Sun Life Assurance Company of Canada (UK) Ltd v HM Revenue & Customs

Sun Life Assurance Company of Canada (UK) Limited (“Sun Life”) is a member of a UK group of companies. Following the demutualisation in 2000 of its Canadian parent, it succeeded to that company’s life assurance business (which had been carried on by its parent’s UK branch) under a scheme approved under Schedule 2C to the Insurance Companies Act 1982.

It carries on long-term insurance business including a basic life assurance and general annuity business (“BLAGAB”), a pension business and permanent health insurance but has been closed to new business since 2001.

The issue on this appeal is whether, as a company which carries on a BLAGAB, Sun Life is entitled, in respect of that business, to deduct unused losses in making its Case I computations of profit for the purposes of section 89 of the Finance Act 1989. This determines the amount to be deducted from the relevant profits (as defined) of the company for the accounting period in question so as to compute what is described in s.88(1) FA 1989 as the policy holders’ share of the relevant profits for that period. The tax consequence is that the policy holders’ share of the relevant profits bears tax at a rate equal to the basic rate of income tax for the year of assessment. The balance of the company’s taxable profits from its BLAGAB or any other life assurance business is subject to the usual rate of corporation tax.

During the 1990s Sun Life incurred Case I losses largely due to the funding of guaranteed annuity rates. There was an agreed settlement with HMRC in respect of the years to 31^st December 2000 and 31^st December 2001 which involved Sun Life abandoning its claim to set unused trading losses against its Case I profits in these years for the purpose of calculating the policy holders’ share of relevant profits under ss.88-89 FA 1989. But its revised returns for 2002 and 2003 were submitted on the basis that trading losses available for carried forward relief under s.393 ICTA 1988 fell to be deducted from its Case I profits for these years for the purposes of s.89. In respect of 2002 Sun Life had an agreed Case I profit from its BLAGAB before any set-off for unused losses of £8,534,030. For 2003 the figure is £95,465,960.

These appeals therefore relate to the accounting periods ending on 31^st December 2002 and 31^st December 2003, in respect of which the basic rate of income tax and the rate of corporation tax were 22% and 30% respectively. The Special Commissioner (Mr Julian Ghosh QC), in a decision released on 11^th December 2007, decided that the taxpayer company was entitled to deduct its unused losses in making the computation of Case I profits for the accounting period to 31^st December 2002 but that, as a result of amendments to s.89 introduced by the Finance Act 2003, the relief was not available in the period up to 31^st December 2003.

Sun Life appeals against his decision in respect of the 2003 accounting period and HMRC have cross-appealed his decision in respect of the period up to 31^st December 2002. It is accepted by Sun Life that if HMRC’s cross-appeal succeeds then its own appeal against the Special Commissioner’s decision on the FA 2003 amendments cannot succeed. This is because its appeal is based on the premise that in the 2002 accounting period relief for unused losses was available and that the amendments were not designed (or effective) to remove it. Minus that premise, the challenge to HMRC’s rejection of the claim to deduct unused losses in respect of the 2003 accounting period becomes unsustainable.

In order properly to consider Sun Life’s appeal it is necessary therefore to begin with the cross-appeal relating to the accounting period up to 31^st December 2002 and with s.89 in its unamended form. For that period ss.88 and 89 FA 1989 (so far as material) provided as follows:

“88Corporation tax: policy holders' fraction of profits

(1)

Subject to subsection (2) and section 88A below, in the case of a company carrying on life assurance business, the rate of corporation tax chargeable for any financial year on-

(a)

the policy holders' share of the relevant profits for any accounting period, or

(b)

where the business is mutual business, the whole of those profits,

shall be deemed to be the rate at which income tax at the basic rate is charged for the year of assessment which begins on 6th April in the financial year concerned.

(2)

Subsection (1) above does not apply in relation to profits charged under Case I of Schedule D.

(3)

For the purposes of subsection (1) above, the relevant profits of a company for an accounting period are the income and gains of the company’s life assurance business reduced by the aggregate amount of

(aa) amounts falling in respect of any non-trading deficits on the company’s loan relationships to be brought into account in that period in accordance with paragraph 4 of Schedule 11 to the Finance Act 1996

(a)

expenses of management falling to be deducted under section 76 of the Taxes Act 1988, and

(b)

charges on income,

so far as referable to the company’s life assurance business.

89Policy holders' share of profits

(1)

The references in sections 88 and 88A above to the policy holders’ share of the relevant profits for an accounting period of a company carrying on life assurance business or, as the case may be, basic life assurance and any general annuity business are references to the amount arrived at by deducting from those profits the Case I profits of the company for the period in respect of its life assurance business, reduced in accordance with subsection (2) below.

(2)

For the purposes of subsection (1) above, the Case I profits for a period shall be reduced by—

(a)

…

(b)

the shareholders' share of any … franked investment income arising in the period which is referable to the company’s basic life assurance and general annuity business…

(c)

…

(2A) …

(3)

For the purposes of this section “the shareholders’ share” in relation to any income is so much of the income as is represented by the fraction

A

B

where-

A is an amount equal to the Case I profits of the company for the period in question in respect of its life assurance business, and

B is an amount equal to the excess of the company’s relevant non-premium income and relevant gains over its relevant expenses and relevant interest for the period.

(4)

Where there is no such excess as is mentioned in subsection (3) above, or where the Case I profits are greater than any excess, the whole of the income shall be the shareholders' share; and (subject to that) where there are no Case I profits, none of the income shall be the shareholders' share.

