Spc00701

CAPITAL GAINS TAX – relief for re-investment under the enterprise investment scheme – Appellant issued shares in return for cash and on the same day issued shares of the same class to convert certain loan notes and in satisfaction of a fee for providing a guarantee -- whether all the shares comprised in the issue were issued in order to raise money for the purpose of a qualifying business activity – no –whether investor who had given the guarantee and investors who held loan notes received value from the company – yes - appeal dismissed – TCGA 1992 Section 150C and Sch 5B para 1(2)(f), 13(2)(b) and (c) and 19(1) and (3)(a)  

THE SPECIAL COMMISSIONERS 

DOMAIN DYNAMICS (HOLDINGS) LIMITED 
Appellant

 - and -   	

THE COMMISSIONERS FOR HER MAJESTY’S 
REVENUE AND CUSTOMS 
Respondents

Special Commissioner: DR A N BRICE

Sitting in London on 9 May 2008 

David Ewart QC, instructed by Henmans LLP, for the Appellant 

Daniel Margolin, Counsel, instructed by the Solicitor for HM Revenue and Customs, for the Respondents

© CROWN COPYRIGHT 2008

DECISION

The appeal
1.	On 18 October 2001 Domain Dynamics (Holdings) Limited (the Appellant) issued ordinary shares to twelve persons including Mr Michael Eric Moors (Mr Moors) and Mrs Sandra Fawley Moors (Mrs Moors). Some of the shares were issued in return for cash; some were issued to Mr Moors in satisfaction of a fee due to him for the provision of a guarantee; and some were issued to Mr and Mrs Moors and others to convert certain loan notes into shares. In 2000 and 2001 Mr and Mrs Moors had realised a chargeable gain (the original gain) and wished to claim relief from capital gains tax on the original gain in respect of their re-investment in the shares of the Appellant. The Appellant asked the Commissioners for Her Majesty’s Revenue and Customs (the Revenue) for authority to issue a certificate certifying that the conditions for enterprise investment relief were satisfied in respect of the shares. The Revenue refused on 2 August 2006 and the Appellant appealed against the refusal. 

A summary of the legislation 
2	Section 150C of the Taxation of Chargeable Gains Act 1992 (the 1992 Act) contains provisions about capital gains tax and enterprise investment schemes. Section 150C provides that Schedule 5B (which provides relief in respect of re-investment under the enterprise investment scheme) has effect. The scheme of Schedule 5B is that, where a chargeable gain (the original gain) accrues to an individual on the disposal of any asset, and the individual makes a qualifying investment, the individual may claim to set expenditure on the qualifying investment against the original gain. Paragraph 1(2) of Schedule 5B provides that an individual makes a qualifying investment if eligible shares are issued to him and if a number of other conditions are satisfied. One condition (contained in paragraph 1(2)(f)) is that all the shares comprised in the issue are issued in order to raise money for the purpose of a qualifying business activity. Paragraph 13 of Schedule 5B provides that, where an individual who subscribes for eligible shares receives value from the company, the shares are treated as never having been eligible shares. Paragraph 13(2)(b) and (c) provide that an individual receives value from a company if the company repays a debt owed to the individual or makes a payment to the individual for giving up his right to a debt on its extinguishment. Eligible shares are defined in paragraph 19 of Schedule 5B which also contains other provisions about the interpretation of the Schedule. 

The issues
3.	The Revenue argued that relief in respect of re-investment under the enterprise investment scheme was not available to Mr and Mrs Moors because all the shares comprised in the issue were not issued in order to raise money for the purpose of a qualifying business activity; some of the shares had been issued as consideration for the giving of the guarantee and some had been issued to convert the loan notes.  Alternatively, the Revenue argued that the shares were to be treated as never having been eligible shares because Mr and Mrs Moors had received value from the company; by the conversion of the loan notes the company had repaid the debt due represented by the loan notes or had paid Mr and Mrs Moors for giving up their rights to the debt represented by the loan notes which had been extinguished..
. 

4.	Thus the issues for determination in the appeal were:

(1)	whether all the shares comprised in the issue of shares by the Appellant were issued to raise money for the purpose of a qualifying business activity within the meaning of  paragraph 1(2)(f) of Schedule 5B of the 1992 Act; or

(2)	whether the shares issued to Mr and Mrs Moors were to be treated as never having been eligible shares because Mr and Mrs Moors had received value from the Appellant within the meaning of paragraph 13(2)(b) or (c) of Schedule 5B. 

The evidence
5.	There was a statement of agreed facts and a bundle of documents was produced. 

The facts 
6.	The facts were not in dispute and from the evidence before me I find the following facts.

7.	The Appellant is the holding company of a trading group which carried on the business of voice authentication and signal testing. It was not disputed that this business was a qualifying business activity within the meaning of Schedule 5B of the 1992 Act. Prior to October 2001 Mr Moors was a director of the Appellant and Mr and Mrs Moors held 320,870 ordinary shares in the Appellant as minority shareholders. On 12 April 2000, 2 April 2001 and 14 May 2001 Mr and Mrs Moors realised chargeable gains on the disposal of securities in an unconnected public company.

