Inland Revenue v Kahn & Anor [2000] EWCA Civ 86 (23 March 2000)

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case no: CHANF 99/0937/a3
IN THE SUPREME COURT OF JUDICATURE
COURT OF APPEAL (CIVIL DIVISION)
ON APPEAL FROM THE CHANCERY DIVISION
MR JUSTICE EVANS-LOMBE
ROYAL COURTS OF JUSTICE
STRND, LONDON WC2A 2LL
Thursday 23 March 2000

LORD JUSTICE CHADWICK:
1. This is an appeal against an order made on 30 July 1999 by Mr Justice Evans-Lombe on an application made pursuant to section 112(1) of the Insolvency Act 1986 by the joint liquidators of Toshoku Finance UK Plc ("the Company") for directions in relation to the discharge of an alleged liability to corporation tax on interest receivable after the commencement of the winding up. The Commissioners of Inland Revenue were respondents to that application. The judge held that the liquidators were not required to discharge any liability for corporation tax upon post-liquidation income out of the company's assets as an expense of the winding-up. But he took the view that the application had raised a point of general importance in insolvency law; and so gave permission to appeal to this Court.

2. The Company was incorporated in 1990 under the Companies Act 1985. At all material times it was a wholly owned subsidiary of Toshoku Finance Limited, a company registered and incorporated in Japan. Toshoku Finance Limited was itself a wholly owned subsidiary of Toshoku Limited - the ultimate holding company of the Toshoku group of companies. The Toshoku group comprised in excess of 150 companies; of which most traded within Japan. In so far as the group traded outside Japan it was engaged, principally, in the import and export of foodstuffs. The role of the Company was to raise finance and provide funding for other overseas subsidiaries in the group. The Company raised funds by borrowing from Japanese banks on the London market. It provided funding for the group by lending, principally, to Toshoku Europa Establishment ("TEE") - a company incorporated in Liechtenstein.
3. By late 1997 the Toshoku group was in financial difficulties. On 18 December 1997 the directors of Toshoku Limited filed a petition for re-organisation in Japan. At or about the same time Toshoku Finance Limited was placed in liquidation in Japan. The Company itself went into creditors' voluntary liquidation under the Insolvency Act 1986 pursuant to resolutions passed on 26 January 1998. The estimated deficiency as regards creditors was shown in the statement of affairs prepared by the directors at US$157 million or thereabouts. Mr Neville Kahn and Mr Nigel Vooght, licensed insolvency practitioners and partners in PricewaterhouseCoopers, were appointed joint liquidators.
4. The principal asset of the Company on liquidation was a debt owed to it by TEE. That debt was quantified at US$156.3 million (including interest accrued prior to 26 January 1998). The whole of that debt remained outstanding until 25 November 1998. On that date it was discharged by an agreement made between the Company (acting through its liquidators) and TEE. Under the terms of that agreement the Company agreed to accept payment of a sum equivalent to a little over 54% of the funds available for distribution to TEE's creditors in accordance with the terms of an arrangement (described as a "Dividend Plan") approved by those creditors, on or about 21 October 1998 following mediation in Tokyo, "in full and final settlement of its claim as at 26 January 1998". The agreement of 25 November 1998 declared "for the avoidance of doubt" that the sum to be paid to the Company represented "the repayment of the principal only, and does not include any amounts in respect of such interest as may hitherto have accrued thereon but have remained unpaid". In the event the Company became entitled to receive a payment under that agreement of approximately US$23 million.

5. The joint liquidators have reserved the right to argue that TEE was under no contractual obligation to pay interest on the loans made to it by the Company. That contention faces obvious difficulties. What may be seen as an attempt to meet those difficulties is found in clause 2 of the agreement of 25 November 1998; which provides, without prejudice to the liquidators' contention that interest may not be contractually payable in any event, that no interest will be payable by TEE in respect of the outstanding loan to the Company for the period after 26 January 1998. It is unnecessary for this Court to decide whether that attempt can succeed; or whether the difficulties which the liquidators face in resisting the conclusion that the TEE debt was interest-bearing can be overcome in some other way. The question whether or not TEE was under a contractual liability to pay interest on the monies borrowed from the Company does not arise for decision on this appeal. This appeal has been argued - as was the application before the judge - on the basis that there was a contractual obligation on TEE to pay interest on its borrowing from the Company; and, in particular, that there was a contractual liability to pay interest on the whole of the loan outstanding (US$156.3 million) at the date of commencement of the liquidation of the Company, 26 January 1998, until the discharge of that loan on 25 November 1998.
6. The reason why the liquidators are concerned to resist (if they can) the conclusion that TEE was under a contractual liability to pay interest on the monies which it had borrowed from the Company lies in the fact that it is accepted on their behalf (at least for the purposes of the present application) that the effect of the applicable provisions in the Income and Corporation Taxes Act 1988 ("ICTA 1988") and the Finance Act 1996 ("FA 1996") is to impose on the Company a liability to corporation tax on the interest payable by TEE notwithstanding that no interest has actually been paid.
7. The Commissioners contend not only that the Company is liable to corporation tax on the interest payable by TEE after 26 January 1998 - notwithstanding that the Company has not received, and never will receive, the whole or any part of that interest - but, further, that that liability to tax must be discharged out of the Company's assets as an expense of the winding-up. It is that latter contention which gave rise to the application by the liquidators under section 112(1) of the Insolvency Act 1986; and which is in issue on this appeal.

8. Although it is not in dispute that that the effect of the applicable provisions in the taxing statutes is to impose on the Company a liability to corporation tax on the interest payable by TEE notwithstanding that no interest has actually been paid, it is necessary, for the purposes of this appeal, to understand how that liability arises.
9. It is convenient, first, to rehearse the basic structure by reference to which a charge to corporation tax is imposed by ICTA 1988. Section 6(1) provides for corporation tax to be charged on profits of companies. In that context "profits" means income and chargeable gains - see section 6(4)(a). Section 8(1) provides that a company shall be chargeable to corporation tax on all its profits whenever arising. Section 8(2) provides (in terms) that a company shall be chargeable to corporation tax on profits arising in its winding up. Section 8(3) provides that corporation tax for any financial year shall be charged on profits arising in that year; but that the tax is to be computed and chargeable by reference to accounting periods. Section 12(1) requires that the tax shall be assessed and charged for any accounting period of the company on the full amount of the profits arising in that period (whether or not received in or transmitted to the United Kingdom) without any deduction; other than deductions authorised by the Corporation Taxes Acts - meaning the enactments relating to the taxation of the income and chargeable gains of companies.
10. Sections 12(2) and (3) ICTA 1988 set out the basic rules for determining what shall be an accounting period of a company. Section 12(7) contains special rules applicable to companies in winding-up. It is in these terms:

"12(7) Notwithstanding anything in sub-sections (1) to (6) above, where a company is wound up, an accounting period shall end and a new one begin with the commencement of the winding up, and thereafter . . . an accounting period shall not end otherwise than by the expiration of twelve months from its beginning or by the completion of the winding up."

