Spectrum Computer Supplies Ltd& Anor v Revenue & Customs [2006] UKSPC SPC00559 (22 August 2006) 

                                                                                                      SPC00559
NATIONAL INSURANCE CONTRIBUTIONS – transfer of book debts to directors – whether payment in kind – no 
PAYE – whether transfer of book debts is a payment – yes – appeals dismissed

THE SPECIAL COMMISSIONERS

SPECTRUM COMPUTER SUPPLIES LIMITED
KIRSTALL TIMBER LIMITED	Appellant

- and -

THE COMMISSIONERS FOR HER MAJESTY’S
REVENUE AND CUSTOMS	Respondents

Special Commissioners: 	DR JOHN F. AVERY JONES CBE
ADRIAN SHIPWRIGHT

Sitting in public in London on 24 to 26 July 2006

Timothy Brennan QC, counsel, instructed by McGrigors, for the Appellant

Launcelot Henderson QC and David Rees, counsel, instructed by the Acting Solicitor for HM Revenue and Customs, for the Respondents

© CROWN COPYRIGHT 2006

DECISION

1.	These are: (1) an appeal by Spectrum Computer Supplies Limited (“Spectrum”) as lead case (under regulation 7A of the Special Commissioners (Jurisdiction and Procedure) Regulations 1994) as representative of 48 other cases against a decision dated 22 July 1999 under s 8 of the Social Security Contributions (Transfer of Functions) Act 1999, (2) an appeal by Spectrum but not as a lead case (because the lead case procedure applies only to National Insurance appeals) against a PAYE determination dated 5 September 1996, and (3) an appeal by Kirkstall Timber Limited (“Kirkstall”) against a National Insurance decision dated 27 August 1999 and a PAYE determination made on 4 February 2003 for the year 1996-97, which, since it contains features not found in the Spectum appeal, was directed to be heard at the same time as the lead case appeal. The parties agreed that we should issue one decision dealing with all three appeals.  Spectrum and Kirkstall (together “the Appellants”) were represented by Mr Timothy Brennan QC, and the Revenue by Mr Launcelot Henderson QC and Mr David Rees.
2.	The issue in these appeals is the efficacy of a scheme to pay directors by way of the assignment of book debts in order to avoid National Insurance and PAYE.  
Documents
3.	Both Appellants were introduced to the scheme by KPMG.  The documents were the same in both cases and were based on standard drafts prepared by KPMG which were completed with dates and amounts.  In neither case was there any variation in the standard wording (subject to a variation in Specrum’s case, see paragraph 6(1) below).  These were preceded by a letter from KPMG, to which the Appellants had to indicate their agreement by signing and returning, setting out a duty of confidentiality on the part of the Appellants about the scheme, what KPMG would do and their fee (1% in the case of Specrum, and 2% for Kirkstall on a much smaller sum, plus VAT), and  setting out the following under the heading “Risks”:
“The main risk in the scheme is that the debtor will default after the assignment to an employee of the debt.  In such a case, the employee to whom the debt is assigned would be taxable on the value of the debt when it was assigned, with no income tax or capital gains tax relief for later bad debts….”
The documents consisted of a (1) a shareholders’ resolution on day 1 authorising the remuneration in the form of the assignment of specific book debts; (2) a board minute on day 2 at which the director declared his interest as potential beneficiary, and it was resolved to pay a bonus to be satisfied by the assignment of book debts that were then listed; (3) a letter of day 3 from the employer to the director informing him of the bonus and stating:
“The entire proceeds of the debts will be yours.  The company will do all it reasonably can to assist you in procuring settlement of the debts, although it is not anticipated that you should have any difficulty in recovering the full face value of the debts.”
(4) a deed of assignment on day 4 containing an absolute assignment of the book debts set out in a schedule, which since notice was not given to the debtors operated as an equitable assignment.  The deed contained an indemnity by the recipient for any tax falling on the payer from the assignment, and contained the following under the heading “Further assurances”:
“The Company hereby irrevocably appoints the Employee to be its true and lawful attorney to collect and give receipts and discharges for and demand and take proceedings for the recovery of all the Book Debts assigned by this Assignment and undertakes to ratify any unlawful acts which the Employee may do under this power.”
4.	We find as facts in relation to both Appellants that it was never the intention to give notice of the assignment to the debtors. We also find that it was intended that each of the Appellants should collect the debts in the ordinary way as if the debts had not been assigned, using the Appellants’ bookkeeping and banking facilities that were already in place.  The words in the letter at (3) in paragraph 3 above “The company will do all it reasonably can to assist you in procuring settlement of the debts” do not reflect the true intention of the parties.  Similarly the quoted passage from the deed of assignment at (4) does not reflect the true intention of the parties.
Facts
Spectum
5.	There was an agreed statement of facts as follows:
Corporate details 
(1)	Spectrum is a private company, limited by shares, registered in England and Wales with Company Number 02306938 and has its registered office at Spectrum House, 27 East Parade, Bradford BD1 5HD.  
(2)	At all material times, apart from a small minority shareholding in Spectrum owned by Steven Moroney, all the shares in Spectrum were held by Spectrum Computer Services PLC (”Spectrum PLC”).  The business of the companies is that of supplying computer consumables.  
(3)	At all material times, Barry Burns was the majority shareholder of Spectrum PLC.  During the period in which the trade debt arrangements were implemented there were 2 directors of Spectrum, Barry Burns and Kenneth Marchant; John Roberts was Company Secretary.  Barry Burns and Kenneth Marchant were also the two directors of Spectrum PLC and John Roberts was the Company Secretary.
Decision to pay bonuses by way of assigned debts
(4)	KPMG had developed arrangements whereby bonuses were satisfied by the assignment to employees of trade debts owed to the employer.  KPMG spoke to a number of clients, including Spectrum, in relation to such possible arrangements.
(5)	KPMG were engaged by Spectrum in November 1995 to advise on the provision of a bonus to Barry Burns in the form of assigned trade debts.  Spectrum received an engagement letter from KPMG dated 2 November 1995.  
(6)	KPMG agreed to advise Spectrum on the mechanics of the arrangements and to draft the documentation required to effect the arrangements.
The debts to be assigned
(7)	The debts which were assigned are as listed in Schedule 1 below (together being the “Spectrum Debts”).  They were 6 in number and totalled £524,699.31.
Implementation of the arrangements 
(8)	Spectrum held a meeting of the board of directors on 20 November 1995 (“the Spectrum Board Meeting”).  Present at the Spectrum Board Meeting were Barry Burns and Kenneth Marchant, in attendance was John Roberts.  The Spectrum Board Meeting was called to consider the proposal that a bonus was to be awarded to Barry Burns in recognition of his services as a director of the company for the financial year ending 31 October 1995.  At the Spectrum Board Meeting it was proposed that certain debts owed to the company be assigned to Barry Burns in satisfaction of the bonus.  These debts were in the form of sums invoiced, by Spectrum, to customers, which had not been paid. 
(9)	The directors of Spectrum resolved at the Spectrum Board Meeting to assign each of the Spectrum Debts to Barry Burns.  The directors further resolved to authorise Barry Burns and John Roberts to execute the necessary deed of assignment to effect the proposed assignment. 
(10)	The award of the bonus and the fact the bonus would take the form of the assignment of trade debts, was communicated to Barry Burns in a letter from Spectrum dated 21 November 1995.
(11)	The deed of assignment was signed as a deed by Spectrum acting by Barry Burns and John Roberts.  It was dated and delivered on or about 21 November 1995.  By executing the deed of assignment, Spectrum, as owner of the Spectrum Debts, assigned beneficial ownership of those debts to Barry Burns.
Payment of debts 
(12)	Debts (a) to (d) of the Spectrum Debts were paid on 30 November 1995.  The remainder of the Spectrum Debts (debts (e) and (f)) were paid on 1 December 1995.  
(13)	Spectrum forwarded the payments from Ingram (debts (a) to (d)), received by them on 30 November 1995, to Barry Burns on 1 December 1995 by cheque.  Spectrum forwarded a cheque in respect of the Viking debts (debts (e) and (f)), received by them on 1 December 1995, to Barry Burns on 5 December 1995.
Appeal
(14)	HMRC issued a notice of decision under s 8 of the Social Security Contributions (Transfer of Functions, etc) Act 1999 (“SSCTFA”) on 22 July 1999 and an appeal was made against this on 30 July 1999.  HMRC issued a notice of determination under reg 49 of the Income Tax (Employments) Regulations 1993 on 5 September 1996 and an appeal was made against this on 10 September 1996.
SCHEDULE 1

