Lorber (Decision No.1) v Revenue & Customs [2011] UKFTT 101 (TC) (03 February 2011)

DECISION

1. Mr Paul Lorber appeals against HMRC’s amendments of his self-assessment for 2002/03 and 2003/04 and against additional assessments for 1998/99 to 2001/02 inclusive.

2. The appeals raise three issues.

3. The first is referred to as “the Joint Account Issue”. The tax returns of Mr Paul Lorber (referred to usually as “Paul”) included no entries for interest that had arisen on accounts held jointly with his wife, Susan Lorber (Susan). HMRC contend that, by virtue of section 282A of Income and Corporation Taxes Act 1988 (“ICTA”), half of the income on those accounts should have been returned as Paul’s income. Paul’s case was that none of that income should be taxed as his; in 1994 the matter had been raised with the Inland Revenue’s Cardiff 4 District which had issued a Notice of Coding on the basis that the income belonged to Paul and Susan on a 50:50 basis. Paul had had this changed by the Inland Revenue and since 1995 his code number as shown on a Notice of Coding had been compiled on the basis that all the income belonged to Susan and none to him. Paul says that as a result of this action HMRC are to be taken to have agreed that none of the relevant income belonged to him.

4. The second issue, referred to as “the section 660A/B Issue”, concerns the income on a number of building society accounts and deposits and whether that income is to be taxed as his because each of the accounts and deposits was a “settlement” made by Paul. Those accounts and deposits were said by Paul to belong beneficially to his two minor children, Simon and George, and that the funds came from their grandfather (his father). HMRC have assessed Paul to that income on the grounds that it falls within the scope of section 660A and 660B. This is because (i) HMRC say that Paul was the settlor in relation to the accounts and deposits, (ii) the income arising from those accounts and deposits was payable to his unmarried minor children and/or (iii) it was not income arising from property in which Paul, the settlor, had no interest.

5. The third issue is referred to as “the Councillor’s Deduction Issue”. This concerns entirely different circumstances from those underlying the Joint Account Issue and the section 660A/B Issue. We will produce a separate written decision on the Councillor’s Deduction Issue.

The Joint Account issue

6. Sections 282A and 282B ICTA were introduced with effect from 1990-91. Section 282A provides, so far as is relevant, as follows:

“(1) Subject to the following provisions of this section, income arising from property held in the names of a husband and his wife shall for the purposes of income tax be regarded as income to which they are beneficially entitled in equal shares.

(2) Subsection (1) above shall not apply to income to which neither the husband nor the wife is beneficially entitled.

(3) Subsection (1) shall not apply to income –

(a) to which either the husband or wife is beneficially entitled to the exclusion of the other, or

(b) to which they are beneficially entitled in unequal shares,

if a declaration relating to it has effect under section 282B.

(4)-(5) …

(6) References in this section to a husband and his wife are references to a husband and wife living together.

Section 282B reads, so far as is relevant, as follows:

“(1) The declaration referred to in section 282A(3) is a declaration by both the husband and the wife of their beneficial interests in –

(a) the income to which the declaration relates, and

(b) the property from which that income arises.

(2) Subject to the following subsections, a declaration shall have effect under this section in relation to income arising on or after the date of the declaration …,

(3) The declaration shall not have effect under this section unless notice of it is given to the inspector, in such form and manner as the Board may prescribe, within the period of 60 days beginning with the date of the declaration.

(4) …

(5) A declaration having effect under this section shall continue to have effect unless and until the beneficial of the husband and wife to either the income to which it relates, or the property from which the income arises, cease to accord with the declaration.”

7. It has not been suggested that, during the periods to which this appeal relates, Paul and Susan were not “living together”.

8. HMRC say that all the accounts and deposits are in the joint names of Paul and Susan. Paul has unrestricted drawing rights. No declaration by Paul and Susan in the prescribed form (Form 17) or otherwise has ever been given to the inspector, nor has anything amounting to an agreement been made with HMRC to the effect that, for the years under appeal, the income is to be treated as Susan’s to the exclusion of Paul.

