PLH Commissioner's File: CCS 2858/02
CHILD SUPPORT ACTS 1991 AND 1995
APPEAL FROM DECISION OF CHILD SUPPORT APPEAL TRIBUNAL
ON A QUESTION OF LAW
DECISION OF THE CHILD SUPPORT COMMISSIONER
Appellant: [The parent with care]
Respondents: (1) Secretary of State
(2) [The absent parent]
Appeal tribunal: Manchester
Tribunal case ref: U/40/072/2001/07038
Tribunal date: 8 April 2002
Reasons issued: 30 April 2002
[ORAL HEARING]
- The decision of the Manchester appeal tribunal which dealt with this child support case on 8 April 2002 was in my judgment erroneous in law in the two respects that (1) the tribunal misdirected themselves by holding they were precluded from considering the question of a departure direction on "lifestyle inconsistent" grounds when it was accepted that the non-resident parent had declared his income correctly, and (2) they further wrongly purported to make adjustments to the formula calculation of his income under paragraph 27, schedule 1 Child Support (Maintenance Assessments and Special Cases) Regulations 1992 SI. No. 1815 on the ground of "intentional deprivation" when there was no basis in the facts for applying that paragraph at all.
- I set the decision aside and having heard full argument from all parties as to what should have been the correct legal approach of the tribunal, now exercise the power in section 24(3)(a) Child Support Act 1991 to substitute the decision I am satisfied the tribunal ought to have given on the facts and evidence before them in accordance with the regulations they were bound to apply. This is that the maintenance assessment for the three children concerned in this case must be redetermined by the Secretary of State from the effective date of 20 September 2001 on the basis that their father's earnings as a self-employed trader are to be calculated under paragraph 2A of schedule 1 cited above by reference to annual "total taxable profits" of £169,520 (or £3,260 per week), being the amount shown in the figures and accounts submitted by him to the Inland Revenue for the year ended March 2001 (whose correctness is not disputed) after adding back depreciation and other non-allowable expenses but before any adjustment for capital allowances. As is common ground, no departure direction on "lifestyle" grounds can be appropriate on that footing, since the formula assessment under the regulations in force at the effective date is already at the maximum on an income of that size; so the mother's separate application for such a direction, which was before the tribunal on a reference by the Secretary of State, must be simply dismissed.
- That decision does not I think represent a happy overall result, as in this case I have been faced with having to choose between two rival interpretations of the Assessments regulations, (as amended from 4 October 1999 with the insertion of the new paragraph 2A into schedule 1) each of which can be seen as unfair. The problem is how a self-employed earner's tax allowances for capital expenditure fall to be dealt with in calculating his "income" for child support purposes. The alternative interpretations mean that either the whole lot can be deducted, or nothing is deductible at all: the figures to demonstrate how harshly this can bear on one side or the other, depending on which you pick, are given below.
- What is unfair to both sides at once, and of course to the children whose maintenance needs are at stake, is for the Secretary of State to have left his legislation ambiguous so that people are uncertain which is meant, and delays and disputes like this one arise which prevent everyone knowing where they stand, and hold up the payments for children's needs which of course arise on a continual weekly or monthly basis, not years after the event. It is I think fair to say it was quite unnecessary, if not unforgivable, for the 1999 changes to have been worded in the ambiguous way they were; and also unnecessary for the question to have to be an "all or nothing" one as it must be at present whichever view one adopts, the provisions for "departures" failing to provide more than a partial solution. I can only recommend that the Secretary of State should reconsider the intended effect of his regulations in this area as a matter or urgency, and attempt to come up with at least a clearer, and I would hope also a more just and equitable, solution in the interests of the children and everyone else involved.
- This case concerns the maintenance for three children now aged 15, 12 and 11, who have lived with their mother since their parent's marriage broke up some time ago. The appeal to the tribunal arose out of a decision given on behalf of the Secretary of State on 27 September 2001 under section 17 Child Support Act 1991 that from the effective date of 20 September 2001 the father was liable to pay a total of £11.28 per week child support maintenance in respect of his three children. That decision was based on the then latest available figures for the father's self-employed earnings in his car hire business, which were taken by the Secretary of State as showing a "total taxable profit" for child support purposes of only £9,380 a year, resulting in what the mother considered a grossly inadequate assessment of the amount he should pay for the children's maintenance. She appealed to the tribunal who substituted their own decision based on the up-to-date figures for the following year which were by then available, though making their own adjustments on the basis of paragraph 27 referred to above, and declined to consider making any departure direction on the mother's further application which had also been referred to them by the Secretary of State for decision.
