Meaning of incidental use

The Court of Appeal has overturned the decisions of the FTT and UT on the meaning of the term "incidental" in HMRC v Dolphin Drilling Ltd [2024] EWCA 1. For the use of an item to be incidental, it was not enough that it was simply subordinate or secondary, there must be some clear nexus to the main use. The term incidental is a common one in tax legislation and, as such, the decision will have wide significance.

The Court also warned against the attempting to provide alternative definitions where ordinary language is used in legislation (such as incidental). There was a danger that glossing the statutory language by using other words runs the risk of those (non-statutory) words being treated as a substitute for the statutory words when they may not have quite the same meaning.

Background

The case concerns the question whether Dolphin Drilling Ltd (Dolphin) was subject to certain provisions in CTA 2010 Part 8ZA applicable to contractors in the offshore oil industry. These provisions impose a "hire cap" which limits the contractor's ability to bring into account payments it makes under a lease of an asset from an associated person.

Dolphin leased an asset called the Borgsten Dolphin (the Borgsten) from an associated company in Singapore and in turn provided it to Total E&P UK Ltd (Total), the operator of the Dunbar oil platform. The Borgsten had formerly been a drilling rig but was converted so as to be able to provide a number of services in connection with the preparation of the Dunbar for drilling, and then the operation of the Dunbar. Among other services, the Borgsten was used to provide sleeping accommodation for a number of those who worked on the Dunbar.

The question is whether Dolphin's payments for the Borgsten were subject to the hire cap. On the particular facts that was the case unless it was "reasonable to suppose" that the use of the Borgsten as accommodation for those who worked on the Dunbar was unlikely to be more than incidental to the use of the Borgsten to supply a range of drilling support services for the Dunbar oil platform (TAD services).

The FTT held that the use of the Borgsten to provide accommodation for Total personnel could be seen as incidental and the UT agreed. HMRC appealed to the Court of Appeal (COA), arguing that the Tribunals had erred in law by applying the wrong test of what is "incidental".

Court of Appeal decision

The COA departed from the FTT's interpretation of 'incidental' (which had been upheld by UT). The COA held that the FTT erred in its interpretation in that it substituted "subordinate or secondary" for incidental which would imply that a service (accommodation in this case) was lesser than other services (including supplying water, compressed air and other chemicals to the platform, and providing warehousing, heliport and storage).

The COA disagreed with this approach and held that its decision ultimately centred on whether the use of the Borgsten for accommodation was an independent purpose of significance or something that arose out of its other uses. The Court concluded that the accommodation use was significant and independent, and therefore not incidental to the Borgsten's other uses. For a use to be incidental there must be a nexus to the other use and not be independent to that other use.

The FTT had concluded that:

"175. The assessment of whether the Borgsten is within s356LA(3) for the accounting periods in issue does not require us simply to weigh these lists of factors against each other. We recognise that, taken together, the factors... demonstrate that the use of the Borgsten to provide accommodation to offshore workers could reasonably be supposed to be of some importance. We have therefore had to consider whether this precludes the use from being no more than incidental. We have concluded that it does not - incidental does not need to be confined to uses which are trivial; it can capture uses which, whilst being desirable, sought-after or even important are nevertheless, when viewed in context, secondary to (or less important than) another use or uses."

The COA decision noted that: "Where ordinary words are used in legislation it is well recognised that seeking to provide definitions of them can be a dangerous exercise, as glossing the statutory language by using other words runs the risk of those (non-statutory) words being treated as a substitute for the statutory words when they may not have quite the same meaning. Most English words have nuances of meaning and shades of usage that are not precisely captured by substituting other words. So one should be wary of trying to lay down a definition of ordinary words; the meaning of an ordinary word is to be found not so much in a dictionary but in how it is in fact ordinarily used, and I think it is generally more helpful to tease out the meaning of ordinary words by providing illustrative examples of how they are used in everyday contexts."

In particular, there was a risk of substituting other words such as "subordinate" or "secondary"; an 'incidental' use must have a connection to or arise from the primary use, which is a critical distinction. The COA agreed with HMRC's submission that the FTT erred in "assessing whether use A (the use of the Borgsten to accommodate those working on the Dunbar) was in some way lesser than use B (the other uses of the Borgsten)...that does not accurately capture what it is for use A to be incidental to use B."

There has to be some connection between the two uses for a use to be incidental to the other. The COA added that: "It seems to me to reflect the ordinary use of language. If I can express it in my own words, one would normally say that use A is incidental to use B if it arises out of use B, something that is done because of use B, or in connection with use B, or as a by-product of use B."

The Court held that "the relevant considerations in deciding whether the use of the Borgsten to accommodate those working on the Dunbar platform was incidental to its other uses are whether its use as such accommodation was an independent end in itself (of some significance), unconnected with its other uses, or whether it was something that arose out of its other uses... put simply the Borgsten was not only used to provide TAD services to the Dunbar, it was also used as an accommodation vessel for the Dunbar. This may have been a "secondary" use, but it was a significant and independent use and not incidental to its other uses."

To illustrate the interpretation that for a use to be incidental there must be a nexus to the other use and not be independent to that other use, the COA gave the following example: "To use an example put by Newey LJ in argument, if a car park is provided for an office block and 30 spaces are reserved for the use of the main tenant, and 20 spaces for another tenant, the use of the car park for the latter is not incidental to the use of the car park for the former even though the latter is clearly not the primary use. It is a significant independent use in itself, unconnected with the use of the car park for the main tenant. In the same way the use of the Borgsten to provide accommodation for the Total personnel working on the Dunbar does not seem to me to have been incidental to its use to provide accommodation for the Dolphin personnel working on the Borgsten."

Comment

The decision as to the correct interpretation of the term "incidental" has potentially very wide application in tax legislation and more generally. As such, the decision of the Court of Appeal that there must be some clear nexus between the incidental use and the use to which it is said to be incidental is an important one.