Show business or no business?

In an article first published in the 2 December edition of Taxation magazine, Matthew Greene and Guy Bud reviewed a case in which the First-tier Tribunal found a limited liability partnership was not trading, but was indeed a business. Notably, the October 2024 Budget included a new provision that will prevent future tax planning of this kind.

The terms ‘trade’ and ‘business’ recur across the tax system in a myriad of contexts, and are often closely linked. The recent case of GCH Corporation Ltd (TC9317) provides an unusual but instructive example of how these terms might be understood and applied in practice and, importantly, how they may mean different things for tax purposes.

Case background for GCH Corporation Ltd (TC9317)

Greg Hutchings was a former executive at the engineering firm Tomkins plc. This allowed him to acquire a large portfolio of shares through GCH Corporation Ltd (the company) and three family trusts of which Mr Hutchings was trustee.

Ahead of a proposed takeover of Tomkins, Mr Hutchings took advice about how to mitigate the tax on the sale. He was advised to incorporate a limited liability partnership involving the company and trusts, called GCH Active LLP (the LLP). It was set up in 2010. Mr Hutchings stated that his intention was always to use the LLP as a vehicle ‘to make a profit by trading public company stocks in a manner similar to hedge funds/family offices/asset management businesses’. He spent time studying the market for suitable investment prospects.

The sale of Tomkins went ahead. As consideration for the shares, the company and trusts received loan notes. Financed by a separate loan from one of the participants, the LLP purchased shares in five unrelated publicly traded companies and sold some of these at a profit shortly afterwards. These were, however, the only transactions which took place over its nine-month existence. Otherwise, the LLP continued to accumulate dividends from the remaining shares. The loan notes were transferred to the LLP some months later before the LLP was liquidated in 2011.

Mr Hutchings’s attention was unexpectedly distracted by other business and personal issues, and he ultimately decided to liquidate the LLP rather than continue to pursue the investment business. Although the LLP made a small profit on its investments, the structure also saved approximately £2.7m in capital gains tax. There was a clear tax incentive and the scheme had in fact been notified to HMRC under the disclosure of tax avoidance schemes (DOTAS) regime.

The taxpayer’s appeal raised two issues:

• Was the partnership ‘carrying on a trade or business with a view to profit’? Only if it was not would it be treated as opaque under TCGA 1992, s 59A triggering a capital gain. The tribunal referred to this as the ‘substantive issue’ to be decided first.
• Assuming that this was the case and a tax liability had arisen, there was also a secondary ‘procedural issue’. Was the discovery assessment on which HMRC relied validly made under TMA 1970, s 29?

HMRC needed to win on both issues in order to succeed in the First-tier Tribunal.

The substantive issue

At the core of the substantive issue was the age-old question of whether the partnership was engaged in a trade or business. The taxpayer’s argument was that both were an appropriate description of its share-dealing activities.

1. Trading

On the correct approach to adopt, the tribunal briefly reviewed the guidance in Ransom v Higgs [1974] STC 539, and Ingenious Games LLP v HMRC [2021] STC 1791. Although it is trite law that ‘trade’ cannot be precisely defined, the tribunal concluded that it was necessary to take a ‘multi-factorial approach, starting with an examination of precisely what the LLP did’.

On the basis of these authorities, the tribunal invoked the ‘badges of trade’ outlined in the classic case of Marson v Morton [1986] STC 463, albeit ‘with the qualification that they are no more than ‘common sense guidance to the conclusion which is appropriate’ rather than a legal test to be applied rigidly. It identified five factors of particular relevance to the current facts and structured its analysis around them.

First, the tribunal examined the frequency of the share transactions. It noted that the LLP had only bought and sold shares once before the liquidation. This compared particularly unfavourably with the ‘high degree of frequency and volume of transactions’ which would be expected in a typical financial trading business.

Second, the tribunal turned to the subject matter of the transactions. It identified ‘what might be seen as a presumption that purchasing and selling marketable securities is an investment rather than a trading activity’ drawing, in particular, on Cooper v Clark [1982] STC 335.

Third, the tribunal addressed the way in which the transactions were executed. The ‘key characteristic’ which would exist in a financial trading business would be ‘the existence of a degree of organisation together with a suitably articulated trading methodology’ above and beyond the kind of work associated with actively managing a portfolio of personal investments.

Fourth, the tribunal pointed to the source of finance, since ‘a transaction funded with borrowed money is more likely to be a trading transaction as borrowing is a pointer towards an intention to buy with an intention to resell in the short term’. Although the funding had been provided by a loan through the structure, the tribunal considered that this was a non-commercial ‘soft arrangement’ fundamentally different from ‘externally provided arm’s length finance’.

Finally, it highlighted ‘the purchaser’s intentions as to resale at the point of purchase’. Although the tribunal provided little explanation, it seems to have considered that a generalised intention to sell or hold (as expedient) was not sufficiently clear-cut and the facts here were more akin to management of an investment portfolio.

