Inland Revenue Shares Valuation Fiscal Forum 12 October 2004

Present
Representative	Company / Organisation
Brian Edwards	PricewaterhouseCoopers, London
Ian Logan	PricewaterhouseCoopers, London
Mark Evans	Parmentier Arthur Services Ltd, London
Anne Daly	KPMG, London
Alan Wallis	Ernst & Young, London
Bruce Sutherland Jenny Nelder	Bruce Sutherland & Co (on behalf of CBI) Bruce Sutherland & Co (on behalf of Institute of Directors)
Ken Read Keith Eamer	Deloitte & Touche, Nottingham BDO Stoy Hayward, London
Tony Hindley	Valuation Consulting Ltd, London
Colin Paterson	The RM2 Partnership, New Malden
Kirti Seth David Haigh	Grant Thornton, Leicester Brand Finance plc, Twickenham
Mahesh Varia	Travers Smith Braithwaite, London
John Stevenson	Tenon Ltd, Nottingham
Michael Weaver	Gravitas Partners, London
Edward Manisty	Christie's, London
Diane Elliott John Stevenson James Palmer	WJB Chiltern, London Tenon Ltd, Nottingham Standard & Poor's, London
Michael Staples	Employee Share Schemes (ESS)
Colin Gibson	Shares Valuation (SV)
Fred Cook	Shares Valuation
Steve Gridley	Shares Valuation
Paul Simpson	Shares Valuation
Lee Mann	Shares Valuation
Paul Simpson	Shares Valuation
Lee Mann	Shares Valuation

Inland Revenue Shares Valuation Fiscal Forum 12 October 2004

Apologies
Representative	Company / Organisation
John Harrison	PricewaterhouseCoopers, Birmingham
Andy Coaton	PricewaterhouseCoopers, Birmingham
Stuart Drummond	The Law Society of Scotland, Edinburgh
Ian Clark	Turcan Connell (On behalf of Law Society of Scotland)
Andrew Caldwell Wendy Hallam Trevor McDonagh	BDO Stoy Hayward, London BDO Stoy Hayward, London Deloitte & Touche, London
John Blamey	KPMG, London
Tim Harding	KPMG, London
John Cooper	KPMG, London
Tim Jameson	Chiltern Valuation Services, London
Ewan Wallace	W D Johnston & Carmichael (On behalf of ICAS)
David Perrin	WJB Chiltern (on behalf of CIOT)
Simon Jennings	Rawlinson Hunter (on behalf of ICAEW)
Steve Lygo Amanda Allen	Parmentier Arthur Services Ltd, St. Ives, Cambs KPMG, Birmingham
Sue Tilstone	Deloitte & Touche, Nottingham
Lee Whotton Angela Belsten	Deloitte & Touche, Nottingham Ernst & Young, London
Mervyn Woods	Confederation Of British Industries, London
Ian Brewer	Valuation Consulting Ltd, London
Ian Murphie	The RM2 Partnership, New Malden
John Neighbour	Hardcastle Burton, Hoddesdon
Jonathon Brownson	Royce Peeling Green, Manchester
Richard Fleet	Sir Robert McAlpine Ltd, Hemel Hempstead
Jim Calvert	DoveBid Valuation Services, London
Travis Taylor	Gravitas Partners, London
Errol Danziger	Danziger plc, London
Paul Giles Stuart Davis	Browne Jacobson, Nottingham Grant Thornton, London
Roy Hogg	WJB Chiltern, Nottingham
Louise Speke	The Law Society, London

Inland Revenue Shares Valuation Fiscal Forum 12 October 2004

Executive Summary

1. Introductions and Apologies
   Apologies read

2. Minutes of Last Meeting
   Minutes agreed.

3. SV Performance 2003
   Increase in share valuation work
   Customer service targets met but increasing pressure to reduce costs

4. Jointly owned chattels
   Summary of the position so far.
   
   
5. Goodwill on incorporation – impact on work flows to SV
   Substantial increase in goodwill valuations received by SV
   Three areas of particular concern to SV when valuing goodwill on incorporation
   

6. Ross Marks v Sherred
   Summary of key points arising from the case
   

7. Employment Income
   SV procedure in PTVC cases for Income Tax purposes etc.
   
   
8. Any Other Business
   Mark Evans was elected to replace John Harrison as Co-Chairperson of the Fiscal Forum
   Colin Gibson said that Ian Hardie would be taking over the line management responsibility of SV in the near future.
   