Debt	Debtor	Invoice Number	Amount £	Date invoiced	Date assigned	Date debt paid to company	Date monies passed to employee	
a)		Ingram Micros (UK) Limited	987053	16,121.00	5 Oct 1995	21 Nov 1995	30 Nov 1995	1 Dec 1995	
b)		Ingram Micros (UK) Limited	986696	92,084.87	6 Oct 1995	21 Nov 1995	30 Nov 1995	1 Dec 1995	
c)		Ingram Micros (UK) Limited	990456	65,751.24	17 Oct 1995	21 Nov 1995	30 Nov 1995	1 Dec 1995	
d)		Ingram Micros (UK) Limited	995513	36,547.20	27 Oct 1995	21 Nov 1995	30 Nov 1995	1 Dec 1995	
e)		Viking Direct Limited	990418	62,839.00	17 Oct 1995	21 Nov 1995	1 Dec 1995	5 Dec 1995	
f)		Viking Direct Limited	996565	251,356.00	31 Oct 1995	21 Nov 1995	1 Dec 1995	5 Dec 1995	

6.	We had three ring binders of documents (of which one related to Kirkstall) and heard evidence from Mr Barry Burns and find the following further facts:
(1)	The only variation from the documents set out above applicable to Spectrum was that there was no ordinary resolution preceding the board resolution.  The shares in Spectrum were held entirely by the parent company except for 500 ordinary and 2,500 deferred shares held by a former director who had been dismissed with whom Spectrum was engaged in litigation at the time.  It was therefore proposed to ratify the bonus at the next AGM.  The minority shareholder did not attend the AGM at which only the parent company was present. A quorum of two shareholders was required.  We find from manuscript notes prepared for the meeting, although no copy of the notice could be found, that no notice of this item was given to the minority shareholder and that the resolution was proposed under any other business.  The Articles provide that it should have been classed as special business and notice given.  Accordingly there was no quorum and no effective AGM.  The Tribunal pointed out that since the meeting was inquorate there had been no effective authorisation of the bonus by Spectrum and accordingly there had been no bonus.  After taking instructions Mr Brennan stated that Spectrum and Spectrum PLC would hold proper meetings (or pass written resolutions) ratifying the bonus.  We proceeded to hear the appeal on the basis that we would not release our decision until the resolutions ratifying the bonus were provided.  Subsequently resolutions dated 28 July 2006 were supplied to us.  We find that as a result of such ratification the authorisation was effective and that the effect of ratification is retrospective:
“…such directors [ie directors who have acted outside their powers] can, by making a full and frank disclosure and calling together the general body of the shareholders, obtain absolution and forgiveness of their sins; and provided the acts are not ultra vires the company as a whole everything will go on as if it had been done all right from the beginning.  I cannot believe that this is not a commonplace of company law.  It is done every day.” Per Harman LJ Bamford v Bamford [1970] Ch 212,238.
Paying directors’ fees is, of course, not ultra vires the company as a whole.  Ratification has the same retrospective effect on third parties, here the Revenue: 
“The effect of ratification is to invest the person on whose behalf the act ratified was done, the person who did the act, and third parties, with the same rights, duties, immunities and liabilities in all respects as if the act had been done with the previous authority of the person on whose behalf it was done….”  (Article 20(1) Bowstead and Reynolds on Agency, 18th ed, 2006)
(One may note that a similar ratification occurred in NMB Holdings Ltd v Secretary of State for Social Security (2000) 73 TC 85, 104.)
(2)	We should also mention two further legal problems relating to the operation of the scheme.  Because the board resolution breached the self-dealing rule and section 320 of the Companies Act 1985, certainly as to the latter for the debt assigned of over £100,000 and possibly for all of them, and any ratification by Spectrum and Spectrum PLC must be made within a reasonable period (s 322(2)(c) of the Companies Act 1985), which it was not.  Mr Henderson accepts that the effect of such breaches is to make the transaction voidable and no steps have been taken to avoid it.  Accordingly he was content that the transactions should be treated as valid and effective.  If necessary we so find.
(3)	In the tax year 1995-96 Mr Burns’ only remuneration from Spectrum was that derived from the assignment of the trade debts; he received further remuneration from the parent company.  
(4)	Spectrum’s standard terms and conditions provided for settlement of its invoices within 28 days.  In practice invoices were paid at the end of the month next following the month of issue.  We find that by course of conduct this became the contractual condition in place of the 28 days.  Spectrum sent out a statement to its customers early in the month following the issue of the invoice and would expect payment at the end of the month, and that such expectation was met in practice.
(5)	The assigned debts were chosen for administrative reasons comprising six debts only each of significant size.  They were not selected with any delay in collection in mind.  Although they were overdue when assigned according to the 28 day payment condition they were not yet due on the basis of the contractual position that we have found was accepted by the parties.  The invoices assigned with dates in October 1995 were accordingly expected to be paid about 30 November 1995.
(6)	Spectum would have known before 21 November 1995 if there had been any delivery or other problems in relation to the invoices it was proposing to assign with various dates during October 1995.  There was no reason to suppose that either of the two customers, Viking Direct Limited or Ingram Micros (UK) Limited, would be bad debtors in respect of the assigned invoices.  
(7)	In the year ended 31 October 1995 Spectrum had a turnover of about £41.5m and bad debts of £43,423, a bad debt ratio of slightly over 0.1%, which was considered a very healthy ratio.
(8)	The only purpose of Spectrum entering into the trade debts scheme was to give a bonus of approximately £525,000 to Mr Burns in a manner that avoided National Insurance and PAYE in a way that had been proposed by KPMG.  Spectrum had previously engaged in other schemes involving different assets.
