Introduction
The recent UK Court of Appeal decision in Beard considered the treatment of dividends from a non-UK company, particularly the interpretation of 'dividends of a capital nature'. In her leading judgment, Falk LJ considered the role of foreign laws in deliberations of UK courts (and, specifically, in characterising transactions for UK tax purposes) and set out the basis for interpreting provisions of the Income Tax (Trading and Other Income) Act 2005 ("ITTOIA").
While it might be going too far to say form triumphed over substance, the court focused on the mechanism used to make the relevant distributions when determining their character for UK tax purposes. This departs from the well-trodden norm of the UK tax system's preference (generally in anti-avoidance context) of substance over strict legal form.1
Factual Background
Mr Beard held shares in Glencore plc, a company incorporated in Jersey and resident in Switzerland for tax purposes. The relevant shares were issued at a par value of $0.01, but with a substantial share premium (the shares were acquired as part of a restructuring, which alone created share premium of $27 billion).
The relevant distributions were paid by Glencore plc to Mr Beard in the years 2011 – 2015. Mostly, the distributions were paid in cash (totalling £155.46 million), save for a single distribution in specie of shares in Lonmin plc (valued at £4.7 million). Each dividend was carried out under Part 17 of the Companies (Jersey) Law 1991 ("CJL"), which deals with distributions by Jersey companies, and were debited against share premium. Part 12 CJL deals separately with returns of capital.
After losing at the first two stages of appeal, Mr Beard appealed HMRC's characterisation of the distributions as taxable to the Court of Appeal on the basis that it was a 'dividend of a capital nature'.2
UK Taxation of Distributions
In her judgment Falk LJ explained that, mainly due to differing historical origins, the UK has not adopted a consistent approach to the taxation of distributions paid by UK and non-UK companies. Broadly, all distributions by UK companies are taxable, whereas only certain dividends from non-UK companies will be taxable — namely, those not 'of a capital nature'. It is important to note that definitions of 'distribution', 'dividend' and 'capital' are concepts defined under English law but require application to non-UK entities and transactions. This raises questions of the relevance of foreign law concepts and how these may be reviewed on appeal.
Falk LJ emphasised that foreign law must be considered to determine the nature and characteristics of the transaction (i.e. the facts). Once these facts are found, the tax legislation must then be construed and applied to these facts.
In finding that the mechanism for making the payment was an "essential element" in determining the nature of the payment, Falk LJ rejected counsel for Mr Beard's attempt to rely on section 39(4) CJL to argue that amounts debited against share premium were to be treated as capital dividends. Section 39(4) provides that 'the provisions of this Law relating to the reduction of a par value company's share capital' apply as if amounts of share premium were part of its paid up share capital. As Glencore plc had utilised the mechanism in Part 17 CJL to make the distributions, section 39(4) was not relevant.
The court found that, as Glencore plc had paid a distribution under Part 17 CJL, notwithstanding it had debited this to its share premium account (which for some purposes was treated as a capital account), this did not mean these were dividends 'of a capital nature' for UK tax purposes. In this regard, the mechanism used to make the distribution was "critical".
It is unclear whether, had the taxpayer decided to use the mechanism in Part 12 CJL (which deals with returns of capital), the court would have reached a different conclusion. It is, however, clear from the court's reasoning that the relevant starting point will be whichever mechanism is adopted for paying the distribution and whether this results in a dividend of a capital nature.
In reaching this conclusion Falk LJ also resisted attempts by Mr Beard's counsel to draw analogies to the taxation of distributions from domestic companies (as explained above, consistency in the taxation of distributions from UK and non-UK companies was never an objective of the UK tax system). Falk LJ preferred to cast the test in terms of 'mechanism' rather than (as the lower tribunals had) focus on whether the corpus of the assets had been left intact (though found little practical difference in how either test should be applied).
Approach to reviewing findings of foreign law
Findings as to foreign law are findings of fact in UK courts and tribunals. These facts have been described as courts of being of a 'special kind'. The court found that this allows appellate courts and tribunals a broad scope for review of such findings, This marks a departure by the Court of Appeal from earlier cases decided in the Upper Tribunal, and serves as a reminder of the extent of review possible where the fact finding tribunal includes findings of foreign law.
Statutory Interpretation in focus
Critical to the Court of Appeal's conclusion was the correct approach to interpreting ITTOIA. Falk LJ confirmed that Explanatory Notes and other external aids to interpretation may 'cast light' on the legislative text (which is the relevant starting point), irrespective of whether there is apparent ambiguity in the legislation. Additionally, on the basis that ITTOIA was part of the Tax Law Rewrite Project and was not intended to make major changes to the law, it was relevant to look to earlier case law when interpreting the meaning of the relevant statutory provisions.
A final thought
The approach to determining whether a distribution by a non-UK company is 'of a capital nature' starts with the mechanism used to make the distribution, though it may in limited cases be appropriate to look beyond that mechanism.
Crucially, where a mechanism of distribution exists which provides a distribution with clear income character, such character will inure for UK tax purposes notwithstanding that other mechanisms may exist which require similar formalities to be adopted with respect to the distribution. Specifically, while it is clear that Part 17 CJL results in a dividend which is not 'of a capital nature', it is not clear that such conclusion would result with from a payment under another legislative provision (e.g. Part 12 CJL).
Footnotes
1. Including cases such as W T Ramsay v CIR [1981] STC 174.
2. Section 402(3) ITTOIA.
The content of this article is intended to provide a general guide to the subject matter. Specialist advice should be sought about your specific circumstances.
