Banks’ bonus schemes using restricted securities provisions successfully avoided income tax and NIC

Banks’ bonus schemes using restricted securities provisions successfully avoided income tax and NIC

Fri 25 Apr 2014

In a decision that is now of historic interest as regards the particular scheme, the Court of Appeal decided that employees’ receipts under schemes implemented by Deutsche Bank (DB) and UBS in early 2004 were exempt from tax under provisions in ITEPA 2003 Part 7 as applicable at that time. A receipt that would otherwise have been a taxable bonus was free of income tax and NIC with staff only subject to CGT on the cash eventually realised under the scheme. The CA overturned the UT decision in the DB case, and in UBS rejected HMRC’s appeal against the decision in favour of UBS.

The schemes exploited a loophole in the much criticised FA 2003 legislation on restricted securities that became the new Part 7 of ITEPA 2003. The loophole was blocked from 2 December 2004 by FA 2005 Sch 2 insertion of ITEPA s 429(1A).  However the Court of Appeal judgment is of continuing relevance as it includes useful comment on the application of the Ramsay case to a scheme that was admitted by the taxpayer to be a carefully planned tax avoidance scheme and on what does and does not amount to “control” of a company that was a special purpose vehicle (SPV) used in the scheme.

HMRC had advanced Ramsay arguments that the award of shares to the employees under the scheme was in reality a bonus.  Whilst the CA confirmed this was the intended fiscal purpose of the scheme they held that the reality was that the employees received an interest in shares – this was not a bonus in disguise as it were.  In the UBS scheme, the judge found that shares were real shares on which real dividends were paid, and in some cases were held for more than two years.  In the UBS version of the scheme the money put into the structure by UBS was invested in UBS shares.  The amount ultimately realised by the employees was directly related to the UBS share price performance.  Participants deciding to cash in their entitlement in 2004 received £977.50 per unit whereas those waiting till March 2006 received £1,519, and those who waited until June 2006 received £1,429 as the UBS share price had fallen . Thus, the redemption value of the shares was not pre-ordained, so the scheme was one of the provision of shares and not the payment of money – and the judge found HMRC’s attempts to suggest it amounted to a payment of money to be ‘misconceived’.  Also the CA decided that a remote possibility of the employees suffering a loss due to an uncertainty (that there was an uncertainty was essential to the success of the scheme causing the shares to fall within a specific provision in ITEPA) could not be ignored by a Ramsay argument just because there was a tax avoidance motive.

Another of HMRC’s arguments to defeat the schemes was that the SPVs were under the control of the banks.  Control of the voting shares was in the hands of an independent trustee company (in UBS) and another bank (in DB).  HMRC acknowledged that control for these purposes was by shareholder but they then attempted to argue that banks had control as what the directors of the SPV did was to act in a pre-ordained way that accorded with what the banks wanted.  In UBS this was rejected as the FTT had considered this and found as a fact that UBS did not control the SPV. Whilst it was clear what UBS wanted, it could not dictate to the trustee company, which held real meetings and made real decisions.  In DB the FTT had found that the SPV was guided closely by DB, but as with UBS this did not amount to control by DB: “DB could not compel Investec [the SPV shareholder] to vote in any particular way.”  The UT had reversed the FTT decision in DB holding that DB controlled the SPV.  The CA rejected the UT decision in DB: “I regard the UT’s conclusion … a remarkable one, which I regard as obviously wrong” (para 139). Having robustly reversed the UT decision in DB, Rimer LJ. said that co-ordinated action between bodies, which each had their own interests in bringing the scheme to fruition, is not the same as control. The comments in para 139 are a helpful summary of the line in the sand of what is and is not control: the behaviour in the DB case did not amount to control whereas issuing instructions would be indicative of control.

Unless HMRC apply to the Supreme Court for permission to appeal and this is granted, the outcome is that the two banks’ schemes were successful and for both neither the payments into the SPVs nor the distributions from the SPVs were subject to NIC or income tax.

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