EIS and subsidiaries

On 23 February 2018 the First Tier Tribunal (“FTT”) handed down a decision in the case of Hunters Property Plc v The Commissioners for Her Majesty’s Revenue & Customs [2018] UKFTT 96 (TC).  The case concerned the company’s status as a qualifying company for the purposes of the rules on EIS.

The key issue in the case was whether one of the company’s subsidiaries, which was a company limited by guarantee, constituted a qualifying company for the purposes of the rules on EIS.

The term “subsidiary” is not defined in the EIS legislation (in the EMI code there is a definition of subsidiary, which is set out in paragraph 10(2) of Schedule 5 and which describes a subsidiary as any company that is under the control of another company).  The Tribunal was therefore obliged to look to the definitions in Section 1159 of the Companies Act 2006, which defines the relationship between a subsidiary and a parent company in terms of control.  On this basis, the company under question, the company limited by guarantee, constitutes a subsidiary for the purposes of the EIS legislation.

The term “qualifying subsidiary” is defined in ITA 2007, S.191 as being a company that is a 51% subsidiary of the parent company.  The term “a 51% subsidiary” is defined in CTA 2010, S.1154 by reference to the percentage of the ordinary share capital held by the parent company.

The issue that this causes to arise is that a company limited by guarantee cannot have share capital, meaning that, by definition, a company limited by guarantee cannot be a 51% subsidiary.

Hunters Property Plc’s argument was that a purposive interpretation, which would have allowed the Tribunal to treat a company limited by guarantee as falling outside the restrictions on EIS, should be followed.

The Tribunal referred to the decision in Flix Innovations Limited v Commissioners for H M Revenue & Customs [2016] UKUT 0301 (TCC).  In Flix it was held that the rules in Part 5 ITA 2007 were detailed and highly prescriptive and that the scope for a purposive interpretation of the legislation was limited.

On the basis of Flix, there is no such flexibility of interpretation where the wording of the legislation is as comprehensive as that in the EIS rules.  For these reasons, the Tribunal held that Hunters Property Plc could not be an EIS qualifying company.

This case has obvious implications for companies seeking EIS status, but has a knock-on effect also for companies wishing to grant EMI options, as the rules are exceedingly similar, particularly the requirement that subsidiaries should be qualifying subsidiaries and that qualifying subsidiaries must be 51% subsidiaries.

It may be that this decision will be reversed in the higher courts, as the mischief of the legislation is intended to prevent “leakage” of assets from EIS companies, and it is very difficult to see how any such leakage could come about from a company limited by guarantee.  However, the Flix case and this case both demonstrate the limits on any kind of purposive interpretation of the law in EIS cases because the legislation is so tightly written.

For further information on EIS or subsidiaries please contact the TaxDesk on 0845 4900 509 and ask for Paul Howard.