The modern approach to reading (legislation)
The judgment by the Court of Appeal (Court) in The Quentin Skinner 2015 Settlement L and others v HMRC  EWCA Civ 1222 is interesting because it:
- confirms that Entrepreneurs’ Relief (ER) (now known as Business Asset Disposal Relief) can apply even if a trust beneficiary’s life interest in the business asset being disposed of has existed for only a very brief period; and
- underlines the fact that, although a particular statutory provision must be interpreted in the light of the relevant code of which it forms part, where the provision is capable of being interpreted on its own merits, it should be interpreted on this basis, without reading across to other provisions or relying on historic versions of the legislation.
On 30 July 2015, Mr Skinner established three trusts, granting a life interest to each of his three children. On 11 August 2015, he settled shares in DPAS Ltd in each of the three trusts. The three children already held a significant number of shares in DPAS Ltd in their own names and were all officers of the company.
On 1 December 2015, the trustees of each of the trusts sold the shares and an ER claim was filed.
Application of the relief
ER (now known as Business Asset Disposal Relief) is a valuable tax relief, operating to reduce the rate of capital gains tax to 10% in respect of gains realised on the disposal certain business assets.
For ER to apply to the disposal of trust business assets, three conditions must be satisfied:
- the trustees of a settlement must make a disposal of "settlement business assets";
- there must be an individual who is a "qualifying beneficiary" (i.e. an individual with an interest in possession in the business assets); and
- the "relevant condition" must be met. In this case (under the statutory provisions in place at the relevant time), the relevant condition was that, for at least 12 months in the previous three years, DPAS Ltd must have been a trading company (or the holding company of a trading group) and the qualifying beneficiary’s "personal company" (broadly speaking, owning at least 5% of the shares in their personal capacity). The qualifying beneficiary must also have been an officer or employee of DPAS Ltd.
It was accepted by all parties to the case that conditions (i) and (iii) were satisfied. However, HMRC argued that, in relation to condition (ii), it was necessary for the beneficiary to be a "qualifying beneficiary" throughout the period during which the relevant condition must be met. Given that the trusts had been established and the shares in question held in trust for only four months prior to disposal (and, at the relevant time, the relevant condition was required to be met for 12 months), HMRC’s view was that ER could not apply to the disposal of the trust shares. The taxpayers disputed this, arguing that an individual need only be a "qualifying beneficiary" at the time of disposal.
HMRC sought to rely on a separate section in the legislation to suggest that their reading was correct. The taxpayer’s position was that "qualifying beneficiary" was a defined term and its subsequent use in a different context was simply a shorthand to the definition previously set out and not a way of adding additional requirements to the definition.
The Court rejected HMRC’s interpretation and accepted the taxpayers’ view. The specific section of the statute governing the relief for trust business assets was clear. Where a piece of legislation is clear, it is not right to seek to rely on a later provision to change or add to its character.
At its heart, it seems that the Court’s decision was based on “the logical structure and the drafting technique” of the section that sets out the relief for disposals of trust business assets. The Court’s view was that where the legislation sets out a simple step-by-step definition, to determine whether it is satisfied the analysis must proceed through those steps, but after reaching the end Parliament would not have intended other steps to be found from elsewhere in the legislation. The inherent nature of a sequential analysis is, first, that it is only possible to progress to the next stage if the previous stage has been satisfied, and, second, that once it is satisfied, additional requirements cannot be divined from other provisions.
The Court was influenced to adopt this approach in large part due to the Tax Law Rewrite Project (Project). The aim was to re-write legislation to be in a sequential and logical order, with related provisions appearing near to one another. Notwithstanding that ER was not revised under the Project, the mere fact that the relevant legislation was written in that style meant these considerations applied. Insufficient allowance for the legislative drafting techniques modelled on the principles of the Project was, in the Court’s opinion, what had led the Upper Tribunal into error.
Guidance from the Court in respect of how to interpret legislation correctly in light of the Project is:
- if a sequential analysis is needed, once a stage has been satisfied, it is difficult to see that it should be revisited as a result of a later stage;
- where there is a definition, it is “implausible in the extreme” to suggest it is incomplete and that reference is needed to a separate part of the legislation to determine if it is satisfied; and
- once a definition has been established (i.e. what constitutes a qualifying beneficiary) references to that definition simply refer to an object that satisfies the definition (i.e. the qualifying beneficiary).
Take away points for taxpayers
The Court’s rejection of a narrower reading of the provision governing the disposal of trust business assets is helpful for taxpayers.
It may also be suggested that comments made by the Court regarding the proper approach to legislative construction following the Project are likely to have a wider application.
The result of the Court’s decision is likely to be that, where HMRC or a taxpayer seek to read into legislation requirements that do not expressly appear in the relevant sections, there is now clear authority (by an appellate court, no less) that this approach is likely to be wrong, especially if the legislation has been recently drafted or revised. For practitioners, it will also mean that more focus than ever will be needed on reading the blackletter law.