If You Are Unsure Perhaps It Was A Gift And Not Salary
Overview Of Is It A Gift Or Salary For Tax Purposes?
The case of David Cation v HMRC  UKFTT 311 (TC) showed the dangers of proceeding to the Tax Tribunal to consider if an expense is a gift or salary for tax purposes.
In this case, the taxpayer appealed against HMRC decisions concerning an assessment on his income tax liability and where they had disallowed £30,000, claimed as an expense against his self-employment income. The taxpayer claimed this was for services from his father.
The taxpayer was hit by a penalty and appealed that as well.
The Case Of David Cation: Is It A Gift Or Salary For Tax Purposes?
The matter revolved around whether the expense was wholly and exclusively for the purposes of the a relevant trade under Section 34 of the Income Tax (Trading and Other Income) Act 2005:
(1) In calculating the profits of a trade, no deduction is allowed for—
(a) expenses not incurred wholly and exclusively for the purposes of the trade, or
(b) losses not connected with or arising out of the trade.
(2) If an expense is incurred for more than one purpose, this section does not prohibit a deduction for any identifiable part or identifiable proportion of the expense which is incurred wholly and exclusively for the purposes of the trade.
The Tax Tribunal considered that the taxpayer was a sophisticated businessman and shrewd:
As to the argument that no person in the right frame of mind would have paid £30,000 to save tax of £14,000, we are of the view that the appellant had taken a calculated risk, that his s 34 claim might have gone through under self-assessment without HMRC opening an enquiry in time.
The problem for the taxpayer was that his father seemed unclear if the payment of £30,000 was gift or salary. The tax tribunal appeared to take careful note of this apparent uncertainty when weighing up the matter.
Peter Cation’s replies to various questions put to him in relation to the services for which he was paid £30,000 were as follows.
(1) When scouting for prospective customers, that he would introduce himself (for example, going into a building site) and hand in a business card, and say that he was ‘working for [his] son’; and ask to be put to ‘the right person’. He said he would sometimes recommend prospects to his son to follow up, and described examples of some of the sites he visited in Glasgow, and ‘maybe’ Edinburgh, Aberdeen.
(2) He said Glassal had the USP (unique selling point) of being able to take on ‘small jobs’ for ‘glass fronted products’; but his sales prospects ‘don’t ask me of prices for I have no idea’; that he had ‘no personal contact with the prospective customers’; and he confirmed that he did not keep any record of the these potential customers.
(3) When asked what he did for his son, he said there would be enquiries coming in from Glassal, he would ask those enquiring what it was that the customers wanted; how they heard about Glassal. Sometimes they would say that ‘the name had been bandied about in the business’. He said when an estimate was given, but ‘nothing came of it’, and he would be ‘sometimes’ following up the estimate, and reporting back to his son.
(4) When asked what he meant by ‘sometimes’, he said ‘two-three-four calls’. When asked ‘how often’ he would be doing this reporting back to his son, he said ‘occasionally’; he clarified that he ‘would not have the estimate in front of [him]’ when he made these follow-up calls; that his role was ‘non-technical’ and that he did not know the ‘ins and outs of it’.
(5) The witness statement refers to his involvement as being ‘at anything up to 2 days per week’, and when asked whether that was an average, he replied: ‘Generally a lot less than that.’
(6) When asked what was a day’s work, he said it depended how many calls he had to make, but records of these were not kept. He said, ‘If he [David] was busy, I was busy’. Sometimes, he would speak to people ‘off my own bat’; at other times, leads would come from his son. However, ‘I wasn’t doing this for money’. Success would be measured when his sone told him of a confirmed order, and his son kept the records of these.
(7) He was questioned about the general business mentoring and advice he had given his sone since 2011 about starting up in self-employment, he said he guided his son ‘in the way any father would’. When asked if he was paid for this, he replied ‘not there and then’, but added that the advice on self-employment was ‘freely given from father to son’. He said he did not give his son advice on tax and /or self-assessment.
