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You are here: BAILII >> Databases >> England and Wales Court of Appeal (Civil Division) Decisions >> BlackRock HoldCo 5, LLC v Commissioners for His Majesty's Revenue and Customs [2024] EWCA Civ 330 (11 April 2024) URL: https://www.bailii.org/ew/cases/EWCA/Civ/2024/330.html Cite as: [2024] WLR(D) 159, [2024] EWCA Civ 330, [2024] 4 All ER 649, [2024] STC 740, [2024] BTC 12 |
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ON APPEAL FROM THE UPPER TRIBUNAL (TAX AND CHANCERY CHAMBER)
MR JUSTICE MICHAEL GREEN AND JUDGE RUPERT JONES
[2022] UKUT 199 (TCC)
Strand, London, WC2A 2LL |
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B e f o r e :
LORD JUSTICE NUGEE
and
LADY JUSTICE FALK
____________________
 BLACKROCK HOLDCO 5, LLC | Appellant |
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| - and – |
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| THE COMMISSIONERS FOR HIS MAJESTY'S REVENUE AND CUSTOMS |
Respondents |
____________________
David Ewart KC and Sadiya Choudhury KC (instructed by HMRC Solicitors Office and Legal Service) for the Respondents
Hearing dates: 5 and 6 March 2024
____________________
VERSION OF APPROVED JUDGMENT
Crown Copyright ©
Lady Justice Falk:
INTRODUCTION
BlackRock group acquired the worldwide business of Barclays Global Investors ("BGI") for approximately US $13.5 bn, comprising $6.6 bn in cash and the balance in shares in BlackRock, Inc. ("BRI"), the group's parent company. The parties agreed that, out of the total consideration due, the amount that would be paid for BGI's US business ("BGI US") would be $2,252,590,706 in cash and BRI shares worth $8.5 bn (the "BRI Shares").
BlackRock used to acquire BGI US, and specifically the deductibility for UK tax purposes of interest payable on $4 bn of intra-group loans put in place for that purpose. HMRC challenged the claim to deduct on two grounds, namely (1) the transfer pricing rules in Part 4 of the Taxation (International and Other Provisions) Act 2010 ("TIOPA") (the "Transfer Pricing issue"), and (2) the unallowable purpose rule in s.441 of the Corporation Tax Act 2009 ("CTA 2009") (the "Unallowable Purpose issue"). In outline, HMRC's position on the Transfer Pricing issue is that the loans would not have been made at all between parties acting at arm's length, such that relief should be denied on that basis. On the Unallowable Purpose issue HMRC maintain that relief should alternatively be denied because securing a tax advantage was the only purpose of the relevant loans.
HMRC's appeal on both issues and confirmed HMRC's amendments to the relevant tax returns that denied the deductions ([2022] UKUT 199 (TCC)) (the "UT Decision").
BlackRock HoldCo 5, LLC ("LLC5"), and David Ewart KC and Sadiya Choudhury KC for HMRC.
The acquisition structure
viewed pictorially, and is included as an Appendix to this decision in a form reproduced from the UT Decision. BlackRock Financial Management, Inc. ("BFM"), shown as the parent company in the structure, was an existing Delaware corporation and an indirect wholly owned subsidiary of BRI. The acquisition structure involved the formation of three further entities which were incorporated in Delaware as limited liability companies ("LLCs"), namely BlackRock HoldCo 4, LLC ("LLC4"), LLC5 and BlackRock HoldCo 6, LLC ("LLC6"). In outline, BFM became the sole member of LLC4 and LLC4 became the sole member of LLC5. Both LLC4 and LLC5 became members of LLC6. It was LLC6 that acquired BGI US, by acquiring all of the outstanding shares in Delaware Holdings, Inc., the existing owner of BGI US, from the Barclays group.
LLC6 in the following manner:
a) BFM contributed $2,252,590,706 in cash and the BRI Shares to LLC4.
b) LLC4 contributed $2,144,788,229 in cash and the BRI Shares to LLC5 in return for 100 common (that is, ordinary) shares in LLC5 and the issue by LLC5 of loan notes in four tranches totalling $4 bn (the "Loans").
c) LLC4 also contributed the balance of the cash, being $107,802,477, to LLC6 in return for the issue of 100,000 common shares in LLC6.
d) LLC5 contributed $2,144,788,229 in cash and the BRI Shares to LLC6 in return for the issue of 2,400,000 preference shares in LLC6.
LLC6 were entitled to 216 votes for each common share. The holders of the preference shares in LLC6 were entitled to one vote for each preference share. The effect was that LLC4 held 90% of the voting power in LLC6.
LLC6 stated that its board would determine in its sole and absolute discretion the amount of Available Assets (as defined) that were available for distribution and the amount, if any, of such Available Assets to be distributed to members in accordance with the following order of priority:
a) A total annual distribution of $300 per preference share (amounting to $720,000,000 on the basis of 2,400,000 shares).
b) A total annual distribution of $20 per common share (amounting to $2,000,000 on LLC4's 100,000 common shares), but no such distribution to be made unless and until all preference dividends for such period had been paid.
c) Any unpaid amounts of either preference or common dividends would be carried forward, with interest.
(Section 6.1 also gave the board of LLC6 the power, once these entitlements had been satisfied, to make additional distributions simultaneously to the holders of both classes of share, but on the basis that the amount distributed per preference share was four times the amount distributed per common share.)
LLC5 would be entitled to the vast majority of the distributions from LLC6, and to priority over distributions paid to LLC4. However, LLC4 controlled LLC6, and therefore could control whether it made any distributions.
LLCs, unlike regular corporations, may elect to be disregarded for tax purposes. Each of LLC4, LLC5 and LLC6 made such an election. The effect of those elections included that transactions between those entities, including the Loans, fell to be ignored for US tax purposes.
LLC5 was resident for tax purposes in the UK by virtue of being managed and controlled here. Unlike the position for US tax purposes it did not fall to be disregarded for UK tax purposes, and was treated as an entity subject to UK corporation tax.
LLC5 to deduct interest on the Loans made to it by LLC4 in its corporation tax returns. If those claims were properly made they would give rise to losses (strictly, non-trading deficits on loan relationships) which could be surrendered to UK members of the BlackRock group to set against their own taxable profits. LLC5 sought to make such surrenders, and in accordance with the usual policy of the BlackRock group did so for no consideration. (LLC5 had no taxable income because its receipt of dividends on the preference shares was exempt from tax.)
Other relevant facts in outline
5 that they were both "credible, truthful witnesses who at all times sought to assist the Tribunal". Further, para. 9 expressly refers to making "the following additional findings of fact" to expand on those set out in a statement of agreed facts. The structure of the decision suggests that that comment covers the following sections up to para. 54.
LLC6, with LLC4 rather than LLC5 having voting control of LLC6, was introduced because of concerns that the US financial regulator might have about a UK resident controlling a US bank, together with compliance-related concerns about the UK Treasury consent and UK controlled foreign company rules (para. 24). Those concerns had arisen in the context of an earlier proposal involving two rather than three LLCs, under which a UK tax resident LLC would itself acquire BGI US, and would be wholly owned by one further (non-UK resident) LLC owned by BFM (para. 21). It is not suggested that the UK related concerns themselves connote any tax avoidance purpose.
LLC6 and BGI US that were not there in the actual transaction (para. 103, reflecting an agreement of the experts recorded at para. 77 and a further finding at para. 89). The FTT also accepted the evidence of BlackRock's expert that such covenants would have been forthcoming (para. 102).
