The long-awaited Upper Tribunal Decision in the Samarkand and Proteus case has been published. The case relates to statutory sale and leaseback partnerships with partners claiming losses under the film acquisition relief provisions in sections 130-144 of the Income Tax (Trading and Other Income) Act 2005 where HMRC had successfully argued in the First Tier Tribunal that the partnerships were not trading on a commercial basis with a view to profit. This Decision was appealed to the Upper Tribunal, together with an Application for Judicial Review. The basis for the Judicial Review was that the taxpayers had a legitimate expectation derived from HMRC’s Business Income Manual (BIM), such that it was not open to HMRC to raise trading arguments because the sale and leasebacks were “plain vanilla” transactions within the safe harbour parameters described in the BIM. The Upper Tribunal found in favour of HMRC on both grounds.

On the substantive issue of whether the partnerships were carrying on a trade on a commercial basis with a view to profit, the Upper Tribunal held that the First Tier Tribunal were entitled to conclude that the partnerships were not carrying on a trade as there had been no identifiable error of law in their statement of the principles. The key consideration was what the partnerships actually did, and on that basis, the First Tier Tribunal found as a fact that the leasing agreements could not be divorced from the sale and purchase agreements such that there was a single composite transaction. The Tribunal was entitled to find that what had occurred was a payment of a lump sum in return for a series of fixed payments over 15 years, which was not a transaction that amounted to an adventure in the nature of a trade. This conclusion is dependent on the particular facts as the First Tier Tribunal in its statement of principles accepted that a single purchase and leasing of an asset can be a trade and this was upheld by the Upper Tribunal.

On the question of commerciality, the fact that the transaction did not make a profit without the partners claiming tax relief was acknowledged to be a not entirely easy question to answer. It was accepted that the mere fact that a trade is only worth undertaking because of the availability of a tax relief does not by itself mean that the trade or business is not being carried on a commercial basis. However, the Upper Tribunal agreed with the First Tier Tribunal that anything that a partner does individually, not as one of the partners in the firm, does not form part of the partnership’s business. As sideways loss relief is a claim by the individual partners and is not claimed as part of the partnership, then it had to be disregarded in considering the commerciality question. This distinguishes a partnership case from the case of a corporate, where a claim for tax relief is taken by the corporate. The Upper Tribunal acknowledged that this may have the consequence that it may be difficult, if not impossible, for partnerships to access relief of this sort, and they made no comment on the First Tier Tribunal’s distinguishment of corporate bodies. This outcome is likely to lead to further debate and must be open to question.

The Judicial Review part of the Decision, whilst this also went against the taxpayer, is of assistance in other cases. The Upper Tribunal held that HMRC were not bound to apply the guidance in a case where avoidance was suspected, i.e. in cases which were not designed for tax deferral. The question therefore arose as to whether in the instant case there was a reasonable belief on the part of HMRC that these particular arrangements raised a rational suspicion that the scheme might be being used for tax avoidance rather than tax deferment. HMRC pointed to 155 other cases where claims to relief had been settled. Certain features were identified in those cases, and in particular five offshore features:

  1. A partnership with an offshore managing partner or other offshore indication
  2. An offshore lessee
  3. An offshore lending bank
  4. The partnership bank account being offshore
  5. Evidence that the partnership was marketed to non-doms or expected emigrants

While there were many schemes where claims had been settled which had one or more of these features (for example, 45 with feature (1), 19 with feature (2)), only one scheme exhibited all five features. As both Proteus and Samarkand exhibited all five features, the Upper Tribunal agreed with HMRC that evidence that claims to relief had been allowed where one or two offshore features are present cannot be elevated into a practice precluding HMRC from concluding that there might be tax avoidance where all five are present, and proceeding to challenge the scheme on whatever grounds they wished.

Therefore on the positive side, where a scheme does not demonstrate any of these features or only one or two – and is otherwise BIM compliant – then the BIM should apply such that HMRC would be precluded from raising the ”trading on a commercial basis with a view to profit” argument.

This case marks another success for HMRC in a string of challenges brought against perceived tax avoidance. It will be interesting to see if this trend continues in the upcoming decisions on other structured film finance schemes such as the Ingenious (First Tier Tribunal) and Goldcrest (Upper Tribunal) cases