The loan notes
8.	On 29 December 2000 the Appellant approved a Deed Poll constituting £250,000 Convertible Unsecured Loan Notes which were to be redeemed on 31 December 2005 for cash. Clause 3 of the Deed Poll provided that when a loan note was due to be redeemed the Appellant would pay to the holder the principal amount of the loan note at par with accrued interest. Clause 5 of the Deed Poll provided that, subject to certain conditions, a loan note holder was entitled to convert the loan notes into fully paid ordinary shares at a stated rate by completing the notice of conversion endorsed on the certificate relating to the loan notes; if a completed conversion notice was duly lodged, the Appellant would allot and issue the number of ordinary shares to which the loan note holder was entitled. Clause 5.5 provided that such allotment and issue “shall be in satisfaction of the principal monies in respect of the Loan Notes so converted”. Clause 5.7 provided that all the loan notes converted under the Clause “shall be cancelled”. It appears that the Deed Poll was not executed on 29 December 2000 but at a later date but no point on this was raised at the hearing. 

9.	On 18 May 2001 eight certificates relating to the loan notes were issued under the Deed Poll for different amounts and to different individuals. One of the certificates was issued to Mr Moors in the amount of £14,275 and two others, each in the amount of £28,575, were issued to Mr and Mrs Moors in their joint names. 

The loan agreement 
10.	On 22 August 2001 there was a meeting of the directors of the Appellant and Mr Moors was present. The meeting considered a proposed loan agreement under which Mr Moors proposed to lend to the Appellant the sum of £200,000 so that the Appellant could pay salaries due on 30 August 2001 and other debts; it was noted that the Appellant had an urgent need for immediate short-term funding. The meeting resolved to enter into the loan agreement and the agreement was signed by both parties on the same day. Clause 6.1 of the agreement provided that the loan was to be repaid on 30 September 2001.   

11.	On 14 September 2001 the chairman of the Appellant wrote to all shareholders about a proposed share subscription and conversion of loan notes. The letter said that there was an urgent need to consider and approve a financing proposal for the Appellant. He stated that Mr and Mrs Moors had offered to invest a total of £3 million for new ordinary shares in the Appellant. There were a number of conditions of the offer one of which was that those shareholders who held convertible loan notes issued by the Appellant should give notice to convert them into ordinary shares. 

12.	On 18 September 2001 Mr and Mrs Moors made a formal offer to invest further substantial sums in subscribing for shares in the Appellant. Mr Moors was to apply for the issue and allotment of 1,104,973 shares for £2,000,001.13 and Mrs Moors was to apply for the issue and allotment of 552,486 shares for £999,999.66. It was a term of the formal offer that the existing loan notes, which represented debt owed by the Appellant to Mr Moors and others, should be converted to share capital. 

The bank guarantee 
13.	On 21 September 2001 there was a meeting of the board of directors of the Appellant. It was noted that the Appellant proposed to enter into a short term financing facility with National Westminster Bank plc for a loan of £400,000 and that £200,000 of the loan was to be used to repay the loan from Mr Moors made on 22 August 2001 with the balance being used for the Appellant’s immediate working capital requirements. It was also noted that Mr Moors proposed to provide a personal guarantee for the loan “subject to the company agreeing to pay a fee of £40,000 to Mr Moors for procuring the loan. The fee is to be discharged and satisfied by the allotment of 22,100 ordinary shares of £0.001 each in the capital of the Company to Mr Moors”.  On 26 September 2001 the National Westminster Bank (the Bank) advanced to the Appellant the sum of £400,000 by way of short term loan. £200,000 of this sum was to be used to repay the loan made by Mr Moors on 22 August 2001 and the remainder was to be used to provide the Appellant with working capital. Mr Moors provided a guarantee to the Bank to support this loan. The Appellant agreed to pay to Mr Moors a fee of £40,000 for providing this guarantee such fee to be satisfied by an issue of 22,100 shares in the Appellant provided that such shares were issued on or before 31 October 2001. 

The issue of shares 
14.	On 18 October 2001 there was an extraordinary general meeting of the Appellant at which it was resolved that the authorised share capital be increased by the creation of 8,000,000 ordinary shares of £0.001 each. On the same day a meeting of the directors of the Appellant resolved to allot shares of £0.001 each to twelve persons. These were: Mr and Mrs Moors in return for cash, eight holders of loan notes including Mr Moors and Mr and Mrs Moors jointly, another company to whom two invoices were owed, and Mr Moors in payment of the fee for providing the guarantee on 26 September 2001. The shares issued to Mr and Mrs Moors were: 

(1)	1,104,973 to Mr Moors in return for £2,000,001.13 in cash;

(2)	552,486 to Mrs Moors in return for £999,999.66 in cash;

(3)	22,100 to Mr Moors in payment of the fee of £40,000 for providing the guarantee; these were “allotted to Michael Eric Moors and credited as fully paid by capitalising the sum due of £40,000 in respect of the fee in satisfaction of the subscription price in full for those shares”. 

(4)	7,137 to Mr Moors by way of conversion of the loan note held by Mr Moors and 14,287 shares to Mr and Mrs Moors by way of conversion of each of the two loan notes which they held jointly.  .

