Scottish Widows plc v Commissioners for Her Majesty's Revenue and Customs (Scotland)

The Supreme Court held that, for the purposes of section 83(2) of the Finance Act 1989, an "increase in value (whether realised or not) of [the long term business fund] assets" is to be measured by reference to the value "as brought into account for a period of account" in the insurer's regulatory revenue account (Form 40). The capital reserve created on demutualisation was a memorandum/accounting device within the long term business fund and did not consist of separate identifiable assets; amounts described as "transfers from Capital Reserve" and entered in line 15 of Form 40 therefore fell to be taken into account as receipts under section 83(2).

The court allowed Her Majesty's Revenue and Customs' cross-appeal and answered the referred question in the affirmative. Because the sums were caught by section 83(2), a consideration of section 83(3) was unnecessary, although the court added brief observations on the two-stage character of subsection (3).

This appeal arose from a joint referral (by Scottish Widows plc and HM Revenue and Customs) to the Special Commissioners under paragraph 31 of Schedule 18 to the Finance Act 1998. The narrow question was whether amounts described in the Company's regulatory returns as "transfers from Capital Reserve" and entered in line 15 of Form 40 for accounting periods ending in 2000, 2001 and 2002 fell to be taken into account as receipts in computing the Company’s Case 1 profit or loss.

Background and parties:

• The Company, a proprietary life assurance company formed to receive the business transferred from the mutual Scottish Widows' Fund and Life Assurance Society on 3 March 2000, carried on long term business in distinct sub-funds (with-profits and non-participating).
• On demutualisation a memorandum accounting entry called the Capital Reserve was created within the long term business fund to record shareholders' capital held within that fund.
• The Company sustained accounting losses in each of the relevant years but included substantial amounts described as transfers from that Capital Reserve in line 15 of Form 40 in its regulatory returns; HMRC disputed whether those entries were receipts for Case 1 tax purposes.

Procedural posture: The Special Commissioners answered the referred question in the affirmative for some issues; the First Division of the Court of Session considered both parties' appeals (reported at [2010] CSIH 47) and reached conclusions from which both sides appealed to the Supreme Court.

Issues framed by the Supreme Court:

1. Whether an "increase in value (whether realised or not) of [long term business fund] assets" in section 83(2) FA 1989 must be measured by reference to actual/commercial increases in market value or by reference to values "as brought into account for a period of account" in the relevant regulatory revenue account (Form 40) recognised for the purposes of section 83A; and
2. If not resolved by subsection (2), whether subsection (3) applied to amounts added to the long term business fund on transfer or demutualisation so as to require them to be treated as increases in value for the period when they were brought into account.

Reasoning and conclusion:

• The court emphasised the statutory wording: the items in section 83(2) are those "as brought into account for a period of account (and not otherwise)", and section 83A defines "brought into account" by reference to the revenue account required for regulatory purposes (Form 40 and any separate revenue accounts for parts of the business). The word "as" was read naturally to mean "in the manner or to the extent that" they are brought into account.
• Because insurers have long been permitted by regulation to use values shown in their books or other records for the regulatory investigation (regulation 45(6) of the 1994 Regulations and the equivalent FSA rule), the values the Company chose to bring into account on Form 40 determine the amounts to be treated as receipts under section 83(2). The court therefore held the contested entries were taxable receipts under section 83(2).
• The Capital Reserve was characterised as an accounting memorandum within the long term business fund (not a separate pool of identifiable assets). Transfers from it when brought into account in Form 40 are treated in the same way as other increases in values brought into account.
• Because subsection (2) captured the transfers, subsection (3) (which deals with amounts added to the long term business fund on transfer or demutualisation) did not need to be applied; the court nonetheless observed that subsection (3) is conceptually two-stage (addition to the fund on transfer, and subsequent bringing into account) and that Parliament had demutualisation in mind when enacting subsection (3).

Outcome: The Supreme Court allowed HMRC's cross-appeal, recalled the interlocutor of the Inner House, and answered the referred question in the affirmative: the "transfers from Capital Reserve" entered in Form 40 were to be taken into account as receipts under section 83(2) of the Finance Act 1989, with the consequence that the Company’s claimed Case 1 losses were disallowed to the extent of those entries.

The Supreme Court allowed Her Majesty’s Revenue and Customs' cross-appeal. It held that under section 83(2) Finance Act 1989 an "increase in value (whether realised or not) of [long term business fund] assets" is measured by reference to the value "as brought into account for a period of account" in the revenue account recognised for regulatory purposes (Form 40). The Capital Reserve was a memorandum account within the long term business fund and amounts described as transfers from it and entered in Form 40 fell to be taken into account as receipts under section 83(2), so the Company’s claimed Case 1 losses were reduced accordingly; because subsection (2) applied, consideration of subsection (3) was unnecessary.

The reference originated in a joint referral to the Special Commissioners under paragraph 31 of Schedule 18 to the Finance Act 1998. The Special Commissioners determined the referred question. The Company appealed and HMRC cross-appealed to the First Division of the Inner House of the Court of Session ([2010] CSIH 47), which refused the Company’s appeal and unanimously refused HMRC’s cross-appeal (Lord Emslie dissenting on some matters). Both sides then appealed to the Supreme Court, which allowed HMRC’s cross-appeal.