First-tier Tribunal (Tax)

Background to the appeal

The Appellant’s claim against Mr Wood

·        damages for breach of contract;

·       damages for breach of fiduciary duty;

·       a declaration that the Appellant retired from the partnership on 21 July 2004; alternatively a declaration that the partnership dissolved upon the death of Mrs Wood in January 2003; an order that “for the purposes of the calculation of the Claimant’s [the Appellant’s] share of the Partnership pursuant to clause 23 of the Deed and/or any account of and /or inquiry into the Claimant’s share of the Partnership the Claimant’s capital account is credited with the £20,000…..” (being the capital introduced by the Appellant as stated above);

·         an order that within 14 days the parties instruct the partnership accountants to prepare the balance sheet and profit and loss account “as at the date of the Claimant’s retirement from the partnership pursuant to clause 23 of the Deed”;

·         “Further and/or alternatively an account of and/or inquiry into the Claimants share of the Partnership”

·         “Further or other relief”

7. These proceedings were the subject of discussion between the parties and their respective advisers as a result of which they were eventually compromised on terms which were embodied in a “Tomlin” order, (a form of order in which the substance of the settlement between the parties is set out in a schedule to a consent order staying the proceedings save for the purpose of enforcing the terms of settlement in the schedule).

  “1. Upon the parties having complied with paragraph 2 herein and on or before 4pm on 6^th December 2006 the First Defendant shall pay to the Claimant and the Claimant shall accept the sum of £55,000 (fifty five thousand pounds) in full and final settlement of the claim and counterclaim herein.

2. On or before 4pm on 22^nd November 2006 the Claimant and the First Defendant shall execute a Deed of Retirement by which the Claimant’s retirement from the Partnership shall be formally recorded, and by which the Claimant shall transfer any share of his in the Partnership to the First Defendant in consideration of the agreement contained in this schedule and for no further consideration. The Claimant shall prepare and submit to the First Defendant the first draft of the said Deed, and the First defendant shall (subject to any reasonably necessary and agreed amendments thereto) approve the same”

9. Although it may not be significant it should be recorded that there was before the tribunal no information as to the substance of the counterclaim against the Appellant. Also it appears that, despite the terms of clause 2 of the Tomlin order schedule, no Deed of Retirement appears to have been drawn up. It seems probable however that the partnership had by that date already come to an end although the precise date on which it did so is again not clear to the tribunal.

The tax treatment of the settlement

10. On 11 December 2009 the Respondents wrote to the Appellant stating their view that £20,000 of the settlement of £55,000 represented a return of the Appellant’s capital from the partnership but that the remaining £35,000 was “additional shares of partnership profits awarded to you”. On this basis discovery assessments under s 29 TMA 1970 for the 8 years from and including 1996/97 to 2003/04 were issued effectively attributing one eighth of the £35,000 (£4,375) as additional income deemed to have been received by the Appellant in each of the years concerned.

The competing arguments

11. The Respondents contend that the issue of discovery assessments under s 29 TMA 1970 was appropriate as at least £35,000 of the monies received by the Appellant pursuant to his settlement with Mr Wood is properly characterised as income and as such is chargeable to income tax. It is, they say, money in the nature of a post cessation receipt for a share of the profits which should have been received by the Appellant during the life of the partnership. The Respondents look upon the allocation of the sum of £35,000 over the 8 year period as a concession as it could alternatively be considered as a receipt of income in a single year (the tax year 2006/07) which might well have a more significant impact on the Appellant.

12. The Appellant says that the sum of £55,000 received on the settlement of the litigation with Mr Wood included a sum of £20,000 being the return of the capital subscription he made to the partnership; the balance of £35,000 was a capital sum paid in respect of the disposal of his share in the partnership. The Appellant contends that the assessments raised under section 29 TMA 1970 were invalid.

