SPC00432
INCOME TAX – company owned equally by husband and wife  –husband was  sole director and wife  was company secretary -  company’s only business was the supply of consultancy services which were performed only by the husband –the wife performed company secretarial and administrative services- in some years company paid modest salaries to both husband and wife – in some years more substantial dividends were paid equally to husband and wife -- whether the dividend income paid to the wife in those years was income arising under a settlement made by the husband and so treated as the income of the husband as settlor – yes -  appeal dismissed by a casting vote  -  ICTA 1988 s 660A (1)  
COSTS – whether the Respondent had acted wholly unreasonably in connection with the hearing - yes as to one issue – application unanimously allowed - Special Commissioners (Jurisdiction and Procedure) Regulations 1994 SI 1994 No. 1811 Reg 21(1) 
THE SPECIAL COMMISSIONERS

GEOFFREY PETER JONES
Appellant
- and -

MICHAEL VINCENT GARNETT 
(HM INSPECTOR OF TAXES)
Respondent

			SPECIAL COMMISSIONERS: DR NUALA BRICE
JUDITH POWELL

Sitting in public in London on 14 – 16 June 2004

Malcolm Gammie QC, with David Smith of Accountax Consulting Limited, instructed by Anne Redston of Ernst & Young , for the Appellant 

Rupert Baldry of Counsel, instructed by the Solicitor of Inland Revenue, for the Respondent

© CROWN COPYRIGHT 2004

DECISION
The appeal

1.	Mr Geoffrey Peter Jones (the Appellant) appealed against three notices of assessment and a notice of amendment of his self-assessment. Details were:

Description		Year of assessment		Date made		Amount		
Notice of assessment 		1996/97		11 September 2002	£6,750.00
Notice of assessment 		1997/98		11 September 2002	£5,862.40
Notice of assessment 		1998/99		11 September 2002	£7,199.40
Notice of amendment		1999/00		18 August 2003	£8,492.30
of self-assessment

2.	The assessments and the notice of amendment of self-assessment were made because the Inland Revenue were of the view that the Appellant was liable to pay income tax on dividends paid to his wife (Mrs Jones) in respect of a share owned by her in a company called Arctic Systems Limited (which was jointly owned by the Appellant and his wife) because, they argued, the dividends were income arising from a settlement within the meaning of section 660G of the Income and Corporation Taxes Act 1988 and that income could be treated as the income of the Appellant as settlor of that settlement as a result of section 660(A)(1) of the same Act. The Appellant appealed against the three assessments for the years 1996/97, 1997/98 and 1998/99 on the ground that the Inland Revenue had no power to make the assessments under section 29 of the Taxes Management Act 1970 (the 1970 Act) and appealed against the assessments and the notice of amendment of self-assessment on the ground that the dividends were not income arising from a settlement of which the Appellant was settlor.

3.	The appeal was heard on 14-16 June 2004. On 11 June 2004 the Inland Revenue cancelled the assessments for the three years 1996/97, 1997/98 and 1998/99. Accordingly, the appeal as it relates to the assessments is allowed and we formally discharge those assessments. The Appellant applied for an order for costs in connection with the appeal as it related to the assessments.   

The legislation 

4.	Part XV of the Income and Corporation Taxes Act 1988 (the Consolidating Act) (sections 660A to 694) contains the provisions about settlements. Chapter 1A (sections 660A to 660G) contains the provisions about the liability of the settlor. Section 660A deals with income arising under a settlement where the settlor retains an interest. Section 660A(1) provides: 

“660A(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.”

 5.	Rule 21(1) of the Special Commissioners (Jurisdiction and Procedure) Regulations 1994 SI 1994 No. 1811 provides:

“21(1)	…. A Tribunal may make an order awarding the costs of, or incidental to, the hearing of any proceedings by it against any party to those proceedings (including a party who has withdrawn his appeal or application) if it is of the opinion that the party has acted wholly unreasonably in connection with the hearing in question.”

The issues

6.	The issues for determination in the appeal were:

(1)	whether the dividends paid to Mrs Jones consisted of income arising under a settlement of which the Appellant was the settlor so that they should be treated as the income of the Appellant under section 660A(1); and

(2)	whether the Respondent had acted wholly unreasonably in connection with the appeal as it related to the assessments for the years 1996/97, 1997/98 and 1998/99 within the meaning of Regulation 21(1). 

The evidence

7.	There was a statement of agreed facts. Four bundles of documents were produced. Oral evidence was given by the Appellant on his own behalf and oral evidence was also given on behalf of the Appellant by Mrs Diana Denise Jones, the wife of the Appellant. 

The facts relating to the first issue 

8.	From the evidence before us we find the following facts relating to the first issue in the appeal.

The Appellant and Mrs Jones

9.	The Appellant and his wife were married in 1980. Until 1989 Mrs Jones had a career in management in catering. By 1989 she was working for Gardner Merchant Limited as a catering manager responsible for eleven staff and departmental budgeting.  Thus she had acquired experience in financial and business management. In 1989 she left work to start a family and then did not have any significant income. The Appellant and Mrs Jones operate a joint bank account.
 
10.	The Appellant has always worked in the information technology field. Until 1992 he was in continuous employment and worked for a number of different public companies. He was made redundant on a Friday in 1992. He and Mrs Jones discussed the advantages and disadvantages of his working as a consultant for a number of different clients rather than being the employee of one company and they decided to start an information technology business together. The following week the Appellant wrote out his curriculum vitae and sent it to potential clients. The week after that he obtained an offer of work as a consultant.

11.	However, it was necessary to form a limited company to offer the consulting services because information technology agencies and their potential clients will only deal with limited companies and the Appellant could not contract direct with either the agencies or the clients.. Accordingly, the Appellant and Mrs Jones approached a firm of accountants (the first accountants) who arranged for them to buy an off-the-shelf limited company. As the Appellant had no experience of owning or managing a company Mrs Jones agreed to handle all the financial and administrative requirements of the company and to act as its company secretary. 

The company

12.	Arctic Systems Limited (the company) had been incorporated on 5 August 1992 by Waterlow Nominees Limited and Waterlow Secretaries Limited. Its authorised share capital was (and remains) £1,000 divided into 1,000 shares of £1 each. There were two subscriber shares. Waterlow Nominees Limited subscribed for one £1 share and was appointed director and Waterlow Secretaries Limited subscribed the other £1 share and was appointed company secretary. Article 20 of the company’s Articles of Association provides: 

“The Directors may in their absolute discretion and without assigning any reason therefor, decline to register the transfer of a share, whether or not it is a fully paid share.”

13.	On 11 August 1992 the Appellant and Mrs Jones acquired the company. Waterlow Nominees Limited sold and transferred its share to the Appellant and resigned as director, the Appellant being appointed sole director in its place. On the same day Waterlow Secretaries Limited sold its share to Mrs Jones and resigned as company secretary, Mrs Jones being appointed in its place. Each of Mr and Mrs Jones paid £1 each for their share. Mrs Jones was not appointed a director on the advice of the first accountants (and no explanation for this advice was given in evidence) but The Appellant would have been happy if she had been so appointed. There have been no subsequent changes in the issued share capital, shareholdings or officers of the company. The principal activity of the company, as stated in its financial statements, is the provision of computer consultancy services.  We accept the evidence of the Appellant that he would not, under Article 20, decline to register the transfer of Mrs Jones’ share; as far as he was concerned, she could do what she wanted with her share.

14.	The acquisition by each of the Appellant and Mrs Jones of one share was recommended by the first accountants who advised them that that was the standard method of working for similar companies. The first accountants also advised that it was normal for husbands and wives to own the shares in this way as the entitlement to dividends depended upon the ownership of the shares. The Appellant understood that if dividends were paid to his wife the overall tax payable would be less than it would be if all the dividends were to be paid to him.  

15.	At all material times the company’s business has been the provision of computer consultancy services. The company has not engaged in any other business. The computer consultancy services are performed by the Appellant. The company has employed no one other than the Appellant and Mrs Jones in her capacity as company secretary.  

16.	The company conducts its business by contracting with specialist agencies to make the Appellant’s services as a computer consultant available to those agencies and through them to their clients for specified periods of time. In the period from 3 January 1996 to 30 June 2000 the company contracted to provide computer consultancy services to three agencies and through them to four clients. The Appellant worked for one client at a time. The charges to be made by the company were fixed after arm’s length negotiations between the Appellant and the agency.

17.	Mrs Jones undertook all the book-keeping work, liased with accountants and the bank, organised business insurance, prepared the value added tax returns and paid the tax; and did the company’s invoicing. She signed off the company’s accounts in her capacity as company secretary. She discussed with the Appellant new contracts and contract renewals and took calls from agencies to arrange appointments for interviews. She sent out the Appellant’s CV as necessary. She worked on average about four or five hours each week on company business. 

18.	Neither the Appellant nor Mrs Jones had a formal written contract of employment with the company. There were no formal board meetings. The Appellant and Mrs Jones discussed business matters regularly but informally. As the shareholders of the company the Appellant and Mrs Jones agreed that the company would pay them salaries which would meet their basic needs and that any profits would be distributed as dividends. Of course, it was the Appellant as director who would decide whether to declare the dividends.   

The company’s financial arrangements 

19.	The company’s financial statements for its first year of trading (the period ending on 31 October 1993) showed that turnover in that year was £53,340 of which administrative expenses amounted to £17,225 leaving an operating profit of £36,115. (Director’s emoluments, as recommended by the first accountants, amounted to £7,298.) Profit after taxation was £27,087 and dividends were declared amounting to £26,094. The company purchased fixed assets (computer equipment) from the Appellant for £935.  

20.	In each year the company paid a salary to each of the Appellant and Mrs Jones and accounted for income tax under the PAYE Regulations. The amounts of the salary were suggested by the first accountants and for later years were:  

Year 				The Appellant			Mrs Jones

1996/97			£7,146.00			£2,400
1997/98			£7,140.00			£2,400
1998/99			£6,868.00			£3,600
1999/00			£6,520.00			£3,600

21.	The company was assessed to corporation tax on its net taxable profits after deduction of salaries and other expenses. Its turnover, net taxable profit and corporation tax (before credit for advance corporation tax) for its accounting periods in later years were:

Year ending 		Turnover	Net profits		Corporation tax 

31 October 1997	£87,400	£68,307		£15,192.24
31 October 1998	£82,371	£62.439		£13,112.00
31 October 1999	£91,123	£74,707		£  9,389.96
31 October 2000	£78,355	£26,372		£  4,927.02

22.	In each year the company declared and paid dividends on its shares and the amounts in later years were 

Year 				The Appellant			Mrs Jones

1996/97			£27,000.			£27,000
1997/98			£23,450.			£23,450
1998/99			£28,750			£28,750
1999/00			£25,767.25			£25,767.25

23.	The dividends were paid quarterly by separate cheques to the Appellant and Mrs Jones drawn in their favour. Each of the Appellant and Mrs Jones paid the dividend cheques into their joint bank account. The company accounted for advance corporation tax in respect of its dividends in every year up to and including 1998/1999 after which the obligation to account for advance corporation tax on dividends was abolished. 

