PDF - Pinsent Masons

Business tax
www.taxation.co.uk
The money-go-round
In another look at an old tax case,
CONOR BRINDLEY explains the
continuing relevance of Spargo’s
Case to 21st century tax law.
T
he case of Re Harmony and Montague Tin and Cooper
Mining Co, Spargo’s Case (1873) 8 Ch App 407
established the principle that where A’s obligation to pay a
sum of money to B is set off against B’s obligation to pay an equal
sum of money to A, the setting-off of one payment obligation
against another is the same as the making of the appropriate cash
payments. The result is that neither party is required to make a
cash payment. In his judgment, Mallish LJ stated the principle
as follows:
“Nothing is clearer than that if parties account with
each other, and sums are stated to be due on one side, and
sums to an equal amount due on the other side on that
account, and those accounts settled by both parties, it is
exactly the same thing as if the sums due on both sides
had been paid. Indeed, it is a general rule of law, that in
every case where a transaction resolves itself with paying
money by A to B, and then handing it back again by B to A,
if the parties meet together and agree to set one demand
against the other, they need not go through the form and
ceremony of handing the money backwards and forwards.”
Focussing on the tax implications
Although the principle in Spargo’s Case clearly has wider
relevance other than in respect of the tax code, it is still often
relied on when analysing the tax consequences of a transaction
which involves one liability being set off against another. Its
continuing relevance is most probably best demonstrated by the
fact that it continues to be referred to in recent tax cases – see
Investment Trust Companies (in liquidation) v CRC [2012] STC
1150 and MJP Media Services Ltd v CRC [2011] STC 2290.
Perhaps the most useful consequence of the principle in
Spargo’s Case is that it can relieve a party of the obligation to obtain
short-term financing without altering the tax consequences.
This is because it is good authority that cash need not be “round
Key points
„„A mutual obligation between parties to pay monies.
„„Setting off can equate to payment.
„„This can dispense with the need for short-term finance.
12
tripped” where one liability is set against another. For example,
where A owes £100 to B and B owes £100 to A and both parties
agree that the mutual obligations may be set off against one
another, A does not need to pay £100 to B and B does not need to
pay £100 to A in order for the liabilities to be treated as discharged
in the same way as if actual cash payments had been made.
Debt for equity swaps
In the current economic environment, this relieving of an
obligation to raise short-term financing can be particularly
useful in the context of debt for equity swaps, where the debt
has become distressed. The general rule where debt is swapped
for equity is that where an unconnected debtor is released from
its obligation to repay a loan relationship debt in consideration
of the issue of shares, any profit recorded in the debtor’s
accounts in respect of the release will only escape a charge to
tax if CTA 2009, s 322 applies.
However, there are many factors which can prevent s 322
from applying. For example, the debt may not be accounted for
on an amortised cost basis. Where s 322 cannot apply, the debtor
company can still avoid a tax charge in respect of the “release” if
the creditor subscribes in cash for additional shares in the debtor
and the debtor uses the subscription proceeds to repay the debt
(in effect swapping the debt for equity). In such circumstances,
the principle in Spargo’s Case can be relied upon as authority that
cash need not pass from the creditor to the debtor and then back
to the creditor provided that the debtor and creditor agree that
the debtor’s obligation to repay the debt is to be set off against
the creditor’s obligation to pay the subscription proceeds. This
application of the principle in Spargo’s Case demonstrates that the
case is as relevant in the 21st century as it was in the 19th.
Conor Brindley is a senior associate at Pinsent Masons
LLP and can be contacted by email at: conor.brindley@
pinsentmasons.com.
TAXATION 10 January 2013