Tilley v Wales (Inspector of Taxes)
[1943] A.C. 386(Decision by: Viscount Simon LC (including background))
Between: Tilley - Appellant
And: Wales (Inspector of Taxes) - Respondent
Judges:
Viscount Simon LCLord Atkin
Lord Thankerton
Lord Russell of Killowen
Lord Porter
Subject References:
REVENUE
INCOME TAX
ASSESSMENT
Managing director
Agreement releasing pension rights and accepting reduced salary for the future
Lump sum consideration
Legislative References:
Income Tax Act, 1918 (8 & 9 Geo. 5, c. 40) - sch. E
Judgment date: 11 February 1943
Decision by:
Viscount Simon LC (including background)
Under an agreement entered into in 1937 the appellant was employed by a company as managing director at a salary of 6000l. a year with a right on his ceasing to be employed by the company to receive a pension of 4000l. a year for ten years. In 1938 a new agreement was entered into under which he released the company from the obligation to pay this pension and agreed to serve as managing director at a reduced salary of 2000l. a year. The company, in consideration of this, agreed to pay him the sum of 40,000l. by two equal instalments payable on April 6, 1938, and April 6, 1939:-
Held, that so much of the sum of 40,000l. as related to commutation of pension was not taxable under sch. E, as being in the nature of a capital payment substituted for a series of recurrent and periodic sums which partook of the nature of income, but that so much as was paid in compromise of the reduction of salary was so taxable, as being within the charge on profits from the office of director.
Decision of the Court of Appeal (sub nom. Wales (Inspector of Taxes) v. Tilley) [1942] 2 K.B. 169 , varied.
Appeal from the Court of Appeal.
The facts, stated by Viscount Simon L.C., were as follows:
Three agreements were made at different dates between Stevenson and Howell, Ld., carrying on the business of manufacturing chemists, and the appellant, Vernon James Tilley. The first of these agreements was dated December 19, 1921. It recited that the appellant was "the inventor of a secret process for the manufacture of a product to be used by the company in connexion with their manufacturing business."
Under this agreement, the appellant who was already a director of the company, divulged to the then managing director his secret process, and the company contracted to pay to the appellant a royalty of one shilling on every pound weight of the new product manufactured under the secret process and used by the company. The next agreement was dated June 28, 1937. By that time the appellant had become managing director and as such was receiving a salary of 2000l. per annum. The agreement cancelled the arrangement of 1921 for the payment of the royalty and in consideration of this provided that the appellant's salary as managing director should be raised to 6000l. per annum, and that, in the event of the appellant
"ceasing from any cause whatsoever to be managing director of the company, the company agrees to pay to him as and from the date of cessation a pension of 4000l. per annum for ten years from the same date."
The agreement ended with a paragraph providing that
"the expression 'Mr. Tilley' includes, where the context so permits, his personal representatives."
The agreement dated April 6, 1938, recited the provisions made the year before for the salary and pension and then went on to record that the company had requested the appellant (1.) to release it from the prospective obligation to pay the pension, and (2.) to serve the company in future at a salary of 2000l. per annum. The agreement witnessed the appellant's acceptance of these requests, and in consideration of this the company agreed to pay to Mr. Tilley the sum of 40,000l. by two equal instalments, the first on April 6, 1938, and the second on April 6, 1939. Assessments having been made on the appellant under sch. E to the Income Tax Act, 1918, in respect of the two amounts of 20,000l., the Special Commissioners discharged the assessments on the ground that the payment of 40,000l. was not made to the appellant "as remuneration for services rendered or to be rendered by him in his office as managing director of the company." On appeal, by case stated, Lawrence J. reversed this decision, holding
- (1.)
- that, in so far as the payment was made in consideration of the appellant's agreement to serve at a reduced salary, it was income taxable under sch. E and
- (2.)
- that, as regarded the part of the sum payable in commutation of the pension, it was also taxable under sch. E on the ground that, as the pension could have been so taxable, a sum paid in commutation of it was also taxable.
The Court of Appeal having affirmed this decision, the appellant appealed to the House of Lords.
Needham K.C. and Donovan for the appellant. In such cases as this it is almost impossible to find a general principle. In each case one must look at the particular context. Here the sum of 40,000l. was paid, not for services rendered by the applicant in his office as managing director, but partly in consideration of the surrender by him of his right to a pension and partly in consideration of his surrender of the increase of salary granted by the agreement of 1937. It was not a profit of his employment, and the case does not come within sch. E. [F1] The release made by the appellant was really a sale back to the company. Just as he could have assigned part of his salary to another person, so when, under the agreement of 1938, he released part of his salary he was in effect selling it back to the company.
