TMI Blog1991 (1) TMI 456X X X X Extracts X X X X X X X X Extracts X X X X ..... s 'a first-year allowance') which shall be of an amount determined in accordance with section 42 below . . . At the material time, the master negative of a film constituted plant for the purposes of this section. The first year allowance was 100 per cent. The transactions in question were carried out by two limited partnerships-one for each film in each of which the taxpayer company was a partner. It is common ground that, for the purposes of section 41, the person referred to in that section is the partnership. The questions which arise are (a) was the partnership a person carrying on a trade, (b) did the film belong to the partnership and (c) did the partnership incur expenditure in the purchase of the film ? If the partnerships qualified for first-year allowances under section 41, under section 155 of the Income and Corporation Taxes Act 1970 the partnership is to be treated for tax purposes as though it were a limited company, but in computing its tax liability no deduction is to be allowed for capital allowances. Instead, under section 155(2), each partner is entitled in computing his or its profit to take into account its share of the partnershi ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... ch was to be provided by means of a revolving credit from Chemical Bank on the security, inter alia, of the film. Principal photography began on 26 May 1980. A Mr. Wilde on behalf of his employer, the merchant bank Guinness Mahon and Co. Ltd., had devised a scheme whereby United Kingdom investors could take advantage of first-year allowances in relation to films. Mr. Wilde had also negotiated with L. P. I. in early 1980 the terms on which his scheme could be used for investment in Escape to Victory . The advantages of the scheme to L. P. I. were that it provided cheaper finance and to investors. that it made available to them first-year allowances which could be used as a tax shelter against other profits. Mr. Wilde marketed his scheme in the United Kingdom as a tax deferral scheme, charging a fee of 7 per cent. payable to Guinness Mahon. Mr. Wilde brought the scheme to Mr. Whitfield, who recommended it to the treasury committee and the group main board. The scheme was implemented all on one day, 14 July 1980. The basic document was a partnership agreement made between Victory Film Productions Ltd. ( Victory Productions ) as general partner and five other companies, of whi ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... e with the terms of the completion loan. L. P. I. assigned to Victory Partnership all its rights in the film, including the ownership of that part of the film which had already been made. (3) Victory Partnership retained the ownership of the master negative, but granted to L. D. I. I. in perpetuity an exclusive licence to distribute and exploit the film outside the United Kingdom. L. D. I. I. was to charge distribution fees at what the commissioners accepted were near market rates and to retain the gross receipts until it had recouped its distribution expenses and the shares of profit payable to members of the cast and other participators in the film. Victory Partnership appointed Firrilee Ltd., another L. P. I. company, its sole and exclusive agent to distribute and exploit the film in the United Kingdom. (4) The net receipts of the film were payable to Victory Partnership and were divisible (a) as to 25 per cent. to Victory Partnership and as to 75 per cent. to L. P. I. in repayment of the production loan until Victory Partnership should have recouped its capital outlay of $ 3,250,000, described as the break even point, at which time L. P. I. would have recovered a sum equal ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... se of the partners. Instead Victory Productions acquired from L. P. I. 100 per cent. of the film and paid 100 per cent. of the total budgeted cost. However out of the total liability for the cost Victory Productions provided 75 per cent. out of loans from L. P. L, whose associated company, L. D. I. I. took a 75 per cent. equity participation. This structure provided Victory Partnership with the element of gearing necessary to achieve the fiscal advantages that the limited partners were seeking and Mr. Wilde's scheme was designed to achieve. By borrowing 75 per cent. of the capital cost of the film Victory Partnership was able to spend four times its own capital in the provision of plant and obtained first-year allowances of an amount equal to that expenditure. As receipts from the film came in, the gearing would have a corresponding but deleterious effect for tax purposes. Until the indebtedness to L. P. I. was repaid, Victory Partnership would be taxed on 100 per cent. of its receipts, although it had to pay over 75 per cent. of such receipts to L. P. I. But since expenditure on the film necessarily precedes the receipt of income, Mr. Whitfield had calculated that ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... ioners found that there was no reasonable prospect of the film making a profit for Victory Partnership or even breaking even. The financial outcome for L. P. I. is more difficult to quantify. It depends on the treatment of the completion fee, the budgetary overrun and the overhead charge. As to this, there is a disagreement between the commissioners and the judge. In my judgment, the dispute is irrelevant since it is not in question that L. P. I. and its associates entered into the transactions on a genuine commercial basis. The commissioners' decision The commissioners started by setting out the common ground between the parties and the issues that they treated as before them. They said : It is common ground in these appeals that [ the taxpayer company's ] investment in