B e f o r e :
MR. JUSTICE KENNETH PARKER
|| THE QUEEN on the application of ROBERT HUITSON
||- and -
||HER MAJESTY'S REVENUE AND CUSTOMS
(Transcript of the Handed Down Judgment of
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David Elvin QC and James Ramsden, (instructed by Hextalls Limited) for the Claimant
Rabinder Singh QC and Clive Sheldon (instructed by Her Majesty's Revenue and Customs) for the Defendant
Hearing dates: 19 & 20 January 2010
HTML VERSION OF JUDGMENT
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The Hon Mr Justice Kenneth Parker :
- This is a claim for judicial review brought by Mr Robert Huitson ("the Claimant"), who seeks to challenge under the Human Rights Act 1998 ("the HRA") sections 58(4) and (5) of the Finance Act 2008 ("the 2008 Act"). The Claimant contends that these sections of the 2008 Act are incompatible with Article 1 of the First Protocol ("A1P1") to the European Convention of Human Rights ("the ECHR"). The Defendant is Her Majesty's Revenue and Customs ("HMRC").
- The ground of challenge, which I shall later explain more fully, is that the relevant sections of the 2008 Act changed fiscal legislation regarding double taxation relief ("DTR") with retrospective effect, and that such retrospective amendment did not strike a fair balance as required by A1P1 of the ECHR and the material jurisprudence of the European Court of Human Rights ("the European Court") in relation to A1P1.
- Mr. Justice Beatson refused permission for this claim on the papers, but, after hearing oral argument on the renewed application, I granted permission, stating my reasons why I thought that the claim should be allowed to proceed.
- The Claimant is a self-employed IT consultant. He is, and has at all material times been, a resident of the United Kingdom for the purposes of taxation. As such, he would ordinarily account for income tax on the taxable profits of his trade or profession, and would claim any appropriate deductions, allowances or reliefs provided by the domestic legislation applicable to UK residents. The end users of the Claimant's services are all based in the UK.
- Until 2000 he might have sought to gain a tax advantage by supplying his services to end users through an intermediary (such as a company of which he was a majority shareholder and director). However the Finance Act 2000, Schedule 12, provided that workers supplying services through an intermediary should be treated "as if they were employees rather than self-employed persons for income tax and National Insurance contributions purposes". This legislation (known as the IR35 legislation from the name of the Budget Press Release in which the provisions were announced) was thought to have substantially reduced, if not eliminated, the tax advantages to self-employed persons of operating through intermediaries.
- On 20 June 2001 the Claimant became a client of Montpelier Tax Consultants (Isle of Man) Limited ("Montpelier"). Montpelier provided advice to the Claimant (and many other UK residents) with respect to a tax avoidance scheme centred on the Isle of Man, seeking to take advantage of the United Kingdom - Isle of Man Double Taxation Arrangement ("the DTA"). I shall briefly explain the tax avoidance arrangements in question.
- The arrangements comprise three elements, the Partnership, the Trust and the Consultancy Agreement. The Partnership, called the Allenby Partnership, is constituted by five companies (one of which is Crackington Limited) known as "Ordinary Partners", and a "Managing Partner". The Ordinary Partners (and the Managing Partner) are companies within the Montpelier Group, and are incorporated and resident in the Isle of Man. Each of the Ordinary Partners is trustee of a trust established in the Isle of Man. Crackington Limited is the trustee of the Robert Huitson Family Settlement ("the Trust"), the trust relevant to the Claimant. The Ordinary Partners, as trustees, agree to enter into partnership with the Managing Partner. Under Clause 8 of the Allenby Partnership the Managing Partner may engage any independent contractor as an adviser or consultant and may enter into any arrangements for the payment of any fees or other sums to such person. The Managing Partner also determines the distribution of partnership profits.
- The Allenby Partnership entered into a contract for services with the Claimant under which he agreed to provide electrical engineering consultancy services and advice, and to develop electrical engineering IT. Under that contract the Claimant received a fixed fee of £15,000 per annum, or such lesser sum as might be generated by his work for the Partnership.
- The Trust, of which the Claimant is the settlor, allows the trustee to carry on any trade or business, and Clause 5 provides that the trustee stands possessed of the income of the trust fund upon trust to pay the income to the settlor (the Claimant) during his lifetime.
- HMRC does not allege that these arrangements are a sham, that is, that they do not truly reflect the legal rights and obligations of the respective parties to them. In that sense the arrangements have genuine business efficacy. The Claimant could not, for example, claim that he was entitled to his "fair share" of the profits of the Partnership by virtue only of the services that he supplied to end users: under the arrangements his claim to such profits must be based upon the interest in possession that he enjoys under the Trust.
- On the other hand, HMRC submits - and this did not appear to be seriously disputed by Mr Elvin, QC, who appeared on behalf of the Claimant - that such elaborate arrangements would not have been entered into other than for the purpose of tax avoidance. The arrangements had no genuine commercial purpose. In the voluminous documentation relating to this claim no such purpose has been advanced, and I accept HMRC's submission on this point. The arrangements can, therefore, correctly be described as artificial.
- It is perhaps useful at this juncture to summarise the economic characteristics of the arrangements. The Claimant, resident in the UK, no longer supplies his IT consultancy services directly to his end user clients based in the UK, receiving from them in such circumstances full payment for such services by way of fees, royalties or other charges. Instead, an intermediary (the Partnership) contracts, directly or indirectly with end users to provide the Claimant's services. The intermediary receives full payment for such services. The Claimant receives from the intermediary an annual fee of £15,000 (or the lesser sum already mentioned), but receives the rest of his reward (less deductions for management expenses), for the services that he has in fact supplied to end users, only in his capacity as the owner of a life interest in the Trust.
- It is plain that the revenue actually generated by the Claimant's activities could well exceed £15,000, so that by far the largest part of his total economic reward would come to him through his life interest in the Trust.
- There is no dispute that the annual fee (£15,000) was subject to UK income tax; for that purpose it was irrelevant that the Claimant, as a UK resident carrying on his trade or profession in the UK, supplied his services to a non-resident intermediary (the Partnership). The tax avoidance focuses on the income channelled through the trust to the Claimant in his capacity as owner of a life interest. Until the relevant legislation was amended with retrospective effect, the Claimant contended that, as a result of the DTA and the legislation then applicable, the income channelled through the Trust was not subject to UK income tax. Indeed, it did not appear that it was even subject to tax in the Isle of Man because, although the trustee was resident there, the relevant income belonged, through the interest in possession in the Trust, to a person, the Claimant, who was not resident in the Isle of Man.
- The tax avoidance scheme, if it worked, would, therefore, appear to realise every taxpayer's dream of lawfully avoiding, or at least greatly reducing, income tax in any jurisdiction. By exploiting the arrangements, the Claimant over 7 years avoided income tax of £84,980, and reduced his effective tax rate to an average of 3.5 per cent. On the face of it this would appear to be a rather paradoxical result of a DTA exclusively aimed at avoiding double taxation.
- It is also immediately plain that the tax avoidance scheme, if it worked, would be singularly attractive to any person in the position of the Claimant, that is, any resident of the UK who, as a self-employed person, carried on a trade or profession here. So long as end users were content to contract with an intermediary, rather than with the actual provider of the services, and so long as professional rules did not preclude such intermediation (barristers, for example, need not apply), any UK self-employed trader could reduce his or her taxable income to a tiny fraction of what it would otherwise have been. I accept that very many would not do so, taking the view that the tax avoidance scheme was wholly artificial and perhaps thinking that as UK residents they should be paying UK income tax on the profits of their trade or profession. But, and the figures produced by HMRC confirm this, a substantial number would be attracted. By the time the challenged legislation was enacted there were about 2,500 taxpayers exploiting similar arrangements, and the amount of income tax at stake had risen to £100 million.