The tribunal concluded that, taking a holistic view, the LLP was not engaged in a trade. Notably, it was keen to emphasise that its conclusion was based on the activities of Mr Hutchings and the LLP, and was not clouded by the tribunal’s earlier conclusion that the LLP was set up at least in part for its role in a tax mitigation arrangement.

2. Business

The taxpayer was still able to win by persuading the tribunal that the LLP’s activities were sufficient to constitute a ‘business’. Perhaps even more than the word ‘trade’, ‘business’ is a somewhat vague term which can take a variety of different meanings depending on the context.

As its guide, the tribunal followed the approach taken in GE Financial Investments Ltd v HMRC [2023] STC 1275, in the rather different context of a double tax convention. Summarising its conclusions, the tribunal noted:

‘The expression “business” is an “etymological chameleon” and the expression “imperatively” demands a consideration of the object of the legislation; any gainful use to which a company puts any of its assets prima facie amounts to the carrying out of a business; however not every isolated act of a kind authorised by a company’s memorandum if done by a company necessarily constitutes the carrying on of a business by it; and the carrying on of a business usually calls for some activity on the part of the person carrying it on, though, depending on the nature of the business, the activity may be intermittent with long intervals of quiescence in between.’

This is relevant but not particularly helpful in making a practical judgment. More useful were the three other principles from GE Financial which the tribunal highlighted. The first was that legislative context would be ‘critically important’ in construing the specific meaning of ‘business’ in any given context. For this reason, there should be caution in reading across principles from authorities occurring in different statutory contexts. The second was that ‘an activity [could] still be a business even if it is carried on in a less direct or passive way’. The third was that the existence of a business was not necessarily negated by the existence of ‘long periods of inactivity’ when, for example, the business was simply falling back on its passive income.

The tribunal turned to the specific context of TCGA 1992, s 59A. On the basis of the explanatory notes, it found that there was no obvious ‘anti-avoidance purpose’ in the enactment. It also found that ‘“business” had broader scope than “trade” because LLPA 2000, s 18 also defined “business” [to] include every trade, profession, and occupation’.

Rightly, it also rejected HMRC’s submission that the reference to trade somehow ‘coloured’ the interpretation of ‘business’ as well. The tribunal went on to reject the argument that a Ramsay-style reading of the statute was also necessary in order to take a purposive view of the legislation and ‘realistic’ interpretation of the facts. The question posed by TCGA 1992, s 59A is very clear: is there an LLP and, if so, is it carrying on a trade or business with a view to profit? There was no dispute as to the transactions that were carried out so the tribunal found it difficult to see how there could be scope to interpret the legislation or the facts differently. In taking this approach, this tribunal has perhaps exercised more restraint than others when it comes to Ramsay.

The practical analysis followed this approach:

• Business should be construed in accordance with ‘ordinary commercial usage’ and must, in principle, encompass bona fide investment businesses.
• In carrying out its activities, the partnership was carrying out the purpose for which it had been established.
• An investment business was inherently more likely to be passive than a non-investment business.

The tribunal noted that the partnership was founded for the purpose of making a return from dealing in high-yield shares. To this end, it was intended to maximise its returns by exploiting income and capital appreciation as it saw fit. The partnership’s activities were ‘consistent with that business purpose’ and would always require relatively little day-to-day activity. The existence of a collateral tax motivation was not sufficient to colour this analysis. On this basis, the tribunal sided with the taxpayer.

3. View to profit

The final issue was whether the business could be said to have had a ‘view to profit’. The tribunal dispensed rapidly with this issue. It noted, following Ingenious, that ‘there must be a genuine purpose to earn a profit although that need not be the main purpose, and the test to be applied is a subjective one’. The criteria was clearly met.

The procedural issue

Although made redundant by the tribunal’s conclusions on the substantive issue, the tribunal noted briefly that it would have sided with HMRC on this issue. The taxpayer’s objection was based on the idea that no discovery assessment could be made because ‘an officer’ had never actually ‘discovered’ a loss of tax (TMA 1970, s 29(1)) but merely followed HMRC’s internal instructions in relation to DOTAS. Although interesting, the tribunal was clearly unsympathetic to this argument and dismissed it on the facts.

Commentary

Although the facts of GCH Corporation Ltd are unusual, this is in many respects a surprising victory for the taxpayer by virtue of it being a notified avoidance arrangement which has succeeded. The difficulty in demonstrating that any investment-related business is trading will be familiar to many advisers although here, given the statutory context, it did not affect the outcome.

The tax saving was very significant especially in relation to the rest of the investment business’ profits, so scepticism was perhaps inevitable from HMRC. As always, it helps to counter such scepticism by contemporaneous evidence where possible. Business plans, projections, market research and professional advice can all be helpful indicators in this regard.

One of the less publicised measures announced in the October Budget will put a stop to any similar wider planning. A new TCGA 1992, s 59AA is proposed, effective for liquidations that commence on or after 30 October 2024, which will deem that a disposal arises when an LLP is liquidated and assets a member has contributed are disposed of to the member, or to a company or other person connected to them.