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Walewski v HMRC

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In Walewski v HMRC [2020] UKFTT 58 (TC) (30 January 2020), the FTT found that profits allocated to a company of which the taxpayer was a director, and which was a corporate member of two limited liability partnerships, should instead be reallocated to the taxpayer under the mixed partnership rules.

Mr W had set up an equity fund in Luxembourg, managed by two UK limited liability partnerships, AAM LLP and AF LLP. W was a partner in both, and set up ‘W Ltd’ which became a corporate partner. W was W Ltd’s only director and employee. He provided services to clients as a partner in AAM and AF and also as director of W Ltd. It was unclear how W’s role would be divided between those entities or in what capacity W’s services would be provided.

HMRC assessed W to income tax on £20m of profits reallocated from AAM and AF to him under the mixed partnerships rules in ITTOIA 2005 s 850C on grounds that those profits were not earned by W Ltd but had been allocated to W Ltd because of W’s ability to enjoy them via an offshore trust fund to which W Ltd paid its profits.

The question for the FTT was whether the allocation of profits to W Ltd could be explained by W’s earning power as its employee or some other commercial reason.

Dismissing W’s appeal, the FTT found that W Ltd had not earned the profits allocated to it by reason of W’s activities as its employee. There was little evidence to show how W’s services were provided to clients via W Ltd and, in effect, he had been working full-time for AAM, AF and W Ltd at the same time.

The only explanation for the allocation of profit to W Ltd was by reason of W’s ability to enjoy those profits. It would not be just and reasonable to allocate those profits equally between the entities, or on a time-apportionment basis given that W acted for all three entities at the same time. Profits allocated to W Ltd would be reallocated to W.

Read the decision.

Why it matters: New rules came into effect in 2014 to limit the tax advantages previously available for mixed partnerships of individuals and companies. These operate to prevent individuals allocating profits to a corporate partner with which they have a connection in order to reduce the amount of tax which is payable. This is the first case to examine these new rules, and it will be of significant interest to all who deal with any sort of hybrid structures. The FTT took a forensic approach to the facts and determined that over £20m of profits should be reallocated away from a company and taxable directly on the taxpayer. None of the commercial reasons that the taxpayer put forward to explain the use of the hybrid structure cut any ice with the FTT, which had no hesitation in seeing the structure as a tax planning device.

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Issue: 1475
Categories: Cases