- In particular, the potential distortion of competition should not be overlooked. It is one thing to try to compete with, say, an IT consultant who is perhaps more experienced, efficient or skilled: it is entirely a different matter to seek to match a competitor who has the advantage of an effective income tax rate of 3.5 per cent. In my view, for various reasons, including the pressure of competitive disadvantage, such a tax avoidance scheme could be expected to have a very significant "bandwagon" effect, and, as I have stated, this is corroborated by the figures produced by HMRC.
The Applicable Legislation pre-Padmore
- It is convenient at this point to set out the legislative position preceding the case of Padmore v IRC  STC 36; affirmed  STC 493 ("Padmore").
- At all material times article 3(2) of the DTA has provided:
"The industrial or commercial profits of an Isle of Man enterprise shall not be subject to United Kingdom tax unless the enterprise is engaged in trade or business in the United Kingdom through a permanent establishment situated therein. If it is so engaged, tax may be imposed on those profits by the United Kingdom, but only on so much of them as is attributable to that permanent establishment."
At the time of Padmore the DTA took effect through Section 497(1) of the Income and Corporation Taxes Act 1970. That section is now section 788 of the Income and Corporation Taxes Act 1988 ("ICTA 1988") which provides, so far as is material:
"(1) If Her Majesty by Order in Council declares that arrangements specified in the Order have been [made in relation to any territory] outside the United Kingdom with a view to affording relief from double taxation in relation to -
(a) income tax,
(b) corporation tax in respect of income or chargeable gains, and
(c) any taxes of a similar character to those taxes imposed by the laws of that territory,
And that it is expedient that those arrangements should have effect, then those arrangements shall have effect in accordance with subsection (3) below.
(3) Subject to the provisions of this Part, the arrangements shall, notwithstanding anything in any enactment, have effect in relation to income tax and corporation tax in so far as they provide—
(a) for relief from income tax, or from corporation tax in respect of income or chargeable gains; or
(b) for charging the income arising from sources, or chargeable gains accruing on the disposal of assets, in the United Kingdom to persons not resident in the United Kingdom; or
(c) for determining the income or chargeable gains to be attributed—
(i) to persons not resident in the United Kingdom and their agencies, branches or establishments in the United Kingdom; or
(ii) to persons resident in the United Kingdom who have special relationships with persons not so resident; or
(d) for conferring on persons not resident in the United Kingdom the right to a tax credit under [section 397(1) of ITTOIA 2005] 5 in respect of qualifying distributions made to them by companies which are so resident."
- The application of double taxation agreements in general to partnerships is not free from difficulty, as is recognised in the Model Tax Convention on Income and on Capital ("the Model Tax Convention") of the Organisation for Economic Co-operation and Development ("the OECD"). In the commentary on Article 1 concerning the Persons Covered by the Convention, it is stated:
"2. Domestic laws differ in the treatment of partnerships. These differences create various difficulties when applying tax conventions in relation to partnerships. These difficulties are analysed in the report by the Committee on Fiscal Affairs entitled "The Application of the OECD Model Tax Convention to Partnerships", the conclusions of which have been incorporated below and in the commentary on various other provisions of the Model Tax Convention.
3. As discussed in that report, a main source of difficulties is the fact that some countries treat partnerships as taxable units (sometimes even as companies) whereas other countries adopt what may be referred to as the fiscally transparent approach, under which the partnership is ignored for tax purposes and the individual partners are taxed on their respective share of the partnership's income."
- Difficulties of this kind were sought to be addressed by definitions in the DTA. For example, "Isle of Man enterprise" was defined as:
"an industrial or commercial enterprise or undertaking carried on by a resident of the Isle of Man";
"Resident of the Isle of Man" was defined as:
"any person who is resident in the Isle of Man for the purposes of Isle of Man tax and not resident in the United Kingdom for the purposes of United Kingdom tax";
and (critically) "Person" was stated to include:
"any body of persons, corporate or not corporate" (my emphasis).
- Pre-Padmore, HMRC (strictly speaking, its predecessor body) took the view that in the DTA "person" did not include a partnership. That view relied on the definition of "body of persons" under purely domestic fiscal legislation (at that time section 526(5) of the Income and Corporation Taxes Act 1970), the language of which appeared fairly firmly to exclude partnerships. If that view had been correct, a partnership comprising persons resident in the United Kingdom, and carrying on business in the Isle of Man, would not have benefited from Article 3(2) of the DTA: although the partnership would have been an Isle of Man "enterprise" (in the sense of commercial undertaking), the relevant "persons" carrying on that enterprise, namely, the members of the partnership, would have been residents of the UK, not residents of the Isle of Man. Accordingly, the partners resident in the UK would have been properly taxed on the profits of the Isle of Man "enterprise".
- Furthermore, HMRC's view arguably gave better effect to the purposes of the DTA: it appears that under the Isle of Man's domestic fiscal legislation, a taxable "person" did not include a partnership; the relevant taxable persons were the partners; if the partners were not resident in the Isle of Man, but, say, in the UK, they were not subject to Isle of Man income tax. If, therefore, the UK granted the benefit of Article 3(2) to a putative Isle of Man "partnership", the result would be that the partners resident in the UK would not only avoid double taxation; they would avoid any income tax on the profits of the partnership.
- This specific issue was finally the subject of litigation in Padmore. The case in fact concerned the DTA with Jersey (see the Double Taxation Relief (Taxes on Income) (Jersey) Order 1952 SI 1952/1216), but this was (and remains) in materially the same terms as the DTA with the Isle of Man. Both the High Court (Peter Gibson J, as he then was) and a unanimous Court of Appeal (Fox, Stocker and Staughton LJJ) held that, for the purposes of the DTA, "person" did clearly include a partnership. Almost the same definition of "person" was found in section 19 of the Interpretation Act 1889, and under that Act a partnership was plainly a body of persons. The fiscal definitions of a "person" were expressly excluded by article 2(3) of the DTA.
- The result was that the partners in Padmore, almost all of whom were resident in the UK, escaped, by virtue of provisions intended to avoid double taxation, income tax on the profits of their trade or profession both in Jersey and the UK.
- It does not require great insight to see that this result would not be acceptable in terms of public policy. The Parliamentary response was indeed swift and decisive. By section 62(1) of the Finance (No 2) Act 1987 (enacted and brought into effect before the appeal in Padmore), it was provided:
"At the end of section 153 of the Taxes Act (partnerships controlled abroad) there shall be added the following subsections -
(4) In any case where -
(a) a person resident in the United Kingdom (in this subsection and subsection (5) below referred to as "the resident partner") is a member of a partnership which resides or is deemed to reside outside the United Kingdom, and
(a) by virtue of any arrangements falling within section 497 of this Act (double taxation relief) any of the income or capital gains of the partnership is relieved from tax in the United Kingdom,
the arrangements referred to in paragraph (b) above shall not affect any liability to tax in respect of the resident partner's share of any income or capital gains of the partnership."
- By section 62(2), subject to an exclusion for decided or pending litigation, the relevant amendment
"shall be deemed always to have been made."
In other words, the amendment had retrospective effect.
- The provisions of section 62 were subsequently re-enacted in ICTA 1988. The provisions relevant for the present claim were then replicated in section 858 of the Income Tax (Trading and Other Income) Act 2005 ("the 2005 Act"):
"(1) This section applies if -
(a) a UK resident ("the partner") is a member of a firm which -
(i) resides outside the United Kingdom, or
(ii) carries on a trade the control and management of which is outside the United Kingdom, and
(b) by virtue of any arrangements having effect under section 788 of ICTA ("the arrangements") any of the income of the firm is relieved from income tax in the United Kingdom.
The partner is liable to income tax on the partner's share of the income of the firm despite the arrangements."
- I note in passing that the enactment of section 62 and its successors does not appear to have caused the executive in the affected territories to protest that it conflicted with the purpose of the relevant DTAs.