films was tax motivated and tax orientated . . . [ the taxpayer company I and the revenue part company however over the extent to which the fiscal motive has invaded the transactions entered into by [ the taxpayer company ] in relation to the two films 'Escape to Victory' and ' Outland. ' Mr. Thornhill put [ the taxpayer company's ] position very succinctly on the penul ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... f 300 per cent. cost recovery is markedly inferior to that obtaining on a complete flop. The best position by far ... is obtained on 50 per cent. cost recovery. (4) The transaction was aptly described in documents which predated the formation of Victory Partnership by Guinness Mahon as a tax deferral scheme and by Mr. Black, a senior executive of the Tilling group, as a scheme. (5) Escape to Victory was originally budgeted at $ 11.5m., but this budget had increased to $13m. Mr. Whitfield was aware that by 21 June 1980 the film was already $ 20,000 over the budget of $ 13m., contingency allowance of $ 1 m. having been exhausted, and may have been aware that by 5 July it was $ 0.50m. over budget. Yet this caused the taxpayer company no concern. (6) The Tilling Group had envisaged that, since the completion of the film was dependent on L. P. I. finance, the possibility of L. P. L's insolvency would be covered by a bank guarantee, but no such guarantee was ever sought. (7) There were certain features of the documents executed on 14 July which, in their view, tended to diminish any faith in their commerciality. (8) The partnership did little after 14 July 1980. ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... ground that the only relevant question is whether Victory Partnership, as opposed to the taxpayer company, entered into the arrangements as commercial transactions. The judge took the view that the commissioners had not directed their findings to this point, but had largely concentrated on the motives of the taxpayer company. The judge also appears to have held that the commissioners were in error in having regard to motive or intention at all : in ascertaining whether the transaction was commercial, he considered that they should have concentrated on the terms of the deal made between Victory Partnership and L. P. I. He described, at p. 1236 [1990] 186 ITR 666, 684 685, the crucial question as being whether the transactions entered into by the partnerships were on commercial terms with a view to profit. . . He dismissed the commissioners' findings as to Mr. Wilde's negotiations as being concerned only with Mr. Wilde's subjective motivation. Having found that the commissioners had misdirected themselves, the judge held that on the primary facts found by the commissioners there was only one possible conclusion in law, viz., that they were trading trans ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... obtained the necessary finance from investors who were primarily motivated by the hope of obtaining a fiscal advantage rather than a commercial profit and (ii) the transaction itself was deliberately structured in order to secure the fiscal advantage without ceasing to be commercial or jeopardising the prospects of profit ? He said that the answer to that question was in the affirmative and therefore that the only possible finding was that the transaction was a trading transaction. Commercial purpose In the ordinary case, the question whether a transaction is a trading transaction will be answered by looking objectively at what was done in order to see if it is similar to transactions of the same nature in the commercial world and carried out in a similar way : per Lord Clyde in Inland Revenue Commissioners v. Livingston (1926) 11 T. C. 538, 542. But it is established that a transaction which has all the features of trade must also have a commercial purpose: Lupton v. F. A. and A. B. Ltd. [1972] A. C. 634 ; Coates v. Arndale Properties Ltd. [1984] 1 W. L. R. 1328, 1333 Overseas Containers (Finance) Ltd. v. Stoker [1989] 1 W. L. R. 606, 613 [1991] 188 ITR 383. The judg ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... tion beyond what could be gathered from the transactions themselves and their implementation. But, in my judgment, other authorities show that evidence of the subjective intention of the parties is admissible and relevant. In Lupton's case [1972] A. C. 634, 657, Viscount Dilhorne held that, in deciding whether a transaction was a trading transaction, regard must be had to the whole transaction. Lord Donovan, at p. 658B, held that it was wrong to regard as irrelevant the fact that fiscal advantage was in view. Lord Simon of Glaisdale said, at p. 660 : (3) share-dealings and other business transactions vary almost infinitely ; and to determine whether the transaction is, on the one hand, a share-dealing which is part of the trade of dealing in shares or, on the other, merely a device to secure a fiscal advantage, all the circumstances of the particular case must be considered ; (4) a share-dealing which is palpably part of the trade of dealing in shares will not cease to be so merely because there is inherent in it an intention to obtain a fiscal advantage, or even if that intention conditions the form which such share-dealing takes ; (5) what is in reality merely a dev ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... e nature of the transaction. Therefore, in my judgment, the commissioners were fully entitled to have regard to the motives or intentions of the Victory Partnership in deciding whether the purpose of the transaction was a commercial one. The relevance of the taxpayer company's intentions. As I have said, the judge criticised the commissioners for having regard to the motives or intentions of the taxpayer company since the question was not whether the