The High Court has confirmed the correct assessment when a claimant company ‘loses the chance’ to restructure itself and avoid tax. The judgment also makes clear that, in all cases, a claimant must prove that it would have taken a certain course of action – here implementing a tax scheme – on a balance of probabilities. Only if successful is the percentage lost chance considered and it is for the court to assess that based on the evidence of whether the scheme would have been challenged by HMRC and if such a challenge would have been successful.
The claimant’s group company had acquired a business, the goodwill of which was amortised in the accounts of an associated LLP over 5 years. The corporate members of the LLP - the claimant - then treated that amortisation as expenditure thus reducing the corporation tax it paid. Although Ernst & Young had advised on the original acquisition, it was the defendant accountants which prepared the claimant’s corporate accounts on this basis from 2008 – 2011. The defendants did not appreciate that, from 2009, the Corporation Tax Act provided that the claimant could not treat the LLP’s loss as expenditure in its accounts. Absent a remedy, this resulted in the claimant having to repay approximately £3.299 million in corporation tax. When the mistake was discovered in 2011, the claimant sought advice from Ernst & Young who said that a novel scheme, restructuring the claimant companies, could avoid the tax liability. Amidst concern that HMRC would not accept the scheme at that time, the claimant did not pursue it.
The defendants accepted that it should have advised on the new Act. However, it argued that the claimant could not have gone ahead with the potential restructuring scheme and, even if it had done, it would have been subject to successful challenge by HMRC. The court agreed that there were two questions before it: the first the ordinary question of causation and what would have happened had the claimant been properly advised. This should be decided on a balance of probabilities and is quite separate from the question of whether the claimant had ‘lost a chance’ to mitigate tax. The test in this case was whether the claimant would have implemented the restructuring scheme. The court had little difficulty finding that, if advised of it in 2009, the claimant would have pursued the scheme. That was so even though the claimant might have had to give indemnities to its associated companies – the amount of the tax liability was such that this was not an insurmountable difficulty. However, the court found that only Ernst & Young would have advised on such a novel scheme and – as at 2009 when instructing the defendants and other accountants – there was no evidence that the claimant would have asked Ernst & Young for such advice.
Although this finding was fatal to the claimant’s case, the court also considered the second question: what chance was lost if the scheme would have been implemented. To this end, the court heard expert evidence on the proper interpretation of the Corporation Tax Act and the judgment contains a detailed commentary on tax avoidance generally. It noted that the scheme would not fail simply because a taxpayer arranged his affairs specifically to incur expenditure deductible for tax purposes – tax benefit can be a commercial motive. However, in the present case there was no commercial benefit for the taxpayer, only the claimant, an associated company. Overall, the court said there was a real and substantial chance that the scheme would be successfully challenged, it said equating to 50%, and a 60% chance that the scheme would be challenged by HMRC in the first place. Consequently, there was a 30% (i.e. 50% x 60%) chance that the scheme would fail. Had the claimant succeeded this (and other risks) would have resulted in a 30% reduction to damages payable.
The case provides a reminder of the burden upon claimants to prove their case: what would have happened had they been correctly advised. Although being only persuasive and not binding, the High Court’s analysis of loss of a chance in tax cases is also helpful. It suggests that, even if it involves a detailed assessment of the tax law and various hypotheticals, the court will undertake whatever broad analysis is required to come to a decision. This highlights the importance of having relevant evidence before the court – the judge criticised the lack of expert evidence regarding HMRC’s willingness to raise an enquiry into the scheme – something ultimately resolved in the defendants’ favour.
It is also notable that the court did not accept the defendants’ argument that the claimant had a moral duty to pay tax and it was not therefore incumbent upon the accountant to assist in avoiding it. The court said that the duty to advise on tax (and opportunities for its avoidance) was not in a special category.
Finally, it is interesting to note the judge's comments that those firms holding themselves out as operating at the top of their profession are to be judged by those standards. The judicial 'noise' in this area certainly points to larger firms with greater resources being held to more stringent standards by the courts. What the 'reasonable accountant' should have done may not be the right question; what should the 'reasonable accountant' operating in a firm of a similar size and repute may be the right one. That will drive the parties’ choice of expert going forwards.