- The response in Padmore, in my judgment, is of considerable importance to the present claim. Even assuming that the decision of the High Court in Padmore was correct as a matter of technical interpretation of the DTA, the result of the decision - that a UK resident could avoid UK income tax on the profits of his or her trade or profession - was plainly unacceptable in terms of UK public policy in fiscal affairs. Whatever the true meaning of the DTA, there was a wider rationale in terms of public policy: UK residents should pay UK income tax on the profits of any trade or profession; and a DTA, intended to relieve from double taxation, should not be used as an instrument either to avoid all taxation or to reduce it to well below the level that would be applicable to the relevant income in the country of residence.
- Two other features of the Parliamentary response in 1987 are also notable. First, Parliament did not wait for the outcome in the Court of Appeal or even, if leave were necessary and granted, in the House of Lords. It might have been argued that it would have been more "proportionate" to wait until a final and decisive judicial outcome had been achieved, and only then to decide whether any legislation and, in particular, any legislation with retrospective effect, was necessary or appropriate. That course, however, was not followed.
- Secondly, subject to the limited exception already mentioned, the legislation was given retrospective effect.
- It seems to me that these two features emphasised the importance that Parliament attached to the public policy to which I have referred. In my view, these events sent out a clear signal to taxpayers and their advisers that the legislature would be very likely to take effective and decisive steps to counter, even with retrospective measures, any attempt, through artificial arrangements, to take advantage of a double taxation arrangement, in particular, Article 3(2) of the double taxation arrangements with Jersey and the Isle of Man, in such a way that a UK resident would avoid, or very substantially reduce, the UK income tax on the profits of his or her trade or profession that would, in the absence of the artificial arrangements, otherwise have been payable.
- Mr Elvin QC contended that there were two aspects of the events leading to the enactment of section 62 that are particularly important. First, he submits that there was a common understanding at the time that "person" in the DTA did not include a partnership; and that section 62, therefore, did no more than restore to the text of the DTA the original meaning as commonly understood.
- Secondly, HMRC did first begin proceedings against taxpayers in order to vindicate the meaning of "person" in the DTA, as understood by HMRC; and those taxpayers who had succeeded in such proceedings were allowed, by the exception in section 62(5), to retain the fruits of victory.
- Given those two aspects, Mr Elvin accepted that any challenge at that time to section 62 under the ECHR would have had little, if any, prospect of success, even if the section had retrospective effect (and I note that no challenge appears to have been brought in respect of section 62 before the European Court, through the only legal avenue then available to the UK citizen).
- I shall return to the significance of these two points later in the judgment.
The Treatment of the Claimant
- I shall briefly describe how the Claimant was treated by HMRC.
- In his tax return dated 2002 (2001/2002 return), the Claimant claimed relief from UK income tax under article 3(2) of the DTA in the sum of £20,350.90, representing trust income. HMRC first wrote to the Claimant regarding his use of the tax avoidance scheme on 4 December 2003, but HMRC informed him that it was likely to challenge the validity of the claim only on 16 June 2004. No basis for challenge was mentioned. The Claimant was advised to make payment on account in respect of the disputed sum, so as to avoid the accrual of interest and the incurrence of a possible penalty.
- Similar correspondence followed in respect of the tax years 2002/2003, for which the Claimant claimed relief of £27,350; 2003/2004, for which he claimed relief of £32,405.71; and 2005, for which he claimed relief of £38,250.
- On 14 February 2006, that is, almost three years after receipt of the first of the disputed tax returns, HMRC set out reasons for the challenges to the claims for relief, referring to the authority of Baker v Archer-Shee  UKHL 1;  AC 844;  11 TC 749 ("Archer-Shee") and to section 739 ICTA 1988.
- On 16 May 2007 HMRC informed the Claimant that it was preparing a number of lead cases to take to the Special Commissioners regarding the validity of the claims to DTR.
- However, before the cases were listed before the Special Commissioners, the Government announced in its Budget of 12 March 2008 proposals to introduce what became section 58 of the 2008 Act, which came into force on 21 July 2008. Any assessment to income tax (in the absence of fraud or negligence) is limited to 6 years, so that the retrospective effect of section 58 extends, as a practical matter, no further than to the tax year 2001/2002.
- The Claimant has an outstanding tax liability of more than £100,000. At paragraph 13 of the Claimant's skeleton argument appeared the following:
"Fifty seven other scheme users cannot meet the tax demand, even if they were to sell all of their assets including their family home. Twenty nine scheme users could only settle by selling or re-mortgaging their family home. Several users face personal bankruptcy, and the related financial worry has caused mental health problems and marital breakdown".
The Efficacy of the Arrangements
- In the light of a central submission made by Mr Elvin QC (which I shall explain shortly), a significant amount of time was taken at the hearing before me on the question of whether the arrangements worked so as to avoid tax. For reasons that will emerge, I do not attach decisive importance to the answer to that question. Nonetheless for completion I shall, as briefly as possible, deal with the issue.
- In respect of the tax efficacy of the arrangements, the starting point is to consider whether the relevant income of the Claimant represented "the …. commercial profits of a Manx enterprise", within the meaning of article 3(2) of the DTA. At first impression and untrammelled by authority, I had some difficulty in seeing how the relevant income could be so characterised. The Claimant is not entitled to the profits, or any part of the profits of the relevant "Manx enterprise", that is, the Allenby Partnership. He is entitled to receive income only as the beneficiary (for life) of the Trust; and, although the income that he receives qua beneficiary of the Trust is ultimately derived from a share of the business profits of the Allenby Partnership, that income is not the same as the business profits earned by that Partnership.
- However, the Claimant (or more accurately, Montpelier, his tax adviser) relies upon the authority of Archer-Shee. In that case Lady Archer-Shee, a citizen of the United States, married to a person domiciled and resident in the United Kingdom, and herself domiciled (by dependence) in England and resident in the UK, was (as events turned out) the sole life tenant under her deceased father's will trust, constituted in the state of New York and administered under the laws of that state. The trust fund consisted of foreign government securities, foreign stocks and shares and other foreign property.
- Before 1914 residents of the UK paid income tax arising from foreign property only on that part of the income remitted to the UK. However, that changed, and at the period relevant to Archer-Shee the fiscal legislation drew a distinction between income "arising from stocks, shares or rents in any place out of the United Kingdom" and income "arising from possessions out of the United Kingdom, other than stocks, shares or rents". The first kind of income was taxable, whether or not remitted to the UK; the second kind was taxable only if remitted. Lady Archer-Shee contended that her income fell within the second category. The Crown said that it fell within the first category.
- This apparently straightforward issue provoked sharp judicial disagreement. Rowlatt J at first instance found in favour of the Crown, a unanimous Court of Appeal (Lord Hanworth MR, Warrington LJ and Sargant LJ) reversed in favour of the taxpayer. The Crown succeeded in the House of Lords by a bare majority (Lord Atkinson, Lord Wrenbury and Lord Carson; Viscount Sumner and Lord Blanesburgh dissenting). Accordingly, of the nine judges who heard the case, five found for the taxpayer.
