The Commissioners for HMRC v BlueCrest Capital Management (UK) LLP

HMRC appeals against the FTT’s Decision that portfolio members with capital allocations of $100m or more and desk heads fail the requirements of Condition B. HMRC contend that the mutual rights and duties of the members of the LLP did not give the portfolio members or desk heads significant influence over the affairs of the partnership. Grounds 1 to 4 concern the FTT’s construction of s 863C and Grounds 5 to 9 concern the FTT’s application of the legislation to the facts as found.

As the FTT Judge observed at [172], the salaried members legislation is aimed at circumstances where the relationship between an LLP and its members is more like an employment relationship and we accept the submission of Mr Vallat that its purpose is to distinguish between persons in the position of an employee and persons in the position of a partner in a traditional partnership, involving what is effectively a joint venture between the partners.

We were referred to Bates van Winkelhof v Clyde & Co. LLP [2012] EWCA Civ 1207 [2013] ICR 883 which was an appeal in which a question arose as to whether a partner could be a “worker” for the purposes of the Employment Rights Act 1996. After summarising the cases which show that the nature of a partnership is inconsistent with the status of an employee, Elias LJ identified why a partner could not be a worker, at [64]:

“…The very concept of employment presupposes as a matter of sociological fact a hierarchical relationship whereby the worker is to some extent at least subordinate to the employer. This is the characteristic which underpins the general understanding of what constitutes the essence of an employment relationship. Where the relationship is one of partners in a joint venture, that characteristic is absent. Each partner is agent for the other and is bound by the acts of the other and each partner is both severally and jointly liable for the liabilities of the partners. There is lacking the relationship of service and control which is inherent in both concepts of employee and [worker]. The partnership concept is the antithesis of subordination.”

We found the observations set out above useful in distinguishing between the position of a person who is an employee and a person who is in the position of a partner. However, we note that we are bound to accept the words of Lady Hale DPSC in Bates in the Supreme Court ([2014] UKSC 32) at [39]:

“There can be no substitute for applying the words of the statute to the facts of the individual case. There will be cases where that is not easy to do. But in my view they are not solved by adding some mystery ingredient of “subordination” to the concept of employee and worker. The experienced employment judges who have considered this problem have all recognised that there is no magic test other than the words of the statute themselves… While subordination may sometimes be an aid to distinguishing workers from other self-employed people, it is not a freestanding and universal characteristic of being a worker.”

It does not seem to us, as the Respondent argues, that the Supreme Court was overruling the basis of the distinction between employee and partner suggested by Elias LJ. Rather, what is said by Lady Hale serves as an invaluable reminder, which is highly relevant in the present case, that there “can be no substitute for applying the words of the statute to the individual case”. As Lady Hale also pointed out, there is not a single key to unlock the words of the statute in every case. So, while the concept of subordination may be useful in distinguishing between an employee and other categories of worker, it is not a single key which unlocks the words of the statute, either in Bates or in the present case.

In our view, the question to be asked, by reference to the wording of Condition B, is whether the mutual rights and duties of the members of the limited liability partnership, and of the partnership and its members, do not give the members significant influence over the affairs of the partnership. At first sight this requires focus upon the relevant agreement or agreements which set out the rights and duties of the members of the partnership. It has, however, been accepted by the Respondent in this case that it is permissible also to consider this question in terms of actual (de facto) influence, which may not necessarily derive from the LLP Agreement or any formal agreement governing the rights and duties of the members of BlueCrest.

HMRC aver that the FTT failed to consider adequately the legal basis for the distinction between employees and partners. Instead, HMRC submit, the FTT focussed on the role or function of a traditional partner to “find, mind and grind” (at [174]) (i.e. to find work, supervise others doing the work and to do the work themselves). HMRC submit that in doing so, the FTT identified the role of a partner in a traditional partnership by reference to what a partner does, rather than by an analysis of the nature of the relationship between traditional partners as a matter of law and failed to consider the statutory question of influence and, in particular, the degree of subordination found in an employment relationship but which is absent in a partnership (relying on Bates).

We find that ground 1 is misconceived. The Judge was not required to approach the question of which members of the Respondent had significant influence by the application of the observations of Elias LJ in Bates at [64] on the difference between an employee and a partner, or by the application of any other rigid test of this kind.

Rather, the Judge was required to apply the words of Condition B to the facts of this case, as he found them. The distinction between an employee and a traditional partner may be a useful tool in this exercise, but it does not determine the answer. The exercise of applying the words of Condition B to any particular case is an acutely fact sensitive exercise. It is perfectly possible to have employees of a particular LLP who exercise significant influence over the affairs of the partnership. It is also perfectly possible to have members of the partnership who exercise very little influence over the affairs of the partnership. It all depends upon the facts of the particular case.

In our view, and contrary to the Appellant’s submission, the Judge was correct to consider the question of significant influence by considering what the members of BlueCrest did within the partnership. We find the submission that, in doing so, the Judge lost sight of the difference between the role of an employee and the role of a traditional partner is both wrong and misconceived.