(9)	It was not the intention of Spectrum or Mr Burns that the book debts should be dealt with by Mr Burns in any way other than waiting for them to be paid in cash.
(10)	When Spectrum accounted to Mr Burns for the proceeds of the trade debts it was doing what it was already obliged by law to do.
Kirkstall
7.	There was an agreed statement of facts as follows:
Corporate details
(1)	Kirkstall is a private company limited by shares, registered in England and Wales, with Company Number 02752209 and has its registered office at Braithwaite Street, Holbeck, Leeds LS11 9XE.
(2)	There are two directors of Kirkstall, being Robert Paterson and Carl Hainsworth.
(3)	Kirkstall was incorporated on 1 October 1992. The share ownership has been the same since incorporation: there are 1,002 shares in issue, of which Robert Paterson owns 668 and Carl Hainsworth 334.  The company's business is that of a timber merchant.
Decision to pay bonuses by way of assigned debts
(4)	Kirkstall were introduced to KPMG by their accountants, Dickson Kettlewell.  Kirkstall were told that KPMG were marketing a method for paying directors a form of bonus which would save Kirkstall national insurance contributions. 
(5)	Kirkstall decided to undertake the arrangements. 
(6)	Kirkstall received an engagement letter from KPMG.  KPMG also explained to Kirkstall how the arrangements should be implemented and provided draft documentation.    
Implementation of the arrangements 
(7)	Kirkstall implemented the arrangements on five separate occasions between November 1995 and August 1996.  On each occasion the procedure was similar.  To illustrate the steps taken by Kirkstall to implement the arrangements, the arrangements for February 1996 are agreed to be typical.
(8)	A board meeting was held on 21 February 1996 at which both Robert Paterson and Carl Hainsworth were present.  The board meeting was called to consider the proposal that bonuses be awarded to the two directors in recognition of their services to the company.  At the board meeting, it was proposed that certain debts owed to the company be assigned to Robert Paterson and Carl Hainsworth.  According to the minutes of the meeting, both directors declared their interest in the matters under discussion pursuant to section 317 of the Companies Act 1985.
(9)	Presented at the board meeting was a written resolution signed on 20 February 1996 by Carl Hainsworth and Robert Paterson as the two shareholders of Kirkstall authorising the assignment of the debts.  A letter from the company’s auditors dated 20 February 1996 was also presented confirming that, pursuant to s 381(B)(3)(c)(i) of the Companies Act 1985, the written resolution of Kirkstall did not concern them as auditors of the company. 
(10)	It was resolved that the debts be assigned to Carl Hainsworth and Robert Paterson and that the two directors were to be authorised to execute the deeds of assignment on behalf of Kirkstall in order to effect the proposed assignment. 
(11)	A letter was sent to each director confirming that Kirkstall had decided to award them bonuses and that the bonus would be in the form of the assignment of trade debts. 
(12)	The deeds of assignment were signed by the directors on behalf of Kirkstall.  
Payment of debts
(13)	For the February assignments, the invoices were settled by the debtors between 27 February and 4 June 1996.  The bulk of the debts were paid in the first month/six weeks but others took longer.  This is broadly typical of the payment pattern for all the assignments.
(14)	Once the debts were paid to Kirkstall, the directors’ loan accounts were adjusted.  For the February 1996 assignments, the debts were reflected in the directors’ loan accounts in June, August and December of that year.  
Bad debts and credit notes
(15)	Kirkstall say that they suffered a number of bad debts and were also required to issue a number of credit notes for goods which were returned in respect of some of the assigned debts. The details of the bad debts and credit notes are as follows.
(a)	A debt of David Cook, trading as Advanced Roofing, remained unpaid.  This debt was assigned on 27 November 1995 and amounted to £388.22.
(b)	Bradlor Developments Limited did not settle an invoice for £84.60.  This debt was assigned in May 1996.  
(c)	A credit note was issued to Beazer Homes (Yorkshire) Ltd for £18.58 for goods which were returned to Kirkstall.  This credit note is dated 19 June 1996.
(d)	A credit note dated 2 May 1996 was issued to Johnson Bros (Construction) Ltd for £51.86 because some goods were returned from invoice number 10593 which was for £57.18 and was assigned on 1 May 1996.  This customer also paid £25.38 short on a second invoice (no. 11859) for £495.38, which was assigned on 29 August 1996.  Payment of £470 was received on 26 September 1996.
Appeal
(16)	HMRC issued two notices of decision under s 8 of SSCTFA on 27 August 1999 and an appeal was made against these on 1 September 1999.  HMRC issued a determination under reg 49 of the Income Tax (Employments) Regulations 1993 for the tax year 1996/7 and an appeal was made against this on 4 February 2003. 
8.	We had three ring binders of documents (of which one related to Spectrum) and heard evidence from Mr RJ Paterson and Mr C Hainsworth, directors, and find the following further facts:
(1)	The five occasions on which the scheme was adopted were the only occasions that bonuses were paid otherwise than in cash.
(2)	The scheme proceeded in accordance with KPMG’s documentation described above, except that the first document took the form of a written resolution by the shareholders rather than a meeting.  Kirkstall sent KPMG a list of debtors which they said totalled a little over £91,000 on 14 February 1996.  All the documents, already pre-dated, were sent by KPMG with a covering letter of 19 February 1996 (the letter refers to a total of £89,818.77 suggesting that Kirkstall made an arithmetical mistake).  They were duly completed on the relevant dates by Mr Paterson and Mr Hainsworth who work in the same room.  The documents were returned to KPMG on 22 February 1996.
(3)	Kirkstall had 20 to 30 regular customers.  Invoices stated “Terms: nett monthly account.”  The invoices also stated that “Only the conditions of sale of Kirkstall Timber Ltd apply.  Copies available on request” although no such conditions existed.  Customers would understand the contractual position from their regular dealings to be that they initially received a delivery note then an invoice at the end of the month which they were expected to pay by the end of the month.  In practice, customers paid between a week to three months late and Kirkstall accepted this as a commercial necessity.  Mr Paterson knew from the previous pattern how long particular customers would be likely to take before payment.  He would take this into account in pricing.