- I have not found this case easy, particularly as the reasoning of Viscount Sumner (in the minority) appears to accord with orthodox equitable principles, whilst the reasoning of the majority seems to put a fair degree of strain (in a fiscal context) on those principles. Viscount Sumner identified the issue in the appeal: does the income of a trust fund "belong" to the beneficiary so that the beneficiary is chargeable as if it arose and accrued to him directly as his? In answer, he said:
"The trustee has the full legal property in the whole of the trust fund and the beneficiary has not…. The trustee is not the agent of the beneficiary who can neither appoint nor dismiss him. She cannot require him to change or forbid him to change the particular investments of the fund… It is the trustee alone who can give a discharge for interest, rent or dividends to the parties who have to pay them, in respect of the invested trust estate, nor need they know the beneficiary in the matter. All that the latter can do is to claim the assistance of a Court of Equity to enforce the trust and to compel the trustee to discharge it. This right is quite as good and often is better than any legal right, but it is not in any case one which for all purposes makes the trust fund "belong" to the beneficiary or makes the income of it accrue to him eo instanti and directly as it leaves the hand of the party who pays it. I do not understand that so far there was any contest. The [Crown's] argument is that whatever may be the legal position of the capital and the equitable position of the trustee and the cestui que trust as regards the right to the income, for Income Tax purposes the law is otherwise and that under the Income Tax Act and by virtue of some implication the "accrual" is to the beneficiary."  AC 844, at 850
However, Viscount Sumner continued:
"I have looked without success for either express words or a necessary implication that would enable the Revenue to tax a subject who is only an equitable tenant for life, as if she were both the beneficiary and the trustee in one, or to claim that securities and shares belong to her as to which she has only a right to compel the administration of the trust. [The relevant legislative provisions] clearly apply to legal owners, and if words properly apt to charge them are also to charge equitable owners it can be done only by ignoring the difference between law and equity." (at 851)
Viscount Sumner also pointed out the practical problems of the alternative view:
"There is only one tenant for life …. We hear of no matters in which a conflict between income and capital and their respective interests has arisen, nor of any business carried on by the trustee as to which the more complex case of trading profits would replace the plain case of dividends paid [a somewhat prescient observation, if I may respectfully note, given the issue in this claim]. If there had been annuitants with a prior right to be paid or several beneficiaries entitled to share in the income; if there had been beneficiaries who could claim that part of the annual receipts were in the nature of accretions to capital; if there was a trust for accumulation of a power to vary the amounts payable from time to time as between minors, the impracticability of saying that any or all of the beneficiaries entitled to income owned the whole or any part of that income from the moment it became payable and was paid, and to the full extent of the amount paid, would be evident. The same rule of "Income Tax Law" must, however, be applicable to all these cases." (at 853)
- In the event, as I have said, the alternative view prevailed, and it was held that the relevant investments, and the income arising from them, "belonged" to the life tenant in that case for the purposes of the relevant fiscal legislation. Lord Wrenbury stated that
"[Lady Archer-Shee's right is] an equitable right in possession to receive during her life the proceeds of the shares and stocks of which she is tenant for life. Her right is not to a balance sum, but to the dividends subject to deductions….." (at 866)
As one commentator has wryly observed, Lord Wrenbury was clearly conscious of the fiscal consequences of deciding the case differently.
- Archer-Shee was at the time acutely criticised by no less a scholar in modern equity than HG Hanbury (later, of course, a distinguished Vinerian Professor of Law at Oxford University), as being incompatible with equitable principle:  44 LQR 468 "A Periodical Menace to Equitable Principles"; and the doyen of academic writers on tax law, Professor Tiley, appears to doubt whether the ratio even for tax purposes should extend to an "active" trust. The case of trustees actively carrying on a business, the profits of which, after deduction of expenses and the making of any appropriate provisions, are distributed to a life tenant under the trust, would appear to be an active trust par excellence, if I have understood the concept correctly: Revenue Law, Sixth Edition 2008, at 29.3.1, especially footnote 45. Somewhat ironically, Lady Archer-Shee, whose forensic stamina against the taxman can only be described as epic, in the final event triumphed (again in the House of Lords, having this time convinced Rowlatt J but not a majority in the Court of Appeal) by showing that under the law of New York (which had been presumed to be the same as that of England) she was not, in the relevant sense, the owner of the income from the investments: Archer-Shee v Garland  UKHL 2;  AC 212. The irony was not lost on Lord Buckmaster, who noted that Viscount Sumner and Lord Blanesburgh may have imperfectly enunciated the English law (of equitable property), but they had managed
"to express with perfect clearness what we now know is the American law," (as proved by its leading academic expert on trusts, Professor Powell of Columbia University).
- In any event, Archer-Shee, whatever the strength of its theoretical underpinning, represents the law in many fiscal contexts. But it does seem to me that it remains questionable whether, and to what extent, Archer-Shee should be applied in every context, particularly if it were to produce unusual results.
- In particular, it does not seem to me that the result in Archer-Shee is necessarily determinative of the relevant issue in the present context, namely, whether on the true interpretation of Article 3(2) of the DTA, the "profits of a Manx enterprise" include income received by a person, not in his or her capacity as a partner of such an enterprise, but as a beneficiary in a trust to which the profits, or part of them, have been distributed. It is arguable, in other words, that in this context the income paid to the beneficiary is not the same as the profits of the enterprise that are the subject of article 3(2). The DTA is an international instrument, intended to prevent double taxation, and the rule in Archer-Shee, if that is the correct description, may require sensitive handling if it is to be applied for the interpretation of such an instrument.
- Mr Rabinder Singh QC, who appeared on behalf of HMRC, relied in this context on Pirelli Cable Holding NV v Inland Revenue Commissioners  UKHL 4;  STC 548. The facts were somewhat complex in that case, but I shall seek to summarise the legal issue. At the time relevant to the proceedings, if a company resident in the UK made a qualifying distribution (dividend), it paid advance corporation tax ("ACT") on the amount of the dividend, and then was entitled to set off the ACT so paid against its liability to mainstream corporation tax ("MCT"). The early payment of ACT tended adversely to affect cash flow. The individual shareholder resident in the UK who was paid the dividend was entitled to a tax credit (in the amount of the ACT) which he or she could set off against income tax liability on the dividend paid. However, by what was known as a "group election", interconnected bodies corporate, resident in the UK, could pay intra-group dividends without incurring liability to ACT, and accordingly no question of a corresponding tax credit arose in respect of such dividend payments. But a parent company resident outside the UK could not make a group election in respect of a dividend paid by a UK subsidiary company; nor, in the absence of DTR, was a tax credit available to the non-resident parent, and the ACT simply "stuck" with the group until it could be offset against MCT, tending adversely to affect group cash flow. Some DTAs (such as that with the Netherlands) allowed the foreign parent company to claim the tax credit or part of it (as if it were an individual shareholder resident in the UK). The foreign parent was, ex hypothesi, exempt from UK tax, and would reclaim the credit from HMRC, but would, of course, bring the full amount of the dividend (including the credit) into account in declaring its income in the country of residence. The DTA ensured that the parent company in effect paid tax only once, and in the right jurisdiction (where it was resident). However, the system of DTR plainly assumed a world in which the non-resident parent could not make a group election.
- This came to an end when the European Court of Justice held that the discriminatory treatment of foreign companies in the EU was unlawful. Affected companies then sought restitution, or compensation for loss. In the calculation of loss, the companies argued that the credits that they had in fact received should be left out of account, because the literal language of the relevant DTA entitled them to such credits in any event, whether or not they had made group elections.
- That argument was emphatically rejected by the House of Lords. The relevant provision of the relevant treaties was written in the context of a different world. If the new world were superimposed - in which the parent companies were putatively entitled to make a group election - the claimant companies could not also claim a tax credit, the entitlement to which was tacitly understood to depend upon the fact that foreign resident companies could not, and did not, make group elections.
- This appears to me a strong case in which the plain language of the DTA was in effect ignored and the DTA was given a purposive construction. Lord Nicholls said:
" So much is clear. The question before the House, however, requires one to inhabit a new and different world, a world where an election dividend may be paid to a non-resident company. How is art 10 [of the relevant DTA] to be read and understood in this new world? If art 10 is to be read literally I would agreed with Park J (see  EWHC 32 (Ch)  STC 250) and the Court of Appeal (Peter Gibson and Laws LJJ and Sir Martin Nourse) (see  EWCA Civ 1849,  STC 130) that a Netherlands resident parent would be entitled to a convention tax credit on an election dividend. That is the effect of the literal interpretation of art 10. But is this the proper interpretation?