The claim for relief
15.	On 23 December 2002 the Appellant submitted to the Revenue a request for authority to issue certificates under section 306(2) of the Income and Corporation Taxes Act 1988 (the 1988 Act) in respect of the 1,104,973 shares issued to Mr Moors in return for cash and in respect of the 552,486 shares issued to Mrs Moors in return for cash. 

16.	Correspondence between the parties followed and on 20 February 2003 the Revenue wrote to say that there was a difficulty because the Appellant had not only issued shares for cash on 18 October 2001 but had also issued shares as part of the loan and debt conversion. The effect of paragraph 1(2)(f) of Schedule 5B of the 1992 Act was that relief only applied where the shares, and all other shares comprised in the same issue, were issued in order to raise money for the purpose of a qualifying business activity. The conversion of the loan notes into shares did not raise any money and, because not all the ordinary shares issued on 18 October 2001 were issued to raise money, the conditions of the relief were not satisfied.  

17.	On 2 August 2006 the Revenue formally refused the Appellant’s request and it is against that refusal that the Appellant appeals.
 
18.	In the light of those findings of fact I now consider separately each of the issues for determination in the appeal. 

Issue (1) – Were all the shares issued to raise money for a qualifying business activity?
19.	The first issue is whether all the shares comprised in the issue of shares by the Appellant were issued to raise money for the purpose of a qualifying business activity within the meaning of paragraph 1(2)(f) of Schedule 5B of the 1992 Act. Before summarising the arguments of the parties I first consider the relevant legislation in more detail.

The capital gains tax legislation
20.	Section 150C and Schedule 5B were inserted in the 1992 Act by section 67 and Schedule 13 of the Finance Act 1995 and apply to gains accruing and events occurring after 28 November 1994. 

21.	Schedule 5B contains the provisions about enterprise investment schemes which are intended to encourage investment by individuals in ordinary shares of unquoted trading companies. The provisions entitle an individual to a deferment of a charge to capital gains tax on the disposal of any asset if he invests the proceeds of that disposal in the shares of a qualifying company. 

23.	Paragraph 1 of Schedule 5B describes the application of the Schedule and, at the relevant time, the relevant parts of paragraph 1 provided:  

“(1)	This Schedule applies where—
(a)     there would … be a chargeable gain (“the original gain”) accruing to an individual (“the investor”) at any time (“the accrual time”) on or after 29th November 1994;
(b)     the gain is one accruing … on the disposal by the investor of any asset  … ; 
(c)     the investor makes a qualifying investment; and
(d)     the investor is resident or ordinarily resident in the United Kingdom at the accrual time and the time when he makes the qualifying investment … .
(2)     The investor makes a qualifying investment for the purposes of this Schedule if—
(a)     eligible shares in a company for which he has subscribed wholly in cash are issued to him at a qualifying time and, where that time is before the accrual time, the shares are still held by the investor at the accrual time,
(b)     the company is a qualifying company in relation to the shares,
(c)     at the time when they are issued the shares are fully paid up, disregarding for this purpose any undertaking to pay cash to the company at a future date,
(d)     the shares are subscribed for, and issued, for bona fide commercial purposes and not as part of arrangements the main purpose or one of the main purposes of which is the avoidance of tax,
(e)     the requirements of section 289(1A) of the Taxes Act are satisfied in relation to the company,
(f)     all the shares comprised in the issue are issued in order to raise money for the purpose of a qualifying business activity, 
(g)	at least 80% of the money raised by the issue is employed wholly for the purpose of that activity not later than the time mentioned in section 289(3) of the Taxes Act and
(h)	all of the money so raised is employed wholly for that purpose not later than 12 months after that time,
and for the purposes of this Schedule, the conditions in paragraphs (g) and (h) above do not fail to be satisfied by reason only of the fact that an amount of money which is not significant is employed for another purpose.”

24.	Paragraph 1A of Schedule 5B contains provisions which apply when the conditions in paragraph 1 are not satisfied. Paragraph 1A(3) provides: 

“(3)	If the condition in sub-paragraph (2)(f) of [paragraph 1] is not satisfied in relation to an issue of eligible shares, the shares shall be treated for the purposes of this Schedule as never having been eligible shares.”

25.	Paragraph 2 of Schedule 5B provides that an investor may claim to set the amount of the qualifying expenditure on the relevant shares against a corresponding amount of the original gain. Paragraph 3 provides that a chargeable event occurs when the investor disposes of the qualifying investment and paragraph 4 provides that, on the occurrence of a chargeable event, a chargeable gain accrues, the amount of which is so much of the deferred gain as is attributable to the shares.  

26.	Thus the scheme of the legislation is that, where an investor makes a qualifying  investment, he may claim to set the amount of his expenditure on the qualifying investment against previous gains but when he disposes of the qualifying investment a chargeable gain accrues equal to the amount of the deferred gain. Thus the relief is in the form of a deferral or roll-over relief. 

