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DOTAS Notifications – A Victory for HMRC

The First Tier Tribunal case of HMRC v Root 2 Tax Limited offers an insight into the approach of the Courts and HMRC to the operation of the rules relating to notifications under the Disclosure of Tax Avoidance Schemes or DOTAS rules.

These rules were introduced originally simply to allow HMRC to obtain early notifications of tax avoidance schemes in order to facilitate an early response from HMRC to challenge their efficacy or change the relevant legislation. Subsequently, the effect of the legislation has been extended so that they may trigger the operation of the Advance Payment Notice legislation, permitting HMRC to seek recovery of tax which they believe would be due if an arrangement fails prior to this being established through case law decisions.

The arrangements in the Root case were complex, like many tax motivated structures, and were available for implementation in conjunction with an employee benefit trust (or EBT). For further discussions on the approach of the Courts and HMRC to EBTs, see our commentary on the Rangers case.

Despite their complexity, the essence of the structure was straightforward, namely the creation of a spread bet by the employer or the Trustees of the EBT under which the recipient would receive a set cash amount if the value of specified underlying funds reached a certain level, matched with a corresponding option (referred to as a “call spread option” or “CSO”). In practice, the terms CSO would typically be novated to the employer or EBT with the expectation being that the employee would benefit from the spread bet winning, allowing funds to be extracted from the Company or EBT for his or her benefit without suffering a tax charge on that payment.

The question was whether this structure was notifiable under the DOTAS rules. The taxpayer sought to argue that they were not, on the basis that the arrangements were not such which “enable, or might be expected to enable, any person to obtain [a tax advantage” and as a result it was not the case that “the main benefit or one of the main benefits that might be expected to arise from the arrangements is the obtaining of that advantage”.

The Tribunal rejected these arguments with little difficulty. That is not a surprising conclusion if the scheme is looked at in the round. The taxpayer sought to resist this conclusion by a careful analysis of the elements of the arrangements, arguing that the tax advantage (if available) flowed from the terms of the spread bet rather than a scheme seeking to reduce a tax charge, an approach which was unsuccessful.

Although the conclusion is not surprising, the case is a further illustration of the willingness of HMRC to use the DOTAS legislation to counter perceived avoidance. It also demonstrates the practical effect of the necessity to consider structures by reference to a realistic view of their effect rather than a forensic dissection of different elements of a scheme. Finally, given the extension of the DOTAS rules to financial instruments, including shares, these points have relevance to share based planning structures which might be argued by HMRC to have as one of their main purposes obtaining a tax advantage.

Pett, Franklin & Co. LLP are experts in employee share schemesexecutive incentives and share valuations. To find out how we can help you or your client, please call 0121 281 5798 or email