(5)

In subsection (3) above the references to the relevant non-premium income, relevant gains, relevant expenses and relevant interest of a company for an accounting period are references respectively to the following items as brought into account for the period, so far as referable to the company's life assurance business,—

(a)     the company's investment income from the assets of its long-term insurance fund together with its other income, apart from premiums;

(b)     any increase in the value (whether realised or not) of those assets;

(c)     expenses payable by the company;

(d)     interest payable by the company;

and if for any period there is a reduction in the value referred to in paragraph (b) above (as brought into account for the period), that reduction shall be taken into account as an expense of the period.

(6)

Except in so far as regulations made by the Treasury otherwise provide, in this section “brought into account” means brought into account in the revenue account prepared for the purposes of Chapter 9 of the Prudential Sourcebook (Insurers), and where the company’s period of account does not coincide with the accounting period, any reference to an amount brought into account for the accounting period is a reference to the corresponding amount brought into account for the period of account in which the accounting period is comprised, proportionately reduced to reflect the length of the accounting period as compared with the length of the period of account.

(7)

In this section—

“Case I profits” means profits computed in accordance with the provisions of the Taxes Act 1988 applicable to Case I of Schedule D;

“the Prudential Sourcebook (Insurers)” means the Interim Prudential Sourcebook for Insurers made by the Financial Services Authority under the Finance Services and Markets Act 2000.”

As s.88(2) makes clear, the relevant profits of the BLAGAB which are apportioned in accordance with the provisions of s 89 are not those chargeable on a computation of trading profit made under Case I. Section 88 is directed to relevant profits as defined by s.88(3) which, for practical purposes, amount to its profits from investments held for the benefit of policy holders less expenses of management and the other allowable deductions there specified.

Under s.432(1) ICTA 1988 the BLAGAB of an insurance company is treated for the purposes of the Corporation Tax Acts as a separate business. As the Special Commissioner explained in his decision, the profits of a life assurance business can be calculated in a number of different ways depending upon how HMRC chooses to assess them. The most common (and usually the most beneficial from the Revenue’s point of view) is to compute the profits of the business by what is referred to as the I minus E method. Broadly speaking, this is a calculation of income and gains from investments less management expenses. Critically it does not include premium income or claims paid: see e.g. FA 1989 s.85. If assessed on the trading profits from its BLAGAB, Sun Life would be able to set against policy premiums and the receipts and gains from investments held to back the policies the cost of management expenses, losses on investments, claims paid and an amount to take account of future liabilities assessed on an actuarial basis. This could (and, in practice, often does) produce a loss in cases where the I minus E calculation for the same period would produce a profit.

The I-E basis of computation was given express statutory recognition in s.65 FA (No. 2) 1992, which confirmed (see s.65(4)) that neither claims for trading losses (including carried forward relief under ICTA 1988 s.393(1)) nor the application of any commercial or accounting principles shall prevent the I-E basis being applied in the same accounting period or affect the calculation of the income and gains of the company’s BLAGAB for that or any other accounting period in applying that basis of computation. As Robert Walker J. observed in Johnson (HM Inspector of Taxes) v The Prudential Assurance Co Ltd (1998) 70 TC 445 at page 471:

“Section 65(4) makes plain that a Case I loss can co-exist, and is deemed always to have been capable of co-existing, with a profit taxable on the I minus E basis. If that is absurd it is an absurdity which Parliament has clearly enacted.”

Sun Life prepares a Case I computation in respect of its BLAGAB and other life assurance business for each accounting period. This serves a number of purposes. It forms the basis of the apportionment of relevant profits in order to calculate the policy holders’ share for the purposes of s.88 FA 1989 and, as part of that calculation, operates to identify the shareholders’ share as defined by s.89(3). Any Case I losses for a particular accounting period are also available for loss relief and group relief under ICTA 1988 Part X.

The issue for the 2002 accounting period is whether the definition of Case I profits in s.89(7) FA 1989 includes, as part of the computation referred to, the deduction of unused losses from earlier years in accordance with s.393 ICTA 1988.

For the 2002 accounting period, s.393 provided that:

“393Losses other than terminal losses

(1)

Where in any accounting period a company carrying on a trade incurs a loss in the trade, the loss shall be set off for the purposes of corporation tax against any trading income from the trade in succeeding accounting periods; and (so long as the company continues to carry on the trade) its trading income from the trade in any succeeding accounting period shall then be treated as reduced by the amount of the loss, or by so much of that amount as cannot under this subsection, or on a claim (if made under section 393A(1) be relieved against income or profits of an earlier accounting period.

(2)–(6)     . . .

(7)

The amount of a loss incurred in a trade in an accounting period shall be computed for the purposes of this section in the same way as trading income from the trade in that period would have been computed.

(8)

For the purposes of this section “trading income” means, in relation to any trade, the income which falls or would fall to be included in respect of the trade in the total profits of the company; but where—

(a)

in an accounting period a company incurs a loss in a trade in respect of which it is within the charge to corporation tax under Case I or V of Schedule D, and

(b)

in any later accounting period to which the loss or any part of it is carried forward under subsection (1) above relief in respect thereof cannot be given, or cannot wholly be given, because the amount of the trading income of the trade is insufficient,

any interest or dividends on investments which would fall to be taken into account as trading receipts in computing that trading income but for the fact that they have been subjected to tax under other provisions shall be treated for the purposes of subsection (1) above as if they were trading income of the trade.”

Sun Life’s case both before the Special Commissioner and before me was that the deduction of carried forward losses was integral to the computation of Case I profits for any accounting period under ICTA 1988 and that the definition of Case I profits in s.89(7) confirmed that this applied also for the purposes of s.89. The provisions of ICTA 1988 applicable to Case I include, it is said, s.393 which obliges Sun Life to set off unused trading losses against trading profits in later accounting periods.

