First-tier tribunal IN AIRTOURS HOLIDAY TRANSPORT LTD v HM liaising - - PDF document

2 The In-House Lawyer December 2009/January 2010

CORPORATE TAX Jones Day CORPORATE TAX Jones Day

IN AIRTOURS HOLIDAY TRANSPORT LTD v HM Revenue & Customs (HMRC) [2009], the tax chamber of the fi rst-tier tribunal decided that Airtours Holiday Transport Ltd (Airtours) was entitled to a credit for input VAT on fees that it had paid to PricewaterhouseCoopers (PwC). HMRC argued that Airtours was merely a third-party payer and that PwC’s services had been provided to fi nancial institutions, not to Airtours. The tribunal applied the ratio of the decision of the House of Lords in Commissioners of Customs & Excise v Redrow Group Plc [1999] and determined on the facts that the supply of accountancy services was made both to Airtours and the banks. Accordingly, Airtours was entitled to an input tax credit as it had been a recipient

• f a supply of services.

The decision in Airtours is an important one in the current economic climate because it is not unusual for businesses, along with their creditors, to seek the services of professionals, such as accountants, in an attempt to rescue their businesses. BACKGROUND In 2002 Airtours (then known as MyTravel) faced a severe fi nancial crisis that threatened its survival. The crisis was caused because Airtours’ share price had collapsed as a result of an announcement by Airtours of certain accounting diffj culties it had encountered. As a result of this, some of its creditor banks refused to allow it to drawdown funds. At the time, Airtours was heavily indebted to banks, and other fi nancial institutions and creditors. Airtours had issued unsubordinated bonds to holders that amounted to fi nance of over £2bn. It was imperative, therefore, that a rescue package involving the banks and

• ther creditors was entered into if Airtours

was to survive. The banks formed a steering committee and PwC was engaged to provide professional services comprising:

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liaising with and making representations to banks and other creditors or bondholders of Airtours;

■

carrying out a strategic review of Airtours’ business and restructuring proposals; and

■

liaising with the Civil Aviation Authority and creating an entity priority model. PwC entered into fi ve engagement letters, each one addressed to ‘the engaging institutions’, which were accepted by these institutions and Airtours. The relevant provisions were that:

■

PwC had been engaged by the engaging institutions who had counter-signed the engagement letter (the engaging institutions);

■

the reports and letters prepared by PwC were for the sole use of the engaging institutions;

■

PwC had been requested to assist in providing information to the institutions providing facilities to Airtours to enable them to develop views on Airtours' fi nancial position and fi nancing needs;

■

information and advice arising from the engagement was to be addressed to the engaging institutions, with a copy to the directors of Airtours, with the exception of any part of the report prepared exclusively or confi dentially for the engaging institutions;

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PwC had a duty of care to the engaging institutions and also to specifi c institutions where Airtours had requested an extension to its existing fi nancing facilities that required specifi c advice to be given to those institutions;

■

PwC limited its aggregate liability for any breach of contract, tort or

First-tier tribunal applies Redrow to accountancy services

‘In the current economic climate it is not unusual for businesses to seek the services of professionals in an attempt to rescue their businesses.’

Charlotte Sallabank, partner, Jones Day E-mail: csallabank@jonesday.com

December 2009/January 2010 The In-House Lawyer 3

CORPORATE TAX Jones Day ‘There was no dispute between HMRC and Airtours as to whether Airtours was a taxable person, and whether it was conducting a business. What was in dispute was whether there was any supply to Airtours at all.’

negligence in respect of Airtours, or the engaging institutions, or any other party to whom PwC later agreed to assume a duty of care;

■

Airtours was responsible for PwC's fees, expenses and disbursements, and original invoices would be sent to Airtours with a copy to a representative

• f the engaging institutions; and

■

Airtours would indemnify PwC against claims brought by any third party. PwC's terms and conditions of service included the following: ‘These terms and conditions apply to the services that we will provide to you pursuant to the attached letter of

• engagement. The letter of engagement

and the terms and conditions are together referred to as “the contract”. The contract forms the entire agreement between us relating to the

• services. It replaces and supersedes any

previous proposals, correspondence, understanding, or other communication whether written or oral. For the avoidance of doubt, “we” and “our” refers to PwC, a UK partnership… and “you” and “your” refers to the entity

• r entities on whose behalf the attached

letter of engagement was acknowledged and accepted.’ Both the engaging institutions and Airtours signed the letters of engagement, thereby agreeing to PwC's terms and conditions. Clause 10 of the terms and conditions provided: ‘You agree to indemnify us to the fullest extent permitted by law against all liabilities, losses, claims, demands and expenses, arising out of or in connection with your breach of any terms of the contract.’ The letter of engagement (clause 26.1) confi rmed that the reference to ‘you’ in clause 10 of PwC’s terms and conditions and ‘only in that clause’ referred to Airtours and not the engaging institutions. Airtours' company secretary, Greg McMahon, gave evidence that the tribunal accepted as entirely truthful. In his evidence McMahon stated: ‘MyTravel were keen to have an adviser reviewing the plans for the business and to provide confi rmation to the steering committee that, based on the information available at the time, the agreed actions were reasonable. When determining who to appoint to provide this assistance it was necessary to appoint an adviser that was acceptable to the steering committee and MyTravel and I note that MyTravel had a role in the decision-making process as to who was going to be appointed.’ Airtours argued that it had received a supply or supplies consisting of the services provided by PwC and had paid for those supplies, and that they were received for the purposes of its business. HMRC accepted that Airtours paid for the services and was a party to the agreements with PwC but argued that the supply was