The “find, mind and grind” role, which the Judge correctly identified as the role of a traditional partner, was a useful tool in applying the words of Condition B to the facts of this case. There was however no one correct methodology for the application of the wording of Condition B to the facts of the present case, which the Judge was either right or wrong to follow. This is not how the test in Condition B works.

Mr Vallat submitted that “find, mind and grind” was a description of what partners in a traditional law firm do, and was a description of what anyone in a professional services firm is likely to be doing, regardless of the structure adopted by that firm. As such, so Mr Vallat submitted, it was not a function of being a partner that these things were done. The difficulty with this submission is the one which we have already identified. The Judge did not apply a test of “find, mind and grind”. The Judge applied the wording of Condition B to the facts, as he found them. In considering the question of significant influence, and as part of his analysis of that question, the Judge found it helpful to look at the role of partners in a traditional partnership and, in particular, their “find, mind and grind” role. There was no failure here to consider adequately the distinction between a traditional partner and an employee, let alone a failure adequately to consider the statutory question of significant influence. The Judge, as he was entitled to do, simply found it helpful to his analysis to consider the role of a partner in a traditional partnership.

HMRC submit that the FTT erred in its construction of “affairs”. It submits that the test of significant influence applies to the affairs of the LLP generally, looking at the business as a whole as opposed to one or more aspects. The FTT concluded, wrongly say HMRC, that the test is not “restricted to the affairs if the partnership generally but can be over any aspect of the affairs of the partnership” (at [178]). HMRC argue that the ordinary meaning of the words “affairs of the partnership” required the FTT to consider the affairs generally. The FTT’s approach erroneously wrote in the words “any aspect”.

We do not accept this submission. In our view, to do so would be to write additional words into Condition B. The legislation requires, if Condition B is to be failed, that the relevant member be given significant influence over the affairs of the partnership. The reference is not to the entirety of the affairs of the partnership. We consider that this would, in any event, be a highly unrealistic approach: save possibly for small partnerships, with only a couple of members, one would expect the members of a partnership to have individual areas of responsibility within the business of the partnership. Whether those individual areas of responsibility amount to significant influence over the affairs of the partnership is a fact specific inquiry.

It also seems to us that if the relevant significant influence has to be over the entirety of the affairs of the relevant partnership, this would be capable of producing strange results. In terms of examples, it is easy to think of persons within a partnership, in particular a large partnership, who might exercise very significant influence over the affairs of the partnership, while only being responsible for and involved in a part of the affairs of the partnership. Equally, and again particularly in the case of a large partnership, it is easy to think of particular parts of the business of the partnership which would qualify as part of the affairs of the partnership, but would not be sufficiently important to the business of the partnership to require the involvement of those with significant influence within the partnership. In the case, at least, of any medium sized or large LLP, there might be only one or two persons who could, on HMRC’s case, be said to exercise significant influence. It might only be the managing partner or senior partner who could be said to have significant influence over the entirety of the affairs of the partnership, and conceivably even that person might fail to satisfy a test of this kind.

Mr Vallat’s answer to this was that Condition B was only one of the conditions to be met before a partner could be taxed as an employee. It was therefore not necessarily surprising that a large number of partners in a partnership would not exercise significant influence, within the meaning of Condition B, and would therefore meet Condition B. The other Conditions also needed to be satisfied. In principle, we accept the point that Condition B is only one of the Conditions to be met. We also accept the point that if the wording of one of the Conditions did have the effect that almost every partner in a partnership would meet that Condition, this could be said to be justified on the basis that there are the other Conditions which must be met before a partner can be taxed as an employee. All this has its limits however. We do not think that an argument of this kind can justify reading into a Condition a restriction which is not present in the Condition. Nor do we think that an argument of this kind can justify a situation where, if Mr Vallat is right, one would expect almost every partner in a partnership of any size to meet Condition B, by reason of not having significant influence over the entirety of the affairs of the relevant partnership.

As a matter of construction of the wording of Condition B, and as a matter of the purpose behind this legislation, we consider that the bar is set too high if the significant influence in Condition B is read only to mean significant influence over the entirety of the affairs of the relevant partnership.

Accordingly, we reject this Ground.

HMRC submit that the FTT erred in its construction of “influence”. It submits that the influence required by the legislation is influence over the management of the partnership business and not financial influence or impact. The FTT concluded that “influence” was not so limited and could include financial influence or impact or an ongoing contribution “from an operational perspective” (at [173]). HMRC submit that the FTT erroneously approached the test from the perspective of what an individual might do or impact an individual might have, as opposed to focussing on the statutory word “influence”. A person with influence can, to a degree, shape the business, not merely contribute to it.