11. The effect, in the present case, is that the Company is chargeable to corporation tax on profits arising in the accounting period which commenced on 26 January 1998. That accounting period extended over the twelve months from that date; and so covered the whole of the period from 26 January to 25 November 1998.
12. Chapter II in Part IV FA 1996 contains provisions governing the corporation tax chargeable on profits and gains arising to a company from its "loan relationships". All profits and gains arising to a company from its loan relationships are chargeable to corporation tax as income - see section 80(1). In that context a company has a loan relationship wherever it stands in the position of a creditor (a "creditor relationship") or a debtor (a "debtor relationship") as respects any money debt; and that debt is one arising from a transaction for the lending of money - see section 81(1). Where a company is party to a loan relationship, profits and gains arising from that relationship must be computed using the credits and debits given for the accounting period in question by the further provisions contained in Chapter II, Part IV FA 1996 - see section 82(1).
13. Section 84(1) FA 1996 is in these terms (so far as material):

"84 (1) The credits and debits to be brought into account in the case of any company in respect of its loan relationships shall be the sums which, in accordance with an authorised accounting method and when taken together, fairly represent, for the accounting period in question -
(a) . . . ; and
(b) all interest under the company's loan relationships and all charges and expenses incurred by the company under or for the purposes of its loan relationships and related transactions."

14. Section 85(1) FA 1996 prescribes the alternative accounting methods authorised for the purposes of Chapter II, Part IV. They are (a) an accruals basis of accounting and (b) a mark to market basis of accounting. But section 85(1) is subject to the provisions in section 87. That section applies where, for any accounting period there is a connection between the company and the debtor (or creditor, as the case may be) with whom it is in a loan relationship as respects the debt in question - see section 87(1). Where section 87 applies, the only accounting method authorised for the purposes of Chapter II, Part IV as respects that loan relationship is an authorised accruals basis of accounting - see section 87(2). For the purposes of section 87 there is a connection between a company and another person (being also a company) for an accounting period if there is a time in that period or in the two years before the beginning of that period when both companies have been under the control of the same person - see section 87(3).
15. Section 85(2) FA 1996 requires that an accounting method shall not be treated as authorised for the purposes of Chapter II, Part IV unless it contains proper provision for allocating payments under a loan relationship to accounting periods; and section 85(3) provides that, in the case of an accruals basis of accounting, proper provision for allocating payments under a loan relationship to accounting periods is a provision which (amongst other things):

". . . (c) assumes, subject to authorised arrangements for bad debt, that, so far as any company in the position of a creditor is concerned, every amount payable under the relationship will be paid in full as it becomes due; . . ."

16. It is not in dispute that the Company had a loan relationship with TEE; nor that that relationship ended on 25 November 1998. Nor is it in dispute (at least for the purposes of the application and this appeal) that there was a connection between the Company and TEE for the accounting period which commenced on 26 January 1998. The effect is that, in relation to that accounting period, the Company is required to use the authorised accruals basis of accounting as respects its loan relationship with TEE; and, further, that "subject to authorised arrangements for bad debt", the Company must bring into account, in the computation of its profits for that accounting period, the amounts of interest payable by TEE on the basis that that interest was paid in full as it became due.
17. For the purposes of section 85 FA 1996 references to "authorised arrangements for bad debt" are references to accounting arrangements under which debits and credits are brought into account in conformity with the provisions of paragraph 5 of schedule 9. Paragraph 5(1) of schedule 9 provides that, in determining the credits and debits to be brought into account in accordance with an accruals basis of accounting, a departure from the assumption in the case of the creditor relationships of a company that every amount payable under those relationships will be paid in full as it becomes due shall be allowed (subject to paragraph 6 of the schedule) to the extent only that (a) the debt is a bad debt; (b) a doubtful debt is estimated to be bad; or (c) a liability to pay any amount is released.
18. It would follow, but for the provisions contained in paragraph 6 of schedule 9 FA 1996, that a departure from the assumption that interest payable by TEE to the Company will be paid in full as it becomes due would be allowed, following the agreement of 25 November 1998, under paragraph 5(1)(c) of schedule 9; and would have been allowed even without that agreement - at least to the extent that the outstanding loan was or was estimated to be a bad debt - under paragraph 5(1)(a) or (b) of that schedule.
19. But the arrangements for bad debt authorised by paragraph 5 of schedule 9 have no application where the company and its debtor are connected. That is the effect of paragraph 6 - to which paragraph 5 is expressly made subject. Paragraph 6 is in these terms, so far as material:

"6 (1) This paragraph applies where for any accounting period section 87 of this Act requires an authorised accruals basis of accounting to be used as respects a creditor relationship of a company.
(2) The credits and debits which for that period are to be brought into account for the purposes of this Chapter in accordance with that accounting period shall be computed subject to sub-paragraphs (3) to (6) below."
(3) The assumption that every amount payable under the relationship will be paid in full shall be applied as if no departure from that assumption were authorised by virtue of paragraph 5 above . . ."

20. Section 87 of the Act - as I have already indicated - requires an authorised accruals basis of accounting to be used as respects a creditor relationship of a company in a case where for any accounting period there is a connection between the company and its debtor.
21. That is accepted to be the position in the present case. It follows that in computing its profits in respect of the accounting period which commenced on 26 January 1998 the Company must bring into account every amount of interest contractually payable by TEE under the loan on the assumption that every such amount will be or will have been paid in full - there being no departure allowed from that assumption because the Company and TEE are connected.

Discharge of a post-liquidation liability out of assets in a winding up.
22. Section 411(1) of the Insolvency Act 1986 ("IA 1986") gives power to the Lord Chancellor, with the concurrence of the Secretary of State, to make rules for the purposes of giving effect to (inter alia) Part IV of the Act (Winding up of companies registered under the Companies Acts). Without prejudice to the generality of the power conferred by section 411(1) those rules may contain any such provision as is specified in schedule 8 to the Act. Paragraph 12 in schedule 8 includes: "Provision as to the debts that may be proved in a winding up". The Rules made under section 411 IA 1986 are contained in the Insolvency Rules 1986 (S.I. 1986 No 1925). Rule 12.3(1) provides that, subject to the following provisions of that rule, all claims by creditors are provable as debts against the company, whether present or future, certain or contingent, ascertained or sounding only in damages. But that provision must be read in conjunction with rule 13.12:
"13.12(1) "Debt", in relation to the winding up of a company, means . . . any of the following -
(a) any debt or liability to which the company is subject at the date on which it goes into liquidation;
(b) any debt or liability to which the company may become subject after that date by reason of any obligation incurred before that date; . . ."

23. The effect is that a post-liquidation debt (not being a debt or liability arising out of an obligation incurred before the commencement of winding up) is not provable in the liquidation.
24. Liability to corporation tax on profits arising in the accounting period which commences with the winding up (section 12(7) ICTA 1988) cannot satisfy paragraph (a) of rule 13.12. Nor is it a liability to which the company becomes subject after the commencement of winding up by reason of any obligation incurred before that date, so as to fall within paragraph (b). So liability to corporation tax on post-liquidation profits must be a post-liquidation debt; and, as such, is not a debt capable of proof in the winding up. It follows that, if corporation tax on post-liquidation profits is payable out of the assets of a company at all, it must be payable either ahead of the provable debts, as an expense properly incurred in the winding up; or, perhaps, out of any surplus remaining after the expenses and the provable debts have been paid in full.

25. Section 115 IA 1986 is within Chapter V, Part IV of that Act (Provisions apply- ing to both kinds of voluntary winding up). The section is in these terms:
"115. All expenses properly incurred in the winding up, including the remuneration of the liquidator, are payable out of the company's assets in priority to all other claims."

26. It is in that context that the liquidators' application in the present case seeks directions whether the liquidators are required to discharge the company's liability to pay corporation tax on post-liquidation profits out of the company's assets "in priority to all other claims as an expense of the winding up pursuant to Section 115 Insolvency Act 1986".