27.	Paragraph 19 contains the interpretation provisions for Schedule 5B and the relevant parts provide:

“19(1)	For the purposes of this Schedule-
“arrangements” includes any scheme, agreement or understanding, whether or not legally enforceable; …
“eligible shares” has the meaning given by section 289(7) of [the Taxes] Act; …
“qualifying business activity “ has the meaning given by section 289(2) of the Taxes Act ….”
(3)	In this Schedule-
(a)	references (however expressed) to an issue of eligible shares in any company are to any eligible shares in the company that are of the same class and are issued on the same day.”

The income tax legislation
28.	As will be seen, the capital gains tax provisions in Schedule 5B made reference to the provisions of the Taxes Act, namely the Income and Corporation Taxes Act 1988 (the 1988 Act) which contained the legislation about relief from income tax for enterprise investment schemes. Part VII of the 1988 Act (sections 256 to 336) contains general provisions relating to the taxation of the income of individuals. Chapter III of Part VII (sections 289 to 312) contains provisions about enterprise investment schemes. (The provisions which applied at the relevant time had been amended by section 137 and Schedule 15 of the Finance Act 1994 in relation to shares issued after 1 December 1993.) Section 289 describes the eligibility for relief and the relevant parts provide: 

“289	(1)	For the purposes of this Chapter, an individual is eligible for relief .. if 
a)	eligible shares in a qualifying company for which he has subscribed wholly in cash are issued to him …
(b) 	 the shares and all other shares comprised in the same issue are issued in order to raise money for the purpose of a qualifying business activity; …
(d)	all of the money so raised is employed wholly for that purpose …”. 
(1A)	The requirements of this section are satisfied in relation to a qualifying company if throughout the relevant period the active company-
(a) 	is a company which
(i)	is such a company as is mentioned in section 293(2)(a), and …
(2)	In this Chapter “qualifying business activity” … means … carrying on a qualifying trade …
(7) 	In this Chapter “eligible shares” means new ordinary shares which … carry no present or future preferential right to dividends”. 

29.	Section 293(2)(a) refers to a company which exists wholly for the purpose of carrying on a qualifying trade. Section 297(1) provides that a trade is a qualifying trade if it complies with the provisions of that section. It was not disputed that the businesses carried on by the Appellant were qualifying trades. 

30.	Section 306 of the 1988 Act contains provisions about claims and section 306(2) provides that a claim for relief shall not be allowed unless it is accompanied by a certificate issued by the company certifying that the conditions for relief are satisfied in relation to the shares. Section 306(4) provides that a certificate may not be issued by the company without the authority of the Revenue. 

31.	With that legislative background in mind I turn to consider the arguments of the parties about the first issue.

The arguments
32..	For the Appellant Mr Ewart argued that relief was only requested in respect of the shares which had been issued to Mr and Mrs Moors in return for cash and it was not disputed that all those shares were issued in order to raise money for the purposes of the trade of the Appellant which was a qualifying business activity. In construing the provisions of paragraph 1(2)(f) of Schedule 5B, it was necessary to begin with the provisions of paragraph 1(2)(a) because the only shares which were relevant in paragraph 1(2) were those mentioned in paragraph 1(2)(a). Paragraph 1(2)(a) referred to shares for which an investor had subscribed wholly in cash and the provisions of paragraph 1(2)(c) and (d) also referred to those shares. That context indicated that the reference in paragraph 1(2)(f) to “all the shares comprised in the issue” was a reference to the shares mentioned in paragraph 1(2)(a) (namely the issue of shares for which the investor had subscribed wholly in cash).. Paragraph 19(3)(a) did not alter the identity of the shares referred to in paragraph 1(2)(f); it merely stated that all of the shares (that is the shares mentioned in paragraph 1(2)(a) which were issued in return for cash) which were issued on the same day were treated as part of the same issue. The provisions of Paragraph 1A(3) of Schedule 5B should be read in the same way.   

33.	For the Revenue Mr Margolin accepted that “the shares” referred to in paragraph 1(2)(b), (c) and (d) were the same shares as those mentioned in paragraph 1(2)(a), namely shares for which an investor subscribed wholly in cash. However, paragraph 1(2)(e) was different as it referred to the company and not to the shares. Paragraph 1(2)(f) was also different because it referred to “the shares comprised in the issue” and not just to “the shares” as in paragraph 1(2)(b), (c) and (d).  To interpret the phrase “the shares comprised in the issue” it was necessary to look at paragraph 19(3)(a) where an issue of eligible shares was defined as any eligible shares of the same class issued on the same day. This view was confirmed by the provisions of paragraph 1A(3) which also referred to “an issue of eligible shares” and not just to “shares”. Mr Margolin accepted that his interpretation might produce anomalous results in certain circumstances but argued that that did not amount to an absurdity relying upon Wakefield v Inspector of Taxes [2005] STC (SCD) 439 at [74] and [75]. He also cited Blackburn v The Commissioners for Her Majesty’s Revenue and Customs [2008] EWHC 266 (Ch) at [45] for the principle that it was for taxpayers to organise their affairs properly so as to come within the provisions of the legislation. 

