. This is not necessarily the same as its activities, although its activities may shed light on the purpose for which the company exists.

25.    We should add that, in applying the test set out in section 13(2), we take the Appellant’s purpose, to be the same as that of Mr Giffen, who was its sole director and, therefore, its “guiding mind”.

26.    After careful consideration, we accept Mr Giffen’s evidence that he intended the reinvest the proceeds of sale of the Property in acquiring residential properties as a rental investment throughout the accounting period ended 31 May 2008. We accept that the impact of the financial crisis, which began to make itself manifest in the late Summer and early Autumn of 2007 and which continued throughout 2008, led him to hesitate from procuring further rental properties but that it was still his intention to do so. It may be that the Appellant’s purpose of reinvestment has faltered in subsequent accounting periods (although Mr Giffen insists that it is still his, and therefore the Appellant's, intention to reinvest in rental properties) but it is unnecessary for us to determine the Appellant's purposes in those later periods. If there was any slackening in the Appellant's required purpose in later years it does not, in our view, undermine the credibility of Mr Giffen's assertion that the Appellant existed for the purpose of investment in rental properties in the accounting period ended 31 May 2008. In reaching this conclusion, we considered that the absence of documentary evidence as to the Appellant's purpose did not require us to disregard Mr Giffen's evidence. The fact that Mr Giffen, having put reinvestment plans temporarily on hold, disposed of details of properties which he originally considered does not seem surprising. On the contrary, Mr Giffen appeared to us to be a straightforward and credible witness.

27.    For these reasons we allow this appeal.

28.    This document contains full findings of fact and reasons for the decision. Any party dissatisfied with this decision has a right to apply for permission to appeal against it pursuant to Rule 39 of the Tribunal Procedure (First-tier Tribunal) (Tax Chamber) Rules 2009.   The application must be received by this Tribunal not later than 56 days after this decision is sent to that party.  The parties are referred to “Guidance to accompany a Decision from the First-tier Tribunal (Tax Chamber)” which accompanies and forms part of this decision notice.

GUY BRANNAN

TRIBUNAL JUDGE

RELEASE DATE: 7 DECEMBER 2010