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HMRC internal manual

Savings and Investment Manual

Interest: case law on the meaning of interest

The definition of interest has been the subject of much judicial interpretation over the years. In Westminster Bank Ltd v. Riches (28TC159), Lord Wright observed

“…the essence of interest is that it is a payment which becomes due because the creditor has not had his money at the due date. It may be regarded either as representing the profit he might have made if he had had the use of the money, or, conversely the loss he suffered because he had not had that use. The general idea is that he is entitled to compensation for the deprivation.”

The leading case on the meaning of ‘interest of money’ is now Re Euro Ltd Hotel (Belgravia) Ltd (51TC293). In that case, Megarry J considered that in general the case-law showed there were two requirements which had to be satisfied for a payment to amount to interest

  • there must be a sum of money by reference to which the payment which is said to be interest is to be ascertained - a payment cannot be ‘interest of money’ unless there is the requisite ‘money’ for the payment to be said to be ‘interest of’;
  • those sums of money must be due to the person entitled to the alleged interest.

He did not suggest that the two requirements are exhaustive or inescapable but that in the ordinary case they sufficed.

What is interest is a question of substance

What constitutes interest is a question of legal substance, not terminology. In the Westminster Bank case Lord Wright said its ‘essential quality…depends on substance not on the mere name’. Lord Simonds, with Lord Porter concurring, said that what needed to be considered was ‘what is its intrinsic character’.

That substantive test was reaffirmed in Re Euro Hotel (Belgravia) Ltd, in which by Megarry J said

“It has, quite rightly, not been suggested that the language used by the parties to an instrument in describing payments to be made under it can bind the Inland Revenue, or affect the operation of a statute. The question must always be one of the true nature of the payment.”

The contract in that case was one in which it was provided that one party would ‘pay to the Bank interest’. It was held that what was paid was not ‘interest of money’ despite the wording of the contract quoted above, because the Bank in question had not advanced money as a loan, but instead as out and out non-returnable payments for building works. The ‘interest’ was not ‘interest of money’.

‘Single indivisible sums’

Another important case on the nature of interest is Chevron Petroleum (UK) Ltd, & Others v. BP Petroleum Development Ltd & Others Ltd (57TC137). Payments between the companies included ‘an interest factor’ and were calculated in accordance with a complex formula. BP made the payments to Chevron after deducting income tax from the interest factors. The point at issue was whether the payments were true interest. Lord Justice Megarry’s view was that the ‘interest factor’ was, in law, ‘interest of money’ and that because of the substantive nature of the test the Court would, if necessary, dissect lump-sum payments into interest of money and other sums. He said

“If in its nature a sum is ‘interest of money’, I think it retains that nature even if the parties to a contract provide for it to be wrapped up with some other sum and the whole paid in the form of a single indivisible sum. The wrappings may conceal the nature of the contents but they do not alter them. Were the law otherwise, strong contractual wrappings might become remarkably popular.”