Director Not Liable for Corporation Tax Bills

The Supreme Court has ruled that a director of a company that was itself the corporate director of a second company was not a de facto director of the second company. He was not therefore liable for the misuse of the second company’s assets, if his acts were done entirely within the ambit of the discharge of his duties and responsibilities as a director of the first company.

The Court made its ruling in a case concerning a complex structure of 42 companies that became insolvent with unpaid Corporation Tax (CT) liabilities.

The companies were set up by Mr Michael Holland and his wife as a tax and business administration service to contractors operating in information technology and other markets. Each contractor was taken on as an employee of one of the companies and was allotted a single non-voting share in their respective company. In this way each contractor could be paid salary and dividends from fees they had generated by their contract work. The intention was that each of the companies would pay CT at the small companies rate as long as the profits of the relevant company remained below the maximum threshold at which this rate applies.

Unfortunately for Mr Holland, he was deemed to be in control of the companies by virtue of being the holder of the one voting share in each company, making the companies ‘associated companies’ for CT purposes. Thus, when the collective profits of the companies exceeded £300,000, the companies were required to pay higher rate Corporation Tax (HRCT) on all profits above this amount.

The risk that this might happen was identified in January 1999 and throughout 2002 and 2003 there was what was described as ‘sporadic and inconclusive’ correspondence between tax advisers for the companies and HM Revenue and Customs (HMRC), leaving the position regarding the liability for HRCT far from clear. In February 2004, professional advisers estimated the potential tax deficit at £2 million, but trading continued. In October 2004, after further correspondence and advice, HMRC sent a letter to make it clear that HRCT would be sought from 2002. At this point, all further dividends ceased, administrators were appointed to all the relevant companies, and the contractors’ service contracts were transferred to new companies. The companies were left with a total CT deficiency of around £3.5 million.

At the original trial, Mr Holland was held liable for the deficit as a de facto director of the various companies and found guilty of a breach of duty in allowing the companies’ assets to be distributed when they had insufficient reserves to pay creditors. He successfully appealed the decision, resulting in an appeal to the Supreme Court.

At the Supreme Court hearing, it was held that the mere fact that a person was the director of a company that was itself a director of another company did not automatically make that person a director of the second company. On this basis, and in this case, it was therefore necessary to prove that Mr Holland was operating as a director of the companies and, on the evidence presented at the original trial, this had not been done. The appeal was therefore dismissed and Mr Holland was not required to pay the CT deficit.