• nly to the banks and other institutions, and

not to Airtours. DECISION The fi rst-tier tribunal upheld Airtours’

• appeal. HMRC had argued that the reference

to ‘you’ in the engagement letters only referred to the engaging institutions and not to Airtours except in the one provision where ‘you’ was stated in the letter of engagement (clause 26.1) to refer to Airtours alone. The tribunal did not agree with this analysis and was of the view that clause 26.1 of the letter of engagement indicated that in all

• ther places ‘you’ included both Airtours and

the engaging institutions apart from the one clause (clause 10) where it only referred to

• Airtours. From this conclusion it followed

that elsewhere in the letter of engagement references to ‘you’, in particular those clauses where the ‘you’ referred to those who had requested work from PwC and those who were owed a duty of care by PwC, included Airtours. There was no dispute between HMRC and Airtours as to whether Airtours was a taxable person, and whether it was conducting a

• business. What was in dispute was whether

there was any supply to Airtours at all. HMRC accepted that if there was a supply then it was in the course of Airtours’ business. In reaching its conclusion that there was a supply of services by PwC to Airtours the tribunal derived the following propositions drawn from Redrow, Loyalty Management UK Ltd v HM Revenue & Customs [2007] and WHA Ltd & anor v Customs & Excise [2004]: 1) If a service has been provided there is no need to defi ne it. Indeed to do so might lead to error. 2) If a supply is made for a consideration and it is not a supply of goods then it is a supply of services. 3) A supply of a service may consist of a right to have the service supplied to a third party. 4) The correct approach is to look at the question from the point of view of the paying party. The person claiming the right to deduct input tax must identify the payment they claim to have made and by which they claim to have

• btained something for the purposes
• f their business, which they therefore

claim gave rise to the deduction. 5) Provided they obtained anything at all that was used for the purpose of their business the right to deduct input tax will arise. 6) The fact that someone else also received a service as part of the same

4 The In-House Lawyer December 2009/January 2010

CORPORATE TAX Jones Day CORPORATE TAX Jones Day

transaction as that received by the party making the deduction does not prevent deduction. 7) Questions such as who pays, who receives the invoice and who authorises the work will be relevant. The tribunal commented that proposition 6) was drawn from Lord Hope’s judgment in Redrow, but the fact that Lord Hope had referred to ‘a’ service rather than ‘the’ service did not mean that the third party had to receive a difg erent service, and Chadwick LJ in Loyalty Management and WHA accepted that the service received by the two parties could be the same. The tribunal concluded that Airtours was a party to the contract and that Airtours, as well as the engaging institutions, had requested PwC’s services. Airtours needed the work done by PwC. This conclusion was supported by Airtours’ company secretary’s evidence. The fact that copies

• f reports and advice given by PwC were

to be copied to the directors of Airtours was also indicative of a supply being made to Airtours by PwC. The tribunal was satisfi ed that PwC’s services were not

• btained solely for the purposes of Airtours’

creditors. CONCLUSION This tribunal decision is a useful one for businesses. It is noteworthy, however, that HMRC is still challenging taxpayers

• n the facts of individual cases as to

whether or not a supply has been made to the person seeking an input tax deduction, where tripartite contracts are involved. The decision in Redrow turned very much

• n the particular facts. If one party to

a contract is bearing all the costs it is important that the documentation can support a contention that a service is being supplied to that party. HMRC will look closely at the documentation and if the documentation cannot support a taxpayer’s contention, then it is likely that an input deduction will be disallowed, with the prospect of litigation for the taxpayer to get their deduction. Airtours Holiday Transport Ltd v HM Revenue & Customs [2009] UKFTT 256 (TC) Commissioners of Customs & Excise v Redrow Group Plc [1999] UKHL 4 Loyalty Management UK Ltd v HM Revenue & Customs [2007] EWCA Civ 965 WHA Ltd & anor v Customs & Excise [2004] EWCA Civ 559

Immediate tax clampdown on debt buy-backs

THE GOVERNMENT ANNOUNCED ON 14 October 2009 in a written ministerial statement that changes will be made in next year’s Finance Bill, with retrospective efg ect to 14 October 2009, to amend the UK tax rules applying where existing debt is purchased at a discount by a company connected to the debtor. BACKGROUND AND CURRENT LAW In the present economic conditions many banks and other businesses have issued debt that is trading at a discount to the amount borrowed. Given the uncertainty and volatility in the fi nancial markets, many banks and other businesses are seeking to buy back their debt. Under existing legislation, if debt is purchased at a discount by either the debtor or a company connected with the debtor, the debtor will generally be taxed on the amount of the discount. However, there is an exception to this general rule that provides that the debtor will not be subject to tax on the discount where the purchaser

• f the debt acquires it in an arm’s length

transaction, and the purchasing company was not connected with the debtor at any time during the three-year period ending 12 months before the purchase. Therefore, provided that the acquisition was at arm’s length, and debtor and purchaser were not connected prior to one year before the acquisition, no tax charge would arise on the acquisition of the debt

• r on subsequent release.