24.	In the years 2000/2001 and 2001/2002 the Appellant thought that he was affected by the IR35 legislation. Accordingly in those years he received a salary of £41,500 but no dividends and Mrs Jones received neither a salary nor dividends. From 2001/2003 the Appellant took a salary of £8,400 per annum and Mrs Jones a salary of £3,600 per annum. 

25.	The company was registered for value added tax and accounted for value added tax on its supplies.

Reasons for decision on the first issue  

26.	The first issue in the appeal is whether the dividends paid to Mrs Jones consisted of income arising under a settlement so that they should be treated as the income of the Appellant under section 660A(1).

27.	We were not able to agree on this issue. This is an important appeal and there is no authority directly in point to assist us. Accordingly, paragraphs 28 to 94 of this Decision set out the views of the Special Commissioner presiding at the hearing and paragraphs 95 to 141 set out the dissenting opinion. Regulation 18(2) of the Special Commissioners (Jurisdiction and Procedure) Regulations 1994 SI 1994 No. 1811 provides that where proceedings are before a Tribunal which comprises two Special Commissioners, in the event of an equality of votes, the Special Commissioner presiding at the hearing shall be entitled to a second or casting vote. Accordingly the final decision is that of the Special Commissioner presiding at the hearing.

The arguments 

28.	For the Appellant Mr Gammie argued that section 660A(1) did not apply. First he argued that, based on the facts of this appeal, there was no statutory settlement (that is, a settlement for the purposes of Part XV of the Consolidating Act) of which the acquisition of a share by Mrs Jones formed a part. Next, he argued that, if an arrangement were to constitute a statutory settlement, there had to be bounty and the acquisition of her share by Mrs Jones at the correct price was a commercial matter not involving the provision of bounty by the Appellant. If the acquisition of the share was not part of the statutory settlement any later arrangements involving acts of bounty by the Appellant (for example, by taking a less than market salary and then declaring dividends) could not result in the creation of a statutory settlement involving the share already owned by Mrs Jones. Thirdly, he argued that there was no property comprised in the settlement. The later bounteous acts did not involve any income-producing property since human capital was not property from which income arose because there was no obligation to draw a market salary. It followed that the dividend income paid to Mrs Jones arose from her own share which was not property comprised in a statutory settlement. Fourthly, he argued that there was no settlor because the Appellant did not provide any funds and his forgoing of part of his salary was not the provision of funds. Fifthly, he argued that, even if there had been bounty, the arrangement had been an outright gift from one spouse to another of property from which income arose and so the exemption in section 660A(6) applied and the arrangement was not a statutory settlement. Finally, he argued that, when the section had been amended in 1989 to take into account the independent taxation of married women, it had not been the intention of Parliament to leave arrangements such as those in the present appeal subject to the section; a literal interpretation did not always reflect the intention of Parliament.

29.	For the Inland Revenue Mr Baldry argued that the acquisition of the share by Mrs Jones together with the Appellant’s agreement to work for the company for low remuneration amounted to an arrangement and so was a statutory settlement. There was an element of bounty because Mrs Jones enjoyed the profits arising from the provision of the Appellant’s services. The Appellant was the settlor and the shares were the settled property. There was income arising under the settlement, namely the dividends paid to Mrs Jones.  

The questions

30.	The arguments of the parties give rise to the following questions:

(1)	Was there a settlement?

(2)	Was there any element of bounty?

(3)	Was the Appellant a settlor?

(4)	Was there any property comprised in the settlement?

(5)	Was the dividend income paid to Mrs Jones income arising under the settlement? 

(6)	Was the arrangement an outright gift?

(7)	Did Parliament, when introducing independent taxation for married persons, intend arrangements such as these to be statutory settlements?

31.	Before addressing these questions it is convenient to outline the historical development of the settlements legislation.

The historical development of the settlements legislation 

32.	It seems that the first of what came to be known as the settlement provisions appeared in section 20 of the Finance Act 1922 and was described by Lord MacMillan in Chamberlain v Commissioners of Inland Revenue (1943) 25 TC 317 at 329 in the following way:

“This legislation forms part of a code of increasing complexity  … designed to overtake and circumvent a growing tendency on the part of taxpayers to endeavour to avoid or reduce tax liability by means of settlements. Stated quite generally, the method consisted in the disposal by the taxpayer of part of his property in such a way that the income should no longer be receivable by him, while at the same time he retained certain powers over, or interests in, the property or its income. The Legislature’s counter was to declare that the income of which the taxpayer had thus sought to disembarrass himself should, notwithstanding, be treated as still his income and taxed in his hands accordingly.” 

33.	Chamberlain concerned a revocable settlement. Over the years different settlement provisions have dealt with different circumstances. Because these different provisions have been introduced at different times it is always necessary, when considering the authorities, to have particular regard to the relevant section under consideration.     

34.	By 1979 the settlement provisions had been widened still further and were described by Lord Wilberforce in Commissioners of Inland Revenue v Plummer (1979) 54 TC 1 at 42 in the following way:

“Part XVI of [the Income and Corporation Taxes Act 1970] … includes a number of provisions which have been enacted at different times, the general effect of which is to cause income of which a person has disposed in various ways to be treated, in spite of the disposition, as the income of the disposer.   These had been successively enacted in the Finance Acts 1922, 1936, 1938. 1946 (inter alia) with increasing severity. … My Lords, it can, I think, fairly be sent that all of these provisions, in Part XVI, have a common character. They are designed to bring within the net of taxation dispositions of various kinds, in favour of a settlor’s spouse, or children, or of charities, cases in popular terminology, in which a taxpayer gives away a portion of his income, or of his assets, to such persons, or for such periods, or subject to such conditions that Parliament considers it right to continue to treat such income, or income of the assets, as still the settlor’s income.”

35.	In 1988 the income tax legislation was consolidated in the Consolidating Act and the provisions about settlements were contained in Part XV (sections 660 to 694). Chapter IV (sections 683 to 698) contained the provisions about the liability to higher rate and additional rate tax. Section 683 provided that where, during the life of the settlor, income arising under a settlement was payable to or applicable for the benefit of any person other than the settlor, then unless the income was specifically excluded, it was treated as the income of the settlor for the purposes of higher rate tax. Section 685 contained provisions supplementary to section 683 and section 685(4) provided that in section 683 the expressions “income arising under a settlement” “settlement” and “settlor” had the meanings assigned by section 681. Section 681 provided that “settlement” included “any disposition, trust, covenant, agreement or arrangement”. 

36.	The Finance Act 1988 provided for the independent taxation of married women but did not immediately alter the settlements legislation. This was done in the Finance Act 1989. Section 108 of the Finance Act 1989 inserted a new subsection (4A) into section 685 of the Consolidating Act which provided that, for the year 1990-91 and subsequent years, references in section 683 (liability to higher rate tax) to a settlement did not include references to an outright gift by one spouse to the other of property from which income arose unless the gift did not carry the right to the whole of that income or the property given was wholly or substantially a right to income. 

37.	For the years 1995-96 and subsequent years part of the settlements legislation in Part XV of the Consolidating Act was re-cast by section 74 and Schedule 17 of the Finance Act 1995. New provisions (introduced as sections 660A – 660G) were inserted in place of sections 660 to 676 and 683 to 685 of the Consolidating Act. New section 660A contains provisions applicable to income arising under a settlement where the settlor retains an interest and the relevant parts provide:

“660A(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.  

(6)	The reference in subsection (1) above to a settlement does not include an outright gift by one spouse to the other of property from which income arises, unless-

(a)	the gift does not carry the right to the whole of that income, or

(b)	the property given is wholly or substantial a right to income.

For this purpose a gift is not an outright gift if it is subject to conditions, or if the property given or any derived property is or will or may become, in any circumstances whatsoever, payable to or applicable for the benefit of the donor.”

38.	Section 660G now contains provisions about the meaning of “settlement” and related expressions and section 660G(1) and (2) provides:

“660G(1)	In this Chapter-
“settlement” includes any disposition, trust, covenant, 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.”

39.	It is the legislation as amended in 1995 which applies in this appeal.

40.    With that background of the historical development of the settlements legislation in mind it is possible to consider the questions raised by the arguments of the parties.  

Question 1 - Was there a settlement?

41.	The first question is whether there was a settlement. In considering this question, it is relevant that section 660G(1) provides that in section 660A(1) “settlement” includes any “arrangement”. 

42.	For the Inland Revenue Mr Baldry argued that there was a statutory settlement and he relied upon the word arrangement which the Shorter Oxford English Dictionary defined as “a structure or combination of things for a purpose”. This definition was accepted by Mr Gammie for the Appellant. Mr Baldry also relied upon the definition of the word arrangement in the New Shorter Oxford English Dictionary of “a disposition or preparation for a future event” or “a number of objects arranged or combined in a particular way”. Mr Gammie agreed that the Appellant and Mrs Jones had an arrangement as the company was a joint enterprise for the purpose of earning profits. However, while Mr Gammie accepted that the whole of what had been done by the Appellant and his wife could constitute an arrangement it did not constitute a statutory settlement; not every arrangement was a settlement. 

43.	The meaning of the word “arrangement”, and the question whether all arrangements come within the settlements legislation, have been considered in a number of authorities. In Plummer Lord Wilberforce at 43 referred to the settlement provisions and said

“These sections … though drafted in wide, and increasingly wider, language are nevertheless dealing with a limited field – one far narrower than the field of the totality of dispositions or arrangements or agreements which a man may make in the course of his life.” 

44.	Thus not all arrangements come within the settlement legislation. In order to decide whether the arrangements in this appeal come within section 660A(1) I have considered the authorities cited to us. 

45.	As early as 1940, in Commissioners of Inland Revenue v Payne (1940) 23 TC 610 at 626, the appellant engaged in a tax avoidance scheme the object of which was to reduce his taxable income and to receive back the sum by which it was reduced in the form of capital. He entered into a deed of covenant (which had no business purpose) with a company which he controlled under which he covenanted to make payments to the company for the rest of his life or until the company were wound up. The company was wound up six months later.  The appellant argued that the amount paid under the deed of covenant was a deduction in computing his total income for surtax purposes. At that time section 38 of the Finance Act 1938 provided that, if any person had the power to revoke or determine a settlement, in which event the settlor or his spouse would become entitled to the whole or part of the property comprised in the settlement, or the income arising from the property so comprised, then the income arising under the settlement from the property comprised in the settlement should be treated as the income of the settlor. Settlement was defined so as to include “any disposition, trust, covenant, agreement or arrangement”. 

46.	In considering whether what Mr Payne had done was an “arrangement” within the meaning of the section, Sir Wilfred Greene MR at 626 said that the word “arrangement” was not a word of art; it was used in what might be described as a business sense and the question was whether there was an arrangement as so construed. The whole of what was done had to be looked at and the true view was that Mr Payne deliberately placed himself into a certain relationship with the company as part of a definite scheme. There were things which it was essential that Mr Payne had to do if he wished to bring about the desired result. He did that by a combination of obtaining the control of the company, entering into the covenant, and then dealing with the company in such as way as to achieve his object. The taxpayer had placed himself in a position in which he could bring to an end his liability under his deed of covenant, he was in a position to revoke the settlement. That was a deliberate scheme; it was an arrangement; accordingly it was a settlement and, as it was revocable, it was a revocable settlement. 