(4)	When choosing invoices for debts to assign Kirkstall had limited choice.  For example (not relating to the representative occasion), on 25 November 1995 it assigned £120,000 of debts out of total book debts of £205, 712.  However, this may exaggerate the true position as the total does not include the invoices for November 1995 which were then about to be issued; the debtors figure at 31 December 1995 (which included the December 1995 invoices) was £380,000) and may be more representative of the total.
(5)	The assigned debts were chosen to add up to the required total.  Mr Paterson went thorough the sales statements at the end of January 1996 and ticked the January invoices for a number of customers, excluding credit notes and excluding a few so as not to exceed the required total.  In the case of one customer he included December 1995, rather than January 1996 invoices (at the time there were November 1995 invoices still outstanding for that customer).
(6)	Out of a total of about 940 debts assigned on all five occasions on which they carried out the scheme, the bad debts totalled £568.64 comprising three bad debts and two credit notes.  The bad debts amounted to a little over 0.1% compared to the bad debt ratio for 1996 of about 1%.  Kirkstall hoped that all the debts would be paid; debts were not chosen for assignment so as to include some likely bad debts.  Subsequently, 36 of the debtors whose debts had been assigned, whose debts representing 37% of the total, ceased trading.
(7)	The only purpose of Kirkstall entering into the trade debts scheme was to give bonuses to the two directors of approximately in a way that avoided National Insurance and PAYE as had been proposed by KPMG.
(8)	The directors paid income tax on the bad debts.
(9)	It was not the intention of Kirkstall or the directors that the book debts should be dealt with by the directors in any way other than waiting for the book debts to be paid in cash.
(10)	When Kirkstall credited the amounts to the directors’ loan accounts after payment of the assigned debts it was doing what it was already obliged by law to do.
Common issues of law and fact
9.	The Presiding Special Commissioner in directing the lead case directed the following list of common issues of law and fact:
(1)	“Did the assignment of trade debts constitute a payment of “earnings” within the meaning of sections 3 and 6 of the Social Security Contributions and Benefits Act 1992 (“SSCBA”) [It is now common ground that they did.]
(2)	Did the assignment involve a “payment in kind” within regulation 19(1)(d) of the Social Security (Contributions) Regulations 1979 (“the Regulations”), such that it falls to be excluded from the computation of earnings for national insurance purposes?
(3)	If the assignment is a payment in kind, is there anything in regulation 19(5) of the Regulations which requires the assignment to be treated as otherwise than a payment in kind?  This issue requires consideration of specific paragraphs of Schedule 1A to the Regulations.  It is paragraph 9C of Schedule 1A that is of potential relevance.
(4)	Do “trading arrangements” (as defined) exist for the trade debts within paragraph 9C of Schedule 1A?
(5)	Do the principles of statutory construction stated by the House of Lords in Barclays Mercantile Business Finance Limited v Mawson [2005] STC 1 (“BMBF”) and IRC v Scottish Provident Institution [2005] STC 15 require or allow the tribunal to come to any different conclusion?”
10.	The same issues apply to Kirkstall’s appeal in relation to National Insurance.  Essentially similar issues although relating to different statutory provisions apply to the PAYE appeals of Spectrum and Kirkstall.
Law
11.	In relation to National Insurance contributions, reg 19 of the Social Security (Contributions) Regulations 1979 provides:
“(1) For the purposes of earnings-related contributions, thee shall be excluded from the computation of a person’s earnings in respect of any employed earner’s employment any payment in so far as it is—
…
(d) subject to paragraph (5) of this regulation, any payment in kind or by way of the provision of board or lodging or of services or other facilities.
…
(5) Payments under paragraph (1)(d) of this regulation shall not include any payment by way of the conferment of any beneficial interest in—
(a) any asset falling within Schedule 1A to these Regulations….
Schedule 1A includes:
“2.  debentures, including debenture stock, loan stock, bonds, certificates of deposit and other instruments creating or acknowledging indebtedness, not being instruments falling within paragraph 3 of this Schedule.
3.  Loan stock, bonds and other instruments creating or acknowledging indebtedness issued by or on behalf of a government, local authority or public authority.
…
9C.  Any other asset, including any voucher for which trading arrangements exist….”
The definition of trading arrangements in s 203K of the Taxes Act 1988 (see below) is incorporated:
12.	By s 203 Taxes Act 1988 PAYE applies to any payment of income assessable to income tax under what was then Schedule E.  By s 203A a payment is made at the earliest of:
“(a) the time when the payment is actually made;
(b) the time when a person becomes entitles to the payment;….”
Section 203F provides:
(1) Where any assessable income of an employee is provided in the form of a tradeable asset, the employer shall be treated, for the purposes of PAYE regulations, as making a payment of that income of an amount equal to the amount specified in subsection (3) below.
(2) For the purposes of subsection (1) above ‘tradeable asset’ means—
…
(c) any other asset for which, at the time when the asset is provided, trading arrangements exist.
(3) The amount referred to is—
…
(b) in the case of an asset for which trading arrangements exist at the time when the asset is provided, the amount which is obtained under those arrangements.
Section 203K defines trading arrangements:
“(2) Trading arrangements—
