The Upper tax tribunal (“Upper Tribunal”) has confirmed the decision of the First-tier tax tribunal (“FTT”), delivered in 2021, in the case of Kwik-Fit Group Limited and others v HMRC.

This decision of the Upper Tribunal concerns the “unallowable purpose” rule in the UK’s loan relationships legislation, which is enacted in section 441 of the Corporation Tax Act 2009. Kwik-Fit is a well-known UK company, offering services relating to cars, including tyre changing facilities. Kwik-Fit undertook a group reorganisation in 2013. The reorganisation involved the assignment of existing intra-group loan receivables (the “pre-existing loans”) to a group holding company, Speedy, with the intention that Speedy would become the group treasury company. Some new loans (the “new loans”) were also advanced by Speedy. The interest rate on the pre-existing loans was increased from 0.74 per cent. to a market rate of LIBOR + 5 per cent., to match the interest rate on the new loans.

Speedy had £48 million of trapped non-trading loan relationship deficits (“NTDs”), which could not at that time be surrendered as a tax attribute to other members of the Kwik-Fit group (although the law has since changed in that regard). It was estimated by the Kwik-Fit group that it would take 25 years for Speedy to fully utilise the NTDs; however, the intra-group reorganisation would drop that timescale to just three years. The acceleration of the use of the NTD tax attributes was agreed to be a purpose of the intra-group reorganisation.

Unallowable purpose

An unallowable purpose of a company is one that is “not amongst the business or commercial purposes of the company.” Where the securing of a tax advantage is the main, or one of the main purposes, for which a company is a party to a loan relationship, that purpose is not one of the “business or commercial purposes” of the company. Once that “unallowable purpose” is identified, the deduction of loan interest (here, including NTDs) by the loan debtor that would otherwise arise is denied, but only insofar as it is attributable to the unallowable purpose on a just and reasonable basis.

FTT decision in 2021

The FTT had determined in 2021 that Speedy was party to the loan relationships (both the assigned pre-existing loans and the new loans) for an unallowable purpose. The securing of a tax advantage was at least one of the main purposes of the reorganisation and the utilisation of the NTDs. Debits on the new loans were therefore completely disallowed, owing to the FTT concluding that the tax advantage of setting interest income against the trapped NTDs was a main purpose for the new loans being advanced by Speedy.

The FTT decided, however, that at least one of the original main purposes for the pre-existing loans being borrowed was a commercial purpose. As there were multiple main purposes that related to the pre-existing loans, the disallowance of tax deductions was apportioned on a just and reasonable basis. As such, the interest on the pre-existing loans was to be allowed for tax deductions purposes up to the amount charged before the restructuring (namely 0.74 per cent.). 

Appeals by both Kwik-Fit and HMRC were made against the FTT’s decision, and a decision by the Upper Tribunal has now been delivered.

What did the Upper Tribunal determine?

The Upper Tribunal supported the decision of the FTT. Speedy had an unallowable purpose of, and derived a tax advantage from, utilising its NTDs to neutralise taxable interest income when that income was recognised. 

Furthermore, the acceleration and utilisation of a trapped NTD under the loan relationship rules constituted an increased relief from taxation, and therefore a tax advantage in its own right. The Upper Tribunal reasoned that the tax advantage was derived on a group-wide basis. Group debtors paying interest to Speedy benefited by being able to deduct the interest costs on the finance provided by Speedy. Correspondingly, Speedy was left with no tax liability as it was able to utilise NTDs against taxable interest income arising from the new loans and the increased interest charged on the pre-existing loans. But for the NTDs being available, Speedy would have suffered a material tax liability, and that was enough for a tax advantage in the intra-group reorganisation to be identified. There was no requirement for HMRC to demonstrate that less tax, in real-cash terms, was payable by Speedy as a result of the intra-group reorganisation for the identification of a tax advantage to be made.

The Upper Tribunal supported the conclusion of the FTT in disallowing all of the debits from the new loans. In addition, the interest on the loans assigned to Speedy and the increased interest costs on the pre-existing loans were disallowed, following the FTT’s judgement.

Identifying a company’s “purpose” in the context of UK tax law

The Upper Tribunal stated, following other authorities, that the test of whether a company’s “purpose” was “unallowable,” in the context of the relevant legislation, was a subjective one. A realistic view needed to be taken of the overall tax planning by the Kwik-Fit group. 

It was necessary to look beyond the stated motives and intention of a board of directors of a single company, even though the legislation was framed in the context of looking at “purpose” on a company-by-company basis. All facts needed to be taken into consideration. Those facts could include the wider group taxation position, rather than just the purpose of individual companies. It was a question of also considering the relevant “factual background.” 

In this regard, some of the reasoning of the Upper Tribunal does slightly re-frame the discussion as to whether having any tax motivation in undertaking a group reorganisation might impair the deductibility of interest costs relating to the reorganised loan relationships and financing arrangements. Kwik-Fit had argued that there was a difference between knowing a debt could be deductible for tax purposes and having a purpose of seeking tax deductions. The Upper Tribunal confirmed this was a viable approach, and also supported the argument that knowing the tax result of a specific action is not the same as having a main purpose of seeking a tax advantage. However, the Upper Tribunal also stated that an “unallowable purpose” did not need to be directly evidenced; it could be inferred from a consideration of evidence and factual circumstances. As the Upper Tribunal stated: “... questions regarding a person’s purpose are unlikely to be resolved by direct evidence or stated intentions alone.” The relevant factual background of the Kwik-Fit reorganisation amply demonstrated that an “unallowable purpose” was present.

In this regard, the Upper Tribunal’s decision in Kwik-Fit Group Limited can be contrasted with a case we featured in BrassTax in September 2022, being Burlington Loan Management DAC v HMRC. In Burlington, the tax attribute was “merely part of the scenery” of the transaction, the “setting” in which the Irish company was acting. In Kwik-Fit, the tax attribute of the NTDs was centre-stage. It is possible that the third-party context of the transaction in Burlington can be contrasted to the group circumstances in Kwik-Fit, but the observer is left with an unenviable task, comparing both decisions, of identifying where in any set of facts a company’s purpose can be located.