47.	From that authority I derive the principle that, in considering whether there is an “arrangement” for the purposes of the settlements legislation, one has to consider whether what was done, in whole or in part, was a definite scheme to bring about a desired result. On the facts we have found I conclude that the whole of what was done in this appeal, including the purchase of the company by both the Appellant and Mrs Jones, the provision of the Appellant’s consultancy services to clients through the company, the payment of the modest salaries, and the declaration by the Appellant of the dividends was a definite scheme the intention of which was to ensure that part of the profits of the company, derived from the work of the Appellant, was paid to Mrs Jones in the form of dividends with a consequent saving of income tax. It is relevant that the Appellant was the sole director of the company and so had the sole right to declare dividends. His control over the amount distributed as dividends was illustrated in 2000/2001 and 2001/2002 when no dividends were declared. Mr Gammie sought to distinguish Payne on the grounds that the purpose of the arrangement in that appeal was tax avoidance and that the covenant had no business purpose. I find that the purpose of the arrangements in this appeal was to reduce tax because the Appellant understood that dividends paid to his wife would reduce the tax payable by him. (I deal the business purpose below within the discussion of the question as to whether there was any element of bounty.).  

48.	Three more recent authorities have taken forward the meaning of the word “arrangement”. In Crossland v Hawkins (1961) 39 TC 493 Mr Hawkins, a well-known actor, agreed with a new company to render services to it at a salary of £50 each week and gave the company the right to assign those services to a third party. Mr Hawkins was not a shareholder in the company but was a director. Subsequently one of the shares in the company was acquired by Mr Hawkins’ wife and his accountant jointly and one by his accountant. Three months later Mr Hawkins’ father-in-law settled £100 on trust for Mr Hawkins’ three children making Mrs Hawkins and the accountant the trustees. Mr Hawkins was not consulted about the grandfather’s settlement.  The trustees used the money to buy the unissued shares in the company. Two years later Mr Hawkins acted in a film; the company received £25,000 for providing his services and paid him £900; and a year later the company paid an interim dividend of £500 which the trustees applied for the benefit of the children. Mr Hawkins then, on behalf of his children, claimed repayment of their personal allowances and reliefs. The issue was whether there was a settlement within the meaning of section 397 of the Income Tax Act 1952 (which provided that where under a settlement income was paid to or for the benefit of a child of the settlor the income should be treated as the income of the settlor) and, if so, whether Mr Hawkins was a settlor.   

49.	At 505 Donovan LJ held that the language of section 397 did not require that the whole of the eventual arrangement must be in contemplation from the outset. Further, there was a “sufficient unity” about the whole matter to justify it being called an arrangement for the purposes of the section because the ultimate object was to secure for somebody money free from what would otherwise be the burden of tax.  Thus, the formation of the company, the service agreement, the settlement of the £100, and the trustees’ acquisition of the shares together formed an “arrangement” and therefore a settlement. He went on to hold that as Mr Hawkins provided funds to the settlement he was also a settlor. Therefore the dividends paid to the shareholder trustees and applied for the benefit of the children were to be treated as the income of Mr Hawkins.    

50.	Applying those principles to the facts of the present appeal I am of the view that there was “a sufficient unity” about the whole arrangements entered into by the Appellant and Mrs Jones to justify the arrangements together being called an arrangement for the purposes of section 660A. The ultimate object was to reduce the tax burden of the Appellant. The facts in Hawkins may be distinguished from the facts in this appeal because in Hawkins the service contract was entered into with the company before the shares were acquired by the trustees whereas in this appeal her share was acquired by Mrs Jones before the Appellant entered into any contract with an agency or a client. However, I see that as a distinction without a difference because in Hawkins, although there was a service contract, there was no certainty that any work would result.     

51.	Mr Gammie sought to distinguish the facts in Hawkins from the facts in the present appeal. He argued that the legislation at issue in Hawkins was section 397 of the Income Tax Act 1952 which was directed at settlements by parents on their children. He relied upon the words of Donovan LJ at 502 as authority for the principle that incorporating a company and entering into a service contract for a nominal or low salary was an arrangement but not an arrangement which amounted to a settlement because Donovan LJ had referred to that arrangement as “perfectly legitimate”. It was the subsequent contribution of the shares in the company to the grandparent’s settlement which created a settlement within the meaning of section 397 of the 1952 Act and he relied upon the fact that in that case there was a strict settlement. It was the combination of all those steps that was crucial. And as Mr Hawkins had indirectly provided funds for the settlement he was a settlor. 

52.	I am not persuaded by these arguments. At 502 Donovan LJ described the way in which an artiste might form a limited company which he controlled and, by means of a service agreement, give the company the right to his services. In return the company would pay the artiste a modest salary and hire the artiste out receiving the consideration for his services. A reasonable dividend might be distributed and the rest put to reserves. Surtax on the artiste’s earnings would thus be reduced and ultimately the reserves would be distributed as capital. It was this which was at the time described as perfectly legitimate. However, this arrangement alone did not involve any sharing of dividends with another. Accordingly, the words of Donovan LJ cannot be taken to extend to the facts of the present appeal where not only is there a limited company but also the intention to distribute dividends to Mrs Jones.. Finally, I do not see that the existence of a strict settlement made any difference to the conclusion in  Hawkins. It was the formation of the company, the service agreement, the grandparent’s settlement of the £100, and the trustees’ acquisition of the shares which together formed the “arrangement” for the purposes of the settlements legislation. There is no requirement in that legislation that an arrangement has to include at least one strict settlement.      

53.	The second more recent authority is that of Mills v Commissioners of Inland Revenue (1971) 49 TC 367 which concerned a young actress of fourteen years of age. Her father formed a company and settled the shares in it on trust for her. The actress then entered into a service agreement with the company to render her services to it for five years for a salary of £400 each year. Later the company contracted with a film company to supply the Appellant’s services for payments between $30,000 and $75,000 each year. Most of the profits of the company were paid to the trust by way of dividend and were not distributed by the trustees. The appellant was assessed to surtax on the basis that the undistributed income of the trustees fell to be treated as her income under section 405 of the Income Tax Act 1952 which provided that where a settlor had an interest in income arising under a settlement any income so arising if not distributed was to be treated as the income of the settlor. The House of Lords held that the incorporation of the company, the issue of the shares, the making of the settlement and the making of the service agreement were together an arrangement constituting a settlement and that the Appellant was a settlor because she had indirectly provided funds for that settlement.

54.	That authority supports the view that in this appeal the purchase of the shares in the company, the unwritten arrangement under which the Appellant would work for the company, and the declaration of the dividends, together amounted to an arrangement within section 660G. Mr Gammie sought to distinguish Mills because there the service company was not a commercial necessity as it was in this appeal. I accept that in this appeal the Appellant had to offer his services through a service company but there was no compulsion on him to operate through a service company jointly owned by his wife and he did not have to declare dividends and thus donate half the dividends to Mrs Jones. 

55.	The third most recent authority is Young v Pearce (1996) 70 TC 331. There two individuals (the directors) each owned a share in a company and were its only directors. Later the share capital was divided into ordinary and preference shares. If there were to be any distribution the preference shareholders were entitled to a dividend of 30% of the net profits, the balance being paid to the ordinary shareholders. Each director was then allotted twenty four ordinary shares and the wife of each director was allotted twenty five preference shares on payment in full of the nominal amounts of the shares.  Profits were distributed in 1990, 1991 and 1992 and dividends paid on the preference shares. The issue was whether the dividends paid to the wives in respect of their preference shares should be taxed as the income of their husbands. Vinelott J held that the creation of the preference shares and their allotment to the wives, for payment, constituted an arrangement and so a settlement. That case differs from the present appeal because it concerned an already established company so that the preference shares had a value in excess of the subscription price paid for them and also it was conceded that there was a gift of the shares by each husband to his wife. However, in this appeal it is my view that the share purchased by Mrs Jones had a “hope” value as the intention, at the time of the purchase of the share, was that  she would receive dividends in the future.  

56.	Before leaving this question a reference should be made to Butler v Wildin 61 TC 666 where Vinelott J held, at 678B, that the relevant date for determining whether there was an arrangement by virtue of which income was paid was the date when the company was acquired and its shares allotted. At that date a potentially profitable venture had been identified and from that date everything that needed to be done was done to ensure that the opportunity was exploited by the company. In this appeal there was an arrangement at the date that the company was acquired and the shares purchased.  

57.	In the light of the authorities I conclude that, in this appeal, the purchase of the shares in the company, the entering by the Appellant into the informal arrangement with the company that he would offer his services to clients through the company, and his subsequent decisions to declare dividends amounted to an arrangement within the meaning of section 660G and so was a settlement within the meaning of section 660A.  

Question 2 - Was there any element of bounty?

58.	The second question is whether there was any element of bounty. Strictly, this is part of the first question because the authorities have established the principle that an arrangement is not a statutory settlement unless there is an element of bounty. In Butler v Wildin at 684 Vinelott J said that in deciding whether an arrangement is within or without a settlement provision the starting point must be to identify the arrangement. The question then is whether, taken as a whole, it contained the requisite element of bounty. Is is, therefore, convenient to consider the question of bounty separately.

59.	As early as 1939 the need for an element of bounty was recognised. In Copeman v Coleman (1939) 22 TC 594 a husband and wife owned a company and preference shares of £200 were allotted to their children in return for £10 in cash provided from the children’s money. The company then declared a dividend of £40 for each share and the father claimed repayment of tax on the dividend on behalf of his children. It was held that this was an “arrangement” because it was not a bona fide commercial transaction. Later, in 1979 in Plummer the issue was whether certain payments made by the appellant were payments of an annuity or other annual payment and so deductible in computing the appellant’s total income for surtax purposes. One argument was that the arrangements were a settlement. Lord Wilberforce dealt with this argument at 42 and concluded that some element of bounty was necessary if an arrangement were to be a settlement within the statutory provisions. Later, in 1964 in Commissioners of Inland Revenue v Leiner (1964) 41 TC 598 Plowman J at 596 held that “it is implicit in the fasciculus of sections of which Section 401 forms a part that some element of bounty is necessary to make the sections apply and that a bona fide commercial transaction would be excluded from their operation”. In that case there were commercial elements to the transactions but Plowman J looked at the arrangement as a whole and asked if the appellant were worse off after the transactions constituting the arrangements and found that he was. That was sufficient to amount to bounty.  Later still in 1982 in Commissioners of Inland Revenue v Levy  (1982) 56 TC 68 the Inland Revenue argued that an interest free loan conferred an element of bounty because the borrower did not assume any obligation other than the repayment of the loan; it followed, they argued, that there was a settlement within the meaning of section 454(3) of the Income and Corporation Taxes Act 1970. Nourse J held that, on the facts of that appeal, the loan was a commercial transaction devoid of any element of bounty and so was not a settlement. 