The Appellant’s case

13. The Appellant was represented at the hearing of the appeal by his tax accountant Mr David Maultby. Mr Maultby told the tribunal that the returns for the partnership had invariably been prepared by Mr Wood who would simply ask the Appellant for his signature to returns as necessary. The impression conveyed was that the Appellant was a “hands-on” working partner almost exclusively concerned with the operational needs of the business whilst matters of administration were dealt with by Mr Wood. The Appellant trusted his partner to ensure that he received his correct entitlement. That the partnership returns included a correct statement of the earnings of the partnership is not a matter in dispute in this appeal. Nor too is it disputed that the Appellant or Mr Wood did other than to correctly include in their personal tax returns the monies they earned from the business. In consequence the Appellant argues that he has fully and correctly completed his tax returns and paid all tax and NI contributions properly payable by him for each of the years in question. There is no suggestion by the Respondents that, apart from the matter of the receipt of the £55,000 the subject of this appeal, the Appellant had any income which had not been assessed, that the assessments to tax during any of the years in question were or had become insufficient or that any relief which had been given was or had become excessive. It was therefore Mr Maultby’s contention that his client was entitled to consider his tax liabilities as properly met for each of these years so that by the tax year 2006/07 the previous years were beyond the date for enquiry or repair. Mr Howell was, he said, properly entitled to feel that he had settled his liability to income tax. He was entitled to certainty in respect of his tax affairs having done all that was required of him.

14. Mr Maultby contended that there was no proper basis for the opening or amending of the assessments previously made. Mr Wood’s accountants had in a letter dated 28 February 2007 to the Appellant’s accountants written that

“…..It would appear to us that the £55,000 which was paid to Mr Howells by Mr Wood relates to £20,000 of capital introduced by Mr Howells with the remaining £35,000 being profits to which Mr Howells asserted he was due for the periods in question”.

The accountants went on to state their intention to submit a revised partnership return for 2003/04 allocating £35,000 of the profit assessable in that year to Mr Howell. Mr Maultby argues that there was no justification in fact or law for this unilateral reallocation of profits. In this connection he referred to the Respondents’ letter dated 25 September 2009 in which the apparent justification for this treatment was suggested to be an Error or Mistake Relief claim. Mr Maultby directed attention to s 33A ss (1)  TMA 1970 which provides:

“This section applies where in the case of a trade…..carried on by two or more persons in partnership, those persons allege that tax charged…..was excessive by reason of some mistake in a [partnership return]…..

Mr Maultby argued, correctly we consider, that the use of the word “persons” required that both partners would need to agree an Error or Mistake Relief claim and not one only of them. This could not be dealt with unilaterally and accordingly neither Mr Wood’s accountants nor the Respondents were entitled to deal with the matter in this way.

15. Mr Maultby further contended that section 29 TMA 1970 had no proper application to this situation and that the assessments raised were invalid.

16. Section 29 TMA 1970 relevantly provides as follows:

“29 Assessment where loss of tax discovered

(1) If an officer of the Board or the Board discover, as regards any person (the taxpayer) and a year of assessment –

(a) that any income which ought to have been assessed to income tax, or chargeable gains which ought to have been assessed to capital gains, have not been so assessed, or

(b)  that an assessment to tax is or has become insufficient, or

(c)  that any relief which has been given is or has become excessive,

The officer or, as the case may be the Board may, subject to subsections (2) and (3) below, make an assessment in the amount, or the further amount, which ought in his or their opinion to be charged in order to make good to the Crown the loss of tax.

(2) [Not applicable to this appeal as it deals with errors or mistakes as to the basis of computing liability]

(3)  Where the taxpayer has made and delivered a return under section 8 or 8A of this Act in respect of the relevant year of assessment. He shall not be assessed under subsection (1) above –

(a)  in respect of the year of assessment mentioned in that subsection; and

(b)…in the same capacity as that in which he made and delivered the return,

unless one of the two conditions mentioned below is fulfilled.

(4)  The first condition is that the situation mentioned in subsection (1) above is attributable to fraudulent or negligent conduct on the part of the tax payer or a person acting on his behalf.

