Revenue & Customs v Forde and McHugh Ltd [2014] UKSC 14

Forde and McHugh Ltd transferred cash and Treasury Stock to a Funded Unapproved Retirement Benefits Scheme trust for a director's benefit. The Supreme Court held this was not a payment of 'earnings' under section 6(1) of the Social Security Contributions and Benefits Act 1992, as the director only held a contingent interest.

Facts

On 11 April 2002, Forde and McHugh Ltd (FML) established by trust deed a Funded Unapproved Retirement Benefits Scheme (FURBS) to provide relevant benefits to its employees and directors. Mr McHugh, a shareholder and director of FML, became the sole member of the scheme on the same day. FML made an initial cash contribution of £1,000 and transferred Treasury Stock with a nominal value of £162,000 to the scheme for Mr McHugh’s benefit.

The trust deed provided that upon retirement, the trustees would apply the accumulated fund to provide a pension or such other relevant benefits as agreed. On death before retirement, the trustees were to realise the fund and apply the proceeds to a defined discretionary class of beneficiaries (Mr McHugh had indicated a wish that his wife benefit). At the time of the transfer, Mr McHugh was 54, and his retirement age was specified as 60, though it could be varied by agreement.

HMRC decided FML was liable to pay Class 1 National Insurance Contributions (NICs) on the value of the transfer. The Upper Tribunal allowed FML’s appeal; the Court of Appeal (by majority) restored HMRC’s decision. FML appealed to the Supreme Court.

Issues

The principal issue was whether the transfer of cash and Treasury Stock to the FURBS trust constituted a payment of ‘earnings’ to or for the benefit of Mr McHugh within the meaning of section 6(1) of the Social Security Contributions and Benefits Act 1992. It was agreed the payment was ‘for the benefit’ of Mr McHugh; the question was whether it constituted ‘earnings’.

Arguments

Appellant (FML)

FML accepted that ‘earnings’ in NICs legislation has a wider meaning than ’emoluments’ in income tax legislation and can include non-convertible benefits in kind. However, it argued that the payment of ‘earnings’ under section 6 did not extend to an employer’s transfer to a trust of funds or assets in which the earner had, at the time of the transfer, only a contingent interest. Mr McHugh’s interest was contingent on his surviving to the specified retirement age.

Respondent (HMRC)

HMRC submitted that the payment into the trust was earnings because it was consideration for past or future services and formed part of Mr McHugh’s remuneration. The fund existed solely for Mr McHugh and his wife; he was immediately better off with the hope of future receipt. HMRC accepted that payments out of the trust would also be earnings when made, with double-counting avoided only by disregard provisions in Part VI of Schedule 3 to the Social Security (Contributions) Regulations 2001.

Judgment

The Supreme Court unanimously allowed the appeal, with Lord Hodge delivering the judgment. The Court traced the legislative history from the National Insurance Act 1911, through the Beveridge Report and 1946 Act, confirming that ‘earnings’ in NICs legislation has consistently differed from ’emoluments’ in income tax legislation, notably by including non-convertible benefits in kind (contrasting with Tennant v Smith [1892] AC 150).

Lord Hodge gave three reasons for rejecting HMRC’s argument:

First, it would be counter-intuitive to conclude that Parliament intended that a person earns remuneration both when the employer pays money into a trust for his benefit and again when the trust fund is later paid out. The same reasoning would apply to deferred bonus arrangements. Absent clear words or necessary implication, this construction should not be attributed to Parliament. The payment out of the trust or escrow fund is properly characterised as deferred earnings; the payment in is not.

Second, HMRC’s interpretation could only be sustained by looking exclusively at what was paid and ignoring what the earner received. This would denude ‘earnings’ of meaning, reducing ‘earnings are paid’ to ‘payments are made’. The use of the word ‘earnings’ points to what the employee obtains from the employment.

Third, as to computation, HMRC’s approach failed to take account of the contingency. Mr McHugh did not receive the cash and Treasury Stock; he received only a contingent right to a future pension or relevant benefits on reaching retirement age. The hypothetical value of that entitlement would need to reflect both the mortality contingency and uncertainty in trustees’ investment performance, and would not equal the value of the assets transferred.

The Court referred to Edwards v Roberts (1935) 19 TC 618 for its application of general law regarding contingent interests, quoting Lord Hanworth MR:

[U]nder these circumstances there could not be said to have accrued to this employee a vested interest in these successive sums placed to his credit, but only that he had a chance of being paid a sum at the end of six years if all went well

The Court disagreed with the majority of the Court of Appeal’s criticism of Collins J in Tullett & Tokyo Forex International Ltd v Secretary of State for Social Security [2000] EWHC (Admin) 350, endorsing his focus on what the employee receives.

Implications

The judgment confirms that ‘earnings’ in section 6(1) of the Social Security Contributions and Benefits Act 1992 focuses on what the employee actually receives, not merely what the employer pays. Where an employer transfers assets to a trust in which the employee has only a contingent interest, the transfer will not, without more, constitute the payment of earnings for NICs purposes; the earnings, if any, arise on later payment out of the fund as deferred remuneration.

The decision preserves the distinction between ‘earnings’ for NICs and ’emoluments’ for income tax, while confirming that non-convertible benefits in kind may still be earnings unless expressly disregarded by legislation such as the Social Security (Contributions) Regulations 2001.

The decision is significant for employers who established FURBS or similar arrangements before their tax effectiveness was curtailed in 2006, and for the analysis of deferred bonus or escrow arrangements more generally. However, Lord Hodge expressly noted that no argument was advanced as to whether a payment into a pension or bonus fund might be analysed as a payment out of the earner’s salary (as in Smyth v Stretton (1904) 5 TC 36), and Mr Jones for HMRC indicated that HMRC might take that point in an appropriate case. The judgment is therefore confined to the issue of principle presented and leaves that alternative analytical route open for future cases.

Verdict: Appeal allowed. The Supreme Court reinstated the judgment of the Upper Tribunal, holding that the transfer of cash and Treasury Stock to the FURBS trust was not a payment of earnings to or for the benefit of Mr McHugh within the meaning of section 6(1) of the Social Security Contributions and Benefits Act 1992.

Source: Revenue & Customs v Forde and McHugh Ltd [2014] UKSC 14