04SC/3043PRESTON MEATS LIMITED AND GERALD SHARPLES Colin BishoppManchester 10 September 

SPC00435
	INCOME TAX  — advance corporation tax — purchase by company of its own shares —immediate allotment to vendor shareholder of substantial number of preference shares — contention that majority of preference shares were in reality allotted to shareholder’s daughter not supported by evidence — conditions specified by TA 1988 ss 221, 223 not satisfied — assessments to ACT and income tax on franked income properly made — appeals dismissed
COLIN BISHOPP

THE SPECIAL COMMISSIONERS	

	PRESTON MEATS LIMITED 
	and GERALD SHARPLES	Appellants

	and

	STUART HAMMOND (H M Inspector of Taxes)	Respondent

Special Commissioner: Colin Bishopp

Sitting in public in Manchester on 10 September 2004

David Kitson of Tenon for the appellant

June Kennerley of the Inland Revenue Northern England Regional Appeals Unit for the respondents 

© CROWN COPYRIGHT 2004

DECISION

1.	These are appeals by Preston Meats Limited and one of its former directors, Gerald Sharples, against, respectively, an assessment of 25 April 1997 for advance corporation tax amounting (after some adjustment) to £37,481 and an assessment of 24 April 1997 for the tax due on franked income received by Mr Sharples of £187,405.
2.	It is necessary to begin with the history of the appeals themselves.  They were lodged, in each case on 1 May 1997, by Turner and Brown, chartered accountants of Preston, acting for both of the appellants.  The appeals were originally referred to the General Commissioners but in 2002 were transferred to the jurisdiction of the Special Commissioners.  It was directed in May of that year that they should be heard together.  Progress thereafter was, however, rather slow until a further direction was made, on 22 April 2004, imposing a timetable for the taking of various steps leading to the hearing of the appeals.  The Revenue complied with those directions but the appellants did not, though it may be that the blame for the failure to comply is attributable to the firm at that time representing the appellants.  The appeals were listed to be heard, by me, on 13 August 2004.  The firm which had recently been representing the appellants did not appear, but they were represented instead by an accountant, Mrs Mahomed, who, although dealing with the appellants’ accountancy affairs, was not dealing with the appeals save to the limited extent of appearing before me in order to seek a postponement of the hearing.  I granted the postponement, at the same time fixing 10 September 2004 as the date on which the hearing would proceed, and making it as clear as I could that, short of significant unforeseen circumstances compelling a postponement, the appellants must prepare themselves for a hearing on that day.  I was conscious that the appeals related to assessments which were already more than seven years old, and that there was no evident reason for the appellants’ failure to comply with the direction made in April.  At the same time I imposed a revised timetable for compliance by the appellants with that direction.  There was only partial compliance with that timetable.
3.	On 10 September 2004 the appellants were represented by David Kitson of Tenon who applied again for a postponement.  He explained that although he had been approached by Mrs Mahomed immediately after the hearing on 13 August, some days elapsed before his firm was formally appointed and he had not been able, in the remaining time, to prepare the appellants’ case properly.  June Kennerley, of their Regional Appeals unit, who represented the Revenue opposed the application.
4.	I decided to refuse to grant a further postponement because, as it seemed to me, any necessity there might be for postponement was due entirely to the appellants’, or their advisers’, failure to comply with the directions which had been made in April and in August. While I had some sympathy with Mr Kitson, who had been brought into the case quite recently, the interests I must balance are those of the appellants on the one hand and the Revenue on the other.  Ms Kennerley accepted that the prejudice to the Revenue amounted to no more than inconvenience and that it could largely be compensated for by a direction for costs (I made a direction for costs on 13 August, since I considered the appellants’ failure to comply with the April direction to be wholly unreasonable).  However I could see no good reason why that inconvenience, modest though it might have been, should be disregarded in favour of appellants who had twice failed to comply with directions and who had been put on clear notice, on 13 August, that I expected the hearing to proceed on 10 September.  For those reasons I refused Mr Kitson’s application and the hearing proceeded.
The facts
5.	Save for one issue to which I will come in due course, the facts were not contentious.  I take what follows from the documents which were provided to me, from what I was told by Mr Kitson and Ms Kennerley, and from the evidence of Mr Sharples, the only witness whom I heard.
6.	As its name suggests, Preston Meats Limited is engaged in the meat trade in Preston, Lancashire.  In the year to 31 May 1995, its directors were Mr Sharples, a Mr Walker, and their respective wives.  Mr Sharples and Mr Walker each owned 7493 ordinary shares of a nominal value of 1p each and their wives each owned 100 such shares.  Mr and Mrs Walker’s son owned a further 114 shares.  There were no other shareholders and no other classes of share.
