CG17919 - Taper relief: anti-avoidance rules: enveloping - changes of activity

TCGA92/SCHA1/PARA11

TCGA92/SCHA1/PARA11 only applies to a disposal of shares (including securities) in a close company for disposals before 17 April 2002. This provision does not apply to disposals from that date even if there was a change of activity before then.

Close company is defined by ICTA88/S414 and ICTA88/S415, see CTM60100 onwards. Among other effects, Paragraph 11 prevents any increase in taper relief that could otherwise have been achieved by transferring an asset held for a shorter period to a company whose shares have been held for a longer period and then disposing of the shares in the company. It does this by identifying a relevant change of activity of that company at any time in the period beginning with the acquisition of the shares or 6 April 1998 if later and ending with the date of disposal of the shares. It then treats the whole of the period from the acquisition of the asset, or 6 April 1998 if later, to the time of the last relevant change of activity before the disposal as a period that does not count for taper relief.

- RELEVANT CHANGES OF ACTIVITY

There are only two cases that are treated as RELEVANT changes of activity. These are:

• the company or any of its 51 per cent subsidiaries beginning to carry on a trade; and
• the company beginning to carry on a business of holding investments or increasing the size of that investment business.

• BEGINNING TO TRADE

Paragraph 11(3) provides that there is a relevant change of activity where:

• a close company or any of its 51 per cent subsidiaries begins to carry on a trade; and
• immediately before that time neither the company nor any of its 51 per cent subsidiaries was carrying on a trade.

For this purpose paragraph 11(7)(a) disregards any trade that is merely incidental to any non- trading activities carried on by the company or another company in the same group. A 51 percent subsidiary for this purpose is an effective 51 percent subsidiary as defined by TCGA92/S170(7), see CG45180. Prior to FA2000, only a company resident in the UK could be within the definition in TCGA92/S170. From 1 April 2000, FA2000/SCH29/PARA1 removed the residence condition for group membership. This means that from 1 April 2000 a company which is not resident in the UK can be a 51% subsidiary for the purposes of paragraph 11.

- INCREASE IN INVESTMENT BUSINESS

Paragraph 11(4) provides that there is a relevant change of activity where:

• at the time of the disposal the close company was carrying on a business of holding investments; and
• there has been any occasion falling within the 12 months up to the disposal, or any earlier period of 12 months ending after the acquisition of the asset or 5 April 1998 if later, when the company was not carrying on the investment business or the size of the business was small by comparison with its size at the end of the period.

The size of the investment business at any time is assumed by paragraph 11(5) to correspond to the aggregate of the amounts and values given as consideration for the assets held at that time for the purposes of that business. To determine whether a company is carrying on an investment business and if so the size of that business paragraph 11(6) requires the activities of that company and all its 51 per cent subsidiaries to be taken together and the following activities to be excluded:

• holding shares in any 51 per cent subsidiary of the company; or
• making loans to an associated company or to a participator in the company making the loan or in an associated company; or
• placing money on deposit.

Paragraph 23(9) Schedule A1 provides that an acquisition by an investing company of a qualifying shareholding in a joint venture company shall not be treated as a relevant change of activity for the purposes of paragraph 11, see CG 17952.

Paragraph 11(8) defines the associated company of any company in terms of one company having control of the other or both being under the control of the same person or persons. Participator has the meaning given by ICTA88/S417(1), see CTM60107 onwards. Paragraph 11(7)(b) extends any reference to a business of holding investments to include a business of making investments.

It is a question of fact as to whether or not a company is carrying on a business of holding investments. The meaning of business is discussed in a number of cases. See, for example, Town Investments Ltd v Department of the Environment [1978] AC 359, CIR v The Korean Syndicate Ltd (12 TC 181) and Jowett v O'Neill and Brennan Construction Ltd (70 TC 566). A company may be trading and also carrying on a business of holding investments.

Where a company holds shares in another company or makes loans which are not within the exclusions in paragraph 11(6), but the company is also trading, the trading context needs to be reviewed to establish whether a separate business of holding investments exists. The question to ask is whether transactions are integral to that trade. This will depend on the purpose for which a fund or asset is held. Where the holding of investments is to meet current trading liabilities, and forms capital of the trade, it is unlikely that any investments will be within paragraph 11(4). However, there will be companies where the holding of investments forms no part of its trade or in any sense represents capital employed in the trade. This question can only be answered in light of the particular facts in each case.

- SURPLUS FUNDS OF A TRADING COMPANY

The activities of the company and, if appropriate, its subsidiaries, must be such as to amount to a BUSINESS of making investments, although paragraph 11 does envisage the possibility of a company carrying on a trade and a business of making investments at the same time. The mere existence of investments does not necessarily mean that there is a business of making investments for the purposes of paragraph 11. We would not, for example, regard the following in themselves as amounting to a business of making investments where they are carried out by a trading company

• using surplus profits to invest in listed shares or securities where there is a reasonable possibility that those funds may be needed to meet trading requirements, including major expansion
• letting part of the trading premises
• letting properties that are no longer required for the purposes of the trade, where the long term objective is to sell those properties
• subletting property where it would be impractical to assign or surrender the lease.

You may also accept that where a company acquires property which is let to other companies in the same group for use in the lessee company's trade this will not be taken into account in deciding if the lessor company is within paragraph 11(4).

Where a liquidator is appointed to wind up a company which at the time was not carrying on a business of holding investments, the company will not be regarded as commencing a business for the purposes of paragraph 11(4) by reason of a temporary investment which the liquidator makes pending a distribution to creditors and/or shareholders of funds arising in the winding up.

Sometimes companies acquire shares in another company or other assets for reasons other than investment. For example, companies may be paid in shares instead of cash as fees for services rendered or work carried out. Once such shares have been acquired the reasons for retaining them will need to be considered and whether or not their retention means that a company has a business of holding investments. Among other issues, the reasons why the shares were taken in lieu of cash or credit, whether they can reasonably be turned into cash or otherwise exchanged to meet trading requirements would all need to be considered.

A company may have to hold shares in another company as a pre-requisite to trading (for example, companies may be expected to own shares in a trade organisation). In deciding if a company had a business of holding investments the reasons for holding the shares would all need to be considered.

Paragraph 23 Sch A1 also contains particular provisions relating to the holding of shares in joint venture companies. Where such shares are a 'qualifying shareholding' within the meaning of that paragraph, then this investing activity is disregarded in favour of an appropriate proportion of the activities of the joint venture company in which the shares are held. A qualifying shareholding in a joint venture company cannot therefore, of itself, constitute a business of holding investments.