Tax Case

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Tax Case

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Before he died, the testator and his wife bought a property, which they held as tenants in common in equal shares. In his will, the testator left his wife a life interest in his share of the property. The remainder was left to his daughters, who were also his personal representatives.

The will was varied after the testator died, so that his interest in the property vested directly in his daughters. That interest, therefore, had to be valued for inheritance tax purposes. The Inland Revenue determined that the value of the testator's interest was a mathematical one half share of the property's value.

The daughters appealed to the Special Commissioner.

In the appeal hearing, the Special Commissioner said that the value of the interest was less than a mathematical one half, and that other factors should be considered. The Revenue appealed.

Mr Justice Gloster in the High Court said that Special Commissioner, having decided on the point of law in the appeal, should not have reached the conclusions she did. The matters should have been referred to the Lands Tribunal to determine the open market value of the two shares.

The Revenue's appeal was allowed in part.

(Commissioners of Inland Revenue v Arkwright and another, Chancery Division, 16 July 2004.)

Meaning of income

At 28 July 1999, the trustees of a settlement each held 35 ordinary £1 shares in a company. On that day, by special resolution, the company increased its authorised share capital of 1,000 ordinary £1 shares by two million ordinary 1p shares. By another special resolution, the company declared a dividend of £20 for each ordinary £1 share, but authorised the directors to offer each shareholder a number of fully paid-up additional 1p shares instead of the dividend. The trustees elected to take the shares, so on 30 July, a distribution was made to them of 70,000 ordinary shares. The dividend would have been worth £700, and the bonus shares were worth considerably more than this, i.e. over £15 million. The trustees sold the bonus shares immediately at their market value.

Under the terms of the trust, bonus shares constituted capital, rather than income, for the purposes of trust law. Thus it was agreed that the trustees were notionally liable to income tax at the Schedule F rate on an amount of deemed income calculated by reference to the market value of the bonus shares on the date of their issue. The liability would, however, be covered by an irrecoverable tax credit. The Revenue argued that the deemed income was additionally chargeable at the higher Schedule F trust rate, with credit being given for the tax paid at the Schedule F ordinary rate.

The Special Commissioners agreed with the Revenue, so the trustees appealed.

The trustees said that section 686, Taxes Act 1988 could not apply in the instant case, as its application was limited by subsection 2(a) to 'income which is to be accumulated or which is payable at the discretion of the trustees', and that since the bonus shares were capital, they could not be so limited.

The Revenue argued that 'income' in section 249(6)(b) Taxes Act 1988 should not be given the normal meaning which it was given in the Act, but the meaning it would be given for the purposes of trust law. The issue of bonus shares to the trustees was therefore deemed by section 249(6)(b) to be the receipt of income, and taxed accordingly.

Lord Justice Neuberger in the Court of Appeal said that it was permissible to give 'income' the meaning proposed by the Revenue. The trustees' interpretation led to an odd result, while the Revenue's construction produced a logical result, and was consistent with the way that section 687(3)(b) was expressed.

The trustees' appeal was dismissed.

(Howell and another v Trippier, Court of Appeal, 13 July 2004.)

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