27. The question whether income tax assessed under schedule D in respect of years of assessment after the commencement of a voluntary winding up was payable out of the company's assets as an expense of the winding up was considered by Mr Justice Maugham in In re Beni-Felkai Mining Company Limited [1934] Ch 406. The resolution for voluntary winding up had been passed in December 1925. Accordingly, the company was being wound up under the provisions of the Companies (Consolidation) Act 1908. Section 196 of that Act was in terms indistinguishable from those re-enacted as section 115 IA 1986:

"196. All costs, charges and expenses properly incurred in the vol- untary winding up of a company, including the remuneration of the
liquidator, shall be payable out of the assets of the company in priority to all other claims."
28. Section 193 of the 1908 Act gave the court power, on an application made to it in the course of a voluntary winding up, to exercise any of the powers which the court might exercise if the company were being wound up by the court. That enabled the court to exercise, in a voluntary winding up, the power conferred by section 171 of that Act:
"171. The court may, in the event of the assets being insufficient to satisfy the liabilities, make an order as to the payment out of the assets of the costs, charges, and expenses incurred in the winding up in such order of priority as the court thinks just."

29. Section 237(1) of the 1908 Act gave power to make rules for carrying into effect the objects of that Act. The rules made under that power were contained in the Companies (Winding up) Rules 1909. Rule 187, which provided for the order in which expenses incurred in a winding up should be paid out of the assets, applied only to cases where the company was being wound up by the court. There was no comparable rule applicable to voluntary winding up.
30. The circumstances in which the question arose in the Beni-Felkai case appear from a passage at page 416 in the judgment of Mr Justice Maugham. After describing the claims to tax, he said this:

"The peculiarity of the case is that these claims for income tax are in respect of profits earned by the company since liquidation while it has been in the hands or under the control of the liquidator. The debts are not therefore provable debts. The Crown claims that the liquidator should be ordered to pay those sums out of monies in his hands. It so happens that there are no sums at present in hand, but on the contrary the sum of £890 is overdrawn at the bank. Technically, however, the liquidator may have sums in hand as he has retained remuneration at the rate of £1000 per annum, in addition to considerable sums for travelling expenses. Counsel for the Crown suggested that those sums should be struck out of his account and that he should be ordered out of the resulting balance to pay the three sums I have mentioned, . . ."

31. After referring to rule 187 of the 1909 Rules, and expressing the view that, although it had no direct application in the voluntary winding-up with which he was concerned, it might be of some (but not much) use by way of analogy, Mr Justice Maugham went on, in a passage which begins at the foot of page 417 and continues over to page 419:

"I turn back to s. 171, and reading that, in connection with this case, with s. 196 of the Companies (Consolidation) Act 1908, for the purpose of seeing whether the claim to tax such as I have described is one of the expenses of the liquidator, there are two things, I think, to be borne in mind. The first is that income tax under Schedule D is a necessary consequence of the acts performed by the liquidator in the course of the liquidation for the purpose of realizing, as it was his duty to do, the assets of the company. In a proper case a business has to be carried on with a view to realization. If it is carried on, as it sometimes is, at a profit, the liability to pay income tax in the case of an English company which is domiciled here is necessarily incurred. The second thing to be borne in mind is that income tax is a Crown debt. . . . I think it is true in the case of a liquidator that he is not personally liable to discharge out of his own moneys income tax incurred in the way I have mentioned . . . but there remains the fact that the tax is one payable as a Crown debt, which may be sued for and recovered in the High Court as a debt due to the Crown. I have a difficulty in seeing how a liquidator who, in the course of his liquidation carries on the business of the company at a profit, the consequence being the assessment of the company to income tax, can avoid the conclusion that this is one of the expenses in the winding up. . . . In my opinion rates and taxes - and for this purpose I can group them together, although there is for some purposes a distinction between them - falling due subsequently to the winding up are part of the expenses of the winding up. . . . I do not see any particular reason for limiting the meaning of the phrase "expenses of the liquidation," or "expenses incurred in the winding up." The term is not one of art and I see no reason why it should not include any expenses which the liquidator might be compelled to pay in respect of his acts in the course of a proper liquidation of the company's assets. In my opinion, then, the sums in question are sums which can be properly treated as expenses in the liquidation. . . ."

32. Mr Justice Maugham held, therefore, that the tax claimed was an expense incurred in the winding up and, as such, was payable out of the assets of the company in priority to the claims of creditors proving in the winding up by virtue of section 196 of the 1908 Act. But expenses incurred in the winding up fell, also, within section 171 of the 1908 Act - which gave the court power to adjust the order of priority of expenses inter se. Accordingly, Mr Justice Maugham was able to go on to consider whether, and to what extent, the liquidator's remuneration should be paid in priority to the tax. Both were payable in priority to other claims by virtue of section 196; but the court was not constrained, by rule 187 or any other rule, to hold that either should have priority over the other. In the event, he held, on the particular facts of that case, that the liquidator's retention of monies on account of his remuneration prior to the final assessment to tax should not be disturbed; but that there should be an inquiry as to the amount which he should be allowed in respect of any period thereafter.
33. The question arose in the context of a post-liquidation liability to corporation tax in In re Mesco Properties Ltd [1979] 1 WLR 558. A winding up order had been made in December 1970. Before the commencement of the winding up, a receiver had been appointed over certain properties of the company charged to a bank. Between 1971 and 1973 nine of those properties had been sold by the receiver at prices substantially in excess of the cost of acquisition. In 1971 a further property (in respect of which there was no receiver) was sold by the bank as mortgagee, also at a substantial profit over acquisition price. Between 1971 and 1976 a further eleven properties were sold by the liquidator; again, most were sold at prices in excess of acquisition cost. As a result, chargeable gains accrued under provisions then contained in the Finance Act 1965. The effect of those provisions was that the whole of the liability fell to be paid by the company - the receiver and the mortgagee being treated as its nominee by virtue of section 22(7) of that Act. Mr Justice Brightman described the resulting tax position in these terms, at page 560:

"As a result of these realisations there accrued to the liquidator a net balance of £736,197 after discharging encumbrances and costs. Chargeable gains accruing to a company are liable to corporation tax under section 238 of the Income and Corporation Taxes Act 1970 [now section 8(1) ICTA 1988]. Under section 243(2) [now section 8(2) ICTA 1988] a company is chargeable to corporation tax on profits arising in the winding up thereof. Under section 238(4) [now section 6(4)(a) ICTA 1988] such profits include chargeable gains. The total liability to corporation tax on these chargeable gains has been calculated at £634,440. This is only about £100,000 less than the balance of the proceeds of sale which came into the hands of the liquidator. Indeed the corporation tax could well have exceeded the net balance, in which case it would have paid the liquidator to disclaim the properties if by doing so he could have avoided liability to tax. . . ."
34. The statutory provisions and rules applicable to a winding up which had commenced in 1970 were contained in the Companies Act 1948 and the Companies (Winding-up) Rules 1949. Section 267 of the 1948 Act was in the same terms as section 171 of the Act of 1908. Rule 195(1) of the 1949 Rules was in substantially the same terms as rule 187(1) of the 1909 Rules:

"195(1)The assets of a Company in a winding up by the Court, remaining after payment of the fees and expenses properly incurred in preserving, realising or getting in the assets, . . . shall, subject to any order of the Court, . . . be liable to the following payments, which shall be made in the following order of priority, namely:-
First. - The taxed costs of the petition, . . .
Next. - . . .
Next. - . . .
Next. - . . .