To make this good Mr Goldberg QC began with ICTA 1988 ss.6 and 8 which (so far as material) provide that:

“6The charge to corporation tax and exclusion of income tax and capital gains tax

(1)

Corporation tax shall be charged on profits of companies, and the Corporation Tax Acts shall apply, for any financial year for which Parliament so determines, and where an Act charges corporation tax for any financial year the Corporation Tax Acts apply, without any express provision, for that year accordingly.

(2)

…

(3)

A company shall not be chargeable to capital gains tax in respect of gains accruing to it so that it is chargeable in respect of them to corporation tax or would be so chargeable but for an exemption from corporation tax.

(4)

In this section, sections 7 to 12, 114, 115 (but subject to subsection (7)), 242, 243 … and 248, Part VIII, Chapter IV of Part X and Part XI, except in so far as the context otherwise requires –

(a)

“profits” means income and chargeable gains; and

(b)

“trade” includes “vocation”, and also includes an office or employment…

8General scheme of corporation tax

(1)

Subject to any exceptions provided for by the Corporation Tax Acts, a company shall be chargeable to corporation tax on all its profits wherever arising.

(2)

….

(3)

Corporation tax for any financial year shall be charged on profits arising in that year; but corporation tax shall be computed and chargeable (and any assessments shall accordingly be made) by reference to accounting periods, and the amount chargeable (after making all proper deductions) of the profits arising in an accounting period shall, where necessary, be apportioned between the financial years in which the accounting period falls.”

Corporation tax is therefore an annual charge on the profits of a company made up from its income and chargeable gains. For this reason, there is no charge to income tax or CGT on these profits but the income element falls to be “computed” in accordance with income tax principles. This is explained in s.9 as follows:

“9Computation of income: application of income tax principles

(1)

Except as otherwise provided by the Tax Acts, the amount of any income shall for purposes of corporation tax be computed in accordance with income tax principles, all questions as to the amounts which are or are not to be taken into account as income, or in computing income, or charged to tax as a person's income, or as to the time when any such amount is to be treated as arising, being determined in accordance with income tax law and practice as if accounting periods were years of assessment.

(2)

For the purposes of this section “income tax law” means, in relation to any accounting period, the law applying, for the year of assessment in which the period ends, to the charge on individuals of income tax, except that it does not include such of the enactments of the Income Tax Acts as make special provision for individuals in relation to matters referred to in subsection (1) above.

(3)

Accordingly, for purposes of corporation tax, income shall be computed, and the assessment shall be made, under the like Schedules and Cases as apply for purposes of income tax, and in accordance with the provisions applicable to those Schedules and Cases, but (subject to the provisions of the Corporation Tax Acts) the amounts so computed for the several sources of income, if more than one, together with any amount to be included in respect of chargeable gains, shall be aggregated to arrive at the total profits.”

It is not, I think, necessary to refer to the Schedules and Cases in any detail. They are set out under ss.15-20 ICTA 1988 and include under Schedule D the annual profits and gains arising (under Case I) in respect of any trade carried on in the UK. As explained earlier, a life assurance company can be assessed on the profits from its BLAGAB either as a trading company under Case I or as an investment company (normally under Schedule A and Schedule D Case III) and the basis of assessment will determine the nature of the reliefs available. If assessed under Case I, trading expenses and liabilities as previously described will be deductible subject to the limitations imposed by s.74 ICTA 1988 and thereafter s.393 will apply to reduce the amount of trading income in the relevant accounting period. If taxed as an investment company, Sun Life will be able to take advantage of ICTA 1988 s.75 (which allows management expenses to be deducted and (if they exceed income) to be carried forward) subject to the provisions of s.76.

The question for the purposes of FA 1989 ss.88 and 89 is whether the operation of s.393 is brought into account by the phrase “profits computed in accordance with the provisions of the Taxes Act 1988 applicable to Case I of Schedule D”: see s.89(7). It is clear from ss.6, 8 and 9 that the computation of a life company’s income from its BLAGAB for the purposes of corporation tax involves at least a two-stage process. Income from its relevant activities falls to be calculated under the applicable Schedule and Cases and in accordance with these provisions before being aggregated to arrive at the company’s total profits: see s.9(3). The first part of this process of computation owes nothing to s.393 which is not concerned with the calculation of profit or loss in relation to receipts and outgoings in the relevant accounting period. Before s.393 can apply, the operation of s.9 must produce a trading loss in a preceding accounting period which is then available to be carried forward and set off against trading income in the succeeding accounting period: see s.393(1) and (8).

It is at this point that the arguments of Sun Life and HMRC diverge. Mr Goldberg submits that s.393 (like, for example, s.434A which also deals with the computation of losses under Case I and imposes limits on relief) affects the amount of Case I profits which is subject to corporation tax. It is therefore, he says, a provision of the 1988 Act relating or applicable to the computation of profits under Case I of Schedule D. He stresses that s.393(1) states in terms that it operates to reduce the company’s trading income for the period in question before that income falls to be included in the calculation of total profits under s.9(3). It forms an intermediate stage between the assessment of income and the computation of taxable profits. It is therefore to be contrasted with other reliefs (such as group relief under s.403 ICTA 1988) which operate post the aggregation of total profits and are allowable against profits of any description. Carry forward relief under s.393 can only reduce trading income from the same source and the Case I profits of that business cannot sensibly be taxed without regard to its existence. He drew my attention to the judgment of Sir Thomas Bingham MR in R v Commissioners of Inland Revenue ex p. Unilever Plc 68 TC 205 (which concerned a challenge by way of judicial review to the Revenue’s reliance on the statutory time limits for claims for relief under s.393) where he said (at page 228):

“The taxpayer's entitlement to deduct trading losses from other profits in the same year, although provided by statute, gives effect to a very basic principle. A tax regime which did not provide such an entitlement could scarcely be regarded as equitable. A right of set-off against earlier or later accounting periods is less fundamental. But a tax on a corporation's profit which did not permit account to be taken of trading loss would be offensive to ordinary notions of fiscal fairness.”