   
9. Next Meeting
   This was provisionally booked for May/June 2005.
   
   
   

Minutes

Minutes

The meeting was held at the Chartered Institute of Taxation, 12 Upper Belgrave Street, London and was chaired by Colin Gibson of IR Capital Taxes, Shares Valuation (SV).

1. Introductions and Apologies

• Colin Gibson opened the meeting at 10.30. He said that a full list of apologies would be included with the minutes but mentioned specifically apologies from the co-chair, John Harrison.

2. Minutes of the Last Meeting

• Minutes agreed.

3. SV Performance 2004

• Colin Gibson reported that there had been an increase of around 30% in the number of valuations received relative to this time last year. He felt specific targeting of CGT work in the Network had been the primary factor behind the increase but it also reflected an increase in Share Scheme and Heritage work.
• Colin Gibson confirmed that SV were meeting published customer service targets and post targets. The average settlement time was 4.5 months per case. However, Colin Gibson added that increasing pressures on staff numbers and costs might have knock-on effects to service levels.

4. Jointly owned chattels

• Fred Cook delivered a statement prepared by Mike Fowler (who was absent on leave).

"The issue here is what level of discount, from full pro-rata value, might be appropriate to reflect the problems of joint ownership.

At the Fiscal Forum meeting on 24/7/01 Colin Gibson announced that he would be setting up a review to try to 'formulate a line on discounting'. This was prompted by an increasing view that the traditional policy of no discount, or very small discount, was unrealistic in some circumstances. The idea was to open channels of communication between interested parties and see if it might be possible to establish a consistent view and publish appropriate guidelines. I thought you would like to know what has happened since.

A discussion group was formed comprising members from Christie's, Sotheby's, Bonham's, the legal profession, Valuation Office Agency, Shares Valuation, IR Solicitor's Office and the Heritage section of Capital Taxes which was, at that time, responsible for agreeing these valuations. This group met at Somerset House on 17th July 2002.

In legal terms it was noted that a part owner of a chattel does not have the same rights as a part owner of land/property or a part owner (shareholder) of a company. In fact the only legislation which gives a part owner any rights is Section 188(1) of the Law and Property Act 1925 which states:

"Where any chattels belong to persons in undivided shares, the persons interested in a moiety or upwards may apply to the court for an order for division of the chattels or any of them, according to a valuation or otherwise, and the court may make such an order and give any consequential directions as it thinks fit."

As no cases have ever been heard under s188 it is anyone's guess how the courts might tackle particular scenarios. And no joint ownership valuation cases have been heard before the Commissioners so there is no guidance from that angle either.

Against this background the group discussed a large number of possible scenarios. Should joint interests in single indivisible chattels be treated differently to easily divisible groups? Should physical possession influence fiscal value? Should the nature of the chattel influence the discount? And what about the intentions of other co-owners? There was general agreement that the traditional no/very small discount line was often untenable and, depending on the circumstances, discounts of up to 75% could be fair and reasonable.

After the July 2002 meeting further thoughts were invited on the scenarios discussed but only one group member made further representations. These were discussed in written exchanges copied to other group members but no one else has continued the discussion.

In September 2003, chattels valuation work was transferred to Shares Valuation and a review in May 2004 showed there were 12 live jointly owned chattels cases at that time, 9 of which were 1982 base date valuations where taxpayers were arguing that no discount was appropriate. 6 of the 9 involved 50% interests in family situations.

We now appear to have reached the point where further exchanges are unlikely to shed any new light. There is general agreement that, in considering an appropriate discount, much will depend on:

• Size of interest
• Likelihood of sale
• Current arrangements - and the likelihood of them continuing
• Age of co-owners and what is likely to happen when they die ? Intentions of co-owners
• Exact details of chattels - single chattel/easily divisible group/utilitarian asset etc.
• Market practice
• Regulatory agreements

Many of the valuations that we see relate to 50/50 ownership cases where there are no particularly unusual circumstances and no reason to believe that a new co-owner could not reasonably expect to contentedly enjoy the fair benefits of joint ownership. In these situations we would expect to see a discount slightly higher than the 10% which has historically been accepted as appropriate in 50/50 land cases - the higher discount being because s188(1) LPA 1925 is untested and prima facie does not give 50%+ owners of chattels as much legal protection as enjoyed by joint owners of land. It should be noted that this view is equally applicable when it is necessary to value a chattel jointly owned by husband and wife for capital gains purposes.

