Lomas & Ors v HM Revenue and Customs

Statutory interest payable from an insolvency surplus under Rule 2.88(7) of the Insolvency Rules 1986 is not “yearly interest” for the purposes of section 874 of the Income Tax Act 2007. Although it is interest for tax purposes, it is a sui generis statutory entitlement. It does not accrue from day to day, arise until a surplus is established, or represent interest on a loan, investment or judgment debt. A statutory moratorium and the passage of more than a year are insufficient by themselves. Accordingly, payments of such statutory interest are not subject to deduction of income tax at source.

Lehman Brothers International (Europe) had been in administration since 15 September 2008 and was expected to have a substantial surplus after payment of proved debts. The joint administrators sought directions on whether statutory interest payable to creditors under Rule 2.88(7) of the Insolvency Rules 1986 constituted “yearly interest” under section 874 of the Income Tax Act 2007.

HMRC initially confirmed that tax need not be deducted, but later changed its position and contended that the interest was yearly interest because it related to a period exceeding one year. The central issue was whether the statutory character of the interest, rather than merely the period used in its calculation, brought it within section 874.

1. Nature of the entitlement. The court followed the analysis of David Richards J in Lomas v Burlington Loan Management Ltd, [2015] EWHC 2269, that Rule 2.88(7) creates a purely statutory entitlement arising only when a surplus exists after payment of proved debts. The entitlement does not accrue from time to time before distribution.
2. Meaning of yearly interest. Interest may be “yearly interest” where it is referable to a loan or investment intended to remain outstanding and attract interest over a tract of future time, with recurrence or capability of recurrence. The fact that interest is calculated at an annual rate, or relates to a period exceeding one year, is not sufficient.
3. Application to Rule 2.88(7). Statutory interest under the Rule involved no loan, investment, judgment debt, period of accrual or prospective expectation of accrual. The administration moratorium was imposed by statute and could not be treated as an agreement or accommodation between the parties. The statutory scheme for distributing a surplus therefore lacked the characteristics of yearly interest.
4. Authorities relied upon by HMRC. Barlow v CIR, 21 TC 354, Regal (Hastings) Ltd v Gulliver, (1944) 24 ATC 297, and Jefford v Gee, [1970] 2 QB 130, concerned interest arising from equitable obligations or judgment debts and did not govern the statutory entitlement in issue.
5. Disposition. The statutory interest payable under Rule 2.88(7) was not yearly interest within section 874. No obligation to deduct tax at source arose. Counsel were directed to agree an appropriate order.