9. Paul says that the accounts and the interest all belonged to Susan. This came about because in the 1990s she had had a health problem. She and he had eventually separated. She went to Derbyshire and while there she had medical treatment. Paul said that he had continued to manage her savings and, as regards the accounts from which the relevant income arose, he had, to use his actual words in evidence, “appeared as joint account holder”. The interest vouchers showed that Paul was an account holder. In the mid 1990s Paul’s Notice of Coding issued by Cardiff 4 District had been compiled in a way that made him the recipient of 50 per cent of the interest arising from the relevant accounts and deposits. Deciding that this was wrong, Paul phoned the Inland Revenue and explained that the interest belonged to Susan whereupon Cardiff 4 issued a Tax Coding Notice that eliminated the interest. And that had been the position until an enquiry brought the matter to the attention of a different Inland Revenue team; until then the income had all been returned as Susan’s.

10. There was no available evidence of either the telephone call allegedly made by Paul to the Inland Revenue in about 1995 or of any paperwork to show that he and the Inland Revenue had reached an agreement that the interest belonged to Susan. But, said Paul, had he known that a declaration under section 282B could have cured the problem, he would have made one.

11. Paul said in evidence that the funds in the joint accounts in the names of himself and Susan represented “her savings”. In a letter to the Inland Revenue of December 2004 he had said that – “I have gifted my savings to my wife and although we have some accounts in joint names, my name is only for convenience and security”. The position is confusing. We are not persuaded that those funds were, during the periods to which this appeal relates, entirely Susan’s and not Paul’s. The facts are that in law Paul has had drawing rights on the entire income and that at no time did Paul and Susan make a joint declaration in the form required by section 282B ICTA. The change in the Notice of Coding does not prove that there had been an agreement with the Inland Revenue to the effect that the joint accounts were to be treated as Susan’s and not as Paul’s. Such a Notice is not a valid determination of a person’s income for the year to which it relates. When determining a coding Notice, HMRC

“… must have regard to the following matters so far as known to them –

…

(f) unless the employee objects, any other income of the employee which is not PAYE income.”

(Regulation 14(1) Income Tax (Pay As You Earn) Regulations 2003 (S.I.2003/2682)) Mr Lorber clearly did object under regulation 18. Regulation 18(2) provides:

“(2) On receiving the notes of objection the Inland Revenue may amend the determination of the code by agreement with the employee.”

There is nothing in the regulations that expressly limits the ability of HMRC to amend a coding notice or the nature of the amendment and given the terms of regulation 12(1)(f) it seems that HMRC had no choice whether or not they agreed that the income was Susan’s and not Paul’s. And there is nothing that prevents HMRC from agreeing to exclude 50 per cent of a person’s non-PAYE income in calculating the Code if that is what the employee wants whether or not the employee asks for it because they think that only 50 per cent of the income is theirs.

12. For those reasons we think that Paul has not established that the amendments to his self-assessments and the additional assessments are excessive so far as the joint accounts are concerned. (We have already observed, in this connection, that section 282A applies only to husbands and wives who are living together. Whether Paul and Susan were living together at the relevant time is unknown to us. And, in any event, was not a point ever taken by Mr Lorber.)

The section 660A/B Issue

13. These accounts held in the names of Paul and Susan and said to belong beneficially to their two minor children, Simon and George, were claimed by Paul to have been derived entirely from funds that his father and mother (Adolf and Berta) wished to be held for Simon and George, the two minor children of Paul and Susan. (We refer to those accounts, without prejudging the issue, as “the children’s accounts”.) The case for HMRC is set out in a letter of 19 November 2009 written by the officer of HMRC who reviewed the decision that sections 660A and/or 660B ICTA apply following an extensive enquiry. As HMRC have produced no Statement of Case in this Appeal, we have treated this letter as containing the facts and matters upon which HMRC rely.

14. The relevant extract is as follows:

“The legislation about Settlements is at section 660A … and section 660B deals with payments to unmarried children of the settlor.

The legislation directs that the income is assessable on the settlor. You have explained that the money held in your children’s accounts was money that was paid to them by their Grandparents and family friends. In the case of the accounts held by you and Mrs Lorber on behalf of your children, a difficulty arises because you have been unable to provide documentary evidence to support your contentions. While I can understand that as your parents and Mr and Mrs Leigh have passed away this presents you with an evidential difficulty, in the absence of documentary evidence HMRC has to consider your explanations in the context of the facts which were found as a result of the enquiry. During the course of the enquiry it was found that the source of deposit £190,000 to your son’s account 0865/281728911 was Nationwide account number 90108135 in the names of Mrs S and Mr P Lorber and that money from your son’s accounts was used to fund, in part, the purchase of the house in Derbyshire. Mrs Studholme has concluded that these facts support that monies from your father did not pass direct to your children and that money held in your children’s accounts were also of benefit to you and your wife. For these reasons I agree that the income falls to be assessed upon you and your wife, as named in the children’s accounts.”