LLC5 approved the proposal to take the steps relevant to that entity at a meeting held on 30 November 2009, one day before the acquisition of BGI US completed. While it is common ground that the structure outlined above was devised, and LLC5 was incorporated, in accordance with tax advice that anticipated that UK tax advantages could be obtained, BlackRock's position is that this is not relevant to the Unallowable Purpose issue because that is concerned solely with the subjective purpose of LLC5, determined by reference to the intentions of the board members. In that connection the FTT found that LLC5 "entered into the Loans in the furtherance of the commercial purpose of its business of making and managing passive investments" (para. 121). Although the FTT also found that the securing of a tax advantage was "an inevitable and inextricable consequence" and on that basis was itself a main purpose, BlackRock say that was an error of law because the board had left the anticipated tax advantages out of account in deciding whether to approve the transaction.
LLC5 was funded took account of the need to ensure that LLC5 was not "thinly capitalised", meaning having insufficient equity to justify the level of debt it took on.
THE TRANSFER PRICING ISSUE
The issues
HMRC's appeal on the Transfer Pricing issue on the basis of an argument that was not raised in the FTT, namely that in determining whether an independent lender would be prepared to lend, the transfer pricing provisions do not permit the existence of third-party covenants to be hypothesised where those covenants are not present in the actual transaction. LLC5 challenges that conclusion as Ground 1 of its appeal.
HMRC defend the UT Decision and also rely on an additional ground by way of Respondent's Notice, namely that the UT erred in holding that the FTT had been entitled to conclude on the basis of the expert evidence before it that an independent lender would have entered into the Loans subject to it being able to obtain the necessary covenants; and that the covenants would have been forthcoming (HMRC's Ground 1).
Relevant legislation
"147 Tax calculations to be based on arm's length, not actual, provision
(1) For the purposes of this section "the basic pre-condition" is that—
(a) provision ("the actual provision") has been made or imposed as between any two persons ("the affected persons") by means of a transaction or series of transactions,
(b) the participation condition is met (see section 148),
(c) …, and
(d) the actual provision differs from the provision ("the arm's length provision") which would have been made as between independent enterprises.
(2) Subsection (3) applies if—
(a) the basic pre-condition is met, and
(b) the actual provision confers a potential advantage in relation to United Kingdom taxation on one of the affected persons.
(3) The profits and losses of the potentially advantaged person are to be calculated for tax purposes as if the arm's length provision had been made or imposed instead of the actual provision."
"151 "Arm's length provision"
(1) In this Part "the arm's length provision" has the meaning given by section 147(1).
(2) For the purposes of this Part, the cases in which provision made or imposed as between any two persons is to be taken to differ from the provision that would have been made as between independent enterprises include the case in which provision is made or imposed as between two persons but no provision would have been made as between independent enterprises; and references in this Part to the arm's length provision are to be read accordingly."
LLC4 to LLC5, that the "participation condition" is met by virtue of LLC4's control of LLC5 (in the terms of the legislation, LLC4 was "directly participating in the management, control or capital" of LLC5) and that the Loans did confer a "potential advantage" in relation to UK taxation.
"152 Arm's length provision where actual provision relates to securities
(1) This section applies where–
(a) both of the affected persons are companies, and
(b) the actual provision is provision in relation to a security issued by one of those companies ("the issuing company").
(2) Section 147(1)(d) is to be read as requiring account to be taken of all factors, including–
(a) the question whether the loan would have been made at all in the absence of the special relationship,
(b) the amount which the loan would have been in the absence of the special relationship, and
(c) the rate of interest and other terms which would have been agreed in the absence of the special relationship…
(3) Subsection (2) has effect subject to subsections (4) and (
(4) If—
(a) a company ("L") makes a loan to another company with which it has a special relationship, and
(b) it is not part of L's business to make loans generally,
the fact that it is not part of L's business to make loans generally is to be disregarded in applying subsection (2).
(
(6) The matters are—
(a) the appropriate level or extent of the issuing company's overall indebtedness,
(b) whether it might be expected that the issuing company and a particular person would have become parties to a transaction involving—
(i) the issue of a security by the issuing company, or
(ii) the making of a loan, or a loan of a particular amount, to the issuing company, and
(c) the rate of interest and other terms that might be expected to be applicable in any particular case to such a transaction."
"154 Interpretation of sections 152 and 153
…
(3) "Special relationship" means any relationship by
(4) Any reference to a guarantee includes—
(a) a reference to a surety, and
(b) a reference to any other relationship, arrangements, connection or understanding (whether formal or informal) such that the person making the loan to the issuing company has a reasonable expectation that in the event of a default by the issuing company the person will be paid by, or out of the assets of, one or more companies.
(
(a) one of A and B is directly or indirectly participating in the management, control or capital of the other, or
(b) the same person or persons is or are directly or indirectly participating in the management, control or capital of each of A and B.
(6) "Security" includes securities not creating or evidencing a charge on assets.
…"
LLC4 and LLC5 through the former's control of the latter. It is also undisputed that the third party covenants that the FTT found would have been in place in an arm's length transaction would not be "guarantees" within s.154(4).
"164 Part to be interpreted in accordance with OECD principles
(1) This Part is to be read in such manner as best secures consistency between—
(a) the effect given to sections 147(1)(a), (b) and (d) and (2) to (6), 148 and 151(2), and
(b) the effect which, in accordance with the transfer pricing guidelines, is to be given, in cases where double taxation arrangements incorporate the whole or any part of the OECD model, to so much of the arrangements as does so.
….
(3) In this section "the OECD model" means—
(a) the rules which, at the passing of [the Income and Corporation Taxes Act 1988] (which occurred on 9 February 1988), were contained in Article 9 of the Model Tax Convention on Income and on Capital published by the Organisation for Economic Co-operation and Development, or
(b) any rules in the same or equivalent terms.
…"
LLC5's accounting periods ended 30 November 2010, 31 December 2010 and 31 December 2011 the relevant version of the OECD guidelines is that published in 1995, and for the periods ended 31 December 2012 to 31 December 2015 inclusive, the version published in 2010.
versions of the guidelines were published in 2017 and 2022. Although those later guidelines are not strictly applicable there was no dispute between the parties that we can consider them on the basis that (so far as they are relevant to this case) they simply elucidate or expand on points made in earlier versions. Indeed, both parties relied on the 2022 version on that basis.
The OECD guidelines
versions of the OECD guidelines explains that what Article 9 of the model convention seeks to do is to adjust profits by reference to "the conditions which would have obtained between independent enterprises in comparable transactions and comparable circumstances" (a comparable "uncontrolled transaction", as opposed to the actual "controlled transaction"). The 2010 version adds that this comparability analysis is at the "heart of the application of the arm's length principle", while explaining at para. 1.9 that there are cases, for example involving specialised goods or services or unique intangibles, where a comparability analysis is difficult or complicated to apply.
version states:
"Application of the arm's length principle is generally based on a comparison of the conditions in a controlled transaction with the conditions in transactions between independent enterprises. In order for such comparisons to be useful, the economically relevant characteristics of the situations being compared must be sufficiently comparable. To be comparable means that none of the differences (if any) between the situations being compared could materially affect the condition being examined in the methodology (e.g. price or margin), or that reasonably accurate adjustments can be made to eliminate the effect of any such differences. In determining the degree of comparability, including what adjustments are necessary to establish it, an understanding of how unrelated companies evaluate potential transactions is required. Independent enterprises, when evaluating the terms of a potential transaction, will compare the transaction to the other options realistically available to them, and they will only enter into the transaction if they see no alternative that is clearly more attractive. For example, one enterprise is unlikely to accept a price offered for its product by an independent enterprise if it knows that other potential customers are willing to pay more under similar conditions. This point is relevant to the question of comparability, since independent enterprises would generally take into account any economically relevant differences between the options realistically available to them (such as differences in the level of risk or other comparability factors discussed below) when
Similar text appears at paras. 1.33 and 1.34 of the 2010 version.
