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Is Tax Avoidance Still Alive And Well? Liquidator Loses Transactions Defrauding Creditors Claim

Relax! You can still arrange your affairs to minimise tax. Can’t you?

In a long running matter stretching right back to a claim in 2018 against 63 people in Purkiss v Kennedy & Ors [2024] EWHC 1081 (Ch) (“Purkiss”) the liquidator pursued orders against 62 of them under Section 423 of the Insolvency Act 1986 in respect of the suggestion of transactions defrauding creditors.

The case involved an Umbrella company in which contractors and consultants who were part of the company would anticipate the avoidance of income tax and national insurance contributions (“NIC”).

Is Tax Avoidance Still Alive And Well?

What Is A Transaction Defrauding Creditors Under Section 423 Of The Insolvency Act 1986?

In a nutshell, a claim brought as a transaction defrauding creditors under Section 423 of the Insolvency Act 1986 you have to show:

  • There has been a transaction at undervalue such as a gift or where the value given is less than the value received.
  • The purpose or intention of the transaction was to put assets beyond the reach of creditors or prejudice their interests – known as the prohibited purpose test.

The interesting analysis of the court referenced the notion of debts paid before gifts made proposition:

The history of s.423 was reviewed in Invest Bank PSC v El-Husseini [2024] KB 49 by the Court of Appeal at paragraphs 74-75. After noting that the 1986 Act was enacted in response to the Report of the Committee on Insolvency Law and Practice, chaired by Sir Kenneth Cork GBE (Cmnd 8558), which was published in June 1982 (“the Cork Report”) Singh LJ went on:

“Chapter 28 of the Cork Report dealt with ‘Recovery of Assets Disposed of by the Debtor’. It set out the history, in particular the Fraudulent Conveyances Act 1571, usually referred to simply as the ‘Statute of Elizabeth I’. That statute was repealed and replaced by section 172 of the [Law of Property Act 1925]. As the Report noted at para. 1202, the principle on which both of those pieces of legislation proceeded “is that persons must be just before they are generous and that debts must be paid before gifts can be made.

Section 423 claims can be difficult because of the need to show intent. However, such a claim does not need to demonstrate fraud or dishonesty.

Liquidator’s Transaction Defrauding Creditors Claim

The liquidator in the Purkiss case ran a case that the tax avoidance scheme resulted in the company obtaining less than the liabilities it incurred in respect of income tax and NIC.

In relation to the prohibited purpose test, the liquidator said because the respondents received their earnings as loans instead of salary the interests of HMRC had been prejudiced. Recovery would be more difficult through the use of an offshore trust.

It is common for Employee Benefit Trust (“EBT”) schemes to operate with funds paid to the EBT and arrangements to be made for the EBT to enable the beneficiaries to loan monies to them through sub-trusts. The idea often was that the loans would not attract tax consequences. That was broadly the position in the Purkiss company case.

Transaction At Undervalue Issue

As a result of the well known Rangers decision which said a tax charge for income tax and NIC arises when monies leave the company for the EBT, the company was then unable to satisfy the HMRC assessments:

This tax liability affects the question of whether the incoming value to the Company was worth less than the outgoing value. The main incoming value to the Company from the transaction was the “administration fee” of on average 13.4% and from which various bills needed to be paid (introducer’s commission, 2% trust fees, PAYE and NIC on payroll element of Respondents’ benefits). The consideration the Company provided was the operation of the scheme, thereby becoming liable for PAYE and NIC. The outgoing value was therefore significantly greater, than the incoming value in money or money’s worth. This is why the Company is insolvent.

The Respondents failed to show there was no transaction at undervalue.

Prohibited Purpose Failure

Although the Respondents did not succeed on the transaction at undervalue part of the claim, they nevertheless won because the liquidator did not show the prohibited purpose.

The liquidator attempted to say that HMRC’s position was prejudiced as money was put out of its reach in the event of a claim.

Tax Avoidance A Prohibited Purpose?

The liquidator appeared to say in this case, tax avoidance was a prohibited purpose as it prejudiced HMRC’s interests.

Judgment Highlights

This was not accepted:

I note that the consequences of Mr Sims’ submissions, if correct, are that any steps taken with the intention of minimising tax, and all legitimate tax avoidance, would be a prohibited purpose. That would be a remarkable outcome. Lord Tomlin famously said in IRC v Duke of Westminster [1936] 19 TC 490:

“Every man is entitled if he can to arrange his affairs so that the tax attaching under the appropriate Acts is less than it otherwise would be”.

In fleshing out a fascinating argument, the liquidator said legitimate tax avoidance could be a prohibited purpose because of the transaction undervalue element of Section 423. This seemed to be firmly rejected by the court:

I am satisfied that Mr Sims’ submission is flawed.

  1. Section 423(3)(a) is concerned with a prohibited purpose of putting assets out of the reach of “a person who is making [a claim], or may at some time make, a claim”. That clearly contemplates a current claim or a future claim. Section 423(3)(b) makes it a prohibited purpose to otherwise prejudice “such a person in relation to the claim which he is making or may make.” The words “may make” in s.423(3)(b) are a reference to the claim in s.423(3)(a) that a person “may at some time make”. The “claim” which both ss. 423(3) (a) and (b) are concerned with are claims which a person is presently making or one which a person may make in the future.

  2. The tax avoidance purpose on which Mr Sims relies is that the scheme would secure that no income tax and NIC liability arose in relation to the remuneration received in respect of the Respondents’ services. The purpose was therefore that HMRC would have no claim which it could make and not to prejudice a claim which it was making at the time of the Transaction or might make in the future.

  3. I do not consider there to be ambiguity as to what s.423(3) means. If there were, it is important to remember that the policy behind s.423 is that debts are paid before gifts are made. That policy is not undermined by a transaction which prevents a debt arising; it is consistent with it.

Transactions To Defeat Creditors

The other angle the liquidator put forward was the classic one of putting assets beyond the reach of creditors ie. HMRC when transferring funds to the Trusts without deducting income tax and NIC.

However, this argument failed as well because it was not shown that HMRC was not prevented from recovering tax due to it:

What must be shown by the Applicant is that a purpose of the Company in setting up the scheme was that, if it failed, its implementation would nevertheless impede HMRC from recovering tax due to HMRC. I observe that there was no clarity as to whether it was being said that it was the interposition of the offshore trust which was intended to impede HMRC or whether it was being said that the intention was that the liability would be the Company’s liability, and not the Respondents’ or the Trust’s, and the Company would take the fall. There is, in any event, no evidence of any such intention. There is no evidence from Mr Webster or Mr Clark who set up the Company and operated the scheme. None of the Respondents gave evidence. There is no documentary evidence recording, or even hinting, at such an intention. The closest Mr Sims can point to is the fact that the Company advised the Respondents that they need not disclose the loans they were receiving from the Trust to HMRC – but that is consistent with a belief that the Scheme worked.

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Author: Elliot Green
Last Updated: June 12, 2024

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Disclaimer: Is Tax Avoidance Still Alive And Well? Liquidator Loses Transactions Defrauding Creditors Claim

This page is not legal advice and is not to be relied upon as such. This article Is Tax Avoidance Still Alive And Well? Liquidator Loses Transactions Defrauding Creditors Claim is provided for information purposes only. You should take independent advice on the facts of your case. No liability is accepted for reliance upon this post.

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