60.	For the Appellant Mr Gammie argued that there was no element of bounty in this appeal. He argued that the establishment of the company was a purely commercial matter done for commercial reasons because a computer consultant could not get work if he did not have a company. Mrs Jones and the Appellant purchased one share each. That was a purely commercial arrangement. They both worked for the company and each drew a salary. It was not argued that that was not a commercial arrangement. The acquisition of the contracts by the company was a purely commercial matter.  The distribution of the dividends to Mrs Jones followed from her rights as a shareholder and that was a commercial matter. The company was run commercially and paid corporation tax and value added tax. 

61.	I have already concluded that the purchase of the shares in the company, the entering by the Appellant into the unwritten service arrangement with the company to provide his services to clients through the company, and his intention to make subsequent decisions as sole director to declare dividends, amounted to an arrangement within the meaning of section 660G. I am also of the view that there was an element of bounty in those arrangements primarily at the time of the allocation of the shares with the intention of declaring dividends in the future. The allocation of the shares was in the gift of the Appellant; if he had wished to acquire both shares he could have done so and Mrs Jones would not have objected nor would she have refused to carry out the work she did for the company.  Also, although the Appellant was not bound to draw a market salary from the company his decision not to do so and instead to declare a dividend in some years was an act of bounty in those years. I accept that some of the steps in the arrangement were commercial but, taken as a whole, the Appellant was worse off after them because he was no longer entitled to receive all the profits of the company which were derived from his work. I accept that the Appellant had to offer his services through a company but there was no compulsion on him to operate through a service company jointly owned by his wife and he did not have to donate half the profits to Mrs Jones by means of dividends. Indeed, in two years the Appellant, as sole director, did not declare any dividends.  

62.	Mr Gammie went on to argue that the profits of the company out of which the dividends were paid were earned as a result of the joint efforts of the Appellant and Mrs Jones. It was his argument that the Appellant gave nothing away that was recognised property or a recognised source of income. All he did was to forego a larger salary and there was nothing in the Taxes Acts which provided that everyone had to receive a particular salary. Nor did the Taxes Acts provide that the value of dividends paid to a shareholder should not exceed the contribution of the shareholder to the company. Taxpayers were not assessed to tax on salaries they might have earned. 

63.	I do not entirely agree with these arguments. The reality of the arrangements was that Mrs Jones was remunerated for her efforts by her salary. (I accept that there was no element of bounty in her salary and for that reason that part of the arrangements does not constitute a settlement.) Apart from that, the profits of the company out of which the dividends were paid were earned as result of the efforts of the Appellant in providing his consultancy services to the clients of the company.  The result of the totality of the arrangements was that the Appellant did effectively give away a part of those profits. The whole of the arrangements were entered into to enable Mrs Jones to share the results of the work of the Appellant.    

64	I conclude that the allocation of the share to Mrs Jones with the intention in future of declaring dividends did amount to an element of bounty.

Question 3 - Was the Appellant a settlor?

65.	The third question is whether the Appellant was a settlor. Section 660G(1) provides that a settlor means a person by whom the settlement was made and section 660G(2) provides that a person is deemed to have made a settlement if he has made or entered into the settlement directly or indirectly and if he has provided funds directly or indirectly for the purposes of the settlement.                                                                           

66.	In my view the Appellant directly entered into the arrangements I have defined and directly provided funds for the arrangements from his work as a computer consultant. He was, therefore, a settlor. 

Question 4 - Was there any property comprised in the settlement?

67.	The fourth question is whether there was any settled property. Mr Baldry suggested that the shares of the company were the settled property but this was disputed by Mr Gammie who argued that Mrs Jones’ share in the company was not a part of any arrangement. He also argued that it was only income arising under the settlement which could be treated as the income of the Appellant and so the income producing asset had to be part of the settled property; it followed that the dividend income paid to Mrs Jones did not arise under the settlement from which it followed that the dividend income could not be treated as the income of the Appellant. Mr Gammie further argued that section 660A was not a charging provision. These was no general concept of “income” and income was not subject to tax by virtue of an arrangement but by virtue of being included in one of the Schedules or Cases of the Consolidation Act. It was first necessary to identify a source of income chargeable to tax and all that section 660A did was to change the identity of the person on which it was to be charged

68.	The need for settled property (or property comprised in a settlement) was considered in Chamberlain v Commissioners of Inland Revenue (1943) 25 TC 31 where, at page 331 Lord Macmillan said:

“I accept the view that the statutory expansion of the term “settlement”, which includes an “arrangement”, justifies and indeed requires a broad application of section 38 of the Act of 1938, but a settlement or arrangement to come within the Statute must still be of the type which the language of the section contemplates. I agree … that the settlement or arrangement must be one whereby the settlor charges certain property of his with rights in favour of others … It must comprise certain property which is the subject of the settlement; it must confer the income of the comprised property on others, for it is the income so given to others that is to be treated as nevertheless the income of the settlor.”  

69.	This principle was followed in Lord Vestey’s Executors and Vestey v Commissioners of Inland Revenue (1949) 31 TC 1 where the House of Lords held that the words “property comprised in a settlement” in section 38 meant only the property charged with rights in favour of others. Lord Simonds at 82 referred to Chamberlain  and said:

“True it is, that as was there observed, each case must be judged on its own facts, but I think that the principle of that decision clearly is that the steps which are taken towards a settlement are not to be confused with the settlement itself and (what is all important to the present case) that the “property comprised in the settlement” is that property alone in respect of which some beneficial interest is created.”  

70.	As with all the authorities which deal with other settlement provisions it is relevant to consider the actual words of the section under consideration. In Chamberlain and Vestey the section under consideration was section 38 of the Finance Act 1938 which provided that, if any person had the power to revoke or determine a settlement, in which event the settlor or his spouse would become entitled to the whole or part of the property comprised in the settlement, or the income arising from the property so comprised, then the income arising under the settlement from the property comprised in the settlement should be treated as the income of the settlor. Settlement was defined so as to include “any disposition, trust, covenant, agreement or arrangement”. The words of Lord Macmillan and Lord Simonds refer to these provisions. 

71.	Although there is no reference in section 660A to the “property comprised in a settlement” nor to “income arising under the settlement from property comprised in the settlement” the final words of section 660A(1) refer to “income arising from property”. From this it appears to follow that the income arising under the settlement referred to in the first part of section 660A(1) should be interest arising from property.  Without reaching a final view on this point I do accept the argument of Mr Gammie that section 660A is not a charging provision and that the income arising under the settlement must arise from a recognised source of income.  

72.	 In my view the share in the company owned by Mrs Jones was the settled property. Her holding of the share was part of the arrangement which constituted the statutory settlement and she held the share through the bounty of the Appellant.

Question 5 - Was the dividend income paid to Mrs Jones income arising under the settlement?

73.	The fifth question is whether the dividend income paid to Mrs Jones was income arising under the settlement. Section 660A  requires there to be income arising under the settlement.

74.	. For the Appellant Mr Gammie argued that, in this appeal the income which the Inland Revenue were seeking to charge on the Appellant was the income which they said that the Appellant should have drawn in salary and that was not a source of income chargeable to tax. For the Inland Revenue Mr Baldry argued that the dividends paid to Mrs Jones were income arising under the arrangement which was a settlement. 

75.	In considering these arguments I return to the words of the legislation. Section 660A(1) refers to “income arising under a settlement”. “Settlement” includes an arrangement. In my answer to the first question I have found that the purchase of the shares in the company, the entering by the Appellant into the unwritten service agreement with the company and his subsequent decisions to declare dividends was the arrangement. The income arising under this arrangement was the dividends paid to Mrs Jones and that is the income arising under the settlement. The dividends derived from Mrs Jones’ share which is a recognised source of income for the purposes of the Consolidating Act. 

Question 6 – Was the arrangement an outright gift? 

76.	The sixth question is whether the exemption for an outright gift in section 660A(6) applies.  

77.	Section 660A(6) provides:

“660A(6)	The reference in subsection (1) above to a settlement does not include an outright gift by one spouse to the other of property from which income arises, unless-

(a)	the gift does not carry the right to the whole of that income, or

(b)	the property given is wholly or substantial a right to income.

For this purpose a gift is not an outright gift if it is subject to conditions, or if the property given or any derived property is or will or may become, in any circumstances whatsoever, payable to or applicable for the benefit of the donor.”

78.	Thus section 660A(6) excludes one type of transaction from the definition of a “settlement” for the purposes of section 660A(1), namely an absolute gift from one spouse to another. Section 660G(1) provides that a simple transfer of assets is a settlement. Thus, in the absence of section 660A(6), any income from assets gifted by one spouse to another would be treated as the income of the donor spouse. Prior to the independent taxation of husband and wife this would be irrelevant because the wife’s unearned income was treated as the income of her husband.  

79	The ambit of section 660A(6) was considered in Young v Pearce where Vinelott J considered whether the predecessor of section 660A(1) applied and whether the gifts of the preference shares to the wives were outright gifts which carried the right to the whole of the income. At 345H he said. 

“If the creation and allotment of the preference shares constituted a settlement, the subject-matter of which was the preference shares allotted to the wife of each of the taxpayers, it must follow that the allotment of the preference shares taken by each wife was an outright gift from which income (the dividends paid on the preference shares) arose. It was not subject to any conditions and it cannot be said that the property given might “become, in any circumstances whatsoever, payable to or applicable for the benefit of the settlor/spouse.” 

80.	However, he concluded that the property given was wholly or substantially a right to income within the meaning of what is now 660A(6)(b), because the preference shares entitled the holders to a preferential dividend if the appellants who were the only directors determined to distribute profits in any year. 

81.	I would not distinguish the preference shares in Young v Pearce from the ordinary share in this. I would adopt the words of Vinelott J at 346A and say that the ordinary share in this appeal entitled the holder to a dividend only if the Appellant, who was the sole director, determined to distribute the whole or any part of the profits arising in a given year. Apart from that right to income, the only rights conferred on Mrs Jones as an ordinary shareholder were the right to attend and vote at general meetings of the company and the right to repayment of the value of her share on a winding up. She did not even have the absolute right to transfer her share. (If the Appellant did not decline to register a transfer of her share the share would still remain almost non-transferable in the hands of any purchaser and that lack of transferability would affect its value). Also, the value of her share in a winding up would depend almost entirely on the decisions made by the Appellant as director. He alone could decide whether to vote a salary or dividend or increase reserves (and therefore the value of the shares). In the words of Vinelott J as a matter of strict legal principle the ordinary share is an asset distinct from the income derived from it but in reality the share cannot be realised. The income from the share is dependent upon the Appellant determining to distribute part of the profits of the company.  Bearing in mind the whole of the circumstances in this appeal which surrounded the company, and the intentions of the parties, I would conclude that the property given (the share) was, if not wholly, then substantially, a right to income.

82.	Accordingly it is my view that, in this appeal the property given to Mrs Jones was wholly or substantially a right to income because her share only entitled her to a dividend if the Appellant, who was the sole director, decided to distribute profits in any year. As a result of section 660A(6)(b) the gift was not an outright gift for the purposes of that section.  

83	I conclude that the arrangement was not an outright gift, 

Question 7 - What was the intention of Parliament? 