(a) for an asset are arrangements for the purpose of enabling the person to whom the asset is provided to obtain an amount similar to the expense incurred in the provision of the asset:…
(3) For the purposes of subsection (2) above—
…
(b) an amount is similar to the expense incurred if it is greater than, equal to or not substantially less than that expense.”
Contentions of the parties
13.	Mr Brennan, for the Appellants, contends in outline:
(1)	These appeals are very different from the other National Insurance Contribution avoidance cases; the asset was not obtained by the employer for the purpose of the arrangements, it was not outlandish in nature, it was genuine, there were no arrangements with third parties, and it was actually assigned.
(2)	What is “remuneration or profit derived from an employment” is judged from the standpoint of the employee is the same as the former Schedule E “in respect of any office or employment on emoluments therefrom.”  The earnings are the assigned debts and their value is the value of the receipt, as in Wilkins v Rogerson 39 TC 344.  The cash received by the employee is not earnings; it is received by the employee because he is the equitable owner of the debts.
(3)	Mr Henderson’s statement of the purpose of reg 19(1)(d) (see paragraph 14(3) below) was merely an assertion.  The purpose of taking benefits in kind out of the charge to National Insurance contributions and PAYE was to avoid difficulties in valuation and timing.  The purpose was not to treat payments in kind as if they were cash; it was the reverse.
(4)	Regulation 19(1)(d) distinguishes between payment in kind, meaning the transfer of an asset, and the provision of board or lodging or of services or other facilities, meaning the provision of services.
(5)	The type of asset which is a payment in kind can be illuminated by looking at the other assets disregarded by Schedule 1A, which include such debts as loan stocks, debentures, certificates of deposit and government, local authority or public authority loan stocks and bonds.  The book debts are similar to a short-dated gilt shortly to be redeemed.
(6)	Each debt was a separate asset since the debtor and other terms were all different.
(7)	Whether there is a payment in kind cannot be judged by reference to the intention of the parties as to the way in which the asset should be enjoyed.  It cannot make any difference if the parties intended the employee to factor the debt, rather than await payment from the debtor.
(8)	Similar arguments applied to “payment” for PAYE.
(9)	With regard to trading arrangements, there was no arrangement; there was no arrangement for the asset, the particular debts, as any credit control arrangements were pre-existing; and there was no arrangement for the purpose of enabling the employee to obtain the stated amount.  The employer’s credit control operated independently of the assignments and would have operated in exactly the same way if there had been no assignment.  The legislation was aiming at the platinum sponge type of case in which there are arrangements in place for the employee to trade the asset, hence the term “trading arrangements.”  In MacDonald v Dextra Accessories [2005] STC 1111 at [18] Lord Hoffmann said “If the terms of the definition are ambiguous, the choice of the term to be defined may shed some light on what they mean.”  If there were trading arrangements, for National Insurance the value of the debt is the amount obtainable and for PAYE it is the amount obtained.  The mismatch does not arise if they are no trading arrangements.
(10)	The Revenue’s analysis fails to deal adequately with bad debts.  The possibility cannot be ignored as de minimis; they could have been large.
(11)	These difficulties disappear if it is recognised that the legislation is not apt to charge remuneration provided in book debts.
14.	Mr Henderson and Mr Rees, for the Revenue, contend in outline:
(1)	It is accepted that viewed in isolation without a Ramsay approach the result is as contended for by Mr Brennan in paragraph 13(2) above.
(2)	The assignment was not a payment in kind either on a purposive construction of that expression or on a traditional Ramsay approach.  Alternatively there were trading arrangements.
(3)	The purpose of Regulation 19(1)(d) was, as found in EDI Services Ltd v HMRC (No.2) [2006] STC (SCD) 392 at [89], “to disregard those benefits in kind that would realistically be enjoyed by the employee in cash, would generally be hard to value, and generally be secondary in importance.”  The critical point was that it was never the intention of the employer or employee that the book debts should be enjoyed as such. 
(4)	The Special Commissioners in EDI were wrong to reject the traditional Ramsay approach. In BMBF the House of Lords specifically endorsed Furniss v Dawson [1984] AC 474 and Carreras Group Ltd v Stamp Commissioner [2004] STC 1377.  The reason why the Ramsay approach was not adopted in BMBF was that as a matter of construction the only issue was whether the lessor had expended the money on the plant and machinery; it was quite unnecessary to analyse on a Ramsay basis the factual steps taken by the lessee.
(5)	For PAYE the construction of “payment” and the Ramsay argument both applied in a similar way to their application for National Insurance contributions. 
(6)	The trading arrangements consisted of the operation of the usual collection mechanism, including bookkeeping and banking, and handing over of the cash to the director.  Each of the Appellants could have left the director to collect the debts himself, but the Appellants were expected to carry this out.  Such arrangements were extraneous to the trade debts.  Unlike the reversionary interest in DTE Financial Services Ltd v Wilson (2001) 74 TC 14 which fell into possession automatically, the debts needed collection.  The arrangements are relevant notwithstanding that no special arrangements were made, see Langley J in NMB Holdings Ltd v Secretary of State for Social Security (2000) 73 TC 85, 126G: “Even if the arrangements made were quite unnecessary that [ie the arrangements were made for the purpose of enabling the asset to be sold] could still be the case.”
Reasons for our decision
The lead case