The company was thereby released from a contingent liability, since the duration of the obligation to pay him the increased salary could not be known; and a sum of money paid to obtain a release from a contingent liability under a contract of employment is not remuneration for services rendered under the contract. If a servant is employed at 4l. a week and his master wishes to continue to employ him at 2l. a week, giving him 100l. for renouncing the other 2l. a week, that is not a profit from an employment: see Dewhurst v. Hunter. [F2] The emphasis in the agreement of 1938 is not on the service, but on the reduction of the salary: Cameron v. Prendergast [F3] is not applicable here. In any event, the sum attributable to the commutation of the pension is not taxable under sch. E, for a pension is only assessed after the office has come to an end: see s. 17 of the Finance Act, 1932, relating to tax in respect of voluntary pensions which begins:
"Where a person has ceased to hold any office ....": Stedeford v. Beloe. [F4]
The sum received in commutation of the pension is compensation for a source of income. It is really proceeds of the sale of property, and, therefore, capital: Duff v. Barlow, [F5] Dewhurst v. Hunter. [F6] Assuming that tax is due in respect of the amount attributable to reduction of salary but not that attributable to the commutation, an apportionment would present no difficulty and that matter should be referred back to the Special Commissioners for determination.
[They referred to Inland Revenue Commissioners v. Paget; [F7] Foley v. Fletcher; [F8] Inland Revenue Commissioners v. William Ransom & Sons, Ld.; [F9] Inland Revenue Commissioners v. Maxse; [F10] and Harrison v. John Cronk & Sons, Ld. [F11] ]
Sir Donald Somervell A.-G. and R. P. Hills for the respondent. The whole sum of 40,000l. was paid to the appellant as managing director and was a profit arising from that office chargeable to income tax under sch. E of the Income Tax Act, 1918, as falling within the words "all salaries, fees, wages, perquisites, or profits whatsoever" in r. 1. Sums paid by a company to a director while he is holding his office are prima facie either for past, present or future services as a director. It matters not whether the payment takes the form of a large sum in advance to cover a period of years, or a number of sums spread uniformly over the period, or a large sum at the end of the period: Cameron v. Prendergast, [F12] Allen v. Trehearne. [F13]
Prima facie, it cannot make any difference that at any given moment of time the remuneration which a director is receiving is paid under an agreement in substitution for remuneration payable under an earlier agreement. For example, if he was entitled to 5l. a week payable weekly and it was agreed that he should receive in substitution for that 200l. a year payable in advance, it could not be suggested that this sum was not taxable under sch. E. The sale by an annuitant of his annuity for a lump sum provides no analogy, for there is in that case no question of remuneration. Where a man is and continues in an office what he receives by way of commutation is still payment for his services, and as such is taxable under sch. E. The conception of a capital sum cannot enter into the matter. If a sum is received as a personal gift and not as personal income from an employment, it is not chargeable to tax: Seymour v. Reed, [F14] the case of the cricketer's benefit, but a limited company cannot make gifts. As regards the pension which was commuted, that was in this case merely deferred remuneration.
Accordingly, the sum received in respect of commutation is also remuneration and taxable under sch. E. The effect of the commutation was to bring back the deferred remuneration within the period of the tenure of the office. It matters not whether it be by lump sum or otherwise. Accordingly, the release of the company from the obligation to pay the pension did not affect the result that the sum of 40,000l. when paid to the appellant was a profit arising from his office. Dewhurst v. Hunter [F15] does not apply to this case. The 40,000l. was an entire, and not a severable, consideration, but, if the House takes the view that tax is due under one head and not under the other, the Crown is content that it should be treated as apportionable. [They referred to Weight v. Salmon, [F16] Cowan v. Seymour, [F17] and Mudd v. Collins. [F18] ]
Needham K.C. replied.
The House took time for consideration.
Feb. 11 Viscount Simon L.C. -
My Lords, the question in this case is whether two sums of 20,000l. each which were paid to the appellant by a company named Stevenson & Howell, Ld., carrying on the business of manufacturing chemists, of which he was managing director, fall to be assessed for income tax under sch. E. as being profits from his employment as such director. The circumstances in which this question arises are very special.
As long as matters stood on the basis of the agreement of 1937 there can be no doubt that the appellant's salary of 6000l. per annum was subject to income tax under sch. E and that, when his service as managing director ceased, the pension of 4000l. per annum was equally liable to tax under the second limb of that schedule. The agreement of 1937 ended with a paragraph providing that "the expression 'Mr. Tilley' includes, where the context so permits, his personal representatives."
As the Court of Appeal has pointed out, this makes the construction of the agreement, so far as it provides for "pension," somewhat difficult, and, in view of the nature of the conclusion at which I would invite the House to arrive, it is desirable to indicate whether under the agreement the pension would in any case cease with the appellant's death or whether it would be payable, in the event of his death, to his personal representatives until the period of ten years had elapsed. I think the second of these constructions is the correct one. It is evident that the 40,000l. on which the Crown seeks to levy income tax is paid in part as the price of compounding the pension, and in part in consideration of the reduction of the appellant's annual salary from 6000l. to 2000l.
I will postpone the consideration of any difficulty which might arise from the fact that the total of 40,000l. is stated as a single sum and is not divided by the terms of the agreement into two parts allocated respectively to the compounding of the pension and the reduction of salary, and will first consider how far sch. E would be applicable if the two matters were dealt with separately, Xl. being stated in the agreement as representing the value of the pension rights, and Yl. as being paid in return for the reduction of salary, so that the two sums added together, Xl. plus Yl., amounted to the total of 40,000l.