15. Paul’s account of how the children’s accounts came to be created is now summarised.

16. Paul and his elder brother were the two children of Adolf and Berta. Adolf and Berta came to England from Czechoslovakia in 1968 and lived in England until they died. Paul’s brother came with them but moved to Canada shortly afterwards and has lived in Canada throughout the period covered by these appeals. He has no children. Paul’s brother made a witness statement which we accepted.

17. During the 1990s Adolf was in his 80s. Adolf’s estate was around £250,000 consisting of his own savings. By the mid 1990s, Berta was suffering from dementia. Adolf and Berta had had an adequate income comprising a company pension, their state pension and compensation payments made to them on account of their internment in Germany during World War Two. Adolf had been concerned to preserve his estate to enable Berta to be properly looked after.

18. In June 1996 Berta had died. On 16 May 1996 Paul’s first son, Simon, had been born. On 16 May 1998 Paul’s second son, George, had been born. Adolf survived until March 2003. Adolf, according to Paul, had become increasingly dependent on Paul to manage his affairs and on 17 January 1997 Adolf granted an enduring power of attorney to Paul. This conferred on Paul, as attorney, the ability to use any of Adolf’s money or property “to make any provision which you yourself might be expected to make for their [the attorney’s] own needs or the needs of other people. Your attorney(s) will also be able to use your money to make gifts, but only for reasonable amounts in relation to the value of your money and property.”

19. The power of attorney remained in force until Adolf’s death in March 2003. It had been entered into with the knowledge and agreement of Paul’s elder brother (as was confirmed in his statement).

20. Adolf’s Will, made in 1984, directed that his residuary estate be shared between his surviving children (i.e. Paul and his elder brother).

21. Paul’s evidence was that, as Berta was no longer alive and Adolf was living in a housing association flat, Adolf had asked that his savings be transferred to his grandchildren. This was confirmed in his brother’s statement. Shortly after Berta’s death transfers had been made of some £5,500 in each of a Chelsea Building Society and a Yorkshire Building Society account (out of Berta’s estate) for the benefit of Simon. Further gifts amounting in aggregate to £19,800 had been made in November 1997.

22. In November 1998 some £190,000 standing in an Abbey National account had been transferred out of Adolf’s name to be held for the two grandchildren. Later in 1998 and in 1999 further amounts had been transferred. By the time of the present appeal in November 2010, the aggregate of gifts together with interest earned on the accounts in which the gifts were invested held for Simon and George came to some £416,000 as shown on a statement complied by Paul and put in evidence before us.

23. Paul Lorber explained that building societies did not at the time allow accounts for minor children to exceed £20,000. Consequently the accounts for the benefit of Simon and George had to be in the names of Paul and Susan. This also explained the multiplicity of accounts which were opened and this was also due to Paul’s constant monitoring of the financial press etc. to find the best rates of interest

24. Paul’s case is that at all material times the children’s accounts and the income arising in those accounts belonged to the children and that the money in them derived from the gifts made by Adolf. He admitted that he could not trace the movement of all moneys and he conceded that on at least one occasion money in the children’s accounts had been used to provide temporary finance to enable Susan to buy a house for her to live in Driffield, Derbyshire.

25. HMRC’s case for treating income arising on the children’s accounts as Paul’s is that sections 660A and 660B ICTA apply. Section 660A provides, so far as is relevant, as follows:

“(1) Income arising under a settlement during the life of the settlor shall be treated for all purposes of the Income Tax Acts as the income of the settlor and not as the income of any other person unless the income arises from property in which the settlor has no interest.

(2) Subject to the following provisions of this section, a settlor shall be regarded as having an interest in property if that property or any derived property is, or will or may become, payable to or applicable for the benefit of the settlor or his spouse in any circumstances whatsoever.

(3)-(12) …”

Section 660B, so far as is relevant, provides as follows:

“(1) Income arising under a settlement which does not fall to be treated as income of the settlor under section 660A but which during the life of the settlor

(a) is paid or for the benefit of an unmarried minor child of the settlor, or

(b) would otherwise be treated (apart from this section) as income of an unmarried minor child of the settlor,

in any year of assessment shall be treated for all the purposes of the Income Tax Acts as the income of the settlor for that year and not as the income of any other person.