(5)  The second condition is that at the time when an officer of the Board –

(a)  ceased to be entitled to give notice of his intention to enquire into the taxpayer’s return under section 8 or 8A of this Act in respect of the relevant year of assessment; or

(b)  informed the tax payer that he had completed his enquiries into that return

the officer could not have been reasonably expected on the basis of the information made available to him before that time, to be aware of the situation mentioned in subsection (1) above”

17. The Appellant contends that there has been no such fraudulent or negligent conduct as would be required to fulfil the first of the conditions in subsection 4 of section 29 TMA 1970. The Respondents did not argue before the tribunal that the second condition had been satisfied. What the Respondents did argue was that the Appellant had failed to include in his 2006/07 tax return the income which they contend is now to be brought into assessment following the settlement of the litigation. It is this failure which, it is contended, entitles the Respondents to raise the assessments concerned.

18. Mr Maultby pointed out that Mr Howell’s tax return for the year 2006/07, being the tax year in which he received the settlement monies, contained a note to the effect that any capital gain of over £35,200 need not be included in the return. Business asset taper relief at 75% reduced the otherwise reportable figure to £8750. For the year in question the tax free allowance for capital gains was £8,800 and consequently it was not correct to contend that the Appellant had in some way failed either as a result of fraudulent or negligent conduct to deal properly with his tax return for that year. Mr Maultby also drew the tribunal’s attention to the fact that by its letter dated 11 March 2009 the Respondents had stated clearly that they had completed an enquiry into Mr Howell’s tax return for the year ended 5 April 2007 and that they were pleased to tell him that no amendment to the return was needed. In the same letter they went on to state that a Revenue Assessment for 2003/04 would be raised under the discovery provisions of s. 29 TMA 1970 referred to above.

19. On behalf of the Appellant it was further argued by Mr Maultby that the monies received were in the nature of capital and not income. The Respondents argument that the receipt was in the nature of income was based on a number of tax authorities including that of Burman (H M Inspector of Taxes) v Thorn Domestic Appliances (Electrical) Limited  [55 TC 493] That case and other similar cases were, said Mrs Bellingall, authority for the proposition that in a case where the party receiving the money has identified the character of the money sought in its claim as being either income or capital then it is right that it should be considered to have that character when paid. Put rather more prosaically the ruberic “What you asked for is what you got” applied in such circumstances and has judicial support

The tribunal’s consideration of the appeal

20. The facts in this appeal are not in issue between the parties. What is at issue is the proper tax treatment of the receipts by Mr Howell pursuant to the provisions of the Tomlin Order by which his dispute with Mr Wood was settled on 8 November 2006.

21. The Appellant seeks to vacate the Discovery Assessments for each of the years 1996/97 to 2002/03. The grounds stated in the Appellant’s appeal notice can be summarised thus:

(1) The criteria required for valid discovery assessments are not met

(2) The imputation of the receipt in the tax year 2006/07 back to the years in question on a pro rata basis was inappropriate and wrong and not in accordance with established legal principles.

(3) The receipt by the Appellant was of a capital nature and not income, a view supported by a proper construction of the relevant documents.

22. The Respondents in their Statement of Case in response state that the points at issue are:

(1) Whether the £55,000 received by the Appellant should be charged to tax, in whole or in part, as revenue income or capital gains

(2) If found, whether in whole or part, to be chargeable as revenue income for what year or years should that amount be charged to tax?

(3) If the whole or part of £55,000 is found to be chargeable as revenue income and taxable in the years detailed above are the assessments issued for those years valid.

23. Section 29 TMA 1970 allows the revenue to raise against a taxpayer a further assessment to tax where it appears that there has been discovered a loss to the Revenue as a result of fraud or negligence. The power conferred by the section was said by Stanley Burnton J in R (Johnson) v Branigan [2006] EWCH 885 (Admin) at [15] to be:

“…very substantially qualified. It is so qualified no doubt because Parliament considered that generally a taxpayer who has honestly provided a tax return under the self-assessment scheme should not be indefinitely liable to a demand for the payment of an amount of taxes beyond that which, by his return, he has disclosed is payable by him”