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	England and Wales Court of Appeal (Civil Division) Decisions
You are here: BAILII >> Databases >> England and Wales Court of Appeal (Civil Division) Decisions >> HM Revenue and Customs v PA Holdings Ltd [2011] EWCA Civ 1414 (30 November 2011) URL: http://www.bailii.org/ew/cases/EWCA/Civ/2011/1414.html Cite as: [2012] STC 582, [2011] EWCA Civ 1414, [2011] STI 3268, [2011] BTC 705, 82 TC 1

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IN THE COURT OF APPEAL (CIVIL DIVISION)
ON APPEAL FROM THE UPPER TRIBUNAL (TAX AND CHANCERY)
Mr Justice Roth and Judge Charles Hellier
FTC/08/2009 AND FTC11/2009

		Royal Courts of Justice Strand, London, WC2A 2LL
		30/11/2011

Lord Justice Moses :

1. PA Holdings Ltd (PA) wished to pay their employees discretionary annual bonuses. It adopted arrangements whereby the employees who would have been paid bonuses were awarded shares and received dividends. The effect, so PA contends, is that the cash the employees received as dividend income is subject to the Schedule F rates and not to the basic or higher rates. Additionally, it contends, there is no liability to make National Insurance contributions (NICs) in respect of these payments.
2. Both the First Tier Tribunal and the Upper Tribunal were agreed that the income the employees received was from their employment. But both also agreed that, because that income was received in the form of dividends, the provisions of Schedule F and Section 20(2) of the Income and Corporation Taxes Act 1988 (ICTA) dictated the conclusion that the income had to be taxed as dividends or distributions under Schedule F and could not be charged as emoluments under Schedule E. Since there was no equivalent to Section 20(2) in the Social Security Contributions and Benefits Act 1992 (SSCBA), the finding that the income was from employment meant that the payments were "earnings" for the purposes of the SSCBA and thus liable to NICs.
3. HMRC (the Revenue) appeal against the decision of the Upper Tribunal, contending that the dividends were in reality bonuses and liable to be taxed under Schedule E; Schedule F and Section 20(2) do not apply. PA contends, as an additional ground for upholding the decision, that the dividend income was not from employment. PA also appeals against the decision that the payments received in the form of dividends were "earnings" for the purposes of SSCBA on the same basis: that the income was not from employment.