(2)-(6) …”

Paul, say HMRC, was the “settlor” within the definition of that term in section 660G(1) and (2) ICTA which read as follows:

“(1) In this Chapter –

“settlement” includes any disposition, trust, covenant, agreement, arrangement or transfer of assets, and

“settlor”, in relation to a settlement, means any person by whom the settlement was made.

(2) A person shall be deemed for the purposes of this Chapter to have made a settlement if he has made or entered into the settlement directly or indirectly, and, in particular, but without prejudice to the generality of the preceding words, if he has provided or undertaken to provide funds directly or indirectly for the purpose of the settlement, or has made with any other person a reciprocal arrangement for that other person to make or enter into the settlement.”

26. There is no dispute that there has been a “disposition” amounting to a “transfer of assets”. To that extent therefore the transactions that established the children’s accounts constituted a “settlement” within that definition in section 660G(1). And the disposition clearly had an “element of bounty” (as required for there to be a settlement within these sections) there being no consideration of any kind passing in respect of the transfer.

27. The critical question is who was the settlor in relation to the children’s accounts. The dispositions or transfers of funds from Adolf were effected by Paul in exercise of the power of attorney. He was acting as agent for Adolf and, if that be accepted as a fact, he cannot be regarded as “the person by whom the settlement was made”. Is Paul to be deemed to have made the settlement within section 660G(2) on the basis that he provided the funds now represented by the children’s accounts?

28. HMRC’s case for invoking the taxation of settlor provisions is that the evidence has not satisfied them that the funds in the children’s account and other deposits came from Adolf and Berta. HMRC invite us to conclude that Paul must have been the source of those funds because they must have come out of moneys in Paul’s beneficial ownership. We understand their case to be based on the reality of the whole arrangement. The moneys in the children’s accounts were really and at all times at the unrestricted disposal of Paul. This is evidenced by the fact that a large amount was used to pay for the Driffield house as a home for Susan.

29. Paul gave evidence. His account of what happened is summarised in paragraphs 16 to 23 above. He produced a schedule showing current funds in the children’s accounts. £208,000 is attributable to each of Simon and George. Another schedule shows the origins of these funds.

30. We will start by summarising the content of the latter schedule (of gifts said to have originated from Adolf and Berta).

(i) £21,900 is shown as a “gift” in 1996 from Berta. This earned interest of some £4,500 over the years 1996-98. The £21,900 came in part from two building society accounts held jointly with Adolf which, following Berta’s death shortly after Simon’s birth, were used to set up an account for Simon’s benefit.

(ii) Sometime in 1997 an amount held for Adolf in a Woolwich Bond was transferred to Simon. This matured and produced some £9,500.

(iii) In November 1997 £10,300 is said in the schedule to have been given by Adolf.

(iv) In late 1998, some five months after the birth of George, an account with the Abbey National for Adolf stood at some £168,000. Some £82,000 were transferred to a Britannia Building Society account for George and rather less than £80,000 was put into a Britannia account for Simon. Together with transfers of interest arising on the Abbey National account, the amounts originating from Adolf in 1998 came to some £190,000.

(v) Gifts of some £23,400 in aggregate to Simon and George were made in 1999. £2,800 and £18,000 were the aggregate amounts of gifts made in 2001 and 2002 to Simon and George.

The aggregate of the gifts recorded by Paul as having been made by Adolf and Berta comes to £275,900. This roughly tallies with a schedule provided in March 2006 by Paul in answer to an enquiry from the Capital Taxes Office relating to the estates of Adolf and Berta.

31. The amounts currently standing on the children’s accounts are shown as some £417,000 of which about £161,000 has arisen as interest.

32. The other schedule showing the children’s accounts, allegedly originating from their grandparents, shows the £417,000 held in more or less equal amounts for Simon and George, in three building society accounts and in thirteen bonds.

33. Further amounts of £7,568 and £7,908 (held on National Savings Bonds and Building Society accounts) are recorded as “other” assets of Simon and George. We take those to have come from other sources. Those other sources are said to have included a Mr and Mrs Leigh, who are described in correspondence as family friends.

34. HMRC did not in the course of the hearing challenge the matters summarised above. Nor, as already observed, did they provide any fuller Statement of Case than the letter of 19 November 2009 (quoted above) which explains why they have chosen to invoke the taxation of settlor provisions to enable them to treat the income arising on the children’s accounts as Paul’s. As we read the passage from the letter extracted above we see their case as one of disbelief underpinned by the circumstances of the purchase of the Driffield home for Susan.

