Tax tribunal judges expressed surprise to investors who lost valuable tax reliefs under the Enterprise Investment Scheme (EIS).
They felt lawmakers did not intend investors to lose their tax breaks when an EIS company was taken over by another company, but told them they had to follow the law and dismiss their appeal.
The four investors told the First-Tier Tribunal that they felt HM Revenue & Customs (HMRC) was wrong to claw back their tax relief on a £160,000 investment in EIS company PhotonStar LED Ltd.
They had invested in the company, and then the management decided to list on London’s Alternative Investment Market (AIM).
To list quickly and cheaply, the directors felt a reverse take-over of an already AIM-listed company would be beneficial.
Tax relief withdrawn
A reverse take-over is when a strong company is taken over by a weaker one.
The second company, Enfis, acquired the shares of PhotonStar by a share exchange.
HMRC decided that PhotonStar has breached EIS rules by becoming more than a 51% subsidiary of Enfis.
Although the four investors held their shares in the company for the three-year term of the EIS, tax relief was withdrawn by the tax office.
The investors argued that Enfis had taken over PhotonStar, and the company was not a subsidiary and that this was reflected in the accounts treating both as a single company.
The tribunal disagreed with the arguments and dismissed the appeal.
Unintended consequence
They felt that treating the two companies as a single entity would confuse a clear test of what constitutes an EIS company, although at some time, both companies may have carried on the same business with the same management.
“Those circumstances do not allow both companies to be treated as one,” said the ruling.
The judges also pointed out that the company did not appeal HMRC’s notices withdrawing income tax relief, which they felt indicated the directors knew that the company ceased to qualify as an EIS investment.
The ruling also made clear the judges felt the withdrawal of tax relief was not the intention of lawmakers.
“We feel that the withdrawal of relief is surprising and unfortunate for the appellants,” said the ruling.
“However, the lawmakers decide what the law should be and whether to amend what perhaps is an unintended consequence under these circumstances.”
Read the full ruling