The Facts

4. The facts found by the First Tier Tribunal are of crucial importance. These are the facts which must be subjected to what the courts have described as realistic appraisal (see e.g. Tower MCashback LLP1 v Revenue and Customs Comrs [2011] 2 WLR 1131, [2011] UKSC 19 [80]). They are set out between [13] and [41] of the First Tier Tribunal and summarised by the Upper Tribunal between [4] and [17].
5. PA was an international group company, resident in the United Kingdom, with subsidiaries and branches in over twenty countries; it offered consultancy services. It was an employee-owned service company with employees resident in many parts of the world.
6. PA had a well-publicised policy to pay its staff median salaries and then to award them generous bonuses from profits by individual annual awards. Each year it paid a substantial proportion of its profits into employee trusts out of which awards were made to employees under discretionary bonus schemes. Employees had no contractual entitlement to bonuses but, as the First Tier Tribunal noted, the 1999 Report and Accounts, the main audience for which was PA's employees/shareholders, included provisions for bonuses on the basis that the employees as employees had a valid expectation before the end of the relevant financial year that PA would meet its responsibility to pay bonuses (see paragraphs 35 and 36 of the First Tier Tribunal's decision). The bonuses were designed to reflect an employee's efforts, the achievements of the section of PA in which that employee worked and profitability as a whole.
7. An Employee Benefit Trust was established for PA in 1995. A share (described by the First Tier Tribunal at [38] as "the usual share") of PA's profits for 1998 and immediate previous years was paid into the 1995 ET. The trustees awarded benefits according to rules to employees working in all sectors of the company. Those awarded bonuses for 1998 received them in March 1999 and, where appropriate, those bonuses were subject to deduction of income tax under PAYE and to payments of NI contributions. This approach continued even after the establishment of different arrangements for the payment of bonuses after 1999.
8. In 1999 Ernst & Young proposed an arrangement to re-route bonuses so that they were paid as dividends from a United Kingdom resident company and were taxed as distributions. Ernst & Young's proposal was modified, so as to bring in an independent trustee, Mourant, of PA's own choosing. The overall effect of the scheme was that any employee who chose to do so received 99p in dividends and 1p in share redemption proceeds, rather than receiving a bonus of £1.
9. On 16 December 1999 PA, as settlor, and Mourant, executed a deed establishing the "PA Holdings Limited 1999 Employee Trust" (the 1999 ET). The Trust stated in the recitals that its purpose was "to motivate and encourage employees in the performance of their duties by the provision of bonus incentives and other awards at the discretion of the trustees". In December 1999 PA paid £24,600,050 to Mourant for payment into the 1999 ET from PA's income for 1999. This was described in the 1999 Report and Accounts as "staff costs".
10. On 27 January 2000 Mourant adopted the "restricted share plan" which empowered Mourant to grant awards to eligible employees over such number of shares in the capital of a Jersey company, Ellastone Limited, a company established by Mourant with its shares issued to nominees of Mourant. Under the rules of the plan, any eligible employee granted "an award" received a beneficial interest in shares and an award certificate indicating the number of shares he had been awarded. The rules required Mourant to pay all dividends or distribution accruing to those shares to the employee. The shares were to be transferred to the employee at the end of a defined, restricted period.
11. PA, at Mourant's request, calculated bonus awards for all employees for 1999 in early 2000 using a set formula in the same way as adopted in the previous year. Mourant was found to have questioned PA about the proposals and to have given separate and detailed consideration to them, changing some.
12. At the same time PA employees were notified about "exciting proposed changes to the delivery of current bonus awards". Those who were resident and ordinarily resident in the United Kingdom were invited to choose between receiving a bonus for 1999 from the 1995 ET or from the 1999 ET. The few who did not choose to use the 1999 ET remained entitled under the 1995 ET.
13. On 4 February 2000 Mourant transferred to Ellastone almost all of the funds paid by PA into the 1999 ET to Ellastone as a capital contribution. On 16 February 2000 Mourant subscribed for and were allotted 24 million 1p redeemable preference shares in Ellastone. Mourant established a nominee company, Juris Limited, resident and registered in Jersey, with the same postal and electronic addresses as Mourant. Mourant directed that the restricted preference shares be held by Juris as its nominee and they were registered to Juris on 16 February 2000.
14. On 13 March 2000 Mourant granted awards in accordance with the restricted share plan over restricted preference shares in Ellastone to a list of PA employees based largely, but not entirely, on PA's information. Not all employees received an award. The resolution granting the awards stated that it was done in order to "enhance and retain their goodwill as employees of PA".
15. On 23 March 2000, Mourant, as Trustee of the 1999 ET, directed Juris to hold the shares as nominee for the individuals who have beneficial ownership of the shares. The shares were to be held absolutely to the order of the Trustee and not of the individual.
16. On 24 March 2000 the Ellastone directors, all of whom were senior staff of PA, declared a 99p dividend for each 1p share funded from the capital contributed to Ellastone by the 1999 ET. The total dividend was paid to Juris as registered owner on 28 April 2000.
17. Employees were sent an award certificate on the same day if they had been awarded a beneficial interest in the shares. The recipients were asked to notify details of their bank accounts for direct payment of dividends.
18. On 25 April 2000 Mourant gave authority to authorised signatories of Juris to transfer the dividend payments to the award holders. The payments were subject to an agreed deduction of 25%. The gross amounts reflected the size of the awards of the beneficial interests in the shares. Juris paid payments to the employees directly to their bank accounts using details previously provided by the employees. Sometime later, on 19 November 2000, Ellastone redeemed the 1p shares and appointed Mourant as its agent for the purposes of the redemption. Mourant gave instructions to Juris which paid the redemption to the individuals identified for the purposes of the award of shares.
19. Under the terms of the restricted share plan, if an employee had left employment before the payment of the dividend or share redemption proceeds, he would have forfeit his right to the shares and therefore have no entitlement to the distributions.
20. These arrangements were repeated for 2000 and 2001, although a glitch required retrospective correction by action in the Royal Court of Jersey.
21. I should record that the First Tier Tribunal found that both Mourant and the directors of Ellastone had performed their fiduciary duties properly and had genuinely exercised its discretion in each of the three years in which the exercise was performed. It had considered the suggestions as to those who should be granted an award of shares by PA in the exercise of its powers to award the benefits under the 1999 ET. Ellastone was under no obligation to pay a dividend even though the beneficiaries expected that such a dividend would be paid. The payments were made by:

"proper procedures by Ellastone as dividends through the nominee Juris to the award holders in the form of dividends to the beneficial owners of the shares." ([84] First Tier Tribunal)

22. But we should also repeat that the awards were designed, as the 1999 ET explained, to motivate and encourage employees in the performance of their duties by the provision of bonus incentives and other awards. Further, the 1999 Report and Accounts, as the First Tier Tribunal emphasised, reveal the objective of PA behind the arrangements, namely:-

"to benefit those individuals as employees rather than as shareholders." ([37] of the First Tier Tribunal decision)

In reaching that view, the First Tier Tribunal noted that as a consequence of the structure of PA, if it wished to benefit its staff as shareholders rather than employees, it had the option of paying a dividend on PA's shares rather than designating funds as employee costs before arriving at its gross profits [37].

