[2014] UKFTT 416 (TC) TC03545 Appeal numbers: SC/3082/2009, TC/2011/02724, TC/2011/02714, TC/2012/05914, TC/2012/05915 & TC/2013/01980 INCOME TAX — loss relief — arrangements for exploitation of intellectual property rights — whether first-year losses incurred — whether large part of money used for exploitation of rights or for purchase of guaranteed income stream — guaranteed income stream — whether remainder used within first accounting period and allowable loss in that year — whether capital or income payments — Icebreaker 1 considered — arrangements essentially a tax avoidance scheme — appeals against closure notices substantially dismissed REFERENCE — TMA s 28ZA — whether partnerships’ trade commercial — no — whether members non-active — yes — whether Restrictions Regulations apply — no, as none of conditions satisfied — whether ITA s 74ZA applies to later iteration — yes FIRST-TIER TRIBUNAL TAX CHAMBER BETWEEN: (1) ACORNWOOD LLP (2) BASTIONSPARK LLP (3) EDGEDALE LLP (4) STARBROOKE LLP (5) HAWKSBRIDGE LLP Appellants —and— THE COMMISSIONERS FOR HER MAJESTY’S REVENUE & CUSTOMS Respondents —and— IN THE MATTER OF A JOINT REFERENCE UNDER SECTION 28ZA OF THE TAXES MANAGEMENT ACT 1970 BETWEEN: SEVEN INDIVIDUALS The individual referrers —and— THE COMMISSIONERS FOR HER MAJESTY’S REVENUE & CUSTOMS Joint referrers TRIBUNAL: JUDGE COLIN BISHOPP MR RICHARD LAW FCA Sitting in public in London on 1, 2, 5 to 9, 12 to 14, 19 to 23 and 26 to 28 November 2012 Mr Jonathan Peacock QC and Ms Hui Ling McCarthy, counsel, instructed by Deloitte LLP, for the appellants Mr Jolyon Maugham, counsel, instructed by Michael Simpkins LLP, for the seven individual referrers Mr Peter Blair QC, Mr Jonathan Davey and Mr Imran Afzal, counsel, instructed by the General Counsel and Solicitor to HM Revenue and Customs, for the Respondents and Joint referrers © CROWN COPYRIGHT 2014 CONTENTS Introduction .........................................................................................................3 The evidence and facts.........................................................................................8 5 The genesis of the arrangements..................................................................... 10 The structure of the agreements...................................................................... 14 The borrowing and security arrangements ...................................................... 30 The rationale for the borrowing...................................................................... 38 The rationale for the guaranteed payments ..................................................... 40 10 Negotiation of the payments........................................................................... 43 The promotion of the Icebreaker Partnerships ................................................ 51 Choosing and joining a partnership ................................................................ 56 The perception of risk .................................................................................... 61 The mechanics of closing a partnership .......................................................... 62 15 The accounting treatment of the payments...................................................... 63 Comparison with Icebreaker 1 ........................................................................... 70 Icebreaker 1: part 1........................................................................................ 70 Icebreaker 1: part 2........................................................................................ 82 Icebreaker 1: part 3........................................................................................ 86 20 Conclusions on the ineffective argument............................................................ 94 The Ramsay argument........................................................................................ 95 The reference ..................................................................................................... 99 The commercial basis question..................................................................... 100 The active partner question .......................................................................... 121 25 The Restrictions Regulations question.......................................................... 132 The s 74ZA question.................................................................................... 139 Summary of conclusions and disposition.......................................................... 143 Conclusions in the appeals ........................................................................... 144 Conclusions in the references....................................................................... 144 30 Appendix ......................................................................................................... 146 DECISION INTRODUCTION 1. This decision relates to two discrete but linked matters: the appeals of five limited liability partnerships, Acornwood LLP, Bastionspark LLP, Edgedale LLP, 5 Starbrooke LLP and Hawksbridge LLP, to which we shall refer together as “the appellant partnerships”, against various decisions of the respondent Commissioners (“HMRC”); and to a joint reference to the tribunal of a number of questions by seven individuals who are or were members of the appellant partnerships or other, similar, partnerships, and HMRC. Although the relevant 10 legislation generally uses the term “partner” we shall, like counsel before us, adopt the more usual practice and refer to the partners or members (which words are for present purposes synonymous) of the various partnerships as “members”, and shall call those members who are parties to the reference the “individual referrers”. The reference was made in accordance with s 28ZA of the Taxes 15 Management Act 1970 (“TMA”) during the course of enquiries opened pursuant to s 9A of TMA. The appeals and the reference all arise from essentially the same facts and for that reason it was directed that they be heard together. 2. The appeals and references relate to arrangements, to adopt a neutral term which we shall continue to use in much of what follows, adopted by the appellant 20 partnerships in the tax years from 2005-06 to 2009-10. In very brief summary, each partnership entered into various agreements for the acquisition and exploitation of certain intellectual property rights. Each partnership acquired a set of such rights, for relatively modest sums, and for much larger payments agreed with an exploitation company that it would exploit the rights so acquired on its 25 behalf. The revenue from the exploitation was to be shared between the partnership and the exploitation company, which was required in addition, as part of the arrangements, to pay certain guaranteed sums to the partnership. 3. In addition each partnership entered into agreements with the promoter of the arrangements by which, in return for substantial payments, the promoter 30 rendered, or was to render, various services to the partnership. The members’ capital injections which financed the payments were in each case derived in part from their own resources and in part from secured borrowings from a bank; the borrowing and security arrangements represent a significant feature of the case with which we deal in detail at a later stage. 35 4. The arrangements have two other features in common. One is that the expenditure we have outlined was incurred in each partnership’s first accounting period and commonly, though not invariably, immediately after the members joined. The second lies in the guaranteed returns the members were to receive; those returns were sufficient to enable them to service and repay their secured 40 borrowings. 5. The ultimate underlying difference between the parties relates to the extent, if at all, to which the first-year expenditure gives rise to an accounting loss which the members of each partnership may utilise, in their respective shares, by way of sideways relief against their income tax or capital gains tax liabilities in 45 accordance with one or more of the Income and Corporation Taxes Act 1988 3 (“ICTA”) ss 380 and 381, the Taxation of Chargeable Gains Act 1992 (“TCGA”) s 261B and the Income Tax Act 2007 (“ITA”) ss 64, 71 and 72. HMRC’s position is that the appellant partnerships and the arrangements into which they entered were, and were marketed as, tax avoidance schemes. They accept that the 5 partnerships were engaged in trade, with a view to profit, but argue that the earning of a trading profit was a mere incidental to the partnerships’ true purpose, which was the manufacture of artificial losses, not matched by true economic losses, with the aim of generating relief against tax. 6. The disputed decisions, although they vary in their individual particulars, 10 are to essentially the same effect: that the losses suffered, or supposedly suffered, by the partnerships in their first accounting period are not properly allowable, save to a very modest extent, for tax purposes. HMRC’s first argument is that the schemes did not work: the expenditure which gave rise to the supposed losses was not incurred wholly and exclusively for the purposes of the partnerships’ trade; 15 their accounts were not prepared in accordance with Generally Accepted Accounting Practice, or GAAP; and the expenditure was in any event of a capital rather than revenue nature. We shall refer to this line of reasoning as “the ineffective argument”. 7. HMRC’s second contention is that, if the schemes do succeed