 Article 10, like all documents, must be interpreted purposively….. "
Lord Walker said this:
" …. The evident purpose of S 788(3) (d) and of art 10 of the DTAs is to give a tax credit (of a certain sort) to a non-resident shareholder who receives dividend from a United Kingdom company. It is central to the concept of the United Kingdom granting a tax credit to the shareholder in respect of a dividend that some United Kingdom tax should have been paid (or at least payable) in respect of that dividend. It would be an abuse of language, and contrary to common sense, to speak of granting a tax credit when no such tax has been paid. Moreover the DTAs would not then, in this sort of situation, be relieving double taxation. It is the respondents, to my mind, who seek to adopt a selective reading of the relevant provisions of the 1988 Act by ignoring a central feature of the statutory scheme, that liability to pay ACT is a concomitant of a qualifying distribution".
- I agree with Mr Singh QC that it is not, to adopt the language of Lord Walker, an evident purpose of article 3(2) of the DTA in this case that the "profits of a Manx enterprise" should include not only the income of the partnership (if it is a legal entity) and the income of the partners from the partnership, but should also extend to a beneficiary of a trust that receives partnership profits, or part of them, at least if that beneficiary is not a resident of the Isle of Man. It is not immediately obvious that such an extension is required to ensure that such profits are not taxed twice over. On the other hand, such an extended application could potentially facilitate the avoidance of tax in both jurisdictions, which is self-evidently not a purpose of the DTA.
- Mr Singh QC also submitted that the tax efficacy of the arrangements failed as a result of section 739 ICTA 1988. That section provides:
"739 Prevention of avoidance of income tax
(1) Subject to section 747(4)(b), the following provisions of this section shall have effect for the purpose of preventing the avoiding by individuals ordinarily resident in the United Kingdom of liability to income tax by means of transfers of assets by virtue or in consequence of which, either alone or in conjunction with associated operations, income becomes payable to persons resident or domiciled outside the United Kingdom.
[(1A) Nothing in subsection (1) above shall be taken to imply that the provisions of subsections (2) and (3) apply only if -
(a) the individual in question was ordinarily resident in the United Kingdom at the time when the transfer was made, or
(b) the avoidance of liability to income tax is the purpose, or one of the purposes, for which the transfer was effected.]
(2) Where by virtue or in consequence of any such transfer, either alone or in conjunction with associated operations, such an individual has, within the meaning of this section, power to enjoy, whether forthwith or in the future, any income of a person resident or domiciled outside the United Kingdom which, if it were income of that individual received by him in the United Kingdom, would be chargeable to income tax by deduction or otherwise, that income shall, whether it would or would not have been chargeable to income tax apart from the provisions of this section, be deemed to be income of that individual for all purposes of the Income Tax Acts.
(3) Where, whether before or after any such transfer, such an individual receives or is entitled to receive any capital sum the payment of which is in any way connected with the transfer or any associated operation, any income which, by virtue or in consequence of the transfer, either alone or in conjunction with associated operations, has become the income of a person resident or domiciled outside the United Kingdom shall, whether it would or would not have been chargeable to income tax apart from the provisions of this section, be deemed to be income of that individual for all purposes of the Income Tax Acts.
(4) In subsection (3) above "capital sum" means, subject to subsection (5) below—
(a) any sum paid or payable by way of loan or repayment of a loan, and
(b) any other sum paid or payable otherwise than as income, being a sum which is not paid or payable for full consideration in money or money's worth.
(5) For the purposes of subsection (3) above, there shall be treated as a capital sum which an individual receives or is entitled to receive any sum which a third person receives or is entitled to receive at the individual's direction or by virtue of the assignment by him of his right to receive it.
(6) Income shall not by virtue of subsection (3) above be deemed to be that of an individual for any year of assessment by reason only of his having received a sum by way of loan if that sum has been wholly repaid before the beginning of that year."
- The application of section 739 is highly contentious. The author of "Technical Exchange" - Issue 63 of 31 July 2002 (a HMRC document) thought that "for technical reasons" it was extremely unlikely that HMRC could apply section 739 to the arrangements.
- It is common ground that relevant "assets" were transferred, namely, £1000 paid by the Claimant to the trustee of the Trust on its inception. By section 742 (9) (b) "assets" is defined widely to include property or rights of any kind and "transfer", in relation to rights, includes the creation of those rights. It would appear to me to accord more with the economic reality of the arrangements to conclude that the Claimant had created (transferred) the right in the Allenby Partnership to exploit his services as an IT consultant, and, by virtue of associated operations (the Trust), he had power to enjoy the profits of the Partnership.
- However, whatever view is taken of the relevant "assets", it is argued for the Claimant's position that for the purposes of section 739(1) no income becomes payable to a person resident outside the United Kingdom: the income of the trustee Partner "belongs" to the Claimant as the beneficiary of the Trust. This, of course, is the Archer-Shee point in another guise. If, as Viscount Sumner believed, the income "belonged" in the relevant sense to the trustee, a person not resident in the UK, there would be no difficulty in applying section 739(1), for the beneficiary of the trust would, by virtue of the interest in possession, have power to enjoy that income.
- The Claimant also relies upon section 788(3) of ICTA 1988 (see paragraph 19 above) which, it is argued, in effect disapplies section 739 where its application would conflict with the DTA. This issue has spawned a somewhat metaphysical debate as to whether the "notional" income under section 739 is different from the "real" income in the hands of the foreign resident, so that taxation of the "notional" does not conflict with relief of the "real". This distinction first surfaced in the decision of the Special Commissioners in IRC v Willoughby 1995 STC 143. However, I find this distinction difficult to square with the approach taken in Lord Strathalmond v IRC  I WLR 1511 and by the Court of Appeal in Bricom Holdings Ltd v IRC 1997 STC 1179. Without, of course, purporting to decide the point, it seems to me that the application of section 788 (3) must depend upon the proper construction and application of the relevant DTA. If, in this case, the relevant part of the profits of the Manx enterprise (the Partnership) did, on the correct interpretation of article 3(2), "belong" as income to the Claimant, as life tenant of the Trust, then to apply section 739 would be to subject those profits to UK income tax, contrary to article 3(2) of the DTA, and contrary to section 788 (3). However, that invites the question whether the profits did so "belong", and again raises the issue whether the rule in Archer-Shee determines the proper interpretation of article 3(2); and that authority, therefore, in my view, remains central to the whole analysis of the tax efficacy of the arrangements.
- Mr Singh QC also submitted that the phrase "member of a firm" at section 858 of the 2005 Act (see paragraph 28 above) includes a person in the position of the Claimant who was entitled to a share (especially a significant share) of the partnership's profits and/or
"a settler of trusts with the kind of fundamental role in the setting up and operation of the partnership as someone like the Claimant had " (Skeleton, paragraph 48).
- Mr Elvin QC launched a comprehensive and learned onslaught against this submission. He referred to section 1 of the Partnership Act 1890, which provides:
"Partnership is the relationship which subsists between persons carrying on a business in common with a view to profit."
This section put the established case law on a statutory footing, the leading case being Smith v Anderson (1880) 15 Ch D 247, where James LJ stated:
"An ordinary partnership is a partnership composed of definite individuals, bound together by contract between themselves to continue combined for some joint object either during pleasure or during a limited time, and is essentially composed of the persons originally entering into the contract with one another."
- Mr Elvin submitted that the sharing of a firm's profits, standing alone, is not sufficient to establish a partnership. Section 2(3) of the Partnership Act 1890 specifically provides:
"The receipt by a person of a share of the profits of a business is prima facie evidence that he is a partner in the business, but the receipt of such a share, or of a payment contingent on or varying with the profits of a business does not of itself make him a partner in the business; and in particular [of relevance to this case] - …..