The First Tier Tribunal and the Upper Tribunal

23. On the basis of those facts the First Tier Tribunal concluded that the cash received by the employees was a profit arising from the employment because it was made in reference to the services the employee rendered by virtue of his office and was something in the nature of a reward for past, present or future services (the test applied by Upjohn J in Hochstrasser v Mayes [1959] Ch 22 at 33 [71]). The First Tier Tribunal also concluded that if it viewed the transactions realistically and applied the relevant statutory provisions construed purposively to those transactions, it reached the same result. First, it relied upon the fact that if any employee left employment it ceased to be eligible under the 1999 ET, even if that employee left after the close of the financial year and after PA had handed over funds to Mourant. This was designed to keep employees at PA. Second, it relied on the fact that PA had gone out of its way to "sell" the arrangements to employees. The arrangements, the First Tier Tribunal found, were inherently part of the process of motivating and awarding employees, of which the presentations were themselves part [70]. In those circumstances the First Tier Tribunal found that the payments received by the employees were emoluments. But they then continued by concluding they were also dividends or distributions within the scope of Schedule F. Accordingly they applied Section 20(2) of ICTA since they thought both Schedule E and Schedule F were relevant. Section 20(2) required the cash received by the employees to be taxed under Schedule F as dividends and not under Schedule E as emoluments [86] and [89]. However, absent any equivalent provision in SSCBA, since they were emoluments, they were earnings for the purposes of the SSCBA 1992 and were liable to NICs.
24. The Upper Tribunal adopted the same approach and reached the same conclusion. They concluded that the dividends fell within the meaning of dividend or distribution under Section 209 of ICTA and that the inevitable consequence was that they were chargeable under Schedule F and not under Schedule E by virtue of the operation of Section 20(2) of ICTA. They too agreed that the dividends were remuneration derived from employment for the purposes of the SSCBA.
25. The instant appeals, therefore, raise the question whether the First Tier Tribunal and Upper Tribunal were correct in deciding that the cash received by the employees was both from employment, for the purposes of Schedule E and also dividends or distributions for the purposes of Schedule F. Once that conclusion had been reached, were the First Tier Tribunal and Upper Tribunal correct in their construction of s.20(2), namely, that that subsection gave priority to Schedule F over Schedule E and required the income of the employees to be taxed under Schedule F as dividends or distributions and not under Schedule E as emoluments from employment?

The Statutory Scheme

26. The essential task in these appeals is to identify the source of the dividend income received by PA's employees in the relevant years. It is the source of those income receipts which determines the rules and rates appropriate for taxing those receipts. The statutory scheme applicable to the years 1999-2001 (now radically altered by the introduction of the Tax Law Rewrite) contained in Part 1 a congeries of preliminary sections designed to prescribe the appropriate method of taxation by reference to the source of the income. Different Schedules, with their own rules, are applied according to the source of the income.
27. Section 1 of ICTA 1988 introduces Schedules A, D, E and F, set out in ss.15-20 of ICTA. Those Schedules, generally, classify the property, profits or gains to be brought into charge for income tax purposes by reference to the source or character of the income in the hands of the recipient. (I have qualified that proposition to allow for Cases III and VI under Schedule D, a residual Schedule, where classification by source is not so apparent). The source of the income to be charged under Schedule E is identified in s.19:-

"(1) The Schedule referred to as schedule E is as follows-

SCHEDULE E

1. Tax under this Schedule shall be charged in respect of any office or employment on emoluments therefrom under one or more of the following Cases- "

The source of the income to be charged under Schedule F is identified in section 20:

SCHEDULE F

"(1) Subject to section [95(1A)(a)], income tax under this Schedule shall be chargeable for any year of assessment in respect of all dividends and other distributions in that year of a company resident in the United Kingdom which are not specially excluded from income tax, and for the purposes of income tax all such distributions shall be regarded as income however they fall to be dealt with in the hands of the recipient.

(2) Except as provided by [section 171 of the Finance Act 1993] [or section 219 of the Finance act 1994] (underwriters) no distribution which is chargeable under Schedule F shall be chargeable under any provision of the Income Tax Acts."

"209 Meaning of "distribution"

(2) In the corporation Tax Acts "distribution", in relation to any company, means –

(a) any dividend paid by the company, including a capital dividend;

(b) subject to subsections (50) and (6) below, any other distribution out of assets of the company (whether in cash or otherwise) in respect of shares in the company, except so much of the distribution, if any, as represents repayment of capital on the shares or is, when it is made, equal in amount or value to any new consideration received by the company for the distribution;"

28. Guidance as to the purpose of these sections has been definitively expressed in Fry v Salisbury House Estate Ltd [1930] AC 432. A property company asserted that it should be taxed under Schedule A in respect of the rents it received from the offices it let. The Revenue sought to charge those rents under schedule D as receipts of its trade. The fundamental propositions to be derived from the speeches are that:-

i. income tax is only one tax, and the different Schedules do no more than to provide the method of computation charge and assessment peculiar to the Schedule to which the income is allocated;

ii. the Schedules are mutually exclusive, each Schedule is dominant over its own subject matter and provides a complete code for the class of income which falls within that Schedule;

iii. the same source of income cannot be taxed twice.

29. These principles are so important to resolution of these appeals that it is necessary to cite those parts of the speeches from which they are derived:-

Viscount Dunedin:

"Now, the cardinal consideration in my judgment is that the income tax is only one tax, a tax on the income of the person whom it is sought to assess, and that the different schedules are the modes in which the statute directs this to be levied. In other words, there are not five taxes which you might call income tax A,B,C,D and E, but only one tax. That tax is to be levied on the income of the individual whom it is proposed to assess, but then you have to consider the nature, the constituent parts, of his income to see which Schedule you are to apply" .(439 and see 441)"

Lord Atkin:

"Schedule D.

The said last-mentioned duties shall extend to every description of property or profits which shall not be contained in either of the said Schedules (A.), (B.) , or (C.) and to every description of employment of profit not contained in Schedule E.

