Vocalspruce Ltd v HMRC

The appeal concerned the scope of section 84(2)(a) of the Finance Act 1996 and whether amounts realised on loan notes, which were subsequently appropriated to a company's share premium account under contractual and constitutional arrangements, were excluded from loan relationship profits for corporation tax purposes. The court considered (i) whether s.84(2)(a) applies to amounts merely ultimately required to be transferred to the share premium account or only to amounts that arise as premiums on the issue of shares, and (ii) whether paragraph 12 of Schedule 9 FA 1996 (the related transaction / single-company fictions) requires the whole series of interlinked transactions to be disregarded.

All members of the court dismissed the appeal. Two judges (Lewison LJ and Underhill LJ) concluded that the plain wording of s.84(2)(a) covers amounts required to be transferred to the share premium account (so the amounts were within s.84(2)(a) in principle) but that paragraph 12 of Schedule 9 required disregarding the whole inter-group transaction (including the share issue and capitalisation), so the section did not operate to exclude the relevant credit. Gross LJ reached the same outcome by a different route: he preferred a contextual, restrictive construction of s.84(2)(a) (so that the realised profit credited to profit and loss remained taxable) and also held that para.12, Sch.9, FA 1996 operated to disregard the related transaction.

Background and parties:

• Vocalspruce Limited (the appellant) appealed against an Upper Tribunal decision upholding a First-tier Tribunal decision that increased its taxable profit by £3,674,561 following an HMRC amendment to its corporation tax return for the accounting period ended 31 December 2004.
• The arrangements involved zero-coupon loan notes originally subscribed for by the parent company Brixton plc, assigned to the appellant in consideration for shares issued by the appellant at a premium, together with contractual and constitutional provisions requiring the directors to capitalise realised profits on the loan notes and appropriate them to the share premium account.

Nature of the application / relief sought:

• The appellant sought to overturn HMRC’s amendment and argued that s.84(2)(a) FA 1996 excluded from loan relationship credits amounts required to be transferred to the share premium account so that the realised profit was not brought into account for corporation tax.
• HMRC resisted the appeal and alternatively contended that paragraph 12 of Schedule 9 FA 1996 (the related-transaction / single-company fictions) meant the whole series of intra-group transactions should be disregarded so that s.84(2)(a) could not be invoked.

Issues framed by the court:

1. Issue (I): The true construction of s.84(2)(a) FA 1996 — whether it excludes credits which are ultimately required to be transferred to the share premium account, even if those credits are first realised and credited to profit and loss account.
2. Issue (II): If s.84(2)(a) would otherwise apply, whether para.12, Sch.9 FA 1996 requires the related transaction and its consequences (including any obligation to capitalise profits to share premium) to be disregarded for the purposes of Chapter II so that the exclusion in s.84(2)(a) cannot be relied upon.

Court’s reasoning and conclusions:

• The facts and accountancy treatment were agreed: the appellant, as assignee of the loan notes, credited the accrued profit to its profit and loss account under UK GAAP and then, pursuant to articles and resolutions, transferred that amount to the share premium account.
• On Issue (I) the court was divided on reasoning. Gross LJ accepted the tribunals’ contextual construction: s.84(2)(a) is limited to profits that arise by reason of being a share premium (for example where debt is extinguished in exchange for shares issued at a premium) and does not exclude profits realised and credited to profit and loss account merely because they are later appropriated to share premium account. Lewison LJ and Underhill LJ preferred a straightforward reading that s.84(2)(a) applies to any amounts required to be transferred to the share premium account and that temporary recognition in profit and loss does not prevent the exclusion.
• On Issue (II) the court was unanimous that paragraph 12 of Schedule 9 must be read as requiring the related transaction or series of transactions to be disregarded as a whole. That deeming includes the interlinked share issue and the contractual requirement to capitalise realised profits to share premium account; once those steps are disregarded (and the transferor and transferee treated as the same company), there is nothing remaining on which s.84(2)(a) can operate to exclude a loan relationship credit. The effect was that HMRC’s alternative case succeeded.

Result and wider context:

• The appeal was dismissed. The court noted the statutory and company-law background (s.130 CA 1985 / the share premium regime), that HMRC did not allege avoidance, and that the relevant legislation has since been substantially amended so the present decision is largely of historical interest.

The appeal is dismissed. The majority result turned on the effect of paragraph 12, Schedule 9, Finance Act 1996: the related-transaction deeming requires the relevant series of interlinked intra-group transactions (including the assignment, share issue and contractual capitalisation to share premium) to be disregarded as a whole, and on that footing the appellant could not invoke s.84(2)(a) to exclude the credit. Although the judges differed in their preferred construction of s.84(2)(a) itself, they agreed the appeal must fail because of the para.12 deeming.

Appeal from the Upper Tribunal (Tax & Chancery Chamber) (UT Decision released 19 June 2013), following the First-tier Tribunal decision (FTT Decision released 21 December 2011). Neutral citation of this Court of Appeal judgment [2014] EWCA Civ 1302.