Clarifying Sideways Relief: Naghshineh v Commissioners for HM Revenue and Customs and Its Impact on the Income Tax Act 2007

Introduction

Case: Naghshineh v Commissioners for HM Revenue and Customs ([2022] EWCA Civ 19)

Court: England and Wales Court of Appeal (Civil Division)

Date: January 13, 2022

This case revolves around Mr. Naghshineh's appeal against the denial of "sideways relief" by HM Revenue and Customs (HMRC) for his farming business losses incurred between 2007/08 and 2011/12. Sideways relief allows taxpayers to offset trading losses against other income, thereby reducing their overall tax liability.

The central issue pertains to the interpretation of section 68(3)(b) of the Income Tax Act 2007 (ITA 2007), specifically the meaning of "the activities" within this provision. The judgment establishes critical clarifications on how this section should be construed, impacting future claims for sideways relief in similar contexts.

Summary of the Judgment

The First-tier Tribunal (FTT) initially allowed Mr. Naghshineh's appeal, granting sideways relief based on expert evidence that his farming activities would take approximately 17 years to become profitable. HMRC appealed this decision to the Upper Tribunal (UT), which subsequently reversed the FTT's decision, denying the claim for sideways relief.

Mr. Naghshineh then appealed to the Court of Appeal, challenging the UT's interpretation of section 68(3)(b) ITA 2007. The Court of Appeal concluded in favor of HMRC, holding that the UT correctly construed "the activities" in section 68(3)(b) to refer to the current year's activities, assessed from the beginning of the prior loss period. Consequently, Mr. Naghshineh was denied sideways relief for all the years in question.

Analysis

Precedents Cited

The judgment extensively references prior cases and statutory provisions to underpin its reasoning:

Wannell v Rothwell [1996] STC 450: Distinguished between serious traders with profit intentions and amateur hobbyists.
Seven Individuals v HMRC [2017] STC 874: Emphasized the subjective aim or purpose of the taxpayer in assessing profit intentions.
Scambler v HMRC [2017] UKUT 0001 (TCC), [2017] STC 2108: Prior Upper Tribunal decision guiding the interpretation of section 68(3)(b).
Fowler v R&C Commissioners [2020] STC 1476: Referenced to critique statutory hypotheses interpretations.
R v Barnet LBC, ex p Shah [1982] 2 AC 302: Highlighted the principle of purposive interpretation of statutes.
Eclipse Film Partners (No 35) LLP v HMRC [2013] UKUT 639 (TC), [2014] STC 1114: Discussed the construction approach for consolidating statutes like ITA 2007.
Barclays Mercantile Business Finance v Mawson (Inspector of Taxes) [2005] 1 AC 684: Reinforced the purposive approach in statutory interpretation.

These precedents collectively influenced the Court's approach to interpreting the statutory language and understanding the legislative intent behind sideways relief provisions.

Legal Reasoning

The core legal debate centered on the interpretation of the term "the activities" in section 68(3)(b) ITA 2007. The Court of Appeal examined whether this term referred to the farming activities as they were at the beginning of the prior loss period or to the activities as they were during the current year of loss.

Key points in the court's reasoning include:

The sub-heading "Restriction on relief for 'hobby' farming or market gardening" does not limit the application of sections 67-70 solely to hobby farmers.
"The activities" in section 68(3)(b) are to be read consistently with section 68(3)(a), focusing on the current year's farming activities.
The term "activities" signifies the various farming operations carried out, which may evolve over time, rather than being static from the loss period's inception.
The court rejected the appellant's argument that "the activities" should be interpreted as activities at the start of the prior loss period, emphasizing legislative consistency and reliance on precedent.
Predecessor legislation (ICTA 1988) supported the interpretation that "the activities" in limb (b) should align with those in limb (a), ensuring a coherent and non-open-ended relief system.
The Court underscored that the purpose of the legislation was to cap sideways relief within a reasonable timeframe, preventing indefinite claims while allowing for the nature-specific realities of farming businesses.

In conclusion, the Court held that Mr. Naghshineh did not satisfy the requirements for sideways relief under section 68(3)(b) for the years in question, as his farming activities could have been expected to become profitable within the designated timeframe.

Impact

This judgment significantly clarifies the application of sideways relief for loss-making farming businesses under the ITA 2007. Key impacts include:

Clarification of "the activities": Establishes that "the activities" in section 68(3)(b) refer to the current year's farming operations, assessed from the start of the prior loss period.
Limitation of Sideways Relief: Imposes a time-bound cap on sideways relief, ensuring it is not open-ended and aligns with realistic profitability expectations.
Guidance for Future Claims: Provides clearer criteria for taxpayers and advisors when assessing eligibility for sideways relief, emphasizing the importance of aligning activities with reasonable profit expectations within a stipulated timeframe.
Precedential Value: Sets a binding precedent for lower tribunals and future cases, promoting consistency in the interpretation of the ITA 2007 provisions.

Overall, the decision reinforces the legislative intent to balance relief for genuine loss-making businesses with safeguards against indefinite tax relief claims, particularly in the agricultural sector.

Complex Concepts Simplified

Sideways Relief

Definition: Sideways relief allows taxpayers to offset trading losses against other forms of income, such as employment or investment income, thereby reducing taxable income.

Section 68(3)(b) ITA 2007

This provision sets conditions under which sideways relief can be extended beyond the standard five-year limit for loss-making trades in farming or market gardening. The key test involves assessing whether there was a reasonable expectation of profits within a specified timeframe.

Limb (a) and Limb (b)

Limb (a): Assesses whether the current year's activities are being carried out with a view to making a profit.
Limb (b): Evaluates whether, assuming those activities had been ongoing since the start of the loss period, it would have been reasonable to expect profits only after the current year.

Competent Farmer

A hypothetical standard used to evaluate the reasonableness of profit expectations. It considers what a skilled and knowledgeable farmer would reasonably expect under similar circumstances.

Conclusion

The Court of Appeal's decision in Naghshineh v Commissioners for HM Revenue and Customs offers pivotal insights into the application of sideways relief under the ITA 2007. By elucidating the interpretation of "the activities" in section 68(3)(b), the judgment ensures that sideways relief remains a carefully regulated relief mechanism, preventing its abuse while providing necessary support to genuine, long-term agricultural endeavors.

Taxpayers engaged in farming or market gardening must now meticulously assess their operations against the clarified statutory tests to determine eligibility for sideways relief. Legal practitioners should advise clients accordingly, ensuring compliance with the interpreted provisions to secure rightful tax relief.

Clarifying Sideways Relief: Naghshineh v HMRC and Its Impact on Income Tax Act 2007