My Lords, nothing could be clearer to indicate that the schedules are mutually exclusive; that the specific income must be assessed under the specific schedule; and that D is a residual Schedule…

Moreover, the dominance of each Schedule A, B, C and E over its own subject-matter is confirmed by reference to the sections and rules which respectively regulate them in the Act of 1842 (455)"

Lord Tomlin:

"The subject-matter - namely, land in respect of its property quality - being necessarily taxed under schedule A cannot be brought again under any other schedule. To do so would offend the rule against double taxation…

I am therefore of the opinion that as between Schedule A and other Schedules the revenue authority has no option to select the Schedule to be applied" (463)

"Once it is determined that the annual value of all lands and houses must be assessed to income tax under schedule A it follows that this annual value cannot be assessed to income tax under any other Schedule, for it is elementary that the same source of income cannot be taxed twice" (467, my emphasis)

30. By applying those principles, the rental income of the property company, Salisbury House Estates Limited, fell to be taxed exclusively under Schedule A. It can be seen that the exercise on which their lordships were engaged was to identify the real source from which the company's income was derived. Once that source had been identified as property, it was not possible to bring that income under any Schedule other than the Schedule appropriate to the source, Schedule A.
31. The principles deployed in Fry remained good notwithstanding the deletion and addition of some of the Schedules (in particular Schedule F). In the instant appeal, if the income received by the employees was, as the First Tier Tribunal concluded, derived from their employment it might be expected, in accordance with those principles, that it should be charged under Schedule E and not under any other Schedule. These principles are fundamental to these appeals: was it open to the First Tier Tribunal and Upper Tribunal to conclude that the payments fell to be charged under both Schedule E and Schedule F? Did Section 20(2) resolve the apparent conflict between those Schedules? Those questions cannot be answered without consideration of the prior issue raised by PA in its cross-appeal, whether the First Tier Tribunal was correct to identify the source of the income received by employees, by virtue of the arrangements introduced in 1999, as their employment.

Emoluments

32. PA Holdings contends that the source of payments transferred by Juris to the persons beneficially entitled to them was their beneficial interest in the shares. The shares, and not the dividends, were emoluments and exempt from charge by virtue of Section 140A ICTA. Section 140A(3) exempts from tax chargeable under Schedule E an employee's acquisition of a conditional interest in shares (provided that the employee's interest ceases to be conditional within five years from acquisition). The source of the dividends received by the employees was the shares and they received them in their capacity as shareholders and not as employees.
33. No one can doubt but that there are circumstances in which employees may be awarded shares as an incentive or reward and that those employees may subsequently receive dividends or distributions in respect of their shareholding, the source of which may properly be identified as the shares and not their employment. The employees, in such a case, receive those payments in their capacity as shareholder or investor and not as employee. When employees were granted options to acquire shares in their employer and exercised those options, they profited by the increased difference between the option price and the market price when they exercised their options. The profit accrued to the employees as holders of their options and not as employees; it was derived from the option and not from employment (Abbot v Philbin [1961] AC 352).
34. But it is not in every case that an employee who is awarded shares and receives dividends can escape the conclusion that the dividends are remuneration and not investment income. In White v Franklin [1965] 1 WLR 492, the dividends the managing director received, by virtue of an entitlement under a trust so long as he remained engaged in management of the company, were earned income. How then is the distinction to be made between the receipt of payments in the form of dividends as employee and the receipt of dividends as shareholder? What determines the character of the income in the hands of the recipient? What determines the capacity in which the recipient receives such income? The answer lies not in the adminstration of some post-Ramsay prophylactic against tax avoidance but in the methods which the courts have long been accustomed to deploy whenever it is necessary to decide whether income is from employment and should thus be charged under Schedule E.
35. The conventional approach of the courts is to look at all the circumstances of the case in order to answer the one statutory question, namely whether the income receipts of the employee are emoluments or profits from employment (see Russell LJ in Brumby v Milner 1976 51 TC 583 at 607G). In that case a trust fund established to acquire shares in a family company for the purpose of distributing dividends to employees as a reward and incentive was wound up and the proceeds distributed to employees. Walton J had suggested that it might only be permissible to consider the terms of the trust deed to determine whether the proceeds were from employment. Russell LJ rejected that approach :-

"It is common ground that in every case the question (was the payment in return for acting as or being an employee) must be answered having regard to all the circumstances which are connected with and precede the receipt in question " (608D).

36. It is true that over the years judges have indulged in what Lord Simon described as judicial glosses on the statutory words (612 F), and after he had deprecated outmoded and ambiguous concepts of causation (613D), the distinction between a causa sine qua non and a causa causans (adopted in Hochstrasser v Mayes [1960] A.C.376) fell into disuse until Mr Brandon QC attempted to revive it in the instant appeal. There is no need for judicial gloss in this appeal. The correct approach is to consider all the facts relevant to the receipt of the income.
37. This requires the court not to be restricted to the legal form of the source of the payment but to focus on the character of the receipt in the hands of the recipient. In Dale v IRC [1954] AC 11 payments to trustees, which a testator had directed should be paid from a charitable trust for their work as trustees, were held to be earned income. The Revenue had contended that they were investment income because it was repugnant to the nature of trusteeship that they should receive a profit from the performance of their duties as trustees. Lord Normand explained:-

"I think there is confusion here between the source of the payment, which is the testator's bounty as expressed in his will, and the quality of the payment as earned or not earned. There need be no incompatibility in saying that the income is the conditional gift of the testator but that it has to be earned by compliance with the testator's condition of serving as a trustee.