(8) When asked what mentoring advice on trading medium he gave his son, Peter Cation said that from his own experience, he was aware of the problems in going into partnership with another person because ‘you don’t really know your partner’, and related how he narrowly averted going into partnership with someone who would have left him in a bad situation, and had advised his son against going into partnership in business.
(9) When asked what the difference is between a limited company and a sole-trade, he said a company is ‘governed by more rules’.
(10) When asked what David Cation said to ‘convince’ him of the trading medium he chose, the reply was: ‘He didn’t need to convince me. He is a grown man; he made up his own mind.’
(11) When asked about the hand-written invoice, he said David Cation asked for an invoice, and he used his invoice book (from his former trade as a sale representative) and wrote him an invoice. He was equivocal about the exact timing of the request for the invoice, other than to say that it came to be dated as ‘1 March’ as ‘it was then I did it’, but without actually stating the year in which it happened.
(12) His witness statement states: ‘It was therefore my role to undertake the follow up work on David’s behalf on a consultancy basis.’ However, when asked whether he had ever done ‘consultancy work’, he replied with a definite ‘No’, and confirmed that he had no other consultancy client.
(13) When asked if he considered himself a consultant to his son, he replied: ‘I was really a scout, not a consultant’; it was ‘a piece of fun, to help him out; did not feel it was a piece of consultancy work’ but ‘covering some of his time’; ‘helping him out, not seeking payment; not the way I understand it’.
(14) When asked what discussion he had in quantifying the £30,000 payment, he said it was ‘based on, as and when [David Cation] can afford it’, and that he would not have known what consultancy fee would be typical for the kind of work done; he confirmed he did not know his son’s turnover if fees would be calculated on a commission basis.
(15) When asked why there was a gap in issuing the invoice, he said there was ‘o reason really’. When asked whether there was any reason for the actual payments being much later than the supposed timing of the service rendered for up to March 2015, he said his son could not afford to pay him until he did. The 2015-16 return and amendments
40. The questioning turned to the inclusion of £30,000 in Peter Cation’s return for the year 2015-16. Peter Cation said he had asked his accountant in January 2017, whether the payment was a ‘gift’ or a ‘salary’ (his choice of words). He was advised that it was a ‘salary’ to be ‘declared’ and it was then included in the return for 2015-16. When asked if the income was declared as ‘commission’, he replied it was ‘self-employment income’, and confirmed he understood that it would be included in the separate Self-Employment (‘SE’) pages.
The Tribunal said the onus was on the taxpayer to establish the purpose of the expenditure. The Tribunal seemed unimpressed by the services claimed to have been provided by the father for the purposes of the expense deduction for tax purposes when it assessed his evidence:
(1) Any ‘assistance’ given by Peter Cation under the appellant’s direction was ‘occasional’ as Peter Cation stated; it was for ‘a piece of fun, to cover his son’s time’, and for which he did not expect to be paid. The assistance given was the occasional phone calls made on his son’s behalf to follow up a submitted tender; it was neither technical nor at consultancy level. It was ad hoc and there was no regular work arrangement in place to engage Peter Cation’s service to support the 2 days a week purported to have been worked in a three-year period leading to the £30,000 fees.
(2) As to the ‘ferreting over a three-year period’ claimed by the appellant to have been carried out by Peter Cation, no credible evidence was produced to support the assertion; nor was it convincing that Peter Cation’s business contacts as a sales representative (in polystyrene containers or fancy party outfits) would have been of any utility to the targeted market of bespoke glazing systems. From the Enquiry Register, we note that the geographical spread of the locations of the projects was vast, covering all major Scottish cities such as Edinburgh, Glasgow, Dundee, Stirling, St Andrews, Inverness, Aberdeen, Perth, and notable towns in between cities such Ullapool, Prestwick, Toridon, Campletown, Fort William, Ayr, Melrose, North Berwick, Hawick and Wick, etc., with the furthest south being Halifax (north England), and the furthest north being Orkney (Outer Hebrides). It was improbable that these enquiries with their vast geographical spread would have been, in any significant extent, due to the ferreting by Peter Cation. Rather, and as Peter Cation said: ‘the name [ie Glassal] had been bandied about in the business’ already, and that was more likely to be through the efforts and contacts of David Cation and Steve Douglas, who have had decades of experience working in the construction industry, than Peter Cation’s ferreting efforts.