In arguing that the FTT’s approach failed to recognise that contributions to the success of the partnership can be equally true of partners and senior employees alike, the Appellant highlighted the Judge’s observations at [174] – [176]:

“The role of a partner in a traditional partnership is to “find, mind and grind”. In other words, a traditional partner is expected to go out and find work, supervise others to undertake it, and to do the work themselves. The extent of each depends on the role of the partner, his or her particular qualities, and the nature of the partnership. Some partners are better at getting work than doing it, others at doing and supervising it than getting it. But in my experience an individual who is made up to be a partner in a traditional partnership must demonstrate each of these qualities. These are not limited to making management decisions, but to contributing to the success of the partnership. In professional services firms it has always been (and in the current financial climate is certainly the case) crucial to attract top quality individuals and then spend time investing in those individuals, since by doing so, the intellectual capital of the partnership is enhanced. And it is, frankly, that intellectual capital which is sold by partners who are seeking to attract work from clients. Without developing that intellectual capital, the partnership would have a less certain future.

Furthermore, a partner’s role is to undertake the work which has been commissioned by a client, both individually and by supervising the team of individuals to whom that work has been delegated. That is management on a local basis, and is absolutely crucial to the success of the partnership. And in terms of risk management, supervision by the appropriate partner of work being done by the appropriate lead qualified and experienced individual is essential.

And so by doing the work and supervising the appropriate team to do the work, the partner is able to bill the client and thus contribute to the ongoing commercial activities of the partnership.”

Equating financial impact or operational contribution with influence, HMRC contend, results in an unworkable test which does not differentiate between the roles of employees and partners.

For the same reason as set out above in respect of Ground 2, we reject this argument. In our view, HMRC seek to import words into the statute and there is no warrant for demarcating particular types of activity as giving or not giving significant influence. The inquiry is a fact sensitive one. Responsibility for operational activities may give rise to significant influence. Financial performance and/or financial responsibility may give rise to significant influence. Managerial responsibility may give rise to significant influence. Again, this all depends upon the facts of the particular case.

In our view, to say, as HMRC do, that financial impact upon the business of the partnership cannot qualify as a source of significant influence is misconceived. Those with experience of working within or for a partnership will be aware that financial performance and/or financial responsibility usually equals “clout” in any partnership, or for that matter in any entity or organisation. The fact that this may not be so in every case simply highlights the fact sensitive nature of the inquiry required by Condition B, and the lack of realism in trying to demarcate what kind of activities can and cannot give rise to significant influence.

HMRC submit that the FTT erred in its construction of “significant” in failing to consider and/or apply the ordinary meaning of the term “significant” as a qualifier to the word “influence”. The FTT failed to set out its approach to the word “significant” in general terms, however the Judge’s comment at [194] that: “$300 million over 10 years is, to my mind, significant. It is significant in absolute terms. It certainly cannot be said to be insignificant” indicates that it considered the test to mean “not insignificant”. The FTT also appeared to consider that significance can be identified in absolute terms rather than in the context of the particular business.

HMRC contend that the term “significant” must appreciably add to the concept of having “influence” with the result that there are (at least) three categories of influence:

It is said by HMRC that the FTT conflated (ii) and (iii) leaving “significant” as a redundant qualifier. Furthermore, the term must also be understood in the context of the LLP in question.

We consider that it would be a mistake to try to put a gloss on the expression “significant influence”, either by imposing a tripartite distinction between insignificant influence, influence and significant influence or by trying to use the employee/partner distinction as a key to unlock the meaning of significant influence, or by any other means of construction.

There is no one size fits all approach to answering the Condition B question. Whether there is significant influence in the case of any individual member of a partnership depends upon the facts of the particular case. The present case is not a case where guidance is required for future cases, because there was no key issue of principle or construction at stake. What was at stake before the Judge, in this context, was whether the members of the Respondent met or failed Condition B, on the evidence before him.

We did not find HMRC’s reliance on HMRC v Pendragon [2015] UKSC 37 [2015] 1 WLR 2838 assisted. Mr Vallat highlighted the function of the Upper Tribunal as ensuring that the FTT adopts a consistent approach to the determination of questions of principle. However, the present case bears no relation to Pendragon and we see no comparable issues with those considered by Lord Carnwath JSC at [47]-[51].

We observe, on the meaning of Condition B generally:

We do not accept that the Judge made an error of construction in his application of the test of significant influence. The Judge clearly had in mind the need to find significant influence if Condition B was to be failed. The Judge’s specific consideration of Condition B, starting at [168] and continuing through to [207] is littered with references to significant influence.

The futility of trying to argue that the Judge applied the wrong test is demonstrated by [194], which is worth setting out in full:

“In my judgment, each individual portfolio manager with a capital allocation of $100 million does have significant influence over the affairs of the partnership. I say this from both a quantitative and qualitative perspective. As regards the former, and taking Mr Moore as an example, $300 million over 10 years is, to my mind, significant. It is significant in absolute terms. It certainly cannot be said to be insignificant. I think the same sort of level of overall returns will have been demonstrated by those portfolio managers with capital allocations of $100 million. They will have made a significant impact on the financial performance of the appellant. From a qualitative point of view, as I have already said, those portfolio managers who were made up to be members of the LLP, and thus in the same position as a partner in a traditional partnership, would have already demonstrated the personal managerial and operational qualities to justify that elevation, and that they were capable of performing the tripartite role of a partner, namely generating work, doing the work, and, if necessary, supervising work. These roles are absolutely fundamental to the core activity of the subinvestment manager, namely to maximise its sub-investment fees, and the evidence shows that these individual portfolio managers demonstrated “managerial clout” in the discussions with other portfolio managers concerning managerial and operational issues which, if necessary, were then ratified by the Board or UK ExCo. Each such individual’s view was of significance, as was their influence.”