84.	The final question is whether Parliament, when introducing independent taxation for married persons, intended arrangements such as these to be settlements. Before considering the arguments of the parties I briefly summarise the relevant legislation leading up to independent taxation for married persons.

85.	Historically, the legislation which provided for the aggregation of the income of a husband and wife preceded the settlements legislation. From the commencement of income tax the legislation provided that the income of a married woman living with her husband was deemed to be his income and not hers for income tax purposes; thus both incomes were aggregated. That provision remained until 1988 and appeared as section 279 of the Consolidating Act. After 1914 the legislation provided that either a husband or a wife could opt for separate assessment; in such a case their joint income was still aggregated and treated as one income for the purposes of the rates of tax but the tax was then separately assessed on each in proportion to the amounts of their respective incomes. That provision also remained until 1988 and appeared as section 283 of the Consolidating Act. In 1971 legislation provided that both husband and wife could elect that the wife’s earnings (but not her unearned income) could be separately taxed in which case the amount of her earnings was dis-aggregated from the rest of the husband’s income (which included her unearned income) and the tax rates applied separately to her earnings on the one hand and his income on the other.  That provision also remained until 1988 and appeared as section 287 of the Consolidating Act.    

86.	The legislative provisions about the aggregation of the income of husband and wife were amended by section 32 of the Finance Act 1988 which introduced independent taxation for married women. Section 32 provided that section 279 of the Consolidating Act (which treated the income of a woman living with her husband as his income for tax purposes) should not have effect for the year 1990–91 or any subsequent year. Section 34 of the Finance Act 1988 inserted a new section 282A into the Consolidating Act for the year 1990-91 and subsequent years which provided that income arising from property held in the names of a husband and his wife should, for the purposes of income tax, be regarded as income to which they were beneficially entitled in equal shares.  

87.	Although the Finance Act 1988 provided for the independent taxation of married women it did not immediately alter the settlements legislation. This was done in the Finance Act 1989. Section 108 of the Finance Act 1989 inserted a new subsection (4A) into section 685 of the Consolidating Act which provided that, for the year 1990-91 and subsequent years, references in section 683 (liability to higher rate tax) to a settlement did not include references to an outright gift by one spouse to the other of property from which income arose unless the gift did not carry the right to the whole of that income or the property given was wholly or substantially a right to income. After the amendments to the settlement legislation in 1995 this provision now appears in section 660A(6).

88.	For the Appellant Mr Gammie argued that a reliance upon the literal words of section 660A(1) would not be in accordance with the intention of Parliament. He argued that when, in 1989, Parliament amended the settlements legislation to deal with the independent taxation of married women it could not have intended to leave a trap for those millions of married couples carrying on business as a joint enterprise. There was no reason why Parliament should have provided for an exemption for outright gifts where one spouse gave the other an asset representing the result of his work while leaving other joint enterprises exposed to the risks of the settlement legislation. The reason why Parliament in 1989, in the predecessor to section 660A(6), had given an exemption for an outright gift was because the authorities prior to that date had decided that a transfer of assets was a settlement and so that matter had to be dealt with expressly in the legislation. The authorities had not established that there was a settlement if a married couple worked for less than market value remuneration (except in particular cases like Hawkins and Mills) and so no exception had been necessary in the legislation. It must have been the intention of Parliament that the arrangement of the type entered into by the Appellant and Mrs Jones was not within section 660A. He relied upon Bibby v Prudential Assurance Co Limited 73 TC 235 and argued that the legislative scheme should produce the same results in similar circumstances. The correct tax treatment of married couples was critical for self-assessment.  

89.	Bibby established the principle that the correct construction of a section could not be found merely from the literal meaning of the statutory language. It was also necessary to place the statutory provisions in their context, to ask what the mischief was that the section was intended to meet, and to try and bring into focus a picture of the legislative scheme that Parliament intended to produce. I therefore now apply that principle both to the settlements legislation and to the legislation relating to the independent taxation of married couples.

90.	The purpose of the settlements legislation is more difficult to define because the provisions are diverse and have been introduced at different times. Accordingly I gratefully adopt the suggestion of Mr Gammie that, although the whole scheme of the settlements legislation is complex, its basis is that if one person (A) transfers to another person (B) either income producing assets or an income stream, and if there is a stated relationship between A and B (for example that of a child), then the income paid to B was treated for tax purposes as remaining with A. However, it had always been accepted that if A directed his employer to pay A’s salary to B the salary was still taxed as the income of A. 

91.	Turning now to the purpose of independent taxation, and looking solely at the words of the statutory provisions, I am of the view that in 1988 and 1999 it was the intention of Parliament to promote the independence of married women by encouraging the equalisation of assets between husband and wife by outright gifts which gave the wife the unconditional right to unearned income.  This principle is emphasised by section 282A of the Consolidating Act which provides that income arising from property held in the names of husband and wife is to be regarded as income to which they are beneficially entitled in equal shares. It is also emphasised by section 660A(6) which provides that an outright gift from one spouse to another is not a settlement. (Without section 660(6) such an outright gift would be a settlement because the definition of a settlement in section 660G(1) includes a transfer of assets.) The provisions of section 660A(6) illustrate that it was the intention of Parliament to provide that an outright gift of an income producing asset was not a settlement. However, where the gift does not carry the right to the whole of the income, or if the property given is wholly or substantially a right to income, or if the gift is subject to conditions, or if the property given could become applicable for the benefit of the donor, then such a gift was a settlement. 

92.	Applying those principles to the facts of this appeal I do not consider that the Appellant made an outright gift to Mrs Jones. What he did was to establish a structure under which he could year by year as sole director decide whether to distribute dividends which effectively arose from his work. Such a gift was substantially a right to income and was not the unconditional transfer of an income producing asset. The gift was, of course, subject to the condition that the Appellant would continue to work for the company (and there was no formal service contract) and that the Appellant as sole director would declare dividends (and in two years he failed to do so when all the profits of the company were paid to him by way of salary).   

93.	Accordingly, I conclude that Parliament, when introducing independent taxation for married persons, intended arrangements such as these to be settlements.

94.	My conclusion is that the dividends paid to Mrs Jones consisted of income arising under a settlement so that they should be treated as the income of the Appellant under section 660A(1) 

Dissenting Opinion 

95.		As mentioned above, paragraphs 95 to 141 of this Decision set out the Dissention Opinion of Miss Powell on the first issue in the appeal.

Conclusion

96.	I have concluded that the Appellant did not make a settlement under which the income from Mrs Jones’ share arose. The purchase of a share and the circumstances surrounding it might amount to an arrangement that is a statutory settlement – a formal trust not being a necessary part of such an arrangement. In this case I am persuaded by the Appellant’s argument, presented by Mr Gammie, that whilst there may have been an arrangement involving that share, not all arrangements are statutory settlements, the arrangement has to be judged at the time the share was acquired by Mrs Jones and the arrangement at that stage lacked the requisite element of bounty. I am also persuaded that, if there had been the requisite element of bounty at the relevant stage, the logical consequence would then be that the Appellant made a gift to Mrs Jones. In my view such a gift would have been outright and the provisions of section 660A(6) would prevent that gift from being a statutory settlement for the purposes of section 660A(1).And finally I do not believe that Parliament can have intended the Settlement provisions to apply to a case such as this.

 Essential facts

97.	The facts were not controversial and I am reiterating here only those which are relevant to my conclusions. The full findings of fact are set out fully earlier in this Decision. 

98.	The Appellant and his wife decided to acquire a company because it was the only way in which a computer consultancy business could operate; agencies would not contract with individuals. When they sought professional advice in connection with the acquisition of a suitable company they were advised that “the standard way of working” was for the shares to be owned by husband and wife equally and they were also advised (and broadly understood) that this offered the possibility of income tax advantages for a couple in their position. If they had been advised that the Appellant should acquire the shares alone Mrs Jones would not have objected; equally the Appellant would not have objected if Mrs Jones had, in addition to owning half of the shares, been appointed a director and shared decisions about salary levels and dividends. The question whether the Appellant would have permitted Mrs Jones to transfer her share without restriction was answered positively by him; he was not conscious before the hearing that he had power to prevent her from making a transfer and the power was not specifically conferred on him at his request. Mrs Jones had a role to play in the company’s business – the Appellant plainly valued her administrative skills which she used to carry out the company secretarial services which he would have been reluctant to undertake himself. Mrs Jones impressed me with her air of calm competence and I could see that her support and willingness to undertake this role was an important factor in the couple’s decision to set up a consultancy business. To that extent it was a joint venture even though the main income of the venture derived from his activities. When salaries were drawn there was no effort to calculate whether these bore any relationship to market salaries or, indeed to the income received each year by the company; the salaries were set at a level suggested by the accountant. In several years Mrs Jones drew no salary at all despite continuing to work for the company and in those years she did not receive any dividend income because the Appellant drew a much larger salary than he had done in previous years; he did this because he believed that he was obliged to do so as a result of legislation introduced at the time. He later discovered that this legislation did not apply to him. 

The scope of any settlement.

 	99.	The Appellant says that the share owned by Mrs Jones was not part of any statutory settlement made by the Appellant. He says that, if this argument is correct the income from that share does not arise under a settlement and it is only income that so arises which can be attributed to the Appellant under section 660A(1). And if there was a settlement that included Mrs Jones’ share, then section 660A(6) prevented it from being a settlement for section 660A(1); in any event Parliament did not intend such cases to fall within the Settlement provisions.

100.	The Respondents say that the dividend income can be treated as the Appellant’s income as a result of section 660A(1). They say that a purposive approach must be taken to the settlement provisions, that the arrangement was for the Appellant to provide Mrs Jones with income and this is what Part XV “catches”. He said that such an arrangement, which resembles the cases of Hawkins and Mills, is within the Settlement provisions and so is within section 660A(1).  That type of an arrangement is not an outright gift and is not taken out of the settlement provisions by section 660(6).

101.	I  have looked at the provisions of section 660A (1) concerning the “switching mechanism” (as the income attribution was referred to by Mr Gammie), section 660(G) for guidance on the meaning of the terms “settlement” and “settlor” and at section 660A (6) which provides that certain outright gifts shall not be “settlements” for the purposes of section 660A (1).    

102.	There is no settlement in the ordinary sense of the word in this case but the term “settlement” for the purposes of section 660A(1) expands the meaning to include (amongst others) a disposition, agreement and transfer of assets and an arrangement.   And there are a number of authorities on the meaning of these terms; in particular on the meaning what is and what is not an arrangement for the purposes of the settlement legislation; many of those cases concern earlier legislation.   

	103.	Relatively few of those cases concern the question whether the income producing asset is subject to a settlement at all. In many of the cases concerning what is and what is not an arrangement for the purposes of what is now Part XV of the Taxes Act there was already present a trust or transfer of assets as a result of which income producing assets were held for a third party and the issue in most of those cases was whether this trust or transfer was merely a part of a wider arrangement which is the statutory settlement. In some of these cases, Hawkins and Mills for example, the income producing assets were already held in a formal trust and the question was whether other circumstances were part of a statutory settlement which included that trust; the relevance of the enquiry being to determine whether the taxpayer was a settlor in relation to the wider arrangement. In other cases, such as Payne, the settlor had entered into a covenant which fell within the definition of “settlement” and again the question there was whether it was possible to look beyond the deed and find a wider arrangement including the deed; the purpose of this being to establish the nature of the settlor’s obligations.  