version expands on the concept of differences as follows:
"… In order to establish the degree of actual comparability and then to make appropriate adjustments to establish arm's length conditions (or a range thereof), it is necessary to compare attributes of the transactions or enterprises that would affect conditions in arm's length dealings. Attributes that may be important include the characteristics of the property or services transferred, the functions performed by the parties (taking into account assets used and risks assumed), the contractual terms, the economic circumstances of the parties, and the business strategies pursued by the parties…"
Again, this is reflected in the 2010 version, at para. 1.36. For present purposes, the references to functions, risk and economic circumstances are noteworthy.
version). As part of this, the guidelines identify the relevance of risks assumed by the parties:
"… Controlled and uncontrolled transactions and entities are not comparable if there are significant differences in the risks assumed for which appropriate adjustments cannot be made. Functional analysis is incomplete unless the material risks assumed by each party have been considered since the assumption or allocation of risks would influence the conditions of transactions between the associated enterprises." (Para. 1.23 of the 1995
versions give two examples of when, exceptionally, this might be done (paras. 1.36 to 1.38 of the 1995 version; paras. 1.64 to 1.66 of the 2010 version). The first is where the economic substance of a transaction differs from its form, the classic example being debt that in economic substance amounts to equity. The second is a situation where the arrangements differ from those that would be entered into by commercially rational independent parties and the effect is to impede the application of transfer pricing principles, an example being a transfer of unlimited rights to intellectual property relating to future research. It was not suggested that either of these exceptions is in point.
version.
version of the OECD guidelines in relation to two points. The first is the treatment of synergies available from membership of a group. The guidelines clarify that incidental benefits arising from group membership need not be adjusted for even if they are substantial. The example is given of an improved credit rating available to a borrower by virtue of membership of a group, as compared to what it would be on a standalone basis (paras. 1.177, 1.178 and 1.184 of the 2022 version). This point is also addressed in both the 1995 and 2010 versions at para. 7.13.
56 of the 2022 version notes that where a parent grants a loan to a subsidiary the grant of security is less relevant to its risk analysis because it already has control and ownership, such that the absence of contractual rights over the assets of the borrower "does not necessarily reflect the economic reality of the risk inherent in the loan". The same section also addresses covenants, pointing out (in effect) that the drivers leading to covenants being required at arm's length may not be present in an intra-group context and that it will be appropriate to consider whether there is in practice the "equivalent" of covenants (para. 10.86).
The FTT Decision
BlackRock and Simon Gaysford for HMRC. Mr Ashley had had significant experience in treasury management and the debt capital markets. Mr Gaysford did not have debt capital market experience. His expertise was as an economist.
LLC5 but would have required covenants from LLC5 to do so" (para. 69 of the FTT Decision). This was reiterated at para. 77 in the following terms, by reference to a joint statement and Mr Gaysford's report:
"… the experts agree that it would have been possible for
various types of covenant, but he agreed in oral evidence that the "critical ones" were:
"(1) Additional debt covenant restricting the amount of debt that could be raised at
(2) Provision of additional covenants (e.g. preference share payment covenant from
Other covenants on Mr Ashley's list included negative pledges restricting LLC6's ability to makes loans to LLC4 or other group entities and the ability of LLC6 and BGI US to grant security to other lenders.
"In evidence Mr Ashley also agreed that a covenant would be required to ensure that
value of LLC5".
"f. The preference share structure was unusual but not necessarily problematic given BGI US was already a successfully performing business. The preference shares carried an expectation that [
g. In addition to the protections discussed in f above, the purpose of which would have been to secure the flow of
h. The experts cannot say with certainty whether all of the possible additional clauses listed in paragraph g would have been required to support a USD4bn loan or bond transaction by [
i. Again, both experts agree that the enhancements discussed in paragraph g would have been necessary, and probably could have been achieved. Mr Ashley believes it would have been straightforward to do so and that the associated 'cost' would have been an 'opportunity cost' (ie reduced flexibility to enter into further transactions) rather than a cash cost. In Mr Ashley's experience, such enhancements are
The extract went on to record a difference between the experts as to whether some form of parental support was also required, Mr Ashley's view being that it was not.
HMRC's case before the FTT was, essentially, that the transaction would simply not have taken place at all at arm's length. The FTT concluded that both HMRC's submissions, and Mr Gaysford, were wrongly focusing on the position of the BlackRock group as a whole. Their objection was that there was a much simpler commercial alternative for a commercial lender to the group which did not involve a loan to LLC5, whereas the required comparison was between the actual lending transaction and a hypothetical loan to the same borrower (para. 101). The FTT went on:
"102. Both experts agreed that an independent lender would have entered into an arrangement subject to it being able to obtain the necessary covenants. On balance, given that Mr Gaysford accepted that his concerns in relation to cost and complexity did not amount to "deal breakers", I prefer the evidence of Mr Ashley that the covenants would have been forthcoming. Similarly I prefer the evidence of Mr Ashley regarding parental support especially as Mr Gaysford was unable to say with "certainty" that the transaction would not have proceeded in its absence.
103. Therefore, for the reasons above I find that although an independent enterprise would not have entered into the Loan on the same terms as the actual transaction it would, subject to the covenants described above, have entered into the Loans on the same terms as the parties in the actual transaction."
The UT Decision
HMRC raised a new argument in the UT, namely that in determining whether an independent lender would be prepared to lend, the transfer pricing provisions do not permit the existence of third-party covenants to be hypothesised where those covenants are not present in the actual transaction.
59). The UT also agreed with Mr Ewart's submissions that s.152(5) TIOPA did not assist BlackRock. That only applied where a guarantee was present in the actual transaction (para. 70). Further, its existence indicated that not only guarantees but other types of third-party covenant "affect the substance of the loan transaction". Those other sorts of covenant could only be taken into account if they were present in the actual transaction, because the actual and arm's length transactions would otherwise not be the same (para. 72).
LLC5 would not have been challenged on transfer pricing grounds if it had gone through the "rather artificial exercise" of putting covenants in place with other group companies. However, this was unlikely to be a problem in practice because "it will be very obvious if groups have sought to manipulate the actual transaction in that way by including wholly unnecessary covenants that attempt to anticipate what an independent expert might later decide would be required by an independent lender" (paras. 72-74).
Discussion
HMRC's argument that the transfer pricing provisions do not permit the existence of third-party covenants to be hypothesised where those covenants are not present in the actual transaction.
v HMRC [2009] STC (SCD) 397 ("DSG Retail") at [65] (by reference to the predecessor legislation), two means just that, not "two or more". However, nothing in the legislation or the OECD guidelines requires the position of third parties to be ignored if it is otherwise relevant.
Comparable transactions: "economically relevant characteristics"
LLC4 had no need of any of the covenants considered by the experts because, quite independently of its ownership of LLC5, it had control of LLC6 and its subsidiaries, including BGI US (the "LLC6 sub-group"). LLC4 had no real world concern that members of the LLC6 sub-group might take on excessive additional debt or that they might grant unacceptable security to other lenders. It also had no real world concern that the preference share rights might be circumvented. As the UT recognised, for LLC4 to require covenants to guard against those (in practice unreal) risks would indeed be artificial. It was simply unnecessary. LLC4 was in a position to control those risks itself.
"But it is clear to us that that interpretation is not consistent with the OECD model … and therefore that [the legislation] should be interpreted as requiring consideration of what provision independent enterprises sharing the characteristics of the actual enterprises would have made."
LLC4 and LLC5, LLC4 would still have its direct interest in LLC6 and would therefore still control both LLC6 and its subsidiaries. On that approach covenants from the LLC6 sub-group would be unnecessary. LLC4 could ensure that the preference share dividends were paid by LLC6 as anticipated.
LLC4 needs to be protected. In reality, and even if the control relationship was broken between LLC4 and LLC5, LLC4 does not need further protection. (I appreciate that the question whether LLC4 needs further protection is not the only one to ask, because for transfer pricing purposes it is equally necessary to consider whether LLC5 would be prepared to enter into the Loans as an independent borrower, without assurances e.g. that its preference share rights would not be frustrated. But despite that perhaps being more pertinent, it was not the focus of the debate.)