If it is legitimate to separate out the consideration in this way, it appears to me that there are two decisions of your Lordships' House which guide us to the conclusion at which we must arrive, one in connexion with the pension problem and the other in connexion with the payment in respect of the reduction of salary.
As regards the commutation of pension, I cannot agree with Lawrence J.'s view that, as the pension would have been assessable under sch. E, therefore a sum payable in commutation of it would also be assessable under the same schedule. I think that the Master of the Rolls is right when he says that the decision in Short Bros., Ld. v. Inland Revenue Commissioners, [F19] to which Lawrence J. referred in this connexion, does not support the learned judge's proposition, and neither can I accept the contention contained in the case for the respondent (but not, as I understood, persisted in by the Attorney-General) that the pension under the agreement of 1937 was deferred remuneration and that the acceptance by the appellant during his service of a sum in commutation of the pension amounted to the acceptance of a present remuneration instead.
Neither the pension nor the sum paid to commute it constituted, in my opinion, profit from the office. If pension was paid after ceasing to hold the office, it would have been assessable under the head of "pension" in sch. E and r. 1 of the rules applicable to that schedule. I agree with the unanimous view of the members of the Court of Appeal that a pension is in itself a taxable subject-matter distinct from the profit of an office, and, if an individual agrees to exchange his right to a pension for a lump sum, that sum is not taxable under sch. E. This conclusion is in accordance with the views of the majority of the Law Lords when this House decided Dewhurst v. Hunter. [F20]
There an article of association of the company which had employed Commander Dewhurst provided that when a director died or resigned or ceased to hold his office for a cause not reflecting upon his conduct or competence, the company should pay to him or his representatives "by way of compensation for the loss of office" a sum equal to the total amount of his remuneration in the preceding five years. Commander Dewhurst subsequently agreed with the company, at a time when he was ceasing to be chairman but was remaining a director, that in lieu of his rights under this article he should be paid 10,000l., while his remuneration as director was at the same time reduced to 250l. per annum.
Lord Warrington, Lord Atkin and Lord Thankerton held that the 10,000l. was not a profit from his employment as director and did not represent salary, but was a sum of money paid down by the company to obtain a release from a contingent liability as distinguished from being remuneration under the contract of employment. Lord Thankerton emphasized the further point that the payment was not in the nature of income at all. It is true that the decision in Dewhurst's case [F20] was regarded and described as arising in very special circumstances, but I think the ratio decidendi is as I have described. Moreover, apart from previous authority, I should myself take the view that a lump sum paid to commute a pension is in the nature of a capital payment which is substituted for a series of recurrent and periodic sums which partake of the nature of income.
But can the same view be taken of an arrangement made between an employer and his servant under which, instead of the whole or part of a periodic salary, a single amount is paid and received in respect of the employment? Generally speaking, I think not. An "office or employment of profit" - to use the actual phrase in sch. E - necessarily involves service over a period of time during which the office is held or the employment continues.
The ordinary way of remunerating the holder or the person employed is to make payments to him periodically, but I cannot think that such payments can escape the quality of income which is necessary to attract income tax because an arrangement is made to reduce for the future the annual payments while paying a lump sum down to represent the difference. My view seems to me to be supported by the decision of this House in Cameron v. Prendergast. [F21] In that case the respondent was a director of a company and was minded to resign his position and so obtain greater ease. His fellow directors, in the interests of the company's success, urged him not to do so, and an agreement was made between the company and himself under which his salary was reduced from 1500l. to 400l. per annum, but he also received 45,000l.
This House decided that the 45,000l. was a profit from the respondent's directorship and was therefore assessable under sch. E. I am not myself prepared to go so far as to say, as was said by the Master of the Rolls and Goddard L.J. in the present case, that remuneration for service can never be capital in the sense which would put it outside income tax. It is worth pointing out that the word "remuneration" does not occur in sch. E at all and it is safer to use the words of the statute. I prefer to limit myself to the case now under consideration, and to say that, whatever part of the 40,000l. should be regarded as the equivalent of a drop in salary amounting to 4000l. a year, is within the charge on profits from the office of director.
There remains the question, which might otherwise have raised some difficulty, whether, when capitalization of pension is not taxable and a sum paid in compromise of a reduction in salary is taxable, the 40,000l. which is agreed between the parties to be the value of the two things together can be split up. We are relieved in the present case from deciding the point, for the Attorney-General agreed that the two sums of 20,000l. each should be treated as apportionable if the House took the view that tax was due under one head but not under the other. Accordingly, I move that these two assessments should be referred back to the Commissioners that they may determine, according to the best of their judgment, what would be a reasonable apportionment. So much of the two sums as should be taken as paid in substitution for the reduction of salary should be assessed, in the appropriate years, for tax under sch. E. The balance of the two sums which should be regarded as representing the purchase price of the annuity should escape taxation. I move accordingly. The appellant should have his costs of the appeal to this House, and there should be no costs in the Court of Appeal on either side.