Mr Vallat tried to suggest that the Judge had gone wrong in his reference to significance in absolute terms, and in his reference to influence which could not be said to be insignificant. However, [194] has to be read as a whole, and in context. On our reading, it is clear that the Judge was not saying that the fact of a person generating $300 million over ten years would equate to significant influence in all cases. He was simply observing, as was the case, that this was a significant sum of money. It is equally clear that the Judge was not misunderstanding what was meant by significant influence in his reference to $300 million not being insignificant. He was simply reiterating that $300 million was a significant sum of money, which is a perfectly reasonable observation.

The difficulties with Ground 4, and, we should add, with all those Grounds which seek to accuse the Judge of having gone wrong in his construction of Condition B are well illustrated by reading [194] in full. In particular, the last two sentences pose a significant problem for the Appellant for the following reason: Mr Vallat accepted that what one was looking for, in terms of significant influence, was “managerial clout”. Given that the Judge used just this phrase in considering from a “qualitative point of view” on the evidence before him whether the portfolio managers exercised significant influence over the affairs of BlueCrest, it becomes extremely difficult to argue that the Judge misdirected himself in considering the question of who had significant influence and we reject this submission.

HMRC argue that the FTT failed to appreciate that any significant influence must ultimately derive from the LLP Agreement and failed to properly take into account the terms of that Agreement which left little room for the portfolio managers (and all members beyond the Board) to exercise influence over the affairs of the partnership.

HMRC highlight specific extracts from the LLP Agreement in support of its argument, for example Clause 14.1 which provides that the Board had responsibility for day-to-day management and control of the business and the affairs of the Partnership. It argues that although there may be circumstances in which an individual who does not hold a formal role in the management of the business may, as a matter of fact, wield considerable influence – for instance there can be no doubt that Mr Platt had significant influence above and beyond any formal role – the facts of the present appeal do not demonstrate that this was the case for portfolio managers, either individually or collectively.

It is correct to say that the focus of Condition B is on whether the mutual rights and duties of the members of the relevant partnership give an individual member significant influence over the affairs of the partnership. It was common ground in the present case that the Judge was entitled to consider the actual position and the inquiry was not restricted to the terms of the LLP Agreement.

This position was recorded by the Judge, at [188] (emphasis added):

“Both parties accept that significant influence does not need to be exercised through a formal constitutional procedure, but requires a realistic examination of the facts. In the context of this appellant, the investment and operational decisions made by the portfolio managers demonstrate that they have influence over the affairs of the partnership notwithstanding that the portfolio managers themselves may not sit on any of the UK committees, the members of the Board, or are members of UK ExCo.”

This remained the position in this hearing. Mr Vallat accepted that de facto influence was capable of qualifying as significant influence, within the meaning of Condition B.

Although this is, in our view, sufficient to dispose of Ground 5, the Judge in fact considered the evidence in significant detail, by reference to the LLP Agreement and the position on the ground, and came to the conclusion that the portfolio managers each exercised significant influence over the affairs of BlueCrest. It is clear that the LLP Agreement was not ignored, but the evidence of what had happened on the ground, in terms of who exercised significant influence, proved decisive in the decision of the Judge in relation to the portfolio managers. We note that the Judge undertook the same exercise in respect of the non-portfolio managers, and decided that they did meet Condition B. Accordingly, this Ground must fail.

HMRC submit that the FTT was wrong to apply the analogy with a traditional professional services firm in the way that it did, in particular referring to the role of a partner as being to “find, mind and grind” at [174]. To the extent that such an analogy is relevant, the portfolio managers were limited to doing the work as they did not need to find work (the client was the Fund) nor did they, in most cases, need to supervise others.

We find that this Ground, in common with the remainder of the Appeal, does not respect the terms of the Decision. The reference to “find, mind and grind” is located in that section of the Decision where the Judge considered the argument of the Appellant that significant influence was limited to managerial influence. That section of the Decision contains part of the reasoning pursuant to which the Judge, quite correctly, rejected this argument of the Appellant. The Judge then proceeded, at [178], to reject the Appellant’s argument that significant influence over the affairs of a partnership was restricted to significant influence over the affairs of the partnership generally. Having dealt with that argument, the Judge then proceeded to his lengthy and careful analysis of the evidence. Quite correctly, the Judge did not regard that analysis as depending upon his ability to find each of “find, mind and grind” on the part of each portfolio manager.

This Ground, in our view, attempts to force the test of Condition B into an artificial straitjacket and we prefer the submission by Ms Hardy that the question is a multi-factorial one, which requires a careful analysis of all aspects of the workings of the relevant partnership. We therefore reject this Ground.

HMRC submit that the FTT was wrong to conclude that the relevant portfolio managers had “managerial clout”. The FTT conflated managerial and operational issues and its conclusions are inconsistent with the evidence of the witnesses (relying on Edwards v Bairstow).

