The role of directors in ensuring overseas companies are and remain non-UK resident for tax purposes: HMRC v Development Securities PLC and Others
Directors of non-UK incorporated, non-UK tax resident companies which have some connection with the UK (such as UK shareholders) have an important role in ensuring that the company in question does not become UK tax resident.
In the recent case of HMRC v Development Securities PLC and Others, the Court of Appeal held that a Jersey incorporated company with a majority of Jersey-based directors was UK resident. Although the facts of the case were unusual, some useful pointers as to what went wrong for the company and how it could have done better can be gleaned from the judgment.
In broad terms, a non-UK incorporated company is not UK tax resident if its central management and control takes place outside of the UK. The question of how to determine where a company is centrally managed and controlled has been analysed in a series of UK cases stretching back over more than a century. These cases have held that normally a company is resident in the country where its board of directors meets and makes decisions.
The Court of Appeal in the Development Securities case considered the factors that should be taken into account to determine where central management and control takes place if there is a board of directors meeting in Jersey but the company itself is wholly-owned by a UK resident parent company. The decision is particularly relevant to special purpose vehicles that have been set up to carry out limited activities, although it also has wider implications.
The facts and the decision in Development Securities
The facts in Development Securities were unusual in that, as part of a tax planning scheme devised by a firm of accountants, the company was set up in Jersey to enter into options to acquire companies and properties for more than their market value from other group companies. This arrangement would benefit the UK resident parent company (and the wider group) but not the Jersey subsidiary itself. The scheme would only work if the subsidiary was centrally managed and controlled in Jersey (and not the UK) at the relevant time.
The First Tier Tribunal (FTT) held that the subsidiary was UK tax resident, the Upper Tribunal overturned this decision and the Court of Appeal then upheld the FTT’s decision, although admittedly one of the judges in the Court of Appeal set out, in some detail, why he considered elements of the FTT’s reasoning to be incorrect.
What went wrong and how to avoid these problems?
Although the facts of the case were rather extreme, some useful guidance can be gleaned as to how overseas companies with UK shareholders should be managed to ensure that they are and remain non-UK tax resident.
As is always the case, in order to make sure that the company is tax resident outside of the UK, a majority of the directors must be non-UK resident and board meetings must be held outside of the UK; both of these requirements were met by the subsidiary in Development Securities.
Decisions must also be actually made in those board meetings, i.e. outside of the UK, and importantly, the directors need to make their own decisions and not be over influenced by the shareholder. The board minutes in the Development Securities case suggested that the directors had been instructed or ordered by the UK resident parent company to take the decisions and that in effect, the parent company had usurped the board's decision making powers. Although UK resident shareholders may authorise a board to take decisions it should not instruct or order them to take those decisions.
In addition, the board of directors of the Jersey subsidiary had adopted an approach that was held to be too mechanistic; they were too concerned with checking the legality of what they were doing, rather than giving proper thought to the decisions themselves. As a result, the Court of Appeal held that the directors should have engaged more fully with the decision making process, rather than concentrating on the legality of it and on executing documents to implement the transaction. However, it is worth noting that, although not significant in the Court of Appeal’s decision, Lord Justice Nugee suggested in his judgment that what mattered was whether directors of a company had actually made the decision to take a particular course of action and that "actively engaging" in making that decision may be too high a test.
When the case came to court, the FTT reviewed the board minutes in great detail, pointing out mistakes that the directors had not picked up on. Directors should be aware that if a matter which they are reaching decisions about goes to court the minutes are likely to be subject to a high degree of scrutiny by the tax tribunal. The minutes should demonstrate that decisions were properly thought through and mistakes should be avoided as far as possible. (Although earlier cases have held that as long as directors (rather than a parent company, for example) have made the decision, it does not matter whether the decision was ill-advised or ill-informed – probably a strategy best avoided).
This will not be the end of the story and we will either have to see whether Development Securities goes to the Supreme Court or wait for the next case on what central management and control means, but as matters stand, based on the Development Securities case, directors of non-UK tax resident companies may want to spend a little time reviewing their decision-making and record-keeping processes.
Heather Corben is a Partner in the Tax team.
This note reflects our opinion and views as of 02 February 2021 and is a general summary of the legal position in England and Wales. It does not constitute legal advice.