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The UT Overturns FTT On Unallowable Purpose Case

Tuesday 9th August 2022

The Upper Tribunal has recently overturned the FTT in a case involving loan relationship debits on intragroup loans which were used to finance the acquisition by the Blackrock Group, through a UK resident entity, of the US business of Barclays Global Investors.

In Blackrock Holdco 5 LLC v HMRC [UKFTT 443 (TC)], the taxpayer had appealed against closure notices issued by HMRC amending its company tax returns for the accounting periods ended 30 November 2010 to 31 December 2015. The amendments to the returns disallowed the deduction of loan relationship debits in respect of the interest payable on and other expenses relating to $4bn worth of loan notes issued by LLC5 to its parent company, BlackRock Holdco 4 LLC (“LLC4”).

The three issues arising in the appeal to the FTT were:

(1)           Was a main purpose of LLC5 being a party to the loan relationships with LLC4 to secure a tax advantage for LLC5 or any other person?

(2)          If securing a tax advantage was a main purpose of LLC5, what amount of any debit is attributable to such a purpose on a just and reasonable apportionment?

(3)          Whether the loans between the LLC5 and LLC4 differ from those which would have been made between independent enterprises, in which case would the parties have entered into the loans on the same terms and in the same amounts if they had been independent enterprises and, if the answer is negative, would they, as independent enterprises, have entered into the loans at all, and if so, in what amounts, at what rates of interest, and on what other terms.

Issues (1) and (2) related to the unallowable purpose issue per s.441 CTA 2009 and issue (3) to the transfer pricing issue per s.147+ ITOPA 2010 and OECD 2010 Transfer Pricing Guidelines.

The FTT had found that whilst securing the tax advantage was considered to be a main purpose of LLC 5 in entering into the loans, the evidence also showed that LLC 5 entered into the loans in the furtherance of the commercial purpose of its business of making and managing passive investments and, as such, was to be regarded as a main purpose also.

Having come to the conclusion that there was a commercial and a tax purpose, it was necessary to consider a “just and reasonable apportionment”, as required by s 441 CTA 2009. However, the evidence of the taxpayer also indicated that LLC 5 would have entered into the loans with LLC 4 even if there had been no tax advantage in doing so. As the tax advantage purpose had not increased the debits, the FTT held that all of the relevant debits arising in respect of the loans should be apportioned to the commercial main purpose rather than the tax advantage main purpose.

Re issue (3), the FTT considered expert evidence provided and held that although an independent enterprise would not have entered into the loans on the same terms as the actual transaction, it would, subject to certain covenants, have entered into the loans on the same terms as the parties in the actual transaction.

In HMRC v Blackrock Holdco 5 LLC [UKUT199], HMRC appealed the FTT decision on the grounds that the FTT had erred in law in relation to the Transfer Pricing Issue by deciding that a hypothetical lender acting at arm’s length would have made loans to LLC5 in the same amount and on the same terms as LLC4 did. The FTT should not have taken account of additional covenants that would have been required by such a lender in the arm’s length transaction in order to make such loans but which were not present in the actual transaction.

HMRC also submitted that the FTT had erred in law in relation to the Unallowable Purpose Issue in finding that there was any commercial purpose to the loans when the only purpose was to secure a tax advantage. 

LLC5 sought to uphold the decision and submitted that the FTT came to the correct conclusions on both the Transfer Pricing and Unallowable Purpose Issues. In addition, LLC5 sought to challenge the FTT’s conclusion that there was any tax advantage purpose to the loans. Its position was that their only purpose was commercial.

The UT held with regard to the Transfer Pricing Issue that the FTT had erred in law by concluding that while an independent hypothetical arm’s length enterprise would not have entered into the loans on the same terms as the actual transaction, it would have done so if certain covenants had been given by entities other than LLC5.

The UT also held that the FTT did not err in finding that LLC5 had both a commercial purpose and an unallowable tax advantage main purpose in entering into the loans. However, it was wrong to decide that the just and reasonable apportionment was solely to the commercial purpose. But for the tax advantage purpose there would have been no commercial purpose to the loans and all the relevant facts and circumstances lead inexorably to the conclusion that the loan relationship debits should be wholly attributed to the unallowable tax purpose and so disallowed.

This is a very significant decision given the UT has disagreed with the FTT’s approach to identifying the equivalent arm’s length transaction for transfer pricing purposes and to the ‘just and reasonable’ apportionment of debits under the unallowable purpose rule. It is surprising that the UT appears to have used targeted anti-avoidance provisions and concluded differently on transactions that would normally have been treated as part of ordinary commercial activity.

If you would like more detail on this decision, please contact Keith Rushen on 0207 486 2378.

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