(b) A contract for the remuneration of a servant or agent of a person engaged in business by a share of the profits of the business does not of itself make the servant or agent a partner in the business or liable as such."
- Mr Elvin QC rightly pointed out that section 2(3) reflected established case law, in particular, Badeley v Consolidated Bank (1888) 38 Ch D 238 especially at 258-259 by Lindley LJ (as he then was). He also referred to the modern classic description of the "characteristics of an ordinary English partnership" by Peter Gibson LJ in Memec v IRC  STC 754:
"(1) the partnership is not a legal entity; (2) the partners carry on the business of the partnership in common with a view to a profit …(3) each does so both as principal and (see s.5 of the 1890 Act) as agent for each other, binding the firm and his partners in all matters within his authority; (4) every partner is liable jointly with the other partners for all the debts and other obligations of the firm (see s.9 of the 1890 Act); and (5) the partners own the business, having a beneficial interest in the form of an undivided share in the partnership assets…including any profits of the business."
- Although, argued Mr Elvin QC, the absence of any one of these indicia may not negate the existence of a partnership, the absence of four of the five must be taken as (at least) strong evidence that no partnership existed: the trustees were the partners as a matter of law and the Claimant was no more than a beneficiary of the Trust which received income from the Partnership.
- This appeared to me to be a formidable argument. In response Mr Singh QC suggested that the rule in Archer-Shee could be taken to its logical limit: in effect the trustee simply drops out of the picture; everything being done by the trustee is deemed to be done by the owner of the interest in possession. At first impression, this struck me as a fiction too far, and I note that Viscount Sumner in Archer-Shee implicitly considered that the notion that the life tenant could be treated as carrying on a business in fact carried on by the trustees would be, to put the matter at its lowest, somewhat difficult to square with orthodox principles.
- The point is of some significance because, according to the evidence, it was the one upon which HMRC relied (from the end of 2007); and the Explanatory Notes to the relevant provisions of the Finance Bill (Clause 55: Double Taxation Arrangements: UK Residents and Foreign Partnerships) stated at paragraphs 16-17:
"The Government believes that a partner for the purposes of that legislation has always included all those persons entitled to a share of income or capital gains of the partnership. As such, the UK individuals remain liable to UK tax despite the elaborate, artificial structure designed to exempt them. This clause will put it beyond doubt that the legislation has always had that effect."
It is on this basis that Mr Singh QC submits that the challenged retrospective legislation does no more than make clear what the earlier legislation meant in any event (see paragraph 75(vii) below). HMRC did not waive any legal professional privilege that attached to any advice that they might have received from counsel on this issue. As I have said, on the material put before me, I have significant doubts whether "member of a firm" could extend to a person in the Claimant's position but, given the background, and the need to interpret anti-avoidance legislation in a strongly purposive manner, I could not rule out the possibility that, if the point had been litigated, HMRC might have succeeded in persuading the courts that its interpretation was correct.
- I would summarise the foregoing analysis as follows. The tax efficacy of the arrangements was far from clear cut. There were respectable arguments on both sides of the question. The rule in Archer-Shee has stood for a very substantial time: it was a powerful weapon in the hands of those relying on the arrangements. On the other hand, it appears to me that HMRC would have had strong purposive-based arguments that article 3(2) was not intended to apply to income received by a person behind the shelter of a trust, even if the income had its origins in the profits of a qualifying partnership, especially if the ultimate recipient of the income were not resident in the Isle of Man. Furthermore, the alternative possibility could not be ruled out that the courts would, for the purpose of anti-avoidance fiscal legislation, treat a person in the position of the Claimant as "a member of the firm" under section 858 of the 2005 Act. I do not believe that the outcome of any legal proceedings in respect of the arrangements would have been a foregone conclusion. They would, I believe, have been complex, protracted and costly.
The New Legislation: Section 58(3) of the 2008 Act
- The whole matter was in any event put beyond dispute by section 58(3) of the 2008 Act which provides:
"In section 858 of ITTOIA 2005 (resident partners and double taxation agreements), insert at the end -
"(4) For the purposes of this section the members of the firm include any person entitled to a share of income of the firm""
Further, section 58 provides that:
"(4) The amendments made by subsections (1) to (3) are treated as always having had effect.
(5) For the purposes of the predecessor provisions, the members of a partnership are to be treated as having included, at all times to which those provisions applied, a person entitled to a share of income or capital gains of the partnership.
(6) "The predecessor provisions" means -
(a) Section 153(4) and (5) of the Income and Corporation Taxes Act 1970 (c.10) (as it had effect under section 62(2) of F (No 2) A 1987, and
(b) Section 112(4) to (6) and 115(5) of ICTA"
- A1P1 provides that:
"Every natural or legal person is entitled to the peaceful enjoyment of his possessions. No one shall be deprived of his possessions except in the public interest and subject to the conditions provided for by law and by the general principles of international law.
The preceding provisions shall not, however, in any way impair the right of a State to enforce such laws as it deems necessary to control the use of property in accordance with the general interest or to secure the payment of taxes or other contributions or penalties"
- The following general propositions did not appear in dispute in this claim:
i) In securing the payment of taxes, a national authority must strike a "fair balance" between the demands of the general interest of the community and the requirements of the protection of the individual's fundamental rights, including the right that a person enjoys to "the peaceful enjoyment of his possessions": see, for example, National & Provincial Building Society and Others v United Kingdom (1998) 25 EHRR 127 at .
ii) In framing and implementing policies in the area of taxation, the State will enjoy "a wide margin of appreciation and the Court will respect the legislature's assessment in such matters unless it is devoid of reasonable foundation" (National & Provincial Building Society at ). The domestic analogue of the margin of appreciation is the discretionary area of judgment and is especially wide in the field of social and economic policy (see, for example, R v DPP, ex p Kebilene  UKHL 43  2 AC 326, at 380E - 381D (Lord Hope). It has been said that "greater deference will be due to the democratic powers where the subject matter in hand is peculiarly within their constitutional responsibility" (International Transport Roth GmbH v SSHD)  EWCA Civ 158;  QB 728, at  per Laws LJ. In Wilson v First County Trust Ltd (No 2) Lord Nicholls stated that the readiness of a court to depart from the views of the legislature depends upon the circumstances, "one of which is the subject matter of the legislation. The more this concerns matters of broad social policy, the less ready will be a court to intervene"  UKHL 40;  1 AC 816, at .
iii) Nonetheless the court will carefully examine all the relevant circumstances, including the history of challenged provisions, to determine whether a fair balance has been struck: see, for example, the detailed analysis by the European Court in James v United Kingdom  8 EHRR 123, at pages 143-148 of the judgment.
iv) These principles apply to tax legislation that is retrospective.
v) As regards retrospective legislation in particular:
"Retrospective legislation is not as such prohibited by [Article 1 of Protocol No 1]. The question to be answered is whether, in the applicants' specific circumstances, the retrospective application of the law imposed an unreasonable burden on them and thereby failed to strike a fair balance between the various interests involved" (MA and 34 Others v Finland (2003) 37 EHRR CD210)."
vi) The imposition of a tax is not devoid of reasonable foundation by reason only that it may have some retrospective effect: see, for example, R (on the application of Federation of Tour Operators, TUI UK Limited, Kuoni Travel Limited v Her Majesty's Treasury  EWHC 2062 (Admin) at 149; affirmed  EWCA Civ 752, where Stanley Burnton J (as he then was) said in that context that "the hurdle for the Claimants on A1P1 is very high" .
vii) Depending upon the specific circumstances of the case, it may be relevant to enquire whether the purpose of the retrospective legislation was to restore and reassert the original intention of the amended legislation (National & Provincial, where the original Parliamentary intent was clear, but the subordinate legislation, through a mere technical flaw, failed to give effect to that intention).