Sun Life’s argument is that there is nothing in the history or purpose of s.89 FA 1989 to suggest that the calculation of Case I profits should be carried out differently for the purpose of determining the rates of tax applicable to relevant profits under s.89 from the way it would be carried out for purposes of determining trading income for inclusion in a calculation of total profits under s.9 ICTA 1988.

Mr Ewart QC, on behalf of HMRC, contended that the purpose of s.88 FA 1989 was to identify in respect of a company’s BLAGAB or any other life assurance business the policyholder’s share of the relevant profits for the particular accounting period in question. The definition of “relevant profits” in s.88(3) allows for the deduction of expenses of management in accordance with ss.75 and 76 ICTA 1988 subject to the adjustments set out in s.76(1) but is essentially a computation of receipts and expenses arising in the relevant accounting period.

The identification of the policyholder’s share of this profit figure is carried out by the apportionment exercise under s.89. This involves the deduction from the “relevant profits” as defined of “the Case I profits of the company for the period” subject to a reduction (when applicable) of the Case I figure in accordance with s.89(2). Although the words “Case I profits” are perhaps neutral in themselves, Mr Ewart submits that, when read in the context of s.89(2) having regard to the purpose of the apportionment exercise, they point to the profits arising in that period and not to such profits after deduction of any carried forward losses. Although s.89(7) defines “Case I profits” as meaning “profits computed in accordance with the provisions of the Taxes Act 1988 applicable to Case I of Schedule D”, that definition has to be construed consistently and as one with the provisions of s.89(1) in which the defined phrase appears. It cannot therefore include losses brought forward from a different period.

In support of this construction Mr Ewart referred me to a passage from the speech of Lord Hoffmann in Taylor (HMIT) v MEPC Holdings Ltd [2003] UKHL 70 where the issue was the taxpayer company’s ability to surrender surplus charges on income as group relief under s.403 ICTA 1988. The decision turns on the wording of s.403 which is not germane to what I have to decide, but as part of his reasoning Lord Hoffmann explains the structure of the corporation tax legislation in a way which Mr Ewart says is consistent with his construction of the phrase “Case I profits”.

Beginning at para 11 of his speech, Lord Hoffmann analyses the various reliefs against the income element of profits chargeable to corporation tax:

“11.

The reliefs which may be surrendered under section 403 of the 1988 Act by way of group relief are all reliefs against corporation tax on the income element of profits. They are reliefs for trading losses (subsection (1)), capital allowances (subsection (3)) management expenses (subsection (4)) and charges on income (subsection (7)). The need for these reliefs arises from two features of the income tax. First, it is in theory an annual tax, imposed on the income arising within a single year. The charge to tax is contained in the annual Finance Act and expires with the relevant year of assessment. Secondly, the tax is imposed on income arising from the sources specified in the well known Schedules and computed according to the rules applicable to each source.

12.

The fact that the tax is computed annually means that a special provision is needed by way of relief to enable a trading loss in one year to be set off against profits in a subsequent year: see section 393 of the 1988 Act. Capital allowances are deductions allowed in order to encourage investment. A relief for management expenses is needed because the charge to tax on income arising from investments under Schedules A and F (rents and dividends) does not in itself provide for any deductions for the cost of managing the investments. But such a deduction by way of relief is allowed to investment companies (see section 75 of the 1988 Act). Finally, the computation of profits does not allow for the cost of the capital invested in a business but a relief is given for "charges on income" by way of interest and certain covenanted payments: section 338 of the 1988 Act.

13.

The mechanism by which a relief is given is not always the same. It may be simply a deduction from the overall tax which would otherwise be payable. Or it may be a deduction from the total profits. Or (as in the case of trading loss relief) it may be a deduction from the profits from a particular source, namely, the same trade in a subsequent year. Or it may be fed into the calculation of income from the source in question. This is what is done with certain capital allowances, which by section 144(2) of the Capital Allowances Act 1990 are given effect by being treated as trading expenses. This treatment may create a loss which can form the subject of group relief but the allowances are not in themselves capable of being surrendered. On the other hand, some capital allowances are given "by discharge or repayment of tax" and these can be the subject of group relief under section 403(3). The relief for management expenses disbursed by an investment company is given by deducting them in computing its total profits for the purposes of corporation tax (section 75(1) and (3) of the 1988 Act), but they can nevertheless be surrendered by way of group relief.

14.

Whatever the mechanism by which a relief is given effect, it is to be distinguished from deductions which fall to be made in computing the primary liability under the Schedules. For example, the trading profits which are charged as income under Schedule D, Case I are the revenue less the expenses. Section 74 of the 1988 Act restricts the amounts which may be deducted as expenses but the computation is otherwise made according to ordinary accounting principles. No one would describe the deduction of expenses as a relief. It is not a deduction from what would otherwise be taxable under the Schedule but part of the computation of the taxable amount.”