For much the same reason as Ground 3, this Ground must fail. There is nothing in the wording of Condition B which restricts the types of activity or sources of influence within a partnership which can be considered for the purposes of deciding whether an individual meets or fails Condition B.

At [194] the Judge found on the evidence that the portfolio managers had demonstrated managerial clout. On HMRC’s own case, this was the significant influence that the statute required and the very thing which the Judge was supposed to be looking for. We cannot see how it can be said that the Judge went wrong or misdirected himself, unless it was the case that the evidence did not exist to support this finding.

There is a high threshold for a successful Edwards v Bairstow challenge. The difficulty for HMRC is that we were taken to a few selected extracts from cross-examination before the FTT which, Mr Vallat submits, demonstrate that the Judge reached a finding that was not open to him.

As set out above at paragraph [65], the witness evidence was heard over two and a half days, in addition to the substantial volume of documentary evidence which was considered by the Judge. The limited extracts to which we were referred are, in our view, an example of “island hopping”, as warned against by Lewison LJ in Fage. In those circumstances, we are in no position to conclude that the Judge was wrong in his findings on managerial clout. The Judge heard all the evidence. We have not. We have been taken to a few selected extracts from the cross-examination. The futility of the process was illustrated by the fact that Ms Hardy took us to her own extracts from the evidence, which supported the Judge’s findings of managerial clout.Without being taken through all the same material at this hearing, we consider that we are in no position to interfere with findings of fact made by the Judge. We consider that this Ground falls far short of demonstrating an error of law on the basis of Edwards v Bairstow and we have no hesitation in rejecting it.

We also note that HMRC appeared to us to refer to the evidence before the Judge in a manner analogous to reliance on pleadings, whereby the HMRC’s extracts from the evidence must be taken as decisive, unless challenged as to their effect by BlueCrest. As it happens, BlueCrest did make its own references to the evidence below which, unsurprisingly, made it clear that we would have been wrong to accept HMRC’s argument that the Judge made irrational findings of fact on the question of managerial clout. Even if, however, BlueCrest had not referred us to other extracts from the cross-examination, we do not accept that we were bound to accept HMRC’s extracts as comprising the totality of the relevant evidence on the question of whether the portfolio managers had managerial clout.

Finally, in relation to this Ground we were invited by Mr Vallat, on the basis of Pendragon, to give some indication as to how the FTT should approach the weighing exercise in relation to the question of significant influence. For the reasons which we have set out in our analysis of Ground 4, we do not regard it as either necessary or appropriate to take this step.

HMRC submit that the FTT’s findings in relation to “involvement” in operational decisions were not sufficient to demonstrate significant influence of the type required by Condition B. The operational activities identified by the FTT were:

HMRC submit that the evidence submitted by the Respondent did not meet the burden of proof in demonstrating that any operational contribution by each portfolio manager was significant.

We consider that this assertion is no more than an attempt to re-argue the evidential case which was before the Judge. The Judge was satisfied, on the evidence before him, that the portfolio managers did have significant influence over the affairs of the Respondent. For the reasons set out at [125] above, we consider that HMRC’s exercise of “island hopping” through selected extracts from the evidence before the FTT provides no basis for interfering with the Judge’s conclusions. The Judge heard and read all of the evidence and we do not consider that we are in any position to conclude that the Judge erred in his findings, which were based on a careful and thorough analysis of the evidence. The futility of this process was, again, illustrated by the fact that Ms Hardy took us to her own extracts from the evidence, which supported the Judge’s findings of significant influence.

In so far as this Ground relies upon findings made in the Decision, HMRC contends that the Judge made findings of activities in which employees at various levels of seniority might be involved. In our view, the answer to this is twofold.

First, the Judge made his findings in relation to the portfolio managers on the basis of all the evidence which he received and heard, which is reviewed and analysed at [168] to [195] of the Decision. The Judge then turned to the position of non-portfolio managers, at [196]. The Judge’s analysis took all the evidence and all his findings into account. The Judge’s reasoning was not based simply upon the paragraphs relied upon by the Appellant for the purposes of Ground 8. An example of this is [190], in which the Judge dealt with the submission that operational activities were insufficient to demonstrate significant influence:

“Mr Vallat suggests that in undertaking the operational activities mentioned above, they were doing no more than what was required of them in their role as portfolio managers, and to demonstrate significant influence, they need to do more. I can see no principled justification for this submission. I bear in mind that it is HMRC’s view that the salaried member rules are intended to apply to members who are more like employees than partners in a traditional partnership. And to my mind the activities undertaken by the portfolio managers are directly analogous to those activities carried out by partners in a traditional partnership. They cultivate existing client relationships with their counterparties; they generate new work either by new product lines or tinkering with existing product lines; they undertake investment activities themselves; and, for those where there is a joint book, they actually conduct joint investment activities with junior members of staff. The evidence also shows that they disseminate their experience to junior members of staff, something which is fundamental to the role of a partner in a traditional partnership. So by undertaking their core role, they are acting as a partner would in a traditional partnership.”