I would observe more generally that the question whether income is earned or not is a question which arises between the trustee and the Inland Revenue, and it has no relation either to the legal duty which a trustee owes to the trust and the beneficiaries, or to the legal conception that such a payment as that under consideration derives from a testator and can be regarded as a legacy. The source of the sum and its character as a receipt in the hands of the trustee are two separate and unconnected things" (27-28) (my emphasis)

38. Nor should one forget, now that questions of causation are not to be cloaked in the obscurity of a classical tongue, that Viscount Simonds advocated the same approach as Lord Normand in Hochstrasser v Mayes [1959] 38 TC 673 at 706:

"The question is one of substance and not form."

39. It seems to me that that approach, followed, for example in White v Franklin (q.v.supra 514), provides the answer to the essential question as to the character of the receipts in the hands of PA's employees. The court should not be seduced by the form in which the payments (that is as dividends declared in respect of the shares in Ellastone) reached the employees. It should focus on the character of the receipt in the hands of the recipients.
40. This was the approach of the First Tier Tribunal in the instant case. The First Tier Tribunal asked whether the payments were in reference to the services rendered by the employees, as rewards for services past, present or future (Upjohn J's test in Hochstrasser v Mayes [1959] Ch 22 at 33) and concluded the payments were emoluments or earnings falling within the definition in section 19 ICTA [73]. It relied on a number of features which demonstrated the character of the receipts:-

i) The purchase of the shares in Ellastone was funded in full by PA, the employer, the dividends and full value of the shares were transferred at no cost to the employees; [68]

ii) The intention was to motivate and encourage the employees, and payment was represented to them as payment of the bonus for that year; [ 69] and [70]

iii) Those who left, even after PA had funded funds to Mourant were not eligible; [70]

iv) That the employees had no right to the payments was irrelevant. [72]

41. It does not seem to me possible either to impugn the approach of the First Tier Tribunal in law, still less to challenge those findings of fact. That approach owes nothing and need owe nothing to "the law's development, during the past thirty years, in its attitude to artificial tax avoidance" (Tower MCashback v HMRC [2011] 2 WLR 1131 at 1148, [2011] UKSC 19). For at least sixty years courts have identified the character of a receipt in the hands of the recipient by looking at its substance and not its form.
42. It is that approach which enables a distinction to be drawn between Abbott v Philbin and White v Franklin. In Abbott v Philbin, a realistic appraisal of the facts led to the conclusion that the benefit which arose as a result of the exercise of the option accrued through what Lord Radcliffe (at 369) described as the "judicious exercise" of the holder's option rights. It accrued to him in his capacity as option holder exercising his discretion as to the best time to exercise his rights having regard to the increase in value of the shares, an increase due to what Viscount Simonds described as "the adventitious prosperity of the company in later years" (367) (that it was exercised less than two years after acquisition of the option was neither here nor there).
43. The facts of this case are miles away from the circumstances in Abbott v Philbin. The payments received by the employees owed nothing to fluctuations or increases in the value of shares in Ellastone and everything to the amount which PA had decided to award as bonuses to its employees. Whilst it is true that the Mourant trustees exercised a discretion in the sense of independently questioning who should be recipients, the quantum of that which the employees received was entirely dictated by the amount PA decided to award as bonuses. The receipts were triggered by PA's decision to continue its policy of making bonus payments and to fund the 1999 Trust and arrived in the hands of employees, as they were intended to do, as bonuses.
44. That conclusion, which depends upon the factual conclusions and reasoning of the First Tier Tribunal and their endorsement by the Upper Tribunal, leads inevitably to rejection of PA's appeal in relation to liability to make NICs under SSCBA. The conclusions are sufficient to dispose of the question whether the receipts were "earnings" paid to an "earner". The employees were earners since they were gainfully employed in Great Britain under a contract of service with emoluments chargeable to income tax under Schedule E (section 2 SSCBA). The receipts were, for the reasons given by the First Tier Tribunal, earnings which, by section 3(1) included any remuneration or profit from employment.
45. The process which started with the decision of PA to pay bonuses and the eventual receipt of those bonuses in accordance with that policy, but in the form of dividends, excites the Revenue to invoke the Ramsay principle (WT Ramsay Ltd v IRC [1982] AC 300) and cloak the transactions in familiar terms of fiscal abuse ("composite" or "pre-ordained"). For the reasons I have given, it is not necessary to do so in order to reach the conclusion that the receipts were emoluments in the hands of the employees. But the Revenue is concerned to deploy the Ramsay principle because the First Tier Tribunal and Upper Tribunal classified the receipts both as emoluments and dividends, and construed section 20(2) as requiring them to be charged under Schedule F and not Schedule E.