Next. - The necessary disbursements of any Liquidator appointed in the winding-up by the Court, other than expenses properly incurred in preserving, realising the assets of the Company heretofore provided for.
Next. - . . .
Next. - The remuneration of any such Liquidator.
Next. - . . ."

35. In a passage at page 560F-561B, Mr Justice Brightman identified the two issues with which he was concerned:

"The first question asked can be stated as follows. (A) Whether the corporation tax is part of "the fees and expenses properly incurred in preserving, realising or getting in the assets" within the meaning of the opening words of rule 195(1) of the Companies (Winding-up) Rules 1949. If so, the tax is one of the first payments to be made by the liquidator out of the assets. The tax would rank in front of the costs of the winding-up petition, the liquidator's remuneration and the other matters mentioned in the paragraphs of rule 195(1). (B) If not, whether the tax is part of "the necessary disbursements of any liquidator appointed in the winding-up by the court other than expenses properly incurred in preserving, realising or getting in the assets heretofore provided for." This is the fifth paragraph of rule 195(1). The tax would then rank after the taxed costs of the petition and certain other matters, but in front of the liquidator's fees. (C) If not, whether the tax is a debt or liability ranking pari passu with the claims of the ordinary unsecured creditors. This alternative was abandoned before me, because it is accepted that only liabilities which are subsisting at the date of the winding-up order are capable of proof: In re General Rolling Stock Co. (1872) LR 7 Ch App 646. (D) Alternatively, whether the tax is postponed to the debts of the unsecured creditors. In this case, the fees of the liquidator could be paid in full.
"The second question is whether the tax comes within the expression "the costs, charges and expenses incurred in the winding-up" in section 267 of the Companies Act 1948. If so, the court would have power to make an order for the payment thereof out of the assets in such order of priority as the court considered just, and could therefore postpone the tax to the costs of the petition and the fees of the liquidator."

36. Mr Justice Brightman rejected the possibility that the claim to corporation tax was postponed to the claims of the unsecured creditors proving in the winding up. He said this, at page 561C-E:

"As I have already said, section 243(2) of the Income and Corporation Taxes Act 1970 expressly enacts that a company is chargeable to corporation tax on a capital gain arising in the winding up. It follows that the tax is a charge which the liquidator is bound to discharge by payment, to the extent that assets are available. It is, therefore, to my mind, beyond argument that the payment of the tax is a "necessary disbursement" of the liquidator and must come within the fifth paragraph of rule 195(1) of the Companies (Winding-up) Rules unless it is "an expense properly incurred in preserving, realising or getting in the assets," in which case it is excepted from the fifth paragraph because it falls within the opening words of the sub-rule. One can start, therefore, by ruling out construction (D) as well as construction (C). The tax cannot rank with or after the debts of unsecured creditors. It is either an expense incurred in realising or getting in the assets or a necessary disbursement of the liquidator which is not properly described as an expense so incurred."

37. Mr Justice Brightman then addressed the question whether the tax was an expense incurred in realising or getting in the assets. If it were, then it would be payable (under rule 195 of the 1949 Rules) ahead of both the costs of the petition and the liquidator's remuneration. He pointed out that Mr Justice Maugham had not found it necessary to decide that question in the Beni-Felkai case; but had expressed a view, obiter, that tax payable under schedule D was not within the comparable expression, in rule 187(1) of the 1909 Rules, "fees and actual expenses incurred in realising or getting in the assets". He went on, at page 562H-563E:

"I respectfully agree with his conclusion, given obiter, that in the case of a compulsory liquidation income tax incurred by the liquidator under Schedule D in carrying on the business of the company after the date of the order is not an expense incurred in realising or getting in the assets notwithstanding he is carrying on the business in the course of the performance of his duty to realise and get in the assets: nor do I think that corporation tax on a capital gain made by the liquidator when he sells an asset is "an expense incurred in realising" that asset. It is not like the fees payable to a solicitor or estate agent in connection with a sale, or the advertising costs of a sale which are clearly part of the expenses of the sale. The tax does not assist the liquidator to sell. Nor is it a necessary result of the sale. It is merely a possible consequence of a sale at a profit. Even when a sale has been made at a profit the liquidator may not know whether any tax will ultimately be payable. This will depend on what, if any, profits, including both income and chargeable gains or losses, arise in the financial year and whether any losses can be carried over from a previous year. The tax is merely a possible consequence of the realisation of an asset at a profit; it is not an expense which the liquidator incurs for the purposes of, or as a direct result of realising that asset, and therefore is not, in my view, an expense incurred in realising it. However it seems to me equally clear, as I have already indicated, that the tax is a necessary disbursement of the liquidator and therefore falls within the fifth paragraph of rule 195(1).
I turn now to the second question. The Beni-Felkai case is direct authority that Schedule D income tax is a charge or expense "incurred in the winding up" within the meaning of what is now section 267 of the Act. It seems to me equally clear that corporation tax is also such a charge or expense. This follows from the decision which I have already made that the tax is a necessary disbursement of the liquidator.
I therefore decide against what I have called construction (A) and in favour of construction (B). I will also declare that the tax is a cost charge or expense incurred in the winding up within the meaning of section 267."

38. Mr Justice Brightman's decision in the Mesco Properties case was upheld in the Court of Appeal, [1980] 1 WLR 96. Lord Justice Buckley delivered the principal judgment. At page 100E-F he expressly agreed with the passage in the judgment of Mr Justice Brightman (at page 561) to which I have already referred:

"It follows that the tax is a charge which the liquidator is bound to discharge by payment, to the extent that assets are available. It is, therefore, to my mind, beyond argument that the payment of the tax is a "necessary disbursement" of the liquidator and must come within the fifth paragraph of rule 195(1) of the Companies (Winding-up) Rules unless it is "an expense properly incurred in preserving, realising or getting in the assets," in which case it is excepted from the fifth paragraph because it falls within the opening words of the sub-rule."

39. He agreed, also, with Mr Justice Brightman's conclusion that corporation tax on a capital gain, made when a liquidator sells an asset, was not an "expense incurred in realising that asset". It followed that what was plainly a "necessary disbursement" was not taken out of the fifth paragraph of rule 195(1) of the 1949 Rules by the exception which reflected the opening words of that rule. Lord Justice Buckley agreed, further, with Mr Justice Brightman's view that the corporation tax was a charge or expense incurred in the winding up; and so within section 267 of the 1948 Act. Lord Justice Bridge agreed, expressly, with the judgment of Mr Justice Brightman, as well as with that of Lord Justice Buckley. The third member of the court, Lord Justice Templeman, agreed with Lord Justice Buckley; but he did not express disagreement with anything in the judgment of Mr Justice Brightman.
40. Leading Counsel instructed by the joint liquidators on this appeal, Mr Mark Phillips QC, sought to persuade us that Lord Justice Buckley, in the Mesco Properties case, had introduced a gloss on the reasoning of Mr Justice Brightman in the court below. The point arises from an argument advanced by Mr Dillon QC (as he then was) in the Court of Appeal which had not been advanced before Mr Justice Brightman. The argument is summarised by Lord Justice Buckley at [1980] 1 WLR 96, 99E:

"Mr Dillon, appearing for the liquidator, submits that the judge was wrong to hold that the tax is a disbursement within rule 195 of the Winding-up Rules, because the liquidator has not paid the tax and does not wish to pay it unless, in accordance with the proper priority in which the company's liabilities should be discharged, he is bound to do so; and because the payment of the tax will not advance the liquidation in the sense of making the liquidator more able to distribute the company's assets among its creditors."