7.	Mr Sharples was by then nearing his intended retirement and on 29 March 1995 there was a meeting attended by Mr Sharples, Mr Walker, his son and three members of Turner and Brown, the company’s accountants and auditors, at which the best method of dealing with Mr Sharples’ retirement was discussed.  Mr Sharples wished to realise the value of his and his wife’s shares in the company, which were then thought to be worth in the region of £150,000.  Mr Walker and his family were, I deduce, unable or unwilling to buy the shares and it was decided instead that the company would buy them.  However, the company too did not have sufficient funds to pay for the shares immediately and it was agreed that, at the same time as buying Mr and Mrs Sharples’ ordinary shares it would issue, at par, 130,000 £1 redeemable interest-bearing preference shares, carrying no voting rights.  As the memorandum of the meeting puts it, the company would allow “Mr and Mrs Sharples and their daughter Linda to apply for the whole of the preference shares.”  The intention was that the funds the company received for the preference shares would provide most of the cost of Mr and Mrs Sharples’ ordinary shares.
8.	In October 1995 Turner and Brown wrote to the Revenue seeking clearance under section 225(1)(a) of the Income and Corporation Taxes Act 1988 of the company’s proposed purchase of its own shares which, they said, fell within the provisions of section 219(1)(a) of that Act.  It is not necessary to set out those provisions since nothing turns on them; instead I merely record that the objective was to ensure that the money received by Mr Sharples from the company as the price of his shares should be treated as capital rather than income in his hands.  He would be able to offset against any capital gains tax to which he became liable a number of reliefs including, in particular, retirement relief.  However, a person wishing to take advantage of section 219(1) must satisfy a number of conditions.  Those which are relevant here are those imposed by sections 221 and 223.
9.	The former requires that if the shareholder vendor owns shares in the company after the shares in question have been purchased, his overall shareholding must be “substantially reduced”.  Subsection 221(4) reads:
“Subject to subsection (5) below the vendor’s interest as a shareholder shall be taken to be substantially reduced if and only if the total nominal value of the shares owned by him immediately after the purchase, expressed as a fraction of the issued share capital of the company at that time, does not exceed 75 per cent of the corresponding fraction immediately before the purchase.”
By section 221(2) the shareholdings of the vendor and of his “associates” are to be aggregated.  Section 227 provides that Mr Sharples and his wife are to be regarded as associates but that their daughter Linda, who was then aged over 18, is not to be regarded as an associate.
10.	Section 223(1) requires that “the vendor must not immediately after the purchase be connected with the company making the purchase”.  The meaning of that provision is explained by subsection 228(2):
 “a person is connected with a company if he directly or indirectly possesses or is entitled to acquire more than 30 per cent of –
(a)	the issued ordinary share capital of the company, or
(b)	the loan capital and issued capital of the company, or
(c)	the voting power in the company.”
11.	In their letter to the Revenue seeking clearance, Turner and Brown indicated that these requirements would be met.  The clearance was duly granted.
12.	The proposed arrangements were put into effect on 11 March 1996.  The company bought Mr and Mrs Sharples’ ordinary shares, handing over cheques for the aggregate amount of the agreed consideration which, in Mr Sharples’ case, was £148,024.21. On the same day it issued and allotted 130,000 preference shares to Mr Sharples, for which he paid the nominal value of £130,000, handing over a cheque for that amount.  In fact, as the documentation made clear, the company’s bank would not have honoured a cheque for £148,000 had it not simultaneously received Mr Sharples’ cheque for £130,000 and the two transactions were financially dependent on each other.  Once the transactions had been concluded, the only holders of the ordinary shares in the company were the Walker family, while Mr Sharples was the only holder of preference shares.  Mr and Mrs Sharples also resigned their directorships.
13.	It is necessary at that this point to interpose a short recitation of the appellants’ arguments, before returning to the facts.
14.	Three different contentions have been put forward, successively, by the appellant’s various representatives.  First, it was argued that the scheme as I have described it above effectively took advantage of section 219 of the 1988 Act.  Later, it seems to have been accepted, even if only tacitly, that Mr Sharples’ holding 130,000 preference shares offended section 221(4) and a second argument was advanced, that the arrangements amounted to a share reorganisation falling within section 126 of the Taxation of Chargeable Gains Act 1992.  That argument, too, was disputed by the Revenue and at the hearing Mr Kitson formally abandoned it.  Beyond saying that I think he was right to do so, I need say no more about that argument.  Instead, Mr Kitson contended that this was after all an arrangement which fell within section 219 of the 1988 Act because, he said, although Mr Sharples appears to have subscribed for 130,000 preference shares for his own benefit, in reality he acquired only 30,000 for his own benefit, and the remaining 100,000 for the benefit of his daughter Linda.  If that argument is right, Mr Sharples would indeed have “substantially reduced” his overall shareholding from the 49.6% of the total which his and his wife’s aggregate holding previously represented to about 23%, a reduction comfortably exceeding that required by section 221(4); his daughter’s holding would, of course, be considered separately from his own.  He would satisfy, too, the requirements of sections 223(1), since he would hold less than 30% of each of the rights identified in section 228(2), and would have no entitlement to acquire more.