Section 20: the Approach of the First Tier Tribunal and Upper Tribunal

46. Dividends within the meaning of section 20(1) are not defined. A dividend is a payment-out of a part of the profits for a period in respect of a share in a company (the definition in Esso Petroleum Co Limited v Ministry of Defence (1990) 62 TC 253 at 255-6 and Memec plc v CIR (1998) 71 TC 77). Both the First Tier Tribunal [77]-[79] and, in a more comprehensive statutory analysis, the Upper Tribunal [59]-[67], concluded that the payments fell within the provisions of section 20 and accordingly fell to be charged under Schedule F.
47. There can be no dispute but that the statutory provisions as to the meaning of "distribution" are of broad scope. As Mr Brandon QC pointed out, there have been many occasions when it would have been more fruitful for the Revenue to have charged as income under Schedule F rather than as earnings under Schedule E. The Upper Tribunal rightly recognised that the provisions in section 209 are:

"written widely to catch the products of human ingenuity designed to avoid a transaction being the payment of a dividend". [66]

48. The Upper Tribunal focussed on two features of section 209(2). The first characteristic, emerging from the statutory reference to "any other distribution out of assets of the company (whether in cash or otherwise)" is that in making the distribution, a company incurs cost or passes value. The Upper Tribunal made that proposition good by reference to section 209(2)(a),(b),(c) and (d), s.254(6) and 254(9). I am content to adopt the references they identified in [60].
49. The Upper Tribunal asked itself two questions: first, whether the funds transferred to Ellastone by the independent trustees, Mourant, on 4 February belonged beneficially to Ellastone and second, whether by their payments, via Juris, to PA's employees, Ellastone incurred costs or passed value. If it is correct to ask both those questions then the answers are inevitably 'yes'. By asking those two questions, the Upper Tribunal was driven inexorably to the conclusion that Ellastone incurred a cost or passed value in making the payments. [64]
50. The second characteristic is that the distribution is "in respect of shares in the company". Again I am happy to adopt the references to s.209(2)(a),(b),(c),(d),(da) and(e) and the extended meaning given in section 254(2) and (12) which the Upper Tribunal identified in [61].
51. The Upper Tribunal declined to draw any distinction between shares with substantial rights and those, like the shares in Ellastone with, as Mr Gammie described them, "very thin rights", particularly in circumstances where other sections in ICTA sections draw such a distinction but section 209 does not [67]. It applied Lord Hoffmann's distinction between a broad and narrow approach to fiscal legislation in Carreras Group Ltd v Stamp Commissioner [2004] UP 16 [8], [2004] STC 1377 and concluded that the wide definition of distribution precluded consideration of transactions other than the payment of the dividend. In that case the issue of a debenture in exchange for shares (said to fall within the statutory description of an exempt share re-organisation) had to be viewed in the wider context of the terms of the debenture (no security, no interest) and its redemption in as short a time as was considered 'decent'. In contrast, S.209 was widely drawn so as to prevent avoidance by enlarging the scope of the charge under Schedule F. In such circumstances, it caught anything "which can formally be said to be a share or security" [66] and [67].
52. Having concluded that the distributions fell within the meaning of s.20 (1), the Upper Tribunal held that s.20(2) had the effect that they were chargeable under Schedule F and not under Schedule E. It endorsed the view of the First Tier Tribunal, that since, as a matter of fact, the payments were made by Ellastone following procedures appropriate for the payment of dividends, they were to be regarded as dividends (First Tier Tribunal [84]). Once that conclusion had been reached, s.20 (2) had the effect that Schedule F must prevail over Schedule E. (First Tier Tribunal [89], Upper Tribunal [68])
53. This approach rests, in essence, upon the view that section 20(1) precludes consideration of the payments of the dividend in the wider context of the decision to make bonus payments to PA's employees through the medium of the 1999 ET. S.20(1) asks a simple statutory question, whether the payments fall within the wide meaning of dividend or distribution. Once it is concluded that they do, that is an end of the enquiry:

"there is nothing in that provision (section 20(1)) which suggests that no enquiry is permitted into whether or not something is a distribution if that something is part of a composite transaction designed to deliver employment income or indeed any other form of income or benefit. For example, a composite transaction might be one which takes place in the course of a trade with no motive other than to make a profit : the language of section 20(1) does not suggest that if the resulting composite trading profit would be assessable under Schedule D, it is not to be assessed under this provision….It seems to us that the plain purpose of the section is to require a consideration of whether or not a dividend has been paid or a distribution made and, if it has been, to tax it." [57]

