Commissioners for His Majesty's Revenue and Customs v Vermilion Holdings Ltd (Scotland)

Section 471(3) of the Income Tax (Earnings and Pensions) Act 2003 creates a bright-line rule. A securities option made available to an employee by that employee’s employer, or a person connected with the employer, is conclusively treated as available by reason of the employment, subject to the domestic, family or personal relationships exception.

The transaction must be examined to identify who conferred the right or opportunity. The employer’s reason for conferring it is irrelevant. The causal inquiry under section 471(1) arises only if the deeming provision does not apply. A taxpayer cannot use that causal inquiry to disapply section 471(3), since that would deprive the deeming provision of its intended effect.

Vermilion granted a supplier share option to Quest in 2006 in return for corporate advisory services. A rescue refinancing followed. After Mr Noble, Quest’s owner, became Vermilion’s executive chairman, the 2006 option was cancelled and Vermilion granted Quest a new option over a different class of shares. Mr Noble later became the option holder and exercised it.

HMRC treated the resulting gain as employment income and assessed Vermilion for PAYE and National Insurance contributions. The First-tier Tribunal held that the option was not employment-related. The Upper Tribunal reversed that decision under section 471(1) of the Income Tax (Earnings and Pensions) Act 2003. The Inner House allowed Vermilion’s appeal by a majority: [2021] CSIH 45.

The central issue was whether section 471(3) conclusively deemed the 2007 option to have been made available by reason of Mr Noble’s employment.

1. Appeal allowed unanimously. Lord Hodge, with whom Lord Lloyd-Jones, Lord Leggatt, Lord Burrows and Lady Rose agreed, held that the 2007 option was an employment-related securities option under section 471(3) of the Income Tax (Earnings and Pensions) Act 2003.

2. Section 471 employs two methods. Subsection (1) asks the causal question whether the right or opportunity to acquire the option was available by reason of employment. Subsection (3) avoids that inquiry where the employee’s employer, or a person connected with the employer, made the right or opportunity available. Consistently with Wicks v Firth, the subsection (1) inquiry is required only if subsection (3) does not apply.

3. Applying the guidance on deeming provisions in Fowler v Revenue and Customs Comrs [2020] UKSC 22, the extent of a statutory fiction depends primarily on the statute’s construction and purpose. The fiction must be applied as far as its purpose requires, including its inevitable consequences. It should not extend to effects clearly outside that purpose or, absent clear language, to unjust, absurd or anomalous results.

4. Section 471(3) creates a bright-line rule intended to avoid difficult causal disputes. The required inquiry is a straightforward examination of the agreement or transaction to identify who conferred the right or opportunity. It does not concern why the employer did so. Price v Revenue and Customs Comrs [2013] UKFTT 297 (TC), properly understood, supported that construction.

5. Vermilion cancelled the 2006 option and conferred on Quest a new option over a different class of shares while Mr Noble was Vermilion’s employee. The statutory deeming provision therefore applied. The previous option and the commercial reasons for replacing it could not convert the inquiry into one of causation.

6. The First-tier Tribunal and the Inner House majority erred by first answering the subsection (1) causal question and then treating that answer as a reason to restrict or disapply subsection (3). That approach deprived the deeming provision of substance. Its application produced no anomaly, absurdity or injustice. Vermilion’s reason for granting the new option was irrelevant.

1. United Kingdom Supreme Court: Allowed HMRC’s appeal unanimously and held that the 2007 option fell within section 471(3) of the Income Tax (Earnings and Pensions) Act 2003: [2023] UKSC 37.
2. Inner House of the Court of Session: By a majority, allowed Vermilion’s appeal from the Upper Tribunal. The Lord President dissented: [2021] CSIH 45.
3. Upper Tribunal: Allowed HMRC’s appeal on the basis of section 471(1), without deciding the application of section 471(3).
4. First-tier Tribunal: Held that the 2007 option was not an employment-related securities option and rejected HMRC’s assessments.