41. Lord Justice Buckley rejected that argument. He said this, at pages 99H-100C:

"The first question for consideration is, I think, whether Brightman J was right in holding that the tax constitutes a necessary disbursement within the meaning of the rule. It would, in my view, be a very remarkable thing if the proper priority of a liability under rule 195 were to depend upon whether the liquidator decided to pay it or not, which seems to be the effect of Mr Dillon's argument, for he says that if the liquidator had paid the tax it could properly be described as a disbursement, but that until he pays it, it cannot be so described.
. . . It must, in my view, be open to the liquidator to apply to the court for guidance upon the question whether, if he discharges a certain liability of the company in liquidation, the payment will be a necessary disbursement within the meaning of rule 195. That is what the liquidator is doing in this case. The company is liable for the tax that is due. The tax ought to be paid. The liquidator is the proper officer to pay it. When he pays it, he will clearly make a disbursement. In my judgment it will be a necessary disbursement within the meaning of the rule."

42. Thus far, as it seems to me, there is nothing in the observations of Lord Justice Buckley which could be said to be in any way inconsistent with the judgment of Mr Justice Brightman. Lord Justice Buckley was endorsing the proposition - to which he referred in the next paragraph of his judgment - that because the tax is a charge which arises in the winding up and which the liquidator is bound to discharge by payment, to the extent that assets are available, therefore it is a "necessary disbursement" of the liquidator. But he went on, in the next few sentences, to say this:

"Moreover common sense and justice seem to me to require that [the tax] should be discharged in full in priority to the unsecured creditors, and to any expenses which rank lower in priority under rule 195. The tax is a consequence of the realisation of the assets in the course of the winding up of the company. That realisation was a necessary step in the liquidation; that is to say in the administration of the insolvent estate. The fact that in the event there may be nothing available for the unsecured creditors does not, in my view, mean that the realisation was not a step taken in the interests of all those who have claims against the company. Those claims must necessarily be met out of the available assets in due order of priority. Superior claims may baulk inferior ones, but the liquidator's duty is to realise the assets of all in accordance with their rights. If in consequence of the realisation, the company incurs a liability, the discharge of such liability must, in my judgment, constitute a charge or expense incurred in the winding up within section 267 of the Companies Act 1948 and must also, in my view, fall within rule 195."

43. It is said that, in that passage, Lord Justice Buckley was resiling from - or, at the least, qualifying - the proposition that the tax is a necessary disbursement of the liquidator simply because it is a liability which the liquidator is bound to discharge by payment. But it is necessary to have in mind the context in which the question arose in the Mesco Properties case. The charge to corporation tax had arisen because, after the commencement of the winding up, properties of the company had been realised - some by the liquidator and others by a receiver or by the mortgagee - in circumstances which gave rise to chargeable gains. The effect of the relevant provisions in the Finance Act 1965 was that the whole of the corporation tax charge in respect of those gains fell on the company; with the result that the unsecured creditors received little or no benefit from the realisations. Lord Justice Buckley was pointing out, as it seems to me, that the principle that the tax was a necessary disbursement of the liquidator did not depend on any corresponding element of benefit to the creditors proving in the winding up. The tax was a necessary disbursement because it had become chargeable as a consequence of what had occurred in the course of the winding up.
44. The effect of the decisions in the Beni-Felkai case and the Mesco Properties case was that, under the legislation in force before 1986, tax on post-liquidation profits (including tax on gains) was payable by the liquidator out of the assets in priority to the claims of creditors proving in the winding up: (i) in the case of a voluntary winding up, because the liability to such tax was a charge or expense properly incurred in the winding up and so within section 196 of the 1908 Act (re-enacted as section 254 of the Companies Act 1929 and as section 309 of the 1948 Act) and (ii) in the case of a winding up by the court, because the liability to such tax was a "necessary disbursement" within the fifth paragraph of rule 195(1) of the 1949 Rules (formerly rule 187(1) of the 1909 Rules and rule 192(1) of the 1929 Rules). Further, such tax was a charge or expense incurred in the winding up within section 171 of the 1908 Act (re-enacted as section 213 of the 1929 Act and section 267 of the 1948 Act); with the result that the court had power under those sections (whether in a voluntary winding up or in a winding up by the court) to vary the priority of the payment of that tax (at the least, as against other expenses) as it thought just.

45. Unless the law in relation to the payment of corporation tax on post-liquidation profits has been altered by the legislative changes introduced by IA 1986 and the Rules made under section 411 of that Act, the answer to the question raised by the liquidators in the present application is not in doubt. The point is settled, in this Court at least, by the decision of the Court of Appeal in the Mesco Properties case. The liquidators are required to discharge the tax out of the company's assets in priority to the claims of creditors proving in the winding up.
46. The primary legislative provisions have not changed in any material respect. Section 115 IA 1986 is in substantially the same terms as section 196 of the 1908 Act and its successors (section 254 of the 1929 Act and section 309 of the 1948 Act). Section 156 of the 1986 Act is in substantially the same terms as section 171 of the 1908 Act and its successors (section 213 of the 1929 Act and section 267 of the 1948 Act).
47. The changes lie in the Rules. Rule 195(1) of the 1949 Rules has been replaced by rule 4.218(1) of the Insolvency Rules 1986. So far as material the rule is in these terms:

"4.218(1) The expenses of the liquidation are payable out of the assets in the following order of priority -
(a) expenses properly chargeable or incurred by the official receiver or the liquidator in preserving, realising or getting in any of the assets of the company;

(h) the costs of the petitioner, and of any person appearing on the petition whose costs are allowed by the court;

. . .
(m) any necessary disbursements by the liquidator in the course of his administration (including any expenses incurred by members of the liquidation committee or their representatives and allowed by the liquidator under rule 4.169, but not including any payment of corporation tax in circumstances referred to in sub-paragraph (p) below);
. . .

(o) the remuneration of the liquidator, up to any amount not exceed-ing that which is payable to the official receiver under general regulations;
(p) the amount of any corporation tax on chargeable gains accruing on the realisation of any asset of the company (without regard to whether the realisation is effected by the liquidator, a secured creditor, or a receiver or manager appointed to deal with a sec- urity.
(q) the balance, after payment of any sums due under sub-paragraph (o) above, of any remuneration due to the liquidator."