54. The Upper Tribunal focussed on the construction of the statutory provisions in section 20 and the related provisions, in the main to be found in section 209. They were, respectfully, correct to base their conclusions on issues of statutory construction, in obedience to the principle that "the paramount question always is one of interpretation of the particular statutory provision and its application to the facts of the case" (MacNiven v Westmoreland Investments Ltd [2001] UKHL 6 [8], [2003] 1 AC 311). In Barclays Mercantile Business Finance Limited v Mawson [2004] UKHL 51 [2005] 1 AC 684, Lord Nicholls again emphasised the need to focus on the particular statutory provision and identify its requirements before concluding that inserted tax avoidance steps were irrelevant [38]. The issue of statutory construction is to determine whether the statutory provision in question is concerned with the character of a particular act rather than the character of the entirety of transactions which have a commercial unity (see Lord Hoffmann's reference to MacNiven v Westmoreland Investments Ltd, in Carreras [8]).
55. Examples of statutory provisions concerned only with the character of a particular transaction are to be found in MacNiven, Barclays Mercantile and in Tower MCashback. MacNiven was concerned with the question whether the taxpayers had paid interest within the meaning of section 338 ICTA, so that such payments were deductible from profits. That section had a normal legal meaning, connoting satisfaction of an obligation to pay: the taxpayers' obligation to pay was satisfied [14]. The transaction came within the meaning of the legal concept of payment. That the circularity of the cash flow and the transaction took place for tax avoidance reasons did not alter the conclusion that the transaction came within the legal and, therefore, the statutory concept of payment and was, accordingly, deductible from profits as a charge on income [68]. In Barclays Mercantile the only statutory question was whether there was real expenditure on the acquisition of the oil pipeline. In Tower MCashback the only statutory question was whether there had been real expenditure on the real acquisition of software rights.
56. In such cases, on a proper construction of the statutory provisions in issue no purpose can be discerned other than to bring within their application a transaction which, on a realistic appraisal, falls within their scope. On a proper construction, it makes no difference whether the transaction was part of a series of transactions or part of a composite transaction or not.
57. The Upper Tribunal, following those principles, considered whether the charging provision in section 20(1) relating to dividends and distributions was a statutory provision concerned with the character of a particular act rather than with the character of the entirety of the transactions by means of which bonuses were paid to PA's employees. It concluded that, as a charging provision, any transaction which came within the wide definition of a dividend or distribution, whether part of a series of transactions, of a composite transaction or of pre-ordained transactions, fell to be charged under Schedule F and not under Schedule E.

Construction of Section 20 in its Statutory Context

58. But section 20(1) must be construed within the context of the statutory scheme of which it forms part. If authority is required for so obvious a proposition then :

"Whether the statute is concerned with a single step or a broader view of the acts of the parties depends upon the construction of the language in its context". Carreras [8] (my emphasis)

The statutory scheme is to be found in the congeries of sections, consisting of section 1 and the six Schedules introduced by sections 15-20 (until B dropped out in FA 1988 and C in 1996). As I have already observed, those provisions classify the nature of the income in the hands of the recipient by reference to mutually exclusive Schedules for the purpose of identifying a particular mode of assessment. Schedule F was introduced by section 47 Finance Act 1965 (it was radically altered by Finance Act 1972). But it is inconceivable that the introduction of a new Schedule, let alone a sub-section (section 20(2)) dramatically changed the structure for charging income to tax. That structure remained unaltered and the analysis of that statutory scheme in cases such as Fry remained good. Each Schedule remains dominant over its own subject-matter; the Schedules are mutually exclusive.

59. In my view, neither the First Tier Tribunal nor the Upper Tribunal acknowledged the impact of those principles on their conclusion that the payments were emoluments from employment. In concluding that the payments were emoluments in the hands of PA's employees, they hit the nail on the head. But they failed to drive it in. They concluded that the payments were emoluments by having regard to all the circumstances of the case and by looking to the substance and purpose of the payments and not to the mere form in which they were received. In reaching their conclusion, they followed a long-accepted, traditional approach to the facts. That approach enabled them, within accepted limits, to look beyond the form of distributions, mere machinery, by which the intention to pay bonuses was fulfilled.
60. Once that conclusion had been reached, there was no room whatever for any further consideration of a different Schedule. If the payments were emoluments in the hands of PA's employees, they could not be dividends or distributions in the hands of those employees. Any other conclusion offends the basic principle expressed in Fry that if income falls within one Schedule it cannot be taxed under another. The First Tier Tribunal and Upper Tribunal concluded that the payments were from employment, on an analysis of the facts which, as I believe, cannot be impugned. It follows that that income cannot also be charged under any other Schedule, let alone Schedule F.
61. In Laidler v Perry [1966] AC 16, the question was whether the employees' Christmas gifts were from their employment or arose from "something else" (Lord Reid 30 B-C) (the other candidate was Christmas goodwill). Once the payments were considered in their context and with regard to the purpose of the employer (Lord Reid 32D and 33B), the answer was they did not arise from "something else", they arose from employment. In concluding that the payments arose from employment, the First Tier Tribunal and Upper Tribunal necessarily concluded that the payments did not arise from "something else". The principles of Fry, and for that matter all the jurisprudence relating to the issue whether payments are from employment, to which I have already referred, establish that, once they had concluded that the payments were emoluments, the First Tier Tribunal and Upper Tribunal had exhausted the enquiry as to the character of the income which the statute obliged them to undertake. There was no room for any further enquiry, no room for asking whether the form of the payments came within the wide embrace of the definitions of dividends or distributions for the purposes of Schedule F.
62. It is apparent that the First Tier Tribunal and Upper Tribunal were beguiled by the provisions of Section 20(2) into thinking that even though the payments were emoluments, that Section required them to be taxed under Schedule F. The First Tier Tribunal's approach may be exemplified in the following passages:

"If, as we find, the sums paid to the employees are distributions, notwithstanding that they are also emoluments, then they are liable to income tax under Schedule F as well as under schedule E.