34.	Mr Margolin went on to argue that his interpretation was consistent with the similar provisions in the 1988 Act which gave relief from income tax for enterprise investment schemes. He accepted that section 289 of the 1988 Act was not expressed in the same terms as paragraph 1(2) of Schedule 5B of the 1992 Act, and that there were a number of differences in the provisions of the income tax legislation when compared with the capital gains tax legislation; for example, there were provisions about connected persons which appeared in the former but not in the latter. However, it was hard to see a reason for any difference in meaning as between section 289(1)(b) of the 1988 Act and paragraph 1(2)(f) of the 1992 Act  

35	In reply Mr Ewart accepted that it was necessary to comply with the conditions in the legislation but argued that that did not mean that the provisions had to be construed in a capricious way. There was no mischief which required the legislation to be construed in the way suggested by the Revenue. The arguments of the Revenue would lead to the absurd result that if shares were issued for cash and also issued to convert loan notes on the same day there would be no relief for the shares issued for cash but that if shares were issued for cash on one day and similar shares were issued to convert loan notes the next day there would be relief for the shares issued for cash. He cited Mellham Ltd v Burton [2006] STC 908 for the principle that, in approaching matters of statutory construction, it is necessary to stand back and consider the position in the round. Finally he argued that the Revenue’s arguments by reference to the income tax provisions in the 1988 Act were not relevant because the provisions of the 1988 Act differed from the provisions of the 1992 Act. He distinguished Wakefield on the ground that the legislation in that appeal was designed to prevent indirect returns of value whereas in this appeal there was no reason why the relief should be denied in respect of the shares which had been issued in return for cash. He also distinguished Blackburn where the words of the legislation had been clear whereas in this appeal the words of the legislation were not so clear and did not produce a coherent result. 

Reasons for decision
36.	In considering the arguments of the parties I start with the legislation. Paragraph 1(1)(c) of Schedule 5B provides that the relief is available where an investor makes a qualifying investment and paragraph 1(2) describes when an investor makes a qualifying investment. Paragraph 1(2)(a) provides that the investor must subscribe for eligible shares wholly in cash. Eligible shares are defined in paragraph 19(1) and in section 289(7) of the 1988 Act as meaning new ordinary shares which carry no preferential right to dividends. The Revenue accepted that the provisions of paragraph 1(2)(b), (c) and (d) all applied to the shares subscribed for in cash and originally mentioned in paragraph 1(2)(a), (I note that paragraph 1(2)(b) provides that the company should satisfy a requirement but that is in relation to “the shares”.) I also note that paragraphs 1(2)(a), (b), (c) and (d) all concern the shares subscribed for by the original investor.. However, paragraph 1(2)(e) marks a change because it provides that the company must satisfy more general requirements relating to its trading. Then come paragraphs 1(2)(f), (g) and (h) which refer to “the issue” and “the money raised by the issue” and not just to “the shares” as in paragraph 1(2)(a), (b), (c) and (d). 

37.	 The change of wording points to the conclusion that there is a change of meaning as well. Turning to paragraph 1(2)(f) it is necessary to give some meaning to the words “comprised in the issue”. Those words would not be necessary if they did not add something to the words “all the shares” which begin paragraph 1(2)(f). If the Appellant is right then the words are not necessary as it would be sufficient to provide that all the shares were issued to raise money for a qualifying activity on the basis that “all the shares” referred back to paragraph 1(2)(a) and meant all the shares subscribed for by the individual investor wholly in cash. 

38.	An interpretation of paragraph 1(2) is not complete without a reference to paragraph 19(3)(a). That provides that any reference to “an issue of eligible shares” means “any eligible shares … that are of the same class and are issued on the same day”.  The use of the word “any” indicates that, where shares of the same class are issued on the same day to more than one investor, then the phrase “issue of shares” comprises all the shares of the same class issued that day.  This indicates that paragraph 1(2)(f), (g) and (h) are referring to all the shares of the same class issued by the company on the same day whereas paragraph 1(2)(a), (b), (c) and (d) are referring the shares issued to the individual investor for cash.  

39.	It is also interesting to note that paragraph 1(2)(g) and (h), and the concluding part of paragraph (2), contain provisions which would permit part of the money raised by the issue of the shares not to be employed immediately for the purposes of a qualifying business activity but there are no such provisions applicable to paragraph 1(2)(f). 

40.	Returning to paragraph 1(2)(f) it is necessary to ask if all the ordinary shares of the Appellant which were issued on 18 October 2001 were issued in order to raise money for the purpose of a qualifying activity, namely the Appellant’s trade. The Appellant did not argue that the shares which were issued to Mr and Mrs Moors and others to convert the loan notes, and the shares which were issued to Mr Moors in satisfaction of his fee for providing the guarantee, were issued in order to raise money for the purpose of the Appellant’s trade. It follows that the condition for the relief contained in paragraph 1(2)(f) is not satisfied in relation to any of the ordinary shares issued on that day. 
 