- The tribunal's substituted figure of £29,748 for the "taxable profits" to be used in the calculation of earnings would have given rise to an increased weekly assessment, but was still considered by the mother to be inadequate when compared with the actual profits of the business as shown in the accounts. She accordingly appealed on the ground that the tribunal had been wrong in the way they applied the formula assessment, and further in refusing to consider a departure direction when she said the father's lifestyle was inconsistent with the "income" on which that assessment was based.
- I held an oral hearing of the appeal which had been requested by the children's father. Nicholas Mostyn QC appeared on a pro bono basis for their mother, Leo Scoon of the solicitor's office, Department for Work and Pensions, appeared for the Secretary of State, and the father appeared and conducted his case in person. I am grateful to all concerned for their intelligent and objectively presented submissions on a problem which as will already have been gathered is not without its difficulties.
- The main point on the formula can be stated very shortly. In calculating a self-employed trader's earnings for child support purposes, is he or is he not entitled to any deduction for capital depreciation or capital allowances? Before 4 October 1999 the answer was clearly no in all cases, because it was expressly and unambiguously provided in paragraph 3(4)(b) of schedule 1 that the expenses deductible from his gross receipts to arrive at his "earnings" were not to include any capital expenditure, or the depreciation of any capital asset. From 4 October 1999 that remains the position wherever a separate earnings calculation still has to be done for child support under paragraph 3. However that separate calculation is unnecessary in the majority of cases after the introduction of paragraph 2A, by which the figures that are already having to be submitted to the Inland Revenue to calculate the same person's liability to income tax on his earnings from the same business are to be used instead; thus (on any view) saving considerable duplication of administrative effort. The question is whether it has also made a major substantive change in the treatment of capital business expenses for child support.
- Paragraph 2A as in force from 4 October 1999 provides that:
"2A.- (1) Subject to paragraphs 2B, 2C, 4 and 5A, 'earnings' in the case of employment as a self-employed earner shall have the meaning given by the following provisions of this paragraph.
(2) 'Earnings' means the total taxable profits from self-employment of that earner as submitted to the Inland Revenue, less the following amounts – ..."
and there then follow provisions for the deduction of income tax, national insurance contributions and a proportion of self-employed pension contributions similar to those also allowable in the calculation of earnings under paragraph 3. Paragraph 2B provides for the Inland Revenue's own figures shown in a tax calculation notice to be used in certain cases in place of those submitted, and by paragraph 2C:
"2C.- Where the child support officer accepts that it is not reasonably practicable for the self-employed earner to provide information relating to his total taxable profits from self-employment in the form submitted to, or (where paragraph 2B applies) as issued or revised by the Inland Revenue, "earnings" in relation to that earner shall have the meaning given by paragraph 3 of this Schedule."
- Paragraph 3 then sets out the detailed child support rules, substantially unaffected; paragraph 4 is a special provision for calculating the earnings of child minders; paragraph 5 provides for the calculation under paragraph 3 to be on a 52-week average from actual receipts or a recent profit and loss account; and by paragraph 5A:
"5A.- (1) … the earnings of a self-employed earner may be determined in accordance with the provisions of paragraph 2A only where the total taxable profits concerned relate to a period of not less than 6, and not more than 15 months, which terminated not more than 24 months prior to the relevant week; …
(3) Where, in the opinion of the child support officer, information as to the total taxable profits of the self-employed earner which would satisfy the criteria set out in sub-paragraphs (1) and (2) of this paragraph does not accurately reflect the normal weekly earnings of the self-employed earner, the earnings of that earner can be calculated by reference to the provisions of paragraphs 3 and 5 of this Schedule."
- It was common ground that in any case where paragraph 3 was still made to apply, either under paragraph 2C because of some difficulty in providing the relevant information or under paragraph 5A because the figures that could be provided were out of date or for some other reason did not accurately reflect the person's normal weekly earnings, there could be no question of any deduction being allowed for any capital expenditure or capital depreciation at all, since the provisions of paragraph 3 that they are not included in the deductible expenses are clear and mandatory.
- In cases where paragraph 2A does now apply however, what is in my view a quite unnecessary ambiguity has been introduced, by the Secretary of State's use of the undefined expression "total taxable profits" (which is not a defined term of art in the income tax legislation either) without making it clear whether he means by this:
(A) the annual trading profit net of allowable revenue expenses, which is the profit chargeable to income tax under Schedule D; or
(B) that amount less the capital allowances the trader can claim against it for the tax year in question, which is the net figure carried to his taxable income in working out how much tax he actually has to pay.