Mr Ewart relies on the distinction made in paragraph 14 between the calculation of trading profits and the nature of a relief properly so-called. The computation of Case I profits referred to in s.89(7) is a reference, he says, to the calculation of trading income less allowable expenses conducted under Case I of Schedule D in accordance with s.74 ICTA 1988. It does not extend to a further deduction from the profits so calculated of losses incurred in an earlier period by the application of s.393. In this respect the language used by s.89 is, he says, important. The phrase “Case I profits” needs to be distinguished from the references in s.393 to “trading income” which is much less precise and is the amount on which tax is finally levied once carried forward losses are taken into account and the net amount is aggregated with chargeable gains to arrive at the total profits figure under s.9(3) ICTA 1988.

Mr Ewart says that further support for this construction of “Case I profits” can be derived from its use in s.89(2) in relation to the deduction from the Case I profits of the shareholder’s share of franked investment income arising in the period. This is to be apportioned in accordance with s.89(3) by reference to a fraction (^A/_B) in which A is the “Case I profits of the company for the period in question” and B is an amount equal to the excess of the company’s relevant non-premium income and relevant gains over its relevant expenses and interest “for the period”.

It seems to be common ground that the denominator B is an entirely current year figure. In these circumstances, Mr Ewart contends that it would make no sense for the numerator to be a composite figure calculated by reference to carried forward losses when the purpose of the fraction is to calculate the shareholders’ share of franked investment income “arising in the period”: i.e. the relevant accounting period. The basis of the numerator and denominator should be the same.

The Special Commissioner took the view that s.393 did operate as part of the computation of Sun Life’s Case I profits within the meaning of s.89 FA 1989. He referred to s.393(1) where it speaks of trading losses being set off against future trading income “for the purposes of corporation tax”. These purposes include, he said:

“… the imposition of the rate (or of different rates) of corporation tax on a particular category of the profits of a company within the corporation tax charge. The FA 1989, section 88/section 89 regime applies to determine the rate of corporation tax applicable to a life assurance company's BLAGAB profits for a particular accounting period. Thus the FA 1989, section 88/section 89 regime fructifies one of the purposes of the corporation tax regime in general. And Section 89(7), even in its pre-FA 2003 form, requires those Case I profits to be computed by reference to brought forward losses.”

He then went on (in para 40) to consider the language of ss.88 and 89:

“Section 89(7) requires the notional Schedule D, Case I profits to be calculated "in accordance with the provisions of the Taxes Act 1988", of which "provisions" section 393 is self-evidently one. Thus as a simple matter of statutory construction, section 393 must apply to reduce the profits of a particular accounting period by the brought forward losses of prior years, for the purposes of FA 1989, section 89(1). While of course the calculation of these Schedule D, Case I profits is a step to make a further calculation (the policyholders' share of the BLAGAB profits for the accounting period in question), nothing in the terms of section 89(7) requires that the Schedule D, Case I profits be calculated any differently from how they would be calculated for the purpose of calculating profits actually charged to Schedule D, Case I. Quite the opposite. The Schedule D, Case I profits are to be calculated "in accordance with the provisions of the Taxes Act 1988…". These "provisions" include section 393. Put another way, the terms of FA 1989, section 89(7) are clear that the computation of Schedule D, Case I profits for the purpose of ascertaining the policyholders' share of BLAGAB profits is exactly the same computation which would be made to calculate a charge to corporation tax to Schedule D, Case I. ”

The Special Commissioner then compared his interpretation of the provisions of ss.88 and 89 with the way in which he considered they were intended to operate. He noted that the policy holders’ share of relevant profits is identified by means of the deduction of the Case I profit figure for the same accounting period and that the draftsman has therefore equated the amount of the relevant profits available for shareholders (and not therefore needed to meet liabilities to policy holders) as an amount equal to the Case I profit figure. His view was that the amount of the relevant profits available to be returned to shareholders is as much affected by accrued losses from an earlier accounting period as it is by the expenses incurred in that period:

“The draftsman distinguishes between the portion of a life assurance company's BLAGAB profits allocated to meet policyholders liabilities on the one hand and the amount available to shareholders on the other. And this latter amount is equated to an amount equal to what would have been the profits of the life assurance company had it made a computation for Schedule D, Case I purposes. There is no third category of BLAGAB profits relevant to the draftsman of FA 1989, section 88 and section 89. And in the context of a regime which equates a life assurance company's notional Schedule D, Case I profits to the amount available to its shareholders (in order to calculate the proportion of its BLAGAB profits allocated to its policyholders), the amount of a life assurance company's profits available to its shareholders is as equally affected by brought forward losses as current year losses. The receipts of the current accounting period available to shareholders is reduced not only by the expenses of the current accounting period but also the expenses of prior accounting periods. This is what is recognised by section 393(1). The receipts of a current accounting period cannot be said to be available to shareholders until those receipts exceed the expenses of the current and prior accounting periods. Thus the calculation of a current accounting period's profits by reference to the losses of prior accounting periods makes perfect sense in the context of using the profits, once calculated, to ascertain the amount of BLAGAB profits available to shareholders (and thereby determine the amount of BLAGAB profits allocated to meet liabilities to policyholders). This is the case whether section 393 is a deeming provision or a mere computational provision. Section 393 can be applied on its terms in the context of FA 1989, section 89 without any absurdity.”

The conclusion of the Special Commissioner that Case I profits as defined by s.89(7) FA 1989 include an allowance (when appropriate) for previous trading losses under the carried forward provisions of s.393 depends very much on his analysis of the purpose and operation of s.393 as set out in the passages from his decision quoted above. In particular, he clearly treated the phrase “in accordance with the provisions of the Tax Act 1988” as including s.393. This was, he said, self-evident.