41.	Before concluding my consideration of this issue I have considered the authorities cited by the parties. The first two did not concern the interpretation of Schedule 5B of the 1992 Act and so they are not of direct relevance in this appeal. However each expressed views on statutory construction. Wakefield (2004) concerned somewhat similar provisions in section 164L of the 1992 Act about the transfer of business assets and roll-over relief on re-investment. The Special Commissioners at [74] and [75] said that, although an interpretation of legislation might produce anomalous results in certain circumstances, that did not mean that it amounted to an absurdity; if the legislation established a rule, and the taxpayer did not fulfil the requirements of the rule, he did not qualify for the relief. I adopt those comments. Mellham Ltd v Burton (2006) concerned the payment of interest on outstanding advance corporation tax where the company was also entitled to a repayment; the issue was whether, in that context, the right to the repayment meant that the tax had been paid. The House of Lords decided that it did. At 915g Lord Walker said that it was necessary to stand back and consider the position in the round and that the proposition that a failure to pay tax carried a statutory liability to interest forever afterwards, even if the liability was discharged otherwise than by payment, was “so startling as to suggest that it would be a good reason for construing the statute more flexibly”. That situation is very far removed from the position in this appeal.    

42.	Blackburn did concern the provisions of Schedule 5B of the 1992 Act but not the interpretation of paragraph 1(2)(f). At [45] Peter Smith J said that sympathy with a broad approach to the construction of statutory provisions cannot be used to overturn the plain meaning of words. It was unfortunate if arrangements were caught but that was a consequence of the failure on the part of the taxpayer to organise his affairs properly  so as to come within the requirements of the section. I also have sympathy with the broad approach suggested by the Appellant in this appeal but, in the light of a textual analysis of paragraph 1(2) of Schedule 5B, and of the provisions of paragraph 19(3)(a), must conclude that the statutory conditions have not been satisfied in this appeal.  

43.	Finally, I have considered the references to the 1988 Act. Although there are similarities between the income tax relief in the 1988 Act and the capital gains tax relief in the 1992 Act there are also some differences. The provisions of the 1988 Act are relevant to the capital gains tax relief to the extent that they are specifically incorporated by the 1992 Act. In my view it is not possible to go wider than that in construing the words of the 1992 Act and so I have not relied upon any other provisions of the 1988 Act in reaching my decision. I do note, however, that the conclusion which I have reached is consistent with the provisions of section 289(1)(b) of the 1988 Act. 

Conclusion
44.	I conclude that all the shares comprised in the issue of shares by the Appellant were not issued to raise money for the purpose of a qualifying business activity within the meaning of paragraph 1(2)(f) of Schedule 5B of the 1992 Act because some of the shares of the same class issued on the same day were issued to convert loan notes and some were issued to satisfy a fee for the provision of a guarantee. 

45.	That conclusion means that the appeal must be dismissed but as arguments were put to me on the second issue I express my views.

Issue (2) – Did Mr and Mrs Moors receive value from the Appellant?
46.	The second issue is whether the shares issued to Mr and Mrs Moors were to be treated as never having been eligible shares within the meaning of paragraph 13(2)(b) or (c) of Schedule 5B.  

The legislation
47.	Paragraph 13 of Schedule 5B contains provisions which apply when value is received by an investor. Paragraph 13(1)(a) provides that, where an individual who subscribes for eligible shares in a company receives any value from the company on or before the date of the issue of the shares, the shares are to be treated as never having been eligible shares. The relevant parts of paragraph 13(2) provide:

“13(2)	For the purposes of this paragraph an individual receives value from the company if the company-
(a)	repays, redeems or repurchases any of the share capital or securities which belong to the individual or makes any payment to him for giving up his right to any of the company’s share capital or any security on its cancellation or extinguishment;
(b)	repays, in pursuance of any arrangements for or in connection with the acquisition of the shares, any debt owed to the individual other than a debt which was incurred by the company- 
(i)	on or after the date on which he subscribed for the shares; and
(ii)	otherwise than in consideration of the extinguishment of a debt incurred before that date.
(c)	makes to the individual any payment for giving up his right to any debt on its extinguishment; … 
(i)	makes any payment to the individual other than a qualifying payment.”

48.	The following provisions of paragraph 19 are also relevant to this issue 

“19(1)	For the purposes of this Schedule-
“arrangements” includes any scheme, agreement or understanding, whether or not legally enforceable; … .”

The arguments
49	For the Appellant Mr Ewart argued that it was necessary to ask whether there had been a repayment under paragraph 13(2)(b) or a payment under paragraph 13(2)(c). There had been no repayment under paragraph 13(2)((b) because the loan notes carried the right to convert into fully paid up ordinary shares and were converted into shares in accordance with that provision. At no stage was any debt repaid by the company or any payment made by the company to Mr and Mrs Moors for giving up any right. He cited Mosely v Koffyfontein Mines Limited [1904] 2 Ch 108 at 115 for the principle that, where debentures were surrendered and cancelled in return for shares, the surrender and cancellation were consideration in money’s worth for the shares. He distinguished Optos plc v Revenue and Customs Commissioners  [2006] STC (SCD) 687 which contained a general statement which was not consistent with Koffyfontein and in any event which applied where there had been no additional investment whereas in this appeal some shares had been issued to Mr and Mrs Moors in return for cash. Also, there had been no payment under paragraph 13(2)(c) because the Appellant had not made any payment to Mr and Mrs Moors; a company issuing shares did not make any payment and no value had come out of the company.    