Either figure can be easily got from any tax return or Inland Revenue calculation, so the choice between them is neutral so far as the stated aim of paragraph 2A to save administrative work is concerned.
- On behalf of the children's mother, Mr Mostyn argued for (A), on the main ground that anything else would introduce an inconsistency with the plain requirements of paragraph 3 which would be absurd for an administrative measure, especially when the detailed system under that paragraph had still to be applied for purely administrative reasons in cases within paragraph 2C. The children's father argued for (B), as being fairer to traders and more in accordance with commercial reality. Mr Scoon for the Secretary of State also supported (B), since this is the interpretation the Secretary of State's officers have apparently been applying in practice in this and in other cases; he pointed out that if this should throw up an excessively low assessment in any particular case there was the safety valve of the parent with care being able to apply for a departure direction, which would not be so in the converse case of an unjustly high assessment under (A) since there is no provision for an absent parent to apply on such grounds.
- Both sides agreed that the choice has to be a straight "either/or" one between (A) and (B). Either the whole of the Inland Revenue capital allowances are deductible, or nothing at all. There is no "third way" of being able to use some intermediate figure, such as the actual profit of the business shown in the profit and loss account after the deduction of capital depreciation in accordance with normal accountancy principles, even though that may be closer than anything else to showing a true and fair picture of the real profitability of the business over the relevant period - that being of course the whole point of the accountancy standards and principles reflected in the way properly drawn accounts are presented.
- The actual figures in this case give a graphic demonstration of how much difference this choice can make, especially in a business such as that of the children's father where the main asset, the fleet of specially adapted vehicles rented out to driving schools, has by its very nature a high rate of depreciation and replacement. None of the figures themselves were in any way disputed either in front of the tribunal or before me.
- The original calculation by the Secretary of State was based on the accounts for the year to end March 2000, the most recent available at that time. They show that the business had a turnover of £131,887 for the year, giving rise to a net trading profit on normal accountancy principles of £45,479 after deducting trading expenses of £50,507 and depreciation of £35,901: pages 40, 60. However for tax purposes the standard accountancy depreciation of £35,901 has to be added back, as it is not an allowable revenue expense in calculating the annual profit arising within the charge to schedule D. Instead, the trader is separately allowed to claim capital allowances, calculated on different principles: in this case they added up to £72,000 for the year, more than double the depreciation actually charged in his own accounts. That reduced the net figure to be included in his taxable income to only £9,380. The Secretary of State took this as his "total taxable profits", and in consequence made the child support assessment only £11.28 a week. That was basis (B). Basis (A) would have meant taking the schedule D trading profit before capital allowances, £81,380 instead of £9,380: £1,565 a week instead of £180, with the child support of course very much higher than £11.28.
- The succeeding year's figures to end March 2001 were available by the time of the tribunal, and it is common ground they then became the correct ones to be used for calculating the liability from the effective date of 20 September 2001. They showed the turnover had increased to £284,570, on which the business made a profit in accordance with standard accountancy principles of £61,305 after charging general trading expenses of £113,711 and depreciation of £107,301: pages 60, 80. For tax purposes the profit chargeable to Schedule D after adding back depreciation and other minor non-allowable expenses was £169,520: that is basis (A). For this year too however, the children's father was able to claim substantially higher capital allowances against tax than the depreciation charge in his own accounts; these amounted to £148,628, leaving a net figure carried to his taxable income of only £20,892: that is basis (B).
- Thus for the year in which the "true and fair" view of his profit as shown in the accounts was £61,305, the "total taxable profit" under paragraph 2A for calculating his child support liability has to be taken as either £169,520 or £20,892 (that is £3,260 a week on basis (A) or less than one-eighth of that, £401 on basis (B)), and it has got to be one or the other.
- The tribunal's solution, which was agreed by all parties to have been wrong, was a modified version of basis (B). It left the capital allowances as fully deductible, but added back in adjustments for two items, a bad debt figure, and the running costs of what the tribunal regarded as his unnecessarily expensive car; on the purported ground that these amounted to intentional disposals by him with a view to reducing his income for child support purposes, contrary to paragraph 27 of schedule 1 cited above.
