Employee benefit trusts: HMRC wins appeal against Rangers

Fri 06 Nov 2015

On 4 November 2015 the Court of Session upheld HMRC’s‎ appeal against the tax tribunals’ decisions that payments made into trusts for the benefit of executives and players of Glasgow Rangers Football Club were not taxable as income and subject to PAYE. 

The essence of the judgment is that the employee benefit trusts (EBTs) created by Murray Group Holdings (MGH) did not receive payments which might later be allocated to the employees concerned but rather, the sums settled on trust represented amounts earned by the individual employees which were diverted into the EBTs when they would otherwise have been paid to the employees themselves. The result was that MGH was liable for PAYE and national insurance contributions (NIC) on those sums.

The Glasgow Rangers case has acquired a high media profile and was widely seen in the tax profession as a leading case on the use of EBTs in planning by employers to provide benefits to employees; including most commonly loans to employees, without suffering income tax and National Insurance Contributions (NIC). HMRC has been challenging the use of such planning on the basis that the provision of loans was taxable earnings of the employee and so the employer was obliged to deduct PAYE income tax and NIC.

Situations like Rangers’ would undoubtedly be taxable now following legislative changes in Finance Act 2011 taxing payment through intermediaries (the ‘disguised remuneration’ rules) which include specific rules applicable to intermediary loans.

Tribunals had found in favour of Rangers

In the First and Upper Tier Tax Tribunals HMRC lost the argument it presented, focussing on the payments to the EBTs and  based on the principle that all parties knew that the payments were going to be made and the reason they were made was entirely due to the fact that the individuals were employees of the company, despite the trust arrangements in place.

The Tribunal decisions gave hope to the many users of EBTs that the planning carried out before Finance Act 2011 would ultimately be successful.

Court of Session unmasks Rangers’ loans

The Court of Session heard and accepted a new argument from HMRC, overturning the conclusion of the lower Tribunals and so HMRC has won the appeal.  The Tribunals had considered whether tax and NIC applied when the EBTs made loans but before the Court of Session HMRC argued that the crucial issue was when and how the contractual obligation to pay monies into the EBTs arose. The obligation to fund the EBTs was a reward for the employees’ services, i.e. by working/playing they were entitled to rewards and the EBTs were a means whereby Rangers and the employees had agreed that those earnings were to be paid. The Court considered the principles derived from other cases and concluded that “a sum receivable by way of salary or wages is not the less salary or wages taxable because for some reason or another the person who receives it has not got the full right to apply it just as he likes”. Further the Court commented that “the payment was still income, notwithstanding that the employee had contracted with someone else to apply it in a particular way”. It added “That appears indistinguishable from the present case”. 

So the cash payment into the EBT was part of the remuneration package of the employees even though it might ultimately be received by a third party, usually a family member.

Importantly the Court identified there was a redirection of earnings and “occurred at the point where the employer paid a sum into the Principal Trust and what happened thereafter had no bearing on the liability that arose in consequence of the redirection”. It added that “The trust and loan arrangements are ultimately irrelevant”. The Court was at pains to emphasise this conclusion by also saying “If a payment amounts to a reward for services, it is immaterial that is made through the exercise of a Trustee’s discretion” adding “Finally, we are of the opinion that the relevant payment of emoluments or earnings is that made by the employer to the trustee of the Principal Trust”.   

The Court also adopted the approach of other Courts in cases involving tax planning of examining  the true nature of the transaction and concluded that, when viewed realistically, the only conclusion that could be reached is that the contributions to the EBT were part of each employee’s remuneration package i.e. that the payment into the trust was the ‘relevant payment of emoluments or earnings’.

Once the Court reached this conclusion, it follows that the company had the obligation to operate PAYE and deduct NIC and that obligation falls due at the earliest possible occasion i.e. when the EBT is funded by the employer, even in situations where no funds / loans have subsequently been withdrawn.

Mazars Analysis

This decision is significant in that it doesn’t so much look through the existence of the EBTs, which as a finding of fact the previous Tribunals decided were properly constituted: rather it effectively treats the existence of the EBTs as such as irrelevant because the transaction that created the tax liability was the agreement to reward the employees; the sums earned by the employees were as much their earnings as if they had had a simple agreement that they would work and their wives would be paid. This may raise questions about the utility of discretionary trusts for tax planning in other areas.

The conclusion that the taxable event was not the loan, but the earlier initial funding of the EBT by the employer was not widely anticipated and could have broader consequences in that it removed the need for actual payment. A consequence not apparently considered by the Court of its decision, is that tax paid in respect of a benefit in kind charged on loans taken from an EBT would appear not to have been by reason of employment, meaning that it did not need to be paid.  This being the case, there is the prospect of individuals making a refund claim to HMRC and the employer seeking a refund of NIC paid in respect of the benefit in kind. However, in many cases that will only result, as far as employers are concerned, in a potential offset against their PAYE liabilities.

The implications arising from this decision are therefore potentially very wide ranging.

On a further positive note the judgment reinforces the view that HMRC cannot argue that inheritance tax was chargeable on employers’ contributions into EBTs because they were discretionary trusts (although whether such a payment would be regarded as an indirect settlement by the employee is another issue). We have always considered IHT was not due in the circumstances of our own EBT planning and intend to continue robustly defending this position using this decision in support.

HMRC taking a lap of honour

There is no doubt HMRC will be delighted with the ‎decision and will be actively using it to challenge all those EBTs who did not settle with HMRC via its settlement opportunity.

Employers that have settled their EBT tax positions with HMRC should not be affected by this judgment: it does not open the way for HMRC to reopen their cases.

HMRC is still willing to agree settlements with users of EBTs but the previous settlement terms will not be available. Taxpayers with unresolved EBT issues will find HMRC pressing for settlement without the benefits offered by previous EBT settlement terms but settlements will need to be made. Whilst the very broad approach adopted by the Court of Session would appear to stack the cards in HMRC’s favour, every case needs to be considered on the basis of its own facts and merits.

They may not think it’s all over 

The Court of Session is not the ultimate court and it is possible (and indeed likely) that Rangers will seek leave to appeal the decision. We would add that a Court of Session decision is binding in Scotland but not on courts elsewhere in the UK where it is “persuasive” but highly likely to sway the court. We shall closely follow these issues.  

 It should also be remembered that the case was decided on its particular facts and circumstances and whilst it will suit HMRC, it is entirely possible there will be other cases litigated that will support the use of EBTs. Again we will closely monitor developments.

Were HMRC onside?

The company challenged whether the Court of Session was allowed to consider this fresh argument. The Court concluded it was and indeed decided in favour of HMRC on the basis of this new argument.