That cannot happen as a matter of income tax law. They can be taxed only as one of those two kinds of payment. Which is to prevail? In our view, the answer to that is unambiguously laid down by section 20(2)" [86] and [87]

The First Tier Tribunal thought that "the facts are such that both (Schedules E and F) are relevant" [89](see UT [68]). They then interpreted section 20(2) as a statutory exemplification of the fundamental principles expressed in Fry.

63. But their error was in thinking that both Schedules can be relevant. They cannot both be relevant, income falls either under the one or the other. The factual conclusion that the income fell within Schedule E precludes any finding that the income also falls within Schedule F.
64. It is the structure of Part 1 of ICTA 1988 and the application of the fundamental principles of income tax law and not section 20(2) which dictates that conclusion. Section 20(2) has no application unless "a distribution chargeable under Schedule F" can be identified. It has no application, as its wording makes clear, to a payment chargeable under Schedule E.
65. That is not to say section 20(2) is devoid of effect. It resolves the conflict where income from one and the same source, shares or certain securities is charged under different schedules. Thus where an investment company holds shares as dealing stock and receives dividends, or receives interest on certain securities, although the source of that income is the shares, that income may also fall within the residual Schedule, Schedule D, Case III, or Case VI. But since those dividends or interest would plainly also fall within the charge under section 20(1), section 20(2) provides that they must be taxed under Schedule F. That resolution of a conflict is not the same process as that which was undertaken in Fry. That case concerned identification of one source of income to the exclusion of any other source, in that case property and not trade. Section 20(2) is concerned with income from one source, shares, which absent section 20(2) could be charged under two different Schedules. It is not concerned to charge income under Schedule F when the source of the income is charged under the different and mutually exclusive Schedule E. Schedule F does not take priority over Schedule E. It does not charge emoluments at all. No question as to the application of section 20(2) arises. The income never came within section 20 at all.

Viewed through Ramsay Eyes

66. This conclusion is sufficient to uphold the Revenue's appeal. It owes little to the Revenue's deployment of familiar anti-avoidance jurisprudence. This is not a case where it is necessary to erect any new signposts or to paint the old. But I should not overlook the application of the principles summarised by Arden LJ in Astall and Another v Revenue and Customs Commissioners [2009] EWCA Civ 1010, [2010] STC 137:

"The essence of the new approach was to give the statutory provision a purposive construction in order to determine the nature of the transaction to which it was intended to apply and then to decide whether the actual transaction (which might involve considering the overall effect of a number of elements intended to operate together) answered to the statutory description" [32]

She subsequently adopted the neat apothegm, often cited thereafter, of Ribeiro PJ in Collector of Stamp Revenue v Arrowtown Assets Ltd [2003] HKCFA 46 at [35] :

"The ultimate question is whether the relevant statutory provisions, construed purposively, were intended to apply to the transaction, viewed realistically." (cited by Arden LJ at [36]).

67. The purpose of the relevant statutory provisions is to classify the income according to an appropriate and mutually exclusive Schedule. In the instant appeal, viewed realistically, the payments were emoluments.
68. The insertion of the steps which created the form of dividends or distributions did not deprive the payments of their character as emoluments. The insertion had no fiscal effect because Section 20, construed in its statutory context, does not charge emoluments under Schedule F. The exotic attempt advanced orally by Mr Mullan to classify both the award of the shares and the distributions as income and thereby raise the spectre of double-recovery fails for the same reason. The award of the shares and the declaration of the dividend were, in reality not separate steps but the process for delivery of the bonuses.
69. This is the approach which led to the conclusion that the transfer of platinum sponge to directors as a bonus was "earnings" and not "payments in kind" for the purposes of the Social Security (Contributions) Regulations 1979. The court looked at the substance of the transaction (see NMB Holdings Ltd v Secretary of State for Social Security (2000) 73 TC 85, 125). The arrangements whereby the directors could immediately sell the platinum sponge for cash, to the bank which held the sponge, stamped the transaction as something different from "payments in kind" exempt from the Social Security legislation (see the endorsement of the court's approach and conclusion by Lord Hoffmann in MacNiven [68]).
70. Similarly in DTE Financial Services Limited v Wilson (2001) 74 TC 14, a composite transaction consisted of three stages, the purchase by an employer of a contingent reversionary interest in a trust fund in a sum equivalent to the intended bonus, the assignment of that interest to the employee and the payment of the cash sum by the trustee when the interest fell into possession. Viewed, as Jonathan Parker LJ put it, "through Ramsay eyes", the company decided that its employee should have a £40,000 bonus and the employee got that bonus [41]. In the instant appeal PA decided that its employees should receive a bonus, Mourant identified which of the employees, from the list provided by PA, should receive a bonus and those employees received a bonus. That, to adopt the dismissive terms of Special Commissioner de Voil in DTE, was the beginning and end of the matter. It is, in my view, the beginning and end of these appeals.

Lady Justice Arden:

71. I agree.

Lord Justice Maurice Kay:

72. I also agree.