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HMRC internal manual

Business Income Manual

Capital/revenue divide: intangible assets: money injected into a subsidiary as a condition of sale

The costs incurred by a company in selling an ailing subsidiary are on capital account. The costs incurred by a company in protecting its own trade will be on revenue account if such costs do not embrace the acquisition, modification or disposal of a capital asset.

In Lawson v Johnson Matthey plc [1992] 65TC39 the company had a wholly owned subsidiary that carried on the business of banking and bullion and currency trading. The subsidiary got into a precarious financial position. The company concluded that its subsidiary was insolvent and could not continue in business without further financing. The resulting loss of confidence in the company would cause institutions to demand the return of metals held on their behalf and moneys owed to them. The company did not have sufficient funds to meet its subsidiary’s requirements nor would it be able to meet the likely demands of its own customers. The company therefore told the Bank of England that it intended to wind up its subsidiary and put itself into receivership. The Bank of England made a (non-negotiable) offer to purchase the share capital of the subsidiary for £1 provided the company injected £50m into it prior to sale. The Bank of England also undertook to arrange a standby facility of £250m for the company. The agreement was implemented.

The Revenue argued that the payment was capital because it was made in connection with and as a condition of the disposal of the shares which were a fixed capital asset and because it was made to free the company from liabilities of a capital nature.

The House of Lords, reversing the lower courts, decided that the payment was on revenue account. At page 70E Lord Keith explained that the cost of the rescue was not capital expenditure on getting rid of a troubled subsidiary but was a revenue deduction representing the company’s contribution to the Bank of England rescue operation. What was important was the result that Johnson Matthey achieved by contributing to the rescue. Johnson Matthey’s contribution resulted in the saving of its own business, and only incidentally in the sale of the subsidiary:

`The reason why the Bank of England was prepared to rescue [the subsidiary] was not, of course, because the Bank had any particular regard for [the company’s] position, but because it considered that the collapse of [the subsidiary] would have extremely serious repercussions for the banking world and would therefore be contrary to the public interest. The conditions upon which the Bank of England was willing to rescue [the subsidiary] were first, that the whole share capital of [the subsidiary] should be transferred to it for a nominal consideration, and second, that [the company] would inject £50m into [the subsidiary]. [The company] satisfied these conditions and so brought it about that the Bank of England rescued [the subsidiary] and thus saved [the company’s] business. The transfer to the Bank of England of the share capital of [the subsidiary] was not an end and purpose in itself, but was merely incidental to the purpose of achieving the rescue operation which was in fact achieved. The injection of £50m into [the subsidiary] was on a proper analysis not the payment of the price for getting rid of a burdensome asset, but a contribution required by the Bank of England towards its planned rescue operation, the rest of the funds for it being supplied by the Bank of England.’

Remember, for capital/revenue issues, your primary concern is not the purpose of the expenditure, rather you should look to the effect of the expenditure. Lord Goff at page 79C clarified that merely preserving the company’s trade from collapse is of itself insufficient to make the payment revenue:

‘It is important to observe that the payment does not become a revenue payment simply because [the company] paid the money with the purpose of preserving its platinum trade from collapse. That was the approach of the General Commissioners, which I do not feel able to accept. The question is rather whether, on a true analysis of the transaction, the payment is to be characterised as a payment of a capital nature. That characterisation does not depend upon the motive or purpose of the taxpayer. Here it depends upon the question whether the sum was paid for the disposal of a capital asset. I have come to the conclusion that, on a true analysis, the sum was not paid for the disposal of the shares. It was paid by [the company] as a contribution towards the rescue of [its subsidiary] which [the company] knew the Bank was going to mount immediately in the public interest. As such, it is in my opinion to be properly characterised as a revenue payment.’

Again you see the stress on the effect of the payment.