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HMRC internal manual

Business Income Manual

Specific deductions: employee share schemes: providing shares to employees: non-qualifying shares: through an employee benefit trust: tax cases

The tax case law on deductions for contributions to employee share ownership trusts pre-dates the introduction of the ‘qualifying shares’ legislation. The principles established now apply only where the trust is used to provide employees with ‘non-qualifying shares’. The outcome of the cases can be summarised as follows.

Tax Case or Special Commissioners decision name Number Capital or revenue Wholly and exclusively
Heather v PE Consulting Group Ltd 48TC293 Revenue Yes
Rutter v Charles Sharpe Ltd 53TC163 Capital Yes*
Jeffs v Ringtons Ltd 58TC680 Revenue Yes**
E Bott Ltd v Price 59TC437 Revenue** Yes
Mawsley Machinery Ltd v Robinson [1998] SpC170 Capital No

*the Revenue did not appeal against the Commissioners’ decision on this issue.

**Common ground - not considered by the Commissioners.

Heather v PE Consulting Group Ltd 48TC293

The company carried on the business of management consultants. Following the death of one of the principal shareholders in its parent company the senior professional staff became concerned at the prospect of control being exercised by outside shareholders with no professional qualifications. A scheme was set up with the objects broadly of:

(a) giving staff an opportunity to purchase a stake in the company, thereby providing an incentive to greater effort on their part, and

(b) removing the possibility of outside interference with the business of the company.

A trust deed was executed and the company undertook to pay to the trustees 10% of its consolidated gross profits for each financial year to be held on trust for the purchase of such shares. The payments in question were held to be revenue expenditure, being annual payments made to provide an incentive for the staff and not instalments of any predictable capital sum. In view of the special character of the Company’s business, the acquisition of the shares by the professional staff from outside shareholders was for the purposes of the trade.

Rutter v Charles Sharpe & Co Ltd 53TC163

The company set up a trust with a direction to the trustees to apply the trust fund in the purchase of stocks and shares in the company and to hold them on trust ‘to apportion any dividends received thereon among the employees of the company’. On termination of the scheme (on the winding-up of the company, or on the company giving one year’s notice to the trustees, or on the expiration of 80 years from date of the execution of the deed) the trustees were required to sell the stocks and shares and apply the net sale proceeds in repaying to the company the amount of the trust fund and all sums paid by the company to the trustees for the purchase of the stocks and shares. It was held that each payment to the trustees was capital expenditure as it gave rise to a corresponding asset of a durable character in the form of the trustees’ obligation to repay.

Jeffs v Ringtons Ltd 58TC680

The company set up a trust fund to provide benefits for its older employees who might receive inadequate pensions as a result of the company joining the state pension scheme. The trust deed provided for the money donated by the company to be applied in the purchase of shares in the company to be held for the benefit of such employees and in such shares as the trustees in their absolute discretion should determine. It was common ground that a payment to the trust fund was money laid out wholly and exclusively for the purposes of the company’s trade. The payment was held to be revenue expenditure as it was not a once and for all payment but one of a series of payments which could not be regarded as an instalment of an identifiable capital sum. Moreover, the fund did not constitute an asset or an enduring advantage of a capital nature to the company since the amount and duration of the fund were uncertain.

E Bott Ltd v Price 59TC437

The company set up a trust for the benefit of its employees. Its objects were to ensure ‘that the issued share capital or a substantial proportion thereof be held by the Trustees for the benefit of the Company’s employees and so that those employees shall have an interest in the business and undertaking of the Company a share in its profits (if any) and a voice in the direction of its affairs’. It followed therefore that on the facts and in the absence of evidence of another purpose, the payments made to the trustees of the settlement were wholly and exclusively laid out for the purposes of the company’s trade. The fact that the arrangements were set up in a way that mitigated Capital Transfer Tax was an incidental benefit, not one of the purposes for making the payments to the trustees.

Mawsley Machinery Ltd v Robinson [1998] SpC170

Early in 1992 the managing director and controlling shareholder of the company decided that he would retire in 1998. He did not want his fellow directors (both of whom had small shareholdings in the company) to lose control of the company when he retired and sold his shareholding. The company created a discretionary trust for the purpose of acquiring his shares on his retirement. Although the trust was expressed to be for the benefit of all the company’s employees, the managing director regarded it as vehicle to enable it to purchase his shares for the benefit of his fellow directors when he retired and thus to enable them to retain control of the company. It was held that the company’s payments to the trust were not wholly and exclusively for the purposes of the company’s trade as the primary purpose was to enable the managing director to sell his shares without trouble when he retired. As the purpose of the payments by the company was to build up a fund in the trust which would be used to make a capital purchase of the managing director’s shares on his retirement the payments were also capital in nature.