48. Rule 4.220(1) of the 1986 Rules expressly preserves the power of the court in a winding up by the court - formerly contained in the opening words of rule 195(1) of the 1949 Rules and its predecessors - to make orders under section 156 IA 1986 where the assets are insufficient to satisfy the liabilities. The power under section 156 of the Act continues to be exercisable in a voluntary winding up by virtue of section 112 IA 1986 (the successor to section 193 of the 1908 Act).
49. The first, and perhaps the most obvious, change made by the introduction of rule 4.218(1) of the 1986 Rules in place of the former rule 195(1) of the 1949 Rules (and its predecessors) is that rule 4.218(1) applies in a voluntary winding up as well as in a winding up by the court. The former rule applied only in a winding up by the court. But that change, of itself, could not affect the position as to the payment of tax on post-liquidation profits out of assets in the winding up. Under the law as it stood before 1986, the tax was payable in priority to the claims of creditors proving in the winding up whether the company was in a voluntary winding up or in a winding up by the court. The difference was that, in a voluntary winding up, that result followed directly from the predecessors to section 115 IA 1986; but, in a winding up by the court, the result followed from the predecessors of what is now rule 4.218(1)(m) of the 1986 Rules.
50. The second change made by the introduction of the new rules is that the fifth paragraph of the former rule 195(1):

"The necessary disbursements of any Liquidator appointed in the winding up by the Court, other than expenses properly incurred in preserving, realising or getting in the assets heretofore provided for."

has been replaced in rule 4.218(1) by:
"(m) any necessary disbursements by the liquidator in the course of his administration (. . . but not including any payment of corporation tax in circumstances referred to in sub-paragraph (p) below);
. . .
(p) the amount of any corporation tax on chargeable gains accruing on the realisation of any asset of the company (without regard to whether the realisation is effected by a liquidator, a secured creditor or a receiver and manager appointed to deal with a security);"

51. The loss, in the transition from the fifth paragraph of the former rule 195(1) to paragraphs (m) and (p) of the present rule 4.218(1), of the exclusionary words "other than expenses properly incurred in preserving, realising or getting in the assets" is explained by the fact that provision for payment of expenses incurred in preserving, realising or getting in the assets is now made in the body of the rule itself - at paragraph (a) - rather than, as formerly, in the opening words of rule 195(1).
52. The obvious purpose of the words which now appear in parenthesis in paragraph (m) of rule 4.218(1) of the 1986 Rules - "but not including any payment of corporation tax in circumstances referred to in sub-paragraph (p) below" - is to take out of paragraph (m) some "necessary disbursement" which would otherwise fall within that paragraph and to reintroduce that disbursement lower in the order of ranking; thereby postponing the priority of that disbursement to the remuneration of the liquidator (up to the specified amount) which has been introduced at paragraph (o). Paragraphs (m) and (p) have effect, as it seems to me, on the basis that corporation tax on post-liquidation profits remains a "necessary disbursement" within paragraph (m) - as it had been, within the fifth paragraph of the former rule 195(1) - but subject to the postponement of such part of that corporation tax as is referable to chargeable gains to a limited amount of remuneration for the liquidator. It is, I think, relevant to have in mind, in that context, that the underlying problem, both in the Beni-Felkai case and in the Mesco Properties case, was whether the liquidator could take his remuneration ahead of the claim to tax. It is not surprising, therefore, to find that the new rule 4.218(1) provides what may be regarded as a partial solution to that problem by giving the liquidator priority to limited remuneration ahead of one element of corporation tax. There is no reason to construe "necessary disbursements" in paragraph (m) as no longer including corporation tax on post-liquidation profits. Indeed, having regard to the construction placed by the courts on its predecessor - the fifth paragraph of the former rule 195(1) - it would be surprising if the rule makers had intended to deprive the revenue altogether of the source of payment for some, but not all, of its claim to corporation tax; and even more surprising, if that were the intention, that the rule makers should seek to give effect to it without express words of exclusion.
53. It follows that, in the absence of some compelling authority to the contrary, I would reach the conclusion that the law in relation to the payment of corporation tax on post-liquidation profits has not been altered by the changes effected by IA 1986 and the 1986 Rules - save in the minor respect which I have described.

