Court of Appeal provides guidance on “in connection with…employment” test in Part 7A ITEPA
The Court of Appel has handed down its judgment in Marlborough DP Ltd v HMRC [2025] EWCA Civ 796 and has addressed the meaning of the phrase “in connection with…employment” as it appears in the disguised remuneration regime.
The disguised remuneration regime is contained in Part 7A, Income Tax (Earnings and Pensions) Act 2003. It applies where a third party takes a ‘relevant step’ in pursuance of arrangements which relate to an employee, where it is reasonable to suppose that the relevant arrangement “is (wholly or partly) a means of providing, or is otherwise concerned (wholly or partly) with the provision of, rewards or recognition or loans in connection with [the employee’s] employment”. A ‘relevant step’ includes actions such as the making of loans, paying sums of money, transferring assets and earmarking funds. Where Part 7A applies, the value of the relevant step is treated as employment income and taxed accordingly.
Here, MDPL’s operated a dental practice. Dr Thomas worked as a dentist at the practice and was MDPL’s sole director and shareholder. MDPL used a marketed tax avoidance scheme involving a ‘remuneration trust.’ The scheme attempted to achieve a corporation tax deduction for MDPL in respect of sums contributed by MDPL to the trust which was approximately equal to the profits made by MDPL in each relevant year. The trustees of the trust delegated the management of the funds contributed to a company of which Dr Thomas was the sole shareholder and director. That company made loans Dr Thomas out of the funds contributed which were never repaid. MDPL paid Dr Thomas a very small salary in each relevant year.
HMRC issued various assessments on the basis that MDPL was not entitled to a corporation tax deduction and Dr Thomas had received general earnings or employment income by virtue of the application of Part 7A. By the time the appeal reached the Court of Appeal the only live issues were whether Part 7A applied and, if so, whether MDPL was entitled to a corporation tax deduction.
MDPL had accepted that the scheme did not work but argued that Part 7A did not apply, but if it did, MDPL was entitled to a corporation tax deduction. The Upper Tribunal had concluded that Part 7A did apply. In reaching that conclusion, the Upper Tribunal stated that the “in connection with…employment” test required a “strong or direct connection between the employment/directorship and the loan” but did not require the employment to be part of the reason for the reward i.e. it was not a causation test. On appeal, MDPL argued that the employment must be part of the reason for the making of the loans for Part 7A to apply.
The Court of Appeal rejected MDPL’s submission, stating that it attempted to import into Part 7A a causation test which was simply not there. The Court emphasised that the meaning of the phrase “in connection with” would depend on the particular statutory context, but in principle a connection could be indirect. The Court found that the phrase “strong and close nexus” was apt in the context of the authority in which it appeared but it should not be regarded as a gloss to be added to the phrase “in connection with” wherever it appeared in tax legislation. However, the Court did not state that the Upper Tribunal had erred in applying a “strong or direct connection” test in the context of Part 7A. Finally, the Court upheld the Upper Tribunal’s decision that in making the contributions to the trust, MDPL had a tax avoidance purpose and was therefore not entitled to a corporation tax deduction.
Colm Kelly appeared for HMRC, along with Julian Ghosh KC, Barbara Belgrano and Sarah Black.
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