35. The Driffield house was purchased, apparently as a matter of urgency, in the latter part of 2003. It was to be Susan’s home and, we presume, a home for Simon and George when they were with her. A significant proportion of the funds came from moneys standing to the children’s accounts. The rest came from Paul and Susan. Our attention was drawn to various transfers in and out of the Nationwide account that had originally been opened for Simon in December 1998 with Paul and Susan as trustees. For example, on 3 July 2003, in preparation for the purchase, £7,513 was received into that Nationwide account. On 7 July two payments of £7,513 left a chequing account that had always belonged to Paul and Susan. On 9 July £19,990 (being the proceeds of sale of Paul’s premium bonds) was received into the Nationwide account held for Simon. On 4 August £29,136 was placed in that account by Paul: this money, he said, represented the proceeds of sale of shares of his. Eventually £153,650 was withdrawn from that Nationwide account and paid into the Nationwide account held for George. Paul said of that payment that it had been made from one Nationwide account to another to build up the final payment for the house.

36. The arrangement of finance for the Driffield house, to the extent that any conclusion can be drawn from the disjointed facts summarised above, demonstrates that Paul and Susan regarded the children’s accounts as sources of funds for needs other than those exclusively of Simon and George. Paul and Susan knowingly mixed their children’s funds with their own moneys and applied them for their own purposes. This feature of the family financial arrangements calls in question Paul’s assertion that Adolf and Berta, and not he, had been the settlors of the “settlement” comprising the children’s accounts. Was the reality of the situation that Paul had appropriated Adolf’s property for his and Susan’s own use back in 1998 when he had the power of attorney? Had he, instead of giving effect to his father’s wishes, retained the gifted funds, not as trustee for Simon and George, but as the disguised beneficial owner? We have looked through the correspondence and listened to Mr Allen’s cross-examination; we can find no allegation to that effect and we would not be prepared to reach such inferences on our own account. We have to assess the evidence before us in an unblinkered way and with an eye to the realities of the situation. Even so, we think on the balance of probabilities that Adolf was the settlor and not Paul; our conclusion on this is not altered by the way the funds in the children’s accounts have been, in effect, pooled and used as a family resource. We also observe that questions about how the assets were applied are only at all relevant if the source of the funds was Paul as settlor of the arrangement.

37. Our reasons for our conclusion that Paul is not the settlor can be shortly summarised. The interest arising from the funds has been consistently returned for tax purposes as the children’s own income. There is nothing inherently wrong in investing children’s funds in a house which is to be a home for their mother and, presumably, for the children themselves when they are staying with her. Having regard to Paul’s explanation of the background of his parents and his ailing father’s interest in his grandchildren’s well being, the conclusion that he (Adolf) provided the funds for the “settlement” is, we think, reasonable. We have taken into account Paul’s evidence that the funds and the income in the children’s accounts are normally kept separate save for an emergency such as the Driffield house purchase. The amounts standing to the children’s accounts are separately recorded on the schedule prepared by Paul. Finally we have had the opportunity of hearing Paul give evidence and we are inclined to accept it. In this connection we mention that at no time did HMRC address any direct challenge to Paul’s evidence. The whole strategy of their presentation was to invite us to infer that theirs (HMRC’s) was the more likely inference. As we have observed, the evidence does not support that.

38. We therefore allow the appeal so far as concerns the income arising to the children’s accounts. We dismiss HMRC’s contention that sections 660A and 660B apply to treat the income arising on those accounts as Paul’s income.

39. We do not have details to reach a final decision in relation to Paul’s tax liabilities. This decision should therefore be treated as determining both matters as preliminary points. We assume that HMRC will make necessary adjustments to Susan’s liability for all relevant years as a result of this decision.

40. This document contains full findings of fact and reasons for the decision. Any party dissatisfied with this decision has a right to apply for permission to appeal against it pursuant to Rule 39 of the Tribunal Procedure (First-tier Tribunal) (Tax Chamber) Rules 2009. The application must be received by this Tribunal not later than 56 days after this decision is sent to that party. The parties are referred to “Guidance to accompany a Decision from the First-tier Tribunal (Tax Chamber)” which accompanies and forms part of this decision notice.

First-tier Tribunal (Tax)

THE COMMISSIONERS FOR HER MAJESTY’S

REVENUE AND CUSTOMS (Income Tax) Respondents

SIR STEPHEN OLIVER QC

RELEASE DATE: 3 FEBRUARY 2011

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