Kevin Read considers a recent entrepreneurs’ relief case that examined the definition of ‘qualifying trading company’ and what constitutes non-trading activities.
The recent First-Tier Tribunal (FTT) case Jacqueline and Neil Potter v HMRC [2019] UKFTT 554 (TC) considered whether entrepreneurs’ relief (ER) was available on the liquidation of a company that had previously been trading.
It is an interesting case, as it considered two different matters. Firstly, had the liquidation actually happened within three years of cessation of trade? Secondly, had the company (Gatebright Ltd) been a qualifying trading company for the twelve months up to cessation of trade? (Note that, following FA 2019, the latter qualifying period would now be 24 months).
Invested cash
The family owned all the shares in Gatebright Ltd, which traded on the London Metals Exchange. Following the financial crash, it sought to safeguard reserves by using its assets to acquire investment bonds.
It issued its last invoice in March 2009 but continued, for several years, to try to revive its trade by seeking new business. Mr Potter was telephoning and meeting contacts but was unable to conclude any deals.
Gatebright Ltd was put into liquidation in November 2015, some six and a half years after it had issued its last invoice. HMRC refused the ER claim on the basis it was not a trading company within three years prior to the liquidation.
S 165A TCGA 1992, (3) defines a trading company for ER purposes as one “… whose activities do not include, to a substantial extent, activities other than trading activities” (My italics).
In HMRC’s Capital Gains manual (at CG64090) it states that ‘substantial’ in this context means more than 20% non-trading activities. It also states that a number of factors must be considered in the round, such as the value of trading and non-trading assets, the management time spent on the trading and non-trading elements respectively, and the extent of the income generated by the non-trading activities.
Is there an ‘activity’?
Having solely held investment bonds for many years and undertaken no other transactions, it appears that Gatebright Ltd had become an investment company. However, the above statutory definition states that a trading company may fail to qualify only if there are non-trading activities and that they are substantial. Is the passive holding of investment bonds an activity? If not, the issue of ‘substantial’ does not arise!
Note that the same analysis should be done when considering the ER available on a disposal of shares in a cash-rich trading company. It is unlikely that the passive holding of cash is an activity but, even if it is, it is unlikely to be a substantial activity (when looked at in the round).
Perhaps the exact meaning of words has not been so important since Bill Clinton’s impeachment hearing, when he famously said (when asked if he’d lied about his relationship with Monica Lewinsky), “It depends upon what the meaning of the word 'is' is”!
The FTT considered whether Gatebright Ltd was a trading company after March 2009, when it issued its last invoice. It found that there were still attempts to do new deals up to June 2014 and that, in November 2012 (i.e. three years before the liquidation) it was still reasonable to believe that the company would ultimately find new business.
It also found that, despite holding bonds, the activities did not include, to a substantial extent, activities other than trading. Indeed, its activities were completely aimed at reviving its trade; the holding of investment bonds was not an activity.
The taxpayers' appeal was allowed.
Practical tip
The passive holding of significant cash balances or investments is unlikely to prevent a trading company from attracting entrepreneurs’ relief, as this should not represent non-trading activities, let alone substantial non-trading activities.