104.	The cases do not demonstrate that a formal trust is an essential ingredient to a statutory settlement but it is a common way in which income producing assets become held for the benefit of third parties. Out of the cases cited to us, most helpful on the question of whether there is a settlement at all is probably the recent decision in Young v. Pearce. That case did involve asking the question whether there was a settlement of the income producing asset.

105.	The cases establish the wide range of circumstances that can be regarded as an “arrangement” for the purposes of these provisions; and in all cases the arrangement includes both the income producing property and the requisite element of bounty. If one of these ingredients is missing from the arrangement the income does not arise under a settlement and if the income does not arise under a statutory settlement made by the Appellant section 660A(1) cannot apply to that income.

106.	In this case an important question is, therefore, whether there is a settlement which includes Mrs Jones’ share. That the settlement must include the income producing property is emphasised by the words of Lord MacMillan in the case of Chamberlain at page 331 where he said:

	“I accept the view that the statutory expansion of the term “settlement”, which includes an “arrangement”, justifies and indeed requires a broad application of section 38 of the Act of 1938, but a settlement or arrangement to come within the Statute must still be of the type which the language of the section contemplates. It must comprise certain property which is the subject of the settlement; it must confer the income of the comprised property on others, for it is the income so given to others that is to be treated as nevertheless the income of the settlor.” (my emphasis)   

107.	In Chamberlain the statutory provision under consideration was section 38 of the Finance Act 1938 which provided that, if any person had the power to revoke or determine a settlement, in which event the settlor or his spouse would become entitled to the whole or part of the property comprised in the settlement, or the income arising from the property so comprised, then the income arising under the settlement from the property comprised in the settlement should be treated as the income of the settlor. Settlement was defined so as to include “any disposition, trust, covenant, agreement or arrangement”. The words of Lord Macmillan refer to these provisions but seem equally apt for establishing what is necessary if income is to arise from a settlement for the purposes of section 660A(1).  Income producing property must be comprised in the settlement if the income from it is to arise “under the settlement” for the purposes of section 660A(1) and I agree with Mr Gammie’s proposition that since section 660A(1) is not a charging section the income arising under the settlement referred to in that subsection must arise from a recognised source.  The closing words of section 660A(1) also support this conclusion (if support is needed) by excluding from its scope income “arising from property in which the settlor has no interest”.  In this case the income which is said to arise under a settlement arises from the share owned by Mrs Jones. And so the settlement must include the share owned by her if that proposition is to be correct.

	  108.	The Appellant says that there is no statutory settlement which includes Mrs Jones share. The Respondents say that there is an arrangement, there is bounty and that the share is the mechanism by which the income is switched to The Appellant and we are encouraged to take a purposive approach to Part XV.  They say that their views are supported by the authorities cited to us.

109.	In this case Mrs Jones was entitled to income because she owned a share in the company which paid a dividend.  The dividend was the income said to arise under a statutory settlement. She acquired the share by purchase from company agents. The obvious conclusion is that a share purchased by Mrs Jones is not a part of any settlement. But there might be circumstances beyond the mere purchase which do support such finding. For example, in Young v. Pearce the creation of preference shares and the allotment of those shares for payment was held to constitute an arrangement.  The arrangement taken as a whole was a statutory settlement.  Because of the width of the term “settlement” it is necessary to consider the wider circumstances; these might establish that there is an “arrangement”.  If there is an arrangement the question then to be asked is whether it is a statutory settlement because not all arrangements are statutory settlements.

Identifying the “arrangement”

	110.	I found observations of Vinelott J. in Butler v Wildin 61 TC 666 at 678 helpful in determining the approach to be taken in determining whether there is an arrangement that might be a statutory settlement where he said in relation to the time when the question must be asked:

	“The relevant date for determining whether there was an arrangement by virtue of which income was paid to the brother or to the children is the date when the company was acquired and the shares were allotted”.

111. 	In determining what might amount to an arrangement at any time, I adopted the approach of Sir Wilfred Greene MR in the case of Payne.  At page 626 he said that the word “arrangement” was not a word of art; it was used in what might be described as a business sense and the question was whether there was an arrangement as so construed.  The whole of what was done had to be looked at and in that case the true view was that Mr Payne deliberately placed himself into a certain relationship with the company as part of a definite scheme. There were things which it was essential that Mr Payne had to do if he wished to bring about the desired result.  He did that by a combination of obtaining the control of the company, entering into the covenant, and then dealing with the company in such as way as to achieve his object. Sir Wilfred concluded that a deliberate scheme of that description was an arrangement. It was not merely the deed of covenant that was the settlement. In that appeal it was necessary to decide whether there was power to revoke a settlement and so the significance of what constituted the arrangement was to enable the court to decide if the taxpayer’s liability to the company was revocable – which, if the terms of the covenant which constituted that liability were considered in isolation it was not.  On its own the covenant was not revocable. However, the arrangement was held to include his wider relationship with the company. That arrangement was the statutory settlement.   As he had placed himself in a position in which he could bring to an end his liability under the covenant he did have power to revoke the arrangement.  

112. 	And so, bearing in mind the importance of the income producing property being a part of the arrangement if section 660A(1) is to be capable of applying to the income I applied the principle in Payne to the facts of the present appeal in order to determine whether there was an arrangement at the time the share was acquired.  

	113.	First, I have considered what the Appellant wished to achieve and it is plain that the Appellant wished to achieve two things. Primarily, to set up a company. The purpose of setting up the company was to enable a business offering computer consultancy services to be established. The Appellant could not engage direct with the agencies who would introduce him to potential clients. It was the requirements of the agencies and the potential clients that drove them to acquire a company. The Appellant’ expertise was critical to that business; he regarded Mrs Jones’ help with administrative matters as very important. Clearly, Mrs Jones could not have run the business without the Appellant and whilst he might have engaged someone to deal with the administrative matters this was unnecessary in view of her willingness to help.  Secondly, and having identified the need for a company, he wished to divide the company’s shares between them equally because of the professional advice they had received about the potential advantages if they each received dividend income which they could only do if they both owned shares in the company. It was clear that the Appellant regarded the potential tax advantages of sharing the shares as an incidental benefit of the corporate vehicle which was required to achieve the main purpose of securing the contracts. The tax advantages did not drive either the Appellant or Mrs Jones to set up the company and I do not believe that they would have set up the company if it had not been required to enable the business to be conducted.   

114. 	At the time the shares were acquired, Mr and Mrs Jones wished to receive between them the whole or substantially the whole of the income earned by the company and they expected, because their accountant had told them that this was efficient for tax purposes, that Mr and Mrs Jones would draw fairly low salaries and then receive dividend income in respect of their (equally owned) shares. In order to bring about this desired result (following the reasoning of Sir Wilfred Greene in Payne) the Appellant and Mrs Jones had to own the shares equally. One or both of them had to be a director so as to be in a position to determine salary levels and declare dividends. Those were the essential things to be done. Once those things were done the desired results could be achieved.  There was a company ready and able to contract with the agencies so that business could be done. And the shares of that company were owned equally by Mr and Mrs Jones. This was acceptable to them both and permitted them each to receive dividend income in future which their accountant had told them would be to their mutual advantage.    

. 	115.	It seems to me that, following the guidance in Payne, that in this case there was an “arrangement” when Mrs Jones acquired her share in the sense that there was a definite scheme to bring about a desired result and, in relation to the second result they desired to achieve, the scheme consisted of the share division and the appointment of the Appellant as director. This placed them in a position to achieve one result that they both desired which was that, if each drew a low salary, the Appellant would declare dividends out of the company’s profits which would be received by them equally since they believed that this would be to their mutual advantage.  

116.	An important issue is whether the arrangement, at the time of the share acquisition, could include the decisions taken year by year when salaries were drawn and dividends were declared. In this context the cases of Hawkins and Mills are helpful and were relied upon by the Respondents as supporting their argument that this is so. In both cases the question at issue was the identity of the settlor. In both cases there was a conventional settlement or trust and if the person who set up the trust in each case was the settlor the income could not be attributed to the taxpayer.   In both cases the strict trust was held to be only an element of the arrangement that was the statutory settlement and the taxpayer was held to be the settlor in relation to the arrangement in each case.  The facts of the two cases contain elements which are similar to the present case – and elements which are not.   

117.	In Hawkins the formation of the company, the service agreement, the settlement of the £100, and the trustees’ acquisition of the shares together formed an “arrangement” and therefore a settlement. In Mills the House of Lords held that the incorporation of the company, the issue of the shares, the making of the settlement and the making of the service agreement were together an arrangement constituting a settlement and that the Appellant was a settlor because she had indirectly provided funds for that settlement. In the present case the Appellant worked for the company for less than a market salary in many years – this is similar to the facts in both Hawkins and Mills but a difference between the present case and the others is that there is no evidence that the Appellant was committed at the outset to the terms on which he subsequently worked for the company – or, indeed, to work for the company at all. But, from the outset he intended to work for the company at a low salary. In some years he did work for a lower than market salary but in a couple of years he did not. The fact he was able to change the arrangements without formality demonstrates that he was not committed to any particular course of action from the outset. There is no evidence that the company could command his services for a less than market salary.

118. 	And in this case I conclude that when Mrs Jones acquired her share there was an arrangement that the shares would be purchased equally between them, that the Appellant would be appointed as director of the company and there was an expectation that both he and Mrs Jones would work for the company at salaries which, certainly in the case of the Appellant was not at a market rate, and that dividends would be declared if there were distributable profits.    

Bounty

119.	In Butler v. Wildin, Vinelott J said at 684 that in deciding whether an arrangement is within or without a settlement provision the starting point must be to identify the arrangement. The question then is whether, taken as a whole, it contained the requisite element of bounty. 

120.	Having identified the arrangement at the time of the share acquisition, the next question is whether that arrangement contains the requisite element of bounty.    

121. 	Mr Baldry for the Respondents submitted that the circumstances of the present case are similar to the case of Hawkins and Mills and that the arrangement in those cases is similar to the arrangement in the present case. He argued that the arrangement was that the Appellant would provide Mrs Jones with income. The Appellant worked for the company for less than market value and this allowed the company to build up distributable profits and this was clear evidence of bounty. I do not think the facts support the existence of any obligation on the part of the Appellant to work for less than market value when the share was acquired and the result the Appellant wished to achieve did not depend upon him having such an obligation. In both Hawkins and Mills the taxpayer might never have been called upon to work for the company; but their commitment to do so if they were called upon is evidence of bounty – they were worse off as a result of that commitment since their freedom to work in future was restricted. The ability to secure the services of the taxpayers in those cases on the terms agreed was a valuable right for each of the companies concerned.  The taxpayer in the present case had no such restriction and the company had no such right.

