Ali v HMRC – individual buying and selling listed shares was a commercial trade

Mon 08 Feb 2016

The case of Ali v HMRC considered whether the activity of buying and selling shares by an individual was a trade for the purpose of Income Tax Act 2007 s 64 (all references here are to ITA 2007) and if so, whether the trade was carried on on a commercial basis and with a view to realising a profit (for the purpose of s 66). The FTT found in favour of the taxpayer, allowing the losses from the activity to be set off against their other income.

Background to the case
The taxpayer was a pharmacist, owning his own pharmacy business. He had an interest in the stock markets, although had no formal training or experience in this area. From around 1995, he started making investments in listed shares, generally holding them for a matter of months – he reported any gains or losses made though this activity as capital.

In the period from 2000 through to 2005, he considered that this activity moved from investment to trading – he was spending a considerable amount of his time on this activity (employing locums to run his pharmacy business, to free him up), his period of ownership of the shares reduced considerably (from months to days, or even hours) and he was undertaking transactions on a daily basis (averaging between 3 to 10 transactions per day in the period under question).

Over this period, after making a profit of some £200,000 in 2000, he sustained significant losses from this activity – he claimed that he was improving as time went on, and that he believed that the activity would turn profitable. Furthermore, he was able to sustain the losses as he had sufficient ‘riskable’ assets to do this.

The taxpayer also claimed that he had a business plan (to buy and sell fast moving stocks in order to make a profit) although it was not written down, but then neither was the business plan for his pharmacy business.

The taxpayer claimed relief for the losses against his other income under s 64. HMRC disallowed this claim on the basis that these activities were more speculative in nature and, given the level of losses sustained, the activity was not carried on commercially. The taxpayer appealed against HMRC’s decision.

Findings of the FTT
The FTT considered the facts of the case in the context of other similar cases – these earlier cases had set a high threshold to be met in determining the question of whether the buying and selling of shares by an individual could be considered as a trade. In particular, the speculative nature of the activities quite often led to then being considered as ‘gambling transactions’ even though they looked very much like trading activities.

On an analysis of the badges of trade, the FTT considered that on balance, a number of the badges of trade were present, however, this was only the starting point – it still had to consider the possibility that the activities were in fact ‘gambling transactions’.

Although the FTT considered that the taxpayer took considerable risk, based on what it suggested might be over-confidence in his own ability, this did not necessarily mean that he was merely gambling. Risk-taking was considered to be a trait that was not uncommon in many entrepreneurs. They also found that although the activities lacked a degree of formality and sophistication, he nevertheless had a mental business plan to support his intention to trade commercially in shares, which was a decisive factor and the taxpayer was in fact carrying on a trade.

Turning to the question of whether the trade was carried on commercially (under s 66(2)(a)), the FTT found that the taxpayer was a ‘serious trader… seriously interested in profit’ and that the trade was therefore carried on commercially. They considered that his lack of success was not due to insufficient application (as would be seen, for example, with ‘hobby’ activities), but rather a shortcoming of skill, which in earlier cases had been considered irrelevant to the question of commerciality.

Finally, they turned to the question of whether the trade was carried on ‘with a view to the realisation of profits’ (under s 66(2)(b)), finding that it was. They considered the fact that the taxpayer was willing to persevere through years of losses did not point towards an uncommercial activity, merely the taxpayer’s continued belief that his profit-making strategy would prove successful. There was no need for the FTT to consider whether there was a reasonable expectation of profit (as per s 66(3)) as that is a deeming provision which would only need to be considered if the condition at s 66(2)(b) was not satisfied in its own terms.