CFM38125 - Loan relationships: tax avoidance: unallowable purpose: whose purpose?

CTA09/S442

Purposes for which the company is party to the loan relationship

For the unallowable purpose rule (at S441-442), the test of whether the purposes of the loan relationship are unallowable is applied to the purposes for which the company is party to the loan relationship or enters into a related transaction (as defined for the rule) by reference to the loan relationship (S442(1)).

The following assumes a company incorporated in the UK or under a similar corporate law regime as regards the role of directors.

Where the following makes statements on the likely factual position, this is based on HMRC’s experience. In any given case, it will ultimately be a question of the specific facts in that case. This section focusses on what HMRC considers to be the most likely factual positions.

In the great majority of cases:

  • the purposes for which the company is party to the loan relationship will be the purposes of the directors of the company in being party to the loan relationship
  • the directors will have knowledge of, and their decision-making will take into account, the purposes of the group, or of others driving wider arrangements, in relation to the company’s role
  • the directors will consider, and their decision-making will take into account, the tax consequences for the company and, as relevant to the company’s role, for the group

There are limited other situations in which the purposes for which the company is party to the loan relationship may include the purposes of the group or others, even though directors do not have knowledge of these purposes. More detail is as follows.

Purposes of the directors of the company

Generally, when assessing the purposes of a company, it is the purposes of the company’s directors that are in most circumstances of greatest importance in relation to most types of decisions (for some types of decisions, shareholder involvement is required). This is supported in case law generally, and in unallowable purpose rule cases in particular, for instance in Oxford Instruments UK 2013 Ltd v HMRC [2019] UKFTT 0254 (TC) (Oxford Instruments v HMRC). Judge Beare stated at paragraph 99:

“when I refer in this section to the purpose of a company, I am referring to the purpose of the directors of that company”.

It is useful to consider how the purposes of others might affect the directors’ purposes.

Relevance of purposes of others to directors’ purposes – groups

A company within a group will often be involved, including being party to a loan relationship, in wider arrangements of the group. These wider arrangements may be driven by the purposes of directors of another group company (for instance, of the parent or group treasury company), or of other senior individuals within the group. In these situations, it is likely, as a matter of fact, that the directors of the company will have some knowledge of the purposes for such wider arrangements (the ‘group purposes’). At the least, it is likely, as a matter of fact, that the directors of the company will know the group purposes in relation to their company’s role in the wider arrangements. The directors may be briefed on relevant group purposes explicitly in board papers or may have acquired such knowledge through other routes, for instance if they are a director of other companies taking part in the arrangements, or if they sit on the executive board for the group or have other senior roles. Such knowledge may be acquired before the company in question is incorporated. It is likely, as a matter of fact, that the directors will take into account their knowledge of the group’s purposes in their decision making.

Whether or not any such group purposes amount to a main purpose of the directors of the company will then need to be determined, and depends on all the facts and circumstances, see CFM38135. In the context of wider arrangements elements of which have been planned to secure tax advantages, we would expect any instruction to the directors to ignore their knowledge of such tax planning to have no effect in reducing the significance of that knowledge in determining purpose.

There are cases concerning purpose tests other than the unallowable purpose rule which support the view that in many situations directors have regard to what a group as a whole is trying to achieve, whether or not this is explicitly addressed by the directors.

For instance, in the context of whether expenditure was incurred wholly and exclusively for the purposes of the company’s trade, where there were common directors for a number of companies, in Garforth v Tankard Carpets [1980] 53 TC 342 Walton J said (at page 349) that he found it “extremely difficult for any directors of two associated companies … to be certain in whose best interests - or, rather, in whose exclusive interests - any step which they take is being taken” and that it would take a “superhuman effort of mind” to be able to distinguish the purposes of specific entities in a group of companies.

Relevance of purposes of others to directors’ purposes – non-group

Outside the group context, there are circumstances in which others may play a substantial part in driving wider arrangements, in which a company is involved, and as part of which the company is party to a loan relationship. For instance, this might apply to some wider arrangements driven by shareholders in a family-owned company. In these circumstances it will very often be the case, as a matter of fact, that the directors have knowledge of the purposes of those driving the wider arrangements, at least as regards the company’s role, and that they take account of those purposes in their decision making.

Other situations

As noted in Oxford Instruments v HMRC, the purposes for which the company is party to the loan relationship are not those of the directors in the rare cases where the directors have ceded de facto control of the company or are acting as mere puppets. For example, the above principle applies where the directors have ceded control to shareholders or advisers. In those cases, it will be necessary to assess the purposes of those to whom they have ceded control or for whom they are acting as puppets.

There are limited other situations in which the purposes for which the company is party to the loan relationship may include the purposes of other decision-makers in relation to the company’s role in arrangements they are driving, even though directors do not have knowledge of these purposes. These may include the situation where the arrangements are deliberately put in place so that the directors do not know about the purposes of the decision-makers and the directors choose not to ask.

This is a complex area where the case law is developing and, if it may be in point, this should form part of the discussions with Counter-Avoidance Technical Team (see CFM38200).

The questions of whose purposes are to be considered and how they are assessed generally are being discussed in cases under litigation at the time of writing, including HMRC v BlackRock Holdco 5 LLC [2022] UKUT 199 (TCC), and JTI Acquisition Company (2011) Ltd v HMRC [2022] UKFTT 166 (TC).