15.	A number of previous appeals relating to schemes for avoiding National Insurance contributions and PAYE have been heard.  In all of them the pattern has been (1) the employer starts with cash that it intends to give the employee, (2) the employer buys an asset, usually of an outlandish variety, such as platinum sponge, but sometimes an asset that could be held for investment, such as gold Napoleons, making an arrangement that the seller will buy it back again from the employee, (3) the asset is transferred to the employee, (4) the asset is sold back to the original seller by the employee.  Universally they have failed to achieve the purpose of avoiding National Insurance contributions and PAYE.  The scheme in this appeal is different.  It is far simpler.  The employer does not start with cash. It does not buy an asset; the book debts arise from its normal trading.  No arrangements are put in place with a third party for realising the book debt in the hands of the employee; the nature of book debts is that they turn into cash.  The employee takes the bad debt risk; in the other cases he takes a risk of price changes in the asset.  On the other hand, and in common with the other cases, the scheme was “a mechanism to deliver cash,” in the words of the Special Commissioners in EDI at [82], and a book debt is not something that can be held for any enjoyment because it does not produce any benefits other than cash; it can be turned into cash earlier by dealing with it, although that was not the intention here, but there is no possibility of holding it for longer than it takes to produce cash.   The issue in this appeal is whether these differences lead to a different result.  
16.	The correct approach following BMBF is:
“first, to decide, on a purposive construction, exactly what transactions will answer to the statutory description and secondly, to decide whether the transaction in question does so.  As Ribeiro PJ said in Collector of Stamp Revenue v Arrowtown Assets Ltd [2003] HKCFA 46, para.35
The driving principle in the Ramsay line of cases continues to involve a general rule of statutory construction and an unblinkered approach to the analysis of the facts.  The ultimate question is whether the relevant statutory provisions, construed purposively, were intended to apply to the transaction, viewed realistically.”
This demonstrates that the correct approach is a combination of statutory construction and fact finding.  
They went on to make clear that it was not the case that such a factual analysis applied to any taxing statute, but that the correct approach was as above.
17.	Applying that two-stage approach, the questions are first, is the reference to payments in kind in Regulation 19(1)(d) capable of including the situation in which the facts are analysed realistically to say that because the book debts are on the point of becoming cash; and secondly, are the facts to be so analysed?  On the first, we have the approval by Lord Hoffmann in McNiven v Westmoreland Investments Ltd [2003] 1 AC 311 at [68] where he said:
“For example, I have no doubt that Langley J was right when he recently decided in [NMB Holdings] that a payment of bonuses to directors in the form of platinum sponge held in a bank, accompanied by arrangements under which they could immediately sell it for cash to the bank, was not a “payment in kind” which fell to be disregarded for the purposes of [National Insurance contributions].  It is obvious that such a transaction was not what [the Regulations] contemplated as a payment in kind.”
Therefore on authority the construction of the expression benefit in kind is capable of excluding a set of factual circumstances, which, while different from those in this appeal, had the effect of turning the asset into cash.  It is not therefore an expression that is restricted to asking whether at the time of assignment there was a payment in kind.  As the Special Commissioners said in EDI at [89] “Whatever the purpose it does appear that the common thread to the various matters identified in reg 19(1)(d) was that the benefits be available to be used realistically and enjoyed by the recipient.”  We would go further and identify the purposive construction of benefit in kind in the context of reg 19(1)(d) to be to exclude from National Insurance contributions those benefits that can realistically be used and enjoyed in kind by the recipient, on the basis that of they were not excluded there would be difficulties of valuation and timing.
18.	The second step is to analyse the facts realistically.  While a book debt’s nature is that it is expected to turn itself into cash in a short time, it is difficult to see why an employer would want to provide book debts in order for them to be held by the employee as they are incapable of being enjoyed as such as they do not produce any benefits.  It is true that they could be dealt with earlier than waiting for them to turn into cash, for example by assignment or borrowing against them, but that was not the intention of Spectrum or Mr Burns.  Book debts are unlike the other disregarded debt-type assets, which are all of a type normally held as investments because they produce income or gain.  We do not agree with Mr Brennan that the book debts are similar to gilts that are about to be redeemed, which will carry interest paid in arrears and interest will therefore be paid on redemption and the price of which can vary and the current value can be realised in a market.  Where a debt is payable on demand, as is the case with a cheque, it is traditionally treated as cash even though conceptually it is a debt due from the bank, and in that respect not unlike the book debts in this appeal.  In Spectrum, the invoices were dated various dates during October 1995, they were assigned on 21 November 1995 and they were paid on 30 November 1995 (4 invoices), or 1 December 1995 (two invoices).  Spectrum expected them to be paid on about those dates (certainly not earlier) because that was the contractual date (as varied by conduct) and the customers were known to be good payers.  We find that at the time of transfer there was no real likelihood of their not being paid on those dates.  The book debts viewed realistically when assigned consisted of a promise by the customer to pay cash in nine or ten days, and there was no intention that anything should be done with them other than to wait for this period until they were paid in cash.  This, coupled with the fact that there is no benefit to an employee for an employer to provide book debts to be enjoyed as a benefit in kind, means that realistically we analyse the facts as a mechanism to deliver cash, rather than to give the employee an asset that could be enjoyed in kind.