The Application of A1P1 to this Claim
- The following propositions seem to me incontrovertible:
i) It is a truth universally acknowledged that in contemporary society a state is entitled to impose income tax on any person who resides in the state in question and who earns income there (or indeed elsewhere), including income from the exercise of a trade or profession. The Model Tax Convention of the OECD explicitly recognises the importance of residence in the context of taxation of partnerships:
"6.1 One issue is the effect that the application of the provisions of the convention to a partnership can have on the taxation of the partners. Where a partnership is treated as a resident of a Contracting State, the provisions of the convention that restrict the other contracting State's right to tax the partnership on its income do not apply to restrict that other State's right to tax the partners who are its own residents on their share of the income of the partnership. Some states may wish to include in their conventions a provision that expressly confirms a contracting State's right to tax resident partners on their share of the income of a partnership that is treated as a resident of the other State."
No more than a cursory glance at UK fiscal legislation is needed to see that residence is the core connecting factor for the imposition of income tax.
ii) As a correlative to (i), any resident of a state must reasonably expect to be taxed by the state in question on the income that he or she earns there (or indeed elsewhere), including income from the exercise of a trade or profession.
iii) The expectation in (ii) has also an important moral dimension. As Mr Singh QC submitted, those who reside in a state and enjoy the safety and security that it offers, and all the other public goods that it makes available (such as a fair and efficient system of civil justice), can hardly complain if they must by law pay income tax to the state of residence.
iv) DTAs, including the DTA in this case, typically respect the principle of taxation in the state of residence, and seek to ensure that income tax is exacted by the state of residence and that persons are not taxed twice on the same income.
v) The fundamental purpose of DTAs is to avoid double taxation. It is not a purpose of DTAs to facilitate the complete avoidance of income tax in any jurisdiction, or to allow residents of a particular state to reduce the tax on their income to a level below that which would ordinarily be exacted by the state of residence.
vi) It is a legitimate and important aim of UK public policy in fiscal affairs that a DTA should do no more than relieve from double taxation, and that a DTA should not be permitted to become an instrument by which persons residing in the UK avoid, or substantially reduce, the incidence of income tax that they would ordinarily pay on their income, including income earned from the exercise of a trade or profession. That is particularly the case where the means chosen to exploit the DTA in that way comprises artificial arrangements.
vii) Such is the importance of the public policy in (vi) above that the UK legislature is entitled, and can reasonably be expected, to enact legislation to ensure that any relevant DTA does not become an instrument of tax avoidance in the sense identified in (vi) above.
viii) In principle, the policy in (vi) is of such importance that retrospective legislation may be justified, such as that which followed Padmore.
ix) The fact that, following Padmore, Parliament had legislated with retrospective effect put taxpayers and their advisers on notice that it might well do so again, if it believed that such legislation were necessary and appropriate to maintain the important public policy in (vi) above, especially if the means of exploiting the DTA comprised artificial arrangements.
x) On the Claimant's interpretation, the DTA in this case plainly and indisputably did more than relieve from double taxation. It allowed resident taxpayers, like the Claimant, substantially to reduce UK income tax that would otherwise have been payable by them on income from a trade or profession carried on in the UK. Such an interpretation plainly ran counter to the public policy in (vi) above, no less than the interpretation upheld by the courts in Padmore. The means of exploitation comprised artificial arrangements.
xi) At no time did HMRC accept the interpretation advanced by the Claimant, or by other taxpayers who were in a comparable position. On the contrary, HMRC challenged that interpretation.
xii) Nor did HMRC undertake not to bring proceedings in respect of the arrangements, or suggest to taxpayers that no legislation would be enacted in any event to put the matter beyond doubt, or suggest that any such legislation would have only prospective effect.
- Given these propositions, I see no basis for a claim that the Parliamentary response in this case was disproportionate. Parliament, in my view, was entitled to conclude that a rigorous application of the policy referred to in (vi) above was called for; that legislation was needed to put the effect of the DTA beyond doubt, and to prevent taxpayers resident in the UK from exploiting the relevant DTA in a way that would enable them substantially to reduce income tax that would otherwise be properly paid on income from the exercise of a trade or profession. Parliament was also entitled, having regard to the background that I have set out, to legislate with retrospective effect, particularly in order to ensure a "fair balance" between the interests of the great body of resident taxpayers who paid income tax on their income from a trade or profession in the normal way, and the taxpayers, like the Claimant, who had sought to exploit, by artificial arrangements, the DTA, in plain contravention of the important public policy set out above, and in full knowledge of how Parliament had maintained that public policy after Padmore.
- I turn now, however, to the specific reasons advanced by the Claimant why such a conclusion would be wrong.
The Claimant's Case
- Mr Elvin QC, who very ably and powerfully presented the Claimant's case, made three central submissions. First, he contended, seeking to distinguish the position from Padmore (see paragraphs 34 and 35 above), that the efficacy of the arrangements to avoid tax was practically assured, that HMRC apprehended this to be the position, and that such apprehension was the principal reason why HMRC did not promptly or at all bring legal proceedings in respect of the arrangements at any time before section 58(4) of the 2008 Act was enacted. In Padmore Parliament had stepped in to restore the original meaning of the DTA; in this case Parliament gave an entirely new and different meaning or effect to the DTA, and retrospectively.
- However, in my view, there is no such clear cut difference between the two scenarios. Pre-Padmore, there were two competing interpretations of the key term, "person", in the DTA. One interpretation was linguistic and textual: "body of persons" included a partnership, and the special tax definitions of "person", that would have avoided such a result, were expressly excluded for this purpose by the DTA. The other interpretation was purposive: even if "person" did not include a partnership, article 3(2) would still achieve its objective of relieving from double taxation; but if "person" did include a partnership, article 3(2) would do more, namely, facilitate non-taxation of profits which, on any view, were properly taxable in one or other jurisdiction.
- Neither interpretation was manifestly unreasonable and, viewed objectively, it was both uncertain which one was correct and also difficult to predict which one the courts would prefer. In the event in Padmore the courts adopted the linguistic and textual approach, and held that in the DTA the meaning of "person" included a partnership. That result was not acceptable in terms of public policy in respect of fiscal affairs: a DTA should do no more than relieve from double taxation; it should not become an instrument for wholly relieving from tax the income of a UK resident. Parliament stepped in to ensure that public policy was maintained, and with retrospective effect.
- In the present case there are also two competing readings of the DTA. The Claimant, relying upon Archer-Shee, contends that his income arising from his beneficial interest in possession retains its character as "profits of a Manx enterprise"; and for the same reason the income cannot be assessed to UK income tax under section 739 of ICTA 1988. However, it seems to me that if the courts had adopted a strongly purposive approach to interpreting article 3(2), in line with that followed by the House of Lords in Pirelli, the result could well have been different. Neither reading was manifestly unreasonable, and, viewed objectively; it was uncertain which one was correct and difficult to predict which one the courts would have preferred. Furthermore, the courts might have accepted that "member of a firm" included someone in the position of the Claimant, under section 858 of the 2005 Act. One thing was certain: the first reading was unacceptable for the same reasons of public policy as had prevailed following Padmore. Parliament again stepped in to maintain public policy, and again did so retrospectively.
- In any event, even if Mr Elvin QC had persuaded me that the arrangements worked under the DTA and the legislation then applicable, and that HMRC would inevitably have lost in any putative proceedings in respect of the arrangements, the outcome in this claim would be no different. It remained, for all the reasons already stated, within the permissible area of discretionary judgment of Parliament to legislate, with retrospective effect, to prevent taxpayers from using, by wholly artificial arrangements, the DTA for a purpose for which it was not intended, so as to defeat the public policy to which I have referred earlier. The importance of that public policy had already been brought home to taxpayers and their advisers by the legislative response following Padmore. HMRC had given no assurance that any legislative response in this case would be prospective only. In my view, even if the arrangements indisputably worked under the DTA and the legislation then applicable, taxpayers could reasonably have expected that Parliament would respond in a way that ensured fairness generally between all taxpayers resident in the UK, and that maintained the relevant public policy. Given the background, and the need to ensure fairness between all taxpayers, taxpayers could also have reasonably expected that the legislative response would have retrospective effect, as turned out to be the case.
