Ali v Revenue and Customs (INCOME TAX/CORPORATION TAX : Losses)

Factual and Procedural Background

The Appellant, who ran a successful pharmacy business, used the proceeds to engage in buying and selling publicly listed shares with the aim of profiting from short-term price movements. The dispute arose over whether losses from these share activities constituted losses from a commercial trade, allowing them to be offset against profits from the pharmacy business. The Appellant initially treated share dealings under capital gains tax rules but from 2006-07 claimed losses as trading losses. HMRC disallowed these losses, leading to closure notices and penalty assessments for multiple tax years between 2006-07 and 2012-13. The Appellant appealed against these assessments and penalties, contending that his share activities were a commercial trade.

The Tribunal heard evidence from the Appellant, who was assisted by his accountant and son, and reviewed multiple document bundles. The Appellant described a progression from investing in shares to active day trading from around 2005, dedicating significant time and resources to the share activities alongside his pharmacy business. He employed locums to manage the pharmacy to free up his time for trading. The share transactions were frequent and of significant volume, with the Appellant using online platforms and software tools to identify trading opportunities. Despite sustained losses over several years, the Appellant maintained that he had a business plan and operated on a commercial basis with the intention of making profits.

Legal Issues Presented

1. Whether the Appellant's share activities during the tax years in question amounted to carrying on a trade.
2. Whether that trade was carried on on a commercial basis and with a view to realising profits, as required under section 66 of the Income Tax Act 2007.
3. Whether the losses from the share activities could be set off against the profits of the Appellant's pharmacy business.
4. The validity of the penalty assessments imposed by HMRC for inaccuracies and negligence in the Appellant's tax returns.

Arguments of the Parties

Appellant's Arguments

• The share activities constituted carrying on a trade on a commercial basis within the meaning of the Income Tax Act 2007.
• The high frequency and volume of transactions, combined with significant time and effort invested, distinguished his case from mere investment or speculation.
• The business plan, albeit unsophisticated and unwritten, demonstrated a deliberate and organised scheme to make profits from short-term share price movements.
• The penalties were unfair as they did not account for tax payments made on account, which should reduce the potential lost revenue to zero.
• The Appellant relied on his experience, research, and confidence in his trading abilities to support the commercial nature of the trade.

HMRC's Arguments

• The Appellant's share activities were speculative investment rather than trading, falling within capital gains tax treatment.
• The sustained losses over several years cast doubt on whether the activity was carried out commercially.
• There exists a category of activities that are neither trading nor investment but amount to gambling transactions, which the Appellant's activities resembled.
• The VAT letter from 2006 was irrelevant to the tax treatment of the share activities.
• The penalty assessments were justified on the basis that the Appellant negligently changed his tax treatment from capital transactions to trading without reasonable care.

Table of Precedents Cited

Court's Reasoning and Analysis

The Tribunal began by assessing whether the Appellant's share dealings amounted to carrying on a trade. Applying the badges of trade, the Tribunal found that the Appellant's activities exhibited several hallmarks of trading, including the purchase and sale of shares in significant volumes with the intention of short-term profit. Although some badges pointed away from trading, the overall balance favored trading status.

The Tribunal acknowledged the well-established presumption that individual speculative dealings in shares are not trades but noted that this presumption can be displaced by evidence of a deliberate and organised scheme. The Appellant's consistent efforts, research, and business plan, despite being unsophisticated and informal, demonstrated such a scheme. The Tribunal rejected HMRC's argument that the activities were gambling transactions, finding that the Appellant's activities were not driven by addiction or habit but by a genuine commercial intent.

The informality of the Appellant's operations, including the lack of formal qualifications and use of an office above his pharmacy, did not detract from the trading status, especially in the modern context of internet-based trading. The Tribunal also considered the Appellant's self-funding status and risk-taking as consistent with entrepreneurial trading rather than non-commercial activity.

Regarding commerciality under section 66(2), the Tribunal applied guidance that commercial means the antithesis of uncommercial, focusing on whether the trade was conducted seriously with a view to profit. The Tribunal found that despite losses, the Appellant carried on his trade commercially, with a genuine intention to make profits. The losses were attributed to shortcomings in skill rather than lack of commerciality.

Consequently, the Tribunal concluded that the Appellant was carrying on a commercial trade during the relevant tax years, allowing the losses to be offset against other income. This conclusion rendered the penalty assessments unjustified, as the underlying tax returns were correct.

Holding and Implications

The Tribunal allowed the appeal, determining that the Appellant's share activities constituted a trade carried on commercially with a view to profit. As a result, losses from these activities could be set against profits from the Appellant's pharmacy business for the tax years in question.

The penalties imposed by HMRC for inaccuracies and negligence in the Appellant's tax returns were also disallowed, as the Tribunal found the tax returns to be correct in substance.

The decision directly affects the parties by overturning HMRC's closure notices and penalty assessments but does not establish new legal precedent beyond applying established principles to the facts of this case.