Backhouse v HM Revenue & Customs Prosecution Office

This is an appeal against a judgment of Cranston J dated 25 July 2011 whereby he ordered that Mr John Backhouse (“the appellant”) should pay to HM Revenue & Customs Prosecution Office (“RCPO”) the sum of £268,039. The basis for the order was that Mr Craig Johnson had made a tainted gift to the appellant when he abandoned his valuable interest in a Cessna Citation II 550 aircraft (“the aircraft”).

The financial background to the dealing between the appellant, Johnson and others is complex but the issues in the appeal are such that they can be much simplified for present purposes. The issues are much narrower than they were before the judge.

Johnson was a wealthy businessman with substantial assets and a high style of life, living at Meaford Hall, Stone, Staffordshire. Having initially been arrested on 15 April 2001, he was convicted on 12 June 2006 of one count of cheating the Revenue and one count of conspiracy to contravene section 17(1)(b) of the Theft Act 1968. The first count involved a VAT carousel fraud where the VAT lost on mobile telephones was estimated at about £20 million over a three month period in 2000. The second offence related to furnishing false accounting information. In October 2006, Johnson pleaded guilty to a count of laundering £6.25 million, the proceeds of another’s VAT fraud involving mobile telephones. The offences were committed during a period from mid-2000 to the end of 2003.

Johnson was sentenced to 10½ years imprisonment on the earlier convictions, and 2 years consecutive for the money laundering. In November 2008, a confiscation order was made in a sum of over £26 million, the benefit of Johnson’s offending having been found to be over £167 million, with 10 years imprisonment consecutive in default. It is not suggested that the appellant had any part in the dishonesty or was complicit in any criminal activity with Johnson. On 18 June 2009, Mr Nigel Sinclair, who had previously been appointed a management receiver under a restraining order against Johnson, was appointed an enforcement receiver to enforce the confiscation order.

Because of the number of entities involved, the background to the purchase of the aircraft is complex but it is accepted by the appellant that the aircraft is owned by a company under his control and it is not challenged that the claim was appropriately made against him. The aircraft had been purchased for the sum of $1,350,000. It was subject to a hire purchase agreement which gave the appellant the option to purchase. Prior to an arrangement with Johnson, it had been used by the appellant under sharing arrangements with other users, a common situation in civil aviation. On 11 December 2001, a contract in writing was made between the appellant and Johnson in relation to the aircraft.

The RCPO claim was put on three grounds, first, that Johnson retained a beneficial interest in the aircraft, secondly, that he had a beneficial interest in the sum he paid under the December 2001 agreement and, thirdly, that there had been a disposal of Johnson’s interest at an undervalue. The judge rejected the first and second grounds and also held that a tracing exercise was inappropriate. However, the judge held, at paragraph 63, that:

“When Mr Johnson lost his rights in the aircraft there was a gift within the terms of the [Criminal Justice Act 1988]”

and, at paragraph 65, that Johnson had:

“Disposed of a value of not less than $461,268.59 (£268,039) to the [appellant] as a tainted gift when he abandoned his rights to the aircraft.”

There is no respondent’s notice. The judge held that a purported determination of the December 2001 agreement by letter of 1 December 2003 “should not be recognised as such” (paragraph 54).

The judge was not assisted in this case by the lack of early definition by the parties of the issues or of the evidence, including valuations, called in support. The appellant complains of serious procedural irregularities in that the case against him was not made clear. There were no pleadings or points of claim. I consider that there is substance in that complaint. The basis on which the judge found for RCPO had not been expressly set out in points of claim or a witness statement and the figures of Mr Sinclair, on which the judge relied in his judgment, were put forward in final form only on the second day of the trial. On the conclusion I have reached on the merits, there is no need to consider the complaint in detail.

The agreement of 21 December 2001 provided:

“1.

The Agreement shall run for 12 months with 6 months notice either way after the first 6 months.

2.

One party will buy the other out after this period at an agreed value or failing that, be sold for the best price reasonably obtainable.

3.

The aircraft shall be based at Liverpool Airport, UK.

4.

The purchaser shall take a 50% stake in the aircraft.

5.

The following expenses shall be borne on a 50-50 basis:

i hangarage,

ii insurance costs,

iii residual loan cost to Finova Finance Company (the purchaser may at his option pay $325,000 USD and be relieved of the mortgage obligation under the loan agreement to the finance company),

iv RVSM compliance costs,

v other compliance costs,

vi scheduled engine maintenance,

vii improvements

6.

The following costs shall be paid by the user:

i an engine reserve figure of at least $114 USD per hour.,

ii fuel, Eurocontrol, parking, landing.

7.

The agreement shall start on the completion date.

8.

All sums due to Citation Flying Services (CFS) up to the completion date shall be for the account of Redcar Associates Limited including the engine reserve accrued to date and all obligations owned by CFS up to the completion date shall be the responsibility of Redcar Associates Limited.

