In McLaren Racing Limited v HMRC (UKUT 0269 (TCC), published on 3 July 2014), the Upper Tribunal (UT) held that the penalty paid by McLaren for breaching the rules of the FIA International Sporting Code was not tax deductible – overturning the earlier FTT decision.
The facts and original decision were outlined in our newsletter article in October 2012. In essence, the penalty, which consisted of a loss of championship points and £32m, arose from actions taken by the chief designer at McLaren who obtained confidential information about the design and performance of a rival Formula One team’s car (Ferrari).
McLaren claimed a deduction for the penalty on the basis it had been incurred in the course of its trade of designing and racing Formula One cars, albeit via the unauthorised actions of one of its employees.
HMRC argued that the illicit gathering of information was not part of McLaren’s trade. In their view the expenditure did not meet the wholly and exclusively test (CTA 2009, s54(1)(a)) and the loss to McLaren did not arise out of its trade or profession (s53(1)(b)). The main reason behind the penalty was to protect the motorsport and the wider public interest.
In a split decision in which Judge Hellier’s decision took precedence, the FTT held that the penalty was not imposed by an internal regulator as a personal punishment, but by a body with whose rules McLaren had to comply as part of its trade and in order to gain income. It considered that the activities which gave rise to the penalty although not a normal or ordinary part of McLaren’s trade were nevertheless part of the profit making activity, which was not limited to acting within the rules and could include “cheating”. Hellier dismissed the public interest argument expressing the opinion that for the penalty to be non-deductible there must be a serious public interest link. In his view the issue did not affect the well-being of the general public and the FIA did not carry sufficient weight as a regulator of a profession based on trust. On that basis, the penalty had been incurred wholly and exclusively for the purposes of the trade and was deductible.
The question before the UT was whether the payment had been wholly and exclusively for the purposes of McLaren’s trade.
The UT disagreed with the earlier FTT decision. In relation to the activities themselves, Counsel for McLaren argued that these were an occupational hazard just as newspaper employees might libel individuals. The UT did not accept this line of argument. Their view was that wrongfully obtaining and using confidential information belonging to a rival team as accepted by McLaren was not a normal or ordinary activity in the course of its trade and does not become such an activity simply because it is carried out by an employee. Deductibility of the penalty cannot therefore be justified as an expense of carrying out an activity in the course of the trade.
The UT did not accept Hellier’s view that non-deductibility of the penalty depended on whether there was a serious public interest concern. The fact that the loss of championship points plus paying the penalty outstripped any sporting advantage supported the UT view that the penalty was aimed at punishing McLaren and that the FIA were acting in the best interests of the sport and the public who were engaged within it. For that reason they took the view that the penalty was neither money wholly and exclusively laid out for the purposes of the trade nor a loss connected with or arising out of the trade.
The case emphasises the importance of establishing that costs were incurred wholly and exclusively for the trade. Where there is a dual purpose this will always be difficult. The other conclusion which can be drawn from the case is that unless there is a public policy reason why the taxpayer should not be allowed to deduct the penalty, such penalties – which derive from an unavoidable incident of carrying on business – may be deducted although what constitutes a public policy reason remains a grey area.