Beyond this type of case the scenarios we are faced with vary tremendously and it is common ground that much will depend on the exact circumstances surrounding the chattel(s) in question. At one end of the spectrum, if there is a ready market in undiscounted part shares, there may be no discount at all, whilst at the other end, if there are good reasons to expect difficulties (say for example the chattel is in the physical possession of a mentally unstable third party with a history of refusing access) a discount of 75% or more may be appropriate.

From the Revenue's point of view the deliberations of the last couple of years have been invaluable in airing views and changing thinking in this difficult area. We are very grateful to those practitioners who have given their time to contribute to the debate."

• Edward Manisty said that the Law of Property Act did not apply in Scotland or Northern Ireland and that it had been argued, in consequence, that no discount should apply there.
  
  Fred Cook said that he would need to consider the position in Scotland and Northern Ireland; but he could not see any logic in the suggestion that the inapplication of section 188 led to a no discount outcome. Shares Valuation would consider making an addition to the statement referring to Scotland and Northern Ireland and Mr Manisty indicated that he would be content with this.
  .

5. Goodwill on incorporation – impact on work flows to SV

• Paul Simpson said that this issue followed on from what Colin Gibson had outlined in terms of work flows into SV, explaining that asset identification and valuation issues relating to incorporation was a specific pressure point impacting on the Revenue as a whole. The taxation advantages designed to encourage an entrepreneurial environment had created a huge increase in incorporations that had been circa 185,000 in 2001 and stood at circa 400,000 in 2003. By comparison goodwill valuations being referred to SV had stood at circa 900 in 2002/03 and were on course to reach an estimated total of between 5-6,000 in 2004/05. Paul Simpson advised that this substantial increase in work had required contingency planning within SV in order to ensure that it was absorbed effectively.
• It was completely understandable that individuals would seek to utilise the tax advantages provided by incorporation and evidence suggested that many very small as well as medium sized businesses had gone down this route. Paul Simpson stressed that the important thing for individuals and their advisors was to ensure that where necessary any value placed on goodwill was arrived at in a professional manner and was supportable upon challenge. He added that the recent experience of SV was that this was not always the case. By way of further background, two press articles were reviewed and Paul Simpson expressed the view that the content of these seemed to highlight the fact that outside the Revenue there were also concerns about the temptation via tax advantages of adopting excessive goodwill valuations. He added that it was this type of scenario where the goodwill was sold to the new company by way of a credit to the directors loan account, where significant tax risk resided.
• Paul Simpson explained that the issues that were arising from these cases required team working between SV and the Areas. Many different issues arose but there were three main areas of concern:
• Is the goodwill personal?

Certain occupations (e.g. entertainers and chefs) have goodwill attaching to them but this goodwill is personal and for CG purposes regarded as non-transferable. Some businesses will have both personal and free separable goodwill but not all. Therefore working this type of case involves interaction between asset identification and any valuation process.

• Is the free separable goodwill overvalued?

SV were seeing cases where any free separable goodwill was overvalued but also cases where it appeared that there was neither free separable or personal goodwill but value had been ascribed in a transfer. An example was certified sub-contractors who had been working on a labour only basis prior to incorporation.

• Adherent goodwill

For CG purposes the view was that in certain sectors (Public Houses, Nursing Homes etc) where the premises had been specifically adapted or licensed, adherent goodwill that ran with and was inseparable from the property would arise. SV were seeing examples of cases where upon incorporation the premises were not transferred to the company and any related rental arrangements were unclear. This type of case again involved interaction between asset identification and any valuation process but brought in the VOA as well as SV.