The purpose of the one year, arm’s length window was to facilitate corporate rescues. The government is concerned that this exception is too widely drafted, and that the provision enables groups to avoid a tax charge on the discount on any debt buy-back simply by purchasing the debt into a newly established company that, as it is newly established, cannot have been connected with the debtor during the relevant three-year period. The setting up

• f a connected company to acquire debt,

while within the letter of the law, was not considered by HM Revenue & Customs (HMRC) or HM Treasury to be within the spirit of it. Hence the announcement of the proposed change of law. This amendment is an attempt to ensure that the exception is

• nly available in cases of genuine corporate

rescues. PROPOSED CHANGES The new rules will be introduced in the Finance Bill 2010 and apply retrospectively from 14 October 2009. It is proposed that, instead of the condition requiring the

‘The amendments to the Finance Bill are an attempt to ensure that the exception is

• nly available in cases
• f genuine corporate

rescues.’

December 2009/January 2010 The In-House Lawyer 5

CORPORATE TAX Jones Day

purchasing company not to be connected with the debtor for a prescribed period, the following three new conditions will be introduced to limit the availability of the conditions: i) there must be a change in the

• wnership of the debtor in the period of

12 months before the debt purchase; ii) the debt purchase must have been intrinsic to the change of ownership; and iii) before the change of ownership, the debtor must have been sufg ering from severe fi nancial problems. The ministerial statement also provides that, even if a connected company purchases the debt without a tax charge arising on the discount, a subsequent cancellation of the debt would still be taxable (meaning that the new rules will

• nly defer the tax charge until the debt is

ultimately cancelled). IMPLICATIONS At this stage draft legislation is not available and until any new legislation is passed there will be considerable uncertainty going

• forward. However, on 22 October 2009,

HMRC published some comment on the ministerial statement (the commentary). The commentary sheds some light on what is meant by the three exceptions: i) The expression ‘change in ownership’ will be as defi ned in s769 of the Income and Corporation Taxes Act 1988. Broadly, there is a change in ownership if more than 50% of the debtor’s ordinary share capital changes ownership. HMRC is also considering whether this condition can be extended to changes

• f ownership that occur shortly after

the debt purchase. ii) A debt purchase will be ‘intrinsic’ to the change of ownership where it is reasonable to assume that the debt purchase would not have taken place but for the change in ownership and arises from that change of ownership. iii) ‘Severe fi nancial problems’ will be accepted as existing if it would be reasonable to assume that without the change of ownership the debtor would have become insolvent. The commentary also gives some guidance

• n how the new rules will apply to:

■

debt restructurings in progress at,

• r already undertaken before,

14 October 2009;

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refi nancing of repurchased debt; and

■

debt equity swaps. GRANDFATHERING PROVISIONS The new rules will not apply to debt purchases where the ofg er to acquire the debt was made directly to the creditors on

• r before 14 October 2009.

The new rules relating to taxation of the purchase discount on a later cancellation

• f debt will not apply to purchases of debt

that took place on or before 14 October 2009 within the old rules, nor will they apply to the cancellation of debt whose purchase was grandfathered. REFINANCING, DEBT EQUITY SWAPS AND CANCELLATION An exemption from the new rules will apply where debt is repurchased in consideration

• f the issue of new debt of equivalent face

value, but subject to difg erent terms (such as covenants or maturity date) and there is no economic profi

• t. Changes will also be made

to the legislation to ensure that there is no tax charge where, rather than the debtor issuing shares to creditors in consideration for the debtor being released from the debt, another group company issues shares to the creditor in consideration for the debt being assigned to it. The commentary is somewhat unclear

• n the tax charge that will result on a

future cancellation of the debt. Is the tax charge only on the previously untaxed purchase discount or is it on the full amount released? The commentary says that an amendment will also be made to ensure that the creditor is not denied a debit when a debtor is taxed on cancellation. However, the previously untaxed discount should not be shown in the accounts of the creditor as the creditor acquired the debt at a discount from the seller and so if it is

• nly the purchase discount that is taxed in

the hands of the debtor, there should be no need for a corresponding debit for the

• creditor. This rather suggests that it will be

the full amount of the cancelled debt that is taxed, not just the previously untaxed discount on purchase. CONCLUSION It is unfortunate that there is now signifi cant uncertainty going forward and it is to be hoped that draft legislation will be released as soon as possible. However, what is clear is that setting up a connected company to acquire debt is unlikely to work from a tax perspective, as from 14 October 2009. Groups considering a debt buy-back should monitor developments in this area closely. By Charlotte Sallabank, partner, Jones Day. E-mail: csallabank@jonesday.com.

‘An exemption from the new rules will apply where debt is repurchased in consideration of the issue of new debt

• f equivalent face value, but subject to difg

erent terms and there is no economic profi t.’