LLC4's actual control of the LLC6 sub-group, then there is a significant difference between the "economically relevant characteristics" in the actual and hypothetical transactions. The risks are quite different. In the actual transaction it is obvious that the only real risks to be assessed from LLC4's perspective related to the performance of the BGI US business. In contrast, the lender in the hypothetical transaction would be exposed to an additional risk that something might be done by LLC4 or entities controlled by it to divert or otherwise frustrate the expected dividend flows on the preference shares to LLC5.
LLC4 could receive no dividends on its common shares unless dividends were paid on the preference shares (see [9] above), LLC5 was not exposed to any real risk that the expected dividend flows to it would not materialise, beyond risks related to the performance of the BGI US business. In contrast an independent borrower would have no practical assurance that nothing else would be done to switch off or reduce the anticipated dividends on the preference shares.
LLC5 was not reflected in findings of fact by the FTT. This point was raised in HMRC's skeleton argument but was rightly not pursued by Mr Ewart in oral submissions. The evidence was unchallenged and it must also be borne in mind that the argument we are concerned with was raised for the first time in the UT. The absence of findings is therefore unsurprising. It would also be unfair for HMRC, having raised a new argument in the UT, then to rely in this court on a failure by BlackRock to secure relevant findings in the FTT.
LLC6 "to effectively ratify the legal and financial position" (see [48] above, para. f.) reflects this.
LLC5. That finding reflected the expert evidence that there were no comparable transactions.
view that overlooks the FTT's findings of fact. The FTT found that an independent lender would have entered into the Loans on the same terms, subject to third-party covenants being entered into. I do not think it matters that a precise equivalent transaction between parties acting at arm's length is not identified. This is not a transaction involving specialised goods or services or unique intangibles of the kind referred to in para. 1.9 of the 2010 version of the guidelines, where a comparability analysis is problematic. It is a lending transaction.
LLC4's actual control of LLC6 and (indirectly) BGI US, such that in practice it had no need, when deciding to make the Loans, of any covenants from those entities (or, of course, from itself), and (b) LLC5's own position in the group, such that its board had no reason to be concerned about any possibility that the expected profit would not, if made, find its way up to it by way of preference share dividends, whether due to dividend flows being diverted or otherwise. The third-party covenants do just what the guidelines require, namely adjust for the absence of these risks in the actual transaction, so rendering the economically relevant characteristics comparable.
version that addresses covenants in loan transactions, which only considers covenants from a borrower (see [42] above). However, the guidelines do not rule out reference to the position of third parties, and in my view a proper application of them may, for the reasons already given, require it to be taken into account. It is also noteworthy that the consideration of covenants in the 2022 version clearly reflects the reality that intra-group loans generally do not require the sorts of protections that an independent lender would need, and recognises that it is appropriate to consider whether there is the "equivalent" of covenants in practice. This is consistent with the approach that I have described. The hypothesised covenants are designed to put the independent lender in an equivalent position to the actual lender.
HMRC's position. As emphasised in the expert evidence, arm's length lenders will always consider the source of the cashflows that will service any loan that they may make. Where the proposed borrower is a holding company rather than the entity that directly generates the cashflows, lenders will be concerned about structural subordination. This relates to the fact that the holding company's own interest in the cashflows is limited to a direct or indirect interest in another entity, and the resultant risk that subsidiaries may take action, whether by additional borrowings, the grant of security or otherwise, that will have priority over the holding company's interest, with the effect that the cashflows do not find their way up the group to service the loan.
53] above). While I agree that the covenants would have been unnecessary in the real transaction, and in that sense it would be artificial to include them, there would have been nothing wrong in doing so in fact.
The domestic legislation and s.152(5)
5) TIOPA materially undermines Mr Ewart's main submission in oral argument on the transfer pricing rules, namely that the domestic legislation does not permit any reference to third parties because, as DSG Retail determined, "two means two".
5) is set out at [27] above. To recap, it provides:
"(
Sub-section (6) refers among other things to "the appropriate level or extent of the issuing company's overall indebtedness".
view the subsidiary as thinly capitalised (see [19] above). Section 152(5) would have the effect that the guarantee is ignored in the hypothetical transaction, with the result that the financing costs under the loan would be disallowed.
HMRC's position is that s.152(5) concerns a situation where a guarantee exists in the real world, whereas what BlackRock seek to do is to hypothesise something that does not exist in the real world. The UT accepted that argument.
5). It illustrates that the "two means two" mantra cannot be applied without further analysis. Further, the fact that s.152(5) applies to guarantees provided by related parties provides a clear indication that, in contrast, guarantees from third parties who are not related can be taken into account. The same must apply to arrangements involving a third party that do not fall within the definition of guarantee in s.154(4) TIOPA (set out at [28] above), irrespective of whether that third party is a related party or not.
LLC6 sub-group) may take actions that prejudice the performance of the Loans. Those risks do not exist for the parties to the actual transaction. The covenants in the hypothetical transaction effectively bring the risks into line with each other, so that the transactions are comparable.
very broadly defined to include "arrangements, understandings and mutual practices (whether or not they are, or are intended to be, legally enforceable)". The concept of the "actual provision" is then extended further by the inclusion of "series of transactions". The net is therefore intended to be cast very widely. Related parties are much more likely to be prepared to rely on informal understandings or non-binding arrangements than parties acting at arm's length. There is no indication in the legislation that the mere fact that an understanding or arrangement is non-binding should prevent a comparison with an arm's length arrangement that has a similar economic effect and which would, in practice, be legally binding.
Term or condition as between the lender and borrower
The expert evidence: HMRC's Ground 1
HMRC's Ground 1 is that the UT erred in holding that the FTT had been entitled to conclude on the basis of the evidence before it that an independent lender would have entered into the Loans subject to it being able to obtain the necessary covenants, and that the covenants would have been forthcoming.
HMRC on this point, I agree with the UT that the FTT was entitled to reach the conclusions that it did on this issue.
views differed. It was entitled to do so. Further, large parts of the experts' evidence was agreed: see above. That included, critically, that an arm's length lender would lend $4 bn to LLC5 subject to suitable covenants, and that those covenants could probably have been put in place. Mr Gaysford's concern about "cost and complexity" was, as he clarified in cross-examination, really a point about there being a better commercial alternative, but as the FTT correctly identified Mr Gaysford was wrongly focusing on the position of the BlackRock group as a whole: see [49] above.
LLC6 (and/or, potentially, LLC4) that it would do nothing to frustrate the payment of the preference share dividends. From a lender's perspective that is different to the share rights held by LLC5. Further, Mr Ashley evidently understood that LLC6 could not be compelled to pay a dividend (see [46] above) but nonetheless considered that a covenant of that nature would be critical. If Ms Choudhury's submission was right he would be insisting on something that he knew added nothing.
versions of what was described in section 14f of the joint statement ([48] above):
"(1) a covenant for the benefit of the third party investors ensuring that
(2) a covenant in favour of the third party investors to the effect that no other form of cash distribution from
(3) a signed consent and acknowledgement or other appropriate undertaking from
LLC5's position.
Summary
LLC5's appeal on Ground 1, set aside the UT Decision on that issue and re-make it by dismissing HMRC's challenge to the conclusion reached by the FTT. Insofar as the conclusion I have reached relies on evidence before the FTT about the risks assumed in the actual transaction that was not reflected in a finding of fact (see [65] and [66] above) I would make additional findings of fact, pursuant to s.14 of the Tribunals, Courts and Enforcement Act 2007, that accept that unchallenged evidence. I would also dismiss HMRC's challenge to the FTT's findings about the expert evidence (HMRC's Ground 1).
THE UNALLOWABLE PURPOSE ISSUE
Relevant legislation
5 of that Act, which contains the provisions governing the treatment of "loan relationships" for corporation tax purposes. The concept of a loan relationship includes any lending transaction, such as the Loans (s.302). In very broad terms, Part 5 provides for credits and debits from loan relationships to be determined in accordance with generally accepted accounting practice. For a non-trader like LLC5, net profits (that is, any excess of credits over debits) are taxed as non-trading profits. A net loss (being an excess of debits over credits) is a "non-trading deficit" (s.301). Among other things, non-trading deficits are available to be surrendered by way of group relief to offset UK profits of other group members.
"441 Loan relationships for unallowable purposes
(1) This section applies if in any accounting period a loan relationship of a company has an unallowable purpose.
…
(3) The company may not bring into account for that period for the purposes of this Part so much of any debit in respect of that relationship as on a just and reasonable apportionment is attributable to the unallowable purpose.
…
(6) For the meaning of "has an unallowable purpose" and "the unallowable purpose" in this section, see section 442.
442 Meaning of 'unallowable purpose'
(1) For the purposes of section 441 a loan relationship of a company has an unallowable purpose in an accounting period if, at times during that period, the purposes for which the company—
(a) is a party to the relationship, or
(b) …
include a purpose ("the unallowable purpose") which is not amongst the business or other commercial purposes of the company.
…
(3) Subsection (4) applies if a tax avoidance purpose is one of the purposes for which a company —
(a) is a party to a loan relationship at any time, or
...
(4) For the purposes of subsection (1) the tax avoidance purpose is only regarded as a business or other commercial purpose of the company if it is not—
(a) the main purpose for which the company is a party to the loan relationship…, or
(b) one of the main purposes for which it is or does so.
(
5 CTA 2009 is a tax advantage.
The issues on this appeal in outline
v Drummond [1983] 2 AC 861, 57 TC 330 ("Mallalieu") in deciding whether there was an unallowable purpose, but nevertheless concluded that there was no material error in the FTT's conclusion that there was a main purpose of obtaining a tax advantage. However, the UT also decided that the FTT did make a material error in its application of the just and reasonable apportionment test, and determined that all of the debits should be attributed to the tax advantage purpose.
BlackRock agree that the FTT erred in applying Mallalieu but say, as Ground 2 of their appeal, that the UT should not have substituted its own finding of a tax avoidance purpose in the absence of any finding by the FTT that LLC5 actually did have such a purpose. Ground 3 is that the UT erred on the apportionment issue.
HMRC say that the UT erred in concluding that the FTT had been entitled to find that one of the main purposes of LLC5 and the Loans was a commercial purpose (HMRC's Ground 2), and that the UT was wrong to decide that the FTT had misapplied the test in Mallalieu and subsequent authorities (HMRC's Ground 3).
Interpretation of s.442: common ground
v HMRC [2018] EWCA Civ 549, [2018] STC 723 ("TDS") at [41], in relation to the predecessor legislation in para. 13 of Schedule 9 to the Finance Act 1996:
"i) A company had an "unallowable purpose" if its purposes included one that was "not amongst the business or other commercial purposes of the company" (see paragraph 13(2) of schedule 9 to FA 1996 );
ii) A tax avoidance purpose was not necessarily fatal. It was to be taken to be a "business or other commercial purpose" unless it was "the main purpose, or one of the main purposes, for which the company is a party to the relationship" (see paragraph 13(4));
iii) It was the company's subjective purposes that mattered. Authority for that can be found in the decision of the House of Lords in Inland Revenue Commissioners
LLC5's purpose or purposes in being a party to the Loans. The focus can also be narrowed further to LLC5's entry into the Loans, because it is common ground that its purposes in being a party to the loan relationship did not change thereafter.
LLC5, which can only act through human agents, it is necessary to consider the subjective purpose of the relevant decision makers. Unless they have been bypassed or are effectively acting on instruction, that will normally be the board of directors. The same would apply to LLC5, although strictly its board was termed a "Board of Managers", appointed pursuant to the terms of its LLC agreement. There was no suggestion that the board of LLC5 had either been bypassed or were acting on instruction when they agreed to enter into the Loans.
v Arthur Young McClelland Moores & Co [1990] 2 AC 239, [1989] STC 898 ("MacKinlay") and Vodafone Cellular Ltd v Shaw [1997] STC 734 ("Vodafone"), However, they differed in the application of the principles to be derived from those cases to the facts of this case.
Mallalieu, MacKinlay and Vodafone
"We consider, in the present case, that when Miss Mallalieu laid out money on clothes for wearing in court her purpose in making that expenditure was to enable her to earn profits in her profession and also to enable her to be properly clothed during the time she was on her way to chambers or to court and while she was thereafter engaged in her professional activity, and in the other circumstances indicated in paragraph 2 we do not consider that the fact that her sole motive in choosing the particular clothes was to satisfy the requirements of her profession or that if she had been free to do so she would have worn clothes of a different style on such occasions altered the purpose of the expenditure which remained the purpose of purchasing clothes that would keep her warm and clad during the part of the day when she was pursuing her career as well as the purpose of helping her to earn profits in that career. We think, therefore, that the expenditure had a dual purpose one professional and one non-professional ..."
version of the Commissioners' case stated appears in the Tax Cases report (57 TC 330). Apart from the comment – inappropriate at least to 21st century eyes – that "Miss Mallalieu is an attractive blonde barrister", paragraph 2 (referred to in the quoted passage above) recorded the Commissioners' findings that the clothes in question were not to her taste, that she virtually never wore them except at or travelling to work, and that she wore them in chambers due to her busy court practice and the likelihood of being required to attend court at short notice. It was also the case, however, that the disputed items were of a kind that others might wear by choice.
"To ascertain whether the money was expended to serve the purposes of the taxpayer's business it is necessary to discover the taxpayer's "object" in making the expenditure: see Morgan
If it appears that the object of the taxpayer at the time of the expenditure was to serve two purposes, the purposes of his business and other purposes, it is immaterial to the application of section 130 (a) that the business purposes are the predominant purposes intended to be served.
The object of the taxpayer in making the expenditure must be distinguished from the effect of the expenditure. An expenditure may be made exclusively to serve the purposes of the business, but it may have a private advantage. The existence of that private advantage does not necessarily preclude the exclusivity of the business purposes. For example, a medical consultant has a friend in the South of France who is also his patient. He flies to the South of France for a week, staying in the home of his friend and attending professionally upon him. He seeks to recover the cost of his air fare. The question of fact will be whether the journey was undertaken solely to serve the purposes of the medical practice. This will be judged in the light of the taxpayer's object in making the journey. The question will be answered by considering whether the stay in the South of France was a reason, however subordinate, for undertaking the journey, or was not a reason but only the effect. If a week's stay on the Riviera was not an object of the consultant, if the consultant's only object was to attend upon his patient, his stay on the Riviera was an unavoidable effect of the expenditure on the journey and the expenditure lies outside the prohibition in section 130."
"My Lords, I find myself totally unable to accept this narrow approach. Of course Miss Mallalieu thought only of the requirements of her profession when she first bought (as a capital expense) her wardrobe of subdued clothing and, no doubt, as and when she replaced items or sent them to the launderers or the cleaners she would, if asked, have repeated that she was maintaining her wardrobe because of those requirements. It is the natural way that anyone incurring such expenditure would think and speak. But she needed clothes to travel to work and clothes to wear at work, and I think it is inescapable that one object, though not a conscious motive, was the provision of the clothing that she needed as a human being. I reject the notion that the object of a taxpayer is inevitably limited to the particular conscious motive in mind at the moment of expenditure. Of course the motive of which the taxpayer is conscious is of a
Vinelott J in the High Court. The Court of Appeal allowed the partnership's appeal, but that was overturned in the House of Lords with the result that the deduction was denied.
"One is, accordingly, brought back, first, last and all the time to the question whether an expenditure upon a partner's removing expenses can be said to be laid out not just partly but exclusively for the purposes of the partnership business. That cannot, in my judgment, be answered simply by ascertaining what was the motive with which the move was undertaken. It is inescapable as it seems to me, that the expenditure, motivated no doubt by the fact of moving house, which in turn was motivated by the desire to put the partner concerned in a better position to further the interests of the firm, was an expenditure serving and necessarily and inherently intended to serve the personal interests of the partner in establishing his private residence for himself and his family and it cannot be said to be exclusively for the purposes of the partnership practice.
Your Lordships have been referred to what may be regarded as a seminal decision of this House in Mallalieu
Vodafone also concerned a claim to deduct under s.130(a) ICTA 1970, but in that case in a corporate context. It concerned an amount paid by the taxpayer to bring to an end a fee agreement related to the acquisition of know-how which it turned out was not required. The Special Commissioners accepted that the payment was of a revenue nature but dismissed the taxpayer's appeal on the basis that the payment was made to benefit the trading position of the whole group, and not solely for the purposes of its own trade. Their decision was upheld in the High Court but the taxpayer successfully appealed to the Court of Appeal.
"In the case of an individual taxpayer, the other purpose is usually a private purpose of his own. In a case like the present, where the taxpayer company is a company forming part of a group, the other purpose is likely to be the purpose of the trade of one or more of the other companies in the group. But the same principles apply. The trade of a parent company is for tax purposes distinct from the trade of its subsidiary. The two companies are separate taxable persons, and the trade or business of one is not the same as the trade or business of the other, however closely it may affect it (see Odhams Press Ltd
The leading modern cases on the application of the exclusively test are Mallalieu
To these propositions I would add one more. The question does not involve an inquiry of the taxpayer whether he consciously intended to obtain a trade or personal advantage by the payment. The primary inquiry is to ascertain what was the particular object of the taxpayer in making the payment. Once that is ascertained, its characterisation as a trade or private purpose is in my opinion a matter for the commissioners, not for the taxpayer. Thus in Mallalieu
Similarly, in my opinion, the present case does not involve an inquiry whether the directors who resolved to enter into the fee cancellation agreement consciously intended to obtain a benefit thereby for one company rather than another. The primary inquiry is to ascertain the particular object which the directors sought to achieve by it. Once that is ascertained the characterisation of that object as serving the purposes of the trade of one particular company or another is not a finding of primary fact, but a conclusion based upon the primary facts."
Vodafone, the Commissioners had found that the directors of the taxpayer had in mind its legal obligations under the fee agreement, rather than the position of its subsidiaries which had no such obligation but which it had been contemplated would reimburse the taxpayer for ongoing fees. The Commissioners had nonetheless inferred that the directors "must have had in mind" that the cancellation of the agreement would be of greater benefit to the subsidiaries because of the reimbursement arrangements. Millett LJ observed that this finding could not be supported, because it was based on a misunderstanding of their earlier findings that there was no agreement or formal arrangement in place, and in its absence the taxpayer would not have been properly able to seek reimbursement for the provision of know-how that was not required. However, he concluded that the appeal should be allowed on the simpler basis, by focusing on "what was the particular object which the directors were seeking to achieve?" (p.744h). Although it was self-evident that the directors' purpose was to rid the group of a trading liability owed to a third party, the liability was that of the taxpayer alone, "ergo the directors' intention, whether articulated or not, was exclusively to serve the purposes of the taxpayer company's trade". The impact on the wider group was a consequential or incidental effect (p.745).
a) Save in "obvious" cases, ascertaining the object or purpose of something involves an inquiry into the subjective intentions of the relevant actor.
b) Object or purpose must be distinguished from effect. Effects or consequences, even if inevitable, are not necessarily the same as objects or purposes.
c) Subjective intentions are not limited to conscious motives.
d) Further, motives are not necessarily the same as objects or purposes.
e) "Some" results or consequences are "so inevitably and inextricably involved" in an activity that, unless they are merely incidental, they must be a purpose for it.
f) It is for the fact finding tribunal to determine the object or purpose sought to be achieved, and that question is not answered simply by asking the decision maker.
Relevant findings of fact and evidence
BlackRock's corporate tax group. In particular, Ernst and Young ("EY") were asked to consider where "debt push downs" should be done (in this context meaning "pushing" debt incurred to fund the acquisition down to other entities in the group through intra-group loans). EY, who had a "very broad remit", suggested the use of a UK entity to acquire BGI US to take advantage of the "generous tax regime for interest deductions". This fairly quickly developed into using an LLC, and by late July 2009 to a structure involving two LLCs, one of which was UK tax resident, with the UK resident LLC acquiring BGI US. (See paras. 9, 13-15 and 21-22.)
LLC, for the reasons mentioned at [16] above.
BlackRock executives were identified as potential members of LLC5's board. They comprised Mr Kushel, who at the time was Chairman of the BlackRock group's international business, Colin Thomson (Head of BlackRock's Financial Reporting Group for the international business), Roger Tooze (Head of BlackRock's Business Finance) and James DesMarais (General Counsel for BlackRock's international business). Mr Fleming, who was BlackRock's head of tax for EMEA (Europe, Middle East and Africa) prepared a briefing note to be shared with Mr Thomson, Mr Tooze and Mr DesMarais (Mr Kushel's senior leadership role meant that he was already involved in work on the acquisition). The note, dated 26 October 2009, explained among other things that "the purpose of [LLC5] is to effect the acquisition of the BGI US business from Barclays", that its central management and control needed to be in the UK, and that:
"The business of
(Para. 34)
53. The meeting took place in London, with all four board members present and Mr Kushel acting as chairman. Those attending were not doing so "in a vacuum", given the prior discussions. The meeting lasted around 45 minutes. Mr Fleming was present to explain LLC5's role. Mr Kushel's evidence, which was accepted (see [14] above), indicated that he clearly understood his fiduciary duty to act in the best interests of LLC5. However, provided that it was in the company's best interests to enter into a transaction he did not consider it part of his remit to question or suggest changes to the "underlying capital structure" of a proposed transaction. The UT Decision notes at para. 172 that Mr Kushel's oral evidence was that the board "were not considering whether or not it was the right business of LLC5 to invest in the LLC6 Preference Shares", and at para. 176 that he "confirmed that there was no reasonable possibility that LLC5 would not enter into the transaction" and that Mr Fleming also accepted that the board was presented with a "fait accompli".
very shortly before the completion of a complex transaction for which a detailed "step plan" had been prepared. Provided the board concluded that the transaction was commercially advantageous for the company it "would not have been sensible or open to the directors to consider an alternative transaction" (para. 52 of the FTT Decision). Rather, Mr Kushel saw it as his responsibility to satisfy himself that a proposed transaction had been:
"… properly advised on and poses no risk of reputational damage or other harm to either the entity or myself and my fellow board members. As a board member I may test a question or a proposal in terms of its anticipated financial outcomes or to ensure that all relevant regulatory considerations have been taken into account, but typically I will be able to take comfort that these matters have been considered fully by those responsible for framing and approving the transaction before it is presented to me in my capacity as a board member." (Para. 48.)
"3. REVIEW OF STEP PLAN AND COMPANY'S ROLE
The Chairman invited Mr Fleming to present an overview of the Step Plan and an outline [of] the Company's role.
Mr Fleming advised that although the incorporation of the Company and the proposed transactions formed part of wider arrangements to effect the Acquisition in a taxefficient manner they were, nevertheless, a commercially
It was noted that a tax opinion had been provided by Ernst & Young
Mr Fleming updated the board on the UK debt cap rules which were being introduced for accounting periods beginning on or after 1 January 2010 and which potentially restricted the UK tax deduction for interest costs of UK companies which formed part of a large group. The rules would mean that aggregate UK corporation tax deductions for financing costs could not exceed the group's external financing costs on a worldwide basis.
The group had USD6bn of debt before the cap applied which comprised USD4.
