David Whiscombe shares cautionary tales about the complexities of indemnities.
To make a deal happen, one party may agree to indemnify the other against unexpected tax consequences – or sometimes even against known and expected ones. Some care needs to be taken on both sides: by the indemnifier that the full extent of the potential liability is known, and by the indemnitee (yes—the word does exist—we checked) that the indemnity covers the right things and is enforceable.
For example, we recall a case involving an acrimonious marriage breakdown and a jointly-owned company. As part of the financial settlement the company bought back shares held by the wife, who had agreed to the arrangement only conditionally on the husband’s indemnifying her in respect of Capital Gains Tax payable on the buyback. Unfortunately for the wife (and even more so for her professional advisers and their insurers) the circumstances were such that the tax charge on the buyback turned out to be not CGT but Income Tax, for which no indemnity had been given.
In another case, an indemnity was given by one party to a transaction in respect of tax payable by the other. There was a dispute with HMRC as to what tax (if any) was payable which led to a negotiated settlement. Payment under the indemnity was resisted on the grounds that it had not been established that tax was actually payable: if the matter had been pursued to appeal, it was argued, the tax would not have been due.
Both the indemnifier and the indemnitee need to consider a number of questions, including:
- Does the indemnity extend to interest or penalties on any tax?
- To what extent is the indemnifier entitled to take control of any tax dispute?
- Is the indemnity capped?
The secret, as always, is to think ahead and take best advice.
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