122. 	Mr Gammie argued for the Appellant that the case of Hawkins could be distinguished from the present case for several reasons – including the absence of a settlement in the present case. Hawkins was concerned with the question of the identity of the settlor in relation to a case where there was unquestionably a strict settlement to which the income producing assets had been transferred. The apparent settlor was not the taxpayer but if the wider arrangement was considered the taxpayer was a settlor. And the same question arose in Mills. In the present case and in contrast to both the other cases there is no formal trust. I do not think that Mr Gammie was saying that the absence of a formal trust was fatal to the existence of a statutory settlement and if he was saying that he is not supported by the authorities such as the recent case of Young v. Pearce.  The point I think he was making is a point which is supported by the authorities namely that, although a statutory settlement can exist even where there is no formal trust, the income producing property must form part of the statutory settlement and the person to whom that income is to be attributed (the settlor) must have made the settlement. Whether the income producing property forms part of a statutory settlement in this case turns, so far as I am concerned, on whether the arrangement surrounding its acquisition contained the necessary element of bounty. The cases of Leiner and Levy show that wholly commercial transactions are excluded from the provisions now contained in Part XV Taxes Act 1988.

123.	The argument for the Appellant that it did not was that the income producing property had been acquired by Mrs Jones as part of a commercial arrangement, the establishment of the company was a purely commercial matter done for commercial reasons because a computer consultant could not get work if he did not have a company. Mrs Jones and the Appellant purchased one share each. That was a purely commercial arrangement. They both worked for the company and each drew a salary. It was not argued that that was not a commercial arrangement. The acquisition of the contracts by the company was a purely commercial matter. The distribution of the dividends to Mrs Jones followed from her rights as a shareholder and that was a commercial matter. The company was run commercially and paid corporation tax and value added tax. If the Appellant subsequently provided bounty to the company and therefore its shareholders when he failed to draw a market salary there could not make him a settlor at that stage since there was no settlement to which he could provide funds since there was no income producing property subject to a settlement. He cited in support of this argument the words of Donovan LJ in Hawkins at p. 502 that incorporating a company and entering into a service contract for a low or nominal salary was an arrangement but not an arrangement that amounted to a statutory settlement. That is true but is not helpful in this case; the facts suggested could not constitute a statutory settlement since the person incorporating the company and entering into the service contract was also the shareholder of the company and there was no arrangement whereby the income producing property was transferred to another.    

124. 	The setting up of the company involved many of the elements of a joint venture between the Appellant and Mrs Jones; she provided support which was certainly an important factor in encouraging the Appellant to proceed with the new venture. But in my view it is incorrect to say that there was not, at any stage, an element of bounty. His decision to work at less than market value was not in recognition of Mrs Jones’ contribution to the venture; he did so because he was advised by his accountant that it would be tax efficient to do so.  There is no doubt that the Appellant provided bounty at some stage. Any other conclusion would be inconsistent with Hawkins and Mills. The question is when this bounty was provided since it is the arrangements of which the share acquisition is a part that must include the necessary element of bounty. And so I agree with the Appellant that if the arrangement at the time of the share acquisition contained no element of bounty there could be no statutory settlement involving Mrs Jones’ share. Bounty not present when the share was acquired could not create or contribute to a settlement including that share.

125.	I have already referred to Young v Pearce as a case where the facts are very similar to the present case. Two individuals (the directors) each owned a share in a company and were its only directors. Later the share capital was divided into ordinary and preference shares. If there were to be any distribution the preference shareholders were entitled to a dividend of 30% of the net profits, the balance being paid to the ordinary shareholders. Each director was then allotted twenty four ordinary shares and the wife of each director was allotted twenty five preference shares on payment in full of the nominal amounts of the shares. Profits were distributed in 1990, 1991 and 1992 and dividends paid on the preference shares. The issue was whether the dividends paid to the wives in respect of their preference shares should be taxed as the income of their husbands. Vinelott J held that the creation of the preference shares and their allotment to the wives, for payment, constituted an arrangement and so a settlement. That facts in that case differ from those in the present appeal because that case concerned an already established company with a profit making record so that the preference shares had a value in excess of the subscription price paid for them and it was conceded in that case that there was a gift of the shares by each husband to his wife. 

126.	I conclude that there was no element of bounty in the arrangement when Mrs Jones acquired her share. The Appellant was not worse off at the time that Mrs Jones acquired her share merely because he intended to provide bounty. An intention to provide bounty is not the same as the provision of bounty. A promise to give is not binding and does not make the person giving it worse off as a result. But when the bounty is actually provided the person is worse off as a result; the bounty was provided by the Appellant when he failed to draw a market salary in the relevant years. And in some years no bounty was provided. In those years he was not worse off. As I have said, the arrangement in both Hawkins and Mills included the service contracts which bound both taxpayers to agree to a course of action beneficial to the company if called upon by the company to do so and this immediately made them worse off as a result; the taxpayer in this case had no such commitment.

. 	127.	If the Appellant had already been bound to provide his services when the share was purchased by Mrs Jones the matter might have been different. In those circumstances I would say that the element of bounty was present at the time of the share acquisition. And if there was a binding agreement at that time the Appellant would not provide further bounty when he carried out his work for less than market value reward – at that later time he would be performing his existing obligations. The bounty would have been provided when he agreed to assume those obligations.  It was not argued that there was a binding but unwritten agreement at the time the shares were acquired and the arrangements lack, in my view, the element of certainty required to establish a binding agreement.  

128. 	If the Appellant had provided bounty at the time that Mrs Jones acquired her share the logical conclusion would be that the shares had a value in excess of the price paid for them.  It is difficult to see how there could be any other conclusion. I do not agree with Mr Baldry that, if Mrs Jones paid market value for the share, the subsequent work at an undervalue could provide the necessary element of bounty so that the share was part of a statutory settlement.  The arrangement must be considered when the share was acquired and for the share to be a part of statutory settlement including that share the necessary element of bounty must be present at that stage and if it is present at that stage it must affect the value of that share.

129.	In reaching this conclusion I do not agree with the proposition put forward by Mr Gammie that because a person is not obliged to draw a market salary for work done by him there can be no element of bounty when he fails to do so – that conclusion is not supported by either Mills or Hawkins. My conclusion is that the arrangement I have identified as existing when Mrs Jones acquired her share did not include that bounty because it was not sufficiently certain to be provided when that share was acquired. And if the arrangement that included the income producing asset was not a statutory settlement, the fact that the taxpayer provided bounty to the company and its shareholders at a later stage does not create at that stage a statutory settlement which includes that share; in the present case the provision of bounty did not form part of an arrangement including any income producing asset. 

Section 660A(6)

	130.	Whilst my conclusion on the question whether there is a statutory settlement including the share owned by Mrs Jones makes it unnecessary for me to consider the provisions of section 660A(6) or the intentions of Parliament I am conscious that it is a point on which different views have been reached and so have gone on to consider what the effect would be if the requisite element of bounty had been present when Mrs Jones acquired her share. It seems to me that, if such was the case, section 660A(6) becomes relevant. In my view the effect of that subsection is that there would not be a statutory settlement for the purposes of section 660A(1) in this case.   

131.	Section 660A(6) provides:-

	“660A(6) The reference in subsection (1) above to a settlement does not include an outright gift by one spouse to the other of property from which income arises, unless-

	(a)	the gift does not carry the right to the whole of that income, or

	(b)	the property given is wholly or substantial a right to income.

	For this purpose a gift is not an outright gift if it is subject to conditions, or if the property given or any derived property is or will or may become, in any circumstances whatsoever, payable to or applicable for the benefit of the donor.”

132.	Thus section 660A(6) excludes one type of transaction from the definition of a “settlement” for the purposes of section 660A(1), namely an absolute gift from one spouse to another. Section 660G(1) provides that a simple transfer of assets is a settlement. Thus, in the absence of section 660A(6), any income from assets gifted by one spouse to another would be treated as the income of the donor spouse.   

133.	The ambit of section 660A(6) was considered in Young v Pearce where Vinelott J considered whether the predecessor of section 660A(1) applied and whether the gifts of the preference shares to the wives were outright gifts which carried the right to the whole of the income. At 345H he said. 

	“If the creation and allotment of the preference shares constituted a settlement, the subject-matter of which was the preference shares allotted to the wife of each of the taxpayers, it must follow that the allotment of the preference shares taken by each wife was an outright gift from which income (the dividends paid on the preference shares) arose. It was not subject to any conditions and it cannot be said that the property given might “become, in any circumstances whatsoever, payable to or applicable for the benefit of the settlor/spouse.” 

	However, he concluded that the property given was “wholly or substantially a right to income.”

	134.	The argument for the Appellant was that if, contrary to what was argued, there could be a statutory settlement involving Mrs Jones’ share, the effect of section 660A(6) is that there is no settlement. The Respondents argued that firstly, Mrs Jones’ share purchase could not be said to be a gift and secondly, even if it was a gift it was not an outright gift within the meaning of that subsection. I consider that if Mrs Jones’ share is part of a statutory settlement it is because, looking at that statutory settlement at the time of Mrs Jones’ share acquisition (as we are bound to do) the share was invested with value as a result of bounty provided by the Appellant under an arrangement existing at that time. Not only would the Appellant be worse off as a result of providing bounty but Mrs Jones would be better off – even if only to the extent of the hope value that would then attach to the shares.   I believe that it is not straining the language of subsection (6) to say that this is a gift by the Appellant and this conclusion is supported by Young v. Pearce. I would also conclude that the gift is an outright gift within the meaning of that subsection. If there was an element of bounty when the share was acquired it was because the Appellant was committed to a course of action at that time and if that is the case his future acts do not provide further bounty. 

135.	The share is an ordinary share carrying with it the rights of such a share- including the rights to full participation in any proceeds of sale or liquidation and to attend and vote at meetings. The expectation was that the main benefit of the share would be the right to receive dividends but that is not the same as the situation on Young v. Pearce where the rights were limited whatever the future of the company.   Many companies start up business based on the efforts of one person and expand subsequently; there was no evidence that Mr and Mrs Jones did have any plans to expand the business but if they did so Mrs Jones would benefit generally from that expansion as shareholder. And if dividends were not declared and the company retained profits which they invested Mrs Jones would benefit from any resulting increase in value. It would be strange if the words of paragraph (b) had the effect that an ordinary share in a company is “wholly or substantially a right to income” even if it is expected that the principal benefit of that share will be in the form of dividend income.  

136.	It is also relevant to consider whether the gift is subject to conditions. The share could not be transferred without the consent of the director who was the Appellant. But that was not a condition of any gift by the Appellant to Mrs Jones when she acquired the share; it was a characteristic of the rights attaching to the shares of the company since all the shares in the company were subject to that requirement which existed from the date of the incorporation of the company. The provision about transfer existed before either Mr or Mrs Jones acquired their shares from the company agents. The declaration of dividends was under the Appellant’s control but that is not a condition of any gift; it merely affects the value of that gift. And there was no evidence that the share might be applied for the Appellant’s benefit and it was the share that was the subject of any gift. Although the value of the share would depend upon the Appellant’s decisions about salary etc, whilst he was director those decisions affected all the shares equally; and the value of shares in any company depend upon numerous factors including the decisions of the directors. It seems to me that what is important is that the value of Mrs Jones’ share (whatever it was) belonged absolutely to her and if the value was realised she would benefit – whatever the form in which it was realised.  This is clearly distinguishable from the position in Young v. Pearce where the shareholders rights were plainly limited to those of an income nature – whatever the circumstances. 