In addition to rejecting this argument, so far as it was an argument based on the construction of Condition B, the Judge also made a series of findings in relation to the activities carried out by portfolio managers, which he considered “directly analogous to those activities carried out by the partners in a traditional partnership”. We do not find any error of law in this approach, particularly given the stress laid by HMRC on the distinction between an employee and a partner in a traditional partnership.

Second, HMRC’s argument assumes that any activity in which an employee might be involved cannot qualify as an activity to be taken into account when considering the question of significant influence. In our view, this is plainly wrong. The activities to be considered, when answering the Condition B question, are not demarcated or ring fenced in this way. The fact that a particular activity may be one normally carried out by an employee may be a factor which assists in determining whether a particular activity constitutes a source of significant influence within a partnership, but all depends upon the facts of the particular case.

HMRC assert that the FTT was wrong to conclude that a capital allocation of $100 million was sufficient evidence to demonstrate significant influence. HMRC contend that financial impact is not, on its own, sufficient to demonstrate “influence” of the type required by Condition B. Furthermore, to the extent that it is relevant, the Judge was wrong to apply a threshold of $100 million in capital allocation to the determination of whether significant influence had been demonstrated.

The difficulty for HMRC is that the Judge did not rely on financial impact alone. The Judge decided that the portfolio managers exercise significant influence for all the reasons set out in his discussion at [168]-[195]. Essentially, the Judge found that the activities carried out by portfolio managers with a capital allocation of $100 million or more did mean that they exercised significant influence (see [194]). Indeed, in the case of desk heads the Judge found that they exercised significant influence without making express reference to a specific level of capital allocation (at [195]). So far as the Judge did rely, as part of his reasoning, on capital allocation, we consider that this was a matter for the Judge, who heard and read all of the evidence.

The problem with Ground 9 and, it may be said with the Appeal generally, are well encapsulated in the following assertions in paragraph [111] of the Appellant’s skeleton argument:

“The level of capital allocation does not demonstrate that the individual has influence (significant or otherwise) akin to that of a typical partner in a traditional partnership, nor is it apparent why being on one side or the other of the $100m capital allocation ‘threshold’ should demarcate significant influence, rather than demonstrating the level of skill at investment management.”

These assertions treat the Judge’s decision on portfolio managers as depending upon a demarcation line of a $100 million capital allocation. This misrepresents the Judge’s reasoning in relation to the influence exercised by portfolio managers, which was based upon all his findings as to the activities of portfolio managers. In the case of those portfolio managers with capital allocations of $100 million or more, the Judge was satisfied that their activities within the Respondent constituted significant influence upon the affairs of the Partnership. In our view, this was pre-eminently a matter for the Judge. Accordingly, the question of why being on one side of the line rather than the other should demarcate significant influence is a false question. It misrepresents the reasoning of the Judge. The actual reasons why the Judge thought that portfolio managers with capital allocations of $100 million or more did exercise significant influence are to be found in the Decision, and are summarised in [194]. They do not depend simply on a crude dividing line of $100 million of capital allocation.

Ground 9 also accuses the Judge of having erred in referring to returns made by portfolio managers as returns for the Respondent, as opposed to the Fund (as defined in the Decision). It is not clear from the Paragraphs referred to by the Appellant in this context ([95] and [194]) that the Judge did make this mistake.

In summary, we reject the arguments of HMRC in support of Ground 9.

Ground 1 avers that the Judge erred in his construction of and approach to Condition A. The main thrust of the Respondent’s argument is that the Judge set the bar too high, in terms of the link required between the remuneration paid to each member of the Respondent and the profits or losses of the Respondent. The wording of Paragraph (b) and Paragraph (c) within “step 2” of section 863B(3) is widely expressed, and is wide enough, so it is argued, to include a situation where the link exists because the relevant remuneration is limited by the amounts of profits or losses made by the relevant partnership.

The Respondent argues that the FTT was wrong to find as a matter of law that: “the mechanism [for remunerating individual members] does not, in terms, entitle a portfolio manager [or any other member] to share in a proportion of the overall partnership profits” ([140]). Furthermore, the FTT was wrong to conclude that the possibility of risks or losses is not “relevant to the basis on which the profits of the partnership are distributed between its members” (at [141]).

We consider that this is essentially a question of construction which should not be considered in the abstract, but rather it is better considered by reference to the circumstances of the present case.

The only contractual link between discretionary allocations and profits or losses of the Respondent to which Ms Hardy was able to direct us was Clause 10.8. All that Clause 10.8 does, in very crude terms, is to give the Respondent the ability to limit discretionary allocations, by clawing back Discretionary Drawings, where losses are incurred by the Respondent.

It is clear from the Judge’s findings that discretionary allocations were not tied to the overall profits or losses of the partnership;they were the subject of independent calculation as stated at [138] and [140]:

“I agree with Mrs Hardy when she says that there is no need for the individual members’ remuneration to “track” the appellant’s overall profits and losses. By this I think she means that there is no need for the profits of the remuneration of the individual members to increase if the overall profits and losses of the partnership increase. One of Mr Vallat’s points was that the evidence clearly shows (which it does) that the individual portfolio managers might make losses on their individual profit and loss accounts even if the appellant made an overall profit and even if other portfolio managers made a profit on their individual profit and loss accounts. But having agreed with her on this point, I also agree with Mr Vallat that the appellant must show that there is a link between an individual’s remuneration on the one hand and the overall profits and losses on the other. And that link cannot simply be that if there were fewer profits available for distribution, an individual member would receive a lesser amount.