(3) The appellant repeatedly referred to ‘the skill sets he lacked’, which his father was said to have supplied through mentoring and coaching and in that respect was acting as a ‘consultant’ to him. We find the so-called ‘mentoring’ and ‘coaching’ by his father to be ‘consultancy’ to be an overstatement. We find that Peter Cation’s business experience was limited to being a sole trader, and as a sales representative in low-value merchandise, while the appellant is clearly very alive to the risk exposure associated with him operating in a sector dealing with high-value contracts, involving warranty and health and safety issues that could lead to court actions. The appellant might have used his father as a ‘sounding board’, but the business environment in which he operates is so materially different to that of his father’s as to make it highly unlikely that his father’s business experience could have enabled him to mentor or coach the appellant in making any strategic or syllogistic decisions. We accept that there was wisdom passed from father to son, but there is no evidence to support that it was at the level of consultancy to merit a going market rate as calibrated to the £30,000 claim.
(4) In the tax year 2014-15, the actual sum paid to Peter Cation was £3,000, made up as 4 payments of £750 each, and not the £30,000 as claimed in the return. In 2015-16, the total sum paid to Peter Cation was £7,000. These payments could have been for any reasons between father and son. (We note that the appellant gave the figure of £7,000 as the sum of loan advanced by his father towards start-up capital for Glassal, which he claimed to have been repaid in April 2013; no further evidence was adduced in relation to the repayment date.)
(5) The two lump sum payments of £10,000 each to Peter Cation, made on 25 January 2017 and 10 February 2017, were most probably triggered by the opening of the enquiry on 10 January 2017. Peter Cation’s evidence supported that the lump sum payments were unexpected, something out of the blue for him, and he knew not whether it was a ‘gift’ or a ‘salary’. The hand-written invoice, the amendments to Peter Cation’s 2015-16 return to include the £30,000, and the tax payment of £7,265 on 3 February 2017 were actions consequent upon the lump-sum payments being triggered by the enquiry. The lump sums were received by Peter Cation in the tax year 2017-18, but were included in 2015-16 return by amending the original return already submitted. On the balance of probability, the two lump-sum payments of £10,000 each were triggered by the opening of the enquiry in Janaury 2017, and explained why there was this mismatch in tax years for the relevant events: (a) the claim of £30,000 was made in the appellant’s 2014-15 return, (b) the payments were made in 2017-18 tax year; (c) the receipts were included retrospectively by amending Peter Cation’s 2015-16 return. We reject the explanation of accruals being the reason for the mismatch in timing.
(6) We also reject the appellant’s explanation that the timing of the payments in January and February 2017 (being nearly two years after the supposed date of the handwritten invoice) was due to Vicenti’s good trading results, which allowed him ‘to settle his account’ with his father at that juncture. At no time during the course of the enquiry had this explanation been proffered. The existence of Vicenti was only brought up in the appellant’s oral evidence, and it seems to us that the Vicenti explanation for the timing of the lump-sum payments totalling £20,000 was an explanation after the event, and not the real reason at the time why the £20,000 was paid.
(7) Having considered the evidence in its totality, we find the £20,000 was paid in 2017 following the opening of the enquiry. Applying case law principles, the conscious motive of the appellant in expending the £20,000 at that juncture was to attempt to make good what he claimed as having been incurred; that is, to ‘pay after the fact’.
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