9.

All other maintenance, apart from scheduled engine maintenance, and costs as outlined above shall be borne in proportion to hours flown.

10.

CFS will do billing for the purchaser for the above costs plus VAT.

11.

Bookings shall be on a first come first served basis.

12.

Either party may invoke an arrangement whereby access priority shall revert to a week by week arrangement from Monday to Sunday.”

The contract made practical arrangements of an apparently sensible and businesslike nature. However, it was less than formal in not identifying the aircraft subject to it and in not referring to a payment by Johnson. However, the sum of $637,462 was paid on behalf of Johnson in December 2001 and it is not now disputed that the payment was made under the contract and was to purchase the 50% stake in the aircraft stipulated in paragraph 4 of the agreement. The judge found that “it accords with a 50 per cent stake”.

The judge held, at paragraph 47, that the operating agreement of 21 December 2001 was genuine. The judge stated that such sharing arrangements are used in civil aviation (in relation to private aircraft) because “a private jet needs to be used a certain number of hours per annum to make operations economic. One person may not have that demand. So there is nothing unusual in Mr Backhouse entering this arrangement for Mr Johnson's use of the aircraft so as to build up the hours of use. And use the aircraft Mr Johnson did, although as he became more entangled with the criminal justice system his use declined.”

On 22 February 2002, the appellant paid $354,003 to the hire purchase company thereby reducing the debt outstanding. The only other substantial payment ever made by Johnson was one of £70,000 as a contribution to ongoing running costs. The judge found, at paragraph 55, that modest additional payments made by Johnson were attributable to the use of the aircraft.

Paragraph 5 of the December 2001 agreement provided for expenses to be borne on a 50-50 basis. At 5(iii) Johnson was given an option:

“the purchaser may at his option pay $325,000 USD and be relieved of the mortgage obligation under the loan agreement to the finance company.”

RCPO accept that the option was not exercised so that Johnson continued to be under the mortgage obligation. Mr Sinclair accepted that in evidence. Mr Munday QC, for RCPO, stated that he had carefully considered whether a contrary submission could be made based on the similarity between the sum payable under the option and the sum paid by the appellant to the finance company in February 2002. Rightly and responsibly, it has been accepted that the evidence does not justify a claim that the option was exercised by Johnson.

On 24 November 2003, the appellant wrote to Mr John Jackson, whom he believed to be acting on Johnson’s behalf, in relation to the aircraft. He stated:

“Further to our discussions I have decided to accept your offer in connection with the resolution of the outstanding issues in connection with the User Contract arrangement entered into by Craig Johnson in December 2001.

You have agreed that he will make no further payments nor receive any further benefit under the arrangements and all liabilities and contractual obligations by the parties to each other in connection with Jet J will be extinguished.”

On 1 December 2003, Johnson himself wrote to the appellant under the heading ‘Resolution Proposal – Citation G-Jet J’. He stated:

“Thank you for your letter dated 24 Nov 03 which set out the terms for the termination of our user agreement. I fully agree with the terms therein and understand, subject to the approval of the officers of CFS Ltd, that all liabilities and contractual obligations between both parties will be extinguished.”

In seeking to uphold the judgment, RCPO rely on the provisions of the 1988 Act in relation to gifts. RCPO can recover ‘realisable property’. Section 74 of the Act defines ‘realisable property’ and section 74(10) provides:

“A gift (including a gift made before the commencement of this Part of this Act) is caught by this Part of this Act if-

(a)

it was made by the defendant at any time after the commission of the offence or, if more than one, the earliest of the offences to which the proceedings for the time being relate; and

(b)

the court considers it appropriate in all the circumstances to take the gift into account.”

Section 74(12) provides:

“For the purposes of this Part of this Act-

(a)

The circumstances in which the defendant is to be treated as making a gift include those where he transfers property to another person directly or indirectly for a consideration the value of which is significantly less than the value of the consideration provided by the defendant; and

(b)

in those circumstances, the preceding provisions of this section shall apply as if the defendant had made a gift of such share in the property as bears to the whole property the same proportion as the difference between the values referred to in paragraph (a) above bears to the value of the consideration provided by the defendant.”

Section 102(1), the interpretation section, provides that:

“’property’ includes money and all other property, real or personal, heritable or movable, including things in action and other intangible or incorporeal property.”

Following discussion, Mr Berkley QC, for the appellant, did not for present purposes dispute that abandoning a valuable right under a contract could constitute a gift of property within the meaning of the statute.

The judge held, at paragraph 54 that:

“. . . the 1 December 2003 termination should not be recognised as such.”

The judge stated that the termination “does not make commercial sense”.