19.	Putting the two together on the basis of the facts so analysed the regulation is both capable of applying and should be applied to exclude the book debts in Spectrum from the expression payment in kind.
20.	We consider Mr Henderson’s criticism of the Special Commissioners’ stated reluctance to apply a Ramsay approach to the facts in EDI, as more semantic than real.  They found that there was a composite, pre-ordained transaction, in which there was no possible likelihood of the employee doing anything other than selling the gold coins back to the supplier, and that although it would have been possible for the coins to be held as an investment nobody even intended to do so.  This is, and is what Mr Henderson describes as, a traditional Ramsay analysis of the facts which, together with a purposive construction of “payment in kind,” they found was not what Parliament had in mind in exempting “payments in kind” from National Insurance contributions.  We believe that the Special Commissioners in EDI had something different in mind when they described a Ramsay approach as involving collapsing the steps and treating the employer as having paid cash, which they considered should be done only where the statute indicates that this should be done, and which they said “altogether inconsistent with the actual decision in [BMBF]”.  We agree with Mr Henderson that the reason the House of Lords did not apply a Ramsay approach to the facts in BMBF was that on their construction of the statute, the only issue was whether the lessor had expended the money on plant and machinery, which was not an issue to which, on the facts of that case, a Ramsay approach to factual analysis was required to be applied.  It was not because of any doubts about the correctness of the factual analysis in Furness v Dawson and Carreras, which the House of Lords specifically approved at [35]:
“In each case the court looked at the overall effect of the composite transactions by which the taxpayer company in Burmah suffered not loss, the shares in Furniss passed into the hands of the outside purchaser and the vendors in Carreras received cash.  On the true construction of the relevant provisions of the statute, the elements inserted into the transactions without any commercial purpose were treated as having no significance.”
We believe that on the current approach which gives more prominence to the construction of the statute, it is unnecessary to regard Furniss as a case where the shares in Greenjacket issued to the shareholders was redesignated as the cash that Greenjacket received from Wood Bastow; rather, it is a case where the disposal was not within the exemption for share-for-share exchanges because that implies that Greenjacket would continue to hold the shares.  We agree with Mr Henderson that it is sufficient to say that there was a disposal that did not come within the exemption (see also Malcolm Gammie QC “Sham and Reality: the Taxation of Composite Transactions” [2006] BTR 294, 301).
21.	Our decision in this appeal about trading arrangements is contained in paragraph 29 below.
The Kirkstall National Insurance appeal
22.	In relation to the facts of Kirkstall, there are two main differences, first, a small proportion, less than 0.1%, of the total amount of the debts were bad or, if one prefers to view it as Mr Brennan does, a small proportion of the separate debts were 100% bad.  Secondly the debts were not paid, and were not realistically expected to be paid, exactly on time; in fact following the assignment on 22 February 1996 they were mostly paid in the next month to six weeks but the final one was not paid until 4 June 1996.  
23.	We do not consider that the bad debt aspect makes any difference to the analysis.  It was a risk to which attention was drawn in the initial letter from KPMG.  It is no different in principle from the price of platinum sponge being capable of variation in NMB Holdings.  The scheme is still a mechanism to deliver cash if the amount of cash is capable of variation, even though the expected variation is minimal in the short time that it was expected to be held by the employee.  In Kirkstall nobody expected the debts to be bad, although it was accepted that this was a possibility.  
24.	With regard to the time of payment we cannot use hindsight since we are determining whether the facts are such that National Insurance contributions are payable on the date of the assignment.  However, Mr Paterson’s expectation was that customers might pay between a week and three months late, which was in fact slightly exceeded in one case.  The issue is whether debts which are expected to be paid over the next three months can still be analysed as a mechanism to deliver cash.  It is still the case that it is difficult to see why anyone would want to hold book debts for up to three months, although they could be dealt with otherwise than waiting for them to turn into cash, for example by assignment or borrowing against them, and there is no suggestion that this was ever considered by the directors who received the book debts.  Although applying a Ramsay approach to analyse payment expected to be over a period of up to three months as a cash payment at the time of the assignment is an extreme case, we believe more extreme than in any previous case, we consider that we should do so in this case because the intention was never that the directors should enjoy the book debts as such, and a book debt is incapable of being enjoyed in any way by merely holding it, unlike, for example, the gold Napoleons in EDI, which were capable of being held as an investment, although that was not the intention of the parties.  It was just that Kirkstall and the directors both recognised that they might have to wait for longer for their cash.  This did not matter because when the debts were paid the amount was credited, as it was intended to be, to the directors’ loan account which was written up quarterly and not drawn in cash.  It is better described as a mechanism to boost the balance on the directors’ loan accounts, than as a mechanism to deliver cash, but it is still not a payment in kind because the intention was never that the book debts should be enjoyed in kind]
25.	Our decision in this appeal about trading arrangements is contained in paragraph 29 below.
