Introduction

In the case of Atkinson v Revenue & Customs ([2013] UKFTT 191 (TC)), the First-tier Tribunal (Tax) examined whether the appellant, Charles Atkinson, was entitled to set off trading losses from his yacht charter business against his general income. The core issue revolved around whether Atkinson's business was commercial in nature during the tax years 2007/08, 2008/09, and 2009/10, as defined under section 66 of the Income Tax Act (ITA) 2007. The appellant, a seasoned entrepreneur and former blacksmith, had diversified his business ventures to include yacht chartering, operating both as a sole trader and through a limited company, B Original Ltd.

Summary of the Judgment

The Tribunal assessed whether Atkinson's yacht chartering business was conducted on a commercial basis with a reasonable expectation of profit. For the tax years 2007/08 and 2008/09, the Tribunal concluded that the business was not commercial due to poor organizational structures and inflated expenses, thus disallowing the set-off of trading losses against general income. Conversely, in the 2009/10 tax year, after consolidating business operations under sole proprietorship and relocating to Plymouth, the Tribunal found the business to be commercial, permitting the offset of losses for that year. Consequently, HMRC's amendments to Atkinson's tax returns for 2007/08 and 2008/09 were upheld, while the amendment for 2009/10 was quashed.

Analysis

Precedents Cited

The Tribunal referenced several key precedents to elucidate the commerciality test under section 66 ITA 2007:

• Wannell v Rothwell (1996) 68 TC 719: Clarified that conducting a trade on a commercial basis entails a serious intent to generate profit, distinguishing professional traders from hobbyists.
• Walls v Livesey (1995) STC (SCD) 12: Distinguished between the subjective intent to realize profits and the objective expectation of profit, emphasizing that both elements must be satisfied.

These cases provided foundational understanding for assessing whether a trade is conducted commercially, influencing the Tribunal’s interpretation and application of the law.

Legal Reasoning

The Tribunal applied a two-part commerciality test as outlined in section 66(2) ITA 2007:

• Commercial Basis: The trade must be conducted on a commercial basis, indicating a serious intent to profit, not merely a dabbling hobby.
• Expectation of Profit: There must be a reasonable expectation of realizing profits from the trade.

For the years 2007/08 and 2008/09, the Tribunal found that Atkinson's dual-entity structure between his sole proprietorship and B Original Ltd resulted in inflated expenses and misallocation of resources, undermining the commercial basis requirement. The lack of proper billing between entities and the reduced charter bookings further demonstrated an uncommercial approach.

In contrast, for the year 2009/10, consolidating the business operations under sole proprietorship and relocating to Plymouth were seen as strategic moves aimed at improving profitability. These changes reduced expenses significantly and enhanced the business’s operational efficiency, thereby meeting both elements of the commerciality test.

Impact

This judgment underscores the importance of maintaining clear and commercially sound business structures when seeking to offset trading losses against general income. It highlights that mere intent without effective operational practices may fail to meet the commerciality criteria. Future cases involving the set-off of trading losses will likely reference this decision to assess the commercial nature of businesses, particularly those with complex structures or undergoing significant operational changes.

Complex Concepts Simplified

Section 66 of the Income Tax Act (ITA) 2007

Purpose: Governs the conditions under which trading losses can be set off against other income.

Key Elements:

• Commercial Basis: The business must be conducted seriously with the intention to generate profits.
• Expectation of Profit: There should be a reasonable anticipation that the business will become profitable.

Set-Off of Trading Losses

This refers to the ability to deduct business losses from other sources of income, thereby reducing taxable income. However, this is only permissible if the business meets the commerciality criteria.

Commercially Endorsed Yachtmaster

A qualification that allows an individual to skipper a commercial vessel, indicating professional competence and commitment to safety and operational standards.