Vodafone 2 v Revenue and Customs

UK courts must interpret domestic legislation consistently with directly effective Community rights where that is possible. The court may imply words, even into unambiguous legislation, but the interpretation must remain consistent with the legislation’s overall purpose and cannot cross the boundary into amendment. Courts must not choose between materially different policy solutions for which they are institutionally unsuited. These limits apply with particular force to taxing provisions because taxpayers must be able to foresee their liability. The controlled foreign companies provisions in the Income and Corporation Taxes Act 1988 could not be read as applying only to wholly artificial arrangements, as required by Cadbury Schweppes (Case C-196/04). The relevant provisions were therefore disapplied in favour of a company exercising its freedom of establishment.

Vodafone appealed against the Special Commissioners’ decision dated 26 July 2007 concerning HMRC’s enquiry into its corporation tax return for the accounting period ending 31 March 2001. HMRC sought to apportion to Vodafone the profits of its Luxembourg subsidiary, Vodafone Investments Luxembourg Sarl, under the controlled foreign companies provisions in sections 747 to 756 and schedules 24 to 26 of the Income and Corporation Taxes Act 1988.

The Special Commissioners were divided on whether the motive test in section 748(3) could be interpreted consistently with Articles 43 and 48 EC after the judgment of the European Court of Justice in Cadbury Schweppes (Case C-196/04). Mr Walters considered that an additional condition could be read into the legislation to exclude genuine establishments; Mr Wallace disagreed. The issue before the High Court was whether conforming interpretation could achieve that result, or whether the incompatible provisions had to be disapplied.

1. Appeal allowed. The CFC legislation, insofar as it purported to impose a charge on a company such as Vodafone in circumstances protected by the freedom of establishment, was disapplied. HMRC’s enquiry into Vodafone’s return had no legitimate purpose and was to be closed.
2. The motive test in section 748(3) of the Income and Corporation Taxes Act 1988, construed according to ordinary principles, was substantially subjective. It applied where obtaining a UK tax advantage was a main purpose of the relevant transactions and of the CFC’s existence. The subsection contained no words restricting it to CFCs which were artificial arrangements lacking genuine economic activity in the host Member State.
3. The Marleasing principle, arising through section 2 of the European Communities Act 1972, permits a court to imply words into domestic legislation, including unambiguous legislation, where necessary to secure conformity with Community law. The implied wording must go with the grain of the legislation. Interpretation must not become judicial amendment, must not contradict a fundamental feature of the statutory scheme, and must not require the court to select between competing policy solutions.
4. Reading an objective condition concerning genuine establishment into section 748(3) would replace its largely subjective test, render much of section 748(1) and Part II of Schedule 25 redundant, and create significant economic and political consequences. It would therefore amount to legislation rather than interpretation. The fact that the CFC legislation was an anti-avoidance scheme did not justify that implication.
5. Tax certainty reinforced that conclusion. The plain terms of section 748(3) could give taxpayers a misleading impression of the consequences of establishing a subsidiary in another Member State. A single solution applicable to taxpayers generally was required, and that solution could be provided only by Parliament or appropriate executive action.
6. The alternative argument that an artificial-arrangements limitation could be implied into “chargeable profits” in section 747(3) and (6), or derived from the exempt-activities provisions in section 748(1)(b) and Part II of Schedule 25, failed. Those provisions did not supply a permissible route to the proposed limitation.

1. High Court (Chancery Division) — appeal from the Special Commissioners’ decision dated 26 July 2007. The High Court allowed the appeal and directed that HMRC’s enquiry be closed.