- Secondly, Mr Elvin QC submits that, unlike in Padmore, HMRC lacked the courage of its convictions (if any) and failed over a long period to take appropriate proceedings in respect of the arrangements. HMRC ought, he argued, to have brought such proceedings and, if HMRC lost - as he maintains was inevitable - Parliament ought, as it did in Padmore, to have allowed the successful taxpayers to retain the fruits of victory. The failure to follow that route made the retrospective legislative response disproportionate.
- However, in my view, the state was not obliged to test the matter first in the courts before enacting legislation, even with retrospective effect. The public policy was of such paramount importance that legislation was necessary in any event to put the position beyond all doubt and to maintain the relevant public policy. Furthermore, for reasons already given, such litigation would probably have been protracted, costly and uncertain. At no time did HMRC indicate to affected taxpayers, including the Claimant, that they could safely rely upon the arrangements. On the contrary, HMRC consistently maintained that the arrangements did not work, and advised taxpayers to pay on account the income tax which HMRC said was properly due. Any prudent taxpayer who followed that advice would not now be prejudiced by the retrospective effect of the legislation. The circumstances here are wholly different from those in Beyeler v Italy (2001) 33 EHRR 52, where the public authorities by their conduct over many years had led the applicant to believe that the state would not exercise a right that it enjoyed, and the later exercise of the right conferred a specific unjust enrichment on the state at the expense of the citizen.
- Nor did HMRC represent, expressly or even impliedly, that legal proceedings would first be pursued before the enactment of any legislation, or that any legislation would not have retrospective effect. In so far as taxpayers may have relied upon the route previously travelled by HMRC and the legislature in Padmore, they did so at their own election and risk.
- Furthermore, taxpayers were not themselves powerless to bring the issue to a head if they so chose. They did not have to wait until HMRC brought proceedings in respect of the arrangements. Section 28A of the Taxes Management Act 1970 is in the following terms:
"28A Completion of enquiry into personal or trustee return
...1) An enquiry under section 9A(1) of this Act is completed when an officer of the Board by notice (a "closure notice") informs the taxpayer that he has completed his enquiries and states his conclusions.
In this section "the taxpayer" means the person to whom notice of enquiry was given.
(2) A closure notice must either-
(a) state that in the officer's opinion no amendment of the return is required, or
(b) make the amendments of the return required to give effect to his conclusions.
(3) A closure notice takes effect when it is issued.
(4) The taxpayer may apply to the Commissioners for a direction requiring an officer of the Board to issue a closure notice within a specified period.
(5) Any such application shall be heard and determined in the same way as an appeal.
(6) The Commissioners hearing the application shall give the direction applied for unless they are satisfied that there are reasonable grounds for not issuing a closure notice within a
- It was, therefore, open to any affected taxpayer to apply to the special commissioners for a direction under section 28A (4). If such a direction had been given, and the closure notice had been adverse, the taxpayer would have had an appealable decision. Mr Elvin QC did not suggest that, if such a direction had been sought at a time when HMRC had complete information about the arrangements made by the Claimant, and HMRC had had a reasonable opportunity to consider the legal consequences of such arrangements, an application under section 28A (4) would not have had strong prospects of success. Mr Elvin stressed the relative simplicity of the arrangements and that the Claimant had given complete information about them at a fairly early stage after submission of the first returns. In my view, therefore, the Claimant did not need to wait, but could himself have applied for a direction under section 28A (4), with reasonable prospects of success. If the closure notice had then proved adverse, the Claimant would have had a decision regarding his tax liability which he could have appealed in the usual way.
- There were perhaps tactical advantages perceived by taxpayers in not pursuing such a course. There was a chance that HMRC, left to its own devices, and unpressured by any application under section 28(4), might come round to accepting that taxpayers were right and that the arrangements were effective to avoid, or reduce, income tax. It might also have been thought that, with the passage of time and long inaction on the part of HMRC, the likelihood of retrospective measures receded, and it was safer to let sleeping dogs lie. However, if such tactical calculations were made, taxpayers simply ran the risk that at some point Parliament might legislate to put the matter beyond doubt, and might well do so, as in Padmore, retrospectively, and with effect in respect of the periods when taxpayers themselves had not taken steps to bring the question of the efficacy of the arrangements to adjudication.
- For these reasons, in my judgment, the failure of HMRC to bring proceedings in respect of the arrangements did not render the Parliamentary response in section 58(4) of the 2008 Act disproportionate.
- Thirdly, Mr Elvin QC submitted that no impact assessment was made before the enactment of section 58(4) of the 2008 Act, and that the failure to carry out such an assessment again made the retrospective response by Parliament disproportionate.
- It was not entirely clear to me what such an "impact assessment" would have entailed, and what purpose it would have served. HMRC knew with reasonable precision the numbers of taxpayers who had sought to obtain advantages from the arrangements, and the amount of income tax at stake. HMRC also knew that many, perhaps most, of the relevant taxpayers had not followed HMRC's advice to pay the disputed tax in advance. However, HMRC had made clear to taxpayers that it challenged the arrangements; HMRC gave no assurance that it would not bring proceedings in respect of the arrangements to recover tax that it claimed was properly due; and it gave no assurance that, if there were legislation, the legislation would not be retrospective. In these circumstances, it was for taxpayers to assess for themselves the risk inherent in not paying the tax in advance. The prudent would retain liquid funds to ensure that they could meet any future tax demand, including claims for interest. If, however, taxpayers chose to spend the whole, or a substantial part, of their net income on current consumption, making no, or inadequate provision for any future liability, or to invest part of it in illiquid assets that might decline in value, they did so at their own risk.
- Given the background, I see no justifiable basis for saying that HMRC was required to investigate what taxpayers had in fact done, whether they had, for example, prudently reserved for any future liability, or had spent the net income on present consumption or had invested in illiquid assets that, particularly in the light of the fall in asset prices following the credit crisis in 2008, could not now be realised to meet, in whole or part, the liabilities that would be unequivocally imposed by section 58(4) of the 2008 Act.
- I conclude, therefore, that the absence of any assessment of how individual taxpayers might be affected financially by the liability that would be imposed by section 58(4) of the 2008 Act cannot, in the circumstances of this case, affect the proportionality of the retrospective legislation.
- I note that, according to the evidence in this claim, HMRC intends to take into account financial hardship to taxpayers before seeking to enforce demands for tax and interest under section 58(4) in respect of past periods. No details are given. However, it could reasonably be expected that HMRC, in exercising any relevant discretion of this nature, would give substantial weight to the principle of equality of treatment and to the need to ensure fairness, first, between those taxpayers who, using the arrangements, prudently paid tax in advance or made adequate provision for any future liability and those who chose to run the risk of spending on current consumption or investing in illiquid assets; and, secondly, between those taxpayers, resident in the UK, who sought to benefit from the arrangements and the great body of UK resident taxpayers who steered clear of such arrangements. It may turn out that fairness in this broader sense could well significantly restrict the extent to which the individual financial circumstances of taxpayers, even if unfortunate and distressing, in practice relieves taxpayers from the liability imposed by section 58(4) of the 2008 Act.
- Therefore, for these reasons, I am not persuaded that, on analysis, any of the three points advanced by Mr Elvin QC has merit, and I hold that the challenged legislation, although having retrospective effect, is in the relevant circumstances proportionate and compatible with A1P1.
- Accordingly, I dismiss this claim for judicial review.