The PAYE appeals
26.	The PAYE issue is similar.  The Revenue accept that apart from Ramsay and the provision about trading arrangements PAYE can be operated only where there is a payment in money.  Here the issue of construction is whether “payment” is capable of including facts that deliver a deferred payment.  In the Court of Appeal in DTE Financial Services Ltd v Wilson (2001) 74 TC 14 Jonathan Parker LJ, with whom Sedley and Potter LJJ concurred, said at [42]:
“So far as the Ramsay issue is concerned, therefore, the only question (to my mind) is whether it is legitimate to apply the Ramsay principle or, if one prefers, adopt a Ramsay approach to the concept of ‘payment# in the context of the statutory provisions relating to PAYE.  In my judgment it plainly is.  I accept Mr Glick’s submission [for the Revenue] that in the context of the PAYE system the concept of payment is a practical, commercial concept.”
The word payment in this context was capable of including facts under which an interest under a settlement which was ostensibly contingent although there was no risk of the contingency not occurring was acquired by the employer on 25 April 1995 was assigned to the employee on 26 April 1995 and fell into possession on 28 April 1995.
27.	Our factual analysis of Spectrum and Kirkstall for this purpose is identical to that for National Insurance contributions in paragraph 18 above.  Putting the two together “payment” in s 203 is both capable of applying, and should be applied, to include the assignment of the book debts. 
28.	Our decision in these appeals about trading arrangements is contained in paragraph 29 below.
Trading arrangements (applicable to all appeals)
29.	The issue which is applicable both to National Insurance contributions and PAYE with regard to trading arrangements is whether the book debts are an asset for which trading arrangements, in accordance with the definition above, exist (the only difference is that for PAYE the payment is deemed to be the amount obtained by the trading arrangements, and the date is the date of the assignment, see s 203F(1)).  Mr Henderson’s contention is that they do exist because each of the Appellants had existing arrangements for collecting debts and these were used.  Mr Brennan’s contention is that such arrangements are not for the assigned trade debt; and are not for the purpose of enabling the director to obtain an amount similar to the expense incurred in the provision of the asset.  We prefer Mr Brennan’s interpretation.  Since the arrangements for collecting debts already exist they are not arrangements for the purpose of enabling the director to obtain that amount.  The purpose of arrangements is what the arrangements set out to achieve and the reason for their existence.  Here the arrangements for collecting debts exist to collect the debts on behalf of each of the Appellants; they have merely been used on this occasion to obtain that amount for the director.  We also have doubts about what is the expense incurred on the provision of the asset, Mr Henderson contending that it was the money foregone by assigning the debt, and Mr Brennan not taking any point on this aspect.  The asset was provided, meaning that it came into existence, through the Appellants’ normal trading and expense of providing it is presumably the cost of the goods provided together with the proportion of overheads.  Although Mr Henderson’s case proposed this as an alternative, on the basis that this expense would be less than the debt so that what was obtained by the director was still an amount similar to the expense because this was defined to include an amount greater than the expense, he did not pursue it at the hearing.  We consider that the definition, as the defined expression trading arrangements implies, which as Lord Hoffmann said in Dextra (see paragraph 13(9) above) can be used to throw light on the meaning of the definition covers arrangements for buying and selling an asset, as is found in the traditional avoidance cases, and the meaning cannot be stretched to include the normal debt collecting arrangements that existed in these appeals.
30.	Accordingly we answer the issues posed in Spectrum as the lead case (see paragraph 9 above)
(1)	[It is common ground that the assignments of book debts constitute a payment of earnings];
(2)	The assignments of book debts in this case did not involve a payment in kind;
(3)	Not applicable;
(4)	Trading arrangements did not exist;
(5)	We have applied these principles of statutory construction to reach the conclusion in (2);
and accordingly we dismiss the appeal in the lead case.
31.	Our decision on PAYE in Spectrum is that the assignment of book debts constituted a payment, but that they did not constitute trading arrangements, and we dismiss the appeal.
32.	Our decision in principle in the Kirkstall appeals is that the assignment of the book debts was not a payment in kind for National Insurance contributions purposes; that it constituted a payment for PAYE; but that they did not constitute trading arrangements; and we dismiss the appeals.
33.	 We should like to add that it seems strange to us that the lead case procedure is limited to National Insurance contributions appeals, when, as this case demonstrates, near identical issues arise in relation to PAYE, with the result that our decision does not bind the other 48 cases for PAYE, although we hope that the prospect of our having to decide 48 further separate appeals on this question is remote.  Another circumstance in which a wider scope to the lead case procedure might be necessary is demonstrated by the House of Lords decision in Re Claimants under Loss Relief Group Litigation Order [2005] STC 1357 to the effect that some appeals formerly dealt with in group litigation orders in the High Court should be started before the Special Commissioners.  We hope that this can be brought to the attention of those responsible for our rules.

JOHN F. AVERY JONES

ADRIAN SHIPWRIGHT

SPECIAL COMMISSIONERS
RELEASE DATE: 22 August 2006

SC 3152/05

Authorities referred to in skeletons and not referred to in the decision:
Tullett and Tokyo Forex International v Secretary of State for Social Security [2002] All ER (D) 739
Abbott v Philbin 39 TC 82
R v DSS ex p. Overdrive Credit Card Ltd [1991] STC 129
Re British Basic Slag Ltd’s Application [1963] 1 WLR 727
Hitch v Stone [2002] STC 214