The Court of Appeal upheld by majority decision an appeal from HMRC
from the decision of Mann J in the case of HMRC -v- Smallwood
and another [2010] EWCA Civ 778, which concerned a capital
gains avoidance scheme referred to as the "Round the World" scheme.
The idea behind the scheme was to avoid a capital gains tax charge
on the disposal of two shareholdings by the trustees of a trust
settled by a UK-resident individual. The UK-resident trustees of
the trust were replaced part way through the tax year by a trustee
company that was resident in Mauritius and it was that trustee that
effected the disposals. The Mauritian trustees were also then
replaced before the end of the tax year by UK-resident trustees
(the settlor and his spouse being appointed). The scheme sought to
avoid a charge to tax under s.86 TCGA by ensuring that the trustees
were UK resident at some point during the tax year, thus excluding
the operation of that section. It was also sought to avoid a charge
to tax under s.77 TCGA by claiming relief under the
UK/Mauritius double tax treaty on the basis that at the point that
the shares were disposed of, the trustees were not resident in the
UK and so taxing rights arose only in Mauritius, which did not tax
capital gains. The key point in the case was the right to claim
relief under the treaty.
The Court rejected the taxpayer's arguments that it was necessary
only to determine where the trustees were resident at the point
they made the disposals and that as the jurisdiction was Mauritius,
only that country had taxing rights. This argument meant that the
tie-breaker clause in the treaty which resolved dual claims to
taxing rights was irrelevant. The taxpayer's submissions were held
no more persuasive as a result of subsequent treaty amendments
which it was argued were introduced specifically to counteract this
scheme.
Each judge concluded that the trustees were resident in both
jurisdictions because they were liable to tax in each one for the
whole or part of the period in question. The tie-breaker provision
in the treaty, which allocated taxing rights to the jurisdiction
where the trust's place of effective management (POEM) was
situated, was therefore of critical importance and it was necessary
to determine the question of POEM under that provision.
The Special Commissioners found that the trust's POEM at the time
of the share disposal (when the trustee was a Mauritian resident
corporate trustee) was nevertheless in the UK with the result that
the gains arising from the disposals were chargeable to tax and no
relief under the treaty was available. Patten LJ (in the minority)
would have overturned that finding of fact in this case based on
the evidence. He agreed that the question of where POEM was
situated was much the same as the question of corporate residence,
a question which involves establishing where its central management
and control was exercised. Referring to the test for corporate
residence in Wood -v- Holden [2006] STC 443, he considered
the correct test for residence in this context to be: whether the
trustees' decisions were taken by the board of directors of the
trustee company, albeit on the advice of the advisers who had put
the scheme together, or whether the functions of the directors had
been usurped by the advisers. Patten LJ found that they had not and
thus the only reasonable conclusion to be drawn was that the POEM
of the trust at the time of the disposal was Mauritius. The
majority, however, disagreed, upholding HMRC's appeal. Hughes LJ
(with whom Ward LJ agreed) did not agree that looking at POEM at
the time of the disposal was decisive. What mattered, bearing in
mind that the trustees are to be treated as a single and continuing
body of persons, was where the POEM of the trust was during the
relevant fiscal year. Given that in his view "the steps in the
scheme were carefully orchestrated throughout from the United
Kingdom" and that there was "a scheme of management of
this trust which went above and beyond the day to day management
exercised by the trustees for the time being, and the control of it
was located in the United Kingdom", Hughes LJ refused to
disturb the Commissioners' finding that the POEM of the trust was
the UK.
The case is notable for the following points. First, the Court
accepted neither the arguments of the taxpayer nor HMRC on the
question of the construction of the treaty and instead preferred
its own interpretation that the question in the tie-breaker clause
of where the trust's POEM was situated was critical.
Secondly, the decisions of the majority on the question of POEM are
extremely short and contain little useful legal analysis and by far
the most detailed judgment is that of Patten LJ, dissenting.
Thirdly, some commentaries on the case have suggested that the
decision leaves the position on the residence of overseas special
purpose vehicles used for tax planning in some doubt and in this
respect casts doubt on the dicta of the Court in Wood -v- Holden.
However, Hughes LJ did accept that the functions of the Mauritian
trustee company had not been usurped and he agreed that the
decision in Wood -v- Holden "reminds us that special vehicle
companies (or, no doubt, special vehicle boards of trustees) which
undertake very limited activities are not necessarily shorn of
independent existence". In his view, however, it was incorrect
simply to look at the trust's POEM at the time of the disposal
(here when the trustees were resident in Mauritius) but an
examination of the issue during the whole of the relevant fiscal
period was required. It will be interesting to see whether the
taxpayer seeks leave to appeal to the Supreme Court.
Please click on the links below for the other articles in
the July 2010 tax newsletter.
Contacts
John Watson
T: +44 (0)20 7859 1308
E: john.watson@ashurst.com
Richard Palmer
T: +44 (0)20 7859 1289
E: richard.palmer@ashurst.com
Ian Johnson
T: +44 (0)20 7859 1304
E: ian.johnson@ashurst.com
Alexander Cox
T: +44 (0)20 7859 1541
E: alexander.cox@ashurst.com
Paul Miller
T: +44 (0)20 7859 1786
E: paul.miller@ashurst.com
Simon Swann
T: +44 (0)20 7859 1882
E: simon.swann@ashurst.com
This newsletter is not intended to be a comprehensive review of
all developments in the law and practice, or to cover all aspects
of those referred to. Readers should take legal advice before
applying the information contained in this publication to specific
issues or transactions.