Hancock and another v Commissioners for Her Majesty’s Revenue and Customs

Where qualifying corporate bonds and non-qualifying corporate bonds are converted together into qualifying corporate bonds, each class of security is treated as undergoing a separate conversion for capital gains tax purposes. The aggregation of the securities into a single transaction or asset does not allow the accrued gain on the non-qualifying bonds to escape taxation.

The clear words principle does not require a literal construction of tax legislation. Context, statutory scheme and purpose remain relevant. A strained construction may exceptionally be adopted where the ordinary reading clearly contradicts Parliament’s intention, but that principle is unnecessary where the legislation, properly construed, already yields a clear answer.

The appellants exchanged shares in their company for loan notes which were not qualifying corporate bonds. Some notes were subsequently converted into qualifying corporate bonds. Both classes were then converted together into a single series of qualifying corporate bonds, which were redeemed for cash.

The First-tier Tribunal found against the taxpayers. The Upper Tribunal allowed their appeal by treating the final conversion as comprising separate transactions for each security. The Court of Appeal, [2017] EWCA Civ 198, restored the result adverse to the taxpayers through a purposive construction of the Taxation of Chargeable Gains Act 1992.

The central issue was whether the final transaction constituted one mixed conversion falling outside section 116(1)(b), or separate conversions which preserved the accrued gain on the non-qualifying bonds under the rollover provisions.

1. The appeal was dismissed unanimously. Lady Arden gave the judgment, with which Lord Reed, Lord Sumption, Lord Carnwath and Lord Briggs agreed. The conversion of the qualifying and non-qualifying corporate bonds had to be treated as separate conversions for the purposes of section 116(1)(b) of the Taxation of Chargeable Gains Act 1992. The potential gain on the non-qualifying bonds was therefore preserved under the rollover provisions and became chargeable when the replacement bonds were redeemed.

2. Whether there was one conversion or two was determined by applying the statutory scheme to the facts. The use of a single transaction did not mandate treatment as one conversion. Although the words “or include” in section 116(1)(b), and the provision for securities to be taken as a single asset in section 127, supported the appellants’ literal construction, that construction would inexplicably frustrate the policy of placing relevant reorganisations on the same rollover basis. A taxpayer could otherwise secure complete exemption by introducing even a nominal qualifying-bond element.

3. Section 132(3) showed that Parliament intended each security converted into a qualifying corporate bond to be viewed as undergoing a separate conversion. Sections 127 to 131 were expressly to apply with “necessary adaptations”. The single-asset treatment in section 127 therefore did not prevent separate treatment of the two classes. This construction gave effect to the scheme without recharacterising the parties’ transaction.

4. The clear words principle stated in WT Ramsay Ltd v Inland Revenue Comrs [1982] AC 300 was observed. It permits consideration of statutory context, scheme and purpose and does not confine a court to literal interpretation.

5. The principle in Luke v Inland Revenue Comrs [1963] AC 557 permits a strained interpretation where the ordinary reading clearly contradicts an intention found in the legislative wording. It may apply to tax legislation and is not confined to interpretations favouring taxpayers. Nothing in the judgment detracted from that principle, but resort to it was unnecessary because the relevant provisions were clear when properly construed.

1. United Kingdom Supreme Court: The taxpayers’ appeal was dismissed unanimously. The Court upheld the Court of Appeal’s conclusion that the accrued gain on the non-qualifying corporate bonds remained subject to rollover treatment.
2. Court of Appeal: In [2017] EWCA Civ 198, reported at [2017] 1 WLR 4717, the court rejected the taxpayers’ construction. It held that the two classes of loan notes should be treated separately so that the non-qualifying bonds did not escape capital gains tax.
3. Upper Tribunal: The tribunal allowed an appeal from the First-tier Tribunal. It held that the final conversion comprised separate transactions in relation to each security. It rejected HMRC’s argument based on WT Ramsay Ltd v Inland Revenue Comrs [1982] AC 300; HMRC did not appeal that ruling.
4. First-tier Tribunal: The tribunal rejected the taxpayers’ claim to exemption. Its citation is not stated in the judgment.