Expenses of management of a capital nature

The Supreme Court has held that expenses incurred by a holding company relating to the sale of the business of a subsidiary were excluded from deduction as "expenses of management" as those expenses were capital in nature: Centrica Overseas Holdings Ltd v HMRC [2024] UKSC 25.

The Court has held that the normal test for whether expenditure is capital or revenue in nature applies in this context and that where a capital asset can be identified, the starting point is to assume that money spent on the acquisition or disposal of that asset should be regarded as capital expenditure.

Background

Centrica Overseas Holdings Limited (COHL) is an intermediate holding company in the Centrica Plc group. In July 2005, COHL acquired the share capital of Oxxio BV (Oxxio), a Dutch holding company with four subsidiaries. Centrica resolved to sell Oxxio in June or July 2009. In March 2011, following a lengthy process, the assets of two of the Oxxio subsidiaries and the shares in a third subsidiary were sold by COHL.

Between July 2009 and March 2011, COHL paid professional fees in connection with that transaction for services ranging from considering how best to realise value from the Oxxio business to advice on structuring and preparing the details of the final transaction. Those services included professional services of banks, lawyers and accountants. COHL claimed a deduction for those fees as "expenses of management" falling within CTA 2009 section 1219. COHL also incurred post sale expenditure on professional fees, but accepted that these were not deductible as those fees were expenses of implementation of the disposal transaction and could not be severed from the disposal.

HMRC rejected the claim either on the basis that the expenditure was not "expenses of management" or, alternatively, that the expenditure was of a capital nature and therefore excluded by the express carve out in s.1219(3)(a).

The FTT and Upper Tribunal held that the expenditure did qualify as an expense of management and also held that the expenditure was revenue in nature. The Court of Appeal agreed that the expenditure qualified as an expense of management but overturned those decisions on the basis that the expenditure was of a capital nature.

Decision of the Supreme Court

The Supreme Court has upheld the decision of the Court of Appeal that the expenditure in this case was of a capital nature and so excluded from deduction as an expense of management. (HMRC did not appeal the decision that the expenses were expenses of management.)

Centrica argued that the Court of Appeal had been incorrect in its interpretation of the exclusion for capital expenditure. In particular, Centrica argued that:

1. The term "capital nature" in s.1219 should not be given the same meaning as the exclusion for "capital expenditure" in s.53 for calculating the profits of a trade. It had a narrower meaning in this context covering only the acquisition costs of investments and a limited category of items of fixed capital (such as buildings); and

2. In any event, the expenditure in this case was not of a capital nature.

The Court noted that the cases clearly showed that the term "expenses of management" itself clearly excluded the cost of acquisition of an investment, together with any costs that cannot be severed from it. However, that did not support the argument that the term expenditure of a capital nature in the context of an investment business was intended to have a different and narrower meaning than in the context of a trading business. Indeed, the Court noted that the express restriction was brought in in 2004 and the Explanatory Notes made it abundantly clear that the purpose was to exclude expenditure of a capital nature "in terms that closely follow the trading income rule". In any event, the principles of ordinary statutory construction meant that the Court should construe the term "capital nature" in s.1219 consistently with s.53. Parliament would have been aware of the established capital/revenue case law when introducing the restriction in 2004 and it would be surprising in these circumstances if it had intended the wording to have a special, narrower meaning than in s.53.

The Court also rejected the argument that applying the normal test of capital/revenue to the expenses of an investment company would undermine the long-standing purpose of the investment management expenses relief. "A holding company, in its role as the ultimate controlling shareholder of a group of companies, is constantly concerned with the management of its investments, taking decisions in relation to the group, none of which is directed to buying or selling companies or assets held by companies within the group. All that is the revenue activity of an investment holding company. From time to time, it might buy or sell a subsidiary, but it is wrong to suggest that that is all or the bulk of what it does... Nothing in my conclusion prevents the ongoing management expenses of an investment company from being deductible as revenue expenses of management. For example, the revenue expenses of management of an investment company's investments, its day-to-day staff costs, rent, administration costs and repairs are deductible expenses of management, and not capital in nature."

As regards the expenditure in this case, the expenditure was incurred on professional and advisory services and was expenses of management. Fees for such services are capable in principle of being revenue or capital in nature. The starting point is that such fees take the character of expenditure of a capital or revenue nature from the commercial or business transaction for which they are incurred. In particular, the Court noted the well-established principles to be applied in distinguishing revenue from capital expenditure indicated that "Where a capital asset (whether tangible or intangible) is obtained or can be identified, the starting point is to assume that money spent on the acquisition or disposal of the asset should be regarded as capital expenditure".

Although the transaction that was ultimately concluded by COHL did not involve an outright sale of shares in Oxxio, the transaction achieved in substance the disposal of this investment from the Centrica group. The identifiable asset test could plainly be applied. Having taken the decision to dispose of Oxxio, Centrica appointed professional advisers to initiate the sale process. Once a commercial decision had been taken to dispose of the Oxxio business, the professional services were obtained precisely to enable Centrica to achieve that disposal.

In those circumstances, the expenditure was capital in nature and could not be deducted as an expense of management.

Comment

The Supreme Court has essentially held that the introduction of the exclusion for management expenditure of a capital nature in 2004 was intended to align the position of trading companies and investment companies so far as capital expenditure is concerned. As such, the exclusion in section 1219(3)(a) is to be interpreted in accordance with the well-established capital/revenue principles.