A scintilla is enough to trigger loan relationship unallowable purpose

A scintilla is enough to trigger loan relationship unallowable purpose

Mon 01 Dec 2014

Background to the case

Fidex was a stand alone SPV used by BNP Paribas in creating derivatives.  It had some legacy assets and Swiss Re came up with a scheme which produced a very large loan relationship deficit which, by bringing Fidex into the BNP Paribas group, would be offset against BNP’s UK members’ profits.  Under the plan in 2004 Fidex issued classes of preference shares with rights linked to the legacy bonds held by Fidex.   In 2005 Fidex started to report under IFRS and because of the preference share rights, under IFRS only 5% of the value of these legacy bonds appeared in its balance sheet.  Fidex claimed that under the loan relationship transitional rules the 95% that “disappeared” should be a loss as at the beginning of 2005, its first IFRS period.  The FTT held that the transitional provisions operated as claimed by BNP Paribas.  HMRC abandoned their challenge against that decision.  Instead they asserted that the loan relationship unallowable purpose test applied.

Unallowable purpose test

Once it had decided that it was open to HMRC to challenge the deduction claimed by BNP Paribas in the Fidex case (see our separate blog article ‘Closure notice wording did not prevent HMRC changing tack’), the Upper Tribunal then considered whether the unallowable purpose test in paragraph 13 did apply to deny the benefit of the tax deduction claimed by BNP Paribas.

The FTT had held that whilst Fidex had an unallowable purpose in 2004, an unallowable purpose only existed for, at most, a ‘scintilla temporis’ of the 2005 accounting period.  Para 13 can only operate to deny a loan relationship debit if an unallowable purpose exists in that accounting period.  Fidex’s argument was that the unallowable purpose existed in the 2004 accounting period, but not in 2005 when the debit arose.

The dictionary definition of “scintilla” is a tiny trace or amount.  The FTT had decided that during its 2004 accounting period a main purpose of the company holding the loan relationships was tax avoidance, thus an unallowable purpose.  It was during 2004 that the structure was put in place (restructuring, issuing the various classes of preference shares) giving the opportunity to make the 2005 loss claim. The FTT held that there was only a scintilla of time in the 2005 period when there was a main tax avoidance purpose.  They came to that conclusion as the legislation on when an accounting period ends and begins states that a new period begins whenever a period ends – it does not say immediately after a period ends.  The UTT observed that the scintilla of time in the 2005 period (being the instant that the 2004 period ends) was sufficient for there to be an unallowable purpose in 2005 (paragraph 139 of the UTT decision).The tax avoidance scheme relied on Fidex holding the bonds at the beginning of 2005. In obiter, the UTT went further and expressed its view that the unallowable purpose existed for a period of time in 2005 (para 148).


Para 13 was enacted in 1996 but it took a long time for HMRC to start invoking it when challenging structured planning.  However once they started to do so the tribunals and courts have tended to give it a wide application.  The UTT decision in Fidex is in line with this attitude to its application.  What in other times might have been regarded as a stretched reading of the legislation gave HMRC success.  The Courts continue to be sympathetic to HMRC when considering anti-avoidance legislation.

The defence against CTA 2009 s441 (para 13 as it was) applying is that there was no unallowable purpose in the company entering into the loan relationship.  To come to a conclusion on this, all material – emails, memos, discussion papers, and presentations – must be reviewed and considered.  It is not enough to confine examination to the formal documentation. The reality underlying the legal documentation is key.


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