50.	For the Revenue Mr Margolin argued that when the loan notes were issued the Appellant was indebted to the holders of the loan notes and when the loan notes had been converted into shares it was necessary to ask what had happened to the indebtedness. The loan notes in this appeal expressly provided that when, on a conversion, shares were issued and allotted that was in satisfaction of the principal monies (the debt) and that the debt was then cancelled. From that it followed that, on the conversion, there had been no surrender of the debt in consideration for the shares but that the shares had been paid for within the meaning of  paragraph 13(2)(b) by means of set-off or discharge of the indebtedness Also, it was first necessary to give the word “arrangements” the wide definition provided for in paragraph 19(1) and to bear in mind that the conversion of the loan notes into shares was a condition of the formal offer made by Mr and Mrs Moors on 18 September 2001. It followed that the repayment of the debt represented by the loan notes was part of an arrangement for or in connection with the acquisition of the shares and the indebtedness was repaid in pursuance of that arrangement. Mr Margolin distinguished Moseley v Koffyfontein where debentures had been issued at a discount with the right to immediate exchange for fully paid shares whereas in this appeal the loan notes were not immediately exchanged for shares. He preferred the analysis on Optos which had considered the actual terms of the loan notes and had concluded in [138] that the loan notes in that case had created a debtor obligation on the part of the company which was separate from the issue of the shares.

51.	Alternatively Mr Margolin argued that if, contrary to his primary argument, the correct interpretation was that the loan notes had been surrendered in return for the shares, then such surrender amounted to the giving up by each holder of a loan note of his right to a debt and the allotment of shares by the Appellant amounted to payment for the giving up of that right within the meaning of paragraph 13(2)(c). It was clear that the loan notes disappeared and the indebtedness ceased to exist on the allotment of the shares and so the allotment of the shares was payment within the meaning of paragraph 13(2)(c).The same arguments applied to the shares issued to Mr Moors as consideration for providing the bank guarantee; the shares were issued to Mr Moors in payment for giving up his right to the fee of £40,000. The context in which the guarantee was given was that the Appellant was unable to pay its invoices in cash and so effectively paid the fee to Mr Moors by the issue of shares; Mr Moors was entitled to his fee which was discharged and satisfied by the allotment of the shares. .    

Reasons for decision 
52.	In considering the arguments of the parties I begin with the legislation and start by considering paragraph 13(2)(b). Here it is necessary to ask whether the Appellant repaid, in pursuance of any arrangement for or in connection with the acquisition of the shares, any debt it owed to Mr and Mrs Moors. By virtue of paragraph 19(1), “arrangements” includes any scheme, agreement or understanding whether or not legally enforceable.  

53.	It is therefore necessary to consider the arrangements for the acquisition of the shares by Mr and Mrs Moors.  These were set out in the letter from the chairman of  the board of directors of the Appellant to all shareholders dated 14 September 2001.which said that the investment by Mr and Mrs Moors of £3 million for new ordinary shares in the Appellant was conditional on the conversion of all the loan notes into ordinary shares. Further arrangements were set out in the formal offer of 18 September 2001 which provided that one of the terms of the formal offer by Mr and Mrs Moors to purchase shares for cash was that the existing loan notes, which represented debt owed by the Appellant to Mr and Mrs Moors and others, should be converted to share capital. Those were arrangements for and in connection with the acquisition of the shares issued to Mr and Mrs Moors for cash and for the conversion of the loan notes. 

54.	It is then necessary to ask whether, in pursuance of those arrangements, the Appellant repaid any debt which it owed to Mr and Mrs Moors, in other words, was the debt, which had been incurred when the loan notes were issued, repaid by the Appellant? The loan notes provided that the debt would be repaid on 31 December 2005 for cash at par and accrued interest; however, a loan note holder had the option of converting the loan into shares at any time and the allotment of the shares was to be in satisfaction of the debt represented by the loan notes which would be cancelled. In my view, therefore, by converting the loan notes into shares the Appellant did repay a debt it owed to Mr and Mrs Moors.  

55.	Further arrangements were set out in the agreement by the Appellant to pay a fee to Mr Moors of £40,000 for providing the guarantee to the Bank, such fee to be satisfied by an issue of shares. That was an arrangement for and in connection with the issue to Mr Moors of the shares representing the fee.  Here, the fact is that the debt of £40,000 owed by the Appellant to Mr Moors was satisfied by the issue of shares.  To the extent of those shares, therefore, the Appellant also repaid a debt it owed to Mr Moors. 

