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A joust with HMRC and the application of BTI v Sequana in the Trusts context

Featured ArticleA joust with HMRC and the application of BTI v Sequana in the Trusts context

By Alexander Farara, barrister, 1EC

As I write not less than 48 hours after the surprise revival of David Cameron, it is perhaps befitting to bring back into focus one of his signature policies – austerity.

Recently, I have been increasingly instructed on matters – primarily in the context of insolvency, trusts and estates – which centre on employment benefit schemes; schemes which during the early 2000s were particularly popular for their ability to legitimately avoid or limit income tax. Although these schemes took various forms, common was a type of unregistered pension scheme, created courtesy of the Income Tax (Earnings and Pensions) Act 2003, known as an employer-financed retirement benefit scheme (“EFRB”).

In essence, the scheme operated as follows. Trusts, settled by special purpose vehicles, were administered by corporate trustees who on behalf of the participating individuals would enter into contractual arrangements with third parties – the third parties who these individuals in fact carried out employment services for. Because of the trusts’ contractual nexus with these third-party employers, the trustee would directly receive the participating employees’ remuneration for the work they had done which would in turn be re-distributed to them. But instead of taking the form of a salary, these payments were characterised as loans – loans which on paper were very much to be repaid back into the trusts interest-free at the trustee’s discretion but which in practice the trustee never had any intention of calling in.

Naturally, this caught the attention of HMRC and in the late teenage years of the 2000s – David Cameron’s Britain – these schemes were seen as inimical to the post-2008 austerity cause.

In George Osborne’s announcement of the Government’s budget for the 2016/17 fiscal year, he had this to say:

Mr Deputy Speaker,

In every Budget I’ve given, action against tax avoidance and evasion has contributed to the repair of our public finances. And this Budget is no different.

In the Budget book we set out in detail the action we will take to:

  • Shut down disguised remuneration schemes;
  • Ensure that UK tax will be paid on UK property development;
  • Change the treatment of freeplays for remote gaming providers;
  • Limit capital gains tax treatment on performance rewards; and
  • Cap exempt gains in the Employee Shareholder Status.

The shutdown of disguised remuneration schemes took the form of schedule 11 in the Finance (No.2) Act 2017 which imposed a 45% income tax on all loan payments (or rather disguised remuneration payments) made since 1999 and which remained outstanding as at 5 April 2019. This was, indeed, far-reaching because not only did it signal the end of what was otherwise a legitimate scheme but in one stroke retroactively de-legitimised a scheme which individuals across the country had benefited from for decades.

Those concerned were left with essentially three options to bitterly choose from: (i) try to negotiate and settle with HMRC; (ii) dauntingly, re-pay the remuneration they had received as loans since 1999; or (iii) pay the 45% income tax. Although the bite of Mr Osborne’s legislation was mitigated somewhat by a commissioned review concluded by Sir Amyas Morse in December 2019, for those effected they were still very much in a bind.

A recent High Court decision in Adams & ors -v- FS Capital Limited & ors [2023] EWHC 1649 (Ch) sheds light on the steps some operators of these schemes tried to implement in the wake of this Cameron/Osborne austerity measure.

In this case, three trusts – formed in Jersey and operated by a global private client and corporate services group, Praxis IFM – were established in 2012 as EFRBs for the purpose of operating a disguised remuneration scheme. Somewhat unique to the design of these particular schemes was that every participating employee was by default a beneficiary under the Trusts and therefore were ultimately entitled to the repayment of the loans that were issued.

Following the 2017 Act however, Praxis IFM entered into an agreement with a separate group of individuals, who together were the effective defendants, who had devised a scheme which, if implemented, they believed could come to the aid of the beneficiaries of the Trusts. Initially called “Project Z” – and later renamed the “Pyrrhus Scheme” – it was a complex offshore structure which at its heart would enable affected beneficiaries to repay their loans by way of further interest-free loans in exchange for an upfront fee. This was the brainchild of two tax specialists, Simon Emblin and Mark Reid, as well as a Jersey-based law firm, Hatstone, of whom Carl O’Shea was the principal partner.

Keen to offload these Trusts, Praxis IFM agreed to be replaced by a new corporate trustee – a Swiss-based trust company called Pinotage – of which Mr O’Shea was a director. Once appointed in late 2017, Pinotage sought to implement the Pyrrhus scheme. But after two years it was clear to Mr Emblin, Mr Reid and Mr O’Shea that the Pyrrhus scheme was unsuccessful. Only 14 beneficiaries across the three Jersey trusts had actually signed up to the Pyrrhus scheme and the vast majority had done little to deal with the tax predicament to come.

As a result of this failure, the trustees were faced with a predicament. Not only did they consider themselves to be out of pocket – having agreed to become the new trustees on the basis of projected commissions from administering the Pyrrhus scheme but the Trusts had creditors – themselves – to whom there was little prospect of being paid.  The solution was a complex sale of the Trusts’ sole assets – the right to be repaid the loans – through which Pinotage and Hatstone would recover a relatively modest sum of £1 million to reflect the fees they were owed as creditors.

The sale however prompted a claim by the aggrieved beneficiaries who were surprised to learn that they no longer were beneficially entitled to recover the loans issued by the Trusts – a loan book which by the time of the sale was said to exceed £200 million. They sought to reverse the transaction principally on the ground that it was entered into for an improper purpose.

A key battleground in the case was the extent to which Pinotage and Hatstone were entitled to, in the circumstances, disregard the interests of the beneficiaries and in turn consider the interests of the Trusts’ creditors – again, themselves. This brought into focus the now well-known Supreme Court decision of BTI 2014 LLC -v- Sequana SA [2022] UKSC 25 which, in brief, extended the fiduciary relationship of a director to not just that of the company but the company’s creditors in circumstances where there was a real risk of insolvency. The Defendants relied on this case in the trusts context to justify the sale: not only did the Trusts lack any income from which they could continue to be administered, but the Pyrrhus scheme’s plain failure had demonstrated the lack of a purpose for their continued administration. The Defendants therefore felt justified in being able to settle the Trusts’ outstanding fees before effectively terminating them.

In granting the claim however, the Judge considered that whilst the Defendants may well have been right in the considerations they had, the design and purpose of the sale was fatally flawed because the purchase price was solely calculated for the purpose of reimbursing Pinotage and Hatstone. By intentionally failing to achieve a sale price that could leave a residual sum from which the beneficiaries could use to pay off their impending HMRC liabilities, their actions were found to be contrary to the very purpose of the Trusts.

This is yet another example as to how the Sequana decision is being implemented by the Courts and, furthermore, with the return of David Cameron, proof on how his policies continue to influence the cases heard in today’s Courts.


Alexander Farara, barrister, 1EC

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