Rangers Case - The Aftermath
The Supreme Court held that payments into an employees’ remuneration trust were taxable earnings.
The legal issue
In Rangers appeal, there was no suggestion that any part of the transaction, which comprised the tax avoidance scheme, was a sham. The Lords agreed with the findings of the First Tier Tribunal that the loans were valid and were not shams, they had genuine legal and economic consequences.
The central issue in this appeal was whether it is necessary that the employee himself or herself should receive, or at least be entitled to receive, the remuneration for his or her work in order for that reward to amount to taxable emoluments.
The tax legislation
Since 1989, emoluments have been taxed on a receipts basis: “the full amount of the emoluments received in the year in respect of the office or employment concerned”. Emoluments were treated as received the earlier of (a) “the time when payment is made of or on account of the emoluments” or (b) “the time when a person becomes entitled to payment of or on account of the emoluments”.
This legislation was replaced by the Income Tax (Earnings and Pensions) Act 2003 (“ITEPA”). Section 6 of that Act imposes a tax on employment income, which so far as relevant is on “general earnings”.
The Lords held that, if an employee enters into a contract with an employer which provide that he will receive a salary of £X and that as part of his remuneration the employer will also pay £Y to a third party, there is no statutory purpose for taxing the former but not the latter. The Court read “payment to an employee” or essentially similar phrases in the subordinate legislation as a reference to the payment of the employee’s emoluments whether to the employee or to another person.
As a general rule, therefore, the charge to tax on employment income extends to money that the employee is entitled to have paid as his or her remuneration whether it is paid to the employee or a third party.
The legislation does not require that the employee receive the money; a third party, including a trustee, may receive it. While that is a general rule, not every payment by an employer to a third party falls within the tax charge.
Those circumstances include:
(i) the taxation of perquisites, at least since the enactment of ITEPA;
(ii) where the employer uses the money to give a benefit in kind which is not earnings or emoluments; and
(iii) an arrangement by which the employer’s payment does not give the intended recipient an immediate vested beneficial interest but only a contingent interest.
The Judgment
HMRC succeeded in its appeal on the basis that income, which is derived from an employee’s work, is an emolument or earnings, and that it is assessable to income tax, even if the employee requests or agrees that it be redirected to a third party. The Inner House held that the scheme, which involved payments into the Principal Trust and the application of the funds through the sub-trusts, amounted to a redirection of the employee’s earnings and did not remove the employer’s liability to pay income tax under the PAYE system. It held that the redirection occurred when the employing company paid the sums to the Principal Trust; the fact that the employee took the risk that the trustee would not apply the funds as he requested was irrelevant. The payments by the employing company into the Principal Trust were derived from the employee’s work as an employee and so were emoluments or earnings.
Andrew Thornhill QC submitted that the Inner House erred in applying what it called “the redirection principle” in the circumstances of this case. In essence, he asserted that it is not sufficient that the payment of money arises from the performance of the duties of an employment. The payment of money so arising to a third party does not amount to the payment of earnings or emoluments unless the employee already has a legal right to receive the payment and it is paid at his direction to a third party. He submitted that the employing companies did not incur liability to pay income tax or NICs because the employees of the Murray group companies never had a right to receive the sums which were paid into the trust mechanism. An employee received only a loan from the trustee of the relevant sub-trust and that loan did not fall within the PAYE system.
The aftermath effect
1) The interpretation of tax legislation
Rangers reaffirmed the more recent judicial development in the interpretation of taxing statutes. There is a definitive move from a generally literalist interpretation to a more purposive approach. That is to have regard to the purpose of a particular provision and interpret its language, so far as possible, in a way which best gives effect to that purpose. In the past, the courts had interpreted taxing statutes in a literalist and formalistic way when applying the legislation to a composite scheme by treating every transaction which had an individual legal identity as having its own tax consequences.
2) Reversing previous decisions
The Supreme Court held that in both Sempra Metals [2008] and Dextra [2012] the Special Commissioners have been wrong to hold that ‘on payments to the trusts, no transfer of cash or its equivalent was placed unreservedly at the disposal of the employees’.
3) Double taxation
The Lords clarified the issue with ITEPA Part 7A and the feared potential double taxation – once the funds have been transferred to the trust and second when paid to the employee. The Lords noted that the tax code is not a seamless garment, but a patchwork of provisions. As a result provisions imposing specific tax charges do not necessarily militate against the existence of a more general charge to tax which may have priority over and supersede or qualify the specific charge. In Rangers context, Disguised Remuneration ITEPA Part 7A was to be disregarded being a very specific tax avoidance legislation, which should not supersede or operate in conjunction with general income tax provisions.
4) Material facts
The Court drew out two main factual findings, namely that (1) it was clear from the documents presented to the Court that the sums paid to the Principal Trust and to the sub-trusts represented remuneration for employment; and (2) once the funds were transferred in the sub-trust they were placed unreservedly at the disposal of the employees. Arguably, if the factual context does not comprise of these two elements, one can anticipate that other taxpayers may seek to argue that their own circumstances are out of Rangers’ scope.
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