At paragraph 63, the judge stated:

“Mr Johnson was effectively disposing of his rights under the 21 December 2001 operating agreement for a value significantly less than what they were worth.”

The judge then considered figures produced to calculate value and worth and accepted those of Mr Sinclair. It followed, the judge held, that “Johnson had disposed of a value of not less than $461,268.59 to the [appellant] as a tainted gift when he abandoned his rights to the aircraft.”

The judge adopted a valuation of the aircraft in December 2003, subject to liabilities outstanding, at $1,219,855. There was an outstanding liability to the hire purchase company, capitalised by Mr Sinclair at $556,433. Mr Sinclair also accepted that a debit of $94,665 should go against Johnson as his share of the costs of engine overhaul in September 2003 and a sum of $351,798 for his share of expenses outstanding. Credited are payments received, put at $98,753 and reclaimed VAT of $16,806.

Mr Sinclair included as a debit item the sum of $354,003 paid in February 2002. The evidence, accepted by RCPO, was that the sum was paid by the appellant. Johnson benefited from that payment in that the sum due under the mortgage agreement, for half of which he was responsible, was thereby reduced. However, that does not affect the central issue.

Mr Sinclair’s calculation produces a substantial debit for Johnson’s 50% share. It is converted to a credit of $461,268.59 by adding in the $637,462 paid by Johnson in December 2001. The issue is whether, in valuing Johnson’s interest in December 2003, the sum of $637,462 paid in December 2001 should be credited to him. The judge stated, at paragraph 54:

“If Mr Backhouse wants me to accept the 21 December 2001 agreement as a genuine commercial transaction, the other side of the coin to commercial reality is that Mr Johnson would never have paid for a half stake in the aircraft, at an outlay of $637,000, and contributed to the expenses of its use, and be prepared to abandon his rights only two years later.”

The judge had, however, found that the December 2001 agreement was commercially sound. He repeated that when rejecting RCPO’s claim that Johnson retained a beneficial interest in the aircraft and the claim that $637,462 remained Johnson’s beneficial property. The finding is not challenged by RCPO, and understandably so. To a man of Johnson’s apparent wealth in December 2001, and with his lifestyle, shared use of a private aircraft, combined with a share in the aircraft and proceeds from its sale, had obvious benefits. What the judge attacks is the termination of the agreement in December 2003, which he held to make no commercial sense.

Under this head of claim, I see no justification for adding the sum of $637,462 back in. As framed by the judge, the issue was whether, from Johnson’s point of view, the December 2003 agreement made commercial sense. The judge found that Johnson was disposing of his rights under the December 2001 agreement “for a value significantly less than what they were worth” and was making a tainted gift. The judge emphasised the limited benefit Johnson had in the event enjoyed from the December 2001 agreement, the use of the aircraft for two years.

Johnson was charged with serious offences in September 2002 and his opportunities and appetite to use the aircraft diminished. His circumstances had changed substantially by December 2003 and his use of the aircraft declined, as the judge found. At that date, accepting Mr Sinclair’s figures, he owed the appellant $94,665 for his share of the cost of the engine overhaul in September 2003 and was heavily in arrears in meeting his obligation under the December 2001 agreement to meet the substantial expenses involved in aircraft ownership. He remained liable for half the substantial sum, capitalised by Mr Sinclair at $556,433, outstanding on the mortgage. He was liable for one half of future expenses which, on the figures provided, were likely to be substantial. For reasons beyond his control, he was unable to make much of the right to use the private aircraft.

In those circumstances, I cannot accept that the agreement Johnson made in December 2003 made no commercial sense. In an analysis of the agreement, the judge’s doubts about the appellant’s credibility are not material and Mr Munday did not seek to rely on them. The agreement relieved Johnson of substantial existing and future liabilities with respect to the aircraft. On the figures supplied, it appears to me that it made good commercial sense and, placed as he was, Johnson was well out of it. I reject RCPO’s submission that, under section 74 and section 102 of the 1988 Act, there was a tainted gift enabling RCPO to obtain money from the appellant.

I would allow the appeal and dismiss the claim.

I agree that this appeal should be allowed for the reasons that Pill LJ has given. I also particularly wish to associate myself with his remarks at [8] above about the lack of a clear definition of the issues in this case. When civil claims are made under the Proceeds of Crime Act 2002 and their statutory predecessors, it seems to me that it is vitally important that the issues between the parties must be clearly identified. In simple cases that can be done very shortly. In more complicated cases, such as this one was by the time it reached the judge for trial, it will be better for the RCPO to set out its case in points of claim and for the defendant to respond to that in points of defence. In these more complicated cases it may then be appropriate for a List of Issues to be drawn up in the way that it is done in cases in the Commercial Court: see para D6 of the Admiralty and Commercial Courts Guide, White Book vol 2 page 320. This is something that should be considered by the Rules Committee.

I agree.