I do not share that view. The quotation in his decision from s.89(7) omits the concluding words of the definition: “applicable to Case I of Schedule D”. Whilst it is beyond dispute that s.393 is a provision of ICTA 1988, it is much less clear that it is one of the provisions of the Act “applicable to Case I of Schedule D”.

This phrase can be found in a number of the provisions of ICTA 1988 dealing with the taxation of insurance companies. So in s.436(1) (dealing with pension business) it is provided that:

“436 Pension business: separate charge on profits

(1)

Subject to the provisions of this section, profits arising to an insurance company from … pension business shall be treated as income within Schedule D, and be chargeable under Case VI of that Schedule, and for that purpose-

(a)

that business shall be treated separately, and

(b)

subject to paragraph (a) above, and to subsection (3) below, the profits therefrom shall be computed in accordance with the provisions of this Act applicable to Case I of Schedule D.”

Section 436(3)(c) contains express provisions enabling losses incurred in previous accounting periods to be carried forward even though on Sun Life’s argument s.393 would be one of the provisions identified by s.436(1). In FA 1989 itself s.82(1) amends the effect of a computation of the profits of a life assurance business “in accordance with the provisions of [ICTA 1988] applicable to Case I of Schedule D” by adjusting the expenses and liabilities which may be taken into account. Section 83 (both for the 2002 accounting period and in its original form) made similar adjustments in respect of receipts. Both concentrate on the figures relevant to the current year of assessment.

One can find other examples of drafting based on an assumption that s.393 is not one of the provisions of ICTA 1988 “applicable to Case I of Schedule D” in the amendments made to the 1988 Act which post-date FA 1989. So in s.439B(1) (introduced by FA 1995) the profits of a life reinsurance business are to be computed in accordance with the provisions of ICTA 1988 “applicable to Case I of Schedule D” but, as in s.436, there is an express provision (in s.439B(3)) to allow losses incurred in earlier accounting periods to be carried forward.

More obvious still is s.76(2)-(2C) (introduced by FA 1996) which operate to limit or reduce the amount which can be deducted under s.75 by way of management expenses in the computation of the profits of a life assurance business on an I-E basis. So far as relevant, they provide:

“(2)

Where, in the case of any such company, the amount mentioned in paragraph (a) of subsection (2A) below exceeds for any accounting period the amount mentioned in paragraph (b) of that subsection, the amount which by virtue of this section is to be deductible by way of management expenses for that period shall be equal to the basic deduction for that period reduced by the amount of the excess.

(2A) Those amounts are –

(a)

the amount which would be the profits of the company’s life assurance business for that period if computed in accordance with the provisions applicable to Case I of Schedule D and adjusted in respect of losses; and

(b)

the amount (including any negative amount) produced by deducting the following aggregate amount from the company’s relevant income for that period from its life assurance business, that is to say, the aggregate of-

(i)

the basic deduction,

(ii)

any non-trading deficit on the company’s loan relationships which is produced for that period in relation to that business by a separate computation under paragraph 2 of Schedule 11 to the Finance Act 1996, and

(iii)

any amount which in pursuance of a claim under paragraph 4(3) of that Schedule is carried back to that period and (in accordance with paragraph 4(5) of that Schedule) applied in reducing profits of the company for that period, …

(iv)

…

(2B) For the purposes of subsection (2A) above a company’s relevant income for any accounting period from its life assurance business is the sum of the following-

(a)

the income and gains of the company’s life assurance business for that accounting period; and

(b)

the franked investment income of, and foreign income dividends arising to, the company which are referable to its basic life assurance and general annuity business.

(2C) The adjustment in respect of losses that is to be made for any accounting period under paragraph (a) of subsection (2A) is a deduction of the amount equal to the unused part of the sum which-

(a)

by reference to computations made in respect of the company’s life assurance business in accordance with the provisions applicable to Case I of Schedule D, and

(b)

disregarding section 434A(2),

would fall, in the case of the company, to be set off under section 393 against the company’s income for that period.”

It is clear from s.76(2C) that the draftsman did not regard the formula “provisions applicable to Case I of Schedule D” as embracing the operation of s.393.

Mr Goldberg submitted that it was wrong in principle to seek to interpret the provisions of FA 1989 by reference to what the draftsman of subsequent legislation may have thought that a particular phrase meant. I understand that concern and I propose therefore to concentrate on the provisions of ICTA 1988 which pre-date ss.88-89 FA 1989 together with the provisions of the 1989 Act which I have referred to.

But in the context of these provisions alone the reference to the provisions of ICTA 1988 applicable to Case I of Schedule D seems to me to be limited to the provisions of the 1988 Act under which a Case I calculation of trading income derived from the company’s current year receipts and expenses is made in accordance with the first stage of the process described in s.9(3). As mentioned earlier, that requires a company’s income to be computed for the purposes of corporation tax by reference to the Schedule and Cases and “in accordance with the provisions applicable to those Schedules and Cases”. This is essentially the language adopted by ss.88 and 89 FA 1989 for the purpose of determining the rates of tax applicable and it does not in my judgment include the provisions of s.393. Section 9(2) makes it clear that the provisions referred to are those of the Income Tax Acts and not Corporation Tax Act provisions.