The judgment below
54. The judge took a different view. At [1999] 2 BCLC 777, 788e-f, he said this:
"However the Mesco Properties case was decided under r 195 of the 1949 rules. Since then those rules have been replaced. The current equivalent of para 5 of rule 195 is r 4.218(1)(m) of the 1986 rules. It is clear that corporation tax arising from gains on the sales of company assets such as was being dealt with in the Mesco Properties case will not fit into sub-r (m) by reason of the last three lines of that sub-rule which expressly exclude `any payment of corporation tax in circumstances referred to in sub-paragraph (p) below', namely, `tax on chargeable gain[s] accruing on the realisation of any asset of the company . . . ' The tax with which the court was concerned in the Mesco Properties case would today be treated as an expense of the winding up taking priority as being included in sub-r (p)."
55. He pointed out that the present case did not concern corporation tax arising on the sale of assets; and went on, at pages 788h-789a:
"The question therefore is whether corporation tax fits into sub-r (m). In my judgment it does not and the decision of the Court of Appeal in the Mesco Properties case does not bind me to find that it does. It seems to me that r 4.218(1) is to be construed as only including so much of any charge to corporation tax payable by a company after its liquidation as is referable to sales of the company's assets. Consistently with this construction provision is made in sub-r (p) for the priority of such corporation tax. There seems no logic in a scheme which gives different priority to corporation tax depending on the source from which it arises. In particular there seems no logic in giving corporation tax from income arising from a source other than the gains arising on a sale of the company's assets, priority over remuneration of a liquidator while corporation tax arising from the sale of assets takes a lower priority. If it is right that the legislature did not intend to differentiate between sources of corporation tax and such tax is to be treated as a disbursement within sub-r (m) there would be no need for sub-r (p) at all."
56. I am unable to accept the judge's reasoning, as set out in that passage. The judge had directed himself, correctly, that "the current equivalent of para 5 of r 195 is r 4.218(m) of the 1986 rules" With that direction in mind, it seems to me that, in order to decide whether rule 4.218(1) is to be construed "as only including so much of any charge to corporation tax payable by a company after its liquidation as is referable to sales of the company's assets", it is necessary, first, to ask whether there is anything in rule 4.218(1) which takes out of paragraph (m) what - having regard to its derivation - would otherwise be within that paragraph; namely, the payment of whatever corporation tax is payable on post-liquidation profits. The concluding words of paragraph (m) - that is to say, the words in parenthesis - do not have that effect. Those words take out of paragraph (m) an element of the corporation tax (but not all the corporation tax) otherwise within that paragraph. Nor does paragraph (p) have that effect. When read with paragraph (m), paragraph (p) merely re-introduces, at a lower point in the order of priority, the element of corporation tax that would otherwise have been within paragraph (m). The fact that "provision is made in sub-r (p) for the priority of [so much of any charge to] corporation tax [payable by a company as is referable to sales of the company's assets]" is as consistent with an intention to postpone the priority of that element of corporation tax on post-liquidation profits as it is with an intention to exclude all other corporation tax on post-liquidation profits from any place in the order of priority at all - thereby reversing what had been held to be the law for over fifty years. If the former construction is to be rejected on the ground that "there seems no logic in a scheme which gives different priority to corporation tax depending on the source from which it arises", then so must the latter construction. There is no more logic in a scheme that excludes some (but not all) elements of the corporation tax payable on post-liquidation profits from any place in the order of priority than there is in a scheme which gives to some elements of that tax a greater priority than it gives to others. But one of those constructions must reflect the rule makers' intention. And, as I have pointed out, the context in which the problem arose in the Beni-Felkai case and the Mesco Properties case lends support to the view that there was some reason why the rule makers should have intended, when framing the 1986 rules, to achieve a compromise between the claims of the revenue to corporation tax on post-liquidation profits and the need to provide remuneration for the liquidator.
57. If paragraphs (m), (o) and (p) of the 1986 rules are seen as a compromise between the claims of the revenue and the need to provide remuneration for the liquidator, the scheme does have a certain logic. It is pertinent to have in mind that, although the charge to corporation tax on gains arising on the realisation of assets in the course of the liquidation will arise in a post-liquidation accounting period, the charge may well reflect, in part at least, a gain which was latent at the commencement of the liquidation. It is, perhaps, an anomaly that a charge for corporation tax arising on the sale by the company of an asset immediately before the commencement of liquidation will give rise to a debt provable in the liquidation; but a charge to corporation tax arising on the sale of the same asset immediately after the commencement of liquidation will (on any view) be treated as an expense of the liquidation. So there is some basis for treating that element of corporation tax on post-liquidation profits which arise on the sale of an asset differently from corporation tax which arises, say, from the carrying on by the liquidator of the company's business.
The `liquidation expenses' principle
58. Mr Phillips QC, on behalf of the joint liquidators, urged us to apply what he described as the "liquidation expenses" principle - an expression derived from the judgment of this court in In re Atlantic Computer Systems Plc. [1992] Ch 505. The issues in that appeal arose in the context of an application for directions in an administration under Part II IA 1986. The administrators had received and retained money payable under subleases granted by the company in respect of computer equipment which was the property of the applicants, but which had been leased (or hired under hire purchase agreements) to the company or its subsidiaries. The relevant question was whether the administrators were obliged to pay, as expenses of the administration, the sums falling due under the head leases.
59. Lord Justice Nicholls delivered the judgment of this court. He considered the principles applicable to the payment of expenses in an administration by reference to the circumstances in which a court will give leave, under what is now section 130(2) IA 1986, to distrain against the property of a company in liquidation. At page 522A-C he said this:
"However the matter stands differently if the debt, in respect of which the creditor is seeking to exercise a remedy against the company's property, was a new debt incurred by the liquidator for the purposes of the liquidation. In such a case the grant of leave would not be inconsistent with the purpose of the legislation. In such a case it is just and equitable that the burden of the debt should be borne by those for whose benefit the insolvent estate is being administered. The court should exercise its discretion accordingly. The creditor should be at liberty to enforce his rights against the company's property if his debt is not paid in full. Further, and by way of corollary, since the debt was incurred for the purpose of the liquidation, it is properly to be regarded as an expense of the liquidation and it ought to be paid as such. The court will direct the liquidator accordingly. [emphasis added]
This latter principle is not confined to new debts incurred by the liquidator. It applies also to continuing obligations under existing contracts such as leases which the liquidator chooses to continue for the benefit of the winding up. Thus, the principle is applicable in respect of rent accruing due while a liquidator retains leasehold land for the purpose of the winding up. The lessor should be paid in full, or be allowed to distrain. The principle is equally applicable in the case of other liabilities incurred in the course of winding up; for example, where rates become due in respect of land occupied by a liquidator for the purpose of the winding up: see In re International Marine Hydropathic Co. (1874) 28 ChD 470. Indeed the principle is of general application to the outgoings on property the possession of which is retained for the purpose of more advantageously winding up the affairs of the company: see per Baggallay LJ in In re National Arms and Ammunition Co (1885) 28 ChD 474, 478."
60. Lord Justice Nicholls then referred to observations of Lord Justice James in In re Lundy Granite Co., ex parte Heavan (1871) LR 6 Ch App 462, at page 466, and of Lord Justice Lindley in In re Oak Pits Colliery Co. (1882) 21 ChD 322, at page 330. He went on, at [1992] Ch 505, 523C-D:
"It is important to keep in mind that this principle, relating to outgoings on property retained by a liquidator for the purposes of the winding up, is no more than a principle applied by the court when exercising its discretion in a winding up. The principle, which it will be convenient to call the "liquidation expenses" principle, is a statement of how, in general, the court will exercise its discretion in a common form set of circumstances. The liquidator himself has power, in a suitable case, to pay relevant outgoings. But the court retains an overriding discretion, to give leave under section 130(2) [of the Insolvency Act 1986] or to give directions to a liquidator that the relevant outgoings shall be paid by him as an expense of the liquidation." [emphasis added].
61. For my part, I find nothing in the approach of this court in the Mesco Properties case, or in the approach of Mr Justice Brightman in that case, which is inconsistent with the "liquidation expenses" principle as expressed in the judgment of this court in In re Atlantic Computer Systems Plc. It is pertinent to have in mind that Lord Justice Buckley, in the Mesco Properties case, [1980] 1 WLR 96, at page 100D, referred to the charge for tax as "a consequence of the realisation of the assets in the course of the winding up of the company"; and went on to explain that "if, in consequence of the realisation, the company incurs a liability, the discharge of such liability must constitute a[n] . . . expense incurred in the winding up".
The Kentish Homes case
62. In reaching the conclusion which he did the judge expressed the view, at [1999] BCLC 777, 789g-h, that he should follow the decision of Sir Donald Nicholls, Vice-Chancellor, (as he had become) in In re Kentish Homes Ltd [1993] BCC 212. The question in that case was whether the liquidator of a property development company should pay community charge, for which the company was liable under section 3(3) of the Local Government Finance Act 1988 in respect of empty flats which it owned, as a liquidation expense out of the assets in priority to the claims of unsecured creditors. The Vice-Chancellor, following his earlier analysis in In re Atlantic Computer Systems Plc, directed himself that, in determining whether an obligation of the company arising after the commencement of the winding up should be discharged as a liquidation expense, the court was exercising a discretion. He reached the conclusion that, on the facts which he had to consider, he should not direct payment.
63. The judgment of Sir Donald Nicholls, Vice-Chancellor, in In re Kentish Homes Ltd contains, as it seems to me, an echo of the submission made to the Court of Appeal by Mr Dillon QC in the Mesco Properties case, to which I have already referred. After setting out the facts of the case before him, and the scheme for the payment of debts in an insolvent liquidation, the Vice-Chancellor said this, at page 217H-218A:
"It is against this background that the court is being asked to direct that amounts due from the company to Tower Hamlets should be paid by the liquidators as expenses in the winding up of the company. The obligation to make these payments is an obligation of the company, and it arose while the company was being wound up. If the court directs the liquidators to discharge this obligation of the company out of assets in their hands, the payment will constitute an expense properly incurred in the winding up. It will rank for payment as a "necessary disbursement" by the liquidators in the course of their administration (sec.115 and r. 4.218(m))."
64. It is, I think, implicit in that passage that the Vice-Chancellor took the view that the question whether or not a payment is a "necessary disbursement" will depend on whether or not the court would direct the liquidator to discharge the obligation in respect of which the payment is made. In one sense that is, of course, obviously correct. If the court would direct the liquidator to make the payment, the payment (if made) will be a necessary disbursement. But I do not think that it is open to the court to refuse to direct the liquidator to make a payment in discharge of a post-liquidation obligation which Parliament has decreed ought to be met. That would be impossible to reconcile with the basis on which Mr Justice Brightman (in a passage with which the Court of Appeal expressly agreed) had decided the Mesco Properties case. He had said, at [1979] 1 WLR 558, 561:
"It follows that the tax is a charge which the liquidator is bound to discharge by payment, to the extent that assets are available. It is, therefore, to my mind, beyond argument that the payment of the tax is a `necessary disbursement' of the liquidator . . ."
65. Mr Justice Brightman did not decide the Mesco Properties case on the basis that the payment of tax would become a necessary disbursement if and when the court directed the liquidator to discharge the liability; he held that payment was a necessary disbursement because the liquidator was bound to discharge the liability. He could not have thought that it was open to the court, in the exercise of its overriding discretion, to direct the liquidator not to make a payment in discharge of a liability which, as he had held, the liquidator was "bound to discharge".
66. As I have said, the Court of Appeal, in the Mesco Properties case, expressly approved the passage in the judgment of Mr Justice Brightman which I have just set out - see [1980] 1 WLR 96, 100F-G. Further, Lord Justice Buckley, at pages 99H-100A, had described as "a very remarkable thing" the proposition that the proper priority of a liability under rule 195 of the 1949 Rules could depend on whether or not the liquidator had decided to pay that liability. In a passage cited by Sir Donald Nicholls, Vice-Chancellor, in the Kentish Homes case - to which I have already referred, [1980] 1 WLR 96, 100B-E - Lord Justice Buckley pointed out that the liquidator's application in the Mesco Properties case was "for guidance upon the question whether, if he discharges a certain liability of the company in liquidation, then payment will be a necessary disbursement within the meaning of rule 195". There was no question but that, if the payment would be a necessary disbursement, then it ought to be made. This is made clear in the passage cited by Sir Donald Nicholls, the Vice-Chancellor:

"The company is liable for the tax that is due. The tax ought to be paid. The liquidator is the proper officer to pay it. When he pays it, he will clearly make a disbursement. In my judgment it will be a necessary disbursement within the meaning of the rule."

67. That is the context in which Lord Justice Buckley went on to say, in the remainder of the passage cited:
"Moreover common sense and justice seem to me to require that [the tax] should be discharged in full in priority to the unsecured creditors, and to any expenses which rank lower in priority under rule 195. The tax is a consequence of the realisation of the assets in the course of the winding up of the company."
68. Sir Donald Nicholls, Vice-Chancellor, after referring to that passage, said this, at [1993] BCC 212:
"In [the Mesco Properties] case the court held that justice required that the post-liquidation tax liability should be paid as a liquidation expense."
69. I think, with respect, that that was to take Lord Justice Buckley's phrase "common sense and justice require" out of context. For the reasons which I have already set out I take the view that Lord Justice Buckley was doing no more than to point out that the principle that the tax was a necessary disbursement of the liquidator did not depend on any corresponding element of benefit to the creditors proving in the winding up. The tax was a necessary disbursement because it had become chargeable as a consequence of what had occurred in the course of the winding up.
70. For these reasons, whatever may be in position in other contexts, I find it impossible to accept that, consistently with the decision of this court in the Mesco Properties case, the court can exercise its overriding discretion to control the payment of outgoings in a winding up - a discretion, as which this court has held in In re Atlantic Computer Systems Plc, the court undoubtedly retains - so as to direct a liquidator that he should not discharge a liability to corporation tax arising in respect of post-liquidation profits as an expense of the liquidation. The discretion must be exercised in accordance with settled principles; and, as I have sought to explain, the principles in relation to the payment of tax on post-liquidation profits have been settled for the past fifty years. I am driven to the conclusion that the decision in In re Kentish Homes Ltd - that the court could refuse to direct the liquidator to discharge a statutory liability imposed in respect of the company's continued ownership of property after the commencement of the winding up - was incorrect.
Conclusion
71. It is important to keep in mind that the question raised by the present appeal is not whether Parliament intended that a company in winding up should be chargeable to corporation tax on profits arising in the winding up. It is plain that Parliament did so intend - see section 8(2) ICTA 1988. In order to distinguish between profits arising in the winding-up and pre-liquidation profits, Parliament recognised the need to provide for a new accounting period (in respect of which there could be a discrete assessment and charge) to commence on the winding up - see section 12(7) ICTA 1988. Further provisions specifically referable to the taxation of companies in liquidation are found in section 342 ICTA 1988 Act. Section 108 of the Taxes Management Act 1970 designates the liquidator of a company in winding up as "the proper officer" of the company to do everything that is to be done by a company under the Taxes Acts.
72. Nor, as it seems to me, is there any doubt that Parliament must be taken to have intended that the tax chargeable should be paid. It would be bizarre to attribute to Parliament an intention that a charge to tax should arise without also recognising an intention that that charge should be paid. The question is whether effect should be given to that intention by directing the liquidator to pay the tax as an expense in the winding up in priority to the claims of creditors proving in the winding up.
73. The joint liquidators' real complaint, in the present case, is that they should not be required to discharge a liability to corporation tax on income which the Company has not received, and which it never will receive. But liability to corporation tax is imposed by statute; and, in the present case, the effect of the relevant taxing provisions is that, in computing that liability, income which the Company has not received (and never will receive) has to be brought into account. Parliament has decreed that, in the particular circumstances which arise in the present case, the company should be taxed on the interest receivable on the debt from TEE for so long as that debt was retained as an asset in the winding up. It could not be said that the retention of the asset - until it was, in effect, realised by release in exchange for a payment under the agreement of 25 November 1998 - was otherwise than in a proper course of winding up. Nor, as it seems to me, could the present complaint be made if interest on the debt had actually been paid by TEE in respect of the period after the commencement of the winding up of the company on 26 January 1998. Nor could the present complaint be made if interest which had accrued in that period had not been paid, but was to be paid in the future. That, after all, is a common feature of accounting on an accruals basis. At the end of what is, I regret, a judgment of some length, it may be said that the short issue in this case is whether the court should, by the exercise of a discretion, frustrate the intention of Parliament that corporation tax on notional post-liquidation income should be paid out of the assets of the company. The only basis for the contention that the court should exercise its discretion to that end is that to sanction, or require, the payment of tax on notional income would be, in some sense, "unfair" to the pre-liquidation creditors. But, if there is "unfairness", that is a consequence of the legislation which Parliament has enacted. I am not persuaded that it could be a proper basis for the exercise of the court's discretion that a consequence which Parliament must have be taken to have intended is said to be unfair.
74. For the reasons which I have set out, I am satisfied that effect must be given to the intention of Parliament by treating the corporation tax chargeable on the company's post-liquidation profits - including income which it has not received, but which the taxing provisions require it to bring into the computation of those profits - as a necessary disbursement, payable out of the assets of the company as an expense incurred in the winding up and in priority to the debts proved in the winding up, pursuant to section 115 IA 1986.
75. I would allow this appeal.
LORD JUSTICE BUXTON:
76. I agree
THE VICE-CHANCELLOR:
77. I agree that for reasons given by Lord Justice Chadwick in his judgment this appeal must be allowed. I agree, in particular, with his conclusion that In re Kentish Homes [1993] BCC 212 is inconsistent with the judgments of Brightman J and the Court of Appeal in In re Mesco Properties Ltd [1979] 1 WLR 558 and [1980] 1 WLR 96 and was wrongly decided. If an Act of Parliament has imposed a tax liability on a company in liquidation arising out of actual or deemed events after the commencement of the liquidation, the liquidator, if he has sufficient assets in the liquidation and no question of priority as between the tax debt and other post-liquidation debts of the company arises, has, in my judgment, no alternative but to discharge the tax debt out of those assets. The question of unfairness to creditors of the company who prove in the liquidation simply does not arise. It is not open to the Court to decide, as a matter of discretion, to direct the liquidator not to pay the tax that is due.

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	England and Wales Court of Appeal (Civil Division) Decisions
You are here: BAILII >> Databases >> England and Wales Court of Appeal (Civil Division) Decisions >> Inland Revenue v Kahn & Anor [2000] EWCA Civ 86 (23 March 2000) URL: http://www.bailii.org/ew/cases/EWCA/Civ/2000/86.html Cite as: [2000] EWCA Civ 86

England and Wales Court of Appeal (Civil Division) Decisions