taxpayer company had been trading but whether the Victory Partnership was trading. In my judgment, such criticism is justifiable only to the extent that the commissioners were relying on the taxpayer company's intentions as such, rather than as evidence of the intentions of Victory Partnership. Although the commissioners never spelt this out in so many words, in my judgment it is clear that they were relying on the taxpayer company's intentions only to the extent that they provided evidence as to the intention of Victory Partnership. The commissioners were in no doubt as to the correct question they had to ask themselves-they twice expressed it correctly whether the two limited partnerships were trading having cons ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... ; (2) the question whether a transaction is a trading transaction is a question of fact for the commissioners, not a question of law ; (3) if the commissioners find as a fact that the sole object of the transaction was fiscal advantage, that finding can in law only lead to one conclusion, viz., that it was not a trading transaction. Since a fiscal advantage was the sole purpose there is no place for there being any commercial purpose ; (4) if the commissioners find as a fact only that the paramount intention was fiscal advantage, as a matter of law that is not decisive since it postulates the existence of some other purpose, albeit not paramount, which may be commercial. In such a case, the commissioners have to weigh the paramount fiscal intention against the non-fiscal elements and decide as a question of fact whether in essence the transaction constitutes trading for commercial purposes. Therefore, on its face, the commissioners' decision purporting to reach their conclusion as one of law is erroneous. The Crown, however, submitted that whatever words the commissioners used they were not misdirecting themselves in law but were reaching an overall decision of fact after w ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... ommissioners could properly have found that the transaction was not trading despite the possibility of profit. So, in the present case, the mere fact that there was a possibility that Victory Partnership might make a truly commercial profit if the film, were a great success does not preclude a finding that it was not a trading transaction. In my judgment, the relevant questions (adapted from propositions (4) and (5) of Lord Simon's speech in Lupton's case [1972] AC 634, 660) are these : was this a transaction which was palpably part of the trade of engaging in film production ? If so, it will not cease to be so because there was an intention to obtain a fiscal advantage, even if that intention conditioned the -form of the agreements. Or was it in reality merely a device to secure first-year allowances on 100 per cent. of the film ? If so, it will not be trading notwithstanding that the documents and terms were normal in commercial transactions of the same kind. If the matter is in doubt, the intentions of the Victory Partnership will be relevant and may be decisive. I must emphasise that it is the intentions of the Victory Partnership, not those of L. P. I. which ar ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... ransaction of a kind similar to transactions of the same nature in the commercial world and carried out in a similar way. (2) In addition to the outward badges of trade, in order to be a trading transaction its purpose must be commercial. (3) The question was it trading ? is a question of fact for the commissioners. (4) In deciding that question, the commissioners must look at the transactions as a whole including the steps taken for its implementation. (5) The commissioners must decide whether the transaction was in reality merely a device to secure a fiscal advantage or a genuine trading activity. (6) The ultimate question always remains what was the purpose of the transaction ? That question will normally be answered by an objective analysis of the transactions viewed as a whole. (7) If the appearance of the matter, as shown by an objective analysis of the transactions, is equivocal, the subjective intention of the taxpayer is relevant in determining the purpose of the transaction and will generally be decisive. (8) A transaction can be equivocal and therefore evidence of subjective intention relevant even if there was a possibility of the transaction producing a commerc ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... e with Sir Nicolas Browne-Wilkinson V.-C. that for the reasons which he has given this appeal should be allowed and the case remitted to the special commissioners. I add only one comment of my own. It seems to me helpful to keep two questions separate : (1) whether the transaction was a trading transaction ; and (2) whether in entering into it Victory Partnership was carrying on a trade. The first question naturally comes first, because unless the transaction was a trading transaction, the second question cannot arise. The first question must, if possible, be determined objectively, and the motives of the parties are initially irrelevant. If the true nature of the transaction cannot be determined, its paramount object must be examined. For my part, I should have thought that the ascertainment of the paramount object of the transaction is also an objective process. But it is at this stage, when other features of the case are taken into account, and the paramount object of the transaction may not prove decisive, that the second question falls to be considered. In answering it, evidence of subjective intention should obviously play its part: Isvjera v. Inland Revenue Commissioners [ ..... X X X X Extracts X X X X X X X X Extracts X X X X
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