The disputed evidence
15.	I have mentioned already that the memorandum of the meeting in March 1995 referred to the possibility that members of Mr Sharples’ family, including his daughter Linda, might subscribe for the preference shares.  In his oral evidence Mr Sharples told me that it had always been his intention that his daughter, who had been widowed early and who was to some extent financially dependent on him, would benefit from the shares.  Mr Kitson contended that, because of time pressures, a single share certificate in Mr Sharples’ name was issued even though it had been intended that two, one in his name and one his daughter’s, should be issued.  He suggested that, should it be necessary, a court order for rectification could be obtained.  However, it was clear to me from the manner in which Mr Sharples gave his evidence that it was not in his contemplation that his daughter would have 100,000 of the shares, to do with as she pleased.  His evidence did not support the contention that time pressures made it impossible to issue one two share certificates; nor is the contention consistent with the documentary evidence which shows that the necessary paperwork was all put in hand in advance.  On the contrary, the documentation shows that the whole arrangement was planned ahead. 
16.	It is apparent that it was originally intended that the shares would be redeemed at par in stages.  The company was to redeem 30,000 on or before 31 December 2000, 50,000 on or before 31 December 2005 and the remainder on or before 31 December 2010.  Because of trading difficulties, it has not, so far, redeemed any of the shares.  Mr Sharples’ evidence was that he intended to retain the first £30,000 for his and his wife’s benefit, and to pay the two instalments of £50,000, when they were received, to his daughter.  It was clear to me that his intention was to give his daughter the money when the shares were redeemed, but not to give her the shares themselves.  In the meantime he has received the interest instalments, by cheques at six monthly intervals, and has paid the amounts received into his own bank account.  I accept his evidence that he has given generous financial assistance to his daughter but it was plain from what he told me that he has not given her a proportionate share of the interest payments he has received.  Instead, he has declared the entirety of the interest in his annual tax returns as his own income, and he has been taxed accordingly.  He gave evidence too about the manner in which he had disposed of his shareholding in his will.  It was consistent only with his retaining ownership of the shares until redemption or until his death.  I do not find that Mr Sharples believed that 100,000 shares had been allotted to his daughter, nor do I find that this was his intention.  I am satisfied that he intended no more than that his daughter should benefit from the money which he received on redemption of the shares.

Conclusions
16.	That finding of fact is sufficient to dispose of the appeal since it is necessarily follows that the condition imposed by section 221(4) has not been satisfied.  As I have mentioned immediately prior to the sale, Mr and Mrs Sharples’ shareholdings in the company amounted to 49.6% of the whole.  After the transactions had been concluded Mr Sharples owned £130,000 of shares in a company the nominal value of whose shares amounted in total to £130,077.07; thus the nominal value of his shares amounted to almost 100% of the whole.  Even if (and despite the terms of section 221(4)) one takes the value which Mr Sharples, Mr Walker and their respective families attributed to the shares, Mr Sharples had £130,000 to the Walker family’s £152,000 or thereabouts the reduction was from almost 50% to around 46%, far too little to satisfy section 221(4).  Mr Sharples’ holding offends also the requirements of section 223(1).  I should add that one cannot look at the position in the instant immediately after the purchase of Mr and Mrs Sharples’ ordinary shares, but before the allotment of the preference shares, since, by section 223(3) of the 1988 Act, “a transaction occurring within one year after the purchase shall be deemed … to be part of a scheme or arrangement of which the purchase is also part.”  It is only if Mr Sharples’ daughter can be shown to have acquired a substantial number of shares that he can bring himself within section 221(4), but I am satisfied that is not the case.
17.	I have considerable sympathy for Mr Sharples and, for that matter, for the company since it seems to me that the objective of ensuring that the payment received by Mr Sharples was treated as capital in his hands could easily have been achieved by other means.  As it is, I am satisfied that the objective has not been achieved and that the assessments were correctly made.  As their arithmetic is not challenged, I must dismiss the appeals.
18.	There remain only the costs of the postponed hearing in August which, as I have mentioned, I directed should be paid by the appellants.  Ms Kennerley sought a sum of £1122.70 which Mr Kitson did not challenge and I determine the costs of the August hearing in that sum.

COLIN BISHOPP
SPECIAL COMMISSIONER
Release Date: 18 October 2004

SC 3043-4/2002