"Total taxable profits"
- It was common ground that the expression "total taxable profits" read by itself could have either meaning, and that the definition of "submitted to" in paragraph 2B(2) as meaning
"submitted to the Inland Revenue in accordance with their requirements by or on behalf of the self-employed earner"
provided little help. As already noted, "total taxable profits" does not appear as a defined term of art in the relevant provisions of the tax legislation either, but some assistance is to be gained from the structure of the main charging provisions for self-employed trading income, and the way allowances for capital expenditure are separately computed and made against this, to which Mr Mostyn helpfully drew my attention. I take the tax legislation as it stood in March 1999 when the regulation introducing paragraph 2A was made: regulation 6(5) Child Support (Miscellaneous Amendments) Regulations 1999 SI No. 977.
- By sections 18, 74 Income and Corporation Taxes Act 1988:
"18 (1). - The Schedule referred to as Schedule D is as follows:-
SCHEDULE D
Tax under this Schedule shall be charged in respect of –
(a) the annual profits or gains arising or accruing – ...
(ii) to any person residing in the United Kingdom from any trade, profession or vocation …
(2) Tax under Schedule D shall be charged under the Cases set out in subsection (3) below, and subject to and in accordance with the provisions of the Tax Acts applicable to those cases respectively.
(3) The Cases are -
Case I: tax in respect of any trade carried on in the United Kingdom or elsewhere …
74. General rules as to deductions not allowable.
(1) Subject to the provisions of the Tax Acts, in computing the amount of the profits or gains to be charged under Case I or Case II of Schedule D, no sum shall be deducted in respect of – ....
(f) Any capital withdrawn from, or any sum employed or intended to be employed as capital in, the trade, profession or vocation, but so that this paragraph shall not be treated as disallowing the deduction of any interest; ..."
- It is common ground (and beyond dispute) that under these provisions no deduction for depreciation or capital expenditure can to be made in computing the "annual profits or gains arising or accruing" within the charge to tax under Schedule D. Allowances for capital expenditure are made under a separate piece of legislation (at that time, the Capital Allowances Act 1990) which provides for them to be made in varying ways and in varying amounts according to the type of expenditure, the type of person claiming it and the region of the country where he is, under various different heads such as industrial buildings and structures, plant and machinery and so forth.
- It is not necessary to delve into this very complicated code beyond noticing the basic system for allowances for machinery and plant under Part II of the 1990 Act, by means of "first year allowances", applicable to certain cases only and equal to 40% or more of new capital expenditure on machinery or plant, and "writing down allowances" under section 24, generally applicable at the annual rate of 25% of the reducing balance from time to time of a trader's aggregate capital expenditure on machinery or plant, subject to "balancing charges" to bring into account the disposal value of machinery etc. on which allowances have already been made.
- The basic way in which allowances and charges are to be made is laid down by section 75 which provides that
"(1) … any allowance or charge made to or on any person under this Part shall be made to or on that person in taxing his trade",
though in some circumstances the allowance is to be made direct by way of discharge or repayment of tax, with any balancing charge given effect by a special additional charge to income tax under Schedule D. By section 140, allowances made in taxing a trade under section 75(1) (the method applicable to the children's father in this case):
"… shall be given effect by treating the amount of any allowance as a trading expense of the trade in [the relevant period of account]",
with a provision that any claim by a person for such an allowance must be made in his return of income for income tax purposes. Thus the total of any such allowances to be made to such a person, if he chooses to claim them, is to be treated as a trading expense for the period in question, even though under the charging provisions themselves which determine the "profits arising or accruing" within the charge to income tax under Schedule D it is not such an expense.
- The only other relevant aid to construction drawn to my attention, at which it is I think entirely proper for me to look in view of the ambiguous expression used by the Secretary of State, was the statement made by the Government Minister in the House of Lords on 23 March 1999 (HL Deb col. 1269) when moving the amending regulation for approval under the affirmative resolution procedure, as follows:
"This package of regulations marks a step along the way of improving the CSA. We all know the difficulty that the CSA has is particularly marked in obtaining maintenance from self-employed non-resident parents. Regulation 6 introduces provisions which self-employed parents should find helpful, enabling them to provide the figures which they use for self-assessment of their earnings for tax purposes, for use in calculating maintenance. Only where they are unable to provide them, for example, if the business is a new one, will the agency have to continue to use the old cumbersome arrangements."
That it seems to me confirms the inference from the provisions themselves as summarised above that the intention of paragraph 2A was to reduce duplication of administrative work for the department and self-employed parents alike. It provides no support at all for any suggestion that it was part of its purpose to make the substantive change of starting to allow self-employed parents a full deduction for capital allowances for child support when they had no deduction at all for capital expenditure before.