…

But the difficulty faced by Mrs Hardy is that, whilst it is clear that the bonus of the portfolio managers varies, it varies by reference to their own personal performance. And although the initial bonus might then abate when the profits of the appellant are finally determined, and the overall total of those initial allocations is found to be equal to or greater than the accounting profit, she has not made out that the allocations are, essentially, variable and are computed by reference to, that overall profit. They are computed by reference to individual performance. There is no evidence that I have seen that the mechanism of computing the portfolio manager’s bonus is intended to establish the share of the overall profits of the partnership to which the individual is entitled any more than computing an employee’s bonus. Clearly there must be accounting profits to distribute, and equally clearly, if there are insufficient accounting profits to satisfy the bonuses, they will be abated in some way. But the mechanism does not, in terms, entitle a portfolio manager to share in a proportion of the overall partnership profits. On the one hand, there is the individual’s profit and loss account. On the other, there are the accounting profits of the partnership. But it seems to me that the first is calculated without reference to the variability of the second for the reasons I have given above.”

Profits or losses only came into the calculation by way of the obvious point that discretionary allocations, once calculated, could only be paid to the extent that there were profits out of which they could be paid as noted by the Judge at [152]:

“…. It goes to the point made above, namely that if there are insufficient profits to fulfil the portfolio managers’ preliminary allocations, then those allocations must reduce. You cannot dish out more than the accounting profits dictate.”

The link found by the Judge was therefore a practical link. Discretionary allocations, once calculated, could only be paid to the extent that there were profits out of which they were paid. This link might also be said to be a contractual link, given the terms of Clause 10.8, but this contractual link did no more than reflect the practical link.

The Judge concluded that a link of this kind was insufficient to place the discretionary allocations outside the terms of either Paragraph (b) or Paragraph (c) of s 863B.

In our view, the actual question to be answered, in relation to Condition A, is whether it is reasonable to expect that at least 80% of the relevant remuneration payable will be disguised salary; meaning (in the present case) remuneration falling within Paragraph (b) or Paragraph (c). The Condition A question is therefore concerned with what it is reasonable to expect. This question has to be answered at the relevant time, as defined in Section 863B(3). As we understood the submissions of the parties, this meant, in the present case, looking at the position on a year-by-year basis.

Given the link found by the Judge, the question of what it was reasonable to expect fell to be considered at two levels:

The Judge made clear findings on the question at (i) above. The Judge decided that the link which existed was the obvious one that the amount of a discretionary allocation, once calculated, might be affected by there being insufficient profits to pay that discretionary allocation. The Judge did not think that a link of this kind was sufficient to take the discretionary allocations outside Paragraph (b) or Paragraph (c).

The Judge’s findings on the question at (ii) above are encapsulated within the same reasoning. The wording of Paragraph (b) and Paragraph (c) is open in its terms. Paragraph (b) requires that variation be without reference to the overall amount of profits and losses. This, it can be said, clearly requires something more than the possibility of there being insufficient profits to pay discretionary allocations. The Judge made a clear finding, at [140], that discretionary allocations were calculated without reference to the variability of profits. Profits could only become relevant, at a second or separate stage, if it turned out that they were insufficient to pay the discretionary allocations already calculated.

We consider that the wording of Paragraph (b) is not wide enough to encompass an indirect relationship of this kind; comprising the two stages found by the Judge set out above. What the legislation is seeking to do, in both Paragraph (b) and Paragraph (c), is to isolate payments of the kind one would find in a traditional partnership, where the partners share in profits and losses. There may be many ways of organising the sharing process, but the essential point is that each partner receives a share of the profits or shoulders a share of the losses. The partners’ remuneration is thus tied to whatever amount of profits is realised, or whatever amount of losses is incurred. The FTT’s finding in [140], that discretionary allocations were calculated without reference to profits or losses, amounts to variation without reference to the overall amount of profits and losses, as referred to in Paragraph (b).

The wording of Paragraph (c) is more open by inclusion of the phrase: “not, in practice, affected by”. It seems to us clear that this wording was intended to encompass a less direct relationship between remuneration and overall profits and losses than that contemplated by Paragraph (b), otherwise Paragraph (c) would serve no useful purpose.

Returning to the Judge’s finding at [140], if discretionary allocations were set without reference to overall profits and losses, we cannot see that discretionary allocations: “were, in practice, affected” by the overall amount of profits and losses. The question of whether there were going to be sufficient funds to pay the discretionary allocations, once set, is a separate question, and not one affecting the amount of the discretionary allocations.

