Background
Golf Holdings Ltd, a close company incorporated in England and Wales, cancelled one million shares in April 2015 and credited £10 million to its shareholders’ loan accounts. Paul Hunt received £7,841,000, while James Hunt and Robert Davis each received £1,079,500. They reported the amounts as capital receipts subject to capital gains tax. At the time, the company had distributable reserves exceeding £10 million.
HMRC issued counteraction notices under the transactions-in-securities provisions in Part 13, Chapter 1 of the Income Tax Act 2007. The shareholders accepted that the statutory conditions for counteraction were satisfied unless section 685(6) excluded the capital repayment from condition A in section 685(2). The First-tier Tribunal held that the exclusion did not apply and dismissed their appeals.
The Court’s Holding
The Upper Tribunal dismissed the shareholders’ appeal. It held that section 685(6), in the form applicable to the 2015 transaction, did not exclude a repayment of subscribed capital by a UK limited company from section 685(2)(a). The words “despite the fact that” introduced a qualification: the exclusion applied where the law of the company’s place of incorporation allowed assets representing subscribed capital to be distributed by way of dividend. Because an English limited company could not distribute its share capital or share premium in that way, the exclusion did not protect this capital reduction.
The Tribunal also rejected HMRC’s respondent’s notice alleging an obvious drafting error. It declined to replace section 685(6)’s references to section 685(2)(a) and (b) with references to section 685(4)(a)(i) and (ii), concluding that the statutory language did not satisfy the stringent requirements for judicial correction. Although the resulting legislation treated some companies differently and lacked a coherent “level playing field,” the Tribunal held that it had to apply Parliament’s clear words.
Key Takeaways
- Under the version of section 685 applicable between the 2010 and 2016 amendments, a capital repayment by a limited company incorporated in England and Wales was not excluded from condition A merely because it returned subscribed capital.
- Section 685(6)’s exclusion was confined to companies whose governing law permitted assets representing subscribed capital to be distributed by way of dividend.
- A court cannot rewrite legislation to produce a more coherent tax regime unless the demanding test for correcting an obvious drafting error is met.
Why It Matters
The decision confirms that capital treatment under company law and capital gains tax rules did not, by itself, prevent the transactions-in-securities regime from treating a 2015 capital reduction as giving rise to an income-tax advantage. For transactions governed by the pre-6 April 2016 wording, the company’s place of incorporation and its legal ability to distribute subscribed capital by dividend were critical.
The judgment also illustrates the limits of purposive interpretation in tax cases: legislative history and apparent policy inconsistency could inform construction, but could not displace statutory wording that the Tribunal regarded as clear.