On 4 November the Court of Session published its decision in the case of Murray Group Holdings (better known as “the Rangers case”). This decision, overturning taxpayer victories at the First-tier and Upper Tribunals, has caused some consternation in the tax adviser community – or at least that part which has been involved over the years with Employee Benefit Trusts.
EBTs are, broadly, what the name suggests: trusts established for the purpose of benefitting employees in some form or another. Their attraction, from a tax perspective at least, has been that they have seemed to approach the Holy Grail of transferring value to employees in a way which gives tax relief to the employer without creating a significant tax charge (or, at any rate, an immediate tax charge) on the lucky employee. HMRC have been unappreciative of the ingenuity of advisers in creating successive iterations of the EBT concept and the battle has ranged hither and thither in the Courts, with HMRC deploying a number of weapons in different tax cases with varying degrees of success.
The “settlement opportunity” which HMRC offered to users of EBTs was not widely taken up – possibly because of uncertainty about whether it really offered any advantage, especially in the light of the ongoing litigation in the Rangers case. That “settlement opportunity” is now closed and HMRC will seek to settle EBT enquiries on the basis of the legal position (whatever that may turn out to be, and having regard to the legislation on “disguised remuneration” introduced in 2010).
So back to the Rangers case.
In the First-tier and Upper Tribunals, as in other EBT cases, HMRC had attacked on two fronts, arguing that an income tax point arose either at the time at which trust assets were appointed to a separate “sub-fund” for the express benefit of a named employee and his family; or at the time when an EBT provided a “loan” to an employee on favourable terms (especially where it was reasonably clear that in reality repayment of the loan would be neither expected nor demanded).
In the Court of Session, HMRC unveiled a new more direct approach. Forget the fact that a trust is involved, they said (in effect): that is irrelevant. Suppose, they said, that an employer takes the amount of a discretionary bonus which he proposes to pay to an employee and pays it instead, with or without the employee’s agreement, to the employee’s family. Does that make the bonus any less “earnings” of the employment? Of course not (they said). So (they said) what do you get when you apply the same principle to EBTs (or, at least, to the arrangements before the court in the Rangers case)? You get (they said) to the conclusion that the payment to the EBT was itself a payment of income taxable on the employee when it was made to the EBT: you don’t need to look at the question of subsequent appointment to a sub-fund or the making of a loan, because anything that happens after the payment to the EBT is irrelevant. And the Court of Session agreed: “This principle is ultimately simple and straightforward – indeed, so straightforward that in cases where elaborate trust or analogous relationships are set up it can be easily overlooked. That, it seems to us, is what happened before the First-tier and Upper Tribunals in this case.”
It must be said that the Rangers decision is controversial and may be difficult to reconcile with some earlier more nuanced decisions. Indeed some advisers have said that it is just plain wrong. We shall find out: the case will almost certainly be appealed to the Supreme Court.
Meanwhile, it may turn out to be a pyrrhic victory for HMRC. Why? Because if it is indeed the case that the payment to the EBT itself amounts to the payment of earnings, PAYE should have been applied at that time. The obligation to operate PAYE lies fairly and squarely with the employer, and not with the employee. The employee is, as a rule, entitled to credit for the PAYE tax which the law requires to have been deducted; this remains the case even if that PAYE tax has never in fact been deducted or has never been paid over to HMRC. Broadly, an employee is denied credit for the PAYE tax (and therefore has effectively to pay the tax himself) only in either of two circumstances. The first is where he receives the earnings knowing that the employer wilfully failed to operate PAYE properly. This is a stringent test and will usually apply only in the case of a closely-controlled company where the company and the employee are effectively one and the same person. It is difficult to see it applying in cases such as Rangers. The second is where the employer took “reasonable care” to comply with the PAYE regulations and the under-deduction is attributable to an “error made in good faith”. A positive decision, on advice, not to operate PAYE is unlikely to be an “error” so this second circumstance is also unlikely to apply to Rangers-type cases.
For further guidance on EBTs, please get in touch with your usual BKL contact or use our enquiry form.
Update: we’ve covered developments in the Rangers case in a subsequent article: They don’t think it’s all over: Rangers to appeal to Supreme Court