Even if we are wrong in construing the statutory requirement in this way, we note that the burden rested with the Respondent to demonstrate to the Judge that it was reasonable to expect that the discretionary allocations calculated for the relevant years would be affected by a reduction in profits or the incurring of losses. Although we consider that the Decision could have been clearer in this respect, we are satisfied that the Judge gave adequate reasoning in the Decision to constitute sufficient findings that the Respondent failed to discharge this burden, both for portfolio managers (see [143], [144] – [146], [154] and [156] and non-portfolio managers (see [160]-[162]).

In summary, we consider that the threshold test in Paragraph (b) and in Paragraph (c) is set fairly widely. In the case of the discretionary allocations however, the Respondent was unable to show the link required to take the discretionary allocations outside Paragraph (b) or Paragraph (c), either as a matter of construction or on the evidence.

Ground 2, in summary, is that the Judge came to a decision on Condition A which was irrational and which no reasonable tribunal could have come to on the evidence. The FTT did not apply the evidence of the witnesses, for example regarding the different processes for remuneration.

As we noted earlier, there is a high threshold to meet in an Edwards v Bairstow appeal.

We do not think it is necessary to set out each criticism particularised in the Respondent’s Grounds of Appeal. We consider that the Respondent, in reality, seeks to do the same as the Appellant in relation to Grounds 5-9 of the Appeal; namely to re-argue the evidential case before the Judge, by reference to selected extracts from the cross-examination. This was another exercise in “island hopping”. The Judge heard all the evidence, and made the findings based upon that evidence. We have considered each of the extracts relied upon by the Respondent and we conclude that the Judge was fully entitled on the material before him to make the factual findings that he did. The extracts highlighted by the Respondent ignore the totality of the evidence and there are no grounds for us to interfere with the Judge’s findings.

We observe that the Appeal and, albeit to a lesser extent, the Cross-Appeal both proceeded on the implicit assumption that there was no difficulty in our delving into and overturning detailed findings of fact made by the Judge, in a lengthy and carefully reasoned decision, following half a day of opening, two and a half days of oral evidence, not far short of four days of closing submissions, and scrutiny of the contents of a trial bundle running to thousands of pages of documents.

The reality was, and is that, in the absence of the Judge making some mistake in his construction of and approach to the Condition B question and/or the Condition A question, it was always going to be a difficult task to persuade this tribunal, as an appeal tribunal, that the Judge had made an error in his findings of fact of the kind which would permit this tribunal to interfere with those findings. This was borne out in the relevant parts of the oral argument, which illustrated the wisdom of what was said by Lewison LJ in Fage.

We consider it appropriate to return to the words of Lady Hale DPSC in Bates in the Supreme Court at [39], and to note that, in the present case, the Judge did what he was required to do, namely applying the words of the statute to the facts of this case, as he found them to be.

We have set out above our reasons for concluding why the Appeal and Cross-Appeal should be dismissed. Returning to the FTT’s Decision, having carefully analysed the evidence, both oral and documentary, the Judge made extensive findings of fact. With the purpose of the legislation in mind, the Judge construed the legislation and applied the Conditions in issue to the facts as found. The Judge’s reasoning on Condition A was summarised at [161] and [162]

“The evidence does not demonstrate a link between the variable remuneration on the one hand and the profits of the partnership on the other. Whilst I appreciate, as does Mr Vallat, that the variable remuneration calculation for non-portfolio managers takes into account the financial performance and future financial stability of the appellant, that is very different from demonstrating a link to that calculation and the appellant’s profits.

There is no evidence that either during the iterative process of establishing the preliminary discretionary allocation, nor during the process of the Board approving it and thus making it final, that the profits of the appellant were taken into account, other than to the extent that the Board was fettered by the accounting profits which had been reported for the relevant financial year. There is no evidence that the discretionary allocations for the non-portfolio managers were capable of variation by reference to the profits of the LLP.”

The Judge’s conclusion on Condition B is summarised at [194] in relation to portfolio managers (above at [104]), [206] and [207] (in relation to non-portfolio managers):

“As I have set out above, it is my view that financial contribution is a factor in wielding significant influence, and that is the submission made by Mrs Hardy. And whilst it is possible in empirical terms to identify the financial contributions made by the portfolio managers, I am not in the position to come to a conclusion regarding the financial contributions of those supplying the back-office services, since I simply have no evidence before me of those financial contributions. I do not know, for example, the amount generated by the head of legal, or the legal team. Nor by the tax department, nor by the IT department. My understanding is that, for transfer pricing purposes, they were cross charged on an arm’s length basis using an appropriate transfer pricing methodology. But I have no evidence of the precise amounts of cross charges which are attributable to the individuals or departments.

I am therefore unable to determine what financial or other contributions were made by the non-portfolio managers to the provision of the external services provided by the appellant to other members of the Group and which comprise a significant element of its overall activities. I am therefore forced to the conclusion that no non-portfolio manager exercised significant influence over those affairs of the appellant.”

In conclusion, the Judge decided that:

We consider that the FTT made findings of fact that it was perfectly entitled to make and that there was no error of law in its approach to and construction of the legislation, or in its application of the legislation to the facts of the present case, as found by the FTT.

For the reasons set out above, our conclusion is as follows: