Tax Mitigation Or Tax Avoidance? HMRC Continues To Challenge
Two recent cases provide a vital reminder to business organisations of the need for caution when setting up, or becoming involved in tax mitigation schemes. There could be a costly risk if HM Revenue & Customs considering them to be tax avoidances schemes.
Understanding how judges interpret the rules, particularly in the context of insolvency, can be particularly useful. In the first case1, for instance, an umbrella company was set up in order to operate a tax mitigation scheme. Its ‘employees’ would receive the majority of their earnings as loans from an offshore employee benefit trust to avoid income tax and national insurance contributions.
HMRC assessed the company and decided the scheme was ineffective as a tax mitigation scheme, and said the company was liable under the PAYE regime for unpaid taxes (£2,238,057.72 in respect of two tax years to 2009/10.
The company went into liquidation and the liquidator brought several applications under s423 Insolvency Act 1986 against the scheme’s participants. It argued that:
· the transactions were at an undervalue (the consideration the Company received was significantly less than the liabilities it accrued) and
· It was entered into with the prohibited purpose of avoiding tax liabilities (ie putting assets out of the reach of HMRC)
The High Court agreed that the transactions were at an undervalue, agreeing that the company was in a worse position by entering into each transaction than it would have been had it not entered into the transaction in the first place.
No prohibited purpose
However, the ‘prohibited purpose’ element required under s423(3) was missing.
The judge made clear that “a transaction entered into with the intention that no tax liability should thereby arise, is not an intention to prejudice a claim for that tax liability for the purposes of s423(3)(b)”.
The provisions under s423 are concerned with a prohibited purpose of putting assets out of reach of a person making (or may later make) a claim. The underlying policy is that debts are paid before gifts are made – a policy which, the judge said, is not undermined by a transaction which prevents a debt arising.
The liquidator’s claims therefore failed.
Purity Ltd
A separate case is worth watching as it develops this year as it could lead to an appeal against an HMRC determination that a tax scheme amounted to a disguised remuneration tax avoidance scheme.
Purity Ltd operated an umbrella business in a similar way to Ethos Solutions. Nine in 10 of employees took advantage of the scheme by which they were paid a salary based on the
minimum wage, with the balance provided by an ‘advance’ to the employee. Purity claims this advance is a loan, therefore no payroll taxes are payable on that amount.
The company also charged the employees substantial fees to join the scheme. HMRC issued determinations to the company for almost £9.1m, asserting that the scheme “operates at the cost of the general body of taxpayers”.
HMRC issued a ‘stop notice’ to the company on grounds that the scheme comprised a tax avoidance scheme. The company ceased operating and has appealed the notice and a trial date has yet to be set. Purity has also indicated it may well appeal HMRC’s determinations to the FTT.
We will watch the case as proceedings develop.
Key takeaways
Tax avoidance is subject to the general anti-avoidance rule to numerous targeted anti-avoidance provisions; and includes schemes and other attempts to avoid tax that you are otherwise liable to pay (in other words, the tax debt has already arisen).
Tax mitigation means schemes and other acceptable tax planning devices to minimise your tax liabilities and is to be distinguished from tax avoidance. If in doubt about any scheme your business is operating, or to which you are signed up, take specialist advice from expert tax or commercial lawyers.
1Ethos Solutions Ltd v Liquidators [2024] EWHC 1081)
2HMRC v Purity Ltd [2024] EWHC 2965 (Ch)
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