E&Y had concluded that, after the Acquisition,
Mr Fleming stated that
values of the common and preference shares and unwind provisions (should they be required). The final comment before the formal resolutions reads:
"Mr Fleming emphasized that, although the Company was incorporated in the state of Delaware in the United States, management and control would be exercised from London, where the Company's books and records would also be kept. It was anticipated that the Management Board would meet two to three times each year or more frequently when required by the Company's affairs."
LLC5 would obtain no benefit from the interest deductions. This was because – as well as LLC5 having no taxable income itself against which the expense could be offset – the group practice was to make group relief surrenders for no payment. Given that LLC5's assets reflected an interest only in the US operations of BGI, it would also have been apparent to board members that no indirect benefit could be derived through its preference share investment.
"40. The 'purpose' of
41. When resolving to enter into the transactions that were proposed at the meeting on 30 November 2009 as a member of the
42. The minutes of the
The FTT's reasoning
LLC5's directors, the FTT's analysis is set out in the following three paragraphs:
"119. Although, and perhaps not surprisingly as it was some ten years before the hearing, Mr Kushel could not recall the details of the board meeting held on 30 November 2009 but said that he had not taken account of any UK tax advantage into account in making the decision to proceed with the transaction. Minutes of the meeting confirm that Mr Fleming advised that such an approach should be taken and Mr Kushel believed he had followed this advice and the minutes do not record that any of the other Board members had not done so. Also, Mr Kushel said that as he was comfortable with it and had [no] concerns over its commercial
120. Mr Kushel did not go so far as Ms Mallalieu, who "had no thought of warmth and decency" when she bought her "working clothes", and say that a tax advantage was not an object or purpose of
121. This cannot be described as merely incidental and, as such, is clearly an important purpose, so much so that I consider it to be a main purpose of
The UT Decision
HMRC's challenge to the FTT's finding at para. 121 that there was a commercial purpose, on the basis that it did not meet the high threshold required under Edwards v Bairstow principles ([1956] AC 14). There was evidential support for the factual conclusion reached (paras. 150 -152 of the UT Decision).
"… it should have relied on the principles derived from TDS, the only authority on this legislative wording. The FTT should have considered
"162. Nevertheless, we are not satisfied that there was any material error in the FTT's finding that
163. There are two important matters to bear in mind. First, Mr Kushel accepted in his witness statement at [40] that tax efficiencies were part of the purpose for the inclusion of
164. Second, it is undisputed, as evidenced in the minutes of the board meeting of 30 November 2009 and in Mr Kushel's statement, that the board members of
165. Therefore, it is necessary to look beyond the directors' stated intentions. The effectiveness of anti-avoidance legislation cannot be undermined by tax advisers telling parties to ignore the tax advantage purposes of a transaction which has been planned by them or others for precisely that purpose. To hold otherwise would provide an easy way round the legislation.
166. We therefore conclude that the FTT was entitled to look beyond the stated motives or intentions of the board members to determine
167. In our
"180. The evidence is that the
181. The FTT's findings therefore demonstrate that
182. The FTT was therefore entitled to find that
Errors in approach: inevitable consequences
view there were errors in the approach of both the FTT and UT.
Vodafone in discussing both of those cases. Rather, what can be drawn from those authorities are the points summarised at [124] above.
Vodafone refer to "some" consequences or results being inevitably and inextricably involved in particular activities ([119] and [122] above).
very far from the consultant in Lord Brightman's example who benefits from incidental enjoyment during a work trip.
Vodafone any benefit to the wider group was merely consequential: see [123] above.
5 of CTA 2009, which governs the treatment of loan relationships for corporation tax purposes, and which among other things specifically contemplates tax relief for interest and other expenses of raising debt. The corporation tax relief available is obviously a valuable relief. It is unrealistic to suppose that it will not form part of ordinary decision-making processes about methods of funding a company. Indeed, it might well be wrong for directors to ignore that consideration in deciding what is in the best interests of the company concerned. I agree with Mr Prosser's submission that it cannot have been Parliament's intention that the inevitable consequence of taking out a loan should engage the unallowable purpose rules, subject only to consideration of whether the value of the tax relief is sufficient to make it a "main" purpose. Something more is needed.
BlackRock that the FTT should not have applied the test in Mallalieu as it did. This is not for the reason given by the UT (to the effect that it should simply have applied TDS) because it is not the case that Mallalieu and the later cases that discuss it are irrelevant. Rather, the FTT made an error of law in proceeding on the basis that the "inevitable" consequence of tax relief was, without more, a main purpose.
Errors in approach: UT
LLC5's existence and inclusion in the transaction (see in particular at para. 163) without making it clear that the statutory test requires a focus on LLC5's purpose or purposes for being a party to the Loans. While one may of course impact on the other, it is important to recognise that the purposes for which an entity exists and its purposes in entering into a transaction may be different.
view not entitled to take the approach adopted at para. 164, in which subjective intentions were described as "circumscribed" and not what they would have been "had [board members] been left freely and willingly to decide the main purposes of the transaction". Apart from the test of purpose not being answered simply by asking the decision maker (see [124] above), there was no evidence, let alone a finding, that the board was not free to consider the transaction properly. There is no suggestion that board members were acting on instruction. It is right that they were advised to leave any UK tax advantage out of account in assessing the viability of the transaction for LLC5, but that was for the entirely proper reason that the company would itself obtain no benefit from it. Given that last point, it was also inappropriate for the UT to make the unqualified comment that it did in para. 165 about there being an easy way round the legislation if tax advisers could tell parties to ignore tax advantages. In this case there was a sound reason for the board to leave tax out of account in assessing whether the transaction was in the best interests of LLC5.
BlackRock's witnesses should not have been accepted at face value. Instead, the UT needed squarely to address the point that the FTT did accept their evidence and that the only reason it gave for going beyond it to find that there was a tax avoidance purpose was Mallalieu. There is no factual conclusion beyond that to the effect that LLC5 had such a purpose in entering into the Loans.
view the only proper approach was to determine that, due to the FTT's error, its conclusion that LLC5 had a tax advantage main purpose could not stand. There was not only a material error of law but the FTT Decision lacks the necessary factual findings to support the decision on a different basis.
Consequences of the UT's errors
HMRC have lost the chance to put their case in a different way. HMRC have consistently relied on the concept of consequences that are "inevitably and inextricably involved" and have defended the FTT Decision on that basis. More significantly, Mr Kushel's evidence on the critical issue was never properly challenged. It was not put to him that, despite maintaining that the board members followed the advice that tax needed to be left out of account, they must have been thinking about tax, or that they intended or desired to achieve a tax advantage. Instead, the FTT accepted Mr Kushel's evidence. That would have included what he said about purpose in his witness statement (see [138] above).
HMRC another bite of the cherry by remitting the case in a way that would allow the evidence to be revisited and enlarged upon. An alternative would be to remit it on a basis that did not permit that, but inviting the FTT to make additional findings based on the existing evidence and findings of fact. However, I have come to the conclusion that remittal is not necessary. Rather, the appropriate course is for this court to re-make the decisions of both tribunals and, in doing so, to exercise this court's own power (pursuant to s.14 TCEA) to make findings of fact to the extent required, based on the evidence before the FTT.
Whether there was a tax main purpose
LLC5, and that it is also not sufficient that the transaction would have proceeded without the tax benefits because it was too late to make changes.
LLC5 became a party to the Loans to obtain a tax advantage.
LLC5 were not operating in a vacuum. Mr Kushel was involved in the transaction in any event and the others had been briefed at an earlier stage. Much of the substantive discussion at the board meeting was about tax. The board obviously understood what the Loans were designed to achieve. Although, as already discussed, the purpose or purposes of being a party to a loan relationship cannot simply be elided with the purpose for which the relevant entity exists, in this case LLC5 had no other function. Its sole raison d'être was to enter into the Loans to obtain tax advantages for the BlackRock group.