Having regard to what seems to me to be the source and context of the language of s.89(7), s.393 is not a provision of the 1988 Act applicable to Case I. It is a corporation tax provision in the form of a relief which falls to be deducted from a company’s trading income once determined in accordance with Case I of Schedule D and any amendment of those provisions in relation to what constitutes the receipts and expenses of a life company’s business when assessed as the profits of a trade. Although, as the Special Commissioner observed, the ability to carry forward losses accrued in previous years is relevant to the company’s balance sheet and ultimately to the amount of its distributable reserves available for shareholders, it is not relevant to a calculation of profit in any particular accounting period. This is the distinction reflected in Lord Hoffmann’s speech in Taylor v MEPC Holdings PLC between the deduction of expenses from income on ordinary accounting principles and a deduction from the resulting profit figure by way of statutory relief of losses incurred by another group company or in a different accounting period. Without those express statutory reliefs losses of this kind would not be allowable on ordinary accounting principles in determining the amount which qualifies as the company’s trading income for that period for the purpose of being taxed as part of its total profits.

Although as Mr Goldberg pointed out, s.393 allows earlier trading losses to be carried forward and set off against the Case I calculation of profit for the later accounting period, this is simply the application of the relief to computed trading income which, because of the restricted nature of the relief, must precede the aggregation of that trading income with the profits derived from other businesses carried on by the taxpayer company. The relief does therefore operate by reducing trading income in the subsequent period and ultimately the amount of the company’s total profits, but it does not alter the profit figure for the accounting period in question derived from the calculation under Schedule D Case I as part of that Case I computation.

The decision of the Special Commissioner involves eliding what are, in my judgment, two quite separate stages in the process of assessing Sun Life to corporation tax and which (as explained above) are governed by different statutory regimes. To say that the effect of s.393 is to reduce the profits of a particular accounting period blurs this distinction and ignores the language and purpose of the relevant provisions. Nor is it helpful in my view to fasten on the reference in s.393 to the carried forward losses being set off for the purposes of corporation tax shorn of its context. The relief granted by s.393 clearly does operate to reduce trading income and therefore total profits in the later accounting period for the purpose of computing the company’s corporation tax liability. But it does not follow that s.393 applies to every other computational provision regardless of their language and the mechanism which they use.

This point is well illustrated in relation to ss.88-89 FA 1989 which, of course, provide a concession in respect of the profits of a BLAGAB or life assurance business by introducing a lower rate of taxation for the policy holders’ share of the relevant profits. The apportionment is effected by the deduction from the I-E figure for the relevant accounting period of the Case I profits of the company (as defined) for that period. The amount of the Case I profits may be subject to the further reduction provided by s.89(2) in respect of the shareholders’ share of franked investment income but, as explained earlier, this is determined by a fraction in which the same Case I profit figure forms the numerator.

Although there is provision for a limited carry forward of management expenses under ss.75 and 76 ICTA 1988 in relation to the calculation of profits on the I-E basis, this is not in any way equivalent to the exercise performed under s.393 and the Special Commissioner rightly in my view did not base his decision on s.393 being necessary to redress the balance as a result of the operation of s.75. He took the view that, in providing for the policy holders’ share of relevant profits to be determined by the deduction of the company’s Case I profits for the same period, the draftsman of FA 1989 was seeking to identify in the Case I profits figure the amount of net profit that would have been available for shareholders. Those profits, he reasoned, would not, however, become so available until accrued losses had been accounted for. It was therefore proper to include the set off under s.393 as part of the Case I profit computation.

Although, as I have already indicated, the calculation of distributable reserves would normally take account of accrued losses, this approach seems to me to ignore both the language of ss.88-89 and the relationship between s.393 and the specific Case I provisions and instead to rely on a theory about the methodology used in FA 1989. There is nothing in the legislation which clearly supports the view that the Case I profit figure employed in ss.88-89 was intended to be the net accrued profits available for shareholders having regard to previous losses as opposed to the Case I profits for that year. The apportionment of relevant profits under s.89(1) is intended to produce the policy holders’ share of relevant profits accruing in that period. On the face of it, it does so by deducting the company’s profits from the same business and for the same period when computed under Case I. Section 89(3) talks in terms of Case I profits for the period in question. This suggests to me that what is contemplated is the deduction of like from like in the sense that the profit figure should in the case of each computation represent the net profit figure based on receipts minus relevant expenses or liabilities occurring in that year. The application of s.393 to the computation of the Case I profit figure would distort this basis of comparison both in relation to the basic deduction under s.89(1) and in respect of the reduction of Case I profits under the formula contained in s.89(2). In each case accrued losses would be carried forward to reduce the Case I profit figure but without any equivalent adjustment for the I-E figure. This basis of apportionment would not reflect the proportion of Case I profits to relevant profits occurring in that year and is likely to be arbitrary in its result depending on the company’s earlier trading history. This is not in my view what is contemplated by ss.88 and 89 for the purpose of determining the rates of tax applicable to the policy holders’ share of relevant profits in any given accounting period.

I propose therefore to allow the cross-appeal in respect of the 2002 accounting period.

The definition of Case I profits in s.89(7) was amended by Schedule 33, paragraph 7 of FA 2003 as follows:

“7-(1)In section 89(7) of the Finance Act 1989 (which defines Case I profits for the purposes of determining the policy holders' share of relevant profits and the shareholders' share of income), in the definition of “Case I profits”, insert at the end “and adjusted in respect of losses in accordance with section 76(2C) and (2D) of the Taxes Act 1988;”.

(2)

Sub-paragraph (1) has effect for accounting periods beginning on or after 1st January 2003.

(3)

But section 76(2C) of the Taxes Act 1988, as it applies by virtue of sub-paragraph (1), has effect as if the reference in it to the amount which would fall, in the case of a company, to be set off under section 393 of that Act were to only so much of that amount as is attributable to losses incurred in the accounting period of the company in which 31st December 2002 is included or any later accounting period.”

Both sides accept (as they did before the Special Commissioner) that the 2003 legislation cannot be used as an aid to the construction of FA 1989. The basis of Sun Life’s appeal is that carried forward relief under s.393 was available under FA 1989 and the 2003 amendments to s.89(7) were not effective to remove it.

