Mr and Mrs Pickles incorporated their business, by selling it to a company which they had formed for the purpose. Part of the deal was that they sold the goodwill for an agreed price of about £1.2m, left outstanding on loan account.
Although the £1.2m had been based on a calculation carried out by Mr and Mrs Pickles’s advisers, it was subsequently accepted by all parties that the market value of the goodwill was only some £270,000. It was also accepted in principle that to the extent that the ‘amount or value of the benefit received’ from the company exceeded £270,000, the excess fell to be subjected to income tax in the hands of Mr and Mrs Pickles as a distribution.
The fly in the ointment was that the new company had failed, and less than £800,000 of the £1.2m purchase price had actually been paid by the company. So, was the ‘amount or value of the benefit received’ £1.2m? Or £800,000? Or something else?
The First-tier Tribunal (FTT) had decided, in favour of the taxpayer, that the right figure was £800,000; but the Upper Tribunal (UT) has taken a different view (see HMRC v N Pickles and another [2022] UKUT 253 (TCC), as reported in Tax Journal 29 September 2022).
Although it had been argued before the FTT that Mr and Mrs Pickles had received no benefit until the company made payment, it was conceded before the UT that that analysis was wrong: the parties agreed that any distribution had to be calculated by reference to the ‘amount or value’ of the benefit received at the time of disposal.
However, the UT rejected HMRC’s contention that the agreed purchase price was conclusive as to the ‘amount or value’. To the extent that a purchase price remained unpaid at the time of disposal, the ‘benefit received’ was simply a promise to pay; and it was necessary to determine the ‘amount or value’ of that promise.
The UT also noted that ‘the value’ of the benefit received is not defined. Specifically, it was not possible to apply the concept of ‘market value’ as defined in relation to other taxes and as considered in case law (that is, the price that would be agreed by a hypothetical willing vendor and purchaser both assumed to be prudent and assuming an arm’s length transaction). Rather, the ‘value’ should be determined ‘by reference to the value attributed to the benefit by a member of a company (sharing the attributes and knowledge of the taxpayers), rather than the value which might be placed on the relevant asset by an arm’s length third party trader.’
In the case before it, the UT considered the value of the promise to be its face value:
‘There is no evidence suggesting that the parties did not consider and intend £1,199,043 to be the value of the promise. The promise arose as a result of the agreement by the taxpayers to transfer the goodwill to [the company]. The amount agreed to be paid was arrived at as a result of a third-party valuation of the goodwill. The promise was objectively recorded in the agreement for sale as being payable in cash or payable on demand as a debt. Additionally, [the company] credited the amount of £1,199,043 to the directors’ loan account. There was no evidence to suggest that the promise was not genuine or that the parties did not intend for the amount to be paid.’
Two further points are worth noting.
The first is that HMRC had assessed Mr and Mrs Pickles to income tax on the basis that the goodwill was worth £450,000 and that the distribution chargeable to income tax was £749,043. However, the FTT had determined that the value of the goodwill was only £270,000 and thus that the amount chargeable to income tax was £928,843. A reminder, therefore, that appealing to the tribunal can occasionally leave you worse off than acquiescing in HMRC’s view.
Second, it appears that all of this trouble could have been avoided by the use of an ‘adjuster’ clause: that is, if the incorporation agreement had provided for the goodwill to have been sold for ‘£1.2m or such other amount as may be determined to be its market value by HMRC or a competent court or tribunal’ or some such wording: there could then have been no question of the sale giving rise to a distribution chargeable to income tax.
Mr and Mrs Pickles incorporated their business, by selling it to a company which they had formed for the purpose. Part of the deal was that they sold the goodwill for an agreed price of about £1.2m, left outstanding on loan account.
Although the £1.2m had been based on a calculation carried out by Mr and Mrs Pickles’s advisers, it was subsequently accepted by all parties that the market value of the goodwill was only some £270,000. It was also accepted in principle that to the extent that the ‘amount or value of the benefit received’ from the company exceeded £270,000, the excess fell to be subjected to income tax in the hands of Mr and Mrs Pickles as a distribution.
The fly in the ointment was that the new company had failed, and less than £800,000 of the £1.2m purchase price had actually been paid by the company. So, was the ‘amount or value of the benefit received’ £1.2m? Or £800,000? Or something else?
The First-tier Tribunal (FTT) had decided, in favour of the taxpayer, that the right figure was £800,000; but the Upper Tribunal (UT) has taken a different view (see HMRC v N Pickles and another [2022] UKUT 253 (TCC), as reported in Tax Journal 29 September 2022).
Although it had been argued before the FTT that Mr and Mrs Pickles had received no benefit until the company made payment, it was conceded before the UT that that analysis was wrong: the parties agreed that any distribution had to be calculated by reference to the ‘amount or value’ of the benefit received at the time of disposal.
However, the UT rejected HMRC’s contention that the agreed purchase price was conclusive as to the ‘amount or value’. To the extent that a purchase price remained unpaid at the time of disposal, the ‘benefit received’ was simply a promise to pay; and it was necessary to determine the ‘amount or value’ of that promise.
The UT also noted that ‘the value’ of the benefit received is not defined. Specifically, it was not possible to apply the concept of ‘market value’ as defined in relation to other taxes and as considered in case law (that is, the price that would be agreed by a hypothetical willing vendor and purchaser both assumed to be prudent and assuming an arm’s length transaction). Rather, the ‘value’ should be determined ‘by reference to the value attributed to the benefit by a member of a company (sharing the attributes and knowledge of the taxpayers), rather than the value which might be placed on the relevant asset by an arm’s length third party trader.’
In the case before it, the UT considered the value of the promise to be its face value:
‘There is no evidence suggesting that the parties did not consider and intend £1,199,043 to be the value of the promise. The promise arose as a result of the agreement by the taxpayers to transfer the goodwill to [the company]. The amount agreed to be paid was arrived at as a result of a third-party valuation of the goodwill. The promise was objectively recorded in the agreement for sale as being payable in cash or payable on demand as a debt. Additionally, [the company] credited the amount of £1,199,043 to the directors’ loan account. There was no evidence to suggest that the promise was not genuine or that the parties did not intend for the amount to be paid.’
Two further points are worth noting.
The first is that HMRC had assessed Mr and Mrs Pickles to income tax on the basis that the goodwill was worth £450,000 and that the distribution chargeable to income tax was £749,043. However, the FTT had determined that the value of the goodwill was only £270,000 and thus that the amount chargeable to income tax was £928,843. A reminder, therefore, that appealing to the tribunal can occasionally leave you worse off than acquiescing in HMRC’s view.
Second, it appears that all of this trouble could have been avoided by the use of an ‘adjuster’ clause: that is, if the incorporation agreement had provided for the goodwill to have been sold for ‘£1.2m or such other amount as may be determined to be its market value by HMRC or a competent court or tribunal’ or some such wording: there could then have been no question of the sale giving rise to a distribution chargeable to income tax.
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