56.	Before concluding my consideration of paragraph 13(2)(b) I consider the authorities to which I was referred. Moseley v Koffyfontein (1904) was decided within the context of proceedings by a shareholder for an injunction prohibiting the issue of shares at a discount. A company proposed to issue debentures at a discount of 20% with the right at any time to exchange the debentures for fully paid shares of the full nominal amount of the debentures. The Court of Appeal held that the proposed issue of debentures was void as it could be used as a means of issuing shares at a discount. Vaughan Williams LJ started with the principles that, although a shareholder was obliged to pay the full amount of his shares, that could be payment in money’s worth and, if that were done, the Court would not enquire into the adequacy of the consideration. However, the shareholder had to really pay for the shares and if the facts indicated that the consideration was illusory the shareholder had to pay the balance. In a normal case “the immediate consideration for the issue of shares to a debenture-holder demanding such allotment in exchange for, or in satisfaction of his debenture, is clearly the surrender of the debenture”. In that context he concluded that that would have been considered to be payment in money’s worth and the Court would not normally enquire into the adequacy of that consideration. However, in Moseley v Koffyfontein the bargain to issue the shares was part and parcel of the issue of the debentures at a discount and, if the exchange of the debentures for the shares occurred immediately after the issue of the debentures, the practical result would be that the shares were issued at a discount.  

57.	Moseley v Koffyfontein was decided well before the enactment of paragraph 13(2)(b) and did not concern its provisions. It was relied upon by Mr Ewart as authority for the general principle that an exchange of debentures for shares constituted a surrender of the debentures. From that he argued that the exchange in this appeal of the loan notes for shares constituted a surrender of the loan notes and that did not amount to payment for the purpose of paragraph 13(2)(b). However, the facts in Moseley v Koffyfontein were very different from the facts in this appeal and the legal issue decided by the Court of Appeal was also very different. Further, the part of the judgment of Vaughan Williams LJ in which the statement relied upon by Mr Ewart appeared was not part of the reasons for the decision but was part of the discussion of a case other than the facts of that appeal. What is relevant in this appeal is whether the Appellant repaid a debt owed to Mr and Mrs Moors. The meaning of the word “payment” can depend upon the context within which it is used and in Mellham Ltd v Burton the House of Lords held that tax had been paid when the liability had been discharged otherwise than by payment.  In my view the correct analysis of the conversion of the loan notes into shares within the context of paragraph 13(2)(b) was not that the loan notes were surrendered and cancelled in consideration in money’s worth for the shares but that by the conversion of the loan notes into shares the Appellant repaid the debt it owed to the holders of the loan notes. 

58..	Optos (2006) did concern the provisions of paragraph 13 of Schedule 5B. In that case the company raised finance by the issue of loan notes which were converted into ordinary shares one year later. One of the issues in the appeal was whether the investors received value from the company. The Special Commissioner held that they did because paragraph 13(2)(b) applied if there were a repayment of a debt “in pursuance of arrangements for or in connection with the acquisition of shares”. In that appeal the terms of the loan notes comprised arrangements whereby the company incurred a debt to the loan note holders and the shares would be issued if the debt was not repaid in cash. As the shares were issued as fully paid the full price for the shares must have been paid. Either this was done by setting off the debt on the loan notes against the amount which had to be paid for the shares or the consideration for the shares was the waiver by the holders of the loan notes of their rights to ask for repayment in cash. Either case amounted to a return of value within the meaning of paragraph 13(2)(b).

59.	The facts in Optos differed from the facts in this appeal but the conclusion is consistent with the conclusion I have reached in this appeal.

60.	On the subject of paragraph 13(2)(b), therefore, I conclude that, in pursuance of the arrangements for or in connection with the acquisition of the shares issued in return for cash and for the conversion of the loan notes, the Appellant repaid debts it owed to Mr and Mrs Moors. In pursuance of the arrangements for the acquisition of the shares issued in connection with the provision of the guarantee, the Appellant repaid a debt it owed to Mr Moors. That conclusion means that I do not need to consider the alternative arguments about paragraph 13(2)(c) but as arguments were put to me I very briefly express my views. 

61.	In considering paragraph 13(2)(c) it is necessary to ask whether the Appellant made to Mr and Mrs Moors any payment for giving up their right to any debt on its extinguishment. If I am wrong in my conclusion about paragraph 13(2)(b) then I would have concluded that, by issuing the shares for the conversion of the loan notes and for the provision of the guarantee, the Appellant had, in effect, made a payment to Mr and Mrs Moors for giving up their rights to the debts represented by the loan notes and the fee for the guarantee. 

Conclusion
62.	My conclusion on the second issue is that the shares issued to Mr and Mrs Moors were to be treated as never having been eligible shares within the meaning of  paragraph 13(2)(b) of Schedule 5B because Mr and Mrs Moors had received value from the Appellant who had repaid the debt owed the Mr and Mrs Moors which was represented by the loan notes and who had repaid the debt owed in respect of the fee for the guarantee. .   

Decision
63.	My decision on the issues for determination in the appeal are:

(1)	that all the shares comprised in the issue of shares by the Appellant were not issued to raise money for the purpose of a qualifying business activity within the meaning of  paragraph 1(2)(f) of Schedule 5B of the 1992 Act.; that means that the appeal must be dismissed but as arguments were put on the second issue I express my views which are .

(2)	that the shares issued to Mr and Mrs Moors were to be treated as never having been eligible shares within the  meaning of  paragraph 13 of Schedule 5B because Mr and Mrs Moors had received value from the Appellant. .  

64.	The appeal is therefore dismissed.

DR NUALA BRICE

SPECIAL COMMISSIONER

RELEASE DATE: 17 July 2008

SC 3037/2007
15.07.08