• David Haigh asked about cases where there is an undervaluation of goodwill. Paul Simpson said that the vast majority of cases being seen by SV involved sole traders and small partnerships where the main risk seemed to be over-valuation. There were no doubt cases where for whatever reasons goodwill is undervalued and these would be tackled in the appropriate manner following a risk assessment.
• Mark Evans asked what the approach to valuation would be in an incorporation case where the partnership covenants prevent the partners going elsewhere thereby embodying the personal goodwill of the partners in the business. Paul Simpson acknowledged that this was a grey area and added that the majority of cases currently being seen by SV did not have this sort of ingredient. He said that it was not practical to give any informed answer, as this would depend on the specific circumstances. However with Network and CG colleagues, SV would consider the actual substance of the transaction and how this spoke to the assets that were or were not transferable and required valuation.
• Tony Hindley said that he had attended a seminar in Texas recently where the issue of separating personal and free goodwill in divorce situations had been discussed. Most attendees acknowledged that this was a very difficult and somewhat grey area of valuation.

6. Ross Marks v Sherred

• Fred Cook provided a summary of some pertinent issues that arise from the recent Special Commissioner's case of Ross Marks v Sherred (SPC 00418):
• No account was taken of any premium for control or discount for lack of absolute control (66% holding at 31 March 1982).

Fred Cook said that this was not a matter of specific request by the appellant or respondent but a matter of the Special Commissioner following the expert evidence presented to him in the particular case. Mr Ruse (the expert appearing for the Revenue) had said the considerations that conventionally lead to a discount were virtual irrelevancies in this case and Ms Mullen (the expert appearing for the appellant) did not address the issue. He added that there had been no change in the view of SV about the need for a discount where a shareholding represented less than 100% of the issued share capital as Ross Marks had been decided on its own facts.

• The actual shareholder was effectively regarded as staying with the business.

Fred Cook said that, again, the Special Commissioner was following the approach taken by the expert evidence presented. The Revenue had thought it best to argue its case by reference to available evidence rather than to rely on conjecture as to what might have been. Accordingly, this company was treated as a continuing business and the issue of whether the company would suffer because the taxpayer was no longer the controlling shareholder was left out of account. Other cases will fall to be dealt with on their own merits.

• The company was valued on a capitalised earnings basis.

Fred Cook said that the Special Commissioner had considered the actual figures for 1982 were the best available guide to what the hypothetical purchaser, making proper enquiries, would have been able to discover from the available information.

• Fred Cook noted that the Special Commissioner had been willing to look at quoted comparable companies as a basis for arriving at an appropriate earnings multiplier. He also pointed to a case where Park J had regard to the quoted sector when quantifying the value of a company for the purpose of determining damages for negligence: Matlasek & Another v Bloom Camillin (2003) EWHC 2728 (Ch).

7. Employment Income (EI)

• Brian Edwards and Alan Wallis explained that there was a degree of confusion regarding the informal procedure for submission of a request for an EI valuation prior to filing the Self-Assessment return (PTVC).

Steve Gridley stated that the Revenue’s Operational Consultative Committee (OCC) was meeting industry representatives later that week. One of the items on the agenda was likely to be the decision in Langham v Veltema. That decision had an impact on how any formal EI PTVC system might work. We would therefore need to wait to see what emerged from the OCC.

Bruce Sutherland then provided an outline of the decision in Veltema and mentioned that he did in fact sit on the OCC.

• Colin Paterson raised a point regarding EMI valuations and the provisions of paragraphs 56 & 57 of Schedule 5 ITEPA. It was not possible to resolve the issue at the meeting and Colin was invited to contact Steve Gridley back in Nottingham.
• A general discussion then took place regarding transfer restrictions in Articles of Association and the extent to which they impact on value. A consensus view was not established.

8. Any Other Business

• Colin Gibson said that John Harrison had passed on his desire to stand down as Co-Chairperson of the Fiscal Forum. John Harrison had nominated Mark Evans as a suitable replacement and Keith Eamer had seconded this nomination. The meeting indicated that it was prepared to select a replacement. Mark Evans received the unanimous backing of all the practitioners attending the meeting and was duly elected as Co-Chairperson of the Fiscal Forum.
• Colin Gibson informed the attendees that this would be his last Fiscal Forum meeting, as he would shortly be handing over line management responsibility for SV to Ian Hardie. Mark Evans thanked Colin Gibson on behalf of all the practitioners for his efforts over the previous four years.

9. Date of next meeting

• Colin Gibson suggested that the next meeting of the Fiscal Forum should take place in around May/June 2005.

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