Message to clients: if you want to avoid expending time, money and nervous energy in arguing a case before the First-tier Tribunal (‘FTT’), don’t enter into legal agreements (especially novel ones) without taking advice on how they may be interpreted.
Message to HMRC: don’t damage your reputation and credibility by taking morally meritless cases to the Tribunal.
Now to the facts. Mahadevan Krishnamohan and another v HMRC [2024] UKFTT 346 (TC).
Mr Krishnamohan needed £600,000 to finance what he expected to be a short-term venture. Ordinarily he would no doubt have borrowed it. But he found that the high street banks from whom he had previously borrowed weren’t interested in funding this particular venture; and, as he told the FTT, ‘time constraints prevented him from exploring further conventional financing options’.
So he turned to a BVI-registered company (‘Sheen’) which was in the business of providing short-term finance.
The agreement under which Sheen provided the money was an unusual one. It took the form of an option agreement. The £600,000 was expressed to be the consideration for Mr Krishnamohan’s granting Sheen an option to purchase (at a price which was significantly less than market value) some properties which he owned.
The option became exercisable 12 months after it was granted. However, if Mr Krishnamohan managed to repay the £600,000 (together with what was in substance though not legal form interest) within the 12-month period, the option fell away.
In the event, the 12-month period was extended by agreement, the money was repaid and Mr Krishnamohan kept the properties. (Actually, the facts were somewhat more complicated than that: there were a number of similar agreements on substantially identical terms involving two companies – but that summary will serve our purpose.)
Tax law provides that for the purposes of Capital Gains Tax (‘CGT’) the grant of an option is the disposal of an asset (that is, an asset separate and distinct from the asset over which the option is granted: one for which there is no ‘base cost’ to deduct). There are special rules dealing with the position if the option is exercised: but they didn’t apply in Mr Krishnamohan’s case.
So HMRC’s analysis was simple; not to say simplistic. Mr Krishnamohan had received £600,000 for the grant of an option so he had to pay CGT on £600,000 and that was that. The fact that he’d repaid the £600,000 was neither here nor there.
It was argued on behalf of Mr Krishnamohan that despite the wording of the agreement (which called itself an ‘Option Agreement’ and referred to the £600,000 as the ‘Option Price’), no option ever came into existence. An option, it was argued, connotes the right to decide whether or not to buy the property over which the option is granted. In the event, Sheen never had that choice because the right ceased to exist (on repayment of the money) before it ever became exercisable. So no option, properly understood, ever came into existence.
The FTT agreed with Mr Krishnamohan:
We have concluded that the First Sheen Agreement, despite its unfortunate title of “Option Agreement”, was an agreement by the Appellants that, if they did not pay £600,000 plus a further payment of £108,000 to Sheen within 12 months of the date of entering into the agreement, then Sheen would have the right – at that stage and, critically, only at that stage – to decide whether it wanted to buy the properties on the schedule. In other words, the First Sheen Agreement was an agreement that the Appellants would grant an option to Sheen in a year’s time if, and only if, certain defined circumstances came to pass. Those events were within the control of the Appellants and they did not come to pass here.
That was obviously the right decision. It was not only a correct legal analysis but as the FTT said, ‘also accords with what might be termed the “common-sense” view of the matter. One has to ask: why couldn’t HMRC see that?
Of course, if the agreement hadn’t been called an Option Agreement and hadn’t been drafted using the terminology of one, HMRC wouldn’t have been unable to see the wood for the trees, the case would never have come before the FTT and everyone would have been saved a great deal of trouble. There’s a lesson there.
For more information on CGT and options, please get in touch with your usual BKL contact or use our enquiry form.