- Taken in that legislative context, it seems to me that Mr Mostyn's submissions on behalf of the children's mother are to be preferred, and that the dilemma has to be resolved by choosing interpretation (A). As already noted there is nothing in the wording of the provisions themselves or the Parliamentary material to suggest that the introduction of the new system in paragraph 2A, of taking the child support figures from those already included in a tax return or shown in an Inland Revenue calculation, was intended as anything other than a means of saving trouble for all concerned, so as to arrive at substantially the same result as the previous "cumbersome" system. Nor is there anything to suggest the intention to introduce a substantive change of such potential magnitude as giving a full deduction under the paragraph 2A system for capital allowances, when such a deduction had never been allowed before and was still expressly excluded in cases where the paragraph 3 system still applied by virtue of paragraph 2C or 5A.
- However imperfect the system of not allowing anything for capital expenditure or depreciation (it may I suppose have been thought, as in the original income tax rules, that the ability to deduct the annual interest cost of the money borrowed for this purpose was sufficient to arrive at the annual "income profit"), it seems to me Mr Mostyn must be right in saying it would be absurd to impute to the Secretary of State the intention to superimpose on it, or Parliament to approve, something even more capricious whereby the amount to be counted as a parent's "income", and thus the maintenance to be provided for the needs of his children, should vary so widely and erratically according to where one happens to be directed to look for the figures of what ought substantially to amount to the same thing.
- The ambiguous expression "total taxable profits" must therefore in my judgment be taken as equivalent to the "profits or gains arising or accruing" that are brought within the charge to Schedule D under section 18 of the Taxes Act, computed in accordance with the rules set out for that purpose in section 74: that is basis (A).
- That conclusion is reinforced by considering the nature of the system of capital allowances claimable against the net trading profit chargeable to income tax under Schedule D once that has been ascertained. The amounts and rates of such allowances that may be claimed by particular individuals or types of business in particular years may (as already seen) be quite different from the depreciation applicable on normal accounting principles to ascertain profit for the profit and loss account. They may vary widely from year to year depending on how the system is used by the Chancellor of the Exchequer to regulate the economy, for example by giving increased allowances or "free depreciation" in some years to some types of business or in some regions of the country as a means of stimulating demand and encouraging investment (such as the 100% first year allowances currently available to small businesses for investment in information and communications technology: conversely there have been periods when central government policy was to withdraw capital allowances from the tax system altogether and make direct grants to industry for investment instead). These fluctuations in the amounts that may be claimed by a self-employed business for capital allowances are no doubt for good policy reasons in the general management of the economy, but there can I think be no rational basis for their being taken as intended to affect the amount of child support maintenance required to be provided for children, or what a parent responsible for such maintenance should fairly be made liable to pay.
- My substituted decision on the figure to be used for the formula assessment is therefore set out above, in accordance with basis (A). As it is conceded that the formula produces the maximum child support maintenance assessment on that basis, it is not necessary for me to consider the question of any departure direction. I confirm however that (as also conceded by all parties) the tribunal decision embodied a plain misdirection in holding that there could be no case for a departure direction for "inconsistent lifestyle" taking the view that as they put it in their statement of reasons at page 133:
"... such ground is only appropriate when it is established that a person could not sustain his lifestyle on the income declared, i.e. he has under-declared his income."
- The misconception that passage embodies is perhaps more understandable when one looks only at the heading to regulation 25 Child Support Departure Direction and Consequential Amendments Regulations 1996 SI No. 2907, ("Lifestyle inconsistent with declared [sic] income"); but under the regulation itself there can be no doubt that the actual comparison required is between the level of income on which the current assessment is based, and that required to support the overall lifestyle of the person concerned. Therefore if some quirk in the rules for the formula assessment results in an artificial and unrealistically low figure having to be assumed for a person's income in the calculation, that is a case where a departure direction under this head may be considered even though the non-applicant has been perfectly truthful in declaring the figures from which the calculation has to be made.
- Finally and for the sake of completeness I confirm that the tribunal were also plainly wrong, as conceded by all sides, in purporting to apply their own adjustments to the formula under paragraph 27 of schedule 1 to the Assessments regulations for what they termed "disposals" or diversions of income by the children's father to avoid child support when in fact there was no evidence to support this.
- The appeal is therefore allowed, the tribunal's decision set aside, the decision above substituted and the case remitted to the Secretary of State for redetermination of the child support assessment accordingly.
(Signed)
P L Howell
Commissioner
6 October 2003