The Intention of Parliament

	137.	Finally, I considered whether Parliament, when introducing independent taxation for married persons, intended arrangements such as these to be settlements.

138.	It seems that, in 1988 and 1999, it was the intention of Parliament to promote the independence of married women by encouraging the equalisation of assets between husband and wife by outright gifts which gave the wife the unconditional right to the subject matter of the gift.  

139. 	It is emphasised by section 660A(6) which provides that an outright gift from one spouse to another is not a settlement. (Without section 660(6) such an outright gift would be a settlement because the definition of a settlement in section 660G(1) includes a transfer of assets.) The provisions of section 660A(6) illustrate that it was the intention of Parliament to restrict the meaning of an outright gift so that where the property given was wholly or substantially a right to income, or where the gift was subject to conditions, or where the property given could become in any circumstances payable for the benefit of the donor the gift would be capable of being a statutory settlement..  

140. 	A family business will be an important asset for a married couple; second in importance in most cases to the family home. The spouses will often share to some extent the work involved. It is likely that this is the type of asset Parliament wishes to encourage couples to share. In this case, I would say that there is no settlement involving Mrs Jones’ share at all because the requisite element of bounty was not present when she acquired it but if, contrary to that view, there could be a settlement because bounty was provided at that time, then I believe that the exemption in subsection (6) of section 660A applies which prevents there being a settlement for the purposes of subsection (1). I would regard it as illogical to say that, if there is the requisite element of bounty at the time of the share acquisition, this did not involve any gift from the Appellant to Mrs Jones and I would also say that any such gift would be outright for the purposes of section 660A(6).    

141.	If the acquisition by Mrs Jones was part of a bounteous arrangement but this did not amount to a gift from the Appellant to Mrs Jones then I would say that it cannot have been the intention of Parliament to subject situations like the one in the present appeal to the settlements legislation.  It would lead to anomalous results. For example, it is accepted by both parties that the Appellant was not bound to draw a market salary – or any salary at all. If he had acquired all the issued shares, failed to take a salary and then, when the company had value, gave half of his shares to Mrs Jones who subsequently received dividends, it is difficult to see why section 660A(6) would not apply to that gift. The Respondents say in the present case there was no gift when Mrs Jones acquired her share but there was still the necessary element of bounty to the arrangement involving that acquisition so that there was a statutory settlement. I cannot see how that can be correct since the income producing asset has to be a part of the arrangement which it will not be if there is no bounty involved in its acquisition. But if the Respondents are correct the matter seems to rest on timing; a gift of shares made valuable as a result of working for less than market value is potentially within section 660A(6) but a purchase of shares for a nominal amount then made valuable by subsequent, under rewarded, efforts is not within that subsection even though the prospect of those under rewarded efforts contributed the requisite element of bounty.  Why should Parliament have intended the result to be different for that reason? If the intention of Parliament is to encourage absolute gifts between husbands and wives so that their assets can be equalised why should the timing of those gifts be relevant?  I would say that timing was not intended to be relevant because there is no settlement in a case such as this. Subsection (6) prevents there being a settlement in other cases where, because of timing, there might be value at the time of acquisition – unless the gift is not outright as was the case in Young v. Pearce.     In the case of an acquisition of ordinary shares which are not subject to conditions it should make no difference whether the shares are acquired by a spouse at the outset (where there is only an expectation that the value of the shares might benefit from the bounty of the other spouse) or at some later stage when value has already built up as a result of the (under rewarded) efforts of that spouse. And I believe that the purpose of section 660A(6) is to ensure that this is so. 

Decision on issue (1)

142	As mentioned above the final decision on this issue is that of the Special Commissioner presiding at the hearing who concludes that the dividends paid to Mrs Jones consisted of income arising under a settlement of which the Appellant was the settlor so that they should be treated as the income of the Appellant under section 660A(1). .

The legislation relevant to the second issue  

143.	The second issue for us to determine is whether the Respondent acted wholly unreasonably in connection with the appeals against the assessments for the years 1996/97, 1997/98 and 1998/99 within the meaning of Regulation 21(1). 

144.	These three assessments were made under the provisions of section 29 of the Taxes Management Act 1970 which permits an assessment where a loss of tax is discovered. The relevant parts of section 29 provide:

“29(1)	If an officer of the Board … discover, as regards any person (the taxpayer) and a year of assessment-
(a) that any income which ought to have been assessed to income tax … /have not been assessed …
the officer … may, subject to subsections (2) and (3) below, make an assessment in the amount … which ought in his … opinion to be charged in order to make good to the Crown the loss of tax.

(2)	Where-
(a)   the taxpayer has made and delivered a return under section 8 or 8A of this Act in respect of the relevant year of assessment, and
(b)   the situation mentioned in subsection (1) above is attributable to an error or mistake in the return as to the basis on which his liability ought to have been computed,
the taxpayer shall not be assessed under that subsection in respect of the year of assessment there mentioned if the return was in fact made on the basis or in accordance with the practice generally prevailing at the time when it was made. 

(3)	Where the taxpayer has made and delivered a return under section 8 or 8A of this Act in respect of the relevant year of assessment he shall not be assessed under subsection (1) above  … unless one of the two conditions mentioned below is fulfilled.  …

	(5)	The second condition is that at the time when an officer of the Board-
(a) ceased to be entitled to give notice of his intention to enquire into the taxpayer’s return under section 8 or 8A of this Act in respect of the relevant year of assessment; or
(b) informed the taxpayer that he had completed his enquiries into that return,
the officer could not have been reasonably expected, on the basis of the information made available to him before that time, to be aware of the situation mentioned in subsection (1) above.

The facts relating to the second issue 

145.	We find the following facts relating to the second issue. 

146.	The application of the settlements legislation to the Appellant and Mrs Jones was discussed between Mr Tapper of the Inland Revenue and Mrs Jones during a telephone call on 9 July 2001. During that conversation Mrs Jones stated that the Appellant had been investigated by his District in connection with expenses claimed against income. Immediately after that conversation Mr Tapper requested the Appellant’s files from the District but they were not supplied to him.  

147.	On 20 August 2003 in correspondence the Appellant informed Mr Tapper that he would be appealing to the Special Commissioners and would be arguing that section 29 applied so as to preclude the assessments for the years 1996/97, 1997/98 and 1998/99.  

148.	The appeals were lodged with the Special Commissioners on 12 February 2004.  On 5 March 2004 the Inland Revenue received a letter form the Appellant’s representatives to say that, as one of the issues in the appeal, there would be a challenge to the validity of the assessments. On 25 March 2004 there was an internal meeting within the Inland Revenue’s Solicitor’s Office after which the District was asked for documents but replied that they had none. On 7 April 2004 agreed Directions were made by the Special Commissioners. These included a direction that on or before 17 May 2004 the Respondent should inform the Appellant of any documents which the Respondent considered relevant and which should be included in the bundle of documents for the hearing.  

149.	On 25 May 2004 the Respondent’s solicitor wrote to the Appellant to say that there were a number of documents which the Respondent did not have in his possession. Some would have been in the possession of the Inland Revenue at some point but the solicitor was no longer able to locate them. 

150.	The Appellant lodged its skeleton argument on 8 June 2004. The skeleton argument dealt very fully with the powers of the Inland Revenue to make assessments under section 29 of the 1970 Act. The skeleton argument indicated that it had become apparent from the disclosure process leading to the appeal hearing that the Respondent no longer had the files relating to earlier enquiries concerning the Appellant from which it was assumed that the assessments had been raised without considering those earlier enquiries. The skeleton argument identified three possible issues arising from section 29 one of which was whether, on the basis that the assessments had been made without considering the enquiries that had previously been made into the Appellant’s returns for the three relevant years, the making of the assessments was a valid exercise by the Respondent of his powers under section 29(1) for those years. The skeleton argument amplified this issue by arguing that section 29(1) required an inspector to consider whether he was entitled to make an assessment having regard to the matters in subsections (2) and (3) of section 29. If the inspector failed to consider these matters there was no valid exercise of his power under section 29(1).

151.	On receipt of the Appellant’s skeleton argument the Inland Revenue’s Solicitor’s Office telephoned the District who found the Appellant’s files. On 11 June the documents were put to the Officer who made the assessments and he was asked whether he would have made the assessments if he had seen the documents at that time. He replied that he would probably not have made the assessments. For this reason the assessments had been cancelled.  

The arguments about the second issue (costs)

152.	For the Appellant Mr Gammie argued that from at least August 2003 the Inland Revenue knew that the Appellant would rely on section 29 and should have referred to the previous papers at that time. Also, if the Inland Revenue had  prepared for the appeal in the manner set out in the agreed directions then the problem would have been noted earlier and the Appellant would not have incurred the costs relating to it. He applied for an order that the Respondents should pay the Appellant’s costs either from 20 August 2003 or from 7 April 2004 the date when the agreed Directions were made by the Special Commissioners. 

153.	For the Inland Revenue Mr Baldry argued that throughout the Respondent had acted in good faith and had adhered to the directions of the Tribunal He accepted that the Inland Revenue was a single body and did not consist only of the Solicitor’s Office but of the District also.   

Reasons for decision on the second issue 

153.	What we have to decide is whether the Respondent acted wholly unreasonably
within the meaning of Regulation 21. In our view it was wholly unreasonable for the assessing Officer to have made the three assessments under section 29 without first considering the previous returns and whether he had the power to make those assessments under section 29. 

154.	Our unanimous conclusion on the second issue in the appeal is that the Respondent did  act wholly unreasonably in connection with the appeal as it related to the assessments for the years 1996/97, 1997/98 and 1998/99 within the meaning of Regulation 21(1) as from 20 August 2003. 

Decisions on both issues 

155.	The decisions on the issues for determination in the appeal are

(1)	(by a casting vote) that the dividends paid to Mrs Jones consisted of income arising under a settlement so that they should be treated as the income of the Appellant under section 660A(1); and

(2)	(unanimously) that the Respondent had acted wholly unreasonably in connection with the appeal as it related to the assessments for the years 1996/97, 1997/98 and 1998/99 within the meaning of Regulation 21(1) as from 20 August 2003. 

156.	The appeal against the notice of amendment of self-assessment for the year 1999/00 is dismissed. The appeals against the notices of assessment for the years 1996/97, 1997/98 and 1998/99 are allowed for the reasons given in paragraph 3 of this Decision. Under the provisions of Regulation 21(1) we make an order awarding the costs as from 20 August 2003 to 11 June 2004 relating to the three assessments and the arguments under section 29 of the 1970 Act against the Respondent. The amount 

of the costs should be agreed between the parties but failing agreement either party has liberty to apply to this Tribunal for the amount to be determined.

DR NUALA BRICE

JUDITH POWELL

Release Date: 28 September 2004

SPECIAL COMMISSIONERS

SC 3017/04
27.09.04