HMRC contend that whether or not s.393 relief formed part of the computation of Case I profits as defined in s.89(7) the provisions of Schedule 33, paragraph 7(3) FA 1993 make it clear that, for the 2003 accounting period and thereafter, the only losses which can be carried forward are those incurred in an accounting period which includes 31^st December 2002 or any later period: i.e. post-2001 losses. The losses which Sun Life wishes to carry forward were accrued before 2002 and are not therefore available for this purpose if paragraph 7(3) has the effect for which HMRC contend.

The Special Commissioner accepted Mr Ewart’s submission that the 2003 amendments were effective to exclude s.393 relief in respect of the 2003 accounting period even though (on his view) paragraph 7(1) was based on a mistaken assumption that the definition of Case I profits in s.89(7) did not already allow for such relief.

Mr Goldberg’s argument before me (which was not, I think, put in this form by counsel for Sun Life to the Special Commissioner) is that there is nothing in paragraph 7 which expressly removes the right to carry forward past losses under s.393. What paragraph 7(1) did was to leave the existing definition unaltered but to add to it an express reference to s.76(2C) and (2D). The practical (and it is said intended) effect of this was to apply to the Case I computation of losses necessary for the application of s.393 the disregard in respect of s.434(A)(2) contained in s.76(2C)(b). Section 434(A)(2) operates to reduce trading losses by the aggregate of charges on income and non-trading deficits in the relevant accounting period. Mr Goldberg submits that paragraph 7(1) was, in effect, a tidying up exercise designed to avoid a mismatch between the calculation of profits on the I-E basis and the calculation of losses on the application of s.434(A). The latter operated to exclude from the Case I losses expenses which were deductible in the I-E calculation. This discrepancy, he says, was removed by paragraph 7(1).

Even if right that does not, of course, assist Sun Life if it is prevented by paragraph 7(3) from utilising its pre-2002 losses in the 2003 accounting period. As to that, Mr Goldberg submits that paragraph 7(3) is dealing only with the way in which losses under the amended paragraph 7(1) formula are to be calculated. Without it the effect of paragraph 7(2) would be to disapply s.434(A)(2) in the case of all previous trading losses carried forward under s.393 in the 2003 accounting period and thereafter. Paragraph 7(3) limits this to losses incurred in 2002 and thereafter but it does not prevent or exclude the operation of s.393 (as part of the Case I profit computation under s.89(7)) in respect of pre-2002 losses. They continue but are not eligible for the more favourable treatment provided under paragraph 7(1).

It seems to me that, as a matter of literal construction, there is much to be said for Mr Goldberg’s argument if the correct view of s.89(7) is that it has always incorporated the operation of s.393. The amendments introduced by FA 2003 are not obviously directed to removing an existing carried forward relief or even to amending it. Paragraph 7(3) is framed in terms of limiting the potential of s.393 to apply to pre-2002 losses as a result of the introduction of s.76(2C) to the s.89(7) definition. It is not expressly directed to the application of s.393 on any other basis including the terms of the pre-2003 definition itself.

The most obvious reason for this which can be inferred from the structure of the 2003 changes is that the draftsman appears to have assumed (correctly as I have found) that s.393 did not already apply and I have much more doubt than the Special Commissioner as to whether the wording of paragraph 7 is sufficient in itself to remove or limit Sun Life’s right to carry forward its 2001 losses as part of the s.89 computation if, contrary to my earlier finding, the right to do so did already exist.

But, as mentioned earlier, Mr Goldberg accepts that if s.393 did not have any application to s.89 prior to the 2003 amendments then his arguments on paragraph 7 do not assist Sun Life. Paragraph 7(3) clearly does limit the operation of s.76(2A) to losses occurring after 2001 and if this is the only carry forward provision applicable to s.89 it has no application to the losses with which this appeal is concerned. It follows that this appeal will be dismissed.

I should mention for completeness that, in support of the Special Commissioner’s view that paragraph 7(3) was intended to exclude carried forward relief for pre-2002 losses whether or not s.89(7) already incorporated the provisions of s.393, Mr Ewart relied on the Explanatory Notes to Schedule 33 of the Finance Bill 2003 which he said explained the statutory position under s.89 as it then stood and the purpose of the amendments.

The extent to which Explanatory Notes may properly be taken into account as an aid to the interpretation of a statute was referred to by Lord Steyn in R(Westminster City Council) v National Asylum Service [2002] 1 WLR 2956 where, at paragraph 6 in his speech, he said this:

“If exceptionally there is found in Explanatory Notes a clear assurance by the executive to Parliament about the meaning of a clause, or the circumstances in which a power will or will not be used, that assurance may in principle be admitted against the executive in proceedings in which the executive places a contrary contention before a court. This reflects the actual decision in Pepper v Harthttp://www.bailii.org/uk/cases/UKHL/1992/3.html[1993] AC 593. What is impermissible is to treat the wishes and desires of the Government about the scope of the statutory language as reflecting the will of Parliament. The aims of the Government in respect of the meaning of clauses as revealed in Explanatory Notes cannot be attributed to Parliament. The object is to see what is the intention expressed by the words enacted.”

In the light of my decision about the meaning of s.89(7) as originally enacted, the Explanatory Notes to the 2003 Finance Bill add nothing. They are not admissible in relation to the interpretation of s.89(7) in its pre-2003 form and my decision about that is, on any view, conclusive of this appeal. In these circumstances, it has not been necessary for me to place any reliance upon the Notes in preparing this judgment.