LLC6 via a (UK tax resident) LLC5, rather than direct from LLC4, and doing so in part by means of loans rather than the pure equity contributions made at each other level in the structure, sought to achieve the objective of reducing the group's UK tax bill. LLC5 gained no control over the BGI US group and therefore had no meaningful function in that respect. It was, and was structured to be, a mere passive recipient of preference share dividends without control or indeed any real influence. Its (UK based) directors would in any event have been unlikely to have any meaningful involvement with an entirely US based sub-group. (Mr Kushel was a senior executive, but Mr Fleming's witness statement records that the intention was for him to "come off the board after closing".)
a) EY's proposal to use a UK entity to take advantage of the "generous tax regime for interest deductions" ([126] above) in circumstances where a UK entity would clearly not otherwise have been appropriate;
b) the subsequent variation to the structure to overcome the problems that having a UK-based entity in the ownership chain of an entirely US-based business by a US group would actually cause; and
c) the fact that the briefing of the board members in advance of the board meeting, as well as the discussion at it, largely focused on tax.
LLC5. It is obvious that it was. The anticipated dividend flow on the preference shares was such that it would very comfortably exceed the cost of servicing the Loans. On that basis I have no difficulty with the FTT's conclusion that LLC5 had a commercial purpose in entering into the Loans: it was set to make very significant profits from its investment. However, the fact that it would be able to make such profits was a consequence of the need to ensure that the transfer pricing analysis was robust, so that interest costs could not be denied on the basis that LLC5 was thinly capitalised. From the group's perspective the commercial impact for LLC5 was in truth a by-product of the tax planning. Nevertheless, as far as LLC5 was concerned it was more than a (very welcome) consequence or effect, because it meant that the transaction made commercial sense from its perspective. As a result the board was able to conclude that it was in LLC5's best interests to enter into the proposed transactions, including the Loans.
view of the relevant director, a Mr Turner, that the shares continued to be held exclusively for the commercial purpose for which they were originally acquired. Similarly, in this case the fact that LLC5 had a tax avoidance main purpose is not inconsistent with board members properly putting the tax benefits out of their minds when deciding whether the transaction was in LLC5's best interests on a standalone basis. The two questions are different.
LLC5 entered into the Loans with a main purpose of securing a tax advantage. In other words, I agree with the FTT and UT in the result.
LLC5 had a tax main purpose is a conclusion reached on the particular facts of this case. It does not follow that other debt incurred in connection with a commercial acquisition – as the acquisition of BGI US undoubtedly was – would fall foul of the unallowable purpose rule even if the decision to borrow had regard, as it often would, to tax considerations. The facts of this case include, among other things, the use of a debt-funded UK resident entity in what is otherwise a wholly US-based, and equity funded, ownership chain, the related lack of any commercial rationale for LLC5, and the structure that then had to be put in place to ensure that LLC5 did not have control over the BGI US group, such that LLC5 not only had no commercial rationale but had no real commercial function.
Commercial purpose
LLC5 also had a commercial main purpose for entering into the Loans.
HMRC criticise the judge's reference to LLC5's business of "making and managing passive investments" as having no basis other than Mr Fleming's briefing note (see [128] above), but it was an accurate description of what was anticipated to be a highly profitable activity. LLC5 could not legitimately have entered into the Loans except as part of a transaction that enabled it to deploy its newly acquired assets in its commercial interests, such that it was anticipated that it would not only meet its obligations under the Loans but would also make a profit.
Just and reasonable apportionment
very brief. After the passage set out at [139] above, the FTT Decision went on as follows:
"122. Having come to the conclusion that there was a commercial and a tax purpose, it is therefore necessary to consider a "just and reasonable apportionment", as required by s 441 CTA 2009. In doing so I have adopted the approach taken by Judge Beare in Oxford Instruments [Oxford Instruments UK 2013 Limited
123. The evidence of Mr Kushel is that
LLC5 would have entered into the Loans even if the tax advantage had not existed. This "but for" approach was one that had been adopted in previous cases and gained some support from TDS at [50]-[54], a passage discussed at para. 124 of the Oxford Instruments decision relied on by the FTT.
LLC5's commercial purpose. Two approaches were put forward. The first was to apportion by reference to the relative anticipated financial significance of the tax relief and the commercial advantage (being the excess of dividends over interest payable), taking account of the fact that at the time the Loans were entered into it was anticipated that tax relief for a substantial portion of the interest costs would be denied under the worldwide debt cap rules. These are the "debt cap rules" referred to in the board minutes (see [134] above). At the time they were contained in Part 7 TIOPA and, very broadly, restricted deductions in respect of financing costs of UK members of a group by reference to the group's external financing expense. When the Loans were entered into a substantial disallowance was anticipated under those rules due to the way in which BlackRock expected that certain external liabilities would be characterised, but work in 2013 and 2014 resulted in agreement with HMRC that there would be no such disallowance.
LLC5's commercial purpose.
LLC5 was created cannot be divorced from its purpose in entering into the Loans. Further, the structure of the transaction was presented as a fait accompli to the board. The commercial advantage to LLC5 was of significance to it because it would not benefit from the tax advantage, but overall it was more in the nature of a by-product. On the facts there is no principled basis to identify any particular amount or proportion of the debits as being attributable to the commercial purpose.
LLC5's expectations about the relative level of tax benefits as compared to other factors.
LLC5's appeal against the UT's conclusion on apportionment.
CONCLUSION
a) allow LLC5's appeal on the Transfer Pricing issue (Ground 1) and dismiss HMRC's challenge to the FTT's findings on the evidence (HMRC's Ground 1), with the result that deductions for interest on the Loans are not restricted under the transfer pricing rules (see [97] above);
b) on the Unallowable Purpose issue, conclude that the FTT did make a material error in applying Mallalieu, and as a result would also allow Ground 2 of BlackRock's appeal, dismiss HMRC's Ground 3 and set aside the tribunals' decisions on that issue;
c) re-make the decisions with the same result, that is by concluding that LLC5 had a tax advantage main purpose in entering into the Loans but also had a commercial main purpose (such that HMRC's Ground 2 is also dismissed); and
d) dismiss Ground 3 of the appeal, concluding that the UT was correct to decide that 100% of the debits in respect of the Loans should be attributed to the tax advantage main purpose.
Lord Justice Nugee:
very grateful to Falk LJ for her clear and comprehensive judgment with which I agree. I add just a few words on the Unallowable Purpose issue. If one stands back from the detail, I think that the evidence did show that the Loans had an unallowable purpose.
5) a tax avoidance purpose is any purpose which consists of securing a tax advantage for the company or any other person. So the question can be reduced to this: was securing a tax advantage for the group the main purpose, or one of the main purposes, of LLC5 being a party to the Loans?
LLC5 on 30 November 2009 record that:
"the Chairman [Mr Kushel] proposed that the Company enter into a series of transactions in accordance with the Project Onyx Closing Step Plan prepared by Ernst & Young LLP."
In other words, the purpose of LLC5 in entering into these transactions was to take its place in the structure that had been devised to enable the acquisition to take place.
LLC5's sole raison d'être was to enter into the Loans to obtain tax advantages for the BlackRock group. When the board were presented with the proposal that it should do just that, they no doubt had to satisfy themselves, as Mr Kushel said, that it was in the interests of LLC5 itself to enter into the transactions (and, as Falk LJ explains, in considering that question they quite rightly put out of their minds the tax advantages, which would accrue not to LLC5 but to other members of the group), but I do not think that means that there was no tax advantage purpose in LLC5 being a party to the Loans. That was why the board were asked to sign up to the transactions, and that was I think plainly why they did. That as Falk LJ says does not involve an attack on Mr Kushel's (or Mr Fleming's) evidence; indeed I regard it as following from what Mr Kushel said.
LLC5 had a tax advantage main purpose in entering into the Loans.
Lord Justice Peter Jackson:
